Resilience Rewarded: DFCC Bank's Strong Financial Performance Amidst the Ongoing Revival of the Economy

• Group Net Operating Income, up by 36% to LKR 17 Bn
• Impairment charge for loans and receivables, reduced by 75% to LKR 1.9 Bn with the revival of the economic environment.
• Group Profit After Tax, up by 46% to LKR 5.7 Bn
• Group Total Capital Adequacy Ratio – 16.89%

Leveraging improvements across several macroeconomic indicators, DFCC Bank has adapted to the improved operating environment, which has helped stabilise and support operational flexibility within the Bank and the wider industry. The Bank has also utilised these positive trends in the macroeconomic environment to support strong financial performance by harnessing opportunities available in the market.

During the period under review, DFCC Bank has continued to record good key performance indicators, reflecting the entity's growth and stability amidst the ongoing revival of economic activity. In line with the eased monetary policy stance of the Central Bank, market interest rates continued to adjust downwards. However, the adjustments, particularly of lending interest rates, remained weaker than the adjustments to deposit interest rates, with the expectation of credit extending to the private sector by Licensed Commercial Banks. The Bank has reduced lending and deposit rates in line with the prevailing accommodative monetary policy stance. As a result, the lending portfolio has increased by 3% as of 30 June 2024.

The Net Interest Income (NII) in the 1^st half of 2024 was significantly impacted by the Bank's decision to lower interest rates, which led to an 11% reduction in NII. Nonetheless, the Bank's profitability was managed by well-executed business plans, heightened caution, and aggressive risk management techniques. With the changes in interest rates, the Bank has disposed of part of its government securities holdings classified as FVOCI to realise a gain of LKR 2.1 Bn and the notable reduction in impairment as a result of the positive developments in the macroeconomic environment and recovery efforts made by the Bank enabled it to maintain profitability whilst providing high-quality customer centric banking services.

The following commentary relates to the unaudited Financial Statements for the period ended 30 June 2024, presented in accordance with Sri Lanka Accounting Standard 34 (LKAS 34) on "Interim Financial Statements."

Financial Performance

Profitability

DFCC Bank PLC, the largest entity within the Group, reported a Profit Before Tax (PBT) of LKR 7,237 Mn and a Profit After Tax (PAT) of LKR 4,654 Mn for the period ended 30 June 2024 compared with the previous period’s PBT of LKR 5,110 Mn and a PAT of LKR 3,205 Mn. The Group recorded a PBT of LKR 8,342 Mn and PAT of LKR 5,739 Mn for the period ended 30 June 2024 as compared to LKR 5,867 Mn and LKR 3,923 Mn, respectively, in 2023. The Bank’s Return on Equity (ROE) improved to 12.16% during the period ended 30 June 2024 from 12.19% recorded for the year ended 31 December 2023. The Bank’s Return on Assets (ROA) before tax for the period ended 30 June 2024 is 2.11% compared to 1.82% for the year ended 31 December 2023. The Bank’s total tax expense, which includes Value Added Tax (VAT) and Social Security Contribution Levy (SSCL) on financial services and Income Tax, is LKR 4,754 Mn for the period ending 30 June 2024. As a result, the Bank’s tax expense as a percentage of operating profit for the period stood at 50.53%.

Net Interest Income

Along with the improvement in liquidity conditions of the domestic money market in line with the relaxed monetary policy stance of the Central Bank, both deposit and lending interest rates have continued to adjust downwards during the period under review and are expected to transmit the benefit of policy easing thus far by continuing the downward adjustments in lending interest rates. Accordingly, the Bank has recorded notable downward adjustments to lending and deposit rates to align with the monetary directions to ease monetary conditions for individuals and businesses adequately and swiftly, thereby supporting the envisaged rebound of the economy. The lower interest rates have resulted in reduced interest income and expenses compared to 1^st half of 2023.

The Bank’s Net Interest Income (NII), which is its core business, decreased by 11% to reach LKR 13,723 Mn by the quarter end of June 2024. The interest margin decreased from 5.18% in December 2023 to 4.31% by June 2024.

Fee and Commission Income

With the tariff reduction for remittances, fee income has reduced compared to 1^st half of 2023, even though the Bank has increased volumes. Along with the change in the business environment, the Bank increased the commission from credit card operations by increasing volumes. However, expenses related to credit card operations were also increased, resulting in reduced net fee and commission income. Accordingly, net fee and commission income have decreased by 2% to LKR 1,906 Mn for the period ended 30 June 2024, compared to LKR 1,945 Mn for the comparative period in 2023.

Net Gains from De-recognition of Financial Assets

The Bank has disposed a portion of its Sri Lankan government securities classified under FVOCI, resulting in a gain of LKR 2,056 Mn, underscoring the efficacy of our strategic decisions. Conversely, the sale of a part of the Bank's International Sovereign Bond (ISB) holdings incurred a loss of LKR 2,172 Mn. However, this was offset by the reversal of an impairment provision of LKR 2,453 Mn on the disposal of ISB, which positively impacted the overall income statement for the period.

Impairment Charge on Loans and Other Losses

The impaired loan (stage 3) ratio decreased from 7.03% in December 2023 to 6.89% as of 30 June 2024 due to positive developments in the macroeconomic environment coupled with the Bank's concerted efforts in recoveries. To address the current and potential future impacts of the present economic conditions on the lending portfolio, the Bank made adequate impairment provisions during the period by continuing to calibrate internal models to account for unseen risk factors in the future, including additional provisions made for the Bank's exposure to risk-elevated sectors.

Accordingly, reflecting positive macroeconomic indicators and recoveries, the impairment charges for loans and advances improved to LKR 1,955 Mn for the period ended 30 June 2024, compared to LKR 7,787 Mn in the comparable period.

Operating Expenses

Operating expenses for the period ended 30 June 2024 increased to LKR 7,198 Mn compared with LKR 5,488 Mn during the corresponding period in 2023, primarily due to the increase in inflation and the adjustment to staff benefits. However, the Bank has taken numerous cost control measures, resulting in operating expenses being curtailed and managed at these levels.

Other Comprehensive Income (OCI)

Changes in the fair value of investments in equity securities and fixed-income securities (treasury bills and bonds) and movement in hedging reserves are recorded through other comprehensive income. Due to the application of hedge accounting, the impact on the Bank's total equity due to exchange rate fluctuation was minimised. A net fair value gain of LKR 1,946 Mn was recorded on account of equity securities as at 30 June 2024. The increase in the share price of Commercial Bank of Ceylon PLC during the period was the main contributor to the reported fair value gain in equity securities. The favourable movement in treasury bill and bond yields also resulted in a fair value gain of LKR 1,622 Mn.

Business Growth

Assets

The Bank saw a decline in total assets by LKR 4 Bn, which amounted to a decline of 1% from December 2023, mainly due to the strategic decision taken by the Bank to repay part of the liabilities due to banks which were at a higher cost by utilising short term investments and appreciation of the Sri Lanka Rupee compared to 31 December 2023. However, with the revival of economic activity and reduced lending interest rates, the net loan portfolio has reached LKR 358 Bn as at 30 June 2024, which is a 3% growth compared with the balance as at 31 December 2023.

Liabilities

The DFCC Bank's total liabilities decreased by LKR 8 Bn, recording a decline of 1% from December 2023, mainly due to the strategic decision taken by the Bank to repay some high-cost short term borrowings compared to 31 December 2023. However, the Bank's deposit base experienced a growth of 8% during the period, recording an increase of LKR 34 Bn to LKR 441 Bn, up from LKR 407 Bn as at 31 December 2023. This resulted in recording an improved loan-to-deposit ratio of 91.89%. Further, the CASA ratio reached 25.23% as at 30 June 2024. The Bank's funding costs also included medium- to long-term concessionary credit lines, primarily used to grow the lending portfolio and provide much-needed concessionary funding to our customers. Considering these concessionary term borrowings, the CASA ratio improves to 33.24%, and the loans-to-deposit ratio improves to 82.05% as at 30 June 2024.

Equity and Compliance with Capital Requirements

DFCC Bank's total equity increased to LKR 71.1 Bn as at 30 June 2024, supported by favourable movements in the equity portfolio and fixed income security portfolio classified as fair value through other comprehensive income, and positive movements in the hedging reserve, together with the recorded profit after tax of LKR 4.7 Bn. There is a realized gains of LKR 1.3 Bn from the disposal of equity securities including a part of investment in Commercial Bank of Ceylon PLC during the period.  Accordingly, Tier 1 and Total Capital ratios were recorded at 12.220% and 15.974% by 30 June 2024, compared to 11.490% and 13.511%, respectively, as at 31 December 2023. The Bank's Net Stable Funding Ratio (NSFR) was 137.36%, and Liquidity Coverage Ratio (LCR) – all currency – was 322.31% as at 30 June 2024, compared to 124.60% and 597.47%, respectively, as at 31 December 2023. All these ratios were thus maintained well above the minimum regulatory requirement.

CEO’s Statement

Despite previously challenging economic conditions, which are improving, DFCC Bank has remained resilient, achieving robust financial growth. Our commitment to “profit with purpose” has driven a 46% increase in Group Profit After Tax, reaching LKR 5.7 Bn, and a 36% rise in Group Net Operating Income to LKR 17 Bn. This success reflects our strategic adaptation to an evolving economic landscape, underpinned by our rigorous risk management and digitally-driven, customer-centric approach.

Our substantial reduction in impairment charges for loans and receivables by 75% to LKR 1.9 Bn underscores our ability to capitalise on favourable macroeconomic trends. Thus, we remain dedicated to supporting economic revival and fostering sustainable growth within the organisation, industry, and broader national economy. As we move forward, we will continue to leverage opportunities to deliver value to our stakeholders, whilst retaining the loyalty of our customers, supporting our communities, and maintaining our commitment to responsible, purposeful banking.

Thimal Perera

Director/Chief Executive Officer

09 August 2024