TAIPEI FUBON COMMERCIAL BANK Co., Ltd. Financial Statements for the Six Months Ended June 30, 2011 and 2010 and Independent Auditors Report
INDEPENDENT AUDITORS REPORT The Board of Directors and Stockholder TAIPEI FUBON COMMERCIAL BANK Co., Ltd. We have audited the accompanying balance sheets of TAIPEI FUBON COMMERCIAL BANK Co., Ltd. (the Bank ), as of June 30, 2011 and 2010, and the related statements of income, changes in stockholder s equity and cash flows for the six months then ended. These financial statements are the responsibility of the Bank s management. Our responsibility is to express an opinion on these statements based on our audits. We conducted our audits in accordance with the Rules Governing the Audit of Financial Statements of Financial Institutions by Certified Public Accountants and auditing standards generally accepted in the Republic of China. Those rules and standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of TAIPEI FUBON COMMERCIAL BANK Co., Ltd. as of June 30, 2011 and 2010, and the results of its operations and its cash flows for the six months then ended, in conformity with the Criteria Governing the Preparation of Financial Reports by Public Banks, Criteria Governing the Preparation of Financial Reports by Futures Commission Merchants, Criteria Governing the Preparation of Financial Reports by Securities Firms, requirements of the Business Accounting Law and Guidelines Governing Business Accounting relevant to financial accounting standards, the guidelines issued by authority and accounting principles generally accepted in the Republic of China. As stated in Note 3 to the accompanying financial statements, TAIPEI FUBON COMMERCIAL BANK Co., Ltd. adopted the newly revised Statement of Financial Accounting Standards (SFAS) No. 34, Financial Instruments: Recognition and Measurement effective on January 1, 2011. We have also audited the consolidated financial statements of the Bank and its subsidiaries as of and for the six months ended June 30, 2011 and 2010, and we have issued a modified unqualified and an unqualified opinion thereon, respectively. July 28, 2011 Notice to Readers The accompanying financial statements are intended only to present the financial position, results of operations and cash flows in accordance with accounting principles and practices generally accepted in the Republic of China and not those of any other jurisdictions. The standards, procedures and practices to audit such financial statements are those generally accepted and applied in the Republic of China. For the convenience of readers, the auditors report and the accompanying financial statements have been translated into English from the original Chinese version prepared and used in the Republic of China. If there is any conflict between the English version and the original Chinese version or any difference in the interpretation of the two versions, the Chinese-language auditors report and financial statements shall prevail. - 1 -
TAIPEI FUBON COMMERCIAL BANK CO., LTD. BALANCE SHEETS JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars, Except Par Value) % Increase % Increase ASSETS Amount Amount (Decrease) LIABILITIES AND STOCKHOLDER S EQUITY Amount Amount (Decrease) CASH AND CASH EQUIVALENTS (Notes 4 and 32) $ 26,739,969 $ 30,612,536 (13) DUE TO THE CENTRAL BANK OF CHINA AND OTHER BANKS (Notes 19 and 32) 48,432,896 67,591,809 (28) DUE FROM THE CENTRAL BANK OF CHINA AND OTHER BANKS (Notes 5, 32 and 33) 69,959,336 92,109,369 (24) FINANCIAL LIABILITIES AT FAIR VALUE THROUGH PROFIT OR LOSS (Notes 2, 6 and 32) 25,726,989 23,002,287 12 FINANCIAL ASSETS AT FAIR VALUE THROUGH PROFIT OR LOSS (Notes 2, 6, 32 and 34) 50,291,226 35,120,273 43 SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE (Notes 2, 32 and 34) 31,542,522 17,646,111 79 RECEIVABLES, NET (Notes 2, 7, 15 and 32) 70,640,370 78,463,832 (10) PAYABLES (Notes 2, 20, 25, 28 and 32) 26,030,233 33,155,243 (21) DISCOUNTS AND LOANS, NET (Notes 2, 8, 15 and 32) 904,602,621 857,232,878 6 DEPOSITS AND REMITTANCES (Notes 21 and 32) 1,149,913,559 1,107,518,218 4 AVAILABLE-FOR-SALE FINANCIAL ASSETS, NET (Notes 2, 9, 32, 33 and 34) 52,088,154 41,004,597 27 BANK DEBENTURES (Note 22) 55,469,347 52,280,683 6 HELD-TO-MATURITY FINANCIAL ASSETS (Notes 2, 10 and 33) 268,320,257 254,276,678 6 OTHER FINANCIAL LIABILITIES (Notes 2,23 and 32) 37,122,915 31,619,587 17 INVESTMENTS ACCOUNTED FOR BY THE EQUITY METHOD OTHER LIABILITIES (Notes 2, 15, 24, 25 and 28) 3,556,888 3,443,232 3 (Notes 2 and 11) 163,982 333,236 (51) Total liabilities 1,377,795,349 1,336,257,170 3 OTHER FINANCIAL ASSETS, NET (Note 2) Financial assets carried at cost, net (Note 12) 1,021,319 1,252,235 (18) STOCKHOLDER'S EQUITY Debt instruments with no active market, net (Note 13) 6,797,657 11,750,615 (42) Capital stock, NT$10 par value Others, net (Notes 14, 15, 32 and 34) 1,523,789 1,643,617 (7) Authorized, issued, and outstanding: 4,899,287 thousand shares as of June 30, 2011; 4,899,287 Other financial assets, net 9,342,765 14,646,467 (36) thousand shares authorized and 4,794,887 thousand shares issued and outstanding as of June 30, 2010 48,992,871 47,948,871 2 PROPERTIES (Notes 2 and 16) Reserve for capital increase 2,100,000 1,044,000 101 Cost Capital surplus 13,613,508 13,613,508 - Land 5,717,669 5,822,560 (2) Retained earnings Buildings 4,523,262 4,645,403 (3) Legal reserve 14,333,465 12,149,310 18 Machinery and computer equipment 3,280,305 3,409,273 (4) Special reserve 1,409,173 1,285,676 10 Transportation equipment 251,849 247,704 2 Unappropriated earnings 5,817,900 4,544,326 28 Office and other equipment 2,195,985 2,018,552 9 Total retained earnings 21,560,538 17,979,312 20 Total cost 15,969,070 16,143,492 (1) Others Less: Accumulated depreciation 6,087,370 5,832,098 4 Cumulative translation adjustments (171,629) 84,567 (303) 9,881,700 10,311,394 (4) Unrealized gains on financial instruments 2,626,466 1,645,741 60 Construction in progress and prepayment for equipment 213,277 135,644 57 Unrealized gains on cash-flow hedge - 9,359 (100) Total others 2,454,837 1,739,667 41 Net properties 10,094,977 10,447,038 (3) Total stockholder's equity 88,721,754 82,325,358 8 INTANGIBLE ASSETS (Notes 2, 17 and 35) 1,844,662 2,060,582 (10) OTHER ASSETS (Notes 2 and 18) 2,428,784 2,275,042 7 TOTAL $ 1,466,517,103 $ 1,418,582,528 3 TOTAL $ 1,466,517,103 $ 1,418,582,528 3 The accompanying notes are an integral part of the financial statements. (With Deloitte & Touche audit report dated July 28, 2011) - 2 -
TAIPEI FUBON COMMERCIAL BANK CO., LTD. STATEMENTS OF INCOME SIX MONTHS ENDED JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars, Except Earnings Per Share) - 3 - % Increase Amount Amount (Decrease) NET INTEREST (Notes 2 and 32) Interest revenues $ 11,164,645 $ 9,419,328 19 Interest expenses 4,388,963 3,332,380 32 Total net interest 6,775,682 6,086,948 11 NET REVENUES OTHER THAN INTEREST (Note 2) Commission and fee revenues, net (Notes 26 and 32) 4,120,427 3,191,684 29 Gains on financial assets and liabilities at fair value through profit or loss (Notes 6, 27 and 32) 2,670,439 1,960,478 36 Realized gains on available-for-sale financial assets (Note 36) 266,560 133,268 100 Investment income recognized under the equity method, net (Note 11) 28,406 201,703 (86) Foreign exchange losses, net (1,400,875) (489,834) 186 Reversal of impairment loss on assets 14,702 1,553 847 Other noninterest net revenues (Notes 32 and 34) 193,338 81,735 137 Total net revenues other than interest 5,892,997 5,080,587 16 TOTAL NET REVENUES 12,668,679 11,167,535 13 (REVERSAL OF) ALLOWANCE FOR BAD DEBTS (Notes 2 and 15) (880,925) 195,859 (550) OPERATING EXPENSES (Notes 2, 29, 31 and 32) Personnel expenses 3,354,078 3,084,180 9 Depreciation and amortization 430,507 489,039 (12) Others 2,717,467 2,465,043 10 Total operating expenses 6,502,052 6,038,262 8 INCOME BEFORE INCOME TAX 7,047,552 4,933,414 43 INCOME TAX EXPENSE (Notes 2 and 28) 1,229,652 389,208 216 NET INCOME $ 5,817,900 $ 4,544,206 28 Pretax After Tax Pretax After Tax EARNINGS PER SHARE (IN NEW TAIWAN DOLLARS; Note 30) Basic $ 1.44 $ 1.19 $ 1.01 $ 0.93 The accompanying notes are an integral part of the financial statements. (With Deloitte & Touche audit report dated July 28, 2011)
TAIPEI FUBON COMMERCIAL BANK CO., LTD. STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY SIX MONTHS ENDED JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars) Other Equity (Notes 2, 11 and 36) Issued and Outstanding Reserve for Unrealized Unrealized Capital Stock Capital Retained Earnings (Notes 2 and 25) Cumulative Gains or Losses Gains or Losses Total Shares Increase Capital Surplus Unappropriated Translation on Financial on Cash-flow Stockholders' (Thousands) Amount (Note 25) (Note 25) Legal Reserve Special Reserve Earnings Total Adjustment Instruments Hedge Equity BALANCE, JANUARY 1, 2011 4,899,287 $ 48,992,871 $ - $ 13,613,508 $ 12,149,310 $ 1,285,676 $ 7,280,638 $ 20,715,624 $ (324,755) $ 2,074,662 $ 2,197 $ 85,074,107 Appropriation of the 2010 earnings: Legal reserve - - - - 2,184,155 - (2,184,155) - - - - - Cash dividends - NT$0.61 per share - - - - - - (2,996,483) (2,996,483) - - - (2,996,483) Stock dividends - NT$0.43 per share - - 2,100,000 - - - (2,100,000) (2,100,000) - - - - Trading losses reserve transferred to special reserve - - - - - 123,497-123,497 - - - 123,497 Changes in unrealized gains or losses on available-for-sale financial assets - - - - - - - - - 549,322-549,322 Change in unrealized gains or losses on available-for-sale financial assets of equity-method investees - - - - - - - - - 2,482-2,482 Changes in unrealized gains or losses on cash-flow hedge - - - - - - - - - - (2,197) (2,197) Changes in cumulative translation adjustments - - - - - - - - 153,126 - - 153,126 Net income for the six months ended June 30, 2011 - - - - - - 5,817,900 5,817,900 - - - 5,817,900 BALANCE, JUNE 30, 2011 4,899,287 $ 48,992,871 $ 2,100,000 $ 13,613,508 $ 14,333,465 $ 1,409,173 $ 5,817,900 $ 21,560,538 $ (171,629) $ 2,626,466 $ - $ 88,721,754 BALANCE, JANUARY 1, 2010 4,794,887 $ 47,948,871 $ - $ 13,613,508 $ 11,627,111 $ 1,285,676 $ 5,222,319 $ 18,135,106 $ 20,099 $ 1,640,196 $ 39,238 $ 81,397,018 Appropriation of the 2009 earnings: Legal reserve - - - - 522,199 - (522,199) - - - - - Cash dividends - NT$0.76 per share - - - - - - (3,656,000) (3,656,000) - - - (3,656,000) Stock dividends - NT$0.22 per share - - 1,044,000 - - - (1,044,000) (1,044,000) - - - - Changes in unrealized gains or losses on available-for-sale financial assets - - - - - - - - - 7,058-7,058 Change in unrealized gains or losses on available-for-sale financial assets of equity-method investees - - - - - - - - - (1,513) - (1,513) Changes in unrealized gains or losses on cash-flow hedge - - - - - - - - - - (29,879) (29,879) Changes in cumulative translation adjustments - - - - - - - - 64,468 - - 64,468 Net income for the six months ended June 30, 2010 - - - - - - 4,544,206 4,544,206 - - - 4,544,206 BALANCE, JUNE 30, 2010 4,794,887 $ 47,948,871 $ 1,044,000 $ 13,613,508 $ 12,149,310 $ 1,285,676 $ 4,544,326 $ 17,979,312 $ 84,567 $ 1,645,741 $ 9,359 $ 82,325,358 The accompanying notes are an integral part of the financial statements. (With Deloitte & Touche audit report dated July 28, 2011) - 4 -
TAIPEI FUBON COMMERCIAL BANK CO., LTD. STATEMENTS OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars) CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 5,817,900 $ 4,544,206 Adjustments to reconcile net income to net cash used in operating activities (Reversal of allowance) allowance for bad debts (880,925) 195,859 Collection of loans and receivables written off in prior years 975,677 778,351 Depreciation and amortization 437,792 495,622 Allowance for credit and trading losses 5,196 19,061 Gains on disposal of financial assets and liabilities designated as at fair value through profit or loss (30,603) (29,730) Valuation losses on financial assets and liabilities designated as at fair value through profit or loss 21,230 52,992 Losses on disposal of nonperforming loans 5,590 87,907 Losses on disposal and retirement of assets, net 4,714 545 Reversal of impairment loss on assets (14,702) (1,553) Investment income recognized under the equity method (28,406) (201,703) Cash dividends received from equity method investees 245,296 893,762 Realized gains on disposal of available-for-sale financial assets (43,596) (106,871) Gains on early redemption of held-to-maturity financial assets (658) (763) Deferred income tax 20,061 (57,507) Amortization of premium and discount of financial assets 52,225 35,645 Prepaid pension 29,952 36,678 Net changes in operating assets and liabilities Financial assets held-for-trading (11,222,493) (488,636) Receivables 9,376,574 (24,799,539) Payables (13,585,884) 10,614,736 Financial liabilities held-for-trading (2,324,238) 2,437,690 Net cash used in operating activities (11,139,298) (5,493,248) CASH FLOWS FROM INVESTING ACTIVITIES Decrease in due from the Central Bank of China and other banks 27,198,017 242,652,921 Acquisition of financial assets designated as at fair value through profit or loss (1,602,715) (744,884) Proceeds from disposal of financial assets designated as at fair value through profit or loss 895,983 905,525 Decrease in securities purchased under agreements to resell 525,331 - Net increase in discounts and loans (49,005,558) (27,329,905) Acquisition of available-for-sale financial assets (17,525,637) (11,091,644) Proceeds from disposal of available-for-sale financial assets 25,351,344 12,429,189 Acquisition of held-to-maturity financial assets (411,425,875) (249,137,834) Proceeds received on the maturity of held-to-maturity investments 434,659,900 2,404,958 Acquisition of properties (200,844) (158,015) Proceeds from disposal of properties 7 1,420 Proceeds from sale of nonperforming loans 646,566 157,400 (Continued) - 5 -
TAIPEI FUBON COMMERCIAL BANK CO., LTD. STATEMENTS OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars) Proceeds from liquidation of equity-method investees $ 4,659 $ - Proceeds from capital reduction of financial assets carried at cost 25,000 6,478 Acquisition of debt instruments with no active market (4,178,323) (4,841,805) Proceeds from disposal of debt instruments with no active market 1,478,114 5,694,632 Decrease (increase) in other financial assets 512,234 (692,460) Increase in intangible assets (21,633) (1,540,776) (Increase) decrease in other assets (730,846) 141,442 Net cash provided by (used in) investing activities 6,605,724 (31,143,358) CASH FLOWS FROM FINANCING ACTIVITIES Decrease in due to the Central Bank of China and other banks (16,946,687) (332,217) Increase (decrease) in securities sold under agreements to repurchase 9,811,416 (1,053,548) (Decrease) increase in deposits and remittances (9,176,700) 46,586,013 Issuance of bank debentures 3,050,000 16,800,000 Repayment of bank debentures on maturity (3,200,000) (8,200,000) (Decrease) increase in other financial liabilities, net 13,109,035 (6,104,657) Decrease in other liabilities (305,392) (212,186) Cash dividends (2,996,483) (3,656,000) Net cash (used in) provided by financing activities (6,654,811) 43,827,405 EFFECTS OF EXCHANGE RATE CHANGES 51,576 7,069 NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (11,136,809) 7,197,868 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 37,876,778 23,414,668 CASH AND CASH EQUIVALENTS, END OF PERIOD $ 26,739,969 $ 30,612,536 SUPPLEMENTAL CASH FLOW INFORMATION Interest paid $ 4,363,628 $ 3,534,072 Income tax paid $ 561,820 $ 229,492 The Bank bid for the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank. The fair values of the assets and liabilities on March 6, 2010, the acquisition date, were as follows: Cash $ 35,587 Loans 3,451,903 Other assets 553,537 Intangible assets 1,466,222 Total liabilities (2,535,082) Total cash paid for acquisition $ 2,972,167 The accompanying notes are an integral part of the financial statements. (With Deloitte & Touche audit report dated July 28, 2011) (Concluded) - 6 -
TAIPEI FUBON COMMERCIAL BANK CO., LTD. NOTES TO FINANCIAL STATEMENTS SIX MONTHS ENDED JUNE 30, 2011 AND 2010 (In Thousands of New Taiwan Dollars, Unless Stated Otherwise) 1. ORGANIZATION AND OPERATIONS TAIPEI FUBON COMMERCIAL BANK Co., Ltd. (the Bank ) started as a financial institution under the Taipei City Government (TCG) in 1969. On July 1, 1984, it was reorganized into a limited liability corporation and was renamed City Bank of Taipei Co., Ltd. On January 1, 1993, the Bank was renamed TAIPEIBANK Co., Ltd. ( TAIPEIBANK ). On November 30, 1999, the Bank was privatized through the sale of its shares to the public, with TCG s holdings reduced to less than 50% of the Bank s outstanding capital stock. In their special meeting on October 4, 2002, the stockholders approved a share swap, which resulted in the Bank s becoming a wholly owned subsidiary of the Fubon Financial Holdings Company (FFH). The board of directors designated December 23, 2002 as the effective date of the share swap and of the delisting of the Bank s stock from the Taiwan Stock Exchange. To fully harness the synergy of two diversified business operations and reduce operating costs, the boards of directors of the Bank and Fubon Bank Co., Ltd. ( Fubon Bank, a wholly owned subsidiary of FFH) decided on January 1, 2005 to combine these two entities. On January 1, 2005, the Bank acquired the assets and liabilities of Fubon Bank through a share swap and had its name changed to Taipei Fubon Commercial Bank Co., Ltd. On September 20, 2006, the boards of directors of the Bank and Fubon Bills Finance Co., Ltd. (FBFC) decided to merge the Bank and FBFC to strengthen their operating synergy and lower operating costs, with the Bank as the survivor entity. The Bank set December 25, 2006 as the effective merger date. Pursuant to the terms and conditions set out in the Sale and Assumption Agreement signed by the Bank, Chinfon Commercial Bank Co., Ltd. (hereinafter referred to as Chinfon Bank ), Central Deposit Insurance Corp. and the Executive Yuan s Financial Reconstruction Trust Corporation on October 30, 2009, effective midnight, March 6, 2010, the Bank assumed the assets, liabilities and businesses of the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank under the conditions that the acquirer has obtained the competent authority s approval and completed the settlement procedure. The Bank engages in the following: (a) act for the municipal treasures of Taipei City; (b) management of municipal treasury bills of Taipei City; (c) all commercial banking operations authorized under the Banking Law; (d) securities and trust operations; (e) lottery operations; (f) futures trading assistance; and (g) other authorized operations. The Bank has its head office in Taipei City, and as of June 30, 2010, had 4 major operating departments - Banking, Trust, Public Treasury, and Lottery departments - with 131 branches (including one offshore banking unit (OBU), 4 overseas branches and 1 overseas subbranch). The operations of the Bank s Trust Department are (1) planning, managing and operating a trust business; and (2) custodianship of nondiscretionary trust funds in domestic and overseas securities and mutual funds. These operations are regulated under the Banking Law. The Bank was granted the right to run the Taiwan Sports Lottery from 2008 to 2013 by the Ministry of Finance. As of June 30, 2011 and 2010, the Bank had 6,472 and 6,151 employees, respectively. - 7 -
2. SIGNIFICANT ACCOUNTING POLICIES The Bank s financial statements were prepared in conformity with the Criteria Governing the Preparation of Financial Reports by Public Banks, Criteria Governing the Preparation of Financial Reports by Securities Firms, Criteria Governing the Preparation of Financial Reports by Futures Commission Merchants, Business Accounting Law, Guidelines Governing Business Accounting and accounting principles generally accepted in the Republic of China (ROC). The Bank s significant accounting policies are summarized as follows: Basis of Financial Statement Preparation The accompanying financial statements include the accounts of the head office, the OBU and all branches and representative offices. All interoffice balances and transactions have been eliminated. Since the operating cycle in the banking industry cannot be reasonably identified, accounts included in Bank s financial statements were not classified as current or noncurrent. Nevertheless, accounts were properly categorized in accordance with the nature of each account and sequenced by their liquidity. Please refer to Note 36 for the maturity analysis of assets and liabilities. Translation of Foreign-currency Financial Statements The financial statements of foreign branches and the OBU are translated into New Taiwan dollars at the following exchange rates: a. Assets and liabilities - at exchange rates prevailing on the balance sheet date; b. Stockholders equity - at historical exchange rates; c. Retained earnings at the beginning balance not yet remitted to the Bank - at the translated beginning balance; and d. Income and expenses - at average exchange rates for the year. Exchange differences arising from the translation of the financial statements of foreign operations are recognized as a separate component of stockholder s equity. Foreign-currency Transactions Nonderivative foreign-currency transactions are recorded in New Taiwan dollars at the rates of exchange in effect when the transactions occur. Exchange differences arising from the settlement of foreign-currency assets and liabilities are recognized as gain or loss. At the balance sheet date, foreign-currency monetary assets and liabilities are revalued at prevailing exchange rates, and the exchange differences are recognized as gain or loss. At the balance sheet date, foreign-currency nonmonetary assets (such as equity instruments) and liabilities that are measured at fair value are revalued at prevailing exchange rates, with the exchange differences treated as follows: a. Recognized in stockholder s equity if the changes in fair value are recognized in stockholder s equity; b. Recognized as gain or loss if the changes in fair value are recognized as gain or loss. Foreign-currency nonmonetary assets and liabilities that are carried at cost continue to be stated at the exchange rates of the trade dates. - 8 -
Accounting Estimates In determining allowance for credit losses, depreciation, amortization, pension, income tax, asset impairment, possible losses from lawsuits, provision for losses on guarantees, bonuses paid to employees, directors and supervisors and the valuation on certain financial instruments, the Bank needs to make estimates and assumptions based on judgment and available information. Actual results could differ from those estimates. Financial Instruments at Fair Value Through Profit or Loss Financial instruments classified as financial assets or financial liabilities at fair value through profit or loss (FVTPL) include financial assets or financial liabilities held for trading and those designated as at FVTPL on initial recognition. The Bank recognizes a financial asset or a financial liability on its balance sheet when the Bank becomes a party to a financial instrument contract. A financial asset is derecognized when the Bank lose its contractual rights to the financial asset. A financial liability is derecognized when the obligation specified in the relevant contract is discharged or canceled or expires. Financial instruments at FVTPL are initially measured at fair value. At each balance sheet date after initial recognition, financial assets or financial liabilities at FVTPL are remeasured at fair value, with changes in fair value recognized directly as gain or loss in the year in which they arise. On the derecognition of a financial asset or a financial liability, the difference between its carrying amount and the sum of the consideration received or receivable or consideration paid or payable is recognized as gain or loss. The Bank uses trade date accounting when recording related transactions, except for bond, for which settlement date accounting is used. A derivative that does not meet the criteria for hedge accounting is classified as a financial asset or a financial liability held for trading. If the fair value of the derivative is positive, the derivative is recognized as a financial asset; otherwise, the derivative is recognized as a financial liability. Any financial asset and any financial liability may be designated as at fair value through profit or loss to eliminate measurement anomalies for items that provide a natural offset of each other. Applying the fair value option eliminates accounting measurement mismatch for items that naturally offset each other or eliminates the burden of separating embedded derivatives that are not considered to be closely related to the host contract pertaining to a hybrid instrument. If the Bank does not adopt hedge accounting and the hedged items are not designated as financial assets or liabilities at fair value through profit or loss, accounting measurement mismatches on these items will occur as a result of differences in measurement attributes. Thus, the Bank designated debt instruments financial assets as financial assets at fair value through profit or loss. Moreover, the Bank designated hybrid instruments as financial assets and liabilities at fair value through profit or loss because embedded derivatives are not separated from the host contract in a hybrid instrument. Besides, the set of financial assets, financial liabilities or the combination of both managed by the Bank s risk management policies and investment strategies will be designated as financial instruments at fair value through profit or loss. Fair values are determined as follows: (a) listed stocks and GreTai Securities Market (GTSM, the overthe-counter securities exchange) stocks - closing prices as of the balance sheet date; (b) beneficiary certificates (open-end funds) - net asset values as of the balance sheet date; (c) bonds - period-end reference prices published by the GTSM or Bloomberg; (d) investments with no active market - based on information provided by the counterparties. - 9 -
Available-for-sale Financial Assets Available-for-sale financial assets are carried at fair value plus transaction costs that are directly attributed to the acquisition. Unrealized gains or losses on available-for-sale financial assets are reported in equity attributed to the Bank s stockholder. On disposal of an available-for-sale financial asset, the accumulated, unrealized gain or loss in equity attributable to the Bank s stockholder is transferred to net profit and loss for the period. The Bank uses trade date accounting when recording related transactions, except for bonds, for which settlement date accounting is used. The recognition, derecognition and the fair value bases of available-for-sale financial assets are similar to those of financial assets designated as at fair value through profit or loss. Cash dividend income from equity securities is recognized on ex-dividend dates. Cash dividends received within a year after investment acquisition are recognized as a reduction of the carrying value of the investments and are subsequently recognized as income. Stock dividends received are accounted for only as increases in the number of the shares and are not recognized as income. The difference between the maturity amount of a debt instrument and its acquisition price is calculated and amortized. For amortization, the effective interest method and the straight-line method are used and compared. If there is no significant difference in the use of these two methods, the straight-line method is used; otherwise, the effective interest method is used. If an available-for-sale financial asset is determined to be impaired, the accumulated unrealized loss previously recognized in equity attributable to the Bank s stockholder is recognized as impairment loss and reported in the income statement. For equity investments, loss reversal is adjusted to the equity attributable to the Bank stockholder. For debt investments, loss reversal is credited to current income. Fair values are determined as follows: (a) listed stocks and GreTai Securities Market (GTSM, the overthe-counter securities exchange) stocks - closing prices as of the balance sheet date; (b) beneficiary certificates (open-end funds) - net asset values as of the balance sheet date; (c) bonds - period-end reference prices published by the GTSM or Bloomberg; and (d) investments with no active market - based on information provided by the counterparties. Held-to-maturity Financial Assets Held-to-maturity financial assets are carried at amortized cost, which are valued by the effective interest method. On initial recognition, the costs of the financial assets are valued at their fair value plus the acquisition costs. The net gain or loss on held-to-maturity financial assets is derecognized upon asset disposal, impairment or amortization. For debt commodities, the Bank uses settlement date accounting in recording related transactions. If a held-to-maturity financial asset is determined to be impaired, an impairment loss is recognized and reported in the income statement. Loss reversal is credited to current income and should not be more than the carrying amount had the impairment loss not been recognized. Hedge Accounting To qualify as a hedge, a derivative must effectively reduce any risk that is inherent in the hedged item and may result from changes in interest rates, exchange rates and market values. Changes in the fair value of the derivative must be highly correlated with changes in the fair value of the hedged item over the life of the hedge contract. At the start of the hedge, there must be a formal designation and documentation of the hedging relationship, the Bank s risk management objective and strategy for undertaking the hedge, the hedging instrument, the hedged items, overall risk management objectives and strategies and how the Bank will assess the hedging instrument s effectiveness. - 10 -
A fair value hedge that meets all hedge accounting criteria is accounted for as follows: a. The gain or loss from remeasuring the hedging instrument at fair value (for a derivative hedging instrument) or the foreign-currency component of its carrying amount (for a nonderivative hedging instrument) is recognized immediately as gain or loss; and b. The carrying amount of the hedged item is adjusted through profit or loss for the corresponding gain or loss attributable to the hedged risk. A cash flow hedge that meets all hedge accounting criteria is accounted for as follows: The unrealized gain or loss on a hedging instrument is recognized as equity when the hedge takes effect. If a hedge of a forecast transaction results in the recognition of a financial asset or a financial liability, the associated gains or losses that were recognized as equity should be reclassified to gain or loss. The Bank uses the fair value hedge to hedge against the exposure to adverse changes in fair value of a recognized asset or liability or a previously unrecognized firm commitment to buy or sell an asset or liability at a fixed interest rate. The cash flow hedge is a hedge against the exposure to adverse cash flow changes that are attributable to the floating interest rate associated with a recognized asset or liability. Financial Assets Carried at Cost Investments in equity instruments with no quoted market prices in an active market and with fair values that cannot be reliably measured, are measured at cost. If there is objective evidence that a financial asset is impaired, an impairment loss is recognized, but impairment loss reversal is prohibited. Debt Instruments With No Active Market Value Debt instruments with no quoted market prices in an active market and with fair values that cannot be reliably measured are carried at amortized cost. The accounting treatment for these instruments is similar to that for held-to-maturity financial assets, except for the absence of any prohibition on the sale these debt instruments. Nonperforming Loans Under the Regulations Governing the Procedures for Banking Institutions to Evaluate Assets and Deal with Nonperforming/Non-accrual Loans issued by the Ministry of Finance, the balances of loans and other credits extended by the Bank and the related accrued interest are classified as nonperforming when the loan is overdue, but this classification should have prior approval under a resolution passed by the board of directors. Nonperforming loans reclassified from loans are recognized as discounts and loans, and other credits are reclassified as other financial assets. Allowance for Possible Losses and Reserve for Losses on Guarantees The Bank assesses the collectability on the balances of discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets, as well as guarantees and acceptances as of the balance sheet date. - 11 -
The Bank adopted the third-time revised Statement of Financial Accounting Standards (SFAS) No. 34, Financial Instruments: Recognition and Measurement. One of the main revisions is that the impairment of loans and receivables originated by the Bank should be covered by SFAS No. 34. Loans and receivables are assessed for impairment at the end of each reporting period and considered impaired when there is objective evidence that, as a result of one or more events that occurred after the initial recognition of the discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets, the estimated future cash flows of the asset have been affected. Objective evidence of impairment could include: Significant financial difficulty of the debtor; The discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets becoming overdue; or It becoming probable that the debtor will enter into bankruptcy or undergo financial re-organization. Discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets that are assessed not to be individually impaired are further assessed for impairment on a collective basis. Objective evidence of impairment for a portfolio of discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets could include the Bank s past experience of collecting payments and an increase in the number of delayed payments, as well as observable changes in national or local economic conditions that correlate with defaults on loans and receivables. The amount of the impairment loss recognized is the difference between the asset carrying amount and the present value of estimated future cash flows, after taking into account the related collateral and guarantees, discounted at the original effective interest rates. The carrying amount of the discounts and loans, accounts receivables, interest receivables, other receivables, and other financial assets is reduced through the use of an allowance account. Pursuant to Regulations Governing the Procedures for Banking Institutions to Evaluate Assets and Deal with Non-performing/Nonaccrual Loans (the Regulations ) issued by the Banking Bureau, the Bank evaluates credit losses on the basis of the estimated collectability. In accordance with the Regulations stated above, the credit assets divided into different classes subject to normal assets, assets that require special mentioned, assets that are substandard, assets that are doubtful, and assets for which there is loss. In accordance with the Regulations stated above, the minimum allowance for credit losses and provision for losses on guarantees for the assets that require special mentioned, assets that are substandard, assets that are doubtful, and assets for which there is loss should be 2%, 10%, 50% and 100% of outstanding credits before January 1, 2011, respectively. However, effective January 1, 2011, the minimum provisions for possible losses should be the sum of 0.5% of the outstanding balance of normal on- and off-balance sheet credit assets (excluding assets that represent claims against an ROC government agency) and the foregoing provisions for unsound credit assets. Certain loans as defined under Banking Bureau guidelines and approved by the board of directors for write-off are offset against the allowance for credit losses. The repayments of loans written off are recorded as a reversal of this allowance. Repurchase and Resell Transactions Securities purchased under resell agreements and securities sold under repurchase agreements are generally treated as collateralized financing transactions. Interest earned on resell agreements or interest incurred on repurchase agreements is recognized as interest income or interest expense over the life of each agreement. - 12 -
Investments Accounted for by the Equity Method Investments are accounted for by the equity method if the Bank has significant influence on the investees. Under this method, investments are stated at cost plus (or minus) a proportionate share in the investees net earnings (losses) or changes in net worth. Cash dividends received are accounted for as a reduction of the carrying values of the investments. Stock dividends received are accounted for only as increases in the number of shares held and are not recognized as income. Costs of investments sold are determined using the moving-average method. Properties Properties are stated at cost less accumulated depreciation. Major renewals, additions and improvements are capitalized, while repairs and maintenance are expensed as incurred. Depreciation is calculated using the straight-line method over service lives estimated as follows: buildings and improvements, 5 to 60 years; computers and peripheral equipment, 3 to 15 years; transportation and communications equipment, 3 to 10 years; and miscellaneous equipment, 3 to 20 years. For assets still in use beyond their original estimated service lives, further depreciation is calculated on the basis of newly estimated salvage value. The cost and accumulated depreciation are removed from the accounts when property is disposed of, and any gain or loss is credited or charged to other noninterest net revenues. Intangible Assets a. Goodwill Goodwill arose from winning the bid for the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank from the Financial Restructuring Fund. Goodwill is not amortized; instead, it is tested for impairment at least once a year and whenever events or changes in circumstances indicate the need for impairment testing. b. Customer relationships Customer relationships arose from winning the bid for the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank from the Financial Restructuring Fund. Customer relationships are amortized on a straight-line basis over seven years. c. License License arose from winning the bid for the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank from the Financial Restructuring Fund. License is amortized on a straight-line basis over 97 years. d. Core deposit intangible Core deposit intangible arose from wining the bid for the Hanoi branch and Ho Chi Minh City subbranch of Chinfon Bank from the Financial Restructuring Fund. Core deposit intangible is amortized on a straight-line basis over 10 years. e. Computer software Computer software is amortized on a straight-line basis over 5 years. - 13 -
Reserve for Losses on Defaults and Trading Loss Reserve The reserve for trading losses should be used only to cover the trading loss in excess of the trading profit. When the accumulated trading loss reserve reaches $200,000 thousand, no additional reserve for trading loss is required to be set aside. Under the regulations of the Securities and Futures Bureau, the Bank should recognize monthly a trading loss reserve at 10% of net gain on sales of securities and record this reserve as a liability account. Under the Rules Governing Futures Commission Merchants, a futures commission merchant engaging in futures proprietary business should set aside 10% of the net profit realized each month as reserve for trading losses. The reserve for trading losses referred to in the preceding paragraph should not be used for purposes other than covering the trading loss in excess of the trading profit. When the accumulated trading loss reserve reaches the amount of required minimum working capital, no additional reserve for trading loss is required to be set aside. Under Financial Supervisory Commission (FSC) guidelines No. 10010000440, if the Bank also engages in security trading and futures trading, the reserve for trading loss is no longer needed. Thus, the trading loss reserve set up as of December 31, 2010 is supposed to be transferred to special reserve. The special reserve may be used to offset a deficit and may be appropriated when legal reserve reaches 50% of the Bank s paid-in capital. Pension The Bank has two types of pension plans: Defined benefit and defined contribution. Pension expense under the defined benefit pension plan is determined on the basis of actuarial calculations. Unrecognized net transition obligation is amortized over the average remaining service years of employees. Under the defined contribution pension plan, which is based on the Labor Pension Act, the Bank s required monthly contributions to the employees individual pension accounts are expensed during the employees service periods. Income Tax Inter-period income tax allocation is applied, in which tax effects of deductible temporary differences unused loss carryforward and unused investment tax credits are recognized as deferred income tax assets, and those of taxable temporary differences are recognized as deferred income tax liabilities. Valuation allowance is provided for deferred tax assets that are not certain to be realized. Income tax credits for certain acquisitions of equipment, personnel training expenditures and equity investments are recognized as reduction of current income. The adjustment of prior year s income tax is included in the current income tax. An additional 10% income tax on unappropriated earnings is recorded as income tax in the year when the stockholder resolves to retain these earnings. The Bank, FFH and its subsidiaries have used the linked-tax system for income tax filings since 2003. Under the related rules, the required accounting procedures should be applied systematically and consistently. The related contributions or payments are accrued as receivables or payables, respectively. - 14 -
Interest Revenue and Service Fees Interest revenue on loans is recorded by the accrual method. No interest revenue is recognized in the accompanying financial statements on loans and other credits extended by the Bank that are classified as nonperforming loans. The interest revenue on these loans/credits is recognized upon collection. Under the Ministry of Finance s regulations, the interest revenue on credits covered by agreements that extend their repayment periods is recorded as deferred revenue (included in other liabilities) and is recognized as revenue upon collection. Service fees are recorded as revenue upon receipt and substantial completion of activities involved in the earnings process. Operating Leases The Bank has operating lease agreements on the office spaces used by its branches. The imputed interest on lease deposits (included in other financial assets), computed using the interest rate on one-year time deposits, is charged to business expenses - rent and credited to interest income. Contingencies A loss is recognized when it is probable that an asset has been impaired or a liability has been incurred and the amount of loss can be reasonably estimated. If the amount of the loss cannot be reasonably estimated or the loss is possible, the related information is disclosed in the notes to the financial statements. Unrealized Sale and Leaseback Gain or Loss Sale and leaseback happens when the Bank sells an asset and then leases it back. gains or losses are deferred and amortized over the lease period. The related unrealized Asset Impairment The Statement of Financial Accounting Standards (SFAS) No. 35 - Impairment of Assets requires the impairment review on equity investments - equity method, properties, intangible assets to be made on each balance sheet date. If an asset is deemed impaired, the Bank must calculate the recoverable amount of the asset or the cash-generating unit. An impairment loss should be recognized whenever the recoverable amount of the asset or the cash generating unit is below the carrying amount, and this impairment loss is charged to accumulated impairment. After the recognition of an impairment loss, the depreciation (amortization) charged to the asset should be adjusted in the future periods at the revised asset carrying amount (net of accumulated impairment), less its salvage value, on a systematic basis over its remaining service life. If asset impairment loss is reversed, the increase in the carrying amount resulting from reversal is credited to current income. However, loss reversal should not be more than the carrying amount (net of depreciation) had the impairment loss not been recognized. Goodwill is tested for impairment annually or more frequently if events or changes in circumstance indicate goodwill impairment. Impairment is recorded if the book value exceeds value in use. The increase in the recoverable amount of goodwill in the period following the recognition of an impairment loss is likely to be an increase in internally generated goodwill rather than the reversal of the impairment loss recognized for the acquired goodwill. Thus, a reversal of an impairment loss on goodwill is disallowed. Reclassifications Certain accounts in the financial statements as of and for the six months ended June 30, 2010 have been reclassified to conform to the presentation of the financial statements as of and for the six months ended June 30, 2011. - 15 -
3. ACCOUNTING CHANGES Financial Instruments On January 1, 2011, the Bank adopted the third-time revised Statement of Financial Accounting Standards (SFAS) No. 34, Financial Instruments: Recognition and Measurement. The main revisions includes (1) impairment of finance lease receivables are now covered by SFAS No. 34; (2) the scope of the applicability of SFAS No. 34 to insurance contracts is amended; (3) loans and receivables originated by the Bank are now covered by SFAS No. 34; (4) additional guidelines on impairment testing of financial assets carried at amortized cost when a debtor has financial difficulties and the terms of obligations have been modified; and (5) accounting treatment by a debtor for modifications in the terms of obligations. Operating Segments On January 1, 2011, the Bank adopted the newly issued SFAS No. 41, Operating Segments. The statement requires that segment information be disclosed on the basis of information on the components of the Bank that management uses to make operating decisions. SFAS No. 41 requires identification of operating segments on the basis of internal reports that are regularly reviewed by the Bank's chief operating decision maker in order to allocate resources to the segments and assess their performance. This statement supersedes SFAS No. 20, Segment Reporting. For this accounting change, the Bank restated the segment information as of and for the six months ended June 30, 2010 to conform to the disclosures as of and for the six months ended June 30, 2011. 4. CASH AND CASH EQUIVALENTS June 30 Cash on hand $ 7,285,932 $ 7,461,909 Due from other banks 17,192,440 21,375,077 Notes and checks for clearing 2,261,597 1,775,550 $ 26,739,969 $ 30,612,536 5. DUE FROM THE CENTRAL BANK OF CHINA AND OTHER BANKS June 30 Call loans to banks $ 34,598,629 $ 43,988,582 Deposit reserve - checking account 5,406,633 17,095,522 Required deposit reserve 28,926,220 27,099,011 Deposit reserve - foreign-currency deposits 418,138 272,655 Time deposits in the Central Bank of China - 3,000,000 Due from the Central Bank of China 7,604 10,517 Interbank settlement funds 602,112 643,082 $ 69,959,336 $ 92,109,369 Under a directive issued by the Central Bank of the ROC, New Taiwan dollar (NTD)-denominated deposit reserves are determined monthly at prescribed rates based on the average balances of customers NTD-denominated deposits. These required deposit reserves are subject to withdrawal restrictions. - 16 -
In addition, foreign-currency deposit reserves are determined at prescribed rates based on the balances of foreign-currency deposits. These reserves may be withdrawn anytime and are noninterest earning. 6. FINANCIAL INSTRUMENTS AT FAIR VALUE THROUGH PROFIT OR LOSS Held-for-trading financial assets June 30 Commercial paper $ 9,712,215 $ 5,084,196 Government bonds 6,549,631 1,639,079 Treasury bills 4,303,967 2,392,893 Convertible corporate bonds 702,172 1,243,621 Corporate bonds 597,922 - Bank debentures 502,330 - Beneficiary securities 292,666 256,520 Listed stocks and beneficiary certificates 276,465 285,347 Others 29,977 297 22,967,345 10,901,953 Derivatives Interest rate swap contracts 9,200,608 12,290,242 Currency swap contracts 8,569,640 5,350,627 Option contracts 2,886,872 1,215,304 Cross-currency swap contracts 1,917,581 855,125 Forward contracts 1,685,368 2,277,295 Commodity forward contracts 33,079 62,979 Commodity swap contracts 10,020 68,066 Others 5,466 4,113 24,308,634 22,123,751 47,275,979 33,025,704 Financial assets designated as at fair value through profit or loss Credit-linked notes 2,582,375 1,199,431 Bank debentures 432,872 895,138 3,015,247 2,094,569 Held-for-trading financial liabilities $ 50,291,226 $ 35,120,273 Securities borrowings $ 12,187 $ 86,007 Derivatives Currency swap contracts 9,307,579 6,037,561 Interest rate swap contracts 9,026,429 12,048,903 Option contracts 3,349,093 1,653,406 Cross-currency swap contracts 2,708,841 757,770 Forward contracts 1,273,999 2,262,521 Commodity forward contracts 33,533 61,224 Commodity swap contracts 9,915 68,001 Others 5,413 26,894 25,714,802 22,916,280 $ 25,726,989 $ 23,002,287-17 -