HSBC Holdings plc 2002 Annual Results

03 March 2003

• Operating income up 2.7 per cent to US$26,595 million (US$25,888 million in 2001).

On a cash basis (excluding goodwill amortisation):

• Operating profit before provisions up 3.2 per cent to US$11,641 million (US$11,283 million in 2001).

• Group pre-tax profit up 19.4 per cent to US$10,513 million (US$8,807 million in 2001).

• Attributable profit up 22.5 per cent to US$7,102 million (US$5,799 million in 2001).

• Return on invested capital of 12.8 per cent (11.2 per cent in 2001).

• Cash earnings per share US$0.76 (US$0.63 in 2001).

On a reported basis (after goodwill amortisation):

• Operating profit before provisions up 2.9 per cent to US$10,787 million (US$10,484 million in 2001).

• Group pre-tax profit up 20.6 per cent to US$9,650 million (US$8,000 million in 2001).

• Attributable profit up 25.0 per cent to US$6,239 million (US$4,992 million in 2001).

• Return on average shareholders’ funds of 12.3 per cent (10.4 per cent in 2001).

• Basic earnings per share US$0.67 (US$0.54 in 2001).

Dividend and capital position:

• Second interim dividend of US$0.325 per share; total dividend for 2002 of US$0.53 per share, an increase of 10.4 per cent over 2001.

• Tier 1 capital ratio of 9.0 per cent; total capital ratio of 13.3 per cent (2001: tier 1 capital ratio of 9.0 per cent and total capital ratio of 13.0 per cent).

The figures for 2001 have been restated to reflect the adoption of UK Financial Reporting Standard 19 ‘Deferred Tax’, details of which are set out in Note 1 on page 15.

HSBC made a profit on ordinary activities before tax of US$9,650 million in 2002, an increase of US$1,650 million, or 21 per cent, compared with 2001. On a cash basis, profit before tax increased by US$1,706 million, or 19 per cent, compared with 2001.

The Directors have declared a second interim dividend for 2002 of US$0.325 per ordinary share (in lieu of a final dividend) which, together with the first interim dividend of US$0.205 already paid, will make a total distribution for the year of US$0.53 per share (US$0.48 per share in 2001), an increase of 10.4 per cent. The dividend will be payable on 6 May 2003.

Net interest income of US$15,460 million in 2002 was US$735 million, or 5 per cent, higher than 2001. Net interest income in Europe and North America was higher than in 2001 mainly reflecting the growth in average interest-earning assets and the benefits of lower funding costs. In addition, GF Bital contributed US$85 million of net interest income to the North American region. Net interest income in South America was lower than in 2001 as HSBC reduced the level of local debt securities in Brazil and in Argentina narrower spreads and the costs associated with the funding of the non-performing loan portfolio resulted in a net interest cost in 2002.

Other operating income of US$11,135 million was in line with 2001 as growth in wealth management income was offset by falls in securities-related fee and commission income.

Operating expenses, excluding goodwill amortisation, were US$349 million, or 2 per cent, higher than 2001 reflecting the cost structures of new acquisitions, investment in the expanding wealth management business and costs associated with the enhancement of business processes. HSBC’s cost : income ratio, excluding goodwill amortisation, improved to 56.2 per cent compared with 56.4 per cent in 2001.

The charge for bad and doubtful debts was US$1,321 million in 2002, which was US$716 million lower than in 2001. Last year’s charge included a US$600 million provision for Argentine exposure.

Other charges of US$107 million in 2002 were US$1,062 million, 91 per cent lower than in 2001. The 2001 charges included the loss of US$520 million arising from the foreign currency redenomination in Argentina and a charge of US$575 million in respect of the Princeton Note Matter. The 2002 charge includes a US$68 million charge in respect of losses in Argentina arising from judicial orders or ‘amparos’ allowing certain depositors to circumvent the mandatory pesification rules and recover their historical US dollar deposits at current exchange rates.

Gains on disposal of investments of US$532 million included profit on the sales of CCF’s stake in Lixxbail to its joint venture partner and HSBC’s 6.99 per cent stake in Banco Santiago S.A. In addition, disposal gains of US$170 million were realised from sales of investment debt securities to adjust to changes in interest rate conditions.

The tier 1 capital and total capital ratios for the Group remained strong at 9.0 per cent and 13.3 per cent, respectively, at 31 December 2002.

The Group’s total assets at 31 December 2002 were US$759 billion, an increase of US$63 billion, or 9 per cent, since 31 December 2001.

*Figures for 2001 have been restated to reflect the adoption of UK Financial Reporting Standard 19 ‘Deferred Tax’, details of which are in Note 1 on page 15.

**Figures for 2001 have been restated to reflect a reclassification of Panama and Mexico to North America, from South America (formerly Latin America).

*** The figures for 2001 have been restated to reflect a reclassification of US domestic private banking business previously included within the Personal Financial Services segment and HSBC Select previously included within other.

Comment by Sir John Bond, Group Chairman

Against a background of difficult conditions in most of the world’s economies, HSBC achieved a solid set of results in 2002. Our performance reflected the resilience of our local businesses and our ability to generate reasonable returns in them. In spite of the global economic downturn the strength of HSBC enabled us to grow our operating income and to take opportunities to lay the foundations for our future. I thank my talented colleagues whose hard work and dedication have made this superior performance possible.

In a testing year for the financial services industry we added revenues in excess of US$700 million, more than twice our incremental costs. Our credit experience was better than last year, even adjusting for the exceptional events in Argentina in 2001. Credit costs absorbed 12 per cent of our operating profit before provisions, an improvement compared to 14 per cent last year.

Profit attributable to shareholders of US$6,239 million was 25 per cent higher than that achieved in 2001 which bore the exceptional costs of the Argentine situation and the Princeton Note matter.

The improvement in our operating profit before provisions, a key measure of underlying performance, was partly driven by strong growth in our commercial banking business. It also reflected encouraging progress in personal financial services and the success we have had in broadening our relationships with our customers despite the difficult market for investment products. Customer satisfaction with, and trust in, HSBC’s services continued to grow. In the UK, for example, First Direct was the most recommended bank and has the country’s most satisfied customers for the 11^th year running.

We now have 36 million personal customers around the world with more than 4.3 million registered for e-banking services. HSBC Premier, our service for our most valuable clients, was launched in a further six countries bringing the total to 29, the number of Premier centres to over 200 and the number of Premier customers to 632,000.

Responding to personal customer needs, we generated record sales of capital protected investment products, particularly in Hong Kong and in the rest of Asia. We also achieved record volumes of activity in mortgage banking, notably in the UK and the US. We grew insurance sales by 16 per cent. We continued to attract increasing volumes of lower cost retail balances as customers preferred liquid cash deposits to longer term savings products. This was a particular strength of our retail networks in France.

As equity markets slumped the demand from personal customers for equity products diminished significantly. However, interest rates were held low to stimulate consumption and we achieved strong growth in personal lending across all our major markets. We continued to increase the number of credit cards in issue bringing the total to almost 14 million worldwide and added 1.3 million store cards through the acquisition of Benkar in Turkey. Credit charges on personal lending remained in line with both history and expectations, as affordability and employment levels remained stable.

In contrast, lending to the corporate sector remained subdued in difficult market conditions. In aggregate, outstanding balances were held in line with last year. Although credit costs grew significantly in Corporate Banking to US$184 million, the conservative and conventional positioning of our portfolio has protected HSBC from the marked deterioration seen in certain industries.

The Group’s debt capital markets business had a record year, achieving its highest ever ranking in European league tables to complement its leadership position in Hong Kong and in much of the rest of Asia. Revenues in this business grew by US$40 million or 30 per cent and reflected continuing benefits from close co-operation between different parts of HSBC. The strong links between our teams in London, Paris and Düsseldorf for European distribution continue to provide a competitive advantage. International teamwork was also evident in our corporate finance business which had a strong year including leading Europe's largest IPO ‘Autoroutes du Sud de la France’ and winning 10 mandates in mainland China as adviser or manager. This business has also made an encouraging start to 2003.

Our treasury operations continued to perform well. In 2002 we retained our leading position for Treasury and Capital Markets services in Asia and Europe. For the fifth consecutive year, we achieved the "Best at Treasury and Risk Management in Asia" Euromoney award for excellence.

The institutional equities business had a disappointing year as market revenues declined. However, the actions taken since the end of 2001 to keep costs more in line with revenue opportunities, resulted in a lower attributable loss.

Trading in debt securities across all major regions suffered as concerns about a slowdown in global economic growth and the impact of corporate scandals in the US widened credit spreads on corporate debt securities.

Argentina

The impact of the end of convertibility of the Argentine currency on a one for one basis with the US dollar, and the asymmetrical conversion of banks’ balance sheets to pesos, has had a dramatic effect on the economic and social environment in Argentina. During 2002 the economy contracted over 11 per cent and consumer price inflation reached 41 per cent. The official rate of unemployment rose to almost 18 per cent.

Liquidity conditions in the banking sector were troubled during most of the year. Through the mechanism of "amparos", many depositors were able to obtain court orders for repayment of historically US dollar denominated deposits at current exchange rates, rather than the rate at which these deposits had been "pesified" by the Argentine Government. This further asymmetry cost HSBC Argentina US$68 million in 2002. Together with the burden of funding a largely non performing asset book, this contributed to our operations in Argentina suffering a loss of US$245 million in 2002. Of our Argentine bank's assets, 71 per cent are government obligations.

The HSBC Group’s total assets in Argentina have shrunk to the equivalent of US$1.6 billion, partly through actions taken to minimise risk exposure and also through the impact of exchange translation; this represents 0.2 per cent of total Group assets. Improvement in the situation in Argentina depends heavily on the government’s ability to restore stability internally and credibility externally.

Acquisitions

Our experience in the current subdued economic environment has reinforced the importance of growing the number of customers we reach geographically and extending the product coverage of HSBC. During the course of 2002 we were able to take advantage of some important new opportunities as well as to complement a number of our existing businesses through acquisition.

We believe that China is on course to become one of the world’s leading economies. Our ambition is to be the leading international financial services organisation in China. Recognising the huge reach of domestic organisations, we see strong potential in partnership relationships. We were delighted to conclude an agreement to take a 10 per cent equity interest in Ping An Insurance at a cost of US$600 million. Ping An is China’s second largest life assurer reaching over 27 million policy holders through more than 210,000 sales agents.

Also, we completed the acquisition of Keppel Insurance Pte Limited in February this year for a consideration of approximately US$88 million. Keppel is a leading insurance business in Singapore specialising in general life and Islamic insurance and through its acquisition HSBC will be able to expand an existing business in a country where we have a long history.

In November we completed the acquisition of GF Bital in Mexico for US$1.1 billion. In December, as planned, we injected US$800 million to recapitalise GF Bital. The importance of Mexico as a manufacturing base for US companies, the substantial remittance business flowing between the US and Mexico and the growing demographic importance of the Hispanic community in the US all supported the business case to grow our business in Mexico. GF Bital brings to the Group 6 million customers, 1,400 branches and a prominent position in the savings industry in Mexico.

In August we expanded our operations in Turkey through the acquisition of Benkar, a leading store card issuer, for up to US$75 million. The business is being integrated into HSBC’s banking operations in Turkey which were significantly enlarged in 2001 through the acquisition of Demirbank.

Later in 2002 we had talks with the management of Household International, Inc. in the US about a possible combination of our two businesses. This led to a joint announcement on 14 November last year of an agreement for HSBC to acquire Household, issuing HSBC shares in exchange for Household common stock. Based on our share price at the time this valued Household at US$ 14.2 billion. Shareholders of both companies will be asked to approve the transaction in late March. It is also subject to various regulatory approvals and, subject to obtaining these, we expect to complete the transaction at the end of March. This will bring together one of the world’s most successful deposit gatherers and one of the world’s largest consumer asset generators. It is an extremely good match. We see a growing number of areas where the technology and marketing skills of Household, combined with the customer and geographic profile of HSBC, will generate valuable business opportunities. It is expected that the acquisition will be accretive in the first year. The successful integration of Household into HSBC will be our primary objective this year.

Pensions

During the last 12 months there has been a growing understanding in the UK and elsewhere about the financial risks inherent in the provision of company pensions. In part this has been prompted by the fall in the equity markets but, more profoundly, by recognition of the effects of greater longevity. We welcome the enhanced accounting disclosures in FRS 17, which shed more light on the financial position of company pension schemes.

HSBC attaches the greatest importance to providing appropriate and secure pension arrangements for its staff but also to balancing the burdens which successive generations will have to bear for those who preceded them. In this regard in 1996 we closed our largest defined benefit pension scheme to new members with all new employees being offered membership of a defined contribution scheme. In making our decision we took into account a number of factors including changing demographics which underline the fact that the cost to shareholders of defined benefit schemes are unquantifiable but increasing.

Although this issue is critical there is time to address the problem. Even before employer’s contributions, the investment income generated by our largest scheme in the UK covered more than 90 per cent of the pensions payable from it. Nevertheless, in 2003 we have made a substantial incremental contribution of £500 million to that scheme in order to recognise the changing demographics and investment returns. This is a clear recognition of our responsibilities. HSBC has the financial strength and the resolve to fulfil all its obligations.

Outlook

In common with the last two years, prospects for 2003 are hard to predict. The beginning of the year has been characterised by a high degree of economic uncertainty. This has been compounded by political uncertainty about developments in the Middle East. So far during the economic and stock market downturn consumers and small business customers have proved surprisingly resilient. Policy initiatives to maintain economic activity through low interest rates and fiscal stimulus have been effective. Although equity markets have fallen, property markets have supported consumer confidence and have attracted savings and investment flows.

However, this cannot be a long term solution for repairing world economic growth prospects. Overcapacity still burdens many of the world’s industries, leading to corporate activity focused on rationalisation rather than expansion. It is a period of cost reduction rather than revenue growth. Demand for investment funding remains very modest. Pension provision and, in the US, retirement health benefits obligations entered into by companies during a more benign economic climate, are likely to place a severe strain on future corporate profits. Employment levels remain a key factor in economic recovery.

During the current uncertainties, HSBC’s policy of financial strength and its earning power are competitive advantages. The acquisitions announced last year will improve our geographical balance. They should also reduce risks within our financial framework by increasing the proportion of earnings from the personal sector which, long term, has more predictable revenue and cost characteristics. We remain well positioned to seek growth opportunities worldwide with few geographic or product constraints. The benefits derived from the breadth and capital generating strength of the HSBC Group’s core domestic franchises continue to support resilient operating performance, including into the current year to date.

Recognising the underlying strengths of HSBC the Board has approved a second interim dividend of US$0.325 taking the dividends for the year to US$0.53, an increase of 10.4 per cent over last year. Additionally, acknowledging the increasing importance of dividend flows to our shareholders the Board has determined to move to a programme of quarterly dividends beginning with dividends in respect of the second half of 2003. It is envisaged that the first such quarterly dividend will be paid in January 2004. Further details of these proposals will be announced in due course.