Notes to the consolidated financial statements

37. Fair value of financial instruments

Download note 37 in XLS

Fair value has been defined in Note 5 f (6).
As at 31 December 2013 and 31 December 2012, the Group classified financial assets and liabilities measured at fair value in the statement of financial position as well as financial assets and liabilities which are not measured at fair value on an ongoing basis in the following manner:

• Level I: financial assets/liabilities measured based on quoted (unadjusted) prices on active markets for identical assets or liabilities, available to the Group at the measurement date.
• Level II: financial assets/liabilities measured based on input data other than quoted prices, as specified for Level I, observable for an asset or liability either indirectly or directly.
• Level III: financial assets/liabilities measured based on non-observable input data concerning an asset or liability.

(i) Financial instruments which are not measured at fair value in the statement of financial position
The main classes of financial assets and liabilities which are not measured at fair value in the consolidated statement of financial position are items measured at amortized cost or historical cost, such as:

• originated loans, advances and other receivables not held for trading;
• financial assets held to maturity;
• financial liabilities not held for trading.

Loans and advances granted to clients
„Loans and advances granted to clients” include loans and advances as well as corporate bonds classified as loans and receivables in accordance with IAS 39.
The fair value of loans and advances is determined by calculating the carrying amount - fair value adjustment for each loan. The adjustment was calculated as the difference between the carrying amount of the loan and the total future cash flows related to such loan, discounted using the market interest rate (based on the yield curve) increased by the applicable product markup. The said future cash flows included those related to the principal (as specified in the agreement) and those related to interest, calculated on the basis of the market yield curve increased by the initial markup for each loan. The applicable product markup has been determined as the average markup for a similar group of products extended in the three-month period immediately preceding the end of the reporting period. The carrying amount - fair value adjustment has been determined for loans whose future cash flows are known, while for other exposures, such as overdrafts, the adjustment was assumed at zero.

Fair value of corporate debt securities is measured by discounting future payments from these instruments using spread determined at the transaction date. Securities with embedded call option are measured with the assumption that the call option will be realized in the nearest possible term. Call option embedded in a bond is measured at the end of the reporting period by way of determining the difference between bond measurement assuming the realization of the call option in the nearest possible term and discounted cash flows from the bond held to maturity.

Investment financial assets held to maturity
The fair value of treasury bonds is determined directly based on prices quoted on the active market.
Fair value of debt securities issued by banks, classified as loans and receivables, is measured by discounting future payments from these instruments using spread determined at the transaction date. Securities with embedded call option are measured with the assumption that the call option will be realized in the nearest possible term. Call option embedded in a bond is measured at the end of the reporting period by way of determining the difference between bond measurement assuming the realization of the call option in the nearest possible term and discounted cash flows from the bond held to maturity.

Cash in hand, deposits with the Central Bank and receivables from other banks
This item includes the Group’s cash in current accounts with other banks and debt securities classified as loans and receivables.
The fair value of current receivables and term deposits of the Group, maturing within one year, and other receivables is consistent with the carrying amount.
Fair value of debt securities issued by banks, classified as loans and receivables, is measured by discounting future payments from these instruments using spread determined at the transaction date. Securities with embedded call option are measured with the assumption that the call option will be realized in the nearest possible term. Call option embedded in a bond is measured at the end of the reporting period by way of determining the difference between bond measurement assuming the realization of the call option in the nearest possible term and discounted cash flows from the bond held to maturity.

Other financial assets/liabilities which are not measured at fair value in the statement of financial position
For groups of financial assets recognized at the amount due less impairment loss, the Group assumes that the fair value is consistent with the carrying amount due to the nature of such groups of assets, e.g. short term to maturity or unique nature of the instrument. This concerns, in particular, cash and monetary assets, current receivables, investments in subsidiaries and liabilities under finance leases.

Liabilities to clients
The fair value of „Liabilities to clients” was determined by calculating the carrying amount - fair value adjustment for each term deposit. The adjustment was calculated as the difference between the present value of the principal and interest accrued as at the end of the reporting period and the total future cash flows from the principal and interest for the period from the end of the reporting period to the maturity date, discounted using the market interest rate increased by a markup being the difference between the interest on deposit and the base rate as at the deposit date. Each term deposit has been assigned a market interest rate quoted as at the end of the reporting period, corresponding to the number of days from the end of the reporting period to the maturity date. Zero adjustment was assumed for term deposits.

Financial liabilities other than liabilities to clients
The fair value of current liabilities, term deposits of banks, maturing within one year, and other financial liabilities is equal to the carrying amount.

Subordinated liabilities and liabilities arising from issue of debt securities
Fair value of the subordinated loan and liabilities arising from issued debt securities is measured by discounting future payments from these instruments using spread determined at the transaction date.
The tables below present the differences between the carrying amount (carrying amount of loans and liabilities has been presented with interest accrued) and the estimated fair value of financial assets and liabilities of the Group as well as fair value hierarchy classification of financial assets and liabilities which are not measured at fair value in the consolidated statement of financial position of the Group.

	Balance as at 31 December 2013		Balance as at 31 December 2012 (restated)
	Carrying amount	Fair value	Carrying amount	Fair value
	PLN ‘000	PLN ‘000	PLN ‘000	PLN ‘000
Cash in hand and deposits with the Central Bank	327,242	327,242	934,743	934,743
Receivables from other banks	36,329	36,327	29,849	29,884
Loans and advances granted to clients, including:	5,055,712	4,911,687	4,599,545	4,765,227
Overdraft facilities	71,625	71,625	64,384	64,384
Term loans, including:	4,984,087	4,840,062	4,535,161	4,700,843
individuals	4,018,533	3,885,619	3,495,931	3,640,481
- consumer loans	1,667,501	1,630,554	1,361,626	1,406,954
- real estate loans	2,337,628	2,241,661	2,124,123	2,223,345
- credit card debt	13,404	13,404	10,182	10,182
institutional clients	608,964	603,406	626,210	633,946
local authorities	356,590	351,037	413,020	426,416
Investment securities held to maturity	387,018	399,701	392,762	411,617
Other assets	27,074	27,074	20,440	20,440
Liabilities to the Central Bank	11	11	6	6
Liabilities to other banks	41,762	41,762	2,824	2,824
Liabilities to clients	6,230,578	6,209,726	6,317,949	6,264,029
Other liabilities	88,821	88,821	77,393	77,393
Liabilities arising from issue of debt securities	431,597	427,256	206,282	206,422
Subordinated liabilities	142,027	140,974	142,891	143,213

Balance as at 31 December 2013	Level I	Level II	Level III	Total
	PLN ‘000	PLN ‘000	PLN ‘000	PLN ‘000
Cash in hand and deposits with the Central Bank	0	327,242	0	327,242
Receivables from other banks	0	6,147	30,180	36,327
Loans and advances granted to clients, including:	0	71,625	4,840,062	4,911,687
Overdraft facilities	0	71,625	0	71,625
Term loans, including:	0	0	4,840,062	4,840,062
individuals	0	0	3,885,619	3,885,619
- consumer loans	0	0	1,630,554	1,630,554
- real estate loans	0	0	2,241,661	2,241,661
- credit card debt	0	0	13,404	13,404
institutional clients	0	0	603,406	603,406
local authorities	0	0	351,037	351,037
Investment financial assets held to maturity	384,760	0	14,941	399,701
Other assets	0	27,074	0	27,074
Liabilities to the Central Bank	0	11	0	11
Liabilities to other banks	0	41,762	0	41,762
Liabilities to clients	0	2,876,961	3,332,765	6,209,726
Other liabilities	0	88,821	0	88,821
Liabilities arising from issue of debt securities	0	0	427,256	427,256
Subordinated liabilities	0	0	140,974	140,974

(ii) Financial instruments which are measured at fair value in the statement of financial position
The table below presents classification of financial assets and liabilities which are measured at fair value based on the fair value hierarchy in the consolidated statement of financial position.

Balance as at 31 December 2013	Level I	Level II	Level III	Total
	PLN ‘000	PLN ‘000	PLN ‘000	PLN ‘000
Financial assets, including:	585,445	841,194	29,740	1,456,379
Financial assets held for trading	0	1,369	0	1,369
Investments in financial assets	585,445	839,825	29,740	1,455,010
- available for sale	585,445	839,825	29,740	1,455,010
Financial liabilities, including:	0	17	0	17
Financial liabilities held for trading	0	17	0	17

Balance as at 31 December 2012 (restated)	Level I	Level II	Level III	Total
	PLN ‘000	PLN ‘000	PLN ‘000	PLN ‘000
Financial assets, including:	882,229	170,686	9,068	1,061,983
Financial assets held for trading	0	766	0	766
Investments in financial assets	882,229	169,920	9,068	1,061,217
- available for sale	882,229	169,920	9,068	1,061,217
Financial liabilities, including:	0	17	0	17
Financial liabilities held for trading	0	17	0	17

No reclassifications between Level I and Level II took place in the analyzed period. No items were reclassified from or to Level III, either.

As the scale of derivative transactions, which are entered into with banks only, is inconsiderable, the Group’s measurement of derivatives does not take into account the counterparty credit risk or own credit risk, which the Group believes exerts a marginal effect on measurement of its derivatives.

Reconciliation of the change in the balance of Level III financial instruments in 2013 and 2012, whose fair value is determined using measurement methods based on non-observable input data, has been presented below.

Level III	Investment securities available for sale
	PLN ‘000
Balance as at 1 January 2013	9,068
Gains or losses	1,024
recognized in profit or loss:	1,056
- interest income	1,404
- profit/loss from investing activities	(348)
recognized in other comprehensive income	(32)
Purchases	21,461
Sales	0
Interest paid	(1,813)
Transfers	0
Balance as at 31 December 2013	29,740

Level III	Investment securities available for sale
	PLN ‘000
Balance as at 1 January 2012 (restated)	192,598
Gains or losses	15,097
recognized in profit or loss:	14,856
- interest income	9,318
- profit/loss from investing activities	5,538
recognized in other comprehensive income	241
Purchases	9,000
Sales	(198,775)
Interest paid	(8,852)
Transfers	0
Balance as at 31 December 2012 (restated)	9,068

Given a rise in the credit spread by 1 b.p., the potential effect on a change in the fair value of Level III financial instruments would be PLN -2 thousand, whereas given a drop in the credit spread by 1 b.p., the potential effect would be PLN 2 thousand.

Financial assets/liabilities	Fair value as at  31 December 2013	Fair value as at 31 December 2012 (restated)	Fair value hierarchy	Measurement methods and basic input data	Significant non- observable information	Fair value dependency on observable and non- observable information
1) Treasury bills and bonds	Assets: PLN 585,445 thousand	Assets: PLN 882,229 thousand	Level 1	BID price for the long position and ASK price for the short position in the security, quoted on an active interbank market.	n/a	n/a
2) Bills	Assets: PLN 839,825 thousand	Assets: PLN 169,920 thousand	Level 2	Discounted cash flows from the security with discount rate equal to purchased yield.	n/a	n/a
3) IRS	Assets: PLN 1,369 thousand Liabilities: PLN 17 thousand	Assets: PLN 766 thousand Liabilities: n/a	Level 2	Discounted future cash flows. Future cash flows and discounting are calculated on the basis of yield curves built on quoted WIBOR/LIBOR, FRA and IRS rates.	n/a	n/a
4) FX swap	n/a	Liabilities: PLN 17 thousand	Level 2	Discounted future cash flows. Yield curves used for discounting purposes are built on quoted depo rates and swap points for currency pairs.	n/a	n/a
5) Debt securities (commercial bonds)	Assets: PLN 29,740 thousand	Assets: PLN 9,068 thousand	Level 3	Discounted future cash flows. Future payments from the security are discounted based on yield curves increased by credit spread due to counterparty risk.	Spreads used: BPS bonds: 391pb IPS1014 bonds: 14pb	The higher the spread, the lower the fair value.

„Investment financial assets available for sale” present the Group’s equity instruments with the carrying amount of PLN 8 thousand, which are measured at cost as their fair value may not be measured reliably. Such instruments are not subject to the fair value hierarchy analysis performed for investment financial assets available for sale.