6th Mar 2006 11:00
HSBC Holdings PLC06 March 2006 -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (Mark One) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________ to________ COMMISSION FILE NUMBER 1-8198 HSBC FINANCE CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 86-1052062 (STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NO.) 2700 SANDERS ROAD PROSPECT HEIGHTS, ILLINOIS 60070 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (847) 564-5000 REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE Securities registered pursuant to Section 12(b) of the Act: TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- Floating Rate Notes, due September 15, 2008 New York Stock Exchange 4.625% Notes, due September 15, 2010 New York Stock Exchange 5.25% Notes, due January 14, 2011 New York Stock Exchange 6 3/4% Notes, due May 15, 2011 New York Stock Exchange Floating Rate Notes, due July 19, 2012 New York Stock Exchange Floating Rate Notes, due September 14, 2012 New York Stock Exchange 5.0% Notes, due June 30, 2015 New York Stock Exchange 6.875% Notes, due January 30, 2033 New York Stock Exchange 6% Notes, due November 30, 2033 New York Stock Exchange Depositary Shares (each representing one-fortieth share of New York Stock Exchange 6.36% Non-Cumulative Preferred Stock, Series B, no par, $1,000 stated maturity)Guarantee of Preferred Securities of Household Capital Trust New York Stock Exchange VIGuarantee of Preferred Securities of Household Capital Trust New York Stock Exchange VII Guarantee of Preferred Securities of HSBC Capital Trust IX New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer,as defined in Rule 405 of the Securities Act. Yes No ( ) Indicate by check mark if the registrant is not required to file reportspursuant to Section 13 or Section 15(d) of the Act. Yes ( ) No Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes No ( ) Indicate by check mark if disclosure of delinquent filers pursuant to Item405 of Regulation S-K is not contained herein, and will not be contained, to thebest of registrant's knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-K or any amendment to thisForm 10-K. Indicate by check mark whether the registrant is a large accelerated filer,an accelerated filer, or a non-accelerated filer. See definition of "acceleratedfiler and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Checkone): Large accelerated filer ( ) Accelerated filer ( ) Non-acceleratedfiler Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act). Yes ( ) No As of March 3, 2006, there were 55 shares of the registrant's common stockoutstanding, all of which are owned by HSBC Investments (North America) Inc. DOCUMENTS INCORPORATED BY REFERENCE None.-------------------------------------------------------------------------------- TABLE OF CONTENTS PART/ITEM NO PAGE------------ ----PART I-----------------------------------------------------------------------------------Item 1. Business Organization History and Acquisition by HSBC.............. 4 HSBC North America Operations............................. 4 HSBC Finance Corporation - General........................ 5 Operations................................................ 7 Funding................................................... 11 Regulation and Competition................................ 13 Corporate Governance and Controls......................... 15 Cautionary Statement on Forward-Looking Statements........ 16Item 1A. Risk Factors................................................ 16Item 1B. Unresolved Staff Comments................................... 17Item 2. Properties.................................................. 17Item 3. Legal Proceedings........................................... 18Item 4. Submission of Matters to a Vote of Security Holders......... 20 PART II-----------------------------------------------------------------------------------Item 5. Market for Registrant's Common Equity and Related Stockholder Matters....................................... 20Item 6. Selected Financial Data..................................... 21Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Executive Overview........................................ 24 Basis of Reporting........................................ 30 Critical Accounting Policies.............................. 37 Receivables Review........................................ 43 Results of Operations..................................... 45 Segment Results - Managed Basis........................... 53 Credit Quality............................................ 60 Liquidity and Capital Resources........................... 74 Off Balance Sheet Arrangements and Secured Financings..... 83 Risk Management........................................... 87 Glossary of Terms......................................... 92 Credit Quality Statistics................................. 95 Analysis of Credit Loss Reserves Activity................. 97 Net Interest Margin....................................... 99 Reconciliations to GAAP Financial Measures................ 102Item 7A. Quantitative and Qualitative Disclosures About Market Risk...................................................... 119Item 8. Financial Statements and Supplementary Data................. 119Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................. 189Item 9A. Controls and Procedures..................................... 189Item 9B. Other Information........................................... 189 2 PART/ITEM NO PAGE------------ ----PART III-----------------------------------------------------------------------------------Item 10. Directors and Executive Officers of the Registrant.......... 189Item 11. Executive Compensation...................................... 196Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters................ 203Item 13. Certain Relationships and Related Transactions.............. 205Item 14. Principal Accountant Fees and Services...................... 205 PART IV-----------------------------------------------------------------------------------Item 15. Exhibits and Financial Statement Schedules Financial Statements...................................... 205 Exhibits.................................................. 206Signatures .................................................................. 207 3 HSBC Finance Corporation-------------------------------------------------------------------------------- PART I ITEM 1. BUSINESS.-------------------------------------------------------------------------------- ORGANIZATION HISTORY AND ACQUISITION BY HSBC-------------------------------------------------------------------------------- HSBC Finance Corporation traces its origin to 1878 and operated as a consumerfinance company under the name Household Finance Corporation ("HFC") for most ofits history. In 1981, HFC shareholders approved a restructuring that resulted inthe formation of Household International, Inc. ("Household") as a publicly heldholding company and HFC became a wholly-owned subsidiary of Household. For aperiod, Household diversified its operations outside the financial servicesindustry, but returned solely to consumer finance operations through a series ofdivestitures in the 1980's and 1990's. On March 28, 2003, Household was acquired by HSBC Holdings plc ("HSBC") by wayof merger with H2 Acquisition Corporation ("H2"), a wholly owned subsidiary ofHSBC, in a purchase business combination. Following the merger, H2 was renamed"Household International, Inc." Subsequently, HSBC transferred its ownershipinterest in Household to a wholly owned subsidiary, HSBC North America HoldingsInc. ("HSBC North America"), which subsequently contributed Household to itswholly-owned subsidiary, HSBC Investments (North America) Inc. On December 15, 2004, Household merged with its wholly owned subsidiary, HFC. Byoperation of law, following the merger, all obligations of HFC became directobligations of Household. Following the merger, Household changed its name toHSBC Finance Corporation. The name change was a continuation of the rebrandingof the Household businesses to the HSBC brand. These actions were taken toestablish a single brand in North America to create a stronger platform toadvance growth across all HSBC business lines. For all reporting periods up to and including the year ended December 31, 2004,HSBC prepared its consolidated financial statements in accordance with U.K.Generally Accepted Accounting Principles ("U.K. GAAP"). From January 1, 2005,HSBC has prepared its consolidated financial statements in accordance withInternational Financial Reporting Standards ("IFRS") as endorsed by the EuropeanUnion and effective for HSBC's reporting for the year ended December 31, 2005.HSBC Finance Corporation now reports to HSBC under IFRS and, as a result,corporate goals and the individual goals of executives are based upon IFRSrather than U.K. GAAP, which had been the practice subsequent to our acquisitionby HSBC. HSBC NORTH AMERICA OPERATIONS-------------------------------------------------------------------------------- HSBC North America is the holding company for HSBC's operations in the UnitedStates and Canada. The principal subsidiaries of HSBC North America are HSBCFinance Corporation, HSBC Bank Canada, a Federal bank chartered under the lawsof Canada, HSBC USA Inc. ("HUSI"), a U.S. bank holding company, HSBC Markets(USA) Inc., a holding company for investment banking and markets subsidiaries,and HSBC Technology Services (USA) Inc., a provider of information technologyservices. HUSI's principal U.S. banking subsidiary is HSBC Bank USA, NationalAssociation ("HSBC Bank USA"), a national bank with 422 branches in 9 states.Under the oversight of HSBC North America, HSBC Finance Corporation works withits affiliates to maximize opportunities and efficiencies in HSBC's operationsin Canada and the United States. These affiliates do so by providing each otherwith, among other things, alternative sources of liquidity to fund operationsand expertise in specialized corporate functions and services. This has beendemonstrated by purchases and sales of receivables between HSBC Bank USA andHSBC Finance Corporation, a pooling of resources to create a new unit thatprovides technology services to all HSBC North America subsidiaries and shared,but allocated, support among the affiliates for tax, legal, risk, compliance,accounting, insurance, strategy and internal audit functions. In addition,clients of HSBC Bank USA and other affiliates are investors in our debt andpreferred securities, providing significant sources of liquidity and capital toHSBC Finance Corporation. HSBC Securities (USA) Inc., a Delaware corporation,registered broker dealer and a subsidiary of HSBC Markets (USA) Inc., leads orparticipates as underwriter of all domestic issuances of our term corporate andasset backed securities. While HSBC Finance Corporation does 4 HSBC Finance Corporation-------------------------------------------------------------------------------- not receive advantaged pricing, the underwriting fees and commissions payable toHSBC Securities (USA) Inc. benefit HSBC as a whole. HSBC FINANCE CORPORATION - GENERAL-------------------------------------------------------------------------------- HSBC Finance Corporation's subsidiaries provide middle-market consumers in theUnited States, the United Kingdom, Canada, the Republic of Ireland, Slovakia,the Czech Republic and Hungary with several types of loan products. HSBC FinanceCorporation is the principal fund raising vehicle for the operations of itssubsidiaries. In this Form 10-K, HSBC Finance Corporation and its subsidiariesare referred to as "we," "us" or "our." We offer real estate secured loans, auto finance loans, MasterCard(1) andVisa(1) credit card loans, private label credit card loans including retailsales contracts and personal non-credit card loans. We also initiate tax refundanticipation loans in the United States and offer specialty insurance productsin the United States, United Kingdom and Canada. We generate cash to fund ourbusinesses primarily by collecting receivable balances; issuing commercialpaper, medium and long term debt; borrowing from HSBC subsidiaries andcustomers; selling and securitizing consumer receivables; and borrowing undersecured financing facilities. We use the cash generated to invest in and supportreceivable growth, to service our debt obligations and to pay dividends to ourparent. At December 31, 2005, we had approximately 35,000 employees and over 60million customers. Consumers residing in the state of California accounted for12% of our managed(2) domestic consumer receivables. We also have significantconcentrations of domestic consumer receivables in Florida (6%), New York (6%),Texas (5%), Ohio (5%), North Carolina (5%) and Pennsylvania (5%). SIGNIFICANT DEVELOPMENTS SINCE 2000 Since 2000, HSBC Finance Corporation: - Developed additional distribution channels for our products, including through the Internet and co-branding opportunities with retail merchants and service providers. - Created our Mortgage Services business to acquire nonconforming mortgage loans originated by unaffiliated third party lenders and invested in Decision One Mortgage Company LLC ("Decision One"), which was acquired in 1999 to originate nonconforming mortgage loans through third party brokers. - Recorded a pre-tax charge of $525 million in the third quarter of 2002 in settlement of alleged violations of Federal and state consumer protection, consumer financing and banking laws and regulations with respect to our real estate secured lending from retail branch offices. - Without admitting or denying wrongdoing, in March 2003 consented to entry of order by the Securities and Exchange Commission ("SEC") that contained findings relating to the sufficiency of certain disclosures filed with the SEC in 2002 regarding loan restructuring practices. - Announced in the third quarter of 2004 our intention to structure all new collateralized funding transactions as secured financings. Because prior public MasterCard and Visa credit card transactions as well as certain personal non-credit card transactions were structured as sales to revolving trusts that require replenishment of receivables to support previously issued securities, receivables continue to be sold to the related credit card trusts until the revolving periods end, the last of which is expected to occur in 2008. Termination of sale treatment for new collateralized funding activity reduced our --------------- (1) MasterCard is a registered trademark of MasterCard International, Incorporated and Visa is a registered trademark of Visa USA, Inc. (2) We have historically monitored our operations and evaluated trends on both an owned basis, as shown in our financial statements, and on a managed basis. Managed basis reporting (a non-GAAP financial measure) assumes that securitized receivables have not been sold and are still on our balance sheet. Managed basis information is intended to supplement, and should not be considered a substitute for, owned basis reporting and should be read in conjunction with reported owned basis results. See "Basis of Reporting" and "Reconciliations to GAAP Financial Measures" for additional discussion and quantitative reconciliations to the equivalent GAAP basis financial measure. 5 HSBC Finance Corporation-------------------------------------------------------------------------------- reported net income under U.S. GAAP in both 2004 and 2005 and will continue to in future periods. In both periods, there was no impact on cash received from operations. - Adopted charge-off and account management policies in accordance with the Uniform Retail Credit Classification and Account Management Policy issued by the Federal Financial Institutions Examination Council ("FFIEC Policies") for our domestic MasterCard/Visa and private label portfolios (excluding consumer lending retail sales contracts) in the fourth quarter of 2004. The adoption of FFIEC Policies resulted in a reduction to net income of approximately $121 million in that quarter. Because we sold our domestic private label portfolio (excluding retail sales contracts at our consumer lending business) to HSBC Bank USA in December 2004, the ongoing impact of the adoption of these policies only impact our domestic MasterCard and Visa credit card portfolio. As we expected, the adoption of FFIEC Policies for our MasterCard and Visa portfolio have not had a significant impact on results of operations or cash flows in 2005. - Sold $12.2 billion of domestic private label receivables ($15.6 billion on a managed basis) and the retained interests associated with securitized private label receivables to HSBC Bank USA in December 2004. We also entered into an agreement under which all domestic private label receivables (excluding retail sales contracts at our consumer lending business) originated under private label accounts are sold to HSBC Bank USA daily, on a servicing retained basis. HSBC Bank USA also purchased a portfolio of higher quality nonconforming domestic real estate secured loans from us in late 2003 and in early 2004. - In December 2004, received upgraded ratings from Fitch Investors Service on our senior debt and commercial paper to AA- and F1+, respectively. In January 2006, Moody's Investors Service raised our Senior Debt Rating to Aa3 with positive outlook. Moody's also affirmed our P-1 short term rating in December 2005. Standard and Poor's Corporation's A long-term rating for HSBC Finance Corporation is rated as stable, as is our A-1 short-term rating. - Deepened the non-prime expertise of our domestic MasterCard/Visa credit card business through acquisitions of Renaissance Holdings, Inc. in 2000 and Metris Companies, Inc. ("Metris") in 2005. - Recorded an incremental pre-tax provision for credit losses of $185 million in 2005, reflecting our best estimate of the impact of Hurricane Katrina on our loan portfolio. During the fourth quarter of 2005, $11 million of outstanding loans to affected customers was charged-off in accordance with our charge-off policies. - Experienced higher bankruptcy filings in 2005, in particular during the period leading up to the October 17, 2005 effective date of new legislation in the United States. We had been maintaining credit loss reserves in anticipation of the impact this new legislation would have on net charge-offs. However, the magnitude of the spike in bankruptcies experienced immediately before the new legislation became effective was larger than anticipated which resulted in an additional $100 million credit loss provision being recorded during the third quarter of 2005. Our fourth quarter of 2005 results include an estimated $125 million in incremental charge-offs of principal, interest and fees and $113 million in provision expense attributable to bankruptcy reform. The incremental charge-off in the fourth quarter of 2005 is primarily related to our MasterCard/Visa portfolio where bankrupt accounts charge-off sooner than in our secured and personal non-credit card portfolios in accordance with our charge-off policies for these products. This provision expense included in our fourth quarter results relating to bankruptcies in our secured and personal non-credit card portfolios will not begin to migrate to charge-off until 2006 in accordance with their respective charge-off policies. As expected, the number of bankruptcy filings subsequent to the enactment of this new legislation has decreased dramatically. We believe that a portion of the increase in net charge-offs resulting from the higher bankruptcy filings is an acceleration of net charge-offs that would otherwise have been experienced in future periods. - Sold our U.K. credit card business including $2.5 billion of receivables ($3.1 billion on a managed basis), the associated cardholder relationships as well as the related retained interests in securitized credit card receivables and certain assets relating to the credit card operations to HSBC Bank plc ("HBEU") in December 2005. The premium received in excess of book value of the assets 6 HSBC Finance Corporation-------------------------------------------------------------------------------- transferred, including the goodwill assigned to this business, has been recorded as an increase to additional paid in capital and has not been included in earnings. Our U.K. subsidiary, HFC Bank Limited, will continue to provide collection and other support services to HBEU for a fee. As a result, in future periods, net interest income, fee income and provision for credit losses will be reduced, while other revenues will increase from servicing revenues on the portfolio. We do not anticipate the net effect of the sale will result in a material reduction of our consolidated net income in future periods. We continue to evaluate strategic alternatives with respect to our other U.K. and European operations. - Experienced tightened credit spreads relative to Treasuries compared to those we experienced during the months leading up to the announcement of our acquisition by HSBC. Primarily as a result of these tightened credit spreads, we recognized cash funding expense savings of approximately $600 million in 2005, $350 million in 2004 and $125 million in 2003 compared to the funding costs we would have incurred using average spreads from the first half of 2002. - Prior to the acquisition by HSBC, the majority of our fair value and cash flow hedges were effective hedges which qualified for the shortcut method of accounting. Under the Financial Accounting Standards Board's interpretations of SFAS No. 133, the shortcut method of accounting was no longer allowed for interest rate swaps which were outstanding at the time of the acquisition by HSBC. As a result of the acquisition, we were required to reestablish and formally document the hedging relationship associated with all of our fair value and cash flow hedging instruments and assess the effectiveness of each hedging relationship, both at inception of the acquisition and on an ongoing basis. As a result of deficiencies in our contemporaneous hedge documentation at the time of acquisition, we lost the ability to apply hedge accounting to our entire cash flow and fair value hedging portfolio that existed at the time of acquisition by HSBC. During 2005, we reestablished hedge treatment under the long haul method of accounting for a significant number of the derivatives in this portfolio. This will significantly reduce the volatility of the mark-to-market on the previously non-qualified derivatives which have been designated as effective hedges going forward, but will result in the recording of ineffectiveness under the long-haul method of accounting. For certain new hedging relationships, however, we continue to experience income volatility during the period before hedging documentation is put in place. This net income volatility, whether based on changes in interest rates for swaps which do not qualify for hedge accounting or ineffectiveness recorded on our qualifying hedges under the long-haul method of accounting, impacts the comparability of our reported results between periods. Accordingly, derivative income for the year ended December 31, 2005 should not be considered indicative of the results for any future periods. - Since our acquisition by HSBC we have actively worked with our North American affiliates to expand HSBC's brand recognition and to leverage growth opportunities with merchants, suppliers and customers. Our name was changed to HSBC Finance Corporation and several businesses now operate under the HSBC name, including our Canadian branch offices, our domestic and Canadian auto finance business and our credit card banking subsidiary. OPERATIONS-------------------------------------------------------------------------------- Our operations are divided into three reportable segments: Consumer, Credit CardServices and International. Our Consumer segment includes our consumer lending,mortgage services, retail services, and auto finance businesses. Our Credit CardServices segment includes our domestic MasterCard and Visa credit card business.Our International segment includes our foreign operations in the United Kingdom,Canada, the Republic of Ireland, Slovakia, the Czech Republic and Hungary.Information about businesses or functions that fall below the segment reportingquantitative threshold tests such as our insurance services, taxpayer financialservices and commercial operations, as well as our treasury and corporateactivities, which include fair value adjustments related to purchase accountingand related amortization, are included under the "All Other" caption within oursegment disclosure. 7 HSBC Finance Corporation-------------------------------------------------------------------------------- We have historically monitored our operations and evaluated trends on a managedbasis (a non-GAAP financial measure), which assumes that securitized receivableshave not been sold and are still on our balance sheet. This is because thereceivables that we securitize are subjected to underwriting standardscomparable to our owned portfolio, are serviced by operating personnel withoutregard to ownership and result in a similar credit loss exposure for us. Inaddition, we have funded our operations and made decisions about allocatingresources, such as capital, on a managed basis. We have begun reporting"Management Basis" results (a non-GAAP financial measure) in Reports on Form 8-Kwith our quarterly results. Management Basis reporting, in addition to managedbasis adjustments, assumes the private label and real estate receivablestransferred to HSBC Bank USA have not been sold and remain on balance sheet. Aswe continue to manage and service receivables sold to HSBC Bank USA, we makedecisions about allocating certain resources, such as employees, on a ManagementBasis. As referenced above, corporate and individual executive goals, includingthose that impact incentive compensation, are established based upon IFRS as itapplies to our parent, HSBC. As a result, management also considers IFRS inmanaging our operations. GENERAL We generally serve non-conforming and non-prime consumers. Such customers areindividuals who have limited credit histories, modest incomes, highdebt-to-income ratios, high loan-to-value ratios (for auto and real estatesecured products) or have experienced credit problems caused by occasionaldelinquencies, prior charge-offs, bankruptcy or other credit related actions.These customers generally have higher delinquency and credit loss probabilitiesand are charged a higher interest rate to compensate for the additional risk ofloss (where the loan is not adequately collateralized to mitigate suchadditional risk of loss) and the anticipated additional collection initiativesthat may have to be undertaken over the life of the loan. We also originateand/or purchase near-prime real estate secured, MasterCard/Visa and auto loans.In our MasterCard and Visa, retail services and international businesses, wealso serve prime consumers either through co-branding, merchant relationships ordirect mailings. We are responsive to the needs of our customers in the products we offer andperiodically test new loan products in our different business units. Inparticular, consumer demand for alternative mortgage products has increasedsignificantly in recent years, including requests for interest-only paymentloans, adjustable-rate loans with alternative payment options ("option ARMs")and negatively amortizing loans. HSBC Finance Corporation does not and does notanticipate offering option ARMs or other negative amortization products. We dooffer loans under which the borrower makes fixed rate interest-only payments forsome period of time prior to interest rate adjustments and/or higher paymentsthat include a principal component. Due to customer demand, this segment of ourreal estate secured portfolio experienced rapid growth in the third and fourthquarters of 2005. At December 31, 2005, the outstanding balance of ourinterest-only loans was $4.7 billion, or 3.3% of managed receivables. As withall other products, we underwrite to criteria that consider the particular termsof the loan and price the interest-only loans in a manner that compensates forthe higher risk that, during the period higher payments are required, customersmay be unable to repay their loans. Additional information concerninginterest-only loans is contained in Note 26, "Concentrations of Credit Risk" toour consolidated financial statements. We use our centralized underwriting, collection and processing functions toadapt our credit standards and collection efforts to national or regional marketconditions. Our underwriting, loan administration and collection functions aresupported by highly automated systems and processing facilities. Our centralizedcollection systems are augmented by personalized early collection efforts.Analytics drive our decisions in marketing, risk pricing, operations andcollections. We service each customer with a view to understanding that customer's personalfinancial needs. We recognize that individuals may not be able to timely meetall of their financial obligations. Our goal is to assist consumers intransitioning through financially difficult times which may lead to their doingmore business with our lending subsidiaries or other HSBC affiliates. As aresult, our policies and practices are designed to be flexible to maximize thecollectibility of our loans while not incurring excessive collection expenses onloans 8 HSBC Finance Corporation-------------------------------------------------------------------------------- that have a high probability of being ultimately uncollectible. Proactive creditmanagement, "hands-on" customer care and targeted product marketing are means weuse to retain customers and grow our business. CONSUMER Our Consumer Lending business is one of the largest subprime home equityoriginators in the United States as ranked by Inside B&C Lending. This businesshas 1,397 branches located in 45 states, and approximately 2.9 million activecustomer accounts, $55.5 billion in managed receivables and 12,800 employees. Itis marketed under both the HFC and Beneficial brand names, each of which catersto a slightly different type of customer in the middle-market population. Bothbrands offer secured and unsecured loan products, such as first and second lienposition closed-end mortgage loans, open-end home equity loans, personalnon-credit card loans, including personal homeowner loans (a secured highloan-to-value product that we underwrite and treat like an unsecured loan), autofinance and sales finance contracts. These products are marketed through ourretail branch network, direct mail, telemarketing, strategic alliances andInternet sourced applications and leads. We also acquire portfolios on anopportunistic basis. As of December 31, 2005, approximately 94% of our consumerloans bore fixed rates and 60% were first liens. Our Mortgage Services business purchases non-conforming first and second lienposition residential mortgage loans, including open-end home equity loans, froma network of over 280 unaffiliated third-party lenders (i.e., correspondents).This business has approximately $41.6 billion in managed receivables, 409,000active customer accounts and 3,100 employees. Purchases are primarily "bulk"acquisitions (i.e., pools of loans) but also include "flow" acquisitions (i.e.,loan by loan), and are made based on our specific underwriting guidelines. As ofDecember 31, 2005, Mortgage Services serviced approximately $4.6 billion ofreceivables for other parties, including HSBC Bank USA. We have committed topurchase real estate secured receivables from select correspondent lenders tostrengthen our relationship with these lenders and to create a sustainablegrowth channel for this business. Decision One, a subsidiary of HSBC FinanceCorporation, was purchased in 1999 to assist us in understanding the productneeds of mortgage brokers and trends in the mortgage lending industry. Throughmore than 22 branch locations, Decision One directly originates mortgage loanssourced by mortgage brokers and sells all loans to secondary market purchasers,including to our Mortgage Services business. As of December 31, 2005,approximately 45% of the Mortgage Services portfolio were fixed rate loans, 81%were in first lien position. On December 29, 2004, our domestic private label receivable portfolio (excludingretail sales contracts at our consumer lending business) of approximately $15.6billion of managed receivables was sold to HSBC Bank USA, and agreements wereentered into to sell all future receivables to HSBC Bank USA on a daily basisand to service the portfolio for HSBC Bank USA for a fee. As a result, we nowsell all domestic private label receivables (excluding retail sales contracts)upon origination but service the entire portfolio on behalf of HSBC Bank USA.According to The Nilson Report, the private label servicing portfolio is thethird largest portfolio in the U.S. Our Retail Services business has over 65active merchant relationships and we service approximately 16.1 million activecustomer accounts and have over 2,100 employees. At December 31, 2005, theserviced private label portfolio consisted of approximately 13 percent ofreceivables in the furniture industry, 32 percent in the consumer electronicsindustry, 29 percent in the power sport vehicle (snowmobiles, personalwatercraft, ATV's and motorcycles) industry and approximately 15 percent in thedepartment store industry. Private label financing products are generatedthrough merchant retail locations, merchant catalog and telephone sales, anddirect mail and Internet applications. Our Auto Finance business purchases, from a network of approximately 10,000active dealer relationships, retail installment contracts of consumers who maynot have access to traditional, prime-based lending sources. We also originateand refinance auto loans through direct mail solicitations, alliance partners,consumer lending customers and the Internet. At December 31, 2005, this businesshad approximately $11.2 billion in managed receivables, approximately 790,000active customer accounts and 1,900 employees. Approximately 37% of auto financereceivables are secured by new vehicles. Based upon CNW Research and JD Power,the 9 HSBC Finance Corporation-------------------------------------------------------------------------------- dealer financing market in the U.S. is highly fragmented with originations inexcess of $580 billion, of which approximately $275 billion are considerednon-prime loans. CREDIT CARD SERVICES Our Credit Card Services business includes our MasterCard and Visa receivablesin the United States, including The GM Card(R), the AFL-CIO Union Plus(R) ("UP")credit card, Household Bank, Orchard Bank and HSBC branded cards, and as of ourDecember 1, 2005 acquisition of Metris, the Direct Merchants Bank MasterCard.This business has approximately $26.2 billion in managed receivables, over 17million active customer accounts and 6,475 employees. According to The NilsonReport, this business is the fifth largest issuer of MasterCard or Visa creditcards in the United States (based on receivables). The GM Card(R), a co-brandedcredit card issued as part of our alliance with General Motors Corporation("GM"), enables customers to earn discounts on the purchase or lease of a new GMvehicle. The UP card program with the AFL-CIO provides benefits and services tomembers of various national and international labor unions. The Household Bank,Orchard Bank and HSBC branded credit cards offer specialized credit cardproducts to consumers underserved by traditional providers or are marketed inconjunction with merchant relationships established through our retail servicesbusiness. The Direct Merchants Bank branded MasterCard/Visa is a general purposecard marketed to near-prime customers through direct mail and strategicpartnerships. HSBC branded cards are targeted through direct mail at the primemarket. In addition, Credit Card Services services $1.2 billion of receivablesheld by an affiliate, HSBC Bank USA. New receivables and accounts related to theHSBC Bank USA portfolio are originated by HSBC Bank Nevada, N.A., andreceivables are sold daily to HSBC Bank USA. Our MasterCard and Visa business is generated primarily through direct mail,telemarketing, Internet applications, application displays, promotional activityassociated with our affinity and co-branding relationships, mass-mediaadvertisement (The GM Card(R)) and merchant relationships sourced through ourretail services business. We also cross-sell our credit cards to our existingconsumer lending and retail services customers as well as our taxpayer financialservices customers. Although our relationships with GM and the AFL-CIO enable us to access aproprietary customer base, in accordance with our agreements with theseinstitutions, we own all receivables originated under the programs and areresponsible for all credit and collection decisions as well as the funding forthe programs. These programs are not dependent upon any payments, guarantees orcredit support from these institutions. As a result, we are not directlydependent upon GM or the AFL-CIO for any specific earnings stream associatedwith these programs. We believe we have a strong working relationship with GMand the AFL-CIO and in 2005 and 2004, we jointly agreed with GM and the AFL-CIO,respectively, to extend the term of these successful cobranded and Affinity CardPrograms. These agreements do not expire in the near term. INTERNATIONAL Our United Kingdom subsidiary is a mid-market consumer lender focusing oncustomer service through its branch locations, and consumer electronics throughits retail finance operations and telemarketing. This business offers securedand unsecured lines of credit, secured and unsecured closed-end loans, retailfinance products and insurance products. We operate in England, Scotland, Wales,Northern Ireland and the Republic of Ireland. In December 2005 we sold our U.K.credit card business to HSBC Bank plc. Under agreement with HSBC Bank plc, wewill continue to provide collection services and other support services,including components of the compliance, financial reporting and human resourcefunctions, for this credit card portfolio. Loans held in the United Kingdom and the Republic of Ireland are originatedthrough a branch network consisting of 187 HFC Bank Limited and BeneficialFinance branches, merchants, direct mail, broker referrals, the Internet andoutbound telemarketing. Following the sale of the U.K. credit card business,which included $3.1 billion of managed credit card receivables, we hadapproximately $5.9 billion in managed 10 HSBC Finance Corporation-------------------------------------------------------------------------------- receivables, 2.0 million customer accounts and 3,600 employees in our operationsin the United Kingdom and the Republic of Ireland. We opened offices in Hungary, Czech Republic and Slovakia in 2001, 2002 and2005, respectively, to facilitate the expansion plans of one of our U.K.merchant alliances. These offices have approximately $147 million in managedreceivables and 340 employees. Our Canadian business offers real estate secured and unsecured lines of credit,secured and unsecured closed-end loans, insurance products, private label creditcards, MasterCard credit card loans, retail finance products and auto loans toCanadian consumers. These products are marketed through 124 branch offices in 10provinces, through direct mail, 80 merchant relationships, 1,000 auto dealerrelationships and the Internet. At December 31, 2005, this business hadapproximately $3.2 billion in managed receivables, 1.0 million customer accountsand 1,500 employees. ALL OTHER Our insurance services operation distributes credit life, disability andunemployment, accidental death and disability, term life, whole life, annuities,disability, long term care and a variety of other specialty insurance productsto our customers and the customers of HSBC Bank USA. Such products currently areoffered throughout the United States and Canada and are offered to customersbased upon their particular needs. Insurance is directly written by or reinsuredwith one or more of our subsidiaries. The taxpayer financial services business is the leading U.S. provider oftax-related financial products to consumers through nearly 25,000 unaffiliatedprofessional tax preparer locations and tax preparation software providers.Serving more than 9 million customers annually, this business leverages theannual U.S. income tax filing process to provide products that offer consumersquick and convenient access to funds in the amount of their anticipated taxrefund. Our taxpayer financial services business processes and collects onrefund anticipation loans that are originated by HSBC Bank USA. In 2005, thisbusiness generated a loan volume of approximately $15.1 billion and employed 125full-time employees. To help ensure high standards of responsible lending, we provideindustry-leading compliance programs for our tax preparer business partners. Keyelements of our compliance efforts include mandatory online compliance andsales-practice training, expanded tax preparer due diligence processes, andon-going sales practice monitoring to help ensure that our customers are treatedfairly and that they understand their financial choices. Additionally, access tofree consumer financial education resources and a 48-hour satisfaction guaranteeare offered to customers, which further enhances our compliance and customerservice efforts. Our commercial operations are very limited in scope and are expected to continueto decline. We have less than $200 million in commercial receivables. FUNDING-------------------------------------------------------------------------------- We fund our operations globally and domestically, using a combination of capitalmarket and affiliate debt, preferred equity, securitizations, sales of consumerreceivables and borrowings under secured financing facilities. We will continueto fund a large part of our operations in the global capital markets, primarilythrough the use of secured financings, commercial paper, medium-term notes andlong-term debt. We will also continue to sell certain receivables, including ourdomestic private label originations (excluding retail sales contracts) to HSBCBank USA. Our sale of the entire domestic private label portfolio (excludingretail sales contracts at our consumer lending business) to HSBC Bank USAoccurred in December 2004 and was a significant source of our funding in 2005. Our continued success and prospects for growth are largely dependent upon accessto the global capital markets. Numerous factors, internal and external, mayimpact our access to, and the costs associated with, 11 HSBC Finance Corporation-------------------------------------------------------------------------------- these markets. These factors may include our debt ratings, overall economicconditions, overall capital markets volatility and the effectiveness of ourmanagement of credit risks inherent in our customer base. The merger with HSBC has improved our access to the capital markets and loweredour funding costs. In addition to providing several important sources of directfunding, our affiliation with HSBC has also expanded our access to a worldwidepool of potential investors. While these new funding synergies have somewhatreduced our reliance on traditional sources to fund our growth, we are focusedon balancing our use of affiliate and third-party funding sources to minimizefunding expense while maximizing liquidity. Because we are now a subsidiary ofHSBC and our credit ratings have improved, our credit spreads relative toTreasuries have tightened relative to those we experienced during the monthsleading up to the announcement of our acquisition by HSBC. Primarily as a resultof these tightened credit spreads, we recognized cash funding expense savings ofapproximately $600 million in 2005, $350 million in 2004 and $125 million in2003 compared to the funding costs we would have incurred using average spreadsand funding mix from the first half of 2002. We anticipate that these tightenedcredit spreads in combination with the issuance of new HSBC Finance Corporationdebt and other funding synergies including asset transfers and external feesavings will enable HSBC to realize annual cash funding expense savings inexcess of $1 billion per year which is anticipated to be achieved in 2006. In2005, cash funding expense savings realized by HSBC totaled approximately $865million. Our long-term debt, preferred stock and commercial paper ratings, as well as thelong-term debt and commercial paper ratings of our Canadian subsidiary, havebeen assigned investment grade ratings by all nationally recognized statisticalrating organizations. For a detailed listing of the ratings that have beenassigned to HSBC Finance Corporation and our significant subsidiaries as ofDecember 31, 2005, see Exhibit 99.1 to this Form 10-K. Our affiliates provided funding sources for our operations through draws on abank line in the U.K., investing in our debt, acquiring credit card, privatelabel and real estate secured receivables, providing additional common equityand underwriting sales of our debt securities and Series B preferred stock toHSBC clients and customers. In 2005, total HSBC related funding aggregated $44.1billion. A detailed listing of the sources of such funding can be found in"Liquidity and Capital Resources" in our 2005 MD&A. We expect to continue toobtain significant funding from HSBC related sources in the future. Historically, securitization of consumer receivables has been a source offunding and liquidity for HSBC Finance Corporation. In order to align ouraccounting treatment with that of HSBC, in the third quarter of 2004 we began tostructure all new collateralized funding transactions as secured financings. Again on sale of receivables is recorded in a securitization. Secured financingsare recorded as debt and no gain on sale is recognized. The termination of saletreatment for new collateralized funding activity reduces reported net incomeunder U.S. GAAP, but does not impact cash received from operations. ExistingMasterCard and Visa credit card and personal non-credit card transactions werestructured as sales to revolving trusts that require the addition of newreceivables to support required cash distributions on outstanding securitiesuntil the contractual obligation terminates, the last of which is currentlyprojected to occur in 2008. Until that time, replenishment gains on sale ofreceivables for these securitizations will continue to be reflected in ourfinancial statements. Generally, for each securitization and secured financing we utilize creditenhancement to obtain investment grade ratings on the securities issued by thetrust. To ensure that adequate funds are available to pay investors theircontractual return, we may retain various forms of interests in assets securinga funding transaction, whether structured as a securitization or a securedfinancing, such as over-collateralization, subordinated series, residualinterests (in the case of securitizations) in the receivables or we may fundcash accounts. Over-collateralization is created by transferring receivables tothe trust issuing the securities that exceed the balance of the securities to beissued. Subordinated interests provide additional assurance of payment toinvestors holding senior securities. Residual interests are also referred to asinterest-only strip receivables and represent rights to future cash flows fromreceivables in a securitization trust after investors receive their contractual 12 HSBC Finance Corporation-------------------------------------------------------------------------------- return. Cash accounts can be funded by an initial deposit at the time thetransaction is established and/or from interest payments on the receivables thatexceed the investor's contractual return. Additional information on our sources and availability of funding are set forthin the "Liquidity and Capital Resources" and "Off Balance Sheet Arrangements"sections of our 2005 MD&A. We will continue to use derivative financial instruments to hedge our currencyand interest rate risk exposure. A description of our use of derivativefinancial instruments, including interest rate swaps and foreign exchangecontracts, and other quantitative and qualitative information about our marketrisk is set forth in Item 7. "Management's Discussion and Analysis of FinancialCondition and Results of Operations" ("2005 MD&A") under the caption "RiskManagement" and Note 15, "Derivative Financial Instruments," of our consolidatedfinancial statements ("2005 Financial Statements"). REGULATION AND COMPETITION-------------------------------------------------------------------------------- REGULATION CONSUMER Our consumer finance businesses operate in a highly regulated environment. Thesebusinesses are subject to laws relating to consumer protection, discriminationin extending credit, use of credit reports, privacy matters, and disclosure ofcredit terms and correction of billing errors. They also are subject to certainregulations and legislation that limit operations in certain jurisdictions. Forexample, limitations may be placed on the amount of interest or fees that a loanmay bear, the amount that may be borrowed, the types of actions that may betaken to collect or foreclose upon delinquent loans or the information about acustomer that may be shared. Our consumer branch lending offices are generallylicensed in those jurisdictions in which they operate. Such licenses havelimited terms but are renewable, and are revocable for cause. Failure to complywith these laws and regulations may limit the ability of our licensed lenders tocollect or enforce loan agreements made with consumers and may cause our lendingsubsidiaries to be liable for damages and penalties. There also continues to be a significant amount of legislative activity,nationally, locally and at the state level, aimed at curbing lending practicesdeemed to be "predatory", particularly when such practices are believed todiscriminate against certain groups. In addition, states have sought to alterlending practices through consumer protection actions brought by state attorneysgeneral and other state regulators. Legislative activity in this area isexpected to continue targeting certain abusive practices such as loan "flipping"(making a loan to refinance another loan where there is no tangible benefit tothe borrower), fee "packing" (addition of unnecessary, unwanted and unknown feesto a borrower), "equity stripping" (lending without regard to the borrower'sability to repay or making it impossible for the borrower to refinance withanother lender), and outright fraud. HSBC Finance Corporation does not condone,endorse or engage in any of these practices. We continue to work with regulatorsand consumer groups to create appropriate safeguards to avoid these abusivepractices while allowing our borrowers to continue to have access to credit forpersonal purposes, such as the purchase of homes, automobiles and consumergoods. As part of this effort we have adopted a set of lending best practiceinitiatives. Increased legislative and regulatory focus is also expected on taxrefund anticipation loans. We anticipate increased legislation seeking to limitthe amount of interest rates and fees that may be charged for refundanticipation loans as well as efforts to limit permissible interchange feescharged to merchants and suppliers of services. It is possible that newlegislative or regulatory initiatives will impose additional costs and rules onour businesses. Although we have the ability to react quickly to new laws andregulations, it is too early to estimate the effect, if any, these activitieswill have on us in a particular locality or nationally. The Federal Financial Institutions Examination Counsel ("FFIEC") publishedguidance in 2005 that mandates changes to the required minimum monthly paymentamount and limits certain fees that may be charged on non-prime credit cardaccounts. The requirements were effective on January 1, 2006. It is anticipatedthat the changes will result in decreased non-prime credit card fee income andfluctuations in the provision for credit losses as credit loss provisions forprime accounts will increase as a result of higher required 13 HSBC Finance Corporation-------------------------------------------------------------------------------- monthly payments while the non-prime provision decreases due to lower levels offees incurred by customers. We do not expect the changes will have a materialimpact on our consolidated results, but the impact is expected to have amaterial impact on the earnings of our Credit Card Services segment. Because thepotential impact can only be estimated based upon numerous assumptions and anumber of factors that are difficult to predict, such as changes in customerbehavior, the ultimate impact will not be fully known or understood for sometime. BANKING INSTITUTIONS Our credit card banking subsidiary, HSBC Bank Nevada, N.A. ("HSBC Bank Nevada"),is a Federally chartered 'credit card bank' which is also a member of theFederal Reserve System. HSBC Bank Nevada is subject to regulation, supervisionand examination by the Office of the Comptroller of the Currency ("OCC"). Thedeposits of HSBC Bank Nevada are insured by the FDIC, which renders it subjectto relevant FDIC regulation. As a result of our acquisition by HSBC, HSBC Finance Corporation and itssubsidiaries became subject to supervision, regulation and examination by theBoard of Governors of the Federal Reserve System (the "Federal Reserve Board").HSBC is a bank holding company under the U.S. Bank Holding Company Act of 1956,as amended (the "BHCA") as a result of its ownership of HSBC Bank USA. OnJanuary 1, 2004, HSBC formed a new company to hold all of its North Americaoperations, including HSBC Finance Corporation and its subsidiaries. Thiscompany, HSBC North America Holdings Inc. ("HNAH") is also a bank holdingcompany under the BHCA, by virtue of its ownership and control of HSBC Bank USA.HSBC and HNAH are registered as financial holding companies under theGramm-Leach-Bliley Act amendments to the BHCA, enabling them to offer a broadrange of financial products and services. The United States is a party to the 1988 Basel Capital Accord (the "Accord") andU.S. bank regulatory agencies have adopted risk-based capital requirements forUnited States banks and bank holding companies that are generally consistentwith the Accord. In addition, U.S. bank regulatory agencies have adopted'leverage' capital requirements that generally require United States banks andbank holding companies to maintain a minimum amount of capital in relation totheir balance sheet assets (measured on a non-risk-weighted basis). HSBC BankNevada is subject to these capital requirements. In June 2004, the Basel Committee on Banking Supervision ("Basel") published arevised capital adequacy framework for complex and internationally active banks.Banking regulators in individual countries are expected to adopt implementingrules and standards for local banking institutions under their jurisdiction.This framework ("Basel II") is now being considered by U.S. bank regulatoryagencies, including the Federal Reserve Board and the OCC. In 2005, the U.S.bank regulatory agencies delayed issuing final rules pending further analysis ofcapital impact studies. The U.S. bank regulatory agencies are now expected topublish proposed capital adequacy regulations implementing Basel II by mid-year2006, followed by the final rules sometime on or around the end of 2006. Theearliest that U.S. banking organizations may adopt the new rules is January 1,2009. In 2004, HSBC was advised by the U.S. bank regulatory agencies that HSBC NorthAmerica and its subsidiaries, including HSBC Finance Corporation, are consideredto be mandatory participants in the new capital framework. HSBC North Americahas established comprehensive Basel II implementation project teams comprised ofrisk management specialists representing all risk disciplines. At this time, weare unable to fully quantify the potential impact of the Basel II standards onHSBC Finance Corporation. HSBC Bank Nevada, like other FDIC-insured banks, may be required to payassessments to the FDIC for deposit insurance under the FDIC's Bank InsuranceFund. Under the FDIC's risk-based system for setting deposit insuranceassessments, an institution's assessments vary according to the level of capitalan institution holds, its deposit levels and other factors. 14 HSBC Finance Corporation-------------------------------------------------------------------------------- The Federal Deposit Insurance Corporation Improvement Act of 1991 provides forextensive regulation of insured depository institutions such as HSBC BankNevada, including requiring Federal banking regulators to take 'promptcorrective action' with respect to FDIC-insured banks that do not meet minimumcapital requirements. At December 31, 2005, HSBC Bank Nevada waswell-capitalized under applicable OCC and FDIC regulations. Our principal United Kingdom subsidiary (HFC Bank Limited., formerly known asHFC Bank plc) is subject to oversight and regulation by the U.K. FinancialServices Authority ("FSA") and the Irish Financial Services Regulatory Authorityof the Republic of Ireland. We have indicated our intent to the FSA to maintainthe regulatory capital of this institution at specified levels. We do notanticipate that any capital contribution will be required for our United Kingdombank in the near term. In May 2005, new consumer protection laws were effectivein the U.K. that will impact ongoing profitability and operations. These changesdid not have a material impact on our results. We also maintain a trust company in Canada, which is subject to regulatorysupervision by the Office of the Superintendent of Financial Institutions. INSURANCE Our credit insurance business is subject to regulatory supervision under thelaws of the states and provinces in which it operates. Regulations vary fromstate to state, and province to province, but generally cover licensing ofinsurance companies, premium and loss rates, dividend restrictions, types ofinsurance that may be sold, permissible investments, policy reserverequirements, and insurance marketing practices. Our insurance operations in the United Kingdom are subject to regulatorysupervision by the FSA. COMPETITION The consumer financial services industry in which we operate is highlyfragmented and intensely competitive. We generally compete with banks, thrifts,insurance companies, credit unions, mortgage lenders and brokers, financecompanies, investment banks, and other domestic and foreign financialinstitutions in the United States, Canada and the United Kingdom. We compete byexpanding our customer base through portfolio acquisitions or alliance andco-branding opportunities, offering a variety of consumer loan products andmaintaining a strong service orientation. Customers are generally attracted toconsumer finance products based upon price, available credit limits and otherproduct features. As a result, customer loyalty is often limited. We believe ourfocus on the specific needs of our customers, proprietary credit scoring modelsand strong analytics in all aspects of our business allow us to competeeffectively for middle market customers. CORPORATE GOVERNANCE AND CONTROLS-------------------------------------------------------------------------------- HSBC Finance Corporation maintains a website at www.hsbcusa.com/hsbc-finance on which we make available, as soon as reasonably practicable afterfiling with or furnishing to the SEC, our annual report on Form 10-K, quarterlyreports on Form 10-Q, current reports on Form 8-K, and any amendments to thesereports. Our website also contains our Corporate Governance Standards andcommittee charters for the Audit, Compensation, Executive and Nominating andGovernance Committees of our Board of Directors. We have a Statement of BusinessPrinciples and Code of Ethics that expresses the principles upon which weoperate our businesses. Integrity is the foundation of all our businessendeavors and is the result of continued dedication and commitment to thehighest ethical standards in our relationships with each other, with otherorganizations and individuals who are our customers. You can find our Statementof Business Principles and Code of Ethics on our corporate website. We also havea Code of Ethics for Senior Financial Officers that applies to our finance andaccounting professionals that supplements the Statement of Business Principles.That Code of Ethics is incorporated by reference in Exhibit 14 to this AnnualReport on Form 10-K. You can request 15 HSBC Finance Corporation-------------------------------------------------------------------------------- printed copies of this information at no charge. Requests should be made to HSBCFinance Corporation, 2700 Sanders Road, Prospect Heights, Illinois 60070,Attention: Corporate Secretary. HSBC Finance Corporation has a Disclosure Committee that is responsible formaintenance and evaluation of our disclosure controls and procedures and forassessing the materiality of information required to be disclosed in periodicreports filed with the SEC. Among its responsibilities is the review ofquarterly certifications of business and financial officers throughout HSBCFinance Corporation as to the integrity of our financial reporting process, theadequacy of our internal and disclosure control practices and the accuracy ofour financial statements. CERTIFICATIONS In addition to certifications from our Chief Executive Officer and ChiefFinancial Officer pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of2002 (attached to this report on Form 10-K as Exhibits 31 and 32), we have alsofiled a certification with the New York Stock Exchange (the "NYSE") from ourChief Executive Officer certifying that he is not aware of any violation by HSBCFinance Corporation of the applicable NYSE corporate governance listingstandards in effect as of March 6, 2006. CAUTIONARY STATEMENT ON FORWARD-LOOKING STATEMENTS-------------------------------------------------------------------------------- Certain matters discussed throughout this Form 10-K constitute forward-lookingstatements within the meaning of the Private Securities Litigation Reform Act of1995. In addition, we may make or approve certain statements in future filingswith the SEC, in press releases, or oral or written presentations byrepresentatives of HSBC Finance Corporation that are not statements ofhistorical fact and may also constitute forward-looking statements. Words suchas "may", "will", "should", "would", "could", "believe", "intends", "expects","estimates", "targeted", "plans", "anticipates", "goal" and similar expressionsare intended to identify forward-looking statements but should not be consideredas the only means through which these statements may be made. These matters orstatements will relate to our future financial condition, results of operations,plans, objectives, performance or business developments and will involve knownand unknown risks, uncertainties and other factors that may cause our actualresults, performance or achievements to be materially different from that whichwas expressed or implied by such forward-looking statements. Forward-lookingstatements are based on our current views and assumptions and speak only as ofthe date they are made. HSBC Finance Corporation undertakes no obligation toupdate any forward-looking statement to reflect subsequent circumstances orevents. ITEM 1A. RISK FACTORS-------------------------------------------------------------------------------- Many important factors, many of which are out of our control, could affect ouractual results and could cause our results to vary materially from thoseexpressed in public statements or documents. These include: - changes in laws and regulations, including attempts by local, state and national regulatory agencies or offices or legislative bodies to control alleged "predatory" or discriminatory lending practices through broad or targeted initiatives aimed at lenders operating in consumer lending markets, including with respect to non-traditional mortgage products and tax refund anticipation loans; - increased competition from well-capitalized companies or lenders with access to government sponsored organizations for our consumer segment which may impact the terms, rates, costs or profits historically included in the loan products we offer or purchase; - changes in accounting or credit policies, practices or standards, as they may be internally modified from time to time or changes as may be required by regulatory agencies or the Financial Accounting Standards Board; - changes to operational practices from time to time, such as determinations to sell receivables from our private label portfolio, structuring more collateralized funding as secured financings, or changes to our customer account management policies and practices and risk management/collection practices; 16 HSBC Finance Corporation-------------------------------------------------------------------------------- - changes in overall economic conditions, including the interest rate environment in which we operate, the capital markets in which we fund our operations, the market values of consumer owned real estate throughout the United States, recession, employment and currency fluctuations; - consumer perception of the availability of credit, including price competition in the market segments we target and the ramifications or ease of filing for personal bankruptcy; - the effectiveness of models or programs to predict loan delinquency or loss and initiatives to improve collections in all business areas, and changes we may make from time to time in these models, programs and initiatives; - changes in management's estimates of probable losses inherent in our loan portfolio; - continued consumer acceptance of our distribution systems and demand for our loan or insurance products; - changes associated with, as well as the difficulty in, integrating systems, operational functions and cultures, as applicable, of any organization or portfolio acquired by HSBC Finance Corporation, such as Metris; - a reduction of our debt ratings by any of the nationally recognized statistical rating organizations that rate our debt instruments to a level that is below our current rating; - amendments to, and interpretations of risk-based capital guidelines and reporting instructions, including changes in response to the Basel II Capital Accords; - the impact of raising the required minimum payments on our credit card accounts which was effective January 2006; - the costs, effects and outcome of regulatory reviews or litigation relating to our nonprime loan receivables or the business practices or policies of any of our business units, including, but not limited to, additional compliance requirements; - increased funding costs resulting from instability in the capital markets and risk tolerance of fixed income investors; - the costs, effects and outcomes of any litigation matter that is determined or otherwise resolved adversely to HSBC Finance Corporation or its subsidiaries; - the ability to attract and retain qualified personnel to support the credit risk analysis, underwriting, servicing, collection and sales functions of our businesses; - failure to obtain expected funding from HSBC subsidiaries and clients; - the impact of natural and other catastrophic disasters and the ability to collect on our receivables in affected areas; and - the inability of HSBC Finance Corporation to manage any or all of the foregoing risks as well as anticipated. ITEM 1B. UNRESOLVED STAFF COMMENTS.-------------------------------------------------------------------------------- We have no unresolved written comments from the Securities and ExchangeCommission Staff that have been outstanding for more than 180 days at December31, 2005. ITEM 2. PROPERTIES.-------------------------------------------------------------------------------- Our operations are located throughout the United States, in 10 provinces inCanada and in the United Kingdom, with principal facilities located inLewisville, Texas; New Castle, Delaware; Brandon, Florida; Jacksonville,Florida; Tampa, Florida; Chesapeake, Virginia; Virginia Beach, Virginia;Hanover, Maryland; Minnetonka, Minnesota; Bridgewater, New Jersey; Rockaway, NewJersey; Las Vegas, Nevada; Charlotte, North Carolina; Portland, Oregon; Pomona,California; Chicago, Illinois; Elmhurst, Illinois; Franklin Park, Illinois;Mount Prospect, Illinois; Prospect Heights, Illinois; Schaumburg, Illinois;Vernon Hills, Illinois; Wood Dale, Illinois; Carmel, Indiana; Salinas,California; San Diego, California; London, Kentucky; Sioux Falls, South Dakota;Toronto, Ontario and Montreal, Quebec, Canada; Windsor, Berkshire, UnitedKingdom and Birmingham, United Kingdom. 17 HSBC Finance Corporation-------------------------------------------------------------------------------- Substantially all branch offices, divisional offices, corporate offices,regional processing and regional servicing center spaces are operated underlease with the exception of the headquarters building for our United Kingdomoperations, a credit card processing facility in Las Vegas, Nevada; a processingcenter in Vernon Hills, Illinois; servicing facilities in London, Kentucky, Mt.Prospect, Illinois, Orlando, Florida and Chesapeake, Virginia; offices inBirmingham, United Kingdom and an airplane hanger in Wheeling, Illinois. Webelieve that such properties are in good condition and meet our current andreasonably anticipated needs. ITEM 3. LEGAL PROCEEDINGS.-------------------------------------------------------------------------------- GENERAL We are parties to various legal proceedings resulting from ordinary businessactivities relating to our current and/or former operations. Certain of theseactions are or purport to be class actions seeking damages in very largeamounts. These actions assert violations of laws and/or unfair treatment ofconsumers. Due to the uncertainties in litigation and other factors, we cannotbe certain that we will ultimately prevail in each instance. We believe that ourdefenses to these actions have merit and any adverse decision should notmaterially affect our consolidated financial condition. CONSUMER LITIGATION During the past several years, the press has widely reported certain industryrelated concerns that may impact us. Some of these involve the amount oflitigation instituted against finance and insurance companies operating incertain states and the large awards obtained from juries in those states. Likeother companies in this industry, some of our subsidiaries are involved in anumber of lawsuits pending against them in these states. The cases, inparticular, generally allege inadequate disclosure or misrepresentation offinancing terms. In some suits, other parties are also named as defendants.Unspecified compensatory and punitive damages are sought. Several of these suitspurport to be class actions or have multiple plaintiffs. The judicial climate inthese states is such that the outcome of all of these cases is unpredictable.Although our subsidiaries believe they have substantive legal defenses to theseclaims and are prepared to defend each case vigorously, a number of such caseshave been settled or otherwise resolved for amounts that in the aggregate arenot material to our operations. Appropriate insurance carriers have beennotified of each claim, and a number of reservations of rights letters have beenreceived. Certain of the financing of merchandise claims have been partiallycovered by insurance. CREDIT CARD SERVICES LITIGATION On November 15, 2004, a matter entitled American Express Travel Related ServicesCompany, Inc. v. Visa U.S.A. Inc., et al. was filed in the U.S. District Courtfor the Southern District of New York. This case alleged that HSBC FinanceCorporation, Household Bank (SB), N.A. (the "HSBC defendants") and othersviolated Sections 1 and 2 of the Sherman Act by conspiring to monopolize andunreasonably restrain trade by allegedly implementing and enforcing an agreementrequiring any United States bank that issues Visa or MasterCard general cards torefuse to issue such cards from competitors, such as American Express andDiscover. Plaintiff sought a declaration that defendants (including Visa,MasterCard and other banks belonging to those associations), violated theantitrust laws, and requested an injunction restraining the defendants, theirdirectors, officers, employees, agents, successors, owners and members from"continuing or maintaining in any manner, directly or indirectly, the rules,policies, and agreements at issue," and sought "full compensation for damages ithas sustained, from each Defendant, jointly, severally," for each of plaintiff'sclaims, in an amount "to be trebled according to law, plus interest, attorneys'fees and costs of suit". On December 27, 2005, plaintiff and the HSBC defendantsfiled a stipulation of dismissal with the Court that dismissed all claimsagainst the HSBC defendants. Since June 2005, HSBC Finance Corporation, HSBC North America Holdings Inc., andHSBC Holdings plc., as well as other banks and the Visa and Master Cardassociations, were named as defendants in four class 18 HSBC Finance Corporation-------------------------------------------------------------------------------- actions filed in Connecticut and the Eastern District of New York; Photos Etc.Corp. et al. v. Visa U.S.A., Inc., et al. (D. Conn. No. 3:05-CV-01007 (WWE)):National Association of Convenience Stores, et al. v. Visa U.S.A., Inc., etal.(E.D.N.Y. No. 05-CV 4520 (JG)); Jethro Holdings, Inc., et al. v. Visa U.S.A.,Inc. et al. (E.D.N.Y. No. 05-CV-4521 (JG)); and American Booksellers Ass'n v.Visa U.S.A., Inc. et al. (E.D.N.Y. No. 05-CV-5391 (JG)). Numerous othercomplaints containing similar allegations (in which no HSBC entity is named)have been filed across the country against Visa, MasterCard and other banks.These actions principally allege that the imposition of a no-surcharge rule bythe associations and/or the establishment of the interchange fee charged forcredit card transactions causes the merchant discount fee paid by retailers tobe set at supracompetitive levels in violation of the Federal antitrust laws.The plaintiffs filed motions with the Judicial Panel on Multidistrict Litigation(the "MDL Panel") to consolidate these actions, and on October 19, 2005, the MDLPanel issued an order transferring all of the cases to the Eastern District ofNew York. At this time, we are unable to quantify the potential impact from thisaction, if any. SECURITIES LITIGATION In August 2002, we restated previously reported consolidated financialstatements. The restatement related to certain MasterCard and Visa co-brandingand affinity credit card relationships and a third party marketing agreement,which were entered into between 1992 and 1999. All were part of our Credit CardServices segment. In consultation with our prior auditors, Arthur Andersen LLP,we treated payments made in connection with these agreements as prepaid assetsand amortized them in accordance with the underlying economics of theagreements. Our current auditor, KPMG LLP, advised us that, in its view, thesepayments should have either been charged against earnings at the time they weremade or amortized over a shorter period of time. The restatement resulted in a$155.8 million, after-tax, retroactive reduction to retained earnings atDecember 31, 1998. As a result of the restatement, and other corporate events,including, e.g., the 2002 settlement with 50 states and the District of Columbiarelating to real estate lending practices, HSBC Finance Corporation, and itsdirectors, certain officers and former auditors, have been involved in variouslegal proceedings, some of which purport to be class actions. A number of theseactions allege violations of Federal securities laws, were filed between Augustand October 2002, and seek to recover damages in respect of allegedly false andmisleading statements about our common stock. These legal actions have beenconsolidated into a single purported class action, Jaffe v. HouseholdInternational, Inc., et al., No. 02 C 5893 (N.D. Ill., filed August 19, 2002),and a consolidated and amended complaint was filed on March 7, 2003. On December3, 2004, the court signed the parties' stipulation to certify a class withrespect to the claims brought under sec.10 and sec.20 of the Securities ExchangeAct of 1934. The parties stipulated that plaintiffs will not seek to certify aclass with respect to the claims brought under sec.11 and sec.15 of theSecurities Act of 1933 in this action or otherwise. The amended complaint purports to assert claims under the Federal securitieslaws, on behalf of all persons who purchased or otherwise acquired oursecurities between October 23, 1997 and October 11, 2002, arising out of allegedfalse and misleading statements in connection with our sales and lendingpractices, the 2002 state settlement agreement referred to above, therestatement and the HSBC merger. The amended complaint, which also names asdefendants Arthur Andersen LLP, Goldman, Sachs & Co., and Merrill Lynch, Pierce,Fenner & Smith, Inc., fails to specify the amount of damages sought. In May2003, we, and other defendants, filed a motion to dismiss the complaint. OnMarch 19, 2004, the Court granted in part, and denied in part the defendants'motion to dismiss the complaint. The Court dismissed all claims against MerrillLynch, Pierce, Fenner & Smith, Inc. and Goldman Sachs & Co. The Court alsodismissed certain claims alleging strict liability for alleged misrepresentationof material facts based on statute of limitations grounds. The claims thatremain against some or all of the defendants essentially allege the defendantsknowingly made a false statement of a material fact in conjunction with thepurchase or sale of securities, that the plaintiffs justifiably relied on suchstatement, the false statement(s) caused the plaintiffs' damages, and that someor all of the defendants should be liable for those alleged statements. Allfactual discovery must be completed by May 12, 2006 and expert witness discoverymust be completed by July 24, 2006. At this time, we are unable to quantify thepotential impact from this action, if any. 19 HSBC Finance Corporation-------------------------------------------------------------------------------- On June 27, 2003, a case entitled, West Virginia Laborers Pension Trust Fund v.Caspersen, et al., was filed in the Chancery Division of the Circuit Court ofCook County, Illinois as case number 03CH10808. This purported class actionnamed as defendants the directors of Beneficial Corporation at the time of the1998 merger of Beneficial Corporation into a subsidiary of HSBC FinanceCorporation, and claimed that those directors' due diligence of HSBC FinanceCorporation at the time they considered the merger was inadequate. The Complaintclaimed that as a result of some of the securities law and other violationsalleged in the Jaffe case, HSBC Finance Corporation common shares lost value.Pursuant to the merger agreement with Beneficial Corporation, we assumed thedefense of this litigation. In September of 2003, the defendants filed a motionto dismiss which was granted on June 15, 2004 based upon a lack of personaljurisdiction over the defendants. The plaintiffs appealed that decision. On May11, 2005, the appellate court affirmed the trial court's ruling. The time forany further appeals has expired. In addition, on June 30, 2004, a case entitled,Employer-Teamsters Local Nos. 175 & 505 Pension Trust Fund v. Caspersen, et al.,was filed in the Superior Court of New Jersey, Law Division, Somerset County asCase Number L9479-04. Other than the change in plaintiff, the suit issubstantially identical to the foregoing West Virginia Laborer's Pension TrustFund case, and is brought by the same principal law firm that brought that suit.The defendants' motion to dismiss was granted on February 10, 2005. Afterbriefing and oral argument, on February 24, 2006 the appellate court affirmedthe trial court's ruling dismissing the complaint. The plaintiffs have 30 daysto appeal this ruling. With respect to these securities litigation matters, we believe that we havenot, and our officers and directors have not, committed any wrongdoing and ineach instance there will be no finding of improper activities that may result ina material liability to us or any of our officers or directors. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.-------------------------------------------------------------------------------- Not applicable This information is provided by RNS The company news service from the London Stock ExchangeRelated Shares:
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