HSBC FY05 REL2; Pt5/7

HSBC Holdings PLC
06 March 2006


From 1 January 2004 to 31 December 2004

Loans were designated as non-performing as soon as management had doubts as to
the ultimate collectibility of principal or interest or when contractual
payments of principal or interest were 90 days overdue. When a loan was
designated as non-performing, interest was suspended (see below) and a specific
provision raised if required.

However, the suspension of interest could be exceptionally deferred for up 
to 12 months in the following situations:

- where cash collateral was held covering the total of principal and interest
  due and a legal right of set-off existed; or

- where the value of net realisable tangible security was
  considered more than sufficient to cover the full repayment of all 
  principal and interest due and credit approval had been given to the 
  rolling-up or capitalisation of interest payments.

There were two basic types of provision, specific and general, each of which was
considered in terms of the charge and the amount outstanding.

Specific provisions

Specific provisions represented the quantification of actual and expected losses
from identified accounts and were deducted from loans and advances in the
balance sheet.

Other than where provisions on smaller balance homogenous loans were assessed on
a portfolio basis, the amount of specific provision raised was assessed on a
case by case basis. The amount of specific provision raised was the group's
conservative estimate of the amount needed to reduce the carrying value of the
asset to the expected ultimate net realisable value, and in reaching a decision
consideration was given, among other things, to the following factors:

- the financial standing of the customer, including a realistic assessment of
  the likelihood of repayment of the loan within an acceptable period and the
  extent of the group's other commitments to the same customer;

- the realisable value of any security for the loan;

- the costs associated with obtaining repayment and realisation of
  the security;

- if loans were not in the local currency, the ability of the
  borrower to obtain the relevant foreign currency; and

- the expected timeframe over which repayment would be made.

Where specific provisions were raised on a portfolio basis, the level of
provisioning took into account management's assessment of the portfolio's
structure, past and expected credit losses, business and economic conditions,
and any other relevant factors. The principal portfolios evaluated on this basis
were credit cards and other consumer lending products.

General provisions

General provisions augmented specific provisions and provided cover for loans
which were impaired at the balance sheet date but which would not be identified
as such until some time in the future. The group maintained a general provision
which was determined by taking into account the structure and risk
characteristics of the loan portfolio. Historical levels of latent risk were
regularly reviewed to determine that the level of general provisioning continued
to be appropriate. Where entities of the group operated in a significantly
higher risk environment, an increased level of general provisioning was applied
taking into account local market conditions and economic and political factors.
General provisions were deducted from loans and advances to customers in the
balance sheet.

Loans on which interest was being suspended

Provided that there was a realistic prospect of interest being paid at some
future date, interest on non-performing loans was charged to the customer's
account. However, the interest was not credited to the income statement but to
an interest suspense account in the balance sheet which was netted against the
relevant loan. On receipt of cash (other than from the realisation of security),
suspended interest was recovered and taken to the income statement. Amounts
received from the realisation of security were applied to the repayment of
outstanding indebtedness, with any surplus used to release any specific
provisions and then suspended interest.

Non-accrual loans

Where the probability of receiving interest payments was remote, interest was no
longer accrued and any suspended interest balance was written off.

Loans were not reclassified as accruing until interest and principal payments
were up-to-date and future payments were reasonably assured.

Loans and suspended interest were written off, either partially or in full, when
there was no prospect of recovery of these amounts.

Assets acquired in exchange for advances in order to achieve an orderly
realisation continued to be reported as advances. The asset acquired was
recorded at the carrying value of the advance disposed of at the date of the
exchange, and provisions were based on any subsequent deterioration in its
value.

e Trading assets and trading liabilities

From 1 January 2005

Treasury bills, debt securities, structured deposits, equity shares, own debt
issued and short positions in securities which have been acquired or incurred
principally for the purpose of selling or repurchasing in the near term, or 
are part of a portfolio of identified financial instruments that are managed 
together and for which there is evidence of a recent actual pattern of 
short-term profit-taking, are classified as held-for-trading. Such financial 
assets or financial liabilities are recognised initially at fair value, with 
transaction costs taken to the income statement, and are subsequently 
remeasured at fair value. All subsequent gains and losses from changes in the 
fair value of these assets and liabilities, together with related interest 
income and expense and dividends, are recognised in the income statement 
within 'Net trading income' as they arise. Financial assets and financial 
liabilities are recognised using trade date accounting.

From 1 January 2004 to 31 December 2004

Treasury bills, debt securities, equity shares and short positions in securities
held for dealing purposes were included in 'Cash and short-term funds', 'Trading
assets' or 'Trading liabilities' in the balance sheet at market value. Changes
in the clean market value of such assets and liabilities were recognised in the
income statement as 'Net trading income' as they arose. Related interest income
and expense and dividends were recognised in 'Net interest income' and 'Dividend
income' respectively.

f Financial instruments designated at fair value

From 1 January 2005

A financial instrument, other than one held for trading, is classified in this
category if it meets the criteria set out below, and is so designated by
management.

Financial assets and financial liabilities so designated are recognised
initially at fair value, with transaction costs taken directly to the income
statement, and are subsequently remeasured at fair value. This designation, once
made, is irrevocable in respect of the financial instruments to which it is
made. Financial assets and financial liabilities are recognised using trade date
accounting.

Gains and losses from changes in the fair value of such assets and liabilities
are recognised in the income statement as they arise, together with related
interest income and expense and dividends, within 'Net income from financial
instruments designated at fair value'.

Gains and losses arising from the changes in fair value of derivatives that are
managed in conjunction with financial assets or financial liabilities designated
at fair value are included in 'Net income from financial instruments designated
at fair value'.

Where issued debt has been designated at fair value, and there is a related
derivative, then the interest components of the debt and the derivative are
recognised in 'Interest expense'.

The group may designate financial instruments at fair value where the
designation:

- eliminates or significantly reduces a measurement or recognition
  inconsistency that would otherwise arise from measuring financial assets or
  financial liabilities or recognising the gains and losses on them on different
  bases; examples include unit-linked investment contracts, financial assets held
  to back certain insurance contracts, and certain portfolios of securities and
  debt issuances that are managed in conjunction with financial assets or
  liabilities measured on a fair value basis; or

- applies to a group of financial assets, financial liabilities, or both, that
  is managed and its performance evaluated on a fair value basis, in accordance
  with a documented risk management or investment strategy, and where information
  about that group of financial instruments is provided internally on that basis
  to key management personnel; examples include financial assets held to back
  certain insurance contracts and certain asset-backed securities; or

- relates to financial instruments containing one or more embedded
  derivatives that significantly modify the cash flows resulting from those
  financial instruments, and which would otherwise be accounted for separately;
  examples include certain debt issuances and debt securities held.

From 1 January 2004 to 31 December 2004

The category, 'Financial instruments designated at fair value' was introduced on
1 January 2005 in accordance with HKAS 39.

g Financial investments

From 1 January 2005

Available-for-sale securities

Treasury bills, debt securities and equity shares intended to be held on a
continuing basis are classified as available-for-sale securities unless they
have been designated at fair value (see Note (f) above) or they are classified
as held-to-maturity (see below). Available-for-sale securities are initially
measured at fair value (which is usually the same as the consideration paid)
plus direct and incremental transaction costs. They are subsequently remeasured
at fair value.

Changes in fair value are recognised in equity until the securities are either
sold or impaired. On the sale of available-for-sale securities, cumulative gains
or losses previously recognised in equity are recognised through the income
statement and classified as 'Gains less losses from financial investments'.

An assessment is made at each balance sheet date as to whether there is any
objective evidence of impairment, i.e. circumstances where an adverse impact on
estimated future cash flows of the financial asset or group of assets can be
reliably estimated.

If an available-for-sale security is determined to be impaired, the cumulative
loss (measured as the difference between the acquisition cost and the current
fair value, less any impairment loss on that financial asset previously
recognised in the income statement) is removed from equity and recognised in the
income statement. If, in a subsequent period, the fair value of a debt
instrument classified as available-for-sale increases and the increase can be
objectively related to an event occurring after the impairment loss was
recognised in the income statement, the impairment loss is reversed through the
income statement. Impairment losses on equity instruments previously recognised
in the income statement that are no longer required are reversed through
reserves, not through the income statement.

Held-to-maturity investments

Held-to-maturity investments are non-derivative financial assets with fixed or
determinable payments and fixed maturities that the group has the positive
intention and ability to hold until maturity. Held-to-maturity investments are
initially recorded at fair value plus any directly attributable transaction
costs, and are subsequently measured at amortised cost using the effective
interest rate method, less any impairment losses.

On 1 January 2005, the group has re-designated certain debt securities
previously described as 'Long-term held-to-maturity investments' as
'available-for-sale securities' following the implementation of HKAS 39.

Financial investments are recognised using trade date accounting.

From 1 January 2004 to 31 December 2004

Treasury bills, debt securities and equity shares were accounted for in
accordance with HK SSAP 24.

Treasury bills and debt securities intended to be held on a continuing basis
were classified as 'Financial investments' and included in the balance sheet at
cost, adjusted for amortisation of premium and discount on acquisition less
provision for permanent diminution in value. Any gain or loss on realisation of
these securities was recognised in the income statement as it arose and included
in 'Gains less losses from financial investments'.

Equity shares intended to be held on a continuing basis were classified as
'Financial investments' and included in the balance sheet at fair value. Gains
and losses arising from changes in fair value were accounted for as movements in
the 'Long-term equity investment revaluation reserve'. When an investment was
disposed of, the cumulative profit or loss, including any amounts previously
recognised in the long-term equity investment revaluation reserve, was included
in the income statement for the year in 'Gains less losses from financial
investments'.

h Determination of fair value

For trading instruments, available-for-sale securities and financial instruments
designated at fair value that are quoted in active markets, fair values are
determined by reference to the current quoted bid/offer price. Where independent
prices are not available, fair values may be determined using valuation
techniques with reference to observable market data. These include comparison to
similar instruments where market observable prices exist, discounted cash flow
analysis, option pricing models and other valuation techniques commonly used by
market participants.

The use of a valuation technique takes account of a number of factors as
appropriate. These factors include adjustments for bid-offer spread, credit
factors, and servicing costs of portfolios.

i Sale and repurchase agreements (including stock lending and borrowing)

Where securities are sold subject to a commitment to repurchase them at a
predetermined price ('repos') they remain on the balance sheet and a liability
is recorded in respect of the consideration received. Conversely, securities
purchased under commitments to sell ('reverse repos') are not recognised on the
balance sheet and the consideration paid is recorded in 'Cash and short term
funds', 'Placings with banks maturing after one month', or 'Advances to
customers' as appropriate.

The difference between the sale and repurchase price is treated as interest and
recognised over the life of the agreement.

Securities lending and borrowing transactions are generally entered into on a
collateralised basis, with securities or cash advanced or received as
collateral. The transfer of the securities to counterparties is not normally
reflected on the balance sheet. If cash collateral is advanced or received, an
asset or liability is recorded at the amount of cash collateral advanced or
received.

Securities borrowed are not recognised on the balance sheet, unless they are
sold to third parties, in which case the obligation to return the securities is
recorded as a trading liability and measured at fair value and any gains or
losses are included in 'Net trading income'.

j Derivative financial instruments and hedge accounting

From 1 January 2005

Derivatives are initially recognised at fair value from the date a derivative
contract is entered into and are subsequently re-measured at their fair value at
each reporting date.

Fair values are obtained from quoted market prices in active markets, or by
using valuation techniques, including recent market transactions, where an
active market does not exist. Valuation techniques include discounted cash flow
models and option pricing models as appropriate. All derivatives are classified
as assets when their fair value is positive, or as liabilities when their fair
value is negative.

In the normal course of business, the fair value of a derivative on initial
recognition is considered to be the transaction price (i.e. the fair value of
the consideration given or received). However, in certain circumstances the fair
value of an instrument will be evidenced by comparison with other observable
current market transactions in the same instrument (i.e. without modification or
repackaging) or based on a valuation technique whose variables include only data
from observable markets, including interest rate yield curves, option
volatilities and currency rates. When such evidence exists and results in a
value which is different from the transaction price, the group recognises a
trading profit or loss on inception of the derivative. If observable market data
are not available, the initial change in fair value indicated by the valuation
model, but based on unobservable inputs, is not recognised immediately in the
income statement but is recognised over the life of the transaction on an
appropriate basis, or recognised in the income statement when the inputs become
observable, or when the transaction matures or is closed out.

Certain derivatives embedded in other financial instruments, such as the
conversion option in a convertible bond, are treated as separate derivatives
when their economic characteristics and risks are not clearly and closely
related to those of the host contract, the terms of the embedded derivative are
the same as those of a stand-alone derivative, and the combined contract is not
designated at fair value through profit and loss. These embedded derivatives are
measured at fair value with changes in fair value recognised in the income
statement.

Derivative assets and liabilities on different transactions are only netted if
the transactions are with the same counterparty, a legal right of set-off
exists, and the cash flows are intended to be settled on a net basis.

The method of recognising the resulting fair value gains or losses depends on
whether the derivative is held for trading, or is designated as a hedging
instrument, and if so, the nature of the risk being hedged. All gains and losses
from changes in the fair value of derivatives held for trading are recognised in
the income statement. Where derivatives are designated and highly effective as
hedges, the group classifies them as either: (i) hedges of the change in fair
value of recognised assets or liabilities or firm commitments ('fair value
hedge'); (ii) hedges of the variability in highly probable future cash flows 
attributable to a recognised asset or liability, or a forecast transaction 
('cash flow hedge'); or (iii) hedges of net investments in a foreign operation
('net investment hedge'). Hedge accounting is applied to derivatives designated
as hedging instruments in a fair value, cashflow or net investment hedge 
provided certain criteria are met.

Hedge accounting

It is the group's policy to document, at the inception of a hedging
relationship, the relationship between the hedging instruments and hedged items,
as well as its risk management objective and strategy for undertaking the hedge.
Such policies also require documentation of the assessment, both at hedge
inception and on an ongoing basis, of whether the derivatives that are used in
hedging transactions are highly effective in offsetting changes in fair values
or cash flows of hedged items attributable to the hedged risks. Interest on
designated qualifying hedges is included in 'Net interest income'.

Fair value hedge

Changes in the fair value of derivatives (net of interest accrual) that are
designated and qualify as fair value hedging instruments are recorded as 'Net
trading income' in the income statement, together with changes in the fair value
of the asset or liability that are attributable to the hedged risk.

If the hedging relationship no longer meets the criteria for hedge accounting,
the cumulative adjustment to the carrying amount of a hedged item for which the
effective interest method is used is amortised to the income statement over the
residual period to maturity in net interest income. Where the adjustment relates
to the carrying amount of a hedged available-for-sale equity security, this
remains in equity until the disposal of the equity security.

Cash flow hedge

The effective portion of changes in the fair value of derivatives (net of
interest accrual) that are designated and qualify as cash flow hedges is
recognised in shareholders' equity. Any gain or loss relating to an ineffective
portion is recognised immediately in the income statement within 'Net trading
income' along with accrued interest.

Amounts accumulated in shareholders' equity are recycled to the income statement
in the periods in which the hedged item will affect profit or loss. However,
when the forecast transaction that is hedged results in the recognition of a
non-financial asset or a non-financial liability, the gains and losses
previously deferred in equity are transferred from shareholders' equity and
included in the initial measurement of the cost of the asset or liability.

When a hedging instrument expires or is sold, or when a hedge no longer meets
the criteria for hedge accounting, any cumulative gain or loss existing in
shareholders' equity at that time remains in shareholders' equity until the
forecast transaction is ultimately recognised in the income statement. When a
forecast transaction is no longer expected to occur, the cumulative gain or loss
that was reported in shareholders' equity is immediately transferred to the
income statement.

Net investment hedge

Hedges of net investments in foreign operations are accounted for similarly to
cash flow hedges. Any gain or loss on the hedging instrument relating to the
effective portion of the hedge is recognised in shareholders' equity; the gain
or loss relating to the ineffective portion is recognised immediately in the
income statement. Gains and losses accumulated in equity are included in the
income statement when the foreign operation is disposed of.

Hedge effectiveness testing

To qualify for hedge accounting, HKAS 39 requires that at the inception of the
hedge and throughout its life, each hedge must be expected to be highly
effective (prospective effectiveness). Actual effectiveness (retrospective
effectiveness) must also be demonstrated on an ongoing basis.

The documentation of each hedging relationship sets out how the effectiveness of
the hedge is assessed. The method adopted for assessing hedge effectiveness will
depend on the risk management strategy.

For fair value hedge relationships, the cumulative dollar offset method or
regression analysis are used to test hedge effectiveness. For cash flow hedge
relationships, effectiveness is tested by applying the change in variable cash
flow method or the cumulative dollar offset method using the hypothetical
derivative approach.

For prospective effectiveness, the hedging instrument must be expected to be
highly effective in achieving offsetting changes in fair value or cash flows
attributable to the hedged risk during the period for which the hedge is
designated.

For actual effectiveness, the changes in fair value or cash flows must offset
each other. The group considers that a hedge is highly effective when the offset
is within the range of 80 per cent to 125 per cent.

Derivatives that do not qualify for hedge accounting

All gains and losses from changes in the fair value of any derivative instrument
that does not qualify for hedge accounting under HKAS 39 are recognised
immediately in the income statement and reported in 'Net trading income', except
where derivative contracts are used with financial instruments designated at
fair value, in which case gains and losses are reported in 'Net income from
financial instruments designated at fair value'.

From 1 January 2004 to 31 December 2004

Derivative financial instruments comprised futures, forward, swap and option
transactions undertaken by the group in the foreign exchange, interest rate,
equity, credit derivative, and commodity markets. Netting was applied where a
legal right of set-off existed.

Accounting for these instruments was dependent upon whether the transactions
were undertaken for trading or non-trading purposes.

Trading transactions

Trading transactions included transactions undertaken for market-making, to
service customers' needs and for proprietary purposes, as well as any related
hedges.

Transactions undertaken for trading purposes were marked-to-market and the net
present value of any gain or loss arising was recognised in the income statement
as 'Net trading income', after appropriate deferrals for unearned credit margins
and future servicing costs. Derivative trading transactions were valued by
reference to an independent liquid price where this was available. For those
transactions where there were no readily available quoted prices, which
predominantly related to over-the-counter transactions, market values were
determined by reference to independently sourced rates, using valuation models.
Adjustments were made for illiquid positions where appropriate.

Assets, including gains, resulting from derivative exchange rate, interest rate,
equity, credit derivative and commodity contracts which were marked-to-market
were included in 'Derivatives' on the assets side of the balance sheet.
Liabilities, including losses, resulting from such contracts, were included in
'Derivatives' on the liabilities side of the balance sheet.

Non-trading transactions

Non-trading transactions, which were those undertaken for hedging purposes as
part of the group's risk management strategy against cash flows, assets,
liabilities or positions, were measured on an accrual basis. Non-trading
transactions included qualifying hedges and positions that synthetically altered
the characteristics of specified financial instruments.

Non-trading transactions were accounted for on an equivalent basis to the
underlying assets, liabilities or net positions. Any gain or loss was recognised
on the same basis as that arising from the related assets, liabilities or
positions.

To qualify as a hedge, a derivative was required effectively to reduce the
price, foreign exchange or interest rate risk of the asset, liability or
anticipated transaction to which it was linked and designated as a hedge at
inception of the derivative contract. Accordingly, changes in the market value
of the derivative were required to be highly correlated with changes in the
market value of the underlying hedged item at inception of the hedge and over
the life of the hedge contract. If these criteria were met, the derivative was
accounted for on the same basis as the underlying hedged item. Derivatives used
for hedging purposes included swaps, forwards and futures. Interest rate swaps
were also used to alter synthetically the interest rate characteristics of
financial instruments. In order to qualify for synthetic alteration, a
derivative instrument had to be linked to specific individual, or pools of
similar, assets or liabilities by the notional principal and interest rate risks
of the associated instruments, and had to achieve a result that was consistent
with defined risk management objectives. If these criteria were met,
accrual-based accounting was applied, i.e. income or expense was recognised and
accrued to the next settlement date in accordance with the contractual terms of
the agreement.

Any gain or loss arising on the termination of a qualifying derivative was
deferred and amortised to earnings over the original life of the terminated
contract. Where the underlying asset, liability or position was sold or
terminated, the qualifying derivative was immediately marked-to-market and any
gain or loss arising was taken to the income statement.

k Derecognition of financial assets and liabilities

Financial assets are derecognised when the rights to receive cash flows from the
assets have expired; or where the group has transferred its contractual rights
to receive the cash flows of the financial assets and has transferred
substantially all the risks and rewards of ownership; or where both control and
substantially all the risks and rewards are not retained.

Financial liabilities are derecognised when they are extinguished, i.e. when the
obligation is discharged or cancelled or expires.

l Offsetting financial assets and financial liabilities

Financial assets and liabilities are offset and the net amount reported in the
balance sheet when there is a legally enforceable right to offset the recognised
amounts and the group intends to settle on a net basis, or realise the asset and
settle the liability simultaneously. In 2004, netting was applied where a legal
right of set-off existed.

m Subsidiaries and associates

Subsidiaries are companies in which the group, directly or indirectly, holds
more than half of the issued share capital or controls more than half of the
voting power or controls the composition of the board of directors. Subsidiaries
are controlled if the group has the power to govern their financial and
operating policies so as to obtain benefits from their activities. Subsidiaries
are consolidated in the group's financial statements from the date on which the
group obtains control until control ceases.

Balances and transactions between entities that comprise the group, together
with unrealised gains and losses thereon, are eliminated in the consolidated
financial statements. Minority interests represent the portion of the profit or
loss and net assets of subsidiaries attributable to equity interests in those
subsidiaries that are not held by the group.

Associates are entities over which the group has significant influence but not
control or joint control. Investments in associates in the consolidated balance
sheet are stated at the group's attributable share of the net assets of the
associates using the equity method of accounting.

'Share of profit in associates' is stated in the income statement net of tax.

n Goodwill and intangible assets

(i)  Goodwill arises on business combinations, including the
     acquisition of subsidiaries or associates, when the cost of acquisition 
     exceeds the fair value of the group's share of the identifiable assets, 
     liabilities and contingent liabilities acquired. Goodwill on acquisitions 
     of associates is included in 'Interests in associates'. Goodwill is tested 
     for impairment annually by comparing the present value of the expected 
     future cash flows from a business with the carrying value of its net 
     assets, including attributable goodwill. Goodwill is allocated to 
     cash-generating units for the purposes of impairment testing. Goodwill is 
     tested for impairment at the lowest level at which it is monitored for 
     internal management purposes. Goodwill is stated at cost less accumulated 
     impairment losses which are charged to the income statement.

     Negative goodwill is recognised immediately in the income statement as it
     arises.

     At the date of disposal of a business, attributable goodwill is included in 
     the group's share of the net assets in the calculation of the gain or loss 
     on disposal.

(ii) Intangible assets include the value of in-force long-term assurance
     business, computer software, trade names, customer relationships and core
     deposit relationships. Intangible assets that have an indefinite useful 
     life, or are not yet ready for use, are tested for impairment annually.

     Intangible assets that have a finite useful life, except for the value of
     in-force long-term assurance business, are stated at cost less amortisation 
     and accumulated impairment losses and are amortised over their estimated 
     useful lives. Estimated useful life is the lower of legal duration and 
     expected economic life.

     Intangible assets are subject to impairment review if there are events or
     changes in circumstances that indicate that the carrying amount may not be
     recoverable.

     The accounting policy on the value of the in-force long-term assurance 
     business is set out in Note (v) below.

o Property, plant and equipment

(i)  Premises

     Premises held for own use, comprising freehold land and buildings, and 
     leasehold land and buildings where the value of the land cannot be reliably
     separated from the value of the building at inception of the lease and the 
     premises are not clearly held under an operating lease, are stated at 
     valuation less accumulated depreciation and impairment losses.

     Such premises are revalued by professionally qualified valuers with 
     sufficient regularity to ensure that the net carrying amount does not 
     differ materially from the fair value. Surpluses arising on revaluation 
     are credited firstly to the income statement to the extent of any deficits 
     arising on revaluation previously charged to the income statement in 
     respect of the same premises, and are thereafter taken to the
    'Property revaluation reserve'. Deficits arising on revaluation are 
     firstly set off against any previous revaluation surpluses included in 
     the 'Property revaluation reserve' in respect of the same premises,
     and are thereafter taken to the income statement.

     Buildings held for own use which are situated on leasehold land where it is
     possible to reliably separate the value of the building from the value of 
     the leasehold land at inception of the lease are stated at valuation less
     accumulated depreciation and impairment losses.

     Depreciation on premises is calculated to write off the assets over their
     estimated useful lives as follows:

-    freehold land is not depreciated;
-    leasehold land is depreciated over the unexpired terms of the leases;
     and
-    buildings and improvements thereto are depreciated at the greater of 
     2 per cent per annum on the straight line basis or over the unexpired 
     terms of the leases or over the remaining useful lives of the buildings.

(iii)Other plant and equipment

     Equipment, fixtures and fittings (including equipment on operating 
     leases where the group is the lessor) are stated at cost less any 
     impairment losses. Depreciation is calculated on a straight-line basis 
     to write off the assets over their useful lives, which are generally 
     between five and 20 years.

(iv) Investment properties

     The group holds certain properties as investments to earn rentals, or for
     capital appreciation, or both. Investment properties are stated at fair 
     value with changes in fair value being recognised in the income statement
    (in 'Other operating income') with effect from 1 January 2005. Previously,
     the change in the fair value of investment properties was recognised in 
     the property revaluation reserve. The comparative income statement 
     for 2004 has not been adjusted to reflect the revaluation of investment
     properties, as permitted by HKAS 40. Fair values are determined by 
     independent professional valuers who apply recognised valuation techniques.

     Property, plant and equipment is subject to review for impairment if there 
     are events or changes in circumstances that indicate that the carrying 
     amount may not be recoverable.

p Finance and operating leases

(i)  Assets leased to customers under agreements which transfer
     substantially all the risks and rewards associated with ownership, other 
     than legal title, are classified as finance leases. Where the group is 
     a lessor under finance leases the amounts due under the leases, after 
     deduction of unearned charges, are included in 'Advances to customers' 
     as appropriate. Finance income receivable is recognised over the periods 
     of the leases so as to give a constant rate of return on the net 
     investment in the leases.

(ii) Where the group is a lessee under finance leases the leased assets
     are capitalised and included in 'Property, plant and equipment' and the
     corresponding liability to the lessor is included in 'Other liabilities'. 
     The finance lease and corresponding liability are recognised initially at 
     the fair value of the asset or, if lower, the present value of the 
     minimum lease payments. Finance charges payable are recognised over 
     the periods of the leases based on the interest rates implicit in the 
     leases so as to give a constant rate of interest on the remaining 
     balance of the liability.

(iii)All other leases are classified as operating leases. Where the group
     is the lessor, the assets subject to the operating leases are included in
     'Property, plant and equipment' and accounted for accordingly. Impairment 
     losses are recognised to the extent that the carrying value of equipment
     is impaired through residual values not being fully recoverable. Where 
     the group is the lessee, the leased assets are not recognised on the 
     balance sheet. Rentals payable and receivable under operating leases are 
     accounted for on a straight-line basis over the periods of the leases 
     and are included in 'General and administrative expenses' and 'Other 
     operating income' respectively.

(iv) There are no freehold interests in land in Hong Kong. Accordingly all
     such land is considered to be held under operating leases. Unless it 
     qualifies for inclusion in 'Property, plant and equipment' 
     (as described in Note (o) above), such land is included under
     'Other assets' in the balance sheet and is stated at cost less 
     amortisation and impairment losses. Amortisation is calculated to write 
     off the cost of the land on a straight-line basis over the terms of the 
     leases, which are generally between 20 and 999 years.

q Income tax

(i)  Income tax for the year comprises current and deferred tax. Income
     tax is recognised in the income statement except to the extent that it 
     relates to items recognised directly in reserves, in which case it is 
     recognised in reserves.

(ii) Current tax is the expected tax payable on the taxable income for
     the year, calculated using tax rates enacted or substantively enacted at 
     the balance sheet date, and any adjustment to tax payable in respect of 
     previous years. Current tax assets and liabilities are offset when the 
     group intends to settle on a net basis and the legal right to set-off exists.

(iii)Deferred tax is recognised on temporary differences between the carrying
     amount of assets and liabilities in the balance sheet and the amount 
     attributed to such assets and liabilities for tax purposes. Deferred tax 
     liabilities are generally recognised for all taxable temporary differences
     and deferred tax assets are recognised to the extent it is probable that 
     future taxable profits will be available against which deductible 
     temporary differences can be utilised.

     Deferred tax is calculated using the tax rates that have been enacted or
     substantively enacted at the balance sheet date and are expected to apply 
     in the periods in which the assets will be realised or the liabilities 
     settled. Deferred tax assets and liabilities are offset when they arise 
     in the same tax reporting group, relate to income taxes levied by the 
     same taxation authority, and a legal right to set-off exists in the entity.

     Deferred tax relating to actuarial gains and losses arising from 
     post-employment benefit plans which are recognised directly in equity, 
     is also credited or charged directly to equity.



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