lakeland credit union financial statements FOR THE YEAR ENDED OCTOBER 31, 2011

Transcription

1 lakeland credit union financial statements FOR THE YEAR ENDED

2 BONNYVILLE, ALBERTA CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEAR ENDED Hawkings Epp Dumont LLP Chartered Accountants

3 Hawkings Epp Dumont LLP Chartered Accountants Mayfield Road Telephone: Edmonton, Alberta Toll Free: T5P 4P4 Fax: To the Members of Lakeland Credit Union Ltd. INDEPENDENT AUDITORS' REPORT We have audited the accompanying financial statements of Lakeland Credit Union Ltd., which comprise the balance sheet as at October 31, 2011, and the consolidated statements of income, retained earnings, and cash flows for the year then ended, and a summary of significant accounting policies and other explanatory information. Management's Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with Canadian generally accepted accounting principles, and for such internal control as management determines is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditors' Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal controls relevant to the entity's preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal controls. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, these consolidated financial statements present fairly, in all material respects, the consolidated financial position of Lakeland Credit Union Ltd. as at October 31, 2011, and the results of its operations and cash flows for the year then ended in accordance with Canadian generally accepted accounting principles. Edmonton, Alberta HAWKINGS EPP DUMONT LLP December 21, 2011 Chartered Accountants Stony Plain Office Lloydminster Office Suite 101, Street Street PO Box 3188 Stn Main PO Box Stony Plain, Alberta T7Z 1T8 Lloydminster, Alberta T9V 3A2 Telephone: Telephone: Fax: Fax: @hawkings.com hed@hedlloyd.com

4 MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING To the Members Lakeland Credit Union Ltd. Management has the responsibility for preparing the accompanying consolidated financial statements and ensuring that all information in the Annual Report is consistent with these statements. This responsibility includes selecting appropriate accounting principles and making objective judgments and estimates in accordance with Canadian generally accepted accounting principles and the requirements of the Credit Union Act. In discharging its responsibility for the integrity and fairness of the consolidated financial statements, as well as for the accounting systems from which they are derived, management maintains the necessary systems of internal controls designed to provide assurance that transactions are authorized, assets are safeguarded and proper records are maintained. The ultimate responsibility to members for the consolidated financial statements lies with the Board of Directors. The Board appoints an Audit Committee to review consolidated financial statements with management in detail and to report to the Board prior to its approval to publish the consolidated financial statements. The Board appoints external auditors to audit the consolidated financial statements and to meet separately with both the Audit Committee and management to review their findings. The external auditors report directly to the members. The external auditors have full and free access to the Audit Committee to discuss their audit, as well as their findings concerning the integrity of the Credit Union's financial reporting and the adequacy of its systems of internal controls. Bonnyville, Alberta December 21, 2011 Pierre Amyotte, CMA Chief Executive Officer Shirley A. Mayowski, FCUIC Vice President, Finance

5 CONSOLIDATED BALANCE SHEET AS AT ASSETS Cash and Current Account $ 8,436,404 $ 13,914,666 Investments (Note 4) 64,303,863 44,123,133 Income Taxes Receivable - 606,121 Member Loans (Note 5) 424,749, ,663,800 Other Assets (Note 6) 934, ,459 Future Income Tax Asset (Note 7) 556,623 - Property and Equipment (Note 8) 5,253,456 5,309,158 $ 504,234,182 $ 489,353,337 LIABILITIES Accounts Payable and Accrued Liabilities $ 943,351 $ 728,992 Future Income Tax Liability (Note 7) - 42,908 Income Taxes Payable 969,488 - Member Deposits (Note 10) 437,032, ,009, ,945, ,781,322 MEMBERS' EQUITY Allocation Distributable (Note 11) 3,237,167 2,294,582 Common Shares (Note 12) 19,524,910 18,164,562 Retained Earnings 42,527,063 38,112,871 65,289,140 58,572,015 $ 504,234,182 $ 489,353,337 ON BEHALF OF THE BOARD: Board Chair Audit and Finance Committee Chair The accompanying notes are an integral part of these financial statements. 3.

6 CONSOLIDATED STATEMENT OF INCOME FOR THE YEAR ENDED Financial Income Interest from member loans $ 21,084,259 $ 20,484,881 Investment income 643, ,627 21,727,819 20,796,508 Financial Expenses Interest on member deposits 6,654,941 6,615,582 Interest on financing 1,525 26,422 6,656,466 6,642,004 Financial Margin 15,071,353 14,154,504 Provision for Loan Impairment (Note 5) 7,370 9,448 Financial Margin after Provision for Loan Impairment 15,063,983 14,145,056 Other Income 2,814,636 2,775,574 Gross Margin 17,878,619 16,920,630 Operating Expenses (Schedule I) 8,738,217 8,059,670 Income Before Patronage Allocation and Income Taxes 9,140,402 8,860,960 Patronage Allocation (Note 11) 2,363,380 1,955,006 Income Before Income Taxes 6,777,022 6,905,954 Income Taxes Current 2,322,318 1,381,811 Future (recovery) (599,531) 595,149 1,722,787 1,976,960 Net Income $ 5,054,235 $ 4,928,994 The accompanying notes are an integral part of these financial statements. 4.

7 CONSOLIDATED STATEMENT OF RETAINED EARNINGS FOR THE YEAR ENDED Balance, Beginning of Year $ 38,112,871 $ 33,853,069 Add: Net income 5,054,235 4,928,994 Tax recovery on common share dividends 233, ,404 43,400,850 39,044,467 Less: Dividends on common shares (Note 11) (873,787) (931,596) Balance, End of Year $ 42,527,063 $ 38,112,871 The accompanying notes are an integral part of these financial statements. 5.

8 CONSOLIDATED STATEMENT OF CASH FLOWS FOR THE YEAR ENDED Operating Activities Net income $ 5,054,235 $ 4,928,994 Amortization 312, ,166 Net decrease (increase) in future income taxes (599,531) 595,149 Net decrease (increase) in other assets (198,188) (2,601) Net increase (decrease) in accounts payable and accrued liabilities 214,359 (52,734) Net increase (decrease) in income taxes payable 1,575,609 (343,799) 6,358,624 5,396,175 Financing Activities Increase in member common shares, net of redemptions 1,360,348 2,193,057 Increase (decrease) in patronage allocation distributable 942,585 (229,874) Dividends on common shares (873,787) (931,596) Income tax savings on dividends 233, ,404 Net increase (decrease) in member deposits 7,022,781 (12,012,825) 8,685,671 (10,718,834) Investing Activities Purchase of property and equipment (256,437) (1,645,846) Net decrease (increase) in member loans (85,390) (15,472,535) Net decrease (increase) in investments (20,180,730) 22,258,780 (20,522,557) 5,140,399 Change in Cash and Current Account During the Year (5,478,262) (182,260) Cash and Current Account, Beginning of Year 13,914,666 14,096,926 Cash and Current Account, End of Year $ 8,436,404 $ 13,914,666 Interest Received During the Year $ 21,748,101 $ 20,594,419 Interest Paid During the Year $ 6,874,813 $ 7,318,640 Income Taxes Paid During the Year $ 512,965 $ 1,463,206 The accompanying notes are an integral part of these financial statements. 6.

9 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. NATURE OF OPERATIONS Lakeland Credit Union (the "Credit Union") is incorporated under the Credit Union Act of the Province of Alberta (the "Province") and operates branches in the communities of Bonnyville and Cold Lake. The Credit Union Deposit Guarantee Corporation (the "Corporation"), a provincial corporation, guarantees the repayment of all deposits with Alberta credit unions, including accrued interest. The Credit Union Act provides that the Province will ensure that the Corporation carries out this obligation. LCU Financial Ltd. is incorporated under the Business Corporations Act of Alberta. It provides investment services and financial advice. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES These consolidated financial statements have been prepared in accordance with Canadian generally accepted accounting principles ("CGAAP"). The precise determination of many assets and liabilities is dependent on future events. As a result, the preparation of consolidated financial statements for a period involves the use of estimates and approximations which have been made using careful judgement. Actual results could differ from those estimates and approximations. These consolidated financial statements have, in management's opinion, been properly prepared within reasonable limits of materiality and within the framework of the accounting policies summarized below: (a) Basis of Consolidation The consolidated financial statements of Lakeland Credit Union Ltd. include the assets, liabilities, income and expenses of LCU Financial Ltd., after eliminating inter-company transactions and balances. (b) Cash Cash is comprised of cash on hand, the current account with Alberta Central and items in transit. (c) Investments Term deposits are classified as held-to-maturity and are recorded at cost or amortized cost, adjusted to recognize other than a temporary impairment in the underlying value. Shares in Credit Union Central are classified as available-for-sale. As there is no market for these shares, their fair value is estimated at amortized cost. Interest income is recorded as earned and gains and losses on the sale of investments are recorded in income on disposition. (CONT'D) 7.

10 2. SIGNIFICANT ACCOUNTING POLICIES (CONT'D) (d) Member Loans Member loans are classified as loans and receivables. Member loans are initially measured at fair value. Subsequently, they are measured at amortized cost, less allowance for loan impairment, using the effective interest method. The Credit Union recognizes interest income from loans using the effective interest method for all loans not classified as impaired. Interest income on impaired loans is recognized on a cash basis after recording any recovery of the specific provision for impairment or write-off, and provided there is no further doubt as to the collectibility of loan principal. (i) Impaired loans A loan is classified as impaired when there is reasonable doubt as to the timely collection of principal and interest. Interest income is not recognized on loans that are contractually past due for 90 days or more, unless there is no reasonable doubt as to the collectibility of all interest and principal. Any subsequent payments received on an impaired loan are applied to reduce the recorded investment in the loan. Loans considered uncollectible are written-off. Impaired loans are carried at the fair value of the underlying security, net of estimated costs. (ii) Allowance for Loan Impairment The Credit Union maintains an allowance for loan impairment in an amount considered adequate to absorb credit-related losses in its loan portfolio as well as losses that may be incurred but are not yet specifically identified. The allowance is increased by a provision for loan impairment which is charged to income and reduced by write-offs, net of recoveries. The allowance for loan impairment consists of: A specific allowance on an individual loan basis, to reduce the carrying values to estimated realizable values. When the amounts and timing of future cash flows cannot be reliably established, estimated realizable values are determined by the underlying security; and A general allowance when evidence of impairment within groups of loans exists but is not sufficient to allow identification of individual impaired loans. Impairment is estimated using a formula based on historical credit loss experience, known risks in the portfolio and current economic conditions and trends. As individual impaired loans are identified, a specific provision is assigned to that loan and the collective provision is adjusted accordingly. (CONT'D) 8.

11 2. SIGNIFICANT ACCOUNTING POLICIES (CONT'D) (e) Property and Equipment Land is carried at cost. Buildings, furniture, equipment, security equipment and computer equipment are carried at cost, less accumulated amortization. Amortization is recorded in the accounts at the following annual rates and methods: Buildings 2.5% Straight-line Parking lot 8% Straight-line Furniture and equipment 20% Declining balance Security equipment 20% Straight-line Computer equipment 10%, 20% and 33% Straight-line Amortization is recorded in the initial month of acquisition; no amortization is recorded in the month of disposal. Gains and losses on disposal are recorded in Other Income in the Consolidated Statement of Income. Property and equipment are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. (f) Income Taxes The Credit Union follows the asset and liability method of accounting for income taxes. Under this method, future income tax assets and liabilities are recognized for the expected future income tax consequences attributable to differences between the financial statement carrying amount of existing assets and liabilities and their respective income tax bases. Future tax assets and liabilities are measured using tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. (g) Translation of Foreign Currencies Monetary assets and liabilities denominated in foreign currencies are translated into Canadian dollars at rates prevailing on the balance sheet date. Income and expenses denominated in foreign currencies are translated into Canadian dollars at average exchange rates for the year. Gains and losses resulting from translation are recorded in Other Income in the Consolidated Statement of Income. (h) Derivative Financial Instruments Derivatives are financial contracts that require or provide an option to exchange future cash flows or payments. Derivatives are carried at fair value and are reported as either assets, where they have a positive fair value, or liabilities, where they have a negative fair value. Derivatives may also be embedded in other financial instruments. Gains or losses on derivative instruments and embedded derivatives are recognized in other interest income or interest expense. (i) Equity-Linked Option Contracts The Credit Union enters into equity-linked option contracts with Credit Union Central Alberta Ltd. to fix costs on specific member deposit products which are linked to movements in equity market indexes (See Note 17). These equity-linked option contracts are accounted for as derivatives and are recorded in other assets. Premiums paid to enter into these contracts are recorded in other assets as prepaid expenses and are amortized over the contract life. (CONT'D) 9.

12 2. SIGNIFICANT ACCOUNTING POLICIES (CONT'D) (ii) Equity-Linked Member Deposits The index-linked component on an equity-linked member deposit product is classified as an embedded derivative. The embedded derivatives and the equity-linked member deposits are recorded in member deposits (See Note 17). (i) Use of Estimates The preparation of the financial statements in conformity with Canadian generally accepted accounting principles requires management to make estimates and assumptions regarding significant items such as amounts relating to amortization, impairment assessments of property and equipment, and allowances for credit losses that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 3. FUTURE CHANGES IN ACCOUNTING POLICIES International Financial Reporting Standards (IFRS): The Canadian Institute of Chartered Accountants is transitioning from CGAAP for publicly accountable entities to IFRS. The financial reporting requirements of CGAAP differ in a number of areas from those prescribed by IFRS. The Credit Union's consolidated financial statements will be prepared in accordance with IFRS for the fiscal year commencing November 1, 2011 and will include comparative information for the prior year. The Credit Union's transition date to IFRS is November 1, 2010, and accordingly, the Credit Union will prepare its opening IFRS balance sheet as at that date and in compliance with IFRS 1 - First-Time Adoption of IFRS ("IFRS 1"). Upon transition to IFRS, the general principle is that consolidated financial statements must be prepared on a retrospective basis as if IFRS had always been adopted. In addition to exempting entities from the requirement to restate comparatives for particular standards, IFRS 1 provides certain mandatory exceptions and grants certain optional exemptions from full retrospective application of IFRS. (a) Optional exemptions from full retrospective application elected by the Credit Union: Property and Equipment The Credit Union may elect to report items of property and equipment in its opening balance sheet on the transition date using either the historical cost or re-evaluation model. The exemption can be applied on an asset-by-asset basis. The Credit Union will report the items at historical cost. Statement of Cash Flows Either the direct or indirect method may be presented. The Credit Union will use the indirect method with no impact on transition or in the future. (b) Mandatory exceptions from full retrospective application followed by the Credit Union: Estimates Exception IFRS 1 requires estimates made under IFRS at November 1, 2010 to be consistent with estimates made for the same date under CGAAP (after adjustments to reflect any difference in accounting policies) unless there is evidence that those estimates were in error. The above list and related comments identify those areas that the Credit Union believes to be most significant. The Credit Union is currently in the process of quantifying the IFRS adjustments. 10.

13 4. INVESTMENTS Credit Union Central Alberta Ltd. ("Central") Term deposits $ 59,133,996 $ 39,004,000 Shares 4,951,530 4,951,530 64,085,526 43,955,530 Accrued interest receivable 218, ,603 $ 64,303,863 $ 44,123,133 All term deposits mature within one year with interest rates ranging from 0.69% to 1.30%. As required by the Credit Union Act, the Credit Union holds investments in Central to maintain its statutory liquidity requirements. 5. MEMBER LOANS Recorded Specific General Net Carrying Value Loan Allowance Allowance Consumer loans $ 54,768,919 $ 218,737 $ 471,575 $ 54,078,607 $ 52,507,852 Residential mortgages 214,931,217 75, , ,261, ,861,396 Commercial loans 48,408,783 29,205 15,435 48,364,143 51,230,530 Commercial mortgages 81,656, , ,862 80,140,514 83,277,290 Agricultural loans 1,457, ,600 1,148,918 1,757,970 Agricultural mortgages 9,446, ,446,330 6,293,814 Authorized and unauthorized overdrafts 16,972, , ,769 16,245,746 19,634, ,641,188 1,241,895 2,713, ,685, ,563,138 Accrued interest 1,063, ,063,812 1,100,662 $ 428,705,000 $ 1,241,895 $ 2,713,916 $ 424,749,189 $ 424,663,800 Details of the changes in the allowance for loan impairment are as follows: Balance, beginning of year $ 4,116,532 $ 4,271,621 Provision for loan impairment 7,370 9,448 Loans written off during the year, net of recoveries (168,091) (164,537) Balance, end of year $ 3,955,811 $ 4,116,532 There were $3,437,870 ( $5,524,730) in impaired loans at the year end. 11.

14 6. OTHER ASSETS Prepaid expenses $ 487,302 $ 70,586 Equity-linked derivative contracts 447, ,873 $ 934,647 $ 736, INCOME TAXES The future income tax asset is comprised of temporary deductible (taxable) differences between the tax bases and carrying values in the following accounts: Property and equipment $ (202,570) $ (301,917) Loan allowance 759, ,009 $ 556,623 $ (42,908) Income tax expense differs from the amount that would have been expected if the reported income before income taxes was subject to the combined federal and provincial statutory income tax rates for the year. The difference between the expected income tax expense and the actual is as follows: % % Statutory rate Income tax rate adjusted for the effect of: Non-deductible expenses and other (1.33) 0.46 Effective income tax rate The Credit Union has $12,327 of capital losses available for application against future capital gains. LCU Financial Ltd., a wholly owned subsidiary, has $24,484 of non-capital losses available for carry-forward. These losses expire as follows: 2027 $ 15, , ,371 $ 24,

15 8. PROPERTY AND EQUIPMENT Accumulated Net Book Value Cost Amortization Land $ 868,645 $ - $ 868,645 $ 868,645 Buildings 4,667,412 1,217,308 3,450,104 3,541,449 Parking lot 64,998 33,196 31,802 38,825 Furniture and equipment 870, , , ,471 Security equipment 128,486 87,055 41,431 32,445 Computer equipment 1,772,383 1,181, , ,323 $ 8,372,412 $ 3,118,956 $ 5,253,456 $ 5,309, OPERATING DEMAND LOAN AND TERM LOAN The Credit Union has an approved operating demand loan with Central which is secured by a general assignment of book debts and assignment of investments and deposits held at Central. The authorized limit on the operating demand loan is $4,000,000 including a US dollar component equivalent to $55,000 CDN. The demand loan bears interest at Central's prime rate for CDN dollar advances and Central's US base rate on US advances, in both cases plus or minus Central's applicable discount or margin rates in effect from time to time. At October 31, 2011, the Credit Union had $NIL outstanding on its operating demand loan ( $NIL). The Credit Union has an approved term loan with Central which is secured by a general assignment of book debts and assignment of investments and deposits held at Central. The authorized limit on the term loan is $20,400,000 ( $20,700,000). The term loan bears interest at (i) Central's prime rate plus or minus Central's applicable discount or margin rates in effect from time to time, or (ii) at the option of the Credit Union for terms of more than 30 days at a fixed rate equal to Central's money market deposit rate or the equivalent paid fixed swap rate for the term plus or minus the applicable discount or margin rate. At October 31, 2011, the Credit Union had $NIL outstanding on its term loan ( $NIL). 13.

16 10. MEMBER DEPOSITS Demand deposits $ 225,083,521 $ 186,811,091 Term deposits 161,390, ,790,687 Registered Retirement Savings Plans (RRSP's) 37,935,213 37,478,215 Registered Retirement Income Funds (RRIF's) 7,026,610 6,167,452 Tax-Free Savings Account (TFSA) 3,671,082 2,618, ,107, ,865,930 Accrued interest payable 1,925,145 2,143,492 $ 437,032,203 $ 430,009,422 Concentra Financial Services Association is the trustee of the RRSP's and the RRIF's offered to members. Under an agreement with Concentra, members' contributions to the plans, as well as income earned, are deposited in the Credit Union. 11. ALLOCATIONS DISTRIBUTABLE The Board of Directors declared patronage allocations and a dividend allocation to be paid to members by way of the issuance of common shares and cash, depending on the balance in the members common share account. The balance of the dividend allocation will be paid on December 15, 2011 and is calculated as follows: Patronage allocation: $ 2,363,380 $ 1,955,006 11% bonus interest on member deposit account interest ( %) 8% interest rebate on member loan interest (2010-8%) 8% rebate on member service charges Dividends: 4.5% dividend on common shares ( %) 873, ,596 Total allocations 3,237,167 2,886,602 Advance payment of dividends - (592,020) Net allocations distributable $ 3,237,167 $ 2,294,

17 12. COMMON SHARES The Credit Union Act identifies a class of equity shares, known as common shares, having the following characteristics: i) an unlimited number may be issued; ii) a par value of $1, but fractional shares may be issued; iii) transferable only in restricted circumstances; iv) non-assessable; and v) redemption of common shares is at par value and is at the discretion of the Credit Union, subject to the restrictions contained in the Credit Union Act and Regulations, including limitations to 10% of outstanding balances. Credit Union policy requires all members to make a minimum investment of $25 ($5 for minors and members over 65 years). The Corporation does not guarantee common shares which represent "at risk" capital. Balance, beginning of year $ 18,164,562 $ 15,971,505 Member redemptions, net of contributions (1,507,341) (905,543) Prior year's patronage allocation to members 2,886,602 2,524,456 Advance payment of dividends - 592,020 Adjustment to prior year's patronage allocation (18,913) (17,876) Balance, end of year $ 19,524,910 $ 18,164, RELATED PARTY TRANSACTIONS Directors and management of the Credit Union have loans from the Credit Union totaling $3,991,339 which is 0.94% of total loans ( $5,225,858 which is 1.23% of total loans). The Credit Union, in accordance with its policy, grants loans to its management and staff at rates from 0% to 5% below member rates. Directors pay regular member rates on loans. All loans are in good standing. Directors and management of the Credit Union have deposits at the Credit Union totaling $6,622,119 which is 1.52% of total deposits ( $7,369,158 which is 1.72% of total deposits). The Credit Union, in accordance with its policy, grants RRSP and term deposits to its management and staff with an interest rate bonus of one percent over posted rates. Management and staff have access to personal chequing accounts which do not incur service charges. Directors receive regular member rates on deposits and pay regular service charges. 15.

18 14. COMMITMENTS (a) Option Agreements The Credit Union has $6,341,079 of index-linked deposits outstanding to its members at October 31, 2011 ( $5,484,870). These deposits mature from February 2012 to February 2016 and pay bonus interest to the depositors, at the end of the term, based upon the performance of the appropriate index. The Credit Union has entered into option agreements with Central to offset the exposure on these deposits related to the performance of the index. Consequently, at the end of the term, the Credit Union will receive payments from Central which will offset the amounts that will be paid to the depositors based on the performance of the index. The option agreements with Central of $377,234 ( $311,361) are recorded in member deposits at cost less accumulated amortization. Amortization is calculated on a straight-line basis over the term of the deposits and amounted to $567,009 ( $400,527). (b) Credit Commitments In the normal course of business, the Credit Union enters into various commitments to meet the credit requirements of its members. These credit arrangements are subject to the Credit Union's normal credit standards and collateral may be obtained where appropriate. The contract amounts for these commitments as set out below represent the maximum exposure to the Credit Union should the contracts be fully drawn, and any collateral held proves to be of no value. As many of these arrangements will expire or terminate without being drawn upon, the contract amounts do not necessarily represent the future cash requirements. Such commitments, which are not included in the Consolidated Balance Sheet, include: i) Guarantees and standby letters of credit are issued at the request of the member in order to secure the member's payment or performance obligations to a third party. These guarantees represent an irrevocable obligation of the Credit Union to make payments to third parties in the event that a member is unable to meet their contractual financial or performance obligations, without investigation as to the validity of the beneficiary's claim against the member. In the event of a call on such commitments, the Credit Union has recourse against the members. Generally, the term of these guarantees does not exceed three years. ii) Commercial letters of credit which require the Credit Union to honour drafts presented by third parties upon completion of specific activities. Commitments to extend credit which represent undertakings to make credit available in the form of loans or other financing for specific amounts and maturities, subject to certain conditions and include recently authorized credit not yet drawn down and credit facilities available on a revolving basis. Letters of Guarantee $ 4,741,851 $ 4,921,200 Commitments to extend credit: Original terms to maturity of 1 year or less 33,319,511 32,873,717 Original terms to maturity of 1 year or more 50,683,844 38,435,826 $ 88,745,206 $ 76,230,

19 15. RISK MANAGEMENT The use of financial instruments exposes the Credit Union to credit risk, market risk and liquidity risk. The following is a description of those risks and how the Credit Union manages exposure to them. (a) Credit Risk (i) Credit risk Credit risk is the risk that financial loss will be incurred due to the failure of a counterparty to discharge its contractual commitment or obligation to the Credit Union arising from member loans, investments, securities and derivative instruments with positive market values. The primary credit risk arising from loans is the possibility that members will be unable or unwilling to repay some or all of the principal and interest on their loans. For investments, securities and derivative instruments, the credit risk is the risk of default by the counterparty (See Note 20). (ii) Management of credit risk The Credit Union s credit risk management practices include: Establishing loan policies to provide guidance for commercial, agricultural and retail lending. These policies provide guidance over collateral requirements, credit assessment, risk rating assessments for commercial and agricultural loans and identifying required legal documentation. Establishing a Credit Committee to oversee the lending function. Establishing authorization limits for lending staff, management and the Credit Committee for approval and renewal of loans and credit facilities. Establishing procedures for ongoing management of the loan portfolio including assessment, analysis and monitoring of the loan portfolio. Establishing limits on the exposure to concentration in specific industries and to any one member. Establishing guidelines on the desired portfolio mix by category. Developing a risk rating process for commercial and agricultural loans to categorize the risk and to determine where a provision for impairment may be required. The current risk rating format consists of nine categories reflecting various degrees of risk and the availability of collateral. The responsibility for setting the risk categories rests with management. Regular audits of the credit department and its processes are undertaken by internal audit. Entering into arrangements with Credit Union Central Alberta Ltd. ("Central"), a creditworthy party, to manage the risk of default by the counterparty (See Note 17). (CONT'D) 17.

20 15. RISK MANAGEMENT (CONT'D) (b) Market Risk Market risk is the risk that changes in interest rates and credit spreads will affect income or the value of the Credit Union's financial instruments. The Credit Union s market risk management practices include: (i) Interest rate risk management Interest rate risk is the risk of loss to the Credit Union due to volatility of interest rates, the maturity profile of assets and liabilities, the creditworthiness of a particular issuer and changes in prime rate. Mismatches in the balance of assets and liabilities that mature and reprice in various reporting periods will generate interest rate risk. These mismatches arise in the ordinary course of business of the Credit Union. (ii) Interest rate risk policies, processes and measurement The Credit Union's policy is to maintain an interest rate risk management program that produces a stable financial margin, regardless of fluctuations in interest rates, and to do so in a manner that optimizes business potential. Management reviews its compliance with this policy and reports to the Audit and Finance committee quarterly or more frequently to the Board of Directors when any mismatch exceeds acceptable levels. To manage the repricing of asset and liability mismatch opportunities the Credit Union will undertake campaigns to procure deposits or loans that re-price/mature within a specific time period, buy/sell assets that reprice/mature within a specific time period and may purchase derivative instruments. These decisions are based on economic conditions, member behavior, capital and liquidity levels and compliance with Credit Union policy. Interest rate risk is measured by: Static gap analysis which aggregates cash flows into repricing periods based on the maturity dates of the assets and liabilities. Income simulation models that use current interest revenue, current interest expense and market values. These models incorporate assumptions about pricing strategies, growth, volume, new business and interest rates. The assumptions in the models are updated quarterly. Market value of portfolio equity determines the present value of all assets and liabilities. This provides an estimate of the equity value of the Credit Union. Refer to Note 18 for more information on interest rate sensitivity. (CONT'D) 18.

21 15. RISK MANAGEMENT (CONT'D) (c) Liquidity Risk Liquidity risk is the risk of having insufficient financial resources to meet either the Credit Union s cash and funding requirements, statutory liquidity requirements, or both. The Credit Union s liquidity risk management practices include: (i) Liquidity risk management The Credit Union has established policies which include minimum liquidity requirements, eligibility requirements for liquid assets, investments with counterparties, deposit concentration and diversification limits. The Credit Union monitors expected cash inflows and outflows on a daily, cyclical and long-term basis. The Credit Union's preferred source of funding is member deposits; however, borrowing from Central is permitted during periods where loan demand exceeds deposit growth. Other sources of funding such as sale of assets, deposits from other credit unions and wholesale deposits are acceptable. On a periodic basis management ensures that it has adhered to the regulatory requirement of the Credit Union Act of Alberta's minimum liquidity ratio of 6% of total assets. The Credit Union s liquidity ratio was 8.36% at October 31, 2011 ( %). Management reviews its compliance with these policies and reports its statutory liquidity position to the Board of Directors on an exception basis. It reports the operating liquidity to the Board of Directors on a monthly basis. The Audit and Finance Committee ensures that a periodic review/audit is performed to verify compliance with policy and procedures (no less than annually). 19.

22 16. CAPITAL MANAGEMENT The Credit Union manages capital to ensure that it meets the minimum levels set out in the Credit Union Act of Alberta (the Act ) and to support the continued growth of the Credit Union and build member value. The Credit Union s capital includes: Retained earnings $ 42,527,063 $ 38,112,871 Common shares 19,524,910 18,164,562 Qualifying Central retained earnings (a) 1,082, ,218 $ 63,134,858 $ 57,198,651 (a) The Credit Union s portion of qualifying retained earnings of Credit Union Central of Alberta ( Central ) as calculated and provided by Central. The Credit Union is required under the Act to have a capital balance that is equal to or exceeds the greater of: 4% of total assets; and 8% of risk weighted assets Credit Union management measures the adequacy of the Credit Union s capital to these requirements on an ongoing basis and report the results to the Board of Directors and Credit Union Deposit Guarantee Corporation. As at October 31, 2011 the Credit Union s total capital as a percent of assets was 12.3% ( %) and the total capital as a percent of risk weighted assets was 21.9% ( %). Therefore, the Credit Union has exceeded its minimum capital requirement at October 31,

23 17. EQUITY-LINKED DERIVATIVE CONTRACTS The fair value of the equity-linked option contract is $447,345 ( $665,873) and is included in other assets (see Note 6). The fair value of the embedded derivative is $447,345 ( $665,873) and is included in member deposits. Both items are marked to market through income. This had no effect on income for the year ended October 31, The notional amounts of equity-linked derivative contracts maturing at various times are as follows: Within 1 year $ 1,357,099 $ 1,151,798 Within 2 years 1,562,600 1,357,099 Within 3 years 1,360,475 1,562,600 Within 4 years 816, ,391 Within 5 years 1,243, , INTEREST RATE SENSITIVITY $ 6,341,080 $ 5,484,870 Interest rate risk refers to the potential impact of changes in interest rates on the Credit Union's earnings when maturities of its financial liabilities are not matched with the maturities of its financial assets. The following table summarizes amounts by maturity dates: As At October 31, 2011 Floating Within 1 to 5 Non-Rate Rate 1 Year Years Sensitive Total Assets Cash $ 9,126,000 $ - $ - $ (690,000) $ 8,436,000 Effective Yield 0.25% 0.00% 0.00% 0.00% 0.25% Investments 8,882,000 55,204, ,000 64,304,000 Effective Yield 0.67% 1.03% 0.00% 0.00% 0.98% Member loans 203,543,000 48,153, ,944,000 (2,891,000) 424,749,000 Effective Yield 4.57% 5.48% 5.05% 0.00% 4.87% Other ,745,000 6,745, ,551, ,357, ,944,000 3,382, ,234,000 Liabilities Deposits 203,674, ,362,000 77,905,000 27,091, ,032,000 Effective Cost 0.75% 1.61% 2.22% 0.00% 1.30% Equity ,289,000 65,289,000 Other ,913,000 1,913, ,674, ,362,000 77,905,000 94,293, ,234,000 Net gap $ 17,877,000 $ (25,005,000) $ 98,039,000 $ (90,911,000) $ - As At October 31, 2010 Net gap $ 49,401,000 $ (90,908,000) $ 116,958,000 $ (75,451,000) $ - Assumptions are as follows: Fixed rate assets and fixed rate liabilities are reported based on scheduled repayments. Variable rate assets and liabilities that are linked to prime rate are reported in the floating rate category. Non-interest bearing assets and non-interest bearing liabilities are reported in the non-rate sensitive category. 21.

24 19. FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value amounts disclosed represent point in time estimates that may change in subsequent reporting periods due to market conditions or other factors. The Credit Union has estimated fair values taking into account changes in interest rates and credit risk that have occurred since the assets and liabilities were acquired. These calculations represent the Credit Union's best estimates based on a range of methods and assumptions. Since they involve uncertainties, the fair values may not be realized in an actual sale or immediate settlement of the instrument. Interest rate changes are the main cause of changes in the fair value of the Credit Union's financial instruments. The following methods and assumptions are used to estimate the fair market value: i) The fair values of cash, demand deposits, certain other assets and certain other liabilities approximate their carrying values, due to their short-term nature. ii) The estimated fair values of floating-rate investments, member loans and member deposits are assumed to equal carrying value as the interest rates automatically reprice to market. iii) The estimated fair values of fixed-rate investments, member loans and member deposits are determined by discounting the expected future cash flows of these items at current market rates for products with similar terms and credit risks. The total value of loans determined using the above assumptions is reduced by the allowance for impaired loans. Fair Carrying Fair Carrying Value (FV) Value (CV) Change Value (FV) Value (CV) Change Assets Cash $ 8,436,404 $ 8,436,404 $ - $ 13,914,666 $ 13,914,666 $ - Investments 64,525,671 64,303, ,808 44,771,117 44,123, ,984 Members' loans 429,419, ,749,189 4,670, ,640, ,663,800 7,976,763 Other 6,744,726 6,744,726-6,608,830 6,608,830 - Less: Liabilities Members' deposits 436,701, ,032, , ,458, ,009,422 (1,448,997) Other liabilities 1,912,849 1,912, , ,

25 20. CREDIT RISK a) Credit risk exposure The following information represents the maximum exposure to credit risk before taking into consideration any collateral. For financial assets recognized on the balance sheet, the exposure to credit risk is their stated carrying amount. For off balance sheet items, the maximum exposure is the full amount of the undrawn facilities or loan commitment. On balance sheet exposure Cash $ 8,436,404 $ 13,914,666 Investments 64,303,863 44,123,133 Loans 424,749, ,663,800 Off balance sheet exposure Letters of guarantee 4,741,851 4,921,200 Commitments to extend credit Original terms to maturity of 1 year or less 33,319,511 32,873,717 Original terms to maturity of 1 year or more 50,683,844 38,435,826 $ 586,234,662 $ 558,932,342 b) Concentration of credit risk Concentration of credit risk exists if a number of borrowers are engaged in similar economic activities or are located in the same geographic region, and indicates the sensitivity of the Credit Union's to developments affecting a particular segment of borrowers or geographic region. Geographic credit risk exists for the Credit Union due to its primary service area being in Bonnyville, Cold Lake and surrounding areas. 21. COMPARATIVE FIGURES Certain comparative figures have been reclassified to conform to the current year's presentation. 23.

26 SCHEDULE OF CONSOLIDATED OPERATING EXPENSES SCHEDULE I FOR THE YEAR ENDED Personnel $ 5,064,408 $ 4,636,852 Occupancy Maintenance, utilities and janitorial 185, ,323 Amortization 123, ,093 Property taxes 54,100 45,700 Insurance 40,972 37,777 Rent 1,904 1, , ,764 Security Deposit guarantee assessment 685, ,022 Bonding 46,032 45,078 Amortization 12,244 10, , ,978 Organization Credit Union Central dues 136, ,611 Director meetings and training 60,830 45,294 Membership meetings 42,058 53,723 Directors and committee remuneration 13,599 15, , ,119 General Cash, service charges and other fees 692, ,704 Computer services 671, ,164 Advertising and marketing 243, ,104 Consulting and professional fees 212, ,205 Amortization 176, ,195 Office and communication 121, ,605 Other 83,927 67,318 Equipment leases, repairs and maintenance 29,194 31,015 Staff travel 27,062 21,907 Memberships and subscriptions 9,587 7,779 Insurance 3,165 3,961 2,271,534 2,026,957 $ 8,738,217 $ 8,059,670 The accompanying notes are an integral part of these financial statements. 24.