INFORMATION fy(i) 2008 ANNUAL FINANCIAL REPORT 07–08 150 YEARS OF PERFORMANCE National Australia Bank Limited ABN 12 004 044 937 This 2008 annual fi nancial report is lodged with the Australian Securities and Investments Commission and ASX Limited. National Australia Bank Limited (NAB) is publicly listed in Australia and overseas. This report contains information prepared on the basis of the Banking Act 1959 (Cth), Corporations Act 2001 (Cth) and Australian equivalents to International Financial Reporting Standards. The Group de-registered from the United States Securities Exchange Commission (SEC) effective 20 September 2007. Accordingly, the NAB is not required to include SEC related disclosures in this fi nancial report for either the current or comparative fi nancial years. NAB no longer produces a concise report under s314(2) of the Corporations Act 2001 (Cth), and instead compiles a non-statutory shareholder review. To view the annual fi nancial report online, visit www.nabgroup.com. Alternatively, to arrange for a copy to be sent to you free of charge, call Shareholder Services on 1300 367 647 from within Australia, or +61 3 9415 4299 from outside Australia. Nothing in this report is, or should be taken as, an offer of securities in NAB for issue or sale, or an invitation to apply for the purchase of such securities. All fi gures in this document are in Australian dollars unless otherwise stated. Table of contents Report of the directors 2 27 Life policy liabilities 79 Remuneration report 13 28 Current and deferred tax liabilities 80 Corporate governance 32 29 Provisions 81 Financial report 39 30 Bonds, notes and subordinated debt 82 Income statement 40 31 Other debt issues 84 Balance sheet 41 32 Defined benefit pension scheme assets and liabilities 84 Recognised income and expense statement 42 33 Other liabilities 86 Cash flow statement 43 34 Contributed equity 87 Notes to the financial statements 44 35 Reserves 89 1 Principal accounting policies 44 36 Retained profits 90 2 Segment information 56 37 Shares, performance options and performance rights 91 3 Net interest income 59 38 Average balance sheets and related interest 95 4 Other income 60 39 Interest rate risk 97 5 Operating expenses 61 40 Notes to the cash flow statement 100 6 Income tax expense 62 41 Particulars in relation to controlled entities 102 7 Dividends and distributions 62 42 Contingent liabilities and credit commitments 103 8 Earnings per share 63 43 Financial risk management 109 9 Cash and liquid assets 64 44 Fair value of financial instruments 122 10 Due from other banks 64 45 Operating leases 124 11 Trading and hedging derivative assets and liabilities 65 46 Capital expenditure commitments 125 12 Trading securities 68 47 Related party disclosures 125 13 Investments - available for sale 68 48 Equity instrument holdings of key management personnel 128 14 Investments - held to maturity 69 49 Remuneration of external auditor 130 15 Investments relating to life insurance business 69 50 Fiduciary activities 130 16 Other financial assets at fair value 69 51 Life insurance business disclosures 131 17 Loans and advances 70 52 Capital adequacy 136 18 Provisions for doubtful debts 72 53 Events subsequent to balance date 136 19 Asset quality disclosures 73 Directors’ declaration 137 20 Property, plant and equipment 74 Independent auditor's report 138 21 Investments in controlled entities 75 Shareholder information 139 22 Goodwill and other intangible assets 76 Supplementary information - Capital adequacy 143 23 Deferred tax assets 77 Supplementary information - Disclosure on special purpose entities 147 24 Other assets 78 Glossary 153 25 Other financial liabilities at fair value 78 26 Deposits and other borrowings 78 2008 Annual Financial Report 1 Report of the directors The directors of National Australia Bank Limited (Company) Net life insurance income decreased $3,575 million from $1,758 present their report, together with the financial statements of the million in 2007 to $(1,817) million in 2008. Negative investment Group, being the Company and its controlled entities, for the year market experience within domestic and global financial markets ended 30 September 2008. during the 2008 year has resulted in: The directors of the Company have a significant responsibility with x a reduction in investment revenue attributable to unit linked respect to the integrity of external reporting. This involves investments and life insurance business that is largely offset reviewing and monitoring, with the assistance of the Audit by movements in amounts owing to policyholders; and Committee and management, the processes, controls and x a reduction in investment revenue attributable to equity procedures which are in place to maintain the integrity of the investment holdings in consolidated trusts. The minority Group’s financial statements. Further details of the role of the interest holders of the trusts share in these losses; their Board and its committees can be found in the Corporate share is reflected as the Net loss attributable to minority Governance section and on the Group’s website interest and therefore increases Net profit attributable to www.nabgroup.com. members of the Company. Other income of $3,849 million in 2008, was $676 million or 14.9% Principal activities and significant changes in lower than 2007. Excluding the impact of fair value movements nature of activities on derivatives hedging short-term funding of $436 million which is The principal activities of the Group during the year were banking offset within net interest income, other operating income was services, credit and access card facilities, leasing, housing and down $240 million or 5.3%. This outcome is a combination of the general finance, international banking, investment banking, wealth following factors: management, funds management, life insurance, and custodian, x Gains less losses on financial instruments at fair value trustee and nominee services. decreased $718 million. Excluding the impact of the negative spread on derivatives used to hedge foreign denominated Review of operations and Group results short-term funding (which is offset in net interest income), the decrease was $282 million or 47%. This is attributable to Financial performance summary Group nabCapital including through the hedge costs of securitisation conduit risk mitigation trades, an increase in 2008 2007 $m $m impairment charges on Investments – available for sale and credit adjustment on derivatives, and is partially offset by: Net interest income 11,098 9,746 Net life insurance income (1,817) 1,758 - a gain on sale of shares allocated by Visa Inc upon its initial public offering; Other income 3,849 4,525 - strong sales performance in the Markets division. This Operating expenses (7,280) (7,412) was driven by increased deal flow from clients seeking Charge to provide for doubtful debts (2,703) (790) risk management products in light of the credit Profit before income tax expense 3,147 7,827 environment and market volatility and the success of the cross-sell strategy to all client segments; and Income tax expense (39) (2,255) - trading gains delivered through favourable positioning in Net profit 3,108 5,572 volatile markets particularly during the first half. Net (profit)/loss attributable to minority interest 1,428 (994) x Other operating income was $42 million or 1.1% higher than Net profit attributable to members of 2007. This is attributable to: the Company 4,536 4,578 - higher fees and commissions, predominantly in Australia Banking from volume growth and repricing initiatives Net profit attributable to members of the Company of $4,536 that better align price to the current risk settings; million in 2008, decreased $42 million or 0.9% compared with partially offset by 2007. - the sale of the portfolio of operating leases in the UK Net interest income of $11,098 million in 2008, was $1,352 million during December 2007 as a strategic divestment of a or 13.9% higher than 2007. This includes an increase of $436 non-core activity, resulting in a $48 million reduction in million from larger interest-spread differentials between lease rental income. international and Australian interest rates. This was fully offset by Operating expenses of $7,280 million in 2008 were $132 million or fair value movements of the derivatives hedging short term 1.8% lower than 2007. This outcome reflects: funding in Other income. x an $87 million reduction in personnel expenses mainly as The underlying increase of $916 million or 9.4% reflects lending performance based remuneration decreased in line with the and deposit volume growth and good margin management, financial performance of the Group during the year; partially particularly in Australia Banking. nabCapital made a strong offset by contribution from origination and Markets activity. Volume growth x the impact of the acquisition of Great Western is offset by a decline in the Group net interest margin from 2.27% Bancorporation. to 2.19% due to competitive pressures on deposit margins, increased funding costs through increased credit spreads and The charge to provide for doubtful debts of $2,703 million in 2008, increased basis risk through the market disruption. Increased was $1,913 million higher than 2007. This increase was driven by borrowing costs due to higher pricing within global funding a $1,011 million provision for Asset Backed Securities markets contributed $369 million of this decrease in the Group net Collateralised Debt Obligations (ABS CDOs) exposure, increased interest income; however, repricing initiatives partially mitigated specific provisions for a small number of corporate customers and this impact. deterioration in economic conditions in all regions (most notably the UK). The charge also includes an economic cycle adjustment of $214 million to strengthen the Group’s balance sheet to withstand current economic volatility. Income tax expense of $39 million in 2008, was $2,216 million lower than 2007.