Notes to the financial statements

2. Principal accounting policies

Group

(a) Revenue

Revenue comprises commission from the Group’s agency businesses, brokerage from matched principal transactions, execution on exchange transactions, and fees received from the sale of financial information to third parties.

Matched principal business

Certain Group companies are involved as principal in the purchase and simultaneous commitment to sell securities between third parties. Revenue is generated from the difference between the purchase and sale proceeds and is recognised in full at the time of the simultaneous commitment by the counterparties to sell and purchase the financial instrument.

Agency business (name give-up transactions)

The Group acts in a non-advisory capacity to match buyers and sellers of financial instruments and raises invoices monthly for the service provided. The Group does not act as principal and only receives and transmits orders between counterparties. Revenue is stated net of rebates and discounts, value added tax and other sales taxes and is recognised in full on the date of the trade. Amounts receivable at the year end are reported as other trade receivables within trade and other receivables (note 18).

For the shipbroking business, the Group acts in a non-advisory capacity to match buyers and sellers of services and recognises revenue, net of rebates and discounts, value added tax and other sales taxes, when the Group has a contractual entitlement to commission, normally the point at which there is a completion of contractual terms between the principals of a transaction. Amounts receivable at the year end are reported as other trade receivables within trade and other receivables (note 18).

Execution on exchange business

The Group also acts as a broker of exchange listed products, where the Group executes client orders as principal and then novates the trade to the underlying clients’ respective clearing broker for settlement. Revenue is generated from either the difference between the purchase and sale proceeds or by invoice, depending on the product, market and agreements in place with the customer and is recognised on trade date.

Information and post-trade services

The Group receives fees from the sale of financial information and provision of post-trade services to third parties. These are stated net of value added tax and other sales taxes and is recognised in revenue on an accruals basis to match the provision of the service. Amounts receivable at the year end are reported as other trade receivables within trade and other receivables (note 18).

(b) Government grants

Revenue grants received are credited to the income statement on an accruals basis over the period the related expenditure is charged and are shown separately within other income.

(c) Intangible assets arising on consolidation

Intangible assets arising on consolidation include all goodwill and other separately identifiable intangible assets identified at the time of acquisition of an entity. Amortisation or impairment of these assets is disclosed on the face of the income statement.

(i) Goodwill

Goodwill arises on the acquisition of subsidiaries, joint ventures and associates and represents the cost of the acquisition in excess of the fair value of the Group’s share of the net assets acquired. Fair values are determined based on an assessment of the value of the individual assets and liabilities acquired, including reference to market prices, discounting expected future cash flows to present value or using replacement cost as appropriate.

Goodwill is initially recognised at cost and is subsequently held at cost less any provision for impairment. Goodwill is not subject to amortisation but is tested annually for impairment.

Goodwill acquired since 2004 is held in the currency of the underlying assets of the business and is revalued at the closing rate at each balance sheet date. Goodwill acquired before 2004 is held in sterling and is not revalued.

Goodwill acquired prior to 1998 was immediately eliminated against reserves and was not reinstated on transition to IFRS. Goodwill held on the balance sheet on transition to IFRS in 2004 has been recognised at its book value at the date of transition and is no longer amortised but is tested annually for impairment.

Goodwill arising on the acquisition of subsidiaries and joint ventures is shown within non-current assets. Goodwill arising on the acquisition of associates is included within their carrying value.

On disposal of a subsidiary, joint venture or associate, the attributable goodwill is included in the calculation of the profit or loss on disposal, except for goodwill written off to reserves prior to 1998, which remains eliminated.

(ii) Separately identifiable intangible assets

The Group has recognised separately identified intangible assets on acquisitions where appropriate. These generally include customer contracts and customer relationships. Intangible assets acquired by the Group are initially stated at fair value and subsequently adjusted for amortisation and any impairment. Impairment charges are recognised in the income statement. Where an impairment has taken place, the asset is reviewed annually for any reversal of the impairment. Any reversal of impairments are credited to the income statement.

Amortisation of separately identifiable intangible assets is charged to the income statement on a straight-line basis over their estimated useful lives as follows:

Customer relationships	2–10 years
Customer contracts	Period of contract
Other intangible assets	Period of contract

A deferred tax liability is recognised against the asset where the amortisation is non-tax deductible. The liability unwinds over the same period as the asset is amortised.

(iii) Impairment

Goodwill is not amortised but is tested for impairment at least annually. The recoverable amount of a Cash Generating Unit (CGU) is determined based on value-in-use calculations. These calculations use cashflow projections which extend forward to a terminal value and which take account of the approved budget for the coming year. The Group applies a suitable discount factor to the future cash flows based on its weighted average cost of capital. Growth rates are conservatively applied and do not exceed the expected growth in the local economy after the fifth year. Where the carrying value of the asset exceeds its value-in-use, an impairment charge is immediately recognised in the income statement, and the asset is impaired to its value-in-use. For goodwill, impairment charges are not reversed and impaired intangible assets are reviewed annually for reversal of previous impairment.

(d) Intangible assets arising from development expenditure

Development expenditure on software for electronic trading platforms is recognised as an intangible asset in accordance with the provisions of IAS38 “Intangible Assets”. Amortisation of these assets is charged to the income statement on a straight-line basis over the expected useful economic life of the asset of three to five years.

Amortisation and impairment of intangible assets arising from development expenditure is charged within operating expenses in profit before amortisation and impairment of intangibles arising on consolidation and exceptional items. Amortisation is charged against assets from the date at which the asset becomes available for use.

(e) Property, plant and equipment

Property, plant and equipment is initially recognised at fair value and is subsequently presented at fair value less accumulated depreciation and any provisions for impairment in its value. It is depreciated on a straight-line basis over its expected useful economic life as follows:

Short leasehold property	Period of lease
Furniture, fixtures and equipment	3–5 years
Motor vehicles	3–4 years

The Group reviews its depreciation rates regularly to take account of any changes in circumstances. These rates are determined on consideration of factors such as the expected rate of technological development and anticipated usage levels.

When a leasehold property becomes surplus to the Group’s foreseeable business requirements, provision is made on a discounted basis for the expected future net cost of the property.

(f) Leased assets

Assets financed by leasing arrangements which transfer substantially all the risks and rewards of ownership to the Group (finance leases) are capitalised in the balance sheet at fair value. Lease repayments comprise both a capital element and a finance element. The capital element of the leasing commitment is shown as an obligation to the lessor in the balance sheet and the finance element is charged to the income statement on a constant periodic rate of change basis.

Operating lease rentals are charged to the income statement on a straight-line basis over the lease term.

(g) Financial assets

Financial assets are classified as “available-for-sale”, “loans and receivables” or “financial assets at fair value through the income statement” on initial recognition.

Available-for-sale: available-for-sale financial assets are debt and equity non-derivative financial assets and are initially recognised at fair value. Any subsequent changes in fair value are recognised directly in equity. When an investment is disposed of or is determined to be impaired, any cumulative gain or loss previously recognised in equity is transferred to the income statement. For equity financial assets, where the fair value cannot be reliably measured, the assets are held at cost less any provision for impairment. These assets are generally expected to be held for the long term and are included in non-current assets. Assets such as shares or seats in exchanges, cash-related instruments, and long-term equity investments that do not qualify as associates or joint ventures are classified as available-for-sale.

Fair value through the income statement: fair value through the income statement assets are designated as such where they meet the conditions of IAS39 “Financial Instruments: Recognition and Measurement”. They are initially recognised at fair value and any subsequent changes in fair value are recognised directly in the income statement. These assets are usually held for short-term gain, or are financial instruments not designated as hedges. The accounting policy for fair value hedges is included in note 2(j). These assets are included in trade and other receivables (note 18).

Loans and receivables: loans and receivables are non-derivative financial instruments which have a fixed or easily determinable value. They are recognised at cost, less any provisions for impairment in their value. These assets are included in trade and other receivables (note 18).

Financial assets not held at fair value are impaired where there is objective evidence that the value may be impaired. The amount of the impairment is calculated as the difference between the carrying value and the present value of any expected future cash flows, with any impairment being recognised in the income statement. Subsequent recovery of amounts previously impaired are credited to the income statement.

(h) Matched principal business

Certain Group companies are involved as principal in the purchase and simultaneous commitment to sell securities and other financial instruments, between third parties. Such trades are complete only when both sides of the transaction are settled and therefore the Group is exposed to the risk in the event that one side of the transaction remains unsettled. Substantially all the transactions settle within a short period of time on a delivery versus payment basis and, as such, the settlement risk is considered to be low. All amounts due to and payable by counterparties in respect of matched principal business are shown gross as matched principal trade receivables and matched principal trade payables (notes 18 and 19), except where a netting agreement, which is legally enforceable at all times exists and the asset and liability are either settled net or simultaneously.

(i) Matched stock lending business

Certain Group companies are involved in collateralised stock lending transactions as an intermediary between counterparties. Such trades are complete only when both the collateral and stock for each side of the transaction is returned. The gross amounts of collateral due and receivable are disclosed in the balance sheet as deposits paid for securities borrowed and deposits received for securities loaned (notes 18 and 19).

(j) Derivative financial instruments and hedge accounting

The Group uses various financial instruments as hedges to reduce exposure to FX movements. These can include forward FX contracts, currency options and cross currency swaps. All derivative financial instruments are initially recognised on the balance sheet at their fair value adjusted for transaction costs.

The fair values of financial instrument derivatives are determined by reference to quoted prices in an active market. Where no such active market exists, the fair value is determined using appropriate valuation techniques from observable data, including discounted cash flow analysis and the Black-Scholes option pricing model.

The method of recognising the movements in the fair value of the derivative depends on whether the instrument has been designated as a hedging instrument and, if so, the nature of the exposure being hedged. To qualify for hedge accounting, the terms of the hedge must be clearly documented at inception and there must be an expectation that the derivative will be highly effective in offsetting changes in the fair value or cash flow of the hedged risk. Hedge effectiveness is tested throughout the life of the hedge and if at any point it is concluded that the relationship can no longer be expected to remain highly effective in achieving its objective, the hedge relationship is terminated.

Gains and losses on financial instrument derivatives which qualify for hedge accounting are recognised according to the nature of the hedge relationship and the item being hedged. Hedges are either classified as fair value hedges, cash flow hedges or net investment hedges.

Fair value hedges: derivative financial instruments are classified as fair value hedges when they hedge the Group’s exposure to changes in the fair value of a recognised asset or liability. The hedging instrument and hedged item are recorded at fair value on the balance sheet, with changes in fair value being taken through the income statement.

Cash flow hedges: derivative financial instruments are classified as cash flow hedges when they hedge the Group’s exposure to changes in cash flows attributable to a particular asset or liability or a highly probable forecast transaction. Gains or losses on designated cash flow hedges are recognised directly in equity, to the extent that they are determined to be effective. Any remaining portion of the gain or loss is recognised immediately in the income statement. On recognition of the hedged asset or liability, any gains or losses relating to the hedging instrument that had previously been recognised directly in equity are included in the initial measurement of the fair value of the asset or liability. When a hedging instrument expires or is sold, or when a hedge no longer meets the criteria for hedge accounting, any cumulative gain or loss in equity remains there and is recognised in the income statement when the forecast transaction is ultimately recognised. When a forecast transaction is no longer expected to occur, the cumulative gain or loss that was reported in equity is immediately transferred to the income statement.

Net investment hedges: changes in the value of foreign denominated investments due to currency movements are recognised directly in equity. The accounting treatment for a net investment hedge is generally consistent with the treatment for a cash flow hedge. Gains and losses accumulated in equity are included in the income statement on the ultimate disposal of the foreign denominated investment.

Where financial instrument derivatives do not qualify for hedge accounting, changes in the fair market value are recognised immediately in the income statement.

(k) Client money

The Group holds money on behalf of clients in accordance with the client money rules of the FSA. Since the Group is not beneficially entitled to these amounts, they are excluded from the Group balance sheet along with the corresponding liabilities to clients. The amounts held on behalf of clients at the balance sheet date are included in note 33.

(l) Cash and cash equivalents

Cash and cash equivalents comprise cash on hand, overdrafts and demand deposits and other short-term highly liquid investments which are subject to insignificant risk of change in fair value and are readily convertible into a known amount of cash with less than three months maturity.

(m) Long-term borrowings

Long-term borrowings are initially recognised at fair value, being their issue proceeds net of transaction costs incurred. At subsequent reporting dates long-term borrowings are held at amortised cost using the effective interest rate method, with changes in value recognised through the income statement. Transaction costs are recognised in the income statement over the period of the borrowings using the effective interest rate method.

(n) Pension costs

The Group operates defined contribution schemes. Payments to defined contribution schemes are recognised as an expense in the income statement as they fall due. Any difference between the payments and the charge is recognised as a short-term asset or liability.

The Group also operates defined benefit pension schemes in the US and Germany that are closed to new entrants. The cost of providing benefits is determined using the projected unit credit method, with actuarial valuations being carried out at each balance sheet date. The expected return on the scheme’s assets and the interest arising on the pension scheme’s liabilities is recognised in the income statement within finance income and finance costs. The pension scheme deficit recognised in the balance sheet represents the difference between the fair value of the assets of the plan and the present value of the defined benefit obligation at the balance sheet date.

Actuarial gains and losses are recognised in full in the period in which they occur in the statement of recognised income and expense, net of the deferred tax impact. The expected return on the scheme’s assets reflects the estimate made by management of the long-term yields that will arise from the specific assets held within the pension scheme.

(o) Share-based payments

The Group awards share options and other share-based payments as part of employee incentive schemes. The Group has applied IFRS2 “Share-based Payment” for all such awards granted since 7 November 2002. The fair value of services acquired is measured by the fair value of the shares or share options awarded at the time of granting and is charged to staff costs over the period the service is received on a straight-line basis. A reserve of an equivalent amount is held on the balance sheet as part of the retained earnings.

The fair value of share options awarded is calculated using the Black-Scholes option pricing model and takes into account various parameters, including the exercise price, current share price, risk free rate of return and the volatility of ICAP’s share price. The expected lives used in the fair value calculations are adjusted for the estimated effect of non-transferability and exercise restrictions.

A cancellation of a share option by an employee is regarded as a failure to fulfil the performance conditions of the scheme, and all charges relating to that particular grant are credited back to the income statement.

(p) Tax

Tax on the profit for the year comprises both current and deferred tax as well as adjustments in respect of prior years. Tax is charged or credited to the income statement, except when it relates to items charged or credited directly to equity, in which case the tax is also included within equity.

Current tax is the expected tax payable on the taxable income for the period, using tax rates enacted, or substantially enacted by the balance sheet date.

Deferred tax is recognised in respect of all temporary differences between the carrying value of assets and liabilities for reporting purposes and the amounts charged or credited for tax purposes. Deferred tax is calculated at the rate of tax expected to apply when the liability is settled or the asset is realised. A deferred tax asset is recognised only to the extent that it is probable that future taxable profits will be available against which the asset can be utilised. Deferred tax liabilities are offset against deferred tax assets within the same taxable entity or qualifying local tax group where there is both the legal right and the intention to settle on a net basis or to realise the asset and settle the liability simultaneously.

The Group is able to control the timing of dividends from its overseas entities and therefore does not expect to remit overseas earnings in the foreseeable future in a way which would result in a tax charge. As a consequence deferred tax is recognised in respect of the retained earnings of overseas subsidiaries only to the extent that, at the balance sheet date, dividends have been accrued or a binding agreement to distribute past earnings in the future has been entered into by the subsidiary.

No provision is made in respect of any further tax liability that would arise on the distribution of retained earnings of overseas joint ventures and associates.

(q) Foreign currencies

In individual entities, transactions denominated in foreign currencies are translated into the functional currency of that entity at the rates of exchange prevailing on the dates of the transactions. At each balance sheet date, monetary assets and liabilities that are denominated in foreign currencies are retranslated at the rates prevailing on the balance sheet date. Exchange differences are recognised in the income statement, except for exchange differences arising on non-monetary assets and liabilities where these form part of the net investment of an overseas business or are designated as hedges of a net investment or cash flow, when the changes in value are recognised directly in equity. Non-monetary assets and liabilities carried at fair value that are denominated in foreign currencies are translated at the rates prevailing at the date when the fair value was determined.

On consolidation, the results of businesses with non-sterling functional currency are translated into the presentational currency of the Group at the average exchange rates for the period where these approximate to the rate at the date of the transactions. Assets and liabilities of overseas businesses are translated into the presentational currency of the Group at the exchange rate prevailing at the balance sheet date. Exchange differences arising are recognised within equity. Cumulative translation differences arising after the transition to IFRS are taken to the income statement on disposal of the net investment.

In accordance with IAS29 “Financial Reporting in Hyperinflationary Economies”, the financial statements of foreign subsidiaries and joint ventures that report in the currency of a hyperinflationary economy are restated in terms of the measuring unit at the balance sheet date before they are translated into the presentational currency of the Group.

Goodwill and fair value adjustments arising on the acquisition of a foreign entity are treated as assets and liabilities of the foreign entity and translated at the closing rate. Where applicable the Group has elected to treat goodwill and fair value adjustments arising before the date of transition to IFRS as denominated in the presentational currency of the Group.

In the cash flow statement, cash flows denominated in foreign currencies are translated into the presentational currency of the Group at the average exchange rate for the year or at the rate prevailing at the time of the transaction where more appropriate.

(r) Treasury Shares and share ownership trusts

Treasury Shares are recognised in equity and are measured at cost. Consideration received for the sale of such shares is also recognised in equity, with any difference between the proceeds from the sale and original cost being taken to retained earnings.

Company shares held in connection with the Group’s employee share schemes are held in trust and are deducted from consolidated shareholders’ equity. Purchases, sales and transfers of the Company’s shares are disclosed as changes in consolidated shareholders’ equity. The assets and liabilities of the trusts are consolidated in full into the Group’s consolidated financial statements.

(s) Provisions

A provision is recognised where there is a present obligation, either legal or constructive, as a result of a past event for which it is probable there will be a transfer of economic benefits to settle the obligation.

Property provisions are recognised where office space is surplus to requirements at the cost of fulfilling the lease obligations less any expected rental income from sub-letting the property. The provision is discounted when material.

Accounting estimates and judgements

The preparation of financial statements requires management to make judgements, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses. Due to the inherent uncertainty in making estimates, actual results reported in future periods may be based on amounts which differ from those estimates. Estimates, judgements and assumptions are continuously evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. Revisions to accounting estimates are recognised in the period in which the estimate is revised and in any future periods affected. The accounting policies deemed critical to the Group’s results and financial position, based upon materiality and significant judgements and estimates, are discussed below.

(i) Goodwill and intangible assets

The Group reviews goodwill for impairment at least annually at the balance sheet date or when events or changes in economic circumstances indicate that impairment may have taken place, in line with the Group’s accounting policy. Intangible assets remaining useful lives are reviewed annually and are also reviewed for impairment when events or changes in economic circumstances indicate that impairment may have taken place. This calculation requires the exercise of significant judgement by management; if the estimates made prove to be incorrect or performance does not meet expectations which affect the amount and timing of future cash flows, goodwill and intangible assets may become impaired in future periods. The assumptions and results of the impairment reviews are disclosed in note 14.

(ii) Share-based payments

The Group measures the cost of equity settled transactions with employees by reference to the fair value of the equity instruments at the date at which they are granted. Determining the value of a grant of equity instruments requires selecting an appropriate valuation model and estimating the required inputs to that model, including the expected life of the option, volatility and dividend yield and making assumptions about them. The assumptions and model used are disclosed in note 26.

(iii) Tax

Significant judgement is required in determining the Group’s income tax liabilities. In arriving at the current and deferred tax liability the Group has taken account of tax issues that are subject to ongoing discussions with the relevant tax authorities. Calculations of these liabilities have been based on management’s assessment of legal and professional advice, case law and other relevant guidance. Where the expected tax outcome of these matters is different from the amounts that were initially recorded, such differences will impact the current and deferred tax amounts in the period in which such determination is made.

Company

In addition to the above accounting policies, the following relate specifically to the Company.

Investment in subsidiaries

An entity is regarded as a subsidiary if the Company has control over its strategic, operating and financial policies and intends to hold the investment on a long-term basis for the purpose of securing a contribution to the Group’s activities.

The Company recognises investments in subsidiaries initially at fair value, and subsequent changes in value as a result of impairment are recognised in the income statement.

Dividends

The Company recognises the final dividend payable only when it has been approved by the shareholders of the Company in a general meeting. The interim dividend is recognised when the amount due has been paid. Dividends receivable are recognised when they are received.

Functional and presentational currency

The Company considers its functional currency to be sterling as that is the currency of the economic environment in which it operates. Accordingly the results of the Company and the Group are also presented in sterling.