Results for the First Quarter Ended 30 June 2012
August 10, 2012
This commentary relates to the interim non-audited financial statements for 3 months ended 30 June 2012.
Group Performance
The DFCC Group recorded a consolidated profit after tax of LKR 713 m for the 1st quarter ended 30 June 2012 compared with LKR 702 m in the corresponding period of the previous year (comparable period).
Apart from the Banking Business which contributed LKR 617m to profit after tax and is analysed below, the investment banking joint venture, Acuity Partners (Pvt) Ltd (APL) contributed LKR 49.5 m in the current period marginally lower than LKR 52 m in the comparable period. The environment was not conducive for investment banking business and the contribution from APL’s core activities was significantly lower than in the previous period. However, APL benefitted from an issue of new shares to minority shareholders by a subsidiary at a premium to net asset value which gave rise to deemed disposal profit of LKR 142 m attributable to APL and recognized in APL’s consolidated income statement. The contribution from all other subsidiaries and associate company collectively was LKR 15.6 m in the current period (LKR 30.5 m in the comparable period).
Banking Business
The Banking Business of the DFCC Group is undertaken by DFCC Bank (DFCC), a licensed specialized bank and 99 % owned subsidiary DFCC Vardhana Bank (DVB), a licensed commercial bank. Both banks function as one economic entity and as such it is appropriate to analyse the consolidated performance of the two banks as DFCC Banking Business (DBB). A consolidated Income statement for DBB has been released to the Colombo Stock Exchange as supplementary financial information. This statement was derived from the interim financial statements with certain adjustments for ease of analysis. Since the financial year of DVB ends in December, the accounts of DVB are consolidated with a 3 month lag.
The interest income of DBB in the current period was LKR 3,242 m, an increase of 54% over LKR 2,099m in the previous comparable period. The higher interest income was the result of portfolio growth with total loans and advances (excluding interest receivable) increasing 45% from LKR 65,527 m on 30 June 2011 to LKR 94,808 m on 30 June 2012, as well as due to the increase in market interest rates by several percentage points during that time. However, the rising trend in interest rates also had an adverse impact on funding cost. The environment was not conducive to raising medium and long term funds from the domestic market as investor appetite for such investments was very low. Mobilization of demand and lower cost savings deposits also became difficult with investor preference shifting to short tenor time deposits. Thus, although DBB increased its customer deposit base by 98% from LKR 26,613 m on 30 June 2011 to LKR 52,634 m on 30 June 2012 there was a shift to higher cost term deposits and this change in the funding mix resulted in interest expense of DBB increasing from LKR980 m in the comparable period to LKR 1,914 m in the current period, an increase of 95%. The interest margin of DBB thus reduced, as was the case for the overall banking sector, and the net interest income of DBB was LKR 1,328 m in the current period recording a modest increase of 19% over LKR 1,119 m in the comparable period.
In early 2012 the Central Bank imposed a credit growth ceiling on banks being one of the policy measures taken to address certain macroeconomic concerns. This restriction and the relatively high interest rate environment resulted in the quarter ended 30 June 2012 recording only a 6.5% growth in credit extended by DBB. There are signs that credit demand is weakening which should lead to higher liquidity in the banking system and less pressure on interest rates as the year progresses.
Other income of DBB was LKR 295 m in the current period, 15% lower when compared to the comparable period. This was mainly due to lower capital gains from disposal of equity investment in an environment where the prices of shares listed on the Colombo Stock Exchange declined on very low turnovers. The gains from the sale of non-affiliated shares reduced from LKR 166 m in the comparable period to LKR 58 m in the current period but were offset in part by higher dividend income and higher fees and commission income recorded by DVB.
Foreign exchange income of the DBB is primarily derived from DVB, the commercial banking arm. Due to its relatively small size DVB did not benefit from translation gains arising from the depreciation of the LKR as much as some of the larger commercial banks which have built up substantial retained profits in their Foreign Currency Banking Units (FCBUs) over an extended period.
Asset quality was maintained with the gross non-performing loan ratio of DBB being maintained at 4.3%, the same as on 31 March 2012 which was a significant improvement to 6.3% one year ago. While managing portfolio quality, DBB continues to recover delinquent loans as evident from LKR 179 m recoveries in the current period a 25% increase over the previous comparable period. These recoveries were largely in DFCC.
DBB was successful in containing operating expenses to a modest 4% increase to LKR 653 m in the current period partly due to the fact that after 2 years of significant investment, expansion of the distribution net work and related increase in head count is not required to be undertaken at the same pace. DBB intends to open 5 new branches in various parts of the island during 2012 of which one branch in Kilinochchi in the Northern Province was opened after 30 June 2012. The ratio of operating expenses to operating income was 40% in the current period compared with 43% in the comparable period. However, the full benefit of the expanded distribution network will only accrue at a later time since DVB’s initiative to expand its personal finance services had to be slowed down due to the prevailing credit ceiling.
The DBB recorded LKR 979 m as operating profit before taxes which was an increase of 11% over the comparable period. Profit after tax (both VAT on financial services and income tax) was LKR 619 m, an increase of 3% over the comparable period. Going forward, the credit ceiling will have an adverse impact on the growth of DVB during the remainder of the year since it had a smaller credit portfolio than DFCC at the end of December 2011. DFCC has room and can expect to grow as previously approved project loans are progressively disbursed.
Investments
The quoted equity investment securities of DFCC are carried at a cost of LKR 4,971m as at 30 June 2012. The aggregate market value of the investments on 30 June 2012 amounted to LKR 13,733 m with an unrealized gain of LKR 8,762 m. The interim non-audited financial statements are not based on the new accounting standards and therefore this unrealized gain is currently not recognized in the financial statements. However, under the new accounting standards all listed shares currently classified as investment securities would be reclassified as available for sale and marked to market and the unrealized gains recognized in the equity of DBB.
Prudential Indicators
The capital adequacy and liquidity ratios continued to be well above the stipulated regulatory minimum. Specific provision cover for the DBB was 78% and unprovided NPL s as a proportion of equity was under 6%. The latest rating review by Fitch Ratings Lanka Limited announced on 2 August 2012 has reaffirmed AA (lka) for DFCC and AA— (lka) for DVB with outlook stable for both banks.
Nihal Fonseka
Chief Executive Officer
9 August 2012
