Inland Revenue, Treasury to issue new Gazettes with tax exemptions

By Mario Andree

Ceylon FT: With the Central Bank pushing for financial sector consolidation, calling for proposals by 31 March, the Department of Inland Revenue and the Treasury would submit tax concessions through new Gazette Notifications.

Partner of Ernest and Young, Duminda Hulangamuwa told a forum organized by the Institute of Charted Accountants that there were several tax proposals the Inland Revenue Department and the Treasury would introduce in the coming few days.

However, despite the push by Central Bank and several negotiations with key personnel, the Inland Revenue Department and the Treasury were confused on how the process would take place.

President Mahinda Rajapaksa, last November, through Budget 2014 announced a series of tax incentives to banks and non-bank financial institutions which would merge or acquire other entities.

The financial sector regulator, Central Bank, intends to reduce the number of non-bank financial institutions to 20 including three which would specialize in micro finance and banks to fewer larger banks to support the economy.

According to Hulangamuwa the proposed tax revisions for consolidation included, no income tax from profits arising from transfer of assets, capital allowance is to be claimed by the merged entity on the original cost, expenses incurred for merger would be deductible, qualify payment relief on investment made on merged entity and tax credit, refunds of transfer entity to be available for merged entity.

A new Gazette also will be issued exempting stamp duties other than for immovable properties for the consolidation process.
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'Investment Advisors must attach priority to customer needs'

Opening remarks by Securities and Exchange Commission (SEC) Chairman Dr Nalaka Godahewa at the Colombo Stock Brokers Association (CSBA) workshop for Investment Advisors on 22nd March 2013 at Excel World

Being the regulator, I get the opportunity to meet the CEOs of the stock brokering companies quite often. I speak to them at our regular industry consultative meetings and various other forums. But this is the first time I am addressinga large number ofinvestment advisors, the real front liners of our industry. I am glad that I got this opportunity thanks to CSBA who organized this workshop fulfilling an urgent training requirement of the investment advisor community.

You may agree with me that we are living in one of the most exiting periods of the history of our country. After 30 years of conflict, Sri Lanka has finally achieved lasting peace. We have a politically stable government which has declared economic development as its highest priority. Huge investments are being made in the infrastructure development projects such as ports, airports, irrigation systems, power plants and highways. The Government has set some ambitious growth targets for the economy. All economic indicators are currently showing steady progress.

I believe that as investment advisors, you are lucky to be in the right place at the right time. We all know that the capital market is a vital contributor to any fast developing economy. It is the main channel through which the savings and funds available with retail and institutional investors are mobilized for long-term capital formation. Even though our current market capitalization is only about 30% of the GDP, the capital market is destined to play a significant role shaping the future of our economy.Hence it is important for you also to understand the important role that you are expected to play in the overall economic development agenda of the country.

I don’t know how many of you remember that, just 5 years ago about this time in March 2009, we were still at war with the terrorists. Country was not yet a safe place for living.Suicide bomb attacks were possible anywhere anytime. LTTE planes were haunting the night skies keeping us awake. Economy was taking a beating due to heavy war expenditure.The stock market was stagnant. All Share Price Index was as low as 1400. 

Inflation was in double digits. Interest rates were so high that there was no justifiable reason for investors to consider the capital market as an investment alternative.

But 5 years later, the situation is vastly different today. We know that the war is over for good. The macro economic outlook of Sri Lanka is more promising than most of the other emerging markets. We are bombarded with foreign investors seeking business opportunities. Tourism is booming. Economy is expected to grow at about 7-8% rate for the next few years and reach USD 100bn by 2016. Inflation is now in mid single digit. Interest rates are all time low making the capital market an attractive investment alternative to traditional savings methods.

In most of the regional countries the market capitalization is as high as 70% of the GDP. It’s a known fact that in any country when the macro economy grows the Capital Market follows suit. Therefore using conservative estimates we also can expect the market value to reach at least USD 50 bn within about 4 years from now, if not earlier.

This is the environment within which you operate. As an investment advisor you need to ask yourself a key question. Has the market really lived up to its potential? If not why ? What are you doing about it as a key industry stakeholder?

Market capitalization 10 years ago was only 1/3 rd of today’s value. So market has grown. Average daily turnover has more or less doubled during this period. But do we see a tangible change in the market dynamics? Whilst turnover has grown the equation of average daily turnover to Market CAP is only 0.03. This value is inadequate when compared to most of our regional counterparts.

So what is the issue here? Is it internal or external?

When foreign investors look at CSE today what do they see? They see an opportunity in an undervalued market. Market Cap to GDP of 30 % means there is a lot of potential for this market to grow. The forward P/E is only 11.7 times. It is lower than most other global markets so it’s the right time to buy. Sri Lanka’s economy is on a growth path and the listed companies in most industries are likely to do well. CSE has a little correlation to other global markets so investing in Sri Lanka is an opportunity for fund managers to diversify their risks.

That probably is why foreign buyers contributed almost 40% of last year’s trading activities. This also means that our local investors are not exploiting the opportunity yet.

Let’s look at what regulator has done over the last few years. In 2012 the SEC in its dual capacity as Capital Market ‘Regulator and Developer’ in consultation with industry stakeholders launched a number of initiatives aimed at structurally and functionally upgrading the market. These include;

* Initiatives to develop the market infrastructure

* Initiatives increase investor education

* Initiatives to strengthen regulatory framework

* Initiatives to attract foreign funds through offshore promotions

* Initiatives to encourage more listings in the stock market

* Initiatives to promote the corporate debt market

* Initiatives enhance product portfolio

* Initiatives to increase market liquidity

* Initiatives to protect minority shareholder interests.

* Initiatives to take action against errant directors who seem to be misappropriating funds of listed companies

So one can safely say that the regulator has done more than our share of duty.

We also kept a constant dialog with the industry stakeholders consulting them regularly so that we were fully aware of the industry expectations. Basically almost everything that industry asked for we have given. I am sure that the senior industry representatives here would agree with me.

Now the question is have you done you part? Have you made an extra effort to reach out to the potential customers? Have you approached marketing in a structured manner? Have you identified different customer segments that you can target? Have you communicated with them the benefits of investing in the capital market? Have you explained to them that this probably is the best time to start investing in the capital market? Or are you just waiting till a potential customer calls you and business comes to you?

I once worked in the insurance industry for about 5 years. I was the Managing Director of Sri Lanka Insurance until 2010. I would like you to take a look at how insurance industry professionals promote their businesses. Take the case of a life insurance advisor. He or she is promoting a product where the customer has to die first to benefit from the product purchased. Other option for the customer is to wait till he or she gets really old so that the policy will mature. Yet, the life insurance advisors are promoting their products quite successfully. They try hard. They don’t quit easily. Have you heard that winners never quit and quitters never win? Are you making a similar effort to promote your products? Have you lived up to your true potential?

Of course as an investment advisor you must always be conscious of your professional, ethical and moral responsibilities. It is not about salesmanship but about true partnership. You are the wealth planner of your client. You must be honest with your client and provide him or her right advice. It’s not about making a commission from a trade or two. 

It’s about how both you and your client can win in the long run. Remember attracting customers is the easy part. Retaining them is the difficult part. To retain the customer you must understand the customer and serve his needs well. Why is he investing? May be he is trying to earn some money to buy a house. May be to finance his child’s education. May be he needs money for his daughters wedding in a few years time. May be he is funding his current investment using borrowed funds. So don’t let him down. He depends on you to give him the right advice; of course to the best of your ability.

Some people tell me market is still not active. I ask you whose job is it to get the market activated. I showed you that macro economic fundamentals are positive. The Regulators have done their part. Now it is time for you also to do your part.

Let me tell you a small story before I wind up. There was this slipper manufacturing company seeking overseas business opportunities. So they sent a salesman to evaluate market opportunities in a remote Island. The first salesman retuned and submitted a report saying "I see no potential there as no one in that country is wearing slippers". The company sent a second salesman to confirm the observation. But he retuned with a different report which said "There is a superb market potential in that country as no one is wearing slippers".

What is the moral of the story? Beauty is in the eyes of the beholder. One has to be of positive frame of mind to see the potential in a market. CSE is a classic example. Isn’t an undervalued market a better opportunity than a high valued one?

What you need today is determination. They say necessity is the mother of invention. Look after your existing customers. Reach out and look for new customers. Educate potential customers about the opportunities in an undervalued market in a low interest regime. Show them the long term benefits they can gain by investing now. Guide them wisely. When your customers do well you will also do well. When you do well market also will do well.

Success is a journey and not a destination. So take control of your destiny.
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Interest rates could dip further?

By Asia Wealth Management
Monetary authorities held policy rates at current levels in spite of the growing volume of savings, low inflation and improving external position of the economy against the background of stymied growth of credit to the private sector.

However, a further cut in rates remains a possibility during the second half of the year mainly on account of two important trends currently taking root in the economy.

The first phenomenon to note would be that the sharp fall in interest rates seen in recent times has not in turn caused rates on consumer credit to drop equally, possibly due to relatively high nonperforming loans being concentrated in the consumer sphere.

Further, given that consumer loans occupy circa 40% of the total loans to private sector by commercial banks, room for monetary authorities to cut rates further increases as balance of payments position will not be adversely affected due to the lower propensity for consumer lending rates to fall compared with the average rate of lending in the economy, in the face of a rate cut.

Loans growth in to investments in fact has a lower negative impact on balance of payments as it may not cause a leakage of funds from the economy to the level of consumer sector credit growth. Hence, under this backdrop, a window of opportunity remains for policy rates to fall further possibly during the second half of the year.

On the other hand, export receipts coupled with inflow of labour remittances continue to rise notably while the expansion of the domestic market compared to rising export receipts remains moderate. This is indicated by credit growth to private sector dropping to 5.2% YoY in January 2014 while export receipts growth jumped to 23.2% YoY during the corresponding period. This particular phenomenon causes the liquidity levels in the financial systems to rise causing an expansion of bank liabilities (savings) at a faster pace than loans and advances to private sector (a segment of assets). This particular phenomenon tends to raise the demand for government bonds by the domestic banks owing to the high liquidity levels prevailing in the domestic financial system. Under this backdrop, primary market yields have continued to drop moderately coupled with that of the average lending rate in the economy.

The domestic demand for treasury securities despite foreign divestments is causing the yields to behave in this pattern. On the back of these developments we expect the domestic treasury yields and market interest rates to fall further marginally, assisting the equity trade in the Colombo Bourse.

However, on the other hand, interest rates in the long run may increase on the back of winding down of Fed’s quantitative easing program and the scheduled increase in U.S. policy rates in mid 2015.
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MBSL posts aggressive growth in 2013

The Merchant Bank of Sri Lanka PLC (MBSL) posted revenues of Rs. 608 million for the fourth quarter of the financial year as against Rs. 482 million during the corresponding quarter of last year.

The revenue of the company for the Year 2013 of over Rs. 2.3 billion reflects a 25.97% growth over the corresponding period in the previous year. MBSL Chairman M.R. Shah said that the growth was mainly due to our aggressive expansion drive launched in the year 2012, and the commitment and dedication of our staff members.

The interest income recorded a growth of 24.82% from Rs. 1.8 billion to Rs. 2.3 billion in the 12 months period mainly from lease and hire purchase, term loans, microfinance and personal loans. Interest expenses too increased to Rs. 1.37 billion compared to Rs. 1 billion for the same period. This increase mainly reflected by increase of money market interest on commercial papers and promissory notes and interest on debentures. Net fee and commission income of the MBSL increased to Rs. 48 million recording a growth of 12.72% during the year of 2013. The growth in fee income was seen mainly from corporate advisory services during the period.

The total assets of MBSL reached Rs. 13.3 billion as at 31st December 2013 compared to Rs. 11.9 billion as at 31 December 2012 reflecting a growth of 11.5%. The growth in the company’s asset base is mainly represented by lease and hire purchase receivables and loans and advances to customers.
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CB accepts NDB, DFCC and Vardhana merger proposals

By Duruthu Edirimuni Chandrasekera

The NDB, DFCC and DFCC Vardhana banks have submitted their merger proposals which have been approved by the Central Bank (CB) and the process is going on, according to sources close to all three entities and CB officials.

This is in line with the proposed consolidation programme, which is a pre-emptive strategy to establish a strong and dynamic banking and Non Bank Financial Institutes (NBFIs) sector in the future, according to last year’s budget proposals.

At a recent programme on “Consolidation of the Financial Services Sector organised by the CA Sri Lanka”, CB Assistant Governor C J P Siriwardena said that expected outcomes in consolidation in the banking sector are that there will be a reduced number of banks – at least five Sri Lankan banks will have assets of Rs. 1 trillion or more, with such banks also having a strong regional presence, there will be a large development bank that will provide a substantial impetus to development banking activities in the country and domestic banks which had assets less than Rs. 100 billion will have assets of Rs. 100 billion or more, through organic growth and merger/absorption with other banks and NBFIs over a reasonable time horizon.

Greater participation by foreign banks

“Foreign banks in Sri Lanka will demonstrate a greater participation in economic activities and will be making significant contributions to the economy, banks will rely on new and effective IT applications and they will have substantially lower interest margins through increased efficiency and prudent management of assets and liabilities,” he said.

The state banks will be expected to contribute significantly towards building a strong and dynamic banking sector, he said, adding that the two large state commercial banks, Bank of Ceylon and People’s Bank will be encouraged to grow and expand towards a stronger regional presence, and to operate with higher levels of capital. “They will also be expected to strengthen their off-shore banking operations and be able to attract funds, as well as conduct private banking on a wider scale and the NSB would be encouraged to broad-base their banking activities to contribute to the economy on a larger scale,” Mr. Siriwardena added.

The Pradeshiya Sanwardhana Bank (Regional Development Bank) will be encouraged to serve the niche market of microfinance, targeting inclusive growth in the provinces and the other smaller state banks will be encouraged to merge with the bigger state banks or with one another and play a more cohesive role, since at present these banks account for just 1.1 per cent of the market share. Larger foreign banks will be expected to further strengthen operations, he said, adding that smaller foreign banks will be expected to develop new strategies to grow, and to increase participation in the domestic economic activities through expansion of the necessary skills, product development and display of greater enthusiasm in private banking, off-shore banking, infrastructure financing and support for 5 + 1 Hub activities.

There will be about 20 NBFIs, of which around three would be specialized in micro finance, according to Mr. Siriwardena who said that that each NBFI will have an asset base of over Rs. 20 billion over the period.

Immediate disclosure requirement by CSE

The seriousness of the envisaged consolidation process is confirmed by having tax benefits provided in the Budget 2014, he said, adding that the exact details and implementation of such benefits are now being finalised with the Ministry of Finance and Planning and the Department of Inland Revenue and will be notified soon.

This merger/absorption process must not adversely affect the staff of the respective institutions, he said, adding that no staff member is to be forcibly retrenched as a result of these merger/absorption processes. “No salary of any employee is to be reduced from that prevailing as at 31st December 2013. Those involved in the merger/absorption process will be encouraged to appoint competent Human Resource Consultants to perform independent reviews on senior management.”

In the case of any capital infusion by the acquiring bank a matching long term advance will be made through the Sri Lanka Deposit Insurance and Liquidity Support Scheme on concessionary terms.

The CB will issue public notifications from time to time, to appraise the overall progress of the process. The CB will also liaise with other authorities such as Securities and Exchange Commission, Colombo Stock Exchange (CSE) and Registrar of Companies,wherever such support is needed.

The CSE rules require immediate disclosure of merger activity, Naomal Goonewardena, Partner Nithya Partners said in his presentation. “The Company Take-Over and Mergers Code may get triggered if the shareholdings thresholds of 30 per cent are triggered in the amalgamated company.” He said that ownership limits in banks may be exceeded and that loan covenants may be breached if succeeding entity is weaker. “If the objects of the amalgamating entities are different there may be a narrowing down of activities.”

Senior Partner of Ernst & Young, Duminda Hulangamuwa in his presentation on what the industry needs to be aware of in a consolidation process, said that amongst the taxes to be considered, Income Tax, Value Added Tax, Stamp Duty, Economic Service Charge (ESC) and Administration Tax are primary in the consolidation process.

Income Tax

“The disposal of assets is normally taxable on the excess of selling price over the tax written down value and one can claim capital allowances for the merging entity. There’s a deduction of cost incurred for the merger and current losses, if any, of the transferor company,” he said.

The proposal is to grant some concessions via guidelines to be issued by CB on a case by case basis, he said, adding that amongst them, no income tax on any profits arising on the transfer of assets, capital allowance is to be claimed by the merged entity on the original cost, expenses incurred for the merger will be a deductible expense, qualifying payment relief will be granted on the investment made in the merged entity and tax credits, refunds, etc of the transferor entity will be available for the merged entity.

On the transfer of shares, financial assets/liabilities, mortgages, land and building could attract stamp duties, he said, adding that a gazette will be issued exempting stamps duties other than for immovable properties.

“Unutilized ESC of both entities should be allowed to be carried forward in full, but so far no provisions have been proposed,” he said, adding that all pending assets of the transferor entity are to be taken over by the merge entity.

Due diligence is very important pertaining to this process Vajira Kulatilleke, CEO NDB said in a presentation on due diligence and other issues.

Valuation will establish upper and lower limits, he said, highlighting the need to negotiate after the merger and the importance of ‘avoiding negotiation ego’. “Post-integration management is extremely important,” he reiterated.

In an acquisition, the “buyer” aims to assume control of the target firm by acquiring a majority stake and establishes ownership of the acquired firm, Manilka Fernando, Management Consultant Financial Institutions in his presentation said. He said that a merger is usually the agreement between two firms to form a single entity where the outcome is by mutual agreement of the shareholders of the two firms. “This is often considered to be a “merger of equals.”

Not a merger of equals

He added that believing that a merger of equals can occur, the vast majority self-destruct because of this very premise. “By focusing so intently on strategic fit you fail to assess cultural fit, which is just as important to a merger’s success, if not more so. The conqueror syndrome by the acquiring company and entering into a “reverse hostage situation” should also be avoided.”

He pointed out that integrating too timidly and the employee resistances from the acquired company’s people as well as ‘paying too high a premium’ are issues.

“One needs to identify and communicate merger benefits early in the process while having a dedicated integration team to be in place before transaction closes,” he said, highlighting the importance of measuring and reviewing constantly what you plan to achieve. He said that the end is not concluding the transaction, but it is delivering value.

Painful statistics 

During 1988-90, 13 registered finance companies failed; two such companies were revived by new investments; 11 companies were liquidated.
In 2002, a bank failed. It was only in 2007 that the deposits of that bank were transferred to a new savings bank.

In 2009, eight NBFIs faced liquidity problems, mainly because of the collapse of a related company in a particular group; Those NBFIs were gradually revived under restructuring processes, as agreed with the Central Bank.

In 2013, an NBFI faced liquidity problems due to certain directors of that company siphoning out funds; the Central Bank started a process of restructure, although that has now been interrupted as a result of a stay order by Court.

“After the Asian Financial Crisis, most Asian countries realised the importance of consolidation and initiated merger programmes to consolidate the financial industry,” Central Bank Assistant Governor C.J.P. Siriwardena said.

In Malaysia, the financial sector was strengthened and the number of banks and financial institutions was rationalised during 1998-2000.

Singapore also consolidated its banks in early 2000 leading to bigger and stronger banks whose interests were aligned to the long term interests of the economy.

Other key Asian countries such as Indonesia, Korea and Thailand also followed this process.

Although the financial sector in Sri Lanka is stable and plays an important role, it is highly fragmented, Mr.Siriwardena said, adding that Sri Lanka’s present financial system now needs some structural changes to ensure that banks and NBFIs are well positioned in the envisaged US$100 billion economy.

Banks and NBFIs account for 64 per cent of the entire financial system assets: the banking sector comprises 22 local banks and 12 foreign banks and the NBFIs include 49 finance companies and nine leasing companies.
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Finance Cos. could lose licence if merger proposals are not ready by 31st March

By Duruthu Edirimuni Chandrasekera

Finance companies (Non-Bank Financial Institution – NBFI) could lose their licence if they fail to submit their proposals to merge under new rules, before the March 31st deadline.

Industry sources said that the seriousness of this process has been communicated to the relevant NBFIs.

Separately, CB Assistant Governor C. J. P. Siriwardena told the Business Times that by this month end if the identified NBFIs (Category B NBFIs) haven’t submitted ‘concrete’ proposals pertaining to undergoing a suitable consolidation process, CB will ‘find’ a partner/s for them to merge with.

“All Category B NBFIs are to merge with local banks or Category A NBFIs (those who are stronger in their balance sheets like Central Finance), or merge among themselves, so that they fulfill conditions of the Category A NBFIs,” he said, adding that CB will ‘strictly’ adhere to this principle when finding partners. Initially, the local banks and Category A NBFIs will be given a time period of until 31st March, 2014 to identify partners of their choice from within the Category B NBFIs for such mergers/absorptions. There was positive response from the financial institutions and the CB met the Ceylon Bank Employees’ Union and clarified matters. “We are maintaining a close dialogue with the CB approved Panel of Auditors and other Consultants,” Mr. Siriwardena added.

“Discussions were held with the Securities and Exchange Commission and the Colombo Stock Exchange and with the Ministry of Finance and Planning on matters related to taxation.”

Due Diligence (DD) and Valuation of business is in progress, he said, adding that the CB has requested the Panel of Auditors (nine reputed companies) to conduct the due diligence and valuation of business of Category B NBFIs and all other Consultants to work with these Auditors. “These DDs and business valuations will be carried out using acceptable standards and will provide price guidance to buyers and sellers. By next Tuesday they will submit the DDs,” Mr. Siriwardena said.
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Chevron’s US$ 15 Million Plant Ready By October

The 15-million-dollar new blending plant being constructed at Sapugaskanda by Chevron Lubricants Lanka will be ready for commissioning by October 2014. According to Dr Kishu Gomes, Managing Director/CEO of the company, the new state-of-the-art plant will sport new technology and will also co-locate the warehouse on the same premises, a move that is expected to deliver cost savings for the Company. Elimination of the need to transport stocks from factory to warehouse, may reduce the carbon footprint further, says Dr Gomes in the company’s annual report.

“We have harnessed a blend of both Chevron global expertise in project management and local expertise in engineering both civil and mechanical, to complete the project in time and within planned expenditure and most importantly to avoid a single litre of unfulfilled orders during the transition. All the Base Oil storage and finished goods storage tanks have been completed. Prefabricated blending plant and warehouse structures have been erected,” he states.

Chevron Lubricants Lanka PLC has recorded a dynamic performance in a high pressure environment during the period under review. The Company has recorded a 12% increase in profits posting Rs. 2.53 billion, up from Rs 2.26 billion achieved in 2012. The ability to keep increasing the bottom-line progressively despite the challenging conditions, speaks for the maturity of its business strategies and its unwavering commitment to its sustainability agenda. The report states that 2013 marked 12 years of Sri Lanka operations without ‘loss time incidents’ – an enviable injury-free record – where no employee injured in the workplace had to forego a single day of work.

The report also states that less volatility in the exchange rate, somewhat stable base oil prices compared to 2012, prudent cost management and increased interest income from cash reserves had helped cushion the reduced volumes which stemmed from adverse weather conditions in the first quarter of the year, reduced demand from the thermal power sector and longer oil drain intervals.

The adverse weather conditions affected sales volumes from the agricultural and fisheries sectors. Volumes from export markets in Bangladesh and Maldives also had came under pressure due to adverse macro-economic and political factors in those markets. Total export revenue accounted for 6% of the total revenues.

Chevron Lanka had also continued to benefit from global synergies in various facets of its operations ranging from procurement of raw materials, product technology innovations, human resource best practices, brand & marketing and system & process support, all of which helped the Company to maintain its competitive position in the market.

The report notes that the year under review had tested the mettle of the Company and its ability to perform amidst complexity. The government’s decision to increase duties on the import of vehicles further had hampered growth in the automotive market. “We believe that the industry as a whole did not record any growth during 2013, which was already coming in from a low base of a 4% decline experienced in 2012,” Dr Gomes observed in the report.
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