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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
4. Financial instruments
(continued)
sale contracts), by both amount
and term. At any one time, the
amount subject to credit risk is
limited to the current fair value of
instruments that are favourable to
the Group (i.e. assets where their
fair value is positive), which in
relation to derivatives is only a
small fraction of the contract, or
notional values used to express the
volume of instruments outstanding.
This credit risk exposure is
managed as part of the overall
lending limits with customers,
together with potential exposures
from market movements. Collateral
or other security is not usually
obtained for credit risk exposures on
these instruments, except where the
Group requires margin deposits
from counterparties.
Settlement risk arises in any
situation where a payment in cash,
securities or equities is made in
the expectation of a corresponding
receipt in cash, securities or
equities. Daily settlement limits are
established for each counterparty to
cover the aggregate of all settlement
risk arising from the Group’s market
transactions on any single day.
(c) Credit-related commitments
The primary purpose of these
instruments is to ensure that funds
are available to a customer as
required. Guarantees and standby
letters of credit carry the same
credit risk as loans. Documentary
and commercial letters of credit –
which are written undertakings by
the Group on behalf of a customer
authorising a third party to draw
drafts on the Group up to a
stipulated amount under specific
terms and conditions – are
collateralised by the underlying
shipments of goods to which they
relate and by other collaterals that
are obtained in the normal course of
business and therefore carry less
risk than a direct loan.
Commitments to extend credit
represent unused portions of
authorisations to extend credit in the
form of loans, guarantees or letters
of credit. With respect to credit risk
on commitments to extend credit,
the Group is potentially exposed
to loss in an amount equal to
the total unused commitments,
where these are not unconditionally
cancellable. However, the likely
amount of loss is less than the total
unused commitments, as most
commitments to extend credit
are contingent upon customers
maintaining specific credit standards.
The Group monitors the term to
maturity of credit commitments
because longer-term commitments
generally have a greater degree
of credit risk than shorter-term
commitments.
Impairment and provisioning
policies
The internal rating systems referred
to in “credit risk measurement”
focus more on credit-quality
mapping from the inception of the
lending and investment activities. In
contrast, impairment provisions are
recognised for financial reporting
purposes only for losses that have
been incurred at the date of the
statement of financial position
based on objective evidence of
impairment. Due to the different
methodologies applied, the amount
of incurred credit losses provided
for in the financial statements are
usually lower than the amount
determined from the expected loss
model that is used for internal
operational management purposes.
The Group’s policy requires the
review of individual financial assets
that are above materiality thresholds
at least annually or more regularly
when individual circumstances
require. Impairment allowances on
individually assessed accounts are
determined by an evaluation of
the incurred loss at statement of
financial position date on a case-
by-case basis, and are applied
to all individually significant
accounts. The assessment normally
encompasses collateral held
(including re-confirmation of its
enforceability) and the anticipated
receipts for that individual account.
Collectively assessed impairment
allowances are provided for:
(i) portfolios of homogeneous
assets that are individually
below materiality thresholds; and
(ii) losses that have been incurred
but have not yet been identified,
by using the available historical
experience, experienced judgement
and statistical techniques.
34
Dar Al-Maal Al-Islami Trust
Annual Report 2011