2.1 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 (SLFRSs and LKASs) laid down by The Institute of Chartered Accountants of Sri Lanka (CA Sri Lanka) and in compliance with the requirements of the Companies Act No. 07 of 2007 and the Banking Act No. 30 of 1988 and amendments thereto, and provide appropriate disclosures as required by the Listing Rules of the Colombo Stock Exchange (CSE).

These financial statements, except for information on cash flows have been prepared following the accrual basis of accounting.

Details of the Group’s significant accounting policies followed during the year are given on Note 5.

This is the first set of the Group’s annual financial statements in which SLFRS 16 on “Leases” has been applied. The related changes to significant accounting polices are described in Note 6.

These financial statements include the following components:

• an Income Statement and Statement of Profit or Loss and Other Comprehensive Income providing information on the financial performance of the Group and the Bank for the year under review.
• a Statement of Financial Position providing information on the financial position of the Group and Bank as at the year end.
• a Statement of Changes in Equity depicting all changes in shareholders’ funds during the year under review of the Group and Bank.
• a Statement of Cash Flows providing information to the users, on the ability of the Group and Bank to generate cash and cash equivalents and the needs of the entity to utilise those cash flows.
• Notes to the financial statements comprising accounting policies and other explanatory information.

The format used in the preparation and presentation of the financial statement and the disclosures made therein also comply with the specified formats prescribed by the Central Bank of Sri Lanka in the Circular No. 2 of 2019 on “Publication of Annual and Quarterly Financial Statements and Other Disclosures by Licensed Banks”.

2.2 Basis of measurement

These financial statements have been prepared on the historical cost convention except for the following material items, which are measured on an alternative basis on each reporting date:

Financial instruments

Item	Basis of measurement	Note
Financial assets measured at fair value through profit or loss	Fair value	30
Derivative financial assets and derivative financial liabilities	Fair value	29
Financial assets measured at fair value through other comprehensive income (FVOCI)	Fair value	34

Non-financial assets/liabilities

Item	Basis of measurement	Note
Retirement benefit obligations	Present value of the defined benefit pension obligation less the net total of the pension assets maintained in DFCC Bank Pension Fund, a trust separate from the Bank.	48
The defined benefit statutory end of service gratuity obligations	Present value of the defined benefit gratuity obligation.	48

No adjustments have been made for inflationary factors affecting the financial statements.

2.3 Materiality and aggregation

Each item which is similar in nature is presented separately if material. Items of dissimilar nature or function are presented separately unless they are immaterial as permitted by the Sri Lanka Accounting Standard LKAS 1 on “Presentation of Financial Statements”.

2.4 Going concern

The Board of Directors have made an assessment of 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, Board 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 a going concern basis.

2.5 Offsetting

Financial assets and financial liabilities are offset and the net amount reported in the Statement of Financial Position, only when there is a legally enforceable right to offset the recognized amounts and there is an intention to settle on a net basis or to realise the assets and settle the liabilities simultaneously. Income and expenses are not offset in the Income Statement, unless required or permitted by an Accounting Standard or Interpretation (issued by the IFRS Interpretations Committee and Standard Interpretations Committee) and as specifically disclosed in the Significant Accounting Policies of the Bank.

2.6 Comparative information

Comparative information including quantitative, narrative and descriptive information is disclosed in respect of the previous period in the Financial Statements in order to enhance the understanding of the current period’s Financial Statements and to enhance the inter period comparability.

The presentation and classification of the Financial Statements of the previous year are amended, where relevant for better presentation and to be comparable with those of the current year.

The Group initially applied SLFRS 16 at 1 January 2019, using the modified retrospective approach. Under this approach, comparative information have not been restated.

These consolidated financial statements are presented in Sri Lankan Rupees (LKR), which is the Bank’s functional currency. All amounts have been rounded to the nearest thousand, except when otherwise indicated.

There was no change in the Group’s presentation and functional currency during the year under review.

In preparing these financial statements, Management has made judgements, estimates and assumptions that affect the application of the Group’s accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates.

Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to estimates are recognised prospectively.

4.1 Judgements

Information about judgements made in applying accounting policies that have the most significant effects on the amounts recognised in the financial statements are included in the following Notes:

Item	Note
Establishing the criteria for determining whether credit risk on the financial asset has increased significantly since initial recognition, determining methodology for incorporating forward-looking information into measurement of Expected Credit Loss (ECL) and selection and approval models used to measure ECL.	17
Classification of financial assets: Assessment of the business model within which the assets are held and assessment of whether the contractual terms of the financial assets are Solely Payment of Principal and Interest (SPPI) on the principal amount outstanding.	5.3.2
Determination of control over investees.	35, 36

4.2 Assumptions and estimation uncertainties

Information about assumptions and estimation uncertainties that have a significant risk of resulting in material adjustments to the carrying amounts of assets and liabilities is included in the following Notes:

Item	Note
Impairment of financial instruments: determining inputs to the ECL measurement model, including incorporation of forward-looking information and key assumptions used in estimating recoverable cash flows.	17
Determination of the fair value of financial instruments with significant unobservable inputs.	9.3.1
Measurement of defined benefit obligations: key actuarial assumptions.	48.2.2
Recognition of deferred tax assets: availability of future taxable profit against which carry-forward tax losses can be utilised.	22
Impairment testing for Cash Generating Units (CGU) containing goodwill: key assumptions underlying recoverable amounts.	5.4
Recognition and measurement of contingencies: key assumptions about the likelihood and magnitude of an outflow of resources.	57
Fair value of asset held for sale: Determination of fair value less costs to sell on the basis of significant unobservable inputs	43

The significant accounting policies set out below have been applied consistently to all periods presented in the financial statements of the Group, except as specified in Note 6.

These accounting policies have been applied consistently by Group entities.

Set out below is an index of the significant accounting polices:

		Note
A .	Basis of consolidation	5.1
B.	Foreign currency	5.2
C.	Interest	11
D.	Fee and commission	12
E.	Net trading gain/(loss)	13
F.	Net gain/(loss) from other financial instruments at fair value through profit or loss	14
G.	Dividend income	16
H.	Leases	59
I.	Income tax	22
J.	Financial assets and financial liabilities	5.3
	– Recognition and initial measurement	5.3.1
	– Classification	5.3.2
	– Reclassification	5.3.3
	– Derecognition	5.3.4
	– Modification of financial assets and financial liabilities	5.3.5
	– Fair value measurement	5.3.6
	– Impairment	5.3.7
	– Designation at fair value through profit or loss	5.3.8
K.	Cash and cash equivalents	26
L.	Derivatives held for risk management purposes and hedge accounting	29
M.	Loans and receivables	31, 32
N.	Property, plant and equipment	39
O.	Investment property	38
P.	Intangible assets and goodwill	40
Q.	Impairment of non-financial assets	5.4
R.	Provisions	50
S.	Financial guarantees and loan commitments	57
T.	Employee benefits	48
U.	Stated capital	52
V.	Earnings per share	23
W.	Segment reporting	60

5.1 Basis of consolidation

5.1.1 Business combinations

The Group accounts for business combinations using the acquisition method when control is transferred to the Group. The consideration transferred in the acquisition is generally measured at fair value, as are the identifiable net assets acquired. Any goodwill that arises is tested annually for impairment. Any gain on a bargain purchase is recognised in profit or loss immediately. Transaction costs are expensed as incurred, except if related to the issue of debt or equity securities.

The consideration transferred does not include amounts related to the settlement of pre-existing relationships. Such amounts are generally recognised in income statement.

Any contingent consideration is measured at fair value at the date of acquisition. If an obligation to pay contingent consideration that meets the definition of a financial instrument is classified as equity, then it is not remeasured and settlement is accounted for within equity. Otherwise, other contingent consideration is remeasured at fair value at each reporting date and subsequent changes in the fair value of the contingent consideration are recognised in income statement.

5.1.2 Subsidiaries

Details of the Bank’s subsidiaries, how they are accounted for in the financial statements and their contingencies are set out in Note 35.

5.1.3 Non-Controlling Interests (NCI)

Details of non-controlling interests are given in Note 56.

5.1.4 Loss of control

When the Group loses control over a subsidiary, it derecognises the assets and liabilities of the subsidiary, and any related NCI and other components of equity. Any resulting gain or loss is recognised in income statement. Any interest retained in the former subsidiary is measured at fair value when control is lost.

5.1.5 Interests in equity-accounted investees

The Group’s interests in equity-accounted investees comprise interests in associates and a joint venture.

Details of the Bank’s equity-accounted investees, how they are accounted in the financial statements and their contingencies are set out in Notes 36 and 37.

5.1.6 Transactions eliminated on consolidation

Intra-group balances and transactions, and any unrealised income and expenses (except for foreign currency transaction gains or losses) arising from intra-group transactions, are eliminated.

Unrealised losses are eliminated in the same way as unrealised gains, but only to the extent that there is no evidence of impairment.

5.1.7 Financial statements of subsidiaries, associate company and joint venture company included in the consolidated financial statements

The Financial Statements of DFCC Consulting (Pvt) Limited, Acuity Partners (Pvt) Limited, Synapsys Limited and National Asset Management Limited included in the consolidation have financial years ending on 31 December.

Financial statements of Lanka Industrial Estates Limited included in the consolidation has financial year ending on 31 March.

Audited financial statements are used for consolidation of companies which have a similar financial year end, as the Bank and for other a special review is performed.

5.2 Foreign currency

5.2.1 Foreign currency transactions

Transactions in foreign currencies are translated into the respective functional currencies of Group companies at the exchange rates at the date of the transactions.

Monetary assets and liabilities denominated in foreign currencies are translated into the functional currency at the exchange rate at the reporting date. The foreign currency gain or loss on monetary items is the difference between the amortised cost in the functional currency at the beginning of the year, adjusted for effective interest, impairment and payments during the year, and the amortised cost in the foreign currency translated at the spot exchange rate at the end of the year.

Non-monetary assets and liabilities that are measured at fair value in a foreign currency are translated into the functional currency at the exchange rate when the fair value is determined. Non-monetary items that are measured based on historical cost in a foreign currency are translated at the exchange rate at the date of the transaction.

Foreign currency differences arising on translation are generally recognised in income statement. However, foreign currency differences arising from the translation of the following items are recognised in other comprehensive income (OCI):

• equity investments in respect of which an election has been made to present subsequent changes in fair value in OCI;
• a financial liability designated as a hedge of the net investment in a foreign operation to the extent that the hedge is effective; and
• qualifying cash flow hedges to the extent that the hedges are effective

5.2.2 Foreign operations

The Bank does not have any foreign operations that is a subsidiary, associate, joint venture or a branch. Therefore, there is no exchange differences recognised in other comprehensive income.

5.3 Financial assets and financial liabilities

5.3.1 Recognition and initial measurement

The Group initially recognises loans and advances, deposits, debt securities issued and subordinated liabilities on the date on which they are originated. All other financial instruments (including regular-way purchases and sales of financial assets) are recognised on the trade date, which is the date on which the Group becomes a party to the contractual provisions of the instrument.

A financial asset or financial liability is measured initially at fair value plus, for an item not at fair value through profit or loss (FVTPL), transaction costs that are directly attributable to its acquisition or issue. The fair value of a financial instrument at initial recognition is generally its transaction price.

5.3.2 Classification

5.3.2.1 Financial assets

On initial recognition, a financial asset is classified as measured at: amortised cost, FVOCI or FVTPL.

A financial asset is measured at amortised cost if it meets both of the following conditions and is not designated as at FVTPL:

• the asset is held within a business model whose objective is to hold assets to collect contractual cash flows; and
• the contractual terms of the financial asset give rise on specified dates to cash flows that are SPPI.

A debt instrument is measured at FVOCI only if it meets both of the following conditions and is not designated as at FVTPL:

• the asset is held within a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets; and
• the contractual terms of the financial asset give rise on specified dates to cash flows that are SPPI.

On initial recognition of an equity investment that is not held for trading, the Group may irrevocably elect to present subsequent changes in fair value in OCI. This election is made on an investment-by-investment basis.

All other financial assets are classified as measured at FVTPL.

In addition, on initial recognition, the Group may irrevocably designate a financial asset that otherwise meets the requirements to be measured at amortised cost or at FVOCI as at FVTPL if doing so eliminates or significantly reduces an accounting mismatch that would otherwise arise.

5.3.2.1.1 Business model assessment

The Group makes an assessment of the objective of a business model in which an asset is held at a portfolio level because this best reflects the way the business is managed and information is provided to Management. The information considered includes:

• the stated policies and objectives for the portfolio and the operation of those policies in practice. In particular, whether Management’s strategy focuses on earning contractual interest revenue, maintaining a particular interest rate profile, matching the duration of the financial assets to the duration of the liabilities that are funding those assets or realising cash flows through the sale of the assets;
• how the performance of the portfolio is evaluated and reported to the Group’s Management;
• the risks that affect the performance of the business model (and the financial assets held within that business model) and its strategy for how those risks are managed;
• how managers of the business are compensated (e.g. whether compensation is based on the fair value of the assets managed or the contractual cash flows collected); and
• the frequency, volume and timing of sales in prior periods, the reasons for such sales and its expectations about future sales activity. However, information about sales activity is not considered in isolation, but as part of an overall assessment of how the Group’s stated objective for managing the financial assets is achieved and how cash flows are realised.

The Bank’s retail, small and medium enterprises and corporate banking business comprises primarily loans to customers that are held for collecting contractual cash flows. In the retail business the loans comprise mortgages, overdrafts, unsecured personal lending and credit card facilities. Sales of loans from these portfolios are very rare.

Certain debt securities are held by the Treasury in a separate portfolio for long-term yield. These securities may be sold, but such sales are not expected to be more than infrequent. The Group considers that these securities are held within a business model whose objective is to hold assets to collect the contractual cash flows.

Certain other debt securities are held by the Treasury in separate portfolios to meet everyday liquidity needs. The Treasury seeks to minimise the costs of managing these liquidity needs and therefore actively manages the return on the portfolio. That return consists of collecting contractual cash flows as well as gains and losses from the sale of financial assets. The investment strategy often results in sales activity that is significant in value. The Group considers that these financial assets are held within a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets.

Financial assets that are held for trading or managed and whose performance is evaluated on a fair value basis are measured at FVTPL because they are neither held to collect contractual cash flows nor held both to collect contractual cash flows and to sell financial assets.

5.3.2.1.2 Assessment of whether contractual cash flows are Solely Payments of Principal and Interest

For the purposes of this assessment, ‘principal’ is defined as the fair value of the financial asset on initial recognition. “Interest” is defined as consideration for the time value of money and for the credit risk associated with the principal amount outstanding during a particular period of time and for other basic lending risks and costs (e.g. liquidity risk and administrative costs), as well as profit margin.

In assessing whether the contractual cash flows are SPPI, the Group considers the contractual terms of the instrument. This includes assessing whether the financial asset contains a contractual term that could change the timing or amount of contractual cash flows such that it would not meet this condition. In making the assessment, the Group considers:

• contingent events that would change the amount and timing of cash flows;
• leverage features;
• prepayment and extension terms;
• terms that limit the Group’s claim to cash flows from specified assets; and
• features that modify consideration of the time value of money.

Equity instruments have contractual cash flows that do not meet the SPPI criterion. Accordingly, all such financial assets are measured at FVTPL unless the FVOCI option is selected.

5.3.2.2 Financial liabilities

On initial recognition, the Bank classifies financial liabilities, other than financial guarantees and loan commitments, into one of the following categories:

• Financial liabilities at amortised cost; and
• Financial liabilities at fair value through profit or loss

5.3.2.2.1 Financial liabilities at amortised cost

Financial Liabilities issued by the Bank that are not designated at fair value through profit or loss are recognised initially at fair value plus any directly attributable transaction costs, by taking into account any discount or premium on acquisition and fees or costs that are an integral part of the EIR. Subsequent to initial recognition these financial liabilities are measured at amortised cost using the effective interest method. Deposit liabilities including savings deposits, current deposits, fixed/time deposits, call deposits, certificates of deposit and debentures are classified as financial liabilities measured at amortised cost.

The EIR amortisation is included in “Interest expense” in the income statement. Gains and losses too are recognised in the income statement when the liabilities are derecognised as well as through the EIR amortisation process.

5.3.2.2.2 Financial liabilities at fair value through profit or loss

Financial liabilities at fair value through profit or loss include derivative liabilities held for risk management purposes.

5.3.3 Reclassifications

Financial assets are not reclassified subsequent to their initial recognition, except in the period after the Group changes its business model for managing financial assets. Financial liabilities are not reclassified as such reclassifications are not permitted by SLFRS 9.

5.3.4 Derecognition

5.3.4.1 Financial Assets

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

On derecognition of a financial asset, the difference between the carrying amount of the asset (or the carrying amount allocated to the portion of the asset derecognised) and the sum of (i) 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 OCI is recognised in income statement. Any cumulative gain/loss recognised in OCI in respect of equity investment securities designated as at FVOCI is not recognised in income statement on derecognition of such securities.

Any interest in transferred financial assets that qualify for derecognition that is created or retained by the Group is recognised as a separate asset or liability.

5.3.4.2 Financial liabilities

The Group derecognises a financial liability when its contractual obligations are discharged or cancelled,
or expire.

5.3.5 Modifications of financial assets and financial liabilities

5.3.5.1 Financial assets

If the terms of a financial asset are modified, then the Group evaluates whether the cash flows of the modified asset are substantially different.

If the cash flows are substantially different, then the contractual rights to cash flows from the original financial assets are deemed to have expired. In this case, the original financial asset is derecognised and a new financial asset is recognised at fair value plus any eligible transaction costs. Any fees received as part of the modification are accounted for as follows:

• fees that are considered in determining the fair value of the new asset and fees that represent reimbursement of eligible transaction costs are included in the initial measurement of the asset; and
• other fees are included in income statement as part of the gain or loss on derecognition.

If cash flows are modified when the borrower is in financial difficulties, then the objective of the modification is usually to maximise recovery of the original contractual terms rather than to originate a new asset with substantially different terms. If the Group plans to modify a financial asset in a way that would result in forgiveness of cash flows, then it first considers whether a portion of the asset should be written off before the modification takes place. This approach impacts the result of the quantitative evaluation and means that the derecognition criteria are not usually met in such cases.

If the modification of a financial asset measured at amortised cost or FVOCI does not result in derecognition of the financial asset, then the Group first recalculates the gross carrying amount of the financial asset using the original effective interest rate of the asset and recognises the resulting adjustment as a modification gain or loss in profit or loss. For floating-rate financial assets, the original effective interest rate used to calculate the modification gain or loss is adjusted to reflect current market terms at the time of the modification. Any costs or fees incurred and modification fees received adjust the gross carrying amount of the modified financial asset and are amortised over the remaining term of the modified financial assets.

If such a modification is carried out because of financial difficulties of the borrower, then the gain or loss is presented together with impairment losses. In other cases, it is presented as interest income calculated using the effective interest rate method.

5.3.5.2 Financial liabilities

The Group derecognises a financial liability when its terms are modified and the cash flows of the modified liability are substantially different. In this case, a new financial liability based on the modified terms is recognised at fair value. The difference between the carrying amount of the financial liability derecognised and the consideration paid is recognised in profit or loss. Consideration paid includes non-financial assets transferred, if any, and the assumption of liabilities, including the new modified financial liability.

If the modification of a financial liability is not accounted for as derecognition, then the amortised cost of the liability is recalculated by discounting the modified cash flows at the original effective interest rate and the resulting gain or loss is recognised in profit or loss. For floating-rate financial liabilities, the original effective interest rate used to calculate the modification gain or loss is adjusted to reflect current market terms at the time of the modification. Any costs and fees incurred are recognised as an adjustment to the carrying amount of the liability and amortised over the remaining term of the modified financial liability by re-computing the effective interest rate on the instrument.

5.3.6 Fair value measurement

“Fair value” is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date in the principal or, in its absence, the most advantageous market to which the Group has access at that date. The fair value of a liability reflects its non-performance risk.

When available, the Group measures the fair value of an instrument using the quoted price in an active market for that instrument. A market is regarded as “active” if transactions for the asset or liability take place with sufficient frequency and volume to provide pricing information on an ongoing basis.

If there is no quoted price in an active market, then the Group uses valuation techniques that maximise the use of relevant observable inputs and minimise the use of unobservable inputs. The chosen valuation technique incorporates all of the factors that market participants would take into account in pricing a transaction.

The best evidence of the fair value of a financial instrument on initial recognition is normally the transaction price – i.e. the fair value of the consideration given or received. If the Group determines that the fair value on initial recognition differs from the transaction price and the fair value is evidenced neither by a quoted price in an active market for an identical asset or liability nor based on a valuation technique for which any unobservable inputs are judged to be insignificant in based on a valuation technique for which any unobservable inputs are judged to be insignificant in relation to the difference, then the financial instrument is initially measured at fair value, adjusted to defer the difference between the fair value on initial recognition and the transaction price.

Subsequently, that difference is recognised in profit or loss on an appropriate basis over the life of the instrument but no later than when the valuation is wholly supported by observable market data or the transaction is closed out.

If an asset or a liability measured at fair value has a bid price and an ask price, then the Group measures assets and long positions at a bid price and liabilities and short positions at an ask price.

Portfolios of financial assets and financial liabilities that are exposed to market risk and credit risk that are managed by the Group on the basis of the net exposure to either market or credit risk are measured on the basis of a price that would be received to sell a net long position (or paid to transfer a net short position) for the particular risk exposure. Portfolio-level adjustments are allocated to the individual assets and liabilities on the basis of the relative risk adjustment of each of the individual instruments in the portfolio.

The fair value of a financial liability with a demand feature (e.g. a demand deposit) is not less than the amount payable on demand, discounted from the first date on which the amount could be required to be paid.

The Group recognises transfers between levels of the fair value hierarchy as of the end of the reporting period during which the change has occurred.

5.3.7 Impairment

Details of impairment is given in Note 17.

5.3.8 Designation at fair value through profit or loss

On initial recognition, the Bank may irrevocably designate a financial asset that otherwise meets the requirements to be measured at amortised cost or at FVOCI or at FVTPL, if doing so eliminated or significantly reduces an accounting mismatch that would otherwise arise.

The Bank has not designated any financial asset upon initial recognition at fair value through profit or loss as at the reporting date.

5.4 Impairment of non-financial assets

At each reporting date, the Group reviews the carrying amounts of its non-financial assets (other than investment properties and deferred tax assets) to determine whether there is any indication of impairment. If any such indication exists, then the asset’s recoverable amount is estimated.

Goodwill is tested annually for impairment.

For impairment testing, assets are grouped together into the smallest group of assets that generates cash inflows from continuing use that is largely independent of the cash inflows of other assets or CGUs. Goodwill arising from a business combination is allocated to CGUs or groups of CGUs that are expected to benefit from the synergies of the combination.

The recoverable amount of an asset or CGU is the greater of its value in use and its fair value less costs to sell. Value in use is based on the estimated future cash flows, 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 or CGU.

An impairment loss is recognised if the carrying amount of an asset or CGU exceeds its recoverable amount.

The Group’s corporate assets do not generate separate cash inflows and are used by more than one CGU. Corporate assets are allocated to CGUs on a reasonable and consistent basis and tested for impairment as part of the testing of the CGUs to which the corporate assets are allocated.

Impairment losses are recognised in profit or loss. They are allocated first to reduce the carrying amount of any goodwill allocated to the CGU, and then to reduce the carrying amounts of the other assets in the CGU on a pro rata basis.

An impairment loss in respect of goodwill is not reversed. For other assets, an impairment loss is reversed only to the extent that the asset’s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortisation, if no impairment loss had been recognised.

The Group has initially applied SLFRS 16 on “Leases” from 1 January 2019.

The Group applied SLFRS 16 using the modified retrospective approach, under which Right of Use of underlying asset (ROU asset) and lease liability were recognised at equal amounts as at 1 January 2019. Accordingly, the comparative information presented for 2018 is not restated. The details of the changes in accounting policies are disclosed below. Additionally, the disclosure requirements in SLFRS 16 have not generally been applied to comparative information.

6.1 Definition of a lease

Previously, the Group determined at contract inception whether an arrangement was or contained a lease under IFRIC 4 – Determining whether an Arrangement Contains a Lease. The Group now assesses whether a contract is or contains a lease based on the definition of a lease, as explained in Note 59.

On transition to SLFRS 16, the Group elected to apply the practical expedient to grandfather the assessment of which transactions are leases. The Group applied SLFRS 16 only to contracts that were previously identified as leases. Contracts that were not identified as leases under LKAS 17 and IFRIC 4 were not reassessed for whether there is a lease under SLFRS 16. Therefore, the definition of a lease under SLFRS 16 was applied only to contracts entered into or changed on or after 1 January 2019.

6.2 As a lessee

As a lessee, the Group leases some branch and office premises and IT equipment. The Group previously classified these leases as operating leases under LKAS 17 based on its assessment of whether the lease transferred substantially all of the risks and rewards incidental to ownership of the underlying asset to the Group. Under SLFRS 16, the Group recognises right-of-use assets and lease liabilities for leases of branch and office premises – i.e. these leases are on-balance sheet.

At commencement or on modification of a contract that contains a lease component, the Group allocates the consideration in the contract to each lease component on the basis of its relative stand-alone prices.

However, for leases of branches and office premises the Group has elected not to separate non-lease components and account for the lease and associated non-lease components as a single lease component.

On transition, for these leases, lease liabilities were measured at the present value of the remaining lease payments, discounted at the Group’s incremental borrowing rate as at 1 January 2019.

The Group used a number of practical expedients when applying SLFRS 16 to leases previously classified as operating leases under LKAS 17. In particular, the Group:

• on its assessment of whether leases are onerous under LKAS 37 on “Provisions, Contingent Liabilities and Contingent Assets” immediately before the date of initial application as an alternative to performing an impairment review;
• did not recognise right-of-use assets and liabilities for leases for which the lease term ends within 12 months of the date of initial application;
• did not recognise right-of-use assets and liabilities for leases of low-value assets (i.e. IT equipment);
• excluded initial direct costs from measuring the right-of-use asset at the date of initial application
• used hindsight when determining the lease term;
• applied a single discount rate to leases with similar characteristics.

6.3 As a lessor

The Group leases out certain property and equipment. The Group had classified these leases as follows:

• finance leases of property and equipment
• operating leases of investment property

For lease out under finance leases, Group recoginses an asset at an amount equal to the net investment in the lease. Lease payments received from operating leases are recognised as income on straight-line basis.

The Group is not required to make any adjustments on transition to SLFRS 16 for leases in which it acts as a lessor.

The Group has applied SLFRS 15 “Revenue from Contracts with Customers” to allocate consideration in the contract to each lease and non-lease component.

6.4 Impact on financial statements

6.4.1 Impact on transition

On transition to SLFRS 16, the Group recognised additional right-of-use assets and additional lease liabilities. The impact as at day one (1) on transition is summarised below:

	BANK	GROUP
As at 1 January 2019	LKR ’000	LKR ’000
Lease liability/Right-of-use asset use before adjustment	1,113,097	1,115,197
Adjustments on transition to Right-of-use asset	135,366	135,366
Right-of-use asset
Property, plant and equipment	1,248,463	1,250,563
Retained earnings	–	6,717

Refer Note 39.1 and Note 50.

When measuring lease liabilities for leases that were classified as operating leases, the Group discounted lease payments using its incremental borrowing rate at 1 January 2019. The weighted average rate applied is 10.28%.

	BANK	GROUP
As at 1 January 2019	LKR ’000	LKR ’000
Operating lease commitments at 31 December 2018 as disclosed under LKAS 17 in the Group’s consolidated financial statements	1,566,242	1,568,517
Discounted using the incremental borrowing rate at 1 January 2019	1,114,822	1,116,922
Recognition exemption for leases with less than 12 months of lease term at transition	(1,725)	(1,725)
Lease liabilities recognised at 1 January 2019	1,113,097	1,115,197

A number of new standards and amendments to standards are effective for annual periods beginning after 1 January 2020 and earlier application is permitted; however, the Group has not early adopted them in preparing these consolidated financial statements.

The following amended/new standards are not expected to have a significant impact on the Group’s consolidated financial statements.

• Amendments to References to Conceptual Framework in SLFRS Standards.
• Definition of a Business (Amendments to SLFRS 3).
• SLFRS 17 “Insurance Contracts”.
• Interest benchmark reforms.

This note presents information about the Bank’s exposure to financial risks and the Bank’s management of capital.

8.1 Introduction and Overview

The Bank has exposure to the following key risks from financial instruments:

• Credit risk;
• Liquidity risk;
• Operational risks; and
• Market risk

The following chart provides a link between the Bank’s business units and the principal risks that they are exposed to. The significance of risk is assessed within the context of the Bank as a whole and is measured based on allocation of the regulatory capital within the bank.

 

This note presents information about the Bank’s exposure to each of the above risks, the objectives, policies and processes for measuring and managing such risk.

Risk management framework

The Board of Directors has the overall responsibility for the establishment and oversight of the Bank’s risk management framework.

The Board Integrated Risk Management Committee (BIRMC) provides the Board, the assurance that risk management strategies, policies and processes are in place to manage events/outcomes that have the potential to impact significantly on earnings, performance, reputation and capital.

Bank’s risk management policies are established to identify and analyse the risks faced by the Bank, to set appropriate risk limits and to monitor adherence to limits. Risk management policies and systems are reviewed regularly to reflect changes in market conditions and the Bank activities. The Bank through its training and management standards and procedures, aims to develop a disciplined and constructive control environment in which all employees understand their roles and obligations.

Internal Audit undertakes both regular and ad hoc reviews of risk management controls and procedures, the results of which are reported to the Bank Audit Committee.

8.2 Credit risk
8.2.1 Settlement risk
8.2.2 Management of credit risk
8.2.3 Credit quality analysis
8.2.4 Collateral held and other credit enhancements
8.2.5 Amounts arising from ECL
8.2.6 Concentrations of credit risk
8.2.7 Offsetting financial assets and financial liabilities
8.3 Liquidity risk
8.3.1 Management of liquidity risk
8.3.2 Exposure to liquidity risk
8.3.3 Maturity analysis for financial liabilities and financial assets
8.3.4 Liquidity reserves
8.3.5 Financial assets available to support future funding
8.4 Market risk
8.4.1 Management of market risk
8.4.2 Exposure to market risk – Trading portfolios
8.4.3 Exposure to market risk – Non-trading portfolios
8.4.4 Interest rate risk
8.4.5 Foreign exchange risks
8.4.6 Market risk exposure for regulatory capital assessment
8.5 Operational Risk
8.5.1 Capital Management

8.2 Credit risk

Credit risk is the risk of financial loss to the Bank if a customer or counterparty to a financial instrument fails to meet its contractual obligations, and arises principally from Bank’s loans and advances to customers and other banks and investment in debt securities.

8.2.1 Settlement risk

The bank’s activities may give rise to risk at the time of settlement of transactions and trades. “Settlement risk” is the risk of loss due to the failure of an entity to honour its obligations to deliver cash, securities or other assets as contractually agreed.

8.2.2 Management of credit risk

The Board of Directors, BIRMC and the Credit Commiittee are responsible for the oversight of credit risk. Management of credit risk includes the following:

1. Formulating credit policies in consultation with business units covering collateral requirements, credit assessment, risk grading and reporting, documentary and legal procedures and compliance with regulatory and statutory requirements.
2. Authority for establishing the authorisation structure for the approval and renewal of credit facilities is vested with the Board of Directors. Authorisation limits are allocated to business unit Heads. Approval by Branch Managers, Regional Managers, Head of Branch Banking, Head of Corporate Banking, Credit Committee or the Board of Directors would be required based on loan quantum and risk levels as appropriate.
3. Reviewing and assessing credit risk: Bank credit assesses all credit exposures in excess of designated limits, before facilities are committed to customers by the business unit concerned. Renewals and reviews of facilities are subject to the same review process.
4. Limiting concentrations of exposure to counterparties, industries (for loans and advances, financial guarantees and similar exposures), credit ratings and countries.
5. Developing and maintaining the Bank’s processes for measuring ECL: This includes processes for:
   • initial approval, regular validation and back-testing of the models used;
   • determining and monitoring significant increase in credit risk; and
   • incorporation of forward-looking information.
6. Reviewing compliance of business units with agreed exposure limits, including those for selected industries, country risk, and product types. Regular reports on the credit quality of local portfolios are provided to bank credit, which may require appropriate corrective action to be taken. These include reports containing estimates of Expected Credit Loss (ECL) allowances.
7. Providing advice, guidance and specialist skills to business units to promote best practice throughout the Bank in the management of credit risk.

Each business unit is required to follow Bank credit policies and procedures, and each business unit is responsible for the quality and performance of its credit portfolio and for monitoring and controlling all credit risks in its portfolios, including those subject to central approval.

Regular audits of business units and Bank Credit processes are undertaken by Internal Audit.

8.2.3 Credit quality analysis

The following table sets out information about the overdue status of loans and receivables from customers in Stages 1, 2 and 3.

Loans to and receivables from customers at amortised cost – gross carrying amount

As at 31 December	2019
In LKR '000	Stage 1	Stage 2	Stage 3	Total
Current (Note 8.2.3.1)	182,849,726	5,014,881	5,427,262	193,291,869
Overdue < 30 days	34,802,427	3,459,297	1,043,267	39,304,991
Overdue > 30 days	6,368,696	28,894,745	17,364,492	52,627,933
Total	224,020,849	37,368,923	23,835,021	285,224,793

 

As at 31 December	2018
In LKR '000	Stage 1	Stage 2	Stage 3	Total
Current	168,389,772	8,317,379	1,759,324	178,466,475
Overdue < 30 days	25,485,713	4,685,643	1,315,775	31,487,131
Overdue > 30 days	–	39,321,368	12,024,320	51,345,688
Total	193,875,485	52,324,390	15,099,419	261,299,294

8.2.3.1 Gross carrying amount reports under Stage 3 above, include facilities amounting to LKR 4.9 Bn granted to Government Institutions, and are fully-guaranteed by Treasury. Accordingly no provision has been made in respect of these facilities.

The following table shows an analysis of counterparty credit exposures arising from derivative transactions. Derivative transactions of the Bank are generally fully collateralised by cash. For further discussion of collateral and other credit enhancements:

	Derivative Type
As at 31 December 2019	Forward		SWAP		Spot		Cross currency SWAP		Interest rate SWAP		Total
In LKR ’000	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value
Derivative financial assets (Note 1)	1,135,594	8,624	48,887,233	112,011	141,332	143	10,453,667	510,660	–	–	60,617,826	631,438
Derivative financial liabilities (Note 2)	1,128,050	(2,448)	49,730,379	(516,127)	141,346	(156)	–	–	–	–	50,999,775	(518,731)
Note1
Derivative financial assets by counterparty type
With banks	749,746	3,684	48,887,233	112,011	141,332	143	10,453,667	510,660	–	–	60,231,978	626,498
With other customers	385,848	4,940	–	–	–	–	–	–	–	–	385,848	4,940
Total	1,135,594	8,624	48,887,233	112,011	141,332	143	10,453,667	510,660	–	–	60,617,826	631,438
Note2
Derivative financial liabilities by counterparty type
With banks	748,576	(2,448)	49,730,379	(516,127)	141,346	(156)	–	–	–	–	50,620,301	(518,731)
With other customers	379,474	–	–	–	–	–	–	–	–	–	379,474	–
Total	1,128,050	(2,448)	49,730,379	(516,127)	141,346	(156)	–	–	–	–	50,999,775	(518,731)

 

	Derivative Type
As at 31 December 2018	Forward		SWAP		Spot		Cross currency SWAP		Interest rate SWAP		Total
In LKR’000	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value	Notional amount	Fair value
Derivative financial assets (Note 1)	9,553,350	949,460	33,795,176	1,564,796	784,569	161	5,489,400	892,967	1,829,800	7,165	51,452,295	3,414,549
Derivative financial liabilities (Note 2)	8,702,396	(21,943)	32,803,418	(99,251)	784,588	(179)	–	–	–	–	42,290,402	(121,373)
Note1
Derivative financial assets by counterparty type
With banks	9,002,274	937,613	33,795,176	1,564,796	784,569	161	5,489,400	892,967	1,829,800	7,165	50,901,219	3,402,702
With other customers	551,076	11,847	–	–	–	–	–	–	–	–	551,076	11,847
Total	9,553,350	949,460	33,795,176	1,564,796	784,569	161	5,489,400	892,967	1,829,800	7,165	51,452,295	3,414,549
Note2
Derivative financial liabilities by counterparty type
With banks	8,154,050	(10,088)	32,803,418	(99,251)	784,588	(179)	–	–	–	–	41,742,056	(109,518)
With other customers	548,346	(11,855)	–	–	–	–	–	–	–	–	548,346	(11,855)
Total	8,702,396	(21,943)	32,803,418	(99,251)	784,588	(179)	–	–	–	–	42,290,402	(121,373)

8.2.4 Collateral held and other credit enhancements

The Bank holds collateral and other credit enhancements against certain of its credit exposures. The following table sets out the principal types of collateral held against different types of financial assets.

As at 31 December	2019
	Gross Loan Balance LKR ’000	Security Value LKR ’000
Stage 1
Cash collateral	13,138,299	19,652,804
Property, plant and machinery	78,982,483	198,003,781
Treasury guarantee	3,614,059	7,328,863
Others	75,268,404	8,615,689
Unsecured	34,397,223	–
Total	205,400,468	233,601,137
Stage 2
Cash collateral	1,360,633	1,702,338
Property, plant and machinery	21,482,134	53,779,650
Others	10,216,504	1,328,826
Unsecured	2,087,073	–
Total	35,146,344	56,810,814
Stage 3
Cash collateral	76,026	89,403
Property, plant and machinery	7,679,725	17,449,496
Treasury guarantee (Note 8.2.3.1)	4,972,857	6,026,242
Others	4,313,852	22,272
Unsecured	5,461,571	–
Total	22,504,031	23,587,413

The above analysis does not include balances relating to lease rentals receivables.

8.2.4.1 Derivatives, reverse sale-and-repurchase agreements and securities borrowing

The Bank mitigates the credit risk of derivatives, reverse sale-and-repurchase agreements and securities lending by entering into master netting agreements and holding collateral in the form of cash and marketable securities.

DFCC requires counterparties to sign an ISDA master agreement (International Swaps and Derivative Association) in order to enter into swaps and other derivative transactions. The agreement outlines the terms and conditions to be applied to the derivative transactions agreed by DFCC and other parties. Any Dispute of the transaction will be handled according to the agreement terms.

The Bank’s sale-and-repurchase, and reverse sale-and-repurchase, transactions and securities borrowing and lending are covered by master agreements. A master agreement has to be signed by both parties to enter such transactions. All terms and conditions are stipulated in the master agreement.

8.2.4.2 Loan to value ratio of residential mortgage lending

The following table stratifies credit exposures by ranges of loan-to-value (LTV) ratio. LTV is calculated as the ratio of the gross amount of the loan to the value of the collateral. The valuation of the collateral excludes any adjustments for obtaining and selling the collateral. The value of the collateral for residential mortgage loan is based on valuations made by independent professional valuers.

	BANK/GROUP
As at 31 December	2019 LKR ’000	2018 LKR ’000
LTV ratio
Stage 1
Less than 50%	2,392,919	2,042,337
51%-70%	3,060,380	2,511,904
71%-90%	1,214,137	1,194,761
More than 90%	1,552,756	1,361,246
Total	8,220,191	7,110,248
Stage 2
Less than 50%	690,096	602,834
51%-70%	1,206,097	1,100,489
71%-90%	503,044	789,436
More than 90%	536,146	437,463
Total	2,935,383	2,930,222
Stage 3
Less than 50%	201,965	80,841
51%-70%	342,236	111,534
71%-90%	185,642	43,045
More than 90%	131,916	20,790
Total	861,759	256,210
Carrying amount – amortised cost	12,017,333	10,296,680

8.2.4.3 Assets obtained by taking possession of collateral

The Bank’s policy is to pursue timely realisation of the collateral in an orderly manner. The Bank does not generally use the non-cash collateral for its own operations.

8.2.5 Amounts arising from ECL

8.2.5.1 Loss allowance

The following tables show reconciliations from the opening to the closing balance of the loss allowance by class of financial instrument. The basis for determining transfers due to changes in credit risk is set out in our accounting policy; see Note 17.

Financial assets at amortised cost – Loans to and receivables from banks

	2019		2018
	Stage 1 LKR ’000	Total LKR ’000	Stage 1 LKR ’000	Total LKR ’000
Balance as at beginning	43,451	43,451	38,363	38,363
Net remeasurement of loss allowance	38,408	38,408	5,088	5,088
Balance on 31 December	81,859	81,859	43,451	43,451

Financial assets at amortised cost – Loans to and receivables from other customers

	2019				2018
	Stage 1 LKR ’000	Stage 2 LKR ’000	Stage 3 LKR ’000	Total LKR ’000	Stage 1 LKR ’000	Stage 2 LKR ’000	Stage 3 LKR ’000	Total LKR ’000
Balance at beginning	786,161	2,355,958	8,423,457	11,565,576	805,471	2,347,630	7,966,994	11,120,095
Transfer to Stage 1	767,186	(706,463)	(60,723)	–	424,482	(355,313)	(69,169)	–
Transfer to Stage 2	(60,275)	109,101	(48,826)	–	(150,485)	206,085	(55,600)	–
Transfer to Stage 3	(17,410)	(210,075)	227,485	–	(14,410)	(179,913)	194,323	–
Net remeasurement of loss allowance	(1,050,167)	(422,215)	1,727,227	254,845	(738,289)	(374,098)	524,057	(588,330)
New financial assets originated or purchased	476,987	439,272	419,288	1,335,547	466,051	713,728	394,479	1,574,258
Write-off	(611)	(1,701)	(741,068)	(743,380)	(6,659)	(2,161)	(696,652)	(705,472)
Foreign exchange and other movement	–	–	(6,106)	(6,106)	–	–	165,025	165,025
Balance as at 31 December	901,871	1,563,877	9,940,734	12,406,482	786,161	2,355,958	8,423,457	11,565,576

Financial assets at amortised cost Debt and other instruments

	2019		2018
	Stage 1 LKR ’000	Total LKR ’000	Stage 1 LKR ’000	Total LKR ’000
Balance at beginning	1,963	1,963	1,729	1,729
Net remeasurement of loss allowance	(1,251)	(1,251)	234	234
Balance on 31 December	712	712	1,963	1,963

Loan Commitments and financial guarantee contracts

	2019			2018
	Stage 1 LKR ’000	Stage 2 LKR ’000	Total LKR ’000	Stage 1 LKR ’000	Stage 2 LKR ’000	Total LKR ’000
Balance at beginning	162,686	34,895	197,581	159,197	15,188	174,385
Net measurement of loss allowance	1,458	(18,408)	(16,950)	3,489	19,707	23,196
Balance on 31 December	164,144	16,487	180,631	162,686	34,895	197,581

8.2.5.2 Sensitivity of ECL to future economic conditions

The ECL are sensitive to judgements and assumptions made regarding formulation of forward looking scenarios and how such scenarios are incorporated into the calculations. Management performs a sensitivity analysis on the ECL recognised on material classes of its assets.

The table below shows the sensitivity of the impairment provision of the Bank as at 31 December 2019 to a reasonably possible change in PDs, LGDs, and forward looking information.

	Sensitivity effect on Statement of Financial Position				Sensitivity effect on Income Statement
	Increase/(Decrease) in impairment provision
	Stage 1 LKR ’000	Stage 2 LKR ’000	Stage 3 LKR ’000	Total LKR ’000	LKR ’000
PD 1% increase across all age buckets	698,652	236,485	N/A	935,137	(935,137)
PD 1% decrease across all age buckets	(592,934)	(236,275)	N/A	(829,209)	829,209
LGD 5% increase	156,628	244,958	436,307	837,893	(837,893)
LGD 5% decrease	(156,628)	(244,958)	(436,307)	(837,893)	837,893
Probability weighted economic scenarios
– Worst case 5% decrease and best case 5% increase	(42,040)	(58,479)	N/A	(100,519)	100,519
– Worst case 5% increase and best case 5% decrease	42,048	58,070	N/A	100,118	(100,118)

8.2.6 Concentration of credit risk

The Group monitors concentrations of credit risk by sector and by geographic location. An analysis of concentrations of credit risk from loans and advances, loan commitments, financial guarantees and investment securities is shown below:

In LKR ’000	Loans to and receivables from banks		Loans to and receivables from customers		Investment in debt securities		Loan commitments and financial guarantees issued
As at 31 December	2019	2018	2019	2018	2019	2018	2019	2018
Gross carrying amount	8,485,034	12,898,331	285,224,793	261,299,294	85,447,418	67,785,034	–	–
Amount committed/guaranteed	–	–	–	–	–	–	108,145,071	95,518,887
Concentration by sector
Agriculture, forestry, and fishing	–	–	28,282,969	27,308,657	–	–	11,139,531	10,311,628
Manufacturing	–	–	54,535,325	56,123,392	–	144,018	24,385,449	23,194,834
Tourism	–	–	13,393,587	12,805,091	–	–	7,977,653	7,524,794
Transportation and storage	–	–	9,434,389	9,407,724	–	–	1,105,107	656,515
Construction	–	–	32,559,866	30,722,021	252,953	252,961	7,074,504	9,418,363
Infrastructure development	–	–	30,024,078	22,422,062	–	–	14,869,134	15,400,046
Wholesale and retail trade	–	–	44,195,272	48,884,603	–	–	24,342,484	14,232,368
Information technology and communication services	–	–	1,531,401	986,397	–	–	660,586	1,190,053
Financial services	–	–	14,856,831	13,633,490	2,839,425	3,910,214	2,360,843	2,573,230
Professional, scientific, and technical activities	–	–	1,709,325	951,079	–	–	383,807	119,567
Arts, entertainment, and recreation	–	–	788,364	812,394	–	–	50,798	177,809
Education	–	–	1,471,284	1,456,169	–	–	283,802	695,484
Health care, social services, and support services	–	–	4,213,504	3,680,771	–	–	1,181,414	1,290,927
Consumption	–	–	36,783,616	24,778,839	–	–	7,229,734	4,754,005
Lending to ministry of finance	–	–	164,257	298,195	–	–	–	–
Lending to overseas entities	–	–	11,280,725	7,028,410	–	–	5,100,225	3,979,264
Government	8,485,034	12,898,331	–	–	82,355,040	63,392,786	–	–
Other	–	–	–	–	–	85,055	–	–
Total	8,485,034	12,898,331	285,224,793	261,299,294	85,447,418	67,785,034	108,145,071	95,518,887

8.2.7 Offsetting financial assets and financial liabilities

Financial assets and financial liabilities are offset and the net amount presented in the statement of financial position when, and only when the Group currently has a legally enforceable right to set off the amounts and it intends either to settle them on a net basis or to realise the asset and settle the liability simultaneously.

8.3 Liquidity risk

“Liquidity risk” is the risk that the Bank will encounter difficulty in meeting obligations associated with its financial liabilities that are settled by delivering cash or another financial asset. Liquidity risk arises from mismatches in the timing and amounts of cash flows, which is inherent to the Bank’s operations and investments.

8.3.1 Management of liquidity risk

The Bank’s Board of Directors sets the Bank’s strategy for managing liquidity risk and oversight of the implementation is administered by Assets and Liability Management Committee (ALCO). ALCO approves the Bank’s liquidity policies and procedures. Treasury manages the Bank’s liquidity position on a day-to-day basis and reviews daily reports covering the liquidity position of both the Bank and operating subsidiaries. A summary report, including any exceptions and remedial action taken, is submitted to ALCO on a monthly basis or ad hoc when predefined thresholds are breached.

The Bank’s approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when they are due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Bank’s reputation. The key elements of the Bank’s liquidity strategy are as follows:

• Monitoring maturity mismatches, behavioural characteristics of the Bank’s financial assets and financial liabilities, and the extent to which the Group’s assets are encumbered and so not available as potential collateral for obtaining funding.
• Monitoring the Bank’s liquidity through the Liquid Assets Ratio (statutory minimum is currently 20%) and Liquidity Coverage Ratio using a stock approach.
• Effecting threshold limits relevant for liquidity management as part of the overall risk limits system of the Bank.
• Carrying a portfolio of highly liquid assets, diversified by currency and maturity.

8.3.2 Exposure to liquidity risk – Regulatory liquidity (Bank)

As at 31 December	2019	2018
Statutory liquid assets (LKR ’000)	90,664,914	74,659,159
Statutory liquid assets ratio (minimum requirement 20%)
Domestic banking unit (%)	23.6	22.2
Off-shore banking unit (%)	53.1	44.3
Liquidity coverage ratio (minimum requirement 100% in 2019 and 90% in 2018)
All currencies (%)	140.5	113.5
Rupee only (%)	234.2	195.7

8.3.3 Maturity analysis for financial liabilities and financial assets

The following tables set out the remaining contractual maturities of the Bank’s financial liabilities and financial assets.

As at 31 December 2019 BANK	Carrying Amount LKR ’000	Up to 3 months LKR ’000	3 to 12 months LKR ’000	1 to 3 years LKR ’000	3 to 5 years LKR ’000	More than 5 years LKR ’000	Total LKR ’000
Financial liability by type
Non-derivative liabilities
Due to banks	24,594,828	9,464,866	5,791,329	9,338,633	–	–	24,594,828
Due to depositors	247,786,974	86,203,676	85,695,022	17,085,344	12,864,437	45,938,495	247,786,974
Due to other borrowers	47,307,556	9,107,966	9,149,713	14,000,752	6,154,080	8,895,045	47,307,556
Debt securities in issue	14,148,198	1,028,348	3,147,549	–	3,783,024	6,189,277	14,148,198
Other liabilities	3,786,445	2,388,520	798,747	36,775	118,536	443,867	3,786,445
Subordinated term debt	16,859,914	657,461	2,227,817	940,482	8,948,215	4,085,939	16,859,914
	354,483,915	108,850,837	106,810,177	41,401,986	31,868,292	65,552,624	354,483,915
Derivative liabilities
Risk management:	518,731	518,731	–	–	–	–	518,731
	518,731	518,731	–	–	–	–	518,731
Financial assets by type
Non-derivative assets
Cash and cash equivalents	5,450,209	5,450,209	–	–	–	–	5,450,209
Balances with Central Bank	8,666,547	8,666,547	–	–	–	–	8,666,547
Placements with banks	165,030	165,030	–	–	–	–	165,030
Financial assets measured at fair value through profit or loss	5,307,066	251,593	–	–	–	5,055,473	5,307,066
Financial assets at amortised cost – Loans to and receivables from banks	8,403,175	3,307,831	15,304	4,898,610	181,430	–	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	272,818,311	40,234,030	38,017,279	52,744,363	54,181,538	87,641,101	272,818,311
Financial assets at amortised cost – Debt and other instruments	21,743,857	1,658,360	2,614,709	13,740,868	3,729,920	–	21,743,857
Financial assets measured at fair value through other comprehensive income	72,716,407	9,450,109	3,187,401	30,008,205	15,649,171	14,421,521	72,716,407
Other assets	2,148,567	1,425,425	278,065	130,296	21,491	293,290	2,148,567
	397,419,169	70,609,134	44,112,758	101,522,342	73,763,550	107,411,385	397,419,169
Derivative assets
Risk management:	631,438	631,438	–	–	–	–	631,438
	631,438	631,438	–	–	–	–	631,438

 

As at 31 December 2018 BANK	Carrying Amount LKR ’000	Up to 3 months LKR ’000	3 to 12 months LKR ’000	1 to 3 years LKR ’000	3 to 5 years LKR ’000	More than 5 years LKR ’000	Total LKR ’000
Financial liability by type
Non-derivative liabilities
Due to banks	9,446,464	7,321,516	2,124,948	–	–	–	9,446,464
Due to depositors	242,237,596	91,844,395	86,521,960	12,141,582	11,971,314	39,758,345	242,237,596
Due to other borrowers	47,413,727	5,038,260	7,454,562	12,854,025	11,775,945	10,290,935	47,413,727
Debt securities in issue	8,898,441	5,903,657	–	2,994,784	–	–	8,898,441
Other liabilities	3,264,345	1,754,629	919,159	38,949	92,921	458,687	3,264,345
Subordinated term debt	16,855,352	662,109	227,138	2,939,798	8,942,732	4,083,575	16,855,352
	328,115,925	112,524,566	97,247,767	30,969,138	32,782,912	54,591,542	328,115,925
Derivative liabilities
Risk management:	121,373	121,373	–	–	–	–	121,373
	121,373	121,373	–	–	–	–	121,373
Financial assets by type
Non-derivative assets
Cash and cash equivalents	5,039,629	5,039,629	–	–	–	–	5,039,629
Balances with Central Bank	11,841,814	11,841,814	–	–	–	–	11,841,814
Placements with banks	425,087	425,087	–	–	–	–	425,087
Financial assets measured at fair value through profit or loss	6,078,862	–	–	–	–	6,078,862	6,078,862
Financial assets at amortised cost – Loans to and receivables from banks	12,854,880	4,422,366	15,434	4,391,520	4,025,560	–	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	249,733,718	46,493,502	33,680,311	40,236,546	55,809,633	73,513,726	249,733,718
Financial assets at amortised cost – Debt and other instruments	22,874,088	1,431,945	2,634,993	15,051,018	3,756,132	–	22,874,088
Financial assets measured at fair value through other comprehensive income	55,313,553	8,311,960	21,973,238	7,737,500	5,443,116	11,847,739	55,313,553
Other assets	2,309,581	1,753,299	167,428	27,308	27,308	334,238	2,309,581
	366,471,212	79,719,602	58,471,404	67,443,892	69,061,749	91,774,565	366,471,212
Derivative assets
Risk management:	3,414,549	3,414,549	–	–	–	–	3,414,549
	3,414,549	3,414,549	–	–	–	–	3,414,549

The following tables set out the remaining contractual maturities of the group’s financial liabilities and financial assets.

As at 31 December 2019 GROUP	Carrying Amount LKR ’000	Up to 3 months LKR ’000	3 to 12 months LKR ’000	1 to 3 years LKR ’000	3 to 5 years LKR ’000	More than 5 years LKR ’000	Total LKR ’000
Financial Liability by type
Non-derivative liabilities
Due to banks	24,594,828	9,464,866	5,791,329	9,338,633	–	–	24,594,828
Financial liabilities at amortised cost – Due to depositors	247,457,696	86,062,548	85,605,622	16,986,594	12,864,437	45,938,495	247,457,696
Financial liabilities at amortised cost – Due to other borrowers	47,307,556	9,107,967	9,149,713	14,000,752	6,154,080	8,895,045	47,307,556
Debt securities issued	14,148,198	1,028,348	3,147,549	–	3,783,024	6,189,277	14,148,198
Other liabilities	3,907,977	2,510,052	798,747	36,775	118,536	443,867	3,907,977
Subordinated term debt	16,859,914	657,460	2,227,817	940,482	8,948,215	4,085,939	16,859,914
	354,276,169	108,831,241	106,720,777	41,303,236	31,868,292	65,552,623	354,276,169
Derivative Liabilities
Trading:	–	–	–	–	–	–	–
Risk management:	518,731	518,731	–	–	–	–	518,731
	518,731	518,731	–	–	–	–	518,731
Financial Assets by type
Non-derivative assets
Cash and cash equivalents	5,459,359	5,459,359	–	–	–	–	5,459,359
Balances with Central Bank	8,666,547	8,666,547	–	–	–	–	8,666,547
Placements with banks	200,441	165,030	35,411	–	–	–	200,441
Financial assets measured at fair value through profit or loss	5,307,066	251,593	–	–	–	5,055,473	5,307,066
Financial assets at amortised cost – Loans to and receivables from banks	8,403,175	3,307,831	15,304	4,898,610	181,430	–	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	272,818,311	40,234,030	38,017,279	52,744,363	54,181,538	87,641,101	272,818,311
Financial assets at amortised cost – Debt and other instruments	21,743,857	1,658,360	2,614,709	13,740,868	3,729,920	–	21,743,857
Financial assets measured at fair value through other comprehensive income	72,716,407	9,450,109	3,187,401	30,008,205	15,649,171	14,421,521	72,716,407
Other assets	2,238,051	1,514,909	278,065	130,296	21,491	293,290	2,238,051
	397,553,214	70,707,768	44,148,169	101,522,342	73,763,550	107,411,385	397,553,214
Derivative Assets
Trading:	–	–	–	–	–	–	–
Risk management:	631,438	631,438	–	–	–	–	631,438
	631,438	631,438	–	–	–	–	631,438

 

As at 31 December 2018 GROUP	Carrying Amount LKR ’000	Up to 3 months LKR ’000	3 to 12 months LKR ’000	1 to 3 years LKR ’000	3 to 5 years LKR ’000	More than 5 years LKR ’000	Total LKR ’000
Financial Liability by type
Non-derivative liabilities
Due to banks	9,446,464	7,321,516	2,124,948	–	–	–	9,446,464
Financial liabilities at amortised cost – Due to depositors	241,914,870	91,521,669	86,521,960	12,141,582	11,971,314	39,758,345	241,914,870
Financial liabilities at amortised cost – Due to other borrowers	47,388,679	5,013,212	7,454,562	12,854,025	11,775,945	10,290,935	47,388,679
Debt securities issued	8,898,441	5,903,657	–	2,994,784	–	–	8,898,441
Other liabilities	3,421,922	1,852,209	979,156	38,949	92,921	458,687	3,421,922
Subordinated term debt	16,855,352	662,109	227,138	2,939,798	8,942,732	4,083,575	16,855,352
	327,925,728	112,274,372	97,307,764	30,969,138	32,782,912	54,591,542	327,925,728
Derivative Liabilities
Trading:	–	–	–	–	–	–	–
Risk management:	121,373	121,373	–	–	–	–	121,373
	121,373	121,373	–	–	–	–	121,373
Financial Assets by type
Non-derivative assets
Cash and cash equivalents	5,049,823	5,049,823	–	–	–	–	5,049,823
Balances with Central Bank	11,841,814	11,841,814	–	–	–	–	11,841,814
Placements with banks	439,727	439,727	–	–	–	–	439,727
Financial assets measured at fair value through profit or loss	6,078,862	–	–	–	–	6,078,862	6,078,862
Financial assets at amortised cost – Loans to and receivables from banks	12,854,880	4,422,366	15,434	4,391,520	4,025,560	–	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	249,733,718	46,493,502	33,680,311	40,236,546	55,809,633	73,513,726	249,733,718
Financial assets at amortised cost – Debt and other instruments	22,874,088	1,431,945	2,634,993	15,051,018	3,756,132	–	22,874,088
Financial assets measured at fair value through other comprehensive income	55,313,553	8,311,960	21,973,238	7,737,500	5,443,116	11,847,739	55,313,553
Other assets	2,347,579	1,791,297	167,428	27,308	27,308	334,238	2,347,579
	366,534,044	79,782,434	58,471,404	67,443,892	69,061,749	91,774,565	366,534,044
Derivative Assets
Trading:	–	–	–	–	–	–	–
Risk management:	3,414,549	3,414,549	–	–	–	–	3,414,549
	3,414,549	3,414,549	–	–	–	–	3,414,549

The amounts in the table above have been compiled as follows:

Type of financial instrument	Basis on which amounts are compiled
Non-derivative financial liabilities and financial assets	Undiscounted cash flows, which include estimated interest payments.
Issued financial guarantee contracts, and unrecognised loan commitments	Earliest possible contractual maturity. For issued financial guarantee contracts, the maximum amount of the guarantee is allocated to the earliest period in which the guarantee could be called.
Derivative financial liabilities and financial assets held for risk management purposes	Contractual undiscounted cash flows. The amounts shown are the gross nominal inflows and outflows for derivatives that have simultaneous gross settlement (e.g. forward exchange contracts and currency swaps) and the net amounts for derivatives that are net settled.
Trading derivative liabilities and assets forming part of the Group’s proprietary trading operations that are expected to be closed out before contractual maturity.	Fair values at the date of the statement of financial position. This is because contractual maturities do not reflect the liquidity risk exposure arising from these positions. These fair values are disclosed in the “up to three months” column.
Trading derivative liabilities and assets that are entered into by the Bank with its customers	Contractual undiscounted cash flows. This is because these instruments are not usually closed out before contractual maturity and so the Group believes that contractual maturities are essential for understanding the timing of cash flows associated with these derivative positions.

The Bank’s expected cash flows on some financial assets and financial liabilities vary significantly from the contractual cash flows. The principal differences are as follows:

• demand deposits from customers are expected to remain stable or increase;
• unrecognised loan commitments are not all expected to be drawn down immediately.

8.3.4 Liquidity reserves

As part of the management of liquidity risk arising from financial liabilities, the Bank holds liquid assets comprising cash and cash equivalents, and debt securities issued by sovereigns, which can be readily sold to meet liquidity requirements. In addition, the Bank maintains agreed lines of credit with other banks and holds unencumbered assets eligible for use as collateral with central banks (these amounts are referred to as the “Bank’s liquidity reserves”).

The following table sets out the components of the Bank’s liquidity reserves

	2019 Carrying amount LKR ’000	2019 Fair value LKR ’000	2018 Carrying amount LKR ’000	2018 Fair value LKR ’000
Balances with Central Bank	8,666,547	8,666,547	11,841,814	11,841,814
Cash and cash equivalents	5,450,209	5,450,209	5,039,629	5,039,629
Placements with banks	165,030	165,030	425,087	425,087
Unencumbered debt securities issued by sovereigns	71,954,148	71,954,148	65,829,371	65,829,371
Total liquidity reserves	86,235,934	86,235,934	83,135,901	83,135,901

8.3.5 Financial assets available to support future funding

The following table sets out the availability of the bank’s financial assets to support future funding.

		Encumbered		Unencumbered
	Note	Pledged as collateral LKR ’000	Other* LKR ’000	Available as collateral LKR ’000	Other** LKR ’000	Total LKR ’000
31 December 2019
Cash and cash equivalents	26	–	–	5,450,209	–	5,450,209
Balances with Central Bank	27	–	8,666,547	–	–	8,666,547
Placements with banks	28	–	–	165,030	–	165,030
Derivative financial assets	29	–	–	631,438	–	631,438
Financial assets measured at fair value through profit or loss	30	–	–	5,307,066	–	5,307,066
Financial assets at amortised cost – Loans to and receivables from banks	31	–	–	8,403,175	–	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	272,818,311	–	272,818,311
Financial assets at amortised cost – Debt and other instruments	33	43,883	–	21,699,974	–	21,743,857
Financial assets measured at fair value through other comprehensive income	34	16,625,375	–	56,091,032	–	72,716,407
Other assets		–	–	–	2,148,567	2,148,567
Non-financial assets		–	–	–	6,846,673	6,846,673
Total assets		16,669,258	8,666,547	370,566,235	8,995,240	404,897,280
31 December 2018
Cash and cash equivalents	26	–	–	5,039,629	–	5,039,629
Balances with Central Bank	27	–	11,841,814	–	–	11,841,814
Placements with banks	28	–	–	425,087	–	425,087
Derivative financial assets	29	–	–	3,414,549	–	3,414,549
Financial assets measured at fair value through profit or loss	30	–	–	6,078,862	–	6,078,862
Financial assets at amortised cost – Loans to and receivables from banks	31	–	–	12,854,880	–	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	249,733,718	–	249,733,718
Financial assets at amortised cost –Debt and other instruments	33	5,056,061	–	17,818,027	–	22,874,088
Financial assets measured at fair value through other comprehensive income	34	5,502,192	–	49,811,361	–	55,313,553
Other assets		–	–	–	2,309,581	2,309,581
Non-financial assets		–	–	–	5,022,117	5,022,117
Total assets		10,558,253	11,841,814	345,176,113	7,331,698	374,907,878

* Represents assets that are not pledged but that the Bank believes it is restricted from using to secure funding, for legal or other reasons.

** Represents assets that are not restricted for use as collateral, but that the Bank would not consider readily available to secure funding in the normal course of business.

8.4 Market risk

“Market risk” is the risk that changes in market prices – e.g., interest rates, equity prices, foreign exchange rates, and credit spreads (not relating to changes in the obligor’s/issuer’s credit standing) – will affect the Bank’s income or the value of its holdings of financial instruments. The objective of the Bank’s market risk management is to manage and control market risk exposures within acceptable parameters to ensure the Bank’s solvency
while optimising the return on risk.

8.4.1 Management of market risks

The Bank separates its exposure to market risks between trading and non-trading portfolios. Trading portfolios are mainly include positions arising from market making and proprietary position taking, together with financial assets and financial liabilities that are managed on a fair value basis and non-trading portfolios from positions arising from financial investments measured at fair value through other comprehensive income (FVOCI) and financial investments at amortised cost and from derivatives held for risk management purposes.

Overall authority for market risk is vested with the Board of Directors through the Board Integrated Risk Management Committee (BIRMC). The operational authority for managing market risk is vested with ALCO. Foreign exchange risk is managed within approved limits and segregation of reporting responsibilities of Treasury
Front Office, Middle Office and Back Office.

The Bank employs a range of tools to monitor and limit market risk exposures. These are discussed below, separately for trading and non-trading portfolios.

The following table sets out the allocation of assets and liabilities subject to market risk between trading and non-trading portfolios.

			Market risk measure
	Note	Carrying amount LKR ’000	Trading portfolio LKR ’000	Non-trading portfolio LKR ’000
31 December 2019
Assets subject to market risk
Cash and cash equivalents	26	926,842	–	926,842
Placements with banks	28	165,030	–	165,030
Derivative financial assets	29	631,438	631,438	–
Financial assets measured at fair value through profit or loss	30	5,307,066	5,307,066	–
Financial assets at amortised cost – Loans to and receivables from banks	31	8,403,175	–	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	32	272,818,311	–	272,818,311
Financial assets at amortised cost – Debt and other instruments	33	21,743,857	–	21,743,857
Financial assets measured at fair value through other comprehensive income	34	72,716,407	–	72,716,407
Liabilities subject to market risk
Due to banks	44	24,594,828	–	24,594,828
Derivative financial liabilities	29	518,731	518,731	–
Financial liabilities at amortised cost – Due to depositors	45	247,786,974	–	247,786,974
Financial liabilities at amortised cost – Due to other borrowers	46	47,307,556	–	47,307,556
Debt securities in issue	47	14,148,198	–	14,148,198
Subordinated term debt	51	16,859,914	–	16,859,914
31 December 2018
Assets subject to market risk
Cash and cash equivalents	26	1,242,995	–	1,242,995
Placements with banks	28	425,087	–	425,087
Derivative financial assets	29	3,414,549	3,414,549	–
Financial assets measured at fair value through profit or loss	30	6,078,862	6,078,862	–
Financial assets at amortised cost – Loans to and receivables from banks	31	12,854,880	–	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	32	249,733,718	–	249,733,718
Financial assets at amortised cost – Debt and other instruments	33	22,874,088	–	22,874,088
Financial assets measured at fair value through other comprehensive income	34	55,313,553	–	55,313,553
Liabilities subject to market risk
Due to banks	44	9,446,464	–	9,446,464
Derivative financial liabilities	29	121,373	121,373	–
Financial liabilities at amortised cost – Due to depositors	45	242,237,596	–	242,237,596
Financial liabilities at amortised cost – Due to other borrowers	46	47,413,727	–	47,413,727
Debt securities in issue	47	8,898,441	–	8,898,441
Subordinated term debt	51	16,855,352	–	16,855,352

8.4.2 Exposure to market risks – Trading portfolios

The principal tool used to measure and control market risk exposure within the Bank’s trading portfolios is Value at Risk (VaR). The VaR of a trading portfolio is the maximum estimated loss that can arise with a specified probability (confidence level) in the portfolio over a specified period of time (holding period) from an adverse market movement.

The VaR model used by the Bank is based on a 99% confidence level and assumes 1, 10 and 60-day holding periods (Depending on product type). The VaR model used is based mainly on historical simulation. Taking account of market data, and observed correlation between different markets and prices, the model generates a wide range of plausible future scenarios for market price movements.

Although VaR is an important tool for measuring market risk, the assumptions on which the model is based give rise to some limitations, including the following:

• The holding period assumes that it is possible to hedge or dispose of positions within that period. This may not be the case for illiquid assets or in situations in which there is severe market liquidity.
• A 99% confidence level does not reflect losses that may occur beyond this level. Even within the model used, there is a 1% probability that losses could exceed the VaR in any given period.
• VaR is calculated does not reflect exposures that may arise on positions during the trading day.
• The use of historical data as a basis for determining the possible range of future outcomes does not cover all possible scenarios, especially those of an exceptional nature.
• The VaR measure is dependent on the Bank’s position and the volatility of market prices. The VaR of an unchanged position reduces if market price volatility declines and vice versa.

The limitations of the VaR methodology are recognised by supplementing VaR limits with other position and sensitivity limit structures, including limits to address potential concentration risks within each trading portfolio. In addition, the Bank uses a wide range of stress tests to model the financial impact of a variety of exceptional market scenarios on individual trading portfolios and the Bank’s overall position. The Bank determines the scenarios as follows:

• sensitivity scenarios consider the impact of any single risk factor or set of factors that are unlikely to be captured within the VaR models;
• technical scenarios consider the largest move in each risk factor without consideration of any underlying market correlation; and
• hypothetical scenarios consider potential macro-economic events – e.g., periods of prolonged market illiquidity, reduced fungibility of currencies, natural disasters or other catastrophes, health pandemics, etc.

The analysis of scenarios and stress tests is reviewed by ALCO.

8.4.2.1 Equity price risk

Equity prices risk is part of market risk which is defined as the risk of possible losses arising from the equity market investments due to changes in the market prices of the invested shares. The Bank is exposed to equity prices risk through its investments in the equity market which has been shown in the FVOCI portfolio and the trading portfolio.

Financial assets measured at fair value through profit or loss portfolio

Parameter	Position as at 31 December 2019 LKR ’000	Position as at 31 December 2018 LKR ’000
Marked-to-market value of the total quoted equity portfolio	4,777,423	5,386,889
Value-at-risk (under 99% probability for a quarterly time horizon)	12.35%	22.74%
Maximum possible loss of value in the marked-to-market value of the portfolio as indicated by the VaR over a quarterly period	590,012	1,224,979
Unrealised gains in the trading equity portfolio reported in the fair value reserve	2,612,462	3,593,558

Equity price risk is quantified using the Value at Risk (VaR) approach based on the Historical Loss Method. Historical four-year portfolio returns is adopted to compute VaR as a measure of the equity prices risk exposure by the Bank. This VaR computation for the equity trading portfolio considers a quarterly time horizon.

8.4.3 Exposure to market risks – Non-trading portfolios

Financial Assets measured at fair value through other comprehensive income

Parameter	Position as at 31 December 2019 LKR ’000	Position as at 31 December 2018 LKR ’000
Marked-to-market value of the total quoted equity portfolio	8,812,702	10,215,281
Value-at-risk (under 99% probability for a quarterly time horizon) (%)	18.20	17.80
Maximum possible loss of value in the marked-to-market value of the portfolio as indicated by the VaR over a quarterly period	1,603,912	1,818,320
Unrealised gains in the trading equity portfolio reported in the fair value reserve	4,476,529	6,061,300

Equity price risk is quantified using the Value at Risk (VaR) approach based on the Historical Loss Method. Historical four-year portfolio returns is adopted to compute VaR as a measure of the equity prices risk exposure by the Bank.
This VaR computation for the equity trading portfolio considers a quarterly time horizon.

8.4.4 Interest rate risk

The principal risk to which non-trading portfolios are exposed is the risk of loss from fluctuations in the future cash flows or fair values of financial instruments because of a change in market interest rates.

Duration analysis as at 31 December 2019

Portfolio	Face Value LKR ’000	Marked-to market value LKR ’000	Duration	Interpretation of duration
Treasury Securities measured at FVOCI/LKR Bills and Bonds	56,484,827	61,442,296	2.39	Portfolio value will decline approximately by 2.39% as a result of 1% increase in the interest rates
Treasury Securities measured at FVOCI/Sovereign Bonds	2,177,160	2,260,552	1.73	Portfolio value will decline approximately by 1.73% as a result of 1% increase in the interest rates

Market risk exposure for interest rate risk in the trading portfolio as at 31 December 2019 is Nil. Market risk exposure for interest rate risk in the FVOCI Rupee portfolio as at 31 December 2019 is depicted by duration of 2.39%.

This level of interest rate risk exposure in the Rupee FVOCI portfolio can be interpreted as a possible potential loss in the marked-to-market value amounting to LKR 1,470.9 Mn, as at 31 December 2019.

Market risk exposure for interest rate risk in the FVOCI US Dollar portfolio as at 31 December 2019 is depicted by duration of 1.73%.

This level of interest rate risk exposure in the FVOCI US Dollar portfolio can be interpreted as a possible potential loss in the marked-to-market value amounting to LKR 39.2 Mn, as at 31 December 2019.

8.4.4.1 Potential impact to NII due to change in market interest rates

Overall up to the 12-month time bucket, the Bank carried a net liability sensitive position. This sensitivity will vary for each time bucket up to the 12-month period where up to one month there is a net asset sensitive position.

The interest rate risk exposure as at 31 December 2019 is quantified based on the assumed change in the interest rates for each time period and is given in table below:

	0 to 1 month LKR ’000	Over 1 up to 3 months LKR ’000	Over 3 up to 6 months LKR ’000	Over 6 up to 12 months LKR ’000	Over 12 months LKR ’000
31 December 2019
Cash and cash equivalents	333,741	–	–	–	–
Placements with banks	165,030	–	–	–	–
Loans to and receivables from banks	27,803	3,280,028	15,304	–	5,080,040
Loans to and receivables from customers	151,965,068	7,780,400	12,106,527	14,419,459	78,745,361
Investment securities	310,454	6,219,359	3,341,870	2,852,941	72,722,083
	152,802,096	17,279,787	15,463,701	17,272,400	156,547,484
Due to banks	6,502,929	8,129,761	2,148,769	2,566,164	5,000,000
Due to other borrowers	9,178,922	8,835,038	10,163,228	3,435,505	15,511,272
Deposits from customers	75,196,582	54,615,104	49,236,046	55,107,361	8,177,872
Debt securities in issue	–	–	3,000,000	–	10,000,000
Subordinated liabilities	–	–	2,000,000	–	14,000,000
	90,878,433	71,579,903	66,548,043	61,109,030	52,689,144
Net rate sensitive assets/(liabilities)	61,923,663	(54,300,116)	(51,084,342)	(43,836,630)	103,858,340
Assumed change in interest rates (%)	0.50	1.00	1.50	2.00
Impact	309,618	(497,751)	(574,699)	(438,366)
Total net impact if interest rates increase				(1,201,198)
Total net impact if interest rates decline				1,201,198
31 December 2018
Cash and cash equivalents	304,618	–	–	–	–
Placements with banks	425,089	–	–	–	–
Loans to and receivables from banks	29,796	4,437,577	15,434	–	8,417,080
Loans to and receivables from customers	141,488,372	7,882,526	12,494,899	14,181,994	70,646,819
Investment securities	2,472,145	1,035,292	9,915,675	14,692,556	39,576,211
	144,720,020	13,355,395	22,426,008	28,874,550	118,640,110
Due to banks	7,285,625	36,365	–	2,124,474	–
Due to other borrowers	3,567,792	1,474,741	2,230,085	5,224,951	34,920,905
Deposits from customers	82,067,918	52,592,276	49,824,583	22,962,960	28,080,954
Debt securities in issue	–	5,758,994	151,757	–	2,994,784
Subordinated liabilities	–	681,781	103,150	123,988	15,966,105
	92,921,335	60,544,157	52,309,575	30,436,373	81,962,748
Net rate sensitive assets/(liabilities)	51,798,685	(47,188,762)	(29,883,567)	(1,561,823)	36,677,362
Assumed change in interest rates (%)	0.50	1.00	1.50	2.00
Impact	258,993	(432,564)	(336,190)	(15,618)
Total net impact if interest rates increase				(525,379)
Total net impact if interest rates decline				525,379

The Bank has assumed that the assets and liabilities are repriced at the beginning of each time bucket and has also taken into account the remaining time from the repricing date up to one year.

8.4.5 Foreign exchange risk

Foreign exchange risk in net open position (NOP)/unhedged position of Bank

The following table indicates the DFCC’s exchange rate risk exposure based on its size of the NOP/unhedged positions in the foreign currency assets/liabilities. By 31 December 2019, DFCC carried a USD equivalent net open/unhedged “Overbought” position of LKR 0.038 Bn. The impact of exchange rate risk is given below:

	Amount
Net exposure – USD equivalent	213,000
Value of position in LKR ’000	38,645
Exchange rate (USD/LKR) as at 31 December 2019	181.43
Possible potential loss to Bank – LKR ’000
– If Exchange rate (USD/LKR) depreciates by 1%	386
– If exchange rate depreciates by 10%	3,864
– If exchange rate depreciates by 15%	5,797

The estimated potential exchange loss is off set by the interest gain due to interest differential between Sri Lankan Rupee and the respective foreign currencies.

8.4.6 Market risk exposures for regulatory capital assessment

Under the standardised approach of Basel III with effect from July 2017, market risk exposures are quantified for regulatory capital purposes. The computation results as at 31 December 2019 are as follows:

	Risk-weighted assets LKR ’000	Quantified possible exposure LKR ’000
Interest rate risk	12,235,896	1,529,487
Equity price risk	4,388,936	548,617
Foreign exchange and gold risk	331,520	41,440
Total	16,956,352	2,119,544

8.5 Operational risk

“Operational risk” is the risk of direct or indirect loss arising from a wide variety of causes associated with the Bank’s processes, personnel, technology, and infrastructure, and from external factors other than credit, market and liquidity risks – e.g., those arising from legal and regulatory requirements and generally accepted standards of corporate behaviour. Operational risks arise from all of the Bank’s operations.

The Bank’s objective is to manage operational risk so as to balance the avoidance of financial losses and damage to the Bank’s reputation with overall cost effectiveness and innovation. In all cases, Bank’s policy requires compliance with all applicable legal and regulatory requirements.

The following are included in the process of the operational risk management in the Bank:

1. Monitoring of the Key Risk Indicators (KRIs) for the departments/functions under the defined threshold limits using a traffic light system. Develop Risk and Control Self-Assessments to identify the risk exposure of all processes.
2. Operational risk incident reporting system and the independent analysis of the incidents by the Integrated Risk Management Department (IRMD), and recognise necessary improvements in the systems, processes and procedures.
3. Analyse downtime of the critical systems, attrition information, exit interview comments and customer complaints to identify operational risks and recommend mitigating controls. The key findings of the analysis are evaluated at the Operational Risk Management Commitee (ORMC) and the BIRMC meetings in an operational risk perspective.

The primary responsibility for the development and implementation of controls to address operational risk lies with IRMD whilst implementation is assigned to Senior Management within each business unit. Operational Risk Coordinating Officers are appointed within each department/Branch to assist in managing the Operational Risk. This responsibility is supported by the development of overall standards for management of operational risk in the following areas:

1. Requirements for appropriate segregation of duties, including independent authorisation of transactions.
2. Requirements for reconciliation and monitoring of transactions.
3. Compliance with regulatory and other legal requirements.
4. Documentation of controls and procedures.
5. Requirements for periodic assessment of operational risks faced and the adequacy of controls and procedures to address the identified risks.
6. Requirements for reporting of operational losses and propose remedial action.
7. Development of contingency plans.
8. Training and professional development to establish ethics and business standards.
9. Insurance covering risk due to threats arising from external and other events.

Compliance with the Bank’s standards is supported by a programme of periodic reviews undertaken by internal audit. The results of internal audit reviews are discussed with the business unit to which they relate, with summaries submitted to the Audit Committee and Senior Management.

8.5.1 Capital management

The Bank manages its capital at Bank and Group level considering both regulatory requirement and risk exposures. Its regulatory capital position is analysed by the BIRMC on a quarterly basis and recommendations and decisions are made accordingly. The capital management goals are as follows:

1. Ensure regulatory minimum capital adequacy requirements are not compromised.
2. Bank to maintain its international and local credit rating and to ensure that no downgrading occurs as a result of deterioration of risk capital of the Bank.
3. Ensure capital impact of business decisions are properly assessed and taken into consideration during product planning and approval process.
4. Ensure capital consumption by business actions are adequately priced.

Central Bank of Sri Lanka sets and monitors regulatory capital requirement on both consolidated and solo basis. The Bank is required to comply with the provisions of the Basel III requirements in respect of regulatory capital commencing from July 2017. The Bank currently uses the standardised approach for credit risk and market risk and basic indicator approach for operational risk.

The Basel III capital regulations, which are currently in force, will continue to be based on the three-mutually reinforcing Pillars introduced under Basel II, minimum capital requirement, supervisory review process and market discipline. Basel III focuses on increasing the quality and quantity of capital especially the Core Capital, through redefining the common equity capital and introducing new capital buffers such as the Capital Conservation Buffer and a Capital Surcharge on domestic systematically important banks. DFCC Bank started reporting capital computations under the Basel III requirements from mid 2017 as per the regulatory requirements.

Regulatory capital comprises Tier 1 capital and Tier 2 capital. The Bank’s policy is to maintain a strong capital base so as to ensure investor, creditor, and market confidence to sustain future development of the business. DFCC Bank and its Group have complied with the minimum capital requirements imposed by the Central Bank of Sri Lanka throughout the year.

8.5.1.1 Key regulatory ratios – Capital adequacy

Item	31 December 2019		31 December 2018
	Bank	Group	Bank	Group
Regulatory capital (LKR ’000)
Common equity Tier 1	34,824,554	34,908,304	31,633,211	32,106,706
Tier 1 Capital	34,824,554	34,908,304	31,633,211	32,106,706
Total Capital	48,542,925	48,626,675	47,203,364	47,676,859
Regulatory capital ratios (%)
Common equity Tier 1 Capital ratio	11.342	11.327	10.766	10.888
Minimum requirement 2019 – 7.00% (2018 – 6.375%)
Tier 1 capital ratio	11.342	11.327	10.766	10.888
Minimum requirement 2019 – 8.5% (2018 – 7.875%)
Total capital ratio	15.810	15.778	16.065	16.168
Minimum requirement 2019 – 12.5% (2018 – 11.875%)

Basel III computation of capital ratios

Item	Amount (LKR ‘000)
	31 December 2019		31 December 2018
	Bank	Group	Bank	Group
Common Equity Tier 1 (CET1) Capital after Adjustments	34,824,554	34,908,304	31,633,211	32,106,706
Common Equity Tier 1 (CET1) Capital	42,000,264	45,050,466	38,041,191	40,961,078
Equity Capital (Stated Capital)/Assigned Capital	7,530,371	7,530,371	4,715,814	4,715,814
Reserve Fund	2,461,968	2,461,968	2,358,275	2,358,275
Published retained earnings/(Accumulated retained losses)	18,228,086	21,278,288	17,187,263	20,107,150
Published accumulated Other Comprehensive Income (OCI)			–	–
General and other disclosed reserves	13,779,839	13,779,839	13,779,839	13,779,839
Unpublished current year's profit/loss and Gains reflected in OCI	–	–	–	–
Ordinary shares issued by consolidated banking and financial subsidiaries of the Bank and held by third parties	–	–	–	–
Total Adjustments to CET1 Capital	7,175,710	10,142,162	6,407,980	8,854,372
Goodwill (net)	–	156,226	–	156,226
Intangible assets (net)	1,184,659	1,205,923	668,834	686,288
Investment in capital of banks and financial institutions	5,762,829	8,648,828	5,595,930	7,867,360
Others	228,221	131,185	143,216	144,498
Additional Tier 1 (AT1) Capital after adjustments	–	–	–	–
Additional Tier 1 (AT1) Capital	–	–	–	–
Qualifying Additional Tier 1 Capital Instruments	–	–	–	–
Instruments issued by consolidated banking and financial subsidiaries of the Bank and held by third parties	–	–	–	–
Total Adjustments to AT1 Capital	–	–	–	–
Investment in own shares	–	–	–	–
Others (specify)	–	–	–	–
Tier 2 Capital after adjustments	13,718,371	13,718,371	15,570,153	15,570,153
Tier 2 Capital	13,718,371	13,718,371	15,570,153	15,570,153
Qualifying Tier 2 Capital Instruments	12,034,562	12,034,562	14,417,256	14,417,256
Revaluation gains	–	–	–	–
Loan loss provisions	1,683,809	1,683,809	1,152,897	1,152,897
Instruments issued by consolidated banking and financial subsidiaries of the Bank and held by third parties	–	–	–	–
Total adjustments to Tier 2	–	–	–	–
Investment in own shares	–	–	–	–
Others (specify)	–	–	–	–
CET1 Capital	34,824,554	34,908,304	31,633,211	32,106,706
Total Tier 1 Capital	34,824,554	34,908,304	31,633,211	32,106,706
Total Capital	48,542,925	48,626,675	47,203,364	47,676,859
Total Risk Weighted Assets (RWA)
RWAs for credit risk	274,009,885	274,759,093	262,979,953	263,746,741
RWAs for market risk	16,956,352	16,956,352	14,903,582	14,903,582
RWAs for operational risk	16,074,112	16,479,374	15,940,116	16,228,641
CET1 Capital Ratio (including capital conservation buffer, countercyclical capital buffer and surcharge on D-SIBs) (%)	11.342	11.327	10.766	10.888
of which: Capital Conservation Buffer (%)	1.25	1.25	1.875	1.875
of which: Countercyclical Buffer (%)	N/A	N/A	N/A	N/A
of which: Capital Surcharge on D-SIBs (%)	N/A	N/A	N/A	N/A
Total Tier 1 Capital Ratio (%)	11.342	11.327	10.766	10.888
Total Capital Ratio (including Capital Conservation Buffer, Countercyclical Capital Buffer and Surcharge on D-SIBs) (%)	15.810	15.778	16.065	16.168
of which: Capital Conservation Buffer (%)	1.25	1.25	1.875	1.875
of which: Countercyclical Buffer (%)	N/A	N/A	N/A	N/A
of which: Capital Surcharge on D-SIBs (%)	N/A	N/A	N/A	N/A

See accounting policy in Note 5.3.5.

9.1 Valuation models

The Group measures fair values using the following fair value hierarchy, which reflects the significance of the inputs used in making the measurements.

Level 1: Inputs that are quoted market prices (unadjusted) in active markets for identical instruments.

Level 2: Inputs other than quoted prices included within Level 1 that are observable either directly (i.e., as prices) or indirectly (i.e., derived from prices). This category includes instruments valued using: quoted market prices in active markets for similar instruments; quoted prices for identical or similar instruments in markets that are considered less than active; or other valuation techniques in which all significant inputs are directly or indirectly observable from market data.

Level 3: Inputs that are unobservable. This category includes all instruments for which the valuation technique includes inputs that are not observable and the unobservable inputs have a significant effect on the instrument’s valuation. This category includes instruments that are valued based on quoted prices for similar instruments for which significant unobservable adjustments or assumptions are required to reflect differences between the instruments.

Valuation techniques include net present value and discounted cash flow models, comparison with similar instruments for which observable market prices exist, and other valuation models. Assumptions and inputs used in valuation techniques include risk-free and benchmark interest rates, credit spreads and other premiums used in estimating discount rates, bond and equity prices, foreign currency exchange rates, equity and equity index prices and expected price volatilities and correlations.

The objective of valuation techniques is to arrive at a fair value measurement that reflects the price that would be received to sell the asset or paid to transfer the liability in an orderly transaction between market participants at the measurement date.

The Group uses widely recognised valuation models for determining the fair value of common and more simple financial instruments, like Government Securities, interest rate and currency swaps that use mostly observable market data and require little management judgement and estimation. Observable prices and model inputs are usually available in the market for listed debt and equity securities, Government Securities and simple over the counter derivatives like forward exchange contracts and interest rate swaps. Availability of observable market prices and model inputs reduces the need for management judgement and estimation and also reduces the uncertainty associated with determination of fair values. Availability of observable market prices and inputs varies depending on the products and markets and is prone to changes based on specific events and general conditions in the financial markets.

Fair value estimates obtained from models are adjusted for any other factors, such as liquidity risk or model uncertainties, to the extent that the Group believes that a third party market participant would take them into account in pricing a transaction.

Model inputs and values are calibrated against historical data and published forecasts and, where possible, against current or recent observed transactions in different instruments and against broker quotes. This calibration process is inherently subjective and it yields ranges of possible inputs and estimates of fair value, and management uses judgement to select the most appropriate point in the range.

9.2 Valuation framework

The established control framework with respect to the measurement of fair values, includes an oversight which is independent of front office management. Treasury Middle Office has overall responsibility for independently verifying the results of trading and investment operation.

Specific controls include:

• Verification of observable pricing
• Review and approval process for new models and changes to models involving both product control and group market risk
• Calibration and back testing of models
• Stress testing

When third party information, such as broker quotes or pricing services is used to measure fair value, the evidence so obtained to support the conclusion that such valuations meet the requirements of SLFRSs/LKASs is documented.

This includes:

• Verifying that the broker or pricing service is approved by the Bank for use in pricing the relevant type of financial instrument
• Several quotes obtained from randomly selected brokers for the same financial instrument and the fair value determined on this basis

Any changes to the fair value methodology is reported to the Bank’s Audit Committee.

9.3 Financial instruments measured at fair value – Fair value hierarchy

The following table analyses financial instruments measured at fair value at the reporting date, by the level in the fair value hierarchy into which the fair value measurement is categorised. The amounts are based on the values recognised in the statement of financial position. The fair values include any deferred differences between the transaction price and the fair value on initial recognition when the fair value is based on a valuation technique that uses unobservable inputs.

As at 31 December 2019	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Total LKR '000
Bank/Group
Financial assets
Derivative financial assets	29
Forward foreign exchange contracts		–	631,438	–	631,438
Financial assets measured at fair value through profit or loss	30
Equity securities – quoted		4,777,423	–	–	4,777,423
Units in unit trusts – quoted		3,740	–	–	3,740
Units in unit trusts – unquoted		–	525,903	–	525,903
Financial assets measured at fair value through other comprehensive income	34				–
Government of Sri Lanka Treasury Bills and Bonds		61,442,296	–	–	61,442,296
Sri Lanka Sovereign Bonds		2,260,552	–	–	2,260,552
Equity securities – quoted		8,812,702	–	–	8,812,702
Equity securities – unquoted		–	–	200,357	200,357
Preference shares		–	–	500	500
		77,296,713	1,157,341	200,857	78,654,911
Financial liabilities
Derivative financial liabilities	29
Forward foreign exchange contracts		–	518,731	–	518,731
		–	518,731	–	518,731

 

As at 31 December 2018	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Total LKR '000
Bank/Group
Financial assets
Derivative financial assets	29
Forward foreign exchange contracts		–	3,414,549	–	3,414,549
Financial assets measured at fair value through profit or loss	30
Equity securities – quoted		5,386,889	–	–	5,386,889
Units in unit trusts – quoted		169,025	–	–	169,025
Units in unit trusts – unquoted		–	522,948	–	522,948
Financial assets measured at fair value through other comprehensive income	34
Government of Sri Lanka Treasury Bills and Bonds		44,032,404	–	–	44,032,404
Sri Lanka Sovereign Bonds		876,579	–	–	876,579
Equity securities – quoted		10,215,281	–	–	10,215,281
Equity securities – unquoted		–	–	188,789	188,789
Preference shares		–	–	500	500
		60,680,178	3,937,497	189,289	64,806,964
Financial liabilities
Derivative financial liabilities	29
Forward foreign exchange contracts		–	121,373	–	121,373
		–	121,373	–	121,373

As Treasury Bills/Bonds are valued using Central Bank published rates, investments in Treasury Bills/Bonds are classified under Level 1. Other securities which are listed in Colombo Stock Exchange are also classified as Level 1 asset by referring to the quoted prices.

9.3.1 Valuation techniques and significant unobservable inputs

The following table shows the valuation techniques used in measuring Level 2 and Level 3 fair values for financial instruments in the statement of financial position, as well as the significant unobservable inputs used.

Type	Valuation technique	Significant unobservable inputs	Inter-relationship between significant unobservable inputs and fair value measurement
Unquoted equity shares	Net asset approach: The fair value is determining based on the net assets value of the unquoted equity share	Net asset value per share	The estimated fair value would increase/(decrease) if the adjusted net asset value per share were higher/(lower)
Forward exchange contracts	Forward pricing: The fair value is determined using quoted forward exchange rates at the reporting date and present value calculations based on high credit quality yield curves in the respective currencies.	Not applicable	Not applicable
Interest rate swaps/Cross currency swaps	Swap models: The fair value is calculated as the present value of the estimated future cash flows. Estimates of future floating-rate cash flows are based on quoted swap rates, futures prices and interbank borrowing rates. Estimated cash flows are discounted using a yield curve constructed from similar sources and which reflects the relevant benchmark interbank rate used by market participants for this purpose when pricing interest rate swaps. The fair value estimate is subject to a credit risk adjustment that reflects the credit risk of the Group and of the counterparty; this is calculated based on credit spreads derived from current credit default swap or bond prices.	Not applicable	Not applicable
Units in unit trusts – unquoted	The fair value is determined by using the Daily Prices published by the Unit Trust managers (which is derived by dividing the net asset value by the number of units)	Not applicable	Not applicable

9.3.2 Transfers between Levels 1 and 2

There were no transfers from Level 1 to Level 2 or Level 2 to Level 1 in 2019 and no transfers in either direction in 2018.

9.3.3 Level 3 recurring fair values

9.3.3.1 Reconciliation of Level 3 fair values

The following table shows a reconciliation from the opening balances to the closing balances for Level 3 fair values:

	Equity securities
	Bank/Group
	2019 LKR '000	2018 LKR '000
Balance at 1 January	188,789	249,294
Purchased during the year	1,000	–
Gain included in OCI
– Net change in fair value (unrealised)	10,568	(60,505)
Balance at 31 December	200,357	188,789

9.3.3.2 Transfer out of Level 3

There were no transfers out of Level 3 and no transfers out of Level 2 in 2019.

9.3.3.3 Sensitivity analysis

For the fair values of equity securities, reasonably possible changes at the reporting date to one of the significant unobservable inputs, holding other inputs constant, would have the following effects:

	OCI, net of tax
Equity securities As at 31 December 2019	Increase LKR '000	Decrease LKR '000
Adjusted net assets value (5% movement)	10,018	(10,018)

9.4 Financial instruments not measured at fair value

The following table sets out the fair values of financial instruments not measured at fair value and analyses them by the level in the fair value hierarchy into which each fair value measurement is categorised:

As at 31 December 2019	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Fair value LKR '000	Carrying amount LKR '000
Bank
Assets
Cash and cash equivalents	26	–	5,450,209	–	5,450,209	5,450,209
Balances with Central Bank of Sri Lanka	27	–	8,666,547	–	8,666,547	8,666,547
Placements with banks	28	–	165,030	–	165,030	165,030
Financial assets at amortised cost – Loans to and receivables from banks	31	–	8,403,175	–	8,403,175	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	269,198,869	269,198,869	272,818,311
Financial assets at amortised cost – Debt and other instruments	33	20,531,578	1,724,319	–	22,255,897	21,743,857
Other assets	42	–	–	2,148,567	2,148,567	2,148,567
Total		20,531,578	24,409,280	271,347,436	316,288,294	319,395,696
Liabilities
Due to banks	44	–	24,594,828	–	24,594,828	24,594,828
Financial liabilities at amortised cost – Due to depositors	45	–	–	248,066,585	248,066,585	247,786,974
Financial liabilities at amortised cost – Due to other borrowers	46	–	–	47,307,556	47,307,556	47,307,556
Debt securities in issue	47	–	14,708,677	–	14,708,677	14,148,198
Other liabilities	50	–	–	3,786,445	3,786,445	3,786,445
Subordinated term debt	51	–	17,389,799	–	17,389,799	16,859,914
Total		–	56,693,304	299,160,586	355,853,890	354,483,915

 

As at 31 December 2018	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Fair value LKR '000	Carrying amount LKR '000
Assets
Cash and cash equivalents	26	–	5,039,629	–	5,039,629	5,039,629
Balances with Central Bank of Sri Lanka	27	–	11,841,814	–	11,841,814	11,841,814
Placements with banks	28	–	425,087	–	425,087	425,087
Financial assets at amortised cost – Loans to and receivables from banks	31	–	12,854,880	–	12,854,880	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	245,484,907	245,484,907	249,733,718
Financial assets at amortised cost – Debt and other instruments	33	16,846,671	2,147,755	–	18,994,426	22,874,088
Other assets	42	–	–	2,309,581	2,309,581	2,309,581
Total		16,846,671	32,309,165	247,794,488	296,950,324	305,078,797
Liabilities
Due to banks	44	–	9,446,464	–	9,446,464	9,446,464
Financial liabilities at amortised cost – Due to depositors	45	–	–	241,998,898	241,998,898	242,237,596
Financial liabilities at amortised cost – Due to other borrowers	46	–	–	47,413,727	47,413,727	47,413,727
Debt securities in issue	47	–	8,137,682	–	8,137,682	8,898,441
Other liabilities	50	–	–	3,264,345	3,264,345	3,264,345
Subordinated term debt	51	–	16,397,686	–	16,397,686	16,855,352
Total		–	33,981,832	292,676,970	326,658,802	328,115,925

 

As at 31 December 2019	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Fair value LKR '000	Carrying amount LKR '000
Group
Assets
Cash and cash equivalents	26	–	5,459,359	–	5,459,359	5,459,359
Balances with Central Bank of Sri Lanka	27	–	8,666,547	–	8,666,547	8,666,547
Placements with banks	28	–	200,441	–	200,441	200,441
Financial assets at amortised cost – Loans to and receivables from banks	31	–	8,403,175	–	8,403,175	8,403,175
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	269,198,868	269,198,868	272,818,311
Financial assets at amortised cost – Debt and other instruments	33	20,531,578	1,724,319	–	22,255,897	21,743,857
Other assets	42	–	–	2,238,053	2,238,053	2,238,053
Total		20,531,578	24,453,841	271,436,921	316,422,340	319,529,743
Liabilities
Due to banks	44	–	24,594,828	–	24,594,828	24,594,828
Financial liabilities at amortised cost – Due to depositors	45	–	–	248,066,585	248,066,585	247,457,696
Financial liabilities at amortised cost – Due to other borrowers	46	–	–	47,307,556	47,307,556	47,307,556
Debt securities in issue	47	–	14,708,677	–	14,708,677	14,148,198
Other liabilities	50	–	–	3,907,977	3,907,977	3,907,977
Subordinated term debt	51	–	17,389,799	–	17,389,799	16,859,914
Total		–	56,693,304	299,282,118	355,975,422	354,276,169

 

As at 31 December 2018	Notes	Level 1 LKR '000	Level 2 LKR '000	Level 3 LKR '000	Fair value LKR '000	Carrying amount LKR '000
Assets
Cash and cash equivalents	26	–	5,049,823	–	5,049,823	5,049,823
Balances with Central Bank of Sri Lanka	27	–	11,841,814	–	11,841,814	11,841,814
Placements with banks	28	–	439,727	–	439,727	439,727
Financial assets at amortised cost – Loans to and receivables from banks	31	–	12,854,880	–	12,854,880	12,854,880
Financial assets at amortised cost – Loans to and receivables from other customers	32	–	–	245,484,907	245,484,907	249,733,718
Financial assets at amortised cost – Debt and other instruments	33	16,846,671	2,147,755	–	18,994,426	22,874,088
Other assets	42	–	–	2,347,579	2,347,579	2,347,579
Total		16,846,671	32,333,999	247,832,486	297,013,156	305,141,629
Liabilities
Due to banks	44	–	9,446,464	–	9,446,464	9,446,464
Financial liabilities at amortised cost – Due to depositors	45	–	–	241,676,172	241,676,172	241,914,870
Financial liabilities at amortised cost – Due to other borrowers	46	–	–	47,388,679	47,388,679	47,388,679
Debt securities in issue	47	–	8,137,682	–	8,137,682	8,898,441
Other liabilities	50	–	–	3,421,922	3,421,922	3,421,922
Subordinated term debt	51	–	16,397,686	–	16,397,686	16,855,352
Total		–	33,981,832	292,486,773	326,468,605	327,925,728

Given below is the basis adopted by the Bank/Group in order to establish the fair values of the financial instruments:

9.4.1 Cash and cash equivalents and placements with banks

Carrying amounts of cash and cash equivalents and placements with banks approximates their fair value as these balances have a remaining maturity of less than three months from the reporting date.

9.4.2 Loans to and receivables from banks and other customers – Lease rentals receivable

The estimated fair value of lease rentals receivable is the present value of future cash flows expected to be received from such finance lease facilities calculated based on current interest rates for similar type of facilities.

9.4.3 Loans to and receivables from banks and other customers – Other loans

	Composition (%)
Floating rate loan portfolio	60
Fixed rate loans
– With remaining maturity less than one year	22
– Others	18

Since the floating rate loans can be repriced monthly, quarterly and semi-annually in tandem with market rates fair value of these loans is approximately same as the carrying value. Carrying amount of fixed rate loans with a remaining maturity of less than one year approximates the fair value.

Based on the results of the fair value computed on the lease rentals receivable, it is estimated that the fair value of the other loans at fixed interest rates with maturity of more than one year is not materially different to its carrying value as at the reporting date.

9.4.4 Financial assets at amortised cost – Debt and other instruments

Fair value of the fixed rate debentures are based on prices quoted in the Colombo Stock Exchange, where there is an active market for quoted debentures.

Where there is no active market, fair value of the fixed rate debentures has been determined by discounting the future cash flows by the interest rates derived with reference to Government Treasury Bond rates with adjustments to risk premiums at the time of investment.

9.4.5 Due to banks

Carrying value of amounts due to banks approximates their fair value as these balances have a remaining maturity of less than one year from the reporting date.

9.4.6 Due to other customers

The carrying value of deposits with a remaining maturity of less than one year approximates the fair value.

Fair values of deposits with a remaining maturity of more than one year is estimated using discounted cash flows applying current interest rates offered for deposits of similar remaining maturities.

The fair value of a deposit repayable on demand is assumed to be the amount payable on demand at the reporting date and the savings account balances are repriced frequently to match with the current market rates, therefore the demand and saving deposits carrying amounts are reasonable approximation to the fair values as at the reporting date.

9.4.7 Other borrowing

This consists of borrowings sourced from multilateral and bilateral institutions. 70% of these borrowing are repriced either monthly, quarterly or semi-annually and rates are revised in line with changes in market rates. Hence the carrying value of these borrowings approximates the fair value.

The others at fixed rates which relates to borrowings on credit lines are based on interest rates which are specific to each refinancing arrangement and as such there are no comparable market rates. Hence, the fair value approximates the carrying value.

9.4.8 Debt securities in issue

Debts issued comprise the LKR debentures. The LKR debentures are fair valued by reference to current Government Treasury Bond rates with a risk premium.

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Interest income (Note 11.1.1)	42,060,055	38,148,193	42,062,054	38,149,896
Fee and commission income (Note 12.1.1)	2,165,314	2,012,563	2,162,006	2,012,443
Net loss from trading (Note 13)	(87,116)	(366,657)	(87,116)	(366,657)
Net fair value (loss)/gains from financial instruments at fair value through profit or loss (Note 14)	(2,633,183)	2,650,664	(2,633,183)	2,650,664
Net gains from derecognition of financial assets (Note 15)	209,890	19,114	209,890	19,114
Net other operating income (Note 16)	1,582,055	(3,310,003)	1,934,636	(3,016,974)
	43,297,015	39,153,874	43,648,287	39,448,486

Accounting Policy

Effective interest rate
Interest income and expense are recognised in income statement using the effective interest method.

The “effective interest rate” is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument to:

• the gross carrying amount of the financial asset; or
• the amortised cost of the financial liability.

When calculating the effective interest rate for financial instruments other than purchased or originated creditimpaired assets, the Group estimates future cash flows considering all contractual terms of the financial instrument, but not ECL. For purchased or originated credit impaired financial assets, a credit-adjusted effective interest rate is calculated using estimated future cash flows including ECL.

The calculation of the effective interest rate includes transaction costs and fees and points paid or received that are an integral part of the effective interest rate. Transaction costs include incremental costs that are directly attributable to the acquisition or issue of a financial asset or financial liability.

Amortised cost and gross carrying amount
The “amortised cost” of a financial asset or financial liability is the amount at which the financial asset or financial liability is measured on initial recognition minus the principal repayments, plus or minus the cumulative amortisation using the effective interest method of any difference between that initial amount and the maturity amount and, for financial assets, adjusted for any expected credit loss allowance. The “gross carrying amount of a financial asset” is the amortised cost of a financial asset
before adjusting for any expected credit loss allowance.

Calculation of interest income and expense
The effective interest rate of a financial asset or financial liability is calculated on initial recognition of a financial asset or a financial liability. In calculating interest income and expense, the effective interest rate is applied to the gross carrying
amount of the asset (when the asset is not credit impaired) or to the amortised cost of the liability. The effective interest rate is revised as a result of periodic re-estimation of cash flows of floating-rate instruments to reflect movements in market rates
of interest. The effective interest rate is also revised for fair value hedge adjustments at the date on which amortisation of the hedge adjustment begins.

From 1 January 2018, with the adoption of Sri Lanka
Accounting Standard – SLFRS 9 on “Financial Instruments” the Bank has aligned its interest recognition policy with internal risk management practices. As per the internal risk management policies of the Bank, the facilities are considered to be credit impaired when three or more instalments are in arrears and the Bank has estimated that the probability of recoverability of the interest income from such loan facilities are low. Accordingly the Bank discontinues recognition of interest income on such
loan facilities and cash flows are assessed based on the amortised cost net of interest. If the asset is no longer credit impaired the calculation of interest income reverts to the gross basis.

11.1 Composition

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Interest income (Note 11.1.1)	42,060,055	38,148,193	42,062,054	38,149,896
Interest expenses (Note 11.1.2)	(29,397,598)	(25,733,360)	(29,363,105)	(25,691,119)
Net interest income	12,662,457	12,414,833	12,698,949	12,458,777

11.1.1 Interest income

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Placements with banks	195,841	274,164	198,193	275,868
Financial assets measured at fair value through profit or loss	12,105	63,624	12,105	63,624
Financial assets at amortised cost – Loans to and receivables from banks	648,557	659,520	648,204	659,520
Financial assets at amortised cost – Loans to and receivables from other customers	34,626,817	31,196,112	34,626,817	31,196,112
Financial assets at amortised cost – Debt and other instruments	2,049,050	2,160,287	2,049,050	2,160,287
Financial assets measured at fair value through other comprehensive income	4,527,685	3,794,486	4,527,685	3,794,485
Total interest income	42,060,055	38,148,193	42,062,054	38,149,896

11.1.2 Interest expenses

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Due to banks	1,371,203	871,842	1,371,237	871,842
Financial liabilities at amortised cost – Due to depositors	21,900,545	18,730,263	21,863,289	18,688,021
Financial liabilities at amortised cost – Due to other borrowers	2,703,845	2,179,549	2,706,574	2,179,549
Debt securities in issue	3,422,005	3,951,706	3,422,005	3,951,707
Total interest expenses	29,397,598	25,733,360	29,363,105	25,691,119

The amounts reported above include interest income and expense, calculated using the effective interest method, that relate to the following financial assets and financial liabilities.

	BANK		GROUP
As at 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Financial assets measured at amortised cost	319,395,696	305,078,797	319,529,743	305,141,629
Financial assets measured at fair value through other comprehensive income	72,716,407	55,313,553	72,716,407	55,313,553
Total	392,112,103	360,392,350	392,246,150	360,455,182
Financial liabilities measured at amortised cost	354,483,915	328,115,925	354,276,169	327,925,728

Accounting Policy

Fee and commission income and expense that are integral to the effective interest rate on a financial asset or liability are included in the measurement of the effective interest rate.

Other fees and commission income are recognised as the related services are performed. When a loan commitment is not expected to result in the draw down of a loan,
the related loan commitment fees are recognised on a straight-line basis over the commitment period.

A contract with a customer that results in a recognised financial instrument in the Group’s financial statements may be partially in the scope of SLFRS 9 and partially in the scope of SLFRS 15. If this is the case, then the Group first
applies SLFRS 9 to separate and measure the part of the contract that is in the scope of SLFRS 9 and then applies SLFRS 15 to the residual.

Fees for guarantees and trade related commissions are recognised on a straight-line basis over the period of the contract. Other fees and commission expense relate mainly to transaction and service fees, which are expensed, as the
services are received.

12.1 Composition

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Fee and commission income (Note 12.1.1)	2,165,314	2,012,563	2,162,006	2,012,443
Fee and commission expenses	119,603	68,622	119,603	68,622
Net fee and commission income	2,045,711	1,943,941	2,042,403	1,943,821

12.1.1 Disaggregation of fee and commission income

In the following table, fee and commission income from contracts with customers in the scope of SLFRS 15 is disaggregated by major type of services.

Major service lines

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Loans and advances	812,655	708,689	812,655	708,569
Credit cards	115,454	38,311	115,454	38,311
Trade and remittances	544,193	541,248	544,193	541,248
Customer accounts	412,037	444,792	412,037	444,792
Guarantees	268,312	259,962	268,312	259,962
Others (Management, consulting and other fees)	12,663	19,561	9,355	19,561
Fee and commission income	2,165,314	2,012,563	2,162,006	2,012,443

12.1.2 Performance obligations and revenue recognition policies

Fee and commission income from contracts with customers is measured based on the consideration specified in a contract with a customer. The Group recognises revenue when it transfers control over a service to a customer.

The following table provides information about the nature and timing of the satisfaction of performance obligations in contracts with customers, including significant payment terms, and the related revenue recognition policies.

Type of service	Nature and timing of satisfaction of performance obligations, including significant payment terms	Revenue recognition under IFRS 15
Retail and corporate banking service	The Bank provides banking services to retail and corporate customers, including account management, provision of overdraft facilities, foreign currency transactions, credit card and servicing fees.	Revenue from account service and servicing fees is recognised over time as the services are provided.
	Fees for ongoing account management are charged to the customer’s account on a monthly basis. The Bank sets the rates separately for retail and corporate banking customers in each jurisdiction on an annual basis.	Revenue related to transactions is recognised at the point in time when the transaction takes place.
	Transaction-based fees for interchange, foreign currency transactions and overdrafts are charged to the customer’s account when the transaction takes place.
	Servicing fees are charged on a monthly basis and are based on fixed rates reviewed annually by the Bank.

Accounting Policy

Results arising from trading activities include all gains and losses from realised and unrealised fair value changes, related capital gains and losses, dividend income from trading assets and trading liabilities and foreign exchange differences.

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Foreign exchange from banks	538,838	402,015	538,838	402,015
Government Securities
Net marked to market loss	–	(726)	–	(726)
Net capital gain/(loss)	21,072	(40,639)	21,072	(40,639)
Equities
Net marked to market loss	(919,614)	(1,018,554)	(919,614)	(1,018,554)
Net capital gain	7,912	21,000	7,912	21,000
Dividend income	264,676	270,247	264,676	270,247
	(87,116)	(366,657)	(87,116)	(366,657)

Accounting Policy

The Bank has non-trading derivatives held for risk management purposes (e.g., forward foreign exchange purchase or sale contracts) that do not form part of qualifying hedge relationship, that are mandatorily fair valued through profit or loss.
In respect of such financial instruments, all unrealised fair value changes and foreign exchange differences are included.

14.1 Net income from financial instruments mandatorily measured at FVTPL other than those included in “net trading income”

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Forward exchange fair value changes
– Contracts with commercial banks	(2,578,178)	2,688,008	(2,578,178)	2,688,008
– Contract with CBSL	–	58,990	–	58,990
Loss on financial assets fair value through profit or loss Equity securities	(48,042)	(107,883)	(48,042)	(107,883)
Interest rate swap fair value changes	(6,963)	11,549	(6,963)	11,549
	(2,633,183)	2,650,664	(2,633,183)	2,650,664

Forward exchange fair value changes on contracts with commercial banks includes the unrealised gain/(loss) on derivatives carried for risk management purposes, after netting off the spot movement arising from the long-term foreign currency liabilities designated as hedge item as per the fair value hedge applied by the Bank (Note 29.3). The Bank has applied the fair value hedge accounting for a part of its foreign currency liabilities using forward contracts during the year 2019.

Accounting Policy

“Net gains from derecognition of financial assets” comprised realised gains less losses related to debt instruments measured at FVOCI and financial assets measured at amortised cost and FVTPL as per SLFRS 9.

	BANK		GROUP
For the year ended 31 December	2019 LKR '000	2018 LKR '000	2019 LKR '000	2018 LKR '000
Fair value through profit or loss
Gain on sale of equity securities	99,040	15,908	99,040	15,908
Fair value through other comprehensive income
Gain on sale of Government Securities	110,850	3,206	110,850	3,206
	209,890	19,114	209,890	19,114