sc parex banka - RNS Submit
Transcription
sc parex banka - RNS Submit
PROSPECTUS DATED 3 MAY 2006 SC PAREX BANKA (incorporated with limited liability under the laws of the Republic of Latvia) EUR 200,000,000 5.625 per cent. Notes due 5 May 2011 The issue price of the EUR 200,000,000 5.625 per cent. Notes due 5 May 2011 (the ‘‘Notes’’) of SC Parex banka (the ‘‘Bank’’ or the ‘‘Issuer’’) is 99.69 per cent. of their principal amount. Unless previously redeemed or cancelled, the Notes will be redeemed at their principal amount on 5 May 2011. The Notes are subject to redemption in whole, at their principal amount together with accrued interest, at the option of the Issuer at any time in the event of certain changes affecting taxation in Latvia. See ‘‘Terms and Conditions of the Notes – Redemption and Purchase’’. The Notes will bear interest from and including 5 May 2006 at the rate of 5.625 per cent. per annum payable annually in arrear on 5 May each year commencing on 5 May 2007. Payments on the Notes will be made in Euro without deduction for or on account of taxes imposed or levied by the Republic of Latvia to the extent described under ‘‘Terms and Conditions of the Notes – Taxation’’. This document (the ‘‘Prospectus’’) comprises a prospectus for the purposes of Article 5 of Directive 2003/71/EC (the ‘‘Prospectus Directive’’). This Prospectus has been prepared for the purposes of Article 5(3) of the Prospectus Directive and in accordance with the Prospectus Rules of the Financial Services Authority made under section 73A of the Financial Services and Markets Act 2000 and has been approved as a Prospectus by the Financial Services Authority, which is the competent authority for the purposes of the Prospectus Directive and relevant implementing measures in the United Kingdom. A copy of this document has been filed with the Financial Services Authority in accordance with Rule 3.2 of the Prospectus Rules. Application has been made for the Notes to be admitted to listing on the Official List of the Financial Services Authority (in its capacity as competent authority for the purposes of Part VI of the Financial Services and Markets Act 2000, the ‘‘UK Listing Authority’’) and to trading on the gilt-edged and fixed interest market of the London Stock Exchange plc (the ‘‘London Stock Exchange’’) which is a regulated market for the purposes of Directive 93/22/EC (the ‘‘Investment Services Directive’’). Such listing is expected to take effect on or about 5 May 2006. For a discussion of certain risk factors regarding the Issuer and the Notes which should be considered by prospective purchasers, see ‘‘RISK FACTORS’’ on page 6. The Notes have not been, and will not be, registered under the United States Securities Act of 1933 (the ‘‘Securities Act’’) and are subject to United States tax law requirements. The Notes are being offered outside the United States by the Joint-Lead Managers (as defined in ‘‘Subscription and Sale’’) in accordance with Regulation S under the Securities Act (‘‘Regulation S’’), and may not be offered, sold or delivered within the United States or to, or for the account or benefit of, U.S. persons except pursuant to an exemption from, or in a transaction not subject to, the registration requirements of the Securities Act. The Notes will be in the form of a global note certificate (the ‘‘Global Note Certificate’’), which will be registered in the name of Chase Nominees Limited as nominee for, and deposited with, a common depositary for Euroclear Bank S.A/N.V. (‘‘Euroclear’’) and Clearstream Banking, société anonyme, Luxembourg (‘‘Clearstream, Luxembourg’’) on or around 5 May 2006 (the ‘‘Closing Date’’). Individual note certificates (‘‘Individual Note Certificates’’) will only be available in the limited circumstances described under ‘‘Summary of Provisions Relating to the Notes in Global Form’’. The Notes are in the denomination of EUR 50,000 each and integral multiples of EUR 1,000 in excess thereof. For so long as the Notes are represented by a Global Note Certificate and the relevant clearing system(s) so permit, the Notes shall be tradable in such denominations, subject always to the minimum denomination and trading amount of EUR 50,000. There is no assurance, however, that the relevant clearing system(s) will enforce the minimum trading amount. Joint-Lead Managers DEUTSCHE BANK HSBC Co-Managers SC PAREX BANKA RZB Austria Raiffeisen Zentralbank Österreich AG The date of this Prospectus is 3 May 2006 IMPORTANT NOTICES The Issuer accepts responsibility for the information contained in this Prospectus. To the best of the knowledge of the Issuer (which has taken all reasonable care to ensure that such is the case) the information contained in this Prospectus is in accordance with the facts and does not omit anything likely to affect the import of such information. Information which has been sourced from third parties has been accurately reproduced and, as far as the Issuer is aware and is able to ascertain from information published by such third parties, no facts have been omitted which would render the reproduced information inaccurate or misleading. Where such information is reproduced in this Prospectus, the source of that information is stated. Neither the Joint-Lead Managers nor any of their respective directors, affiliates, advisers or agents have made an independent verification of the information contained herein. Accordingly, no representation, warranty or undertaking, express or implied, is made and no responsibility or liability is accepted by the Joint-Lead Managers nor any of their respective directors, affiliates, advisers or agents as to the accuracy or completeness of the information contained in this Prospectus or any other information provided by the Issuer in connection with the Notes or their distribution. The statements made in this paragraph are made without prejudice to the responsibility of the Issuer for the information contained in this Prospectus. The Issuer has not authorised the making or provision of any representation or information regarding the Issuer or the Notes other than as contained in this Prospectus or as approved for such purpose by the Issuer. Any such representation or information should not be relied upon as having been authorised by the Issuer or the JointLead Managers. Neither the delivery of this Prospectus nor the offering, sale or delivery of any Note shall in any circumstances create any implication that there has been no adverse change, or any event reasonably likely to involve any adverse change, in the condition (financial or otherwise) of the Issuer since the date of this Prospectus. This Prospectus does not constitute an offer of, or an invitation to subscribe for or purchase, any Notes. The distribution of this Prospectus and the offering, sale and delivery of Notes in certain jurisdictions may be restricted by law. Persons into whose possession this Prospectus comes are required by the Issuer and the JointLead Managers to inform themselves about and to observe any such restrictions. For a description of certain restrictions on offers, sales and deliveries of Notes and on distribution of this Prospectus and other offering material relating to the Notes, see ‘‘Subscription and Sale’’. In particular, the Notes have not been and will not be registered under the Securities Act and are subject to United States tax law requirements. Subject to certain exceptions, Notes may not be offered, sold or delivered within the United States or to U.S. persons. In this Prospectus, unless otherwise specified, references to ‘‘US’’, ‘‘U.S. $’’, ‘‘U.S. dollars’’ or ‘‘dollars’’ are to United States dollars, references to ‘‘E’’, ‘‘EUR’’ or ‘‘Euro’’ are to the single currency introduced at the start of the third stage of the European Economic and Monetary Union pursuant to the Treaty establishing the European Community, as amended, and references to ‘‘LVL’’, ‘‘Lat’’ or ‘‘Ls’’ are to the lawful currency for the time being of the Republic of Latvia (‘‘Latvia’’) and references to ‘‘LTL’’ are to the lawful currency for the time being of the Republic of Lithuania (‘‘Lithuania’’). IN CONNECTION WITH THE ISSUE OF NOTES, THE STABILISING MANAGER(S) (OR PERSONS ACTING ON BEHALF OF ANY STABILISING MANAGER(S)) MAY OVER-ALLOT NOTES (PROVIDED THAT, IN THE CASE OF NOTES TO BE ADMITTED TO TRADING ON THE LONDON STOCK EXCHANGE, THE AGGREGATE PRINCIPAL AMOUNT OF NOTES ALLOTTED DOES NOT EXCEED 105 PER CENT. OF THE AGGREGATE PRINCIPAL AMOUNT OF THE RELEVANT ISSUE) OR EFFECT TRANSACTIONS WITH A VIEW TO SUPPORTING THE MARKET PRICE OF THE NOTES AT A LEVEL HIGHER THAN THAT WHICH MIGHT OTHERWISE PREVAIL. HOWEVER, THERE IS NO ASSURANCE THAT THE STABILISING MANAGER(S) (OR PERSONS ACTING ON BEHALF OF A STABILISING MANAGER) WILL UNDERTAKE STABILISATION ACTION. ANY STABILISATION ACTION MAY BEGIN ON OR AFTER THE DATE ON WHICH ADEQUATE PUBLIC DISCLOSURE OF THE TERMS OF THE OFFER OF THE RELEVANT NOTES IS MADE AND, IF BEGUN, MAY BE ENDED AT ANY TIME, BUT IT MUST END NO LATER THAN THE EARLIER OF 30 DAYS AFTER THE ISSUE DATE OF THE RELEVANT NOTES AND 60 DAYS AFTER THE DATE OF THE ALLOTMENT OF THE RELEVANT NOTES. 2 CONTENTS Key Features of the Offering Risk Factors Enforcement of Foreign Judgments Selected Financial Information Terms and Conditions of the Notes Summary of Provisions Relating to the Notes in Global Form Exchange Rate Information Use of Proceeds Financial Review Capitalisation of the Group Description of the Group Lending and Selected Statistical Information Recent Developments and the Banking Sector in Latvia Taxation Subscription and Sale General Information Financial Statements and Auditor’s Reports 3 4 6 10 11 14 27 28 29 30 41 42 57 68 71 72 75 F-1 KEY FEATURES OF THE OFFERING Issuer: SC PAREX BANKA. Issue: EUR 200,000,000 5.625 per cent. Notes due 5 May 2011. Issue Price: 99.69 per cent. of the principal amount of the Notes. Fiscal Agent: JPMorgan Chase Bank, N.A. Interest: The Notes will bear interest from, and including, 5 May 2006 to, but excluding, 5 May 2011 at a rate of 5.625 per cent. per annum, payable in arrear on 5 May in each year, commencing on 5 May 2007. Status: The Notes constitute direct, general and unconditional obligations of the Issuer which will at all times rank pari passu among themselves and at least pari passu with all other present and future unsecured obligations of the Issuer, save for such obligations as may be preferred by law. Form: The Notes will be issued in registered form and will initially be in the form of the Global Note Certificate. Individual Note Certificates will be available only in limited circumstances. See ‘‘Summary of Provisions relating to the Notes in Global Form’’. The Notes are in the denominations of EUR 50,000 and integral multiples of EUR 1,000 in excess thereof. For so long as the Notes are represented by a Global Note Certificate and the relevant clearing system(s) so permit, the Notes shall be tradable in such denominations, subject always to the minimum denomination and trading amount of EUR 50,000. Negative Pledge: So long as any Note remains outstanding, neither the Issuer nor any of its Principal Subsidiaries will create, or permit to subsist any Security Interest (other than a Permitted Security Interest) (as defined in the ‘‘Terms and Conditions of the Notes’’) upon its undertaking, assets or revenues (including uncalled capital) to secure any Indebtedness or any Guarantee of Indebtedness (the Existing Negative Pledge), or following certain events, Relevant Indebtedness or any Guarantee of Relevant Indebtedness (the Alternative Negative Pledge). See Condition 3 (Negative Pledge). Tax Redemption: Subject to certain limitations, the Notes may be redeemed at the option of the Issuer in whole at their principal amount, together with interest accrued to the date fixed for redemption, in the event of certain changes in taxation in the Republic of Latvia. See Condition 5(b) (Redemption for tax reasons). Taxation: All payments of principal and interest in respect of the Notes shall be made free and clear of withholding taxes of the Republic of Latvia, unless the withholding is required by law. In that event, the Issuer will (subject as provided in Condition 7 (Taxation)) pay such additional amounts as will result in the Noteholders receiving such amounts as they would have received in respect of such Note had no such withholding been required. See Condition 7 (Taxation). Events of Default: If an Event of Default occurs, then any Note may, by written notice addressed by the holder thereof to the Issuer and delivered to the Issuer or to the Specified Office of the Fiscal Agent, be declared immediately due and payable, whereupon it shall become immediately due and payable at its principal amount together with accrued interest. See Condition 8 (Events of Default). 4 Use of Proceeds: The net proceeds of the issue of the Notes will be used by the Issuer for general corporate purposes and the financing of new loans to customers. See ‘‘Use of Proceeds’’. Listing: Applications have been made for the Notes to be admitted to listing on the Official List of the UKLA and to trading on the gilt-edged and fixed interest market of the London Stock Exchange. Selling Restrictions: The Notes have not been and will not be registered under the Securities Act and, subject to certain exceptions, may not be offered or sold within the United States. The Notes may be sold in other jurisdictions (including the United Kingdom and the Republic of Latvia) only in compliance with applicable laws and regulations. See ‘‘Subscription and Sale’’. Governing Law: The Notes will be governed by English law. Credit Rating: Moody’s Investor Services, Inc.: Long-term deposit rating: Ba1 Fitch Ratings Ltd.: Long-term foreign currency rating: BB+ Risk Factors: An investment in the Notes involves risk. See ‘‘Risk Factors’’. ISIN: XS0253533318. Common Code: 025353331. 5 RISK FACTORS Prior to making an investment decision, prospective purchasers of the Notes should consider carefully, in the light of the circumstances and their investment objectives, all the information contained in this Prospectus. Prospective purchasers should nevertheless consider, among other things, the investment considerations relating to the Latvian banking sector and the Issuer not normally associated with investments in other countries and other issuers, including those set out below. General risks related to the banking business carried on by the Group Exposure to Latvian Economic Risk Since as at 31 December 2005 57.0% of the loans made by the Bank and its subsidiaries (together, the ‘‘Group’’) were to Latvian corporate borrowers, a general Latvian economic downturn or instability in certain sectors of the Latvian or regional economy could have an adverse effect on the Group’s financial condition and results of operations. Competition Because approximately 90% of the Group’s income originates from its Latvian customers and approximately 90% of its assets are in Latvia, the competition that most significantly affects the Group is that which is faced by the Bank in Latvia. The Bank is subject to competition in Latvia from both domestic and foreign banks. As at 31 December 2005, there were a total of 22 domestic banks in Latvia, one branch of a foreign bank and five representative offices of foreign banks. Although there are still a relatively large number of banks in Latvia, there is significant concentration as the three largest banks in terms of assets, AS Hansabanka, AS SEB Latvijas Unibanka and the Bank, account for more than 50% of the total banking sector’s assets. The Bank faces its strongest competition from the other two large banks. Foreign-owned institutions may, through their shareholders, have significantly greater resources and access to cheaper funding than the Bank. These banks may also be able to leverage the international experience of their shareholders and may therefore prove more attractive to the larger domestic corporate customers and foreign companies operating in Latvia. To this extent, the Bank may be at a competitive disadvantage, particularly in relation to corporate customers, and its results of operations may be adversely affected by this competition. Capital Adequacy The Basle Committee on Banking Regulation and Supervisory Practises (the ‘‘Basle Committee’’) has set international standards for capital adequacy for banks. The minimum capital adequacy ratio recommended by the 1988 Basle Committee guidelines is 8%. The Group’s capital adequacy ratio under the Basle Committee guidelines was 11.7% and 12.2% as at 31 December 2005 and 2004, respectively, and the Bank’s capital adequacy ratio under the same guidelines was 12.2% and 12.8% as at 31 December 2005 and 2004, respectively. The Latvian Financial and Capital Market Commission (the ‘‘FCMC’’), as the banking regulator, requires Latvian commercial banks to maintain a capital adequacy ratio based on financial statements prepared in accordance with International Financial Reporting Standards (‘‘IFRS’’) at 8% of risk-weighted assets. The Group’s capital adequacy ratio under the FCMC requirements was 11.1% and 11.9% as at 31 December 2005 and 2004, respectively. The Bank’s capital adequacy ratio under the FCMC requirements was 11.7% and 12.5% as at 31 December 2005 and 2004, respectively. As such, as at 31 December 2005, the capital adequacy level maintained by the Group and the Bank significantly exceeds the minimum requirements set out by the FCMC and the Basle Committee. However, if the level of the Group’s portfolio of loans to customers continues to grow significantly and the Bank fails to generate sufficient level of profits to ensure consistent growth in equity through retained earnings, the Bank may need to raise new capital to maintain the capital adequacy ratios set by the FCMC. Any failure by the Bank and the Group to maintain certain capital adequacy ratios could lead to the imposition of sanctions by the FCMC, which could have an adverse effect on the Group’s results of operations and financial condition. Liquidity Risks The Group, like other commercial banks in Latvia and elsewhere, is exposed to maturity mismatches between its assets and liabilities, which could lead to lack of liquidity at certain times. At 31 December 2005, the Group had a negative cumulative maturity gap for a one month period. Although the Group believes that its level of access to domestic and international interbank markets and its liquidity risk management policy, which includes 6 maintaining liquidity reserves sufficient to meet the Group’s liquidity needs for a certain period, allow and will continue to allow the Group to meet its short-term and long-term liquidity needs, any maturity mismatches between the Group’s assets and liabilities (including by reason of the withdrawal of large deposits) may have an adverse effect on its financial condition and results of operations. See ‘‘Financial Review – Risk Management – Liquidity Risk’’. Interest Rate Risks The Group is exposed to risks resulting from mismatches between the interest rates on its interest bearing liabilities and interest-earning assets. While the Group monitors its interest rate sensitivity by analysing the composition of its assets and liabilities and off-balance sheet financial instruments, any significant and unanticipated interest rate movements may have a material adverse effect on the business, financial condition, results of operations and prospects of the Group. See ‘‘Financial Review – Risk Management – Interest Rate Risk’’. Foreign Currency Risk The Group is exposed to the effects of fluctuations in foreign currency exchange rates on its financial position and cash flows. Although the Group is subject to limits on its open currency positions pursuant to FCMC regulations and the Group’s internal policies, future changes in currency exchange rates and the volatility of the LVL may adversely affect the Group’s foreign currency positions. Although the Group uses a number of currency hedging arrangements, no assurances can be given that such hedging arrangements will be available or sufficient for the Group’s future operations reflecting the under-developed nature of the currency hedging market in Latvia when compared with more mature markets. Risks specific to the Bank Dependence on Key Personnel The Group’s success in growing its business will depend, in part, on its ability to continue to attract, retain and motivate qualified and skilled personnel. The Group relies on its senior management for the implementation of its strategy and operation of its day-to-day activities. As competition for skilled personnel, especially on the senior management level, is intense, the Group seeks to further develop its remuneration levels and to take other measures to attract and motivate skilled personnel. If the Group is unable to retain key members of its senior management and cannot hire new qualified personnel in a timely manner, its business and results of operations could be adversely affected. Competition in Latvia for personnel with relevant expertise is intense due to a disproportionately low number of available qualified and/or experienced individuals compared to demand. The Group’s failure to manage successfully its personnel needs could adversely affect the Group’s business and results of operations. Proprietary Trading The Group engages in various trading activities on its own account. The amount of fixed income trading securities held by the Group as at 31 December 2005 was LVL 24.2 million (6.6% of the combined trading and available for sale fixed income portfolio of the Group). Proprietary trading involves risk. Although the Group principally undertakes proprietary trading activities with a view to hedging its liquidity risk in relation to its loan portfolio (see ‘‘Financial Review – Results of Operations for the years ended 31 December 2005 and 2004 – Net Profit from Trading Activities’’), future proprietary trading results may be significantly affected by market conditions and could result in losses, which could have an adverse affect on the Group’s financial condition and results of operations. International Operations Certain existing investments of the Group are in markets which may be susceptible to adverse developments. Any international expansion, particularly into markets that remain in the relatively early stages of development and which are more susceptible to fiscal and economic crises, may expose the Group to additional risks. Loan Portfolio Growth The Group’s net loans and advances have increased rapidly in recent years, most recently growing by 27% in 2005 to LVL 879 million as at 31 December 2005. The significant increase in the loan portfolio size in recent years has increased the Group’s credit exposure. In addition, the Group’s strategy of further diversifying its customer base, including through increased lending to medium and small corporate clients and retail customers, may also increase the credit risk exposure in the Group’s loan portfolio. Failure to manage growth and 7 development successfully and to maintain the quality of its assets could have an adverse effect on the Group’s financial condition and results of operations. Concentration of Lending Base As at 31 December 2005, the Group’s 10 major borrowers accounted for 22% of the total loan portfolio, compared to 23% as at 31 December 2004. Any default by one or more of these borrowers could have an adverse effect on the Group’s financial condition and results of operations. Ownership concentration/Change of control The Bank’s principal beneficial shareholders are Mr. Valery Kargin and Mr. Viktor Krasovitsky (the ‘‘Principal Shareholders’’). They each hold 42.89 per cent. of the Bank’s share capital, making their aggregate holding over 85 per cent. of the Bank’s share capital. By virtue of such shareholding, the Principal Shareholders have the ability jointly to influence the Bank’s business significantly through their ability to control actions which require shareholder approval. If circumstances were to arise where the interests of the Principal Shareholders conflict with the interests of the Noteholders, Noteholders could be disadvantaged by any such conflict, as the Principal Shareholders could take actions contrary to the Noteholders’ interests. Non-Resident Deposits The majority of the Group’s deposit customers are not resident in Latvia. As at 31 December 2005, the Group held LVL 929.6 million of deposits from corporate and other customers which were reported and recorded as non-resident in Latvia, or 70.5% of the total deposits, compared with LVL 388.3 million of deposits from Latvian resident customers. In practice, a number of these deposits are made by the Group’s Latvian corporate customers through non-resident branches or subsidiaries. In 2005, deposits from Latvian corporate and private clients grew by 22%, whilst non-resident deposits grew by 18%. If a change in circumstances occurs, including changes relating to law or economic policy of either Latvia or other relevant countries from where the deposits are made, this may encourage such customers to withdraw their funds from the Group. If such withdrawals were to occur within a relatively short period of time, it could cause liquidity difficulties for the Group together with the loss of a significant source of funding, which could have a material adverse effect on the Group’s financial condition and results of operations. Transactions with Related Parties As at 31 December 2005, loans and advances by the Group to related parties totalled LVL 25.2 million, or 2.8% of the Group’s total gross loan portfolio. As at 31 December 2005 the Group held deposits amounting to LVL 43.6 million from related parties or 3.3% of total deposits held by the Group. Risk Management Systems Risk management systems describe the risks of measurement and monitoring of the Group’s exposure to liquidity, interest rate, foreign exchange and other market risks and how the Group is tackling the problem, if any. Management of these risks also requires substantial resources. Although the Group believes that it has policies and procedures in place to measure, monitor and manage liquidity and market risks, maturity mismatches or any significant volatility in interest rate movements, exchange rates or commodity market prices could have a material adverse effect on the business, financial condition, results of operations, foreign currency positions and prospects of the Group. Risks related to the Notes Credit rating The Issuer’s long-term unsubordinated foreign currency debt has been assigned a rating of BB+ by Fitch Ratings Ltd. Its long-term deposit rating from Moody’s Investor Services, Inc. is Ba1. A security rating is not a recommendation to buy, sell or hold securities and may be subject to suspension, reduction or withdrawal at any time by the assigning rating agency. Any adverse change in an applicable credit rating could adversely affect the trading price for the Notes. Absence of Trading Market for the Notes Although application has been made to admit the Notes to the Official List of the UKLA and to trading on the gilt-edged and fixed interest market of the London Stock Exchange, prior to the offering of the Notes, there has been no existing market for the Notes. Accordingly, there can be no assurance as to the liquidity of any market 8 that may develop for the Notes, the ability of holders of the Notes to sell their Notes or the price at which such holders would be able to sell Notes. There can be no assurance that an active trading market will develop or be sustained. In addition, the liquidity of any market for the Notes will depend on the number of holders of the Notes, the interest of securities dealers in making a market in the Notes and other factors. Accordingly, there can be no assurance as to the development or liquidity of any market for the Notes. EU savings directive Under EC Council Directive 2003/48/EC on the taxation of savings income, Member States of the European Union (‘‘Member States’’) are required, from 1 July, 2005, to provide to the tax authorities of another Member State details of payments of interest (or similar income) paid by a person within its jurisdiction to an individual resident in that other Member State. However, for a transitional period, Austria, Belgium and Luxembourg are instead required (unless during that period they elect otherwise) to operate a withholding system in relation to such payments (the ending of such transitional period being dependent upon the conclusion of certain other agreements relating to information exchange with certain other countries). A number of non-EU countries and territories including Switzerland have agreed to adopt similar measures (a withholding system in the case of Switzerland) with effect from the same date. If, following implementation of this Directive, a payment were to be made or collected through a Member State which has opted for a withholding system and an amount of, or in respect of tax were to be withheld from that payment, neither the Issuer nor any Paying Agent nor any other person would be obliged to pay additional amounts with respect to any Note as a result of the imposition of such withholding tax. If a withholding tax is imposed on payment made by a Paying Agent following implementation of this Directive, the Issuer will be required to maintain a Paying Agent in a Member State that will not be obliged to withhold or deduct tax pursuant to the Directive. Taxation The principal taxes payable by Latvian companies include corporate income tax, value-added tax, social security contributions, excise duties, real estate tax, customs tax, natural resources tax and withholding taxes. It is possible that tax laws or the interpretation of existing laws may change in such a way that the Bank’s profitability and financial condition may be adversely affected. 9 ENFORCEMENT OF FOREIGN JUDGMENTS The Issuer and substantially all of its assets are located in the Republic of Latvia. In addition, most of the directors and officers of the Issuer are residents of the Republic of Latvia and substantially all of their personal assets are located in the Republic of Latvia. As a result, it may be difficult for foreign investors of various jurisdictions to effect service of process in the same manner as in their own jurisdiction on the Issuer or its directors or officers in connection with any lawsuits against the Issuer or such persons related to the Notes. Furthermore, foreign investors may have difficulties enforcing judgments of foreign courts against the Issuer or its directors or officers in the Republic of Latvia. The Republic of Latvia is a signatory to the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards of 1958. Arbitration awards in countries that are signatories are enforceable in the Republic of Latvia subject to this convention and certain other limitations (including applicable provisions of Latvian law). The Notes provide for arbitration for the enforcement of any claims. 10 SELECTED FINANCIAL INFORMATION The following tables contain summary financial information derived without material adjustment from the Bank’s audited consolidated financial statements as at and for the years ended 31 December 2005 and 2004, which have been audited by SIA Ernst & Young Baltic. These consolidated financial statements are presented in Lats and have been prepared in accordance with International Financial Reporting Standards (‘‘IFRS’’). Such financial statements and the accompanying notes, together with the auditors’ reports of SIA Ernst & Young Baltic, appear on pages F-1 to F-88 of this Prospectus. The selected financial information presented below should be read in conjunction with such financial statements, reports and the notes thereto. Consolidated Statements of Income for the years ended 31 December 2005 and 2004 Interest income Interest expense Net interest income Commission and fee income Commission and fee expense Net commission and fee income Profit on trading with financial instruments, net Other operating income Net operating income Administrative expense Depreciation and amortisation expense Other operating expense Impairment allowance Release of previously established impairment allowance Profit from investments in subsidiaries Profit before corporate income tax and minority interest Corporate income tax Profit before minority interest Minority interest Net profit for the year 11 2005 2004 LVL 000’s 78,899 58,518 (32,425) (19,848) 46,474 38,670 32,528 23,897 (6,794) (5,074) 25,734 18,823 15,484 13,227 2,135 1,920 89,827 72,640 (47,722) (38,800) (6,347) (6,318) (804) (344) (2,722) (9,109) 5,347 1,010 — (419) 37,579 18,660 (4,365) (2,206) 33,214 16,454 — (2) 33,214 16,452 Consolidated Balance Sheets and Memorandum Items as at 31 December 2005 and 2004 2005 2004 LVL 000’s Assets Cash and deposits with central banks 144,079 70,781 Balances due from credit institutions 312,583 312,870 Loans and advances to customers 879,262 691,693 Fixed income securities 432,061 298,758 Shares and other non-fixed income securities 30,467 11,512 Derivative financial instruments 564 1,405 Intangible assets 2,805 3,497 Fixed assets 23,771 23,169 Prepayments and accrued income 10,340 8,334 Current income tax prepayment — 729 Other assets 6,404 1,733 Total assets 1,842,336 1,424,481 Liabilities Balances due to credit institutions and central banks Deposits from customers Issued debt securities Derivative financial instruments Accrued expense and deferred income Current income tax liability Deferred income tax liability Provision for liabilities and charges Other liabilities Total liabilities 262,996 1,317,924 74,070 2,366 7,695 772 608 109 17,705 1,684,245 172,250 1,105,571 — 3,310 4,354 — 905 56 11,648 1,298,094 Shareholders’ equity Paid-in share capital Share premium Fair value revaluation reserve Retained earnings Total shareholders’ equity attributable to shareholders of the Bank Minority interest Total shareholders’ equity Total liabilities and shareholders’ equity 65,027 12,694 2,358 78,000 158,079 12 158,091 1,842,336 65,027 12,694 3,867 44,786 126,374 13 126,387 1,424,481 21,115 190,824 703,087 105,013 166,053 25,900 125,296 805,001 25,592 170,514 Memorandum items Contingent liabilities Financial commitments Foreign exchange contracts Other financial instruments Funds under trust management 12 Selected Consolidated Financial Ratios As at 31 December 2005 2004 All figures in percentages 38.9 40.0 5.5 5.8 3.04 3.38 61.1 62.6 3.4 3.7 2.03 1.32 23.35 14.03 47.7 48.6 71.5 77.6 8.6 8.9 93.5 93.9 Non-interest income/ total income Net operating income/ average total assets(1) Net interest margin Operating expenses/ net operating income Operating expenses/ average total assets(1) Return on average assets(1)(2) Return on average equity(1)(3) Loans/ total assets Customer deposits/ total assets Shareholders’ equity/ total assets Interest earning assets/ total assets Selected growth rates Total interest earning assets Net Loans Total assets Total deposits 28.8 27.1 29.3 19.2 (1) Averages are calculated based on opening and closing balances for the period. (2) Net income as a percentage of average assets. (3) Net income as a percentage of average shareholders’ equity 13 40.3 45.4 33.8 32.3 TERMS AND CONDITIONS OF THE NOTES The following is the text of the Terms and Conditions of the Notes which (subject to completion and amendment) will be endorsed on each Individual Note Certificate and will be attached and (subject to the provisions thereof) apply to the Global Notes. The EUR 200,000,000 5.625 per cent. Notes due 5 May 2011 (the ‘‘Notes’’, which expression includes any further notes issued pursuant to Condition 13 (Further issues) and forming a single series therewith) of SC Parex banka (the ‘‘Issuer’’) are the subject of a fiscal agency agreement dated 5 May 2006 (as amended or supplemented from time to time, the ‘‘Agency Agreement’’) between the Issuer, JPMorgan Chase Bank, N.A. as fiscal agent (the ‘‘Fiscal Agent’’, which expression includes any successor fiscal agent appointed from time to time in connection with the Notes), J.P. Morgan Bank Luxembourg S.A. as registrar (the ‘‘Registrar’’, which expression includes any successor registrar appointed from time to time in connection with the Notes), the transfer agents named therein (together with the Registrar, the ‘‘Transfer Agents’’, which expression includes any successor or additional transfer agents appointed from time to time in connection with the Notes) and the paying agents named therein (together with the Fiscal Agent, the ‘‘Paying Agents’’, which expression includes any successor or additional paying agents appointed from time to time in connection with the Notes). References herein to the ‘‘Agents’’ are to the Registrar, the Fiscal Agent, the other Transfer Agents and the other Paying Agents and any reference to an ‘‘Agent’’ is to any one of them. Certain provisions of these terms and conditions (the ‘‘Conditions’’) are summaries of the Agency Agreement and subject to its detailed provisions. Noteholders are entitled to the benefit of, are bound by, and are deemed to have notice of, all the provisions of the Agency Agreement applicable to them. Copies of the Agency Agreement are available for inspection by Noteholders during normal business hours at the Specified Offices (as defined in the Agency Agreement) of each of the Paying Agents, the initial Specified Offices of which are set out below. 1. FORM AND DENOMINATION; REGISTER, TITLE AND TRANSFERS (a) Form and denomination: The Notes are in registered form and are issued in amounts of EUR 50,000 and integral multiples of EUR 1,000 in excess thereof (each, an ‘‘Authorised Holding’’). (b) Register: The Issuer shall procure that the Registrar will maintain a register (the ‘‘Register’’) in respect of the Notes in accordance with the provisions of the Agency Agreement. In these Conditions the ‘‘holder’’ of a Note means the person in whose name such Note is for the time being registered in the Register (or, in the case of a joint holding, the first named thereof) and ‘‘Noteholder’’ shall be construed accordingly. A certificate (each a ‘‘Note Certificate’’) will be issued to each Noteholder in respect of its registered holding. Each Note Certificate will be serially numbered with an identifying number which will be recorded in the Register. (c) Title: The holder of each Note shall (except as otherwise required by law) be treated as the absolute owner of such Note for all purposes (whether or not it is overdue and regardless of any notice of ownership, trust or any other interest therein, any writing on the Note Certificate relating thereto (other than the endorsed form of transfer) or any notice of any previous loss or theft of such Note Certificate) and no person shall be liable for so treating such holder. No person shall have any right to enforce any term or condition of the Notes under the Contracts (Rights of Third Parties) Act 1999. (d) Transfers: Subject as provided below in this paragraph (d) and in paragraphs (g) and (h) below, a Note may be transferred upon surrender of the relevant Note Certificate, with the endorsed form of transfer duly completed, at the Specified Office of the Registrar or any other Transfer Agent, together with such evidence as the Registrar or the Transfer Agent may reasonably require to prove the title of the transferor and the authority of the individuals who have executed the form of transfer; provided, however, that a Note may not be transferred unless the principal amount of Notes transferred and (where not all of the Notes held by a holder are being transferred) the principal amount of the balance of Notes not transferred are Authorised Holdings. Where not all the Notes represented by the surrendered Note Certificate are the subject of the transfer, a new Note Certificate in respect of the balance of the Notes will be issued to the transferor. 14 2. (e) Registration and delivery of Note Certificates: Within five business days of the surrender of a Note Certificate in accordance with paragraph (d) above, the Registrar will register the transfer in question and deliver a new Note Certificate of a like principal amount to the Notes transferred to each relevant holder at its specified office or (at the request and risk of such relevant holder) by uninsured first class mail (airmail if overseas) to the address specified for the purpose by such relevant holder. In this paragraph, ‘‘business day’’ means a day on which commercial banks are open for business (including dealings in foreign currencies) in the city where the Registrar and, if different, the relevant Transfer Agent has its specified office. (f) No charge: The transfer of a Note will be effected without charge by or on behalf of the Issuer, the Registrar or the relevant Transfer Agent but against such indemnity as the Issuer, the Registrar or (as the case may be) the Transfer Agent may require in respect of any tax or other duty of whatsoever nature which may be levied or imposed in connection with such transfer. (g) Closed Periods: Noteholders may not require transfers to be registered during the period of 15 days ending on the due date for any payment of principal or interest in respect of the Notes. (h) Regulations concerning transfers and registration: All transfers of Notes and entries on the Register are subject to the detailed regulations concerning the transfer of Notes scheduled to the Agency Agreement. The regulations may be changed by the Issuer with the agreement of the Registrar. A copy of the current regulations will be mailed (free of charge) by the Registrar to any Noteholder who requests in writing a copy of such regulations. STATUS The Notes constitute direct, general and unconditional obligations of the Issuer which will at all times rank pari passu among themselves and at least pari passu with all other present and future unsecured obligations of the Issuer, save for such obligations as may be preferred by law. 3. NEGATIVE PLEDGE (a) Applicable Negative Pledge: Prior to the redemption of the EUR 100,000,000 4.375 per cent. Notes due 9 June 2008 (the ‘‘Existing Notes’’), the negative pledge applicable to the Notes shall be the existing negative pledge (the ‘‘Existing Negative Pledge’’) set-out in Condition 3(b) (Existing Negative Pledge). Following the redemption of the Existing Notes, the Existing Negative Pledge will continue to apply to the Notes unless and until a Rating Adjustment Event occurs. In such a case, the negative pledge applicable to the Notes (‘‘Applicable Negative Pledge’’) shall become the alternative negative pledge (the ‘‘Alternative Negative Pledge’’) set-out in Condition 3(d) (Alternative Negative Pledge) with effect on and from the Negative Pledge Adjustment Date. For this purpose, a ‘‘Rating Adjustment Event’’ means that the long-term unsubordinated debt or deposit ratings assigned to the Issuer both are or both become investment grade in accordance with the table below. If neither Moody’s Investors Service, Inc. (‘‘Moody’s’’) nor Fitch Ratings (‘‘Fitch’’) has assigned such a rating to the Notes following the redemption of the Existing Notes, the Issuer will use all reasonable efforts to ensure that another internationally recognised rating agency provides such a rating for the Issuer (each, a ‘‘Substitute Agency’’). Investment Grade Ratings Category Moody’s Fitch Substitute Agency Baa3 or higher BBB- or higher Its equivalent of Baa3/BBB- or higher The ‘‘Negative Pledge Adjustment Date’’ is the first Business Day following the Rating Adjustment Date (determined by reference to Central European Time). If there is a change to the Applicable Negative Pledge, the Issuer will notify the London Stock Exchange and the UKLA. The ‘‘Rating Adjustment Date’’ is the date on which the Existing Notes are redeemed if at the time both of the long-term unsubordinated debt or deposit ratings assigned to the Issuer by Moody’s and Fitch (or, if either Moody’s or Fitch no longer assigns such a rating, the remaining agency which does provide such a rating and the Substitute Agency) are investment grade or, if this is not the case, such later date on which Moody’s and Fitch or either of them and the Substitute Agency (as the case may be) have announced that the long-term unsubordinated debt or deposit rating assigned by it to the Issuer has become investment grade. 15 In the event that either Moody’s or Fitch or a Substitute Agency fails to or ceases to assign a rating to the Issuer’s senior unsecured debt, the ratings assigned by the remaining rating agency shall be deemed also to be the ratings assigned by the other rating agency. (b) Existing Negative Pledge: So long as any Note remains outstanding (as defined in the Agency Agreement), the Issuer shall not, and the Issuer shall procure that none of its Principal Subsidiaries will, create or permit to subsist any Security Interest (other than a Permitted Security Interest) upon the whole or any part of its present or future undertaking, assets or revenues (including uncalled capital) to secure any Indebtedness or any Guarantee of Indebtedness, without (a) at the same time or prior thereto securing the Notes equally and rateably therewith or (b) providing such other security for the Notes as may be approved by an Extraordinary Resolution (as defined in the Agency Agreement) of Noteholders. (c) Definitions: Except in the case of the definition of ‘‘Permitted Security Interest’’ which is applicable to this Condition 3(b) only, in these Conditions: ‘‘Development Organisation’’ means any of Asian Development Bank, European Bank for Reconstruction and Development, International Bank for Reconstruction and Development, International Finance Corporation or any other development finance institution established or controlled by one or more states; ‘‘Guarantee’’ means, in relation to any Indebtedness of any Person, any obligation of another Person to pay such Indebtedness including (without limitation): (i) any obligation to purchase such Indebtedness; (ii) any obligation to lend money, to purchase or subscribe shares or other securities or to purchase assets or services in order to provide funds for the payment of such Indebtedness; (iii) any indemnity against the consequences of a default in the payment of such Indebtedness; and (iv) any other agreement to be responsible for such Indebtedness; ‘‘Indebtedness’’ means any indebtedness of any Person for money borrowed or raised including (without limitation) any indebtedness for or in respect of: (i) amounts raised by acceptance under any acceptance credit facility; (ii) amounts raised under any note purchase facility; (iii) the amount of any liability in respect of leases or hire purchase contracts which would, in accordance with applicable law and generally accepted accounting principles, be treated as finance or capital leases; (iv) the amount of any liability in respect of any purchase price for assets or services the payment of which is deferred for a period in excess of 60 days; and (v) amounts raised under any other transaction (including, without limitation, any forward sale or purchase agreement) having the commercial effect of a borrowing; ‘‘Permitted Security Interest’’ means: (i) any Security Interest in existence on the issue date of the Notes to the extent that it secures Indebtedness outstanding on such date; (ii) any Security Interest arising by operation of law and in the ordinary course of business of the Issuer or any of its Principal Subsidiaries which does not (either alone or together with any one or more other such Security Interests) materially impair the operation of such business; (iii) any Security Interest granted in connection with court proceedings (including as security for costs and expenses in any such proceedings), so long as the claims secured thereby are being contested in good faith by appropriate proceedings; 16 (iv) any Security Interest on property acquired (or deemed to be acquired) under a finance or capital lease, or claims arising from the use or loss of or damage to such property, provided that any such encumbrance secures only rentals and other amounts payable under such lease; (v) any Security Interest arising pursuant to any agreement (or other applicable terms and conditions) which is standard or customary in the relevant market and in the ordinary course of its banking business (and not for the purpose of raising credit or funds for the operation of the Issuer or any Principal Subsidiary other than on a short-term basis as part of the Issuer’s or Principal Subsidiary’s liquidity management activities), in connection with (i) contracts entered into substantially simultaneously for sales and purchases at market prices of commodities (including currency) or securities (including, but not limited to, Repos), (ii) the establishment of margin deposits and similar collateral in connection with any derivative or other trading transaction or (iii) proprietary trading activities generally; (vi) any Security Interest granted upon or with regard to any property hereafter acquired by the Issuer or any Principal Subsidiary to secure the purchase price of such property or to secure Indebtedness incurred solely for the purpose of financing the acquisition of such property and transactional expenses related to such acquisition (other than a Security Interest created in contemplation of such acquisition), provided that the maximum amount of Indebtedness thereafter secured by such Security Interest does not exceed the purchase price of such property (including transactional expenses) or the Indebtedness incurred solely for the purpose of financing the acquisition of such property; (vii) any Security Interest created or outstanding upon any property or assets (including current and/or future revenues, accounts receivables and other payments) of the Issuer or any Principal Subsidiary arising out of any securitisation of such property or assets or other similar structured finance transaction in relation to such property or assets where the primary source of payment of any obligations secured by such property or assets is the proceeds of such property or assets (or where the payment of such obligations is otherwise supported by such property or assets) and where recourse to the Issuer or the Principal Subsidiary, as the case may be, in respect of such obligations does not extend to defaults by the obligors in relation to such property or assets; (viii) any Security Interest granted by the Issuer or any Principal Subsidiary in favour of a Development Organisation to secure Indebtedness owed by the Issuer or such Principal Subsidiary to such Development Organisation pursuant to any loan agreement or other credit facility entered into with such Development Organisation, provided, however, that the amount of Indebtedness so secured pursuant to this paragraph (h) shall not exceed in aggregate an amount in any currency or currencies equivalent to 10 per cent. of the Issuer’s loans and advances to customers before provisions for loan losses (calculated by reference to the most recent audited consolidated financial statements of the Issuer prepared in accordance with International Financial Reporting Standards); (ix) any Security Interest created by a Principal Subsidiary to secure amounts owing to the Issuer from that Principal Subsidiary; (x) any Security Interest created by a company which is acquired by the Issuer after the date of issue of the Notes provided that such Security Interest was created prior to the date of acquisition: (xi) any Security Interest existing over any property at the time of the acquisition of such property by the Issuer or any Principal Subsidiary; (xii) any right of set-off and any retention of title or other lien reserved by any seller of goods, in each case arising under contracts entered into in the ordinary course of the Issuer’s or the Principal Subsidiary’s business; (xiii) any Security Interest arising pursuant to applicable legislation in any jurisdiction in which the Issuer or a Principal Subsidiary carries on business over a pool of assets (including, but 17 not limited to, mortgage loans and public sector bonds) and securing any issue of debt securities issued by the Issuer or any of its Principal Subsidiaries; (xiv) any Security Interest arising out of the refinancing, extension, renewal or refunding of any Indebtedness secured by a Permitted Security Interest, provided that the Indebtedness thereafter secured by such Security Interest does not exceed the amount of the original Indebtedness and such Security Interest is not extended to cover any property not previously subject to such Security Interest; and (xv) any Security Interest that does not fall within paragraphs (i) to (xiv) above and that secures Indebtedness which, when aggregated does not exceed EUR 50,000,000 (or its equivalent in other currencies); provided that the aggregate amount of such obligations so secured pursuant to paragraphs (vii) and (xiii) above at any one time (measured at the time of initial incurrence) shall not exceed an amount in any currency or currencies equivalent to 25 per cent. of the Issuer’s loans and advances to customers before provisions for loan losses (calculated by reference to the most recent audited consolidated financial statements of the Issuer prepared in accordance with International Financial Reporting Standards); ‘‘Person’’ means any individual, company, corporation, firm, partnership, joint venture, association, organisation, state or agency of a state or other entity, whether or not having separate legal personality; ‘‘Principal Subsidiary’’ means a Subsidiary of the Issuer whose (a) total profits, before tax and extraordinary items, or (b) total value of assets represent in excess of 5 per cent. of the consolidated total profits, before tax and extraordinary items of the Issuer and members of its group, or, as the case may be, the total value of all consolidated assets owned by the Issuer and members of its group, in each case calculated by reference to the latest audited financial statements of each Subsidiary and the latest audited consolidated financial statements of the Issuer and its Subsidiaries; ‘‘Repo’’ means a securities repurchase or resale agreement or reverse repurchase or resale agreement, a securities borrowing agreement or any agreement relating to securities which is similar in effect to any of the foregoing and, for purposes of this definition, the term ‘‘securities’’ means any capital stock, share, debenture or other debt or equity instrument, or other derivative, whether issued by any private or public company, any government or agency or instrumentality thereof or any supernational, international or multilateral or organisation; ‘‘Security Interest’’ means any mortgage, charge, pledge, lien or other security interest including, without limitation, anything analogous to any of the foregoing under the laws of any jurisdiction; and ‘‘Subsidiary’’ means, in relation to any Person (the ‘‘first Person’’) at any particular time, any other Person (the ‘‘second Person’’): (d) (i) whose affairs and policies the first Person controls or has the power to control, whether by ownership of share capital, contract, the power to appoint or remove members of the governing body of the second Person or otherwise; or (ii) whose financial statements are, in accordance with applicable law and generally accepted accounting principles, consolidated with those of the first Person. Alternative Negative Pledge: So long as any Note remains outstanding (as defined in the Agency Agreement), the Issuer shall not, and the Issuer shall procure that none of its Principal Subsidiaries will, create or permit to subsist any Security Interest (other than a Permitted Security Interest) upon the whole or any part of its present or future undertaking, assets or revenues (including uncalled capital) to secure any Relevant Indebtedness or any Guarantee of Relevant Indebtedness, without (a) at the same time or prior thereto securing the Notes equally and rateably therewith or (b) providing such other security for the Notes as may be approved by an Extraordinary Resolution (as defined in the Agency Agreement) of Noteholders. 18 In this Condition 3(d): ‘‘Permitted Security Interest’’ means: (i) any Security Interest created or outstanding upon any property or assets (including current and/or future revenues, accounts receivables and other payments) of the Issuer or any Principal Subsidiary arising out of any securitisation of such property or assets or other similar structured finance transaction in relation to such property or assets where the primary source of payment of any obligations secured by such property or assets is the proceeds of such property or assets (or where the payment of such obligations is otherwise supported by such property or assets) and where recourse to the Issuer or the Principal Subsidiary, as the case may be, in respect of such obligations does not extend to defaults by the obligors in relation to such property or assets; (ii) any Security Interest created by a company which is acquired by the Issuer after the date of issue of the Notes provided that such Security Interest was created prior to the date of acquisition: (iii) any Security Interest arising pursuant to applicable legislation in any jurisdiction in which the Issuer or a Principal Subsidiary carries on business over a pool of assets (including, but not limited to, mortgage loans and public sector bonds) and securing any issue of debt securities issued by the Issuer or any of its Principal Subsidiaries; and (iv) any Security Interest arising out of the refinancing, extension, renewal or refunding of any Indebtedness secured by a Permitted Security Interest, provided that such Security Interest is itself a Permitted Security Interest; and ‘‘Relevant Indebtedness’’ means any Indebtedness which is in the form of or represented by any bond, note, debenture, debenture stock, loan stock, certificate or other instrument which is, or is capable of being, listed, quoted or traded on any stock exchange or in any securities market (including, without limitation, any over-the-counter market). 4. INTEREST The Notes bear interest from 5 May 2006 (the ‘‘Issue Date’’), at the rate of 5.625 per cent. per annum, (the ‘‘Rate of Interest’’) payable in arrear on 5 May in each year (each, an ‘‘Interest Payment Date’’), subject as provided in Condition 6 (Payments). Each Note will cease to bear interest from the due date for redemption unless, upon due presentation, payment of principal is improperly withheld or refused, in which case it will continue to bear interest at such rate (both before and after judgment) until whichever is the earlier of (a) the day on which all sums due in respect of such Note up to that day are received by or on behalf of the relevant Noteholder and (b) the day which is seven days after the Fiscal Agent has notified the Noteholders that it has received all sums due in respect of the Notes up to such seventh day (except to the extent that there is any subsequent default in payment). The amount of interest payable on each Interest Payment Date shall be EUR 56.25 per EUR 1,000 principal amount of Notes. If interest is required to be paid in respect of a Note on any other date, it shall be calculated by applying the Rate of Interest to the principal amount of such Note, multiplying the product by the relevant Day Count Fraction and rounding the resulting figure to the nearest cent (half a cent being rounded upwards), where: ‘‘Day Count Fraction’’ means, in respect of any period, the number of days in the relevant period, from (and including) the first day in such period to (but excluding) the last day in such period, divided by the number of days in the Regular Period in which the relevant period falls; and ‘‘Regular Period’’ means each period from (and including) the Issue Date or any Interest Payment Date to (but excluding) the next Interest Payment Date. 19 5. REDEMPTION AND PURCHASE (a) Scheduled redemption: Unless previously redeemed, or purchased and cancelled, the Notes will be redeemed at their principal amount on 5 May 2011, subject as provided in Condition 6 (Payments). (b) Redemption for tax reasons: The Notes may be redeemed at the option of the Issuer in whole, but not in part, at any time, on giving not less than 30 nor more than 60 days’ notice to the Noteholders (which notice shall be irrevocable), at their principal amount, together with interest accrued to the date fixed for redemption, if: (i) the Issuer has or will become obliged to pay additional amounts as provided or referred to in Condition 7 (Taxation) as a result of any change in, or amendment to, the laws or regulations of the Republic of Latvia or any political subdivision or any authority thereof or therein having power to tax, or any change in the application or official interpretation of such laws or regulations (including a holding by a court of competent jurisdiction), which change or amendment becomes effective on or after 5 May 2006; and (ii) such obligation cannot be avoided by the Issuer taking reasonable measures available to it; provided, however, that no such notice of redemption shall be given earlier than 90 days prior to the earliest date on which the Issuer would be obliged to pay such additional amounts if a payment in respect of the Notes were then due. Prior to the publication of any notice of redemption pursuant to this paragraph, the Issuer shall deliver to the Fiscal Agent: (A) a certificate signed by two directors of the Issuer stating that the Issuer is entitled to effect such redemption and setting forth a statement of facts showing that the conditions precedent to the right of the Issuer so to redeem have occurred; and (B) an opinion of independent legal advisers of recognised standing to the effect that the Issuer has or will become obliged to pay such additional amounts as a result of such change or amendment. Upon the expiry of any such notice as is referred to in this Condition 5(b), the Issuer shall be bound to redeem the Notes in accordance with this Condition 5(b). 6. (c) No other redemption: The Issuer shall not be entitled to redeem the Notes otherwise than as provided in paragraphs (a) (Scheduled Redemption) and (b) (Redemption for tax reasons) above. (d) Purchase: The Issuer or any of its Subsidiaries may at any time purchase Notes in the open market or otherwise and at any price. (e) Cancellation: All Notes so redeemed or purchased by the Issuer or any of its Subsidiaries shall be cancelled and may not be reissued or resold. PAYMENTS (a) Principal: Payments of principal shall be made by Euro cheque drawn on or, upon application by a Holder of a Note to the Specified Office of the Fiscal Agent not later than the fifteenth day before the due date for any such payment, by transfer to a Euro account (or other account to which Euro may be credited or transferred) maintained by the payee with, a bank in a city in which banks have access to the Trans-European Automated Real-time Gross settlement Express Transfer (TARGET) system (the ‘‘TARGET System’’) and (in the case of redemption) upon surrender (or, in the case of part payment only, endorsement) of the relevant Note Certificates at the Specified Office of any Paying Agent. (b) Interest: Payments of interest shall be made by Euro cheque drawn on, or upon application by a Holder of a Note to the Specified Office of the Fiscal Agent not later than the fifteenth day before the due date for any such payment, by transfer to a Euro account (or other account to which Euro may be credited or transferred) maintained by the payee with, a bank in a city in which banks have access to the TARGET System and (in the case of interest payable on redemption) upon surrender (or, in the case of part payment only, endorsement) of the relevant Note Certificates at the Specified Office of any Paying Agent. 20 7. (c) Payments subject to fiscal laws: All payments in respect of the Notes are subject in all cases to any applicable fiscal or other laws and regulations in the place of payment, but without prejudice to the provisions of Condition 7 (Taxation). No commissions or expenses shall be charged to the Noteholders in respect of such payments. (d) Payments on business days: Where payment is to be made by transfer to a Euro account (or other account to which Euro may be credited or transferred), payment instructions (for value the due date or, if the due date is not a business day, for value the next succeeding business day) will be initiated and, where payment is to be made by cheque, the cheque will be mailed (i) (in the case of payments of principal and interest payable on redemption) on the later of the due date for payment and the day on which the relevant Note Certificate is surrendered (or, in the case of part payment only, endorsed) at the Specified Office of a Paying Agent and (ii) (in the case of payments of interest payable other than on redemption) on the due date for payment. A Holder of a Note shall not be entitled to any interest or other payment in respect of any delay in payment resulting from (A) the due date for a payment not being a business day or (B) a cheque mailed in accordance with this Condition 6 (Payments) arriving after the due date for payment or being lost in the mail. In this paragraph ‘‘business day’’ means: (a) in the case of payment by transfer to a Euro account (or other account to which Euro may be credited or transferred) as referred to above, any day which is a TARGET Settlement Day; and (b) in the case of surrender (or, in the case of part payment only, endorsement) of a Note Certificate, any day on which banks are open for general business (including dealings in foreign currencies) in the place in which the Note Certificate is surrendered (or, as the case may be, endorsed); and (c) ‘‘TARGET Settlement Day’’ means a day on which the TARGET System is open. (e) Partial payments: If a Paying Agent makes a partial payment in respect of any Note, the Issuer shall procure that the amount and date of such payment are noted on the Register and, in the case of partial payment upon presentation of a Note Certificate, that a statement indicating the amount and the date of such payment is endorsed on the relevant Note Certificate. (f) Record date: Each payment in respect of a Note will be made to the person shown as the Holder in the Register at the opening of business in the place of the Registrar’s Specified Office on the fifteenth day before the due date for such payment (the ‘‘Record Date’’). Where payment in respect of a Note is to be made by cheque, the cheque will be mailed to the address shown as the address of the Holder in the Register at the opening of business on the relevant Record Date. TAXATION All payments of principal and interest in respect of the Notes by or on behalf of the Issuer shall be made free and clear of, and without withholding or deduction for or on account of, any present or future taxes, duties, assessments or governmental charges of whatever nature imposed, levied, collected, withheld or assessed by or on behalf of the Republic of Latvia or any political subdivision thereof or any authority therein or thereof having power to tax, unless the withholding or deduction of such taxes, duties, assessments or governmental charges is required by law. In that event the Issuer shall pay such additional amounts as will result in receipt by the Noteholders after such withholding or deduction of such amounts as would have been received by them had no such withholding or deduction been required, except that no such additional amounts shall be payable in respect of any Note: (a) held by a holder which is liable to such taxes, duties, assessments or governmental charges in respect of such Note by reason of its having some connection with the Republic of Latvia other than the mere holding of the Note; or (b) where such withholding or deduction is imposed on a payment to an individual and is required to be made pursuant to European Council Directive 2003/48/EC or any law implementing or complying with, or introduced in order to conform to, such Directive; or (c) held by a holder who would have been able to avoid such withholding or deduction by presenting the relevant Note to another Paying Agent in a member state of the European Union; or 21 (d) where (in the case of a payment of principal or interest on redemption) the relevant Note Certificate is surrendered for payment more than 30 days after the Relevant Date except to the extent that the relevant holder would have been entitled to such additional amounts if it had surrendered the relevant Note Certificate on the last day of such period of 30 days. In these Conditions, ‘‘Relevant Date’’ means whichever is the later of (1) the date on which the payment in question first becomes due and (2) if the full amount payable has not been received in a city in which banks have access to the TARGET System by the Fiscal Agent on or prior to such due date, the date on which (the full amount having been so received) notice to that effect has been given to the Noteholders. Any reference in these Conditions to principal or interest shall be deemed to include any additional amounts in respect of principal or interest (as the case may be) which may be payable under this Condition 7 (Taxation). If the Issuer becomes subject at any time to any taxing jurisdiction other than the Republic of Latvia, references in these Conditions to the Republic of Latvia shall be construed as references to the Republic of Latvia and/or (as the case may be) such other jurisdiction. 8. EVENTS OF DEFAULT If any of the following events occurs: (a) Non-payment: the Issuer fails to pay any amount of interest in respect of the Notes within 5 business days of the due date for payment thereof; or (b) Breach of other obligations: the Issuer defaults in the performance or observance of any of its other obligations under or in respect of the Notes and such default remains unremedied for 30 days after written notice thereof, addressed to the Issuer by any Noteholder, has been delivered to the Issuer or to the Specified Office of the Fiscal Agent; or (c) Cross-default of Issuer or Principal Subsidiary: (i) any Indebtedness of the Issuer or any of its Principal Subsidiaries is not paid when due or (as the case may be) with in any originally applicable grace period; (ii) any such Indebtedness becomes (or becomes capable of being declared) due and payable prior to its stated maturity otherwise than at the option of the Issuer or (as the case may be) the relevant Principal Subsidiary or (provided that no event of default, howsoever described, has occurred) any person entitled to such Indebtedness; or (iii) the Issuer or any of its Principal Subsidiaries fails to pay when due any amount payable by it under any Guarantee of any Indebtedness; or provided that the amount of Indebtedness referred to in sub-paragraph (i) and/or sub-paragraph (ii) above and/or the amount payable under any Guarantee referred to in sub-paragraph (iii) above individually or in the aggregate exceeds EUR 5,000,000 (or its equivalent in any other currency or currencies); or (d) Unsatisfied judgment: one or more judgment(s) or order(s) or arbitration award(s) for the payment of an aggregate amount in excess of EUR 5,000,000 (or its equivalent in any other currency or currencies) is rendered against the Issuer or any of its Principal Subsidiaries and, unless appealed by the Issuer or the Principal Subsidiary, as the case may be, continue(s) unsatisfied and unstayed for a period of 30 days after the date(s) thereof or, if later, the date therein specified for payment; or (e) Security enforced: a secured party takes possession, or a receiver, manager or other similar officer is appointed, of the whole or any material part of the undertaking, assets and revenues of the Issuer or any of its Principal Subsidiaries; or (f) Insolvency, etc: (i) the Issuer or any of its Principal Subsidiaries becomes insolvent or is unable, or admits its inability, to pay its debts (or any class of its debts) as they fall due or is deemed unable to pay its debts (or any class thereof) pursuant to or for the purposes of any applicable law, (ii) an administrator, receiver or liquidator of the Issuer or any of its Principal Subsidiaries or the whole 22 or any material part of the undertaking, assets and revenues of the Issuer or any of its Principal Subsidiaries is appointed (iii) the Issuer or any of its Principal Subsidiaries takes any action for a readjustment or deferment of any of its obligations or makes a general assignment or an arrangement or composition with or for the benefit of its creditors (or any class of its creditors) or declares a moratorium in respect of any of its Indebtedness or any Guarantee of any Indebtedness given by it or (iv) the Issuer or any of its Principal Subsidiaries ceases or threatens to cease to carry on all or any material part of its business (otherwise than, in the case of a Principal Subsidiary of the Issuer, for the purposes of or pursuant to an amalgamation, reorganisation or restructuring whilst solvent); or (g) Winding up, etc: an order is made or an effective resolution is passed for the winding up, liquidation or dissolution of the Issuer or any of its Principal Subsidiaries (otherwise than, in the case of a Principal Subsidiary of the Issuer, for the purposes of or pursuant to an amalgamation, reorganisation or restructuring whilst solvent); or (h) Analogous event: any event occurs which under the laws of the Republic of Latvia has an analogous effect to any of the events referred to in paragraphs (d) (Unsatisfied judgment) to (g) (Winding up, etc.) above; or (i) Failure to take action, etc: any action, condition or thing at any time required to be taken, fulfilled or done in order (i) to enable the Issuer lawfully to enter into, exercise its rights and perform and comply with its obligations under and in respect of the Notes, (ii) to ensure that those obligations are legal, valid, binding and enforceable and (iii) to make the Notes admissible in evidence in the courts of the Republic of Latvia is not taken, fulfilled or done; or (j) Unlawfulness: it is or will become unlawful for the Issuer to perform or comply with any of its obligations under or in respect of the Notes; or (k) Revocation of licences: any of the material licences which the Issuer holds, or any of its Principal Subsidiaries holds, and which are necessary for it to carry on its business, is terminated, revoked or suspended and not replaced by a new licence or the licence is modified in a manner which materially adversely affects the ability of the Issuer to make payments in respect of the Notes; or (l) Government intervention: (i) all or a material part of the undertaking, assets and revenues of the Issuer or any of its Principal Subsidiaries is condemned, seized or otherwise appropriated by any person acting under the authority of any national, regional or local government or (ii) the Issuer or any of its Principal Subsidiaries is prevented by any such person from exercising normal control over all or a material part of its undertaking, assets and revenues, then any Note may, by written notice addressed by the holder thereof to the Issuer and delivered to the Issuer or to the Specified Office of the Fiscal Agent, be declared immediately due and payable, whereupon it shall become immediately due and payable at its principal amount together with accrued interest without further action or formality. 9. PRESCRIPTION Claims for principal and interest upon redemption shall become void unless the relevant Note Certificates are presented for payment within ten years of the appropriate Relevant Date. 10. REPLACEMENT OF NOTE CERTIFICATES If any Note Certificate is lost, stolen, mutilated, defaced or destroyed, it may be replaced at the Specified Office of the Registrar, subject to all applicable laws and stock exchange requirements, upon payment by the claimant of the expenses incurred in connection with such replacement and on such terms as to evidence, security, indemnity and otherwise as the Issuer may reasonably require. Mutilated or defaced Notes Certificates must be surrendered before replacements will be issued. 11. AGENTS In acting under the Agency Agreement and in connection with the Notes, the Agents act solely as agents of the Issuer and do not assume any obligations towards or relationship of agency or trust for or with any of the Noteholders. 23 The initial Agents and their initial Specified Offices are listed below. The Issuer reserves the right at any time to vary or terminate the appointment of any Agent and to appoint a successor fiscal agent and/or registrar and additional or successor paying agents and/or transfer agents; provided, however, that the Issuer shall at all times maintain (a) a fiscal agent and a registrar (which may be the same entity), (b) a paying agent and a transfer agent (which may be the same entity as the fiscal agent and the registrar) having its Specified Office in London and (c), a paying agent in a member state of the European Union that will not be obliged to withhold or deduct tax pursuant to the European Council Directive 2003/48/EC or any law implementing or complying with, or introduced to conform to, such Directive. Notice of any change in any of the Agents or in their Specified Offices shall promptly be given to the Noteholders. 12. MEETINGS OF NOTEHOLDERS; MODIFICATION (a) Meetings of Noteholders: The Agency Agreement contains provisions for convening meetings of Noteholders to consider matters relating to the Notes, including the modification of any provision of these Conditions. Any such modification may be made if sanctioned by an Extraordinary Resolution. Such a meeting may be convened by the Issuer and shall be convened by it upon the request in writing of Noteholders holding not less than one-tenth of the aggregate principal amount of the outstanding Notes. The quorum at any meeting convened to vote on an Extraordinary Resolution will be two or more persons holding or representing one more than half of the aggregate principal amount of the outstanding Notes or, at any adjourned meeting, two or more persons being or representing Noteholders whatever the principal amount of the Notes held or represented; provided, however, that certain proposals (including any proposal to change any date fixed for payment of principal or interest in respect of the Notes, to reduce the amount of principal or interest payable on any date in respect of the Notes, to alter the method of calculating the amount of any payment in respect of the Notes or the date for any such payment, to change the currency of payments under the Notes or to change the quorum requirements relating to meetings or the majority required to pass an Extraordinary Resolution (each, a ‘‘Reserved Matter’’)) may only be sanctioned by an Extraordinary Resolution passed at a meeting of Noteholders at which two or more persons holding or representing not less than three-quarters or, at any adjourned meeting, one quarter of the aggregate principal amount of the outstanding Notes form a quorum. Any Extraordinary Resolution duly passed at any such meeting shall be binding on all the Noteholders, whether present or not. (b) Modification: The Notes and these Conditions may be amended without the consent of the Noteholders to correct a manifest error. In addition, the parties to the Agency Agreement may agree to modify any provision thereof, but the Issuer shall not agree, without the consent of the Noteholders, to any such modification unless it is of a formal, minor or technical nature, it is made to correct a manifest error or it is, in the opinion of such parties, not materially prejudicial to the interests of the Noteholders. 13. FURTHER ISSUES The Issuer may from time to time, without the consent of the Noteholders, create and issue further notes having the same terms and conditions as the Notes in all respects (or in all respects except for the first payment of interest) so as to form a single series with the Notes. 14. NOTICES Notices to the Noteholders will be sent to them by first class mail (or its equivalent) or (if posted to an overseas address) by airmail at their respective addresses on the Register. Any such notice shall be deemed to have been given on the fourth day after the date of mailing. 24 15. CURRENCY INDEMNITY If any sum due from the Issuer in respect of the Notes or any order or judgment given or made in relation thereto has to be converted from the currency (the ‘‘first currency’’) in which the same is payable under these Conditions or such order or judgment into another currency (the ‘‘second currency’’) for the purpose of (a) making or filing a claim or proof against the Issuer, (b) obtaining an order or judgment in any court or other tribunal or (c) enforcing any order or judgment given or made in relation to the Notes, the Issuer shall indemnify each Noteholder, on the written demand of such Noteholder addressed to the Issuer and delivered to the Issuer or to the Specified Office of the Fiscal Agent, against any loss suffered as a result of any discrepancy between (i) the rate of exchange used for such purpose to convert the sum in question from the first currency into the second currency and (ii) the rate or rates of exchange at which such Noteholder may in the ordinary course of business purchase the first currency with the second currency upon receipt of a sum paid to it in satisfaction, in whole or in part, of any such order, judgment, claim or proof. This indemnity constitutes a separate and independent obligation of the Issuer and shall give rise to a separate and independent cause of action. 16. GOVERNING LAW, JURISDICTION AND ARBITRATION (a) Governing law: The Notes and all matters arising from or connected with the Notes are governed by, and shall be construed in accordance with, English law. (b) Arbitration: The Issuer agrees that any dispute or difference of whatever nature howsoever arising under, out of or in connection with the Notes (including a dispute or difference as to the breach, existence or validity of the Notes) (each a ‘‘Dispute’’) involving a Noteholder shall, if the Noteholder so elects, be settled by arbitration in accordance with the provisions of this Condition 16(b). Any election by a Noteholder shall be made by written notice to the Issuer and, if court proceedings have already been started, must be made before the Noteholder takes any steps with regard to the substantive claim made in those proceedings. If a Dispute is to be settled by arbitration in accordance with this Condition 16(b), the arbitration shall be in accordance with the UNCITRAL Arbitration Rules (the ‘‘Rules’’) as at present in force by a panel of three arbitrators (or a sole arbitrator if the parties so agree) appointed in accordance with the Rules. The seat and place of any arbitration shall be London, England. The language of any arbitral proceedings shall be English. The appointing authority for the purposes set forth in Article 7(2) of the Rules shall be the London Court of International Arbitration. In absence of any written notice as contemplated by this Condition 16(b), the provisions of Condition 16(c), (d), (e) and (f) shall apply. (c) English courts: The courts of England have exclusive jurisdiction to settle any Dispute arising from or connected with the Notes. (d) Appropriate forum: The Issuer agrees that the courts of England are the most appropriate and convenient courts to settle any Dispute and, accordingly, that it will not argue to the contrary. (e) Rights of the Noteholders to take proceedings outside England: Condition 16(c) (English courts) is for the benefit of the Noteholders only. As a result, nothing in this Condition 16 (Governing law and jurisdiction) prevents any Noteholder from taking proceedings relating to a Dispute (‘‘Proceedings’’) in any other courts with jurisdiction. To the extent allowed by law, Noteholders may take concurrent Proceedings in any number of jurisdictions. (f) Process agent: The Issuer agrees that the documents which start any Proceedings and any other documents required to be served in relation to those Proceedings may be served on it by being delivered to Oury Clark Solicitors at 10 John Street, London WC1N 2EB or, if different, its registered office for the time being or at any address of the Issuer in Great Britain at which process may be served on it in accordance with Part XXIII of the Companies Act 1985. If such person is not or ceases to be effectively appointed to accept service of process on behalf of the Issuer, the Issuer shall, on the written demand of any Noteholder addressed to the Issuer and delivered to the Issuer or to the Specified Office of the Fiscal Agent appoint a further person in England to accept service of process on its behalf and, failing such appointment within 15 days, any Noteholder shall be entitled to appoint such a person by written notice addressed to the Issuer and delivered to the 25 Issuer or to the Specified Office of the Fiscal Agent. Nothing in this paragraph shall affect the right of any Noteholder to serve process in any other manner permitted by law. This Condition applies to Proceedings in England. There will appear at the foot of the Conditions endorsed on or (as the case may be) attached to the Global Note Certificate the names and Specified Offices of the Agents as set out at the end of this Prospectus. 26 SUMMARY OF PROVISIONS RELATING TO THE NOTES IN GLOBAL FORM The Notes will be represented by a Global Note Certificate which will be registered in the name of Chase Nominees Limited as nominee for, and deposited with, a common depositary for Euroclear and Clearstream, Luxembourg. The Global Note Certificate will become exchangeable in whole, but not in part, for Individual Note Certificates (‘‘Individual Note Certificates’’) if (a) Euroclear or Clearstream, Luxembourg is closed for business for a continuous period of 14 days (other than by reason of legal holidays) or announces an intention permanently to cease business or (b) any of the circumstances described in Condition 8 (Events of Default) occurs. Whenever the Global Note Certificate is to be exchanged for Individual Note Certificates, such Individual Note Certificates will be issued in an aggregate principal amount equal to the principal amount of the Global Note Certificate within five business days of the delivery by or on behalf of the registered holder of the Global Note Certificate, Euroclear and/or Clearstream, Luxembourg to the Registrar of such information as is required to complete and deliver such Individual Note Certificates (including, without limitation, the names and addresses of the persons in whose names the Individual Note Certificates are to be registered and the principal amount of each such person’s holding) against the surrender of the Global Note Certificate at the Specified Office of the Registrar. Such exchange will be effected in accordance with the provisions of the Agency Agreement and the regulations concerning the transfer and registration of Notes scheduled thereto and, in particular, shall be effected without charge to any holder, but against such indemnity as the Registrar may require in respect of any tax or other duty of whatsoever nature which may be levied or imposed in connection with such exchange. If: (a) Individual Note Certificates have not been issued and delivered by 5.00 p.m. (London time) on the thirtieth day after the date on which the same are due to be issued and delivered in accordance with the terms of the Global Note Certificate; or (b) any of the Notes evidenced by the Global Note Certificate has become due and payable in accordance with the Conditions or the date for final redemption of the Notes has occurred and, in either case, payment in full of the amount of principal falling due with all accrued interest thereon has not been made to the Holder of the Global Note Certificate on the due date for payment in accordance with the terms of the Global Note Certificate, then the Global Note Certificate (including the obligation to deliver Individual Note Certificates) will become void at 5.00 p.m. (London time) on such thirtieth day (in the case of (a) above) or at 5.00 p.m. (London time) on such due date (in the case of (b) above) and the Holder will have no further rights thereunder (but without prejudice to the rights which the Holder or others may have under the deed of covenant dated 5 May 2006, (the ‘‘Deed of Covenant’’)). Under the Deed of Covenant, persons shown in the records of Euroclear and/or Clearstream, Luxembourg as being entitled to interests in the Notes will acquire directly against the Issuer all those rights to which they would have been entitled if, immediately before the Global Note Certificate became void, they had been the registered Holders of Notes in an aggregate principal amount equal to the principal amount of Notes they were shown as holding in the records of Euroclear and/or (as the case may be) Clearstream, Luxembourg. In addition, the Global Note Certificate will contain provisions which modify the Terms and Conditions of the Notes as they apply to the Notes evidenced by the Global Note Certificate. The following is a summary of certain of those provisions: Notices: Notwithstanding Condition 14 (Notices), so long as the Global Note Certificate is held on behalf of a common depositary for Euroclear and Clearstream, Luxembourg, notices to Noteholders represented by the Global Note Certificate may be given by delivery of the relevant notice to Euroclear and Clearstream, Luxembourg and, in any case, such notices shall be deemed to have been given to the Noteholders in accordance with Condition 14 (Notices) on the date of delivery to Euroclear and Clearstream, Luxembourg. Denominations and minimum trading amount: The Notes are in the denomination of EUR 50,000 and integral multiples of EUR 1,000 in excess thereof. For so long as the Notes are represented by a Global Note and the relevant clearing system(s) so permit, the Notes shall be tradable in such denominations, subject always to the minimum denomination and trading amount of EUR 50,000. Individual Note Certificates (if issued) will be printed in denominations of EUR 50,000 and integral multiples of EUR 1,000 in excess thereof. 27 EXCHANGE RATE INFORMATION The following table sets forth, for the periods and dates indicated, certain information regarding the Midpoint Rate for Latvian Lats, expressed in euros per Lat. The term ‘‘Midpoint Rate’’ means the rate fixed by the National Bank of Latvia on the relevant date. The inclusion of such translations is not intended to suggest that the Lat amounts actually represent such euro amounts or that such amounts could have been converted into euro at such rate or any other rate. Since 1 January 2005 the Lat has been pegged to the euro at a rate of LVL 1: Euro 1.42287. The Bank of Latvia has committed that the market rate of the Lat will not differ more than plus 1% or minus 1% from the peg rate. The following table sets forth historical lat/euro exchange rates for the periods indicated. Exchange rate at end of period Average exchange rate during period* Highest exchange rate during period Lowest exchange rate during period 2005 (LVL/EUR) 0.703 0.703 0.703 0.703 Year ended 31 December 2004 2003 (LVL/EUR) (LVL/EUR) 0.703 0.674 0.671 0.645 0.703 0.674 0.652 0.614 2002 (LVL/EUR) 0.610 0.583 0.611 0.555 Source: National Bank of Latvia * The average of the Midpoint Rate as published by the National Bank of Latvia on the last business day of each month during the applicable period. 28 USE OF PROCEEDS The Net Proceeds of the issue of the Notes, expected to amount to Euro 198,880,000 (before expenses), will be used by the Issuer for general corporate purposes which include making a profit. The total expenses relating to the admission to listing and trading are estimated to be approximately Euro 9,706. 29 FINANCIAL REVIEW The following discussion should be read in conjunction with the Bank’s consolidated and separate financial statements included elsewhere in this document (the ‘‘Financial Statements’’). Unless otherwise specified, the financial data discussed below have been extracted without material adjustment from the consolidated financial statements which have been prepared in accordance with IFRS. References in this financial review to ‘‘2004’’ and ‘‘2005’’ and other years are, unless otherwise stated, to the 12 months ended 31st December in each of those years and references to ‘‘average balances’’ are references to the average of amounts at the start and end of each year. As a result of rounding, the totals stated in the tables below may not be an exact arithmetical sum of the numbers in respect of which they are expressed to be a total. Overview According to data prepared by the Association of Latvian Commercial Banks, the Bank is the largest commercial bank in Latvia in terms of customer deposits and the third largest in terms of both total assets and of loans and advances to customers, which, at 31 December 2005, were LVL 1,252 million, LVL 1,757 million and LVL 811 million, respectively. As at 31 December 2005, according to the same source, the Bank had a 19.8% market share of customer deposits, a 16.3% market share of total assets and an 11.9% market share of loans and advances to customers in Latvia. The Bank is the parent company of a group of companies comprising 25 consolidated and one non-consolidated subsidiary at 31 December 2005. Details of the Bank’s subsidiaries are set out in note 20 to the Financial Statements. The Bank conducts banking business in Latvia and, to a limited extent, elsewhere through its branch network. Other Group companies conduct a banking business in Lithuania, leasing businesses in Latvia, Lithuania, Estonia and a range of countries in the Commonwealth of Independent States (the ‘‘CIS’’) and asset management businesses in Latvia, Russia and the Ukraine. As at 31 December 2005, 91.7% of the Group’s gross interest and commission and fee income and 92.8% of its profit before tax (including intra-group transactions) was earned by the Bank and its subsidiaries in Latvia; see also note 39 to the Financial Statements. The principal revenue earning activities of the Group comprise lending (including leasing, which generates both interest and commission income), customer service (including the provision of plastic cards, effecting payment transfers and a range of other services) which principally generate commissions and fees and investing in and trading fixed income securities (which generates both interest income and trading profits) and foreign exchange trading (which generates trading profits). As at 31 December 2005, the Group had total assets of LVL 1,842.3 billion, total net loans and advances to customers of LVL 879.3 million and total deposits from customers of LVL 1,317.9 million. For the year ended 31 December 2005, the Group had net operating income of LVL 89.8 million. A prudent approach to risk management and the ability to take advantage of market opportunities helped the Group to achieve its ninth consecutive year of record profits which, in 2005, amounted to LVL 33.2 million, 102% higher than the profits for the previous year. As a result, the Group’s shareholders’ equity reached LVL 158.1 million as at 31 December 2005. The Group’s return on average assets for 2005 was 2.03% and its return on average equity was 23.35% in that year (compared with 1.32% and 14.03%, respectively in 2004). The Group’s net interest margin remained stable at 3.04% in 2005. The Group’s net operating income is principally derived from three sources: net interest income, net commission and fee income and net profit from trading. The table below sets out certain information in relation to these components of the Group’s consolidated net income for each of the years indicated. Year ended 31 December Net interest income Net commission and fee income Net profit from trading Other operating income Total net operating income 2005 (LVL millions) 46.5 25.7 15.5 2.1 89.8 30 (% of total) 51.8 28.6 17.3 2.3 100.0 2004 (LVL millions) 38.7 18.8 13.2 1.9 72.6 (% of total) 53.3 25.9 18.2 2.6 100.0 Significant Factors Affecting Results of Operations Adoption of IFRS 3 and IAS 27 In 2005, the Group adopted IFRS 3 ‘‘Business Combinations’’ and IAS 27 ‘‘Consolidated and Separate Financial Statements’’, each of which had a substantial effect on the Group’s accounting policies. As a result of the adoption of IFRS 3 (and related IAS 36 and IAS 38), the Group ceased amortising goodwill from 1 January 2005 (previously goodwill had been amortised on a straight-line basis) and eliminated the accumulated amortisation at 31 December 2004 with a corresponding decrease in the cost of goodwill. As a result of the adoption of IAS 27, with effect from 1 January 2005 investments in subsidiaries ceased to be accounted for under the equity method and retained earnings of subsidiaries were reversed to equity. As a result, the net book value of investments in subsidiaries and comparative figures were restated. The table below shows the effects of the adoption of these two standards on the Bank’s non-consolidated financial statements at 31 December 2004. 31 December 2004 As reported Restatements Restated (LVL thousands) Balance Sheet Investment into subsidiaries 18,369 190 18,559 Intangible assets 3,318 (1,404) 1,914 Total shareholders’ equity Fair value revaluation reserve Unappropriated retained earnings Net profit for the year (3,867) (28,334) (16,452) 150 (284) 1,348 (3,717) (28,618) (15,104) Statement of Income Net result Depreciation and amortisation expense Profit from investments in subsidiaries (16,452) 5,841 (1,609) 1,348 (261) 1,609 (15,104) 5,580 — The Group expects that it will apply IFRS 7 ‘‘Financial Instruments: Disclosures’’ and IAS 1 amendment ‘‘Capital Disclosures’’ with effect from 1 January 2007 and that this will affect the presentation of its financial statements for 2007 onwards, see note 2 to the Financial Statements. Critical Accounting Policies Certain accounting policies for the Group’s business involve management estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses and disclosure of contingencies. The most important of these accounting policies are discussed below. For more information on the Group’s accounting policies and the use of estimates in the preparation of the Financial Statements, see note 2 (and, in particular, 2(w)) to the Financial Statements. Loan impairment All loans and advances are recognised when advanced and measured at amortised cost using the effective interest method. Allowances for loan impairment are established (i) in relation to individual loans if there is objective evidence that the Group will not be able to collect the amounts due according to the original contractual terms and (ii) at a portfolio level as described below. The amount of the allowance in (i) above is the difference between the carrying amount and the estimated recoverable amount, calculated as the present value of expected cash flows, including amounts recoverable from guarantees and collateral, discounted based on the instrument’s effective interest rate at inception. The allowance in (ii) above is estimated based upon historical patterns of losses in the loan portfolio but also takes account of credit concentrations, changes in collateral values, current economic conditions and general market or operating events that have occurred which might negatively impact future cash flows but do not, in themselves, give rise to a quantifiable specific allowance under (i) above. The determination of the allowance for loan impairment may involve a significant amount of management discretion. When a loan is uncollectable, it is written off against the related allowance for impairment. Such loans are written off after all the necessary legal procedures have been completed and the amount of the loss has been determined. Recoveries of amounts previously written off are treated as income to the extent that the carrying value of the asset does not exceed its amortised cost at the date of the reversal. 31 Results of Operations for the years ended 31 December 2005 and 2004 Net Interest Income The following table sets out the Group’s consolidated interest income, interest expense and the resulting net interest income for each of the years indicated. Year ended 31 December 2005 2004 (LVL millions) 78.9 58.5 (32.4) (19.8) 46.5 38.7 Interest income Interest expense Net interest income Variation 2005/2004 (%) 34.9 63.6 20.2 Interest Income The following table sets out the principal components of the Group’s consolidated interest income for each of the years indicated. Interest on balances due from credit institutions and central banks Interest on loans and advances to customers Interest on fixed income securities Interest on other financial instruments Total interest income Year ended 31 December Variation 2005 2004 (LVL millions) 2005/2004 (%) 5.8 51.6 19.7 1.8 78.9 3.6 37.0 17.7 0.3 58.6 61.1 39.5 11.3 500.0 34.9 The Group principally derives interest income from loans and advances which it makes to its customers and from its investments in fixed income securities. Together, these two sources accounted for 90.4% of the Group’s total interest income in 2005 compared to 93.3% in 2004. Interest income increased in 2005 by LVL 20.4 million, or 34.9%, as compared to 2004. This increase was principally due to an increase in interest income from loans and advances to customers principally reflecting the increase in the loans portfolio during the period. The average balance of net loans and advances to customers in 2005 was LVL 785.5 million compared to LVL 583.6 million in 2004, an increase of 34.6%. The average rate of interest earned on the portfolio was 6.6% in 2005 compared to 6.4% in 2004. Interest income on fixed income securities increased by 11.3% from 2004 to 2005 principally reflecting an increase in the size of the portfolio during the period. The average size of the fixed income portfolio was LVL 365.4 million in 2005 compared to LVL 323.3 million in 2004, an increase of 13.0%. The average rate of interest earned on the portfolio was 5.4% in 2005 compared to 5.5% in 2004. Interest Expense The following table sets out the principal components of the Group’s consolidated interest expense for each of the years indicated. Interest on balances due to credit institutions and central banks Interest on deposits from customers Interest on issued debt securities Interest on other financial instruments Total interest income Year ended 31 December 2005 2004 (LVL millions) (4.9) (2.8) (24.1) (15.2) (1.9) — (1.5) (1.8) (32.4) (19.8) Variation 2005/2004 (%) 75.0 58.6 — (20.0) 63.6 The Group principally pays interest on deposits made by its customers. This source accounted for 74.4% of the Group’s total interest expense in 2005 compared to 76.8% in 2004. In 2005, the Group issued interest bearing securities which contributed to the slight decline indicated above. Interest expense increased in 2005 by LVL 12.6 million, or 63.6%, compared to 2004. This increase was principally due to an increase in interest expense on customer deposits reflecting an increase in deposits during 32 the period and an increase in interest rates paid. The average balance of customer deposits in 2005 was LVL 1,211.7 million compared to LVL 970.6 million in 2004, an increase of 24.8%. The average rate of interest paid on customer deposits was 2.0% in 2005 compared to 1.6% in 2004. Interest expense also increased as a result of the debt securities issued by the Bank in March and June 2005. The Bank anticipates that this source of interest expense will increase further in 2006 reflecting both a full year’s interest paid on securities issued in 2005 as well as the interest expense incurred on securities (including the Notes) issued during 2006. Net Interest Income and Interest Margin The Group’s net interest income in 2005 increased by 20.2% to LVL 46.5 million from LVL 38.7 million in 2004. The Group’s net interest margin (defined as net interest income divided by the average of total interest earning assets) was 3.04% in 2005 as compared to 3.38% in 2004. The Group’s interest spread (defined as the difference between the rate of interest earned on average interest earning assets and the rate of interest paid on average interest bearing liabilities) was 2.92% in 2005 compared to 3.31% in 2004. Net Commission and Fee Income The following table sets out the Group’s consolidated commission and fee income, commission and fee expense and the resulting net commission and fee income for each of the years indicated. Year ended 31 December 2005 2004 (LVL millions) 32.5 23.9 (6.8) (5.1) 25.7 18.8 Commission and fee income Commission and fee expense Net commission and fee income Variation 2005/2004 (%) 36.0 33.3 36.7 Commission and Fee Income The following table sets out the principal components of the Group’s consolidated commission and fee income for the years indicated. Year ended 31 December 2005 2004 (LVL millions) 11.1 8.9 9.5 8.2 3.1 2.0 2.9 — 2.5 1.6 1.1 1.1 0.9 0.8 0.7 0.4 0.4 0.3 0.3 0.4 32.5 23.7 Transactions with settlement cards Payment transfer fees Review of loan applications and collateral evaluation Financial consulting fees Securities Cash disbursement/transaction commission Service fee for account maintenance Letters of credit and guarantees Cash collection Other Total commission and fee income Variation 2005/2004 (%) 24.7 15.9 55.0 — 56.3 — 12.5 75.0 33.3 (25.0) 37.1 The Group derives commission and fee income principally from transactions made using debit and credit cards issued by it and from fees charged for payment transfers. In relation to its plastic cards, the principal revenue items are annual fees, ATM withdrawal charges and foreign exchange charges together with commissions received from merchants with whom the cards are used. Payment transfers generate commission and fee income principally through the charges levied for effecting money transfers as well as from fees received by the Group for maintaining third party correspondent accounts. Together, these two sources accounted for 63.4% of the Group’s total commission and fee income in 2005 compared to 71.5% in 2004. Other significant sources of commission income in 2005 were loan fees (charged on the grant of a loan and including fees for collateral valuation where applicable) which include the Group’s fees earned from investment banking activities such as loan syndication and securities underwriting; financial consulting fees (being the fees charged by it for arranging finance for third parties as part of its investment banking activities); and brokerage fees for trading securities on behalf of its clients (referred to as Securities in the table above and including fees earned by PAM, 33 see ‘‘Description of the Group – Core Business – Asset Management’’). These sources accounted for 9.5%, 8.9% and 7.7%, respectively, of total commission and fee income in 2005. Commission and fee income from card transactions increased by 24.7% in 2005 from LVL 8.9 million in 2004 to LVL 11.1 million in 2005. This increase reflected an increase in the number of cards issued by the Group (the average number of cards issued by the Group was approximately 489,300 in 2005 compared to approximately 359,700 in 2004) and the marketing efforts undertaken by the Group to promote the use of its cards. Commission and fee income from payment transfers increased by 15.9% in 2005 from LVL 8.2 million in 2004 to LVL 9.5 million in 2005. This increase principally reflected increased volumes of business. The increase in loan fees is principally attributable to the increase in the loan portfolio referred to above as commission rates generally declined slightly over the period. Financial consulting fees charged in 2005 related to a one-off transaction and income from securities increased as a result of increased client trading. Commission and Fee Expense The following table sets out the principal components of the Group’s consolidated commission and fee expense for the years indicated. Year ended 31 December 2005 2004 (LVL millions) (3.6) (2.5) (2.1) (2.0) (1.0) (0.6) (6.7) (5.1) Fees related to settlement card operations Fees related to correspondent accounts Brokerage and custodian fees Total commission and fee expense Variation 2005/2004 (%) 44.0 5.0 66.7 31.3 The Group pays a range of fees in connection with the cards issued by it, including fees to card settlement organisations and other banks whose ATMs and point of sale terminals have been used by the Group’s customers, to banks with which it holds correspondent accounts and to brokers and custodians who trade and hold securities on its behalf. The principal cause of the increase in its commission and fee expense in 2005 was increased fees paid in respect of its plastic cards reflecting the increased amount of transactions made using cards issued by the Group. Net Profit from Trading Activities The following table sets out the principal components of the Group’s net profit from trading for each of the years indicated. Profit from trading and revaluation of trading securities Profit from sale of available for sale securities Profit from foreign exchange trading and revaluation of open positions (Loss) on trading and revaluation of other financial instruments Total net profit on trading activities Year ended 31 December 2005 2004 (LVL millions) 3.6 1.5 4.3 5.6 8.7 (1.1) 15.5 6.5 (0.4) 13.2 Variation 2005/2004 (%) 140.0 (23.2) 33.8 175.0 17.4 The Group’s trading profits are principally derived from transactions involving its securities portfolio and foreign exchange trading. Net profit is derived from securities transactions both through the sale of trading and available for sale securities and through the marking to market of securities in the trading portfolio. Although securities in the available for sale portfolio are also marked to market, the result is (pending any sale of the securities) recognised in equity as a fair value revaluation reserve, see note 2(j) to the Financial Statements. The Group’s trading portfolio of fixed income securities, which constitutes its proprietary trading portfolio, was LVL 24.2 million at 31 December 2005. The Group also has small portfolios of non fixed income trading securities, although these are not actively traded. See ‘‘Financial Condition as at 31 December 2005 and 2004 — Securities’’ below. The Group uses its available for sale portfolio principally to manage its liquidity risk in relation to its loan portfolio which generally has longer-term maturities than its customer deposits, which are the principal funding source of the loans and advances made by the Group. In 2005, net profit derived from the 34 trading portfolio increased by 140.0% compared with 2004 to LVL 3.6 million, reflecting profits made when securities in the portfolio are traded as well as the marking to market of the trading securities portfolio. By contrast, net profit derived from the available for sale portfolio in 2005 decreased by 23.2% compared with 2004. This represents losses made on trading, although, as indicated above, trading in this portfolio is principally undertaken as part of the Group’s liquidity risk management. Net profit derived from foreign exchange transactions increased by 33.8% in 2005 when compared to 2004, reflecting increased business volumes. Other Operating Income The Group’s other operating income principally comprises penalty interest paid on overdue loans and advances and card balances as well as penalties levied on early termination of fixed term deposits. Operating Expenses The following table sets forth the principal components of the Group’s consolidated operating expenses for the years indicated. Year ended 31 December 2005 2004 (LVL millions) (24.8) (20.7) (6.3) (6.3) (23.7) (18.5) (54.8) (45.5) Personnel expense Depreciation and amortisation expense Other Total operating expenses Variation 2005/2004 (%) 19.8 — 28.1 20.4 As a percentage of net operating income, the Group’s operating expenses were 61.1% in 2005 and 62.7% in 2004. The Group’s operating expenses principally comprise personnel expense and depreciation and amortisation expense which together accounted for 56.8% and 59.3% of its total operating expense in 2005 and 2004, respectively. The Group incurs a range of other operating expenses, none of which are individually significant, which are detailed in note 8 to the Financial Statements. Personnel Expense Personnel expense increased by LVL 4.1 million, or 19.8%, in 2005 compared to 2004. This increase was primarily caused by an increase in the number of employees reflecting the growth of the Group’s branch network and the addition of new subsidiaries as well as salary increases. The Group employed an average of 2,438 staff during 2005 and an average of 2,216 during 2004, an increase of 10.0%. The personnel expense per average employee was LVL 10,172 in 2005 compared to LVL 9,341 in 2004, an increase of 8.9%. As a percentage of total operating costs, personnel expense was 45.3% in 2005 and 45.5% in 2004. Depreciation and Amortisation Expenses Depreciation and amortisation expenses remained constant during 2004 and 2005. As a percentage of total operating costs, depreciation and amortisation expenses were 11.5% in 2005 and 13.8% in 2004. Impairment The Group’s impairment change was LVL 2.7 million in 2005 and LVL 9.1 million in 2004. Financial assets principally comprise loans and advances to customers and fixed income securities. As a percentage of the total of these assets at the year end, the allowance for impairment decreased from 0.9% in 2004 to 0.2% in 2005 reflecting the Group’s historically prudent provisioning levels and the quality of the portfolio. In 2004, the Group released LVL 1.0 million of impairment previously charged to the income statement, reflecting unanticipated amounts recovered in respect of assets which had been provided for. In 2005, LVL 5.3 million of previously charged impairment was released. Taxation The Group’s total income tax increased to LVL 4.4 million in 2005 from LVL 2.2 million in 2004, reflecting the increase in its taxable profit over the two years. Corporate income tax in Latvia in both 2005 and 2004 was charged at a rate of 15%. The Group’s effective tax rate was 11.6% in 2005 and 11.8% in 2004. The Group’s 35 effective tax rate was below the Latvian corporate tax rate in each year reflecting tax deductible donations and other expenses made and incurred by the Group, see note 11 to the Financial Statements. Financial Condition as at 31 December 2005 and 2004 Total Assets As at 31 December 2005, the Group had total assets of LVL 1,842.3 million as compared to LVL 1,424.5 million at 31 December 2004. The increase at the end of 2005 principally reflected increases in loans and advances to customers, in fixed income securities and in cash and deposits with central banks. Cash and Deposits with Central Banks As at 31 December 2005, the Group had cash and deposits with central banks of LVL 144.1 million, including deposits with the Bank of Latvia of LVL 99.3 million. The corresponding numbers at the end of 2004 were LVL 70.8 million and LVL 34.4 million, respectively. During 2005, the Bank of Latvia increased its reserve requirements with a view to helping it manage inflation. At the same time, the Bank of Latvia began to pay interest on certain reserves deposited with it. The Group’s cash and deposits with central banks were 7.8% of its total assets at 31 December 2005 as compared to 5.0% at 31 December 2004. Loans and Advances to Customers As at 31 December 2005, the Group had loans and advances to customers of LVL 879.3 million as compared to LVL 691.7 million at 31 December 2004. The increase at the end of 2005 was mainly the result of an increase in available funding and generally strong demand for loans by the Group’s customers. As a percentage of total assets, loans and advances to customers were 47.7% at 31 December 2005 and 48.6% at 31 December 2004. Information on the Group’s loan portfolio is set out in ‘‘Lending and Selected Statistical Information’’ below. Securities As at 31 December 2005, the Group had fixed income securities of LVL 432.1 million as compared to LVL 298.8 million at 31 December 2004. The increase at the end of 2005 reflected the fact that as deposits grew faster than loans in 2005 the Group had correspondingly more cash to invest in its liquid fixed income securities portfolio. As a percentage of total assets, the Group’s fixed income securities portfolio was 23.5% at 31 December 2005 and 21.0% at 31 December 2004. Information on the Group’s fixed income securities portfolio is set out in ‘‘Lending and Selected Statistical Information’’ below. As at 31 December 2005, the Group also held shares and other non-fixed income securities of LVL 30.5 million as compared to LVL 11.5 million at 31 December 2004. The table below shows certain information in relation to the Group’s securities as at the dates indicated. As at 31 December 2005 2004 (LVL millions) Fixed income securities Held for trading Available for sale Held to maturity Total fixed income securities(1) Equity securities Held for trading Available for sale Total equity securities Managed funds(2) Held for trading Available for sale Total managed funds Total equity securities and managed funds Total securities 24.2 342.5 68.0 434.7 17.9 245.3 42.7 305.9 15.2 0.1 15.3 4.1 0.1 4.2 15.1 0.1 15.2 30.5 465.2 7.3 — 7.3 11.5 317.4 Notes: (1) These numbers are gross numbers. Impairment allowances of LVL 2.6 million and LVL 7.1 million, respectively, were established at 31 December 2005 and 31 December 2004, respectively. (2) Managed funds represent the Group’s share in certain portfolios of fixed income securities and/or shares that are managed on behalf of investors. Investments in managed funds, where the Group does not possess sufficient information on the portfolios’ composition between fixed income securities and shares, are classified in the accounts as investments in shares and other non-fixed income securities. 36 Fixed income securities identified as ‘‘held for trading’’ in the above table represent the Group’s proprietary trading portfolio. Fixed income securities indicated as ‘‘available for sale’’ are principally used by the Group to hedge its liquidity risk in relation to its loan portfolio, see ‘‘Results of operations for the years ended 31 December 2005 and 2004 – Net profit from trading activities’’ above. Balances Due from Credit Institutions The Group’s interbank lending was LVL 312.6 million at 31 December 2005 and LVL 312.9 million at 31 December 2004. As a percentage of total assets, interbank lending was 17.0% at 31 December 2005 and 22.0% at 31 December 2004. Total Liabilities As at 31 December 2005, the Group had total liabilities of LVL 1,684.2 million as compared to LVL 1,298.1 million at 31 December 2004. The increase at the end of 2005 principally reflected increases in deposits from customers, in interbank borrowing and in securities issued. Deposits from Customers As at 31 December 2005, the Group had total deposits from customer of LVL 1,317.9 million as compared to LVL 1,105.6 million at 31 December 2004. This increase can principally be attributed to marketing campaigns designed to attract depositors and the competitive pricing offered by the Group. As a percentage of the Group’s total liabilities, deposits from customers were 78.3% as at 31 December 2005 and 85.2% at 31 December 2004. Information on the Group’s customer deposits is set out in ‘‘Funding and Liquidity’’ and ‘‘Lending and Selected Statistical Information’’ below. Balances due to Credit Institutions and Central Banks As at 31 December 2005, the Group had liabilities to other banks of LVL 263.0 million as compared to LVL 172.3 million at 31 December 2004. A significant portion of these amounts represents short-term syndicated loans made to the Bank, see ‘‘Funding and Liquidity’’ below. As a percentage of the Group’s total liabilities, liabilities to other banks were 15.6% at 31 December 2005 and 13.3% at 31 December 2004. Issued Debt Securities As at 31 December 2005, the Bank had debt securities in issue of LVL 74.1 million, see ‘‘Funding and Liquidity’’ below. No debt securities had been issued by it at 31 December 2004. As a percentage of the Group’s total liabilities, issued debt securities were 4.4% at 31 December 2005. Memorandum Items The Group’s memorandum items amounted to LVL 1,186.1 million at 31 December 2005 and principally comprise foreign exchange contracts, financial commitments, funds under trust management, derivative financial instruments and contingent liabilities. A breakdown of financial commitments (amounting to LVL 190.8 million at 31 December 2005) and contingent liabilities (amounting to LVL 21.1 million at the same date) is set out in note 30 to the Financial Statements. Note 30 to the Financial Statements also presents information on the notional amounts and fair values of the foreign exchange contracts and derivative financial instruments. Funds under trust management (principally assets managed by PAM for the Bank and Group’s customers) are described in note 31 to the Financial Statements. Funding and Liquidity Introduction The Group benefits from being one of the most stable financial services groups in the Baltic countries, evidenced by the fact that it has not recorded a loss in any financial year since it was established. Its reputation helps it to attract low cost funding from customer deposits. The Group’s funding base principally consists of customer deposits, which grew from LVL 1,106 million as at 31 December 2004 to LVL 1,318 million as at 31 December 2005. As at 31 December 2005, the Bank had a 19.8% market share of customer deposits in Latvia, according to data prepared by the Association of Latvian Commercial Banks. Customer deposits comprised 71.5% of the Group’s total liabilities and shareholders’ equity at 31 December 2005 compared to 77.6% at 31 December 2004. At 31 December 2005, 15.9% of total amounts owed to 37 customers comprised deposits of the Group’s ten largest corporate depositors. The Group’s own equity contributed 8.6% in total asset funding as at 31 December 2005. Related party deposits accounted for 3.3% of the Group’s total deposits at 31 December 2005, compared to 2.6% as at 31 December 2004. The debut issues of public notes in the domestic market and bonds in the international market accounted for 4.4% of the Group’s total funding at 31 December 2005. Statistical information on the Group’s customer deposits is set out under ‘‘Lending and Selected Statistical Information’’ below. Sources of Funds The following table shows the Group’s sources of funds as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL millions 263 172 1,318 1,106 74 — 29 20 1,684 1,298 158 126 1,842 1,424 Balances due to credit institutions Deposits from customers Issued debt securities Other liabilities Total liabilities Shareholders’ equity Total liabilities and shareholders’ equity The Bank has entered into financings with credit institutions and central banks including syndicated loans. As at 31 December 2005, loans from credit institutions and central banks to the Bank comprised 14.3% (12.1% at 31 December 2004) of the Group’s total liabilities and shareholders’ equity. Since 1998, the Bank has entered into eight syndicated loans in the international markets, of which two remain outstanding. The two outstanding loans were entered into in July 2005, in an amount of EUR 188,500,000, and in March 2006, in an amount of EUR 200,000,000. The Bank is using these loans to develop its business and to finance the growth of its loan portfolio. In March 2005, the Bank completed its first public offering of notes in the domestic market. All the securities offered were sold and the total volume issued was LVL 5 million. The securities are listed on Riga Stock Exchange. In June 2005, the Bank issued its first bonds in the international market. The issue raised EUR 100 million with a three-year maturity at an interest rate of 4.375%. Capital Adequacy FCMC regulations require Latvian banks to maintain a capital adequacy ratio based on financial statements prepared to Latvian accounting standards at 8% of risk-weighted assets. Since the Bank has subsidiaries which are financial institutions, it must comply with the regulatory requirements based on both the Group’s consolidated financial statements and the Bank’s financial statements as a stand-alone entity. As at 31 December 2005, the Group’s capital adequacy ratio calculated in accordance with the FCMC requirements was 11.1% (compared with 11.9% at 31 December 2004). At the same time, the Bank’s capital adequacy ratio without taking into account the Bank’s investments in subsidiaries and calculated in accordance with the FCMC requirements was 11.7% (compared with 12.5% at 31 December 2004). As at 31 December 2005, the Group’s capital adequacy ratio calculated according to Basle Committee guidelines was 11.7% (compared with 12.2% at 31 December 2004) and the Bank’s capital adequacy ratio calculated in the same manner but without taking into account its investments in subsidiaries was 12.2% (compared with 12.8% at 31 December 2004). The minimum capital adequacy ratio recommended by the Basle Committee guidelines is 8%. 38 The following table sets out capital adequacy information for the Group calculated according to the Basle Committee guidelines at the dates indicated: 31 December 2005 2004 2003 LVL millions, except percentages 154 121 100 8 7 8 162 129 108 111 84 64 11.1% 11.5% 12.6% 11.7% 12.2% 13.6% Tier I Capital Tier II Capital Tier I + Tier II Capital Total Capital charges Tier I Capital Adequacy Ratio1 Tier I + Tier II Capital Adequacy Ratio1 1 Capital/Capital charges * 8% Risk Management Credit Risk Credit risk is the risk that a counterparty may be unwilling or unable to meet its contractual obligations to the Group, thus causing loss to the Group. The Bank manages the level of credit risk which the Group undertakes by setting limits for portfolios, individual counterparties or groups of related counterparties as well as country or other geographical limits. The limits for portfolios are established by the asset and liability committee (‘‘ALCO’’), which also sets the Bank’s base interest rate, whereas limits for individual counterparties or groups of related counterparties are set by the risk management committee. The adequacy of all the limits established is monitored by the Bank’s risk management committee on a weekly basis. Daily monitoring of limit compliance is undertaken by the Bank’s back office department. Credit risk management is the overriding principle of the Bank’s lending practice. A brief outline of the Bank’s lending practice is set out under ‘‘Lending and Selected Statistical Information’’ below. Asset and Liability Management and Treasury Risk Policies The Supervisory Board decides upon the asset/liability management policies for the Bank. The treasury department realises exposure management, while the risk management department monitors adherence to the policy and risk management principles, in addition to providing ALCO with recommendations and risk analysis. ALCO is responsible for establishing limits in order to manage liquidity risk, currency risk and interest rate risk. Interest rate risk The effective and efficient management of interest rate risk is important to the Group and is monitored by ALCO, Interest rate risk principally affects the Group’s securities portfolio. In this respect, the Group analyses and seeks to balance both interest rate ‘‘repricing’’ risk and interest rate ‘‘cash flow’’ risk. Repricing risk is the effect of interest rate fluctuations on its profit and loss account and revaluation reserve through its trading and available for sale portfolios, respectively, whilst cash flow risk is the effect on the stability of its net interest income through reducing the maturity of securities in the portfolio. The Group’s interest rate exposure is monitored on a daily basis by the Bank’s treasury department and by ALCO on the basis of monthly reports covering loan duration, gap analysis and interest rate change scenario simulations to measure interest rate sensitivity. An interest rate repricing analysis of the Group’s assets and liabilities is set out in note 35 to the Financial Statements. If interest rates were to rise, the effect on the Group’s net interest income would be positive as approximately one-half of its assets are funded with non-interest bearing resources. However, the Group would experience a short-term negative impact on its profitability through marking to market its trading securities portfolio. In the case of a 1% increase in interest rates, management estimates that the loss incurred on the Group’s trading securities portfolio would be less than LVL 2 million. 39 Currency risk The treasury department manages the Group’s exposure to foreign exchange rate fluctuations in accordance with ALCO limits and, where appropriate, through the use of derivatives as hedging instruments. ALCO determines the limits for open positions in individual currencies as well as for total open positions. Specific trading limits and strategies are also set for each responsible foreign exchange dealer or dealer group. The Bank’s largest total open position limits are as follows: Limit (US$ million) 60 60 20 15 10 Currency LVL EUR USD GBP RUR Capital requirement 0% 1% 8% 8% 8% Latvian banking legislation requires that open positions in each foreign currency may not exceed 10% of the Bank’s equity (as calculated in accordance with FCMC regulations on capital adequacy for Tier I and II) and that the total foreign currency open position may not exceed 20% of equity. Since 1 January 2005, Latvia’s currency has been pegged to the euro and accordingly there are no limits on the open LVL/EUR position. The Bank is in compliance with the above requirements. An analysis of the Group’s exposure to foreign exchange risk is set out in note 36 to the Financial Statements. Liquidity risk Liquidity risk relates to the ability of the Group to meet its financial obligations when they fall due without incurring substantial losses. In order to manage its liquidity gap, the Group evaluates its volatile liabilities and seeks to ensure that they are matched by liquid assets (typically fixed income securities). Liabilities which are classified by the Group as volatile are significantly less than its demand deposits, reflecting the fact that many such deposits are held on a long-term basis. This gap between the Group’s liquid assets and volatile liabilities is constantly monitored. As at 31 December 2005, the Bank’s liquid assets accounted for 26.6% of its total assets. The Bank’s treasury department monitors its assets and liabilities and prepares weekly reports for ALCO on the Group’s liquidity position. The Group’s own requirements with respect to the classification of its assets and liabilities are more detailed than those set by the Bank of Latvia, particularly with regard to its securities portfolio and deposits from the public. The FCMC requires Latvian banks to maintain liquidity of not less than 30%. As at 31 December 2005, the Bank’s regulatory liquidity ratio was 53.9%. An analysis of the Group’s assets and liabilities by maturity is set out in note 34 to the Financial Statements. Asset diversification The Group follows a policy of diversification of its assets and off-balance positions by nature, country, industry sector and other risks with a view to managing the risks associated with asset concentration. 40 CAPITALISATION OF THE GROUP The following table sets out consolidated short-term liabilities, long-term liabilities and shareholders’ equity which make up the capitalisation and indebtedness of the Group as at 31 December 2004 and 2005, adjusted to give effect to the issue of the Notes, and is derived from the audited consolidated financial statements of the Group for the year ended 31 December 2005. 31 December 31 December 2005 2004 (in thousands (in thousands of LVL) of LVL) 1,576,681 1,278,867 256,789 171,690 1,294,988 1,089,087 24,904 18,090 247,689 19,227 6,207 560 22,936 16,484 4,351 2,183 74,070 — 140,125 — 158,079 126,374 65,027 65,027 12,694 12,694 2,358 3,867 78,000 44,786 1,982,449 1,424,468 Short-term liabilities Balances due to credit institutions and central banks Deposits from customers Other liabilities Long-term liabilities Balances due to credit institutions and central banks Deposits from customers Other liabilities Debt securities issued The Notes (now being issued) Shareholders’ equity (excluding minority interest) Paid-in share capital Share premium Reserves Retained earnings Total capitalisation and indebtedness Notes: 1. Capitalisation and indebtedness does not include minority interests. 2. 3. As at 31 December 2005, the Bank had contingent liabilities of LVL 21,115. As at 31 December 2005, none of the borrowings of the Bank were guaranteed or secured. 4. The Bank’s authorised and issued share capital consists of 65,027,295 ordinary shares with nominal value LVL 1 each. Of these, 60,633,439 have voting rights and 4,393,856 do not have voting rights. Apart from entering into a one-year syndicated loan in March 2006 in an amount of E 200 million and the repayment of a syndicated loan in an amount of E 69.5 million, there has been no material change in the capitalisation and indebtedness of the Bank since 31 December 2005. 5. 41 DESCRIPTION OF THE GROUP HISTORY The Bank was established by its two founder shareholders (see ‘‘Ownership and Capital Structure’’) on 14 May 1992 for an unlimited duration as a joint stock company under Latvian law. Having received its banking licence, the Bank commenced operations in June 1992. The Bank’s registered number is 40003074590 and its registered office is located at Smilšu Street 3, Riga LV-1522, Latvia, which is also its headquarters. The Bank’s telephone number is +371 701 0000. As at 31 December 2005, the Bank had a total of 25 consolidated subsidiaries and one non-consolidated subsidiary that operate in various financial sectors. Set out below is a description of certain significant dates in the Group’s history: 1992 The Bank was registered on 14 May 1992 as one of the first commercial banks in Latvia. 1995 The Bank survived the Central and Eastern European (‘‘CEE’’) banking crisis which caused the closure of less stable banks. 1998 The Bank opened a representative office in Frankfurt and established two subsidiaries, a pension fund subsidiary called AS Parekss atklatais pensiju fonds (‘‘Parex Pension Fund’’) and a customs brokerage subsidiary called SIA Parex Brokeru Sistema (‘‘Parex Broker System’’). 2000 The Bank completed its acquisition of Industrijos Bankas in Lithuania (now AB Parex Bankas (‘‘Parex Bankas’’)). 2001 The Bank opened a representative office in Tallinn in Estonia. 2002 The Bank established an asset management subsidiary called AS Parex Asset Management and the Bank opened a representative office in London. 2003 The Bank established a leasing subsidiary, now known as OU Parex Leasing & Factoring (‘‘Parex Leasing & Factoring’’), in Estonia and opened representative offices in Stockholm and Tokyo. 2004 The Bank opened its first branch in Estonia and acquired 100% of the shares of AP Anlage und Privatbank AG (‘‘AP Anlage & Privatbank’’) in Switzerland. 2005 The Bank opened a branch in Berlin in October. In November, AS Parex Asset Management and another subsidiary were merged to create, IPAS Parex Asset Management (‘‘PAM’’), a unified investment management company for the Group. 2006 The Group’s PAM Parex Eastern European Balanced Fund, its first fund sold in Western Europe, was registered for public distribution in Sweden. The Group has been recognised internationally with awards from various financial publications, including the international magazine Euromoney, which named the Bank the ‘‘Best Bank in Latvia’’ in 2001, 2002, 2003 and, most recently, in 2005. Another international magazine, Global Finance, named the Bank the ‘‘Best Foreign Exchange Bank in Latvia’’ in 2005 and 2006 and the ‘‘Best Bank in Latvia’’ in 2005 for the Bank’s success in the Emerging Markets banking sector. The Bank was also named the ‘‘Best Bank in Latvia’’ by the Banker Magazine in 2001, 2002 and 2004. GROUP’S STRUCTURE The Group is currently represented in 15 countries through operating subsidiaries or, in certain cases, representative offices. The Bank’s head office and three main branches are located in Riga, with regional branches in other Latvian cities. As at 31 December 2005, the Bank operated a total of 90 branches and customer service centres in Latvia serving more than 20,000 loan and finance lease customers and nearly 200,000 deposit customers. The Group has 14 branches and customer service centres covering all the major cities in Lithuania through Parex Bankas. The Bank also has branches in Tallinn and Berlin and 12 representative offices in 10 countries, as well as a subsidiary, Parex Group Representation Limited, in London which also acts as a representative office of the Bank. 42 The following chart provides brief information on the Bank’s principal subsidiaries and further information is contained in note 20 to the Financial Statements. GENERAL BUSINESS OVERVIEW Under its banking licence, the Bank is able to offer its retail and corporate customers in Latvia a range of banking services, including: r integrated account services, including foreign exchange and local currency demand and term deposit accounts and wire transfers; r lending services including mortgages, other loan and overdraft facilities, trade finance and project finance; r plastic card services, including debit and credit cards; r investment banking services, including corporate finance advisory and securities underwriting; and r capital market services including foreign exchange, equity and fixed income securities brokerage, margin trading and investment advisory. The Group also offers banking services in Lithuania (through Parex Bankas) and in Estonia and certain other countries through its branches, together with asset and pension fund management, leasing (including financial and operating leases and factoring), and customs brokerage and other services in Latvia and elsewhere through separate subsidiaries. Management believes that the Group’s key products from a profitability and growth perspective are mortgage loans, plastic cards and pension plans. The Group’s mortgage loan portfolio was LVL 345 million at 31 December 2005, 39% of its total loan portfolio at that date. The Group issues plastic cards in Latvia and Lithuania and, in 2004, concluded a five-year agreement with American Express allowing it the sole right to issue and distribute American Express credit cards in Latvia. By the end of 2005 and based on data provided by the 43 Latvian Central Depositary, PAM’s market share in second tier pension funds management in Latvia (as to which, see ‘‘Asset Management’’ below) exceeded 25%, further increasing its market leadership position when compared with the previous year. STRATEGY The Group aims to expand its market share to become a leading regional player in the Baltic countries (which it considers its home market) and to increase its profitability through the following strategies: 1. expanding and diversifying the range of commercial and investment banking products and services offered; 2. expanding and strengthening its pan-Baltic and international presence; 3. expanding its asset management activities; and 4. diversifying and strengthening its funding base. Each component of the strategy is discussed below: Expanding and diversifying the range of commercial and investment banking products and services offered The Group intends to continue to develop new products and to refine and improve the existing core banking products offered by it in order to address the specific needs of its retail and corporate clients in line with the increasing sophistication of, and access to, financial markets in the Baltic countries. In particular, the Group intends to focus on further improving its market position in retail lending and consumer finance in Latvia and the other Baltic countries through providing improved levels of customer service (see ‘‘Retail Banking’’ below) and a competitive product offering (based on a mix of pricing and quality) and through targeted marketing efforts. In addition, sales targets and motivation programmes have been introduced both for branch managers and tellers, focusing on key retail products such as loans, deposits, plastic cards and pension plans. In terms of new products, the Group intends to focus on its lending and deposit products and on investment products in particular. In the lending area, the Group has recently launched a mini-payment mortgage loan (which offers a longer maturity and therefore smaller monthly payments than has previously been available) and it intends to offer a new credit card product during Spring 2006 offering competitive usage terms. In relation to deposits, the Group is focussing on aggressive marketing campaigns highlighting the competitive pricing of its products as well as on developing innovative products such as deposits where the interest rate is linked to an underlying asset. In the investment product area, the immediate focus will be on 3rd tier pension plans and on the development of unit-linked life insurance products, see ‘‘Asset Management’’ below. In the corporate banking area, the Group intends to change its focus from selling particular products to a more client-centric approach. In this connection, the Group is integrating its client service and lending functions and will also introduce performance related remuneration for its corporate client service teams. Whereas previously the Group had focussed on the profitability of individual products now it intends to focus on particular client relationships which should result in better service to the client as, for example, it may become possible to offer individual clients discounted terms on particular products against volume business on other products. In relation to its investment banking activities, the Group’s strategy is to be a one-stop-shop for the investment banking needs of its local corporate and institutional customers by capitalising on its investment banking team’s local knowledge and the wide client base of the Group. The Group plans to expand its range of value added investment banking services for corporate clients by offering strategic advice in relation to mergers and acquisitions (‘‘M&A’’), company restructuring and corporate finance. In this connection it is currently working on a small number of M&A mandates and anticipates involvement in one or more initial public offerings later in 2006. In addition, the Group intends to increase its volumes in the regional structured finance, loan syndication, securities underwriting and project finance markets by leveraging its regional syndication and distribution expertise and offering competitive pricing terms. Expanding and strengthening its pan-Baltic and international presence The Group believes that it is well represented in Latvia. Although it believes that its Lithuanian subsidiaries’ branch and customer service centre network provides adequate coverage of the main business centres in that 44 country, it plans to add a number of new branches in Lithuania during 2006 as part of its strategy to expand its market position in retail lending and consumer finance in that country. In Estonia, where the Group currently only has a single branch in Tallinn, the Group’s strategy is initially to focus on corporate clients and quality service and its aim is to gain 15% of the corporate customer lending market by 2009. In the immediate future, the Group intends to increase the customer deposit base of the Estonian branch through focused marketing efforts, attractive pricing and cross-selling where possible with a view to supporting its lending operations, to launch plastic card operations in Estonia during 2006 and to open a second branch in Tallinn within the next few years. Outside the Baltic countries, management believes that potential growth opportunities exist in Eastern and Western Europe, in Russia and the Ukraine and, accordingly, plans to further reinforce the Group’s presence in each of those areas. The Group expects that it will initially establish a presence in new geographical markets through representative offices but that these may evolve into branches and subsidiaries over time. In addition, in order to capitalise on market opportunities and its knowledge of the CIS markets, during 2005 the Bank acquired a number of leasing companies operating in CIS countries, see ‘‘International Operations’’, and intends to focus on growing these businesses. Expanding its asset management activities PAM’s strategy is focused on providing asset allocation solutions to local clients of the Group and portfolio management and advisory services to its international clients seeking exposure to the CEE region. In particular PAM will focus on seeking to attract new customers from the European Union and on expanding its product and service range in its CEE markets. PAM has recently established a fund in Sweden (see ‘‘Asset Management’’) and intends to establish further funds and to target potential clients in Sweden and Germany who are interested in exposure to the CEE region. In relation to the CEE markets, PAM has recently established asset management companies in both Russia and the Ukraine and intends to focus on expanding the range of products and services offered by them and aggressively marketing its products and services to potential clients in these countries. Diversifying and strengthening its funding base The Group intends to continue to strengthen its regional funding base by attracting deposits from a wider range of small, medium and large corporate customers and retail clients through appropriate marketing and by offering attractive products and terms. In addition, the Group intends to continue to diversify its funding base through borrowing on the international capital markets by issuing debt securities and borrowing through syndicated bank facilities, see ‘‘Financial Review – Funding and Liquidity’’. CORE BUSINESS Financially, the Group’s income is broadly derived from three major sources: lending, customer service and securities and foreign exchange trading, see ‘‘Financial Review’’. Although the Bank does not currently prepare its consolidated accounts by reference to particular business segments, operationally it divides its principal activities broadly into corporate banking, retail banking, investment banking, asset management and treasury and brokerage operations (including capital markets services). Management of the Bank estimates that its corporate banking activities accounted for approximately 33 per cent. of Group’s net operating income in the year ended 31 December 2005 and its retail banking activities accounted for approximately 25 per cent. The balance is derived from the other activities carried on by the Group. Although currently small in terms of revenue generation, management regards the Group’s investment banking activities as a strategically important part of the business with potential for future growth. PAM, the Group’s asset management company, is the largest asset manager in the Baltic countries and had approximately LVL 585 million in assets under management at 31 December 2005, of which LVL 142 million are the Group’s client’s funds. Corporate banking In 2005, the Group’s target corporate client list expanded from the top 300 companies in Latvia to the top 3,000. Currently, Group companies provide services to nearly 30% of the top 300 Latvian enterprises. The Group offers its corporate customers a full range of financial services from current and term deposit accounts to project financing, lending and investment services. The Bank has established a dedicated team serving corporate clients within its corporate service department, which focuses on Latvian corporate customers having a monthly turnover on their account, or an account balance, of at least EUR 200,000. 45 The Group offers its corporate customers a range of credit products as well as other services including plastic cards and pension management. Credit products include investment loans, working capital loans (including credit lines, factoring and overdrafts), leasing facilities, letters of credit and guarantees. Details of the Group’s lending policies and its loans and advances to customers (including its corporate customers) are set out below under ‘‘Lending and Selected Statistical Information’’. The Group’s corporate internet banking solution, branded DIGI::FIRMA, was launched in 2003. By the end of 2005, the number of users of this platform exceeded 18,000 (21% more than the number at the end of 2004) and the number of payment transactions made through it during 2005 was in excess of 760,000 (33% more than in the previous year). The Group counts among its corporate customers a number of Latvian governmental institutions, including the State Treasury and the municipalities of Riga, Daugavpils and Jurmala, with whom it has established long-term relationships. The Bank’s private banking department, which is classified as part of the Group’s corporate banking activities, has offered high net worth customers in Latvia the full range of services offered by a universal bank and asset management company in a personalised and tailored manner since 2001. There are 13 client service specialists employed by the private banking department, up from seven at the end of 2004 reflecting a significant increase in business in this area. During 2005, the amount of clients’ funds serviced by the private banking department grew by more than 40%. Retail banking The Group offers its retail customers a range of services and products, including deposit taking, consumer lending (including mortgage lending and personal loans), plastic cards and pension products. These services are offered through the Group’s network of branches and customer service centres in Latvia, Lithuania and elsewhere, see ‘‘Group Structure’’ above. The Group also provides electronic banking services through its internet and telephone banking platforms and its network of automated telling machines (‘‘ATMs’’). Following the upgrade of its customer service centres in 2003 and 2004, the Group has started to focus on increasing its market share in all the major areas of retail business. Sales targets and motivation programmes have been introduced both for branch managers and tellers, focusing on key retail products such as loans, deposits, plastic cards and pension plans. During 2005, a separate human resources division was established with a view to ensuring improved recruitment, training, evaluation and motivation for the sales force, with a view, among other things, to improving the service provided to customers. In addition, the Group is continually upgrading its retail online banking platform, branded as Parex Internet Bank, with a view to expanding the number of active users and improving the functionality. Retail customers may apply for loans and plastic cards online as well as make deposits and execute trades in investment funds and equities. As at 31 December 2005, the Group had more than 115,000 active users of its retail internet banking service (compared with approximately 71,000 at the end of 2004) and processed nearly 560,000 retail transactions in the year ended 31 December 2005 over that platform (compared with 238,000 in 2004). The Bank also offers telephone banking, although this is not currently widely used. In November 2005, the Bank launched an SMS banking product which allows its Latvian retail customers to receive notifications about selected transactions and their account balances through their mobile telephones. The Bank has one of the largest ATM networks in Latvia with around 130 ATMs. In 2002, the Bank launched a joint ATM network together with the Latvian Savings Bank and the Baltic Trust Bank. This network was named Naudas Punkts 24 (Cash Point 24) and currently comprises more than 350 ATMs in Latvia. In addition, the Bank had 2,061 point of sale terminals at 31 December 2005. Plastic cards is perceived as a potential high-growth area for the Group, which issues both debit and credit cards in Latvia and Lithuania to retail and corporate customers, although operationally they are classified by the Group as a retail product. In 2005, transactions using plastic cards issued by the Group generated LVL 11.1 million gross revenue, which was 8.6% of the Group’s total gross revenue. The Group intends to increase plastic card issuance in Lithuania and to start issuing plastic cards in Estonia during 2006. However, almost all of the plastic cards issued by the Group to date have been issued by the Bank and, accordingly, the discussion below is limited to cards issued by the Bank. 46 In 1994, the Bank obtained a VISA and Europay license for the issuance of payment cards and was one of the first banks in Latvia to start issuing VISA and Eurocard/MasterCard. In 1997, the Bank began to issue Maestro cards. In 1998, the Bank started issuing VISA Classic virtual cards to enable customers to make payments over the Internet. In 1999, the Bank began to issue Cirrus cards. Also in 1999, the Bank was the first bank in Latvia to issue credit cards. During 2005, more than 140,000 cards were issued in Latvia by the Bank bringing the total issued by it at 31 December 2005 to 560,354 cards. During 2004, the Bank concluded an agreement with American Express giving it a five-year sole right to issue and distribute American Express credit cards in the Baltic countries. By the end of 2005, over 14,000 American Express Platinum, Gold and Blue credit cards had been issued by the Bank. The total amount spent using American Express credit cards issued by the Bank during 2005 exceeded LVL 8 million and the number of merchants accepting American Express cards increased 6 times. The table below shows the cumulative number of plastic cards by type issued by the Bank in the three years ended 31 December 2005. 2005 MasterCard VISA Virtual VISA/MC (Internet only) Maestro VISA Electron American Express Total number of issued cards 25,194 39,561 6,590 226,681 248,185 14,143 560,354 31 December 2004 23,476 27,130 4,968 200,223 162,542 — 418,339 2003 21,382 17,504 3,702 170,160 88,387 — 301,135 By helping to make plastic cards popular as a convenient instrument of payment for products and services, the Bank has significantly enlarged the amount spent using plastic cards issued by it. During 2005, this turnover increased by nearly 35%, exceeding LVL 460 million by the end of the year. The Bank aims to attract new personal and corporate cardholders through direct marketing to employers. The Bank is also actively working to educate its customers about the benefit of plastic cards through media and other promotional campaigns and has established a customer loyalty programme to promote its plastic cards in the Baltic countries. Investment banking The Group’s investment banking activities have to date principally included arranging and participating in syndicated loans and issues of debt securities for its corporate and institutional customers. The Group intends to expand these activities to include strategic advice in relation to M&A, company restructuring and other corporate finance transactions during 2006. During 2005, the Bank increased its participation in syndicated loans and its management of debt securities issues for local and regional entities and was involved in more than 28 transactions, with a total amount lent of more than US$2 billion. Included in these transactions were syndicated loans for Ukrsib (Ukraine) and Alliance (Kazakhstan) and eurobond issues for the City of Kiev and the Ministry of Finance of Belarus. The total amount lent by the Bank in syndicated loans was US$39 million as at 31 December 2005 (almost three times the amount at the end of 2004). The Group believes that it is well placed to benefit from the investment banking opportunities which it expects to arise as a result of the anticipated continued strong growth in the economies of the Baltic countries and increasing business volumes between Western and Eastern European companies, investors and governments. Management believes that this is an area where the Group has an advantage over its Nordic and German-based competitors through its existing market share and local knowledge and through the local market experience of its employees. Asset management The Group’s asset and pension fund management activities are principally carried on through its subsidiary, PAM, which provides investment management and advisory services to local and foreign high net worth individuals, corporations, mutual funds, pension funds, insurance companies, foundations and endowments. 47 Management of the Bank believes that PAM is the largest asset management company in the Baltic countries based on published assets under management with assets under management of approximately LVL 585 million at 31 December 2005. PAM has asset management subsidiaries in Lithuania, Russia and the Ukraine and employs more than 60 staff. PAM’s core expertise is in CEE and CIS fixed income debt securities, Baltic and Russian equities and Baltic real estate and it aims to offer in-house solutions for these regions and asset classes. PAM also manages most of the Group’s securities portfolio (although the Bank (through its treasury department) directs and approves investment strategies and asset placements), the investment portfolio of AS Parex Apdrosinasanas Kompanija (‘‘Parex Insurance Company’’) and the pension plans of Parex open pension fund. As at 31 December 2005, the total amount of the Group’s securities portfolio managed by PAM was LVL 441 million, including a LVL 29 million equity portfolio. This portfolio comprised 23.9% of the total assets of the Group and the interest received by the Group on the fixed income portfolio in 2005 amounted to LVL 19.7 million or 15.3% of the Group’s total gross revenue in that year. The Bank has entered into distribution arrangements with a number of international investment management companies permitting Group companies to offer products in geographical regions, asset classes and investment styles not covered by in-house products. Currently PAM distributes the products of Franklin Templeton, Aviva and the World Investment Opportunities Funds which are registered for public distribution in Latvia, as well as a range of hedge funds, which it distributes on a private placement basis. PAM is also responsible for managing seven Riga Stock Exchange listed domestic investment funds. These funds are also registered for public distribution in Lithuania. In 2004, the assets of these investment funds more than tripled and, during 2005, increased by 140%. Although there is no independently published industry data, at the end of 2005, PAM’s estimate of its market share of the investment funds market was 48% (or 89% if money market funds are excluded). In 2005, the returns on its investment funds ranged from 2.9% to 64.3%. PAM also manages its in-house hedge fund, Parex Global Opportunities Fund B.V. Pension fund management remains a major area of potential growth for the Group as management believes that Latvian pension assets under management will increase by up to 10 times by 2010. Although there is no independently published industry data, management believes that, at the end of 2005, Parex Pension Fund, the Bank’s pension fund subsidiary, was the second largest private open pension fund in the country by number of clients with an estimated market share in this respect in excess of one-third. The Bank’s market share (by number of customers) in second tier pension funds management increased from 20% in 2004 to 25% at the end of 2005 according to data provided by the Latvian Central Depositary. In Latvia, there are three tiers of pension funds: the first tier being State pensions funded by a certain percentage of social security contributions, the second tier being funded by a certain percentage of social security contributions and managed by State or private asset managers and the third tier being private pensions funded by voluntary contributions. In total, PAM managed more than LVL 20 million of pension fund savings at 31 December 2005. The Group’s investment funds and pension funds are distributed through its retail network, its private banking department and its Swiss subsidiary. In cooperation with AAS ‘‘Sampo dzviba’’ (‘‘Sampo Life’’), PAM was the first asset management company in Latvia to offer funds with unit-linked life insurance wrapping. Currently, in Latvia, such funds offer significant tax advantages to investors. In December 2005, PAM established its own life insurance subsidiary, AS Parex Dziviba (‘‘Parex Life’’) and this company is expected to be fully licensed and able to offer life insurance products to the Group’s corporate and retail customers by mid-2006. Outside of Latvia, PAM currently has asset management subsidiaries operating in Lithuania, the Ukraine and Russia. The Lithuanian company, which was licensed to commence business in 2004, currently manages one equity fund, two second tier pension plans and one third tier pension plan. The Ukrainian company was also licensed in 2004 and currently manages fixed income, balanced and real estate investment funds and a private pension fund. The Russian subsidiary obtained its license in 2005 and launched fixed income and balanced investment funds in early 2006. PAM also offers investment funds to other EU investors, with the first such fund being registered for public distribution in Sweden in January 2006. The Bank anticipates that it will complete the necessary procedures for distributing Parex-branded funds in certain other European countries during 2006. 48 Treasury and brokerage The key functions of the treasury department are to manage the Group’s liquidity and to manage its proprietary foreign exchange (‘‘FX’’) and fixed income securities positions (through PAM in the case of the securities portfolio). As the Group has a relatively short-term deposit base and a relatively longer-term loan portfolio, in order to maintain liquidity it also holds a portfolio of highly liquid fixed income securities (which are classified in its accounts as available for sale securities). In addition to managing these portfolios, the treasury team enters into FX and interest rate derivative transactions to mitigate certain risks and hedge the Group’s average interest rate position. As at 31 December 2005, the Bank’s regulatory liquidity ratio was 53.9%, 23.9% more than the FCMC minimum requirement. In addition, the treasury department undertakes the trading of fixed income and equity securities, foreign exchange and other products (including commodity derivatives) as a broker for the Group’s customers. These activities are effected through PAM and are described briefly below. Securities brokerage The Group’s securities brokerage teams offer its customers a broad range of securities brokerage services and seek to introduce new products and markets to clients on a regular basis. The Group’s capacity to provide these services is supported by in-house research. The number of brokerage transactions completed in 2005 on behalf of the Group’s clients was more than 22,800, doubling the corresponding figure from 2004. The gross revenue from brokerage transactions was LVL 2.2 million in 2005, an increase of 50% from 2004. According to data supplied by the Riga Stock Exchange, Parex had a 7.5% market share of fixed income turnover, a 5.4% market share of equities turnover and a 5.4% overall turnover market share in Latvia in 2005. Foreign exchange trading In 2005, the Group’s FX desk earned profit from foreign exchange trading and the revaluation of its open positions of nearly LVL 8.7 million, an increase of 33% against 2004. During 2005, the Group executed over 312,000 FX operations in 35 currencies, with a daily average turnover in excess of LVL 148 million. In July 2005, the Bank became a participant in the Electronic Broker System, which provides access to on-line real time prices and liquidity offered by banks. Currently, the main counterparties of the FX desk include local Baltic banks, certain large European banks and Russian and other CIS banks. The Bank plans to expand its dealing relationships geographically to smaller banks in Poland, the Czech Republic, the Slovak Republic and Slovenia. Commodity derivatives brokerage The Group provides its customers with 24 hour service in the international derivatives trading markets. The Group is developing an OTC platform for energy-related derivatives for clients. The trading of commodity derivatives (including energy, stock indices, currencies and metals) increased substantially during 2005 and the gross revenue from commissions generated by derivatives trading were LVL 0.4 million, 38% more than the revenue generated in 2004. OTHER ACTIVITIES The Group offers its customers a range of other services, included amongst which are custody services, assistance in obtaining European Union funding and customs brokerage services. Custody services The Group offers investment and pension fund custody administration services as well as securities account services, securities processing, sub-custodian services for international banks, brokers and funds, and voting services. The Bank is a custodian bank for a number of large corporate and retail clients across the Baltic and CIS countries and offers these clients safe-keeping services in respect of their Baltic and other securities. Certain Group companies are members of the three Baltic central depository systems as well as the delivery versus payment settlement system of the Depository Clearing Company in Russia. European Union funds On 1 May 2004, Latvia became a full member of the EU. One of the challenges faced by Latvia on joining the EU is to align its economic and social development with that of the existing EU member countries. To help to 49 facilitate integration, Latvia is able to utilise capital allocated from EU funds. The Bank works with clients to help them to satisfy the necessary eligibility criteria for obtaining EU funding and to provide bridging loans in the interim period. The Bank’s services connected with these EU funds are therefore closely related to lending opportunities. Customs brokerage Parex Broker System was established in 1998 to provide its customers with a full range of customs brokerage services. In co-operation with other Group companies, Parex Broker System and its subsidiary in Lithuania provide customs clearance services, insurance and payment of customs fees services to export, import and transit freight managers and transporters. INTERNATIONAL OPERATIONS Outside Latvia, the Group’s principal operations are in Lithuania, Estonia, Switzerland and certain CIS countries. The Group has operated in Lithuania since 2000, when the Bank acquired the entity now known as Parex Bankas. Parex Bankas has 14 branches and customer service centres covering all major cities in Lithuania and is the tenth largest bank in Lithuania by assets according to data provided by the Bank of Lithuania. In 2003, the Group introduced leasing services in Lithuania by establishing UAB Parex Lizingas ir Faktoringas (‘‘Parex Lizingas ir Faktoringas’’). This company enables its customers to acquire various items on leasing terms and conditions, including real estate, vehicles, work equipment and white goods. As at 31 December 2005, the combined assets of Parex Bankas and Parex Lizingas ir Faktoringas were LVL 110.0 million. In Estonia, the Bank opened a representative office in Tallinn in 2001 and, in 2004, opened its first branch in the country. Parex Leasing & Factoring commenced operations in Estonia in 2003 and has originated loans and leases since then, ranging from consumer finance to railroad car finance. As at 31 December 2005, the assets of Parex Leasing & Factoring in Estonia were LVL 16.9 million. In 2004, the Bank acquired all of the shares of AP Anlage & Privatbank, a loss-making Swiss private bank located in the Greater Zurich area. This acquisition made Parex the first bank in Latvia to obtain a licence to operate in the Swiss banking market. AP Anlage & Privatbank positions itself as a traditional Swiss bank focused on private banking, investment consulting and asset management for clients originating from the Group’s home markets. In addition, AP Anlage & Privatbank co-operates with PAM to offer a range of financial and equity products from companies in the Baltic countries and CEE to Swiss institutional and private investors. In 2005, the number of customers of AP Anlage & Privatbank increased by 164% and its assets under management exceeded 65 million Swiss francs (equivalent to EUR 45 million), and generated 0.6 million Swiss francs (or EUR 0.4 million) of net profit, thus achieving profitability within 18 months following its acquisition. In the beginning of 2005, the Bank’s Management Board resolved to expand the Group’s lending operations in a number of CIS countries. During the first half of 2005, the Bank acquired a number of leasing companies, which provide mainly car leasing services, in CIS countries. These companies are based in Moscow and St. Petersburg (Russia), Kiev (Ukraine), Minsk (Belarus) and Baku (Azerbaijan). The Bank is also currently analysing the Uzbek market to determine the potential for establishing a leasing operation there. The Group’s representative offices do not engage in commercial activity. Their principal activity is marketing and providing information regarding the services offered by companies within the Group, investment opportunities in Latvia, the other Baltic countries and other countries in which Group companies operate. The Group has 12 representative offices in 10 countries: Frankfurt am Main (Germany), Stockholm (Sweden), Tokyo (Japan), Moscow and St. Petersburg (Russia), Kiev and Dnepropetrovsk (Ukraine), Minsk (Belarus), Almaty (Kazakhstan), Chisinau (Moldova), Baku (Azerbaijan) and Tashkent (Uzbekistan). The Bank also has a subsidiary in London that acts as a representative office with a full time representative covering London-based banking relationships. COMPETITION Because approximately 90% of the Group’s income originates from its Latvian customers and approximately 90% of its assets are in Latvia, the competition that most significantly affects the Group is that which it faces in Latvia. As at 31 December 2005, there were 22 domestic banks in Latvia, one branch of a foreign bank and five representative offices of foreign banks. Based on data provided by the Association of Latvian Banks, the Latvian banking sector made an aggregate LVL 193 million profit in 2005, a 66% increase from 2004 when the figure was 50 LVL 116 million. The total assets of the banking sector were LVL 10,943 million at 31 December 2005. There has been significant growth in the Latvian banking sector in recent years (see, for example, the second table below) and, given that market penetration of a range of banking services remains below EU averages, management of the Bank believes that this growth is likely to continue, at least in the near future. The Latvian banking sector has been largely privatised with only 6.6% of capital remaining in government ownership. More than 50% of the non-government controlled capital is foreign-owned. The following table shows certain financial data for the five largest Latvian banks in terms of assets as at 31 December 2005. Bank Assets LVL ’000s Hansabanka SEB Latvijas Unibanka The Bank AS NORD/LB Latvija AS Rietumu Banka 2,235,391 1,898,768 1,784,785 743,510 705,310 % 20.4 17.4 16.3 6.8 6.4 Deposits LVL ’000s 1,196,283 822,255 1,227,171 180,839 592,992 % 19.3 13.3 19.8 2.9 9.6 Loans LVL ’000s 1,707,954 1,573,787 831,375 632,420 249,421 % ROA(1) % ROE(2) % 24.5 22.6 11.9 9.1 3.6 2.38 2.66 1.68 1.11 3.64 28.83 34.30 18.70 12.59 45.18 Notes: (1) Return on assets (2) Return on equity Source: The Association of Latvian Commercial Banks (unaudited). The calculation methods used by this entity differ from those used in the Bank’s financial statements. Although there are still a relatively large number of banks in Latvia, there is significant concentration as the three largest banks in terms of assets, AS Hansabanka (‘‘Hansabanka’’), AS SEB Latvijas Unibanka (‘‘SEB Latvijas Unibanka’’) and the Bank, account for more than 50% of the total banking sector’s assets. The Bank faces its most significant competition from Hansabanka and SEB Latvijas Unibanka. The table below illustrates the growth in assets of the five largest Latvian banks by assets for the three years ended 31 December 2005. 2003 The Bank Hansabanka SEB Latvijas Unibanka AS NORD/LB Latvija AS Rietumu Banka 1,052,495 949,641 880,685 218,310 455,953 31 December 2004 2005 LVL ’000s 1,398,622 1,784,785 1,296,605 2,235,391 1,162,850 1,898,768 386,193 743,510 594,611 705,310 CAGR(1) % 19.25 33.02 29.19 50.45 15.65 Note: (1) Compound annual growth rate Source: The Association of Latvian Commercial Banks (unaudited). The calculation methods used by this entity differ from those used in the Bank’s financial statements. The Group also experiences competition in relation to its investment banking, asset management and securities brokerage businesses. In investment banking, the competitors are principally AS Suprema Securities (a brokerage, asset management and corporate finance advisory company) and IBS Prudentia (an investment banking and financial advisory firm), as none of the other major Latvian banks are very active in the field. In asset management, the principal competitors are Hansabanka and SEB Latvijas Unibanka whilst in securities brokerage the main competitors are Hansabanka, AS Suprema Securities and SEB Latvijas Unibanka. The Group believes that its principal competitive strengths include: r its respected pan-Baltic brand; r its ability to export domestically proven strategies to nearby markets; r its ability to attract and retain deposits from its customers, evidenced by the fact that at 31 December 2005 it retained the leading market share of customer deposits in Latvia; 51 r its prudent lending policy and risk management procedures reflected in the fact that the Group has managed to retain high asset quality at a time of significant expansion in its loan portfolio; r its expertise in the Baltic and CIS asset management markets; r its ability to attract and motivate high-level professional staff evidenced by low turnover rates in senior management positions; r its proven management track record, with a compound annual growth rate in profit before tax since 1998 in excess of 50%; and r its strong asset quality and capital base, with a Group capital adequacy ratio of 11.7% at 31 December 2005 (3.7% above the level required by Basle Committee guidelines). COMPLIANCE Anti-money laundering legislation has been in force in Latvia since 1998 and the Bank’s anti-money laundering procedures are described below. Similar legislation is in place in other countries in which the Group operates and similar procedures, tailored where applicable to the relevant market are followed by the relevant Group companies. To comply with the Latvian legislation, the Bank has strict know-your-customer (‘‘KYC’’) procedures which are used when new accounts are opened and are also applied to all existing clients. Accounts are also monitored daily, with suspicious activity reported to the Office of the Prosecutor by the Bank’s compliance department. The Bank’s anti-money laundering procedures are reviewed and revised annually by its compliance department. The policies include client identification and KYC, monitoring of client transactions, reporting of unusual and suspicious transactions, client acceptance and termination as well as training of the Bank’s employees. There are no specific differences in the procedures applied to Latvian residents and non-residents although clients who complete applications to open accounts in representative offices are subject to review and approval by the Bank’s client monitoring department. All clients are required to provide identification information and relevant originals or certified copies of identification documents. In addition, all clients are required to fill out a questionnaire containing detailed questions on their background, sources of income, volumes of planned transactions as well as other information. If the information provided in the questionnaire indicates that a customer should be classified as a high risk customer, copies of additional documents (such as invoices, contracts and proof of sources of funds) are required. Depending on the client category, an additional background search may be conducted. In certain cases a decision on client acceptance is referred to the client monitoring department or the Management Board. According to an independent third-party audit performed by Deloitte & Touche LLP in 2005, the Bank’s anti-money laundering and combating terrorist financing procedures are in compliance with: r applicable Latvian law; r Latvian FCMC guidelines; r FATF 40+9 recommendations; r the best practices discussed in the Basel and Wolfsberg AML papers; and r the U.S. Patriot Act and other anti-money laundering and combating terrorist financing regulations. LEGAL PROCEEDINGS The Group is involved in legal proceedings, both as a claimant and as a defendant, in the ordinary course of its banking business. The Group is not currently involved in any such proceedings which could have a significant adverse affect on its financial position. INFORMATION TECHNOLOGY The Group’s systems, including the GLOBUS programme (Temenos, United Kingdom), CORTEX card system (Nomad Software, United Kingdom) and the platform for the TWISTER remote customer service system (DataDesign AG, Germany), are constantly monitored and updated where necessary to ensure that a secure and 52 high quality service can be provided and that the systems afford the opportunity to develop and introduce new banking services. The Group’s security policy in relation to its information technology (‘‘IT’’) systems is in compliance with FCMC requirements as well as best practices of Cobit and ISO 17799. In particular, the Group has in place CheckPoint Firewall VPN-1 and ISS RealSecure 6.0 Network Sensor software and its internet server is placed in a separate DMZ network to protect its internet banking service from viruses and hackers. The Group also uses Firewall software and Cisco routers access lists to protect its ATM network. In 2004, the Group initiated an IT infrastructure library (‘‘ITIL’’) implementation project in order to re-organise its IT structure. As part of this project, information systems and resources are regularly evaluated using external ITIL consultants to increase their effectiveness and efficiency as well as to ensure the security of the Group’s information technology and information management systems. RELATED PARTIES Related parties are defined as shareholders who have significant influence over the Group, members of the Council and Board of Directors, key management personnel, their close relatives and companies in which they have a controlling interest as well as associated companies of the Group. The following table shows the outstanding balances and terms of the Group’s transactions with related parties. Amount at 31 December 2005 (LVL millions) Credit exposure to related parties: Loans and advances Financial commitments and outstanding guarantees Total credit exposure to related parties Total deposits from related parties 25.2 3.4 28.6 43.6 Average rate in 2005 2.4% — 19.5% Amount at 31 December 2004 (LVL millions) 14.6 2.7 17.3 28.8 Average rate in 2004 1.4% — 20.7% The majority of the deposits made by related parties have been placed with the Group at rates significantly below the market interest rates at the time of their placement. In the ordinary course of business, AS Parex apdrošināšanas kompānija, a related party to the Bank, insures certain collateral given to the Bank for loans and advances made by it to its customers. This company was sold to a third party in early 2006. OWNERSHIP AND CAPITAL STRUCTURE As at 31 December 2005, the authorised share capital of the Bank was LVL 65,027,295 divided into 60,633,439 ordinary voting shares and 4,393,856 ordinary non voting shares with a nominal value of LVL 1 each. All of the authorised shares are issued and fully paid up. Currently the Bank has 63 shareholders. The main shareholders of the Bank are Mr. Valery Kargin and Mr. Viktor Krasovitsky, both Latvian citizens (each holding 42.89% of its shares). Most of the remaining shares are owned by institutional investors. The following table shows the Bank’s current shareholder structure: Number of Shareholders shares owned Valery Kargin 27,887,498 Viktor Krasovitsky 27,887,498 East Capital Asset Management Aktiebolag 2,711,000 Danske Capital Finland OY 1,783,061 Julius Baer International Equity Fund (Julius Baer Investment Management LLC) 1,427,861 Firebird funds 1,182,985 Svenska Handelsbanken AB 200,000 Other institutional 1,176,855 Other private 770,537 Total 65,027,295 53 % of total shares 42.89% 42.89% 4.17% 2.74% 2.20% 1.82% 0.31% 1.81% 1.17% 100.00% CORPORATE GOVERNANCE Management has structured the Bank’s operations into functional divisions, which are headed by vice presidents and members of the Management Board. There are five members of the Council, seven members of the Management Board and six members of the Council of Directors. The business address of each member of the Council, Management Board and Council of Directors is 3 Smilšu Street, Riga LV-1522, Latvia. The Council is the supervisory institution of the Bank and its principal function is to monitor the compliance of the Bank and other Group companies with applicable law and regulation and to ensure appropriate standards of ethical conduct are observed. Accordingly, as part of this role, it monitors all interaction between the internal audit department and the Management Board. It also supervises the activities of the Management Board. The Council elects and dismisses members of the Management Board and ensures that the Bank’s business is conducted in accordance with applicable law. The Management Board manages and represents the Bank and its main function is to supervise and manage the affairs of the Bank. The Management Board is responsible for the commercial activities of the Bank, as well as for accounting, in compliance with applicable law, the Bank’s articles of association and decisions passed at shareholder meetings. The Council of Directors comprises members elected by the Management Board. The Council of Directors is responsible for coordinating the various business units of the Bank and also performs an advisory role. The main shareholders of the Bank are not involved in day-to-day management of the Bank and instead focus on strategic development and developing high-level client contacts and representation. The main shareholders are represented in the Management Board to ensure protection of their interests and an up-to-date knowledge of the business. The main shareholders do not have any right to decide on credit exposures or pricing of services and their influence in the Management Board is limited as they form only two of its seven members. MANAGEMENT The current management of the Bank is as follows: Council Guntars Grinbergs, Chairman of the Council Andris Berzins, Deputy Chairman of the Council and former Prime Minister of Latvia Karina Petersone, Member of the Council and former Latvian government minister Hans Eberhard Berndt, Member of the Council and foreign banking expert Gints Poiss, Member of the Council Management Board Valery Kargin, Chairman of the Management Board Viktor Krasovitsky, Deputy Chairman of the Management Board Vladislav Skrebelis, Member of the Management Board Alexander Kvasov, Member of the Management Board Arnis Lagzdins, Member of the Management Board Janis Skrastins, Member of the Management Board Gene Zolotarev, Member of the Management Board 54 Council of Directors Viktor Krasovitsky, Chairman of the Council of Directors Alexander Kvasov, Senior Vice President (Customer Service) Eriks Brivmanis, Vice President (Finance and IT) Liga Purina, Vice President (Lending) Gene Zolotarev, Senior Vice President (Capital Markets and Investment Banking) Arnis Lagzdins, Senior Vice President (Compliance) The business address for Bank’s management is Smilšu Street 3, Riga LV-1522. No member of the Council, the Management Board or the Council of Directors has any actual or potential conflict of interest between his duties to the Bank and his private interests and/or other duties. Brief biographies of the executive management of the Bank President of the Bank Chairman of the Management Board Valery Kargin Chairman of the Council of Directors Deputy Chairman of the Management Board Viktor Krasovitsky Senior Vice President Member of the Management Board Arnis Lagzdins Senior Vice President Member of the Management Board Alexander Kvasov Senior Vice President Member of the Management Board Gene Zolotarev Mr Kargin is one of the two founders of the Bank. He is the Chairman of the Management Board and has held this position since 1992. He holds a degree in Journalism from the Latvian State University. Mr Krasovitsky is one of the two founders of the Bank. He was appointed Vice President of the Bank in 1992 and is currently Chairman of the Council of Directors and Deputy Chairman of the Management Board. Before founding the Bank, he was Head of Computer Technology at a state-owned company and a senior advisor to the Latvian Chamber of Commerce. He holds a degree in science from Riga Polytechnic Institute. Mr Lagzdins joined the Bank in April 2004 as its Head of Compliance. He previously held the position of senior advisor to the Executive Director with The World Bank Group, Washington DC, USA, where he started in 1991. He holds an economics degree from the Latvian State University and is continuing his doctoral studies in finance and credit there. Mr Kvasov joined the Bank in 1993 as Head of Internal Audit, became a Vice President in 1998 and is currently responsible for the Operations Division, which covers services (retail and corporate), card operations and branch management. He previously held the position of Chief Accountant at the Latvian Trade Bank. He holds science and economics degrees from Riga Polytechnic Institute and Riga Aviation University, respectively. Mr Zolotarev joined the Bank in 1998 as Vice President responsible for Capital Markets, Trading & Treasury, Investment Banking, Corporate Finance, Investment Products and Trust and Asset Management. He is also responsible for managing the Group’s strategic development covering investor relations, debt and equity financing and relationships with international financial institutions. He holds the positions of Member of the Council of PAM and Chairman of the Council of AP Anlage & Privatbank AG. He was the Chief Operations Officer for Republic National Bank of New York, Moscow between 1996 and 1998. He started his own company in 1991 and then joined Coopers & Lybrand, Moscow in 1993. From 55 1989 to 1991 he worked as a management consultant at Andersen Consulting. He graduated from Columbia University, New York and attended Stern School of Business, New York University. Vice President Liga Purina Ms Purina was appointed Vice President of Lending and Leasing in 2000. She is responsible for lending operations, covering all lending, credit and leasing facilities to retail and corporate clients. Between 1997 and 2000 she worked at the London office of Arthur Andersen as a project manager in the Corporate Finance Division. She was Head of Internal Audit for the Bank between 1994 and 1997. She previously held the positions of Chief Accountant in a joint Latvian-Swedish enterprise and Auditor and Business Consultant with Arthur Andersen. She holds a degree in finance from the Latvian State University and is a member of the Latvian Association of Sworn Auditors. Vice President Eriks Brivmanis Mr Brivmanis joined the Bank in 1996 as the Deputy Head of the internal audit department and became Vice President in 1999. He is responsible for the Bank’s and the Group’s Financial Management, Asset and Liability Management, Information Technology Strategic Development and Implementation and the Bank’s and the Group’s accounting systems. He previously worked as an accountant with Arthur Andersen for four years and held the positions of Economist and Chief Economist in a few companies. He holds an economics degree from the Latvian State University. Employees During 2005, the Group’s average number of employees was 2,438. As at 31 March 2006, the Group had 2,852 employees. 56 LENDING AND SELECTED STATISTICAL INFORMATION LENDING In terms of gross revenue generated, lending is the Group’s most significant business activity. In 2005, gross revenue from lending generated LVL 54.5 million, or 42.2% of the Group’s total gross revenues in that year, a 44.3% increase compared to the LVL 37.8 million gross revenues generated in 2004. The Group’s loan portfolio (which, in addition to standard loans, includes utilised credit lines and overdrafts, loans under reverse repurchase agreements, finance leases, factoring and plastic card credit balances) grew by 27% from LVL 692 million as at 31 December 2004 to LVL 879 million as at 31 December 2005. Within this, the Group’s mortgage loan portfolio grew by 53.3% to LVL 345 million in 2005. The total loan portfolio grew at a compound average rate of 27% in the period between 2001 and 2005, and is expected to continue to grow at around 20-25% in the near future as the GDP of the Baltic countries continues to expand and because the proportion of total loans and leases to GDP in the Baltic countries is still low compared to Western countries. The Group principally makes loans to customers in Latvia, Lithuania and Estonia. LEASING The Bank’s banking licence permits it to provide financial leasing services only. In order to expand its activities in the leasing field, the Bank established a leasing company in Latvia to offer both operating and financial leases to its clients. In August 2005, the leasing company was renamed SIA Parex Express Kredits (‘‘Parex Express Credit’’) with a view to it also offering its customers hire purchase and other consumer financing contracts. Parex Express Credit retained the legacy leasing portfolio, which, at 31 December 2005, amounted to LVL 8 million. At the same time that Parex Express Credit was renamed, the Bank established a new leasing company in Latvia (‘‘Parex Leasing & Factoring Latvia’’) with a view to providing car, truck and industrial equipment leases as well as the finance of travel and medical costs among other products. The goal for Parex Leasing & Factoring Latvia in 2006 is to gain a 10% market share in financial and operating leases for cars, trucks and industrial equipment in Latvia. The Bank has provided leasing facilities in Estonia and Lithuania since 2003 and has also recently acquired a number of leasing companies in CIS countries, see ‘‘Description of the Group – International Operations’’. CREDIT POLICIES AND PROCEDURES A brief outline of the Bank’s credit approval, collateral and credit monitoring policies and procedures is set out below. Loans and advances made by the Bank accounted for approximately 88% of all loans and advances made by the Group in 2005. Except where indicated, other Group companies follow a broadly similar approach, tailored to their respective markets. Credit approval The Bank’s credit analysis teams analyse all material loan applications. The analysis of potential borrowers identifies key risks and ways to manage them. The results of each analysis are presented to the Bank’s Credit Committee as part of the lending approval process. The Bank has a tiered hierarchy of delegated approval authorities as described below. The ultimate approval body is the Management Board. The internal risk pricing of corporate loans is based on the creditworthiness of the borrowers and the credit rating assigned by the Bank to the loan. The Bank uses a financial statements-based internal scoring model for assessing and monitoring all its corporate borrowers. These ratings are reviewed on a quarterly basis. In cases where the rating deviates from certain defined benchmarks, a more in-depth analysis of the borrower is performed. In addition, the Bank performs regular reviews of its existing borrowers in order to detect early signals of loan quality deterioration and to take appropriate action. The Bank’s loan supervision department monitors problem loans and, where appropriate, can refer them to the legal department for enforcement action to be taken. The FCMC has strict regulations which limit credit exposure to individual clients to less than 25% of the Bank’s equity and its total credit exposure to related parties, other than consolidated subsidiaries, to less than 15% of the Bank’s equity. The FCMC requires regular reports on the Bank’s credit portfolio. 57 The following table sets forth the approval authority of the Bank’s Credit Committee and authorised lending officers when making decisions on loans to clients. Approval authority Management Board (which may review Credit Committee decisions) Credit Committee Vice President of Lending Head of Corporate Lending and Leasing Head of Private and SME Lending and Leasing Head of CIS countries Lending development Head of Regional Lending and Leasing Branch managers with credit approval authority Approval limit None, except exposure limits set by FCMC None, except exposure limits set by FCMC LVL 200,000 LVL 200,000 LVL 200,000 LVL 200,000 LVL 80,000 Up to LVL 120,000 Branch managers have different approval limits based on their experience and the size of their branch. When approving new loans, the total exposure to a client or client group is taken into account and not just the amount of the loan concerned. Guideline interest rates and commissions in all loan categories are approved by the credit committee based on the base rates established by ALCO. Interest and commission rates for individual loans are set at or above the guideline rates. Only the credit committee and management board (which is empowered to review and revise credit committee decisions) are authorised to approve loan terms that differ from the interest rate and commission guidelines established by the credit committee. Collateral policy The Bank’s standard practice is to require collateral before granting a loan. Exceptions to this practice include loans to governments or municipalities in the Baltic countries or loans guaranteed by such entities, intra Group loans, corporate overdrafts not exceeding 30% of the client’s monthly turnover and consumer loans through debit balances on credit cards or made by Parex Express Credit. The collateral taken by the Bank includes first mortgages on real estate and transport vehicles (such as ships or railway carriages), subject to satisfactory appraisal by independent appraisers. For short-term loans used for working capital finance, a corporate borrower’s inventory or receivables may be accepted as security, subject to satisfactory appraisal by Group employees. In this case, personal shareholder guarantees may also be required. When evaluating the collateral proposed for a loan, the Bank considers loan to value ratios, the liquidity of the collateral and whether there are any particular legal issues that may impact enforcement of the collateral, such as registration requirements. Credit monitoring The Bank has established detailed procedures for monitoring its credit exposures. These procedures aim to: r ensure compliance with the terms and conditions of the credit approval; r review performance of the borrowers against any projections given; and r detect early warning signals and take appropriate corrective actions. The Bank requires its corporate borrowers to submit quarterly financial statements and these are analysed by the Bank’s credit analysts. The Bank may also make on-site inspections of its borrowers where this is considered appropriate. If the financial statement analysis indicates that a borrower’s financial situation is deteriorating or the forecasted performance has not been achieved, a more detailed examination of the borrower’s financial standing is carried out, assessing the reasons for the deteriorating performance and analysing the borrower’s business and potential future development. In addition, the Bank may perform stock inspections and stock audits on a regular basis. If an examination indicates that the loan repayment is at risk, a decision is taken regarding the transfer of the loan to the loan supervision department or the legal department for enforcement by the legal department. The Bank’s internal audit department provides an independent assessment of the credit quality of the borrowers and the Bank’s credit management processes. 58 LOAN LOSS PROVISIONS The Bank uses the following risk categories in order to establish the allowance specified below for impairment in accordance with FCMC regulations: r Standard 0% r Watchlist 10% r Substandard 30% r Doubtful 60% r Lost 100% Watchlist loans are loans where: r business conditions have changed and may negatively impact the borrower; r there are signs of increased risk in respect of the borrower’s financial position; and r the interest or principal payment is overdue by up to 30 days. Substandard loans are loans where: r the borrower’s cash flows are not sufficient to make regular loan payments; and r the interest or principal payment is overdue by between 31 and 90 days. Doubtful loans are loans where: r the borrower is experiencing liquidity problems; and r interest or principal payments are overdue by between 91 and 180 days. Lost loans are loans where: r interest and/or principal is overdue for more than 180 days; and r the borrower is insolvent. In all cases, when a decision is taken on the level of allowance to be established, the value of collateral is also taken into account. If the collateral has a current market value, can be quickly sold in a liquid market and there are no legal difficulties in selling the collateral, the allowance for impairment is decreased by the net realisable value of the collateral. The Bank considers both specific and general risks in determining its allowance for impairment, see ‘‘Financial Review’’. Once it has been determined that a loan cannot be recovered, the credit committee decides when to write-off the loan and charge it against the allowance for impairment. It is the Bank’s policy to provide 100% for lost loans but not to write them off until all necessary legal procedures are completed and the amount of the loss is finally determined. 59 The following table shows the Group’s loan portfolio by credit risk category at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Standard Watchlist Substandard Doubtful Lost Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers 878,716 5,445 1,934 2,006 7,757 895,858 (16,596) 879,262 684,593 12,261 2,844 5,232 9,657 714,587 (22,894) 691,693 LOAN PORTFOLIO Introduction The following table shows the Group’s gross loan portfolio by product groups at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Regular loans Utilised credit lines Loans under reverse repurchase agreements Total gross loans to customers Finance leases Factoring Debit balances on settlement cards Due from investment and brokerage firms Overdraft facilities Total other loans and advances Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers 521,749 192,493 29,777 744,019 53,831 29,952 21,912 19,328 26,816 151,839 895,858 (16,596) 879,262 437,541 130,818 22,862 591,221 46,338 44,237 13,876 11,951 6,964 123,366 714,587 (22,894) 691,693 Financing is provided by the Group for a range of different purposes, although the majority of its corporate loans have been made to entities within the transportation and real estate management industries and have a maturity of between 5 and 7 years. The majority of the Group’s corporate loans have been granted to private companies, followed by corporate loans to municipalities and state owned enterprises. Consumer lending relates primarily to mortgages, car loans, student loans and other loans to finance the purchase of consumer products. 60 The following table shows the Group’s loan portfolio by customer profile as at the dates indicated. 31/12/2005 Group LVL 000’s Government Local municipalities State owned enterprises Municipality owned enterprises Privately held companies Total gross loans and advances to corporate customers Public and religious institutions Private individuals Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers % of total gross loans and advances 31/12/2004 Group LVL 000’s % of total gross loans and advances 1,542 4,683 13,260 18,878 558,298 0.2 0.5 1.5 2.1 62.3 — 5,145 23,431 29,029 451,845 — 0.7 3.3 4.1 63.2 596,661 14,073 285,124 895,858 (16,596) 879,262 66.6 1.6 31.8 100.0 — — 509,450 14,562 190,575 714,587 (22,894) 691,693 71.3 2.0 26.7 100.0 — — The Group’s net loan portfolio grew by 27% in 2005, from LVL 692 million as at 31 December 2004 to LVL 879 million as at 31 December 2005. As at 31 December 2005, according to the Association of Latvian Commercial Banks, the Bank had a 11.9% market share of loans made by Latvian banks. The majority of the Group’s credit exposure was to the private sector, consisting of corporate loans (67%), retail loans (32%) and public and religious institutions (1%). Loans by lender The Group’s loan portfolio comprises loans and advances made by the Bank and Parex Express Credit in Latvia, Parex Bankas and Parex Faktoringas ir Lizingas in Lithuania, Parex Leasing & Factoring in Estonia and the leasing subsidiaries in the CIS countries. The following table shows the division of these loans as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s The Bank Parex Express Credit Other Total loans and advances made in Latvia Parex bankas Parex Faktoringas ir Lizingas Total loans and advances made in Lithuania Parex Leasing and Factoring Total loans and advances made in Estonia (through subsidiary) Total loans and advances made in CIS countries Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers 789,215 7,642 16 796,873 57,427 11,499 68,926 16,746 16,746 13,313 895,858 (16,596) 879,262 623,181 6,455 16 629,652 50,922 11,086 62,008 22,927 22,927 — 714,587 (22,894) 691,693 As at 31 December 2005, loans and advances made by the Bank accounted for 88.1% of the Group’s loan portfolio (compared with 87.2% at 31 December 2004). Parex Bankas in Lithuania had the second largest loan portfolio (6.4%) followed by Parex Leasing & Factoring in Estonia (1.9%). The increase in the Bank’s loan portfolio was achieved by lending to industries where the Bank has a competitive advantage through its detailed knowledge of the relevant industry, principally the sea and railway transport industries, and to market segments which experienced significant growth during the year, principally mortgage lending and real estate development and management. 61 Largest loans As at 31 December 2005, the ten largest credit exposures represented 22% of the Group’s total gross loan portfolio, compared to 23% as at 31 December 2004. Related party loans represented 3% of the Group’s total gross loan portfolio compared to 8.4% at 31 December 2004. The following table shows the Group’s 10 largest credit exposures by industry type as at 31 December 2005. 31/12/2005 Group LVL 000’s Oil and gas Gas supply Public transportation Terminal Sea transportation/Real estate Aviation/Sea transportation Sea transportation Trade/Aviation Trade Public organisation Total 10 largest credit exposures 29,894 29,541 25,164 21,084 19,270 17,836 16,141 14,134 12,927 12,922 198,913 Loans by maturity The following table shows the Group’s outstanding loans and advances to customers by maturity as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Overdue 9,752 Falling due within: 1 month 1 – 3 months 3 – 6 months 6 – 12 months 1 – 5 years more than 5 years Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers 76,001 33,180 23,187 69,394 312,817 371,527 895,858 (16,596) 879,262 9,812 36,704 27,364 28,850 29,021 251,821 331,015 714,587 (22,894) 691,693 As at 31 December 2005, loans with a maturity of one year or less accounted for 24% of the Group’s gross loan portfolio, loans with a maturity of between one and five years accounted for 35% of the Group’s gross loan portfolio and loans with a maturity over five years accounted for 41% of the Group’s gross loan portfolio. 62 Loans by customer sector The following table shows the Group’s gross corporate loans and advances by industry type as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Transport and communications Real estate management Trade Manufacturing Financial intermediation Electricity, gas and water supply Construction Hotels, restaurants and entertainment Agriculture and forestry Other industries Total gross loans and advances to corporate customers 176,034 113,802 78,846 55,985 43,752 42,930 27,725 21,822 2,323 33,442 596,661 174,312 75,896 56,173 45,160 42,038 35,900 29,780 15,030 4,349 30,812 509,450 The following table shows the Group’s loans and advances by geographical profile of the borrower as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Non-Latvian OECD region residents Latvian residents Non-OECD region residents Total gross loans and advances to customers Less impairment allowance Total net loans and advances to customers 108,594 510,945 276,319 895,858 (16,596) 879,262 89,183 416,987 208,417 714,587 (22,894) 691,693 Loans by currency The following table shows the currency profile of the Group’s net loans and advances as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s EUR USD LVL Other Total net loans and advances to customers 379,435 337,818 115,479 46,530 879,262 180,731 347,028 125,461 38,473 691,693 Approximately 43% of the Group’s net loan portfolio consists of euro denominated loans. The proportion of US dollar denominated loans has significantly decreased in the Group’s loan portfolio (from 50% at 31 December 2004 to 38% at 31 December 2005) although the amount of such loans has remained relatively constant. This reflects the impact of the pegging of the lat to the euro on 31 December 2004 on new borrowing since then. Reflecting relatively high interest rates for lat denominated loans and the pegging of the lat to euro, the volume of the Group’s lat denominated loans has also slightly decreased as many clients with income in lats have preferred to borrow in euros. Loan by collateral type As at 31 December 2005, loans and advances totalling LVL 21.1 million or 2.4% of the Group’s total portfolio of gross loans and advances to customers were classified as zero risk since they were collateralised by cash deposits. At 31 December 2004, the equivalent numbers were LVL 20.8 million and 3%, respectively. 63 The following table shows the outstanding amount of the Group’s gross loans and advances (showing the balance sheet value of the loan) by primary type of collateral as at the dates indicated. Many of the Group’s loans are secured by more than one type of collateral. 31/12/2005 31/12/2004 Group Group LVL 000’s Real estate Transport vehicles Securities Deposits Current and fixed assets (except for transport vehicles) Loans secured by Latvian government guarantees Loans to Latvian government Loans to state owned enterprises Loans to local municipalities in Latvia Loans guaranteed by local municipalities in Latvia Overdraft facilities Due from investment and brokerage firms Debit balances on settlement cards Other Total gross loans and advances to corporate customers 503,676 150,300 83,957 21,151 11,416 18,990 41 8,281 3,400 1,151 11,786 17,687 21,901 42,122 895,858 364,401 151,981 45,740 20,835 17,533 16,976 — 22,426 3,409 1,189 6,705 11,951 13,530 37,911 714,587 FIXED INCOME PORTFOLIO At 31 December 2005, the amount of fixed income securities in the Group’s balance sheet was LVL 432 million (equal to 23% of total Group assets). The Group’s fixed income portfolio generated LVL 19.7 million in interest income in 2005 (equal to 15.3% of the Group’s total gross revenue in that year). The following table shows the Group’s fixed income portfolio by the type of issuer as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Government bonds Municipality bonds Credit institution bonds Corporate bonds Other financial institution bonds Managed funds Total gross fixed income securities Less impairment allowance Total net fixed income securities 67,407 15,945 203,851 102,703 37,161 7,620 434,687 (2,626) 432,061 67,688 15,676 120,173 82,082 9,661 10,572 305,852 (7,094) 298,758 The fixed income portfolio principally comprises bonds issued by credit institutions and corporates. 47% and 24%, respectively, of the gross fixed income securities in the portfolio at 31 December 2005 were issued by these types of issuer. Bonds issued by credit institutions have also been the principal cause of growth in the portfolio during 2005, registering an increase of 70% over the year. 64 The fixed income securities held by the Group are classified as held to maturity, available for sale or held for trading. The table below shows the fixed income portfolio by this classification as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Held for trading Available for sale Held to maturity Total gross fixed income securities Less impairment allowance Total net fixed income securities 24,178 342,469 68,040 434,687 (2,626) 432,061 17,850 245,328 42,674 305,852 (7,094) 298,758 The following table shows the maturity profile of the Group’s fixed income securities as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Falling due within: 1 month 1 – 3 months 3 – 6 months 6 – 12 months 1 – 5 years more than 5 years Total gross fixed income securities 944 2,415 620 1,926 209,191 219,591 434,687 761 1,894 5,931 10,179 158,609 128,478 305,852 The average maturity of the portfolio was extended in 2005 with 51% of securities having a maturity in excess of five years at 31 December 2005, compared to 42% at 31 December 2004. The following table shows the currency profile of the Group’s fixed income securities as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s USD EUR LVL Other Total net fixed income securities 270,530 92,314 56,524 12,693 432,061 173,990 59,939 50,428 14,401 298,758 During 2005 there was a slight increase in the proportion of USD and EUR denominated securities in the portfolio (by 4% and 1%, respectively). 65 DEPOSITS Deposits by remaining maturity The following table shows the Group’s deposits by remaining maturity as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Demand deposits Term deposits: due within 1 month due within 1 – 3 months due within 3 – 6 months due within 6 – 12 months due within 1 – 5 years due in more than 5 years Total term deposits Total deposits from customers 939,778 874,764 154,135 34,892 74,087 92,096 21,284 1,652 378,146 1,317,924 68,691 33,239 45,229 67,164 15,204 1,280 230,807 1,105,571 Deposits by customer profile The following table shows the Group’s deposits by customer profile as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Government Municipalities Financial institutions State owned enterprises Public and religious institutions Privately held companies Private individuals Total deposits from customers 2,792 8,922 17,172 24,106 6,281 925,954 332,697 1,317,924 26,523 15,360 14,769 9,547 8,323 765,346 265,703 1,105,571 Corporate customers accounted for 72.1% of total deposits as at 31 December 2005 (compared with 70.1% at 31 December 2004). The Group continued to increase its retail deposit funding base in 2005 and this represents an important source of funding for the Group. Deposits by residence of depositor The following table shows the Group’s deposits by reported residence of the depositor as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s Latvian residents Non-residents Total deposits from customers 388,280 929,644 1,317,924 317,763 787,808 1,105,571 As at 31 December 2005, 70.5% of the Group’s total deposits were from customers with a reported residence outside Latvia (compared to 71.3% at 31 December 2004). In 2005, deposits from Latvian corporate and private clients grew by 22%, whilst non-resident deposits grew by 18%. 66 Deposits by currency The following table shows the Group’s deposits by currency as at the dates indicated. 31/12/2005 31/12/2004 Group Group LVL 000’s USD EUR LVL Other Total deposits from customers 775,190 249,532 208,685 84,517 1,317,924 658,912 243,861 140,162 62,636 1,105,571 As at 31 December 2005, 58.8% of the Group’s deposits were US dollar denominated (compared to 59.6% at 31 December 2004). US dollar denominated deposits grew at a rate of 17.6% during 2005 and LVL denominated deposits grew by 48.9% over the same period. As at 31 December 2005, the Group held restricted deposits amounting to LVL 21.1 million (LVL 18.4 million as at 31 December 2004). Restricted deposits are deposits which are used as collateral for loans made to customers and therefore cannot be withdrawn until the loan is repaid. 67 RECENT DEVELOPMENTS AND THE BANKING SECTOR IN LATVIA RECENT ECONOMIC DEVELOPMENTS IN LATVIA The table below provides certain information in relation to the macroeconomic performance of Latvia since 2001. As indicated in the table, real GDP growth has been significant, ranging between 6.5% and 10.2% in the five years to 2005. Macroeconomic indicators for Latvia Population (millions) GDP (nominal, LVL millions) GDP per capita (LVL) GDP real growth (%) Consumer Price Index (%) Unemployment (% of economically active population) Size of banking assets (LVL millions)(1) 2001 2.36 5,220 2,217 8.0 2.5 2002 2.35 5,758 2,462 6.5 1.9 2003 2.33 6,393 2,749 7.2 2.9 2004 2.32 7,414 3,205 8.5 6.2 7.7 8.5 8.6 8.5 3,459 4,423 5,717 7,850 2005 2.30 8,904 3,871 10.2 6.7 8.5(2) 10,943 Source: Central Statistical Bureau of Latvia except for: (1) Association of Latvian Commercial Banks (2) Forecasted by Ministry of Finance of Latvia Based on a speech given by the Governor of the Bank of Latvia in January 2006, Latvian real GDP growth for 2005 was 10.2% and rapid economic expansion is expected to continue in 2006, with an approximate 8% increase forecast for GDP in that year. In terms of inflation, the annual average inflation in 2005, at 6.7%, was 0.5% above the 2004 level. The average consumer price rise recorded for 2005 was an all-time high since 1997 and is considered a potential hazard to further rapid growth of the economy. The Governor also noted in his speech that, according to preliminary information, the overall fiscal deficit of the general government basic budget stood at LVL 97.1 million in 2005 (compared with LVL 133.8 million in 2004) and, at the end of November 2005, the debt of the central and local governments totalled LVL 993.8 million. THE LATVIAN BANKING SECTOR AND ITS DEVELOPMENT As at 31 December 2005, there were 22 domestic banks in Latvia, one branch of a foreign bank and five representative offices of foreign banks. In 2005 and based on data provided by the Association of Latvian Banks, the Latvian banking sector made an aggregate LVL 193 million profit, a 66% increase from 2004 when the figure was LVL 116 million. The total assets of the banking sector were LVL 10,943 million at 31 December 2005. The Latvian banking sector has been largely privatised with only 6.6% of capital remaining in government ownership. More than 50% of the remaining capital is foreign-owned. Bank of Latvia The main objective of the Bank of Latvia, as set out in the Law ‘‘On the Bank of Latvia’’ (the ‘‘Law’’) is to regulate the amount of money in circulation with the aim of maintaining price stability through the implementation of monetary policy. The Bank of Latvia’s independence is guaranteed by the Law. The Governor of the Bank is appointed by the Saeima of the Republic of Latvia. Likewise, upon the Governor’s recommendation, it appoints members of the Board of Governors for a six-year term. The Governor, the Deputy Governor and any member of the Board of Governors may be discharged before the end of his term of office only if he has tendered his resignation, been convicted of certain criminal offences or is not able to officiate for a period exceeding six successive months because of illness or another reason. The Law prohibits the Bank of Latvia from granting direct credit to the Government to cover its budget deficit. Similarly, the Bank of Latvia does not have the right to buy government securities on the primary market. The Bank of Latvia has developed and is using the same full set of indirect market based monetary policy instruments that are used by the European Central Bank. 68 On 18 May 2000, the Bank of Latvia was assigned quality management ISO 9002 certification. The Bank of Latvia has adjusted its quality management system to the new version of the standard and on 7 May 2003 received certification confirming compliance with ISO 9001:2000. Movement of capital and the payment system Both current and capital account transactions have been fully liberalised in Latvia. There are virtually no restrictions on cash and capital flows to and from Latvia. The Bank of Latvia ensures full convertibility of the lat by buying from and selling to banks unlimited amounts of euro at their request. In 2000, the Bank of Latvia introduced the real-time gross settlement system SAMS (an inter-bank automated payment system), which enables safe and efficient settlement on the Latvian interbank market and in the Bank of Latvia’s monetary policy operations. Along with Latvia’s full future participation in European Economic and Monetary Union and the introduction of the euro, the Bank of Latvia also envisages joining TARGET, the single European payment system. Banking legislation General. The legislative framework for banking in Latvia meets applicable EU requirements in full, and in some areas the requirements are more rigorous. IFRS have been fully introduced and banks are audited by internationally recognised auditing firms. Practical supervision of the banking sector in Latvia is tight and bank inspections are conducted more frequently than in many other EU Member States. Legislation. The Law ‘‘On Credit Institutions’’ (the ‘‘Banking Law’’), which has been in force since 24 October 1995, has been amended on several occasions. The instructions and regulations of the FCMC and the Bank of Latvia complement the provisions of the Banking Law and are binding on all credit institutions. All regulations for measuring the performance of credit institutions and their reporting procedures conform to applicable EU standards. The Law ‘‘On Prevention of Laundering of Proceeds Derived from Criminal Activity’’ which has been in force since 1 June 1998 also conforms to the relevant EU directives: it requires customer identification and record keeping on all transactions, identification of suspicious and unusual transactions, and their reporting to the Board of Prevention of Legalization of Proceeds from Criminal Activity. The Law ‘‘On Deposit Guarantees’’, which has been in force since 1 October 1998, provides that as of 1 January 2004, irrespective of the depositing date, deposits of up to LVL 9,000 per depositor to whom the provisions of this law apply are guaranteed. By 2008, the amount of the guarantee is to be raised to LVL 13,000, the level stipulated by the applicable EU directive. Certain groups of depositors are excluded from the guarantee provisions. Since 1 July 2001, the FCMC has been responsible for supervising the financial sector. According to the International Monetary Fund, banking supervision in Latvia is among the strictest in Central and Eastern Europe. LATVIA’S INTEGRATION IN THE EUROPEAN UNION AND INTRODUCTION OF THE EURO Following Latvia’s accession to the EU, the Bank of Latvia’s policy has been aimed at preparing the country for a full participation in European Economic and Monetary Union. Latvia currently complies with the interest rate and budget deficit and government debt (as a percentage of GDP) Maastricht convergence criteria necessary for joining such monetary union. However, its inflation rate remains above the required rate and it will not have satisfied the exchange rate criteria until 1 January 2008 at the earliest. The table below shows the relevant Maastricht criteria (other than the exchange rate criteria) and Latvia’s performance in relation to them for the years indicated: 2004 Criteria Performance Budget deficit (% of GDP) Government debt (% of GDP) Average annual inflation rate (%) Interest rate on long-term government debt (%) * 3.0 60.0 2.2 6.28 Estimated by PAM. 69 1.0 14.7 6.2 4.58 2005 Criteria Performance 3.0 60.0 2.5 5.37 1.0* 10.7* 6.9 3.88 On 1 January 2005, the lat was pegged to the euro and on 2 May 2005 Latvia joined the Exchange Rate Mechanism II (ERM II). ERM II is both an arrangement for exchange rate pegging and a procedure for testing the maturity of euro-adopting accession countries. Having joined ERM II, Latvia’s monetary system will have to operate within it for at least two years to satisfy the applicable convergence criteria. Accordingly, adoption of the euro is not expected to take place before 1 January 2008 at the earliest, assuming all other criteria are met. 70 TAXATION The following is a general description of certain Latvian tax considerations relating to the Notes. It does not purport to be a complete analysis of all tax considerations relating to the Notes whether in those countries or elsewhere. Prospective purchasers of Notes should consult their own tax advisers as to the consequences under the tax laws of the country of which they are resident for tax purposes and the tax laws of the Republic of Latvia of acquiring, holding and disposing of Notes and receiving payments of interest, principal and/or other amounts under the Notes. This summary is based upon the law as in effect on the date of this Prospectus and is subject to any change in law that may take effect after such date. EU Savings Tax Directive Under European Council Directive 2003/48/EC on the taxation of savings income, each Member State is required, from 1 July 2005, to provide to the tax authorities of another Member State details of payments of interest or other similar income paid by a person within its jurisdiction to, or collected by such person for, an individual resident in that other Member State; however, Austria, Belgium and Luxembourg may instead apply a withholding system for a transitional period in relation to such payments, deducting tax at rates rising over time to 35 per cent. The transitional period is to terminate at the end of the first-full fiscal year following agreement by certain non-EU countries to the exchange of information relating to such payments. Also with effect from 1 July 2005, a number of non-EU countries, and certain dependent or associated territories of certain Member States, have agreed to adopt similar measures (either provision of information or transitional withholding) in relation to payments made by a person within its jurisdiction to, or collected by such a person for, an individual resident in a Member State. In addition, the Member States have entered into reciprocal provision of information or transitional withholding arrangements with certain of those dependent or associated territories in relation to payments made by a person in a Member State to, or collected by such a person for, an individual resident in one of those territories. Latvian Taxation Under existing Latvian laws and regulations all payments of principal and interest in respect of the Notes and all payments by the Issuer under the Subscription Agreement and the Issue Documents may be made free and clear of, and without withholding or deduction for, any taxes, duties, assessments or governmental charges of whatsoever nature imposed, levied, collected, withheld or assessed by Latvia or any political subdivision or authority thereof or therein having power to tax, (1) except for fiscal obligations of the persons having some connection to the Republic of Latvia other than the mere holding of the Notes; (2) or if the recipient of interest income is a party related to the Issuer; (3) or where such withholding or deduction is imposed on a payment to an individual, irrespective of the connection with the Republic of Latvia; (4) or the recipient of such income is a person registered in a low or zero tax jurisdiction. In relation to items (3) and (4) above, payments under the Notes will be made by the Issuer to the Fiscal Agent, a corporate entity, currently not registered in a low or zero tax jurisdiction. The gains realized by non-residents derived from the sale or exchange of the Notes will not be subject to any Latvian income or capital gains tax, and no Latvian stamp duty, registration, transfer or similar taxes will be payable in connection with the acquisition, ownership, sale or disposal of Notes by non-residents providing that the sale or exchange of Notes will take place outside the territory of Latvia. 71 SUBSCRIPTION AND SALE Deutsche Bank AG, London Branch and HSBC Bank plc (the ‘‘Joint-Lead Managers’’) and SC Parex banka and Raiffeisen Zentralbank Österreich Aktiengesellschaft (the ‘‘Co-Managers’’, together with the Joint-Lead Managers, the ‘‘Managers’’) have, in a subscription agreement dated 3 May 2006 (the ‘‘Subscription Agreement’’) and made between the Issuer and the Managers upon the terms and subject to the conditions contained therein, jointly and severally agreed to subscribe and pay for the Notes at their issue price of 99.69 per cent. of their principal amount plus any accrued interest in respect thereof and less a combined management, selling and underwriting commission of 0.25 per cent. of their principal amount. The Issuer has also agreed to reimburse Deutsche Bank AG, London Branch and HSBC Bank plc for certain of their expenses incurred in connection with the management of the issue of the Notes. The Managers are entitled in certain circumstances to be released and discharged from their obligations under the Subscription Agreement prior to the closing of the issue of the Notes. European Economic Area In relation to each Member State of the European Economic Area which has implemented the Prospectus Directive (each, a ‘‘Relevant Member State’’), each Manager has represented and agreed that with effect from and including the date on which the Prospectus Directive is implemented in that Relevant Member State (the ‘‘Relevant Implementation Date’’) it has not made and will not make an offer of Notes to the public in that Relevant Member State prior to the publication of a prospectus in relation to the Notes which has been approved by the competent authority in that Relevant Member State or, where appropriate, approved in another Relevant Member State and notified to the competent authority in that Relevant Member State, all in accordance with the Prospectus Directive, except that it may, with effect from and including the Relevant Implementation Date, make an offer of Notes to the public in that Relevant Member State at any time: (a) to legal entities which are authorised or regulated to operate in the financial markets or, if not so authorised or regulated, whose corporate purpose is solely to invest in securities; (b) to any legal entity which has two or more of (1) an average of at least 250 employees during the last financial year; (2) a total balance sheet of more than E43,000,000 and (3) an annual net turnover of more than E50,000,000, as shown in its last annual or consolidated accounts; or (c) in any other circumstances which do not require the publication by the Issuer of a prospectus pursuant to Article 3 of the Prospectus Directive. For the purposes of this provision, the expression an ‘‘offer of Notes to the public’’ in relation to any Notes in any Relevant Member State means the communication in any form and by any means of sufficient information on the terms of the offer and the Notes to be offered so as to enable an investor to decide to purchase or subscribe the Notes, as the same may be varied in that Member State by any measure implementing the Prospectus Directive in that Member State and the expression ‘‘Prospectus Directive’’ means Directive 2003/71/EC and includes any relevant implementing measure in each Relevant Member State. United States of America The Notes have not been and will not be registered under the Securities Act and may not be offered or sold within the United States or to, or for the account or benefit of, U.S. persons except in certain transactions exempt from the registration requirements of the Securities Act. Terms used in this paragraph have the meanings given to them by Regulation S. Each Manager has agreed that, except as permitted by the Subscription Agreement, it will not offer, sell or deliver the Notes, (a) as part of their distribution at any time or (b) otherwise, until 40 days after the later of the commencement of the offering and the issue date of the Notes, within the United States or to, or for the account or benefit of, U.S. persons, and that it will have sent to each dealer to which it sells Notes during the distribution compliance period a confirmation or other notice setting forth the restrictions on offers and sales of the Notes within the United States or to, or for the account or benefit of, U.S. persons. In addition, until 40 days after commencement of the offering, an offer or sale of Notes within the United States by a dealer (whether or not participating in the offering) may violate the registration requirements of the Securities Act. 72 United Kingdom Each Manager has further represented, warranted and undertaken to the Issuer and to each other Manager that: (a) Financial promotion: it has only communicated or caused to be communicated, and will only communicate or cause to be communicated, any invitation or inducement to engage in investment activity (within the meaning of section 21 of the FSMA) received by it in connection with the issue or sale of any Notes in circumstances in which section 21(1) of the FSMA does not apply to the Issuer; and (b) General compliance: it has complied and will comply with all applicable provisions of the FSMA with respect to anything done by it in relation to the Notes in, from or otherwise involving the United Kingdom. Republic of Italy The offering of the Notes has not been registered pursuant to the Italian securities legislation and, accordingly, each of the Managers has represented and agreed that it has not offered or sold, and will not offer or sell, any Notes in the Republic of Italy in a solicitation to the public, and that sales of the Notes in the Republic of Italy shall be effected in accordance with all Italian securities, tax, exchange control and other applicable laws and regulations. In any case, the Notes will not be sold, either in the primary or in the secondary market, to individuals residing in the Republic of Italy. Each of the Managers has represented that it has not offered, sold or delivered, and will not offer, sell or deliver any Notes or distribute copies of the Prospectus or any other document relating to the Notes in the Republic of Italy except to ‘‘Professional investors’’, as defined in Article 31.2 of CONSOB Regulation No. 11522 of 1 July 1998 (‘‘Regulation No. 11522’’), as amended, pursuant to Articles 30.2 and 100 of Legislative Decree No. 58 of 24 February 1998 (‘‘Decree No. 58’’), or in any other circumstances where an express exemption from compliance with the solicitation restrictions provided by Decree No. 58 or CONSOB Regulation No. 11971 of 14 May 1999 applies, provided however, that any such offer, sale or delivery of Notes or distribution of copies of the Prospectus or any other document relating to the Notes in the Republic of Italy must be: (a) made by investment firms, banks or financial intermediaries permitted to conduct such activities in the Republic of Italy in accordance with Legislative Decree No. 385 of 1 September 1993 (‘‘Decree No. 385’’), Decree No. 58, Regulation No. 11522 and any other applicable laws and regulations: (b) in compliance with Article 129 of Decree No. 385 and the implementing instructions of the Bank of Italy, pursuant to which the issue, offer or placement of securities in Italy is subject to prior notification to the Bank of Italy, unless an exemption, depending inter alia, on the aggregate amount of securities issued, offered or placed and the characteristics of the securities, applies; (c) in compliance with the banking transparency requirements set forth in Decree No. 385 and the implementing regulations and decrees; and (d) in compliance with any other applicable notification requirement or limitation which may be imposed by CONSOB or the Bank of Italy. Republic of Latvia Each Manager has represented, warranted and undertaken to the Issuer and each other Manager that: (a) No offer to public: Notes have not been registered under the 2004-01-01 Law on the Financial Instruments Market of Latvia and may not be publicly offered or sold within the territory of the Republic of Latvia. (b) No public financial promotion: it has not publicly offered, and will not offer to be sold, any Note within the Republic of Latvia and that neither it nor any of its affiliates, nor any persons acting on its or their behalf, have engaged or will engage in any directed public selling efforts in the Republic of Latvia with respect to the Notes. (c) General compliance: (A) It has not offered or sold, and will not offer or sell, the Notes to a person who is a resident of the Republic of Latvia other than in accordance with the laws of the Republic of Latvia and the Rules of the Financial and Capital Market Commission in Latvia and; (B) it has not delivered and will not deliver within the Republic of Latvia any Notes in definitive form that are sold. 73 Save for obtaining the approval of the Prospectus by the UK Listing Authority in accordance with Part VI of the FSMA, no action has been or will be taken in any jurisdiction by the Issuer or any Manager that would, or is intended to, permit a public offering of the Notes, or possession or distribution of this Prospectus or any other offering material, in any country or jurisdiction where action for that purpose is required. Persons into whose hands this Prospectus comes are required by the Issuer and the Managers to comply with all applicable laws and regulations in each country or jurisdiction in which they purchase, offer, sell or deliver Notes or have in their possession, distribute or publish this Prospectus or any other offering material relating to the Notes, in all cases at their own expense. 74 GENERAL INFORMATION 1. The creation and issue of the Notes has been authorised by a shareholder resolution of the Issuer dated 24 March 2006. The Issuer has obtained all necessary consents, approvals and authorisations in the Republic of Latvia in connection with the issue and performance of the Notes. 2. There are no governmental, legal or arbitration proceedings (including any such proceedings which are pending or threatened, of which the Issuer is aware) during the 12 month period prior to the date of this Prospectus, which may have, or have had in the recent past, a significant effect on the financial position or profitability of the Issuer and its subsidiaries. 3. There has been no significant change in the financial or trading position of the Issuer and its subsidiaries taken as a whole since 31 December 2005 and, since such date there has been no material adverse change in the prospects of the Issuer and its subsidiaries taken as a whole. 4. The consolidated financial statements of the Issuer dated 31 December 2005 and 31 December 2004 have been audited without qualification for the three financial years immediately preceding the date of this Prospectus by SIA Ernst & Young Baltic independent accountants of Kronvalda Boulevard 3-5, LV-1010, Riga, Latvia. 5. The Issuer will, at its registered office and at the Specified Offices of the Paying Agents, make available for physical inspection during normal office hours, free of charge, upon oral or written request, a copy of this Prospectus. Written or oral requests for such documents should be directed to the Specified Office of any Paying Agent. 6. Copies of the following documents (together with English translations thereof) will be available for inspection, during normal business hours at the registered offices of the Issuer and of JPMorgan Chase Bank, N.A. during the life of this Prospectus: (a) the constitutive documents of the Issuer; (b) the Fiscal Agency Agreement and the Deed of Covenant; and (c) the auditor’s report and audited consolidated financial statements of the Issuer for the years ended 31 December 2005 and 31 December 2004. 7. The Notes have been accepted for clearance through Euroclear and Clearstream, Luxembourg. The ISIN is XS0253533318 and the common code is 025353331. 8. The listing of the Notes on the gilt-edged and fixed interest market of the London Stock Exchange will be expressed in Euro as a percentage of their principal amount (exclusive of accrued interest). Transactions will normally be effected for settlement in Euro for delivery on the third business day in London after the date of the transaction. It is expected that the Notes will be admitted to the Official List of the UK Listing Authority on 5 May 2006, subject only to the issue of the Global Note Certificate. However, prior to official listing, dealings in the Notes will be permitted by the London Stock Exchange in accordance with its rules. The total expenses related to the admission to trading of the Notes on the gilt-edged and fixed interest market of the London Stock Exchange equal approximately EUR 9,706. 75 FINANCIAL STATEMENTS AND AUDITOR’S REPORTS CONTENTS Audited Consolidated Financial Statements as at and for the years ended 31 December 2005 and 2004 Auditors’ Report for the Financial Statements for Auditors’ Report for the Financial Statements for year ended 31 December 2005 ; the year ended 31 December 2005 year ended 31 December 2004 ; the year ended 31 December 2004 F-1 ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; ; F-2 F-3 F-50 F-51 F-2 AS Parex banka Statements of Income for the years ended 31 December 2005 and 2004 LVL 000’s Notes 2005 Group 2005 Bank 2004 Group 2004 Bank Interest income Interest expense Net interest income 4 4 78,899 (32,425) 46,474 72,515 (31,581) 40,934 58,518 (19,848) 38,670 54,096 (19,153) 34,943 Commission and fee income Commission and fee expense Net commission and fee income 5 5 32,528 (6,794) 25,734 30,049 (7,058) 22,991 23,897 (5,074) 18,823 21,612 (5,098) 16,514 Profit on trading with financial instruments, net Other operating income Net operating income 6 7 15,484 2,135 89,827 13,833 1,625 79,383 13,227 1,920 72,640 12,190 1,287 64,934 8,9 21,22 (47,722) (6,347) (804) (41,539) (5,773) (340) (38,800) (6,318) (344) (33,933) (5,580) (340) Impairment of financial assets Reversals of impairment of financial assets 10 10 (2,722) 5,347 (2,674) 5,229 (9,109) 1,010 (8,672) 715 Profit from investments in subsidiaries 20 - - 37,579 34,286 18,660 17,124 (4,365) (4,111) (2,206) (2,020) 33,214 30,175 16,454 15,104 - - 33,214 30,175 Administrative expense Depreciation and amortisation expense Other operating expense Profit before corporate income tax and minority interest Corporate income tax Profit before minority interest 11 Minority interest Net profit for the year (419) - (2) 16,452 15,104 The financial statements have been approved by the Management of the Bank and signed on their behalf by: Valery Kargin President/ Chairman of the Board Viktor Krasovitsky Chairman of the Council of Directors Guntars GrƯnbergs Chairman of the Council Riga, 3 March 2006 The accompanying notes are an integral part of these financial statements. F-3 11 F-3 AS Parex banka Balance Sheets and Memorandum Items as at 31 December 2005 and 2004 Notes 31/12/2005 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank Assets Cash and deposits with central banks Balances due from credit institutions Loans and advances to customers Fixed income securities Shares and other non-fixed income securities Investments in subsidiaries Derivative financial instruments Intangible assets Fixed assets Prepayments and accrued income Current income tax prepayment Other assets Total assets 12 13 14,15,16 17,18 19 20 30 21 22 23 11 24 144,079 312,583 879,262 432,061 30,467 564 2,805 23,771 10,340 6,404 1,842,336 136,835 311,968 810,958 411,690 29,104 21,547 698 1,223 19,788 9,338 3,860 1,757,009 70,781 312,870 691,693 298,758 11,512 1,405 3,497 23,169 8,334 729 1,733 1,424,481 63,748 320,259 640,349 274,122 11,429 18,559 1,414 1,914 19,452 8,006 657 1,533 1,361,442 26 27 25 30 262,996 1,317,924 74,070 2,366 7,695 772 608 109 17,705 1,684,245 258,764 1,252,015 74,070 2,376 6,849 750 567 7,497 1,602,888 172,250 1,105,571 3,310 4,354 905 56 11,648 1,298,094 162,663 1,058,256 3,322 3,510 901 56 7,574 1,236,282 65,027 12,694 2,358 78,000 65,027 12,694 2,503 73,897 65,027 12,694 3,867 44,786 65,027 12,694 3,717 43,722 158,079 154,121 126,374 125,160 12 - 13 - 158,091 154,121 126,387 125,160 1,842,336 1,757,009 1,424,481 1,361,442 21,115 190,824 703,087 105,013 166,053 21,281 197,708 717,401 105,013 3,013 25,900 125,296 805,001 25,592 170,514 25,888 127,825 816,745 25,592 131,829 Liabilities Balances due to credit institutions and central banks Deposits from customers Issued debt securities Derivative financial instruments Accrued expense and deferred income Current income tax liability Deferred income tax liability Provision for liabilities and charges Other liabilities Total liabilities 11 11 28 Shareholders’ equity Paid-in share capital Share premium Fair value revaluation reserve Retained earnings Total shareholders’ equity attributable to shareholders of the Bank 29 Minority interest Total shareholders’ equity Total liabilities and shareholders’ equity Memorandum items Contingent liabilities Financial commitments Foreign exchange contracts Other financial instruments Funds under trust management 30 30 30 30 31 The financial statements have been approved by the Management of the Bank and signed on their behalf by: Valery Kargin President/ Chairman of the Board Viktor Krasovitsky Chairman of the Council of Directors Guntars GrƯnbergs Chairman of the Council Riga, 3 March 2006 The accompanying notes are an integral part of these financial statements. F-4 12 AS Parex banka Statements of Changes in Shareholders’ Equity for the years ended 31 December 2005 and 2004 Changes in the Group’s shareholders’ equity are as follows: Attributable to shareholders of the Bank Fair value Retained revaluation Share earnings reserve premium Paid-in share capital Balance as at 1 January 2004 Total shareholders’ equity Minority interest Total 63,327 9,226 4,270 31,334 108,157 11 108,168 1,700 3,468 - - 5,168 - 5,168 Dividends paid - - - (3,000) - (3,000) Fair value revaluation reserve charged to statement of income - - (5,611) - (5,611) - (5,611) Changes in fair value of available for sale securities - - 5,550 - 5,550 - 5,550 Deferred income tax charged directly to equity - - - (342) - (342) Changes in minority interest - - - - - 2 2 Net profit for the year - - - 16,452 16,452 - 16,452 65,027 12,694 3,867 44,786 126,374 13 126,387 Fair value revaluation reserve charged to statement of income - - (4,284) - (4,284) - (4,284) Changes in fair value of available for sale securities - - 2,621 - 2,621 - 2,621 Deferred income tax charged directly to equity - - 154 - 154 - 154 Changes in minority interest - - - - - (1) (1) Net profit for the year - - - 33,214 33,214 - 33,214 65,027 12,694 2,358 78,000 158,079 12 158,091 Issue of new shares Balance as at 31 December 2004 Balance as at 31 December 2005 (342) (3,000) The accompanying notes are an integral part of these financial statements. F-5 F-513 AS Parex banka Statements of Changes in Shareholders’ Equity for the years ended 31 December 2005 and 2004 Changes in the Bank’s shareholders’ equity are as follows: Paid-in share capital Balance as at 1 January 2004 (as previously reported) Fair value revaluation reserve Share premium Retained earnings Total 63,327 9,226 4,270 31,334 108,157 - - (150) 284 134 63,327 9,226 4,120 31,618 108,291 1,700 3,468 - - 5,168 Dividends paid - - - (3,000) (3,000) Fair value revaluation reserve charged to statement of income - - (5,611) - (5,611) Changes in fair value of available for sale securities - - 5,550 - 5,550 Deferred income tax charged directly to equity - - (342) - (342) Net profit for the year - - - 15,104 15,104 65,027 12,694 3,717 43,722 125,160 Fair value revaluation reserve charged to statement of income - - (4,112) - (4,112) Changes in fair value of available for sale securities - - 2,751 - 2,751 Deferred income tax charged directly to equity - - 147 - 147 Net profit for the year - - - 30,175 30,175 65,027 12,694 2,503 73,897 154,121 Effect of adoption of revised standards (Note 2) Balance as at 1 January 2004 (adjusted – see Note 2) Issue of new shares Balance as at 31 December 2004 Balance as at 31 December 2005 The accompanying notes are an integral part of these financial statements. F-6 14 F-6 AS Parex banka Statements of Cash Flows for the years ended 31 December 2005 and 2004 Notes Cash inflow from operating activities Profit before taxation and minority interest Amortisation of intangible assets, depreciation of fixed assets Change in impairment allowances (Profit) from investments in subsidiaries Increase in cash and cash equivalents before changes in assets and liabilities (Increase) in prepayments and accrued income Change in derivative financial instruments Decrease/ (increase) in other assets Increase in accrued expense and deferred income Increase/ (decrease) in other liabilities Decrease/ (increase) in trading investments Decrease/ (increase)in balances due from credit institutions (Increase) in loans and advances to customers Increase/ (decrease) in balances due to credit institutions Increase in deposits from customers Increase in cash and cash equivalents from operating activities before corporate income tax Corporate income tax (paid) 2005 Bank 37,579 34,286 18,660 17,124 6,347 (2,625) - 5,773 (2,555) - 6,318 8,189 419 5,580 7,938 - 41,301 37,504 33,586 30,642 (2,006) (1,079) (3,213) 3,341 3,396 (26,231) (1,332) (1,206) (1,013) 3,339 (1,925) (24,785) (3,069) (43) 1,410 1,053 4,690 18,305 (2,900) (69) 135 651 4,904 18,202 32,228 (185,154) 131,695 212,353 58,623 (168,373) 131,172 193,759 (144,081) (223,647) 66,564 269,986 (144,318) (202,096) 59,382 257,278 206,631 225,763 24,754 21,811 (3,440) (3,181) 21,314 18,630 (6,165) (6,710) (5,631) (10,178) (2,441) Net cash and cash equivalents from operating activities 204,190 Cash (outflow) from investing activities (Purchase) of intangible and fixed assets Acquisitions and investments in subsidiaries Sale/ (purchase) of equity investments and other nontrading investments (Decrease) in cash and cash equivalents from investing activities Cash inflow from financing activities Proceeds from issue of new shares Dividends (paid) Proceeds from debt securities issue Increase in cash and cash equivalents from financing activities Net cash inflow for the year LVL 000’s 2004 Group 2005 Group (2,357) 223,406 2004 Bank (6,257) - (5,418) (2,988) (126,791) (131,556) 34,568 31,874 (133,048) (139,962) 21,693 16,065 75,046 75,046 5,168 (3,000) - 5,168 (3,000) - 75,046 75,046 2,168 2,168 146,188 158,490 45,175 36,863 Cash and cash equivalents at the beginning of the year 32 152,640 135,043 107,465 98,180 Cash and cash equivalents at the end of the year 32 298,828 293,533 152,640 135,043 Interest received/ paid by the Bank and the Group during the reporting year is not materially different from interest income/ expense recognised in the statement of income. The accompanying notes are an integral part of these financial statements. F-7 15 F-7 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 1. INFORMATION ON THE BANK (Figures in parenthesis represent amounts as at 31 December 2004 or for the year then ended.) AS Parex banka (hereinafter – the Bank) was registered as a joint stock company on 14 May 1992. The Bank commenced its operations in June 1992. The Bank’s head office and three main branches are located in Riga, Latvia. As at 31 December 2005, the Bank was operating a total of 90 (95) branches and client service centres in Riga and throughout Latvia and two branches in Tallin (Estonia) and Berlin (Germany). The Bank operates 8 representative offices: in Frankfurt (Germany), Stockholm (Sweden), Tokyo (Japan), Kiev and Dnipropetrovsk (Ukraine), Baku (Azerbaijan), Tashkent (Uzbekistan) and Sofia (Bulgaria), as well as a subsidiary – Parex Group Representation Limited in London (United Kingdom) acting as the Bank’s representative office. The Bank owns also 25 other subsidiaries which operate in various financial markets sectors as described in Note 20. The Bank’s main areas of operation include accepting deposits from customers, granting short-term and long-term loans to the State Treasury, local municipalities, corporate customers, private individuals and other credit institutions, issuing and servicing payment cards, dealing with finance lease and foreign exchange transactions. The Bank offers its clients also trust management and investment banking services, performs local and international payments, as well as provides a wide range of other financial services. As at 31 December 2005, the Bank had 2,120 (1,970) employees, 20,710 (20,630) loan and finance lease customers, 136,006 (104,524) settlement card holders and 199,700 (167,450) deposit customers. The main shareholders of the Bank are Latvian citizens Mr. Valery Kargin and Mr. Viktor Krasovitsky (see Note 29). NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES These financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS), which comprise standards and interpretations approved by the International Accounting Standards Board (IASB), and International Accounting Standards and Standing Interpretations Committee interpretations approved by the International Accounting Standards Committee (IASC), effective as at 31 December 2005. Certain disclosures are prepared in the format required by the Financial and Capital Market Commission (FCMC). A summary of the Group’s principal accounting policies, all of which have been applied consistently throughout the years ended 31 December 2005 and 2004, except that the Group has adopted those new/ revised standards mandatory for financial years beginning on or after 1 January 2005, is set out below. Changes in Accounting Policies In 2005 the Group adopted those IFRS that were amended in 2004 and are mandatory for financial years beginning on or after 1 January 2005. The adoption of those standards did not result in substantial changes to the Group’s accounting policies, except for: IFRS 3, IAS 36 and IAS 38, which have affected the treatment of goodwill; IAS 27, which has changed the measurement of investments in subsidiaries. The principle effects of these changes in policies are described below. IFRS 3 “Business Combinations” The adoption of IFRS 3 and related IAS 36 (revised 2004) and IAS 38 (revised 2004) has resulted in a change in the accounting policy for goodwill. Until 31 December 2004, goodwill had been: Amortised on a straight-line basis; and Assessed for an indication of impairment at each balance sheet date. In accordance with the provisions of IFRS 3: The Group ceased amortization of goodwill from 1 January 2005; Accumulated amortization as at 31 December 2004 has been eliminated with a corresponding decrease in the cost of goodwill; From the year ended 31 December 2004 onwards, goodwill is tested annually for impairment, as well as when there are indications of impairment. F-8 F-9 F-10 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The carrying amount of deferred corporate income tax asset, if any, is reviewed at each balance sheet date and reduced to the extent that it is no longer probable that sufficient taxable profit will be available to allow all or part of the deferred income tax asset to be utilised. h) Leases Finance – Group as lessor Finance leases, which confer rights and obligations similar to those attached to owned assets, are recognised as assets and liabilities at amounts equal at the inception of the lease to the fair value of the leased property or, if lower, at the present value of the minimum lease payments. The finance income is allocated to periods during the lease term to produce a constant periodic return on the net investments outstanding in respect of the finance leases. For the purposes of these financial statements, finance lease receivables are included in loans and advances to customers. Operating – Group as lessor The Group presents assets subject to operating leases in the balance sheets according to the nature of the asset. Lease income from operating leases is recognized in statement of income on a straight-line basis over the lease term as other income. The aggregate cost of incentives provided to lessees is recognized as a reduction of rental income over the lease term on a straight-line basis. Initial direct costs incurred specifically to earn revenues from an operating lease are added to the carrying amount of the leased asset. The depreciation policy for depreciable leased assets is consistent with the lessor’s normal depreciation policy for similar assets, and depreciation is calculated in accordance with accounting policies, used for the Group’s property, plant and equipment. Operating – Group as lessee Leases of assets under which the risks and rewards of ownership are effectively retained by the lessor are classified as operating leases. Lease payments under an operating lease are recognized as expenses on a straight-line basis over the lease term and included into other administrative and operating expenses. i) Impairment of loans and receivables The Group has granted commercial and consumer loans to customers throughout its market area. The economic condition of the market area may have an impact on the borrowers’ ability to repay their debts. The Management of the Group have considered both specific and portfolio-level risks in determining the balance of impairment allowance for possible credit losses. Impairment allowance for possible credit losses is established to represent the estimated amounts of probable losses that have been incurred at the balance sheet date. The specific element of the impairment relates to credits that have objective evidence of impairment. The specific impairment loss is determined after individual review of all credits with objective indications of potential impairment. The collective impairment of the loan portfolio relates to the potential losses, which experience indicates are present in the Group’s portfolio of loans and receivables, but have not yet been specifically identified through the specific review of those financial assets. The specific impairment for possible credit losses is assessed as a difference between the present value of expected future cash flows discounted at the loans’ original effective interest rate and the loan’s outstanding balance. The value of collateral held in connection with loans is based on the estimated realisable value of the asset and is taken into account when estimating present values of expected future cash flows. The collective impairment allowance is estimated based upon historical pattern of losses in the loan portfolio, as well as taking into account credit concentration risk, changes in collateral values, current economic conditions and general market or operating events that have occurred prior to the balance sheet date and might negatively impact the future cash flows from certain loans and receivables balances outstanding, but for which a specific credit risk provision is not yet quantifiable. Non-performing loans and receivables from customers, including banking institutions, are defined as loans and other credit balances in which contractually due principal is 14 days or more overdue, contractually due interest is F-11 F-11 19 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 90 days or more overdue, or the Management otherwise believe that the contractual interest or principal due will not be collected. When loans and advances cannot be recovered, they are written-off and charged against impairment allowance. They are not written-off until all the necessary legal procedures have been completed and the amount of the loss is finally determined. If, in a subsequent period, the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised, the previously recognised impairment loss is reversed. Any subsequent reversal of an impairment loss is recognised in the statement of income, to the extent that the carrying value of the asset does not exceed its amortised cost at the reversal date. j) Financial assets The Group recognises financial asset on its balance sheet when, and only when, the Group becomes a party to the contractual provisions of the instrument. Financial assets in the scope of IAS 39 are classified as either financial assets at fair value through profit or loss, loans and receivables, held-to-maturity investments, or available-for-sale financial assets, as appropriate. When financial assets are recognised initially, they are measured at fair value, plus, in the case of investments not at fair value through profit or loss, directly attributable transaction costs. The classification of investments between the categories is determined at acquisition based on the guidelines established by the Management. All “regular way” purchases and sales of investments are recognised using settlement date accounting. The settlement date is the date when an asset is delivered to or by the Group. Settlement day refers to the recognition of an asset on the day it is transferred to the Group and to the derecognition of an asset, on the day that it is transferred by the Group. All other purchases or sales are recognised as derivative instruments until settlement occurs. Financial assets at fair value through profit and loss Financial assets classified as held for trading are included in the category “financial assets at fair value through profit or loss”. Financial assets are classified as held for trading if they are either acquired for generating a profit from short-term fluctuations in price or dealer’s margin, or are included in a portfolio in which a pattern of shortterm profit taking exists. Held for trading financial assets are initially recognised at cost and subsequently remeasured at fair value based on available market prices. The result of re-measuring trading financial assets at fair value is charged directly to the statement of income. Held to maturity investments Non-derivative financial assets with fixed or determinable payments and fixed maturity are classified as held to maturity if the Group has both the positive intent and ability to hold these investments to maturity. Held to maturity financial assets are carried at amortised cost using the effective interest rate method, less any allowance for impairment. A financial asset is impaired if its carrying amount is greater than its estimated recoverable amount. The amount of the impairment loss for assets carried at amortised cost is calculated as the difference between the asset’s carrying amount and the present value of expected future cash flows discounted at the financial instrument’s original effective interest rate. Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Such assets are carried at amortised cost using the effective interest method. Gains and losses are recognised in income when the loans and receivables are derecognised or impaired, as well as through the amortisation process. Loans and receivables are recognised at their settlement date. From the date of signing a contractual agreement till the settlement date they are accounted for as off balance sheet items. When the loans and advances cannot be recovered, they are written-off and charged against impairment for possible F-12 F-12 20 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 credit losses. The management of the Group makes the decision on writing-off loans. Recoveries of loans previously written-off are credited to the statement of income. Available for sale financial assets Available for sale financial assets are those non-derivative financial assets that are designated as available-for-sale or are not classified in any of the three preceding categories. The Group’s available for sale financial assets are intended to be held for an undefined period of time, which may be sold in response to needs for liquidity or changes in interest rates, exchange rates or equity prices are classified as available for sale. Available for sale financial assets are initially stated at cost and subsequently re-measured at fair value based on available market prices or quotes of brokers. The result of fair value revaluation of available for sale securities is recognised in equity as a fair value revaluation reserve. The difference between the cost and amortised cost determined by the effective interest rate method is treated as interest income or expense. When the securities are disposed of, the related accumulated fair value revaluation is included in the statement of income as profit/(loss) from trading with securities available for sale. If there is objective evidence that the value of an investment has been impaired, the cumulative net loss that has been recognised directly in equity is charged to the statement of income and the asset is stated in the balance sheet at the recoverable amount calculated as discounted future cash flows using current market interest rate for similar financial assets. k) Derecognition of Financial Assets and Liabilities Financial assets A financial asset (or, where applicable a part of a financial asset or part of a group of similar financial assets) is derecognised where: x the rights to receive cash flows from the asset have expired; x the Group has transferred its rights to receive cash flows from the asset, or retained the right to receive cash flows from the asset, but has assumed an obligation to pay them in full without material delay to a third party under a ‘pass-through’ arrangement; and x the Group either (a) has transferred substantially all the risks and rewards of the asset, or (b) has neither transferred nor retained substantially all the risks and rewards of the asset, but has transferred control of the asset. Where the Group has transferred its rights to receive cash flows from an asset and has neither transferred nor retained substantially all the risks and rewards of the asset nor transferred control of the asset, the asset is recognised to the extent of the Group’s continuing involvement in the asset. Continuing involvement that takes the form of a guarantee over the transferred asset is measured at the lower of the original carrying amount of the asset and the maximum amount of consideration that the Group could be required to repay. Where continuing involvement takes the form of a written and/or purchased option (including a cash-settled option or similar provision) on the transferred asset, the extent of the Group’s continuing involvement is the amount of the transferred asset that the Group may repurchase, except that in the case of a written put option (including a cashsettled option or similar provision) on an asset measured at fair value, the extent of the Group’s continuing involvement is limited to the lower of the fair value of the transferred asset and the option exercise price. Financial liabilities A financial liability is derecognised when the obligation under the liability is discharged or cancelled or expires. Where an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as a derecognition of the original liability and the recognition of a new liability, and the difference in the respective carrying amounts is recognised in profit or loss. l) Intangible Assets Intangible assets in Group accounts comprise goodwill from the acquisition of subsidiaries, as well as software, capitalised costs relating to leasehold rights and other intangible assets. F-13 F-13 21 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 Goodwill arising from the acquisition of subsidiaries in Group accounts is recorded at cost less any accumulated impairment losses. Goodwill is tested for impairment at each reporting date, or more frequently if events or changes in circumstances indicate that the goodwill might be impaired. Leasehold rights are amortised over the remaining lease contract on a straight-line basis. Annual amortisation rates applied on a straight-line basis to software and other intangible assets range from 20% to 50%. m) Fixed Assets Fixed assets are recorded at historical cost less accumulated depreciation less any impairment losses. Fixed assets are periodically reviewed for impairment. If the recoverable value of a fixed asset is lower than its carrying amount, the respective asset is written down to its recoverable value. Depreciation is calculated using the straight-line method based on the estimated useful life of the asset. The following depreciation rates have been applied: Category Buildings Transport vehicles Other fixed assets Annual depreciation rate 2% 20% 20% - 33% Leasehold improvements are capitalised and depreciated over the remaining lease contract period on a straight-line basis. Assets under construction are not depreciated. Certain reconstruction and renovation costs of buildings, which improve their quality and performance, are capitalised and amortised over the estimated useful life of the reconstruction works on a straight-line basis. Maintenance and repair costs are charged to the statement of income as incurred. n) Sale and Repurchase Agreements These agreements are accounted for as financing transactions. Under sale and repurchase agreements, where the Group is the transferor, assets transferred remain on the Group’s balance sheet and are subject to the Group’s usual accounting policies, with the purchase price received included as a liability owed to the transferee. Where the Group is the transferee, the assets are not included in the Group’s balance sheet, but the purchase price paid by it to the transferor is included as an asset. Interest income or expense arising from outstanding sale and repurchase agreements is recognised in the statement of income over the term of the agreement. o) Derivative Financial Instruments and Hedging In the ordinary course of business, the Group engages as a party to contracts for forward foreign exchange rate, currency and interest rate swap instruments and other financial instruments. For the accounting purposes, all derivatives are classified as held for trading purposes and accounted for as follows. Subsequent to initial recognition and measurement, outstanding forward foreign exchange rate contracts, currency swaps and other financial instruments are carried in the balance sheet at their fair value. The fair value of these instruments is recognised on the balance sheet under designated assets and liabilities caption “Derivative financial instruments”. The notional amounts of these financial instruments are reported in off-balance sheet accounts. Gains or losses from changes in the fair value of outstanding forward foreign exchange rate contracts, currency and interest rate swaps and other financial instruments are recognised in the statement of income as they arise. Hedge accounting For the purposes of hedge accounting, hedges are classified into two categories: (a) fair value hedges which hedge the exposure to changes in the fair value of a recognised asset or liability; and (b) cash flow hedges which hedge F-14 F-14 22 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 exposure to variability in cash flows that is either attributable to a particular risk associated with a recognised asset or liability or a forecasted transaction. In relation to hedges (fair value and cash flow hedges), which meet the conditions for hedge accounting, any gain or loss from re-measuring the hedging instrument to fair value is recognised immediately in the statement of income and the part of effective cash flow hedge is accounted for in equity. The hedged item is adjusted for fair value changes relating to the risk being hedged and the difference is recognised in the statement of income. Where the adjustment relates to a hedged interest-bearing financial instrument, the adjustment is amortised to the statement of income on a systematic basis so that it is fully amortised by its maturity date. For hedges, which do not qualify for hedge accounting, any gains or losses arising from changes in the fair value of the hedging instrument are taken directly to the statement of income for the period. Hedge accounting is discontinued when the hedging instrument expires or is sold, terminated or exercised, or no longer qualifies for hedge accounting. p) Borrowings The Group recognises financial liability on its balance sheet when, and only when, the Group becomes a party to the contractual provisions of the instrument. In the balance sheet borrowings are recognised initially at cost amounting to their issue proceeds net of transaction costs. Subsequently borrowings are stated at amortised cost and any difference between net proceeds and value at redemption is recognised in the statement of income over the period of borrowings using the effective interest rate. q) Off-balance Sheet Financial Commitments and Contingent Liabilities In the ordinary course of business, the Group is involved with off-balance sheet financial commitments and contingent liabilities comprising commitments to extend loans and advances, commitments for unutilised credit lines or credit card limits, financial guarantees and commercial letters of credit. Such commitments and contingent liabilities are recorded in the financial statements when the commitment is established. Commitments to extend loans and advances and commitments for unutilised credit lines or credit card limits represent contractual commitments to make loans and revolving credits. Commitments generally have fixed expiration dates, or other termination clauses. Since commitments may expire without being drawn upon, the total contract amounts do not necessarily represent future cash requirements. Financial guarantees and letters of credit commit the Group to make payments on behalf of customers contingent upon the failure of a customer to perform under the terms of the contract. Accordingly, they do not present a commitment or result in an outflow of funds until the customer defaults. The methodology for provisioning against possible losses arising from off-balance sheet financial commitments and contingent liabilities is consistent with that adopted for loans and advances to customers as described in paragraph r) below. r) Provisions Provisions are recognised when the Group has a present legal or constructive obligation as a result of past events, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation, and a reliable estimate of the amount of the obligation can be made. s) Trust Activities Funds managed by the Group on behalf of individuals, corporate customers, trusts and other institutions are not regarded as assets of the Group and, therefore, are not separately included in the balance sheet. Funds under trust management are presented in these financial statements only for disclosure purposes. t) Fair Values of Financial Assets and Liabilities Fair value represents the amount at which an asset could be exchanged or a liability settled on an arm’s length basis. Where, in the opinion of the Management, the fair values of financial assets and liabilities differ materially from F-15 F-15 23 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 their book values, such fair values are separately disclosed in the notes to the financial statements. The Management believe that the book values of balances due from banks, loans and receivables, held to maturity fixed income securities, deposits from customers, balances due to banks, issued debt securities approximates their market values. u) Cash and Cash Equivalents For the purpose of presentation in the statement of cash flows, cash and cash equivalents are defined as the amounts comprising cash and demand deposits with central banks and other credit institutions less demand deposits due to other credit institutions. v) Offsetting Financial assets and liabilities are offset and the net amount is reported in the balance sheet when there is a legally enforceable right to set off the recognized amounts and there is an intention to settle on a net basis, or to realize the asset and settle the liability simultaneously. w) Use of estimates in the preparation of financial statements The preparation of financial statements in conformity with International Financial Reporting Standards, as published by the International Accounting Standards Board, requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses and disclosure of contingencies. The significant areas of estimation used in the preparation of the accompanying financial statements relate to depreciation and evaluation of impairment for loan losses, provisions for loan commitments and stand-by facilities, as well as vacation pay accrual. Below are presented key assumptions concerning the future and other key sources of estimation uncertainty at the balance sheet date that has a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial year. The Group regularly reviews its loans and receivables to assess impairment. The Group uses its experienced judgement to estimate the amount of any impairment loss in cases where a borrower is in financial difficulties and there are few available historical data relating to similar borrowers. Similarly, the Group estimates changes in future cash flows based on the observable data indicating that there has been an adverse change in the payment status of borrowers in a group, or national or local economic conditions that correlate with defaults on assets in the group. Management uses estimates based on historical loss experience for assets with credit risk characteristics and objective evidence of impairment similar to those in the group of loans and receivables when scheduling its future cash flows. The Group uses its experienced judgement to adjust observable data for a group of loans or receivables to reflect current circumstances. F-16 F-16 24 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 Employee entitlements to regular vacations are recognised when they accrue to employees. A provision is made for the estimated liability of employee vacation pay based on unused vacations by employees up to the balance sheet date. Future events may occur which will cause the assumptions used in arriving at the estimates to change. The effect of any changes in estimates will be recorded in the financial statements, when determinable. x) Subsequent events Post-year-end events that provide additional information about the Bank’s position at the balance sheet date (adjusting events) are reflected in the financial statements. Post-year-end events that are not adjusting events are disclosed in the notes when material. NOTE 3. SUMMARY OF FINANCIAL RISK MANAGEMENT POLICIES In the ordinary course of business, the Group is exposed to various financial risks. Those financial risks include mainly credit risk, market risk and liquidity risk. In order to manage the above risks, the Management of the Group have approved the risk management policies which are briefly summarised below. a) Credit risk Credit risk relates to uncertainty in a counterparty’s ability or willingness to meet its contractual obligations, thus causing financial loss for the entities within the Group. The Group manages the level of credit risk it undertakes by establishing limits per individual counterparty, or groups of counterparties with similar characteristics, as well as for geographical segments, taking into consideration the time duration of such limits. The adequacy of limits is monitored by the Bank’s Risk Management Committee on a regular basis. Daily monitoring of compliance with established limits is carried out by the Bank’s Back Office Department. The Group’s exposure to credit risk is further reduced by obtaining adequate collaterals and guarantees, as well as by exercising rigorous monitoring procedures of the financial viability of counterparties throughout the contractual relationship. The Group’s maximum exposure to credit risk is represented by the carrying amount of each financial asset, including derivative financial instruments, in the balance sheet. Analysis of the Group’s credit exposures is presented in Notes 13, 14, 17, 30 and 33. b) Market risk Market risk is the financial risk of uncertainty in the future market value of a portfolio of assets and/or liabilities due to changes in interest rates, foreign exchange rates and price of commodities or equity instruments. The Group is mainly exposed to changes in interest rates and foreign exchange rates. The Group’s exposure to interest rate risk is managed on a daily basis by the Bank’s Treasury Department and is monitored on a regular basis by the Assets and Liabilities Management Committee. Tools used by the Treasury Department and the Committee include gap analysis, duration analysis and sensitivity analysis. Based on such analyses, the Group’s cost of funds and market situation, the Committee sets benchmark rates for lending to customers and accepting of deposits from customers, as well as provides guidelines for the management of the Bank’s investment portfolio and use of derivative financial instruments. The interest rate repricing analysis of the Group’s assets and liabilities is presented in Note 35. The Group’s exposure to foreign exchange rate fluctuations is also managed by the Treasury Department and the Assets and Liabilities Management Committee. The Committee determines limits for open positions in individual currencies as well as for total open positions. The Group’s exposure to foreign currency risk is presented in Note 36. As deemed necessary, the Group’s exposure to market risks is further reduced by utilising derivative financial instruments. F-17 F-17 25 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 c) Liquidity risk Liquidity risk relates to the ability of the Group to meet its financial obligations when they fall due without incurring substantial losses. The liquidity risk is managed by stringent monitoring and planning of the movements in the balances of demand deposits with banks and cash on hand, and by allocation of a predetermined proportion of the Group’s assets in highly liquid financial instruments and short-term deposits. Such proportion is determined based on the analysis of the maturities of the Bank’s contractual obligations, including outstanding liabilities and commitments as well as based on the potential calls for withdrawal of funds from current accounts, overnight deposits, loans and credit lines granted as well as under guarantees issued by the Group. The Group’s assets and liabilities as well as memorandum items by their remaining contractual maturities are presented in Note 34. F-18 F-18 26 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 4. INTEREST INCOME AND EXPENSE 2005 Group LVL 000’s 2005 2004 Bank Group Interest income: - interest on balances due from credit institutions and central banks - interest on loans and advances to customers - interest on fixed income securities - interest on other financial instruments Total interest income 5,776 51,636 19,711 1,776 78,899 6,082 45,962 18,695 1,776 72,515 Interest expense: - interest on balances due to credit institutions and central banks - interest on deposits from customers - interest on issued debt securities - interest on other financial instruments Total interest expense (4,875) (24,141) (1,914) (1,495) (32,425) Net interest income NOTE 5. 2004 Bank 3,555 36,997 17,708 258 58,518 4,159 32,995 16,684 258 54,096 (2,784) (15,234) (1,830) (19,848) (2,610) (14,713) (1,830) (19,153) 38,670 34,943 2005 Group LVL 000’s 2005 2004 Bank Group 2004 Bank 46,474 (5,098) (23,074) (1,914) (1,495) (31,581) 40,934 COMMISSION AND FEE INCOME AND EXPENSE Commission and fee income: - transactions with settlement cards - payment transfer fee - review of loan applications and collateral evaluation - financial consulting fees * - securities - cash disbursement/ transaction commission - service fee for account maintenance - letters of credit and guarantees - cash collection - other Total commission and fee income 11,094 9,548 10,873 8,352 8,915 8,227 8,643 7,489 3,124 2,894 2,497 1,089 915 669 393 305 32,528 2,941 2,894 2,172 930 886 611 390 30,049 2,047 1,628 1,084 814 447 309 426 23,897 1,991 1,020 924 790 447 308 21,612 Commission and fee expense: - fees related to settlement card operations - fees related to correspondent accounts - brokerage and custodian fees Total commission and fee expense (3,620) (2,146) (1,028) (6,794) (3,381) (1,956) (1,721) (7,058) (2,548) (1,956) (570) (5,074) (2,361) (1,815) (922) (5,098) Net commission and fee income 25,734 22,991 18,823 16,514 * Financial consulting fees comprise fees received by the Bank for assistance in arranging a third party financing transaction. F-19 F-19 27 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 6. PROFIT ON TRADING WITH FINANCIAL INSTRUMENTS, NET LVL 000’s 2005 2004 Bank Group 2004 Bank 3,572 3,505 1,481 1,403 4,284 4,112 5,611 5,170 8,682 7,270 6,516 5,998 (1,054) (1,054) 15,484 13,833 2005 Group 2005 Bank 2005 Group Profit from trading and revaluation of securities held for trading purposes Profit from disposal of available for sale securities Profit from foreign exchange trading and revaluation of open positions (Loss) from trading and revaluation of other financial instruments Profit on trading with financial instruments, net NOTE 7. (381) (381) 13,227 12,190 2004 Group 2004 Bank OTHER OPERATING INCOME LVL 000’s Penalties received Dividends received Safety boxes rental income Other income Total other operating income NOTE 8. 1,137 233 52 713 2,135 1,069 264 44 248 1,625 1,331 136 46 407 1,920 872 136 40 239 1,287 ADMINISTRATIVE EXPENSE Personnel expense Advertising, marketing and sponsorship Travel and representation Repairs and maintenance Communications (telephone, telex, mail) Non-refundable value added tax Rent for premises EDP maintenance Consulting and professional fees Office expense Representative office expense Security Real estate and other taxes Insurance Other administrative expense Total administrative expense 2005 Group LVL 000’s 2005 2004 Bank Group 2004 Bank 24,838 4,409 4,331 3,258 1,759 1,674 1,559 1,208 1,174 672 241 348 440 108 1,703 47,722 21,298 4,156 4,259 3,045 1,564 1,661 1,360 963 1,017 540 239 298 164 88 887 41,539 17,803 3,040 2,981 2,455 1,568 1,026 853 973 1,034 530 408 334 188 59 681 33,933 F-20 F-20 28 20,660 3,213 3,041 2,588 1,762 1,214 1,000 1,196 1,285 586 408 365 276 63 1,143 38,800 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 9. PERSONNEL EXPENSE Personnel expense includes remuneration for work to the personnel and related social security contributions and other short-term benefits costs. LVL 000’s Remuneration for work Social security contributions Total personnel expense 2005 Group 2005 Bank 2004 Group 2004 Bank 20,545 4,293 24,838 17,717 3,581 21,298 17,029 3,631 20,660 14,761 3,042 17,803 The Chairman of the Board of Directors and the Chairman of the Council of Directors of the Bank have not received any remuneration in respect of their services to the Bank. The total remuneration paid by the Bank to the members of the Council and the Board of Directors amounted to LVL 548 (408) thousand. Personnel expense has been presented in these financial statements within administrative expense. During the year ended 31 December 2005, the average number of personnel employed by the Group and the Bank was 2,438 (2,216) and 2,060 (1,914), respectively. NOTE 10. IMPAIRMENT OF FINANCIAL ASSETS AND CHANGES IN PREVIOUSLY ESTABLISHED IMPAIRMENT ALLOWANCES An analysis of the change in allowances for impairment is presented as follows: 2005 Group LVL 000’s 2005 2004 Bank Group 2004 Bank 34,054 33,029 25,865 25,091 2,722 2,674 9,109 8,672 Release Provision charged to the statement of income, net (5,347) (5,229) (1,010) (2,625) (2,555) 8,099 Change of allowance due to write-offs, net Effect of changes in currency exchange rates Total allowance for impairment at the end of the year (9,067) 504 (8,530) 504 52 38 22,866 22,448 Total allowance at the beginning of the year Charge 34,054 (715) 7,957 (65) 46 33,029 The following table provides a specification of the allowance for credit losses (all amounts in LVL 000’s): 31/12/2005 Group Bank Balances due from credit institutions Loans and advances to customers Fixed income securities Accrued interest income Other assets Memorandum items Total 2,514 16,596 2,626 1,024 106 22,866 F-21 F-21 29 2,514 16,178 2,626 1,024 106 22,448 31/12/2004 Group Bank 2,222 22,894 7,094 1,657 131 56 34,054 2,201 21,917 7,094 1,657 104 56 33,029 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 11. TAXATION Corporate income tax expense comprises the following items: LVL 000’s 2005 Group Current corporate income tax Deferred income tax Tax withheld abroad Prior year adjustments Total corporate income tax expense 3,974 (143) 534 4,365 2005 Bank 2004 Group 3,764 (187) 534 4,111 2,207 (203) 210 (8) 2,206 2004 Bank 2,020 (202) 210 (8) 2,020 The reconciliation of the Bank’s and the Group’s pre-tax profit for the year to the corporate income tax expense for the year may be specified as follows: Profit before corporate income tax (Profit)/ loss from investments in subsidiaries Adjusted profit before corporate income tax Corporate income tax (at standard rate) * Non-temporary differences, net Prior year adjustments Tax reductions (donations and other deductions) Total corporate income tax expense 2005 Group LVL 000’s 2005 2004 Bank Group 2004 Bank 37,579 37,579 5,637 34,286 34,286 5,143 18,660 419 19,079 2,862 17,124 17,124 2,569 (237) - 3 - (49) (8) 58 (8) (1,035) 4,365 (1,035) 4,111 (599) 2,206 (599) 2,020 * standard rate for the year ended 31 December 2005 was 15% (2004: 15%). The movements in deferred corporate income tax liability can be specified as follows: 2005 Group As at 1 January Charge to statement of income Charge to equity Total deferred income tax liability at the end of the year LVL 000’s 2005 2004 Bank Group 2004 Bank 905 (143) (154) 901 (187) (147) 766 (203) 342 761 (202) 342 608 567 905 901 F-22 F-22 30 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 Deferred corporate income tax assets and liabilities can be specified as follows: LVL 000’s 2005 2004 Bank Group 2004 Bank 1,249 600 1,208 564 1,287 501 1,283 501 (1,067) (174) (1,067) (138) (769) (114) 2005 Group Deferred tax liabilities: Accumulated excess of tax depreciation over accounting depreciation Revaluation of securities and derivatives Deferred tax assets: Collective impairment allowance Employee vacation pay accrual Total deferred corporate income tax liability 608 567 905 (769) (114) 901 The movements in tax accounts of the Bank during 2005 can be specified as follows (all amounts in LVL 000’s): Balance as at 31/12/2004 Corporate income tax Corporate income tax withheld abroad Social security contributions Personal income tax VAT Real estate tax Total tax receivable/ (payable) NOTE 12. 657 210 867 Calculated in 2005 (3,764) (534) (4,735) (3,583) 306 (155) (12,465) Paid in 2005 Balance as at 31/12/2005 2,357 534 4,735 3,583 155 11,364 (750) 516 (234) LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank CASH AND DEPOSITS WITH CENTRAL BANKS 31/12/2005 Group Cash Deposits with the Bank of Latvia Demand deposits with other central banks Total cash and deposits with central banks 36,891 99,271 7,917 144,079 34,660 99,271 2,904 136,835 31,103 34,346 5,332 70,781 28,918 34,346 484 63,748 According to the resolution of the Council of the Bank of Latvia, credit institutions should comply with the compulsory reserve requirement calculated on the basis of attracted deposits. This compulsory reserve must be exceeded by a credit institution’s average monthly LVL balance on its correspondent account with the Bank of Latvia. During the reporting year, the Bank was in compliance with these requirements of the Bank of Latvia. F-23 F-23 31 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 13. BALANCES DUE FROM CREDIT INSTITUTIONS 31/12/2005 Group Due from credit institutions registered in OECD countries Due from credit institutions registered in Latvia Due from credit institutions registered in other non-OECD countries Total gross balances due from credit institutions Less impairment allowance (see Note 10) Total net balances due from credit institutions LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 194,791 192,707 202,757 194,322 31,468 27,992 24,917 23,021 88,838 93,783 87,418 105,117 315,097 (2,514) 314,482 (2,514) 315,092 (2,222) 322,460 (2,201) 312,583 311,968 312,870 320,259 As at 31 December 2005, the Bank had inter-bank deposits with 7 Latvian credit institutions and 7 OECD region credit institutions. Corresponding balances comprised 100% and 85% of total balances due from credit institutions registered in Latvia and OECD, respectively. The Bank’s balances with its subsidiary Parex Bankas (Lithuania) accounted for 10% (23%) of the total balances due from credit institutions registered in other non-OECD countries. 31/12/2005 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank Correspondent accounts Overnight deposits Total demand deposits 75,849 88,465 164,314 73,999 97,373 171,372 62,731 69,642 132,373 51,400 69,640 121,040 Term deposits with credit institutions: due within 1 month due within 1-3 months due within 3-6 months due within 6-12 months due within 1-5 years over 5 years and undated Total term deposits 105,886 18,515 13,561 587 6,443 5,791 150,783 107,048 8,471 14,305 7,495 5,791 143,110 162,880 760 8,773 401 5,160 4,745 182,719 173,796 2,116 14,821 6,790 3,897 201,420 315,097 314,482 315,092 322,460 (2,222) (2,201) 312,870 320,259 Total gross balances due from credit institutions Less impairment allowance (see Note 10) Total net balances due from credit institutions (2,514) 312,583 (2,514) 311,968 Term deposits, serving as cash collateral, have been classified as “over 5 years and undated”. As at 31 December 2005, balances due from Latvian and non-OECD credit institutions totalling LVL 19,417 thousand (2004: LVL 39,188 thousand) were classified as zero risk exposures, as collateralised by deposits (see also Note 26). F-24 F-24 32 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 14. LOANS AND ADVANCES TO CUSTOMERS 31/12/2005 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank Regular loans Utilised credit lines Loans under reverse repurchase agreements Total gross loans to customers 521,749 192,493 29,777 744,019 446,494 237,162 29,173 712,829 437,541 130,818 22,862 591,221 374,091 164,634 22,782 561,507 Finance leases (see Note 15) Factoring Debit balances on settlement cards Due from investment and brokerage firms Overdraft facilities Total other loans and advances 53,831 29,952 21,912 19,328 26,816 151,839 13,809 29,686 21,305 19,123 30,384 114,307 46,338 44,237 13,876 11,951 6,964 123,366 24,901 43,672 13,530 11,951 6,705 100,759 Total gross loans and advances to customers Less impairment allowance (see Note 10) Total net loans and advances to customers 895,858 (16,596) 879,262 827,136 (16,178) 810,958 714,587 (22,894) 691,693 662,266 (21,917) 640,349 As at 31 December 2005, the Bank has issued student loans in the total amount of LVL 4,239 thousand (2004: LVL 4,712 thousand). Student loans are issued under the initiative of the Ministry of Education of the Republic of Latvia and the State Treasury. The State Treasury has arranged the necessary funding and fully assumes all risks and rewards incident to these loans. Since the Bank only acts as an agent on behalf of the Ministry of Education and State Treasury, the outstanding balances of the aforementioned loans and the corresponding deposits are not included in the Bank’s balance sheet. As at 31 December 2005, loans and advances totalling LVL 21,064 thousand (2004: LVL 20,753 thousand) or 2.4% (2004: 3%) of the Group’s and the Bank’s total portfolio of net loans and advances to customers were classified as zero risk, as collateralised by deposits (see Notes 26 and 27). The Latvian banking legislation requires that any credit exposure to a non-related entity may not exceed 25% of equity as defined by the Financial and Capital Market Commission (FCMC) (see Note 33) and the total credit exposure to all related parties, except for consolidated subsidiaries, may not exceed 15% of equity as defined by the FCMC. As at 31 December 2005, the Bank was in compliance with the above requirements. F-25 F-25 33 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The table below provides the division of outstanding loans and advances to customers by maturity profile. 31/12/2005 Group Overdue Falling due within: 1 month 1 - 3 months 3 - 6 months 6 - 12 months 1 - 5 years more than 5 years Total gross loans and advances to customers Less impairment allowance (see Note 10) Total net loans and advances to customers LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 9,752 9,416 9,812 9,335 76,001 33,180 23,187 69,394 312,817 371,527 72,860 31,656 20,658 60,280 297,225 335,041 36,704 27,364 28,850 29,021 251,821 331,015 34,387 23,835 24,129 19,635 216,159 334,786 895,858 (16,596) 879,262 827,136 (16,178) 810,958 714,587 (22,894) 691,693 662,266 (21,917) 640,349 Currently, the Bank’s information system does not provide an analysis of outstanding loans and advances to customers by their remaining maturities considering the scheduled repayments during the period of loans. Due to extensive effort required in preparation of such an analysis, the Management did not deem presentation of such analysis in these financial statements practical. Accordingly, the above table has been prepared under the assumption that all principal falls due at the final maturity date. Loans and advances by customer profile may be specified as follows: 31/12/2005 Group Government Local municipalities State owned enterprises Municipality owned enterprises Privately held companies Total gross loans and advances to corporate customers LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 1,542 4,683 13,260 18,878 558,298 634 3,400 9,298 17,326 534,216 5,145 23,431 29,029 451,845 3,409 22,426 29,029 438,393 596,661 564,874 509,450 493,257 Public and religious institutions Private individuals Total gross loans and advances to customers 14,073 285,124 13,851 248,411 14,562 190,575 14,440 154,569 895,858 827,136 714,587 662,266 Less impairment allowance (see Note 10) Total net loans and advances to customers (16,596) 879,262 (16,178) 810,958 (22,894) 691,693 (21,917) 640,349 F-26 F-26 34 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 An industry analysis of the gross portfolio of loans and advances to corporate customers before provision for possible credit losses may be specified as follows: LVL 000’s 31/12/2004 Group 31/12/2005 Group 31/12/2005 Bank 176,034 113,802 78,846 55,985 43,752 42,930 27,725 21,822 2,323 33,442 156,893 104,364 50,700 53,414 90,391 42,601 22,489 19,018 1,776 23,228 174,312 75,896 56,173 45,160 42,038 35,900 29,780 15,030 4,349 30,812 158,034 65,156 47,812 43,828 77,348 35,536 24,800 11,874 4,013 24,856 596,661 564,874 509,450 493,257 Transport and communications Real estate management Trade Manufacturing Financial intermediation Electricity, gas and water supply Construction Hotels, restaurants and entertainment Agriculture and forestry Other industries Total gross loans and advances to corporate customers 31/12/2004 Bank The following table represents geographical profile of the portfolio of loans and advances to customers analysed by the place of customers’ reported residence: 31/12/2005 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank OECD region residents Latvian residents Non-OECD region residents Total gross loans and advances to customers 108,594 510,945 276,319 98,100 515,428 213,608 89,183 416,987 208,417 85,686 417,603 158,977 895,858 827,136 714,587 662,266 Less impairment allowance (see Note 10) Total net loans and advances to customers (16,596) 879,262 (16,178) 810,958 (22,894) 691,693 (21,917) 640,349 LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank NOTE 15. FINANCE LEASES BY TYPE OF ASSETS 31/12/2005 Group Transport vehicles Real estate Manufacturing equipment Other Total present value of finance lease payments 40,568 6,378 4,183 2,702 5,799 6,159 315 1,536 27,242 8,577 942 9,577 13,254 8,577 942 2,128 53,831 13,809 46,338 24,901 F-27 F-27 35 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 16. UNEARNED INTEREST INCOME ON FINANCE LEASES 31/12/2005 Group Short-term unearned income Long-term unearned income Total unearned interest income on finance leases NOTE 17. LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 4,180 4,518 793 1,113 1,822 3,248 1,137 1,950 8,698 1,906 5,070 3,087 FIXED INCOME SECURITIES 31/12/2004 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank Government bonds Municipality bonds Credit institution bonds Corporate bonds Other financial institution bonds Managed funds Total gross fixed income securities 67,407 15,945 203,851 102,703 37,161 7,620 434,687 65,817 13,801 199,113 93,382 34,583 7,620 414,316 67,688 15,676 120,173 82,082 9,661 10,572 305,852 61,671 15,324 115,352 68,636 9,661 10,572 281,216 Less impairment allowance (see Note 10) Total net fixed income securities (2,626) 432,061 (2,626) 411,690 (7,094) 298,758 (7,094) 274,122 Managed funds represent the Group’s share in certain portfolios of fixed income securities that are managed on behalf of investors by financial institutions registered in OECD countries. The Group does not possess detailed information on these investments, therefore they are not analysed by their ultimate issuer. Fixed income securities held by the Group and the Bank are classified between held to maturity, available for sale and fair value through profit and loss (where all financial assets are held for trading) portfolio as follows: 31/12/2005 Group LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank Held for trading Available for sale Held to maturity Total gross fixed income securities 24,178 342,469 68,040 434,687 23,571 339,973 50,772 414,316 17,850 245,328 42,674 305,852 17,743 223,213 40,260 281,216 Less impairment allowance (see Note 10) Total net fixed income securities (2,626) 432,061 (2,626) 411,690 (7,094) 298,758 (7,094) 274,122 F-28 F-28 36 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The Group’s fixed income securities are further split as follows (all amounts in LVL 000’s): Held to maturity Government bonds Municipality bonds Credit institution bonds Corporate bonds Other financial institution bonds Managed funds Total gross fixed income securities 31/12/2005 Available Held for Total in for sale trading LVL 000’s 120 2,144 39,233 16,345 59,747 13,801 163,160 71,178 2,578 7,620 34,583 - 68,040 342,469 7,540 67,407 - 15,945 1,458 203,851 15,180 102,703 Held to maturity 31/12/2004 Available Held for Total in for sale trading LVL 000’s 128 352 32,935 2,224 64,470 15,211 85,777 66,814 3,090 113 1,461 13,044 67,688 15,676 120,173 82,082 37,161 7,620 7,035 9,519 3,537 142 - 9,661 10,572 24,178 434,687 42,674 245,328 17,850 305,852 - The Group’s investments in fixed income securities are analysed by listed and unlisted securities as follows (all amounts in LVL 000’s): Listed Government bonds: Latvia OECD Non-OECD Total government bonds Municipality bonds: OECD Non-OECD Total municipality bonds Credit institution bonds: Latvia OECD Non-OECD Total credit institution bonds Corporate bonds (OECD and nonOECD) Other financial institution bonds (OECD) Managed funds Total gross fixed income securities Less impairment allowance (see Note 10) Total net fixed income securities 31/12/2005 Unlisted Total Listed 31/12/2004 Unlisted Total 41,830 1,531 24,046 67,407 - 41,830 1,531 24,046 67,407 39,816 5,158 22,714 67,688 - 39,816 5,158 22,714 67,688 15,945 15,945 - 15,945 15,945 15,674 15,674 2 2 15,676 15,676 5,254 103,733 35,480 144,467 31,425 27,959 59,384 5,254 135,158 63,439 203,851 1,935 33,012 20,417 55,364 45,194 19,615 64,809 1,935 78,206 40,032 120,173 101,325 1,378 102,703 56,843 25,239 82,082 36,041 1,120 37,161 9,452 209 9,661 365,185 7,620 69,502 7,620 434,687 205,021 10,572 100,831 10,572 305,852 365,185 (2,626) 66,876 (2,626) 432,061 (1,745) 203,276 F-29 F-29 37 (5,349) 95,482 (7,094) 298,758 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 18. FIXED INCOME SECURITIES BY MATURITY PROFILE The following table provides a maturity profile of the Group’s fixed income securities as at 31 December 2005 (all amounts in LVL 000’s): Within 1 month Government bonds Municipality bonds Credit institution bonds Corporate bonds Other financial institution bonds Managed funds Total gross fixed income securities NOTE 19. 1-3 months 3-6 months 6-12 months More than 5 years 1-5 years Total portfolio 944 - 55 629 1,731 311 309 141 888 897 6,964 6,384 120,729 43,389 58,992 9,561 81,605 56,377 67,407 15,945 203,851 102,703 - - - - 27,010 4,715 10,151 2,905 37,161 7,620 944 2,415 620 1,926 209,191 219,591 434,687 SHARES AND OTHER NON-FIXED INCOME SECURITIES 31/12/2005 Group Latvian entities’ equity shares: listed unlisted Total Latvian entities’ equity shares Foreign entities’ equity shares: listed unlisted Total foreign entities’ equity shares Managed funds Total shares and other non-fixed income securities LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 1,188 468 1,656 1,188 39 1,227 900 45 945 900 39 939 13,003 607 13,610 12,158 591 12,749 3,182 107 3,289 3,166 93 3,259 15,201 15,128 7,278 7,231 30,467 29,104 11,512 11,429 Investments in managed funds, where the Group does not possess sufficient information on portfolios’ composition between fixed income securities and shares are classified as investments in shares and other non-fixed income securities. F-30 F-30 38 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The following table provides the classification of the Group's shares and other non-fixed income securities between available for sale and fair value through profit and loss (where all shares are held for trading) portfolio (all amounts in LVL 000’s): 31/12/2005 Held for trading Total 58 14 1 73 429 1,227 6,503 705 6,329 15,193 429 1,227 58 6,517 706 6,329 15,266 - 945 509 945 509 67 67 737 133 1,843 4,167 804 133 1,843 4,234 73 15,128 15,201 - 7,278 7,278 146 30,321 30,467 67 11,445 11,512 Available for sale Equity shares: in Latvian financial institutions in Latvian corporate entities in OECD financial entities in OECD corporate entities in non-OECD credit institutions in non-OECD corporate entities Total equity shares Managed funds Total shares and other non-fixed income securities Available for sale 31/12/2004 Held for trading Total Due to the fact that the Group does not possess a detailed enough specification of investments under managed funds, which are managed on the behalf of investors by financial institutions registered in OECD area, such investments are not analysed by their ultimate issuer. NOTE 20. INVESTMENTS IN SUBSIDIARIES The Bank’s investments in subsidiaries are accounted in the Bank’s separate financial statements under the cost method. Movements in the Bank’s investments in subsidiaries may be specified as follows: LVL 000’s 2005 2004 Balance as at 1 January (as earlier reported) - 8,248 Effect of adoption of revised standards (Note 2) - 134 18,559 8,382 Acquisitions and investments 2,988 10,177 Balance as at 31 December 21,547 18,559 Balance as at 1 January (adjusted – note 2) In 2005, Parex Group entities Parex Asset Management and Parex ieguldƯjumu pƗrvaldes sabiedrƯba were merged into one entity – IPAS Parex Asset Management (PAM). The share capital of PAM was increased by LVL 2,306 thousand. The funding was used mostly for establishing two 100% owned subsidiaries – AS Parex Dziviba and SIA E&P Baltic Properties. As such, AS Parex Dziviba and SIA E&P Baltic Properties are 100% indirectly owned by the Bank. The key operations of AS Parex Dziviba will be providing life insurance services. However, till the end of year 2005 no operations had been carried out by AS Parex Dziviba. During 2005, the Bank established/ acquired several leasing companies in CIS countries – Parex Leasing ("ɉɚɪɟɤɫ Ʌɢɡɢɧɝ") (Moscow, Russia); Extroleasing ("ɗɤɫɬɪɨɥɢɡɢɧɝ") (Moscow, Russia); Ekspress leasing ("ɗɤɫɩɪɟɫɫ ɥɢɡɢɧɝ") (St. Petersburg, Russia), Lasca Leasing ("Ʌɚɫɤɚ Ʌɿɡɢɧɝ") (Kiev, Ukraine), Parex Leasing ("ɉɚɪɟɤɫ Ʌɢɡɢɧɝ") (Minsk, Belarus), Parex Leasing and Factoring ("ɉɚɪɟɤɫ Ʌɢɡɢɧɝ ɷɧɞ Ɏɚɤɬɨɪɢɧɝ") (Baku, Azerbaijan). The total amount of investment amounted to LVL 482 thousand, which as at respective acquisition date approximated the fair value of the net assets acquired. F-31 F-31 39 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 As at 31 December 2005 and 2004, the Bank held the following investments in subsidiaries: As at 31/12/2005 Company Country of registration AB Parex Bankas AP Anlage & Privatbank AG AS Parex atklƗtais pensiju fonds IPAS Parex Asset Management Parex Asset Management Parex Asset Management UAB Parex Investiciju valdymas OU Parex Leasing & Factoring UAB Parex Faktoringas ir Lizingas Lithuania Switzerland Latvia Latvia Russia Ukraine Lithuania Estonia Lithuania SIA Parex brokeru sistƝma Latvia UAB Parex brokeriu sistema Regalite Holdings Ltd. Calenia Investments Limited SIA Parex Express KredƯts SIA E & P Baltic Properties SIA Parex lƯzings un faktorings AS Parex DzƯvƯba OOO Laska Lizing OOO Ekspress Lizing OOO Pareks Lizing and Faktoring OOO Pareks Lizing IOOO Pareks Lizing OOO Ekstrolizing Lietuva Cyprus Cyprus Latvia Latvia Latvija Latvia Ukraine Russia Azerbaijan Russia Byelorussia Russia Netherlands Antilles United Kingdom Lithuania Parex Global Opportunities Fund Parex Group Representation Ltd. UAB Parex Lizingas Business profile Share capital in LVL 000’s The Bank’s share (%) % of total voting rights Investment acquisition value in LVL 000’s 31/12/2005 6,324 4,472 450 4,150 618 525 449 351 306 100.0 100.0 99.6 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 99.6 100.0 100.0 100.0 100.0 100.0 100.0 4,981 9,677 451 4,151 287 313 282 4,981 9,677 451 1,845 287 313 282 120 91.7 91.7 110 110 2 6 1 31 20 200 2,500 7 72 31 143 12 - 91.7 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 91.7 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 613 200 6 76 26 141 11 222 613 - - 100.0 100.0 - - 765 100.0 51.0 100.0 - - 21,547 18,559 Banking Banking Pension fund Finance Finance Finance Finance Finance Finance Custom brokerage services Custom brokerage services Finance Finance Leasing Finance Leasing Life insurance Leasing Leasing Leasing Leasing Leasing Leasing Finance Representative office Leasing Total investments in subsidiaries Investment acquisition value in LVL 000’s 31/12/2004 The financial statements of AS Parex banka and its subsidiaries, except for UAB Parex Lizingas, are consolidated in the Group’s financial statements on a line by line basis by adding together like items of assets and liabilities as well as income and expenses. The Group’s loss from subsidiaries in 2004 in the amount of LVL 419 thousand represents a write-off of the investment in unconsolidated subsidiary UAB Parex Lizingas. Any outstanding receivable balances from the aforementioned entity have been 100% provided for as at 31 December 2004. There has been no movement in respect to the investment and receivable outstanding balances during 2005. F-32 F-32 40 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 21. INTANGIBLE ASSETS 31/12/2005 Group Goodwill from acquisition of subsidiaries: AP Anlage & Privatbank AG AB Parex Bankas SIA Parex LƯzings LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 1,246 35 123 1,404 - 1,246 35 123 1,404 - Software Other intangible assets 1,359 10 1,218 2 1,994 15 1,817 14 Total intangible assets excluding prepayments Prepayments for intangible assets Total net book value of intangible assets 2,773 32 2,805 1,220 3 1,223 3,413 84 3,497 1,831 83 1,914 Movements in the Group’s intangible assets excluding prepayments for the year ended 31 December 2005 can be specified as follows (all amounts in LVL 000’s): Goodwill from acquisition of subsidiaries Software Other intangible assets Total intangible assets excluding prepayments Historical cost As at 1 January 2005 Additions Disposals As at 31 December 2005 2,552 2,552 5,590 500 6,090 37 3 (3) 37 8,179 503 (3) 8,679 Accumulated amortisation As at 1 January 2005 Charge for the year Reversal due to disposals As at 31 December 2005 1,148 1,148 3,596 1,135 4,731 22 7 (2) 27 4,766 1,142 (2) 5,906 Net book value As at 1 January 2005 As at 31 December 2005 1,404 1,404 1,994 1,359 15 10 3,413 2,773 NOTE 22. FIXED ASSETS 31/12/2005 Group Leasehold improvements Land and buildings Transport vehicles Other fixed assets Total fixed assets excluding prepayments Prepayments for fixed assets Total net book value of fixed assets LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 1,797 12,055 2,795 7,000 1,796 9,507 2,370 6,004 1,787 10,875 2,524 7,751 1,787 8,276 2,230 6,946 23,647 124 23,771 19,677 111 19,788 22,937 232 23,169 19,239 213 19,452 F-33 F-33 41 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The following changes in the Group’s fixed assets excluding prepayments for fixed assets took place during the year ended 31 December 2005 (all amounts in LVL 000’s): Leasehold Improvements Land and buildings Transport vehicles Other fixed assets Total fixed assets excluding prepayments Historical cost As at 1 January 2005 Additions Disposals As at 31 December 2005 2,855 1,128 (921) 3,062 12,390 1,531 (134) 13,787 4,797 1,407 (562) 5,642 24,641 2,919 (1,019) 26,541 44,683 6,985 (2,636) 49,032 Accumulated depreciation As at 1 January 2005 Charge for the year Reversal due to disposals As at 31 December 2005 1,068 490 (293) 1,265 1,515 218 (1) 1,732 2,273 878 (304) 2,847 16,890 3,619 (968) 19,541 21,746 5,205 (1,566) 25,385 Net book value As at 1 January 2005 As at 31 December 2005 1,787 1,797 2,524 2,795 7,751 7,000 22,937 23,647 10,875 12,055 The following changes in the Group’s fixed assets excluding prepayments for fixed assets took place during the year ended 31 December 2004 (all amounts in LVL 000’s): Leasehold Improvements Land and buildings Transport vehicles Other fixed assets Total fixed assets excluding prepayments Historical cost As at 1 January 2004 Additions Disposals As at 31 December 2004 1,931 924 2,855 12,257 309 (176) 12,390 4,423 965 (591) 4,797 21,693 3,264 (316) 24,641 40,304 5,462 (1,083) 44,683 Accumulated depreciation As at 1 January 2004 Charge for the year Reversal due to disposals As at 31 December 2004 623 445 1,068 1,301 217 (3) 1,515 2,098 719 (544) 2,273 13,553 3,644 (307) 16,890 17,575 5,025 (854) 21,746 Net book value As at 1 January 2004 As at 31 December 2004 1,308 1,787 2,325 2,524 8,140 7,751 22,729 22,937 10,956 10,875 F-34 F-34 42 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The following changes in the Bank’s fixed assets excluding prepayments for fixed assets took place during the year ended 31 December 2005 (all amounts in LVL 000’s): Leasehold Improvements Land and buildings Transport vehicles Other fixed assets Total fixed assets excluding prepayments Historical cost As at 1 January 2005 Additions Disposals As at 31 December 2005 2,855 1,127 (921) 3,061 9,645 1,539 (134) 11,050 4,382 1,171 (507) 5,046 22,711 2,337 (835) 24,213 39,593 6,174 (2,397) 43,370 Accumulated depreciation As at 1 January 2005 Charge for the year Reversal due to disposals As at 31 December 2005 1,068 490 (293) 1,265 1,369 175 (1) 1,543 2,152 788 (264) 2,676 15,765 3,272 (828) 18,209 20,354 4,725 (1,386) 23,693 Net book value As at 1 January 2005 As at 31 December 2005 1,787 1,796 8,276 9,507 2,230 2,370 6,946 6,004 19,239 19,677 The following changes in the Bank’s fixed assets excluding prepayments for fixed assets took place during the year ended 31 December 2004 (all amounts in LVL 000’s): Leasehold Improvements Land and buildings Transport vehicles Other fixed assets Total fixed assets excluding prepayments Historical cost As at 1 January 2004 Additions Disposals As at 31 December 2004 1,931 924 2,855 9,510 311 (176) 9,645 4,185 788 (591) 4,382 19,892 3,020 (201) 22,711 35,518 5,043 (968) 39,593 Accumulated depreciation As at 1 January 2004 Charge for the year Reversal due to disposals As at 31 December 2004 623 445 1,068 1,195 177 (3) 1,369 2,013 683 (544) 2,152 12,657 3,307 (199) 15,765 16,488 4,612 (746) 20,354 Net book value As at 1 January 2004 As at 31 December 2004 1,308 1,787 8,315 8,276 2,172 2,230 7,235 6,946 19,030 19,239 F-35 F-35 43 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 23. PREPAYMENTS AND ACCRUED INCOME 31/12/2005 Group Accrued interest income Prepayments Other accrued income Total gross prepayments and accrued income Less impairment allowance (see Note 10) Total prepayments and accrued income NOTE 24. 31/12/2004 Bank 6,671 4,186 507 6,604 3,609 149 6,547 3,298 146 6,237 3,280 146 11,364 10,362 9,991 9,663 (1,024) 10,340 (1,024) 9,338 (1,657) 8,334 (1,657) 8,006 LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank OTHER ASSETS 31/12/2005 Group Spot exchange contracts Repossessed assets for sale Money in transit Other assets Total gross other assets Less impairment allowance (see Note 10) Total net other assets NOTE 25. LVL 000’s 31/12/2005 31/12/2004 Bank Group 482 251 967 4,810 6,510 482 165 765 2,554 3,966 337 223 1,304 1,864 337 185 1,115 1,637 (106) 6,404 (106) 3,860 (131) 1,733 (104) 1,533 ISSUED DEBT SECURITIES In March 2005, the Bank issued debt securities in amount of LVL 5 million. The debt matures in March 2008 and pays fixed interest of 4.25% p.a. Further, in June 2005, the Bank issued Eurobonds in amount of EUR 100 million. The debt matures in June 2008 and pays fixed interest of 4.375% p.a. Based on Bank’s policies to keep certain level of its debt at floating rates, the Bank engaged in interest rate swap transaction, whereby swapped certain part of the fixed coupon payments to EURIBOR. The derivative was designated as hedge instrument and the effective part of it adjusts the outstanding amount of the issued EUR debt securities (see also Note 30). NOTE 26. BALANCES DUE TO CREDIT INSTITUTIONS AND CENTRAL BANKS 31/12/2005 Group Due to credit institutions registered in OECD countries Due to credit institutions registered in Latvia Due to credit institutions registered in other non-OECD countries Total balances due to credit institutions and central banks LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 197,735 21,031 188,992 20,026 86,077 25,103 83,100 24,804 44,230 49,746 61,070 54,759 262,996 258,764 172,250 162,663 F-36 F-36 44 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The following table presents the Group’s balances due to credit institutions according to maturity profile: Due to credit institutions registered in: OECD Other countries Latvia countries Balances on demand Overnight deposits Total balances repayable on demand LVL 000’s Total Total 31/12/2005 31/12/2004 1,445 1,445 1,514 1,512 3,026 4,809 285 5,094 7,768 1,797 9,565 44,514 6,000 50,514 Loans from credit institutions: due within 1 month due within 1-3 months due within 3-6 months due within 6-12 months due within 1-5 years Total loans from credit institutions 1,374 53,917 1,778 139,221 196,290 16,225 1,097 406 277 18,005 33,202 4 5,930 39,136 50,801 55,018 1,778 139,627 6,207 253,431 33,542 3,967 360 83,307 560 121,736 Total due to credit institutions 197,735 21,031 44,230 262,996 172,250 On 15 February 2005, the Bank received a syndicated loan from Mizuho Corporate Bank Ltd. maturing on 14 February 2006 and bearing an interest rate of 6 month LIBOR plus a margin of 0.65% per annum. On 4 July 2005, the bank received other syndicated loan from ING Bank N.V. maturing on 3 July 2006 and bearing an interest rate of 6 month LIBOR plus a margin of 0.60% per annum. The outstanding balance of the syndicated loans, amounting to EUR 181,323 thousand (2004: EUR 117,000 thousand), comprises 96% (2004: 99%) of the Bank’s total balances due to credit institutions registered in OECD countries as at 31 December 2005. As at 31 December 2005, the Bank had outstanding balances due to 6 credit institutions registered in Latvia and 9 credit institutions registered in other non-OECD countries. The above deposits comprised 94% and 77% of the total balances due to credit institutions registered in Latvia and in other non-OECD countries, respectively. As at 31 December 2005, the Bank held restricted balances due to credit institutions amounting to LVL 18,581 thousand (2004: LVL 42,284 thousand) that are dependent upon the repayment of outstanding balances due from credit institutions and loans and advances to customers. NOTE 27. DEPOSITS FROM CUSTOMERS 31/12/2005 Group Demand deposits Term deposits: due within 1 month due within 1-3 months due within 3-6 months due within 6-12 months due within 1-5 years due in more than 5 years Total term deposits Total deposits from customers LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 939,778 894,932 874,764 840,648 154,135 34,892 74,087 92,096 21,284 1,652 378,146 1,317,924 146,645 29,062 71,342 87,860 22,167 7 357,083 1,252,015 68,691 33,239 45,229 67,164 15,204 1,280 230,807 1,105,571 65,961 29,695 42,605 64,689 13,385 1,273 217,608 1,058,256 F-37 F-37 45 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The following table presents deposits from customers according to customer profile: 31/12/2005 Group Government Municipalities Financial institutions State owned enterprises Public and religious institutions Privately held companies Private individuals Total deposits from customers 2,792 8,922 17,172 24,106 6,281 925,954 332,697 1,317,924 LVL 000’s 31/12/2005 31/12/2004 Bank Group 1,935 8,650 18,306 23,851 5,963 881,334 311,976 1,252,015 26,523 15,360 14,769 9,547 8,323 765,346 265,703 1,105,571 31/12/2004 Bank 26,523 15,360 17,090 8,696 7,961 733,750 248,876 1,058,256 The following table provides the split of deposits from customers by their place of residence. 31/12/2005 Group Latvian residents Non-residents Total deposits from customers 388,280 929,644 1,317,924 LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 317,763 787,808 1,105, 571 319,189 739,067 1,058,256 392,201 859,814 1,252,015 As at 31 December 2005, the Bank held restricted deposits amounting to LVL 21,111 thousand (2004: LVL 18,390 thousand) that are dependent upon repayment of outstanding balances due from customers. NOTE 28. OTHER LIABILITIES 31/12/2005 Group Suspense liabilities Spot exchange contracts Money in transit Other liabilities Total other liabilities 1,633 457 9,124 6,491 17,705 LVL 000’s 31/12/2005 31/12/2004 Bank Group 1,633 457 4,169 1,238 7,497 1,502 297 7,158 2,691 11,648 31/12/2004 Bank 1,501 304 3,952 1,817 7,574 Suspense liabilities comprise funds received by the Group and the Bank as at year end, but not transferred to ultimate beneficiaries due to unclear or incomplete details of the supporting documentation. NOTE 29. PAID-IN SHARE CAPITAL As at 31 December 2005, the Bank’s registered and paid-in share capital was LVL 65,027 thousand. In accordance with the Bank’s statutes, the share capital consists of 60,633 thousand ordinary shares with voting rights and 4,394 thousand ordinary shares without voting rights. All shares have a par value of LVL 1 each and, as at 31 December 2005, they all were issued and fully paid. As at 31 December 2005, the Bank did not possess any of its own shares. F-38 F-38 46 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 As at 31 December 2005, the Bank had 65 (69) shareholders. The respective shareholdings as at 31 December 2005 and 2004 may be specified as follows: Paid-in share capital (LVL 000’s) 31/12/2005 % of total paid-in capital % of total voting rights Paid-in share capital (LVL 000’s) 31/12/2004 % of total paid-in capital % of total voting rights Valery Kargin Viktor Krasovitsky Other 27,887 27,887 9,253 42.89 42.89 14.22 45.99 45.99 8.02 27,887 27,887 9,253 42.89 42.89 14.22 45.99 45.99 8.02 Total 65,027 100.00 100.00 65,027 100.00 100.00 NOTE 30. MEMORANDUM ITEMS Memorandum items comprise contingent liabilities, financial commitments, foreign exchange contracts and derivative financial instruments. The following table provides a specification of contingent liabilities and financial commitments outstanding as at 31 December 2005 and 2004. 31/12/2005 Group Contingent liabilities: Outstanding guarantees Outstanding letters of credit Total contingent liabilities Financial commitments: Loans granted not fully drawn down Unutilised credit lines and overdraft facilities Credit card commitments Other financial commitments Financial commitments LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 18,503 2,612 21,115 18,669 2,612 21,281 21,281 4,619 25,900 21,269 4,619 25,888 37,797 115,683 37,344 190,824 30,275 129,783 37,650 197,708 26,730 80,495 18,065 6 125,296 23,193 86,561 18,065 6 127,825 The following table presents the notional amounts and fair values of foreign exchange contracts and derivative financial instruments. The notional amounts of foreign exchange contracts represent the amounts receivable under these contracts. The notional amounts of other financial instruments represent the value of the underlying assets. Notional amount LVL 000’s 31/12/2005 31/12/2004 Group Bank Group Bank Foreign exchange contracts: Spot exchange 103,111 Forwards 17,616 Swaps 582,360 Total foreign exchange contracts 703,087 Other financial instruments: Futures, sold Interest rate swaps FRA Total other financial instruments Fair value LVL 000’s 31/12/2005 31/12/2004 Group Bank Group Bank 125,225 22,602 569,574 93,019 182,884 529,098 92,878 184,011 539,856 (49) 28 (252) (77) 25 (255) 40 (724) (1,322) 33 (720) (1,329) 717,401 805,001 816,745 (273) (307) (2,006) (2,016) 2,887 95,098 7,028 2,887 95,098 7,028 8,242 17,350 - 8,242 17,350 - (21) (1,479) (4) (21) (1,321) (4) (15) 156 - (15) 156 - 105,013 105,013 25,592 25,592 (1,504) (1,346) 141 141 F-39 F-39 47 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The fair value on foreign exchange contracts is presented in balance sheet as follows: Assets LVL 000’s 31/12/2005 31/12/2004 Group Bank Group Bank Other assets Derivative financial instruments Total 482 564 1,046 482 698 1,180 337 1,405 1,742 Liabilities LVL 000’s 31/12/2005 31/12/2004 Group Bank Group Bank 337 1,414 1,751 (457) (2,366) (2,823) (457) (2,376) (2,833) (297) (3,310) (3,607) (304) (3,322) (3,626) The following table represents geographical profile of the Group’s memorandum items based on the customer’s/ counter party’s reported residence as at 31 December 2005: OECD countries Latvia Other non-OECD countries Total LVL 000’s Contingent liabilities: Outstanding guarantees Outstanding letters of credit Total contingent liabilities 3,344 1,194 4,538 10,029 710 10,739 5,130 708 5,838 18,503 2,612 21,115 Financial commitments: Loans granted not fully drawn down Unutilised credit lines and overdraft facilities Credit card commitments Other financial commitments Financial commitments 43 1,724 558 2,325 28,512 99,404 35,219 163,135 9,242 14,555 1,567 25,364 37,797 115,683 37,344 190,824 Foreign exchange contracts: Spot exchange Forwards Swaps Total foreign exchange contracts 56,284 10,729 268,805 335,818 15,411 1,582 81,365 98,358 31,416 5,305 232,190 268,911 103,111 17,616 582,360 703,087 Futures, sold Interest rate swaps FRA Total other financial instruments 2,887 95,098 7,028 105,013 - - 2,887 95,098 7,028 105,013 Hedging At 31 December 2005, the Bank had an interest rate swap agreement in place with a notional amount of EUR 100 million whereby it receives a fixed rate of interest of 2.37% and pays a variable rate equal to EURIBOR on the notional amount. The swap is being used to maintain certain level of the Bank’s total debt at floating rates. The issued debt securities and interest rate swap have the same critical terms. F-40 48 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 31. FUNDS UNDER TRUST MANAGEMENT Under IFRS, funds managed by a trustee on behalf of individuals, trusts and other institutions are not regarded as assets of the trustee and, therefore, are not included in its balance sheet. The table below provides analysis of the funds managed on behalf of customers by investment type: 31/12/2005 Group Fixed income securities: Government bonds Foreign municipality bonds Credit institution bonds Corporate bonds Other financial institution bonds Managed funds Total investments in fixed income securities Other investments: Deposits with credit institutions Loans to corporate entities Loans to financial institutions Real estate Shares Other Total other investments Total assets under trust management agreements LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 22,696 2,566 34,911 25,211 22,737 175 - 7,625 1,364 3,850 17,717 123 1,781 30 22 108,121 175 32,460 52 12,332 1,818 16,898 24,007 2,877 57,932 1,818 596 424 2,838 2,676 129,301 2,295 3,148 634 138,054 129,301 2,064 412 131,777 166,053 3,013 170,514 131,829 The table below provides an analysis of the customer profile on whose behalf the funds are managed: 31/12/2005 Group Privately held companies Private individuals Investors of investment funds Financial institutions Total liabilities under trust management agreements NOTE 32. LVL 000’s 31/12/2005 31/12/2004 Bank Group 31/12/2004 Bank 46,847 34,718 64,469 20,019 1,466 951 596 144,475 11,328 12,169 2,542 129,725 40 2,064 166,053 3,013 170,514 131,829 CASH AND CASH EQUIVALENTS The table below provides a breakdown of cash and cash equivalents as at 31 December 2005 and 2004: 31/12/2005 Group Cash and demand deposits with central banks Demand deposits with other credit institutions Demand deposits due to other credit institutions Total cash and cash equivalents 144,079 164,314 (9,565) 298,828 F-41 F-41 49 LVL 000’s 31/12/2005 31/12/2004 Bank Group 136,835 171,372 (14,674) 293,533 70,781 132,373 (50,514) 152,640 31/12/2004 Bank 63,748 121,040 (49,745) 135,043 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 33. CAPITAL ADEQUACY Capital adequacy refers to the sufficiency of the Group’s capital resources to cover the credit risks and market risks arising from the portfolio of assets and the off-balance sheet exposures. The Financial and Capital Markets Commission’s , the bank regulator, regulations require Latvian banks to maintain a capital adequacy ratio based on financial statements prepared under Latvian accounting standards of 8% of risk weighted assets. Since the Bank has subsidiaries, which are financial institutions, it should comply with the regulatory requirements based on both the Group’s financial statements and the Bank’s financial statements as a stand-alone entity. As at 31 December 2005, the Group’s capital adequacy ratio in accordance with the FCMC’s requirements was 11.1% (2004: 11.9%). At the same time, the Bank’s capital adequacy ratio without taking into account the Bank’s investments in subsidiaries and calculated in accordance with the FCMC’s requirements was 11.7% (2004: 12.5%). As at 31 December 2005, the Group’s capital adequacy ratio based on Basle Committee guidelines was 11.7% (2004: 12.2%), whereas the Bank’s capital adequacy ratio without taking into account the Bank’s investments in subsidiaries was 12.2% (2004: 12.8%). The minimum capital adequacy recommended by the 1988 Basle Committee guidelines is 8%. Based on the guidelines set forth by the Financial and Capital Markets Commission, the capital adequacy has been calculated as follows (comparative data for 2004 are stated at amounts before restatements (see Note 2)): Description 31/12/2005 Group Bank Tier 1 - paid-in share capital - share premium - audited retained earnings (not subject to dividend distribution) - audited profit for the year (not subject to dividend distribution) - minority interest Less - intangible assets (as defined by FCMC) Total Tier 1 Tier 2 - fair value revaluation reserve (restricted to 55%) Total Tier 2 Equity to be utilised in the capital adequacy ratio as per FCMC Capital adequacy under the FCMC’s requirements Total credit risk capital charge Risk weighting 8% 31/12/2004 Group Bank 65,027 12,694 44,786 33,214 12 65,027 12,694 43,772 30,175 - 65,027 12,694 28,334 16,452 13 65,027 12,694 28,334 16,452 - (2,805) 152,928 (1,223) 150,445 (3,497) 119,023 (3,318) 119,189 1,297 1,297 1,377 1,377 2,127 2,127 2,127 2,127 154,225 151,822 121,150 121,316 Risk weighted balance LVL 000’s 31/12/2005 101,298 95,121 Risk weighted balance LVL 000’s 31/12/2004 76,926 73,587 Foreign currency open positions subject to capital charge 2,125 1,661 1,206 1,044 Fixed income securities position risk capital charge 3,394 3,250 1,462 1,453 Equity position risk capital charge 4,087 3,882 1,447 1,438 117 117 129 129 Total capital charges 111,021 104,031 81,170 77,651 Equity to be utilised in the capital adequacy ratio 154,225 151,822 121,150 121,316 11.1% 11.7% 11.9% 12.5% Derivatives counterparty risk capital charges Capital Adequacy Ratio (Equity/Total capital charges) x 8% F-42 F-42 50 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 Based on the guidelines set forth by the Basle Committee, the capital adequacy has been calculated as follows (comparative data for 2004 are stated at amounts before restatements (see Note 2)): Description 31/12/2005 Group Bank Tier 1 - paid-in share capital - share premium - audited retained earnings (not subject to dividend distribution) - audited profit for the year (not subject to dividend distribution) - minority interest Less - intangible assets (as defined by Basle Committee) Total Tier 1 31/12/2004 Group Bank 65,027 12,694 44,786 33,214 12 65,027 12,694 43,772 30,175 - 65,027 12,694 28,334 16,452 13 65,027 12,694 28,334 16,452 - (1,404) 154,329 151,668 (1,404) 121,116 (1,404) 121,103 Tier 2 - fair value revaluation reserve (restricted to 55%) 1,297 1,377 2,127 2,127 - portfolio risk reserve (restricted to 1.25% of risk weighted assets) Total Tier 2 6,457 7,754 6,417 7,794 5,356 7,483 5,127 7,254 162,083 159,462 128,599 128,357 Equity to be utilised in the capital adequacy ratio as per Basle Committee Capital adequacy under the Basle’s requirements Total credit risk capital charge Risk weighting 8% Risk weighted balance LVL 000’s 31/12/2005 101,321 95,873 Risk weighted balance LVL 000’s 31/12/2004 79,794 76,432 Foreign currency open positions subject to capital charge 2,125 1,661 1,206 1,044 Fixed income securities position risk capital charge 3,394 3,250 1,462 1,453 Equity position risk capital charge 4,087 3,882 1,447 1,438 117 117 129 129 Total capital charges 111,044 104,783 84,038 80,496 Equity to be utilised in the capital adequacy ratio 162,083 159,462 128,599 128,357 11.7% 12.2% 12.2% 12.8% Derivatives counterparty risk’s capital charges Capital Adequacy Ratio (Equity/Total capital charges) x 8% F-43 F-43 51 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 34. ASSETS, LIABILITIES AND MEMORANDUM ITEMS BY MATURITY STRUCTURE The relationship between the maturity of assets and liabilities as well as memorandum items is indicative of liquidity risk and the extent to which it may be necessary to raise funds to meet outstanding obligations. The table below allocates the Group’s assets, liabilities and memorandum items as at 31 December 2005 and 2004 to maturity groupings based on the time remaining from the balance sheet date to the contractual maturity dates. Within 1 month Assets Cash and deposits with central banks Balances due from credit institutions Loans and advances to customers Fixed income securities Shares and other non-fixed income securities Derivative financial instruments Intangible assets Fixed assets Prepayments and accrued income Other assets Total assets 1-3 months 144,079 267,686 79,044 944 17,034 361 7,398 2,014 18,515 32,531 2,220 131 2,079 223 3-6 months 13,561 22,786 620 32 633 - 6-12 months 587 68,627 2,898 5 94 241 Over 5 years and Total in undated LVL 000’s 1-5 years 6,443 309,008 214,297 73 35 16 3,871 5,791 367,266 211,082 13,360 2,805 23,771 120 55 144,079 312,583 879,262 432,061 30,467 564 2,805 23,771 10,340 6,404 518,560 55,699 37,632 72,452 533,743 624,250 1,842,336 Liabilities Balances due to credit institutions and central banks Deposits from customers Issued debt securities Derivative financial instruments Accrued expense and deferred income Current income tax liabilities Deferred income tax liabilities Provision for liabilities and charges Other liabilities 60,366 1,093,913 741 3,820 772 109 13,878 55,018 34,892 200 378 466 1,778 74,087 65 2,183 73 139,627 92,096 5 475 1,739 6,207 21,284 74,070 1,355 656 1,537 262,996 1,652 1,317,924 74,070 2,366 183 7,695 772 608 608 109 12 17,705 Total liabilities 1,173,599 90,954 78,186 233,942 105,109 2,455 1,684,245 Minority interest - - - - - 12 12 Shareholders’ equity - - - - - 158,079 158,079 1,179,529 90,954 78,186 233,942 99,179 19,811 387 476 134 307 - 21,115 190,824 - - - - - 190,824 407,045 1,043,489 1,043,089 30,966 38,488 38,488 41,081 46,165 46,165 39,591 150,725 150,725 405,929 16,847 16,847 Total liabilities and shareholders’ equity 160,546 1,842,336 Memorandum items Contingent liabilities Financial commitments As at 31 December 2004 Total assets Total liabilities Total liabilities and shareholders’ equity 499,869 1,424,481 2,380 1,298,094 128,767 1,424,481 Currently, the Group’s and Bank’s information system does not provide an analysis of outstanding loans and advances to customers by their remaining maturities considering the scheduled repayments during the period of loans. Due to extensive effort required in preparation of such an analysis, presentation of such analysis in these financial statements was not deemed practical by the Management. Accordingly, the above table has been prepared under the assumption that all principal falls due at the final maturity date. F-44 F-44 52 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 35. REPRICING MATURITY OF ASSETS AND LIABILITIES Interest rate risk is the sensitivity of the financial position of the Bank and its subsidiaries to the change in market interest rates. In the normal course of business, the Bank and its subsidiaries encounter interest rate risk as a result of differences within maturities or interest re-fixing dates of respective interest sensitive assets and liabilities. The interest rate risk is managed through the activities of the Bank’s Treasury department. The table below allocates the Group’s assets and liabilities as at 31 December 2005 and 2004 to maturity groupings based on the time remaining from the balance sheet date to the closest interest re-fixing date. 6-12 3-6 1-3 Within 1 month months months months Assets Cash and deposits with central banks Balances due from credit institutions Loans and advances to customers Fixed income securities Shares and other non-fixed income securities Derivative financial instruments Intangible assets Fixed assets Prepayments and accrued income Other assets Total assets Liabilities Balances due to credit institutions and central banks Deposits from customers Issued debt securities Derivative financial instruments Accrued expense and deferred income Current income tax liabilities Deferred income tax liabilities Provision for liabilities and charges Other liabilities Total liabilities Effective interest rate Total in LVL 000’s Noninterest bearing More than 5 years 1-5 years 107,188 200,851 6,081 14,816 144,858 237,455 321,705 14,653 78,797 9,352 8,108 23,920 87,184 61,084 34,085 158,979 122,191 467,550 322,333 345,873 - 30,467 30,467 564 564 2,805 2,805 - 23,771 23,771 - 10,340 10,340 6,404 6,404 58,005 254,271 183,275 211,029 1,842,336 235,839 11,095 113,919 273,756 349,758 284,851 1,823 1,184 89,259 37,082 - 74,070 91,082 112,336 1,834 70,220 72,054 36,891 82,727 3,056 14,004 144,079 312,583 879,262 432,061 - 11,221 262,996 13 733,675 1,317,924 74,070 2,366 2,366 7,695 7,695 772 772 608 608 109 109 - 17,705 17,705 13 774,151 1,684,245 1.6% 2.6% 6.4% 4.6% - 2.5% 2.1% 5.1% - Minority interest - - - - - - 12 12 - Shareholders’ equity - - - - - - 158,079 158,079 - Total liabilities and shareholders’ equity 349,758 284,851 72,054 Futures Interest rate swaps As at 31 December 2004 Total assets Total liabilities Total liabilities and shareholders’ equity Futures Interest rate swaps 5,930 2,887 5,9 83,238 412,925 194,160 319,415 400,456 38,569 54,101 400,456 38,569 54,101 8,242 (5,160) (12,190) F-45 F-45 53 - 91,082 112,336 - - 13 932,242 1,842,336 - - - 40,125 163,604 149,626 144,626 1,424,481 70,688 21,182 1,269 711,829 1,298,094 70,688 21,182 1,269 838,216 1,424,481 - (1,591) (6,651) - 17,350 - - - AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 NOTE 36. CURRENCY PROFILE The following table provides an analysis of the Group’s assets and liabilities and shareholders’ equity as well as memorandum items outstanding as at 31 December 2005 and 2004 by currency profile: LVL EUR USD GBP RUB Total in LVL 000’s Other Assets Cash and deposits with central banks Balances due from credit institutions Loans and advances to customers Fixed income securities Shares and other non-fixed income securities Derivative financial instruments Intangible assets Fixed assets Prepayments and accrued income Other assets Total assets 114,013 8,051 115,479 56,524 1,302 552 2,665 19,980 3,566 3,343 325,475 7,482 10,588 210,146 30,407 337,818 379,435 270,530 92,314 15,219 6,214 2,945 2,878 322 844,140 522,158 1,043 11,975 10 4,395 356 3 672 18,454 352 10,601 144,079 18,334 33,670 312,583 3,510 43,010 879,262 6,479 1,819 432,061 679 6,697 30,467 12 564 2 138 2,805 47 3,744 23,771 104 844 10,340 1,645 422 6,404 31,152 100,957 1,842,336 Liabilities Balances due to credit institutions and central banks Deposits from customers Issued debt securities Derivative financial instruments Accrued interest expense and deferred income Current income tax liabilities Deferred income tax liabilities Provision for liabilities and charges Other liabilities Total liabilities 12,420 52,106 190,961 208,685 775,190 249,532 5,000 - 69,070 2,230 3,370 891 2,388 772 608 36 6,152 2,467 2,677 239,273 830,654 514,628 140 30,985 75 83 31,283 20,757 130 4,995 25,882 Minority interest - - - Shareholders’ equity Total liabilities and shareholders’ equity 158,079 397,364 830,654 514,628 31,283 25,882 Net long/ (short) position for balance sheet items (71,889) 7,530 (12,829) 5,270 Off-balance sheet claims arising from foreign exchange Spot exchange receivable Forward foreign exchange receivable Swap exchange receivable Total Off-balance sheet liabilities arising from foreign exchange Spot exchange payable Forward foreign exchange payable Swap exchange payable Total Net long/ (short) positions on foreign exchange Net long/ (short) position as at 31 December 2005 Net long/ (short) position as at 31 December 2004 Exchange rates applied as at 31 December 2005 (LVL for 1 foreign currency unit) 12 - 13,486 7,369 262,996 32,775 1,317,924 74,070 136 2,366 841 7,695 772 608 73 109 1,331 17,705 42,525 1,684,245 - 12 158,079 42,525 1,842,336 58,432 - 8,006 46,306 21,942 - 12,169 640 58,941 172,900 142,606 66,947 231,375 165,188 17,551 62,963 80,514 113 9,193 592 4,215 - 144,950 705 158,358 103,111 17,616 582,360 703,087 58 53,028 22,106 662 5,229 7,405 2,664 190,819 141,637 3,384 249,076 171,148 16,943 58,002 74,945 - 13,091 177 4,091 4,381 183,074 4,558 200,256 105,227 17,563 580,577 703,367 (5,960) 1,570 5,569 (7,260) (3,853) (41,898) 1,417 16,534 (280) (280) (12,640) 2,116 (19,376) (235) 4,512 23,628 (1,995) 1.00 0.593 0.702804 1.021 0.0206 - - 63,563 (17,701) (8,326) (4,215) The short currency position in Euro is largely off-set by long positions in Lithuanian Litas and Estonian Krona. Both of these currencies are pegged to Euro at fixed rate, therefore for the purpose of managing foreign currency positions they are treated as positions in Euro. F-46 F-46 54 AS Parex banka Notes to the Financial Statements for the year ended 31 December 2005 The Latvian banking legislation requires that open positions in each foreign currency may not exceed 10% of the Bank’s equity (see Note 33 for the definition of equity under the FCMC’s regulations) and that the total foreign currency open position may not exceed 20% of equity. The Group and the Bank was in compliance with the above requirements as at 31 December 2005 and 2004. NOTE 37. LITIGATION AND CLAIMS In the ordinary course of business, the Bank has been involved in a number of legal proceedings to recover collateral or outstanding credit balances, as well as related interest and expenses from defaulted credit customers and interbank counterparties. The Group is also involved in the number of legal proceedings related to its customers in Latvia and abroad. The Management of the Bank believe that any legal proceedings pending as at 31 December 2005 will not result in material losses for the Group. NOTE 38. RELATED PARTIES Related parties are defined as shareholders who have significant influence over the Group, members of the Council and Board of Directors, key Management personnel, their close relatives and companies in which they have a controlling interest as well as associated companies of the Group. The following tables present the outstanding balances and terms of the Group’s transactions with related parties. Amount in LVL 000’s 31/12/2005 Credit exposure to related parties: Loans and advances Financial commitments and outstanding guarantees Total credit exposure to related parties Total deposits from related parties Average rate in 2005 Amount in LVL 000’s 31/12/2004 Average rate in 2004 25,186 2.4% 14,589 1.4% 3,368 28,554 - 2,669 17,258 - 43,642 19.5% 28,760 20.7% The majority of the above deposits are long-term and have been placed with the Bank at rates significantly below the market interest rates at the time of their placement. In the ordinary course of business, AS Parex apdrošinƗšanas kompƗnija, a related party to the Bank, undertakes insurance of the collaterals of loans and advances granted by the Bank to customers. Subsequent to the end of the reporting year, AS Parex apdrošinƗšanas kompƗnija has been sold to a third party. 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*O'FCSVBSZUIF#BOLSFDFJWFEBTZOEJDBUFEMPBOGSPNCBOLTJOUIFBNPVOUPG&63NJMMJPO5IFMPBOIBTCFFO JTTVFEGPSZFBSBOEJUCFBSTBOJOUFSFTUSBUFPG&63*#035IF.BOEBUFE-FBE"SSBOHFSBOEVOEFSXSJUFSPGUIFMPBO JT .J[VIP $PSQPSBUF #BOL -UE PUIFS QBSUJDJQBOUT JODMVEF NPTUMZ "TJBO CBOLT BOE TFWFSBM &VSPQFBO CBOLT BDUJWF JO "TJBO NBSLFUT "//6"-3&1035 F-88 F-88 REGISTERED OFFICE OF THE ISSUER SC Parex banka 3, Smilšu Street Riga LV-1522, Latvia FISCAL AGENT JPMorgan Chase Bank, N.A. Trinity Tower 9 Thomas More Street London E1W 1YT PAYING AGENT JPMorgan Chase Bank, N.A. Trinity Tower 9 Thomas More Street London E1W 1YT REGISTRAR J.P. Morgan Bank Luxembourg S.A. 6 route de Trèves L-2633 Senningerberg (Municipality of Niederanven) Luxembourg LEGAL ADVISERS To the Issuer as to English law: Allen & Overy LLP One New Change London EC4M 9QQ To the Joint-Lead Managers as to English law: Clifford Chance Limited Liability Partnership 10 Upper Bank Street Canary Wharf London E14 5JJ To the Joint-Lead Managers as to Latvian law: Liepa, Skopina/BORENIUS Blaumana 5A Riga LV 1011 Latvia AUDITORS TO THE ISSUER SIA Ernst & Young Baltic Kronvalda bulvaris 3-5 Riga LV 1010, Latvia Printed by St Ives Financial B824320/20001 London Luxembourg New York Philadelphia Tokyo