Stewardship
Managing Risk at Commercial Bank
Capital Adequacy
Capital adequacy is a measure of the financial strength of a bank expressed as a ratio of its capital to its risk weighted assets. This ratio indicates a bank's ability to maintain adequate capital in the form of equity and subordinated debts to meet any unexpected losses. At Commercial Bank too, we compute the Capital Adequacy Ratio (CAR) in accordance with the Basel II accord.
Basel Accord
The Basel capital accord is an agreement between countries' Central Banks and bank supervisory authorities on the amount of capital banks must hold as a cushion against any unexpected losses. Higher capital requirements restricts the gearing or leverage of the bank and impacts the expansion of the bank's business which in turn will affect the profitability.
In 1999, the Basel Committee decided to propose a new, more comprehensive capital adequacy accord in response to the banking crises of the 1990s and the criticisms of Basel I. This accord is known formally as 'A Revised Framework on International Convergence of Capital Measurement and Capital Standards' and informally as 'Basel II' greatly expands the scope, technicality and depth of the original Basel Accord. While maintaining the 'pillar' framework of Basel I, each pillar is greatly expanded in Basel II to cover new approaches to credit risk, adapt to the securitisation of bank assets, cover market, operational, and interest rate risk, and incorporate market-based surveillance and regulation.
Basel II Framework
The key components of the Basel II framework and the corresponding approaches are demonstrated in the Table below. Further, the approaches adopted by the Bank are also indicated in same.
Pillar Framework of Basel II
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Minimum Capital Requirement
This represents the calculation of the total minimum capital requirements for credit, market and operational risk. The capital ratio is calculated using the definition of regulatory capital and risk-weighted assets. The total capital ratio must be no lower than 10%. Compliance with the local regulatory requirements and the readiness of the Bank for advanced approaches are given below:
| Regulatory Requirement | Readiness | ||
| Credit Risk | Standardised Approach | ✓ | ✓ |
| Foundation Internal Ratings Based Approach (FIRB) | – | – | |
| Advanced Internal Ratings Based Approach (AIRB) | – | – | |
| Market Risk | Standardised Measurement Approach | ✓ | ✓ |
| Advanced Measurement Approach | – | – | |
| Operational Risk | Basic Indicator Approach | ✓ | ✓ |
| Standardised Approach | – | ✓ | |
| Advanced Measurement Approach | – | – |
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Supervisory Review Process
The supervisory review process of the framework is intended not only to ensure that banks have adequate capital to support all the risks in their business, but also to encourage banks to develop and use better risk management techniques in monitoring and managing their risks. It also recognises the responsibility of bank management in developing an Internal Capital Adequacy Assessment Process (ICAAP) and setting capital targets that are commensurate with the Bank's risk profile and control environment. ICAAP framework encompasses assessment of all material risks including Credit Market, Operational, Credit Concentration, Credit Residual, Interest Rate of the Banking Book, Liquidity ect.
Forward looking capital planning/rigorous stress testing supports the Bank in understanding the readiness/resilience to face future growth/market volalitities. The Bank is now ready with ICAAP framework in compliance with the regulatory requirements.
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Market Discipline
This is to complement the requirements under Pillar I and Pillar II. It aims to encourage market discipline by developing a set of disclosure requirements which will allow market participants to assess key pieces of information on the scope of application, capital, risk exposures, risk assessment processes.
The computations as per the regulatory requirements specified by the Central Bank of Sri Lanka, in relation to Core Capital and Total Capital ratios are given below:
Capital Adequacy Computation - Group
Computation of Risk-Weighted Assets
| On-Balance Sheet Assets and Credit Equivalent of Off-Balance Sheet Assets | Risk- Weight Factor | Risk-Weighted Balance | |||||
| 2012 | 2011 | 2012 | 2010 | ||||
| Rs. '000 | Rs. '000 | (%) | Rs. '000 | Rs. '000 | |||
| Assets | |||||||
| Claims on Government of Sri Lanka and Central Bank of Sri Lanka |
104,847,253 | 100,500,592 | 0 | – | – | ||
| Claims on foreign sovereigns and their Central Banks | 8,387,655 | 7,589,925 | 0-150 | 8,387,655 | 7,589,925 | ||
| Claims on Public Sector Entities (PSEs) | 261,252 | 19,395 | 20-150 | 261,252 | 19,395 | ||
| Claims on official entities and Multilateral Development Banks (MDBs) |
– | – | 20-150 | – | – | ||
| Claims on banks | 27,791,198 | 18,417,892 | 0-150 | 11,470,183 | 6,833,718 | ||
| Claims on financial institutions | 1,863,200 | 2,644,000 | 20-150 | 578,800 | 1,729,350 | ||
| Claims on corporates | 169,966,572 | 168,245,189 | 20-150 | 159,284,648 | 157,204,758 | ||
| Retail claims | 102,670,696 | 69,487,773 | 75-100 | 81,944,288 | 57,519,874 | ||
| Claims secured by residential property | 27,783,126 | 24,105,257 | 50-100 | 27,783,126 | 24,105,257 | ||
| Claims secured by commercial real estate | – | – | 100 | – | – | ||
| Non-performing assets (NPAs) | 6,171,866 | 6,197,613 | 50-150 | 8,179,084 | 8,388,764 | ||
| Cash items | 11,105,902 | 8,576,710 | 0 | 1,633 | 7,572 | ||
| Property, plant & equipment | 9,058,660 | 8,616,445 | 100 | 9,058,660 | 8,616,445 | ||
| Other assets | 12,352,879 | 8,059,096 | 100 | 12,352,879 | 8,059,096 | ||
| Total | 482,260,259 | 422,459,887 | 319,302,208 | 280,074,154 | |||
| Credit Conversion Factor | Credit Equivalent | ||||||
| 2012 | 2011 | 2012 | 2011 | ||||
| Rs. '000 | Rs. '000 | (%) | Rs. '000 | Rs. '000 | |||
| Instruments | |||||||
| Direct credit substitutes | 18,638,673 | 17,784,925 | 100 | 18,638,673 | 17,784,925 | ||
| Transaction-related contingencies | 8,505,494 | 7,703,979 | 50 | 4,252,747 | 3,851,990 | ||
| Short term self-liquidating trade-related contingencies | 37,441,224 | 39,736,030 | 20 | 7,488,245 | 7,947,206 | ||
| Sale and repurchase agreements and assets sale with recourse where the credit risk remains with the Bank |
– | – | 100 | – | – | ||
| Obligations under an ongoing underwriting agreement | – | – | 50 | – | – | ||
| Other commitments with an original maturity of up to one year or which can be unconditionally cancelled at any time |
73,550,373 | 59,691,611 | 0 | – | – | ||
| Commitments with an original maturity up to 1 year | – | – | 20 | – | – | ||
| Other commitments with an original maturity of over one year | – | – | 50 | – | – | ||
| Foreign exchange contracts | 136,786,449 | 104,398,912 | 0-5 | 2,735,729 | 2,087,978 | ||
| Interest rate contracts | 0 | 50,806 | 0-3 | 0 | 1,524 | ||
| Total | 274,922,213 | 229,366,263 | 33,115,394 | 31,673,623 | |||
Capital Charge for Market Risk
| Item | 2012 Rs. '000 |
2011 Rs. '000 |
| Capital Charge for Interest Rate Risk | 214,062 | 254,149 |
| Capital Charge for Equity | 64,575 | 41,119 |
| Capital Charge for Foreign Exchange and Gold | 29,641 | 68,269 |
| Total Capital Charge for Market Risk | 308,278 | 363,537 |
| Total Risk-Weighted Assets for Market Risk | 3,082,784 | 3,635,371 |
Capital Charge for Operational Risk
| 2012 Rs. '000 |
2011 Rs. '000 |
|
| Gross Income | ||
| Year 1 | 20,121,710 | 19,236,720 |
| Year 2 | 23,166,112 | 20,121,710 |
| Year 3 | 25,837,421 | 23,166,112 |
| Average Gross Income | 23,041,748 | 20,841,514 |
| Total Capital Charge for Operational Risk - (15%) | 3,456,262 | 3,126,227 |
| Total Risk-Weighted Assets for Operational Risk | 34,562,622 | 31,262,271 |
Computation of Capital
| 2012 Rs. '000 |
2011 Rs. '000 |
|
| Tier I: Core Capital | ||
| Paid-up Ordinary Shares | 18,008,797 | 17,945,271 |
| Statutory Reserve Fund | 3,245,819 | 2,740,902 |
| Published Retained Profits/(Accumulated Losses) | 1,557 | 43,865 |
| General and Other Reserves | 24,307,575 | 17,856,434 |
| Minority Interests (Consistent with the above capital constituents) | 32,141 | 29,615 |
| Less: | ||
| Other Intangible Assets | (506,160) | (475,038) |
| Advances Granted to Employees of the Bank for the Purchase of Shares of the Bank (ESOP) | (1,548) | (2,105) |
| 50% Investments in the Capital of Other Banks and Financial Institutions | (402) | (402) |
| Total Eligible Core Capital (Tier I Capital) | 45,087,779 | 38,138,542 |
| Tier II: Supplementary Capital | ||
| Revaluation Reserves (as approved by Central Bank of Sri Lanka) | 2,034,231 | 651,037 |
| General Provisions | 1,500,098 | 1,201,991 |
| Approved Subordinated Term Debt | 778,238 | 972,880 |
| Less: | ||
| 50% Investments in the Capital of Other Banks and Financial Institutions | (402) | (402) |
| Total Eligible Supplementary Capital (Tier II Capital) | 4,312,165 | 2,825,506 |
| Total Capital Base | 49,399,944 | 40,964,048 |
Computation of Ratios
| 2012 Rs. '000 |
2011 Rs. '000 |
|
| Total Risk-Weighted Assets (RWA) | ||
| Total Risk-Weighted Assets for Credit Risk | 319,302,207 | 280,074,154 |
| Total Risk-Weighted Assets Market Risk | 3,082,784 | 3,635,371 |
| Total Risk-Weighted Assets Operational Risk | 34,562,622 | 31,262,271 |
| Sub Total | 356,947,613 | 314,971,796 |
| Minimum Capital Charge: | ||
| Minimum Capital Charge for Credit Risk | 31,930,221 | 28,007,415 |
| Minimum Capital Charge for Market Risk | 308,278 | 363,537 |
| Minimum Capital Charge for Operational Risk | 3,456,262 | 3,126,227 |
| Sub Total | 35,694,761 | 31,497,179 |
| Total Capital Available to meet the Capital Charge for Credit Risk | ||
| Total Eligible Core Capital (Tier I Capital) | 45,087,778 | 38,138,542 |
| Total Eligible Supplementary Capital (Tier II Capital) | 4,312,165 | 2,825,506 |
| Total Capital Base | 49,399,943 | 40,964,048 |
| Core Capital Ratio (Minimum Requirement 5%) | ||
| Total Eligible Core Capital (Tier I Capital ) | 45,087,778 | 38,138,542 |
| Total Risk-Weighted Assets | 356,947,613 | 314,971,795 |
| 12.63% | 12.11% | |
| Total Capital Ratio (Minimum Requirement 10%) | ||
| Total Capital Base | 49,399,944 | 40,964,048 |
| Total Risk-Weighted Assets | 356,947,613 | 314,971,795 |
| 13.84% | 13.01% |