Annual Report 2007
Transcription
Annual Report 2007
Annual Report 2007 Contents 4 Bank’s Profile 5 Financial Highlights 9 Statement by the First General Manager 12 Management Team 13 Corporate Governance, Equity, and Ownership Structure 18 Overview of the Bank’s Financial Results for the Year 2007 21 Risk Management 23 Retail Banking 25 Branch Network 27 Corporate Banking 29 Banking Services 31 Internal Audit 31 Prevention of Money-Laundering 32 Information System Security 32 Human Resources and Organization 36 Consolidated Financial Statements for the Year ended 31 December 2007 104 Unconsolidated Financial Statements for the Year ended 31 December 2007 107 Consolidated Financial Statements prepared in accordance with International Financial Reporting Standards for the Year ended 31 December 2007 174 Unconsolidated Financial Statements prepared in accordance with International Financial Reporting Standards for the Year ended 31 December 2007 NLB TUTUNSKA BANKA 2 ANNUAL REPORT 2007 Vision NLB TUTUNSKA BANKA 3 ANNUAL REPORT 2007 Bank’s Profile Bank’s Profile NLB Tutunska banka AD Skopje is one of the leading banking institutions in the Republic of Macedonia, with a constant growth trend and positive results since its establishment. It was founded in 1985 and has been operating as a commercial bank since 1993, performing all financial and banking services for its customers, both in the country and abroad. The Bank is classified as a large bank and, according to its total net assets, it is the third largest bank in the Republic of Macedonia. The Bank’s strategic partners are Nova Ljubljanska banka d.d. Ljubljana, LHB Internationale Handelsbank AG Frankfurt, and NLB InterFinanz AG Zurich, i.e. the NLB Group. The Group owns 85.84% of the Bank’s overall capital, while the remaining portion of 14.16% is owned by domestic and foreign legal entities and individuals. Membership in the NLB Group and the Bank’s corporate brand bring a new quality of operation, which ensures the transfer of knowledge, experience and technology, as well as access to foreign capital markets. NLB Tutunska banka is one of the most successful banks in the Group. The Bank’s success is due to the implementation of high quality standards of operation, its modern Information Technology (IT) infrastructure, successful market strategy, as well as its professional management, altogether strengthened by the NLB brand. The Bank stress particular importance of the Group’s corporate values and its corporate social responsibility. The Bank is strategically committed to support and finance the development of small and mediumsized companies, which are entities with a high potential to grow into leaders of economic development. The Bank is a significant player in all financial developments in the Republic of Macedonia and a promoter of Macedonian business in international markets, thus directly influencing the development of the national economy. The Bank pays special attention to the enhancement and segmentation of its products and services offer for the retail segment, as well as to facilitating access to them by investing in a modern branch network comprised of 33 modern branches organised as small banks. The Bank also invests in the development of depersonalized sales channels, the promotion of card operations, and e-banking. The Bank has been active on the capital market since 1996 through its brokerage house NLB Tutunska broker AD Skopje, which is one of the founders of the Macedonian Stock Exchange and one of the leading brokerage houses in the Republic of Macedonia. NLB Tutunska banka, along with Nova Ljubljanska banka d.d. Ljubljana, is owner and founder of the pension fund management company - Nov penziski fond AD Skopje, as part of the second pillar of the pension system of the Republic of Macedonia. In recognition of its success, NLB Tutunska banka AD Skopje has won a number of international and national awards, the most outstanding of which are the recognition for Bank of the Year for 2003, 2006 and 2007 in the Republic of Macedonia, awarded by the financial magazine “The Banker”, as well as recognitions from Finance Central Europe for Best Bank by Gross Profit in Macedonia for 2002, 2003, 2004 and 2006 and Best Bank by ROE (return on equity) in 2005, the Good Corporate Governance Certificate from Transparency - No Corruption, as well as the 2006 Recognition Award from Deutsche Bank London. Mission Statement Our goal is to be among the leading financial institutions in the country. To provide a higher level of service quality, a modern offer of new products, and to build the Bank’s tradition. To make profit through efficient and cost-effective operation. NLB TUTUNSKA BANKA 4 ANNUAL REPORT 2007 Financial Highlights Financial Highlights Table 1: Selected financial data for the Bank, derived on the basis of its non-consolidated audited financial statements, prepared in accordance with legislative applied in Republic of Macedonia in thousands of MKD Income (for the period) 2007 2006¹ 2005 1,478,371 1,182,374 935,977 Net fee and commission income 464,418 361,433 325,308 Profit before provisions and taxes 1,086,877 917,886 760,847 Profit before taxes 626,989 484,110 416,909 Net profit for the period 552,581 406,082 361,291 Net interest income Balance (end of year) 2007 2006 2005 Total assets 42,474,928 29,460,698 22,440,242 Loans and advances to customers 22,699,921 15,707,331 11,659,229 Deposits from customers 27,354,371 18,542,382 12,737,369 Other borrowed funds 8,513,645 5,959,529 6,037,506 Capital and reserves 3,761,918 2,833,279 2,760,064 Equity 2,396,328 1,662,288 1,662,288 Operational ratios² 2007 2006 2005 ROA return on total assets (before taxes) 1.74% 1.87% 2.14% ROA return on total assets (after taxes) 1.54% 1.56% 1.86% ROE return on equity (before taxes) 22.87% 20.63% 18.13% ROE return on equity (after taxes) 19.61% 16.83% 15.41% Net interest margin³ 3.67% 4.44% 4.56% Equity / Total assets 6.16% 6.39% 8.39% Capital adequacy 12.90% 12.17% 14.44% Cost / Income Ratio 48.81% 45.58% 46.52% Facts and figures 2007 2006 2005 532 532 295 Number of shareholders 785,621 693,866 693,866 Dividend per share (in MKD) Number of shares 713 537 484 Dividend / Nominal value per share 71% 54% 48% 21.21% 22.42% 20.20% Net profit / Number of shares 775 585 521 Number of employees 564 436 359 Branches and counters 33 24 22 Official Central Bank rate (end of year) 2007 2006 2005 EUR 1=MKD 61.20 61.17 61.18 USD 1=MKD 41.66 46.45 51.86 Dividend / Equity Note: 1) According to the application of IFRS in Macedonia, certain items of the income statement were reconciled 2) Operational ratios have been calculated on the average balance of the Bank’s capital and assets 3) Net interest margin has been calculated on the average balance of gross assets less trust assets and common consumption fund NLB TUTUNSKA BANKA 5 ANNUAL REPORT 2007 Financial Highlights Table 2: Selected financial data for the Group, derived on the basis of its consolidated audited financial statements, prepared in accordance with legislative applied in Republic of Macedonia in thousands MKD Income (for the period) 2007 2006¹ 2005 1,484,459 1,185,901 937,200 Net fee and commission income 499,621 379,997 343,734 Profit before provisions and taxes 1,123,261 943,531 781,413 Net interest income Profit before taxes 664,283 508,235 422,481 Net profit for the period 587,306 427,533 365,839 Balance (end of year) 2007 2006 2005 Total assets 42,705,889 29,580,934 22,533,701 Loans and advances to customers 22,699,921 15,707,331 11,659,229 Deposits from customers 27,376,943 18,546,295 12,745,816 Other borrowed funds 8,513,645 5,959,529 6,037,506 Capital and reserves 3,985,660 2,944,040 2,841,762 Operational ratios² 2007 2006 2005 ROA return on total assets (before taxes) 1.84% 1.95% 2.16% ROA return on total assets (after taxes) 1.62% 1.64% 1.87% ROE return on equity (before taxes) 23.08% 20.94% 17.94% ROE return on equity (after taxes) 19.86% 17.13% 15.24% 2007 2006 2005 Number of employees 572 440 363 Branches and counters 33 24 22 Official Central Bank rate (end of year) 2007 2006 2005 EUR 1=MKD 61.20 61.17 61.18 USD 1=MKD 41.66 46.45 51.86 Facts and figures Note: 1) According to the application of IFRS in Macedonia, certain items of the income statement were reconciled 2) Operational ratios have been calculated on the average balance of the Group’s capital and assets NLB TUTUNSKA BANKA 6 ANNUAL REPORT 2007 Financial Highlights Table 3: Selected financial data for the Bank, derived on the basis of its non-consolidated audited financial statements, prepared in accordance with the International Financial Reporting Standards in thousands MKD Income (for the period) 2007 2006¹ 2005 1,478,371 1,182,374 935,977 Net fee and commission income 464,418 361,433 325,308 Profit before provisions and taxes 1,087,249 917,832 754,889 Profit before taxes 631,183 482,305 419,032 Net profit for the period 556,775 404,277 363,096 Balance (end of year) 2007 2006 2005 Total assets 42,468,411 29,450,265 22,436,504 Loans and advances to customers 22,699,921 15,707,331 11,659,229 Deposits from customers Net interest income 27,354,371 18,542,382 12,737,369 Other borrowed funds 8,513,645 5,959,529 6,037,506 Capital and reserves 3,755,434 2,822,846 2,755,322 Equity 2,396,328 1,662,288 1,662,288 Operational ratios² 2007 2006 2005 ROA return on total assets (before taxes) 1.76% 1.86% 2.15% ROA return on total assets (after taxes) 1.55% 1.56% 1.87% ROE return on equity (before taxes) 23.10% 20.63% 18.21% ROE return on equity (after taxes) 19.82% 16.81% 15.47% Equity / Total assets 6.16% 6.23% 8.17% Capital adequacy 12.90% 12.17% 14.44% Cost / Income Ratio 48.80% 46.28% 47.06% Facts and figures 2007 2006 2005 532 532 295 785,621 693,866 693,866 Dividend per share (in MKD) 713 537 484 Dividend / Nominal value per share 71% 54% 48% 21.21% 22.42% 20.20% Net profit / Number of shares 781 583 523 Number of employees 564 436 359 33 24 22 Official Central Bank rate (end of year) 2007 2006 2005 EUR 1=MKD 61.20 61.17 61.18 USD 1=MKD 41.66 46.45 51.86 Number of shareholders Number of shares Dividend / Equity Number of Branches and Counters Note: 1) According to the application of IFRS in Macedonia, certain items of the income statement were reconciled 2) Operational ratios have been calculated on the average balance of the Bank’s capital and assets NLB TUTUNSKA BANKA 7 ANNUAL REPORT 2007 Financial Highlights Table 4: Selected financial data for the Group, derived on the basis of its consolidated audited financial statements, prepared in accordance with the International Financial Reporting Standards in thousands MKD Income (for the period) 2007 2006¹ 2005 1,484,459 1,185,901 937,201 Net fee and commission income 499,621 379,997 343,733 Profit before provisions and taxes 1,123,633 943,572 774,838 Net interest income Profit before taxes 667,567 506,525 422,467 Net profit for the period Balance (end of year) 590,590 425,823 367,984 2007 2006 2005 Total assets 42,698,462 29,570,501 22,528,443 Loans and advances to customers 22,699,921 15,707,331 11,659,229 Deposits from customers 27,376,943 18,546,295 12,745,816 Other borrowed funds 8,513,645 5,959,529 6,037,506 Capital and reserves Operational ratios² 3,978,266 2,933,607 2,836,925 2007 2006 2005 ROA return on total assets (before taxes) 1.85% 1.94% 2.16% ROA return on total assets (after taxes) 1.63% 1.63% 1.88% ROE return on equity (before taxes) 23.27% 20.92% 17.92% ROE return on equity (after taxes) Facts and figures 20.04% 17.11% 15.32% 2007 2006 2005 572 440 363 Number of employees Number of Branches and counters Official Central Bank rate (end of year) 33 24 22 2007 2006 2005 EUR 1=MKD 61.20 61.17 61.18 41.66 46.45 51.86 USD 1=MKD Note: 1) According to the application of IFRS in Macedonia, certain items of the income statement were reconciled 2) Operational ratios have been calculated on the average balance of the Group’s capital and assets NLB TUTUNSKA BANKA 8 ANNUAL REPORT 2007 Statement by the First General Manager Statement by the First General Manager Dear shareholders, The year 2007 was exceptionally dynamic and successful for NLB Tutunska banka. In the course of positive market trends, the Bank achieved 44% annual operations growth and 36% of profit increase, resulting in high return on equity (ROE) of 23.3% and 775 MKD earnings per share. With total assets of 42,475 thousand MKD, the Bank’s market share grew up to 19%. During 2007, the Bank’s capital was increased by additional 734 million MKD thus, the Bank’s total capital reached 3,761,918 thousand MKD. The deposits increased by 47.5%, loans to customers rose 45%, while the trade finance operations increased by 55%. The results were expected, given the projects we implemented in 2006 and 2007 as part of the Bank’s strategic activities geared toward achieving longterm growth and development. The new integral software solution yielded the first results in 2007, producing a significant growth of operations in all market segments, as well as a 20% increase in the number of customers. In the corporate banking segment, we continued to financially support the business sector, whereby the loan portfolio in the respective segment increased by 26%, reaching 14,384,774 thousand MKD. We continued to provide active financial support to the companies’ current needs, as well as funds from several foreign credit lines and second syndicated loan from EBRD and 11 commercial banks for the long-term financing of investment projects and export arrangements. The Bank also actively supported the large Macedonian companies bidding on major domestic and international projects, whereby new guarantees were issued in the amount of 7.9 billion MKD or 28% more than the previous year. At the end of the year, the Bank joined the Ministry of Finance project for extending loans to the agriculture sector via IFAD and PSLD credit lines, which provides credit support to primary production and processing facilities. Gjorgji Jancevski First General Manager In the retail banking segment, last year we completed the segmentation and transfer of services for small and medium-sized companies to the branch network, where they are directly served along with individuals throughout the territory of the Republic of Macedonia. This has additionally facilitated and reduced their costs for access to the Bank’s services. We worked intensively on the expansion of the branch network, which now includes 9 new branch offices. The range of services was significantly enriched with new products and services that were additionally segmented and specialized for different groups of customers. Special attention was given to loans and deposit products and service packages offer for the retail segment, as well as to development of the cross-selling offer. In the course of one year, retail loans increased by 95%, reaching 8,315,147 thousand MKD. The Bank’s market share in this segment grew from 15.4% to 18.7%. NLB TUTUNSKA BANKA 9 ANNUAL REPORT 2007 Statement by the First General Manager The year 2007 was marked by substantial investments in the development of depersonalized sales channels. The Bank invested in the expansion of the POS and ATM network, and obtained a license from the VISA card program, thus making three card brands - VISA, MasterCard, and Diners available to customers. Placements in the card operations segment alone grew by 149%. The Bank also made investments in the e-banking segment, which is to provide full services for individuals and legal entities in the international payment operations as well. In addition to regular financial activities, as of 01.06.2007, we introduced a new organizational structure, which is an extension of the 2003 organization. The new organization provides a closer definition of the work processes, a division and specialisation of the business activities, a more detailed differentiation of the levels of responsibility and authorization, while directing customer services to “single counter”, thus providing clients with fast, extensive, and efficient services. Dear shareholders, in 2007, the Bank received several recognition awards for different aspects of its work, which add to the Bank’s achieved success and significantly raise its value, both domestically and abroad. We were the first company to be awarded the Good Corporate Governance Certificate from Transparency - No Corruption. As a model company practicing Social Corporate Responsibility, we entered the 2007 Reference Study on Enterprises’ Social Responsibility, conducted by UNDP among companies from the new EU member states and EU membership candidate counties. The Bank received a recognition award from Deutsche Bank London for excellence of the quality of Euro SWIFT payments to Deutsche Bank for 2006, which emphasizes the quality of NLB Tutunska banka operations to the benefit of its customers and business partners. Furthermore, for the third time overall and the second consecutive time, the Bank was awarded the prestigious Bank of the Year Award for 2007 in Macedonia, which confirms the success of the achieved financial results, the increased market share, the development projects and market initiatives, the overall strategy, and the activities that the Bank undertakes to increase its shareholders’ profit. This is a continuity of the previous awards for Best bank by gross profit in Macedonia for 2002, 2003, 2004 and 2006, and Best bank by ROE for 2005, from Finance Central Europe. Finally, allow me to conclude that, in 2007, in fast economic growth conditions and strong competition, the Bank operated very dynamically and successfully, accomplishing all designated objectives, which contributes to the implementation of the Bank’s long-term strategy and, integrally, the long-term strategy of the NLB Group in the Republic of Macedonia. Sincerely, Gjorgji Jancevski First General Manager NLB TUTUNSKA BANKA 10 ANNUAL REPORT 2007 Team Management Team Management Team EXECUTIVE BODY Gjorgji Jancevski First General Manager Mitre Koliševski Second General Manager Ljube Rajevski General Manager Tome Perinski General Manager INTERNAL AUDIT DIVISION Tihomir Trajkovski, Manager LEGAL CENTRE Nadica Ceneva, Assistant Manager Andrej Ilievski, Assistant Manager RISK MANAGEMENT CENTRE Bogoja Kitancev, Manager LOGISTICS DIVISION Jordanka Grujoska, Manager FINANCE AND TREASURY MANAGEMENT DIVISION Stojna Stojkoska, Manager CORPORATE BANKING DIVISION Ljiljana Nastoska, Manager BRANCH NETWORK DIVISION Antonio Argir, Manager PAYMENT SYSTEM AND SALES LOGISTICS DIVISION Slagjana Beleva, Manager CASH SERVICES AND DEPOT DIVISION Dragan Panovski, Manager NLB TUTUNSKA BANKA 12 ANNUAL REPORT 2007 Corporate Governance, Equity, and Ownership Structure Corporate Governance, Equity, and Ownership Structure Corporate Governance NLB Tutunska banka has a clear organizational structure that precisely defines the rights and responsibilities of the members of the supervisory and management bodies, the other Bank employees, as well as the lines of control and checks in the performance of daily duties. Relations among the Executive Body, the individuals with special rights and responsibilities who perform managerial duties at the Bank, the Management Board and the Bank’s shareholders, as well as the other stakeholders, are regulated by and defined in the Bank’s Statute. In 2007, the Bank was managed by statutorily established bodies with the following rights and obligations, stipulated by the Law on Banks and the Law on Trade Companies: • Shareholders’ Assembly - Three meetings were held in 2007. In addition to the regular Annual Shareholders’ Assembly, the Bank held two more meetings, the outcome of which was the decision to proceed with a thirteenth issue of shares and to adopt amendments and supplements to the Bank’s Statute in compliance with the new Law on Banks. • Management Board - The Bank’s Management Board consists of four members with a four-year term of office. In the course of 2007, the Bank’s Management Board held 12 meetings, making lawful decisions as authorized. President Mr. Matej Narat Nova Ljubljanska banka d.d. Ljubljana Vice President Mr. Alojz Jamnik Nova Ljubljanska banka d.d. Ljubljana Members Mr. Boris Zakrajsek LHB Internationale Handelsbank АG Frankfurt Mr. Janko Gedrih Authorized representative of the Management of Nova Ljubljanska banka d.d. Ljubljana NLB TUTUNSKA BANKA 13 ANNUAL REPORT 2007 Corporate Governance, Equity, and Ownership Structure • Executive Body - General Managers - The Executive Body consists of four general managers, appointed by the Bank’s Management Board. During 2007, the Executive Body held 29 meetings, at which lawful decisions were made, as well as three meetings in the presence of the Bank’s Collegium. • Risk Management Committee - The Risk Management Committee has three members with fouryear terms of office. The Risk Management Committee held 45 meetings in 2007, making lawful decisions as authorized. • Audit Committee - In 2007, a new structure of the Audit Committee was elected at a meeting of the Shareholders’ Assembly. The Committee members are elected for a two-year term of office. The Audit Committee held four meetings in 2007, at which it made lawful decisions as authorized. • IT Steering Commitee - The Commitee was established in compliance with NBRM regulations, the Basel Principles, and the International Standards on Information System Security. The Commitee’s competencies and responsibilities are delegated by the Bank’s Management Board. In the course of 2007, the Commitee held one meeting, making lawful decisions as authorized. The mandate of the Supervisory Board over the PEXIM project ended in June 2007. The Board was established in 2006 with the purpose of ensuring the successful implementation of the project and launching the software operation. All activities related to the software’s operation and maintenance were converted to a line organization, for which purpose an IT Users’ Collegium was set up. In accordance with the new Law on Banks, the Bank filed a request with the NBRM for consent to the Statute’s adjustment, a request for consent for the Supervisory Board members, a request for consent to harmonize the financial activities that require prior consent and a request for consent to the existing shareholders with qualified participation in the Bank. At the end of 2007, the Bank received the NBRM’s consent to adjust the Bank’s Statute, consent for existing shareholders with qualified participation in the Bank, and in the 2008 the Bank received consent for harmonization of the financial activities with the new Law on Banks. In order to increase the efficiency of its daily operations, the Bank’s Executive Body worked through several committees, which are in charge of monitoring individual areas of Bank operations, such as: • Development Committee • Asset and Liability Management Committee NLB TUTUNSKA BANKA 14 ANNUAL REPORT 2007 Corporate Governance, Equity, and Ownership Structure Equity and ownership structure In the course of 2007, the Bank increased its capital throught one issue of shares. According to the decision of the Shareholders’ Assembly for thirteenth issue of shares, the Bank issued 91,755 ordinary shares by a private offer to a known buyer. The total value of the issue was 734,040 thousand MKD. Following the change, the Bank’s equity consists of 735,400 ordinary shares and 50,221 preferred shares. The nominal value per share is 1,000 MKD or 785,621,000 MKD in total. The shares are registered with and held in custody at the Central Securities Depository of the Republic of Macedonia. The ordinary shares provide the owners with dividend payment right and voting right at the Shareholders’ Assembly meeting. One vote at the Bank’s Assembly is given for an equivalent of one ordinary share. The preferred shares provide the owners with a priority right in dividend payment and no voting right. All shares give right to portion of the Bank’s assets remain in the winding up or bankruptcy estate. During 2007, the Bank did not repurchase any of its shares. The Bank’s total capital as at 31 December 2007 amounted 3,761,918 thousand MKD, of which: - 785,621 thousand MKD, share capital; - 1,610,707 thousand MKD, share premium; - 778,814 thousand MKD, retained earnings; - 477,566 thousand MKD, reserves, and - 109,210 thousand MKD, revaluation reserves. Compared to 31 December 2006, the total capital was increased by 32.8% based on distribution of the profit from Year 2006 and the reported effect of the valuation at fair value of the Bank’s investment securities, in accordance with the IFRS and the thirteenth issue of shares. The Bank’s reserve fund, in accordance with regulation and the Decision of the Bank’s Management Board, was increased by 33,476 thousand MKD. The Bank’s guarantee capital, as at 31 December 2007, amounts to 3,796,233 thousand MKD (2006: 2,624,244 thousand MKD). The capital adequacy, as at 31 December 2007, is 12.90% and is above the legal minimum of 8%. Capital adequacy (%) 20 18 16 14 12 10 14.44 12.17 2005 2006 12.90 2007 As at 31.12.2007 inclusive, the number of Bank’s shareholders is 532, of which 391 are individuals, while 141 are legal entities. At the end of 2007, the ten largest shareholders of the Bank own 92.12% of the total shares, i.e. 94.20% of the voting shares. NLB TUTUNSKA BANKA 15 ANNUAL REPORT 2007 Corporate Governance, Equity, and Ownership Structure Shareholders with over 5% of shares as at 31.12.2007 % per number of ordinary shares LHB Internationale Handelsbank AG Frankfurt 30.81 NLB InterFinanz AG Zurich 28.49 Nova Ljubljanska banka d.d. Ljubljana 28.31 On the basis of an Agreement and Annex 1, 2, 3, and 4 to the agreement on the transfer of voting rights from the shares owned by NLB InterFinanz AG Zurich in NLB Tutunska banka, the voting rights of the shareholder NLB InterFinanz AG Zurich (28.5%) were transferred to Nova Ljubljanska banka d.d. Ljubljana. Thus, the participation of Nova Ljubljanska banka d.d. Ljubljana in the total voting rights as at 31 December 2007 is 56.80%. In March 2007, at the regular annual assembly of the Bank’s shareholders, the Decision on the use and allocation of the 2006 profit was proposed and adopted, of which 372,606,042 MKD, i.e 537 MKD per share were allocated for dividends payment to the Bank’s shareholders. The Bank’s shares are not listed on the Macedonian Stock Exchange. The Bank’s shares are traded on the secondary market of the stock exchange through authorized brokerage houses. The Bank is registered with the Registry of joint stock companies having special reporting obligations maintained at the Securities Exchange Commission of the Republic of Macedonia. Pursuant to the Securities Law, the Bank regularly informs the Securities Exchange Commission of the Republic of Macedonia of its operation, the members of the management board, the management, and its legal relations with third parties, and events and information significant for the Bank’s operation. NLB TUTUNSKA BANKA 16 ANNUAL REPORT 2007 Reaching the goal NLB TUTUNSKA BANKA 17 ANNUAL REPORT 2007 Bank’s Financial Results Overview of the Bank’s Financial Results for the Year 2007 The analysis of the Bank’s financial results in 2007 is based on the Audited Financial Statements prepared in accordance with the legal regulations applicable in the Republic of Macedonia. Regarding the financial reporting, according to existing legislation, the Bank applies the International Financial Reporting Standards (IFRS), which are published and accepted in Macedonia. Income Statement The year 2007 has been exceptionally successful for the Bank, both in terms of exceeding the planned volume of activities in all segments and in terms of a significant increase of profitability. The net profit amounts to 552,581 thousand MKD or 36% more than in 2006, wherein the return on equity (ROE) increased to 19.61% (2006: 16.83%). The high annual profitability is attributed to the growth in the volume of operations in all market segments, which contributed, even in conditions of the Bank’s additional recapitalization with 734,040 thousand MKD in September 2007, to increase of net profit per share by 32.5% than the previous year, amounting to 775 MKD. Return on equity ROE and profit per share MKD Net profit (000) MKD 1000 600,000 500,000 400,000 300,000 200,000 100,000 0 552,581 361,291 2005 406,082 2006 800 800 600 600 2007 15.41% 16.83% 19.61% 25% 20% 15% 400 400 10% 200 200 5% 0 0 Net profit (000) MKD Dividend per share in MKD 2005 2006 2007 0% Profit per share ROE The operating profit amounts 626,989 thousand MKD or 29.5% higher than in 2006, whereby the largest portion of the profit was generated from interests and fees. The net interest income amounts 1,478,371 thousand MKD or 25% more than in 2006. In terms of continuing reduction of active interest rates and narrowing of interest margins, the increase in interest income was secured through the increased dynamics of crediting volume, especially in the retail segment, as well as the continued maintenance of a high level of interest-bearing assets throughout the entire year. The average net interest-bearing assets increased by 38% on an annual basis, while the average net interest margin simultaneously decreased by 17.3%. At the end of 2007, the average net interest margin was 3.67%. The net non interest income is 644,819 thousand MKD or 22.5% more than the previous year. The largest portion of the latter or 72% arise from fee and commission income. NLB TUTUNSKA BANKA 18 ANNUAL REPORT 2007 Bank’s Financial Results Interest-bearing assets and liabilities (000) MKD 35,000,000 30,000,000 25,000,000 20,000,000 15,000,000 10,000,000 5,000,000 - 2005 2006 2007 5.00% 4.50% 4.00% 3.50% 3.00% 2.50% 2.00% 1.50% 1.00% 0.50% 0.00% Average net interest-bearing assets Average net interest-bearing liabilities Average net interest-bearing margin in % In 2007, the Bank generated a net fee and commission income of 464,418 thousand MKD, which is 28.5% higher than in 2006 and is mainly the result of the increased volume of operations in all segments: domestic and international payment operations, trade finance, services to customers and credit operations, card operations, e-banking and Cash-Centre services. From its capital investments, both in financial and non-financial legal entities, in 2007, the Bank generated income from dividends in the amount of 1,715 thousand MKD. Net foreign exchange gains of 125,730 thousand MKD were earned, and the net income from trading in securities in 2007 amounted to 17,273 thousand MKD. Other income amounts 35,683 MKD. In the course of 2007, the Bank continued to pursue its policy of rationalizing costs in keeping with the need to ensure unobstructed work processes, the expansion of the branch network, the increase in number of employees, and rising market prices. In 2007, the Bank’s operating expenses reached 1,036,313 thousand MKD. Its Cost/Income ratio was 48.8%, while the operating expenses accounted for 2.88% of the Bank’s total assets and were covered by non-interest income up to 62%. In 2007, the Bank allocated provisions for risk placements in the amount of 459,888 thousand MKD or 6% more than in 2006, which corresponds to the growth of the loan portfolio and the significant increase of the off-balance activities during the year along with an improved portfolio quality. NLB TUTUNSKA BANKA 19 ANNUAL REPORT 2007 Bank’s Financial Results Balance Sheet The Bank achieved a net balance sum of 42,474,928 thousand MKD, which represents the highest annual growth of 44%, surpassing the plan by 29%. Net balance sum (000) MKD 50,000,000 40,000,000 30,000,000 20,000,000 10,000,000 0 42,474,928 29,460,698 22,440,242 2005 2006 2007 The Bank attributes its main operations growth to crediting the non-financial sector, where the loan portfolio was increased by 44.5%, reaching 22,699,921 thousand MKD. Simultaneously, the deposits from the non-financial sector increased by 47.5%, amounting to 27,354,371 thousand MKD. Furthermore, the Bank drew on foreign credit lines designated for financing the business sector and micro-financing, as well as a second syndicated loan from EBRD in the amount of 55 million EUR, which was fully invested in the private sector. NLB TUTUNSKA BANKA 20 ANNUAL REPORT 2007 Risk Management Risk Management The Bank employs a highly conservative policy of anticipating operational risks by maintaining an effective system of integrated risk management. This enables high loans collectibility, a satisfactory level of capital adequacy, protection against contingencies, and possible threats of failure to implement the planned policy. Risks are managed by the Bank’s Risk Management Centre. Risk management within the Bank is divided into two areas: credit risk management and non-credit risk management. Credit Risk Management Credit Risk Management comprises continuous analysis of the Bank’s credit portfolio in terms of sector diversification and credit portfolio concentration, analysis and assessment of customers’ financial performance, monitoring of regularity in the fulfilment of obligations, and allocation of a satisfactory level of provisions for the loans. In 2007, the average level of credit portfolio coverage, expressed as the ratio between the calculated potential losses and the total credit exposure, amounted to 8.03%. This corresponds to a B-risk category quality and is reduced in relation to 2006 due to the improvement in portfolio quality (2006: 9.58%). Namely, amid an increase of the total credit portfolio, on which allowances are calculated, by 46% during the year 2007, the participation of A and B placements in the total portfolio increased to 95.85% (2006: 94.14%). The coverage of placements qualified in the C, D, and E risk category with the total fund for potential losses at the end of 2007 amounts to 193.49%. Structure of the total credit portfolio by risk categories Movement of the total credit portfolio on which provisions are calculated in (000) MKD D 1.2% 40,000,000 C 2.7% 31,690,542 30,000,000 21,748,313 20,000,000 10,000,000 16,473,023 2005 NLB TUTUNSKA BANKA E 0.2% A 39.1% B 56.8% 2006 2007 21 ANNUAL REPORT 2007 Risk Management Non-Credit Risk Management With the development of the financial markets in Macedonia, especially the capital market, the shortterm securities market, the investment funds, the development of the mortgage market and the operation with financial derivatives, the Bank devotes special attention to non-credit risk management: liquidity risk, interest risk, currency risk, and operational risk. • During the year 2007, liquidity risk management was performed by meeting the obligation to maintain a mandatory reserve in denars and foreign currency, maintaining a portfolio of high liquid assets, coordinating the inflows and outflows on the Bank’s account, monitoring the residual and expected term structure, and monitoring the changes in assets necessary to achieve the goals set forth in the Bank’s strategy. The Bank enforces a Liquidity Risk Management Policy with a defined methodology for calculating a stable level of deposits. On the basis of the adopted Liquidity Risk Management Policy, the Bank has set several limits, which are fully met. • Interest risk management refers to the optimization of the net interest income, with market interest rates that are consistent with the Bank’s business strategy. The Bank follows an Interest Risk Management Policy that complies with the minimum standards of the NLB Group and the regulatory requirements of the Basel Committee. • Currency risk management refers to the permanent monitoring of the Bank’s net exposure to individual currencies, thus maintaining an optimal level of required assets by purchasing and selling foreign currencies. In this context, the Bank follows the Foreign Currency Risk Management Policy, which uses the methodology of calculating foreign currency limits and continuous optimized monitoring and management of the Bank’s foreign currency position. As at 31 December 2007, the aggregate open foreign currency position of the Bank and the exposure to individual currencies is within the framework of the established internal limits, as well as the limits defined by NBRM. • Operational risk management involves the establishment of a system of recording, monitoring, control, and management of possible or real harmful events arising from current Bank operations, as well as the external factors that have a negative effect on the financial results. Operational risk management is implemented via an established organizational structure, methodology of analysis and management of possible and past harmful events, their management and control. Operational risk management provides for the minimization of the possibility of occurrence of harmful events, restricting the range of potential losses and the probability of their occurrence to a level which is acceptable to the Bank, improving the quality of the Bank’s services, improving the work processes, and the total efficiency of the activities. NLB TUTUNSKA BANKA 22 ANNUAL REPORT 2007 Retail Banking Retail Banking In the course of 2007, the Bank significantly intensified its activities in the retail banking segment with the purpose of providing a high-quality and inclusive offer of products and services to all customers, individuals, and SMEs operating in the Republic of Macedonia. Segmentation was carried out and services for SMEs were transferred to the branch network where, along with individual clients, they are served directly, which further facilitates and makes their access to the Bank less expensive. The product portfolio was enriched with new products, while the existing offer was segmented and adjusted to the needs of separate groups of clients. Nine new branch offices and counters were opened, part of the existing ones were expanded and reorganized, and preparatory activities for opening new branch offices were undertaken. The Bank’s branch offices operate as small banks, offering a full range of products from the Bank’s product portfolio and fast, quality, and efficient services by the commercial team. With its branch network of 33 branch offices in 19 cities throughout the Republic of Macedonia, the Bank has a larger dispersion on the market and easy accessibility to customers, while simultaneously working on the development of depersonalized sales channels for this segment, which will additionally make services easier and cheaper. Significant investments were made in the expansion of the network for serving Bank card holders, which was expanded to include 53 new ATMs and 2,962 POS terminals. This enabled en masse use of the Bank’s cards at 99 ATMs and 4,051 POS terminals throughout the country. Product Portfolio and New Products Offering Staying abreast of market trends, market potential, and client’s needs, in the course of 2007, the Bank enriched its portfolio with new loan products for the retail segment: consumer mortgage loan, mortgage draft loan, and consumer loan “2 for 1” for special purposes, whereas in the savings segment, the Bank introduced new savings products with different terms and purposes: children’s saving (for children below 18 years of age), gold deposit (term deposit with stimulative interest rates) and scale deposit (demand deposit with progressive interest rates). Within the services segment, “Personal Banking” was introduced as a higher-level service of bank operations for the Bank’s VIP customers. As part of the cross-selling activities within the branch network, the “Violet Package” was offered, combining several Bank products and services, depending on the needs of different customer groups. In parallel with the introduction of new products and services, the Bank reduced the interest rates on the existing loans and introduced new favourable terms relating to fees, repayment terms, and collateral. With regard to the SMEs segment, the Bank lowered the interest rates on loans to SMEs, in addition to introducing facilities and adjustments to the micro-lending terms and conditions, designed to encourage the faster development of the small and medium-sized companies, as carriers of overall economic growth. Two new products, originating from the Bank’s own sources, were also introduced: agro-micro credit and auto-micro credit for micro and small businesses. NLB TUTUNSKA BANKA 23 ANNUAL REPORT 2007 Retail Banking Business Activities in the Retail Segment The Bank continuously records progress in retail banking, increasing the number of customers, the range of activities, and the market share in this segment. Deposit operation notes a growth in all savings-deposit Bank products. The total deposits of individuals amount to 13,178,415 thousand MKD, which is an increase of 58% compared to the year 2006. Of the total individuals’ deposits, 66.3% are term deposits, of which 51.8% are foreign currency deposits. In 2007, the share of individuals’ deposits in the total deposits from customers increased to 48.2% (2006: 45%). Deposits from individuals (000) MKD 20,000,000 15,000,000 13,178,415 8,341,336 10,000,000 5,000,000 0 5,681,924 2005 2006 2007 The retail credit portfolio reached 8,315,147 thousand MKD in 2007, increasing by a record-high 94.7%, i.e. by 4,045,417 thousand MKD compared to 2006. Net retail loans (000) MKD 10,000,000 9,000,000 8,000,000 8,000,000 7,000,000 6,000,000 5,000,000 4,000,000 3,000,000 2,000,000 1,000,000 0 8,315,147 4,269,730 2,568,160 2005 2006 2007 In the segment of card operations, remarkable results were achieved, both in terms of the increase in the number of existing Bank card users, as well as the successful introduction of the new card program of VISA International. Thus, the Bank clients were offered the opportunity to work with cards from the three card brands: Master, Visa, and Diners. The number of cards issued by the Bank during the year 2007 rose by 102%, whereas, in a matter of one year, the market share in the card segment went up from 19.3% to 22.8%. The total turnover made via the Bank cards during the year 2007 increased by 292.5%, whereas the number of transactions made via these cards grew by 363.7%. Total number of active plastic cards of the Bank NLB TUTUNSKA BANKA 190,000 170,000 150,000 130,000 110,000 90,000 70,000 50,000 30,000 10,000 24 163,184 80,799 25,730 2005 2006 2007 ANNUAL REPORT 2007 Branch Network Branch Network Kumanovo Tetovo Kriva Palanka Skopje Kocani Gostivar Veles Stip Radovis Negotino Kicevo Prilep Strumica Kavadarci Valandovo Struga Ohrid Gevgelija Bitola Skopje * Head Office 12 Makedonska brigada 20 T: 02 / 3105 674 F: 02 / 3126 154 E: tb.direkcija@tb.com.mk Skopje * Aerodrom Bul.Jane Sandanski 26/9 T: 02 / 2403 627 F: 02 / 2403 630 E: tb.aerodrom@tb.com.mk Skopje * EURM Kliment Ohridski 68 T: 02 / 3290 024 F: 02 / 3290 071 E: tb.eurm@tb.com.mk Skopje * GTC Kej 13 Noemvri 3-TC GTC T: 02 / 3297 575 F: 02 / 3226 665 E: tb.gtc@tb.com.mk Skopje * Avtokomanda Jani Lukrovski 2 T: 02 / 3103 450 F: 02 / 3172 330 E: tb.avtokomanda@tb.com.mk Skopje * Katastar Drezdenska bb T: 02 / 3079 488 F: 02 / 3079 488 E: tb.katastar@tb.com.mk Skopje * Sobranie Gradski zid blok 2 T: 02 / 3107 630 F: 02 / 3114 289 E: tb.sobranie@tb.com.mk Skopje * Tri Biseri Bul. Jane Sandanski TC Tri Biseri T: 02 / 2403 896 F: 02 / 2403 898 E: tb.tribiseri@tb.com.mk Skopje * Cair Ferid Bajram 43 T: 02 / 2601 668 F: 02 / 2601 672 E: tb.cair@tb.com.mk Skopje * Karpos 3 Partizanski odredi TC Leptokarija T: 02 / 3099 814 F: 02 / 3069 577 E: tb.karpos3@tb.com.mk Skopje * Centar Vasil Glavinov 3/5 T: 02 / 3219 535 F: 02 / 3219 530 E: tb.centar@tb.com.mk NLB TUTUNSKA BANKA Skopje * Kapistec Franklin Ruzvelt 1 T: 02 / 3089 090 F: 02 / 3083 509 E: tb.kapistec@tb.com.mk Skopje * Gjorce Petrov Isaija Mazovski 42 T: 02 / 2034 903 F: 02 / 2034 909 E: tb.gjorcepetrov@tb.com.mk 25 Skopje * Stara Carsija Bitpazarska 58 T: 02 / 3293 053 F: 02 / 329 30 58 E: tb.stara_carsija@tb.com.mk Skopje * Univerzalna sala Partizanski Odredi 43 T: 02/ 3248 911 F: 02/ 3246 830 E: tb.univerzalnasala@tb.com.mk ANNUAL REPORT 2007 Branch Network Prilep Bul. Goce Delcev bb T: 048 / 419 755 F: 048 / 419 756 E: tb.prilep@tb.com.mk Veles Marsal Tito 80 T: 043 / 221 911 F: 043 / 221 282 E: tb.veles@tb.com.mk Gostivar Borce Jovanovski T: 042 / 221 330 F: 042 / 221 494 E: tb.gostivar@tb.com.mk Bitola Josiv Hristovski bb T: 047 / 202 755 F: 047 / 202 757 E: tb.bitola@tb.com.mk Valandovo Mosa Pijade 2 T: 034 / 383 355 F: 034 / 383 355 E: tb.valandovo@tb.com.mk Kavadarci Ilindenska 81 T: 043 / 400 436 F: 043 / 400 437 E: tb.kavadarci@tb.com.mk Ohrid Partizanska bb T: 046 / 251 360 F: 046 / 251 350 E: tb.ohrid@tb.com.mk Radovis 22 oktomvri bb T: 032 / 633 771 F: 032 / 633 771 E: tb.radovis@tb.com.mk Kicevo Osloboduvanje bb T: 045 / 224 460 F: 045 / 224 466 E: tb.kicevo@tb.com.mk Tetovo TC Merdzan vlez 1 kat T: 044 / 356 705 F: 044 / 331 566 E: tb.tetovo@tb.com.mk Struga Proleterski brigadi bb T: 046 / 788 640 F: 046 / 784 399 E: tb.struga@tb.com.mk Kriva Palanka Marsal Tito 172 T: 031 / 475-280 F: 031 / 475 285 E: tb.krivapalanka@tb.com.mk Kumanovo Marsal Tito bb T: 031 / 475 240 F: 031 / 438 424 E: tb.kumanovo@tb.com.mk Negotino Marsal Tito bb T: 043 / 364 010 F: 043 / 362 657 E: tb.negotino@tb.com.mk Strumica Blagoj Muceto 4 T: 034 / 326 780 F: 034 / 334 468 E: tb.strumica@tb.com.mk Gevgelija Marsal Tito bb T: 034 / 215 441 F: 034 / 215 241 E: tb.gevgelija@tb.com.mk Stip Toso Arsov bb T: 032 / 391 663 F: 032 / 387 922 E: tb.stip@tb.com.mk Kocani Trgovski centar blok А T: 033 / 276 910 F: 033 / 277 910 E: tb.kocani@tb.com.mk NLB TUTUNSKA BANKA 26 ANNUAL REPORT 2007 Corporate Banking Corporate Banking Corporate banking comprises the largest portion of the Bank’s activities and is the key generator of its growth. The Bank applies a concept of integrated customer relationship management of corporate customers, which ensures a higher-quality business relationship with regard to anticipating the needs of the legal entities and a possibility of offering financial counselling. In the segment of working with corporate clients, the principle of “account manager” was introduced, thus, each corporate client received a personal bank officer responsible for monitoring all of the customer’s activities in the Bank. For its corporate clients, the Bank practised a cross-selling offer of products and services, which enabled the creation of package products in accordance with the needs of individual customers. Investment-Credit Activities In 2007, the volume of credit activities was increased by 25.8%, mainly by attracting new customers, introducing new products, and providing new credit lines favourable for financing large companies, for SMEs development projects, for micro-financing and for support of export arrangements, as well as for approval of credits to individual farmers. The Bank executed the Second syndicated loan from EBRD and 11 renowned international banks in the amount of 55 million EUR, earmarked for financing SMEs and retail customers. Additionally, the Bank executed loan agreements with Erste Bank in the amount of 5 million EUR and with Raiffeisen Bank in the amount of 10 million EUR for funding SMEs and large corporations. With a view to meeting the financing needs of the strategic clients’ large projects, the Bank signed a Risk Participation Agreement (Master Participation Agreement) with Nova Ljubljanska banka d.d. Ljubljana. For the purposes of financing the development projects of small and medium-sized companies from the private sector, the Bank used funds from several foreign credit lines, including the following: 1. Private Sector Development Project Macedonia, funded by the World Bank; 2. Private Sector Development Project and Local self-government projects, funded by the European Investment Bank (EIB); 3. Credit program funded by the EAR Program for SMEs; 4. Credit line from the Macedonian Bank for Development Promotion (MBDP), aimed for financing investment projects; 5. Credit line from the Macedonian Bank for Development Promotion, aimed for financing exports arrangements; 6. Program for micro and small-sized companies from the Macedonian Enterprise Development Foundation, intended for small businesses and individual farmers; 7. Credit line form the KfW development Bank from Germany; 8. Italian credit line for revolving funds (Revolving fund); 9. Micro credit line from the German-Macedonian Fund, provided by the funds from the KfW development Bank from Germany; 10. IFAD credit line for financing development programs in the field of agriculture; 11. Credits from the Syndicated Loan funds by EBRD; 12. Credits for support of Macedonian SMEs from sources provided by the NLB Group; 13. Credits for support of Macedonian SMEs and large companies, provided by other commercial banks (Erste Bank, Raiffeisen Bank). NLB TUTUNSKA BANKA 27 ANNUAL REPORT 2007 Corporate Banking In 2007, the loans to non-financial legal entities increased by 25.8% amounting to 14,384,774 thousand MKD. Net loans to enterprises (000) MKD 18,000,000 15,000,000 12,000,000 18,000,000 9,000,000 6,000,000 3,000,000 0 9,091,069 2005 11,437,601 2006 14,384,774 2007 In terms of maturity, 43.7% of the placed loans are short-term, whereas 56.3% are long-term loans. Compared to 2006, the maturity structure has changed in favour of short-term loans. In terms of activities, the loans were placed in quality projects of existing and new customers in the fields of manufacture (37%), trade (35%), real estate (13%), public sector (1%) and other activities (14%). Retail and wholesale trade 35% Public sector 1% Real estate 13% Other industries 14% Manufacture 37% Deposits Exceptionally favourable results were achieved in the field of the deposit operations in terms of attracting deposits from as many as possible domestic companies with good financial standing, as well as acquiring new customers in the payment operations. The total deposits from non-financial legal entities placed with the Bank as at 31.12.2007 amounted to 14,175,956 thousand MKD, which, compared to 2006, represents an increase of 39%. Deposits from non-financial legal entities in (000) MKD 20,000,000 14,175,956 15,000,000 10,000,000 7,055,445 10,201,046 5,000,000 0 NLB TUTUNSKA BANKA 28 2005 2006 2007 ANNUAL REPORT 2007 Banking Services Banking Services The Bank offers services to legal entities and individuals in all segments. The Bank’s customers can receive all services at one counter in any Bank branch office, which eases customer access to Bank services and enables a better overview of the overall activities of each customer, as well as an opportunity to better combine products and services. Trade Finance In the segment of trade finance, the Bank noted significant results in terms of issuing LC’s and guarantees for small end medium-sized businesses, export arrangements, and support for tender bids of larger Macedonian companies in domestic and foreign projects. For this purpose, in 2007, the Bank issued 713 new LCs in the amount of 3,711 million MKD and 1,807 new Guarantees in the amount of 7,873 million MKD, thus increasing operations in this segment by 14% and 28% accordingly. Domestic and International Payment Operations, and Cash Operations During the year 2007, there was a significant increase in domestic payment operations conducted via the Bank, which is attributed to the increase in the number of accounts and customer transactions. The total annual turnover amounts to 389 billion MKD, i.e. 38% more than in 2006, whereas the number of accounts increased to 19,086 or 20.5% more than in 2006. The Bank’s market share in the total payment activities in the country in 2007 is 14.93% (2006: 14.7%). In the international payment operations segment, a total annual turnover of 868.8 billion MKD was registered, which is 29.9% more than in 2006. In 2007, 872 new foreign currency accounts were open. Through its Cash Centre, the Bank engaged in purchase and sale activities, transportation, and providing cash for other banks and non-financial legal entities. Electronic Banking (E-Banking) In the field of e-banking, during 2007, the Bank made a turnover of 61,262 million MKD, which, compared to 2006, represents an increase of 60.6%. The number of executed electronic orders of legal entities rose by 50.4% in relation to 2006, and the number of companies using e-banking services increased by 11.5%. During 2007, the Bank embarked on developing the project “E-banking in foreign currency payment operations for legal entities,” while the project “E-banking for individuals” was in its final stages. NLB TUTUNSKA BANKA 29 ANNUAL REPORT 2007 Banking Services Trust activities The Bank provides commission services for customers, which includes management of assets on behalf of and for the account of the legal entities and individuals, which are further placed as loans for companies with no specific purpose and securities. These assets are kept separately from the Bank’s assets. The Bank also provides custodian services for non-resident individuals and legal entities that trade with securities in the Republic of Macedonia. The Bank’s share in this segment in the year 2007 reached 13.10%. Custodian bank With the establishment of the first companies for managing open investment funds in the Republic of Macedonia, the Bank launched the service “Custodian bank” for the three investment funds in the Republic of Macedonia (Ilirika South-East Europe, Ilirika Global Emerging Markets, and Innovo Status Shares). These are the first investment funds in the Republic of Macedonia, and according to the service that it is providing, the Bank is currently unique among domestic banks. Long - Term Securities Trading The Bank, through its brokerage house NLB Tutunska broker, enables its customers to realize their interests on the capital market in Macedonia by providing consultancy services and information regarding the selection of the most favourable offers for investing their assets in long-term securities. NLB Tutunska broker is one of the most successful brokerage houses in the Republic of Macedonia and is second overall according to its activities on the capital market, with a share of up to 12% in the turnover on the stock market. NLB TUTUNSKA BANKA 30 ANNUAL REPORT 2007 Internal Audit Prevention of Money-Laundering Internal Audit The Internal Audit in NLB Tutunska banka AD Skopje is organized as an independent organization section, functionally and organizationally separated from the other Bank sections, directly responsible to the Management Board of the Bank. The essential goal of the Internal Audit is to ensure an objective and independent assessment of the adequacy and efficacy of the internal controls system, the accuracy of the accounting records and the financial statements, and the compliance of internal Bank policies and procedures with the existing legal regulations, the general effectiveness of the Bank’s operation and risk management. During 2007, the Internal Audit Division conducted a total of 23 planned and 2 extraordinary audits, and monitored the implementation of the recommendations from the Internal Audit Division, as well as the recommendations from the External auditor and the National Bank of the Republic of Macedonia. The Sector regularly reported the results of its audits to the Bank’s Management Board, the Bank’s management, the Audit Board, and the Internal Audit Centre in Nova Ljubljanska banka d.d. Ljubljana. The audits were conducted in the following segments of operation: 1. Compliance of the Bank’s operation with the legal regulations and the internal policies and procedures 2. Risk management inside the Bank 3. Payment operations in the country 4. Card operations system 5. Securities 6. Accounting function of NLB Tutunska banka 7. Implementation of an integral software system – migration and verification of accounting data 8. Operation with retail customers, small and medium-sized companies in the business network 9. The operation of NLB Tutunska broker 10. The operation of Nov Penziski Fond AD Skopje Prevention of Money-Laundering The Bank has an Authorized Person for the prevention of money-laundering, who carries out activities in accordance with the Law on the prevention of money-laundering. The Bank has adopted a Program on the prevention of money-laundering and has enacted several internal acts that regulate this area. The Bank has fully implemented all instruments that arise from the legal regulations that concern the efficient detection and prevention of money-laundering. NLB TUTUNSKA BANKA 31 ANNUAL REPORT 2007 Information System Security Human Resources Information System Security The Bank has an Authorized Person for the security of the information system (OSIS), who monitors the Bank’s information security. The Bank’s information security is in accordance with Circular 9 of NBRM and in accordance with the ISO17799-2005 and ISO27001 international standards. In accordance with these standards, a system of information security has been set up within the Bank, which is comprised of the following entities: 1. Risk assessment 2. Information system security policy 3. Implementation of security controls 4. Security testing 5. System monitoring and upgrade Human Resources and Organization The Bank recognizes and emphasizes the significant contribution of its employees to the accomplishment of the results and the creation of the Bank’s positive image. It employs highlyqualified staff, with skills specialized in separate areas of banking operations. The total number of Bank employees is 564. Of these, 75.7% are with university education. The majority of employees, 72.2%, are up to the age of 35. In the course of 2007, the number of employees grew by 128 persons, which represents an increase of 29.4% in relation to 2006. Of these, 110 were hired in the commercial segment, thus strengthening sales and services for customers. Structure of employees according to age, as at 31.12.2007 Structure of employees according to education, as at 31.12.2007 Above 45 years 14.01% Secondary education 21.99% From 35 to 45 years 13.83% Postsecondary education 2.30% University education 75.71% NLB TUTUNSKA BANKA Up to 25 years 10.99% From 25 to 35 years 61.17% 32 ANNUAL REPORT 2007 Human Resources During 2007, several development projects were carried out, the main objective of which was motivation, improvement, and optimal utilization of the potential of the Bank’s employees. In order to achieve these objectives, training sessions, seminars, and workshops were organized, especially emphasizing the training of the Bank’s salesmen on the topic “Sale of financial products and services,” as well as the training conducted for managers to improve their management skills. Throughout 2007, the established procedures and practices for human resources development were implemented continually: • Mentor system and examinations for trainees - to ensure the successful introduction of the newly-employed Bank personnel, a mentor is appointed for each newly-employed person, who takes care of his/her trainee i.e. introductory period of work. The system of examinations for trainees includes a professional part focused on the knowledge related to the specific work position or work assignment, which provides a critical analysis of a work process or Bank product, and a general part, which deals with the legal regulations, procedures, policies, and other acts of the Bank. This rounds off the period of trainee induction with regard to Bank operations. • Banking school of NLB Tutunska banka - during 2007, internal and external trainings were organized as part of the Banking school, which were attended by over 300 Bank employees. The induction trainings for the newly employed and for existing staff were enriched with new contents and topics from the field of banking operations, sales skills, and management abilities, with the purpose of broadening the employees’ knowledge and acquiring new skills required for efficient work completion, which will ensure the maintenance of long-term quality of performance and increased productivity. • Internal labor market - the Bank continued to implement the employment system of internal advertisements and interviews in a bid to encourage Bank employees with special interests and potential for a further career development. • Student internships - the Bank supports the development of young personnel interested in working in the banking sector in the Republic of Macedonia, enabling them to gain practical banking experience by organizing work internships in different sectors of the Bank. Last year, the Bank organized internships for 245 students from the Faculty of Economics and the Law Faculty at “Sts. Cyril and Methodius University” Skopje, the Business and Economics Faculty at the South Eastern European University, and the European University - FON. NLB TUTUNSKA BANKA 33 ANNUAL REPORT 2007 Organization Organization As of 01.06.2007, the Bank introduced a new organization, which is built upon the organization of the year 2003 and in effect provides a closer definition of the work processes, division and specialization of the business activities, a more detailed distinction between the levels of responsibility and authority. ASSEMBLY RISK MANAGEMENT COMMITTEE MANAGEMENT BOARD INTERNAL AUDIT DIVISION EXECUTIVE BODY GENERAL MANAGERS FINANCIAL ACCOUNTING DEPARTMENT BUSINESS PLANNING AND CONTROL DEPARTMENT HUMAN RESOURCES AND ORGANIZATION DEPARTMENT INVESTMENTS PROCUREMENT AND GENERAL AFFAIRS DEPARTMENT ASSETS AND LIABILITIES MANAGEMENT COMMITTEE LEGAL CENTRE CREDIT COMMITTEE RISK MANAGEMENT CENTRE FINANCE AND TREASURY MANAGEMENT DIVISION ASSETS AND LIABILITIES MANAGEMENT DEPARTMENT SECURITIES CUSTODY DEPARTMENT F/X MONEY MARKET & DERIVATES DEPARTMENT CORPORATE BANKING DIVISION CRM DEPARTMENT INDUSTRY AND AGRICULTURE SECTOR BRANCH NETWORK DIVISION CONTROL COORDINATION AND MARKETING DEPARTMENT SMALL AND MICRO BUSINESS DEPARTMENT CRM DEPARTMENT TRADE AND SERVICES SECTOR BRANCHES CREDIT LINES AND CONSORTIUM DEPARTMENT PAYMENT SYSTEMS AND SALES LOGISTICS DIVISION CASH SERVICE CENTER AND DEPOT DIVISION INTERNATIONAL PAYMENT SYSTEMS AND TRADE FINANCE DEPARTMENT DOMESTIC PAYMENTS DEPARTMENT CASH AND DEPOT SERVICES DEPARTMENT DEPARTMENT FOR SECURITY AND CASH TRANSPORTATIONS SELF SERVICE BANKING DEPARTMENT PROJECT FINANCE DEPARTMENT PRIVATE CUSTOMERS ADMINISTRATION DEPARTMENT BUSINESS CUSTOMERS ADMINISTRATION DEPARTMENT INFORMATION TECHNOLOGY DEPARTMENT NLB TUTUNSKA BANKA IT STEERING COMMITTEE OFFICE OF THE EXECUTIVE BOARD DEVELOPMENT COMMITTEE LOGISTICS DIVISION AUDIT COMMITTEE 34 ANNUAL REPORT 2007 Moving forward Consolidated Financial Statements NLB Tutunska banka AD Skopje Consolidated Financial Statements for the Year ended 31 December 2007 NLB TUTUNSKA BANKA 36 ANNUAL REPORT 2007 Consolidated Financial Statements PricewaterhouseCoopers dooel ul.Marsal Tito 12, “Palata Makedonija” IV floor Republic of Macedonia Telephone + 389 (02) 3116 638 + 389 (02) 3111 012 + 389 (02) 3110 623 Facsimile + 389 (02) 3116 525 www.pwc.com/mk Independent auditors’ report Тo the Shareholders’ of NLB Tutunska banka AD Skopje We have audited the accompanying consolidated financial statements of NLB Tutunska banka A.D. - Skopje and its subsidiary NLB Tutunska Broker AD Skopje, (together “the Group”), which comprise the consolidated balance sheet as of 31 December 2007, and the consolidated income statement, consolidated statement of changes in equity and consolidated cash flow statement for the year then ended and a summary of significant accounting policies and other explanatory notes. Management’s responsibility for the financial statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with Accounting Standards accepted in the Republic of Macedonia. This responsibility includes: designing, implementing and maintaining internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatements, whether due to fraud or error; selecting and applying appropriate accounting policies; and making accounting estimates that are reasonable in the circumstances. Auditors’ responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with International Standards on Auditing. Those Standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditors judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting principles used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide basis for our audit opinion. NLB TUTUNSKA BANKA 37 ANNUAL REPORT 2007 Consolidated Financial Statements Opinion In our opinion, the accompanying consolidated financial statements present fairly, in all material respects,the financial position of the Group as of 31 December 2007, and its financial performance and its cash flows for the year then ended in accordance with Accounting Standards accepted in the Republic of Macedonia. Manager Ljube Gjorgjievski Certified Auditor Ljube Gjorgjievski Skopje, 10 March 2008 NLB TUTUNSKA BANKA 38 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Income statement All amounts in MKD thousands unless stated otherwise 31 December Notes 2007 2006 Interest income 5 2,629,716 1,840,695 Interest expense 5 (1,145,257) (654,794) 1,484,459 1,185,901 Net interest income Fee and commission income 6 593,270 458,270 Fee and commission expense 6 (93,649) (78,273) 499,621 379,997 Net fee and commission income Dividend income 7 8,069 4,172 Net trading income 8 17,273 1,246 14 (458,978) (435,296) 9 125,730 135,885 Net income from the sale of available-for-sale investment securities 10 794 12,773 Administrative expenses 12 (579,758) (468,924) Other operating expenses 13 (470,777) (332,553) Other operating income 11 35,193 27,858 661,626 511,059 2,657 (2,824) 664,283 508,235 (76,977) (80,702) 587,306 427,533 Impairment losses for credit losses Net foreign exchange gain Operating profit Share of the profit/loss of associates Profit before income tax Profit tax 15 Profit for the year The notes on pages 8 to 71 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 39 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Balance sheet All amounts in MKD thousands unless stated otherwise 31 December Notes 2007 2006 Cash and balances with central bank 16 4,218,346 3,046,291 Treasury bills and other eligible bills 17 8,206,838 4,956,513 Loans and advances to banks 18 4,396,169 3,579,625 Loans and advances to customers 20 22,699,921 15,707,331 Trading assets 19 647,949 91,159 – Available for sale 21 1,481,517 1,145,280 Investment property 22 - 52,949 Investment in associates 23 43,447 40,790 Property, plant and equipment 24 684,667 548,410 Intangible assets 25 70,229 58,391 Other assets 26 256,806 354,195 42,705,889 29,580,934 Assets Investment securities: Total assets Liabilities Deposits from financial institutions 27 2,146,872 1,606,883 Due to customers 28 27,376,943 18,546,295 Other borrowed funds 29 7,727,525 5,645,454 Subordinated liability 30 786,120 314,075 Other liabilities 31 292,153 177,966 Provisions for off-balance sheet items 32 356,296 299,337 5,229 25,627 29,091 21,257 38,720,229 26,636,894 785,621 693,866 1,610,707 968,422 Retained earnings 841,367 660,143 Other reserves 747,965 621,609 Total equity 3,985,660 2,944,040 42,705,889 29,580,934 Current income tax liabilities Deferred income tax liabilities 33 Total liabilities Equity Share capital 36 Share premium Total equity and liabilities The notes on pages 8 to 71 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 40 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Statement of changes in equity All amounts in MKD thousands unless stated otherwise Attributed to the equity holders Share Capital Share Premium Retained Earnings 693,866 968,422 596,900 472,692 109,882 2,841,762 Net changes in available for sale investments, net of tax - - - - 10,576 10,576 Net income recognised in equity - - - - 10,576 10,576 Net profit - - 427,533 - - 427,533 Total recognised income for 2006 - - 427,533 - 10,576 438,109 Dividend relating to 2005 - - (335,831) - - (335,831) Transfer to statutory reserve - - (28,459) 28,459 - - 693,866 968,422 660,143 501,151 120,458 2,944,040 91,755 642,285 - - - 734,040 - - - - 92,880 92,880 91,755 642,285 - - 92,880 826,920 - - 587,306 - - 587,306 91,755 642,285 587,306 - 92,880 1,414,226 Dividend relating to 2006 - - (372,606) - - (372,606) Transfer to statutory reserve - - (33,476) 33,476 - - 785,621 1,610,707 841,367 534,627 213,338 3,985,660 As at 1 January 2006 As at 1 January 2007 Increase of capital Net change in available for sale investments, net of tax Net income recognised in equity Net profit Total recognised income for 2007 As at 31 December 2007 Statutory Revaluation Reserve Reserve Total Detailed information is provided in Note 36 The notes on pages 8 to 71 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 41 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Cash flow statement All amounts in MKD thousands unless stated otherwise 31 December Notes 2007 2006 664,283 508,235 Cash flows from operating activities Profit before tax Adjustments for: Amortization of property, plant and equipment 24 82,856 66,441 Amortization of intangible assets 25 13,998 8,656 Amortization of investment property 22 967 1,659 427 1,791 458,978 435,296 Written-off property and equipment Impairment loss Decrease in value of assets acquired through foreclosure procedure 13,704 8,910 Dividend income (8,069) (4,172) Interest income 5 (2,629,715) (1,840,695) Interest expense 5 1,145,256 654,794 2,577,204 1,779,223 (1,122,370) (627,667) 1,197,519 992,471 - (1,481) Interest received Interest paid Operating profit before changes in operating assets (Increase)/Decrease in operating assets: Restricted accounts Balances with NBRM (116,437) (390,630) Loans and advances to banks 2,289,572 1,240,966 (7,377,016) (4,435,526) 80,610 (69,732) 538,818 1,124,048 8,789,110 5,774,635 114,187 71,654 5,516,363 4,306,405 Loans and advances to customers Other assets Increase/(Decrease) in operating liabilities: Deposits from financial institutions Due to customers Other liabilities Net cash flow from operating activities before income tax Income tax paid Profit tax paid Net cash flow from operating activities (97,374) (73,498) 5,418,989 4,232,907 Cash flow from investing activities Acquisitions of property, plant and equipment 24 (167,563) (77,633) Acquisition of intangible assets 25 (25,836) (49,610) (1,077,694) (1,179,209) 511,487 382,250 6 - 8,069 4,172 (751,531) (920,030) Investment in securities Sale of securities Increase from sale of property, plant and equipment Dividends received Net cash flow from investing activities The notes on pages 8 to 71 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 42 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Cash flow statement (continued) Cash flows from financing activities Increase of subordinated liabilities 469,190 314,075 Proceeds from borrowings 30 9,000,458 5,927,413 Repayment of borrowings (6,895,708) (6,304,060) (372,606) (335,831) 734,040 - Net cash flow from financing activities 2,935,374 (398,403) Net increase/(decrease) in cash and cash equivalents 7,602,832 2,914,474 Cash and cash equivalents as at 1 January 6,923,727 4,009,253 14,526,559 6,923,727 Dividends paid Issuance of ordinary shares Cash and cash equivalents as at 31 December The notes on pages 8 to 71 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 43 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Financial Statements for the Year ended 31 December 2007 1. General Information NLB Tutunska banka AD Skopje (“the Bank”) is a joint stock company registered and domiciled in the Republic of Macedonia. The Bank is a subsidiary of the NLB Group (“NLB”), which controls 87.6% (2006: 83.4%) of the Bank’s voting shares. The address of its registered office is as follows: Bulevar Dvanaesetta Makedonska brigada, No. 20 Skopje - Aerodrom, 1000 Skopje, Republic of Macedonia The consolidated financial statements of the Bank as at and for the year ended 31 December 2007 comprise the financial statements of the Bank and its wholly owned subsidiary NLB Tutunska broker A.D. Skopje, (together referred to as the “Group”), and the interest of the Group in their associate Nov Penziski Fond A.D. Skopje. The Group is licensed to perform all banking activities in accordance with the law. Its main activities include commercial lending, collection of deposits, provision of foreign credit lines, domestic and foreign payment operations, foreign exchange services, as well as retail banking services. Furthermore, it provides trade finance facilities to companies for export and import purposes. These consolidated financial statements have been approved for issue by the Board of Directors on 5 March 2008. Directors The names of the Bank Directors performing managerial responsibilities during the financial year and up to the date of this report are as follows: First General Manager Gjorgji Jancevski Second General Manager Mitre Kolishevski General Manager Ljube Rajevski General Manager Tome Perinski Manager of Internal Audit Division Tihomir Trajkovski Manager of Finance and Treasury Management Division Stojna Stojkoska Manager of Corporate Banking Division Ljiljana Nastoska Manager of Logistics Division Jordanka Grujoska Manager of Cash Services Dragan Panovski Manager of Payment System and Sales Logistics Division Slagjana Beleva Manager of Branch Network Division Antonio Argir Manager of Risk Management Centre Bogoja Kitanchev NLB TUTUNSKA BANKA 44 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies The principal accounting policies applied in the preparation of these financial statements are set out below. These policies have been consistently applied to all the years presented, unless stated otherwise. 2.1 Basis of preparation of financial statements The Group’s financial statements have been prepared in accordance with the Law on Trade Companies and the Accounting Rulebook (Official Gazette of the Republic of Macedonia No. 94/2004, No. 11/2005 and No. 116/2005), and are expressed in thousands of Macedonian Denars (MKD). The consolidated financial statements have been prepared under the historical cost convention, as modified by the revaluation of available for sale financial assets. The preparation of these separate financial statements for the Group is required by the local legislation. The Group owns 49% of Nov Penziski Fond AD Skopje, which is domiciled in the Republic of Macedonia and represents an investment in an associate. In the Bank’s separate financial statements, the investment in the associate is accounted at cost. The Group also owns 100% of the capital of NLB Tutunska broker AD Skopje, which is domiciled in the Republic of Macedonia and represents a subsidiary. In the Bank’s separate financial statements, the investment in the subsidiary is accounted at cost. The preparation of the financial statements in accordance with the generally accepted accounting standards requires the use of certain critical accounting estimates based on a high level of knowledge of the management of current events and actions. The areas involving a higher degree of judgment or complexity, or areas where assumptions and estimations are of significance to the consolidated financial statements are disclosed in Note 4. (a) Basis of consolidation (I) Subsidiaries Subsidiaries are entities managed (controlled) by the Group. Control exists when the Group has the power, directly or indirectly, to govern the financial and business policies of the subsidiaries in order to obtain benefits from those activities. The financial statements of the subsidiaries are included in the consolidated financial statements from the date the control commences until the date that control ceases. (II) Associates An associate is an entity in which the Group has significant influence, but not control, over the financial and operating policies. The investment in associate is accounted for using the equity method. The consolidated financial statements include the Group’s share of total recognised gains and losses of associates on an equity accounting basis from the date that significant influence commences until the date that significant influence ceases. When the Group’s share of losses exceeds its interest in an associate, the Group’s carrying amount is reduced to nil and the recognition of further losses is discontinued. Future losses are considered only to the extent to which the Group has incurred obligations or made payments on behalf of the associate. (III) Transactions eliminated on consolidation Intra-group balances and transactions and any unrealised gains arising from intra-group transactions are eliminated upon preparation of the consolidated financial statements. Unrealised gains and losses arising from transactions with equity accounted investees are eliminated against the investment to the extent of the Group’s stake in the associate. Unrealised losses are eliminated in the same way as unrealised gains, but only to the extent that there is no evidence of impairment. NLB TUTUNSKA BANKA 45 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.2 Foreign currency (a) Functional and presentation currency Items included in the Group’s financial statements are measured using the currency of the primary economic environment in which the Group operates (‘functional currency’). The financial statements are presented in MKD thousands, which is the Group’s functional and presentation currency. (b) Foreign currency transactions Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement. Changes in the fair value of monetary securities denominated in foreign currency classified as available for sale are analysed between translation differences resulting from changes in the amortised cost of the security and other changes in the carrying amount of the security. Translation differences related to changes in the amortised cost are recognised in profit or loss, and other changes in the carrying amount are recognised in equity. Translation differences on non-monetary items, such as equities held at fair value through profit or loss, are reported as part of the fair value gain or loss. Translation differences on non-monetary items, such as equities classified as available-for-sale financial assets, are included in the fair value reserve in equity. The foreign currencies the Group deals with are predominantly Euro (EUR) and United States Dollars (USD) based. The exchange rates used for translation at 31 December 2007 and 2006 were as follows: NLB TUTUNSKA BANKA 2007 2006 MKD MKD 1 EUR 61.20 61.17 1 USD 41.66 46.45 46 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.3 Financial assets The Group classifies its financial assets according to the following categories: loans and receivables, financial instruments held for trading and financial assets available for sale. The Group determines the classification of its investments at initial recognition. (a) Loans and receivables approved by the Group Loans and receivables approved by the Group are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. The Group’s loans and receivables arise when the Group provides funds to a customer with no intention of trading or making short-term profit. The loans and receivables approved by the Group are carried according to the amortized cost by applying the effective interest rate. (b) Financial instruments held for trading Financial assets are classified as held for trading if they are acquired principally for the purpose of selling or repurchasing in the near term and for which there is evidence of a recent actual pattern of making short-term profit. The only trading assets held by the Group are government treasury bills and government bonds. (c) Available-for-sale financial assets Available-for-sale financial assets are assets intended to be held for an indefinite period of time, which may be sold in response to needs for liquidity. Financial assets at fair value through profit and loss, held to maturity and available for sale are recognised on the trade date - the date on which the Group is obligated to purchase or sell the assets. Financial assets are initially recognised at fair value plus transaction costs for all financial assets not carried at fair value through the profit and loss. Financial assets carried at fair value through the profit and loss are initially recognised at fair value, and the transaction costs are recognized in the income statement. Available for sale financial assets and financial assets at fair value through the profit and loss are subsequently carried at fair value. Loans, receivables and held to maturity investments are carried at amortised cost using the effective interest rate method. The gains and losses arising from changes in the fair value of the “financial assets at fair value through the profit and loss” category are included in the income statement in the period in which they arise. The gains and losses arising from changes in the fair value of available for sale financial assets are recognised directly in equity, until the financial asset is derecognised or impaired. At this time, the cumulative gain or loss previously recognised in equity is recognised in the profit and loss. However, the interest calculated using the effective interest rate method and the foreign currency gains and losses on monetary assets classified as available-for-sale are recognised in the income statement. Dividends on available-for-sale equity instruments are recognised in the income statement when the entity’s right to receive payment is established. The fair values of quoted investments in active markets are based on current bid prices, except for investments that do not have a quoted market price in an active market and whose fair value cannot be reliably measured are stated at cost, less impairment losses. Financial assets are derecognised by the Group when the rights to receive cash flows from the financial assets have expired or where the Group has transferred all cash flow right over the transaction asset whereby all risks and rewards of ownership have been transferred to another entity. Financial liabilities are derecognised when they are extinguished − that is, when the liability is settled, cancelled or expired. NLB TUTUNSKA BANKA 47 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.4 Offsetting financial instruments Financial assets and liabilities are offset and the net amount reported in the balance sheet when the Group has a legally enforceable right to offset the recognised amounts and there is an intention to settle on a net basis, or realise the asset and settle the liability simultaneously. 2.5 Interest income and expense Interest income and expense for all interest-bearing financial instruments, except for those classified as held for trading or designated at fair value through profit and loss, are recognised within “interest income” and “interest expense” in the income statement using the effective interest method. The effective interest method is a method for calculating the amortised cost of financial assets or financial liabilities and for allocating the interest income or interest expense over the period of the expected maturity of the financial instruments. The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through the the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. When calculating the effective interest rate, the Group estimates cash flows considering all contractual terms of the financial instrument (for example, prepayment options), but does not consider future loan losses. The calculation includes all fees and points paid or received between parties to the contract that are an integral part of the effective interest rate, transaction costs and all other premiums or discounts. Once a financial asset or a group of similar financial assets has been written off because of an impairment loss, interest income is recognised using the rate of interest used to discount the future cash flows for the purpose of measuring the impairment loss. 2.6 Fee and commission income Fees and commissions consist mainly of financial services performed by the Group including the issuance of guarantees, letters of credit, domestic and foreign payment operations, and other services. Fees and commissions are generally recognised on an accrual basis when the service has been provided. 2.7 Dividend income Dividends are recognised in the income statement when the Group’s right to receive payments is established. 2.8 Impairment of financial assets (a) Assets carried at amortised cost The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or group of financial assets is impaired. A financial asset or a group of financial assets is impaired and impairment losses have incurred only if there is objective evidence of impairment as a result of one or more events that occurred after the initial recognition of the asset (a ‘loss event’) and that loss event (or events) has an impact on the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. NLB TUTUNSKA BANKA 48 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.8 Impairment of financial assets (continued) (a) Assets carried at amortised cost (continued) The criteria that the Group uses to determine that there is objective evidence of an impairment loss include: • Delinquency in contractual payments of principal or interest; • Cash flow difficulties experienced by the borrower (for example, equity ratio, net income percentage of sales); • Breach of loan covenants or conditions; • Initiation of bankruptcy proceedings; • Deterioration of the borrower’s competitive position; • Deterioration in the value of collateral. The estimated period between a loss occurring and its identification is determined by the management for each identified portfolio. In general, the period used is three months. The Group first assesses whether objective evidence of impairment exists individually for financial assets that are individually significant, and individually or collectively for financial assets that are not individually significant. If the Group determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. Assets that are individually assessed for impairment and for which an impairment loss is or continues to be recognised are not included in a collective assessment of impairment. The amount of Impairment loss is measured as difference between the asset’s carrying amount and the present value of estimated future cash flows (excluding future credit losses that have not incurred) discounted at the financial asset’s original effective interest rate. The carrying amount of the asset is reduced through the use of allowance account and the amount of the loss is recognised in the income statement. If a loan or a held-to-maturity investment has a variable interest rate, discount rate for measuring any impairment loss is the current effective interest rate determined under the contract. The calculation of the present value of the expected future cash flows of a collateralised financial asset reflects the cash flows that may result from foreclosure less costs for obtaining and selling the collateral, whether or not the foreclosure is probable. For the purposes of a collective evaluation and impairment, financial assets are grouped on the basis of similar credit risk characteristics (i.e., on the basis of the Group’s grading process that considers asset type, industry, geographical location, collateral type, past-due status and other relevant factors). Those characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative of the debtors’ ability to pay all amounts due according to the contractual terms of the assets being evaluated. Estimates of changes in future cash flows for groups of assets should reflect and be directly consistent with changes in related observable data from period to period (for example, changes in unemployment rates, property prices, payment status, or other factors indicative of changes in the probability of losses in the Group and their magnitude). The methodology and assumptions used for estimating future cash flows are reviewed regularly by the Group to reduce any differences between loss estimates and actual loss experience. When a loan is uncollectible, it is written off against the related provision for loan impairment. Such loans are written off after all the necessary procedures have been completed and the amount of the loss has been determined. If, in a subsequent period, the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised (such as an improvement in the debtor’s credit rating), the previously recognised impairment loss is reversed from the allowance account and the amount is recognised in the income statement in net impairment losses. NLB TUTUNSKA BANKA 49 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.8 Impairment of financial assets (continued) (b) Assets classified as available for sale The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or a group of financial assets is impaired. In the case of equity investments classified as available for sale, a significant or prolonged decline in the fair value of the security below its cost is considered in determining whether the assets are impaired. If any such evidence exists for available-for-sale financial assets, the cumulative loss – measured as the difference between the acquisition cost and the current fair value, less any impairment loss on that financial asset previously recognised in profit or loss – is removed from equity and recognised in the income statement. Impairment losses recognised in the income statement on equity investments, consequently are not reversed through the income statement. If, in a subsequent period, the fair value of a debt instrument classified as available for sale increases and the increase can be objectively related to an event occurring after the impairment loss was recognised in the income statement, the impairment loss is reversed through the income statement. (c) Renegotiated loans Loans that are either subject to collective impairment assessment or individually significant and whose terms have been renegotiated are no longer considered to be past due but are treated as new loans. In the subsequent year, the assets should be considered to be past due and such loans are to be disclosed. 2.9 Investment property Investment property is property held either to earn rental income or for capital appreciation or both. The Group holds investment property that has been acquired through the enforcement of security over loans and receivables. Rental income from investment property is recognized in the income statement on a straight-line basis over the term of the lease. Investment property is measured at cost less accumulated depreciation and any accumulated impairment losses. The depreciation of the investment property is charged to the income statement using the straight-line method to allocate their cost to their residual values over their estimated useful lives. Investment property is periodically reviewed for impairment. The Group has made a decision to use these assets for its own purposes. The estimated useful life is as follow: Building NLB TUTUNSKA BANKA 2007 2006 40 years 40 years 50 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.10 Intangible assets Intangible assets that are acquired by the Group are stated at cost less accumulated amortisation and impairment losses. Subsequent expenditures are capitalised only when the future economic benefits increase arising from the assets to which they are related. All other expenditures are recognized in the income statement as incurred. Amortisation is recognized in the income statement on a straight-line basis by writing off the cost for the assets during their useful lives. Intangible assets are amortised from the date they are available for use. The estimated useful life is as follow: 2007 2006 Software 5 years 5 years Patents and licenses 5 years 5 years Other 5 years 5 years 2.11 Property and equipment Property and buildings comprise mainly branches and offices. All property, plant and equipment are stated at historical cost less depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items. Subsequent costs are included in the asset’s carrying amount or are recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Group and the cost of the item can be measured reliably. All other repairs and maintenance to the property, plant and equipment are recognized in the income statement as to other operating expenses during the period in which they are incurred. Land is not depreciated. Depreciation of other assets is calculated using the straight-line method to allocate their cost to their residual values over their estimated useful lives. The estimated useful life is as follows: Buildings Furniture and equipment 2007 2006 40 years 40 years 4-10 years 4-10 years The assets’ residual values and useful lives are reviewed, and adjusted if appropriate, by the Group at each balance sheet date. Assets that are subject to amortisation are reviewed for impairment whenever events or changes in circumstances indicate that the carring amount may not be recoverable. An asset’s carring amount is written down immediately to its recoverable amount if the asset’s accounting value is greater than its estimated recoverable amount. The recoverable amount is the higher amount of the asset’s net sales value and its value in use. Gains and losses from disposals are determined according to the assets’ carring amount and these are included in other operating expenses in the income statement. NLB TUTUNSKA BANKA 51 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.12 Leases (a) The Group as the lessee The leases entered into by the Group are primarily operating leases. The total payments made under operating leases are charged to other operating expenses in the income statement on a straight-line basis over the period of the lease. When an operating lease is terminated before the lease period has expired, any payment required to be made to the lessor by way of penalty is recognised as an expense in the period in which termination takes place. 2.13 Cash and cash equivalents For the purposes of the cash flow statement, cash and cash equivalents comprise balances with less than three months’ maturity from the date of acquisition, including cash and non-restricted balances with central banks, treasury bills and other eligible bills, loans and advances to banks. 2.14 Provisions A provision is recognised if, as a result of a past event, the Group has a present legal or constructive obligation that can be estimated reliably, and it is probable that there will be an outflow from the Group for the settlement of the obligation. Provisions are determined by discounting the expected future cash flows at a pre-tax discount rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. A provision for onerous contract is recognised when the expected benefits to be derived by it are lower than the unavoidable cost of meeting its obligations under the contract. The provision is measured at the present value of the lower of the expected cost of terminating the contract and the expected net cost of continuing with the contract. Before a provision for the onerous contract is established, the Group recognises any impairment loss on the assets associated with that contract. 2.15 Employee benefits (a) Defined contribution plans The Group contributes to its employees’ post retirement plans as prescribed by the Macedonian legislation. Contributions, based on salaries, are made to the pension funds responsible for the payment of pensions. There is no additional liability for the Group, in respect to these plans. Obligations for contributions to defined contribution pension plans are recognised as an expense in the income statement when calculated. (b) Short-term employee benefits Short-term employee benefits are measured on an undiscounted basis and are recognized when the related service is provided. An obligation is recognised by the Group for the amount expected to be paid as bonus or profit-sharing if the Group has a present legal or constructive obligation to pay this amount as a result of past services provided by the employee and the obligation can be estimated reliably. NLB TUTUNSKA BANKA 52 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.15 Employee benefits (continued) (c) Other long-term employee benefits The Group’s net obligation in respect to long-term employee benefits, except to the pension plans, is the amount of future benefits that employees have earned in return for their service in the current and prior periods; that bonus is discounted to determine its present value, and the objective to any related assets is deducted. Any actuarial gains or losses are recognised in profit or loss in the period in which they arise. Other long-term employee benefits include jubilee awards, retirement indemnity bonuses and similar. Valuations of these obligations are carried out by independent qualified actuaries. The main actuarial assumptions included in the calculation of the obligation for long-term employee benefits are: • Discount rate of 2.75% • Number of employees eligible to claim benefits and • Future salary increases using general salary inflation index, promotions and increases in salaries according to past years of service. 2.16 Deferred income tax Deferred income tax is acknowledged by using the balance sheet method, arising from the time difference between the carrying amount of assets and liabilities for the needs of financial reporting and the amounts used for tax purposes. Deferred income tax is determined using tax rates that are expected to be applied when the related time differences are realised on the basis of the adopted laws or have been significantly adopted on the day of reporting. Deferred tax assets are recognised only for the amount for which it is probable that future taxable profit will be available against the asset that will be utilised. Deferred tax assets are reduced by the amount that is no longer probable to be utilised. 2.17 Deposits, borrowings and subordinated liabilities Deposits, borrowings, and subordinated liabilities are the main sources for financing the Group’s activities. The Group classifies capital instruments as financial liabilities or equity instruments in accordance with the substance of the contractual terms of the instrument. The Group initially recognises deposits, borrowings, and subordinated liabilities on their date of origination. Deposits, borrowings, and subordinated liabilities are initially measured at cost net of transaction costs, and subsequently measured at their amortised cost using the effective interest method, except where the Group chooses to carry the liabilities at fair value through the profit and loss. 2.18 Share capital (a) Preference share capital Preference share capital that is non-redeemable is classified as equity. (b) Share issue costs Incremental costs directly attributable to the issue of new shares are shown in equity as a deduction, net of tax, from the proceeds. NLB TUTUNSKA BANKA 53 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Accounting Policies (continued) 2.18 Share capital (continued) (c) Dividends on ordinary shares Dividends on ordinary shares are recognised in eqity in the period in which they are approved by the Group’s shareholders. Dividends for the year that are declared after the balance sheet date are dealt within the subsequent events note. (d) Treasury shares When the Group purchases the Group’s shares, the consideration paid is deducted from total shareholders equity as treasury shares until they are cancelled. When such shares are subsequently sold or reissued, any consideration received is included in Group’s shareholders equity. 2.19 Fiduciary activities The Group acts as trustee and in other fiduciary capacities that result in the holding or placing of assets on behalf of individuals, trusts, retirement benefit plans and other institutions. These assets and income arising thereon are excluded from these financial statements, as they are not assets of the Group. 2.20 Comparatives Where necessary, comparative figures have been adjusted to conform with changes in presentation in the current year. 2.21 Financial guarantee contracts Financial guarantee contracts are contracts that require the issuer to make specified payments to reemburse the guarantee holder for a loss it incurs because a specified debtor fails to make payments when due. Such financial guarantees are given to banks, financial institutions and other bodies on behalf of customers to secure loans, allowed overdrafts and other banking instruments. Financial guarantees are initially recognised in the financial statements at fair value on the date the guarantee was issued. Subsequent to initial recognition, the Group’s liabilities under such guarantees are measured at the higher of the initial measurement, less amortization calculated to recognize, in the income statement, the fee income earned on a straight line basis over the life of the guarantee and the best estimate of the expenditures required to settle any financial obligation arising at the balance sheet date. These estimates are determined based on experience with similar transactions and history of past losses, supplemented by the judgment of the management. Any increase in the liability relating to guarantees is included in the income statement under other operating expenses. NLB TUTUNSKA BANKA 54 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management The Group’s activities expose it to a variety of financial risks and those activities involve the analysis, evaluation, acceptance and management of some degree of risk or combination of risks. Taking risk is core to the financial business, and the operational risks are an inevitable consequence of being in business. The Group’s aim is therefore to achieve an appropriate balance between risk and return of assets and to minimise potential adverse effects to the Group’s financial performance. The Group’s risk management policies are designed to identify and analyse these risks, to set appropriate risk limits and controls, and to monitor the risks and adhere to the limits by means of reliable and up-to-date information systems. The Group regularly reviews its risk management policies and systems to reflect changes in markets, products and emerging best practice. Risk management is carried out by the risk management department in the Group under policies approved by the Board of Directors. The Board provides written principles for overall risk management, as well as written policies covering specific areas, such as credit risk, currency risk, interest rate risk, and liquidity risk. In addition, internal audit is responsible for the independent review of risk management and the control environment. The most important types of risk that the Group is exposed to, are credit risk, liquidity risk, market risk and other operational risks. The market risk includes the currency risk, interest rate and other price risk. 3.1 Credit risk The Group takes on exposure to credit risk, which is the risk that a customer will cause a financial loss for the Group by failing to discharge an obligation. Credit risk is the most important risk for the Group’s business; management therefore carefully manages its exposure to credit risk. Credit exposures arise principally in lending activities, i.e., loans and advances, and investment activities in debt securities and other securities in the Group’s assets. There is also credit risk in the off-balance sheet financial instruments. The credit risk management and control are centralised in credit risk management team within the risk department and reported to the Board of Directors. 3.1.1 Credit risk measurement (a) Loans and advances In measuring the credit risk related to loans and advances to customers and to banks, three components are relevant: 1) 2) 3) the probability of default arising from the agreement between the contractual parties; the current exposure to the customer and the possibility of monitoring its future development; the recovery ratio of uncollected receivables of the Group. These credit risk measurements, which reflect expected loss (the ‘expected loss model’) and are required by the Basel Committee on Banking Regulations and the Supervisory Practices (the Basel Committee), are embedded in the Group’s operational management. The operational measurements can be contrasted with impairment allowances required under IAS 39, which are based on losses that have been incurred at the balance sheet date of the Group, rather than expected losses (Note 3.1.3). NLB TUTUNSKA BANKA 55 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.1 Credit risk measurement (continued) (a) Loans and advances (continued) (I) The Group assesses the probability of default between contractual parties using internal rating tools tailored to the various categories of clients. They have been developed internally and combine statistical analysis with loan officer judgment and are validated, where appropriate, by comparison with externally available data. The customers of the Group are segmented into four risk categories. The Group’s rating scale, which is shown below, reflects the range of default probabilities defined for each category. This means that, in principle, exposures migrate between categories as the assessment of their probability of default changes. The methodology is kept under review and upgraded as necessary. The Group regularly validates the performance of the rating system taking into consideration the occurred defaults by the contractual parties. Group’s classification system Description of the category Group’s categories A Investment grade B Standard monitoring C Special monitoring D+E Sub-standard The criterion for classification of financial assets or contingent liabilities into the risk categories A, B, C, D and E is as follows: Financial assets or contingent liabilities are classified into the risk category A if they refer to receivables from: • National Bank of the Republic of Macedonia and the Republic of Macedonia; • clients which are not likely to default and who repay their obligations within the maturity, or with a delay of 15 days; • and exposure secured by pledging collateral graded as first class collateral. Financial assets or contingent liabilities are classified into the risk category B if they refer to receivables from: • clients whose cash flows are assessed as adequate to duly fulfil its due obligations, regardless if its present financial position is assessed as weak, without signs of further deterioration in the future; • clients who settle their liabilities with delay of up to 30 days, occasionally with delay of between 31 and 90 days. Financial assets or contingent liabilities are classified into the risk category C if they refer to receivables from: • clients whose cash flows will not be sufficient for regular repayment of matured liabilities; • clients that settle their liabilities with delay of up to 90 days, occasionally with delay between 91 to 180 days; • clients that are clearly undercapitalized; • clients that do not have sufficient long term capital resources for financing long term investments; • clients from whom the Group does not receive currently satisfactory information or adequate documentation concerning settlement of liabilities. Financial assets or contingent liabilities are classified into risk category D and E if they refer to receivables from: • clients for which there has been a strong likelihood of loss of part of the financal assets or of payment of the contingent liabilities for a longer period; • clients that settle their liabilities with delay of more than 90 to 180 days, and occasionally with delay between 181 to 360 days; NLB TUTUNSKA BANKA 56 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.1 Credit risk measurement (continued) (a) Loans and advances (continued) • clients which are insolvent; • clients for which a motion for commencement of a liquidation process has began; • clients that are in the process of reform or in the process of liquidation; • clients that declared bankruptcy; • client from whom no repayment is expected; • clients with questionable legal grounds. (II) The exposure to default enterprises does not surpass the amount the Group expects to own up to the time of default. For example, for a loan, it is its principal. The Group includes any amount already drawn plus the further amount that may have been drawn by the time of default, as liabilities of the enterprise. (III) The given rate of default or loss severity represents the Group’s expectations on the extent of loss in case default occur. This indicator is expressed as percentage of loss per unit of exposure and typically varies in accordance with the classification of the client, type and seniority of claim and liquidity of collateral or other loan mitigation. (b) Debt securities and other securities For debt securities and other securities, the department for managing the credit risk exposure uses classifications depending on the issuer: the National Bank of the Republic of Macedonia, Republic of Macedonia and banks. The investments in those securities are viewed as a way to gain a higher credit quality and to simultaneously maintain available asset sources to meet the funding requirements. Investments are allowed only in liquid securities that have high credit rating. Given their high credit raiting, the management of the Group does not expect any contractual party to fail to meet its obligations. The maximum exposure to credit risk is represented by the carring amount of each financial asset in the balance sheet. 3.1.2 Risk limit control and mitigation policies The Group manages, limits and controls concentrations of credit risk wherever they are identified − in particular, with individual customers and groups, as well as with industrial and geographical risks. The Group structures the levels of credit risk it undertakes by placing limits on the amount of risk accepted in relation to one borrower, or group of borrowers, and to geographical and industry segments. Such risks are continuously monitored and subject to an annual or more frequent review, when considered necessary. The limit levels of credit risk by product and industry sector are approved by the Board of Directors. The exposure to credit risk is also managed through regular analysis of the ability of borrowers and potential borrowers to meet interest and principal repayment obligations and by changing these loan approval limits where appropriate. Some other specific control and mitigation measures are outlined below. (a) Collateral The Group employs a range of policies and practices to mitigate credit risk. The most traditional of these is the taking of security for funds advances, which is common practice. The Group implements guidelines on the acceptability of specific classes of collateral or credit risk mitigation. The principal collateral types for loans and advances are: NLB TUTUNSKA BANKA 57 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.2 Risk limit control and mitigation policies (continued) (a) Collateral (continued) • Cash, bank’s and first class companies’ guarantees; • Mortgages over residential properties; • Charges over business assets such as premises, inventory and accounts receivable; • Charges over financial instruments such as debt securities and equity. Loans to corporate entities and individuals are generally secured; account overdrafts and credit cards issued to individuals are secured by bills of exchange at the full amount of principal, interest and other charges. In addition, in order to minimise the credit loss, the Group will seek additional collateral from the customers as soon as impairment indicators are noticed for the relevant individual loans and advances. Debt securities, treasury and other eligible bills are generally unsecured. (b) Credit-related contingencies The primary purpose of these instruments is to ensure that funds are available to a customer as required. Guarantees and letters of credit carry the same credit risk as loans and are secured with same collateral as loans. 3.1.3 Impairment and provisioning policies The internal rating systems described in Note 3.1.1 focus more on credit-quality mapping from the inception of the credit approval and investment activities. In contrast, impairment provisions are recognised in the financial statements only for losses that have been incurred at the balance sheet based on objective evidence of impairment (see Note 2.8). The impairment provision shown in the balance sheet is derived from each of the four internal rating grades. However, the majority of the impairment provisions come from middle two categories. The table below shows the percentage of the Group’s on- and off-balance sheet items relating to loans and advances, as well as the associated impairment provision for each of the Group’s internal rating categories: Bank’s rating 2007 2006 Loans and advances (%) Impairment provisions (%) Loans and advances (%) Impairment provisions (%) 95 1 94 1 2.Standard monitoring 2 10 1 10 3.Special monitoring 2 25 4 25 4.Sub-standard 1 57 1 58 100 7.4 100 8.6 1.Investment grade The internal rating tools assists management to determine whether objective evidence of impairment exist under IAS 39, based on the following criteria set out by the Group: • Delinquency in contractual payments of principal or interest; • Cash flow difficulties experienced by the borrower (e.g. equity ratio, net income percentage of sales); • Breach of the contract and loan terms; • Initiation of bankruptcy proceedings; • Deterioration of the borrower’s competitive position; and • Deterioration in the value of collateral. NLB TUTUNSKA BANKA 58 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.3 Impairment and provisioning policies (continued) The Group’s policy requires the review of individual financial assets that are above materiality thresholds, at least annually or more regularly, when it is required by individual circumstances. Impairment allowances on individually assessed accounts are determined by an evaluation of the incurred loss at the balance sheet date on a case-by-case basis, and are applied to all individually significant accounts. The assessment normally encompasses the received collateral (including the re-confirmation of its enforceability) and the anticipated receipts for that individual account. Collectively assessed impairment allowances refer to: (i) portfolios of homogenous assets that are individually below materiality thresholds; and (ii) losses that have incurred but have not yet been identified, by using the available historical experience, experienced judgment and statistical techniques. 3.1.4 Maximum exposure to credit risk before providing collateral or other credit enhancements Maximum exposure 2007 2006 Treasury bills and other eligible bills 8,206,838 4,956,513 Loans, and advances to banks 4,396,169 3,579,625 − Overdrafts 623,728 86,222 − Credit cards 472,513 266,053 − Term loans 5,242,391 2,346,378 − Mortgages 1,976,515 1,571,077 2,272,675 722,292 12,112,099 10,715,309 647,949 91,159 1,285,867 1,043,022 256,806 354,195 7,219,545 4,941,851 44,713,095 30,673,696 Credit risk exposures relating to on-balance sheet items are as follows: Loans, and advances to customers Loans to individuals: Loans to corporate entities: − Large corporate entities − Small and medium sized enterprises (SMEs) Trading assets Investment securities − Debt securities Other assets Credit risk exposures relating to off-balance sheet items are as follows: Financial guarantees At 31 December 2007 The above table represents a worse case scenario of credit risk exposure to the Group at 31 December 2007 and 2006, without taking account of any provided collateral or other credit enhancements attached. For on-balance-sheet assets, the exposures set out above are based on net carrying amounts as reported in the balance sheet. As shown above, 61% of the total maximum exposure is derived from loans and advances to banks and customers (2006: 63%); 23% represents investments in debt securities (2006: 20%). NLB TUTUNSKA BANKA 59 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.4 Maximum exposure to credit risk before providing collateral or other credit enhancements (continued) The management is confident in its ability to continue to control and sustain minimal exposure to credit risk of the Group, resulting from both its loans and advances portfolio and debt securities, based on the following: • 96% of the loans and advances portfolio are categorized in the first two grades of the intern rating system (2006: 95%); • The loans granted to SMEs, that represent the largest portfolio of the Group, are secured by a collateral; • 87% of the loans to individuals are secured by a collateral; • 93% of the loans and advances portfolio of the Group are considered to be neither past due nor impaired (2006: 92%); • An improvement in the portfolio of loans and advances has resulted in a lower impairment loss in the income statement, showing a 8,04% decrease; • The Group has introduced a more stringent selection process upon granting loans and advances; • More than 97% of the investments in debt securities and other securities are issued by the Republic of Macedonia and the National Bank of the Republic of Macedonia. 3.1.5 Loans and advances Loans and advances are summarised as follows: 31 December 2007 31 December 2006 Loans to customers Loans to banks Loans to customers Loans to banks 22,996,121 4,137,493 16,026,019 3,366,271 628,429 263,382 312,698 214,275 1,238,872 637 1,140,105 312 Gross 24,863,422 4,401,512 17,478,822 3,580,858 Less: allowance for impairment (2,163,501) (5,343) (1,771,491) (1,233) Net 22,699,921 4,396,169 15,707,331 3,579,625 Neither past due nor impaired Past due but, not impaired Impaired The total impairment allowance for loans and advances is MKD 2,168,844,000 (2006: MKD 1,772,724,000). Further information of the impairment allowance for loans and advances to banks and to customers is provided in Notes 17 and 19. During the year ended on 31 December 2007, the Group’s total loans and advances increased by 40% as a result of the expansion of the business with loans, especially in the retail customers section. When entering into new markets or new industries, in order to minimise the potential increase of credit risk exposure, the Group focused more on the business with large corporate enterprises or banks with good credit rating or retail customers providing sufficient collateral. NLB TUTUNSKA BANKA 60 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (a) Loans and advances neither past due not impaired The credit quality of the portfolio of loans and advances neither past due nor impaired may be assessed with the use of the intern rating system accepted by the Group. 31 December 2007 Loans Individuals (retail customers) Legal entities Over drafts Credit cards Term loans Mortgages Large corporate customers SMEs Total Loans Loans to banks 1. Investment grade 310,507 468,377 5,346,820 2,058,698 2,319,303 12,492,416 22,996,121 4,137,493 Total 310,507 468,377 5,346,820 2,058,698 Categories: 2,319,303 12,492,416 22,996,121 4,137,493 31 December 2006 Loans Individuals (retail customers) Legal entities Over drafts Credit cards Term loans Mortgages Large corporate customers SMEs Total Loans Loans to banks 1. Investment grade 41,782 275,044 2,418,510 1,667,290 764,837 10,858,556 16,026,019 3,366,271 Total 41,782 275,044 2,418,510 1,667,290 Categories: NLB TUTUNSKA BANKA 61 764,837 10,858,556 16,026,019 3,366,271 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (b) Loans and advances past due but not impaired The Gross amount of loans and advances to customers that are due but not impaired, is the following: (I) Loans and advances 31 December 2007 Individuals Overdrafts Term loans Mortgages Total Past due up to 30 days 114,322 18,911 3,792 137,025 Past due of 30-60 days 41,906 8,677 1,433 52,016 Past due of 60-90 days 175,217 5,284 862 181,363 Total 331,445 32,872 6,087 370,404 - 37,108 13,545 50,653 Fair value of collateral Legal entities SMEs Total 170,509 170,509 Past due of 30-60 days 42,410 42,410 Past due of 60-90 days 45,106 45,106 Total 258,025 258,025 Fair value of collateral 415,102 415,102 Past due of up to 30 days 31 December 2006 Individuals Overdrafts Term loans Mortgages Total Past due up to 30 days 16,203 10,845 3,565 30,613 Past due of 30-60 days 5,939 6,190 1,638 13,767 Past due of 60-90 days 31,787 27,553 5,411 64,751 Total 53,929 44,588 10,614 109,131 - 50,362 23,641 74,003 Fair value of collateral NLB TUTUNSKA BANKA 62 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (I) Loans and advances (continued) Legal entities SMEs Total 128,193 128,193 Past due of 30-60 days 21,780 21,780 Past due of 60-90 days 53,594 53,594 Total 203,567 203,567 Fair value of collateral 328,292 328,292 Past due of up to 30 days (II) Loans and advances to banks The gross value of past due but not impaired loans and advances with banks on 31st December 2007 amount to MKD 263,382,000 (2006: MKD 214,275,000). Generally, the Group does not hold collateral on the basis of loans and advances to banks. (c) Loans and advances individually impaired (I) Loans and advances to customers The individually impaired loans and advances to customers before taking into consideration the cash flows from collateral held is MKD 444,708,000 (2006: MKD 286,331,000). The breakdown of the gross amount of individually impaired loans and advances by class, along with the fair value of related collateral held by the Group as security, are as follows: Individuals Corporate entities Credit cards Other loans SMEs Total 49,443 4,812 390,453 444,708 - - 781,519 781,519 9,368 3,425 273,538 286,331 - - 547,506 547,506 31 December 2007 Individually impaired loans Fair value of collateral 31 December 2006 Individually impaired loans Fair value of collateral The fair value of the collateral displayed above is determined by the local certified assessors and represents value realisable by the legal funds’ owners. The management considers the loan covered by a collateral to be impaired, since former experience has shown that a significant part of the collateral cannot be used due to administrative and legal difficulties. Loan impairment is due to the management not being able to use the rights that arise from the collateral and cannot undertake the collateral to their ownership. NLB TUTUNSKA BANKA 63 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (II) Loans and advances to banks The total gross amount of individually impaired loans and advances to banks, as at 31 December 2007 was MKD 637,000 (2006: 312,000). Generally, no collateral is held by the Group on the basis of loans and advances to banks. 3.1.6 Debt securities, treasury bills and other eligible bills The table below presents an analysis of debt securities, treasury bills and other eligible bills. Issuer of the investment securities is the National Bank of the Republic of Macedonia and Republic of Macedonia. Standard & Poor’s Ratings Services assigned its ‘BBB-’ foreign currency and ‘BBB-’ local currency sovereign credit ratings to the Republic of Macedonia. Issuers of the trading securities are Banks who are BB+ rated from Fitch Rating Agency. 2007 Treasury bills and other bills Trading securities Investment securities Total NBRM 6,060,092 - - 6,060,092 Republic of Macedonia 2,146,746 350,949 1,285,867 3,783,562 Banks - 297,000 - 297,000 Total 8,206,838 647,949 1,285,867 10,140,654 2006 Treasury bills and other bills Trading securities Investment securities Total NBRM 3,289,001 - - 3,289,001 Republic of Macedonia 1,667,512 91,159 1,043,022 2,801,693 4,956,513 91,159 1,043,022 6,090,694 Total 3.1.7 Repossessed collateral During 2007, the Group obtained assets by taking possession of collateral held as security, as follows: Nature of assets Property 2007 2006 Carring amount Carring amount 6,997 20,107 Property includes apartments, equipment and business property that is not in use by the Group for its business purposes. Repossessed properties of the Group are sold as soon as practicable with the purpose of reducing the outstanding indebtedness of the Group. Repossessed property of the Group is classified in the balance sheet within other assets. NLB TUTUNSKA BANKA 64 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (a) Geographical sectors The following table breaks down the Group’s main credit exposure at their carring amount, as categorised by geographical region as of 31 December 2007. For this table, the Group has allocated exposures to regions based on the country of domicile of its clients. Treasury bills and other eligible bills Loans and advances to banks EU countries Outside EU Republic of Macedonia Other countries Total - - 8,206,838 - 8,206,838 3,002,307 659,845 685,626 48,391 4,396,169 Loans and advances to customers: Loans to individuals: − Overdrafts 11 130 623,585 2 623,728 − Credit cards 144 94 472,272 3 472,513 − Term loans - - 5,242,391 - 5,242,391 − Mortgages - - 1,976,515 - 1,976,515 − Large corporate entities - - 2,272,675 - 2,272,675 − SMEs - - 12,111,899 200 12,112,099 Trading assets - - 647,949 - 647,949 Investment securities – debt securities - - 1,285,867 - 1,285,867 13,494 78 243,232 2 256,806 3,015,956 660,147 33,768,849 48,598 37,493,550 Loans to corporate entities: Other assets At 31 December 2007 NLB TUTUNSKA BANKA 65 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (continued) (a) Geographical sectors (continued) EU countries Outside EU Republic of Macedonia Other countries Total - - 4,956,513 - 4,956,513 2,206,846 937,945 350,269 84,565 3,579,625 - - - - - 6 - 86,216 - 86,222 − Credit cards 332 134 265,444 143 266,053 − Term loans 1 - 2,346,377 - 2,346,378 − Mortgages - - 1,571,077 - 1,571,077 − Large corporate entities - - 722,292 - 722,292 − SMEs 3 - 10,715,294 12 10,715,309 Trading assets - - 91,159 - 91,159 Investment securities – debt securities - - 1,043,022 - 1,043,022 Other assets - - 354,195 - 354,195 2,207,188 938,079 22,501,858 84,720 25,731,845 Treasury bills and other eligible bills Loans and advanes to banks Loans and advances to customers: Loans to individuals: − Overdrafts Loans to corporate entities: On 31 December 2006 NLB TUTUNSKA BANKA 66 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (continued) (b) Industry sectors The following table breaks down the Group’s main credit exposure at their carring amounts, as categorised by the industry sectors of our clients. Financial institutions Manufacturing Real estate Whole sale and retail trade Public Other sector industries Individuals Total Treasury bills and other eligible bills 8,206,838 - - - - - - 8,206,838 Loans and advances to banks 4,396,169 - - - - - - 4,396,169 − Overdrafts - - - - - - 623,728 623,728 − Credit cards - - − Term loans - - - - - - 472,513 472,513 - - - - 5,242,391 5,242,391 − Mortgages - - - - - - 1,976,515 1,976,515 − Large corporate entities - 991,794 - 1,040,833 - 240,048 - 2,272,675 − SMEs - 4,285,565 1,836,277 4,016,507 205,954 1,767,796 - 12,112,099 647,949 - - - - - - 647,949 1,232,187 - - - 53,680 - - 1,285,867 - - - - - 256,806 - 256,806 Loans and advances to customers: Loans to individuals: Loans to corporate entities: Trading assets Investment securities − debt securities Other assets At 31 December 2007 NLB TUTUNSKA BANKA 14,483,143 5,277,359 1,836,277 67 5,057,340 259,634 2,264,650 8,315,147 37,493,550 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (continued) (b) Industry sectors (continued) Financial institutions Manufacturing Real estate Whole sale and retail trade Public Other sector industries Individuals Total Treasury bills and other eligible bills 4,956,513 - - - - - - 4,956,513 Loans and advances to banks 3,579,625 - - - - - - 3,579,625 − Overdrafts - - - - - - 86,222 86,222 − Credit cards - - - - - - 266,053 266,053 − Term loans - - - - - - 2,346,378 2,346,378 − Mortgages - - - - - - 1,571,077 1,571,077 − Large corporate entities - 429,988 - 50,517 - 241,787 - 722,292 − SMEs - 3,782,160 668,550 3,984,948 - 2,279,651 - 10,715,309 91,159 - - - - - - 91,159 982,475 - - - 60,547 - - 1,043,022 155 - - - - 354,040 - 354,195 9,609,927 4,212,148 668,550 4,035,465 Loans and advances to customers: Loans to individuals: Loans to corporate entities: Trading assets Investment securities − debt securities Other assets At 31 December 2006 60,547 2,875,478 4,269,730 25,731,845 3.2 Market risk Market risk represents the risk of change in market prices, such as the change in the interest rates, the price of capital, change of the exchange rates and the credit spread (with the exception of the changes between the creditor and debtor) that shall influence the Group incomes, or the value of the financial instruments. The purpose of market risk management is to control the credit exposure within acceptable limits, for the purposes of optimization of the risk return. 3.2.1 Foreign exchange risk The Group is exposed to a currency risk through the foreign currency transactions. The Group is convinced that the net exposure is held to a satisfying level by purchasing and selling currencies for the purposes of compensation of short-term deviations. NLB TUTUNSKA BANKA 68 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.1 Foreign exchange risk (continued) Concentrations of currency risk-on and off-balance sheet financial instruments:ments EUR USD MKD Other Total 1,777,854 49,478 1,862,242 528,772 4,218,346 - - 8,206,838 - 8,206,838 2,295,597 1,910,413 68,641 121,518 4,396,169 13,381,500 6,418 7,974,246 1,337,757 22,699,921 282,654 - 365,295 - 647,949 1,033,611 - 447,906 - 1,481,517 - - 43,447 - 43,447 Other assets 32,569 13,798 210,439 - 256,806 Total assets 18,803,785 1,980,107 19,179,054 1,988,047 41,950,993 799,745 55,980 870,042 421,105 2,146,872 11,109,326 1,868,917 14,142,839 255,861 27,376,943 7,401,512 73,313 9,734 242,966 7,727,525 - - - 786,120 786,120 20,596 - 270,944 613 292,153 Current income tax liabilities - - 5,229 - 5,229 Deferred income tax liabilities - - 29,091 - 29,091 19,331,179 1,998,210 15,327,879 1,706,665 38,363,933 Net on-balance sheet financial position (527,394) (18,103) 3,851,175 281,382 3,587,060 Off-balance sheet 3,196,965 444,520 3,578,060 - 7,219,545 Total assets 14,852,583 1,535,940 11,695,747 836,914 28,921,184 Total liabilities 15,898,064 1,647,981 8,125,292 666,220 26,337,557 Net on-balance sheet financial position (1,045,481) (112,041) 3,570,455 170,694 2,583,627 2,011,095 239,976 2,690,005 775 4,941,851 At 31 December 2007 Assets Cash and balances with NBRM Treasury bills and other eligible bills Loans and advances to banks Loans and advances to customers Trading assets Investment securities: – Available for sale Investment in associates Liabilities Deposits from financial institutions Due to customers Other borrowed funds Subordinated liabilities Other liabilities Total liabilities At 31 December 2006 Off-balance sheet On the 31st December 2007, should MKD devaluate in 5% in relation to the foreign currencies, whereas the remaining variables remain unaltered, the profit before tax for the twelve-month-period, up to the 31st December 2007, shall decrease in around 18,576,000 MKD (2006: 52,481,000 MKD). Otherwise, should MKD revaluate in 5% in relation to the foreign currencies, whereas the remaining variables remain unaltered, the profit before tax shall increase in around MKD 20,176,000 (2006: MKD 57,681,000). NLB TUTUNSKA BANKA 69 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.2 Interest rate risk The Group’s operations are subject to the risk of interest rate fluctuations to the extent that interestearning assets (including investments) and interest-bearing liabilities mature or reprice at different times or in differing amounts. In the case of floating rate assets and liabilities, the Group is also exposed to basis risk, which is the difference in repricing characteristics of the various floating rate indices, such as the savings rate, LIBOR and different types of interest. Risk management activities are aimed at optimising net interest income, given market interest rate levels consistent with the Group’s business strategies. Asset-liability risk management activities are conducted in the context of the Group’s sensitivity to interest rate changes. In general, the Group is asset sensitive because of the majority of the interest-earning assets and liabilities, the Group has the right simultaneously to change the interest rates. Analysis of the total assets and liabilities of the Group into relevant maturity groupings based on the remaining period to the next date at which interest rates may be changed, is set out below Up to 1 month 1-3 months 3-12 months 1-5 years Over 5 years Non- interest bearing Total Cash and balances with NBRM 1,494,376 - - - - 2,723,970 4,218,346 Treasury bills and other eligible bills 6,649,846 1,112,225 396,120 - - 48,647 8,206,838 Loans and advances to banks 3,782,398 67,693 95,673 414,139 6,225 30,041 4,396,169 Loans and advances to customers 6,633,822 3,519,005 5,378,860 4,429,077 2,052,262 686,895 22,699,921 647,949 - - - - - 647,949 205,598 790,635 273,550 211,734 1,481,517 As at 31 December 2007 Assets Trading assets Investment securities: – Available for sale Investment in associates - - - - - 43,447 43,447 Other assets - - - - - 256,806 256,806 Total assets 19,208,391 4,698,923 6,076,251 5,633,851 2,332,037 302,885 1,139,107 176,856 201,200 69,400 257,424 2,146,872 14,796,070 5,367,551 5,426,501 1,363,917 9,163 413,741 27,376,943 636,952 3,147,421 3,641,580 239,314 16,103 46,155 7,727,525 Subordinated liabilities - 783,265 - - - 2,855 786,120 Other liabilities - - - - - 292,153 292,153 Current income tax liabilities - - - - - 5,229 5,229 Deferred income tax liabilities - - - - - 29,091 29,091 4,001,540 41,950,993 Liabilities Deposits from financial institutions Due to customers Other borrowed funds NLB TUTUNSKA BANKA 70 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.2 Interest rate risk (continued) Up to 1 month 1-3 months 3-12 months 1-5 years Over 5 Non- interyears est bearing Total 15,735,907 10,437,344 9,244,937 1,804,431 94,666 3,472,484 (5,738,421) (3,168,686) 3,829,420 2,237,371 2,954,892 3,315,057 1,405,943 3,520,986 28,921,184 As at 31 December 2007 Total liabilities Net interest risk 1,046,648 38,363,933 3,587,060 As at 31 December 2006 Total assets 11,589,875 4,113,083 Total liabilities 11,452,738 9,297,379 3,447,551 902,906 337,914 137,137 (5,184,296) 1,528,689 2,412,151 1,068,029 Net interest risk 4,976,240 899,069 26,337,557 2,621,917 2,583,627 The interest rate sensitivity analysis has been determined based on the exposure to interest rate risk at the reporting date. At 31 December 2007, if interest rates had been 50 basis points higher/lower with all other variables were held constant, the Group’s pre-tax profit for the twelve month period ended 31 December 2007 would respectively increase/decrease by approximately MKD 8,869,000 (2006: MKD 2,718,000) and other equity components would respectively decrease/increase by MKD 6,566,000 (2006: MKD 5,402,000) NLB TUTUNSKA BANKA 71 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3 Liquidity risk Liquidity risk is the risk that the Group is unable to meet its payment obligations associated with its financial liabilities when they fall due and to replace funds when they are withdrawn. The consequence may be the failure to meet obligations to repay depositors and fulfil commitments to lend. 3.3.1 Liquidity risk management process The Group’s liquidity management process, as carried out within the Group, and monitored by a team in Risk Management Centre, includes: • Day-to-day funding, managed by monitoring future cash flows to ensure that requirements can be met. This includes replenishment of funds as they mature or are borrowed by customers. The Group maintains an active presence in global money markets to enable this to happen; • Maintaining a portfolio of highly marketable assets that can easily be liquidated as protection against any unforeseen interruption to cash flow; • Monitoring balance sheet liquidity ratios against internal and regulatory requirements; and • Managing the concentration and profile of debt maturities. Monitoring and reporting take the form of cash flow measurement and projections for the next day, week and month respectively, as these are key periods for liquidity management. The starting point for those projections is an analysis of the contractual maturity of the financial liabilities and the expected collection date of the financial assets (Notes 3.3.3-3.3.4). The Risk Management Centre also monitors unmatched medium-term assets, the level and type of undrawn credit liabilities, the usage of overdraft facilities and the impact of potential and contingent liabilities such as letters of credit and guarantees. 3.3.2 Funding approach Sources of liquidity are regularly reviewed by a team in the Risk Management Centre to maintain a wide diversification by currency, geography, provider, product and term. 3.3.3 Non-derivative cash flows The table below presents the cash flows payable by the Group under non-derivative financial liabilities by remaining contractual maturity at the balance sheet date. The amounts disclosed in the table are the contractual undiscounted cash flows, whereas the Group manages the inherent liquidity risk based on expected undiscounted cash flows. NLB TUTUNSKA BANKA 72 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3.3 Non-derivative cash flows (continued) Up to 1 month 1-3 months 3-12 months 1-5 years Over 5 years Total 595,030 1,162,473 179,137 254,473 107,852 2,298,965 15,137,462 5,404,970 5,452,605 1,553,624 12,504 27,561,165 278,114 303,765 3,340,218 4,057,668 195,805 8,175,570 - 2,855 - - 1,065,160 1,068,015 292,153 - - - - 292,153 Current income tax liabilities 5,229 - - - - 5,229 Deferred income tax liabilities 29,091 - - - - 29,091 16,337,079 6,874,063 8,971,960 5,865,765 1,381,321 39,430,188 17,235,304 2,727,954 8,586,500 10,394,071 3,007,164 41,950,993 538,990 424,718 632,341 23,316 - 1,619,365 10,061,770 5,107,193 2,521,474 685,750 357,877 18,734,064 40,799 430,581 1,133,796 4,171,931 272,247 6,049,354 - - - - 427,375 427,375 177,966 - - - - 177,966 Current income tax liabilities 25,627 - - - - 25,627 Deferred income tax liabilities 21,257 - - - - 21,257 10,866,409 5,962,492 4,287,611 4,880,997 1,057,499 27,055,008 10,884,365 2,295,480 7,385,138 6,830,524 1,525,677 28,921,184 As at 31 December 2007 Liabilities Deposits from financial institutions Due to customers Other borrowed funds Subordinated liabilities Other liabilities Total liabilities (contractual maturity dates) Total assets (expected maturity dates) As at 31 December 2006 Liabilities Deposits from financial institutions Due to customers Other borrowed funds Subordinated liabilities Other liabilities Total liabilities (contractual maturity dates) Total assets (expected maturity dates) Assets available to meet all of the liabilities include cash, central bank funds, items in the course of collection, treasury and other eligible bills, loans and advances to banks, and loans and advances to customers. The Group would also be able to meet unexpected net cash outflows by selling securities and accessing additional funding sources such as asset-backed markets. NLB TUTUNSKA BANKA 73 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3.4 Off-balance sheet items Up to 1 year 1-5 years Over 5 years Total 4,090,732 3,078,407 50,406 7,219,545 4,090,732 3,078,407 50,406 7,219,545 4,353,629 381,248 206,974 4,941,851 4,353,629 381,248 206,974 4,941,851 At 31 December 2007 Letters of credit and guarantees Total At 31 December 2006 Letters of credit and guarantees Total 3.4 Fair value of financial assets and liabilities (a) Financial instruments not measured at fair value The table below summarises the carring amounts and fair values of those financial assets and liabilities not presented on the Group’s balance sheet at their fair value. Carring value Fair value 2007 2006 2007 2006 4,396,169 3,579,625 4,413,614 3,579,625 Loans and advances to customers 22,699,921 15,707,331 25,185,648 17,948,051 − Retail customers (individuals) 8,315,147 4,269,730 9,309,519 5,119,514 − Large corporate customers 2,272,675 722,292 2,508,298 810,131 12,112,099 10,715,309 13,367,832 12,018,406 2,146,872 1,606,883 2,146,872 1,606,883 Due to customers 27,376,943 18,546,295 27,376,943 18,546,295 − Retail customers (individuals) 13,199,948 8,345,249 13,199,948 8,345,249 − SMEs 14,176,995 10,201,046 14,176,995 10,201,046 Other borrowed funds 7,727,525 5,645,454 7,727,525 5,645,454 Subordinated liabilities 786,120 314,075 786,120 314,075 Financial assets Loans and advances to banks − SMEs Financial liabilities Deposits from financial institutions NLB TUTUNSKA BANKA 74 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.4 Fair value of financial assets and liabilities (continued) (a) Financial instruments not measured at fair value (continued) (I) Loans and advances to banks Loans and advances to banks include inter-bank placements. The fair value of placements and overnight deposits is their carring amount. The estimated fair value of fixed interest bearing deposits is based on discounted cash flows using prevailing money-market interest rates for debts with similar credit risk and remaining maturity. (II) Loans and advances to customers Loans and advances to customers are presented at their amortized cost net of impairment allowances. The estimated fair value of loans and advances represents the discounted amount of estimated future cash inflows expected to be received. So as to establish the fair value, the expected cash inflows are discounted at the interest rates prevailing on the date of preparation of the balance sheet. (III) Due to other financial institutions and customers, other deposits, other borrowings and subordinated liabilities The estimated fair value of demand deposits, including non-interest-bearing deposits, is the amount repayable on demand. The estimated fair value of fixed interest-bearing deposits and other borrowings not quoted in an active market is based on discounted cash flows using interest rates for new debts with similar remaining maturity. Subordinated liabilities carry variable interest rates and their market value is represented by the carrying value on the day of the balance sheet. 3.5 Capital management The Group’s objectives when managing capital, which is a broader concept than the ‘equity’ on the face of balance sheet, are: • to comply with the capital requirements set by the regulators; • to safeguard the Group’s ability to maintain the working continuity, so as to continue to provide returns for shareholders and benefits for other stakeholders; and • to maintain a strong capital base to support the development of its business. Capital adequacy and the regulatory capital are monitored daily by the Group’s management, employing techniques based on the guidelines developed by the Basel Committee and the European Community Directives, as implemented by the Macedonian authorities (NBRM), for supervisory purposes. The required information is filed with the NBRM on a quarterly basis. NBRM requires each bank or banking group to: (a) hold the minimum level of the regulatory capital of EUR 5,000,000; (b) the ratio of total regulatory capital in relation to the risk-weighted asset (the ‘Basel ratio’) to be at or above the internationally agreed minimum of 8%. The Group’s regulatory capital as managed by its Risk Management Centre is divided into two tiers: • Tier 1 capital: share capital (net of any book values of the treasury shares), retained earnings and reserves created by appropriations of retained earnings; and • Tier 2 capital: qualifying subordinated loan capital and unrealised gains arsing from the fair value of equity and debt instruments held as available-for-sale. NLB TUTUNSKA BANKA 75 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.5 Capital management (continued) The risk-weighted assets are calculated by means of a hierarchy of five risk weights, classified according to the nature of − and reflecting an estimate of credit, market and other risks associated with each asset and contracting party, taking into account any eligible collateral or guarantees. A similar treatment is adopted for off-balance sheet exposure, with some adjustments to reflect the more contingent nature of the potential losses. The table below summarises the composition of regulatory capital and the ratios of the Group for the years ended on 31st December. During those two years, the Group complied with all prescribed capital requirements. 2007 2006 2,396,328 1,662,288 Statutory reserve 477,565 444,089 Retained earnings 226,234 226,234 3,100,127 2,332,611 Subordinated liability 783,265 314,075 Revaluation reserve 87,368 94,587 Total qualifying Tier 2 capital 870,633 408,662 Deduction from regulatory capital (174,527) (60,128) 3,796,233 2,681,145 On-balance sheet 23,717,092 17,170,949 Off-balance sheet 5,719,039 4,450,957 29,436,131 21,621,906 12.90% 12.40% Tier 1 capital Share capital (net of treasury shares) Total qualifying Tier 1 capital Tier 2 capital Total regulatory capital Risk-weighted assets: Total risk-weighted assets Basel ratio Deductions from regulatory capital, represent investments in financial institutions where the Group’s ownership is over 10%, insurance companies and intangible assets. As a result of the changes in the local legislation which have occurred during 2007, the intangible assets are also deductible amount from Tier I and Tier II capital. The increase of the regulatory capital in the year of 2007 is mainly due to the additional paid in capital and additional subordinated loan. The increase of the risk-weighted assets reflects the expansion of the activities related to crediting the retail customers and SMEs in 2007. NLB TUTUNSKA BANKA 76 ANNUAL REPORT 2007 Consolidated Financial Statements 4. Critical accounting estimates and judgments The Group makes estimates and assumptions that affect the reported amounts of assets and liabilities within the next financial year. Estimates and judgments are continually evaluated and based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. (a) Impairment losses on loans and advances The Group reviews its loan portfolios to assess impairment at least on a quarterly basis. In determining whether an impairment loss should be recorded in the income statement, the Group makes judgments as to whether there is any observable data indicating that there is a measurable decrease in the estimated future cash flows from a portfolio of loans before the decrease can be identified with an individual loan in that portfolio. This evidence may include observable data indicating that there has been an adverse change in the payment status of borrowers in a Group, or national or local economic conditions that correlate with defaults on assets in the Group. The management uses estimates based on historical loss experience for assets exposed to credit risk and to objective evidence of impairments similar to those in the portfolio when scheduling its future cash flows. The methodology and assumptions used for estimating both the amount and timing of future cash flows are reviewed regularly so as to reduce any differences between loss estimates and actual loss experience. In cases of total change of expected cash flows of +/- 5%, the estimated allowances would increase/decrease by MKD 108,000,000 (2006: MKD 88,636,000). (b) Impairment of available-for-sale equity investments The Group determines that available-for-sale equity investments are impaired when there has been a significant or prolonged decline in the fair value below its cost. This determination of what is significant or prolonged requires judgment. In making this judgment, the Group evaluates among other factors, the normal volatility in share price. In addition, impairment may be appropriate when there is evidence of deterioration in the financial health of the investee, industry and sector performance, changes in technology, and operational and financial cash flows. If the fair value of available-for-sale equity investments displays a significant and constant decline below its cost, the Group shall have an additional loss of MKD 5,394,000 in its financial statements for the year 2007, by transfer of revaluated reserves in the Income statement (2006: MKD 3,248,000). (c) Impairment of foreclosed assets The process of calculating impairment loss requires that the management make significant and complex assumptions regarding the projected period of sale of foreclosed assets, their estimated net sales values and the corresponding discount rate, in order to discount to net present value the expected cash flow from sale of specific items of foreclosed properties. Management of the Group are confident that the foreclose assets will be sold in a reasonable time frame, with no loss. On the contrary, adjustments will be made in future periods if future market activity indicates that such adjustments are appropriate. NLB TUTUNSKA BANKA 77 ANNUAL REPORT 2007 Consolidated Financial Statements 5. Net interest income 2007 2006 206,821 143,525 1,904,919 1,404,553 2,111,740 1,548,078 21,000 13,683 496,976 278,934 2,629,716 1,840,695 55,220 14,429 633,742 356,488 688,962 370,917 456,295 283,877 1,145,257 654,794 Interest income Loans and advances: – To banks – To customers Cash and short term funds Investment securities Interest expense Deposits from financial institutions Due to customers Other borrowed funds NLB TUTUNSKA BANKA 78 ANNUAL REPORT 2007 Consolidated Financial Statements 6. Net fee and commission income 2007 2006 Letter of credit and guarantees 120,305 216,616 Payment transaction 275,718 120,862 4,238 6,040 70,402 50,451 Fee and commission income Trust and other fiduciary fees Administrative services Custody accounts 1,962 307 Brokerrage services 36,299 18,962 Other fees 84,346 45,032 593,270 458,270 Banking services 38,055 49,413 Payment transaction 11,331 8,620 Other fees paid 44,263 20,240 93,649 78,273 Fee and commission expense The Group provides custody, trustee, corporate administration, investment management and advisory services to third parties, which involve the Group making allocation and purchase and sale decisions in relation to a wide range of financial instruments. Those assets that are held in a fiduciary capacity are not included in these financial statements. Some of these arrangements involve the Group accepting targets for benchmark levels of returns for the assets under the Group’s care. These services give rise to the risk that the Group will be accused of maladministration or under-performance. NLB TUTUNSKA BANKA 79 ANNUAL REPORT 2007 Consolidated Financial Statements 7. Dividend income Available-for-sale securities 2007 2006 8,069 4,172 8,069 4,172 2007 2006 16,822 (159) 451 1,405 17,273 1,246 8. Net trading income Net trading (expense)/income Interest income from assets held for trading Net trading income includes gains and losses from government bills and bonds. Interest rate instruments include the results of making market instruments in government bills and bonds. 9. Net foreign exchange gain 2007 2006 Foreign exchange gains 3,766,777 1,195,894 Foreign exchange losses (3,641,047) (1,060,009) 125,730 135,885 10. Net income from sale of available-for-sale investment securities Income from sale of available-for-sale investment securities 2007 2006 794 12,773 794 12,773 2007 2006 6,292 8,942 663 4,436 28,238 14,480 35,193 27,858 11. Other operating income Rental income Capital gain Other NLB TUTUNSKA BANKA 80 ANNUAL REPORT 2007 Consolidated Financial Statements 12. Administrative expenses 2007 2006 Wages and salaries 223,074 178,341 Social security costs 148,509 133,770 19,720 16,555 6,907 4,580 Compensation benefits to the members of the Managing Board, and management 70,908 54,913 Depreciation 97,821 76,757 Unused annual leaves 8,991 - Other expenses 3,828 4,008 579,758 468,924 2007 2006 257,371 182,778 Insurance premiums for deposits 69,563 47,927 Insurance premiums for assets 18,663 15,544 3,716 7,713 13,704 8,910 - 164 Rental expense 57,602 37,357 Other 50,158 32,160 470,777 332,553 Staff costs Food allowances and transportation Holiday allowances 13. Other operating expenses Administration and marketing costs Actuarial benefits (Note 31) Decrease in value of assets acquired through foreclose procedure Charges under court decisions NLB TUTUNSKA BANKA 81 ANNUAL REPORT 2007 Consolidated Financial Statements 14. Impairment charge for credit losses 2007 2006 4,110 (592) 392,010 431,359 Investments (Note 21) (88) (231) Trading assets (Note 19) 3,000 - Other assets (Note 26) 2,987 2,896 Contingencies (Note 32) 56,959 28,333 - (26,469) 458,978 435,296 2007 2006 76,977 80,702 76,977 80,702 Loans and advances to banks (Note 18) Loans and advances to customers (Note 20) Collected written-off receivables 15. Income tax Current tax The income tax calculated on the profit before tax, that differs from the amount reached by use of the profit rate belonging to shareholders, is as follows: 2007 2006 664,283 508,235 Tax calculated at a tax rate of 12% (2006:15%) 79,714 76,235 Expenses not deductible for tax purposes 14,386 32,972 (13,547) (11,301) - (16,337) (3,332) - (244) (867) 76,977 80,702 Profit before tax Income not subject to tax Investment tax credit Released provisions Tax incentives for unused bonuses Income tax expense The Public Revenue Office is responsible authority to make full tax control for the year ended 31 December 2007. The Group’s tax liabilities are based on the tax returns filed to the tax authorities and are finalized when audited by the Central Tax Authorities, or a five year period has elapsed from the year they are filed. The Group’s management is not aware of any circumstances, which may give rise to a potential material liability in this respect. NLB TUTUNSKA BANKA 82 ANNUAL REPORT 2007 Consolidated Financial Statements 16. Cash and cash equivalents 2007 2006 1,555,982 1,130,143 Current account with domestic banks 38,538 5,684 Current accounts with foreign banks 7,349 379 Cash in hand Balances with NBRM other than mandatory reserve deposits Included in cash and cash equivalents (Note 37) Mandatory reserve deposits with NBRM 1,443,718 853,763 3,045,587 1,989,969 1,172,759 1,056,322 4,218,346 3,046,291 The Group has to provide mandatory reserve in MKD and in foreign currency with the National Bank of the Republic of Macedonia. The mandatory reserve in MKD in the amount of MKD 1,494,376,000 as at 31 December 2007, represents 10% of the average monthly amount of demand deposits, time deposits up to three months and time deposits with maturity over three months. The effective interest rate on the mandatory reserve in MKD is 2% (2006: 2%). Mandatory reserve funds are maintained on the current account with NBRM. The mandatory reserve in foreign currency as at 31 December 2007 represents 10% of the average daily balances over the accounts expressed in Euros, at NBRM’s middle exchange rate ruling on the balance sheet date. The Group does not receive interest on the mandatory reserves in foreign currency. The banks are obliged to transfer the Euro amount of the calculated mandatory reserve to NBRM’s account with Deutsche Bundesbank Frankfurt. 17. Treasury bills and other eligible bills 2007 2006 Treasury bills 6,060,092 3,289,001 Government bills with maturity of up to 90 days 1,696,689 1,032,429 Included in cash and cash equivalents (Note 37) 7,756,781 4,321,430 450,057 635,083 8,206,838 4,956,513 Government bills with maturity over 90 days Treasury bills are debt securities issued by the National bank of the Republic of Macedonia with maturity of up to 28 days. The Group receives an effective interest at the rates from 4.71% - 4.86% (2006: 5.52% - 5.92%) per annum. The total amount of the treasury bills includes the interest in the amount of MKD 15,654,000 (2006: MKD 7,471,000). Government bills with maturity of up to and over 90 days, are with effective interest rates from 5.19% 8.39% (2006: 5.99% - 8.80%) per annum. The total amount of the government bills includes the interest in the amount of MKD 32,992,000 (2006: MKD 26,408,000). NLB TUTUNSKA BANKA 83 ANNUAL REPORT 2007 Consolidated Financial Statements 18. Loans and advances to banks 2007 2006 Placements with other banks 3,724,191 612,328 Included in cash and cash equivalents (Note 37) 3,724,191 612,328 Loans and advances to other banks 677,321 2,968,530 Less: allowance for impairment (5,343) (1,233) 4,396,169 3,579,625 3,883,070 3,295,278 513,099 284,347 Current Non-current Reconciliation of allowance account for losses on loans and advances to other banks: 2007 2006 Balance at 1 January 1,233 1,825 Provision for loan impairment 4,110 (592) At 31 December 5,343 1,233 Loans and advances to banks and other financial institutions are with effective interest rates from 5.87% to 10.38% (2006: 5.7% to 8.75%) per annum. The placements with foreign banks are with effective interest rates from 0.47% to 5.60% (2006: 3% to 5.52 %) per annum, and the placements with domestic banks are with an effective rate of 4.88% (2006: 3.66%) per annum. As at 31 December 2007, a part of the Group’s placements with foreign banks in the amount of MKD 116,463,000 (2006: MKD 246,026,000) represents a deposit held with LHB Internationale Handelsbank AG Frankfurt as a collateral for the borrowings from the same bank (Note 29). 19. Trading assets 2007 2006 68,295 46,587 Other government bonds 282,654 44,572 Corporate bonds 300,000 - Less : Allowance for impairment (3,000) - 647,949 91,159 Government bills Total debt securities Government bills are with maturity up to 1 year and with an effective interest rate from 5.24% to 8.39% (2006: 9%) per annum. The total amount of the government bills held for trading includes interest in the amount of 0 МКD (2006: MKD 1,169,000). Government bonds are with maturity of 1 months and with an effective interest rate of 2% (2006: 9%) per annum. The total amount of the government bonds held for trading includes interest in the amount of МКD- nil (2006: 415,000 MKD). NLB TUTUNSKA BANKA 84 ANNUAL REPORT 2007 Consolidated Financial Statements 20. Loans and advances to customers 2007 2006 Loans to individual (retail) customers: - Overdrafts 691,017 97,937 - Credit cards 545,637 299,064 - Term loans 5,617,190 2,595,366 - Mortgages 2,177,540 1,766,727 9,031,384 4,759,094 2,319,304 764,837 13,512,734 11,911,069 15,832,038 12,675,906 - 43,822 Gross loans and placements 24,863,422 17,478,822 Less: allowance for impairment (2,163,501) (1,771,491) Net 22,699,921 15,707,331 Current 11,061,232 8,601,122 Non-current 11,638,689 7,106,209 Loans to corporate entities: - Large corporate customers - SMEs Public entities Loans are with effective rates from 2.74% to 24.92% (2006: 2.6% to 25.4%) per annum. NLB TUTUNSKA BANKA 85 ANNUAL REPORT 2007 Consolidated Financial Statements 20. Loans and advances to customers (continued) Allowance for impairment Reconciliation of allowance accounts for losses on loans and advances by class is as follows: Loans to retail customers Overdrafts Credit cards Term loans Mortgages Total At 1 January 2007 11,715 33,011 248,988 195,650 489,364 Provision for loan impairment 55,574 40,113 125,811 5,375 226,873 At 31 December 2007 67,289 73,124 374,799 201,025 716,237 Total Loans to retail customers Overdrafts At 1 January 2006 Provision for loan impairment At 31 December 2006 Credit cards Term loans Mortgages 12,144 8,158 173,164 104,696 298,162 (429) 24,853 75,824 90,954 191,202 11,715 33,011 248,988 195,650 489,364 Loans to corporate At 1 January 2007 Provision for loan impairment At 31 December 2007 Large SMEs Total 42,545 1,239,582 1,282,127 4,084 161,053 165,137 46,629 1,400,635 1,447,264 Loans to corporate Large SMEs Total 37,372 1,009,566 1,046,938 5,173 234,984 240,157 Written-off allowances - (4,968) (4,968) At 31 December 2006 42,545 1,239,582 1,282,127 At 1 January 2006 Provision for loan impairment NLB TUTUNSKA BANKA 86 ANNUAL REPORT 2007 Consolidated Financial Statements 21. Investment securities 2007 2006 1,285,867 966,056 - 76,966 Securities available for sale Debt securities – at fair value: - Listed - Unlisted Equity securities – at fair value: – Listed 153,382 79,265 – Unlisted 51,770 32,583 Allowance for impairment (9,502) (9,590) 1,481,517 1,145,280 330,430 220,425 1,151,087 924,855 Total securities available for sale Current Non-current Terms and conditions of government bonds available-for-sale are as follows: • Bonds issued by the Government on the old saving deposits in foreign currency in the amount of MKD 212,440,000 (2006: MKD 252,366,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 20 semi-annual instalments on each 1st April and 1st October beginning from 1st April 2002 until 1st October 2011. • Bonds for denationalisation (01) in the amount of MKD 1,752,000 (2006: MKD 2,102,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1st June, beginning from 1st June 2003 until 1st June 2012. • Bonds for denationalisation (02) in the amount of MKD 140,879,000 (2006: MKD 153,968,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1st June beginning from 1st June 2004 until 1st June 2013. • Bonds for denationalisation (03) in the amount of MKD 198,838,000 (2006: MKD 191,715,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1st June beginning from 1st June 2005 until 1st June 2014. • Bonds for denationalisation (04) in the amount of MKD 275,273,000 (2006: MKD 266,129,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1st June beginning from 1st June 2006 until 1st June 2015. • Bonds for denationalisation (05) in the amount of MKD 79,694,000 (2006: 51,800,000 MKD), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1st June, beginning from 1st June 2007 until 1st June 2016. • Bonds for denationalisation (06) in the amount of MKD 115,473,000, with an interest rate of 2% per annum. The principal amount is paid in 10 equal annual instalments on each 1st June beginning from 1st June 2008 until 1st June 2017. • Continuous long-term bonds in the amount of MKD 244,958,000 (2006: MKD 34,857,000), with an interest rate from 6.50% to 9.00% (2006: 9%) per annum. The payment of interest is made annually, whereas the total amount is paid on the maturity date. Тhe total amount of the bonds on old foreign currency deposits, denationalisation and the continuous long-term bonds includes an interest in the amount of MKD 16,560,000 (2006: MKD 13,119,000). NLB TUTUNSKA BANKA 87 ANNUAL REPORT 2007 Consolidated Financial Statements 21. Investment securities (continued) Movement of allowance for empairment for investments: 2007 2006 9,590 9,821 (88) (231) 9,502 9,590 Available-for-sale Total 1,145,280 1,145,280 496,664 496,664 Disposals (sale and redemption) (261,847) (261,847) Gaines from changes in fair value 101,508 101,508 (88) (88) 1,481,517 1,481,517 At 1 January 2006 982,690 982,690 Additions 475,231 475,231 Disposals (sale and redemption) (338,087) (338,087) Gains from changes in fair value 25,215 25,215 231 231 1,145,280 1,145,280 At 1 January Less: allowance for impairment At 31 December The movement of the investment securities may be summarised as follows: At 1 January 2007 Additions Less: allowance for impairment At 31 December 2007 Increase in allowance for impairment At 31 December 2006 NLB TUTUNSKA BANKA 88 ANNUAL REPORT 2007 Consolidated Financial Statements 22. Investment property 2007 2006 Cost 66,369 66,369 Accumulated depreciation 13,420 11,761 Net book amount 52,949 54,608 52,949 54,608 (66,369) - (967) (1,659) 14,387 - - 52,949 Cost - 66,369 Accumulated depreciation - 13,420 Net book amount - 52,949 Balance at January 1st Balance at December 31st Opening net book amount Transfer to property, plant and equipment Depreciation Transfer of depreciation of property, plant and equipment Closing net book amount Balance at December 1st The fair value of investment property is nil (2006: MKD 55,000,000). NLB TUTUNSKA BANKA 89 ANNUAL REPORT 2007 Consolidated Financial Statements 23. Investment in associates Nov Penziski Fond 2007 2006 43,447 40,790 43,447 40,790 % of participation Nov Penziski Fond AD - Skopje Country 2007 2006 Republic of Macedonia 49% 49% Summary of financial information for equity accounted investee, not adjusted for percentage ownership held by the Group: Assets Liabilities Share holders’ equity Income Profit / Loss Nov Penziski Fond AD - Skopje 92,984 9,741 83,243 58,113 (5,762) Balance at 31 December 92,984 9,741 83,243 58,113 (5,762) Nov Penziski Fond AD - Skopje 99,350 10,714 88,636 84,599 5,423 Balance at 31 December 99,350 10,714 88,636 84,599 5,423 2006 2007 NLB TUTUNSKA BANKA 90 ANNUAL REPORT 2007 Consolidated Financial Statements 24. Property and equipment Buildings Furniture & equipment Assets in course of construction Other Total Cost 401,183 316,461 42,805 8,302 768,751 Accumulated depreciation (43,731) (182,560) - (4,161) (230,452) Net book amount 357,452 133,901 42,805 4,141 538,299 357,452 133,901 42,805 4,141 538,299 - 75,674 1,959 2,196 79,829 29,548 250 (29,798) - - - (1,789) - - (1,789) Depreciation charge (10,413) (56,028) - (1,488) (67,929) Closing net book amount 376,587 152,008 14,966 4,849 548,410 At 1 January 2006 At 31 December 2006 Opening net book amount Additions Transfer Disposals At 1 January 2007 Cost 430,731 377,521 14,966 10,498 833,716 Accumulated depreciation (54,144) (225,513) - (5,649) (285,306) Net book amount 376,587 152,008 14,966 4,849 548,410 376,587 152,008 14,966 4,849 548,410 120 154,216 5,710 7,517 167,563 66,369 - - - 66,369 - (433) - - (433) Depreciation charge for the year (11,290) (69,379) - (2,186) (82,855) Transfer from lnvestment property (14,387) - - - (14,387) Closing net book amount 417,399 236,412 20,676 10,180 684,667 Cost 497,220 521,132 20,676 18,015 1,057,043 Accumulated depreciation (79,821) (284,720) - (7,835) (372,376) Net book amount 417,399 236,412 20,676 10,180 684,667 At 31 December 2007 Opening net book amount Additions Transfer from investment property Disposals At 31 December 2007 As at 31 December 2007 the Group does not have any property pledged as collateral (2006: nil). NLB TUTUNSKA BANKA 91 ANNUAL REPORT 2007 Consolidated Financial Statements 25. Intangible assets 2007 2006 Balance at 1 January 78,344 31,004 Additions 25,836 47,415 - (75) 104,180 78,344 Balance at 1 January 19,953 12,859 Amortisation for the year 13,998 7,169 - (75) Disposal and write-offs Balance at 31 December Amortisation Disposal and write-offs Balance at 31 December 33,951 19,953 Carrying amount at 31 December 70,229 58,391 2007 2006 Forclosed assets 113,609 280,908 Pre-payments 51,417 12,804 26. Other assets Other 97,663 63,379 Less: allowance for impairment (5,883) (2,896) 256,806 354,195 201,893 354,195 54,913 - Balance at 1 January 2,896 - Net increase in allowance for impairment (Note 13) 2,987 2,896 Balance at 31 December 5,883 2,896 Current Non-current Movement in allowance for impairment Assets acquired through foreclosure procedure include apartments, equipment and business premises which are not used by the Group for its core operations. The market for certain types of collateral in Republic of Macedonia is in an early stage of development. Management has made an estimate of the expected recoverable amount net of cost, discounted by the expenditures for realisation of assets, based on a number of factors, including independent assessment. However, given the foregoing, actual amounts realised may differ from the estimates made. NLB TUTUNSKA BANKA 92 ANNUAL REPORT 2007 Consolidated Financial Statements 27. Deposits from financial institutions 2007 2006 314,677 280,941 - Insurance companies 60,406 21,824 - Other financial institutions 84,507 57,972 1,038,510 1,070,874 32,274 16,550 616,498 158,722 2,146,872 1,606,883 1,875,502 1,589,541 271,370 17,342 Demand deposits: - Banks and saving houses Term deposits: - Banks and savings houses - Insurance companies -Other financial institutions Current Non-current The effective interest rates on deposits from banks and other financial institutions are from 1% to 1.5% (2006: 1% - 1.5%) per annum, while the effective interest rates on term deposits are from 1% to 9.50% (2006: 1% - 9.3%) per annum. 28. Due to customers 2007 2006 6,020 416,071 217,271 122,454 - Current/Settlement accounts 8,466,398 4,648,912 -Term deposits 5,339,431 4,851,226 -Current/Demand accounts 4,462,232 3,210,146 -Term deposits 8,737,716 5,135,103 147,875 162,383 27,376,943 18,546,295 25,995,038 17,690,437 1,381,905 855,858 Public institutions -Current/Settlement accounts -Term deposits Companies Retail customers Restricted deposits Companies Current Non-current The effective interest rates of current accounts are from 0 to 1% (2006: 0% to 1%) per annum, while the effective interest rates of term deposits are from 0.10% to 9.40% (2006: 1% to 8.75%) per annum. NLB TUTUNSKA BANKA 93 ANNUAL REPORT 2007 Consolidated Financial Statements 29. Other borrowed funds Interest rate (%) 2007 2006 4 - 5.5% 323,107 387,247 4.25% - 6.3% 102,270 114,448 3 months EURIBOR + 0.061-0.078% 1,010,077 814,585 6 months EURIBOR 1.20% + 1.45% 3,172,343 1,249,219 3 months EURIBOR + 0.75% 1,618,931 2,386,129 73,313 94,330 129,424 225,876 1% 165,604 159,418 Adria bank 3 months EURIBOR + 1.85% 214,237 214,202 Raiffeisen Bank 3 months EURIBOR + 0.75% 612,016 - Erste Bank 3 months EURIBOR + 0.95% 306,203 - 7,727,525 5,645,454 Current 3,922,100 1,605,176 Non-current 3,805,425 4,040,278 Domestic borrowings: Macedonian Bank for Development Promotion 7 - 8% 3 months EURIBOR + 1% 3 months EURIBOR + 1% Macedonian Enterprise Development Foundation Foreign borrowings: EIB (European Investment Bank) European Investment Bank (via the NBRM) EBRD (European Bank for Reconstruction and Development) NLB Group 3 months EURIBOR + 0.25% 3 months EURIBOR + 1.5 to 2.25% 6 months EURIBOR + 1.8% 1 months CHFLIBOR + 2.25% 3 months EURIBOR + 1.50% 3 months EURLIBOR + 2.15%-2.75% 3 months CHFLIBOR + 2.25% 3 months CHFLIBOR + 3.25% International Cooperation and Development Fund (ICDF) Taiwan 6 months USDLIBOR - 0.5% 4% 6 months USDLIBOR - 0.5% World bank 6 months EURIBOR + 2.75% 6 months EURIBOR International fund for agricultural development NLB TUTUNSKA BANKA 94 ANNUAL REPORT 2007 Consolidated Financial Statements 29. Other borrowed funds (continued) The loans granted by the Macedonian Bank for Development Promotion, Macedonian Enterprise Development Foundation, International fund for agricultural development, International Cooperation and Development Fund Taiwan and the World Bank are secured with bills of exchange of NLB Tutunska banka AD. The loan from the European Bank for Reconstruction and Development, Adria Bank and RZB Bank is secured with a Comfort Letter by NLB d.d. Ljubljana. (The loan from Adria Bank has been paid on 7 January 2008). European Investment Bank’s loan is secured with a Bank Guarantee by NLB d.d. Ljubljana. The loan granted by LHB Internationale Handelsbank AG Frankfurt in the amount of MKD 116,463,000 (2006: MKD 246,026,000), included in loans from NLB Group, is with an interest rate of three-month EURIBOR+0.75% and is secured with a deposit (Note 18). Syndicated loan On 19 December 2006 the Group has concluded a Syndicated Loan Agreement with European Bank for Reconstruction and Development on 55,000,000 EUR consisting of A and B parts: Amount in EUR Interest rate Repayment date Loan A 19,000,000 6 months EURIBOR + 1.45 % Two years with option to prolong it for one year Loan B 36,000,000 6 months EURIBOR +1.20% EUR 3,272,727.27 were paid on 19 December 2007; EUR 32,727,272.73 were prolonged up to 19 January 2008 Loan from European Investment Bank On 23 November 2006 the Group has concluded an agreement with European Investment Bank on 10,000,000 EUR. The conditions for each individual disbursement will be determined at each disbursement of separate tranche. On 21 December 2006 the Group has drawn an amount of EUR 8,560,000 in 4 allocations, under the following conditions: Amount in EUR Interest rate Repayment date Allocation 1 2,810,000 3 months EURIBOR +0.073% 8 years including 2 years of grace period. Allocation 2 2,750,000 3 months EURIBOR +0.078% 7 years including 1 year of grace period. Allocation 3 1,500,000 3 months EURIBOR +0.061% 5 years including 1 year of grace period. Allocation 4 1,500,000 3 months EURIBOR +0.044% 7 years including 1 year of grace period. NLB TUTUNSKA BANKA 95 ANNUAL REPORT 2007 Consolidated Financial Statements 29. Other borrowed funds (continued) Loan from ERSTE BANK AG VIENNA On the 21st May 2007 the Group concluded an agreement with ERSTE BANK AG VIENNA for a loan of 5,000,000 EUR: Loan Amount in EUR Interest rate Repayment date 5,000,000 3 months EURIBOR + 0.95% Two years Loan from RZB AUSTRIA On 18th December 2007 the Group concluded an agreement with RZB AUSTRIA in the amount of EUR 10,000,000: Loan Amount in EUR Interest rate Repayment date 10,000,000 3 months EURIBOR + 0.75% One year with the option to prolong for another year 2007 2006 786,120 314,075 786,120 314,075 2,855 - 783,265 314,075 30. Subordinated liability Subordinated loan Current Non-current The Subordinated loan from NLB InterFinanz was granted with an interest rate of 3 month CHF Libor + 3.25%, and maturity of 7 years. Conversion into capital will be determined with a separate Annex Agreement after a separate approval by the relevant board of the Group. 31. Other liabilities Dividends declared and payable Prepayment of liabilities 2007 2006 2,359 1,862 119,894 74,336 Suppliers payables 30,029 16,338 Compensation benefits to the members of the Managing Board, management and employees 60,450 51,738 Long-term employee benefits 15,997 12,282 8,867 - 54,557 21,410 292,153 177,966 Liabilities for unused annual leaves Other NLB TUTUNSKA BANKA 96 ANNUAL REPORT 2007 Consolidated Financial Statements 31. Other liabilities (continued) Balance at 1 January Actuary calculation (Note 13) Balance at 31 December 2007 2006 12,281 4,568 3,716 7,713 15,997 12,281 Long-term employee benefits include jubilee rewards and retirement indemnity bonuses. 32. Contingencies The Group issues bank guarantees and letters of credit on behalf of its customers to third parties. These agreements have fixed limits and are generally extended for a period of up to three years. Expirations are not concentrated in any period. The following table indicates the contractual amounts of the Group`s contingencies by category: 2007 2006 - in MKD currency 2,068,136 1,138,040 - in foreign currency 2,407,667 1,453,019 857,794 798,828 1,885,948 1,551,964 7,219,545 4,941,851 (356,296) (299,337) 6,863,249 4,642,514 Guarantees Letters of credit - in foreign currency Limits on cheques and cards Less: Allowance for impairment These contingent liabilities have off balance-sheet credit risk because only origination fees and accruals for probable losses are recognised in the balance sheet, until the commitments are fulfilled or expire. Many of the contingent liabilities will expire without being advanced in whole or in part. Therefore, the amounts do not represent the expected future cash flows. Movement of contingencies: Balance at 1 January Separate impairment allowance (Note 14) Balance at 31 December NLB TUTUNSKA BANKA 97 2007 2006 299,337 271,004 56,959 28,333 356,296 299,337 ANNUAL REPORT 2007 Consolidated Financial Statements 33. Deferred tax liability 2007 2006 Balance at 1 January 21,257 19,391 Recognised in equity 7,834 1,866 29,091 21,257 29,091 21,257 Balance at 31 December Deferred tax liabilities are attributable to the following: Deferred tax liabilities Financial assets available-for- sale 34. Related party transactions According to the Articles of Association, the supreme body is the Group Assembly, constituted of all the holders of the Group’s registered ordinary shares. The overall control of the Group is with the nonexecutive Board of Directors (“the Managing Board”) who are appointed by shareholders. The Group is controlled by Nova Ljubljanska Bank Group (“NLB”) which owns 87.6% (2006: 83.4%) of the voting shares. The volume of related party transactions, and outstanding balances at the year-end, are as follows: NLB TUTUNSKA BANKA 98 ANNUAL REPORT 2007 Consolidated Financial Statements 34. Related party transactions (continued) For the year ended on 31 December 2007: Parent company and subsidiaries Investment in associates Other related parties 54,812 1 1,347 205,322 2,335 1,418 6,253 64 296 19,562 - - Income statement Interest income Fee and commission income Interest expense Fee and commission expense Balance sheet Cash and cash equivalents Balance at 1 January Loans issued during the year Loans repayments during the year Balance at 31 December 37,784 - - 86,610,545 - - (86,539,730) - - 108,599 - - Loans Balance at 1 January Loans issued during the year Loans repayments during the year Balance at 31 December 549,930 - 4,265 51,233,720 525 55,759 (50,614,298) (525) (30,896) 1,169,352 - 29,128 Deposits 1,034,631 31,578 341,165 Deposits received during the year Balance at 1 January 28,702,612 267,463 598,252 Deposits repaid during the year (28,543,531) (193,481) (826,344) 1,193,712 105,560 113,073 Balance at 31 December Borrowings (loans) Balance at1 January 2,700,204 - - Loans issued during the year 1,014,368 - - Loans repayments during the year (1,095,579) - - Balance at 31 December 2,618,993 - - NLB TUTUNSKA BANKA 99 ANNUAL REPORT 2007 Consolidated Financial Statements 34. Related party transactions (continued) For the year ended on 31 December 2006: Parent company and subsidiaries Investment in associates Other related parties 42,298 - 366 1,222 14 5,690 26,647 206 25,909 7,962 - 8,620 Income statement Interest income Fee and commission income Interest expense Fee and commission expense Balance sheet Cash and cash equivalents Balance at 1 January Loans issued during the year Loans repayments during the year Balance at 31 December 75,327 - - 70,336,378 - - (70,373,921) - - 37,784 - - Loans Balance at1 January 2,487,591 - 5,534 Loans issued during the year 6,539,282 141 18,116 (8,476,943) (141) (19,385) 549,930 - 4,265 Loan repayments during the year Balance at 31 December Deposits 285,559 12,267 641,202 Deposits received during the year Balance at 1 January 5,377,710 537,575 27,973,197 Deposits repaid during the year (4,628,638) (518,264) (28,273,234) Balance at 31 December 1,034,631 31,578 341,165 Borrowings (loans) Balance at 1 January 2,930,098 - - Loans issued during the year 2,185,795 - - Loan repayments during the year (2,415,689) - - Balance at 31 December 2,700,204 - - NLB TUTUNSKA BANKA 100 ANNUAL REPORT 2007 Consolidated Financial Statements 34. Related party transactions (continued) Transactions with key management personnel The total compensations to the key management personnel are as follows: Executive directors Non-executive directors 2007 2006 43,919 73,803 2,404 3,064 46,323 76,867 2007 2006 863,423 1,063,472 82,004 82,190 525,406 45,841 1,470,833 1,191,503 35. Trust activities Companies Citizens Other The Group manages assets on behalf of third parties, which are mainly in the form of loans to various clients. The Group receives fee income for providing these services. Trust assets are not assets of the Group and are not recognised in the balance sheet. The Group is not exposed to any credit risk related to such placements, as it does not guarantee these investments. 36. Share capital Number of shares Ordinary shares Share premium Preference shares Total At 1 January 2006 693,866 643,645 968,422 50,221 1,662,288 At 31 December 2006 693,866 643,645 968,422 50,221 1,662,288 91,755 91,755 642,285 - 734,040 785,621 735,400 1,610,707 50,221 2,396,328 - Proceeds from shares issued At 31 December 2007 The authorized share capital of the Group consists of 735,400 (2006: 643,645) ordinary shares and 50,221(2006: 50,221) preference shares. Ordinary and preference shares have a par value of MKD 1,000 (2006: MKD 1,000). All issued shares are fully paid. The holders of ordinary shares are entitled to receive dividends as declared from time to time and are entitled to one vote per share at meetings of the Group. Preference shares give right to priority in the dividend payment, but do not carry the right to vote. All shares rank equally with regard to the Group’s residual assets. NLB TUTUNSKA BANKA 101 ANNUAL REPORT 2007 Consolidated Financial Statements 36. Share capital (continued) The below stated shareholders have more than 5% of the Group’s issued voting share capital. % of voting share capital Shareholders 2007 2006 LHB AG – Frankfurt 30.8% 35.2% NLB InterFinanz AG - Zurich 28.5% 30.1% Nova Ljubljanska banka d.d. - Ljubljana 28.3% 18.1% Hrvatska Postanska banka d.d. - Zagreb - 5.5% On the basis of Agreement and Annex No. 1, 2, 3 and 4 to the Agreement on transfer of voting share rights owned by NLB InterFinanz AG Zurich in NLB Tutunska banka, the voting rights of the shareholder NLB InterFinanz AG Zurich (28.5%) have been transferred to Nova Ljubljanska banka d.d. Ljubljana. Thus, the share of Nova Ljubljanska banka d.d. Ljubljana in the total voting rights in the Group as on 31 December 2007 amounts to 56.80%. Statutory reserve The reserve assets are the Group’s own assets that serve the purposes of covering the losses that arise from the risks the Group faced to in its operation. Under statutory legislation, the Group is required to calculate and set aside 15 percent of its net profit for the year in a statutory reserve until the level of the reserve reaches 1/5 of the court registered capital. When the minimum level is reached, and after covering all losses of the annual balance sheet, with a decision by the Assembly, the surplus of the statutory reserve can also be used for distribution of dividends, but only if the amount of the statutory reserve for that business year has not reached the minimum prescribed in the Trade Company Law or by the Group’s Statute. Revaluation Reserve The revaluation reserve includes the cumulative net effect of the changes in the fair value of investments available-for-sale until the moment of their derecognising or damaging. 2007 2006 213,338 120,458 213,338 120,458 2007 2006 At 1st January 120,458 109,882 Net profit from changes in fair value 101,508 25,215 (794) (12,773) (12,085) (1,866) 4,251 - 213,338 120,458 Revaluation reserves for available-for-sale securities Movement of the revaluation reserves: Revaluation reserves for available-for-sale securities Realized income Deferred tax Correction for deferred tax At 31 December NLB TUTUNSKA BANKA 102 ANNUAL REPORT 2007 Consolidated Financial Statements 36. Share capital (continued) Dividends After the balance sheet date for the year 2007, the following dividends were proposed by the Managing Board and they have not been provided for: 2007 2006 МКD - (2006: МКD 537) per ordinary share - 345,637 МКD - (2006: МКD 537 ) per preference share - 26,969 - 372,606 37. Cash and cash equivalents For the cash flow purposes, cash, as well as the cash equivalents comprise the following items with maturity of less than 90 days from the date of acquisition: 2007 2006 Cash and balances with the NBRM (Note 16) 3,045,587 1,989,969 Treasury bills (Note17) 7,756,781 4,321,430 Placements in other banks (Note 18) 3,724,191 612,328 14,526,559 6,923,727 38. Subsequent event No material events requiring additional disclosure in the financial statements have occurred after the day of preparation of the balance sheet. NLB TUTUNSKA BANKA 103 ANNUAL REPORT 2007 Unconsolidated Financial Statements NLB Tutunska banka AD Skopje Unconsolidated Financial Statements for the Year ended 31 December 2007 NLB TUTUNSKA BANKA 104 ANNUAL REPORT 2007 Unconsolidated Financial Statements Income statement All amounts in MKD thousands unless stated otherwise 31 December Note 2007 2006 Interest income 5 2,623,860 1,837,182 Interest expense 5 (1,145,489) (654,808) 1,478,371 1,182,374 Net interest income Fee and commission income 6 557,101 439,341 Fee and commission expense 6 (92,683) (77,908) 464,418 361,433 Net fee and commission income Dividend income 7 1,715 688 Net trading income 8 17,273 1,246 Impairment losses 13 (459,888) (433,776) Net foreign exchange gain 9 125,730 135,869 Administrative expenses 11 (569,733) (460,096) Other operating expenses 12 (466,580) (330,719) Other operating income 10 35,683 27,091 Operating profit 626,989 484,110 Profit before income tax 626,989 484,110 (74,408) (78,028) 552,581 406,082 Income tax expense 14 Profit for the year NLB TUTUNSKA BANKA 105 ANNUAL REPORT 2007 Unconsolidated Consolidated Financial Statements Balance sheet All amounts in MKD thousands unless stated otherwise 31 December Note 2007 2006 Cash and balances with central banks 15 4,190,623 3,042,320 Treasury bills and government bills 16 8,206,838 4,956,513 Loans and advances to banks 17 4,396,169 3,579,625 Loans and advances to customers 19 22,699,921 15,707,331 Trading assets 18 647,949 91,159 – Available for sale 20 1,262,473 1,009,108 Investment property 21 - 52,949 Investment in subsidiary 22 30,555 30,864 Investments in associates 23 59,527 60,128 Property and equipment 24 654,329 518,627 Intangible assets 25 69,692 57,948 Other assets 26 256,852 354,126 42,474,928 29,460,698 Assets Investment securities: Total assets Liabilities Deposits from banks 27 2,177,441 1,610,137 Due to customers 28 27,354,371 18,542,382 Other borrowed funds 29 7,727,525 5,645,454 Subordinated liability 30 786,120 314,075 Other liabilities 31 291,584 175,043 Provisions 32 356,296 299,337 4,781 24,299 14,892 16,692 38,713,010 26,627,419 785,621 693,866 Current income tax liabilities Deferred income tax liabilities 33 Total liabilities Equity Share capital 36 Share premium 1,610,707 968,422 Retained earnings 778,814 632,315 Other reserves 586,776 538,676 Total equity 3,761,918 2,833,279 42,474,928 29,460,698 Total equity and liabilities NLB TUTUNSKA BANKA 106 ANNUAL REPORT 2007 Consolidated Financial Statements NLB Tutunska banka AD Skopje Consolidated Financial Statements prepared in accordance with International Financial Reporting Standards for the Year ended 31 December 2007 NLB TUTUNSKA BANKA 107 ANNUAL REPORT 2007 Consolidated Financial Statements PricewaterhouseCoopers dooel ul.Marsal Tito 12, “Palata Makedonija” IV floor Republic of Macedonia Telephone + 389 (02) 3116 638 + 389 (02) 3111 012 + 389 (02) 3110 623 Facsimile + 389 (02) 3116 525 www.pwc.com/mk Independent auditor’s report Тo the Shareholders of NLB Tutunska Banka AD – Skopje We have audited the accompanying consolidated balance sheet of NLB Tutunska Banka AD - Skopje and its subsidiary NLB Tutunska Broker AD Skopje, (together “the Group”) which comprise the consolidated balance sheet as of 31 December 2007 and the consolidated income statement, consolidated statement of changes in equity and consolidated statement of cash flows for the year then ended and a summary of significant accounting policies and other explanatory notes. Management’s responsibility for the financial statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with International Financial Reporting Standards. This responsibility includes: designing, implementing and maintaining internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatements, whether due to fraud or error; selecting and applying appropriate accounting policies; and making accounting estimates that are reasonable in the circumstances. Auditors’ responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with International Standards on Auditing. Those Standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting principles used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide basis for our audit opinion. NLB TUTUNSKA BANKA 108 ANNUAL REPORT 2007 Consolidated Financial Statements Opinion In our opinion, the accompanying consolidated financial statements present fairly, in all material respects, the financial position of the Group as of 31 December 2007 and its financial performance and its cash flows for the year then ended in accordance with International Financial Reporting Standards. PricewaterhouseCoopers dooel Skopje, 10 March 2008 NLB TUTUNSKA BANKA 109 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Income statement All amounts in MKD thousands unless stated otherwise Year ended 31 December Note 2007 2006 Interest and similar income 5 2,629,716 1,840,695 Interest expense and similar charges 5 (1,145,257) (654,794) 1,484,459 1,185,901 Net interest income Fee and commission income 6 593,270 458,270 Fee and commission expense 6 (93,649) (78,273) 499,621 379,997 Net fee and commission income Dividend income 7 8,069 4,172 Net trading income 8 17,273 1,246 14 (456,066) (437,047) 9 125,730 135,885 Net income from selling available-for-sale investment securities 10 794 12,773 Administrative expenses 12 (579,758) (468,924) Other operating expenses 13 (470,777) (332,512) Other operating income 11 35,565 27,858 2,657 (2,824) 667,567 506,525 (76,977) (80,702) 590,590 425,823 Impairment charge for credit losses Net foreign exchange gain Share of loss of associates Profit before income tax Income tax expense 15 Profit for the year The notes on pages 8 to 68 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 110 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Balance sheet All amounts in MKD thousands unless stated otherwise Year ended 31 December Note 2007 2006 Cash and balances with central banks 16 4,218,346 3,046,291 Treasury bills and other eligible bills 17 8,206,838 4,956,513 Loans and advances to banks 18 4,396,169 3,579,625 Loans and advances to customers 20 22,699,921 15,707,331 Trading assets 19 650,949 91,159 – Available for sale 21 1,481,523 1,145,280 Investment property 22 - 52,949 Investments in associates 23 43,447 40,790 Property, plant and equipment 24 674,574 538,317 Intangible assets 25 69,889 58,051 Other assets 26 256,806 354,195 42,698,462 29,570,501 Assets Investment securities: Total assets Liabilities Deposits from financial institutions 27 2,146,872 1,606,883 Due to customers 28 27,376,943 18,546,295 Other borrowed funds 29 7,727,525 5,645,454 Subordinated liability 30 786,120 314,075 Other liabilities 31 292,153 177,966 Provisions 32 356,296 299,337 5,229 25,627 29,058 21,257 38,720,196 26,636,894 785,621 693,866 1,610,707 968,422 Retained earnings 833,658 649,150 Other reserves 748,280 622,169 Total equity 3,978,266 2,933,607 42,698,462 29,570,501 Current income tax liabilities Deferred income tax liabilities 33 Total liabilities Equity Capital and reserves Share capital 36 Share premium Total equity and liabilities The notes on pages 8 to 68 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 111 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Statement of changes in equity All amounts in MKD thousands unless stated otherwise Attributed to the equity holders At 1 January 2006 Share capital Share premium Retained earnings Statutory Revalua- Total equity reserve tion reserve 693,866 968,422 587,617 473,252 113,768 2,836,925 Net change in available for sale investments, net of tax - - - - 6,690 6,690 Net income recognised directly in equity - - - - 6,690 6,690 Net profit - - 425,823 - - 425,823 Total recognised income for 2006 - - 425,823 - 6,690 432,513 Dividend relating to 2005 - - (335,831) - - (335,831) Transfer to statutory reserve - - (28,459) 28,459 - - 693,866 968,422 649,150 501,711 120,458 2,933,607 Net change in available-for-sale investments, net of tax - - - - 92,635 92,635 Net income recognised directly in equity - - - - 92,635 92,636 At 1 January 2007 Net profit - - 590,590 - - 590,590 91,755 642,285 590,590 - 92,635 1,417,265 Dividend relating to 2006 - - (372,606) - - (372,606) Transfer to statutory reserve - - (33,476) 33,476 - - 91,755 642,285 - - - 734,040 785,621 1,610,707 833,658 535,187 213,093 3,978,266 Total recognised income for 2007 Increase of capital At 31 December 2007 Detailed information is provided in Note 36. The notes on pages 8 to 68 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 112 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Cash flow statement All amounts in MKD thousands unless stated otherwise Note Year ended 31 December 2007 2006 667,567 506,525 Cash flows from operating activities Profit before tax Adjustments for non cash items: Depreciation of property and equipment 24 82,856 66,441 Amortization of intangible assets 25 13,998 8,656 Depreciation of investments property 967 1,659 Written off property and equipment 427 1,791 456,066 437,047 Decrease in value of assets acquired through foreclosure procedure 13,704 8,910 Dividends income (8,069) (4,172) Impairment loss Interest income 5 (2,629,715) (1,840,695) Interest expense 5 1,145,256 654,794 Interest received 2,577,205 1,779,223 Interest paid (1,122,369) (627,667) Operating profit before changes in operating assets 1,197,893 992,512 - (1,481) Balances with NBRM (116,437) (390,630) Loans and advances to banks 2,289,572 1,240,966 (7,377,016) (4,435,526) 80,610 (69,732) 538,818 1,124,048 8,789,110 5,774,635 114,275 72,763 5,516,825 4,307,555 (97,374) (73,498) 5,419,451 4,234,057 (Increase)/decrease in operating assets: Restricted accounts Loans and advances to customers Other assets Increase/(decrease) in operating liabilities: Deposits from financial institutions Deposits from customers Other liabilities Net cash from operating activities before income tax Taxation paid Income tax paid Net cash flow from operating activities The notes on pages 8 to 68 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 113 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Cash flow statement (continued) Cash flows from investing activities Purchase of property and equipment 24 (167,563) (77,635) Purchase of intangible assets 25 (25,836) (49,610) Purchase of investments (1,078,156) (1,183,181) Disposal of investments 511,487 385,074 6 - 8,069 4,172 (751,993) (921,180) 469,190 314,075 Proceeds from borrowings 9,000,458 5,927,413 Repayment of borrowings (6,895,708) (6,304,060) (372,606) (335,831) 734,040 - 2,935,374 (398,403) Net increase in cash and cash equivalents 7,602,832 2,914,474 Cash and cash equivalents at 1 January 6,923,727 4,009,253 14,526,559 6,923,727 Proceeds from sale of property and equipment Dividends received Net cash used in investing activities Cash flows from financing activities Proceeds from subordinated liabilities 30 Dividends paid Issue of ordinary shares Net cash from financing activities Cash and cash equivalents at 31 December 37 The notes on pages 8 to 68 are an integral part of these consolidated financial statements NLB TUTUNSKA BANKA 114 ANNUAL REPORT 2007 Consolidated Financial Statements Consolidated Financial Statements for the Year ended 31 December 2007 1. General information NLB Tutunska Banka AD Skopje (“the Bank”) is a joint stock company incorporated and domiciled in the Republic of Macedonia. The Bank is a subsidiary of NLB Group, which controls 87.6% (2006: 83.4%) of the voting shares of the Bank. The address of its registered office is as follows: St. Bulevar Dvanaesetta Makedonska Brigada br. 20 Skopje - Aerodrom, 1000 Skopje, Republika Makedonija The consolidated financial statements of the Bank for the year ended 31 December 2007 comprise the financial statements of the Bank and its wholly owned subsidiary NLB Tutunskabroker A.D. Skopje, together referred to as the “Group”, and the interest of the Group in their associate Nov Penziski Fond A.D. Skopje. The Group is licensed to perform all banking activities in accordance with the law and the main activities include commercial lending, receiving of deposits, foreign exchange deals, and payment operation services in the country and abroad and retail banking services. In addition, it provides trade finance facilities to companies for export and import purposes, intermediate operations with trading securities, stock exchange operations on behalf of third parties and trading with investment securities managed on its own behalf. These consolidated financial statements have been approved for issue by the Board of Directors on 5 March 2008. Directors The names of the Directors of the Group serving during the financial year and to the date of this report are as follows: First General Manager Gjorgji Jancevski Second General Manager Mitre Kolishevski General Manager Ljube Rajevski General Manager Tome Perinski Director of Internal Audit Division Tihomir Trajkovski Manager of Finance and Treasury Management Division Stojna Stojkoska Manager of Corporate Banking Division Ljiljana Nastoska Manager of Logistic Division Jordanka Grujoska Manager of Cash Services Division Dragan Panovski Manager of Payment System and Sales Logistics Division Slagjana Beleva Manager of Branch Network Division Antonio Argir Manager of Risk Management Centre Bogoja Kitancev NLB TUTUNSKA BANKA 115 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies The principal accounting policies applied in the preparation of these consolidated financial statements are set out below. These policies have been consistently applied to all the years presented, unless otherwise stated. The consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) and are stated in Macedonian Denars (MKD). 2.1 Basis of preparation The consolidated financial statements have been prepared under the historical cost convention, as modified by the revaluation of available-for-sale financial assets. The preparation of consolidated financial statements in conformity with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise its judgment in the process of applying the Group’s accounting policies. The areas involving a higher degree of judgment or complexity, or areas where assumptions and estimates are significant to the financial statements are disclosed in Note 4. (a) Adoption of New or Revised Standards and Interpretations Certain new IFRSs became effective for the Group from 1 January 2007. Listed below are those new or amended standards or interpretations which are or in the future could be relevant to the Group’s operations and the nature of their impact on the Group’s accounting policies. All changes in accounting policies were applied retrospectively with adjustments made to the retained earnings at 1 January 2006, unless otherwise described below. IFRS 7, Financial Instruments: Disclosures and a complementary Amendment to IAS 1 Presentation of Financial Statements - Capital Disclosures (effective from 1 January 2007). The IFRS introduced new disclosures to improve the information about financial instruments, including about quantitative aspects of risk exposures and the methods of risk management. The new quantitative disclosures provide information about the extent of exposure to risk, based on information provided internally to the entity’s key management personnel. Qualitative and quantitative disclosures cover exposure to credit risk, liquidity risk and market risk including sensitivity analysis to market risk. IFRS 7 replaced IAS 30, Disclosures in the Financial Statements of Group’s and Similar Financial Institutions, and some of the requirements in IAS 32, Financial Instruments: Disclosure and Presentation. The Amendment to IAS 1 introduced disclosures about the level of an entity’s capital and how it manages capital. The new disclosures are made in these financial statements. Other new standards or interpretations. The Group has adopted the following other new standards or interpretations which became effective from 1 January 2007: • IFRIC 7, Applying the Restatement Approach under IAS 29 (effective for periods beginning on or after 1 March 2006); • IFRIC 8, Scope of IFRS 2 (effective for periods beginning on or after 1 May 2006); • IFRIC 9, Reassessment of Embedded Derivatives (effective for annual periods beginning on or after 1 June 2006); • IFRIC 10, Interim Financial Reporting and Impairment (effective for annual periods beginning on or after 1 November 2006). The new IFRIC interpretations 7 to 10 did not significantly affect the Group’s financial statements. NLB TUTUNSKA BANKA 116 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.1 Basis of preparation (continued) (b) New Accounting Pronouncements Certain new standards and interpretations have been published that are mandatory for the Group’s accounting periods beginning on or after 1 January 2008 or later periods and which the Group has not early adopted: IFRS 8, Operating Segments (effective for annual periods beginning on or after 1 January 2009). The Standard applies to entities whose debt or equity instruments are traded in a public market or that file, or are in the process of filing, their financial statements with a regulatory organisation for the purpose of issuing any class of instruments in a public market. IFRS 8 requires an entity to report financial and descriptive information about its operating segments and specifies how an entity should report such information. Management does not expect IFRS 8 to affect the Group’s financial statements. IAS 23, Borrowing Costs (revised March 2007; effective for annual periods beginning on or after 1 January 2009). The revised IAS 23 was issued in March 2007. The main change to IAS 23 is the removal of the option of immediately recognizing as an expense borrowing costs that relate to assets that take a substantial period of time to get ready for use or sale. An entity is, therefore, required to capitalize such borrowing costs as part of the cost of the asset. The revised Standard applies prospectively to borrowing costs relating to qualifying assets for which the commencement date for capitalisation is on or after 1 January 2009. Puttable financial instruments and obligations arising on liquidation—IAS 32 and IAS 1 Amendment (effective from 1 January 2009). The amendment requires classification as equity of some financial instruments that meet the definition of a financial liability. The Group does not expect the amendment to affect its financial statements. IAS 1, Presentation of Financial Statements (revised September 2007; effective for annual periods beginning on or after 1 January 2009). The main change in IAS 1 is the replacement of the income statement by a statement of comprehensive income which will also include all non-owner changes in equity, such as the revaluation of available-for-sale financial assets. Alternatively, entities will be allowed to present two statements: a separate income statement and a statement of comprehensive income. The revised IAS 1 also introduces a requirement to present a statement of financial position (balance sheet) at the beginning of the earliest comparative period whenever the entity restates comparatives due to reclassifications, changes in accounting policies, or corrections of errors. The Group expects the revised IAS 1 to affect the presentation of its financial statements but to have no impact on the recognition or measurement of specific transactions and balances. IAS 27, Consolidated and Separate Financial Statements (revised January 2008; effective for annual periods beginning on or after 1 July 2009). The revised IAS 27 will require an entity to attribute total comprehensive income to the owners of the parent and to the non-controlling interests (previously “minority interests”) even if this results in the non-controlling interests having a deficit balance (the current standard requires the excess losses to be allocated to the owners of the parent in most cases). The revised standard specifies that changes in a parent’s ownership interest in a subsidiary that do not result in the loss of control must be accounted for as equity transactions. It also specifies how an entity should measure any gain or loss arising on the loss of control of a subsidiary. At the date when control is lost, any investment retained in the former subsidiary will have to be measured at its fair value. The Group is currently assessing the impact of the amended standard on its financial statements. IFRS 3, Business Combinations (revised January 2008; effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after 1 July 2009). The revised IFRS 3 will allow entities to choose to measure non-controlling interests using the existing IFRS 3 method (proportionate share of the acquirer’s identifiable net assets) or on the same basis as US GAAP (at fair value). The revised IFRS 3 is more detailed in providing guidance on the application of the purchase method to business combinations. The requirement to measure at fair value every asset and liability at each step in a step acquisition for the purposes of calculating a portion of goodwill has been removed. Instead, goodwill will be measured as the difference at acquisition date between the fair value of any investment in the business held before the acquisition, the consideration transferred and the net assets acquired. Acquisition-related costs will be accounted for separately from the business combination and therefore recognized as expenses rather than included in goodwill. An acquirer will have to recognize at the acquisition date a liability for any contingent purchase consideration. NLB TUTUNSKA BANKA 117 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.1 Basis of preparation (continued) (b) New Accounting Pronouncements (continued) Changes in the value of that liability after the acquisition date will be recognized in accordance with other applicable IFRSs, as appropriate, rather than by adjusting goodwill. The revised IFRS 3 brings into its scope business combinations involving only mutual entities and business combinations achieved by contract alone. The Group is currently assessing the impact of the amended standard on its financial statements. • IFRIC 11, IFRS 2 - Group and Treasury Share Transactions (effective for annual periods beginning on or after 1 March 2007); • IFRIC 12, Service Concession Arrangements (effective for annual periods beginning on or after 1 January 2008); • IFRIC 13, Customer Loyalty Programmes (effective for annual periods beginning on or after 1 July 2008); • IFRIC 14, IAS 19—The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction (effective for annual periods beginning on or after 1 January 2008). The new standards and interpretations are not expected to significantly affect the Group’s financial statements. 2.2 Basis of consolidation a) Subsidiaries Subsidiaries are those entities controlled by the Group. Control exists when the Group has the power, directly or indirectly, to govern the financial and operating policies of an entity in order to obtain benefits from its activities. The financial statements of subsidiaries are included in the consolidated financial statements from the date the control commences until the date that control ceases. The Group uses the purchase method of accounting to account for the acquisition of subsidiaries. The cost of an acquisition is measured as the fair value of the assets given, equity instruments issued and liabilities incurred or assumed at the date of exchange, plus costs directly attributable to the acquisition. Identifiable assets acquired and liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date, irrespective of the extent of any minority interest. The excess of the cost of acquisition over the fair value of the Group’s share of the identifiable net assets acquired is recorded as goodwill. If the cost of acquisition is less than the fair value of the net assets of the subsidiary acquired, the difference is recognized directly in the income statement. b) Investment in associates Associates are those entities in which the Group has significant influence, but not control, over the financial and operating policies. The investment in associate is accounted for using the equity method. The financial statements include the Group’s share of total recognised gains and losses of associates on an equity accounting basis, from the date that the significant influence commences until the date that the significant influences ceases. When the Group’s share of losses exceeds its interest in an associate, the Group’s carrying amount is reduced to nil and recognition of further losses is discontinued except to the extend that the Group has incurred legal or constructive obligations or made payments on behalf of an associate. c) Transactions eliminated on consolidation Intra-group balances and transactions, and any unrealised gains arising from intra-group transactions between the Bank and subsidiaries, are eliminated in preparing the consolidated financial statements. Unrealised gains and losses arising from transactions with the associate are eliminated to the extent of the Group’s interest in the enterprise. Unrealised gains arising from transactions with associate are eliminated against the investment in the associate. Unrealised losses are eliminated in the same way as unrealized gains, but only to the extent that there is no evidence of impairment. NLB TUTUNSKA BANKA 118 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.3 Foreign currency translation (a) Functional and presentation currency Items included in the financial statements are measured using the currency of the primary economic environment in which the Group operates (‘the functional currency’). The financial statements are presented in MKD thousands, which is the Banks’s functional and the Group’s presentation currency. (b) Transactions and balances Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement. Changes in the fair value of monetary securities denominated in foreign currency classified as available for sale are analysed between translation differences resulting from changes in the amortised cost of the security and other changes in the carrying amount of the security. Translation differences related to changes in the amortised cost are recognised in profit or loss, and other changes in the carrying amount are recognised in equity. Translation differences on non-monetary items, such as equities held at fair value through profit or loss, are reported as part of the fair value gain or loss. Translation differences on non-monetary items, such as equities classified as available-for-sale financial assets, are included in the fair value reserve in equity. The foreign currencies the Group deals with are predominantly Euro (EUR) and United States Dollars (USD) based. The exchange rates used for translation at 31 December 2007 and 2006 were as follows: NLB TUTUNSKA BANKA 2007 2006 MKD MKD 1 EUR 61.20 61.17 1 USD 41.66 46.45 119 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.4 Financial assets The Group classifies its financial assets in the following categories: financial assets at fair value through profit or loss; loans and receivables; held-to-maturity investments; and available-for-sale financial assets. Management determines the classification of its investments at initial recognition. (a) Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. They arise when the Group provides money to a debtor with no intention of trading the receivable. Loans are recognized when cash is advanced to the borrowers and are carried at amortized cost using the effective interest method. (b) Held for trading A financial asset is classified as held for trading if it is acquired principally for the purpose of selling or repurchasing it in the near term and for which there is evidence of a recent actual pattern of short-term profit-taking. The only trading assets held by the Group are Treasury bills and government treasury bills. (c) Available-for-sale financial assets Available-for-sale investments are those intended to be held for an indefinite period of time, which may be sold in response to needs for liquidity. Regular-way purchases and sales of financial assets at fair value through profit or loss, held to maturity and available for sale are recognised on trade-date – the date on which the Group commits to purchase or sell the asset. Financial assets are initially recognised at fair value plus transaction costs for all financial assets not carried at fair value through profit or loss. Financial assets carried at fair value through profit and loss are initially recognised at fair value, and transaction costs are expensed in the income statement. Available-for-sale financial assets and financial assets at fair value through profit or loss are subsequently carried at fair value. Loans and receivables and held-to-maturity investments are carried at amortised cost using the effective interest method. Gains and losses arising from changes in the fair value of the ‘financial assets at fair value through profit or loss’ category are included in the income statement in the period in which they arise. Gains and losses arising from changes in the fair value of available-for-sale financial assets are recognised directly in equity, until the financial asset is derecognised or impaired. At this time, the cumulative gain or loss previously recognised in equity is recognised in profit or loss. However, interest calculated using the effective interest method and foreign currency gains and losses on monetary assets classified as available for sale are recognised in the income statement. Dividends on available-for-sale equity instruments are recognised in the income statement when the entity’s right to receive payment is established. The fair values of quoted investments in active markets are based on current bid prices, except that any instrument that does not have a quoted market price in an active market and whose fair value cannot be reliably measured is stated at cost, less impairment losses. Financial assets are derecognised when the rights to receive cash flows from the financial assets have expired or where the Group has transferred substantially all risks and rewards of ownership. Financial liabilities are derecognised when they are extinguished − that is, when the obligation is discharged, cancelled or expires. NLB TUTUNSKA BANKA 120 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.5 Offsetting financial instruments Financial assets and liabilities are offset and the net amount reported in the balance sheet when there is a legally enforceable right to offset the recognised amounts and there is an intention to settle on a net basis, or realise the asset and settle the liability simultaneously. 2.6 Interest income and expense Interest income and expense for all interest-bearing financial instruments, except for those classified as held for trading or designated at fair value through profit or loss, are recognised within ‘interest income’ and ‘interest expense’ in the income statement using the effective interest method. The effective interest method is a method of calculating the amortised cost of a financial asset or a financial liability and of allocating the interest income or interest expense over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. When calculating the effective interest rate, the Group estimates cash flows considering all contractual terms of the financial instrument (for example, prepayment options) but does not consider future credit losses. The calculation includes all fees and points paid or received between parties to the contract that are an integral part of the effective interest rate, transaction costs and all other premiums or discounts. Once a financial asset or a group of similar financial assets has been written down because of an impairment loss, interest income is recognised using the rate of interest used to discount the future cash flows for the purpose of measuring the impairment loss. 2.7 Fee and commission income Fees and commissions consist mainly of fees received from entities arising from guarantees and letter of credits and fees arising from domestic and foreign payment traffic. Fees and commissions are generally recognised on an accrual basis when the service has been provided. 2.8 Dividend income Dividends are recognised in the income statement when the entity’s right to receive payment is established and inflow of economic benefits is probable. 2.9 Impairment of financial assets (a) Assets carried at amortised cost The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or group of financial assets is impaired. A financial asset or a group of financial assets is impaired and impairment losses are incurred only if there is objective evidence of impairment as a result of one or more events that occurred after the initial recognition of the asset (a ‘loss event’) and that loss event (or events) has an impact on the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. NLB TUTUNSKA BANKA 121 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.9 Impairment of financial assets (continued) (a) Assets carried at amortised cost (continued) The criteria that the Group uses to determine that there is objective evidence of an impairment loss include: • Delinquency in contractual payments of principal or interest; • Cash flow difficulties experienced by the borrower (for example, equity ratio, net income percentage of sales); • Breach of loan covenants or conditions; • Initiation of bankruptcy proceedings; • Deterioration of the borrower’s competitive position; • Deterioration in the value of collateral; • Legal and other difficulties in enforcing the bank’s rights to repossess collateral; The estimated period between a loss occurring and its identification is determined by local management for each identified portfolio. In general, the period used is three months. The Group first assesses whether objective evidence of impairment exists individually for financial assets that are individually significant, and individually or collectively for financial assets that are not individually significant. If the Group determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. Assets that are individually assessed for impairment and for which an impairment loss is or continues to be recognised are not included in a collective assessment of impairment. The amount of the loss is measured as the difference between the asset’s carrying amount and the present value of estimated future cash flows (excluding future credit losses that have not been incurred) discounted at the financial asset’s original effective interest rate. The carrying amount of the asset is reduced through the use of an allowance account and the amount of the loss is recognised in the income statement. If a loan or held-to-maturity investment has a variable interest rate, the discount rate for measuring any impairment loss is the current effective interest rate determined under the contract. The calculation of the present value of the estimated future cash flows of a collateralised financial asset reflects the cash flows that may result from foreclosure less costs for obtaining and selling the collateral, whether or not foreclosure is probable. For the purposes of a collective evaluation of impairment, financial assets are grouped on the basis of similar credit risk characteristics (i.e., on the basis of the Group’s grading process that considers asset type, industry, geographical location, collateral type, past-due status and other relevant factors). Those characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative of the debtors’ ability to pay all amounts due according to the contractual terms of the assets being evaluated. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of the contractual cash flows of the assets in the Group and historical loss experience for assets with credit risk characteristics similar to those in the Group. Historical loss experience is adjusted on the basis of current observable data to reflect the effects of current conditions that did not affect the period on which the historical loss experience is based and to remove the effects of conditions in the historical period that do not currently exist. Estimates of changes in future cash flows for groups of assets should reflect and be directionally consistent with changes in related observable data from period to period (for example, changes in unemployment rates, property prices, payment status, or other factors indicative of changes in the probability of losses in the Group and their magnitude). The methodology and assumptions used for estimating future cash flows are reviewed regularly by the Group to reduce any differences between loss estimates and actual loss experience. NLB TUTUNSKA BANKA 122 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.9 Impairment of financial assets (continued) (a) Assets carried at amortised cost (continued) When a loan is uncollectible, it is written off against the related provision for loan impairment. Such loans are written off after all the necessary procedures have been completed and the amount of the loss has been determined. If, in a subsequent period, the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised (such as an improvement in the debtor’s credit rating), the previously recognised impairment loss is reversed by adjusting the allowance account. The amount of the reversal is recognised in the income statement in impairment charge for credit losses. (b) Assets classified as available for sale The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or a group of financial assets is impaired. In the case of equity investments classified as available for sale, a significant or prolonged decline in the fair value of the security below its cost is considered in determining whether the assets are impaired. If any such evidence exists for available-for-sale financial assets, the cumulative loss – measured as the difference between the acquisition cost and the current fair value, less any impairment loss on that financial asset previously recognised in profit or loss – is removed from equity and recognised in the income statement. Impairment losses recognised in the income statement on equity instruments are not reversed through the income statement. If, in a subsequent period, the fair value of a debt instrument classified as available for sale increases and the increase can be objectively related to an event occurring after the impairment loss was recognised in profit or loss, the impairment loss is reversed through the income statement. (c) Renegotiated loans Loans that are either subject to collective impairment assessment or individually significant and whose terms have been renegotiated are no longer considered to be past due but are treated as new loans. In subsequent years, the asset is considered to be past due and disclosed only if renegotiated. 2.10 Investment property Investment property is property held either to earn rental income or for capital appreciation or both. The Group holds investment property that has been acquired through the enforcement of security over loans and advances. Rental income from investment property is recognized in the income statement on a straight- line basis over the term of the lease. Investment property is measured at cost less accumulated depreciation and any accumulated impairment losses. The depreciation of the investment property is charged to the income statement using the straightline method to allocate their cost to their residual values over their estimated useful lives. Investment property is periodically reviewed for impairment. When the Group makes a decision to use the assets for its own purposes, they are reclassified to property and equipment. The estimated period of depreciation is as follow: Building 2007 2006 40 years 40 years The assets’ residual values and useful lives are reviewed, and adjusted if appropriate, at each balance sheet date. NLB TUTUNSKA BANKA 123 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.11 Intangible assets Intangible assets that are acquired by the Group are stated at cost less accumulated amortisation and impairment losses. Subsequent expenditure is capitalised only when it increases the future economic benefits embodied in the specific assets to which it relates. All other expenditure is expensed as incurred. Amortisation is charged to the income statement on a straight-line basis over the estimated useful lives of intangible assets. Intangible assets are amortised from the date they are available for use. 2007 2006 Software 5 years 5 years Patents and licenses 5 years 5 years Other 5 years 5 years 2.12 Property and equipment Land and buildings comprise mainly branches and offices. All property, plant and equipment are stated at historical cost less depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items. Subsequent costs are included in the asset’s carrying amount or are recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Group and the cost of the item can be measured reliably. All other repairs and maintenance are charged to other operating expenses during the financial period in which they are incurred. Land is not depreciated. Depreciation of other assets is calculated using the straight-line method to allocate their cost to their residual values over their estimated useful lives, as follows: Buildings Furniture and equipment 2007 2006 40 years 40 years 4-10 years 4-10 years The assets’ residual values and useful lives are reviewed, and adjusted if appropriate, at each balance sheet date. Assets that are subject to amortisation are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An asset’s carrying amount is written down immediately to its recoverable amount if the asset’s carrying amount is greater than its estimated recoverable amount. The recoverable amount is the higher of the asset’s fair value less costs to sell and value in use. Gains and losses on disposals are determined by comparing proceeds with carrying amount. These are included in other operating expenses in the income statement. NLB TUTUNSKA BANKA 124 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.13 Leases (a) Group is the lessee The leases entered into by the Group are primarily operating leases. The total payments made under operating leases are charged to other operating expenses in the income statement on a straight-line basis over the period of the lease. When an operating lease is terminated before the lease period has expired, any payment required to be made to the lessor by way of penalty is recognised as an expense in the period in which termination takes place. 2.14 Cash and cash equivalents For the purposes of the cash flow statement, cash and cash equivalents comprise balances with less than three months’ maturity from the date of acquisition, including cash and non-restricted balances with central banks, treasury bills and other eligible bills, loans and advances to banks. 2.15 Provisions A provision is recognised if, as a result of a past event, the Group has a present legal or constructive obligation that can be estimated reliably, and it is probable that an outflow of economic benefits will be required to settle the obligation. Provisions are determined by discounting the expected future cash flows at a pre-tax rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. A provision for onerous contracts is recognised when the expected benefits to be derived by the Group from a contract are lower than the unavoidable cost of meeting its obligations under the contract. The provision is measured at the present value of the lower of the expected cost of terminating the contract and the expected net cost of continuing with the contract. Before a provision is established, the Group recognises any impairment loss on the assets associated with that contract. 2.16 Employee benefits Defined contribution plans The Group contributes to its employees’ post retirement plans as prescribed by the national legislation. Contributions, based on salaries, are made to the national organisations responsible for the payment of pensions. There is no additional liability in respect of these plans. Obligations for contributions to defined contribution pension plans are recognised as an expense in profit and loss when they are due. Short-term benefits Short-term employee benefit obligations are measured on an undiscounted basis and are expensed as the related service is provided. A provision is recognised for the amount expected to be paid under short-term cash bonus or profitsharing plans if the Group has a present legal or constructive obligation to pay this amount as a result of past service provided by the employee and the obligation can be estimated reliably. NLB TUTUNSKA BANKA 125 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.16 Employee benefits (continued) Long-term employee benefits The Group’s net obligation in respect of long-term employee benefits is the amount of future benefit that employees have earned in return for their service in the current and prior periods; that benefit is discounted to determine its present value. Any actuarial gains or losses are recognised in profit or loss in the period in which they arise. Long-term employee benefits include jubilee awards and retirement indemnity bonuses. Valuations of these obligations are carried out by independent qualified actuaries. The main actuarial assumptions included in the calculation of the obligation for long-term employee benefits are: • Discount rate of 2.75% • Number of employees eligible to claim benefits and • Future salary increases using general salary inflation index, promotions and increases in salaries according to past years of services. 2.17 Deferred income tax Deferred income tax is provided in full, using the liability method, on temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the consolidated financial statements. Deferred income tax is determined using tax rates (and laws) that have been enacted or substantially enacted by the balance sheet date and are expected to apply when the related deferred income tax asset is realised or the deferred income tax liability is settled. The principal temporary differences arise from depreciation of property, plant and equipment, revaluation of certain financial assets and liabilities including, provisions for long-term benefits and tax losses carried forward; and, in relation to acquisitions, on the difference between the fair values of the net assets acquired and their tax base. The rates enacted or substantively enacted at the balance sheet date are used to determine deferred income tax. However, the deferred income tax is not accounted for if it arises from initial recognition of an asset or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting nor taxable profit or loss. Deferred tax assets are recognised where it is probable that future taxable profit will be available against which the temporary differences can be utilised. Deferred income tax is provided on temporary differences arising from investments in subsidiaries and associates, except where the timing of the reversal of the temporary difference is controlled by the Group and it is probable that the difference will not reverse in the foreseeable future. The tax effects of income tax losses available for carry-forward are recognised as an asset when it is probable that future taxable profits will be available against which these losses can be utilised. Deferred tax related to fair value re-measurement of available-for-sale investments and cash flow hedges, which are charged or credited directly to equity, is also credited or charged directly to equity and subsequently recognised in the income statement together with the deferred gain or loss. NLB TUTUNSKA BANKA 126 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.18 Deposits, borrowings and subordinated liabilities Deposits, borrowings and subordinated liabilities are the Group’s sources of debt funding. The Group classifies capital instruments as financial liabilities or equity instruments in accordance with the substance of the contractual terms of the instrument. The Group initially recognises deposits, borrowings and subordinated liabilities on the date that they are originated. Deposits, borrowings and subordinated liabilities are initially measured at fair value net of transaction costs, and subsequently measured at their amortised cost using the effective interest method, except where the Group chooses to carry the liabilities at fair value through profit or loss where certain conditions are met. 2.19 Share capital (a) Preference share capital Preference share capital that is non-redeemable is classified as equity. (b) Share issue costs Incremental costs directly attributable to the issue of new shares are shown in equity as a deduction, net of tax, from the proceeds. (c) Dividends on ordinary shares Dividends on ordinary shares are recognised in equity in the period in which they are approved by the Group’s shareholders. Dividends for the year that are declared after the balance sheet date are dealt with in the subsequent events note. (d) Treasury shares Where the Group purchases the Group’s equity share capital, the consideration paid is deducted from total shareholders’ equity as treasury shares until they are cancelled. Where such shares are subsequently sold or reissued, any consideration received is included in shareholders’ equity. 2.20 Fiduciary activities The Group acts as trustees and in other fiduciary capacities that result in the holding or placing of assets on behalf of individuals, trusts, retirement benefit plans and other institutions. These assets and income arising thereon are excluded from these financial statements, as they are not assets of the Group. NLB TUTUNSKA BANKA 127 ANNUAL REPORT 2007 Consolidated Financial Statements 2. Summary of significant accounting policies (continued) 2.21 Financial guarantee contracts Financial guarantee contracts are contracts that require the issuer to make specified payments to reimburse the holder for a loss it incurs because a specified debtor fails to make payments when due. Such financial guarantees are given to banks, financial institutions and other bodies on behalf of customers to secure loans, overdrafts and other banking facilities. Financial guarantees are initially recognised in the financial statements at fair value on the date the guarantee was given. Subsequent to initial recognition, the Group’s liabilities under such guarantees are measured at the higher of the initial measurement, less amortisation calculated to recognize in the income statement the fee income earned on a straight line basis over the life of the guarantee and the best estimate of the expenditure required to settle any financial obligation arising at the balance sheet date. These estimates are determined based on experience of similar transactions and history of past losses, supplemented by the judgment of management. Any increase in the liability relating to guarantees is taken to the income statement under other operating expenses. 3. Financial risk management The Group’s activities expose it to a variety of financial risks and those activities involve the analysis, evaluation, acceptance and management of some degree of risk or combination of risks. Taking risk is core to the financial business, and the operational risks are an inevitable consequence of being in business. The Group’s aim is therefore to achieve an appropriate balance between risk and return and minimise potential adverse effects on the Group’s financial performance. The Group’s risk management policies are designed to identify and analyse these risks, to set appropriate risk limits and controls, and to monitor the risks and adherence to limits by means of reliable and upto-date information systems. The Group regularly reviews its risk management policies and systems to reflect changes in markets, products and emerging best practice. Risk management is carried out by a risk department in the Group under policies approved by the Board of Directors. The Board provides written principles for overall risk management, as well as written policies covering specific areas, such as, credit risk, foreign exchange risk, interest rate risk and liquidity risk. In addition, internal audit is responsible for the independent review of risk management and the control environment. The most important types of risk are credit risk, liquidity risk, market risk and other operational risk. Market risk includes currency risk, interest rate and other price risk. 3.1 Credit risk The Group takes on exposure to credit risk, which is the risk that counterparty will cause a financial loss for the Group by failing to discharge an obligation. Credit risk is the most important risk for the Group’s business; management therefore carefully manages its exposure to credit risk. Credit exposures arise principally in lending activities that lead to loans and advances, and investment activities that bring debt securities and other bills into the Group’s asset portfolio. There is also credit risk in off-balance sheet financial instruments. The credit risk management and control are centralised in credit risk management team of risk department and reported to the Board of Directors. NLB TUTUNSKA BANKA 128 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.1 Credit risk measurement (a) Loans and advances In measuring credit risk of loans and advances to customers and to groups at a counterparty level, the Group reflects the ‘probability of default’ by the client or counterparty on its contractual obligations. These credit risk measurements, which reflect expected loss (the ‘expected loss model’) and are required by the Basel Committee on Banking Regulations and the Supervisory Practices (the Basel Committee), are embedded in the Group’s daily operational management. The operational measurements can be contrasted with impairment allowances required under IAS 39, which are based on losses that have been incurred at the balance sheet date (the ‘incurred loss model’) rather than expected losses (Note 3.1.3). (I) The Group assesses the probability of default of individual counterparties using internal rating tools tailored to the various categories of counterparty. They have been developed internally and combine statistical analysis with credit officer judgment and are validated, where appropriate, by comparison with externally available data. Clients of the Group are segmented into four rating classes. The Group’s rating scale, which is shown below, reflects the range of default probabilities defined for each rating class. This means that, in principle, exposures migrate between classes as the assessment of their probability of default changes. The rating tools are kept under review and upgraded as necessary. The Group regularly validates the performance of the rating and their predictive power with regard to default events. Group’s internal ratings scale Group’s rating Description of the grade A Investment grade B Standard monitoring C Special monitoring D+E Sub-standard Criterion for classification of Financial Assets or Contingent liabilities into groups A, B, C, D and E are as follows: Financial Assets or Contingent liabilities are classified into Group A if they are towards: • National Bank of the Republic of Macedonia and the Republic of Macedonia • debtors which is not likely to default and who repays its obligations within the maturity, or with a delay of 15 days; • exposures secured by pledging collateral graded as first class collateral. Financial Assets or Contingent liabilities are classified into Group B if they are towards debtors: • whose cash flows are assessed as adequate to duly fulfil its due obligations, regardless its present financial position is assessed as weak, without signs of further deterioration in the future; • who settle their liabilities with delay of up to 30 days, occasionally with delay between 31 and 90 days. Financial Assets or Contingent liabilities are classified into Group C if they are towards debtors: • for which it is assessed, that cash flows will not be sufficient for regular repayment of matured liabilities, • that settle their liabilities with delay of up to 90 days, occasionally with delay between 91 to 180 days, • that are clearly undercapitalized, • that do not have sufficient long term capital resources for financing long term investments, • from whom group does not receive currently satisfactory information or adequate documentation concerning repayment of liabilities. NLB TUTUNSKA BANKA 129 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.1 Credit risk measurement (continued) (a) Loans and advances (continued) Financial Assets or Contingent liabilities are classified into Group D and E if they are towards debtors: • for which exists a strong likelihood of loss of part of financial asset or of payment for Contingent liabilities, • that settle their liabilities with delay of more than 90 to 180 days, occasionally with delay between 181 to 360 days, • which are insolvent, • for which a motion for commencement of process of liquidation or declaration of bankruptcy began and was filed at the provisional court, • that are in the process of reform or in the process of liquidation, • that declared bankruptcy, • from whom no repayment is expected, • with questionable legal grounds. (II) Exposure at default is based on the amounts the Group expects to be owed at the timeof default. For example, for a loan this is the face value. For a commitment, the Bank includes any amount already drawn plus the further amount that may have been drawn by the time of default, should it occur. (III) Loss given default or loss severity represents the Group’s expectation of the extent of loss on a claim should default occur. It is expressed as percentage loss per unit of exposure and typically varies by type of counterparty, type and seniority of claim and availability of collateral or other credit mitigation. (b) Debt securities and other bills For debt securities and other bills, risk department for managing of the credit risk exposures uses ratings depending on the issuer: Central bank of the Republic of Macedonia, Republic of Macedonia and Banks. The investments in those securities and bills are viewed as a way to gain a better credit quality mapping and maintain a readily available source to meet the funding requirement at the same time. Investment is allowed only in liquid securities that have high credit rating. Given their high credit ratings management of the Group does not expect any counterpart to fail to meet its obligations. The maximum exposure to credit risk is represented by the carrying amount of each financial asset in the balance sheet. NLB TUTUNSKA BANKA 130 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.2 Risk limit control and mitigation policies The Group manages, limits and controls concentrations of credit risk wherever they are identified − in particular, to individual counterparties and groups, and to industries and countries. The Group structures the levels of credit risk it undertakes by placing limits on the amount of risk accepted in relation to one borrower, or group of borrowers, and to geographical and industry segments. Such risks are monitored on a revolving basis and subject to an annual or more frequent review, when considered necessary. Limits on the level of credit risk by product and industry sector are approved by the Board of Directors. Exposure to credit risk is also managed through regular analysis of the ability of borrowers and potential borrowers to meet interest and capital repayment obligations and by changing these lending limits where appropriate. Some other specific control and mitigation measures are outlined below. (a) Collateral The Group employs a range of policies and practices to mitigate credit risk. The most traditional of these is the taking of security for funds advances, which is common practice. The Group implements guidelines on the acceptability of specific classes of collateral or credit risk mitigation. The principal collateral types for loans and advances are: • Cash, bank’s and first class companies’ guarantees, • Mortgages over residential properties; • Charges over business assets such as premises, inventory and accounts receivable; • Charges over financial instruments such as debt securities and equities. Loans to corporate entities and individuals are generally secured; over drafts and credit cards issued to individuals are secured by bills of exchange at the full amount of principal, interest and other charges. In addition, in order to minimise the credit loss the Group will seek additional collateral from the counterparty as soon as impairment indicators are noticed for the relevant individual loans and advances. Debt securities, treasury and other eligible bills are generally unsecured. (b) Credit-related contingencies The primary purpose of these instruments is to ensure that funds are available to a customer as required. Guarantees and standby letters of credit carry the same credit risk as loans and are secured with same collateral as loans. NLB TUTUNSKA BANKA 131 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.3 Impairment and provisioning policies The internal rating systems described in Note 3.1.1 focus more on credit-quality mapping from the inception of the lending and investment activities. In contrast, impairment provisions are recognised for financial reporting purposes only for losses that have been incurred at the balance sheet date based on objective evidence of impairment (see Note 2.8). The impairment provision shown in the balance sheet at year-end is derived from each of the four internal rating grades. However, the majority of the impairment provision comes from bottom two gradings. The table below shows the percentage of the Group’s on- and off-balance sheet items relating to loans and advances and the associated impairment provision for each of the Group’s internal rating categories: Group’s rating 2007 2006 Loans and advances (%) Impairment provision (%) Loans and advances (%) Impairment provision (%) 95 1 94 1 2.Standard monitoring 2 10 1 10 3.Special monitoring 2 25 4 25 1.Investment grade 4.Sub-standard 1 57 1 58 100 7.4 100 8.6 The internal rating tool assists management to determine whether objective evidence of impairment exists under IAS 39, based on the following criteria set out by the Group: • Delinquency in contractual payments of principal or interest; • Cash flow difficulties experienced by the borrower (e.g. equity ratio, net income percentage of sales); • Breach of loan covenants or conditions; • Initiation of bankruptcy proceedings; • Deterioration of the borrower’s competitive position; • Deterioration in the value of collateral; • Legal and other difficulties in enforcing the bank’s rights to repossess collateral; The Group’s policy requires the review of individual financial assets that are above materiality thresholds at least annually or more regularly when individual circumstances require. Impairment allowances on individually assessed accounts are determined by an evaluation of the incurred loss at balance-sheet date on a case-by-case basis, and are applied to all individually significant accounts. The assessment normally encompasses collateral held (including re-confirmation of its enforceability) and the anticipated receipts for that individual account. Collectively assessed impairment allowances are provided for: (i) portfolios of homogenous assets that are individually below materiality thresholds; and (ii) losses that have been incurred but have not yet been identified, by using the available historical experience, experienced judgment and statistical techniques. NLB TUTUNSKA BANKA 132 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.4 Maximum exposure to credit risk before collateral held or other credit enhancements Maximum exposure 2007 2006 Credit risk exposures relating to on-balance sheet assets are as follows: Treasury bills and other eligible bills 8,206,838 4,956,513 Loans and advances to banks 4,396,169 3,579,625 − Overdrafts 623,728 86,222 − Credit cards 472,513 266,053 − Term loans 5,242,391 2,346,378 − Mortgages 1,976,515 1,571,077 2,272,675 722,292 12,112,099 10,715,309 650,949 91,159 1,285,867 1,043,022 256,806 354,195 Loans and advances to customers: Loans to individuals: Loans to corporate entities: − Large corporate customers − Small and medium size entities (SMEs) − Other Trading assets Investment securities − Debt securities Other assets Credit risk exposures relating to off-balance sheet items are as follows: Financial guarantees At 31 December 7,219,545 4,941,851 44,716,095 30,673,696 The above table represents a worse case scenario of credit risk exposure to the Group at 31 December 2007 and 2006, without taking account of any collateral held or other credit enhancements attached. For on-balance-sheet assets, the exposures set out above are based on net carrying amounts as reported in the balance sheet. As shown above, 61% of the total maximum exposure is derived from loans and advances to banks and customers (2006: 63%); 23% represents investments in debt securities (2006: 20%). Management is confident in its ability to continue to control and sustain minimal exposure of credit risk to the Group resulting from both its loan and advances portfolio and debt securities based on the following: • 96% of the loans and advances portfolio is categorised in the top two grades of the internal rating system (2006: 95%); • Loans to SMEs, which represents the biggest group in the portfolio, are backed by collateral; • 87% of loans to individuals are backed by collateral; • 93% of the loans and advances portfolio are considered to be neither past due nor impaired (2006: 92%); • An improvement in the credit quality of loans and advances has resulted in a lower impairment charge in the income statement, showing a 8.04% decrease; • The Group has introduced a more stringent selection process upon granting loans and advances; and • More than 97% of the investments in debt securities and other bills are in securities issued by the Republic of Macedonia and Central bank. NLB TUTUNSKA BANKA 133 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances Loans and advances are summarised as follows: 31 December 2007 Neither past due nor impaired Past due but not impaired 31 December 2006 Loans and advances to customers Loans and advances to banks Loans and advances to customers Loans and advances to banks 22,996,121 4,137,493 16,026,019 3,366,271 628,429 263,382 312,698 214,275 1,238,872 637 1,140,105 312 Gross 24,863,422 4,401,512 17,478,822 3,580,858 Less: allowance for impairment (2,163,501) (5,343) (1,771,491) (1,233) Net 22,699,921 4,396,169 15,707,331 3,579,625 Impaired The total impairment provision for loans and advances is MKD 2,168,844,000 (2006: MKD 1,772,724,000). Further information of the impairment allowance for loans and advances to banks and to customers is provided in Notes 18 and 20. During the year ended 31 December 2007, the Group’s total loans and advances increased by 40 % as a result of the expansion of the lending business, especially in retail segment. When entering into new markets or new industries, in order to minimise the potential increase of credit risk exposure, the Group focused more on the business with large corporate entities or banks with good credit rating or retail customers providing sufficient collateral. NLB TUTUNSKA BANKA 134 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (a) Loans and advances neither past due nor impaired The credit quality of the portfolio of loans and advances that were neither past due nor impaired can be assessed by reference to the internal rating system adopted by the Group. 31 December 2007 Loans and advances to customers Individual (retail customers) Over-drafts Credit cards Corporate entities Term loans Mortgages Large corporate customers SMEs Total Loans and advances to customers Loans and advances to banks Grades: 1.Investment grade 310,507 468,377 5,346,820 2,058,698 2,319,303 12,492,416 22,996,121 4,137,493 Total 310,507 468,377 5,346,820 2,058,698 2,319,303 12,492,416 22,996,121 4,137,493 31 December 2006 Loans and advances to customers Individual (retail customers) Corporate entities Over-drafts Credit cards Term loans Mortgages Large corporate customers SMEs Total Loans and advances to customers Loans and advances to banks 1.Investment grade 41,782 275,044 2,418,510 1,667,290 764,837 10,858,556 16,026,019 3,366,271 Total 41,782 275,044 2,418,510 1,667,290 764,837 10,858,556 16,026,019 3,366,271 Grades: NLB TUTUNSKA BANKA 135 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (b) Loans and advances past due but not impaired Gross amount of loans and advances that are past due but not impaired: (I) Loans and advances to customers 31 December 2007 Individual (retail customers) Over-drafts Term loans Mortgages Total 114,322 18,911 3,792 137,025 Past due 30-60 days 41,906 8,677 1,433 52,016 Past due 60-90 days 175,217 5,284 862 181,363 Total 331,445 32,872 6,087 370,404 - 37,108 13,545 50,653 Past due up to 30 days Fair value of collateral Corporate entities SMEs Total 170,509 170,509 Past due 30-60 days 42,410 42,410 Past due 60-90 days 45,106 45,106 Total 258,025 258,025 Fair value of collateral 415,102 415,102 Past due up to 30 days 31 December 2006 Individual (retail customers) Over-drafts Past due up to 30 days Term loans Mortgages Total 16,203 10,845 3,565 30,613 Past due 30-60 days 5,939 6,190 1,638 13,767 Past due 60-90 days 31,787 27,553 5,411 64,751 Total 53,929 44,588 10,614 109,131 - 50,362 23,641 74,003 Fair value of collateral Corporate entities SMEs Total 128,193 128,193 Past due 30-60 days 21,780 21,780 Past due 60-90 days 53,594 53,594 Total 203,567 203,567 Fair value of collateral 328,292 328,292 Past due up to 30 days NLB TUTUNSKA BANKA 136 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.5 Loans and advances (continued) (II) Loans and advances to banks The total gross amount of past due but not impaired loans and advances to banks as at 31 December 2007 is MKD 263,382,000 ( 2006: 214,275,000). Generally no collateral is held by the Group. (c) Loans and advances individually impaired (I) Loans and advances to customers The breakdown of the carrying amount of individually impaired loans and advances by class, along with the fair value of related collateral held by the Group as security, are as follows: Individual Corporate entities Credit cards Term loans SMEs Total 49,443 4,812 390,453 444,708 - - 781,519 781,519 9,368 3,425 273,538 286,331 - - 547,506 547,506 31 December 2007 Individually impaired loans Fair value of collateral 31 December 2006 Individually impaired loans Fair value of collateral The disclosed fair value of collateral is determined by local certified evaluators and represents value realisable by the legal owners of the assets. Management considers the loans covered by collateral as impaired because experience shows that a significant proportion of the collateral cannot be enforced due to administrative and legal difficulties. The impairment provisions reflect the probability that management will not be able to enforce its rights and repossess collateral on defaulted loans. Despite difficulties in enforcing repossession of collateral, the Group’s management will vigorously pursue the outstanding debts with all possible means at their disposal. (II) Loans and advances to banks The total gross amount of individually impaired loans and advances to banks as at 31 December 2007 is MKD 637,000 (2006: MKD 312,000). Generally no collateral is held by the Group. NLB TUTUNSKA BANKA 137 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.6 Debt securities, treasury bills and other eligible bills The table below presents an analysis of debt securities, treasury bills and other eligible bills. Issuer of the investment securities is the National Bank of the Republic of Macedonia and Republic of Macedonia. Standard & Poor’s Ratings Services assigned its ‘BBB-’ foreign currency and ‘BBB-’ local currency sovereign credit ratings to the Republic of Macedonia. Issuers of the trading securities are Banks who are BB+ rated from Fitch Rating Agency. 2007 Treasury bills and other bills Trading securities Investment securities Total NBRM 6,060,092 - - 6,060,092 RM 2,146,746 350,949 1,285,867 3,783,562 Banks - 300,000 - 300,000 Total 8,206,838 650,949 1,285,867 10,143,654 2006 Treasury bills and other bills Trading securities Investment securities Total NBRM 3,289,001 - - 3,289,001 RM 1,667,512 91,159 1,043,022 2,801,693 4,956,513 91,159 1,043,022 6,090,694 The assets are neither past due nor impaired 3.1.7 Repossessed collateral During 2007, the Group obtained assets by taking possession of collateral held as security, as follows: Nature of assets Residential property 2007 2006 Carrying amount Carrying amount 6,997 20,107 Repossessed collateral include apartments, equipment and business premises which are not used by the Group for its core operations. Repossessed properties are sold as soon as practicable with the proceeds used to reduce the outstanding indebtedness. Repossessed property is classified in the balance sheet within other assets. NLB TUTUNSKA BANKA 138 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (a) Geographical sectors The following table breaks down the Group’s main credit exposure at their carrying amounts, as categorised by geographical region as of 31 December 2007. For this table, the Group has allocated exposures to regions based on the country of domicile of its counterparties. EU countries Non EU countries in Europe Republic of Macedonia Other countries Total - - 8,206,838 - 8,206,838 3,002,307 659,845 685,626 48,391 4,396,169 − Overdrafts 11 130 623,585 2 623,728 − Credit cards 144 94 472,272 3 472,513 − Term loans - - 5,242,391 - 5,242,391 − Mortgages - - 1,976,515 - 1,976,515 − Large corporate customers - - 2,272,675 - 2,272,675 − SMEs - - 12,111,899 200 12,112,099 Trading assets – debt securities - - 650,949 - 650,949 Investment securities – debt securities - - 1,285,867 - 1,285,867 13,494 78 243,232 2 256,806 3,015,956 660,147 33,771,849 48,598 37,496,550 EU countries Non EU countries in Europe Republic of Macedonia Other countries Total - - 4,956,513 - 4,956,513 2,206,846 937,945 350,269 84,565 3,579,625 - - - - - 6 - 86,216 - 86,222 Treasury bills and other eligible bills Loans and advances to banks Loans and advances to customers: Loans to individuals: Loans to corporate entities: Other assets As at 31 December 2007 Treasury bills and other eligible bills Loans and advances to banks Loans and advances to customers: Loans to individuals: − Overdrafts − Credit cards 332 134 265,444 143 266,053 − Term loans 1 - 2,346,377 - 2,346,378 − Mortgages - - 1,571,077 - 1,571,077 − Large corporate customers - - 722,292 - 722,292 − SMEs 3 - 10,715,294 12 10,715,309 Trading assets – debt securities - - 91,159 - 91,159 Investment securities – debt securities - - 1,043,022 - 1,043,022 Other assets - - 354,195 - 354,195 2,207,188 938,079 22,501,858 84,720 25,731,845 Loans to corporate entities: As at 31 December 2006 NLB TUTUNSKA BANKA 139 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (continued) (b) Industry sectors The following table breaks down the Group’s main credit exposure at their carrying amounts, as categorised by the industry sectors of our counterparties. Financial institutions Manufacturing Real estate Whole-sale and retail trade Public sector Other industries Individuals Total Treasury bills and other eligible bills 8,206,838 - - - - - - 8,206,838 Loans and advances to banks 4,396,169 - - - - - - 4,396,169 - Overdrafts - - - - - - 623,728 623,728 - Credit cards - - - - - - 472,513 472,513 - Term loans - - - - - - 5,242,391 5,242,391 - Mortgages - - - - - - 1,976,515 1,976,515 - Large corporate customers - 991,794 - 1,040,833 - 240,048 - 2,272,675 - SMEs - 4,285,565 1,836,277 4,016,507 205,954 1,767,796 - 12,112,099 - Other - - - - - - - - 650,949 - - - - - - 650,949 1,232,187 - - - 53,680 - - 1,285,867 - - - - - 256,806 - 256,806 Loans and advances to customers: Loans to individuals: Loans to corporate entities: Trading assets - debt securities Investment securities debt securities Other assets As at 31 December 2007 NLB TUTUNSKA BANKA 14,486,143 5,277,359 1,836,277 140 5,057,340 259,634 2,264,650 8,315,147 37,496,550 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.1.8 Concentration of risks of financial assets with credit risk exposure (continued) (b) Industry sectors (continued) Financial institutions Manufacturing Real estate Whole-sale and retail trade Public sector Other industries Individuals Total Treasury bills and other eligible bills 4,956,513 - - - - - - 4,956,513 Loans and advances to banks 3,579,625 - - - - - - 3,579,625 - Overdrafts - - - - - - 86,222 86,222 - Credit cards - - - - - - 266,053 266,053 - Term loans - - - - - - 2,346,378 2,346,378 - Mortgages - - - - - - 1,571,077 1,571,077 - Large corporate customers - 429,988 - 50,517 - 241,787 - 722,292 - SMEs - 3,782,160 668,550 3,984,948 - 2,279,651 - 10,715,309 - Other - - - - - - - - 91,159 - - - - - - 91,159 982,475 - - - 60,547 - - 1,043,022 155 - - - - 354,040 - 354,195 9,609,927 4,212,148 668,550 4,035,465 Loans and advances to customers: Loans to individuals: Loans to corporate entities: Trading assets - debt securities Investment securities debt securities Other assets As at 31 December 2006 60,547 2,875,478 4,269,730 25,731,845 3.2 Market risk Market risk is the risk that changes in market prices, such as interest rate, equity prices, foreign exchange rates and credit spreads (not relating to changes in the obligor’s / issuer’s credit standing) will affect the Group’s income or the value of its holdings of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimising the return on risk. 3.2.1 Foreign exchange risk The Group is exposed to currency risk through transactions in foreign currencies. The Group ensures that the net exposure is kept to an acceptable level by buying or selling foreign currency at spot when necessary to address short-term imbalances. NLB TUTUNSKA BANKA 141 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.1 Foreign exchange risk (continued) Concentrations of currency risk - on and off-balance sheet financial instruments: ЕUR USD MKD Оther Total 1,777,854 49,478 1,862,242 528,772 4,218,346 - - 8,206,838 - 8,206,838 2,295,597 1,910,413 68,641 121,518 4,396,169 13,381,500 6,418 7,974,246 1,337,757 22,699,921 282,654 - 368,295 - 650,949 1,033,611 - 447,912 - 1,481,523 - - 43,447 - 43,447 32,569 13,798 210,439 - 256,806 18,803,785 1,980,107 19,182,060 1,988,047 41,953,999 799,745 55,980 870,042 421,105 2,146,872 11,109,326 1,868,917 14,142,839 255,861 27,376,943 7,401,512 73,313 9,734 242,966 7,727,525 - - - 786,120 786,120 20,596 - 270,944 613 292,153 Current income tax - - 5,229 - 5,229 Deferred income tax liabilities - - 29,058 - 29,058 19,331,179 1,998,210 15,327,846 1,706,665 38,363,900 Net on-balance sheet financial position (527,394) (18,103) 3,854,214 281,382 3,590,099 Off balance sheet 3,196,965 444,520 3,578,060 - 7,219,545 Total financial assets 14,852,583 1,535,940 11,695,747 836,914 28,921,184 Total financial liabilities 15,898,064 1,647,981 8,125,292 666,220 26,337,557 Net on-balance sheet financial position (1,045,481) (112,041) 3,570,455 170,694 2,583,627 2,011,095 239,976 2,690,005 775 4,941,851 As at 31 December 2007 Assets Cash and balances with central banks Treasury bills and other eligible bills Loans and advances to banks Loans and advances to customers Trading assets Investment securities: - Available for sale Investment in associates Other assets Total financial assets Liabilities Deposits from financial institutions Due to customers Other borrowed funds Subordinated liabilities Other liabilities Total financial liabilities At 31 December 2006 Off balance sheet At 31 December 2007, if the MKD had weakened 5 per cent against the foreign currencies with all other variables held constant, the pre-taxed profit for the twelve month period ended 31 December 2007 would have been approximately MKD 18,576,000 (2006: MKD 52,481,000) lower. Conversely, if the MKD had strengthened 5 per cent against the foreign currencies with all other variables held constant, pre-taxed profit would have been approximately MKD 20,176,000 (2006: MKD 57,681,000) higher. NLB TUTUNSKA BANKA 142 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.2 Interest rate risk The Group’s operations are subject to the risk of interest rate fluctuations to the extent that interestearning assets (including investments) and interest-bearing liabilities mature or reprice at different times or in differing amounts. In the case of floating rate assets and liabilities, the Group is also exposed to basis risk, which is the difference in repricing characteristics of the various floating rate indices, such as the savings rate, LIBOR and different types of interest. Risk management activities are aimed at optimising net interest income, given market interest rate levels consistent with the Group’s business strategies. Asset-liability risk management activities are conducted in the context of the Group’s sensitivity to interest rate changes. In general, the Group is asset sensitive because of the majority of the interest-earning assets and liabilities, the Group has the right simultaneously to change the interest rates. In decreasing interest rate environments, margins earned will narrow as liabilities interest rates will decrease with a lower percentage compared to assets interest rates. However the actual effect will depend on various factors, including stability of the economy, environment and level of the inflation. Analysis of the total assets and liabilities of the Group into relevant maturity groupings based on the remaining period to the next date at which interest rates may be changed, is set out below: Up to1 month 1-3 months 3-12 months 1-5 years Over 5 years Non- interest bearing Total Cash and central banks balances 1,494,376 - - - - 2,723,970 4,218,346 Treasury and other eligible bills 6,649,846 1,112,225 396,120 - - 48,647 8,206,838 Loans and advances to banks 3,782,398 67,693 95,673 414,139 6,225 30,041 4,396,169 Loans and advances to customers 6,633,822 3,519,005 5,378,860 4,429,077 2,052,262 686,895 22,699,921 650,949 - - - - - 650,949 – Available for sale - - 205,598 790,635 273,556 211,734 1,481,523 Investment in associate - - - - - 43,447 43,447 Other assets - - - - - 256,806 256,806 19,211,391 4,698,923 6,076,251 5,633,851 2,332,043 4,001,540 41,953,999 As at 31 December 2007 Assets Trading assets Investment securities: Total financial assets NLB TUTUNSKA BANKA 143 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.2.2 Interest rate risk (continued) Up to1 month 1-3 months 3-12 months 1-5 years Over 5 years Non- interest bearing Total 302,885 1,139,107 176,856 201,200 69,400 257,424 2,146,872 14,796,070 5,367,551 5,426,501 1,363,917 9,163 413,741 27,376,943 636,952 3,147,421 3,641,580 239,314 16,103 46,155 7,727,525 Subordinated liabilities - 783,265 - - - 2,855 786,120 Other liabilities - - - - - 292,153 292,153 As at 31 December 2007 Liabilities Deposits from financial institutions Due to customers Other borrowed funds Current income tax liabilities - - - - - 5,229 5,229 Deferred income tax liabilities - - - - - 29,058 29,058 Total financial liabilities 15,735,907 10,437,344 9,244,937 1,804,431 94,666 1,046,615 38,363,900 Total interest repricing gap 3,475,484 (5,738,421) (3,168,686) 3,829,420 2,237,377 2,954,925 3,590,099 Total financial assets 11,589,875 4,113,083 4,976,240 3,315,057 1,405,943 3,520,986 28,921,184 Total financial liabilities 11,452,738 9,297,379 3,447,551 902,906 337,914 899,069 26,337,557 137,137 (5,184,296) 1,528,689 2,412,151 1,068,029 2,621,917 2,583,627 As at 31 December 2006 Total interest repricing gap The interest rate sensitivity analysis has been determined based on the exposure to interest rate risk at the reporting date. At 31 December 2007, if interest rates had been 50 basis points higher/lower with all other variables were held constant, the Group’s pre-tax profit for the twelve month period ended 31 December 2007 would respectively increase/decrease by approximately MKD 8,869,000 (2006: MKD 2,718,000) and other equity components would respectively decrease/increase by MKD 6,566,000 (2006: MKD 5,402,000). NLB TUTUNSKA BANKA 144 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3 Liquidity risk Liquidity risk is the risk that the Group is unable to meet its payment obligations associated with its financial liabilities when they fall due and to replace funds when they are withdrawn. The consequence may be the failure to meet obligations to repay depositors and fulfil commitments to lend. 3.3.1 Liquidity risk management process The Group’s liquidity management process, as carried out within the Group and monitored by a team in Risk Department, includes: • Day-to-day funding, managed by monitoring future cash flows to ensure that requirements can be met. This includes replenishment of funds as they mature or are borrowed by customers. The Group maintains an active presence in money markets to enable this to happen; • Maintaining a portfolio of highly marketable assets that can easily be liquidated as protection against any unforeseen interruption to cash flow; • Monitoring balance sheet liquidity ratios against internal and regulatory requirements; and • Managing the concentration and profile of debt maturities. Monitoring and reporting take the form of cash flow measurement and projections for the next day, week and month respectively, as these are key periods for liquidity management. The starting point for those projections is an analysis of the contractual maturity of the financial liabilities and the expected collection date of the financial assets (Notes 3.3.3-3.3.4). Risk Department also monitors unmatched medium-term assets, the level type and the usage of overdraft facilities and the impact of contingent liabilities such as standby letters of credit and guarantees. 3.3.2 Funding approach Sources of liquidity are regularly reviewed by a team in Risk Department to maintain a wide diversification by currency, geography, provider, product and term. NLB TUTUNSKA BANKA 145 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3.3 Non-derivative cash flows The table below presents the cash flows payable by the Group under non-derivative financial liabilities by remaining contractual maturities at the balance sheet date. The amounts disclosed in the table are the contractual undiscounted cash flows, whereas the Group manages the inherent liquidity risk based on expected undiscounted cash inflows. Up to 1 month 1-3 months 3-12 months 1-5 years Over 5 years Total 564,461 1,142,399 179,137 254,473 107,852 2,248,322 15,137,463 5,404,970 5,452,605 1,553,624 12,504 27,561,166 278,115 303,767 3,340,218 4,057,668 195,805 8,175,573 - 2,855 - - 1,065,160 1,068,015 As at 31 December 2007 Liabilities Deposits from financial Institutions Due to customers Other borrowed funds Subordinated liabilities Other liabilities Current income tax Deferred income tax liabilities 293,292 - - - - 293,292 5,229 - - - - 5,229 29,058 - - - - 29,058 16,307,618 6,853,991 8,971,960 5,865,765 1,381,321 39,380,655 17,238,392 2,727,954 8,586,500 10,394,072 3,007,081 41,953,999 Total liabilities (contractual maturity dates) Total assets (expected maturity dates) As at 31 December 2006 Liabilities Deposits from financial institutions 535,736 424,718 632,341 23,316 - 1,616,111 10,061,770 5,107,193 2,521,474 685,750 357,877 18,734,064 40,799 430,581 1,133,796 4,171,931 272,247 6,049,354 - - - - 427,375 427,375 179,104 - - - - 179,104 Current tax liabilities 25,627 - - - - 25,627 Deferred tax liabilities 21,257 - - - - 21,257 10,864,293 5,962,492 4,287,611 4,880,997 1,057,499 27,052,892 10,884,365 2,295,480 7,385,138 6,830,524 1,525,677 28,921,184 Due to customers Other borrowed funds Subordinated liabilities Other liabilities Total liabilities (contractual maturity dates) Total assets (expected maturity dates) Assets available to meet all of the liabilities include cash, central bank balances, items in the course of collection and treasury and other eligible bills; loans and advances to banks; and loans and advances to customers. The Group would also be able to meet unexpected net cash outflows by selling securities and accessing additional funding sources such as asset-backed markets. NLB TUTUNSKA BANKA 146 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.3.4 Off-balance sheet items No later than 1 year 1-5 years Over 5 years Total 4,090,732 3,078,407 50,406 7,219,545 4,090,732 3,078,407 50,406 7,219,545 4,353,629 381,248 206,974 4,941,851 4,353,629 381,248 206,974 4,941,851 At 31 December 2007 Acceptances and other financial facilities Total At 31 December 2006 Acceptances and other financial facilities Total 3.4 Fair value of financial assets and liabilities Financial instruments not measured at fair value The table below summarises the carrying amounts and fair values of those financial assets and liabilities not presented on the Group’s balance sheet at their fair value. Carrying value Fair value 2007 2006 2007 2006 4,396,169 3,579,625 4,413,614 3,579,625 22,699,921 15,707,331 25,185,648 17,948,051 − Retail customers (individual) 8,315,147 4,269,730 9,309,519 5,119,514 − Large corporate customers 2,272,675 722,292 2,508,298 810,131 12,112,099 10,715,309 13,367,832 12,018,406 2,146,872 1,606,883 2,146,872 1,606,883 Due to customers 27,376,943 18,546,295 27,376,943 18,546,295 − Retail customers 13,199,948 8,345,249 13,199,948 8,345,249 − SMEs 14,176,995 10,201,046 14,176,995 10,201,046 Other borrowed funds 7,727,525 5,645,454 7,727,525 5,645,454 Subordinated liabilities 786,120 314,075 786,120 314,075 Financial assets Loans and advances to banks Loans and advances to customers − SMEs Financial liabilities Deposits from financial institutions (I) Due from financial institutions (II) Due from financial institutions includes inter-bank placements The fair value of floating rate placements and overnight deposits is their carrying amount. The estimated fair value of fixed interest bearing deposits is based on discounted cash flows using prevailing moneymarket interest rates for debts with similar credit risk and remaining maturity. (III) Loans and advances to customers Loans and advances are net of provisions for impairment. The estimated fair value of loans and advances represents the discounted amount of estimated future cash flows expected to be received. Expected cash flows are discounted at current market rates to determine fair value. (IV) Due to other banks and customers, other deposits, other borrowings and subordinated liabilities NLB TUTUNSKA BANKA 147 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.4 Fair value of financial assets and liabilities (continued) The estimated fair value of deposits with no stated maturity, which includes non-interest-bearing deposits, is the amount repayable on demand. The estimated fair value of fixed interest-bearing deposits and other borrowings not quoted in an active market is based on discounted cash flows using interest rates for new debts with similar remaining maturity. The fair value of the term deposits at variable interest rates approximates their carrying values as of the balance sheet date. Subordinated liabilities carry variable interest rates and the fair value approximates their carrying value as of the balance sheet date. 3.5 Capital management The Group’s objectives when managing capital, which is a broader concept than the ‘equity’ on the face of balance sheets, are: • to comply with the capital requirements set by the regulators; • to safeguard the Group’s ability to continue as a going concern so that it can continue to provide returns for shareholders and benefits for other stakeholders; and • to maintain a strong capital base to support the development of its business. Capital adequacy and the use of regulatory capital are monitored daily by the Group’s management, employing techniques based on the guidelines developed by the Basel Committee and the European Community Directives, as implemented by the Central Bank of the Republic of Macedonia for supervisory purposes. The required information is filed with Central Bank of the Republic of Macedonia on a quarterly basis. Central Bank of the Republic of Macedonia requires each bank or banking Group to: (a) hold the minimum level of the regulatory capital of EUR 5,000,000 and (b) maintain a ratio of total regulatory capital to the risk-weighted asset (the ‘Basel ratio’) at or above the internationally agreed minimum of 8%. The Group’s regulatory capital as managed by its Risk Department is divided into two tiers: • Tier 1 capital: share capital (net of any book values of the treasury shares), retained earnings and reserves created by appropriations of retained earnings; and • Tier 2 capital: qualifying subordinated loan capital, unrealised gains arising on the fair valuation of equity and debt instruments held as available for sale. The risk-weighted assets are measured by means of a hierarchy of four risk weights classified according to the nature of − and reflecting an estimate of credit, market and other risks associated with − each asset and counterparty, taking into account any eligible collateral or guarantees. A similar treatment is adopted for off-balance sheet exposure, with some adjustments to reflect the more contingent nature of the potential losses. The table below summarises the composition of regulatory capital and the ratios of the Group for the years ended 31 December. During those two years, the Group entities complied with all of the externally imposed capital requirements to which they are subject. NLB TUTUNSKA BANKA 148 ANNUAL REPORT 2007 Consolidated Financial Statements 3. Financial risk management (continued) 3.5 Capital management (contunied) 2007 2006 2,396,328 1,662,288 Statutory reserve 477,565 444,089 Retained earnings 226,234 226,234 3,100,127 2,332,611 Subordinated liability 783,265 314,075 Revaluation reserve 87,368 94,587 Total qualifying Tier 2 capital 870,633 408,662 Deductions from regulatory capital (174,527) (60,128) 3,796,233 2,681,145 On-balance sheet 23,717,092 17,170,949 Off-balance sheet 5,719,039 4,450,957 29,436,131 21,621,906 12.90% 12.40% Tier 1 capital Share capital (net of the treasury shares) Total qualifying Tier 1 capital Tier 2 capital Total regulatory capital Risk-weighted assets: Total risk-weighted assets Basel ratio Deductions from regulatory capital, represent investments in financial institutions where the Group’s ownership is over 10%, insurance companies and intangible assets. As a result of the changes in the local legislation which have occurred during 2007, the intangible assets are also deductible amount from Tier I and Tier II capital. The increase of the regulatory capital in 2007 is mainly due to additional paid in capital, and additional subordinated loan. The increase of the risk-weighted assets reflects the expansion of the business in retail segment and in SMEs in 2007. NLB TUTUNSKA BANKA 149 ANNUAL REPORT 2007 Consolidated Financial Statements 4. Critical accounting estimates and judgments The Group makes estimates and assumptions that affect the reported amounts of assets and liabilities within the next financial year. Estimates and judgments are continually evaluated and based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. (a) Impairment losses on loans and advances The Group reviews its loan portfolios to assess impairment at least on a quarterly basis. In determining whether an impairment loss should be recorded in the income statement, the Group makes judgments as to whether there is any observable data indicating that there is a measurable decrease in the estimated future cash flows from a portfolio of loans before the decrease can be identified with an individual loan in that portfolio. This evidence may include observable data indicating that there has been an adverse change in the payment status of borrowers in a Group, or national or local economic conditions that correlate with defaults on assets in the Group. Management uses estimates based on historical loss experience for assets with credit risk characteristics and objective evidence of impairment similar to those in the portfolio when scheduling its future cash flows. The methodology and assumptions used for estimating both the amount and timing of future cash flows are reviewed regularly to reduce any differences between loss estimates and actual loss experience. To the extent that the net present value of estimated cash flows differs by +/-5%, the provision would be estimated MKD 108,000,000 higher or MKD 108,000,000 lower (2006: MKD 88,636,000). (b) Impairment of available for-sale equity investments The Group determines that available-for-sale equity investments are impaired when there has been a significant or prolonged decline in the fair value below its cost. This determination of what is significant or prolonged requires judgment. In making this judgment, the Group evaluates among other factors, the normal volatility in share price. In addition, impairment may be appropriate when there is evidence of deterioration in the financial health of the investee, industry and sector performance, changes in technology, and operational and financing cash flows. Had all the declines in fair value below cost been considered significant or prolonged, the Group would suffer an additional MKD 5,394,000 loss in its 2007 financial statements, being the transfer of the total fair value reserve to the income statement (2006: 3,248,000). (c) Impairment of foreclosed assets The process of calculating impairment loss requires that the management make significant and complex assumptions regarding the projected period of sale of foreclosed assets, their estimated net sales value and the corresponding discount rate, in order to discount to net present value the expected cash flow from sale of specific items of foreclosed properties. Management of the Group are confident that the foreclosed assets will be sold in a reasonable period, with no loss. On the contrary, adjustments will be made in future periods if future market activity indicates that such adjustments are appropriate. NLB TUTUNSKA BANKA 150 ANNUAL REPORT 2007 Consolidated Financial Statements 5. Net interest income 2007 2006 206,821 143,525 1,904,919 1,404,553 2,111,740 1,548,078 21,000 13,683 496,976 278,934 2,629,716 1,840,695 55,220 14,429 633,742 356,488 688,962 370,917 456,295 283,877 1,145,257 654,794 2007 2006 Letter of credit and guarantees 120,305 216,616 Payment transaction 275,718 120,862 4,238 6,040 70,402 50,451 1,962 307 Brokerage services 36,299 18,962 Other fees 84,346 45,032 593,270 458,270 38,055 49,413 Interest income Loans and advances: – To banks – To customers Cash and short term funds Investment securities Interest expense Deposits from financial institutions Due to customers Other borrowed funds 6. Net fee and commission income Fee and commission income Trust and other fiduciary fees Administrative service Custody of items Fee and commission expense Banking service Payment transaction 11,331 8,620 Other fees paid 44,263 20,240 93,649 78,273 The Group provides custody, trustee, corporate administration, investment management, brokerage and advisory services to third parties, which involve the Group making allocation and purchase and sale decisions in relation to a wide range of financial instruments. Those assets that are held in a fiduciary capacity are not included in these financial statements. Some of these arrangements involve the Group accepting targets for benchmark levels of returns for the assets under the Group’s care. These services give rise to the risk that the Group will be accused of maladministration or under-performance. NLB TUTUNSKA BANKA 151 ANNUAL REPORT 2007 Consolidated Financial Statements 7. Dividend income Available-for-sale securities 2007 2006 8,069 4,172 8,069 4,172 2007 2006 16,822 (159) 451 1,405 17,273 1,246 8. Net trading income Net trading (expense)/income Interest income from assets held for trading Net trading income includes gains and losses from government bills and bonds. The income includes the results of making markets in government bills and bonds. 9. Net foreign exchange gain 2007 2006 Foreign exchange gains 3,766,777 1,195,894 Foreign exchange losses (3,641,047) (1,060,009) 125,730 135,885 10. Net income from selling available for sale investment securities Net income from selling available-for-sale investment securities 2007 2006 794 12,773 11. Other operating income 2007 Rental income Capital gain Other NLB TUTUNSKA BANKA 152 2006 6,292 8,942 663 4,436 28,610 14,480 35,565 27,858 ANNUAL REPORT 2007 Consolidated Financial Statements 12. Administrative expenses 2007 2006 Staff costs Wages and salaries 223,074 178,341 Pension cost 79,442 66,866 Social security costs 69,067 66,904 Food allowances and transportation 19,720 16,555 6,907 4,580 70,908 54,913 Unused annual leaves 8,991 - Other 3,828 4,008 97,821 76,757 579,758 468,924 2007 2006 257,371 182,778 Insurance premiums for deposits 69,563 47,840 Insurance premiums for assets 18,663 15,631 3,716 7,713 13,704 8,910 Holiday allowances Compensation benefits to the members of the Managing Board, and management Depreciation 13. Other operating expenses Administration and marketing costs Actuarial benefits (Note 31) Decrease in value of assets acquired through foreclosure procedure Charges under court decision - 164 Rental expense 57,602 37,357 Other 50,158 32,119 470,777 332,512 NLB TUTUNSKA BANKA 153 ANNUAL REPORT 2007 Consolidated Financial Statements 14. Impairment charge for credit losses Loans and advances to banks (Note 18) Loans and advances to customers (Note 20) Other assets (Note 26) Other investments Contingencies (Note 32) Collected written-off receivables 2007 2006 4,110 (592) 392,010 431,359 2,987 2,896 - 1,520 56,959 28,333 - (26,469) 456,066 437,047 2007 2006 76,977 80,702 76,977 80,702 15. Income tax expense Current tax The tax on the Group’s profit before tax differs from the theoretical amount that would arise using the basic tax rate of the parent as follows: Profit before tax 2007 2006 667,567 506,525 Tax calculated at a tax rate of 12% (2006: 15%) 80,108 75,978 Expenses not deductible for tax purposes 13,992 33,229 (13,547) (11,301) - (16,337) (3,332) - (244) (867) 76,977 80,702 Income not subject to tax Investment tax credit Released provisions Other Income tax expense The Public Revenue Office is responsible authority to make full tax control for the year ended 31 December 2007. The Group’s tax liabilities are based on the tax returns filed to the tax authorities and are finalized when audited by the Central Tax Authorities, or a five year period has elapsed from the year they are filed. The Group’s management is not aware of any circumstances, which may give rise to a potential material liability in this respect. NLB TUTUNSKA BANKA 154 ANNUAL REPORT 2007 Consolidated Financial Statements 16. Cash and balances with central banks Cash in hand Current account with domestic banks Other short-term highly liquid investments Balances with central banks other than mandatory reserve deposits Included in cash and cash equivalents (Note 37) Mandatory reserve deposits with central banks 2007 2006 1,555,982 1,130,143 38,538 5,684 7,349 379 1,443,718 853,763 3,045,587 1,989,969 1,172,759 1,056,322 4,218,346 3,046,291 The Group has to provide obligatory reserve in MKD and in foreign currencies with the National Bank of the Republic of Macedonia. The obligatory reserve in MKD in amount of MKD 1,494,376,000 as at 31 December 2007 presents 10% of the average monthly amount of demand and time deposits. The effective interest rate on the obligatory reserve in MKD is 2% (2006: 2%). Obligatory reserve funds are maintained on the current account with NBRM. The obligatory reserve in foreign currency as at 31 December 2007 presents 10% of the average daily balances over the accounts expressed in Euros at NBRM’s middle exchange rate ruling on the balance sheet date. The Group does not receive interest on the obligatory reserves in foreign currency. The Group is obliged to transfer the Euro amount of the calculated obligatory reserve to NBRM’s account with Deutsche Bundesbank Frankfurt. 17. Treasury bills and other eligible bills 2007 2006 Treasury bills 6,060,092 3,289,001 Government bills with maturity up to 90 days 1,696,689 1,032,429 7,756,781 4,321,430 450,057 635,083 8,206,838 4,956,513 Included in cash and cash equivalents ( Note 37) Government bills with maturity over 90 days Treasury bills are debt securities issued by the National bank of the Republic of Macedonia with maturity of up to 28 days. The Group receives an effective interest at the rates from 4.71% - 4.86 % (2006: 5.52% - 5.92%) per annum. Treasury bills are categorised as assets held for trading and carried at their fair value. The total amount of the treasury bills includes interest of MKD 15,654,000 (2006: MKD 7,471,000). Government bills are with maturity up to 90 days and over 90 days, are with effective interest rates from 5.19% - 8.39% (2006: 5.99% - 8.80%) per annum. The total amount of the government bills includes the interest in the amount of MKD 32,992,000 (2006: MKD 26,408,000). NLB TUTUNSKA BANKA 155 ANNUAL REPORT 2007 Consolidated Financial Statements 18. Loans and advances to banks 2007 2006 Placements with other banks 3,724,191 612,328 Included in cash and cash equivalents ( Note 37) 3,724,191 612,328 Loans and advances to other banks 677,321 2,968,530 Less: allowance for impairment (5,343) (1,233) 4,396,169 3,579,625 3,883,070 3,295,278 513,099 284,347 Current Non-current Reconciliation of allowance account for losses on loans and advances to other banks 2007 2006 Balance at 1 January 1,233 1,825 Provision for loan impairment 4,110 (592) At 31 December 5,343 1,233 Loans and advances to banks and other financial institutions are with effective interest rates from 5.87% to 10.38% (2006: 5.7% to 8.75%) per annum. The placements with foreign banks are with effective interest rates of 0.47% to 5.60% (2006: 3% to 5.52%) per annum, and the placements with domestic banks are with an effective rate of 4.88% (2006: 3.66%) per annum. As at 31 December 2007 a part of the Group’s placements with foreign banks in the amount of MKD 116,463,000 (2006: MKD 246,026,000) represents a deposit held with LHB Internationale Handelsbank AG Frankfurt as a collateral for the borrowings from the same bank (Note 29). 19. Trading assets 2007 2006 68,295 46,587 Other government bonds 282,654 44,572 Corporate bonds 300,000 - Total debt securities 650,949 91,159 Government bills Government bills are with maturity up to 1 year and with an effective interest rate of 5.24 – 8.39% (2006: 9%) per annum. The total amount of the government bills held for trading includes interest in the amount of МКD - nil (2006: MKD 1,169,000). Other government bonds are with maturity of 1 month and with an effective interest rate of 2% (2006: 9%) per annum. The total amount of the government bonds held for trading includes interest in the amount of МКD – nil (2006: MKD 415,000). NLB TUTUNSKA BANKA 156 ANNUAL REPORT 2007 Consolidated Financial Statements 20. Loans and advances to customers 2007 2006 - Overdrafts 691,017 97,937 - Credit cards 545,637 299,064 - Term loans 5,617,190 2,595,366 - Mortgages 2,177,540 1,766,727 9,031,384 4,759,094 2,319,304 764,837 13,512,734 11,911,069 15,832,038 12,675,906 - 43,822 Gross loans and advances 24,863,422 17,478,822 Less: allowance for impairment (2,163,501) (1,771,491) Net 22,699,921 15,707,331 Current 11,061,232 8,601,122 Non-current 11,638,689 7,106,209 Individual (retail customers): Corporate entities: - Large corporate customers - SMEs Public entities Loans are with effective rates from 2.74% to 24.92% (2006: 2.6% to 25.4%) per annum. NLB TUTUNSKA BANKA 157 ANNUAL REPORT 2007 Consolidated Financial Statements 20. Loans and advances to customers (continued) Allowance for impairment Reconciliation of allowance account for losses on loans and advances by class is as follows: Retail customers Overdraft Credit card Term loans Mortgages Total At 1 January 2007 11,715 33,011 248,988 195,650 489,364 Provision for loan impairment 55,574 40,113 125,811 5,375 226,873 At 31 December 2007 67,289 73,124 374,799 201,025 716,237 Retail customers Overdraft Credit card Term loans Mortgages Total Balance at 1 January 2006 12,144 8,158 173,164 104,696 298,162 Provision for loan impairment (429) 24,853 75,824 90,954 191,202 11,715 33,011 248,988 195,650 489,364 At 31 December 2006 Corporate entities At 1 January 2007 Provision for loan impairment At 31 December 2007 Large corporate customers SMEs Total 42,545 1,239,582 1,282,127 4,084 161,053 165,137 46,629 1,400,635 1,447,264 Corporate entities At 1 January 2006 Provision for loan impairment Loans written off At 31 December 2006 NLB TUTUNSKA BANKA 158 Large corporate customers SMEs Total 37,372 1,009,566 1,046,938 5,173 234,984 240,157 - (4,968) (4,968) 42,545 1,239,582 1,282,127 ANNUAL REPORT 2007 Consolidated Financial Statements 21. Investment securities 2007 2006 1,285,867 966,056 - 76,966 Securities available for sale Debt securities – at fair value: - Listed - Unlisted Equity securities – at fair value: - Listed - Unlisted Total securities available for sale Current Non-current 153,274 79,265 42,382 22,993 1,481,523 1,145,280 330,430 220,425 1,151,093 924,855 Terms and conditions of government bonds available-for-sale are as follows: • Bonds issued by the government on the old saving deposits in foreign currency in the amount of MKD 212,440,000 (2006: MKD 252,366,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 20 semi-annual instalments on each 1 April and 1 October beginning from 1 April 2002 until 1 October 2011. • Bonds for denationalisation (01) in the amount of MKD 1,752,000 (2006: MKD 2,102,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1 June, beginning from 1 June 2003 until 1 June 2012; • Bonds for denationalisation (02) in the amount of MKD 140,879,000 (2006: MKD 153,968,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1 June, beginning from 1 June 2004 until 1 June 2013. • Bonds for denationalisation (03) of MKD 198,838,000 (2006: MKD 191,715,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1 June beginning from 1 June 2005 until 1 June 2014. • Bonds for denationalisation (04) of MKD 275,273,000 (2006: MKD 266,129,000), with an interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1 June beginning from 1 June 2006 until 1 June 2015. • Bonds for denationalisation (05) of MKD 79,694,000 (2006: MKD 51,800,000), with interest rate of 2% (2006: 2%) per annum. The principal amount is paid in 10 equal annual instalments on each 1 June, beginning from 1 June 2007 until 1 June 2016. • Bonds for denationalization (06) of MKD 115,473,000, with interest rate 2% per annum. The principal amount is paid in 10 equal annual instalments on each 1 June, beginning from 1 June 2008 until 1 June 2017. • Long-term bonds of MKD 244,958,000 (2006: MKD 34,857,000), with coupon at an interest rate 6.50% - 9.00% (2006: 9%) per annum. The payment of interest is annually and principal amount is paid at the maturity date. Тhe total amount of the bonds on old foreign currency deposits, denationalisation and the continuous long-term bonds includes interest of MKD 16,560,000 (2006: MKD 13,119,000). NLB TUTUNSKA BANKA 159 ANNUAL REPORT 2007 Consolidated Financial Statements 21. Investment securities (continued) The movement in investment securities may be summarised as follows: Available for sale Total 1,145,280 1,145,280 497,232 497,232 Disposals (sale and redemption) (262,219) (262,219) Gains from changes in fair value 101,230 101,230 1,481,523 1,481,523 At 1 January 2006 987,865 987,865 Additions 475,231 475,231 Disposals (sale and redemption) (338,459) (338,459) Gains from changes in fair value 20,643 20,643 1,145,280 1,145,280 2007 2006 Cost 66,369 66,369 Accumulated depreciation 13,420 11,761 Net book amount 52,949 54,608 52,949 54,608 (66,369) - (967) (1,659) 14,387 - - 52,949 Cost - 66,369 Accumulated depreciation - 13,420 Net book amount - 52,949 At 1 January 2007 Additions At 31 December 2007 At 31 December 2006 22. Investment property At 1 January Year ended December Opening net book amount Transfer to property plant and equipment (cost) Depreciation charge Transfer of depreciation to property plant and equipment Closing net book amount At 31 December The fair value of the investment property is MKD nil (2006: MKD 55,000,000) NLB TUTUNSKA BANKA 160 ANNUAL REPORT 2007 Consolidated Financial Statements 23. Investment in associates Nov penziski fond 2007 2006 43,447 40,790 43,447 40,790 % of participation Nov penziski fond AD - Skopje Country 2007 2006 Republic of Macedonia 49% 49% Summary financial information for equity accounted investee, not adjusted for percentage ownership held by the Group: Assets Liabilities Share-holders’ equity Income Profit / Loss 2006 Nov penziski fond A.D. – Skopje 92,984 9,741 83,243 58,113 (5,762) Balance at 31 December 92,984 9,741 83,243 58,113 (5,762) 2007 Nov penziski fond A.D. – Skopje 99,350 10,229 89,121 84,599 5,423 Balance at 31 December 99,350 10,229 89,121 84,599 5,423 NLB TUTUNSKA BANKA 161 ANNUAL REPORT 2007 Consolidated Financial Statements 24. Property and equipment Buildings Furniture & Assets in course equipment of construction Other Total At 1 January 2006 Cost 391,645 315,906 42,805 8,302 758,658 Accumulated depreciation (43,731) (182,560) - (4,161) (230,452) Net book amount 347,914 133,346 42,805 4,141 528,206 347,914 133,346 42,805 4,141 528,206 - 75,674 1,959 2,196 79,829 29,548 250 (29,798) - - - (1,789) - - (1,789) Depreciation charge (10,413) (56,028) - (1,488) (67,929) Closing net book amount 367,049 151,453 14,966 4,849 538,317 Cost 421,193 376,966 14,966 10,498 823,623 Accumulated depreciation (54,144) (225,513) - (5,649) (285,306) Net book amount 367,049 151,453 14,966 4,849 538,317 367,049 151,453 14,966 4,849 538,317 120 154,216 5,710 7,517 167,563 66,369 - - - 66,369 - (433) - - (433) Depreciation charge (11,290) (69,379) - (2,186) (82,855) Transfer from investment property (accumulated depreciation) (14,387) - - - (14,387) Closing net book amount 407,861 235,857 20,676 10,180 674,574 Cost 487,682 520,577 20,676 18,015 1,046,950 Accumulated depreciation (79,821) (284,720) - (7,835) (372,376) Net book amount 407,861 235,857 20,676 10,180 674,574 Year ended December 2006 Opening net book amount Additions Transfer Disposals At 31 December 2006 Year ended December 2007 Opening net book amount Additions Transfer from investment property (at cost) Disposals At 31 December 2007 As at 31 December 2007 the Group does not have any property pledged as collateral (2006: nil). NLB TUTUNSKA BANKA 162 ANNUAL REPORT 2007 Consolidated Financial Statements 25. Intangible assets 2007 2006 Balance at 1 January 78,004 30,664 Additions 25,836 47,415 - (75) 103,840 78,004 Balance at 1 January 19,953 12,859 Amortisation for the year 13,998 7,169 - (75) Balance at 31 December 33,951 19,953 Carrying amount at 31 December 69,889 58,051 2007 2006 113,609 280,908 Pre-payments 51,417 12,804 Other 97,663 63,379 Less: allowance for impairment (5,883) (2,896) 256,806 354,195 201,893 354,195 54,913 - Disposals and write offs Balance at 31 December Amortisation Disposals and write offs 26. Other assets Foreclosed assets Current Non-current Movement in allowance for impairment Balance at 1 January 2,896 - Net increase in allowance for impairment (Note 14) 2,987 2,896 Balance at 31 December 5,883 2,896 Assets acquired through foreclosure procedure include apartments, equipment and business premises which are not used by the Group for its core operations. The market for certain types of collateral in Republic of Macedonia is in an early stage of development. Management has made an estimate of the expected recoverable amount net of cost to realise the assets, based on a number of factors, including independent assessment. However, given the foregoing, actual amounts realised may differ from the estimates made. NLB TUTUNSKA BANKA 163 ANNUAL REPORT 2007 Consolidated Financial Statements 27. Deposits from financial institutions 2007 2006 314,677 280,941 - Insurance companies 60,406 21,824 - Other financial institutions 84,507 57,972 1,038,510 1,070,874 32,274 16,550 616,498 158,722 2,146,872 1,606,883 1,875,502 1,589,541 271,370 17,342 Demand deposit: - Banks and saving houses Term deposits: - Banks and savings houses - Insurance companies - Other financial institutions Current Non-current The effective interest rates on deposits from banks and other financial institutions are from 1% to 1.5% (2006: 1% - 1.5%) per annum, while the effective interest rates on term deposits are from 1% to 9.50% (2006: 1% - 9.3%) per annum. 28. Due to customers 2007 2006 6,020 416,071 217,271 122,454 - Current/settlement accounts 8,466,398 4,648,912 - Term deposits 5,339,431 4,851,226 - Current / demand accounts 4,462,232 3,210,146 - Term deposits 8,737,716 5,135,103 147,875 162,383 27,376,943 18,546,295 25,995,038 17,690,437 1,381,905 855,858 Public institutions - Current/settlement accounts - Term deposits Companies Retail customers Restricted deposits Companies Current Non-current The effective interests rates of current accounts are from nil to 1% (2006: nil to 1%) per annum, while the effective interests rate of term deposits are from 0.10% to 9.40% (2006: 1% to 8.75%) per annum. NLB TUTUNSKA BANKA 164 ANNUAL REPORT 2007 Consolidated Financial Statements 29. Other borrowed funds Interest rate (%) 2007 2006 4 - 5.5% 7 - 8% 3 months EURIBOR+1% 3 months EURIBOR +1% 323,107 387,247 4.25% - 6.3% 102,270 114,448 3 months LIBOR +0.061 - 0.078% 1,010,077 814,585 6 months EURIBOR +1.45% 3,172,343 1,249,219 3 months EURIBOR + 0,75% 3 months EURIBOR + 1,5 – 2,25% 6 months EURIBOR + 1,8% 1 months CHFLIBOR + 2,25% 3 months EURIBOR + 1,50% 3 months EURLIBOR + 2,15% - 2,75% 3months CHFLIBOR + 2,25% 3 months CHFLIBOR + 3,25% 1.618.931 2.386.129 ICDF Taiwan 6 months USDLIBOR - 0.5%; 4% 6 months USDLIBOR - 0.5% 73,313 94,330 World bank 6 months EURIBOR + 2.75% 6 months EURIBOR 129,424 225,876 1% 165,604 159,418 Adria bank 3 months EURIBOR + 1.85% 214,237 214,202 Raiffeisen Central Bank 3 months EURIBOR + 0.75% 612,016 - Erste Bank 3months EURIBOR + 0.95% 306,203 - 7,727,525 5,645,454 Current 3,922,100 1,605,176 Non-current 3,805,425 4,040,278 Domestic borrowings: Macedonian Bank for development Promotion Macedonian enterprise development foundation Foreign borrowings: EIB EBRD NLB Group International fund for agricultural development (IFAD2, IFAD1) The loans granted by the MBDP, MEDF, IFAD, ICDF Taiwan and EIB (through NBRM) and the World Bank are secured with bills of exchange of NLB Tutunska Banka AD. EBRD’s, ADRIA BANK’s and RZB’s loans are secured with a Comfort Letter by NLB d.d. Ljubljana (the Loan from ADRIA BANK was repaid on 07 January 2008). EIB’s loan is secured with a Bank Gaurantee issued by NLB d.d. Ljubljana. The loan granted by LHB Internationale Handelsbank AF Frankfurt in the amount of MKD 116,463,000 (2006: MKD 246,026,000), included in loans from NLB - Group, is with interest rate of three - month EURIBOR + 0.75 and is secured with deposit (Note 18). NLB TUTUNSKA BANKA 165 ANNUAL REPORT 2007 Consolidated Financial Statements 29. Other borrowed funds (continued) Syndicated loan On 19 December 2006 the Bank has concluded a Syndicated Loan Agreement with EBRD on EUR 55,000,000 consisting of A and B part: Amount in EUR Interest rate Repayment date Loan A 19,000,000 6 months EURIBOR + 1.45 % Two years with option to prolong it for one year Loan B 36,000,000 6 months EURIBOR +1.20% EUR 3,272,727.27 were repaid on 19 December 2007 EUR 32,727,272.73 were prolonged until 19 January 2008 Loan from EIB On 23 November 2006 the Group has concluded an agreement with EIB on EUR 10,000,000. The conditions for each individual disbursement will be determined at each disbursement of separate tranche. With value date 31 December 2007 the Group has withdrawn a total amount of EUR 8,560,000, in 4 allocations, under the following conditions Amount in EUR Interest rate Repayment date Allocation 1 2,810,000 3 months EURIBOR + 0.073% 8 years including 2 years of grace period Allocation 2 2,750,000 3 months EURIBOR + 0.078% 7 years including 1 year of grace period Allocation 3 1,500,000 3 months EURIBOR + 0.061% 5 years including 1 year of grace period Allocation 4 1,500,000 3 months EURIBOR + 0.044% 7 years including 1 year of grace period Loan from ERSTE BANK AG WIEN On 21 May 2007 the Group has concluded a Loan Agreement with ERSTE BANK AG WIEN on EUR 5,000,000: Loan Amount in EUR Interest rate Repayment date 5,000,000 3 months EURIBOR + 0.95 % Two years Loan from RZB AUSTRIA On 18 December 2007 the Group has concluded a Loan Agreement on EUR 10,000,000: Loan NLB TUTUNSKA BANKA Amount in EUR Interest rate Repayment date 10,000,000 3 months EURIBOR + 0.75 % One year with option to prolong it for one year 166 ANNUAL REPORT 2007 Consolidated Financial Statements 30. Subordinated liability Subordinated loan Current Non-current 2007 2006 786,120 314,075 786,120 314,075 2,855 - 783,265 314,075 The Subordinated loans from NLB Interfinanz were granted with an interest rate of 3 month CHF Libor + 3.25%, and maturity of 7 years. Conversion into capital will be determined with a separate Annex Agreement after a separate approval by the relevant board of the Group. 31. Other liabilities Dividends declared and payable Prepayment of liabilities 2007 2006 2,359 1,862 119,894 74,336 Suppliers payables 30,029 16,338 Compensation benefits to the members of the Managing Board, management and employees 60,450 51,738 Long-term employee benefits 15,997 12,282 8,867 - 54,557 21,410 292,153 177,966 2007 2006 12,281 4,568 3,716 7,713 15,997 12,281 Liabilities for unused annual leaves Other Movement in long – term employee benefits is presented below: Balance 1 January Actuarial losses (Note 13) Balance at 31 December Long-term employee benefits include jubilee awards and retirement indemnity bonuses. NLB TUTUNSKA BANKA 167 ANNUAL REPORT 2007 Consolidated Financial Statements 32. Contingencies The Group issues bank guarantees and letters of credit on behalf of its customers to third parties. These agreements have fixed limits and are generally extended for a period of up to three years. Expirations are not concentrated in any period. The following table indicates the contractual amounts of the Group contingencies by category: 2007 2006 - in MKD currency 2,068,136 1,138,040 - in foreign currency 2,407,667 1,453,019 857,794 798,828 1,885,948 1,551,964 7,219,545 4,941,851 (356,296) (299,337) 6,863,249 4,642,514 Guarantees Letters of credit - in foreign currency Limits on cheques and cards Less: Provision for impairment These contingent liabilities have off balance-sheet credit risk because only origination fees and accruals for probable losses are recognized in the balance sheet until the contingencies are fulfilled or expire. Many of the contingent liabilities will expire without being advanced in whole or in part. Therefore, the amounts do not represent expected future cash flows. Movement in provisions for contingencies Balance at 1 January Net increase in impairment allowance (Note 14) Balance at 31 December 2007 2006 299,337 271,004 56,959 28,333 356,296 299,337 2007 2006 21,257 20,077 7,801 1,180 29,058 21,257 29,058 21,257 33. Deferred tax liability Balance 1 January Recognised in equity Balance at 31 December Deferred tax liabilities are attributable to the following: Deferred tax liabilities Financial assets available-for- sale NLB TUTUNSKA BANKA 168 ANNUAL REPORT 2007 Consolidated Financial Statements 34. Related party transactions According to the Bank’s Articles of Association, the supreme body is the assembly of the Bank, constituted of all the holders of the Bank’s registered ordinary shares. The overall control of the Group is with the non-executive Board of Directors (“the Managing Board”) who are appointed by shareholders. The Group is controlled by Nova Ljubljanska Bank Group (“NLB”) which owns 87.6% (2006: 83.4%) of the voting shares. A number of banking transactions are entered into with related parties in the normal course of business. These transactions were carried out on commercial terms and at market rates. The volumes of related party transactions, and outstanding balances at the year-end, are as follows: For the year ended on 31 December 2007: Fellow subsidiaries Associate Other related parties Income statement Interest income 54,812 1 1,347 205,322 2,335 1,418 6,253 64 296 19,562 - - - - - 37,784 - - 86,610,545 - - (86,539,730) - - 108,599 - - 549,930 - 4,265 51,233,720 525 55,759 (50,614,298) (525) (30,896) 1,169,352 - 29,128 1,034,631 31,578 341,165 Deposits received during the year 28,702,612 267,463 598,252 Deposits repaid during the year (28,543,531) (193,481) (826,344) 1,193,712 105,560 113,073 Fee and commission income Interest expense Fee and commission expense Other Balance sheet Cash and cash equivalents Balance at 1 January Loans issued during the year Loan repayments during the year Balance at 31 December Loans Balance at 1 January Loans issued during the year Loan repayments during the year Balance at 31 December Deposits Balance at 1 January Balance at 31 December Borrowings Balance at 1 January 2,700,204 - - Loans issued during the year 1,014,368 - - Loans repayments during the year (1,095,579) - - Balance at 31 December 2,618,993 - - NLB TUTUNSKA BANKA 169 ANNUAL REPORT 2007 Consolidated Financial Statements 34. Related party transactions (continued) For the year ended on 31 December 2006: Fellow subsidiaries Associate Other related parties 42,298 - 366 Income statement Interest income Fee and commission income 1,222 14 5,690 26,647 206 25,909 7,962 - 8,620 - - - 75,327 - - 70,336,378 - - (70,373,921) - - 37,784 - - Balance at 1 January 2,487,591 - 5,534 Loans issued during the year 6,539,282 141 18,116 (8,476,943) (141) (19,385) 549,930 - 4,265 285,559 12,267 641,202 Deposits received during the year 5,377,710 537,575 27,973,197 Deposits repaid during the year (4,628,638) (518,264) (28,273,234) Balance at 31 December 1,034,631 31,578 341,165 2,930,098 - - Interest expense Fee and commission expense Other Balance sheet Cash and cash equivalents Balance at 1 January Loans issued during the year Loan repayments during the year Balance at 31 December Loans Loan repayments during the year Balance at 31 December Deposits Balance at 1 January Borrowings Balance at 1 January Loans issued during the year 2,185,795 - - Loans repayments during the year (2,415,689) - - Balance at 31 December 2,700,204 - - 2007 2006 43,919 73,803 2,404 3,064 46,323 76,867 Transaction with key management personnel The total compensation to the key management personnel are as follows: Executive directors Non-executive directors All compensation to the key management are short-term employee benefit. NLB TUTUNSKA BANKA 170 ANNUAL REPORT 2007 Consolidated Financial Statements 35. Trust activities Companies Citizens Other 2007 2006 863,423 1,063,472 82,004 82,190 525,406 45,841 1,470,833 1,191,503 The Group manages assets on behalf of third parties, which are mainly in the form of loans to various clients. The Group receives fee income for providing these services. Trust assets are not assets of the Group and are not recognised in the balance sheet. The Group is not exposed to any credit risk relating to such placements, as it does not guarantee these investments. 36. Share capital Number of shares Ordinary shares Share premium Preference shares Total At 1 January 2006 693,866 643,645 968,422 50,221 1,662,288 At 31 December 2006 693,866 643,645 968,422 50,221 1,662,288 91,755 91,755 642,285 - 734,040 785,621 735,400 1,610,707 50,221 2,396,328 - Proceeds from shares issued At 31 December 2007 The authorized share capital of the Group consists of 735,400 (2006: 643,645) ordinary shares and 50,221 (2006: 50,221) preference shares. Ordinary and preference shares have a par value of MKD 1,000 (2006: MKD 1,000). All issued shares are fully paid. The holders of ordinary shares are entitled to receive dividends as declared from time to time and are entitled to one vote per share at general meetings of the Bank’s shareholders. Preference shares give right to priority in the dividend payment, but do not carry the right to vote. All shares rank equally with regard to the Group’s residual assets. The below stated shareholders have more than 5% of the Group’s issued voting share capital % of voting share capital Shareholders 2007 2006 LHB AG – Frankfurt 30.8% 35.2% NLB Interfinanz AG – Zurich 28.5% 30.1% Nova Ljubljanska banka d.d. – Ljubljana 28.3% 18.1% Hrvatska postanska Banka d.d. – Zagreb - 5.5% Based on the Contract and Annex No. 1, 2, 3 and 4 of the contract for transfer of the voting rights that are owned by NLB InterFinanz AG Zurich in NLB Tutunska banka, the voting rights belonging to NLB InterFinanz AG Zurich (28.5%), were transferred to Nova Ljubljanska banka d.d. Ljubljana, by which the share in the Bank’s total voting rights of Nova Ljubljanska banka d.d. on 31 December 2007 is 56.80%. NLB TUTUNSKA BANKA 171 ANNUAL REPORT 2007 Consolidated Financial Statements 36. Share capital (continued) Statutory reserve Under local statutory legislation, the Group is required to set aside 15% of its net profit for the year in a statutory reserve until the level of the reserve reaches 1/5 of the court registered capital. Until reaching the minimum required level statutory reserve could only be used for loss recovery. When the minimum level is reached statutory reserve can also be used for distribution of dividends, based on a decision of the shareholders’ meeting, but only if the amount of the dividends for the current business year has not reached the minimum for distribution as prescribed in the Trade Company Law or by the Group’s Statute. Revaluation Reserve The revaluation reserve includes the cumulative net effect of the changes in the fair value of investments available-for-sale until the moment of their derecognition or damaging. 2007 2006 213,093 120,458 213,093 120,458 2007 2006 At 1 January 120,458 113,768 Net gains from changes in fair value 101,230 20,643 (794) (12,773) (12,052) (1,180) 4,251 - 213,093 120,458 Revaluation reserve for available for sale securities Movements in revaluation reserves were as follows: Revaluation reserve for available for sale securities Recycled to income statement on realisation Deferred income tax Correction of deferred income tax At 31 December Dividends After the balance sheet date the following dividends were proposed by the Managing Board. The dividends have not been provided for. 2007 2006 МКD nil (2006: МКD 537) per ordinary share - 345,637 МКD nil (2006: МКD 537 ) per preference share - 26,969 - 372,606 NLB TUTUNSKA BANKA 172 ANNUAL REPORT 2007 Consolidated Financial Statements 37. Cash and cash equivalents For the cash flow purposes, cash, as well as the cash equivalents comprise the following balances with less than three months maturity from the date of acquisition: 2007 2006 Cash and balances with the NBRM (Note 16) 3,045,587 1,989,969 Treasury bills (Note17) 7,756,781 4,321,430 Placements with other banks ( Note 18) 3,724,191 612,328 14,526,559 6,923,727 38. Subsequent event No material events subsequent to the balance sheet date have occurred which require disclosure in the financial statements. NLB TUTUNSKA BANKA 173 ANNUAL REPORT 2007 Unconsolidated Financial Statements NLB Tutunska banka AD Skopje Unconsolidated Financial Statements prepared in accordance with International Financial Reporting Standards for the Year ended 31 December 2007 NLB TUTUNSKA BANKA 174 ANNUAL REPORT 2007 Unconsolidated Financial Statements Income statement All amounts in MKD thousands unless stated otherwise Year ended 31 December Note 2007 2006 Interest and similar income 5 2,623,860 1,837,182 Interest expense and similar charges 5 (1,145,489) (654,808) 1,478,371 1,182,374 Net interest income Fee and commission income 6 557,101 439,341 Fee and commission expense 6 (92,683) (77,908) 464,418 361,433 Net fee and commission income Dividend income 7 1,715 688 Net trading income 8 17,273 1,246 Impairment losses 13 (456,066) (435,527) Net foreign exchange gain 9 125,730 135,869 Administrative expenses 11 (569,733) (460,096) Other operating expenses 12 (466,580) (330,773) Other operating income 10 36,055 27,091 Operating profit 631,183 482,305 Profit before income tax 631,183 482,305 (74,408) (78,028) 556,775 404,277 Income tax expense 14 Profit for the year NLB TUTUNSKA BANKA 175 ANNUAL REPORT 2007 Unconsolidated Financial Statements Balance sheet All amounts in MKD thousands unless stated otherwise 31 December Note 2007 2006 Cash and balances with central banks 15 4.190.623 3.042.320 Treasury bills and governmеnt bills 16 8.206.838 4.956.513 Loans and advances to banks 17 4.396.169 3.579.625 Loans and advances to customers 19 22.699.921 15.707.331 Trading assets 18 650.949 91.159 – Available for sale 20 1,262,479 1,009,108 Investment property 21 - 52,949 Investment in subsidiary 22 30,864 30,864 Investments in associates 23 60,128 60,128 Property and equipment 24 644,236 508,534 Intangible assets 25 69,352 57,608 Other assets 26 256,852 354,126 42,468,411 29,450,265 Assets Investment securities: Total assets Liabilities Deposits from banks 27 2,177,441 1,610,137 Due to customers 28 27,354,371 18,542,382 Other borrowed funds 29 7,727,525 5,645,454 Subordinated liability 30 786,120 314,075 Other liabilities 31 291,584 175,043 Provisions 32 356,296 299,337 4,781 24,299 14,859 16,692 38,712,977 26,627,419 785,621 693,866 Current income tax liabilities Deferred income tax liabilities 33 Total liabilities Equity Capital and reserves Share capital 37 Share premium 1,610,707 968,422 Retained earnings 772,575 621,882 Other reserves 586,531 538,676 Total equity 3,755,434 2,822,846 42,468,411 29,450,265 Total equity and liabilities NLB TUTUNSKA BANKA 176 ANNUAL REPORT 2007