Annual Report and Financial Statements

Transcription

1 Annual Report and Financial Statements Registered number

2 Contents Chairman s statement 1 Report of the Sharia Supervisory Committee 3 Directors report 4 Statement of directors responsibilities in respect of the Directors' Report and the Financial Statements 7 Independent auditor's report to the Members of 8 Statement of comprehensive income 9 Statement of financial position 10 Statement of changes in equity 11 Statement of cash flows Registered number /

3 Chairman s statement The Bank s financial performance for the year ended has continued to be impacted by the challenging economic environment. The UK only tentatively emerged from recession during 2010, with the housing market continuing to be subdued, increasing unemployment, downward pressure on disposable incomes and market yields still at historic lows. Current liquidity and minimum capital requirements are also constricting the ability of banks to increase their asset bases. Despite the difficult conditions, Islamic Bank of Britain has seen growth in customer finance assets whilst customer deposits have been maintained. Highlights Customer financing increased by 17.1% to 55m Deposits increased by 1% to 187.8m Costs excluding depreciation, amortisation and impairment provisions fell from 9.6m to 8.5m. Customer numbers increased slightly to 50,531. Total regulatory capital expressed as a percentage of risk weighted assets increased to 43.1% (2009: 28.3%) Current environment and trading performance The Bank was successful in raising an additional 20m of capital during the year. We were then able to use a part of this to fund the growth of the Home Purchase Plan ("HPP") product, which, together with the increase in HPP balances achieved in 2009, led to the improvement in our revenues from consumer products by 0.7m to 2.5m. However, yields in the interbank markets remained at historically low levels in 2010 with revenues from this source declining to 0.6m from 1.2m. The result was a slight increase in net income to 1.3m (2009: 1.2m). The specific actions implemented during 2009 to mitigate the declining revenues continued into 2010 with a 1.1m reduction in operating expenses net of impairment losses to 9.6m. The focus on good quality, secured finance assets and a reduction in unsecured Personal Finance balances has led to a 60% fall in impairment costs to 0.16m. The overall result of these initiatives has resulted in a reduced loss for the year of 8.1m (2009: loss of 9.5m). Products The HPP product was in demand and achieved growth when we had the capital and funding in place to achieve asset expansion. Considering that this was only for part of the year, the resulting 32% increase in the Bank s HPP balances was pleasing to note; as was the fact that this new business was achieved in accordance with prudent credit policies, with currently no impairment within the HPP and commercial property finance portfolios. The Bank is now the provider of the widest range of Sharia compliant products in the UK retail market. Capital As stated in the Interim Report, the Bank raised new capital of 20m via a placing of new shares in August While the Bank continues to have sufficient capital for its current requirements, the Board is in ongoing discussions with its advisors and interested parties regarding the raising of additional capital and funding to support planned future growth. In the absence of access to alternative additional sources of funds the Board believes that it will be difficult for the Bank to achieve the necessary asset growth to achieve profitability. Outlook The challenging market conditions look set to persist into 2011 and the directors and management will continue to identify opportunities to mitigate the adverse effects. We will maintain tight cost control, although mindful that 1

4 Chairman s statement (continued) further reductions may impact the operational capability of the Bank and its ability to respond quickly when its financial position strengthens. The Bank intends to seek new funding to support quality asset growth, with the emphasis on secured consumer finance assets. I would like to take this opportunity to thank Mohsen Moustafa for his commitment and stewardship of the Bank, as a director since 2005 and as Chairman from March 2007 until his retirement on. He has played an important role in the development of the Bank and in strengthening Islamic finance in the UK. I would also like to thank Abdul Hakim Al-Adhamy, who retired from the Board in November 2010, for the valuable role he played on the Board, as chairman of the Audit Committee and for his wise counsel and financial advice he provided. Arising from the strategic review carried out by the Bank and its advisers in 2010, we are well progressed in seeking to strengthen the Board with the appointment of additional, experienced Non-Executive Directors. I am pleased with the support of our major shareholder, Qatar International Islamic Bank and with their continued backing; I am looking forward to the next phase of growth for the Bank. Inshallah. Finally, I would like to extend my thanks and gratitude to Islamic Bank of Britain s customers, employees, Sharia Supervisory Committee scholars and shareholders for their continued support and commitment to the Bank. Robert J Owen Chairman 15 March

5 Report of the Sharia Supervisory Committee (In the name of Allah, the Most Gracious, the Most Merciful) To the Members of the For the period from 1 January 2010 to In compliance with the Terms of Reference of the Bank s Sharia Supervisory Committee, we submit the following report: We have reviewed the documentation relating to the products and transactions entered into by the Islamic Bank of Britain PLC for the period from 1 January 2010 to. According to Management, the Sharia Compliance Officer of the Bank and documents evidencing the facts, the Bank s funds were raised and invested during this period on the basis of agreements approved by us. Therefore, based on the report of our representative and representations received from Management, in our opinion, the transactions and the products entered into by the Bank during the period from 1 January 2010 to 31 December 2010 are in compliance with the Islamic Sharia rules and principles and fulfil the specific directives, rulings and guidelines issued by us. We beg Allah the Almighty to grant us all the success and straightforwardness. Dr Abdul Sattar Abu Ghuddah Chairman of the Sharia Supervisory Committee 15 March

6 Directors report The directors present their report and financial statements for the year ended. Principal activities (the Company or the Bank ) is the only independent Islamic retail bank in the United Kingdom established and managed on a wholly Sharia compliant basis. The Bank offers a range of Sharia compliant banking solutions for both individual and business customers including current accounts, savings accounts, Home Purchase Plan and business financing. These are delivered through the Bank s branch network, which is complemented by internet, telephone and postal banking channels. Business review and financial results These financial statements have been prepared in accordance with International Financial Reporting Standards as adopted by the EU. The financial statements for the year ended are shown on pages 9 to 37. The loss for the year amounts to 8,125,342 (2009: 9,492,744). Details of the Company s performance and prospects are given within the Chairman s statement on pages 1 and 2. The directors do not recommend the payment of a dividend (2009: nil). The development and performance of the Company during the financial year and its position at the end of the year, together with key performance indicators are expanded upon in the Chairman s statement on pages 1 to 2. Principal risks and uncertainties The Bank regards the monitoring and controlling of risks as a fundamental part of the management process. Senior management are involved in the development of risk management policies and in monitoring their application. The principal non-operational risks inherent in the Bank s business are credit, liquidity, market, concentration and Sharia compliance risks. A detailed description of the principal risks and risk management policies in these areas is set out in Note 4 to the financial statements. Principal uncertainties faced by the Bank Changing Macro economic conditions Macro economic conditions impact consumer consumption and demand; the availability of credit and the debt burden of customers and businesses; and the availability of capital and funding for the Bank. All these factors will influence the performance of the Bank. Changes in Laws and Regulations The Bank operates in markets that are subject to a wide variety of legislation, regulation and codes of conduct. Uncertainty arises from the way in which these laws and regulations change in response to macroeconomic conditions; new products and services; and rightfully the greater awareness and prominence of consumer protection. The nature and impact of future changes in laws, regulations and codes of practice are not predictable. Reduced access to funding Liquidity risk is the risk we do not have sufficient financial resources available to meet all our obligations and commitments as they fall due, or can access funding only at excessive cost. Changing Geopolitical environment Whilst the Bank operates principally in the UK our performance is part reliant on the openness of cross border funding and capital flows. There is therefore a risk that geopolitical tensions or conflict could impact trade flows and our ability to manage capital or funding across borders. 4

7 Directors report (continued) Creditor payment policy The Company seeks to settle trade invoices in line with their payment terms. The Company does not follow any industry standards or guidelines for the payment of suppliers. The amount due to the Company s trade creditors as at represented 11 days (2009: 30 days) average daily purchases of goods and services calculated in accordance with the Companies Act Capital On 17 August 2010, an ordinary resolution was passed at an extraordinary general meeting increasing the authorised share capital of the Company from 7,250,000 to 28,488,233 by the creation of an additional 2,123,823,300 new Ordinary Shares. On 17 August 2010, an additional 2,000,000,000 shares were allotted for consideration of 20,000,000 before expenses. Directors and directors interests The directors who held office during the year were as follows: Mohsen Moustafa (c) Resigned Robert Owen (Chairman) (a) (b) (c) Abdul Hakim Al-Adhamy (a) (b) Resigned 10 November 2010 Gerry Deegan (c) Sultan Choudhury (a) (b) (c) Denotes member of Audit Committee Denotes member of Remuneration Committee Denotes member of Nomination Committee The directors who held office at the end of the financial year had the following interests in the ordinary shares of the Company according to the register of directors interests: Class of share Interest at start and end of year Gerry Deegan Ordinary 20,000 Sultan Choudhury Ordinary 34,000 Details of the Executive Director s options to subscribe for ordinary shares are given below. Further information on the share options is provided in note 22. Interest at start of year Interest at end of year Earliest exercise date Latest exercise date Exercise price Gerry Deegan 157, ,894 5 Nov Nov p Sultan Choudhury 157, ,894 5 Nov Nov p No options were granted or exercised during the year by the directors. None of the other directors who held office at the end of the financial year had any disclosable interest in the shares of the Company. 5

8 Directors report (continued) Significant Shareholders The following shareholders had interests in the ordinary shares of the Company in excess of 3% as at 31 December 2010 (comparatives only shown if holding as at was greater than 3%): 2010 (%) 2009 (%) Qatar International Islamic Bank HE Sheikh Thani Bin Abdulla Bin Thani Jasim Al Thani On 17 August 2010 Qatar International Islamic Bank acquired and additional 2,000,000,000 shares in the Bank making it the parent undertaking of the Bank. Sharia Supervisory Committee members The Sharia Supervisory Committee members during the year were as follows: Dr. Abdul Sattar Abu Ghuddah (Chairman) Sheikh Nizam Yaqoobi Mufti Abdul Kadir Barkatullah The report of the Sharia Supervisory Committee is set out on page 3. Political and charitable contributions The Company made no political contributions during the year (2009: nil). Donations to UK charities amounted to 200 (2009: 1,200) and consisted of late payment fees received on personal finance accounts that were paid to charity in accordance with product terms as agreed with the Sharia Supervisory Committee. Going Concern Based on the forecasts performed, the directors consider that at the date of approving the financial statements the Company has adequate resources to continue operational business for at least the next 12 months and therefore to adopt the going concern basis in preparing the financial statements. Disclosure of information to auditors The directors who held office at the date of approval of this directors report confirm that, so far as they are each aware, there is no relevant audit information of which the Company s auditors are unaware; and each director has taken all the steps that they ought to have taken as a director to make themselves aware of any relevant audit information and to establish that the Company s auditors are aware of that information. Auditors In accordance with Section 489 of the Companies Act 2006, a resolution for the re-appointment of KPMG Audit Plc as auditors of the Company is to be proposed at the forthcoming Annual General Meeting. By order of the Board Gerry Deegan Managing Director Edgbaston House 3 Duchess Place Birmingham B16 8NH 15 March

9 Statement of directors responsibilities in respect of the Directors Report and the Financial Statements The directors are responsible for preparing the Directors Report and the financial statements in accordance with applicable law and regulations. Company law requires the directors to prepare financial statements for each financial year. Under that law they have elected to prepare the financial statements in accordance with IFRSs as adopted by the EU and applicable law. Under company law the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Company and of the profit or loss of the Company for that period. In preparing these financial statements the directors are required to: select suitable accounting policies and then apply them consistently; make judgments and estimates that are reasonable and prudent; state whether they have been prepared in accordance with IFRSs as adopted by the EU; and prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Company will continue in business. The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the Company s transactions and disclose with reasonable accuracy at any time the financial position of the Company and enable them to ensure that its financial statements comply with the Companies Act They have general responsibility for taking such steps as are reasonably open to them to safeguard the assets of the Company and to prevent and detect fraud and other irregularities. The directors are responsible for the maintenance and integrity of the corporate and financial information included on the Company's website. Legislation in the UK governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. 7

10 Independent auditor s report to the Members of We have audited the financial statements of for the year ended set out on pages 9 to 37. The financial reporting framework that has been applied in their preparation is applicable law and International Financial Reporting Standards (IFRSs) as adopted by the EU. This report is made solely to the Company's members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act Our audit work has been undertaken so that we might state to the Company's members those matters we are required to state to them in an auditors' report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the Company and the Company's members, as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditor As explained more fully in the Director s Responsibilities Statement set out on page 7, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board s (APB s) Ethical Standards for Auditors. Scope of the audit of the financial statements A description of the scope of an audit of financial statements is provided on the APB s website at Opinion on financial statements In our opinion the financial statements: give a true and fair view of the state of the Company's affairs as at and of its loss for the year then ended; have been properly prepared in accordance with IFRSs as adopted by the EU; and have been prepared in accordance with the requirements of the Companies Act Opinion on other matter prescribed by the Companies Act 2006 In our opinion the information given in the Directors Report for the financial year for which the financial statements are prepared is consistent with the financial statements. Matters on which we are required to report by exception We have nothing to report in respect of the following matters where the Companies Act 2006 requires us to report to you if, in our opinion: adequate accounting records have not been kept, or returns adequate for our audit have not been received from branches not visited by us; or the financial statements are not in agreement with the accounting records and returns; or certain disclosures of directors remuneration required by law are not made; or we have not received all the information and explanations we require for our audit. Ian A Dewar (Senior Statutory Auditor) 15 March 2011 for and on behalf of KPMG Audit Plc, Statutory Auditor Chartered Accountants 15 Canada Square London E14 5GL 8

11 Statement of comprehensive income For the year ended Note Income receivable from Islamic financing transactions 6 3,092,194 3,017,012 Returns payable to customers and banks 6 (1,779,827) (1,807,271) Net income from Islamic financing transactions 6 1,312,367 1,209,741 Fee and commission income 7 404, ,591 Fee and commission expense 7 (79,148) (86,939) Net fee and commission income 7 325, ,652 Operating income 1,637,389 1,603,393 Net impairment loss on financial assets 14 (162,218) (408,939) Personnel expenses 9 (4,532,041) (5,241,104) General and administrative expenses (3,955,790) (4,314,807) Depreciation 15 (876,416) (724,477) Amortisation 16 (236,266) (406,810) Total operating expenses (9,762,731) (11,096,137) Loss before income tax (8,125,342) (9,492,744) Income tax expense Loss for the year (8,125,342) (9,492,744) Total comprehensive income for the year (8,125,342) (9,492,744) Loss attributable to owners of the Company (8,125,342) (9,492,744) Total comprehensive income attributable to owners of the Company (8,125,342) (9,492,744) Loss per ordinary share Basic and diluted (pence) 24 (0.63) (1.8) The notes on pages 13 to 37 are an integral part of these financial statements. 9

12 Statement of financial position As at Note Assets Cash 559, ,273 Commodity Murabaha and Wakala receivables and ,333, ,951,375 other advances to banks Consumer finance accounts and other advances to 14 2,310,206 4,488,744 customers Net investment in home purchase plans 14 43,761,647 33,077,501 Net investment in commercial property finance 14 8,132,739 8,611,393 Property and equipment 15 1,885,136 2,660,754 Intangible assets , ,541 Other assets ,206 1,340,277 Total assets 218,192, ,022,858 Liabilities and equity Liabilities Deposits from banks , ,292 Deposits from customers ,796, ,975,992 Other liabilities 20 3,317,104 3,623,541 Total liabilities 191,993, ,208,825 Equity Called up share capital 22 25,464,700 5,464,700 Share premium 54,806,652 54,806,652 Retained deficit (54,118,414) (43,502,640) Profit stabilisation reserve 45,321 45,321 Total equity 26,198,259 16,814,033 Total equity and liabilities 218,192, ,022,858 The notes on pages 13 to 37 are an integral part of these financial statements. These financial statements were approved by the Board of Directors on 15 March 2011 and were signed on its behalf by: Gerry Deegan Managing Director Registration number:

13 Statement of changes in equity For the year ended Share capital Share premium account Profit and loss account Profit stabilisation reserve Total Balance at 1 January ,190,000 48,747,255 (34,046,165) 52,446 18,943,536 Total comprehensive income for the - - (9,492,744) - (9,492,744) year Credit in respect of share based ,144-29,144 payments charge Transfer from profit stabilisation - - 7,125 (7,125) - reserve Issue of ordinary share capital 1,274,700 6,059, ,334,097 Balance at 31 December ,464,700 54,806,652 (43,502,640) 45,321 16,814,033 Balance at 1 January ,464,700 54,806,652 (43,502,640) 45,321 16,814,033 Total comprehensive income for the - - (8,125,342) - (8,125,342) year Credit in respect of share based ,994-20,994 payments charge Transfer from profit stabilisation reserve Issue of ordinary share capital 20,000,000 - (2,511,426) - 17,488,574 Balance at 25,464,700 54,806,652 (54,118,414) 45,321 26,198,259 The notes on pages 13 to 37 are an integral part of these financial statements. 11

14 Statement of cash flows For the year ended Note Cash flows from operating activities Loss for the year (8,125,342) (9,492,744) Adjustments for: Depreciation , ,477 Amortisation , ,810 Impairment on financial assets , ,939 Share based payments charge 22 20,994 29,144 Change in Commodity Murabaha and Wakala receivables (649,216) (3,151,765) Change in consumer finance accounts and other advances to 2,016,319 2,980,609 customers Change in net investment in commercial property finance 478,654 (13,500) Change in net investment in home purchase plans (10,684,146) (26,096,661) Change in other assets 494,071 (77,149) Change in deposits from banks 271,352 (4,484,827) Change in deposits from customers 1,820,198 32,695,238 Change in other liabilities (306,436) 142,650 Net cash used in operating activities (13,388,652) (5,928,779) Cash flows from investing activities Purchase of property and equipment 15 (100,798) (119,486) Purchase of intangible assets 16 (283,947) (143,638) Net cash used in investing activities (384,745) (263,124) Cash flows from financing activities Issue of ordinary share capital 17,488,574 7,334,097 Net cash generated from financing activities 17,488,574 7,334,097 Net change in cash and cash equivalents 3,715,177 1,142,194 Foreign exchange gains 228 (4,716) Cash and cash equivalents at 1 January 3,751,962 2,614,484 Cash and cash equivalents at 31 December 12 7,467,367 3,751,962 The notes on pages 13 to 37 are an integral part of these financial statements. 12

15 1 Reporting entity (the Company or the Bank ) is a company domiciled in the UK. The address of the Company s registered office is Edgbaston House, 3 Duchess Place, Hagley Road, Birmingham B16 8NH. The financial statements of the Company are presented as at and for the year ended. The Company is a retail bank offering Sharia compliant banking products and services. 2 Basis of preparation (a) Statement of compliance These financial statements have been prepared in accordance with International Financial Reporting Standards (IFRSs) as adopted by the EU and approved by the directors. These financial statements were approved by the Board of Directors on 15 March The accounting policies set out below have, unless otherwise stated, been applied consistently to all periods presented in these financial statements. (b) Basis of measurement The financial statements of the Company have been prepared on the going concern basis. In making the going concern assessment, the directors have prepared detailed financial forecasts for the Company, including its funding and capital position, for the twelve months from the date of approval of these financial statements. As noted in the Chairman s statement, the Board is in ongoing discussions with its advisors and interested parties regarding the raising of additional capital to support planned future growth. The directors have considered the effect upon the Company of more pessimistic scenarios on its business, in particular the worsening of the economic environment and if new capital is not raised as planned. The scenarios show that the Bank can continue to operate without breaching Regulatory capital requirements throughout Based on the forecasts, the directors are confident that the Company has adequate resources to continue in operational existence and will continue to comply with all relevant regulatory requirements for a period of at least the next 12 months. Accordingly, they continue to adopt the going concern basis in preparing the financial statements. The financial statements have been prepared on the historical cost basis. (c) Functional and presentation currency The financial statements are presented in Sterling, which is the Company s functional currency. (d) Use of estimates and judgements The preparation of financial statements requires management to make judgements, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised and in any future periods affected. In particular, information about significant areas of estimation, uncertainty and critical judgements in applying accounting policies that have the most significant effect on the amount recognised in the financial statements are described in note 5. 13

16 3 Significant accounting policies (a) (i) Property and equipment Recognition and measurement Items of property and equipment are measured at cost less accumulated depreciation and accumulated impairment losses. Cost includes expenditure that is directly attributable to the acquisition of the asset. (ii) Subsequent costs The cost of replacing part of an item of property or equipment is recognised in the carrying amount of the item if it is probable that the future economic benefits embodied within the part will flow to the Company and its cost can be measured reliably. The costs of the day-to-day servicing of property and equipment are recognised in the statement of comprehensive income as incurred. (iii) Depreciation Depreciation is recognised in the statement of comprehensive income on a straight line basis over the estimated useful lives of each part of an item of property and equipment as follows: Computer equipment 3 Years Fixtures, fittings and office equipment 5 Years Leasehold improvements 10 years or over the life of the lease whichever is shorter Depreciation methods, useful lives and residual values are reassessed at each reporting date. (b) Intangible assets Software and computer licences acquired by the Company are stated at cost less accumulated amortisation and accumulated impairment losses. Expenditure on internally developed software is recognised as an asset when the Company is able to complete the development and use the software in a manner that will generate future economic benefits, and can reliably measure the costs to complete the development. The capitalised costs of internally developed software include all costs directly attributable to developing the software, and are amortised over its estimated useful life. Internally developed software is stated at capitalised cost less accumulated amortisation and impairment. Subsequent expenditure on software assets and computer licences is capitalised only when it increases the future economic benefits embodied in the specific asset to which it relates. All other expenditure on software or computer licences is expensed as incurred. Amortisation is recognised in the statement of comprehensive income on a straight line basis over the estimated useful life of the software or the licence term, from the date that it becomes available for use. The estimated useful life of software is three years. 14

17 3 Significant accounting policies (continued) (c) Commodity Murabaha and Wakala receivables and other advances to banks Commodity Murabaha is an Islamic financing transaction, which represents an agreement whereby the Company buys a commodity and sells it to a counterparty based on a promise received from that counterparty to buy the commodity according to specific terms and conditions. The selling price comprises of the cost of the commodity and a pre-agreed profit margin. Wakala is an Islamic financing transaction, which represents an agreement whereby the Company provides a certain sum of money to an agent, who invests it according to specific conditions in order to achieve a certain specified return. The agent is obliged to return the invested amount in case of default, negligence or violation of any of the terms and conditions of the Wakala. Commodity Murabaha receivables are recognised upon the sale of the commodity to the counterparty. Wakala receivables are recognised upon placement of funds with other institutions. Income on both Commodity Murabaha and Wakala receivables is recognised on an effective yield basis. The effective yield rate is the rate that exactly discounts the estimated future cash payments and receipts through the agreed payment term of the contract to the carrying amount of the receivable. The effective yield is established on initial recognition of the asset and is not revised subsequently. The calculation of the effective yield rate includes all fees paid or received, transaction costs, and discounts or premiums that are an integral part of the effective yield rate. Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal of a financial asset or liability. Commodity Murabaha and Wakala receivables are initially recorded at fair value and are subsequently measured at amortised cost using the effective yield method, less impairment losses. The accrued income receivable is classified under other assets. Other advances to banks are stated at cost and are non-return bearing. (d) Consumer finance accounts Islamic consumer financing transactions represent an agreement whereby the Company buys a commodity or goods and then sells it to the customer with an agreed profit mark-up with settlement of the sale price being deferred for an agreed period. The customer may subsequently sell the commodity purchased to generate cash. Consumer finance assets will be recognised on the date that the commodity or good is sold by the Company. Consumer finance account balances are initially recorded at fair value and are subsequently measured at amortised cost. The amortised cost is the amount at which the asset is measured at initial recognition, minus repayments received relating to the initial recognised amount, plus the cumulative amortisation using an effective yield method of any difference between the initial amount recognised and the agreed sales price to the customer, minus any reduction for impairment. Income is recognised on an effective yield basis over the period of the contract. The effective yield rate is the rate that exactly discounts the estimated future cash payments and receipts through the agreed payment term of the contract to the carrying amount of the receivable. The effective yield is established on initial recognition of the asset and is not revised subsequently. The calculation of the effective yield rate includes all fees paid or received, transaction costs, and discounts or premiums that are an integral part of the effective yield rate. Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal of a financial asset or liability. The accrued income receivable from the customer is classified under other assets. 15

18 3 Significant accounting policies (continued) (e) Commercial property finance and home purchase plans Commercial property finance and home purchase plans are provided using the Diminishing Musharaka (reducing partnership) principle of Islamic financing. The Company will enter into an agreement to jointly purchase a property and rental income will be received by the Company relating to that proportion of the property owned by the Company at any point in time. The other party to the agreement will make separate payments to purchase additional proportions of the property from the Company, thereby reducing the Company s effective share. The transaction is recognised as a financial asset upon legal completion of the property purchase and the amount receivable is recognised at an amount equal to the net investment in the transaction. Where initial direct costs are incurred by the Company such as commissions, legal fees and internal costs that are incremental and directly attributable to negotiating and arranging the transaction, these costs are included in the initial measurement of the receivable and the amount of income over the term will be reduced. Rental income is recognised to provide a constant periodic rate of return on the Company s net investment. (f) Deposits from customers Profit sharing accounts are based on the principle of Mudaraba whereby the Company and the customer share an agreed percentage of any profit earned on the customer s deposit. The customer s share of profit is paid in accordance with the terms and conditions of the account. The profit calculation is undertaken at the end of each calendar month. Customer Murabaha deposits consist of an Islamic financing transaction involving the Company arranging the purchase of an asset on behalf of the customer and the purchase thereof from the same customer by the Company at cost plus an agreed profit mark-up with settlement on a deferred payment basis. Customer Murabaha deposit balances are included in the statement of financial position under deposits from customers and the accrued returns payable to the customer are classified under other liabilities. Returns payable on customer Murabaha deposits are recognised on an effective yield basis over the period of the contract. Customer Wakala deposits consist of an Islamic financing transaction, which represents an agreement whereby the customer appoints the Company as agent to invest a certain sum of money, according to specific conditions in order to achieve a certain specified return. The Company, as agent, is obliged to return the invested amount in case of default, negligence or violation of any of the terms and conditions of the Wakala. (g) Profit stabilisation reserve The profit stabilisation reserve is used to maintain returns payable to customers on Mudaraba based savings accounts. Returns payable on these profit sharing accounts are credited to customers in accordance with the terms and conditions of the account. Any surplus returns arising from the investment of funds are then credited to this reserve. In the case of inadequate returns generated by these funds, the Company will maintain the return to depositors by utilising this reserve. (h) Derecognition of financial assets and liabilities The Company derecognises a financial asset when the contractual rights to the cash flows from the asset expire, or it transfers the rights to receive the contractual cash flows on the financial asset in a transaction in which substantially all the risks and rewards or ownership of the financial asset are transferred. Any remaining interest in transferred financial assets that is created or retained by the Company is recognised as a separate asset or liability. The Company derecognises a financial liability when its contractual obligations are discharged or cancelled or have expired. 16

19 3 Significant accounting policies (continued) (i) Impairment of financial assets At each statement of financial position reporting date the Company assesses whether there is objective evidence that financial assets are impaired. Financial assets are impaired when objective evidence demonstrates that a loss event has occurred after the initial recognition of the asset, and that the loss event has an impact on the future cash flows of the asset that can be estimated reliably. The Company considers evidence of impairment at both a specific asset and collective level. All individually significant financial assets are assessed for specific impairment. All significant assets found not to be specifically impaired are then collectively assessed for any impairment that has been incurred but not yet identified. Assets that are not individually significant are then collectively assessed for impairment by grouping together financial assets (carried at amortised cost) with similar risk characteristics. Objective evidence that financial assets are impaired include default or delinquency by the counterparty, extending or changing repayment terms, indications that a counterparty may go into bankruptcy, or other observable data relating to the group of assets such as adverse changes in the payment status of counterparties, or economic conditions that correlate with defaults in the group. In assessing collective impairment the Company uses analysis of historical trends to identify the probability of default, timing of recoveries and the amount of loss incurred, adjusted for management s judgement as to whether current economic conditions are such that actual losses are likely to be greater or less than suggested by historical analysis. Default rates, loss rates and the expected timing of future recoveries are regularly benchmarked against actual outcomes to ensure that they remain appropriate. Impairment losses on assets carried at amortised cost are measured as the difference between the carrying amount of the financial asset and the present value of the estimated cash flows discounted at the assets original effective yield rate. Losses are recognised in the statement of comprehensive income and reflected against the assets carrying value. When a subsequent event causes the amount of expected impairment losses to decrease, the impairment loss is reversed through the statement of comprehensive income. (j) Impairment of non-financial assets The carrying amounts of the Company s non-financial assets are reviewed at each reporting date to determine whether there is any indication of impairment. If any such indication exists then the asset s recoverable amount is estimated. An impairment loss is recognised if the carrying amount of an asset or its cash-generating unit exceeds its recoverable amount. A cash-generating unit is the smallest identifiable asset group that generates cash flows that largely are independent from other assets and groups. Impairment losses are recognised in the statement of comprehensive income. The recoverable amount of an asset is the greater of its value in use and its fair value less costs to resell. In assessing value in use, the estimated future cash flows are discounted to their present value. An impairment loss is reversed if there has been a change in the estimates used to determine the recoverable amount. An impairment loss is reversed only to the extent that the asset s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortisation, if no impairment loss had been recognised. (k) Provisions A provision is recognised if, as a result of a past event, the Company has a present legal or constructive obligation that can be estimated reliably, and it is probable that an outflow of economic benefits will be required to settle the obligation. Provisions are determined by discounting the expected future cash flows at a pre-tax rate that reflects current market assessments of cost of funds and, where appropriate, the risks specific to the liability. 17

20 3 Significant accounting policies (continued) (l) Fees and commissions Fee and commission income that relates mainly to transaction and service fees are recognised as the related services are performed. Fees and commission expenses that relate mainly to transaction and service fees are expensed as incurred. Arrangement fees for commercial property finance deals and home purchase plans are amortised over the expected life of the transaction. (m) Income tax expense Income tax expense comprises current and deferred tax. Income tax expense is recognised in the statement of comprehensive income except to the extent that it relates to items recognised directly in equity, in which case it is recognised in equity. Current tax is the expected tax payable on the taxable income for the year, using tax rates enacted or substantively enacted at the statement of financial position reporting date, and any adjustment to tax payable in respect of previous years. Deferred tax is provided using the statement of financial position method, providing for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. Deferred tax is measured at the tax rates that are expected to be applied to the temporary differences when they reverse, based on laws that have been enacted or substantively enacted by the reporting date. A deferred tax asset is recognised only to the extent that it is probable that future taxable profits will be available against which the asset can be utilised. Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related tax benefit will be realised. (n) Lease payments made Payments made under operating leases are recognised in the statement of comprehensive income on a straight-line basis over the term of the lease. Lease incentives received are recognised as an integral part of the total lease expense over the term of the lease. (o) Employee benefits Obligations for contributions to defined contribution pension plans are recognised as an expense in the statement of comprehensive income when they are due. Short-term employee benefits, such as salaries, paid absences, and other benefits, are accounted for on an accruals basis over the period for which employees have provided services. Bonuses are recognised to the extent that the Company has a present obligation to its employees that can be measured reliably. (p) Cash and cash equivalents Cash and cash equivalents include notes and coins in hand, unrestricted balances held with central banks and highly liquid financial assets with original maturities of less than three months, which are subject to insignificant risk of changes in their fair value, and are used by the Company in the management of its short-term commitments. Commodity Murabaha and Wakala transactions, used by the Company for investment purposes, are not included within cash and cash equivalents. Cash and cash equivalents are carried at amortised cost in the statement of financial position. 18

21 3 Significant accounting policies (continued) (q) Other receivables Trade and other receivables are stated at their nominal amount (discounted if material) less impairment losses. (r) Earnings per share The Company presents basic and diluted earnings per share (EPS) data for its ordinary shares. Basic EPS is calculated by dividing the profit or loss attributable to ordinary shareholders of the Company by the weighted average number of ordinary shares outstanding during the period. Diluted EPS is determined by adjusting the profit or loss attributable to ordinary shareholders and the weighted average number of ordinary shares outstanding for the effects of all dilutive potential ordinary shares. (s) Foreign currency transactions Transactions in foreign currencies are translated to the functional currency at exchange rates ruling at the date of the transaction. Monetary assets and liabilities denominated in foreign currencies at the reporting date are retranslated to the functional currency at the exchange rate ruling at that date. The foreign currency gain or loss on monetary items is the difference between amortised cost in the functional currency at the beginning of the period and the amortised cost in foreign currency translated at the exchange rate ruling at the end of the period. Foreign currency differences arising on retranslation are recognised in the statement of comprehensive income. (t) Share based payments The cost of equity-settled transactions with employees is measured by reference to the fair value at the date on which they are granted. The fair value is determined by an external valuer using an option pricing model, taking into account the terms and conditions upon which the options were granted. The cost of equity-settled transactions is expensed on a straight-line basis, together with a corresponding increase in equity, over the period in which the performance and/or service conditions are fulfilled, ending on the date on which the relevant employees become fully entitled to the award ( the vesting date'). The cumulative expense recognised for equity settled transactions at each reporting date until the vesting date reflects the extent to which the vesting period has expired and the Company s best estimate of the number of equity instruments that will ultimately vest. The statement of comprehensive income charge or credit for a period represents the movement in cumulative expense recognised as at the beginning and end of that period. Any dilutive effect of outstanding options is reflected as additional share dilution in the computation of earnings per share. (u) New standards and interpretations effective in 2010 There have been no new standards issued during the year which impact the Bank s financial statements for (v) New standards and interpretations not yet adopted A number of new standards, amendments to standards and interpretations relevant to the Company have been issued, but are not yet effective within the EU and have not been applied in preparing these financial statements. IAS 24 (Revised), Related Party Disclosures (effective from 1 January 2011). This revised standard includes an exemption from the disclosure requirements for related transactions between state-controlled entities and includes a revised definition for related parties. The revised standard will not have a material impact on the Company s financial results. 19

22 3 Significant accounting policies (continued) IFRS 9, Financial Instruments (effective from 1 January 2013). This standard deals with the classification and measurement of financial assets and will replace IAS 39. The requirements of this standard represent a significant change from the existing requirements in IAS 39. The standard contains two primary measurement categories for financial assets: amortised cost and fair value. The standard eliminates the existing IAS 39 categories of held to maturity and loans and receivables. The potential effect of this standard is currently being evaluated. (*) Improvements to IFRSs. This sets out minor amendments to IFRS standards as part of an annual improvements process. * - The revised IFRS 9 has not yet been endorsed by the EU. 4 Financial risk management The Company has exposure to the following risks arising from its use of financial instruments: Credit risk Liquidity risk Market risk Operational risk Sharia compliance risk Concentration risk This note presents information about the Company s exposure to each of the above risks, its objectives, policies and processes for measuring and managing these risks, and its management of capital. Risk management framework The Board of Directors has overall responsibility for the establishment and oversight of the Company s risk management framework. The Company has established the Asset & Liability (ALCO), Credit and Risk Committees, which are responsible for developing and monitoring risk management policies in their specific areas. The Company s risk management policies are established to identify and analyse the risks faced by the Company, to set appropriate risk limits and controls, and to monitor risks and adherence to limits. Risk management policies and systems are reviewed regularly to reflect changes in market conditions, products and services offered. The Company, through its training and procedures, aims to develop a disciplined and constructive control environment, in which all employees understand their roles and obligations. Risk management controls and procedures are reviewed by Internal Audit, both as part of the regular audit review programme and through ad-hoc reviews. The results of these reviews are reported to the Audit Committee. (a) Credit risk Credit risk is the risk of loss arising from the failure of a customer or counterparty to meet their contractual obligations. The risk arises from the Company s secured and unsecured finance provided to customers and the investment of surplus funds in Sharia compliant wholesale deposits with bank counterparties. 20