FIRST ENERGY BANK B.S.C. (c)1stenergybank.com/wp-content/uploads/2017/08/FEB-Pillar... · 2017-08-22 · First Energy Bank B.S.C. (c) (the "Bank") is a closed shareholding company

FIRST ENERGY BANK B.S.C. (c)

RISK AND CAPITAL MANAGEMENT DISCLOSURES

FOR THE PERIOD ENDED 30 JUNE 2017

Table of Contents

1 Executive summary ............................................................................................................................... 4

2 Introduction .......................................................................................................................................... 4

2.1 Pillar I .................................................................................................................................................... 4

2.2 Pillar II ................................................................................................................................................... 5

2.3 Pillar III .................................................................................................................................................. 5

3 Composition of Capital Disclosure ......................................................................................................... 6

3.1 Step 1 and 2: Statement of financial position under the regulatory scope of consolidation and

reconciliation of published financial statements to regulatory reporting as at 30 June 2017. ...................... 6

3.2 Step 3: Composition of Capital Common Template (transition) as at 30 June 2017 .............................. 7

3.3 Disclosure template for main feature of regulatory capital instruments ............................................. 12

4 Overall risk management .................................................................................................................... 13

4.1 Risk management strategy .................................................................................................................. 13

4.2 Risk management framework ............................................................................................................. 14

4.3 Risk types ............................................................................................................................................ 14

5 Capital structure, capital management and capital adequacy ............................................................. 14

5.1 Capital and group structure ................................................................................................................. 15

5.2 Capital management ........................................................................................................................... 16

5.2.1 Regulatory capital requirement and capital adequacy ................................................................ 16

5.2.2 Internal capital adequacy assessment process ............................................................................ 16

5.3 Exposures exceeding materiality thresholds ....................................................................................... 17

5.4 Financial performance and position .................................................................................................... 17

6 Credit and investment risk .................................................................................................................. 18

6.1 Credit and investment risk management ............................................................................................ 18

6.1.1 Credit and investment exposures and risk-weighted assets ........................................................ 21

6.2 Capital requirements for credit and investment risk ........................................................................... 21

6.2.1 Credit and investment exposures and risk-weighted assets ........................................................ 23

6.2.2 Capital requirements by type of Islamic financing contract ......................................................... 24

6.2.3 Gross funded and unfunded exposure ......................................................................................... 24

6.2.4 Equity investments held in the banking book .............................................................................. 25

6.3 Concentration of credit risk ................................................................................................................. 25

6.3.1 Industry and sector-wise distribution as at 30 June 2017: ........................................................... 26

6.3.2 Geographic distribution as at 30 June 2017: ................................................................................ 27

6.3.3 Credit risk mitigation ................................................................................................................... 27

6.4 Counterparty credit risk ...................................................................................................................... 28

6.5 Settlement risk .................................................................................................................................... 28

6.6 Earnings prohibited by Sharia’a ........................................................................................................... 29

6.7 Transactions with related parties ........................................................................................................ 29

7 Market risk .......................................................................................................................................... 30

7.1 Capital requirements for market risk .................................................................................................. 31

7.2 Foreign currency translation risk ......................................................................................................... 31

8 Operational risk ................................................................................................................................... 31

8.1 Operational risk management ............................................................................................................. 32

8.2 Legal compliance and litigation ........................................................................................................... 32

8.3 Sharia’a compliance ............................................................................................................................ 32

8.4 Capital requirements for operational risk ........................................................................................... 32

9 Liquidity risk ........................................................................................................................................ 33

9.1 Maturity profile ................................................................................................................................... 34

10 Profit rate risk in the banking book ..................................................................................................... 35

11 Reputational risk ................................................................................................................................. 37

12 Strategic risk ........................................................................................................................................ 37

13 Other risks ........................................................................................................................................... 37

14 Regulatory Compliance ....................................................................................................................... 37

15 Basel III Ratios ..................................................................................................................................... 38

First Energy Bank BSC (c)

Risk and Capital Management Disclosures

For the period ended 30 June 2017

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1 Executive summary

First Energy Bank B.S.C. (c) (the "Bank") is a closed shareholding company incorporated in the

Kingdom of Bahrain on 23 June, 2008, under Commercial Registration No. 69089. The Bank operates

under Islamic Wholesale Banks license issued by the Central Bank of Bahrain (the "CBB"). The Bank's

registered office is at Building 1459, Road 4626, Block 346, Manama, Kingdom of Bahrain.

The principal activities of the Bank and its subsidiaries (the "Group") include Sharia’a compliant

investment advisory services, participation in project development, joint ventures, mergers and

acquisitions and the purchase of assets and asset portfolios related to the energy sector. The Bank is

regulated by the CBB and supervised by a Sharia’a Supervisory Board for compliance with the Sharia’a

rules and principles.

The CBB Basel II guidelines became effective on 1 January 2008 as the common framework for the

implementation of Basel II capital adequacy framework for Banks incorporated in the Kingdom of

Bahrain. The disclosures in this report have been prepared in accordance with the CBB requirements

outlined in the Public Disclosure Module (“PD”), CBB Rule Book - Volume II for Islamic Banks. The

requirements of the section follow the requirements of Basel II - Pillar III and the Islamic Financial

Services Board’s (IFSB) recommended disclosures for Islamic banks.

This report only contains qualitative and quantitative information on risk components and capital

adequacy. The qualitative and quantitative disclosures relating to corporate governance and remuneration

are disclosed on an annual basis in the Bank’s annual report.

These disclosures should be read in conjunction with the Bank’s annual report for the year ended 31

December 2016 and the condensed consolidated interim financial information for the six months period

ended 30 June 2017.

2 Introduction

Basel II based framework provides a more risk sensitive approach for the assessment of risk and the

calculation of regulatory capital i.e. the minimum capital that a bank is required to maintain. The

framework intends to strengthen the risk management practices and processes within financial

institutions. The Bank has accordingly taken steps to comply with these requirements.

The CBB’s capital management framework, consistent with the Basel II accord, is built on three pillars:

• Pillar I: calculation of the risk weighted amounts and regulatory capital requirement.

• Pillar II: the supervisory review process, including the Internal Capital Adequacy Assessment

Process.

• Pillar III: rules for the disclosure of risk management and capital adequacy information.

2.1 Pillar I

Pillar I prescribes the basis for the calculation of the regulatory capital adequacy ratio. It defines the

regulatory minimum capital requirements for each bank to cover credit risk, market risk and

operational risk inherent in its business model. It also defines the methodology for measurement of

these risks and the various elements of qualifying capital. The capital adequacy ratio is calculated by

dividing the regulatory capital base by the total Risk Weighted Assets (RWAs).




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The resultant ratio is to be maintained above a predetermined and communicated level. Effective from 1

January 2015 CBB has introduced Basel III framework for calculation of capital adequacy ratio.

According to the new framework, banks are required to maintain a minimum consolidated total capital

adequacy ratio of 12.5% and a solo total capital adequacy ratio of 8%.

Under the CBB’s Basel II capital adequacy framework, the RWAs are calculated by multiplying book

values of the assets by standard weights (prescribed by the CBB) for each risk category (as per External

Credit Assessment Institutions) within each asset category.

The table below summarizes the Pillar I risks and the approaches used by the Bank for calculating the

RWAs in accordance with the CBB’s Basel II capital adequacy framework.

Risk Type Approach used by the Bank

Credit risk Standardised Approach

Market risk Standardised Approach

Operational risk Basic Indicator Approach

2.2 Pillar II

Pillar II deals with the Supervisory Review and Evaluation Process (SREP). It also recommends banks

to establish the Internal Capital Adequacy Assessment Process (ICAAP) for assessing the adequacy of

the available capital to cover all material risks (including those covered under Pillar I).

Under the CBB’s Pillar II guidelines, each bank is to be individually assessed by the CBB for prescribing

the bank-specific minimum capital adequacy ratio. Pending finalization of the assessment process, all

banks incorporated in Bahrain are required to continue to maintain the existing 12.5% and 8% minimum

capital adequacy ratios on consolidated and solo basis respectively.

The ICAAP incorporates a review and evaluation of risk management and capital relative to the risks to

which the Bank is exposed. The ICAAP framework was approved by the Board. The ICAAP framework

includes identification, assessment, measurement, monitoring and reporting of all material risks and

maintaining appropriate level of capital in line with the Bank’s overall risk profile and business plan.

The ICAAP is also supplemented by developing stress scenarios and assessing the impact of such

scenarios on the portfolios, risk profile, capital adequacy of the Bank and ensuring the adequacy of capital

in such instances.

2.3 Pillar III

Pillar III of the CBB’s Basel II framework prescribes the coverage, depth, timelines and medium of

communicating the information by the institution on its governance structure, risk profile, risk

management framework and the capital adequacy position. The disclosures comprise detailed qualitative

and quantitative information. The purpose of the Pillar III disclosure requirements is to complement the

first two Pillars and enabling stakeholders and market participants in getting an insight in the institution’s

risk appetite and risk exposures and enable detailed assessment and comparability between different

banks.




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3 Composition of Capital Disclosure

3.1 Step 1 and 2: Statement of financial position under the regulatory scope of consolidation

and reconciliation of published financial statements to regulatory reporting as at 30 June

2017.

Categories

Statement of

financial

position as in

published

financial

statements

Statement of

financial

position as per

regulatory

reporting

Reference

Cash and bank balances 7,788 7,626 A

Placements with financial institutions 40,906 40,906

Financing assets 134,865 251,539 A

Ijarah assets 200,720 - A

Investment securities 398,623 481,200 B

Less: Collective provision (2,496) - C

Net investment securities 396,127 481,200

Equity accounted investees 46,962 17,245 A

Other assets 32,643 4,321 A

Property and equipment 10,733 399 A

Total assets 870,744 803,236

Placements from financial institutions 76,565 76,695 A

Bank financing 88,651 40,492 A

Other liabilities 23,262 27,634 A

Total liabilities 188,478 144,821

Share capital 1,000,000 1,000,000

Treasury shares (7,261) (7,261)

Total share capital 992,739 992,739 D

Statutory reserve 9,802 9,736 E

Investments fair value reserve 452 452 F

Foreign exchange translation reserve (2,171) - A

Current interim cumulative net income / loss - 13,736 G

Accumulated losses (365,735) (360,744) G

Non-controlling interests 47,179 - A

Collective provision eligible for Tier 2 capital - 2,496 C

Total equity 682,266 658,415

Total liabilities and equity 870,744 803,236




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A. The table below shows the total assets and shareholders’ equity of the Bank’s subsidiaries as at 30

June 2017 which are unconsolidated for capital adequacy calculation purposes. For principal activities

of these subsidiaries refer Note 2 c (iii) of the consolidated financial statements as at 31 December 2016.

Entity name Total Assets

Total Shareholders’

equity

Al Dur Energy Investment Company 113,294 113,287

North Africa Investment Company 145 (86)

Menadrill Investment Company 144,318 (51,842)

First Energy-Oman 29,312 29,264

FEB-NOVUS Aircraft Holding Company 84,358 36,181

FEB Aqar S.P.C. 10,466 9,896

Total 381,893 136,700

3.2 Step 3: Composition of Capital Common Template (transition) as at 30 June 2017

Composition of Capital and mapping to

regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

Common Equity Tier 1 capital:

instruments and reserves

1 Directly issued qualifying common share

capital (and equivalent for non-joint stock

companies) plus related stock surplus 992,739 - D

2 Retained earnings (347,008) - G

3 Accumulated other comprehensive income

(and other reserves) 10,188 - E+F

4 Not applicable - -

5 Common share capital issued by subsidiaries

and held by third parties (amount allowed in

group CET1) - -

6 Common Equity Tier 1 capital

before regulatory adjustments 655,919 -

Common Equity Tier 1 capital: regulatory adjustments

7 Prudential valuation adjustments - -

8 Goodwill (net of related tax liability) - -

9 Other intangibles other than mortgage-

servicing rights (net of related tax liability) - -

10 Deferred tax assets that rely on future

profitability excluding those arising from

temporary differences (net of related tax - -




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regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

liability)

11 Cash-flow hedge reserve - -

12 Shortfall of provisions to expected losses - -

13 Securitisation gain on sale (as set out in

paragraph 562 of Basel II framework) - -

14 Not applicable. - -

15 Defined-benefit pension fund net assets - -

16 Investments in own shares (if not already

netted off paid-in capital on reported balance

sheet) - -

17 Reciprocal cross-holdings in common equity - -

18 Investments in the capital of

banking, financial and insurance entities

that are outside the scope of regulatory

consolidation, net of eligible short positions,

where the bank does not own more than 10%

of the issued share capital (amount above 10%

threshold) - -

19 Significant investments in the common stock

of banking, financial and insurance entities

that are outside the scope of regulatory

consolidation, net of eligible short positions

(amount above 10% threshold) - -

20 Mortgage servicing rights (amount above 10%

threshold) - -

21 Deferred tax assets arising from

temporary differences (amount above 10%

threshold, net of related tax liability) - -

22 Amount exceeding the 15% threshold - -

23 of which: significant investments of

financials - -

24 of which: mortgage servicing rights - -

25 of which: deferred tax assets arising

from temporary differences - -

26 National specific regulatory adjustments - -

REGULATORY ADJUSTMENTS APPLIED

TO COMMON EQUITY TIER 1 IN

RESPECT OF AMOUNTS SUBJECT TO

PRE-2015 TREATMENT - -

27 Regulatory adjustments applied to Common

Equity Tier 1 due to insufficient Additional - -




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regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

Tier 1 and Tier 2 to cover deductions

28 Total regulatory adjustments to Common

equity Tier 1

-

-

29 Common Equity Tier 1 capital (CET1) 655,919 -

Additional Tier 1 capital: instruments

30 Directly issued qualifying Additional Tier 1

instruments plus related stock surplus

31 of which: classified as equity under

applicable accounting standards - -

32 of which: classified as liabilities

under applicable accounting standards - -

33 Directly issued capital instruments subject to

phase out from Additional Tier 1

34 Additional Tier 1 instruments (and CET1

instruments not included in row 5) issued by

subsidiaries and held by third parties (amount

allowed in group AT1) - -

35 of which: instruments issued by

subsidiaries subject to phase out - -

36 Additional Tier 1 capital before regulatory

adjustments - -

Additional Tier 1 capital: regulatory adjustments

37 Investments in own Additional Tier 1

instruments - -

38 Reciprocal cross-holdings in Additional Tier 1

instruments - -

39 Investments in the capital of banking, financial

and insurance entities that are outside the

scope of regulatory consolidation, net of

eligible short positions, where the bank does

not own more than 10% of the issued

common share capital of the entity (amount

above 10% threshold) - -

40 Significant investments in the capital of

banking, financial and insurance entities that

are outside the scope of regulatory

consolidation (net of eligible short positions) - -


REGULATORY ADJUSTMENTS APPLIED

TO ADDITIONAL TIER 1 IN RESPECT OF

AMOUNTS SUBJECT TO PRE-2015

TREATMENT - -




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regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

42 Regulatory adjustments applied to Additional

Tier 1 due to insufficient Tier 2 to cover

deductions - -

43 Total regulatory adjustments to Additional

Tier 1 capital - -

44 Additional Tier 1 capital (AT1) - -

45 Tier 1 capital (T1 = CET1 + AT1) 655,919 -

Tier 2 capital: instruments and provisions

46 Directly issued qualifying Tier 2 instruments

plus related stock surplus - -

47 Directly issued capital instruments subject to

phase out from Tier 2 - -

48 Tier 2 instruments (and CET1 and AT1

instruments not included in rows 5 or 34)

issued by subsidiaries and held by third parties

(amount allowed in group Tier 2) - -

49 of which: instruments issued by subsidiaries

subject to phase out - -

50 Provisions 2,496 - C

51 Tier 2 capital before regulatory adjustments 2,496 -

Tier 2 capital: regulatory adjustments

52 Investments in own Tier 2 instruments - -

53 Reciprocal cross-holdings in Tier 2 instruments - -

54 Investments in the capital of banking, financial

and insurance entities that are outside the

scope of regulatory consolidation, net of

eligible short positions, where the bank does

not own more than 10% of the issued common

share capital of the entity (amount above the

10% threshold) - -

55 Significant investments in the capital banking,

financial and insurance entities that are

outside the scope of regulatory consolidation

(net of eligible short positions) - -


57 Total regulatory adjustments to Tier 2

capital 2,496 -

58 Tier 2 capital (T2) 2,496 -

59 Total capital (TC = T1 + T2) 658,415 -

RISK WEIGHTED ASSETS IN RESPECT OF

AMOUNTS SUBJECT TO PRE-2015




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regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

TREATMENT

60 Total risk weighted assets 1,299,135 -

Capital ratios

61 Common Equity Tier 1 (as a percentage of

risk weighted assets) 50.49% -

62 Tier 1 (as a percentage of risk weighted assets) 50.49% -

63 Total capital (as a percentage of risk weighted

assets) 50.68% -

64 Institution specific buffer requirement

(minimum CET1 requirement plus capital

conservation buffer plus countercyclical

buffer requirements plus D-SIB buffer

requirement expressed as a percentage of risk

weighted assets) 9.00% -

65 of which: capital conservation buffer

requirement 2.50% -

66 of which: bank specific

countercyclical buffer requirement

(N/A) N/A -

67 of which: D-SIB buffer requirement

(N/A) N/A -

68 Common Equity Tier 1 available to

meet buffers (as a percentage of risk

weighted assets) 50.49% -

National minima including CCB (if different

from Basel 3)

69 CBB Common Equity Tier 1 minimum ratio 9.00% -

70 CBB Tier 1 minimum ratio 10.50% -

71 CBB total capital minimum ratio 12.50% -

Amounts below the thresholds for deduction (before risk

weighting)

72 Non-significant investments in the capital of

other financials 32,568 - B

73 Significant investments in the common stock of

financials - -

74 Mortgage servicing rights (net of related tax

liability) - -

75 Deferred tax assets arising from temporary

differences (net of related tax liability) - -

Applicable caps on the inclusion of provisions in Tier 2

76 Provisions eligible for inclusion in Tier 2 in 2,496 - C




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regulatory reports

Component

of

regulatory

capital

Amounts

subject to

Pre-2015

Treatment

Reference

letters of the

statement of

financial

position under

the regulatory

scope of

consolidation

from step 2

respect of exposures subject to standardised

approach (prior to application of cap)

77 Cap on inclusion of provisions in Tier 2 under

standardised approach 16,239 -

78 N/A - -

79 N/A - -

Capital instruments subject to phase-out arrangements (only

applicable between 1 Jan 2020 and 1 Jan 2024)

80 Current cap on CET1 instruments

subject to phase out arrangements - -

81 Amount excluded from CET1 due to cap

(excess over cap after redemptions and

maturities) - -

82 Current cap on AT1 instruments


83 Amount excluded from AT1 due to cap (excess

over cap after redemptions and maturities) - -

84 Current cap on T2 instruments


85 Amount excluded from T2 due to cap (excess

over cap after redemptions and maturities) - -

3.3 Disclosure template for main feature of regulatory capital instruments

Key features of all regulatory capital instruments

1. Issuer First Energy Bank B.S.C. (c)

2. Unique identifier (e.g. CUSIP, ISIN or Bloomberg identifier for private placement)

FEB

3. Governing law(s) of the instrument All applicable laws and regulations of the Kingdom of Bahrain

Regulatory treatment 4. Transitional CBB rules Common Equity Tier 1 5. Post-transitional CBB rules Common Equity Tier 1 6. Eligible at solo/group/group & solo Solo

7. Instrument type (types to be specified by each jurisdiction) Equity shares

8.

Amount recognised in regulatory capital (Currency in

mil, as of most recent reporting date) USD 992.7 Million 9. Par value of instrument USD 1

10. Accounting classification Shareholders’ equity 11. Original date of issuance 23 June 2008




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Key features of all regulatory capital instruments

12. Perpetual or dated Perpetual 13. Original maturity date No maturity 14. Issuer call subject to prior supervisory approval No

15. Optional call date, contingent call dates and redemption amount Not applicable

16. Subsequent call dates, if applicable Not applicable

Coupons / dividends

17. Fixed or floating dividend/coupon Dividend as decided by the Shareholders

18. Coupon rate and any related index Not applicable 19. Existence of a dividend stopper Not applicable

20. Fully discretionary, partially discretionary or mandatory Full discretionary

21. Existence of step up or other incentive to redeem No 22. Noncumulative or cumulative Non-cumulative 23. Convertible or non-convertible 24. If convertible, conversion trigger (s) Not applicable 25. If convertible, fully or partially Not applicable 26. If convertible, conversion rate Not applicable 27. If convertible, mandatory or optional conversion Not applicable

28. If convertible, specify instrument type convertible into Not applicable

29. If convertible, specify issuer of instrument it converts into Not applicable

30. Write-down feature 31. If write-down, write-down trigger(s) Not applicable 32. If write-down, full or partial Not applicable 33. If write-down, permanent or temporary Not applicable

34. If temporary write-down, description of write-up mechanism Not applicable

35.

Position in subordination hierarchy in

liquidation (specify instrument type immediately senior to instrument) Not applicable

36. Non-compliant transitioned features No

37. If yes, specify non-compliant features Not applicable

4 Overall risk management

4.1 Risk management strategy

The Bank perceives good risk management capabilities to be the foundation for delivering superior

results on a risk-adjusted basis to customers, investors and shareholders. The Bank will continue to adopt

international best practices of risk management, superior corporate governance and the highest level of

market discipline.

The primary objectives of the risk management strategy of the Bank are to:

• Manage risks inherent in the Bank’s activities in line with the risk appetite of the Bank;

• Strengthen the Bank’s risk management practices to reflect industry best practices; and

• Align internal capital requirements with risk materiality.




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The risk appetite is articulated through the limit structures for individual risks. These limits are based on

the Bank’s business plans and guided by the regulatory requirements and guidelines. By defining the risk

appetite, the Bank links its individual risks to its strategy. The risk appetite defines the level of risk that

the Bank is prepared to take in order to achieve its objectives. The Bank reviews and realigns its risk

appetite as per the evolving business plan of the Bank with changing economic and market scenarios.

The Bank also assesses its tolerance for specific risk categories and its strategy to manage these risks.

The risk appetite outlines the Bank’s risk exposures and defines its tolerance levels towards accepting or

rejecting these risks. Tolerance levels are reflected in the limits defined by the Bank for each risk area.

4.2 Risk management framework

The Bank’s Board of Directors through its Audit and Risk Committee (a subcommittee of the Board of

Directors) has the responsibility for ensuring the establishment and effective implementation of an

integrated risk management framework for the Bank. Further, the Risk Management Department (RMD)

is empowered to independently identify and assess risks that may arise from the Bank’s investing,

financing and operating activities; as well as recommend directly to the Management Risk Committee

(MRC) any prevention and mitigation measures as it deems fit. In addition, the Internal Audit function,

which is independent of both operations and the Bank’s investments units, reviews the risk management

process.

4.3 Risk types

As an Islamic investment bank dealing predominantly in alternative assets, the Bank is exposed to various

risks in the normal course of its business and these risks include:

a. Credit and investment risk including concentration risk, counterparty credit risk and settlement

risk

b. Market risk

c. Operational risk

d. Liquidity risk

e. Profit rate risk in banking book

f. Reputational risk

g. Strategic risk

h. Other risks

The details on exposure of the Bank to these risks and the management framework for them are discussed

in the following sections 6-14 of this document.

5 Capital structure, capital management and capital adequacy

The Bank has been in compliance with the minimum capital adequacy ratios prescribed by the CBB

during the period ended 30 June 2017.

The Bank’s Tier 1 and total capital adequacy ratios comply with the minimum capital requirements under

the CBB’s Basel III framework.

Amounts disclosed in the tables related to the calculation of the capital adequacy ratio in line with the

Prudential Information Report (PIR) comprise only the Bank excluding all subsidiaries which are




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commercial entities.

The Bank’s total risk weighted exposures as at 30 June 2017 amounted to USD 1,205,707 thousand.

Credit risk accounted for 92.81%, operational risk 7.16%, and market risk 0.03% of the total risk

weighted assets. Total regulatory capital was USD 658,415 thousand.

As at 30 June 2017, Bank’s total capital adequacy ratio was 50.68%.

5.1 Capital and group structure

The authorized share capital of the Bank is 2 billion shares of USD 1 each. The paid up capital of the

Bank is USD 1 billion divided into 1 billion shares of USD 1 each. The table below shows the treatment by the Bank of its subsidiaries and associates for capital

computation purposes.

Entity name %age of

holding

Country of

incorporation

Entity

classification

as per CA

Module

Treatment

for

accounting

purposes

Treatment

for regulatory

purposes

Al Dur Energy

Investment Company

(ADEIC) –

Subsidiary

58.83% Cayman Islands Commercial

entity Consolidated Risk weighted

North Africa

Investment Company

– Subsidiary

100% Kingdom of

Bahrain

Commercial


MENAdrill

Investment Company

– Subsidiary

99.99% Cayman Islands Commercial


First Energy-Oman –

Subsidiary 100% Cayman Islands

Commercial


FEB-Novus Aircraft

Holding Company –

Subsidiary

98.50% Commonwealth

of the Bahamas

Commercial


FEB Aqar S.P.C. –

Subsidiary 100%

Kingdom of

Bahrain

Commercial


FEB Capital Ltd. –

Subsidiary 100%

United Arab

Emirates

Other

financial

entity

Consolidated Consolidated

Adcan Pharma LLC

– Associate 40%

United Arab

Emirates

Commercial

entity

Equity

accounted Risk weighted

Medisal for

Pharmaceuticals

Industry LLC –

Associate

45% United Arab

Emirates

Commercial

entity

Equity

accounted Risk weighted




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5.2 Capital management

The Bank’s policy is to maintain a strong capital base and meet the minimum capital requirements

imposed by the regulator (CBB), so as to maintain investor, creditor and market confidence and to sustain

future development of the business. The impact of the level of capital on shareholders’ return is also

recognised and the Bank recognises the need to maintain a balance between the returns and security

afforded by a sound capital position.

The allocation of capital between specific operations and activities is primarily driven by regulatory

requirements. The Bank’s capital management policy seeks to optimize returns within the internally

defined risk tolerances while satisfying all the regulatory requirements.

The Bank ensures that the regulatory capital adequacy requirements are met and complied with at all

times.

5.2.1 Regulatory capital requirement and capital adequacy

The Bank’s regulator (CBB) sets and monitors capital requirements for the Bank. CBB requires the Bank

to maintain the ratio of total capital base to the total risk weighted assets at a minimum of 12.5%.

The Bank has a financial institution subsidiary, FEB Capital Ltd., which is being consolidated for

regulatory purposes. The Bank does not have interest in insurance entities.

The Bank has been in compliance with the minimum capital adequacy ratios prescribed by the CBB

during the period ended 30 June 2017.

The following table summarises the regulatory capital requirements for credit risk, market risk and

operational risk as at 30 June 2017:

USD 000’s

Risk weighted exposure Risk weighted

exposure

% of Total risk

weighted assets

Credit & Investment risk 1,205,707 92.81%

Market risk 357 0.03%

Operational risk 93,071 7.16%

Total 1,299,135 100.00%

5.2.2 Internal capital adequacy assessment process

In line with the guidelines provided under the Pillar II of the Basel II Accord, the Bank has established

the ICAAP to augment the regulatory capital adequacy. The ICAAP considers the adequacy of capital

with respect to the internal capital adequacy ratio target and includes other material risks apart from those

prescribed under the regulatory Pillar I guidelines, stressed scenarios and growth in business based on

the business plan. The Bank segregates all material risks into measurable and non-measurable risks and

has established measurement methodologies for all material risks and quantifies the capital requirement

for them. Currently, the Bank maintains an additional capital buffer of 2% for the non-measurable risks.

As of 30 June 2017, the internal capital adequacy ratio was above the internal target.




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5.3 Exposures exceeding materiality thresholds

The Bank is required to carry out capital adjustments (deduction) for its exposure to significant

investments in capital of banking and financial entities subject to certain materiality thresholds as defined

in the Capital Adequacy Module (“CA Module”) of the CBB Rule Book. Further, the exposures in excess of limits prescribed by Credit Risk Management Module (“CM

Module”) (single obligor limit of 15% of total capital, aggregate limit of 25% and 60% of total capital

for connected and unconnected counterparty exposures, respectively) are subject to risk weight of 800%.

The following table summarises the exposures exceeding regulatory limits as of 30 June 2017:

USD 000’s

Exposure type Total exposure

Exposure as %age

to total capital

Exposure in excess

of limit as per CM

Module

Equity and financing

exposure to its connected

counterparties 118,929 18.06% -

Equity and financing

exposure to unconnected

counterparties 248,609 37.76% 51,431

5.4 Financial performance and position

The following table summarises the financial performance ratios as at 30 June:

Ratio 2017 2016 2015 2014 2013

Return on Average

Equity 1.12% 0.35% -5.97% 3.39% 2.41%

Return on Average

Assets 0.78% 0.26% -4.90% 2.84% 2.02%

Net income margin 41.29% 20.07% -841.13% 55.96% 52.41%

Operating cost to

Income 58.71% 76.92% 117.06% 11.94% 47.59%

The Bank reported consolidated net profit of USD 7.6 million (2016: USD 2.7 million) for the period

ended 30 June 2017.

During the period, the Bank has established a new subsidiary, FEB Capital Ltd., a UAE based financial

institution, to carry out investment related services. The subsidiary has yet to start commercial operations.




18 | P a g e

6 Credit and investment risk

6.1 Credit and investment risk management

The credit and investment risk exposures faced by the Bank are by way of its short term liquidity related

placements with other financial institutions, financing facilities provided to third parties and associates,

and in respect of investments in projects, sukuks, listed and unlisted equities. The investment related

funding exposures arise in the ordinary course of its investment banking activities and are generally

transacted without collateral or other credit risk mitigants, however the majority of such investments are

asset based.

RMD is responsible for conducting independent risk review and analysis for all credit and investment

applications received from Investment Banking, Financing, Capital Markets and Treasury Departments.

It is also responsible for the ongoing review of the credit worthiness of existing clients through the

process of periodic credit reviews, annual or more frequently, if required. RMD is also responsible for

monitoring all approved limits, and reporting breaches, if any to the MRC, Board Audit and Risk

Committee and the Board as appropriate.

RMD reviews every Application received from the respective business initiator (LOB) and prepares an

independent comprehensive Risk Analysis with recommendations. The Application and the Risk

Analysis are submitted to the MRC for approval, if within their approval authority, or for review and

further submission to the appropriate approval authority.

Following approval and draw down, the credit exposures are monitored on an ongoing basis. These

include keeping track of counterparties’ compliance with credit terms, identifying early signs of

irregularity, conducting periodic valuation of collateral, if applicable, and monitoring timely repayments.

All the exposures are reviewed at least annually and interim reviews are conducted in case of any adverse

developments.

RMD assesses the creditworthiness of the counterparties using rating models as a part of the review for

new facilities as well as existing facilities undergoing the annual review process. The Bank has

implemented industry specific rating models based on key factors relevant to the industry. These models

are used to rate exposures to financial institutions and also for counterparties in various other industries

except in case of counterparties rated externally by at least two rating agencies recognised by the CBB.

The Bank rates the exposures on a scale of 1 to 10 mapped to the following categories; 1 is mapped to

Prime, 2 to High grade, 3 to Upper medium grade, 4 to Lower medium grade, 5 to Non-investment grade

speculative, 6 to Highly speculative, 7 to Substantial risk, 8 to Extremely speculative, 9 to In default with

little prospect of recovery and 10 to In default with no prospect of recovery (Loss). The Bank is not

engaged in providing retail credit facilities and hence it does not use any retail credit “scoring” models.

The Bank maintains a strong focus on identification of signs of deterioration in the credit worthiness of

counterparties and performance of investments in order to take preventive measures before an existing

facility becomes substandard / doubtful or deteriorates in value.

RMD also monitors credit and investment risk exposures against established limits on a daily basis. RMD

alerts the concerned business line and the MRC whenever a limit is breached. RMD also produces

periodic exposure and risk reports for the Board as well as reports required for regulatory reporting and

public disclosure as required under the Pillar III guidelines.

The credit categorisation of the Bank including problem credit categories is aligned with the regulatory

categorisation. All credit exposures which are regular and performing (as the contract requires) and for

which there is no reason to suspect that the creditor's financial condition or collateral adequacy has




19 | P a g e

depreciated in any way will be categorised as Standard or Current.

There are three categories of problem credit exposure classification indicating increasing degrees of

potential risk of loss in addition to watch-listing.

Substandard

An obligation or part of an obligation that is inadequately protracted by the current financial condition

of the obligor or the collateral pledged. The normal repayment of principal and profit or settlement at

maturity may be or has been jeopardised or collateral coverage is clearly deficient. No loss is foreseen

but a protracted work-out is a possibility.

Substandard accounts may exhibit one or all of the following characteristics:

• Principal or profit repayment is past due for more than 90 days;

• Cash-flow is not sufficient to meet currently maturing financing facility;

• Accounts which carry more than a normal degree of risk due to the absence of updated or satisfactory

financial information or inadequate collateral documentation.

Doubtful

An obligation or part of an obligation where there is a high probability of some loss, the extent which

cannot be currently quantified.

Doubtful accounts may exhibit one or all of the following characteristics:

• Principal or profit repayment is past due for more than 180 days;

• Collection in full on the basis of currently existing facts, conditions and values is highly questionable

and improbable;

• Likelihood of loss is high but decision to classify as Loss has been deferred till an exact decision is

determined.

Loss

An obligation regarded as uncollectable and where loss and consequent write-off is imminent. Once

written off these amounts are no longer shown as exposure although eventual recovery may still be a

possibility. Loss accounts may exhibit one or both of the following characteristics:

• Principal or profit repayment is past due for more than a year;

• Immediate circumstances indicate that an asset is uncollectable.

The Bank regularly assesses its credit portfolio for any indicators of impairment on a periodic basis and

would consider provision for impairment on specific credit exposures. The Bank makes collective

impairment on its credit exposures. The Bank sets aside a general provision for potential losses that may occur as a result of currently

unidentifiable risks is relation to its exposures. Typically, the Bank will make a general provision for

performing exposures i.e. internal ratings 1 to 7 corresponding to CBB’s classification of Standard and

Watch list exposures, and for the portion of non-performing credit facilities not covered by specific

provisions. The amount of general provision is a percentage of the net book value of all exposures taking

into account certain exemptions.

Given that the nature of general provisions is systemic based on macro-economic factors that apply




20 | P a g e

across all exposures, it is necessary to adopt a range rather than a single number. In addition within

that range, the actual percentage shall be reviewed annually based on conditions prevailing on that date.

Consequently, the Bank will adopt a range that is not less than 1% and not more than 10% of qualifying

exposures. Within this range, every year as of the financial closing date, the Board, shall, on the

recommendation of the Board Audit and Risk Committee (BARC) adopt a specific level of general

provisions as of that date. Upon every anniversary, the level will be reviewed by MRC and appropriate

recommendations made to BARC and Board.

The Bank shall write-off the exposures (fully / partially as the case may be) when there is reasonable

doubt over recovery of the amount. Reasonable doubt shall be based on objective evidence that the

balance is impaired and would not be recovered.

The Bank defines its past due credits as any amount due to FEB and not received. Principal or profit

repayments that are past due for more than 90 days are classified as substandard. The Bank considers a Financing facility as impaired in case it observes certain objective evidence of

impairment which might include:

• The significant financial difficulty resulting in lack of ability of the borrower; • A breach of contract such as a default or delinquency in payment of profit or principal; • Lack of willingness or intent of the borrower; • The lender, for economic or legal reasons relating to the borrower’s financial difficulty, granting to

the borrower a concession that the lender would not otherwise consider; • It becoming probable that the borrower will enter bankruptcy or other financial reorganization; • The disappearance of an active market because of financial difficulties; • Observable data indicating that there is a measurable decrease in the estimated future cash flows from

a group of financial assets since the initial recognition of those assets, although the decrease cannot

yet be identified with the individual financial assets in the group including: adverse changes in the

payment status of the borrowers, or national or local economic conditions that correlate with defaults

on the assets in the group.

The Bank did not have any exposure to highly leveraged and other high risk counterparties as at

30 June 2017. (As per the CBB Highly Leveraged Institutions (HLIs) are defined as having the following

characteristics: i- subject to little or no regulatory oversight; ii- generally subject to very limited

disclosure requirements and are not subject to rating by credit reference agencies; and iii- often take on

significant leverage, where leverage is the ratio between risk, expressed in some common denominator,

and capital). The Bank also did not have any renegotiated exposures as at

30 June 2017.

As on the reporting date, the Bank does not have any obligation with respect to recourse transaction (i.e.

where the asset has been sold, but the bank retains responsibility for repayment if the original

counterparty defaults or fails to fulfil obligations). The Bank has also not imposed any penalties on

customers for default during the period.




21 | P a g e

6.1.1 Credit and investment exposures and risk-weighted assets

The following table shows the movement in provision for impairment during the period.

Provision for losses

Specific provision against Collective

impairment

provision Financing

facilities Investments Other assets

At 1 January 2017 25,999 146,853 286,464 2,496

Charge during the period 2,489 - - -

Reversal during the period - (5,702) - -

At 30 June 2017 28,488 141,151 286,464 2,496

The charge during the period pertains to foreign exchange loss due to revaluation.

Amount reversed pertains to the Bank’s Investment in joint venture in Bulgaria that has been disposed

of during the period.

6.2 Capital requirements for credit and investment risk

The Bank uses the Standardised Approach under the Basel II framework for measuring the regulatory

capital requirement for its credit risk. The Bank utilizes ratings from External Credit Assessment

Institution (ECAI) recognised by the CBB (S&P, Moody’s, Fitch, and Capital Intelligence) for its

regulatory credit risk capital charge calculations.

The table below analyses the Group's maximum credit exposure where the credit quality is reflected by

external credit ratings (S&P, Moody’s, Fitch and Capital Intelligence) of the counterparties where

relevant:

USD 000’s

2017

Balances

with

banks

Placements

with

financial

institutions

Financing

assets

Investment

securities

Other

assets Total Prime to High grade:

AAA - AA 52 5,002 - 9,138 - 14,192

Medium grade: A –

BBB 654 8,802 - 124,880 - 134,336

Non-investment /

speculative:

BB – B 136 10,004 - 129,004 - 139,144

Unrated 6,934 17,098 134,865 - 27,522 186,419

7,776 40,906 134,865 263,022 27,522 474,091




22 | P a g e

Where external ratings of approved agencies are available, the ratings of these agencies will be mapped

to internal categories as follows:

External rating

agencies

Internal ratings

1 to 7- 8 9 10

S & P AAA to CCC- CC C D

Moody’s Aaa to Caa3 Ca C -

CI AAA to C- Regulatory

supervision (RS)

Selective default

(SD) D

Fitch AAA to CCC CC C Restricted default

or default




23 | P a g e

6.2.1 Credit and investment exposures and risk-weighted assets

The following table summarises the components of credit risk as computed for regulatory capital

adequacy purposes, net of the relevant deductions as at 30 June 2017:

USD 000’s

Asset categories for credit risk Credit

exposures

Average risk

weights

Credit risk

weighted

assets

Capital

requirements

@ 12.5%

Cash items 12 0.00% - -

Total claims on sovereigns:

Sukuk - Bahrain and other

GCC 93,839

0.00%

-

-

Sukuk - Other sovereigns on

non- relevant currencies 35,967 77.48% 27,868 3,484

Total claims on PSEs:

Sukuk - All other PSEs

906

50.00%

453

57

Total claims on banks:

Standard risk weights 77,313 69.83% 53,988 6,749

Short-term claims on locally

incorporated banks 30,265 20.00% 6,053 757

Claims on corporate 243,612 196.80% 479,440 59,930

Investment in securities:

Equity investments

222,931 190.31%

424,264

53,033

Holdings of real estate:

All other holdings of real estate 84,986 200.00% 169,972 21,247

Investment in unlisted real

estate companies

9,996

400.00%

39,982

4,998

Other assets 3,687 100.00% 3,687 461

Total

803,514 150.05% 1,205,707 150,716




24 | P a g e

6.2.2 Capital requirements by type of Islamic financing contract

The following table summarises the components of credit risk by type of Islamic financing contract as at

30 June 2017:

USD 000’s

Asset categories for credit risk

Credit

exposures

(after

deduction)

Average risk

weights

Credit risk

weighted

assets

Capital

requirements

@ 12.5%

Financing assets 237,483 217.80% 517,232 64,654

Placements with financial

institutions:

- Commodity murabaha

- Wakala

10,004

30,902

35.00%

23.69%

3,501

7,321

438

915

Sukuk

- Murabaha 748 0.00% - -

- Al Wakala Bil Istithmar 70,856 71.30% 50,522 6,315

- Ijarah 193,914 65.25% 126,525 15,816

Total 543,907 129.64% 705,101 88,138

6.2.3 Gross funded and unfunded exposure

The following table summarises the total gross credit exposure and average gross exposure over the

period ended 30 June 2017 broken down by major types of credit exposures into funded and unfunded:

USD 000’s

Asset categories Average

exposures* Gross exposure

Cash and bank balances 8,643 7,788

Placements with financial institutions 26,794 40,906

Financing assets 147,613 134,865

Ijarah assets 201,799 200,720

Investment securities 397,916 396,127

Equity accounted investees 51,079 46,962

Other assets 31,767 32,643

Property and equipment 10,584 10,733

Total funded exposures 876,195 870,744

Financing commitment 1,490 1,384

Operating lease commitments 966 886

Total unfunded exposures 2,456 2,270

* Represents quarterly average balances for the period ended 30 June 2017.




25 | P a g e

6.2.4 Equity investments held in the banking book

All the equity investments of the Bank other than the investments in subsidiaries consolidated for capital

computation purposes are held in the banking book and are subject to credit risk weighting under the

capital adequacy framework.

The following table summarises the breakdown of the Bank’s equity investments by objectives and

market type as at 30 June 2017:

USD 000’s

Objective Type Gross

Exposure

Average risk

weight %

Risk weighted

Exposure

Capital

Requirement

@ 12.5%

Strategic Quoted 33,038 100% 33,038 4,130

Strategic * Unquoted 199,888 216% 431,208 53,901

* This includes investment in subsidiaries and equity accounted investees which are risk weighted for purposes of PIR. The

exposure to investment in subsidiaries and equity accounted investees which is in excess of limits prescribed by CM Module

(single obligor and aggregate limits) is risk weighted at 800%.

The following table summarises the cumulative realised and unrealised gains or losses for the period

ended 30 June 2017:

USD 000’s

Total

Total realised gains arising from sales during the period 4,157

Total unrealised gains / (losses) arising from fair valuing equities recognized in the

consolidated statement of financial position but not through consolidated statement

of income

452

Unrealised gains / (losses) included in Tier 1 capital 452

The Bank does not have any exposure to equity based financing structure.

6.3 Concentration of credit risk

Concentration risk is the risk of insufficient diversification of the portfolio resulting in adverse impact

of an external event on portfolio constituents sensitive to similar risk factors. Concentration risk in

portfolios primarily arises due to name, product, sector and geographic concentration.

The Bank adheres to the regulatory guidelines in respect of large exposures and connected and related

counterparty exposures to effectively manage the name concentration. Any excess above the said limit

has been reported to the CBB and treated in accordance with the regulatory guidelines in respect of

capital deduction for such exposures. In addition, the Bank has established internal limits on the

maximum permissible exposure to business lines / activities, sectors and countries for managing

concentration risk. The portfolio is segregated by business line / activities, geography and industry

segments. The activities are segregated as Treasury, Islamic Financing and Investments and the Bank

has internal limits for these activities. In addition to the business line limits, the Bank segregates all its

exposures by country, sets rating-based country limits and monitors the exposures with respect to these




26 | P a g e

limits. Additionally, the Bank has established HHI limits for Name, Country, and Sector concentrations.

RMD monitors adherence to the limits on an ongoing basis.

6.3.1 Industry and sector-wise distribution as at 30 June 2017:

The following table summarises the distribution of exposures by industry broken down by major types

of credit exposures as at 30 June 2017:

USD 000’s

Asset categories

Banks and

financial

institutions

Energy,

power and

infrastructure

Others Total

Cash and bank balances 7,788 - - 7,788


institutions 40,906 - - 40,906

Financing assets (gross) - 28,488 134,865 163,353

Less: Collective provision - (28,488) - (28,488)

Financing assets (net) - - 134,865 134,865

Ijarah assets - 120,220 80,500 200,720

Investment securities (gross) 141,425 120,835 156,363 418,623

Less: Specific provision

Collective provision

-

(863)

-

(297)

(20,000)

(1,336)

(20,000)

(2,496)

Investment securities (net) 140,562 120,538 135,027 396,127

Equity accounted investees

(gross) 40,409 58,993 17,245 116,647

Less: Specific provision (10,692) (58,993) - (69,685)

Equity accounted investees (net) 29,717 - 17,245 46,962

Other assets 5 13,321 19,317 32,643

Property and equipment (gross) - - 24,527 24,527

Less: Specific provision - - (13,794) (13,794)

Property and equipment (net) - - 10,733 10,733

Total funded exposures 218,978 254,079 397,687 870,744

Financing commitments - - 1,384 1,384

Operating lease commitments - - 886 886

Total unfunded exposures - - 2,270 2,270




27 | P a g e

6.3.2 Geographic distribution as at 30 June 2017:

The following table summarises the geographic distribution of exposures broken down into significant

areas by major type of credit exposures as at 30 June 2017:

USD 000’s

The Group allocates exposures to a particular geographical area based on the risk domicile concept,

which could be either the location of the asset or the location of the counterparty.

6.3.3 Credit risk mitigation

The Bank uses a variety of techniques to mitigate credit risks to which it is exposed to. As a policy,

obtaining adequate mitigants will not be the reason for granting credit to counterparties lacking

creditworthiness. Only eligible collaterals as per the CBB guidelines and approved by the Bank’s

Sharia’a Supervisory Committee are considered for reducing the capital requirement though the Bank

can continue to take non-eligible collaterals to safeguard its exposure. The Bank has clear policies on the

type of assets that can be accepted as collateral security and the mode of valuation of these assets. In

general, all eligible collaterals are valued at least once a year.

Asset categories MENA Europe Americas Asia Total

Cash and bank balances 7,134 654 - - 7,788


institutions 40,906 - - - 40,906

Financing assets (gross) 134,865 28,488 - - 163,353

Less: Collective provision - (28,488) - - (28,488)

Financing assets (net) 134,865 - - - 134,865

Ijarah assets - - 120,220 80,500 200,720

Investment securities (gross) 348,961 53,464 - 16,198 418,623

Less: Specific provision (20,000) - - - (20,000)

Collective provision (1,478) (781) - (237) (2,496)

Investment securities (net) 327,483 52,683 - 15,961 396,127

Equity accounted investees

(gross) 116,647 - - - 116,647


Equity accounted investees (net) 46,962 - - - 46,962

Other assets 30,875 - 78 1,690 32,643

Property and equipment (gross) 24,527 - - - 24,527


Property and equipment (net) 10,733 - - - 10,733

Total funded exposure 598,958 53,337 120,298 98,151 870,744

Financing commitments 1,384 - - - 1,384

Operating lease commitments 886 - - - 886

Total unfunded exposures 2,270 - - - 2,270




28 | P a g e

The position of collateral cover for all credit exposures categorised on the basis of the type of security as

on 30 June 2017 is given in the table below:

USD 000’s

* These listed securities are pledged with the Security Trustee as collateral for the Bank for the murabaha

financing facility extended. As a policy, the Bank applies 25% haircut for this type of collateral plus 8%

for foreign currency mismatch.

The Bank also uses on-balance sheet netting as a credit risk mitigant technique if:

(1) It has a well-founded legal basis for concluding that the netting or offsetting agreement is

enforceable in each relevant jurisdiction regardless of whether the counterparty is insolvent or

bankrupt; (2) It is able at any time to determine those assets and liabilities with the same counterparty that are

subject to the netting agreement.

As of 30 June 2017, USD 28 million (100%) provision for impairment has been provided against the

murabaha financing facility of USD 28 million.

** The collateral value is based on the net book value of the pledged assets.

6.4 Counterparty credit risk

Counterparty Credit Risk (CCR) is the risk that the counterparty to a transaction could default before the

final settlement of the transaction’s cash flows. An economic loss would occur if the transaction or

portfolio of transactions with the counterparty has a positive economic value at the time of settlement

and the counterparty is in default. The Bank does not have positions in OTC derivatives, Securities

Financing Transactions (SFTs), Margin Lending Transactions or any other long settlement transactions

which would expose it to counterparty credit risk.

6.5 Settlement risk

Settlement risk is the risk that a counterparty does not deliver on its obligation or its value in cash as per

agreement when the trade was entered though the other counterparty or counterparties have already

delivered their obligation as agreed. The Bank is exposed to settlement risk occasionally on account of

the foreign exchange spot transaction entered into for business and operational requirements. The Bank

has established limit structure based on the credit quality (assessed based on credit rating) for settlement

exposures and the limits are monitored on an ongoing basis.

Collateral type

Type of Islamic

financing

contract

Collateral value Gross exposure % of coverage

Listed securities * Murabaha

financing 1,083 28,488 3.80%

Equipment and

Bank balances **

Murabaha

financing 7,523 1,999 376.34%




29 | P a g e

The Bank uses an IT enabled limit monitoring system for online monitoring of credit and settlement

limits of counterparties. The system assists in setting and monitoring of limits by tenor, facilities,

counterparties, group of related counterparties, products, sectors and countries. The system also enables

monitoring limit end dates and review dates for facilities.

6.6 Earnings prohibited by Sharia’a

During the period, the Bank did not have any earnings from non-Islamic transactions that are prohibited

by Sharia’a.

6.7 Transactions with related parties

The significant balances with related parties as disclosed in the notes to the consolidated interim

financial information as at 30 June 2017 were as follows:

USD 000’s

Associates

Key

management

personnel/

Shari’a board

members/

external

auditors

Significant

shareholders/

board

members/

entities in

which

directors are

interested

Total

Assets

Cash and bank balances - - 26 26 Placements with financial

institutions - - 10,004 10,004

Financing assets 12,867 - 50,034 62,901 Equity accounted

investees 46,962 - - 46,962 Other assets 10 - - 10

Liabilities

Placements from financial

institutions - - 34,550 34,550 Other liabilities 1,080 950 11,288 13,318




30 | P a g e

The transactions with related parties as disclosed in the notes to the consolidated interim financial

information as at 30 June 2017 were as follows:

USD 000’s

Associates

Key

management

personnel/

Shari'a board

members/

external

auditors

Significant

shareholders/

board

members/

entities in

which

directors are

interested

Total

Income

Income from financing and

placements with financial

institutions 272 - 2,782 3,054

Gain on disposal of equity

accounted investee 4,157 - - 4,157 Share of results of equity

accounted investees (640) - - (640)

Other income - - 1,210 1,210

Expenses

Staff cost - 1,295 - 1,295

Financing cost on

placements from financial

institutions - - 231 231

Other operating expenses - 499 - 499

Related party transactions were on an arm’s length basis.

7 Market risk

Market risk is the risk that changes in market prices, such as profit rates, equity prices, foreign exchange

rates and commodity prices will affect the Bank’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 optimizing the return on risk.

The Bank does not maintain a trading portfolio in commodities, equities or sukuk. Therefore, there is no

trading book market risk exposure.

As at 30 June 2017, the Bank’s major source of market risk was from foreign exchange open position

which resulted in a capital charge of USD 29 thousand.




31 | P a g e

7.1 Capital requirements for market risk

The Bank follows standardised approach for measuring the regulatory capital required for market risk.

Foreign exchange risk charge is computed based on 8% of overall net open foreign currency position of

the Bank and is risk weighted by multiplying with a multiple of 12.5 times.

USD 000’s

Risk weighted

exposure (RWE)

Capital

requirement

@

12.5%

Maximum RWE

during the

period

Minimum RWE

during the

period

Foreign exchange

risk 357 45 37,503 357

7.2 Foreign currency translation risk

The Bank was exposed to foreign currency translation risk from its investment in foreign operations

(Joint venture in Bulgaria), which was disposed of during the period as per below table:

Nature of exposure Movement in

exposure

Foreign currency

translation reserve

Earnings impact of

foreign exchange

transactions

Investment in joint venture

in Bulgaria (6,423) - (3,469)

8 Operational risk

Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and

systems or loss resulting from external events. Operational risk also includes Legal and Sharia’a non-

compliance risk but excludes strategic and reputational risks.

Currently, the Bank conducts its business from a principal office in Bahrain in accordance to well-defined

processes and procedures. These processes and procedures include a number of internal controls,

including segregation of duties to avoid conflict of interest and other internal checks, which are designed

to prevent either inadvertent staff errors or malfeasance prior to the release of a transaction. The critical

data from the SWIFT system used by Operations Department is replicated online. Data for other key

departments namely Human Resources, Treasury and Financial Control is replicated at the end of the

working day on the disaster recovery site. The Bank has successfully tested three scenarios namely

accessing the live systems in the head office in Bahrain Financial Harbour remotely from the business

continuity center, accessing data in the disaster recovery site from head office and lastly accessing

systems remotely from laptops using Citrix clients with 2 way authentication.




32 | P a g e

8.1 Operational risk management

The Bank has developed and implemented all relevant operational risk management policies and

procedures. Risk and Control Self Assessment (RCSA) for Operational Risk is periodically conducted in

coordination with all departments to evaluate (and where required, mitigate) operational risk exposures.

The last round of RCSAs was conducted during the fourth quarter of 2016 using a well-recognized

industry standard operational risk system. Loss data collection and KRI reporting are also performed

through the system. The Bank monitors the key risks and operational risk losses on an ongoing basis and

regularly reports the position to senior management and the Board.

8.2 Legal compliance and litigation

As on the reporting date, the Bank had no material legal contingencies including pending legal actions.

The Bank’s legal risks are mitigated through legal counsel review of transactions and documentation, as

appropriate. Where possible, the Bank uses standard formats for transaction documentation.

8.3 Sharia’a compliance

The Sharia’a Supervisory Board (SSB) is entrusted with the duty of directing, reviewing and supervising

the activities of the Bank in order to ensure that they are in compliance with the rules and principles of

Islamic Sharia’a. The Bank has a dedicated internal Sharia’a reviewer, who performs ongoing review of

the compliance with the fatwas and rulings of the SSB on products and processes and also reviews

compliance with the requirements of the Sharia’a standards prescribed by AAOIFI. The SSB reviews

and approves all products and services before launching and offering to the customers and also conducts

periodic reviews of the transactions of the Bank. An annual audit report is issued by the SSB confirming

the Bank’s compliance with Sharia’a rules and principles.

During the period, no non-Sharia’a compliant income was generated and no instances of Sharia’a

violations were identified.

8.4 Capital requirements for operational risk

The Bank follows the Basic Indicator Approach to evaluate operational risk charge in accordance with

the CBB capital adequacy module for Islamic banks. According to this approach, Bank’s average gross

income for past three financial years is multiplied by a fixed coefficient alpha of 15% set by CBB and a

multiple of 12.5x is used to arrive at the risk weighted assets that are subject to capital charge. The

operational risk capital requirement is based on the average of the actual gross income for the last three

years.

USD 000’s

Average gross

income

Risk weighted

exposure

Capital charge

at 12.5%

Operational risk 49,638 93,071 11,634




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9 Liquidity risk

Liquidity risk is the risk that the Bank will encounter difficulty in meeting obligations arising from its

financial liabilities. The Bank’s approach for managing liquidity is to ensure, as far as possible, that it

will always have sufficient liquidity to meet its liabilities when they become due, under both normal and

stressed conditions, without incurring unacceptable losses or risking damage to the Bank’s reputation.

The following are the key liquidity ratios which reflect the liquidity position of the Bank as of

30 June 2017:

Liquidity Ratios 30 June 2017

Cash and Cash equivalents1 / Total Assets 5.59%

Liquid Assets2 / Total Assets 39.54%

Short-term Assets / Short-term Liabilities 0.49x

Inter Bank Placements / Inter Bank Borrowings 0.53x

Gearing Ratio (Total Liabilities / Total Equity) 0.28x

1 Cash and cash equivalents include cash and balances with banks, amounts placements with financial

institutions and investments in short-term government sukuk with original maturities of 90 days or less.

2 Liquid assets include cash and cash equivalents, investments in sukuk and quoted equity investments.




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9.1 Maturity profile

Maturity analyses of assets and liabilities based on residual contractual / expected maturity as of 30 June 2017 as per reviewed consolidated interim financial

information is as follows: USD 000’s

Up to 3

months 3 to 6 months

6 months to 1

year 1 to 3 years 3 to 5 years 5 to 10 years

*No fixed

maturity Total

Assets

Cash and bank balances 7,788 - - - - - - 7,788


institutions 40,906 - - - - - - 40,906

Financing assets 1,999 - - 50,034 48,396 34,436 - 134,865

Ijarah assets - - - - - - 200,720 200,720

Investment securities - - - 173,098 118,169 104,860 - 396,127

Equity accounted investees - - - - - - 46,962 46,962

Other assets 1,132 - 16,549 942 10 13,481 529 32,643

Property and equipment - - - - - - 10,733 10,733

Total assets 51,825 - 16,549 224,074 166,575 152,777 258,944 870,744

Liabilities


institutions 76,565 - - - - - - 76,565

Bank financing 1,150 1,120 42,779 9,559 10,312 23,731 - 88,651

Other liabilities 16,683 - 1,862 375 4,342 - - 23,262

Total liabilities 94,398 1,120 44,641 9,934 14,654 23,731 - 188,478

Net gap (42,573) (1,120) (28,092) 214,140 151,921 129,046 258,944 682,266

Cumulative net gap (42,573) (43,693) (71,785) 142,355 294,276 423,322 682,266 -

Commitments 159 159 240 328 1,384 - - 2,270

*This includes certain assets which do not have any contractual maturity




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The Bank does not have any exposure in 10 to 20 years bucket.

10 Profit rate risk in the banking book

Profit rate risk in banking book is the exposure of the Bank’s financial condition to adverse movements

in profit rates. Changes in profit rates affect the Bank’s earnings by changing its net profit income and

the level of other profit rate sensitive income and operating expenses. Changes in profit rates also affect

the underlying value of the Bank’s assets, liabilities, and commitments because of the absolute or

economic value changes of future cash flows due to the change in profit rates. Profit rate risk primarily

arises on account of repricing risk, yield curve risk, basis risk and optionality risk.

The MRC is responsible for recommending the profit rate policy, setting limits and guidelines. The same

is reviewed by the Board Audit and Risk Committee and is approved by the Board.

The Bank has minimal exposure to repricing and yield curve risks. Repricing risk arises on account of

mismatch in profit rate fixation periods between assets and liabilities. Yield curve risk arises due to shift

in yield curve resulting in change in the economic value of cashflows. The rate sensitive assets mainly

comprise short-term interbank placements and Sukuk. A part of these placements are funded by rate

sensitive liabilities in the form of short-term interbank deposits. The short-term nature of these items and

high degree of correlation between profits earned and paid on them minimises the basis risk. The

remaining rate sensitive assets (Sukuks and residual inter-bank placements) are funded by equity. The

Bank is not exposed to optionality risk arising due to embedded options in rate sensitive assets or

liabilities.

The Bank’s profit rate sensitive assets comprise placements with financial institutions, Sukuk

investments and Islamic Financing Facilities. On the liabilities side, the Bank’s profit bearing liabilities

include mainly placements from Central Bank and other financial institutions. The Board has approved

limits on profit rate sensitivity in each time bucket.

Profit rate risk in the banking book is managed principally through monthly monitoring of the re-pricing

gaps and the impact of profit rate changes on the Economic Value of Equity (EVE). The Bank ensures

that the re-pricing gap and the impact on EVE as a result of shifts in profit rates do not exceed the pre-

approved limits set on both. This is measured based on the impact of a parallel shift in the yield curve on

EVE which is the sum of the impact on earnings and impact on balance sheet.

The impact on earnings (measured by the sensitivity of Net Profit Income (NPI)) is calculated by

estimating the change in Profit Income of the Bank due to a stipulated change in the profit rates of assets

and liabilities over a time horizon of one year. The Bank assumes a 2% change (i.e. 200 basis points) in

rates of assets and liabilities to calculate the dollar impact on earnings on the residual period up to one

year. The Bank also assumes that the cashflow duration for a bucket is the mid-point of bucket.

The impact on balance sheet is calculated using the leverage adjusted duration gap approach and assesses

the impact of changes in the market profit rates on the Bank’s total assets as a percentage of the Bank’s

equity. The higher the duration, the higher shall be the profit rate sensitivity of a financial instrument and

vice-versa.

The Bank ensures that shift in profit rates does not result in the overall economic value based on the re-

pricing gaps to exceed the limits set on the economic value of equity. This is assessed based on the impact

of a parallel shift in the yield curve on the expected Net Profit Income for up to one year horizon and the

economic value of the Bank’s equity on a regular basis.




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A summary of the Bank’s profit rate gap position is as follows:

USD 000’s

Up to 3

months

3 to 6

months

6 months

to 1 year

1 to 3

years

Over 3

years Total

Assets


institutions 40,906 - - - - 40,906

Financing assets 1,999 - - 50,034 82,832 134,865

Investment securities - - - 39,994 223,028 263,022

Other assets 852 - - - 13,481 14,333

Total assets 43,757 - - 90,028 319,341 453,126

Liabilities


institutions 76,565 - - - - 76,565

Bank financing 1,150 1,120 42,779 9,559 34,043 88,651

Total liabilities 77,715 1,120 42,779 9,559 34,043 165,216

Profit rate sensitivity gap (33,958) (1,120) (42,779) 80,469 285,298 287,910

Commitments - - - - 1,384 1,384

The impact on EVE, which is the sum of the impact on earnings and impact on balance sheet, to a 200

basis points parallel increase (decrease) in market profit rates (assuming no asymmetrical movement in

yield curves and a constant statement of financial position), are as follows:

USD 000’s

Impact of 200bp increase in profit rates: 30 June 2017

Impact on earnings 5,758

Impact on balance sheet (17,415)

Impact on Economic Value of Equity (11,657)

Impact of 200bp decrease in profit rates: 30 June 2017

Impact on earnings (5,758)

Impact on balance sheet 17,415

Impact on Economic Value of Equity 11,657

The overall impact on EVE for a 200 bps shock is within the limit prescribed by the Basel Committee

on Banking Supervision as well as the Bank’s more conservative internal limit.




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11 Reputational risk

Reputational risk is the risk that negative perception regarding the Bank’s business practices or internal

controls, whether true or not, will cause a decline in the Bank’s investor base, lead to costly litigation

that could have an adverse impact on liquidity or capital of the Bank. Reputation is an important asset

and among the issues that could affect the Bank’s reputation is the inability to exit from investments,

lower than expected returns on investments and poor communication with investors. As at 30

June 2017, the Bank was not exposed to any significant reputational risk.

The Bank has developed adequate policies and procedures to identify, monitor and address all potential

risks that may arise from all such activities. The Bank has also developed an internal dashboard for

monitoring and reporting reputational risk exposures which is quarterly presented to the BARC.

The Bank considers complaints from all investors/customers seriously. These can adversely affect the

Bank’s reputation and if it is left unattended these can also lead to litigation and possible censure by the

regulatory authorities. The Bank has a formal process of handling complaints from investors/customers,

in line with the CBB’s requirements.

12 Strategic risk

Strategic risk is the current and prospective impact on earnings or capital arising from adverse business

decisions, improper implementation of decisions, or lack of responsiveness to industry changes. Strategic

risk management practices are designed to ensure the comparability of the Bank’s strategic goals, the

resources deployed against these goals and the quality of implementation. The Bank has developed

adequate policies and procedures to identify, monitor and address strategic risk which were duly

approved by the Board.

13 Other risks

Other risks include fiduciary risks, displaced commercial risk and regulatory compliance risk etc. which

are inherent in all business and not easily measurable or quantifiable. The Bank currently does not have

funding from equity of investment account holders and off balance sheet equity of investment account

holders and hence is not exposed to fiduciary or displaced commercial risks. The Bank as a matter of

policy prepares its business plan in consultation with the Board to incorporate the shareholders

expectations and regularly reviews and monitors financial and marketing strategies, business

performance with respect to the business plan, new legal and regulatory developments and their potential

impact on the Bank’s business and corporate governance practices to ensure avoidance of any regulatory

non-compliance.

14 Regulatory Compliance

During the period, the Bank has not paid any penalty to the Central Bank of Bahrain.




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15 Basel III Ratios

As part of its commitment to strengthening risk management practices and adopting industry best

practices, the Bank is currently monitoring Basel III ratios on a periodic basis as required by the CBB.

Detailed below are the Basel III Ratios for the Bank as of 30 June 2017:

No. Particulars Minimum

Limit Set by

CBB

As of

30 June

2017*

1 Common Equity Capital Ratio - Consolidated 6.5% 50.49%

2 Common Equity Capital Ratio - Solo 4.5% 50.36%

3 Total Capital Ratio - Consolidated 12.5% 50.68%

4 Total Capital Ratio - Solo 8% 50.55%

5 Liquidity Coverage Ratio 80% 676%

6 Net Stable Funding Ratio Note 1 108%

7 Leverage Ratio – Consolidated Note 2 81.68%

8 Leverage Ratio – Solo Note 2 81.73%

Note 1: Minimum standard for NSFR will be introduced in 2018.

Note 2: Disclosure requirement regarding Leverage Ratio will start in 2017 and migration to

Pillar I in 2018.

As evident above, the Bank’s current Basel III Ratios are significantly exceeding the minimum limit set

by the CBB (where limits have been defined). The Bank will continue to monitor the Basel III Ratios (as

mandated by the CBB) and will actively seek to optimize their levels.

Documents

FIRST ENERGY BANK B.S.C. (c)1stenergybank.com/wp-content/uploads/2017/08/FEB-Pillar... · 2017-08-22 · First Energy Bank B.S.C. (c) (the "Bank") is a closed shareholding company