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Arbuthnot Banking Group PLC  -  ARBB   

Final Results

Released 07:00 28-Mar-2018

RNS Number : 1581J
Arbuthnot Banking Group PLC
28 March 2018
 



28 March 2018

For immediate release

 

ARBUTHNOT BANKING GROUP ("Arbuthnot", "the Group" or "ABG")

Audited Final Results for the year to 31 December 2017

 

Increased profitability as capital successfully deployed

 

Arbuthnot Banking Group today announces an increase in underlying profit of 91%.

 

Arbuthnot Banking Group PLC is the holding company for Arbuthnot Latham & Co., Limited and has an 18.6% shareholding in Secure Trust Bank PLC.

 

FINANCIAL HIGHLIGHTS

·      Profit Before Tax £7.0m (2016: £0.2m)*

·      Underlying profit before tax £7.7m (2016: £4.0m)

·      Operating income increased by 32% to £54.6m (2016: £41.5m)

·      Earnings per share 43.9p (2016: (3.7p))*

·      Final dividend per share 19p (2016: 18p), an increase of 6%

·      Total full year dividend per share 33p (2016: 31p)**

·      Underlying net assets £236m (2016: £234m)

·      Net assets per share 1547p (2016: 1534p)

·      Underlying return on deployed equity 10.0% (2016: 9.6%)

 

OPERATIONAL HIGHLIGHTS

 

Arbuthnot Latham

·      Profit before tax £11.0m (2016: £9.1m) an increase of 21%

·      Average net margin at 4.8% (2016: 4.8%)

·      Customer loans exceeded £1bn increasing 38% to £1,049m (2016: £759m)

·      Written loan volume increased 105% to £466m (2016: £227m)

·      Customer deposits exceeded £1bn increasing 39% to £1,391m (2016: £998m)

·      Assets under management exceeded £1bn increasing 13% to £1,044m (2016: £920m)

·      Completed acquisition of Renaissance Asset Finance Limited on 28 April 2017

·      Installed Oracle Flexcube operating system at a total investment of £8m

 

Secure Trust Bank - Associated Undertaking

·      Shareholding maintained at 18.6%

·      Treated as an associated undertaking due to significant influence via three board members

·      Reported £4.4m of profit from associate (2016: £2.1m)

 

Commenting on the results, Sir Henry Angest, Chairman and Chief Executive of Arbuthnot, said: "The Group had a good year, with profits increasing substantially, supported by the deployment of capital into the business. Arbuthnot Latham reached a creditable milestone of surpassing £1bn in its key business metrics: Customer Loans, Customer Deposits and Assets under Management. With a new banking system successfully installed, strong capital and a good liquidity surplus, the Group is well set for further growth."

 

Note:      *   The prior year profit and EPS excludes profit from discontinued operations of £228m.

                ** The total dividend for 2016 excludes special dividend payments of 325p.

 

ENQUIRIES:






Arbuthnot Banking Group



Sir Henry Angest, Chairman and Chief Executive

0207 012 2400


Andrew Salmon, Chief Operating Officer



James Cobb, Group Finance Director






Stifel Nicolaus Europe Ltd trading as KBW (Nomad and Joint Broker)

0207 710 7600


Robin Mann



Gareth Hunt



Stewart Wallace






Numis Securities Ltd (Joint Broker)



Chris Wilkinson

0207 260 1000


Stephen Westgate






Maitland (Financial PR)



Neil Bennett



Jais Mehaji



Sam Cartwright

0207 379 5151


 

The 2017 Annual Report and Notice of Meeting will be posted and available on the Arbuthnot Banking Group website http://www.arbuthnotgroup.com on or before 13 April 2018.  Copies may be obtained from the Company Secretary, Arbuthnot Banking Group PLC, Arbuthnot House, 7 Wilson Street, London, EC2M 2SN.

 

 

Consolidated statement of comprehensive income

 




Year ended 31 December




2017

2016


Note


£000

£000

Interest income

8


47,427

38,071

Interest expense



(6,334)

(7,626)

Net interest income



41,093

30,445

Fee and commission income

9


13,805

11,430

Fee and commission expense



(282)

(425)

Net fee and commission income



13,523

11,005

Operating income



54,616

41,450

Net impairment loss on financial assets

10


(394)

(474)

Profit from associates

27


4,437

2,145

Other income

11


3,033

3,169

Operating expenses

12


(54,721)

(46,111)

Profit before tax from continuing operations



6,971

179

Income tax expense

13


(448)

(720)

Profit / (loss) after tax from continuing operations



6,523

(541)

Profit from discontinued operations after tax

14


 -  

228,110

Profit for the year



6,523

227,569

Other comprehensive income





Items that are or may be reclassified to profit or loss





Available-for-sale reserve



128

(2,377)

Available-for-sale reserve - Associate



389

(389)

Tax on other comprehensive income



(104)

456

Other comprehensive income for the period, net of tax



413

(2,310)

Total comprehensive income for the period



6,936

225,259






Profit attributable to:





Equity holders of the Company



6,523

166,143

Non-controlling interests



 -  

61,426

Profit for the year



6,523

227,569






Total comprehensive income attributable to:





Equity holders of the Company



6,936

164,320

Non-controlling interests



 -  

60,939

Total comprehensive income for the period



6,936

225,259






Earnings per share for profit attributable to the equity holders of the Company during the year





(expressed in pence per share):





Basic earnings per share - Continuing operations

16


43.9

(3.7)

Basic earnings per share - Discontinued operations

16


 -  

1,130.9

Basic earnings per share

16


43.9

1,127.2






Diluted earnings per share - Continuing operations

16


43.9

(3.7)

Diluted earnings per share - Discontinued operations

16


 -  

1,130.4

Diluted earnings per share

16


43.9

1,126.7

 

 

Consolidated statement of financial position

 




At 31 December




2017

2016


Note


£000

£000

ASSETS





Cash and balances at central banks

17


313,101

195,752

Loans and advances to banks

18


70,679

36,951

Debt securities held-to-maturity

19


227,019

107,300

Assets classified as held for sale

20


2,915

Derivative financial instruments

21


2,551

1,516

Loans and advances to customers

22


1,049,269

758,799

Other assets

24


20,624

11,939

Financial investments

25


2,347

2,145

Deferred tax asset

26


1,527

1,665

Interests in associates

27


83,804

82,574

Intangible assets

28


15,995

8,522

Property, plant and equipment

30


3,962

4,782

Investment property

31


59,439

53,339

Total assets



1,853,232

1,265,284

EQUITY AND LIABILITIES





Equity attributable to owners of the parent





Share capital

37


153

153

Retained earnings

38


237,171

235,567

Other reserves

38


(949)

(1,362)

Total equity



236,375

234,358

LIABILITIES





Deposits from banks

32


195,097

3,200

Derivative financial instruments

21


931

227

Deposits from customers

33


1,390,781

997,649

Current tax liability



705

147

Other liabilities

34


16,239

17,082

Debt securities in issue

35


13,104

12,621

Total liabilities



1,616,857

1,030,926

Total equity and liabilities



1,853,232

1,265,284

 

 

Chairman's statement

 

I am pleased to report that Arbuthnot Banking Group ("ABG" or the "Group") has achieved a profit before tax for 2017 of £7.0m (2016: £0.2m), which reflects the financial result of the deployment of part of our surplus capital into expanding the businesses of our principal banking subsidiary Arbuthnot Latham & Co., Ltd ("AL" or the "Bank").

 

Overview

It has been a notable year for many reasons, not just that of the financial results. During the year AL reached the creditable milestone of surpassing £1bn in three of its key business metrics: Customer Loans, Customer Deposits and Assets under Management. This was achieved while undertaking a significant IT infrastructure project that touched all parts of the Bank.  

 

Over the May Bank Holiday weekend, the Bank installed its new banking platform Flexcube, supplied by Oracle, as part of an investment programme worth in excess of £8m. The weekend was a culmination of two years of careful planning and preparation by a significant number of our employees. Over the weekend 120 employees, approximately one third of the Group, gave up their time to achieve a successful transition.

 

As I mentioned in last year's statement our intention, after having sold a significant stake in Secure Trust Bank, is to develop and diversify the business lines within AL. During 2017 we took two significant steps with this aim in mind. Firstly, we completed the acquisition of Renaissance Asset Finance Limited ("RAF") in April.  This business has been successfully integrated into the Group and has returned to growth after being constrained by the limited access to funding it suffered as an independent entity.  AL has meanwhile benefited from gaining RAF's expertise in the asset finance markets, by being able to refer a number of lending deals that previously we might not have been able to complete.

 

Secondly, our development of the Commercial Banking business continues at a robust pace.  We hired a number of new bankers and expanded into new business areas and regions during the year. This business closed the year with over £300m of customer loans, a significant achievement given the fact it was only launched in early 2016.

 

We plan to continue our diversification in 2018 as we work with the team that we have hired to establish Asset Based Lending and others with whom we are currently developing plans. These are new start-up ventures that in time should make strong contributions to the Group, but will require a degree of initial investment.  I also look forward to our Commercial Property Fund becoming established during 2018.

 

I initially thought when the financial crisis weakened the larger banks, the major benefit to us would be that the smaller banks would be able to compete more equally in their chosen specialist markets.  I hope this may still come to pass, but it has become much clearer to me that the real benefit of the weakening of the larger banks has been our ability to attract talented employees to develop further the success of our Group. We have made a number of key hires during the year and they are helping to enhance our business and make the operational structures more resilient and provide a sound foundation for expansion.

 

Regulation

Previously I have commented on how unfair I believe both the regulatory and taxation systems can be when they introduce retrospective changes. During 2017 we saw a prime example of this when the Bank of England announced the introduction of a 1% Countercyclical Capital Buffer, to be effective in 2018. This is applicable to the back book of lending as well as new business to be written. How can banks plan over the long term when their capital requirements can be increased by nearly 10% without warning? Keeping significant surplus capital for such moments is inefficient for both the banks and the economy. This buffer on top of the Capital Conservation Buffer, which will be fully phased in within a year from now, has increased the capital requirement by up to 35% for loans that may have been originated prior to these requirements. This can result in inefficient pricing decisions and below target returns on equity. Surely it would make more sense to apply these new capital requirements only to new written business, so that banks can decide if they want to continue to lend? In this way they can make fully informed decisions based on the capital requirements that will be applicable to a loan, rather than trying to anticipate how regulation will evolve over its lifespan.

 

I am also concerned about the unintended consequences of regulatory change. The Countercyclical Capital Buffer was reportedly introduced by the Bank of England with the intention of dampening a perceived bubble that may have been developing in the unsecured credit markets, in particular those related to credit card loans. If this was the case, would it not have made sense to apply the buffer to those institutions that actually carry out unsecured lending?  Instead, the buffer has been imposed on all banks and all types of lending, which is a very blunt instrument to correct a very specific threat. This will result in all credit markets being constrained and ultimately putting a strain on the whole economy.

 

As banks see their returns on equity falling, due to these higher capital levels, their inclination will be either to charge customers more or to move up the risk curve to maintain their target returns. This may over time increase the risks within the banking sector rather than reduce them, entirely contrary to the primary objective of the Bank of England.

 

The fact that banks shape their business models around the regulatory rules should be no surprise to both the regulators and the Government. Thus, you would expect that both of these bodies would ensure that the rules are complementary to Government policy. However, there seems to have been a significant breakdown in this co-ordination regarding the current housing policy. The regulators have increased the capital requirements for development funding by at least 50%, so at the time the Government is calling for more houses to be built, the banks are withdrawing their lending for property developers. I believe that the Government and regulators should revisit these rules to ensure the best outcome for the economy overall.

 

In the final quarter of the year, the Basel Committee published its revised Basel III capital rules; in particular, the changes to the standardised credit risk methodology. From the outset the Regulators had stated that their objective in these revised rules was not to increase total capital within the banking system, but to redistribute it toward credit risks that they felt had been underestimated in the prior model.

 

It will come as no surprise, given our long stated conservative view on risk taking and our business model, that the revised rules will overall be beneficial to our business.  However, I am disappointed by the fact that these rules will not be effective until 2022.  Once again, I fear that intense lobbying from the big banks has favoured them to the detriment of the smaller specialist banks.

 

Board Changes and Personnel

Once again I would like to thank my colleagues on the Board for their continued support and the dedication they have shown to the Group.

 

The performance of the Group also reflects the hard work and commitment of the members of staff. On behalf of the Board I extend our thanks to all of them for their dedicated efforts in 2017.

 

Dividend

The Board is proposing a final dividend of 19p, an increase of 1p on last year.  Together with the interim dividend of 14p it gives a total dividend of 33p (2016: 356p, including special dividends of 325p), which represents an increase of 2p on the ordinary dividend.

 

If approved, the dividend will be paid on 18 May 2018 to shareholders on the register at close of business on 27 April 2018.

 

Outlook

During 2017 and early 2018 the stock markets reached record levels as the global economy continued its recovery, underpinned by loose fiscal policies and the introduction of business-friendly tax regimes, in particular in the US. However, more recently those markets have seen more volatility and corrections to values.

 

We take note of this macro-economic environment, but remain focused on developing our current and new businesses within the Group.  This will bring greater diversity to the earnings of Arbuthnot and should provide greater balance and stability to the Group for the future, which looks promising.

 

By the time you receive my next Chairman's report we will be on the verge of Britain's official exit from the EU. This I believe should not be the major worry for Britain's business community or economy and indeed should present an opportunity. The greater risk must be that of a hard left Labour government.  This could have a significant impact on our clients and business. Such a threat is something that we all, and in particular businesses and entrepreneurs, must take very seriously.

 

 

Strategic Report






Business Review



 

Arbuthnot Latham & Co., Ltd




2017

2016

Operating income

£54.9m

£41.8m

Other income

£3.9m

£4.4m

Operating expenses

£47.4m

£36.6m

Profit before tax

£11.0m

£9.1m

Customer loans

£1,049.3m

£758.8m

Customer deposits

£1,390.8m

£997.6m

Total assets

£1,783.7m

£1,199.2m

Assets under management

£1,044.3m

£919.8m

Average net margin

4.8%

4.8%

Loan to deposit ratio

75.4%

76.0%

 

Arbuthnot Latham and Co., Limited has reported a profit before tax of £11m (2016: £9.1m), which is an increase of 21%. However, the increase in underlying profit is 48%, if the one off gain of £1.6m from the sale of Visa Europe shares in 2016 is removed.

 

Overall, the increased financial performance of the Bank is an indicator of the growth of the three key business metrics: Customer Loans, Customer Deposits and Assets under Management.  Significantly, as well as achieving good growth in annual profits, the Bank achieved a major milestone during the year, with each of the key metrics increasing beyond the £1bn level.  Customer Loans and Deposits increased by 38% and 39% respectively and Asset under Management grew by 13%.

 

A contributing factor to the strong financial performance of the Bank was the completion of the acquisition of RAF. This niche asset finance lending business specialises in financing high value cars and other business assets. Prior to the acquisition it had been an independent business, but was wholly reliant on its funding from a single banking line. The growth ability of the business was therefore constrained, and indeed in the period of time between the announcement of our intention to acquire the operation and the final completion in April, the lending balances declined as the original banking line was gradually withdrawn.

 

At the time of acquisition the customer loan balances were £58m. Once the company became part of the Group, this growth constraint was removed and it was able to return to the market with new vigour and was quickly able to re-energise its relationship with brokers and business introducers, thus returning to a growth trajectory and closed the year with loan balances of £71m.

 

During its eight full months of ownership it directly contributed £1.6m and a further £0.8m to the Group via the funding benefit achieved by the new banking facilities.

 

The business saw no significant change in impairments during the year, with losses running at 20bps.

 

To support the future growth plans of RAF and the resultant increase in activities, the business will be moving to new premises in Basildon toward the end of the first quarter of 2018.

 

Private Banking

The Private Bank increased loan origination by 22% to a record of £201m. However, this was not sufficient to offset repayment of loans.  Overall the loan portfolio closed the year at £578m (2016: £607m).  However, more than half of this reduction is due to the natural amortisation of the acquired loan portfolios, namely those from Duncan Lawrie and the Dunfermline Building Society. These portfolios continue to perform ahead of our expected cash flow forecasts, but still contributed £16m of the reduction in overall balances. The remaining core private banking book reduced by 3%. We expect that the portfolio will return to growth in 2018, with more emphasis on finding niche bespoke lending deals rather than vanilla lending, which has become an increasingly competitive area in recent years.

 

The credit performance of the book remained well within our expected risk tolerance levels with impairments remaining steady during the year at £0.4m (2016: £0.4m). This reflects our conservative lending policies, which focus on not only the standing of the borrower but also the quality of the collateral that we take as security. Our experience to date in managing problem debt positions is that in almost all cases we recover our lending and expect that this will remain the case for the foreseeable future.

 

The Private Bank continued to see a good flow of new client introductions and was able to increase customer deposit balances by 14% to £1,082m (2016: £946m).

 

Many of the new clients transferred their balances into the Wealth Management division of the Private Bank. The Investment Management team saw assets under management increase by a net 13% reaching £1,044m (2016: £920m). The gross client inflow of funds was £166m, which offset natural withdrawals of £135m and the remaining balance is accountable to market increases in clients funds under management.

 

Finally, the Private Bank was the most impacted by the replacement of our banking platform with a new Oracle sourced product, Flexcube. A significant number of employees showed true dedication and commitment to ensure that this project ran as smoothly as could be expected. The Bank now has the modern infrastructure it needs on which to build for the future.

 

Commercial Bank

The Commercial Bank has traded robustly during 2017. Customer loan balances increased by over 300% to close the year at £305m (2016: £76m), as the investment in new bankers resulted in good quality commercial lending opportunities.  The commercial banking proposition of quality service and relationship banking has also proved successful in being able to attract deposits, with the deposit book growing by more than 500% to close the year at £308m (2016: £51m).

 

Now that the business has an established loan portfolio and with it the resultant positive revenue stream, which supports our central overheads, the Commercial Bank will focus on generating higher returns on the capital employed to ensure that this area of growth continues to add to the Group's targeted return on equity.

 

Dubai (included in Private Banking above)

The office in Dubai continued to perform well, contributing £1.8m to the Group's profit.  The customer loan balances closed at £94m (2016: £74m), deposits were £94m (2016: £64m) and AUMs were £95m (2016: £78m).  With a growing confidence that our business can trade in the region, the office is expanding both with larger premises and additional private bankers being recruited. The expansion will double the footprint of the office located in the Dubai Financial Centre. With EXPO 2020 on the horizon, the business is well placed to build and develop the proposition in the UAE and wider region.

 

Funding

Early in 2018, access to further capacity from the Bank of England for liquidity schemes (Funding for Lending Scheme and Term Funding Scheme) was closed. This will leave banks four more years before funding benefits provided by the schemes fully unwind.

 

The Bank has participated in these schemes but only to modest levels. The Bank remains highly liquid with a loan to deposit ratio of 75%.  Importantly, it has also managed to develop a good mix of customer deposits with call, notice and term balances. This should give the Bank an advantage over time as interest rates rise. We anticipate that margins should see a benefit, with our surplus liquidity balances becoming more valuable and providing greater strength to the Bank than relying on "best buy" tables for deposit gathering.

 

Business Development

During 2018 the Bank plans to continue to diversify its income sources by developing further businesses. 

 

The first of these is the creation of an Asset Based Lending ("ABL") business. The core team of seven to establish this have been hired and are based in offices near Gatwick. The Managing Director, Tim Hawkins, has a long and respected track record in this business area and was most recently the head of ABL at Shawbrook. This business expects to write its first customer loans in late Q2 2018.

 

We also have plans to launch a Commercial Property Investment Fund for professional investors and to establish other new lending businesses that have a synergy with our current business and help diversify our revenue streams.

 

A key strength of AL is its ability to raise deposits at attractive margins. The Private Bank has over the years built a significant deposit base and recently this has grown well. Since commencing the Commercial Banking business, the Bank has also created a good SME deposit base. To supplement this, the Bank is now developing a direct to market retail deposit offering. The proposition will further diversify the Bank's sources of funding, with the ability to raise fixed term deposits from the best buy and aggregator platforms.  "Arbuthnot Direct" is expected to soft launch in the middle of the year and be available to depositors in the third quarter.  It is planned only to raise a modest amount of funding from this platform, but it is being put in place, principally, so that if a compelling acquisition proposition became available to the Bank, it would be able to raise additional liquidity at short notice. The platform will be administered from our Exeter office with two additional staff being directly employed and a third party service provider adding additional capacity where needed.

 

 

Strategic Report - Financial Review

 

Arbuthnot Banking Group adopts a pragmatic approach to risk taking and seeks to maximise long term revenues and returns. Given its relative size, it is nimble and able to remain entrepreneurial and capable of taking advantage of favourable market opportunities when they arise.

 

The Group provides a range of financial services to clients and customers in its chosen markets of Private and Commercial Banking and specialist lending. The Group's revenues are derived from a combination of net interest income from lending, deposit taking and treasury activities, fees for services provided and commission earned on the sale of financial instruments and products.

 

Highlights




2017

2016

Summarised Income Statement

£000

£000

Net interest income

41,093

30,445

Net fee and commission income

13,523

11,005

Operating income

54,616

41,450

Profit from associates

4,437

2,145

Other income

3,033

3,169

Operating expenses

(54,721)

(46,111)

Impairment losses - financial investments

 -  

(47)

Impairment losses - loans and advances to customers

(394)

(427)

Profit before tax from continuing operations

6,971

179

Income tax expense

(448)

(720)

Profit after tax from continuing operations

6,523

(541)

Profit from discontinued operations after tax

 -  

228,110

Profit for the year

6,523

227,569




Basic earnings per share (pence) - Continuing operations

43.9

(3.7)

Basic earnings per share (pence) - Discontinuing operations

 -  

1,130.9

Basic earnings per share (pence)

43.9

1,127.2

 

Underlying profit reconciliation

Arbuthnot Latham & Co.

Retail Banking Associate

Group Centre

Arbuthnot Banking Group

31 December 2017

£000

£000


£000

Profit before tax from continuing operations

10,959

4,437

(8,425)

6,971

AL investment in operating systems

78

 -  

 -  

78

AL acquisition costs

108

 -  

 -  

108

RAF - full year equivalent income*

466

 -  

 -  

466

Underlying profit

11,611

4,437

(8,425)

7,623






Underlying basic earnings per share (pence) - Continuing operations




47.5

Underlying basic earnings per share (pence)




47.5

* - RAF profit contribution adjustment as if received from 1 January 2017 and not as currently included from 28 April 2017 (pro forma basis).

 

Underlying profit reconciliation

Arbuthnot Latham & Co.

Retail Banking Associate

Group Centre

Arbuthnot Banking Group

31 December 2016

£000

£000

£000

£000

Profit before tax from continuing operations

9,053

2,145

(11,019)

179

ABG Group bonuses relating to sale of ELL

 -  

 -  

2,304

2,304

STB full year equivalent associate income*

 -  

1,732

 -  

1,732

AL realised profit on AFS investment (Visa)

(1,624)

 -  

 -  

(1,624)

AL investment in operating systems

21

 -  

 -  

21

AL commercial banking investment

999

 -  

 -  

999

AL acquisition costs

398

 -  

 -  

398

Underlying profit

8,847

3,877

(8,715)

4,009






Underlying basic earnings per share (pence) - Continuing operations




17.1

Underlying basic earnings per share (pence)




1,148.1

* - STB associate income adjustment (excl. ELL & bonuses relating to ELL sale) as if received from 1 January 2016 and not as currently included from 16 June 2016 (pro forma basis).

 

The Group has reported a profit before tax of £7.0m (2016: £0.2m). This is a good increase from the prior year and is the result of the continued deployment of part of the significant capital surplus that was created following the part sale of Secure Trust Bank ("STB") shares in 2016.

 

On an underlying basis the Group has generated profits of £7.6m compared to £4m in the prior year, which represents an increase of nearly 91%, reflecting the improving scale being generated in the business.

 

The deployment of capital has largely been focused on increasing the lending portfolio of the Group's businesses and notably during the year the customer loan balances once again exceeded the £1bn mark.

 

In line with ABG's long standing belief that diversification gives the Group strength, a portion of the capital was allocated to complete the acquisition of RAF. This deal was completed on 28 April following the receipt of approval from the relevant regulatory bodies. At the time of completion the customer balances of RAF stood at £58m. During the eight months that RAF formed part of the Group, it contributed £1.6m at an operating level.

 

The total Basic Earnings per share ("EPS") of the Group are 43.9p (2016: 1,127.2p). The reduction is largely due to the impact of the STB transactions in the prior year. On an underlying basis the EPS is 47.5p (2016: 17.1p), an increase of 177%. The total dividend is covered 1.33 times by the earnings.

 

At the time of the sale of a substantial part of the Group's ownership of STB, it was determined that the remaining investment (18.6%) should be treated as an associate, as ABG was considered to have "significant influence" by way of three directors of Arbuthnot Banking Group also being directors of STB. The determination remained consistent throughout 2017 and as a result the income statement has included a full year of our share of the profit after tax of STB, which contributed a further £2.3m as opposed to a half year impact in 2016.

 

The Group's expense base increased to £54.7m (2016: £46.1m), an increase of 19%. This increment is largely due to the continued investment in the diversification of businesses within the Group. The Commercial Banking business has expanded its numbers in London, Exeter and Manchester and opened a small office in Bristol. Also, the acquisition of RAF added £1.5m to the expense book in 2017. Additionally, the Bank has been strengthening its control and oversight functions to provide a sound foundation from which to continue to grow the business. The increase in expenses compares favourably to the 30% increase in operating income, resulting in a 10% positive operating leverage or increase in "Jaws".

 

Impairment losses on loans remained consistent at £0.4m (2016: £0.4m) but the overall loss rate declined to 4 bps on the total lending book.

 

Overall, the Return on Equity of the Group was 2.8%, though this is distorted by the significant unutilised capital within the Group. However, in the long run the Group remains committed to its target of 20%, though this will depend on reaching a sufficient level of operational scale regarding its overhead and also how the Regulators view the level of capital buffers they require from time to time.

 

Balance Sheet Strength




2017

2016

Summarised Balance Sheet

£000

£000

Assets



Loans and advances to customers

1,049,269

758,799

Liquid assets

610,799

340,003

Other assets

193,164

166,482

Total assets

1,853,232

1,265,284




Liabilities



Customer deposits

1,390,781

997,649

Other liabilities

226,076

33,277

Total liabilities

1,616,857

1,030,926

Equity

236,375

234,358

Total equity and liabilities

1,853,232

1,265,284

 

During the year total assets increased to £1.9bn (2016: £1.3bn), driven almost entirely by the increase in customer loan balances and the incremental treasury assets that arise from our ability to raise surplus customer deposits, which are then held at the Bank of England.  Customer deposits increased to £1.4bn (2016: £1.0bn), an increase of 39%. 

 

The net assets of the Group now stand at £15.47 per share (2016: £15.34).

 

Segmental Analysis

The segmental analysis is shown in more detail in Note 44. The operating segments are Arbuthnot Latham & Co., Limited and Retail Banking Associate (being the Group's 18.6% investment in STB). Group costs and intercompany elimination journals are shown separately to reconcile back to Group consolidated results.

 

The analysis presented below, and in the business review, is before any consolidation adjustments to reverse the impact of the intergroup operating activities and also intergroup recharges and is a fair reflection of the way the Directors manage the Group.

 

Arbuthnot Latham




2017

2016

Summarised Income Statement

£000

£000

Net interest income

41,402

30,771

Net fee and commission income

13,523

11,005

Operating income

54,925

41,776

Other income

3,870

4,353

Operating expenses

(47,442)

(36,602)

Impairment losses - financial investments

 -  

(47)

Impairment losses - loans and advances to customers

(394)

(427)

Profit before tax

10,959

9,053

 

The profit before tax for AL has reached £11m (2016: £9.1m), which is an increase of 21% on a reported basis.  However, on an underlying basis the increase is 48% after the impact of the profit on sale of Visa Europe shares is excluded from 2016.

 

Operating income of the Bank increased by 31% as the capital deployment drove higher lending revenues. 

 

Average net margin has remained stable at 4.8%.

 

Operating expenses increased by 30% as the expansion of the Commercial Bank continued and RAF was incorporated from April 2017. 

 

Impairment losses were £0.4m (2016: £0.4m) as the lending portfolios continued to perform well.

 


2017

2016

Summarised Balance Sheet

£000

£000

Assets



Loans and advances to customers

1,049,269

758,799

Liquid assets

610,785

339,990

Other assets (including Group balances)

123,621

100,373

Total assets

1,783,675

1,199,162




Liabilities



Customer deposits

1,390,781

997,649

Other liabilities (including Group balances)

259,957

120,815

Total liabilities

1,650,738

1,118,464

Equity

132,937

80,698

Total equity and liabilities

1,783,675

1,199,162

 

AL reached a creditable milestone during 2017, with all of its key business metrics exceeding £1bn: Customer Loans, Customer Deposits and Assets under Management.

 

Total customer assets increased by 38% to close the year at £1,049m (2016: £759m). At the same time the total volume of loans written in the year increased to £466m (2016: £227m), an increase of 105%. Overall, the loan books remain well served with an average LTV of 53% (2016: 45%) for the Private and Commercial Banking business.

 

Total deposits increased by 39% to close the year at £1.4bn (2016: £1.0bn).

 

The investment management business was able to grow its assets under management by 13% to reach £1,044m (2016: £920m).

 

The net assets of the Bank now stand at £133m (2016: £81m), an increase of 65% as ABG made further capital contribution to facilitate additional growth and also to complete the acquisition of RAF. Additionally, retained reserves from the earnings of the Bank have contributed to give Arbuthnot Latham a total and core tier 1 capital ratio of 11.9% (2016: 12.3%).

 

Group & Other Costs




2017

2016

Summarised Income Statement

£000

£000

Net interest income

51

26

Subordinated loan stock interest

(360)

(352)

Operating income

(309)

(326)

Other income

160

120

Operating expenses

(8,276)

(10,813)

Profit after tax

(8,425)

(11,019)

 

The Group costs reduced to £8.4m (2016: £11m) as the impact of the bonuses paid in 2016 relating to the STB transaction recurring. The Group centre continues to oversee the Group operations, including the remaining investment in STB.

 

IFRS 9

The provisions of IFRS 9 - Financial Instruments will apply to the Group for the year ending 31 December 2018.

 

As a result of the implementation of IFRS 9, accounting for credit losses will fundamentally change, moving from an "incurred" to an "expected" basis.  This has required the development of credit loss models, which will be used to estimate credit impairments by taking into account the composition of individual loan portfolios and the macro economic outlook at each reporting date.  Also, the future economic environment will be "stressed" in varying scenarios to ensure the provisions are appropriate.

 

The initial models have been developed and are currently being validated and refined ahead of the full implementation.

 

The introduction of IFRS 9 will result in an initial increase in impairment provisions and may potentially increase volatility in the Group's Income Statement in the future (see Note 3.27).

 

It is expected that the opening entries as at 1 January 2018 required for the implementation will require an adjustment to shareholder reserves of between £2.4m to £3.2m. Under new capital regulations, the impact of IFRS 9 on regulatory capital will be phased over a period of 5 years. The Group has a strong capital position and the impact of IFRS 9 is not considered significant.

 

Capital

The Group's capital management policy is focused on optimising shareholder value over the long term. There is a clear focus on delivering organic growth and ensuring capital resources are sufficient to support planned levels of growth. The Board regularly reviews the capital position.

 

The Group's lead regulator, the Prudential Regulation Authority ("PRA"), sets and monitors capital requirements for the Group as a whole and for the individual banking operations. The lead regulator adopted the Basel III capital requirements with effect from 1 January 2014. As a result, the Group's regulatory capital requirements have been based on Basel III since 2014.

 

In accordance with the EU's Capital Requirements Directive ("CRD") and the required parameters set out in the PRA Handbook, the Individual Capital Adequacy Assessment Process ("ICAAP") is embedded in the risk management framework of the Group and is subject to ongoing updates and revisions when necessary.  However, at a minimum, the ICAAP is updated annually as part of the business planning process. The ICAAP is a process that brings together the management framework (i.e. the policies, procedures, strategies, and systems that the Group has implemented to identify, manage and mitigate its risks) and the financial disciplines of business planning and capital management. The Group's regulated entity is also the principal trading subsidiary as detailed in Note 43.

 

Not all material risks can be mitigated by capital, but where capital is appropriate the Board has adopted a "Pillar I plus" approach to determine the level of capital the Group needs to hold. This method takes the Pillar I capital formula calculations (standardised approach for credit, market and operational risk) as a starting point, and then considers whether each of the calculations deliver a sufficient capital sum adequate to cover management's anticipated risks. Where the Board considers that the Pillar I calculations do not reflect the risk, an additional capital add-on in Pillar II is applied, as per the Individual Capital Guidance ("ICG") issued by the PRA.

 

The Group's regulatory capital is divided into two tiers:

• Tier 1 comprises mainly shareholders' funds and revaluation reserves, after deducting goodwill, other intangible assets and the deduction for a significant investment in a financial institution (STB). The portion of the investment representing up to 10% of ABG's Tier 1 is added back to capital resources and then risk weighted at 250%, while anything above this 10% is deducted.

• Lower Tier 2 comprises qualifying subordinated loan capital. Lower Tier 2 capital cannot exceed 50% of Tier 1 capital.

 

The ICAAP includes a summary of the capital required to mitigate the identified risks in its regulated entities and the amount of capital that the Group has available. All regulated trading entities have complied with all of the externally imposed capital requirements to which they are subject.

 


2017

2016

Capital ratios

£000

£000

Core Tier 1 capital

236,375

234,358

Deductions

(77,761)

(67,639)

Tier 1 capital after deductions

158,614

166,719

Tier 2 capital

13,104

12,621

Total capital

171,718

179,340




Core Tier 1 capital ratio (Net Core Tier 1 capital/Basel III Total Risk Exposure)

17.3%

28.1%

Total Capital Ratio (Capital/Basel III Total Risk Exposure)

18.7%

30.2%

 

Risks and Uncertainties

The Group regards the monitoring and controlling of risks and uncertainties as a fundamental part of the management process.  Consequently, senior management are involved in the development of risk management policies and in monitoring their application.  A detailed description of the risk management framework and associated policies is set out in note 6.

 

The principal risks inherent in the Group's business are strategic, credit, market, liquidity, operational, cyber, conduct and regulatory.

 

Strategic risk

Strategic risk is the risk that may affect the Group's ability to achieve its corporate and strategic objectives. This risk is important to the Group as it continues its growth strategy. However, the Group seeks to mitigate strategic risk by focusing on a sustainable business model which is aligned to the Group's business strategy. Also, the Board of Directors meets once a year to hold a two day board meeting to ensure that the Group's strategy is appropriate for the market and economy.

 

Credit risk

Credit risk is the risk that a counterparty will be unable to pay amounts in full when due. This risk exists in Arbuthnot Latham, which currently has a loan book of £1,049m. The lending portfolio in AL is extended to clients, the majority of which is secured against cash, property or other assets. Credit risk is managed through the Credit Committee of AL.

 

Market risk

Market risk arises in relation to movements in interest rates, currencies and equity markets. The Group's treasury function operates mainly to provide a service to clients and does not take significant unmatched positions in any market for its own account.  As a result, the Group's exposure to adverse movements in interest rates and currencies is limited to interest earnings on its free cash and interest rate re-pricing mismatches. The Group actively monitors its exposure to future interest rate rises.

 

The Group is exposed to changes in the market value of properties. The current carrying value of Investment Property is £59m. Any changes in the market value of the property will be accounted for in the Income Statement and as a result could have a significant impact on the profit or loss of the Group.

 

The Group has an 18.6% interest in STB. This is currently recorded in the Group's balance sheet as an interest in associates and at 31 December 2017 was carried at £83.8m or the equivalent of £24.33 per share. At the year end the market price of STB was £17.97 per share. The Board has determined that the current carrying value remains appropriate after having carried out extensive analysis to be satisfied that the long term value in use does not suggest that this carrying value is impaired. These valuations included the Gordon's Growth model and Dividend Discount model. The resultant output from the models indicated valuations in a range that was in excess of £24 but this will be ultimately dependent on the surplus capital within STB being deployed in the business over the long term. There is a risk that the output of the value in use models could require an impairment charge to be recognised in the future.

 

If the Group was considered to no longer have significant influence over STB it would lead to the investment being accounted for as a financial asset at fair value. The value would then be marked to market with changes in the share price giving rise to gains or losses being recorded in Other Comprehensive Income or Profit or Loss - see Note 3.8(d) and Note 3.10(b).

 

Liquidity risk

Liquidity risk is the risk that the Group cannot meet its obligations as they fall due. The Group takes a conservative approach to managing its liquidity profile. Retail client deposits and drawings from the Bank of England Term Funding Scheme fund the Group. The loan to deposit ratio is maintained at a prudent level, and consequently the Group maintains a high level of liquidity. The Arbuthnot Latham Board annually approves the Individual Liquidity Adequacy Assessment Process ("ILAAP"). The Directors model various stress scenarios and assess the resultant cash flows in order to evaluate the Group's potential liquidity requirements. The Directors firmly believe that sufficient liquid assets are held to enable the Group to meet its liabilities in a stressed environment.

 

Operational risk

Operational risk is the risk that the Group may be exposed to financial losses from conducting its business. The Group is exposed to operational risks from its Information Technology and Operations platforms. There are additional internal controls in these processes that are designed to protect the Group from these risks. The Group's overall approach to managing internal control and financial reporting is described in the Corporate Governance section of the Annual Report.

 

Cyber risk

Cyber risk is an increasing risk that the Group is subject to within its operational processes. This is the risk that the Group is subject to some form of disruption arising from an interruption to its IT and data infrastructure. The Group regularly test the infrastructure to ensure that it remains robust to a range of threats, and have continuity of business plans in place including a disaster recovery provision.

 

Conduct risk

As a financial services provider we face conduct risk, including selling products to customers which do not meet their needs; failing to deal with customers' complaints effectively; not meeting customers' expectations; and exhibiting behaviours which do not meet market or regulatory standards.

 

The Group adopts a zero risk appetite for any unfair customer outcomes. It maintains clear compliance guidelines and provides ongoing training to all staff.  Periodic spot checks and internal audits are performed to ensure these guidelines are being followed.  The Group also has insurance policies in place to provide some cover for any claims that may arise.

 

Regulatory risk

Regulatory risk is the risk that the Group will have insufficient capital resources to support the business or does not comply with regulatory requirements. The Group adopts a conservative approach to managing its capital. The Board approves an Individual Capital Adequacy Assessment Process ("ICAAP") annually, which includes the performance of stringent stress tests to ensure that capital resources are adequate over a three year horizon. Capital and liquidity ratios are regularly monitored against the Board's approved risk appetite as part of the risk management framework.

 

Regulatory change also exists as a risk to the Group's business. Notwithstanding the assessments carried out by the Group to manage the regulatory risk, it is not possible to predict how regulatory and legislative changes may alter and impact the business. Significant and unforeseen regulatory changes may reduce the Group's competitive situation and lower its profitability.

 

Macroeconomic and competitive environment

The Group is also exposed to indirect risks that may arise from the macroeconomic and competitive environment. The economic environment is relatively stable in the UK. However, the international landscape is increasingly uncertain. The uncertain performance of the economies in the EU and the increasingly protectionist stance being taken by other major economies may have an adverse affect on the UK. In particular, this may cause a further softening of central London property prices, which may spread out further to the South East.

 

The Group monitors its exposure to future interest rate rises and currently has minimal lending to customers in products that would be directly sensitive to interest rate rises. However, at the current levels of interest rates, the affordability enjoyed by the Group's customers is beneficial.

 

Brexit

It is currently difficult to analyse the impacts that Brexit may have on Arbuthnot Banking Group. However, our only overseas operation is in Dubai, so the vast majority of the Group's income and expenditure is based in the UK. It is therefore anticipated that the financial impact would be minimal, assuming no significant macro economic shock in the UK.

 

 

Group Directors' Report

 

The Directors submit their annual report and the audited consolidated financial statements for the year ended 31 December 2017.

 

Principal Activities and Review

The principal activities of the Group are banking and financial services. A strategic review in accordance with Section 414 C of the Companies Act 2006 forming part of this report is set out on pages 4 to 14.

 

Results and Dividends

The results for the year are shown on page 1. The profit after tax for the year of £6.5m (2016: £227.6m) is included in reserves.

 

The Directors recommend the payment of a final dividend of 19p on the ordinary shares which, together with the interim dividend of 14p paid on 29 September 2017, represents total dividends (other than special dividends) for the year of 33p (2016: 31p). The final dividend, if approved by members at the Annual General Meeting, will be paid on 18 May 2018 to shareholders on the register at close of business on 27 April 2018.

 

Going Concern

After making appropriate enquiries which assessed strategy, profitability, funding, risk management (see note 6) and capital resources (see note 7), the directors are satisfied that the Company and the Group have adequate resources to continue in operation for the foreseeable future.  The financial statements are therefore prepared on the going concern basis.

 

Share Capital

Shareholders will also be asked to approve a Special Resolution renewing the authority of the Directors to make market purchases of shares not exceeding 10% of the existing issued share capital. The Directors will keep the position under review in order to maximise the Company's resources in the best interests of shareholders.

 

Financial Risk Management

Details of how the Group manages risk are set out in in the Strategic Report and in note 6.

 

Substantial Shareholders

The Company was aware at 26 March 2018 of the following substantial holdings in the ordinary shares of the Company, other than those held by one director shown below:

 

Holder


Ordinary Shares

%

Liontrust Asset Management

924,228

6.0

Prudential plc


633,554

4.1

Slater Investments


595,638

3.9

Miton Asset Management


540,896

3.5

Mr. R Paston


529,130

3.5





Directors




Sir Henry Angest

Chairman & CEO

J R Cobb

Finance Director

I A Dewar




I A Henderson



P A Lynam




Sir Christopher Meyer




A A Salmon

Chief Operating Officer

Sir Alan Yarrow



 

All these are currently directors and served throughout the year.

 

Mr. Cobb and Mr. Dewar retire under Article 78 of the Articles of Association and, being eligible, offer themselves for re-election.   Mr. Cobb has a service agreement terminable on twelve months' notice.  Mr. Dewar, an independent non-executive director, has a letter of appointment terminable on three months' notice.

 

According to the information kept under Section 3 of the Disclosure and Transparency Rules 2006 and the Market Abuse Regulation 2016, the interests of directors and their families in the ordinary 1p shares of the Company at the dates shown were, and the percentage of the current issued share capital held is, as follows::

 

Beneficial Interests

1 January 2017

31 December 2017

27 March 2018

%

Sir Henry Angest

8,200,901

8,351,401

8,351,401

54.7

J.R. Cobb

5,000

6,000

6,000

 -  

P.A. Lynam

10,000

10,000

10,000

0.1

A.A. Salmon

51,699

51,699

51,699

0.3

 

On 14 June 2016 Mr. Salmon, Mr. Cobb and Mr. Henderson were granted phantom options to subscribe for 200,000, 100,000 and 100,000 ordinary 1p shares respectively in the Company at 1591p. 50% of each director's individual holding of phantom options is exercisable at any time after 15 June 2019 and the other 50% is exercisable at any time after 15 June 2021.  The fair value of the options at the grant date was £1.3m.

 

Apart from the interests disclosed above, no director was interested at any time in the year in the share capital of Group companies.

 

No director, either during or at the end of the financial year, was materially interested in any contract with the Company or any of its subsidiaries or associated companies, which was significant in relation to the Group's business. At 31 December 2017, one director had loans from Arbuthnot Latham & Co., Limited amounting to £508,000 and one director had a loan from Secure Trust Bank PLC amounting to £409,000, on normal commercial terms as disclosed in note 42 to the financial statements. At 31 December 2017, six directors had deposits with Arbuthnot Latham & Co., Limited amounting to £3,233,000 and two directors had deposits with Secure Trust Bank PLC amounting to £403,000, all on normal commercial terms as disclosed in note 42 to the financial statements.

 

The Company maintains insurance to provide liability cover for directors and officers of the Company.

 

Board Committees

The report of the Remuneration Committee on pages 24 to 25 will be the subject of an Ordinary Resolution at the Annual General Meeting.

 

Information on the Audit, Nomination and Political Donations Committees is included in the Corporate Governance section of the Annual Report on pages 19 to 22.

 

As explained in the Corporate Governance section of the Annual Report, the Board now maintains direct responsibility for issues of risk, as responsibility for large lending proposals has become a direct responsibility of its subsidiary, Arbuthnot Latham & Co., Limited.

 

Employees

The Company gives due consideration to the employment of disabled persons and is an equal opportunities employer.  It also regularly provides employees with information on matters of concern to them, consults on decisions likely to affect their interests and encourages their involvement in the performance of the Company through share participation and in other ways.

 

Political Donations

The Company made political donations of £32,000 to the Conservative Party during the year (2016: £67,000).

 

Branches outside of the UK

During the year Arbuthnot Latham & Co., Ltd operated a branch in Dubai which is regulated by the Dubai Financial Services Authority.

 

Events after the balance sheet date

On 3 January 2018, Arbuthnot Latham entered into a 12 year lease (up to 16 October 2029) to occupy the first, second and third floors of 10 Dominion Street London, with a break clause on 16 October 2024. The initial rent is £0.7m per annum. This is reflected in contingent liabilities Note 36.

 

Auditor

A resolution for the re-appointment of KPMG LLP as auditor will be proposed at the forthcoming Annual General Meeting at a fee to be agreed in due course by the directors. 

 

Statement of Disclosure of Information to the Auditor

The Directors confirm that:

• so far as each director is aware, there is no relevant audit information of which the Company's auditor is unaware; and

• the Directors have taken all the steps they ought to have taken as directors to make themselves aware of any relevant audit information and to establish that the Company's auditor is aware of that information.

 

This confirmation is given and shall be interpreted in accordance with the provisions of section 418 of the Companies Act 2006.

 

 

Corporate Governance

 

Introduction and Overview

Arbuthnot Banking Group has a strong and effective Corporate Governance framework. This section of the Report and Accounts summarises key elements of the governance arrangements applicable to the Group and its compliance with the UK Corporate Governance Code.

 

As an AIM company, ABG is not bound by the UK Corporate Governance Code. However, the Board endorses the principles of openness, integrity and accountability, which underlie good corporate governance and takes into account both the provisions of the UK Corporate Governance Code in so far as they are considered appropriate to the Group's size and circumstances and in particular the role and overall holding of the majority shareholder. Moreover, the Group contains two subsidiaries authorised to undertake regulated business under the Financial Services and Markets Act 2000, one of which is regulated by the Prudential Regulatory Authority and the Financial Conduct Authority and is an authorised deposit-taking business. It in turn has a subsidiary, Renaissance Asset Finance Limited, which is regulated by the Financial Conduct Authority. Accordingly, the Group operates to the high standards of corporate accountability and regulatory compliance appropriate for such a business.

 

The Group is led by an effective Board which comprises four executive directors, two independent non-executive directors and two other non-executive directors.

 

Sir Henry Angest is the Chairman of the Group. The Chairman sets the long term focus and customer oriented culture of the Group and his role is to ensure good corporate governance. His responsibilities include leading the Board, ensuring the effectiveness of the Board in all aspects of its role, ensuring effective communication with shareholders, setting the Board's agenda and ensuring that all Directors are encouraged to participate fully in the activities and decision-making process of the Board.

 

There were no changes in Board membership during the year. Paul Lynam was appointed to the Board when Secure Trust Bank PLC ("STB") was a subsidiary of the Group, and remains a director of the Group, in a non-executive role, as well as Chief Executive of STB, following the reduction in the Group's holding in STB to 18.6%. 

 

The directors seeking re-election are James Cobb and Ian Dewar, who have served on the Board for 9 years and 2½ years respectively. The contribution of James Cobb as the Group Financial Director has been very valuable in determining the capital and liquidity requirements of the Group. Ian Dewar, with a wealth of experience as a partner in a major accounting firm, has successfully chaired the Audit Committee. Accordingly, the Board fully supports the resolutions for their reappointment.

 

In 2016, the Board commissioned an independent Board Effectiveness Review. The Directors were satisfied with the conduct and outcome of the review and have since implemented its recommendations.

 

The Board

The Board meets regularly throughout the year, holding six formal meetings during the year as well as a two day strategy meeting. Substantive agenda items have briefing papers, which are circulated in a timely manner before each meeting. The Board ensures that it is supplied with all the information that it requires and requests, in a form and of a quality to fulfil its duties.

 

In addition to determining and overseeing the implementation of the strategy and management of the Company and of the Group, the Board has determined certain items which are reserved for decision by itself. These matters include the acquisition and disposal of other than minor businesses, the issue of capital by any Group company, monitoring overall regulatory requirements of its subsidiary companies, and their adherence thereto, and any transaction by a subsidiary company that cannot be made within its own resources or that is not in the normal course of its business.

 

The Company Secretary is responsible for ensuring that the Board processes and procedures are appropriately followed and support effective decision making. All directors have access to the Company Secretary's advice and services. There is an agreed procedure for directors to obtain independent professional advice in the course of their duties, if necessary, at the Company's expense.

 

All directors receive induction training upon joining the Board, with individual AIM training provided by the Company's Nominated Adviser, regulatory and compliance training provided by the Group Head of Compliance or an external firm of lawyers, risk management training (including that in relation to the ICAAP and ILAAP) with an overview of credit and its associated risks and mitigation by the Head of Credit Risk in Arbuthnot Latham & Co., Limited.

 

Board Committees

The Board has established Audit, Nomination, Remuneration and Donations Committees, each with formally delegated duties and responsibilities and with written terms of reference, which require consideration of the committee's effectiveness. The Board keeps the governance arrangements under review. Further information in relation to these committees is set out below. The Board now maintains direct responsibility for issues of Risk without the need for its own Risk Committee, since responsibility for large lending proposals became a direct responsibility of its subsidiary, Arbuthnot Latham & Co., Limited.

 

Audit Committee

Membership and meetings

Membership of the Audit Committee is restricted to non-executive directors and comprises Ian Dewar (as Chairman), Sir Christopher Meyer and Sir Alan Yarrow. The Committee met four times during the year.

 

The Audit Committee oversees, on behalf of the Board, the financial reporting, the appropriateness and effectiveness of systems and controls, the work of Internal Audit and the arrangements for and effectiveness of the external audit. The ultimate responsibility for reviewing and approving the annual report and accounts and the half-yearly report remains with the Board. The Audit Committee also reviews procedures for detecting fraud and preventing bribery, reviews whistleblowing arrangements for employees to raise concerns in confidence, and reviews, as necessary, arrangements for outsourcing significant operations.

 

The present auditors, KPMG LLP, have held office since 2009. The Senior Statutory Auditor changed in 2013 and will change again in 2018, following a five-year association with the Parent Company. The Board is satisfied with the effectiveness of their audit and endorses the comments made by the Committee in relation to the Audit Report set out below. The Committee received a report showing the level of non-audit services provided by the external auditors during the year and members were satisfied that the extent and nature of these did not compromise auditor independence.

 

Activity in 2017

 

Internal Audit

On behalf of the Board, the Audit Committee monitors the effectiveness of systems and controls. To this end, Internal Audit provides the Audit Committee and the Board with detailed independent and objective assurance on the effectiveness of governance, risk management and internal controls. Since Arbuthnot Latham & Co., Limited established its own Audit Committee, the role of the Group Audit Committee has been mainly supervisory in relation to internal audit matters, though it receives items of material note deriving from Arbuthnot Latham & Co., Limited's internal audits, including an assessment of culture which forms part of every internal audit.

 

The Audit Committee approves the Internal Audit risk based programme of work and monitors progress against the annual plan. The Committee reviews Internal Audit resources and the arrangements that ensure Internal Audit faces no restrictions or limitations to conducting its work, that it continues to have unrestricted access to all personnel and information, and that Internal Audit remains objective and independent from business management.

 

The Head of Internal Audit provides reports on the outcomes of Internal Audit work directly to the Committee and the Committee monitors progress against actions identified in these reports.

 

The Committee is satisfied with Internal Audit arrangements during 2017.

 

Integrity of Financial Statements and oversight of external audit

In 2017, for the first time, the Group Financial Statements include a long form audit report and with this change, it is appropriate

to include further information on the role that the Audit Committee has played in the approval of these accounts. The Committee:

 

•       Received and agreed the Audit Plan prepared by the external auditors;

•       Considered and formed a conclusion on the critical judgements underpinning the Financial Statements, as presented in papers prepared by management. In respect of all of these critical judgements, the Committee concluded that the treatment in the Financial Statements was appropriate.

•       Received reports from the external auditors on the matters arising from their work, the key issues and conclusions they had reached;

•       The Chairman of the Committee attended, as an observer, Audit Committees of Arbuthnot Latham & Co., Limited, the Company's operating subsidiary;

•       In addition, the Committee considered changes to financial reporting requirements that are not yet effective but that are likely to impact on the reported results or financial position of the Group and Company in future. The most notable being the implementation of IFRS 9 (from 1 January 2018) and the carrying value and disclosure of the Group's interest in Secure Trust Bank PLC. The Committee has reviewed Management's methodology, and is satisfied with the disclosures as set out in Note 3.27 and Note 27 to the financial statements.

 

The Audit Committee also receives reports from the external auditors which include details of internal control matters that they have identified as part of the annual statutory Financial Statements audit. Certain aspects of the system of internal control are also subject to regulatory supervision, the results of which are monitored closely by the Committee and the Board. In addition, the ICAAP and ILAAP are key control documents and received detailed consideration by the board of Arbuthnot Latham & Co., Limited. The Committee receives reports on these by exception.

 

The Committee approved the terms of engagement and the remuneration to be paid to the external auditors in respect of their audit services.

 

Significant areas of judgement

The Audit Committee considered the following significant issues and accounting judgements in relation to the Financial Statements:

 

Impairment review of interest in associate

The Group has an 18.6% interest in STB. This is currently recorded in the Group's Statement of Financial Position as an interest in associate and at 31 December 2017 was carried at £83.8m or the equivalent of £24.33 per share. At the year end the market price of STB was £17.97 per share.

 

The Committee reviewed the carrying value to ensure it was still appropriate. This included reviewing the valuation models and underlying assumptions used to substantiate the current value as reflected in the Statement of Financial Position. No impairment was considered necessary.

 

Refer to Note 4.1 (e) of the Notes to the Financial Statements for more information.

 

Impairment of loans and advances to customers

The Committee reviewed presentations from management detailing the provisioning methodology across the Group as part of the full year results process. The Committee considered and challenged the provisioning methodology applied by management, including timing of cash flows, valuation and recoverability of supporting collateral on impaired assets. The Committee concluded that the impairment provisions, including management's judgements, were appropriate.

 

The charge for impaired loans and advances totalled £0.4m for the year ended 31 December 2017. The disclosures relating to impairment provisions are set out in Note 4.1(a) to the financial statements.

 

Effective Interest rate

Interest earned on loans and receivables is recognised using the Effective Interest Rate ("EIR") method. The EIR is calculated on the initial recognition of a loan through a discounted cash flow model that incorporates fees, costs and other premiums or discounts. There have been no changes to the EIR accounting policies during the year.

 

The Committee considered and challenged the EIR methodology applied by management and specifically in relation to acquired loan portfolios. The Committee considered management assumptions including expected future customer behaviours and concluded that the EIR methodology was appropriate as at 31 December 2017.

 

The disclosures relating to EIR are set out in Note 4.1(b) to the financial statements.

 

Valuation of Investment Property

The two investment properties are held at fair value. The Committee reviewed the assumptions used in the valuation of the properties including capital expenditure, incentive periods, rental income, and yields.

 

As at 31 December, the Group's property investment portfolio totalled £59.4m, as detailed in Note 31. The disclosures relating to the fair value of investment property are set out in Note 4.1(c) to the financial statements.

 

Acquisition Accounting

During the year Arbuthnot Latham acquired the entire share capital of Renaissance Asset Finance Limited. The consideration consisted of an upfront and deferred payment based on future profits.

 

The Committee reviewed the accounting and the disclosures for the acquisition. This included reviewing the assumptions used in the valuation and identification of the separately identifiable intangible assets. An intangible asset relating to goodwill on acquisition was recognised totalling £3.5m (see Note 28).

 

Refer to Note 4.1 (d) of the Notes to the Financial Statements for more information.

 

Going Concern

The financial statements are prepared on the basis that the Group and Company are each a going concern. The Audit Committee reviewed management's assessment, and is satisfied that the going concern basis was appropriate.

 

Other Committee activities

During 2017 the Audit Committee received and reviewed reports from management relating to:

•       The procedures for detecting fraud and prevention of bribery, and any instances of non-compliance;

•       Whistleblowing arrangements for employees to raise concerns in confidence;

•       Arrangements involving outsourcing of significant operations.

 

The Committee met separately with each of the Finance Director, Head of Internal Audit and the External Audit Partner without any other executives present. There were no issues or concerns raised by them in regard to discharging their responsibilities.

 

In September 2017, the Committee performed a review of its effectiveness by means of a self-assessment framework and completion of a questionnaire by members of the Committee. The review did not highlight any material concerns.

 

Nomination Committee

Membership and meetings

The Nomination Committee is chaired by Sir Henry Angest and its other members are Sir Christopher Meyer and Sir Alan Yarrow. The Committee met once during the year. It is required to meet formally at least once per year and otherwise as required.

 

The Nomination Committee assists the Board in discharging its responsibilities relating to the composition of the Board. The Nomination Committee is responsible for and evaluates on a regular basis the balance of skills, experience, independence and knowledge on the Board, its size, structure and composition, retirements and appointments of additional and replacement directors and will make appropriate recommendations to the Board on such matters. The Nomination Committee also considers succession planning, taking into account the skills and expertise that will be needed on and beneficial to the Board in the future.

 

Activity in 2017

The Committee reviewed the terms of service of the Group Finance Director. It has also reviewed and reconfirmed Sir Christopher Meyer's independence.  It has examined the balance of executive and non-executive directors in relation to succession planning and the extent to which the requirements of a board diversity policy are met.

 

Remuneration Committee

Membership and meetings

Membership is detailed in the Remuneration Report on page 24. The Committee met twice during the year. It is required to meet formally at least once per year and otherwise as required.

 

The Remuneration Committee assists the Board in determining its responsibilities in relation to remuneration including, inter alia, in relation to the Company's policy on executive remuneration determining the individual remuneration and benefits package of each of the Executive Directors, and the fees for Non-Executive Directors.

 

The Committee also deals with remuneration-related issues under the Prudential Regulation Authority's Remuneration Code applicable to the Company.

 

A separate Remuneration Report gives further information and details of each Director's remuneration.

 

Donations Committee

Membership and meetings

The Donations Committee is chaired by Sir Henry Angest and its other members are Sir Christopher Meyer and Sir Alan Yarrow. The Committee met once during the year.

 

The Committee considers any political donation or expenditure as defined within sections 366 and 367 of the Companies Act 2006.

 

Internal Control and Financial Reporting

The Board of directors has overall responsibility for the Group's system of internal control and for reviewing its effectiveness. Such a system is designed to manage rather than eliminate risk of failure to achieve business objectives and can only provide reasonable but not absolute assurance against the risk of material misstatement or loss.

 

The Directors and senior management of the Group have formally adopted a Group Risk and Controls Policy which sets out the Board's attitude to risk and internal control. Key risks identified by the Directors are formally reviewed and assessed at least once a year by the Board. In addition, key business risks are identified, evaluated and managed by operating management on an ongoing basis by means of procedures such as physical controls, credit and other authorisation limits and segregation of duties. The Board also receives regular reports on any risk matters that need to be brought to its attention.

 

Significant risks identified in connection with the development of new activities are subject to consideration by the Board. There are well-established budgeting procedures in place and reports are presented regularly to the Board detailing the results, in relation to Arbuthnot Latham & Co., Limited, of each principal business unit, variances against budget and prior year, and other performance data.

 

Shareholder Communications

The Company maintains ongoing communications via one to one meetings as appropriate with its major shareholders and makes full use of the Annual General Meeting and other General Meetings (when held) to communicate with investors. The Company aims to present a balanced and understandable assessment in all its reports to shareholders, its regulators, other stakeholders and the wider public. Key announcements and other information can be found at www.arbuthnotgroup.com.

 

Statement of Directors' Responsibilities in Respect of the Strategic Report and the Directors' Report and the Financial Statements

The Directors are responsible for preparing the Strategic Report, the Directors' Report and the Financial Statements in accordance with applicable law and regulations. Company law requires the Directors to prepare Group and Parent Company Financial Statements for each financial year. As required by the AIM Rules of the London Stock Exchange they are required to prepare the Group Financial Statements in accordance with International Financial Reporting Standards ("IFRSs") as adopted by the EU and applicable law and have elected to prepare the Parent Company Financial Statements on the same basis.

 

Financial Statements

Under company law the Directors must not approve the Financial Statements unless they are satisfied that they give a true and fair view of the state of affairs of the Group and the Company and of the Group profit or loss for that period. In preparing each of the Group and Parent Company Financial Statements, the Directors are required to:

 

•       select suitable accounting policies and then apply them consistently;

 

•       make judgements and estimates that are reasonable, relevant and reliable;

 

•       state whether they have been prepared in accordance with IFRSs as adopted by the EU;

 

•       assess the Group and Parent Company's ability to continue as a going concern, disclosing, as applicable, matters related to going concern; and

 

•       use the going concern basis of accounting unless they intend either to liquidate the Group or the Parent Company or to cease operations, or have no realistic alternative but to do so.

 

The Directors are responsible for keeping adequate accounting records that are sufficient to show and explain the Parent Company's transactions and disclose with reasonable accuracy at any time the financial position of the Parent Company and enable them to ensure that its Financial Statements comply with the Companies Act 2006. They are responsible for such internal control as they determine is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error, and have general responsibility for taking such steps as are reasonably open to them to safeguard the assets of the Group and to prevent and detect fraud and other irregularities.

 

The Directors are responsible for the maintenance and integrity of the corporate and financial information included on the Company's website. Legislation in the UK governing the preparation and dissemination of Financial Statements may differ from legislation in other jurisdictions.

 

 

Remuneration Report

 

Remuneration Committee

Membership of the Remuneration Committee is limited to non-executive directors together with Sir Henry Angest as Chairman.  The present members of the Committee are Sir Henry Angest, Sir Christopher Meyer and Sir Alan Yarrow.  The Committee met twice during the year.

 

The Committee has responsibility for producing recommendations on the overall remuneration policy for directors for review by the Board and for setting the remuneration of individual directors.  Members of the Committee do not vote on their own remuneration.

 

Remuneration Policy

The Remuneration Committee determines the remuneration of individual directors having regard to the size and nature of the business; the importance of attracting, retaining and motivating management of the appropriate calibre without paying more than is necessary for this purpose; remuneration data for comparable positions, in particular the rising remuneration packages at challenger banks; the need to align the interests of executives with those of shareholders; and an appropriate balance between current remuneration and longer-term performance-related rewards. The remuneration package can comprise a combination of basic annual salary and benefits (including pension), a discretionary annual bonus award related to the Committee's assessment of the contribution made by the executive during the year and longer-term incentives, including executive share options.  Pension benefits take the form of annual contributions paid by the Company to individual money purchase schemes.  The Remuneration Committee reviews salary levels each year based on the performance of the Group during the preceding financial period.  This review does not necessarily lead to increases in salary levels.  For the purposes of the FCA Remuneration Code, all the provisions of which have been implemented, the Group and its subsidiaries are all considered to be Tier 3 institutions.

 

The Remuneration Committee reviewed the operation of the policy, having regard to the performance of the Company during the year, with particular regard to the level of discretionary bonus awarded and the level of inflation impacting on salaries.

 

Directors' Service Contracts

Sir Henry Angest, Andrew Salmon, James Cobb and Ian Henderson each have service contracts terminable at any time on 12 months' notice in writing by either party.

 

Long Term Incentive Schemes

At the Annual General Meeting in May 2015, shareholders voted by Ordinary Resolution to extend the Company's Unapproved Executive Share Option Scheme for a further period of 10 years.  No such options were subsequently granted prior to the setting up of the Phantom Option Scheme.

 

On 14 June 2016, the Company announced a Phantom Share Option Scheme ("Phantom Option Scheme"), intended to replace the Unapproved Executive Share Option Scheme.  The value of each phantom option is related to the market price of an ordinary share of 1p in the Company.  An increase in the market value of an ordinary share of 1p in the Company over the market value per share at the date of grant of the phantom option will give rise to an entitlement to a cash payment by the Company on the exercise of a phantom option.

 

On 14 June 2016 Mr. Salmon was granted a phantom option pursuant to the Phantom Option Scheme to acquire 200,000 ordinary 1p shares in the Company at 1591p exercisable in respect of 50% on or after 15 June 2019 and in respect of the remaining 50% on or after 15 June 2021 when a cash payment would be made equal to any increase in market value.  On 14 June 2016 Mr. Cobb and Mr. Henderson were each granted phantom options pursuant to the Phantom Option Scheme to acquire 100,000 ordinary 1p shares in the Company at 1591p exercisable in respect of 50% on or after 15 June 2019 and in respect of the remaining 50% on or after 15 June 2021 when a cash payment would be made equal to any increase in market value.  The fair value of the options at the grant date was £1.3m.

 

 

Directors' Emoluments




2017

2016


£000

£000

Fees (including benefits in kind)

205

215

Salary payments (including benefits in kind)

4,533

7,731

Pension contributions

105

119

Long term incentive

 -  

992


4,843

9,057

 







Long term

Total

Total


Salary

Bonus

Benefits

Pension

Fees

incentive

2017

2016


£000

£000

£000

£000

£000

£000

£000

£000

Sir Henry Angest

1,200

 -  

89

 -  

 -  

 -  

1,289

1,260

JR Cobb

550

250

17

35

 -  

 -  

852

1,583

IA Dewar

 -  

 -  

 -  

 -  

75

 -  

75

75

JW Fleming (to 14/04/2016)

 -  

 -  

 -  

 -  

 -  

 -  

 -  

145

IA Henderson (from 06/05/2016)

488

300

17

35

 -  

 -  

840

543

Ms RJ Lea (to 05/05/2016)

 -  

 -  

 -  

 -  

 -  

 -  

 -  

45

PA Lynam

 -  

 -  

 -  

 -  

 -  

 -  

 -  

1,493

Sir Christopher Meyer

 -  

 -  

 -  

 -  

60

 -  

60

60

AA Salmon

1,200

400

22

35

 -  

 -  

1,657

3,818

Sir Alan Yarrow (from 10/06/2016)

 -  

 -  

 -  

 -  

70

 -  

70

35


3,438

950

145

105

205

 -  

4,843

9,057

 

Details of any shares or options held by directors are presented on page 16.

                                                                               

The emoluments of the Chairman were £1,289,000 (2016: £1,260,000). The emoluments of the highest paid director were £1,657,000 (2016: £3,818,000) including pension contributions of £35,000 (2016: £35,000).  

 

Secure Trust Bank was paid a fee of £60,000 (2016: £33,000 from 15 June 2016) for the services of Mr. Lynam rendered as a non-executive director.

 

Retirement benefits are accruing under money purchase schemes for four directors who served during 2017 (2016: five directors).

 

 

Independent Auditor's Report

 

The Independent Auditor's report can be viewed at the following link: here

 

Company statement of financial position

 




At 31 December




2017

2016


Note


£000

£000

ASSETS





Loans and advances to banks

18


36,103

89,072

Financial investments

25


140

121

Deferred tax asset

26


641

397

Property, plant and equipment

30


157

183

Other assets

24


199

887

Interests in associates

27


5,056

5,056

Interests in subsidiaries

43


97,802

54,602

Total assets



140,098

150,318

EQUITY AND LIABILITIES





Equity





Share capital

37


153

153

Other reserves

38


(1,111)

(1,111)

Retained earnings

38


124,659

133,847

Total equity



123,701

132,889

LIABILITIES





Current tax liability



152

 -  

Other liabilities

34


3,141

4,808

Debt securities in issue

35


13,104

12,621

Total liabilities



16,397

17,429

Total equity and liabilities



140,098

150,318






The Company has elected to take the exemption under section 408 of the Companies Act 2006 not to present the Parent Company

profit and loss account. The profit for the Parent Company for the year is presented in the Statement of Changes in Equity.

 

 

Consolidated statement of changes in equity

 


Attributable to equity holders of the Group




Share capital

Revaluation reserve

Capital redemption reserve

Available-for-sale reserve

Treasury shares

Retained earnings

Non-controlling interests

Total


£000

£000

£000

£000

£000

£000

£000

£000

Balance at 1 January 2017

153

 -  

20

(251)

(1,131)

235,567

 -  

234,358










Total comprehensive income for the period









Profit for 2017

 -  

 -  

 -  

 -  

 -  

6,523

 -  

6,523










Other comprehensive income, net of tax









Available-for-sale reserve - net change in fair value

 -  

 -  

 -  

128

 -  

 -  

 -  

128

Available-for-sale reserve - Associate - net change in fair value

 -  

 -  

 -  

389

 -  

 -  

 -  

389

Tax on other comprehensive income

 -  

 -  

 -  

(104)

 -  

 -  

 -  

(104)

Total other comprehensive income

 -  

 -  

 -  

413

 -  

 -  

 -  

413

Total comprehensive income for the period

 -  

 -  

 -  

413

 -  

6,523

 -  

6,936










Transactions with owners, recorded directly in equity









Contributions by and distributions to owners









Equity settled share based payment transactions

 -  

 -  

 -  

 -  

 -  

(155)

 -  

(155)

Final dividend relating to 2016

 -  

 -  

 -  

 -  

 -  

(2,680)

 -  

(2,680)

Interim dividend relating to 2017

 -  

 -  

 -  

 -  

 -  

(2,084)

 -  

(2,084)

Total contributions by and distributions to owners

 -  

 -  

 -  

 -  

 -  

(4,919)

 -  

(4,919)

Balance at 31 December 2017

153

 -  

20

162

(1,131)

237,171

 -  

236,375

 

 


Attributable to equity holders of the Group




Share capital

Revaluation reserve

Capital redemption reserve

Available-for-sale reserve

Treasury shares

Retained earnings

Non-controlling interests

Total


£000

£000

£000

£000

£000

£000

£000

£000

Balance at 1 January 2016

153

98

20

1,047

(1,131)

123,330

67,887

191,404










Total comprehensive income for the period









Profit for 2016

 -  

 -  

 -  

 -  

 -  

166,143

61,426

227,569










Other comprehensive income, net of tax









Available-for-sale reserve - net change in fair value

 -  

 -  

 -  

(1,890)

 -  

 -  

(487)

(2,377)

Available-for-sale reserve - Associate - net change in fair value

 -  

 -  

 -  

(389)

 -  

 -  

 -  

(389)

Tax on other comprehensive income

 -  

 -  

 -  

456

 -  

 -  

 -  

456

Total other comprehensive income

 -  

 -  

 -  

(1,823)

 -  

 -  

(487)

(2,310)

Total comprehensive income for the period

 -  

 -  

 -  

(1,823)

 -  

166,143

60,939

225,259










Transactions with owners, recorded directly in equity









Contributions by and distributions to owners









Equity settled share based payment transactions

 -  

 -  

 -  

 -  

 -  

(1,074)

31

(1,043)

Secure Trust Bank loss of control

 -  

(98)

 -  

525

 -  

(427)

(124,046)

(124,046)

Final dividend relating to 2015

 -  

 -  

 -  

 -  

 -  

(2,531)

(4,811)

(7,342)

Special dividend relating to 2016

 -  

 -  

 -  

 -  

 -  

(3,722)

 -  

(3,722)

Interim dividend relating to 2016

 -  

 -  

 -  

 -  

 -  

(1,936)

 -  

(1,936)

Special dividend relating to 2016

 -  

 -  

 -  

 -  

 -  

(44,216)

 -  

(44,216)

Total contributions by and distributions to owners

 -  

(98)

 -  

525

 -  

(53,906)

(128,826)

(182,305)

Balance at 31 December 2016

153

 -  

20

(251)

(1,131)

235,567

 -  

234,358

 

 

Company statement of changes in equity

 


Attributable to equity holders of the Company



Share capital

Capital redemption reserve

Treasury shares

Retained earnings

Total


£000

£000

£000

£000

£000

Balance at 1 January 2016

153

20

(1,131)

46,537

45,579







Total comprehensive income for the period






Profit for 2016

 -  

 -  

 -  

140,826

140,826







Other comprehensive income, net of income tax

-

-

-

-

-

Total comprehensive income for the period

 -  

 -  

 -  

140,826

140,826













Transactions with owners, recorded directly in equity






Contributions by and distributions to owners






Equity settled share based payment transactions

 -  

 -  

 -  

(1,111)

(1,111)

Final dividend relating to 2015

 -  

 -  

 -  

(2,531)

(2,531)

Special dividend relating to 2016

 -  

 -  

 -  

(3,722)

(3,722)

Interim dividend relating to 2016

 -  

 -  

 -  

(1,936)

(1,936)

Special dividend relating to 2016

 -  

 -  

 -  

(44,216)

(44,216)

Total contributions by and distributions to owners

 -  

 -  

 -  

(53,516)

(53,516)

Balance at 31 December 2016

153

20

(1,131)

133,847

132,889







Total comprehensive income for the period






Loss for 2017

 -  

 -  

 -  

(4,269)

(4,269)







Other comprehensive income, net of income tax

-

-

-

-

-

Total comprehensive income for the period

 -  

 -  

 -  

(4,269)

(4,269)







Transactions with owners, recorded directly in equity






Contributions by and distributions to owners






Equity settled share based payment transactions

 -  

 -  

 -  

(155)

(155)

Final dividend relating to 2016

 -  

 -  

 -  

(2,680)

(2,680)

Interim dividend relating to 2017

 -  

 -  

 -  

(2,084)

(2,084)

Total contributions by and distributions to owners

 -  

 -  

 -  

(4,919)

(4,919)

Balance at 31 December 2017

153

20

(1,131)

124,659

123,701

 

 

Consolidated statement of cash flows

 




Year ended 31 December

Year ended 31 December




2017

2016


Note


£000

£000

Cash flows from operating activities





Interest received



43,389

109,311

Interest paid



(6,093)

(19,372)

Fees and commissions received



8,682

37,511

Other income



3,033

 -  

Cash payments to employees and suppliers



(47,600)

(101,217)

Taxation paid



(379)

(3,020)

Cash flows from operating profits before changes in operating assets and liabilities



1,032

23,213

Changes in operating assets and liabilities:





 - net (increase)/decrease in derivative financial instruments



(331)

66

 - net (increase)/decrease in loans and advances to customers



(233,175)

855,436

 - net (increase)/decrease in other assets



(7,952)

41,780

 - net increase/(decrease) in amounts due to customers



392,937

(932,189)

 - net decrease in other liabilities



(843)

(23,595)

Net cash inflow/(outflow) from operating activities



151,668

(35,289)

Cash flows from investing activities





Disposal of financial investments



 -  

1,078

Purchase of computer software

28


(2,641)

(5,155)

Purchase of property, plant and equipment

30


(666)

(354)

Purchase of investment property

31


(6,421)

(53,339)

Disposal of Tarn Crag (Holdings) Limited

27


900

 -  

Purchase of Renaissance Asset Finance Limited

29


(2,072)

 -  

Cash balance acquired through Renaissance Asset Finance Limited acquisition

29


2,815

 -  

Proceeds from sale of Everyday Loans Group, net of cash and cash equivalents disposed



 -  

101,723

Proceeds from sale of Secure Trust Bank shares



 -  

147,999

Reduction in cash balance with deconsolidation of Secure Trust Bank



 -  

(194,344)

Purchases of debt securities



(211,080)

(89,384)

Proceeds from redemption of debt securities



90,410

71,899

Net cash outflow from investing activities



(128,755)

(19,877)

Cash flows from financing activities





Increase/(decrease) in borrowings



132,928

(52,105)

Dividends paid



(4,764)

(57,215)

Net cash inflow/(outflow) from financing activities



128,164

(109,320)

Net increase/(decrease) in cash and cash equivalents



151,077

(164,486)

Cash and cash equivalents at 1 January



232,703

397,189

Cash and cash equivalents at 31 December

41


383,780

232,703

 

 

Company statement of cash flows

 




Year ended 31 December

Year ended 31 December




2017

2016


Note


£000

£000

Cash flows from operating activities





Dividends received from subsidiaries



2,618

11,468

Interest received



202

283

Interest paid



(513)

(611)

Other income



1,643

1,816

Cash payments to employees and suppliers



(7,977)

(10,107)

Taxation paid



 -  

(488)

Cash flows from operating (losses)/profits before changes in operating assets and liabilities



(4,027)

2,361

Changes in operating assets and liabilities:





 - net (increase)/decrease in group company balances



(1,788)

526

 - net decrease in other assets



690

104

 - net increase in other liabilities



120

48

Net cash (outflow)/inflow from operating activities



(5,005)

3,039

Cash flows from investing activities





Increase investment in subsidiary

43


(43,200)

(22,000)

Disposal of share in subsidiaries

43


 -  

147,999

Purchase of property, plant and equipment

30


 -  

(5)

Net cash (outflow)/inflow from investing activities



(43,200)

125,994

Cash flows from financing activities





Dividends paid



(4,764)

(52,405)

Net cash used in financing activities



(4,764)

(52,405)

Net (decrease)/increase in cash and cash equivalents



(52,969)

76,628

Cash and cash equivalents at 1 January



89,072

12,444

Cash and cash equivalents at 31 December

41


36,103

89,072

 

 

Notes to the Consolidated Financial Statements

 

1.  Reporting entity

Arbuthnot Banking Group PLC is a company domiciled in the United Kingdom. The registered address of Arbuthnot Banking Group PLC is 7 Wilson Street, London, EC2M 2SN. The consolidated financial statements of Arbuthnot Banking Group PLC as at and for the year ended 31 December 2017 comprise Arbuthnot Banking Group PLC and its subsidiaries (together referred to as the "Group" and individually as "subsidiaries"). The Company is the holding company of a group primarily involved in banking and financial services.

 

2.  Basis of presentation

(a) Statement of compliance

The Group's consolidated financial statements and the Company's financial statements have been prepared in accordance with International Financial Reporting Standards (IFRSs as adopted and endorsed by the EU) and the Companies Act 2006 applicable to companies reporting under IFRS. 

 

The consolidated financial statements were authorised for issue by the Board of Directors on 27 March 2018.

 

(b) Basis of measurement

The consolidated and company financial statements have been prepared under the historical cost convention, as modified by the revaluation of land and buildings, investment property, available-for-sale financial assets, derivatives, and financial assets and financial liabilities at fair value through profit or loss.

 

(c) Functional and presentational currency

Items included in the financial statements of each of the Group's entities are measured using the currency of the primary economic environment in which the entity operates ('the functional currency'). The consolidated financial statements are presented in Pounds Sterling, which is the Company's functional and the Group's presentational currency.

 

(d) Use of estimates and judgements

The preparation of financial statements in conformity with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise its judgement in the process of applying the Group's accounting policies. The areas involving a higher degree of judgement or complexity, or areas where assumptions and estimates are significant to the consolidated financial statements are disclosed in Note 4.

 

(e) Accounting developments

The accounting policies adopted are consistent with those of the previous financial year. There were no new or amended standards or interpretations that resulted in a change in accounting policy.

 

(f) Going concern

After making appropriate enquiries which assessed strategy, profitability, funding, risk management (see Note 6) and capital resources (see Note 7), the directors are satisfied that the Company and the Group have adequate resources to continue in operation for the foreseeable future. The financial statements are therefore prepared on the going concern basis.

 

The accounting policies applied in the preparation of these consolidated financial statements are set out below. These policies have been consistently applied to all the years presented, unless otherwise stated.

 

3.1.  Consolidation

(a)  Subsidiaries

Subsidiaries are all investees (including special purpose entities) controlled by the Group. The Group controls an investee when it is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee. Subsidiaries are fully consolidated from the date on which control is transferred to the Group. They are de-consolidated from the date that control ceases.

 

The acquisition method of accounting is used to account for the acquisition of subsidiaries by the Group. The cost of an acquisition is measured as the fair value of the assets given, equity instruments issued and liabilities incurred or assumed at the date of exchange. Identifiable assets acquired, liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date, irrespective of the extent of any non-controlling interest. The excess of the cost of acquisition over the fair value of the Group's shares of the identifiable net assets acquired is recorded as goodwill. If the cost of acquisition is less than the fair value of the net assets of the subsidiary acquired, the difference is recognised directly in the Statement of Comprehensive Income as a gain on bargain purchase.

 

The Parent's investments in subsidiaries are recorded at cost less, where appropriate, provisions for impairment in value.

 

Inter-company transactions, balances and unrealised gains on transactions between Group companies are eliminated. Unrealised losses are also eliminated. Accounting policies of subsidiaries have been changed where necessary to ensure consistency with the policies adopted by the Group.

 

(b) Changes in ownership and non-controlling interests

Changes in ownership interest in a subsidiary that do not result in the loss of control are accounted for as equity transactions and no gain or loss is recognised. Adjustments to non-controlling interests are based on a proportionate amount of the net assets of the subsidiary.

 

When control of a subsidiary is lost, the Group derecognises the assets, liabilities, non-controlling interest and all other components of equity relating to the former subsidiary from the consolidated statement of financial position. Any resulting gain or loss is recognised in profit or loss. Any investment retained in the former subsidiary is recognised at its fair value at the date when control is lost.

 

(c) Special purpose entities

Special purpose entities ("SPEs") are entities that are created to accomplish a narrow and well-defined objective such as the securitisation of particular assets or the execution of a specific borrowing or lending transaction. SPEs are consolidated when the investor controls the investee. The investor would only control the investee if it had all of the following:

 

• power over the investee;

• exposure, or rights, to variable returns from its involvement with the investee; and

• the ability to use its power over the investee to affect the amount of the investor's returns.

 

The assessment of whether the Group has control over an SPE is carried out at inception and the initial assessment is only reconsidered at a later date if there were any changes to the structure or terms of the SPE, or there were additional transactions between the Group and the SPE.

 

(d) Associates

Associates are those entities in which the Group has significant influence, but not control, over the financial and operating policies. Significant influence is presumed to exist when the Group holds between 20 and 50 percent of the voting power of another entity. Associates are accounted for using the equity method and are initially recognised at cost. The Group's investment includes goodwill identified on acquisition, net of any accumulated impairment losses. The consolidated financial statements include the Group's share of the total comprehensive income and equity movements of equity accounted investees, from the date that significant influence commences until the date that significant influence ceases. When the Group's share of losses exceeds its interest in an equity accounted investee, the Group's carrying amount is reduced to nil and recognition of further losses is discontinued except to the extent that the Group has incurred legal or constructive obligations or made payments on behalf of the investee.

 

3.2.  Segment reporting

Operating segments are reported in a manner consistent with the internal reporting provided to the Group Board. The Group Board, which is responsible for allocating resources and assessing performance of the operating segments, has been identified as the chief operating decision maker. All transactions between segments are conducted on an arm's length basis. Income and expenses directly associated with each segment are included in determining segment performance. There are three main operating segments:

 

• Retail Banking

• Private Banking

• Group Centre

 

3.3.  Foreign currency translation

Foreign currency transactions are translated into the functional currency using the spot exchange rates prevailing at the dates of the transactions or valuation where items are remeasured. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the Statement of Comprehensive Income. Foreign exchange differences arising from translation of available-for-sale equity instruments are recognised in Other Comprehensive Income.

 

3.4.  Interest income and expense

Interest income and expense are recognised in the Statement of Comprehensive Income for all instruments measured at amortised cost using the effective interest rate method.

 

The effective interest rate is the rate that discounts estimated future cash payments or receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. When calculating the effective interest rate, the Group takes into account all contractual terms of the financial instrument but does not consider future credit losses. The calculation includes all fees paid or received between parties to the contract that are an integral part of the effective interest rate, transaction costs and all other premiums or discounts. The carrying amount of the financial asset or financial liability is adjusted if the Group revises its estimates of payments or receipts. The adjusted carrying amount is calculated based on the original effective interest rate and the change in carrying amount is recorded as interest income or expense.

 

Once a financial asset or a group of similar financial assets has been written down as a result of an impairment loss, interest income continues to be recognised using the original effective interest rate applied to the impaired carrying amount.

 

3.5.  Fee and commission income

Fees and commissions which are not considered integral to the effective interest rate are generally recognised on an accrual basis when the service has been provided.

 

Asset and other management, advisory and service fees are recognised on an accruals basis as the related services are performed. The same principle is applied for financial planning and insurance services that are continuously provided over an extended period of time.

 

3.6.  Rental income

Rental income is recognised on a straight line basis over the term of the lease. Lease incentives granted are recognised as an integral part of the total rental income over the term of the lease.

 

3.7.  Discontinued operations

A discontinued operation is a component of the Group's business, the operations and cash flows of which can be clearly distinguished from the rest of the Group and which:

• represents a separate major line of business or geographical area of operations;

• is part of a single co-ordinated plan to dispose of a separate major line of business or geographical area of operations; or

• is a subsidiary acquired exclusively with a view to re-sale.

 

Classification as a discontinued operation occurs on disposal or when the operation meets the criteria to be classified as held for sale (see note 3.14), if earlier. When an operation is classified as a discontinued operation, the comparative Statement of Comprehensive Income is re-presented as if the operation had been discontinued from the start of the comparative year.

 

3.8.  Financial assets and financial liabilities

The Group classifies financial assets and financial liabilities in the following categories: financial assets and financial liabilities at fair value through profit or loss; loans and receivables; held-to-maturity investments; available-for-sale financial assets and other financial liabilities. Management determines the classification of its investments at acquisition. A financial asset or financial liability is measured initially at fair value plus, for an item not at fair value through profit or loss, transaction costs that are directly attributable to its acquisition or issue.

 

(a) Financial assets and financial liabilities at fair value through profit or loss

This category comprises listed securities and derivative financial instruments. Derivative financial instruments utilised by the Group include embedded derivatives and derivatives used for hedging purposes. Financial assets and liabilities at fair value through profit or loss are initially recognised on the date from which the Group becomes a party to the contractual provisions of the instrument. Subsequent measurement of financial assets and financial liabilities held in this category are carried at fair value through profit or loss.

 

(b) Loans and receivables

Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. They arise when the Group provides money, goods or services directly to a debtor with no intention of trading the receivable.  Loans are recognised when cash is advanced to the borrowers. Loans and receivables, other than those relating to assets leased to customers, are carried at amortised cost using the effective interest rate method. The accounting for assets leased to customers, is set out under Note 3.18 (a).

 

(c) Held-to-maturity

Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturities that the Group has the positive intent and ability to hold to maturity and that have not been designated at fair value through profit or loss or as available-for-sale investments. Held-to-maturity investments are carried at amortised cost using the effective interest rate method, less any impairment loss.

 

(d) Available-for-sale

Available-for-sale ("AFS") investments are those not classified as another category of financial assets. These include investments in special purpose vehicles and equity investments in unquoted vehicles. They may be sold in response to liquidity requirements, interest rate, exchange rate or equity price movements. AFS investments are initially recognised at cost, which is considered as the fair value of the investment including any acquisition costs. AFS securities are subsequently measured at fair value in the statement of financial position. Fair value changes in the AFS securities are recognised directly in equity (AFS reserve) until the investment is sold or impaired. Once sold or impaired, the cumulative gains or losses previously recognised in the AFS reserve are recycled to the profit or loss.

 

(e) Current financial assets held for sale

Current financial assets held for sale are measured at the lower of their carrying amount and fair value less costs to sell except where measurement and remeasurement is outside the scope of IFRS 5. Where investments that have initially been recognised as current financial assets held for sale, because the Group has been deemed to hold a controlling stake, are subsequently disposed of or diluted such that the Group's holding is no longer deemed a controlling stake, the investment will subsequently be classified as fair value through profit or loss investments in accordance with IAS 39. Subsequent movements will be recognised in accordance with the Group's accounting policy for the newly adopted classification.

 

(f) Other financial liabilities

Other financial liabilities are non-derivative financial liabilities with fixed or determinable payments. Other financial liabilities are recognised when cash is received from the depositors. Other financial liabilities are carried at amortised cost using the effective interest rate method. The fair value of other liabilities repayable on demand is assumed to be the amount payable on demand at the Statement of Financial Position date.

 

Amortised cost measurement

The amortised cost of a financial asset or financial liability is the amount at which the financial asset or financial liability is measured at initial recognition, minus principal payments, plus or minus the cumulative amortisation using the effective interest rate method of any difference between the initial amount recognised and the maturity amount, less any reduction for impairment.

 

Fair value measurement

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

 

When available, the Group measures the fair value of an instrument using quoted prices in an active market for that instrument. A market is regarded as active if quoted prices are readily and regularly available and represent actual and regularly occurring market transactions on an arm's length basis.

 

If a market for a financial instrument is not active, the Group establishes fair value using a valuation technique. These include the use of recent arm's length transactions, reference to other instruments that are substantially the same for which market observable prices exist, net present value and discounted cash flow analysis. In the instance that fair values of assets and liabilities cannot be reliably measured, they are carried at cost.

For measuring derivatives that might change classification from being an asset to a liability or vice versa such as interest rate swaps, fair values take into account both credit valuation adjustment (CVA) and debit valuation adjustment (DVA) when market participants take this into consideration in pricing the derivatives.

 

Derecognition

Financial assets are derecognised when the rights to receive cash flows from the financial assets have expired or when the Group has transferred substantially all risks and rewards of ownership. Any interest in transferred financial assets that qualify for derecognition that is created or retained by the Group is recognised as a separate asset or liability in the Statement of Financial Position. In transactions in which the Group neither retains nor transfers substantially all the risks and rewards of ownership of a financial asset and it retains control over the asset, the Group continues to recognise the asset to the extent of its continuing involvement, determined by the extent to which it is exposed to changes in the value of the transferred asset. There have not been any instances where assets have only been partially derecognised.

 

The Group derecognises a financial liability when its contractual obligations are discharged, cancelled, expire, are modified or exchanged.

 

3.9.  Derivative financial instruments

All derivatives are recognised at their fair value. Fair values are obtained from quoted market prices in active markets, including recent arm's length transactions or using valuation techniques such as discounted cash flow models. Derivatives are shown in the Statement of Financial Position as assets when their fair value is positive and as liabilities when their fair value is negative.

 

Embedded derivatives

Embedded derivatives arise from contracts ('hybrid contracts') containing both a derivative (the 'embedded derivative') and a non-derivative (the 'host contract'). Where the economic characteristics and risks of the embedded derivatives are not closely related to those of the host contract, and the host contract is not at fair value through profit or loss, the embedded derivative is bifurcated and reported at fair value and gains or losses are recognised in the Statement of Comprehensive Income.

 

3.10.  Impairment of financial assets

(a) Assets carried at amortised cost

On an ongoing basis the Group assesses whether there is objective evidence that a financial asset or group of financial assets is impaired.  Objective evidence is the occurrence of a loss event, after the initial recognition of the asset, that impacts on the estimated contractual future cash flows of the financial asset or group of financial assets, and can be reliably estimated.

 

The criteria that the Group uses to determine whether there is objective evidence of an impairment loss include, but are not limited to, the following:

• Delinquency in contractual payments of principal or interest;

• Cash flow difficulties experienced by the borrower;

• Initiation of bankruptcy proceedings;

• Deterioration in the value of collateral;

• Deterioration of the borrower's competitive position.

 

If there is objective evidence that an impairment loss on loans and receivables or held-to-maturity investments carried at amortised cost has been incurred, the amount of the loss is measured as the difference between the asset's carrying amount and the present value of estimated future cash flows discounted at the financial asset's original effective interest rate. The carrying amount of the asset is reduced through the use of an allowance account and the amount of the loss is recognised in the Statement of Comprehensive Income. If a loan or held-to-maturity investment has a variable interest rate, the discount rate for measuring any impairment loss is the current effective interest rate determined under the contract.

 

The Group considers evidence of impairment for loans and advances at both a specific asset and collective level. All individually significant loans and advances are assessed for specific impairment. Those found not to be specifically impaired are then collectively assessed for any impairment that has been incurred but not yet identified. In assessing collective impairment the Group uses historical trends of the probability of default, emergence period, the timing of recoveries and the amount of loss incurred, adjusted for management's judgement as to whether current economic and credit conditions are such that the actual losses are likely to be significantly different to historic trends.

 

When a loan is uncollectible, it is written off against the related provision for loan impairment. Such loans are written off after all the necessary procedures have been completed and the amount of the loss has been determined. Subsequent recoveries of amounts previously written off decrease the amount of the provision for loan impairment in the Statement of Comprehensive Income.

 

A customer's account may be modified to assist customers who are in or have recently overcome financial difficulties and have demonstrated both the ability and willingness to meet the current or modified loan contractual payments. Loans that have renegotiated or deferred terms, resulting in a substantial modification to the cash flows, are no longer considered to be past due but are treated as new loans recognised at fair value, provided the customers comply with the renegotiated or deferred terms.

 

(b) Assets classified as available-for-sale

The Group assesses at each Statement of Financial Position date whether there is objective evidence that a financial asset or a group of financial assets is impaired. In the case of equity investments classified as available-for-sale, a significant or prolonged decline in the fair value of the security below its cost is considered as an indicator that the securities are impaired. If any such evidence exists for available-for-sale financial assets, the cumulative loss - measured as the difference between the acquisition cost and the current fair value, less any impairment loss on that financial asset previously recognised in profit or loss - is removed from equity and recognised in the profit or loss. Impairment losses recognised in the profit or loss on equity instruments are reversed through other comprehensive income.

 

(c) Renegotiated loans

Loans that are neither subject to collective impairment assessment nor individually significant and whose terms have been renegotiated are no longer considered to be past due but are treated as new loans. 

 

(d) Forbearance

Under certain circumstances, the Group may use forbearance measures to assist borrowers who are experiencing significant financial hardship. Any forbearance support is assessed on a case by case basis in line with best practice and subject to regular monitoring and review. The Group seeks to ensure that any forbearance results in a fair outcome for both the customer and the Group.

 

3.11.  Impairment of non-financial assets

The carrying amounts of the Group's non-financial assets, other than inventories and deferred tax assets, are reviewed at each reporting date to determine whether there is any indication of impairment. If any such indication exists, then the asset's recoverable amount is estimated. Impairment for goodwill is discussed in more detail under note 3.15(a).

 

3.12.  Term Funding Scheme

The Term Funding Scheme ("TFS") was announced by the Bank of England on 4 August 2016 and became effective from 19 September 2016. The TFS allows participants to borrow central bank reserves in exchange for eligible collateral. Amounts drawn from the TFS are included within "Deposits from banks" on the Statement of Financial Position as detailed in Note 32.

 

3.13.  Inventory

Land acquired through repossession of collateral which is subsequently held in the ordinary course of business with a view to develop and sell is accounted for as inventory.

 

Inventory is measured at the lower of cost or net realisable value. The cost of inventories comprises all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. Net realisable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.

 

3.14.  Assets classified as held for sale

Assets, or disposal groups comprising assets and liabilities, that are expected to be recovered primarily through sale rather than through continuing use, are classified as held for sale. These assets and liabilities are subsequently measured at the lower of carrying amount and fair value less costs to sell. Once classified as held for sale, intangible assets and property, plant and equipment are no longer amortised or depreciated.

 

3.15.  Intangible assets

(a) Goodwill

Goodwill represents the excess of the cost of an acquisition over the fair value of the Group's share of the net identifiable assets of the acquired subsidiary or associate at the date of acquisition. Goodwill on acquisitions of subsidiaries or associates is included in 'intangible assets'. Gains and losses on the disposal of an entity include the carrying amount of goodwill relating to the entity sold.

 

The Group reviews the goodwill for impairment at least annually or more frequently when events or changes in economic circumstances indicate that impairment may have taken place and carries goodwill at cost less accumulated impairment losses. Assets are grouped together in the smallest group of assets that generates cash inflows from continuing use that are largely independent of the cash inflows of other assets or groups of assets (the "cash-generating unit" or "CGU"). For impairment testing purposes goodwill cannot be allocated to a CGU that is greater than a reported operating segment. CGUs to which goodwill has been allocated are aggregated so that the level at which impairment is tested reflects the lowest level at which goodwill is monitored for internal reporting purposes. Goodwill acquired in a business combination is allocated to groups of CGUs that are expected to benefit from the synergies of the combination. The test for impairment involves comparing the carrying value of goodwill with the present value of pre-tax cash flows, discounted at a rate of interest that reflects the inherent risks of the CGU to which the goodwill relates, or the CGU's fair value if this is higher.

 

(b) Computer software

Acquired computer software licences are capitalised on the basis of the costs incurred to acquire and bring to use the specific software. These costs are amortised on the basis of the expected useful lives (three to ten years).

 

Costs associated with maintaining computer software programs are recognised as an expense as incurred.

 

Costs associated with developing computer software which are assets in the course of construction, which management has assessed to not be available for use, are not amortised.

 

(c) Other intangibles

Other intangibles include trademarks, customer relationships, broker relationships, technology and banking licences acquired. These costs are amortised on the basis of the expected useful lives (three to fourteen years).

 

3.16.  Property, plant and equipment

Land and buildings comprise mainly branches and offices and are stated at the latest valuation with subsequent additions at cost less depreciation. Plant and equipment is stated at historical cost less depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items.

 

Land is not depreciated. Depreciation on other assets is calculated using the straight-line method to allocate their cost to their residual values over their estimated useful lives, applying the following annual rates, which are subject to regular review:

 

Freehold buildings

50 years

Office equipment

3 to 10 years

Computer equipment

3 to 5 years

Motor vehicles

4 years

 

Leasehold improvements are depreciated over the term of the lease (until the first break clause). Gains and losses on disposals are determined by deducting carrying amount from proceeds. These are included in the Statement of Comprehensive Income. Depreciation on revalued freehold buildings is calculated using the straight-line method over the remaining useful life. Revaluation of assets and any subsequent disposals are addressed through the revaluation reserve and any changes are transferred to retained earnings.

 

3.17.  Investment property

Investment property is initially measured at cost. Transaction costs are included in the initial measurement. Subsequently, investment property is measured at fair value, with any change therein recognised in profit and loss within other income.

 

If a change in use occurs and investment property is transferred to owner-occupied property, the property's deemed cost for subsequent reporting is its fair value at the date of change in use.

 

3.18.  Leases

(a) As a lessor

Assets leased to customers under agreements which transfer substantially all the risks and rewards of ownership, with or without ultimate legal title, are classified as finance leases. When assets are held subject to finance leases, the present value of the lease payments is recognised as a receivable. The difference between the gross receivable and the present value of the receivable is recognised as unearned finance income. Lease income is recognised over the term of the lease using the net investment method, which reflects a constant periodic rate of return.

 

Assets leased to customers under agreements which do not transfer substantially all the risks and rewards of ownership are classified as operating leases. When assets are held subject to operating leases, the underlying assets are held at cost less accumulated depreciation, The assets are depreciated down to their estimated residual values on a straight-line basis over the lease term. Lease rental income is recognised on a straight line basis over the lease term.

 

(b) As a lessee

Rentals made under operating leases are recognised in the Statement of Comprehensive Income on a straight-line basis over the term of the lease.

 

Leases in which the Group assumes substantially all the risks and rewards of ownership of the leased asset are classified as finance leases.  Leased assets by way of finance leases are stated at an amount equal to the lower of their fair value and the present value of the minimum lease payments at inception of the lease, less accumulated depreciation. Minimum lease payments are apportioned between the finance charge and the reduction of the outstanding liability. The finance charge is allocated to each period during the lease term so as to produce a constant periodic rate of interest on the remaining balance of the liability.

 

3.19.  Cash and cash equivalents

For the purposes of the Statement of Cash Flows, cash and cash equivalents comprises cash on hand and demand deposits, and cash equivalents are deemed highly liquid investments that are convertible into cash with an insignificant risk of changes in value with a maturity of three months or less at the date of acquisition.

 

3.20.  Employee benefits

(a) Post-retirement obligations

The Group contributes to a defined contribution scheme and to individual defined contribution schemes for the benefit of certain employees. The schemes are funded through payments to insurance companies or trustee-administered funds at the contribution rates agreed with individual employees.

 

The Group has no further payment obligations once the contributions have been paid. The contributions are recognised as an employee benefit expense when they are due. Prepaid contributions are recognised as an asset to the extent that a cash refund or a reduction in the future payments is available.

 

There are no post-retirement benefits other than pensions.

 

(b) Share-based compensation

The fair value of equity settled share-based payment awards is calculated at grant date and recognised over the period in which the employees become unconditionally entitled to the awards (the vesting period). The amount is recognised as personnel expenses in the profit and loss, with a corresponding increase in equity. The Group adopts a Black-Scholes valuation model in calculating the fair value of the share options as adjusted for an attrition rate for members of the scheme and a probability of pay-out reflecting the risk of not meeting the terms of the scheme over the vesting period. The number of share options that are expected to vest are reviewed at least annually.

 

The fair value of cash settled share-based payments is recognised as personnel expenses in the profit or loss with a corresponding increase in liabilities over the vesting period. The liability is remeasured at each reporting date and at settlement date based on the fair value of the options granted, with a corresponding adjustment to personnel expenses.

 

When share-based payments are changed from equity settled to cash settled and there is no change in the fair value of the replacement award, it is seen as a modification to the terms and conditions on which the equity instruments were granted and is not seen as the settlement and replacement of the instruments. Accordingly, on the date of modification, the Group recognises the entire liability as a reclassification from equity and does not recognise any profit or loss in the Statement of Comprehensive Income.

 

(c) Deferred cash bonus scheme

The Bank has a deferred cash bonus scheme for senior employees. The cost of the award is recognised to the income statement over the period to which the performance relates.

 

3.21.  Taxation

Current income tax which is payable on taxable profits is recognised as an expense in the period in which the profits arise. Income tax recoverable on tax allowable losses is recognised as an asset only to the extent that it is regarded as recoverable by offset against current or future taxable profits.

 

Deferred tax is provided in full on temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the consolidated financial statements. However, deferred tax is not accounted for if it arises from the initial recognition of goodwill, the initial recognition of an asset or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting nor taxable profit or loss, and differences relating to investments in subsidiaries to the extent that they probably will not reverse in the foreseeable future. Deferred tax is determined using tax rates (and laws) that have been enacted or substantively enacted by the Statement of Financial Position date and are expected to apply when the related deferred tax asset is realised or the deferred tax liability is settled.

 

Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and they relate to taxes levied by the same tax authority on the same taxable entity, or on different tax entities, when they intend to settle current tax liabilities and assets on a net basis or the tax assets and liabilities will be realised simultaneously.

 

Deferred tax assets are recognised where it is probable that future taxable profits will be available against which the temporary differences can be utilised.

 

3.22.  Issued debt and equity securities

Issued financial instruments or their components are classified as liabilities where the contractual arrangement results in the Group having a present obligation to either deliver cash or another financial asset to the holder, to exchange financial instruments on terms that are potentially unfavourable. Issued financial instruments, or their components, are classified as equity where they meet the definition of equity and confer on the holder a residual interest in the assets of the Company. The components of issued financial instruments that contain both liability and equity elements are accounted for separately with the equity component being assigned the residual amount after deducting from the instrument as a whole the amount separately determined as the fair value of the liability component.

 

Financial liabilities, other than trading liabilities at fair value, are carried at amortised cost using the effective interest rate method as set out in policy 3.4. Equity instruments, including share capital, are initially recognised as net proceeds, after deducting transaction costs and any related income tax. Dividend and other payments to equity holders are deducted from equity, net of any related tax.

 

3.23.  Share capital

(a) Share issue costs

Incremental costs directly attributable to the issue of new shares or options or the acquisition of a business by Arbuthnot Banking Group or its subsidiaries, are shown in equity as a deduction, net of tax, from the proceeds.

 

(b) Dividends on ordinary shares

Dividends on ordinary shares are recognised in equity in the period in which they are approved.

 

(c) Share buybacks

Where any Group company purchases the Company's equity share capital (treasury shares), the consideration paid, including any directly attributable incremental costs (net of income taxes) is deducted from equity attributable to the Company's equity holders until the shares are cancelled or reissued.

 

3.24.  Financial guarantees and loan commitments

Financial guarantees represent undertakings that the Group will meet a customer's obligation to third parties if the customer fails to do so. Commitments to extend credit represent unused portions of authorisations to extend credit in the form of loans, guarantees or letters of credit. The Group is theoretically exposed to loss in an amount equal to the total guarantees or unused commitments. However, the likely amount of loss is expected to be significantly less; most commitments to extend credit are contingent upon customers maintaining specific credit standards. Liabilities under financial guarantee contracts are initially recorded at their fair value, and the initial fair value is amortised over the life of the financial guarantee. Subsequently, the financial guarantee liabilities are measured at the higher of the initial fair value, less cumulative amortisation, and the best estimate of the expenditure to settle obligations.

 

3.25.  Fiduciary activities

The Group commonly acts as trustee and in other fiduciary capacities that result in the holding or placing of assets on behalf of individuals, trusts, retirement benefit plans and other institutions. These assets and income arising thereon are excluded from these financial statements, as they are not assets of the Group.

 

3.26.  Provisions and contingent liabilities

Provisions are recognised when the Group has a present legal or constructive obligation as a result of a past event, it is probable that an outflow of economic resources will be required from the Group and amounts can be reliably measured.

 

Onerous contract provisions are recognised for losses on contracts where the forecast costs of fulfilling the contract throughout the contract period exceed the forecast income receivable. In assessing the amount of the loss to provide on any contract, account is taken of the Group's forecast results which the contract is servicing. The provision is calculated based on discounted cash flows to the end of the contract.

 

Contingent liabilities are disclosed when the Group has a present obligation as a result of a past event, but the probability that it will be required to settle that obligation is more than remote, but not probable.

 

3.27.  New standards and interpretations not yet adopted

The following standards, interpretations and amendments to existing standards have been published and are mandatory for the Group's accounting periods beginning on or after 1 January 2018 or later periods, but the Group has not early adopted them:

 

IFRS 9, 'Financial instruments' (effective from 1 January 2018).

In July 2014, the IASB issued the final version of IFRS 9 Financial Instruments (IFRS 9). IFRS 9 replaces IAS 39 Financial instruments: "Recognition and measurement", and is effective for annual periods beginning on or after 1 January 2018, with early adoption permitted. The Group will initially apply IFRS 9 on 1 January 2018. In October 2017, the IASB issued "Prepayment Features with Negative Compensation" (Amendment to IFRS 9). The amendments are effective for annual periods beginning on or after 1 January 2019, with early adoption permitted. This Amendment does not have an impact on Group's financial assets' classification and measurement. The Group will take advantage of the exemption allowing it not to restate comparative information for prior periods with respect to classification and measurement (including impairment) changes. The changes in measurement arising on initial application of IFRS 9 will be incorporated through an adjustment to the opening reserves and retained earnings position as at 1 January 2018.

 

The assessment below is preliminary and not all transition work has been finalised yet. The actual impact of adopting IFRS 9 on 1 January 2018 may change because the Group is still refining its models and methodology for Expected Credit Loss ("ECL") calculations, and revisions of governance and internal controls (including IT systems) required for adoption of IFRS 9 are not yet complete and neither is the testing of these controls. Further, the assumptions, judgements and estimation techniques employed are subject to change until the Bank finalises its first financial statements that include the date of initial application.

 

i) Classification and Measurement of Financial Assets and Liabilities

There are three measurement classifications under IFRS 9: amortised cost, fair value through profit and loss ("FVTPL") and for financial assets, fair value through other comprehensive income ("FVOCI"). The existing IAS 39 financial asset categories have been removed. Financial assets are classified into these measurement classifications based on the business model within which they are held, and their contractual cash flow characteristics. The business model reflects how groups of financial assets are managed to achieve a particular business objective.

 

Financial assets can only be held at amortised cost if the instruments are held in order to collect the contractual cash flow ("held to collect") and where those contractual cash flows are solely payments of principal and interest ("SPPI"). Financial asset debt instruments where the business model objectives are achieved by both collecting the contractual cash flows and selling the assets ("held to collect and sell"), are held at FVOCI, with unrealised gains and losses deferred within reserves until the asset is derecognised. All financial assets not classified as measured at amortised cost or FVOCI, as described above, are measured at FVTPL.

 

The Group has assessed the business models that it operates and most of the loans to banks and customers are held within a "held to collect" business model. Investment debt securities categorised as heldtomaturity under IAS 39 are held within a "held to collect" portfolio. The majority of the remaining investment debt securities are held within a "held to collect and sell" business model or trading portfolio. Where the objective of a business is to hold the assets to collect the contractual cash flows or where the objective is to hold the assets to collect contractual cash flows and sell, a further assessment has been undertaken to determine whether the cash flows of the assets are deemed to meet the SPPI criteria. Where these instruments have cash flows that meet the SPPI criteria, the instruments are measured at amortised cost (for held to collect business models) or FVOCI (for held to collect and sell business models). Instruments that do not meet the SPPI criteria are measured at FVTPL regardless of the business model in which they are held.

 

IFRS 9 largely retains the existing requirements in IAS 39 for the classification of financial liabilities, except for changes in presentation of fair value changes of financial liabilities designated at FVTPL attributable to changes in liability credit risk (under IFRS 9 these changes are presented within other comprehensive income). There has been no change in the way the Group classifies and measures its financial liabilities.

 

ii) Impairment of Financial Assets, Loan Commitments and Financial Guarantee Contracts

IFRS 9 introduces a new forwardlooking ECL impairment framework for all financial assets not measured at FVTPL and certain offbalance sheet loan commitments and guarantees. It replaces the "incurred loss model" from IAS 39. The new ECL framework will result in an allowance for expected credit losses being recorded on financial assets regardless of whether there has been an actual loss event. This differs from the current approach where the allowance recorded on performing loans is designed to capture only losses that have been incurred, whether or not they have been specifically identified. The new impairment model applies to the following financial instruments that are not measured at fair value through profit or loss:

 

• Financial assets that are debt instruments; and;

• Loan commitments and financial guarantee contracts issued.

 

The IFRS 9 impairment model adopts a three stage approach based on the extent of credit deterioration since origination:

• Stage 1: 12month ECL applies to all financial assets that have not experienced a significant increase in credit risk ("SICR") since origination and are not credit impaired. The ECL will be computed based on the probability of default events occurring over the next 12 months. This Stage 1 approach is different from the current approach which estimates a collective allowance to recognise losses that have been incurred but not reported on performing loans.

 

• Stage 2: When a financial asset experiences a SICR subsequent to origination but is not credit impaired, it is considered to be in Stage 2. This requires the computation of ECL based on the probability of all possible default events occurring over the remaining life of the financial asset. Provisions are higher in this stage because of an increase in credit risk and the impact of a longer time horizon being considered (compared to 12 months in Stage 1).

 

• Stage 3: Financial assets that exhibit objective evidence of impairment are included in this stage. Similar to Stage 2, the allowance for credit losses will continue to capture the lifetime expected credit losses. At each reporting date, the Group will assess whether financial assets carried at amortised cost are credit impaired. A financial asset will be considered to be credit impaired when an event(s) that has a detrimental impact on estimated future cash flows have occurred. Evidence that a financial asset is credit impaired includes the following observable data:

 

• Initiation of bankruptcy proceedings;

• Notification of bereavement;

• Identification of loan meeting debt sale criteria; or

• Initiation of repossession proceedings.

 

In addition, a loan that is 90 days or more past due will be considered credit impaired for all portfolios. The credit risk of financial assets that become credit impaired are not expected to improve such that they are no longer considered credit impaired.

 

The ECL requirements of IFRS 9 are complex and require management judgments, estimates and assumptions, particularly in the areas of assessing whether the credit risk of an instrument has increased significantly since initial recognition and incorporating forwardlooking information into the measurement of ECLs.

 

Under IFRS 9, the Group will consider a financial asset to be in default when:

 

• The borrower is unlikely to pay its credit obligations to the Group in full, without recourse by the Group to actions such as realising collateral (if any is held); or

• The borrower is more than 90 days past due on any material credit obligation to the Group.

 

This definition is largely consistent with the definition that is used for the Group's credit risk management process and for regulatory purposes.

 

Significant increase in credit risk

Under IFRS 9, when determining whether the credit risk (risk of default) on a financial instrument has increased significantly since initial recognition, the Group will consider reasonable and supportable information that is relevant and available without undue cost or effort, including both quantitative and qualitative information and analysis based on the Group's historical experience, expert credit assessment and forwardlooking information.

 

The Group has established a methodology and framework that incorporates both quantitative and qualitative information to determine whether the credit risk on a particular financial instrument has increased significantly since initial recognition and this is aligned to the internal credit risk management process.

 

The criteria for determining whether credit risk has increased significantly will vary according to the individual circumstances of each loan, given the nature of the loan book, but will also include a backstop based on delinquency of 30 days past due. In certain instances, using its judgement and, where possible, relevant historical experience, the Group may determine that an exposure has undergone a significant increase in credit risk if particular qualitative factors indicate so, as the quantitative analysis may not always capture this on a timely basis.

 

Measuring ECL

The key inputs to the measurement of ECLs are the following variables:

 

• Probability of default ("PD");

• Loss given default ("LGD"); and

• Exposure at default ("EAD").

 

Offbalance sheet items, such as financial guarantees and loan commitments, are included within the ECL computation.

 

Forwardlooking information ("FLI")

IFRS 9 requires an unbiased and probability weighted estimate of credit losses by evaluating a range of possible outcomes that incorporates forecasts of future economic conditions. FLI is required to be incorporated into the measurement of ECL as well as the determination of whether there has been a significant increase in credit risk since origination. Measurement of ECLs at each reporting period should reflect reasonable and supportable information at the reporting date about past events, current conditions and forecasts of future economic conditions. Forecasts for key macroeconomic variables that most closely correlate with the Bank's portfolio are used to produce five economic scenarios, comprising a central case, upside case, downside case, moderate stress and severe stress, and the impacts of these scenarios are then probability weighted. The estimation and application of this forwardlooking information will require significant judgement. External information is used to produce the forecast information.

 

iii) Hedge Accounting

IFRS 9 introduces a new hedge accounting model that expands the scope of hedged items and risks eligible for hedge accounting and aligns hedge accounting more closely with risk management. The new model no longer specifies quantitative measures for effectiveness testing and does not permit hedge dedesignation.

 

iv) Transitional impact, including impact on capital

The Group will record an adjustment to its opening retained earnings as at 1 January 2018 to reflect the application of the new requirements at the adoption date and will not restate comparative periods. The Group estimates the IFRS 9 transition amount will reduce shareholders' equity by between £2.4m and £3.2m before tax as at 1 January 2018.

 

Under IFRS 9, it is estimated that the Group's CET1 ratio would reduce by approximately 2 basis points after transitional relief (between 26 and 35 basis points before transitional relief). This is mainly driven by the increase in IFRS 9 ECL for standardised portfolios that directly impacts CET1 as there is no regulatory deduction to absorb the increase.

 

CET 1 ratio:

• 17.29% under IAS 39 at 31 December 2017;

• Between 16.93% and 17.03% under IFRS 9 at 1 January 2018 before transitional relief;

• 17.27% under IFRS 9 at 1 January 2018 after transitional relief.

 

Transitional relief relates to the phasing of the impact of the initial adoption of ECL as permitted by Regulation (EU) 2017/2395 of the European Parliament and Council. The Group is planning to adopt the transitional relief. Under this approach, the balance of ECL allowances in excess of the regulatory excess EL and standardised portfolios are phased into the CET1 capital base over 5 years. The proportion phased in for the balance at each reporting period is 2018: 5%; 2019 15%; 2020 30%; 2021 50%; 2022 75%. From 2023 onwards, there is no transitional relief.

 

v) Impact on Governance and Controls

The Group plans to apply its existing governance framework to ensure that appropriate controls and validations are in place over key processes and judgments to determine the ECL. As part of the implementation, the Group is in the process of refining existing internal controls and implementing new controls where required in areas that are impacted by IFRS 9, including controls over the development and probability weighting of macroeconomic scenarios, credit risk data and systems, and the determination of a significant increase in credit risk.

 

IFRS 15, 'Revenue from contracts with customers' (effective 1 January 2017).

This standard replaces IAS 11 Construction Contracts, IAS 18 Revenue, IFRIC 13 Customer Loyalty Programmes, IFRIC 15 Agreements for the Construction of Real Estate, IFRIC 18 Transfer of Assets from Customers and SIC31 Revenue - Barter of Transactions Involving Advertising Services. IFRS 15 is effective for annual periods beginning on or after 1 January 2018, with early adoption permitted.

 

The standard contains a single model that applies to contracts with customers and two approaches to recognising revenue: at a point in time or over time. The model features a contractbased five step analysis of transactions to determine whether, how much and when revenue is recognised. IFRS 15 is not expected to have a significant impact on the Group, but further analysis is continuing.

 

IFRS 16, 'Leases' (effective from 1 January 2019).

This standard sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract, i.e the customer ('lessee') and the supplier ('lessor'). IFRS 16 eliminates the classification of leases as required by IAS 17 and introduces a single lease accounting model. Applying that model, a lessee is required to recognise:

 

• Assets and liabilities for leases with a term of more than 12 months, unless the underlying asset is of low value;

• Depreciation of lease assets separately from interest on lease liabilities in profit or loss.

 

The standard is effective for annual periods beginning on or after 1 January 2019. The Group is currently in the process of assessing the impact that the initial application would have on its business and will adopt the standard for the year ending 31 December 2019.

 

 

4.  Critical accounting estimates and judgements in applying accounting policies

 

The Group makes estimates and assumptions that affect the reported amounts of assets and liabilities within the next financial year. Estimates and judgements are continually evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances.

 

4.1 Estimation uncertainty

(a) Credit losses

The Group reviews its loan portfolios and held-to-maturity investments to assess impairment at least on a quarterly basis. The basis for evaluating impairment losses is described in accounting policy 3.10. Where financial assets are individually evaluated for impairment, management uses its best estimates in calculating the net present value of future cash flows. Management has to make judgements on the financial position of the counterparty and the net realisable value of collateral (where held), in determining the expected future cash flows.

 

The recoverable amount is typically dependent on the sale of the collateral. The amount recoverable is determined with reference to:

 

• The property valuation, which is typically updated every 12 months.

• The time taken to realise the sale proceeds (UK property is assumed to take 12 months and Non-UK property 24 months).

• The property marketing costs (UK property is assumed to be at 3% of property value and Non-UK at 7%).

• The legal costs of sale (UK legal sales costs are assumed to be £5k, whilst Non-UK are assumed to be €10k).

 

Any change in timing of estimated future cash flows (other than impairment) will adjust carrying value with gain or loss in profit or loss. The revised carrying amount will be recalculated by discounting the revised estimated future cash flows at the loan's original effective interest rate.

 

A sensitivity analyses was done on the two main assumptions used to calculate the recoverable amount and therefore the impairments required:

 

• If the value of the collateral increased or decreased by 10%, impairments would decrease or increase by £1.6m (2016: £1.7m);

• If the time taken to sell the properties were increased or decreased by 12 months, impairments would increase or decrease by £0.8m (2016: £0.8m).

 

In determining whether an impairment loss should be recorded in the Statement of Comprehensive Income, the Group makes judgements as to whether there is any observable data indicating that there is a measurable decrease in the estimated future cash flows from a portfolio of loans or held-to-maturity investments with similar credit characteristics, before the decrease can be identified with an individual loan in that portfolio. This evidence may include observable data indicating that there has been an adverse change in the payment status of borrowers in a group, or national or local economic conditions that correlate with defaults on assets in the Group. Management uses estimates based on historical loss experience for assets with credit risk characteristics and objective evidence of impairment similar to those in the portfolio when scheduling its future cash flows. The methodology and assumptions used for estimating both the amount and timing of future cash flows are reviewed regularly to reduce any differences between loss estimates and actual loss experience.

 

In assessing collective impairment the Group uses historical trends of the probability of default, the timing of recoveries and the amount of loss incurred, adjusted for management's judgement as to whether current economic and credit conditions are such that the actual losses are likely to be significantly different to historic trends. Default rates, loss rates and the expected timing of future recoveries are regularly benchmarked against actual outcomes to ensure that they remain appropriate.

 

(b) Effective Interest Rate

Acquired loan books are initially recognised at fair value. Subsequently they are measured under the effective interest rate method, based on cash flow models which require significant judgement assumptions on prepayment rates, late payments, the probability and timing of defaults and the amount of incurred losses. Management review the expected cash flows against actual cash flows to ensure future assumptions on customer behaviour and future cash flows remain valid. If the estimates of future cash flows are revised, the adjustment to the carrying value of the loan book is recognised in the Statement of Comprehensive Income.

 

If the acquired loan books were modelled to repay 6 months earlier, it would increase interest income in 2017 by £0.3m (2016: £0.1m), while a 10% increase in credit losses would reduce interest income in 2017 by £0.2m (2016: £0.3m), both as a result of AG8 adjustments.

 

IAS 39 requires interest earned from lending to be measured under the effective interest rate method. The effective interest rate is the rate that exactly discounts estimated future cash receipts or payments through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset.

 

Management must therefore use judgement to estimate the expected life of each instrument. The accuracy of the effective interest rate would therefore be affected by unexpected market movements resulting in altered customer behaviour, inaccuracies in the models used compared to actual outcomes and incorrect assumptions.

 

If customer loans repaid 6 months earlier than anticipated, interest income would increase by £0.3m (2016: £0.3m).

 

(c) Investment property

The valuations that the Group places on its investment properties are subject to a degree of uncertainty and are calculated on the basis of assumptions in relation to prevailing market rents and effective yields. These assumptions may not prove to be accurate, particularly in periods of market volatility. The Group currently owns two investment properties, as outlined in Note 31.

 

The King Street property is currently fully tenanted, with the main lease ending in 2019 at which point the offices will be refurbished and re-let at prevailing market rents. The valuation model considers the net present value of net cash flows to be generated from the property, taking into account expected rental growth rate, void periods, occupancy rate, lease incentive costs such as rent-free periods and other costs not paid by tenants. The expected net cash flows are discounted using risk-adjusted discount rates. Among other factors, the discount rate estimation considers the quality of a building and its location, tenant quality and lease terms. Management judgement is required for significant unobservable inputs used in the discounted cash flow model, which have been assessed as follows:

 

• refurbishment period: 6 months

• void period after refurbishment: 6 months

• rent free period: 18 months

• estimated refurbishment costs: £2.4m

• yield rate: 4%

• expected rental income uplift following re-let: 15%


If the discount rate went up by 25bps, there would be a reduction in fair value of £4.8m, while a decrease in the discount rate would have a positive fair value impact through the Profit or Loss of £4.0m. If the expected rental uplift following the re-let of the building is reduced to 10%, there would be a reduction in fair value through the Profit or Loss of £2.4m, while an increase in the rental uplift to 20%, would have a positive fair value impact through the Profit or Loss of £2.2m.

 

The St Philips Place property was acquired on 24 November 2017. As the property was bought shortly before the year end, the cost of acquisition is considered to remain a good estimate of fair value.

 

(d) Acquisition accounting

The Group recognises identifiable assets and liabilities at their acquisition date fair values. The exercise of attributing a fair value to the balance sheet of the acquired entity requires the use of a number of assumptions and estimates, which are documented at the time of the acquisition. These fair value adjustments are determined from the estimated future cash flows generated by the assets.

 

Loans and advances to customers

The methodology of attributing a fair value to the loans and advances to customers involves discounting the estimated future cash flows, using a risk adjusted market rate discount factor. A fair value adjustment is then applied to the carrying value in the acquirers balance sheet.

 

Intangible assets

Identifying the separately identifiable intangible assets of an acquired company is subjective and based upon discussions with management and a review of relevant documentation. During the year, there were three separately identifiable intangible assets which met the criteria for separation from goodwill, these being Customer Relationships, Broker Relationships and Brand.

 

Customer Relationships are valued through the application of a discounted cash flow methodology to net anticipated renewal revenues. The valuation of Broker Relationships is derived from a costs avoided methodology, by reviewing costs incurred on non-broker platforms versus costs which are incurred in broker commission. The Brand is valued considering a market participant's view on the likely period over which it might be utilised, and its fair value was estimated using the relief from royalty methodology.

 

In calculating the fair value of the assets and liabilities acquired, management judgement is required as discussed above, in particular for the discount rate applied to the economic life of the intangibles assets of £2.3m. A 1% movement in the discount rate applied, would result in a £0.06m increase or decrease in the intangible recognised with an equal and opposite increase or decrease in goodwill on acquisition.

 

(e) Impairment review of interest in associate

The Group has an 18.6% interest in STB. This is currently recorded in the Group's balance sheet as an interest in associates and at 31 December 2017 was carried at £83.8m or the equivalent of £24.33 per share. At the year end the market price of STB was £17.97 per share. The Board have determined that the current carrying value remains appropriate after having carried out extensive analysis to be satisfied that the long term value in use does not suggest that this carrying value is impaired. These valuations included the Gordon's Growth model and Dividend Discount model. The resultant output from the models indicated valuations in a range that was in excess of £24 per share, but this will be ultimately dependent on the surplus capital within STB being deployed in the business over the long term.

 

Various judgements were made in the application of the models used. The following sensitivity analyses were also done on the assumptions used in the two main models used:

 

Gordon's Growth Model

·      1% change in return on equity would change the calculated valuation by £2.77 per share

·      1% change in cost of equity/discount factor would change the calculated valuation by £6.92 per share

·      0.5% change in GDP would change the calculated valuation by £1.54 per share

 

Dividend Discount Model

·      1% change in cost of equity/discount factor would change the calculated valuation by £3.38 per share

·      10% change in earnings/dividend growth would change the calculated valuation by £2.11 per share

 

Based on the current output of the valuation models, reviewing sensitivity analyses on assumptions applied in the models and taking into account the current market consensus on the shares, the Board is satisfied that the current carrying value remains appropriate.

 

There is a risk that the output of the value in use models could require an impairment charge to be recognised in the future.

 

If the Group was considered to no longer have significant influence over STB it would lead to the investment being accounted for as a financial asset at fair value. The value would then be marked to market with changes in the share price giving rise to gains or losses being recorded in Other Comprehensive Income or Profit or Loss - see Note 3.8(d) and Note 3.10(b).

 

4.2 Judgements

(a) Valuation of financial instruments

The Group measures the fair value of an instrument using quoted prices in an active market for that instrument. A market is regarded as active if quoted prices are readily and regularly available and represent actual and regularly occurring market transactions. If a market for a financial instrument is not active, the Group establishes fair value using a valuation technique. These include the use of recent arm's length transactions, reference to other instruments that are substantially the same for which market observable prices exist, net present value and discounted cash flow analysis. The objective of valuation techniques is to determine the fair value of the financial instrument at the reporting date as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. In the event that fair values of assets and liabilities cannot be reliably measured, they are carried at cost.

 

The Group measures fair value using the following fair value hierarchy that reflects the significance of the inputs used in making measurements:

 

• Level 1: Quoted prices in active markets for identical assets or liabilities.

• Level 2: Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices). This category includes instruments valued using: quoted market prices in active markets for similar instruments; quoted prices for identical or similar instruments in markets that are considered less than active; or other valuation techniques in which all significant inputs are directly or indirectly observable from market data.

• Level 3: Inputs that are unobservable. This category includes all instruments for which the valuation technique includes inputs not based on observable data and the unobservable inputs have a significant effect on the instrument's valuation. This category includes instruments that are valued based on quoted prices for similar instruments for which significant unobservable adjustments or assumptions are required to reflect differences between the instruments.

 

The consideration of factors such as the magnitude and frequency of trading activity, the availability of prices and the size of bid/offer spreads assists in the judgement as to whether a market is active. If in the opinion of management, a significant proportion of the instrument's carrying amount is driven by unobservable inputs, the instrument in its entirety is classified as valued using significant unobservable inputs. 'Unobservable' in this context means that there is little or no current market data available from which to determine the level at which an arm's length transaction would be likely to occur. It generally does not mean that there is no market data available at all upon which to base a determination of fair value (consensus pricing data may, for example, be used).

 

The tables below analyse financial instruments measured at fair value by the level in the fair value hierarchy into which the measurement is categorised:

 


Level 1

Level 2

Level 3

Total

At 31 December 2017

£000

£000

£000

£000

ASSETS





Derivative financial instruments

 -  

2,551

 -  

2,551

Financial investments

144

 -  

2,203

2,347


144

2,551

2,203

4,898

LIABILITIES





Derivative financial instruments

 -  

931

 -  

931


 -  

931

 -  

931

 


Level 1

Level 2

Level 3

Total

At 31 December 2016

£000

£000

£000

£000

ASSETS





Derivative financial instruments

 -  

1,516

 -  

1,516

Financial investments

133

 -  

2,012

2,145


133

1,516

2,012

3,661

LIABILITIES





Derivative financial instruments

 -  

227

 -  

227


 -  

227

 -  

227

 

There were no transfers between level 1 and level 2 during the year.








The following table reconciles the movement in level 3 financial instruments measured at fair value (financial investments) during the year:




2017

2016

Movement in level 3



£000

£000

At 1 January



2,012

2,548

Consideration received



 -  

494

Disposals



 -  

(1,310)

Movements recognised in Other Comprehensive Income



136

75

Movements recognised in the Income Statement



55

205

At 31 December



2,203

2,012

 

Visa Inc. investment

Arbuthnot Latham currently holds preference shares in Visa Inc., valued at £706k as at 31 December 2017. The valuation includes a 31 % haircut, comprising 25% due to a contingent liability disclosed in Visa Europe's accounts in relation to litigation and 6% based on a liquidity discount.

 

A 5% increase in valuation would lead to a 35k increase in the gain through Other Comprehensive Income. A 5% decrease would lead to a £35k decrease in the gain through Other Comprehensive Income.

 

Investment in overseas property company

For those financial investments measured at fair value, the Group uses proprietary valuation models which are developed from recognised valuation techniques. Some or all of the significant inputs into these models may not be observable in the market. Valuation models that employ significant unobservable inputs require a higher degree of management judgement and estimation in the determination of fair value.

 

The Group has established a valuation methodology for measuring level 3 financial investments which are categorised as available for sale. Unobservable inputs used include: yield of 4.60% (2016: 4.90%) and occupancy rates of 90.0% (2016: 95.3%). These inputs are taken from online real estate reports available from BNP Paribas. The inputs are stressed to ensure that the fair value is robust. Increases in the yield or decreases in annual rental value or occupancy rate would result in lower fair values (an increase in yield by 0.5% would lead to a decrease in fair value of £126k). Another indicator of appropriate fair value would be if a reasonable offer were to be made on the value of the property. Management analyse and investigate any significant movements in the unobservable inputs which impact the valuation of level 3 instruments.

 

 

The tables below analyse financial instruments not measured at fair value by the level in the fair value hierarchy:

 


Level 1

Level 2

Level 3

Total

At 31 December 2017

£000

£000

£000

£000

ASSETS





Cash and balances at central banks

 -  

313,101

 -  

313,101

Loans and advances to banks

 -  

70,679

 -  

70,679

Debt securities held-to-maturity

 -  

227,019

 -  

227,019

Loans and advances to customers

 -  

 -  

1,049,269

1,049,269

Other assets

 -  

 -  

11,964

11,964


 -  

610,799

1,061,233

1,672,032

LIABILITIES





Deposits from banks

 -  

195,097

 -  

195,097

Deposits from customers

 -  

1,390,781

 -  

1,390,781

Other liabilities

 -  

 -  

1,207

1,207

Debt securities in issue

 -  

 -  

13,104

13,104


 -  

1,585,878

14,311

1,600,189

 


Level 1

Level 2

Level 3

Total

At 31 December 2016

£000

£000

£000

£000

ASSETS





Cash and balances at central banks

 -  

195,752

 -  

195,752

Loans and advances to banks

 -  

36,951

 -  

36,951

Debt securities held-to-maturity

 -  

107,300

 -  

107,300

Loans and advances to customers

 -  

42,691

716,108

758,799

Other assets

 -  

 -  

1,197

1,197


 -  

382,694

717,305

1,099,999

LIABILITIES





Deposits from banks

 -  

3,200

 -  

3,200

Deposits from customers

 -  

997,649

 -  

997,649

Other liabilities

 -  

 -  

1,812

1,812

Debt securities in issue

 -  

 -  

12,621

12,621


 -  

1,000,849

14,433

1,015,282

 

(b) Associate accounting

An associate is an entity over which the investor has significant influence and that is neither a subsidiary nor an interest in a joint venture. It is presumed that the investor does not have significant influence if it has less than 20% of the voting power of the investee, unless proven otherwise. ABG holds 18.64% of the voting power of STB, but has retained Board representation (two directors out of eight) and as a result the Board believes ABG has significant influence. The interest in STB is therefore accounted for as an associate.

 

If significant influence is lost, the shareholding will be accounted for as an available-for-sale financial investment.

 

5.  Maturity analysis of assets and liabilities








The table below shows the maturity analysis of assets and liabilities of the Group as at 31 December 2017:


Due within one year

Due after more than one year

Total

At 31 December 2017

£000

£000

£000

ASSETS




Cash

313,101

313,101

Loans and advances to banks

70,679

70,679

Debt securities held-to-maturity

122,236

104,783

227,019

Assets classified as held for sale

2,915

2,915

Derivative financial instruments

950

1,601

2,551

Loans and advances to customers

224,954

824,315

1,049,269

Other assets

16,188

4,436

20,624

Financial investments

128

2,219

2,347

Deferred tax asset

1,527

1,527

Interests in associates

83,804

83,804

Intangible assets

15,995

15,995

Property, plant and equipment

3,962

3,962

Investment property

59,439

59,439


751,151

1,102,081

1,853,232

LIABILITIES




Deposits from banks

195,097

195,097

Derivative financial instruments

931

931

Deposits from customers

1,333,423

57,358

1,390,781

Current tax liability

705

705

Other liabilities

16,239

16,239

Debt securities in issue

13,104

13,104


1,546,395

70,462

1,616,857

 

The table below shows the maturity analysis of assets and liabilities of the Group as at 31 December 2016:


Due within one year

Due after more than one year

Total

At 31 December 2016

£000

£000

£000

ASSETS




Cash

195,752

195,752

Loans and advances to banks

36,951

36,951

Debt securities held-to-maturity

85,782

21,518

107,300

Derivative financial instruments

85

1,431

1,516

Loans and advances to customers

337,376

421,423

758,799

Other assets

7,708

4,231

11,939

Financial investments

2,145

2,145

Deferred tax asset

1,665

1,665

Investment in associate

900

81,674

82,574

Intangible assets

8,522

8,522

Property, plant and equipment

4,782

4,782

Investment property

53,339

53,339


664,554

600,730

1,265,284

LIABILITIES




Deposits from banks

3,200

3,200

Derivative financial instruments

227

227

Deposits from customers

906,083

91,566

997,649

Current tax liability

147

147

Other liabilities

17,082

17,082

Debt securities in issue

12,621

12,621


926,739

104,187

1,030,926

 

The table below shows the maturity analysis of assets and liabilities of the Company as at 31 December 2017:


Due within one year

Due after more than one year

Total

At 31 December 2017

£000

£000

£000

ASSETS




Loans and advances to banks

6

6

Loans and advances to banks - due from subsidiary undertakings

36,097

36,097

Financial investments

128

12

140

Deferred tax asset

641

641

Property, plant and equipment

157

157

Other assets

199

199

Interests in associates

5,056

5,056

Interests in subsidiaries


97,802

97,802


36,430

103,668

140,098

LIABILITIES




Current tax liability

152

152

Other liabilities

3,141

3,141

Debt securities in issue

13,104

13,104


3,293

13,104

16,397





The table below shows the maturity analysis of assets and liabilities of the Company as at 31 December 2016:


Due within one year

Due after more than one year

Total

At 31 December 2016

£000

£000

£000

ASSETS




Loans and advances to banks

6

6

Loans and advances to banks - due from subsidiary undertakings

89,066

89,066

Financial investments

121

121

Deferred tax asset

397

397

Property, plant and equipment

183

183

Other assets

254

633

887

Interests in associates

5,056

5,056

Interests in subsidiaries

54,602

54,602


89,326

60,992

150,318

LIABILITIES




Other liabilities

4,808

4,808

Debt securities in issue

12,621

12,621


4,808

12,621

17,429

 

 

6.  Financial risk management

Strategy

By their nature, the Group's activities are principally related to the use of financial instruments. The Directors and senior management of the Group have formally adopted a Group Risk and Controls Policy which sets out the Board's attitude to risk and internal controls.  Key risks identified by the Directors are formally reviewed and assessed at least once a year by the Board, in addition to which key business risks are identified, evaluated and managed by operating management on an ongoing basis by means of procedures such as physical controls, credit and other authorisation limits and segregation of duties. The Board also receives regular reports on any risk matters that need to be brought to its attention. Significant risks identified in connection with the development of new activities are subject to consideration by the Board. There are budgeting procedures in place and reports are presented regularly to the Board detailing the results of each principal business unit, variances against budget and prior year, and other performance data.

 

The principal non-operational risks inherent in the Group's business are credit, market and liquidity risks.

 

(a) Credit risk

The Company and Group take on exposure to credit risk, which is the risk that a counterparty will be unable to pay amounts in full when due. Impairment provisions are provided for losses that have been incurred at the balance sheet date. Significant changes in the economy, or in the health of a particular industry segment that represents a concentration in the Company and Group's portfolio, could result in losses that are different from those provided for at the balance sheet date. Credit risk is managed through the Credit Committee of the banking subsidiary.

 

The Company and Group structure the levels of credit risk it undertakes by placing limits on the amount of risk accepted in relation to products, and one borrower or groups of borrowers. Such risks are monitored on a revolving basis and subject to an annual or more frequent review. The limits are approved periodically by the Board of Directors and actual exposures against limits are monitored daily.

 

Exposure to credit risk is managed through regular analysis of the ability of borrowers and potential borrowers to meet interest and capital repayment obligations and by changing these lending limits where appropriate. Exposure to credit risk is also managed in part by obtaining collateral, and corporate and personal guarantees.

 

The Group employs a range of policies and practices to mitigate credit risk.  The most traditional of these is the taking of collateral to secure advances, which is common practice.  The principal collateral types for loans and advances include, but are not limited to:

 

•  Charges over residential and commercial properties;

•  Charges over business assets such as premises, inventory and accounts receivable;

•  Charges over financial instruments such as debt securities and equities;

•  Charges over other chattels; and

•  Personal guarantees

 

Upon initial recognition of loans and advances, the fair value of collateral is based on valuation techniques commonly used for the corresponding assets.  In order to minimise any potential credit loss the Group will seek additional collateral from the counterparty as soon as impairment indicators are noticed for the relevant individual loans and advances. Repossessed collateral, not readily convertible into cash, is made available for sale in an orderly fashion, with the proceeds used to reduce or repay the outstanding indebtedness, or held as inventory where the Group intends to develop and sell in the future. Where excess funds are available after the debt has been repaid, they are available either for other secured lenders with lower priority or are returned to the customer.

 

Commitments to extend credit represent unused portions of authorisations to extend credit in the form of loans, guarantees or letters of credit. With respect to credit risk on commitments to extend credit, the Group is potentially exposed to loss in an amount equal to the total unused commitments. However, the likely amount of loss is less than the total unused commitments, as most commitments to extend credit are contingent upon customers maintaining specific credit standards.

 

The Group's maximum exposure to credit risk before collateral held or other credit enhancements is as follows:

 


2017

2016


£000

£000

Credit risk exposures relating to on-balance sheet assets are as follows:



Cash and balances at central banks

313,101

195,752

Loans and advances to banks

70,679

36,951

Debt securities held-to-maturity

227,019

107,300

Derivative financial instruments

2,551

1,516

Loans and advances to customers

1,049,269

758,799

Other assets

11,964

1,197

Financial investments

2,347

2,145




Credit risk exposures relating to off-balance sheet assets are as follows:



Guarantees

2,976

274

Loan commitments and other credit related liabilities

131,963

54,934

At 31 December

1,811,869

1,158,868

 

The Company's maximum exposure to credit risk before collateral held or other credit enhancements is as follows:



2017

2016


£000

£000

Credit risk exposures relating to on-balance sheet assets are as follows:



Loans and advances to banks

36,103

89,072

Financial investments

140

121

Other assets

162

791

At 31 December

36,405

89,984

 

The above tables represent the maximum credit risk exposure (net of impairment) to the Group and Company at 31 December 2017 and 2016 without taking account of any collateral held or other credit enhancements attached. For on-balance-sheet assets, the exposures are based on the net carrying amounts as reported in the Statement of Financial Position.

 

The table below represents an analysis of the loan to values of the exposures secured by property for the Group:








31 December 2017


31 December 2016


Loan Balance

Collateral


Loan Balance

Collateral

Loan to value

£000

£000


£000

£000







Less than 60%

455,398

1,108,363


438,076

1,219,532

60% - 80%

343,864

524,256


167,765

253,550

80% - 100%

69,826

80,998


76,289

88,598

Greater than 100%*

45,242

34,354


32,022

21,387

Total

914,330

1,747,971


714,152

1,583,067

 

*In addition to property, other security is taken, including charges over Arbuthnot Latham Investment Management portfolios, other chattels and personal guarantees.

 

Property valuations used are those from the loan origination date or updated 3rd party valuations where applicable.

 

The table below represents an analysis of loan commitments compared to the values of properties for the Group:








31 December 2017


31 December 2016


Committed

Collateral


Committed

Collateral

Loan commitments and other credit related liabilities

£000

£000


£000

£000







Less than 60%

62,775

274,643


26,988

73,659

60% - 80%

26,340

38,796


23,940

42,102

80% - 100%

29,579

32,737


 -  

 -  

Greater than 100%

5,090

4,104


 -  

 -  

Total

123,784

350,280


50,928

115,761

 

Renegotiated loans and forbearance

The contractual terms of a loan may be modified due to factors that are not related to the current or potential credit deterioration of the customer (changing market conditions, customer retention, etc.). In such cases, the modified loan may be derecognised and the renegotiated loan recognised as a new loan at fair value.

 

As at 31 December 2017, loans for which forbearance measures were in place totalled 0.13% (2016: 0.50%) of total loans to customers for the Group. These are set out in the following table:

 


2017


2016


Number

Loan Balance


Number

Loan Balance



£000



£000

Transfer to interest only

 -  

 -  


3

115

Interest temporarily not being charged

 -  

 -  


1

3,607

Long term extension

1

84


 -  

 -  

Payment holiday

5

1,237


1

78

Total forbearance

6

1,321


5

3,800

 

Concentration risk

The Group is well diversified in the UK, being exposed to retail banking, private banking and commercial banking. Management assesses the potential concentration risk from a number of areas including:

•  Product concentration;

•  Geographical concentration; and

•  High value residential properties.

 

Due to the well diversified nature of the Group and the significant collateral held against the loan book, the Directors do not consider there to be a potential material exposure arising from concentration risk.

 

The tables below show the concentration in the loan book based on the most significant type of collateral held for each loan. Where multiple types of collateral are held with no significant majority, the loan is shown within "mixed collateral".

 


Loans and advances to customers


Loan Commitments


2017

2016


2017

2016


£000

£000


£000

£000

Concentration by product






Cash collateralised

17,747

5,245


 -  

 -  

Commercial Lending

202,912

71,674


24,371

18,260

Asset finance

71,425

 -  


 -  

 -  

Residential mortgages

633,003

626,751


99,413

32,668

Investment portfolio secured

49,667

34,014


4,222

4,006

Non-Performing

 -  

15,953


 -  

 -  

Other Collateral

70,954

2,103


3,957

 -  

Unsecured

3,561

3,059


 -  

 -  

At 31 December

1,049,269

758,799


131,963

54,934







Concentration by location






   East Anglia

18,438

2,714


 -  

 -  

   East Midlands

 -  

7,245


 -  

 -  

   London

407,805

422,901


56,777

27,161

   Midlands

42,484

3,800


800

 -  

   North East

25,741

2,100


 -  

 -  

   North West

44,630

14,288


825

4,590

   Northern Ireland

2,903

 -  


 -  

 -  

   Scotland

10,988

13,410


 -  

 -  

   South East

203,305

117,805


23,462

12,560

   South West

116,692

89,018


15,236

3,468

   Wales

8,002

7,460


 -  

 -  

   West Midlands

 -  

14,436


 -  

108

   Yorkshire & Humber

 -  

6,398


 -  

 -  

   Overseas

21,556

20,136


 -  

 -  

   Other

146,725

37,088


34,863

7,047

At 31 December

1,049,269

758,799


131,963

54,934

 

Commercial lending and Mixed collateral reflect the growth in the Commercial bank. All non-property loans are disclosed in "Other" in the concentration by location table above.

 

 (b) Operational risk (unaudited)

The Group's objective is to manage operational risk so as to balance the avoidance of financial losses and damage to the Group's reputation with overall cost effectiveness and to avoid control procedures that restrict initiatives and creativity. Operational risk arises from all of the Group's operations.

 

The primary responsibility for the development and implementation of controls to address operational risk is assigned to the senior management within each subsidiary. 

 

Compliance with Group standards is supported by a programme of periodic reviews undertaken by Internal Audit. The results of the Internal Audit reviews are discussed with senior management, with summaries submitted to the Arbuthnot Banking Group Audit Committee.

 

 (c) Market risk

 

Price risk

The Company and Group are exposed to price risk from equity investments and derivatives held by the Group and classified in the Consolidated Statement of Financial Position either as available-for-sale or at fair value through the profit and loss.  The Group is not exposed to commodity price risk.

 

Based upon the financial investment exposure in Note 25, a stress test scenario of a 10% (2016: 10%) decline in market prices, with all other things being equal, would result in a £32,000 (2016: £11,000) decrease in the Group's income and a decrease of £231,000 (2016: £172,000) in the Group's equity. The Group considers a 10% stress test scenario appropriate after taking the current values and historic data into account.

 

Based upon the financial investment exposure given in Note 25, a stress test scenario of a 10% (2016: 10%) decline in market prices, with all other things being equal, would result in a £13,000 (2016: £11,000) decrease in the Company's income and a decrease of £11,000 (2016: £10,000) in the Company's equity.

 

Currency risk

The Company and Group take on exposure to the effects of fluctuations in the prevailing foreign currency exchange rates on its financial position and cash flows. This is managed through the Group entering into forward foreign exchange contracts. The Board sets limits on the level of exposure for both overnight and intra-day positions, which are monitored daily. The table below summarises the Group's exposure to foreign currency exchange rate risk at 31 December 2017. Included in the table below are the Group's assets and liabilities at carrying amounts, categorised by currency.

 


GBP (£)

USD ($)

Euro (€)

Other

Total

At 31 December 2017

£000

£000

£000

£000

£000

ASSETS






Cash and balances at central banks

313,101

 -  

 -  

 -  

313,101

Loans and advances to banks

6,027

40,870

16,944

6,838

70,679

Debt securities held-to-maturity

170,723

56,296

 -  

 -  

227,019

Derivative financial instruments

2,525

1

25

 -  

2,551

Loans and advances to customers

997,025

14,912

37,332

 -  

1,049,269

Other assets

11,964

 -  

 -  

 -  

11,964

Financial investments

140

706

1,501

 -  

2,347


1,501,505

112,785

55,802

6,838

1,676,930

LIABILITIES






Deposits from banks

195,067

 -  

 -  

30

195,097

Derivative financial instruments

914

1

 -  

16

931

Deposits from customers

1,228,878

112,731

42,733

6,439

1,390,781

Other liabilities

1,207

 -  

 -  

 -  

1,207

Debt securities in issue

 -  

 -  

13,104

 -  

13,104


1,426,066

112,732

55,837

6,485

1,601,120

Net on-balance sheet position

75,439

53

(35)

353

75,810

Credit commitments

131,963

 -  

 -  

 -  

131,963

 

The table below summarises the Group's exposure to foreign currency exchange risk at 31 December 2016:








GBP (£)

USD ($)

Euro (€)

Other

Total

At 31 December 2016

£000

£000

£000

£000

£000

ASSETS






Cash and balances at central banks

195,669

35

40

8

195,752

Loans and advances to banks

2,197

24,494

5,062

5,198

36,951

Debt securities held-to-maturity

94,299

13,001

 -  

 -  

107,300

Derivative financial instruments

1,516

 -  

 -  

 -  

1,516

Loans and advances to customers

701,165

21,927

35,707

 -  

758,799

Other assets

1,197

 -  

 -  

 -  

1,197

Financial investments

120

569

1,456

 -  

2,145


996,163

60,026

42,265

5,206

1,103,660

LIABILITIES






Deposits from banks

3,198

 -  

 -  

2

3,200

Derivative financial instruments

227

 -  

 -  

 -  

227

Deposits from customers

903,687

59,916

28,535

5,511

997,649

Other liabilities

1,812

 -  

 -  

 -  

1,812

Debt securities in issue

 -  

 -  

12,621

 -  

12,621


908,924

59,916

41,156

5,513

1,015,509

Net on-balance sheet position

87,239

110

1,109

(307)

88,151

Credit commitments

54,934

 -  

 -  

 -  

54,934

 

A 10% strengthening of the pound against the US dollar would lead to a £5,000 increase (2016: £3,000 increase) in Group profits and equity, while a 10% weakening of the pound against the US dollar would lead to the same decrease in Group profits and equity. Similarly, a 10% strengthening of the pound against the Euro would lead to a £4,000 increase (2016: £6,000 increase) in Group profits and equity, while a 10% weakening of the pound against the Euro would lead to the same increase in Group profits and equity. The above results are after taking into account the effect of derivative financial instruments (see Note 21), which cover most of the net exposure in each currency.

 

The table below summarises the Company's exposure to foreign currency exchange rate risk at 31 December 2017:







GBP (£)

Euro (€)

Total

At 31 December 2017

£000

£000

£000

ASSETS




Loans and advances to banks

22,734

13,369

36,103

Financial investments

140

 -  

140

Other assets

162

 -  

162


23,036

13,369

36,405

LIABILITIES




Other liabilities

1,840

 -  

1,840

Debt securities in issue

 -  

13,104

13,104


1,840

13,104

14,944

Net on-balance sheet position

21,196

265

21,461

 

The table below summarises the Company's exposure to foreign currency exchange rate risk at 31 December 2016:







GBP (£)

Euro (€)

Total

At 31 December 2016

£000

£000

£000

ASSETS




Loans and advances to banks

76,037

13,035

89,072

Financial investments

121

 -  

121

Other assets

791

 -  

791


76,949

13,035

89,984

LIABILITIES




Other liabilities

3,624

 -  

3,624

Debt securities in issue

 -  

12,621

12,621


3,624

12,621

16,245

Net on-balance sheet position

73,325

414

73,739

 

A 10% strengthening of the pound against the Euro would lead to £3,000 (2016: £41,000) decrease in the Company profits and equity, conversely a 10% weakening of the pound against the Euro would lead to the same increase in the Company profits and equity.

 

Interest rate risk

Interest rate risk is the potential adverse impact on the Company and Group's future cash flows from changes in interest rates, and arises from the differing interest rate risk characteristics of the Company and Group's assets and liabilities. In particular, fixed rate savings and borrowing products expose the Group to the risk that a change in interest rates could cause either a reduction in interest income or an increase in interest expense relative to variable rate interest flows. The Group seeks to "match" interest rate risk on either side of the Statement of Financial Position. However, this is not a perfect match and interest rate risk is present in: Money market transactions of a fixed rate nature, fixed rate loans and fixed rate savings accounts. There is interest rate mismatch in Arbuthnot Latham. Interest rate risk is measured throughout the maturity bandings of the book on a parallel shift scenario for a 200 basis points movement.  Interest rate risk is managed to limit value at risk to be less than £1m. The current position of the balance sheet is such that it results in a favourable impact on the economic value of equity of £0.8m (2016: £2.0m) for a positive 200bps shift and an adverse impact of £0.8m (2016: £0.5m) for a negative 200bps movement capped at the Bank of England base rate (50bps). The Company has no fixed rate exposures, but an upward change of 50bps on variable rates would increase pre-tax profits and equity by £10,000 (2016: increase pre-tax profits and equity by £7,000).

 

The following tables summarise the re-pricing periods for the assets and liabilities in the Company and Group, including derivative financial instruments which are principally used to reduce exposure to interest rate risk. Items are allocated to time bands by reference to the earlier of the next contractual interest rate re-price and the maturity date.

 

Group

Within 3 months

More than 3 months but less than 6 months

More than 6 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

Non interest bearing

Total

As at 31 December 2017

£000

£000

£000

£000

£000

£000

£000

ASSETS








Cash and balances at central banks

313,101

 -  

 -  

 -  

 -  

 -  

313,101

Loans and advances to banks

61,211

579

8,889

 -  

 -  

 -  

70,679

Debt securities held-to-maturity

185,926

35,093

6,000

 -  

 -  

 -  

227,019

Derivative financial instruments

950

 -  

 -  

1,601

 -  

 -  

2,551

Loans and advances to customers

880,822

6,938

10,774

143,979

 -  

6,756

1,049,269

Other assets

 -  

 -  

 -  

 -  

 -  

188,266

188,266

Financial investments

 -  

 -  

 -  

 -  

 -  

2,347

2,347


1,442,010

42,610

25,663

145,580

 -  

197,369

1,853,232

LIABILITIES








Deposits from banks

195,097

 -  

 -  

 -  

 -  

 -  

195,097

Derivative financial instruments

931

 -  

 -  

 -  

 -  

 -  

931

Deposits from customers

1,061,442

162,503

109,478

57,358

 -  

 -  

1,390,781

Other liabilities

 -  

 -  

 -  

 -  

 -  

16,944

16,944

Debt securities in issue

13,104

 -  

 -  

 -  

 -  

 -  

13,104

Equity

 -  

 -  

 -  

 -  

 -  

236,375

236,375


1,270,574

162,503

109,478

57,358

 -  

253,319

1,853,232

Interest rate sensitivity gap

171,436

(119,893)

(83,815)

88,222

 -  

(55,950)










Cumulative gap

171,436

51,543

(32,272)

55,950

55,950

 -  


 

Group

Within 3 months

More than 3 months but less than 6 months

More than 6 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

Non interest bearing

Total

As at 31 December 2016

£000

£000

£000

£000

£000

£000

£000

ASSETS








Cash and balances at central banks

195,752

 -  

 -  

 -  

 -  

 -  

195,752

Loans and advances to banks

36,951

 -  

 -  

 -  

 -  

 -  

36,951

Debt securities held-to-maturity

78,994

6,813

21,493

 -  

 -  

 -  

107,300

Derivative financial instruments

85

 -  

 -  

1,431

 -  

 -  

1,516

Loans and advances to customers

624,468

120,311

8,755

5,265

 -  

 -  

758,799

Other assets

 -  

 -  

 -  

 -  

 -  

162,821

162,821

Financial investments

 -  

 -  

 -  

 -  

 -  

2,145

2,145


936,250

127,124

30,248

6,696

 -  

164,966

1,265,284

LIABILITIES








Deposits from banks

3,200

 -  

 -  

 -  

 -  

 -  

3,200

Derivative financial instruments

227

 -  

 -  

 -  

 -  

 -  

227

Deposits from customers

813,047

61,519

84,480

38,603

 -  

 -  

997,649

Other liabilities

 -  

 -  

 -  

 -  

 -  

17,229

17,229

Debt securities in issue

12,621

 -  

 -  

 -  

 -  

 -  

12,621

Equity

 -  

 -  

 -  

 -  

 -  

234,358

234,358


829,095

61,519

84,480

38,603

 -  

251,587

1,265,284

Impact of derivative instruments

3,800

(3,800)

 -  

 -  

 -  

 -  


Interest rate sensitivity gap

110,955

61,805

(54,232)

(31,907)

 -  

(86,621)










Cumulative gap

110,955

172,760

118,528

86,621

86,621

 -  


 

Company

Within 3 months

More than 3 months but less than 6 months

More than 6 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

Non interest bearing

Total

As at 31 December 2017

£000

£000

£000

£000

£000

£000

£000

ASSETS








Loans and advances to banks

35,944

 -  

 -  

 -  

 -  

159

36,103

Other assets

 -  

 -  

 -  

 -  

 -  

103,855

103,855

Financial investments

 -  

 -  

 -  

 -  

 -  

140

140


35,944

 -  

 -  

 -  

 -  

104,154

140,098

LIABILITIES








Other liabilities

 -  

 -  

 -  

 -  

 -  

3,293

3,293

Debt securities in issue

13,104

 -  

 -  

 -  

 -  

 -  

13,104

Equity

 -  

 -  

 -  

 -  

 -  

123,701

123,701


13,104

 -  

 -  

 -  

 -  

126,994

140,098

Interest rate sensitivity gap

22,840

 -  

 -  

 -  

 -  

(22,840)










Cumulative gap

22,840

22,840

22,840

22,840

22,840

 -  










Company

Within 3 months

More than 3 months but less than 6 months

More than 6 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

Non interest bearing

Total

As at 31 December 2016

£000

£000

£000

£000

£000

£000

£000

ASSETS








Loans and advances to banks

88,914

 -  

 -  

 -  

 -  

158

89,072

Other assets

 -  

 -  

 -  

 -  

 -  

61,125

61,125

Financial investments

 -  

 -  

 -  

 -  

 -  

121

121


88,914

 -  

 -  

 -  

 -  

61,404

150,318

LIABILITIES








Other liabilities

 -  

 -  

 -  

 -  

 -  

4,808

4,808

Debt securities in issue

12,621

 -  

 -  

 -  

 -  

 -  

12,621

Equity

 -  

 -  

 -  

 -  

 -  

132,889

132,889


12,621

 -  

 -  

 -  

 -  

137,697

150,318

Interest rate sensitivity gap

76,293

 -  

 -  

 -  

 -  

(76,293)










Cumulative gap

76,293

76,293

76,293

76,293

76,293

 -  


 

(d) Liquidity risk

Liquidity risk is the risk that the Group will not be able to meet its obligations associated with its financial liabilities that are settled by delivering cash or another financial asset.

 

The Group's approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Group's reputation. The liquidity requirements of the Group are met through withdrawing funds from its Bank of England Reserve Account to cover any short-term fluctuations and longer term funding to address any structural liquidity requirements.

 

The Group has formal governance structures in place to manage and mitigate liquidity risk on a day to day basis. The Board of AL sets and approves the liquidity risk management strategy. The Assets and Liabilities Committee ("ALCO"), comprising senior executives of the Group, monitors liquidity risk. Key liquidity risk management information is reported by the finance teams and monitored by the Chief Executive Officer and Finance Director on a daily basis. The ALCO meets monthly to review liquidity risk against set thresholds and risk indicators including early warning indicators, liquidity risk tolerance levels and Individual Liquidity Adequacy Assessment Process ("ILAAP") metrics.

 

The PRA requires the Board to ensure that the Group has adequate levels of liquidity resources and a prudent funding profile, and that it comprehensively manages and controls liquidity and funding risks. The Group maintains deposits placed at the Bank of England, and  highly liquid unencumbered assets that can be called upon to create sufficient liquidity to meet liabilities on demand, particularly in a period of liquidity stress.

 

Arbuthnot Latham & Co., Limited ("AL") has a Board approved ILAAP, and maintains liquidity buffers in excess of the minimum requirements. The ILAAP is embedded in the risk management framework of the Group and is subject to ongoing updates and revisions when necessary. At a minimum, the ILAAP is undated annually. The Liquidity Coverage Ratio ("LCR") regime has applied to the Group from 1 October 2015, requiring management of net 30 day cash outflows as a proportion of high quality liquid assets. The actual LCR has significantly exceeded the regulatory minimum throughout the year.

 

The Group is exposed to daily calls on its available cash resources from current accounts, maturing deposits and loan draw-downs. The Group maintains significant cash resources to meet all of these needs as they fall due. The matching and controlled mismatching of the maturities and interest rates of assets and liabilities is fundamental to the management of the Group. It is unusual for banks to be completely matched, as transacted business is often of uncertain term and of different types.

 

The maturities of assets and liabilities and the ability to replace, at an acceptable cost, interest bearing liabilities as they mature are important factors in assessing the liquidity of the Group and its exposure to changes in interest rates.

 

The tables below show the undiscounted contractual cash flows of the Group's financial liabilities and assets as at 31 December 2017:









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2017

£000

£000

£000

£000

£000

£000

Financial liability by type







Non-derivative liabilities







Deposits from banks

195,097

(195,097)

(195,097)

 -  

 -  

 -  

Deposits from customers

1,390,781

(1,395,770)

(1,040,893)

(293,425)

(61,452)

 -  

Other liabilities

1,207

(1,207)

(1,207)

 -  

 -  

 -  

Debt securities in issue

13,104

(19,381)

(87)

(262)

(1,395)

(17,637)

Issued financial guarantee contracts

 -  

(2,976)

(2,976)

 -  

 -  

 -  

Unrecognised loan commitments

 -  

(131,963)

(131,963)

 -  

 -  

 -  


1,600,189

(1,746,394)

(1,372,223)

(293,687)

(62,847)

(17,637)








Derivative liabilities







Risk management:

931






 - Outflows

 -  

(931)

(931)

 -  

 -  

 -  


931

(931)

(931)

 -  

 -  

 -  









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2017

£000

£000

£000

£000

£000

£000

Financial asset by type







Non-derivative assets







Cash and balances at central banks

313,101

313,101

313,101

 -  

 -  

 -  

Loans and advances to banks

70,679

70,679

61,211

579

8,889

 -  

Debt securities held-to-maturity

227,019

227,166

22,886

101,277

103,003

 -  

Loans and advances to customers

1,049,269

1,187,665

126,689

121,493

800,091

139,392

Other assets

11,964

11,964

11,964

 -  

 -  

 -  

Financial investments

2,347

2,347

2,335

 -  

12

 -  


1,674,379

1,812,922

538,186

223,349

911,995

139,392








Derivative assets







Risk management:

2,551






 - Inflows

 -  

2,551

 -  

 -  

 -  

2,551


2,551

2,551

 -  

 -  

 -  

2,551

 

The tables below show the undiscounted contractual cash flows of the Group's financial liabilities and assets as at 31 December 2016:









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2016

£000

£000

£000

£000

£000

£000

Financial liability by type







Non-derivative liabilities







Deposits from banks

3,200

(3,200)

(3,200)

 -  

 -  

 -  

Deposits from customers

997,649

(1,000,384)

(716,285)

(243,247)

(40,852)

 -  

Other liabilities

1,812

(1,812)

(223)

 -  

 -  

(1,589)

Debt securities in issue

12,621

(14,345)

(86)

(259)

(1,379)

(12,621)

Issued financial guarantee contracts

 -  

(274)

(274)

 -  

 -  

 -  

Unrecognised loan commitments

 -  

(54,934)

(54,934)

 -  

 -  

 -  


1,015,282

(1,074,949)

(775,002)

(243,506)

(42,231)

(14,210)








Derivative liabilities







Risk management:

227






 - Outflows

 -  

(227)

(227)

 -  

 -  

 -  


227

(227)

(227)

 -  

 -  

 -  









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2016

£000

£000

£000

£000

£000

£000

Financial asset by type







Non-derivative assets







Cash and balances at central banks

195,752

195,752

195,752

 -  

 -  

 -  

Loans and advances to banks

36,951

36,951

36,951

 -  

 -  

 -  

Debt securities held-to-maturity

107,300

130,360

70,082

41,334

18,944

 -  

Loans and advances to customers

758,799

841,283

218,427

130,870

447,253

44,733

Other assets

1,197

1,197

1,197

 -  

 -  

 -  

Financial investments

2,145

2,145

2,025

 -  

120

 -  


1,102,144

1,207,688

524,434

172,204

466,317

44,733








Derivative assets







Risk management:

1,516






 - Inflows

 -  

1,516

85

 -  

 -  

1,431

 - Outflows

1,516

 -  

 -  

 -  

 -  

 -  


3,032

1,516

85

 -  

 -  

1,431

 

The table below sets out the components of the Group's liquidity reserves:











31 December 2017

31 December 2016




Amount

Fair value

Amount

Fair value

Liquidity reserves



£000

£000

£000

£000

Cash and balances at central banks



 313,101

 313,101

 195,752

 195,752

Loans and advances to banks



 70,679

 70,679

 36,951

 36,951

Debt securities held-to-maturity



 227,019

 227,951

 107,300

 108,757

Undrawn credit lines



 10,000

 10,000

 12,500

 12,500




620,799

621,731

352,503

353,960

 

Assets pledged as collateral or encumbered

The total financial assets recognised in the statement of financial position that had been pledged as collateral for liabilities at 31 December 2017 were £208.7m (2016: £112.0m).

 

Financial assets are pledged as collateral as part of sales and repurchases, securities borrowing and securitisation transactions under terms that are usual and customary for such activities. In addition, as part of these transactions, the Group has received collateral that it is permitted to sell or repledge in the absence of default.

 

The table below analyses the contractual cash flows of the Company's financial liabilities and assets as at 31 December 2017:


Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2017

£000

£000

£000

£000

£000

£000

Financial liability by type







Non-derivative liabilities







Other liabilities

1,840

(1,840)

(251)

 -  

 -  

(1,589)

Issued financial guarantee contracts

13,104

(19,381)

(87)

(262)

(1,395)

(17,637)


14,944

(21,221)

(338)

(262)

(1,395)

(19,226)









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2017

£000

£000

£000

£000

£000

£000

Financial asset by type







Non-derivative assets







Loans and advances to banks

36,103

36,103

36,103

 -  

 -  

 -  

Financial investments

140

140

128

 -  

12

 -  

Other assets

162

162

162

 -  

 -  

 -  


36,405

36,405

36,393

 -  

12

 -  

 

The table below analyses the contractual cash flows of the Company's financial liabilities and assets as at 31 December 2016:









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2016

£000

£000

£000

£000

£000

£000

Financial liability by type







Non-derivative liabilities







Other liabilities

3,624

(3,624)

(2,035)

 -  

 -  

(1,589)

Debt securities in issue

12,621

(14,345)

(86)

(259)

(1,379)

(12,621)


16,245

(17,969)

(2,121)

(259)

(1,379)

(14,210)









Carrying amount

Gross nominal inflow/ (outflow)

Not more than 3 months

More than 3 months but less than 1 year

More than 1 year but less than 5 years

More than 5 years

At 31 December 2016

£000

£000

£000

£000

£000

£000

Financial asset by type







Non-derivative assets







Loans and advances to banks

89,072

89,072

89,072

 -  

 -  

 -  

Financial investments

121

121

 -  

 -  

121

 -  

Other assets

791

791

791

 -  

 -  

 -  


89,984

89,984

89,863

 -  

121

 -  

 

The maturities of assets and liabilities and the ability to replace, at an acceptable cost, interest-bearing liabilities as they mature

are important factors in assessing the liquidity of the Group and its exposure to changes in interest rates and exchange rates.

 

Fiduciary activities

The Group provides investment management and advisory services to third parties, which involve the Group making allocation and purchase and sale decisions in relation to a wide range of financial instruments. Those assets that are held in a fiduciary capacity are not included in these financial statements. These services give rise to the risk that the Group may be accused of maladministration or underperformance. At the balance sheet date, the Group had investment management accounts amounting to approximately £1,044m (2016: £920m). Additionally, the Group provides investment advisory services.

 

(e) Financial assets and liabilities




















The tables below set out the Group's financial assets and financial liabilities into their respective classifications:














Fair value through profit or loss

Held-to-maturity

Loans and receivables

Available-for-sale

Liabilities at amortised cost

Total carrying amount

Fair value

At 31 December 2017



£000

£000

£000

£000

£000

£000

£000











ASSETS










Cash and balances at central banks



 -  

 -  

313,101

 -  

 -  

313,101

313,101

Loans and advances to banks



 -  

 -  

70,679

 -  

 -  

70,679

70,679

Debt securities held-to-maturity



 -  

227,019

 -  

 -  

 -  

227,019

227,951

Derivative financial instruments



2,551

 -  

 -  

 -  

 -  

2,551

2,551

Loans and advances to customers



 -  

 -  

1,049,269

 -  

 -  

1,049,269

1,022,816

Other assets



 -  

 -  

11,964

 -  

 -  

11,964

11,964

Financial investments



 -  

 -  

 -  

2,347

 -  

2,347

2,347




2,551

227,019

1,445,013

2,347

 -  

1,676,930

1,651,409











LIABILITIES










Deposits from banks



 -  

 -  

 -  

 -  

195,097

195,097

195,097

Derivative financial instruments



931

 -  

 -  

 -  

 -  

931

931

Deposits from customers



 -  

 -  

 -  

 -  

1,390,781

1,390,781

1,390,781

Other liabilities



 -  

 -  

1,207

 -  

 -  

1,207

1,207

Debt securities in issue



 -  

 -  

 -  

 -  

13,104

13,104

13,104




931

 -  

1,207

 -  

1,598,982

1,601,120

1,601,120














Fair value through profit or loss

Held-to-maturity

Loans and receivables

Available-for-sale

Liabilities at amortised cost

Total carrying amount

Fair value

At 31 December 2016



£000

£000

£000

£000

£000

£000

£000











ASSETS










Cash and balances at central banks



 -  

 -  

195,752

 -  

 -  

195,752

195,752

Loans and advances to banks



 -  

 -  

36,951

 -  

 -  

36,951

36,951

Debt securities held-to-maturity



 -  

107,300

 -  

 -  

 -  

107,300

108,757

Derivative financial instruments



1,516

 -  

 -  

 -  

 -  

1,516

1,516

Loans and advances to customers



 -  

 -  

758,799

 -  

 -  

758,799

742,894

Other assets



 -  

 -  

1,197

 -  

 -  

1,197

1,197

Financial investments



 -  

 -  

 -  

2,145

 -  

2,145

2,145




1,516

107,300

992,699

2,145

 -  

1,103,660

1,089,212











LIABILITIES










Deposits from banks



 -  

 -  

 -  

 -  

3,200

3,200

3,200

Derivative financial instruments



227

 -  

 -  

 -  

 -  

227

227

Deposits from customers



 -  

 -  

 -  

 -  

997,649

997,649

997,649

Other liabilities



 -  

 -  

1,812

 -  

 -  

1,812

1,812

Debt securities in issue



 -  

 -  

 -  

 -  

12,621

12,621

12,621




227

 -  

1,812

 -  

1,013,470

1,015,509

1,015,509

 

Cash, loans and advances to banks, debt securities held-to-maturity, deposits from banks and deposits from customers are classified as level 2 financial instruments, on the basis that they are liquid but not traded in an active market. Loans and advances to customers and debt securities in issue are classified as level 3 as there is no observable market data for these instruments.

 

7.  Capital management

The Group's capital management policy is focused on optimising shareholder value. There is a clear focus on delivering organic growth and ensuring capital resources are sufficient to support planned levels of growth. The Board regularly reviews the capital position.

 

The Group's lead regulator, the Prudential Regulatory Authority ("PRA"), sets and monitors capital requirements for the Group as a whole and for the individual banking operations. The lead regulator adopted the Basel III capital requirements with effect from 1 January 2014. As a result, the Group's regulatory capital requirements were based on Basel III in 2014.

 

In accordance with the EU's Capital Requirements Directive ("CRD") and the required parameters set out in the PRA Handbook (BIPRU 2.2), the Individual Capital Adequacy Assessment Process ("ICAAP") is embedded in the risk management framework of the Group and is subject to ongoing updates and revisions when necessary.  However, at a minimum, the ICAAP is updated annually as part of the business planning process. The ICAAP is a process that brings together the management framework (i.e. the policies, procedures, strategies, and systems that the Group has implemented to identify, manage and mitigate its risks) and the financial disciplines of business planning and capital management.  The Group's regulated entities are also the principal trading subsidiaries as detailed in Note 43.

 

Not all material risks can be mitigated by capital, but where capital is appropriate the Board has adopted a "Pillar I plus" approach to determine the level of capital the Group needs to hold. This method takes the Pillar I capital formula calculations (standardised approach for credit, market and operational risk) as a starting point, and then considers whether each of the calculations delivers a sufficient capital sum adequately to cover management's anticipated risks. Where the Board considered that the Pillar I calculations did not reflect the risk, an additional capital add-on in Pillar II is applied, as per the Individual Capital Guidance ("ICG") issued by the PRA.

 

The Group's regulatory capital is divided into two tiers:

• Tier 1 comprises mainly shareholders' funds and revaluation reserves, after deducting goodwill, other intangible assets and the deduction for a significant investment in a financial institution (STB). The portion of the investment representing up to 10% of ABG's Tier 1 is added back to capital resources and then risk weighted at 250%, while anything above this 10% is deducted.

• Lower Tier 2 comprises qualifying subordinated loan capital and collective provisions. Lower Tier 2 capital cannot exceed 50% of Tier 1 capital.

 

The following table shows the regulatory capital resources as managed by the Group:




2017

2016


£000

£000

Tier 1



Share capital

153

153

Retained earnings

237,171

235,567

Deduction for significant investment

(83,804)

(81,674)

Add back 10% of CET1 (risk weighted at 250%)

22,038

22,557

Capital redemption reserve

20

20

Treasury shares

(1,131)

(1,131)

Goodwill

(5,202)

(1,682)

Deductions for other intangibles

(10,793)

(6,840)

Available-for-sale reserve

162

(251)

Total tier 1 capital resources

158,614

166,719

Tier 2



Debt securities in issue

13,104

12,621

Total tier 2 capital resources

13,104

12,621




Total tier 1 & tier 2 capital resources

171,718

179,340

 

The ICAAP includes a summary of the capital required to mitigate the identified risks in its regulated entities and the amount of capital that the Group has available. The PRA sets ICG for each UK bank calibrated by reference to its Capital Resources Requirement, broadly equivalent to 8 percent of risk weighted assets and thus representing the capital required under Pillar I of the Basel III framework. The ICAAP is a key input into the PRA's ICG setting process, which addresses the requirements of Pillar II of the Basel III framework. The PRA's approach is to monitor the available capital resources in relation to the ICG requirement. Each entity maintains an extra internal buffer and capital ratios are reviewed on a monthly basis to ensure that external requirements are adhered to. All regulated entities have complied with all of the externally imposed capital requirements to which they are subject.

 

Pillar III complements the minimum capital requirements (Pillar I) and the supervisory review process (Pillar II). Its aim is to encourage market discipline by developing a set of disclosure requirements which will allow market participants to assess key pieces of information on a firm's capital, risk exposures and risk assessment processes. Our Pillar III disclosures for the year ended 31 December 2017 are published as a separate document on the Group website under Investor Relations (Announcements & Shareholder Info).

 

8.  Net interest income








2017

2016




£000

£000

Cash and balances at central banks



801

873

Loans and advances to banks



258

124

Debt securities held-to-maturity



1,353

844

Loans and advances to customers



45,015

36,230




47,427

38,071






Deposits from banks



(35)

(297)

Deposits from customers



(5,939)

(6,977)

Debt securities in issue



(360)

(352)

Interest expense



(6,334)

(7,626)






Net interest income



41,093

30,445






In 2017, the Group recognised £0.1m (2016: £0.3m) of additional interest income to reflect actual cash flows received on the aquired loan portfolios having been in excess of forecast cash flows.

 

 

9.  Fee and commission income




2017

2016


£000

£000

Banking commissions

2,263

1,947

Investment management fees and commissions

7,887

7,122

Wealth planning fees and commissions

2,593

2,156

Other fee income

1,062

205


13,805

11,430

 

 

10.  Net impairment loss on financial assets




2017

2016


£000

£000

Net Impairment losses on loans and advances to customers

394

427

Impairment losses on financial investments

 -  

47


394

474




During the year, the Group recovered £116k (2016: £nil) of loans which had previously been written off.

 

 

11.  Other income

Other income mainly consists of rental income from the investment property (see Note 31) of £2.1m (2016: £1.1m) and premises recharges of £0.7m (2016: £0.4m) to Secure Trust Bank for office space occupied. In 2016, other income also included £1.6m realised on the investment in Visa Europe Ltd (see Note 25).

 

12.  Operating expenses




2017

2016

Operating expenses comprise:

£000

£000

Staff costs, including Directors:



  Wages, salaries and bonuses

30,937

26,708

  Social security costs

3,576

3,154

  Pension costs

1,558

1,247

  Share based payment transactions (note 39)

189

215

Amortisation of intangibles (note 28)

1,036

521

Depreciation (note 30)

1,508

1,146

Financial Services Compensation Scheme Levy

190

233

Operating lease rentals

3,087

2,610

Operating expenses for investment property

230

115

Acquisitions costs

108

398

Other administrative expenses

12,302

9,764

Total operating expenses from continuing operations

54,721

46,111

 

Details on Directors remuneration are disclosed in the Remuneration Report on page ##RREP.

 


2017

2016

Remuneration of the auditor and its associates, excluding VAT, was as follows:

£000

£000

Fees payable to the Company's auditor for the audit of the Company's annual accounts

105

99

Fees payable to the Company's auditor and its associates for other services:



  Audit of the accounts of subsidiaries

221

237

  Audit related assurance services

85

157

  Taxation compliance services

 -  

36

  Taxation advisory services

 -  

99

  Other assurance services

17

170

  Other non-audit services

 -  

15

Total fees payable

428

813

 

Other assurance services include regulatory assessments. Corporate finance services include due diligence work on a potential corporate transaction.

 

13.  Income tax expense




2017

2016

United Kingdom corporation tax at 19.25% (2016: 20%)

£000

£000

Current taxation



Corporation tax charge - current year

472

179

Corporation tax charge - adjustments in respect of prior years

(141)

457


331

636

Deferred taxation



Origination and reversal of temporary differences

(135)

11

Adjustments in respect of prior years

252

73


117

84

Income tax expense

448

720

Tax reconciliation



Profit before tax

6,971

179

Tax at 19.25% (2016: 20%)

1,342

36

Permanent difference - Tax on associate income

(854)

(429)

Other permanent differences

(152)

496

Tax rate change

1

87

Prior period adjustments

111

530

Corporation tax charge for the year

448

720

 

Permanent differences mainly relate to associate income which is reflected after tax.

 

The tax charge on discontinuing operations is disclosed in note 14.

 

On 26 October 2015 the Government substantively enacted a reduction in the UK corporation tax rate from 20% to 19% (effective from 1 April 2017). An additional reduction to 17% (effective from 1 April 2020) was substantively enacted on 6 September 2016. This will reduce the Bank's future current tax charge accordingly. The deferred tax asset at 31 December 2017 has been calculated based on the rate of 19%.

 

14.  Discontinued operations

The profit after tax from discontinued operations is made up as follows:

 




Year ended 31 December

Year ended 31 December




2017

2016

Discontinued operations



£000

£000

Profit after tax from discontinued operations - ELL (up to 13 April 2016)



 -  

2,027

Profit after tax on sale of discontinued operations - ELL



 -  

116,754

Profit after tax from discontinued operations - STB (up to 15 June 2016)



 -  

9,149

Profit after tax on sale of discontinued operations - STB



 -  

100,180

Profit after tax from discontinued operations



 -  

228,110

 

On 4 December 2015, STB agreed to the conditional sale of its non-standard consumer lending business, ELL, which comprises Everyday Loans Holdings Limited and subsidiary companies Everyday Lending Limited and Everyday Loans Limited, to Non Standard Finance PLC (NSF) for £106.9 million in cash subject to a net asset adjustment and £16.3 million in NSF ordinary shares. The Disposal completed on 13 April 2016, and on completion, NSF repaid intercompany debt of £108.1 million to STB. After selling costs of £6.2m, this resulted in a gain recognised on disposal of £116.8m.

 

Details of the profits of discontinued operations, net assets disposed of and consequential gain recognised on disposal and cash flow from discontinued operations are set out below.

 





From 1 January to 13 April





2016





£000

Interest income




11,137

Net interest income




11,137

Fee and commission income




147

Fee and commission expense




(124)

Net fee and commission income




23

Operating income




11,160

Net impairment loss on financial assets




(2,610)

Operating expenses




(6,016)

Profit before tax




2,534

Tax expense




(507)

Profit after tax




2,027

Profit on sale of business




116,754

Total profit from discontinued operation




118,781






Profit attributable to:





Equity holders of the Company




61,667

Non-controlling interests




57,114

Profit after tax




118,781






Earnings per share for profit attributable to the equity holders of the Company from discontinued operations during the year

(expressed in pence per share):





 - basic

16



418.4

 - diluted

16



418.2

 

The following assets were sold as part of the sale of ELL:


Recognised values on sale


2016


£000



Loans and advances to banks

457

Loans and advances to customers

116,744

Property, plant and equipment

452

Intangible assets

1,258

Deferred tax assets

371

Prepayments and accrued income

451

Other assets

11

Total assets

119,744



Intercompany funding

108,088

Current tax liability

3,212

Other liabilities

4,748

Total liabilities

116,048



Net identifiable assets / (liabilities)

3,696



Consideration

123,206

Costs

(2,756)



Profit on sale of ELL

116,754



The intercompany funding was repaid by NSF at the time of completion.


 

Cash flow from discontinued operations - ELL




From 1 January to 13 April





2016





£000

Cash flows from operating activities





Interest received




11,137

Fees and commissions received




23

Cash payments to employees and suppliers




(8,626)

Taxation paid




(507)

Cash flows from operating profits before changes in operating assets and liabilities




2,027

Changes in operating assets and liabilities:





 - net increase in loans and advances to customers




(3,618)

 - net increase in other assets




(249)

 - net increase in other liabilities




2,621

Net cash inflow from operating activities




781

Cash flows from investing activities