Al Rajhi Bank in 2018

Annual Report 2018

Independent auditors’ report on the audit of the consolidated financial statements to the shareholders of Al Rajhi Banking and Investment Corporation (a Saudi Joint Stock Company)

Opinion

We have audited the consolidated financial statements of Al Rajhi Banking and Investment Corporation (“the Bank”) and its subsidiaries (collectively referred to as “the Group”), which comprise the consolidated statement of financial position as at 31 December 2018, and the consolidated statement of income, consolidated statement of comprehensive income, consolidated statement of changes in shareholders’ equity and consolidated statement of cash flows for the year then ended, and notes to the consolidated financial statements, including a summary of significant accounting policies.

In our opinion, the accompanying consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Group as at 31 December 2018, and its consolidated financial performance and its consolidated cash flows for the year then ended in accordance with International Financial Reporting Standards (“IFRS”) as modified by the Saudi Arabian Monetary Authority (“SAMA”) for the accounting of zakat and income tax.

Basis for opinion

We conducted our audit in accordance with the International Standards on Auditing that are endorsed in the Kingdom of
Saudi Arabia. Our responsibilities under those standards are further described in the Auditors’ responsibilities for the audit of the consolidated financial statements section of our report. We are independent of the Group in accordance with the professional code of conduct and ethics as endorsed in the Kingdom of Saudi Arabia that are relevant to our audit of the consolidated financial statements, and we have fulfilled our other ethical responsibilities in accordance with these requirements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion.

Key audit matters

Key audit matters are those matters that, in our professional judgement, were of most significance in our audit of the consolidated financial statements for the current year. These matters were addressed in the context of our audit of the consolidated financial statements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these matters. For each matter below, a description of how our audit addressed the matter is provided in that context:

Key audit matter	How our audit addressed the key audit matter
Impairment of financing As at 31 December 2018, the gross financing of the Group amounted to SAR 241.9 billion against which an impairment allowance of SAR 7.8 billion was maintained. Effective 1 January 2018, the Group has adopted IFRS 9 – “Financial Instruments” which introduced a forward-looking, expected credit loss (“ECL”) impairment model. On adoption, the Group has applied the requirements of IFRS 9 retrospectively without restating the comparatives. The adoption of IFRS 9 resulted in a reduction of the Group’s equity on 1 January 2018 by SAR 2.9 billion. The impact of transition is explained in note 3a) to the consolidated financial statements. We considered this as a key audit matter, as the determination of ECL involves significant management judgment and this has a material impact on the consolidated financial statements of the Group. The key areas of judgment include: Categorisation of financing into Stages 2 and 3 based on the identification of: (a) exposures with significant increase in credit risk (“SICR”) since their origination; and (b) individually impaired/defaulted exposures. Assumptions used in the ECL model for determining probability of default (“PD”), loss given default (“LGD”) and exposure at default (“EAD”), including but not limited to assessment of the financial condition of the counterparty, expected future cash flows and forward-looking macroeconomic factors. The need to apply additional overlays to reflect current or future external factors that might not be captured by the ECL model. Disclosures resulting from the adoption of IFRS 9 and the related incremental disclosures of IFRS 7. Refer to the summary of significant accounting policies note 3a) to the consolidated financial statements for the adoption of IFRS 9 – Financial Instruments and impairment of financial assets; note 2d)i) which contains the disclosure of critical accounting judgments, estimates and assumptions relating to impairment losses on financial assets and the impairment assessment methodology used by the Group; note 7 which contains the disclosure of impairment against financing; and note 27a) for details of credit quality analysis and key assumptions and factors considered in the determination of ECL .	We have obtained an understanding of management’s assessment of impairment of financing including the IFRS 9 implementation process, the Group’s internal rating model, the Group’s impairment allowance policy and the ECL modelling methodology. We compared the Group’s impairment allowance policy and ECL methodology with the requirements of IFRS 9. We assessed the design and implementation, and tested the operating effectiveness, of controls over: the modelling process, including governance over monitoring of the models and approval of key assumptions; the classification of borrowers into various stages (including timely identification of SICR and determination of default or individually impaired exposures); and the integrity of data inputs into the ECL model. We assessed the Group’s criteria for determination of SICR and identification of impaired/default exposures and their classification into stages. For a sample of customers, we assessed: the internal ratings determined by the management based on the Group’s internal rating model, and checked that these ratings were in-line with the ratings used in the ECL model; the staging as identified by management; and management’s computations of ECL. We assessed the underlying assumptions, including forward looking assumptions, used by the Group in ECL calculations. Where management overlays were used, we assessed those overlays and the governance process around such overlays. We tested the completeness of data underlying the ECL calculation as at 31 December 2018. Where relevant, we involved specialists to assist us in the review of model calculations and data integrity. As the Group has used the modified restrospective approach for adoption of IFRS 9, we performed all the above mentioned tasks to evaluate management’s computation of ECL adjustment to the Group’s equity as at 1 January 2018 (as a result of adoption of IFRS 9). We assessed the adequacy of disclosures in the consolidated financial statements.
Fees from banking services The Group charges administrative fees upfront to borrowers in respect of financing transactions. All such fees are an integral part of generating an involvement with the resulting financial instrument and therefore, these fees should be considered as part of the effective yield on financing and recognised within ‘Gross financing and investment income’. However, due to the large volume of transactions with mostly individually insignificant fee amounts, management used certain assumptions and thresholds for recognition of such fees and classified them within “Fee from banking services, net”. We considered this as a key audit matter since the use of management assumptions and judgments could result in material misstatement to the consolidated financial statements, as they affect the timing and recognition of fees. Refer to the summary of significant accounting policies note 3e) to the consolidated financial statements.	We performed the following audit procedures: We assessed the design and implementation and tested the operating effectiveness of key controls over the consistent application of management’s assumptions and thresholds for recognition of fee income. We evaluated the assumptions and thresholds used by management for making adjustments to the effective yield of financing and checked the recording of such adjustments. We obtained management’s assessment of the impact of the use of assumptions and thresholds and performed the following: on a sample basis, traced the historical and current year data used by management to the underlying accounting records; and assessed management’s estimation of the impact of fees on ‘Fee from banking services, net’ and classification in ‘Gross financing and investment income’.

Key audit matter

How our audit addressed the key audit matter

Impairment of financing
As at 31 December 2018, the gross financing of the Group amounted to SAR 241.9 billion against which an impairment allowance of SAR 7.8 billion was maintained.

Effective 1 January 2018, the Group has adopted IFRS 9 – “Financial Instruments” which introduced a forward-looking, expected credit loss (“ECL”) impairment model. On adoption,
the Group has applied the requirements of IFRS 9 retrospectively without restating the comparatives. The adoption of IFRS 9 resulted in a reduction of the Group’s equity on 1 January 2018 by SAR 2.9 billion. The impact of transition is explained in note 3a) to the consolidated financial statements. We considered this as a key audit matter, as the determination of ECL involves significant management judgment and this has a material impact on the consolidated financial statements of the Group. The key areas of judgment include:

Categorisation of financing into Stages 2 and 3 based on the identification of:
(a) exposures with significant increase in credit risk (“SICR”) since their origination; and
(b) individually impaired/defaulted exposures.
Assumptions used in the ECL model for determining probability of default (“PD”), loss given default (“LGD”) and exposure at default (“EAD”), including but not limited to assessment of the financial condition of the counterparty, expected future cash flows and forward-looking macroeconomic factors.
The need to apply additional overlays to reflect current or future external factors that might not be captured by the ECL model.
Disclosures resulting from the adoption of IFRS 9 and the related incremental disclosures of IFRS 7.

Refer to the summary of significant accounting policies note 3a) to the consolidated financial statements for the adoption of IFRS 9 – Financial Instruments and impairment of financial assets; note 2d)i) which contains the disclosure of critical accounting judgments, estimates and assumptions relating to impairment losses on financial assets and the impairment assessment methodology used by the Group; note 7 which contains the disclosure of impairment against financing; and note 27a) for details of credit quality analysis and key assumptions and factors considered in the determination of ECL .

We have obtained an understanding of management’s assessment of impairment of financing including the IFRS 9 implementation process, the Group’s internal rating model, the Group’s impairment allowance policy and the ECL modelling methodology.

We compared the Group’s impairment allowance policy and ECL methodology with the requirements of IFRS 9.

We assessed the design and implementation, and tested the operating effectiveness, of controls over:

the modelling process, including governance over monitoring of the models and approval of key assumptions;
the classification of borrowers into various stages (including timely identification of SICR and determination of default or individually impaired exposures); and
the integrity of data inputs into the ECL model.

We assessed the Group’s criteria for determination of SICR and identification of impaired/default exposures and their classification into stages.

For a sample of customers, we assessed:

the internal ratings determined by the management
based on the Group’s internal rating model, and checked that these ratings were in-line with the ratings used in the ECL model;
the staging as identified by management; and
management’s computations of ECL.

We assessed the underlying assumptions, including forward looking assumptions, used by the Group in ECL calculations.

Where management overlays were used, we assessed those overlays and the governance process around such overlays.

We tested the completeness of data underlying the ECL calculation as at 31 December 2018. Where relevant, we involved specialists to assist us in the review of model calculations and data integrity. As the Group has used the modified restrospective approach for adoption of IFRS 9, we performed all the above mentioned tasks to evaluate management’s computation of ECL adjustment to the Group’s equity as at 1 January 2018
(as a result of adoption of IFRS 9).

We assessed the adequacy of disclosures in the consolidated financial statements.

Fees from banking services
The Group charges administrative fees upfront to borrowers in respect of financing transactions.

All such fees are an integral part of generating an involvement with the resulting financial instrument and therefore, these fees should be considered as part of the effective yield on financing and recognised within ‘Gross financing and investment income’.

However, due to the large volume of transactions with mostly individually insignificant fee amounts, management used certain assumptions and thresholds for recognition of such fees and classified them within “Fee from banking services, net”.

We considered this as a key audit matter since the use of management assumptions and judgments could result in material misstatement to the consolidated financial statements, as they affect the timing and recognition of fees.

Refer to the summary of significant accounting policies note 3e) to the consolidated financial statements.

We performed the following audit procedures:

We assessed the design and implementation and tested the operating effectiveness of key controls over the consistent application of management’s assumptions and thresholds for recognition of fee income.
We evaluated the assumptions and thresholds used
by management for making adjustments to the effective yield of financing and checked the recording of such adjustments.
We obtained management’s assessment of the impact of the use of assumptions and thresholds and performed the following:
- on a sample basis, traced the historical and current year data used by management to the underlying accounting records; and
- assessed management’s estimation of the impact of fees on ‘Fee from banking services, net’ and classification in ‘Gross financing and investment income’.

Other information included in the Group’s 2018 annual report

The Board of Directors (“the Directors”) is responsible for the other information. Other information consists of the information included in the Group’s 2018 annual report, other than the consolidated financial statements and our auditors’ report thereon. The annual report is expected to be made available to us after the date of this auditors’ report.

Our opinion on the consolidated financial statements does not cover the other information, and we do not and will not express any form of assurance conclusion thereon.

In connection with our audit of the consolidated financial statements, our responsibility is to read the other information identified above when it becomes available and, in doing so, consider whether the other information is materially inconsistent with the consolidated financial statements or our knowledge obtained in the audit, or otherwise appears to be materially misstated.

When we read the other information, if we conclude that there is a material misstatement therein, we are required to communicate the matter to those charged with governance.

Responsibilities of the Directors and those charged with governance for the consolidated financial statements

The Directors are responsible for the preparation and fair presentation of the consolidated financial statements in accordance with IFRS as modified by SAMA for the accounting of zakat and income tax, applicable requirements of the Regulation for Companies, the Banking Control Law in the Kingdom of Saudi Arabia and the Bank’s By-Laws, and for such internal control as the Directors determine is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.

In preparing the consolidated financial statements, the Directors are responsible for assessing the Group’s ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless the Directors either intend to liquidate the Group or to cease operations, or have no realistic alternative but to do so.

Those charged with governance are responsible for overseeing the Group’s financial reporting process.

Auditors’ responsibilities for the audit of the consolidated financial statements

Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditors’ report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with the International Standards on Auditing that are endorsed in the Kingdom of Saudi Arabia will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these consolidated financial statements.

As part of an audit in accordance with the International Standards on Auditing that are endorsed in the Kingdom of Saudi Arabia, we exercise professional judgment and maintain professional skepticism throughout the audit. We also:

Identify and assess the risks of material misstatement of the consolidated financial statements, whether due to fraud or error; design and perform audit procedures responsive to those risks; and obtain audit evidence that is sufficient and appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control.
Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Group’s internal control.
Evaluate the appropriateness of accounting policies used and the reasonableness of accounting estimates and related disclosures made by the Directors.
Conclude on the appropriateness of the Directors’ use of the going concern basis of accounting and, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the Group’s ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to draw attention in our auditors’ report to the related disclosures in the consolidated financial statements or, if such disclosures are inadequate, to modify our opinion. Our conclusions are based on the audit evidence obtained up to the date of our auditors’ report. However, future events or conditions may cause the Group to cease to continue as a going concern.
Evaluate the overall presentation, structure and content of the consolidated financial statements, including the disclosures, and whether the consolidated financial statements represent the underlying transactions and events in a manner that achieves fair presentation.
Obtain sufficient appropriate audit evidence regarding the financial information of the entities or business activities within the Group to express an opinion on the consolidated financial statements. We are responsible for the direction, supervision and performance of the Group audit. We remain jointly responsible for our audit opinion.

We communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during our audit.

We also provide those charged with governance with a statement that we have complied with relevant ethical requirements regarding independence, and communicate to them all relationships and other matters that may reasonably be thought to bear on our independence and, where applicable, related safeguards.

From the matters communicated with those charged with governance, we determine those matters that were of most significance in the audit of the consolidated financial statements for the year ended 31 December 2018 and are therefore the key audit matters. We describe these matters in our auditors’ report unless law or regulation precludes public disclosure about the matter or when, in extremely rare circumstances, we determine that a matter should not be communicated in our report because the adverse consequences of doing so would reasonably be expected to outweigh the public interest benefits of such communication.

Report on other legal and regulatory requirements

Based on the information that has been made available to us, nothing has come to our attention that causes us to believe that the Bank is not in compliance, in all material respects, with the applicable requirements of the Regulation for Companies, the Banking Control Law in the Kingdom of Saudi Arabia and the Bank’s By-Laws in so far as they affect the preparation and presentation of the consolidated financial statements.

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