Annual Financial Report - 44 of 54

RNS Number : 0568I

HSBC Holdings PLC

20 March 2015

 



The following statement, which should be read in conjunction with the Auditor's statement of their responsibilities set out in their report on pages 329 to 333, is made with a view to distinguishing for shareholders the respective responsibilities of the Directors and of the Auditor in relation to the financial statements. The Directors are responsible for preparing the Annual Report and Accounts 2014 comprising the consolidated financial statements of HSBC Holdings and its subsidiaries (the 'Group') and holding company financial statements for HSBC Holdings (the 'parent company') in accordance with applicable laws and regulations. Each person who is a Director at the date of approval of this report has confirmed that, so far as he or she is aware, there is no relevant audit information of which the auditor is unaware and the Director has taken all the steps that he or she ought to have taken as a Director in order to make himself or herself aware of any relevant audit information and to establish that the auditor is aware of that information. This confirmation was given pursuant to section 418 of the Companies Act 2006 and should be interpreted in accordance with and subject to those provisions.

Company law requires the Directors to prepare Group and parent company financial statements for each financial year. The Directors are required to prepare the Group financial statements in accordance with IFRSs as endorsed by the EU and have elected to prepare the parent company financial statements on the same basis.

The Group and parent company financial statements are required by law and IFRSs as endorsed by the EU to present fairly the financial position, the performance for that period and for IFRSs purposes the cash flows of the Group and the parent company. The Companies Act 2006 provides in relation to such financial statements that references in the relevant part of that Act to financial statements giving a true and fair view are references to their achieving a fair presentation. In addition, in order to meet certain US requirements, HSBC is required to present its financial statements in accordance with IFRSs as issued by the International Accounting Standards Board ('IASB'). Currently, there are no differences in application to HSBC between IFRSs endorsed by the EU and IFRSs issued by the IASB.

In preparing each of the Group and parent company financial statements, the Directors are required to:

·   select suitable accounting policies and then apply them consistently;

·   make judgements and estimates that are reasonable and prudent;

·   state whether they have been prepared in accordance with IFRSs as endorsed by the EU; and

·   prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Group and the parent company will continue in business. Since the Directors are satisfied that the Group and parent company have the resources to continue in business for the foreseeable future, the financial statements continue to be prepared on the going concern basis.

The Directors are responsible for keeping adequate accounting records that are sufficient to show and explain the parent company's transactions and disclose with reasonable accuracy at any time the financial position of the parent company and enable them to ensure that its financial statements comply with the Companies Act 2006. The Directors have general responsibility for taking such steps as are reasonably open to them to safeguard the assets of the Group and to prevent and detect fraud and other irregularities.

The Directors are responsible for preparing, in accordance with applicable laws and regulations, a Strategic Report, a Directors' Report, Directors' Remuneration Report and the Corporate Governance Report on pages 1 to 327 of this Annual Report and Accounts 2014 and for the maintenance and integrity of the Annual Report and Accounts 2014 as they appear on the Company's website. UK legislation governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

Each of the Directors, the names of whom are set out in the 'Report of the Directors: Corporate Governance' section on pages 264 to 268 of the Annual Report and Accounts 2014, confirm that:

·   to the best of their knowledge, the consolidated financial statements, which have been prepared in accordance with IFRSs as issued by the IASB and as endorsed by the EU, have been prepared in accordance with the applicable set of accounting standards and give a true and fair view of the assets, liabilities, financial position and profit or loss of the parent company and the undertakings included in the consolidation taken as a whole;

·   to the best of their knowledge, the management report represented by the Report of the Directors includes a fair review of the development and performance of the business and the position of the parent company and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties that they face; and

·   they consider that the Annual Report and Accounts 2014, taken as a whole, is fair, balanced and understandable and provides the information necessary for shareholders to assess the parent company's performance, business model and strategy.

On behalf of the Board

D J Flint, Group Chairman

23 February 2015

Opinions and conclusions arising from our audit

Our opinion on the financial statements is unmodified

We have audited the financial statements of HSBC Holdings plc for the year ended 31 December 2014 set out on pages 335 to 457. In our opinion: 

·   the financial statements give a true and fair view of the state of the Group's and of the parent company's affairs as at 31 December 2014 and of the Group's profit for the year then ended; 

·   the Group financial statements have been properly prepared in accordance with International Financial Reporting Standards as adopted by the European Union ('IFRSs as adopted by the EU'); 

·   the parent company financial statements have been properly prepared in accordance with IFRSs as adopted by the EU and as applied in accordance with the provisions of the Companies Act 2006; and 

·   the financial statements have been prepared in accordance with the requirements of the Companies Act 2006 and, as regards the Group financial statements, Article 4 of the IAS Regulation. 

Our assessment of risks of material misstatement

In arriving at our audit opinion above, our strategy was to increase our audit procedures in areas where we identified a higher risk of material misstatement of the financial statements.

To conduct our risk assessment, we considered the inherent risks facing the Group and the parent company, including those arising from the respective business models, and how the Group controls those risks. In doing so, we considered a number of factors including: the Group's ability to continue as a going concern; the risk of fraud; the design and implementation of the Group's control environment; and the risk of management override of key controls. 

We revisited our risk assessment after testing the operating effectiveness of a number of the Group's key controls including internal controls over financial reporting and specific anti-fraud controls as well as testing the basis of the going concern assumption. We also considered the inherent need for the directors to make and appropriately disclose judgements when preparing the financial statements.

As a result of this assessment, the risks of material misstatement that had the greatest effect on our audit were areas where significant judgement was required and were as follows:

The risk		Our response
Impairment of loans and advances Refer to the critical accounting estimates and judgements in Note 1(k) on the Financial Statements, the Group Audit Committee Report on pages 277 to 279 and the disclosures of credit risk within the audited elements of the Risk sections of the Financial Review on pages 111 to 237.
The impairment of loans and advances is estimated by the directors through the application of judgement and use of highly subjective assumptions. Due to the significance of loans and advances (representing 41% of total assets) and the related estimation uncertainty, this is considered a key audit risk. The portfolios which give rise to the greatest uncertainty are typically those where impairments are derived from collective models, are unsecured or are subject to potential collateral shortfalls. In 2014, we continued to pay particular attention to collective impairment methodologies, focusing specifically on US mortgages, the commercial and global banking portfolios, and Brazilian personal and business loans, either due to their relative size or the potential impact of changing inputs and assumptions. We also focused on portfolios that were potentially more sensitive to developing and emerging global economic trends. In addition, we also focused on individually significant exposures that either continued to be, have become, or were at risk of being individually impaired.		Our audit procedures included the assessment of controls over the approval, recording and monitoring of loans and advances, and evaluating the methodologies, inputs and assumptions used by the Group in calculating collectively assessed impairments, and assessing the adequacy of impairment allowances for individually assessed loans and advances. We compared the Group's assumptions for both collective and individual impairment allowances to externally available industry, financial and economic data and our own assessments in relation to key inputs. As part of this, we critically assessed the Group's revisions to estimates and assumptions, specifically in respect of the inputs to the impairment models in the commercial and global banking portfolios and the consistency of judgement applied in the use of economic factors, loss emergence periods and the observation period for historical default rates. For a sample of exposures that were subject to an individual impairment assessment, and focusing on those with the most significant potential impact on the financial statements, we specifically challenged the Group's assumptions on the expected future cash flows, including the value of realisable collateral based on our own understanding and available market information. We also assessed whether the financial statement disclosures appropriately reflect the Group's exposure to credit risk, specifically considering those portfolios identified in 2014 as presenting the greatest risk.
The risk	Our response
Litigation, regulatory actions and customer remediation Refer to the critical accounting estimates and judgements, and disclosures of provisions and contingent liabilities in Notes 29, 37 and 40 on the Financial Statements and the Group Audit Committee Report on pages 277 to 279.
The recognition and measurement of provisions and the measurement and disclosure of contingent liabilities in respect of litigation, regulatory actions and customer remediation (together 'legal and regulatory matters') require significant judgement. Due to the significance of these matters and the difficulty in assessing and measuring the quantum from any resulting obligations, this is considered a key audit risk. In 2014, we paid particular attention to significant matters that experienced notable developments or that emerged during the period. The areas of greatest focus were customer redress programmes and foreign exchange matters in the UK, and other tax and regulatory matters in France, the US and Switzerland.	Our audit procedures included the assessment of controls over the identification, evaluation and measurement of potential obligations arising from legal and regulatory matters.  For matters identified, we considered whether an obligation exists, the appropriateness of provisioning and/or disclosure based on the facts and circumstances available. In order to assess the facts and circumstances, we obtained and assessed the relevant regulatory and litigation documents and also interviewed the Group's internal and external legal counsel. We also critically assessed the assumptions made and key judgements applied and considered possible alternative outcomes based on our own experience and knowledge of market information. Additionally we considered whether the Group's disclosures of the application of judgement in estimating provisions and contingent liabilities adequately reflected the uncertainties associated with legal and regulatory matters.
The risk	Our response
Valuation of financial instruments Refer to the critical accounting estimates and judgements and disclosures of fair values in Notes 12 to 16, 18, 24 and 25 on the Financial Statements, the Group Audit Committee Report on pages 277 to 279 and the disclosures of market risk within the audited elements of the Risk sections of the Financial Review on pages 111 to 237.
The fair value of financial instruments is determined through the application of valuation techniques which often involve the exercise of judgement by the directors and the use of assumptions and estimates. Due to the significance of financial instruments and the related estimation uncertainty, this is considered a key audit risk. At 31 December 2014, financial assets carried at fair value represented 40% of total assets and financial liabilities carried at fair value represented 25% of total liabilities. Estimation uncertainty is particularly high for those instruments where significant valuation inputs are unobservable (i.e. Level 3 instruments). At 31 December 2014, Level 3 instruments represented 1.4% of financial assets carried at fair value and 1.3% of financial liabilities carried at fair value. In 2014, we have continued to focus on developments in derivative fair value methodologies and specifically on the Group's adoption of a funding fair value adjustment for the measurement of uncollateralised derivatives.	Our audit procedures included the assessment of controls over the identification, measurement and management of valuation risk, and evaluating the methodologies, inputs and assumptions used by the Group in determining fair values. For the Group's fair value models, we assessed the appropriateness of the models and inputs. We compared observable inputs against independent sources and externally available market data. For a sample of instruments with significant unobservable valuation inputs, and with the assistance of our own valuation specialists, we critically assessed the assumptions and models used or re-performed an independent valuation assessment, by reference to what we considered to be available alternative methods and sensitivities to key factors. We also evaluated the methodology and inputs used by the Group in determining its funding fair value adjustment recorded on the uncollateralised derivatives portfolio and compared that against current market practice based on our experience of comparable institutions. Additionally, we assessed whether the financial statement disclosures of fair value risks and sensitivities appropriately reflect the Group's exposure to valuation risk.

The risk	Our response
Deferred tax assets Refer to the critical accounting estimates and judgements and disclosures of deferred taxation in Note 8 on the Financial Statements and the Group Audit Committee Report on pages 277 to 279.
The recognition of deferred tax assets relies on the significant application of judgement by the directors in respect of assessing the probability and sufficiency of future taxable profits, future reversals of existing taxable temporary differences and ongoing tax planning strategies. Due to the size of the Group's recognised deferred tax assets (US$7.4bn) and the associated uncertainty surrounding recoverability, this is considered a key audit risk. In 2014, we have continued to focus on the most significant deferred tax assets which arise in the US, Brazil and Mexico. We paid particular attention to the tax planning strategy in the US, which continues to rely on the capital support of the parent company, and to management's forecasts of future profitability in Brazil that support the deferred tax asset.	Our audit procedures included the assessment of controls over the recognition and measurement of deferred tax assets and the assessment of assumptions used in projecting the Group's future taxable profits in relevant jurisdictions. We also challenged the Group's assumptions and commitment to continue to invest sufficient capital in the US by evaluating the expected tax planning strategies that will be employed and the availability of capital that collectively support the realisation of the recognised deferred tax assets. We compared key inputs used by the Group to forecast future profits to externally available data such as economic forecasts and the Group's own historical data and performance and assessed the sensitivity of the outcomes to reasonably possible changes in assumptions. We also used our own tax specialists to critically assess the appropriateness of the future tax planning strategies. Additionally, we assessed whether the Group's disclosures of the application of judgement in estimating recognised and unrecognised deferred tax asset balances appropriately reflect the Group's deferred tax position.
The risk	Our response
Goodwill impairment Refer to the critical accounting estimates and judgements and disclosures of goodwill in Note 21 on the Financial Statements and the Group Audit Committee Report on pages 277 to 279.
Goodwill impairment testing of cash generating units ('CGUs') relies on estimates of value-in-use based on estimated future cash flows. Due to the uncertainty of forecasting and discounting future cash flows and the significance of the Group's recognised goodwill (US$19.2bn), this is deemed a significant risk. Uncertainty is typically highest for those CGUs where headroom between value-in-use and carrying value is limited and where the value-in-use is most sensitive to estimates of future cash flows. In 2014, we focused on CGUs that were most sensitive and reliant on future cash flow projections and, as a result of recent historical performance, were expected to have reduced headroom, particularly GPB businesses in Europe.	Our audit procedures included the assessment of controls over the Group's process for the recognition and measurement of goodwill impairment, including the assumptions used. We also tested the key assumptions forming the Group's value-in-use calculation, including the cash flow projections and discount rates. We assessed the reasonableness of cash flow projections and compared key inputs, such as the discount rates and growth rates, to externally available industry, economic and financial data and the Group's own historical data and performance. With the assistance of our own specialists, we critically assessed the assumptions and methodologies used to forecast value-in-use for those CGUs where significant goodwill was found to be sensitive to changes in those assumptions. On an overall basis, we also evaluated the aggregate values-in-use determined by the Group to its external market capitalisation. Additionally we considered whether the Group's disclosures of the application of judgement in estimating CGU cash flows and the sensitivity of the results of those estimates adequately reflect the risks associated with goodwill impairment.

The risk	Our response
Interests in associates Refer to the critical accounting estimates and judgements and disclosures of interests in associates in Note 20 on the Financial Statements and the Group Audit Committee Report on pages 277 to 279.
The majority of HSBC's interests in associates relate to its 19.03% interest in Bank of Communications Co., Limited ('BoCom'), which is listed on the Hong Kong and Shanghai stock exchanges. Under the equity method of accounting for associates, these interests are initially stated at cost, and are adjusted thereafter for the post-acquisition change in HSBC's share of the net assets of the associate less any impairment provisions. BoCom's market value has been below its carrying amount for a sustained period, and therefore its current carrying amount (US$14.6bn) continues to rely on the Group's significant judgement in determining BoCom's recoverable amount based on its value-in-use. The projected future cash flows and discount rates used by the Group in determining BoCom's value-in-use are subject to estimation uncertainty and sensitivity. Therefore, we consider this a key audit risk.		Our audit procedures included the assessment of the Group's methodology and calculation of BoCom's value-in-use. We evaluated the reasonableness of cash flow projections against BoCom's most recent financial performance and considered the appropriateness of key inputs such as long-term growth rates used to extrapolate these cash flows, the discount rate, the risk-weighted assets to total assets ratio and the loan impairment charge to gross loans ratio and compared these to available industry, economic and financial data, and to consensus market forecasts. We met with BoCom's management to understand current business performance and expectations and whether they were properly reflected in the Group's own assumptions. We also compared the results of the value-in-use calculations to market available price/earnings multiples for BoCom and other listed banks in mainland China and assessed the Group's analysis of the difference between the market value and the value-in-use of its interest in BoCom. This assessment included consideration of the valuation methodologies and assumptions used by other market participants. Additionally, we considered whether the Group's disclosures of the application of judgement in estimating the recoverable amount and the sensitivity of the results of those estimates adequately reflect the risks associated with impairment of interests in associates.

Our application of materiality and an overview of the scope of our audit

The materiality for the Group financial statements as a whole was set at US$930m, determined with reference to a benchmark of Group profit before tax, normalised to exclude fair value movements on long-term debt attributable to credit spread ('own credit spread'), which we believe to be one of the principal considerations for members of the company in assessing financial performance. Materiality represents 5.0% of Group profit before tax and 5.1% after adjustment to exclude own credit spread.

We report to the Group Audit Committee any corrected or uncorrected identified misstatements exceeding US$45m, in addition to other identified misstatements that warranted reporting on qualitative grounds.

Our approach to scoping components was: for some regions, we instructed the regional audit team to conduct and report to us on a full scope regional audit and specified certain components within those regions that should be subject to a full scope audit overseen by the relevant regional audit team; within other regions, we directly instructed component audit teams to conduct and report to us full scope audits. Accordingly, we instructed or specified full scope audits at 23 components across all five regions as follows:

·   Europe (7 components)

·   Asia (8 components)

·   Middle East and North Africa (1 component)

·   North America (4 components)

·   Latin America (3 components)

These audits covered 82% of total Group operating income; 78% of total profits and losses that made up Group profit before tax; and 88% of total Group assets. The segment disclosures in Note 11 set out the individual significance of each region.

We approved materiality for those full scope audits that we directly instructed, ranging from US$50m to US$750m having regard to the mix of size and risk profile of the Group across the components.

The Group audit team visited locations in Europe, Asia, North America and Latin America and teams from components in each region attended a Group audit planning meeting. The Group audit team also held regular telephone meetings with the regional audit teams and other component auditors. In addition, regional audit teams visited locations of key componentswithin their regions.

Our separate opinion in relation to IFRSs as issued by the International Accounting Standards Board is unmodified

As explained in Note 1(a) on the Group financial statements, in addition to complying with its legal obligation to apply IFRSs as adopted by the EU, the Group has also applied IFRSs as issued by the IASB.

In our opinion, the Group financial statements comply with IFRSs as issued by the IASB.

Our opinion on other matters prescribed by the Companies Act 2006 is unmodified

In our opinion:

·   the part of the Directors' Remuneration Report to be audited has been properly prepared in accordance with the Companies Act 2006; and

·   the information given in the Strategic Report and Directors' Report for the financial year for which the financial statements are prepared is consistent with the financial statements.

We have nothing to report in respect of matters on which we are required to report by exception

Under International Standards on Auditing (UK and Ireland) we are required to report to you if, based on the knowledge we acquired during our audit, we have identified other information in the annual report that contains a material inconsistency with either that knowledge or the financial statements, a material misstatement of fact, or that is otherwise misleading.

In particular, we are required to report to you if:

·   we have identified material inconsistencies between the knowledge we acquired during our audit and the directors' statement that they consider that the annual report and financial statements taken as a whole is fair, balanced and understandable and provides the information necessary for shareholders to assess the Group's performance, business model and strategy; or

·   the Corporate Governance section of the Annual Report and Accounts describing the work of the Group Audit Committee does not appropriately address matters communicated by us to the Group Audit Committee.

Under the Companies Act 2006 we are required to report to you if, in our opinion:

·   adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or

·   the parent company financial statements and the part of the Directors' Remuneration Report to be audited are not in agreement with the accounting records and returns; or

·   certain disclosures of directors' remuneration specified by law are not made; or

·   we have not received all the information and explanations we require for our audit.

Under the Listing Rules we are required to review:

·   the Directors' statement, set out on pages 290 and 291, in relation to going concern; and

·   the part of the Corporate Governance Statement relating to the company's compliance with the ten provisions of the 2012 UK Corporate Governance Code specified for our review.

We have nothing to report in respect of the above responsibilities.

Scope of report and responsibilities

As explained more fully in the Directors' Responsibilities Statement set out on page 328, the Directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view.

A description of the scope of an audit of financial statements is provided on the Financial Reporting Council's website at http://www.frc.org.uk/auditscopeukprivate.

This report is made solely to the company's members, as a body and is subject to important explanations and disclaimers regarding our responsibilities, published on our website at http://www.kpmg.com/uk/auditscopeukco2014b, which are incorporated into this report as if set out in full and should be read to provide an understanding of the purpose of this report, the work we have undertaken and the basis of our opinions.

 

Guy Bainbridge (Senior Statutory Auditor)

for and on behalf of KPMG Audit Plc, Statutory Auditor

Chartered Accountants

15 Canada Square

London E14 5GL                                                                                                                                            23 February 2015

Financial Statements
Consolidated income statement		335
Consolidated statement of comprehensive income		336
Consolidated balance sheet		337
Consolidated statement of cash flows		338
Consolidated statement of changes in equity		339
HSBC Holdings balance sheet		341
HSBC Holdings statement of cash flows		342
HSBC Holdings statement of changes in equity		343
Notes on the Financial Statements
1	Basis of preparation	345
2	Net income/(expense) from financial instruments designated at fair value	354
3	Net insurance premium income	354
4	Net insurance claims and benefits paid and movement in liabilities to policyholders	355
5	Operating profit	356
6	Employee compensation and benefits	356
7	Auditors' remuneration	364
8	Tax	365
9	Dividends	370
10	Earnings per share	371
11	Segmental analysis	371
12	Trading assets	377
13	Fair values of financial instruments carried at fair value	378
14	Fair values of financial instruments not carried at fair value	390
15	Financial assets designated at fair value	392
16	Derivatives	394

17	Non-trading reverse repurchase and repurchase agreements	398
18	Financial investments	399
19	Assets charged as security for liabilities, assets transferred and collateral accepted as security for assets	401
20	Interests in associates and joint ventures	403
21	Goodwill and intangible assets	407
22	Investments in subsidiaries	413
23	Prepayments, accrued income and other assets	416
24	Trading liabilities	417
25	Financial liabilities designated at fair value	417
26	Debt securities in issue	418
27	Accruals, deferred income and other liabilities	418
28	Liabilities under insurance contracts	419
29	Provisions	420
30	Subordinated liabilities	423
31	Maturity analysis of assets, liabilities and off-balance sheet commitments	426
32	Offsetting of financial assets and financial liabilities	434
33	Foreign exchange exposures	435
34	Non-controlling interests	436
35	Called up share capital and other equity instruments	437
36	Notes on the statement of cash flows	439
37	Contingent liabilities, contractual commitments and guarantees	441
38	Lease commitments	442
39	Structured entities	443
40	Legal proceedings and regulatory matters	446
41	Related party transactions	455
42	Events after the balance sheet date	457

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