Overview of the Russian Economy and Banking Sector Planned Merger of MDM Bank and URSA Bank Regional Expansion and Branch Network Management Discussion and Analysis Review of Business Units
Corporate and Investment Banking Private Banking
Retail Banking Small Business Banking Information Technology
Corporate Governance and Management Internal Control Risk Management Compliance Control Internal Audit Human Resources Corporate Communications Consolidated Financial Statements Contact Details
Principal Correspondent Accounts Licenses Memberships 12 19 21 25 53 53 57 59 63 65 67 82 84 88 89 91 93 97 187 188 189 191
Dear shareholders, clients and partners:
2008 marked the next step forward in the progressive development of MDM Bank. During the reported period, we maintained a stable balance sheet and profitability. This held true even during the second half of the year, when conditions in the country’s banking sector sharply deteriorated. According to the Company’s IFRS audited financials for the period, the Bank’s total profit for the year was 3.3 billion rubles, including 1.2 billion rubles during the second half of the year.
Financial results for the reported period were lower than in 2007, primarily due to the conservative policy MDM Bank adopted in response to the global financial crisis and the fact the Bank focused on protecting the interests of its depositors and lenders: while the Bank’s loan portfolio and working assets continued to provide stable high returns, the conscious decision to sustain a large liquidity cushion negatively affected the Bank’s profit level. At the same time, the Bank foresaw the difficulties that its borrowers would face in servicing debts during the serious economic downturn. As a result, MDM abandoned its policy of actively expanding its loan portfolio and instead chose to build loan loss reserves in advance. This strategic shift decreased potential profits by at least 3–4 billion rubles.
In our internal policy, we proceeded from the understanding that the crisis, which became pronounced in the fall of 2008, would continue, and that it would begin to affect the country’s real economy. Russia’s industrial and financial organizations will need to adapt to a sharp fall in external demand and an almost complete shut-down of the capital markets. In these new economic conditions, the optimization procedures undertaken by the Bank at the end of 2008, which helped reduce the annual cost/income ratio to 42.9%, was clearly a necessary step to preserve shareholder capital, as well as to protect our depositors and clients from any negative impact of the economic downturn. We plan that this the cost/income ratio will reach 30–35% in 2009, when the full effect of the optimization measures will be achieved. The Bank also re-assessed its risk evaluation approach, temporarily limiting lending to those sectors of the economy that were most sensitive to the crisis, and doing so well in advance of its onset. This led to a temporary decline in the loan portfolio, which, combined with a decrease in overall risk, allowed the Bank to avoid any balance sheet liquidity issues without depending on help from Russian monetary authorities. Finally, to strengthen the liabilities side of the balance sheet, the Bank paid particular attention to attracting retail deposits. In 2008, the growth in retail deposits reached 80%, bettering our main competitors and for the Russian banking sector as a whole.
These measures enabled MDM Bank to maintain a strong Basel accord capital adequacy ratio of 17.9%. The Bank finished 2008 with the highest credit ratings among Russian non-state banks from Standard & Poor’s, Moody’s and Fitch.
During the reported period, the Bank continued to implement its strategy of transforming MDM from a financial institution primarily focused on corporate clients into a fully-fledged universal bank. The Bank gradually changed the structure of its loan portfolio to place greater emphasis on small- and medium-sized enterprises. This also led to a greater diversification of liabilities and increased stability. At the end of 2008, S&P increased the corporate governance rating of the Bank to CGS-6.9 on the Russian scale, which corresponds to its 6+ score on the international scale.
An important, real step toward implementing this strategy was the decision to merge MDM Bank and URSA Bank. The merger, which will be finalized in 2009, will enable both banks to make significant progress on implementing their strategies of increased diversification and better stability in assets and liabilities for the consolidated bank. Synergies from the merger of the two banks’ competencies in the retail and corporate sectors, as well as consolidation on the operations side, will allow the merged bank to occupy a leading position in the Russian banking sector.
MDM Bank is basing its long-term plans on the assumption that the global financial crisis will continue to negatively affect the Russia’s economy and banking sector. Our asset and liability management and capital management policies take into account the inevitable decline in quality of the old loan portfolio. In terms of client services, we understand that our clients need new types of banking products aimed at preserving and protecting companies’ core businesses and overcoming systemic problems in the context of the current crisis. With these factors in mind, the Bank maintains its conservative approach to liquidity management and risk management and intends to carefully monitor and preserve sufficient capital adequacy levels. Despite increased credit risks, MDM Bank will offer credit resources and a broad range of services to meet today’s challenges to companies that seek constructive solutions, can effectively use borrowed capital, and are capable of efficiently running their businesses, either themselves or with the assistance of the bank.
With the goal of completing the merger in 2009, MDM Bank and URSA Bank have independently begun coordinating their business development and balance sheet management in order to begin the real operational merger with harmonized businesses and an effective team of managers.
In terms of business results, we have taken a realistic view of 2009. We believe that the measures taken by banking regulators in developed countries are in line with the measures that have helped overcome banking crises in many countries. It is reasonable to assume that these actions will help to decrease the level of accumulated ineffective leverage, to replenish banks capital and to gradually re-establish confidence in the sector. Eventually positive trends will return to both financial and credit markets. As such, in 2009 we will concentrate on completing the merger between MDM Bank and URSA Bank and on offering our clients practical new credit and commission-based products and services that will help them successfully negotiate the the
OLEG VIYUGIN IGOR KIM
Chairman of the Board of Directors Chairman of the Management Board
Mission
MDM Bank’s Mission is to be a respected and successful universal financial institution, achieving market leadership by adhering to globally accepted standards of banking services and principles of corporate ethics.
Vision
MDM Bank strives to ensure consistent high returns on equity capital by pursuing the following goals: • Provide the highest quality and cost effective services to all our corporate and retail clients;
• Offer products and services that support our clients at each stage of their development, helping them grow their business and prosperity;
• Extend and deepen our nationwide franchise by developing our business with small- and medium-size companies and establishing a strong regional presence;
• Ensure exceptional career opportunities to our employees and maintain the highest standards of corporate governance.
Values
• Expertise. We are guided by the highest professional standards and thorough market analysis; we continuously augment our capabilities by fostering initiative and professional development of our staff.
• Client focus. A partnership philosophy forms the basis of our client relations. We strive to be a model of reliability and efficiency for all our counterparties.
• Integrity and confidentiality. We act with honesty and integrity with regard to our employees, clients and competitors. We comply with both the spirit and the letter of the law.
• Transparency. We support productive communications within the Bank and open relationships with our external stakeholders.
• Social responsibility. We contribute to the wellbeing of society by offering first-class economic opportunities to our clients and implementing environmental programs, as well as supporting educational and cultural projects.
2006 2007 2008 Revenues, RUR mln Change, %
9,000 6,000 3,000 0 2006 2007 2008 ROAE, % Change, pp 6 4 2 0 2006 2007 2008 Net income, RUR mln Change, %
Net income 5,400 4,800 4,200 3,600 3,000 2,400 1,800 1,200 600 0 2006 2007 2008 RUR mln Change, %
Corporate and investment banking: Total operating income before impairment losses and provisions
13,500 12,000 10,500 9,000 7,500 6,000 4,500 3,000 1,500 0 2006 2007 2008 RUR mln Change, %
Retail banking: Total operating income before impairment losses and provisions
4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 2006 2007 2008 RUR mln Change, %
Treasury: Total operating income before impairment losses and provisions
1,450 1,300 1,050 900 750 600 450 300 150 0 66.0 –40.1 37.0 10.8 19.5 90.5 29.9 135.9 3,3 2 0 5, 5 1 6 3,3 0 4 2, 0 8 7 3, 9 7 6 4, 7 5 1 43 5 56 5 1, 3 8 6 14 ,8 2 2 13 ,3 8 1 9, 7 3 5
MDM Bank’s other competitive advantages include:
• The highest international credit ratings among privately-owned Russian banks;
• A stable financial standing, which will allow the Bank to strengthen its market position during the economic crisis (capital adequacy ratio, as per Basel Agreement totaled 17.9% at the end of 2008);
• The Bank’s shareholders are prepared to provide financial support to the Bank, if necessary; • A large liquidity cushion (approximately USD 1.6 bln in highly liquid assets at the end of 2008);
• The highest quality corporate governance and transparency among Russian banks, affirmed by Standard & Poor’s corporate governance score.
2006 2007 2008
CIB results before centralized costs, RUR mln Change, % 3,300 2,200 1,100 0
2006 2007 2008
Retail results before centralized costs, RUR mln Change, % 900 600 300 0
2006 2007 2008
Treasure results before centralized costs, RUR mln Change, %
Treasury results before central overhead 1,350 1,200 1,050 900 750 600 450 300 150 0 2006 2007 2008 Tier I capital ratio Total capital ratio
Capital adequacy ratio, as per Basel Agreement, %
18 16 14 12 10 8 6 4 2 0 161.8 22.7 10 .9 13 .7 14 .5 17 .2 16 .0 17 .9 40 1 49 2 1, 3 4 1
MDM Bank offers retail clients
a broad range of financial
products and services,
including term deposits,
consumer lending, money
transfers
MDM Bank’s subsidiaries include Russian leasing and asset management companies, LTB Bank (based in Riga), and securities brokerage and investment companies in Cyprus.
AS LTB Bank
Securities brokerage company
MDM Investments Ltd (Cyprus)
MCM Russian Investments (Cyprus)
Investment company Leasing company LeasingPromHolding MDM Asset Management Asset management
Shareholder Structure
MDM Bank’s principal owners include: Mr. Sergey Popov, as the majority beneficial shareholder (with an approximately 77% beneficial interest); Olivant Limited, which holds a 9.5% beneficial interest, and Mr. Martin Andersson with an 8.5% beneficial interest. In addition, the IFC holds a 5% direct interest in the Bank.
Operating Environment
2008 was the year when the crisis that had started as turmoil in a limited segment of the financial markets – US subprime mortgages – swept first through the financial industry, then into the real sector of all OECD countries, and finally, by 3Q 2008, hit Russia. In 1H 2008, world liquidity had still been plentiful enough to sustain economic growth in Europe and emerging markets, as well as to keep natural resource prices at elevated levels. Nonetheless, the situation had started to deteriorate by mid-year, when signs of the crisis began to materialize in Eurozone countries, from there deepening and sweeping through all segments of all economies, regardless of geographical boundaries. The entire world witnessed a massive and agonizing process of deleveraging that shook the international banking system and incited a universal flight to safety, as investors sought secure ports of call in the form of the most liquid and risk-free assets, mainly dollar denominated. Meantime, in 3Q 2008, as inflated natural resource prices started to plunge, capital headed out of Russia. The average price for Urals crude in 2008 was USD 92 per bbl, as compared to USD 70 the year before, but a sharp decline in oil prices in 2H 2008, coupled with a growing net capital outflow in 1Q, 3Q and 4Q 2008, completely reversed the positive external market conditions of 1H08, leading to the Russian economy’s about-face from growth to recession.
Russia’s Balance of Payment Performance Over 2008 Current Account Balance, bln USD Current Account Balance, as % of GDP Net Private Capital Flows, bln USD Capital Flight, bn USD USD/ RUR Rate Change, % Average Urals Oil Price, USD/ Bbl 1Q 2008 37.3 10.2 –25.7 –15.5 –4.2 95.2 2Q 2008 32.4 7.4 38.2 –8.5 –0.4 116.7 3Q 2008 21.8 4.8 –16.7 –10.6 15.8 112.7 4Q 2008 8.1 1.7 –133.3 –12.6 15.5 53.5 Entire 2008 99.6 6.1* –137.4 –47.3 27.6 91.7
The key factor behind Russia’s buoyant economic growth from 2005 to 1H 2008 was plentiful global liquidity that propped up both international demand for crude and Russia’s domestic liquidity. A healthy growth in fixed capital investments (FCI) in Russia that persisted in double digits – reaching as high as 21% in 2007 – made a record contribution of 4.2pp to total GDP growth that year, and, as the global crisis started to damage the Russian economy, was at 3pp over 9M 2008 (the most recent data available officially as of the date of this report’s writing).
In 3Q 2008, Russia posted a net private outflow of near USD 17 bln, which turned out to be only a prelude to a massive outflow of USD 133 bln in 4Q 2008.
Looking deeper at the Russian balance of payments, we note the following: in 2007, net private capital inflow had been comparable to the current account surplus and even surpassed it, hitting USD 83 bln vs. USD 77 bln, respectively, helping Russia’s gold and forex reserves grow by USD 150 bln, which translated to approximately USD 160 bln worth of net currency purchases (excluding non-dollar reserve component revaluation) by
the CBR, according to our estimates. In 2008, according to preliminary data from the Ministry of Finance of the Russian Federation, the net capital outflow reached as much as USD 138 bln on the back of a record current accounts surplus of USD 99 bln. While the new methods of measuring international reserves applied by the CBR since mid-2008 and based on the mark-to-market approach, rather than the earlier amortization-based approach, makes it difficult to reliably monitor the selling and buying activities of the Central Bank on the domestic FX market, Ministry of Finance data shows that the Russian Federation’s gross reserve figure declined by USD 45.3 bln during 2008.
An important factor that provoked intense pressure on the ruble at the end of 2008 – in addition to the repatriation of funds by foreign investors – was the large volume of external corporate debt, roughly USD 500 bln, of which USD 135 bln was to be paid in the course of one year. The fact total gross Russian external debt of more than USD 540 bln had approached the gross international reserve amount of USD 580 bln as of late August 2008, exacerbated by refinancing fears, boosted the demand for hard currency, both for hedging and speculative purposes.
For several months in 3Q 2008 it appeared that the CBR possessed adequate resources to protect the ruble. However, the ruble’s convertibility (the absence of any capital control), the drop in oil prices in November 2008 below USD 60 per bbl and the continuing and deepening devaluation of peer currencies against the dollar finally forced the CBR to start the so-called ‘gradual ruble devaluation’, which by year end had resulted in a devaluation of 17% vs. the bi-currency basket and approximately 30% vs. the dollar.
Besides FCI, another important driver of Russian economic growth between 2005 and 1H 2008 was fast-growing consumer demand, which contributed more than 7pp in 2007 and 6.5pp over 9M 2008 to overall GDP growth . The latter figure is the second highest in history (following the 2007 record). Consumer expenditures by households rose 13.1% in real terms in 2007 and a further 12.9% over 9M 2008, which outpaced GDP growth, which was 7.4% over 9M 2008, significantly.
24 21 18 15 12 9 6 3 0 –3 01.05 05.05 09.05 01.06 05.06 09.06 01.07 05.07 09.07 01.08 05.08 09.08
Change in oil price, % year-on-year (left axis)
Fixed capital investment, % year-on-year (right axis) Industrial growth (without axis) Source: State Statistics Service, Reuters, MDM
Oil Prices, Industrial Growth and Fixed Capital Investment in Russia in 2005–2008
90 70 50 30 10 –10 –30 –50 –70 –90
Total estimated GDP growth for 2008 has been estimated at 5.6% by the Economic Ministry, which effectively means stagnation began in 4Q 2008, with growth of only 0.5%. However, the consumption boom of 2007 and early 2008, stemming from high domestic liquidity, had so much inertia that in the last month of 2008 Russia’s households showed negative savings – for the first time in the country’s post-1998 history.
In 4Q 2008, all economic indicators sharply deteriorated. According to our internal evaluation (based on data from the Russian Federation State Statistics Service), industrial production declined 6%; investment in property, plant and equipment dropped approximately 2%; and real household income decreased approximately 0.6%. As of end of the year, according to data from the State Statistics Service, the increase in investment in property, plant and equipment totaled 9.1%; real disposable income grew only 2.7% (compared with 12% in 2007), and the volume of industrial production rose by only 2%. However, it must be noted that industrial production growth had already slowed down by the middle of 2008 and many of Russia’s extraction industries had demonstrated serious indications of stagnation in 2007–2008.
The CBR’s policy throughout 2008, excluding the fourth quarter, was still aimed at ensuring ruble exchange rate stability and curbing inflation. Throughout 2007 and the early part of 2008 the Russian monetary authorities were active in sterilizing the excess liquidity that originated from high currency inflows in the controlled ruble float environment. According to our estimates, in 2008 the federal budget, including the reserve and the sovereign wealth funds, sucked in approximately 70% of the entire ruble issuance through currency purchases by the CBR in the first half of the year. Later on, as capital inflows had almost dried up, ruble issuance by the CBR practically ceased, and the source of liquidity shifted toward borrowing from the Central Bank and fiscal expenditure. The growth of the broad monetary base totaled a mere RUR 65 bln over 2008, as compared to RUR 1.4 trn in 2007. M2 expansion was at an unprecedented low of 3% over 2008, compared to 48% a year ago. As a result, the M2 to GDP ratio fell to the level of early 2007, 31%.
96 97 98 99 00 01 02 03 04 05 06 07 08 Final consumption expenditure
Net export
Gross savings Investment Source: State Statistics Service, MDM
Russia’s GDP Growth Components
Investment in growth, % 18 15 12 9 6 3 0 –3 –6 –9 5 4 3 2 1 0 –1 –2 –3 –4
Adversely, despite all efforts by the CBR and Ministry of Finance, CPI inflation reached 13.4% in 2008 vs. 11.8% the previous year, its highest level since 2002. The CPI acceleration was mainly attributable to the very high ruble issuance of late 2007 and to elevated oil prices in 1H 2008 that exceeded USD 100 per bbl and played on domestic energy prices as well. The late 2008 ruble devaluation had little effect on inflation that year, as a significant lag occurs before this inflationary factor comes onto play (up to six months).
The Banking Sector
Key developments in 2008
2008 was a very challenging year for the Russian banking system, as it was for almost all banking systems worldwide. The first half of 2008 was relatively benign for Russian banks, as they still retained access to capital markets and issued bond placements both locally and internationally. Consolidated banks’ balance sheets expanded in January-June 2008 by 20% to reach almost USD 1 trn.
However, in the second half of last year the situation changed dramatically. The sequence of events, of which the bankruptcy of Lehman Brothers was the most significant, hit the Russian banking system hard.
Debt markets shut down completely, while capital flight from Russia intensified. The latter, combined with a sharp decline in oil prices, led to a significant devaluation of the ruble. Confidence in Russian banks was shaken. As a result, we saw significant volatility in the deposit base of the banks – specifically a redistribution of market share in favor of state-controlled giants and a partial conversion of customer accounts into foreign currency.
Needing to stabilize their liquidity positions, banks have significantly scaled down lending activities. The effects of the “credit squeeze” and financial crisis have started feeding through into the real economy, which, in turn, has led to the rise in default rates and deterioration of banks’ asset quality.
In dollar terms, the consolidated balance sheet of the banking system shrank in the second half of 2008 – a first in recent times. 2008 closed with banks’ total assets standing at USD 921 bln, 6.5% lower than the mid-year high watermark.
In fact, the damage to the Russian banking system could have been far worse if not for unprecedented support from the regulators. The most important items on the long list of support measures included a significant expansion of Central Bank of Russia (CBR) refinancing tools, a relaxation of mandatory cash reserves requirements, large subordinated loan injections into key state banks and select privately-owned banks, as well as, of course, five bailouts of sizeable banks that had become technically insolvent. There are also ongoing discussions in the government about further recapitalization of Russian banks. Experience elsewhere shows that regulators are extremely supportive toward local financial institutions of significant size, as they see the failure of such institutions as threatening to the sustainability of the entire financial system.
Outlook for 2009
In 2009, the development of the Russian banking sector will be fundamentally affected by the following factors: • Support from state regulators. We assume that during this period the government and the CBR will
continue to provide liquidity resources for Russian banks. Additionally, we believe that the CBR will continue to maintain a relatively soft approach on mandatory reserves regulation and oversight.
• Concentration on re-capitalization issues. It is quite likely that in 2009 the quality of Russian banks’ loan portfolios will continue to deteriorate. The acceleration loan impairment losses will have an extremely negative effect on profitability and, more importantly, on capital adequacy ratios. During the fourth quarter of 2008, the negative effect from the increase in past-due debt was largely compensated for by profits from the revaluation of banks’ net currency position (due to ruble devaluation). However, this was a one-off event. In 2009, many financial institutions will be required to recapitalize, whether through taking on subordinated loans, or by issuing preferred and common shares. These capital injections will be financed primarily by the government and by existing private shareholders of the affected banks.
• Active efforts aimed at strengthening the deposit base. Most wholesale capital markets will likely remain inaccessible for the majority of Russian banks in 2009. As a result, deposits will be a key source for bank funding, along with re-financing instruments from the CBR. Russian banks have the possibility to improve their deposit-to-loans ratio, which stood at 54% at the beginning of 2009.
• Intensive consolidation. We expect that 2009 will see numerous acquisitions in the Russian banking system: large institutions will actively acquire smaller competitors (which have become cheaper). Some mergers are possible as well, but the number of mergers will be minimal. The government actively supports these processes, because it believes that they will help maintain economic and social stability in Russia. To accelerate these processes, in December 2008, the Russian President signed amendments abolishing provisions under which all depositors and creditors of a bank had a put option on any liabilities in the event of structural reorganizations, such as a merger or takeover. The newly signed version of the legislation grants creditors these rights only in situations in which they are explicitly spelled out in a contract with the bank.
2005 2006 2007 2008 2009 F Source: Data from the Central Bank of Russia and MDM Bank estimates
Russian Federation total banking assets, bln USD 900 800 700 600 500 400 300 200 100 0 2005 2006 2007 2008 2009 F
Source: Data from the Central Bank of Russia and MDM Bank estimates
Russian banks’ total capital adequacy ratio, % 18 16 14 12 10 8 6 4 2 0 2005 2006 2007 2008 2009 F
Source: Data from the Central Bank of Russia and MDM Bank estimates Deposit/Loans ratio, % 100 90 80 70 60 50 40 30 20 10 0
On 3 December 2008, the major shareholders of MDM Bank and URSA Bank announced their intention to merge the two banks. The new organization will be created based on the legal entity and general banking license of URSA Bank, but will operate under the brand name of MDM Bank. The planned transaction has received broad-based support from shareholders, the Central Bank of Russia and the Russian government, as well as by investors and analysts.
Following the merger, the Bank will have equity of approximately RUR 60 bln and assets of around RUR 500 bln (based on MDM Bank and URSA Bank Russian Accounting Standards reporting for year-end2008), will become one of Russia’s leading universal financial institutions and will have significant competitive advantages. The merged bank will realize considerable advantages from integrating its commercial and financial activities. At the same time, it will also posses a large and diversified liability base, relying on an extensive regional branch network with approximately 500 points of sale across Russia.
The strategic rationale for the merger between MDM Bank and URSA Bank is as follows:
• The creation of one of Russia’s largest private banks. The newly merged bank will be one of the five largest Russian banks and will also be among the top ten competitors for key banking products.
• Complementary structures of business and client bases. The considerable achievements of MDM Bank in corporate and investment banking will be combined with the successful experience of URSA Bank in serving retail clients and small- and medium-sized enterprises. Diversifying the product line and business process will enable the merged bank to strengthen its position in both the retail and corporate sectors.
• Complementary regional presence. MDM Bank has a broad retail network throughout Central and Western Russia. The home regions of URSA Bank are Siberia, the Urals and the Russian Far East. As a result, the merged bank will be widely represented in all key Russian regions.
• High corporate governance standards. MDM Bank adheres to best practice corporate governance and acts on the basis of informational transparency. These guiding principles will also be practiced in the merged bank.
• Better access to funding. The merged bank will enjoy significant advantages in areas such as attracting retail deposits. It will be able to more actively and effectively attract deposits due to both its broad geographical coverage and its reputation as a strong and stable bank. In the current economic situation, retail deposits have become an increasingly important source of funding; over time, however, debt financing costs will also come down as the market re-opens.
• Cost and revenue synergies. The merged bank will maintain and strengthen its position in the market through centralization and optimization of operations, including switching to a unified IT-platform, decreasing personnel costs, implementing best practices, elimination of duplicate structures, increased commission revenues from corporate clients through an improved product line and information sharing on best products in these areas.
According to the Bank’s business plan, the synergy effect from the merger (measured in monetary terms) will range from RUR 4.6 bln to RUR 7.3 bln between 2009 and 2011. Approximately 70% of this benefit will be obtained through cost synergies (including the integration of business processes, network optimization, personnel cost optimization through increased labor productivity, as well as decreased advertising expenses because of a strengthened, unified brand), while the other benefits will be obtained through revenue synergies (RUR 0.6 –1.3 bln) and financial synergies (RUR 0.3 bln). The Bank estimates that the synergetic effect in 2009 will total RUR 0.3 bln.
In 2010–2011, the merged bank intends to significantly broaden its retail network by opening 400 new branch banks.
An effective branch network is a key factor for attracting both retail and corporate clients, and it is therefore integral to the implementation of MDM Bank’s development strategy. The Bank’s branches offer the up-to-date banking services to a broad spectrum of customers throughout Russia, including large corporations, small- and medium-sized enterprises, entrepreneurs and individual consumers.
During the reported period, MDM Bank successfully opened 63 new facilities in its branch network. New offices began working in Moscow, Achinsk, Volgograd, Ekaterinburg, Nevinnomysk, Novosibirsk, Omsk, Rostov-on-Don, Samara, St. Petersburg, Tuapse, Tyumen and Chita. In total, MDM Bank’s regional Russian network now has 199 offices.
In 2009, MDM Bank will continue to develop its regional business, and its branch network will play an increasingly important role in the Bank’s activity. This focus on the local branches and regional business will allow the Bank to build a close relationship with its clients and offer the full spectrum of high quality services to its clients.
In 2008, the Bank implemented a matrix structure for network management, according to which control over MDM’s administrative functions is carried out at the regional level. On a functional level, employees in the regional networks are fully accountable to the management of the respective business units at the Head Office.
To improve the work of the Bank’s branch network, to optimize the system of its administrative management and to centralize the activities of the Bank’s middle and back office, the Bank created three regional centers at the beginning of 2009. These three regional centers unified the Bank’s work across the whole country. Regional center directors report to the Network Management unit, which is in turn overseen by head of the Network Management unit. Within the regions in which they operate, the directors of the regional centers are charged with responsibility for fulfilling the Bank’s strategic goals. Gradually, MDM’s head office is transferring business development powers to the local level.
MDM Bank branches, working within regional centers, bear responsibility for their own managerial decisions in the regions and for providing the Bank’s products and services to clients. Budgeting and operational management is mainly performed according to the “bottom-up” principle along the management chain. The Bank uses the same principles in respect to support functions (such as human resources, legal support, internal audit, corporate communications, etc.) At the same time, the system of branch network management is based on fostering strong partnerships between functional and regional managers.
Expanding banking services
for small businesses
is a strategic priority
for MDM Bank.
MDM Bank Small Business Lending Department client
Mikhail Nepryntsev Children’s goods retailer
Distribution of responsibility within the regional network
Central office Regional center Branch Outlet
• General management and control
• Strategic planning, risk assessment, asset and liability management, financial reporting and methodology
• Centralized back office and underwriting • Call-center • Supervision and administrative control • Coordination of business • HR department at
regional level, branch network development and financial reporting
• Supervision and control over outlet sales • Middle office
• Sales of services to large companies, small- and medium- enterprises and individuals
• Sales of services to small- enterprises and individuals
• Transactions
The matrix structure allows the Bank to adjust its branch network activities to the specific conditions prevalent in each individual region. At the same time, this structure allows the Bank to centralize the functions of its middle and back offices. Most importantly, this paradigm significantly boosts client services and the effectiveness of all of the Bank’s structures, while simultaneously cutting costs through economies of scale.
MDM Bank works
with a broad array
of companies from nearly
every sector of the Russian
economy
Media-corporation VGTRK MDM Bank Corporate & Investment Banking client
Consolidated Performance
The main factors that influenced MDM Bank’s performance in 2008 were: • The development of the global economic crisis
• The strategic decision by the Bank protect clients and depositors by placing stability and liquidity ahead of profitability during the time of crisis.
• Increased net interest margin, and increased net interest income
• Increased income from financial operations: early redemption of debt, trading in precious metals • Securities losses and decreased foreign exchange income
• Impact of early cost optimization measures
• Decreasing asset quality and high coverage ratio of NPLs by loan loss provisions
The Bank’s consolidated net profit for 2008 totaled RUR 3,304 mln (USD 133 mln), a decrease of 40.1% from the RUR 5,516 mln (USD 216 mln) reported in 2007. Return on average equity was also lower in 2008, at 8.2% versus 16.6% (excluding a one-off capital gain from sale of premises) for MDM Bank in 2007. The decrease in net profit and return on average equity (ROAE) is due to substantial deterioration of the economic environment in the world and in Russia.
A list of metrics reflecting the Bank’s principal strategic objectives determined at the beginning of 2008 is presented below. The list of indicators reflects, directly and indirectly, the following objectives, which will facilitate maximum growth of the Bank’s business value if achieved in a balanced way:
• effective use of capital, financial stability and high quality of revenues • high level of customer service
• productive, competent and loyal staff • efficient internal processes
Primary performance indicators RUR mln or % 2008 2007 Change 2007/2008 2006 Change 2006/2007 Revenues 21,832 17,832 22.4% 13,047 36.7% Net profit 3,304 5,516 (40.1)% 3,320 66.1%
Net interest margin 5.7% 5.2% 0.5 pp 6.1% (0.9) pp
Cost of risk (Provision expense /
Average risk-weighted assets) 3.2% 0.9% 2.3 pp 1.0% (0.1) pp
ROAE 8.2% 17.8% (9.6) pp 13.0% 4.8 pp
ROAA 1.0% 1.9% (0.9) pp 1.8% 0.1 pp
Cost / income 42.9% 48.3% (5.4) pp 51.5% (3.2) pp
Total Assets/Employee 50 56 (6) 55 1
Cost of risk (provisioning expense on
loans to average loans for the year) 3.2% 1.1% 2.1 pp 1.5% (0.4) pp NPLs to total portfolio
(Non-performing loans / Gross loans) 4.2% 2.0% 2.2 pp 1.3% 0.7 pp Coverage of NPLs (Provisions / NPLs) 139.3% 163.7% (24.4) pp 197.6% (33.9) pp
Tier I 16.0% 14.5% 1.5 pp 10.9% 3.6 pp
Total Capital ratio 17.9% 17.2% 0.7 pp 13.7% 3.5 pp Deposits (excluding volatile customer
accounts at Latvian Trade Bank) /
Loans 47.5% 51.7% (4.2) pp 47.1% 4.6 pp
Employees (end of period) 6,563 5,775 788 4,421 1,354 Network (branches, additional offices
Secondary performance indicators RUR mln or % 2008 2007 Change 2007/2008 2006 Change 2006/2007
ROAE before investments (excluding
one-off items) 9.1% 16.0% (6.9) pp 12.9% 3.1 pp
Operating expenses (before investments) / Revenue before result from trading in
securities 39.3% 48.2% (8.9) pp 52.9% 4.7 pp
Operating expenses (before investments)
/ Revenue before result from FX 42.5% 51.2% (8.7) pp 56.1% (4.9) pp Share of net fees and commissions in
revenue before result from trading in
securities 10.0% 13.4% (3.4) pp 10.3% 3.1 pp
Share of net fees and commissions in
revenue before result from FX 10.8% 14.2% (3.4) pp 10.9% 3.3 pp Revenue / Average staff (RUR ‘000) 3,486 3,453 33 3,003 450
In 3Q 2008, the Bank’s management and Board of Directors took the decision to focus on shorter-term strategic goals that would help to ensure MDM Bank’s stability and strength during the crisis. The six tactical goals for the Bank in 2009 are the following:
Goal Achievements
Increase deposit base by 50% • The Bank has introduced a number of attractive, competitive deposit products for standard retail clients, high net worth individuals and small businesses
• Retail term deposits increased 79.9% y-o-y from RUR 14,094 mln on 31 December 2007 to RUR 25,362 mln as of 31 December 2008. This trend has continued in Q1 2009.
Maintain excess liquidity cushion that is adequate for the market situation
• As of YE 2008, MDM Bank had USD 1.6 bln in excess liquidity held as cash in overnight accounts. This sum is more than adequate to enable the Bank to meet all international wholesale funding coming due in 2009 (approximately USD 800 mln)
Maintain ROAE of at least 10% • The Bank began taking measures to decrease costs in 3Q 2008, and aims to reduce operating expenses by 25% y-o-y in 2009.
Increase MDM Bank’s share of profit in strategically important segments (small and mid-sized companies) relative to competitors
• MDM Bank’s small business loan portfolio grew by 89.1% from RUR 8,214 mln at YE 2007 to RUR 15,529 as of YE 2008
Maintain international credit ratings at levels higher than those of MDM Bank’s leading competitors
• As of YE 2008, MDM Bank had the highest combined ratings from Standard & Poor’s, Fitch and Moody’s among privately-owned Russian Banks
Maintain regulatory capital adequacy ratio (N1) of at least 12%
• As of YE 2008, MDM Bank’s regulatory capital adequacy ratio was 14.6% (including post-balance sheet events)
Review of the Income Statement
RUR mln Year Ended December 31 2008 Year Ended December 31 2007 Year Ended December 31 2006 Interest income 32,893 28,345 17,326 Interest expense (15,985) (14,213) (7,269)Net interest income 16,908 14,132 10,057
Loan impairment losses (6,616) (2,083) (1,741)
Net interest income after loan
impairment losses 10,292 12,049 8,316
(Losses)/gains arising from trading
securities, net (997) 309 457
Gains/(losses) arising from trading in precious
metals, net 504 (22) 50
Gains from foreign exchange, net 914 1,364 1,083
Gains/(losses) from interest-based derivative
financial instruments, net 520 (520) (100)
Gains from early redemption of debt 1,134 – –
Fee and commission income 3,142 2,978 2,022
Fee and commission expense (883) (634) (634)
Other assets impairment losses (518) (3) (2)
Impairment of investment securities held
to maturity (371) – 13
Other provisions (330) – (2)
Other operating income 596 230 125
Operating income 14,003 15,751 11,317
Operating expenses (9,366) (8,622) (6,715)
Result on disposal of premises – 498 (39)
Profit before taxation 4,637 7,627 4,563
Income tax expense (1,333) (2,111) (1,243)
Revenues
The Bank increased its consolidated revenue (excluding the impact of a one-time gain of RUR 498 mln before tax in 2007) by 22.4% to RUR 21,832 mln (USD 878 mln), primarily due to increases in net interest income and gains from early redemption of debt.
13 ,0 4 7 17 ,8 3 2 21 ,8 3 2 36.7 22.4 2006 2007 2008 RUR mln Change, % 27,000 24,000 21,000 18,000 15,000 12,000 9,000 6,000 3,000 0 RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2007/2006, % Interest income
Loans and advances to customers 28,647 23,865 20 14,747 62 Overnight deposits and due from
other banks 2,860 3,098 (8) 1,496 107
Investment securities available
for sale 399 – – – –
Investments securities held to
maturity 66 – – – –
Total interest income on financial assets not at fair value
through profit and loss 31,972 26,963 19 16,243 66
Trading securities 916 1,361 (33) 792 72
Other financial assets at fair value
through profit and loss 5 21 (76) 291 (93)
RUR mln or % 2008 2008 Change 2007/2008, % 2008 Change 2007/2006, % Interest expense Customer accounts (6,628) (4,446) 49 (2,167) 105
Due to other banks (5,758) (4,966) 16 (2,390) 108
Debt securities in issue (3,111) (4,267) –27 (2,483) 72
Subordinated debt (488) (534) –9 (229) 133
Total interest expense (15,985) (14,213) 12 (7,269) 96
Net interest income 16,908 14,132 20 10,057 41
Average, % Change (p.p.) Average, % Change (p.p.) 2008 2007 2007/2008 2006 2006/2007
Average yield for
Loans 14.0 12.7 1.3 12.0 0.7
Interest-bearing investment
securities 10.8 8.8 2.0 8.3 0.5
loans and other interest-bearing
funds placed in banks 3.6 4.6 (1.0) 4.8 (0.2)
Total interest-bearing assets 11.1 10.5 0.6 10.3 0.2
Average rate paid for
Term deposits 6.6 6.0 0.6 6.4 (0.4)
Other interest-bearing deposits 1.5 0.9 0.6 0.2 0.7
Short-term debt 8.0 8.0 0.0 6.7 1.3
Long-term debt 5.6 5.9 (0.3) 5.2 0.7
Total interest-bearing liabilities 5.5 5.6 (0.1) 4.6 1.0
Net interest income accounted for 77.4% of total revenue, growing by 19.6% during 2008 to RUR 16,908 mln (USD 680 mln), while net interest margin increased to 5.7%, up from 5.2% in 2007. Two factors contributed to growth in net interest income in 2008: resumed growth in the corporate loan portfolio in the first two quarters of 2008 and ongoing repricing in the corporate and small business loan portfolios (discussed below).
Net interest margins rose in 2008 despite an increase in interest rates on customer accounts, as increased borrowing costs corresponded with the overall growth of the gross margin. Relative to 2007, the overall cost of funds increased by less than asset yields, which resulted in an overall increase of the net interest margin.
Annual data
2007 2008
Yield on Assets, % Cost of funds, % Net Interest Margin, %
12 10 8 6 4 2 0 1Q2008 2Q2008 3Q2008 4Q2008 Yield on Assets, % Cost of funds, % Net Interest Margin, %
12 10 8 6 4 2 0 2008 quarter data
Net fees and commissions decreased by 3.6% in 2008 to RUR 2,259 mln (USD 91 mln) from
RUR 2,344 mln (USD 92 mln), primarily as a result of a decline in investment banking and brokerage commissions (2008: RUR 177 mln; 2007: RUR 504 mln), as well as increased commission expenses on settlement transactions, principally due to the growing number of transactions with debit and credit cards issued by MDM Bank, in addition to the increased number of transactions with non-MDM Bank cards using MDM Bank’s acquiring network. Total fee and commission income, however, rose slightly, led by increases in commissions on settlement and trade finance transactions (2008: RUR 1,834 mln; 2007: RUR 1,417 mln) and commissions on foreign currency transactions (2008: RUR 545 mln; 2007: RUR 364 mln). As a result, fee and commission income decreased as a share of net revenues before result from trading in securities to 10% from 13.4% in 2007. 10 .5 5. 6 5. 2 5.5 5.7 11 .1 10 .2 5. 7 4. 8 5.1 5. 5 10 .3 11 .1 5. 3 6. 1 6. 5 6. 2 12 .4
RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2006/2007, %
Commission on settlement and
trade finance 1,834 1,417 29 1,115 27
Commission on foreign exchange
transactions 545 364 50 344 6
Commission on cash transactions 326 370 (12) 263 41 Commission for business referral 213 275 (23) 79 248 Brokerage and investment banking
commissions 177 504 (65) 211 139
Commission for trust and fiduciary
assets 41 41 – 7 486
Other 6 7 (14) 3 133
Total fee and commission income 3,142 2,978 6 2,022 47
Commission on settlement
transactions (409) (297) 38 (258) 15
Commission on foreign currency
transactions (164) (73) 125 (126) (42)
Commission on cash transactions (133) (185) (28) (73) 153 Commission on banking
transactions (128) – – – –
Other (49) (79) (38) (177) (55)
Total fee and commission
expense (883) (634) 39 (634) –
Net fee and commission income 2,259 2,344 (4) 1,388 69
Net result from trading, including trading in securities, foreign exchange and precious metals, decreased by 16.8% in 2008 to RUR 941 mln (USD 37.9 mln) from RUR 1,131 mln (USD 44.2 mln) in 2007. The result was impacted by the turbulence in the capital markets in the first and third quarters, when the Bank recorded losses from securities trading of RUR 297 mln (USD 12.4 mln) and RUR 575 mln (USD 23.9 mln), respectively, and a YE 2008 result of RUR (997) mln from trading securities. This was partly offset by net gains from trading in precious metals (2008: RUR 504 mln; 2007: RUR (22) mln). Additionally, a gain of RUR 1,134 mln (USD 45.6 mln) from early redemption of debt was recorded in Q4 2008.
2006 2007 2008 (Losses)/gains arising from trading securities, net, RUR mln Gains /(losses) arising from trading in precious metals, net, RUR mln Gains from foreign exchange, net, RUR mln
1,200 800 400 0 –400 –800 –1,200 Operating expenses
Growth in operating expenses in 2008 equaled 8.6%, which compares favorably both to 2007 operating expenses (28.4%) and the rate of revenue growth in 2008 (22.4%)(2007: 36.7%). This resulted in the overall cost / income ratio improving from 48.3% to 42.9%. The ratio of operating costs to revenues before trading results in securities, which is more indicative of efficiency levels, also improved, from 48.2% the previous year to 39.3% in 2008.
Staff costs, representing 60.6% in 2008 of the Bank’s overall operating cost base, declined by 1.3% to RUR 5,673 mln (USD 228 mln), despite new staff hires and network expansion (number of personnel increased by 788 and the Bank increased the number of outlets by 35 in 2008). This was primarily due to cost-saving efforts undertaken beginning in Q3 2008 and continuing through the end of the year. Average cost per employee decreased by 18.6% to RUR 905.7 thsd (USD 36.4 thsd) per year, while staff productivity, as evidenced by revenue per staff, rose by 6.4%, from RUR 3,393 thsd (USD 132.7 thsd) to RUR 3,611 thsd (USD 145.3 thsd).
45 7 50 1, 0 8 3 30 9 (2 2 ) 1, 3 6 4 (9 97 ) 50 4 914
2006 2007 2008 Staff costs per average staff, RUR thsd
Revenue before result from trading in securities per average staff, RUR thsd 3600 3200 2800 2400 2000 1600 1200 800 400 0
Non-staff operatingcosts grew by 28.4% to RUR 3,693 mln (USD 148.6 mln), a slower pace than in the previous two years. Over 95% of the increase in non-staff expenses was attributed to depreciation, rent and other expenses related to property, plant and equipment, which grew in 2008 by RUR 818 mln, an increase of 69%, on branch expansion (all new outlets opened by the Bank are being rented) and increasing rental rates in the first half of the year. Details of non-staff costs are presented in the table below.
RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2006/2007, %
Depreciation, rent and other expenses related to property,
plant and equipment 1,999 1,181 69 737 60
Professional services 505 416 21 377 10
Taxes other than on income 439 485 (9) 389 25
Advertising and marketing 238 365 (35) 244 50
Security 197 164 20 157 4
Telecommunications 152 102 49 81 26
Software 130 134 (3) 106 26
Other 33 29 14 52 (44)
Total non-staff operating costs 3,693 2,876 28 2,143 34
1, 0 5 2 2, 9 2 1 1, 11 3 3,393 3,6 11 906
Provisions and asset quality
In 2008, the Bank maintained its conservative provisioning policy across all asset classes. During the third and fourth quarters of 2008, the effects of the global economic crisis began to have an increasing impact on credit quality in the Russian Federation, leaving Russian corporations dependent on refinancing in a challenging position, and precipitating a decline in asset quality throughout the banking sector.
The Bank’s total provisioning expense, including provision for losses on credit related commitments, was RUR 6,616 mln in 2008 (USD 266.2 mln), up 217.6% from RUR 2,083 mln (USD 81.4 mln) in 2007. Cost of risk, or the provisioning expense over average risk exposure, increased compared to 2007 levels for the overall loan portfolio, as well as in the corporate, small business and loans to individuals portfolios.
0, 5 6,5 1, 4 3, 7 0,3 5, 9 1, 1 3, 0 1, 5 8, 2 3,2 2006 2007 2008 Corporate Consumer Small Business Total Cost of risk, % 9 7,5 6 4,5 3 1,5 0 2,2
As a result of provisioning, non-performing loans* (NPLs) were comfortably covered by provisions at the end of 2008 across all portfolio segments, with total coverage at 139.3%, despite a significant increase in NPL levels. Going forward, MDM Bank will continue to maintain adequate loan loss provisions in line with the market situation.
|*| Non-performing loans are defined as loans with princi-pal and/or interest overdue by more than 90 days and other loans classified as non-performing by management. A loan is usually classified as non-performing by manage-ment if it is not probable that it will be recovered through means other than reposses-sion and subsequent realiza-tion of collateral.
Non-performing loans more than doubled in 2008 from 2.0% of gross loans at YE 2007 to 4.2% of gross loans at YE 2008 (from RUR 3,784 mln to RUR 8,763 mln). This increase was driven primarily by worsening asset quality in the corporate loan portfolio: NPLs in this portfolio increased from 0.8% to 3.5% of loans to corporate customers during 2008 (RUR 1,014 mln to RUR 4,756 mln).
2006 2007 2008 Corporate Retail Small Business Total Coverage of NPLs, % 360 300 240 180 120 60 0 2006 2007 2008 Corporate Retail Small Business Total
NPLs (as % of gross loans), %
6 5 4 3 2 1 0 Taxation
Tax expense in 2008 amounted to RUR 1,333 mln (USD 53.6 mln), down 36.9% from 2007. The effective tax rate in 2008 stood at 28.7% (2007: 27.7%; 2006: 27.2%), mainly due to non-deductible losses on securities. Segments
MDM Bank reported three main reportable operating segments in 2008: Corporate and Investment Banking, Retail Banking and Central Treasury.
24 5. 8 13 7. 6 22 3. 3 19 7. 6 30 9 .2 11 2 .5 19 9 .6 16 3 .7 15 3 .3 11 7. 2 176 .0 13 9 .3 1. 0 3. 7 0. 9 1.3 0.8 5. 9 2.8 2.0 3. 5 6. 0 4. 8 4. 2
Corporate and Investment Banking RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2005/2007, %
External interest income 24,222 21,859 10.8 13,745 59.0 External interest expense (9,472) (7,311) 29.6 (4,117) 77.6 Internal funding charge (4,208) (5,564) (24.4) (3,526) 57.8 Allowance for capital benefit 1,937 1,811 7.0 1,398 29.5
Net interest income 12,479 10,795 15.6 7,500 43.9
Fee and commission income 1,805 1,831 (1.4) 1,312 39.6 Fee and commission expense (445) (401) 11.0 (459) (12.6) Trading, other financial assets at
fair value through profit or loss and
foreign exchange results 820 981 (16.4) 1,315 (25.4)
Other operating income 163 175 (6.9) 67 161.2
Total operating income before impairment losses and
provisions 14,822 13,381 10.8 9,735 37.5
Direct operating expenses (1,739) (2,450) (29.0) (2,363) 3.7 Impairment losses and provisions (5,418) (514) 954.1 (469) 9.6 Reversal of accounting impairment
losses and provisions 5,418 514 954.1 469 9.6
Risk charges (3,911) (811) 382.2 (567) 43.0
Segment result before central
overhead 9,172 10,120 (9.4) 6,805 48.7
Allocation of central overheads (1,387) (940) 47.6 (1,817) (48.1)
Corporate and Investment Banking (CIB) includes deposit taking and lending to corporate clients, leasing, factoring, settlements, cash management, cash collection, trade finance, syndications, a forfait financing, export credit agency financing, corporate finance, debt and equity capital markets, money markets, trading and brokerage in securities, foreign exchange and precious metals, repo transactions, banknote trading, and trading in derivatives.
Net income before taxes and allocation of central overheads decreased by 9.4% in 2008 to RUR 9,172 mln (USD 369 mln) from RUR 10,120 mln (USD 395.7 mln) in 2007. At the same time, net interest income rose 15.6% from RUR 10,795 mln (USD 422 mln) to RUR 12,479 mln (USD 502.1 mln) in 2008, primarily due to rate repricing on the corporate loan portfolio: the weighted average interest rate for RUR loans to corporate clients increased from 13.9% in 2007 to 17.0% in 2008. The decrease in income before taxation first of all was due to provision growth in the corporate loan portfolio. The result was also affected by a 29.2% decrease in direct operating expenses, from RUR 2,450 mln (USD 95.8 mln) in 2007 to RUR 1,739 mln (USD 70 mln) in 2008, which was primarily due to cost and staff optimizations in line with market developments and the Bank’s business focus in the third and fourth quarters.
RUR mln
December 31 Average Balance
2008 2007 2006 2008 2007 2006
Total loans, net 142,523 138,024 137,331 121,680 148,411 114,061 Total earning assets 180,756 198,164 187,231 184,148 200,498 172,567 Total assets 210,205 204,833 191,337 236,283 216,956 164,721 Total deposits 94,558 101,775 71,495 116,792 94,204 64,495
Retail Banking RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2006/2007, %
External interest income 7,863 5,467 43.8 2,994 82.6 External interest expense (664) (312) 112.8 (235) 32.8 Internal funding charge (3,848) (2,491) 54.5 (1,315) 89.4 Allowance for capital benefit 444 316 40.5 181 74.6
Net interest income 3,795 2,980 27.3 1,625 83.4
Fee and commission income 1,337 1,141 17.2 552 106.7 Fee and commission expense (353) (225) 56.9 (170) 32.4 Trading, other financial assets at
fair value through profit or loss and
foreign exchange results (41) 72 (156.9) 73 (1.4)
Other operating income 13 8 62.5 7 14.3
Total operating income before impairment losses and
provisions 4,751 3,976 19.5 2,087 90.5
Direct operating expenses (1,629) (1,447) 12.6 (865) 67.3
Impairment losses and provisions (1,726) (1,564) 10.4 (1,164) 34.4
Reversal of accounting impairment
losses and provisions 1,726 1,564 10.4 1,164 34.4
Risk charges (670) 367 (282.6) 239 53.6
Segment result before central
overhead 2,452 2,162 13.4 1,686 28.2
Allocation of central overheads (2,326) (1,785) 30.3 (1,264) 41.2
Retail banking includes deposit taking and lending to individuals, small and medium enterprises and individual entrepreneurs, money transfer and foreign exchange services, a range of banking card products provided to individual customers, as well as settlements, cash management, and cash collection for small and medium enterprises.
Net income before taxes and allocation of central overheads increased 13.4% in 2008 to RUR 2,452 mln (USD 98.7 mln) from RUR 2,162 mln (USD 84.5 mln) in 2007. The increase was due both to net interest income, which rose 27.3% from RUR 2,980 mln (USD 116.5 mln) to RUR 3,795 mln (USD 152.7 mln) in 2008, and a 7.4% increase in fee and commission income to RUR 984 mln (USD 39.6 mln) in 2008 from RUR 916 mln (USD 35.8 mln) in 2007. Net interest income rose both as a result of an increase in the size and margins in the small business loan portfolio, as well as growth of the retail portfolio. The small business and retail loan portfolios increased in size by RUR 7,315 mln (USD 249 mln) and RUR 3,611 mln (USD 122.9 mln) respectively, with small business loans totaling RUR 15,529 mln (USD 528.5 mln) and retail loans totaling RUR 40,460 mln (USD 1,377.1 mln) at YE 2008. Weighted average interest rates on RUR loans to small businesses rose from 15.5% in 2007 to 18.6% in 2008. Direct operating expenses for retail banking increased by 12.6% from RUR 1,447 mln (USD 58.2 mln) in 2007 to RUR 1,629 mln (USD 63.7 mln) in 2008, on the back of significant network expansion during the year. At the same time, the Bank optimized costs for existing offices and staff, as indicated by operating costs per point of sale (2008: RUR 8.19 mln; 2007: RUR 8.82 mln)
RUR mln
December 31 Average Balance
2008 2007 2006 2008 2007 2006
Total loans, net 52,284 42,287 29,544 48,566 37,484 25,764 Total earning assets 52,284 42,287 33,874 48,566 37,484 25,764 Total assets 53,776 42,825 31,412 49,279 38,343 31,191 Total deposits 20,514 14,669 10,808 17,142 11,585 13,623
Central Treasury RUR mln ro % 2008 2007 Change 2007/2008, % 2006 Change 2006/2007, %
External interest income 808 1,019 (20.7) 242 321.1 External interest expense (5,608) (6,000) (6.5) (2,888) 107.8 Internal funding charge 4,794 5,419 (11.5) 3,067 76.7 Allowance for capital benefit 108 38 184.2 12 216.7
Net interest income 102 476 (78.6) 433 9.9
Fee and commission income – 6 (100.0) – –
Fee and commission expense (83) (8) 937.5 (3) 166.7 Trading, other financial assets at
fair value through profit or loss and
foreign exchange results 1,365 80 1,606.3 – –
Other operating income 2 11 (81.8) 5 120.0
Total operating income before
impairment losses and provisions 1,386 565 145.3 435 29.9
Direct operating expenses (45) (73) (38.4) (34) 114.7
Direct operating expenses 1,341 492 172.6 401 22.7
Allocation of central overheads (2) (1) 100.0 (7) (85.7)
Profit before taxation 1,339 491 172.7 394 24.6
Central Treasury includes treasury, which undertakes the Bank’s funding and centralized risk management activities through borrowings, issue of debt securities, use of derivatives for risk management and investing in liquid assets such as short-term placements.
The segment result before taxation and allocation of central overheads increased 172.6% to RUR 1,341 mln (USD 54 mln) in 2008 vs. RUR 492 mln (USD 19.2 mln) in 2007. The primary driver of this result was a gain from the repurchase of MDM Bank’s own debt securities (RUR 1,134 mln; USD 45.6 mln). External interest income, which primarily represents earnings from the Bank’s placement of its excess liquidity, declined by
20.7% from RUR 1,019 mln (USD 39.8 mln) in 2007 to RUR 808 mln (USD 32.5 mln) in 2008 as a result of lower volumes on excess liquidity that were held during the year.
RUR mln
December 31 Average Balance
2008 2007 2006 2008 2007 2006
Total loans, net – – – – – –
Total earning assets 2,940 7,046 7,960 3,232 26,476 5,459 Total assets 56,401 66,985 19,176 36,698 41,554 15,403 Total liabilities 106,675 83,896 62,442 83,375 80,447 n/a*
Balance Sheet Review
RUR mln December 31 2008 December 31 2007 December 31 2006 Assets
Cash and cash equivalents 77,271 83,434 32,642
Mandatory cash balances with central banks 1,942 5,538 4,030
Due from other banks 31,651 27,834 13,201
Trading securities:
– owned by the Group 194 10,875 13,510
– pledged under sale and repurchase agreements – 2,987 3,624
Derivative financial instruments 3,083 260 255
Available-for-sale financial assets:
– owned by the Group 8,676 290 –
– pledged under sale and repurchase agreements 379 – –
Investment securities held to maturity 108 – –
Loans and advances to customers 194,806 180,311 166,875 Property, plant and equipment and intangible
assets 6,832 5,956 4,443
Other assets 4,175 3,997 4,542
Total assets 329,117 321,482 243,122
|*| Due to changes in the sector reporting beetween 2006 and 2007
December 31 2008 December 31 2007 December 31 2006 Liabilities
Due to central bank 35,575 846 1,526
Due to other banks 97,375 101,516 59,346
Derivative financial instruments 2,372 874 667
Customer accounts 115,071 124,132 92,805
Debt securities in issue 28,700 46,631 52,870
Subordinated debt 5,966 5,066 5,452
Deferred tax liability 980 770 652
Other liabilities 2,004 2,749 2,480 Total liabilities 288,043 282,584 215,798 Equity Share capital 1,794 1,794 1,736 Share premium 14,198 14,198 9,588 Revaluation of premises 3,143 2,986 1,942
Revaluation of available-for-sale financial assets (1,566) 21 –
Cumulative translation reserve 326 24 (21)
Retained earnings 23,179 19,875 14,079
Total equity 41,074 38,898 27,324
Total liabilities and equity 329,117 321,482 243,122
The Bank’s total assets increased by 2.4% to RUR 329,117 mln (USD 11,202 mln) in 2008, following 32.2% growth in 2007. The balance sheet grew only during the second quarter of 2008, as the Bank focused primarily on liquidity, and in 4Q 2008 accelerated efforts to reduce exposure to riskier sectors of the economy and temporarily significantly reduced new corporate lending pending analysis of the sectors to which the Bank would seek to lend going forward.
Q1 2008 Q2 2008 Q3 2008 Q4 2008
Total assets, RUR mln
360,000 300,000 240,000 180,000 120,000 60,000 0 305 ,54 6 35 2,38 4 333,8 58 32 9 ,1 1 7 December 31 Average RUR mln 2008 2007 2006 2008 2007 2006 Interest-earning assets Loans 194,806 180,311 166,875 204,168 187,565 123,346 Interest-bearing investment securities 8,335 12,065 16,360 12,835 15,789 12,969 Loans and other
interest-bearing funds placed in banks 70,746 94,653 38,677 80,368 67,106 31,137
Total assets 329,117 321,482 243,122 328,477 290,019 182,181
Interest-bearing liabilities
Term deposits 78,413 87,852 54,461 89,860 68,391 32,703 Other interest-bearing
deposits 36,658 36,280 38,344 45,148 40,182 38,429
Debt securities in issue and
other obligations 34,666 51,697 58,322 44,715 60,028 38,978 Interbank lending 132,950 102,362 60,872 103,001 84,973 45,945
Total liabilities 288,043 282,584 215,798 288,103 257,848 147,179
Liquidity
Starting from 3Q 2007, the Bank moved to bolster its liquidity position to a level that would be adequate in response to the unprecedented deterioration in global credit markets. This was achieved mainly through active management of the corporate loan portfolio. As a result of these efforts, a sizeable excess liquidity cushion was built up, and a substantial positive liquidity gap was achieved for maturity of up to 12 months, by the end of 2007, and was maintained throughout 2008.
The Bank plans to maintain its conservative stance on liquidity, at the expense of profitability and growth, until economic stability returns and more visibility on international borrowing is achieved. For a more detailed discussion of liquidity risk management, please refer to note 28 of the Financial Statements.
Lending
The Bank’s overall gross loan portfolio reached RUR 207,009 mln (USD 7,045.8 mln) at the end of 2008, up 8.0% over the previous year. Gross loans to corporate customers and loan to individuals grew by 13.3% and 9.8% respectively, while small business loans, a strategic priority for the Bank, grew significantly faster, increasing 89.1% during 2008. Loans to corporate customers amounted to RUR 137,800 mln (USD 4,690 mln) and continue to make up the majority of the portfolio, representing 66.6% of gross loans (2007: 65.2%), while the faster-growing small business portfolio (RUR 15,529 mln; USD 528.5 mln) made up 7.5% of gross loans, up from 4.4% at YE2007. The remainder is represented by retail lending amounting to RUR 40,460 mln (USD 1,377 mln), which accounts for 19.5% of gross loans.
121 ,5 8 5 36 ,8 49 8, 2 1 4 18 6 ,5 0 5 12 5 ,6 7 8 37 ,9 9 1 8, 9 5 1 18 9 ,8 8 9 14 1 ,0 5 6 38 ,8 9 5 10 ,7 9 5 20 7, 4 2 8 23 0 ,0 0 8 20 7, 0 0 9 15 7, 7 7 0 41 ,2 7 7 14 ,1 0 7 13 7, 8 0 0 40 ,460 15 ,5 2 9
Gross Loans, RUR mln
2007 Q1 2008 1H 2008 Q3 2008 YE 2008 Corporate Retail Small Business Total 240 000 200 000 160 000 120 000 80 000 40 000 0
The overall composition of the loan portfolio is shown in the table below.
RUR mln or % 2008 2007 Change 2007/2008, % 2006 Change 2006-2007, % Commercial loans 137,800 121,585 13.3 113,330 7.3
Small business loans 15,529 8,214 89.1 4,416 86.0
Net investment in finance lease 2,860 3,727 –23.3 2,095 77.9
Retail loans 40,460 36,849 9.8 28,001 31.6
Investment banking loans 10,360 16,130 –35.8 23,532 –31.5
Total gross loans 207,009 186,505 11.0 171,374 8.8
The Bank has continued to make progress on increasing the granularity and diversification of its corporate loan portfolio. Total exposures to the top 20 corporate borrowers represented 17.0% of the total portfolio (including off-balance sheet and excluding reverse repurchase agreements and margin loans), down from 18.9% in 2007 and 23.7% in 2006.
Significant efforts have been made to preserve industry diversification in the Bank’s loan portfolio. The Bank’s largest industry exposures at YE 2008 were to Trade, Individuals, Real Estate Management, Manufacturing and Wholesale Trade. Construction is no longer among the top 5 industries, and exposure to this sector dropped by 35.3% from RUR 22,247 mln (USD 906.3 mln, 12% of gross loans) in 2007 to RUR 14,397 mln (USD 490 mln, 7% of gross loans) in 2008. Since 2006, the Bank’s exposure to the construction sector has fallen both in terms of its share of the loan portfolio (2008: 7%; 2007: 12%; 2006: 14%) and in absolute terms (2008: RUR 14,397 mln; 2007: RUR 22,247 mln; 2006: RUR 24,381 mln).
The following charts show risk concentrations by economic sector within the customer loan portfolio (excluding margin loans, reverse repos and other loans of an investment nature).
2006 Retail trade Wholesale trade Individuals Manufacturing Real Estate Finance Construction Other 10% 7% 17% 11% 8% 16% 14% 17% 2007 Retail trade Wholesale trade Individuals Manufacturing Real Estate Finance Construction Other 13% 9% 20% 9% 13% 10% 12% 14% 2008 Retail trade Wholesale trade Individuals Manufacturing Real Estate Finance Construction Other 17% 11% 19% 12% 13% 5% 7% 16%
