TUTORIAL 5
Final Examination CIA3014 Semester 2, 2022/2023
Question 1
Assume the current date is 28 January 2023.
You are employed as an audit senior at Mark, Hazel, Zack and Co. (MHZ), which is a firm
of ICAEW Chartered Accountants. MHZ is currently conducting the final audit of Fajar
Bank Berhad (Fajar Bank) for the year ended 31 December 2022.
Fajar Bank has previously operated through two lines of business, which include i) loans
to Malaysian banks and ii) mortgages to retail customers within Malaysia. However, in
early 2021, Fajar Bank’s board decided to expand its operations to include a third line of
business, which would involve providing loans to non-Malaysian corporate clients. This
was made possible by including additional experienced members to Fajar Bank’s credit
approval committee.
You have been tasked to commence audit procedures on loans and advances of Fajar
Bank. Some extracts from Fajar Bank’s draft financial statements together with
explanatory notes highlighting outstanding issues have been provided by Keith Lee who
is the Fajar Bank’s finance director (Exhibit).
Keith has informed you that there is an issue with a fixed rate loan that was given to Ando
Bank (Exhibit). Ando Bank paid the interest due on 31 December 2022, but its board has
now informed Fajar Bank that they will not be paying any further interest and only 70% of
the principal will be repaid on the redemption date. The market yield on debt of this risk
class is 6.5% per annum. Keith is worried about how the regulators will perceive the extent
of Fajar Bank’s impairments, given the results of its non-Malaysian loan book, as shown
in Exhibit.
REQUIREMENTS
(a) Explain the correct financial reporting treatment of the loan to Ando Bank in
accordance with MFRS.
(8 marks)
(b) Analyse the quality of Fajar Bank’s loan book in relation to impairments.
(10 marks)
(c) Explain the key audit risks and the related audit procedures to be performed for
each of the three lines of business outlined in the Exhibit:
(i) Malaysian banks (including, but not limited to, Ando Bank’s loans)
(ii) Malaysian retail mortgages
(iii) Non-Malaysian corporates
(14 marks)
(d) Calculate the expected loss for each of the product lines outlined in the Exhibit.
(3 marks)
Total: 35 marks
Exhibit: Fajar Bank’s draft financial statements for the year ended 31 December
2022 with explanatory notes highlighting outstanding issues
Loans and advances disclosure notes
31 Dec 2022 31 Dec 2021
RM’000 RM’000
Gross loans and advances to Malaysian banks 251,974 251,412
Impairment allowance (4,304) (306)
Net loans and advances to Malaysian banks 247,670 251,106
Gross mortgage loans to Malaysian retail clients 1,003,082 882,460
Impairment allowance (13,916) (32,160)
Net mortgage loans to Malaysian retail clients 989,166 850,300
Gross loans and advances to non-Malaysian 258,718 52,996
corporates
Impairment allowance (29,994) (4,436)
Net loans and advances to non-Malaysian 228,724 48,560
corporates
Loans by impairment stage at 31 December 2022
Loans and advances
Malaysian Malaysian Non-
banks retail Malaysian
mortgages corporates
RM’000 RM’000 RM’000
Loans with no significant increase in
credit risk (Stage 1)
Not past due 242,876 799,902 59,130
Up to 30 days past due 1,300 15,400 71,480
Impairment allowance (48) (400) (130)
Net stage 1 loans 244,128 814,902 130,480
Loans with a significant increase in
credit risk (Stage 2)
Up to 30 days past due 1,280 10,740 21,100
30 days or more past due - - 14,800
Impairment allowance (12) (162) (896)
Net stage 2 loans 1,268 10,578 35,004
Credit impaired loans (Stage 3)
Individually assessed gross impaired 6,518 39,960 80,642
loans
Individually assessed impairment (4,244) (2,648) (24,924)
allowance
Net individually assessed stage 3 2,274 37,312 55,718
loans
Collectively assessed gross impaired - 137,080 11,566
loans
Collectively assessed impaired - (10,706) (4,044)
allowance
Net collectively assessed stage 3 - 126,374 7,522
loans
Gross loans and advances 251,974 1,003,082 258,718
Stage 1 and 2 impairment allowance (60) (562) (1,026)
Stage 3 individually assessed (4,244) (2,648) (24,924)
impairment allowance
Stage 2 collectively assessed - (10,706) (4,044)
impairment allowance
Net loans and advances 247,670 989,166 228,724
Explanatory notes
1. Loan notes – Ando Bank
Fajar Bank purchased 100,000 RM100 3% loan notes which were issued by
Ando Bank, on 1 January 2020 for a total of RM9,036,300. These loan notes are
due for redemption at their face value on 31 December 2029. Ando Bank had
been making payments as per the agreement until 31 December 2021.
Fajar Bank uses the advanced internal ratings based (AIRB) approach to
calculate credit risk capital requirements. Under the AIRB model, the
measurement of Ando Bank’s credit risk grade was comparable to an external
ratings agency grade ABB. However, Ando Bank’s loan notes have recently
been downgraded by Standard & Poor's to BBB.
The loan notes, measured at amortised cost, had an annual effective interest
rate of 4.2% on 1 January 2020.
2. Mortgage loans to Malaysian retail clients
Fajar Bank has large exposures in the Malaysian mortgage market, and we are
currently analysing the impact that increasing property prices and fluctuations in
interest rates could have on our portfolio of mortgages.
3. Loans and advances to non-Malaysian corporates
Starting from the beginning of 2021, Fajar Bank has formulated a plan of
extending loans to corporate entities outside Malaysia. We are continuously
keeping track of the broader economic situation in the locations where we lend.
However, there has been some uncertainties surrounding the economic
conditions in certain regions lately.
4. For the Malaysian portfolios, Fajar Bank expects that it will recover only 60% of
its exposure if the borrower defaults. The likelihood of this occurring is 0.3% for
mortgages to retail customers and 0.1% for Malaysian bank customers. In
relation to lending to non-Malaysian corporates, Fajar Bank expects that it will
recover only 40% of its exposure if a borrower defaults and, the likelihood of this
occurring is 0.5%. In light of this, Fajar Bank’s senior management believes that
the expected losses across all portfolios to be significantly higher than the
previous year.
