31st Mar 2005 12:30
HSBC Holdings PLC31 March 2005 -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------- FORM 10-Q/A --------------------- (Mark One)(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004 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 (FORMERLY KNOWN AS HOUSEHOLD INTERNATIONAL, INC.) (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 --------------------- 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 (X) No ( ) Indicate by check mark whether the registrant is an accelerated filer (asdefined in Rule 12b-2 of the Exchange Act). Yes ( ) No (X) At April 30, 2004, there were 50 shares of the registrant's common stockoutstanding, all of which were indirectly owned by HSBC Holdings plc. THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTIONH(1)(A) AND (B) OF FORM 10-Q AND IS THEREFORE FILING THIS FORM 10-Q WITH THEREDUCED DISCLOSURE FORMAT.-------------------------------------------------------------------------------- HOUSEHOLD INTERNATIONAL, INC. FORM 10-Q/A TABLE OF CONTENTS PART I. FINANCIAL INFORMATION-----------------------------------------------------------------------------------Item 1. Consolidated Financial Statements Statement of Income......................................... 4 Balance Sheet............................................... 5 Statement of Changes in Shareholder's(s') Equity............ 6 Statement of Cash Flows..................................... 7 Notes to Consolidated Financial Statements.................. 8Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Financial Highlights........................................ 18 Restatement................................................. 20 Executive Overview.......................................... 21 Basis of Reporting.......................................... 23 Operations Summary.......................................... 29 Receivables Review.......................................... 31 Results of Operations....................................... 32 Segment Results - Managed Basis............................. 37 Credit Quality.............................................. 40 Liquidity and Capital Resources............................. 45 Reconciliations to GAAP Financial Measures.................. 49Item 4. Controls and Procedures..................................... 53 PART II. OTHER INFORMATION-----------------------------------------------------------------------------------Item 1. Legal Proceedings........................................... 53Item 6. Exhibits and Reports on Form 8-K............................ 56Signature.................................................................... 57 2 EXPLANATORY NOTE HSBC Finance Corporation (formerly known as Household International, Inc.) isfiling this amended Quarterly Report on Form 10-Q/A to reflect the restatementof its unaudited consolidated financial statements for the periods covered bythis report. Please see Note 2 to the Consolidated Financial Statements and the"Restatement" section included in Item 2, Management's Discussion and Analysisof Financial Condition and Results of Operations below for a detailed discussionof the restatement. As more fully described therein, we have restated allreported periods since our acquisition by HSBC Holdings plc on March 28, 2003 toeliminate hedge accounting on all hedging relationships outstanding on that dateand certain fair value swaps entered into after that date. This restatement issolely the result of the failure to satisfy certain technical requirements ofStatement of Financial Accounting Standards No. 133, "Accounting for DerivativeInstruments and Hedging Activities." This amended Quarterly Report on Form 10-Q/A restates the Quarterly Report onForm 10-Q for the quarter ended March 31, 2004. We have not modified or updatedthe disclosures in the original Quarterly Report on Form 10-Q except as requiredto give effect to the restatement. As a result, this amended Quarterly Report onForm 10-Q/A contains forward-looking information that has not been updated forevents subsequent to the date of the original filing, and all informationcontained in this amended Quarterly Report on Form 10-Q/A and the originalQuarterly Report on Form 10-Q is subject to updating and supplementing asprovided in the periodic reports that we have filed and will file with theSecurities and Exchange Commission after the original filing date of theQuarterly Report on Form 10-Q. 3 PART I. FINANCIAL INFORMATION--------------------------------------------------------------------------------ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS Household International, Inc.--------------------------------------------------------------------------------CONSOLIDATED STATEMENT OF INCOME THREE MONTHS MARCH 29 JANUARY 1 ENDED THROUGH THROUGH MARCH 31, MARCH 31, MARCH 28, 2004 2003 2003------------------------------------------------------------------------------------------------------ (SUCCESSOR) (SUCCESSOR) (PREDECESSOR) (RESTATED) (RESTATED) (IN MILLIONS)Finance and other interest income......................... $2,528 $ 75 $2,469Interest expense.......................................... 708 19 897 ------ ---- ------NET INTEREST INCOME....................................... 1,820 56 1,572Provision for credit losses............................... 928 34 976 ------ ---- ------NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES..... 892 22 596 ------ ---- ------Other revenues: Securitization revenue.................................. 348 9 434 Insurance revenue....................................... 211 6 171 Investment income....................................... 41 1 80 Derivative income....................................... 52 215 2 Fee income.............................................. 265 9 280 Taxpayer financial services income...................... 206 - 181 Other income............................................ 100 5 64 ------ ---- ------TOTAL OTHER REVENUES...................................... 1,223 245 1,212 ------ ---- ------Costs and expenses: Salaries and employee benefits.......................... 485 18 491 Sales incentives........................................ 78 2 37 Occupancy and equipment expenses........................ 83 3 98 Other marketing expenses................................ 132 4 139 Other servicing and administrative expenses............. 226 9 314 Support services from HSBC affiliates................... 177 - - Amortization of intangibles............................. 116 2 12 Policyholders' benefits................................. 113 3 91 HSBC acquisition related costs incurred by Household.... - - 198 ------ ---- ------TOTAL COSTS AND EXPENSES.................................. 1,410 41 1,380 ------ ---- ------Income before income tax expense.......................... 705 226 428Income tax expense........................................ 235 82 182 ------ ---- ------NET INCOME................................................ $ 470 $144 $ 246 ====== ==== ====== The accompanying notes are an integral part of the consolidated financialstatements. 4 Household International, Inc.--------------------------------------------------------------------------------CONSOLIDATED BALANCE SHEET MARCH 31, DECEMBER 31, 2004 2003---------------------------------------------------------------------------------------------- (SUCCESSOR) (RESTATED) (SUCCESSOR) (IN MILLIONS, EXCEPT SHARE DATA)ASSETSCash........................................................ $ 199 $ 463Securities.................................................. 6,737 11,073Receivables, net............................................ 92,034 91,027Intangible assets, net...................................... 2,749 2,856Goodwill.................................................... 6,853 6,697Properties and equipment, net............................... 505 527Real estate owned........................................... 656 631Derivative financial assets................................. 3,152 3,016Other assets................................................ 2,950 2,762 -------- --------TOTAL ASSETS................................................ $115,835 $119,052 ======== ========LIABILITIESDebt: Deposits.................................................. $ 91 $ 232 Commercial paper, bank and other borrowings............... 9,103 9,122 Due to affiliates......................................... 5,436 7,589 Long term debt (with original maturities over one year)... 77,754 79,632 -------- --------Total debt.................................................. 92,384 96,575Insurance policy and claim reserves......................... 1,264 1,258Derivative related liabilities.............................. 500 597Other liabilities........................................... 3,678 3,131 -------- -------- TOTAL LIABILITIES......................................... 97,826 101,561SHAREHOLDER'S EQUITYPreferred stock held by HSBC................................ 1,100 1,100Common shareholder's equity: Common stock, $0.01 par value, 100 shares authorized, 50 shares issued...................................... - - Additional paid-in capital............................. 14,640 14,645 Retained earnings...................................... 1,755 1,303 Accumulated other comprehensive income................. 514 443 -------- --------TOTAL COMMON SHAREHOLDER'S EQUITY........................... 16,909 16,391 -------- --------TOTAL LIABILITIES AND SHAREHOLDER'S EQUITY.................. $115,835 $119,052 ======== ======== The accompanying notes are an integral part of the consolidated financialstatements. 5 Household International, Inc.-------------------------------------------------------------------------------- CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDER'S(S') EQUITY THREE MONTHS MARCH 29 JANUARY 1 ENDED THROUGH THROUGH MARCH 31, MARCH 31, MARCH 28, 2004 2003 2003-------------------------------------------------------------------------------------------------------- (SUCCESSOR) (SUCCESSOR) (PREDECESSOR) (RESTATED) (RESTATED) (IN MILLIONS)PREFERRED STOCK Balance at beginning of period............................ $ 1,100 $ 1,100 $ 1,193 Reclassification of preferred stock issuance costs........ - - 21 Redemption of preferred stock............................. - - (114) ------- ------- ------- Balance at end of period.................................. $ 1,100 $ 1,100 $ 1,100 ======= ======= =======COMMON SHAREHOLDER'S(S') EQUITY COMMON STOCK Balance at beginning of period.......................... $ - $ - $ 552 Effect of push-down accounting of HSBC's purchase price on net assets......................................... - - (552) ------- ------- ------- Balance at end of period................................ $ - $ - $ - ------- ------- ------- ADDITIONAL PAID-IN CAPITAL Balance at beginning of period.......................... $14,645 $14,661 $ 1,911 Return of capital to HSBC............................... (11) - - Employee benefit plans and other........................ 6 - 10 Reclassification of preferred stock issuance costs...... - - (21) Effect of push-down accounting of HSBC's purchase price on net assets......................................... - - 12,761 ------- ------- ------- Balance at end of period................................ $14,640 $14,661 $14,661 ------- ------- ------- RETAINED EARNINGS Balance at beginning of period.......................... $ 1,303 $ - $ 9,885 Net income.............................................. 470 144 246 Dividends: Preferred at stated rates............................. (18) - (22) Common, $.8694 per share.............................. - - (412) Effect of push-down accounting of HSBC's purchase price on net assets......................................... - - (9,697) ------- ------- ------- Balance at end of period................................ $ 1,755 $ 144 $ - ------- ------- ------- ACCUMULATED OTHER COMPREHENSIVE INCOME Balance at beginning of period.......................... $ 443 $ - $ (695) Net change in unrealized gains (losses) on: Derivatives classified as cash flow hedges.......... (17) 2 101 Securities available for sale and interest-only strip receivables................................. 49 7 (25) Minimum pension liability............................. - 4 - Foreign currency translation adjustments.............. 39 - (24) ------- ------- ------- Other comprehensive income, net of tax................ 71 13 52 Effect of push-down accounting of HSBC's purchase price on net assets......................................... - - 643 ------- ------- ------- Balance at end of period................................ $ 514 $ 13 $ - ------- ------- ------- COMMON STOCK IN TREASURY Balance at beginning of period.......................... $ - $ - $(2,431) Exercise of stock options............................... - - 12 Issuance of common stock for employee benefit plans..... - - 12 Purchase of treasury stock.............................. - - (164) Effect of push-down accounting of HSBC's purchase price on net assets......................................... - - 2,571 ------- ------- ------- Balance at end of period................................ - - - ------- ------- -------TOTAL COMMON SHAREHOLDER'S(S') EQUITY....................... $16,909 $14,818 $14,661 ------- ------- -------COMPREHENSIVE INCOME Net income................................................ $ 470 $ 144 $ 246 Other comprehensive income................................ 71 13 52 ------- ------- -------COMPREHENSIVE INCOME........................................ $ 541 $ 157 $ 298 ======= ======= ======= The accompanying notes are an integral part of the consolidated financialstatements. 6 Household International, Inc.-------------------------------------------------------------------------------- CONSOLIDATED STATEMENT OF CASH FLOWS THREE MONTHS MARCH 29 JANUARY 1 ENDED THROUGH THROUGH MARCH 31, MARCH 31, MARCH 28, 2004 2003 2003-------------------------------------------------------------------------------------------------------- (SUCCESSOR) (SUCCESSOR) (PREDECESSOR) (RESTATED) (RESTATED) (IN MILLIONS)CASH FLOWS FROM OPERATING ACTIVITIESNet income.................................................. $ 470 $ 144 $ 246Adjustments to reconcile net income to net cash provided by (used in) operating activities: Provision for credit losses............................... 928 34 976 Insurance policy and claim reserves....................... (36) 3 47 Depreciation and amortization............................. 145 4 53 Net change in interest-only strip receivables............. 112 5 30 Net change in other assets................................ (162) - (593) Net change in other liabilities........................... 350 26 616 Other, net................................................ 93 (257) 84 ---------- ------- ---------Net cash provided by (used in) operating activities......... 1,900 (41) 1,459 ---------- ------- ---------CASH FLOWS FROM INVESTING ACTIVITIESSecurities: Purchased................................................. (608) - (1,047) Matured................................................... 572 8 584 Sold...................................................... 59 - 768Net change in short-term securities available for sale...... 4,387 546 (375)Receivables: Originations, net of collections.......................... (10,927) (382) (8,255) Purchases and related premiums............................ (33) (117) (129) Initial and fill-up securitizations....................... 7,942 (154) 7,300 Sales to affiliates....................................... 856 - -Properties and equipment: Purchases................................................. (12) - (21) Sales..................................................... 1 - - ---------- ------- ---------Net cash provided by (used in) investing activities......... 2,237 (99) (1,175) ---------- ------- ---------CASH FLOWS FROM FINANCING ACTIVITIESDebt: Net change in short-term debt and deposits................ (54) 17 (514) Net change in time certificates........................... (133) - 150 Net change in due to affiliates........................... (2,247) - - Long term debt issued..................................... 929 - 4,361 Long term debt retired.................................... (2,861) (54) (4,030)Insurance: Policyholders' benefits paid.............................. (31) (1) (36) Cash received from policyholders.......................... 29 3 33Shareholders' dividends..................................... - - (141)Redemption of preferred stock............................... - - (114)Purchase of treasury stock.................................. - - (164)Issuance of common stock for employee benefit plans......... - - 62 ---------- ------- ---------Net cash provided by (used in) financing activities......... (4,368) (35) (393) ---------- ------- ---------Effect of exchange rate changes on cash..................... (33) 4 (15) ---------- ------- ---------Net change in cash.......................................... (264) (171) (124)Cash at beginning of period................................. 463 674 798 ---------- ------- ---------CASH AT END OF PERIOD....................................... $ 199 $ 503 $ 674 ========== ======= =========SUPPLEMENTAL CASH FLOW INFORMATION:Interest paid............................................... $ 780 $ 71 $ 897Income taxes paid........................................... 120 - 40 ---------- ------- ---------SUPPLEMENTAL NONCASH FINANCING AND CAPITAL ACTIVITIES:Push-down of purchase price by HSBC......................... $ - $ - $ 14,661Exchange of preferred stock for preferred stock issued to HSBC...................................................... - - 1,100 ========== ======= ========= The accompanying notes are an integral part of the consolidated financialstatements. 7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND BASIS OF PRESENTATION-------------------------------------------------------------------------------- The accompanying unaudited interim consolidated financial statements ofHousehold International, Inc. and its subsidiaries (collectively, "Household")have been prepared in accordance with accounting principles generally acceptedin the United States of America ("U.S. GAAP") for interim financial informationand with the instructions to Form 10-Q and Article 10 of Regulation S-X.Accordingly, they do not include all of the information and footnotes requiredby generally accepted accounting principles for complete financial statements.In the opinion of management, all normal and recurring adjustments considerednecessary for a fair presentation of financial position, results of operationsand cash flows for the interim periods have been made. Household may also bereferred to in this Form 10-Q/A as "we," "us" or "our." These unaudited interimconsolidated financial statements should be read in conjunction with the 2003financial information included in our Annual Report on Form 10-K for the yearended December 31, 2004 (the "2004 Form 10-K"). Household International, Inc. is an indirect wholly owned subsidiary of HSBCHoldings plc ("HSBC"). Household was acquired by HSBC on March 28, 2003 in apurchase business combination recorded under the "push-down" method ofaccounting, which resulted in a new basis of accounting for the "successor"period beginning March 29, 2003. Information relating to all "predecessor"periods prior to the acquisition is presented using our historical basis ofaccounting, which impacts comparability to our successor period. The preparation of financial statements in conformity with U.S. GAAP requiresthe use of estimates and assumptions that affect reported amounts anddisclosures. Actual results could differ from those estimates. Interim resultsshould not be considered indicative of results in future periods. Interim financial statement disclosures required by U.S. GAAP regarding segmentsare included in the Management's Discussion and Analysis of Financial Conditionand Results of Operations ("MD&A") section of this Form 10-Q/A. Certain reclassifications have been made to prior period amounts to conform tothe current period presentation. Immaterial adjustments have been made todecrease finance income and increase securitization revenue as reported in priorperiods. These adjustments reflect corrections after discovery of a systemprogramming error in the posting of finance income between owned receivables andreceivables serviced with limited recourse. Reported net income for all priorperiods was not affected by these adjustments. 2. RESTATEMENT-------------------------------------------------------------------------------- We have restated our consolidated financial statements for the previouslyreported period March 29, 2003 through December 31, 2003, and the previouslyreported quarterly period ended March 31, 2004. This amended Quarterly Report onForm 10-Q/A and the exhibits included herewith include all adjustments relatingto the restatement for the periods covered by this report. During the fourth quarter of 2004, as part of our preparation for theimplementation of International Financial Reporting Standards ("IFRS") by HSBCfrom January 1, 2005, we undertook a review of our hedging activities to confirmconformity with the accounting requirements of IFRS, which differ in severalrespects from the hedge accounting requirements under U.S. GAAP as set out inStatement of Financial Accounting Standards No. 133, "Accounting for DerivativeInstruments and Hedging Activities," ("SFAS 133"). As a result of this review,management determined that there were some deficiencies in the documentationrequired to support hedge accounting under U.S. GAAP. These documentationdeficiencies arose following our acquisition by HSBC. As a consequence of theacquisition, pre-existing hedging relationships, including hedging relationshipsthat had previously qualified under the "shortcut" method of accounting pursuantto SFAS 133, were required to be reestablished. At that time there was somedebate in the accounting profession regarding the detailed technicalrequirements resulting from a business combination. We consulted with ourindependent accountants, KPMG LLP, in reaching a 8 determination of what was required in order to comply with SFAS 133. Followingthis, we took the actions we believed were necessary to maintain hedgeaccounting for all of our historical hedging relationships in our consolidatedfinancial statements for the period ended December 31, 2003 and thoseconsolidated financial statements received an unqualified audit opinion. Management, having determined during the fourth quarter of 2004 that there werecertain documentation deficiencies, engaged independent expert consultants toadvise on the continuing effectiveness of the identified hedging relationships.As a result of this assessment, we concluded that a substantial number of ourhedges met the correlation effectiveness requirements of SFAS 133 throughout theperiod following our acquisition by HSBC. However, we also determined inconjunction with KPMG LLP that, although a substantial number of the impactedhedges satisfied the correlation effectiveness requirement of SFAS 133, therewere technical deficiencies in the documentation that could not be correctedretroactively or disregarded notwithstanding the proven effectiveness of thehedging relationships in place and, consequently, that the requirements of SFAS133 were not met and that hedge accounting was not appropriate during the periodthese documentation deficiencies existed. We have therefore determined that weshould restate all the reported periods since our acquisition by HSBC toeliminate hedge accounting on all hedging relationships outstanding at March 29,2003 and certain fair value swaps entered into after that date. This wasaccomplished primarily by reclassifying the mark to market of the changes infair market value of the affected derivative financial instruments previouslyclassified in either debt or other comprehensive income into current periodearnings. The period to period changes in the fair value of these derivative financialinstruments have been recognized as either an increase or decrease in ourcurrent period earnings through derivative income. As part of the restatementprocess, we have reclassified all previous hedging results reflected in interestexpense associated with the affected derivative financial instruments toderivative income. Our independent registered public accounting firm hasreviewed the March 31, 2004 financial results and has provided us a reviewreport under Statement on Auditing Standards No. 100, which review report isattached to this amended Quarterly Report on Form 10-Q/A as Exhibit 99.2. The restatement effect on our pre-tax income and net income for the periodsMarch 29, 2003 through March 31, 2003 and the quarter ended March 31, 2004 aresummarized below: RESTATEMENTS TO REPORTED INCOME ---------------------------------------------- % CHANGE PRE-TAX TAX EFFECT AFTER-TAX TO REPORTED ------- ---------- --------- ---------------------------------------------------------------------------------------------------------------- (DOLLARS IN MILLIONS)March 29, 2003 through March 31, 2003................ $212 $(77) $135 100+%Quarter ended March 31, 2004......................... (17) 6 (11) (2.3) A detailed summary of the impact of the restatement on our consolidatedstatement of income and on our consolidated balance sheet is as follows: QUARTER ENDED MARCH 29, 2003 THROUGH MARCH 31, 2004 MARCH 31, 2003 --------------------------- --------------------------- AS PREVIOUSLY AS PREVIOUSLY AS REPORTED AS RESTATED REPORTED RESTATED ------------- ----------- ------------- -------------------------------------------------------------------------------------------------------------------- (IN MILLIONS)Consolidated Statement of Income: Net interest income......................... $1,891* $1,820 $60* $ 56 Other revenues.............................. 1,169* 1,223 29* 245 Income before income tax expense............ 722 705 14 226 Income tax expense.......................... 241 235 5 82 Net income.................................. 481 470 9 144 9 AT MARCH 31, 2004 AT DECEMBER 31, 2003 --------------------------- --------------------------- AS PREVIOUSLY AS PREVIOUSLY REPORTED AS RESTATED REPORTED AS RESTATED ------------- ----------- ------------- -------------------------------------------------------------------------------------------------------------------- (IN MILLIONS)Consolidated Balance Sheet: Derivative financial assets................. $ 3,190 $ 3,152 $ 3,118 $ 3,016 Long-term debt.............................. 77,564 77,754 79,464 79,632 Derivative related liabilities.............. 509 500 600 597 Other liabilities........................... 3,757 3,678 3,228 3,131 Common shareholder's equity................. 17,049 16,909 16,561 16,391 --------------- * Certain reclassifications have been made to prior period amounts to conform to the current year presentation. The resulting accounting does not reflect the economic reality of our hedgingactivity and has no impact on the timing or amount of operating cash flows orcash flows under any debt or derivative contract. It does not affect our abilityto make required payments on our outstanding debt obligations. Furthermore, oureconomic risk management strategies have not required amendment. 3. SECURITIES-------------------------------------------------------------------------------- Securities consisted of the following available-for-sale investments: MARCH 31, 2004 DECEMBER 31, 2003 -------------------- --------------------- AMORTIZED FAIR AMORTIZED FAIR COST VALUE COST VALUE------------------------------------------------------------------------------------------------- (IN MILLIONS)Corporate debt securities.......................... $ 2,362 $ 2,422 $ 5,641 $ 5,652Money market funds................................. 924 924 794 794Time deposits...................................... 326 326 952 952U.S. government and federal agency debt securities....................................... 1,826 1,827 2,430 2,428Marketable equity securities....................... - - 14 18Non-government mortgage backed securities.......... 317 320 389 389Other.............................................. 862 872 794 796 -------- -------- --------- ---------Subtotal........................................... 6,617 6,691 11,014 11,029Accrued investment income.......................... 46 46 44 44 -------- -------- --------- ---------Total securities available for sale................ $ 6,663 $ 6,737 $ 11,058 $ 11,073 ======== ======== ========= ========= 10 4. RECEIVABLES-------------------------------------------------------------------------------- Receivables consisted of the following: MARCH 31, DECEMBER 31, 2004 2003-------------------------------------------------------------------------------------- (IN MILLIONS)Real estate secured......................................... $ 52,440 $ 51,221Auto finance................................................ 4,936 4,138MasterCard(1)/Visa(1)....................................... 10,788 11,182Private label............................................... 11,759 12,604Personal non-credit card.................................... 13,343 12,832Commercial and other........................................ 384 401 -------- --------Total owned receivables..................................... 93,650 92,378Purchase accounting fair value adjustments.................. 366 419Accrued finance charges..................................... 1,363 1,432Credit loss reserve for owned receivables................... (3,753) (3,793)Unearned credit insurance premiums and claims reserves...... (689) (703)Interest-only strip receivables............................. 944 1,036Amounts due and deferred from receivable sales.............. 153 258 -------- --------Total owned receivables, net................................ 92,034 91,027Receivables serviced with limited recourse.................. 24,357 26,201 -------- --------Total managed receivables, net.............................. $116,391 $117,228 ======== ======== --------------- (1) MasterCard is a registered trademark of MasterCard International, Incorporated and Visa is a registered trademark of VISA USA, Inc. Purchase accounting fair value adjustments represent adjustments which have been"pushed down" to record our receivables at fair value at the date of acquisitionby HSBC. Interest-only strip receivables are reported net of our estimate of probablelosses under the recourse provisions for receivables serviced with limitedrecourse. Our estimate of the recourse obligation totaled $2.2 billion at March31, 2004 and $2.4 billion at December 31, 2003. Interest-only strip receivablesalso included fair value mark-to-market adjustments which increased the balanceby $277 million at March 31, 2004 and $257 million at December 31, 2003. Receivables serviced with limited recourse consisted of the following: MARCH 31, DECEMBER 31, 2004 2003-------------------------------------------------------------------------------------- (IN MILLIONS)Real estate secured......................................... $ 182 $ 194Auto finance................................................ 4,093 4,675MasterCard/Visa............................................. 9,536 9,967Private label............................................... 5,261 5,261Personal non-credit card.................................... 5,285 6,104 ------- -------Total....................................................... $24,357 $26,201 ======= ======= 11 The combination of receivables owned and receivables serviced with limitedrecourse, which comprises our managed portfolio, is shown below: MARCH 31, DECEMBER 31, 2004 2003-------------------------------------------------------------------------------------- (IN MILLIONS)Real estate secured......................................... $ 52,622 $ 51,415Auto finance................................................ 9,029 8,813MasterCard/Visa............................................. 20,324 21,149Private label............................................... 17,020 17,865Personal non-credit card.................................... 18,628 18,936Commercial and other........................................ 384 401 -------- --------Total....................................................... $118,007 $118,579 ======== ======== 5. CREDIT LOSS RESERVES-------------------------------------------------------------------------------- An analysis of credit loss reserves was as follows: THREE MONTHS ENDED MARCH 31, 2004 2003------------------------------------------------------------------------------ (IN MILLIONS)Owned receivables: Credit loss reserves at beginning of period............... $ 3,793 $3,333 Provision for credit losses............................... 928 1,010 Charge-offs............................................... (1,050) (934) Recoveries................................................ 80 60 Other, net................................................ 2 14 ------- ------ Credit loss reserves for owned receivables................ 3,753 3,483 ------- ------Receivables serviced with limited recourse: Credit loss reserves at beginning of period............... 2,374 1,759 Provision for credit losses............................... 253 407 Charge-offs............................................... (499) (418) Recoveries................................................ 27 20 Other, net................................................ 4 8 ------- ------ Credit loss reserves for receivables serviced with limited recourse............................................... 2,159 1,776 ------- ------Credit loss reserves for managed receivables................ $ 5,912 $5,259 ======= ====== We maintain credit loss reserves to cover probable losses of principal, interestand fees, including late, overlimit and annual fees. Credit loss reserves arebased on a range of estimates and are intended to be adequate but not excessive.We estimate probable losses of owned consumer receivables using a roll ratemigration analysis that estimates the likelihood that a loan will progressthrough the various stages of delinquency, or buckets, and ultimately chargeoff. This analysis considers delinquency status, loss experience and severityand takes into account whether loans are in bankruptcy, have been restructuredor rewritten, or are subject to forbearance, an external debt management plan,hardship, modification, extension or deferment. Our credit loss reserves alsotake into consideration the loss severity expected based on the underlyingcollateral, if any, for the loan in the event of default. Delinquency status maybe affected by customer account management policies and practices, such as therestructure of accounts, forbearance agreements, extended payment plans,modification arrangements, consumer credit counseling accommodations, loanrewrites and deferments. If customer account management policies, or changesthereto, shift loans from a "higher" delinquency bucket to a "lower" delinquencybucket, this will be 12 reflected in our roll rate statistics. To the extent that restructured accountshave a greater propensity to roll to higher delinquency buckets, this will becaptured in the roll rates. Since the loss reserve is computed based on thecomposite of all of these calculations, this increase in roll rate will beapplied to receivables in all respective delinquency buckets, which willincrease the overall reserve level. In addition, loss reserves on consumerreceivables are maintained to reflect our judgment of portfolio risk factorsthat may not be fully reflected in the statistical roll rate calculation. Riskfactors considered in establishing loss reserves on consumer receivables includerecent growth, product mix, bankruptcy trends, geographic concentrations,economic conditions, portfolio seasoning and current levels of charge-offs anddelinquencies. While our credit loss reserves are available to absorb losses in the entireportfolio, we specifically consider the credit quality and other risk factorsfor each of our products. We recognize the different inherent losscharacteristics in each of our products as well as customer account managementpolicies and practices and risk management/collection practices. Charge-offpolicies are also considered when establishing loss reserve requirements toensure the appropriate reserves exist for products with longer charge-offperiods. We also consider key ratios such as reserves to nonperforming loans andreserves as a percentage of net charge-offs in developing our loss reserveestimates. Loss reserve estimates are reviewed periodically and adjustments arereported in earnings when they become known. As these estimates are influencedby factors outside of our control, such as consumer payment patterns andeconomic conditions, there is uncertainty inherent in these estimates, making itreasonably possible that they could change. 6. INTANGIBLE ASSETS-------------------------------------------------------------------------------- Intangible assets consisted of the following: ACCUMULATED CARRYING GROSS AMORTIZATION VALUE---------------------------------------------------------------------------------------------- (IN MILLIONS)MARCH 31, 2004Purchased credit card relationships and related programs.... $1,518 $196 $1,322Retail services merchant relationships...................... 270 55 215Other loan related relationships............................ 326 43 283Trade names................................................. 717 - 717Technology, customer lists and other contracts.............. 281 69 212 ------ ---- ------Total....................................................... $3,112 $363 $2,749 ====== ==== ======DECEMBER 31, 2003Purchased credit card relationships and related programs.... $1,512 $149 $1,363Retail services merchant relationships...................... 270 41 229Other loan related relationships............................ 326 34 292Trade names................................................. 717 - 717Technology, customer lists and other contracts.............. 281 26 255 ------ ---- ------Total....................................................... $3,106 $250 $2,856 ====== ==== ====== 13 Estimated amortization expense associated with our intangible assets for each ofthe following years is as follows: YEAR ENDING DECEMBER 31,--------------------------------------------------------------------------- (IN MILLIONS)2004........................................................ $3562005........................................................ 3352006........................................................ 3272007........................................................ 3102008........................................................ 215 7. GOODWILL-------------------------------------------------------------------------------- In the process of finalizing our quarterly results and the purchase priceallocation resulting from our merger with HSBC, we determined that certainadjustments to prior fair value estimates were necessary which resulted in a netincrease to goodwill, excluding foreign exchange, in the approximate amount of$141 million. The adjustments related principally to writing off several ageditems remaining on intercompany accounts and to correcting errors noted inrespect of various marketing, rent and payroll accruals that arose over severalprior periods. Since we have completed the one-year anniversary of our mergerwith HSBC, no further merger-related adjustments to our goodwill balance willoccur, except for changes in estimates of the tax basis in our assets andliabilities or other tax estimates recorded at the date of our merger with HSBC,pursuant to Statement of Financial Accounting Standards Number 109, "Accountingfor Income Taxes." 8. INCOME TAXES-------------------------------------------------------------------------------- Our effective tax rate was 33.3 percent (restated) for the quarter ended March31, 2004 (successor), 36.3 percent (restated) for the period March 29 throughMarch 31, 2003 (successor) and 42.5 percent for the period January 1 throughMarch 28, 2003 (predecessor). The effective tax rate for the period ended March 28, 2003 was adverselyimpacted by the non-deductibility of certain HSBC acquisition related costs.Excluding HSBC acquisition related costs of $198 million, which resulted in a$27 million tax benefit, our effective tax rate was 33.3 percent for the periodJanuary 1 through March 28, 2003. The effective tax rate differs from the statutory federal income tax rateprimarily because of the effects of state and local income taxes and taxcredits. 9. ACCUMULATED OTHER COMPREHENSIVE INCOME-------------------------------------------------------------------------------- The components of accumulated other comprehensive income were as follows: MARCH 31, DECEMBER 31, 2004 2003--------------------------------------------------------------------------------------- (RESTATED) (IN MILLIONS)Unrealized gains (losses) on cash flow hedging instruments............................................... $(27) $(11)Unrealized gains on investments and interest-only strip receivables............................................... 216 168Foreign currency translation adjustments.................... 325 286 ---- ----Accumulated other comprehensive income...................... $514 $443 ==== ==== 14 10. STOCK-BASED COMPENSATION-------------------------------------------------------------------------------- In 2002, we adopted the fair value method of accounting for our stock option andemployee stock purchase plans. We elected to recognize stock compensation costprospectively for all new awards granted under those plans beginning January 1,2002 as provided under SFAS No. 148, "Accounting for Stock-BasedCompensation - Transition and Disclosure (an amendment of FASB Statement No.123)" ("SFAS No. 148"). Prior to 2002, we applied the recognition andmeasurement provisions of APB No. 25, "Accounting for Stock Issued to Employees"in accounting for those plans. Because options granted prior to November 2002vested upon completion of the merger with HSBC on March 28, 2003, all of ourstock options are now accounted for using the fair value method. Our employees currently participate in one or more stock compensation plansRelated Shares:
HSBC Holdings