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Corporate governance and risk management review

Primary responsibility for Capitec rests with its board. They fulfil this duty with due emphasis on corporate governance and risk management.

Board functioning and effectiveness

The Capitec board meets six times per annum. A record of attendance by each board member is published as per Annexure A. Capitec’s board operates in terms of an approved charter which, apart from detailing the powers, duties and responsibilities of the board, also specifies the reserved powers of the board. The charter is reviewed annually.

 

Board of directors

To allow non-executive directors the opportunity to familiarise themselves with the Group’s business outside of board meetings, they are invited to executive management meetings and taken on branch visits. An annual board conference is held at which senior managers present the various aspects of the business to directors. This approach facilitates access by board members to company information, records, documents and resources. It also exposes them to the market in which the Group operates.

The board monitors the implementation of their plans and strategies through various board committees.

Board structure and continuity

The board comprises a majority of non-executive directors, consisting of a proper balance of two executive, three non-executive and five independent non-executive directors. A Directors’ Affairs Committee comprising all the non-executive and independent non-executive directors and chaired by the chairman of the board has been established and in terms of its board-approved charter, inter alia, is responsible for recruitment and selection of new directors. It also oversees the compliance function and receives reports from the compliance officer, including events of non-compliance, if any.

New appointees are recommended to the board for approval, subject to the approval of the Registrar of Banks. To facilitate continuity of the board, one third of the board retires at each annual general meeting and has to date been re-elected by shareholders.

Chairman/Chief Executive Officer power balance

The roles and responsibilities of the Chairman and Chief Executive Officer are separated. Capitec has a Non-executive Chairman with proven business acumen and of good standing in the South African business community.

He participates actively in the selection of board members and ensures that all directors are given opportunity to add value to the formulation of the strategy of the company.

The Chief Executive Officer’s responsibilities include:

• Developing and implementing company strategy
• Taking initiative in managing relationships with stakeholders and the investment public in general
• Acting as the chief spokesperson on behalf of the company.

The performance of the Chief Executive Officer and the board as a whole, including its committees, is appraised at least annually.

Directors’ selection, orientation and training

A formal orientation programme, consisting of extensive discussions on the company’s business environment and operations, is used to introduce the company to new directors. In addition, directors are provided with company records such as copies of board minutes, applicable legislation and board committee charters. Board meetings include presentations by management on selected topics to enhance board members’ understanding of the business of the Group. Directors are invited to attend presentations by independent specialists on matters relevant to the board in the Group’s environment and, when considered necessary, such presentations are arranged in-house. Directors also attend industry-specific training, inter alia, as initiated by the Registrar of Banks.

 

Directors’ remuneration

The Remuneration and Human Resources Committee, comprising one non-executive director and at least two independent non-executive directors, considers matters relating to director and executive remuneration as well as that of employees. This committee executes its responsibilities in accordance with the terms and references incorporated in the board-approved remuneration committee charter. Remuneration of directors is disclosed in the directors’ report.

 

Board oversight

To assist the board in reviewing processes and procedures to determine the effectiveness of internal systems of control in the Group, the board has established committees with specific mandates to cover all aspects of the Group’s business. These committees report their findings to the board, thereby ensuring that the decision-making capability of the board and the accuracy of its reporting and financial results are maintained at high levels. Information assessed by the board comprises financial as well as non-financial information and enables the board to assess the adequacy and efficiency of corporate governance and internal controls in operation. This information is generated from internal as well as external sources, an example of the latter being participation in a survey conducted by the Ethics Institute of South Africa.

 

Board committees

The board has established various subcommittees such as the Executive Management, Directors’ Affairs, Audit, Remuneration and Human Resources, and Risk and Capital Management committees, each with an approved charter containing terms of reference for these committees. Further particulars on each of the committees are set out under the risk framework and Annexure B.

 

Board/Director evaluation

The Directors’ Affairs Committee meets at least twice a year to assess, amongst other things, the skills needs of the board. The committee feels satisfied that the board composition currently represents an adequate mix of skills and diverse backgrounds and that the board and the individuals comprising same, fulfil their respective functions adequately.

 

Dealing in securities

The board has approved a policy in accordance with the JSE Listings Requirements in terms of which directors, senior management and employees with access to management reports are required to obtain clearance to deal in the shares of the company prior to transacting.

This policy also bars any trading in the shares of the company during a prohibited period; standard closed periods are year-end up to publication of year-end results and at half-year up to publication of interim results. Emphasis is placed on proper and correct declaration of interest by directors in compliance with relevant legislation, including their shareholding in the company. A register of directors’ and senior managers’ interests is circulated at every board meeting and signed by all members present.

Company Secretary’s role

The Company Secretary administers corporate governance within the company, supports the Chairman in ensuring the effective functioning of the board and provides the board and directors individually with guidance on the proper discharging of their responsibilities. As such the Company Secretary:

• Informs the board of relevant legislation
• Makes information on the company available to board members
• Ensures compliance with statutory and regulatory matters
• Acts as primary point of contact with shareholders.

Reporting

The annual and interim financial results, as well as public regulatory disclosures, are submitted to the Audit Committee for consideration and recommendation to the board for final approval.

The Audit Committee’s mandate includes the authority to determine whether or not the interim report should be subject to an independent review by the auditors.

The facts and assumptions used by the board to assess the going concern status of the Group at each year-end are recorded and submitted annually, in terms of the Banks Act (Act 94 of 1990), to the Registrar of Banks.

Audit Committee

The Audit Committee is chaired by an independent non-executive director with years of experience in banking. The Chairman of the board is not a member of the Audit Committee. The Audit Committee derives its authority and responsibilities from a board-approved charter with which it has complied during the year under review.

The external auditors attend all Audit Committee meetings. Committee meetings are structured in a manner that provides for the committee to meet with the external auditor without senior management being present.

The Audit Committee considered and expressed, at its meeting held on 27 January 2009, its satisfaction with the experience and expertise of the Financial Director of the Group.

The Audit Committe undertakes the prescribed functions (in terms of section 270A(1) of the Companies Act 1973, (Act 61 of 1973) on behalf of subsidiary companies.

Audit

Both the external auditors and Internal Audit department of the Group observe the highest levels of business and professional ethics and independence.

The company and management encourage regular coordination and consultation between external and internal auditors to ensure an efficient audit process.

External audit

We are privileged to have a prestigious international firm, PricewaterhouseCoopers Inc, as our external auditors. Capitec believes that they have observed the highest level of business and professional ethics and has no reason to believe that they have not at all times acted with unimpaired independence.

External audit fees are set annually in advance by the Audit Committee in a manner which should not impact on the scope of the audit.

Non-audit services rendered by our external auditors are limited to ad hoc tax advice and other assurance-related services within the parameters of a policy approved by the Audit Committee limiting such expense to 40% of the annual audit fee. Details of fees paid to the external auditor are included in Note 25 of the annual financial statements of the 2009 Annual Report, together with details of non-audit services provided and the fees paid in respect thereof.

Rotation of the engagement partner responsible for the audit happens every five years. The external auditor attends the annual general meeting of shareholders.

Internal Audit

Status of Internal Audit
The company has an independent Internal Audit department with direct access to the Chairman and reporting to the Chief Executive Officer. Apart from own employees it functions on a co-sourced basis with KPMG as external consultants (they replaced Deloitte after year-end) and in accordance with a charter approved by the Audit Committee.

The charter formally defines the purpose, authority and responsibility of internal audit activity and is consistent with the Institute of Internal Auditors’ definition. The Head of Internal Audit attends all Audit and Risk and Capital Management Committee meetings and submits a report to each Audit Committee meeting.

Role and function of Internal Audit
The internal audit function focuses on adding value to the operations of the Group. To this end it emphasises:

• Adherence to company policies and procedures
• Prevention of theft and fraud
• Production of quality management information

Scope of Internal Audit
The department annually submits a coverage plan to the Audit Committee for approval. The scope of this plan encompasses the entire business of the Group and is drafted with the strategic aim of the Group in mind. In our developing environment, great emphasis is placed on implementation and efficiency of systems. In addition, the operational environment is closely monitored and assurance derived that controls are functioning adequately. Increased emphasis is placed on development of centralised monitoring. In this process, any deficiency detected in governance is referred to management for action.

Risk management framework and responsibility

The Group views risk management as a measure of ensuring a responsible return on shareholders’ equity. Ultimately, the board remains responsible for risk management. To assist them in performing this duty, the Group is managed through a system of internal controls functioning throughout the entity so that an awareness of risk pervades every aspect of our business and is seen as the responsibility of each and every employee of the Group.

The board has established a Risk and Capital Management Committee, chaired by an independent non-executive director. The committee has a formal charter in accordance with which it assists the board in reviewing the processes followed to identify risk and consider such risks in the Group environment.

The committee also assists the board in ensuring that risk assessment is an ongoing process and that a formal risk assessment is undertaken at least quarterly.

Subcommittees, comprising executives and senior management, have been established to deal in a structured manner with specific risks facing the company:

• Credit Committee – credit risk
• Assets and Liability Committee (ALCO) – interest rate, market, liquidity, counterparty, currency and capital adequacy risk
• Operational Risk Committee (ORCO) – technology, compliance, legal, human resources, reputational, operational and regulatory risk.

 

RISK AND CAPITAL MANAGEMENT

Risk management and capital management are directly linked.

Risk capital represents a reserve for those risk exposures where, after applying cost-effective risk management techniques, residual risk remains. Residual risk exists, given the inherent uncertainty related to expectations of the future, the potential for unexpected losses as well as losses expected to occur in the future not fully captured, accounted and provided for in terms of International Financial Reporting Standards (IFRS).

In addressing capital matters, the Group manages both the supply and demand factors that impact capital adequacy. Supply-side risk is the risk related to procuring appropriate capital resources at appropriate pricing and times to fund operations and meet the stipulated requirements of regulators and rating agencies. The management of demand-side risk (risks impacting negatively on earnings and capital) is the traditional risk management side of the business. Management of demand-side risk also involves monitoring the growth in risk-weighted assets which drives the growth in the regulatory capital requirement.

Capital management

The Group’s principal policies when managing capital are:

• To address the expectations of shareholders, and so optimise business activities to ensure that return on capital targets are achieved through efficient capital management, while ensuring adequate capital is available to support the growth of the business.
• To ensure that the Group holds sufficient risk capital, including capital to be held as a buffer for unexpected losses to protect shareholders and depositors, to assure the sustainability of the Group through the business cycle. This view is consistent with the Group’s long-term strategy of building value.

The above two principles counterbalance each other by aiming to maximise returns to shareholders, but not at the expense of sacrificing the requirements of other stakeholders.

This approach safeguards the long-term sustainability of the Group and its ability to continue as a going concern so that it can continue to provide satisfactory returns for all its stakeholders. Implicit in this responsible approach is compliance with the capital requirements of the Banks Act and Regulations thereto (Regulations) and the maintenance of a strong capital base to support the development and growth of the business.

The Capitec Internal Capital Adequacy Assessment Process (CICAAP) addresses the sufficiency of capital during a downturn in the business cycle: Typically, capital supply is less due to losses or lower appetite for capital issues at lower prices, in an economic downturn. Typically, capital demand is higher as risk-sensitive measures will demand more capital reserving, for example deteriorating credit experience.

 

Capital risk governance

ALCO considers reports on the capital status of the Group on a monthly basis. ALCO reports to the Risk and Capital Management Committee in terms of the risk management framework. Capital adequacy and the use of regulatory capital are reported monthly to the South African Reserve Bank, in line with the requirements set out in the Regulations.

 

Capitec Internal Capital Adequacy Assessment Process (CICAAP)

In the achievement of its policy objectives the Group conducts a CICAAP on an ongoing basis, which drives the Group’s position on capital management matters. The CICAAP addresses the management of capital or solvency risk and the risks arising from the procyclicality of the Group’s specific business operations through the economic cycle.

The CICAAP reviews the historical, current and future capital positioning of the Group both from a regulatory and management or internal capital perspective. An essential element of the process includes forecasting the Group’s capital supply requirements, including “stressing” the expected forecast to determine the sufficiency of capital in a downturn of the economic cycle as, typically, regulatory capital demand requirements increase, whilst qualifying capital supply slows down or decreases in times of economic downturn. Part of the process then involves determining appropriate management actions to address any anticipated capital needs to weather a downturn in the cycle.

Risk management is an integral element of the CICAAP given the interrelationship between capital and risk management. As such, management considers the capital required to underwrite the risks of the business. This is assessed both before and after applying risk management and risk mitigation techniques so as to determine the outstanding residual risk and related capital reserving requirement.

Broad participation by management

The CICAAP involves broad-based participation from all the key risk owners in the Group and it is subject to review by internal audit and relevant external consulting specialists who benchmark our process against best practice.

 

Basel ll calculation methods for credit and operational risk capital

The CICAAP involves assessing capital from a business and regulatory perspective. The regulatory capital requirement is calculated using a percentage applied on a base; that base being the Group’s risk-weighted assets. There are various methods used for the calculation of risk-weighted assets in terms of the Regulations. As at the year-end reporting date Capitec’s calculations of risk-weighted assets for credit and equity risks in the banking book were governed by the application of the Standardised Approach, whilst its calculation of operational risk was governed by the Alternative Standardised Approach (ASA) [2008 Basic Indicator Approach (BIA)]. In terms of the ASA, the Group operates a mono-line banking business, a portfolio of retail banking assets. All other ancillary assets exist to support this business. In terms of the ASA, a factor of 0.0525 is applied to the average outstanding financial assets for the past three years, to arrive at a risk-weighted equivalent to which the minimum capital adequacy percentage is applied, to calculate the capital requirement. This result is subject to a minimum requirement that operational risk capital shall constitute at least 12% of the total regulatory capital requirement, calculated for all risks, in terms of the Regulations for minimum capital. Quantitative information on capital adequacy is presented below and in Note 30.6 of the Group’s annual financial statements.

 

In considering the capital requirement for credit risk, from a management perspective, the Group assesses what outstanding losses, i.e. losses not written off or provided for, exist. These are typically the future and unexpected losses not captured in terms of the IFRS framework. To stress test the sufficiency of capital, statistical projections are made, on a product level, using expected loss percentages. These are adjusted using various factors that address a hypothetical future downturn in the economy, its impact on key arrears drivers and the likely impact of management actions to address any potential for deterioration in credit quality in the client base. These projections are designed to also capture the unexpected losses inherent in current and projected portfolio positions.

 

Developments

During the year under review we made a successful application to apply the ASA approach for operational risk which resulted in an improvement in the capital adequacy ratio from 36%, using the BIA at 29 February 2008, to 53% if the ASA had been used. Use of the approach became effective as of 1 April 2008.

Our current internal capital calculations indicate that we are more than sufficiently capitalised from a business and regulatory perspective. However, we can achieve greater regulatory capital efficiency by applying a more advanced approach to quantifying credit risk management in terms of the Basel II methodologies.

This approach is known as the Advanced Internal Ratings Based (AIRB) approach. We have begun investigations into this approach and its requirements and the composition of our current processes. The aim is to align these to support a future application for use of this approach in the capital calculation.

Restrictions on transfer of capital

As the operations of the Group are in South Africa, the only restrictions on the transfer of capital of the Group relate to the statutory limitations on investments in certain associates in terms of the Banks Act.

 

Consolidation for the purposes of determining Group regulatory capital

Consolidation for regulatory purposes relates to the consolidation of Capitec. All subsidiaries are consolidated for both accounting and supervisory reporting purposes in the same way. All companies are incorporated in the Republic of South Africa. The registered banking subsidiary of the Group, Capitec Bank, has no subsidiaries.

The main consolidation entries giving rise to a difference between Group and bank capital relate to share options, which are reflected on an equity-settled basis in the Group but on a cash-settled basis in Capitec Bank in terms of IFRS 2.

 

Risk management

The biggest risks facing the Group reside in credit extension, liquidity management, information technology and human resources. The emphasis thus tends to fall in these areas. However, to enhance shareowners’ and other stakeholders’ interests, all risks are mitigated to an acceptable level relative to the return produced by the activity concerned. This remains a central theme of the manner in which the Group conducts business. The company operates in a structured manner with defined processes and procedures enabling risk assessment within a controlled environment. Existing controls are assessed and, if necessary, adjusted. Thereafter reports are generated at regular intervals to enable monitoring of risk levels.

The Group’s concept of day-to-day financial risk management extends beyond the IFRS accounting definitions of financial risks and includes the following: credit, liquidity, interest rate, equity risk in the banking book, currency, solvency or capital risk. The Group does not have market or counterparty risk, as understood in terms of the Regulations, as the Group does not conduct trading activities as part of its business strategy. Those risks not already addressed above are discussed:

Retail credit risk

Credit risk management governance

Credit risk management is overseen by the Credit Committee, a subcommittee of the Risk and Capital Management Committee. The composition of the Credit Committee includes a cross-section of management:

• Chief Executive Officer
• Executive: Risk Management
• Financial Director
• Chief Credit Officer
• Executive: Operations
• Executive: Business Development
• Credit managers

The Credit Committee formally meets on a monthly basis to consider the activities of the Credit division and operations, to consider and debate results from new business, arrears and provisioning analysis, as well as regulatory compliance, and to set credit policy going forward.

Representation at the weekly executive credit meetings is broad-based and includes the majority of the Credit Committee members. These meetings are held every Monday afternoon and also include key senior members from the Financial Management division.

At the first meeting after month-end, issues such as the previous month-end arrears and events listed in the credit events log that had or would be expected to have an impact on arrears are discussed. These items are then considered in the evaluation of the month’s impairments figure.

At every weekly meeting arrears events, arrears trends, concentration risk, training requirements, technical requirements, change management issues, scoring model shifts and new business referral trends are discussed, actions agreed, implemented and monitored.

Credit policies

Policy changes are recommended to the monthly Credit Committee meeting as and when required. The Credit Committee reviews the various policies at least annually.

 

Risk acceptance

New business – quality of new businesss
We utilise vintage graphs to measure the quality of credit screening as the trends indicate improvement or deterioration in each month’s sales (a tranche).

We track the cumulative arrears figures at 90 days or handed-over status (deceased, under administration, etc.) for each tranche and divide that into the total original instalments payable (late delinquency).

We also track early delinquency trends per tranche in the form of cascade matrixes and graphs (same as vintage graphs but also for arrears categories earlier than 90 days plus arrears).

Credit-granting criteria

We base our credit acceptance decision on BAS – the applicant’s:

Behaviour (willingness to pay)
The willingness to pay is established externally by enquiries performed and bureau-related policy rules. This information is supplemented internally. Fraud checks are included in the automated bureau enquiry.

Ability to pay
The ability to pay is assessed after authentication and capturing of certain information (system-driven).

Source of payment
The source of payment is also established from the salary slip details, bank statement and again when confirming employment.

Process and policy changes

We have proactively made the required changes in our credit risk management model to maintain and improve levels of arrears against the backdrop of a deterioration in the economic climate and evident growth in volumes and exposure due to the rollout of our longer-term products (18-month and 24-month loans in October 2006 and 36-month loans in October 2007).

We have enhanced the areas of scoring, affordability assessments, paydate management, collections and the end-to-end automation of our processes.

Risk control

Credit Monitoring
Our Credit Monitoring department tracks arrears to ensure operational efficiency and compliance with the granting and follow-up policy by identifying changes in trends and variances from tolerance levels.

Arrears percentages are reported daily and are evaluated on product, branch, industry, regional, operational (provincial) manager and national levels. Branch performance and targets include arrears targets, appropriately balanced with sales and profit targets.

• Roll rate analysis
  Arrears trends are monitored using observed roll rates derived from payment profiles generated by the loans system (the same payment profiles are submitted to the National Loans Register, soon to be the National Credit Register). These payment profiles form the basis of our loan impairment models and the unexpected loss/CICAAP model. Variations of the roll rate tables are utilised to understand the level of rehabilitation on accounts in arrears and to derive new credit-granting rules and collection strategies.
• Credit events log
  All identified credit events are registered on a central credit events log and communicated continuously to branches and operational management.
• Pay date management
  Pay dates for large employers are set centrally and pay dates are confirmed proactively.

Credit control

• Collection method
  Capitec utilises the regulated NAEDO system to collect instalments on the pay dates of clients who do not deposit their salaries with the bank. Collections are as mandated by our clients in terms of their loan contracts; collections are made from their external bank accounts or clients can deposit their salary with Capitec and collections are then made from their Capitec accounts under the same conditions as external NAEDO debits.
• Daily collection processes
  Branches proactively reconfirm the pay dates of employers. Success is evaluated on the morning of pay date. Follow-up on early-stage arrears is performed by the branches.
• Late-stage collection
  Late-stage collections are performed centrally from an internal credit call centre.

As required by the Banks Act and Regulations (which incorporate Basel II):

(1)	Average gross exposure is calculated using daily balances for the last six months.
(2)	Items represent exposure before the deduction of qualifying impairments on advances.
(3)	Represents exposure after taking into account qualifying collateral. Amounts are shown gross of impairments.
(4)	‘Corporate’ and ‘Bank’ exposures were calculated based on an average using daily balances for the respective year-end months. All other items are the balances at year-end.
(5)	The risk weightings reflected are the standard risk weightings applied to exposures as required by the Regulations (as reflected in the table of Rating grades and related risk weights) in terms of the Standardised Approach to credit risk. Where the Regulations refer to credit ratings, the Group applies Fitch international grade ratings for all exposures to determine the relevant risk weighting in line with the Regulations’ mapping requirements. Refer to Notes 23 and 30.6 in the annual financial statements, respectively, for information on movements on loan impairments and risk-weighted assets. All the impairments shown in Note 6 to the annual financial statements relate to the retail personal loans portfolio.

The following table of risk weights is applied in terms of the standardised approach to credit risk for portfolios other than retail. Ratings are not applied to retail exposures. A standard risk weight of 75% is applied to performing retail exposures whilst impaired exposures attract a standard 100% risk weight.

Liquidity risk

The Group manages liquidity cautiously and conservatively. It operates an uncomplicated liquidity profile with a preference for long-term, fixed-rate funding. The Group has exposure to funding liquidity risk but not to market liquidity risk as the Group does not conduct a trading operation. The management of liquidity risk takes preference over the optimisation of interest rate risk.

 

Liquidity risk governance

Liquidity risk is managed by ALCO in terms of the Group risk framework. ALCO comprises broad representation by executive and senior management and meets monthly to consider the activities of the treasury desk which operates in terms of an approved treasury management policy and in line with approved limits. The Group also has the benefit that it has an uncomplicated structure – a single treasury desk with a direct reporting line to the Financial Director in line with the general Group ethos of flat reporting structures. A separate back-office structure is in place to control and monitor all treasury activities.

ALCO receives reports on a monthly basis of daily balances on ATMs and funds in transit with cash management service providers, teller cash and money market balances. Other reports include a cash flow forecast, treasury desk funding maturity ladder, asset-liability matching, deposit concentrations, progress on funding initiatives, business as usual maturity and contractual maturity reports as well as minimum liquid asset and reserve balance compliance reports. Management also prepare reports on the number of transactions and rand value volumes transacted on the various payment mechanisms that the Group is party to, which assist in understanding the related day-to-day and intra-day cash flows.

Principal policies

Compliance with the treasury management policy results in a low-risk liquidity structure. We are not exposed to the uncertainty that accompanies the use of corporate call deposits as a funding mechanism, and our asset structure, whilst growing in term, is still relatively short-term in nature. The principal risk management policies governing the management of liquidity risk as defined in the Asset and Liability Management (ALM) policy are:

• Wholesale deposit funding is limited, in the main, to contractual maturities of two months or more.
• Utilisation of short-term retail deposit funding is limited to funding short-term assets. Surplus retail funding is maintained in call accounts with highly rated South African banks.
• Adequate liquid assets must be maintained in terms of the Banks Act Regulations to fund the liquid asset requirement and the reserve account and to maintain collateral for clearing balances on the South African Multiple Option Settlement (SAMOS) system account.
• Treasury’s use of interbank facilities is restricted in line with specified limits.

Daily cash management

The Group’s daily liquidity requirements are managed by forecasting daily funding requirements. This is achieved by forecasting liquidity commitments which can be summarised in two broad categories: those which are considered as day-to-day flows and those that relate to large singular obligations.

Daily rollovers and withdrawals by the retail market, growth in the loan book, inflows from settlements adjusted for expected default and cash-in-transit items are forecast. These are combined with the scheduled contractual cash inflows and outflows in terms of the wholesale funding programme, retail fixed deposits and periodic commitments such as dividend and tax payments.

Treasury management maintains regular daily contact with the central branch management office or Business Support Centre (BSC) to manage the in- and out-of-branch ATM requirements. Teller cash is maintained at a minimum. The forecasting is supported by behavioural modelling conducted to determine business as usual cash flow requirements, including cash stress points in any given month. The modelling is adjusted for seasonal variations based on historical experience as adjusted for expectations around projected growth and current market dynamics.

The treasurer has regular contact with all the Group’s large wholesale depositors to understand their intentions regarding the rollover of wholesale deposits and negotiation of funding from time to time.

The treasury desk maintains portfolios of highly liquid assets that can be liquidated to meet unexpected variances in forecast requirements. In line with the Group’s preference for long-term fixed-rate funding, the treasury actively pursues medium- and long-term funding opportunities to fund the budgeted growth in the activities of the Group. During the year under review the Group also launched a retail fixed deposit to further diversify funding sources whilst also improving the matching of funding maturities to assets.

Deposit management

Management take care in assessing the relative permanency and volume exposure of various funding sources, be they wholesale or retail. For fixed-term funding, efforts are directed towards managing rollover risk, whilst for demand savings deposits attention is focused on monitoring and managing the “core” or “stable” element within the retail demand savings deposit base.

We utilise statistical techniques to estimate this core having due regard for the fl uctuations in day-to-day cash requirements, the related supporting historical data, as well as our future expectation of daily cash flows. The established result is then subject to a review by senior management and the core is established at a conservative percentage of the empirically determined result. Our internal definitions of core and fl uctuating deposits are formally authorised by ALCO.

Interest rates are reviewed at least monthly to ensure that deposit rates remain competitive. Treasury management assesses concentration risk within the deposit portfolio and maintains a diversified funding base. Treasury management constantly reviews the efficient utilisation of cash resources and evaluates new liquidity initiatives to improve the liquidity profile of the Group.

Liquidity contingency planning

ALCO receives, on a monthly basis, a stress mismatch report which simulates a stress scenario based on the current asset and liability structure of the Group for the reporting month. The report also considers the available sources of stress funding to address any strain on the cash flows of the Group that may occur.

In addition, the Group also has a documented contingency funding plan (CFP) that specifies qualitative and quantitative measures that must be monitored to identify early warning indications of liquidity stress. The plan then provides management with a menu of possible actions to address potential liquidity threats. These actions cover necessary changes to ALM strategy and communications with stakeholders. The CFP operates in conjunction with the treasury management and ALM policy to ensure a coordinated approach to liquidity management.

Refer to Note 30.5 on page 95 of the annual financial statements for quantitative detail on the Group’s static, contractual liquidity maturity gap analysis.

Interest rate risk

The Group currently has a conservative interest rate profile and is less interest sensitive than the general banking industry due to a lower correlation of Group asset and liability rates to repo.

The Group’s equity and profit and loss have limited uncontrolled exposure to changes in floating and adjustable interest rates. Most of the Group’s assets and liabilities have fixed or discretionary interest rates. Significant liabilities with floating or adjustable interest rates and long terms are swapped to fixed rates. The Group does not trade in fixed-income investments.

Interest rate risk governance

ALCO meets formally at least monthly to, inter alia, consider the sensitivity of the Group to interest rate movements and to review the results of management’s analysis of the impact of interest rate movements, including the results of model outputs. ALCO also receives information on yield curve developments, money market interest rates, an economic evaluation with analysis of the likely impact on interest rates and interest rate repricing analysis.

The principal policy governing the management of interest rate risk is that management should avoid taking speculative or trading positions on the banking book. This requires that asset and liability repricing positions are matched as far as possible. ALCO reviews the matching of assets and liabilities on a monthly basis and evaluates the extent of the repricing gaps as a percentage of assets against specific risk limits.

The Group uses derivative instruments such as interest rate swaps, where possible and appropriate, to match interest rate sensitivity of liabilities to the asset profile. In a declining interest rate environment the Group’s Treasury Management department may, on approval of the ALCO, swap out fixed rate exposure if the Group is of the view that the environment is entering a period of sustained low interest rates in order to minimise funding costs. ALCO also considers the rates and terms of longer-term funding arrangements in view of the medium- to long-term interest rate environment when negotiating pricing.

Although loan rates are fixed, the regulations to the NCA can have an impact on the pricing of new business. At year-end the highest priced personal loan products over six months were priced 2.2% below the NCA ceilings. A reduction of 1% in the SARB repo rate reduces the ceiling by 2.2%.

Policy requires prioritisation of the management of the value of equity over annual earnings in order to ensure sustainability and ensure an appropriate focus in creating value over the longer term.

The above equity sensitivity is calculated by modelling the impact on equity of parallel interest shifts of 200 bps in the yield curve, both up and down, on the balance sheet. The analysis is performed on a discounted, run-off basis in line with the requirements of the Banks Act. The increase in the equity sensitivity is primarily due to the growth in the long- term funding book.

Equity risk in the banking book

Capitec does not deal or maintain a proprietary position in equity investments. Equity investments in the Group at the 2009 year-end are strategic in nature, being a consequence of normal strategic operational transactions.

All unrealised gains and losses were included in the Group’s income statement. There are no latent unrealised gains or losses on equities not recognised in the income statement and balance sheet.

The Group did not invest in listed equities other than shares in Capitec Bank Holdings Limited, purchased from time to time, by the banking subsidiary, for delivery to participants in the share incentive scheme.

Currency risk

All the Group’s operations are within South Africa. The Group hedges its limited exposure to currency fluctuations which arise on the importation of capital equipment and technological support services. The Group also has some currency exposure on its strategic investments in Visa and MasterCard.

 

Hedging

The Group’s authorised use of derivative instruments is restricted to their use in risk mitigation applications.

The Group uses forward foreign exchange contracts (FECs) to cover obligations relating to capital equipment, technology and technology support services needed for the core banking activities. FECs are purchased to exactly match the total value of the underlying foreign currency commitment.

With the exception of FECs, use of derivatives must first be approved by ALCO prior to transacting.

During the year, in line with ALM policy and particularly given the recent market turmoil and uncertainty, ALCO approved the use of interest rate swaps to hedge against upward movements in fl oating rate bond interest payments. Further information on interest rate hedging strategy is discussed under interest rate risk and in Note 30.3 on page 94 and Note 44 on page 107 to the annual financial statements.

Operational risk

Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events. This definition includes legal risk but excludes strategic and reputational risk.

 

Operational risk governance

Operational risk is managed in terms of the Group’s Operational Risk Framework (ORF), which is a subset of the risk management framework. The Operational Risk Committee (ORCO) has been established to oversee the operational risk profile of the Group. The role of the ORCO is to direct, govern and coordinate operational risk management processes in the Group, in accordance with an approved policy that sets out the expectations and responsibilities relating to operational risk management.

The heads of the Forensic, Internal Audit, Legal and Compliance and Operational Risk Management units are members of the ORCO and provide independent monitoring. ORCO also addresses the aspect of technological risk and both the Executive: Information Technology and the Head of Risk of the Information Technology division are members of the Operational Risk Committee.

Management of operational risk

The management of operational risk is inherent in the day-to-day execution of duties by management and always has been a central element of the management process.

A dedicated Operational Risk Manager is responsible for policy, providing guidance in terms of best practice, ensuring consistent implementation and reporting of material exposures or trends to the board and regulatory authorities. Line management accepts accountability for the identification, management, measurement and reporting of operational risk.

The three primary operational risk management processes in the Group are risk assessment, loss data collection and the tracking of key risk indicators. The results of these processes are utilised to raise awareness of operational risk management and to enhance the internal control environment with the ultimate aim of reducing losses.

Insurance programme

The Group maintains a comprehensive insurance programme to cover losses from fraud, theft, professional liability claims, damage to physical assets and the cost of business interruption. The opportunity cost of lost revenues is not covered.

 

Fraud prevention

The Group has a zero-tolerance approach pertaining to fraud, theft and dishonesty. Information regarding any irregularities received from employees, management or our independent fraud hotline, Tip-Offs Anonymous, is investigated by our Forensic Services department. Fraud awareness campaigns, which include e-newsletters, posters and presentations to all employees, are continuously presented throughout the year.

Various channels are available to employees and clients alike for disclosing malpractice in the workplace, including:

• Toll-free number
• Client Care Centre
• Website

Occupational health and safety

The Head of Physical Security oversees the drafting, implementation and maintenance of policies and procedures required to ensure safe working conditions at the Group’s premises.

 

Business continuity and disaster recovery planning

The Group has a documented business continuity and disaster recovery plan (BCP) that documents processes to be followed should an extreme event occur. The BCP is tested periodically.

 

Compliance risk

The Group defines compliance risk as the risk that the procedures, implemented by Capitec to ensure compliance with relevant statutory, regulatory and supervisory requirements, are not adhered to and/or are inefficient and ineffective. The Group has a Compliance Management System (CMS).

To achieve successful implementation of the CMS, software was sourced to assist with the assessment of compliance risks, with the documentation of controls and with monitoring activities. Compliance champions were identified, appointed and trained to assist the Compliance Officer in addressing compliance in the Group.

Capitec has identified the Banks Act, Companies Act, Financial Intelligence Centre Act, National Payments System Act, Security Services Act and the National Credit Act as key aspects of legislation that should be focused on in terms of CMS activities. This focus achieves a balanced application of compliance activities relative to the ambit of the business of the Group.

Compliance risk is dealt with by the Operational Risk Committee. The compliance officer also submits a report to the Directors’ Affairs Committee as required by the Banks Act.

Reputational risk

Capitec views reputational risk as a function of the management of all other risks and the Group’s communication strategy in the marketplace. If the other risks in the Group are well managed and this is adequately communicated to the market, reputational risk is managed appropriately. In terms of management approach, reputational risk is dealt with by the Operational Risk Committee.

Reputational risk is managed on an ongoing basis through compliance with the disclosure and communication policies of the Group. Disclosure of Group information is made in our annual financial statements, via public statements by authorised spokespersons and through periodic disclosure of information on our website in terms of the Banks Act requirements.

Key accounting policies relevant to the interpretation of risk exposures

The key accounting policies relevant to the interpretation of risk exposures are contained in the Group’s annual financial statements on pages 70 to 77.

 

 

 

 

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