Industry consultation on two proposed Code of Practice chapters regarding valuation in resolution under the Financial Institutions (Resolution) Ordinance (Cap. 628) (FIRO) – Enclosure: The HKMA's Approach to Valuation in Resolution (Consultation)

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Purpose
Section 196 of the Financial Institutions (Resolution) Ordinance (Cap. 628)
(“FIRO”) empowers the Monetary Authority (“MA”) as the resolution authority in relation to banking sector entities to issue a code of practice (“Code of Practice”) about any matter relating to the functions given to the MA as a resolution authority by the FIRO. This publication is a chapter of the Code of Practice. It sets out guidance on the MA’s approach to valuation in resolution (“VIR”), including the valuations required under the FIRO, their purposes, valuation methodologies and relevant considerations, with a view to facilitating the preparation by authorized institutions (“AIs”) to support the execution of VIR. For avoidance of doubt, each chapter of the Code of Practice should be read in the context of, and in conjunction with, the other chapters, as appropriate. This chapter of the Code of Practice should therefore be read in the context of all other chapters, especially in conjunction with chapter RA-2, “The HKMA’s Approach to Resolution Planning” (“RA-2”) 1 and chapter VIR-2, “Resolution Planning – Valuation in Resolution Capabilities” (“VIR-2”) 2 of the Code of Practice. The guidance in this chapter is of a general nature and does not take into account the particular circumstances of any individual AI. In case of any conflict between this chapter and the FIRO, the FIRO prevails. Unless otherwise stated, terms used in this chapter have the same meaning as defined in the FIRO; and references to sections in this chapter are to those of the FIRO. 1 https://www.hkma.gov.hk/media/eng/doc/key-functions/banking-stability/resolutions/RA￾2_The_HKMA_approach_to_resolution_planning.pdf 2 https://brdr.hkma.gov.hk/eng/doc-ldg/docId/20251209-4-EN

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Application All AIs, and any other entities which may be subject to valuations under the FIRO, i.e. an AI’s holding company(ies) and affiliated operational entity(ies). Structure

1. Introduction
2. Statutory requirements
3. Valuation methodology and output
4. Valuation process
5. Group-wide resolution considerations

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation

1. Introduction
   1.1 In respect of a failing AI, there are three broad stages of any resolution
   execution process 3
   , namely (i) contingency planning, during which preparatory actions are taken by the MA (with assistance from the AI) to ensure readiness for an orderly resolution of the AI as its proximity to failure increases, while the AI itself may also take recovery actions to restore its financial strength and viability, (ii) stabilisation, where there is a need to resolve an AI and one or more stabilization options are applied by the MA to resolve the AI, and (iii) restructuring and exit, where changes are made to the structure and business model of the AI or its constituent parts to address the root causes of failure and restore its long-term viability.
   1.2 The FIRO mandates valuations to inform certain key decisions under the
   FIRO across the resolution process. These are pre-resolution valuations to support timely and appropriate decisions by the MA in relation to the timing of resolution initiation and the choice of stabilization option(s) to resolve and stabilise a failing AI for the purpose of achieving the resolution objectives, and a post-resolution valuation to support the decision by an independent valuer appointed under the FIRO on the eligibility of a pre￾resolution creditor or pre-resolution shareholder of an affected entity 4 to a payment of compensation if they receive, as a result of the resolution of that entity, less favourable treatment than would have been the case had winding up of the entity commenced immediately before its resolution was initiated. By establishing transparency and fairness, valuations help ensure the resolution process remains credible and equitable, thereby safeguarding market confidence.
   1.3 Conducting VIR is an inherently complex task, requiring analysis of a
   substantial amount of data and information under tight timelines and uncertain conditions. It involves the use of specific methodologies that are based on intricate assumptions and judgements. This chapter outlines the 3 See paragraph 1.3 of RA-2. 4 An affected entity refers to an AI, its holding company or its affiliated operational entity, in respect of which a Part 5 instrument is made under the FIRO.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation valuations required under the FIRO as well as the MA’s approach to them taking into account industry practices to facilitate the development of capabilities and arrangements for supporting timely and robust VIR (“VIR capabilities”) by AIs. This chapter also covers the valuation considerations in a group-wide resolution where the MA acts as a host resolution authority.
1.4 This guidance is based on a stylised resolution execution process and is
not intended to be exhaustive or definitive. Given the variations in AIs’ sizes, business models and resolution strategies, it is not practical to prescribe a “one size fits all” approach to VIR. Furthermore, the actual approach to VIR will depend on the facts and circumstances at the time.
1.5 In developing his approach to VIR, the MA has drawn on international
practices to ensure alignment of approaches, considering the need for cross-border cooperation to achieve positive resolution outcomes for AIs which have cross-border operations.
1.6 The rest of this chapter outlines the VIR required under the FIRO and sets
out how the MA anticipates VIR will generally be carried out. Section 2 of this chapter sets out the statutory requirements for VIR. Section 3 of this
chapter provides details on the valuation methodology and output. Section
4 of this chapter explains the valuation process. Lastly, Section 5 of this
chapter provides guidance on the considerations for VIR in the context of
group-wide resolutions.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
2. Statutory requirements
2.1 The FIRO provides the MA with a set of stabilization options to manage
the failure of an AI. To support the effective use of those stabilization options and to apply the “no creditor worse off than in liquidation” (“NCWOL”) safeguard for pre-resolution creditors and pre-resolution shareholders, the FIRO mandates that the following valuations be conducted. Pre-resolution valuation
2.2 Under section 35(1), before the MA applies a stabilization option to, or
makes a capital reduction instrument in respect of, a within scope financial institution, it must make a valuation 5 for informing any decisions to be made as to any of the following matters— (a) whether the conditions for applying a stabilization option or making a capital reduction instrument are satisfied; (b) if the conditions for applying a stabilization option are satisfied, which stabilization option to apply; (c) the extent to which— (i) any Additional Tier 1 capital instrument or Tier 2 capital instrument should be written off or converted through the making of a capital reduction instrument; or (ii) any liabilities or securities eligible to be the subject of a bail-in provision should be cancelled, modified, converted or otherwise dealt with through the making of a bail-in provision in a bail-in instrument; (d) what is to be transferred by a securities transfer instrument or property transfer instrument; (e) the value of any consideration due in respect of whatever is so transferred. 5 Section 35(2) provides that if a valuation was made before the MA made a capital reduction instrument in respect of a within scope financial institution, the MA may apply a stabilization option without making a fresh valuation.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
2.3 Regarding the nature of the valuation to be made under section 35(1),
section 36 prescribes that the valuation must—
(a) be fair in all the circumstances, be based on prudent and realistic assumptions, including assumptions as to rates of default and severity of losses, and take into account— (i) if appropriate, available information from which a market price for assets and liabilities could be derived; and (ii) accounting principles to the extent that they are relevant in assisting in the making of a valuation that is suitable for the purpose for which it is being made; (b) not assume that any financial support or assistance will be provided, directly or indirectly, to the financial institution by the Government, a public body or a public officer, other than in the ordinary course of business; (c) take account of the fact that expenses incurred by the resolution authority in connection with the application of a stabilization option to the financial institution may be recovered from the financial institution; and (d) take account of the fact that, if the application of a stabilization option to the financial institution includes the use of resolution funds for a purpose mentioned in section 178(4)(a) or (b), interest or fees may be charged in respect of the funds used and recovered from the financial institution. Appointment of section 10 entity to assist in pre-resolution valuation
2.4 Depending on the specific circumstances, the MA may conduct a pre￾resolution valuation by himself or, pursuant to section 37(1), appoint a
section 10 entity to assist in the making of such valuation, in relation to the
entity concerned. In appointing a section 10 entity to assist, the MA must, pursuant to section 37(2), be satisfied that the section 10 entity— (a) has the expertise, experience, and resources that are, in the opinion of the MA, necessary for the section 10 entity to be able to assist in

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation the making of a valuation under section 35(1); and (b) does not have an actual or material interest in common or in conflict with the entity concerned, or a member of the same group of companies of the entity concerned, that could influence, or be reasonably perceived to influence, the section 10 entity’s judgement in assisting in the making of a valuation under section 35(1) in relation to the entity concerned. Post-resolution valuation
2.5 Part 6 of the FIRO provides for the NCWOL safeguard. Under section 102,
any pre-resolution creditor or pre-resolution shareholder of an affected entity who has received, is receiving or is likely to receive, as a result of the resolution of that entity, less favourable treatment than would have been the case had winding up of the entity commenced immediately before its resolution was initiated is eligible for a payment of compensation.
2.6 To apply the NCWOL safeguard, section 101 requires an independent
valuer 7 to make a valuation (“NCWOL valuation”) in relation to an affected entity and decide whether any pre-resolution creditor or pre-resolution shareholder is eligible for a payment of compensation. Section 103(1) further requires that in making the NCWOL valuation, the independent valuer must— (a) assess the treatment that a pre-resolution creditor or pre-resolution shareholder, or a class of pre-resolution creditor or pre-resolution shareholder, would have received if winding up of the affected entity had commenced immediately before its resolution was initiated; (b) assess the actual treatment that the pre-resolution creditor or pre￾resolution shareholder, or the class of pre-resolution creditor or pre￾resolution shareholder, has received, is receiving or is likely to 6 Section 37(3) provides that the acts of an entity acting as a section 10 entity would remain valid despite the fact that it is afterwards discovered that there was a defect in the appointment of the section 10 entity, other than a defect arising because the section 10 entity did not meet the criteria specified in section 37(2). Please refer to paragraphs 2.12 to 2.16 for the requirements in relation to the appointment of an independent valuer.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation receive as a result of the resolution of the affected entity, disregarding any compensation that may be payable under this Part and any clawback order made under Part 8; and (c) if there is a difference between the treatment mentioned in paragraph (a) and the treatment mentioned in paragraph (b), assess the amount of that difference.
2.7 Pursuant to section 103(2), the independent valuer must apply the
following valuation assumptions and principles set out in Schedule 7 to the FIRO in assessing the value of the winding up treatment 8 in relation to an affected entity:
(a) an assessment is to be made as if any stabilization option applied to the entity had not been applied and as if no other stabilization option would be applied to the entity; (b) it is to be assumed that any assets of the entity available on a winding up of the entity would have been distributed on the winding up to creditors in accordance with the priorities established by section 265 of the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap. 32); (c) an assessment is to be made as if any financial support or assistance provided, directly or indirectly, to the entity by the Government, a public body or a public officer, other than in the ordinary course of business, was not provided; (d) the possibility of any support or assistance mentioned in paragraph (c) is to be disregarded.
2.8 In addition to the valuation assumptions and principles set out in Schedule
7 to the FIRO, the Secretary for Financial Services and the Treasury (“SFST”) may make regulations under section 105(1) to specify assumptions to be made and principles to be applied by the independent valuer, and to prescribe a process for the conduct of the NCWOL valuation. Defined in section 94 as the treatment mentioned in section 103(1)(a), which has been replicated in paragraph 2.6(a) of this chapter.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
2.9 Furthermore, section 103(3) provides for a rebuttable presumption that the
resolution treatment 9 is not less favourable than the winding up treatment in relation to a liability (whether arising under a contract or otherwise) owed by the affected entity to a pre-resolution creditor in either of the following circumstances during resolution:
(a) a bail-in instrument is made in respect of the affected entity but the liability is not subject to any bail-in provision contained in the instrument resulting in the liability continuing as a liability of the affected entity on the same terms; and (b) the liability is transferred to another entity under a Part 5 instrument and that other entity is subject to the liability on the same terms as those on which the affected entity was subject to it.
2.10 If the assessment of the independent valuer is that the resolution treatment
is less favourable to a pre-resolution creditor or pre-resolution shareholder than the winding up treatment, the independent valuer must make a decision under section 104(2) that the pre-resolution creditor or pre￾resolution shareholder is entitled to a payment of compensation of an amount equal to the amount of the difference in accordance with the assessment.
2.11 Under section 106, the decision made by the independent valuer would
take effect three months after the notice of the decision was given, if no application is made by a pre-resolution creditor, pre-resolution shareholder or the MA to the Resolution Compensation Tribunal under section 107(1) for a review of the decision. Otherwise, the decision would take effect when the Resolution Compensation Tribunal confirms, varies or substitutes the decision, or if the application is withdrawn, at the time when it is withdrawn. Defined in section 94 as the treatment mentioned in section 103(1)(b), which has been replicated in paragraph 2.6(b) of this chapter.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Appointment of independent valuer
2.12 To ensure the independence of the independent valuer making the
NCWOL valuation, section 96 prescribes that the independent valuer is to be appointed by an appointing person, who in turn is to be separately appointed by the Financial Secretary under section 95. The MA, as soon as practicable after making for the first time a Part 5 instrument in respect of an affected entity, must notify the appointing person in writing of that fact, after which the appointing person must appoint an independent valuer as soon as practicable.
2.13 Under section 96(3), the appointing person may only appoint as an
independent valuer a person whom the appointing person is satisfied meets the appointment criteria specified in Schedule 2 to the FIRO, including that the person must not be a public officer and must have the necessary expertise, experience and resources to be able to perform the functions of an independent valuer in relation to the entity concerned. There must be no circumstances that would prevent, or give rise to a reasonable perception that they would prevent, the person from being able to perform impartially and independently the functions of an independent valuer in relation to the entity concerned. This includes the person not having an actual or material interest in common or in conflict with the affected entity or its group companies that could influence, or be reasonably perceived to influence, the person’s judgement in the performance of the functions of an independent valuer in relation to the entity concerned. In addition, the person must not have offered services to, or have had business or other relationships with the affected entity or its group companies in the past three years prior to appointment as an independent valuer that could influence, or be reasonably perceived to influence, their judgement in the performance of the functions of an independent valuer in relation to the entity concerned 10 . 10 Section 96(9) provides that the acts of a person acting as an independent valuer remain valid despite the fact that it is afterwards discovered that there was a defect in the appointment of the independent valuer, other than a defect arising because the independent valuer did not meet the appointment criteria specified in Schedule 2 to the FIRO.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
2.14 To avoid any conflict that may, or may be perceived to, influence neutrality
in performing of the functions of an independent valuer, section 96(4) prohibits the appointing person from appointing as an independent valuer a person who is, or who has been within the previous five years, a section 10 entity in relation to the resolution authority. Therefore, if the MA has appointed a section 10 entity to assist in the making of a pre-resolution valuation under section 35(1), the independent valuer to be appointed under section 96 for the NCWOL valuation following such resolution must be a different person.
2.15 Section 96(5) provides that the appointment of the independent valuer is
to be made on terms and conditions approved by the Financial Secretary, including terms and conditions as to the keeping of records and accounts.
2.16 The appointment of a person as the independent valuer cannot be revoked
by the Financial Secretary, the appointing person, or the MA. Section 98 empowers the Resolution Compensation Tribunal to revoke the appointment only if, in its opinion, the person is incapable of performing the functions of an independent valuer, is not performing the functions of an independent valuer impartially and independently, is guilty of serious misconduct, and/or no longer satisfies the appointment criteria specified in
Schedule 2 to the FIRO (and referred to in paragraph 2.13 above). The
MA, a pre-resolution creditor or a pre-resolution shareholder could apply to the Resolution Compensation Tribunal for such revocation.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
3. Valuation methodology and output
3.1 Under the FIRO, valuations are required to inform certain key decisions
across the resolution process. To this end, the MA expects three sets of valuations to be made:
(a) Failing or likely to fail valuation (Valuation 1); (b) Resolution transaction valuation (Valuation 2); and (c) NCWOL valuation (Valuation 3). The key aspects of these valuations are summarised in Figure 1.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
Figure 1: Valuations to inform certain key decisions across the resolution process

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
3.2 Valuations 1 to 3 are relevant to entities subject to valuations under the
FIRO, i.e. an AI, its holding company or affiliated operating entity. This
Section, along with Sections 4 and 5 of this chapter, primarily focuses on
their application to an AI. An AI and a valuer should make appropriate adjustments in conducting VIR to ensure coverage of the AI’s holding company(ies) and affiliated operating entity(ies), where applicable.
3.3 As noted in paragraph 2.8 above, the SFST may make regulations to
specify the assumptions, principles, and process for the NCWOL valuation to be made by an independent valuer. While Sections 3, 4 and 5 of this
chapter include discussions on the general industry practices of how a
valuer may assess the treatment of pre-resolution creditors and pre￾resolution shareholders in resolution and in a counterfactual winding up scenario in the Hong Kong context, such discussions are intended for general guidance only for the purpose of facilitating AIs’ understanding of the NCWOL valuation process and development of the necessary VIR capabilities in preparation for such valuation. These discussions should not be construed as the MA’s expectations on how the NCWOL valuation under the FIRO should be carried out, which would be subject to the relevant regulations to be made by the SFST. Valuation 1
3.4 Valuation 1 is relevant to the matter set out in section 35(1)(a), namely, to
inform a decision to be made by the MA as to whether the conditions for applying a stabilization option or making a capital reduction instrument 11 in respect of an AI are satisfied. Specifically, Valuation 1 helps inform whether an AI has ceased, or is likely to cease, to be viable (i.e. condition 11 Under section 31(2), the making of a capital reduction instrument is to be regarded as a trigger event for the purposes of the point of non-viability provision applicable to any Additional Tier 1 capital instrument or Tier 2 capital instrument that is the subject of the capital reduction instrument. On the occurrence of the trigger event, such Additional Tier 1 capital instrument or Tier 2 capital instrument would be written off or converted into ordinary shares to absorb losses or recapitalise the failing AI in accordance with the terms and conditions of the instrument.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation 12 for initiating resolution under section 25) , and is therefore also known as the “failing or likely to fail valuation”.
3.5 Valuation 1 must follow the assumptions and principles set out in section
36 (see paragraph 2.3).
Methodology
3.6 Valuation 1 aims to provide an assessment of an AI’s latest financial
position based on accounting values. The focuses are whether the AI remains solvent (i.e. the aggregate value of assets exceeds that of liabilities), and meets its applicable regulatory capital and liquidity requirements.
3.7 Valuation 1 should be conducted in accordance with the accounting
standards and regulatory requirements in Hong Kong potentially with assistance from a section 10 entity (if available), although depending on the situation, the MA may decide to make a valuation based on the information available to him at the time, without involving a section 10 entity (valuer). Given the potentially fast-moving nature of crises, Valuation 1 should be made within a short timeframe. The process generally involves leveraging the AI’s latest month-end or quarter-end reporting information to produce an updated, intra-month accounting balance sheet by updating the relevant financial information.
3.8 Updated information is generally expected for balance sheet items which
tend to have more volatile value, such as financial instruments measured at fair value (e.g. equity and derivatives). For items with less volatile positions, such as high-quality debt instruments, recently available 12 To initiate the resolution of an AI, the MA must be satisfied that the three conditions under section 25 are met in the case of the AI. Condition 1 is that the AI has ceased, or is likely to cease, to be viable. Condition 2 is that there is no reasonable prospect that private sector action (outside of resolution) would result in the AI again becoming viable within a reasonable period. Condition 3 is that: (a) the non-viability of the AI poses risks to the stability and effective working of the financial system of Hong Kong, including to the continued performance of critical financial functions; and (b) resolution will avoid or mitigate those risks. 13 In determining whether condition 1 is met, the MA may take into account all relevant factors, including but not limited to Valuation 1 outcome.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation financial accounting information might be considered sufficiently reliable.
3.9 In addition, attention should be given to:
(a) material transactions entered into after the relevant period-end reporting; (b) material recovery actions that have been implemented but which have not been accounted for; and (c) items that are subject to material valuation uncertainty, including (i) loans where expected cash flows would be affected by factors such as the credit quality of a counterparty and its guarantor or related parties, market conditions and collateral valuation; (ii) repossessed assets where expected cash flows would depend on the asset’s fair value at the time of foreclosure and in subsequent periods; as well as (iii) goodwill and intangibles, where impairment tests may rely on a subjective judgment as to potential cash flows and discount rates.
3.10 Based on the updated balance sheet, Valuation 1 should include the
updated regulatory capital and liquidity ratios of the AI. Considering the potentially tight timeline in the lead-up to resolution, the updated regulatory metrics may be in the form of best point estimates, supported by clear explanation of the relevant assumptions. Output
3.11 Valuation 1 is expected to produce, to the greatest extent permitted by the
circumstances, a complete, accurate and up-to-date accounting balance sheet, as well as updated regulatory capital and liquidity ratios of the AI. Valuation 2
3.12 Valuation 2 serves to inform the choice and use of appropriate stabilization
option(s). It is relevant to the matters set out in section 35(1)(b) to (1)(e), and must follow the assumptions and principles set out in section 36 (see paragraph 2.3).

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
3.13 Valuation 2 can be referred to as a resolution transaction valuation, as it is
primarily an economic valuation of an AI’s assets, liabilities and/or equity that takes into account how they would be treated under potential resolution actions. The process may involve valuations under multiple resolution scenarios. The outcome of these valuations and scenario analysis would in turn help inform the choice and use of stabilization option(s).
3.14 In addition, Valuation 2 is expected to include an estimation of the NCWOL
compensation risk for the MA in applying a stabilization option. In considering performing any function under the FIRO, the MA must have regard to the resolution objectives set out in section 8(1), including the secondary objective in section 8(1)(d) of seeking to contain the costs of resolution and, in so doing, protect public money. Therefore, NCWOL compensation, as a cost of resolution, is a relevant consideration in deciding the choice and use of stabilization option. Methodology
3.15 Valuation 2 primarily seeks to establish the following:
(a) the economic value of the assets and liabilities of an AI based on their treatment under different resolution actions. This informs the extent of incurred and expected losses that need to be addressed, and therefore the extent of the cancellation of shares and the write￾down of LAC debt instruments 14 required in a bail-in, or the perimeter and value of the assets and liabilities to be transferred to a private sector purchaser or a bridge institution through a property transfer instrument; and (b) the value of the equity of an AI post resolution actions, if the proposed resolution actions involve conversion of LAC debt instruments into equity via bail-in, or a transfer of the shares of the AI (or all or majority 14 Defined in rule 2(1) of the Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements— Banking Sector) Rules (Cap. 628B).

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation of the AI’s assets as a going concern) via a securities transfer instrument or property transfer instrument. Such equity valuation would inform the value of new shares to be issued and therefore the conversion ratios (for each class of equity and liability) in the bail-in, or the consideration for the transfer.
3.16 In addition, Valuation 2 should include an estimation of the NCWOL
compensation risk by comparing the estimated treatment of pre-resolution creditors and pre-resolution shareholders in resolution and in a counterfactual winding up scenario.
3.17 The updated financial statements of the AI from Valuation 1 would likely
be a starting point for Valuation 2. Assets and liabilities should then be valued based on expected cash flows from their holding or disposal, depending on their treatment under the potential resolution strategy and actions. Hold value of assets and liabilities
3.18 The hold value of a particular asset or liability can be defined as its present
value, discounted at an appropriate rate, of cash flows that an AI can reasonably expect under fair, prudent and realistic assumptions from retaining the asset or liability, considering factors affecting customer or counterparty behaviour or other valuation parameters in the context of resolution.
3.19 The hold value is applicable when an AI is expected to retain its assets
and liabilities as a going concern, in cases where the AI continues operating a business or maintains its positions in financial instruments following its entry into resolution. The determination of hold value would require forward-looking considerations, including business forecasts and post-stabilisation restructuring plans where available. It should reflect the AI’s cost of capital and its expected operational costs for holding the asset or liability.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Disposal value of assets and liabilities
3.20 The disposal value of a particular asset or liability can be defined as the
cash flow, net of disposal costs and net of the expected value of any guarantees given, that an AI can reasonably expect an orderly sale or transfer of the asset or liability would generate in the currently prevailing market conditions.
3.21 The disposal value is applicable when an AI is expected to sell or transfer
its assets and/or liabilities in resolution. The valuer may determine the disposal value by applying a discount to observable market prices to account for the AI’s potentially unfavourable bargaining position and the accelerated nature of the sale under stress scenario, taking into account any disposal costs to make the assets or liabilities saleable, the liquidity of the relevant asset or liability class, the impact of piecemeal versus combined sales, the prevailing market conditions, observable market prices, timelines, and the difference between a transaction with a typical marketing period and a forced transaction with a limited marketing period. Market value of equity
3.22 The market value of equity can be defined as the estimated market price
for shares to be issued or transferred, determined using generally accepted valuation methodologies, such as the discounted cash flow (“DCF”) approach through the dividend discount model 15 or the free cash flow to equity model 16 and the market value approach using trading or transaction-based multiples models 17 . 15 Under this model, an AI’s expected dividends are discounted to calculate the present value of the equity. These dividends represent the cash expected to be distributed to shareholders and are typically determined through detailed forecasts of the expected profits and losses. 16 Under this model, free cash flow to equity represents the cash flow available to be distributed to an AI’s shareholders after accounting for all operating expenses, investments in working and fixed capital and net borrowing. The free cash flow to equity is discounted to determine the present value of the equity. 17 The trading-based multiples model estimates the value of an AI by referencing multiples derived from comparable entities that are publicly traded, such as the price-to-earnings ratio and the price-to-book ratio. In contrast, the transaction-based multiples model estimates the value by referencing multiples observed in prior similar transactions.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
3.23 The valuation should account for any write-down of LAC debt instruments
and the potential post-stabilisation restructuring actions. A projected cash flow supported by a business forecast in line with the estimated restructuring measures is generally expected. Unlike the economic value of an AI’s net assets (value of assets minus liabilities), equity valuation assesses the overall value of the AI as a whole, considering factors such as capital structure, synergies across asset items and business lines, and franchise value from future growth opportunities. Estimated treatment in resolution and in a counterfactual winding up scenario
3.24 The treatment to be received by each class of pre-resolution creditors and
pre-resolution shareholders in resolution should be estimated based on the economic valuation of assets, liabilities and equity (if applicable) under the potential resolution actions (including estimated restructuring measures). For instance, the estimation could be based on the estimated market price for shares issued to pre-resolution creditors under the bail-in stabilization option, or the estimated proceeds (e.g. recoveries) received by those creditors from a sale or transfer transaction.
3.25 On the other hand, the estimation of treatment to be received by each class
of pre-resolution creditors and pre-resolution shareholders in a counterfactual winding up scenario involves estimating cash flows in a winding up and the allocation of proceeds (e.g. recoveries) in accordance with the hierarchy of claims under Hong Kong's insolvency law. Paragraphs 3.36 to 3.44 set out the methodology that may be followed. However, given the dynamic nature of a crisis and potential speed of events, a detailed quantification of the counterfactual treatment may not be needed for the purpose of estimating the NCWOL compensation risk.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Valuation 2 under stylised resolution strategies Bail-in
3.26 In a whole bank bail-in 18 scenario, LAC debt instruments of an AI would be
written down and/or converted into equity to absorb losses and recapitalise the AI. Valuation 2 would need to determine, among other things:
(a) the economic value of the assets to be retained on a hold basis, taking into account the estimated restructuring measures 19 and expected future losses; (b) the AI’s net asset value based on economic valuation; (c) the amount of write-down required to absorb losses and restore the net asset value (“NAV”) of the AI to zero, taking into account any expected downstreaming of non-pre-positioned LAC resources available to the AI as part of the resolution process; (d) the amount by which LAC debt instruments need to be converted into equity to restore the capital position of the AI to meet regulatory requirements, support estimated post-stabilisation restructuring and sustain market confidence; (e) the value of new shares to be issued based on an equity valuation of the AI post conversion; and (f) the estimated treatment in resolution, and the estimated treatment in a counterfactual winding up scenario, of each class of pre-resolution creditors and pre-resolution shareholders affected by the bail-in, for the purpose of informing the NCWOL compensation risk. 18 In a whole bank bail-in, the bail-in stabilization option is applied to support the entire balance sheet of the AI. 19 An initial consideration of restructuring options may be needed during the contingency planning phase to help inform the MA’s decisions around the choice of stabilization options.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Combination of bail-in and transfer (or “bail-in plus”)
3.27 A bail-in plus strategy would involve the write-down of LAC debt
instruments via bail-in and then a transfer of the shares of the failing AI to a private sector purchaser or a bridge institution. The requirements for Valuation 2 under this scenario would largely be the same as those for a bail-in strategy explained in the preceding paragraph, with the exception that the equity valuation of the AI post conversion will inform the value of the transfer, instead of the new shares to be issued. Business or assets transfer
3.28 In the context of business or asset transfer strategies, Valuation 2 would
ultimately be looking to determine the amount at which a purchaser would value the line of businesses, the portfolio of assets or the entire entity to be transferred.
3.29 Discounted cash flow valuation is likely required, which should be built on
the basis of detailed forecasts of the AI’s expected profits and losses, over an appropriate time horizon, and may involve an asset-by-asset level of granularity.
3.30 Depending on the situation, a market value approach may be appropriate,
with adjustment to trading or transaction-based multiples to reflect the market conditions and the potentially unfavourable bargaining position of the AI. Output
3.31 It is expected that the outcome of Valuation 2 would be written into a report
which might include but is not limited to the following parts:
(a) an introduction, setting out the purpose of the valuation, the AI in question, background of the valuation, valuation date, etc.;

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation (b) details on the updates made to the valuations initially made during the contingency planning phase and an explanation thereof; (c) a description of the potential stabilization option(s) to be used as indicated by the MA, and the assets, rights and liabilities that have been included in the valuation; (d) an indication of the assets, rights and liabilities valued in accordance with either the hold or disposal value in line with their estimated treatment under different stabilization options and estimated restructuring measures; (e) (for bail-in) the aggregate amount of write-down required to absorb losses and restore NAV to zero; (f) (for transfer) the valuation of the assets, rights, liabilities or franchise to be transferred; (g) (for bail-in or transfer) the equity valuation of the AI as a whole reflecting resolution and restructuring; (h) an indication of the valuation methodology(ies) applied, with explanations and justifications; (i) the underlying assumptions with supporting information; (j) an explanation of the assumptions used in the valuation and the underlying accounting or regulatory information; (k) information about valuations of subsidiaries that are subject to internal LAC requirements (as defined under the Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements— Banking Sector) Rules (Cap. 628B) (“LAC Rules”)); and (l) the assessment of NCWOL compensation risk by comparing the estimated treatment in resolution, and the estimated treatment in a counterfactual winding up scenario, of each class of pre-resolution

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation creditors and pre-resolution shareholders.
3.32 Indicative ranges of values are most suitable where the application of
different valuation methodologies or assumptions significantly affects the valuation results. Where a range is calculated, the report should explain how the range is derived and identify a best point estimate within the range, supported by a clear and detailed rationale. Additional valuations for resolution transaction
3.33 The outcome of Valuation 2 may also serve as a starting point for
additional valuations that may be required to support the resolution transaction following its initiation. For instance, when applying a bail-in stabilization option with an approach involving interim instruments 20, a further valuation is expected to inform the conversion rates for these interim instruments. Additionally, further valuations may be needed to inform the development and implementation of post-stabilisation restructuring measures. If the actual restructuring approach significantly deviates from the plan anticipated at the resolution date, or becomes protracted, the additional valuations should reflect the updated conditions for informing specific decisions as needed, such as determining the value of businesses or assets to be sold, as well as the capital required to support restructuring. Valuation 3
3.34 Valuation 3 is the NCWOL valuation. It assesses whether a pre-resolution
creditor or pre-resolution shareholder of the AI, or a class thereof, receives, as a result of the resolution of the AI, less favourable treatment than would have been the case had winding up of the AI commenced immediately before its resolution was initiated. The result determines the eligibility for 20 In the event of an open bank bail-in, interim instruments may be issued instead of the immediate issuance of new equity or immediate redistribution of shares to pre-resolution creditors. These interim instruments represent contingent entitlements to an unknown quantum of equity securities (or other possible compensation, such as cash or other securities).

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation and, if so eligible, the quantum of NCWOL compensation after resolution.
3.35 Valuation 3 must follow the assumptions and principles set out in Schedule
7 to the FIRO (see paragraph 2.7) and be based on the rebuttable presumption in section 103(3) (see paragraph 2.9). Methodology
3.36 The assessment of the resolution treatment received by pre-resolution
creditors and pre-resolution shareholders should be based on their actual treatment in resolution, disregarding any NCWOL compensation that may be payable. The actual treatment will depend on the stabilization option(s) applied. For instance, in the case of bail-in, the actual treatment could be an assessment of the value of the shares that may be issued under the bail-in stabilization option to the pre-resolution creditors concerned. In the case of a partial transfer of the assets, rights or liabilities of an AI and where the liabilities owed to the pre-resolution creditors concerned are not transferred or otherwise written off or converted into equity prior to the transfer, the actual treatment could depend on whether any meaningful payment may likely be received by the failed AI (i.e. the residual entity) by reason of the transfer and whether any recoveries may likely be received by such pre-resolution creditors according to the creditor hierarchy in the event where the residual entity is subsequently wound up.
3.37 The assessment of the counterfactual winding up treatment is expected to
be a liquidation type of valuation aimed at determining expected cash flows in the event of insolvency. The counterfactual winding up proceedings of the AI should be assumed to commence immediately before the initiation of resolution. The valuation process generally involves:
(a) preparing adjusted legal-entity balance sheets; (b) accounting for intra-group balances; (c) estimating net recoveries in legal entities; and (d) estimating distributions to creditors in each legal entity.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
3.38 In estimating recoveries, it is expected that a DCF methodology would be
employed to estimate cash flows from asset realisations. Estimated cash flows should be based on market values, reflecting that assets may have to be sold at a discount due to their lack of marketability, the seller’s potentially unfavourable bargaining position and the fact that buyers are aware of the position of the seller.
3.39 The costs associated with the winding up, such as the fees for insolvency
administrators, should be incorporated in the estimated cash flows. When estimating the costs of a winding up scenario, a valuer should consider the opportunity cost of an absence of future business prospects as well as administrative costs, including costs of running down the business itself, costs related to the winding up proceedings, and a different cost base.
3.40 The valuation should take into account the insolvency law and practice in
Hong Kong and other applicable jurisdictions to reflect the priority ranking of creditors’ claims within the creditor hierarchy. Specifically, preferential debts would be paid in priority to unsecured debts, which in turn would be paid in priority to subordinated unsecured debts, and any surplus remaining after paying and discharging all the debts and liabilities of the AI would be paid to its shareholders.
3.41 Any financial support or assistance provided other than in the ordinary
course of business by the MA to the AI, and the possibility of any such support or assistance, should be disregarded. This could include any liquidity support from the HKMA under the Contingent Term Facility. The key principle in disregarding such support or assistance is that the shareholders and creditors of the failing AI should not benefit from any extraordinary support or assistance provided by the MA to the AI, or the possibility of such support or assistance, in order to protect financial stability in Hong Kong.
3.42 The independent valuer concerned would need to consider how the
winding up of an AI impacts other entities within its group of companies, and as a result, the value of any investment by the AI in such entities. For

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation example, an AI may not be able to pay its intra-group balances due to its subsidiaries in a winding up scenario. This may impact the viability of the subsidiaries, and in turn the value of the AI’s investment in the subsidiaries. Additionally, an AI may provide parental support, for example through deployment of non-pre-positioned LAC resources, to its subsidiaries to recapitalise them as part of resolution, but such support is not expected in a winding up scenario.
3.43 For the purpose of determining any NCWOL compensation due after
resolution, the assessment of the counterfactual winding up treatment should be based on information about the facts and circumstances which exist and could reasonably have been known at the point immediately before resolution was initiated.
3.44 When comparing the counterfactual winding up treatment and the
resolution treatment of pre-resolution creditors and pre-resolution shareholders, the time value of money should be considered to account for the potential difference in the timing of a pre-resolution creditor or pre￾resolution shareholder receiving the treatments in the winding up and resolution scenarios respectively. Appropriate discounting should be applied as needed to ensure the comparability of such treatments. Output
3.45 It is expected that the output of Valuation 3 would be documented in a
report that includes:
(a) the actual treatment that each class of pre-resolution creditors and pre-resolution shareholders receive in resolution; (b) the counterfactual treatment that each class of pre-resolution creditors and pre-resolution shareholders would have received if winding up of the AI had commenced immediately before its resolution was initiated;

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation (c) any difference in the counterfactual treatment in a winding up scenario and the actual treatment in resolution for pre-resolution creditors or pre-resolution shareholders; (d) a description of the counterfactual winding up proceedings and relevant justifications; (e) a description of how the insolvency laws of Hong Kong and other relevant jurisdictions, where applicable, would have been applied and the justifications for key assumptions; (f) an analysis and explanation of the estimated realisation strategy and valuation approach for each asset class; and (g) an analysis and explanation of the estimated costs associated with the counterfactual winding up proceedings.

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VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
4. Valuation process
Timeline
4.1 The VIR process is expected to commence during contingency planning
for resolution when an AI’s risk of failure is elevated. The actual timing would depend on, among other things, the nature and speed of the crisis and the complexity of the AI involved.
4.2 The MA may appoint a section 10 entity under the FIRO to act as a valuer
to assist in the making of Valuation 1 and Valuation 2 (see paragraph 2.4 above). The valuer typically prepares a report of these valuations initially as of a measurement date agreed with the MA, likely a recent month-end or quarter-end prior to their appointment. These initial valuations help establish the AI’s financial position and conditions promptly to support effective contingency planning.
4.3 Iterative updates of the initial valuations are expected to reflect evolving
conditions, incorporating the latest available information. These updates should account for material valuation movements due to liquidity outflows, loan balance changes, market price fluctuations, contractual maturities and new transactions of the AI since the last update. Additionally, updates may incorporate the impact of potential stabilization options and estimated restructuring measures identified by the MA. The updates ensure that the valuations capture the most current information to inform decision-making. Before making any decision to initiate resolution, the MA would take into account the valuations as of a reference date (i.e. the date as of which the valuations are most recently updated by the valuer), which are expected to be reflected by the valuer in its full report.
4.4 Post entry into resolution, additional valuations based on the outcome of
Valuation 2 may be needed to support the resolution transaction as explained in paragraph 3.33.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
4.5 To apply the NCWOL safeguard, a separate independent valuer will
conduct Valuation 3. As noted in paragraph 2.12, the independent valuer will be appointed as soon as practicable after entry into resolution. In practice, it is likely to be after the resolved AI is stabilised.
4.6 The expected timeline is illustrated in Figure 2 below.
Figure 2: Expected timeline for VIR
Key steps
4.7 A highly iterative valuation process with substantial interaction between
the valuer and the AI in question can enhance the robustness of the valuation outcome. The key steps are set out below. Given the urgent nature of a crisis and the sensitivities of contingency planning, some steps may be streamlined based on the circumstances. Pre-resolution (a) The MA may appoint a section 10 entity as a valuer for Valuation 1 and Valuation 2, and define the scope of the valuation work.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation (b) The AI prepares relevant data, information and documentation, including establishing and populating a data room. (c) The valuer submits an initial data and information request to the AI, typically covering the AI’s assets, liabilities, and valuation capabilities (e.g. model design, user guides). (d) The valuer reviews the documentation of the AI’s governance and assurance procedures to assess the credibility of the AI’s valuation capabilities. (e) To inform the assessment of input assumptions and manual overlays, the valuer validates the AI’s data and information, which may include identifying key sensitivities, cross-checking with market data and historical trends, and analysing behavioural patterns. (f) The valuer holds discussions with the AI’s management to help inform valuation assumptions and methodologies. (g) The AI performs valuations of its assets, liabilities, and equity (if applicable) as directed by the valuer, using the AI’s own models. (h) The valuer conducts re-performance testing by independently replicating the valuations using the AI’s own models to verify accuracy. (i) If the AI’s models are considered unsuitable or further validation is required, the valuer performs valuations using its own models. (j) The process may require iterations, including gathering additional data and information, revising assumptions, re-running models, carrying out sensitivity analyses, and reflecting the impact of potential stabilization options and estimated restructuring measures that may be specified by the MA.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation (k) The valuer aggregates and processes asset or portfolio level valuations to produce Valuation 1 and Valuation 2. (l) To estimate NCWOL compensation risk, the valuer compares the treatment that pre-resolution creditors and pre-resolution shareholders are likely to receive as a result of resolution and the estimated treatment in a counterfactual winding up scenario. (m) The valuer reports to the MA its initial valuations as of an agreed measurement date. (n) The valuer iteratively updates the valuations based the latest available information as the situation evolves. (o) As the AI approaches the point of non-viability, the valuer finalises the valuations as of a reference date in a report to the MA. Post-resolution (p) The MA, as soon as practicable after making for the first time a Part 5 instrument in respect of the AI, notifies the appointing person (appointed by the Financial Secretary under section 95) in writing of that fact. (q) The appointing person appoints an independent valuer as soon as practicable after being notified by the MA. (r) The independent valuer requests relevant information for Valuation 3 from the AI and the MA (e.g. Valuation 2 report). (s) The independent valuer assesses the actual recoveries for each class of pre-resolution creditors and pre-resolution shareholders in resolution. (t) The independent valuer models a counterfactual winding up scenario, assuming the AI had entered into insolvency instead of resolution

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation immediately before resolution was initiated, and estimates the recovery amounts for each class of pre-resolution creditors and pre￾resolution shareholders based on their priority of claims, taking into account the insolvency law and practice in Hong Kong and applicable jurisdictions. (u) The independent valuer compares the treatments for each class of pre-resolution creditors and pre-resolution shareholders in resolution and in a counterfactual winding up to determine if any NCWOL compensation is due and prepare the NCWOL assessment report. Key data and information
4.8 Robust valuations require timely provision of high-quality data to the valuer,
which may include:
(a) up-to-date financial statements and regulatory reporting information prepared by the AI as close as possible to the valuation date; (b) most recent audited financial statements; (c) portfolio-level and position-level data; (d) historical payment data and performance metrics relating to loan portfolios; (e) information on cost base; (f) relevant market data, including industry-wide assessments of asset quality and comparable valuations of peers; and (g) supervisory assessments of the AI’s financial condition.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation Consolidation scope
4.9 VIR should be prepared on both a consolidated basis and a solo (or solo￾consolidated) basis for an AI, as applicable. The consolidated VIR is
expected to be made based on the accounting consolidation group as well as the capital consolidation group and, if different, the LAC consolidation group 21 . If an AI has a holding company in Hong Kong subject to capital and/or LAC requirements, consolidated VIR at this holding company level should also be made.
4.10 In addition, the MA may request a specific valuation analysis for an AI’s
subsidiary to assess the potential for and extent of losses that may be passed from the subsidiary to the AI. Roles and responsibilities
4.11 The MA is responsible for taking resolution actions, as informed by the VIR
and other considerations. In relation to Valuation 1 and Valuation 2, the MA may:
(a) appoint a valuer to assist in the valuations, define the scope of work and agree a measurement date for valuations to be made initially; (b) specify to the valuer the potential stabilization options and estimated restructuring measures under consideration; and (c) coordinate with the relevant home and host resolution authorities on engagement of valuers, where applicable.
4.12 The AI should support the preparation of the valuations by the valuer,
leveraging its own VIR capabilities. The AI is expected to:
21 As defined in rule 2(1) of the LAC Rules, the LAC consolidation group of an AI is the same as its capital consolidation group, unless otherwise varied by the resolution authority under rule 7 of the LAC Rules.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation (a) provide the required data, information and supporting documentation in the format and timeframe specified by the valuer; (b) prepare business forecasts based on management judgements and assumptions agreed with the valuer; (c) run valuation models based on the assumptions and level of granularity specified by the valuer; and (d) provide explanations to the valuer and arrange interviews between its key management personnel and the valuer.
4.13 Any valuer appointed by the MA for Valuation 1 and Valuation 2 is
expected to:
(a) assess the credibility of the AI’s valuation capabilities and validate the AI’s data and information; (b) determine and specify to the AI valuation assumptions and methodologies to be used for running the valuations, incorporating the AI’s management forecast as well as the impact of the potential stabilization options and estimated restructuring measures specified by the MA; (c) oversee the valuation process by the AI and propose approaches or adjustments to address any issues identified; (d) prepare sensitivity analyses based on varying valuation assumptions and overlays; (e) produce and iteratively update Valuation 1 and Valuation 2 and other valuation analyses as required by the MA during contingency planning; and (f) produce finalised report on Valuation 1 and Valuation 2, including estimated NCWOL compensation risk.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
4.14 The independent valuer is responsible for making Valuation 3 and decide
whether any pre-resolution creditor or pre-resolution shareholder is eligible for a payment of compensation.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
5. Group-wide resolution considerations
5.1 For an AI within a cross-border group whose ultimate parent is
incorporated outside Hong Kong, the preferred resolution strategy for the AI may aim to stabilise and recapitalise the AI as part a group-wide resolution. Under such strategy, losses at the AI are expected to be transferred to the parent company via a contractual write-down and/or conversion into equity of intra-group LAC debt instruments in accordance with their terms and conditions (i.e. contractual loss transfer).
5.2 In a group-wide resolution, the valuation needs of the MA as a host
resolution authority would include, but not be limited to:
(a) an assessment of the AI’s latest financial position (Valuation 1) to inform whether the AI has failed or is likely to fail, and the triggering of contractual loss transfer; and (b) an evaluation of the economic values of the AI’s assets and liabilities (Valuation 2) to assess the extent of losses and recapitalisation needs, and thereby the extent of write-down or conversion of intra￾group LAC debt instruments and any required deployment of non￾pre-positioned LAC resources.
5.3 It is expected that the home resolution authority would appoint a group
valuer to conduct valuation on a group-wide basis. The MA expects to coordinate with the home resolution authority and leverage these valuations made by the group valuer where appropriate to achieve a shared understanding with the home resolution authority of the financial position and recapitalisation needs of the group and the AI. The MA may review and provide input on assumptions relevant to the AI and considerations specific to Hong Kong. If needed, the MA may appoint a valuer (i.e. a section 10 entity) separately, for example to conduct analysis not covered by the group valuer. This valuer may be a local agent of the group valuer. In any case, the MA expects ongoing coordination with the home resolution authority to ensure an orderly cross-border resolution.

Resolution Regime – Code of Practice
VIR-1 The HKMA’s Approach to Valuation in Resolution V.1 - Consultation
5.4 If the recapitalisation of the AI cannot be achieved contractually, the MA
may, if the conditions for doing so are met, initiate resolution under the FIRO to achieve the loss transfer via bail-in and/or transfer stabilization option(s), in a coordinated manner with the home resolution authority. Valuation 1 and Valuation 2 would be made by the MA (potentially with assistance from a section 10 entity) before any such decision to initiate resolution is made. The relevant valuation needs would encompass, in addition to those set out in paragraph 5.2:
(a) an estimation of the AI’s equity value to inform the value of any new shares to be issued or existing shares to be transferred (as applicable); and (b) an estimation of the NCWOL compensation risk, by comparing the estimated treatment of pre-resolution creditors and pre-resolution shareholders in resolution and in a counterfactual winding up scenario.

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Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation Purpose
Section 196 of the Financial Institutions (Resolution) Ordinance (Cap. 628)
(“FIRO”) empowers the Monetary Authority (“MA”) as the resolution authority in relation to banking sector entities to issue a code of practice (“Code of Practice”) about any matter relating to the functions given to the MA as a resolution authority by the FIRO. This publication is a chapter of the Code of Practice. It sets out the MA’s expectations in relation to the ex-ante capabilities and arrangements an authorized institution (“AI”) should put in place to support timely and robust valuation in resolution (“VIR”). It also provides guidance on the MA’s approach to the implementation of such VIR standards. For avoidance of doubt, each chapter of the Code of Practice should be read in the context of, and in conjunction with, the other chapters, as appropriate. This chapter of the Code of Practice should therefore be read in the context of all other chapters, especially in conjunction with chapter RA-2, “The HKMA’s Approach to Resolution Planning” (“RA-2”) 1 and
chapter VIR-1, “The HKMA’s Approach to Valuation in Resolution” (“VIR￾1”) 2 of the Code of Practice.
The guidance in this chapter is of a general nature and does not take into account the particular circumstances of any individual AI. In case of any conflict between this chapter and the FIRO, the FIRO prevails. Unless otherwise stated, terms used in this chapter have the same meaning as defined in the FIRO; and references to sections in this chapter are to those of the FIRO. 1 https://brdr.hkma.gov.hk/eng/doc-ldg/docId/20170707-3-EN 2 https://brdr.hkma.gov.hk/eng/doc-ldg/docId/20251209-3-EN

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation Application All AIs, and any other entities which may be subject to valuations under the FIRO, i.e. an AI’s holding company(ies) and affiliated operational entity(ies). Structure

1. Introduction
2. Scope of VIR capabilities
3. Expectations of VIR capabilities
   (1) Data and information
   (2) Models, methodologies and assumptions (3) Governance and access (4) Documentation (5) Testing and validation
4. The MA’s approach to implementation
   Annex 1: Specific capabilities for Valuations 1, 2, and 3
   Annex 2: Data and information for VIR

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation

1. Introduction
   1.1 As VIR will inform the MA’s timely and appropriate actions in resolving an AI
   and thereby preserving financial stability, the inability of an AI to conduct timely and robust VIR is therefore an impediment to orderly resolution. To address this impediment, the MA expects an AI to put in place capabilities and arrangements for supporting timely and robust VIR (“VIR capabilities”).
   1.2 The Financial Stability Board (“FSB”) has identified VIR capabilities as an
   important element to resolvability and has set out high-level guidance regarding valuation methodology and assumptions as part of the Principles on Bail-in Execution 3 in June 2018. Authorities in other jurisdictions (e.g. European Union 4 / Banking Union 5 , and the United Kingdom 6 ) have issued specific standards on VIR capabilities. This chapter of the Code of Practice sets out the MA’s expectations for an AI’s VIR capabilities that are broadly in line with the international practices.
   1.3 The MA will consider an AI’s VIR capabilities when developing resolution
   plans to support strategies for securing an orderly resolution of the AI (or of the AI’s holding company) 7 . The MA will also consider an AI’s VIR capabilities when conducting a resolvability assessment of the AI (or of the AI’s holding company) to help determine whether there are, and if so, the extent of the effect of, any impediments to its orderly resolution 8 . 3 https://www.fsb.org/uploads/P210618-1.pdf European Banking Authority (“EBA”)’s Handbook on Valuation for Purposes of Resolution. https://www.eba.europa.eu/publications-and-media/press-releases/eba-publishes-handbook-valuation￾purposes-resolution. EBA’s Valuation Handbook for Purposes of Resolution Chapter 10. Management Information Systems https://www.eba.europa.eu/publications-and-media/press-releases/eba-highlights￾importance-data-and-information-preparedness 5 Single Resolution Board (“SRB”) ’s Framework for Valuation. https://www.srb.europa.eu/en/content/valuation-framework. SRB’s public consultation on Expectations on Valuation Capabilities https://www.srb.europa.eu/en/content/public-consultation-expectations-valuation￾capabilities The Bank of England (“BoE”)’s Statement of Policy on Valuation Capabilities to Support Resolvability. https://www.bankofengland.co.uk/-/media/boe/files/paper/2021/bank-of-englands-sop-valuation￾capabilities-to-support-resolvability-may-2021.pdf. The BoE’s Guidance on Valuation Capabilities to Support Resolvability. https://www.bankofengland.co.uk/letter/2018/guidance-on-valuation-capabilities-to￾support-resolvability 7 See section 13(1). 8 See section 12(1).

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation
1.4 An AI is expected to be able to demonstrate that it has in place the
necessary VIR capabilities as part of the HKMA’s bilateral resolution planning programme. If an AI does not meet the expectations set out in this
chapter, the MA may form the opinion that a significant impediment exists to
the orderly resolution of the AI. The MA may direct the AI, pursuant to
section 14, to take any measures in relation to its structure (including group
structure), operations (including intra-group dependencies), assets, rights or liabilities that are, in the opinion of the MA, reasonably required to remove or mitigate the effect of this impediment.
1.5 The rest of this chapter provides guidance on the matters that an AI should
address when putting in place VIR capabilities, and the MA’s approach to implementation. Section 2 of this chapter outlines the scope of VIR capabilities. Section 3 of this chapter sets out the expectations on an AI in relation to data and information, models, methodologies and assumptions, governance and access, documentation, as well as testing and validation for VIR. Lastly, Section 4 of this chapter sets out the MA’s approach to implementing the expectations in this chapter.
1.6 VIR is relevant to entities subject to valuations under the FIRO, i.e. an AI,
its holding company(ies) and its affiliated operational entity(ies). This
chapter primarily focuses on the MA’s expectations for an AI’s VIR
capabilities. An AI should make appropriate adjustments in developing its VIR capabilities to ensure effective coverage of its holding company(ies) and affiliated operational entity(ies), where applicable.

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation
2. Scope of VIR capabilities
2.1 As set out in the Code of Practice VIR-1 “The HKMA’s Approach to
Valuation” (“VIR-1”), to inform key decisions across the resolution process as required under the FIRO, three sets of valuations are expected to be made in the event of an AI’s resolution:
(a) Valuation 1 (failing or likely to fail valuation) – assessment of latest financial position based on accounting values to inform a decision to be made by the MA as to whether the conditions for applying a stabilization option or making a capital reduction instrument in respect of the AI are satisfied. (b) Valuation 2 (resolution transaction valuation) – primarily an economic valuation of assets, liabilities, and/or equity of the AI that takes into account how they would be treated under potential resolution actions, to inform the choice and use of stabilization option(s). In addition, an estimation of the “no creditor worse off than in liquidation” (“NCWOL”) compensation risk for the MA in applying a stabilization option. (c) Valuation 3 (NCWOL valuation) – assessment of whether a pre￾resolution creditor or pre-resolution shareholder of the AI, or a class thereof, receives, as a result of the resolution of the AI, less favourable treatment than would have been the case had winding up of the AI commenced immediately before its resolution was initiated, to determine eligibility for and, if so eligible, the quantum of NCWOL compensation after resolution.
2.2 The type and scope of VIR required will depend on the resolution actions
being considered or taken in a crisis. To preserve optionality for the MA, an AI is generally expected to establish capabilities in normal times to support the making of all three sets of valuations (i.e. Valuation 1, Valuation 2 and Valuation 3) 9 . The expected depth of these capabilities would be 9 Depending on the specific circumstances, the MA may conduct Valuation 1 and Valuation 2 by himself or,

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2.3 For example, in relation to an AI within a cross-border group whose ultimate
parent is incorporated outside Hong Kong, if the preferred resolution strategy for the AI involves stabilising and recapitalising the AI as part of a group-wide resolution, losses at the AI may be transferred to the parent resolution entity via contractual write-down and/or conversion into equity of intra-group LAC debt instruments issued by the AI. In such scenario, the AI would be expected to prioritise the development of its VIR capabilities for Valuation 1 and Valuation 2 (mainly on assets and liabilities). However, the AI will also need to develop baseline VIR capabilities for other valuations, to cater for alternative resolution scenarios where contractual loss transfer is unfeasible, or if fulfilling the resolution objectives under the FIRO requires additional measures, and the MA exercises statutory bail-in power to achieve the equivalent economic outcome (in which case Valuation 1, Valuation 2 (on assets, liabilities and equity) and Valuation 3 would be needed).
2.4 An AI’s VIR capabilities should cover its overseas branches and
downstream subsidiaries, as well as other entities, e.g. its holding company(ies) and/or affiliated operational entity(ies), to the extent that they are part of the resolution group under the preferred resolution strategy for the AI. The capabilities should enable VIR to be made on both a consolidated basis and a solo (or solo-consolidated) basis for an AI, as applicable. The consolidated VIR is expected to be made based on the AI’s accounting consolidation group as well as its capital consolidation group and, if different, its LAC consolidation group. pursuant to section 37(1), appoint a section 10 entity to assist in the making of such valuations, in relation to the AI. To apply the NCWOL safeguard, section 101 requires an independent valuer to conduct a valuation (i.e. Valuation 3) in relation to the AI and decide whether any pre-resolution creditor or pre￾resolution shareholder is eligible for a payment of compensation.

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3. Expectations of VIR capabilities
3.1 The overarching expectation is that VIR capabilities should enable VIR to
be carried out in a sufficiently timely and robust manner so as to support the effectiveness of resolution. Outlined below are expectations for VIR capabilities common to Valuation 1, Valuation 2, and Valuation 3. Detailed guidance on the specific capabilities and considerations for each of these Valuations is provided in Annex 1. (1) Data and information
3.2 An AI is expected to identify and maintain all data and information necessary
to support timely and robust VIR at a sufficient level of granularity. The AI should be able to explain and justify to the MA the basis for the identification of such scope of data and information, and keep the scope under regular review. Annex 2 sets out an illustrative list of data and information that an AI should maintain 10 .

3.3 In addition, an AI should ensure that the data and information for VIR are
maintained and kept sufficiently up-to-date to reflect the potential rapid changes in market conditions and its underlying positions in a crisis, so as to enable the production of valuation snapshots that are sufficiently current. The AI should maintain records of the underlying data and information, to facilitate trend analysis and financial projections.
3.4 Robust controls should be implemented to ensure that the data and
information are complete, accurate and reliable. This includes documentation of data lineage to trace sources, regular reviews and testing (such as data quality checks, reconciliations and consistency validations), access controls, as well as governance frameworks. 10 The data and information needed to support VIR would vary depending on the AI’s profile, business model, types of assets and liabilities and the expected resolution transactions, etc. The data and information should also be sufficient to cater for different possible scenarios leading to the likely failure of the AI. AIs are expected to consider the foregoing and any other relevant factors to identify the applicable data and information for VIR purposes.

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3.5 An AI should develop and maintain an effective management information
system (“MIS”) capable of timely and flexible retrieval of data and information necessary for VIR. The data and information maintained in the MIS should be presented in a user-friendly and easily understandable format. If the MIS draws data and information from multiple sources, they should be cross-referenced and reconciled to ensure consistency and clarity of their relationships.
3.6 An AI should have the capability to set up a virtual data room (“VDR”) in a
timely manner. The VDR should include all necessary data and information for VIR purposes from the MIS and other relevant sources (e.g. credit information database and legal documentation repositories that are not connected to the MIS), and be organised for ready access by a valuer. Depending on the complexity of an AI’s operations and its preparedness for providing the necessary data and information for VIR based on its MIS, it may be required to maintain a VDR in business-as-usual (“BAU”) with regularly refreshed data to ensure ready availability in crises. The setup of a VDR in BAU would ensure that up-to-date data and information can be quickly collated and securely accessed by a valuer during crises, particularly when VIR processes are subject to tight time constraints. This would also help mitigate potential administrative challenges that may arise when establishing a VDR under time-sensitive circumstances.
3.7 Where a third-party service provider manages an AI’s data and information,
the AI should implement procedures to monitor the performance of the provider and ensure that accurate, up-to-date data and information are accessible on a timely basis, in line with the Supervisory Policy Manual module SA-2 “Outsourcing”11 . https://www.hkma.gov.hk/media/eng/doc/key-functions/banking-stability/supervisory-policy-manual/SA￾2.pdf

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3.8 An AI should develop, in BAU as part of its VIR capabilities, valuation
models for all material entities and material asset and liability classes, with materiality being assessed by whether their misvaluation would impact the robustness of the overall VIR outcomes. The AI is expected to document and justify to the MA the basis for the materiality assessment, considering (a) in the case of material entities, the size of the relevant entities, their contribution to the group in terms of assets, liabilities, revenue and profitability, as well as their operations and functions, and (b) in the case of material asset and liability classes, their contribution to the group total, valuation uncertainty drivers (e.g. exposure to illiquid markets and underlying credit risks), and the role of the identified asset or liability class in maintaining critical financial functions in resolution. The scope of valuation models should be reviewed at least annually or following significant changes to the AI’s risk profile, business model and operations, data and systems, etc. which may undermine the accuracy and reliability of the existing valuation models.
3.9 Valuation models should be accurate, reliable and aligned with the
objectives of VIR. They should reflect the key features of the material asset and liability classes identified by the AI, dynamically incorporate the current market conditions and the AI’s financial position, and be adaptable to assess the impact of different resolution actions. In addition, the models should be supported by forecasting capabilities to generate timely and robust forecasts of financial information and regulatory metrics for VIR where applicable. Personnel responsible for developing, maintaining and using these models should understand their functionality and inherent limitations.
3.10 Valuation models capabilities are expected to be proportionate to the size,
nature and complexity of the AI. For smaller AIs with simpler business models and limited business lines, rather than developing models ex-ante, it may suffice to demonstrate to the MA that robust models for resolution can be developed, validated and used by a valuer promptly during a crisis,

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3.11 Valuation models should employ methodologies that deliver robust
valuations of assets, liabilities, financial instruments, business lines, or entities at an appropriate level of granularity. These methodologies should reflect the specific characteristics of the relevant assets, liabilities, financial instruments, business lines and entities, and their estimated treatment in the stabilisation and post-stabilisation restructuring phases of resolution based on the resolution strategy developed by the MA for the AI. For this purpose, the AI should develop a baseline scenario of post-stabilisation restructuring to be reflected in such methodologies. The application of consistent methodologies (e.g. valuation approach, assumptions and valuation adjustments) across a resolution group is expected to maintain the coherence and reliability of valuation outcomes in respect of different entities within the resolution group.
3.12 An AI is expected to implement structured processes to validate that the
assumptions used in its valuation models are fair, prudent and realistic. These processes should include both periodic and ad-hoc reviews of material assumptions, underpinned by governance arrangements for approval, documentation and timely updates of those material assumptions.

3.13 Valuation models should be designed with sufficient flexibility to enable swift
evaluation of alternative resolution actions, restructuring options or evolving crisis conditions. An AI should ensure that capabilities are in place to dynamically adjust key input assumptions as required by the valuer in order to generate updated valuations within a short timeframe. To achieve this, the AI may apply measures such as pre-configured modules for diverse economic scenarios, integration of real-time data feeds, and functionality to estimate results based on valuer-adjusted assumptions without requiring a full re-run of core models.
3.14 As part of its BAU model validation procedures, an AI should integrate
rigorous sensitivity analyses to quantify and evaluate the impact of changing assumptions on valuation results, thereby providing an understanding of the

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3.15 An AI is expected to maintain effective oversight and internal review
mechanism to support the design, maintenance and operation of VIR capabilities in BAU, to ensure their reliability and integrity. The AI should also put in place governance arrangements to ensure robust VIR and to enable its senior management and the board of directors to make informed decisions and take timely actions in a resolution scenario.
3.16 The above governance arrangements and processes should be embedded
into an AI’s broader governance and organisational framework for data and modelling capabilities, and be aligned with those supporting resolution planning 12 and execution.
3.17 As part of its governance framework, an AI is expected to assign an officer
of appropriate seniority accountable for overseeing the effectiveness of its VIR capabilities and ensuring adherence to the expectations outlined in this
chapter. The board of directors should be kept adequately informed of the
development and application of the AI’s VIR capabilities.
3.18 Operational procedures and governance processes should be established
to facilitate the conduct of VIR. Such procedures and processes should enable a valuer to be “onboarded”, i.e. have access to and use of (a) relevant underlying data and information in the AI’s MIS and/or VDR (if available); (b) valuation models, methodologies, assumptions and outcomes; as well as (c) documentation in relation to the aforesaid items. Arrangements should be put in place to facilitate discussion in relation to the aforesaid items between the valuer and the responsible personnel within the AI, taking into account the confidential nature of the discussions. An AI should ensure these arrangements are clearly documented and understood by the relevant personnel. Additionally, the AI should designate an officer 12 See RA-2.

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3.19 An AI should establish appropriate procedures, playbooks or other
documentation outlining the steps required to conduct timely and robust VIR. The documentation should include:
(a) an overview of the AI, including its corporate structure, group companies, business lines, and valuation groupings of assets, liabilities, financial instruments, business lines, or entities, to which similar valuation methodologies could be applied; (b) an overview of the resolution valuation process, including timeframes and key components; (c) an overview of the MA’s statutory roles and responsibilities; (d) the roles and responsibilities of the valuer and the AI’s internal teams involved in the valuation process; (e) the sources of the underlying data and information required for each of Valuations 1, 2 and 3; (f) the procedures for retrieving and validating data and information; (g) the models for valuing specific assets and liabilities, as well as for generating business forecasts; (h) the methodologies applied in the above models; (i) the input assumptions to be used (as determined by the AI), along with the basis and supporting data and information for these assumptions; (j) the key personnel responsible for developing, maintaining and operating the models mentioned in paragraph (f); (k) the procedures for generating and approving VIR; (l) the procedures for re-running valuation models using alternative assumptions and inputs provided by the valuer; (m) a process flow diagram or similar illustration showing how the valuation models, data sources and VIR processes interact; and (n) the procedures for providing the above information to a valuer.

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3.20 An AI is also expected to document the governance arrangements and
control procedures that ensure the robustness of VIR. The documentation should set out:
(a) a description of the AI’s governance arrangements, including the clearly allocated roles and responsibilities of the board of directors, senior management and responsible departments/units/staff in establishing and maintaining the AI’s VIR capabilities; (b) the processes for and allocation of responsibilities in relation to data verification and error remediation; (c) the processes for and allocation of responsibilities in relation to the development, maintenance, and operation of the relevant valuation models and methodologies; (d) a description of any known or potential constraints and limitations of the relevant valuation models and methodologies; (e) the procedures for and allocation of responsibilities in relation to approving and updating the AI’s internal policies, valuation methodologies and model design and the key valuation assumptions; and (f) the measures for testing and validating the valuation models and methodologies adopted by the AI.
3.21 The documentation mentioned in paragraphs 3.19 and 3.20 above should
be structured to maximise operational usability in resolution. They should be clear, concise, and structured to enable a valuer to quickly understand and assess the reliability of the AI's data, valuation models, and the relevant assumptions used therein when preparing for VIR. (5) Testing and validation
3.22 An AI should maintain and demonstrate that its VIR capabilities are robust
and fit for purpose through regular testing and validation. The scope of testing and validation should cover: (a) data quality; (b) valuation models and methodologies; (c) governance arrangements and decision-making processes; and (d) supporting documentation such as playbooks.

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3.23 VIR testing and validation activities should at a minimum include one of the
following: (a) internal review by experts independent of the personnel responsible for the capability being reviewed (e.g. an independent risk management function); (b) internal audit review; and (c) validation performed by an independent third-party with valuation expertise. In addition, integrated testing of overall resolution readiness that involves the application of VIR outputs should be considered as resolution capabilities mature. In general, testing should be conducted at least annually, with the frequency and scope of testing for each AI tailored according to its operational complexity.
3.24 An AI is expected to justify to the MA its approach to testing and validating
VIR capabilities, including detailed plans and timelines in relation thereto. The AI is expected to engage with the MA to discuss testing outcomes, summarise lessons learned, and implement actions to address identified areas for enhancing resolvability.
3.25 The appropriateness of an AI’s testing and validation activities, including
their scope, form and frequency, should be regularly reviewed by the AI to ensure they remain aligned with the AI’s operations and the regulatory expectations applicable to it.

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4. The MA’s approach to implementation
4.1 In line with the MA’s proportionate and risk-based approach to resolution
planning, the MA expects to prioritise all Domestic Systemically Important Authorized Institutions and other locally incorporated AIs with total consolidated assets of more than HKD 150 billion for resolution planning. The MA expects each of these prioritised AIs to demonstrate that its VIR capabilities meet the expectations outlined in this chapter as part of the MA’s bilateral resolution planning programme 13 with the AI.
4.2 The MA will communicate the expected timeline on work towards satisfying
the expectations outlined in this chapter through the resolution planning priorities letters to individual AIs. The development and implementation of adequate VIR capabilities by an AI should be an iterative process between the MA and the AI, taking into account different factors such as the nature, scale and complexity of the AI, the status of its existing capabilities and arrangements, the preferred resolution strategy determined by the MA and the resolution objectives.
4.3 As a starting point, an AI is expected to self-assess its existing capabilities
and arrangements against the expectations set out in this chapter. An AI is then expected to submit to the MA, at a minimum, the following:
(a) a summary of its VIR capabilities including governance arrangements and the assessment against each of the expectations set out in this
chapter; and
(b) its proposed work plan, including the approach, timeline and key milestones, towards meeting the expectations set out in this chapter.
4.4 The MA will review the above submission and engage with the AI regarding
the effectiveness of its VIR capabilities in the context of the AI’s preferred resolution strategy. The MA may request additional information, records or documents 14 and require testing or demonstration of these capabilities. 13 See Part 8 of RA-2. 14 The MA may impose such a requirement pursuant to section 158.

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4.5 Where an AI is part of a cross-border group, the MA intends to work closely
with the relevant non-Hong Kong resolution authorities on resolution planning bilaterally and/or through cross-border resolution planning fora. The MA may take into account information obtained from its interactions with a non-Hong Kong resolution authority when assessing the effectiveness of an AI’s VIR capabilities and in considering whether any significant impediment to the orderly resolution of the AI exists, in accordance with the relevant non-Hong Kong resolution plan (to the extent that the non-Hong Kong resolution plan has been adopted by the MA). Nevertheless, the expectations in this chapter will apply to the AI regardless of whether the group is subject to, and meets, similar standards in other jurisdictions.
4.6 It is acknowledged that due to the interrelationships between some of the
expectations in this chapter and some existing regulatory requirements or supervisory expectations, an AI may already have in place capabilities and arrangements which could be suitably leveraged or adapted for the purposes of meeting expectations outlined in this chapter. In such instances, the MA expects an AI to demonstrate that the relevant existing capabilities or arrangements adequately address resolution-specific requirements outlined in this chapter.
4.7 While resolution planning is currently prioritised for locally incorporated AIs
with total consolidated assets exceeding HKD 150 billion, the MA may undertake resolution planning for any AIs if need be, taking into account factors such as the viability and the likely impact upon failure of an AI. All AIs are encouraged to familiarise themselves with the expectations outlined in this chapter in general so that they will be prepared for engagement on the adequacy of their VIR capabilities.

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Annex 1: Specific capabilities for Valuations 1, 2, and 3
Specific capabilities for Valuation 1

1. For Valuation 1, AIs should maintain capabilities to generate updated
   financial statements and key regulatory metrics on a T+5 basis 15 . The information could be in the form of financial statements prepared for management and financial reporting, along with detailed breakdowns of items.
2. For assets and liabilities with potentially more volatile values, an AI should
   be able to update the valuation, including the impairment analysis and accounting estimates where relevant, on an intra-month basis to reflect the up-to-date value. For less volatile positions, recently available data and information (e.g. recent month end) might be considered sufficiently reliable for valuation purposes.
3. To inform whether an AI has ceased, or is likely to cease, to be viable, the
   assessment of assets and liabilities should reflect the dynamic, forward￾looking nature of such assessment, necessitating forecasting capabilities – for example, to project credit impairments, liquidity outflows, market risk￾driven losses, and funding cost under stress. Existing models for financial instruments reporting or impairment analysis may be adapted as appropriate.
4. For assets or liabilities that may be impaired or that contain significant
   accounting estimates, an AI should provide the valuer with timely access to data and information that supports the revision of provisions for impairment as needed. This may include historical performance data, impairment analysis, stress-testing analysis, the basis for deriving valuation assumptions, such as probability of default and loss given default, as well as third-party valuations (where available). In addition, where models are 15 The “T+5 basis” refers to the timeframe in which an AI’s financial statements and key regulatory metrics can be updated to reflect its latest positions and conditions. These updates should be provided within five days based on the available data and information as at day T.

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5. For Valuation 2, an AI should maintain capabilities to value assets and
liabilities on an economic basis, using either hold or disposal value, in line with the resolution actions under consideration, on a T+10 basis 16 . This economic valuation will support the assessment of losses and recapitalisation needs in resolution.
6. In addition, an AI should have capabilities to produce timely and robust
forecasts of financial information, including financial positions, profitability and cash flows, as well as regulatory ratios. These forecasting capabilities would be relevant for the economic valuation of certain asset and liability items, the market value of specific entities or business lines, as well as the estimation of the potential operational costs and losses that might be incurred throughout resolution, as discussed in this section. The relevant forecasting models should allow for the timely incorporation of changing assumptions, reflecting the potential impacts of resolution and restructuring actions.
7. For the purpose of estimating NCWOL compensation risk to support the
secondary resolution objective in section 8(1)(d), an AI should maintain capabilities for estimating the treatment of pre-resolution creditors and pre￾resolution shareholders in resolution and in a counterfactual winding up scenario. For the treatment in resolution, these capabilities should enable the AI to assess estimated outcomes under potential resolution actions, such as estimating the value of any shares that may be issued to a pre￾resolution creditor under the bail-in stabilization option, or in the case of a partial transfer of the assets, rights or liabilities of the AI and where the liabilities owed to a pre-resolution creditor are not transferred or otherwise written off or converted into equity prior to the transfer, whether any meaningful payment may likely be received by the failed AI (i.e. the residual entity) by reason of the transfer and whether any recoveries may likely be received by such pre-resolution creditor according to the creditor hierarchy 16 The relevant valuations should be produced within ten days based on the available data and information as at day T.

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8. The rest of this section focusses on the specific capabilities for the valuation
of the economic value of key assets and liabilities, and the market value of equity, under Valuation 2. Cash, balances with banks, customer/bank deposits
9. For cash and balances with banks, an AI is expected to provide information
on the amounts, tenors and any encumbrances thereon, where applicable. For deposits from customers and banks, an AI should maintain detailed information to support analysis of depositor behaviour in a resolution scenario. Loans and advances
10. In general, the estimation of the economic value of loans and advances is
expected to involve projecting expected future cash flows at the loan or loan-segment level, and applying an appropriate discount rate.
11. An AI should develop and maintain appropriate valuation models tailored to
loan product types in BAU. Such models should accurately project net expected cash flows for each loan or loan segment, including (a) contractual cash flows, such as projected interest payments and principal repayments; and (b) non-contractual cash flows, such as overpayments, early repayments, and non-contractual drawdowns, which should be forecasted based on expected customer behaviour. The cash flows should incorporate adjustment(s) for defaults based on the AI’s estimation of the likelihood of default and subsequent net recoveries.

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12. An AI should conduct its own analysis of the appropriate discount rate to be
applied and be able to provide the analysis to the valuer to support its assessment. In addition, the model should reflect the impact of operational costs for servicing the loans, either through the expected cash flows or the discount rate.
13. An AI should maintain up-to-date key assumptions to be used in its valuation
models at both the individual loan and loan segment levels, taking into account historical data and information in relation to the loans or loan segments, macroeconomic indicators, potential resolution and restructuring actions, etc. Such key assumptions may include expected non-contractual advances/drawdown rates, early repayment rates, probability of default, net recovery assumptions following default and marginal operational costs for servicing the loans.
14. An AI should maintain capabilities to support the review of loan data by a
valuer by providing the valuer with access to data sources and/or a detailed summary of loan portfolios, including access to the VDR where available, and a data dictionary containing definitions of the data fields used by the AI. Reconciliations between the loan-level data sources and the relevant balances for financial reporting purposes should be properly maintained and provided to the valuer as needed. In addition, the AI should be able to provide the valuer with data and information in appropriate formats to facilitate the valuer in applying the relevant models.
15. An AI should be able to categorise its loans and advances by segments
based on their features and characteristics, such as product type, nature and industry of borrowers, contractual terms, historical performance and type of collateral. An AI should also identify exposures that may be valued collectively, for instance direct exposures to a group of related entities, or exposures with cross-collateralisation and cross-guarantees. Such categorisation and grouping would help provide a high-level view of the loan portfolios and identify specific segments where common valuation assumptions or adjustments may be applied. The categorisation capability

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16. An AI is expected to run valuation models and produce outputs as directed
by the valuer, which may include sensitivity analyses at a required level of granularity based on different assumptions. Financial instruments measured at a fair value
17. An AI should be able to assess the fair value of its financial instruments,
including equity and debt investments, derivatives and other instruments designated at fair value. Arrangements should be put in place to address the challenge that observable prices in liquid markets, which are typically used for determining fair value, may not be available in a resolution scenario.
18. Valuation adjustments may be applied to financial instruments to reflect their
economic value based on the views of the valuer. The valuation adjustments may include:
(a) mid-market to bid/offer price adjustments; (b) adjustments to reflect the illiquidity of concentrated positions; (c) adjustments to reflect the operational costs associated with holding the portfolio; (d) adjustments to reflect losses arising from expected counterparty behaviour following entry into resolution; and (e) for derivatives, portfolio-level adjustments such as credit valuation adjustments (“CVA”) and debit valuation adjustments (“DVA”).
19. An AI should ensure that appropriate data, information and models are in
place to produce the valuation adjustments. There should be cross￾references to identify how data from various sources relates to a single counterparty.

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20. Repo transactions and secured lending or borrowing are typically valued
using a mark-to-market approach based on market prices. An AI should maintain data and information on the contractual terms and encumbrance details of these positions for valuation where market prices are not available. Provisions
21. An AI should maintain the underlying data and information related to
provisions and facilitate their review and adjustments by the valuer as needed. Investments in subsidiaries, associates, joint ventures and separable businesses
22. An AI should maintain the relevant data and information and financial
forecasting capabilities to support the valuation of its equity investments in subsidiaries, associates, joint ventures, separable business (including those that may be divested under the AI’s recovery plan or as part of post￾stabilisation restructuring) and special purpose vehicles (“SPVs”). For SPVs, the valuation may be based on observable market prices for transactions involving comparable securities, or projections of cash flows using models maintained by the AI. Other assets and liabilities
23. For fixed assets and intangibles on the balance sheet, such as property,
plant and equipment and purchased goodwill, the assessment of economic value could be based on third-party appraisals and transaction prices in secondary markets. Off-balance sheet items
24. For off-balance sheet assets, such as internally generated goodwill and
franchise value, which may be realised in sale or retention of businesses or

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25. An AI should also identify liabilities not recognised on balance sheets, such
as contingent liabilities, restructuring costs and pension liabilities, and assess their economic values as well as probabilities of these costs materialising. The AI should also be able to provide the valuer with the relevant supporting information, such as third-party appraisals and management analysis, as required. Market value of equity or businesses
26. The market value of an AI’s equity or businesses can be assessed using
generally accepted valuation methodologies, including discounted cash flow approach and market value approach. To support the valuation, an AI is expected to produce timely and robust forecasts of financial and management information (including statements of financial position, statements of profit or loss and other comprehensive income, statements of changes in equity, and statements of cash flow) as well as key regulatory ratios (including capital adequacy ratios, leverage ratios, liquidity coverage ratios or liquidity maintenance ratios, and net stable funding ratios or core funding ratios). The forecasts should:
(a) be available at the level of individual entities and/or business lines that may be divested during resolution or require separate valuation due to distinct financial characteristics; (b) cover an adequate timeframe to facilitate terminal value estimation and assess the medium-term viability of the AI; (c) be conducted at an appropriate level of detail to ensure robustness, allowing for disaggregated data to be provided upon request, while also being aggregated for valuation purposes; (d) be adjustable to reflect assumptions related to projected cash-flows at position or portfolio levels; (e) be capable of integrating timely adjustments to key assumptions and supporting sensitivity analyses, which may include assumptions

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27. For Valuation 3, an AI should have capabilities to assess the actual
treatment that its pre-resolution creditors or pre-resolution shareholders, or a class thereof, receive as a result of its resolution. In addition, an AI is expected to maintain capabilities to assess the counterfactual treatment that its pre-resolution creditors or pre-resolution shareholders, or a class thereof, would have received if, instead of resolution, its winding up had commenced immediately before resolution was initiated in a counterfactual winding up scenario.
28. For the actual treatment in resolution, the assessment should be based on
the actual resolution transaction, for instance the estimated value of any shares that may be issued under the bail-in stabilization option to the pre￾resolution creditors concerned, or in the case of a partial transfer of the assets, rights or liabilities of the AI and where the liabilities owed to the pre￾resolution creditors concerned are not transferred or otherwise written off or converted into equity prior to the transfer, whether any meaningful payment may likely be received by the failed AI (i.e. the residual entity) by reason of the transfer and whether any recoveries may likely be received by such pre￾resolution creditors according to the creditor hierarchy in the event where the residual entity is subsequently wound up.
29. For the treatment in a counterfactual winding up scenario, an AI may
leverage its Valuation 2 (specifically, the economic valuation of assets and liabilities) capabilities for the assessment, provided that adjustments are made to reflect the gone-concern nature of the AI in a counterfactual winding up scenario, taking into account factors such as the absence of future business prospects, the costs associated with winding down operations, the prolonged realisation timelines and any other adjustments that an independent valuer may require. Specific forecasting capabilities are needed to estimate ultimate recovery values from credit exposures, to value the AI’s trading book under forced sales conditions, to account for contagion and netting effects across group entities, as well as to reconstruct asset-level cash flows and project cash positions throughout the winding up

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation period. Furthermore, an AI should also maintain analytical capabilities to support the independent valuer in evaluating the estimated realisation strategy and assessing the appropriate valuation approach for each asset class in such scenario.
30. The steps for the counterfactual winding up valuation generally include:
(a) preparing adjusted legal-entity balance sheets; (b) accounting for intra-group balances. (c) estimating net recoveries in legal entities; and (d) estimating distributions to creditors in each legal entity. Preparing adjusted legal-entity balance sheets
31. An AI is expected to produce essential information to support netting and
set-off arrangements for legal entity-level balances. This includes:
(a) unconsolidated balance sheets for each entity within the AI’s group; (b) details on netting arrangements for derivative financial instruments, along with collateral balances related to netting sets by legal entity; (c) details on contractual and statutory set-off arrangements applicable to the assets and liabilities of each entity; and (d) details on pledged and received assets in relation to repurchase agreements, reverse repurchase agreements, and other encumbrances. Accounting for intra-group balances
32. An AI is expected to provide details on intra-group balances, including
balances relating to liabilities, equity holdings, and guarantees. The details can be presented as a series of intra-group matrices that illustrate the gross balances between affiliates for each relevant position in the creditor hierarchy in a winding up. For complex cases, the AI is expected to maintain models to analyse the flow of recoveries throughout the group, considering these intra-group balances.

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation Estimating net recoveries in legal entities
33. Gross realisations may be estimated using the Valuation 2 process, with
assumptions adjusted to reflect counterfactual winding up factors.
34. For net recoveries, anAI is expected to provide information regarding known
contractual costs associated with winding up, including staff expenses, lease costs, and contractual break costs.
35. When estimating recoveries from interests in SPVs, an AI is expected to
provide any legal analyses or opinions that may have been obtained regarding the expected treatment of the SPV in a winding up. In addition, the AI should maintain models for valuing any material interest in SPVs, particularly if the complexity and quantity of SPVs necessitate it. These models should project cash flows generated by an SPV's assets and allocate these cash flows among interest holders to estimate the AI’s realisations in a winding up, considering that the SPV may or may not be insolvency-remote. Estimating distributions to creditors in each legal entity
36. An AI should provide information on the creditor hierarchy in a winding up
for each legal entity within the group. This includes a breakdown of creditor balances across each class within the applicable creditor hierarchy based on the law of the entity’s jurisdiction of incorporation. For complex cases, the AI is expected to maintain models that can analyse the distribution of recoveries to creditors and shareholders across the group.

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation
Annex 2: Data and information for VIR
For illustration, data and information of balance sheet items for the purpose of VIR may include (but are not limited to):
17 Where applicable, the data and information related to loans and advances should be categorised either at individual loan level, segment level for loans with common characteristics, or connection-level for exposures to the same or affiliated counterparties. For exposures to the same counterparty, linkages between the available collateral against these exposures and any applicable netting or set-off arrangements should be clearly illustrated. Cash and balances with banks

• Encumbrance details, including amounts and time
  periods
  Customer and bank deposits
• Breakdown of deposits by type
• Weighted average maturities
• Contractual interest rates of time deposits
• Deposit durations
• Depositor demographics
• Information to support analysis of depositor
  behavior in a resolution scenario
  Loans and advances 17
• Portfolio segment’s background information
• Segment repayment data, including
  o outstanding balance o contractual payments due in the period which the relevant repayment data is tracked and maintained; o actual payments received in the period; o non-contractual drawdowns or advances in the period; o for non-performing loans, outstanding balance and number of months in arrears, categorised based on the AI’s internal loan classification approach, with reconciliation to regulatory reporting categorisation; and o recoveries and losses realised in the period

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation

• Segment performance metrics, including:
  o default rates (or roll-rate analysis); o re-performing rates (i.e. of loans that were non-performing but become performing again); o arrear rates (e.g. one month, two months, and three months past due); o prepayment rates (overpayment rate and early repayment rate); and o loss given default rates
• Marginal operating costs information
• Analysis of appropriate discount rates for
  economic valuation
• Approach to forbearance and management of
  non-performing loans
• For corporate loans, in particular any significant
  exposures to a single counterparty or a group of linked counterparties:
  o borrower’s information, including group structure, sector and key jurisdictions in which it operates o financial condition, including key line items from audited statements and key financial ratios o facility details, including legal entities involved and their relationship, structure of lending, facility purpose and limit, tenor, interest, revolving credit facilities, undrawn credit lines, term loans and other financing arrangements o outstanding balances, including exposure at obligor level and related obligor group level o credit quality metrics o past performance against debt covenants

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation o collateral and guarantees information, including latest valuation o netting and set-off arrangements

• For syndicated and other traded loans, observable
  prices in secondary market and price information from recent transactions Financial instruments measured at fair value (e.g. equity and debt investments, derivatives and other instruments designated at fair value)
• Fair values of financial instruments at portfolio￾level and position-level
• Information to support the calculation of bid/offer
  adjustments
• External market data to support the estimation of
  valuation adjustments
• Netting and set-off arrangements applicable to
  these exposures
• Estimation of operational costs for holding the
  portfolios
• For derivatives, information for determining
  valuation adjustments, such as CVA and DVA
• For funding liabilities, analysis of counterparty
  behaviour
  Repurchase transactions and other similar secured lending/borrowing
• Contractual terms, such as maturity, coupon rate
  and collateral/encumbrance details
• Encumbrance positions, such as collateral surplus
  or shortfall
  Debt securities and subordinated liabilities issued
• Contractual terms, including coupon rate, maturity,
  optional call/early repayment date, amortisation schedules and collateral/encumbrance details
• For instruments included as capital and/or loss￾absorbing capacity, data and information required
  for regulatory reporting and disclosure
  Provisions • Information supporting book value of impaired assets and liabilities, or that contain significant accounting estimates, including:

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation o impairment analysis o provisioning analysis o historical performance of portfolios or assets o stress testing analysis o basis for determining probability of default, loss given default and valuation assumptions o third-party appraisals (where available)

• Estimation of expenditures related to onerous
  contracts, restructuring costs, and regulatory charges Investments in subsidiaries, associates, joint ventures and separable business
• Financial statements
• Management financial information
• Management forecasts of expected future financial
  performance
• Financial and legal information for interests in
  SPVs, as well as observable market prices where available Other assets and liabilities (e.g. property, plant and equipment and purchased goodwill)
• Information on characteristics and conditions
• Information on market data such as observable
  prices in secondary markets
• Expert assessments and third-party appraisals
  Off-balance sheet items (e.g. internally generated goodwill, franchise value, contingent assets/liabilities, restructuring costs and pension liabilities)
• Forecast of potential net income streams or costs,
  and analysis of the associated probabilities
• Management information, expert assessments,
  and third-party appraisals
  Market value of equity or businesses
• Management budgets and forecasts

Resolution Regime – Code of Practice
VIR-2 Resolution Planning – Valuation in Resolution Capabilities V.1 - Consultation

• Forecast assumptions and underlying information
  and analysis, such as those used in the development of its strategic plan and in estimating the impact of potential post-stabilisation restructuring measures