Financial Statements for the Years Ended December 31, 2007 and 2006 and Independent Auditors’ Report INDEPENDENT AUDITORS’ REPORT
The Board of Directors and Stockholders Cosmos Bank, Taiwan
We have audited the accompanying balance sheets of Cosmos Bank, Taiwan as of December 31, 2007 and 2006, and the related statements of income, changes in stockholders’ equity and cash flows for the years then ended. These financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the Rules Governing the Audit of Financial Statements of Financial Institutions by Certified Public Accountants and auditing standards generally accepted in the Republic of China. Those rules and standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
As stated in Note 15 to the financial statements, the Bank signed individual contracts with asset management companies between 2002 and 2006 to sell nonperforming loans. Based on the Law Governing Mergers of Financial Institutions, the losses on these sales were amortized using the straight-line method over 60 months. The unamortized balance was recorded as deferred loss on the sale of nonperforming loans. Had these losses not been deferred, the carrying values of the losses as of December 31, 2007 and 2006 would have decreased by NT$23,012,779 thousand and NT$32,712,701 thousand, respectively, and retained earnings would have decreased by NT$17,259,584 thousand and NT$24,534,526 thousand, respectively. In addition, the loss after tax would have decreased by $7,204,376 thousand in 2007 and increased by NT$10,478,372 thousand in 2006.
In our opinion, except for the effects of the deferred loss on the sale of the nonperforming loans mentioned in the third paragraph, the financial statements referred to above present fairly in all material respects, the financial position of Cosmos Bank, Taiwan as of December 31, 2007 and 2006 and the results of its operations and its cash flows for the years then ended, in conformity with the Guidelines Governing the Preparation of Financial Reports by Public Banks, requirements of the Business Accounting Law and Guidelines Governing Business Accounting relevant to financial accounting standards, and accounting principles generally accepted in the Republic of China.
- 1 - As stated in Note 3 to the financial statements, Cosmos Bank, Taiwan adopted on January 1, 2006 the newly released Statements of Financial Accounting Standards (“Statements” or SFAS) No. 34 - “Accounting for Financial Instruments” and No. 36 - “Disclosure and Presentation of Financial Instruments” and related revisions of previously released Statements. The Bank also adopted, effective January 1, 2006, the newly revised SFAS No. 25 - “Business Combinations - Accounting Treatment under the Purchase Method,” which provided that goodwill should no longer be amortized and that goodwill should be assessed for impairment periodically. Cosmos Bank, Taiwan began applying SFAS No. 35 - “Accounting for Asset Impairment” on January 1, 2005.
March 25, 2008
Notice to Readers
The accompanying financial statements are intended only to present the financial position, results of operations and cash flows in accordance with accounting principles and practices generally accepted in the Republic of China and not those of any other jurisdictions. The standards, procedures and practices to audit such financial statements are those generally accepted and applied in the Republic of China.
For the convenience of readers, the auditors’ report and the accompanying financial statements have been translated into English from the original Chinese version prepared and used in the Republic of China. If there is any conflict between the English version and the original Chinese version or any difference in the interpretation of the two versions, the Chinese-language auditors’ report and financial statements shall prevail.
- 2 - COSMOS BANK, TAIWAN
BALANCE SHEETS DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, Except Par Value)
Percentage Percentage Increase Increase 2007 2006 (Decrease) 2007 2006 (Decrease) ASSETS Amount Amount % LIABILITIES AND STOCKHOLDERS’ EQUITY Amount Amount %
CASH AND CASH EQUIVALENTS (Note 4) $ 3,009,940 $ 5,618,763 (46 ) DUE TO THE CENTRAL BANK AND OTHER BANKS (Note 16) $ 32,157,167 $ 19,677,269 63
DUE FROM THE CENTRAL BANK AND CALL LOANS TO BANKS (Notes 5 and 27) 40,553,922 34,285,795 18 FINANCIAL LIABILITIES AT FAIR VALUE THROUGH PROFIT OR LOSS (Notes 2, 3 and 6) 15,366 31,214 (51 ) FINANCIAL ASSETS AT FAIR VALUE THROUGH PROFIT OR LOSS (Notes 2, 3, 6 and 17) 195,503 4,223,017 (95 ) SECURITIES SOLD UNDER REPURCHASE AGREEMENTS (Notes 2, 17 and 26) 40,920 2,160,839 (98 )
RECEIVABLES, NET (Notes 2, 7 and 27) 6,504,729 7,055,771 (8 ) PAYABLES (Notes 18 and 26) 4,502,347 5,711,646 (21 )
ASSET HELD FOR SALE (Notes 2 and 8) 212,941 - - DEPOSITS AND REMITTANCES (Notes 19 and 26) 131,126,060 191,104,604 (31 )
DISCOUNTS AND LOANS, NET (Notes 2, 9 and 26) 113,651,805 130,593,007 (13 ) BANK DEBENTURES (Notes 2 and 20) 515,000 13,167,163 (96 )
AVAILABLE-FOR-SALE FINANCIAL ASSETS (Notes 2, 3, 10, 17 and 27) 648,440 1,894,082 (66 ) ACCRUED PENSION LIABILITIES (Notes 2 and 21) 1,053,269 6,041 17,335
EQUITY INVESTMENTS UNDER THE EQUITY METHOD (Notes 2, 3, 11 and 12) 42,749 37,481 14 OTHER FINANCIAL LIABILITIES (Notes 2 and 20) 3,058,197 318,056 862
OTHER FINANCIAL ASSETS, NET (Notes 2, 12 and 27) 1,887,056 12,278,073 (85 ) OTHER LIABILITIES (Note 2) 460,243 620,992 (26 )
FIXED ASSETS (Notes 2 and 13) Total liabilities 172,928,569 232,797,824 (26 ) Cost Land 4,288,952 4,553,582 (6 ) CAPITAL STOCK (NT$10 PAR VALUE; AUTHORIZED: 2007 - 20,000,000 Buildings 2,774,061 2,848,599 (3 ) THOUSAND SHARES; 2006 - 2,500,000 THOUSAND SHARES) Machinery and equipment 1,643,276 1,675,701 (2 ) Common stock (issued and outstanding: 2007 - 6,786,650 thousand shares; Transportation and communications equipment 268,888 281,241 (4 ) 2006 - 1,967,780 thousand shares) 67,866,500 19,677,795 245 Miscellaneous equipment 381,935 401,254 (5 ) Preferred stock (issued and outstanding: 1,650,000 thousand shares) 16,500,000 - - Total cost 9,357,112 9,760,377 (4 ) Accumulated depreciation (2,108,586 ) (1,792,988 ) 18 Total capital stock 84,366,500 19,677,795 329 Accumulated impairment (436,590 ) (176,728 ) 147 6,811,936 7,790,661 (13 ) CAPITAL SURPLUS Construction in progress and prepayments for equipment 35,260 41,511 (15 ) Additional paid-in capital - 927,567 (100 ) Treasury stock transactions - 2,245 (100 ) Net fixed assets 6,847,196 7,832,172 (13 ) Others 15,831,910 12,712 124,443
INTANGIBLE ASSETS (Notes 2, 3, 13 and 26) Total capital surplus 15,831,910 942,524 1,580 Goodwill 327,053 409,776 (20 ) Computer software 62,892 62,243 1 RETAINED EARNINGS (ACCUMULATED DEFICIT) Legal reserve - 777,389 (100 ) Total intangible assets 389,945 472,019 (17 ) Special reserve - 1,813,493 (100 ) Accumulated deficit (67,902,864 ) (11,286,541 ) 502 OTHER ASSETS Refundable deposits, net (Notes 26 and 28) 2,184,800 2,796,110 (22 ) Total accumulated deficit (67,902,864 ) (8,695,659 ) 681 Foreclosed collaterals, net (Notes 2 and 14) 413,880 164,159 152 Deferred loss on the sale of nonperforming loans (Notes 2 and 15) 23,012,779 32,712,701 (30 ) OTHERS Deferred income tax assets, net (Notes 2 and 24) 4,799,212 3,813,426 26 Unrealized gains (losses) on financial instruments 2,978 (30,663 ) 110 Others, net (Notes 2, 13 and 26) 872,196 915,245 (5 ) Total stockholders' equity 32,298,524 11,893,997 172 Total other assets, net 31,282,867 40,401,641 (23 )
TOTAL $ 205,227,093 $ 244,691,821 (16 ) TOTAL $ 205,227,093 $ 244,691,821 (16 )
The accompanying notes are an integral part of the financial statements.
(With Deloitte & Touche audit report dated March 25, 2008)
- 3 - COSMOS BANK, TAIWAN
STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, Except Earnings (Loss) Per Share)
Percentage Increase 2007 2006 (Decrease) Amount Amount %
INTEREST REVENUE (Notes 2 and 26) $ 12,066,082 $ 14,555,747 (17 )
INTEREST EXPENSE (Note 26) (4,214,379 ) (4,362,795 ) (3 )
NET INTEREST 7,851,703 10,192,952 (23 )
NET REVENUES (LOSSES) OTHER THAN INTEREST Service fee income, net (Note 2) 1,160,967 1,208,227 (4 ) Gains on financial assets and liabilities at fair value through profit or loss (Notes 2, 3 and 6) 96,883 447,637 (78 ) Realized gains (losses) on the sale of available-for-sale financial assets (Notes 2 and 22) (29,330 ) 461 (6,462 ) Income from equity investments under the equity method (Notes 2 and 11) 5,268 54,395 (90 ) Foreign exchange gains, net (Note 2) 79,212 43,610 82 Loss on asset impairment (Notes 2, 8, 11, 12, 13, 14, 26 and 28) (1,000,227 ) (934,317 ) 7 Realized gains on the sale of debt instruments with no active market (Note 2) (796,170 ) - - Amortization of loss on the sale of nonperforming loans (Notes 2 and 15) (9,605,835 ) (6,911,364 ) 39 Other noninterest losses (Notes 2 and 12) (126,224 ) (133,045 ) (5 )
Total net losses other than interest (10,215,456 ) (6,224,396 ) 64
TOTAL NET REVENUES (LOSSES) (2,363,753 ) 3,968,556 (160 )
PROVISION FOR LOAN LOSSES (Notes 2 and 9) (7,029,903 ) (11,893,862 ) (41 )
OPERATING EXPENSES (Notes 23 and 26) Personnel (4,194,999 ) (3,187,754 ) 32 Depreciation and amortization (647,636 ) (690,740 ) (6 ) Others (3,507,930 ) (3,062,290 ) 15
Total operating expenses (8,350,565 ) (6,940,784 ) 20
(Continued)
- 4 - COSMOS BANK, TAIWAN
STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, Except Earnings (Loss) Per Share)
Percentage Increase 2007 2006 (Decrease) Amount Amount %
LOSS BEFORE INCOME TAX $ (17,744,221 ) $ (14,866,090 ) 19
INCOME TAX BENEFIT (Notes 2 and 24) 2,750,280 3,553,884 (23 )
LOSS BEFORE CUMULATIVE EFFECT OF CHANGES IN ACCOUNTING PRINCIPLES AND EXTRAORDINARY GAIN (14,993,941 ) (11,312,206 ) 33
EXTRAORDINARY GAIN (NET OF INCOME TAX EXPENSE OF $1,846,575 THOUSAND) (Note 20) 5,539,725 - -
CUMULATIVE EFFECT OF CHANGES IN ACCOUNTING PRINCIPLES (NET OF INCOME TAX EXPENSE OF $5,346 THOUSAND) (Notes 2 and 3) - 25,665 (100 )
NET LOSS $ (9,454,216 ) $ (11,286,541 ) (16 )
2007 2006 Before After BeforeAfter Income Income Income Income Tax Tax PretaxTax LOSS PER SHARE (Note 25) Basic and diluted loss per share Net loss $ (12.35 ) $ (10.44 ) $ (11.28 ) $ (8.58 ) Extraordinary gain 5.14 3.86 - - Cumulative effect of changes in accounting principles - - 0.02 0.02 $ (7.21 ) $ (6.58 ) $ (11.26 ) $ (8.56 )
The accompanying notes are an integral part of the financial statements.
(With Deloitte & Touche audit report dated March 25, 2008) (Concluded)
- 5 - COSMOS BANK, TAIWAN
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, Except Amounts Per Share)
Unrealized Valuation Retained Earnings (Accumulated Deficit) (Notes 2 and 22) Gains or Unappropriated Losses on Capital Stock Issued and Outstanding Capital Surplus (Notes 2, 20 and 22) Retained Financial Common Stock Paid-in Capital Treasury Earnings Instruments Total Shares (in (Notes 2 Preferred in Excess of Stock Special (Accumulated (Notes 2, 3 Stockholders' Thousands) and 22) Stock (Note 22) Par Value Transactions Others Total Legal Reserve Reserve Deficit) Total and 22) Equity
BALANCE, JANUARY 1, 2006 1,771,002 $ 17,710,015 $ - $ 176,404 $ 2,245 $ - $ 178,649 $ 744,058 $ 1,735,722 $ 111,102 $ 2,590,882 $ (82,263 ) $ 20,397,283
Effect of accounting changes ------4,365 4,365
Appropriation of the 2005 earnings Legal reserve ------33,331 - (33,331 ) - - - Special reserve ------77,771 (77,771 ) - - - Issuance of common stock for cash - NT$14.00 per share 196,778 1,967,780 - 751,163 - - 751,163 - - - - - 2,718,943
Issuance of convertible bank debentures - - - - - 12,712 12,712 - - - - - 12,712
Unrealized valuation gains on financial instruments ------47,235 47,235
Net loss in 2006 ------(11,286,541 ) (11,286,541 ) - (11,286,541 )
BALANCE, DECEMBER 31, 2006 1,967,780 19,677,795 - 927,567 2,245 12,712 942,524 777,389 1,813,493 (11,286,541 ) (8,695,659 ) (30,663 ) 11,893,997
Offset of 2006 accumulated deficit Legal reserve ------(777,389 ) - 777,389 - - - Special reserve ------(1,813,493 ) 1,813,493 - - - Capital surplus - - - (927,567 ) (2,245 ) - (929,812 ) - - 929,812 929,812 - -
Capital decrease, July 20, 2007 (590,334 ) (5,903,339 ) ------5,903,339 5,903,339 - -
Issuance of common stock for cash, NT$2 per share 3,300,000 33,000,000 ------(26,451,880 ) (26,451,880 ) - 6,548,120
Issuance of preferred stock for cash, NT$2 per share 1,650,000 - 16,500,000 ------(13,225,940 ) (13,225,940 ) - 3,274,060
Issuance of common stock from convertible bank debentures, NT$2 per share 2,109,204 21,092,044 ------(16,908,320 ) (16,908,320 ) - 4,183,724
Equity component of subordinated unsecured mandatory convertible bonds - - - - - 15,819,198 15,819,198 - - - - - 15,819,198
Net loss in 2007 ------(9,454,216 ) (9,454,216 ) - (9,454,216 )
Unrealized valuation gains on financial instruments ------33,641 33,641
BALANCE, DECEMBER 31, 2007 8,436,650 $ 67,866,500 $ 16,500,000 $ - $ - $ 15,831,910 $ 15,831,910 $ - $ - $ (67,902,864 ) $ (67,902,864 ) $ 2,978 $ 32,298,524
The accompanying notes are an integral part of the financial statements.
(With Deloitte & Touche audit report dated March 25, 2008)
- 6 - COSMOS BANK, TAIWAN
STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars)
2007 2006
CASH FLOWS FROM OPERATING ACTIVITIES Net loss $ (9,454,216 ) $ (11,286,541 ) Extraordinary gain (5,539,725 ) - Cumulative effect of changes in accounting principles - (25,665 ) Deferred income tax (2,832,361 ) (3,631,062 ) Depreciation and amortization expenses 647,636 690,740 Provision for pension cost 1,047,228 2,468 Provision for loan losses 7,029,903 11,893,862 Recovery of loans and receivables written off in prior year 2,064,452 833,413 Loss on sale of debt instruments with no active market 796,170 - Gain on disposal of financial assets carried at cost, net (30,124 ) (1,706 ) Loss (gain) on sale of properties and foreclosed collaterals, net 3,600 (77,992 ) Amortization of loss on the sale of nonperforming loans 9,605,835 6,911,364 Loss on asset impairment 1,000,227 934,317 Income from equity investments under the equity method (5,268 ) (54,395 ) Loss (gain) on the sale of available for sale financial assets, net 29,330 (461 ) Gains on financial assets and liabilities at fair value through profit or loss, net (96,883 ) (447,637 ) Amortization of discount on debt instruments with no active market (121 ) (138,889 ) Amortization of discount on convertible bank debentures 64,908 26,424 Acquisition of financial assets carried at cost - (9,079 ) Net changes in operating assets and liabilities Financial assets at fair value through profit or loss 4,148,714 23,296,384 Financial liabilities at fair value through profit or loss (40,165 ) (66,984 ) Receivables 736,110 3,427,756 Other financial assets 2,660,755 (2,416,257 ) Other assets (242,280 ) (58,302 ) Payables (1,458,291 ) 1,030,565 Other liabilities 111,257 26,566 Reserve for operations and liabilities 31,812 (48,677 )
Net cash provided by operating activities 10,278,503 30,810,212
CASH FLOWS FROM INVESTING ACTIVITIES Increase in due from the Central Bank and call loans to banks (6,268,127 ) (25,807,698 ) Decrease in securities purchased under resell agreements - 3,050,742 Proceeds of the sale of nonperforming loans 27,457 816,272 Proceeds of the feedback from the sale of nonperforming loans 66,630 - Payment of cash for the repurchase of nonperforming loans - (172 ) Decrease (increase) in discounts and loans 8,538,919 (10,136,896 ) Proceeds of the sale of financial assets carried at cost 39,203 15,361 Acquisition of available-for-sale financial assets - (400,000 ) Proceeds of the sale of available-for-sale financial assets 1,249,953 2,019,236 Acquisition of debt instruments with no active market - (642,688 ) Proceeds of the sale of debt instruments with no active market 6,060,148 1,727,119
(Continued)
- 7 - COSMOS BANK, TAIWAN
STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars)
2007 2006
Acquisition of properties $ (38,197 ) $ (121,135 ) Proceeds of the sale of properties 5 37 Decrease in refundable deposits 238,110 368,556 Increase in intangible assets (10,654 ) (38,246 ) Acquisition of foreclosed collaterals (417,112 ) (55,573 ) Proceeds of the sale of foreclosed collaterals 116,688 126,228 Increase in other assets - other (50,760 ) (40,984 )
Net cash provided by (used in) investing activities 9,552,263 (29,119,841 )
CASH FLOWS FROM FINANCING ACTIVITIES Issuance of common stock for cash 6,600,000 2,718,943 Issuance of preferred stock for cash 3,300,000 - Issuance of subordinated unsecured mandatory convertible bank debentures - capital surplus 15,944,124 - Issuance of subordinated unsecured mandatory convertible bank debentures - other financial liabilities 2,711,436 - Increase (decrease) in due to the Central Bank and other banks 12,479,898 (2,114,373 ) Decrease in securities sold under repurchase agreements (2,119,919 ) (3,386,733 ) Decrease in deposits and remittances (59,978,544 ) (10,917,071 ) Increase in other financial liabilities 58,195 157,834 Decrease in other liabilities (304,492 ) (336,664 ) Increase (decrease) in bank debentures (1,130,291 ) 13,153,451
Net cash used in financing activities (22,439,593 ) (724,613 )
EFFECTS OF CHANGES IN EXCHANGE RATE 4 46,428
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (2,608,823 ) 1,012,186
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 5,618,763 4,606,577
CASH AND CASH EQUIVALENTS, END OF YEAR $ 3,009,940 $ 5,618,763
SUPPLEMENTARY OF CASH FLOW INFORMATION Interest paid $ 4,327,661 $ 4,469,637 Income tax paid $ 6,768 $ 68,543
(Continued)
- 8 - COSMOS BANK, TAIWAN
STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars)
2007 2006
EFFECT ON CASH FLOWS BY INVESTING ACTIVITIES Issuance of common stock from convertible bank debentures $ 12,735,000 Less: Extraordinary gains (7,386,300 ) Less: Transfer into common stock (4,218,409 ) Payment in cash $ 1,130,291 Carrying values of sold nonperforming loans $ 21,919,877 Less: Deferred loss on the sale of nonperforming loans (20,782,560 ) Transfer price 1,137,317 Less: Other receivables (321,045 ) Proceeds of the sale of nonperforming loans $ 816,272 Carrying values of transferred nonperforming loans $ 103,239 Shares of Yang-Kuan Asset Management Corporation acquired in exchange for nonperforming loans (3,445 ) Deferred loss on the sale of nonperforming loans (99,966 ) Payment of cash for repurchase of nonperforming loans $ (172 )
NONCASH INVESTING ACTIVITIES Reducing capital to offset accumulated deficit $ 5,903,339 Fixed assets transferred to held-for-sale assets $ 326,971 Fixed assets and construction in progress transferred to other assets $ 25,936
The accompanying notes are an integral part of the financial statements.
(With Deloitte & Touche audit report dated March 25, 2008) (Concluded)
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COSMOS BANK, TAIWAN
NOTES TO FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, Unless Stated Otherwise)
1. ORGANIZATION AND OPERATIONS
Cosmos Bank, Taiwan (the “Bank”) engages in banking activities permitted by the Banking Law.
As of December 31, 2007, the Bank had a main office, an offshore banking unit (OBU) and 62 domestic branches.
The business of the Bank’s Trust Department includes planning, managing and operating business of trust regulated under the Banking Law and Trust Law of the Republic of China (ROC).
The shares of the Bank have been traded on the Taiwan Stock Exchange (TSE) since June 29, 1998. Under the TSE’s operating rules and regulations, the Bank had to change on September 5, 2007 the way it traded its shares because its financial statements for the six months ended June 30, 2007 revealed that its net asset value was less than half of its paid-in capital.
As of December 31, 2007 and 2006, the Bank had 3,015 and 3,298 employees, respectively.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The Bank’s financial statements have been prepared in conformity with the Guidelines Governing the Preparation of Financial Reports by Public Banks, Business Accounting Law, Guidelines Governing Business Accounting, and accounting principles generally accepted in the Republic of China. In preparing financial statements in conformity with these guidelines and principles, the Bank is required to make certain estimates and assumptions that could affect the amounts of allowance for possible losses, reserve for losses on guarantees, property depreciation, impairment loss on assets, the valuation of the financial instruments at fair value, pension, income tax, and accrued litigation loss. Actual results could differ from these estimates.
Since the operating cycle in the banking industry cannot be reasonably identified, accounts included in the Bank’s financial statements are not classified as current or noncurrent. Nevertheless, these accounts are properly categorized according to the nature of each account and sequenced by liquidity. Please refer to Note 29 for the maturity analysis of assets and liabilities.
For the convenience of readers, the accompanying financial statements have been translated into English from the original Chinese version prepared and used in the ROC. If there is any conflict between the English version and the original Chinese version or any difference in the interpretation of the two versions, the Chinese-language financial statements shall prevail.
The Bank’s significant accounting policies are summarized as follows:
Basis of Preparation
The accompanying financial statements include the accounts of the Head Office, OBU, and all branches. All interoffice transactions and balances have been eliminated.
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Financial Instruments at Fair Value Through Profit or Loss
Financial instruments classified as financial assets or financial liabilities at fair value through profit or loss (“FVTPL”) include financial assets or financial liabilities held for trading and those designated as at FVTPL on initial recognition. The Bank recognizes a financial asset or a financial liability on its balance sheet when the Bank becomes a party to the contractual provisions of the financial instrument. A financial asset is derecognized when the Bank has lost control of its contractual rights over the financial asset. A financial liability is derecognized when the obligation specified in the relevant contract is discharged, cancelled or expired.
Financial instruments at FVTPL are initially measured at fair value. Transaction costs directly attributable to the acquisition of financial assets or financial liabilities at FVTPL are recognized immediately in profit or loss. At each balance sheet date subsequent to issue of initial recognition, financial assets or financial liabilities at FVTPL are remeasured at fair value, with changes in fair value recognized directly in profit or loss in the year in which they arise. On derecognition of a financial asset or a financial liability, the difference between its carrying amount and the sum of the consideration received and receivable or consideration paid and payable is recognized in profit or loss. All regular way purchases or sales of financial assets are recognized and derecognized on a trade date basis.
Financial instruments used in derivative transactions that do not qualify for hedge accounting are classified as financial assets or liabilities held for trading. If the fair value of a derivative is a positive number, the derivative is carried as an asset, and, if the fair value is a negative number, the derivative is carried as a liability.
Fair values are determined as follows: (a) short-term bills - at reference prices published by Reuters; (b) bonds - at year-end reference prices published by GreTai Securities Market (GTSM); and (c) listed stocks and the GTSM stocks - at closing prices as of the balance sheet date; and (d) financial assets/liabilities without quoted prices in an active market - at values determined using valuation techniques.
Securities Purchased/Sold Under Resell/Repurchase Agreements
Securities purchased under resell agreements and securities sold under repurchase agreements are generally treated as collateralized financing transactions. Interest earned on resell agreements or interest incurred on repurchase agreements is recognized as interest income or interest expense over the life of each agreement.
Overdue Loans
Under Ministry of Finance (MOF) guidelines, the Bank classifies loans and other credits (including accrued interest) overdue for at least six months as overdue loans.
Overdue loans (except other credits) are classified as discounts and loans, and other credits are classified as other financial assets.
Allowances for Possible Losses and Reserve for Losses on Guarantees
The Bank makes provisions for bad debts and losses on guarantees based on the evaluation of loans, overdue loans, bills, discounts, receivables, guarantees and acceptances for their specific or general risks.
Debts and guarantees with specific risks are evaluated internally for their collaterals, collectibility and customers’ overall credits. Under MOF guidelines, the Bank makes 100%, 50%, 10% and 2% provisions for credits deemed uncollectible, highly uncollectible, substandard and special mention, respectively, as minimum provisions for possible losses.
Under MOF guidelines and consideration of the collectible ability and the collateral value, overdue loans and credits deemed uncollectible would be written off when the write-offs are approved by the Board of Directors.
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Available-for-sale Financial Assets
Available-for-sale financial assets are initially recognized at fair value plus transaction costs that are directly attributable to the financial asset acquisition. When assets are subsequently measured at fair value, the changes in fair value are excluded from earnings and reported as a separate component of stockholders’ equity. The accumulated gains or losses are recognized as earnings when the financial asset is de-recognized from the balance sheet. The Bank uses trade date accounting when recording transactions.
Cash dividends are recognized on the ex-dividend date, except for dividends distributed from the pre-acquisition profit, which are treated as a reduction of investment cost. Stock dividends are not recognized as investment income but are recorded as an increase in the number of shares. The total number of shares subsequent to the increase is used for recalculation of cost per share. The difference between the initial cost of a debt instrument and its maturity amount is amortized using the effective interest method (or: Straight-line method can be used if there will be no significant difference), with the amortized interest recognized in profit or loss.
If an available-for-sale financial asset is determined to be impaired, a loss is recognized. If the impairment loss on equity securities decreases, this loss is reversed to the extent of the decrease and recorded as an adjustment to stockholders’ equity, and, for debt securities, the loss is recognized as earnings.
Equity Investments under the Equity Method
Investments in which the Bank holds 20% or more of the investees’ voting shares or exercises significant influence over the investees’ operating and financial policy decisions are accounted for by the equity method.
The difference between the investment cost and net equity investment is amortized over 10 years. However, under the revised Statement of Financial Accounting Standards No. 5 - “Long-term Investments in Equity Securities,” since January 1, 2006, goodwill no longer needs to be amortized.
Goodwill should be tested for impairment annually or more frequently if any situation indicates an impairment loss.
If the percentage held by the Bank declines or the Bank loses significant influence over the investee, the Bank will stop using the equity method to recognize the investment and will instead recognize the investment book value at cost, as required under Statement of Financial Accounting Standards No. 34 - “Accounting for Financial Instruments.” If the Bank significant influence over an investee, it should change the accounting treatment for the investment from the equity method to the cost method, and any unrealized gain or loss should be regarded as realized and recognized immediately.
For equity-method investments, stock dividends received are recognized only as increases in the number of shares held, and not as income. Cost of equity investments sold is determined by the weighted-average method.
Other Financial Assets
Investments in equity instruments (including unlisted stocks) with no quoted market prices in an active market and with fair values that cannot be reliably measured, are recognized at cost on acquisition. If there is objective evidence that a financial asset is impaired, an impairment loss is recognized. However, impairment loss reversal is prohibited.
Debt instruments with no active market are those without quoted market prices in an active market and with fair values that cannot be reliably measured. These instruments are carried at amortized cost.
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An impairment loss is recognized when there is objective evidence that the investment is impaired. The impairment loss is reversed if an increase in the investment’s recoverable amount is due to an event which occurred after the impairment loss was recognized; however, the adjusted carrying amount of the investment may not exceed the carrying amount that would have been determined had no impairment loss recognized for the investment in prior years.
Fixed Assets
Fixed assets are carried at cost less accumulated depreciation. Major betterments, additions and renewals are capitalized, while repairs and maintenance are expensed as incurred.
Depreciation is computed using the straight-line method over service lives initially estimated as follows (plus one year to represent estimated salvage value): buildings, 42 to 60 years; machinery and equipment, 3 to 6 years; transportation and communications equipment, 2 to 15 years; and miscellaneous equipment, 2 to 10 years. Properties that have reached their residual values but are still being used are depreciated over their newly estimated service lives.
Upon sale or other disposal of properties, the related cost and accumulated depreciation are removed from the accounts, and any gain or loss is credited or charged to net nonoperating income.
Assets Held for Sale
Assets held for sale are initially measured at the lower of the book value of the assets before they were classified as held for sale or the net fair value. An impairment loss is recognized when the net fair value is lower than the book value. The impairment loss is reversed if an increase in the investment recoverable amount is due to an event that occurred after the impairment loss was recognized; however, the adjusted carrying amount of the investment may not exceed the carrying amount that would have been determined had no impairment loss recognized for the investment in prior years.
Assets classified as held for sale cannot be depreciated, depleted, or amortized.
Intangible Assets
Computer software was amortized over 5 years. Goodwill was amortized over 10 years. However, effective January 1, 2006, under the newly revised Statement of Financial Accounting Standards No. 25 - “Business Combinations - Accounting Treatment under Purchase Method,” goodwill is no longer amortized and is assessed for impairment at least annually.
Foreclosed Collaterals
Foreclosed collaterals are recorded at the lower of cost or net realizable value on the balance sheet date. If collaterals assumed are not disposed of within the statutory period, relevant regulations require that the Bank should either apply for the extension of the disposal period or increase its provision for possible losses.
Deferred Loss on the Sale of Nonperforming Loans
In compliance with the Law Governing Mergers of Financial Institutions, loss on the sale of nonperforming loans is amortized using the straight-line method over 60 months.
Asset Impairment
Under Statement of Financial Accounting Standards No. 35 - “Accounting for Asset Impairment,” the Bank evaluates impairment on the balance sheet date if an asset (equity investment under the equity method, fixed asset, asset held for sale, goodwill, foreclosed collateral, idle asset and deferred charge classified under other assets - other) is impaired.
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If an asset is impaired, its recoverable amount is compared with its carrying amount. If the recoverable amount is lower than the carrying amount, the carrying amount of the asset should be reduced to its recoverable amount, and the reduction should be recognized as impairment loss. Then, the adjusted carrying amount of the asset less its residual value should be used to compute the depreciation (amortization) expense by applying a reasonable and systematic method over the remaining useful life of the asset. The accumulated impairment loss of an asset (except goodwill) recognized in prior years should be reversed if the recoverable amount increases. In addition, the asset carrying amount should be increased to its recoverable amount, but this increase should not exceed the carrying amount of the asset that would have been determined net of depreciation or amortization had no impairment loss been recognized for the asset in prior years.
Bank Debentures
For convertible bonds issued on or after January 1, 2006, the Bank first determines the carrying amount of the liability component by measuring the fair value of a similar liability (including any embedded non-equity derivatives) that does not have an associated equity component, then determines the carrying amount of the equity component, representing the equity conversion option, by deducting the fair value of the liability component from the fair value of the convertible bonds as a whole. The liability component (excluding the embedded non-equity derivatives) is measured at amortized cost using the effective interest method, while the embedded non-equity derivatives are measured at fair value. Upon conversion, the Bank uses the aggregate carrying amount of the liability and equity components of the bonds at the time of conversion as a basis to record the common shares issued.
Pursuant to a newly released SFAS, transaction costs of bonds issued on or after January 1, 2006 are allocated in proportion to the liability and equity components of the bonds. Transaction costs allocated to the equity component are accounted for as a deduction from equity, net of any income tax benefit.
Pension Costs
The Bank has two types of pension plans: Defined benefit and defined contribution.
Under the defined benefit pension plan, pension costs are recorded on the basis of actuarial calculations. Unrecognized net transition obligation is amortized over 15 years, and prior service cost and actuarial gains or losses are amortized over the employees’ remaining service years using the straight-line method. Under the defined contribution pension plan, the Bank recognizes its required monthly contributions to employees’ individual pension accounts as current expense during the employees’ service periods.
Recognition of Interest Revenue and Service Fees
Interest revenue on loans is recorded on an accrual basis. Under MOF regulations, no interest revenue is recognized on loans and other credits extended by the Bank that are classified as overdue loans. The interest revenue on those loans is recognized upon collection.
The unpaid interest on rescheduled loans should be recorded as deferred revenue (included in other liabilities), and the paid interest is recognized as interest revenue.
Service fees are recorded when a major part of the earnings process is completed and revenue is realized.
Income Tax
Provision for income tax is based on intra-period and inter-period tax allocation. The tax effects of deductible temporary differences, unused tax credits, operating loss carryforwards and debit of stockholders’ equity adjustments are recognized as deferred income tax assets, and those of taxable temporary differences and credits to stockholders’ equity adjustments are recognized as deferred income tax liabilities. Valuation allowance is provided for deferred income tax assets that are not certain to be realized.
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Tax credits for personnel training and stock investments are recognized in the current period.
Income tax on interest in short-term negotiable instruments or special-purpose trust beneficiary certificates, which is levied separately, and any adjustment of income taxes of prior years are added to or deducted from the current year’s income tax expense.
Income taxes (10%) on undistributed earnings generated annually since 1998 are recorded as expenses in the year when the stockholders resolve to retain the earnings.
Foreign-currency Transactions
The Bank records foreign-currency transactions in the respective currencies in which these are denominated. Every month-end, foreign currency income and expenses are translated into New Taiwan dollars at the month-end exchange rate. On the balance sheet date, monetary assets and liabilities denominated in foreign currencies are reporting using the month-end exchange rates, and exchange differences are recognized in the income statement.
Unrealized exchange differences on nonmonetary financial assets (investments in equity instruments) are a component of the change in their entire fair value. For nonmonetary financial assets and liabilities classified as financial instruments measured at fair value through profit or loss, unrealized exchange differences are recognized in the income statement. For nonmonetary financial instruments that are classified as available-for-sale, unrealized exchange differences are recorded directly under stockholders’ equity until the asset is sold or becomes impaired. Nonmonetary financial instruments that are classified as carried at cost are recognized at the exchange rates on the transaction dates.
Contingencies
A loss is recognized when it is probable that an asset has been impaired or a liability has been incurred and the amount of loss can be reasonably estimated. A footnote disclosure is made of the situation that might result in a possible loss but the amount of loss cannot be reasonably estimated.
Reclassifications
Certain accounts for the year ended December 31, 2006 had been reclassified to be consistent with the presentation of the financial statements for the year ended December 31, 2007.
3. ACCOUNTING CHANGES
On January 1, 2007, the Company adopted the newly released Statements of Financial Accounting Standards (SFAS) No. 37, “Accounting for Intangible Assets” and reassessed the useful lives of and the amortization method for its recognized intangible assets as of the same date. The adoption did not result in a significant influence on the financial statement for the year ended December 31, 2007.
Effective January 1, 2006, the Bank adopted the newly released SFAS No. 34 - “Accounting for Financial Instruments” and No. 36 - “Disclosure and Presentation of Financial Instruments” and related revisions of previously released Statements.
The Bank reclassified its financial assets and liabilities upon initial adoption of the newly released Statements. The adjustments made to the carrying amounts of the financial instruments categorized as financial assets or financial liabilities at fair value through profit or loss were included in the cumulative effect of changes in accounting principles. On the other hand, the adjustments made to the carrying amounts of those categorized as measured at amortized cost or available-for-sale financial assets were recognized as adjustments to stockholders’ equity.
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The effect of asset and liability reclassifications based on the accounting changes on January 1, 2006 is summarized as follows:
Cumulative Effect of Changes in Stockholders’ Accounting Equity Principles Adjustments (Net of Income (Net of Income Tax) Tax)
Financial assets at fair value through profit or loss $ 43,437 $ - Available-for-sale financial assets - 4,365 Financial liabilities at fair value through profit or loss (17,772 ) -
$ 25,665 $ 4,365
Effective January 1, 2006, the Bank adopted the newly revised SFAS No. 5 - “Long-term Investments in Equity Securities” and No. 25 - “Business Combinations - Accounting Treatment under the Purchase Method.” As a result, goodwill is no longer amortized and is assessed for impairment periodically. These accounting changes also resulted in a decrease of $50,776 thousand in the net loss from operating departments in 2006 (including a decrease of net loss $71,953 thousand in goodwill amortized and a increase of net loss $21,177 thousand in surplus of equity investment under equity method), and a decrease of $0.03 loss per share.
4. CASH AND CASH EQUIVALENTS
December 31 2007 2006
Cash on hand $ 2,219,443 $ 2,695,773 Due from banks 471,833 859,658 Checks for clearing 318,664 2,063,332
$ 3,009,940 $ 5,618,763
5. DUE FROM THE CENTRAL BANK AND CALL LOANS TO BANKS
December 31 2007 2006
Call loans to banks $ 25,409,465 $ 5,033,319 Reserves for deposits - a/c A 11,495,900 1,964,180 Reserves for deposits - a/c B 3,348,543 4,828,276 Deposits 200,014 250,020 Deposit in the Central Bank 100,000 22,210,000
$ 40,553,922 $ 34,285,795
As required by law, the reserves for deposits in the Central Bank (“Central Bank”) are calculated by applying the prescribed rates to the average monthly balances of various types of deposit accounts. The use of reserves for deposits - a/c B is restricted by the Central Bank.
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6. FINANCIAL INSTRUMENTS AT FAIR VALUE THROUGH PROFIT OR LOSS (FVTPL)
December 31 2007 2006 Held-for-trading financial assets
Government bonds $ 149,550 $ 158,534 Bill investments 31,099 3,149,897 Cross-currency swap contracts 13,436 48,407 Foreign-currency swap contracts 1,418 - Listed stocks - domestic - 866,179
$ 195,503 $ 4,223,017
Held-for-trading financial liabilities
Cross-currency swap contracts $ 13,436 $ 31,172 Foreign-currency swap contracts 1,930 - Forward contracts - 42
$ 15,366 $ 31,214
The Bank engages in derivative transactions mainly to hedge its exchange rate and interest rate exposures. The Bank’s financial hedging policy is to reduce or minimize its market price or cash flow exposures.
Outstanding derivative contracts as of December 31, 2007 and 2006 were as follows:
December 31 2007 2006
Cross-currency swap contracts $ 885,605 $ 2,391,828 Foreign-currency swap contracts 223,437 - Forward exchange contracts - 5,208
Net gains on financial assets held for trading for the years ended December 31, 2007 and 2006 were $121,201 thousand and $478,851 thousand, respectively. The net loss on financial liabilities at FVTPL in 2007 and 2006 were $24,318 thousand and $31,214 thousand.
The gains (losses) on financial assets and liabilities at FVTPL for the years ended December 31, 2007 and 2006 were as follows:
2007 2006 Financial assets designated as at FVTPL
Realized gains (losses) $ 157,848 $ (179,910 ) Valuation gains (losses) (36,647 ) 658,761 121,201 478,851 Financial liabilities designated as at FVTPL
Valuation losses (24,318 ) (31,214 )
$ 96,883 $ 447,637
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7. RECEIVABLES, NET
December 31 2007 2006
Credit cards $ 4,285,252 $ 5,255,428 Accounts receivable - no recourse 1,151,527 - Accrued interest 610,931 1,133,339 Acceptances 78,695 123,256 Accrued income 22,474 75,389 Receivables from sales of nonperforming loans - 321,045 Others 415,031 389,120 6,563,910 7,297,577 Less allowance for possible losses (59,181 ) (241,806 )
$ 6,504,729 $ 7,055,771
8. ASSETS HELD FOR SALE
December 31, 2007
Land held for sale $ 264,631 Buildings held for sale 62,340 326,971 Accumulated impairment loss (114,030 )
$ 212,941
As of December 31, 2007, the Bank intended to dispose of idle land and buildings in the next year. The land and buildings were previously used for the Bank’s auto service division or warehouses, and a search is underway for a buyer. An impairment loss of $114,030 thousand on these assets as of December 31, 2007 was recognized. This sale plan was approved by the Board of Directors on January 16, 2008.
9. DISCOUNTS AND LOANS, NET
December 31 2007 2006
Bills negotiated $ 34,791 $ 19,261 Discounts - 5,385 Overdraft 693 2,692 Loans Short-term 50,539,442 66,938,393 Medium-term 43,185,180 44,482,170 Long-term 22,480,989 25,512,043 Overdue loans 3,719,243 3,078,633 119,960,338 140,038,577 Less allowance for possible losses (6,308,533 ) (9,445,570 )
$ 113,651,805 $ 130,593,007
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As of December 31, 2007 and 2006, the balances of loans, for which accrual of interest revenues was discontinued, were $3,606,957 thousand and $2,996,947 thousand, respectively. The unrecognized interest revenues on these loans were $431,114 thousand and $262,275 thousand in 2007 and 2006, respectively.
In 2007 and 2006, the Bank wrote off certain loans after carrying out the required legal procedures.
The details and changes in allowance for possible losses on discounts and loans are summarized below:
December 31, 2007 Specific General Risk Risk Total
Balance, January 1, 2007 $ 8,858,417 $ 587,153 $ 9,445,570 Provisions 6,229,135 178,613 6,407,748 Recovery of written-off credits 1,994,534 - 1,994,534 Write-offs (11,530,048 ) - (11,530,048 ) Effects of exchange rate changes (9,271 ) - (9,271 )
Balance, December 31, 2007 $ 5,542,767 $ 765,766 $ 6,308,533
December 31, 2006 Specific General Risk Risk Total
Balance, January 1, 2006 $ 2,172,940 $ 132,739 $ 2,305,679 Provisions 11,253,361 454,414 11,707,775 Recovery of written-off credits 788,228 - 788,228 Write-offs (5,355,178 ) - (5,355,178 ) Effects of exchange rate changes (934 ) - (934 )
Balance, December 31, 2006 $ 8,858,417 $ 587,153 $ 9,445,570
The details of the provision for loan losses in 2007 and 2006 were as follows:
2007 2006
Provisions for possible losses on discounts and loans $ 6,407,748 $ 11,707,775 Provision/reversal for possible losses on receivables (185,068 ) 179,493 Overdue accounts receivable and other assets 806,549 6,594 Reserves for guarantees 674 -
$ 7,029,903 $ 11,893,862
10. AVAILABLE-FOR-SALE FINANCIAL ASSETS
December 31 2007 2006
Government bonds $ 648,440 $ 1,747,423 Listed stocks - domestic - 146,659
$ 648,440 $ 1,894,082
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11. EQUITY INVESTMENTS UNDER THE EQUITY METHOD
December 31 2007 2006 % of % of Carrying Owner- Carrying Owner- Value ship Value ship
Reliance Securities Investment Trust Corporation, Ltd. (RSIT) $ 42,749 20.00 $ 37,481 20.00
The equity-method investee’s financial statements as of December 31, 2007 and 2006, on which the calculation of investment carrying value and the related income was based, had been audited. As of December 31, 2007 and 2006, net income on this investment was $5,268 thousand and $54,395 thousand, respectively.
The difference between the cost of the investment in RSIT and the Bank’s equity in RSIT’s net assets was resulted from goodwill. The impairment loss of this goodwill as of December 31, 2006 was $32,394 thousand.
12. OTHER FINANCIAL ASSETS, NET
December 31 2007 2006
Debt instruments with no active market $ 925,315 $ 7,781,512 Financial assets carried at cost 761,210 770,289 Others 200,531 3,726,272
$ 1,887,056 $ 12,278,073
a. Debt instruments with no active market were as follows:
December 31 2007 2006
Special-purpose trust beneficiary certificates $ 893,435 $ 1,010,071 Leveraged spread notes 31,880 31,759 Mortgage and asset-backed securities guaranteed by U.S. government - 4,975,238 Zero-coupon bonds - 1,764,444
$ 925,315 $ 7,781,512
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b. Financial assets carried at cost were as follow:
December 31 2007 2006 % of % of Carrying Owner- CarryingOwner- Value ship Value ship Unlisted common stock with no quoted market price CDIB & Partners Investment Holding Ltd. $ 500,000 4.95 $ 500,000 4.95 Taiwan Asset Management Corporation 100,000 0.57 100,000 0.57 Euroc II Venture Capital Corporation 60,000 7.50 60,000 7.50 Financial Information Service Co., Ltd. 49,120 1.23 49,120 1.23 Euroc III Venture Capital Corp. 30,000 5.00 30,000 5.00 Taiwan International Future Co. Ltd. 10,250 0.51 10,250 0.51 Taiwan Depository & Clearing Corp. 6,345 0.08 6,345 0.08 Yang-Kuan Asset Management Corporation 3,445 5.74 3,445 5.74 Lien-An Service Co. 1,250 5.00 1,250 5.00 Taipei Forex Inc. 800 0.40 800 0.40 Cosmos Construction Management Corporation (CCMC) - 9.39 - 9.39 Master Card Incorporated Confidential - - 9,079 -
$ 761,210 $ 770,289
In August 2006, Cosmos Construction Management Corporation (CCMC) issued common shares for cash. However, because the Bank did not subscribe for these newly issued shares, it ceased to have significant influence over CCMC. Thus, the accounting method for this investment was changed from the equity method to the cost method, and there were reversals of (a) investment credits amounting to $60,000 thousand under the equity method (classified as income from equity investments under the equity method) and (b) an unrealized gain of $42,537 thousand on prior years’ downstream transactions (classified as other noninterest loss).
c. Other financial assets were as follow:
December 31 2007 2006
Pledged certificates of deposits $ 199,385 $ - Exchange rate-linked instruments - 3,424,487 Interest rate-linked instruments - 300,000 Others 1,146 1,785
$ 200,531 $ 3,726,272
Options embedded in exchange rate-linked and interest rate-linked instruments held by the Bank as of December 31, 2006 were separated from the main contracts and recognized as financial assets at fair value through profit or loss. As of December 31, 2007, these instruments had matured.
In 2006, the Bank recognized an impairment loss of $25,870 thousand on the temporary debit for the disposal of foreclosed collaterals listed in other financial assets - others because these collaterals were not easy to dispose of and the deadline set by the authorities for their disposal had expired.
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13. FIXED ASSETS
Accumulated depreciation and impairment consisted of:
December 31 2007 2006 Accumulated depreciation Buildings $ 401,048 $ 356,796 Machinery and equipment 1,162,714 932,072 Transportation and communications equipment 211,440 181,475 Miscellaneous equipment 333,384 322,645
$ 2,108,586 $ 1,792,988
Accumulated impairment Land $ 277,575 $ 88,175 Buildings 89,597 72,013 Machinery and equipment 54,738 10,848 Transportation and communications equipment 7,851 3,626 Miscellaneous equipment 6,829 2,066
$ 436,590 $ 176,728
Before October 2007, when testing assets for impairment, the Bank defined each branch or operating unit as a cash-generating unit (CGU). However, to enhance operations, management, and measurement of productivity and efficiency of functions, the Bank began to define each product line as a CGU in October 2007. Thus, the Bank allocated unamortized goodwill to branches or operating units resulting from the acquisition of a credit cooperative.
The recoverable amount of a CGU is determined at its value in use, and the key assumptions on the economic conditions that will occur over the remaining useful life of the CGU, such as estimated future cash flows, are based on each CGU’s operations or objective data on its business cycle. Under the assumption of sustainable operations, the Bank estimated each CGU’s net cash flow for the next five years. In 2007 and 2006, the Bank estimated the future operating cash flows of the Bank and of stockholders’ equity, respectively. As of December 31, 2007 and 2006, the discount rates for future cash flows were 4.07% for the weighted average cost of capital (WACC) and 8.78% for the cost of equity, respectively.
In 2007, the Bank recognized impairment losses of $259,862 thousand on fixed assets; $44,716 thousand on other deferred changes; and $82,723 thousand on goodwill.
In 2006, the Bank recognized impairment losses of $167,227 thousand on fixed assets; $22,422 thousand on other deferred charges; and $7,103 thousand on goodwill.
14. FORECLOSED COLLATERALS, NET
December 31 2007 2006
Foreclosed collaterals $ 504,117 $ 850,007 Accumulated impairment (90,237 ) (685,848 )
$ 413,880 $ 164,159
The Bank tested for impairment of the foreclosed collaterals at their fair value less selling costs and recognized impairment losses of $47,649 thousand and $637,922 thousand in 2007 and 2006, respectively.
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15. DEFERRED LOSS ON THE SALE OF NONPERFORMING LOANS
Between 2002 and 2006, the Bank signed contracts to sell the following nonperforming loans:
a. In 2002, the Bank signed contracts with China Long Sheng Assets Management Co. (CLSAMC), Taiwan Assets Management Co. (TAMC) and Long Xing Sheng Assets Management Co. (LXSAMC) to sell nonperforming loans of $6,240,239 thousand, $5,909,915 thousand and $2,753,317 thousand, respectively. These transactions, with a total selling price of $2,078,868 thousand, resulted in a loss of $12,824,603 thousand.
LXSAMC committed that if, within five years from the contract date, there are proceeds of the sale of nonperforming loans, 30% of these proceeds net of the yield amount, related tax and litigation expenses and necessary administrative expenditures should be returned to the Bank. In 2007, the Bank received these proceeds of $6,519 thousand (treated as a reduction of deferred loss on the sale of nonperforming loans).
b. In 2003, the Bank signed contracts with Taiwan Heng-Fong First Asset Management Co. (THFFAMC) to sell nonperforming loans of $3,630,562 thousand for $305,880 thousand. This sale resulted in a loss of $3,324,682 thousand.
c. In 2004, the Bank signed contracts with Chung-Cheng Asset Management Co. (CCAM) and Cosmos Marketing Consulting Co. (CMC) to sell nonperforming loans of $4,700,691 thousand and $3,753,942 thousand, respectively. These transactions, with a selling price of $495,402 thousand, resulted in a loss of $7,959,231 thousand. CCAM and CMC both committed that if, within five years from the contract date, there are proceeds of the sale of nonperforming loans, 45% of these proceeds net of yield amount, related tax and litigation expenses and necessary administrative expenditures should be returned to the Bank. In 2007, the Bank received these proceeds of $32,276 thousand (treated as a reduction of deferred loss on the sale of nonperforming loans).
d. In 2005, the Bank signed contracts with P.I.C.K. Second Fund Co., Ltd. (P.I.C.K.), CMC, and Hui-Cheng First Asset Management Co., Ltd. to sell nonperforming loans of $820,961 thousand, $6,029,567 thousand and $1,619,640 thousand, respectively. These transactions, with a selling price of $644,643 thousand, resulted in a loss of $7,825,525 thousand.
e. In 2006, the Bank signed contracts with Yang-Kuan Asset Management Co., Ltd. (YKAM), ORIX Taiwan Corporation (ORIX), and CMC to transfer and sell to these three companies nonperforming loans of $103,239 thousand, $2,454,035 thousand, and $19,465,842 thousand, respectively. For these transactions, the Bank should receive a payment of $1,140,590 thousand in cash and some YKAM stocks at face value. These sales resulted in a loss of $20,882,526 thousand.
CMC committed that if there are proceeds of the sale of nonperforming loans within five years from the contract date, 50% of these proceeds net of yield amount, related tax and litigation expenses and necessary administrative expenditures should be returned to the Bank. In 2007, the Bank received these proceeds of $27,835 thousand (treated as a reduction of deferred loss on the sale of nonperforming loans).
Under the Law Governing Mergers of Financial Institutions, the Bank deferred and amortized all of the losses on the sale of the above nonperforming loans by the straight-line method over 60 months. The unamortized amounts of $23,012,779 thousand and $32,712,701 thousand as of December 31, 2007 and 2006, respectively, were presented under deferred loss on the sale of nonperforming loans. The amortized amounts of $9,605,835 thousand and $6,911,364 thousand in 2007 and 2006, respectively, were classified as amortization of loss on the sale of nonperforming loans.
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16. DUE TO THE CENTRAL BANK AND OTHER BANKS
December 31 2007 2006
Due to banks $ 32,132,021 $ 19,015,468 Due to the Central Bank 17,962 13,747 Bank overdraft 7,184 6,506 Call loans from banks - 641,548
$ 32,157,167 $ 19,677,269
17. SECURITIES SOLD UNDER REPURCHASE AGREEMENTS
As of December 31, 2007 and 2006, securities sold for $40,920 thousand and $2,160,839 thousand, respectively under repurchase agreements would be purchased for $40,945 thousand and $2,162,632 thousand by January 2008 and April 2007, respectively.
As of December 31, 2007, available-for-sale financial assets, which amounted to $37,500 thousand (face value), had been sold under repurchase agreements.
As of December 31, 2006, financial assets at fair value through profit or loss and available-for-sale financial assets, which amounted to $1,049,800 thousand and $1,007,600 thousand (face value), respectively, had been sold under repurchase agreements.
18. PAYABLES
December 31 2007 2006
Accrued interest $ 1,080,685 $ 1,193,967 Accrued technology and advisory expenses 981,004 427,041 Accrued salaries and bonuses 548,428 277,686 Accrued transaction costs of issuing capital 346,065 - Checks for clearing 318,664 2,063,332 Payable on funds purchased 301,903 508,332 Collections payable 207,587 122,303 Acceptances 78,866 123,356 Business tax payable and stamp tax payable 47,485 62,193 Payables on linkage bonds purchased 25,700 417,900 Income tax payable - 4,846 Others 565,960 510,690
$ 4,502,347 $ 5,711,646
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19. DEPOSITS AND REMITTANCES
December 31 2007 2006 Deposits: Savings $ 82,853,775 $ 147,169,259 Time 38,650,112 31,267,072 Demand 8,216,188 10,372,533 Checking 1,081,947 2,050,037 Negotiable certificates of deposit 304,200 228,300 Remittances 19,838 17,403
$ 131,126,060 $ 191,104,604
20. BANK DEBENTURES
December 31, 2007 Discount Cosmos Bank Maturity Date Rate Par Value Amount Book Value
First subordinated bank debenture issued in 2006 B 2006.12.14-2016.12.14 3.20% annually $ 515,000 $ - $ 515,000
December 31, 2006 Discount Cosmos Bank Maturity Date Rate Par Value Amount Book Value
First convertible bank debenture issued in 2006 2006.06.08-2010.09.08 3.55% semiannually $ 6,250,000 $ (82,837 ) $ 6,167,163 First subordinated bank debenture issued in 2006 A 2006.12.14-2013.12.14 3.00% annually 4,500,000 - 4,500,000 First subordinated bank debenture issued in 2006 B 2006.12.14-2016.12.14 3.20% annually 2,500,000 - 2,500,000
$ 13,250,000 $ (82,837 ) $ 13,167,163
a. On December 28, 2007, the Bank privately placed Subordinated Unsecured Mandatory Convertible Bonds (the “Bonds”). GE Capital Asia Investments Holdings B.V. and S.A.C. PEI Taiwan Holdings B.V. subscribed for these bonds, and their holdings amounted to $1,650,000 thousand and $18,150,000 thousand, respectively. The issuance period is five years, and the interest rate is from 4.00% to 6.00%. The coupon interest for year 1 should be fully paid on the issue date, and, for year 2, should be fully paid on the first day of year 2. From years 3 to 5, the coupon interest (4%) is payable quarterly from the end of the three months after the first day of year 3. The conversion price upon issuance is NT$2.00 per share, which can be modified anytime using a certain formula. Advance repayment, redemption, purchase, cancellation or amendment of all or part of the Bonds is prohibited under the contract unless the Bank receives a written consent from the bondholders.
Under Statement of Financial Accounting Standards No. 36 - “Disclosure and Presentation of Financial Instruments,” the Bank recognized (a) the conversion option as capital surplus - others, which amounted to $15,819,198 thousand ($15,944,124 thousand less $124,926 thousand in transaction cost after income tax) and (b) the accrued interest of bank debentures $3,826,386 thousand ($3,855,877 thousand less $29,491 thousand in transaction cost after income tax), classified as other financial liabilities.
Under mandatory terms, the Bonds should be converted into fully paid and non-assessable common shares of the Bank (i) on the maturity date or (ii) whenever needed to maintain the Bank’s capital adequacy ratio at 8% or higher or the Tier 1 capital ratio at 4% or higher, with the related calculation to include the pro rata conversion of holdings on the date of the conversion. Nevertheless, no Bonds should be mandatorily converted unless the Series A Preferred Shares have been converted in full. As of December 31, 2007, no Bonds had been converted into common shares.
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b. On December 15, 2005, the Board of Directors resolved to issue privately a convertible bank debenture, with the amount not to exceed $7,000,000 thousand, to strengthen the Bank’s capital structure for future growth. This private issuance was approved by the Financial Supervisory Commission (FSC) on January 6, 2006 (FSC approval document: Jin-Kuan-Yin-(2)-Zi-No. 09585000780).
On June 8, 2006, the Bank issued a $6,250,000-thousand convertible bank debenture, with a term of four years and three months. Interest is payable semiannually at a 3.55% annual rate, and the principal is fully repayable on maturity. Based on the conversion terms, the conversion price is NT$16.00 per share, which can be modified anytime using a certain formula. However, on September 5, 2007, this convertible bank debenture had to be settled ahead of its maturity because the manner of trading of the Bank’s stock listed on the Taiwan Stock Exchange had to be changed (Note 1).
On November 9, 2005, the Board of Directors resolved to issue a publicly subordinated bank debenture, with the amount not to exceed $7,000,000 thousand, to strengthen the Bank’s capital structure for future growth. This public issuance was approved by the Financial Supervisory Commission (FSC) on November 17, 2006 (FSC approval document: Jin-Kuan-Yin-(2)-Zi-No. 09500481860).
On December 14, 2006, the Bank issued one 7-year ($4,500,000 thousand) and one 10-year ($2,500,000 thousand) subordinated bank debentures, with interest payable annually at a 3% and 3.2%, respectively, and the principal each fully repayable on maturity.
Under an original subscription agreement that was signed on December 26, 2007 together with an appendix to the agreement, China Development Industrial Bank Inc. and nine other banks agreed to reduce 58% of the total creditors’ right to the first convertible bank debenture issued in 2006, with a principal of $6,250,000 thousand, and of the subordinated bank debenture issued in 2006, with a principal of $6,485,000 thousand. Thus, this banking syndicate got back cash of $1,130,291 thousand and converted these bank debentures into 2,109,204 thousand common shares, amounting to $4,218,409 thousand. The Bank recorded $4,183,724 thousand as part of stockholders’ equity after the deduction of the transaction cost net of an income tax of $34,685 thousand. The Bank had an extraordinary gain of $5,539,725 thousand on this transaction.
Chu Nan Credit-Cooperative Association, Singfor Life Insurance Co., Ltd., and Taipei Sanjhih Hsiang Farmers’ Association subscribed for a subordinated bank debenture issued by the Bank in 2006. The principal of this debenture was $515,000 thousand (classified as bank debentures). However, these subscribers did not sign the subscription agreement.
21. PENSION PLAN
The Labor Pension Act (the “Act”), which took effect on July 1, 2005, provides for a new defined contribution pension plan. Bank employees subject to the earlier promulgated Labor Standards Law were allowed to choose between the pension mechanism under the Labor Standards Act or the mechanism under the Act. For those employees who chose to be subject to the pension mechanism under this Act, their service years before the enforcement of this Act will be retained. However, those hired on or after July 1, 2005 automatically become subject to the Act.
Based on the Act, the rate of the Bank’s required monthly contributions to the employees’ individual pension accounts is at 6% of monthly wages and salaries.
Pension expenses were $1,267,214 thousand and $163,760 thousand in 2007 and 2006, respectively (among which $162,458 thousand and $91,274 thousand, respectively, belong to pension expenses on a defined contribution plan).
For the Bank’s employees who chose to continue to be subject to the Labor Standards Act, benefit payments are based on length of service and average monthly salary and wage of the six months before retirement.
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The Bank has two funds under its defined benefit plan: One for management and the other for nonmanagement employees (“employees”). The Bank makes monthly contributions to the employees’ pension fund, which is managed by the employees’ fund committee and deposited in the committee’s name in the Central Trust of China (merged with the Bank of Taiwan in July 2007, with the Bank of Taiwan as the survivor entity). The pension fund for management is administered by the employees’ pension fund administrative committee and deposited under the committee’s name to an account in the Bank.
On December 6, 2007, the Bank signed with the Bank’s labor union an Employee Benefit Proposal - Early Retirement Plan (ERP), under which the Bank will carry out the following enhanced pension plan in two stages from January 1, 2008 to December 31, 2008:
a Eligibility and limit on eligibility
1) First stage from January 1, 2008 to June 30, 2008 - The ERP will be open to all employees that sum of the age and the years of service is at least 50 years.
2) Second stage from July 1, 2008 to December 31, 2008 - The ERP will be open to all employees other than the employees described in item (1) above if the sum of the age and the years of service is less than 50 years. However, the qualified employees cannot exceed 20% of the non-senior employees. b. Entitlement
The senior employees who apply for early retirement will be entitled to a lump sum payment equal to two-months’ average salary for each service year. A service period that is equal to or more than six months are counted as one service year, and a service period that is less than six months counted as a half year of service.
The board of directors approved the ERP on December 11, 2007. The Bank then estimated the cost of this plan and added this cost to the actuarial report.
Information about the defined benefit plan was as follows:
a. Net pension cost
2007 2006
Service cost $ 49,640 $ 67,388 Interest cost 28,621 32,257 Expected return on plan assets (24,533 ) (28,903 ) Amortization 4,270 1,744 Amortization of unrealized previous service cost 1,046,758 -
Net pension cost $ 1,104,756 $ 72,486
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b. Reconciliation of funding status and prepaid pension cost
2007 2006 Benefit obligation Vested benefit obligation $ 473,067 $ 79,440 Nonvested benefit obligation 717,554 705,997 Accumulated benefit obligation 1,190,621 785,437 Effects on employees’ future salary level 407,657 257,756 Projected benefit obligation 1,598,278 1,043,193 Fair value of plan assets (764,213 ) (883,856 ) Pension fund contribution 834,065 159,337 Unamortized balance of prior service cost 6,096 7,927 Unrecognized net transition obligation (5,782 ) (7,709 ) Unamortized pension gains (losses) 218,890 (153,514 )
Accrued pension liability $ 1,053,269 $ 6,041 c. Vested benefits $ 486,569 $ 90,239 d. Actuarial assumptions
Discount rate 2.75% 2.75% Salary increase rate 3.00% 2.00% Expected rate of return on plan assets 2.75% 2.75%
e. Changes in the employees’ and management’s pension funds and were as follows:
2007 2006 Employees’ pension fund Beginning balance $ 514,635 $ 506,666 Contribution 37,632 47,807 From Miaoli Credit - Cooperative Association 137 - Interest income 8,552 6,766 Benefits paid (12,108 ) (46,604 )
Ending balance $ 548,848 $ 514,635
Management’s pension fund Beginning balance $ 300,616 $ 271,372 Contribution 19,896 22,211 Interest income 8,589 7,033 Benefit paid (9,250 ) -
Ending balance $ 319,851 $ 300,616
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22. STOCKHOLDERS' EQUITY
a. Capital
In a special meeting on October 29, 2007, the Bank’s stockholders approved the following items: (1) increase of the authorized capital to $200,000,000 thousand from $45,000,000 thousand in the Bank’s Articles of Incorporation to meet the need to privately place common shares and series A preferred shares for cash; (2) a private placement of 3,300,000 thousand common shares and 1,650,000 thousand series A preferred shares for cash; and (3) a reduction by 58% of the creditors’ rights to the first convertible bank debenture issued in 2006 with an aggregate principal of $6,250,000 thousand and to subordinated bank debentures also issued in 2006 with an aggregate principal of $7,000,000 thousand; both debentures had an aggregate principal of $13,250,000 thousand, and were converted into 2,194,500 thousand common shares, with a par value of NT$10.00 and a subscription price of NT$2.00 per share.
The above private placement was approved by the Financial Supervisory Commission (FSC) on December 10, 2007 (FSC approval document: Jin-Kuan-Yin-[2]-Zi-No. 09600503410).
On December 20, 2007, the board of directors resolved that shares privately placed by way of bank debentures, mentioned in the above item (3), be converted into common shares. This conversion was in agreement with a decision reached at a conference with the creditors on December 26, 2007.
As mentioned in Note 20 to the financial statements, Chu Nan Credit-Cooperative Association, Singfor Life Insurance Co., Ltd., and Taipei Sanjhih Hsiang Farmers’ Association, subscribed for subordinated bank debentures with an aggregate principal of $515,000 thousand (classified as bank debentures) and issued in 2006 but did not sign the subscription agreement.
The total bank debentures converted represented 2,109,204 thousand common shares amounting to $4,218,409 thousand, with subscription price at NT$2.00 per share (Note 20). The board of directors resolved that the basic date to issue capital was December 28, 2007. The Bank completed the registration of the related capital increase with the Ministry of Economic Affairs on February 27, 2008.
The transactions mentioned in above items (1), (2) and (3), resulted in the Bank’s paid-in capital as of December 31, 2007 comprising common shares amounting to $67,866,500 thousand and preferred shares amounting to $16,500,000 thousand, with par value of NT$10.00 per share, for a total cash capital increase of $84,366,500 thousand.
On these preferred shares, the Bank privately placed at a discount Series A Preferred Shares, also named Series A Perpetual Voting Convertible Preferred Shares, on December 28, 2007. Terms and conditions on this private placement are as follows.
1) Each holder is entitled to receive appropriations from earnings, the same right enjoyed by common stockholders.
2) Each outstanding Series A Preferred Share may be converted into one fully paid and non-assessable common share. The conversion right (a) may be exercised anytime after the issue date at the holder’s option; (b) must be exercised whenever needed to maintain the Bank’s capital adequacy ratio at 8% or higher or the tier 1 capital ratio at 4% or higher, with the related calculation to include the pro rata conversion of holdings on the date of the conversion; and (c) must be exercised on the fourth anniversary of the issue date. In addition, the Series A Preferred Shares must all be converted before any Subordinated Unsecured Mandatory Convertible Bonds are converted, as stated in the mandatory conversion provision of the Subordinated Unsecured Mandatory Convertible Bonds. As of December 31, 2007, no preferred shares had been converted into common shares.
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3) Holders of Series A Preferred Shares become entitled to the same number of votes accorded common stockholders on the conversion of their preferred shares and may thus exercise their right to vote during stockholders’ meetings on all matters presented to the stockholders of the Bank for their action or consideration, including the right to elect or be elected as directors or supervisors.
4) Except as otherwise stated in the Articles of Incorporation, if the Bank issues any shares or equity securities, a preferred share has preemptive right, to the extent allowed by law, to acquire equity securities in proportion to their respective holding of outstanding Bank equity securities on a full-dilution basis.
In a regular meeting on May 30, 2007, the stockholders approved the reduction of capital by 590,334 thousand shares, amounting to $5,903,339 thousand, 30% of capital. This reduction was approved by the Financial Supervisory Commission (FSC) on July 13, 2007 (FSC approval document: Jin-Kuan-Yin-(2)-Zi-No. 0960029665). In addition, on July 19, 2007, the board of directors resolved that the basic date of capital reduction was July 20, 2007. The Bank completed the registration of this capital reduction with the Ministry of Economic Affairs on September 12, 2007.
On October 25, 2007, the board of directors resolved that the basic date of capital reduction through a share exchange (i.e., the exchange of old shares for new ones) was December 12, 2007. This exchange began on December 21, 2007. Earlier, on December6, 2007, the trading of the old shares was temporarily stopped, and the process of discontinuing the trading of these old shares was from December 8, 2007 to December 20, 2007. The Financial Supervisory Commission (FSC) approved the Bank’s capital reduction on December 3, 2007.
On April 19, 2006, to private offering for cash, the stockholders in regular meeting resolved to raise the registered capital to $19,677,795 thousand at $10 per share and authorized the Board of Directors to plan and execute the stock issuance for this capital increase.
The Bank increased capital by $1,967,780 thousand and issued 196,778 thousand shares at $14 per share, a total issuance amounted to $2,754,892 thousand.
GE Capital Asia Investments Holdings B.V. subscribed for all the new shares. On May 18, 2006, the Board of Directors resolved that June 8, 2006 was the basic date to increase capital. This issuance was approved by the Ministry of Economic Affairs on August 6, 2006. b. Capital surplus
Under related regulations, capital surplus may only be used to offset a deficit. However, capital surplus (from issuance in excess of common stock par value, from issuance of common stock for combinations and treasury stock transactions) and donation may be transferred to common stock on the basis of the percentage of shares held by the stockholders. Any capital surplus transfer should be within a certain percentage prescribed by law.
c. Appropriation of earnings and dividend policy
The Bank is in a period of stable growth. Thus, the Bank’s earnings appropriation policy is aligned with its goals to maintain the adequacy of capital and provide for future financial needs. Under the Bank’s Articles of Incorporation (the “Articles”), annual net income, less any losses of prior years, should be appropriated as follows:
1) 30% as legal reserve;
2) Special reserve, if needed;
3) 80% of the remainder plus prior years’ unappropriated earnings, as dividends;
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4) The final remainder: 80% as bonus to stockholders, 15% as bonus to employees and 5% as remuneration to directors and supervisors.
The cash dividends should be at least 10% of the total dividends to be paid/distributed. However, if the cash dividend is less than NT$0.1 per share, the entire dividend should be paid in stock. Under a directive of the Securities and Futures Bureau, the Bank has to appropriate a special reserve from current year’s earnings and the unappropriated earnings generated in prior years that is equal to the debit balance of any stockholders’ equity account (except deficit). The special reserve should be adjusted on the basis of the debit balance of the stockholders’ equity account as of year-end.
The Articles also provide that the stockholders may appropriate other special reserves or retain all or part of the annual net income (less legal reserve). In making this appropriation, the Bank should consider its capital adequacy ratio, long-term financial position, and stockholders’ cash needs.
For a higher capital adequacy ratio, increased working capital for business expansion, and enhancement of the Bank’s overall financial condition and profitability, the Bank’s dividends will mainly be in the form of stock.
Under the Law Governing Mergers of Financial Institutions, loss on the sale of nonperforming loans is amortized using the straight-line method over five years, and special reserve equal to the loss should be appropriated.
As of March 25, 2008, the date of the accompanying auditors’ report, the board of directors had not yet proposed a plan to offset deficit. Information on the appropriation of earning or deficit offsetting can be accessed through the Web site of the Taiwan Stock Exchange (http://emops.tse.com.tw).
The appropriation of deficit resolved by the Board of Director on April 27, 2007 is as follows,
Unappropriated earnings, beginning of 2006 $ - Net loss after tax in 2006 (11,286,541 ) Accumulated deficit (11,286,541 ) Offset of deficit Legal reserve 777,389 Special reserve 1,813,493 Capital surplus - paid-in capital in excess of par value 927,567 Capital surplus from treasury stock 2,245
Accumulated deficit $ (7,765,847 )
On April 19, 2006, the stockholders resolved to appropriate a legal reserve of $33,331 thousand amounted to 30% of the 2005 net income. Remaining $77,771 thousand of the 2005 net income has been resolved as a special reserve.
Under the Company Law, legal reserve should be appropriated until the reserve equals the Bank’s paid-in capital. This reserve may only be used to offset deficit. When the reserve reaches 50% of the aggregate par value of the Bank’s outstanding capital stock, up to 50% thereof may be declared as stock dividends. In addition, the Banking Law provides that, before the legal reserve equals the Bank’s paid-in capital, annual cash dividends and bonuses should not exceed 15% of paid-in capital.
Under the Integrated Income Tax System, which took effect on January 1, 1998, ROC resident stockholders are allowed a tax credit for the income tax paid by the Bank on earnings generated annually since 1998. An imputation credit account (ICA) is maintained by the Bank for such income tax.
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d. Employee stock option plans
To attract and encourage professionals, enhance employees’ loyalty to the Bank, and create maximum benefits to stockholders and the Bank, the board of directors approved in December 2007 the issuance of an employee stock option plan. A full-time employee who first reported for work before the plan issue date qualified for the plan. A full-time employee with over 50% of voting shares directly or indirectly in or outside the country will also qualify for the plan. Others who also qualify for the plan are the Bank’s managers, consultants, and directors.
The options granted are valid for 10 years and exercisable at certain percentages after the second anniversary from the grant date. The options were granted at an exercise price equal to the grant date closing price of the Bank’s common stocks listed on the Taiwan Stock Exchange. For any subsequent changes, the exercise price and the number of options are adjusted accordingly. As of March 25, 2008, the date of the accompanying auditors’ report, the Bank had not registered this plan with the Financial Supervisory Commission.
e. Unrealized gain or loss on financial instruments
The movements in 2007 and 2006 of unrealized gain or loss on available-for-sale financial instruments were as follows:
2007 2006
Balance, beginning of year $ (30,663 ) $ (82,263 ) Cumulative effect of changes in accounting principles - 4,365 Recognized in stockholders’ equity 4,311 47,696 Transferred to profit or loss 29,330 (461 )
Balance, end of year $ 2,978 $ (30,663 )
23. PERSONNEL, DEPRECIATION AND AMORTIZATION EXPENSES
2007 2006 Personnel expenses Salaries $ 2,584,435 $ 2,653,851 Insurance 197,504 175,477 Pension 1,267,214 163,760 Others 145,846 194,666 Depreciation expenses 409,848 430,009 Amortization expenses 237,788 260,731
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24. INCOME TAX
a. Income tax benefit calculated as follows: 2007 2006
Income tax expense - current before tax credits $ 6,768 $ 68,542 Net changes in deferred income tax: Allowance for possible losses on loans and receivables 1,150,649 (2,376,748 ) Unrealized foreign exchange gain (loss) 6,003 (13,209 ) Unrealized valuation gain (loss) on financial instruments (6,953 ) 1,476 Pension costs (279,422 ) (617 ) Loss on the transfer of foreclosed collaterals to fixed assets 354 353 Provision for loss (9,934 ) 7,607 Impairment loss on foreclosed collaterals - 8,997 Transaction costs of issuing capital 79,186 - Tax credits (3,196 ) (3,315 ) Amortization of goodwill 5,080 25,557 Impairment loss (36,238 ) (54,686 ) Loss carryforwards (3,658,747 ) (1,226,435 ) Adjustment of prior year’s tax (3,830 ) 8,594
$ (2,750,280 ) $ (3,553,884 )
b. A reconciliation of income tax expense - current before tax credits and income tax expense on loss before income tax is shown below:
2007 2006
Income tax expense on loss before income tax at statutory rate (25%) $ (4,436,055 ) $ (3,716,523 ) Tax effect on adjusting items: Tax-exempt income (6,042 ) (21,343 ) Permanent differences 71,844 163,431 Temporary differences 4,377,021 3,642,977
Income tax expense - current before tax credits $ 6,768 $ 68,542
c. Net deferred income tax assets were as follows:
December 31 2007 2006 Deferred income tax assets (liabilities) Allowance for possible losses on loans and receivables $ 1,388,434 $ 2,539,083 Loss carryforwards 4,046,607 1,226,435 Unrealized foreign exchange gain (6,652 ) (649 ) Impairment loss 93,750 57,512 Loss on the transfer of foreclosed collaterals to fixed assets 14,128 14,482 Provision for loss 10,263 329 Tax credits 6,511 3,315 Pension costs 280,932 1,510 Convertible bank debenture - 43 Amortization of goodwill (26,891 ) (21,811 ) Unrealized loss (gain) on financial instruments 130 (6,823 ) 5,807,212 3,813,426 Less: Valuation allowance (1,008,000 ) -
Net deferred income tax assets $ 4,799,212 $ 3,813,426
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As of the end of 2007, loss carryforwards were as follows:
Total Tax Credits Remaining Expiry Accrued Year Granted Tax Credit Year
2006 $ 1,191,023 $ 1,191,023 2011 2007 $ 2,855,584 $ 2,855,584 2012
d. Imputed tax credits are summarized as follows:
December 31 2007 2006
Balance of stockholders’ imputed tax credits $ 997,187 $ 762,909
The Bank had no earnings to be distributed in 2007 and the actual creditable tax ratio was 33.33% for 2006 earnings.
e. The accumulated deficit and unappropriated earnings as of December 31, 2007 and 2006, respectively, had no earnings generated before January 1, 1998.
f. Income tax returns through 2004 had been examined by the tax authorities. The Taipei National Tax Administration will refund 65% of certain withholding taxes. The Bank accepted the refund at this percentage.
g The income tax returns through previous year of Cosmos Bills Finance Corporation, which merged with the Bank in 2002, had been examined by the tax authorities. The Taipei National Tax Administration determined that only 60% of some taxes withheld by the Bank would be refunded to the Bank. The Bank accepted this assessment. (However, if the authorities later allow a higher rebate for mergers, the Bank will retroactively claim rebates at the higher rebate rate.)
25. LOSS PER SHARE
Loss Per Share (NT Dollars) Amount (Numerator) Shares Before After Before After (Denominator) Income Income Income Tax Income Tax (Thousands) Tax Tax 2007
Basic and diluted loss per share Net loss $ (17,744,221 ) $ (14,993,941 ) 1,436,725 $ (12.35 ) $ (10.44 ) Extraordinary gain 7,386,300 5,539,725 5.14 3.86
$ (10,357,921 ) $ (9,454,216 ) $ (7.21 ) $ (6.58 )
2006
Basic and diluted loss per share Net loss $ (14,866,090 ) $ (11,312,206 ) 1,317,819 $ (11.28 ) $ (8.58 ) Cumulative effect of changes in accounting principles 31,011 25,665 0.02 0.02
$ (14,835,079 ) $ (11,286,541 ) $ (11.26 ) $ (8.56 )
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A capital reduction (Note 22) in 2006 resulted in an increase in basic and diluted loss per share from NT$6.00 to NT$8.56.
There was net loss in 2007 and 2006; thus, the basic loss per share equaled the diluted loss per share in 2007 and 2006.
26. RELATED-PARTY TRANSACTIONS
The Bank’s related parties and significant related-party transactions, in addition to those listed in Table 4 and described in other footnotes, were as follows:
a. Related parties
Related Party Relationship with the Bank
S.A.C. PEI Taiwan Holdings B.V. Main stockholder since December 28, 2007 S.A.C. PEI Asia Investments Holdings II S.ar.al. (“Lux. Parent company of S.A.C. PEI Taiwan Co. II”) Holdings B.V. S.A.C. PEI Asia Investments Holdings I S.ar.al. (“Lux. Parent company of Lux. Co. II Co. I”) S.A.C. Private Equity Investors, L.P. (“SAC PEI”) Parent company of Lux. Co. I S.A.C. Private Equity GP, L.P. (“SAC PEI GP”) Partnership with SAC PEI Lehman Brothers Commercial Corporation Asia Limited Equity-method investor of Lux. Co. II GE Capital Asia Investments Holdings B.V Main stockholder since June 8, 2006 (“GE Asia Holdings”) General Electric Capital Corporation (GECC) Affiliate of GE Asia Holdings GE Capital Taiwan Holdings Inc. (“GE Holdings”) Affiliate of GE Asia Holdings General Electric International Inc. (GEII) Affiliate of GE Asia Holdings GE Processing Services Pty Limited (“GE Australia”) Affiliate of GE Asia Holdings GE Capital Thailand Affiliate of GE Asia Holdings GE Money Taiwan Ltd. Affiliate of GE Asia Holdings Reliance Securities Investment Trust Corporation, Ltd. Equity-method investee (RSIT) Cosmos Construction Management Corporation Same chairman as the Bank’s until March 14, (CCMC) (Note) 2007; changed from an equity-method investee to a cost-method investee on September 1, 2006 Prince Motors Corporation (PMC) (Note) Corporate director until September 6, 2007 Chung Hsien Investment Co., Ltd. (Note) Corporate director until May 30, 2007 Taizi Investment Co., Ltd. (Note) Corporate director until May 30, 2007; corporate supervisor from May 31, 2007 to September 6, 2007
Yung Mei Automobile Co., Ltd. (Note) The chairman was a second-degree relative of the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007 Formosan Chemical Ind. Corp. (Note) The chairman was a second-degree relative of the Bank’s chairman until September 6, 2007 Shin Kong Chao Fend Co., Ltd. (Note) The chairman was a second-degree relative of the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007
(Continued)
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Related Party Relationship with the Bank
Formosan Glass Corporation (Note) The chairman was a second-degree relative of the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007 Shin Kong Life Insurance Co., Ltd. (SLIC) (Note) The chairman was a second-degree relative of the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007 Shin Kong Financial Holding Co., Ltd. (“SK Holdings”) The chairman was a second-degree relative of (Note) the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007 Zheng, Shun Shun (Note) A second-degree relative of the Bank’s chairman; however, the Bank had a new chairman on September 6, 2007 Lin, Ching Jong Manager Others The Bank’s chairman, president, directors, supervisors, managers and their relatives with a kinship of up to the second degree of consanguinity with the chairman and president (Concluded)
Note: When some entities ceased to be related parties as of December 31, 2007, the transactions with these entities in 2007 that had no impact on real accounts were not included in the balance sheet as of December 31, 2007.
b. Significant transactions between the Bank and related parties
1)
2007 2006 Revenue Revenue December31, 2007 Interest Rate (Expense) December31, 2006 Interest Rate (Expense) Amount % (%) Amount Amount % (%) Amount
a) Deposits $ 114,000 0.09 0-7.205 $ (46,147 ) $ 3,102,237 2 0.00-6.79 $ (44,263 )
b) Loans $ 53,826 0.04 2.25-18.25 $ 93,731 $ 5,374,986 4 2.00-18.25 $ 128,220
c) Guarantees and acceptances $ - - 0.50-0.75 $ 954 $ 344,000 19 0.50-0.75 $ 4,935
d) Refundable deposits - rental
PMC $ - - $ (28,654 ) $ 1,617,920 58 - $ (39,356 ) Others - - (21,984 ) 135,156 5 - (31,013 )
$ - - $ (50,638 ) $ 1,753,076 63 $ (70,369 )
The Bank signed a lease contracts with Prince Motors Corporation (PMC) for renting office building. Either the rentals are paid monthly, semiannually, annually or no rentals are paid, but the Bank gave deposits to PMC. The expiry of this contract is on August 31, 2015. As of December 31, 2007, the Bank had paid refundable deposits of $1,617,920 thousand (classified as refundable deposits) to PMC. To cover the Bank’s deposit to PMC, PMC provided real estate as a guarantee and allowed the Bank to be the second in line to have the right of recourse on the property.
In addition, the Bank also signed several lease contracts with related parties for renting office buildings, and either the rentals are paid monthly, semiannually, annually or no rentals are paid but gave deposits to the lessors. These contracts will expire in succession on August 2010.
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2) Purchase or sell of notes and bonds
RP Notes and Bonds Sold to Interest Rate Interest Related Parties Related Parties Range Expense
2007
SLIC $ 15,100,000 1.645%-1.72% $ 3,283
2006
SLIC 122,807,828 1.41%-1.66% 32,173 SK Holdings 30,883,085 1.43%-1.63% 5,826
3) The Bank paid SLIC insurance expenses of $3,538 thousand and $4,330 thousand in 2007 and 2006.
4) The Bank paid CCMC property appraisal fees of $3,563 thousand and $20,299 thousand in 2007 and 2006.
5) On behalf of Chung Hsien Investment Co., Ltd. the Bank sold short-term repurchase agreements collateralized by bonds for $282,000 thousand and $706,000 thousand in 2007 and 2006.
6) GE Asia Holdings subscribed for the Bank’s common shares and GECC bought call options from China Development Industrial Bank Inc. under certain subscription agreements. The Bank also has support service agreements (SSAs) with GEII and GE Australia signed on June 5, 2006. Under the SSAs, GE Holdings and GE Australia will provide the Bank with management systems, data processing service, system support, and IT (information technology) services as part of intensive training and technology transfer services. The SSAs also provide for the integration of global Best Practices with Bank operations to redesign or enhance systems on business development and management operations, such as strategy planning and analysis, product design, marketing, client relationship management, employee-performance management, human resource, process upgrade, risk management, overdue loan processing, 6σ enhancement, etc. It also supports information processing for all systems, system development and maintenance, daily operations, and strategy support.
Unless constrained by uncontrollable environment factors, GE Holdings and the Bank promise to fully cooperate with each other use global human resources and obtain best practices and key information and technology that can help the Bank enhance earnings generation. The Bank will pay GE Holdings (1) technology providing cost US$84,000 thousand as total service fee, payable at US$11,000 thousand in the six months ending December 31, 2006; US$22,000 thousand annually from 2007 to 2009; and US$7,000 thousand for the six months ending June 30, 2010; (2) consulting expenses of up to US$3,339 thousand for assigning directors, chief manager, CEO, CFO, CRO and managers of the Claims Department, etc. and costs of supporting personnel based on the assignment period. The technology provision and consulting service fees of $913,834 thousand in 2007 and $456,395 thousand in 2006 were included in labor expense and other agency and administrative expense under operating expense. As of December 31, 2007 and 2006, there were unpaid fees (classified as payables - accrued technology and advisory expenses) of $821,019 thousand and $427,041 thousand, respectively.
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7) GE Australia provided the Bank with Vision Plus software to integrate with the Bank’s consumer financing business. The fees and charges payable to GE Australia for the data processing services are based on the number of customer accounts processed with the help of GE Australia. As of December 31, 2007, the Bank had prepaid US$1,000 thousand for GE Australia’s services, classified as other assets. In addition, GEII and GE money made a payment of $3,541 thousand and $2,119 thousand for the Bank (classified as payables - others).
8) The Bank got from GE Capital Thailand the right to use NAOS for US$400 thousand based on a support services agreement. In 2007, the Bank amortized the right $3,023 thousand, classified as depreciation and amortization.
9) To improve its car loan operations, the Bank signed a car loan acquisition contract with GE Capital to buy car loans amounting to $1,359,280 thousand for $1,413,467 thousand. The premium rate is about 4%, estimated at the net value calculated using the cash flow model. In addition, on August 17, 2006, the Bank signed a contract on the purchase from Mega International Commercial Bank of a car loan for $1,023,770 thousand, the amount due to GECC for GECC’s providing services to Mega Bank for a price of $1,064,721 thousand, with a premium rate of about 4%. The transaction price was evaluated using the future cash flow model. At the end of 2007, based on an estimate of future cash flows, the recognized impairment loss on this car loan was $14,390 thousand.
10) On December 28, 2007, the Board of Directors had approved the consulting contract with two directors. This contract has not been signed till March 25, 2008.
Under the Banking Law, except for consumer loans and government loans, credit extended by the Bank to any related party should be 100% secured, and the terms of credits extended to related parties should be similar to those for third parties.
For the uniqueness of the technology service contract, Vision Plus software, and NAOS, the Bank cannot acquire comparable price from the unrelated party. However, other related party transactions, which is comparable to those of the unrelated party, did not appear significantly extraordinary.
27. PLEDGED ASSETS
a. As of December 31, 2006, negotiable certificates of deposit (NCDs) recorded as due from the Central Bank and call loans to banks, amounting to $2,600,000 thousand had been provided as collateral for day-term overdraft to comply with the requirement for real-time gross settlement under the Central Bank’s clearing system.
b. Government bonds with carrying value of $140,500 thousand (recorded as available-for-sale financial assets, net, amounting to $138,700 thousand, and other receivables amounting to $1,800 thousand) as of December 31, 2007 and government bonds with carrying value of $239,300 thousand (recorded as available-for-sale financial assets, net, amounting to $231,200 thousand, and other receivables amounting to $8,100 thousand) as of December 31, 2006 had been placed with the court as guarantee deposits in line with the Bank’s request for court approval to seize and sell the properties of the Bank’s debtors to satisfy the debtors’ obligations to the Bank.
c. As of December 31, 2007 and 2006, the Bank had provided the National Credit Card Center (NCCC) with government bonds (recorded as available-for-sale financial assets, net) with carrying values of $220,000 thousand and $210,000 thousand, respectively, as the reserve required by the NCCC for payment of the Bank’s credit card obligations.
d. As of December 31, 2007, negotiable certificates of deposit (NCDS) of $199,385 thousand (recorded as other financial assets, net) had been provided as collateral for spot exchange transactions.
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28. COMMITMENTS AND CONTINGENCIES
In addition to those disclosures in Notes 26 and 29, the commitments as of December 31, 2007 were as follows:
a. Leases
The Bank leases from unrelated parties the premises occupied by its branches under operating lease agreements expiring on various dates until October 31, 2013. Refundable deposits on these leases amounted to $788,726 thousand as of December 31, 2007. The leases also require the payment of rentals monthly, semiannually or annually, or a refundable rental deposit, which generates no interest.
An evaluation of the rental deposit showed an impairment loss of $373,200 thousand as of December 31, 2007.
Future minimum annual rentals on these leases as of December 31, 2007 were as follows:
Year Amount
2008 $ 333,347 2009 247,437 2010 172,913 2011 86,942 2012 24,774
The undiscounted amount and the present value of the minimum rentals from 2013 to 2017, computed at the one-year time deposit interest rate of 2.62% of the Postal Remittances and Savings Bank, were as follows (thousand):
Rental Present Value
$25,192 $21,205
b. Significant outstanding purchase contracts
Contract Item Amount Prepayment Payable
Banking information and operating systems $ 139,379 $ 80,123 $ 59,256 Premise improvements, water and electricity, and air conditioning 42,750 14,423 28,327
c. The Bank’s ex-chairman, Sheng-Fa Xu, and ex-vice chairman, Xian-Rong Xu, were prosecuted for involving illegal events and this legal cause was in the process of judgment. The Bank is now being managed by a new management team, which uses high standards to administer the Bank, and would not be influenced by this legal cause.
The Bank claimed that a certain client defrauded the Bank and thus sued the client. But the court pronounced the client as not guilty. Stating that his reputation was damaged because of the Bank’s lawsuit, the client filed a civil lawsuit against the bank. This case is still pending before the court.
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29. FINANCIAL INSTRUMENTS
a. Fair value of financial instruments
December 31 2007 2006 Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value Assets
Financial assets at fair value through profit or loss $ 195,503 $ 195,503 $ 4,223,017 $ 4,223,017 Available-for-sale financial assets 648,440 648,440 1,894,082 1,894,082 Other financial assets 1,125,846 1,125,846 11,507,784 11,507,784 Other financial assets - with fair values approximating carrying amounts 166,240,093 166,240,093 180,339,713 180,339,713
Liabilities
Financial liabilities at fair value through profit or loss 15,366 15,366 31,214 31,214 Bank debentures 515,000 216,300 13,167,163 13,167,163 Other financial liabilities - with fair values approximating carrying amounts 170,837,206 170,837,206 218,905,375 218,905,375
Effective January 1, 2006, the Bank adopted the Statement of Financial Accounting Standards (SFAS) No. 34 - “Accounting for Financial Instruments.” The amount of the cumulative effect of accounting changes and the adjustments of stockholders’ equity resulting from the adoption of SFAS No. 34 are mentioned in Note 3.
b. Methods and assumptions applied to estimate the fair value of financial instruments are summarized as follows:
1) For financial instruments measured at fair value through profit or loss and available-for-sale financial assets, fair value is best determined on the basis of quoted market prices. However, in many instances where there are no quoted market prices for the Bank’s various financial instruments, fair values are based on estimates using other financial data and appropriate valuation methodologies.
2) The carrying amounts of short-term financial instruments approximate their fair values because of the short maturities of these instruments. Other short-term financial assets are cash and cash equivalents, due from the Central Bank and call loans to banks, securities purchased under resell agreements, receivables (except tax refund receivable) and refundable deposits. Other short-term financial liabilities are due to the Central Bank and other banks, payables (except tax payable), remittances, securities sold under repurchase agreements and guarantee deposits received.
3) If there are no active market prices for derivative financial instruments, fair values of forward contracts will be calculated using the discounted cash flow method, while values of options are provided by counter-parties.
The Bank estimates the fair value of each forward contract on the basis of the exchange rates quoted by Reuters on each settlement date. The fair value of a cross-currency swap contract is calculated using the prices quoted by Bloomberg.
4) Discounts and loans, deposits are interest-earning assets and interest-bearing liabilities. Thus, their carrying amounts represent fair value. The fair value of overdue loans is based on their carrying amount, net of allowance for possible losses.
5) If equity investments under the equity method and financial assets carried at cost both consist of unlisted stocks, these investments have no quoted market prices in an active market and their fair value cannot be reliably measured. Thus, the Bank does not disclose their fair value.
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6) If there are trade prices or prices quoted by major market players, the latest trade prices and quoted prices are used as the basis for valuating the fair value of debt instruments with no active market and classified as other financial assets.
7) Other financial liabilities include an appropriate loan fund. They are items that can be transferred to other banks at any time depending on the business situation. Thus, the carrying amounts of these liabilities represent their fair values.
c. As of December 31, 2007 and 2006, fair values of financial assets and liabilities determined at quoted market prices or market prices estimated using a valuation method were as follows:
December 31 2007 2006 Quoted Estimated Quoted Estimated Market Market Market Market Prices Prices Prices Prices Financial assets
Financial assets at fair value through profit or loss $ 180,649 $ 14,854 $ 4,174,610 $ 48,407 Available-for-sale financial assets 648,440 - 1,894,082 - Other financial assets - 1,125,846 - 11,507,784
Financial liabilities
Financial liabilities at fair value through profit or loss - 15,366 - 31,214
From above, the gain and loss on the valuation of financial instruments at estimated market prices in 2007 and 2006 were $3,887 thousand and $7,967 thousand.
The net service fee of $1,160,967 thousand consisted of revenues of $1,391,540 thousand and charges of $230,573 thousand in 2007. The net service fee of $1,208,227 thousand consisted of revenues of $1,453,282 thousand and charges of $245,055 thousand in 2006.
d. In 2007 and 2006, the interest revenues excluded on financial assets and liabilities at fair value through profit or loss were $11,955,734 thousand and $14,076,633 thousand, respectively. The interest expenses for financial assets and liabilities at fair value through profit or loss were $4,104,163 thousand and $4,016,697 thousand, respectively. In 2007 and 2006, the adjustments of stockholders’ equity credited directly from the available-for-sale financial assets amounted to $4,311 thousand and $47,696 thousand, respectively.
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e. Financial risk information
1) Market risk
The Bank is engaged in investment in interest rate instruments including time certificates, bonds, notes, and similar financial instruments. Since the fair value of these financial instruments is sensitive to the market interest rates, the following is the sensitive analysis as the variation of 0.01% increase in market interest rates.
December 31, 2007 The Effect of the Fair Average Duration Value Per Variation of Currency Principal Amount (Year) 0.01%
New Taiwan Dollars $ 1,699,035 0.6769 $ 117 U.S. Dollars 1,030 0.1397 0.011
The Bank monitors profit or loss on investment positions by marking to market to consider investment strategies and investment positioning.
The Bank evaluated the market risk of financial instruments using daily value at risk (VaR). VaR is the potential loss in market value of financial instruments held by the Bank within a certain confidence interval for a specified period.
VaR of securities held by the Bank is shown in the table listed below. The Bank made an assumption that, if there is a 99% level of confidence, there is only a 1% chance that the Bank will incur a loss on its financial instruments within a day. In addition, based on VaR assumptions, there are only 2 out of 200 days when the Bank could face losses on its financial instruments. The average, highest and the lowest amounts of the interest rate and price risks that were calculated at the daily VaR in the year ended December 31, 2007 were as follows (thousand):
2007 2006 Type of Market Risk Average Highest Lowest Average Highest Lowest
Fair value interest rate risk $ 5,604 $ 10,390 $ 1,767 $ 6,662 $ 12,417 $ 4,983 Price risk 15,355 28,522 - 57,603 83,017 24,524
The Bank engages in trade financing and foreign currency exchange; thus, it is exposed to exchange risks on differences between spot and forward rates. The Bank’s policy is to have a square position on its forward contracts. If the contract transactions do not square off, all Bank employees are authorized to handle the contracts in accordance with the Cosmos Bank Handling International Financing Transaction Rules. In addition, the exchange rate risks on foreign security investments or other international financing business are hedged by cross-currency swap contracts, and the gains and losses on these contracts are measured at rates quoted by Bloomberg. These gains and losses are assessed and reported to Bank management regularly.
2) Credit risk
The Bank is exposed to potential loss due to contract defaults by counter-parties or financial instrument issuers.
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The Bank evaluates the creditworthiness of credit applications case by case, taking into account the applicant’s credit history, credit rating and financial condition. Collateral, mostly in the form of cash, inventories, marketable securities and other assets, may be required depending on the evaluation result. As of December 31, 2007 and 2006, of about 44% of total loans granted, about 11% and 44%, respectively, had been secured. However, there are no collaterals for issuing credit cards. Thus, the Bank evaluates the creditworthiness of credit cardholders regularly and modifies the credit facilities if necessary. If the counter-parties or others concerned (e.g., guarantors) break a contract, the Bank will execute its right on the collaterals and decrease its credit risk. In addition, the Bank discloses its maximum credit exposure without taking collateral fair value into consideration.
The maximum credit exposure of financial assets is the carrying amounts of financial assets on the balance sheet date.
The amounts of financial contracts with off-balance-sheet credit risks as of December 31, 2007 and 2006 were as follows:
December 31 2007 2006
Credit card commitments $ 63,247,776 $ 73,279,441 Guarantees and letters of credit issued 1,024,617 2,376,341 Irrevocable loan commitments 673,746 453,843
Concentration of credit risk exists when counter-parties to financial transactions are individuals or groups engaged in similar activities or activities in the same region, which would cause their ability to meet contractual obligations to be similarly affected by changes in economic or other conditions. It is also affected by the nature of the borrowers’ operations. The concentration of the Bank’s credit risk was as follows:
December 31 Group 2007 2006
Private enterprise $ 50,563,700 $ 60,582,664 Natural person 69,375,667 79,396,434 Nonprofit enterprise 15,180 25,969
$ 119,954,547 $ 140,005,067
December 31 Industries 2007 2006
Wholesale, retail and catering $ 15,212,723 $ 18,943,677 Manufacturing 14,261,127 16,140,590 Finance, insurance and real estate 9,383,074 12,421,665
$ 38,856,924 $ 47,505,932
3) Liquidity risk
As of December 31, 2007 and 2006, the liquidity reserve ratios were 9.69% and 16.66%, respectively. The Bank has sufficient equity capital and working capital to execute all contract obligations and has no liquidity risk.
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The management policy of the Bank is to match the contractual maturity profile to the interest rates for its assets and liabilities. Because of uncertainties, however, the maturities did not fully match the interest rates, resulting in gaps that may potentially give rise to gain or loss.
The Bank applied appropriate ways to group assets and liabilities. The maturity analysis of assets and liabilities was as follows:
December 31, 2007 Due after Due after Due after One Month Three Months One Year Due in Up to Up to Up to Due after One Month Three Months One Year Seven Years Seven Years Total Assets
Cash and cash equivalents $ 3,009,940 $ - $ - $ - $ - $ 3,009,940 Due from the Central Bank and call loans to banks 40,553,922 - - - - 40,553,922 Financial assets at fair value through profit or loss 195,503 - - - - 195,503 Available-for-sale financial assets 451,409 - 99,441 97,590 - 648,440 Debt instruments with no active market - - 271,320 653,995 - 925,315 Receivables 1,713,911 747,727 3,016,242 1,081,674 4,356 6,563,910 Discounts and loans 9,764,314 7,208,842 56,103,309 38,666,680 8,217,193 119,960,338 Equity investments under the equity method - - - - 42,749 42,749 Financial assets carried at cost - - - - 761,210 761,210 Other financial assets - others 825 575 200,383 503 100,877 303,163 Foreclosed collaterals - - 418,675 85,442 - 504,117 Refundable deposits 46,000 400 507,783 387,117 1,616,700 2,558,000
$ 55,735,824 $ 7,957,544 $ 60,617,153 $ 40,973,001 $ 10,743,085 $ 176,026,607
Liabilities
Due to the Central Bank and other banks $ 914,733 $ 3,123,510 $ 28,118,924 $ - $ - $ 32,157,167 Financial liabilities at fair value through profit or loss 15,366 - - - - 15,366 Payables 2,725,619 990,884 630,360 155,484 - 4,502,347 Deposits and remittances 15,210,493 23,391,725 70,101,316 22,422,526 - 131,126,060 Securities sold under repurchase agreements 40,920 - - - - 40,920 Bank debentures - - - - 515,000 515,000 Other financial liabilities 32,115 492 1,231,476 1,794,114 - 3,058,197
$ 18,939,246 $ 27,506,611 $ 100,082,076 $ 24,372,124 $ 515,000 $ 171,415,057
December 31, 2006 Due after Due after Due after One Month Three Months One Year Due in Up to Up to Up to Due after One Month Three Months One Year Seven Years Seven Years Total Assets
Cash and cash equivalents $ 5,618,763 $ - $ - $ - $ - $ 5,618,763 Due from the Central Bank and call loans to banks 25,232,843 1,542,952 7,510,000 - - 34,285,795 Financial assets at fair value through profit or loss 923,165 200,000 2,949,422 134,522 15,908 4,223,017 Available-for-sale financial assets 2,323 - 54,852 1,690,248 146,659 1,894,082 Debt instruments with no active market 81,490 162,980 2,297,091 5,239,951 - 7,781,512 Receivables 6,617,386 367,324 214,040 94,546 4,281 7,297,577 Discounts and loans 13,681,889 15,342,501 62,800,197 41,002,112 7,211,878 140,038,577 Equity investments under the equity method - - - - 37,481 37,481 Financial assets carried at cost - - - - 770,289 770,289 Other financial assets - others 3,429,684 6,823 337,242 - - 3,773,749 Foreclosed collaterals - 102,120 747,887 - - 850,007 Refundable deposits 166,250 22,500 309,160 681,500 1,616,700 2,796,110
$ 55,753,793 $ 17,747,200 $ 77,219,891 $ 48,842,879 $ 9,803,196 $ 209,366,959
Liabilities
Due to the Central Bank and other banks $ 1,737,677 $ 2,085,904 $ 9,053,688 $ 6,800,000 $ - $ 19,677,269 Financial liabilities at fair value through profit or loss 31,214 - - - - 31,214 Payables 4,154,258 693,148 712,986 151,254 - 5,711,646 Deposits and remittances 22,993,147 34,820,905 108,766,394 16,978,102 7,546,056 191,104,604 Securities sold under repurchase agreements 2,049,189 101,650 10,000 - - 2,160,839 Bank debentures - - - 10,667,163 2,500,000 13,167,163 Other financial liabilities 18,382 102 176,494 - - 194,978
$ 30,983,867 $ 37,701,709 $ 118,719,562 $ 34,596,519 $ 10,046,056 $ 232,047,713
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4) Fair value interest rate risk and cash flow interest rate risk
When market interest rates change, the cash flows on floating-interest rate assets will also fluctuate and the Bank may suffer risks due to any adverse interest rate changes. Thus, the Bank used cross-currency swap contracts to reduce risks from adverse changes in market interest rates. Please refer to Note 32 for the related effective interest rates.
30. RISK CONTROL AND HEDGE POLICY
The Bank documents its risk management policies, including overall operating strategies and risk control philosophy. The Board of Directors reviews the policies regularly and reviews Bank operations monthly to make sure that the Bank’s policies are executed properly.
The Bank has established a risk management committee. On the other hand, the executive director of the risk management department is in charge of enhancing risk management functions. The functions of the risk management department are as follows:
a. To develop risk management strategies;
b. To consider ways to execute the risk management strategy and all management rules as well as develop the appropriate organization framework;
c. To monitor, control, evaluate and review the Bank’s overall operating risk; and
d. To monitor the Bank’s risk management and report to the Board of Directors all risk management developments regularly or make special reports if risk management exceptions occur.
31. CAPITAL ADEQUACY RATIO
(Unit: In Thousands of New Taiwan Dollars, %)
Year December 31, 2007 Items Eligible Capital Tier 1 capital (Note3) $ 20,609,871 Tier 2 capital 12,904,456 Tier 3 capital - Eligible capital 33,514,327 Standardized approach 135,685,317 Risk-weighted Assets Risk-weighted Credit risk Internal rating-based approach - Securitization 1,692,579 Basic indicator approach 23,579,888 Standardized approach/Alternative Operational risk - standardized approach Advanced measurement approach - Standardized approach 820,752 Market risk Internal model approach - Risk-weighted assets 161,778,536 Capital adequacy ratio 20.72% Ratio of tier 1 capital to risk-weighted assets 12.74% Ratio of tier 2 capital to risk-weighted assets 7.98% Ratio of tier 3 capital to risk-weighted assets - Ratio of common stock to total assets 33.07%
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Note 1: Eligible capital and risk-weighted assets are calculated under the “Regulations Governing the Capital Adequacy Ratio of Banks” and the “Explanation of Methods for Calculating the Eligible Capital and Risk -Weighted Assets of Banks.”
Note 2: Formulas used were as follows:
1) Eligible capital = Tier 1 capital + Tier 2 capital + Tier 3 capital
2) Risk-weighted assets = Risk-weighted asset for credit risk + Capital requirements for operational risk and market risk x 12.5
3) Capital adequacy ratio = Eligible capital ÷ Risk - weighted assets
4) Ratio of tier 1 capital to risk-weighted assets = Tier 1 capital ÷ Risk-weighted assets
5) Ratio of tier 2 capital to risk-weighted assets = Tier 2 capital ÷ Risk-weighted assets
6) Ratio of tier 3 capital to risk-weighted assets = Tier 3 capital ÷ Risk-weighted assets
7) Ratio of common stock to total assets = Common stock ÷ Total assets
Note 3: Under the regulation on capital adequacy ratios, the Bank had to use the standardized approach to calculate its credit risks and had to reduce its tier 1 capital when its operating reserve and allowance for possible losses became insufficient. The Bank calculated its capital adequacy ratios by referring to “The Expected Loss Interpretation of the Banking Bureau,” previous loss experience, property risk, and risk-related developments and also reported them to the supervisors from the Banking Bureau. The Bank is now executing a three-year plan to improve the quality of its assets and capital adequacy ratio and thus meet related requirements.
Unit: In Thousands of New Taiwan Dollars, %
Items December 31, 2006 Net eligible capital (Note) $ 16,262,893 Total risk-weighted assets (Note) 173,822,698 Capital adequacy ratios (Note) 9.36 Ratios of tier 1 capital to risk-weighted assets (Note) 6.60 Ratios of tier 2 capital to risk-weighted assets (Note) 3.30 Ratios of tier 3 capital to risk-weighted assets (Note) - Ratios of common stockholders’ equity to total assets 4.86
Note: Capital adequacy ratio = Net eligible capital/Risk-weighted assets. Under the Banking Law and related regulations, the capital adequacy ratio (CAR) should be computed at the end of June and December.
The Banking Law and related regulations require that the Bank maintain its unconsolidated and consolidated CARs at a minimum of 8%. In addition, if the Bank’s CAR falls below 8%, the authorities may impose certain restrictions on the amount of cash dividends that the Bank can declare or, in certain conditions, totally prohibit the Bank from declaring cash dividends.
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32. AVERAGE AMOUNT OF AND AVERAGE INTEREST RATE ON INTEREST-EARNING ASSETS AND INTEREST-BEARING LIABILITIES
Average balance was calculated at the daily average balances of interest-earning assets and interest-bearing liabilities.
2007 Average Average Balance Rate (%) Interest-earning assets
Cash and cash equivalents - due from banks $ 1,081,055 1.71 Due from the Central Bank and call loans to banks 16,705,286 1.85 Financial assets at fair value through profit or loss 1,566,472 2.26 Receivables of credit cards 4,823,408 11.86 Discounts and loans (excluding overdue loans) 129,445,180 8.08 Available-for-sale financial assets - bonds 1,195,146 1.87 Other financial assets - others 108,214 1.86 Debt instruments with no active market 4,231,386 4.82
Interest-bearing liabilities
Due to the Central Bank and other banks 22,950,756 2.39 Securities sold under repurchase agreements 974,864 1.54 Demand deposits 8,650,156 0.53 Savings - demand deposits 30,937,497 0.82 Time deposits 28,376,846 2.45 Time savings deposits 90,220,010 2.19 Bank debentures 13,140,717 3.99
2006 Average Average Balance Rate (%) Interest-earning assets
Cash and cash equivalents - due from banks $ 751,747 1.15 Due from the Central Bank and call loans to banks 14,492,505 2.06 Financial assets at fair value through profit or loss 19,069,957 1.63 Securities purchased under resell agreements 2,222,168 1.49 Receivables of credit cards 6,423,121 11.69 Discounts and loans 149,328,000 8.29 Available-for-sale financial assets - bonds 2,447,698 1.98 Other financial assets - others 2,527,107 1.61 Debt instruments with no active market 8,508,852 4.99
Interest-bearing liabilities
Due to the Central Bank and other banks 20,962,170 2.07 Securities sold under repurchase agreements 7,623,600 1.34 Demand deposits 8,500,125 0.48 Savings - demand deposits 35,073,929 0.82 Time deposits 32,807,646 2.02 Time savings deposits 117,737,867 1.99 Bank debentures 3,889,726 3.86
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33. ASSET QUALITY, CONCENTRATION OF CREDIT EXTENSIONS, INTEREST RATE SENSITIVITY, PROFITABILITY AND MATURITY ANALYSIS OF ASSETS AND LIABILITIES
a. Asset quality
Table 5 (attached)
b. Concentration of credit extensions
December 31, 2007
(In Thousands of New Taiwan Dollars, %)
Total Amount of Percentage Rank Credit Endorsement or of E.SUN Enterprise/Group Name (Note 2) (Note 1) Other Transactions Bank’s (Note 3) Equity 1 Continental Engineering Corp. $ 4,896,053 15.16 2 Gin Lai International Group 4,141,420 12.82 3 Prince Motors Group 2,401,000 7.43 4 First Investment Group 2,064,750 6.39 5 Chie Ho Construction Group 1,788,821 5.54 6 Core Pacific Group 1,428,192 4.42 7 China Man-Made Fiber Group 1,406,663 4.36 8 APP Group 1,350,433 4.18 9 Lucky Cement Group 1,151,000 3.56 10 Taiwan Cement Group 1,117,376 3.46
December 31, 2006
(In Thousands of New Taiwan Dollars, %)
Total Amount of Percentage Rank Credit Endorsement or of E.SUN Enterprise/Group Name (Note 2) (Note 1) Other Transactions Bank’s (Note 3) Equity 1 Continental Engineering Corp. $ 4,882,016 41.05 2 Gin Lai International Group 4,551,210 38.26 3 Prince Motors Group 4,215,000 35.44 4 Core Pacific Group 3,131,895 26.33 5 First Investment Group 2,142,750 18.02 6 Chie Ho Construction Group 1,935,910 16.28 7 China Man-Made Fiber Group 1,468,208 12.34 8 Formosan Chemical Ind. Group 1,403,600 11.80 9 APP Group 1,312,152 11.03 10 Lucky Cement Group 1,213,000 10.20
Note 1: Ranked by the total amount of credit, endorsement or other transactions; list excludes government-owned or state-run enterprises.
Note 2: Group enterprise refers to a group of corporate entities as defined by Article 6 of “Supplementary Provisions to the Taiwan Stock Exchange Corporation’s Rules for Review of Securities Listings.”
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Note 3: The total amount of credit, endorsement or other transactions is the sum of various loans (including import and export negotiations, discounts, overdrafts, unsecured and secured short-term loans, margin loans receivable, unsecured and secured medium-term loans, unsecured and secured long-term loans and overdue loans), exchange bills negotiated, factored accounts receivable without recourse, acceptances and guarantees. c. Interest rate sensitivity information
Interest Rate Sensitivity December 31, 2007
(In Thousands of New Taiwan Dollars, %)
181 Days to Items 1 to 90 Days 91 to 180 Days Over One Year Total One Year Interest rate-sensitive assets $ 126,322,175 $ 3,815,982 $ 4,358,775 $ 12,432,573 $ 146,929,505 Interest rate-sensitive liabilities 73,818,565 66,628,641 16,535,088 5,242,040 162,224,334 Interest rate-sensitive gap 52,503,610 (62,812,659 ) (12,176,313 ) 7,190,533 (15,294,829 ) Net worth 32,665,550 Ratio of interest rate-sensitive assets to liabilities 90.57% Ratio of interest rate sensitivity gap to net worth (46.82% )
Interest Rate Sensitivity December 31, 2006
(In Thousands of New Taiwan Dollars, %)
181 Days to Items 1 to 90 Days 91 to 180 Days Over One Year Total One Year Interest rate-sensitive assets $ 136,218,055 $ 12,269,236 $ 8,260,143 $ 23,865,491 $ 180,612,925 Interest rate-sensitive liabilities 105,760,050 60,029,858 33,751,475 19,751,725 219,293,108 Interest rate-sensitive gap 30,458,005 (47,760,622 ) (25,491,332 ) 4,113,766 (38,680,183 ) Net worth 16,604,318 Ratio of interest rate-sensitive assets to liabilities 82.36 Ratio of interest rate sensitivity gap to net worth (232.95 )
Note 1: The above amounts included only New Taiwan dollar amounts held by the head office and branches of the Bank (i.e., excluding foreign currency).
Note 2: Interest rate-sensitive assets and liabilities are interest-earning assets and interest-bearing liabilities with revenues or costs affected by interest rate changes.
Note 3: Interest rate sensitivity gap = Interest rate-sensitive assets － Interest rate-sensitive liabilities.
Note 4: Ratio of interest rate-sensitive assets to liabilities = Interest rate-sensitive assets/Interest rate-sensitive liabilities (in New Taiwan dollars).
Interest Rate Sensitivity December 31, 2007
(In Thousands of U.S. Dollars, %)
181 Days to Items 1 to 90 Days 91 to 180 Days Over One Year Total One Year Interest rate-sensitive assets $ 44,880 $ 10,682 $ 19,400 $ - $ 74,962 Interest rate-sensitive liabilities 30,651 57,599 21,675 - 109,925 Interest rate-sensitive gap 14,229 (46,917 ) (2,275 ) - (34,963 ) Net worth (11,065 ) Ratio of interest rate-sensitive assets to liabilities 68.19 Ratio of interest rate sensitivity gap to net worth -
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Interest Rate Sensitivity December 31, 2006
(In Thousands of U.S. Dollars, %)
181 Days to Items 1 to 90 Days 91 to 180 Days Over One Year Total One Year Interest rate-sensitive assets $ 37,336 $ 12,919 $ 15,000 $ 145,408 $ 210,663 Interest rate-sensitive liabilities 101,012 13,884 59,577 - 174,473 Interest rate-sensitive gap (63,676 ) (965 ) (44,577 ) 145,408 36,190 Net worth (6,367 ) Ratio of interest rate-sensitive assets to liabilities 120.74 Ratio of interest rate sensitivity gap to net worth (568.40 )
Note 1: The above amounts included only U.S. dollar amounts held by the head office, domestic branches, OBU and overseas branches of the Bank and excluded contingent assets and contingent liabilities.
Note 2: Interest rate-sensitive assets and liabilities are interest-earning assets and interest-bearing liabilities with revenues or costs affected by interest rate changes.
Note 3: Interest rate sensitivity gap = Interest rate-sensitive assets － Interest rate-sensitive liabilities.
Note 4: Ratio of interest rate-sensitive assets to liabilities = Interest rate-sensitive assets/Interest rate-sensitive liabilities (in U.S. dollars) d. Profitability
(%)
Year Ended Year Ended Items December 31, December 31, 2007 2006 Before income tax (4.60) (5.93) Return on total assets After income tax (4.20) (4.51) Before income tax (46.88) (91.88) Return on equity After income tax (42.79) (69.90) Net income ratio (Note 6) (284.40)
Note 1: Return on total assets = Income before (after) income tax/Average total assets
Note 2: Return on equity = Income before (after) income tax/Average equity
Note 3: Net income ratio = Income after income tax/Total net revenues
Note 4: Income before (after) income tax was the income in the years ended December 31, 2007 and 2006.
Note 5: The above profitability ratios are expressed annually.
Note 6: Total net revenue is negative so it cannot calculate.
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e. Maturity analysis of assets and liabilities
Maturity Analysis of Assets and Liabilities (New Taiwan Dollars) December 31, 2007
(In Thousands of New Taiwan Dollars)
Remaining Period to Maturity Total 181 Days- 1-30 Days 31-90 Days 91-180 Days Over 1 Year 1 Year Main capital inflow on maturity $ 180,325,222 $ 53,987,972 $ 7,413,526 $ 11,523,390 $ 48,827,186 $ 58,573,148 Main capital outflow on maturity 220,944,345 18,491,809 27,175,249 59,295,818 55,291,931 60,689,538 Gap (40,619,123 ) 35,496,163 (19,761,723 ) (47,772,428 ) (6,464,745 ) (2,116,390 )
Maturity Analysis of Assets and Liabilities (New Taiwan Dollars) December 31, 2006
(In Thousands of New Taiwan Dollars)
Remaining Period to Maturity Total 181 Days- 1-30 Days 31-90 Days 91-180 Days Over 1 Year 1 Year Main capital inflow on maturity $ 246,298,162 $ 56,874,062 $ 18,564,241 $ 19,958,527 $ 65,380,382 $ 85,520,950 Main capital outflow on maturity 321,153,066 31,024,724 36,915,090 41,355,388 149,189,082 62,668,782 Gap (74,854,904 ) 25,849,338 (18,350,849 ) (21,396,861 ) (83,808,700 ) 22,852,168
Note: The above amounts included only New Taiwan dollar amounts held by the head office and domestic branches of the Bank (i.e., excluding foreign currency).
Maturity Analysis of Assets and Liabilities (U.S. Dollars) December 31, 2007
(In Thousands of U.S. Dollars)
Remaining Period to Maturity Total 181 Days- 1-30 Days 31-90 Days 91-180 Days Over 1 Year 1 Year Main capital inflow on maturity $ 122,074 $ 59,579 $ 12,890 $ 21,600 $ 9,741 $ 18,264 Main capital outflow on maturity 122,074 71,099 14,419 21,369 21,969 (6,782 ) Gap - (11,520 ) (1,529 ) 231 (12,228 ) 25,046
Maturity Analysis of Assets and Liabilities (U.S. Dollars) December 31, 2006
(In Thousands of U.S. Dollars)
Remaining Period to Maturity Total 181 Days- 1-30 Days 31-90 Days 91-180 Days Over 1 Year 1 Year Main capital inflow on maturity $ 253,512 $ 28,467 $ 17,180 $ 15,817 $ 29,981 $ 162,067 Main capital outflow on maturity 253,512 98,653 21,495 15,038 70,863 47,463 Gap - (70,186 ) (4,315 ) 779 (40,882 ) 114,604
Note 1: The above amounts included only U.S. dollar amounts held by the head office, domestic branches and OBU of the Bank.
Note 2: If the overseas asset is above 10% of total assets of the head office, it is necessary to provide supplementary disclosure information.
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34. TRUST BUSINESS UNDER THE TRUST LAW
a. Trust-related items, as shown in the following balance sheet and trust property list
Balance Sheet of Trust Accounts December 31, 2007 and 2006
Trust Assets 2007 2006 Trust Liabilities 2007 2006
Cash in bank $ 87,118 $ - Account payables $ 3,028 $ - Short-term investments Advanced revenues 1,738,926 - Bonds 20,623,831 19,546,000 Trust capital Mutual funds 18,707,727 14,025,510 Money 39,789,491 33,571,510 Common stock 591,949 114,878 Securities 357,784 114,878 Account receivables Real property 16,200 8,400 Note receivables 3,410 - Superficies 1,189,000 1,189,000 Prepaid account Net income 1,470,434 - Prepaid expenses 1,105,129 - Accumulated deficit (1,689,615 ) - Prepaid taxes 102 - Real property 16,200 8,400 Intangible assets Superficies 1,189,000 1,189,000 Other assets Deferred expenses 550,782 -
Trust assets $ 42,875,248 $ 34,883,788 Trust liabilities $ 42,875,248 $ 34,883,788
Trust Property List December 31, 2007 and 2006
Investment Items 2007 2006
Cash in bank $ 87,118 $ - Short-term Bonds 20,623,831 19,546,000 Mutual funds 18,707,727 14,025,510 Common stock 591,949 114,878 Real property Others 16,200 8,400 Intangible assets Superficies 1,189,000 1,189,000
$ 41,215,825 $ 34,883,788
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Statements of Income on Trust Accounts Year Ended December 31, 2007
2007 Revenues
Interest $ 1,730,919 Other revenues 394 Revenues from beneficiary certificates 1,731,313
Expenses
Management fees 125,977 Levies fees 79 Service fees 34 Property loss 134,789 Expenses from beneficiary certificates 260,879 Net income before tax 1,470,434 Income tax expenses -
Net income $ 1,470,434
Note: The above statement of income belongs to trust division and not belongs to the Bank.
b. Nature of trust business operations under the Trust Law: Note 1.
35. ADDITIONAL DISCLOSURES
Following are the additional disclosures required by the Securities and Futures Bureau for the Bank and its investees:
a. Related information of significant transactions and investees:
1) Financing provided: None
2) Endorsement/guarantee provided: None
3) Marketable securities held: None
4) Marketable securities acquired and disposed of at costs or prices of at least NT$300 million or 10% of the paid-in capital (the Bank disclosed its investments accumulated or disposed of): None
5) Acquisition of individual real estates at costs of at least NT$300 million or 10% of the paid-in capital: Table 1 (attached)
6) Disposal of individual real estates at costs of at least NT$300 million or 10% of the paid-in capital: None
7) Allowance of service fees to related parties amounting to at least NT$5 million: None
8) Receivables from related parties amounting to at least NT$300 million or 10% of the paid-in capital: None
9) Sale of nonperforming loans: Table 2 (attached)
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10) Financial asset securitization: None
11) Other significant transactions which may affect the decisions of users of financial reports: Note 22
12) Proportionate in investees: Table 3 (attached)
b. Investment in Mainland China: None.
36. SEGMENT INFORMATION
The Bank mainly conducts banking businesses. As of December 31, 2007, the Bank had no overseas operation department.
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TABLE 1
COSMOS BANK, TAIWAN
ACQUISITION OF REAL ESTATE AMOUNTING TO $300 MILLION OR 10% OF PAID-IN CAPITAL OR MORE YEAR ENDED DECEMBER 31, 2007 (In Thousands of New Taiwan Dollars)
Previous Transfer Information If The Other Side Is A Related Party Basis of the Purpose of Other Acquisition Company Property Name Trade Date Trade Amount Payment Condition Counter-party Relationship The Relationship Transfer Ownership Amount Acquisition Price Acquisition Agreements With Date
Cosmos Bank, Taiwan Real estate (classified as May 4, 2007 $413,880 The Bank made a full Jia Yi Building Co. Debtor - - - $ - An appraisal of To get full repayment - (the “Bank”) foreclosed collaterals) payment after the transfer $411,334 by of the of property ownership and the court counter-party’s Jia Yi Building Co. full loan repayment of its loans from the Bank
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TABLE 2
COSMOS BANK, TAIWAN
SALE OF NONPERFORMING LOANS DECEMBER 31, 2007 (In Thousands of New Taiwan Dollars)
Trade Date Counter-party Loan Collateral Book Value Price Gain (Loss) on Disposal Incidentals Relationship with the Bank
January 8, 2007 Bright Asia Int’l Holdings Ltd. (BVI) Lands, buildings and $ - $ 223,529 $ 223,529 - None equipment (Had been written off) (Included in the recovery of (Borrower: An Feng Steel Co.) written-off loans and recorded as allowance for possible losses)
May 25, 2007 Go Ji Asset Management Co. Lands - 220,000 220,000 - None (Had been written off) (Included in the recovery of (Borrower: Ho Go Development Co.) written-off loans and recorded as allowance for possible losses)
June 29, 2007 Chen, Ji-Liang, Chen, Ji-sheng, Chen, Ji-tian, Lands - 367,120 367,120 - None Chen, Ji-fu, Yao Long Enterprises Ltd. (Had been written off) (Included in the recovery of (Borrower: Tuntex Thailand Co.) written-off loans and recorded as allowance for possible losses)
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TABLE 3
COSMOS BANK, TAIWAN
PROPORTIONATE SHARE IN INVESTEES YEAR ENDED DECEMBER 31, 2007 (In Thousands of New Taiwan Dollars)
Proportionate Share of the Bank and its Affiliates in Investees (Note 1) Percentage Investor Main Businesses and Investment Gain Total Investee Company Location of Carrying Value Note Company Products (Loss) Shares Pro Forma Percentage Ownership Shares (Thousands) Shares (Note 2) of (Thousands) Ownership
Finance - related business Taipei Forex Inc. Taipei Foreign exchange brokering 0.40 $ 800 $ 249 80 - 80 0.40 Taiwan Futures Exchange Co., Ltd. Taipei Future clearing 0.51 10,250 687 1,127 - 1,127 0.51 Financial Information Service Co., Ltd. Taipei Information service 1.23 49,120 8,350 4,912 - 4,912 1.23 Taiwan Asset Management Corporation Taipei Acquisition of delinquent loans 0.57 100,000 9,410 10,000 - 10,000 0.57 Taiwan Depository and Clearing Corp. Taipei Depository and clearing 0.08 6,345 236 241 - 241 0.08 Reliance Securities Investment Trust Taipei Financial investment 20.00 42,749 5,268 8,785 - 8,785 20.00 Corporation Ltd. Yang-Kuan Asset Management Corporation Taipei Acquisition of delinquent loans 5.74 3,445 - 344 - 344 5.74
Non-finance related business Euroc II Venture Capital Corporation Taipei Investment 7.50 60,000 - 6,000 - 6,000 7.50 Cosmos Construction Management Taipei Real estate appraisal 9.39 - - 7,043 - 7,043 9.45 Corporation Lien-An Service Co. Taipei Service 5.00 1,250 125 125 - 125 5.00 Euroc III Venture Capital Corp. Taipei Investment 5.00 30,000 - 3,000 - 3,000 5.00 CDIB & Partners Investment Holdings Taipei Investment 4.95 500,000 21,492 54,000 - 54,000 4.95
Note 1: The holding of shares or pro forma shares by the Bank, directors, supervisors, president, vice president and affiliates were included in accordance with the Company Law have been included.
Note 2: a. Pro forma shares are shares that are assumed to have been obtained through buying equity-based securities or entering into equity-linked derivative contracts for purposes defined in Article 74 of the Banking Law.”
b. Equity-based securities such as convertible bonds and warrants are covered by Article 11 of the “Securities and Exchange Law Enforcement Rules,” such as convertible bonds and warrants.
c. Derivative contracts are those instruments conforming to the definition of derivatives in Statement of Financial Accounting Standards No. 34 - “Accounting for Financial Instruments,” such as stock options.
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TABLE 4
COSMOS BANK, TAIWAN
RELATED-PARTY TRANSACTIONS DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars)
1. Loans
2007 Loan Classification Differences in Highest Balance in Transaction Terms Type Account Volume or Name the Year Ended Ending Balance Nonperforming Collateral Normal Loans from Those for December 31, 2007 Loans Unrelated Parties
Consumer loans for employees 18 $ 25,979 $ 21,066 $ 21,066 $ - Real estate; some loans had no None collaterals Self-used housing mortgage loan 15 38,421 32,760 32,760 - Real estate None Other loans Prince Motors Corporation (PMC) 1,569,000 (Note) - - Real estate None Other loans Yung Mei Automobile Co., Ltd. 1,540,000 (Note) - - Real estate None Other loans Formosan Chemical Ind. Corp. 955,600 (Note) - - Real estate None Other loans Taizi Investment Co., Ltd. 500,000 (Note) - - Real estate None Other loans Shin Kong Chao Fend Co., Ltd. 450,000 (Note) - - Real estate None Other loans Formosan Glass Corporation 448,000 (Note) - - Real estate None Other loans Chung Hsien Investment Co., Ltd. 94,000 (Note) - - Publicly listed stocks, real None estate Other loans Cosmos Construction Management Corporation (CCMC) 56,000 (Note) - - Real estate None Other loans Lin, Ching Jong 5,074 - - - Real estate None
Note: The Company was no longer a related party as of December 31, 2007.
2006 Loan Classification Differences in Highest Balance in Transaction Terms Type Account Volume or Name the Year Ended Ending Balance Nonperforming Collateral Normal Loans from Those for December 31, 2006 Loans Unrelated Parties
Consumer loans for employees 21 $ 31,998 $ 17,501 $ 17,501 $ - Real estate; some loans had no None collaterals Self-used housing mortgage loan 15 49,890 33,811 33,811 - Real estate None Other loans Prince Motors Corporation (PMC) 1,535,000 1,519,000 1,519,000 - Real estate None Other loans Yung Mei Automobile Co., Ltd. 1,390,000 1,390,000 1,390,000 - Real estate None Other loans Formosan Chemical Ind. Corp. 966,900 955,600 955,600 - Real estate None Other loans Taizi Investment Co., Ltd. 655,000 500,000 500,000 - Real estate None Other loans Shin Kong Chao Fend Co., Ltd. 450,000 450,000 450,000 - Real estate None Other loans Formosan Glass Corporation 448,000 448,000 448,000 - Real estate None Other loans Chung Hsien Investment Co., Ltd. 94,000 - - - Publicly listed stocks, real None estate Other loans Cosmos Construction Management Corporation (CCMC) 60,000 56,000 56,000 - Real estate None Other loans Lin, Ching Jong 5,726 5,074 5,074 - Real estate None Other loans Zheng, Shun Shun 5,000 - - - Real estate None
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2. Guarantees
2007 Highest Balance of Balance in the Ending the Reserve Interest Name Year Ending Collateral Balance for Rate December 31, Guarantees 2007
Yung Mei Automobile Co., $ 200,000 (Note) $ - 0.75% Real estate Ltd. Chung Hsien Investment 94,000 (Note) - 0.50% Publicly listed stocks, Co., Ltd. real estate Prince Motors Corporation 50,000 (Note) - 0.75% Real estate (PMC)
Note: The Company was no longer a related party as of December 31, 2007.
2006 Highest Balance of Balance in the Ending the Reserve Interest Name Year Ending Collateral Balance for Rate December 31, Guarantees 2006
Yung Mei Automobile Co., $ 250,000 $ 200,000 $ 2,000 0.75% Real estate Ltd. Chung Hsien Investment 110,000 94,000 940 0.50% Publicly listed stocks, Co., Ltd. real estate Prince Motors Corporation 51,726 50,000 500 0.75% Real estate (PMC) Formosan Chemical Ind. 350,000 - - 0.50% Real estate Corp. Formosan Glass 200,824 - - 0.50-0.60% Real estate Corporation
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TABLE 5
COSMOS BANK, TAIWAN
ASSET QUALITY - NONPERFORMING LOANS AND RECEIVABLES DECEMBER 31, 2007 AND 2006 (In Thousands of New Taiwan Dollars, %)
Period December 31, 2007 December 31, 2006 Nonperforming Ratio of Nonperforming Ratio of Allowance for Coverage Ratio Allowance for Coverage Ratio Items Loans Loans Nonperforming Loans Loans Nonperforming Possible Losses (Note 3) Possible Losses (Note 3) (Note 1) Loans (Note 2) (Note 1) Loans (Note 2) Corporate Secured $ 2,402,255 $ 32,097,805 7.48% $ 457,639 19.05% $ 5,133,363 $ 37,018,296 13.87% $ 491,568 9.58% Banking Unsecured 1,927,966 24,829,906 7.76% 2,337,656 121.25% 2,642,163 28,529,549 9.26% 2,278,409 86.23% Housing mortgage (Note 4) 158,764 6,954,216 2.28% 17,147 10.80% 83,961 6,379,884 1.32% 12,277 14.62% Cash card 1,698,588 44,593,647 3.81% 2,581,025 151.95% 2,184,000 54,928,247 3.98% 5,699,570 260.97% Consumer Small scale credit loans (Note 5) 698,343 5,024,269 13.90% 754,085 107.98% 285,394 6,052,181 4.72% 550,922 193.04% Banking Secured 99,893 5,899,982 1.69% 41,440 41.48% 97,737 5,634,864 1.73% 68,777 70.37% Other (Note 6) Unsecured 93,610 560,513 16.70% 119,541 127.70% 148,946 1,495,556 9.96% 344,047 230.99% Loan 7,079,419 119,960,338 5.90% 6,308,533 89.11% 10,575,564 140,038,577 7.55% 9,445,570 89.32% Ratio of Ratio of Nonperforming Nonperforming Nonperforming Allowance for Coverage Ratio Nonperforming Allowance for Coverage Ratio Receivables Receivables Receivables Receivables Receivables Possible Losses (Note 3) Receivables Possible Losses (Note 3) (Note 1) (Note 1) (Note 2) (Note 2) Credit cards 103,565 4,387,885 2.36% 106,208 102.55% 46,406 5,278,173 0.88% 243,507 524.73% Factored accounts receivable without recourse (Note 7) 629 1,152,155 0.05% 1,613 256.44% - - - - - Amounts of executed contracts on negotiated debts not reported as nonperforming loans (Note 8) 9,124,374 14,262,577 Amounts of executed contracts on negotiated debts not reported as nonperforming receivables (Note 8) 541,527 796,998
Note 1: Nonperforming loans are reported to the authorities and disclosed to the public, as required by the “Regulations Governing the Procedures for Banking Institutions to Evaluate Assets and Deal with Nonperforming/ Non-accrued Loans.” Nonperforming credit card receivables are reported to the authorities and disclosed to the public, as required by the Banking Bureau’s letter dated July 6, 2005 (Ref. No. 0944000378).
Note 2: Ratio of nonperforming loans: Nonperforming loans ÷ Outstanding loan balance. Ratio of nonperforming credit card receivables: Nonperforming credit card receivables ÷ Outstanding credit card receivables balance.
Note 3: Coverage ratio of loans: Allowance for possible losses for loans ÷ Nonperforming loans. Coverage ratio of credit card receivables: Allowance for possible losses for credit card receivables ÷ Nonperforming credit card receivables.
Note 4: The mortgage loan is for house purchase or renovation and is fully secured by housing that is purchased (owned) by the borrower, the spouse or the minor children of the borrowers.
Note 5: Based on the Banking Bureau’s letter dated December 19, 2005 (Ref. No. 09440010950), small-scale credit loans are unsecured, involve small amounts and exclude credit cards and cash cards.
Note 6: Other consumers banking loans refer to secured or unsecured loans that exclude housing mortgage, cash cards, credit cards and small-scale credit loans.
Note 7: As required by the Banking Bureau in its letter dated July 19, 2005 (Ref. No. 0945000494), factored accounts receivable without recourse are reported as nonperforming receivables within three months after the factors or insurance companies refuse to indemnify banks for any liabilities on these accounts.
Note 8: The amounts of executed contracts on negotiated debts that are not reported as nonperforming loans or receivables are reported in accordance with the Banking Bureau’s letter dated April 25, 2006 (Ref. No. 09510001270).
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