1. Reporting Entity

1.1 Corporate Information

Bank of Ceylon (the ‘Bank’) is a Government owned bank domiciled in Sri Lanka, duly incorporated on 1 August 1939 under the Bank of Ceylon Ordinance No. 53 of 1938. It is a licensed commercial bank established under the Banking Act No. 30 of 1988 and amendments thereto. The registered office of the Bank is situated at ‘BOC Square’, No. 01, Bank of Ceylon Mawatha, Colombo 01, Sri Lanka. The debentures issued by the Bank are listed on the Colombo Stock Exchange and the senior notes amounting to USD 1,000 million are listed on the Singapore Stock Exchange. The staff strength of the Bank as at 31 December 2016 was 7,569 (2015 – 7,980).

1.2 Consolidated Financial Statements

The Consolidated Financial Statements are prepared as at and for the year ended 31 December 2016 comprise the Bank (‘Parent’), its subsidiaries (together referred to as the ‘Group’ and individually as ‘Group Entities’) and the Group’s interests in its associate companies. The Financial Statements of the companies in the Group have common financial year which ends on 31 December, except the associate companies of Transnational Lanka Records Solutions (Private) Limited and Ceybank Asset Management Limited. The Bank is the ultimate parent of the Group.

1.3 Principal Activities

1.3.1 Bank

The principal activities of the Bank during the year were, personal banking, corporate banking, development banking, offshore banking, trade financing, lease financing, primary dealing, investment banking and treasury operations, correspondent banking and money remittances, Islamic banking, bancassurance, pawning, credit card facilities, foreign currency operations, and other financial services.

1.3.2 Subsidiaries

The principal activities of the subsidiaries of the Bank are as follows:

1.3.3 Associates

The principal activities of the associates of the Bank are as follows:

There were no significant changes in the nature of principal activities of the Bank, subsidiaries and associates during the year under review. The Bank’s stake of 40% in the associate company, Mireka Capital Land (Private) Limited was disposed during the year.

Southern Development Financial Company Limited (SDFCL) is not in operations. The Board of Directors
of SDFCL has decided to wind up
the Company and is in the process
of liquidation.

2. Directors’ Responsibility for Financial Statements

2.1 Preparation and Presentation of the Financial Statements

The Board of Directors is responsible for the preparation and presentation of the Financial Statements of the Bank and its Subsidiaries and Associates in compliance with the requirements of the Bank of Ceylon Ordinance No. 53 of 1938 and its amendments, Banking Act No. 30 of 1988 and its amendments thereto and Sri Lanka Accounting Standards.

2.2 Approval of Financial Statements

The Financial Statements for the year ended 31 December 2016 were authorised for issue on 29 March 2017 by the Board of Directors.

3. Basis of Preparation

3.1 Statement of Compliance

The Consolidated Financial Statements of the Group and the separate Financial Statements of the Bank have been prepared in accordance with Sri Lanka Accounting Standards comprising of Sri Lanka Financial Reporting Standards (SLFRSs) and Sri Lanka Accounting Standards (LKASs) laid down by the Institute of Chartered Accountants of Sri Lanka (together referred to as SLFRSs in these Financial Statements). The preparation and presentation of these Financial Statements are in compliance with the requirements of the Bank of Ceylon Ordinance, the Banking Act No. 30 of 1988 and the Companies Act No. 07 of 2007.

The Group has prepared Financial Statements which comply with
SLFRSs applicable for the year ended 31 December 2016, together with the comparative year data as at and for the year ended 31 December 2015, as described in the accounting policies.

3.2 Basis of Measurement

The Consolidated Financial Statements have been prepared on the basis of historical cost convention which has been applied in consistence basis, except for the following:

• Derivative financial instruments are measured at fair value
• Financial instruments held for trading are measured at fair value
• Available for sale financial investments are measured at fair value
• Owner occupied freehold land and buildings and buildings on leasehold lands are measured at revalued amount less any subsequent accumulated depreciation and impairment losses
• Defined benefit obligations are actuarially valued and recognised as the present value of the defined benefit obligation less total of the fair value of plan assets

No adjustments have been made for inflationary factors affecting the Financial Statements.

3.3 Functional and Presentation Currency

Items included in the Consolidated Financial Statements are measured and presented in Sri Lankan Rupees (‘LKR’) which is the functional currency of the primary economic environment in which the Bank operates. Except as otherwise indicated, financial information presented in LKR has been rounded to the nearest thousand except when otherwise indicated.

3.4 Presentation of Consolidated Financial Statements

Items in the Financial Position of the Bank and the Group are grouped by nature of such item and present broadly in order of their relative liquidity and maturity pattern. An analysis regarding recovery or settlement within 12 months after the Reporting date (current) and more than 12 months after the Reporting date (non-current) is presented in Note 54.

Financial assets and financial liabilities are generally reported gross in the Consolidated Statement of Financial Position. They are only offset and reported net when, in addition to having an unconditional legally enforceable right to offset the recognised amounts without being contingent on a future event, the parties also intend to settle on a net basis in all of the following circumstances:

• The normal course of business
• The event of default
• The event of insolvency or bankruptcy of the Bank and/or its counterparties

Income and expenses are not offset in the Consolidated Statement of Profit or Loss unless required or permitted by any accounting standard or interpretation and as specifically disclosed in the accounting policies of the Group.

Consolidated Statement of Cash Flows has been prepared by using of ‘Indirect Method’ in accordance with LKAS 07 –
‘Statement of Cash Flows’, whereby the profit is adjusted to derive the cash flows from operating activities. Cash and cash equivalents comprise cash in hand, other short-term highly liquid investments with maturity less than seven days from date of acquisition and bank overdrafts.

3.5 Comparative Information

The comparative information is reclassified wherever necessary to conform to the current year’s presentation.

3.6 Use of Significant Accounting Judgments, Estimates and Assumptions

The preparation of the Consolidated Financial Statements requires management to exercise judgments, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates.

The judgments, estimates and assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances and reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimates are revised and/or in future periods if the revision affects future periods too.

In the process of applying the Group’s accounting policies, management has made the following judgments, estimates and assumptions, which have the most significant effect on the amounts recognised in the Consolidated Financial Statements.

3.6.1 Going Concern

The management has made an assessment on the Group’s ability to continue as a going concern and is satisfied that it has the resources to continue in business for the foreseeable future. Furthermore, management is not aware of any material uncertainties that may cast significant doubt upon the Group’s ability to continue as a going concern. Therefore, the Financial Statements continue to be prepared on the going concern basis.

3.6.2 Commitment and Contingent Liabilities

All discernible risks are accounted for in determining the amount of all known and measurable liabilities. Contingent liabilities are possible obligations whose existence will be confirmed only by uncertain future events or present obligations where the transfer of economic benefit is not probable or cannot be reliably measured. Contingent liabilities are not recognised in the Statement of Financial Position but are disclosed unless its occurrence is remote.

3.6.3 Fair Value of Financial Instruments

When the fair value of financial assets and financial liabilities, recorded in the Statement of Financial Position cannot be derived from active markets, they are determined using a variety of valuation techniques that include the use of mathematical models. The inputs to these models are taken from observable markets where possible, however, if such data are not available, a degree of judgment is exercised in establishing fair values which minimise the effect of use of unobservable inputs. The valuations of financial instruments are described comprehensively in Note 57.

3.6.4 Impairment Losses on Loans and Advances

The Group reviews its individually significant loans and advances at each Reporting date to assess whether an impairment loss should be recorded in the Statement of Profit or Loss. In particular, management’s judgment is required in the estimation of the amount and timing of future cash flows when determining the impairment loss. These estimates are based on assumptions about a number of factors and actual results may differ, resulting in future changes to the allowance.

Loans and advances that have been assessed individually and found to be not impaired and all individually insignificant loans and advances are assessed collectively, in groups of assets with similar risk characteristics, to determine whether provision should be made based on incurred loss events for which there is objective evidence, but the effects of which are not yet evident. The collective assessment takes account of data from the loan portfolio (such as loan type, levels of arrears etc.), and judgments on the effect of concentrations of risks and economic data (including levels of unemployment, real estate price indices, country risk and the performance of different individual groups). Details of Impairment losses on loans and advances are given in Note 26.

3.6.5 Impairment of Available for Sale Investments

The Group reviews its debt securities classified as available for sale investments at each Reporting date to assess whether they are impaired.

The Group also records impairment charges on equity investments classified as available for sale when there has been a significant or prolonged decline in the fair value below their cost. The determination of what is ‘significant or prolonged’ requires judgment. In making this judgment, the Group evaluates, among other factors, historical share price movements and duration and extent to which the fair value of an investment is less than its carrying value. Details of impairment of available for sale investments are given in Note 27.

3.6.6 Impairment of Investment in Subsidiaries, Other Financial Assets and Non-Financial Assets

The Group and the Bank follow the guidance of LKAS 36 – ‘Impairment of Assets’ and LKAS 39 – ‘Financial Instruments: Recognition and measurement’ in determining whether an investment or a financial asset is impaired. Determination and identification of impairment indicators require the Group and the Bank to evaluate duration and extent to which the fair value of an investment for a financial asset is less than its cost and the financial stability of the near term business outlook of the investment or the financial asset, considering the factors such as performance of the sector and industry, technology and operational environmental changes along with future cash flows. This process involves with significant judgment in aforesaid areas and details are given under respective notes.

3.6.7 Defined Benefit Obligation

The cost of the defined benefit pension plans and other post employment benefit plans are determined using an actuarial valuation. An actuarial valuation involves making various assumptions determining the discount rates, expected rates of return on assets, future salary increases, mortality rates and future pension increases. Due to the long-term nature of these plans, such estimates are subject to significant uncertainty. All assumptions are reviewed at each Reporting date and assumptions used in the year are given in Note 44.

3.6.8 Fair Value of Land and Buildings

The freehold land and buildings and the buildings on leasehold land of the Group are reflected at fair value. The Group engaged independent valuation specialists to determine fair value of such properties in terms of the SLFRS 13 – ‘Fair Value Measurement’. The details of valuation of freehold land and buildings and the buildings on leasehold land are given in Note 32.

3.6.9 Useful Life of the Property, Plant and Equipment and Intangible Assets

The Group reviews the residual values, useful lives and methods of depreciation of Property, Plant and Equipment and intangible assets at each Reporting date. Judgment of the management is exercised in the estimation of these values, rates, methods and hence they are subject to uncertainty. The details of the depreciation methods and rates used for each assets category are given in Note 32.

3.6.10 Classification of Investment Properties

Management is required to use its judgment to determine whether a property qualified as an investment property. A property that is held to earn rentals or for capital appreciation or both and which generates cash flows largely independently of the other assets held by the Group are accounted for as investment properties. On the other hand, properties that are used for operations or for the process of providing services or for administration purposes and which do not directly generate cash flows as stand-alone assets are accounted as Property, Plant and Equipment.

3.6.11 Taxation

The Group is subject to income tax, Value Added Tax (VAT) and Nation Building Tax (NBT) on financial services and other applicable taxes.

A judgment is required to determine the total provision for current, deferred and other taxes due to the uncertainties that exists with respect to the interpretation of the applicable tax laws at the time of preparing these Financial Statements. The details on the applicable tax rates and other information are given under Notes 17 and 35.

The Group is subject to transfer pricing regulations and it is necessitated using management judgment to determine the impact of transfer pricing regulations. Accordingly critical judgments and estimates were used in applying the regulations in aspects including but not limited to identifying associated undertakings, estimation of the respective arm’s length prices and selection of appropriate pricing mechanism. The current tax charge is subject to such judgments. Differences between estimated income tax charge and actual payable may arise as a result of management’s interpretation and application of transfer pricing regulation.

3.7 Materiality and Aggregation

In compliance with LKAS 01 – ‘Presentation of Financial Statements’, each material class of similar items are presented separately in the Financial Statements. Items of dissimilar nature or functions are presented separately unless they are immaterial.

4. Significant Accounting Policies

The significant accounting policies applied by the Bank and the Group in preparation of its Financial Statements are included below and have been consistently applied to all periods presented in these Financial Statements of the Group and the Bank, unless otherwise indicated.

4.1 Basis of Consolidation

The Group’s Financial Statements comprise consolidation of the Financial Statements of the Bank and its subsidiaries in terms of the SLFRS 10 – Consolidated Financial Statements and LKAS 27 – Consolidated and Separate Financial Statements.

The Bank’s Financial Statements comprise the amalgamation of the Financial Statements of the Domestic Banking Unit, the Offshore Banking Unit and the international operations of the Bank.

The accounting policies pertaining to the consolidation of Subsidiaries and Associates are given in the Notes 29 and 30.

4.1.1 Business Combinations

Business combinations are accounted for using the acquisition method. As of the acquisition date, the amount of non-controlling interest is measured either at fair value or at the non-controlling interests’ proportionate share of the acquirer’s identifiable net assets.

Acquisition related cost are costs the acquirer incurs to effect a business combination. Those costs include finder’s fees, advisory, legal, accounting, valuation and other professional consulting fees, general administrative costs, including the cost of maintaining an internal acquisition department and cost of registering and issuing debt and equity securities. Acquisition related costs, other than those associated with the issue of debt or equity securities are expensed in the periods in which the costs are incurred and the services are received.

The Group elects on a transaction by transaction basis whether to measure non-controlling interests at its fair value, or at its proportionate share of the recognised amount of the identifiable net assets, at the acquisition date. Transaction costs, other than those associated with the issue of debt or equity securities that the Group incurs in connection with a business combination are expensed as incurred.

4.1.2 Loss of Control

Upon the loss of control, the Group derecognises the assets and liabilities of the subsidiary, carrying amount of non-controlling interests and the cumulative translation differences recorded in equity related to the subsidiary. Further, the Bank’s share of components previously recognised in Other Comprehensive Income (OCI) is reclassified to Profit or Loss or retained earnings as appropriate. Any surplus or deficit arising on the loss of control is recognised in the Profit or Loss. If the Group retains any interest in the previous subsidiary, then such interest is measured at fair value at the date that control is lost. Subsequently, it is accounted for as an equity-accounted investee or in accordance with the Group’s accounting policy for financial instruments depending on the level of influence retained.

4.2 Foreign Currency Translations

4.2.1 Foreign Currency Transactions and Balances

Transactions in foreign currency are translated into the functional currency of the operation which is Sri Lankan Rupees (LKR) at the spot exchange rate at the date of the transaction. Monetary assets and liabilities denominated in foreign currency at the Reporting date are retranslated into the functional currency at the spot exchange rate at that date and all differences arising on non-trading activities are taken to ‘other operating income’ in the Statement of Profit or Loss.

Non-monetary assets and liabilities that are measured in terms of historical cost in a foreign currency are translated using the exchange rate at the date of the initial recognition.

Non-monetary assets and liabilities denominated in foreign currency that are measured at fair value are retranslated into the functional currency at the spot exchange rate at the date on which the fair value is determined. Foreign currency differences arising on retranslation are recognised in the Profit or Loss.

Forward exchange contracts are valued at the forward market rates ruling on the Reporting date and resulting net unrealised gains or losses are dealt with the profit or loss.

4.2.2 Foreign Operations

The results and financial position of foreign operations, whose functional currencies are not Sri Lankan Rupees, are translated into Sri Lankan Rupees as follows.

The assets and liabilities of foreign operations are translated into Sri Lankan Rupees at spot exchange rates as at the Reporting date. The income and expenses of foreign operations are translated at monthly average rate for the year. Foreign currency differences on the translation of foreign operations are recognised in Other Comprehensive Income (OCI).

When a foreign operation is disposed off, the relevant amount in the translation reserve is transferred to the profit or loss as part of the profit or loss on disposal in other operating income or other operating expenses.

4.3 Classification of Financial Instruments Between Debt and Equity

Classification of financial instruments between debt and equity depends on following characteristics of such instruments:

• Name or labels given to the instruments
• Presence or absence of a fixed maturity date
• Life of the instrument
• Source of payments
• Right to enforce payments
• Rights to participate in management
• Risk involved in the instruments
• Volatility of cash flows
• Securities given as collaterals

4.4 Financial Assets and Financial Liabilities

4.4.1 Classification of Financial Assets and Financial Liabilities

The classification of financial assets and liabilities at initial recognition depends on their purpose, characteristics and the management’s intention in acquiring them.

4.4.1.1 At the Inception, the Financial Assets are Classified in One of the Following Categories:

• Financial assets at fair value through profit or loss
• Financial instruments – Held for trading (Note 24)
• Financial assets designated through profit or loss
• Financial investments – Loans and receivables (Note 25)
• Financial investments – Available for sale (Note 27)
• Financial investments – Held to maturity (Note 28)

4.4.1.2 At the Inception, the Financial Liabilities are Classified in One of the Following Categories:

• Financial liabilities at fair value through profit or loss
• Financial liabilities – Held for trading
• Financial liabilities designated through profit or loss
• Financial liabilities – Amortised cost

4.4.2 Date of Recognition

All financial assets and liabilities are initially recognised on the settlement date, i.e., the date that the Group becomes a party to the contractual provisions of the instrument. This includes ‘regular way trades’. Regular way trade means purchases or sales of financial assets that require delivery of assets within the time frame generally established by regulation or convention in the market place.

4.4.3 Initial Measurements of Financial Instruments

Financial assets and liabilities are initially measured at their fair value plus transaction cost, except in the case of financial assets and liabilities recorded at fair value through profit or loss. Transaction cost in relation to financial assets and liabilities at fair value through profit or loss are dealt with in the Statement of Profit or Loss.

4.4.4 ‘Day One’ Profit or Loss

When the transaction price differs from the fair value of other observable current market transactions in the same instrument or based on a valuation technique whose variables include only data from observable markets, the Group immediately recognises the difference between the transaction price and fair value (a ‘Day one’ profit or loss) in
‘Net trading income’. In cases where fair value is determined using data which is not observable, the difference between the transaction price and model value is only recognised in the Statement of Profit or Loss over the life of the instrument.

4.4.5 Financial Liabilities at Amortised Cost

Financial instruments issued by the Group that are not designated at fair value through profit or loss, are classified as liabilities under ‘Due to banks’, ‘securities sold under repurchasing agreements’, ‘due to customers’, ‘other borrowings’, ‘debt securities issued’ or ‘subordinated term debts’ as appropriate, where the substance of the contractual arrangement results in the Group having an obligation either to deliver cash or another financial asset to the holder or to satisfy the obligation other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of own equity shares.

After initial measurement, debt securities issued and other borrowings are subsequently measured at amortised cost using EIR. Amortised cost is calculated by taking into account any discount or premium on the issue and costs that are an integral part of EIR.

4.4.6 Reclassification of Financial Assets

The Group does not reclassify any financial instrument into the ‘fair value through profit or loss’ category after initial recognition. Further, the Group does not reclassify any financial instrument out of the ‘fair value through profit or loss’ category if upon initial recognition it was designated as at fair value through profit or loss. The Group reclassifies non–derivative financial assets out of the ‘held for trading’ category and into the ‘available for sale’, ‘loans and receivables’ or ‘held to maturity’ categories as permitted by the Sri Lanka Accounting Standard – LKAS 39 on ‘Financial Instruments: Recognition and Measurement’. Further, in certain circumstances, the Group is permitted to reclassify financial instruments out of the ‘available for sale’ category and into the ‘loans and receivables’ or ‘held to maturity’ category. Reclassifications are recorded at fair value at the date of reclassification, which becomes the new amortised cost.

For a financial asset reclassified out of the ‘available for sale’ category, any previous gain or loss on that asset that has been recognised in equity is amortised to profit or loss over the remaining life of the investment using the Effective Interest Rate (EIR). Any difference between the new amortised cost and the expected cash flows is also amortised over the remaining life of the asset using the EIR. If the asset is subsequently determined to be impaired, then the amount recorded in equity is recycled to the Statement of Profit or Loss.

The Group may reclassify a
non-derivative trading asset out of the ‘held for trading’ category and into the ‘loans and receivables’ category if it meets the definition of loans and receivables and the Bank has the intention and ability to hold the financial asset for the foreseeable future or until maturity. If a financial asset is reclassified, and if the Bank subsequently increases its estimates of future cash receipts as a result of increased recoverability of those cash receipts,
the effect of that increase is recognised as an adjustment to the EIR from the date of the change in estimate.

However sale or reclassification of a more than insignificant amount of HTM investments would result in the reclassification of all HTM investments as ‘available for sale’ and would prevent the Group from classifying any financial asset as ‘held to maturity’ for the current and the following two financial years. However, sales and reclassifications in any of the following circumstances would not trigger a reclassification:

• Sales or reclassifications that are so close to maturity that changes in the market rate of interest would not have a significant effect on the financial assets’ fair value
• Sales or reclassifications after the Group has collected substantially all of the assets’ original principal
• Sales or reclassifications attributable to non-recurring isolated events beyond the Group’s control that could not have been reasonably anticipated

Reclassification is at the election of management and is determined on an instrument by instrument basis.

4.4.7 Derecognition

4.4.7.1 Derecognition of Financial Assets

The Group derecognises a financial asset when the contractual rights to the cash flows from the financial assets expire, or when it transfers the financial assets in a transaction in which substantially all the risks and rewards of ownership of the financial assets are transferred or in which the Group neither transfers nor retains substantially all the risks and rewards of ownership and it does not retain control of the financial assets.

Any interest in transferred financial assets that qualify for derecognition that are created or retained by the Group is recognised as a separate asset or liability in the Statement of Financial Position. On derecognition of financial assets, (i) the difference between the carrying amount of the assets (or the carrying amount allocated to the portion of the assets transferred) and the sum of the consideration received (including any new asset obtained less any new liability assumed) and (ii) any cumulative gain or loss that had been recognised in other comprehensive income is recognised in the profit or loss.

The Group enters into transactions whereby it transfers assets recognised on its Statement of Financial Position, but retains either all or substantially all of the risks and rewards of the transferred assets or a portion of them. If all or substantially all risks and rewards are retained, then the transferred assets are not derecognised. Transfers of assets with retention of all or substantially
all risks and rewards include, for example, securities lending and repurchase transactions.

When assets are sold to a third party with a concurrent total rate of return swap on the transferred assets, the transaction is accounted for as a secured financing transaction similar to repurchase transactions as the Group retains all or substantially all the risks and rewards of ownership of such assets.

The transactions in which the Group neither retains nor transfers substantially all the risks and rewards of ownership of a financial asset and it retains control over the asset, the Group continues to recognise the asset to the extent of its continuing involvement, determined by the extent to which it is exposed to changes in the value of the transferred asset.

In certain transactions the Group retains the obligation to service the transferred financial asset for a fee. The transferred asset is derecognised if it meets the derecognition criteria. An asset or liability is recognised for the servicing contract, depending on whether the servicing fee is more than adequate (asset) or is less than adequate (liability) for performing the service.

Continuing involvement that takes the form of a guarantee over the transferred asset is measured at the lower of the original carrying amount of the asset and the maximum amount of consideration that the Group could be required to repay.

4.4.7.2 Derecognition of Financial Liabilities

A financial liability is derecognised when the obligation under the liability is discharged or cancelled or expired. Where an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as a derecognition of the original liability and the recognition of a new liability. The difference between the carrying value of the original financial liability and the consideration paid is recognised in the Statement of Profit or Loss.

4.4.8 Securities Sold under Repurchase Agreements and Securities Purchased under Resale Agreements

Securities sold under agreements to repurchase at a specified future date are not derecognised from the Statement of Financial Position as the Group retains substantially all of the risks and rewards of ownership. The corresponding cash received is recognised in the Statement of Financial Position as an asset with a corresponding obligation to return it. The difference between the sale and repurchase prices is treated as interest expense and is accrued over the life of agreement using EIR.

Conversely, securities purchased under agreements to resell at a specified future date are not recognised in the Statement of Financial Position. The consideration paid, including accrued interest, is recorded in the Statement of Financial Position, within ‘securities purchased under resale agreements’, reflecting the transaction’s economic substance as an advance granted by the Group. The difference between the purchase and resale price is recorded as ‘Interest income’ and is accrued over the life of the agreement using the EIR.

4.4.9 Offsetting

Financial assets and liabilities are offset and the net amount presented in the Statement of Financial Position when, and only when, the Group has a legal right to set off the recognised amounts and it intends either to settle on a net basis or to realise the asset and settle the liability simultaneously.

Income and expenses are presented on a net basis only when permitted under LKASs/SLFRSs, or for gains and losses arising from a group of similar transactions such as in the Group’s trading activity.

4.4.10 Impairment of Assets

4.4.10.1 Impairment of Financial Assets

At each Reporting date, the Group assesses whether there is objective evidence that a financial asset or a group of financial assets is impaired. A financial asset or a group of financial assets is impaired, when objective evidence demonstrates that a loss event has occurred after the initial recognition of the asset(s) and that the loss event has an impact on the estimated future cash flows of the asset(s) that can be estimated reliably. Impairment details of financial investments – Loan and Receivable, Loans and Advances to customers, Financial investments – Available for sale and Held to maturity are given in Notes 25, 26, 27 and 28 respectively.

4.4.10.2 Impairment of Non-Financial Assets

The Bank assesses at each Reporting date whether there is an indication that an asset may be impaired. If any indication exists, or when annual impairment testing for an asset is required, the Bank estimates the asset’s recoverable amount. An asset’s recoverable amount is the higher of an asset’s fair value less costs to sell or its value in use. Where the carrying amount of an asset exceeds its recoverable amount, the asset is considered impaired and is written down to its recoverable amount.

In assessing the value in use, the estimated future cash flows are discounted to their present value using a pre tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. In determining fair value less costs to sell, an appropriate valuation model is used. These calculations are corroborated by valuation multiples, quoted share prices for publicly-traded subsidiaries or other valuable fair value indicators.

4.4.11 Fiduciary Services

The Group provides fiduciary services that result in holding of the assets on behalf of its customers. Assets held in fiduciary capacity are not reported in the Financial Statements, as they are not assets of the Group.

4.5 Provisions

A provision is recognised as a result of a past event, when the Group has a present (legal or constructive) obligation that can be estimated reliably and it is probable that an outflow of economic benefits will be required to settle the obligation. If the effect of the time value of money is material, provisions are determined by discounting the expected future cash outflows at a current pre tax rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. Where discounting is used, the increase in the provision due to the passage at time is recognised as finance cost.

4.6 Income Tax Expense and Other Taxes

4.6.1 Income Tax Expense

Income tax expense comprises current and deferred tax. More details are given in Note 17.

4.6.2 Value Added Tax (VAT) on Financial Services

The base for Value Added Tax computation is arrived by aggregating the accounting profit before income tax and emoluments of employees, which is adjusted for the depreciation computed on prescribed rates.

During the year, the Group’s total value addition was subjected to 15%
(2015 – 11%) VAT as per Section 25 (a) of the Value Added Tax Act No. 14 of 2002 and amendments thereto. Also the Group is following value attributable method to compute VAT on financial services.

4.6.3 Withholding Tax (WHT) on Dividends

• Withholding tax on dividends distributed by the Bank
• No withholding tax is paid by the Bank since Bank distributes dividend to its single shareholder, the Government of
  Sri Lanka.
• Withholding tax on dividends distributed by the subsidiaries and associates
• Dividend distributed out of taxable profit of the subsidiaries and associate companies attracts a 10% deduction at source and is not available for setoff against the tax liability of the Bank, since it is treated as a final tax. Thus, the withholding tax deducted at source is added to the tax expense in preparing the Consolidated Financial Statements as a consolidation adjustment.

4.6.4 Economic Service Charge (ESC)

As per provisions of the Economic Service Charge (ESC) Act No.13 of 2006 and amendments thereafter, ESC is payable at 0.25% on Bank’s liable turnover and is deductible from income tax payable. With effect from 1 April 2012 as per the ESC amendment Act No.11 of 2012 ESC is payable only on exempted turnover of the Bank and is deductible from income tax payable. ESC is not payable on turnover on which income tax is payable.

4.6.5 Crop Insurance Levy (CIL)

As per the provisions of the Section 15 of the Finance Act No. 12 of 2013, the CIL was introduced with effect from 1 April 2013 and is payable 1% of the profit after tax to the National Insurance Trust Fund Board.

4.6.6 Nation Building Tax (NBT) on Financial Services

NBT on financial services is calculated in accordance with Nation Building Tax (NBT) Act No. 9 of 2009 and subsequent amendments thereto with effect from 1 January 2014. NBT on financial services is calculated at 2% of the value addition used for the purpose of VAT on Financial Services.

5. Insurance Business

5.1 Reinsurance

The Group cedes insurance risk in the normal course of business for all of its businesses. Reinsurance assets represent balances due from reinsurance companies. Amounts recoverable from reinsurers are estimated in a manner consistent with the outstanding claims provision or settled claims associated with the reinsurer’s policies and are in accordance with the related reinsurance contract.

Reinsurance assets are reviewed for impairment at each Reporting date or more frequently when an indication of impairment arises during the Reporting year. Impairment occurs when there is objective evidence as a result of an event that occurred after initial recognition of the reinsurance asset that the Group may not receive all outstanding amounts due under the terms of the contract and the event has a reliably measurable impact on the amounts that the Group will receive from the reinsurer. The impairment loss is recorded in the Statement of Profit or Loss.

The Group also assumes reinsurance risk in the normal course of business for life insurance and non-life insurance contracts where applicable. Premiums and claims on assumed reinsurance are recognised as revenue or expenses in the same manner as they would be if the reinsurance were considered direct business, taking into account the product classification of the reinsured business. Reinsurance liabilities represent balances due to reinsurance companies. Amounts payable are estimated in a manner consistent with the related reinsurance contract.

Premiums and claims are presented on a gross basis for both ceded and assumed reinsurance. Reinsurance assets or liabilities are derecognised when the contractual rights are extinguished or expire or when the contract is transferred to another party.

5.2 Insurance Receivables

Insurance receivables are recognised when due and measured on initial recognition at the fair value of the consideration received or receivable. The carrying value of insurance receivables is reviewed for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable, with the impairment loss recorded in the Statement of Profit or Loss.

5.3 Deferred Expenses

5.3.1 Deferred Acquisition Costs (DAC)

The costs of acquiring new businesses including commission, underwriting, marketing and policy issue expenses, which vary with and directly related to production of new businesses and/or investment contracts with Discretionary Participation Features (DPF), are deferred to the extent that these costs are recoverable out of future premiums. All other acquisition costs are recognised as an expense when incurred. Subsequent to initial recognition, DAC for general insurance is amortised over the period on the basis unearned premium is amortised. The reinsurances’ share of deferred acquisition cost is amortised in the same manner as the underlying assets amortisation is recorded in the Statement of Profit or Loss.

Changes in the expected useful life or the expected pattern of consumption of future economic benefits embodied in the assets are accounted for by changing the amortisation period and are treated as a change in an accounting estimate. DAC are derecognised when the related contracts are either expired or cancelled.

5.4 Reinsurance Commissions

Commissions receivable on outwards reinsurance contracts are deferred and amortised.

5.5 Investment Contract Liabilities

Investment contracts are classified between contracts with and without DPF. The accounting policies for investment contract liabilities with DPF are the same as those for life insurance contract liabilities.

Investment contract liabilities without DPF are recognised when contracts are entered into and premiums are charged. These liabilities are initially recognised at fair value being the transaction price excluding any transaction costs directly attributable to the issue of the contract. Subsequent to initial recognition, investment contract liabilities are measured at fair value through profit or loss.

Deposits and withdrawals are recorded directly as an adjustment to the liability in the Statement of Financial Position. Fair value adjustments are performed at each Reporting date and are recognised in the Statement of Profit or Loss. Fair value is determined through the use of prospective discounted cash flow techniques. For unitised contracts, fair value is calculated as the number of units allocated to the policyholder in each unit linked fund multiplied by the unit price of those funds at the Reporting date. The fund assets and fund liabilities used to determine the unit prices at the Reporting date are valued on a basis consistent with their measurement basis in the Statement of Financial Position adjusted to take account of the effect on the liabilities of the deferred tax on unrealised gains on assets in the fund.

Non-utilised contracts are subsequently carried at fair value, which is determined by using valuation techniques such as discounted cash flows and stochastic modeling. Models are validated, calibrated and periodically reviewed by an independent qualified person.

The liability is derecognised when the contract expires, is discharged or is cancelled. For a contract that can be cancelled by the policyholder, the fair value cannot be less than the surrender value. When contracts contain both a financial risk component and a significant insurance risk component and the cash flows from the two components are distinct and can be measured reliably, the underlying amounts are unbundled. Any premiums relating to the insurance risk component are accounted for on the same bases as insurance.

5.6 Discretionary Participation Features (DPF)

A DPF is a contractual right that gives holders of these contracts the right to receive as a supplement to guaranteed benefits, significant additional benefits which are based on the performance of the assets held within the DPF portfolio. Under the terms of the contract, surpluses in the DPF funds can be distributed to policyholders and shareholders on a 90/10 basis. The Group has the discretion over the amount and timing of the distribution of these surpluses to policyholders. All DPF liabilities including unallocated surpluses, both guaranteed and discretionary, at annually are held within insurance or investment contract liabilities as appropriate.

5.7 Income Recognition

5.7.1 Gross Premiums

Gross recurring premiums on life and investment contracts with DPF are recognised as revenue when receivable from the policyholder. For single premium business, revenue is recognised on the date on which the policy is effective.

Gross general insurance written premiums comprise the total premiums receivable for the whole period of cover provided by contracts entered into during the accounting period and are recognised on the date on which the policy commences.

5.7.2 Reinsurance Premiums

Gross reinsurance premiums on life and investment contracts are recognised as an expense when the date on which the policy is effective.

Gross general reinsurance premiums written comprise the total premiums payable for the whole cover provided by contracts entered into the period and are recognised on the date on which the policy incepts. Premiums include any adjustments arising in the accounting period in respect of reinsurance contracts incepting in prior accounting periods.

Unearned reinsurance premiums are those proportions of premiums written in a year that relate to periods of risk after the Reporting date. Unearned reinsurance premiums are deferred over the term of the underlying direct insurance policies for risks attaching contracts and over the term of the reinsurance contract for losses occurring contracts.

5.8 Unearned Premium Reserve

Unearned premium reserve represents the portion of the premium written in the year but relating to the unexpired term of coverage. Unearned premiums are calculated on the 1/24th basis.

5.9 Benefits, Claims and Expenses Recognition

5.9.1 Gross Benefits and Claims

Gross benefits and claims for life insurance contracts and for investment contracts with DPF include the cost of all claims arising during the year including internal and external claims handling costs that are directly related to the processing and settlement of claims and policyholder bonuses declared on DPF contracts, as well as changes in the gross valuation of insurance and investment contract liabilities with DPF. Death claims and surrenders are recorded on the basis of notifications received. Maturities and annuity payments are recorded when due. Interim payments and surrenders are accounted at the time of settlement.

General insurance include all claims occurring during the year, whether reported or not, related internal and external claims handling costs that are directly related to the processing and settlement of claims, a reduction for the value of salvage and other recoveries, and any adjustments to claims outstanding from previous years.

Claims expenses and liabilities for outstanding claims are recognised in respect of direct and inward reinsurance business. The liability covers claims reported but not yet paid, Incurred But Not Reported (IBNR) claims and the anticipated direct and indirect costs of settling those claims. Claims outstanding are assessed by review of individual claim files and estimating changes in the ultimate cost of settling claims. The provision in respect of IBNR is actuarially valued on an annual basis to ensure a more realistic estimation of the future liability based on past experience and trends.

While the Directors consider that the provision for claims is fairly stated on the basis of information currently available, the ultimate liability will vary as a result of subsequent information and events. This may result in adjustment to the amounts provided. Such amounts are reflected in the Financial Statements for that period. The methods used and the estimates made are reviewed regularly.

6. New Accounting Standards Issued but not Effective as at the Reporting Date

The following Sri Lanka Accounting Standards were issued by the Institute of Chartered Accountants of Sri Lanka which are not yet effective as at 31 December 2016. Accordingly these accounting standards have not been applied in the preparation of the Financial Statements for the year ended 31 December 2016.

(i) SLFRS 9 – Financial Instruments:

In July 2014, the Institute of Chartered Accountants of Sri Lanka issued SLFRS 9 ‘Financial Instruments’ (on par with International Accounting Standards Board), the standard that will replace LKAS 39 ‘Financial Instruments – Recognition and measurement’ for annual periods beginning on or after 1 January 2018, with early adoption permitted. Currently the Bank is in the process to establish a multidisciplinary team (the Team) with members from its Risk, Finance and Operations teams to prepare for SLFRS 9 implementation (the Project). The Project is sponsored by the Chief Financial Officer and Chief Risk Officer.

The Project has clear individual work streams within two sub teams for classification and measurement and impairment. The initial assessment and analysing stage was completed for impairment in 2016 and the sub teams are finalysing the classification and measurement phase.

The Bank is about to commence the Diagnostic Phase (Impact Assessment Exercise) and expects following significant changes.

Impairment of financial assets

SLFRS 9 will fundamentally change the loan loss impairment methodology. The standard will replace Incurred Loss Approach of LKAS 39 – ‘Financial Instruments – Recognition’ with a forward-looking Expected Credit Loss (ECL) Approach. The Bank will be required to record an allowance for expected losses for all loans and other debt financial assets not held at fair value through profit or loss, together with loan commitments and financial guarantee contracts.

In comparison to LKAS 39, the Bank expects the impairment charge under SLFRS 9 to be more volatile than under LKAS 39 and to result in an increase in the total level of current impairment allowances.

Classification and Measurement

From a classification and measurement perspective, the new standard will require all financial assets, except equity instruments and derivatives, to be assessed based on a combination of the entity’s business model for managing the assets and the instruments’ contractual cash flow characteristics. The LKAS 39 measurement categories will be replaced by: Fair Value through Profit or Loss (FVPL), Fair Value through Other Comprehensive Income (FVOCI) and amortised cost. The accounting for financial liabilities will largely be the same as the requirements of LKAS 39, except for the treatment of gains or losses arising from an entity’s own credit risk relating to liabilities designated at FVPL.

(ii) SLFRS 15 – Revenue from contracts with customers

SLFRS 15 states the principles that an entity shall apply to report useful information to users of Financial Statements about the nature, amount, timing and uncertainty of revenue and cash flows arising from a contract with a customer.

SLFRS 15 introduces a five step approach for revenue recognition from contracts with customers and replaces all other currently applicable revenue standards and related interpretations.

SLFRS 15 will become effective on 1 January 2018, with early adoption is permitted. The impact on implementation of the above standard has not been quantified yet. However, the Group does not expect significant impact on its Financial Statements resulting from SLFRS 15.

(iii) SLFRS 16 – ‘Leases’

SLFRS 16 eliminates the current dual accounting model for lessees which distinguishes between On-Balance Sheet finance leases and Off-Balance Sheet operating leases. Instead there will be a single On-Balance Sheet accounting model that is similar to current finance lease accounting. SLFRS 16 is effective for annual Reporting periods beginning on or after 1 January 2019.

7. Total Income

Revenue is recognised to the extent that it is probable that the economic benefits will flow to the Group/Bank and the revenue can be reliably measured.

8. Net Interest Income

Interest income and expense are recognised in the Statement of Profit or Loss using the effective interest rate (EIR) method. The ‘EIR’ is the rate that exactly discounts the estimated future cash payments and receipts throughout the expected life of the financial asset or financial liability (or, where appropriate, a shorter period) to the carrying amount of the financial asset or financial liability. When calculating the EIR, the Group estimates future cash flows, considering all contractual terms of the financial instruments.

The calculation of the EIR includes transaction costs and fees paid or received that are an integral part of the EIR. Transaction costs include incremental costs that are directly attributable to the acquisition or issue of a financial asset or financial liability. Once the financial asset is impaired, interest income is recognised based on the recoverable amount of such financial asset by using EIR.

Interest income and expense presented in the Statement of Profit or Loss include interest on;

– Financial assets and financial liabilities measured at amortised cost calculated using EIR method

– Financial instruments classified as held for trading

– Financial investments classified as available for sale

8.1 Interest Income

Interest income on loans and advances to customers includes interest on impaired loans LKR 441.5 million for the year 2016
(2015 – LKR 597.9 million).

8.2 Interest Expenses

8.3 Net Interest Income from Sri Lanka Government Securities

8.4 Notional Tax Credit on Secondary Market Transactions

In terms of the Section 137 of the Inland Revenue Act No. 10 of 2006 and the amendments thereto, a company which derives interest income from the secondary market transactions in Government Securities would be entitled to a notional tax credit [being one ninth (1/9) of the net interest income], provided such interest income form a part of statutory income of the company for that year of assessment. Accordingly, the net interest earned by the Bank and the Group on secondary market transactions in Government Securities for the year has been grossed up in the Financial Statements and the resulting notional tax credit amounted to a sum of LKR 1,844.3 million (2015 – LKR 1,945.2 million) for the Bank and LKR 1,893.6 million (2015 – LKR 1,979.6 million) for the Group.

9. Net Fee and Commission Income

Fee and commission income comprises with the fee and commission earned by the Group, providing diverse range of services. Those can be divided into following three main categories.

(i) Fee and commission income earned from services that are provided over a certain period of time

Fees earned for the provision of services over a period of time are accrued over that period. These fees include commission income and private wealth and asset management fees, custody and other management and advisory fees.

(ii) Fee and commission income from providing transaction services and earned on the execution of a significant act

Fees and commission arising from negotiating or participating in the negotiation of a transaction for a third party, such as the arrangement/participation or negotiation of the acquisition of shares or other securities or the purchase or sale of businesses, are recognised on completion of the underlying transaction. Fees or components of fees that are linked to a certain performance are recognised after fulfilling the corresponding criteria.

(iii) Fee income forming an integral part of the corresponding financial instruments

Fees that the Bank considers to be an integral part of the corresponding financial instruments include: loan origination fees, loan commitment fees for loans that are likely to be drawn down and other credit related fees. The recognition of these fees (together with any incremental costs) form an integral part of the corresponding financial instruments and are recognised as interest income through an adjustment to the EIR (as defined in Note 8.1 above). The exception is, when it is unlikely that a loan will be drawn down, the loan commitment fees are recognised as revenue on expiry. Loan commitments that are within the scope of LKAS 39 (i.e., are at a below market rate of interest, or are settled net) are accounted for as derivatives and measured at fair value through profit or loss.

Fees and commission expenses relating to transactions are expensed as the services are received and are recognised on an accrual basis.

9.1 Fee and Commission Income

9.2 Fee and Commission Expenses

10. Net Gains/(Losses) from Trading

Net gains/(losses) from trading comprise realised gains or losses from investment in equities and fixed income securities classified as held for trading and unrealised gains and losses due to changes in fair value of such instruments, foreign exchange gain or losses arising from trading activities, dividend income from trading equities and gains or losses arising from changes in fair value of derivative financial instruments.

Dividend income is recognised when the Group’s right to receive the dividend is established.

11. Net Gains/(Losses) from Financial Investments

Net gains/(losses) from financial investments include profit or loss on sale of financial investments and dividend income of financial investments classified as available for sale. Dividend income is recognised when the Group’s right to receive the dividend is established.

12. Other Operating Income

Dividend Income

Dividend income from subsidiaries and associates is recognised when the Bank’s right to receive the dividend is established.

Gains/(Losses) from Disposal of Non-Financial Assets

Net gains or losses arising from the disposal of Property, Plant and Equipment and other non-current assets including investments in subsidiaries and associates are accounted for in the Statement of Profit or Loss after deducting the carrying amount of such assets and the related selling expenses from the proceeds on disposal.

Foreign Exchange Income

Foreign currency positions are revalued at each Reporting date. Gains/(Losses) arising from changes in fair value are included in the Statement of Profit or Loss in the period in which they arise.

Rental Income

Rental income is recognised on an accrual basis. This includes rent recovered from the Bank’s premises, quarters, safety lockers, and lease rent recovered form branch premises etc.

Service Income

Service income is recognised on an accrual basis and includes income earned through documentation charges recovered from loans and leases, CRIB charges, legal fees, correspondent banking services charges and CITs and automated cheque clearing charges etc.

Gross Insurance Premium

Gross recurring premiums on life and investment contracts with Discretionary Participation Features (DPF) are recognised as revenue when receivable from the policyholder. For single premium business, revenue is recognised on the date on which the policy is effective.

Gross general insurance written premiums comprise the total premiums receivable for the whole period of cover provided by contracts entered into during the accounting period and are recognised on the date on which the policy commences.

*Gains from disposal of non-financial assets include gain on disposal of Mireka Capital Land (Private) Limited, an associate company of the Bank.

12.1 Net Income from Islamic Banking

13. Impairment Charge/(Reversal) for Loans and Other Losses

The Bank and Group recognise the changes in the impairment provisions for loans and advances, which are assessed as per Sri Lanka Accounting Standard – LKAS 39 on ‘Financial Instruments: Recognition and Measurement’. Details are given under loans and advances to customers (Note 26). Further, the Bank/Group recognises an impairment loss when the carrying amount of a non-financial asset exceeds the estimated recoverable amount from that asset as per Sri Lanka Accounting Standard – LKAS 36 on ‘Impairment of Assets’.

13.1 Individual Impairment for Loans and Advances

14. Personnel Expenses

Personnel expenses include staff emoluments, contribution to defined contribution/benefit plans and other related expenses. Short-term employee benefit obligations are measured on an undiscounted basis and are expensed as the related service is provided. A liability is recognised for the amount expected to be paid under short-term cash bonus, if the Group has a present legal or constructive obligation to pay this amount as a result of past service provided by the employee and the obligation can be estimated reliably.

Employees are eligible for contribution to defined contribution/benefit plans in accordance with the respective internal and external statutes and regulations.

Defined benefit plan contributions and provisions for accumulated leave are recognised in the Statement of Profit or Loss based on actuarial valuations carried out in accordance with Sri Lanka Accounting Standard – LKAS 19 on ‘Employee Benefits’.

14.1 Contributions to Defined Contribution Plans

A Defined Contribution Plan (DCP) is a post-employment benefit plan under which an entity pays fixed contributions into a separate entity and will have no legal or constructive obligation to pay further amounts. Obligations for contributions to defined contribution plans are recognised as an expense in the Statement of Profit or Loss when they are due in respect of service rendered before the end of the Reporting period. Prepaid contributions are recognised as an asset to the extent that a cash refund or a reduction in future payments is available. Contributions to a DCP that is due more than 12 months after the end of the Reporting period in which the employees render the service are discounted to their present value at the Reporting date.

Bank of Ceylon Provident Fund

All employees of the Bank are members of the ‘Bank of Ceylon Provident Fund’ to which the Bank contributes 12% of employees’ monthly gross salary while employees contribute 8%. The Bank’s Provident Fund is an approved fund, which is independently administered.

Employees’ Provident Fund

The subsidiaries and their employees (other than Bank of Ceylon and its employees) contribute 12% (15% by Property Development PLC) and 8% (10% by Property Development PLC’s employees) respectively on monthly gross salary of each employee to Employees’ Provident Fund, in terms of the Employees’ Provident Fund Act No. 15 of 1958 as amended.

Employees’ Trust Fund

All employees of the Bank and its subsidiaries are members of the Employees’ Trust Fund to which the Bank and the Group contributes 3% of the employee’s monthly gross salary, in terms of Employees’ Trust Fund Act No. 46 of 1980.

14.2 Contributions to Defined Benefit Plans

A Defined Benefit Plan (DBP) is a post-employment benefit plan other than a DCP. The Group’s net obligation in respect of DBP is calculated separately for each plan by estimating the amount of future benefit that employees have earned in return for their service in the current and prior periods and discounting that benefit to determine its present value and then deducting the fair value of any plan assets. The discount rate is the yield at the Reporting date on long-term treasury bond rate for discount rates actually used that have maturity dates approximating the terms of the Group’s obligations. The calculation is performed by a qualified Actuary using the Projected Unit Credit method.

The Group recognises all actuarial gains and losses arising from DBP in the OCI and the expenses related to DBP under personnel expenses in the Statement of Profit or Loss. Details of defined benefit plans are given in ‘Employee retirement benefit plans’ (Note 44).

15. Other Expenses

Other expenses have been recognised in the Statement of Profit or Loss as they are incurred in the period to which they relate. All expenditure incurred in the operation of the business and in maintaining the capital assets in a state of efficiency has been charged to revenue in arriving at the Group’s profit for the year. Provisions in respect of other expenses are recognised when the Group has a present obligation (legal or constructive) as a result of a past event, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate can be made of the amount of the obligation.

Deposit Insurance Premium

As per the Sri Lanka Deposit Insurance and Liquidity Support Scheme introduced under the Banking Act Direction No. 05 of 2010, the Bank is required to make quarterly payments of 0.1% or 0.125% on the eligible deposit liabilities, from 1 October 2010. The premium rate depends on the Capital Adequacy Ratio (CAR) of the immediate preceding Audited Financial Statements.

Reinsurance Premium, Claims and Other Benefits

Gross benefits and claims for life insurance contracts and for investment contracts with Discretionary Participation Features (DPF) include the cost of all claims arising during the year including internal and external claims handling costs that are directly related to the processing and settlement of claims and policyholder bonuses declared on DPF contracts, as well as changes in the gross valuation of insurance and investment contract liabilities with DPF. Death claims and surrenders are recorded on the basis of notifications received. Maturities and annuity payments are recorded when due. Interim payments and surrenders are accounted at the time of settlement.

General insurance include all claims occurring during the year, whether reported or not, related internal and external claims handling costs that are directly related to the processing and settlement of claims, a reduction for the value of salvage and other recoveries, and any adjustments to claims outstanding from previous years.

Claims expenses and liabilities for outstanding claims are recognised in respect of direct and inward reinsurance business.
The liability covers claims reported but not yet paid, Incurred But Not Reported (IBNR) claims and the anticipated direct and indirect costs of settling those claims. Claims outstanding are assessed by review of individual claim files and estimating changes in the ultimate cost of settling claims. The provision in respect of IBNR is actuarially valued on an annual basis to ensure a more realistic estimation of the future liability based on past experience and trends.

While the Directors consider that the provision for claims is fairly stated on the basis of information currently available, the ultimate liability will vary as a result of subsequent information and events. This may result in adjustment to the amounts provided. Such amounts are reflected in the Financial Statements for that period. The methods used and the estimates made are reviewed regularly.

Reinsurance claims are recognised when the related gross insurance claim is recognised according to the terms of the
relevant contract.

16. Share of Profits/(Losses) of Associate Companies, Net of Tax

The aggregate of the Group’s share of profits or losses of associates is shown on the face of the Statement of Profit or Loss under the equity method of accounting.

17. Income Tax Expense

Current tax and deferred tax are recognised in the Profit or Loss except to the extent that it relates to items recognised directly in equity or in other comprehensive income. Current tax is the expected tax payable or receivable on the taxable income for the year, using tax rates enacted or substantively enacted at the Reporting date and any adjustment to tax payable in respect of previous years.

17.1 Components of Income Tax Expense

17.2 Reconciliation of Accounting Profit and Income Tax Expense

17.3 The tax liabilities of resident companies are computed at the standard rate of 28%, except following Bank operations and companies which enjoy full or partial exemptions and concessions.

*In accordance with the agreement with the Board of Investment of Sri Lanka (BOI), Koladeniya Hydropower (Private) Limited is entitled to a tax exemption period of five years from the year in which the company commences to make profits or not later than two years from the date of commencement of commercial operations, whichever is earlier, after the tax exemption period, the Company will be liable to tax at a concessionary rate of 10% for 2 years and at 20% thereafter. Provided the Company makes the minimum capital investment of USD 2.07 million or its equivalent in Sri Lankan Rupees within a period of two years from the date of agreement. The Company has complied with minimum capital investment criteria and therefore is entitled to five years tax exemption commencing from 1 January 2012. However, according to Section 59 (e) of the Inland Revenue Act, the Company can opt to pay income tax at the rate of 10% after two years from the expiration of tax exemption period.

18. Earnings Per Share and Dividend Per Share

18.1 Basic Earnings Per Share

In accordance with the Sri Lanka Accounting Standard – LKAS 33 on ‘Earnings Per Share’, basic earnings per share is calculated by dividing the profit or loss attributable to ordinary shareholders of the Bank (the numerator) by the weighted average number of ordinary shares in issue (the denominator) during the year.

18.1.1 Weighted Average Number of Ordinary Shares in Issue

18.2 Diluted Earnings Per Share

Diluted earnings per share is calculated by dividing the profit or loss attributable to ordinary shareholder of the Bank (the numerator) by the weighted average number of ordinary shares in issue during the year after adjusting for effect of all dilutive potential ordinary shares (the denominator).

18.2.1 Weighted Average Number of Ordinary Shares After Adjusting for Dilution

18.3 Dividend Per Share

Dividend per share is calculated by dividing the total dividend allocated to shareholder (the numerator) by the weighted average number of ordinary shares in issue (the denominator) during the year.

19. Analysis of Financial Instruments by Measurement Basis

All financial assets and liabilities are measured under the following headings as per the LKAS 39 – ‘Financial Instruments: Recognition and Measurement’.

19.1 Bank

19.2 Group

20. Cash and Cash Equivalents

Cash and cash equivalents include local and foreign currency notes and coins in hand, unrestricted balances held with
Central Banks, balances with other banks and highly liquid financial assets with original maturities of less than seven days,
which are subject to insignificant risk of changes in their fair value and are used by the Group in the management of its
short-term commitments.

21. Balances with Central Banks

Balances with Central Banks are carried at amortised cost in the Statement of Financial Position.

21.1 Central Bank of Sri Lanka (CBSL)

In terms of the provisions of Section 93 of the Monetary Law Act No. 58 of 1949, the Bank is required to maintain a cash reserve with Central Bank of Sri Lanka. The minimum cash reserve requirement as of 31 December 2016 was 7.5% (2015 – 6%) of
Sri Lankan Rupee deposit liabilities. There is no reserve requirement for foreign currency deposit liabilities maintained by domestic branches and the deposit liabilities of the Off-shore Banking Division in Sri Lanka (2015 – Nil).

21.2 Reserve Bank of India (RBI)

In terms of the provisions of Section 42 (1) of the Reserve Bank of India (RBI) Act No. 02 of 1934, the branch in Chennai is required to maintain a cash reserve with RBI. The minimum cash reserve as of 31 December 2016 was 4% on its demand and term deposit liabilities (2015 – 4%).

21.3 Maldives Monetary Authority (MMA)

In accordance with the prevailing regulations of Maldives Monetary Authority (MMA), the branch in Maldives is required to maintain a reserve deposit based on 10% of the branch’s commercial deposits and liabilities to the public in the Maldives in Maldivian Rufiyaa and United States dollar separately (2015 – 10%).

21.4 Central Bank of Seychelles (CBS)

In accordance with the regulations of Central Bank of Seychelles, the branch in Seychelles is required to maintain a reserve deposit based on 13% of the branch’s commercial deposits liabilities to the public in Seychelles (2015 – 13%).

22. Placements with Banks

– Those that the Bank intends to sell immediately or in the near term and those that the Bank, upon – Initial recognition, designates as at fair value through profit or loss

– Those that the Bank, upon initial recognition, designates as available for sale

– Those for which the Bank may not recover substantially all of its initial investment, other than – Due to credit deterioration

Placement with banks are initially measured at fair value. After initial measurement, they are subsequently measured at amortised cost using the Effective Interest Rate (EIR), less allowance for impairment. Amortised cost is calculated by taking into account
any discount or premium on acquisition and fees and costs that are an integral part of the EIR. The amortisation is included in ‘Interest income’ (Note 8.1) in the Statement of Profit or Loss. The losses arising from impairment are recognised in ‘Impairment charge/(reversal) for loans and other losses’ (Note 13) in the Statement of Profit or Loss. The Group writes off certain placements with banks when they are determined to be uncollectible.

23. Derivative Financial Instruments

Derivatives are financial instruments that derive their value in response to changes in interest rates, financial instrument prices, commodity prices, foreign exchange rates, credit risk and indices. Derivatives are categorised as trading unless they are designated as hedging instruments. The Bank uses derivatives such as cross currency swaps, forward foreign exchange contracts. All derivatives are initially recognised and subsequently measured at fair value, with all revaluation gains or losses recognised in the Statement of Profit or Loss under ‘Net gains/(losses) from trading’ (Note 10). Derivatives are recorded at fair value and carried as assets when their fair value is positive and as liabilities when their fair value is negative. Fair value is determined using the forward market rates ruling on the Reporting date.

24. Financial instruments – Held for Trading

Financial instruments are classified as held for trading if they have been acquired principally for the purpose of selling or repurchasing in the near term or holds as a part of a portfolio that is managed together for short-term profit or position taking.

All financial assets under this category are initially and subsequently measured at fair value. Upon initial recognition, transaction cost are directly attributable to the acquisition are recognised in the Statement of Profit or Loss as incurred. Changes in fair value and dividend are recognised in ‘Net gains/(losses) from trading’ (Note 10). Interest income is recorded in ‘Interest income’ (Note 8.1) according to the terms of the contract.

The Bank has not pledged any Treasury Bills or Treasury Bonds – Held for trading as collateral as at 31 December 2016 (2015 – Nil).

24.1 Quoted Equities

24.1.1 Sector Wise Composition of Quoted Equities

24.1.2 Quoted Equities

24.2 Quoted Debt Securities

25. Financial Investments – Loans and Receivables

Financial investments – Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market.

Those are initially measured at fair value and subsequently measured amortised cost using the Effective Interest Rate (EIR), less allowance for impairment. Amortised cost is calculated by taking into account any discount or premium on acquisition and fees and costs that are an integral part of the EIR. The amortisation is included in ‘Interest income’ (Note 8.1) in the Statement of Profit or Loss. The loss arising from impairment are recognised in ‘Impairment charge/(reversal) for loans and other losses’ (Note 13) in the Statement of Profit or Loss.

25.1 Sri Lanka Development Bonds (US Dollar Bonds)

25.2 Government of Sri Lanka Restructuring Bonds

25.3 Debentures