Commonwealth Bank of Australia
Annual Report 2008

Plain-text annual report

Determined to offer strength in uncertain times. Annual Report 2008 Commonwealth Bank of Australia ACN 123 123 124  Chairman’s Statement Chief Executive Officer’s Statement Highlights Group Performance Analysis Retail Banking Services Premium Business Services Wealth Management International Financial Services Other Shareholder Investment Returns Presentation of Financial Information Integrated Risk Management Capital Management Description of Business Environment Sustainability Corporate Governance Directors’ Report Five Year Financial Summary Financial Statements Income Statements Balance Sheets Statements of Recognised Income and Expense Statements of Cash Flows Notes to the Financial Statements Directors’ Declaration Independent Audit Report Shareholding Information International Representation Contact Us Corporate Directory Contents 2 4 6 10 14 16 18 22 25 26 27 28 30 37 40 43 50 79 81 82 83 84 85 87 223 224 226 230 231 232 Chairman’s Statement Introduction The 2008 financial year has been a challenging one for the global financial services sector. The continued fall-out from the ongoing volatility in global credit markets and slowing economic growth have combined to place significant pressure on the financial performance and capital positions of a large number of international banks and financial services organisations. In this environment, the Commonwealth Bank of Australia (“the Group”) has performed well, delivering solid profit growth and another record dividend. The Group remains in a strong financial position with a continued focus on delivering on its vision of becoming Australia’s through finest excelling in customer service. financial services organisation Results The Group’s statutory net profit after tax for the year ended 30 June 2008 was $4,791 million - an increase of 7% on the prior year. Cash net profit after tax grew to $4,733 million, an increase of 5% on the prior year while underlying net profit after tax, which excludes shareholder investment returns, increased 7% to $4,746 million. This solid result was achieved in a difficult environment with the Group incurring additional funding costs during the year caused by ongoing volatility in global credit markets. In addition, loan impairment expense increased $496 million on the prior year driven by increased corporate sector provisioning. Key financial performance highlights for the year included: • A record final dividend of 153 cents per share taking the total dividend for the year to 266 cents per share – an increase of 4%; • Solid growth in Banking income of 8%, with average interest earning assets up 16% to $386 billion and net interest margin contraction of six basis points; • Funds management income increased by 23%, reflecting growth in average Funds Under Administration of 18% to $194 billion and net gains from asset sales; • Growth in average Inforce Premiums of 18% to $1,511 million supported by strong sales in both life and general insurance businesses; • Operating expense growth of 9% reflecting continued investment in the business to support productivity and growth initiatives as well as the effect of inflation on salary and general expenses; and • Substantially increased corporate loan provisioning levels to ensure sufficient provision coverage is maintained, reflecting market conditions. Cash earnings per share increased 3% on the prior year to 356.9 cents per share. Return on Equity (“cash basis”) remained strong at 20.4%. The Group’s statutory net profit after tax includes the following additional non-cash items: • Gain on the Visa Initial Public Offering of $295 million after tax; and • Amounts have been investment and recognised restructuring of $264 million after tax, relating to the cost of implementation of Core Banking Modernisation and other strategic initiatives. for 2 Commonwealth Bank of Australia Annual Report 2008 Retail Banking Services maintained its solid performance over the year with cash net profit after tax increasing by 8% to $1,904 million. This result was driven by strong volume growth in key product lines, sound credit quality, tight expense management and strategic business investment to promote profitable growth and increased efficiency. These factors helped to offset the negative impact of higher funding costs due to the continued volatility in global credit markets. Premium Business Services delivered double digit income growth of 16% over the prior year, or 17% after adjusting for the impact of the acquisition of IWL in the current year and the gain on sale of the Group’s share in Greater Energy Alliance Corporation Pty Ltd (“Loy Yang”) in the prior year. This result was underpinned by a solid improvement in customer service scores and strong gains in deposit market share. Again, this strong underlying performance enabled the business to offset the negative impacts of higher funding costs and a slowdown in business credit growth in the second half of the year. Increased strategic investment spend, together with higher loan impairment provisioning, resulted in cash net profit after tax growth of 2%. Underlying profit after tax for the Wealth Management business increased by 38% on the prior year to $756 million. This result was largely driven by strong revenue growth in the funds management businesses and gains on asset sales, with second half earnings impacted by a deterioration in trading conditions and weakened investment markets. Wealth Management Funds under Administration (FUA) increased 10% over the year to $185 billion, with positive net flows offsetting falls in the value of Australian and global equity portfolios. Net funds flows for the year were strong at $28.6 billion, driven by: • Solid net flows into the First Choice and Avanteos platforms and Global Equity Funds; and • Short term cash mandates from institutional investors. CommInsure Inforce Premiums increased by 22% on the prior year to $1,250 million reflecting strong sales volumes and continued progress of the Wealth Management cross-sell initiative. International Financial Services cash net profit after tax for the year was $589 million - an increase of 23% on the prior year. After excluding the impact of realised gains and losses associated with the hedge of the New Zealand operations and other foreign currency movements, the underlying growth was 17%. ASB Bank cash net profit after tax for the year was $428 million. Excluding the impact of realised gains on the hedge of New Zealand operations, profit increased 11% on the prior year. In a slowing economy, this was a good result where aggressive competition continued to place downward pressure on margins. Risk Management Over the last several years, risk management activities have deepened at CBA. This could not have come at a better time. The actions of the Board and its Risk Committee helped management guide the Group away from the global excesses affecting many of the world’s major banks. The Group has risk appointed a new Group Executive management, a person with deep international experience. He has been asked to work with the Board, business leaders and the team of risk professionals to increase the value from measuring the Group and its activities on a risk-adjusted basis and then optimising the returns on the risks taken. in charge of The Group is also proud to have these efforts recognised in a different way; the Group has become one of the first banks in the world to be accredited as Basel II compliant in credit and operational risk measurement and capitalisation. It is believed that the Group is one of the first institutions to report full year financial results under Basel II regulatory capital requirements. The way the Group measures and manages market risks inherent in its banking book has also been deemed by APRA as having a high standard, indeed Australia is now the only country to require formal standards of regulatory capital attribution to this important risk. Dividends and Capital The Board declared a record final dividend of 153 cents per share, a 3% increase on the prior year’s final dividend. The final dividend, which is fully franked, will be paid on 1 October 2008. This will take total dividends for the year to 266 cents per share, up 4% on last year. Over the last three years dividends have grown at an annual compound rate of 11%. The Group continues to issue new shares to satisfy the requirements of its Dividend Reinvestment Plan (DRP). During the year dividend and interest payments were also made to the holders of the Group’s various capital securities: PERLS II, PERLS III, PERLS IV, Trust Preferred Securities 2003, Trust Preferred Securities 2006, ASB Capital Preference Shares and ASB Capital No 2 Preference Shares. The Group maintains a strong capital position with the advanced Basel II accreditation resulting in an increase in both the Group’s Tier One and Total Capital ratios, primarily driven by the reduction in risk weighted assets. As a result of Basel II advanced accreditation, the Total Capital ratio increased from 9.82% to 12.08% at 31 December 2007 with the Tier One capital ratio increasing from 7.41% to 8.17%. As at 30 June 2008 the Tier One and Total Capital ratio were 8.17% and 11.58% respectively. The Group’s capital ratios throughout the period complied with both APRA’s minimum capital adequacy requirements (Tier One Capital 4% and Total Capital 8%) and the Board approved target ranges of Tier One Capital from 6.5% to 7% and Total Capital in the 10% to 12% range. During the year the Group undertook the following initiatives to actively manage its capital: • • • • Issue of $1,465 million ($1,443 million net of issue costs) of Perpetual Exchangeable Resaleable Listed Securities (PERLS IV) in July 2007 which qualify as Non-Innovative Residual Tier One Capital; Issue of $709 million of shares in October 2007 to satisfy the DRP in respect of the final dividend for the full year ended 30 June 2007; Issue of $400 million of shares in April 2008 in order to satisfy the DRP in respect of the interim dividend for the full year ended 30 June 2008. A further $98 million in shares were purchased on-market as part of the DRP; In accordance with APRA guidelines, the estimated issue of $609 million of shares to satisfy the DRP in respect of the final dividend for the full year ended 30 June 2008. This estimate is based on a 30% participation in the DRP in respect of the final dividend; and • Issue of the equivalent of $664 million of Lower Tier Two Capital during the first half of the financial year. The strength of the Group’s capital position continues to be reflected in its long-term credit ratings as illustrated on page 9. Chairman’s Statement Outlook the Australian banking The headwinds which industry experienced in the 2008 financial year are expected to dominate the outlook for global banking. Uncertainty and volatility in global credit markets will continue to place upward pressure on funding costs. While the domestic economy remains resilient, credit growth is expected to moderate to slightly below the average of the past decade as the slowing in the economy impacts both consumers and business. The outlook is cautious going into the new financial year and the Group will continue with its conservative stance until signs of improvement in economic conditions are evident. The Group’s capital position is strong with capital levels well above target ranges. A prudent approach has been taken to the management of credit and market risk and we are well provisioned given the economic outlook. While it is clearly a time to be cautious, the Group’s robust financial position enables it to maintain the momentum behind its five strategic priorities and remains committed to further strengthening core businesses should attractive, “on strategy”, investment opportunities arise. Corporate Governance and Board Performance It has been another busy and successful year for the Board and I would like to thank my fellow directors for their contribution and dedication. I would also like to welcome Andrew Mohl who joined the Board as a Non-Executive Director on 1 July 2008. Andrew was Managing Director and Chief Executive Officer of AMP Limited from October 2002 until his retirement at the end of December 2007. He has over 30 years of financial services experience. I am sure his broad business experience and knowledge will complement and enhance the performance of the Board. Conclusion While the 2009 financial year is expected to be a difficult one for the financial services sector the Board is optimistic about the Group’s prospects. The performance in 2008 demonstrated the resilience of our business model and the Group is well positioned going into the new financial year with a strong management team. This strength enabled the Board and management to continue to press ahead with the Group’s strategic agenda and we made good progress in executing the Group’s strategic priorities. Opportunities to further strengthen our business are becoming increasingly evident as the environment becomes more challenging, which presents us with a range of organic growth and acquisition opportunities. However, the Board recognises that the future is uncertain and that in the current environment its first priority is to ensure that the Group continues to maintain its strong financial position. Finally, I would like to recognise the hard work of all of our people and thank our customers and shareholders for their continuing support for the Commonwealth Bank of Australia. John Schubert Chairman 13 August 2008 Commonwealth Bank of Australia Annual Report 2008 3 Chief Executive Officer’s Statement Introduction • Technology and Operational Excellence; The 2008 financial year has been one of the most challenging that the global financial services industry has seen for some time. While the Australian economy continued to perform well, Australian banks and other financial institutions have not been immune from the effects of ongoing volatility in global credit markets and slowing economic conditions. In this environment, banks which are well managed with strong levels of capital and a sophisticated approach the Commonwealth Bank of Australia, have proven resilient. to risk management, like At a time when many international banks have reported substantial losses and have had to raise significant amounts of new capital and cut dividends, the Group has performed well. The Group reported a 7% rise in statutory net profit after tax to $4,791 million. A record final dividend of 153 cents per share was declared taking dividends for the year to 266 cents per share - an increase of 4% on last year. The Group remains in a strong financial position with all its businesses performing well, a favourable funding position and capital ratios above internal target levels. Continued investment in the business has seen further progress made on achieving the Group’s vision to be Australia’s finest financial services organisation through excelling in customer service. Operating Environment The volatility in global credit markets, combined with the slowing of the U.S. economy, has led to an environment of increased uncertainty. As a result, we have seen many previously successful business models come under pressure as domestic interest rates have risen and liquidity has become increasingly constrained. Like many of its peers, the Group sources some funding from the wholesale money markets and while there has been little difficulty meeting long term funding needs, funding costs have increased as market credit spreads have widened. The Group has endeavoured to balance the needs of both shareholders and customers, and therefore additional funding costs during the financial year have partly been absorbed by the businesses and partly passed on to customers. The tightening of liquidity and widening of credit spreads has also affected the Group’s corporate clients, which has led to an increase in the Group’s loan impairment expenses from the historically low levels experienced in recent years. The Group has weathered the recent events well and is appropriately positioned going into the new financial year. The Group believes that the current volatility in global financial markets is likely to continue for some time yet. While the Australian economy is expected to perform reasonably well, credit growth is likely to moderate and credit quality may become more of an issue. In this environment, the Group recognises the need to be prudent, and the importance of maintaining a strong capital base and high levels of liquidity. Strategic Priorities The Group is committed to achieving its vision of becoming through Australia’s excelling in customer service, with our objective to be ranked number one in customer service by June 2010. financial services organisation finest This commitment is reflected in the Group’s new advertising theme “Determined to be Different” which was unveiled during 2008. Simply put, this theme conveys our determination to be better than we have ever been, by making real progress across each of our five strategic priorities: • Customer Service; • Business Banking; 4 Commonwealth Bank of Australia Annual Report 2008 • Trust and Team Spirit; and • Profitable Growth. Customer service remains the Group’s top strategic priority, for which further good progress was made during 2008, including: • Embedding of sales and service culture with a particular emphasis on training our front line people; • Investing in our front line and becoming more accessible to our customers, in particular refurbishing retail branches and opening new branches; increasing customer facing staff in both the retail and business banking areas; opening new business banking centres; and continuing training for wealth management and insurance advisers to drive our cross-sell initiatives; • Continuously reviewing and refining our product portfolio and introducing new and improved products; and • Simplifying procedures to improve responsiveness and speed up approval and processing times. These initiatives are being noticed by our customers, who are telling us that our service is getting better. Specific measures of our successes in improving customer service include: • Main Financial Institution (MFI) customer service scores reaching 10 year highs during the year; (1) • Winning the Money Magazine “Bank of the Year” award; • 24 of the Group’s retail banking products receiving CANNEX 5-star ratings in 2008; • Business Customer Satisfaction, as measured by TNS Business Finance Monitor, recorded the strongest gains in our peer group in the following three categories: businesses with turnover of less than $5 million; businesses with turnover between $5 to $100 million; and Agribusinesses. • FirstChoice was rated the number one platform by financial advisers as measured by Investment Trends; and • ASB Bank again won The Banker’s “Bank of the Year Award for New Zealand” and maintained its position as leader of the major domestic banks in recent customer service surveys. Improving our competitive position in Business Banking remains a strategic priority, with key progress and outcomes during 2008 including: • Increases to the Business Banking “footprint” by employing more business bankers, adding new business and private banking centres and putting business bankers back into selected retail branches; • Continued migration of our business customers to CommBiz, our internet based business banking offering which has now been rolled out to over 90% of customers on outdated platforms; • Acquisition and successful integration of IWL providing strategic entry into the online wholesale broking market; • Launch of the new CommSec Banking Solutions “Better Together” and iPhone share trading option; • CommSec won the AFR Smart Investor’s “Highest Polling Online Broker 2008” award and Trade Choice Awards “Best Margin Lender 2008”; • Strong business deposit market share gains with total deposits up 143 basis points; and • High ratings over a wide range of criteria in East & Partners’ Institutional Banking Markets Programme – April 2008. (1) Roy Morgan Research, MFI, 14+, very or fairly satisfied, six month average Chief Executive Officer’s Statement Technology and Operational Excellence initiatives are designed to deliver greater efficiency across the Group as well as providing competitive leverage through innovative processes and systems. Progress during the year included: • The announcement of a $580 million, four year Core Banking Modernisation project which will replace the Group’s legacy systems and drive improvements in customer service and productivity the introduction of real time straight through processing; through process simplification and • Continued efficiency gains in relation to IT costs, with the Group’s IT efficiency ratio now standing at 13.7%, which is in line with international best practice; • Significant improvements in systems stability, security, • Continued focus on improving Group-wide cross-sell and referral rates, designed to better leverage the significant opportunities in our existing customer base. Sustainability The Group is committed to a range of sustainability initiatives which complement our strategic priorities and objectives. Significant progress has been made during the year on an integrated plan to both manage and track progress on these initiatives, which embrace our people and our customers, as well as the communities and the environment in which we operate. A summary of the Group’s progress to date, future plans and key sustainability metrics are contained in pages 40 to 42 of this Annual Report. controls and disaster recovery capabilities; Conclusion • Introduction of a number of initiatives designed to improve customer service, increase operational efficiency and provide increased security to the Group and its customers. These include NetBank online statements, simplification of home loan processes, introduction of the Mediclear system, Global Markets and CommSec growth initiatives, IWL systems integration, motor underwriting, Wealth Management cross-sell, FirstChoice platform enhancements, implementation and Anti Money Laundering II Basel compliance; and insurance • Restructuring of relationships with IT providers through the execution of new application sourcing agreements designed to deliver greater contestability, flexibility and enhanced delivery capability across the Group’s applications portfolio. The commitment, engagement and enthusiasm of our people go to the heart of our success as an organisation and our ability to deliver on our strategies. Progress on Trust and Team Spirit initiatives includes: • Greater collaboration across the Group and better alignment to the needs of our customers, which is reflected in improvements in customer satisfaction scores, declining customer complaints and increased customer compliments; I am pleased with the financial performance of the Group during the financial year in what has been a challenging period. We have also continued to make good progress in delivering on our five strategic priorities which are key components in achieving our goal of becoming Australia’s finest financial services organisation through excelling in customer service. The headwinds which impacted our performance in 2008 have continued into the new financial year. They will present us with both challenges and opportunities. With the outlook for global financial markets uncertain, and economic growth slowing, we need to remain cautious and ensure that we remain well capitalised and funded. At the same time it is essential that we do not lose sight of our strategic imperatives and balance these short term challenges with the need to continue to invest in creating long term value for our shareholders. The ability to deliver the strong performance we have seen over the past financial year across the Group would not have been possible without the goodwill and commitment of our people. I am very grateful for the high level of support I have received across to be enormously the organisation and continue impressed with the quality and skills of our people. • A continued improvement in employee satisfaction scores, with the Group now placed in the top quartile of companies within Gallup’s worldwide database; It is a great privilege to lead this organisation and I am confident that we can continue to deliver for our people, our customers and our shareholders. • ASB Bank received the Gallup “Great Workplace Award Thank you. 2008”; Ralph Norris Chief Executive Officer 13 August 2008 • Improvements in workplace safety with the Group’s Lost Time Injury Frequency Rate falling by a further 31%; and • Continued support to the community including significant commitments to a range of initiatives such as financial literacy, environmental partnerships and one-off assistance for communities in need of help. The Profitable Growth priority was introduced to ensure that the Group remains focused on identifying opportunities which will ensure continued growth and value creation. Examples of progress during the year include: • Our Indonesian and Chinese businesses, whilst still a relatively small part of the Group, are all performing well; • CFS GAM continues to review a wide range of opportunities to grow its global footprint; • Premium Business Services is seeking to build on its high level of expertise in the Institutional Banking and Global Markets Group by further developing its debt and equity market capabilities and leveraging core competencies into offshore markets; and Commonwealth Bank of Australia Annual Report 2008 5 Highlights Group Performance Highlights Net Profit after Income Tax Statutory basis Cash basis Underlying basis Full Year Half Year 30/06/08 30/06/07 30/06/08 31/12/07 $M 4,791 4,733 4,746 $M 4,470 4,527 4,431 $M 2,420 2,348 2,389 $M 2,371 2,385 2,357 The Group’s net profit after tax (“statutory basis”) for the full year ended 30 June 2008 was $4,791 million, an increase of 7% on the prior year. The final dividend of $1.53 per share is another record and the total dividend for the year is $2.66 per share. Cash earnings per share increased 3% on the prior year to 356.9 cents per share. The Group’s Return on Equity (“cash basis”) has remained strong at 20.4%. The Group’s net profit after tax (“cash basis”) for the full year ended 30 June 2008 was $4,733 million, an increase of 5% on the prior year. The Group’s net profit after tax (“underlying basis”), which excludes Shareholder returns, increased 7% to $4,746 million. investment This solid result was achieved in a difficult environment with the Group incurring additional funding costs during the year due to ongoing volatility in global credit markets. In addition, loan impairment expense increased $496 million on the prior year due to increased provisioning in the corporate portfolio reflecting a tougher economic climate. Key financial performance highlights over the year were: • Growth in Banking income of 8%, following an increase in average interest earning assets of 16% to $386 billion and net interest margin contraction of ten basis points on an underlying basis (six basis points on a headline basis); • Funds management income growth of 23%, reflecting average funds under administration growth of 18% to $194 billion and net gains from asset sales; • Growth in average inforce premiums of 18% to $1,511 million supported by sales growth in both life and general insurance businesses; • Operating expense growth of 9%, reflecting continued investment in the business to support productivity and growth initiatives as well as the effect of inflation on salary and general expenses; and • Substantially increased corporate loan provisioning levels to ensure sufficient provision coverage is maintained, reflecting market conditions. The Group’s net profit after tax (“statutory basis”) includes the following additional non-cash items: • Gain on the Visa Initial Public Offering of $295 million after tax; and The Group’s net profit after tax (“underlying basis”) for the half year ended 30 June 2008 was $2,389 million, an increase of 1% on the prior half. The second half was impacted by two fewer days, a significantly higher loan impairment expense and lower returns from investment markets. Other performance highlights specifically relating to the Group’s strategic priorities over the year included: • Recognised as 2008 “Bank of the Year” by Money Magazine; • The full suite of rated retail deposit and transaction products receiving a five star rating from CANNEX; • The launch of the Group’s new “Determined to be different” brand marketing campaign; • Institutional Banking recognised as the industry leader, receiving the highest customer satisfaction rating in the East & Partners survey for the third year running; • Launched Core Banking Modernisation, a project that will deliver a world class technology platform and enhanced customer service; • Recognised as Australia’s best Mastertrust/Wrap provider in the Wealth Insights 2008 Service Level Survey Reports (Source: ASSIRT/Wealth Insights); and • People Engagement Workplace survey results which place the Group in the top quartile worldwide (source: Gallup). Basel II Transition II In December 2007, APRA granted “advanced” Basel accreditation status to the Group for the measurement of regulatory capital, which was effective from 1 January 2008. The Tier One and Total Capital ratios as at 30 June 2008 as disclosed on page 5 have been calculated in accordance with the Basel II methodology. Further details on the impact of the Basel II transition are in Capital Management, page 30. Dividends The total dividend for the year is another record at $2.66 per share. The final dividend declared is $1.53 per share which takes the full year dividend to $2.66, an increase of 10 cents or 4% on the prior year. The dividend has been determined based on net profit after tax (“cash basis”). On this basis the dividend payout ratio for the year is 75.0%. The dividend payment is fully franked and will be paid on 1 October 2008 to owners of ordinary shares at the close of business on 22 August 2008 (“record date”). Shares will be quoted ex-dividend on 18 August 2008. The Group issued $400 million of shares to satisfy shareholder participation in the Dividend Reinvestment Plan (“DRP”) in respect of the interim dividend for the 2008 financial year. • Amounts have been investment and recognised restructuring of $264 million after tax, relating to the cost of implementation of Core Banking Modernisation and other strategic initiatives. for 6 Commonwealth Bank of Australia Annual Report 2008 Highlights continued Group Performance Summary Net interest income Other banking income Total banking income Funds management income Insurance income Total operating income Shareholder investment returns Total income Operating expenses Loan impairment expense Net profit before income tax Corporate tax expense (1) Minority interests (2) Net profit after income tax (“cash basis”) Gain on Visa Initial Public Offering Investment and restructuring Defined benefit superannuation plan income/(expense) Treasury shares valuation adjustment Hedging and AIFRS volatility Net profit after income tax (“statutory basis”) Represented by: (3) Retail Banking Services Premium Business Services Wealth Management (4) International Financial Services Other (4) Net profit after income tax (“cash basis”) Shareholder investment returns after tax Net profit after income tax (“underlying basis”) Full Year Ended Half Year Ended 30/06/08 $M 7,907 3,312 11,219 2,307 832 14,358 (17) 14,341 7,021 930 6,390 1,626 31 4,733 295 (264) 9 60 (42) 4,791 1,904 1,480 740 589 20 4,733 13 4,746 30/06/07 $M 7,036 3,321 10,357 1,874 817 13,048 149 13,197 6,427 434 6,336 1,782 27 4,527 - - 5 (75) 13 4,470 1,766 1,445 627 478 211 4,527 (96) 4,431 Jun 08 vs Jun 07 % 12 - 8 23 2 10 large 9 9 large 1 (9) 15 5 - - 80 large large 7 8 2 18 23 (91) 5 large 7 30/06/08 $M 4,008 1,771 5,779 1,166 439 7,384 (59) 7,325 3,643 597 3,085 721 16 2,348 295 (264) 13 73 (45) 2,420 955 756 351 293 (7) 2,348 41 2,389 31/12/07 $M 3,899 1,541 5,440 1,141 393 6,974 42 7,016 3,378 333 3,305 905 15 2,385 - - (4) (13) 3 2,371 949 724 389 296 27 2,385 (28) 2,357 Jun 08 vs Dec 07 % 3 15 6 2 12 6 large 4 8 79 (7) (20) 7 (2) - - large large large 2 1 4 (10) (1) large (2) large 1 (1) For purposes of presentation, Policyholder tax benefit and Policyholder tax expense components of Corporate tax expense are shown on a net basis (full years ended 30 June 2008: $(115) million, 30 June 2007: $266 million and half years ended 30 June 2008 $(151) million, 31 December 2007: $36 million). (2) Minority interests include preference dividends paid to holders of preference shares in ASB Capital. (3) During the first half of the current financial year the presentation of the segments of the Group was changed. Prior periods have been restated on a consistent basis. (4) During the year a change was made to the recognition of intra-segment income between the Wealth Management and Other segments. This resulted in the recognition of an additional $9 million in after tax profit in the Wealth Management segment in the prior half. Shareholder Summary Dividend per share – fully franked (cents) Dividend cover – cash (times) Earnings per share (cents) Statutory – basic Cash basis – basic Dividend payout ratio (%) Statutory basis Cash basis Weighted avg no. of shares – statutory basic (M) Weighted avg no. of shares – cash basic (M) (1) Return on equity – cash (%) Full Year Ended 30/06/08 30/06/07 266 1. 3 363. 0 356. 9 74. 1 75. 0 1,307 1,313 20. 4 256 1. 3 344. 7 347. 1 75. 2 74. 2 1,281 1,289 21. 7 Jun 08 vs Jun 07 % 4 n/a 5 3 (110)bpts 80bpts 2 2 (130)bpts Half Year Ended 30/06/08 31/12/07 153 1. 1 182. 6 176. 2 84. 6 87. 3 1,314 1,319 19. 9 113 1. 6 180. 4 180. 7 63. 4 63. 0 1,300 1,306 20. 8 Jun 08 vs Dec 07% 35 n/a 1 (3) large large 1 1 (90)bpts (1) Fully diluted EPS and weighted average number of shares (fully diluted) are disclosed in Note 7, Earnings per share. Commonwealth Bank of Australia Annual Report 2008 7 Highlights continued Balance Sheet Summary Lending assets (1) Total assets (2) Total liabilities (2) Shareholders’ Equity Assets held and Funds Under Administration (FUA) On Balance Sheet: Banking assets (2) Insurance Funds Under Administration Other insurance and internal funds management assets Off Balance Sheet: Funds Under Administration Total assets held and FUA 30/06/08 $M 369,597 487,572 461,435 26,137 461,944 17,345 8,283 487,572 173,960 661,532 31/12/07 $M 351,208 472,664 447,026 25,638 445,695 18,940 8,029 472,664 188,762 661,426 As at 30/06/07 $M 319,786 440,157 415,713 24,444 412,111 19,814 8,232 440,157 157,257 597,414 Jun 08 vs Dec 07 % 5 3 3 2 Jun 08 vs Jun 07 % 16 11 11 7 4 (8) 3 3 (8) - 12 (12) 1 11 11 11 (1) Lending assets comprise Loans, advances, and other receivables (gross of provisions for impairment and excluding securitisation and unearned income) and Bank acceptances of customers. (2) During the year, a review of the accounting treatment of Group Limit Facilities and Mortgage Interest Saver Accounts led to an increase in lending and deposit balances (30 June 2008: $20 billion, 31 December 2007: $19 billion, 30 June 2007: $16 billion). 8 Commonwealth Bank of Australia Annual Report 2008 Highlights continued Key Performance Indicators Group Underlying profit after tax ($M) (1) Net interest margin (%) (2) (3) Average interest earning assets ($M) (2) (3) Average interest bearing liabilities ($M) (2) (3) Funds management income to average funds under administration (%) Average funds under administration ($M) Insurance income to average inforce premiums (%) Average inforce premiums ($M) Operating expense to total operating income (%) Effective corporate tax rate (%) Retail Banking Services Cash net profit after tax ($M) Operating expense to total banking income (%) Premium Business Services Cash net profit after tax ($M) Operating expense to total banking income (%) Wealth Management Underlying profit after tax ($M) (1) Average funds under administration ($M) Average inforce premiums ($M) Funds management income to average funds under administration (%) Insurance income to average inforce premiums (%) Operating expense to net operating income (%) (4) International Financial Services Underlying profit after tax ($M) (1) Average funds under administration ($M) Average inforce premiums ($M) Funds management income to average funds under administration (%) Insurance income to average inforce premiums (%) Operating expense to net operating income (%) (4) Capital Adequacy Ratios – (Basel I) (5) Tier One (%) Total (%) Adjusted Common Equity (%) Capital Adequacy Ratios – (Basel II) (5) Tier One (%) Total (%) Adjusted Common Equity (%) Full Year Ended 30/06/08 30/06/07 Jun 08 vs Jun 07 % Half Year Ended 30/06/08 31/12/07 Jun 08 vs Dec 07 % 4,746 2. 02 385,667 362,249 1. 19 194,156 55. 1 1,511 48. 9 25. 4 1,904 45. 5 1,480 45. 3 4,431 2. 08 332,492 311,236 1. 14 164,404 63. 9 1,278 49. 3 28. 1 1,766 46. 6 1,445 45. 7 756 186,696 1,136 548 157,338 938 1. 21 51. 1 55. 0 563 7,460 375 0. 64 67. 2 51. 6 - - - 8. 17 11. 58 6. 47 1. 16 61. 1 59. 8 461 7,066 340 0. 65 71. 8 55. 0 7. 14 9. 76 4. 79 - - - 7 (6)bpts 16 16 5bpts 18 (14) 18 (1) (10) 8 (2) 2 (1) 38 19 21 4 (16) (8) 22 6 10 (2) (6) (6) 2,389 1. 98 400,678 375,930 1. 18 198,801 56. 8 1,554 49. 3 23. 4 955 45. 3 756 47. 0 2,357 2. 06 370,819 348,716 1. 19 191,447 54. 1 1,444 48. 4 27. 4 949 45. 8 724 43. 4 384 191,721 1,172 372 183,548 1,058 1. 20 52. 7 55. 7 287 7,080 382 0. 74 69. 5 49. 8 - - - 1. 21 51. 3 54. 3 276 7,899 386 0. 55 61. 8 53. 6 7. 41 9. 82 4. 77 1 (8)bpts 8 8 (1)bpts 4 5 8 2 (15) 1 (1) 4 8 3 4 11 (1) 3 3 4 (10) (1) 35 12 (7) 8. 17 11. 58 6. 47 8. 17 12. 08 6. 58 - (50)bpts (11)bpts (1) Cash net profit after tax less Shareholder investment returns after tax. (2) During the year, a review of the accounting treatment of Group Limit Facilities and Mortgage Interest Saver Accounts led to an increase in lending and deposit balances (30 June 2008: $20 billion, 31 December 2007: $19 billion, 30 June 2007: $16 billion). Prior periods have been restated on a consistent basis. (3) Average interest earning assets and average interest bearing liabilities have been adjusted to remove the impact of securitisation. Refer to Note 4, Average Balances and Related Interest. (4) Net operating income represents Total operating income less volume expenses. (5) June 2008 regulatory capital is calculated in accordance with Basel II rules and methodology which was effective from 1 January 2008. The Basel II ratios make no allowances for interest rate risk in the banking book, as this measure is not effective until 1 July 2008. The December 2007 and June 2007 regulatory capital is reported in accordance with Basel I rules and methodology. Credit Ratings Fitch Ratings Moody’s Investor Services Standard & Poor's Long–term AA Aa1 AA Short–term F1+ P-1 A-1+ Outlook Stable Stable Stable The Group continues to maintain a strong capital position which is reflected in its credit ratings. Additional information regarding the Group’s capital is disclosed in Capital Management, page 30. Commonwealth Bank of Australia Annual Report 2008 9 Group Performance Analysis Financial Performance and Business Review The full year underlying net profit after tax of $4,746 million for the Group increased 7% on the prior year. The performance during the year was underpinned by: • Strong growth in lending balances, with business lending up 22% to $127 billion and housing lending up 12% to $216 billion; • Domestic deposit volume growth of 23% since June 2007 to $234 billion; • Underlying net interest margin contraction of 10 basis points since 30 June 2007, a solid result in a difficult environment; • Average funds under administration growth of 18% to $194 billion, reflecting positive net funds flows partly offset by falls in Australian and global equity markets; • Operating expense growth of 9% on the prior year, reflecting continued investment in the Group’s businesses as well as the effect of inflation on salary and general expenses; • Higher funding costs caused by volatility in global credit markets; and • Increased corporate sector collective and provisioning consistent with market conditions. individual The underlying net profit after tax for the second half of the year increased by 1% on the prior half to $2,389 million. The second half performance was impacted by two fewer days and a significantly higher corporate loan impairment expense. Net Interest Income Net interest income increased by 12% on the prior year to $7,907 million. Excluding the impact of the reclassification of net swap costs under AIFRS, net interest income growth was 10%. This result was achieved through strong volume growth in average interest earning assets of 16%, partly offset by underlying margin contraction of ten basis points. During the current half net interest income increased by 3% over the prior half. This represents 6% on an underlying basis after adjusting for the dampening impact of two fewer days and AIFRS net swap cost reclassification. The increase in net interest income was driven by an 8% growth in average interest earning assets partly offset by a seven basis point contraction in underlying margin. Average Interest Earning Assets (1) + 16 % 385,667 57,842 327,825 332,492 49,521 282,971 ) M $ ( s t e s s A g n n r a E i t s e r e t n I e g a r e v A 400,000 350,000 300,000 250,000 200,000 150,000 100,000 50,000 0 Jun 07 Jun 08 Non-Lending Interest Earning Assets (Excl Bank Accept) Lending Interest Earning Assets Average interest earning assets increased by $53 billion on the prior year to $386 billion, reflecting a $45 billion increase in average lending interest earnings assets and a $8 billion increase in average non-lending interest earning assets. Above market home lending growth was the largest contributor to the increase in average interest earning assets. Average 10 Commonwealth Bank of Australia Annual Report 2008 home loan balances excluding the impact of securitisation increased by 15% since 30 June 2007 and 9% since 31 December 2007. Average balances for business and corporate lending benefited from strong volume growth, particularly in Institutional Banking. This resulted in growth of 18% since 30 June 2007 and 9% since 31 December 2007. Personal lending average balances grew by 12% since 30 June 2007 and 3% since 31 December 2007. This result continues to be driven by growth in margin lending, which slowed in the second half due to the downturn in investment markets. Net Interest Margin Underlying net interest margin decreased 10 basis points compared to the prior year. This was partly offset by AIFRS hedging volatility which resulted in a four basis point increase, bringing headline margin contraction to six basis points. The key drivers of the underlying margin contraction were: Asset pricing and mix: Overall margin contraction of 10 basis points, with home lending margins contributing to a seven basis point decline during the year due to the impact of higher funding costs together with the increased proportion of lower margin fixed rate and packaged home lending products more than offsetting the changes in pricing of standard variable rate home loans. Business and personal lending margins contracted three basis points due to higher funding costs and the strong growth in lower margin Institutional loans and lower interest rate credit cards. Deposit pricing and mix: Retail deposit margins improved four basis points due to benefits of increases in the official cash rate offsetting the ongoing mix impact of strong growth in higher interest rate deposit products. Liquids and other: The Group increased holdings of liquid assets by $8 billion during the year, resulting in four basis points of margin compression. NIM movement since June 2007 (1) Underlying (10) bpts 2.10% 2.08% (0.10%) 0.04% (0.04%) 1.98% 0.04% 2.02% 1.90% 1.70% 1.50% Jun 07 Asset Pricing & Mix Deposit Pricing & Mix Liquids & other AIFRS volatility Jun 08 The net interest margin has been protected from further deterioration due interest rate exposures which led to incremental costs of approximately $50 million in Other banking income, largely in the first half. to hedging of short-dated During the second half, net interest margin decreased by eight basis points (seven basis points on an underlying basis) due to similar influences as described above. Additional information, including the average balances, is set out in Note 4, Average Balances and Related Interest. (1) Headline net interest margin has been impacted by a change in the accounting treatment of Group Limit Facilities and Mortgage Interest Saver Accounts which led to an increase in lending and deposit balances. Prior periods have been restated on a consistent basis. Group Performance Analysis continued Other Banking Income Funds Management Income Commissions Lending fees Trading income Other income Full Year Ended Half Year Ended 31/12/07 $M 908 469 200 128 1,705 30/06/07 $M 1,729 896 555 248 3,428 30/06/08 $M 919 507 346 100 1,872 30/06/08 $M 1,827 976 546 228 3,577 AIFRS reclassification of net swap costs (1) Other banking income (265) 3,312 (107) 3,321 (101) 1,771 (164) 1,541 (1) Refer to Note 2, Profit for further details. Excluding the impact of AIFRS non-trading derivative volatility, Other banking income increased 4% over the year. $M 3,600 2,700 1,800 900 0 3,428 248 555 896 1,729 3,577 228 546 976 1,827 CFS GAM Colonial First State CommInsure & Other Sovereign & Other Funds management income Full Year Ended Half Year Ended 30/06/08 $M 1,068 909 282 48 30/06/07 $M 759 844 225 46 30/06/08 $M 567 421 152 26 31/12/07 $M 501 488 130 22 2,307 1,874 1,166 1,141 Funds management income increased by 23% on the prior year to $2,307 million. This growth was driven by an increase in average funds under administration (FUA) of 18% on the prior year to $194 billion and a $108 million pre-tax gain on sale of assets. Funds management income in the current half increased 2% on the prior half to $1,166 million, reflecting the impact of a $40 million higher pre-tax gain on the sale of assets and a $16 billion decline in funds under administration due to the investment market downturn in the second half. Insurance Income Full Year Ended Half Year Ended 31/12/07 $M 273 120 393 30/06/07 $M 573 244 817 30/06/08 $M 307 132 439 30/06/08 $M 580 252 832 Jun 07 Jun 08 Commissions Lending Fees Trading Income Other CommInsure & Other Sovereign & Other Insurance income Factors impacting Other banking income were: • Commissions: increased by 6% on the prior year to $1,827 million, principally driven by strong brokerage commissions within CommSec and in international transactions; volume-driven increases • Lending fees: increased by 9% on the prior year to $976 million. The growth is principally due to retail and corporate customer fees, increasing in line with lending volumes together with higher syndication structured transaction fee income; • Trading income: decreased 2% on the prior year to $546 million due to additional costs in the prior half on derivatives used to hedge short-dated interest rate exposures; and • Other income: decreased 8% on the prior year to $228 million. The prior year included $79 million due to the sale of the Group’s share in Greater Energy Alliance Corporation Pty Limited (“Loy Yang”) and $58 million in relation to the sale of MasterCard shares. The impact of these items was partly offset in the current year due to realised gains on hedges of the New Zealand operations of $31 million compared to a loss of $23 million in the prior year, accrued income of $24 million relating to a prior period tax refund, the receipt of dividend income on Group investments of $36 million, together with several other offsetting non-recurring gains and losses. The current half increased 10% on the prior half excluding the impact of AIFRS reclassification. This was the result of a strong increase in trading income in the Global Markets business due to market volatility in the current half providing a good trading environment. Insurance income increased by 2% on the prior year to $832 million. This result is a combination of strong growth in average inforce premiums of 18% offset by adverse claims experience associated with weather events concentrated on the east coast of Australia. Insurance income in the current half increased 12% on the prior half due to an 8% increase in inforce premiums and the impact of weather events in the first half. Commonwealth Bank of Australia Annual Report 2008 11 Group Performance Analysis continued Operating Expenses Loan Impairment Group operating expenses increased by 9% on the prior year to $7,021 million. Operating expenses were impacted by: • Average salary increases reflecting the tight domestic labour market together with the effect of inflation on general expenses; • Continued investment in staff in support of strategic initiatives, with staff numbers rising 5% on the prior year; • Further investment in strategic growth initiatives, including the Business Banking Growth Strategy; • Higher occupancy expenses resulting from market rent increases, relocation of the Business Continuity Centre to Sydney Olympic Park and increases in other property costs; • Continued productivity improvements achieved through process re-engineering and simplification initiatives; and • Higher volume related expenses resulting from strong growth in funds under administration, the IWL acquisition and an increase in underlying retail equities trading volumes. During the second half of the year operating expenses increased 8% to $3,643 million. As previously disclosed, the first half included a one-off GST refund ($64 million) and the Group has continued to invest in staff and projects to support its strategic priorities. Group Expense to Income Ratio in to 48.9% The expense to income ratio improved from 49.3% in the prior the current year, representing a 1% year improvement in productivity. The improvement in productivity is a reflection of solid income growth, disciplined underlying expense management and continued the business. investment in Productivity 50.5% The total charge for loan impairment for the year was $930 million, which represents 26 basis points of average gross loans and acceptances. This expense is $496 million higher than the prior year, reflecting increased levels of collective and individual provisioning in the corporate portfolio. The current half loan impairment expense increased by 79% to $597 million for the same reason. Gross impaired assets were $683 million as at 30 June 2008, compared with $421 million at 30 June 2007. The Group remains well provisioned, with total provisions for impairment losses as at 30 June 2008 of $1,745 million. The current level of provisioning reflects: • The large proportion of high quality, low risk home loans within the consumer portfolio; • No direct exposure to US sub-prime or non-recourse mortgages; • No participation in the zero rate credit card balance transfer market; • Increased collective and in corporate portfolio consistent with market conditions; and individual provisioning the • No material exposure to Collateralised Debt Obligations (“CDOs”). Loan Impairment Expense to Average Gross Loans and Acceptances (1) 0.30% 0.25% 0.20% 0.26% 49.3% 48.9% 0.15% 0.14% 0.14% 0.10% Jun 06 Jun 07 Jun 08 (1) During the current year a review of the netting of certain assets and liabilities led to an increase in both lending and deposit balances (30 June 2008: $20 billion, 31 December 2007: $19 billion, 30 June 2007: $16 billion). Prior periods have been restated on a consistent basis. Jun 06 Jun 07 Jun 08 Taxation Expense The corporate tax charge for the year was $1,626 million, representing an effective tax rate of 25.4%. The effective tax rate is lower in the current half primarily due to satisfactory resolution of long outstanding issues with tax authorities. Reductions in the corporate tax rate in offshore jurisdictions including New Zealand, Hong Kong and the United Kingdom will lead to a lower underlying tax rate than in prior years. The long term underlying effective tax rate is therefore expected to range between 27% and 28%. 12 Commonwealth Bank of Australia Annual Report 2008 Total Group Assets & Liabilities Interest earning assets Home loans including securitisation Less: securitisation Home loans excluding securitisation Personal Business and corporate Loans, advances and other receivables (1) Provisions for loan impairment Net loans, advances and other receivables Non-lending interest earning assets Total interest earning assets Other assets (2) Total assets (3) Interest bearing liabilities Transaction deposits Savings deposits Investment deposits Other demand deposits Total interest bearing deposits Deposits not bearing interest Deposits and other public borrowings Debt issues Other interest bearing liabilities Total interest bearing liabilities Securitisation debt issues Non-interest bearing liabilities (4) Total liabilities (3) Provisions for loan impairment Collective provision Individually assessed provisions Total provisions for loan impairment Other credit provisions (5) Total provisions for impairment losses Group Performance Analysis continued 30/06/08 $M 31/12/07 $M As at 30/06/07 $M Jun 08 vs Dec 07 % Jun 08 vs Jun 07 % 215,743 (11,676) 204,067 20,265 126,987 351,319 (1,713) 349,606 49,385 400,704 86,868 487,572 59,917 53,420 98,745 44,014 256,096 7,610 263,706 73,785 44,756 374,637 12,032 74,766 461,435 1,346 367 1,713 32 1,745 203,885 (13,177) 190,708 20,838 119,857 331,403 (1,352) 330,051 51,065 382,468 90,196 472,664 60,210 54,659 84,328 45,889 245,086 8,021 253,107 65,699 49,597 360,382 13,673 72,971 447,026 1,084 268 1,352 28 1,380 192,770 (15,633) 177,137 20,074 103,854 301,065 (1,233) 299,832 49,553 350,618 89,539 440,157 55,168 52,408 76,856 26,156 210,588 8,480 219,068 69,753 43,719 324,060 15,737 75,916 415,713 1,034 199 1,233 23 1,256 6 (11) 7 (3) 6 6 27 6 (3) 5 (4) 3 - (2) 17 (4) 4 (5) 4 12 (10) 4 (12) 2 3 24 37 27 14 26 12 (25) 15 1 22 17 39 17 - 14 (3) 11 9 2 28 68 22 (10) 20 6 2 16 (24) (2) 11 30 84 39 39 39 Asset Quality Gross loans and acceptances ($M) Risk weighted assets (“RWA”) – Basel I ($M) Risk weighted assets – Basel II ($M) (6) Gross impaired assets ($M) Net impaired assets ($M) Collective provision as a % of RWA – Basel I Collective provision as a % of RWA – Basel II Collective provision as a % of credit risk weighted assets – Basel II Collective provision as a % of gross loans and acceptances Individually assessed provisions for impairment as a % of gross impaired assets (7) Loan impairment expense as a % of average risk weighted assets annualised – Basel I (8) Loan impairment expense as a % of average risk weighted assets annualised – Basel II (9) Loan impairment expense as a % of average gross loans and acceptances annualised (8) Full Year Ended Half Year Ended 30/06/08 $M 383,502 - 205,501 683 316 - 0. 65 0. 72 0. 35 40. 8 - 0. 46 0. 26 30/06/07 $M 337,339 245,347 - 421 222 0. 42 - Jun 08 vs Jun 07 % 14 n/a n/a 62 42 n/a n/a - 0. 31 23. 8 0. 19 - 0. 14 n/a 13 71 n/a - 86 30/06/08 $M 383,502 - 205,501 683 316 - 0. 65 0. 72 0. 35 40. 8 - 0. 59 0. 32 31/12/07 $M 366,313 272,609 198,228 562 294 0. 40 0. 55 Jun 08 vs Dec 07 % 5 n/a 4 22 7 n/a 18 0. 60 0. 30 33. 6 0. 26 - 0. 19 20 17 21 n/a - 68 (1) Gross of provisions for impairment which are included in other assets. (2) Other assets include Bank acceptances of customers, derivative assets, provisions for loan impairment, securitisation assets, insurance assets and intangibles. (3) During the current year a review of the netting of certain assets and liabilities led to an increase in both lending and deposit balances (30 June 2008: $20 billion, 31 December 2007: $19 billion, 30 June 2007: $16 billion). Prior periods have been restated on a consistent basis. (4) Non-interest bearing liabilities include derivative liabilities and insurance policy liabilities. (5) Included in Other provisions. (6) Basel II RWA and associated ratios for 31 December 2007 are on a pro-forma basis. RWA for Interest Rate Risk in the Banking Book is excluded from the above tables as it is effective from 1 July 2008 only. (7) Bulk portfolio provisions of $88 million at 30 June 2008 ($79 million at 31 December 2007 and $99 million at 30 June 2007) to cover unsecured personal loans and credit card lending have been deducted from individually assessed provisions to calculate this ratio. These provisions are deducted due to the exclusion of the related assets from gross impaired assets. The related asset amounts are instead included in the 90 days or more past due disclosure. (8) Average of opening and closing balances. (9) This ratio uses a simple average pro-forma Basel II RWA at 31 December 2007 and Basel II RWA at 30 June 2008. Commonwealth Bank of Australia Annual Report 2008 13 Retail Banking Services Financial Performance and Business Review Retail Banking Services has maintained its solid performance over the year ended 30 June 2008 with cash net profit after tax increasing by 8%, despite the impact of increased funding costs from continuing volatility in global credit markets. This has been achieved by strong volume growth in key product lines, sound credit quality, tight expense management and strategic business investment to drive profitable growth and efficiency. Over the year, the business has made good progress towards the Group’s vision to be Australia’s finest financial services organisation through excelling in customer service. Highlights included: • Winning the ‘Best Branch Strategy’ award at the International Retail Banking Awards in April 2008. The award recognises the success of the new branch network operating model in enabling increased lending capabilities in every branch and providing convenient options for customers through extended trading hours and weekend branch openings in selected locations; • Further roll-out of the modernised branch design with 70 branches completed or under refurbishment by June 2008; • Market leading product development with the full suite of rated personal deposit and transaction products receiving a five star rating from CANNEX; • Enabling more environmentally sustainable banking with the launch of online statements in January 2008, which has already resulted in almost 400,000 customer accounts electing to opt out of receiving paper statements; • Successful implementation of the Simple Home Loans program which has driven significant in customer service by providing customers with faster access to funds and creating a better home buying experience; improvement • A new telephony platform implemented for the NetBank Helpdesk, Third Party and General Enquiry contact centres to improve efficiency and service; and • Needs analysis sales and service training programs continue to be rolled out to staff, with over 7,650 “Masters” being accredited so far. The success of these initiatives is reflected in: • Encouraging customer satisfaction levels, only down marginally on June 2007, despite the higher interest rate environment(1) (Source: Roy Morgan Research); and • Improvement in staff engagement scores as independently measured by the Gallup organisation, with Retail Banking Services now ranking well inside the international top quartile. Home Loans Home loan revenue decreased 5% on the prior year and 17% on the prior half. This result was impacted by higher funding costs following continued volatility in global credit markets. Balance growth of 15% on the prior year and 8% on the prior half was underpinned by strong performances in both the branch and broker channels resulting in 15 consecutive months of market share gains. Fee revenue growth was strong, up 20% on the prior year underpinned by package fee income and strong volume growth. Consumer Finance Consumer Finance revenue growth was 2% on the prior year (excluding the profit on the sale of shares in MasterCard) and 8% on the prior half. This was achieved despite increased funding costs and highlights the success of the focus on 14 Commonwealth Bank of Australia Annual Report 2008 profitably growing this portfolio in a sustainable manner. Credit card balances have grown steadily, up 5% on June 2007. This growth has been driven by targeted customer campaigns and a focus on cross-sell initiatives and resulted in a significant increase in new accounts opened. Personal loans continued to perform well with steady volume growth and risk based pricing initiatives. Retail Deposits Deposit revenue increased 12% on the prior year, driven by a combination of strong volume growth of 18% and focused margin management in a competitive environment. Despite the highly competitive environment for retail deposits, Retail Banking Services maintained a dominant position and further grew market share by capturing 30% of market balance growth over the year (Source: APRA). The success of products such as NetBank Saver and Business Online Saver and targeted Term Deposits campaigns resulted in a stable market share of 29.1% in June 2008. Distribution Commissions received from the distribution of both business banking and wealth management products through the retail distribution network remained in line with prior year. This was a robust performance in a difficult environment and benefited from improved insurance sales capabilities in the branch network and an increased focus on cross-sell activities. Operating Expenses Expense growth on the prior year was contained to 2% despite wage inflation pressures in a tight labour market, higher occupancy costs and continued strategic business investment. Sound management of these cost pressures together with the continued realisation of IT savings and productivity gains have contributed to further improvements in the expense to income ratio from 46.6% in the prior year to 45.5%. Loan Impairment Expense Loan impairment expense fell by 5% on the prior year to $331 million, despite average interest earning asset growth of 13% over the same period. This result reflects careful portfolio management and responsible lending practices over a period of intense competition. Loan impairment expense increased in the second half due to portfolio growth and seasonal factors. Despite the uncertain environment, arrears rates across the portfolios have not significantly deteriorated in the current year and in most cases are still running at a lower rate than in prior years. Market Share Percentage (1) Home loans Credit cards (1) Personal lending (APRA and other households) (2) Household deposits (3) Retail deposits(3) (1) As at 30 May 2008. 30/06/08 31/12/07 30/06/07 18. 5 18. 8 19. 3 18. 2 18. 8 18. 5 15. 8 29. 1 22. 3 16. 7 28. 9 22. 0 16. 4 29. 0 21. 6 (2) Personal lending market share includes personal loans and margin loans. (3) In accordance with APRA guidelines, these measures include some products relating to both the Retail and Corporate Segment. Retail Banking Services continued Full Year Ended 30 June 2008 (1) Consumer Finance $M 780 347 1,127 Retail Deposits $M 2,386 673 3,059 Distribution $M - 103 103 Home Loans $M 1,174 134 1,308 Full Year Ended 30 June 2007 (1) Consumer Finance $M 742 419 1,161 Retail Deposits $M 2,071 656 2,727 Distribution $M - 104 104 Home Loans $M 1,268 112 1,380 Half Year Ended 30 June 2008 (1) Consumer Finance $M 406 180 586 Retail Deposits $M 1,262 345 1,607 Distribution $M - 50 50 Home Loans $M 529 65 594 Total $M 4,340 1,257 5,597 2,549 331 2,717 813 1,904 Total $M 4,081 1,291 5,372 2,501 349 2,522 756 1,766 Total $M 2,197 640 2,837 1,286 190 1,361 406 955 Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax (1) During the current period there has been a re-alignment of internal charges between consumer finance and retail deposits segments. Prior periods have been restated on a consistent basis. Major Balance Sheet Items (gross of impairment) Home loans (including securitisation) (1) Consumer finance (2) Total assets – Retail Banking Services products Home loans (net of securitisation) Transaction deposits Savings deposits Investment and other deposits Deposits not bearing interest Total liabilities - Retail Banking Services products 30/06/08 $M 186,942 11,428 198,370 175,266 18,267 44,261 55,388 2,305 120,221 31/12/07 $M 173,784 11,027 184,811 160,607 19,470 44,906 44,230 2,543 111,149 As at 30/06/07 $M 162,751 10,810 173,561 147,118 18,980 41,782 38,779 2,599 102,140 Jun 08 vs Dec 07 % 8 4 7 9 Jun 08 vs Jun 07 % 15 6 14 19 (6) (1) 25 (9) 8 (4) 6 43 (11) 18 (1) During the year, a review of the accounting treatment of Mortgage Interest Saver Accounts led to an increase in lending and deposit balances (30 June 2008: $3,234 million, 31 December 2007: $2,431 million, 30 June 2007: $2,433 million). (2) Consumer Finance includes personal loans and credit cards. Commonwealth Bank of Australia Annual Report 2008 15 customers with tailored commodity and interest rate risk management solutions. 'AgriLine', the purpose built service centre based in Wagga Wagga, has continued to exceed expectations with over 30,000 client calls having been recorded since April 2007. Local Business Banking Investment in Local Business Banking, as part of the Group’s strategic priority in Business Banking, has enabled the business to maintain the strong turnaround in performance highlighted at the half year. The progressive roll out of Business Bankers across more than 700 branches, the implementation of the new 24 hour, 7 day customer service centre and the implementation of a new business model have resulted in a 65% uplift in lending activity and 12% growth in income over the prior year. Operating Expenses Operating expenses of $1,915 million represent an increase of 15% over the prior year. This reflects expansion of the front line sales force, the opening of new Business Banking Centres, additional Business Bankers in Branches as well as costs associated with the IWL acquisition. In addition, client demand for operating leases through the Structured Asset Finance business has resulted in increased depreciation costs for the Group. Loan Impairment Expense Loan impairment expense has increased significantly to $426 million from the historically low levels of recent years. This was the combined result of additional provisioning related to the changed global economic conditions, increases in individual assessments and balance growth across the portfolio. Market Share Business deposit market share of non-financial corporations, as measured by APRA, has increased by 143 basis points since 30 June 2007 to 14.4%. Business lending market share to non-financial corporations, as measured by APRA, decreased 26 basis points since 30 June 2007 to 12.2% while business lending market share as measured by the RBA has decreased 10 basis points since 30 June 2007 to 12.5%. The reduction in lending market share was driven by a direct strategy to actively manage exposure to certain sectors of the market within the institutional banking business. Market Share Percentage Business lending – APRA Business lending – RBA (1) Business deposits – APRA Equities trading (CommSec) (1) 30/06/08 31/12/07 30/06/07 12. 4 12. 6 13. 0 4. 3 12. 2 12. 5 14. 4 5. 9 12. 5 12. 8 13. 7 5. 0 (1) Prior comparative period has been restated. Premium Business Services Financial Performance and Business Review Premium Business Services delivered income growth of 16% on the prior year, or 17% after adjusting for the impact of the acquisition of IWL in the current year and the gain on sale of the Group’s share in the Greater Energy Alliance Corporation Pty Ltd (”Loy Yang”) in the prior year. This result was underpinned by a solid improvement in customer service scores and strong gains in deposit market share. The strong performance was impacted by higher funding costs, increased investment spend (including the cost of integrating the IWL business), a tax refund on the satisfactory resolution of an outstanding issue and additional loan impairment provisioning, resulting in cash net profit after tax growth of 2% on the prior year. to The core businesses of Premium Business Services continued to perform well due the customer centred strategy implemented in February 2007. The ongoing focus on this strategy enabled the business to build upon the momentum of the first half and post strong income growth across all businesses, despite the challenging environment. Institutional Banking Institutional Banking income increased by 14% (19% excluding Loy Yang) on the prior year driven by a significant increase in Financial Markets income, strong balance growth and stable margins. The syndication business recorded strong growth and was joint lead arranger of a $3.4 billion syndication deal for Singapore Power. Despite strong lending growth over the year, balance growth slowed during the second half as the Group actively managed the debt portfolio to sell-down its exposure to certain sectors of the market. Private Client Services Despite weaker financial markets during the second half, Private Client Services income increased by 25% on the prior year. This growth was the result of strong income growth during the first half as well as the impact of the IWL acquisition in November 2007. The integration of IWL is tracking well against the planned integration schedule with all retail clients transitioned onto the CommSec platform. In June, CommSec successfully launched an integrated cash management solution as part of its trading platform under the theme ‘Better Together’. In addition, during the year the business received a number of awards including “Best Feature- Packed Online Broker 2008” and “Best Margin Lender 2008”. Corporate Financial Services Corporate Financial Services income increased by 14% on the prior year. Corporate Financial Services continued to invest in additional front line staff, adding 90 full-time equivalents during the year, as well as opening eight new Business Banking Centres across New South Wales, South Australia and Victoria adding to the eight Centres opened during the prior year. In addition, new specialist teams have been created to service the Healthcare and Financial Planning client segments which, together with the strong focus on client cross-sell activity, has driven balance growth and a significant lift in customer service scores as measured by TNS Business Finance Monitor. Agribusiness Agribusiness performed strongly during the period with income growth of 20% on the prior year. This was underpinned by significant balance growth resulting from a continued focus on corporate agriculture and large scale family farming enterprises. Market share gains were achieved during the year by providing 16 Commonwealth Bank of Australia Annual Report 2008 Premium Business Services continued Institutional Banking $M 996 886 1,882 Private Client Services $M 240 386 626 Full Year Ended 30 June 2008 Corporate Financial Services $M 516 416 932 Agri business $M 156 97 253 Local Business Banking $M 358 210 568 Eliminations $M - (30) (30) Institutional Banking $M 820 837 1,657 Private Client Services $M 189 313 502 Full Year Ended 30 June 2007 (1) Corporate Financial Services $M 441 377 818 Agri business $M 132 79 211 Local Business Banking $M 328 178 506 Eliminations $M - (40) (40) Institutional Banking $M 511 464 975 Private Client Services $M 119 192 311 Half Year Ended 30 June 2008 (1) Corporate Financial Services $M 271 211 482 Agri business $M 85 49 134 Local Business Banking $M 184 120 304 Eliminations $M - (8) (8) Total $M 2,266 1,965 4,231 1,915 426 1,890 410 1,480 Total $M 1,910 1,744 3,654 1,669 75 1,910 465 1,445 Total $M 1,170 1,028 2,198 1,032 251 915 159 756 Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax Net interest income Other banking income Total banking income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Cash net profit after tax (1) During the current period the lines of business have been re-segmented due to refinements in allocation methodology. Prior periods have been restated on a consistent basis. Major Balance Sheet Items (gross of impairment) Interest earning lending assets (1) Bank acceptances of customers Non-lending interest earning assets Margin loans Other assets (2) Total assets Transaction deposits (1) Other demand deposits Deposits not bearing interest Certificates of deposits and other Due to other financial institutions Liabilities at fair value through Income Statement Debt issues Loan Capital Other non-interest bearing liabilities (2) Total liabilities 30/06/08 $M 113,828 18,278 18,705 7,817 14,742 173,370 39,791 5,602 3,839 33,922 16,659 1,914 25,438 581 38,639 166,385 31/12/07 $M 110,386 19,805 21,917 8,721 17,306 178,135 38,843 7,634 3,785 29,741 16,971 2,555 25,011 714 45,349 170,603 As at 30/06/07 $M 95,519 18,721 25,245 8,070 11,869 159,424 34,831 4,658 4,244 28,522 13,837 3,965 37,861 344 44,582 172,844 Jun 08 vs Dec 07 % 3 (8) (15) (10) (15) (3) Jun 08 vs Jun 07 % 19 (2) (26) (3) 24 9 2 (27) 1 14 (2) (25) 2 (19) (15) (2) 14 20 (10) 19 20 (52) (33) 69 (13) (4) (1) During the year, a review of the accounting treatment of Group Limit Facilities led to an increase in lending and deposit balances (30 June 2008: $17,134 million, 31 December 2007: $16,200 million, 30 June 2007: $13,253 million). (2) Other assets include intangible assets and derivative assets, and other non-interest bearing liabilities include derivative liabilities. Commonwealth Bank of Australia Annual Report 2008 17 Wealth Management Financial Performance and Business Review Cash net profit after tax for the Wealth Management business increased by 18% on the prior year to $740 million. The result was driven by strong revenue growth in the funds management lower businesses and gains on asset sales, offset by Shareholder investment returns. Cash net profit after tax in the second half fell 10% to $351 million impacted by significant falls in investment markets. Funds Under Administration increased 10% to $185 billion as at 30 June 2008. The growth in funds under administration was driven by positive net flows offset by significant market falls in Australian and global equities in the second half. Net funds flows for the year ended 30 June 2008 were $28.6 billion, driven by: • Solid net flows into the FirstChoice and Avanteos platforms and Global Equity Funds; and • Short-term cash mandates from institutional investors. Investment markets have been volatile, with some negative returns experienced in the second half. Despite this, investment performance has been good relative to the market with 63% of funds outperforming benchmark on a three year basis. CFS Global Asset Management (CFS GAM) CFS Global Asset Management provides asset management services to wholesale and institutional investors. Cash net profit after tax was $409 million, an increase of 59% on the prior year, reflecting revenue growth from the global expansion and diversification of the business. Included in operating income is a pre-tax gain of $108 million from the sell-down of seed assets. Funds under Management increased 9% on the prior year to $153 billion. The growth in funds under management was driven by strong flows into Global Equity Funds and short-term cash mandates from institutional investors. Key developments include: • Managed property funds are well positioned in this market environment with quality assets and strong balance sheets; • Launched over 14 funds during the year. A number of funds have grown out of the GAM Seeding Trust, which is the foundation for many new product development initiatives within the business; • CFS Property Management has entered into a joint venture partnership with Jones Lang LaSalle for the establishment of Sandalwood Pte Ltd, one of Asia’s largest third-party retail property asset management and development businesses; • First State Investments won “Specialist Group of the Year” at the Investment Week Fund Manager of the Year Awards in the UK and the Global Emerging Markets team earned the top six positions in Professional Adviser magazine’s Hot 100 fund manager rankings; and • The progressive sell-down of the Group’s interest in AWG continues, with the remaining 16% holding expected to be sold in the next financial year. Colonial First State Colonial First State provides product packaging, administration, distribution and advice to retail customers. Cash net profit after tax was $206 million, an increase of 45% on the prior year. Underlying profit, which excludes Shareholder investment returns, increased by 10% to $193 million. Net revenue benefited from strong inflows, as investors took advantage of superannuation legislation changes in June 2007, and tight expense control also contributed to the result. 18 Commonwealth Bank of Australia Annual Report 2008 FirstChoice flows remained strong in the market with $4.9 billion in net flows for the year to 30 June 2008. FirstChoice captured 18% of master fund net flows in the year to March 2008. Key developments include: • Recognition as Australia’s Best Mastertrust/Wrap provider in the Wealth Insights 2008 Service Level Survey Reports and led all other platforms in the categories of service, value for money and planner usage (Source: ASSIRT/Wealth Insights); • Ranking number one in terms of cash flows in Money Management’s 2008 Top 50 Platforms Survey; • Rated by advisers as the best platform and recorded the highest average satisfaction in the Investment Trends 2007 Planner Technology Report; and • The addition of eight new investment options following the launch of the Generation Global Sustainability Fund earlier in the year. The new options include Australian and Global infrastructure funds, providing a total of 100 options. CommInsure CommInsure is a domestic provider of life and general insurance. Cash net profit after tax was $253 million, a decline of 25% on the prior year, impacted by significant fall in investment markets in the second half and the unrealised mark to market losses of $37 million from widening credit spreads on the valuation of assets backing the Guaranteed Annuities portfolio. The life insurance business attracted strong new business volumes in both retail and wholesale lines driving a 22% growth in inforce premiums to $1,250 million and a 12% increase in planned profit margins. Life experience variations were positive at $12 million albeit at lower levels than the prior year following a reversion to normal life claims experience on wholesale life following exceptional experience in the prior year. The general insurance business experienced strong new business growth primarily through cross-sell into the Bank network. General Insurance operating margins were significantly impacted by claims associated with major weather events resulting in a net loss for the year. Key developments include: • Strong Retail Life sales up 22% on the prior year; • CommInsure was awarded the Life Insurance Company of the Year and Annuity provider of the year for 2007 at the Association of Financial Advisers / Plan For Life awards; and • General Insurance new business sales increased by 102% on the prior year through a significant improvement in cross- sell rates, the launch of a new motor insurance product in the first half of the year, and the deployment of Branch Insurance Representatives into the remaining regions of the Group’s retail branch network. Operating Expenses Total operating expenses increased by 7% on the prior year to $1,262 million, driven by: • Investment Management businesses; in the expansion of the Global Asset • Growth in employee profit share allocations, commensurate with profit growth and investment performance; and • Establishment of motor underwriting and expansion of the insurance distribution footprint. Taxation The effective corporate tax rate on underlying profit for the full year was 26.7% compared with 30.6% for the prior year. Wealth Management continued Funds management income Insurance income Total operating income Volume expense Net operating income Operating expenses Net profit before tax Corporate tax expense Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax Funds management income Insurance income Total operating income Volume expense Net operating income Operating expenses Net profit before tax Corporate tax expense Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax Funds management income Insurance income Total operating income Volume expense Net operating income Operating expenses Net profit before tax Corporate tax expense Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax CFS GAM $M 1,068 - 1,068 153 915 369 546 136 410 (1) 409 CFS GAM $M 759 - 759 98 661 310 351 108 243 15 258 CFS GAM $M 567 - 567 83 484 178 306 68 238 3 241 (1) Full Year Ended 30 June 2008 Colonial First State $M 909 - 909 215 694 416 278 85 193 13 206 CommInsure $M 280 580 860 177 683 331 352 103 249 4 253 Other $M 2 - 2 - 2 146 (144) (48) (96) (32) (128) Full Year Ended 30 June 2007 Colonial First State $M 844 - 844 184 660 407 253 78 175 (33) 142 CommInsure $M 229 573 802 155 647 316 331 96 235 103 338 Other $M (4) - (4) - (4) 141 (145) (40) (105) (6) (111) Half Year Ended 30 June 2008 Colonial First State $M 421 - 421 105 316 205 111 35 76 7 83 CommInsure $M 148 305 453 91 362 175 187 54 133 (28) 105 Other $M 4 2 6 - 6 93 (87) (24) (63) (15) (78) Total $M 2,259 580 2,839 545 2,294 1,262 1,032 276 756 (16) 740 Total $M 1,828 573 2,401 437 1,964 1,174 790 242 548 79 627 Total $M 1,140 307 1,447 279 1,168 651 517 133 384 (33) 351 Sources of Profit from Insurance Activities The Margin on Services profit from ordinary activities after income tax is represented by: Planned profit margins Experience variations Funds management operating margins General insurance operating margins Operating margins Shareholder investment returns after tax Cash net profit after tax Full Year Ended Half Year Ended 30/06/08 $M 30/06/07 $M Jun 08 vs Jun 07 % 30/06/08 $M 31/12/07 $M Jun 08 vs Dec 07 % 145 12 117 (25) 249 4 253 130 39 55 11 235 103 338 12 (69) large large 6 (96) (25) 74 11 61 (13) 133 (28) 105 71 1 56 (12) 116 32 148 4 large 9 8 15 large (29) (1) Additional information has been provided for this segment in line with the historic level of market disclosure. Commonwealth Bank of Australia Annual Report 2008 19 Wealth Management continued Funds Under Management (FUM) (1) Australian equities Global equities Cash and fixed interest Property and alternative investments Total Full Year Ended Half Year Ended 30/06/08 $M 23,502 35,589 66,729 27,120 152,940 30/06/07 $M 31,199 33,709 48,927 25,850 139,685 Jun 08 vs Jun 07 % (25) 6 36 5 9 30/06/08 $M 23,502 35,589 66,729 27,120 152,940 31/12/07 $M 29,618 40,945 66,694 27,102 164,359 Jun 08 vs Dec 07 % (21) (13) - - (7) (1) FUM does not include the Group’s interests in the China Joint Venture, AWG plc or ENW Limited. Funds Under Administration (FUA) Funds under administration – average Funds under administration – spot Funds under management – average Funds under management – spot Retail Net funds flows (Australian Retail) Full Year Ended Half Year Ended 30/06/08 $M 186,696 184,970 152,328 152,940 1,888 30/06/07 $M 157,338 168,810 128,893 139,685 (1,366) Jun 08 vs Jun 07 % 19 10 18 9 large 30/06/08 $M 191,721 184,970 158,650 152,940 279 31/12/07 $M 183,548 199,834 152,022 164,359 1,609 Jun 08 vs Dec 07 % 4 (7) 4 (7) (83) Market Share In the latest Plan for Life market share statistics, the Group remained 1st in total Australian retail market share at 14.2% while FirstChoice Platform remained flat at 9.6%. Market share for Individual Life Insurance increased to 13.1% in a growing market and CommInsure continues to maintain the No.1 ranking for Total Life Insurance with 14.3% of the market. Market Share Percentage Australian Retail Funds – administrator view (1) (2) FirstChoice Platform (1) (2) Australia (Total Life Insurance Risk) (1) (2) Australia (Individual Life Insurance Risk) (1) (2) (1) Prior period comparatives have been restated. (2) As at 31 March 2008. Annual Inforce Premiums (1) General insurance Retail life Wholesale life Total Annual Inforce Premiums (1) General insurance Retail life Wholesale life Total Annual Inforce Premiums (1) General insurance Retail life Wholesale life Total 30/06/08 % 14. 2 9. 6 14. 3 13. 1 As at 31/12/07 % 14. 3 9. 6 14. 1 13. 0 30/06/07 % 14. 1 9. 0 14. 3 12. 9 Opening Balance 30/06/07 $M 184 530 308 1,022 Opening Balance 30/06/06 $M 169 486 199 854 Opening Balance 31/12/07 $M 203 568 323 1,094 Full Year Ended 30 June 2008 Sales/New Balances $M 113 156 91 360 Lapses $M (39) (81) (33) (153) (2) Other Movements $M 21 - - 21 Full Year Ended 30 June 2007 Sales/New Balances $M 56 128 176 360 Lapses $M (41) (84) (64) (189) (2) Other Movements $M - - (3) (3) Half Year Ended 30 June 2008 Sales/New Balances $M 74 83 60 217 Lapses $M (19) (46) (17) (82) (2) Other Movements $M 21 - - 21 Closing Balance 30/06/08 $M 279 605 366 1,250 Closing Balance 30/06/07 $M 184 530 308 1,022 Closing Balance 30/06/08 $M 279 605 366 1,250 (1) Inforce premium relates to risk business. Savings products are disclosed within Funds Management. (2) Other movements represent prior year renewals not previously included in comparatives. 20 Commonwealth Bank of Australia Annual Report 2008 Wealth Management continued Full Year Ended 30 June 2008 Inflows $M 17,537 2,365 1,767 2,477 24,146 209 24,355 37,097 3,481 159 65,092 17,481 82,573 Outflows $M (12,610) (1,079) (2,411) (6,110) (22,210) (257) (22,467) (17,470) (1,713) (267) (41,917) (12,042) (53,959) Investment Income & Other (5) $M (5,765) (904) 90 (2,928) (9,507) (163) (9,670) (1,720) 3,599 (279) (8,070) (4,384) (12,454) Net flows $M 4,927 1,286 (644) (3,633) 1,936 (48) 1,888 19,627 1,768 (108) 23,175 5,439 28,614 Full Year Ended 30 June 2007 Inflows $M 17,191 2,603 2,066 2,757 24,617 412 25,029 12,902 1,014 136 39,081 12,704 51,785 Outflows $M (7,995) (7,966) (2,751) (7,426) (26,138) (257) (26,395) (10,037) (2,411) (608) (39,451) (11,874) (51,325) Investment Income & Other (5) $M 4,172 2,040 125 4,061 10,398 536 10,934 1,789 2,331 399 15,453 7,249 22,702 Net flows $M 9,196 (5,363) (685) (4,669) (1,521) 155 (1,366) 2,865 (1,397) (472) (370) 830 460 Half Year Ended 30 June 2008 Inflows $M 6,613 1,281 751 1,155 9,800 75 9,875 9,827 1,575 95 21,372 7,610 28,982 Outflows $M (5,208) (497) (1,200) (2,571) (9,476) (120) (9,596) (9,776) (690) (97) (20,159) (5,380) (25,539) Investment Income & Other (5) $M (5,512) (805) 78 (3,217) (9,456) 71 (9,385) (2,421) 774 (278) (11,310) (6,997) (18,307) Net flows $M 1,405 784 (449) (1,416) 324 (45) 279 51 885 (2) 1,213 2,230 3,443 Closing Balance 30/06/08 $M 38,707 6,257 2,576 27,500 75,040 1,366 76,406 52,376 20,210 3,248 152,240 32,730 184,970 Closing Balance 30/06/07 $M 39,545 5,875 3,130 34,061 82,611 1,577 84,188 34,469 14,843 3,635 137,135 31,675 168,810 Closing Balance 30/06/08 $M 38,707 6,257 2,576 27,500 75,040 1,366 76,406 52,376 20,210 3,248 152,240 32,730 184,970 Opening Balance 30/06/07 $M 39,545 5,875 3,130 34,061 82,611 1,577 84,188 34,469 14,843 3,635 137,135 31,675 168,810 Opening Balance 30/06/06 $M 26,177 9,198 3,690 34,669 73,734 886 74,620 29,815 13,909 3,708 122,052 23,596 145,648 Opening Balance 31/12/07 $M 42,814 6,278 2,947 32,133 84,172 1,340 85,512 54,746 18,551 3,528 162,337 37,497 199,834 Funds Under Administration FirstChoice Avanteos Cash management Legacy products (1) Retail Products (Plan for Life) (2) Other retail (3) Australian retail Wholesale Property Other (4) Domestically sourced Internationally sourced Total Wealth Management Funds Under Administration FirstChoice Avanteos Cash management Legacy products (1) Retail Products (Plan for Life) (2) Other retail (3) Australian retail Wholesale Property Other (4) Domestically sourced Internationally sourced Total Wealth Management Funds Under Administration FirstChoice Avanteos Cash management Legacy products (1) Retail Products (Plan for Life) (2) Other retail (3) Australian retail Wholesale Property Other (4) Domestically sourced Internationally sourced Total Wealth Management (1) Includes stand-alone retail and legacy retail products. (2) Retail products aligned to Plan for Life market release. (3) Includes listed equity trusts and regular premium plans. These retail products are not reported in market share data. (4) Includes life company assets sourced from retail investors but not attributable to a funds management product (e.g. premiums from risk products). These amounts do not appear in retail market share data. (5) Includes foreign exchange gains and losses from translation of international sourced business. Commonwealth Bank of Australia Annual Report 2008 21 International Financial Services Financial Performance and Business Review Other Asia Pacific Business incorporates International Financial Services the Group’s banking operations in New Zealand, Fiji, Indonesia, China, Japan, India and Vietnam. It also includes life insurance and funds distribution activities in several of these countries. Cash net profit after tax for the year was $589(1) million, an increase of 23% on the prior year. After removing the impact of realised gains and losses associated with the hedge of the New Zealand operations and other foreign exchange movements the underlying growth was 17%. This strong profit growth was attributable to sustained growth in the Group’s New Zealand businesses, complemented by the growing contribution from Asian businesses, particularly the China banking investments. ASB Bank ASB Bank cash net profit after tax for the year was $428 million. Excluding the impact of realised gains on the hedge of New Zealand operations, profit increased 11% on the prior year. This was a very positive result in a challenging market with aggressive competition continuing to place downward pressure on margins and a general slowing in economic activity. The major drivers of growth were: • Home loan balances increased by 9% over the year, with market share increasing to 23.3%. Business banking market share increased to 8.8% at 30 June 2008, following 17% growth in balances for the year. Rural lending also showed strong growth for the year. Retail deposits grew by 13% to NZD 27.8 billion at 30 June 2008. Market share for retail deposits was also stable at 21.2%; • Net interest margin declined by six basis points with the impact of competition and the increased costs of wholesale funding partially offset by the higher mix of retail deposits; • in 2007. Although Impairment expenses increased to $34 million from $16 million loan arrears remain within acceptable limits, early indications are that the slowing in the New Zealand economy is starting to impact arrears; and • ASB continued to focus on service capability, maintaining its position as leader of the major banks based on recent customer service surveys and expanding the branch network with the addition of 10 new branches during the year. Sovereign Insurance life The predominantly under the Sovereign brand. insurance operations in New Zealand operate Sovereign’s cash net profit after tax for the year was $96 million, an increase of 3% on the prior year. This result included the impact of a deterioration in the New Zealand dollar exchange rate. The main drivers of this result were: • Positive claims experience particularly in the Death and Living Assurance/TPD classes; • Growth in inforce premiums of 11% whilst market share declined marginally to 31.7% at 31 March 2008, from 31.8% at 30 June 2007; • Market leading growth in new business sales with Sovereign capturing 34.4% of new business sales market share to March 2008 on a rolling 12 month basis; and • Positive impact on Shareholder investment returns due to the fall in corporate bond rates. (1) Represents Group Management view for the product segment rather than statutory view. 22 Commonwealth Bank of Australia Annual Report 2008 International Financial Services has grown its presence in the Asia Pacific region during the year with a number of business initiatives: • • Indonesia: Following the completion of the acquisition of Bank Arta Niaga Kencana (ANK) on 26 July 2007 and the legal merger of Bank ANK with PT Bank Commonwealth (PTBC) in December 2007, PTBC has continued to focus on expansion with the addition of eight new branches during the year which now total 51; Indonesia: Acquisition of an additional 30% interest held by the Group’s joint venture partner in PT Astra Life Insurance business bringing the Group’s shareholding to 80%. The business provides unit linked investment, traditional life and disability its 51 branches operating in 16 Indonesian cities; insurance products through • Vietnam: Following the granting of a licence to operate a branch in Ho Chi Minh City in January 2008, the branch will open in August 2008; • China: Continued strong growth in profits of the Jinan City Commercial Bank (11% holding) and Bank of Hangzhou (formerly Hangzhou City Commercial Bank - 19.9% holding). The Group also continued to implement its Capability Transfer Program at both Jinan City Commercial Bank and the Bank of Hangzhou; and • The Fiji business performed strongly in 2008 following the disruptions which arose during the political crisis last year. There are signs of increasing arrears as the economic uncertainty continues. Operating Expense Operating expenses for the year increased by 11% to $825 million. The increase was due to: • Increases in staff costs associated with branch expansion programs in ASB and PT Bank Commonwealth; • Acquisitions and start up costs for new operations, including a branch in Vietnam, full year expenses for Bank ANK in Indonesia and the acquisition of PT Commonwealth Life; • Wage inflation averaging 6% in New Zealand reflecting a the combination of competitive introduction of a mandatory employer sponsored savings scheme (Kiwisaver); labour markets and • Wage inflation in China and Indonesia in excess of 10% for the year; partly offset by • Impact of the weaker New Zealand Dollar and Indonesian Rupiah against the Australian Dollar. Market Share Housing market share in New Zealand improved over the year to 23.3%. Retail deposit market share in New Zealand was 21.2%, in line with June 2007. The market share of inforce premiums at 30 June 2008 was 31.7%, down marginally from June 2007. Market Share Percentage NZ lending for housing (1) NZ retail deposits (1) NZ retail FUM (1) NZ annual inforce premium 30/06/08 31/12/07 30/06/07 23. 1 21. 2 15. 8 31. 8 23. 1 21. 3 16. 1 31. 8 23. 3 21. 2 16. 4 31. 7 (1) The prior period comparative has been restated. International Financial Services continued Full Year Ended 30 June 2008 (1) ASB $M 814 316 1,130 - - 1,130 484 34 612 184 - 428 - 428 ASB $M 708 266 974 - - 974 456 16 502 145 357 - 357 ASB $M 414 160 574 - - 574 232 28 314 102 - 212 - 212 Sovereign $M - - - 48 210 258 194 - 64 (7) - 71 25 96 Other $M 101 67 168 - 42 210 147 9 54 (12) 2 64 1 65 Full Year Ended 30 June 2007 Sovereign $M - - - 46 220 266 180 - 86 10 76 17 93 Other $M 41 41 82 - 24 106 104 4 (2) (30) 28 - 28 Half Year Ended 30 June 2008 Sovereign $M - - - 24 104 128 97 - 31 (5) - 36 17 53 Other $M 59 40 99 2 28 129 85 3 41 1 1 39 (11) 28 Total $M 915 383 1,298 48 252 1,598 825 43 730 165 2 563 26 589 Total $M 749 307 1,056 46 244 1,346 740 20 586 125 461 17 478 Total $M 473 200 673 26 132 831 414 31 386 98 1 287 6 293 Net interest income Other banking income Total banking income Funds management income Insurance income Total operating income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Minority interests Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax Net interest income Other banking income Total banking income Funds management income Insurance income Total operating income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax Net interest income Other banking income Total banking income Funds management income Insurance income Total operating income Operating expenses Loan impairment expense Net profit before tax Corporate tax expense Minority interests Underlying profit after tax Shareholder investment returns after tax Cash net profit after tax (1) Additional information has been provided for this segment in line with the historic level of market disclosure. Commonwealth Bank of Australia Annual Report 2008 23 International Financial Services continued Major Balance Sheet Items (gross of impairment) Home lending Assets at fair value through Income Statement Other lending assets Non-lending interest earning assets Other assets Total assets Debt issues Deposits (1) Liabilities at fair value through Income Statement Other liabilities Total liabilities Balance Sheet Assets ASB Bank Other Total assets Liabilities ASB Bank Other Total liabilities 30/06/08 $M 28,347 5,186 12,328 1,654 4,119 51,634 3,556 22,810 12,592 3,792 42,750 46,958 4,676 51,634 39,231 3,519 42,750 31/12/07 $M 29,723 7,333 11,088 1,803 4,428 54,375 2,473 23,971 18,724 4,340 49,508 49,434 4,941 54,375 45,542 3,966 49,508 As at 30/06/07 $M 28,581 4,921 11,333 3,102 4,654 52,591 3,970 23,094 12,168 4,569 43,801 47,688 4,903 52,591 39,112 4,689 43,801 Jun 08 vs Dec 07 % (5) (29) 11 (8) (7) (5) Jun 08 vs Jun 07 % (1) 5 9 (47) (11) (2) 44 (5) (33) (13) (14) (5) (5) (5) (14) (11) (14) (10) (1) 3 (17) (2) (2) (5) (2) - (25) (2) (1) International Financial Services exclude deposits held in other overseas countries (30 June 2008: $7 billion, 31 December 2007: $8 billion and 30 June 2007: $5 billion). These deposits are reported within the Premium Business Services segment. Sources of Profit from Insurance Activities 30/06/08 $M 30/06/07 $M Jun 08 vs Jun 07 % 30/06/08 $M 31/12/07 $M Jun 08 vs Dec 07 % Full Year Ended Half Year Ended The Margin on Service profit from ordinary activities after income tax is represented by: Planned profit margin Experience variations Operating margins Shareholder investment returns after tax Cash net profit after tax New Zealand – Funds Under Administration Opening balance Inflows Outflows Net Flows Investment income and Other Closing balance New Zealand – Annual Inforce Premiums Opening balance Sales/New Business Lapses Other movements Closing balance 76 11 87 41 128 75 18 93 24 117 1 (39) (6) 71 9 38 10 48 9 57 38 1 39 32 71 - large 23 (72) (20) 30/06/08 $M 8,261 2,382 (2,905) (523) (1,403) 6,335 30/06/08 $M 379 54 (14) (48) 371 Full Year Ended Half Year Ended 30/06/07 $M 5,865 2,921 (1,618) 1,303 1,093 8,261 Jun 08 vs Jun 07 % 41 (18) 80 large large (23) 30/06/08 $M 7,868 1,332 (1,837) (505) (1,028) 6,335 31/12/07 $M 8,261 1,050 (1,068) (18) (375) 7,868 Jun 08 vs Dec 07 % (5) 27 72 large large (19) Full Year Ended Half Year Ended 30/06/07 $M 302 55 (14) 36 379 Jun 08 vs Jun 07 % 25 (2) - large (2) 30/06/08 $M 392 25 (9) (37) 371 31/12/07 $M 379 29 (5) (11) 392 Jun 08 vs Dec 07 % 3 (14) 80 large (5) 24 Commonwealth Bank of Australia Annual Report 2008 Net interest income (1) Other banking income (1) Total operating income Operating expenses Loan impairment expense Underlying profit before tax Corporate tax expense Minority interests Underlying profit after tax Shareholder investment returns Cash net profit after tax Net interest income (1) Other banking income (1) Total operating income Operating expenses Loan impairment expense Underlying profit before tax Corporate tax expense Minority interests Underlying profit after tax Shareholder investment returns Cash net profit after tax Net interest income (1) Other banking income (1) Total operating income Operating expenses Loan impairment expense Underlying profit before tax Corporate tax expense Minority interests Underlying profit after tax Shareholder investment returns Cash net profit after tax Other Full Year Ended 30 June 2008 Corporate Centre $M 302 (12) 290 (75) - 365 110 - 255 - 255 Eliminations/ Unallocated $M (181) (16) (197) - 130 (327) (144) 29 (212) (23) (235) Full Year Ended 30 June 2007 Corporate Centre $M 277 99 376 (94) - 470 168 - 302 - 302 Eliminations/ Unallocated $M (88) (13) (101) - (10) (91) (27) 27 (91) - (91) Half Year Ended 30 June 2008 Corporate Centre $M 160 36 196 (19) - 215 64 - 151 - 151 Eliminations/ Unallocated $M (93) (32) (125) - 125 (250) (121) 15 (144) (14) (158) Total $M 121 (28) 93 (75) 130 38 (34) 29 43 (23) 20 Total $M 189 86 275 (94) (10) 379 141 27 211 - 211 Total $M 67 4 71 (19) 125 (35) (57) 15 7 (14) (7) (1) Excludes the impact of reclassification of net swap costs from Net interest income to Other banking income related to certain economic hedges which do not qualify for AIFRS hedge accounting (30 June 2008: $265 million, 31 December 2007: $164 million and 30 June 2007: $107 million). Financial Performance Corporate Centre includes the results of unallocated group support functions such as Investor Relations, Group Strategy, Secretariat and Treasury, together with centralised project spend. Cash net profit after tax has decreased $47 million on the prior year due largely to the impact of $100 million of additional funding costs which were absorbed within Treasury income during the first half of the current year. Corporate Centre cash net profit after tax increased by $47 million over the prior half due to passing on of additional funding costs from Treasury to the revenue-generating businesses. Eliminations/Unallocated includes intra-group elimination entries arising on consolidation, centrally raised provisions and other unallocated intra-group revenue and expenses. Cash net profit after tax has decreased $144 million on the prior year due to a lending reduction interest accrued on in balances, a change the to apportionment of deferred tax assets across the Group, a significant strengthening of the centralised portion of the collective loan impairment provision, the reversal of a prior period tax provision and other unallocated intra-group expenses. intra-group the methodology relating the in Commonwealth Bank of Australia Annual Report 2008 25 Shareholder Investment Returns Shareholder Investment Returns Wealth Management International Financial Services Eliminations Shareholder investment returns before tax Corporate tax expense Shareholder investment returns after tax Full Year Ended 30/06/08 $M (19) 25 (23) (17) (4) (13) 30/06/07 $M 129 20 - 149 53 96 Jun 08 vs Jun 07 % large 25 - large large large 30/06/08 $M (46) 1 (14) (59) (18) (41) Half Year Ended 31/12/07 $M 27 24 (9) 42 14 28 Jun 08 vs Dec 07 % large (96) 56 large large large Shareholder investment returns of $17 million before tax was impacted by market volatility, primarily in the property sector. Shareholder Investment Asset Mix (%) Local equities International equities Property Sub-total Fixed interest Cash Sub-total Total Shareholder Investment Asset Mix ($M) Local equities International equities Property Sub-total Fixed interest Cash Sub-total Total Australia % 1 - 21 22 26 52 78 100 Australia $M 10 - 310 320 373 748 1,121 1,441 As at 30 June 2008 New Zealand % - 1 - 1 55 44 99 100 As at 30 June 2008 New Zealand $M 1 4 1 6 246 194 440 446 Asia % - 12 32 44 55 1 56 100 Asia $M - 11 28 39 49 1 50 89 Total % - 1 17 18 34 48 82 100 Total $M 11 15 339 365 668 943 1,611 1,976 26 Commonwealth Bank of Australia Annual Report 2008 Presentation of Financial Information Definitions In this Annual Report, the Group presents its profit from ordinary activities after tax on a “statutory basis”, which is calculated in accordance with the Australian equivalents to International Financial Reporting Standards (“AIFRS”). The Group also presents its results on a “cash basis”. "Cash basis" is defined by management as net profit after tax and minority interests, before the gain on Visa Initial Public Offering, Provisions for investment and restructuring, defined benefit superannuation plan income/expense, treasury shares valuation adjustment and unrealised gains and losses related to hedging and AIFRS volatility. Management believes "cash basis" is a meaningful measure of the Group’s performance and it provides the basis for the determination of the Bank’s dividends. The Group also presents its Earnings per share on a statutory basis and on a cash basis. Earnings per share on a statutory basis is affected by the impact of the gain on the Visa Initial Public Offering, Provisions for investment and restructuring, defined benefit superannuation plan income/expense, changes in the treasury shares valuation adjustment, and unrealised gains and losses related to hedging and AIFRS volatility. "Earnings per share (cash basis)" is defined by management as “cash basis” net profit after tax as described above, divided by the weighted average of the Bank’s ordinary shares outstanding over the relevant period. "Underlying net profit after tax" refers to net profit after tax, “cash basis”, before shareholder investment returns. "Underlying net profit after tax" is referred to across all businesses. The underlying profit is the result of core operating performance. Management believes it is meaningful to highlight the underlying profit in order to show performance on a comparable basis, in particular excluding the volatility of equity markets. "Underlying" productivity ratios: • Exclude Shareholder investment returns from funds management and life insurance income; • Exclude policyholder tax from the funds management income and life insurance income lines; and • Exclude the impacts of transition to AIFRS on unwinding structured transactions. "Underlying" productivity ratios have been presented to provide what management believes to be a more relevant presentation of productivity these adjustments enable comparison of productivity ratios from period to period to be more meaningful as it reflects the Group’s core operating performance. ratios. Management believes that Commonwealth Bank of Australia Annual Report 2008 27 Integrated Risk Management Risk Management Market Risk The Risk Committee of the Board oversees credit, market Market risk is the potential of loss arising from adverse changes (traded and non-traded), funding and liquidity, operational and in interest rates, foreign exchange prices, commodity and equity strategic business, business continuity, compliance and security prices, credit spreads, and implied volatility levels for all assets risks assumed by the Group in the course of carrying on its and liabilities where options are transacted. Market risk also business. Further information of the role and function of the Risk includes risks associated with funding and liquidity management. Committee is discussed in the Corporate Governance section of this report. APRA has specifically requested Australian banks implementing the Basel II framework to incorporate regulatory capital for The Group has in place an integrated risk management interest rate risk in the banking book in their assessment of total framework to identify, assess, manage and report risks and risk regulatory capital from 1 July 2008. The Group’s capital adjusted returns on a consistent and reliable basis. This calculation framework has been updated to include an framework requires each business to manage the outcome of its appropriate allowance for IRRBB capital in its 2009 financial risk-taking activities, and enjoy the resulting risk adjusted year regulatory capital calculation. returns. Risk management professionals employed in each Business Unit measure risks and provide advice on what risks might be taken for better returns. These risk professionals report to the Group Chief Risk Officer, who in turn reports to the CEO and has direct reporting requirements to the Risk Committee of the Board. Independent review of the risk management framework is carried out through Group Audit. Basel II The Basel Committee on Banking Supervision introduced a new risk based capital framework (Basel II) in June 2004. The new framework reflects advances in the management of risk since the introduction of the original Basel Accord in 1988. The Group initiated its Basel II project in 2004, implementing the new framework’s principles in order to elevate the Group’s risk management culture. The Group’s approach to Basel II was to obtain advanced accreditation (cost effectively) by using and enhancing existing risk rating tools and data gathering capabilities. In June 2006, the Group commenced calculating its Risk Weighted Assets in accordance with Basel II rules as part of its accreditation application. On 10 December 2007, the Group was one of the first major banks in Australia to gain approval from the Australian Prudential Regulation Authority (APRA) to use the advanced internal ratings-based (AIRB) approach for credit risk and the advanced measurement approach (AMA) for operational risk for the purposes of assessing risk weighted assets and regulatory capital. These approvals took effect from 1 January 2008. APRA has requested the Group defer the release of its Pillar 3 disclosures until the last quarter of 2008, when the other major Australian banks release their disclosures, to aid in comparative analysis. Further detail on the Group’s assessment of regulatory capital required under the new Basel II framework is discussed in the section on Capital Management. Credit Risk Credit risk is the potential of loss arising from failure of a debtor or counterparty to meet their contractual obligations. The measurement of credit risk is based on an internal credit risk rating system, which uses analytical tools to estimate expected and unexpected loss for the credit portfolio. The introduction of the Basel II framework has enabled the Group to manage loan portfolios and improve the ability to price for risk. Further information on credit risk management is included in Notes 15 and 42 to the Financial Statements. 28 Commonwealth Bank of Australia Annual Report The measurement of market risk for traded assets remains unchanged from the original Basel I approach. Further information on market risk is included in Note 42 to the Financial Statements. Liquidity and Funding Risk Balance Sheet liquidity risk is the risk of being unable to meet financial obligations as they fall due. Funding risk is the risk of over-reliance on a funding source to the extent that a change in that funding source could increase overall funding costs or cause difficulty in raising funds. Further information on liquidity and funding risk is included in Note 42 to the Financial Statements. Operational and Strategic Business Risk risk The Group’s operational and strategic business management its financial and business goals. Framework objectives approved by the Risk Committee are: the achievement of framework supports • Maintenance of an effective internal control environment and system of internal control; • Demonstration of effective governance, including a consistent approach to operational risk management across the Group; • Transparency, escalation and resolution of risk and control incidents and issues; • Making decisions based upon an informed risk-return analysis and appropriate standards of professional practice; and • Achieving business growth and enhancing financial through efficient and effective operational performance processes. Operational Risk is defined as the risk of economic gain or loss resulting from: Inadequate or failed internal processes and methodologies; • • People; • Systems and models used in making business decisions; or • External events. Strategic Business Risk is defined as the risk of economic gain or loss resulting from changes in the business environment caused by the following factors: • Economic; • Competitive; • Social trends; or • Regulatory Strategic business risk is taken into account when defining business strategy and objectives. The Risk Committee receives reports on business plans, major projects and change initiatives (including the Group’s current relocation program NOVA and the Core System Modernisation Project). The Risk committee monitors progress and reviews successes compared to plans. Each business manager is responsible for the identification and assessment of these risks, and for maintaining appropriate internal controls. Skilled operational risk professionals embedded in the business lead the Group’s operational risk framework and governance structures to support business managers through a suite of risk mitigating policies, the reporting of internal loss incidents and key risk indicators, and qualitative and quantitative assessment of risk exposures. Further governance and control oversight is provided by Group Audit for this and other risk types. The Group’s operational risk measurement methodology combines expert assessment of individual risk exposures with internal loss data to calculate operational risk economic capital and determine potential loss. As a result of the implementation of the Basel II framework the Group developed a sophisticated Operational Risk loss incident database. This has increased awareness of controls and processes which is contributing to lower operational losses, including loan frauds. The Group continues to benchmark and monitor its insurance risk transfer program for efficiency and effectiveness. This is primarily achieved through a methodology that optimises total shareholder returns and determines the most appropriate blend of economic capital coverage and insurance risk transfer. Business Continuity Management Business Continuity Management (“BCM”) within the Group involves the development, maintenance and testing of advance action plans to respond to threats that have the potential to impact business operations. BCM ensures that business processes continue with minimal adverse impact on customers, staff, products, services and brands. BCM constitutes an essential component of the Group’s risk management process by providing a controlled response to business disruption events that could have a significant impact on the Group’s critical processes and revenue streams. It includes both cost-effective responses to mitigate the impact of risk events or disasters and crisis management plans to respond to crisis events. A comprehensive BCM program including plan development, testing and education continues to be implemented across all business units. Integrated Risk Management Compliance Risk Management Compliance risk is the risk of legal or regulatory sanctions, material financial loss, or loss of reputation that the Group may suffer as a result of its failure to comply with the requirements of relevant laws, regulatory bodies, industry standards and codes. to meet the Group’s obligations under The Group’s Compliance Risk Management Framework (CRMF) is a key element of the Group’s integrated risk management framework. The CRMF is consistent with the Australian Standard on Compliance Programs; as such it is the designed Corporations Act 2001 and the Bank’s Australian Financial Services Licence. The CRMF incorporates a number of components including Group Standards, a Compliance Obligations Register and Guidance Notes that detail specific requirements and accountabilities. These are complemented by business unit compliance frameworks including obligations registers, standards and procedures. The CRMF provides for the assessment of compliance risks, implementation of controls, monitoring and testing of framework effectiveness, the escalation, remediation and reporting of compliance incidents and control weaknesses. The Group's compliance strategy is based on two fundamental principles: • Line Management in each Business Unit have the responsibility to ensure their business is and remains compliant with legislative, regulatory, industry code and organisational requirements; and • Group and Business Unit Regulatory Risk and Compliance teams work together to monitor, overview and report on compliance to management, compliance committees and the Board. Security Risk Security risk is defined as threats associated with theft and fraud, information and IT security, protective security and crisis management. The Group’s security risk management framework forms part of the operational risk framework and sets out the key roles, responsibilities and processes for security risk management across the Group. Commonwealth Bank of Australia Annual Report 2008 29 Capital Management Capital Management The Bank is an Authorised Deposit-taking Institution (“ADI”) and is subject to regulation by APRA under the authority of the Banking Act 1959. APRA has set minimum regulatory capital requirements for banks that are consistent with the International Convergence of Capital Measurement and Capital Standards: A Revised Framework (“Basel II”) issued by the Basel Committee on Banking Supervision. These requirements define what is acceptable as capital and provide for methods of measuring the risks incurred by the Bank. The regulatory capital requirements are measured for the Extended Licence Entity Group (known as “Level One” comprising the Bank and APRA approved subsidiaries) and for the Bank and all of its banking subsidiaries (known as “Level Two” or the “Group). All entities which are consolidated for accounting purposes are included within the Group capital adequacy calculations except for: • The insurance and funds management operations; and • The entities through which securitisation of Bank assets are conducted. Regulatory capital is divided into Tier One and Tier Two Capital. Tier One Capital primarily consists of Shareholders’ Equity plus other capital instruments acceptable to APRA, less goodwill and other prescribed deductions. Tier Two Capital is comprised primarily of hybrid and debt instruments acceptable to APRA less any prescribed deductions. Total Capital is the aggregate of Tier One and Tier Two Capital. A detailed breakdown of the components of capital is detailed on pages 32 to 36. The tangible component of the investment in the insurance and funds management operations are deducted from capital, 50% from Tier One and 50% from Tier Two. Capital adequacy is measured by means of a risk based capital ratio. The capital ratios reflect capital (Tier One, Tier Two or Total Capital) as a percentage of total Risk Weighted Assets (“RWA”). RWA represents an allocation of risks associated with the Group’s assets and other related exposures. its capital the The Group actively manages requirements of various stakeholders rating agencies and shareholders). This is achieved by optimising the mix of capital while maintaining adequate capital ratios throughout the financial year. to balance (regulators, The Group has a range of instruments and methodologies available to effectively manage capital including share issues and buybacks, dividend and dividend reinvestment plan policies, hybrid capital raising and dated and undated subordinated debt issues. All major capital related initiatives require approval of the Board. The Group’s capital position is monitored on a continuous basis and reported monthly to the Asset and Liability Committee of the Bank. Three year capital forecasts are conducted on a quarterly basis and a detailed capital and strategy plan is presented to the Board annually. The Group’s capital ratios throughout the 2007 and 2008 Financial Years were in compliance with both APRA minimum capital adequacy requirements (Tier One Capital 4% and Total Capital 8%) and the Board Approved Target Ranges of Tier One Capital 6.5 to 7% and Total Capital 10 to 12%). 30 Commonwealth Bank of Australia Annual Report 2008 The Total Capital target range was amended in 2008 from a range of 9 to 11% to a range of 10 to 12% in order to align with the Group’s strategy to apply for U.S. Financial Holding Company (FHC) status. FHC status requires the Group to maintain minimum Tier One Capital of 6% and Total Capital at 10% at all times. The Bank is required to inform APRA immediately of any breach or potential breach of its minimum capital adequacy requirements, including details of remedial action taken or planned to be taken. Dividends Banks may not pay dividends if immediately after payment, they are unable to meet the minimum capital requirements. Banks cannot pay dividends from Retained Profits without APRA’s prior approval. Under APRA guidelines, the expected dividend must be deducted from Tier One Capital. Regulatory Changes Basel II The Basel Committee on Banking Supervision introduced a new risk based capital framework (Basel II) in June 2004. The new framework reflects advances in the management of risk since the introduction of the original Basel Accord in 1988. The aim of Basel II is to improve the stability and soundness of the financial system by more closely linking capital requirements to risks. This is achieved by allowing banks with sophisticated risk management systems and techniques to use internal models to align the assessment of risk with the assessment of regulatory capital required. The Basel II framework consists of three pillars: • Pillar 1 – defines the rules for calculating the minimum for credit, market and regulatory capital requirements operational risk; • Pillar 2 – addresses the Group’s internal capital adequacy assessment process (ICAAP); and • Pillar 3 – specifies public disclosure requirements to enable market participants to assess key pieces of information on risk exposures and processes of a banking group. In June 2006, the Group commenced calculating its RWA in accordance with Basel II rules as part of its accreditation application. On 10 December 2007, the Group became one of the first major banks in Australia to be granted “advanced” Basel II accreditation by APRA. As a result of receiving advanced Basel II accreditation, the advanced internal ratings based approach (AIRB) for credit risk and for the advanced measurement approaches (AMA) operational risk have been adopted in the calculation of RWA. There is an agreed methodology for measuring market risk for traded assets, which remains unchanged from Basel I. APRA has specifically requested Australian banks to incorporate regulatory capital for interest rate risk in the banking book in their assessment of total regulatory capital from 1 July 2008. This is not a requirement under Basel II Pillar 1. The Group’s capital calculation include an appropriate allowance for IRRBB capital in its 2009 financial year regulatory capital calculation. framework has been updated to The work undertaken to achieve the advanced accreditation has in risk provided the Group with measurement and management, the flexibility with which the Group manages its decision making and capital management. increased sophistication thereby increasing Adoption of the methodology prescribed under the advanced approach was effective from 1 January 2008. • Regulatory capital as at 30 June 2008 has been calculated in accordance with the Basel II advanced methodology. The prudential calculations for the prior financial year are in accordance with the previous Basel I methodology. APRA made several changes to the definition of capital effective from 1 January 2008. The material changes applicable to the Group include: • Limits on the amount of Residual (25%) and Innovative Capital (15%) that qualifies as Tier One capital, with any excess transferred to upper Tier Two Capital. APRA has granted the Group $974 million transitional relief on the innovative capital limits until 1 January 2010; • Regulatory Expected Loss (pre-tax) using stressed loss given default assumptions associated with the loan portfolio in excess of eligible credit provisions (net of tax) are deducted 50% from both Tier One and Tier Two capital; • The prudential general reserve for credit losses (mostly comprising the collective provision for impairment losses) is excluded from Upper Tier Two Capital; • Total Capital deductions revert to 50% Tier One and 50% Tier Two Capital deductions; • Capital floor based on 90% of the capital required under Basel II, which as at 30 June 2008 has no impact on the Group’s capital levels; and • The loss of AIFRS Transitional Relief from Tier One and Two Capital. Active Capital Management The Group maintains a strong capital position with the advanced Basel II accreditation resulting in an increase in both the Group’s Tier One and Total Capital ratios, primarily driven by the reduction in risk weighted assets. As a result of Basel II advanced accreditation, the Total Capital Ratio was restated from 9.82% to 12.08% at 31 December 2007. The Tier One capital ratio was restated from 7.41% to 8.17% at 31 December 2007. As at 30 June 2008 the Tier One and Total Capital ratio are 8.17% and 11.58% respectively. RWA are $206 billion at 30 June 2008. This represents an $8 billion increase from the restated Basel II 31 December 2007 level of $198 billion. Adjusted Common Equity The Group’s Basel II ACE capital ratio as at 30 June 2008 is 6.47% and compares with 6.58% as at 31 December 2007. Significant Initiatives The following significant initiatives were undertaken during the financial year to actively manage the Bank’s capital: Tier One Capital • • • Issue of $1,465 million ($1,443 million net of issue costs) Perpetual Exchangeable Resaleable Listed Securities (PERLS IV) in July 2007 which qualify as Non-Innovative Residual Tier One Capital; Issue of $709 million shares in October 2007 to satisfy the Dividend Reinvestment Plan (“DRP”) in respect of the final dividend for 2006/07; Issue of $400 million of shares in April 2008 in order to satisfy the DRP in respect of the interim dividend for 2007/08. A further $98 million of shares were purchased as part of the DRP; and Capital Management In accordance with APRA guidelines, the estimated issue of $609 million of shares to satisfy the DRP in respect of the final dividend for 2007/08. This estimate represents a 30% participation in the DRP in respect of the final dividend. Tier Two Capital • Issue of the equivalent of $664 million of Lower Tier Two Capital was raised during the financial year, all of which was raised in the first half of the financial year. Regulatory Capital Requirements for Other Major ADIs in the Group ASB Bank Limited ASB Bank Limited is subject to regulation by the Reserve Bank of New Zealand (“RBNZ”). RBNZ applies a similar methodology to APRA in calculating regulatory capital requirements. At 30 June 2008 ASB Bank Limited had a Tier One ratio of 9.4% and a Total Capital ratio of 11.8% ASB Bank was requirements at all times throughout the current financial year. in compliance with regulatory capital In December 2007 ASB Bank Limited received advanced Basel II accreditation from the Reserve Bank of New Zealand. Regulatory Capital Requirements for Life Insurance and Funds Management Business The Group’s life insurance business in Australia is regulated by APRA. The Life Insurance Act 1995 includes a two tiered framework for the calculation of regulatory capital requirements “capital for adequacy”. The capital adequacy test for statutory funds is always equal to or greater than the solvency test. (1) insurance companies – “solvency” and life The Group owns Colonial Mutual Life Assurance Society Limited (“CMLA”), a life insurance company operating in Australia. Life insurance business previously written by Commonwealth Insurance Holdings Limited (“CIHL”) was transferred into CMLA effective 30 June 2007. There are no regulatory capital requirements for life insurance companies in New Zealand, though the directors of any Company must certify its solvency under the Companies Act 1993. The Group determines the minimum capital requirements for its New Zealand life insurance business according to the professional standard “Solvency Reserving for Life Insurers”, issued by the New Zealand Society of Actuaries. the Australian Securities and Fund managers in Australia are subject to ‘Responsible Entity’ regulation by Investment Commission (“ASIC”). The regulatory capital requirements vary depending on the type of Australian Financial Services licence or Authorised Representatives’ Licence held, but a requirement of up to $5 million of net tangible assets applies. APRA supervises approved trustees of superannuation funds and requires them to also maintain net tangible assets of at least $5 million. These requirements are not cumulative where an entity is both an approved trustee for superannuation purposes and a responsible entity. The Group’s life insurance and funds management companies held assets in excess of regulatory capital requirements at 30 June 2008. The Group’s Australian and New Zealand life insurance and funds management businesses held $949 million of assets in excess of regulatory solvency requirements at 30 June 2008 (2007: $1,168 million). (1) The Shareholders’ fund is subject to a separate capital requirement. Commonwealth Bank of Australia Annual Report 2008 31 Capital Management Capital Adequacy Risk-Weighted Capital Ratios (1) Tier One Tier Two Less Deductions Capital Base Adjusted Common Equity (2) Regulatory Capital Tier One Capital Fundamental Tier One Capital Total shareholders’ equity (3) Adjustments to total shareholders’ equity: Expected dividend (4) Estimated reinvestment under Dividend Reinvestment Plan (5) Treasury shares Cash flow hedge reserve General reserve for credit losses (after tax) (6) Employee compensation reserve Asset revaluation reserve Available-for-sale investments reserve Foreign currency translation reserve related to non-consolidated subsidiaries Deferred fees Retained earnings (7) Trust Preferred Securities 2006 (8) Minority Interests (9) Other Total Fundamental Tier One Capital Residual Tier One Capital Innovative Tier One Capital Irredeemable non-cumulative preference shares (10) Minority Interests (9) Eligible loan capital Total Innovative Capital Non-Innovative Residual Tier One Capital (11) Less residual capital in excess of prescribed limits transferred to Upper Tier Two Capital (12) Total Residual Tier One Capital Basel II 30/06/08 % 8. 17 3. 41 - 11. 58 6. 47 Basel II 31/12/07 % 8. 17 3. 91 - 12. 08 6. 58 Basel I 31/12/07 % 7. 41 3. 19 (0. 78) 9. 82 4. 77 30/06/08 $M 31/12/07 $M 31/12/07 $M Group Basel I 30/06/07 % 7. 14 3. 41 (0. 79) 9. 76 4. 79 Group 30/06/07 $M 26,137 25,638 25,638 24,444 (2,029) 609 264 (341) - 39 (195) 41 39 2 752 (939) (505) (67) 23,807 3,396 505 209 4,110 1,443 (1,359) 4,194 (1,487) 400 235 (477) - 81 (181) 72 (13) 54 752 (939) (505) (40) 23,590 3,451 505 236 4,192 1,443 (1,592) 4,043 (1,487) 400 235 (477) - 81 (181) 72 (13) 54 752 (939) - (40) 24,095 3,451 - 236 3,687 1,443 - 5,130 (1,939) 485 255 (440) (350) 51 (185) 35 (8) 97 752 (939) - (34) 22,224 3,474 - 245 3,719 - - 3,719 (1) June 2008 regulatory capital is calculated in accordance with Basel II rules and methodology which was effective from 1 January 2008. The Basel II ratios quoted in the table above do not make allowance for interest rate risk in the banking book, which is not effective until 1 July 2008. The December 2007 and June 2007 regulatory capital is reported in accordance with Basel I rules and methodology. (2) Adjusted Common Equity ("ACE") is one measure considered by Standard & Poor's in evaluating the Bank's credit rating. The ACE ratio for June 2008 has been calculated using the ACE numerator as a percentage of Basel II RWA with a comparison for December 2007. (3) Represents total shareholders’ equity as disclosed in the Group's Consolidated Balance Sheet. (4) Represents expected dividends required to be deducted from current period earnings. (5) Based on reinvestment experience related to the Bank's Dividend Reinvestment Plan (DRP) as approved by APRA. The DRP in respect of the December 2007 interim dividend was satisfied by the issue of $400 million of ordinary shares and has been reflected in the December 2007 numbers as detailed in the table above. The shares to be issued under the DRP in respect of the final 2007 dividend were estimated at 25% as approved by APRA, actual take up was 36.6%. (6) General reserve for credit loss of $350 million (after tax) transferred to retained earnings December 2007. (7) Represents the write-down in retained earnings upon adoption of AIFRS within the non-consolidated subsidiaries. (8) Trust Preferred Securities 2006 issued 15th March 2006 USD 700 million. These instruments qualify as Tier One Innovative Capital of the Bank. (9) Minority interest classified as Tier One Innovative Capital under Basel II regulations. Comprised predominately of ASB Perpetual Preference Shares of NZD550 million issued by New Zealand subsidiary entities. These shares are non-redeemable and carry limited voting rights. (10) APRA approved Innovative Tier One Capital instruments (PERLS II and III and Trust Preferred Securities 2003 and 2006). (11) Perpetual Exchangeable Resaleable Listed Securities (PERLS IV) of $1,465 million (less costs) issued by the Bank in July 2007 and approved by APRA as Tier One Non-Innovative Capital instruments. (12) Residual Capital eligible for inclusion as Tier One Capital is subject to an APRA prescribed limit of 25% of Tier One capital with any excess transferred to Upper Tier Two Capital. The Bank was granted transitional relief to 1 January 2010 with respect to the Innovative Capital limit of 15% of Tier One Capital of $974 million. 32 Commonwealth Bank of Australia Annual Report 2008 Capital Adequacy (continued) Tier One Capital Deductions – 100% Goodwill (1) Capitalised expenses Capitalised computer software costs Defined benefit superannuation plan surplus (2) Deferred tax Tier One Capital Deductions – 50% (3) Equity investments in other companies and trusts(4) Equity investments in non-consolidated subsidiaries (net on intangibles) Expected impairment loss (before tax) in excess of eligible credit provisions (net of deferred tax) (5) Other deductions Transitional Tier One Capital relief on adoption of AIFRS (6) Total Tier One Deductions Total Tier One Capital Capital Management Basel II 30/06/08 $M Basel II 31/12/07 $M Basel I 31/12/07 $M (8,010) (110) (353) (1,075) (38) (9,586) (561) (376) (587) (100) (1,624) - (11,210) 16,791 (8,030) (100) (316) (1,314) (27) (9,787) (723) (296) (536) (95) (1,650) - (11,437) 16,196 (8,030) (100) (316) (1,314) (27) (9,787) (870) - - - (870) 1,641 (9,016) 20,209 Group Basel I 30/06/07 $M (7,632) (136) (297) (1,270) (37) (9,372) (700) - - - (700) 1,641 (8,431) 17,512 (1) Represents total Goodwill and other intangibles (excluding capitalised computer software costs) which is required to be deducted from Tier One Capital. (2) In accordance with APRA regulations, the surplus (net of tax) in the Bank's defined benefit superannuation fund which is included in shareholders' equity, must be deducted from Tier One Capital. (3) Represents 50% Tier One and 50% Tier Two Capital deductions under Basel II rules. (4) Represents the Group’s non-controlling interest in major infrastructure assets and unit trusts. (5) Regulatory Expected Loss (pre-tax) using stressed loss given default assumptions associated with the loan portfolio in excess of eligible credit provisions (net of tax) are deducted 50% from both Tier One and Tier Two capital. (6) APRA granted transitional relief for Tier One and Tier Two Capital on adoption of AIFRS, which expired 1 January 2008. Commonwealth Bank of Australia Annual Report 2008 33 Capital Management Capital Adequacy (continued) Regulatory Capital Tier Two Capital Upper Tier Two Capital Residual capital in excess of prescribed limits transferred from Tier One Capital (1) Collective provision for impairment losses Other credit provisions Fair value credit adjustments General reserve for credit losses (pre-tax equivalent) Prudential general reserve for credit losses (2) Future income tax benefit related to prudential general reserve for credit losses Asset revaluation reserve (3) Upper Tier Two note and bond issues Other Total Upper Tier Two Capital Lower Tier Two Capital Lower Tier Two note and bond issues (4) (5) Holding of own Lower Tier Two Capital Transitional Tier Two capital relief on adoption of AIFRS (6) Total Lower Tier Two capital Tier Two Capital Deductions 50% Deductions from Tier Two Capital (7) Total Tier Two Capital Total Tier One and Tier Two Capital Basel II 30/06/08 $M Basel II 31/12/07 $M Basel I 31/12/07 $M Group Basel I 30/06/07 $M 1,359 1,592 - - - - - - - - 88 196 57 1,700 6,977 (40) - 6,937 - - - - - - 81 203 45 1,921 7,532 (45) - 7,487 1,084 28 22 - 1,134 (340) 81 203 45 1,123 7,532 (45) 74 7,561 1,034 23 24 500 1,581 (474) 83 191 34 1,415 6,922 (46) 74 6,950 (1,624) 7,013 23,804 (1,650) 7,758 23,954 - 8,684 28,893 - 8,365 25,877 Total Capital Deductions (8) Investment in non–consolidated subsidiaries (net of intangible component deducted from Tier One Capital): Value of acquired inforce business (9) Other deductions Total Capital - - (592) (409) - - 23,804 - - 23,954 (1,339) (189) 26,773 (1,339) (178) 23,951 (1) Residual Capital eligible for inclusion as Tier One Capital is subject to an APRA prescribed limit of 25% of Tier One Capital with any excess transferred to Upper Tier Two Capital. (2) Prudential General Reserve for Credit Losses is not eligible for inclusion in Upper Tier Two Capital under Basel II. (3) APRA allows only 45% of the asset revaluation reserve to be included in Tier Two Capital. (4) APRA requires these Lower Tier Two note and bond issues to be included as if they were unhedged. (5) For regulatory capital purposes, Lower Tier Two note and bond issues are amortised by 20% of the original amount during each of the last five years to maturity. (6) APRA has granted transitional relief for Tier One and Two Capital on adoption of AIFRS, which expired 1 January 2008. (7) Represents 50% Tier One and 50% Tier Two Capital deductions under Basel II rules. (8) Total Capital deductions revert to a 50% Tier One and 50% Tier Two deduction under Basel II regulations. (9) Value of acquired inforce business transferred to goodwill upon adoption of AIFRS. The deduction as at 30 June 2008 is now reflected in the goodwill deduction in Tier One Capital. 34 Commonwealth Bank of Australia Annual Report 2008 Capital Adequacy (continued) Risk Weighted Assets (1) Credit Risk Sovereign Banks Corporate (2) SME Corporate (3) Residential Mortgages (4) Qualifying Revolving Retail SME Retail (5) Other Retail Equity Portfolio Trading book repos and other derivatives (6) Specialised lending subject to the slotting approach (7) Securitisation (8) Other Assets (9) Portfolios subject to Standardised Approach Impact of regulatory scaling factor (10) Total Credit Risk Market Risk - Traded Operational Risk Total risk weighted assets (11) Capital Management Basel II 30/06/08 $M Basel II 31/12/07 $M Basel I 31/12/07 $M Group Basel I 30/06/07 $M 1,802 5,292 45,635 31,478 39,128 6,070 4,318 5,274 293 - 21,053 3,536 9,229 5,992 8,340 187,440 4,501 13,560 205,501 1,380 3,780 40,855 31,529 34,693 5,587 5,920 4,623 204 4,851 22,760 2,554 5,968 7,605 9,527 181,836 4,374 12,018 198,228 268,235 4,374 241,224 4,123 272,609 245,347 (1) Risk Weighted Assets for 30 June 2008 are calculated in accordance with the Group's advanced accreditation under Basel II. Risk Weighted Assets under Basel II are disclosed for 31 December 2007 for the purposes of comparison and align to the "Parallel Run" return provided to APRA at that date. Risk Weighted Assets calculated under Basel I methodology for 31 December 2007 and 30 June 2007 are shown for information purposes. (2) Corporate includes commercial credit risk where annual revenues exceed $50 million. (3) SME Corporate includes small and medium enterprise commercial credit risk where annual revenues are less than $50 million and exposures are greater than $1 million. (4) Residential Mortgages include retail and small and medium enterprise exposures up to $1 million that are secured by residential mortgage property. (5) SME Retail includes small and medium enterprise exposures up to $1 million that are not secured by residential mortgage property. (6) Trading Book repos and derivatives were separately identified in the calculation of RWA during the Basel II "Parallel Run" period. From, 1 January 2008, these exposures are now reported in asset classes including Sovereign, Banks and Corporate. (7) Specialised lending subject to the slotting approach includes Income Producing Real Estate and Project Finance. (8) Securitisation includes Bank-originated securitised exposures and the provision of facilities to customers in relation to securitisation activities. (9) Other Assets includes Cash, Investments in Related Entities, Fixed Assets and Margin Lending. (10) Risk Weighted Assets which are calculated in accordance with APRA's approval for advanced accreditation under Basel II, are required to apply a scaling factor of 1.06 to assets that are not subject to specific risk weights. The 31 December 2007 comparative includes scaling impact of $1,531 million applied to Specialised Lending, Securitisation and Equity Portfolio that was included in the "Parallel Run" calculations of RWA provided to APRA at that date for those credit risk types. This is no longer applicable to these asset classes. (11) The transitional capital floors prescribed in APRA Prudential Standard APS 150 "Capital Adequacy: Basel II Transition" did not impact on the Group's Risk Weighted Assets as at 30 June 2008 or 31 December 2007. Risk Weighted Assets equivalent for Interest Rate Risk in the Banking Book is not included in this table as it is not effective until 1 July 2008. Commonwealth Bank of Australia Annual Report 2008 35 Capital Management Capital Adequacy (continued) Adjusted Common Equity (1) Total Fundamental Tier One capital Deduct: Goodwill Capitalised expenses Capitalised computer software costs Defined benefit superannuation plan surplus Investment in non-consolidated subsidiaries (net of intangible component deducted from Tier One Capital) (2) Other deductions (3) Minority interest (4) Total Adjusted Common Equity Total risk-weighted assets(5) Basel II 30/06/2008 $M Basel II 31/12/2007 $M Basel I 31/12/2007 $M 23,807 (8,010) (110) (353) (1,075) (752) (200) (13) 13,294 205,501 23,590 (8,030) (100) (316) (1,314) (592) (189) (6) 13,043 198,228 24,095 (8,030) (100) (316) (1,314) (592) (189) (511) 13,043 273,478 Group Basel I 30/06/2007 $M 22,224 (7,632) (136) (297) (1,270) (409) (178) (512) 11,790 246,047 (1) Adjusted Common Equity ("ACE") is one measure considered by Standard & Poor's in evaluating the Bank's credit rating. The ACE ratio for June 2008 has been calculated using the ACE numerator as a percentage of Basel II RWA with a comparison for December 2007. (2) Investment in non-consolidated subsidiaries of $752 million comprises $376 million deduction from both Tier One and Tier Two Capital. (3) Other deductions of $200 million comprises $100 million deduction from both Tier One and Tier Two Capital. (4) Represents minority interest balance net of preference shares transferred to innovative capital of $505 million. (5) In calculating Basel I risk weighted assets in accordance with Standard and Poor's agreed methodology, the equity investment in other companies (December 2007: $0.9 billion and June 2007: $0.7 billion) was required to be added to risk weighted assets as this amount is not deducted from ACE Capital. 36 Commonwealth Bank of Australia Annual Report 2008 Description of Business Environment Australia Financial Services Financial services providers in Australia offer a wide range of products and services to consumer and business customers, encompassing retail, business and institutional banking, funds management, superannuation, investment and stockbroking services. The domestic competitive landscape includes the four major banks, regional banks, building societies and credit unions, foreign entrants to the Australian market, local and global investment banks and fund managers, private equity firms, insurance companies and third party distributors. insurance, Banking The Australian banking sector performed strongly in the 1990s and early this millennium, largely driven by strong growth in lending. More recently, however, there has been some slowing of credit growth and more active management of credit by consumers. Together with an increase in the activities of new entrants, this has led to intensifying competition and to downward pressure on margins. Over the last six months, the volatility in global credit markets has impacted all institutions negatively. The major banks, which offer a full range of financial products and services through branch networks, call centres, the internet, ATMs and third party intermediaries across Australia, have responded to the increased competition by improving efficiency and by an increased focus on customer service. This has resulted in increased customer satisfaction scores across the industry. The regional banks, whilst smaller than the majors, mostly now operate across state borders. They have experienced strong growth in targeted product segments (especially mortgages) facilitated by an increased acceptance by customers of third party brokers. At the present time it is unclear how this will develop given the higher funding costs incurred and current uncertainties in financial markets. Funds Management Substantial growth continues in funds management, especially within the superannuation (pension funds) segment although the downturn in equity markets will impact returns and probably also inflows. The simplification of superannuation legislation including the removal of taxes on end benefits for over sixties is expected to support continuing growth in superannuation investment and self managed superannuation. The search for above market return investments has seen an increased allocation of funds to boutiques, hedge funds, private equity players and alternative asset classes. The recent uncertainties have slowed this movement with investors showing some flight from risk to quality. Over the last decade, the corporate bond market in Australia has benefited from the growth in funds under management with many of the major Australian corporates now directly accessing capital markets domestically and around the world. Insurance Solid growth in the sector is expected to continue given the current levels of underinsurance and beneficial treatment of life insurance levels of inside superannuation. Growing debt households will increase the importance of life insurance and other wealth protection products. The general insurance market is mature, diversified and highly competitive. Margin pressure and other competitive activity will necessitate targeted growth strategies. New Zealand The Group’s activities in New Zealand are conducted through ASB Group. Through its wholly owned subsidiaries, Sovereign Group and ASB Group Investments, ASB Group also competes in the New Zealand insurance and investment market. in Australia, the New Zealand banking system As is characterised by strong competition. New Zealand banking activities are led by four financial services groups, owned by the big four Australian major banks. In addition, there are several financial institutions operating largely in the wholesale banking sector. As in Australia, there is strong competition with non-bank financial institutions in the areas of funds management and the provision of insurance. Major trends in the New Zealand market include continued margin pressure, a slowing housing market, declining net migration and the commoditisation of retail lending. Long-term trends that impact Financial Services Long-term trends that impact financial services providers in Australia and New Zealand include: increasing consumer power industry as a result of electronic delivery channels; consolidation; an ageing population retirement savings and the provision of retirement solutions placing pressure on labour supply. impacting Financial System Regulation in Australia Australia has by international standards a high quality financial system which financial products and services consistently regardless of the type of financial institutions providing them. regulates Since July 1998, the main financial services regulators in Australia have comprised five separate agencies: The Reserve Bank of Australia, the Australian Prudential Regulation Authority, the Australian Securities and Investments Commission, the Australian Transaction Reports and Analysis Centre and the Australian Competition and Consumer Commission. Each agency has system-wide responsibilities the different objectives of government oversight of the financial system. A description of these agencies and their general responsibilities and functions is set out below. for Reserve Bank of Australia (“RBA”) is responsible for monetary policy, financial system stability and regulation of the payments system. The Australian Prudential Regulation Authority (“APRA”) has responsibility for the prudential supervision of banks, building insurance societies and credit unions, funds companies, (pension funds). Unless an institution is authorised under the Banking Act 1959 or exempted by APRA, it is prohibited from engaging in the general business of deposit-taking. friendly societies and superannuation life and general The Australian Securities and Investments Commission (“ASIC”) has responsibility for regulating and enforcing Company and financial services laws to protect consumers, investors and creditors, including the Corporations Act 2001. The Corporations Act 2001 provides for a single licensing regime for sales, advice and dealings in financial products and services, consistent and comparable financial product disclosure and a single authorisation procedure for financial exchanges and clearing and settlement facilities. The current financial services regulatory framework is intended to facilitate innovation and promote business while at the same time ensuring consumer protection and market integrity. Commonwealth Bank of Australia Annual Report 2008 37 Description of Business Environment (iii) Large Credit Exposures APRA requires banks to ensure that, other than in exceptional circumstances, individual credit exposures to non-bank, non- government clients do not exceed 25% of the capital base. Exposure to unrelated ADIs is not to exceed 50% of the capital base. Prior consultation must be held with APRA if a bank intends to exceed set thresholds. For information on the Bank’s large exposures refer to Note 15 to the Financial Statements. (iv) Ownership and Control In pursuit of transparency and risk minimisation, the Financial Sector (Shareholding) Act 1998 embodies the principle that regulated financial institutions should maintain widespread ownership. The Act applies a common 15% shareholding limit for ADIs, insurance companies and their holding companies. The Treasurer has the power to approve acquisitions exceeding 15% where this is in the national interest, taking into account advice from the ACCC in relation to competition considerations and APRA on prudential matters. The Treasurer may also financial delegate approval powers institution seeks to acquire another. to APRA where one The Government’s present policy is that mergers among the four major banks will not be permitted until the Government is satisfied that competition from new and established participants in the financial industry, particularly in respect of small business lending, has increased sufficiently. Proposals for foreign acquisition of Australian banks are subject to approval by the Treasurer under the Foreign Acquisitions and Takeovers Act 1975. (v) Banks’ Association With Non-Banks There are formal guidelines (including maximum exposure limits) that control investments and dealings with subsidiaries and associates. A bank’s equity associations with other institutions should normally be in the field of finance. APRA has expressed an unwillingness to allow subsidiaries of a bank to exceed a size which would endanger the stability of the parent. No bank can enter into any agreements or arrangements for the sale or disposal of its business, or effect a reconstruction or carry on business in partnership with another bank, without the consent of the Commonwealth Treasurer. (vi) Fit & Proper and Governance ADIs are subject to APRA’s “Fit and Proper” and “Governance” prudential standards. ADIs are required to implement a Board approved Fit and Proper policy covering minimum requirements for the fitness and proprietary of their responsible persons (directors and designated members of senior management etc). ADIs also have to comply with APRA’s Governance prudential standard which sets out requirements for Board size and composition, independence of directors and other APRA governance matters. The Australian Transaction Reports and Analysis Centre (“AUSTRAC”) has responsibility for overseeing compliance with the Anti-Money Laundering and Counter Terrorism Financing Act (being phased in between December 2006 and December 2008) and the Financial Transaction Reports Act 1998. As a provider of financial services in Australia and internationally, the Group is committed to the principles of the Financial Action Task Force as the international standard setter for anti-money laundering and counter-terrorism financing efforts. The Australian Competition and Consumer Commission (“ACCC”) promotes competition and fair trade to benefit consumers, business and the the community administration of The Trade Practices Act 1974. through Supervisory Arrangements The Bank is an Authorised Deposit-taking Institution (“ADI”) under the Banking Act and is subject to prudential regulation by APRA. In carrying out its prudential responsibilities, APRA closely monitors the operations of banks to ensure that they operate within the prudential framework and that sound management practices are followed. APRA currently supervises banks by a system of off-site examination. It closely monitors the operations of banks through the collection of regular statistical returns and regular prudential consultations with each bank’s management. APRA also conducts a program of specialised on-site visits to assess the adequacy of individual banks’ systems for identifying, measuring and controlling risks associated with the conduct of these activities. In addition, APRA has established arrangements under which each bank’s external auditor reports to APRA regarding observance of prudential standards and other supervisory requirements. The prudential framework applied by APRA is embodied in a series of prudential standards and other requirements including: (i) Capital Adequacy APRA approved the Group’s application to use the advanced internal ratings-based approach to credit risk and the advanced measurement approach to operational risk for the purposes of calculating capital requirements under the Basel II Framework in December 2007. (ii) Funding and Liquidity APRA exercises liquidity control by requiring each bank to develop a liquidity management strategy that is appropriate for itself. Each policy is formally approved by APRA. A key element of the Group’s liquidity policy is the holding of high quality liquid assets to meet liquidity requirements. The liquid assets held are assets that are available for repurchase by the RBA (over and above those required to meet the Real Time Gross Settlement (“RTGS”) obligations, AUD Certificates of Deposit/Bills of other banks and AUD overnight interbank loans) and other highly liquid market securities. More detailed comments on the Group’s liquidity and funding risks are provided in Note 42 to the Financial Statements. 38 Commonwealth Bank of Australia Annual Report 2008 Description of Business Environment (vii) Supervision of Non-Bank Group Entities The Australian life insurance company subsidiaries, general insurance company subsidiaries and the superannuation trustees of the Group also come within the supervisory review of APRA. APRA’s prudential supervision of both life insurance and general insurance companies is exercised through the setting of minimum standards for solvency and financial strength to ensure obligations to policyholders can be met. Trustees operating APRA regulated superannuation entities are required to hold a Registrable Superannuation Entity (“RSE”) licence from APRA. insurance companies are subject General to prudential standards including capital adequacy, liability valuation, risk management and reinsurance arrangements. Compliance with APRA regulation for general insurance companies is monitored through regular returns, lodgement of an audited annual return, and Auditor certification covering prudential matters. financial reporting, The financial condition of life insurance companies is monitored through regular lodgement of audited accounts, the preparation of a financial conditions report (prepared by the company’s approved actuary) and supervisory inspections. Life and general insurance companies are also subject to similar Fit and Proper and Governance requirements as those applying to ADIs. Critical Accounting Policies and Estimates The Group’s accounting policies are set out in Note 1 to the Financial Statements. Critical accounting policies and estimates are set out in Note 1 (mm) to the Financial Statements. Commonwealth Bank of Australia Annual Report 2008 39 Sustainability Sustainability Initiatives Sustainability initiatives are an integral part of delivering the Group’s strategic priorities and creating value for shareholders. During the 2008 financial year the Group implemented and further developed a number of initiatives designed to: • Deliver cost savings through eco-efficiency; • Create an organisational culture that supports customer service excellence; • Manage risks and identify new commercial opportunities associated with climate change and carbon trading; • Build stronger relationships with the community; and • Create a workplace that attracts and retains the best people. These activities are part of being a well-managed organisation that delivers long-term shareholder value. is committed to consistently The Group reporting a comprehensive set of sustainability metrics to Shareholders. Measuring and publicly reporting these indicators is an important part of driving performance improvement, and we are continually working to improve our sustainability data and processes. More information about the Group’s sustainability objectives and achievements can be found at www.commbank.com.au/sustainability Environment Reporting and disclosure The Group has been measuring and voluntarily disclosing its energy use and greenhouse emissions since 2001, as part of the Greenhouse Challenge Plus program. Participation in this program has driven a range of energy efficiency initiatives across the Group. The Group is subject to the Federal Government’s Energy Efficiency Opportunity Act as its operations exceed the minimum energy consumption threshold set by the Act. The Group currently undertakes energy assessments for its offices and branches. A report on the Group’s progress in complying with the Act will be available on Internet site www.commbank.com.au in December 2008. the Group’s The Group is also subject to the National Greenhouse and Energy Reporting Scheme (NGERS). As a result of a long history of voluntary reporting, the Group is well placed to meet the NGERS’ mandatory requirements, and is currently revising its data capture and reporting systems to comply with the new legislation. During 2008 the Group voluntarily reported its greenhouse gas emissions to the Carbon Disclosure Project, an independent not-for-profit organisation that seeks climate-related information from the world’s largest companies on behalf of institutional investors. This was an opportunity to examine more closely the risks and opportunities associated with climate change and to contribute to the international dialogue on disclosure of greenhouse gas emissions. Managing greenhouse gas emissions The Group occupies over 750,000 square metres of office and retail space across Australia, and is committed to reducing the environmental impact of these properties. the period. During The Group’s gross greenhouse gas emissions have increased since 2004 due to the size of the Group’s property portfolio increasing over the Group commenced a major restructuring of its commercial property portfolio, with new premises being opened at Sydney Olympic Park and major refurbishments at Parramatta. Energy use is higher during this transition period as both old and new properties are being run concurrently and fuel use has increased due to growth in the business. the year To address greenhouse gas emissions, the Group has an ongoing program of refurbishing and upgrading its retail branch network to deliver significant improvements to lighting and air- conditioning energy efficiency. The Group is progressively upgrading its office accommodation which includes new modern office premises at Sydney Olympic Park, the Sydney CBD and Parramatta. These new and upgraded premises will accommodate up to 15,000 people. Environmental performance has been a key consideration for these new buildings. The ongoing nature of the Group’s energy efficiency measures is demonstrated by the fact that greenhouse gas emissions fell by 16 percent per square metre of floor space between 2002 and 2007 (1). Financial Year Greenhouse gas emissions Total equivalent tonnes of carbon dioxide (CO2-e) (3) (4) (5) CO2-e emissions per Full Time Equivalent staff (tonnes) (6) Energy use Total (GJ) (7) Total per FTE (GJ) (6) 2008 (2) 2007 2006 2005 2004 171,738 5. 6 734,386 23. 87 163,509 5. 5 687,839 22. 94 165,935 5. 6 675,307 22. 79 149,781 5. 2 608,661 21. 28 159,823 n/a 638,819 n/a (1) This figure varies slightly from that reported in the Group’s April 2008 Sustainability Update due to improved accuracy in calculation methodology. (2) Due to the electricity billing cycle, 18% of 2007-2008 electricity data was estimated to meet publication deadlines. Final data will be provided on the Group’s Internet site when available. (3) Total CO2-e emissions consist of emissions relating to consumption of electricity, gas and transport fuel (gasoline and diesel) for domestic retail and commercial properties and waste (i.e. general waste, which is collected from a number of Group occupied properties). (4) For all years CO2-e calculations used the Australian Greenhouse Office (AGO) Workbook conversion factors. (5) CO2-e figures previously reported under Greenhouse Challenge Plus have been restated to reflect full fuel cycle emissions for transport fuels. (6) Full Time Equivalent (FTE) includes only domestic permanent and contractor employees. Offshore employees are excluded. (7) Total energy use consists of consumption of electricity, gas and transport fuel (gasoline and diesel). Gas and electricity consumption includes all domestic retail and commercial occupied properties, both owned and leased, excluding residential and properties where electricity is on-sold. Transport fuel includes gasoline and diesel fuel purchased for both Group fleet and novated leased vehicles. 40 Commonwealth Bank of Australia Annual Report 2008 Sustainability People Trust and team spirit is one of the Group’s key strategic priorities. The Group recognises the importance of attracting, retaining and developing good quality people in achieving its vision of becoming Australia’s financial services organisation through excelling in customer service. finest The Group has recorded a continual improvement in the workplace survey results over the last five years and is now ranked in the top quartile worldwide (source: Gallup). The Group has put in place many initiatives to address the turnover and absenteeism rates amongst its staff, which have increased during the year, as a result of the tightening labour market. One key initiative is an increased focus on leadership and talent management. In 2008 the Group launched its Leadership Capabilities framework that defines the skills, knowledge and behaviours that leaders need for the Group to achieve its vision and objectives. The Group is supporting the development of these capabilities in its people through the programs offered in its Leadership Curriculum. Financial Year Employee satisfaction Gallup Survey GrandMean (1) Employee turnover (voluntary) % (2) Absenteeism Average days per FTE (3) Safety Lost Time Injury Frequency Rate (LTIFR) (5) 2008 2007 2006 2005 2004 4. 28 18. 45 6. 5 (4) 2. 5 4. 13 14. 94 6. 2 3. 6 4. 15 15. 94 6. 0 4. 5 4. 08 n/a n/a 5. 8 3. 94 n/a n/a 5. 6 (1) The Gallup Survey GrandMean measures employee engagement out of a possible score of 5. (2) Employee turnover refers to all voluntary exits of domestic permanent employees. (3) Absenteeism refers to sick leave of domestic, permanent employees only (since January 2005). (4) 2007-2008 figure is annualised figure as at 31 May 2008. (5) LTIFR refers to domestic, permanent employees only. Data is correct as of 30 June 2008; however it may be adjusted in future due to post-publication reporting of incidents or acceptance/decline of claims for the reporting period. This measure represents the number of working hours lost per million hours worked. Diversity Safety The Group is strongly committed to the health, safety and well- being of its people. This commitment is demonstrated through a range of safety awareness and management activities, which has contributed to a steady improvement in the Group’s Lost Time Injury Frequency Rate (LTIFR) over recent years. Central to the Group’s activities is the continued development and improvement of its Occupational Health and Safety (OHS) Management System. A major change during the year was consolidation of most of the Group’s OHS and Workers Compensation arrangements from State based jurisdictions to the Federal Comcare scheme. This has allowed the Group to simplify OHS compliance documentation and processes, in order to focus on continuously improving the OHS Management System and performance. The Group regularly undertakes both internal and external audits of its OHS Management System to measure its performance and ensure that the Group complies with all relevant legislation in the jurisdictions that it operates. The Group is committed to creating and maintaining a diverse workforce. Through diversity the Group recognises and values the varied perspectives, skills and approaches its people bring to work. In 2006 the Group established a Diversity Council, chaired by the CEO. The Council has adopted five areas of focus: • Leveraging the skills and talents of the female workforce to build a leadership pipeline that increases the number of women in senior leadership positions; • Creating a framework and culture that enables employees to better balance their work and personal circumstances through flexible work arrangements; • Attracting and retaining mature-age employees; • Enhancing understanding and acceptance of employees and customers from culturally diverse backgrounds; and • Improving the work environment and opportunities for current and future employees with disabilities. Over 20 per cent of employees work part-time with many more taking advantage of other flexible work arrangements such as working from home or adjusting their work hours. The Group is recognised as an Employer of Choice for Women by the Federal Government’s Equal Opportunity for Women in the Workplace Agency, a status it has maintained since the award's inception in 2001. Almost 65 per cent of the domestic workforce is female. The Group holds women's forums where senior female managers can develop career skills and network with one another in an informal environment. One key diversity initiative is the Group’s partnership with the Aboriginal Employment Strategy. In the year to June 2008 the Group provided 60 Year 11 and 12 Indigenous students with valuable experience in the Group’s retail banking network. This program is credited towards their Higher School Certificate qualifications and can help them gain permanent employment with the Group. Commonwealth Bank of Australia Annual Report 2008 41 Sustainability Customers Contributing to the community The Group’s Main Financial Institution (MFI) retail customer satisfaction levels reached a 10-year(1) high during the year and business customer satisfaction levels also showed significant improvements. All major banks have experienced a decline in MFI customer satisfaction, as measured by Roy Morgan Research, during the six months to June 2008, reflecting a weakening overall in customer sentiment towards the sector. CBA experienced the smallest such decline of all the major banks over this period. Colonial First State’s FirstChoice product platform achieved the number one ranking for advisers’ overall satisfaction in the Wealth Insights MasterTrust survey. The Group’s focus on sales and service is reflected in the achievement of a number of awards, including Money Magazine’s Bank of the Year for 2008 and the Group’s retail branch strategy being awarded “Best Branch Strategy” at the 2008 International Retail Banking awards. More information about customer service initiatives is available on page 62. Customer Satisfaction Rating 2008 2007 2006 2005 2004 Retail (1) Business (2) 73. 9% 60. 7% 56. 5% 55. 5% 54. 0% 70. 1% 70. 5% 64. 9% 65. 4% 63. 2% Wealth (3) 7. 70 7. 96 7. 51 7. 85 7. 86 (1) Roy Morgan Research MFI Customer Satisfaction is based on Australians aged 14+, Very or Fairly Satisfied, a 6 month moving average. The period reported is for 1 January to 30 June for each year. (2) TNS Business Finance Monitor. All businesses with annual turnover to $100 million (excluding agribusinesses). Very or Fairly Satisfied a 12 month moving average. The period reported is for 1 July to 30 June for each year. (3) Source: Colonial FirstChoice rated by advisors in Wealth Insights Master Trust/Wrap survey. Responsible investment As part of the Group’s Wealth Management business, Colonial First State Global Asset Management became a signatory to the UN Principles for Responsible Investment (PRI) on 1 March 2007, to better align investment practices with the interests of the Group’s institutional investors globally. has established comprehensive Since becoming a signatory, Colonial First State Global Asset internal Management governance structures to assist with the implementation of the PRI across all investment teams and to drive the continuous improvement of responsible investment practices. Ultimately, the business believes this will lead to the delivery of improved risk- adjusted returns for clients. This governance structure includes an executive-driven Responsible Investment Steering Committee, with underlying investment committees for listed investments and direct assets. As a result, the risk assessment of environmental, social and governance fundamental part of investment processes across all asset classes and regions. factors has become a Colonial First State Global Asset Management has also updated its corporate governance policy to include environmental and social engagement factors. 42 Commonwealth Bank of Australia Annual Report 2008 The Group has been an active part of Australian communities for almost 100 years. This long-term commitment is reflected in a number of ongoing community partnerships and sponsorship programs in the areas of health, the arts, sport, social welfare and financial literacy. Financial literacy is one of the Group’s major areas of the importance of financial literacy education in ensuring a secure and financially stable Australia. the community, reflecting focus in The Commonwealth Bank Foundation financial literacy program involved over 30,000 teenagers and teachers in 2007 through StartSmart education forums and workshops. The Group encourages its people to engage with their local communities and participate in volunteering activities including St Vincent de Paul Night Patrol and Midnight Basketball. Staff make regular contributions to the Staff Community Fund and undertake fundraising activities. In 2008 over $750,000 was raised for the Fund, to support the health and wellbeing of Australian children through the Local Grants Program, the Humour Foundation and Midnight Basketball. The Group is currently developing the capability to capture and report on all community contributions and staff volunteering hours. Reconciliation Action Plan The Group launched its Reconciliation Action Plan on 24 July 2008, in partnership with Reconciliation Australia. The Group recognises that a comprehensive reconciliation program is an important part of its investment in the community. In the Reconciliation Action Plan (RAP), the Group has formalised its commitment to Indigenous Australians and identified how reconciliation can advance the Group’s objectives and vision. The implementation of the RAP will enhance the involvement, inclusion and progression of Indigenous Australians within the Group and build capability in meeting the needs of Indigenous customers and staff. The Group will also investigate ways to support Indigenous Enterprise and the Commonwealth Bank Foundation will continue to provide financial literacy education to both Indigenous adults and young people. Future Developments The Group has identified five priority areas for sustainability that it plans to focus on in the coming year: • Embedding sustainability into business processes, which includes an increased incorporation of environmental and into management and decision making social processes; issues • Supporting diversity and financial wellbeing the community by continuing the focus on financial literacy, and focus on educational and employment an opportunities for Indigenous Australians as part of the Reconciliation Action Plan; increased in • Helping customers to meet their sustainability goals by developing products and services to meet their evolving needs; • Creating greener workplaces by setting a greenhouse gas reduction target, as well as addressing measurement and reporting of water and waste data; and • Continuing to build a culture of customer service excellence, with a focus on leadership, recruitment and reward to ensure culture is aligned with the Group’s goal of being Australia’s finest financial services organisation. Introduction This statement reflects the key aspects of the Commonwealth Bank’s corporate governance framework. The Board has consistently placed great importance on the governance of the Group, which it believes is vital to the well-being of the corporation. The Board has adopted a comprehensive framework of Corporate Governance Guidelines which are designed to properly balance performance and conformance and thereby allow the Group to undertake, in an effective manner, the prudent risk-taking activities which are the basis of its business. The Guidelines and the practices of the Group comply with the revised ‘Corporate Governance Principles and Recommendations’ published in August 2007 by the Australian Securities Exchange (ASX) Limited’s Corporate Governance Council. Charter The role and responsibilities of the Board of Directors are set out in the Board Charter. The responsibilities include: Corporate Governance • Approving documents (including reports and statements to shareholders) required by the Bank’s Constitution and relevant regulation; • Employment of the Chief Executive Officer; and • Approval of the Group’s major HR policies and overseeing the development strategies for senior and high performing executives. The Board carries out the legal duties of its role in accordance with the Group’s values of trust, honesty and integrity and having the Group’s customers, staff, regard shareholders and the broader community in which the Group operates. interests of the to The Board delegates to the Chief Executive Officer the authority to achieve the Group’s objective of creating long term value for its shareholders through providing financial services to its customers and providing sustained best-in-industry performance in safety, community reputation and environmental impact. • The corporate governance of the Group, including the Composition There are currently 11 Directors of the Bank and details of their experience, and attendance at meetings are set out in the Directors’ Report. responsibilities qualifications, special Membership of the Board and Committees is set out below: establishment of Committees; • Oversight of the business and affairs of the Group by: − Establishing, with management, and approving the strategies and financial objectives; − Approving major corporate and capital initiatives and approving capital expenditure in excess of limits delegated to management; − Establishing appropriate systems of risk management including defining risk appetite and the Group’s establishing appropriate financial policies such as target capital and liquidity ratios; and − Monitoring the performance of management and the environment in which the Group operates; Board Membership Position Title Committee Membership Chairman Chief Executive Officer Director J M Schubert R J Norris J A Anderson R J Clairs C R Galbraith Non-Executive, independent Executive Non-Executive, independent Non-Executive, independent Non-Executive, independent Board Performance & Renewal Chairman People & Remuneration Member Audit Risk Member Member Chairman Member Member J S Hemstritch Non-Executive, Member Member S C H Kay F D Ryan D Turner H H Young A M Mohl (1) W G Kent (2) F J Swan (2) independent Non-Executive, independent Non-Executive, independent Non-Executive, independent Non-Executive, independent Non-Executive, independent Non-Executive, independent Non-Executive, independent Member Member Chairman Member Member Member Member Chairman Member (1) Mr Mohl was appointed to the Board with effect from 1 July 2008. In accordance with the Bank’s constitution and the ASX Listing Rules, he will stand for election at the Annual General meeting to be held on 13 November 2008. (2) Mr Kent and Mr Swan retired at the Annual General Meeting on 7 November 2007. Commonwealth Bank of Australia Annual Report 2008 43 Corporate Governance Constitution The Constitution of the Bank specifies that: • The Chief Executive Officer and any other executive Director shall not be eligible to stand for election as Chairman of the Bank; • The number of Directors shall not be less than nine nor more than 13 (or such lower number as the Board may from time to time determine). The Board has determined that the number of directors shall be 11; and • At each Annual General Meeting one third of Directors (other than the Chief Executive Officer) shall retire from office and may stand for re-election. The Board has established a policy that the term of Directors’ appointments would be limited to 12 years (except where succession planning for Chairman and appointment of Chairman requires an extended term. On appointment, the Chairman will be expected to be available for that position for five years). Independence The Board regularly assesses the independence of each Director. For this purpose an independent Director is a Non- Executive Director whom the Board considers to be independent of management and free of any business or other relationship that could materially interfere with the exercise of unfettered and independent judgment. themselves to conduct to being required In addition in accordance with the ethical policies of the Group, Directors are required to be meticulous in their disclosure of any material contract or relationship in accordance with the Corporations Act and this disclosure extends to the interests of family companies and spouses. Directors are required to strictly adhere to the constraints on their participation and voting in relation to matters in which they may have an interest in accordance with the Corporations Act and the Group’s policies. • That no Non-Executive Director has ever been employed by the Bank or any of its subsidiaries; • That no Director is, or has been associated with, a supplier, professional adviser, consultant to or customer of the Group which is material under accounting standards; and • That no Non-Executive Director personally carries on any role for the Group other than as a Director of the Bank. The Group does not consider that term of service on the Board is a factor affecting a Director's ability to act in the best interests of the Group. Independence is judged against the ability, integrity and willingness of the Director to act. The Board has established a policy limiting Directors' tenures to ensure that skill sets remain appropriate in a dynamic industry. Education Directors participate in an induction program upon appointment and in a refresher program on a regular basis. The Board has established a program of continuing education to ensure that it is kept up to date with developments in the industry both locally and globally. This includes sessions with local and overseas experts in the particular fields relevant to the Group’s operations. Review The Board has in place a process for annually reviewing its performance, policies and practices. These reviews seek to identify where improvements can be made and also assess the quality and effectiveness of information made available to Directors. Every two years, this process is facilitated by an external consultant, with an internal review conducted in the intervening years. The review process includes an assessment of the performance of the Board Committees and each Director. the After consideration of the performance assessment, the Board will determine its endorsement of the Directors to stand for re-election at the next Annual General Meeting. results of Each Director may from time to time have personal dealings with the Group. Each Director is involved with other companies or professional firms which may from time to time have dealings with the Group. Details of offices held by Directors with other organisations are set out in the Directors' Report and on the Group's website. Full details of related party dealings are set out in notes to the Financial Statements as required by law. The Non-Executive Directors meet at least annually, without management, in a forum intended to allow for an open discussion on Board and management performance. This is in addition to the consideration of the Chief Executive Officer’s performance and remuneration which is conducted by the Board in the absence of the Chief Executive Officer. All the current Non-Executive Directors of the Bank have been assessed as that determination, the Board has taken into account (in addition to the matters set out above): independent Directors. reaching In • The specific disclosures made by each Director as referred to above; • Where applicable, the related party dealings referrable to each Director, noting that those dealings are not material under accounting standards; • That no Director is, or has been associated directly with, a substantial shareholder of the Bank; 44 Commonwealth Bank of Australia Annual Report 2008 Selection of Directors The Board Performance and Renewal Committee has developed a set of criteria for Director appointments which has been adopted by the Board. The criteria are aimed at creating a Board capable of challenging, stretching and motivating to achieve sustained outstanding company management performance in all respects. These criteria, which are reviewed annually, aim to ensure that any new appointee is able to contribute to the Board constituting a competitive advantage for the Group and: • Be capable of operating as part of an exceptional team; • Contribute outstanding performance and exhibit impeccable values; • Be capable of inputting strongly to risk management, strategy and policy; • Provide skills and experience required currently and for the future strategy of the Group; • Be excellently prepared and receive all necessary education; • Provide important and significant input and questions to management from their experience and skill; and insights, • Vigorously debate and challenge management. regularly compares The Committee the skill base and experience of existing Directors with that required for the future strategy of the Group to enable identification of attributes required in new Directors. Executive search firms are engaged to identify potential candidates based on the identified criteria. Candidates for appointment as Directors are considered by the Board Performance and Renewal Committee, recommended for decision by the Board and, if appointed, stand for election, in accordance with the Constitution, at the next general meeting of shareholders. The Group has adopted a policy whereby, on appointment, a letter is provided from the Chairman to the new Director setting out the terms of appointment and relevant Board policies including time commitment, code of ethics and continuing education. All current Directors have been provided with a letter confirming the terms of their appointment. A copy of the form of letter of appointment appears on the Group’s website. Policies Board policies relevant to the composition and functions of Directors include: • The Board will consist of a majority of independent Non- Executive Directors and the membership of the Board Performance and Renewal, People & Remuneration and Audit Committees should consist solely of independent Non- Executive Directors. The Risk Committee should consist of a majority of independent Non-Executive Directors; • The Chairman will be an independent Non-Executive Director. The Audit Committee will be chaired by an independent Non-Executive Director other than the Board Chairman; Corporate Governance • The Board will meet regularly with an agenda designed to provide adequate information about the affairs of the Group, allow the Board to guide and monitor management and assist in involvement in discussions and decisions on strategy. Matters having strategic implications are given priority on the agenda for regular Board meetings. In addition, ongoing strategy is the major focus of at least two of the Board meetings annually; • The Board has an agreed policy on the basis on which to Company Directors are entitled documents and information and to meet with management; and to obtain access • The Group has in place a procedure whereby, after appropriate consultation, Directors are entitled to seek independent professional advice, at the expense of the Group, to assist them to carry out their duties as Directors. The policy of the Group provides that any such advice is generally made available to all Directors. Ethical Standards Conflicts of Interest In accordance with the Constitution and the Corporations Act 2001, Directors are required to disclose to the Board any material contract in which they may have an interest. In compliance with section 195 of the Corporations Act 2001 any Director with a material personal interest in a matter being considered by the Board will not be present when the matter is being considered and will not vote on the matter. In addition, any Director who has a conflict of interest in connection with any matter being considered by the Board or a Committee does not receive a copy of any paper dealing with the matter. Share Trading The restrictions imposed by law on dealings by Directors in the securities of the Group have been supplemented by the Board of Directors adopting guidelines which further limit any such dealings by Directors, their spouses, any dependent child, family Company or family trust. The guidelines provide, that in addition to the requirement that Directors not deal in the securities of the Group or any related Company when they have or may be perceived as having relevant unpublished price-sensitive information, Directors are only permitted to deal within certain periods. These periods include between three and 30 days after the announcement of half yearly and final results and from the date of the Annual General Meeting until 14 days after the Annual General Meeting. Further, the guidelines require that Directors not deal on the basis of considerations of a short term nature or to the extent of trading to executives of the Group. those securities. Similar restrictions apply in In addition, Group policy prohibits: • For Directors and executives who report to the Chief Executive Officer, any hedging of publicly disclosed shareholding positions; • For executives, any trading (including hedging) in positions prior to vesting of shares or options; and • The use, by Directors and executives who report to the Chief Executive Officer, of investments of arrangements for margin borrowing, short selling or stock lending, in connection with the securities of the Group. Commonwealth Bank of Australia Annual Report 2008 45 Corporate Governance Remuneration Arrangements In carrying out these functions, the Committee: • Reviews the Financial Statements and reports of the Group; • Reviews accounting policies to ensure compliance with current laws, relevant regulations and accounting standards; • Conducts any investigations relating to financial matters, records, accounts and reports which it considers appropriate; and • Reviews all material matters requiring exercise of judgment by management and reports those matters to the Board. The Committee regularly considers, the absence of management and the external Auditor, the quality of the information received by the Committee and, in considering the Financial Statements, discusses with management and the external Auditor: in • The Financial Statements and accounting standards, other mandatory statutory requirements; and their conformity with reporting and • The quality of the accounting policies applied and any other significant judgments made. The external audit partner attends Audit Committee and Board meetings by invitation, which is normally all Audit Committee meetings and the Board meetings when the annual and half yearly accounts are approved and signed. The Committee, at least twice a year, meets separately with each of the chief internal audit executive and the external Auditor, without management, as part of the process of ensuring independence of the audit functions. is responsible The Audit Committee for oversight of management in the preparation of the Group’s Financial Statements and financial disclosures. The Audit Committee relies on information provided by management and considers matters raised by the external auditor. The Audit Committee does not have the duty to plan or conduct audits to determine whether the Group’s Financial Statements and disclosures are complete and accurate. the Details of the governance arrangements and policies relevant to remuneration are set out in the Directors’ Report - Remuneration Report. Audit Arrangements Audit Committee The Charter of the Audit Committee incorporates a number of policies and practices is to ensure independent and effective. Among these are: the Committee that • The Audit Committee consists entirely of independent Non- Executive Directors, all of whom are financially literate and at least one has expertise in financial accounting and reporting. The Chairman of the Risk Committee is also a member of the Audit Committee. The Chairman of the Bank is not permitted to be the Chairman of the Audit Committee; • At least twice a year the Audit Committee meets the external Auditors and the chief internal audit executive; • The Audit Committee is responsible for nominating the external Auditor for appointment by the Board shareholders. The Audit Committee approves the terms of the contract with the external Auditor, agrees the annual audit plan and approves payments to the Auditor; to • The Audit Committee discusses audit issues and receives periodic reports from the external Auditors on the quality of the Group’s systems, its accounting processes and its financial results. It also receives a report from the Auditors on any significant matters the Auditors with management; raised by • All material accounting matters requiring exercise of judgement by management are specifically reviewed by the Audit Committee and reported on by the Committee to the Board; and • Certified assurances are received by the Audit Committee and the Board that the Auditors meet the independence requirements as recommended by the Corporations Act and the Securities and Exchange Commission (“SEC”) of the USA. 46 Commonwealth Bank of Australia Annual Report 2008 Non-Audit Services Auditor Corporate Governance PricewaterhouseCoopers was appointed as the Auditor of the Bank at the 2007 Annual General Meeting, effective from the beginning of the 2008 financial year. The audit partner from PricewaterhouseCoopers will attend the 2008 Annual General Meeting of the Bank and will be available to respond to shareholder audit-related questions. The Group currently requires that the partner managing the audit for the external Auditor be changed after a period of no longer than five years. The Chief Executive Officer is authorised to appoint and remove the chief internal audit executive only after consultation with the Audit Committee. Due to SEC rules that apply to various activities that the Group continues to undertake in the United States, notwithstanding the Bank’s de-registration under the Exchange Act, the Group and its Auditor must continue to comply with U.S. Auditor independence requirements. The Board has in place an External Auditor Services Policy which requires the Audit Committee (or its delegate) to approve all audit and non-audit services before engaging the Auditors. The policy also prohibits the Auditors from providing certain services to the Group or its affiliates. The objective of this policy is to avoid prejudicing the independence of the Auditors. The policy is designed to ensure that the Auditors do not: • Assume the role of management or act as an employee; • Become an advocate for the Group; • Audit their own work; • Create a mutual or conflicting interest between the Auditor and the Group; • Require an indemnification from the Group to the Auditor; • Seek contingency fees; nor • Have a direct financial or business interest or a material indirect financial or business interest in the Group or any of its affiliates, or an employment relationship with the Group or any of its affiliates. Under the policy, the Auditor shall not provide certain services including the following services: • Bookkeeping or other services relating to accounting records or Financial Statements of the Group; • Financial information systems design and implementation; • Appraisal or valuation services (other than certain tax only valuation services) and fairness opinions; • Actuarial services when approved in accordance with independence guidelines; • Internal audit outsourcing services; • Management functions, including acting as an employee and secondment arrangements; • Human resources; • Broker-dealer, investment adviser or investment banking services; • Legal services; or • Expert services for the purpose of advocating the interests of the Group. In general terms, the permitted services are: • Audit services to the Group or an affiliate; • Related services connected with lodgement of statements or documents with the Australian Securities Exchange (ASX), ASIC, APRA or other regulatory or supervisory bodies; the • Services reasonably related to the performance of the audit services; • Agreed-upon procedures or comfort letters provided by the Auditor to third parties in connection with the Group’s financing or related activities; and • Other services pre-approved by the Audit Committee. Commonwealth Bank of Australia Annual Report 2008 47 Board Performance and Renewal Committee The Board Performance and Renewal Committee critically reviews, at least annually, the corporate governance procedures of the Group and the composition and effectiveness of the Commonwealth Bank of Australia Board and the Boards of the major wholly owned subsidiaries. The policy of the Board is that the Committee shall consist solely of independent Non- Executive Directors. The Chief Executive Officer attends the meeting by invitation. In addition to its role in proposing candidates for Director appointment for consideration by the Board, the Committee reviews fees payable to Non-Executive Directors and reviews, and advises the Board in relation to Chief Executive Officer succession planning and Board renewal. Continuous Disclosure in place “Guidelines securities. The Group’s The Corporations Act 2001 and the ASX Listing Rules require that a Company discloses to the market matters which could be expected to have a material effect on the price or value of the Company’s for Communication between the Bank and shareholders” sets out the processes to ensure that shareholders and the market are provided with full and timely information about the Group’s activities in compliance with continuous disclosure requirements. Management procedures are the Commonwealth Bank Group to ensure that all material matters which may potentially require disclosure are promptly reported to the Chief Executive Officer, through established reporting lines, or as a part of the deliberations of the Group’s Executive Committee. Matters reported are assessed and, where required by the Listing Rules, advised to the market. A Disclosure Committee has been the requirements for disclosure of information to the market. The Company Secretary is responsible for communications with the ASX and for ensuring that such information is not released to any person until the ASX has confirmed its release to the market. to provide advice on throughout formed Corporate Governance Risk Management Risk Committee The Risk Committee oversees credit, market (traded and non- traded), funding and liquidity, operational and strategic business, business continuity, compliance and security risks assumed by the Group in the course of carrying on its business. A primary action is to construct the Group’s risk appetite for consideration by the Board in its role of oversight of the Internal Capital Adequacy Assessment Process, which is updated on at least an annual basis. the Group’s credit policies and ensures The Committee guides the setting of risk appetite for credit risks, considers that management maintains a set of credit underwriting standards designed to achieve portfolio outcomes consistent with the Group’s risk/return expectations. The Committee approves risk management policies and procedures for market, funding and liquidity risks incurred or likely to be incurred in the Group’s business. It guides the setting of risk appetite for traded and non-traded market risks, including the establishment of limits for these risk exposures. The Committee reviews progress in implementing management procedures and identifying new areas of exposure relating to market, funding and liquidity risk. The Committee guides the setting of risk appetite for operational risks, including ratification of the Group’s operational risk policies for approval by the Board and reviews and informs the Board of risk. the measurement and management of operational Operational risk is a basic line management responsibility within the Group consistent with the policies established by the Committee. A range of insurance policies maintained by the Group mitigates some operational risks, with insurance risk coverage levels disclosed to the Risk Committee for comment. The Committee oversees risk management of compliance risk through the Group’s Compliance Risk Management Framework, which provides risks, implementation of controls, monitoring and testing of framework effectiveness, and the escalation, remediation and reporting of compliance incidents and control weaknesses. for assessment of compliance The Committee meets, at least seven times each year and at least annually with the Group Chief Risk Officer, in the absence of other management to allow the Committee to form a view on the independence of the function. Framework The Group has in place an integrated risk management framework to identify, assess, manage and report risks and risk adjusted returns on a consistent and reliable basis. A full description of the functions of the framework and the nature of the risks is set out in the section of the Annual Report entitled Integrated Risk Management and in Notes 15 and 42 to the Financial Statements. 48 Commonwealth Bank of Australia Annual Report 2008 Ethical Policies Behaviour Issues Corporate Governance The Group’s objective is to create long term value for its shareholders its customers best-in-industry performance in safety, community, reputation and environmental impact. through providing and financial services producing sustained to The Group’s vision is to be Australia’s finest financial services organisation through excelling in customer service. The values of the Group are trust, honesty and integrity. The Board carries out the legal duties of its role in accordance with the values and having appropriate regard to the interests of the Group’s customers, shareholders, staff and the broader community in which the Group operates. Policies and codes of conduct have been established by the Board and the Group Executive team to support the Group’s objectives, vision and values. Statement of Professional Practice The Group has adopted a code of ethics, known as a Statement of Professional Practice, which sets standards of behaviour required of all employees and directors including: • To act properly and efficiently in pursuing the objectives of the Group; • To avoid situations which may give rise to a conflict of interest; • To know and adhere to the Group’s Equal Employment Opportunity policy and programs; • To maintain confidentiality in the affairs of the Group and its customers; and • To be absolutely honest in all professional activities. These standards are regularly communicated to staff. In addition, the Group has established insider trading guidelines for staff to ensure that unpublished price-sensitive information about the Group or any other Company is not used in an illegal manner or so that inside information could be used for personal advantage. Our People The Group is committed to providing fair, safe, challenging and rewarding work, recognising the importance of attracting and retaining high quality staff and consequently, being in a position to excel in customer service. There are various policies and systems in place to enable achievement of these goals, including: • Fair Treatment Review; • Equal Employment Opportunity; • Occupational Health and Safety; • Recruitment and selection; • Performance management; • Talent management and succession planning; • Remuneration and recognition; • Employee share plans; and • Supporting Professional Development. The Group is strongly committed to maintaining an ethical workplace, complying with legal and ethical responsibilities. Policy requires staff to report fraud, corrupt conduct, mal- administration or serious and substantial waste by others. A system has been established which allows staff to remain anonymous, if they wish, for reporting of these matters. The policy has been extended to include reporting of auditing and accounting issues, which will be reported to the Chief the Chief Security Officer, who Compliance Officer by administers the reporting and investigation system. The Chief Security Officer reports any such matters the Audit Committee, noting the status of resolution and actions to be taken. to Code of Conduct In carrying out its role, the Board will operate in a manner reflecting the Group’s values and in accordance with its agreed corporate governance guidelines, the Bank’s Constitution, the Corporations Act and all other application regulations. The Board operates and requires at all levels, impeccable values, honesty and openness. Through its processes it achieves transparent, open governance and communications under all circumstances with both performance and conformance addressed. The Board’s policies and codes include detailed provisions dealing with: • The interface between the Board and management to ensure there is effective communications of the Board’s views and decisions resulting in motivation and focus towards long term shareholder value behaviours and outcomes; • Disclosure of relevant personal interests so that potential situations of conflict of interest can be identified and appropriate action undertaken to avoid compromising the independence of the Board; and • Securities dealings in compliance with the Group’s strict guidelines and in accordance with the values of honesty and integrity. Commonwealth Bank of Australia Annual Report 2008 49 Director: International Cricket Council Other Interests: Institute of Financial Professionals New Zealand (Fellow), Institute of Directors (Fellow), New Zealand Society of Accountants (Fellow), Australian Institute Banking and Finance (Life Member) and Hawkes Bay District Health Board (Commissioner). Sir John is a resident of Wellington, New Zealand. Age 61. Reg J Clairs, AO Mr Clairs has been a member of the Board since 1999 and is Chairman of the People & Remuneration Committee. As the former Chief Executive Officer of Woolworths Limited, he had 33 years experience in retailing, branding and customer service. Director: David Jones Limited Other Interests: Australian Institute of Company Directors (Member). Mr Clairs is a resident of Queensland. Age 70. Colin R Galbraith, AM Mr Galbraith has been a member of the Board since 2000 and is a member of the Audit Committee and Board Performance & Renewal Committee. He is a special advisor for Gresham Partners Limited. Chairman: BHP Billiton Community Trust. Director: OneSteel Limited and Australian Institute of Company Directors. Other Interests: CARE Australia (Director) and Royal Melbourne Hospital Neuroscience Foundation (Trustee). Mr Galbraith is a resident of Victoria. Age 60. Jane S Hemstritch Ms Hemstritch was appointed to the Board effective 9 October 2006 and is a member of the People & Remuneration Committee and Risk Committee. Ms Hemstritch was Managing Director - Asia Pacific, Accenture Limited from 2004 until her retirement in February 2007. In this role, she was a member of Accenture’s global executive leadership team and oversaw the management of Accenture’s business portfolio in Asia Pacific. She holds a Bachelor of Science Degree in Biochemistry and Physiology and has professional expertise in technology, communications, change management and accounting. She also has experience across the financial services, telecommunications, government, energy and manufacturing sectors and in business expansion in Asia. Director: The Global Foundation and Tabcorp (subject to regulatory approval). Other Interests: Institute of Chartered Accountants in Australia (Fellow), Institute of Chartered Accountants in England and Wales (Fellow), Chief Executive Women Inc. (Member) and Council of Governing Members of The Smith Family. Ms Hemstritch is a resident of Victoria. Age 55. Directors’ Report report, together with The Directors of the Commonwealth Bank of Australia submit their the Commonwealth Bank of Australia (“the ‘Bank”) and of the Group, being the Bank and its controlled entities, for the year ended 30 June 2008. report of financial the The names of the Directors holding office during the financial year are set out below together with details of Directors’ experience, and organisations in which each of the Directors has declared an interest. responsibilities qualifications, special John M Schubert, Chairman Dr Schubert has been a member of the Board since 1991 and Chairman since November 2004. He is Chairman of the Board Performance & Renewal Committee and a member of the People & Remuneration Committee. He holds a Bachelor’s Degree and PhD in Chemical Engineering and has executive experience in the petroleum, mining and building materials industries. Dr Schubert is the former Managing Director and Chief Executive Officer of Pioneer International Limited and the former Chairman and Managing Director of Esso Australia Ltd. Chairman: G2 Therapies Limited, Great Barrier Reef Foundation. Director: BHP Billiton Limited, BHP Billiton Plc and Qantas Airways Limited. Interests: Academy of Technological Science and Other Engineering (Fellow), Institute of Engineers (Fellow) and Honorary Member & Past President, Business Council of Australia. Dr Schubert is a resident of New South Wales. Age 65. Ralph J Norris, DCNZM, Managing Director and Chief Executive Officer Mr Norris was appointed as Managing Director and Chief Executive Officer with effect from September 2005. Mr Norris had been Chief Executive Officer and Managing Director of Air New Zealand since 2002 and had been a Director of that Company since 1998. He retired from that Board in 2005 to take up his position with the Group. He is a member of the Risk Committee. Mr Norris has a 30 year career in Banking. He was Chief Executive Officer of ASB Bank Limited from 1991 until 2001 and Head of International Financial Services from 1999 until 2001. In 2005, Mr Norris retired from the Board of Fletcher Building Limited where he had been a Director since 2001. Other Interests: New Zealand Institute of Management (Fellow) and New Zealand Computer Society (Fellow). Mr Norris is a resident of New South Wales. Age 59. Sir John A Anderson, KBE Sir John joined the Board on 12 March 2007. He is a member of the Risk Committee. Sir John is a highly respected business and community leader, having held many senior positions in New Zealand finance including Chief Executive and Director of ANZ National Bank Limited from 2003 to 2005 and the National Bank of New Zealand Limited from 1989 to 2003. In 1994, Sir John was awarded Knight Commander of the Civil Division of the Order of the British Empire, and in 2005 received “Outstanding Leadership inaugural Blake Medal the Contributions to New Zealand”. for Chairman: Television New Zealand Limited, New Zealand Cricket Inc., Capital and Coast District Health Board, New Zealand Venture Investment Fund and New Zealand Meat Industry Taskforce. 50 Commonwealth Bank of Australia Annual Report 2008 S Carolyn H Kay Harrison H Young Directors’ Report Ms Kay has been a member of the Board since 2003 and is also a member of the People & Remuneration and Audit Committees. She holds Bachelor Degrees in Law and Arts and a Graduate Diploma in Management. She has extensive experience in international finance. She was a senior executive at Morgan Stanley in London and Melbourne for 10 years and prior to that she worked in international banking and finance both as a lawyer and banker in London, New York and Melbourne. Director: Brambles Industries Limited, Starlight Foundation and Allens Arthur Robinson. Other Interests: Australian Institute of Company Directors (Fellow) and Chief Executive Women’s Inc (member). Ms Kay is a resident of New South Wales. Age 46. Fergus D Ryan Mr Ryan has been a member of the Board since 2000 and is Chairman of the Audit Committee and a member of the Risk Committee. He has extensive experience in accounting, audit, finance and risk management. He was a senior partner of Arthur Andersen until his retirement in 1999 after 33 years with that firm including five years as Managing Partner Australasia. Until 2002, he was Strategic Investment Co-ordinator and Major Projects Facilitator for the Commonwealth Government. Director: Australian Foundation Investment Company Limited, Clayton Utz, National Australia Day Council and Deputy Chairman for National Library of Australia. Other Interests: Committee for Melbourne (Counsellor) and Pacific Institute (Patron). Mr Ryan is a resident of Victoria. Age 65. David J Turner Mr Turner was appointed to the Board in August 2006 and is a member of the Audit and Board Performance and Renewal Committees. Until his retirement on 30 June 2007, Mr Turner was CEO of Brambles. He occupied that role since October 2003. He joined Brambles as Chief Financial Officer in 2001 having previously been Finance Director of GKN plc. Mr Turner has also served as a member of the Board of Whitbread plc and as Chairman of its Audit Committee from 2000 until 2006. He is a Fellow of The Institute of Chartered Accountants in England and Wales and has wide experience in finance, international business and governance. Chairman: Cobham plc. Director: Brambles Limited. Mr Turner is a resident of the United Kingdom. Age 63. Mr Young has been a member of the Board since 2007. He is Chairman of the Risk Committee and a member of the Audit Committee. At the time of appointment to the Board, Mr Young retired as Chairman of Morgan Stanley Australia, a position he had held since 2003. In an investment banking career of more than 30 years, he did business in 20 countries and advised eight foreign governments. From 1997 to 2003 he was a Managing Director and Vice Chairman of Morgan Stanley Asia. Prior to that, he spent two years in Beijing as Chief Executive of China International Capital Corporation. From 1991 to 1994 he was a senior officer of the Federal Deposit Insurance Corporation in Washington. Chairman: Asia Society AustralAsia Centre and Howard Florey Institute Foundation. Board member: Florey Neuroscience Services Volunteer Corps and the Asia Society. Institutes, Financial Mr Young is a resident of Victoria. Age 63. Andrew M Mohl Mr Mohl was appointed to the Board effective 1 July 2008 and is a member of the People & Remuneration Committee. Mr Mohl was Managing Director and Chief Executive Officer of AMP Limited from October 2002 until his retirement at the end of December 2007. He has over 30 years of financial services experience. Mr Mohl was a former Senior and Chief Economist at ANZ Banking Group and worked at the Reserve Bank of Australia for eight years and was Deputy Head of Research. Director: AMP Foundation. Mr Mohl is a resident of New South Wales. Age 52. Warwick G Kent, AO (retired 7 November 2007) Mr Kent was a member of the Board from 2000 until his retirement in November 2007. He was a member of the Audit and Risk Committees. He was previously a Director of Colonial Limited, appointed in 1998. He was Managing Director and Chief Executive Officer of BankWest until his retirement in 1997. Prior to joining BankWest, Mr Kent had a long and distinguished career with Westpac Banking Corporation. Other interests: Walter and Eliza Hall Trust (Trustee), Australian Institute of Company Directors (Fellow), Australian Society of CPAs (Fellow), Finsia (Senior Fellow) and the Chartered Institute of Company Secretaries (Fellow). Mr Kent is a resident of Western Australia. Age 72. Frank J Swan (retired 7 November 2007) Mr Swan was a member of the Board since 1997 and was Chairman of the Risk Committee and a member of the Audit Committee and Board Performance and Renewal Committee. He holds a Bachelor of Science degree and has 23 years senior management experience in the food and beverage industries. Chairman: Centacare Catholic Family Services. Other Interests: Institute of Directors (Fellow), Australian Institute of Company Directors (Fellow). Mr Swan is a resident of Victoria. Age 67. Commonwealth Bank of Australia Annual Report 2008 51 Directors’ Report Other Directorships The Directors held directorships on listed companies within the last three years as follows: Director Company J M Schubert BHP Biliton Limited BHP Biliton Plc Qantas Airways Limited R J Norris Air New Zealand Limited Fletcher Building Limited R J Clairs David Jones Limited Cellnet Group Limited C R Galbraith OneSteel Limited GasNet Australia Group S C H Kay Brambles Industries Limited Symbion Health Limited F D Ryan Australian Foundation Investment Company Limited D J Turner Brambles Limited Cobham plc W G Kent F J Swan West Australian Newspaper Holdings Limited Coventry Group Limited Perpetual Trustees Australia Limited (Group) Foster’s Group Limited National Foods Limited Southcorp Limited Date Appointed Date of Ceasing (if applicable) 01/06/2000 29/06/2001 23/10/2000 18/02/2002 17/04/2001 22/02/1999 01/07/2004 25/10/2000 17/12/2001 01/06/2006 28/09/2001 08/08/2001 21/03/2006 01/12/2007 02/02/1998 01/07/2001 01/05/1998 26/08/1996 11/03/1997 26/05/2005 30/08/2005 09/08/2005 20/08/2007 10/11/2006 02/03/2007 16/11/2007 01/11/2006 01/11/2006 31/07/2005 31/08/2007 30/06/2005 29/07/2005 Directors’ Meetings The number of Directors’ meetings (including meetings of committees of Directors) and number of meetings attended by each of the Directors of the Commonwealth Bank of Australia during the financial year were: No. of Meetings (1) Held 11 11 11 11 11 11 11 11 11 11 - 4 4 No. of Meetings Attended 11 11 11 11 10 10 11 11 10 11 - 4 4 Director J M Schubert R J Norris J A Anderson R J Clairs C R Galbraith J S Hemstritch S C H Kay F D Ryan D J Turner H H Young A M Mohl (2) W G Kent (3) F J Swan (3) (1) The number of meetings held during the time the Director was a member of the Board. (2) Mr Mohl was appointed effective 1 July 2008. (3) Mr Kent and Mr Swan retired 7 November 2007. 52 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report Committee Meetings Risk Committee Audit Committee People & Remuneration Committee No. of Meetings (1) Held - - - - 7 - 7 7 7 5 - 2 2 No. of Meetings Attended - - - - 7 - 7 7 7 5 - 2 2 No. of Meetings (1) Held - 7 7 - - 3 - 7 - 7 - 3 3 No. of Meetings Attended - 7 7 - - 3 - 7 - 7 - 3 3 Director J M Schubert R J Norris J A Anderson R J Clairs C R Galbraith J S Hemstritch S C H Kay F D Ryan D J Turner H H Young A M Mohl (2) W G Kent (3) F J Swan (3) Director J M Schubert C R Galbraith D J Turner F J Swan (2) No. of Meetings (1) Held 7 - - 7 - 7 7 - - No. of Meetings Attended 7 - - 7 - 7 7 - - - - - - - - Board Performance & Renewal Committee No. of Meetings (1) Held 6 6 4 2 No. of Meetings Attended 6 6 4 2 (1) The number of meetings held during the time the Director was a member of the relevant committee. (2) Mr Mohl was appointed to the Board effective 1 July 2008. (3) Mr Kent and Mr Swan retired 7 November 2007. Principal Activities (iv) International Financial Services integrated financial services institutional banking, superannuation, The Commonwealth Bank Group is one of Australia’s leading including retail, providers of business and life insurance, general insurance, funds management, broking services and finance company activities. The principal activities of the Commonwealth Bank Group during the financial year were: (i) Retail Banking Services The Group provides retail banking services within Australia including housing loans, credit cards, personal loans, savings and cheque accounts, and demand and term deposits. (ii) Premium Business Services The Group offers commercial products within Australia including business loans, equipment and trade finance, and rural and agribusiness products and provides private banking services to high net worth individuals and direct trading and margin lending through CommSec. This segment also has wholesale banking operations in London, New York, Singapore, Hong Kong and Malta. (iii) Wealth Management The Wealth Management segment conducts Australian funds retail management business comprising wholesale and investment, superannuation and retirement funds. Investments are across all major asset classes including Australian and international shares, property, fixed interest and cash. This segment also has funds management businesses in the United Kingdom and Asia. The Wealth Management segment also provides Australian term insurance, disability trusts, investment products and general insurance. insurance, annuities, master The Group has full service banking operations in New Zealand, Fiji, Indonesia and Vietnam. The Group conducts wholesale operations in New York, London, Hong Kong, Singapore and Malta and is represented in Japan and selected regions of China together with a representative office in India. The Group’s International Financial Services segment also conducts Life Insurance operations in New Zealand, where it has the leading market share, as well as Asia and the Pacific, and conducts Funds Management business in New Zealand. Consolidated Profit Consolidated net profit after income tax and minority interests for the financial year ended 30 June 2008 was $4,791 million (2007: $4,470 million). The net operating profit for the year ended 30 June 2008 after tax, and before the gain on Visa Initial Public Offering, Provisions for investment and restructuring and asset write-offs, defined benefit superannuation plan income, treasury shares valuation adjustments, hedging and AIFRS volatility and shareholder investment returns was $4,746 million. This is an increase of $315 million or 7% over the year ended 30 June 2007. The principal contributing factors to the profit increase were strong growth in banking income following growth in average lending assets. Funds management and insurance income growth was strongly supported by solid growth in both average Funds Under Administration and average inforce premiums. There have been no significant changes in the nature of the principal activities of the Group during the financial year. Commonwealth Bank of Australia Annual Report 2008 53 Directors’ Report Operating expense growth reflected continued investment in the business to support productivity and growth initiatives as well as the effect of inflation on salary and general expenses, the commencement of spend on a number of strategic initiatives and ongoing compliance expenditure, partly offset by the realisation of expense savings. Dividends The Directors have declared a fully franked (at 30%) final dividend of 153 cents per share amounting to $2,029 million. The dividend will be payable on 1 October 2008 to shareholders on the register at 5pm on 22 August 2008. Dividends paid in the year to 30 June 2008 were as follows: • As declared in the 30 June 2007 Annual Report, a fully franked final dividend of 149 cents per share amounting to $1,938 million was paid on 5 October 2007. The payment comprised cash disbursements of $1,229 million with $709 million being reinvested by participants through the Dividend Reinvestment Plan (DRP); and • In respect of the year to 30 June 2008, a fully franked interim dividend of 113 cents per share amounting to $1,487 million was paid on 2 April 2008. The payment comprised direct cash disbursements of $989 million, with $498 million being reinvested by participants through the DRP of which $98 million of shares were provided by an on-market purchase. Review of Operations An analysis of operations for the financial year is set out in the Highlights section in pages 6 to 9 and in the sections for Retail Banking Services, Premium Business Services, Wealth Management, International Financial Services and Other on pages 14 to 25. A review of the financial condition of the Group is set out in the Highlights on page 6. Changes in State of Affairs During the year, the Group continued to make significant progress in implementing a number of strategic initiatives. The initiatives are designed to ensure a better service outcome for the Group’s customers. Progress within the major initiatives included the following: • Further roll-out of the new branch design with 70 new state- of-the-art branches completed or under construction by June 2008; • Market leading product development with the full suite of rated personal deposit and transaction products receiving a five star rating from CANNEX; • Opening of eight new Business Banking centres across New South Wales, South Australia and Victoria, adding to the eight centres opened in the prior year; • Continued investment in Local Business Banking including the progressive roll-out of Business Bankers across more than 700 branches and the implementation of the new 24 hour, 7 days a week, Customer Service Centre; and • Investment in Branch Insurance representatives across remaining regions of the Group’s Retail branch network contributing to solid growth across both life and general new business sales. There were no significant changes in the state of affairs of the Group during the financial year. 54 Commonwealth Bank of Australia Annual Report 2008 Events Subsequent to Balance Date The Directors are not aware of any matter or circumstance that has occurred since the end of the financial year that has significantly affected or may significantly affect the operations of the Group, the results of those operations or the state of affairs of the Group in subsequent financial years. The Bank expects to issue around $609 million of shares in respect of the Dividend Reinvestment Plan for the final dividend for the year ended 30 June 2008. Business Strategies and Future Developments Accommodation Strategy The Group is implementing a property strategy to relocate approximately 3,500 staff from the Sydney Central Business District (CBD) to Sydney Olympic Park or Parramatta by 30 June 2010. This will result in rationalisation of the existing Sydney CBD property space. As part of the Group’s accommodation strategy, staff in the CBD are being located across fewer sites, including rationalisation of certain CBD sites in line with lease expiry profiles. In December 2007 approximately 51,500 square metres at Darling Park, Tower 1. the Group executed a lease for These changes have not had a material financial impact on the Group’s results and it is not anticipated that the future relocation will have a material impact on the Group’s results. Business Strategies Business strategies, prospects and future developments, which may affect the operations of the Group in subsequent financial years, are referred to in the Chief Executive Officer’s Statement on pages 4 to 5. In the opinion of the Directors, disclosure of any further information on likely developments in operations would be unreasonably prejudicial to the interests of the Group. Environmental Regulation The Energy Efficiency Opportunities Act 2006 (EEO) which aims to promote energy efficiencies by business, commenced on 1 July 2006. The Group, including several Colonial First State managed funds, is required to comply with the EEO, and has registered with the Federal Government for this purpose. As required by the EEO the Group has lodged a five year energy efficiency assessment plan and will report to the Government and publicly by 31 December 2008, and each subsequent year, on assessments carried out under the plan. The Group does not anticipate any obstacles in complying with the legislation. Considerable energy efficiency work has already been undertaken across the Group during the last five years. From 1 July 2008 the Group becomes subject to the National Greenhouse and Energy Reporting Scheme (NGERS). As a result of a long history of voluntary reporting, the Group is well placed to meet the NGERS’ mandatory requirements, and is currently revising its data capture and reporting systems to comply with the new legislation. The Group is not subject to any other particular or significant environmental regulation under a law of the Commonwealth or of a State or Territory, but can incur environmental liabilities as a lender. The Group has developed credit policies to ensure this is managed appropriately. Directors’ Report Directors’ Shareholdings and options Particulars of shares held by Directors in the Commonwealth Bank or in a related body corporate are set out in the Remuneration Report within this report. (“EOP”) was approved by An Executive Option Plan shareholders at the Annual General Meeting on 8 October 1996 and its continuation was further approved by shareholders at the Annual General Meeting on 29 October 1998. At the 2000 Annual General Meeting, the EOP was discontinued and shareholders approved the establishment of the Equity Reward Plan (“ERP”). The last grant of options to be made under the ERP was the 2001 grant, with options being granted on 31 October 2001, 31 January 2002 and 15 April 2002. A total of 3,007,000 options were granted by the Bank to 81 executives in the 2001 grant. All option grants have now met their specified performance hurdles and are available for exercise by participants. During the financial year and for the period to the date of this report 125,000 shares were allotted by the Bank consequent to the exercise of options granted under the EOP and ERP. Full details of the Plan are disclosed in Note 33 to the Financial Statements. No options have been allocated since the beginning of the 2002 financial year. The names of persons who currently hold options in the Plan are entered in the register of option holders kept by the Bank pursuant to Section 170 of the Corporations Act 2001. The register may be inspected free of charge. No options have previously been granted to the Chief Executive Officer. Refer to the Remuneration Report within this report for further details. 19.3 Extent of indemnity The indemnity in article 19.2: (a) is enforceable without the Officer having to first incur any expense or make any payment; (b) is a continuing obligation and is enforceable by the Officer even though the Officer may have ceased to be an officer of the Company or its related bodies corporate; and (c) applies to Liabilities incurred both before and after the adoption of this constitution.” An indemnity for employees, who are not directors, secretaries or senior managers, is not expressly restricted in any way by the Corporations Act 2001. The Directors, as named on pages 50 and 51 of this report, and the Secretaries of the Commonwealth Bank of Australia, being J D Hatton, and C F Collingwood are indemnified under articles 19.1, 19.2 and 19.3 as are all the senior managers of the Commonwealth Bank of Australia. Deeds of indemnity have been executed by Commonwealth Bank of Australia consistent with the above articles in favour of each Director. A deed poll has been executed by Commonwealth Bank of Australia consistent with the above articles in favour of each secretary and senior manager of the Bank, each Director, secretary and senior manager of a related body corporate of the Bank (except where in the case of a partly owned subsidiary the person is a nominee of an entity which is not a related body corporate of the Bank unless the Bank's Chief Executive Officer has certified that the indemnity shall apply to that person), and any employee of the Bank or any related body corporate of the Bank who acts as a Director or secretary of a body corporate which is not a related body corporate of the Bank. Directors’ Interests in Contracts Directors’ and Officers’ Insurance The Commonwealth Bank has, during the financial year, paid an insurance premium in respect of an insurance policy for the benefit of those named and referred to above and the directors, secretaries, executive officers and employees of any related bodies corporate as defined in the insurance policy. The insurance grants indemnity against liabilities permitted to be indemnified by the Company under Section 199B of the Corporations Act 2001. In accordance with commercial practice, the insurance policy prohibits disclosure of the terms of the policy including the nature of the liability insured against and the amount of the premium. A number of Directors have given written notices, stating that they hold office in specified companies and accordingly are to be regarded as having an interest in any contract or proposed contract that may be made between the Bank and any of those companies. Directors’ and Officers’ Indemnity Articles 19.1, 19.2 and 19.3 of the Commonwealth Bank of Australia’s Constitution provides: “19. Indemnity 19.1 Persons to whom articles 19.2 and 19.4 apply Articles 19.2 and 19.4 apply: (a) to each person who is or has been a Director, secretary or senior manager of the Company; and (b) to such other officers, employees, former officers or former employees of the Company or of its related bodies corporate as the directors in each case determine, (each an “Officer” for the purposes of this article). 19.2 Indemnity The Company must indemnify each Officer on a full indemnity basis and to the full extent permitted by law against all losses, liabilities, costs, charges and expenses (“Liabilities”) incurred by the Officer as an officer of the Company or of a related body corporate. Commonwealth Bank of Australia Annual Report 2008 55 Directors’ Report - Remuneration Report Remuneration Report Key Terms Introduction Remuneration Philosophy People & Remuneration Committee Remuneration for the Year Ended 30 June 2008 Remuneration Mix Fixed Remuneration Short Term Incentive (STI) Long Term Incentive (LTI) Group Leadership Share Plan (GLSP) Equity Reward Plan (ERP) Group Performance for the Year Ended 30 June 2008 Short Term Performance Summary of Group Performance Long Term Performance Variable Remuneration Life Cycle Directors’ Remuneration Managing Director and CEO Non-Executive Directors Retirement Benefits Directors’ Retirement Allowance Scheme Remuneration of Key Management Personnel and Other Executives Remuneration of Directors Remuneration of Executives Termination Arrangements of Key Management Personnel and Other Executives STI Allocations to Executives for the Year Ended 30 June 2008 LTI Allocations to Executives for the Year Ended 30 June 2008 Equity Holdings of Key Management Personnel and Other Executives Shareholdings Share Trading Policy Shares Held by Directors Shares Held by Executives Total Loans to Key Management Personnel and Other Executives Individual Loans above $100,000 to Key Management Personnel and Other Executives Terms and Conditions of Loans Other Transactions of Key Management Personnel and Other Executives and Related Parties Audit 56 Commonwealth Bank of Australia Annual Report 2008 57 58 58 58 59 59 59 59 60 60 61 62 62 62 63 64 65 65 65 66 66 67 68 69 70 71 71 72 72 72 72 73 74 74 75 75 75 Directors’ Report - Remuneration Report Key Terms To assist readers a number of key terms and abbreviations used in the Remuneration Report are set out below: Term Definition Base Remuneration Cash and non-cash remuneration paid regularly with no performance conditions. Calculated on a total cost basis and includes any Fringe Benefits tax related to Salary Packaging. Board Committee The Board of Directors of the Bank. The People & Remuneration Committee of the Board. Earnings Per Share (EPS) Net profit after tax divided by the weighted average number of ordinary shares outstanding during the year. Equity Reward (Performance Units) Plan (ERPUP) The Group’s previous cash-based Equity Reward Plan (see below) replicator scheme where grants are delivered in the form of Performance Units. Equity Reward Plan (ERP) The Group's previous long term incentive plan. Executive Committee Fixed Remuneration A management committee comprising the Chief Executive Officer (CEO), Group Executives and any other executives selected by the CEO. Consists of Base Remuneration plus employer contributions to superannuation. For further details please refer to page 59. Group Commonwealth Bank of Australia and its subsidiaries. Group Executive Key Management Personnel who are also members of the Group’s Executive Committee. Group Leadership Share Plan (GLSP) Key Management Personnel Long Term Incentive (LTI) NPAT Options Other Executives The Group's current long term incentive plan from 1 July 2007 for the CEO and Group Executives. Persons having authority and responsibility for planning, directing and controlling the activities of an entity, directly or indirectly, including any Director (whether executive or otherwise) of that entity. The GLSP which grants rights to participating executives that may vest as ordinary shares in the Bank if, and to the extent that, performance hurdles are met over a three year period. For further details please refer to page 60. The ERP and ERPUP which were the Group’s previous long term incentive plans. Net profit after tax. Rights to acquire a Bank share on payment of an exercise price if relevant performance hurdles are met. Those executives who are not Key Management Personnel but are amongst the “Company Executives” or “Group Executives” as defined by the Corporations Act 2001 and for whom disclosure is required in accordance with section 300A(1)(c) of the Corporations Act 2001. Performance Rights Rights to acquire a Bank share with no payment by the recipient if relevant performance hurdles are met. PACC Remuneration Profit after capital charge. All forms of consideration paid, payable or provided by the Group, or on behalf of the Group, in exchange for services rendered to the Group. In reading this report, the term “remuneration” means the same as the term “compensation” for the purposes of the Corporations Act 2001 and the accounting standard AASB124. Remuneration Mix The weighting of each component of remuneration (Fixed Remuneration, STI and LTI) for each employee group. Reward Shares Shares in the Bank granted under the Equity Reward Plan and subject to a performance hurdle. Salary Packaging An arrangement where an employee agrees to forego part of his or her cash component of Base Remuneration in return for non-cash benefits of a similar value. Short Term Incentive (STI) Remuneration paid with direct reference to the Group’s and the individual’s performance over the financial year. For further details please refer to page 59. Total Shareholder Return (TSR) Calculated by combining the reinvestment of dividends and the movement in the Bank’s share price, the performance hurdle used to determine vesting of grants made under the ERP and ERPUP. Commonwealth Bank of Australia Annual Report 2008 57 Directors’ Report - Remuneration Report The Group’s performance management framework and setting of appropriate Key Performance Indicators (KPIs) supports the Group’s remuneration strategy by providing employees with competitive remuneration and valuable rewards for outstanding performance. It has supported the key behaviours which generate shareholder value and are necessary to support achievement of the Group’s vision, to be Australia’s finest financial services organisation through excelling in customer service. People & Remuneration Committee The People & Remuneration Committee of the Board consists entirely of independent Non-Executive Directors. It is this independence which allows the Committee to ensure that the Group’s remuneration framework can reflect the guiding principles of its remuneration philosophy. The Committee has an active and ongoing role in evaluating any proposed enhancements to the framework, and seeks advice and information from independent sources in order to satisfy itself remain that competitive. remuneration practices the Group’s The Committee oversees all executive arrangements and currently consists of: remuneration • Mr Clairs (Chairman); • Ms Hemstritch; • Ms Kay; • Mr Mohl (appointed 1 July 2008); and • Dr Schubert. The CEO attends Committee meetings by invitation, but does not attend in relation to matters that can affect him. The Committee’s activities are governed by its terms of reference, which are available on the Group’s website at www.commbank.com.au/shareholder. Introduction This Remuneration Report sets out the Group’s remuneration framework for Key Management Personnel and Other Executives. It demonstrates the links between the performance It discloses of remuneration arrangements, equity holdings, loans and other transactions for Key Management Personnel. individual’s remuneration. the Group and The year ended 30 June 2008 saw some significant and exciting enhancements to the Group’s remuneration framework. These enhancements aim to ensure the Group remains competitive in the employment field of the financial services industry and to strengthen the motivation of executives to produce superior performance. Remuneration Philosophy The guiding principles of the Group’s remuneration philosophy for all Key Management Personnel, Other Executives and employees generally are: • To motivate employees to produce superior sustainable performance towards achieving the Group’s vision; • To be transparent and simple to understand, administer and communicate; • To be competitive; and • To be flexible enough to ensure that the remuneration arrangements for specific roles can reflect the external market. The Group has enjoyed success over the years in delivering solid shareholder returns. The guiding principles of the remuneration philosophy support this success. 58 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Remuneration for the Year Ended 30 June 2008 The Group provides remuneration for its employees in the following components: • Fixed Remuneration; • Short Term Incentive (STI); and • Long Term Incentive (LTI). The weighting of each of these components differs for each employee, depending on their role and seniority within the Group. Typically, there is greater weighting on the variable components (STI and LTI) for more senior employees. Employees below Group Executive level generally do not receive an LTI component. The Group's remuneration structure is designed to motivate employees to achieve superior performance over the short and long term. Incentive plans are at their most effective when employees feel they can directly influence the outcomes to which they are linked. In the 2008 financial year, in response to research supporting STI as the most effective driver of performance, the Group removed LTI and increased the weighting on STI for General Managers and Executive General Managers. In order to ensure alignment with shareholder interests, retention of talent and a continued focus on long term value creation, the Group also introduced compulsory deferral of a third of earned STI into shares, to vest after three years. Remuneration Mix The relationship of fixed and variable remuneration (potential short term and long term incentives) is approved for each level of executive management by the Committee. For the financial year ended 30 June 2008, the target remuneration mixes that generally applied for individuals in each of the following executive groups were: Target Remuneration Mix Fixed STI LTI CEO Group Executives 28% 30% 55% 17% 60% 10% Executive General Managers 40% General Managers 50% 60% 50% Fixed Remuneration Fixed Remuneration comprises base remuneration, calculated on a total cost basis including the cost of salary packaging and employer contributions to superannuation. (Note that salary packaging arrangements are available to employees on individual contracts and to a limited extent to some other employees.) The Group sets Fixed Remuneration competitively, facilitated by regular independent benchmarking analysis and advice. Short Term Incentive (STI) All permanent employees participate in some form of STI arrangement. Individual STI potentials (as applicable) are set at the beginning of the financial year and payments are determined through the Group’s performance management framework. The Committee, in conjunction with the Board, determines the pool of STI payments available for the performance year with reference to the Group’s business performance relative to targets. Those targets that are not disclosed are commercially sensitive. The assessment of business performance takes into account factors which include financial results and progress against the Group’s five strategic priorities of Customer Service, Business Banking, Technology and Operational Excellence, Trust and Team Spirit and Profitable Growth. For the performance year ended 30 June 2008, STI payments for General Managers and above were determined with reference to the performance of the individual and the business against certain Key Performance Indicators (KPIs). The weighting of each of these factors is adjusted for each executive group, to ensure the criteria are within the area of control and influence of each executive. Individual performance for Key Management Personnel and Other Executives is assessed through the Group’s performance management system by measuring actual results of KPIs against operating targets and behavioural standards with reference to their area of responsibility. Examples of KPIs can include measures such as profitability, market share, balance growth, costs, margins, customer satisfaction, employee engagement, succession planning and strategic priorities. Business performance factors discussed earlier. is assessed against the The targets within the Group’s performance management framework allow for three levels of stretch targets on each KPI. This means that the ability of the participant to access the STI potential will only occur where there have been outstanding levels of performance. Employees must achieve a minimum of meets expectations on the behaviours and compliance KPIs to trigger any STI payment. Commonwealth Bank of Australia Annual Report 2008 59 Directors’ Report - Remuneration Report Customer satisfaction is of the highest importance to the Group’s overall performance and forms the basis of its vision. Three well established independent external surveys will be used the Group’s customer satisfaction performance at the end of the three year performance period. to determine These surveys have been chosen as they measure customer satisfaction across the operations of the Group as follows: • Roy Morgan, which measures customer satisfaction across the retail bank base, including CommInsure products sold through retail bank sales channels; • TNS Business Finance Monitor, which measures business banking customer satisfaction; and • Wealth Insights Service Level Survey Master Trust/WRAP, which measures wealth management service performance of master trusts/wraps in Australia. In order to determine the Group’s level of achievement against the customer satisfaction performance hurdle, scores are taken for both the Group and the peer group from the three independent external surveys. A ranking is then determined and a vesting scale applied, as follows: Group Ranking % of Pool to Vest 1 2 3 4 5 100 75 50 30 0 The Board may exercise discretion to ensure the rewards resulting the Group’s the GLSP are reflective of performance over the three year period. from These performance measures place the Group’s profitability and customer service uppermost, and reward participants for driving long term shareholder value. The criteria are based on results which participants can directly influence and which are publicly available. The plan will provide shares to the participants if and when grants vest. The number of shares to vest will be determined by the value of the pool that vests at the end of the performance period and the share price at the end of the relevant performance period. For the performance year ended 30 June 2008, STI deferral applied for the CEO, Group Executives, Executive General Managers and some other executives. STI payments were delivered in two components: • 2/3 as an immediate cash payment; and • 1/3 used to acquire shares in the Bank which will be held in trust for three years. After the three year vesting period, the executive will receive the shares and any dividends accrued over that time. These shares will generally be subject to forfeiture in circumstances of dismissal or resignation prior to the conclusion of the vesting period. Long Term Incentive (LTI) The Group’s LTI arrangements for grants made during the year ended 30 June 2008 are known as the Group Leadership Share Plan (“GLSP”). New grants under the Group’s previous LTI plan, the Equity Reward Plan (“ERP”), have ceased. Group Leadership Share Plan (GLSP) The objective of the GLSP is to motivate participants to increase profitability and customer satisfaction in order to improve long term shareholder value and achieve the Group’s vision. Participation in the plan is currently limited to the CEO and other Executive Committee members. For allocations made during the year ended 30 June 2008, participants will share in a pool to the value of 2.2% of the growth in the Group’s Profit after Capital Charge (PACC), capped at a maximum pool of $34 million subject following performance hurdles: to performance against both of the • The Group’s cash NPAT growth over the three year period must be above the average of NPAT growth of the peer group; and • The Group’s customer satisfaction ranking relative to the peer group. The current GLSP grant is measured from 1 July 2007 to 1 July 2010 and may vest depending on performance. Performance Conditions The Group’s performance relative to the peer group which comprises of ANZ, NAB, St George and Westpac will be tested on the third anniversary of the grant. The relative cash NPAT performance to peers and its link to growth in PACC have been incorporated into the GLSP to ensure the Group continues to provide above average long term financial performance for all stakeholders. Cash NPAT performance will be measured over the three year performance period and the hurdle will be measured following the release of the Group’s full year profit results for the last financial year of the period. This will then be tested against Cash NPAT results for peer group companies over the same performance period. This is a gateway hurdle – if the Group’s Cash NPAT performance over the period is not above the average Cash NPAT performance of the peer group then, subject to Board discretion, nothing will vest under the plan. The customer satisfaction performance hurdle was chosen as research has shown a direct correlation between high levels of customer satisfaction and high shareholder returns. 60 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Equity Reward Plan (ERP) New grants under the Group’s previous LTI plan, the ERP, have ceased. The last grant from July 2006 is not due to be tested for vesting until 14 July 2009 and this will apply to selected executives in General Manager roles and above who have participated in this plan. Grants are delivered in the form of ordinary shares in the Bank that may vest in the executive in some proportion, to the extent that a performance hurdle is met. For a limited number of executives, a cash-based ERP replicator plan was operated where grants were delivered in the form of Performance Units. This was known as the Equity Reward (Performance Unit) Plan (ERPUP). In assessing whether the performance hurdles for each ERP or ERPUP grant have been met, the Group receives independent data from Standard & Poor’s which provides both the Bank’s TSR growth from the commencement of each grant and that of the peer group (excluding the Bank, as shown in the below table). The Bank’s performance against the hurdle is then determined by ranking each company in the peer group against the Bank in order of TSR growth from the commencement of each grant. A weighting for each company in the peer group is determined by dividing the market capitalisation of the relevant company by the total market capitalisation of the peer group. The Bank’s percentile ranking is determined by aggregating the calculated weighting of each company ranked below the Bank. Relative TSR was previously selected as the performance measure based on its link to shareholder value. However, the current measures of customer satisfaction and the profitability of the Group better align executive’s motivation and behaviours with achieving the Group’s strategic vision and improving long term shareholder value. Grants under the ERP and ERPUP were made annually and vesting is subject to the Bank’s Total Shareholder Return (TSR) performance relative to the other entities in the peer group over a three to four year period as follows: Years of Grant Vesting Scale 2004 & 2005 <50th percentile = Nil Shares 50th – 67th percentile = 50% - 75% of shares 68th – 75th percentile = 76% - 100% of shares <51st percentile = Nil Shares 51st – 75th percentile = 50% - 100% of shares 2006 AMP ANZ Group AXA Bank of Queensland Bendigo Bank* IAG Peer Group Macquarie Bank National Australia Bank QBE insurance St George Suncorp-Metway Westpac Banking Group * Adelaide Bank was removed from the peer group when it was taken over by Bendigo Bank in November 2007. Summary of the Group’s LTI grants The table below provides a summary of the LTI grants that were in operation during the year ended 30 June 2008. Year of Grant Current LTI - GLSP 2007 Previous LTI - ERP 2004 2005 2006 Performance Period Retesting Expiry date if unvested Status as at 30 June 2008 July 2007 to July 2010 None 1 July 2010 Unvested Sept 2004 to Sept 2007 July 2005 to July 2008 July 2006 to July 2009 Every 6 months to Sept 2009 Every 6 months to July 2010 Once only in July 2010 23 Sept 2009 15 July 2010 14 July 2010 100% vested 63rd percentile 69th percentile The departure from CFS GAM of a number of key employees participating in the scheme indicated that the arrangements were insufficiently competitive against arrangements offered elsewhere in the market. For the 2008 financial year the Board agreed to remove the performance hurdles in return for an increase in the vesting period from three to five years to focus the LTI style arrangement more directly on the long term retention of key individuals in an increasingly volatile market. Other LTI Style Arrangements Certain executives in Colonial First State Global Asset Management (CFS GAM) participate in a specific cash-settled LTI style arrangement relating to that business. The purpose of this LTI style arrangement is the retention of key employees with specific and unique skill sets highly valued in the market. The decision of investors to grant an investment mandate to CFS GAM is highly dependent on their confidence in the investment capability and experience of individual fund managers. As such, the loss of these individuals from CFS GAM could put current and future mandates at risk. During the 2007 financial year this LTI style arrangement was allocated a three year vesting period and between 50% and 100% of the pool may vest depending on performance hurdles relating to the CFS GAM profit growth rate over a period of three years. There were also limits on how much of the vested entitlement employees were eligible to redeem in any one year. Commonwealth Bank of Australia Annual Report 2008 61 Directors’ Report - Remuneration Report Group Performance for the Year Ended 30 June 2008 following The the Group’s table gives an overview of performance for the year ended 30 June 2008, in the context of the remuneration criteria. Continuing strong results, driven by progress made on our strategic priorities towards achieving the Group’s vision, have meant that variable remuneration awarded to executives is at the higher end of their potential. Details of the remuneration outcomes based on business performance are provided on pages 59 this remuneration report. to 61 of The Key Performance reference to the Group’s five strategic priorities, being: Indicators are set with particular • Customer Service; • Business Banking; • Technology and Operational Excellence; • Trust and Team Spirit; and • Profitable Growth. The following table provides a description of the Group’s performance in relation to each strategic priority for the performance year ending 30 June 2008. Summary of Group Performance Strategic Priorities Commentary Customer Service Business Banking Technology & Operational Excellence Trust & Team Spirit Profitable Growth The Group’s vision is “to be Australia’s finest financial services organisation through excelling in customer service”. The Group has made significant progress on this strategic priority including investing in front line staff, the refurbishment and redesign of retail branches, the opening of new business banking centres, the introduction of new and enhanced product offerings and simplified processes and procedures. These and a number of other initiatives have contributed to improvements in a range of customer service measures. The Group’s MFI customer satisfaction levels as measured by Roy Morgan(1) reached a 10 year high during the year. The Group was awarded Money Magazine’s “Bank of the Year” for 2008 and 24 of the retail bank’s products have received CANNEX 5-star ratings. The Group also recorded the strongest gains in Business Customer satisfaction amongst the peer group over the past 12 months (Source: TNS Business Finance Monitor – businesses with annual turnover to $100 million), FirstChoice was rated the number one platform by financial advisers as measured by Investment Trends and ASB Bank once again won The Banker’s “Bank of the Year Award for New Zealand”. There have also been significant reductions in customer complaints and increases in customer compliments. Improving the Group’s competitive position in Business Banking remains a key strategic priority, with recent progress including the introduction of business bankers into selected branches, the acquisition and successful integration of IWL providing a strategic entry into the wholesale online broking market, the launch of CommSec banking solutions and the iPhone share trading option, and the continued migration of business customer to CommBiz, our internet-based business banking offering. During the year CommSec won the AFR Smart Investor’s “Highest Polling Online Broker 2008” award and Trade Choice Awards “Best Margin Lender 2008”. Customer Complaints for Premium Business Services declined significantly and the Group recorded strong above system growth in business deposits during 2008. Initiatives in this area are designed to deliver greater efficiency across the Group as well as providing competitive leverage through innovative process and systems. Progress during the year included the announcement of a $580 million, four year Core Banking Modernisation project to replace the Group’s legacy systems designed to drive significant improvements in customer service and productivity, further IT efficiency savings and significant improvements in systems stability and resilience. Good progress was also made on a number of initiatives designed to improve customer service, increase operational efficiency and increase security for the Group and its customers. The restructuring of relationships with IT providers was also advanced through the execution of new application sourcing agreements designed to deliver greater contestability, flexibility and delivery capability. A number of key measures indicate the Group is continuing to make good progress on employee engagement, highlighted by the fact the Group is now placed in the top quartile of the Gallup worldwide database. There has also been a significant improvement in Workplace Safety, with the Group’s Lost Time Injury Frequency Rate falling by a further 31%. During the year ASB Bank received the Gallup “Great Workplace Award 2008” and the Group continued to demonstrate support to the community through a range of initiatives including financial literacy, environmental partnerships and community assistance. The Group continued to make good progress in seeking out and developing new opportunities for profitable growth and value creation, with highlights including the continued strong performance from our Indonesian and Chinese businesses, CFS GAM’s focus on a wide range of opportunities to grow its global footprint, and further strong gains in Group-wide referral rates designed to better leverage the significant opportunities in our existing customer base. (1) Source: Roy Morgan Research MFI Customer Satisfaction is based on Australians aged 14+, Very or Fairly Satisfied, a 6 month moving average. 62 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Cash NPAT performance 2004 to 2008 ($M) Cash EPS performance 2004 to 2008 (cents) 4,527 4,733 4,086 3,492 2,695 4,700 4,100 3,500 2,900 2,300 1,700 1,100 500 -100 347.1 356.9 318.5 264.8 206.6 s t n e C 400 350 300 250 200 150 100 50 0 Jun 04 AGAAP Jun 05 Jun 06 Jun 07 Jun 08 AIFRS Jun 04 Jun 05 Jun 06 Jun 07 Jun 08 AGAAP AIFRS n o i l l i M $ Long Term Performance The objective of LTI grants during the year ended 30 June 2008 is to improve shareholder value over the long term. Further details on the GLSP performance hurdles are on page 60. For the ERP, long term performance of the Bank is measured on the Bank’s Total Shareholder Return (TSR) relative to its peers. The following graph indicates the Bank’s TSR by showing share price and dividend growth over the past 5 years. ) s t n e c ( s d n e d i v i D 280 260 240 220 200 180 160 140 120 65 60 55 50 45 40 35 30 25 20 ) $ ( e c i r P e r a h S Jun 04 Jun 05 Jun 06 Jun 07 Jun 08 Dividends Per Share Share Price Commonwealth Bank of Australia Annual Report 2008 63 Directors’ Report - Remuneration Report Variable Remuneration Life Cycle This life cycle depicts how the variable remuneration arrangements for the CEO and the other Executive Committee members operate for the year ended 30 June 2008. July 2007 July 2008 July 2009 July 2010 July 2011 • July 2008 STI payments deferred until Bank shares vest after three years. LTI measurement and allocation • GLSP pool is determined (percentage of PACC growth over the past three years), capped at $34 million; • Performance is tested against relative NPAT and customer satisfaction hurdles; and • Subject to satisfaction of the performance conditions, a proportion of the GLSP allocation pool value may vest. The performance rights already granted may be exercisable immediately into shares. • Performance reviews; • STI payments determined; and • 2/3 of STI payment is made immediately in cash, the other 1/3 is deferred into Bank shares for three years. The following is set for each executive: • STI potential; and • Performance plans (including Key Performance Indicators, behaviours, targets and stretch targets). The following is set for the performance period: • LTI potential for each executive, being a potential share in the GLSP pool; and • Relative NPAT and customer satisfaction performance hurdles. STI LTI 64 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Directors’ Remuneration Ralph Norris (Managing Director and CEO) Summary of Remuneration Arrangements Mr Norris’ remuneration consists of fixed and variable (at risk) components. Fixed Remuneration the year ended 30 June 2008, Mr Norris’ Fixed For Remuneration was 30% of total remuneration. Variable Remuneration Mr Norris’ variable remuneration consists of short and long-term incentives. Variable remuneration for the year ended 30 June 2008 was 70% of total remuneration. For the year ended 30 June 2008, a Short Term Incentive (STI) was delivered in two components; 2/3 made as an immediate cash payment and 1/3 deferred into Bank shares for three years. Performance was measured against Key Performance Indicators. The Board has assessed Mr Norris’ performance for the year and has approved a total STI payment of $2.85 million. This assessment took into account the following factors: • Business and financial results; • The Group’s customer service levels; • Technology and operational excellence; • The Group’s core behaviours; and • Identifying and developing talent. Incentive (LTI) was allocated Following shareholder approval at the 2007 Annual General Meeting, a Long Term in November 2007 in the form of Performance Rights under the Group Leadership Share Plan (GLSP). Vesting will occur subject to the satisfaction of the performance conditions - the Group’s relative NPAT and customer satisfaction ranking against the peer group at the end of the three year performance period. (Refer to the GLSP on page 60). Terms and conditions of appointment The Board determines Mr Norris’ remuneration, pursuant to the Constitution, as part of the terms and conditions of his appointment. Those terms and conditions are established in a contract of employment with Mr Norris which was effective from 22 September 2005. Remuneration is subject to review annually by the Board. Mr Norris’ remuneration arrangements are detailed on page 68 and follow the same principles as other executives. in cases other Mr Norris’ contract provides for no end date, although he may resign at any time by giving six months’ notice. The Group may terminate Mr Norris’ employment, than misconduct, on six months’ notice. In this case, the Group will pay all Fixed Remuneration relating to the notice period, and any outstanding statutory entitlements. Any unvested STI or LTI amounts will be payable at the discretion of the Board. There is also a provision allowing Mr Norris to terminate the agreement if a material change to his status occurs, and to receive benefits as if the Group had terminated his employment. On ceasing employment with the Group, Mr Norris is entitled to receive his statutory entitlements of accrued annual and long service leave as well as accrued superannuation benefits. This arrangement is the same for all executives. Non-Executive Directors Remuneration Arrangements Remuneration for Non-Executive Directors consists of base and committee fees within a maximum of $3,000,000 per annum as approved by shareholders at the Annual General Meeting held on 5 November 2004. The total remuneration for Non-Executive Directors is less than that approval. No component of Non- Executive Director upon remuneration performance. contingent is On appointment to the Board, Non-Executive Directors enter into a service agreement with the Bank in the form of a letter of appointment. The letter of appointment, a copy of which appears on the Group's website, summarises the Board policies and terms, including remuneration, relevant up to and including the office of Director. All Non-Executive Directors have entered into a form of service agreement. The policy of the Board is that the aggregate amount of fees should be set at a level which provides the Group with the necessary degree of flexibility to enable it to attract and retain the services of Directors of the highest calibre. The Board Performance and Renewal Committee annually reviews the fees payable to individual Non-Executive Directors, takes into account relevant factors and, where appropriate, receives external advice on comparable remuneration. The last review was conducted in December 2007 and changes to the level of remuneration were agreed with effect from 1 January 2008. Non-Executive Directors have 20% of their annual fees applied to the mandatory on-market acquisition of shares in the Bank, under the Non-Executive Director Share Plan. In addition, Non- Executive Directors can voluntarily elect to sacrifice up to a further 80% of their fees for the acquisition of shares, or into superannuation. The Bank’s Non-Executive Directors’ fee structure provides for a base fee for all Directors of $210,000, and a base Chairman’s fee of $695,000. In addition, amounts are payable where Directors are members of, or chair a Committee. Details of the breakdown of each Non-Executive Directors' fees as at 30 June 2008 is provided on page 66. The Bank also contributes to compulsory superannuation on behalf of Non-Executive Directors. Commonwealth Bank of Australia Annual Report 2008 65 Directors’ Report - Remuneration Report Details of Components of Non-Executive Directors’ Fees Board Audit Committee Risk Committee People & Remuneration Committee Board Performance & Renewal Committee Committee Remuneration Position Chairman Non-Executive Director Chairman Member Chairman Member Chairman Member Chairman Member Fee (1) $ 695,000 210,000 50,000 25,000 50,000 25,000 40,000 20,000 10,000 10,000 (1) Non-Executive Directors sacrifice 20% of these fees on a mandatory basis under the Non-Executive Directors Share Plan (NEDSP). Fees were adjusted as from 1 January 2008. Retirement Benefits Under the Directors’ Retirement Allowance Scheme, which was approved by shareholders at the 1997 Annual General Meeting, Directors previously accumulated a retirement benefit on a pro rata basis to a maximum of four years’ total emoluments after 12 years’ service. No benefit accrued until the Director had served three years on the Board. In 2002, the Board decided to the Directors’ Retirement Allowance Scheme discontinue without affecting the entitlements of the existing Non-Executive Directors at the time. Since that year, new Directors have not been entitled to participate in the scheme. The Board resolved with effect from the 2004 Annual General Meeting to terminate the accrual of further benefits under the Scheme and freeze the entitlements of current members until their respective retirements. This approach has resulted in remuneration arrangements being expressed in a more transparent manner. The entitlements of the Non-Executive Directors under the Directors’ Retirement Allowance Scheme are: Directors’ Retirement Allowance Scheme Director J M Schubert J A Anderson (1) R J Clairs C R Galbraith J S Hemstritch (1) S C H Kay (1) F D Ryan D J Turner (1) H H Young (1) W G Kent (2) F J Swan (2) Total Increase in Accrued Benefit in Year $ - - - - - - - - - - - - Entitlement as at 30 June 2008 $ 636,398 - 202,989 159,092 - - 168,263 - - - - 1,166,742 (1) Sir John Anderson, Ms Hemstritch, Ms Kay, Mr Turner and Mr Young were appointed as Directors after the closure of the scheme. (2) Mr Kent and Mr Swan retired at the 2007 Annual General Meeting on 7 November 2007 and received payments of $159,092 and $266,173 respectively, representing their entitlements under the Scheme. 66 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Remuneration of Key Management Personnel and Other Executives The executives and Directors listed in the tables below include Key Management Personnel (KMP) and Other Executives during the year ended 30 June 2008. The KMP are the CEO, members of the Group’s Executive Committee and all members of the Board. The position and tenure for each of the executives and Directors table. The subsequent tables refer to these employees by surname and initials only. listed are shown on following the Name Position Tenure (if not full year) Non-Executive Directors J M Schubert J A Anderson R J Clairs C R Galbraith J S Hemstritch S C Kay F D Ryan D J Turner H H Young W G Kent F J Swan Chairman Director Director Director Director Director Director Director Director Director Director Managing Director and CEO R J Norris Managing Director and CEO Executives B J Chapman D Cohen D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan G A Petersen A Toevs Other Executives W Negus Group Executive, Human Resources and Group Services Group General Counsel Group Executive, Financial Services Group Executive, Premium Business Services Group Executive, Enterprise IT & Chief Information Officer Group Executive, International Finance Services Group Executive, Retail Banking Services Chief Solicitor and General Counsel Group Executive, Wealth Management Group Chief Risk Officer Retired on 7 November 2007 Retired on 7 November 2007 Commenced on 16 June 2008 Ceased employment on 31 January 2008 Commenced on 23 June 2008 Chief Executive Officer, Colonial First State Global Asset Management (CEO CFS GAM) Ceased as CEO CFS GAM on 1 June 2008 Commonwealth Bank of Australia Annual Report 2008 67 Directors’ Report - Remuneration Report Individual remuneration details for Directors for the year ended 30 June 2008 are set out below: Remuneration of Directors Short Term Benefits Cash (1) Fixed $ Cash STI payment At Risk $ STI Deferred in Shares At Risk $ Other Short Term Benefits $ Post- employment Benefits Share-based Payments Super- annuation (2) Fixed $ LTI Reward Shares At Risk $ Performa nce Rights $ NEDSP (1) Fixed $ Termination Benefits $ Other Long Term Benefits $ Total Remuneration $ 188,471 88,260 192,482 175,277 551,342 505,096 113,980 90,171 178,433 51,090 J M Schubert 2008 2007 J A Anderson 2008 2007 R J Clairs 2008 2007 C R Galbraith 2008 2007 J S Hemstritch 2008 2007 S C H Kay 2008 2007 F D Ryan 2008 2007 D J Turner 2008 2007 H H Young 2008 2007 W G Kent (3) 2008 2007 F J Swan (3) 35,834 2008 2007 187,112 Non-Executive Director Total 1,977,111 2008 1,757,806 2007 203,803 63,518 218,542 92,767 196,493 174,553 - 175,901 97,731 42,214 Managing Director and CEO R J Norris (4) 2008 2007 Director Grand Totals 2008 3,122,450 1,467,450 5,099,561 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - 52,570 45,459 17,012 4,598 18,367 15,775 17,983 88,943 90,161 36,759 18,751 15,710 20,848 109,467 104,524 105,257 19,417 5,717 78,363 15,831 52,483 16,840 490,479 465,451 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - 137,836 126,603 44,608 12,658 48,121 43,937 47,118 42,427 46,603 29,112 49,123 43,748 54,636 48,595 46,159 35,918 50,951 15,879 - - - - - - - - - - - - - - - - - - 11,847 44,088 159,092 - 13,359 46,885 266,173 - 550,361 518,034 425,265 - - - - - - - - - - - - - - - - - - - - - - - - - 741,748 677,158 240,053 68,346 258,970 234,989 253,572 219,630 250,744 156,042 264,367 234,011 294,026 250,829 248,414 183,389 274,171 85,114 249,302 235,820 367,849 250,837 3,443,216 2,741,291 1,900,000 1,425,000 950,000 1,514,063 - 81,125 100,014 792,672 1,237,635 1,237,635 1,280,790 - - - - - 72,031 52,040 8,662,920 6,569,985 2007 3,225,256 1,425,000 1,514,063 81,125 1,258,123 1,237,635 - 1,900,000 950,000 - 590,493 1,237,635 1,280,790 550,361 518,034 425,265 72,031 12,106,136 - 52,040 9,311,276 Group totals in respect of the financial year ended 30 June 2007 do not necessarily equal the sum of amounts disclosed for individuals listed above as there are some different individuals specified as Directors in 2008. Amounts in the table above reflect remuneration for the time the Director has been in a Key Management Personnel role i.e. pro-rating is applied relative to the date the Director commenced or ceased a Key Management Personnel role. (1) For Non-Executive Directors, this includes that portion of base fees and committee fees paid as cash. Non-Executive Directors also salary sacrifice 20% of their fees on a mandatory basis under the Non-Executive Directors Share Plan (NEDSP). Further details on the NEDSP is contained in Note 33 to the Financial Statements. (2) Represents company contribution to superannuation and includes any allocations made by way of salary sacrifice by Directors. (3) Mr Kent and Mr Swan retired at the 2007 Annual General Meeting on 7 November 2007. (4) Cash STI payment represents the amount of cash immediately payable in recognition of performance for the year ended 30 June 2008, with the exception of STI sacrificed to superannuation which is included under 'Superannuation'. STI deferred in shares represents the compulsory deferral of 1/3 of the STI payment for the performance year ended 30 June 2008. This amount is deferred until 1 July 2011. Generally, Mr Norris will need to be an employee of the Bank at the end of the deferral period to receive this portion. The 2007 financial year figure represents STI deferred in cash. The value of LTI Performance Rights under the GLSP and Reward Shares under the ERP has been calculated using a Monte-Carlo simulation method. Details on the assumptions incorporated are set out on page 70 under Reward Shares Valuation Assumptions and Performance Rights Valuation Assumptions. 68 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Individual remuneration details for Executives for the year ended 30 June 2008 are set out below: Remuneration of Executives Short Term Benefits Cash (1) Fixed $ Non Monetary Fixed $ (2) Cash STI payment (3) At Risk STI Deferred in Shares (4) At Risk Other Short Term Benefits (5) $ $ $ Post- employ- ment Benefits Super- annuation (6) Fixed $ Share-based Payments Performance Rights (7) LTI Reward Shares (7) At Risk LTI Performance Units At Risk (7) Other Long Term Benefits (8) $ $ $ $ Total Remuneration $ B J Chapman 2008 2007 D Cohen (9) 2008 2007 D P Craig 2008 2007 S I Grimshaw 2008 2007 M R Harte 2008 2007 G L Mackrell 2008 2007 R M McEwan 2008 2007 J K O’Sullivan (10) 2008 2007 G A Petersen 2008 2007 A Toevs (11) 2008 2007 Total Remuneration (12) 2008 2007 931,854 113,426 1,406,154 1,215,608 862,067 632,568 770,205 600,724 924,144 116,999 486,042 848,665 1,022,877 442,521 1,130,595 - 8,375,607 5,756,239 807,709 112,213 13,763 9,726 666,667 312,164 333,333 331,674 263,352 144,739 49,838 601,128 263,692 - 133,247 125,259 110,997 397,554 18,703 16,535 2,661,301 2,050,992 33,960 - 564 - - - - - - - 2,271 - 263,692 - - - 13,763 8,236 1,000,000 306,647 500,000 325,812 100,000 - 86,128 774,720 301,362 - 177,673 142,138 13,507 10,200 1,000,000 556,600 500,000 591,388 - - 94,030 81,288 376,703 - 715,296 1,713,785 13,653 10,260 866,667 296,100 433,333 314,606 73,756 310,618 49,352 42,500 263,692 - 111,929 111,929 13,763 10,260 633,333 415,000 316,667 440,938 - - 173,753 202,503 301,362 - 534,536 1,270,275 - - - - - - - - - - 786 - 301,273 - 22,094 14,935 3,132,874 1,685,914 32,560 28,148 4,138,250 4,197,017 19,961 14,647 2,694,410 1,733,228 20,178 18,599 2,763,797 2,958,299 13,653 1,321 1,000,000 47,612 500,000 50,588 101,036 17,725 93,838 8,730 376,703 - - - 238,692 181,058 22,094 2,729 3,270,160 426,762 8,160 10,260 - 332,645 - 395,935 13,763 10,260 733,333 410,576 366,667 436,237 - - - - 33,677 96,800 - - (78,900) 734,820 50,000 476,449 339,033 - 400,040 607,463 - - - - - - 61,222 - 2,186 - - - - - - - - - - - - 19,651 448,979 2,438,776 23,685 19,945 2,949,398 2,403,451 42,374 - 1,236,377 - 104,589 92,757 5,900,000 2,677,344 2,950,000 2,887,178 599,366 473,082 635,073 4,582,851 2,486,239 - 1,993,821 6,150,372 349,689 578,612 202,435 135,189 23,596,819 27,792,307 Other Executives (13) W Negus 2008 2007 1,022,877 1,004,395 13,763 10,260 1,466,666 888,000 - 943,500 - - 50,000 67,164 - - 212,720 212,720 304,157 1,779,157 23,685 23,257 3,093,868 4,928,453 Total Remuneration of Executives 2008 2007 9,398,484 6,760,634 118,352 103,017 7,366,666 3,565,344 2,950,000 3,830,678 599,366 473,082 685,073 4,650,015 2,486,239 - 2,206,541 6,363,092 653,846 2,357,769 226,120 158,446 26,690,687 32,720,760 Grand totals in respect of the financial year ended 30 June 2007 do not necessarily equal the sum of amounts disclosed for individuals listed above as there are different individuals specified as Executives in 2008. Amounts in the table above reflect remuneration for the time the Executive has been in a Key Management Personnel role i.e. pro-rating is applied relative to the date the Executive commenced or ceased a Key Management Personnel role. 1) Reflects the amounts paid in the year ended 30 June 2008 and is calculated on a total cost basis. Included may be annual leave accruals and salary sacrifice amounts with the exception of salary sacrifice superannuation which is included under 'Superannuation'. For Mr Toevs, this also includes a cash payment upon commencement. (2) Represents the cost of car parking (including FBT). (3) Cash STI payment represents the amount of cash immediately payable to an Executive in recognition of performance for the year ended 30 June 2008, with the exception of STI sacrificed to superannuation which is included under 'Superannuation'. (4) STI deferred in Shares represents the compulsory deferral of 1/3 of STI payments for Executives for performance to the year ended 30 June 2008. These amounts are deferred until 1 July 2011. Generally, the Executive will need to be an employee of the Group at the end of the deferral period to receive this portion. The 2007 financial year figure represents STI deferred in cash. (5) All Other Short Term Benefits payable that are not covered above. (6) Represents company contribution to superannuation and includes any allocations made by way of salary sacrifice by Executives. Commonwealth Bank of Australia Annual Report 2008 69 Directors’ Report - Remuneration Report (7) The ‘fair value’ of LTI performance rights under the GLSP and ERP reward shares has been calculated using a Monte-Carlo simulation method, incorporating the assumptions below: Reward Share Valuation Assumptions Purchase Date Fair Value Exercise Price Risk Free Rate Assumption Term Dividend Yield Volatility 22-Sep-04 5-Nov-04 23-Nov-05 3-Nov-06 $16.72 $19.72 $24.51 $30.62 $0.00 $0.00 $0.00 $0.00 5. 48% 5. 61% 5. 65% 6. 04% 59 mths 57 mths 56 mths 47 mths Nil Nil Nil Nil 15. 0% 15. 0% 15. 0% 15. 0% Performance Rights Valuation Assumptions 12-Oct-07 $53.50 $0.00 7. 75% 33 mths 5. 94% 15. 0% - The Reward Shares assessment has been made as at purchase date for each ERP grant based on the expected future TSR performance of the Bank and each member of its peer group. The annualised equivalent of the ‘fair value’ in respect of the number of shares for each grant has been amortised on a straight line basis over the term of the grant. - The Performance Rights assessment under the GLSP has been made at grant date based on the expected future NPAT growth (using TSR) and customer satisfaction outcomes of the Group and each member of the peer group. The annualised equivalent of the ‘fair value’ in respect of the number of performance rights for the grant has been amortised on a straight line basis over the term of the grant. - For the GLSP, the final allocation pool can only be determined at the end of the performance period. As each participant’s allocation is based on the proportion of the pool that may vest, the above assumptions have been used to determine the maximum number of performance rights that may vest. Each participant has been granted their allocated percentage of the pool based on the above valuation assumptions. (8) All other benefits payable that are not covered above. For Mr Toevs, this represents equity arrangements offered at commencement. (9) Mr Cohen commenced in his role on 16 June 2008. (10) Mr O’Sullivan ceased employment on 31 January 2008 (11) Mr Toevs commenced in his role on 23 June 2008 (12) Termination benefits to the value of $4,458,683 were included in the total remuneration for Executives for the year ended 30 June 2007. No termination benefits were paid in the year ended 30 June 2008. (13) Mr Negus, who is not a Key Management Personnel, and Messrs Craig, Grimshaw, McEwan and Petersen are the five executives who received the highest remuneration for the year ended 30 June 2008 as defined in the Section 300A of the Corporations Act 2001. Termination Arrangements of Key Management Personnel and Other Executives The Group’s executive contracts provide for the following termination arrangements for KMP and Other Executives: Name B J Chapman Contract Type Permanent Permanent Permanent Permanent Permanent Permanent Permanent D Cohen D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan (2) G A Petersen A Toevs Other Executives W Negus Notice 4 weeks 6 months 4 weeks 3 months 4 weeks 4 weeks 3 months Severance (1) Linked to years of service with a maximum of 64 weeks payment after 19 years service (including ASB service) 6 months 6 months 12 months 6 months 6 months Linked to years of service with a maximum of 64 weeks payment after 19 years service (including ASB service) 12 months 6 months If terminated in first two years, the greater of $5,000,000 or remuneration for remainder of term Permanent Permanent 2 year term with the option to extend to a maximum of 3 years 4 weeks 4 weeks Not Applicable Fixed Term, expires on 1 June 2009 Not Applicable None (1) Severance applies where termination is initiated by the Group, other than for misconduct or unsatisfactory performance. (2) Mr O’Sullivan ceased employment on 31 January 2008. Upon ceasing employment with the Group, executives are entitled to receive their statutory entitlements of accrued annual and long service leave, as well as accrued superannuation benefits. Executives who cease employment with the Group during a given performance year (i.e. 1 July to 30 June) will generally not receive an STI payment the for circumstances of retrenchment, retirement or death. that year except in Deferred cash or shares from previous STI awards are usually forfeited where the executive resigns or is dismissed. In circumstances of retrenchment, retirement or death any cash will generally be paid and unvested shares will generally vest immediately. LTI grants are generally forfeited where the executive resigns or In circumstances of is dismissed. retrenchment, retirement or death, the executive or their estate may, at Board discretion, retain their full or pro-rata grant of LTI. Vesting of any LTI retained by the executive will still be subject to the performance hurdle relevant to that grant. 70 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report STI Allocations to Executives for the Year Ended 30 June 2008 Directors R J Norris Executives B J Chapman D Cohen (4) D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan (5) G A Petersen A Toevs (6) Other Executives W Negus Portion Paid Paid Percentage Forfeited % Portion (1) Deferred Minimum Total (2) Value Maximum Total (3) Value $ $ 2/3 2/3 - 2/3 2/3 2/3 2/3 2/3 - 2/3 - 100% - - - - - - - - 100 - - - 1/3 1/3 - 1/3 1/3 1/3 1/3 1/3 - 1/3 - - 1,900,000 2,850,000 666,667 - 1,000,000 1,000,000 866,667 633,333 1,000,000 - 733,333 - 1,000,000 - 1,500,000 1,500,000 1,300,000 950,000 1,500,000 - 1,100,000 - 1,466,666 1,466,666 (1) Used to acquire shares in the Bank that will generally vest on 1 July 2011 subject to not being forfeited due to resignation or misconduct including misrepresentation of performance outcomes. Will generally vest early in circumstances of retrenchment, retirement or death. (2) For those executives with a minimum total value greater than zero, this reflects the 2/3 component of the STI payment which is immediately payable determined by actual performance over the year ended 30 June 2008. Executives generally do not receive an STI payment unless their individual performance is at least meeting expectations. (3) Includes value of shares purchased at commencement of vesting period for the deferred portion. (4) Mr Cohen commenced employment on 16 June 2008. (5) Mr O’Sullivan ceased employment on 31 January 2008. (6) Mr Toevs commenced employment on 23 June 2008. LTI Allocations to Executives for the Year Ended 30 June 2008 Percentage Paid % Percentage Forfeited % Percentage Deferred (1) % Current Allocation (Percentage of Pool) (2) Minimum Total Value $ Maximum Total Value (3) $000s - - - - - - - - - - - - - - - - - - - - - - - - 100 100 100 100 100 100 100 100 - 100 - - 34 7 7 8 10 7 8 10 - 9 - - - - - - - - - - - - - - 11,560 2,380 2,380 2,720 3,400 2.380 2,720 3,400 - 3,060 - - Directors R J Norris Executives B J Chapman D Cohen (4) D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan (5) G A Petersen A Toevs (6) Other Executives W Negus (3) (1) Will vest in July 2010 under the GSLP subject to the performance conditions and the performance hurdle being met (see page 60). (2) Each participant’s allocated percentage of the proportion of the pool that may vest (capped at $34 million). See page 60. (3) Equals the participant’s allocated percentage of the maximum pool that may vest – $34 million, except for Mr Negus who participates in a cash settled LTI style arrangement that is specific to Colonial First State Global Asset Management (CFS GAM). Allocations under this arrangement vest depending on the CFS GAM net profit before tax growth rate over three years. (4) Mr Cohen commenced employment on 16 June 2008. (5) Mr O’Sullivan ceased employment on 31 January 2008. (6) Mr Toevs commenced employment on 23 June 2008. Commonwealth Bank of Australia Annual Report 2008 71 Directors’ Report - Remuneration Report Equity Holdings of Key Management Personnel and Other Executives Shareholdings Share trading policy All shares were acquired by Directors on normal terms and conditions or through the Non-Executive Directors’ Share Plan. Shares awarded under the Equity Reward Plan and the mandatory component of the Equity Participation Plan are registered in the name of the Trustee of the employee share plan trust. For further details of the Non-Executive Directors’ Share Plan, previous Equity Reward Plan, previous Executive Option Plan and Equity Participation Plan refer to Note 33 to the Financial Statements. The Group has guidelines restricting the dealings of Directors and certain executives in Bank securities. In particular, they are instruments or prohibited arrangements for margin borrowing, short selling or stock lending in relation to securities of the Bank or of any other member of the Group. from hedging and from using Directors and executives are reminded of the share trading policy each six months and are required to complete an annual declaration confirming their compliance with the policy. Details of shareholdings of Key Management Personnel and Other Executives (or close family or entities controlled, jointly controlled, or significantly influenced by them, or any entity over which any of the aforementioned hold significant voting power) are as follows: Shares Held by Directors Name Directors J M Schubert R J Norris J A Anderson R J Clairs C R Galbraith J S Hemstritch S C H Kay F D Ryan D J Turner H H Young W G Kent (3) F J Swan (3) Total For Directors Class Ordinary Ordinary Reward Shares Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Reward Shares Balance 1 July 2007 24,418 10,000 191,238 10,000 17,886 11,404 15,565 5,901 9,196 301 20,000 17,070 8,181 149,922 191,238 Acquired/Granted as Remuneration (1) On Exercise of Options Net Change (2) Other 2,890 - - 773 1,014 992 926 1,036 1,146 940 866 441 497 11,521 - - - - - - - - - - - - - - - - - - - 792 - 658 - 2,100 5,000 - 1,131 1,689 - 11,370 - Balance 30 June 2008 27,308 10,000 191,238 11,565 18,900 13,054 16,491 9,037 15,342 1,241 21,997 19,200 8,678 172,813 191,238 (1) For Non-Executive Directors, represents shares acquired under NEDSP on 20 August 2007 and 4 March 2008 by mandatory sacrifice of fees. All shares acquired through NEDSP are subject to a 10 year trading restriction (shares will be tradeable earlier if the Director leaves the Board). For Mr Norris this represents Reward Shares granted under the ERP subject to performance hurdles. For the ERP, the first possible date for meeting the performance hurdle is 14 July 2009 with the last possible date for vesting being 14 July 2010. See Note 33 to the Financial Statements for further details on the NEDSP and ERP. (2) “Net Change Other” incorporates changes resulting from purchases and sales during the year. (3) Mr Kent and Mr Swan retired at the 2007 Annual General Meeting on 7 November 2007. 72 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Shares Held by Executives Name Executives B J Chapman D Cohen (4) D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan (5) G A Petersen A Toevs (6) Other Executives W Negus Total for Executives (1) Class Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Deferred Shares Ordinary Reward Shares Ordinary Reward Shares Deferred Shares Balance 30 June 2007 Acquired/Granted as Remuneration On Exercise of Options Reward Shares (2) Vested Net Change (3) Other - 17,046 - - - 22,728 29,999 105,140 - 14,318 39,808 80,018 - - 45,767 69,770 14,652 64,780 - - - 3,680 40,500 133,906 414,300 - - - - - - - - - - - - - - - - - - - - - 37,784 - - - - 37,784 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - (37,500) - - - (28,130) - - - (25,940) - (19,500) - - - - - - (111,070) - 450 - - - 6,000 - - - - - 2,388 - - - 25,940 (43,830) (1,287) - - - - - - 33,491 (43,830) - Balance 30 June 2008 450 17,046 - - 6,000 22,728 29,999 67,640 - 14,318 42,196 51,888 - - 71,707 - 13,365 45,280 - - 37,784 3,680 40,500 167,397 259,400 37,784 (1) Reward Shares represents shares granted under the Equity Reward Plan (ERP) and are subject to a performance hurdle. The last possible date for vesting is 14 July 2010. See Note 33 to the Financial Statements for further details on the ERP. (2) Reward Shares become ordinary shares upon vesting. (3) “Net Change Other” incorporates changes resulting from purchases, sales and forfeitures during the year. (4) Mr Cohen commenced employment on 16 June 2008. (5) Mr O’Sullivan ceased employment on 31 January 2008. (6) Mr Toevs commenced employment on 23 June 2008. Commonwealth Bank of Australia Annual Report 2008 73 1 1 9 6 10 7 1 1 11 8 Highest Balance in Period $000s 3,181 2,852 936 215 100 3,544 647 748 3,874 2,702 Directors’ Report - Remuneration Report Total Loans to Key Management Personnel and Other Executives Year Ended 30 June Balance 1 July $000s Interest Charged $000s Interest Not Charged $000s Write-off $000s Balance 30 June $000s Number in Group at 30 June Directors Executives Total for Key Management Personnel Other Executives Total 2008 2007 2008 2007 2008 2007 2008 2007 2008 2007 3,648 464 6,103 9,178 9,751 9,642 1,442 554 11,193 10,196 258 21 781 425 1,039 446 68 35 1,107 481 - - - - - - - - - - - - - - - - - - - - 2,795 464 12,369 5,965 15,164 6,429 1,335 443 16,499 6,872 Details of Individuals with Loans above $100,000 in the reporting period are as follows: Individual Loans above $100,000 to Key Management Personnel and Other Executives Balance 1 July 2007 $000s Interest Charged $000s Interest Not Charged $000s Write-off $000s Balance 30 June 2008 $000s Directors R J Norris (1) Executives B J Chapman (1) D Cohen D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan (1) J K O’Sullivan (2) G A Petersen Total for Key Management Personnel Other Executives W Negus Total for Other Executives Total for Key Management Personnel & Other Executives 3,648 - 936 - - - 647 279 3,599 642 9,751 1,442 1,442 258 153 75 5 - 218 1 39 200 90 1,039 68 68 11,193 1,107 - - - - - - - - - - - - - - - - - - - - - - - - - - - - 2,795 2,679 936 213 50 3,394 647 460 3,013 977 15,164 18,799 1,335 1,335 1,845 1,845 16,499 20,644 (1) Balance declared in NZD for Mr Norris, Ms Chapman and Mr McEwan. Exchange rates are taken from Forex as at 30 June 2008 for interest charged, 30 June 2008 balances and highest balance in period. The exchange rate as at 30 June 2007 has been used for the 1 July 2007 balances. (2) Mr O’Sullivan ceased employment on 31 January 2008. 74 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report - Remuneration Report Terms and Conditions of Loans Transactions other than Financial Instrument Transactions of Banks All other transactions with Key Management Personnel, Other Executives and their related entities and other related parties are conducted on an arm’s length basis in the normal course of business and on commercial terms and conditions. These transactions principally involve the provision of financial and investment services by entities not controlled by the Group. Audit Certain disclosures required by the Corporations Act 2001 and accounting standard AASB124 Related Party Disclosures have been made this Remuneration Report. The entire Remuneration Report has been audited as required. in All loans to Key Management Personnel and Other Executives (or close family members or entities controlled, jointly controlled, or significantly influenced by them, or any entity over which any of the aforementioned held significant voting power) have been provided on an arm’s length commercial basis including the term of the loan, security required and the interest rate (which may be fixed or variable). Other Transactions of Key Management Personnel and Other Executives and Related Parties Financial Instrument Transactions Financial instrument transactions (other than loans and shares disclosed within this report) of Key Management Personnel and Other Executives occur in the ordinary course of business on an arm’s length basis. Disclosure of financial instrument transactions regularly made as part of normal banking operations is limited to disclosure of such transactions with Key Management Personnel and Other Executives and entities controlled or significantly influenced by them. All such financial instrument transactions that have occurred between entities within the Group and their Key Management Personnel and Other Executives have been trivial or domestic in nature and were in the nature of normal personal banking and deposit transactions. Commonwealth Bank of Australia Annual Report 2008 75 Directors’ Report Company Secretaries Audit Services The details of the Bank’s Company Secretaries, including their experience and qualifications are set out below. John Hatton has been Company Secretary of Commonwealth Bank of Australia since 1994. the From 1985 until 1994, he was a solicitor with the Bank’s Legal Department. He has a Bachelor of Laws degree from Sydney University and was admitted as a solicitor in New South Wales. He is a Fellow of Chartered Secretaries Australia and a Member of the Australian Institute of Company Directors. Carla Collingwood was appointed a Company Secretary to the Bank in July 2005. From 1994 until 2005, she was a solicitor with the Bank’s Legal Services Department, before being appointed to the position of General Manager, Secretariat. She holds a Bachelor of Laws degree (Hons.) and a Graduate Diploma in Company Secretary Practice from Chartered Secretaries Australia. Non-Audit Services Amounts paid or payable to PricewaterhouseCoopers for non- audit services provided during the year, as set out in the Annual Report in Note 38 to the Financial Statements are as follows: Regulatory audits, reviews, attestations and assurances for Group entities – Australia APRA reporting (including the tripartite review) Financial and other audits, reviews, attestations and assurances for Group entities - Australia Financial and other audits, reviews, attestations and assurances for Group entities – Offshore Agreed upon procedures and comfort letters in respect of financing, debt raising and related activities Taxation services Controls review and related work Other Total 2008 $’000 135 245 26 544 272 2,011 1,680 982 5,895 (1) An additional amount of $5,877,085 was paid to PricewaterhouseCoopers by way of fees for entities not consolidated into the Financial Statements. Of this amount $4,527,545 relates to statutory audits. Signed in accordance with a resolution of the Directors. Amounts audit PricewaterhouseCoopers totalled $14,041,000. payable paid for or services to The Bank has in place an External Auditor Services Policy, details of which are set out in the Corporate Governance section of this Annual Report, to assist in ensuring the independence of the Bank’s external auditor. The Audit Committee has considered the provision, during the year, of non-audit services by PricewaterhouseCoopers and has those services did not concluded compromise the auditor independence requirements of the Corporations Act. the provision of that The Audit Committee advised the Board accordingly and, after considering the Committee’s advice, the Board of Directors agreed that it was satisfied that the provision of the non-audit services by PricewaterhouseCoopers during the year was compatible with the general standard of independence imposed by the Corporations Act. The reasons for the Directors being satisfied that the provision of the non-audit services during the year did not compromise the auditor independence requirements of the Corporations Act are: • The operation of the External Auditor Services Policy during the year the nature of non-audit services engagements, to prohibit certain services and to require Audit Committee pre-approval for all such engagements; and to restrict • The relative quantum of fees paid for non-audit services compared to the quantum of audit fees. The above Directors’ statements are in accordance with the advice received from the Audit Committee. Auditor’s Declaration of Independence We have obtained an independence declaration from our auditor, PricewaterhouseCoopers as presented on the following page. Incorporation of Additional Material This report incorporates the Chairman’s Statement (pages 2 to 3), Highlights (pages 6 to 9), Analysis sections for Retail Banking Services (pages 14 to 15), Premium Business Services (pages to 21) and 16 to 24) and International Financial Services Shareholding Information (pages 226 to 229) sections of this Annual report. to 17), Wealth Management (pages 18 (pages 22 J M Schubert Chairman 13 August 2008 R J Norris Managing Director and Chief Executive Officer 76 Commonwealth Bank of Australia Annual Report 2008 Directors’ Report Commonwealth Bank of Australia Annual Report 2008 77 This page has been intentionally left blank. 78 Commonwealth Bank of Australia Annual Report 2008 Five Year Financial Summary 2008 $M 7,907 6,434 14,341 930 7,021 - 7,021 6,390 (1,626) (31) 4,733 9 60 (42) 295 (264) - - 2007 $M 7,036 6,161 13,197 434 6,427 - 6,427 6,336 (1,782) (27) 4,527 5 (75) 13 - - - - AIFRS (1) AGAAP (1) 2006 $M 6,514 5,613 12,127 398 5,994 - 5,994 5,735 (1,618) (31) 4,086 (25) (100) (33) - - - - 2005 $M 6,026 5,076 11,102 322 5,719 150 5,869 4,911 (1,409) (10) 3,492 (53) (39) - - - - - - 2004 $M 5,410 5,081 10,491 276 5,500 749 6,249 3,966 (1,262) (9) 2,695 - - - - - 201 (324) 4,791 4,470 3,928 3,400 2,572 1,904 1,480 756 563 43 4,746 (13) - - 4,733 9 60 (42) 295 (264) - - 4,791 1,766 1,445 548 461 211 4,431 96 - - 4,527 5 (75) 13 - - - - 4,470 1,576 1,138 441 442 278 3,875 66 - 145 4,086 (25) (100) (33) - - - - 3,928 n/a n/a n/a n/a n/a 3,420 177 (105) - 3,492 (53) (39) - - - - - 3,400 n/a n/a n/a n/a n/a 3,078 152 (535) - 2,695 - - - - - (324) 201 2,572 361,282 487,572 263,706 461,435 26,137 16,422 315,465 440,157 219,068 415,713 24,444 15,158 273,525 382,850 243,232 351,662 187,576 361,507 182,912 329,019 21,343 12,087 22,643 10,938 189,391 305,995 163,177 281,110 22,405 17,700 205,501(2) 245,347 216,438 189,559 169,321 385,667 362,249 332,492 311,236 289,416 269,718 260,085 240,974 214,187 197,532 410,225 54,312 23,035 487,572 360,188 55,160 24,809 440,157 318,578 43,318 20,954 382,850 294,513 41,383 15,766 351,662 252,652 35,059 18,284 305,995 Income Statement Net interest income Other operating income Total operating income Loan Impairment expense Operating expenses: Comparable business Initiatives including Which new Bank Total operating expenses Operating profit before goodwill amortisation, appraisal value uplift and income tax expense Corporate tax expense Minority interests Net profit after income tax (“cash basis”) Defined benefit superannuation plan income/(expense) Treasury shares valuation adjustment Hedging and AIFRS volatility Visa Initial Public Offering gain after tax Investment and restructuring Appraisal value uplift Goodwill amortisation Net profit after income tax attributable to Equity holders of the Bank Contributions to profit (after tax) Retail Banking Services Premium Business Services Wealth Management International Financial Services Other Net profit after income tax (“underlying basis”) Shareholder investment returns Which new Bank Profit on sale of the Hong Kong Insurance Business Net profit after income tax (“cash basis”) Defined benefit superannuation plan (expense)/income Treasury shares valuation adjustment Hedging and AIFRS volatility Visa Initial Public Offering gain after tax Strategic investment initiatives and asset write-offs Goodwill amortisation Appraisal value uplift Net profit after income tax Balance Sheet Loans, advances and other receivables Total assets Deposits and other public borrowings Total liabilities Shareholders’ equity Net tangible assets Risk weighted assets Average interest earning assets Average interest bearing liabilities Assets (on Balance Sheet) Australia New Zealand Other Total assets (1) The Group adopted AIFRS accounting standards for the reporting period beginning 1 July 2004. As a result the 2008, 2007, 2006 and 2005 results are presented on an AIFRS basis, while the 2004 result is presented on the previous AGAAP basis. (2) Risk weighted assets for 30 June 2008 are calculated in accordance with the Group’s advanced accreditation under Basel II. Commonwealth Bank of Australia Annual Report 2008 79 Five Year Financial Summary Shareholder Summary Dividend per share – fully franked (cents) Dividend cover – statutory (times) Dividend cover – cash (times) Dividend cover – underlying (times) Earnings per share (cents) Basic Statutory Cash basis Underlying basis Fully diluted Statutory Cash basis Underlying basis Dividend payout ratio (%) Statutory Cash basis Underlying basis Net tangible assets per share ($) Weighted average number of shares (statutory basic) Weighted average number of shares (statutory fully diluted) Weighted average number of shares (cash basic) Weighted average number of shares (cash fully diluted) Number of Shareholders Share prices for the year ($) Trading high Trading low End (closing price) Performance Ratios (%) Return on average Shareholders’ equity Statutory Cash basis Underlying basis Return on average total assets Statutory Cash basis Underlying basis Capital adequacy – Tier One Capital adequacy – Tier Two Capital adequacy – Deductions Capital adequacy – Total Net interest margin Other Information (numbers) Full-time equivalent employees Branches/services centres (Australia) Agencies (Australia) ATMs (proprietary) EFTPOS terminals EzyBanking locations 2008 2007 2006 2005 2004 AIFRS (1) AGAAP (1) 266 1. 3 1. 3 1. 3 363. 0 356. 9 357. 9 348. 7 343. 1 344. 0 74. 1 75. 0 74. 8 12. 4 1,307 1,424 1,313 1,430 741,072 62. 16 37. 02 40. 17 19. 8 20. 4 20. 4 1. 0 1. 0 1. 0 8. 17 3. 41 - 11. 58 2. 02 39,621 1,009 3,814 3,301 187,377 930 256 1. 3 1. 3 1. 3 344. 7 347. 1 339. 6 339. 7 342. 1 335. 0 75. 2 74. 2 75. 8 11. 7 1,281 1,344 1,289 1,351 696,118 56. 16 42. 98 55. 25 20. 7 21. 7 21. 2 1. 1 1. 1 1. 1 7. 14 3. 41 (0. 79) 9. 76 2. 08 224 1. 4 1. 4 1. 3 308. 2 318. 5 302. 0 303. 1 312. 9 297. 1 73. 3 70. 5 74. 3 9. 4 1,275 1,329 1,283 1,338 698,552 47. 41 36. 62 44. 41 20. 4 21. 5 20. 4 1. 1 1. 1 1. 1 7. 56 3. 10 (1. 00) 9. 66 2. 22 197 1. 3 1. 3 1. 3 259. 6 264. 8 259. 2 255. 3 260. 5 255. 0 77. 0 74. 9 76. 5 8. 5 1,260 1,316 1,269 1,325 704,906 38. 52 28. 79 37. 95 18. 2 18. 8 18. 4 1. 0 1. 1 1. 0 7. 46 3. 21 (0. 92) 9. 75 2. 29 183 1. 1 1. 1 1. 3 196. 9 206. 6 237. 1 196. 8 206. 5 237. 0 93. 5 89. 1 77. 6 12. 2 1,256 1,257 1,256 1,257 714,901 33. 54 27. 00 32. 58 12. 5 12. 7 14. 6 0. 9 0. 9 1. 1 7. 43 3. 93 (1. 11) 10. 25 2. 53 37,873 1,010 3,833 3,242 171,138 907 36,664 1,005 3,836 3,191 157,350 862 35,313 1,006 3,864 3,154 137,240 841 36,296 1,012 3,866 3,109 126,049 815 Productivity Total net operating income per full-time (equivalent) employee ($) Employee expense/Total operating income (%) Total operating expenses/Total operating income (%) 361,955 25. 5 49. 0 348,454 24. 5 48. 7 330,760 23. 3 49. 4 314,388 24. 1 52. 9 289,040 24. 3 59. 6 (1) The Group adopted AIFRS accounting standards for the reporting period beginning 1 July 2004. As a result the 2008, 2007, 2006 and 2005 results are presented on an AIFRS basis, while the 2004 result is presented on the previous AGAAP basis. 80 Commonwealth Bank of Australia Annual Report 2008 Income Statements Balance Sheets Statements of Recognised Income and Expense Statements of Cash Flows Note 1 Note 2 Note 3 Note 4 Note 5 Note 6 Note 7 Note 8 Note 9 Note 10 Note 11 Note 12 Note 13 Note 14 Note 15 Note 16 Note 17 Note 18 Note 19 Note 20 Note 21 Note 22 Note 23 Note 24 Note 25 Note 26 Note 27 Note 28 Note 29 Note 30 Note 31 Note 32 Note 33 Note 34 Note 35 Note 36 Note 37 Note 38 Note 39 Note 40 Note 41 Note 42 Note 43 Note 44 Note 45 Note 46 Note 47 Note 48 Note 49 Accounting Policies Profit Income from Ordinary Activities Average Balances and Related Interest Income Tax Expense Dividends Earnings Per Share Cash and Liquid Assets Receivables due from Other Financial Institutions Assets at Fair Value through Income Statement Derivative Assets and Liabilities Available-for-Sale Investments Loans, Advances and Other Receivables Provisions for Impairment Credit Risk Management Asset Quality Shares in and Loans to Controlled Entities Investment Property Property, Plant and Equipment Intangible Assets Other Assets Assets Held for Sale Deposits and Other Public Borrowings Payables due to Other Financial Institutions Liabilities at Fair Value through Income Statement Income Tax Liability Other Provisions Debt Issues Managed Funds Units on Issue Bills Payable and Other Liabilities Loan Capital Detailed Statements of Changes in Equity Share Capital Minority Interests Capital Adequacy Financial Reporting by Segments Life Insurance Business Remuneration of Auditors Commitments for Capital Expenditure Not Provided for Lease Commitments – Property, Plant and Equipment Contingent Liabilities, Assets and Commitments Risk Management Retirement Benefit Obligations Controlled Entities Investments in Associated Entities and Joint Ventures Director and Executive Disclosures Related Party Disclosures Notes to the Statements of Cash Flows Disclosures about Fair Value of Financial Instruments Financial Statements 82 83 84 85 87 100 102 103 109 112 113 113 114 114 116 122 125 128 132 139 149 149 150 152 153 154 154 155 155 155 156 157 159 160 160 168 171 177 178 179 182 189 189 190 191 194 206 209 212 212 213 218 220 Commonwealth Bank of Australia Annual Report 2008 81 Financial Statements Income Statements For the year ended 30 June 2008 Interest income Interest expense Net interest income Other operating income Net banking operating income (1) Funds management income Investment (expense)/revenue Claims and policyholder liability revenue/(expense) Net funds management operating income Premiums from insurance contracts Investment (expense)/revenue Claims and policyholder liability expense from insurance contracts Insurance margin on services operating income Total net operating income Loan impairment expense Operating expenses Defined benefit superannuation plan income/(expense) Net profit before income tax Corporate tax expense Policyholder tax (benefit)/expense Net profit after income tax Minority interests Net profit attributable to Equity holders of the Bank Note 2 2 2 2 2 2 2,14,15 2 2,43 2 5 5 2008 $M 29,234 21,327 7,907 3,559 11,466 2,369 (525) 519 2,363 1,373 (27) (606) 740 2007 $M 23,862 16,826 7,036 3,341 10,377 1,871 2,120 (2,020) 1,971 1,117 858 (932) 1,043 Group 2006 $M 19,758 13,244 6,514 3,036 9,550 1,589 2,098 (2,064) 1,623 1,052 1,031 (970) 1,113 2008 $M 25,585 19,667 5,918 5,786 11,704 Bank 2007 $M 20,068 14,916 5,152 5,522 10,674 - - - - - - - - - - - - - - - - 14,569 13,391 12,286 11,704 10,674 930 7,398 14 6,255 1,548 (115) 4,822 (31) 4,791 434 6,427 8 6,538 1,775 266 4,497 (27) 4,470 398 5,994 (35) 5,859 1,569 331 3,959 (31) 3,928 902 5,593 14 5,223 865 - 4,358 - 4,358 390 4,882 8 5,410 933 - 4,477 - 4,477 Group 2006 (1) Net Banking operating income of the Bank is greater than the Group due to the receipt of tax exempt intragroup dividends. 2008 2007 Note Cents per share Earnings per share: Basic Fully diluted Dividends per share attributable to shareholders of the Bank: Ordinary shares Trust preferred securities (TPS) – issued 8 March 2006 7 7 6 363. 0 348. 7 344. 7 339. 7 308. 2 303. 1 266 256 6,850 7,821 224 - These Financial Statements should be read in conjunction with the accompanying notes. 82 Commonwealth Bank of Australia Annual Report 2008 Balance Sheets As at 30 June 2008 Assets Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances of customers Shares in and loans to controlled entities Property, plant and equipment Investment in associates Intangible assets Deferred tax assets Other assets Assets held for sale Total assets Liabilities Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Bank acceptances Due to controlled entities Current tax liabilities Deferred tax liabilities Other provisions Insurance policy liabilities Debt issues Managed funds units on issue Bills payable and other liabilities Loan capital Total liabilities Net assets Shareholders’ Equity Share capital: Ordinary share capital Other equity instruments Reserves Retained profits Shareholders’ equity attributable to Equity holders of the Bank Minority interests: Controlled entities Total minority interests Total Shareholders’ equity Financial Statements 2008 $M 7,736 6,984 21,676 20,650 3,266 18,232 11,488 361,282 18,278 - 1,640 906 8,258 76 6,492 486,964 608 487,572 263,706 17,672 15,526 19,541 18,278 - 768 266 1,174 18,495 85,817 1,109 7,524 449,876 11,559 461,435 26,137 Group 2007 $M 10,108 5,495 21,469 23,519 4,073 12,743 9,672 315,465 18,721 - 1,436 836 7,835 254 7,157 438,783 1,374 440,157 219,068 14,386 16,396 16,680 18,721 - 882 908 878 21,613 88,525 310 7,346 405,713 10,000 415,713 24,444 2008 $M 7,282 6,731 19,168 - 274 19,287 27,067 309,714 18,278 37,472 1,336 757 2,826 54 5,369 455,615 412 456,027 240,871 17,625 2,930 19,367 18,278 54,119 708 19 983 - 55,778 - 6,301 416,979 11,620 428,599 27,428 Bank 2007 $M 7,401 5,772 20,287 - 448 13,862 8,468 262,967 18,721 37,596 1,112 749 2,788 25 6,786 386,982 21 387,003 194,630 14,322 5,206 16,786 18,721 45,642 800 91 734 - 47,760 - 6,366 351,058 10,422 361,480 25,523 15,727 939 1,206 7,747 14,483 939 2,143 6,367 15,927 1,895 2,253 7,353 14,691 1,895 2,622 6,315 25,619 23,932 27,428 25,523 518 518 26,137 512 512 24,444 - - 27,428 - - 25,523 Note 8 9 10 11 12 13 17 19 45 20 5 21 22 23 24 25 11 26 5 27 37 28 29 30 31 33 33 32 32 34 These Financial Statements should be read in conjunction with the accompanying notes. Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Commonwealth Bank of Australia Annual Report 2008 83 Financial Statements Statements of Recognised Income and Expense For the year ended 30 June 2008 Actuarial (losses)/gains from defined benefit superannuation plans Gains/(losses) on cash flow hedging instruments: Recognised in equity Transferred to Income Statement Gains/(losses) on available-for-sale investments: Recognised in equity Transferred to Income Statement on disposal Transferred to Income Statement on impairment Revaluation of properties Transfer from Foreign Currency Translation Reserve to Income Statement on disposal Exchange differences on translation of foreign operations Income tax on items transferred directly to/from equity: Foreign Currency Translation Reserve Available-for-sale investments revaluation reserve Revaluation of properties Cash flow hedge reserve Net (expense)/income recognised directly in equity Profit for the period Total net income recognised for the period Attributable to: Equity holders of the Bank Minority interests Total net income recognised for the period Note 32,43 32 32 32 32 32 32 32 32 32 32 32 32 2008 $M 2007 $M (240) 422 (573) 262 (312) - 20 - (648) 414 429 120 28 (138) - 79 - 54 Group 2006 $M 387 89 (58) 51 (33) (3) 19 41 2008 $M (240) 426 (318) 240 (272) - 19 - Bank 2007 $M 414 125 167 18 (119) - 75 - (232) (103) (119) 53 (13) 13 1 (1) 44 (4) 52 (924) 4,822 3,898 3,867 31 3,898 10 (23) (168) 792 4,497 5,289 5,262 27 5,289 (6) (4) (11) 253 3,959 4,212 4,181 31 4,212 7 (4) (27) (271) 4,358 4,087 4,087 - 4,087 14 (23) (87) 464 4,477 4,941 4,941 - 4,941 These Financial Statements should be read in conjunction with the accompanying notes. 84 Commonwealth Bank of Australia Annual Report 2008 Statements of Cash Flows (1) For the year ended 30 June 2008 Cash Flows From Operating Activities Interest received Interest paid Other operating income received Expenses paid Income taxes paid Net (increase)/decrease in assets at fair value through Income Statement (excluding life insurance) Net increase/(decrease) in liabilities at fair value through Income Statement: Life insurance: Investment income Premiums received (2) Policy payments (2) Other liabilities at fair value through Income Statement Cash Flows from operating activities before changes in operating assets and liabilities Changes in operating assets and liabilities arising from cash flow movements Movement in available-for-sale investments: Purchases Proceeds from sale Proceeds at or close to maturity Lodgement of deposits with regulatory authorities Net (increase) in loans, advances and other receivables Net (increase)/decrease in receivables due from other financial institutions not at call Net decrease/(increase) in securities purchased under agreements to resell Life insurance business: Purchase of insurance assets at fair value through Income Statement Proceeds from sale/maturity of insurance assets at fair value through Income Statement Net increase in deposits and other borrowings Net proceeds from issuance of debt securities Net increase in payables due to other financial institutions not at call Net (decrease)/increase in securities sold under agreements to repurchase Changes in operating assets and liabilities arising from cash flow movements Net cash (used in)/provided by operating activities Cash Flows from Investing Activities Payment for acquisition of entities and management rights Proceeds from disposal of controlled entities Proceeds from disposal of entities and businesses (net of cash disposals) Dividends received Net amounts received from controlled entities Proceeds from sale of property, plant and equipment Purchases of property, plant and equipment Payment for acquisitions of investments in associates/joint ventures Purchases of intangible assets Sale/(purchases) of assets held for sale Net (increase)/decrease in other assets Net cash (used in)/provided by investing activities Financial Statements Note 2008 $M 2007 $M 29,464 (20,786) 5,314 (6,882) (1,905) 23,123 (16,405) 4,627 (5,699) (1,942) Group 2006 $M 19,712 (12,555) 4,319 (5,813) (1,980) 2008 $M 25,445 (19,098) 3,485 (5,385) (1,601) Bank 2007 $M 19,471 (14,614) 2,826 (4,364) (1,056) (990) (1,715) (307) 200 (3,206) 509 2,304 (3,789) 2,296 2,431 (5,346) 2,399 2,338 (4,938) - - - - - - 810 4,831 1,941 (2,279) 3,373 4,049 6,201 5,116 767 2,430 (35,113) 610 31,974 13 (51,570) (22,214) 1,480 21,139 (8) (37,885) (28,189) 646 24,831 (29) (31,996) (48,162) 577 28,432 1 (47,536) (21,411) 1,101 20,582 (2) (35,037) (2,621) 833 (881) (2,126) 2,089 634 (1,647) 537 311 (1,867) (8,719) (8,476) (8,078) - - 11,159 49,603 (4,816) 8,842 26,361 7,207 9,398 12,799 14,109 - 48,418 6,274 - 20,914 (5,254) 4,486 1,865 2,571 4,584 1,864 (1,764) 1,943 328 (1,835) 2,013 (6,124) (2,075) (560) 5,641 (3,954) 1,162 (11,062) (10,295) (15,008) (12,578) (241) 2 - 39 - 14 (482) - (226) 766 (24) (152) (7) - 16 3 - 53 (314) (6) (130) (1,091) (800) (2,276) (414) 553 35 4 - 32 (385) (152) (90) - 31 (386) - - - 1,667 8,864 10 (421) - (183) (391) 1,025 10,571 - - - 1,881 11,760 49 (242) (6) (51) - (738) 12,653 48(a) 48(e) 48(c) (1) It should be noted that the Group does not use these accounting Statements of Cash Flows in the internal management of its liquidity positions. (2) Represents gross premiums and policy payments before splitting between policyholders and shareholders. These Financial Statements should be read in conjunction with the accompanying notes. Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Commonwealth Bank of Australia Annual Report 2008 85 Financial Statements Statements of Cash Flows (1) For the year ended 30 June 2008 Cash Flows from Financing Activities On-market share purchase Proceeds from issue of shares (net of costs) Proceeds from issue of other equity instruments (net of costs) Dividends paid (excluding Dividend Reinvestment Plan) (2) Net movement in other liabilities Net (purchase)/sale of treasury shares Issue of loan capital Redemption of loan capital Other Net cash provided by/(used in) financing activities Net (decrease)/increase in cash and cash equivalents Cash and cash equivalents at beginning of period Cash and cash equivalents at end of period (3) Note 2008 $M 2007 $M - 3 - (2,351) 553 (9) 2,091 (7) 128 - 19 - (2,284) 219 55 1,969 (1,069) (228) Group 2006 $M (500) 49 939 (2,163) 139 (10) 2,446 (915) 1 408 (1,319) (14) (1,819) 4,084 2,265 2,046 2,038 4,084 762 1,276 2,038 48(b) 2008 $M - 3 - (2,317) 453 (17) 1,784 (7) 34 (67) 209 128 337 Bank 2007 $M - 19 - (2,229) 1,197 (55) 1,865 (965) (20) (188) (113) 241 128 (1) It should be noted that the Group does not use these accounting Statements of Cash Flows in the internal management of its liquidity positions. (2) Includes $98 million allocated to participants under the Dividend Reinvestment Plan by an on-market purchase. (3) For the purposes of the Statements of Cash Flows, cash includes cash, money at short call, at call deposits with other financial institutions and settlement account balances with other banks. These Financial Statements should be read in conjunction with the accompanying notes 86 Commonwealth Bank of Australia Annual Report 2008 Note 1 Accounting Policies General Information The Financial Statements of the Commonwealth Bank of Australia (the “Bank”) and the Bank and its subsidiaries (the “Group”) for the year ended 30 June 2008, were approved and authorised for issue by the Board of Directors on 13 August 2008. The Bank is incorporated and domiciled in Australia. It is a company limited by shares that are publicly traded on the Australian Stock Exchange. The address of its registered office is Level 7, 48 Martin Place, Sydney, NSW 1155, Australia. The Group is one of Australia’s leading providers of integrated financial services including retail, business and institutional banking, superannuation, life insurance, general insurance, funds management, broking services and finance company activities. The principal activities of the Group during the financial year were: (i) Retail Banking Services The Group provides retail banking services within Australia including housing loans, credit cards, personal loans, savings and cheque accounts, and demand and term deposits. (ii) Premium Business Services The Group offers commercial products within Australia including business loans, equipment and trade finance, and rural and agribusiness products and provides private banking services to high net worth individuals and direct trading and margin lending through CommSec. This segment also has wholesale banking operations in London, New York, Singapore, Hong Kong and Malta. (iii) Wealth Management The Wealth Management segment conducts Australian funds management business comprising wholesale and retail investment, superannuation and retirement funds. Investments are across all major asset classes including Australian and international shares, property, fixed interest and cash. This segment also has funds management businesses in the United Kingdom and Asia. The Wealth Management segment also provides Australian term trusts, insurance, disability investment products and general insurance. insurance, annuities, master (iv) International Financial Services The Group has full service banking operations in New Zealand, Fiji and Indonesia. The Group also has wholesale banking operations in Indonesia, regions of China and Tokyo. The Group’s International Financial Services segment also conducts Life Insurance operations in New Zealand, where it has the leading market share, as well as Asia and the Pacific, and conducts Funds Management business in New Zealand. There have been no significant changes in the nature of the principal activities of the Group during the financial year. (a) Bases of accounting This general purpose Financial Report for the year ended 30 June 2008 has been prepared in accordance with the Australian equivalents International Financial Reporting Standards (“AIFRS”) and the requirements of the Corporations Act 2001. to The basis of the AIFRS standards are the International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”). As a result of complying with AIFRS, the Group Financial Statements comply with IFRS, and interpretations as issued by the IASB. Notes to the Financial Statements requires management The preparation of the Annual Financial Report conforming with AIFRS to make estimates and assumptions that affect the amounts reported in the Financial Statements and accompanying notes. Further information is included in Note 1 (mm) Critical Accounting Policies and Estimates. The use of available information and the application of judgement are inherent in the formation of estimates. Actual results could differ from these estimates. (b) Basis of preparation The Financial Statements are prepared on the basis of historical cost except that the following assets and liabilities are measured at fair value: derivative financial instruments, assets and liabilities at fair value through Income Statement, available-for- sale investments, insurance policy liabilities, domestic bills discounted which are included in loans, advances and other receivables, investment property which backs liabilities paying a return linked to the fair value or returns from assets including the investment property, owner-occupied property, defined benefit plan assets and liabilities, employee share-based remuneration liabilities and recognised assets and liabilities attributable to the hedged risk in a hedging relationship that qualifies for hedge accounting treatment. The Financial Report is presented in Australian dollars. The following comparative information has been restated: • During the year the Group reassessed the application of AASB 132 Financial Instruments: Presentation, to certain products with legal right of set off, for which interest is calculated and charged on a net basis. While interest continues to be calculated and charged on a net basis, the Group no longer considers that these products meet the requirements for set off in the Balance Sheet, so they are now presented on a gross basis. Prior periods have been restated by increasing: Loans, advances and other receivables and Deposits and other public borrowings as follows - 2007: increased $15,686 million, 2006: increased $14,349 million; • During the year the Group reassessed the application of AASB 139 Financial Instruments: Recognition and Measurement, to certain liabilities previously designated as Liabilities at fair value through Income Statement. These liabilities did not meet the necessary requirements for this designation. Consequently liabilities have been reclassified to Debt issues. Prior periods have been restated, by decreasing Liabilities at fair value through Income Statement and increasing Debt issues as follows - 2007: $3,035 million, 2006: $2,144 million; and these • During the year the Group reassessed the application of AASB 112: Income Taxes, to presentation of deferred income tax balances for the tax-consolidated group and determined that the conditions for set-off have been met. This has had the effect of reducing Deferred tax assets and Deferred tax liabilities as follows - 2007: $668 million, 2006: $602 million. Commonwealth Bank of Australia Annual Report 2008 87 Notes to the Financial Statements Note 1 Accounting Policies (continued) The following standards, interpretations and amendments have been early adopted during the financial year commencing 1 July 2007: • AASB Interpretation 13 Customer Loyalty Programmes, was early adopted on 1 July 2007. Upon transition this resulted in a reduction in retained earnings of $5 million and replacement of the Group’s provision for future expenses in relation to its credit card loyalty programmes with an equivalent amount of deferred income. Income in relation to the credit card loyalty program will be recognised in subsequent periods when the loyalty points are redeemed and CBA fulfils its obligation; and • AASB 8 Operating Segments and AASB 2007-3 Amendments to Australian Accounting Standards arising from AASB 8 (February 2007), was early adopted effective 1 July 2007. This has resulted in changes to the presentation of the Group’s segment reporting. The following standards, interpretations and amendments have been applied by financial year the Group during commencing 1 July 2007: the • AASB 7 Financial Instruments: Disclosures (August 2005) supersedes AASB 130 and the disclosure requirements of AASB 132. This new standard has no impact on the recognition, measurement or presentation of financial instruments, so does not impact the Group’s financial position or results. the significance of financial instruments to the Group’s financial position and result, and the nature and extent of credit, market and liquidity risks arising from financial instruments, including how they are managed; It requires disclosures about • AASB 2005-10 Amendments (September 2005) made to Australian Accounting consequential Standards amendments Instruments: to AASB 132 Financial Disclosures and Presentation, AASB 101 Presentation of Financial Statements, AASB 114 Segment Reporting, AASB 117 Leases, AASB 133 Earnings per Share, AASB 139 Financial Instruments: Recognition and Measurement, AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards, AASB 4 Insurance Insurance Contracts, AASB 1023 General Contracts and AASB 1038 Life Insurance Contracts, arising from the release of AASB 7; • AASB 2007-4 Amendments to Australian Accounting Standards Arising from ED 151 and Other Amendments (April 2007)[1, 2, 3, 4, 5, 6, 7, 102, 107, 108, 110, 112, 114, 116, 117, 118, 119, 120, 121, 127, 128, 129, 130, 131, 132, 133, 134, 136, 137, 138, 139, 141, 1023 & 1038] allows additional choices in the application of AASB 107 Cash Flow Statements and AASB 131 Interests in Joint Ventures, amends the definition of “separate financial statements” in certain standards, removes the commentary from AASB 119 Employee Benefits, that Australia does not have a sufficiently active and liquid market for high quality corporate bonds for the purpose of discounting employee benefit liabilities, and removes many of the additional Australian disclosure requirements in a number of standards, other than those considered the Australian environment; particularly relevant in 88 Commonwealth Bank of Australia Annual Report 2008 • AASB 2007-7 Amendments to Australian Accounting Standard [AASB 1, AASB 2, AASB 4, AASB 5, AASB 107 & AASB 128] which follows the issuance of AASB 2007-4 Amendments to Australian Accounting Standards arising from ED 151 and Other Amendments; interaction between • AASB Interpretation 10 Interim Financial Reporting and Impairment addresses the the requirements of AASB 134 Interim Financial Reporting and the recognition of impairment losses on goodwill in AASB 136 and certain financial assets in AASB 139, and the effect of that interaction on subsequent interim and annual financial reports; • AASB Interpretation 11 AASB 2 Group and Treasury Share Transactions addresses whether certain types of share- based payment transactions with employees (or other suppliers of good and services) should be accounted for as equity-settled or as cash-settled transactions under AASB 2 and also specifies the accounting in a subsidiary’s financial statements for share-based payment arrangements involving equity instruments of the parent; • AASB 2007-1 Amendments to Australian Accounting Standards. This follows the issuance of Interpretation 11; and • AASB 2008-4 Amendments to Australian Accounting Standard – Key Management Personnel Disclosures by Disclosing Entities removes the requirement for disclosing entities that are companies from having to make Key Management Personnel (KMP) compensation disclosures in the financial report as well as in the remuneration report. This standard amends AASB 124 to exclude the Group from the application of AASB 124 paragraphs 25.2-25.6 and 25.7.1 and 25.7.2. This has resulted in the removal of the KMP from the financial report. None of these had a material effect on the financial results or position of the Group. The following interpretations will be applied from the financial year commencing 1 July 2008: • AASB Interpretation 4 Determining whether an Arrangement contains a Lease is applicable to annual reporting periods beginning on or after 1 January 2008. The initial application of AASB Interpretation 4 is not expected to materially impact the financial results of the Bank or the Group; • AASB Interpretation 12 Service Concession Arrangements and AASB 2007-2 Amendments to Australian Accounting Standards arising from AASB Interpretation 12 are applicable to annual reporting periods beginning on or after 1 January 2008. The initial application of AASB Interpretation 12 is not expected to materially impact the financial results of the Bank or the Group; and • AASB Interpretation 14 The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction is applicable to annual reporting periods beginning on or after 1 January 2008. The initial application of AASB Interpretation 14 is not expected to materially impact the financial results of the Bank or the Group. Note 1 Accounting Policies (continued) The following standards and amendments are available for early adoption at 1 July 2008 and will be applied from the financial year commencing 1 July 2009: • AASB 2007-6 Amendments to Australian Accounting Standards Arising from AASB 123 (June 2007) and Revised AASB 123 Borrowing Costs (June 2007) which removes the option to expense borrowing costs related to “qualifying assets”. AASB 2007-6 and the revised AASB 123 are applicable for annual reporting periods beginning on or after 1 January 2009. The initial application of AASB 2007-6 is not expected to materially impact the financial results of the Bank or the Group; • Revised AASB 3 Business Combinations, AASB 127 Consolidated and Separate Financial Statements and AASB 2008-3 Amendments to Australian Accounting Standards arising from AASB 3 and AASB 127. The initial application of these revised standards is not expected to materially impact the financial results of the Bank or the Group; • Revised AASB 101 Presentation of Financial Statements and AASB 2007-8 Amendments to Australian Accounting Standards arising from AASB 101 and AASB 2007-10 Further Amendments to Australian Accounting Standards arising from AASB 101. The initial application of the revised AASB 101 and the revised AASB 2007-10 is not expected to materially impact the financial results of the Bank or the Group. This standard has no impact on the Bank or the Group’s financial position or results; • AASB 2008-1 Amendments to Australian Accounting Standards – Share based Payments: Vesting Conditions and Cancellations clarifies that vesting conditions comprise service conditions and performance conditions only and that other features of a share-based payment transaction are not vesting conditions and specifies that all cancellations, whether by the entity or by other parties, should receive the same accounting treatment. The initial application of AASB 2008-1 is not expected to materially impact the financial results of the Bank or the Group; and • AASB 2008-2 Amendments to Australian Accounting Standards – Puttable Financial Instruments and Obligations Arising on Liquidation introduces an exception to the definition of financial liability to classify as equity instruments certain puttable financial instruments and certain instruments that impose on an entity an obligation to deliver to another party a pro rata share of the net assets of the entity only on liquidation of the entity. The initial application of AASB 2008- 2 is not expected to materially impact the financial results of the Bank or the Group. Other standards and amendments are unlikely to have a material effect on the Group. (c) Consolidation The consolidated Financial Statements include the Financial Statements of the Bank and all entities where it is determined that there is a capacity to control the entity. Potential voting rights are considered when assessing control. A number of consolidated entities were formed by the Group for the purpose of asset securitisation transactions and structured debt issuance, or to accomplish certain other narrow and well- defined objectives. Such entities may acquire assets directly or indirectly from the Bank or its affiliates. Notes to the Financial Statements Additionally, some of these entities are bankruptcy-remote (i.e. their assets are not available to satisfy the claims of creditors of the Group or any other of its subsidiaries). These entities are consolidated in the Group’s Financial Statements when the majority of exposure to risks and benefits from the entity resides with the Group. All balances and transactions between Group entities, including unrealised gains and losses, have been eliminated on consolidation. The consolidated Financial Statements also include the Group’s share of the financial results of entities where the Group holds an investment in, and has significant influence over, the financial and operating policies of the entity. This is normally evidenced when the Group owns 20% or more of the voting rights. Associated companies are defined as those entities over which the Group has significant influence but there is no capacity to control. Investments in associates are carried at cost plus the Group’s share of post-acquisition profit or loss and other reserves. The Group’s share of profit or loss of associates is included in the Group’s Income Statement. (d) Revenue recognition Revenue is recognised to the extent it is probable that economic benefits will flow to the Group and the revenue can be reliably measured. The principal sources of revenue are interest income and fees and commissions. Interest income Interest income is recognised on an accrual basis using the effective interest method. Further information is included in Note 1 (g) Receivables from other financial institutions, Note 1 (i) Assets at fair value through Income Statement, Note 1 (j) Available-for-sale investments, Note 1 (l) Loans, advances and other receivables, and Note 1 (m) Leasing. Lending fees Fee income and direct costs relating to loan origination, financing or restructuring and to loan commitments are deferred and amortised to interest income over the expected life of the loan using the effective interest method. Fees received for commitments which are not expected to result in a loan are recognised in the Income Statement over the commitment period. Loan syndication fees where the Group does not retain a portion of the syndicated loan are recognised in income once the syndication has been completed. Where fees are received on an ongoing basis and represent the recoupment of the costs of maintaining and administering existing loans, these fees are recognised in Income Statement on an accrual basis. Fees and commissions fees to specific When commission charges and transactions or events, they are recognised in income in the period in which they are earned. However, when they are charged for services provided over a period, they are recognised in the income on an accrual basis. relate Other income Trading income is recognised when earned based on changes in fair value of financial instruments and is recorded from trade date. Further information is included in Notes 1 (e) Foreign currency translations, 1 (i) Assets at fair value through Income Statement, and Note 1 (ff) Derivative financial instruments. Life insurance business income recognition is explained in Note 1 (hh). Commonwealth Bank of Australia Annual Report 2008 89 Notes to the Financial Statements Note 1 Accounting Policies (continued) • Available-for-sale investments (Note 1 (j)); (e) Foreign currency translations • Derivative assets (Note 1 (ff)); The functional and presentation currency of the domestic operations of the Bank has been determined to be Australian Dollars (“AUD”) as this currency best reflects the economic substance of the underlying events and circumstances relevant to the Bank. Each entity and overseas branch within the Group has also determined their functional currency based on their own primary economic indicators. All foreign currency monetary items are revalued at spot rates of exchange prevailing at Balance Sheet date and changes in the spot rate are recorded in the Income Statement. Foreign currency forward, futures, swaps and option positions are revalued at appropriate market rates applying at Balance Sheet date. Non-monetary assets and liabilities that are measured in terms of historical cost in a foreign currency are translated using the exchange rate at the date of transaction. Non-monetary assets and liabilities denominated in foreign currencies that are measured at fair value are translated into AUD at foreign exchange rates ruling at the dates the fair value was determined. With the exception of the revaluations classified in equity, unrealised foreign currency gains and losses arising from these revaluations and gains and losses arising from foreign exchange dealings are included in the Income Statement. The foreign currency assets and liabilities of overseas branches and controlled entities with an overseas functional currency are converted to AUD at Balance Sheet date in accordance with the foreign exchange rates ruling at that date. Profit and loss items for overseas branches and controlled entities are converted to AUD progressively throughout the year at the spot exchange rate at the date of the transaction. All resulting exchange differences are recognised in the Foreign Currency Translation Reserve (“FCTR”) as a separate component of equity. Translation differences arising from translation of opening balances of shareholders’ funds of overseas branches and controlled entities at year end exchange rates are reflected in the FCTR. The Group maintains a substantially matched position in assets and liabilities in foreign currencies and the level of net foreign currency exposure does not have a material impact on its financial condition. (f) Cash and liquid assets Cash and liquid assets includes cash at branches, cash at banks, nostro balances, money at short call with an original maturity of three months or less and securities held under reverse repurchase agreements. They are measured at face value or the gross value of the outstanding balance. Interest is recognised in the Income Statement using the effective interest method. (g) Receivables from other financial institutions Receivables from other financial institutions include loans, deposits with regulatory authorities and settlement account balances due from other banks. They are measured at amortised cost similar to loans, advances and other receivables, refer Note 1 (l). Interest is recognised in the Income Statement using the effective interest method. (h) Financial instruments Financial instruments are classified into one of the following categories which determines their measurement basis: • Assets at fair value through Income Statement (Note 1 (i)); 90 Commonwealth Bank of Australia Annual Report 2008 • Loans, advances and other receivables (Note 1 (l)); • Liabilities at fair value through Income Statement (Note 1 (x)); • Liabilities at amortised cost; • Derivative liabilities (Note 1 (ff)); and • Shareholders’ equity (Note 1 (ee)). Except for restructured facilities referred to in Note 1(l) Loans, advances and other receivables, financial instruments are transacted on a commercial basis to derive an interest yield/cost with terms and conditions having due regard to the nature of the transaction and the risks involved. The Group has no held to maturity investments. Offsetting financial instruments The Group offsets financial assets and liabilities where there is a legally enforceable right to set off, and there is an intention to settle on a net basis or to realise the asset and settle the liability simultaneously. Derecognition of financial assets Financial assets are derecognised either when sold, or when the rights to receive cash flows from the financial assets have expired or have been transferred, or when the Group has transferred substantially all the risks and rewards of ownership. In transactions where substantially all the risks and rewards are neither retained nor transferred, the Group derecognises assets when control is no longer retained, or when control is retained the assets are recognised to the extent of the Group’s continuing involvement. (i) Assets at fair value through Income Statement Assets at fair value through Income Statement include assets held for trading and assets that upon initial recognition are designated by the Group as at fair value through Income Statement. This designation is made when it reduces significant accounting mismatches between assets and related liabilities, the group of their performance is evaluated on a fair value basis, or where the asset is a contract which contains an embedded derivative. financial assets are managed and These assets are recognised on trade date at fair value with transaction costs including brokerage, commissions and fees expensed through the Income Statement. Subsequent changes in fair value are recognised in other operating income. Dividends earned are recorded in other operating income. Interest earned is recorded within net interest earnings using the effective interest method. Assets at fair value through Income Statement are classified into three subcategories: Trading, Insurance and Other. Trading Trading assets are short and long term public, bank and other debt securities and equities that are acquired and held for trading purposes. Subsequent to initial recognition, fair value is measured using quoted bid prices where available. In a trading portfolio with offsetting risk positions, quoted mid prices, where available, are used to measure the fair value. Non-market quoted assets are valued using valuation techniques based on market conditions and risks existing at Balance Sheet date. Insurance Insurance assets are investments that back life insurance contracts and life investment contracts. They are measured at fair value based on quoted bid prices or using appropriate valuation techniques. Refer to Note 1 (hh), Life insurance business for further details. Note 1 Accounting Policies (continued) Other Other investments include financial assets which the Group has designated as at fair value through Income Statement at inception to eliminate an accounting mismatch. Subsequent to initial recognition fair value is measured using quoted bid prices where available. Quoted mid prices, where available, are used to measure fair value in a portfolio with offsetting risk positions. Non-market quoted instruments are valued using valuation techniques, based on market conditions and risks existing at Balance Sheet date. (j) Available-for-sale investments Available-for-sale investments are short and long term public, bank and other securities and include bonds, notes, bills of exchange, commercial papers, certificates of deposit, equities and rolling loan originations and syndications. investments whose Available-for-sale investments are initially recognised at fair value including transaction costs, and thereafter at fair value. Equity fair value cannot be reliably measured are valued at cost. Gains and losses arising from changes in fair value are reported in the Available-for-sale investments reserve within equity net of applicable income taxes until such investments are sold, collected, otherwise disposed of, or become impaired. Interest, premiums and dividends are reflected in other operating income when earned. Available-for-sale investments are tested for impairment in line with Note 1 (n) Provisions for impairment. Upon disposal or impairment, the accumulated change in fair value within is transferred to the Income Statement and reported within other operating income. the Available-for-sale investments reserve (k) Repurchase agreements Securities sold under agreements to repurchase are retained within the Available-for-sale investments or Assets at fair value through for accordingly in line with Note 1 (j) and (i) respectively. Income Statement categories and accounted Liability accounts are used to record the obligation to repurchase and disclosed as Deposits. Securities held under reverse repurchase agreements are recorded within Cash and liquid assets. (l) Loans, advances and other receivables Loans, advances and other receivables are financial assets with fixed and determinable payments that are not quoted in an active market. term finance lending, They include overdrafts, home loans, credit card and other financing, redeemable personal loans, bill preference shares, securities and leases. Loans, advances and other receivables are initially recognised at fair value including direct and incremental transaction costs. They are subsequently measured at amortised cost using the effective interest method and are presented net of provisions for impairment. Where loans, advances and other receivables are originated with the intent to be sold immediately or in the short term, they are recorded in Assets at fair value through Income Statement. Note 1 (d) and Note 1 (n) provide additional information with respect to revenue recognition and impairment respectively. Non-Performing Facilities Individual provisions for impairment are recognised to reduce the carrying amount of loans, advances and other receivables to their estimated recoverable amounts. Individually significant provisions are calculated based on discounted cash flows. Notes to the Financial Statements The unwinding of the discount from initial recognition of impairment through to recovery of the written down amount is recognised as interest income. In subsequent periods, interest in arrears/due on non-performing facilities is recognised in the Income Statement using the interest rate used for the purpose of measuring the impairment of the asset. Restructured Facilities When the original contractual terms of facilities (primarily loans) are modified, the accounts become classified as restructured. Such accounts continue to accrue interest as long as the facility is performing in accordance with the restructured terms. If performance is not maintained, or collection of interest and/or principal is no longer probable, the account will be returned to the non-performing classification. Facilities are generally kept as non-performing until they are returned to a performing basis. Assets Acquired Through Securities Enforcement Assets acquired in satisfaction of facilities in default (primarily loans) are recorded at net market value at the date of acquisition. Any difference between the carrying amount of the facility and the net market value of the assets acquired is represented as an individually assessed provision or written off. AATSE are further classified as Other Real Estate Owned or Other Assets Acquired Through Security Enforcement and classified in the appropriate asset classifications in the Balance Sheet. Impairment of loans, advances and other receivables The Group has individually assessed and collective provisions for impairment as explained in Note 1 (n). (m) Leasing Leases where the Group transfers substantially all the risks and rewards incident to ownership of an asset to the lessee or a third party are classified as finance leases. A receivable at an amount equal to the present value of the lease payments, including any guaranteed residual value, is recognised. Income on finance lease transactions is recognised on a basis reflecting a constant periodic return based on the lessor’s net investment outstanding in respect of the finance lease. The difference between the gross receivable and the present value of the receivable is unearned finance income and is recognised over the term of the lease using the effective interest method. Finance lease receivables are included in Loans, advances and other receivables. Leases where the Group retains substantially all the risks and rewards incident to ownership of an asset are classified as operating leases. Operating lease rental revenue and expense is recognised in the Income Statement on a straight-line basis over the lease term. The Group classifies assets leased out under operating leases as property, plant and equipment. These assets are depreciated over their expected useful lives on a basis consistent with similar fixed assets. (n) Provisions for impairment Financial assets Financial assets, excluding Derivative assets and Assets at fair value through Income Statement, are reviewed at each Balance Sheet date to determine whether there is objective evidence of impairment. Commonwealth Bank of Australia Annual Report 2008 91 Notes to the Financial Statements Note 1 Accounting Policies (continued) A financial asset or portfolio of financial assets is impaired and impairment losses are incurred if, and only if, there is objective evidence of impairment as a result of one or more loss events that occurred after the initial recognition of the asset and prior to the Balance Sheet date (“a loss event”) and that loss event or events has had an impact on the estimated future cash flows of the financial asset or the portfolio that can be reliably estimated. If any such indication exists, the asset’s carrying amount is written down to the asset’s estimated recoverable amount. Loans, advances and other receivables The Group assesses at each balance date whether there is any objective evidence of impairment. If there is objective evidence that an impairment loss on loans, advances and other receivables has been incurred, the amount of the loss is measured as the difference between the asset’s carrying amount and the present value of the expected future cash flows (excluding future credit losses that have not been incurred), discounted at the financial asset’s original effective interest rate. Short-term balances are not discounted. The Group has individually assessed provisions and collectively assessed provisions. Individually assessed provisions are made against individually significant financial assets and groups of financial assets with similar credit risk characteristics. Individually significant provisions are assessed as the difference between an asset’s carrying amount and the present value of estimated future cash flows discounted at the asset’s original effective interest rate. All other loans and advances that do not have an individually assessed provision are assessed collectively for impairment. Collective provisions are maintained to reduce the carrying amount of portfolios of similar loans and advances to their estimated recoverable amounts at the Balance Sheet date. The expected future cash flows for portfolios of assets with similar risk characteristics are estimated on the basis of historical loss experience. Loss experience is adjusted on the basis of current observable data to reflect the effects of current conditions that did not affect the period on which the loss experience is based and to remove the effects of conditions in the period that do not currently exist. Increases or decreases in the provision amount are recognised in the Income Statement. Available-for-sale investments When a decline in the fair value of an Available-for-sale investment has been recognised directly in equity and there is objective evidence that the asset is impaired, the cumulative loss is removed from equity and recognised in the Income Statement through a provision account. If in a subsequent period the amount of an impairment loss for an available-for-sale debt security decreases and the decrease can be linked objectively to an event occurring after the impairment event, the impairment is reversed through the Income Statement. However, impairment losses on available- for-sale equity securities are not reversed through the Income Statement while the asset is still recognised. Goodwill and other non-financial assets Goodwill balances and intangible assets with an indefinite useful life are assessed for impairment at each reporting date or more regularly where an indication of impairment exists. Refer to Note 1 (t) Intangibles for more details on goodwill and intangibles impairment testing. If any such indication exists, the asset’s carrying amount is written down to the asset’s estimated 92 Commonwealth Bank of Australia Annual Report 2008 recoverable amount and the loss is recognised in the Income Statement in the period in which it occurs. The carrying amounts of the Group’s other non-financial assets are reviewed at each Balance Sheet date to determine whether there is any indication of impairment. If any such indication exists, the asset’s recoverable amount is estimated. The recoverable amount of an asset or cash generating unit can be the greater of the fair value less cost to sell, or value in use. An impairment loss is recognised whenever the carrying amount of an asset or its cash-generating unit exceeds its recoverable amount. Impairment losses are recognised in the Income Statement. A previously recognised impairment loss (except for goodwill) is reversed if there has been a change in the estimates used to determine the recoverable amount. However, the reversal is not to an amount higher than the carrying amount that would have been determined, net of amortisation or depreciation, if no impairment loss had been recognised in prior years. Off-balance sheet items Provisions for impairment for off-balance sheet items such as a commitment are reported in other provisions. Measurement of provisions is discussed further in Note 1 (aa) Provisions. The Group recognises impairment provisions in respect of only those advances and credit transactions for which there is objective evidence of impairment at Balance Sheet date. The amounts required to bring the provisions for impairment to their assessed levels are recognised in the Income Statement. (o) Bank acceptances of customers The exposure arising from the acceptance of bills of exchange that are sold into the market is recognised as a liability. An asset of equal value is raised to reflect the offsetting claim against the drawer of the bill. Bank acceptances generate fee income that is recognised in the Income Statement when earned. (p) Shares in and loans to controlled entities Equity contributions to controlled entities are carried in the Bank’s Financial Statements at the lower of cost of acquisition or recoverable amount, and loans to controlled entities are measured at amortised cost using the effective interest method. These assets are measured at fair value when impaired and a provision is raised as per Note 1 (n) Provisions for impairment. (q) Investment property Investment properties are classified as properties held to earn rental income and/or for capital appreciation. The Group carries investment property which backs liabilities paying a return linked to the fair value or returns from assets including the investment property at fair value based on a valuation performed by professional valuers. Valuations are carried out annually. Fair value movements are recognised in the Income Statement in the period in which they arise. (r) Assets classified as held for sale Assets are classified as held for sale when their carrying amounts will be recovered principally through sale within 12 months. They are measured at the lower of carrying amount and fair value less costs to sell unless the nature of the assets requires they be measured in line with another accounting standard. Where this is the case the asset’s measurement basis is separately outlined. Assets classified as held for sale are neither amortised nor depreciated unless the nature of the asset requires it. Notes to the Financial Statements Note 1 Accounting Policies (continued) (s) Property, plant and equipment (t) Intangibles Goodwill The Group measures its property assets (land and buildings) on a fair value measurement basis using independent market valuations. Revaluation adjustments are generally reflected in the Asset Revaluation Reserve, except to the extent they reverse a revaluation decrease of the same asset previously recognised in the Income Statement. Gains or losses on disposals are the net disposal determined as proceeds, if any, and the carrying amount of the item. Realised amounts in the Asset Revaluation Reserve are transferred to the Capital Reserve. the difference between Equipment is measured at cost less accumulated depreciation and provision for impairment, if any. Depreciation is calculated principally on a category basis at rates applicable to each category’s useful life using the straight-line method and treated as an operating expense charged to the Income Statement. Computer software is capitalised at cost and classified as Property, Plant and Equipment where it is integral to the operation of associated hardware. The useful lives of major depreciable asset categories are as follows: Goodwill, representing the excess of purchase consideration plus incidental expenses over the fair value of the identifiable net assets at the time of acquisition of an entity, is capitalised and recognised in the Balance Sheet. Goodwill is reviewed annually for impairment at each reporting date, or more frequently if events or changes in circumstances indicate that it might be impaired. For the purposes of impairment testing, goodwill is allocated to cash-generating units or groups of units. A cash-generating unit is the smallest identifiable group of assets that generate independent cash flows. Goodwill is allocated by the Group to cash generating units or groups of units based on how goodwill is monitored by management. An impairment loss is recognised for a cash-generating unit if the higher of the recoverable amount or the value in use of the unit/group of units is less than the carrying amount of the unit/group of units. The recoverable amount of is calculated as the fair value less costs to sell, measured using readily available market data and assumptions. Impairment losses on goodwill are not subsequently reversed. the cash-generating units Gains and losses on the disposal of an entity are net of the carrying amount of the goodwill relating to the entity. Buildings Shell Maximum 30 years Computer software costs Integral plant and equipment: Carpets 10 years All other (air-conditioning, lifts) 20 years Non-integral plant and equipment: Fixtures and fittings 10 years Leasehold improvements Leasehold improvements Lesser of unexpired lease term or lives as above Equipment Security surveillance systems Furniture Office machinery EFTPOS machines 7 years 8 years 5 years 3 years Depreciation rates and methods underlying the calculation of depreciation of items of property, plant and equipment are kept under review to take account of any change in circumstances. Where computer software costs are not integrally related to associated hardware, the Group recognises them as an intangible asset where they are clearly identifiable, can be reliably measured and it is probable they will lead to future economic benefits that the Group controls. The Group carries capitalised software assets at cost less amortisation and any impairment losses. These assets are amortised over their estimated useful lives on a straight-line basis which is usually between three and five years. Estimates of useful lives are revised when a change in circumstances indicates a reassessment should be performed. Any impairment loss is recognised when incurred. Software maintenance costs are expensed as incurred. Other Intangibles Other intangibles comprise acquired management fee rights and customer lists where they are clearly identifiable, can be reliably measured and where it is probable they will lead to future economic benefits that the Group controls. Estimates of useful lives are revised when a change in circumstances indicates a reassessment should be performed. Management fee rights have been assessed to have indefinite lives and are carried at cost less any impairment losses. No depreciation is charged on freehold land, although, in common with all long-lived assets, it is subject to impairment testing, if deemed appropriate. Property, plant and equipment are periodically reviewed for impairment. Where the carrying amount of an asset is greater than its estimated recoverable amount, it is written down immediately through the Income Statement to its recoverable amount. Where the Group expects the carrying amount of assets held within property, plant and equipment to be recovered principally through a sale transaction in the short-term rather than through continuing use, these assets are classified as Held for sale. Customer lists are carried at cost less amortisation, which is generally over a period of ten years. (u) Other assets Other assets include all other financial assets and include interest, fees and other unrealised income receivable, and securities sold not delivered. These assets are recorded at the amortised cost. The net surpluses or deficits that arise within defined benefit superannuation plans are recognised and disclosed separately in Other assets and Bills payable and Other liabilities. Commonwealth Bank of Australia Annual Report 2008 93 Notes to the Financial Statements Note 1 Accounting Policies (continued) (v) Deposits from customers Deposits and other public borrowings includes certificates of deposits, term deposits, savings deposits, cheque and other demand deposits, debentures and other funds raised publicly by borrowing corporations. They are initially recognised at fair value including directly attributable transaction costs and subsequently measured at amortised cost. Interest and yield related fees are recognised on an effective interest basis. Where the Group has hedged deposits with derivative instruments, hedge accounting rules are applied (refer to Note 1 (ff) Derivative financial instruments). (w) Payables to other financial institutions Payables to other financial institutions include deposits, vostro balances and settlement account balances due to other banks. They are recognised at fair value including directly attributable transaction costs at inception. to other institutions are subsequently Payables recognised at amortised cost. Interest and yield related fees are recognised using the effective interest method. financial Where the Group has designated payables to other financial institutions as Liabilities at fair value through Income Statement, the changes in fair value are reported in the Income Statement (refer Note 1 (x) Liabilities at fair value through Income Statement). (x) Liabilities at fair value through Income Statement The Group designates certain liabilities at fair value through Income Statement on origination where those liabilities are managed on a fair value basis or where the liabilities eliminate an accounting mismatch. The liabilities are recognised on trade date at fair value and transaction costs are taken directly to the Income Statement. Subsequent changes in fair value are recognised in the Income Statement. For quoted liabilities, quoted offer prices are subsequently used to measure fair value. Quoted mid prices are used to measure liabilities with offsetting risk positions in a portfolio at fair value. For non-market quoted liabilities, subsequent fair values are determined using valuation techniques. A deferred tax asset is recognised only to the extent it is probable that future taxable profits will be available against which the asset can be utilised. Deferred tax assets are reduced to the extent that it is no longer probable that the related tax benefit will be realised. The Commonwealth Bank of Australia Group elected to be taxed as a single entity under the tax consolidation system with effect from 1 July 2002. The Bank has formally notified the Australian Taxation Office of its adoption of the tax consolidation regime. In addition to the Group electing to be taxed as a single entity under the tax consolidation regime, the measurement and disclosure of deferred tax assets and liabilities has been performed in accordance with the principles in AASB 112, and on a modified stand alone basis under UIG 1052. Any current tax liabilities/assets (after the elimination of intra- Group transactions) and deferred tax assets arising from unused tax losses assumed by the Bank from the subsidiaries in the tax consolidated group are recognised in conjunction with any tax funding arrangement amounts (refer below). Any difference between these amounts is recognised by the Bank as an equity contribution to or distribution from the subsidiary. The Bank recognises deferred tax assets arising from unused tax losses of the tax-consolidated group to the extent it is probable that future taxable profits of the tax-consolidated group will be available against which the asset can be utilised. Any subsequent period adjustments to deferred tax assets arising from unused tax losses assumed from subsidiaries are recognised by the Bank only. The members of the tax-consolidated group have entered into a tax funding arrangement which sets out the funding obligations of members of the tax-consolidated group in respect of tax amounts. (z) Employee benefits Annual leave The provision outstanding liability to employees at Balance Sheet date. for annual represents leave the current (y) Income taxes Long service leave Income tax on the profit and loss for the period comprises current and deferred tax. Income tax is recognised in the Income Statement, except to the extent that it relates to items recognised directly in equity, in which case it is recognised in equity. Current tax is the expected tax payable on the taxable income for the year, using tax rates enacted or substantially enacted at the Balance Sheet date, and any adjustment to tax payable in respect of previous years. Deferred tax is provided using the Balance Sheet liability method, providing for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. The amount of deferred tax provided is based on the expected manner of realisation or settlement of the carrying amount of assets and liabilities, using tax rates enacted or substantially enacted at the Balance Sheet date which are expected to apply when the deferred tax asset is realised or the deferred tax liability is settled. 94 Commonwealth Bank of Australia Annual Report 2008 The provision for long service leave is discounted to the present value, is subject to actuarial review and is maintained at a level that accords with actuarial advice. Other employee benefits The provision for other employee entitlements represents liabilities for staff housing loan benefits, a subsidy to a registered health fund with respect to retired and current employees, and employee incentives under employee share plans and bonus schemes. The Group engages in share-based remuneration in respect of services received from certain of its employees. The share based remuneration may be cash settled or equity settled. The fair value of equity settled remuneration is calculated at grant date and amortised to the Income Statement over the vesting period, with a corresponding the Equity Compensation Reserve. For these awards, market vesting conditions, such as share price performance conditions, are taken into account when estimating the fair value. Non–market vesting conditions, such as service conditions, are taken into account by adjusting the number of the equity instruments included in the measurement of the expense. increase in Note 1 Accounting Policies (continued) Cash settled remuneration is recognised as a liability and remeasured to fair value until settled, with changes in the fair value recognised as an expense. Defined benefit superannuation plans currently The Group two defined benefit sponsors superannuation plans for its employees. The assets and liabilities of these plans are legally held in separate trustee- administered funds. They are calculated separately for each plan by assessing the fair value of plan assets and deducting the amount of future benefit that employees have earned in return for their service in current and prior periods discounted to present value. The discount rate is the yield at Balance Sheet date on government securities which have terms to maturity approximating to the terms of the related liability. The defined benefit superannuation plan surpluses and/or deficits are calculated by fund actuaries. Contributions to all superannuation plans are made in accordance with the rules of the plans. As the Australian plan is in surplus, no funding is currently necessary. losses related Actuarial gains and to defined benefit superannuation plans are directly recorded in Retained Profits. The net surpluses or deficits that arise within defined benefit superannuation plans are recognised and disclosed separately in Other assets or Bills payable and other liabilities. Defined contribution superannuation plans The Group sponsors a number of defined contribution superannuation plans. Certain plans permit employees to make contributions and earn matching or other contributions from the Group. The Group recognises contributions due in respect of the accounting period in the Income Statement. Any contributions unpaid at the Balance Sheet date are included as a liability. (aa) Provisions Provision for dividends A provision for dividend payable is recognised when dividends are declared by the Directors. Provisions for restructuring Provisions for restructuring are recognised where there is a for restructure and a demonstrated detailed commitment to that plan. formal plan Notes to the Financial Statements Where the Group has designated debt instruments at fair value through Income Statement, the changes in fair value are recognised in the Income Statement. Refer to Note 1 (x) Liabilities at fair value through Income Statement. Embedded derivatives with economic characteristics and risks that are not wholly related to the economic characteristics and notes of the host instruments are separated from the debt issues. Refer Note 1 (ff) Derivative financial instruments. Hedging The Group hedges interest rate and foreign currency risk on certain debt issues. When hedge accounting is applied to fixed rate debt issues, the carrying values are adjusted for changes in fair value related to the hedged risks rather than carried at to Note 1 (ff) Derivative financial amortised cost. Refer instruments. (cc) Bills payable and other liabilities Bills payable and other liabilities includes interest, fees, other expenses payable, securities purchased not delivered and any defined benefit superannuation plan deficit. Any superannuation plan deficit is recorded in line with Note 1 (z) Employee benefits while the remaining liabilities are recorded at amortised cost using the effective interest method. Where the Group has designated bills payable and other liabilities at fair value through Income Statement, the changes in fair value are reported in the Income Statement (refer to Note 1 (x) Liabilities at fair value through Income Statement). (dd) Loan capital Loan capital is debt issued by the Group with terms and conditions, such as being undated or subordinated, which qualify for inclusion as capital under APRA Prudential Standards. Loan capital debt issues are initially recorded at fair value plus directly attributable transaction costs. After initial recognition loan capital debt issues are measured at amortised cost using the effective interest method. Interest inclusive of premiums, discounts and associated issue expenses is recognised in the Income Statement using the effective interest method over the expected life of the instrument so that they attain their redemption values by maturity date. Any profits or losses arising from redemption prior to expected maturity are recognised in the Income Statement in the period in which they are realised. Provision for self-insurance (ee) Shareholders’ equity The provision for self-insurance covers certain non-lending losses and non-transferred insurance risks. Actuarial reviews are carried out at regular intervals with provisioning effected in accordance with actuarial advice. (bb) Debt issues Debt issues are short and long term debt issues of the Group including commercial papers, notes, term loans and medium term notes. Commercial paper, floating, fixed and structured debt issues are recorded at cost or amortised cost using the effective interest method. Premiums, discounts and associated issue expenses are recognised in the Income Statement using the effective interest method, from the date of issue, to ensure that securities attain their redemption values by maturity date. Interest is recognised in the Income Statement using the effective interest method. Any profits or losses arising from redemption prior to maturity are taken to the Income Statement in the period in which they are realised. Ordinary share capital is the amount of paid up capital from the issue of ordinary shares. Treasury Shares are deducted from Ordinary share capital. Gains or losses on the reissue of Treasury Shares are recognised in shareholders’ equity within Retained Profits. The movement between the acquisition and reissue price of Treasury Shares remains within shareholders’ equity. The General Reserve is derived from revenue profits and is available for dividend payments except for undistributable profits in respect of the Group’s life insurance businesses. The Capital Reserve is derived from capital profits (refer to Note 1 (s) Property, Plant and Equipment) and is available for dividend payments. for Credit Losses was originally The General Reserve appropriated from Retained Profits to comply with APRA prudential requirements in prior periods and has been returned to Retained Profits. Commonwealth Bank of Australia Annual Report 2008 95 Notes to the Financial Statements Note 1 Accounting Policies (continued) Cash flow hedges (ff) Derivative financial instruments The Group has a significant volume of derivative financial instruments that include foreign exchange contracts, forward rate agreements, futures, options and interest rate, currency, equity and credit swaps. Derivative financial instruments are used as part of the Group’s trading activities and to hedge certain assets and liabilities. Derivatives that do not meet the hedging criteria are classified as derivatives held for trading, or as other derivatives. The Group initially recognises derivative financial instruments at the fair value of consideration given or received. They are subsequently remeasured to fair value based on quoted market prices, or broker or dealer price quotations. Non- market quoted instruments are subsequently valued using valuation techniques based on market conditions and risks existing at Balance Sheet date. A positive revaluation amount of a contract is reported as an asset and a negative revaluation amount of a contract as a liability. Changes in fair value of derivatives are recognised in the Income Statement unless designated within a cash flow hedging relationship. Swaps Interest rate swap receipts and payments are recognised within net interest income using the effective interest method as interest of the designated hedged item or class of items being hedged over the term for which the swap is effective as a hedge, whereas revaluation gains and losses are recognised within other operating income. Similarly with cross currency swaps, interest rate receipts and payments are recognised on the same basis as for interest rate swaps. In addition, the initial principal flows are revalued to fair value at the current market exchange rate with revaluation gains and losses recognised in the Income Statement against revaluation losses and gains of the underlying hedged item or class of items. Derivative financial instruments utilised for hedging relationships The Group uses derivative instruments as part of its asset and liability management activities to manage exposures to interest rate, foreign currency and credit risks, including exposures arising from forecast transactions. Hedge accounting can be applied subject to certain rules for fair value hedges, cash flow hedges and hedges of foreign operations. Cash flow and fair value hedges are the predominant hedges applied by the Group. Swaps are the major financial instruments used in the Group’s hedging arrangements. Fair value hedges For fair value hedges, the change in fair value of the hedging derivative, and the hedged risk of the hedged item, is recognised immediately in the Income Statement within other operating income. If the fair value hedge relationship is terminated for reasons other than the derecognition of the hedged item, fair value hedge accounting ceases and, in the case of an interest bearing item, the fair value adjustment of the hedged item is amortised to the Income Statement over the remaining term of the original hedge. If the hedged item is derecognised the unamortised fair value adjustment is recognised immediately in the Income Statement. 96 Commonwealth Bank of Australia Annual Report 2008 A fair valuation gain or loss associated with the effective portion of a derivative designated as a cash flow hedge is recognised initially in shareholders’ equity within the Cash flow hedge reserve. Amounts flow hedge reserve are transferred to the Income Statement when the cash flows on the hedged item are recognised in profit and loss. Gains and losses resulting from cash flow hedge ineffectiveness are recorded immediately in the Income Statement. the Cash in A fair valuation gain or loss represents the amount by which changes in the fair value of the expected cash flow of the hedging derivative differ from the fair value of the changes (or expected changes) in the cash flow of the hedged item. Where the hedged item is derecognised, the cumulative gain or loss is recognised immediately in the Income Statement. If for reasons other than the derecognition of the hedged item, cash flow hedge accounting ceases, the cumulative gains or losses are amortised to the Income Statement over the remaining term of the original hedge. Net Investment Hedges Hedges of net investments in overseas subsidiaries are accounted for in a manner similar to cash flow hedges. Any gain or loss on the hedging instrument relating to the effective portion of the hedge is recognised in the Foreign Currency Translation Reserve (“FCTR”) and the gain or loss relating to the ineffective portion is immediately recognised in the Income Statement. Gains and losses accumulated in the FCTR are transferred to the Income Statement when the overseas subsidiary is disposed of. Embedded derivatives A derivative may be embedded within a host contract. If the host contract is not already measured at fair value with changes in fair value reported in the Income Statement, and where the economic characteristics and risks of the embedded derivative are not closely related to the economic characteristics and risks of the host contract, the embedded derivative is separated from the host contract and accounted for as a stand-alone derivative instrument at fair value. (gg) Commitments to extend credit, letters of credit, guarantees, warranties and indemnities issued Contingent liabilities are possible obligations whose existence will be confirmed only by uncertain future events, or present obligations where the transfer of economic benefit is uncertain or cannot be reliably measured. Contingent liabilities are not recognised, but are disclosed, unless they are remote. Financial guarantees are given to banks, financial institutions and other bodies on behalf of customers to secure loans, overdrafts and other banking facilities, and to other parties in connection with the performance of customers under obligations related to contracts, advance payments made by other parties, tenders, retentions and the payment of import duties. Financial guarantee contracts are initially recognised at fair value. Subsequent to initial recognition, financial guarantees are measured at the higher of the initial measurement amount, less amortisation calculated to recognise fee income earned, and the best estimate of the expenditure required to settle any financial obligation at the Balance Sheet date. Any increase in the liability relating to financial guarantees is recognised in the Income Statement. Any liability remaining is recognised in the Income Statement when the guarantee is discharged, cancelled or expires. Note 1 Accounting Policies (continued) (hh) Life and general insurance business Life Insurance business The Group’s life insurance business is comprised of insurance contracts and investment contracts as defined by AASB 4. Insurance contracts are accounted for in accordance with the requirements of AASB 1038. Investment contracts are accounted instruments with a separate for as management services element in accordance with AASB 118, 139 and 1038. Details are set out below. financial All assets, liabilities, revenues, expenses and equity are recognised irrespective of whether they are designated as relating to policyholders or to shareholders. All assets backing insurance liabilities are classified as Assets at fair value through Income Statement. They are measured at fair value based on quoted bid prices or using appropriate valuation techniques. Life insurance contract liabilities are measured at the net present value of future receipts from and payments to policyholders using a risk free discount rate (or expected fund earning rate where benefits are contractually the asset performance), and are calculated in accordance with the principles of Margin on Services (“MoS”) profit reporting as set out in Prudential Standard LPS 1.04 – Valuation of Policy Liabilities (“LPS 1.04”) issued by APRA. linked to Life investment contract liabilities are measured at fair value in accordance with AASB 139 as Liabilities at fair value through Income Statement. Returns on all investments controlled by life insurance entities within the Group are recognised as revenues. Investments in the Group’s own equity instruments held within the life insurance statutory funds and other funds are treated as Treasury Shares in accordance with Note 1 (ee) Shareholders’ equity. Initial entry fee income on investment contracts issued by life insurance entities is recognised upfront where the Group provides financial advice. Other entry fees are deferred and recognised over the life of the underlying investment contract. Participating benefits vested in relation to the financial year, from unvested policyholder benefits transfers other liabilities, are recognised as expenses. than Reinsurance contracts entered into are recognised on a gross basis. Premiums and claims Premiums and claims are separated on a product basis into their revenue, expense and change in liability components unless the separation is not practicable or the components cannot be reliably measured. (i) Life insurance contracts Premiums received for providing services and bearing risks are recognised as revenue. Premiums with a regular due date are recognised as revenue on a due and receivable basis. Premiums with no due date are recognised on a cash received basis. Insurance contract claims are recognised as an expense when a liability has been established. (ii) Investment contracts Premiums received include the fee portion of the premium recognised as revenue over the period the underlying service is provided and the deposit portion recognised as an increase in investment contract liabilities. Premiums with no due date are recognised on a cash received basis. Notes to the Financial Statements Fees earned for managing the funds invested are recognised as revenue. Claims under represent withdrawals of investment deposits and are recognised as a reduction in investment contract liabilities. investment contracts Life insurance liabilities and profit Life insurance contract policy liabilities are calculated in a way that allows for the systematic release of planned profit margins as services are provided to policyowners and the revenues relating to those services are received. Selected profit carriers including premiums and anticipated policy payments are used to determine profit recognition. insurance contract and Investment assets are held in excess of those required to meet life liabilities. Investment earnings are directly influenced by market conditions and as such this component of profit varies from year to year. investment contract Participating policies insurance contract policy Life participating policies include shareholder profit margins and an allowance supportable bonuses. liabilities attributable to the value of future planned future for The value of supportable bonuses and planned shareholder profit margins account for all profit on participating policies based on best estimate assumptions. Under the “Margin on Services” profit recognition methodology, the value of supportable bonuses and the shareholder profit margin relating to a reporting year will emerge as planned profits in that year. Life insurance contract acquisition costs Acquisition costs for life insurance contracts include the fixed and variable costs of acquiring new business. These costs are effectively deferred through the determination of life insurance contract liabilities at the balance date to the extent that they are deemed recoverable from the expected future profits of an amount equivalent to the deferred cost. Deferred acquisition costs are amortised over the expected life of the life insurance contract. Life investment contract acquisition costs Acquisition costs for investment contracts include the variable costs of acquiring new business. However, the deferral of investment contract acquisition costs is limited by the application of AASB 118 to the extent that only incremental transaction costs (for example commissions and volume bonuses) are deferred. The in accordance with AASB 139 is no less than the contract surrender value. investment contract liability calculated Managed fund units on issue – held by minority unitholders The life insurance statutory funds and other funds include controlling interests in trusts and companies, and the total amounts of each underlying asset, liability, revenue and expense of the controlled entities are recognised in the Group’s consolidated Financial Statements. When a controlled unit trust is consolidated, the share of the unit holder liability attributable to the Bank is eliminated but amounts due to external unitholders remain as liabilities in the Group’s consolidated Balance Sheet. The share of the net assets of controlled companies attributable to minority unit holders is disclosed separately on the Balance Sheet. In the Income Statement, the net profit or loss of the controlled entities relating to minority interests is eliminated before arriving at the net profit or loss attributable to Equity holders of the Bank. Commonwealth Bank of Australia Annual Report 2008 97 Notes to the Financial Statements Note 1 Accounting Policies (continued) (ii) Asset securitisation General Insurance Business Premium revenue Premium revenue comprises amounts charged to policyholders, including fire service levies, but excludes taxes collected on behalf of third parties. The earned portion of premiums received and receivable is recognised as revenue. Premium revenue is earned from the date of attachment of risk and over the term of the policies written, based on assessment of the likely pattern in which risk will emerge. The portion not earned as determined by the above methods is recognised as unearned premium liability. Unearned Premium Liability The adequacy of the unearned premium liability is assessed by considering current estimates of all expected future cash flows relating to future claims covered by current insurance contracts. If the present value of the expected future cash flows relating to future claims, plus the additional risk margin to reflect the inherent uncertainty in the estimate, exceeds the unearned premium liability less related deferred acquisition costs, then the unearned premium liability is deemed deficient. Any deficiency is recognised Income Statement as an the expense, both gross and net of reinsurance. The deficiency is recognised by writing down any related deferred acquisition costs, with any excess being recorded on the Balance Sheet as an unexpired risk liability. immediately in Reinsurance Premium ceded to reinsurers is recognised as an expense from the attachment date over the period of indemnity of the reinsurance contract, the pattern of reinsurance service received. Accordingly, a portion of outwards reinsurance premium is treated at the Balance Sheet date as deferred reinsurance. in accordance with Claims expense Claims expense and a liability for outstanding claims are recognised in respect of all business. The liability covers claims reported but not yet paid, incurred but not reported claims ("IBNR") and the anticipated direct and indirect costs of settling those claims. The liability for outstanding claims is determined having regard to an independent actuarial assessment. The liability is measured as the estimate of the present value of the expected future payments against claims incurred at the Balance Sheet date, with an additional risk margin to allow for the inherent uncertainty in the estimate. These payments are estimated on the basis of the ultimate cost of settling claims, which is affected by factors arising during the period to settlement, such as inflation. The expected future payments are discounted to present value at the Balance Sheet date using market-determined, risk-adjusted discount rates. A risk margin is applied to the outstanding claims liability, sufficient to ensure the probability of adequacy of the liabilities to a 75% confidence level. Acquisition costs Acquisition costs include brokerage and other selling and underwriting costs incurred in obtaining general insurance premiums. A portion of acquisition costs relating to unearned premium revenue is recognised as an asset. Deferred acquisition costs are amortised over the financial years expected to benefit from the expenditure and are stated at the lower of cost and recoverable value. 98 Commonwealth Bank of Australia Annual Report 2008 The Group conducts an asset securitisation program through which it packages and sells assets as securities to investors. The Group is entitled to any residual income of the program after all payments due to investors and costs of the program have been met. Therefore the Group is considered to hold the majority of the residual risks and benefits within the entities through which asset securitisation is conducted and so it consolidates these entities. Liabilities associated with asset securitisation entities and related issue costs are accounted for on an amortised cost basis using the effective interest method. Interest rate swaps and liquidity facilities are provided at arm’s length to the program by the Group in accordance with APRA Prudential Guidelines. Derivatives return the risks and rewards of ownership of the securitised assets to the Bank and consequently the Bank cannot derecognise is these assets. An recognised inclusive of the derivative and any related fees. imputed liability For further details on the treatment of securitisation entities, refer to Note 1 (c) Consolidation. (jj) Fiduciary activities The Bank and designated controlled entities act as Responsible Entity, Trustee and/or Manager for a number of wholesale, superannuation and investment funds, trusts and approved deposit funds. The assets and liabilities of these trusts and funds are not included in the consolidated Financial Statements as the Group does not have direct or indirect control of the trusts and funds. Commissions and fees earned in respect of the activities are included in the Income Statement of the Group. (kk) Comparative figures Where necessary, comparative figures have been adjusted to conform with changes in presentation in these Financial Statements. (ll) Roundings The amounts contained in this Financial Report and the Financial Statements are presented in Australian Dollars and have been rounded to the nearest million dollars unless otherwise stated, under the option available to the company under ASIC Class Order 98/100 (as amended by ASIC Class Order 04/667). (mm) Critical accounting policies and estimates to be more These Notes to the Financial Statements contain a summary of the Group’s significant accounting policies. Certain of these policies are considered the determination of the Group’s financial position, since they require management to make difficult, complex or subjective judgements, some of which may relate to matters that are inherently uncertain. These decisions are reviewed by a Committee of the Board. important in for loan balances, actuarial assumptions These policies include judgements as to levels of provisions for in impairment determining life insurance policy liabilities and determining whether certain entities should be consolidated. An explanation of these policies and the related judgements and estimates involved is set out below. Notes to the Financial Statements Note 1 Accounting Policies (continued) Life insurance policyholder liabilities Provisions for impairment Provisions for impairment of financial assets are raised where there is objective evidence of impairment and at an amount adequate to cover assessed credit related losses. Credit losses arise primarily from loans but also from other credit instruments such as bank acceptances, contingent liabilities, guarantees and other financial instruments and assets acquired through security enforcement. Life insurance policyholder liabilities are accounted for under AASB 1038: Life Insurance Business. A significant area of judgement is in the determination of policyholder liabilities, which involve actuarial assumptions. The areas of judgement where key actuarial assumptions are made in the determination of policyholder liabilities are: • Business assumptions including: • Amount, timing and duration of claims/policy payments; Individually assessed provisions • Policy lapse rates; and • Acquisition and long term maintenance expense levels; • Long term economic assumptions for discount and interest rates, inflation rates and market earnings rates; and • Selection of methodology, either projection or accumulation method. The selection of the method is generally governed by the product type. The determination of assumptions relies on making judgements on variances from long-term assumptions. Where experience differs from long term assumptions: • Recent results may be a statistical aberration; or • There may be a commencement of a new paradigm requiring a change in long term assumptions. The Group’s actuaries arrive at conclusions regarding the statistical analysis using their experience and judgement. Additional information on the accounting policy is set out in Note 1 (hh) Life and General Insurance Business, and Note 37 Life Insurance Business details the key actuarial assumptions. Consolidation of special purpose entities The Group assesses whether a special purpose entity should be consolidated based on the risks and rewards of each entity and whether the majority pass to the Group. Such assessments are predominately the Group’s securitisation program and structured transactions. the context of required in Individually assessed provisions are raised where there is objective evidence of impairment and full recovery of principal is considered doubtful. Individually assessed provisions are made against individual facilities in the credit risk rated managed segment where exposure aggregates to $250,000 or more, and a loss of $10,000 or more is expected. The provisions are established based primarily on estimates of the realisable (fair) value of collateral taken and are measured as the difference between a financial asset’s carrying amount and the present value of the expected future cash flows (excluding future credit losses that have not been incurred), discounted at the financial asset’s original effective interest rate. Short term balances are not discounted. Individually assessed provisions (in bulk) are also made against statistically managed segments to cover facilities which are not well secured and past due 180 days or more, against the credit risk rated segment for exposures aggregating to less than $250,000 and 90 days or more past due, and against credit risks identified in specific segments in the credit risk rated portfolio. These provisions are derived primarily by reference to historical ratios of write-offs to balances in default. Individually assessed provisions are provided for from the collective provision. Collective provision All other loans and advances that do not have an individually assessed provision are assessed collectively for impairment. The collective provision is maintained to reduce the carrying amount of portfolios of similar loans and advances to their estimated recoverable amounts at the Balance Sheet date. The evaluation process is subject to a series of estimates and judgements. In the credit risk rated segment, the risk rating system, including the frequency of default and loss given default rates, loss history, and the size, structure and diversity of individual credits are considered. Current developments in portfolios (industry, geographic and term) are reviewed. In the retail statistically managed segment the history of defaults and losses, and the size, structure and diversity of portfolios are considered. In addition management considers overall indicators of portfolio performance, quality and economic conditions. Changes in these estimates could have a direct impact on the level of provision determined. The amount required to bring the collective provision to the level assessed is recognised in the Income Statement as set out in Note 14 Provisions for Impairment. Commonwealth Bank of Australia Annual Report 2008 99 Notes to the Financial Statements Note 2 Profit Profit before income tax has been determined as follows: Interest Income Loans Other financial institutions Cash and liquid assets Assets at fair value through Income Statement Available-for-sale investments Controlled entities Total interest income Interest Expense Deposits Other financial institutions Liabilities at fair value through Income Statement (1) Debt issues (1) Controlled entities Loan capital Total interest expense Net interest income Other Operating Income Loan service fees: From financial assets Other Commission and other fees: From financial liabilities Other Trading income Net gain/(loss) on disposal of available-for-sale investments Net (loss)/gain on other non-trading instruments Net hedging ineffectiveness Net (loss)/gain on other financial instruments: Fair value through Income Statement Reclassification of net interest on swaps Non-trading derivatives Dividends – Controlled entities Dividends – Other Net (loss)/gain on sale of property, plant and equipment Funds management and investment contract income: Fees receivable on trust and other fiduciary activities Other Insurance contracts income Other Total other operating income Total net operating income Loan Impairment Expense Loan impairment expense Loan impairment expense (Note 14) 2008 $M 25,598 474 473 1,933 756 - 29,234 12,393 989 1,129 6,024 - 792 21,327 7,907 933 43 507 1,320 546 309 (1) (58) (9) (265) 37 - 39 (15) 1,835 528 740 173 6,662 14,569 2007 $M 20,711 443 483 1,495 730 - 23,862 8,995 674 1,087 5,506 - 564 16,826 7,036 873 23 501 1,228 555 138 9 30 65 (107) (98) - 3 (15) 1,449 522 1,043 136 6,355 13,391 Group 2006 $M 17,304 333 287 1,149 685 - 19,758 7,385 475 947 3,861 - 576 13,244 6,514 783 17 497 1,138 505 36 - (15) 35 (46) (44) - 4 4 1,132 491 1,113 122 5,772 12,286 2008 $M 21,369 423 427 1,409 880 1,077 25,585 12,168 903 217 4,241 1,295 843 19,667 5,918 860 43 413 959 504 272 (36) (33) (26) 73 44 1,636 31 (14) - - - 1,060 5,786 11,704 Bank 2007 $M 16,715 506 327 1,072 597 851 20,068 8,570 653 209 3,409 1,400 675 14,916 5,152 826 7 412 932 492 (34) 7 14 135 (25) (201) 1,879 3 (15) - - - 1,090 5,522 10,674 930 930 434 434 398 398 902 902 390 390 (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). 100 Commonwealth Bank of Australia Annual Report 2008 Note 2 Profit (continued) Staff Expenses Salaries and wages Share based compensation Superannuation contributions Provisions for employee entitlements Payroll tax Fringe benefits tax Other staff expenses Total staff expenses Occupancy and Equipment Expenses Operating lease rentals Depreciation: Buildings Leasehold improvements Equipment Operating lease assets Repairs and maintenance Other Total occupancy and equipment expenses Information Technology Services Application, maintenance and development Data processing Desktop Communications Amortisation of software assets IT equipment depreciation Total information technology services Other Expenses Postage Stationery Fees and commissions: Fees payable on trust and other fiduciary activities Other Advertising, marketing and loyalty Amortisation of other intangible assets (excluding software) Non-lending losses Other Total other expenses Investment and restructuring Write-down of leasehold improvements Write-down of software assets Other provisions Total investment and restructuring Total operating expenses Defined benefit superannuation plan income/(expense) Profit before income tax Net hedging ineffectiveness comprises: Gain/(Loss) on fair value hedges: Hedging instruments Hedged items Cash flow hedge ineffectiveness Net hedging ineffectiveness Notes to the Financial Statements 2008 $M 3,097 106 14 90 162 32 160 3,661 403 27 63 84 20 81 89 767 224 195 114 174 88 31 826 119 98 538 280 348 15 78 291 1,767 18 77 282 377 7,398 14 6,255 921 (970) (9) (58) 2007 $M 2,746 89 8 61 139 34 152 3,229 367 22 59 73 22 71 74 688 304 206 119 168 62 24 883 109 104 402 289 326 8 97 292 1,627 - - - - 6,427 8 6,538 285 (271) 16 30 Group 2006 $M 2,419 39 8 66 123 34 134 2,823 338 22 56 64 9 73 59 621 364 227 137 201 43 13 985 118 98 351 285 307 6 116 284 1,565 - - - - 5,994 (35) 5,859 (2,183) 2,163 5 (15) 2008 $M 2,278 102 (28) 72 129 28 108 2,689 345 26 52 54 11 74 54 616 195 195 114 148 76 28 756 102 70 - 565 273 1 66 90 1,167 18 65 282 365 5,593 14 5,223 937 (971) 1 (33) Bank 2007 $M 2,059 89 (27) 54 114 31 73 2,393 312 21 47 43 12 64 42 541 286 175 119 165 59 24 828 94 77 3 495 259 - 91 101 1,120 - - - - 4,882 8 5,410 268 (262) 8 14 Commonwealth Bank of Australia Annual Report 2008 101 Notes to the Financial Statements Note 3 Income from Ordinary Activities Banking Interest income Fees and commissions Trading income Net gains/(losses) on disposal of available-for-sale investments Net (losses)/gains on disposal of non-trading instruments Net hedging ineffectiveness Net gains/(losses) on other financial instruments: Fair value through Income Statement Reclassification of net interest on swaps Non-trading derivatives Dividends Net (losses)/gains on sale of property, plant and equipment Other income Funds Management, Investment contract and Insurance contract revenue Funds management and investment contract income including premiums Insurance contract premiums and related income Funds management claims and policy holder liability revenue Investment income Total income 2008 $M 29,234 2,803 546 309 (1) (58) (9) (265) 37 39 (15) 173 32,793 2,369 1,373 519 - 4,261 37,054 2007 $M 23,862 2,625 555 138 9 30 65 (107) (98) 3 (15) 136 27,203 1,871 1,117 - 2,978 5,966 33,169 Group 2006 $M 19,758 2,435 505 36 - (15) 35 (46) (44) 4 4 122 22,794 1,589 1,052 - 3,129 5,770 28,564 2008 $M 25,585 2,275 504 272 (36) (33) (26) 73 44 1,667 (14) 1,060 31,371 - - - - - 31,371 Bank 2007 $M 20,068 2,177 492 (34) 7 14 135 (25) (201) 1,882 (15) 1,090 25,590 - - - - - 25,590 102 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 4 Average Balances and Related Interest The following table lists the major categories of interest earning assets and interest bearing liabilities of the Group together with the respective interest earned or paid and the average interest rate for each of the years ended 30 June 2008, 30 June 2007 and 30 June 2006. Averages used were predominantly daily averages. Interest is accounted for based on product yield, while all trading gains and losses are disclosed as Trading income within Other banking income. Where assets or liabilities are hedged, the amounts are shown net of the hedge, however individual items not separately hedged may be affected by movements in exchange rates. The overseas component comprises overseas branches of the Bank and overseas domiciled controlled entities. Non-accrual loans were included in interest earning assets under Loans, Advances and Other receivables. The official cash rate in Australia increased by 100 basis points during the year while rates in New Zealand increased by a total of 25 basis points. During the year the Group reassessed the application of AASB 132 Financial Instruments: Presentation. As a result, Mortgage Interest Saver Accounts and business overdraft set off accounts are now presented on a gross basis as savings deposits and other demand deposits, respectively, instead of being netted against loan balances. Prior period average balances have been restated for this change. Average Interest Earning Assets and Income Cash and liquid assets (1) Australia Overseas Receivables due from other financial institutions (1) Australia Overseas Assets at fair value through Income Statement – Trading (1) Average Balance $M 3,930 4,101 5,403 3,700 Interest $M 238 235 242 232 2008 Average Rate % Average Balance $M 6. 1 5. 7 4. 5 6. 3 5,648 2,608 3,089 4,581 Interest $M 322 161 170 273 2007 Average Rate % Average Balance $M 5. 7 6. 2 5. 5 6. 0 3,581 1,442 3,016 4,007 Australia Overseas 20,127 3,186 1,388 245 6. 9 7. 7 15,458 2,818 1,075 210 7. 0 7. 5 12,161 3,388 Assets at fair value through Income Statement – Other (1) Australia Overseas Available-for-sale investments (1) Australia Overseas Loans, advances and other receivables (1) (2) Australia Overseas Intragroup loans Australia Overseas Average interest earning assets and interest income including intragroup Intragroup eliminations Total average interest earning assets and interest income (3) Securitisation home loan assets 383 4,813 6,017 6,182 27 273 402 354 273,124 54,701 20,047 4,463 - 8,144 - 295 393,811 (8,144) 28,441 (295) 385,667 13,427 28,146 1,088 7. 0 5. 7 6. 7 5. 7 7. 3 8. 2 - 3. 6 7. 2 3. 6 7. 3 8. 1 430 3,013 4,932 6,944 29 181 315 415 6. 7 6. 0 6. 4 6. 0 355 2,707 5,010 6,508 234,022 48,949 16,016 3,686 6. 8 7. 5 206,704 40,537 13,527 3,012 - 8,199 - 404 340,691 (8,199) 23,257 (404) 332,492 13,344 22,853 1,009 - 4. 9 6. 8 4. 9 6. 9 7. 6 - 9,623 - 338 299,039 (9,623) 19,331 (338) 289,416 10,887 18,993 765 Interest $M 221 66 145 188 725 262 22 140 349 336 2006 Average Rate % 6. 2 4. 6 4. 8 4. 7 6. 0 7. 7 6. 2 5. 2 7. 0 5. 2 6. 5 7. 4 - 3. 5 6. 5 3. 5 6. 6 7. 0 (1) During the current year, certain balances and associated interest amounts were reclassified to ensure consistent classification of amounts across all of the Group’s businesses. Prior years have been restated on a consistent basis. (2) Comparisons between years are impacted by the re-classification of net swap interest from Net interest Income to Other banking income related to certain economic hedges which do not qualify for AIFRS hedge accounting. (3) Used for calculating net interest margin. Commonwealth Bank of Australia Annual Report 2008 103 Notes to the Financial Statements Note 4 Average Balances and Related Interest (continued) Average Non-Interest Earning Assets Bank acceptances Australia Overseas Assets at fair value through Income Statement - Insurance Australia Overseas Property, plant and equipment Australia Overseas Other assets Australia Overseas Provisions for impairment Australia Overseas Total average non-interest earning assets Total average assets Percentage of total average assets applicable to overseas operations (%) 2008 Average Balance $M 2007 Average Balance $M 2006 Average Balance $M 19,735 - 17,896 2,634 1,242 192 28,182 8,093 (1,219) (111) 76,644 475,738 18,779 - 19,352 2,680 1,075 165 19,951 5,675 (1,132) (96) 66,449 412,285 18,014 - 20,529 3,468 978 158 20,699 5,113 (1,144) (86) 67,729 368,032 18. 4 18. 8 18. 3 104 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 4 Average Balances and Related Interest (continued) Average Interest Bearing Liabilities and Loan Capital and Interest Expense Time deposits (1) Average Balance $M Interest $M 5,985 1,353 1,468 324 2,947 316 290 699 197 932 4,234 822 566 226 295 - 2008 Average Rate % Average Balance $M 6. 5 6. 3 3. 2 6. 8 4. 1 7. 0 5. 0 5. 1 6. 3 7. 8 7. 4 4. 9 6. 4 6. 0 3. 6 - 67,186 18,406 40,930 4,703 62,401 3,563 2,628 9,724 3,881 11,312 57,403 18,835 8,357 1,907 8,199 - Interest $M 4,107 1,018 1,016 313 2,314 227 153 521 292 795 3,537 1,075 410 154 404 - 2007 Average Rate % Average Balance $M 6. 1 5. 5 2. 5 6. 7 3. 7 6. 4 5. 8 5. 4 7. 5 7. 0 6. 2 5. 7 4. 9 8. 1 4. 9 - 60,725 15,732 33,765 3,632 57,229 3,602 1,982 7,649 2,038 10,887 46,315 16,982 7,936 1,244 9,623 - Interest $M 3,533 932 603 222 1,905 190 119 356 192 755 2,547 643 450 126 338 - 92,297 21,364 46,472 4,759 71,525 4,501 5,748 13,658 3,124 11,893 57,440 16,929 8,781 3,758 8,144 - 370,393 (8,144) 20,654 (295) 5. 6 3. 6 319,435 (8,199) 16,336 (404) 5. 1 4. 9 279,341 (9,623) 12,911 (338) 362,249 14,005 20,359 968 5. 6 6. 9 311,236 13,861 15,932 894 5. 1 6. 4 269,718 11,541 12,573 671 Australia Overseas Savings deposits (1) Australia Overseas Other demand deposits (1) Australia Overseas Payables due to other financial institutions (1) Australia Overseas Liabilities at fair value through Income Statement (1) Australia Overseas Debt issues (1) (2) Australia Overseas Loan capital (1) (2) Australia Overseas Intragroup borrowings Australia Overseas Average interest bearing liabilities and loan capital and interest expense including intragroup Intragroup eliminations Total average interest bearing liabilities and loan capital and interest expense Securitisation debt issues Average Non-Interest Bearing Liabilities Deposits not bearing interest Australia Overseas Liabilities on Bank acceptances Australia Overseas Insurance policy liabilities Australia Overseas Other liabilities Australia Overseas Total average non-interest bearing liabilities Total average liabilities and loan capital Shareholders’ equity Total average liabilities, loan capital and Shareholders’ equity Total average liabilities and Loan Capital applicable to overseas operations (%) 2008 Average Balance $M 6,132 1,545 19,735 - 19,185 2,296 18,538 6,647 74,078 450,332 25,406 475,738 19. 4 2007 Average Balance $M 5,896 1,473 18,779 - 20,100 2,344 8,439 7,399 64,430 389,527 22,758 412,285 20. 5 2006 Average Rate % 5. 8 5. 9 1. 8 6. 1 3. 3 5. 3 6. 0 4. 7 9. 4 6. 9 5. 5 3. 8 5. 7 10. 1 3. 5 - 4. 6 3. 5 4. 7 5. 8 2006 Average Balance $M 5,797 1,170 18,014 - 20,731 3,040 11,476 4,552 64,780 346,039 21,993 368,032 19. 8 (1) During the current year, certain balances and associated interest amounts were reclassified to ensure consistent classification of amounts across all of the Group’s businesses. Prior years have been restated on a consistent basis. (2) Comparisons between years are impacted by the re-classification of net swap interest from Net interest Income to Other banking income related to certain economic hedges which do not qualify for AIFRS hedge accounting. Commonwealth Bank of Australia Annual Report 2008 105 Loans, Advances and Other Receivables (1) Australia Overseas Total Non-lending Interest Earning Assets (1) Australia Overseas Total Interest Bearing Deposits (1) Australia Overseas (1) Total Notes to the Financial Statements Note 4 Average Balances and Related Interest (continued) Net Interest Margin Total interest earning assets (excluding securitisation) Total interest bearing liabilities (excluding securitisation) Net interest income & interest spread (excluding securitisation) Benefit of free funds Net interest margin Avg Bal $M Income $M 2008 Yield % Avg Bal $M Income $M 2007 Yield % Avg Bal $M Income $M 2006 Yield % 385,667 28,146 7. 30 332,492 22,853 6. 87 289,416 18,993 6. 56 362,249 20,359 5. 62 311,236 15,932 5. 12 269,718 12,573 4. 66 7,787 1. 68 0. 34 2. 02 6,921 1. 75 0. 33 2. 08 6,420 1. 90 0. 32 2. 22 Geographical analysis of key categories Year Ended 30 June Avg Bal $M Income $M 2008 Yield % Avg Bal $M Income $M 2007 Yield % Avg Bal $M Income $M 273,124 54,701 327,825 20,047 4,463 24,510 7. 34 8. 16 7. 48 234,022 48,949 282,971 16,016 3,686 19,702 6. 84 7. 53 6. 96 206,704 40,537 247,241 13,527 3,012 16,539 35,860 21,982 57,842 2,297 1,339 3,636 6. 41 6. 09 6. 29 29,557 19,964 49,521 210,294 30,624 240,918 10,400 1,993 12,393 4. 95 6. 51 5. 14 170,517 26,672 197,189 1,911 1,240 3,151 7,437 1,558 8,995 4,392 2,545 6,937 6. 47 6. 21 6. 36 24,123 18,052 42,175 4. 36 5. 84 4. 56 151,719 22,966 174,685 6. 08 6. 09 6. 08 58,271 36,762 95,033 1,462 992 2,454 6,041 1,344 7,385 3,308 1,880 5,188 Other Interest Bearing Liabilities (1) Australia Overseas (1) Total 75,093 46,238 121,331 5,287 2,679 7,966 7. 04 5. 79 6. 57 72,269 41,778 114,047 (1) During the current year, certain balances and associated interest amounts were reclassified to ensure consistent classification of amounts across all of the Group’s businesses. Prior years have been restated on a consistent basis. The overseas component comprises overseas branches of the Bank and overseas domiciled controlled entities. Overseas intragroup borrowings have been adjusted into the interest spread and margin calculations to more appropriately reflect the overseas cost of funds. Non–accrual loans were included in interest earning assets under loans, advances and other receivables. In calculating net interest margin, assets, liabilities, interest income and interest expense related to securitisation vehicles have been excluded. This has been done to more accurately reflect the Group’s underlying net margin. Change in Net Interest Income Due to changes in average volume of interest earning assets and interest bearing liabilities Due to changes in interest margin Change in net interest income 2008 vs 2007 Increase/(Decrease) $M 1,090 (224) 866 Year Ended 2007 vs 2006 Increase/(Decrease) $M 926 (425) 501 106 Commonwealth Bank of Australia Annual Report 2008 2006 Yield % 6. 54 7. 43 6. 69 6. 06 5. 50 5. 82 3. 98 5. 85 4. 23 5. 68 5. 11 5. 46 Notes to the Financial Statements Note 4 Average Balances and Related Interest (continued) Changes in Net Interest Income: Volume and Rate Analysis Interest Earning Assets Cash and liquid assets (1) Australia Overseas Receivables due from other financial institutions (1) Australia Overseas Assets at fair value through Income Statement – Trading (1) Australia Overseas Assets at fair value through Income Statement – Other (1) Australia Overseas Available-for-sale investments (1) Australia Overseas Loans, advances and other receivables (1) (2) Australia Overseas Intragroup loans Australia Overseas Changes in interest income including intragroup Intragroup eliminations Changes in interest income Securitisation home loan assets Interest Bearing Liabilities and Loan Capital Time deposits (1) Australia Overseas Savings deposits (1) Australia Overseas Other demand deposits (2) Australia Overseas Payables due to other financial institutions Australia Overseas Liabilities at fair value through Income Statement (1) Australia Overseas Debt issues (1) (2) Australia Overseas Loan capital (1) (2) Australia Overseas Intragroup borrowings Australia Overseas Changes in interest expense including intragroup Intragroup eliminations Changes in interest expense Changes in net interest income Securitisation debt issues June 2008 vs June 2007 June 2007 vs June 2006 Volume $M Rate $M Total $M Volume $M Rate $M Total $M (101) 89 115 (54) 323 28 (3) 105 71 (45) 2,773 451 - (2) 3,731 2 3,768 7 1,582 175 156 4 357 63 170 206 (52) 43 3 (101) 24 130 (2) - 2,724 2 2,739 1,090 10 17 (15) (43) 13 (10) 7 1 (13) 16 (16) 1,258 326 - (107) 1,453 107 1,525 72 296 160 296 7 276 26 (33) (28) (43) 94 694 (152) 132 (58) (107) - 1,594 107 1,688 (224) 64 (84) 74 72 (41) 313 35 (2) 92 87 (61) 4,031 777 - (109) 5,184 109 5,293 79 1,878 335 452 11 633 89 137 178 (95) 137 697 (253) 156 72 (109) - 4,318 109 4,427 866 74 123 63 4 31 213 (43) 5 17 (5) 24 1,829 629 - (60) 2,768 60 2,894 179 385 153 153 68 182 (2) 38 104 156 30 646 88 22 60 (60) - 1,952 60 2,030 926 142 (22) 32 21 54 137 (9) 2 24 (29) 55 660 45 - 126 1,158 (126) 966 65 189 (67) 260 23 227 39 (4) 61 (56) 10 344 344 (62) (32) 126 - 1,473 (126) 1,329 (425) 81 101 95 25 85 350 (52) 7 41 (34) 79 2,489 674 - 66 3,926 (66) 3,860 244 574 86 413 91 409 37 34 165 100 40 990 432 (40) 28 66 - 3,425 (66) 3,359 501 223 (1) During the current year, certain balances and associated interest amounts were reclassified to ensure consistent classification of amounts across all of the Group’s businesses. Prior years have been restated on a consistent basis. (2) Comparisons between years are impacted by the reclassification of net swap interest from Net interest Income to Other banking income related to certain economic hedges which do not qualify for AIFRS hedge accounting. Commonwealth Bank of Australia Annual Report 2008 107 Note 4 Average Balances and Related Interest (continued) Changes in Net Interest Income: Volume and Rate Analysis Volume and rate variance for total interest earning assets and liabilities have been calculated separately (rather than being the sum of the individual categories). Notes to the Financial Statements The preceding table shows the movement in interest income and expense due to changes in volume and changes in interest rates. Volume variances reflect the change in interest from the prior year due to movement in the average balance. Rate variance reflects the change in interest from the prior year due to changes in interest rates. Geographical analysis of key categories Australia Interest spread (1) Benefit of net free liabilities, provisions and equity (2) Net interest margin (3) Overseas Interest spread (1) Benefit of net free liabilities, provisions and equity (2) Net interest margin (3) Group Interest spread (1) Benefit of net free liabilities, provisions and equity (2) Net interest margin (3) 2008 % 1. 79 0. 27 2. 06 1. 11 0. 57 1. 68 1. 68 0. 34 2. 02 2007 % 1. 93 0. 23 2. 16 0. 92 0. 68 1. 60 1. 75 0. 33 2. 08 2006 % 2. 08 0. 22 2. 30 0. 97 0. 67 1. 64 1. 90 0. 32 2. 22 (1) Difference between the average interest rate earned and the average interest rate paid on funds. (2) A portion of the Group’s interest earning assets is funded by net interest free liabilities and Shareholders’ equity. The benefit to the Group of these interest free funds is the amount it would cost to replace them at the average cost of funds. (3) Net interest income divided by average interest earning assets for the year. 108 Commonwealth Bank of Australia Annual Report 2008 Note 5 Income Tax Expense Profit from ordinary activities before Income Tax Retail Banking Services Premium Business Services Wealth Management International Financial Services Other Prima Facie Income Tax at 30% Retail Banking Services Premium Business Services Wealth Management International Financial Services Other Tax effect of expenses that are non-deductible/income non- assessable in determining taxable profit: Current period Taxation offsets and other dividend adjustments Tax adjustment referable to policyholder income Non–assessable gains Tax losses recognised Tax losses assumed by the Bank under UIG 1052 Difference in overseas and offshore banking unit tax rates Other Prior periods Other (1) Total income tax expense Income Tax Attributable to Profit from ordinary activities Retail Banking Services Premium Business Services Wealth Management International Financial Services Other Corporate tax expense Policyholder tax expense Total income tax expense Effective Tax Rate Total – corporate Retail Banking Services – corporate Premium Business Services – corporate Wealth Management – corporate International Financial Services – corporate Recognised in the Income Statement Australia Current tax expense Deferred tax (benefit)/expense Total Australia Overseas Current tax expenses Deferred tax expense Total Overseas Total income tax expense Notes to the Financial Statements 2008 $M 2,675 1,865 986 777 (48) 6,255 803 560 296 233 (15) 1,877 (65) (81) - (89) - (51) (36) (322) (122) 1,433 801 402 310 170 (135) 1,548 (115) 1,433 2007 $M 2,522 1,905 1,090 678 343 6,538 757 571 327 204 103 1,962 (55) 186 - (24) - (43) 35 99 (20) 2,041 756 463 275 150 131 1,775 266 2,041 Group 2006 $M 2,252 1,554 798 839 416 5,859 676 466 239 252 124 1,757 (57) 232 (43) (35) - (13) 44 128 15 1,900 676 422 143 160 168 1,569 331 1,900 % % % 24. 3 29. 9 21. 6 27. 9 22. 1 28. 3 30. 0 24. 3 33. 3 22. 2 28. 4 30. 0 27. 2 26. 1 21. 1 $M $M $M 1,522 (326) 1,196 127 110 237 1,433 2,209 (390) 1,819 141 81 222 2,041 1,366 382 1,748 114 38 152 1,900 2008 $M n/a n/a n/a n/a n/a 5,223 n/a n/a n/a n/a n/a 1,567 (479) - - (87) (72) (37) 76 (599) (103) 865 n/a n/a n/a n/a n/a 865 - 865 % 16.6 n/a n/a n/a n/a $M 854 (22) 832 32 1 33 865 Bank 2007 $M n/a n/a n/a n/a n/a 5,410 n/a n/a n/a n/a n/a 1,623 (556) - - (20) (85) (36) (2) (699) 9 933 n/a n/a n/a n/a n/a 933 - 933 % 17. 2 n/a n/a n/a n/a $M 1,322 (392) 930 3 - 3 933 (1) The 2008 year prior period tax expense has arisen primarily due to the satisfactory resolution of long outstanding tax issues with the tax authorities. Commonwealth Bank of Australia Annual Report 2008 109 Notes to the Financial Statements Note 5 Income Tax Expense (continued) The significant temporary differences are as follows: Deferred tax assets arising from: Provision for employee benefits Provisions for impairment on loans, advances and other receivables Other provisions not tax deductible until expense incurred Recognised value of tax losses carried forward Financial instruments Other Total deferred tax assets Set off of tax (1) Net deferred tax assets Deferred tax liabilities arising from: Property asset revaluations Lease financing Defined benefit superannuation plan surplus Intangible assets Financial instruments Other Total deferred tax liabilities Set off of tax (1) Net deferred tax liabilities (Note 26) Deferred tax assets opening balance: Movement in temporary differences during the year: Provisions for employee benefits Provisions for impairment on loans, advances and other receivables Other provisions not tax deductible until expense incurred Recognised value of tax losses carried forward Financial instruments Other Set off of tax (1) Deferred tax assets closing balance Deferred tax liabilities opening balance: Movements in temporary differences during the year: Property asset revaluations Lease financing Defined benefit superannuation plan surplus Intangible assets Financial instruments Other Set off of tax (1) Deferred tax liabilities closing balance (Note 26) Deferred tax assets not taken to account Tax losses and other temporary differences on revenue account Tax losses on capital account Closing balance 2008 $M 2007 $M 294 523 192 6 162 171 1,348 (1,272) 76 59 287 461 24 437 270 1,538 (1,272) 266 254 6 152 56 (2) (8) (145) (237) 76 908 4 (43) (83) 14 (45) (252) (237) 266 2008 $M 35 - 35 288 371 136 8 170 316 1,289 (1,035) 254 55 330 544 10 482 522 1,943 (1,035) 908 48 27 21 (10) (1) (25) 19 175 254 734 26 18 176 - (144) (77) 175 908 2007 $M 40 130 170 Group 2006 $M 261 350 146 9 195 297 1,258 (1,210) 48 29 312 368 10 626 599 1,944 (1,210) 734 651 - (81) 34 9 42 164 (771) 48 921 - 16 153 (1) 217 199 (771) 734 Group 2006 $M 30 101 131 2008 $M 268 476 175 6 113 54 1,092 (1,038) 54 59 105 461 - 378 54 1,057 (1,038) 19 25 6 150 68 (2) (43) (64) (86) 54 91 4 (5) (83) - 88 10 (86) 19 2008 $M 28 - 28 Bank 2007 $M 262 326 107 8 156 118 977 (952) 25 55 110 544 - 290 44 1,043 (952) 91 392 17 (15) 22 (1) 94 (91) (393) 25 640 26 (34) 176 - (296) (28) (393) 91 Bank 2007 $M 30 85 115 (1) Deferred tax assets and liabilities are set off where they relate to income tax levied by the same taxation authority on either the same taxable entity or different taxable entities within the same taxable group. (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). 110 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 5 Income Tax Expense (continued) Expiration of deferred tax assets not taken to account At Balance Sheet date carry-forward losses expire as follows: From one to two years From two to four years After four years Losses and other temporary differences that do not expire under current tax law Total 2008 $M 2007 $M 2 4 22 7 35 3 9 25 133 170 Group 2006 $M 2 14 30 85 131 Bank 2007 $M - 6 25 84 115 2008 $M - 2 19 7 28 Potential deferred tax assets of the Group arose from: Tax Consolidation Tax consolidation legislation has been enacted to allow Australian resident entities to elect to consolidate and be treated as single entities for Australian tax purposes. The Commonwealth Bank of Australia elected to be taxed as a single entity with effect from 1 July 2002. • Capital losses arising under the tax consolidations systems; and • Tax losses and temporary differences in offshore centres. These deferred assets have not been recognised because it is not considered probable that future taxable profit will be available against which they can be realised. These potential tax benefits will only be obtained if: • The company derives future capital gains and assessable income of a nature and of an amount sufficient to enable the benefit from the losses to be realised; • The company continues to comply with the conditions for claiming capital losses and deductions imposed by tax legislation; and • No changes in tax legislation adversely affect the company in realising the benefit from deductions for the losses. Commonwealth Bank of Australia Annual Report 2008 111 Notes to the Financial Statements Note 6 Dividends Ordinary Shares Interim ordinary dividend (fully franked) (2008: 113 cents, 2007: 107 cents, 2006: 94 cents) Interim ordinary dividend paid – cash component only Interim ordinary dividend paid – dividend reinvestment plan Total dividends paid Other Equity Instruments Dividends paid Total dividends provided for, reserved or paid Other provision carried Dividends proposed and not recognised as a liability (fully franked) (2008: 153 cents, 2007: 149 cents, 2006: 130 cents) (1) Provision for dividends Opening balance Provisions made during the year Provisions used during the year Provisions reversed during the year Closing balance (Note 27) 2008 $M 2007 $M 1,087 400 1,487 48 1,535 5 2,029 6 3,425 (3,426) - 5 862 518 1,380 55 1,435 7 1,939 6 3,048 (3,048) - 6 Group 2006 $M 992 219 1,211 - 1,211 6 1,668 14 2,646 (2,645) (9) 6 2008 $M 1,087 400 1,487 - 1,487 5 2,029 7 3,425 (3,427) - 5 Bank 2007 $M 862 518 1,380 - 1,380 7 1,939 6 3,048 (3,047) - 7 (1) The 2006 final dividend was satisfied by cash disbursements of $1,368 million and the issue of $300 million of ordinary shares through the Dividend Reinvestment Plan “DRP”. The 2007 final dividend was satisfied by cash disbursements of $1,229 million and the issue of $709 million of ordinary shares through the DRP. The 2008 final dividend is expected to be satisfied by cash disbursements of $1,420 million and the estimated issue of $609 million of ordinary shares through the DRP. The Bank expects that future tax payments will generate sufficient franking credits for the Bank to be able to continue to fully frank future dividend payments. These calculations have been based on the taxation law as at 30 June 2008. Dividend Franking Account After fully franking the final dividend to be paid for the year ended 30 June 2008, the amount of credits available, at the 30% tax rate as at 30 June 2008 to frank dividends for subsequent financial years, is $495 million (2007: $559 million). This figure is based on the combined franking accounts of the Bank at 30 June 2008, which have been adjusted for franking credits that will arise from the payment of income tax payable on profits for the year ended 30 June 2008, franking debits that will arise from the payment of dividends proposed for the year and franking credits that the Bank may be prevented from distributing in subsequent financial periods. Dividend History Half Year Ended 31 December 2005 30 June 2006 31 December 2006 30 June 2007 31 December 2007 30 June 2008 (4) Cents Per Share 94 130 107 149 113 153 Date Paid 05/04/06 05/10/06 05/04/07 03/10/07 02/04/08 - Half-year (1) Payout Ratio Full Year (1) Payout Ratio Full Year Payout Ratio (2) Cash Basis DRP Participation (3) Rate DRP Price % 60. 6 86. 5 63. 8 86. 1 63. 4 - % - 73. 3 - 75. 2 - 74. 1 % - 70. 5 - 74. 2 - 75. 0 43. 89 45. 24 50. 02 54. 80 39. 44 - % 18. 1 18. 0 37. 6 36. 6 33. 5 - (1) Dividend Payout Ratio: dividends divided by statutory earnings. (2) Payout ratio based on net profit after tax before defined benefit superannuation plan expense, treasury shares valuation adjustment, and hedging and AIFRS volatility. Includes the profit on sale of CMG Asia for the financial year ended 30 June 2006. (3) DRP Participation Rate: the percentage of total issued share capital participating in the Dividend Reinvestment Plan. (4) Dividend expected to be paid on 1 October 2008. 112 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 7 Earnings Per Share Earnings per Ordinary Share Basic Fully diluted Reconciliation of earnings used in the calculation of earnings per share Profit after income tax Less: Other equity instrument dividends Less: Minority interests Earnings used in calculation of basic earnings per share Add: Profit impact of assumed conversions Loan capital Earnings used in calculation of fully diluted earnings per share Weighted average number of ordinary shares (net of treasury shares) used in the calculation of basic earnings per share Effect of dilutive securities – share options and convertible loan capital instruments Weighted average number of ordinary shares (net of treasury shares) used in the calculation of fully diluted earnings per share (1) (1) Figures presented in this table have been rounded. 2008 2007 Cents per share 363. 0 348. 7 344. 7 339. 7 Group 2006 308. 2 303. 1 $M $M $M 4,822 (48) (31) 4,743 222 4,965 2008 M 1,307 118 4,497 (55) (27) 4,415 150 4,565 3,959 - (31) 3,928 100 4,028 Number of Shares 2006 M 2007 M 1,281 62 1,275 54 1,424 1,344 1,329 Basic earnings per share amounts are calculated by dividing net profit for the year attributable to ordinary equity holders of the Bank by the weighted average number of ordinary shares outstanding during the year. Diluted earnings per share amounts are calculated by dividing net profit attributable to ordinary equity holders of the Bank (after deducting interest on the convertible redeemable loan capital instruments) by the weighted average number of ordinary shares outstanding during the year (adjusted for the effects of dilutive options and dilutive convertible non- cumulative redeemable loan capital instruments). Note 8 Cash and Liquid Assets Australia Notes, coins and cash at banks Money at short call Securities purchased under agreements to resell Bills received and remittances in transit Total Australia Overseas Notes, coins and cash at banks Money at short call Securities purchased under agreements to resell Total Overseas Total cash and liquid assets 2008 $M 1,512 1 3,227 101 4,841 964 1,207 724 2,895 7,736 Group 2007 $M 1,754 1 4,164 65 5,984 2,803 901 420 4,124 10,108 2008 $M 1,298 - 3,227 84 4,609 46 1,034 1,593 2,673 7,282 Bank 2007 $M 1,364 - 4,164 97 5,625 13 797 966 1,776 7,401 Commonwealth Bank of Australia Annual Report 2008 113 2008 $M 4,880 4,880 61 2,043 2,104 6,984 2008 $M 21,676 20,650 3,266 45,592 2008 $M 565 1,478 1,237 11,673 1,518 261 348 1,377 18,457 823 92 1,425 571 250 56 2 - - - 3,219 21,676 Group 2007 $M 2,809 2,809 83 2,603 2,686 5,495 Group 2007 $M 21,469 23,519 4,073 49,061 Group 2007 $M 1,117 2,777 4,709 5,484 3,604 550 - 770 19,011 383 378 789 55 365 86 - 208 188 6 2,458 21,469 2008 $M 4,880 4,880 3 1,848 1,851 6,731 2008 $M 19,168 - 274 19,442 2008 $M 565 1,478 1,237 11,673 1,518 261 348 1,377 18,457 453 92 - - 166 - - - - - 711 19,168 Bank 2007 $M 3,283 3,283 4 2,485 2,489 5,772 Bank 2007 $M 20,287 - 448 20,735 Bank 2007 $M 1,117 2,777 4,709 5,484 3,604 724 - 770 19,185 336 377 - - 365 24 - - - - 1,102 20,287 Notes to the Financial Statements Note 9 Receivables Due from Other Financial Institutions Australia Placements with and loans to other banks and financial institutions Total Australia Overseas Deposits with regulatory authorities (1) Other placements with and loans to other banks and financial institutions Total Overseas Total receivables from other financial institutions (1) Required by law for the Group to operate in certain regions. Note 10 Assets at Fair Value through Income Statement Trading Insurance Other Total assets at fair value through Income Statement Trading Australia Market Quoted: Australian Public Securities Commonwealth and States Local and semi-government Bills of exchange Certificates of deposit Medium term notes Other securities Non-Market Quoted: Medium term notes Commercial paper Total Australia Overseas Market Quoted: Government securities Eurobonds Certificates of deposit Medium term notes Floating rate notes Commercial paper Other securities Non-Market Quoted: Commercial paper Bills of exchange Other securities Total Overseas Total trading assets 114 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 10 Assets at Fair Value through Income Statement (continued) Insurance Equity Security Investments: Direct Indirect Total equity security investments Debt Security Investments: Direct Indirect Total debt security investments Property Investments: Direct Indirect Total property investments Other Assets Total life insurance investment assets Investments Backing Life Risk Contracts Investments Backing Life Investment Contracts Investments Backing Life Risk Contracts Investments Backing Life Investment Contracts 2008 $M 523 936 1,459 723 2,335 3,058 102 525 627 70 5,214 2008 $M 1,650 4,919 6,569 1,400 5,361 6,761 112 804 916 1,190 15,436 2008 $M 2,173 5,855 8,028 2,123 7,696 9,819 214 1,329 1,543 1,260 20,650 2007 $M 620 948 1,568 882 2,865 3,747 87 357 444 76 5,835 2007 $M 2,160 5,332 7,492 1,965 5,569 7,534 217 967 1,184 1,474 17,684 2007 $M 2,780 6,280 9,060 2,847 8,434 11,281 304 1,324 1,628 1,550 23,519 Direct investments refer to positions held directly in the issuer of the investment. Indirect investments refer to investments that are held through unit trusts or similar investment vehicles. All financial assets within the life statutory funds have been determined to back either life insurance or life investment contracts. Disclosure on Asset Restriction Investments held in the Australian statutory funds may only be used within the restrictions imposed under the Life Insurance Act 1995. The main restrictions are that assets in a fund may only be used to meet the liabilities and expenses of the fund, to acquire investments to further the business of the fund, or as distributions when solvency and capital adequacy requirements are met. Participating policyholders can receive a distribution when solvency requirements are met, whilst shareholders can only receive a distribution when the higher levels of capital adequacy requirements are met. These investment assets held in the statutory funds are not available for use by the Commonwealth Bank’s operating businesses. The Group also holds investments in the Colonial First State Property Trust Group and Colonial Mastertrust Wholesale funds (including Fixed Interest, Australian Shares, International Shares, Property Securities, Capital Stable, Balanced and Diversified Growth funds) through controlled life insurance entities, which have been designated as assets at fair value through Income Statement instead of being accounted for under the equity accounting method. Instead, these investments are brought to account at fair value at Balance Sheet date in compliance with the requirements of AASB 1038: Life Insurance Business. Other (1) Fair value structured transactions Receivables due from financial institutions Term loans Other lending Total other assets at fair value through Income Statement 2008 $M 1,980 318 948 20 3,266 Group 2007 $M 1,363 657 1,984 69 4,073 2008 $M 274 - - - 274 Bank 2007 $M 425 - - 23 448 (1) Designated at Fair Value through Income Statement at inception as they are managed by the Group on a fair value basis. The change in fair value of loans and receivables designated at fair value through Income Statement due to changes in credit risk for the Group is insignificant for the years ended 30 June 2007 and 30 June 2008. Commonwealth Bank of Australia Annual Report 2008 115 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities Cash flow hedges The Group uses interest rate swaps and cross currency swaps to minimise the variability in cash flows of interest-earning assets, interest-bearing liabilities or forecast transactions caused by interest rate or foreign exchange fluctuations. For the year ended 30 June 2008, there has been no material gain or loss associated with ineffective portions of cash flow hedges. Gains and losses on derivative contracts designated as cash flow hedges are initially recorded in shareholders’ equity but are reclassified to current period earnings when the hedged cash flows occur, as explained in Note 1 (ff) Derivative financial instruments. As at 30 June 2008, deferred net gains on derivative flow hedges accumulated in shareholders’ equity were $486 million (2007: $637 million). The amount recognised in shareholders’ equity at 30 June 2008 related to cash flows expected to occur within one month to approximately 30 years of the Balance Sheet date, with the main portion expected to occur within five years (refer to Note 32 Detailed Statement of Changes in Equity). instruments designated as cash As at 30 June 2008, the fair value of outstanding derivatives designated as cash flow hedges was $1,169 million (2007: $1,280 million) of assets and $711 million (2007: $415 million) of liabilities. Amounts reclassified from gains/(losses) on cash flow hedging instruments recognised in equity to current period earnings due to discontinuation of hedge accounting were immaterial. Net Investment Hedges The Group uses forward foreign exchange transactions to minimise the Group’s exposure to currency translation risk of some of its net investments in foreign operations. For the year ended 30 June 2008 there has been no material gain or loss associated with ineffective portions of net investment hedges. Gains and losses on derivative contracts relating to the effective portion of the hedge are recognised in the Foreign Currency Translation Reserve. Gains and losses accumulated in Foreign Currency Translation Reserve are reclassified in current period earnings when the overseas subsidiary is disposed of as explained in Note 1 (ff) Derivative financial instruments. Derivative contracts Each derivative is classified as held for “Trading”, held for “Hedging”, or as “Other” derivatives. Derivatives classified as “Hedging” are derivative transactions entered into in order to manage the risks arising from non-traded assets, liabilities and commitments in Australia and offshore centres. Other derivatives are those held in relation to a portfolio designated at fair value through Income Statement. Derivatives transacted for hedging purposes the accounting requirements The Group enters into derivative transactions which are designated and qualify as either fair value or cash flow hedges for recognised assets or liabilities or forecast transactions. Forward Foreign Exchange transactions are also designated as hedges of currency translation risk of net investments in foreign operations. The Group also enters into derivative transactions which provide economic hedges for risk exposures but do not for hedge accounting meet treatment. As stated financial instruments, the Group uses Credit Default Swaps (CDSs) and equity swaps as economic hedges to manage credit risk in the asset portfolio and risks associated with both the capital investment in equities and the related yield respectively, but cannot apply hedge accounting to such positions. Gains or losses on these CDSs and equity swaps have therefore been recorded in trading income. in Note 1 (ff) Derivative Derivatives designated and accounted for as hedging instruments The Group’s accounting policies for derivatives designated and accounted for as hedging instruments are explained in Note 1 (ff) Derivative financial instruments where terms used in the following sections are explained. Fair value hedges The Group’s fair value hedges principally consist of interest rate swaps, cross currency swaps and futures. Fair value hedges are used to limit the Group’s exposure to changes in the fair value of its fixed-rate interest bearing assets or liabilities that are due to interest rate or foreign exchange volatility. For the year ended 30 June 2008, the Group recognised a net loss of $49 million (2007: $14 million net gain) (reported within other operating income in the Financial Statements), which represents the ineffective portion of fair value hedges. As at 30 June 2008, the fair value of outstanding derivatives designated as fair value hedges was $1,381 million (2007: $463 million) of assets and $1,674 million (2007: $2,451 million) of liabilities. 116 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities (continued) Derivative Assets and Liabilities Held for trading Held for hedging Other derivatives Total derivative assets/(liabilities) Derivatives held for trading Exchange rate related contracts: Forward contracts Swaps Options purchased and sold Total exchange rate related contracts Interest rate related contracts: Forward contracts Swaps Futures Options purchased and sold Total interest rate related contracts Credit related contracts: Swaps Total credit related contracts Equity related contracts: Swaps Options purchased and sold Total equity related contracts Commodity related contracts: Swaps Options purchased and sold Total commodity related contracts Fair Value Asset $M 2008 Fair Value Liability $M 15,233 2,550 449 18,232 2,962 4,609 544 8,115 2 5,869 - 256 6,127 142 142 181 10 191 523 135 658 (16,791) (2,385) (365) (19,541) (4,367) (5,183) (473) (10,023) (3) (5,795) (9) (350) (6,157) (93) (93) (30) (62) (92) (295) (131) (426) Group 2007 Fair Value Asset $M Fair Value Liability $M 10,666 1,743 334 12,743 (13,230) (2,866) (584) (16,680) Face Value $M 1,115,684 121,495 58,774 1,295,953 287,107 130,962 57,220 475,289 6,956 433,693 142,487 46,036 629,172 5,928 5,928 381 - 381 2,506 2,408 4,914 2,312 3,715 51 6,078 1 3,915 71 110 4,097 18 18 - - - 422 51 473 (4,134) (4,184) (50) (8,368) (1) (4,129) (54) (173) (4,357) (17) (17) (44) - (44) (394) (50) (444) Face Value $M 1,205,981 155,095 65,381 1,426,457 228,440 129,152 35,610 393,202 22,228 482,920 238,944 55,267 799,359 6,958 6,958 586 2,839 3,425 1,436 1,601 3,037 Total derivative assets/(liabilities) held for trading 1,205,981 15,233 (16,791) 1,115,684 10,666 (13,230) Commonwealth Bank of Australia Annual Report 2008 117 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities (continued) Derivatives designated as fair value hedges Exchange rate related contracts: Forward contracts Swaps Total exchange rate related contracts Interest rate related contracts: Swaps Total interest rate related contracts Equity related contracts: Swaps Total equity related contracts Commodity related contracts: Swaps Total commodity related contracts Face Value $M 137 12,800 12,937 22,156 22,156 593 593 16 16 Fair Value Asset $M 2008 Fair Value Liability $M 1 831 832 544 544 5 5 - - - (871) (871) (749) (749) (54) (54) - - Face Value $M 1,285 12,041 13,326 26,336 26,336 292 292 1 1 Group 2007 Fair Value Asset $M Fair Value Liability $M 74 300 374 83 83 6 6 - - (14) (772) (786) (1,657) (1,657) (8) (8) - - Total fair value hedges 35,702 1,381 (1,674) 39,955 463 (2,451) Derivatives designated as cash flow hedges Exchange rate related contracts: Swaps Total exchange rate related contracts Interest rate related contracts: Swaps Total interest rate related contracts 1,261 1,261 28 28 (2) (2) 2,152 2,152 118,132 118,132 1,141 1,141 (709) (709) 79,388 79,388 369 369 911 911 Total cash flow hedges 119,393 1,169 (711) 81,540 1,280 (40) (40) (375) (375) (415) Total derivative assets/(liabilities) held for hedging 155,095 2,550 (2,385) 121,495 1,743 (2,866) 118 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities (continued) Other Derivatives Exchange rate related contracts: Forward contracts Swaps Options purchased and sold Total exchange rate related contracts Interest rate related contracts: Forward contracts Swaps Futures Options purchased and sold Total interest rate related contracts Credit related contracts: Swaps Total credit related contracts Equity related contracts: Futures Options purchased and sold Total equity related contracts Commodity related contracts: Forward contracts Total commodity related contracts Identified embedded derivatives Total other derivatives Total recognised derivative assets/(liabilities) Face Value $M 8,356 3,071 12 11,439 11,148 34,329 7,032 568 53,077 818 818 9 37 46 1 1 Fair Value Asset $M 2008 Fair Value Liability $M 129 49 - 178 1 224 1 1 227 37 37 - 7 7 - - (17) (48) - (65) (2) (260) (2) - (264) (33) (33) - (3) (3) - - Face Value $M 8,374 7,834 164 16,372 5,673 29,802 5,313 1,445 42,233 - - - 21 21 - - Group 2007 Fair Value Asset $M Fair Value Liability $M 77 98 2 177 1 155 1 - 157 - - - - - - - (212) (186) (2) (400) (1) (170) - (4) (175) - - - - - - - - 65,381 - 449 - (365) 148 58,774 - 334 (9) (584) 1,426,457 18,232 (19,541) 1,295,953 12,743 (16,680) Commonwealth Bank of Australia Annual Report 2008 119 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities (continued) Derivative Assets and Liabilities Held for trading Held for hedging Other derivatives Total derivative assets/(liabilities) Derivatives held for trading Exchange rate related contracts: Forward contracts Swaps Options purchased and sold Derivatives held with controlled entities Total exchange rate related contracts Interest rate related contracts: Forward contracts Swaps Futures Options purchased and sold Derivatives held with controlled entities Total interest rate related contracts Credit related contracts: Swaps Derivatives held with controlled entities Total credit related contracts Equity related contracts: Swaps Options purchased and sold Derivatives held with controlled entities Total equity related contracts Commodity related contracts: Swaps Options purchased and sold Total commodity related contracts Total derivative assets/(liabilities) held for trading Face Value $M 1,227,719 127,093 439 1,355,251 228,440 128,317 35,610 16,679 409,046 22,228 484,452 238,944 55,290 4,210 805,124 6,958 - 6,958 586 2,839 129 3,554 1,436 1,601 3,037 Fair Value Asset $M 2008 Fair Value Liability $M 16,906 2,376 5 19,287 2,963 4,552 543 1,605 9,663 2 5,911 - 256 83 6,252 142 - 142 160 10 22 192 523 134 657 (17,189) (2,177) (1) (19,367) (4,367) (5,053) (473) (392) (10,285) (3) (5,799) (9) (350) (131) (6,292) (93) - (93) (30) (63) - (93) (295) (131) (426) Bank 2007 Fair Value Asset $M Fair Value Liability $M 12,522 1,340 - 13,862 (14,084) (2,683) (19) (16,786) Face Value $M 1,172,891 90,878 400 1,264,169 287,107 130,632 57,220 39,223 514,182 6,956 433,676 142,487 46,036 16,620 645,775 5,928 173 6,101 381 - 1,538 1,919 2,506 2,408 4,914 2,314 3,699 51 1,736 7,800 1 3,926 71 110 46 4,154 18 - 18 - - 77 77 422 51 473 (4,134) (3,958) (50) (867) (9,009) (1) (4,167) (54) (173) (115) (4,510) (17) - (17) (44) - (60) (104) (394) (50) (444) 1,227,719 16,906 (17,189) 1,172,891 12,522 (14,084) 120 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 11 Derivative Assets and Liabilities (continued) Derivatives designated as fair value hedges Exchange rate related contracts: Forward contracts Swaps Derivatives held with controlled entities Total exchange rate related contracts Interest rate related contracts: Swaps Derivatives held with controlled entities Total interest rate related contracts Equity related contracts: Swaps Total equity related contracts Commodity related contracts: Swaps Total commodity related contracts Total fair value hedges Derivatives designated as cash flow hedges Exchange rate related contracts: Swaps Derivatives held with controlled entities Total exchange rate related contracts Interest rate related contracts: Swaps Total interest rate related contracts Total cash flow hedges Total derivative assets/(liabilities) held for hedging Other Derivatives Interest rate related contracts: Swaps Total interest rate related contracts Credit related contracts: Swaps Total credit related contracts Identified embedded derivatives Total other derivatives Total recognised derivative assets/(liabilities) Face Value $M 16 12,800 - 12,816 18,662 601 19,263 593 593 16 16 32,688 35 570 605 93,800 93,800 94,405 Fair Value Asset $M 2008 Fair Value Liability $M - 831 - 831 510 16 526 5 5 - (871) - (871) (725) - (725) (54) (54) - - 1,362 - - (1,650) 4 - 4 1,010 1,010 1,014 - (10) (10) (517) (517) (527) Face Value $M 13 11,876 165 12,054 23,651 484 24,135 292 292 1 1 36,482 983 328 1,311 53,085 53,085 54,396 Bank 2007 Fair Value Asset $M Fair Value Liability $M - 300 - 300 57 - 57 6 6 - - 363 364 - 364 613 613 977 - (742) (31) (773) (1,615) (11) (1,626) (8) (8) - - (2,407) - (21) (21) (255) (255) (276) 127,093 2,376 (2,177) 90,878 1,340 (2,683) Face Value $M 4 4 435 435 - 439 Fair Value Asset $M 2008 Fair Value Liability $M - - 5 5 - 5 (1) (1) - - - (1) Face Value $M 252 252 - - 148 400 Bank 2007 Fair Value Asset $M Fair Value Liability $M - - - - - - (10) (10) - - (9) (19) 1,355,251 19,287 (19,367) 1,264,169 13,862 (16,786) Commonwealth Bank of Australia Annual Report 2008 121 Notes to the Financial Statements Note 12 Available-for-Sale Investments Australia Market Quoted: Australian Public Securities: Local and semi-government Shares and equity investments Medium term notes Floating rate notes Mortgage backed securities Other securities Non-Market Quoted: Australian Public Securities: Local and semi-government Medium term notes Shares and equity investments Mortgage backed securities Other securities Total Australia Overseas Market Quoted: Government securities Shares and equity investments Bills of exchange Certificates of deposit Eurobonds Medium term notes Floating rate notes Other securities Non-Market Quoted: Government securities Floating rate notes Other securities Total Overseas Less: specific provisions for impairment Total available-for-sale investments 2008 $M 2,981 203 1,873 399 - 8 - 59 57 1,419 192 7,191 167 33 - 2,031 1,407 304 272 87 25 2 - 4,328 (31) 11,488 Group 2007 $M 2,376 41 524 605 1,417 191 80 - 54 - 158 5,446 174 - 78 1,763 161 365 967 436 36 66 181 4,227 (1) 9,672 2008 $M 2,905 201 1,873 - - - - 784 42 17,074 90 22,969 53 1 - 2,017 1,407 304 272 58 - - - 4,112 (14) 27,067 Bank 2007 $M 2,378 37 517 - 1,417 - - 824 38 - 91 5,302 51 - 78 1,741 147 171 931 50 - - - 3,169 (3) 8,468 Revaluation of Available-for-sale investments resulted in a gain of $262 million (2007: $28 million) recognised directly in equity. As a result of sale, derecognition or impairment of Available-for-sale investments, net gains of $312 million (2007: $138 million) were removed from equity and reported in profit and loss for the year. 122 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 12 Available-for-Sale Investments (continued) Australia Australian Public Securities: Local and semi-government Medium term notes Floating rate notes Mortgage backed securities Other securities and equity investments Impairment provisions Total Australia Overseas Government securities Certificates of deposit Eurobonds Medium term notes Floating rate notes Other securities and equity investments Impairment provisions Total Overseas Total available-for-sale investments Group At 30 June 2008 Amortised Cost $M Gross Unrealised Gains $M Gross Unrealised Losses $M 2,980 1,979 399 1,446 402 (27) 7,179 191 2,056 1,409 305 280 106 (4) 4,343 11,522 78 1 - - 89 - 168 1 - 9 1 - 15 - 26 194 (77) (48) - (27) (31) - (183) - (25) (11) (2) (6) (1) - (45) (228) Fair Value $M 2,981 1,932 399 1,419 460 (27) 7,164 192 2,031 1,407 304 274 120 (4) 4,324 11,488 Maturity Distribution and Weighted Average Yield Group Maturity Period at 30 June 2008 0 to 3 months 3 to 12 months % $M $M % Australia Australian Public Securities: Local and semi- government Medium term notes Floating rate notes Mortgage backed securities Other securities and equity investments Impairment provisions Total Australia Overseas Government securities Certificates of deposit Eurobonds Medium term notes Floating rate notes Other securities and equity investments Impairment provisions Total Overseas Total available-for-sale investments Additional Disclosure - - - - 4 - 4 61 1,316 332 16 12 - - 1,737 1,741 - - - - 4. 80 - - 5. 33 4. 18 4. 03 3. 25 9. 95 - 30 399 - 123 (21) 531 19 684 716 188 59 - - - - - (1) 1,665 2,196 - 8. 23 7. 64 - 7. 00 - - 7. 17 3. 82 6. 36 7. 23 4. 78 - - - - 1 to 5 years % $M 2,844 1,758 - - 4 - 4,606 112 31 56 100 201 87 (3) 584 7. 65 7. 89 - - - - - 3. 30 3. 30 3. 05 5. 36 4. 17 4. 83 - - 5,190 - 593 5 to 10 years 10 years or more % $M $M % Non- Maturing $M Total $M 137 144 - - 7 - 288 - - 303 - 2 - - 305 7. 37 7. 68 - - 3. 00 - - - - 4. 00 - 2. 20 - - - - - - - 1,419 - - 1,419 - - - - - - - - 1,419 - - - 7. 96 - - - - - - - - - - - - - - - - 322 (6) 316 - - - - - 33 - 33 2,981 1,932 399 1,419 460 (27) 7,164 192 2,031 1,407 304 274 120 (4) 4,324 349 11,488 Proceeds at or close to maturity of Available-for-sale investments in 2008 were $31,974 million (2007: $21,139 million). Proceeds from sale of Available-for-sale investments in 2008 were $610 million (2007: $1,480 million). Commonwealth Bank of Australia Annual Report 2008 123 Notes to the Financial Statements Note 12 Available-for-Sale Investments (continued) Australia Australian Public Securities: Local and semi-government Medium term notes Floating rate notes Mortgage backed securities Other securities and equity investments Impairment provisions Total Australia Overseas Government securities Bills of exchange Certificates of deposit Eurobonds Medium term notes Floating rate notes Other securities and equity investments Total Overseas Total available-for-sale investments Maturity Distribution and Weighted Average Yield Group At 30 June 2007 Amortised Cost $M Gross Unrealised Gains $M Gross Unrealised Losses $M 2,411 535 605 1,416 441 (1) 5,407 210 78 1,764 164 366 1,033 619 4,234 9,641 81 1 - 1 4 - 87 - - - 1 - 1 - 2 89 (36) (12) - - (1) - (49) - - (1) (4) (1) (1) (2) (9) (58) Fair Value $M 2,456 524 605 1,417 444 (1) 5,445 210 78 1,763 161 365 1,033 617 4,227 9,672 Group Maturity Period at 30 June 2007 0 to 3 months 3 to 12 months % $M $M % 150 - 5 - 95 - 250 138 - 1,536 26 194 81 6. 73 - 6. 86 - 5. 83 - - 7. 28 - 5. 77 4. 68 4. 53 4. 28 504 - 75 - 190 (1) 768 12 78 215 93 27 617 6. 48 - 7. 11 - 4. 68 - - 6. 65 4. 11 5. 37 5. 59 5. 94 6. 04 179 2,154 4. 43 - 349 1,391 6. 21 - 1 to 5 years % $M 1,603 363 388 - 36 - 2,390 60 - 12 42 144 316 89 663 6. 21 6. 27 6. 69 - 6. 00 - - 2. 40 - 5. 86 2. 64 4. 74 5. 11 4. 50 - Australia Australian Public Securities: Local and semi- government Medium term notes Floating rate notes Mortgage backed securities Other securities and equity investments Impairment provisions Total Australia Overseas Government securities Bills of exchange Certificates of deposit Eurobonds Medium term notes Floating rate notes Other securities and equity investments Total Overseas Total available-for-sale investments 5 to 10 years 10 years or more % $M $M % Non- Maturing $M Total $M 199 161 86 - 67 - 513 - - - - - 8 - 8 6. 61 5. 87 6. 65 - 6. 33 - - - - - - - 4. 53 - - - - - 51 1,417 - - 1,468 - - - - - 11 - 11 1,479 - - 6. 74 6. 51 - - - - - - - - 7. 09 - - - - - - - 56 - 56 - - - - - - - - 2,456 524 605 1,417 444 (1) 5,445 210 78 1,763 161 365 1,033 617 4,227 56 9,672 2,404 - 2,159 - 3,053 - 521 124 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 13 Loans, Advances and Other Receivables Australia Overdrafts (1) Housing loans (1) (2) Credit card outstandings Lease financing Bills discounted Term loans Other lending Other securities Total Australia Overseas Overdrafts Housing loans Credit card outstandings Lease financing Bills discounted Term loans Redeemable preference share financing Other lending Other securities Total Overseas Gross loans, advances and other receivables Less Provisions for impairment (Note 14): Collective provision Individually assessed provisions against loans and advances Unearned income: Term loans Lease financing Net loans, advances and other receivables 2008 $M 20,047 186,926 7,555 4,239 5,868 83,431 1,076 13 309,155 716 28,817 538 563 - 23,916 1,194 25 300 56,069 365,224 (1,346) (367) (1,047) (1,182) (3,942) 361,282 Group 2007 $M 16,155 163,839 7,185 4,532 3,640 68,577 1,339 11 265,278 1,605 28,931 533 531 33 20,027 1,194 183 303 53,340 318,618 2008 $M 20,085 184,326 7,555 1,680 5,868 80,664 1,076 13 301,267 - 164 - 115 - 10,587 - - - 10,866 312,133 Bank 2007 $M 16,155 160,501 7,185 1,324 3,640 65,777 989 11 255,582 34 94 - 160 33 8,742 - 147 3 9,213 264,795 (1,034) (199) (1,240) (326) (907) (176) (941) (979) (3,153) 315,465 (491) (362) (2,419) 309,714 (515) (230) (1,828) 262,967 (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). (2) The Group has entered into securitisation transactions on residential mortgage loans that do not qualify for derecognition. The Group is entitled to any residual income of the securitisation program after all payments due to investors and costs of the program have been met, to this extent the Group retains credit and liquidity risk. In addition, derivatives return the interest rate and foreign currency risk to the Group. The carrying value of assets that did not qualify for derecognition for the Group were $10,684 million (2007: $13,910 million) and for the Bank were $10,359 million (2007: $13,500 million). The carrying value of liabilities associated with non-derecognised assets for the Group were $9,762 million (2007: $14,071 million) and for the Bank were $10,359 million (2007: $13,500 million). Finance Leases Minimum lease payments receivable: Not later than one year Later than one year but not later than five years Later than five years Lease financing 2008 $M 1,354 2,328 1,120 4,802 Group 2007 $M 1,462 2,583 1,018 5,063 2008 $M 532 868 395 1,795 Bank 2007 $M 388 883 213 1,484 Commonwealth Bank of Australia Annual Report 2008 125 Notes to the Financial Statements Note 13 Loans, Advances and Other Receivables (continued) Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross loans, advances and other receivables Interest Rate Sensitivity of Lending Australia Overseas Total variable interest rates Australia Overseas Total fixed interest rates Gross loans, advances and other receivables Group Maturity Period at 30 June 2008 Maturing 1 Year or Less $M Maturing Between 1 & 5 Years $M Maturing After 5 Years $M 84 417 4,612 23,535 735 9,613 2,329 45,074 86,399 691 2,326 3,312 4,076 559 468 67 7,176 18,675 105,074 78,501 14,042 92,543 7,898 4,633 12,531 105,074 397 1,375 3,125 11,338 839 8,826 3,991 28,878 58,769 329 1,148 1,344 4,151 14 40 192 3,805 11,023 69,792 44,571 4,710 49,281 14,198 6,313 20,511 69,792 1,087 755 1,180 152,053 73 794 1,574 6,471 163,987 210 1,340 2,087 20,590 33 24 289 1,798 26,371 190,358 107,947 5,514 113,461 56,040 20,857 76,897 190,358 Total $M 1,568 2,547 8,917 186,926 1,647 19,233 7,894 80,423 309,155 1,230 4,814 6,743 28,817 606 532 548 12,779 56,069 365,224 231,019 24,266 255,285 78,136 31,803 109,939 365,224 126 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 13 Loans, Advances and Other Receivables (continued) Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross loans, advances and other receivables Interest Rate Sensitivity of Lending Australia Overseas Total variable interest rates Australia Overseas Total fixed interest rates Gross loans, advances and other receivables Group Maturity Period at 30 June 2007 Maturing 1 Year or Less $M Maturing Between 1 & 5 Years $M Maturing After 5 Years $M 289 709 4,213 21,633 693 9,078 2,467 33,598 72,680 858 1,043 2,978 3,868 395 624 68 5,626 15,460 88,140 56,770 10,022 66,792 15,910 5,438 21,348 88,140 377 808 2,016 11,928 602 8,689 4,106 22,966 51,492 1,121 1,076 2,004 3,592 76 31 165 2,043 10,108 61,600 36,480 4,906 41,386 15,012 5,202 20,214 61,600 1,111 974 1,665 130,278 293 485 1,254 5,046 141,106 1,210 2,032 1,961 21,471 147 5 274 672 27,772 168,878 98,852 4,273 103,125 42,254 23,499 65,753 168,878 Total $M 1,777 2,491 7,894 163,839 1,588 18,252 7,827 61,610 265,278 3,189 4,151 6,943 28,931 618 660 507 8,341 53,340 318,618 192,102 19,201 211,303 73,176 34,139 107,315 318,618 Commonwealth Bank of Australia Annual Report 2008 127 Notes to the Financial Statements Note 14 Provisions for Impairment Provisions for impairment losses Collective provisions Opening balance Total charge against profit and loss for impairment losses Net transfer to individually assessed provisions Impairment losses recovered Adjustments for exchange rate fluctuations and other items Impairment losses written off Closing balance Individually assessed provisions Opening balance Charge against profit and loss for: New and increased provisioning Less write-back of provisions no longer required Net transfer from collective provision Discount unwind to interest income Adjustment for exchange rate fluctuations and other items Impairment losses Closing balance Total provisions for loan impairment Other credit provisions Total provisions for impairment losses Coverage Ratios Collective provision as a % of gross loans and acceptances Collective provisions as a % of risk weighted assets – Basel I Collective provisions as a % of risk weighted assets – Basel II Individually assessed provisions for impairment as a % of gross impaired assets (1) Total provisions for impairment as % of gross impaired assets 2008 $M 2007 $M 1,034 930 (625) 77 (22) 1,394 (48) 1,346 1,046 434 (507) 103 9 1,085 (51) 1,034 Group 2006 $M 1,021 398 (440) 127 (7) 1,099 (53) 1,046 2008 $M 907 902 (574) 68 (30) 1,273 (33) 1,240 Bank 2007 $M 938 390 (477) 93 - 944 (37) 907 199 171 191 176 157 658 (33) 625 (9) 7 (455) 367 1,713 32 1,745 2008 % 0. 35 - 0. 65 40. 8 255. 5 523 (16) 507 (6) (5) (468) 199 1,233 23 1,256 2007 % 0. 31 0. 42 - 23. 8 298. 3 468 (28) 440 (13) (3) (444) 171 1,217 24 1,241 Group 2006 % 0. 36 0. 48 - 24. 5 380. 7 602 (28) 574 (9) 10 (425) 326 1,566 32 1,598 2008 % 0. 38 - n/a 40. 1 269. 5 490 (13) 477 (6) (3) (449) 176 1,083 23 1,106 Bank 2007 % 0. 32 0. 38 - 20. 8 298. 9 (1) Portfolio provisions of $88 million as at 30 June 2008 (2007: $99 million) to cover unsecured personal loans and credit card lending have been deducted from individually assessed provisions to calculate this ratio. These provisions are deducted due to the exclusion of the related assets from gross impaired assets. The related asset amounts are instead included in the 90 days or more past due disclosure. Refer note 1 (mm). 128 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 14 Provisions for Impairment (continued) Total Loan Impairment Expense Comprising: Individually assessed provisioning New and increased provisioning Less provisions no longer required Net individually assessed provisions Provided from collective provisioning Charge to profit and loss Collective provisioning Direct write-offs Recoveries of amounts previously written off Movement in collective provision Funding of individually assessed provisions Charge to profit and loss Total charge to profit and loss for loan impairment expense 2008 $M 930 658 (33) 625 (625) - 48 (77) 334 625 930 930 2007 $M 434 523 (16) 507 (507) - 51 (103) (21) 507 434 Group 2006 $M 398 468 (28) 440 (440) - 53 (127) 32 440 398 2008 $M 902 602 (28) 574 (574) - 33 (68) 363 574 902 434 398 902 Individually Assessed Provisions for Impairment by Industry Category Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Total individually assessed provisions 2008 $M 2007 $M 2006 $M - 4 27 34 1 97 12 161 336 - - 4 7 8 2 2 8 31 367 - 3 2 23 1 104 13 39 185 - - 1 4 - 1 1 7 14 199 - 4 1 17 2 96 11 35 166 - - 1 2 - 2 - - 5 171 Bank 2007 $M 390 490 (13) 477 (477) - 37 (93) (31) 477 390 390 Group 2005 $M - 16 1 3 7 63 13 41 144 - - 1 11 - 1 - - 13 157 Commonwealth Bank of Australia Annual Report 2008 129 Notes to the Financial Statements Note 14 Provisions for Impairment (continued) Loan Impairments Written Off by Industry Category Loan Impairments Written Off Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross loan impairments written off Loan Impairments Recovered Australia Overseas Total loan impairments recovered Net loan impairments written off 2008 $M 2007 $M 2006 $M Group 2005 $M - 3 5 23 1 364 49 34 479 - - 4 1 1 13 - 5 24 503 73 4 77 426 - 1 - 20 1 408 49 30 509 - - - - - 7 - 3 10 519 99 4 103 416 - 8 1 8 3 388 42 36 486 - - - - - 7 - 4 11 497 122 5 127 370 - 1 3 8 3 280 26 63 384 - - - 6 - - - 1 7 391 76 5 81 310 130 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 14 Provisions for Impairment (continued) Loan Impairments Recovered by Industry Category Loan Impairments Recovered Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Total loan impairments recovered 2008 $M 2007 $M 2006 $M Group 2005 $M - - - 1 1 61 5 5 73 - - - - - 3 - 1 4 77 - 1 1 1 1 77 10 8 99 - - - - - 4 - - 4 103 - 1 - 1 - 99 5 16 122 - - - - - 5 - - 5 127 - 1 3 1 - 59 5 7 76 - - - - - 4 - 1 5 81 Commonwealth Bank of Australia Annual Report 2008 131 Notes to the Financial Statements Note 15 Credit Risk Management Credit Risk Management is one of the key inputs into the Group’s Integrated Risk Management framework. The Group maintains a robust system of controls and processes to optimise the Group’s credit risk-taking activities. Credit risk is the potential of loss arising from failure for a debtor or counterparty to meet their contractual obligations. It arises primarily from lending activities, the provision of guarantees including letters of credit and commitments to lend, investments in bonds and notes, financial markets transactions and other associated activities. In the insurance business, credit risk arises from investment in bonds and notes, loans, and from reliance on reinsurance. The Group applies the following elements for effective credit risk practice in its day-to-day business activities: • Credit Risk Management Principles and Portfolio Standards; and • Credit Risk Measurement. These portfolios are managed on a delinquency band approach (e.g. actions taken when loan payments are greater than 30 days past due differ from actions when payments are greater than 60 days past due) and are reviewed by the relevant Business Credit Support and Monitoring Unit. Commercial lending up to $1 million is reviewed as part of the Client Quality Assurance process and overview is provided by the independent Portfolio Quality Assurance unit. Facilities in the Retail segment become classified for remedial management by centralised units based on delinquency band. (ii) Credit Risk Rated This segment comprises commercial exposures, including bank and government exposures. Each exposure with commercial content exceeding $50,000 is assigned an internal Credit Risk Rating (CRR). The CRR is normally assessed by reference to a matrix where the risk of default and the risk of loss in the event of default combine to determine a CRR grade. The CRR is designed to: • Aid in assessing changes to the client quality of the Group's Credit Risk Management Principles and Portfolio Standards credit portfolio; The Risk Committee of the Board operates under a Charter by which it oversees the Group’s credit risk management policies and portfolio standards. These are designed to achieve portfolio outcomes that are consistent with the Group’s risk/return expectations. The Committee usually meets every two months, and more often if required. The Group has clearly defined credit policies for the approval and management of credit risk. Formal credit standards apply to all credit risks, with Specific Portfolio Standards applying to all major lending areas. These incorporate income/repayment capacity, acceptable terms and security and loan documentation tests. The Group uses a Risk Committee approved diversified portfolio approach for the management of credit risk comprised of the following: • A large credit policy for aggregate exposures to individual, commercial and industrial client groups; • A system of industry limits and targets for exposures by industry; and • A system of country limits for geographic exposures. The Group assesses the integrity and ability of debtors or counterparties to meet their contracted financial obligations for repayment. Collateral security, in the form of real estate or a floating charge over assets, is generally taken for business credit except for major government, bank and corporate counterparties of externally risk rated and strong financial standing. Longer term consumer finance (e.g. housing loans) is generally secured against real estate while short term revolving consumer credit is generally not secured by formal collateral. While the Group applies policies, standards and procedures in governing the credit process, the management of credit risk also relies on the application of judgement and the exercise of good faith and due care of relevant staff within their delegated authority. A centralised exposure management system is used to record all significant credit risks borne by the Group. The credit risk portfolio has two major segments: (i) Retail This segment has sub-segments covering housing loan, credit card, personal loan facilities, some leasing products and most secured commercial lending up to $1 million. 132 Commonwealth Bank of Australia Annual Report 2008 • Influence decisions on approval, management and pricing of individual credit facilities; and • Provide the basis for reporting details of the Group's credit portfolio to the Australian Prudential Regulatory Authority (APRA). CRR exposures are generally reviewed on an individual basis, at least annually, although small transactions may be managed on a behavioural basis after their initial rating at origination. CRR fall within the following categories: 1. ‘Pass’ – Internal CRR of 1-6, or if not individually credit risk rated, less than 30 days past due. These credit facilities qualify for approval of new or increased exposure on normal commercial terms; and 2. ‘Troublesome or Impaired Assets (TIAs)’ – Internal CRR of 7- 9 or, if not individually credit risk rated, 30 days or more past due. These credit facilities are not eligible for new or increases in exposure unless it will protect or improve the Group’s position by maximising recovery prospects or to facilitate rehabilitation. For the purpose of determining an impaired CRR, default is defined as any one of the following: • A contractual payment is overdue by 90 days or more; • An approved overdraft limit has been exceeded for 90 days or more; • A credit officer becomes aware that the client will not be able to meet future repayments or service alternative acceptable repayment arrangements e.g. the client has been declared bankrupt; • A credit officer has determined that full recovery of both principal and interest is unlikely. This may be the case even if all the terms of the client's credit facilities are currently being met; and • A credit obligation is sold at a material credit related economic loss. The Portfolio Quality Assurance unit reviews credit portfolios and receives reports covering business unit compliance with policies, portfolio standards, application of credit risk ratings and other key practices and policies on a regular basis. The Portfolio Quality Assurance unit reports its findings to the Board Audit and Risk Committees as appropriate. Notes to the Financial Statements Auto Decisioning for the approval of credit risk exposures is used for eligible business and consumer applications. Auto Decisioning uses a scorecard approach whereby the performance of historical applications is supplemented by information from a credit reference bureau and/or from the Group’s existing knowledge of a customer’s behaviour. For credit risk exposures greater than $2 million or decisioned outside of the scorecard approach, a PD calculator or Expert Judgement is used. Expert Judgement is used where the complexity of the transaction and/or the debtor is such that it is inappropriate to rely completely on a statistical model. Ratings by Moody’s or Standard and Poor’s may be used as inputs into the Expert Judgement assessment. tools are available Where to support a more objective determination of PD, the CRR may be calculated using a formula approved by the Group Chief Risk Officer incorporating numeric representations of PD and LGD. These numeric representations must be identified with the appropriate, internally defined, alphabetic PD and LGD ratings. (ii) Unexpected Loss In addition to expected loss, a more stressed loss amount is calculated. This unexpected loss estimate directly affects the calculation of internal economic capital requirements (refer note 35, Capital Adequacy, for information relating to Regulatory and Economic Capital). regulatory and In addition to the credit risk management processes used to manage exposures to credit risk in the credit portfolio, the internal ratings process also assists management in assessing impairment and provisioning of financial assets (refer Note 16). Note 15 Credit Risk Management (continued) Credit Risk Measurement The measurement of credit risk uses analytical tools to calculate both (i) expected and (ii) unexpected loss probabilities for the credit portfolio. (i) Expected Loss The Expected Loss (EL) is the product of: • Probability of Default (PD); • Exposure at Default (EAD); and, • Loss Given Default (LGD) that would likely be experienced in the event of a write-off. For Credit Risk Rated facilities, ELs are allocated within CRR bands. All ratings are reviewed at least annually or as specified by the Group Chief Risk Officer. The PD, expressed as a percentage, is the estimate of the probability that a client will default within the next twelve months. It reflects a client's ability to generate sufficient cash flows into the future to meet the terms of all its credit obligations with the Group. When assessing a client's PD, all relevant and material information is considered. The same PD is applied to all credit facilities provided to a client. EAD, expressed as a percentage of the facility limit, is the proportion of a facility that may be outstanding in the event of default. For committed facilities such as fully drawn loans and advances this will generally be the higher of the limit or outstanding balance. For uncommitted facilities this will generally be the outstanding balance only. LGD, expressed as a percentage, is the estimated proportion of a facility likely to be lost in the event of default. LGD is impacted by: • Type and level of any collateral held; • Liquidity and volatility of collateral; and • Carrying costs (effectively the costs of providing a facility that is not generating an interest return) and management expenses (realisation costs). Various risks are considered when calculating PD, EAD and LGD. Considerations include the potential for default by a borrower due to economic, management, industry and other risks and the mitigating benefits of any collateral. Where it is considered appropriate, the Group has policies and procedures in place setting out the circumstances where acceptable and appropriate collateral is to be taken to mitigate credit risk, including valuation parameters, review frequency and independence of valuation. In some instances, such as certain types of consumer loans (e.g. credit cards), a client’s facilities may not be secured by formal collateral. Main collateral types include: • Residential mortgages; • Charges over other properties (including Commercial and Broad-acre); • Cash (usually in the form of a charge over a Term Deposit); • Guarantees by company directors supporting commercial lending; • A floating charge over a company’s assets, including stock and work in progress; and • A charge over stock or scrip. Commonwealth Bank of Australia Annual Report 2008 133 Notes to the Financial Statements Note 15 Credit Risk Management (continued) Maximum Exposure to Credit Risk by Industry and Asset Class before Collateral Held or Other Credit Enhancements Sover- eign $M Agricul- ture $M Bank & Other Financial $M Real Estate Mortgage $M Real Estate Constr- uction $M Asset Financing $M Other Comm & Indust. $M Personal $M Group At 30 June 2008 Other $M Total $M - - 2,043 4,096 - 204 2,981 1,568 8 20 - - - - - 15 4,841 4,880 12,910 3,527 295 13,560 - 1,419 - - - 313 - - - - - - 24 - 5 - - - - - - - - - - - - - - - - - 3,504 10,716 - 2,555 2,764 - - - - - - - 4,841 4,880 18,457 18,676 295 16,339 7,164 2,547 2,764 32 8,917 485 1,018 186,926 - 2,338 1,647 533 21 19,233 - 240 7,894 - 99 80,423 14,488 1,405 - - 10,647 309,155 18,278 15,820 10,920 5,358 51,852 189,577 2,230 19,473 7,993 115,855 10,647 413,905 - - 823 394 1,069 54 - - - - 33 19 2,895 2,104 1,425 1,070 1,204 1,213 225 - 2,031 - - - - - - - 1,230 - 23 4,814 - 89 6,743 - 125 28,817 - 535 3,818 4,955 18,810 29,352 - - - - 40 - - 606 - 11 657 - - - - 29 - - 532 - 10 571 2,706 85,253 10,698 512,562 - - - - - - - 2,895 2,104 3,219 1,974 2,971 1,893 4,324 - - - - - - - - - 971 510 596 607 2,068 548 - 10 12,779 - 433 - - 924 56,069 - 2,160 558 17,964 924 77,609 96 12,051 275 90,031 602,593 Australia Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Australia Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Australia Overseas Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Overseas Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Overseas Total gross credit risk (1) In most cases the credit risk of insurance assets is borne by policyholders. However, on certain insurance contracts the Group retains exposure to credit risk. (2) Other assets predominantly comprises assets which do not give rise to credit exposure, including intangible assets, property, plant and equipment, and defined benefit superannuation plan surplus, which are shown in “Other” for the purpose of reconciling to the Balance Sheet. 134 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 15 Credit Risk Management (continued) Maximum Exposure to Credit Risk by Industry and Asset Class before Collateral Held or Other Credit Enhancements Sover- eign $M Agricul- ture $M Bank & Other Financial $M Real Estate Mortgage $M Real Estate Constru- ction $M Asset Financing $M Other Comm & Indust. $M Personal $M Group At 30 June 2007 Other $M Total $M - - 3,894 4,300 - 170 2,456 1,777 11 28 - - - - - - - 2,491 2,155 39 5,984 2,809 10,193 3,888 423 8,494 1,417 7,894 441 960 - - - 374 - - - - - - 33 - 14 - - - - - - - - - - - - - - - - - 4,924 12,225 - 296 1,572 - - - - - - - 5,984 2,809 19,011 20,820 423 8,974 5,445 163,839 - 2,575 1,588 571 25 18,252 - 287 7,827 - 123 61,610 15,543 968 - - 10,745 265,278 18,721 15,750 12,636 4,685 42,503 166,788 2,231 18,539 7,950 97,138 10,745 363,215 2,281 72,167 12,842 450,505 - - 383 487 244 50 210 - - - - 365 - 4,124 2,686 977 1,641 2,369 1,541 - 1,841 - - - - - - - 3,189 - 63 4,151 - 82 6,943 - 137 28,931 - 571 4,626 4,598 22,259 29,502 - - - - 67 - - 618 - 12 697 - - - - - - - 660 - 13 673 - - - - - - - 507 - 10 - - 1,098 571 605 2,178 2,176 8,341 - 1,236 - - - - - - - 4,124 2,686 2,458 2,699 3,650 3,769 4,227 - - 1,018 53,340 - 3,142 517 16,205 1,018 80,095 570 13,264 598 94,527 545,032 Australia Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Australia Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Australia Overseas Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Overseas Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Overseas Total gross credit risk (1) In most cases the credit risk of insurance assets is borne by policyholders. However, on certain insurance contracts the Group retains exposure to credit risk. (2) Other assets predominantly comprises assets which do not give rise to credit exposure, including intangible assets, property, plant and equipment, and defined benefit superannuation plan surplus, which are shown in “Other” for the purpose of reconciling to the Balance Sheet. Commonwealth Bank of Australia Annual Report 2008 135 Notes to the Financial Statements Note 15 Credit Risk Management (continued) Maximum Exposure to Credit Risk by Industry and Asset Class before Collateral Held or Other Credit Enhancements Sover- eign $M Agricul- ture $M Bank & Other Financial $M Real Estate Mortgage $M Real Estate Constru- ction $M Asset Financing $M Other Comm & Indust. $M Personal $M Bank At 30 June 2008 Other $M Total $M - - 2,043 - - 204 2,905 1,568 8 16 - - - - - 15 4,609 4,880 12,910 - 274 13,560 - 1,419 - - - - - - - - - - - - 5 - - - - - - - - - - - - - - - - - 3,504 - - 1,996 18,635 - - - - - - - 4,609 4,880 18,457 - 274 15,780 22,959 2,546 2,764 26 8,917 485 29,173 184,326 - 1,907 1,646 533 17 19,183 - 198 2,897 - 30 80,184 14,488 1,231 - - 6,159 301,267 18,278 38,757 6,744 5,351 76,227 186,233 2,201 19,381 2,927 120,038 6,159 425,261 - - 453 - - 49 54 40 - 1 - - - - - - - 50 - 1 2,673 1,851 - - - 679 2,017 5,401 - 9,297 597 51 21,918 - - - - - - - - - - - - - - 164 - 4 168 245 - 7 252 - - - - - - - 42 - 1 43 - - - - - - - - - - - 3,707 85,253 10,698 524,919 - - - - - - - 2,673 1,851 711 - - 3,507 4,108 - - 23 10,866 - 9,469 - - 258 - - 2,779 2,037 4,924 - 135 10,133 23 33,185 - 5,617 108 38,910 563,829 Australia Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Australia Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Australia Overseas Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Overseas Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Overseas Total gross credit risk (1) In most cases the credit risk of insurance assets is borne by policyholders. However, on certain insurance contracts the Group retains exposure to credit risk. (2) Other assets predominantly comprises assets which do not give rise to credit exposure, including intangible assets, property, plant and equipment, and defined benefit superannuation plan surplus, which are shown in “Other” for the purpose of reconciling to the Balance Sheet. 136 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 15 Credit Risk Management (continued) Maximum Exposure to Credit Risk by Industry and Asset Class before Collateral Held or Other Credit Enhancements Sover- eign $M Agricul- ture $M Bank & Other Financial $M Real Estate Mortgage $M Real Estate Constru- ction $M Asset Financing $M Other Comm & Indust. $M Personal $M Bank At 30 June 2007 Other $M Total $M - - 3,894 - - 170 2,379 1,769 11 26 - - - - - - - 5,625 3,283 10,193 - 424 8,494 1,417 - - - - - - - - - - - - 14 - - - - - - - - - - - - - - - - - 5,098 - - 2,174 1,503 - - - - - - - 5,625 3,283 19,185 - 424 10,852 5,299 2,487 2,155 36 7,894 441 28,805 160,501 - 2,329 1,587 571 23 18,237 - 265 4,810 - 70 58,297 15,543 846 - - 6,078 255,582 18,721 38,478 8,249 4,678 66,576 162,830 2,195 18,502 4,880 83,461 6,078 357,449 - - 336 - - 32 51 48 - 5 472 - - - - - - - - - - - 1,776 2,489 - - - 959 1,820 4,199 - 10,070 - - - - - - - 94 - 9 21,313 103 - - - - - - - - - - - - - - 211 - 21 232 106 - 10 116 - - - - - - - - - - - 4,334 72,122 12,842 446,747 - - - - - - - 1,776 2,489 1,102 - 24 3,010 3,169 - - 33 9,213 - 10,599 - - 766 - 24 2,019 1,298 4,555 - 451 9,113 33 31,382 568 6,160 375 38,485 485,232 Australia Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Australia Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Australia Overseas Credit risk exposures relating to on balance sheet assets: Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance (1) Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances Other assets (2) Total on balance sheet Overseas Credit risk exposures relating to off balance sheet items: Guarantees Loan commitments Other commitments Total Overseas Total gross credit risk (1) In most cases the credit risk of insurance assets is borne by policyholders. However, on certain insurance contracts the Group retains exposure to credit risk. (2) Other assets predominantly comprises assets which do not give rise to credit exposure, including intangible assets, property, plant and equipment, and defined benefit superannuation plan surplus, which are shown in “Other” for the purpose of reconciling to the Balance Sheet. Commonwealth Bank of Australia Annual Report 2008 137 Notes to the Financial Statements Note 15 Credit Risk Management (continued) Credit Portfolio Loans and Advances by Industry The following table sets out the distribution of the Group’s loans, advances and other receivables (excluding bank acceptances) by industry. Industry Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross loans, advances and other receivables Provisions for Loan Impairment and unearned income Net loans, advances and other receivables 2008 $M 1,568 2,547 8,917 186,926 1,647 19,233 7,894 80,423 309,155 1,230 4,814 6,743 28,817 606 532 548 12,779 56,069 365,224 Group 2007 $M 1,777 2,491 7,894 163,839 1,588 18,252 7,827 61,610 265,278 3,189 4,151 6,943 28,931 618 660 507 8,341 53,340 318,618 (3,942) 361,282 (3,153) 315,465 Large Exposures Concentrations of exposure to any debtor or counterparty group are controlled by a large credit exposure policy. All exposures outside the policy are approved by the Board Risk Committee. The following table shows the aggregated number of the Group’s counterparty Corporate and Industrial exposures (including direct and contingent exposures) which individually were greater then 5% of the Group’s capital resources (Tier One and Tier Two capital): 2008 Number 1 - 2007 Number - - Group 2006 Number - - Derivative financial instruments expose the Group to credit risk where there is a positive fair value current. In the case of credit derivatives, the Group is also exposed to or protected from the risk of default of the underlying entity referenced by the derivative. For further information regarding derivatives see Notes 11, 42 and 49. The Group also nets its credit exposure through the operation of certain consumer and corporate facilities that allow on balance sheet netting for credit management purposes. As at 30 June 2008 these facilities reduced the credit risk of the Group by approximately $20 billion (2007: $16 billion). 5% to less than 10% of Group’s capital resources 10% to less than 15% of Group’s capital resources The Group has a good quality and well diversified credit portfolio, with 51.2% of the gross loans and advances in domestic mortgage loans and a further 7.9% in overseas mortgage loans primarily in New Zealand. Overseas loans account for 15.4% of loans and advances at $56.1 billion. The Group restricts its exposure to credit losses by entering into master netting arrangements with counterparties with which it undertakes a significant volume of transactions. Master netting arrangements do not generally result in an offset of Balance Sheet assets and liabilities as transactions are usually settled on a gross basis. However, the credit risk associated with favourable contacts is reduced by a master netting arrangement to the extent that if an event of default occurs, all amounts with the counterparty are terminated and settled on a net basis. As at 30 June 2008, master netting arrangements reduced the credit risk of the Group by approximately $6.5 billion (2007: $4.8 billion). 138 Commonwealth Bank of Australia Annual Report 2008 Note 16 Asset Quality Impaired Assets The Group administers its credit exposure to the Credit Risk Rated and Retail segments, as discussed in Note 15, Credit Risk Management. Credit Risk Rated portfolios are assessed at least at each Balance Sheet date for objective evidence that the financial asset or portfolio of assets is impaired. Impaired financial assets in the Retail segment are those facilities that are not well secured and past due 180 days or more. The Group applies APRA’s prudential standards in classifying impaired assets into three categories, comprising: (a) Non-Performing: • Any credit risk facility against which an individually assessed provision for impairment has been raised; • Any credit risk facility maintained on a cash basis because of significant deterioration in the financial position of the borrower; and • Any credit risk facility where loss of principal or interest is anticipated. (b) Restructured Facilities: Credit risk facilities on which the original contractual terms have been modified due to financial difficulties of the borrower. Interest on these facilities is taken to profit and loss. Failure to comply fully with the modified terms will result in immediate reclassification to non-performing. Distribution of loans and advances by credit quality Gross loans and advances Australia Neither past due nor impaired Past due but not impaired Impaired Total Australia Overseas Neither past due nor impaired Past due but not impaired Impaired Total Overseas Total gross loans and advances Notes to the Financial Statements (c) Assets Acquired through Security Enforcement: • Other Real Estate Owned, comprising real estate where the Group assumed ownership or foreclosed in settlement of a debt; • Other Assets Acquired through Securities Enforcement, comprising assets other than real estate where the Group has assumed ownership or foreclosed in settlement of a debt; and • Other real estate owned and other assets acquired through security enforcement are sold through the Group’s existing disposal processes. These processes are generally expected to take no longer than six months. The Group does not manage credit risk based solely on arrears categorisation, but also uses the Credit Risk Rating principles as described in Note 15 Credit Risk Management. Provisions for Impairment Provisions for impairment of financial assets are raised where there is objective evidence of impairment and at an amount adequate to cover assessed credit related losses. Credit losses arise primarily from loans but also from other credit instruments such as bank acceptances, contingent liabilities, guarantees and other financial instruments and assets acquired through security enforcement. For further information about the accounting policy for provisions for impairment see Note 1 (n). 2008 $M 302,156 6,379 620 309,155 53,440 2,566 63 56,069 365,224 Group 2007 $M 259,158 5,722 398 265,278 51,291 2,026 23 53,340 318,618 2008 $M 294,578 6,096 593 301,267 10,838 28 - 10,866 312,133 Bank 2007 $M 249,725 5,487 370 255,582 9,206 7 - 9,213 264,795 Commonwealth Bank of Australia Annual Report 2008 139 Notes to the Financial Statements Note 16 Asset Quality (continued) The segmentation of Loans and Advances for the retail and risk-rated portfolios into investment, pass and weak (including default grades) excluding those past due or impaired, is based on the mapping of Probability of Default (PD) to Standard and Poor’s ratings, reflecting a client’s ability to meet their credit obligations. In particular, retail PD pools have been aligned to the Group’s risk-rated PD grades which are consistent with rating agency views of credit quality segmentation. Investment grade is representative of lower assessed default probabilities with other classifications reflecting progressively higher default risk. No consideration is given to Loss Given Default (LGD), the impact of any recoveries or the potential benefit of mortgage insurance. Loans and Advances which were neither past due nor impaired Housing Loans $M Other Personal $M Asset Financing $M Commercial Industrial $M Group 2008 Total $M 203,772 90,434 7,950 302,156 25,855 24,786 2,799 53,440 147,377 31,696 3,583 182,656 8,733 15,736 2,434 26,903 2,575 13,583 2,200 18,358 56 181 - 237 - 7,500 - 7,500 - 528 - 528 53,820 37,655 2,167 93,642 17,066 8,341 365 25,772 Credit Grading Australia Investment Pass Weak Total Australia Overseas (1) Investment Pass Weak Total Overseas Total loans and advances which were neither past due nor impaired 209,559 18,595 8,028 119,414 355,596 (1) For New Zealand Housing Loans, PDs reflect Reserve Bank of New Zealand requirements resulting in higher PDs on average and lower grading. Credit Grading Australia Investment Pass Weak Total Australia Overseas (1) Investment Pass Weak Total Overseas Total loans and advances which were neither past due nor impaired Housing Loans $M Other Personal $M Asset Financing $M Commercial Industrial $M 135,379 21,163 3,754 160,296 5,518 19,701 2,317 27,536 2,545 13,148 1,638 17,331 76 315 - 391 - 7,475 - 7,475 - 490 1 491 43,444 29,727 885 74,056 16,223 6,422 228 22,873 Group 2007 Total $M 181,368 71,513 6,277 259,158 21,817 26,928 2,546 51,291 187,832 17,722 7,966 96,929 310,449 (1) For New Zealand Housing Loans, PDs reflect Reserve Bank of New Zealand requirements resulting in higher PDs on average and lower grading. 140 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 16 Asset Quality (continued) Loans and Advances which were neither past due nor impaired Housing Loans $M Other Personal $M Asset Financing $M Commercial Industrial $M Credit Grading Australia Investment Pass Weak Total Australia Overseas Investment Pass Weak Total Overseas Total loans and advances which were neither past due nor impaired Credit Grading Australia Investment Pass Weak Total Australia Overseas Investment Pass Weak Total Overseas Total loans and advances which were neither past due nor impaired Bank 2008 Total $M 199,200 87,346 8,032 294,578 9,058 1,713 67 10,838 142,993 33,419 3,666 180,078 2,539 13,567 2,202 18,308 - 136 - 136 - 42 - 42 - 2,791 - 2,791 - - - - 53,668 37,569 2,164 93,401 9,058 1,535 67 10,660 180,214 18,350 2,791 104,061 305,416 Housing Loans $M Other Personal $M Asset Financing $M Commercial Industrial $M 132,622 20,706 3,645 156,973 2,514 13,157 1,645 17,316 - 87 - 87 - 106 - 106 - 4,707 - 4,707 - - - - 41,649 28,248 832 70,729 7,812 1,189 12 9,013 Bank 2007 Total $M 176,785 66,818 6,122 249,725 7,812 1,382 12 9,206 157,060 17,422 4,707 79,742 258,931 Commonwealth Bank of Australia Annual Report 2008 141 Notes to the Financial Statements Note 16 Asset Quality (continued) Loans and Advances which were past due but not impaired (1) Housing Loans $M Other Personal (2) $M Asset Financing $M Commercial Industrial $M 2,147 822 359 455 330 4,113 1,529 212 74 42 19 1,876 530 147 74 99 9 859 216 45 16 10 6 293 219 73 26 20 1 339 14 4 1 1 - 20 806 113 74 50 25 1,068 281 33 18 23 22 377 Group 2008 Total $M 3,702 1,155 533 624 365 6,379 2,040 294 109 76 47 2,566 Australia Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Australia Overseas Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due date 90-179 days Past due 180 days or more Total Overseas Total loans and advances which were past due but not impaired 5,989 1,152 359 1,445 8,945 (1) Collateral held against past due Housing Loans receivables comprises residential and other real estate with an estimated fair value of at least the amounts shown. Other Personal receivables are generally unsecured. It has not been practicable to determine the fair value of collateral held against past due Asset Financing and Other Commercial/ Industrial receivables. (2) Personal loans, credit cards and other personal financing balances are generally unsecured and written off at 180 days past due unless agreements have been made with the debtor. 142 Commonwealth Bank of Australia Annual Report 2008 Note 16 Asset Quality (continued) Loans and Advances which were past due but not impaired (1) Housing Loans $M Other Personal (2) $M Asset Financing $M Commercial Industrial $M Notes to the Financial Statements 1,824 653 293 305 285 3,360 1,099 179 55 40 10 1,383 558 137 82 128 13 918 201 39 10 11 6 267 218 55 26 16 2 317 12 2 1 1 - 16 789 134 86 55 63 1,127 282 26 17 20 15 360 Group 2007 Total $M 3,389 979 487 504 363 5,722 1,594 246 83 72 31 2,026 Australia Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Australia Overseas Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due date 90-179 days Past due 180 days or more Total Overseas Total loans and advances which were past due but not impaired 4,743 1,185 333 1,487 7,748 (1) Collateral held against past due Housing Loans receivables comprises residential and other real estate with an estimated fair value of at least the amounts shown. Other Personal receivables are generally unsecured. It has not been practicable to determine the fair value of collateral held against past due Asset Financing and Other Commercial/ Industrial receivables. (2) Personal loans, credit cards and other personal financing balances are generally unsecured and written off at 180 days past due unless agreements have been made with the debtor. Commonwealth Bank of Australia Annual Report 2008 143 Notes to the Financial Statements Note 16 Asset Quality (continued) Loans and Advances which were past due but not impaired (1) Housing Loans $M Other Personal (2) $M Asset Financing $M Commercial Industrial $M Australia Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Australia Overseas Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Overseas Total loans and advances which were past due but not impaired 2,128 820 358 455 330 4,091 20 6 1 1 - 28 530 147 74 99 9 859 - - - - - - 39 16 6 10 7 78 - - - - - - 806 113 74 50 25 1,068 - - - - - - Bank 2008 Total $M 3,503 1,096 512 614 371 6,096 20 6 1 1 - 28 4,119 859 78 1,068 6,124 (1) Collateral held against past due Housing Loans receivables comprises residential and other real estate with an estimated fair value of at least the amounts shown. Other Personal receivables are generally unsecured. It has not been practicable to determine the fair value of collateral held against past due Asset Financing and Other Commercial/ Industrial receivables. (2) Personal loans, credit cards and other personal financing balances are generally unsecured and written off at 180 days past due unless agreements have been made with the debtor. Loans and Advances which were past due but not impaired (1) Australia Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Australia Overseas Past due 1-29 days Past due 30-59 days Past due 60-89 days Past due 90-179 days Past due 180 days or more Total Overseas Total loans and advances which were past due but not impaired Housing Loans $M Other Personal (2) $M Asset Financing $M Commercial Industrial $M 1,812 651 292 305 286 3,346 7 - - - - 7 558 137 82 128 13 918 - - - - - - 47 21 12 13 3 96 - - - - - - 789 134 86 55 63 1,127 - - - - - - Bank 2007 Total $M 3,206 943 472 501 365 5,487 7 - - - - 7 3,353 918 96 1,127 5,494 (1) Collateral held against past due Housing Loans receivables comprises residential and other real estate with an estimated fair value of at least the amounts shown. Other Personal receivables are generally unsecured. It has not been practicable to determine the fair value of collateral held against past due Asset Financing and Other Commercial/ Industrial receivables. (2) Personal loans, credit cards and other personal financing balances are generally unsecured and written off at 180 days past due unless agreements have been made with the debtor. 144 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 16 Asset Quality (continued) Impaired Financial Assets Impaired Asset Ratios Gross impaired assets as a % of gross loans and acceptances Net impaired assets as % of: Gross loans and acceptances Total Shareholders’ equity Financial assets individually assessed as impaired 2008 % 0. 18 0. 08 1. 21 2007 % 0. 13 0. 07 0. 91 2006 % 0. 11 0. 06 0. 73 Australia Loans and other receivables: Housing loans Other personal (1) Asset financing Other commercial and industrial Financial assets individually assessed as impaired- Australia Overseas Loans and other receivables: Housing loans Other personal Asset financing Other commercial and industrial Financial assets individually assessed as impaired- Overseas Total financial assets individually assessed as impaired Gross Impaired Assets $M Individually Assessed Provisions $M 2008 Net Impaired Assets $M Gross Impaired Assets $M Individually Assessed Provisions $M 157 14 55 394 620 37 2 1 23 63 683 34 97 12 193 336 7 2 2 20 31 367 123 (83) 43 201 284 30 - (1) 3 32 316 182 3 35 178 398 12 2 1 8 23 421 23 104 13 45 185 4 1 1 8 14 199 Group 2005 % 0. 16 0. 09 0. 97 Group 2007 Net Impaired Assets $M 159 (101) 22 133 213 8 1 - - 9 222 (1) Portfolio provisions of $88 million at 30 June 2008 (2007: $99 million) to cover unsecured personal loans and credit card lending are included in the individually assessed provisions. However, the related assets are not included in impaired assets. The related asset amounts are instead included in the 90 days or more past due disclosure. Refer Note 1 (mm). Australia Loans and other receivables: Housing Other personal (1) Asset financing Other commercial and industrial Financial assets individually assessed as impaired- Australia Overseas Loans and other receivables: Housing Other personal Asset financing Other commercial and industrial Financial assets individually assessed as impaired- Overseas Total financial assets individually assessed as impaired Gross Impaired Assets $M Individually Assessed Provisions $M 2008 Net Impaired Assets $M Gross Impaired Assets $M Individually Assessed Provisions $M Bank 2007 Net Impaired Assets $M 157 14 28 394 593 - - - - - 593 34 97 3 192 326 - - - - - 326 123 (83) 25 202 267 - - - - - 267 182 3 7 178 370 - - - - - 370 23 104 4 45 176 - - - - - 176 159 (101) 3 133 194 - - - - - 194 (1) Portfolio provisions of $88 million at 30 June 2008 (2007: $99 million) to cover unsecured personal loans and credit card lending are included in the individually assessed provisions. However, the related assets are not included in impaired assets. The related asset amounts are instead included in the 90 days or more past due disclosure. Refer Note 1 (mm). Commonwealth Bank of Australia Annual Report 2008 145 Notes to the Financial Statements Note 16 Asset Quality (continued) Impaired Assets by classification Australia Non-Performing loans: Gross balances Less provisions for impairment Net non-performing loans Restructured loans: Gross balances Less provisions Net restructured loans Assets Acquired Through Security Enforcement: Gross balances Less provisions for impairment Net assets acquired through security enforcement Net Australia impaired assets Overseas Non-Performing loans: Gross balances Less provisions for impairment Net non-performing loans Restructured loans: Gross balances Less provisions for impairment Net restructured loans Assets Acquired Through Security Enforcement: Gross balances Less provisions for impairment Net assets acquired through security enforcement Net Overseas impaired assets 2008 $M 2007 $M 2006 $M 620 (336) 284 398 (185) 213 312 (166) 146 Group 2005 $M 362 (144) 218 - - - - - - 284 63 (31) 32 - - - - - - 32 - - - - - - 213 23 (14) 9 - - - - - - 9 - - - - - - 146 14 (5) 9 - - - - - - 9 - - - - - - 218 14 (13) 1 - - - - - - 1 Total net impaired assets 316 222 155 219 Non-Performing Loans by Size of Loan Less than $1 million $1 million to $10 million Greater than $10 million Total Australia 2008 $M Overseas 2008 $M Total 2008 $M Australia 2007 $M Overseas 2007 $M 189 175 256 620 39 24 - 63 228 199 256 683 194 151 53 398 14 9 - 23 Group Total 2007 $M 208 160 53 421 146 Commonwealth Bank of Australia Annual Report 2008 Note 16 Asset Quality (continued) Movement in Impaired Asset Balances Gross Impaired Assets Gross impaired assets – opening balance New and increased Balances written off Returned to performing or repaid Gross impaired assets – closing balance Impaired Assets by Industry and Status Industry Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross balances Notes to the Financial Statements 2008 $M 421 1,104 (470) (372) 683 2007 $M 326 928 (482) (351) 421 2006 $M 395 745 (450) (364) 326 Impaired Assets $M Individually Assessed Provisions $M Total Risk $M Write-offs $M Recoveries $M 1,568 2,547 8,917 186,926 1,647 19,233 7,894 80,423 309,155 1,230 4,814 6,743 28,817 606 532 548 12,779 56,069 365,224 - 15 58 157 11 14 55 310 620 - 1 4 37 3 2 1 15 63 683 - 4 27 34 1 97 12 161 336 - - 4 7 8 2 2 8 31 367 - 3 5 23 1 364 49 34 479 - - 4 1 1 13 - 5 24 503 - - - (1) (1) (61) (5) (5) (73) - - - - - (3) - (1) (4) (77) Group 2005 $M 363 769 (350) (387) 395 Group 2008 Net Write-offs $M - 3 5 22 - 303 44 29 406 - - 4 1 1 10 - 4 20 426 Commonwealth Bank of Australia Annual Report 2008 147 Notes to the Financial Statements Note 16 Asset Quality (continued) Impaired Assets by Industry and Status Industry Australia Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Australia Overseas Sovereign Agriculture Bank and other financial Real estate: Mortgage Construction Personal Asset financing Other commercial and industrial Total Overseas Gross balances Impaired Assets $M Individually Assessed Provisions $M Total Risk $M Write-offs $M Recoveries $M Group 2007 Net Write-offs $M 1,777 2,491 7,894 163,839 1,588 18,252 7,827 61,610 265,278 3,189 4,151 6,943 28,931 618 660 507 8,341 53,340 318,618 - 5 2 182 8 3 35 163 398 - - - 12 - 2 1 8 23 421 - 3 2 23 1 104 13 39 185 - - 1 4 - 1 1 7 14 199 - 1 - 20 1 408 49 30 509 - - - - - 7 - 3 10 519 - (1) (1) (1) (1) (77) (10) (8) (99) - - - - - (4) - - (4) (103) - - (1) 19 - 331 39 22 410 - - - - - 3 - 3 6 416 148 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 17 Shares in and Loans to Controlled Entities Shares in controlled entities Loans to controlled entities (1) Total shares in and loans to controlled entities (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). A list of the Group’s controlled entities is provided in Note 44 Controlled Entities. 2008 $M 23,676 13,796 37,472 Bank 2007 $M 23,311 14,285 37,596 Note 18 Investment Property Investment Property 2008 $M - Group 2007 $M - 2008 $M - Bank 2007 $M - Investment property which backs liabilities paying a return linked directly to the property’s fair value is measured at fair value through profit and loss. The fair value is based on valuations performed by an independent valuer who holds a recognised and relevant professional qualification and has recent experience in the location and category of the investment property being valued. Amounts recognised in profit and loss relating to investment property Rental income (1) Net gains or losses from fair value adjustments (1) Direct operating expenses (2) Total (1) This income is disclosed as part of Other operating income – Other in Note 2. (2) This expense is disclosed as part of Other operating income – Other in Note 2. Investment Property (reconciliation) Opening balance Net gains or losses from fair value adjustments Assets reclassified to Assets held for sale Closing balance 2008 $M - - - - 2008 $M - - - - Group 2007 $M 15 23 (2) 36 Group 2007 $M 258 23 (281) - Commonwealth Bank of Australia Annual Report 2008 149 Notes to the Financial Statements Note 19 Property, Plant and Equipment Land and Buildings Land At 30 June 2008 valuation At 30 June 2007 valuation Closing balance Buildings At 30 June 2008 valuation At 30 June 2007 valuation Closing balance Total land and buildings Leasehold Improvements At cost Provision for depreciation Investment and restructuring Closing balance Equipment At cost Provision for depreciation Closing balance Assets under Lease At cost Provision for depreciation Closing balance Total property, plant and equipment (1) (1) Assets held for sale are separately disclosed in Note 22. 2008 $M 258 - 258 341 - 341 599 941 (475) (18) 448 936 (578) 358 290 (55) 235 1,640 Group 2007 $M - 215 215 - 361 361 576 822 (441) - 381 891 (565) 326 189 (36) 153 1,436 2008 $M 232 - 232 312 - 312 544 819 (424) (18) 377 663 (381) 282 152 (19) 133 1,336 Bank 2007 $M - 193 193 - 333 333 526 691 (387) - 304 606 (366) 240 51 (9) 42 1,112 Land and buildings are carried at fair value based on independent valuations performed in 2008, refer Note 1 (s). Under the cost model these assets would have been recognised at the carrying amount outlined in the table below. Carrying Amount of Land and Buildings under the Cost Model: Land Buildings Total land and buildings 2008 $M 117 244 361 Group 2007 $M 115 245 360 2008 $M 108 229 337 Bank 2007 $M 109 229 338 150 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 19 Property, Plant and Equipment (continued) Reconciliation of movements in the carrying amount of Property, Plant and Equipment Reconciliation Land Opening balance Acquisitions attributed to business combinations Disposals/transfers to Assets held for sale Disposals Net revaluations Foreign currency translation adjustment Closing balance Buildings Opening balance Acquisitions Acquisitions attributed to business combinations Disposals/transfers to Assets held for sale Disposals Net revaluations Depreciation Foreign currency translation adjustment Closing balance Leasehold Improvements Opening balance Acquisitions Disposals Net revaluations Depreciation Investment and restructuring Foreign currency translation adjustment Closing balance Equipment Opening balance Acquisitions Disposals/transfers Depreciation Foreign currency translation adjustment Closing balance Assets Under Lease Opening balance Acquisitions Disposals/transfers Depreciation Closing balance 2008 $M Group 2007 $M 2008 $M Bank 2007 $M 215 7 - (2) 41 (3) 258 361 35 2 - (7) (19) (27) (4) 341 381 170 (6) (2) (63) (18) (14) 448 326 174 (17) (115) (10) 358 153 103 (1) (20) 235 199 - (9) (3) 26 2 215 288 52 - (11) (2) 53 (22) 3 361 316 122 (4) - (59) - 6 381 289 139 (12) (97) 7 326 221 1 (47) (22) 153 193 - - (1) 40 - 232 333 33 - - (6) (21) (26) (1) 312 304 150 (7) - (52) (18) - 377 240 135 (11) (82) - 282 42 103 (1) (11) 133 182 - (9) (3) 24 (1) 193 263 51 - (11) (1) 51 (21) 1 333 271 83 (3) - (47) - - 304 210 107 (9) (67) (1) 240 100 1 (47) (12) 42 Commonwealth Bank of Australia Annual Report 2008 151 Notes to the Financial Statements Note 20 Intangible Assets Intangible Assets Goodwill Computer software costs Management fee rights Other Total intangible assets Goodwill Purchased goodwill – Colonial Purchased goodwill – other Total goodwill Computer Software Costs Cost Accumulated amortisation Investment and restructuring Total computer software costs Management Fee Rights (1) Cost Total management fee rights Other Cost Accumulated amortisation Total other Goodwill (reconciliation) Opening balance Additions Disposal Impairment Closing balance Computer Software Costs (reconciliation) Opening balance Additions: From purchases From internal development Amortisation Investment and restructuring write-down Closing balance Management Fee Rights (reconciliation) Opening balance Closing balance Other (reconciliation) Opening balance Additions: From acquisitions Disposals Amortisation Closing balance 2008 $M 7,484 353 311 110 8,258 6,705 779 7,484 629 (199) (77) 353 311 311 159 (49) 110 7,163 323 (2) - 7,484 297 90 131 (88) (77) 353 311 311 64 64 (3) (15) 110 Group 2007 $M 7,163 297 311 64 7,835 6,705 458 7,163 420 (123) - 297 311 311 85 (21) 64 7,200 3 - (40) 7,163 229 20 110 (62) - 297 311 311 69 3 - (8) 64 2008 $M 2,522 304 - - 2,826 2,229 293 2,522 560 (191) (65) 304 - - - - - 2,522 - - - 2,522 262 89 94 (76) (65) 304 - - 4 - (3) (1) - Bank 2007 $M 2,522 262 - 4 2,788 2,229 293 2,522 377 (115) - 262 - - 4 - 4 2,522 - - - 2,522 212 19 90 (59) - 262 - - 4 - - - 4 (1) Management fee rights have an indefinite useful life under the contractual terms of the management agreements and are subject to an annual valuation for impairment testing purposes. No impairment was required as a result of this valuation. 152 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 20 Intangible Assets (continued) Segment Allocation of Goodwill Segment Retail Banking Services (1) Premium Business Services Wealth Management (2) International Financial Services Total 2008 $M 4,149 297 2,358 680 7,484 Group 2007 $M 4,149 - 2,361 653 7,163 (1) The allocation to Retail Banking Services includes goodwill related to the acquisitions of Colonial, State Bank of Victoria and 25% of ASB Bank. (2) The allocation to Wealth Management principally relates to the goodwill on acquisition of Colonial. Impairment Tests for Goodwill and Intangible Assets with Indefinite Lives To assess whether goodwill is impaired, the carrying amount of a cash generating unit is compared to the recoverable amount, determined based on net selling price less costs to sell, using an earnings multiple applicable to that type of business, or actuarial assessment. Australian Retail Banking $M 4,149 Australian Premium Business $M 297 Funds Management (Excluding Property) $M 2,149 Funds Management (Property) $M 78 Australian Life Insurance $M 131 New Zealand Banking $M 238 New Zealand Life Insurance $M 442 Carrying amount of goodwill Group At 30 June 2008 Key Assumptions Used in Selling Price less Cost to Sell Calculations Earnings multiples relating to the Group’s Banking (Retail Banking Services, Premium Business Services and International Financial Services) and Australian Life Insurance and Funds Management cash-generating units are sourced from publicly available data associated with valuations performed on recent businesses displaying similar characteristics to those cash- generating units, and are applied to current earnings. The New Zealand Life Insurance cash-generating unit is valued via an actuarial assessment. The key assumptions used when completing the actuarial assessment include new business multiples, discount rates, investment market returns, mortality, morbidity, persistency and expense inflation. These have been determined by reference to historical company and industry experience and publicly available data. Note 21 Other Assets Accrued interest receivable Defined benefit superannuation plan surplus Accrued fees/reimbursements receivable Securities sold not delivered Intragroup current tax receivable Current tax assets Other Total other assets Note 43 2008 $M 1,904 1,536 985 766 - 50 1,251 6,492 Group 2007 $M 2,091 1,813 832 1,144 - 122 1,155 7,157 2008 $M 2,067 1,536 387 325 419 - 635 5,369 Bank 2007 $M 1,893 1,813 581 632 352 - 1,515 6,786 Commonwealth Bank of Australia Annual Report 2008 153 Notes to the Financial Statements Note 22 Assets Held for Sale Available-for-sale investments (1) Loans, advances and other receivables (1) Investment property (2) Property, plant and equipment Total assets held for sale 2008 $M 406 191 - 11 608 Group 2007 $M 765 306 281 22 1,374 2008 $M 262 139 - 11 412 Bank 2007 $M - - - 21 21 (1) During the year ended 30 June 2007 the Group purchased, through Colonial First State, a 32% stake in AWG plc. The stake was acquired through the purchase of preference shares and Eurobonds that on acquisition were classified as Assets held for sale ($1.3 billion) based on the Group’s intention to dispose of its holding into Australian and European based infrastructure funds within the next 12 months. Since acquisition the Group has sold down ($1.0 billion) worth of AWG related Eurobonds and preference shares. (1) During the year ended 30 June 2008 the Group purchased, through Colonial First State, a 50% stake in ENW Ltd. The stake was acquired through the purchase of preference shares and Eurobonds that on acquisition were classified as Assets held for sale ($616 million) based on the Group’s intention to dispose of its holding into Australian and European based infrastructure funds within the next 12 months. Since acquisition the Group has sold down ($200 million) worth of ENW related Eurobonds and preference shares. (1) Until sold, the Eurobonds are being measured on the same basis as Loans, advances and other receivables, while the preference shares are being measured on the same basis as Available-for-sale investments. (2) This investment property is measured in accordance with the Group’s policy for investment property backing liabilities that pay a return linked directly to its fair value. Note 23 Deposits and Other Public Borrowings Australia Certificates of deposit Term deposits On demand and short term deposits (1) Deposits not bearing interest Securities sold under agreements to repurchase Total Australia Overseas Certificates of deposit Term deposits On demand and short term deposits Deposits not bearing interest Securities sold under agreements to repurchase Total Overseas Total deposits and other public borrowings 2008 $M 36,981 71,637 117,712 6,142 1,462 233,934 4,139 15,687 8,351 1,468 127 29,772 263,706 Group 2007 $M 20,165 50,888 109,680 6,662 3,323 190,718 903 16,416 9,183 1,818 30 28,350 219,068 2008 $M 36,981 70,858 118,270 6,194 1,462 233,765 4,139 2,679 159 2 127 7,106 240,871 Bank 2007 $M 20,165 49,454 109,656 6,660 3,323 189,258 903 4,245 94 30 100 5,372 194,630 (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Maturity Distribution of Certificates of Deposit and Time Deposits Australia Certificates of deposit (1) Time deposits Total Australia Overseas Certificates of deposit (1) Time deposits Total Overseas Total certificates of deposit and time deposits Maturing Three Months or Less $M Maturing Between Three & Six Months $M Maturing Between Six & Twelve Months $M Maturing After Twelve Months $M 28,656 36,704 65,360 4,108 5,816 9,924 75,284 5,938 12,253 18,191 - 4,235 4,235 22,426 733 21,391 22,124 31 4,587 4,618 26,742 1,654 1,289 2,943 - 1,049 1,049 3,992 Group At 30 June 2008 Total $M 36,981 71,637 108,618 4,139 15,687 19,826 128,444 (1) All certificates of deposit issued by the Bank are for amounts greater than $100,000. 154 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 24 Payables due to Other Financial Institutions Australia Overseas Total payables due to other financial institutions 2008 $M 4,390 13,282 17,672 Note 25 Liabilities at Fair Value through Income Statement Deposits and other borrowings (1) Debt instruments (1) (2) Trading liabilities Total liabilities at fair value through Income Statement 2008 $M 4,586 9,047 1,893 15,526 Group 2007 $M 4,208 10,178 14,386 Group 2007 $M 6,687 5,744 3,965 16,396 2008 $M 4,391 13,234 17,625 2008 $M - 1,037 1,893 2,930 Bank 2007 $M 4,210 10,112 14,322 Bank 2007 $M - 241 4,965 5,206 (1) Designated at Fair Value through Income Statement at inception as they are managed by the Group on a fair value basis. Designating these liabilities at Fair Value through Income Statement has also eliminated an accounting mismatch created by measuring assets and liabilities on a different basis. (2) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). The change in fair value due to credit risk for the Group is $22 million and for the Bank is $15 million, which has been calculated by determining the changes in credit spread implicit in the fair value of the instruments issued. In 2007 the amount was insignificant as reflected in the Group’s and Bank’s credit ratings. The increment on top of the carrying amount that would be contractually required to be paid at maturity to the holders of these financial liabilities for the Group is $326 million (2007: $139 million) and for the Bank is $59 million (2007: $65 million). Note 26 Income Tax Liability Australia Current tax liability Deferred tax liability (Note 5) Total Australia Overseas Current tax liability Deferred tax liability (Note 5) Total Overseas Total income tax liability 2008 $M 696 - 696 72 266 338 1,034 Group 2007 $M 866 556 1,422 16 352 368 1,790 2008 $M 707 17 724 1 2 3 727 Bank 2007 $M 797 90 887 3 1 4 891 Commonwealth Bank of Australia Annual Report 2008 155 Notes to the Financial Statements Note 27 Other Provisions Provision for: Long service leave Annual leave Other employee entitlements Restructuring costs General insurance claims Self insurance/non-lending losses Dividends Other Total other provisions Reconciliation Restructuring costs: Opening balance Additional provisions Amounts utilised during the year Closing balance General insurance claims: Opening balance Additional provisions Amounts utilised during the year Closing balance Self insurance/non-lending losses: Opening balance Additional provisions Amounts utilised during the year Closing balance Other: Opening balance Additional provisions Amounts utilised during the year Closing balance Note 6 2008 $M 299 205 69 284 117 64 5 131 1,174 2008 $M 26 282 (24) 284 94 80 (57) 117 83 9 (28) 64 107 83 (59) 131 Group 2007 $M 281 186 95 26 94 83 6 107 878 Group 2007 $M 37 15 (26) 26 85 56 (47) 94 90 25 (32) 83 71 66 (30) 107 2008 $M 292 185 66 284 - 64 5 87 983 2008 $M 26 282 (24) 284 - - - - 82 10 (28) 64 99 37 (49) 87 Bank 2007 $M 267 163 90 26 - 82 7 99 734 Bank 2007 $M 37 15 (26) 26 - - - - 87 25 (30) 82 60 63 (24) 99 Provision Commentary Restructuring costs Provisions are for amounts expected to be utilised in the short to medium term. During the current year the Group has recognised a provision for Investment and restructuring of $282 million relating to the cost of implementation of Core Banking Modernisation and other investment and restructuring. Related asset write-downs of $95 million, including Computer Software write offs of $77 million have also been recognised. General Insurance Claims This provision is to cover future claims on general insurance contracts that have been incurred but not reported. Self Insurance and Non-Lending Losses This provision covers certain non-transferred insurance risk and non-lending losses. The self insurance provision is reassessed annually in consultation with actuarial advice. 156 Commonwealth Bank of Australia Annual Report 2008 Note 28 Debt Issues (1) Short term debt issues Long term debt issues Total debt issues Short Term Debt Issues AUD Promissory Notes AUD Bank Bills AUD Commercial Paper USD Commercial Paper EUR Commercial Paper Other Currency Commercial Paper Long Term Debt Issues with less than one year to maturity Total short term debt issues Long Term Debt Issues USD Medium Term Notes AUD Medium Term Notes NZD Medium Term Notes JPY Medium Term Notes GBP Medium Term Notes EUR Medium Term Notes Other Currencies Medium Term Notes Offshore Loans (all JPY) Eurobonds Total long term debt issues Maturity Distribution of Debt Issues Less than three months Between three months to 12 months Between one year and five years Greater than five years Total debt issues Notes to the Financial Statements 2008 $M 35,877 49,940 85,817 - - 1,024 14,116 622 416 19,699 35,877 19,065 9,332 438 6,463 3,482 6,478 3,630 152 900 49,940 21,757 14,120 35,234 14,706 85,817 Group 2007 $M 28,607 59,918 88,525 523 505 2,828 7,793 1,581 4 15,373 28,607 30,675 10,918 161 3,062 3,544 6,670 3,839 148 901 59,918 10,178 18,429 36,205 23,713 88,525 2008 $M 16,208 39,570 55,778 - - 265 1,861 622 416 13,044 16,208 16,101 3,991 54 6,347 3,482 4,913 3,630 152 900 39,570 6,664 9,544 26,459 13,111 55,778 Bank 2007 $M 10,288 37,472 47,760 - - 459 173 1,581 4 8,071 10,288 20,403 3,629 161 3,062 2,477 4,146 2,545 148 901 37,472 4,767 5,521 23,546 13,926 47,760 (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). The Bank’s debt issues include a Euro Medium Term Note program under which it may issue notes up to an aggregate amount outstanding of USD 50 billion. The Bank also has a U.S. Medium Term Note program under which it may issue notes up to an aggregate amount outstanding of USD 15 billion. Notes issued under debt programs are both fixed and variable rate. Interest rate risk associated with the notes is incorporated within the Bank’s interest rate risk framework. Subsequent to 30 June 2008, notable debt issuances of the Bank under these specified programs include: • USD medium term notes: between one and five years – USD 495 million (AUD 513 million); • BRL medium term notes: between one and five years – BRL 16 million (AUD 10 million); • EUR medium term notes: between one and five years – EUR 300 million (AUD 491 million); greater than five years – EUR 50 million (AUD 82 million); • JPY medium term notes: between one and five years – JPY 14 billion (AUD 137 million); greater than five years – JPY 500 million (AUD 5 million); • NZD medium term notes: between one and five years – NZD 180 million (AUD 143 million); and • ZAR medium term notes: between one and five years – ZAR 15 million (AUD 2 million). Where any debt issue is booked in an offshore branch or subsidiary, the amounts have first been converted into the functional currency of the branch at a branch defined exchange rate, before being converted into the AUD equivalent. Where proceeds have been employed in currencies other than that of the ultimate repayment liability, swaps or other risk management arrangements have been entered into. Commonwealth Bank of Australia Annual Report 2008 157 Notes to the Financial Statements Note 28 Debt Issues (continued) Short Term Borrowings The following table analyses the Group’s short term borrowings for the financial years ended 30 June 2008, 2007 and 2006. USD Commercial Paper Outstanding at period end (1) Maximum amount outstanding at any month end (2) Approximate average amount outstanding (2) Approximate weighted average rate on: Average amount outstanding Outstanding at period end EUR Commercial Paper Outstanding at period end (1) Maximum amount outstanding at any month end (2) Approximate average amount outstanding (2) Approximate weighted average rate on: Average amount outstanding Outstanding at period end AUD Commercial Paper Outstanding at period end (1) Maximum amount outstanding at any month end (2) Approximate average amount outstanding (2) Approximate weighted average rate on: Average amount outstanding Outstanding at period end Other Currency Commercial Paper Outstanding at period end (1) Maximum amount outstanding at any month end (2) Approximate average amount outstanding (2) Approximate weighted average rate on: Average amount outstanding Outstanding at period end 2008 2007 Group 2006 (AUD Millions, except where indicated) 14,116 14,693 11,000 4. 2% 2. 6% 622 1,589 885 4. 4% 4. 3% 1,024 2,588 1,430 7. 0% 7. 9% 416 1,525 827 4. 7% 7. 0% 7,793 10,438 7,953 5. 3% 5. 3% 1,581 1,581 940 4. 2% 4. 7% 3,955 9,619 7,413 6. 3% 6. 4% - - - - - 6,861 13,717 9,754 4. 4% 5. 2% 4,248 4,441 3,177 4. 4% 5. 2% 1,592 2,665 1,880 6. 3% 6. 4% - - - - - (1) The amount outstanding at period end is measured at amortised cost. (2) The maximum and average amounts over the period are reported on a face value basis because the carrying values of these amounts are not available. Any differences between face value and carrying value would not be material given the short term nature of the borrowings. Exchange Rates Utilised (End of day, Sydney time) AUD 1.00 = Currency USD EUR GBP JPY NZD HKD CAD CHF ILS SGD As At 30 June 2008 0. 9656 0. 6113 0. 4841 102. 070 1. 2631 7. 5323 0. 9734 0. 9821 3. 2298 1. 3145 As At 30 June 2007 0. 8497 0. 6319 0. 4241 104. 889 1. 102 6. 6426 0. 8987 1. 0470 3. 6054 1. 3023 158 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements • The CDBL’s liabilities continue to remain guaranteed by the Commonwealth of Australia; and • CDBL ceased to write new business or incur additional liabilities from 1 July 1996. From that date, new business that would have previously been written by CDBL is being written by the rural arm of the Bank. The due payment of all monies payable by CDBL to a person other than the Commonwealth of Australia is guaranteed by the Commonwealth of Australia under Section 117 of the Commonwealth Banks Act 1959 (as amended). This guarantee will continue to be provided by the Commonwealth of Australia whilst quarantined assets are held. The value of the liabilities under the guarantee will diminish as quarantined assets reach maturity and are repaid. State Bank of NSW (also known as Colonial State Bank) The enabling legislation for the sale of the State Bank of New South Wales Limited (SBNSW), the State Bank (Privatisation) Act 1994 – Section 12 and the State Bank (Corporatisation) Act 1989 – Section 12 (as amended), provides in general terms for a guarantee by the NSW Government in respect of all funding liabilities and off-balance sheet products (other than demand deposits) incurred or issued prior to 31 December 1997 by SBNSW until maturity and a guarantee for demand deposits accepted by SBNSW up to 31 December 1997. Other obligations incurred before 31 December 1994 are also guaranteed to their maturity. On 4 June 2001 Commonwealth Bank of Australia became the successor in law to SBNSW pursuant to the Financial Sector Transfer of Business Act 1999. The NSW Government guarantee of the liabilities and products as described above continues unchanged by the succession. Note 28 Debt Issues (continued) Guarantee Arrangements Commonwealth Bank of Australia The due payment of all monies payable by the Bank was guaranteed by the Commonwealth of Australia under section 117 of the Commonwealth Banks Act 1959 (as amended) at 30 June 1996. This guarantee has been progressively phased out following the Commonwealth of Australia’s shareholding in the Bank on 19 July 1996. the sale of transitional arrangements The the Commonwealth of Australia’s guarantee are contained in the Commonwealth Bank Sale Act 1995. for phasing out In relation to the Commonwealth of Australia’s guarantee of the Bank’s liabilities, transitional arrangements provided that: • All demand deposits and term deposits were guaranteed for a period of three years from 19 July 1996, with term deposits outstanding at the end of that three year period being guaranteed until maturity; and • All other amounts payable under a contract that was entered into, or under an instrument executed, issued, endorsed or accepted by the Bank at 19 July 1996 will be guaranteed until their maturity. Accordingly, demand deposits are no longer guaranteed. Term deposits outstanding at 19 July 1999 remain guaranteed until maturity. The run-off of the Government guarantee has no effect on the Bank’s access to deposit markets. Commonwealth Development Bank On 24 July 1996, the Commonwealth of Australia sold its 8.1% shareholding in the Commonwealth Development Bank of Australia Limited (CDBL) to the Bank for $12.5 million. Under the arrangements relating to the purchase by the Bank of the Commonwealth of Australia’s shareholding in the CDBL: • All lending assets as at 30 June 1996 have been quarantined in CDBL, consistent with the charter terms on which they were written; Note 29 Managed Funds Units on Issue Managed Funds Units on Issue 2008 $M 1,109 Group 2007 $M 310 2008 $M - Bank 2007 $M - Managed funds units on issue represents the liability to minority interest unit holders in funds which have been consolidated by the Group. Commonwealth Bank of Australia Annual Report 2008 159 Notes to the Financial Statements Note 30 Bills Payable and Other Liabilities Bills payable Accrued interest payable Accrued fees and other items payable Defined benefit superannuation plan deficit Securities purchased not delivered Other liabilities Total bills payable and other liabilities Note 31 Loan Capital (1) Note 43 2008 $M 884 2,397 1,426 65 1,018 1,734 7,524 Group 2007 $M 978 1,949 1,794 29 1,519 1,077 7,346 Group Currency Amount (M) Footnotes USD 38 USD 64 USD 100 USD 550 AUD 750 AUD 1,166 AUD 1,465 USD 700 FRN FRN FRN TPS PERLS II PERLS III PERLS IV TPS Tier One Loan Capital Exchangeable Exchangeable Undated Undated Undated Undated Undated Undated Total Tier One loan capital Tier Two Loan Capital AUD denominated USD denominated JPY denominated GBP denominated NZD denominated EUR denominated CAD denominated Total Tier Two loan capital Fair value hedge adjustments Total loan capital (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) (12) (13) (14) (14) (14) 2008 $M 39 66 104 569 749 1,151 1,447 - 4,125 2,098 2,439 732 307 726 490 614 7,406 28 11,559 2007 $M 44 84 118 647 747 1,147 - - 2,787 2,098 2,770 710 350 500 474 333 7,235 (22) 10,000 2008 $M 653 2,161 773 65 533 2,116 6,301 2008 $M 39 66 104 569 749 1,151 1,447 718 4,843 2,098 2,439 732 307 277 490 614 6,957 (180) 11,620 Bank 2007 $M 800 1,710 1,322 29 981 1,524 6,366 Bank 2007 $M 44 84 118 647 747 1,147 - 815 3,602 2,098 2,770 710 350 318 474 333 7,053 (233) 10,422 (1) Effective yield adjustments have been included in the carrying values of the issues. Prior year comparatives have been restated on the same basis. 160 Commonwealth Bank of Australia Annual Report 2008 Note 31 Loan Capital (continued) (2) USD 300 million undated Floating Rate Notes (FRNs) issued 11 July 1988 exchangeable into dated FRNs. Outstanding notes at 30 June 2008 were: Undated: USD 37.5 million (3) USD 400 million undated FRNs issued 22 February 1989 exchangeable into dated FRNs. Outstanding notes at 30 June 2008 were: Due February 2011: USD 64 million (4) USD 100 million undated capital notes issued on 15 October 1986. The Bank has entered into separate agreements with the Commonwealth of Australia relating to each of the above issues (the “Agreements”) which qualify the issues as Tier One capital. The Agreements provide that, upon the occurrence of certain events listed below, the Bank may issue either fully paid ordinary shares to the Commonwealth of Australia or (with the consent of the Commonwealth of Australia) rights to all shareholders to subscribe for fully paid ordinary shares up to an amount equal to the outstanding principal value of the relevant note issue or issues plus any interest paid in respect of the notes for the most recent financial year and accrued interest. The issue price of such shares will be determined by reference to the prevailing market price for the Bank’s shares. Any one or more of the following events may trigger the issue of shares to the Commonwealth of Australia or a rights issue: • A relevant event of default (discussed below) occurs in respect of a note issue and the Trustee of the relevant notes gives notice to the Bank that the notes are immediately due and payable; • The most recent audited annual Financial Statements of the Group show a loss (as defined in the Agreements); • The Bank does not declare a dividend in respect of its ordinary shares; • The Bank, if required by the Commonwealth of Australia and subject to the agreement of the APRA, exercises its option to redeem a note issue; or • In respect of Undated FRNs which have been exchanged to Dated FRNs, the Dated FRNs mature. Any payment made by the Commonwealth of Australia pursuant to its guarantee in respect of the relevant notes will trigger the issue of shares to the Commonwealth of Australia to the value of such payment. The relevant events of default differ depending on the relevant Agreement. In summary, they cover events such as failure of the Bank to meet its monetary obligation in respect of the relevant notes; the insolvency of the Bank; any law being passed to dissolve the Bank or the Bank ceasing to carry on general Banking business in Australia; and the Commonwealth of Australia ceasing to guarantee the relevant notes. In relation to Dated FRNs which have matured to date, the Bank and the Commonwealth agreed to amend the relevant Agreement to reflect that the Commonwealth of Australia was not called upon to subscribe for fully paid ordinary shares up to an amount equal to the principal value of the maturing FRNs. Notes to the Financial Statements (5) TPS 2003 Each trust preferred security represents a beneficial ownership interest in the assets of CBA Capital Trust. The sole assets of CBA Capital Trust are the funding preferred securities issued by CBA Funding Trust, which represent preferred beneficial ownership interests in the assets of CBA Funding Trust, and a limited CBA guarantee. The securities qualify as innovative residual Tier One capital of the Bank. CBA Funding Trust applied all of the proceeds from the sale of the funding preferred securities to purchase the convertible notes from the Bank’s New Zealand Branch. The trust preferred securities provide for a semi-annual cash distribution in arrears at the annual rate of 5.805%. The distributions on the trust preferred securities are non-cumulative. CBA Capital Trust’s ability to pay distributions on the trust preferred securities is ultimately dependent upon the ability of CBA to make interest payments on the convertible notes. The Bank’s New Zealand branch will make interest payments on the convertible notes only if and when declared by the Board of Directors of CBA. The Board of Directors is not permitted, unless approved by APRA, to declare interest. If interest is not paid on the convertible notes on an interest payment date, holders will not receive a distribution on the trust preferred securities and, unless at the time of the non-payment the Bank is prevented by applicable law from issuing the CBA preference shares, convertible notes will automatically convert into CBA preference shares, which will result in mandatory redemption of trust preferred securities for American Depository Shares (“ADS”). No later than 35 business days prior period to June 30, 2015, holders may deliver a notice to CBA requiring it to exchange each trust preferred security for CBA ordinary shares. The Bank may satisfy the obligation to deliver ordinary shares in exchange for the trust preferred securities by either delivering the applicable number of ordinary shares or by arranging for the sale of the trust preferred securities at par and delivering the proceeds to the holder. Subject to the approval of APRA, holders may exchange trust preferred securities for the Bank’s ordinary shares earlier than June 30, 2015 if, prior to that date, a takeover bid or scheme of arrangement in relation to a takeover has occurred. If CBA Capital Trust is liquidated, dissolved or wound up and its assets are distributed, for each trust preferred security owned, the holder is entitled to receive the stated liquidation amount of U.S. $1,000, plus the accrued but unpaid distribution for the then current distribution period. Holders may not receive the full amount payable on liquidation if CBA Capital Trust does not have enough funds. The trustees of CBA Capital Trust can elect to dissolve CBA Capital Trust and distribute the funding preferred securities if at any time certain changes in tax law or other tax-related events or the specified changes in U.S. investment Company law occur. Neither the trust preferred securities nor the funding preferred securities can be redeemed at the option of their holders. Other than in connection with an acceleration of the principal of the convertible notes upon the occurrence of an event of default, neither the trust preferred securities nor the funding preferred securities are repayable in cash unless the Bank’s New Zealand branch, at its sole option, redeems the convertible notes. Commonwealth Bank of Australia Annual Report 2008 161 Notes to the Financial Statements Note 31 Loan Capital (continued) The Bank’s New Zealand branch may redeem the convertible notes for cash: before 30 June 2015, in whole, but not in part, and only if the specified changes in tax law or other tax-related events, the specified changes in U.S. investment Company law and‚ changes in the "Tier One'' regulatory capital treatment of the convertible notes, or certain corporate transactions involving a takeover bid or a scheme of arrangement in relation to a takeover described in this offering memorandum occur; and at any time on or after 30 June 2015. The Bank’s New Zealand branch must first obtain the approval of APRA to redeem the convertible notes for cash. CBA guarantees: • Semi-annual distributions on the funding preferred securities by CBA Funding Trust to CBA Capital Trust to the extent CBA Funding Trust has funds available for distribution; • Semi-annual distributions on the trust preferred securities by CBA Capital Trust to the extent CBA Capital Trust has funds available for distribution; • The redemption amount due to CBA Capital Trust if CBA Funding Trust is obligated to redeem the funding preferred securities for cash and to the extent CBA Funding Trust has funds available for payment; • The redemption amount due if CBA Capital Trust is obligated to redeem the trust preferred securities for cash and to the extent CBA Capital Trust has funds available for payment; • The delivery of ADSs to CBA Capital Trust by CBA Funding Trust if CBA Funding Trust is obligated to redeem the funding preferred securities for ADSs and to the extent that CBA Funding Trust has ADSs available for that redemption; • The delivery of ADSs by CBA Capital Trust if CBA Capital Trust is obligated to redeem the trust preferred securities for ADSs and to the extent that CBA Capital Trust has ADSs available for that redemption; • The delivery of funding preferred securities by CBA Capital Trust upon dissolution of CBA Capital Trust as a result of a tax event or an event giving rise to a more than insubstantial risk that CBA Capital Trust is or will be considered an investment Company which is required to be registered under the Investment Company Act; • The payment of the liquidation amount of the funding preferred securities if CBA Funding Trust is liquidated, to the extent that CBA Funding Trust has funds available after payment of its creditors; and • The liquidation amount of the trust preferred securities if CBA Capital Trust is liquidated, to the extent that CBA Capital Trust has funds available after payment of its creditors. The CBA guarantee does not cover the non-payment of distributions on the funding preferred securities to the extent that CBA Funding Trust does not have sufficient funds available to pay distributions on the funding preferred securities. Trust preferred securities have limited voting rights. Trust preferred securities have the right to bring a direct action against the Bank if: • The Bank’s New Zealand branch does not pay interest on or the redemption price of the convertible notes to CBA Funding Trust in accordance with their terms; • The Bank’s New Zealand branch does not deliver ADSs representing CBA preference shares to CBA Funding Trust in accordance with the terms of the convertible notes; 162 Commonwealth Bank of Australia Annual Report 2008 • The Bank does not perform its obligations under its guarantees with respect to the trust preferred securities and the funding preferred securities; or • The Bank does not deliver cash or ordinary shares on 30 June 2015. (6) PERLS II On 6 January 2004 a wholly owned entity of the Bank, Commonwealth Managed Investments Limited as Responsible Entity of the PERLS II Trust (“CMIL”) issued $750 million of Perpetual Exchangeable Resettable Listed Securities (“PERLS II”). These securities qualify as innovative residual Tier One capital of the Bank. These securities are units in a registered managed investments scheme, perpetual in nature, offering a non-cumulative floating rate distribution payable quarterly. The Distributions paid to PERLS II Holders are sourced from interest paid on the Convertible Notes issued by the Bank (through its New Zealand Branch) to CMIL. The Distribution Rate is a floating rate calculated as the Bank Bill Swap Rate plus a margin of 0.95% multiplied by (1- Australian corporate tax rate). The Bank expects Distributions to be fully franked. If CMIL gives notice that a Distribution in any Distribution Period will not be fully franked, PERLS II Holders may elect to exchange their PERLS II on the next Distribution Date. If any Distribution is not paid in full within 20 Business Days after a Distribution Date, the Bank must not pay any interest, declare or pay any dividend or distribution from the income or capital of the Bank, return any capital or undertake any Buy-backs, redemptions or repurchases in relation to any securities of the Bank that rank equally for interest payments or distributions with, or junior to, any Capital Securities of the Bank that rank equally with PERLS II unless and until either: • Four consecutive Distributions are paid in full; • The Bank (with the approval of APRA) and CMIL have paid PERLS II Holders an amount or amounts (in aggregate) equal to their full distribution entitlements for four consecutive Distribution Periods; or • PERLS II Holders pass a Special Resolution approving the payment, dividend, distribution, capital return, Buy-back, redemption or repurchase. The first Rollover Date will be 15 March 2009. On this date and each subsequent Rollover Date, the Bank can reset some of the terms of its Convertible Notes including the Margin over BBSW. PERLS II Holders may request that their PERLS II be exchanged on the Rollover Date. PERLS II Holders who do not request exchange will be deemed to have accepted the new terms offered. In addition to exchange on a rollover date, PERLS II Holders may request that each PERLS II be exchanged: • Upon the occurrence of a Change of Control Event; or • If CMIL gives notice that a Distribution will not be fully franked for any Distribution Period. On exchange, at the Bank’s election, PERLS II Holders will receive for their PERLS II, one or a combination of the following alternatives: • The number of Ordinary Shares determined as set out below; or • $200 cash (subject to APRA approval). Note 31 Loan Capital (continued) The Bank, subject to APRA approval, may exchange some or all of the PERLS II, at its election, for Ordinary Shares or $200 cash for each PERLS II: (i) On a Rollover Date; (ii) If a Regulatory Event or Tax Event occurs; (iii) If the Responsible Entity is removed or retires as responsible entity of the Trust and the Bank has not given its consent to the change of the responsible entity; (iv) If PERLS II Holders requisition a meeting to approve an amendment to the Constitution or to remove the Responsible Entity as responsible entity of the Trust and the Bank has not given its consent to such amendment or change of responsible entity; (v) If the ability of the Responsible Entity to redeem PERLS II is impaired or removed; or (vi) If the aggregate Face Value of PERLS II is less than $50 million. PERLS II will automatically exchange for Ordinary Shares if: • A Default Event occurs; or • An APRA Event occurs. PERLS II Holders will be entitled to vote at any meeting of Unitholders of the Trust. PERLS II do not have voting rights at any meeting of the Bank. (7) PERLS III On 6 April 2006 a wholly owned entity of the Bank (Preferred Capital Limited) issued $1,166 million of Perpetual Exchangeable Repurchaseable Listed Shares (PERLS III). PERLS III are preference shares in a special purpose Company, (the ordinary shares of which are held by the Bank), perpetual in nature, offering a non-cumulative floating rate distribution payable quarterly. The shares qualify as innovative residual Tier One capital of the Bank. The Dividends paid to PERLS III Holders will be primarily sourced from interest paid on the Convertible Notes issued by CBA NZ to PCL. The payment of interest on the underlying Convertible Notes and Dividends on PERLS III are not guaranteed and are subject to a number of conditions including the availability of profits and the Board (of the Bank in relation to Convertible Note interest, or of PCL in relation to PERLS III Dividends) resolving to make the payment. The Dividend Rate is a floating rate calculated for each Dividend Period as the sum of the Margin per annum plus the Market Rate per annum multiplied by (One – Tax Rate). The Initial Margin is 1.05% over Bank Bill Swap Rate and the Step-up Margin, effective from the “Step-up Date” on 6 April 2016, is the Initial Margin plus 1.00% per annum. If each PERLS III Holder is not paid a dividend in full within 20 Business Days of the Dividend Payment Date, the Bank is prevented from paying any interest, dividends or distributions, or undertaking certain other transactions, in relation to any securities of the Bank that rank for interest payments or distributions equally with, or junior to, the Convertible Notes or Bank PERLS III Preference Shares. This Dividend Stopper applies until an amount in aggregate equal to the full dividend on PERLS III for four consecutive dividend periods has been paid to PERLS III Holders. PERLS III will automatically exchange for Bank PERLS III Preference Shares: • On a failure by PCL to pay a Dividend; Notes to the Financial Statements • At any time at the Bank’s discretion; or • 10 Business Days before the Conversion Date Subject to APRA approval, PCL may elect to exchange PERLS III for the Conversion Number of Bank Ordinary Shares or $200 cash for each PERLS III: • On the Step-up Date or any Dividend Payment Date after the Step-up Date; or • If a Regulatory Event or Tax Event occurs PERLS III will automatically exchange for Bank Ordinary Shares if: • An APRA Event occurs; • A Default Event occurs; or • A Change of Control Event occurs. PERLS III will be automatically exchanged for Bank PERLS III Preference Shares no later than 10 Business Days prior to 6 April 2046 (if they have not been exchanged before that date). Holders are not entitled to request exchange or redemption of PERLS III or Bank PERLS III Preference Shares. Holders of PERLS III are entitled to vote at a general meeting of PCL on certain issues. PERLS III holders have no rights at any meeting of the Bank. (8) PERLS IV On 12 July 2007 the Bank issued $1,465 million of Perpetual Exchangeable Resalable Listed Securities (PERLS IV). PERLS IV are stapled securities comprising an unsecured subordinated note issued by the Bank’s New York branch and a convertible preference share issued by the Bank. These securities are perpetual in nature, offer a non-cumulative floating distribution rate payable quarterly, and qualify as non-innovative residual Tier One capital of the Bank. The payment of interest on the underlying convertible notes and dividends on PERLS IV are not guaranteed and are subject to a number of conditions including the availability of profits and the ability of the Board to stop payments. The distribution rate is a floating rate calculated for each distribution period as the sum of the Bank Bill Swap Rate plus 1.05% per annum, multiplied by (1 – Tax Rate). Distributions paid to holders will be interest on notes until an Assignment Event, and dividends on preference shares after the Assignment Event. Upon an Assignment Event, the notes are de-stapled from the preference shares and are assigned to the Bank and investors continue to hold preference shares. If distributions on PERLS IV are not paid in full within 20 business days of the payment date, an Assignment Event will occur and the Bank is prevented from paying any interest, dividends or distributions in relation to any securities of the Bank that rank equally with or junior to the preference shares. This “dividend stopper” applies until: • A Special Resolution of Holders authorising the payment, capital return, buy-back, redemption or repurchase is approved, and APRA does not otherwise object; • An Optional Dividend of an amount in aggregate equal to the four consecutive unpaid amount Distribution Periods has been paid to Holders; the preceding for • Four consecutive Dividends scheduled to be payable on PERLS IV thereafter have been paid in full; or Commonwealth Bank of Australia Annual Report 2008 163 Notes to the Financial Statements Note 31 Loan Capital (continued) • All PERLS IV have been exchanged. PERLS IV are expected to be exchanged for cash or converted into ordinary shares of the Bank on 31 October 2012. However, exchange may not occur if certain conditions are not met. On 31 October 2012; • The Bank may arrange a resale by requiring all Holders to sell their PERLS IV to a third party for $200 (the face value); • • • If the Bank does not arrange a resale, an Assignment Event will occur and PERLS IV will convert into a variable number of ordinary shares of the Bank subject to some conditions relating to the ordinary share price at the time; If these conversion conditions are not satisfied on that date, then the conversion date moves to the next distribution payment date on which they are satisfied; and In certain circumstances, where the conversion conditions are not satisfied, the Bank may (subject to APRA’s prior approval) elect to repurchase all PERLS IV for $200 each. The Bank may, subject to APRA’s prior approval, elect to exchange all PERLS IV for cash and/or ordinary shares if any of the following occurs: • Tax Event; • Regulatory Event; and • Non-Operating Holding Company (NOHC) Event. The Bank’s ability to convert PERLS IV on the occurrence of any of these events is subject to same conversion conditions as mentioned above. If a change of control event occurs, Holders will receive cash for all of their PERLS IV (subject to APRA’s approval). Holders are not entitled to request exchange or redemption of PERLS IV. Holders of PERLS IV have no right to vote at any meeting of the Bank except in the following specific circumstances: • during a period during which a Dividend (or part of a Dividend) in respect of the Preference Shares is in arrears; • on a proposal to reduce the Bank’s share capital; • on a proposal that affects rights attached to Preference Shares; • on a resolution to approve the terms of a buy-back agreement; • on a proposal to wind up the Bank; • on a proposal for the disposal of the whole of the Bank’s property, business and undertaking; and • during the winding-up of the Bank. (9) TPS 2006 On 15 March 2006 a wholly owned entity of the Bank issued USD 700 million (AUD 942 million) of perpetual non-call 10 year trust preferred securities into U.S. Capital Markets. Each trust preferred security represents a preferred beneficial ownership interest in the assets of CBA Capital Trust II. The trust preferred securities are guaranteed by CBA. The trust preferred securities form part of the Bank’s innovative residual Tier One capital. 164 Commonwealth Bank of Australia Annual Report 2008 CBA Capital Trust II is a statutory trust established under Delaware law that exists for the purpose of issuing the trust preferred securities, acquiring and holding the subordinated notes issued by a CBA NZ subsidiary, the subordinated notes guarantee and the CBA preference shares. Cash distributions on the trust preferred securities are at the fixed rate of 6.024% payable semi-annually to 15 March 2016. Cash distributions on the trust preferred securities will accrue at the rate of LIBOR plus 1.740% per annum payable quarterly in arrears after that date. Cash distributions on the trust preferred securities will be limited to the interest CBA NZ Subsidiary pays on the subordinated notes, payments in respect of interest on the subordinated notes by CBA NZ Branch as guarantor under the subordinated notes guarantee and, after 15 March 2016, the dividends CBA pays on the CBA preference shares. Payments in respect of cash distributions will be guaranteed on a subordinated basis by CBA, as guarantor, but only to extent CBA Capital Trust II has funds sufficient for the payment. There are restrictions on CBA NZ Subsidiary’s ability to make payments on the subordinated notes, CBA NZ Branch’s ability to make payments on the CBA NZ Branch notes and the subordinated notes guarantee and CBA’s ability to make payments on the CBA preference shares. Distributions on the trust preferred securities are not cumulative. Failure to pay in full a distribution within 21 business days will result in the distribution to holders of one CBA preference share for each trust preferred security held in redemption of the trust preferred securities. If CBA Capital Trust II is liquidated, dissolved or wound up and its assets are distributed, for each trust preferred security, holders are entitled to receive the stated liquidation amount of USD 1,000, plus the accrued but unpaid distribution for the then current distribution payment period, after it has paid liabilities it owes to its creditors. The trust preferred securities are subject to redemption for cash, qualifying Tier One securities or CBA preference shares if CBA redeems or varies the terms of the CBA preference shares. The trust preferred securities are also subject to redemption if any other Assignment Event occurs. If the CBA preference shares are redeemed for qualifying Tier One securities or the terms thereof are varied, holders will receive one CBA preference share or USD 1,000 liquidation amount or similar amount of qualifying Tier One securities for each trust preferred security held. Holders of trust preferred securities generally will not have any voting rights except in limited circumstances. The holders of a majority in liquidation amount of the trust preferred securities, acting together as a single class, however, have the right to direct the time, method and place of conducting any proceeding for any remedy available to the property trustee of CBA Capital Trust II or direct the exercise of any trust or power conferred upon the property trustee of CBA Capital Trust II, as holder of the subordinated notes and the CBA preference shares. Note 31 Loan Capital (continued) Trust preferred securities holders have the right to bring a direct action against: • CBA NZ Subsidiary if CBA NZ Subsidiary does not pay when due, interest on the subordinated notes or certain other amounts payable under the subordinated notes to CBA Capital Trust II in accordance with their terms; • The Bank if it does not perform its obligations under the trust guarantee; and • CBA NZ Branch or the Bank if CBA NZ Branch does not the subordinated notes perform guarantee or under the CBA NZ Branch notes. its obligations under The Bank will guarantee the trust preferred securities: • Cash distributions on the trust preferred securities by CBA Capital Trust II to holders of trust preferred securities on distribution payment dates, to the extent CBA Capital Trust II has funds available for distribution; • The cash redemption amount due to holders of trust preferred securities if CBA Capital Trust II is obligated to redeem the trust preferred securities for cash, to the extent CBA Capital Trust II has funds available for distribution; • The delivery of CBA preference shares or qualifying Tier One securities to holders of trust preferred securities if CBA Capital Trust II is obligated to redeem the trust preferred securities for CBA preference shares or qualifying Tier One securities, to the extent CBA Capital Trust II has or is entitled to receive such securities available for distribution; and • The payment of the liquidation amount of the trust preferred securities if CBA Capital Trust II is liquidated, to the extent that CBA Capital Trust II has funds available for distribution. trust guarantee does not cover The to pay distributions or make other payments or distributions on the trust preferred securities to the extent that CBA Capital Trust II does not have sufficient funds available to pay distributions or make other payments or deliveries on the trust preferred securities. failure the Upon the occurrence of an Assignment Event, with respect to the subordinated notes comprising a part of the units CBA Capital Trust II holds to which such Assignment Event applies: • The subordinated notes will detach from the CBA preference shares that are part of those units and automatically be transferred to CBA; • • If the Assignment Event is the cash redemption of CBA preference shares, upon receipt, CBA Capital Trust II will pay to the holders of the trust preferred securities called for redemption the cash redemption price for those CBA preference shares and the accrued and unpaid interest on the subordinated notes that were part of the units with those CBA preference shares; and If the Assignment Event is not the cash redemption of CBA preference shares, CBA Capital Trust II will deliver to all holders of trust preferred securities in redemption thereof one CBA preference share for each USD 1,000 liquidation preference of trust preferred securities to be redeemed or, if qualifying Tier One securities are delivered, USD 1,000 liquidation amount or similar amount of qualifying Tier One securities for each USD 1,000 liquidation amount of trust preferred securities to be redeemed, and the CBA preference shares or qualifying Tier One securities will accrue non- cumulative dividends or similar amounts at the rate of 6.024% per annum to but excluding March 15, 2016 and at the rate of LIBOR plus 1.740% per annum thereafter. Notes to the Financial Statements If the Bank is liquidated, holders of CBA preference shares will be entitled to receive an amount equal to a liquidation preference out of surplus assets of USD 1,000 per CBA preference share plus accrued and unpaid dividends for the then current dividend payment period plus any other dividends or other amounts to which the holder is entitled under the Constitution. Subject to APRA’s prior approval, prior to the occurrence of an Assignment Event that applies to all of the subordinated notes, the Bank may pay an optional dividend on the CBA preference shares if CBA NZ Subsidiary or CBA NZ Branch, as guarantor, has failed to pay in full interest on the subordinated notes or the Bank has failed to pay in full dividends on the CBA preference shares on any interest payment date and/or dividend payment date. On or after 15 March 2016, the Bank may redeem the CBA preference shares for cash, in whole or in part, on any date selected by us at a redemption price equal to USD 1,000 per share plus any accrued and unpaid dividends for the then current dividend payment period, if any. Prior to 15 March 2016, the Bank may redeem the CBA preference shares for cash, vary the terms of the CBA preference shares or redeem the CBA preference shares for qualifying Tier One securities, in whole but not in part, on any date selected by the Bank: • • If the CBA preference shares are held by CBA Capital Trust II, upon the occurrence of a trust preferred securities tax event, an adverse tax event, an investment Company event or a regulatory event; or If the CBA preference shares are not held by CBA Capital Trust II, upon the occurrence of a preference share withholding tax event, an adverse tax event or a regulatory event. Holders of CBA preference shares will be entitled to vote together with the holders of our ordinary shares on the basis of one vote for each CBA preference share: • During a period in which a dividend (or part of a dividend) in respect of the CBA preference shares is in arrears; • On a proposal to reduce share capital; • On a proposal that affects rights attached to the CBA preference shares; • On a resolution to approve the terms of a Buy-back agreement; • On a proposal for the disposal of the whole of the Group’s property, business and undertaking; and • On a proposal to wind up and during the winding up of the Group. The rights attached to the CBA preference shares may not be changed except with any required regulatory approvals and with the consent in writing of the holders of at least 75% of the CBA preference shares. the CBA NZ Subsidiary may not make payments on subordinated notes, CBA NZ Branch may not make payments on the subordinated notes guarantee or the CBA NZ Branch notes and CBA may not make payments on the CBA preference shares if an APRA condition exists; if a CBA stopper resolution has been passed and not been rescinded or if CBA NZ Subsidiary, CBA NZ branch or CBA, as the case may be, is prohibited from making such a payment by instruments or other obligations of CBA. Commonwealth Bank of Australia Annual Report 2008 165 (10) AUD denominated Tier Two Loan Capital issuances • AUD 275 million extendible floating rate note issued December 1989, due December 2014; The Bank has entered into a separate agreement with the Commonwealth of Australia relating to the above issue (the “Agreement”) which qualifies the issue as Tier Two capital. The Agreement provides for the Bank to issue either fully paid ordinary shares to the Commonwealth of Australia or (with the consent of the Commonwealth of Australia) rights to all shareholders to subscribe for fully paid ordinary shares up to an amount equal to the outstanding principal value of the note issue plus any interest paid in respect of the notes for the most recent financial year and accrued interest. The issue price will be determined by reference to the prevailing market price for the Bank’s shares. Any one or more of the following events will trigger the issue of shares to the Commonwealth of Australia or a rights issue: • A relevant event of default occurs in respect of the note issue and, where applicable, the Trustee of the notes gives notice of such to the Bank; • The Bank, if required by the Commonwealth of Australia and subject to the agreement of the APRA, exercises its option to redeem such issue; or • Any payment made by the Commonwealth of Australia pursuant to its guarantee in respect of the issue will trigger the issue of shares to the Commonwealth of Australia to the value of such payment. Original issue size was $300 million; $25 million matured in December 2004. • AUD 25 million subordinated FRN, issued April 1999, due April 2029. • AUD 130 million subordinated notes comprised as follows: AUD 10 million fixed rate notes issued 12 December 1995, matured 12 December 2005. AUD 110 million floating rate notes issued 12 December 1995, matured 12 December 2005. AUD five million fixed rate notes issued 17 December 1996, matured 12 December 2005. AUD five million floating rate notes issued 17 December 1996, matured 12 December 2005. • AUD 500 million subordinated notes, issued February 2004, due February 2014; split into AUD 300 million fixed rate notes and AUD 200 million floating rate notes. • AUD 300 million subordinated floating rate notes, issued February 2005, due February 2015. • AUD 300 million subordinated floating rate notes, issued November 2005, due November 2015. • AUD 200 million subordinated floating rate notes, issued September 2006, due September 2016. • AUD 500 million subordinated notes, issued May 2007, due May 2017; split into AUD 150 million fixed rate notes and AUD 350 million floating rate notes. Notes to the Financial Statements Note 31 Loan Capital (continued) If distributions, interest or dividends are not paid in full on a payment date; the redemption price is not paid or securities are not delivered in full on a redemption date for the trust preferred securities or the CBA preference shares, then the Bank may not pay any interest; declare or pay any dividends or distributions from the income or capital of CBA, or return any capital or undertake any buy-backs, redemptions or repurchases of existing capital securities or any securities, or instruments of CBA that by their terms rank or are expressed to rank equally with or junior to the CBA NZ Branch notes or the CBA preference shares for payment of interest, dividends or similar amounts unless and until, • • • In the case of any non-payment of distributions on the trust preferred securities on any distribution payment date, on or within 21 business days after any distribution payment date, CBA Capital Trust II or CBA, as guarantor, has paid in full to the holders of the trust preferred securities any distributions owing in respect of that distribution payment date through the date of actual payment in full; In the case of any non-payment of a dividend on the CBA preference shares on any dividend payment date, CBA has paid (A) that dividend in full on or within 21 business days after that dividend payment date, (B) an optional dividend equal to the unpaid amount of scheduled dividends for the 12 consecutive calendar months prior to the payment of such dividend or (C) dividends on the CBA preference shares in full on each dividend payment date during a 12 consecutive month period; interest on the case of any non-payment of In the subordinated notes on any interest payment date, (A) on or within 21 business days after any interest payment date, (i) CBA NZ Subsidiary or CBA NZ Branch, as guarantor, has paid in full to the holders of the subordinated notes any interest and other amounts owing in respect of that interest payment date (excluding defaulted note interest) through the date of actual payment in full or (ii) with the prior approval of APRA, CBA has paid in full to holders of the subordinated notes an assignment prevention optional dividend in an amount equal to such interest and any other amounts, or (B) CBA has paid dividends on the CBA preference shares in full on each dividend payment date during a 12 consecutive month period; and • In the case of any non-payment of the redemption price or non-delivery of the securities payable or deliverable with respect to CBA preference shares or the trust preferred securities, such redemption price or securities have been paid or delivered in full, as applicable. then there are restrictions on the Bank paying any interest on equal ranking or junior securities. 166 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 31 Loan Capital (continued) (11) USD denominated Tier Two Loan Capital issuances (13) GBP denominated Tier Two Loan Capital issuances • GBP 200 million subordinated EMTN, issued March 1996, • USD 300 million subordinated notes, issued June 2000, due matured December 2007. June 2010. • GBP 150 million subordinated EMTN, issued June 2003, due • USD 400 million subordinated EMTN, issued June 1996, December 2023. matured July 2006. (14) Other currencies Tier Two Loan Capital issuances • USD 350 million subordinated fixed rate note, issued June • EUR 300 million subordinated EMTN, issued March 2005, 2003, due June 2018. due March 2015. • USD 500 million subordinated EMTN issued June 2004 (USD 250 million) and August 2004 (USD 250 million), due August 2014. • USD 100 million subordinated EMTN, issued March 2005, due March 2025. Partial redemption of USD 39.5 million in September 2005. • CAD 300 million subordinated notes, issued November 2005, due November 2015. • CAD 300 million subordinated notes, issued October 2007, due October 2017. • NZD 350 million subordinated notes, issued May 2005, due April 2015. • USD 200 million subordinated notes, issued June 2006, due • NZD 183 million subordinated notes issued June 2006, due July 2016. June 2016. • USD 300 million subordinated floating rate notes, issued September 2006, due September 2016. • USD 650 million subordinated floating rate notes, issued December 2007, due December 2016. (12) JPY denominated Tier Two Loan Capital issuances • JPY 20 billion perpetual subordinated EMTN, issued February 1999. • JPY 30 billion subordinated EMTN, issued October 1995 due October 2015. • JPY 10 billion subordinated EMTN, issued May 2004, due May 2034. • JPY 10 billion subordinated notes, issued November 2005, due November 2015. • JPY 5 billion subordinated loan, issued March 2006, due March 2018. Commonwealth Bank of Australia Annual Report 2008 167 Notes to the Financial Statements Note 32 Detailed Statements of Changes in Equity Equity Reconciliations Ordinary Share Capital Opening balance Issue of shares Dividend reinvestment plan Exercise of executive options under employee share ownership schemes (Purchase)/sale and vesting of treasury shares (1) Closing balance Other Equity Instruments Opening balance Closing balance Retained Profits Opening balance Loyalty program adjustment Restated opening balance Actuarial (losses)/gains from defined benefit superannuation plans Realised gains and dividend income on treasury shares held within the Group’s life insurance statutory funds (1) Operating profit attributable to Equity holders of the Bank Total available for appropriation Transfers (to)/from general reserve Transfers from general reserve for credit losses Interim dividend – cash component (2) Interim dividend – dividend reinvestment plan Final dividend – cash component Final dividend – dividend reinvestment plan Other dividends Closing balance 2008 $M 14,483 141 1,109 3 (9) 15,727 939 939 6,367 (5) 6,362 (240) 26 4,791 10,939 (85) 350 (1,087) (400) (1,229) (709) (32) 7,747 Group 2007 $M 13,505 - 818 19 141 14,483 939 939 4,487 - 4,487 414 45 4,470 9,416 54 - (862) (518) (1,368) (300) (55) 6,367 2008 $M 14,691 141 1,109 3 (17) 15,927 1,895 1,895 6,315 (5) 6,310 (240) - 4,358 10,428 - 350 (1,087) (400) (1,229) (709) - 7,353 Bank 2007 $M 13,766 - 818 19 88 14,691 1,895 1,895 4,472 - 4,472 414 - 4,477 9,363 - - (862) (518) (1,368) (300) - 6,315 (1) Relates to movement in treasury shares held within life insurance statutory funds and the employee share scheme trust. (2) Includes $98 million of shares purchased on-market to partly satisfy the Dividend Reinvestment Plan. 168 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 32 Detailed Statements of Changes in Equity (continued) Reserves General Reserve Opening balance Appropriation from/(to) retained profits Closing balance Capital Reserve Opening balance Revaluation surplus on sale of property Closing balance Asset Revaluation Reserve Opening balance Revaluation of properties Transfers on sale of properties Tax on revaluation of properties Closing balance Foreign Currency Translation Reserve Opening balance Currency translation adjustments of foreign operations Currency translation on net investment hedge Tax on translation adjustments Tax on net investment hedge movement Closing balance Cash Flow Hedge Reserve Opening balance Gains and losses on cash flow hedging instruments: Recognised in equity Transferred to Income Statement Interest income Interest expense Tax on cash flow hedging instruments Closing balance Employee Compensation Reserve Opening balance Current period movement Closing balance General Reserve for Credit Losses (1) Opening balance Transfer to retained profits Closing balance Available-for-Sale Investments Reserve Opening balance Net gains and losses on revaluation of available-for-sale investments Net gains and losses on available-for-sale investments transferred to Income Statement on disposal Tax on available-for-sale investments Closing balance Total reserves Shareholders’ equity attributable to Equity holders of the Bank Shareholders’ equity attributable to minority interests Total Shareholders’ equity 2008 $M 1,167 85 1,252 287 6 293 185 20 (6) (4) 195 (200) (555) (93) 23 30 (795) 440 422 88 (661) 52 341 (51) 12 (39) 350 (350) - (35) 262 Group 2007 $M 1,221 (54) 1,167 285 2 287 131 79 (2) (23) 185 (241) 54 - (13) - (200) 59 429 67 53 (168) 440 34 (85) (51) 350 - 350 65 28 2008 $M 570 - 570 1,538 6 1,544 157 19 (6) (4) 166 (126) (103) - 1 - (228) 211 426 86 (404) (27) 292 (51) 12 (39) 350 (350) - (27) 240 Bank 2007 $M 570 - 570 1,536 2 1,538 107 75 (2) (23) 157 (6) (119) - (1) - (126) 6 125 88 79 (87) 211 34 (85) (51) 350 - 350 60 18 (312) 44 (41) 1,206 25,619 518 26,137 (138) 10 (35) 2,143 23,932 512 24,444 (272) 7 (52) 2,253 27,428 - 27,428 (119) 14 (27) 2,622 25,523 - 25,523 (1) The Group was previously required to maintain a Prudential General Reserve for Credit Losses (“GRCL”), however, as this is no longer required it has been returned to Retained Profits. Commonwealth Bank of Australia Annual Report 2008 169 Notes to the Financial Statements Note 32 Detailed Statements of Changes in Equity (continued) The following table shows the gross amount of deferred gains/(losses) in relation to cash flow hedges. Cash Flow Hedges – Deferred Gains/(Losses) Within 6 months Within 6 months – 1 year Within 1 – 2 years Within 2 – 5 years After 5 years Net deferred gains Within 6 months Within 6 months – 1 year Within 1 – 2 years Within 2 – 5 years After 5 years Net deferred gains/(losses) Exchange Rate Related Contracts Interest Rate Related Contracts 2008 $M 59 - - - 1 60 2007 $M 39 - - - - 39 2008 $M 43 30 72 137 144 426 2007 $M 10 228 123 199 38 598 Exchange Rate Related Contracts Interest Rate Related Contracts 2008 $M 34 - - - (8) 26 2007 $M (4) - - - (13) (17) 2008 $M 31 16 65 132 142 386 2007 $M 2 200 59 22 36 319 Group Total 2007 $M 49 228 123 199 38 637 Bank Total 2007 $M (2) 200 59 22 23 302 2008 $M 102 30 72 137 145 486 2008 $M 65 16 65 132 134 412 170 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 33 Share Capital Issued and Paid Up Ordinary Capital Ordinary Share Capital Opening balance (excluding Treasury Shares deduction) Dividend reinvestment plan: Final dividend prior year Dividend reinvestment plan: Interim dividend Share Issue – IWL acquisition Exercise of executive options under employee share ownership schemes Closing balance (excluding Treasury Shares deduction) Less: Treasury Shares Closing balance Shares on Issue Opening balance (excluding Treasury Shares deduction) Dividend reinvestment plan issues: 2005/2006 Final dividend fully paid ordinary shares at $45.24 2006/2007 Interim dividend fully paid ordinary shares at $50.02 2006/2007 Final dividend fully paid ordinary shares at $54.80 2007/2008 Interim dividend fully paid ordinary shares at $39.44 Share Issue – IWL acquisition Exercise of executive options under employee share ownership schemes Closing balance (excluding Treasury Shares deduction) Less: Treasury Shares Closing balance Terms and Conditions of Ordinary Share Capital 2008 $M 14,738 709 400 141 3 15,991 (264) 15,727 Group 2007 $M 13,901 300 518 - 19 14,738 (255) 14,483 2008 $M 14,738 709 400 141 3 15,991 (64) 15,927 Bank 2007 $M 13,901 300 518 - 19 14,738 (47) 14,691 Shares Shares Shares Shares 1,300,583,376 1,282,904,909 1,300,583,376 1,282,904,909 - - 12,938,969 10,156,101 2,327,431 125,000 6,638,553 10,343,514 - - - 696,400 6,638,553 10,343,514 - - - 696,400 1,326,130,877 1,300,583,376 1,326,130,877 1,300,583,376 (1,198,015) 1,318,142,864 1,292,971,632 1,324,343,431 1,299,385,361 - - 12,938,969 10,156,101 2,327,431 125,000 (7,611,744) (7,988,013) (1,787,446) Ordinary shares have the right to receive dividends as declared and in the event of winding up the Company, to participate in the proceeds from sale of surplus assets in proportion to the number of and amounts paid up on shares held. A shareholder has one vote on a show of hands and one vote for each fully paid share on a poll. A shareholder may be present at a general meeting in person or by proxy or attorney, and if a body corporate, it may also authorise a representative. Other Equity Instruments Other equity instruments issued and paid up 2008 $M 939 Group 2007 $M 939 2008 $M 1,895 Bank 2007 $M 1,895 Shares 700,000 Shares 700,000 Shares 1,400,000 Shares 1,400,000 Trust Preferred Securities 2006 On 15 March 2006 the Bank issued USD 700 million ($947 million) of trust preferred securities into the U.S. capital markets. These securities offer a non-cumulative fixed rate of distribution of 6.024% per annum payable semi-annually. These securities qualify as Tier One Capital of the Bank. A related instrument was issued by the Bank to a subsidiary for $956 million and eliminates on consolidation. Commonwealth Bank of Australia Annual Report 2008 171 Notes to the Financial Statements Note 33 Share Capital (continued) Changes Since 2007 Dividends The Directors have declared a fully franked final dividend of 153 cents per share amounting to $2,029 million. The dividend will be payable on 1 October 2008 to shareholders on the register at 5pm on 22 August 2008. The Board determines the dividends per share based on net profit after tax (“cash basis”) per share, having regard to a range of factors including: • Current and expected rates of business growth and the mix of business; As a result of the Group’s long term incentive arrangements in 2007, the ERP has ceased to operate. To strengthen the alignment between Shareholder interests and executives who previously participated in the ERP, one third of their short term incentive payments will be deferred into Bank shares for three years under the Leadership Incentive Share Plan (LISP). The first deferral commenced on 1 July 2007. The LISP arrangement is governed by the Rules of the EPP. From 1 July 2007 the CEO and Group Executives received long term incentives under the new Group Leadership Share Plan • Capital needs to support economic, regulatory and credit (GLSP). The GLSP provides participants with the opportunity to ratings requirements; • The rate of return on assets; • Investments and/or divestments development; share in a pool of performance rights at the end of the three year measurement period subject to satisfaction of performance to support business hurdles. Employee Share Acquisition Plan (“ESAP”) The ESAP was introduced in 1996 and provides employees with the opportunity to receive up to $1,000 worth of free shares each year if the Group meets the required performance target. The performance target is growth in annual profit of the greater of 5% or the consumer price index (CPI change) plus 2%. Whenever annual profit growth exceeds CPI change, the Board may use its discretion in determining whether any grant of shares will be made. Under ESAP, shares granted are restricted for sale for three years or until such time as the participating employee ceases employment with the Group, whichever is earlier. Shares granted under the ESAP receive full dividend entitlements, voting rights and there are no forfeiture or vesting conditions attached to the shares granted. Effective from 1 July 2002, shares granted under ESAP offers have been expensed through the profit and loss. On 29 August 2007, 455,094 shares were granted to 25,283 eligible employees in respect of the 2007 ESAP grant. The Issue Price for the offer is equal to the volume weighted average of the prices at which the CBA shares were traded on the ASX during the 5 trading day period up to and including the grant date. For the 2007 grant, this was $54.78. The Group has determined to modify the allocation to each eligible employee in respect of the 2008 grant. The grant value will be differentiated based on individual performance ratings for the 2008 financial year for eligible employees. Accordingly, it is estimated that $12 million worth of shares will be purchased on- market at the prevailing market price. • Competitors comparison and market expectation; and • Earnings per share growth. Dividends paid since the end of the previous financial year: As declared in the 31 December 2007 Profit Announcement, a fully franked interim dividend of 113 cents per share amounting to $1,487 million was paid on 2 April 2008. The payment comprised cash disbursements of $989 million with $498 million the Dividend being Reinvestment Plan, of which $98 million of shares were provided by an on-market purchase. reinvested by participants through Dividend Reinvestment Plan The Bank expects to issue around $609 million of shares in respect of the Dividend Reinvestment Plan for the final dividend for the 2008 financial year. Record date The register closed for determination of dividend entitlement and for participation in the dividend reinvestment plan at 5pm on 22 August 2008 at Link Market Services Limited, Locked Bag A14, Sydney South, 1235. Ex-dividend Date The ex-dividend date was 18 August 2008. Employee Share Plans The Group had the following employee share plans in place during the year ended 30 June 2008: • Commonwealth Bank Employee Share Acquisition Plan (“ESAP”); • Commonwealth Bank Equity Participation Plan (“EPP”); • Commonwealth Bank Group Leadership Share Plan (“GLSP”); • Commonwealth Bank Equity Reward Plan (“ERP”); and • Commonwealth Bank Non-Executive Directors Share Plan (“NEDSP”). The current ESAP and ERP arrangements were each approved by Shareholders at the Annual General Meeting (“AGM”) on 26 October 2000. The GLSP was approved by Shareholders at the AGM on 7 November 2007. Shareholders’ consent was not required for either the EPP or NEDSP but details were included in the Explanatory Memorandum to the 2000 meeting to ensure Shareholders were fully informed. 172 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements The participant may also direct the Trustee on how the voting rights attached to the shares are to be exercised during the vesting period. Where participating employees do not satisfy the vesting conditions, shares and dividend rights are forfeited. Shares acquired under the EPP are expensed. In the current year, $17 million was expensed to reflect the cost of allocations under the Plan. This current year expense is higher than last year’s due to the inclusion of the LISP grant since July 2007. All shares acquired by employees under the EPP are purchased on-market at the current market price. A total number of 9,008,053 shares have been acquired under the EPP since the plan commenced in 2001. For a limited number of executives a cash-based LISP replicator scheme is operated by way of grants of Performance Units – the Leadership Incentive (Performance Unit) Plan (“LIPUP”). A Performance Unit is a monetary unit with a value linked to the share price of Commonwealth Bank shares. Performance Units granted under LIPUP are subject to the same vesting conditions as the LISP. On meeting the vesting condition, a cash payment is made to executives, the value of which is determined based on the Group’s share price upon vesting plus an accrued dividend value. A total of $0.7 million for the LIPUP has been expensed in respect of the year ended 30 June 2008. Note 33 Share Capital (continued) Equity Participation Plan (“EPP”) The EPP comprises a voluntary and a mandatory component. The voluntary component facilitates the voluntary sacrifice of both fixed remuneration and annual short term incentives (STI) to be applied in the acquisition of shares. The sacrifice of one third of STI payments for executives under the Leadership Incentive Plan (“LISP”) forms the mandatory part of the EPP. The LISP was introduced on 1 July 2007. Under the voluntary component of the EPP, shares purchased are restricted for sale for two years or when a participating employee ceases employment with the Group, whichever is earlier. Shares purchased under the voluntary component of the EPP carry full dividend entitlements, voting rights and there are no forfeiture or vesting conditions attached to the shares. Under the mandatory component of the EPP, fully paid ordinary shares are purchased and held in trust until such time as the vesting conditions have been met. The vesting condition attached to the shares specifies that participants must generally remain employees of the Group until the vesting date. Shares previously granted under the mandatory component of the EPP remain subject to their vesting conditions. Each participant in the mandatory component of the EPP for whom shares are held by the Trustee on their behalf has a right to receive dividends. Once the shares vest, dividends which have accrued in the trust during the vesting period are paid to participants. Details of purchases under the EPP from 1 July 2007 to 30 June 2008 were as follows: Allotment Date 20 August 2007 3 September 2007 7 September 2007 4 March 2008 Participants 60 81 298 74 Shares Purchased 8,279 57,488 652,055 19,284 Average Purchase Price $52.81 $55.19 $55.06 $39.85 The movement in shares purchased under the mandatory component of the EPP has been as follows: Details of Movements Shares held under the Plan at the beginning of year (no.) Shares allocated during year (no.) Shares vested during year (no.) Shares forfeited during year (no.) Shares held under the Plan at end of year (no.) July 07 – June 08 63,444 652,055 (21,148) (80,322) 614,029 July 06 – June 07 823,084 - (759,640) - 63,444 Commonwealth Bank of Australia Annual Report 2008 173 Notes to the Financial Statements Note 33 Share Capital (continued) Group Leadership Share Plan (GLSP) Effective 1 July 2007, the GLSP is the Group’s long term incentive plan for the CEO and Group Executives. Under the GLSP, participants will share in a pool that may vest at the end of the three year performance period subject to satisfaction of the performance conditions. For grants made in 2007/08, participants will share in a pool to the value of 2.2% of the growth in the Group’s Net Profit after Capital Charge (PACC), capped at a maximum pool of $34 million subject to performance against both of the following performance hurdles: • The Group’s NPAT growth over the three year period must be above the average of NPAT growth of the peer group (ANZ, NAB, St George and Westpac); and • The Group’s customer satisfaction relative to the peer group. The current GLSP grant is measured from 1 July 2007 and may vest depending on performance to 1 July 2010. In order to determine the Group’s level of achievement against the customer satisfaction performance hurdle, scores are taken for both the Group and the peer group from independent external surveys. A ranking is then determined and a vesting scale applied. If the Bank’s NPAT is below the average of the peer group, then nothing will vest regardless of the Bank’s customer satisfaction ranking. The GLSP will provide reward shares to the participants if and when grants vest. The number of reward shares to vest will be determined by the value of the pool that vests at the end of the performance period and the share price at the end of the relevant performance period. As the GLSP commenced on 1 July 2007, no share grants have been made in 2007/08. A total of $3.7 million has been expensed in respect of the year ended 30 June 2008. Further details of the GLSP are available in the Remuneration Report. Equity Reward Plan (ERP) The ERP was the Group’s previous long term incentive arrangement for executives, which has since been replaced by the GLSP and LISP arrangements. No grants were made under the ERP during the 2008 financial year. The last allocation under the ERP and ERPUP was made in July 2006. These shares are due to be tested for vesting in July 2009. No further grants will be made under the ERP. The Board envisaged that up to a maximum of 500 employees would participate each year in the ERP. Previous grants under the ERP were in two parts, comprising grants of options, where recipients pay a set exercise price to convert each option to one CBA share once the option has vested, and grants of shares, where no exercise price is payable for participants to receive CBA shares upon vesting. Since 2001/02, no options have been issued under the ERP. From 2002/03, Reward Shares have only been issued under this plan. The exercise of previously granted options and the vesting of employee legal title to the shares are conditional on the Group achieving a prescribed performance hurdle. The ERP performance hurdle is based on relative Total Shareholder Return (TSR) with the Group’s TSR performance being measured against a comparator group of companies. TSR is calculated by combining the reinvestment of dividends and share price movements over the period. 174 Commonwealth Bank of Australia Annual Report 2008 For Reward Shares granted from 2002/03 to 2005/06 inclusive, a tiered vesting scale was applied so that 50% of the allocated shares vest if the Group’s TSR return is equal to the 50th percentile, 75% vest at the 67th percentile and 100% when the Group’s return is in the top quartile. The minimum vesting period is three years. There are then four retesting opportunities until the maximum five year vesting period concludes. All unvested Reward Shares remaining in the Plan at the end of the vesting period are forfeited. Employees who exit the Group before the grant vests forfeit their allocation. Where the performance rating is at least at the 50th percentile on the third anniversary of the grant, the shares will vest at a time nominated by the executive, within the trading windows, over the next two years. The vesting percentage will be at least that achieved on the third anniversary of the grant and the executive will be able to delay vesting until a subsequent half yearly window prior to the fifth anniversary of the grant. The vesting percentage will be calculated by reference to the rating at that time. Where the rating is below the 50th percentile on the third anniversary of grant, the shares can still vest if the rating reaches the 50th percentile prior to the fifth anniversary, but the maximum vesting will be 50%. For Reward Shares granted in 2006/07 a straight line vesting scale is applied, with 50% vesting at the 51st percentile, through to 100% vesting at the 75th percentile. The minimum vesting period for these grants is three years. Further retesting is restricted to one occasion, 12 months after initial testing, giving a maximum vesting period of four years. All unvested Reward Shares remaining in the Plan at the end of the vesting period are forfeited. Employees who exit the Group before the grant vests forfeit their allocation. During the vesting period, Reward Shares are held in Trust. Each participant on behalf of whom Reward Shares are held by the Trustee has a right to receive dividends. If the shares vest, dividends are paid in relation to those accrued during the vesting period. The participant may also direct the Trustee on how the voting rights attached to the shares are to be exercised during the vesting period. Reward Shares acquired under the share component of the ERP are purchased on-market at the current market price. In the current year, a total of $13 million has been expensed. The current year expense is lower than last year’s due the inclusion last year of an additional cost of $12 million incurred from the modification to the performance hurdle of the Plan in 2005/06. The fair value of shares allocated under the ERP is expensed over three to five years, reflecting the expected vesting period. (Performance Unit) Plan For a limited number of executives a cash-based ERP replicator scheme is operated by way of grants of Performance Units – the (ERPUP). A Equity Reward Performance Unit is a monetary unit with a value linked to the share price of Commonwealth Bank shares. Performance Unit grants are subject to the same vesting conditions as the ERP. On meeting the vesting condition, a cash payment is made to executives the value of which is determined based on the Group’s share price on vesting plus an accrued dividend value. A total of $11 million for the ERPUP has been expensed in respect of the year ended 30 June 2008. The current year expense is lower than last year’s due to the inclusion of an additional cost last year of $18.7 million incurred from the modification to the Plan in 2007. Executive options issued up to September 2001 have not been recorded as an expense by the Group. Notes to the Financial Statements Note 33 Share Capital (continued) Details of movements in ERP options and shares are as follows: Options – Details of Movements Year of Grant Exercise Price (1) (2) July 2007 – June 2008 (4) (3) July 2006 – June 2007 (4) (3) 2001 $30.12 2000 $26.97 2001 $30.12 2000 $26.97 Held by participants at the start of the year (no.) Granted during year (no.) Exercised during year (no.) Lapsed during year (no.) Outstanding at the end of year (no.) Total consideration paid due to exercises to date of report (5) 97,500 - - - 97,500 - 426,600 - (112,500) - 314,100 $3,388,500 137,500 - (40,000) - 97,500 $1,078,800 753,500 - (326,900) - 426,600 $9,846,228 (1) The Exercise Price is the market value at the commencement date. Market value is defined as the weighted average of the prices at which shares were traded on the ASX during the one week period before the commencement date. This is the average exercise price. (2) The premium adjustment (based on the actual difference between the dividend and bond yields at the date of vesting) was nil. (3) Performance hurdle was satisfied on 31 March 2004 and options may be exercised up to 13 September 2010. (4) Performance hurdle was satisfied on 3 October 2004 and options may be exercised up to 3 September 2011. (5) No amount is unpaid in respect of the shares issued upon exercise of options during the above period. Reward Shares – Details of Movements Year of Grant -Total Reward Shares Held by participants at the start of year (no.) Allocated during year (no.) (1) Vested during year (no.) Lapsed during year (no.) Outstanding at the end of year (no.) (4) 2004 297,395 282,645 (540,290) (39,750) - July 2007 – June 2008 (6) (5) 2005 411,937 - - (66,363) 345,574 2006 440,854 - - (66,090) 374,764 (2) 2002 241,850 - (219,500) (22,350) - (3) 2003 348,650 321,150 (639,300) (30,500) - (4) 2004 423,685 - - (126,290) 297,395 2005 522,748 13,117 - (123,928) 411,937 2006 - 505,574 - (64,720) 440,854 July 2006 – June 2007 (6) (5) (1) The total number of shares allocated during the year represents the number of shares allocated and may not represent the total number that may vest at a later date. The Group purchases 50% of the maximum number of shares a participant may receive. Additional shares are purchased if required to fulfil the Group’s obligations to vest shares in participants once the performance of the ERP grant is known. (2) Performance hurdle was satisfied on 2 October 2006 when 50% of the maximum allocation of this grant vested. (3) Performance hurdle was satisfied on 3 October 2006 when 100% of the maximum allocation of this grant vested. (4) Performance hurdle was satisfied on 23 September 2007 when 100% of the maximum allocation of this grant vested. (5) This grant will be tested for vesting on 15 July 2008. If performance is below the 75th percentile, retests will be conducted each six months until 15 July 2010. (6) This grant will be tested for vesting on 14 July 2009. If performance is below the 75th percentile, one retest will be conducted 12 months later on 15 July 2010. Non-Executive Directors Share Plan (NEDSP) The NEDSP provides for the acquisition of shares by Non- Executive Directors through the mandatory sacrifice of 20% of their annual fees (paid on a quarterly basis). Shares purchased are restricted for sale for 10 years or when the Director leaves the Board, whichever is earlier. In addition, Non-Executive Directors can voluntarily elect to sacrifice up to a further 80% of their fees for the acquisition of shares. Shares are purchased on-market at the current market price and a total of 70,763 shares have been purchased under the NEDSP since the plan commenced in 2001. Since March 2005, shares are acquired under the plan on a six monthly basis. Shares acquired under the plan receive full dividend entitlements and voting rights and there are no forfeiture or vesting conditions attached to the shares granted under the NEDSP. For the current year, $527,811 was expensed through the profit and loss reflecting shares purchased and allocated under the NEDSP. Grants made under the NEDSP from 1 July 2007 to 30 June 2008 Period 1 January to 30 June 2008 1 July to 31 December 2007 Total Fees Sacrificed $279,896 $247,915 Participants 11 9 Shares Purchased Average Purchase Price $52.81 $39.85 5,298 6,223 Commonwealth Bank of Australia Annual Report 2008 175 Notes to the Financial Statements Note 33 Share Capital (continued) Executive Option Plan (EOP) This plan was discontinued in 2000/01. Under the EOP, the Bank granted options to purchase fully paid ordinary shares to those key executives who, being able by virtue of their responsibility, experience and skill to influence the generation of shareholder wealth, were declared by the Board of Directors to be eligible to participate in the Plan. Non-Executive Directors were not eligible to participate in the Plan. Options cannot be exercised before each respective exercise period and the ability to exercise is conditional on the Group achieving a prescribed performance hurdle. The option plan did not grant rights to the option holders to participate in a share issue of any other body corporate. The performance hurdle is the same TSR comparator hurdle as outlined above for the Equity Reward Plan (ERP) grants prior to 2002/03. The EOP was discontinued in 2000/2001 and no options have been granted under the plan since the last grant in September 2000. The performance hurdles for the August 1999 grant and the September 2000 grant were met in 2004. Under the Group’s EOP and ERP an option holder generally has no right to participate in any new issue of securities of the Group or of a related body corporate as a result of holding the option. The only exception is when there is a pro rata issue of shares to the Group’s Shareholders by way of a bonus issue involving capitalisation (other than in place of dividends or by way of dividend reinvestment). In this case an option holder is entitled to receive additional shares upon exercise of the options of the number of bonus shares that the option holder would have received if the options had been exercised and shares issued prior to the bonus issue. Details of movements for in EOP options are as follows: Options – Details of Movements Year of Grant Exercise Price (1) (2) July 2007 – June 2008 (4) 2000 $26.97 July 2006 – June 2007 (4) (3) 1999 $23.84 2000 $26.97 Held by participants at the start of year (no.) Granted during year (no.) Exercised during year (no.) Lapsed during year (no.) Outstanding at the end of year (no.) Total consideration paid due to exercises to date of report (5) 36,900 - (12,500) - 24,400 $337,125 190,600 - (165,600) (25,000) - $3,947,904 225,800 - (163,900) (25,000) 36,900 $4,420,383 (1) The Exercise Price is the market value at the commencement date. Market value is defined as the weighted average of the prices at which shares were traded on the ASX during the one week period before the commencement date. This is the average exercise price. (2) The premium adjustment (based on the actual difference between the dividend and bond yields at the date of vesting) was nil. (3) Performance hurdle was satisfied on 28 February 2004 and options may be exercised up to 24 August 2009. (4) Performance hurdle was satisfied on 31 March 2004 and options may be exercised up to 13 September 2010. (5) No amount is unpaid in respect of the shares issued upon exercise of options during the above period. 176 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 34 Minority Interests Controlled entities: Share capital (1) Total minority interests 2008 $M 518 518 Group 2007 $M 512 512 (1) Comprises predominantly New Zealand Perpetual Preference Shares - $505 million. On 10 December 2002, ASB Capital Limited, a New Zealand subsidiary, issued NZD 200 million (AUD 182 million) of perpetual preference shares. Such shares are non-redeemable and carry limited voting rights. Dividends are payable quarterly and are non-cumulative. On 22 December 2004, ASB Capital No.2 Ltd, a New Zealand subsidiary, issued NZD 350 million (AUD 323 million) of perpetual preference shares. Such shares are non-redeemable and carry limited voting rights. Dividends are payable quarterly and are non-cumulative. Commonwealth Bank of Australia Annual Report 2008 177 Notes to the Financial Statements Note 35 Capital Adequacy Regulatory Capital The Bank is an Authorised Deposit-taking Institution (“ADI”) and is subject to regulation by the Australian Prudential Regulation Authority (“APRA”) under the authority of the Banking Act 1959. APRA has set minimum regulatory capital requirements for banks that are consistent with the International Convergence of Capital Measurement and Capital Standards: A Revised Framework (“Basel II”) issued by the Basel Committee on (“The Basel Committee”). These Banking Supervision requirements define what is acceptable as capital and provide for methods of measuring the risks incurred by the Bank. The regulatory capital requirements are measured for the Extended Licence Entity Group (known as “Level One” comprising the Bank and APRA approved subsidiaries) and for the Bank and all of its banking subsidiaries (known as “Level Two” or the “Group”). All entities which are consolidated for accounting purposes are included within the Group capital adequacy calculations except for; • The insurance and funds management operations; and • The entities through which securitisation of Bank assets are conducted. Regulatory capital is divided into Tier One and Tier Two Capital. Tier One Capital primarily consists of Shareholders’ Equity plus other capital instruments acceptable to APRA, less goodwill and other prescribed deductions. Tier Two Capital is comprised primarily of hybrid and debt instruments acceptable to APRA less any prescribed deductions. Total Capital is the aggregate of Tier One and Tier Two Capital. The tangible component of the investment in the insurance and funds management operations are deducted from capital, 50% from Tier One and 50% from Tier Two. Capital adequacy is measured by means of a risk based capital ratio. The capital ratios reflect capital (Tier One, Tier Two or Total Capital) as a percentage of total Risk Weighted Assets (“RWA”). RWA represents an allocation of risks associated with the Group’s assets and other related exposures. its capital the The Group actively manages requirements of various stakeholders rating agencies and shareholders). This is achieved by optimising the mix of capital while maintaining adequate capital ratios throughout the financial year. to balance (regulators, The Group has a range of instruments and methodologies available to effectively manage capital including share issues and buybacks, dividend and dividend reinvestment plan policies, hybrid capital raising and dated and undated subordinated debt issues. All major capital related initiatives require approval of the Board. The Group’s capital position is monitored on a continuous basis and reported monthly to senior management. Three year capital forecasts are undertaken on a quarterly basis and a detailed capital and strategy plan is presented to the Board annually. During the 2007 and 2008 financial years the Group complied with APRA’s prescribed minimum capital requirements at all times. 178 Commonwealth Bank of Australia Annual Report 2008 The Bank is required to inform APRA immediately of any breach or potential breach of the minimum capital adequacy requirements, including details of remedial action taken or planned to be taken. The Group’s capital ratios throughout the 2007 and 2008 Financial Years were in compliance with both APRA minimum capital adequacy requirements (Tier One Capital 4% and Total Capital 8%) and the Board approved target ranges of Tier One Capital 6.5 to 7% and Total Capital 10 to 12%). The Total Capital target range was amended in 2008 from a range of 9 to 11% to a range of 10 to 12% in order to align with the Bank’s strategy to apply for U.S. Financial Holding Company (FHC) status. FHC status requires the Bank to maintain minimum Tier One Capital of 6% and Total Capital at 10% at all times. Economic Capital The Group uses an “Economic Capital” model to drive delivery of “shareholder-value-added” (“SVA”) results. Measures are applied to link the cost of the Bank’s physical capital to the profit required turn from different business segments. This facilitates: in • Pricing of products based on appropriate charges for use of capital; and • Internal measurement of performance on a risk adjusted basis. Economic Capital provides an estimate of capital required to cover the financial impact of unlikely events, at a level of confidence consistent with the Board’s target debt rating. As such, the level of Economic Capital and physical capital is aligned to the Board’s overall risk appetite. The Group calculates Economic Capital in accordance with the following key principles: • Consistent application to all material risk types and businesses across the Group; • Measurement of potential financial impacts over a time period reflecting elimination of the risk under assumed adverse conditions; • Use of a confidence level aligned with the Group’s target debt rating; and • Aggregation of Economic Capital by individual risk type. Economic Capital provides a tool for evaluating which of the Group’s products and businesses provide the best return relative to the credit, market, operational, strategic business, insurance and other risks taken in achieving that return. These risk types are defined in the Basel II Capital Framework, and influence the level of capital held by the Bank. SVA is maximised through the use of two measures of risk- adjusted performance – known as Profit After Capital Charge (PACC) and Return on Target Equity (ROTE) – which are used internally to measure business performance. These measures of profit and return reflect the amount of Economic Capital used in achieving these outcomes. Business Unit segments are required to achieve minimum returns on their allocated risk-based capital equal to a uniform “Cost of Capital” which is set from time to time based on market conditions. The development of Economic Capital measures and the use of risk adjusted return metrics within Business Unit segments is an evolving area both within the Group and across the industry. Notes to the Financial Statements Note 36 Financial Reporting by Segments Description of segments The principal activities of the Group are carried out in the business segments shown below. These segments are based on the types of products and services provided to customers. The primary sources of revenue are interest and fee income (Retail Banking Services, Premium Business Services and International Financial Services) and insurance premium and funds management income (Wealth Management). Business Segment Information Income Statement Interest income Insurance premium and related revenue Other income Total revenue Equity accounted earnings Revenue from external customers Revenue from other operating segments Interest expense Segment result before income tax Income tax expense Segment result after income tax Minority interests Segment result after income tax and minority interests Less: Non-Cash items (1) Net profit after tax (“cash basis”) (1) Non–Cash Expenses Intangible asset amortisation Loan impairment expense Depreciation Defined benefit superannuation plan (income)/expense Investment & restructuring Other Retail Banking Services $M 14,651 - 1,257 15,908 Premium Business Services $M 9,204 - 1,965 11,169 Wealth Management $M - 994 2,840 3,834 International Financial Services $M 4,061 379 458 4,898 - 15,896 12 5,306 2,675 (801) 1,874 - 1,874 (30) 1,904 19 331 19 - 41 28 - 10,622 547 6,701 1,865 (402) 1,463 - 1,463 (17) 1,480 53 426 45 3 22 17 60 3,774 - 87 986 (186) 800 - 800 60 740 - - 4 - - 11 32 4,773 93 3,081 777 (179) 598 (2) 596 7 589 12 43 39 - 14 6 Group Year Ended 30 June 2008 Other $M 1,318 - (73) 1,245 - 1,897 (652) 6,152 (48) 135 87 (29) 58 38 20 19 130 118 (17) 300 28 Total $M 29,234 1,373 6,447 37,054 92 36,962 - 21,327 6,255 (1,433) 4,822 (31) 4,791 58 4,733 103 930 225 (14) 377 90 Balance Sheet Total assets Acquisition of property, plant & equipment, intangibles and other non–current assets Investments in associates Total liabilities 200,289 173,370 24,318 51,634 37,961 487,572 15 - 122,332 547 17 166,386 8 724 20,857 71 165 42,750 321 - 109,110 962 906 461,435 (1) Business segments are managed on the basis of Net profit after income tax (“cash basis”) which is defined by management as net profit after tax and minority interested, before the gain on Visa Initial Public Offering, Provisions for investment and restructuring, defined benefit superannuation plan (income)/expense, treasury shares valuation adjustment and unrealised gains and losses related to hedging and AIFRS volatility. Management use “cash basis” performance and it provides the basis for the determination of the Bank’s dividends. Commonwealth Bank of Australia Annual Report 2008 179 Notes to the Financial Statements Note 36 Financial Reporting by Segments (continued) Business Segment Information Income Statement Interest income Insurance premium and related revenue Other income Total revenue Equity accounted earnings Revenue from external customers Revenue from other operating segments Interest expense Segment result before income tax Income tax expense Segment result after income tax Minority interests Segment result after income tax and minority interests Less: Non-Cash items (1) Net profit after tax (“cash basis”) (1) Non–Cash Expenses Intangible asset amortisation Loan impairment expense Depreciation Defined benefit superannuation plan (income)/expense Other Retail Banking Services $M 12,007 - 1,291 13,298 Premium Business Services $M 7,230 - 1,744 8,974 Wealth Management $M - 830 4,590 5,420 International Financial Services $M 3,425 279 677 4,381 - 13,279 19 3,890 2,522 (756) 1,766 - 1,766 - 1,766 14 349 20 - 26 1 8,650 323 5,200 1,905 (463) 1,442 - 1,442 (3) 1,445 35 75 33 5 14 16 5,384 20 33 1,090 (538) 552 - 552 (75) 627 - - 4 - 49 36 4,404 (59) 2,617 678 (153) 525 - 525 47 478 8 20 39 - 3 Group Year Ended 30 June 2007 Other $M 1,200 8 (112) 1,096 - 1,399 (303) 5,086 343 (131) 212 (27) 185 (26) 211 13 (10) 104 (13) 9 Total $M 23,862 1,117 8,190 33,169 53 33,116 - 16,826 6,538 (2,041) 4,497 (27) 4,470 (57) 4,527 70 434 200 (8) 101 Balance Sheet Total assets (2) Acquisition of property, plant & equipment, intangibles and other non–current assets Investments in associates Total liabilities (2) 174,261 159,424 27,553 52,591 26,328 440,157 45 - 103,958 139 1 172,754 6 691 22,732 89 143 43,801 171 1 72,468 450 836 415,713 (1) Business segments are managed on the basis of Net profit after income tax (“cash basis”) which is defined by management as net profit after tax and minority interested, before the gain on Visa Initial Public Offering, Provisions for investment and restructuring, defined benefit superannuation plan income/expense, treasury shares valuation adjustment and unrealised gains and losses related to hedging and AIFRS volatility. Management use “cash basis” performance and it provides the basis for the determination of the Bank’s dividends. (2) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). 180 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 36 Financial Reporting by Segments (continued) Business Segment Information Income Statement Interest income Insurance premium and related revenue Other income Total revenue Equity accounted earnings Revenue from external customers Revenue from other operating segments Interest expense Segment result before income tax Income tax expense Segment result after income tax Minority interests Segment result after income tax and minority interests Less: Non-Cash items (1) Net profit after tax (“cash basis”) (1) Non–Cash Expenses Intangible asset amortisation Loan impairment expense Depreciation Defined benefit superannuation plan expense Other Balance Sheet Total assets (2) Acquisition of property, plant & equipment, intangibles and other non–current assets Investments in associates Total liabilities (2) Retail Banking Services $M 10,404 - 1,189 11,593 Premium Business Services $M 5,581 - 1,512 7,093 Wealth Management $M - 739 4,144 4,883 International Financial Services $M 2,948 284 945 4,177 - 11,599 (6) 2,352 2,252 (676) 1,576 - 1,576 - 1,576 13 354 13 - 24 2 6,435 656 4,625 1,554 (422) 1,132 - 1,132 (6) 1,138 12 68 16 7 13 2 4,858 23 26 798 (394) 404 - 404 (100) 504 - - 7 - 8 1 4,190 (14) 2,192 839 (241) 598 - 598 8 590 7 22 33 - 4 Group Year Ended 30 June 2006 Other $M 825 29 (36) 818 2 1,475 (659) 4,049 416 (167) 249 (31) 218 (60) 278 17 (46) 95 28 17 Total $M 19,758 1,052 7,754 28,564 7 28,557 - 13,244 5,859 (1,900) 3,959 (31) 3,928 (158) 4,086 49 398 164 35 66 157,302 134,229 27,549 40,926 22,844 382,850 40 - 78,320 227 3 151,257 113 72 23,605 46 102 33,658 186 13 74,667 612 190 361,507 (1) Business segments are managed on the basis of Net profit after income tax (“cash basis”) which is defined by management as net profit after tax and minority interested, before the gain on Visa Initial Public Offering, Provisions for investment and restructuring, defined benefit superannuation plan income/expense, treasury shares valuation adjustment and unrealised gains and losses related to hedging and AIFRS volatility. Management use “cash basis” performance and it provides the basis for the determination of the Bank’s dividends. (2) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Geographical Information Financial Performance & position Revenue Australia New Zealand Other locations (1) Non-Current Assets Australia New Zealand Other locations (1) Group Year Ended 30 June 2008 $M 29,131 4,922 3,001 37,054 9,929 1,129 265 11,323 % 78. 6 13. 3 8. 1 100. 0 87. 7 10. 0 2. 3 100. 0 2007 $M 26,350 4,517 2,302 33,169 9,260 1,133 496 10,889 % 79. 5 13. 6 6. 9 100. 0 85. 0 10. 4 4. 6 100. 0 2006 $M 22,802 4,021 1,741 28,564 8,169 771 360 9,300 % 79. 8 14. 1 6. 1 100. 0 87. 8 8. 3 3. 9 100. 0 (1) Other locations were: United Kingdom, United States of America, Japan, Singapore, Malta, Hong Kong, Grand Cayman, Fiji, Indonesia, China and Vietnam. The geographical information represents the location in which the transaction was booked. Commonwealth Bank of Australia Annual Report 2008 181 Notes to the Financial Statements Note 37 Life Insurance Business The following information is provided to disclose the statutory life insurance business the Group Financial Statements and the underlying methods and assumptions used in their calculations. transactions contained in All financial assets within the life statutory funds have been determined to support either life insurance or life investment contracts. Also refer to Note 1 (hh). The insurance segment result is prepared on a business segment basis, refer to Note 36. Life Insurance Contracts Life Investment Contracts Summarised Income Statement Premium and related revenue Outward reinsurance premiums expense Claims expense Reinsurance recoveries Investment revenue (excluding investments in subsidiaries): Equity securities Debt securities Property Other Increase/(decrease) in contract liabilities Operating income Acquisition expenses Maintenance expenses Management expenses Other expense Net profit before income tax Income tax (benefit)/expense attributable to operating profit Net profit after income tax Sources of Life Insurance Net Profit The net profit after income tax is represented by: Emergence of planned profit margins Difference between actual and planned experience Effects of changes to underlying assumptions Reversal of previously recognised losses or loss recognition on Groups of related products Investment earnings on assets in excess of policyholder liabilities Other movements Net profit after income tax Life insurance premiums received and receivable Life insurance claims paid and payable 2008 $M 1,412 (234) (865) 173 (246) 227 (37) 81 198 709 190 240 14 39 226 (13) 239 2007 $M 1,182 (207) (786) 145 418 147 70 52 (133) 888 158 235 16 9 470 174 296 190 178 2 3 - 25 19 239 - - 41 (5) (2) 78 6 296 - - 2008 $M 292 - (1) - (852) 419 (108) (102) 574 222 21 138 7 53 3 (48) 51 98 (57) - - 10 - 51 - - 2007 $M 257 - - - 1,323 444 324 294 (2,111) 531 22 197 8 58 246 205 41 87 (53) - - 8 (1) 41 - - 2008 $M 1,704 (234) (866) 173 (1,098) 646 (145) (21) 772 931 211 378 21 92 229 (61) 290 288 (55) 3 - 35 19 290 Group 2007 $M 1,439 (207) (786) 145 1,741 591 394 346 (2,244) 1,419 180 432 24 67 716 379 337 265 (12) (5) (2) 86 5 337 2,664 3,068 2,749 5,306 The disclosure of the components of operating profit after income tax expense are required to be separated between policyholders’ and shareholders’ interests. As policyholder profits are an expense of the Group and not attributable to shareholders, no such disclosure is required. 182 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Reconciliation of Movements in Policy Liabilities Contract policy liabilities Gross policy liabilities opening balance Net (decrease)/increase in contract liabilities reflected in the summarised Income Statement Contract contributions recognised in policy liabilities Contract withdrawals recognised in policy liabilities Non-cash movements FX translation adjustment Gross policy liabilities closing balance Liabilities ceded under reinsurance Opening balance Decrease/(increase) in reinsurance assets reflected in the summarised Income Statement Closing balance Net policy liabilities at 30 June Expected to be realised within 12 months Expected to be realised in more than 12 months Total net insurance policy liabilities Life Insurance Contracts Life Investment Contracts 2008 $M 2007 $M 2008 $M 2007 $M 2008 $M Group 2007 $M 4,801 4,589 16,970 17,784 21,771 22,373 (198) 7 (131) (216) (141) 4,122 (158) 13 (145) 504 3,473 3,977 142 188 (202) - 84 4,801 (148) (10) (158) (574) 1,050 (2,940) 10 (143) 14,373 - - - 2,112 1,291 (4,338) - 121 16,970 - - - (772) 2,254 1,057 1,479 (3,071) (206) (284) 18,495 (158) 13 (145) (4,540) - 205 21,771 (148) (10) (158) 415 2,352 3,182 2,856 3,597 4,228 4,643 12,021 14,373 13,788 16,970 15,494 18,350 18,016 21,613 Commonwealth Bank of Australia Annual Report 2008 183 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Sensitivity Analysis The Group conducts sensitivity analyses the exposure to risk of changes in the key underlying variables such as interest rate, equity prices, mortality, morbidity and inflation. to quantify The valuations included in the reported results and the Group’s best estimate of future performance are calculated using certain assumptions about these variables. The movement in any key variable will impact the performance and net assets of the Group and as such represents a risk. Variable Expense risk Interest rate risk Mortality rates Morbidity rates Discontinuance Market Risk Impact of movement in underlying variable An increase in the level or inflationary growth of expenses over assumed levels will decrease profit and shareholders’ equity. The impact of changes in interest rates on profit and shareholders’ equity depends on the relative profiles and matching of assets and liabilities. The Group is exposed to changes in interest rates on fixed interest assets backing shareholders’ equity. For insurance contracts that pay a death benefit, higher rates of mortality will increase the claims cost and therefore reduce both profit and shareholders’ equity. For lifetime annuity contracts, lower mortality rates will increase the duration of annuity payments and therefore reduce both profit and shareholders’ equity. The cost of health-related claims depends on both the incidence of policyholders becoming ill and the duration of the illness. Higher than expected incidence and duration will increase the claims costs, reducing profit and shareholders’ equity. The impact of the discontinuance rate assumption depends on a range of factors including the type of contract, the surrender value basis (where applicable) and the duration inforce. An increase in discontinuance rates will usually reduce profit and shareholders’ equity For contracts where benefit payments depend on the value of underlying assets, market risk is borne by policyholders. However, as the Group derives fee income based on the value of the underlying funds, a fall in market value will reduce fees, profit and shareholders’ equity. The Group is exposed to market risk on assets backing shareholders’ equity. The table below shows the sensitivity of insurance contract liabilities (gross and net of reinsurance), current year profits and shareholders’ equity to changes in assumptions on key variables. The sensitivity of the insurance contract liability to changes in assumptions will be dependent on whether the product is (or remains) in loss recognition after the assumptions change and whether the change is made to an economic assumption. The Group’s sensitivity to changes in market risk (including interest rates) is shown in Note 42, Risk Management. Result of change in assumptions (1) Mortality and morbidity on lump sum products – 10% increase in total costs Annuitant mortality – 20% increase in rate of future mortality improvement Morbidity on Income Protection – 10% increase in total cost Expenses – 10% increase in maintenance expenses assumption (1) Represents impact of Australia only. Gross (before reinsurance) Net (after reinsurance) Profit/(loss) 2008 $M Policy Liabilities 2008 $M Profit/(loss) 2008 $M Policy Liabilities 2008 $M Shareholders’ Equity 2008 $M (14. 3) (9. 1) (9. 3) (0. 4) 20. 4 13. 0 13. 3 0. 6 (8. 8) (9. 1) (6. 7) (0. 4) 12. 6 13. 0 9. 5 0. 6 (8. 8) (9. 1) (6. 7) (0. 4) 184 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Life Insurance Contract Liabilities Life Investment Contract Liabilities Investment contracts include unit linked contracts and term certain annuities. They consist of a financial instrument, which is measured at fair value, and a management services element. For unit linked contracts, the resulting liability to policyholders is closely linked to the performance and the value of the assets (after tax) that support those liabilities. The fair value of such liabilities is the same as the fair value of those assets, after allowing for tax. Appropriately qualified actuaries have been appointed for each life insurance entity and they have reviewed and satisfied themselves as to the accuracy of the contract liabilities included in this financial report, including compliance with the regulations of the Life Insurance Act (Life Act) 1995 where appropriate. Details are set out in the various statutory returns of these life insurance entities. Components of Life Insurance Contract Liabilities Future policy benefits (1) Future bonuses Future expenses Future shareholder profit margins Future shareholder tax on profit margins Future charges for acquisition expenses Balance of future premiums Provisions for bonuses not allocated to participating policyholders Total net life insurance contract liabilities (1) Including bonuses credited to policyholders in prior years. Life Insurance Contracts 2008 $M 7,235 1,182 2,472 1,611 284 (581) (8,330) 104 3,977 2007 $M 6,962 1,301 2,216 1,430 225 (507) (7,096) 112 4,643 Taxation Actuarial Methods and Assumptions Taxation has been allowed for in the determination of policy liabilities in accordance with the relevant legislation applicable in each market. Insurance contract policy liabilities have been calculated in accordance with AASB 1038 (Life Insurance Contracts) and the Margin on Services (“MoS”) methodology as set out in Prudential Standard LPS 1.04 – Valuation of Policy Liabilities (“LPS 1.04”) issued by APRA. The principal methods and profit carriers used for particular product groups were as follows: Product Type Individual Conventional Investment account Lump sum risk Income stream risk Lifetime annuities Group Investment account Lump sum risk Income stream risk Method Projection Projection Projection Projection Projection Profit Carrier Bonuses or expected claim payment Bonuses or funds under management Premiums/expected claim payment Expected claim payments Annuity payments Projection Accumulation/Projection Accumulation/Projection Bonuses or funds under management Expected claim payments Expected claim payments The “Projection Method” measures the present values of estimated future policy cash flows to calculate policy liabilities. income, The policy cash premiums, expenses, redemptions and benefit payments. incorporate investment flows Bonuses are amounts added, at the discretion of the life insurer, to the benefits currently payable under Participating Business. Under the Life Act, bonuses are a distribution to policyholders of profits and may take a number of forms including reversionary bonuses, interest credits and terminal bonuses (payable on the termination of the policy). Commonwealth Bank of Australia Annual Report 2008 185 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Actuarial Assumptions Set out below is a summary of the material assumptions used in the calculation of policy liabilities. Discount Rates Discount rates are used to discount future cash flows in the determination of policy liabilities. Where insurance contract benefits are linked to the performance of the underlying assets, the discount rates are based on the expected earnings rate on the assets held (Traditional and Investment Account contracts). For all other insurance contracts, the discount rates are based on risk free rates of return. Allowance is made for taxation where relevant and for the nature and term of the liabilities. Class of Business (1) Traditional – ordinary business (after tax) Traditional – superannuation business (after tax) Annuity – term and lifetime (exempt from tax) Term insurance – (before tax) Income protection business (before tax) Investment account – ordinary (after tax) Investment account – superannuation (after tax) Investment account – annuities (exempt from tax) The following table shows the applicable rates for the major classes of business in Australia and New Zealand. The changes relate to changes in long term earnings rates and asset mix. June 2008 Rate Range % 4. 52 – 6. 74 5. 48 – 8. 24 6. 31 – 8. 17 6. 44 – 7. 25 6. 44 – 7. 25 4. 79 – 5. 35 5. 83 – 6. 52 6. 79 – 7. 53 June 2007 Rate Range % 4. 38 – 6. 34 5. 32 – 7. 75 6. 52 – 7. 09 6. 25 – 6. 46 6. 25 – 6. 46 4. 55 5. 53 6. 46 (1) For New Zealand, investment earning rates assumed were 3.9% to 5.6% net of tax. Bonuses Taxation The taxation basis and rates assumed vary by market and product type. There has been no significant change to the taxation basis. Voluntary Discontinuance Discontinuance rates are based on recent company and industry experience and vary by market, product, age and duration inforce. Overall discontinuance rates have been reduced. Surrender Values Current surrender value bases are assumed to apply in the future. There have been no significant changes to these bases. Mortality and Morbidity Rates vary by sex, age, product type and smoker status. Rates are based on standard mortality tables applicable to each market e.g. IA95-97 in Australia for risk, IM/IF80 for annuities, adjusted for recent Company experience where appropriate. There has been no significant change to mortality assumptions. Claim termination assumptions on disability income business have been reduced and incidence assumptions on trauma business have been increased to reflect recent experience. The valuation assumes that the long term supportable bonuses will be paid, which is in line with company bonus philosophy. Favourable investment performance over recent years has led to increases in long term supportable bonus rates. Maintenance Expenses The maintenance expenses are based on an internal analysis of experience and are assumed to increase in line with inflation each year and to be sufficient to cover the cost of servicing the business in the coming year after adjusting for one-off expenses. To be consistent with other legal entities within the Group, from 1 July 2008, Group overheads will no longer be allocated to the life company and accordingly, no allowance for Group overheads the expense assumptions. For participating businesses, expenses continue on the previous charging basis with adjustments for actual experience, and are inflation each year. assumed Maintenance expenses have increased on some products. line with increase included to in in is Investment Management Expenses Investment management expense assumptions vary by asset classes and are based on investment fees as set out in Fund Management Agreements. There has been no significant change to overall investment fees. Inflation The inflation assumption is consistent with the investment earning assumptions. Benefit Indexation The indexation rates are based on an analysis of past experience and estimated long term inflation and vary by business and product type. There have been no significant changes to these assumptions. 186 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Impact of changes in assumptions The following table shows that the impacts of changes in assumptions from 30 June 2007 to 30 June 2008 in respect of life insurance contracts: Assumption change (1) Base results (2008 results using 2007 non-economic assumptions) Mortality and morbidity Discontinuance rates Maintenance expenses Other assumption changes Total future profit margins/life insurance contract (1) Relates to Australian profit assumptions only The policy liabilities for life insurance contracts are calculated in a way that allows for the systematic release of planned profit margins as services are provided to policyholders and premiums are received. Where sufficient planned margins exist, this method allows for the absorption of changes to assumptions (excluding the discount rate) into the future profit margin, resulting in no change to the contract liability in the current period. Where the assumption changes result in the level of planned profit margins being exhausted, the resulting losses are recognised during the year via a change in the contract liability. Where a change is made to the discount rate or related economic assumptions, the impact is not absorbed into planned profit margins and the level of contract liability will change. These outcomes of the Margin on Services methodology are reflected in the above table. Changes in future profit margins $M 880 (67) 95 4 (1) 911 Changes in life insurance contract liabilities $M 3,040 - - (2) - 3,038 Impact of changes in assumptions Assumption changes on Australian business increased profit margins by $31 million (from $880 million to $911 million). Changes to future claims assumptions on risk business reduced margins by $67 million, mainly from: increases to trauma claims assumptions, reductions in disability income claims recovery assumptions and increases to masterfund claims assumptions. Reductions in discontinuance assumptions (mainly on retail risk business) increased future profit margins by $95 million. Increases to maintenance expense assumptions reduced profit margins but were broadly offset by the impact of removing Group overheads from future expense assumptions. Commonwealth Bank of Australia Annual Report 2008 187 Notes to the Financial Statements Note 37 Life Insurance Business (continued) Risk Management Policies and Procedures The financial condition and operating results of the Life Insurance Business in the Group are affected by a number of key financial and non-financial risks. The objectives and policies in respect of managing these risks are set out below. There are two risk types that are considered to be unique to life insurance businesses. These are the risks that the incidence of mortality (death) and morbidity (illness and injury) claims are higher than assumed when pricing life insurance policies, or are greater than the best estimate assumptions used to determine the policy liabilities of the business. Insurance risk may arise through reassessment of the incidence of claims, the trend of future claims and the effect of unforeseen diseases or epidemics. In addition, in the case of morbidity, the time to recovery may be longer than assumed. identify potential Insurance risk is controlled by ensuring underwriting standards adequately in accordance with policy wordings, retaining the right to amend premiums on risk policies where appropriate and through the use of reinsurance. The experience of the Group’s Life Insurance Business is reviewed annually. risk, managing claims Terms and Conditions of Insurance Contracts The nature of the terms of the insurance contracts written is such that certain external variables can be identified on which related cash flows for claim payments depend. The tables below provide an overview of the key variables upon which the related cash flows are dependent. Nature of compensation for claims Benefits, defined by the insurance contracts, are determined by the contract. They are not directly affected by the performance of underlying assets or the performance of the contracts as a whole. Key variables that affect the timing and uncertainty of future cash flows Mortality Morbidity Discontinuance rates Expenses Benefits arising from the discretionary participation feature are based on the performance of a specified pool of contracts or a specified type of contract. Market earnings rates Mortality Discontinuance rates Expenses Managed Assets and Fiduciary Activities Arrangements are in place to ensure that asset management and other fiduciary activities of controlled entities are independent of the life insurance funds and other activities of the Group. Disaggregated Information in Australia and overseas. Under Life insurance business is conducted through a number of life insurance entities the Australian Life Insurance Act 1995, life insurance business is conducted within one or more separate statutory funds, which are distinguished from each other and from the shareholders’ funds. The Financial Statements of Australian life insurers prepared in accordance with AASB 1038 (and which are lodged with regulators) show all major components of the Financial Statements disaggregated between the various life insurance statutory funds and their shareholder funds and as well as between investment linked business and those relating to non-investment linked businesses. relevant Australian the Type of Contract Detail of contract workings Non-participating life insurance contracts with guaranteed terms (Term Life, Trauma, Disability and Lifetime Annuities) Guaranteed benefits paid on death, ill health or survival that are fixed and not at the discretion of the issuer. Life insurance contracts with discretionary participating benefits (e.g. endowment and whole of life) These policies include a clearly defined initial guaranteed sum assured which is payable on death or maturity. The guaranteed amount is increased throughout the duration of the policy by the addition of regular annual bonuses which, once added, are not removed. Bonuses are also added on some products at maturity. Solvency Australian Life Insurers to support solvency Australian life insurers are required to hold prudential reserves in excess of the amount of policy liabilities. These reserves are required requirements and provide protection against adverse experience. Prudential Standard LPS 2.04 – “Solvency Standard” prescribes a minimum solvency requirement and the minimum level of assets required to be held in each statutory fund. All controlled Australian insurance entities complied with the solvency requirements of LPS 2.04. Further information is available from the individual statutory returns of subsidiary life insurers. Overseas Life Insurers Overseas life insurance subsidiaries were required to hold reserves in excess of policy liabilities in accordance with local Acts and prudential rules. Each of the overseas subsidiaries complied with is local requirements. Further available from the individual statutory returns of subsidiary life insurers. information 188 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 38 Remuneration of Auditors a) Audit services PricewaterhouseCoopers Australian firm Related practice of PricewaterhouseCoopers Australian firm Ernst & Young Australian firm Related practice of Ernst & Young Australian firm Other Auditors Total remuneration for audit services b) Non-audit services Audit related services PricewaterhouseCoopers Australian firm Related practice of PricewaterhouseCoopers Australian firm Ernst & Young Australian firm Related practice of Ernst & Young Australian firm Total remuneration for audit related services Taxation services PricewaterhouseCoopers Australian firm Related practice of PricewaterhouseCoopers Australian firm Total remuneration for tax related services Advisory Related practice of PricewaterhouseCoopers Australian firm Ernst & Young Australian firm Related practice of Ernst & Young Australian firm Total remuneration for advisory services Total remuneration for non-audit services Total remuneration for audit and non-audit services 2008 $’000 9,711 4,330 - - - 14,041 3,066 695 - - 3,761 909 1,102 2,011 123 - - 123 5,895 19,936 Group 2007 $’000 - - 10,179 2,189 90 12,458 - - 1,750 770 2,520 - - - - 239 17 256 2,776 15,234 2008 $’000 7,111 571 - - - 7,682 2,544 28 - - 2,572 909 440 1,349 38 - - 38 3,959 11,641 Bank 2007 $’000 - - 8,652 1,861 - 10,513 - - - 16 16 - - - - - - - 16 10,529 (1) An additional amount of $5,877,085 was paid to PricewaterhouseCoopers (2007: $4,948,000 paid to Ernst & Young) by way of fees for entities not consolidated into the Financial Statements. Of this amount $4,527,545 (2007: $4,532,000) relates to statutory audits. All other fees principally include transaction support services related to potential and actual acquisition and disposition transactions and advice regarding implementation of revised compliance and regulatory requirements. The Audit Committee has considered the non-audit services provided by PricewaterhouseCoopers and is satisfied that the services and the level of fees are compatible with maintaining auditors’ independence. All such services were approved by the Audit Committee in accordance with pre-approved policies and procedures. Audit related fees principally include audit of the Group’s U.S. disclosures for U.S. investors, services in relation to regulatory requirements and other services that only the external auditor can provide, as well as investigations and reviews of internal control systems and financial or regulatory information. Note 39 Commitments for Capital Expenditure Not Provided for Not later than one year Total commitments for capital expenditure not provided for 2008 $M 45 45 Group 2007 $M 34 34 2008 $M 41 41 Bank 2007 $M 27 27 Commonwealth Bank of Australia Annual Report 2008 189 Notes to the Financial Statements Note 40 Lease Commitments – Property, Plant and Equipment Commitments in respect of non-cancellable operating lease agreements due: Not later than one year Later than one year but not later than five years Later than five years Total lease commitments – property, plant and equipment 2008 $M 347 850 419 1,616 Group 2007 $M 313 778 264 1,355 2008 $M 314 756 357 1,427 2008 $M 2 3 2 7 Bank 2007 $M 284 697 236 1,217 Group 2007 $M 2 3 3 8 The Group as lessee has no purchase options over premises occupied. In a small number of cases, the Group as lessee has a right of first refusal if the premises are to be sold. There are no restrictions imposed on the Group’s lease of space other lease forming part of arrangements for each specific premise. the negotiated those than Group’s share of lease commitments of associated entities due: No later than one year Later than one year but not later than five years Later than five years Total lease commitments – property, plant and equipment Lease Arrangements Leases entered into by the Group are for the purpose of accommodating the business needs. Leases may be over retail, commercial, industrial and residential premises and reflect the needs of the occupying business and market conditions. All leases are negotiated using either internal or external professional property resources acting for the Group. Rental payments are determined in terms of relevant lease requirements, usually reflecting market rentals. 190 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 41 Contingent Liabilities, Assets and Commitments The Group is involved in a range of transactions that give rise to contingent and/or future liabilities which are distinct from transactions and other events that result in the recognition of liabilities. These transactions meet the financing requirements of customers and include endorsed bills of exchange, letters of credit, guarantees and commitments to provide credit. For further details on these items refer Note 1 (gg). These transactions combine varying levels of credit, interest rate, foreign exchange and liquidity risk. In accordance with Bank policy, exposure to any of these transactions is not carried at a level that would have a material adverse effect on the financial condition of the Bank and its controlled entities. Details of contingent liabilities and off-balance sheet business are: Credit risk related instruments (1) Guarantees Standby letters of credit Bill endorsements Documentary letters of credit Performance related contingents Commitments to provide credit Other commitments Total credit risk related instruments Face Value 2008 $M 2007 $M 2,802 142 61 53 1,870 97,304 8,846 111,078 2,851 335 84 87 2,046 85,431 10,888 101,722 Group Credit Equivalent 2008 $M 2,802 142 61 53 1,870 83,499 672 89,099 2007 $M 2,851 335 84 17 1,023 16,888 960 22,158 (1) Differences between 2008 and 2007 credit equivalent amounts relate to adopting Basel II advanced internal ratings based approach for credit risk (previously calculated in accordance with Basel I). See below for more detail. Guarantees represent unconditional undertakings by the Group to support the obligations of its customers to third parties. Standby letters of credit are undertakings by the Group to pay, against production of documents, an obligation in the event of a default by a customer. Bill endorsements relate to bills of exchange that have been endorsed by the Group and represent liabilities in the event of default by the acceptor and the drawer of the bill. Documentary letters of credit represent an undertaking to pay or accept drafts drawn by an overseas supplier of goods against production of documents in the event of payment default by a customer. Performance related contingents involve undertakings by the Group to pay third parties if a customer fails to fulfil a contractual non-monetary obligation. Commitments to provide credit include all obligations on the part of the Group to provide credit facilities. These credit facilities are both fixed and variable. Fixed rate or fixed spread commitments extended to customers that allow net settlement of the change in the value of the commitment are written options and are recorded at fair value (Refer to Note 11 Derivative Assets and Liabilities). Other commitments include the Group’s obligations under sale and repurchase agreements, outright forward purchases and forward deposits and underwriting facilities. Other commitments also include obligations not otherwise disclosed above to extend credit, that are irrevocable because they cannot be withdrawn at the discretion of the Bank without the risk of incurring significant penalty or expense. In addition commitments to purchase or sell loans are included in other commitments. transactions are categorised and credit equivalents The risk based calculated under APRA guidelines measurement of capital adequacy. The credit equivalent amounts are a measure of the potential loss to the Group in the event of non-performance by the counterparty. the for Under Basel I the credit equivalent exposure from direct credit substitutes (guarantees, standby letters of credit and bill endorsements) is the face value of the transaction, whereas the credit equivalent exposure to documentary letters of credit and performance related contingents is 20% and 50% respectively of the face value. The exposure to commitments to provide credit is calculated by applying given credit conversion factors to the face value to reflect the duration, nature and certainty of the contractual undertaking to provide the facility. The amounts reflected assume that the amounts may be fully advanced. The contractual amount of these instruments is the maximum amount at risk if the customer fails to meet its obligations. The risk is similar to the risk involved in extending loan facilities. Under the Basel II advanced internal ratings approach for credit risk, the credit equivalent amount is the face value of the transaction, on the basis that at default the exposure is the amount fully advanced. Only where approved by APRA may an exposure less than the fully advanced amount be used as the credit equivalent exposure. As the potential loss depends on counterparty performance, the Group utilises the same credit policies and assessment criteria for off-balance sheet business as for on-balance sheet business and if deemed necessary, collateral is obtained based on management’s credit evaluation of the counterparty. If an event has occurred that gives rise to a present obligation and it is probable a loss will eventuate then provisions are raised. Contingent Assets The credit risk related contingent liabilities of $111,078 million represent (2007: $101,722 million) detailed above also contingent assets of the Group, which may in the normal course convert to loans and other assets of the Group. Litigation Neither the Bank nor any of its controlled entities are engaged in any litigation or claim which is likely to have a materially adverse effect on the business, financial condition or operating results of the Bank or any of its controlled entities. Where some loss is probable and can be reliably estimated an appropriate provision has been made. Commonwealth Bank of Australia Annual Report 2008 191 Notes to the Financial Statements Note 41 Contingent Liabilities, Assets and Commitments (continued) Fiduciary Activities The Group and its associated entities conduct investment management and other fiduciary activities as responsible entity, trustee, custodian or manager for numerous investment funds and trusts, including superannuation and approved deposit funds, wholesale and retail trusts. The amounts of funds concerned that are not reported in the Group’s Balance Sheet are as follows: 2008 $M 2007 $M 133,980 20,632 8,959 10,389 173,960 115,954 20,036 11,349 9,918 157,257 In 2005, the Bank entered into lease agreements for a fully refurbished existing building at 150 George Street Parramatta, with Perpetual Nominees Limited (as a custodian for the Colonial First State Commercial Property Trust) and a newly constructed building at 101 George Street Parramatta, with Commonwealth Custodial Services Limited, relating to the provision of accommodation. Both buildings have an average lease term of 10 years. In 2000, the Bank entered into a long term agreement with TCNZ Australia Pty Ltd for the provision of telecommunications services. This agreement is due to expire in February 2009. Failure to Settle Risk The Bank is subject to a credit risk exposure in the event that another financial institution fails to settle for its payments clearing activities, in accordance with the regulations and procedures of the following clearing systems of the Australian Payments Clearing Association Limited: The Australian Paper Clearing System (“Clearing Stream One”), The Bulk Electronic Clearing System (“Clearing Stream Two”), The Consumer Electronic Clearing System ("Clearing Stream Three") and the High Value Clearing System (“Clearing Stream Four”, only if operating in “bypass mode”). This credit risk exposure is unquantifiable in advance, but is well understood, and is extinguished upon settlement at 9am each business day. Service Agreements The maximum contingent liability for termination benefits in respect of service agreements with the Chief Executive Officer and other Group Key Management Personnel at 30 June 2008 was $13.6 million (2007: $5.1 million). Funds Under Administration Australia United Kingdom New Zealand Asia Total Certain entities within the Group act as responsible entity or investment schemes trustee of virtually all managed (“schemes”), wholesale and retail trusts (“trusts”) managed by the Group in Australia, the United Kingdom and New Zealand. The above Funds Under Administration do not include on balance sheet investments and policyholder liabilities held in the statutory funds of the life insurance business (refer to Note 10) where an entity within the Group may act as a trustee. Where entities within the Group act as responsible entity of managed investment schemes, obligations may exist under the relevant constitutions whereby upon request from a scheme member, the responsible entity has an obligation to redeem units from the assets of those schemes. Liabilities are incurred by these entities in their capacity as responsible entity or trustee. Rights of Indemnity are held against the schemes and trusts whose assets exceeded their liabilities at 30 June 2008. The Bank does not provide a general guarantee of the performance or obligations of its subsidiaries. Long Term Contracts In April 2008, the Bank signed agreements with SAP Australia Pty Limited and Accenture Australia Limited for its Core Banking Modernisation. In December 2007, the Bank entered into separate agreements with each of Tata Consultancy Services Ltd, HCL Technologies Ltd and IBM Australia Ltd for the provision of application software related services. As part of entering into these contracts, the Bank terminated certain parts of the previous long term agreement with EDS (Australia) Pty Ltd relating to application software services. The remaining parts of the contract with EDS (Australia) Pty Ltd - related to mainframe, midrange, end user technology and cards-related services - continue until 2012. In November 2007, the Bank signed a lease agreement with DPT Operator Pty Ltd and DPPT Operator Pty Ltd for accommodating 5,000 employees. The lease term for Darling Park Tower 1 at 201 Sussex Street is for a term of 12 years. In July 2006, the Bank entered into a lease agreement with Colonial First State Property Limited as trustee for both the Site 6 Homebush Bay Trust, and for the Site 7 Homebush Bay Trust relating to the provision of accommodation. The development is a campus style multi-building facility at Sydney Olympic Park to accommodate around 3,500 employees. The average lease term is 12 years. 192 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 41 Contingent Liabilities, Assets and Commitments (continued) Collateral The Group has entered into a range of transactions with counterparties which require lodgement of collateral subject to agreed market valuation movement thresholds. Where these thresholds are exceeded, the Group may be required to either pledge assets to, or be entiled to receive pledged assets from, the counterparty to secure these transactions. The assets pledged or received are primarily in the form of cash and bonds. The Group has the right to sell, repledge, or otherwise use collateral received from the pledgor, including any equity or right of redemption by the pledgor. Collateral held Cash Assets at fair value through Income Statement Collateral held No securities have been repledged. 2008 $M 1,055 2,532 3,587 Group 2007 $M 379 3,649 4,028 2008 $M 1,031 2,017 3,048 Bank 2007 $M 379 3,271 3,650 The Group has secured liabilities of $4,143 million (2007: $5,516 million). The table below sets out the assets pledged to secure these liabilities. Assets pledged Cash Assets at fair value through Income Statement (1) Assets pledged 2008 $M 40 2,035 2,075 Group 2007 $M 2,069 3,537 5,606 2008 $M 40 2,027 2,067 Bank 2007 $M 2,069 3,525 5,594 Thereof can be repledged or resold by counterparty 1,435 3,525 1,427 3,525 (1) These balances include assets sold under repurchase agreements. The liabilities related to these repurchase agreements are disclosed in Note 23 Deposits and Other Public Borrowings. Commonwealth Bank of Australia Annual Report 2008 193 Credit Risk Credit risk is the potential of loss arising from failure of a debtor or counterparty to meet their contractual obligations. It arises primarily in the Group’s banking business from lending activities, the provision of guarantees including letters of credit and commitments to lend, investment in bonds and notes, financial markets transactions and other associated activities. In the insurance business, credit risk arises from investment in bonds and notes, loans, and from reliance on reinsurance. The Group has clearly defined policies, procedures and standards (approved and governed by the Risk Committee of the Board) for the approval and management of credit risk. The measurement of credit risk is based on an internal credit risk rating system, which uses analytical tools to estimate expected and unexpected loss for the credit portfolio. This includes consideration of the probability of default (PD), the exposure at default (EAD) and the loss given default (LGD). Various risks are considered when calculating PD, EAD and LGD. Considerations include the potential for default by a borrower due to economic, management, industry, economic or other risks and include the mitigating benefits of collateral. The Group provides for credit impairment whenever there is objective evidence that impairment exists and in amounts adequate to cover assessed credit related losses. Credit losses arise primarily from loans but also from other credit instruments such as bank acceptances, contingent liabilities, guarantees and other financial instruments and assets acquired through security enforcement. Further information on the Group’s credit risk management and measurement is included in Note 15, Credit Risk Management. Notes to the Financial Statements Note 42 Risk Management Risk Management The Risk Committee of the Board oversees credit, market (traded and non-traded), funding and liquidity, operational and strategic business, business continuity, compliance and security risks assumed by the Group in the course of carrying on its business. Further information of the role and function of the Risk Committee is discussed in the Corporate Governance section of this report. The Group has in place an integrated risk management framework to identify, assess, manage and report risks and risk adjusted returns on a consistent and reliable basis. This framework requires each Business Unit to manage the outcome of its risk-taking activities, and enjoy the resulting risk adjusted returns. Risk management professionals employed in each Business Unit measure risks and provide advice on what risks might be taken for better returns. These risk professionals report to the Group Chief Risk Officer, who in turn reports to the CEO and has direct reporting requirements to the Risk Committee of the Board. Independent review of the risk management framework is carried out through Group Audit. Basel II On 10 December 2007, the Group was one of the first major banking groups in Australia to gain approval from the Australian Prudential Regulation Authority (APRA) to use the advanced internal ratings-based approach for credit risk and the advanced measurement approach for operational risk for the purposes of assessing risk weighted assets and regulatory capital. These approvals took effect from 1 January 2008. APRA gave approval to the Group to use an internal model approach for assessing capital required for interest rate risk in the banking book on 30 June 2008. This approval took effect from 1 July 2008. The measurement of market risk for traded assets remains unchanged from the original Basel I approach. Further detail on the Group’s assessment of regulatory capital required under the new Basel II framework is discussed in Note 35 Capital Adequacy. APRA has requested that the Group defer the release of its Basel II Pillar 3 disclosures until the last quarter of 2008, when the other major Australian banks release their disclosures, to aid in comparative analysis. The following sections describe the components of the Group’s integrated risk management framework. 194 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 42 Risk Management (continued) Traded and Non-traded Market Risk For the purposes of market risk management, the Group makes a distinction between traded and non-traded market risks. Traded market risks arise from the Group’s trading book activities within the PBS, Institutional Banking and Global Markets business. The predominant non-traded market risk is interest rate risk in the Bank’s balance sheet. Other non-traded market risks are liquidity risk, funding risk, structural foreign exchange risk arising from capital investments in offshore operations, non-traded equity price risk, market risk arising from the insurance business, and residual value risk. These risks are considered separately below. Market Risk Measurement The Group uses Value-at-Risk (VaR) as one of the measures of traded and non-traded market risk. VaR measures potential loss using historically observed market volatility and correlation between different markets. The measured VaR for traded market risk uses two years of daily market movements. The same approach is used to measure VaR for non-traded risk based on 6 years of daily movements. VaR is modelled at a 97.5% confidence level over a 1-day holding period for trading book positions and over a 20-day holding period for banking book interest rate risk and insurance business market risk. Because VaR is not an estimate of the maximum economic loss that the Group could experience from an extreme market event, management uses stress testing to measure the potential for economic loss at significantly higher confidence levels than 97.5%. Management then uses these results in decisions made to manage the economic impact on market risk positions. The following table provides a summary of VaR, where applicable, for all market risks across the Group. Total Market Risk VaR (1-day 97.5% confidence) Traded Market Risk Non-Traded Interest Rate Risk Structural FX Risk (1) Non-Traded Equity Price Risk (1) Non-Traded Insurance Market Risk Residual Value Risk (1) Defined Benefit Superannuation Risk (1) Average VaR June 2008 $M Average VaR Dec 2007 $M Average VaR June 2007 $M Average VaR Dec 2006 $M 10. 85 9. 12 7. 98 10. 33 28. 50 n/a 15. 65 n/a 17. 20 n/a 10. 38 n/a n/a n/a n/a n/a 9. 30 n/a 8. 45 n/a 8. 44 n/a 8. 77 n/a n/a n/a n/a n/a (1) Certain types of risk exposure are not suitable for VaR measurement. Traded Market Risk The Group trades and distributes financial markets products and provides risk management services to clients on a global basis. The objectives of the Group’s financial markets activities are to: • Provide risk management products and services to customers; • Efficiently assist in managing the Group’s own market risks; and • Conduct profitable trading within a controlled framework, leveraging off the Group’s market presence and expertise. The Group maintains access to markets by quoting bid and offer prices with other market makers and carries an inventory of treasury, capital market and risk management instruments, including a broad range of securities and derivatives. interest The Group is a participant in all major markets across foreign exchange and rate products, debt, equity and commodities products as required to provide treasury, capital markets and institutional, risk management services corporate, middle market and retail customers. to Income is earned from spreads achieved through market making and from taking market risk. All trading positions are valued at fair value and taken to profit and loss on a mark to market basis. Market liquidity risk is controlled by concentrating trading activity in highly liquid markets. Trading assets at fair value through Income Statement are detailed in Note 10. Trading liabilities at fair value through Income Statement are in Note 25. Note 2 details the income contribution of trading activities to the income of the Group. Traded market risk is managed under a market risk policy and limit structure approved by the Risk Committee of the Board. Risk is monitored by an independent Market Risk Management function. Commonwealth Bank of Australia Annual Report 2008 195 Notes to the Financial Statements Note 42 Risk Management (continued) The following table provides a summary of VaR for the trading book of the Group. The VaR for ASB is shown separately; all other data relates to the Bank and is split by risk type. The figures in the following table represent the potential unfavourable change to the Bank’s net interest earnings during the year based on a 100 basis point parallel rate shock (increase) and the expected unfavourable net change in price of assets and liabilities held for purposes other than trading. Traded Market Risk VaR (1-day 97.5% confidence) Risk Type Interest rate risk Exchange rate risk Implied volatility risk Equities risk Commodities risk Credit spread risk (1) Diversification benefit (1) Total general market risk Undiversified risk (1) ASB Bank Total Average VaR June 2008 $M Average VaR Dec 2007 $M Average VaR June 2007 $M Average VaR Dec 2006 $M 3. 88 1. 34 1. 04 0. 45 0. 92 4. 65 3. 92 0. 99 0. 86 0. 35 0. 74 4. 00 3. 61 0. 78 0. 69 0. 15 0. 65 4. 22 3. 08 0. 54 0. 57 0. 14 0. 71 - (5. 62) (4. 80) (4. 17) (1. 73) 6. 66 3. 08 1. 11 10. 85 6. 06 2. 33 0. 73 9. 12 5. 93 1. 60 0. 45 7. 98 3. 31 6. 75 0. 27 10. 33 (1) In the half year to 30 June 2007, the Group implemented a new methodology for the measurement of credit spread VaR. The new methodology now captures the diversification benefit between credit spread risk and other risk types. Prior periods’ credit spread risk are reported in undiversified risk. Non-Traded Market Risk Non-traded market risk activities are governed by the Group market risk framework approved by the Risk Committee of the Board. Implementation of the policy, procedures and limits for the Bank is the responsibility of the Group Executive of the associated Business Unit with senior management oversight by the Group’s Asset and Liability Committee. Independent management of the non-traded market risk activities of offshore banking subsidiaries is delegated to the CEO of each entity with oversight by the local Asset and Liability Committee. Interest Rate Risk in the Balance Sheet Interest rate risk in the Bank’s Balance Sheet is the risk of adverse changes in expected net interest earnings in current and future years from changes in interest rates on mismatched assets and liabilities in the banking book. The objective is to manage interest rate risk to achieve stable and sustainable net interest earnings in the long term. The Group measures and manages Balance Sheet interest rate risk in two ways: (a) Next 12 months’ earnings The risk to net interest earnings over the next 12 months from changes in interest rates is measured on a monthly basis. Risk is measured assuming an instantaneous 100 basis point parallel movement in interest rates across the yield curve. Potential variations in net interest earnings are measured using a simulation model that takes into account the projected change in Balance Sheet asset and liability levels and mix. Assets and liabilities with pricing directly based on market rates are repriced based on the full extent of the rate shock that is applied. Risk on the other assets and liabilities (those priced at the discretion of the Group) are measured by taking into account both the manner in which the products have repriced in the past as well as the expected change in price based on the current competitive market environment. 196 Commonwealth Bank of Australia Annual Report 2008 Net Interest Earnings At Risk Average monthly exposure High monthly exposure Low monthly exposure 30/06/08 $M 28. 1 15. 6 70. 0 24. 3 0. 4 3. 9 AUD NZD AUD NZD AUD NZD 31/12/07 $M 45. 0 6. 9 57. 5 12. 9 29. 0 3. 1 30/06/07 $M 67. 7 4. 4 101. 3 6. 1 44. 0 1. 9 31/12/06 $M 75. 4 6. 7 122. 1 8. 2 27. 6 5. 0 (b) Economic Value A 20-day 97.5% VaR measure is used to capture the economic impact of adverse changes in interest rates on all banking book assets and liabilities. This analysis measures the potential change in the net present value of cash flows of assets and liabilities. Cash flows for fixed rate products are included on a contractual basis, after adjustment for forecast prepayment activities. Cash flows for products repriced at the discretion of the Group are based on the expected repricing characteristics of those products. The figures in the following table represent the net present value of the expected change in the Group’s future earnings in all future periods for the remaining term of all existing assets and liabilities. Non-Traded Interest Rate VaR (20 day 97.5% confidence) (1) (2) Average VaR June 2008 $M Average VaR Dec 2007 $M Average VaR June 2007 $M Average VaR Dec 2006 $M AUD Interest rate risk NZD Interest rate risk 123. 6 3. 8 65. 8 4. 2 74. 2 2. 7 43. 9 2. 5 (1) ASB data (expressed in NZD) is for the month end date. (2) VaR is only for entities that have material risk exposure. Structural Foreign Exchange Risk Foreign exchange risk is the risk to earnings and value caused by a change in foreign exchange rates. Structural, Balance Sheet, foreign exchange risk is managed in accordance with principles approved by the Risk Committee of the Board. Hedging strategies are based on the source of the funds and the expected life of the investments. The Group principally hedges Balance Sheet foreign exchange risks except for long term investments in offshore branches and subsidiaries. The Group’s only significant structural foreign exchange exposure is within ASB. Non-traded Equity Price Risk The Group retains non-traded equity price risk through strategic investments and business development activities in divisions including PBS, IFS and Wealth Management. This activity is subject to governance arrangements approved by the Risk Committee of the Board, and is monitored on a centralised basis within the Market Risk Management function. The impact of a 10% change in fair value on the total non-traded equity price risk exposure at 30 June 2008 is $180 million. Notes to the Financial Statements Note 42 Risk Management (continued) Residual Value Risk rail, aircraft, marine The Group takes residual value risk on assets such as industrial and mining equipment, technology, healthcare and other equipment. A residual value guarantee exposes the business to the movement in second hand asset prices. The residual value risk within the Group is controlled through a risk management framework approved by the Risk Committee of the Board. The framework includes asset, geographic and maturity concentration limits and stress testing independent Market Risk the which Management function. is performed by Market Risk in Insurance Businesses A significant component of the Group's non-traded market risk activities result from the holding of assets related to the insurance business. All financial assets within the life statutory funds directly support either the Group's life insurance or life investment contracts. The Group retains market risk on contracts with guaranteed liabilities. The Group manages this risk by the monthly monitoring and rebalancing of assets to contract liabilities. A small portion of financial assets held within the insurance business relate to shareholder funds; the majority of these are debt securities for which the interest rate risk is included within the Group's measurement of interest rate risk. In addition, market risk in the life insurance business arises from mismatches between assets and liabilities. Guaranteed returns are offered on some classes of policy. These liabilities may not be easily hedged through matching assets. Wherever possible, the Group segregates policyholders’ funds from Shareholders’ funds and sets investment mandates that are appropriate for each. Market risk arises when market movements reduce funds under administration and resulting fee income on investment-linked policies. Market risk also arises on returns obtained from investing life company Shareholders’ capital. As at 30 June 2008, Shareholders’ funds in the life insurance business are invested 78% in income assets (cash and fixed interest) and 22% in growth assets (shares and property) with the asset mix varying from company to company. Policyholder funds are invested to meet the objectives of the policies in force. The ability to match asset characteristics with policy obligations may be constrained by a number of factors including regulatory constraints, the lack of suitable investments as well as by the nature of the policy liabilities themselves. A for large proportion of policyholders’ assets are held investment linked policies where the policyholder takes the risk of falls in the market value of the assets. A smaller proportion of policyholders’ assets are held to support policies where life companies have guaranteed either the principal investment return (“guaranteed policies’”) where investment mandates for these classes of policies emphasise lower volatility assets such as cash and fixed interest. invested or the As at 30 June 2008, if credit spreads were to widen by 50 basis points, the impact on the Australian life insurance business would have been a loss of approximately $24 million before tax. Liquidity risk is not a significant issue in life insurance companies. The life insurance companies in the Group hold substantial investments in highly liquid assets such as listed shares, government bonds and bank deposits. Furthermore, processing time for claims and redemptions enables each company to forecast and manage its liquidity needs. Further information on the insurance business can be found in Note 37, Life Insurance Business. Commonwealth Bank of Australia Annual Report 2008 197 Notes to the Financial Statements Note 42 Risk Management (continued) The following table represents the Group’s contractual interest rate sensitivity for repricing mismatches as at 30 June 2008 and corresponding weighted average effective interest rates. The net mismatch represents the net value of assets, liabilities and off- balance sheet instruments that may be repriced in the time periods shown. All assets and liabilities are shown according to contractual repricing dates. Options are shown in the mismatch report using the delta equivalents of the option face values. Interest Rate Risk Sensitivity Australia Assets Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances of customers Property, plant and equipment Investment in associates Intangible assets Deferred tax assets Other assets Assets held for sale Total assets Liabilities Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Bank acceptances Current tax liabilities Other provisions Insurance policy liabilities Debt issues Managed funds units on issue Bills payable and other liabilities Loan capital Total liabilities Shareholders’ equity Share capital and other equity Minority interests Total Shareholders’ equity Derivatives Net mismatch Cumulative mismatch Balance Sheet Total $M 0 to 1 month $M 1 to 3 months $M 3 to 6 months $M 6 to 12 months $M 1 to 5 years $M Over 5 years $M Not Interest Bearing $M Weighted Average Rate % Repricing Period at 30 June 2008 4,841 4,042 - 4,880 4,097 461 18,457 18,676 295 16,339 7,164 305,475 18,278 1,449 906 7,618 33 5,402 412 410,225 18,210 1,503 274 - 2,131 215,054 - - - - - - - 245,311 70 1,301 - - 466 14,716 - - - - - - - 17,014 - 91 - 42 - - 412 7,660 - - - - - - - 8,205 - - 37 465 - - - 15,069 - - - - - - - 15,571 - - - - 799 6. 74 231 3. 90 112 2,961 21 - 3,584 50,434 - - - - - - - 57,112 28 2,769 - - 251 3,801 - - - - - - 140 6,989 - 9,635 - 16,339 320 (1,259) 18,278 1,449 906 7,618 33 5,402 272 60,023 7. 81 7. 86 7. 98 - 8. 85 7. 83 - - - - - - 10. 00 (3) 233,934 162,993 38,687 15,268 7,817 3,005 22 6,142 6. 81 4,390 4,146 240 - 4 - - - 5. 33 2,915 16,893 18,278 696 1,129 16,594 67,119 1,109 6,532 369,589 9,085 378,674 24,542 1 24,543 (2) (2) (2) 1,871 - - - - - 22,722 - - 191,732 2,261 193,993 15 - - - - - 12,559 - - 51,501 3,970 55,471 18 - - - - - 4,266 - - 19,552 - 19,552 56 - - - - - 5,195 - - 13,072 300 13,372 698 - - - - - 20,969 - - 24,672 1,385 26,057 257 - - - - - 1,408 - - 1,687 1,169 2,856 - 16,893 18,278 696 1,129 16,594(1) - 1,109 6,532 67,373 - 67,373 - - - - - - - - - - - - - - - - - - 24,542 1 24,543 (22,559) (4,501) 7,999 17,976 2,251 (1,166) - 28,759 28,759 (42,958) (14,199) (3,348) (17,547) 20,175 2,628 33,306 35,934 2,967 38,901 (31,893) 7,008 6. 86 - - - - - 5. 92 - - 5. 95 (3) - - (3) (3) (3) (1) Technically, the insurance policy liabilities are not interest bearing, but the amount of the liability may change in line with changes in interest rates, particularly with investment linked policies. (2) No Balance Sheet amount applicable. (3) No rate applicable. 198 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 42 Risk Management (continued) Interest Rate Risk Sensitivity Repricing Period at 30 June 2008 Balance Sheet Total $M 0 to 1 month $M 1 to 3 months $M 3 to 6 months $M 6 to 12 months $M 1 to 5 years $M Over 5 years $M Not Interest Bearing $M Weighted Average Rate % Overseas Assets Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Property, plant and equipment Intangible assets Deferred tax assets Other assets Assets held for sale Total assets Liabilities Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Current tax liabilities Deferred tax liabilities Other provisions Insurance policy liabilities Debt issues Bills payable and other liabilities Loan capital Total liabilities Shareholders’ equity Share capital and other equity Minority interests Total Shareholders’ equity Derivatives Net mismatch Cumulative mismatch 12,611 2,648 72 266 45 1,901 18,698 992 80,287 2,474 82,761 1,077 517 1,594 (2) (2) (2) 2,895 2,764 40 - 2,104 1,249 467 216 3,219 1,974 2,971 1,893 4,324 55,807 191 640 43 1,090 196 77,347 569 644 1,079 - 1,061 15,312 - - - - - 22,678 1,676 12 793 - 165 7,485 - - - - - 10,638 166 17 87 - 1,269 5,655 - - - - - 7,410 3 47 5 5 291 - 1,226 6,610 - - - - - 8,187 - - 667 25 701 - 567 19,667 - - - - - 21,627 - - 88 4. 19 125 3. 55 134 167 - - 3 1,165 - - - - 51 1,520 2 1,104 20 1,893 33 (87) 191 640 43 1,090 145 5,287 7. 80 3. 41 5. 28 - 4. 34 8. 16 - - - - 10. 00 (3) 29,772 16,057 5,713 3,353 2,487 676 18 1,468 5. 85 13,282 11,226 1,740 315 1 - - 3. 00 1,635 - - - - - 6,436 - 35,354 1,442 36,796 4,218 - - - - - 9,723 - 21,394 - 21,394 - - - - - - 2,768 - - - - - 1,031 - 7,467 - 7,467 - - - 1,262 - - - - - 858 - 4,608 - 4,608 - - - 2,712 - - - - - 498 - 3,886 455 4,341 - - - - 16 - - - - - 152 - 186 577 763 - 2,648 72 266 45 1,901(1) - 992 7,392 - 7,392 - - - 1,077 517 1,594 6. 34 - - - - - 3. 69 - 7. 98 (3) - - (3) (3) (3) 2,662 13,353 (1,604) (599) (13,543) (269) - (11,456) (11,456) 2,597 (8,859) (1,661) (10,520) 2,980 (7,540) 3,743 (3,797) 488 (3,309) (3,699) (7,008) (1) Technically, the insurance policy liabilities are not interest bearing, but the amount of the liability may change in line with changes in interest rates, particularly with investment linked policies. (2) No Balance Sheet amount applicable. (3) No rate applicable. Commonwealth Bank of Australia Annual Report 2008 199 Notes to the Financial Statements Note 42 Risk Management (continued) Interest Rate Risk Sensitivity (4) Repricing Period at 30 June 2007 Balance Sheet Total $M 0 to 1 month $M 1 to 3 months $M 3 to 6 months $M 6 to 12 months $M 1 to 5 years $M Over 5 years $M Not Interest Bearing $M Weighted Average Rate % Australia Assets Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances of customers Property, plant and equipment Investment in associates Intangible assets Deferred tax assets Other assets Assets held for sale Total assets Liabilities Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Bank acceptances Current tax liabilities Deferred tax liabilities Other provisions Insurance policy liabilities Debt issues Managed funds units on issue Bills payable and other liabilities Loan capital Total liabilities Shareholders’ equity Share capital and other equity Minority interests Total Shareholders’ equity Derivatives Net mismatch Cumulative mismatch 5,984 5,173 2 2,809 2,375 288 19,011 20,820 423 8,974 5,445 262,251 18,721 1,229 836 7,254 146 5,982 303 360,188 18,935 - 401 - 569 170,149 - - - - - - - 197,602 50 2,801 - - 392 15,785 - - - - - - - 19,318 - 33 - 112 - - 348 6,930 - - - - - - - 7,423 - - - 169 - - 392 14,298 - - - - - - - 14,859 - - - - 809 5. 44 113 4. 78 - 3,403 22 - 2,273 52,217 - - - - - - - 57,915 - 3,492 - - 683 3,813 - - - - - - - 7,988 26 10,843 - 8,974 788 (941) 18,721 1,229 836 7,254 146 5,982 303 55,083 5. 64 6. 94 6. 42 - 6. 44 7. 43 - - - - - - - (3) 190,718 131,732 23,700 14,529 11,927 1,644 524 6,662 5. 71 4,208 3,681 120 111 296 - - - 5. 59 4,133 13,140 18,721 866 556 842 19,079 70,944 310 7,295 330,812 9,195 340,007 23,536 7 23,543 (2) (2) (2) 3,856 - - - - - - 11,357 - - 150,626 525 151,151 - - - - - - - 20,771 - - 44,591 3,892 48,483 68 - - - - - - 5,304 - - 20,012 119 20,131 37 - - - - - - 6,818 - - 19,078 - 19,078 150 - - - - - - 18,503 - - 20,297 1,307 21,604 22 - - - - - - 8,191 - - 8,737 3,352 12,089 - 13,140 18,721 866 556 842 19,079(1) - 310 7,295 67,471 - 67,471 - - - - - - - - - - - - - - - - - - 23,536 7 23,543 13,671 (7,646) (14,440) 12,238 (3,331) (492) - 60,122 60,122 (36,811) 23,311 (27,148) (3,837) 8,019 4,182 32,980 37,162 (4,593) 32,569 (35,931) (3,362) 6. 21 - - - - - - 6. 33 - - 5. 88 (3) - - (3) (3) (3) (1) Technically, the insurance policy liabilities are not interest bearing, but the amount of the liability may change in line with changes in interest rates, particularly with investment linked policies. (2) No Balance Sheet amount applicable. (3) No rate applicable. (4) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). 200 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 42 Risk Management (continued) Interest Rate Risk Sensitivity (4) Repricing Period at 30 June 2007 Balance Sheet Total $M 0 to 1 month $M 1 to 3 months $M 3 to 6 months $M 6 to 12 months $M 1 to 5 years $M Over 5 years $M Overseas Assets Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Property, plant and equipment Investment in associates Intangible assets Deferred tax assets Other assets Assets held for sale Total assets Liabilities Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Current tax liabilities Deferred tax liabilities Other provisions Insurance policy liabilities Debt issues Bills payable and other liabilities Loan capital Total liabilities Shareholders’ equity Share capital and other equity Minority interests Total Shareholders’ equity Derivatives Net mismatch Cumulative mismatch 4,124 3,681 2,686 734 358 979 2,458 2,699 3,650 3,769 4,227 53,214 207 - 581 108 1,175 1,071 79,969 390 1,043 426 - 480 16,674 - - - - - - 23,428 1,296 1 2,520 - 2,025 6,842 - - - - - - 14,021 41 82 153 1 74 - 714 3,893 - - - - - - 4,958 8 - 132 - 333 - 580 5,348 - - - - - - 6,401 - - 367 26 253 - 417 19,583 - - - - - - 20,646 28,350 16,174 4,126 2,992 2,307 933 10,178 7,895 1,292 572 419 - 95 - - - - - 872 - 25,036 - 25,036 6,262 - - - - - 6,260 - 17,940 - 17,940 - - - - - - 1,577 - - - - - 1,297 - 6,438 - 6,438 - - - 1,199 - - - - - 7,872 - 11,797 - 11,797 - - - 3,120 - - - - - 1,280 - 5,333 182 5,515 - - - 12,263 3,540 16 352 36 2,534 17,581 51 74,901 805 75,706 396 505 901 (2) (2) (2) Not Interest Bearing $M Weighted Average Rate % 36 6. 96 865 5. 21 - 1,556 21 3,769 3 (93) 207 - 581 108 1,175 765 8,993 7. 58 2. 33 7. 50 - 5. 39 7. 96 - - - - - 10. 00 (3) 1,818 6. 51 - 4. 75 - 3,540 16 352 36 2,534(1) - 51 8,347 - 8,347 396 505 901 5. 69 - - - - - 5. 30 - 5. 73 (3) - - (3) (3) (3) - 26 120 72 23 - 8 967 - - - - - 306 1,522 - - 10 - - - - - - - 10 623 633 - - - (1,857) 19,777 32 (2,668) (16,801) 1,517 (3,465) (3,465) 15,858 12,393 (1,448) 10,945 (8,064) 2,881 (1,670) 1,211 2,406 3,617 (255) 3,362 (1) Technically, the insurance policy liabilities are not interest bearing, but the amount of the liability may change in line with changes in interest rates, particularly with investment linked policies. (2) No Balance Sheet amount applicable. (3) No rate applicable. (4) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Commonwealth Bank of Australia Annual Report 2008 201 Notes to the Financial Statements Note 42 Risk Management (continued) Liquidity and Funding Risk Overview Balance Sheet liquidity risk is the risk of being unable to meet financial obligations as they fall due. The Group manages liquidity requirements by currency and by geographical location of its operations. Subsidiaries are also included in the Group’s liquidity policy framework. Funding risk is the risk of over-reliance on a funding source to the extent that a change in that funding source could increase overall funding costs or cause difficulty in raising funds. The funding requirements are integrated into the Group’s liquidity and funding policy with its aim to ensure the Group has a stable diversified funding base without over-reliance on any one market sector. The Group’s liquidity and funding policies are designed to ensure it will meet its obligations as and when they fall due, by ensuring it is able to borrow funds on an unsecured basis, or has sufficient quality assets to borrow against on a secured basis, or has sufficient quality liquid assets to sell to raise immediate funds without adversely affecting the Group’s net asset value. The Group’s funding policies and risk management framework complement the Group’s liquidity policies by ensuring an optimal liability structure to finance the Group’s businesses. The long term stability and security of the Group’s funding is also designed to protect its liquidity position in the event of a crisis specific to the Group. The Group’s liquidity policies are designed to ensure it maintains sufficient cash balances and liquid asset holdings to meet its obligations to customers, in both ordinary market conditions and during periods of extreme stress. These policies are intended to protect the value of the Group’s operations during periods of unfavourable market conditions, such as have been experienced since August 2007. The Group’s funding policies are designed to achieve diversified sources of funding by product, term, maturity date, investor type, investor location, jurisdiction, currency and concentration, on a cost-effective basis. This objective applies to the Group’s wholesale and retail funding activities. The Group’s retail funding base formed approximately 57% of its total funding requirements as at 30 June 2008. The Risk Management Framework for Liquidity and Funding The Group’s liquidity and funding policies are approved by the Board and agreed with the Australian Prudential Regulation Authority (“APRA”). The Group has an Asset and Liability Committee whose charter includes reviewing the management of assets and liabilities, reviewing liquidity and funding policies and strategies, as well as regularly monitoring compliance with those policies across the Group. The Group Treasury division manages in accordance with the Group’s liquidity policy, including monitoring and satisfying the liquidity needs of the Group and its subsidiaries. funding positions liquidity and the Group’s Larger domestic subsidiaries, such as CBFC Limited and subsidiaries within the Colonial Group, also apply their own liquidity and funding methods to address their specific needs. The Group’s New Zealand banking subsidiary, ASB Bank Limited (“ASB”), manages its own domestic liquidity and funding needs in accordance with its own liquidity policies and the policies of the Group. ASB’s liquidity policy is also overseen by the Reserve Bank of New Zealand. 202 Commonwealth Bank of Australia Annual Report 2008 The Group also has relatively small banking subsidiaries in Indonesia and Fiji that manage their liquidity and funding on a similar basis. The Group’s Financial Services and Risk Management divisions provide prudential oversight of the Group’s liquidity and funding risk and manage the Group’s relationship with prudential regulators. Liquidity and Funding Policies and Management The Group’s liquidity and funding policies provide that: • Balance sheet assets that cannot be liquidated quickly are funded with deposits or term borrowings that meet minimum maturity requirements with appropriate liquidity buffers; • Short and long term wholesale funding limits are established and reviewed regularly based on surveys and analysis of market capacity; • A minimum level of assets are retained in highly liquid form; • The level of liquid assets complies with crisis scenario assumptions related to “worst case” wholesale and retail market conditions; is adequate to meet known funding obligations over certain timeframes; and are allocated across Australian dollar and foreign currency denominated securities in accordance with specific calculations; • Certain levels of liquid assets are held to provide for the risk of the Group’s committed but un-drawn lending obligations being drawn by customers, as calculated based on draw down estimates and forecasts; and • The Group maintains certain levels of liquid assets categories within its liquid assets portfolio. The first category includes negotiable certificates of deposit of Australian banks, bank bills, Commonwealth of Australia Government and Australian state and semi-government bonds and supra- national bonds eligible for repurchase by the Reserve Bank of Australia (“RBA”) at any time. The second category is AAA and A-1+ rated Australian residential mortgage backed securities that meet certain minimum requirements. At 30 June 2008 around 98% of the Group’s Australian dollar liquid assets qualified for repurchase by the RBA at any time. The Group’s key liquidity tools include: • A liquidity management model similar to a “cash flow ladder” or “maturity gap analysis”, that allows forecasting of liquidity needs on a daily basis; • An additional liquidity management model that implements the agreed prudential liquidity policies. This model is calibrated with a series of “worst case” liquidity crisis scenarios, incorporating both systemic and “name” crisis assumptions, such that the Group will have sufficient liquid assets available to ensure it meets all of its obligations as and when they fall due; • The RBA’s repurchase agreement facilities provide the Group with the ability to borrow funds on a secured basis, even when normal funding markets are unavailable; and • The Group’s various short term funding programmes are supplemented by the Interbank Deposit Agreement between the four major Australian banks. This agreement is similar to a standby liquidity facility that allows the Group to access funding in various crisis circumstances. Notes to the Financial Statements Note 42 Risk Management (continued) Recent Market Environment Although the cost of liquidity and funding has increased significantly since July 2007 due to unfavourable market conditions, the Group’s liquidity and funding policies have remained unchanged throughout this period, as they have proven to be effective. The Group has managed its liquidity to avoid concentrations such as dependence on single sources of funding and has taken advantage of its diversified funding base and significant funding capacity in the global unsecured debt markets. In October 2007, the RBA expanded the range of eligible securities to include highly rated Australian residential mortgage backed securitisation utilising its own prime mortgages that could provide up to $12.25 billion of additional funding from the RBA should markets significantly deteriorate. Details of the Group’s regulatory capital position and capital management activities are disclosed in Note 35 Capital Adequacy. Liquidity and Funding Risk (continued) The Group’s key funding tools include: • • • Its consumer, small business and institutional deposit base; transaction accounts, Its consumer retail funding base includes a wide range of term retail deposits and retirement style accounts individual consumers; and investment accounts, for international and domestic funding Its wholesale programmes which includes its: Australian dollar Negotiable Certificates of Deposit programme; Transferable Certificate of Deposit programme; Australian dollar bank bill programme; Australian, U.S. and Euro Commercial Paper programmes; U.S. Extendible Notes programme; Australian dollar domestic borrowing programme; U.S. Medium Term Note Programme; Euro Medium Term Note Programme and its Medallion “Regulation AB” securitisation programme. The chart below illustrates the liquidity profile of the Group’s outstanding wholesale debt liabilities at 30 June 2008, broken down by type of debt instrument and maturity. n o i l l i b $ 25 20 15 10 5 - Q1 Q2 Q3 Q4 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019+ Financial Year Domestic Offshore Securitisation Structured Commonwealth Bank of Australia Annual Report 2008 203 Notes to the Financial Statements Note 42 Risk Management (continued) Maturity Analysis of Monetary Liabilities Liabilities Deposits and other public borrowings (1) Payables to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities (2) Bank acceptances Insurance policy liabilities Debt issues and loan capital Managed funds units on issue Other monetary liabilities Total monetary liabilities At call $M 135,763 1,893 - - - - - - 747 138,403 0 to 3 months $M 3 to 12 months $M 76,884 15,436 7,990 16,909 18,041 - 24,008 - 2,170 161,438 50,896 419 4,271 159 237 - 16,794 - 1,199 73,975 1 to 5 years $M 4,537 - 2,834 3,746 - - 43,924 - 506 55,547 Group Maturity Period At 30 June 2008 Over 5 years $M Not Specified $M 62 - 1,984 2,927 - - 33,533 - - 38,506 - - - - - 18,495 - 1,109 542 20,146 Total $M 268,142 17,748 17,079 23,741 18,278 18,495 118,259 1,109 5,164 488,015 (1) Includes substantial “core” deposits that are contractually at call customer savings and cheque accounts. Historical experience is that such accounts provide a stable source of long term funding for the Bank. Also refer to Interest Rate Risk Sensitivity table. (2) Gross payable amounts on cross currency swaps have been reported in derivative liabilities. The Group has corresponding receivables on these cross currency swaps that have not been reported, in accordance with the requirements of AASB 7 Financial Instruments Disclosures. The terms of the cross currency swap agreement entered into by the Group allow for net settlement in the event of certain specific circumstances including default of the counter parties. Liabilities Deposits and other public borrowings (1) Payables to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities (2) Bank acceptances Insurance policy liabilities Debt issues and loan capital Managed funds units on issue Other monetary liabilities Total monetary liabilities At call $M 132,180 2,855 - - - - - - 642 135,677 0 to 3 months $M 3 to 12 months $M 56,338 10,049 8,436 14,770 18,413 - 11,778 - 3,774 123,558 30,357 1,623 3,806 2,012 308 - 22,365 - 296 60,767 1 to 5 years $M 3,622 - 3,011 4,629 - - 50,560 - 208 62,030 Group Maturity Period At 30 June 2007 Over 5 years $M Not Specified $M 68 - 2,191 2,327 - - 39,886 - - 44,472 - - - - - 21,613 - 310 995 22,918 Total $M 222,565 14,527 17,444 23,738 18,721 21,613 124,589 310 5,915 449,422 (1) Includes substantial “core” deposits that are contractually at call customer savings and cheque accounts. Historical experience is that such accounts provide a stable source of long term funding for the Bank. Also refer to Interest Rate Risk Sensitivity table. (2) Gross payable amounts on cross currency swaps have been reported in derivative liabilities. The Group has corresponding receivables on these cross currency swaps that have not been reported, in accordance with the requirements of AASB 7 Financial Instruments Disclosures. The terms of the cross currency swap agreement entered into by the Group allow for net settlement in the event of certain specific circumstances including default of the counter parties. 204 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 42 Risk Management (continued) Maturity Analysis of Monetary Liabilities Amounts shown in the tables below are based on contractual undiscounted cash flows for the remaining contractual maturities. Liabilities Deposits and other public borrowings (1) Payables to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities (2) Bank acceptances Debt issues and loan capital Due to controlled entities Other monetary liabilities Total monetary liabilities At call $M 126,725 1,845 - - - - - 48 128,618 0 to 3 months $M 3 to 12 months $M 72,993 15,436 221 17,243 18,041 8,718 25,981 2,513 161,146 41,533 419 176 150 237 11,650 7,642 1,055 62,862 1 to 5 years $M 3,126 - 1,912 3,708 - 33,688 23,366 407 66,207 Bank Maturity Period At 30 June 2008 Over 5 years $M Not Specified $M 62 - 1,975 2,927 - 34,224 1,508 - 40,696 - - - - - - - 256 256 Total $M 244,439 17,700 4,284 24,028 18,278 88,280 58,497 4,279 459,785 (1) Includes substantial “core” deposits that are contractually at call customer savings and cheque accounts. Historical experience is that such accounts provide a stable source of long term funding for the Bank. Also refer to Interest Rate Risk Sensitivity table. (2) Gross payable amounts on cross currency swaps have been reported in derivative liabilities. The Group has corresponding receivables on these cross currency swaps that have not been reported, in accordance with the requirements of AASB 7 Financial Instruments Disclosures. The terms of the cross currency swap agreement entered into by the Group allow for net settlement in the event of certain specific circumstances including default of the counter parties. Liabilities Deposits and other public borrowings (1) Payables to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities (2) Bank acceptances Debt issues and loan capital Due to controlled entities Other monetary liabilities Total monetary liabilities At call $M 121,087 2,790 - - - - - 102 123,979 0 to 3 months $M 3 to 12 months $M 49,256 10,050 1,189 14,101 18,413 6,637 18,668 3,909 122,223 24,330 1,623 608 342 308 8,105 9,432 250 44,998 1 to 5 years $M 2,773 - 2,377 2,137 - 35,416 19,292 163 62,158 Bank Maturity Period At 30 June 2007 Over 5 years $M Not Specified $M 48 - 2,179 2,327 - 25,614 3,229 - 33,397 - - - - - - - 741 741 Total $M 197,494 14,463 6,353 18,907 18,721 75,772 50,621 5,165 387,496 (1) Includes substantial “core” deposits that are contractually at call customer savings and cheque accounts. Historical experience is that such accounts provide a stable source of long term funding for the Bank. Also refer to Interest Rate Risk Sensitivity table. (2) Gross payable amounts on cross currency swaps have been reported in derivative liabilities. The Group has corresponding receivables on these cross currency swaps that have not been reported, in accordance with the requirements of AASB 7 Financial Instruments Disclosures. The terms of the cross currency swap agreement entered into by the Group allow for net settlement in the event of certain specific circumstances including default of the counter parties. Commonwealth Bank of Australia Annual Report 2008 205 Notes to the Financial Statements Note 43 Retirement Benefit Obligations Name of Plan Officers’ Superannuation Fund (“OSF”) Commonwealth Bank of Australia (UK) Staff Benefits Scheme (“CBA(UK)SBS”) Type Defined Benefits (1) and Accumulation Defined Benefits (1) and Accumulation Form of Benefit Indexed pension and lump sum Indexed pension and lump sum Date of Last Actuarial Assessment of the Fund 30 June 2006 1 July 2005 (2) (1) The defined benefit formulae are generally comprised of final superannuation salary, or final average superannuation salary, and service. (2) An actuarial assessment of the CBA(UK)SBS at 30 June 2007 is currently in progress. the rates. These An actuarial assessment of the CBA(UK)SBS, as at 1 July 2005, revealed a deficit of GBP 32 million (AUD 66 million at the 30 June 2008 exchange rate). Following from this assessment, fund actuary’s to contribute at the Bank agreed recommended contribution included rates amounts future accruals of defined benefits (contributions estimated at AUD 3 million per annum at the 30 June 2008 exchange rate) and additional contributions of GBP 3.24 million per annum (AUD 7 million per annum at the 30 June 2008 exchange rate) payable over 14 years to finance the fund deficit. An actuarial assessment of the CBA(UK)SBS at 30 June 2007 is currently in progress. finance to Contributions Entities of the Group contribute to the plans listed in the above table in accordance with the Trust Deeds following the receipt of actuarial advice. With the exception of contributions corresponding to salary sacrifice benefits, the Bank ceased contributions to the OSF from 8 July 1994. Further, the Bank ceased contributions to the OSF relating to salary sacrifice benefits from 1 July 1997. An actuarial assessment of the OSF, as at 30 June 2006, was completed during the year ended 30 June 2007. In line with the actuarial advice contained in the assessment, the Bank does not intend to make contributions to the OSF until further consideration of the next actuarial assessment of the OSF as at 30 June 2009. 206 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 43 Retirement Benefit Obligations (continued) Defined Benefit Superannuation Plans The amounts reported in the Balance Sheet are reconciled as follows: Present value of funded obligations Fair value of plan assets Total pension assets as at 30 June Present value of unfunded obligations Unrecognised past service cost Unrecognised actuarial gains/(losses) Asset/(liability) in Balance Sheet as at 30 June Amounts in the Balance Sheet: Liabilities (Note 30) Assets (Note 21) Net asset The amounts recognised in the Income Statement are as follows: Current service cost Interest cost Expected return on plan assets Past service cost Employer financed benefits within Accumulation Division Gains/(losses) on curtailment and settlements Actuarial gains/(losses) recognised in Income Statement Total included in defined benefit superannuation plan expense Actual return on plan assets Changes in the present value of the defined benefit obligation are as follows: Opening defined benefit obligation Current service cost Interest cost Member contributions Actuarial gains/(losses) (Losses)/gains on curtailments Liabilities extinguished on settlements Liabilities assumed in a business combination Benefits paid Exchange differences on foreign plans Closing defined benefit obligation Changes in the fair value of plan assets are as follows: Opening fair value of plan assets Expected return Experience (losses)/gains Assets distributed on settlements Total contributions Assets acquired in a business combination Exchange differences on foreign plans Benefits and expenses paid Employer financial benefits within Accumulation Division Closing fair value of plan assets 2008 $M (2,892) 4,428 1,536 - - - 1,536 - 1,536 1,536 (26) (194) 400 - (163) - - 17 (120) (3,094) (24) (194) (13) 226 - - - 207 - (2,892) 4,907 400 (520) - 13 - - (209) (163) 4,428 OSF 2007 $M (3,094) 4,907 1,813 - - - 1,813 - 1,813 1,813 (30) (188) 368 - (137) - - 13 650 (3,388) (27) (188) (13) 290 - - - 232 - (3,094) 4,616 368 282 - 13 - - (235) (137) 4,907 CBA(UK)SBS 2007 $M (401) 372 (29) - - - (29) (29) - (29) (5) (21) 21 - - - - (5) 19 (430) (5) (21) - 22 - - - 15 18 (401) 365 21 (2) - 18 - (15) (15) - 372 2008 $M (386) 321 (65) - - - (65) (65) - (65) (3) (20) 20 - - - - (3) (1) (401) (3) (20) - (26) - - - 14 50 (386) 372 20 (21) - 10 - (46) (14) - 321 2008 $M (3,278) 4,749 1,471 - - - 1,471 (65) 1,536 1,471 (29) (214) 420 - (163) - - 14 (121) (3,495) (27) (214) (13) 200 - - - 221 50 (3,278) 5,279 420 (541) - 23 - (46) (223) (163) 4,749 Total 2007 $M (3,495) 5,279 1,784 - - - 1,784 (29) 1,813 1,784 (35) (209) 389 - (137) - - 8 669 (3,818) (32) (209) (13) 312 - - - 247 18 (3,495) 4,981 389 280 - 31 - (15) (250) (137) 5,279 Commonwealth Bank of Australia Annual Report 2008 207 Notes to the Financial Statements Note 43 Retirement Benefit Obligations (continued) Defined Benefit Superannuation Plans (continued) Experience (losses)/gains on plan liabilities Experience (losses)/gains on plan assets Gains/(losses) from changes in actuarial assumptions Total net actuarial (losses)/gains 2008 $M 134 (520) 92 (294) OSF 2007 $M 31 282 259 572 CBA(UK)SBS 2007 $M (3) (2) 25 20 2008 $M 6 (21) (32) (47) 2008 $M 140 (541) 60 (341) Total 2007 $M 28 280 284 592 Actuarial gains and losses represent experience adjustments on plan assets and liabilities as well as adjustments arising from changes in actuarial assumptions. Total net actuarial gains recognised in equity from commencement of AIFRS to 30 June 2008 were $950 million. Economic Assumptions The above calculations were based on the following economic assumptions: Discount rate at 30 June (gross of tax) Expected return on plan assets at 30 June Expected rate salary increases at 30 June (per annum) (1) 2008 % 6. 50 8. 75 4. 50 OSF 2007 % 6. 30 8. 50 4. 75 CBA(UK)SBS 2007 % 5. 80 6. 30 4. 30 2008 % 6. 20 6. 50 4. 90 (1) For the OSF, additional age related allowances were made for the expected salary increases from future promotions. At 30 June 2007 and 30 June 2008, these assumptions were broadly between 1.6% and 2.6% per annum for full-time employees and 1.0% per annum for part time employees. The return on asset assumption for the OSF is determined as the weighted average of the long term expected returns of each asset class where the weighting is the benchmark asset allocations of the assets backing the defined benefit risks. The long term expected returns of each asset class are determined following receipt of actuarial advice. The discount rate (gross of tax) assumption for the OSF is based on the yield on 10 year Australian government securities. Expected Life Expectancies for Pensioners Male pensioners currently aged 60 Male pensioners currently aged 65 Female pensioners currently aged 60 Female pensioners currently aged 65 Further, the proportion of the retiring members of the main OSF defined benefit division electing to take pensions instead of lump sums may materially impact the defined benefit obligations. Of these retiring members 30% were assumed to take pension benefits, increasing to 50% in 2020. Australian and UK legislation requires that superannuation (pension) benefits be provided through trusts. These trusts (including their investments) are managed by trustees who are legally independent of the employer. The investment objective of the OSF (the Bank’s major superannuation (pension) plan) is “to maximise the long term rate of return subject to net returns over rolling five year periods exceeding the growth in Average Weekly Ordinary Time Earnings 80% of the time”. In addition to financial assumptions, the mortality assumptions for pensioners can materially impact the defined benefit obligations. These assumptions are age related and allowances are made for future improvement in mortality. The expected life expectancies for pensioners are set out below: 2008 Years 30. 4 25. 6 33. 8 28. 7 OSF 2007 Years 30. 2 25. 4 33. 6 28. 5 CBA(UK)SBS 2007 Years 23. 2 18. 7 26. 2 21. 6 2008 Years 26. 8 22. 0 29. 7 24. 9 To meet this investment objective, the OSF Trustee invests a large part of the OSF’s assets in growth assets, such as shares and property. These assets have historically earned higher rates of return than other assets, but they also carry higher risks, especially in the short term. To manage these risks, the Trustee has adopted a strategy of spreading the OSF’s investments over a number of asset classes and investment managers. As at 30 June 2008, the benchmark asset allocations and actual asset allocations for the assets backing the defined benefit portion of the OSF are as follows: Asset Allocations Australian Equities Overseas Equities Real Estate Fixed Interest Securities Cash Other (1) Benchmark Allocation % 27. 5 21. 0 15. 0 25. 5 5. 0 6. 0 Actual Allocation % 27. 6 17. 4 18. 9 25. 8 3. 2 7. 1 (1) These are assets which are not included in the traditional asset classes of equities, fixed interest securities, real estate and cash. They include infrastructure investments as well as high yield and emerging market debt. The value of the OSF’s equity holding in the Group as at 30 June 2008 was $77 million (2007: $105 million). Amounts on deposit with the Bank at 30 June 2008 totalled $26 million (2007: $23 million). Other financial instruments with the Group at 30 June 2008 totalled $13 million (2007: nil). 208 Commonwealth Bank of Australia Annual Report 2008 Note 44 Controlled Entities Entity Name Australia (a) Banking Commonwealth Bank of Australia Controlled Entities: CBA Investments Limited Luca Limited Partnership CBCL Australia Limited CBFC Limited Collateral Leasing Pty Limited Commonwealth Securities Limited Homepath Pty Limited Sparad (No. 24) Pty Limited Colonial Finance Limited PERLS III Trust (formally Preferred Capital Limited) PERLS II Trust Fringe Pty Ltd Lily Pty Ltd Greenwood Lending Pty Ltd Series 2001-IG Medallion Trust Series 2002-IG Medallion Trust Medallion Trust Series 2003-1G Medallion Trust Series 2004-1G Medallion Trust Series 2005-1G Medallion Trust Series 2005-2G Hemisphere Lane Pty Ltd Medallion Trust Series 2006 1G Medallion Trust Series 2007 4P Medallion Trust Series 2007 5P Medallion Trust Series 2007-1G SHIELD Series 50 GT Operating No.2 Pty Limited Crystal Avenue Pty Limited GT Funding No6 Ltd Partnership GT Operating No4 Pty Ltd Securitisation Advisory Services Pty Ltd Prime Investment Entity Limited MIS Funding No1 Pty Limited IWL Limited CBFC Leasing Pty Limited Share Investments Pty Limited Loft No 3 Pty Ltd eCommlegal Pty Ltd Harboard Beach Pty Ltd Copacabana Beach Pty Ltd SHIELD Series 21 Padang Pty Ltd M-Land Pty Ltd Group Treasury Services NZ Limited GT Investments No 3 Pty Ltd Medallion Trust Series 2008-1R Notes to the Financial Statements Extent of Beneficial Interest if not 100% Incorporated in 99.9% Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Commonwealth Bank of Australia Annual Report 2008 209 Notes to the Financial Statements Note 44 Controlled Entities (continued) Entity Name (b) Insurance and Funds Management Commonwealth Insurance Limited Colonial Holding Company Limited Commonwealth Insurance Holdings Limited Commonwealth Managed Investments Limited Colonial AFS Services Pty Limited Colonial First State Group Limited Colonial First State Investments Limited Avanteos Pty Limited Avanteos Investments Ltd Colonial First State Property Limited Colonial First State Property Retail Trust Jacques Martin Administration and Consulting Pty Limited Colonial First State Property Management Pty Ltd Commonwealth Financial Planning Limited Financial Wisdom Limited First State Investment Managers (Asia) Limited Colonial First State Asset Management (Australia) Limited CFS Managed Property Limited Extent of Beneficial Interest if not 100% Incorporated in Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia 210 Commonwealth Bank of Australia Annual Report 2008 Note 44 Controlled Entities (continued) Entity Name New Zealand (a) Banking ASB Holdings Limited ASB Bank Limited CBA Funding (NZ) Limited ASB Capital No. 2 Limited ASB Capital Limited CBA USD Funding Limited CBA NZ Holding Limited (b) Insurance and Funds Management ASB Group (Life) Limited Sovereign Group Limited Sovereign Limited Colonial First State Investments (NZ) Limited Kiwi Income Properties Limited Kiwi Property Management Limited Other Overseas (a) Banking CBA Asia Limited CTB Australia Limited PT Bank Commonwealth National Bank of Fiji Limited CBA (Delaware) Finance Incorporated CBA Capital Trust 1 CBA Funding Trust 1 CBA Capital Trust II CBA (Europe) Finance Limited Pontoon (Funding) PLC Burdekin Investments Limited Pavillion and Park Limited Newport Limited CommInternational Limited CommCapital S.a.r.l CommBank Europe Limited CommBank Management Consulting (Asia) Co Ltd CommTrading Limited Watermark Limited D Compartment ABI Lux Co (b) Insurance and Funds Management CMG Asia Life Holdings Limited Colonial Fiji Life Limited Colonial First State (UK) Holdings Limited First State (HK) LLC First State Investment Holdings (Singapore) Ltd First State Investments (Cayman) Limited PT Astra CMG Life FS Investments (Bermuda) Ltd Notes to the Financial Statements Extent of Beneficial Interest if not 100% Incorporated in New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand New Zealand Singapore Hong Kong Indonesia Fiji Delaware USA Delaware USA Delaware USA Delaware USA United Kingdom United Kingdom Cayman Islands United Kingdom Malta Malta Luxembourg Malta Hong Kong Malta Hong Kong Luxembourg Bermuda Fiji United Kingdom United States Singapore Cayman Islands Indonesia Bermuda 97% 80% Non-operating and minor operating controlled entities and investment vehicles holding policyholder assets are excluded from the above list. Commonwealth Bank of Australia Annual Report 2008 211 Notes to the Financial Statements Note 45 Investments in Associated Entities and Joint Ventures Acadian Asset Management (Australia) Limited CMG CH China Funds Management Limited Equion Health (Barts) Limited Equigroup Pty Limited Sandalwood Pte Ltd China Life CMG Life Assurance Company Limited First State Cinda Fund Management Company Limited Healthcare Support (Newcastle) Limited International Private Equity Real Estate Fund AMTD Group Company Limited 452 Capital Pty Limited Bank of Hangzhou Co. Ltd. (1) CFS Retail Property Trust (2) Commonwealth Property Office Fund (3) Total (1) Formerly Hangzhou City Commercial Bank Co. Limited. 2008 $M 2 1 1 15 1 11 13 1 5 1 44 164 438 209 906 2007 $M - 1 1 - - 11 6 - - 1 44 143 437 192 836 Extent of Ownership Interest % Principal Activities Country of Incorporation Balance Date Group 50 50 50 50 50 49 46 40 33 30 30 19. 9 9. 7 9. 8 Investment Management Australia Investment Management Australia Financial Services Leasing Property Management Life Insurance 30 Jun 31 Mar United Kingdom 31 Dec 30 Jun Australia 31 Dec Singapore 31 Dec China Funds Management Financial Services Funds Management Financial Services Investment Management Australia Commercial Banking Funds Management Funds Management China 31 Dec United Kingdom 31 Dec 30 Jun Australia 31 Dec Virgin Islands 30 Jun 31 Dec 30 Jun 30 Jun China Australia Australia (2) The value for CFS Retail Property Trust based on published quoted prices as at 30 June 2008 is $407 million (2007: $472 million). (3) The value for Commonwealth Property Office Fund based on published quoted prices as at 30 June 2008 is $196 million (2007: $242 million). Share of Associates’ profits/(losses) Operating profits/(losses) before income tax Income tax expense Operating profits/(losses) after income tax Carrying amount of investments in associated entities Financial Information of Associates Assets Liabilities Revenues Expenses Financial Information of Joint Ventures Assets Liabilities Revenues Expenses 2008 $M 98 (6) 92 Group 2007 $M 70 (17) 53 906 836 2008 $M 25,610 17,967 2,213 1,436 2008 $M 359 63 231 78 Group 2007 $M 17,936 13,163 1,753 1,162 Group 2007 $M 118 85 53 57 Note 46 Director and Executive Disclosures Details of the Directors’ and Specified Executives’ remuneration, interests in long term incentive plans, shares, options and loans are included in the Remuneration Report of the Directors’ Report. The Company has applied the exemption under AASB 124 Related Party Disclosures which exempts listed companies from providing remuneration disclosures in relation to their key management personnel in their Annual Financial Reports. These remuneration disclosures are provided in the Remuneration Report of the Directors’ Report on pages 56 to 76 and are designated as audited. 212 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 46 Director and Executive Disclosures (continued) Key Management Personnel Compensation Short Term Benefits Post-employment Benefits Share-based Payments Termination benefits Long term benefits Note 47 Related Party Disclosures 2008 $M 28 1 9 1 - 39 Group 2007 $M 21 6 10 - - 37 2008 $M 28 1 9 1 - 39 Bank 2007 $M 21 6 10 - - 37 The Group is controlled by the Commonwealth Bank of Australia, the ultimate parent, which is incorporated in Australia. A number of banking transactions are entered into with related parties in the normal course of business. These include loans, deposits and foreign currency transactions, upon which some fees and commissions may be earned. The table below indicates the values of such transactions for the financial year ended 30 June 2008. Group Interest and dividend income Interest expense Fees and commissions for services provided Fees and commissions for services received Loans, advances and equity contributions Other assets Deposits Derivative liabilities Other liabilities Bank Interest and dividend income Interest expense Fees and commissions for services provided Fees and commissions for services received Available-for-sale securities Loans, advances and equity contributions Derivative assets Other assets Deposits Derivative liabilities Debt issues and loan capital Other liabilities For the Year Ended and as at 30 June 2008 Associates $M 86 3 87 74 111 31 31 283 1 Joint Ventures $M 6 - 10 - 387 8 - - 6 Total $M 92 3 97 74 498 39 31 283 7 For the Year Ended and as at 30 June 2008 Subsidiaries $M 3,110 2,974 755 333 Associates $M 76 2 5 72 Joint Ventures $M 6 - 9 - 16,380 37,472 1,724 1,884 54,711 528 3,501 1,221 - 110 - - 31 283 - 1 - 380 - 8 - - - 6 Total $M 3,192 2,976 769 405 16,380 37,962 1,724 1,892 54,742 811 3,501 1,228 Commonwealth Bank of Australia Annual Report 2008 213 Notes to the Financial Statements Note 47 Related Party Disclosures (continued) Group Interest and dividend income Interest expense Fees and commissions for services provided Fees and commissions for services received Loans, advances and equity contributions Other assets Deposits Derivative liabilities Other liabilities Bank Interest and dividend income Interest expense Fees and commissions for services provided Fees and commissions for services received Available-for-sale securities Loans, advances and equity contributions Derivative assets Other assets Deposits Derivative liabilities Debt issues and loan capital Other liabilities For the Year Ended and as at 30 June 2007 Associates $M 120 1 93 116 Joint Ventures $M - - 7 - 217 - 18 - - 12 - 2 - - Total $M 120 1 100 116 229 - 20 - - For the Year Ended and as at 30 June 2007 Subsidiaries $M 2,777 2,607 764 274 Associates $M 65 1 17 5 Joint Ventures $M - - - - 824 37,512 1,859 1,483 48,286 837 3,336 2,316 - 319 - - 18 - - - - - - - - - - - Total $M 2,842 2,608 781 279 824 37,831 1,859 1,483 48,304 837 3,336 2,316 Details of controlled entities are disclosed in Note 44. The Bank’s aggregate investment in and loans to controlled entities are disclosed in Note 17. Amounts due to controlled entities are disclosed in the Balance Sheet of the Bank. Details of amounts paid to or received from related parties, in the form of dividends or interest, are set out in Note 2. All transactions between Group entities are eliminated on consolidation. 214 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 47 Related Party Disclosures (continued) Equity Holdings of Key Management Personnel Shareholdings All shares were acquired by Directors on normal terms and conditions or through the Non-Executive Directors’ Share Plan. Shares awarded under the Equity Reward Plan and the mandatory component of the Equity Participation Plan are registered in the name of the Trustee. For further details of the Non-Executive Directors’ Share Plan, previous Equity Reward Plan, previous Executive Option Plan and Equity Participation Plan refer to Note 33 Share Capital. Details of shareholdings of Key Management Personnel (or close family members or entities controlled, jointly controlled, or significantly influenced by them, or any entity over which any of the aforementioned hold significant voting power) are as follows: Shares held by Directors Name Directors J M Schubert R J Norris J A Anderson R J Clairs C R Galbraith J S Hemstritch S C H Kay F D Ryan D J Turner H H Young W G Kent (3) F J Swan (3) Total For Directors Class Ordinary Ordinary Reward Shares Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Ordinary Reward Shares Balance 1 July 2007 Acquired/Granted as Remuneration (1) On Exercise of Options Net Change (2) Other 24,418 10,000 191,238 10,000 17,886 11,404 15,565 5,901 9,196 301 20,000 17,070 8,181 149,922 191,238 2,890 - - 773 1,014 992 926 1,036 1,146 940 866 441 497 11,521 - - - - - - - - - - - - - - - - - - - 792 - 658 - 2,100 5,000 - 1,131 1,689 - 11,370 - Balance 30 June 2008 27,308 10,000 191,238 11,565 18,900 13,054 16,491 9,037 15,342 1,241 21,997 19,200 8,678 172,813 191,238 (1) For Non-Executive Directors, represents shares acquired under NEDSP on 20 August 2007 and 4 March 2008 by mandatory sacrifice of fees. All shares acquired through NEDSP are subject to a 10 year trading restriction (shares will be tradeable earlier if the Director leaves the Board). For Mr Norris this represents Reward Shares granted under the ERP subject to performance hurdles. For the ERP, the first possible date for meeting the performance hurdle is 14 July 2009 with the last possible date for vesting being 14 July 2010. See Note 33 to the Financial Statements for further details on the NEDSP and ERP. (2) “Net Change Other” incorporates changes resulting from purchases and sales during the year. (3) Mr Kent and Mr Swan retired at the 2007 Annual General Meeting on 7 November 2007. Commonwealth Bank of Australia Annual Report 2008 215 Notes to the Financial Statements Note 47 Related Party Disclosures (continued) Shares held by Key Management Personnel Name Executives B J Chapman D Cohen (4) D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan J K O’Sullivan (5) G A Petersen A Toevs (6) Class (1) Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Ordinary Reward Shares Deferred Shares Other Executives W Negus Total for Key Management Personnel Ordinary Reward Shares Ordinary Reward Shares Deferred Shares Balance 1 July 2007 Acquired/Granted as Remuneration On Exercise of Options Reward Shares (2) Vested Net Change (3) Other - 17,046 - - - 22,728 29,999 105,140 - 14,318 39,808 80,018 - - 45,767 69,770 14,652 64,780 - - - 3,680 40,500 133,906 414,300 - - - - - - - - - - - - - - - - - - - - - 37,784 - - - - 37,784 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - (37,500) - - - (28,130) - - - (25,940) - (19,500) - - - - - - (111,070) - 450 - - - 6,000 - - - - - 2,388 - - - 25,940 (43,830) (1,287) - - - - - - 33,491 (43,830) - Balance 30 June 2008 450 17,046 - - 6,000 22,728 29,999 67,640 - 14,318 42,196 51,888 - - 71,707 - 13,365 45,280 - - 37,784 3,680 40,500 167,397 259,400 37,784 (1) Reward Shares represents shares granted under the Equity Reward Plan (ERP) and are subject to a performance hurdle. The last possible date for vesting is 14 July 2010. See Note 33 to the Financial Statements for further details on the ERP. (2) Reward Shares become ordinary shares upon vesting. (3) “Net Change Other” incorporates changes resulting from purchases, sales and forfeitures during the year. (4) Mr Cohen commenced employment on 16 June 2008. (5) Mr O’Sullivan ceased employment on 31 January 2008. (6) Mr Toevs commenced employment on 23 June 2008. 216 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 47 Related Party Disclosures (continued) Loans to Key Management Personnel All loans to Key Management Personnel (or close family members or entities controlled, jointly controlled or significantly influenced by them or any entity over which any of the aforementioned hold significant voting power) have been provided on an arms-length commercial basis including the term of the loan, security required and the interest rate (which may be fixed or variable). Total Loans to Key Management Personnel Year Ended 30 June Balance 1 July $000s Interest Charged $000s Interest Not Charged $000s Write-off $000s Balance 30 June $000s Number in Group at 30 June 1 1 9 6 10 7 1 1 11 8 Highest Balance in Period $000s 3,181 2,852 936 215 100 3,544 647 748 3,874 2,702 Directors Executives Total for Key Management Personnel Other Executives Total 2008 2007 2008 2007 2008 2007 2008 2007 2008 2007 3,648 464 6,103 9,178 9,751 9,642 1,442 554 11,193 10,196 258 21 781 425 1,039 446 68 35 1,107 481 - - - - - - - - - - - - - - - - - - 2,795 464 12,369 5,965 15,164 6,429 1,335 443 16,499 6,872 Individual Loans above $100,000 to Key Management Personnel Balance 1 July 2007 $000s Interest Charged $000s Interest Not Charged $000s Write-off $000s Balance 30 June 2008 $000s Directors R J Norris (1) Executives B J Chapman (1) D Cohen D P Craig S I Grimshaw M R Harte G L Mackrell R M McEwan (1) J K O’Sullivan (2) G A Petersen Total for Key Management Personnel Other Executives W Negus Total for Other Executives Total for Key Management Personnel & Other Executives 3,648 - 936 - - - 647 279 3,599 642 9,751 1,442 1,442 258 153 75 5 - 218 1 39 200 90 1,039 68 68 11,193 1,107 - - - - - - - - - - - - - - - - - - - - - - - - - - - - 2,795 2,679 936 213 50 3,394 647 460 3,013 977 15,164 18,799 1,335 1,335 1,845 1,845 16,499 20,644 (1) Balance declared in NZD for Mr Norris, Ms Chapman and Mr McEwan. Exchange rates are taken from Forex as at 30 June 2008 for interest charged, 30 June 2008 balances and highest balance in period. The exchange rate as at 30 June 2007 has been used for the 1 July 2007 balances. (2) Mr O’Sullivan ceased employment on 31 January 2008. Commonwealth Bank of Australia Annual Report 2008 217 Notes to the Financial Statements Note 48 Notes to the Statements of Cash Flows Note 48(a) Reconciliation of Net Profit after Income Tax to Net Cash Provided by/(used in) Operating Activities (1) Net profit after income tax Net decrease/(increase) in interest receivable Increase in interest payable Net decrease/(increase) in assets at fair value through Income Statement (excluding life insurance) Net (gain)/loss on sale of investments Net (gain)/loss on sale of controlled entities and associates Net (increase)/decrease in derivative assets Net loss/(gain) on sale property plant and equipment Net (gain) on sale of Visa Initial Public Offering Loan impairment expense Depreciation and amortisation (including asset write downs) (Decrease)/increase in liabilities at fair value through Income Statement (excluding life insurance) Increase/(decrease) in derivative liabilities Increase/(decrease) in other provisions Increase/(decrease) in income taxes payable (Decrease)/increase in deferred income taxes payable Decrease/(increase) in deferred tax assets (Increase)/decrease in accrued fees/reimbursements receivable (Decrease)/increase in accrued fees and other items payable Increase/(decrease) in life insurance contract policy liabilities (Decrease)/increase in cash flow hedge reserve Dividend received from controlled entities Changes in operating assets and liabilities arising from cash flow movements Other Net cash (used in)/provided by operating activities 2008 $M 4,822 187 449 196 (1) - (5,459) 15 (127) 930 423 (884) 4,622 296 29 (643) 178 (153) (575) 184 (150) - (6,124) (290) (2,075) 2007 $M 4,497 (745) 362 (7,272) - - (3,068) 16 - 434 270 5,799 5,860 57 297 175 (272) (163) 386 (1,460) 547 - (560) 481 5,641 Group 2006 $M 3,959 (99) 784 (53) - (163) 128 (4) - 398 213 1,870 (445) (92) (455) 182 184 (88) 133 (1,211) 31 - (3,954) (156) 1,162 Year Ended 30 June Bank 2008 $M 4,358 (174) 451 1,324 1 - (5,654) 14 (111) 902 330 (2,286) 4,149 250 (111) (72) (97) 193 (1,011) (10) 106 (1,667) 2007 $M 4,477 (564) 303 (6,038) - - (3,923) 13 - 390 205 3,016 5,831 43 364 175 (408) (196) 265 10 295 (1,881) (11,062) (118) (10,295) (15,008) 53 (12,578) (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). Note 48(b) Reconciliation of Cash For the purposes of the Statements of Cash Flows, cash includes cash, money at short call, at call deposits with other financial institutions and settlement account balances with other banks. Notes, coins and cash at banks Other short term liquid assets Receivables due from other financial institutions – at call (1) Payables due to other financial institutions – at call (1) Cash and cash equivalents at end of year 2008 $M 2,476 1,309 3,357 (4,877) 2,265 2007 $M 4,557 967 4,607 (6,047) 4,084 Group 2006 $M 1,703 491 4,657 (4,813) 2,038 Year Ended 30 June 2008 $M 1,344 1,118 2,672 (4,797) 337 Bank 2007 $M 1,377 894 3,837 (5,980) 128 (1) At call includes certain receivables and payables due from and to financial institutions within three months. 218 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 48 Notes to the Statements of Cash Flows (continued) Note 48(c) Disposal of Controlled Entities Fair value of net tangible assets disposed Cash and liquid assets Assets at fair value through Income Statement: Insurance Other assets Life Insurance policy liabilities Bills payable and other liabilities Profit on sale Cash consideration received Less cash and cash equivalents disposed Net cash inflow on disposal 2008 $M 2007 $M - - 1 - - 1 2 - 2 - - - - - - - - - 2006 $M 55 2,297 148 (1,996) (41) 145 608 (55) 553 Note 48(d) Non-cash Financing and Investing Activities Shares issued under the Dividend Reinvestment Plan for 2008 amounted to $1,109 million (2007: $818 million). Note 48(e) Acquisition of Controlled Entities Fair value of net assets acquired Cash and liquid assets Minority interests Goodwill (including discount on acquisition) Other intangible assets Loans, advances and other receivables Investments Other assets Payables due to other financial institutions Deposits and other public borrowings Other liabilities Cash consideration paid Less cash and cash equivalents acquired Less: Non-cash consideration Net cash outflow on acquisition Carrying value at acquisition 2008 $M 2008 $M 2007 $M 2006 $M 24 - 50 4 241 112 11 (130) (202) (11) 24 - 316 64 241 112 11 (130) (202) (30) 406 (24) 382 (141) 241 - 4 3 - - - - - - - 7 - 7 - 7 - 126 7 122 - - 167 - - (8) 414 - 414 - 414 Details of equity instruments issued as part of business combinations Number of equity instruments issued Fair value of equity issued ($) 2008 2007 2006 2,327,431 140,952,360 - - - - The above information relates to acquisitions that took place during the financial year and were considered individually immaterial. On 26 July 2007, PT Commonwealth Bank acquired 83% of Arta Niaga Kencana (ANK) Bank in Indonesia. The merger was completed on 31 December 2007 and thereafter the Group owned 97% of the merged entities. On 27 November 2007, the Group completed the 100% acquisition of IWL Limited, an online broking business. The profit of IWL Limited since acquisition for the year ended 30 June 2008 was $0.4 million and for the full year was also $0.4 million. The revenue of IWL Limited for the full year was $102.1 million. ANK is now accounted for as part of the International Financial Services segment. As a result revenues and profits are unavailable at the individual entity level. Note 48(f) Financing Facilities Standby funding lines are considered immaterial. Commonwealth Bank of Australia Annual Report 2008 219 Notes to the Financial Statements Note 49 Disclosures about Fair Value of Financial Instruments 49(a) Fair Value of Financial Assets and Financial Liabilities the These amounts represent estimates of the fair values of the Group’s financial assets and financial liabilities at Balance Sheet date based on following valuation methods and assumptions. Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction. Quoted market prices are used to determine fair value where an active market (such as a recognised stock exchange) exists, as it is the best evidence of the fair value of a financial instrument. Quoted market prices are not, however, available for a significant number of the financial assets and liabilities held and issued by the Group. Therefore, for financial instruments where no quoted market price is available, the fair values presented in the following table have been estimated using present value or other valuation techniques based on market conditions existing at Balance Sheet dates. These valuation techniques rely on market observable inputs wherever possible, or in a limited number of instances, rely on inputs which are reasonable assumptions based on market conditions at balance date. While the fair value amounts are designed to represent estimates at which these instruments could be exchanged in a current transaction between willing parties, many of the Group’s financial instruments lack an available trading market as characterised by willing parties engaging in an exchange transaction. Assets (1) Cash and liquid assets Receivables due from other financial institutions Assets at fair value through Income Statement: Trading Insurance Other Derivative assets Available-for-sale investments Loans, advances and other receivables Bank acceptances of customers Other assets Liabilities (1) Deposits and other public borrowings Payables due to other financial institutions Liabilities at fair value through Income Statement Derivative liabilities Bank acceptances Insurance policy liabilities Debt issues Managed fund units on issue Bills payable and other liabilities Loan capital In addition, it is the Bank’s intent to hold most of its financial instruments to maturity and therefore it is not probable that the fair values shown would be realised in a current transaction. liabilities that are not considered The estimated fair values disclosed do not reflect the value of assets and financial instruments. In addition, the value of long term relationships with depositors (core deposit intangibles) and other customers (credit card intangibles) are not reflected. The value of these items is considered significant. Because of the wide range of valuation techniques and the numerous estimates that must be made, it may be difficult to make reasonable comparisons of fair value information with that of other financial institutions. It is important that the many uncertainties discussed above be considered when using the estimated fair value disclosures and to realise that because of these uncertainties, the aggregate fair value amount should in no way be construed as representative of the underlying value of the Commonwealth Bank of Australia. the Bank’s Group 2008 Group 2007 Carrying Value $M 7,736 6,984 21,676 20,650 3,266 18,232 11,488 361,282 18,278 17,296 263,706 17,672 15,526 19,541 18,278 18,495 85,817 1,109 7,524 11,559 Fair Value $M 7,736 6,984 21,676 20,650 3,266 18,232 11,488 357,618 18,278 17,296 262,832 17,672 15,526 19,541 18,278 18,495 84,979 1,109 7,521 11,724 Carrying Value $M 10,108 5,495 21,469 23,519 4,073 12,743 9,672 315,465 18,721 17,264 219,068 14,386 16,396 16,680 18,721 21,613 88,525 310 7,346 10,000 Fair Value $M 10,108 5,495 21,469 23,519 4,073 12,743 9,672 313,694 18,721 17,264 218,472 14,386 16,396 16,680 18,721 21,613 88,619 310 7,346 10,120 (1) Comparative information has been restated to conform to presentation in the current period. Refer to Note 1 (b). 220 Commonwealth Bank of Australia Annual Report 2008 Notes to the Financial Statements Note 49 Disclosures about Fair Value of Financial Instruments (continued) 49(a) Fair Value of Financial Assets and Financial Liabilities (continued) The fair value estimates were determined by the following methodologies and assumptions: Liquid assets and Bank acceptances of customers The carrying values of cash and liquid assets, receivables from other financial institutions and bank acceptances of customers approximate their fair value as they are short term in nature or are receivable on demand. Receivables due from other financial institutions also includes statutory deposits with central banks. The fair value is assumed to be equal to the carrying value as the Group is only able to continue as a going concern with the maintenance of these deposits. Assets at Fair Value through Income Statement Assets at fair value through Income Statement are carried at fair value determined using quoted market prices or valuation techniques including discounted cash flow models using market observable and non-market observable inputs. Discount rates have been adjusted for changes in customer credit ratings, where appropriate. Available-for-sale investments Assets available-for-sale are measured at fair value determined using quoted market prices. For shares in companies, the estimated fair values are estimated based on market price inputs. Loans, advances and other receivables The carrying value of loans, advances and other receivables is net of accumulated collective and individually assessed provisions for impairment. Customers credit worthiness is regularly reviewed in line with the Group’s credit policies and where necessary, pricing is adjusted in accordance with individual credit contracts. For variable rate loans, excluding impaired loans, the carrying amount is a reasonable estimate of fair value. The fair value for fixed rate loans was calculated by utilising discounted cash flow models (i.e. the net present value of the portfolio future principal and interest cash flows), based on the maturity of the loans. The discount rates applied were based on the current benchmark rate offered for the average remaining term of the portfolio plus an add-on of the average credit margin of the existing portfolio, in customer credit ratings, where adjusted appropriate. for changes The fair value of impaired loans was calculated by discounting estimated future cash flows using the loan’s original effective interest rate. Retirement benefit surplus The fair value of the retirement benefit surplus is the carrying value at Balance Sheet date determined using a present value calculation based on assumptions that are outlined in Note 43. All other financial assets Included in this category are interest and fees receivable, unrealised income, and investments in associates of $906 million (2007: $836 million), where the carrying amount is considered to be a reasonable estimate of fair value. Other financial assets are net of goodwill and other intangibles, future income tax benefits and prepayments/unamortised payments, as these do not constitute financial instruments. Deposits and other public borrowings The carrying value of non-interest bearing, call and variable rate deposits, and fixed rate deposits repricing within six months, approximate their value as they are short term in nature or are payable on demand. Discounted cash flow models based upon deposit type and related maturity, were used to calculate the fair value of other term deposits. Short term liabilities The carrying value of payables to other financial institutions and bank acceptances approximate their fair value as they are short term in nature and reprice frequently. Debt issues and loan capital The fair values of debt issues and loan capital were calculated using quoted market price at Balance Sheet date. For those debt issues where quoted market prices were not available, discounted cash flow and option pricing models were used, utilising a yield curve appropriate to the expected remaining maturity of the instrument and adjusted for any change in the Group’s applicable credit rating. Liabilities at Fair Value through Income Statement Liabilities at Fair Value through Income Statement are carried at fair value determined using quoted market prices, or valuation techniques including discounted cash flow models using market observable inputs. Discount rates have been adjusted for any changes in the Group’s applicable credit rating. Derivative Assets and Liabilities The fair value of trading and hedging derivative contracts, were obtained from quoted market prices, discounted cash flow models or option pricing models that used market based and non-market based inputs. The fair value of these instruments is disclosed in Note 11. Life Insurance Policy Holder Liabilities Life insurance policyholder liabilities are measured on a net present value basis using assumptions outlined in Note 37. This treatment is in accordance with AASB 1038: Life Insurance Business. All other financial liabilities includes This category interest payable and unrealised expenses payable for which the carrying amount is considered to be a reasonable estimate of net fair value. For liabilities that are long term, fair values have been estimated using the rates currently offered for similar liabilities with remaining maturities. Other provisions including provision for dividend, income tax liability and unamortised receipts are not considered financial instruments. Commonwealth Bank of Australia Annual Report 2008 221 Notes to the Financial Statements Note 49 Disclosures about Fair Value of Financial Instruments (continued) 49(a) Fair Value of Financial Assets and Financial Liabilities (continued) Commitments to extend credit, letters of credit, guarantees, warranties and indemnities issued The fair value of these items was not calculated as estimated fair values are not readily ascertainable. These financial instruments generally relate to credit risk and attract fees in line with market prices for similar arrangements. They are not presently sold or traded. The items generally do not involve cash payments other than in the event of default. The fee pricing is set as part of the broader customer credit process and reflects the probability of default. The fair value may be represented by the present value of fees expected to be received, less associated costs, however the overall level of fees involved is not material. 49(b) The Impact of Fair Values Calculated Using Non- market Observable Assumptions The Group’s exposure to financial instruments measured at fair value based in full or in part on non-market observable inputs is restricted to short term loans and margins on trading securities where pricing is counterparty specific. These financial instruments comprise a small component of the portfolios they are part of and have short tenor, such that any change in the assumptions used to value the instruments to a reasonably possible alternative do not have a material effect on the portfolio balance or the Group’s result. 222 Commonwealth Bank of Australia Annual Report 2008 Directors’ Declaration In accordance with a resolution of the Directors of the Commonwealth Bank of Australia the Directors declare that: (a) the Financial Statements and notes thereto of the Bank and the Group, and the additional disclosures included in the Directors’ Report designated as audited, comply with Accounting Standards and in their opinion are in accordance with the Corporations Act 2001; (b) the Financial Statements and notes thereto give a true and fair view of the Bank’s and the Group’s financial position as at 30 June 2008 and of their performance for the year ended on that date; (c) in the opinion of the Directors, there are reasonable grounds to believe that the Bank will be able to pay its debts as and when they become due and payable; and (d) the directors have been given the declarations required under Section 295A of the Corporations Act 2001 for the financial year ended 30 June 2008. Signed in accordance with a resolution of the Directors. J M Schubert Chairman 13 August 2008 R J Norris Managing Director and Chief Executive Officer 13 August 2008 Commonwealth Bank of Australia Annual Report 2008 223 Independent auditor’s report to the members of Commonwealth Bank of Australia Report on the financial report We have audited the accompanying financial report of Commonwealth Bank of Australia (the company), which comprises the balance sheet as at 30 June 2008, and the income statement, statement of recognised income and expense and cash flow statement for the year ended on that date, a summary of significant accounting policies, other explanatory notes and the directors’ declaration for both Commonwealth Bank of Australia and the Group. The consolidated entity comprises the Commonwealth Bank of Australia and the entities it controlled at the year's end or from time to time during the financial year. Directors’ responsibility for the financial report The directors of the company are responsible for the preparation and fair presentation of the financial report in accordance with Australian Accounting Standards (including the Australian Accounting Interpretations) and the Corporations Act 2001. This responsibility includes establishing and maintaining internal controls relevant to the preparation and fair presentation of the financial report that is free from material misstatement, whether due to fraud or error; selecting and applying appropriate accounting policies; and making accounting estimates that are reasonable in the circumstances. In Note 1 (a), the directors also state, in accordance with Accounting Standard AASB 101 Presentation of Financial Statements, that compliance with the Australian equivalents to International Financial Reporting Standards ensures that the financial report, comprising the financial statements and notes, complies with International Financial Reporting Standards. Auditor’s responsibility Our responsibility is to express an opinion on the financial report based on our audit. We conducted our audit in accordance with Australian Auditing Standards. These Auditing Standards require that we comply with relevant ethical requirements relating to audit engagements and plan and perform the audit to obtain reasonable assurance whether the financial report is free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial report. The procedures selected depend on the auditor’s judgement, including the assessment of the risks of material misstatement of the financial report, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial report in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by the directors, as well as evaluating the overall presentation of the financial report. Our procedures include reading the other information in the Annual Report to determine whether it contains any material inconsistencies with the financial report. For further explanation of an audit, visit our website http://www.pwc.com/au/financialstatementaudit. Our audit did not involve an analysis of the prudence of business decisions made by directors or management. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinions. 224 Commonwealth Bank of Australia Annual Report 2008 Independent auditor’s report to the members of Commonwealth Bank of Australia (continued) Independence In conducting our audit, we have complied with the independence requirements of the Corporations Act 2001. Auditor’s opinion In our opinion: (a) the financial report of Commonwealth Bank of Australia is in accordance with the Corporations Act 2001, including: (i) giving a true and fair view of the company’s and consolidated entity’s financial position as at 30 June 2008 and of their performance for the year ended on that date; and (ii) complying with Australian Accounting Standards (including the Australian Accounting Interpretations) and the Corporations Regulations 2001; and (b) the financial report also complies with International Financial Reporting Standards as disclosed in Note 1 (a). Report on the Remuneration Report We have audited the Remuneration Report included in pages 56 to 75 of the directors’ report for the year ended 30 June 2008. The directors of the company are responsible for the preparation and presentation of the Remuneration Report in accordance with section 300A of the Corporations Act 2001. Our responsibility is to express an opinion on the Remuneration Report, based on our audit conducted in accordance with Australian Auditing Standards. Auditor’s opinion In our opinion, the Remuneration Report of Commonwealth Bank of Australia for the year ended 30 June 2008, complies with section 300A of the Corporations Act 2001. Matters relating to the electronic presentation of the audited financial report This auditor’s report relates to the financial report and remuneration report of Commonwealth Bank of Australia (the company) for the year ended 30 June 2008 included on Commonwealth Bank of Australia web site. The company’s directors are responsible for the integrity of the Commonwealth Bank of Australia web site. We have not been engaged to report on the integrity of this web site. The auditor’s report refers only to the financial report and remuneration report named above. It does not provide an opinion on any other information which may have been hyperlinked to/from these statements or the remuneration report. If users of this report are concerned with the inherent risks arising from electronic data communications they are advised to refer to the hard copy of the audited financial report and remuneration report to confirm the information included in the audited financial report and remuneration report presented on this web site. PricewaterhouseCoopers Rahoul Chowdry Partner 13 August 2008 Commonwealth Bank of Australia Annual Report 2008 225 Shareholding Information Top 20 Holders of Fully Paid Ordinary Shares as at 8 August 2008 Rank 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Name of Holder HSBC Custody Nominees (Australia) Limited J P Morgan Nominees Australia Limited National Nominees Pty Limited Citicorp Nominees Pty Limited RBC Dexia Investor Services Australia Nominees Pty Limited ANZ Nominees Limited Cogent Nominees Pty Limited Queensland Investment Corporation AMP Life Limited Australian Foundation Investments Company Limited UBS Wealth Management Australia Nominees Pty Ltd UBS Nominees Pty Limited Bond Street Custodians Limited Invia Custodian Pty Limited Perpetual Trustee Co Limited (Hunter) Milton Corporation Limited Merrill Lynch (Australia) Nominees Pty Limited Suncorp Custodian Services Pty Limited Australian Reward Investment Alliance Argo Investments Limited Number of Shares 134,930,729 102,911,926 92,124,605 68,172,560 31,525,878 29,621,673 18,927,257 13,776,470 9,372,231 7,975,245 7,725,788 6,041,971 5,791,346 2,901,020 2,756,096 2,064,293 1,906,386 1,888,611 1,882,519 1,858,306 % 10. 17 7. 76 6. 95 5. 14 2. 38 2. 23 1. 43 1. 04 0. 71 0. 60 0. 58 0. 45 0. 44 0. 22 0. 21 0. 16 0. 14 0. 14 0. 14 0. 14 The top 20 shareholders hold 544,154,910 shares which is equal to 41.03% of the total shares on issue. Stock Exchange Listing The shares of the Commonwealth Bank of Australia are listed on the Australian Securities Exchange under the trade symbol CBA, with Sydney being the home exchange. trading activity are published Details of in most daily newspapers, generally under the abbreviation of CBA or C’wealth Bank. The Bank does not have a current on-market buy-back of its shares. Range of Shares (Fully Paid Ordinary Shares and Employee Shares): 8 August 2008 Number of Shareholders 558,925 161,896 14,925 6,175 269 742,190 14,051 Percentage Shareholders 75. 31 21. 81 2. 01 0. 83 0. 04 100. 00 1. 89 Number of Shares 188,676,186 330,963,180 102,991,631 118,233,135 585,266,745 1,326,130,877 71,035 Percentage Issued Capital 14. 23 24. 96 7. 77 8. 91 44. 13 100. 00 0. 01 • On a poll only one official representative may exercise the Equity holder’s voting rights and the vote of each attorney shall be of no effect unless each is appointed to represent a specified proportion of the Equity holder’s voting rights, not exceeding in aggregate 100%. If an Equity holder appoints two proxies and both are present at the meeting: • If the appointment does not specify the proportion or number of the Equity holder’s votes each proxy may exercise, then on a poll each proxy may exercise one half of the Equity holder’s votes; • Neither proxy shall be entitled to vote on a show of hands; and • On a poll each proxy may only exercise votes in respect of those shares or voting rights the proxy represents. Range 1 – 1,000 1,001 – 5,000 5,001 – 10,000 10,001 – 100,000 100,001 and over Total Less than marketable parcel of $500 Voting Rights Under the Bank’s Constitution, each person who is a voting Equity holder and who is present at a general meeting of the Bank in person or by proxy, attorney or official representative is entitled: • On a show of hands – to one vote; and • On a poll – to one vote for each share held or represented. If a person present at a general meeting represents personally or by proxy, attorney or official representative more than one Equity holder, on a show of hands the person is entitled to one vote even though he or she represents more than one Equity holder. If an Equity holder is present in person and votes on a resolution, any proxy or attorney of that Equity holder is not entitled to vote. If more than one official representative or attorney is present for an Equity holder: • None of them is entitled to vote on a show of hands; and 226 Commonwealth Bank of Australia Annual Report 2008 Top 20 Holders of Perpetual Exchangeable Resettable Listed Securities II (“PERLS II”) as at 8 August 2008 Shareholding Information Rank 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Name of Holder J P Morgan Nominees Australia Limited Citicorp Nominees Pty Limited UBS Nominees Pty Limited National Nominees Limited Questor Financial Services Limited UBS Warburg Private Clients Nominees Pty Limited HSBC Custody Nominees (Australia) Limited RBC Dexia Investor Services Australia Nominees Pty Limited Invia Custodian Pty Limited ANZ Nominees Limited Tenix Pty Limited The Australian National University Investment Section Gordon Merchant No 2 Pty Limited Equitas Nominees Pty Limited Tynong Pastoral Co Pty Limited Cryton Investments No 9 Pty Limited Israelite House of David Lutovi Investments Pty Limited Bond Street Custodians Limited NSF Nominees Pty Limited Number of Units 235,086 210,162 140,174 123,085 86,732 83,767 78,661 75,052 46,523 32,433 26,050 25,000 24,440 21,925 17,450 17,100 15,000 15,000 14,601 12,400 % 6. 27 5. 60 3. 74 3. 28 2. 31 2. 23 2. 10 2. 00 1. 24 0. 87 0. 69 0. 67 0. 65 0. 58 0. 47 0. 46 0. 40 0. 40 0. 39 0. 33 The top 20 PERLS II unitholders hold 1,300,641 units which is equal to 34.68% of the total units on issue. Stock Exchange Listing PERLS II are units in a registered managed investment scheme of which Commonwealth Managed Investments Limited is the responsible entity and are listed on the Australian Securities Exchange under the trade symbol PCBPA, with Sydney being the home exchange. Details of trading activity are published in most daily newspapers. Range of Units (PERLS II): 8 August 2008 Range 1 – 1,000 1,001 – 5,000 5,001 – 10,000 10,001 – 100,000 100,001 and over Total Less than marketable parcel of $500 Number of Unitholders 9,415 286 32 23 3 9,759 1 Percentage Unitholders 96. 48 2. 93 0. 33 0. 23 0. 03 100. 00 - Number of Units 1,660,176 597,676 236,717 757,086 498,345 3,750,000 2 Percentage Issued Units 44. 27 15. 94 6. 31 20. 19 13. 29 100. 00 - Voting Rights • During the winding up of the Bank; or PERLS II do not confer any voting rights in the Bank but if they are exchanged for or convert into ordinary shares or preference shares of the Bank in accordance with their terms of issue, the voting rights of the Bank’s ordinary shares will be as set out on page 226 and the voting rights of the preference shares will be as set out below. • As otherwise required under the Listing Rules from time to time, in which case the holders will have the same rights as to manner of attendance and as to voting in respect of each preference share as those conferred on ordinary shareholders in respect of each ordinary share. The holders will not be entitled to vote at a general meeting of the Bank except in the following circumstances: At a general meeting of the Bank, holders of preference shares are entitled: • If at the time of the meeting, a dividend has been declared but has not been paid in full by the relevant payment date; • On a proposal to reduce the Bank’s share capital; • On a resolution to approve the terms of a buy-back agreement; • On a proposal that affects rights attached to the preference shares; • On a proposal to wind up the Bank; • On a proposal for the disposal of the whole of the Bank’s property, business and undertaking; • On a show of hands, to exercise one vote when entitled to vote in respect of the matters listed above; and • On a poll, to one vote for each preference share. The holders will be entitled to receive notice of any general meeting of the Bank and a copy of every circular or other like document sent out by the Bank to ordinary shareholders and to attend any general meeting of the Bank. Commonwealth Bank of Australia Annual Report 2008 227 Shareholding Information Top 20 Holders of Perpetual Exchangeable Repurchaseable Listed Shares III (“PERLS III”) as at 8 August 2008 Rank 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Name of Holder AMP Life Limited RBC Dexia Investor Services Australia Nominees Pty Limited UBS Wealth Management Australia Nominees Pty Limited J P Morgan Nominees Australia Limited Mr Walter Lawton and Mrs Jan Rynette Lawton Citicorp Nominees Pty Limited ANZ Executors & Trustee Company Limited The Australian National University Investment Section Mr John Stuart Walker & Mr Ralph Lane Catholic Education Office Diocese of Parramatta Questor Financial Services Limited Bond Custodians Limited Truckmate (Australia) Pty Limited Avanteos Investments Limited Kerlon Pty Limited Mifare Pty Limited UCA Cash Management Fund Limited Equity Trustees Limited Fleischmann Holdings Pty Limited Henry Kendall Group Holdings Pty Limited Number of Shares 191,591 175,183 166,235 156,836 75,482 71,089 59,246 51,282 50,000 49,750 46,349 43,770 35,000 31,635 30,000 25,000 25,000 24,938 22,500 20,964 % 3. 29 3. 00 2. 85 2. 69 1. 29 1. 22 1. 02 0. 88 0. 86 0. 85 0. 79 0. 75 0. 60 0. 54 0. 51 0. 43 0. 43 0. 43 0. 39 0. 36 The top 20 PERLS III shareholders hold 1,351,850 shares which is equal to 23.18% of the total shares on issue. Stock Exchange Listing PERLS III are preference shares issued by Preferred Capital Limited (a wholly-owned subsidiary of the Bank) and are listed on the Australian Securities Exchange under the trade symbol PCAPA, with Sydney being the home exchange. Details of trading activity are published in most daily newspapers. Range of Shares (PERLS III): 8 August 2008 Range 1 – 1,000 1,001 – 5,000 5,001 – 10,000 10,001 – 100,000 100,001 and over Total Less than marketable parcel of $500 Voting Rights Number of Shareholders 17,340 523 43 37 4 17,947 21 Percentage Shareholders 96. 62 2. 91 0. 24 0. 21 0. 02 100. 00 0. 12 Number of Shares 2,903,942 1,058,417 334,160 875,825 659,937 5,832,281 41 Percentage Issued Capital 49. 79 18. 15 5. 73 15. 02 11. 31 100. 00 - PERLS III do not confer any voting rights in the Bank but if they are exchanged for or convert into ordinary shares or preference shares of the Bank in accordance with their terms of issue, the voting rights of the ordinary or preference shares (as the case may be) will be as set out on pages 226 and 227 respectively for the Bank’s ordinary shares and preference shares. 228 Commonwealth Bank of Australia Annual Report 2008 Top 20 Holders of Perpetual Exchangeable Resaleable Listed Securities IV (“PERLS IV”) as at 8 August 2008 Shareholding Information Rank 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Name of Holder AMP Life Limited J P Morgan Nominees Australia Limited Citicorp Nominees Pty Limited UBS Wealth Management Australia Nominees Pty Limited RBC Dexia Investor Services Australia Nominees Pty Limited Goldman Sachs JB Were Capital Markets Limited Cogent Nominees Pty Limited Suncorp General Insurance Limited Suncorp Custodian Services Pty Limited National Nominees Limited Questor Financial Services Limited ANZ Nominees Limited GIO General Limited Invia Custodian Pty Limited UCA Cash Management Fund Limited Eastcode Pty Limited Avanteos Investments Limited Westpearl Pty Limited Bond Street Custodians Limited The Australian National University Investment Section Number of Shares 425,000 314,276 168,984 168,912 153,285 150,752 141,049 118,000 109,353 106,740 97,729 95,594 92,403 76,715 68,735 50,000 47,593 40,000 36,784 30,000 % 5. 80 4. 29 2. 31 2. 31 2. 09 2. 06 1. 93 1. 61 1. 49 1. 46 1. 33 1. 31 1. 26 1. 05 0. 94 0. 68 0. 65 0. 55 0. 50 0. 41 The top 20 PERLS IV shareholders hold 2,491,904 shares which is equal to 34.02% of the total shares on issue. Stock Exchange Listing PERLS IV are stapled securities issued by The Commonwealth Bank of Australia and are listed on the Australian Securities Exchange under the trade symbol CBAPB, with Sydney being the home exchange. Details of trading activity are published in most daily newspapers. Range of Shares (PERLS IV): 8 August 2008 Range 1 – 1,000 1,001 – 5,000 5,001 – 10,000 10,001 – 100,000 100,001 and over Total Less than marketable parcel of $500 Voting Rights PERLS IV confer voting rights in the Bank in the following limited circumstances: • When dividend payments on the preference shares are in arrears; • On proposals to reduce the Bank’s Share Capital; • On a proposal that affects rights attached to preference shares; • On a resolution to approve the terms of a buy-back agreement; • On a proposal to wind up the Bank; • On a proposal for the disposal of the whole of the Bank’s property, business and undertaking; and • During the winding-up of the Bank. Further more if PERLS IV convert into ordinary shares of the Bank in accordance with their terms of issue, the voting rights of the ordinary shares will be as set out on pages 226 and 227. At a general meeting of the Bank, holders of PERLS IV are entitled: Number of Shareholders 11,941 692 44 39 8 12,724 1 Percentage Shareholders 93. 85 5. 44 0. 34 0. 31 0. 06 100. 00 - Number of Shares 2,712,504 1,537,821 360,673 1,221,121 1,492,881 7,325,000 2 Percentage Issued Capital 37. 03 21. 00 4. 92 16. 67 20. 38 100. 00 - • On a show of hands, to exercise one vote when entitled to vote on the matters listed above; and • On a poll, to exercise one vote for each preference share. The holders will be entitled to the same rights as the holders of the Bank’s ordinary shares in relation to receiving notices, reports and financial statements and attending and being heard at all general meetings of the Bank. Trust Preferred Securities 550,000 Trust Preferred Securities were issued on 6 August 2003. Cede & Co is registered as the sole holder of these securities. 700,000 Trust Preferred Securities were issued on 15 March 2006. Cede & Co is registered as the sole holder of these securities. The Trust Preferred Securities do not confer any voting rights in the Bank but if they are exchanged for or convert into ordinary shares or preference shares of the Bank in accordance with their terms of issue, the voting rights of the ordinary or preference shares (as the case may be) will be as set out on pages 226 and 227 for the Bank’s ordinary shares and preference shares. Commonwealth Bank of Australia Annual Report 2008 229 International Representation Australia Head Office Commonwealth Bank of Australia 48 Martin Place, Sydney NSW 1155 Telephone: (61 2) 9378 2000 New Zealand ASB Bank Limited Level 28 ASB Bank Centre 135 Albert Street, Auckland Telephone: (64 9) 377 8930 Facsimile: (64 9) 358 3511 Managing Director Hugh Burrett Sovereign Group Limited 33-45 Hurstmere Road Takapuna, Auckland Telephone: (64 9) 487 9000 Facsimile: (64 9) 486 1913 Managing Director Simon Blair Asia Pacific Fiji Islands Colonial Fiji Colonial Life Limited Level 12, Suva Central Telephone: (67 9) 3214 400 Facsimile: (67 9) 3303 448 Managing Director Laurie Mellsop China CBA Representative Office 2909 China World Towers 1 1 Jian Guo Men Wai Avenue Beijing 100004 Telephone: (86 10) 6505 5350 Facsimile: (86 10) 6505 5354 China Chief Representative Paul Au CommFinance Level 7 Zhong Ya Building 458 Wulumugi (N) Road Shanghai Telephone: (86 21) 6249 9659 Facsimile: (86 21) 6249 9682 Chief Executive Officer Guo-Xiong Jiang China Life – CMG Asia Life Assurance Co Ltd 21st Floor China Insurance Building 166 Lujiazui Dong Road Shanghai 200120 Telephone: (86 21) 5882 5245 Facsimile: (86 21) 6887 5720 General Manager Alan Wood CBA Representative Office Room 4007 Bund Center 222 Yan An Road East Shanghai 200002 Telephone: (86 21) 6335 1686 Facsimile: (86 21) 6335 1766 Shanghai Chief Representative Guo Wei First State Cinda Fund Management Co. Ltd. 24F China Merchants Bank Building No 7088, Shen Nan Road Shenzhen 518040 Telephone: (852) 2846 7555 Facsimile: (852) 2868 4742/4783 Regional Head Asia Lindsay Mann Hong Kong Level 15 1501-5, Chater House 8 Connaught Road, Central Hong Kong Telephone: (852) 2844 7501 Facsimile: (852) 2801 6916 Regional General Manager Asia Stephen Poon Hong Kong Commonwealth Bank of Australia Room 1307-1308, Chater House 8 Connaught Road Central Hong Kong Telephone: (852) 3667 8900 Facsimile: (852) 3667 8939 Executive General Manager Peter Fancke First State Investments (Hong Kong) Limited Level 6, Three Exchange Square Central Hong Kong Telephone: (852) 2846 7555 Facsimile: (852) 2868 4742/4783 Regional Head Asia Lindsay Mann India CBA Representative Office Unit 201, Level 2 (front portion) of Embassy Classic No. 11, Vittal Mallya Road Bangalore 560001 Telephone: (91 80) 2210 7413 Fascimile: (91 80) 5112 1462 Chief Representative Ravi Kushan Indonesia PT Bank Commonwealth Level 3A, Wisma Metropolitan II Jl. Jendral Sudirman Kav. 29-31 Jakarta 12920 Telephone: (62 21) 5296 1222 Facsimile: (62 21) 5296 2293 President Director Neorsing Neorini PT Commonwealth Life 11/F Sentra Mulia Jl. H.R. Rason Said, Kav X-6 No 8 Jakarta 12940 Telephone: (62 21) 250 0385 Facsimile: (62 21) 250 0389 President Director Simon Bennett PT First State Investments Indonesia 29th Floor, Gedung Artha Graha Sudirman Central Business District Jl. Jend. Sudirman Kav. 52-53 Jakarta 12190 Telephone: (62 21) 515 0088 Facsimile: (62 21) 515 0033 CEO Hario Soeprobo Japan CBA Branch Office 8th Floor Toranomon Waiko Building 5-12-1 Toranomon Minato-ku, Tokyo 105-0001 Telephone: (81 3) 5400 7280 Facsimile: (81 3) 5400 7288 General Manager Japan Richard Harris Singapore CBA Branch Office Level 17 Millenia Tower 1 Temasek Avenue Singapore 039192 Telephone: (65) 6349 7001 Facsimile: (65) 6224 5812 Country Head Brian McGovern First State Investments (Singapore) 1 Temasek Avenue #17-01 Millenia Tower Singapore 039192 Telephone: (65) 6538 0008 Facsimile: (65) 6538 0800 Regional Head Asia Lindsay Mann Vietnam CBA Representative Office Suite 202-203A The Central Building 31 Hai Ba Trung, Hanoi Telephone: (84 4) 826 9899 Facsimile: (84 4) 824 3961 Chief Representative Hahn Nuygen CBA HCMC Branch office Ground Floor Han Nam Building 65 Nguyen Du St., Dist. 1 Ho Chi Min City Telephone: (84) 8824 1525 Facsimilie: (84) 8824 2703 General Director Danny Armstrong Americas United States of America CBA Branch Office Level 17, 599 Lexington Avenue New York NY 10022 Telephone: (1 212) 848 9391 Facsimile: (1 212) 336 7772 General Manager, Americas Ian Phillips Europe United Kingdom CBA Branch Office Senator House 85 Queen Victoria Street London EC4V 4HA Telephone: (44 20) 7710 3934 Facsimile: (44 20) 7329 6611 Regional General Manager Europe Paul Orchart First State Investments (UK) Limited 3rd Floor, 30 Cannon Street London EC4M 6YQ Telephone: (44 20) 7332 6500 Facsimile: (44 20) 7332 6501 CEO Charlie Metcalf Edinburgh 23 St Andrew Square Edinburgh EH2 1BB Telephone: (44 131) 473 2200 Facsimile: (44 131) 473 2222 Managing Partners Stuart Paul & Angus Tulloch 230 Commonwealth Bank of Australia Annual Report 2008 132 221 General Enquiries 131 709 CommSec Margin Loan Contact Us For your everyday banking including paying bills using BPAY® our automated service is available 24 hours a day, 7 days a week. Lost or Stolen Cards To report a lost or stolen card 24 hours a day, 7 days a week. From overseas call +61 132 221. Operator assistance is available 24 hours a day, 7 days a week. ® Registered to BPAY Pty Ltd ABN 69 079 137 518 132 224 Home Loans & Investment Home Loans To apply for a new home loan/investment home loan or to maintain an existing loan. Available from 8am to 10pm, 7 days a week. 131 431 Personal Loan Sales To apply for a new personal loan. Available from 8am to 8pm, 7 days a week. 1800 805 605 Customer Relations If you would like to pay us a compliment or are dissatisfied with any aspect of the service you have received. Internet Banking You can apply for a home loan, credit card, personal loan, term deposit or a savings account on the internet by visiting our website at www.commbank.com.au available 24 hours a day, 7 days a week. Do your everyday banking on our internet banking service NetBank at www.commbank.com.au/netbank available 24 hours a day, 7 days a week. To apply for access to NetBank, call 132 828. Available 24 hours a day, 7 days a week. Special Telephony Services Customers who are hearing or speech impaired can contact us via the National Relay Service (www.relayservice.com.au) (24 hours a day, 7 days a week). • Telephone Typewriter (TTY) service users can be connected to any of our telephone numbers via 133 677. • Speak and Listen (speech-to-speech relay) users can also connect to any of our telephone numbers by calling 1300 555 727. • Internet relay users can be connected to our telephone numbers via National Relay Service. 131 519 CommSec (Commonwealth Securities) Available from 8am to 8pm (Sydney Time), Monday to Friday, with after hours assistance available from 8pm to 8am for lost and stolen cards, including weekends. CommSec provides the information and tools to make smart investment easy, accessible and affordable for all Australians, by phone or Internet at www.commsec.com.au Enables you to expand your portfolio by borrowing against your existing shares and managed funds. To find out more simply call 131 709 8am to 5pm (Sydney Time) Monday to Friday or visit www.commsec.com.au. 1800 019 910 Corporate Financial Services For a full range of financial solutions for medium-size and larger companies. Available from 8am to 6pm (Sydney Time), Monday to Friday. 131 998 Local Business Banking A dedicated team of Business Banking Specialists, supporting a network of branch business bankers, will help you with your financial needs. Available 24 hours a day, 7 days a week or visit www.commbank.com.au/lbb 1300 245 463 (1300 AGLINE) AgriLine A dedicated team of Agribusiness Specialists will help you with your financial needs. With many of our Business Banking team living in regional and rural Australia, they understand the challenges you face. Available from 7am to 7pm, Monday to Friday (Sydney time). Colonial First State Existing investors can call 131 336 from 8am to 7pm (Sydney Time) Monday to Friday. New investors without a financial adviser can call 1300 360 645. Financial advisers can call 131 836. Alternatively, visit www.colonialfirststate.com.au CommBiz Enables you to perform online business transactional banking from an Internet-connected computer, anywhere in the world, 24 hours a day, 7 days a week on www.commbiz.com.au 1300 362 081 Commonwealth Private Bank A highly personalised service for clients with significant financial resources and complex financial needs. For a confidential discussion about how Commonwealth Private Bank can help you, call 1300 362 081 between 8am to 5:30pm (Sydney time), Monday to Friday or visit www.commonwealthprivate.com.au 132 015 Commonwealth Financial Services For enquires on retirement and superannuation products, or managed investments. Available from 8.30am to 6pm (Sydney Time), Monday to Friday. Unit prices are available 24 hours a day, 7 days a week. CommInsure For all your general insurance needs call 132 423 8am to 8pm (Sydney Time), 7 days a week. For all your life insurance needs call 131 056 8am to 8pm (Sydney Time), Monday to Friday. Alternatively, visit www.comminsure.com.au Commonwealth Bank of Australia Annual Report 2008 231 Corporate Directory Registered Office Level 7, 48 Martin Place Sydney NSW 1155 Telephone (02) 9378 2000 Facsimile (02) 9378 2400 Company Secretary JD Hatton Shareholder Information www.commbank.com.au/Shareholder Share Registrar Link Market Services Limited Locked Bag A14 SYDNEY SOUTH NSW 1235 Telephone: (02) 8280 7199 Facsimile: (02) 9287 0303 Freecall: 1800 022 440 Internet www.linkmarketservices.com.au Email registrars@linkmarketservices.com.au Telephone numbers for overseas Shareholders New Zealand 0800 442 845 United Kingdom 0845 769 7502 Fiji 008 002 054 Other International 612 8280 7199 Australian Stock Exchange Listing CBA Annual Report To request a copy of the Annual Report, please call Link Market Services on 1800 022 440 or email them at registrars@linkmarketservices.com.au Electronic versions of Commonwealth Bank’s past and current Annual Reports are available on www.commbank.com.au/shareholder/annualreports 232 Commonwealth Bank of Australia Annual Report 2008 This report is printed on Sappi Royal Web Recycled Silk produced in Blackburn, England. It features 50% post consumer recycled pulp. Sappi Fine Paper Europe is certified under ISO 9001, ISO 14001 and EMAS (Eco Management and Audit system). All virgin fibre used in Sappi Fine Paper Europe products originates from well managed forests and controlled sources. More than one third of the virgin fibre used is made from saw mill residues. www.commbank.com.au CBA1421 010908 

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