INDEPENDENT AUDITOR S REPORT FINANCIAL STATEMENTS NOTES TO THE FINANCIAL STATEMENTS

Transcription

1 ANNUAL REPORT 2017

2 INDEPENDENT AUDITOR S REPORT FINANCIAL STATEMENTS NOTES TO THE FINANCIAL STATEMENTS 12

3 INDEPENDENT AUDITOR S REPORT To the Management and Shareholder of International Commercial Bank sh.a. Opinion We have audited the financial statements of International Commercial Bank Sh.a. ( the Bank ), which comprise the statement of financial position as at December 31, 2017, and the statement of comprehensive income, statement of changes in equity and statement of cash flows for the year then ended, and notes to the financial statements, including a summary of significant accounting policies. In our opinion, the accompanying financial statements present fairly, in all material respects, the financial position of the Bank as at December 31, 2017, and its financial performance and its cash flows for the year then ended in accordance with International Financial Reporting Standards (IFRSs). Basis for Opinion We conducted our audit in accordance with International Standards on Auditing (ISAs). Our responsibilities under those standards are further described in the Auditor s Responsibilities for the Audit of the Financial Statements section of our report. We are independent of the Bank in accordance with the Code of Ethics for Professional Accountants (IESBA Code) together with the ethical requirements that are relevant to our audit of the financial statements in Albania, and we have fulfilled our other ethical responsibilities in accordance with these requirements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. 4

4 Responsibilities of the Mana gement and Those Charged with Governance for the Financial Statements Management is responsible for the preparation and fair presentation of the financial statements in accordance with IFRSs, and for such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error. In preparing the financial statements, management is responsible for assessing the Bank s ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless management either intends to liquidate the Bank or to cease operations, or has no realistic alternative but to do so. Those charged with governance are responsible for overseeing the Bank s financial reporting process. 5

5 ANNUAL REPORT 17 6

6 Note As at December 31, 2017 As at December 31, 2016 ASSETS Cash and bala nces with Central Bank 5 1,048,681 1,094,865 Investment securities held to maturity 6 3,426,924 3,546,770 Due from banks 7 1,050, ,832 Loans and advances to customers, net 8 4,892,401 3,945,424 Property and equipment 9 224, ,128 Intangible assets 10 32,764 24,115 Deferred tax asset 11 2,301 1,699 Properties acquired from legal procedures , ,630 Other assets 13 23,031 28,572 TOTAL ASSETS 10,844,386 9,968,035 LIABILITIES AND EQUITY Liabilities Due to banks 14 1,281, ,824 Customers deposits 15 8,110,200 7,534,310 Other liabilities 16 52,673 56,948 Total liabilities 9,444,582 8,519,082 Equity Registered paid-up capital 17 1,421,027 1,307,523 Capital Reserves 177, ,376 Retained earnings/(accumulated losses) (198,599) (35,946) Total equity 1,399,804 1,448,953 TOTAL LIABILITIES AND EQUITY 10,844,386 9,968,035 The statement of financial position is to be read in conjunction with the notes to and forming part of the financial statements set out on pages 12 to 76. 7

7 Note Year ended December 31, 2017 Year ended December 31, 2016 Interest income , ,818 Interest expense 19 (135,982) (149,201) Net interest income 329, ,617 Fee and commission income, net 20 17,480 17,271 Other operating income, net 21 1,235 1,645 Foreign exchange gains / (losses), net 22 (73,092) 19,238 OPERATING INCOME 275, ,771 Personnel expenses 23 (142,029) (146,399) Taxes (other than income tax) (1,895) (2,300) Other operating expenses 24 (174,292) (172,637) OPERATING EXPENSE (318,216) (321,336) INCOME FROM OPERATIONS BEFORE PROVI- SIONS (42,979) 43,435 Amortization and depreciation expenses 9,10 (23,123) (25,564) Provisions for loan losses 8 (51,219) (19,123) Write offs charged (27,654) (40,867) Property impairments 12 (18,280) (9,140) PROFIT / (LOSSES) BEFORE TAXATION (163,255) (51,259) Income tax NET PROFIT / (LOSSES) (162,653) (51,196) OTHER COMPREHENSIVE INCOME, NET OF INCOME TAX - - TOTAL COMPREHENSIVE INCOME FOR THE YEAR (162,653) (51,196) The statement of profit and loss and other comprehensive income is to be read in conjunction with the notes to and forming part of the financial statements set out on pages 12 to 76. 8

8 Registered Paid-up capital Reserves Retained Earnings/ (Accumulated deficit) Total Balance at January 1, 2016 before transition 1,307, ,376 15,250 1,500,149 Profit for the year - - (51,196) (51,196) Other comprehensive income, net of income tax Total comprehensive income for the year Appropriation of profits in legal reserves (51,196) (51,196) Dividends paid Balance at December 31, ,307, ,376 (35,946) 1,448,953 Profit for the year - - (162,653) (162,653) Additional paid-up capital Other comprehensive income, net of income tax Total comprehensive income for the year Appropriation of profits in legal reserves 113, , (162,653) (162,653) Dividends paid Balance at December 31, ,421, ,376 (198,599) 1,399,804 The statement of changes in equity is to be read in conjunction with the notes to and forming part of the financial statements set out on pages 12 to 76. 9

9 CASH FLOWS FROM OPERATING ACTIVITIES Year ended December 31, 2017 Year ended December 31, 2016 Net profit before taxes (163,255) (51,259) Adjustments for: Interest expense 135, ,201 Interest income (465,596) (475,818) Depreciation and Amortization 23,123 25,564 Impairment of Property taken through legal procedures 18,280 9,140 Property taken through legal procedures 11,815 - Provision for loan losses 84,940 62,718 Operating profit / (loss) before changes in working capital: (354,710) (280,454) Changes in working capital Decrease in amounts due from banks (132,471) (396,903) (Increase) in loans to customers (1,031,917) (74,162) Decrease /(Increase) in other assets and receivables 5,541 (1,305) Increase in due to banks 353,885 23,836 Increase /(Decrease) in customers deposits 575, ,379 Changes in deferred taxes (602) (63) (Decrease) / Increase in other liabilities (4,275) 19,008 Interest paid (135,983) (149,201) Interest received 465, ,818 Income taxes paid Net cash flows from operating activities (258,444) 237,016 Cash flows from investing activities Purchase of fixed assets, net (21,090) (12,407) Purchase of investments 119,846 (164,138) Net cash flows (used in) investing activities 98,756 (176,545) Cash flows from financing activities Additional paid-up capital 113,504 - Net cash flows from financing activities 113,504 - Net increase / (decrease) in cash and cash equivalents (46,184) 60,471 Cash and cash equivalents at January 1, 1,094,865 1,034,394 Cash and cash equivalents at December 31, 1,048,681 1,094,865 The statement of cash flow is to be read in conjunction with the notes to and forming part of the financial statements set out on pages 12 to

10 NOTES TO FINANCIAL STATEMENTS 1. GENERAL INFORMATION International Commercial Bank Sh.a. (the Bank ) was established in 1996 as a joint stock company with the sole shareholder Mr. Daim Zainuddin. On September 28, 2004, 100% of the shares were transferred to ICB Financial Group Holdings A.G. The Bank s head office is located on Rruga Murat Toptani, Tirana, Albania. The Bank is licensed on February 20, 1997 to perform payment transfers, credit and deposit activities, and other banking activities according to the Banking Law (# 9662 dated December 18, 2006) and the Law on the Bank of Albania (# 8269 dated December 23, 1997). The Bank operates through head office and five branches, where three branches are located in Tirana and the other two branches are operating in the cities of Fier and Durres. At December 31, 2017 the Bank had 98 employees (December 31, 2016: 93 employees) The financial statements of the Bank for the year ended December 31, 2017 were approved by the Board of Directors on April 16, BASIS OF PREPARATION 2.1 Statement of compliance The separate financial statements have been prepared in accordance with International Financial Reporting Standards ( IFRS ). 2.2 Basis of measurement The financial statements have been prepared on the historical cost basis except for available-for-sale financial assets, which are measured at fair value and assets held for sale, which are measured at the lower of carrying amount and fair value less costs to sell. 12

11 2.3 Functional and presentation currency These financial statements are presented in Albanian Lek ( Lek ), which is also the Bank s functional currency. Current and comparative data are expressed in thousands Lek, unless otherwise stated. 2.4 Use of estimates and judgements The preparation of financial statements in compliance with adopted IFRS requires the use of certain critical accounting estimates. It also requires Bank s management to exercise judgment in applying the accounting policies. The areas where significant judgments and estimates have been made in preparing the financial statements and their effect are disclosed in note 4, 28 and BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards New standards, interpretations and amendments effective in the current period. The following amendments to the existing standards issued by the International Accounting Standards Board and interpretations issued by the International Financial Reporting Interpretations Committee are effective for the current period: Amendments to IAS 12 Income Taxes - Recognition of Deferred Tax Assets for Unrealised Losses (effective for annual periods beginning on or after January 1, 2017), Amendments to IAS 7 Statement of cash flows Disclosure Initiative Amendments (effective 1 January 2017) Annual Improvements to IFRSs ( Cycle): IFRS 12 Disclosure of interests in other entities The adoption of these amendments to the existing standards and interpretations has not led to any changes in the Entity s accounting policies New standards, interpretations and amendments not yet effective. At the date of authorization of these financial statements, the following new Standards, Interpretations and amendments to the Standards were in issue but not yet effective and have not been applied in preparing these financial statements: IFRS 9 Financial Instruments (effective for annual periods beginning on or after January 1, 2018), IFRS 15 Revenue from Contracts with Customers and further amendments (effective for annual periods beginning on or after January 1, 2018), IFRS 16 Leases (effective for annual periods beginning on or after January 1, 2019), Amendments to IFRS 15, Revenue from contracts with customers - Clarifications (effective 1 January 2018) 13

12 Amendments to IFRS 2, Share based payments - Classification and measurement (effective 1 January 2018) Amendments to IAS 40, Investment property transfer of property (effective 1 January 2018) IRIC 22, Foreign currency transactions and advance consideration (effective 1 January 2018) The Bank has elected not to adopt these standards, revisions and interpretations in advance of their effective dates. Except for the effects of IFRS 9, which are described below, the Bank anticipates that the adoption of these standards, revisions and interpretations will have no material impact on the financial statements of the Bank in the period of initial application. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments In July 2014, the IASB issued the final version of IFRS 9 Financial Instruments. IFRS 9 is effective for annual periods beginning on or after January 1, 2018, with early adoption permitted. It replaces IAS 39 Financial Instruments: Recognition and Measurement. In October 2017, the IASB issued Prepayment Features with Negative Compensation (Amendments to IFRS 9). The amendments are effective for annual periods beginning on or after January 1, 2019, with early adoption permitted. The Bank will apply IFRS 9 as issued in July 2014 initially on January 1, 2018 and will the amendments to IFRS 9 on January 1, Based on assessments undertaken to date, the Bank estimates that adoption of IFRS 9 on January 1, 2018, will bring no changes to the classification and measurement of financial assets. The Bank has assessed its preliminary results related to impairment requirements. i. Classification Financial assets IFRS 9 contains a new classification and measurement approach for financial assets that reflects the business model in which assets are managed and their cash flow characteristics. IFRS 9 includes three principal classification categories for financial assets: measured at amortized cost, FVOCI and FVTPL. It eliminates the existing IAS 39 categories of held to maturity, loans and receivables and available for sale. 14

13 A financial asset is measured at amortized cost if it meets both of the following conditions and is not designated as at FVTPL: it is held within a business model whose objective is to hold assets to collect contractual cash flows; and Its contractual terms give rise on specified dates to cash flows that are solely payments of principal and interest (SPPI) on the principal amount outstanding. A financial asset is measured at FVOCI only if it meets both of the following conditions and is not designated as at FVTPL: it is held within a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets; and Its contractual terms give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding. All financial assets not classified as measured at amortized cost or FVOCI as described above are measured at FVTPL. In addition, on initial recognition the Bank may irrevocably designate a financial asset that otherwise meets the requirements to be measured at amortized cost or at FVOCI as at FVTPL if doing so eliminates or significantly reduces an accounting mismatch that would otherwise arise. A financial asset is classified into one of these categories on initial recognition. See (iii) for the transition requirements relating to classification of financial assets. Under IFRS 9, derivatives embedded in contracts where the host is a financial asset in the scope of IFRS 9 are not separated. Instead, the hybrid financial instrument as a whole is assessed for classification. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Business model assessment The Bank will make an assessment of the objective of the business model in which a financial asset is held at a portfolio level because this best reflects the way the business is managed and information is provided to management. The information that will be considered includes: the stated policies and objectives for the portfolio and the operation of those policies in practice, including whether 15

14 management s strategy focuses on earning contractual interest revenue, maintaining a particular interest rate profile, matching the duration of the financial assets to the duration of the liabilities that are funding those assets or realizing cash flows through the sale of assets; how the performance of the portfolio is evaluated and reported to the Bank s management; the risks that affect the performance of the business model (and the financial assets held within that business model) and how those risks are managed; how managers of the business are compensated e.g. whether compensation is based on the contractual cash flows collected or the total gain realized from the portfolio; and the frequency, volume and timing of sales in prior periods, the reasons for such sales and expectations about future sales activity. However, information about sales activity is not considered in isolation, but as part of an overall assessment of how the Bank s stated objective for managing the financial assets is achieved and how cash flows are realized. Assessment whether contractual cash flows is solely payments of principal and interest For the purposes of this assessment, principal is defined as the fair value of the financial asset on initial recognition. Interest is defined as consideration for the time value of money, for the credit risk associated with the principal amount outstanding during a particular period of time and for other basic lending risks and costs (e.g. liquidity risk and administrative costs), as well as a profit margin. In assessing whether the contractual cash flows are solely payments of principal and interest, the Bank will consider the contractual terms of the instrument. This will include assessing whether the financial asset contains a contractual term that could change the timing or amount of contractual cash flows such that it would not meet this condition. In making the assessment, the Bank considers: Contingent events that would change the amount and timing of cash flows; Leverage features; Prepayment and extension terms; Terms that limit the Bank s claim to cash flows from specified assets e.g. non-recourse asset arrangements; and Features that modify consideration for the time value of money e.g. periodic reset of interest rates. Interest rates on retail loans made by the Bank are based on standard fixed rates that are set at the discretion of the Bank. In these cases, the Bank assess whether the SFR set are in line with market rates and provide the Bank with sufficient returns to cover for the: time value of money, credit risk associated with the principal amount outstanding during a particular period of time, and Other basic lending risks and costs, as well as a profit margin. 16

15 All of the Banks retail loans contain prepayment features. A prepayment feature is consistent with the SPPI criterion if the prepayment amount substantially represents unpaid amounts of principal and interest on the principal amount outstanding, which may include reasonable compensation for early termination of the contract. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Impact assessment The Bank has estimated that, the adoption of IFRS 9 at January 1, 2018, will not bring changes to its current measurement of the financial assets under IAS 39. The classification of its financial assets held as at January 1, 2018 will change as follows. Loans and advances to banks and to customers that are classified as loans and receivables and measured at amortized cost under IAS 39 will in general also be measured at amortized cost under IFRS 9. Debt investment securities that are classified as hold-to-maturity under IAS 39 will be measured at amortized cost, under IFRS 9, as these assets meet the SPPI conditions and the Bank s current business model is to hold these assets for the purpose of collecting contractual cash flows. II. Impairment Financial assets, loan commitments and financial guarantee contracts IFRS 9 replaces the incurred loss model in IAS 39 with a forward-looking expected credit loss ( ECL ) model. This will require considerable judgment over how changes in economic factors affect ECLs, which will be determined on a probability-weighted basis. In addition to loans and receivables, the new impairment model applies also to the following financial instruments that are not measured at FVTPL: financial assets that are debt instruments; and Loan commitments and financial guarantee contracts issued (previously, impairment was measured under IAS 37 Provisions, Contingent Liabilities and Contingent Assets). IFRS 9 requires a loss allowance to be recognized at an amount equal to either 12-month ECLs or lifetime ECLs depending on the assessment of the risk of default. Lifetime ECLs are the ECLs that result from all possible default 17

16 events over the expected life of a financial instrument, whereas 12-month ECLs are the portion of ECLs that result from default events that are possible within the 12 months after the reporting date. The Bank will recognize loss allowances at an amount equal to lifetime ECLs, except in the following cases, for which the amount recognized, will be 12-month ECLs: Debt investment securities that are determined to have low credit risk at the reporting date. The Bank considers a debt security to have low credit risk when its credit risk rating is equivalent to the globally understood definition of investment-grade ; and Loans and debt investment securities for which credit risk has not increased significantly since initial recognition. The impairment requirements of IFRS 9 are complex and require management judgments, estimates and assumptions, particularly in the following areas, which are discussed in detail below: assessing whether the credit risk of an instrument has increased significantly since initial recognition; and Incorporating forward-looking information into the measurement of ECLs. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Measurement of ECLs ECLs are a probability-weighted estimate of credit losses and will be measured as follows: financial assets that are not credit-impaired at the reporting date: the present value of all cash shortfalls i.e. the difference between the cash flows due to the entity in accordance with the contract and the cash flows that the Bank expects to receive; financial assets that are credit-impaired at the reporting date: the difference between the gross carrying amount and the present value of estimated future cash flows; undrawn loan commitments: the present value of the difference between the contractual cash flows that are due to the Bank if the commitment is drawn down and the cash flows that the Bank expects to receive; and Financial guarantee contracts: the present value of the expected payments to reimburse the holder less any amounts that the Bank expects to recover. Financial assets that are credit-impaired are defined by IFRS 9 in a similar way to financial assets that are impaired under IAS

17 Definition of default Under IFRS 9, the Bank will consider a financial asset to be in default when: the borrower is unlikely to pay its credit obligations to the Bank in full, without recourse by the Bank to actions such as realizing security (if any is held); or the borrower is more than 90 days past due on any material credit obligation to the Bank. This definition is largely consistent with the definition used for regulatory purposes for loans classified as substandard, doubtful or lost. In assessing whether a borrower is in default, the Bank will consider indicators that are consistent with the risk regulatory requirements for classification of loans as doubtful or lost: qualitative: e.g. breaches of contractual covenant; quantitative: e.g. overdue status and non-payment of another obligation of the same borrower to the Bank; and Regulatory risk classification of the same borrowers in other banks. Inputs into the assessment of whether a financial instrument is in default and their significance may vary over time to reflect changes in circumstances. Credit risk grades The Bank allocates each exposure to a credit risk grade based on requirements set forth by Credit Risk Management regulation by using qualitative and quantitative factors that are indicative of the risk of default. In addition to the risk classes introduced for regulatory purposes, the Bank identifies and monitors separately standard loans in past due from standard loans not in past due. Each exposure will be allocated to a credit risk grade on initial recognition based on available information about the borrower. Exposures will be subject to ongoing monitoring, which may result in an exposure being moved to a different credit risk grade. 19

18 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Determining whether credit risk has increased significantly Under IFRS 9, when determining whether the credit risk (i.e. risk of default) on a financial instrument has increased significantly since initial recognition, the Bank will consider reasonable and supportable information that is relevant and available without undue cost or effort, including both quantitative and qualitative information and analysis based on the Bank s historical experience, expert credit assessment and forward-looking information. The Bank will primarily identify whether a significant increase in credit risk has occurred for an exposure that changes the regulatory risk classification from standard to past due assessed in line with the Bank s policy for regulatory risk classification. All loans showing significant increase in credit risk are classified in Stage 2. As a backstop, and as required by IFRS 9, the Bank will presumptively consider that a significant increase in credit risk occurs no later than when an asset is more than 30 days past due. The Bank will determine days past due by counting the number of days since the earliest elapsed due date in respect of which full payment has not been received. The Bank will monitor the effectiveness of the criteria used to identify significant increases in credit risk by regular reviews to confirm that: the criteria are capable of identifying significant increases in credit risk before an exposure is in default; the average time between the identification of a significant increase in credit risk and default appears reasonable; and Exposures are not generally transferred directly from 12-month ECL measurement to credit-impaired. Modified financial assets The contractual terms of a loan may be modified for a number of reasons, including changing market conditions, customer retention and other factors not related to a current or potential credit deterioration of the customer. An existing loan whose terms have been modified may be de-recognized and the renegotiated loan recognized as a new loan at fair value. Under IFRS 9, when the terms of a financial asset are modified and the modification does not result in de-recognition, 20

19 the Bank will consider whether the asset s credit risk has increased significantly by analyzing quantitative and qualitative factors affecting risk of default. The Bank renegotiates loans to customers in financial difficulties (referred to as forbearance activities ) to maximize collection opportunities and minimize the risk of default. Under the Bank s forbearance policy, loan forbearance is granted on a selective basis if the debtor is currently in default on its debt or if there is a high risk of default, there is evidence that the debtor made all reasonable efforts to pay under the original contractual terms and the debtor is expected to be able to meet the revised terms. The revised terms usually include extending the maturity, changing the timing of interest payments and amending the terms of loan covenants. Both retail and business loans are subject to the forbearance policy. Generally, forbearance is a qualitative indicator of default and credit impairment and expectations of forbearance are relevant to assessing whether there is a significant increase in credit. Following forbearance, a customer needs to demonstrate consistently good payment behavior over twenty-four months before the exposure is measured at an amount equal to 12-month ECLs. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Inputs into measurement of ECLs The key inputs into the measurement of ECLs are likely to be the term structures of the following variables: PD; loss given default (LGD); and exposure at default (EAD). These parameters will be derived from internally developed statistical models and other historical data that leverage regulatory models. They will be adjusted to reflect forward-looking information as described below. Credit risk grades will be a primary input into the determination of the term structure of PD for exposures. The Bank will employ statistical models to analyze the data collected and generate estimates of the remaining lifetime PD of 21

20 exposures and how these are expected to change as a result of the passage of time. This analysis will include the identification and calibration of relationships between changes in default rates and changes in key macro-economic factors, as well as in-depth analysis of the impact of certain other factors (e.g. forbearance experience) on the risk of default. For most exposures, key macro- economic indicators are likely to include GDP growth, interest rates and unemployment. The Bank s approach to incorporating forward-looking information into this assessment is discussed below. LGD is the magnitude of the likely loss if there is a default. The Bank will estimate LGD parameters based on the history of recovery rates of claims against defaulted counterparties. The LGD models will consider the structure, collateral, seniority of the claim and recovery costs of any collateral that is integral to the financial asset. For loans secured by retail property, loan-to-value (LTV) ratios are likely to be a key parameter in determining LGD. LGD estimates will be calibrated for different economic scenarios and, for real estate lending, to reflect possible changes in property prices. They will be calculated on a discounted cash flow basis using the effective interest rate as the discounting factor. EAD represents the expected exposure in the event of a default. The Bank will derive the EAD from the current exposure to the counterparty and potential changes to the current amount allowed under the contract, including amortization, and prepayments. The EAD of a financial asset will be the gross carrying amount at default. For lending commitments and financial guarantees, the EAD will consider the amount drawn, as well as potential future amounts that may be drawn or repaid under the contract, which will be estimated based on historical observations and forward-looking forecasts. The Bank will measure ECLs considering the risk of default over the maximum contractual period (including any borrower s extension options) over which it is exposed to credit risk, even if, for risk management purposes, the Bank considers a longer period. The maximum contractual period extends to the date at which the Bank has the right to require repayment of an advance or terminate a loan commitment or guarantee. For retail overdrafts and credit card facilities and certain corporate revolving facilities that include both a loan and an undrawn commitment component, the Bank will measure ECLs over a period longer than the maximum contractual period if the Bank s contractual ability to demand repayment and cancel the undrawn commitment does not limit the Bank s exposure to credit losses to the contractual notice period. These facilities do not have a fixed term or repayment structure and are managed on a collective basis. The Bank can cancel them with immediate effect but this contractual right is not enforced in the normal day-to-day management, but only when the Bank becomes aware of an increase in credit risk at the facility level. This longer period will be estimated taking into account the credit risk management actions that the Bank expects to take and that serve to mitigate ECLs. These include a reduction in limits and cancellation of the facility. 22

21 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Inputs into measurement of ECLs (continued) Where modeling of a parameter is carried out on a collective basis, the financial instruments will be grouped on the basis of shared risk characteristics that include: instrument type; and Credit risk grading. The groupings will be subject to regular review to ensure that exposures within a particular group remain appropriately homogeneous. For investments in debt securities in respect of which the Bank has limited historical data, external benchmark information published by recognized external credit rating agencies such as Moody s will be used to supplement the internally available data. Forward-looking information Under IFRS 9, the Bank will incorporate forward-looking information into both its assessment of whether the credit risk of an instrument has increased significantly since initial recognition and its measurement of ECLs. The Bank will formulate a base case view of the future direction of relevant economic variables and a representative range of other possible forecast scenarios based on advice from the Bank Risk Committee and economic experts and consideration of a variety of external actual and forecast information. This process will involve developing two or more additional economic scenarios and considering the relative probabilities of each outcome. External information may include economic data and forecasts published by governmental bodies and monetary authorities in the countries where the Bank operates, supranational organizations such as the Organization for Economic Co-operation and Development and the International Monetary Fund, and selected private sector and academic forecasters. The base case will represent a most-likely outcome and be aligned with information used by the Bank for other 23

22 purposes, such as strategic planning and budgeting. The other scenarios will represent more optimistic and more pessimistic outcomes. The Bank will also periodically carry out stress-testing of more extreme shocks to calibrate its determination of these other representative scenarios. The Bank has identified and documented key drivers of credit risk and credit losses for each portfolio of financial instruments and, using an analysis of historical data, has estimated relationships between macro-economic variables and credit risk and credit losses. These key drivers include interest rates, unemployment rates and GDP forecasts. Predicted relationships between the key indicators and default and loss rates on various portfolios of financial assets have been developed based on analyzing historical data over the past 5 years. The economic scenarios used will be approved by the Bank Credit Committee. 2. BASIS OF PREPARATION (continued) 2.5 Adoption of new and revised standards (continued) IFRS 9 Financial Instruments (continued) Impact assessment The most significant impact on the Bank s financial statements from the implementation of IFRS 9 is expected to result from the new impairment requirements. Impairment losses will increase and become more volatile for financial instruments in the scope of the IFRS 9 impairment model. The Bank has estimated that, on the adoption of IFRS 9 at January 1, 2018, the loss allowances (before tax) is expected to increase but. Loss allowances on unsecured products and products with longer expected lives such as overdrafts and credit cards will be most affected by the new impairment requirements. The Bank is in process of assessing its preliminary results related to impairment requirements. In its first running estimation the impact from the IFRS 9 adoption is expected to be at an additional Loan impairment of million LEK impairment under the IAS 39 The transitional impact is based on best estimates as at the reporting date. The information provided in this note is focused upon material items; it does not represent a complete list of expected adjustments. The above assessments are preliminary because not all the transition work has been finalised. The actual impact of adopting the IFRS 9 on January 1, 2018 may change because: -- IFRS 9 will require the Bank to revise its accounting process and internal controls and these changes are not yet 24

23 completed; -- Although parallel runs were carried out in the second half of 2017, the new systems and the associated controls in place have not been operational; -- The Bank has not finalized the testing and assessment of controls over new IT systems and changes to its governance framework; -- The Bank is refining and finalizing its models for ECL calculations; and The new accounting policies, assumptions, judgments and estimation techniques employed are subject to change until the Bank finalizes its first financial statements that include the date of initial application. III. Transition Changes in accounting policies resulting from the adoption of IFRS 9 will generally be applied retrospectively, except as described below. The Bank will take advantage of the exemption allowing it not to restate comparative information for prior periods with respect to classification and measurement (including impairment) changes.differences in the carrying amounts of financial assets and financial liabilities resulting from the adoption of IFRS 9 will be recognized in retained earnings and reserves as at 1 January The determination of the business model within which a financial asset is held will be made on the basis of the facts and circumstances that exist at the date of initial application. 25

24 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accounting policies set out below have been applied consistently to all periods presented in these financial statements. a. Financial assets and liabilities Financial assets are recognized and derecognized on trade date where the purchase or sale of an investment is under a contract whose terms require delivery of the investment within the timeframe established by the market concerned, and are initially measured at fair value, plus transaction costs when applicable. All financial assets are classified as either, held-to-maturity investments, or loans and advances to customers. The classification depends on the nature and purpose of the financial assets and is determined at the time of initial recognition. I. Effective interest method The effective interest method is a method of calculating the amortized cost of a financial asset and of allocating interest income over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash receipts (including all fees on points paid or received that form an integral part of the effective interest rate, transaction costs and other premiums or discounts) through the expected life of the financial asset, or, where appropriate, a shorter period. Income for financial assets is recognized on an effective interest basis. II. Investments securities held to maturity All financial instruments are initially recognized at cost, being the fair value of the consideration given including acquisition charges associated with the financial instrument. All related realized and unrealized gains or losses are included in net income. Investment securities, which have fixed or determinable payments and which are intended to be held to maturity include Treasury Bills and Government Bonds. After initial recognition, investment securities held to maturity are carried at amortized cost, less provision for impairment. The annual amortization of any discount or premium on the acquisition of held to maturity securities is aggregated with other investment income receivable over the term of the instrument so that the revenue recognized in each period represents a constant yield on the investment security. 26

25 III. Loans and advances to customers Loans to customers and other banks originated by the Bank by providing cash loans to borrowers are classified as originated loans and are carried at amortized cost by applying year end interest rate which approximates the effective interest rate, less any amounts written-off and provisions. A write-off is made when all or part of a loan is deemed un-collectable. Write-offs are charged against previously established allowances and reduce the principal amount of a loan. Recoveries of loans written-off in an earlier period are included as income from recoveries. IV. Impairment of financial assets Financial assets are assessed for indicators of impairment at each balance sheet date. Financial assets are impaired where there is objective evidence that, as a result of one or more events that occurred after the initial recognition of the financial asset, the estimated future cash flows of the investment have been impacted. Objective evidence of impairment could include: Significant financial difficulty of the issuer or counterparty; or Default or delinquency in interest or principal payments; or It becoming probable that the borrower will enter bankruptcy or financial re-organization. 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Financial assets and liabilities (continued) IV. Impairment of financial assets (continued) Provisions for impairment are recognized when the Bank has a present obligation (legal or constructive) as a result of a past event, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate can be made of the amount of the obligation. Where the Bank expects some or all of a provision to be reimbursed, the reimbursement is recognized as a separate asset but only when the reimbursement is virtually certain the expense relating to any provision is presented in the income statement net of any reimbursement. If the effect of the time value of money is material, provisions are determined by discounting the expected future cash flows at a pre-tax rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. Where discounting is used, the increase in the provision due to the passage of time is recognized as a borrowing cost. 27

26 Write off charges The Bank writes off the loans and advances amount and any related allowances for impairment losses where the borrower s accounts do not show any legal or financial possibilities for future positive cash flows. This is the regulatory requirement of Bank of Albania On Credit Risk Management The regulation stipulates that banks are required to write off loans and advances that are classified as loss loans (over 365 days in delay) no later than three years after their classification as loss loans. The write-off decision takes into consideration the occurrence of significant changes in the borrower s financial performance and information whether proceeds from collateral will be sufficient to cover the entire exposure. V. Impairment of investment securities held to maturity Investment securities held to maturity are assessed individually, however given that the counterparty is the Government of Albania, there is no objective evidence that impairment exists. VI. Impairment of loans and advances to customers The Bank makes an individual assessment of all significant individual exposures and all loans where there is an objective evidence of impairment. Objective evidence exists when repayments are significantly overdue. For significant exposures where impairment is identified, the amount of the impairment is the difference between the asset s carrying amount and the present value of estimated future cash flows, discounted at the financial asset s original effective interest rate. Management estimates probable future cash flows on payment history combined with current information from client monitoring and on the availability of collateral. Loans that are not identified as impairment under individual assessment are subsequently assessed for impairment on a collective basis. Collective assessment is performed on loans with similar risk characteristics. The loan portfolio is split in four categories depending on loan purpose, type of borrower and existence of collateral. Impairment is estimated based on historical loss factors. 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) a. Financial assets and liabilities (continued) VII. De-recognition of financial assets The Bank derecognizes a financial asset only when the contractual rights to the cash flows from the asset expire; or it transfers the financial asset and substantially all the risks and rewards of ownership of the asset to another entity. 28

27 VIII. Financial liabilities Financial liabilities include borrowings from banks and customers and other liabilities and are measured initially at fair value, net of transaction costs when applicable. Financial liabilities are subsequently measured at amortized cost using the effective interest method, with interest expense recognized on an effective yield basis. The amortized cost is calculated by considering any deduction or premium in issuance and costs that are integral part of the effective interest rate. The amortized cost is calculated by considering any deduction or premium in issuance and costs that are integral part of the effective interest rate. b. Cash and cash equivalents Cash and cash equivalents comprise LEK and foreign currency cash in hand and LEK and foreign currency cash held at the Central Bank of Albania. For the purpose of the Cash Flow Statement, cash and cash equivalents consist of cash and cash equivalents as defined above. c. Foreign currencies The financial statements of Bank are presented in Lek, the currency of the primary economic environment in which the entity operates (its functional currency). Foreign exchange transactions are recorded at the rate ruling at the day of the transaction. Monetary assets and liabilities denominated in foreign currencies are retranslated at the rate of exchange ruling at the balance sheet date. All differences are taken to the income statement. During the year 2015, management introduces a new foreign currency in foreign exchange transactions, CNY Chinese Yuan. This decision was taken to facilitate the customers for international transactions with China. Official exchange rates for major currencies used in the translation of the balance sheet items denominated in foreign currencies were as follows (in LEK): December 31, 2017 December 31, EUR USD CNY Non-monetary assets and liabilities, denominated in foreign currencies, are stated at historical cost and are translated at the foreign exchange rate ruling at the date of the transaction with the exception of the share capital, part of which is issued and maintained in USD and the revaluation difference being taken to profit or loss together with the revaluation difference of the corresponding USD asset. 29

28 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) d. Monetary items and Bank of Albania Monetary Items and Bank of Albania include cash balances and current account with Bank of Albania. Obligatory reserve with Bank of Albanian is not available for the bank s daily activity. Monetary items are kept at amortized cost. e. Fixed assets Fixed assets denominated in LEK are stated at cost less accumulated depreciation. Depreciation is charged on a written down method for all the assets to allocate the cost of fixed assets over their estimated useful lives. Depreciation is charged commencing from the month following the month of acquisition. The annual depreciation rates applied are the following: Description Annual Rate Buildings 5% Vehicles 20% Computers and other equipment 25% Office equipment and Furniture 20% Leasehold improvements Over the period of the lease An item of tangible assets gets unregistered when the assets are sold or when no further benefits are expected from its use and sale. Any profit or loss due to unregistering of assets (is charged on as a difference between the net cash and the asset estimated value) recognized as Other operating incomes or other operating expenses in profit or loss of the year when the asset is unregistered. f. Intangible assets Intangible assets are measured at cost less accumulated amortization. Intangible assets are entirely comprised of computer software which is capitalized based on necessary costs to buy the asset and make it useful. Theses Intangible assets are amortized using the written down method over an estimated useful life. Amortization is charged commencing from the month following the month of acquisition. Properties acquired from legal procedures Properties acquired through legal procedures represent non-financial assets taken in ownership by the bank from the lost loans. The assets are recognized in the accounting ledger, with the market value and their revaluation is performed every year by the bank s evaluator s panel enabling the recognition of these assets with the right value. 30

29 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) g. Deposits and Other Financial Liabilities Deposits, borrowings and subordinated liabilities are part of the Bank s sources of debt funding. When the Bank sells a financial asset and simultaneously enters into an agreement to repurchase the asset (or a similar asset) at a fixed price on a future date ( repo or stock lending ), the arrangement is accounted for as a deposit, and the underlying asset continues to be recognized in the Bank s financial statements. Deposits, borrowings and subordinated liabilities are initially measured at fair value plus directly attributable transaction costs, and subsequently measured at their amortized cost using the effective interest method. h. Revenue recognition Revenue is recognized to the extent that it is probable that future economic benefits will flow to the Bank and these benefits can be measured reliably. I. Interest Interest income and expense are recognized in the income statement using the effective interest method as described in note (a) i. When calculating the effective interest rate, the Bank estimates future cash flows considering all contractual terms of the financial instrument but not future credit losses. The calculation of the effective interest rate includes all fees and points paid or received that are an integral part of the effective interest rate. Transaction costs include incremental costs that are directly attributable to the acquisition or issue of a financial asset or liability. II. Fees and commission Fees and commission income and expenses that are integral to the effective interest rate on a financial asset or liability are included in the measurement of the effective interest rate. Other fees and commission income are recognized as the related services are performed. Other fees and commission expense relate mainly to transaction and service fees, which are expensed as the services are received. i. Pensions and other benefits in post employment period The bank pays the social contribution for its employees in line with the requirements of the Social Insurance legislation into force in Albania. The plans with defined contribution, based on salaries, are drafted by state owned 31