CONFORMED 1.
SECURITIES AND EXCHANGE COMMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Quarterly Period Ended March 31, 2003
Commission file number 1-7436
HSBC USA INC.
(Exact name of registrant as specified in its charter)
Maryland
(State of Incorporation)
13-2764867
(IRS Employer Identification No.)
452 Fifth Avenue, New York, New York 10018
(Address of principal executive offices)
(212) 525-3735
Registrant's telephone number, including area code
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months,
and (2) has been subject to such filing requirements for the
past 90 days.
Yes _X_ No ___
All voting stock (704 shares of Common Stock, $5 par value) is
owned by HSBC North America Inc., an indirect wholly owned
subsidiary of HSBC Holdings plc.
2.
Part I - FINANCIAL INFORMATION
- ----------------------------------------------------------------
Item 1 - Financial Statements Page
Consolidated Balance Sheet
March 31, 2003 and December 31, 2002 3
Consolidated Statement of Income
For The Three Months Ended
March 31, 2003 and 2002 4
Consolidated Statement of Changes in
Shareholders' Equity For The Three Months
Ended March 31, 2003 and 2002 5
Consolidated Statement of Cash Flows
For The Three Months Ended
March 31, 2003 and 2002 6
Notes to Consolidated Financial Statements 7
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations 11
Item 3 - Quantitative and Qualitative Disclosures
About Market Risk 34
Item 4 - Controls and Procedures 34
Part II - OTHER INFORMATION
- ----------------------------------------------------------------
Item 1 - Legal Proceedings 36
Item 5 - Other Information 36
Item 6 - Exhibits and Reports on Form 8-K 36
Signature 37
Certifications 38
3.
HSBC USA Inc.
- ------------------------------------------------------------------
C O N S O L I D A T E D B A L A N C E S H E E T
March 31, December 31,
2003 2002
- --------------------------------------------------------------------
in thousands
Assets
Cash and due from banks $ 2,076,852 $ 2,081,279
Interest bearing deposits with banks 1,298,626 1,048,294
Federal funds sold and securities
purchased under resale agreements 4,374,875 2,742,943
Trading assets 11,120,060 13,408,215
Securities available for sale 14,521,056 14,694,115
Securities held to maturity (fair value
$4,742,798 and $4,905,162) 4,483,774 4,628,482
Loans 43,664,678 43,635,872
Less - allowance for credit losses 495,907 493,125
- --------------------------------------------------------------------
Loans, net 43,168,771 43,142,747
Premises and equipment 709,662 726,457
Accrued interest receivable 335,889 328,595
Equity investments 282,537 278,270
Goodwill 2,829,074 2,829,074
Other assets 3,538,304 3,517,730
- --------------------------------------------------------------------
Total assets $88,739,480 $89,426,201
====================================================================
Liabilities
Deposits in domestic offices
Noninterest bearing $ 5,594,603 $ 5,731,442
Interest bearing 35,992,119 34,902,431
Deposits in foreign offices
Noninterest bearing 424,652 397,743
Interest bearing 19,064,631 18,798,723
- --------------------------------------------------------------------
Total deposits 61,076,005 59,830,339
- --------------------------------------------------------------------
Trading account liabilities 6,120,415 7,710,010
Short-term borrowings 6,795,638 7,392,368
Interest, taxes and other liabilities 3,683,181 3,422,047
Subordinated long-term debt and perpetual
capital notes 2,108,117 2,109,163
Guaranteed mandatorily redeemable
securities 1,071,127 1,050,942
Other long-term debt 520,203 514,739
- ------------------------------------------------------------------
Total liabilities 81,374,686 82,029,608
- --------------------------------------------------------------------
Shareholders' equity
Preferred stock 500,000 500,000
Common shareholder's equity
Common stock 4 4
Capital surplus 6,047,321 6,056,307
Retained earnings 571,202 578,083
Accumulated other comprehensive income 246,267 262,199
- ---------------------------------------------------------------------
Total common shareholder's equity 6,864,794 6,896,593
- ---------------------------------------------------------------------
Total shareholders' equity 7,364,794 7,396,593
- ---------------------------------------------------------------------
Total liabilities and shareholders' equity $88,739,480 $89,426,201
=====================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
4.
HSBC USA Inc.
- --------------------------------------------------------------------------
C O N S O L I D A T E D S T A T E M E N T O F I N C O M E
Three months ended March 31,
2003 2002
- --------------------------------------------------------------------------
in thousands
Interest income
Loans $ 610,381 $ 635,012
Securities 240,623 247,717
Trading assets 40,187 33,256
Short-term investments 20,641 45,143
Other interest income 6,863 5,430
- --------------------------------------------------------------------------
Total interest income 918,695 966,558
- --------------------------------------------------------------------------
Interest expense
Deposits 187,832 271,892
Short-term borrowings 37,914 53,090
Long-term debt 48,396 59,563
- --------------------------------------------------------------------------
Total interest expense 274,142 384,545
- --------------------------------------------------------------------------
Net interest income 644,553 582,013
Provision for credit losses 56,250 73,500
- --------------------------------------------------------------------------
Net interest income, after
provision for credit losses 588,303 508,513
- --------------------------------------------------------------------------
Other operating income
Trust income 22,987 24,899
Service charges 51,409 47,421
Mortgage banking revenue 19,030 17,280
Other fees and commissions 109,302 92,537
Other income 37,026 25,060
Trading revenues:
Treasury business and other 69,824 43,254
Residential mortgage business
related (25,673) (11,315)
------------ ------------
Total trading revenues 44,151 31,939
Security gains, net 26,538 38,001
- --------------------------------------------------------------------------
Total other operating income 310,443 277,137
- --------------------------------------------------------------------------
898,746 785,650
- --------------------------------------------------------------------------
Operating expenses
Salaries and employee benefits 278,790 253,295
Occupancy expense, net 38,203 35,905
Other expenses 168,669 160,820
- --------------------------------------------------------------------------
Total operating expenses 485,662 450,020
- --------------------------------------------------------------------------
Income before taxes and minority interest 413,084 335,630
Applicable income tax expense 159,000 124,229
Minority interest in net income of subsidiary (336) -
- --------------------------------------------------------------------------
Net income $ 253,748 $ 211,401
==========================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
5.
HSBC USA Inc.
- --------------------------------------------------------------------
C O N S O L I D A T E D S T A T E M E N T O F C H A N G E S
I N S H A R E H O L D E R S' E Q U I T Y
Three months ended March 31,
2003 2002
- --------------------------------------------------------------------
in thousands
Preferred stock
Balance, January 1, $ 500,000 $ 500,000
- --------------------------------------------------------------------
Balance, March 31, 500,000 500,000
- --------------------------------------------------------------------
Common stock
Balance, January 1, 4 4
- --------------------------------------------------------------------
Balance, March 31, 4 4
- --------------------------------------------------------------------
Capital surplus
Balance, January 1, 6,056,307 6,034,598
Capital contribution from parent 4,139 3,860
Return of capital (13,125) -
- --------------------------------------------------------------------
Balance, March 31, 6,047,321 6,038,458
- --------------------------------------------------------------------
Retained earnings
Balance, January 1, 578,083 415,821
Net income 253,748 211,401
Cash dividends declared:
Preferred stock (5,629) (5,750)
Common stock (255,000) (110,000)
- --------------------------------------------------------------------
Balance, March 31, 571,202 511,472
- --------------------------------------------------------------------
Accumulated other comprehensive income (loss)
Balance, January 1, 262,199 98,607
Net change in unrealized gains
on securities (43,985) (47,133)
Net change in unrealized gain (loss) on
derivatives classified as cash flow
hedges 19,262 12,648
Foreign currency translation adjustment 8,791 3,272
- --------------------------------------------------------------------
Other comprehensive loss,
net of tax (15,932) (31,213)
- --------------------------------------------------------------------
Balance, March 31, 246,267 67,394
- --------------------------------------------------------------------
Total shareholders' equity, March 31, $ 7,364,794 $ 7,117,328
====================================================================
Comprehensive income
Net income $ 253,748 $ 211,401
Other comprehensive loss (15,932) (31,213)
- --------------------------------------------------------------------
Comprehensive income $ 237,816 $ 180,188
====================================================================
The accompanying notes are an integral part of the consolidated
financial statements.
6.
HSBC USA Inc.
- --------------------------------------------------------------------------------
C O N S O L I D A T E D S T A T E M E N T O F C A S H F L O W S
Three months ended March 31,
2003 2002
- --------------------------------------------------------------------------------
in thousands
Cash flows from operating activities
Net income $ 253,748 $ 211,401
Adjustments to reconcile net income to net cash
(used) by operating activities
Depreciation, amortization and deferred taxes 87,070 21,673
Provision for credit losses 56,250 73,500
Net change in other accrual accounts 152,097 (1,070,254)
Net change in loans originated for sale (219,750) (286,966)
Net change in trading assets and liabilities 81,607 11,059
Other, net (169,146) (199,807)
- --------------------------------------------------------------------------------
Net cash provided (used) by operating
activities 241,876 (1,239,394)
- --------------------------------------------------------------------------------
Cash flows from investing activities
Net change in interest bearing deposits with banks (334,458) 799,567
Net change in short-term investments (1,631,931) (2,791,326)
Purchases of securities held to maturity (523,380) (64)
Proceeds from maturities of securities held to
maturity 831,637 362,838
Purchases of securities available for sale (2,502,073) (4,254,613)
Proceeds from sales of securities available for sale 608,753 2,399,967
Proceeds from maturities of securities available
for sale 2,632,989 960,083
Net change in credit card receivables (2,590) 55,194
Net change in other short-term loans (144,485) (740,282)
Net originations and maturities of long-term loans (16,958) (956,824)
Sales of loans 238,039 15,903
Expenditures for premises and equipment (8,144) (23,314)
Other, net (67,577) 311,037
- --------------------------------------------------------------------------------
Net cash used by investing activities (920,178) (3,861,834)
- --------------------------------------------------------------------------------
Cash flows from financing activities
Net change in deposits 1,495,547 3,124,307
Net change in short-term borrowings (567,072) 1,549,303
Issuance of long-term debt 6,604 359,009
Repayment of long-term debt (501) (880)
Dividends paid (260,703) (115,632)
- --------------------------------------------------------------------------------
Net cash provided by financing activities 673,875 4,916,107
- --------------------------------------------------------------------------------
Net change in cash and due from banks (4,427) (185,121)
Cash and due from banks at beginning of period 2,081,279 2,102,756
- --------------------------------------------------------------------------------
Cash and due from banks at end of period $ 2,076,852 $ 1,917,635
================================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
7.
Notes to Consolidated Financial Statements
1. Basis of Presentation
- ------------------------------------------------------------
The accounting and reporting policies of HSBC USA Inc. (the
Company) and its subsidiaries including its principal
subsidiary, HSBC Bank USA (the Bank), conform to accounting
principles generally accepted in the United States of
America (GAAP) and to predominant practice within the
banking industry. Such policies are consistent with those
applied in the presentation of the Company's 2002 annual
financial statements. In the 2003 first quarter, certain
2002 promulgations of the Financial Accounting Standards
Board and its Emerging Issues Task Force became effective
for the Company. Their adoption had no material effect on
the Company's financial statements.
The preparation of financial statements requires the use of
estimates and assumptions that affect reported amounts and
disclosures. Actual results could differ from those
estimates. Interim results should not be considered
indicative of results in future periods.
The interim financial information in this report has not
been audited. In the opinion of the Company's management,
all adjustments, which are normal and recurring, necessary
for a fair presentation of financial position, results of
operations and cash flows for the interim periods have been
made. The interim financial information should be read in
conjunction with the Company's 2002 Annual Report on Form
10-K. Certain reclassifications may have been made to prior
period amounts to conform to the current period
presentations.
Interim financial statement disclosures required by GAAP
regarding segments and off-balance sheet arrangements are
included in the Management's Discussion and Analysis of
Financial Condition and Results of Operations (MD&A) section
of this Form 10-Q.
During the fourth quarter of 2002, the Company adopted
Statement of Financial Accounting Standards No. 147,
Acquisitions of Certain Financial Institutions (SFAS 147).
As a result of adopting SFAS 147, $65 million of intangible
assets that were previously reported as identifiable
intangible assets were reclassified retroactively to
January 1, 2002 to goodwill and are no longer amortized.
The amortization previously recorded during the first three
quarters of 2002 was also reversed retroactively in
accordance with SFAS 147. The net effect of this reversal
was not material to the results of the Company.
8.
2. Intangible Assets
- ------------------------------------------------------------
The following table presents all intangible assets of the
Company that are being amortized. Given current market
conditions relative to interest rates and prepayments,
annual mortgage servicing rights (MSRs) amortization for the
years ended December 31, 2003 through 2006 would be
approximately $150 million to $180 million. Actual annual
levels of MSR amortization could either increase or decrease
dependent upon changes in interest rates, prepayment
activity, salable production levels and associated levels of
mortgage servicing right assets. At March 31, 2003
intangible assets are as follows.
- ---------------------------------------------------------------------------------
Intangible Assets
- ---------------------------------------------------------------------------------
Amortization
Gross Expense
Carrying Accumulated 3 Months Ended
Amount Amortization 3/31/03
- ---------------------------------------------------------------------------------
thousands
Mortgage servicing rights $633,914 $249,351 * $49,420 **
Favorable lease arrangements 66,519 14,609 1,255
- ---------------------------------------------------------------------------------
Total $700,433 $263,960 $50,675
=================================================================================
* Includes a $41.9 million impairment valuation reserve.
** Includes $11.5 million of provision for impairment.
3. Related Party Transactions
- ------------------------------------------------------------
In the normal course of business, the Company conducts
transactions with HSBC, including its 25% or more owned
subsidiaries (HSBC Group). These transactions occur at
prevailing market rates and terms. The following table
presents related party balances and the total income and
expense generated by those transactions.
- -------------------------------------------------------------------
March 31, December 31,
2003 2002
- -------------------------------------------------------------------
in millions
Assets:
Interest bearing deposits with banks $ 110 $ 130
Loans 291 338
Other 23 38
- -------------------------------------------------------------------
Total assets $ 424 $ 506
- -------------------------------------------------------------------
Liabilities:
Deposits $6,948 $6,140
Short-term borrowings 299 267
Other 410 349
- -------------------------------------------------------------------
Total liabilities $7,657 $6,756
- -------------------------------------------------------------------
- -------------------------------------------------------------------
Three months ended March 31, 2003 2002
- -------------------------------------------------------------------
in millions
Interest income $ 7 $ 8
Interest expense 26 21
- -------------------------------------------------------------------
9.
At March 31, 2003 and December 31, 2002, the aggregate
notional amounts of all derivative contracts with other HSBC
affiliates were $99 billion and $88 billion, respectively.
Extensions of credit by the Company to other HSBC affiliates
are legally required to be secured by eligible collateral.
Employees of the Company participate in one or more stock
option plans sponsored by HSBC. The Company's share of the
expense of the plans for the first quarter of 2003 and 2002
was $4.1 million and $3.9 million, respectively.
4. Pledged Assets
- ------------------------------------------------------------
The following table presents pledged assets included in the
consolidated balance sheet.
- --------------------------------------------------------------------
Pledged Assets
- --------------------------------------------------------------------
March 31, December 31,
2003 2002
- --------------------------------------------------------------------
in millions
Interest bearing deposits with banks $ 65 $ 65
Trading assets 1,162 1,770
Securities available for sale 5,418 6,083
Securities held to maturity 1,489 1,607
Loans 396 343
- --------------------------------------------------------------------
Total $8,530 $9,868
====================================================================
5. Litigation
- ------------------------------------------------------------
The Company is named in and is defending legal actions in
various jurisdictions arising from its normal business.
None of these proceedings is regarded as material
litigation. In addition, there are certain proceedings
related to the "Princeton Note Matter" that are described
below.
In relation to the Princeton Note Matter, as disclosed in
the Company's 2002 Annual Report on Form 10-K, two of the
noteholders were not included in the settlement and their
civil suits are continuing. The U.S. Government excluded
one of them from the restitution order (Yakult Honsha Co.,
Ltd.) because a senior officer of the noteholder was being
criminally prosecuted in Japan for his conduct relating to
its Princeton Notes. The senior officer in question was
convicted of various criminal charges related to the sale of
the Princeton Notes during September 2002. The U.S.
Government excluded the other noteholder (Maruzen Company,
Limited) because the sum it is likely to recover from the
Princeton Receiver exceeds its losses attributable to its
funds transfers with Republic New York Securities
Corporation as calculated by the U.S. Government. Both of
these civil suits seek compensatory, punitive, and treble
damages pursuant to RICO and assorted fraud and breach of
duty claims arising from unpaid Princeton Notes with face
amounts totaling approximately $125 million. No amount of
compensatory damages is specified in either complaint.
These two complaints name the Company, HSBC Bank USA,
10.
and Republic New York Securities Corporation as defendants.
The Company and HSBC Bank USA have moved to dismiss both
complaints. The motion is fully briefed and sub judice.
Mutual production of documents took place in 2001, but
additional discovery proceedings have been suspended pending
the Court's resolution of the motions to dismiss.
As previously reported, a purported class action entitled
Ravens v. Republic New York Corporation, et al., was filed
on October 7, 1999 in the United States District Court for
the Eastern District of Pennsylvania on behalf of former
shareholders of Republic New York Corporation (Republic) who
acquired common stock between May 10, 1999 (when the signing
of the merger agreement between Republic and the Company was
announced) and September 15, 1999. On January 16, 2003, the
Court denied plaintiff's motion for class certification and
also denied a motion by the plaintiff to provide notice to
the proposed class that the named plaintiff wished to
withdraw from the case. The Court required plaintiff's
counsel to provide a substitute plaintiff by February 15,
2003. When plaintiff's counsel failed to do so, the Company
moved to dismiss for this and other reasons. Plaintiff's
counsel then agreed to stipulate to dismiss the action with
prejudice; and the Court entered an order to that effect on
April 7, 2003.
11.
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
- ------------------------------------------------------------
Performance Overview: First Quarter of 2003 Compared to
the First Quarter of 2002
The Company reported first quarter 2003 net income of $253.7
million, compared with $211.4 million in the first quarter
of 2002. The increase in net income reflects growth in net
interest income, improved trading results in our treasury
business as well as lower provisions for credit losses. A
better yielding mix of loans, securities and deposits on the
balance sheet and lower funding costs contributed to the
increase in net interest income. The improved trading
results reflect increased client activity in credit
derivatives and improved foreign exchange related trading.
The reduced level of provisions for credit losses reflects
better overall credit quality.
Higher levels of operating expenses partially offset the
above noted income growth. The increase in operating
expenses for 2003 is due primarily to higher levels of
salaries and employee benefit costs, reflecting costs
associated with the wealth and tax advisory service
business, which commenced activity during the third quarter
of 2002, increased pension and fringe benefit costs and
higher levels of performance related incentive compensation.
An increase in the effective tax rate also adversely
impacted net income as compared to last year.
Forward-Looking Statements
This report includes forward-looking statements. Statements
that are not historical facts, including statements about
management's beliefs and expectations, are forward-looking
statements and involve inherent risks and uncertainties. A
number of important factors could cause actual results to
differ materially from those contained in any forward-
looking statements. Such factors include, but are not
limited to: sharp and/or rapid changes in interest rates;
significant changes in the economic conditions which could
materially change anticipated credit quality trends and the
ability to generate loans; technology changes and
challenges; significant changes in accounting, tax or
regulatory requirements; consumer behavior; marketplace
perceptions of the Company's reputation and competition in
the geographic and business areas in which the Company
conducts its operations.
12.
HSBC USA Inc.
- --------------------------------------------------------------------------------
CONSOLIDATED AVERAGE BALANCES AND INTEREST RATES*
First Quarter 2003 First Quarter 2002
Balance Interest Rate Balance Interest Rate
- --------------------------------------------------------------------------------
in millions
Assets
Interest bearing deposits
with banks $ 1,216 $ 5.7 1.91% $ 3,590 $ 22.9 2.59%
Federal funds sold and
securities purchased
under resale agreements 4,365 14.9 1.39 4,911 22.2 1.83
Trading assets 13,742 40.2 1.17 9,332 33.3 1.43
Securities 19,204 246.2 5.20 19,035 253.9 5.41
Loans
Domestic
Commercial 16,164 208.8 5.24 16,675 207.3 5.04
Consumer
Residential mortgages 20,905 305.5 5.84 18,752 311.9 6.65
Other consumer 2,975 64.1 8.73 3,050 69.9 9.30
- --------------------------------------------------------------------------------
Total domestic 40,044 578.4 5.86 38,477 589.1 6.21
International 3,156 32.2 4.14 3,627 46.2 5.16
- --------------------------------------------------------------------------------
Total loans 43,200 610.6 5.73 42,104 635.3 6.12
- --------------------------------------------------------------------------------
Other interest ** 6.8 ** ** 5.4 **
- --------------------------------------------------------------------------------
Total earning assets 81,727 $ 924.4 4.59% 78,972 $ 973.0 5.00%
- --------------------------------------------------------------------------------
Allowance for credit losses (503) (515)
Cash and due from banks 2,302 2,049
Other assets 7,427 7,708
- --------------------------------------------------------------------------------
Total assets $ 90,953 $ 88,214
================================================================================
Liabilities and Shareholders' Equity
Deposits in domestic offices
Savings deposits $ 23,151 $ 49.4 0.87% $ 20,203 $ 51.5 1.03%
Other time deposits 11,725 64.7 2.24 13,895 107.8 3.15
Deposits in foreign
offices 19,113 73.7 1.56 19,750 112.6 2.31
- --------------------------------------------------------------------------------
Total interest bearing
deposits 53,989 187.8 1.41 53,848 271.9 2.05
- --------------------------------------------------------------------------------
Short-term borrowings 10,650 37.9 1.44 11,011 53.1 1.96
Long-term debt 3,675 48.4 5.34 4,086 59.5 5.91
- --------------------------------------------------------------------------------
Total interest bearing
liabilities 68,314 $ 274.1 1.63% 68,945 $ 384.5 2.26%
- --------------------------------------------------------------------------------
Interest rate spread 2.96% 2.74%
- --------------------------------------------------------------------------------
Noninterest bearing
deposits 5,950 5,636
Other liabilities 9,361 6,482
Total shareholders'
equity 7,328 7,151
- --------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $ 90,953 $ 88,214
================================================================================
Net yield on average earning assets 3.23% 3.02%
Net yield on average total assets 2.90 2.71
================================================================================
* Interest and rates are presented on a taxable equivalent basis.
** Other interest relates to Federal Reserve Bank and Federal Home Loan
Bank stock included in other assets.
13.
Net Interest Income
- ------------------------------------------------------------
First Quarter of 2003 Compared to the First Quarter of
2002
Net interest income for the first quarter of 2003 was $644.6
million compared with $582.0 million for the first quarter
of 2002, an increase of $62.6 million or 11%. A better
yielding mix of loans, securities and deposits on the
balance sheet and lower funding costs contributed to the
increase in net interest income. Average residential
mortgages outstanding grew over $2 billion as the low
interest rate environment continued to stimulate consumers
to refinance mortgages and purchase new and existing
residential property. There has also been a decrease in
lower margin large corporate loans. The Company experienced
almost $3 billion growth in average savings deposits and
over $300 million growth in average noninterest bearing
deposits. Due to the low interest rate environment and the
current uncertainty of the equity markets many customers
have shown a preference to place funds in savings deposits
as opposed to time deposits and mutual funds. The steep
yield curve and management actions relative to securities
selection, such as purchasing certain longer term debt
securities, have led to an increased interest margin on
treasury investments as compared to 2002.
Forward Outlook
The Company will continue to pursue modest growth in high
quality commercial loans and residential mortgages. Some
less profitable commercial lending relationships are
expected to be exited. We expect continuing weakness in the
U.S. economy and the uncertain world wide political
environment to encourage our corporate customers to adopt a
cautious approach towards revenue growth and capital
spending plans, and this will undoubtedly dampen future loan
demand. Pricing for fees and interest spreads continue to
improve relative to many large corporate customers, although
this trend is most pronounced at the weaker end of the
credit spectrum. The ultimate level of activity in the
residential mortgage portfolio will depend on the rate
environment and the Company's appetite for additional
mortgage products on the balance sheet. Lending activity
should benefit from HSBC Group initiatives, specifically our
cross-border business is expected to benefit from the HSBC
Group's North American alignment initiative. The goal of
this initiative is to increase HSBC brand awareness and to
provide seamless North American service propositions to
customers of the Company and HSBC Bank Canada. The
acquisition of Household International, Inc. by HSBC, which
was completed during the first quarter of 2003, may also
provide an opportunity for future growth. The Company is
also exploring opportunities to acquire certain assets from
Household International, Inc.
The Company expects to fund balance sheet growth with
personal and commercial deposits and some wholesale market
funding. The Company is expected to continue to benefit
from the steep yield curve established in the later part of
2002 into at least the second quarter of 2003. The lower
rate environment may also lead to further movements of
customer funds from certificate of deposit products and
other investments into saving accounts, thus helping to
14.
sustain current interest margins. However, if rates drop
and the yield curve flattens in 2003, interest margins are
likely to shrink. (See Quantitative and Qualitative
Disclosures About Market Risk). This margin shrinkage may
be dampened by balance sheet growth or other management
actions.
Other Operating Income
- ------------------------------------------------------------
First Quarter of 2003 Compared to the First Quarter of
2002
Trust Income
Trust income fell approximately $1.9 million or 8% in 2003,
primarily due to decreases in the value of assets in
personal and employee benefit accounts due to general equity
market conditions and the unstable geo-political situation.
In most cases, the Company's fees are based on the value of
assets managed and/or held.
Service Charges
Service charges increased 8% in 2003 to $51.4 million.
These fees charged on deposit accounts reflect higher rates
on certain customer accounts and business growth in the New
York City region.
Mortgage Banking Revenue
The following table presents the components of mortgage
banking revenue.
- --------------------------------------------------------------
Three months ended March 31, 2003 2002
- --------------------------------------------------------------
in millions
Servicing fee income $ 17.6 $ 17.3
MSRs amortization (49.4) (1) (15.8)
Gain on sale of mortgages 50.9 15.8
Fair value hedge activity (.1) (2) -
- --------------------------------------------------------------
Total mortgage banking revenue (3) $ 19.0 $ 17.3
==============================================================
(1) Includes a $11.5 million provision for impairment.
The impairment was recorded in a valuation reserve which
has a balance of $41.9 million at March 31, 2003.
(2) Includes SFAS 133 qualifying fair value adjustments
related to residential mortgage banking warehouse fair
value hedging activity. In December 2002, the Company
established a qualifying hedge strategy using forward
sales contracts to offset the fair value changes of
conventional closed mortgage loans originated for sale.
(3) Does not include residential mortgage business
related trading revenue or net interest income impact of
the mortgage business.
Mortgage banking revenue increased $1.7 million for the
first quarter of 2003 as compared to the first quarter of
2002. The increase was driven by higher gains on sale of
mortgages, reflecting a favorable rate environment and an
increase in saleable originations, and was partially offset
by higher mortgage servicing rights (MSRs) amortization and
additional provisions for impairment. The higher levels of
MSRs amortization are attributable to the low rate
environment and associated higher level of mortgage
prepayment activity for the first quarter of 2003 compared
to 2002. As of March 31, 2003, the serviced for others
portfolio had an annualized prepayment rate of 40.9%
compared to a 26.2% annualized prepayment rate at March 31,
2002.
15.
Other Fees and Commissions
Other fees and commissions increased approximately $16.8
million in the first quarter of 2003, mainly due to the
inclusion of $11 million of revenue from wealth and tax
advisory services, a business that commenced activity during
the third quarter of 2002. Additionally, an increase
totaling approximately $6 million was realized in commercial
loan, letter of credit, trade services and bankcard fees,
because of increased activity. In the area of wealth
management, there was some slowdown in sales of annuities
and mutual funds associated with the uncertainties affecting
the stock market and lower levels of interest rates.
Other Income
Other income rose about $12.0 million in the first quarter
of 2003, with more than 50% of the increase attributable to
sales of insurance products. The majority of the remainder
of the increase relates to increased earnings from equity
investments.
Forward Outlook - Trust, Service Charges, Mortgage, Fees
and Other Income
The Company will continue to utilize its extensive retail
distribution network, its HSBC Group linkage and its high
quality sales and service culture to pursue revenue growth
despite an uncertain economy. The Company will focus on
growth in brokerage, insurance, mortgage banking, trust,
asset management, private banking and trade service related
fees. Efforts to maximize the "cross-sell" potential of the
existing customer base have shown positive results to date
and will continue to be a key business development theme for
the upcoming year. The Company is expecting to earn
increased fee income from the wealth and tax advisory
service business, which commenced activity during the third
quarter of 2002. Expansion of the Company's reinsurance
business will also remain a strategic initiative. Mortgage
banking will continue to develop its strong NYS and national
presence by leveraging its multi-channeled originations
network to position the mortgage business for maximum
originations opportunities in any type of housing market or
rate environment. Mortgage banking will continue to utilize
its well developed secondary marketing strategy to sell
loans to the "Agencies" (FNMA, FHLMC, GNMA), private
investors and conduits on a servicing retained basis. They
will also pursue selective flow and bulk purchases of
mortgages should market conditions warrant.
Trading Revenues
Trading revenues are generated by the Company's
participation in the foreign exchange, credit derivative and
precious metal markets, from trading derivative contracts,
including interest rate swaps and options, from trading
securities, and as a result of certain residential mortgage
banking activities.
16.
The following table presents trading revenues by business.
The data in the table includes net interest income
earned/(paid) on trading instruments, as well as an
allocation of the funding benefit or cost associated with
the trading positions. The trading related net interest
income component is not included in other operating income;
it is included in net interest income.
- ----------------------------------------------------------------
Three months ended March 31, 2003 2002
- ----------------------------------------------------------------
in millions
Trading revenues -
treasury business and other $ 69.8 $ 43.2
Net interest income * 25.9 13.0
- ----------------------------------------------------------------
Trading related revenues -
treasury business and other $ 95.7 $ 56.2
================================================================
Business:
Derivatives and treasury $ 49.3 $ 24.7
Foreign exchange 21.9 3.5
Precious metals 18.0 19.1
Other trading 6.5 8.9
- ----------------------------------------------------------------
Trading related revenues -
treasury business and other $ 95.7 $ 56.2
================================================================
Trading revenues (loss) - residential
mortgage business related $(25.7) $(11.3)
================================================================
* Included in net interest income on the consolidated income
statement.
Treasury Business and Other: First Quarter of 2003
Compared to the First Quarter of 2002
Total treasury business and other trading related revenues
were $95.7 million in the first quarter of 2003 compared to
$56.2 million in the first quarter of 2002. The increase in
derivatives and treasury trading revenue in the first
quarter of 2003 is principally the result of increased
client activity in the credit and interest rate derivatives
business. The improvement in foreign exchange trading
results in the first quarter of 2003 is due to increased
customer and proprietary trading activity compared with the
prior year's period which was impacted by lower volatility
and adverse foreign rate exchange movements. The decrease
in precious metals trading revenue for the first quarter of
2003 compared to the first quarter of 2002 is due to the
impact of adverse price movements in precious metals prices
on proprietary trading positions.
Treasury Business and Other: Forward Outlook
The Company expects to continue to build and improve its
capabilities in foreign exchange, credit and interest rate
derivatives and precious and base metals to expand its
client franchise and grow related revenues. However, these
revenues are subject to market factors, among other things,
and may vary significantly from reporting period to
reporting period.
17.
Residential Mortgage Business Related: First Quarter of
2003 Compared to the First Quarter of 2002
Certain derivative financial instruments including interest
rate lock commitments granted to customers, forward loan
sales commitments (FLSC) associated with originated mortgage
loans held for sale, and instruments used to protect against
the decline in economic value of mortgage servicing rights,
are recorded as trading positions. The components of
trading revenue (loss) related to these instruments were as
follows.
- ---------------------------------------------------------------
Three months ended March 31, 2003 2002
- ---------------------------------------------------------------
in millions
SFAS 133 FLSC/Rate locks $(20.3) $ (8.7)
Derivative instruments used to
protect value of MSRs (5.4) (2.6)
- ---------------------------------------------------------------
Trading revenues (loss) - residential
mortgage business related $(25.7) $(11.3)
===============================================================
During the first quarter of 2003, higher gains on sales of
mortgage were included in mortgage banking revenue
reflecting a favorable rate environment and an increase in
saleable originations. These higher gains offset the
increase in related hedge losses recorded in trading revenue
and should be considered when evaluating the overall
profitability of mortgage banking results. Also, during the
first quarter of 2003, $11 million of security gains were
recorded on the sale of mortgage backed securities available
for sale that were used as "on-balance sheet" hedges of
MSRs. See commentary on Security Gains, Net.
Residential Mortgage Business Related: Forward Outlook
The Company will continue to employ a well developed risk
management strategy to reduce interest rate and prepayment
risk by utilizing derivative instruments to hedge both (a)
the mortgage pipeline and (b) MSRs values through different
economic cycles and rate environments and within established
guidelines.
Security Gains, Net
Security gains for the first quarter of 2003 include
approximately $11 million of gains related to mortgage
backed securities sold that were acting as "on-balance
sheet" economic hedges of MSRs. Sales of Latin America
securities to reduce the credit risk of the Company also
resulted in approximately $11 million of gains. The
remainder of the security gains generated in 2003 primarily
related to transactions that adjusted the average life and
interest rate profile of the Company's available for sale
security holdings.
Security gains for the first quarter of 2002 included gains
on sales of mortgage backed, U.S. Treasury and Latin
American securities. The Company sold the securities to
adjust to interest rate changes and/or reduce its credit
risk.
18.
Operating Expenses
- ------------------------------------------------------------
First Quarter of 2003 Compared to the First Quarter of
2002
Salaries and employee benefits rose $25.5 million, or
approximately 10%, in the 2003 first quarter as compared to
the first quarter of 2002, primarily due to $12.3 million of
compensation related to the wealth and tax service business,
which commenced activity during the third quarter of 2002,
higher pension and health insurance costs of $9.7 million
and increased incentive compensation. Occupancy expense
increased approximately 7% to $38.2 million, reflecting
lower sublease revenue and costs related to the wealth and
tax advisory service business. Other expenses were up about
5%, or $7.9 million, as a result of higher costs in a
variety of areas, including the reinsurance business.
Forward Outlook
Higher fringe benefit costs related to pension and health
care and corporate insurance are expected to continue to be
a concern of the Company. The Company continues to actively
take steps necessary to reduce the impact of higher health
care costs which are rapidly rising for both the Company and
its employees. The Company continues to position itself to
operate in an uncertain economy. Improving efficiencies,
lowering the cost of traditional delivery channels and
maintaining strict cost disciplines will be a priority.
Limited incremental costs will be incurred for new business
initiatives during 2003. Increased costs are expected
relative to the wealth and tax advisory service business,
which commenced activity during the third quarter of 2002.
Additional costs are expected to be incurred related to the
written agreement with the Federal Reserve Bank of New York
and the New York State Banking Department dated April 30,
2003. (See Exhibit 99.1). The additional costs associated
with the agreement have yet to be determined.
As a member of a global organization, the Company has the
opportunity to gain cost advantages through the utilization
of human, technological and operational resources in low
cost environments. The HSBC Group currently operates global
processing centers in India and China and plans to open
additional sites in Asia this year. The Company has
commenced the migration of certain operational and customer
service activities to India and intends to continue to do so
over the next few years. A qualified team is in place to
manage the transition of the work ensuring no negative
customer impact and the sensitive handling of affected
employees.
The Company is also expected to realize cost savings as a
result of the HSBC Group's North American alignment
initiative. The Company and HSBC Bank Canada, the HSBC
Group's Canadian based bank, are actively seeking
opportunities to better leverage their collective
infrastructures and best business practices. These efforts
are expected to improve cost efficiencies of both
organizations.
19.
Income Taxes
- ------------------------------------------------------------
First Quarter of 2003 Compared to the First Quarter of
2002
The effective tax rate was 38.5% in the first quarter of
2003 compared with 37.0% in the same period of 2002. The
increase in the effective tax rate is primarily attributable
to anticipated increases in permanent differences that will
raise taxable income above "book" income in 2003. The net
deferred tax position at March 31, 2003 was a liability of
$208 million compared with a liability of $209 million at
December 31, 2002.
Credit Quality
- ------------------------------------------------------------
The following table provides a summary of the allowance for
credit losses.
- -----------------------------------------------------------------
3 Months Year 3 Months
Ended Ended Ended
3/31/03 12/31/02 3/31/02
- -----------------------------------------------------------------
in millions
Balance at beginning of period $493.1 $506.4 $506.4
Allowance related to loans sold (4.5) (2.2) -
Provision charged to income 56.3 195.0 73.5
Charge offs:
Commercial 39.6 149.4 49.3
Consumer 19.2 77.6 19.8
International 1.5 13.9 1.6
- -----------------------------------------------------------------
Total charge offs 60.3 240.9 70.7
- -----------------------------------------------------------------
Recoveries on loans charged off:
Commercial 7.5 20.6 5.9
Consumer 3.0 12.5 3.3
International .8 2.1 .1
- -----------------------------------------------------------------
Total recoveries 11.3 35.2 9.3
- -----------------------------------------------------------------
Total net charge offs 49.0 205.7 61.4
- -----------------------------------------------------------------
Translation adjustment - (.4) -
- -----------------------------------------------------------------
Balance at end of period $495.9 $493.1 $518.5
- -----------------------------------------------------------------
The following table provides a summary nonperforming assets.
- ------------------------------------------------------------------------
March 31, December 31, March 31,
2003 2002 2002
- ------------------------------------------------------------------------
in millions
Nonaccruing Loans
Balance at end of period $373.4 $387.4 $375.0
As a percent of loans outstanding .86% .89% .88%
Nonperforming Loans and Assets *
Balance at end of period $394.1 $404.0 $392.6
As a percent of total assets .44% .45% .45%
Allowance Ratios
Allowance for credit losses as
a percent of:
Loans 1.14% 1.13% 1.21%
Nonaccruing loans 132.82 127.28 138.24
- ------------------------------------------------------------------------
* Includes nonaccruing loans, other real estate and other
owned assets.
20.
The provision for credit losses for the quarter ended
March 31, 2003 was $56.3 million compared with $73.5 million
at March 31, 2002. This decrease reflects the better
overall credit quality of the Company's commercial lending
portfolios as evidenced by declining levels of criticized
assets and charge offs; despite continued concerns about
weakness in the domestic economy and uncertainty with regard
to the outcome of certain significant world events.
Reflecting an improvement in overall credit quality, total
nonaccruing loans were $373.4 million at March 31, 2003
compared with $375.0 million at March 31, 2002 and $387.4
million at December 31, 2002. Criticized asset totals
likewise decreased by $601.0 million to $1,902.9 million at
March 31, 2003 from $2,503.9 million at March 31, 2002 and
by $307.4 million from $2,210.2 million at December 31,
2002. Net charge offs during the first quarter of 2003 were
$49.0 million, which is $12.4 million less than first
quarter of 2002 charge offs, which totaled $61.4 million.
Key coverage ratios declined from first quarter 2002 to
first quarter 2003, as the allowance for credit losses
represented 1.14% of total loans and 132.82% of nonaccruing
loans at March 31, 2003, versus 1.21% of total loans and
138.24% of nonaccruing loans at March 31, 2002. These
ratios improved from December 31, 2002 however when the
allowance for credit losses represented 1.13% of total loans
and 127.28% of nonaccrual loans.
The Company identified impaired loans totaling $288 million
at March 31, 2003, of which $171 million had a related
impairment reserve of $104 million. At March 31, 2002, $245
million of impaired loans were identified of which $156
million had a related impairment reserve of $82 million and
at December 31, 2002 there were $288 million of impaired
loans, $170 million of which had a related impairment
reserve of $89 million.
Forward Outlook
Despite signs of improvement, credit quality in all loan
portfolios remains a concern resulting from instability in
the domestic economy and the uncertain outcome of world
events. Although the Company is cautiously optimistic, it
will continue to monitor closely key economic indicators and
trends including governmental and private sector spending
priorities, consumer confidence, corporate performance and
the general business climate, and will take decisive action
to quickly identify and address problem situations.
Business Segments
- ------------------------------------------------------------
The Company reports and manages its business segments
consistently with the line of business groupings used by
HSBC. As a result of HSBC line of business changes, the
Company altered the business segments that it used in 2002
to reflect the movement of certain domestic private banking
activities from the Personal Financial Services Segment to
the Private Banking Segment. Also activity related to
selected commercial customers was moved from the
21.
Commercial Banking Segment to the Corporate, Investment
Banking and Markets Segment. Prior period disclosures as
reported in the first quarter 2002 Form 10-Q have been
conformed herein to the presentation of current segments.
The Company has four distinct segments that it utilizes for
management reporting and analysis purposes. These segments
are based upon products and services offered and are
identified in a manner consistent with the
requirements outlined in Statement of Financial Accounting
Standards No. 131, Disclosures about Segments of an
Enterprise and Related Information (SFAS 131). The segment
results show the financial performance of the major business
units.
These results are determined based on the Company's
management accounting process, which assigns balance sheet,
revenue and expense items to each reportable business unit
on a systematic basis. The following describes the
segments.
The Personal Financial Services Segment provides a broad
range of financial products and services including
installment and revolving term loans, deposits, branch
services, mutual funds, investments and insurance. These
products are marketed to individuals primarily through the
branch banking network. Residential mortgage lending
provides loan financing through direct retail and wholesale
origination channels. Mortgage loans are originated through
a network of brokers, wholesale agents and retail
origination offices. Servicing is performed for the
individual mortgage holder or on a contractual basis for
mortgages owned by third parties.
The Commercial Banking Segment provides a diversified range
of financial products and services. This segment provides
loan and deposit products to small and middle-market
corporations including specialized products such as accounts
receivable and real estate financing. In addition, various
credit and trade related products are offered such as
standby facilities, performance guarantees and acceptances.
These products and services are offered through multiple
delivery systems, including the branch banking network.
The Corporate, Investment Banking and Markets Segment is
comprised of Corporate/Institutional Banking (CIB) and
Investment Banking and Markets (IBM). CIB provides deposit
and lending functionality to large and multi-national
corporations and banks. U.S. dollar clearing services are
offered for domestic and international wire transfer
transactions. Credit and trade related products such as
standby facilities, performance guarantees and acceptances
are also provided to large corporate entities. The IBM
component includes treasury and traded markets. The
treasury function maintains overall responsibility for the
investment and borrowing of funds to ensure liquidity,
manages interest rate risk and capital at risk. Traded
markets encompasses the trading and sale of foreign
exchange, banknotes, derivatives, precious metals,
securities and emerging markets instruments, both
domestically and internationally.
22.
The Private Banking Segment offers a full range of services
for high net worth individuals including deposit, lending,
trading, trust and investment management.
Other Segment includes equity investments in Wells Fargo
HSBC Trade Bank and HSBC Republic Bank (Suisse) S.A. For
2002 the segment includes the liability related to the
Princeton Note Matter recorded in September of 2001 and paid
in January of 2002.
The following summarizes the results for each segment.
- -------------------------------------------------------------------------------------------
Corporate
Personal Investment
Financial Commercial Banking and Private
Services Banking Markets Banking Other Total
- -------------------------------------------------------------------------------------------
in millions
Three months ended
March 31, 2003
Net interest income (1) $ 295 $ 155 $ 168 $ 30 $ (4) $ 644
Other operating income 93 39 125 46 8 311
- -------------------------------------------------------------------------------------------
Total income 388 194 293 76 4 955
Operating expenses (2) 235 92 98 61 - 486
- -------------------------------------------------------------------------------------------
Working contribution 153 102 195 15 4 469
Provision for credit
losses (3) 19 31 5 1 - 56
- -------------------------------------------------------------------------------------------
Income before taxes 134 71 190 14 4 413
- -------------------------------------------------------------------------------------------
Average assets 28,075 14,324 45,473 2,798 283 90,953
Average liabilities/equity (4) 30,833 13,746 38,458 7,916 - 90,953
- -------------------------------------------------------------------------------------------
Goodwill at March 31, 2003 1,187 579 635 428 - 2,829
- -------------------------------------------------------------------------------------------
Three months ended
March 31, 2002
Net interest income (1) $ 264 $ 148 $ 145 $ 29 $ (3) $ 583
Other operating income 98 42 111 22 4 277
- -------------------------------------------------------------------------------------------
Total income 362 190 256 51 1 860
Operating expenses (2) 215 104 92 39 - 450
- -------------------------------------------------------------------------------------------
Working contribution 147 86 164 12 1 410
Provision for credit
losses (3) 19 38 18 (1) - 74
- -------------------------------------------------------------------------------------------
Income before taxes 128 48 146 13 1 336
- -------------------------------------------------------------------------------------------
Average assets 25,590 14,842 44,111 3,397 274 88,214
Average liabilities/equity (4) 30,402 13,568 33,961 10,222 61 88,214
- -------------------------------------------------------------------------------------------
Goodwill at March 31, 2002 1,183 581 636 435 - 2,835
- -------------------------------------------------------------------------------------------
(1) Net interest income of each segment represents the
difference between actual interest earned on assets and
interest paid on liabilities of the segment adjusted for
a funding charge or credit. Segments are charged a cost
to fund assets (e.g. customer loans) and receive a
funding credit for funds provided (e.g. customer
deposits) based on equivalent market rates.
(2) Expenses for the segments include fully apportioned
corporate overhead expenses.
(3) The provision apportioned to the segments is based on
the segments' net charge offs and the change in
allowance for credit losses. Credit loss reserves are
established at a level sufficient to absorb the losses
considered to be inherent in the portfolio.
(4) Common shareholder's equity and earnings on common
shareholder's equity are allocated back to the segments
based on the percentage of capital assigned to the
business.
23.
Personal Financial Services
Income before taxes for the segment increased $6 million
over the first quarter of 2002 as an improvement in net
interest income was partially offset by lower other
operating income and a higher level of operating expenses.
The increase in net interest income was driven by continued
growth in residential mortgage activity, a better yielding
mix of deposits and lower funding costs. Average
residential mortgages grew over $2 billion as the low
interest rate environment continued to stimulate consumers
to refinance mortgages and purchase new and existing
residential property. The decrease in other operating
income reflects lower wealth management related income, as
there was some slowdowns in sales of annuities and mutual
funds associated with the uncertainties affecting the stock
market and lower interest rates. The increase in operating
expenses reflects higher pension and health insurance costs
and increased incentive compensation.
Commercial Banking
This segment contributed $71 million to income before taxes
in the first quarter of 2003 compared with $48 million in
the same period of 2002. The restructuring of the
commercial finance receivables and equipment financing units
led to lower operating costs and a lower provision for
credit losses resulting in a $23 million improvement in
income before taxes. The decrease in the provision for
credit losses also reflects the better overall credit
quality of the Company's commercial lending portfolios as
evidenced by declining levels of criticized assets and
charge offs. The increase in net interest income reflects
lower funding costs and loan and fee income growth achieved
by the Company's real estate lending unit. This net
interest income growth was partially offset by revenue
declines in the restructured commercial finance receivables
and equipment financing units.
Corporate, Investment Banking and Markets
Income before taxes for the segment increased $44 million
over the first quarter of 2002 driven by increases in net
interest income and other operating income. The steep yield
curve and management actions relative to securities
selection, such as purchasing certain longer term debt
securities, led to over half of the increased net interest
income in this segment. Lower funding costs also
contributed to higher levels of net interest income.
Improved trading related revenues in the credit and interest
derivatives business and foreign exchange trading resulted
in higher levels of other operating income. Partially
offsetting the impact of the higher trading related revenues
was lower levels of security gains on the sale of
securities. The decrease in the provision for credit losses
reflects the better overall credit quality of the Company's
commercial lending portfolios and credit losses in 2002
related to a single large credit in the energy sector.
24.
Private Banking
This segment contributed $14 million to income before taxes
in the first quarter of 2003 compared with $13 million in
the same period of 2002. The increase in other operating
income includes $11 million of revenue from wealth and tax
advisory services, a business that commenced activity during
the third quarter of 2002. Other increases in other
operating income relate to improved foreign exchange results
in the International Private Bank unit and higher investment
fees earned. The increase in operating expenses as compared
to 2002 includes $14 million related to the wealth and tax
advisory service business. Higher pension and health
insurance costs also contributed to the expense increase.
Other
Other Segment includes equity investments in Wells Fargo
HSBC Trade Bank and HSBC Republic Bank (Suisse) S.A. For
2002 this segment includes the liability related to the
Princeton Note Matter recorded in September of 2001 and paid
in January of 2002.
Derivative Instruments and Hedging Activities
- ------------------------------------------------------------
The Company is party to various derivative financial
instruments as an end user (1) for asset and liability
management purposes; (2) in order to offset the risk
associated with changes in the value of various assets and
liabilities accounted for in the trading account; (3) to
protect against changes in value of its mortgage servicing
rights portfolio, and (4) for trading in its own account.
The Company is also an international dealer in derivative
instruments denominated in U.S. dollars and other currencies
which include futures, forwards, swaps and options related
to interest rates, foreign exchange rates, equity indices,
commodity prices and credit, focusing on structuring of
transactions to meet clients' needs.
The Company enters into certain derivative contracts for
purely trading purposes in order to realize profits from
short-term movements in interest rates, commodity prices,
foreign exchange rates and credit spreads. In addition,
certain contracts do not qualify as SFAS 133 hedges and are
accounted for on a full mark to market basis through current
earnings even though they were not acquired for trading
purposes.
By using derivative instruments, the Company is exposed to
credit and market risk. If the counterparty fails to
perform, credit risk is equal to the fair value gain in a
derivative. When the fair value of a derivative contract is
positive, this generally indicates that the counterparty
owes the Company, and, therefore, creates a repayment risk
for the Company. When the fair value of a derivative
contract is negative, the Company owes the counterparty and,
therefore, it has no repayment risk.
25.
The Company minimizes the credit (or repayment) risk in
derivative instruments by entering into transactions with
high quality counterparties including other members of the
HSBC Group. Counterparties include financial institutions,
government agencies, both foreign and domestic,
corporations, funds (mutual funds, hedge funds, etc.),
insurance companies and private clients. These
counterparties are subject to regular credit review by the
Company's credit risk management department. The Company
also requires that most derivative contracts be governed by
an International Swaps and Derivatives Association Master
Agreement. Depending on the type of counterparty and the
level of expected activity, bilateral collateral
arrangements may be required as well.
Market risk is the adverse effect that a change in interest
rates, currency, or implied volatility rates has on the
value of a financial instrument. The Company manages the
market risk associated with interest rate and foreign
exchange contracts by establishing and monitoring limits as
to the types and degree of risk that may be undertaken. The
Company measures this risk daily by using Value at Risk
(VAR) and other methodologies.
The Company's Asset and Liability Policy Committee is
responsible for monitoring and defining the scope and nature
of various strategies utilized to manage interest rate risk
that are developed through its analysis of data from
financial simulation models and other internal and industry
sources. The resulting hedge strategies are then
incorporated into the Company's overall interest rate risk
management and trading strategies.
Liquidity Management
- ------------------------------------------------------------
Liquidity is managed to provide the ability to generate cash
to meet lending, deposit withdrawal and other commitments at
a reasonable cost in a reasonable amount of time, while
maintaining routine operations and market confidence. The
Asset and Liability Policy Committee is responsible for the
development and implementation of related policies and
procedures to ensure that the minimum liquidity ratios and a
strong overall liquidity position are maintained.
In carrying out this responsibility, the Asset and Liability
Policy Committee projects cash flow requirements and
determines the optimal level of liquid assets and available
funding sources to have at the Company's disposal, with
consideration given to anticipated deposit and balance sheet
growth, contingent liabilities, and the ability to access
short-term wholesale funding markets. In addition, the
Committee must monitor deposit and funding concentrations in
terms of overall mix and to avoid undue reliance on
individual funding sources and large deposit relationships.
It must also maintain a liquidity management contingency
plan, which identifies certain potential early indicators of
liquidity problems, and actions which can be taken both
initially and in the event of a liquidity crisis to minimize
the long-term impact on the Company's business and customer
relationships.
26.
Deposit accounts from a diverse mix of "core" retail,
commercial and public sources represent a significant, cost-
effective source of liquidity under normal operating
conditions. The Company's ability to regularly attract
wholesale funds at a competitive cost is enhanced by strong
ratings from the major credit ratings agencies. As of
March 31, 2003, the Company and its principal operating
subsidiary, HSBC Bank USA, maintained the following long and
short-term debt ratings.
Short-Term Debt Long-Term Debt
-------------------- --------------------
Moody's S&P Fitch Moody's S&P Fitch
------- --- ----- ------- --- -----
HSBC USA Inc. P-1 A-1 F1+ A1 A+ AA-
HSBC Bank USA P-1 A-1+ F1+ Aa3 AA- AA-
The Company issued $300 million of floating rate senior
notes in September 2002. The Company's shelf registration
statement filed with the Securities and Exchange Commission
has $825 million available under which the Company may issue
debt and equity securities and has ready access to the
capital markets for long-term funding through the issuance
of registered debt. In addition, the Company maintains an
unused $500 million line of credit with HSBC Bank plc, and
as a member of the New York Federal Home Loan Bank, a
secured borrowing facility in excess of $5 billion
collateralized by residential mortgage loan assets. Off-
balance sheet special purpose vehicles or other off-balance
sheet mechanisms are not utilized as a source of liquidity
or funding.
Assets, principally consisting of a portfolio of highly
rated investment securities in excess of $19 billion,
approximately $8 billion of which is scheduled to mature
within the next twelve months, a liquid trading portfolio of
approximately $11 billion, and residential mortgages are a
primary source of liquidity to the extent that they can be
sold or used as collateral for borrowing. The economics and
long-term business impact of obtaining liquidity from assets
must be weighed against the economics of obtaining liquidity
from liabilities, along with consideration given to the
associated capital ramifications of these two alternatives.
Currently, assets would be used to supplement liquidity
derived from liabilities only in a crisis scenario.
It is the policy of the Bank to maintain both primary and
secondary collateral in order to ensure precautionary
borrowing availability from the Federal Reserve. Primary
collateral is that which is physically maintained at the
Federal Reserve, and serves as a safety net against any
unexpected funding shortfalls that may occur. Secondary
collateral is collateral that is acceptable to the Federal
Reserve, but is not maintained there. If unutilized
borrowing capacity were to be low, secondary collateral
would be identified and maintained as necessary.
The Company projects, as part of normal ongoing contingency
planning, that in the event of a severe liquidity problem
there would be sources of cash exceeding projected uses of
cash by over $10 billion. This also assumes that
27.
the Company no longer has access to the wholesale funds
market. In addition, the Company maintains residential
mortgages and eligible collateral at the Federal Reserve
that could provide additional liquidity if needed.
Off-Balance Sheet Arrangements
- ------------------------------------------------------------
Standby Letters of Credit
A standby letter of credit is issued to third parties for
the benefit of a customer and is essentially a guarantee
that the customer will perform, or satisfy some obligation,
under a contract. It irrevocably obligates the Company to
pay a third-party beneficiary when a customer either: (1) in
the case of a performance standby letter of credit, fails to
perform some contractual non-financial obligation or,
(2) in the case of a financial standby letter of credit,
fails to repay an outstanding loan or debt instrument. The
issuance of a standby letter of credit is subject to the
Company's credit approval process and collateral requirements.
Fees are charged for issuing letters of credit commensurate
with the customer's credit evaluation and the nature of any
collateral. Deferred fees, representing the fair value of
the Company's "stand ready obligation to perform" under
these guarantees, included in other liabilities at March 31,
2003 were $5.9 million. Also included in other liabilities
at March 31, 2003 and December 31, 2002 was an allowance for
credit losses relating to unfunded standby letters of credit
of $29.5 million and $37.4 million, respectively.
Loan Sales with Recourse
The Company securitizes and sells assets, generally without
recourse. In prior years, the Company's mortgage banking
subsidiary has sold residential mortgage loans with recourse
to it upon borrower default, with partial indemnification
from third parties.
Credit Derivatives
The Company enters into credit derivative contracts to
provide value-added solutions to the risk management and
investment needs of its customers, as well as on its own
behalf. Credit derivatives are arrangements that allow one
party (the "beneficiary") to transfer the credit risk of a
"reference asset," to another party (the "guarantor"). This
arrangement allows the guarantor to assume the credit risk
associated with the reference asset without directly
purchasing it. The beneficiary agrees to pay to the
guarantor a specified fee while in return, the guarantor
agrees to pay the beneficiary an agreed upon amount if there
is a default during the term of the contract.
In accordance with its policy, the Company offsets virtually
all of the market risk it assumes in selling credit
guarantees through a credit derivative contract with another
counterparty. Credit derivatives, although
28.
having characteristics of guarantees, are accounted for as
derivative instruments and are carried at fair value. The
commitment amount included in the table below is the maximum
amount that the Company could be required to pay, without
consideration of the approximately equal amount receivable
from third parties.
Securities Lending Indemnifications
In securities lending transactions, the Company lends
customers' securities as an agent to third party borrowers.
The Company indemnifies the customer against the risk of
loss if the third party borrower fails to return the
securities. The Company obtains collateral from the
borrower with a market value exceeding the value of the
loaned securities.
The following table summarizes, at March 31, 2003, the
maximum potential amount of future payments the Company
could be required to make under the various guarantees and
indemnifications discussed above if there were a total
default by the guaranteed parties. These amounts do not
take into consideration any recoveries under indemnification
provisions or from collateral held or pledged.
- ---------------------------------------------------------------------
One Over One Over
Year Through Five
March 31, 2003 or Less Five Years Years Total
- ---------------------------------------------------------------------
in millions
Standby letters of credit,
net of participations $3,136 $1,172 $106 $4,414 (1)
Loan sales with recourse - 3 21 24 (2)
Credit derivatives 361 7,880 225 8,466 (3)
Securities lending
indemnifications 2,390 - - 2,390 (4)
- ---------------------------------------------------------------------
Total $5,887 $9,055 $352 $15,294
=====================================================================
(1) Includes $256 million issued for the benefit of related
parties.
(2) $16 million of this amount is indemnified by third
parties.
(3) Includes $161 million issued for the benefit of related
parties.
(4) The Company holds collateral of $2,440 million to
support these indemnifications.
Special Purpose and Variable Interest Entities
Commercial Paper Conduit
An affiliated member of the HSBC Group (HSBC affiliate)
supports the financing needs of customers by facilitating
their access to the commercial paper markets. These markets
provide an attractive, lower-cost financing alternative for
these customers. Specifically, a customer's assets such as
high-grade trade or other receivables are sold to a
commercial paper financing entity, which in turn issues high-
grade short-term commercial paper that is collateralized by
such assets. The HSBC affiliate facilitates these
transactions and bills and collects fees from the financing
entity for the services it provides.
29.
In its role as administrator of this independently rated
specialized financing entity, the HSBC affiliate structures
financing transactions for customers such that the
receivables financed through the financing entity are
appropriately diversified and credit enhanced to support the
issuance of asset backed commercial paper. Neither the HSBC
affiliate nor the Company service the assets or transfer
their own receivables into the financing entity.
The Company and other banks provide liquidity facilities,
which mature within one year, in the form of either loan or
asset purchase commitments, in support of each transaction
in the financing entity. In addition, the Company provides
a standby letter of credit as a program wide credit
enhancement to the financing entity. The Company collects
fees from the financing entity for both the liquidity
facility and the standby letter of credit. Credit risk is
managed on these commitments by subjecting them to normal
underwriting and risk management processes. Although the
analysis has yet to be completed, it is reasonably possible
that the Company may have to consolidate the financing
entity under the new accounting requirements of FIN 46.
(See "Recently Issued Accounting Standards"). Opportunities
are being evaluated to restructure the entity by
transferring risk to unrelated third parties. If these
efforts are successful consolidation may not be required.
At March 31, 2003 and December 31, 2002, the financing
entity had total commitments to customers of $1,650.0
million and $1,250.0 million, and total investments of
$888.0 million and $792.0 million, respectively. At
March 31, 2003 and December 31, 2002, the Company had
liquidity commitments and standby letter of credit to the
financing entity of $1,045.0 million and $685.0 million,
respectively. Assets in the financing entity are principally
trade receivables, auto loans and credit card receivables.
Trust Certificates
The HSBC affiliate also organizes trusts that are special
purpose entities (SPEs) that issue floating rate
certificates backed by the underlying assets of the trusts,
which the SPEs purchase primarily from insurance companies.
The Company's relationship with the SPE is primarily as a
counterparty to derivative transactions (interest rate
swaps) with it. The derivative transactions are accounted
for in accordance with SFAS 133 and are carried at fair
value. At March 31, 2003 and December 31, 2002 the SPEs had
total assets of $386.0 million and $412.0 million,
respectively. Currently, these SPEs are not consolidated
with the Company and although the analysis has yet to be
completed, the Company does not believe it is reasonably
possible that the SPEs will be consolidated under the new
requirements of FIN 46.
30.
Investments in Limited Partnerships
The Company has investments of less than 20% in limited
partnerships, primarily Low Income Housing Tax Credit
Partnerships. Currently, these partnerships are not
consolidated and are being evaluated for consolidation under
FIN 46.
Capital
- ------------------------------------------------------------
Total common shareholder's equity was $6.9 billion at
March 31, 2003 and December 31, 2002 since the Company
declared dividends approximately equal to its net income for
the quarter.
The following table presents the capital ratios of the
Company. To be categorized as well-capitalized under the
Federal Reserve Board guidelines, a banking institution must
have a minimum total risk-based capital ratio of at least
10%, a Tier 1 risk-based ratio of at least 6%, and Tier 1
leverage ratio of at least 5%.
- ---------------------------------------------------------------------
March 31, December 31,
2003 2002
- ---------------------------------------------------------------------
Total capital (to risk weighted assets) 14.16% 14.24%
Tier 1 capital (to risk weighted assets) 9.35 9.36
Tier 1 capital (to average assets) 5.88 5.98
- --------------------------------------------------------------------
Market Risk
- ------------------------------------------------------------
In consideration of the degree of interest rate risk
inherent in the banking industry, the Company has interest
rate risk management policies designed to meet performance
objectives within defined risk/safety parameters. In the
course of managing interest rate risk, a combination of risk
assessment techniques, including dynamic simulation
modeling, gap analysis, Value at Risk (VAR) and capital at
risk analyses are employed. The combination of these tools
enables management to identify and assess the potential
impact of interest rate movements and take appropriate
action.
Certain limits and benchmarks that serve as guidelines in
determining the appropriate levels of interest rate risk for
the institution have been established. One such limit is
expressed in terms of the Present Value of a Basis Point
(PVBP), which reflects the change in value of the balance
sheet for a one basis point movement in all interest rates.
The institutional PVBP limit as of March 31, 2003 was plus
or minus $4.0 million, which includes distinct limits
associated with trading portfolio activities and financial
instruments. Thus, for a one basis point change in interest
rates, the policy dictates that the value of the balance
sheet shall not change by more than +/- $4.0 million. As of
March 31, 2003, the Company had a position of $2.5 million
PVBP reflecting the impact of a one basis point increase in
interest rates.
31.
The Company also monitors changes in value of the balance
sheet for large movements in interest rates with an overall
limit of +/- 10%, after tax, change from the base case
valuation for either a 200 basis point gradual rate increase
or a 100 basis point gradual rate decrease. As of March 31,
2003, for a gradual 200 basis point increase in rates, the
value was projected to gain by 1.4% and for a 100 basis
point gradual decrease in rates, value was projected to drop
by 4.9%. The projected drop in value for a 100 basis point
gradual decrease in rates is primarily related to the
anticipated acceleration of prepayments for the held
mortgage and mortgage backed securities portfolios in this
lower rate environment. It is assumed that no management
actions are taken to manage exposures to the changing
interest rate environment.
In addition to the above mentioned limits, the Company's
Asset and Liability Policy Committee particularly monitors
the simulated impact of a number of interest rate scenarios
on net interest income. These scenarios include both rate
shock scenarios which assume immediate market rate movements
of 200 basis points, as well as rate change scenarios in
which rates rise or fall by 200 basis points over a twelve
month period. The individual limit for such gradual 200
basis point movements is currently +/- 10%, pretax, of base
case earnings over a twelve month period. Simulations are
also performed for other relevant interest rate scenarios
including immediate rate movements and changes in the shape
of the yield curve or in competitive pricing policies. Net
interest income under the various scenarios is reviewed over
a twelve month period, as well as over a three year period.
The simulations capture the effects of the timing of the
repricing of all assets and liabilities, including
derivative instruments such as interest rate swaps, futures
and option contracts. Additionally, the simulations
incorporate any behavioral aspects such as prepayment
sensitivity under various scenarios.
For purposes of simulation modeling, base case earnings
reflect the existing balance sheet composition, with
balances generally maintained at current levels by the
anticipated reinvestment of expected runoff. These balance
sheet levels will however, factor in specific known or
likely changes including material increases, decreases or
anticipated shifts in balances due to management actions.
Current rates and spreads are then applied to produce base
case earnings estimates on both a twelve month and three
year time horizon. Rate shocks are then modeled and
compared to base earnings (earnings at risk), and include
behavioral assumptions as dictated by specific scenarios
relating to such factors as prepayment sensitivity and the
tendency of balances to shift among various products in
different rate environments. It is assumed that no
management actions are taken to manage exposures to the
changing environment being simulated.
Utilizing these modeling techniques, a gradual 200 basis
point parallel rise or fall in the yield curve on April 1,
2003 would cause projected net interest income for the next
twelve months to decrease by $34 million (1%) and $39
million (2%), respectively. These changes are well within
the Company's +/- 10% limit. An immediate 100 basis point
parallel rise or fall in the yield curve on April 1, 2003,
would cause projected net interest
32.
income for the next twelve months to decrease by $56 million
and $169 million, respectively. An immediate 200 basis
point parallel rise or fall would decrease projected net
interest income for the next twelve months by $129 million
and $273 million, respectively. In addition, simulations
are performed to analyze the impact associated with various
twists and shapes of the yield curve. If the yield curve
continues to flatten significantly (i.e. long end of the
yield curve down) in 2003, the projected margin could shrink
by approximately 6 to 8%, assuming no management actions.
The projections do not take into consideration possible
complicating factors such as the effect of changes in
interest rates on the credit quality, size and composition
of the balance sheet. Therefore, although this provides a
reasonable estimate of interest rate sensitivity, actual
results will vary from these estimates, possibly by
significant amounts.
Trading Activities
- ------------------------------------------------------------
The trading portfolios of the Company have defined limits
pertaining to items such as permissible investments, risk
exposures, loss review, balance sheet size and product
concentrations. "Loss review" refers to the maximum amount
of loss that may be incurred before senior management
intervention is required.
The Company relies upon Value at Risk (VAR) analysis as a
basis for quantifying and managing risks associated with the
trading portfolios. Such analysis is based upon the
following two general principles:
(i) VAR applies to all trading positions across all risk
classes including interest rate, equity, commodity,
optionality and global/foreign exchange risks and
(ii) VAR is based on the concept of independent valuations,
with all transactions being repriced by an independent risk
management function using separate models prior to being
stressed against VAR parameters.
VAR attempts to capture the potential loss resulting from
unfavorable market developments within a given time horizon
(typically ten days), given a certain confidence level (99%)
and based on a two year observation period. VAR calculations
are performed for all material trading and investment
portfolios and for market risk-related treasury activities.
The VAR is calculated using the historical simulation or the
variance/covariance (parametric) method.
A VAR report broken down by trading business and on a
consolidated basis is distributed daily to management. To
measure the accuracy of the VAR model output, the daily VAR
is compared to the actual result from trading activities.
33.
The following table summarizes trading VAR of the Company.
- -----------------------------------------------------------------------------
1st Quarter 2003
March 31, --------------------------- December 31,
2003 Minimum Maximum Average 2002
- -----------------------------------------------------------------------------
in millions
Total trading $15.9 $7.5 $33.0 $18.3 $11.4
Commodities 6.9 1.2 8.4 3.7 2.6
Credit derivatives 2.3 .9 9.5 2.4 2.1
Equities .1 - 1.5 .6 1.0
Foreign exchange 3.9 1.7 8.8 4.1 3.1
Interest rate 13.8 6.1 27.8 16.2 8.6
- -----------------------------------------------------------------------------
The following summary illustrates the Company's daily
revenue earned from market risk-related activities during
the first quarter of 2003. Market risk-related revenues
include realized and unrealized gains (losses) related to
treasury and trading activities but excludes the related net
interest income. The analysis of the frequency distribution
of daily market risk-related revenues shows that there were
13 days with negative revenue during the first quarter of
2003. The most frequent result was a daily revenue of
between zero and $2 million with 23 occurrences. The
highest daily revenue was $17.1 million and the largest
daily loss was $2.3 million.
- ---------------------------------------------------------------------------------
Ranges of daily revenue
earned from market
risk-related activities
(in millions) Below $(2) $(2) to $0 $0 to $2 $2 to $4 Over $4
- ---------------------------------------------------------------------------------
Number of trading days
market risk-related
revenue was within the
stated range 1 12 23 18 7
- ---------------------------------------------------------------------------------
Recently Issued Accounting Standards
- ------------------------------------------------------------
In January 2003, the Financial Accounting Standards Board
issued Interpretation No. 46, Consolidation of Variable
Interest Entities (FIN 46). FIN 46 requires a variable
interest entity (VIE) to be consolidated by a company if
that company is subject to a majority of the risk of loss
from the VIEs activities, or is entitled to receive a
majority of the VIEs residual returns, or both. FIN 46
increases required disclosures by a company consolidating a
VIE and also requires disclosures about VIEs that the
company is not required to consolidate, but in which it has
a significant variable interest.
The Company is currently reviewing the impact of the
consolidation requirements of FIN 46, which apply
immediately to VIEs created after January 31, 2003. For
VIEs established prior to January 31, 2003 the consolidation
requirements take effect in the third quarter of 2003. The
disclosure requirements apply to all financial statements
issued after January 31, 2003, regardless of when the VIE
was established. The Company has no interest in any VIEs
established after January 31, 2003.
34.
Further information regarding the Company's interest in VIEs
is provided under Off-Balance Sheet Arrangements in this
document.
Item 3. Quantitative and Qualitative Disclosures About
Market Risk
- ------------------------------------------------------------
Refer to the disclosure in Item 2 of the Management's
Discussion and Analysis of Financial Condition and Results
of Operations under the caption "Market Risk."
Item 4. Controls and Procedures
- ------------------------------------------------------------
Under the direction of the Company's Chief Executive Officer
(CEO) and Chief Financial Officer (CFO), the Company has
enhanced its process of reviewing internal controls to
include and emphasize "disclosure controls and procedures"
as defined by the U.S. Securities and Exchange Commission
(SEC). Under that definition the term means controls and
other procedures designed to ensure that information
required to be disclosed in the Company's reports filed with
the SEC is recorded, processed, summarized and reported by
the due dates specified by the SEC's rules. Such controls
and procedures must be designed to ensure that information
required to be disclosed in reports filed with the SEC, is
accumulated and communicated to the Company's management
personnel to allow timely decisions regarding required
disclosure. Also, this process is the support for the
certifications of the CEO and CFO included in this report.
Since 1993, the CEO and CFO have reported on the Bank's
internal controls over financial reporting pursuant to
FDICIA regulations. The Company's independent auditors have
annually attested, without qualification, to the reports.
Thus management is well acquainted with the process
underlying the attestation to financial reporting controls.
The current enhancement of the review process is building on
the annual review at the Bank for FDICIA purposes as well as
various other internal control processes and procedures
which management has established and monitors. The review
is conducted quarterly and includes all subsidiaries of the
Company.
To monitor the Company's compliance with the SEC rules
regarding disclosure controls and procedures, the Company
has formed a Disclosure Committee chaired by its CFO. The
Disclosure Committee is composed of key members of senior
management, who have knowledge of significant portions of
the Company's internal control system as well as the
business and competitive environment in which the Company
operates. The Disclosure Committee covers all of the
Company's significant business and administrative functions.
One of the key responsibilities of each Committee member is
to review the document to be filed with the SEC as it
progresses through the preparation process. Open lines of
communication to financial reporting management exist for
Disclosure Committee members to convey comments and
suggestions.
35.
The Disclosure Committee has designated a preparation
working group that is responsible for providing and/or
reviewing the detail supporting financial disclosures. The
Disclosure Committee also has designated a business issues
working group that is responsible for the development of
forward-looking disclosures.
The Company's CEO and CFO have concluded that, based on the
deliberations of the Disclosure Committee and input received
from senior business and financial managers, the Company's
disclosure controls and procedures were effective as of
March 31, 2003 (the disclosure control evaluation date) and
that those controls and procedures support the disclosures
in this document. During the three months ended March 31,
2003, there were no significant changes in the Company's
internal controls or in other factors that could
significantly affect these controls subsequent to the date
of their evaluation.
36.
Part II - OTHER INFORMATION
- --------------------------------------------------------------
Item 1 - Legal Proceedings
The disclosures required hereunder are incorporated by
reference to Note 5 to the consolidated financial
statements.
Item 5 - Other Information
On April 30, 2003, the Bank announced that it had
entered into an agreement with the Federal Reserve Bank
of New York and the New York State Banking Department to
enhance its compliance with anti-money laundering
requirements. As set forth in the written agreement,
the Bank has agreed to a number of improvements to its
compliance, reporting, and review systems and
procedures. The written agreement is filed herewith as
Exhibit 99.1 and is incorporated herein by reference.
The foregoing discussion of the regulatory agreement is
qualified in its entirety by reference to the text of
the agreement.
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits -
3 (i) Registrant's Restated Certificate of
Incorporation and Amendments thereto, Exhibit
3(a) to the Company's 1999 Annual Report on Form
10-K incorporated herein by reference.
(ii) Registrant's By-Laws, as Amended to Date, Exhibit
3 to the Company's Form 10-Q for the quarter
ended June 30, 2002 incorporated herein by
reference.
4 Instruments Defining the Rights of Security
Holders, Including Indentures, incorporated by
reference to previously filed periodic reports.
99.1 Written agreement dated April 30, 2003 by and
among: HSBC Bank USA; the Federal Reserve Bank of
New York; and the New York State Banking
Department.
(b) Reports on Form 8-K
A current report on Form 8-K was filed March 6, 2003
announcing that HSBC USA Inc. had submitted the
certification required pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 in connection with its
Form 10-K for the year ended December 31, 2002 which
was filed with the Securities and Exchange Commission.
37.
SIGNATURE
- ---------
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
HSBC USA Inc.
(Registrant)
Date: May 2, 2003 /s/ Gerald A. Ronning
--------------------------
Gerald A. Ronning
Executive Vice President &
Controller
(On behalf of Registrant and
as Chief Accounting Officer)
38.
CERTIFICATIONS
--------------
I, Youssef A. Nasr, certify that:
1. I have reviewed this quarterly report on Form 10-Q of
HSBC USA Inc.;
2. Based on my knowledge, this quarterly report does not
contain any untrue statement of a material fact or omit
to state a material fact necessary to make the
statements made, in light of the circumstances under
which such statements were made, not misleading with
respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and
other financial information included in this quarterly
report, fairly present in all material respects the
financial condition, results of operations and cash
flows of the registrant as of, and for, the periods
presented in this quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries,
is made known to us by others within those entities,
particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date within
90 days prior to the filing date of this quarterly
report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls and
procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of
registrant's board of directors (or persons performing
the equivalent function):
a) all significant deficiencies in the design or
operation of internal controls which could adversely
affect the registrant's ability to record, process,
summarize and report financial data and have
identified for the registrant's auditors any material
weaknesses in internal controls; and
39.
b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officer and I have
indicated in this quarterly report whether there were
significant changes in internal controls or in other
factors that could significantly affect internal
controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
Date: May 2, 2003 /s/ Youssef A. Nasr
-------------------------------------
Youssef A. Nasr
President and Chief Executive Officer
40.
I, Robert M. Butcher, certify that:
1. I have reviewed this quarterly report on Form 10-Q of
HSBC USA Inc.;
2. Based on my knowledge, this quarterly report does not
contain any untrue statement of a material fact or omit
to state a material fact necessary to make the
statements made, in light of the circumstances under
which such statements were made, not misleading with
respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and
other financial information included in this quarterly
report, fairly present in all material respects the
financial condition, results of operations and cash
flows of the registrant as of, and for, the periods
presented in this quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries,
is made known to us by others within those entities,
particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date
within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls
and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of
registrant's board of directors (or persons performing
the equivalent function):
a) all significant deficiencies in the design or
operation of internal controls which could adversely
affect the registrant's ability to record, process,
summarize and report financial data and have
identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
41.
6. The registrant's other certifying officer and I have
indicated in this quarterly report whether there were
significant changes in internal controls or in other
factors that could significantly affect internal
controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
Date: May 2, 2003 /s/ Robert M. Butcher
-----------------------------------
Robert M. Butcher
Senior Executive Vice President and
Chief Financial Officer
42.
Exhibit 99.1
UNITED STATES OF AMERICA
BEFORE THE
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
WASHINGTON, D.C.
- ----------------------------------:
Written Agreement by and among :
: Docket No. 03-012-WA/RB-SM
:
HSBC BANK USA :
Buffalo, New York :
:
:
FEDERAL RESERVE BANK OF NEW YORK :
New York, New York :
:
and :
:
NEW YORK STATE BANKING DEPARTMENT :
New York, New York :
- ----------------------------------:
WHEREAS, HSBC Bank USA, Buffalo, New York (the "Bank"), a
state chartered bank that is a member of the Federal Reserve
System, is taking steps to enhance its compliance with all
applicable federal and state laws, rules, and regulations
relating to anti-money laundering policies and procedures,
including (1) the Currency and Foreign Transactions Reporting
Act, 31 U.S.C. 5311 et seq. (the Bank Secrecy Act (the "BSA"))
and the rules and regulations issued thereunder by the U.S.
Department of the Treasury (31 C.F.R. Part 103); (2) the
suspicious activity reporting and BSA compliance requirements of
Regulation H of the Board of Governors of the Federal Reserve
System (the "Board of Governors") (12 C.F.R. 208.62 and 208.63);
and (3) Part 300 of the Official Compilation of Codes, Rules and
Regulations of the State of New York, 3 N.Y.C.R.R. Part 300;
WHEREAS, it is the common goal of the Bank, the Federal
Reserve Bank of New York (the "Reserve Bank"), and the New York
State Banking Department (the "Department") to
-1-
43.
ensure that the Bank fully addresses all deficiencies in the
Bank's anti-money laundering policies and procedures, customer
due diligence practices, and internal control environment; and
WHEREAS, on April 24, 2003, the board of directors of the
Bank, at a duly constituted meeting, adopted a resolution
authorizing and directing Youssef Nasr, President and Chief
Executive Officer, to enter into this Written Agreement (the
"Agreement") on behalf of the Bank and consenting to compliance
by the Bank and its institution-affiliated parties, as defined in
section 3(u) of the Federal Deposit Insurance Act, as amended,
(12 U.S.C. 1813(u)) with each and every provision of this Written
Agreement.
NOW, THEREFORE, the Bank, the Reserve Bank, and the Department
hereby agree as follows:
Anti-Money Laundering Compliance
1. Within 60 days of this Agreement, the Bank shall submit
to the Reserve Bank and the Department an acceptable written
program designed to upgrade and improve the Bank's system of
internal controls to ensure compliance with all applicable
provisions of the BSA and the rules and regulations issued
thereunder, as required by section 208.63 of Regulation H of the
Board of Governors (12 C.F.R. 208.63) and 3 N.Y.C.R.R. Part 300.
The program shall include provisions for updates on an ongoing
basis as necessary to incorporate amendments to the BSA and the
rules and regulations thereunder.
(a) The program shall, at a minimum, upgrade and
improve the Bank's system of internal controls to ensure
compliance with the BSA and the rules and regulations thereunder,
including but not limited to:
-2-
44.
(i) effective monitoring of incoming and
outgoing funds transfers by both account
holders and non-account holders for
suspicious or unusual activities;
(ii) effective monitoring of purchases of
monetary instruments by both account
holders and non-account holders for
suspicious or unusual activities;
(iii) an effective system that is
designed to ensure compliance with the
recordkeeping and reporting requirements
for currency transactions over $10,000 (31
C.F.R. 103.22) and that is capable of
aggregating multiple cash transactions for
any one business day, or other appropriate
business period, from all branches by
account number, by name(s) of the account
holder(s), and by transactor(s), and
identifying any cash transactions that may
have been structured to avoid currency
transaction reporting requirements; and
(iv) identification and verification of
identity of account holders and transactors
as required for recordkeeping and reporting
of currency transactions over $10,000 (31
C.F.R. 103.28).
(b) The program shall provide for an independent
review of compliance with the BSA and the rules and regulations
thereunder, the anti-money laundering provisions of Regulation H
of the Board of Governors, and 3 N.Y.C.R.R. Part 300. The review
of compliance shall cover all substantive requirements and
compliance processes, including, but not limited to, reporting
lines for following up on compliance findings and procedures to
ensure that compliance issues are addressed.
-3-
45.
Suspicious Activity Reporting and Customer Due Diligence
2. Within 60 days of this Agreement, the Bank shall submit
to the Reserve Bank and the Department an acceptable written
customer due diligence program designed to reasonably ensure the
identification and timely, accurate, and complete reporting of
all known or suspected violations of law against or involving the
Bank to law enforcement and supervisory authorities as required
by the suspicious activity reporting provisions of Regulation H
of the Board of Governors (12 C.F.R. 208.62) and 3 N.Y.C.R.R.
Part 300. At a minimum, the program shall include:
(a) An effective system to ensure that all known or
suspected violations of law are properly identified and reported;
(b) a risk focused assessment of the Bank's customer
base to:
(i) identify the categories of customers whose
transactions and banking activities are routine and usual; and
(ii) determine the appropriate level of enhanced
due diligence necessary for those categories of customers that
the Bank has reason to believe pose a heightened risk of illicit
activities at or through the Bank; and
(c) for those customers whose transactions require
enhanced due diligence, additional procedures to:
(i) determine the appropriate documentation
necessary to confirm the identity and business activities of the
customer;
(ii) understand the normal and expected
transactions of the customer; and
-4-
46.
(iii) report suspicious activities in compliance
with the reporting requirements set forth in Regulation H of the
Board of Governors (12 C.F.R. 208.62) and 3 N.Y.C.R.R. Part 300.
3. The program required by paragraph 2 hereof shall be
subject to comprehensive independent testing (a) three months
after the approval of the program and its adoption by the Bank
pursuant to the provisions of this Agreement (the "Initial
Testing"); and (b) 15 months after the Initial Testing. Prior to
the implementation of the independent testing, the Bank shall
submit to the Reserve Bank and the Department its audit scope and
methodology for review and approval. The Bank shall make all
work papers, work product, drafts and interim reports available
as requested by the Reserve Bank and the Department.
Transaction Review
4. The Bank shall conduct a multi-stage review (the
"Review") of cash transactions, sales of monetary instruments,
and funds transfer activity in the retail operations of the Bank.
The Review shall be designed to determine whether suspicious
activity involving accounts or transactions at, by, or through
the Bank was properly identified and reported by the Bank in
accordance with applicable suspicious activity reporting
regulations, and to evaluate compliance with the currency
transaction reporting requirements of the BSA and the rules and
regulations thereunder.
(a) Within 10 days of this Agreement, the Bank shall
submit to the Reserve Bank and the Department an acceptable
written plan for the first stage of the Review, which shall
cover all transactions during the period May 1, 2002 through the
date of this Agreement. The plan shall set forth the proposed
methodology for the first stage of the Review; the types of
accounts, transactions, and banking activities to be reviewed;
the proposed resources to be
-5-
47.
dedicated to the first stage of the Review; the scope of the
written report covering the first stage of the Review; and the
expected date of completion of the first stage of the Review, not
to exceed 120 days from the date of this Agreement.
(b) Within 30 days after completion of each stage of
the Review, the Bank shall submit to the Reserve Bank and the
Department:
(i) a written report setting forth the findings,
conclusions, and recommendations of that stage of the Review;
(ii) an acceptable written plan setting forth the
actions the Bank will take to respond to the findings,
conclusions, and recommendations; and
(iii) an acceptable written plan for the next
stage of the Review, setting forth the time period to be covered
(to include time periods since May 2000), the methodology and the
types of accounts, transactions, and banking activities to be
reviewed; the proposed resources to be dedicated; the scope of
the written report; and the expected date of completion.
(c) Upon completion of each stage of the Review, the
Bank shall ensure that all transactions previously required to be
reported have been reported in accordance with applicable
regulations and guidelines.
(d) The Bank shall make all work papers, work
product, drafts and interim reports relating to the Review
available to the Reserve Bank and the Department upon request.
Approval and Progress Reports
5. The programs, plans, and audit scope and methodology
required by paragraphs 1, 2, 3, and 4 of this Agreement shall be
submitted to the Reserve Bank and the Department for review and
approval. Acceptable programs, plans, and an acceptable audit
scope and methodology shall be submitted to the Reserve Bank and
the Department within the time periods
-6-
48.
set forth in this Agreement. The Bank shall adopt the approved
programs, plans, and audit scope and methodology within 10 days
of approval by the Reserve Bank and the Department and then shall
fully comply with them. During the term of this Agreement, the
approved programs, plans, and audit scope and methodology shall
not be amended or rescinded without the prior written approval of
the Reserve Bank and the Department.
6. Within 10 days after the end of each month following
the date of this Agreement, the Bank shall submit to the Reserve
Bank and the Department written progress reports detailing the
form and manner of all actions taken to secure compliance with
the provisions of this Agreement, and the results thereof.
Management's responses to the audit reports on BSA prepared by
internal and external auditors shall be included with the
progress report. The Reserve Bank and the Department may, in
writing, discontinue the requirement for progress reports or
modify the reporting schedule.
Notices
7. All communications regarding this Agreement shall be
sent to:
(a) Ms. Sarah Dahlgren
Senior Vice President
Federal Reserve Bank of New York
33 Liberty Street
New York, NY 10045
(b) Mr. P. Vincent Conlon
Deputy Superintendent of Banks
New York State Banking Department
One State Street
New York, NY 10004
(c) Mr. Philip S. Toohey
Senior Executive Vice President and
General Counsel
HSBC Bank USA
One HSBC Center
27th Floor
Buffalo, NY 14203
-7-
49.
Miscellaneous
8. The provisions of this Agreement shall be binding on
the Bank, and each of its institution-affiliated parties in their
capacities as such, and their successors and assigns.
9. Each provision of this Agreement shall remain effective
and enforceable until stayed, modified, terminated or suspended
in writing by the Reserve Bank and the Department.
10. Notwithstanding any provision of this Agreement, the Reserve
Bank and the Department may, in their sole discretion, grant
written extensions of time to the Bank to comply with any
provision of this Agreement.
11. The provisions of this Agreement shall not bar, estop
or otherwise prevent the Board of Governors, the Reserve Bank,
the Department or any federal or state agency from taking any
further or other action affecting the Bank, or any of its current
or former institution-affiliated parties or their successors or
assigns.
-8-
50.
12. This Agreement is a "written agreement" for the
purposes of, and is enforceable by the Board of Governors as
order issued under, section 8 of the Federal Deposit Insurance
Act and pursuant to Section 39 of the New York State Banking Law.
IN WITNESS WHEREOF, the parties hereto have caused this
Agreement to be executed as of this 30th day of April, 2003.
HSBC BANK USA FEDERAL RESERVE BANK OF NEW YORK
By: /s/ Youssef Nasr By: /s/ Sarah Dahlgren
----------------------- ------------------------------
Youssef Nasr Sarah Dahlgren
President & Senior Vice President
Chief Executive Officer
NEW YORK STATE BANKING DEPARTMENT
By: /s/ Barbara Kent
------------------------------
Barbara Kent
Acting Superintendent of Banks
-9-