Introduction

1.0 Introduction

According to Bank Negara Malaysia, Malaysia banking system is divided into 3 main groups which are; 1) monetary institution comprising the Central Bank (Bank Negara), commercial and Islamic financial institutions; 2) non- monetary institutions namely merchant banks, credit and insurance companies, and development banks; and 3) foreign banks representative offices and offshore banks. Prior to the 1997 financial crisis, Malaysia had thirty - seven commercial banks, forty finance companies and twelve merchant banks. However, after the financial crisis 1997, most of the banks has consolidation through mergers and acquisitions to strengthening of these financial institutions has result in thirty – five licensed commercial banks, thirty – one finance banks and twelve merchant banks. As to date, there are only twenty – two licensed commercial banks and fourteen merchant banks in Malaysia. (Shanthi Kandiah, 2009) (Table 1)

Financial Institutions

1997

1998

2009

Commercial banks

37

35

22

Finance Companies

40

31

0

Merchant banks/Investment banks

12

12

14

Table 1 : Number of Financial Institutions

However, among the twenty - two licensed commercial banks only nine of the commercial banks are local bank and the rest of thirteen commercial banks are foreign banks. From the nine local commercial banks out of eight banks listed in Bursa Malaysia are: Malayan Banking Berhad, Hong Long Bank Berhad, Public Bank Berhad, Affin Bank Berhad (under Affin Holding Group), Alliance Bank Berhad (under Alliance Financial Group Berhad),Ambank Berhad ( under AMMB Holding Berhad), Eon Bank Berhad (under Eon Capital Berhad) and lastly CIMB Bank Berhad. (under Bumiputra- Commerce Holdings Berhad) while Rhb Bank Berhad, is currently not listed in the Bursa Malaysia. (Table 2)

NO

NAME

Listed

Non-Listed

1.

Affin Bank Berhad (under Affin Holding Group)

x

2.

Alliance Bank Malaysia Berhad (under Alliance Group Berhad)

x

3.

AmBank (M) Berhad (under AMMB Holding Berhad)

x

4.

CIMB Bank Berhad (under Bumiputra-Commerce Holding Berhad)

x

5.

EON Bank Berhad (under Eon Capital Berhad)

x

6.

Hong Leong Bank Berhad

x

7.

Malayan Banking Berhad

x

8.

Public Bank Berhad

x

9.

RHB Bank Berhad

x

Table 2: List of Local Commercial Banks in Malaysia

After the financial crisis 1997, significant numbers of bank had bankrupt or were merged with other financial institutions, which proven that, the failure of bank is due to their failure in managing their liquidity risk properly. In other words, during the financial crisis a lot of banks were incapable to provided sufficient amount of money to meet the current need of their investors. As thus, banks had said as to failure to managing their risk properly because do not have enough money liquidity in banks to meet the demand of their investors.

From another perspective, big bank may not always be better because increase in organisation may present more problems than it. Bank have found that to survive it is more necessary to have a leading market share in a variety of businesses rather than just having a lot of assets or a huge capital. Thus, proper management of risk related to assets and capital market among bank is crucial. If the bank was able to assess the risk at an early stage, then the bank may be able to plan for appropriate action to be taken to reduce risk before it occurred.

1.1 Risk Management in Banking Sector

Driven by the increasing complexity of doing business, risk management has become an important and integral part of the company’s internal control and governance in order to achieve its plans and objectives. In other words, risk management refers to the methods and processes used by organizations to manage risks (or seize opportunities) related to the achievement of their objectives. ( Azlan Amran, Abdul Manaf Rosli Bin and Bin Che Haat Mohd Hassan, 2009)

Risk management in general involves identifying; assessing, responding, prioritizing then risk followed by minimization of risk and control the probability of risk. Risk management is entering into many aspects of banking business such as increased attention and concern must be given to ensure the risk under control. Ideally, risk management in the banking sector is to reduce the risk to the minimum. For example, credit approval, the officer can reduce this risk through measure the ability to pay back by customer before approved the credit.

In facing the challenge of global financial environment, banking sector is required to implement integrated risk management systems. (Rajna, 1999) They are required to identify their current risk exposure such as market risk. It is a necessary risk-reducing tool to promote long-term profitability and stability of the banks and enhance the competitive advantage of banks. If a bank has right risk management systems that can effectively capture the risk exposures, there is an opportunity for them to lower their capital charges. As a result, proper risk management practice is essential for banks to maintain competitiveness over the long run.

Lastly, to manage the risk in banking sector, first the banks need to identify the risk. The risk related to banking consists of credit risk, market risk; interest rate risk, foreign risk, liquidity risk and operation risk. Risk identification is the first stage of risk management. This mean that, banks need to correctly identify the risk such as market risk of the risk expose because it helps to develop basis for next steps analysis and control of risk management. (Lubka Tchankova, 2002)

1.2 Risk Management Disclosure in Banking Sector

The purpose of risk management disclosure is to allow financial analysts, shareholders, creditors, clients and any interested parties to rely on minimal standards of quality and consistency in the risk management policies of financial firms. Greater promote transparency of risk management could benefit investors. Increased transparency is considered in the numerous explanations offered in the finance literature for the willingness of firms to voluntarily disclosure complete and timely information. This is said to be benefit investors as they need comprehensive risk information if they are to completely understand the bank’s risk profile.

Risk is an unavoidable element of any business venture, especially for banking sector. In addition to financial risk, a company is also susceptible to business risk or changes in the overall economic climate that can adversely affect the price of its securities. Hence, it is in the stakeholders’ best interest that risk be disclosed in a timely manner. (Azlan Amran, Abdul Manaf Rosli Bin and Bin Che Haat Mohd Hassan, 2009)

Disclosure of risk management is to promote a more robust financial system. Moreover, can help to promote and maintain a sound financial system by strengthening the incentives for sound risk management within financial institutions and by improving the information which financial institutions use to make credit allocation decisions to the corporate sector. (Rajna Gibson, 1999) Normally, those banks with better disclosure will tend to attract more investor to invest, or clients more willing to place their money in the bank.

Besides that, the disclosure of risk management helps to reduces information asymmetry. Investors and shareholder would be able to justify the risk position of the bank through the disclosure of respective financial information. This also can help them to justify whether the manager is acting on the interests of the company. Besides that, disclosure of risk facilitates supervision and reduces monitoring costs. Public disclosures of risk in banks annual report enable the management to foresee the potential problems; therefore can plan to reduce risk in advance, thus it save the monitoring cost indirectly. (Philip, 2005)

It is argued that banks that disclose greater amounts of useful risk information would benefit from a reduction in their cost of finance as the providers of funds will be in better position to judge the bank’s risk level and this will remove the need for them to incorporate a risk premium within the cost of capital. (Linsey and Shrives, 2005)

1.3 Types of Risk in Banking Sector

Risk of the banking sector can be varied and widely difference across the banking institution. Generally the risk for banks business can classified into five popular categories: credit risk, interest rate risk, foreign exchange risk, liquidity risk, and operating risk.

1. Credit risk

Credit risks the most important risk categories in banking. Risk that due to the borrower unable to repay back to the banks. In order word, credit risk is the bank borrower fail to meet its obligations in accordance with agreed terms and conditions. The aim of credit risk management is to maximize a bank’s risk- adjusted rate of return by maintaining credit risk exposure within acceptable boundary. (Catherine Soke Fun Ho, 2009)

Bank Negara Malaysia (2009), credit risk continues to remain the largest source of risk for banking institutions in Malaysia. This is due to the fact that a banking institution’s loan portfolio is typically the largest asset and the major source of revenue.

2. Interest rate risk

Interest rate risk is one of the market risks. It is the effect of changes in market interest rate levels on the profitability of the bank. Increases in interest rates may lead to higher profits, lower profits, or no change in bank profiles. While the risk due to changes in interest rates has always been a possibility, this source of risk was not considered to be serious as long as interest rates were stable. Changes in interest rates can damage the bank’s profitability by increasing its cost of funds, lowering its returns on earning assets, and reducing the value of the owners’ investment.

3. Foreign exchange risk (Forex)

Risk associate with the loss in the exchange of the currency. Foreign exchange risk is the loss being incurred because of being party to a foreign currency transaction or holding a foreign currency changes. For extreme cases, it may involve blocking of convertibility.

4. Liquidity risk

Liquidity, or the ability to fund increases in assets and meet obligations as they come due, is crucial to the ongoing viability of any banking organization. Therefore, managing liquidity is among the most important activities conducted by banks. Sound liquidity management can reduce the probability of serious problems. Indeed, the importance of liquidity transcends the individual bank, since a liquidity shortfall at a single institution can have system-wide repercussions. (Basel, Feb 2000)

5. Operating risk

This is refers to the risk of losses or unexpected expenses associated with fraud, check kiting, and litigation. According to Bank Negara 2009, large corporate experience of the failures due to fraud and lapses in internal controls has focused greater attention on improving operational risk management in banking institutions.

1.4 Problem Statements

Driven by increase competitive in business environment today, risk management is required to be disclosed in financial statements of the companies in complying with FRS 132. However, there is an issue where a lot of companies are not willing to disclose additional voluntary information in the financial statements. As they worry valuable information is available to their rivals and creates competitive disadvantages.

Radiah Otman (2009), firm may not like to disclose extensive information that might have future repercussions for their bare existence due to sensitivity of such information. This is one of the problem which investors or others interested parties do not have extensive information to evaluate banks financial performance. Apart from it, he also said that interest rate disclosure was favored as compared to credit risk among the market risks categories.

1.5 Research Question

The purpose of this study is to determine the extent to which commercial banks are providing risk management disclosure (qualitative information) suggested under FRS 132. Thus, the specific research questions are:

Research question 1: Which type of risk more likely to be disclosed by commercial banks in Malaysia?

Research question 2: Do commercial banks provided additional voluntary disclosure?

Research question 3: Do the commercial banks in Malaysia disclose financial risk management objectives and policies?

1.5 Objective of the Study

The general objective of this study is to examine whether the commercial bank in Malaysia complying with the general risk management guideline that provide by the FRS 132. However, the objective is broken down as below;

a) To examine which type of risks are more likely to disclosed by the commercial banks in Malaysia.

b) To make the comparison among commercial banks to the extent of the information disclosed in the financial statement. Whether information disclosed is voluntary information or mandatory information.

c) To examine whether the commercial banks in Malaysia disclosure financial risk management objectives and policies.

d) To examine whether the commercial banks in Malaysia comply with Financial Reporting Standards in Malaysian.

1.6 Conclusion

After the financial crisis 1997 and also Enron scandals, it is increased need for the demand of more risk management disclosure. Risk management plays an important role in the global financial sector. Banking sector is inherently involved in risks and these risks need to be managed. Inherent risks are the risk that due by economic environment. Bank is highly exposed to this risk, as so the effective risk management is crucial.

It is important for banks to release risk information to the marketplace that enables stakeholders to assess its risk profile. Disclosure of risk in financial statement able to help investors have a better understanding on how firm value is affect by risk exposure, this also can help to reduce information asymmetry between banks, investors and other stakeholders.

One of the major problems here is that some companies are not willing to disclose more extensive information in their annual reports as they worry that the information is quantifiable to their competitors. Besides that, when the cost of disclosure is higher than the benefit, they will choose not to disclose the risk information. Thus, this study is to undertake which type of risk is most likely to be disclosed by commercial banks in Malaysia and examine whether the information disclosed is moderately or voluntary disclosed additional information. This study also evaluates the level of compliance among banks in Malaysia, and whether the banks disclosed financial risk management objectives and policies.

2.0 Introduction

Prior to British colonial in Malaysia, accounting in Malaysia more emphasis on the recognize expenditure and revenue rather than recognize income. As after the British colonial and the accounting development and structure change over time there is increasing important for the issue such as recognition, measurement, and accountability. However, the accountants prepare the accounting reports is more emphasis on the shareholder needs. This mean they tend to alter the reports to the amount of income at which their shareholder desired in order to attract more investors. Therefore, sometime the annual reports do not actually reflect the fact of the financial position of the company. As for this reason, accounting standards play important roles to ensure that the annual report of the company is complying with the standard that are required.

Companies registered in Malaysia must comply with the Company Act 1965. The Act prescribes the preparation of general purpose financial reports by certain categories of companies, and this preparation is subject to regulations from several sources. The provision of information is essential for decision maker such as investors, creditors and interested parties. However, there is a need for regulations and monitoring to ensure that the information provided to such users is reliable and unbiased. As for financial institution in Malaysia the key players in the financial reporting environment consist of Companies Commission of Malaysia; Central Bank; Securities Commission, and Malaysia Accounting Standards board (MASB).

2.1.0 Companies Commission of Malaysia

All companies that incorporated under Company Act 1965 are regulated by Companies Commission of Malaysia. The Act requires certain companies, such as public listed companies or private limited companies, to prepare financial statements in accordance with approved accounting standards. Among other functions, CCM monitors compliance with accounting standards and the Company Act 1965. This involves investigating companies that do not comply with accounting standards.

The function CCM includes:

* enhancement and promotion of the supply of business and corporate information;

* acting as agent of the Government and providing services in collecting and enforcing payment of prescribed fees;

* regulating matters relating to corporations, companies and business.

* encouraging and promoting proper conduct amongst directors, secretaries and other officers of a corporation

The Companies Commission has played an active role in the accounting profession and the Malaysian Accounting Standards Board (MASB). Coordinated efforts are undertaken by the profession together with the Companies Commission and the MASB to identify issues that impact the financial and reporting environment.

2.1.1 Central Bank

Bank Negara Malaysia is the central bank of Malaysia. The main objectives are to issue currency and maintain reserves in order to safeguard the value of the currency; Act as a banker and financial adviser to the Government; promote monetary stability and a sound financial structure; and influence the credit situation to the advantage of the country. Apart from that, Bank Negara Malaysia also responsible for regulates and supervise the financial system in Malaysia.

2. 1.2 Banking and Financial Institutions Act 1989 (BAFIA)

Banking and Financial Institutions Act 1989 (BAFIA) is one of the legislations to regulate and supervise the financial system. The objective of the Banking & Financial Institutions Act, 1989 (BAFIA) is "to provide new laws for the licensing and regulation of the institutions carrying on banking, finance company, merchant banking, discount house and money-broking business, for the regulation of institutions carrying on certain other financial businesses, and for the matters incidental thereto or connected therewith". BAFIA was introduced to provide for an integrated supervision of the Malaysian financial system and also to provide the Central Bank with the power to speedily investigate and prosecute, if necessary any illegal activities in an attempt o reduce white-collar crime.

2.1.3 Securities Commission (SC)

Securities commission was set up under the Securities Commission Act 1993. The function of the Securities Commission is to promote a strong and healthy securities market and to maintain the confidence of investors in line with the provisions of the Securities Commission Act and the Securities Industries Act 1983.

SC also regulates the corporate sector, particularly the listed companies. Company that listed in bursa Malaysia required filing detailed annual reports with the Commission. The period of the financial report date and the issue date must not exceed six months. The annual reports must be audited. The public companies are required to maintain a high standard of financial disclosure in order to provide the public with the information that is necessary to make informed investment decisions. The SC played a significant role in the establishment of the Financial Reporting Act 1997 and continues to be involved in the Malaysia Accounting Standards Board (MASB).

The function of the SC included:

* supervising exchanges, clearing houses and central depositories;

* regulating all matters relating to securities and future contracts, unit trust schemes, take- over and mergers of companies;

* encouraging self – regulation;

* approving authority for corporate bond issues;

* licensing and supervising all licensed persons;

* ensuring proper conduct of market institutions and licensed persons.

The SC has since 1996 embarked on three phase shift towards a Disclosure Based Regulation (DBR). With effect from 2001, it has embarked on a full DBR focus with requirements of high standards of disclosure, due diligence and corporate governance. Disclosure is crucial to investors who wish to invest or who have invested in securities sp that their investment decision process can be facilitated. Due diligence is a process undertaken by companies in disclosing information, to ensure that all information disclosure in full, timely and accurate. Corporate governance is the process and structure used to direct and manage the business and the affairs of the company towards enhancing business prosperity and corporate accountability with the ultimate objective of realizing long- term shareholder value, whilst taking into account the interests of other stakeholders.

2.1.4 Malaysia Accounting Standards Board (MASB)

The Financial Reporting Act 1997 establishes the Financial Reporting Foundation (FRF) and the Malaysian Accounting Standards Board (MASB). The main functions of the FRF are to provide the financing arrangements for the operations of the MASB, and review the MASB performance.

MASB is an independent authority to develop and issue accounting and financial reporting standards in Malaysia. The main functions of the MASB are to:

* issue new accounting standards as approved accounting standards;

* review, revise or adopt as approved accounting standards existing accounting standards;

* issue statements of principles for financial reporting;

* sponsor or undertake development of possible accounting standards;

* conduct such public consultation as may be necessary in order to determine the contents of accounting concepts, principles and standards;

* develop conceptual framework for the purpose of evaluating proposed accounting standards;

* make such changes to the form and content of proposed accounting standards as it considers necessary.

The MASB together with the Financial Reporting Foundation (FRF) make up the framework for financial reporting in Malaysia.

2.2.0 FRS132 Disclosure Requirements

In Malaysia, Bank Negara Malaysia’s and Financial Reporting Standards’ requirements act as quality control measures for bank to comply in respect of their disclosure contents of their risk in the annual report. FRS 132 (IAS 32) Financial Instruments – Disclosure and Presentation shall apply for annual periods beginning on or after 1January 2006. FRS 132 should be read in the context of its objective and the Basis for Conclusions, the Framework for the Preparation and Presentation of Financial Statements. In this study, FRS will take as the guideline to examine the level of compliance among banks in Malaysia to the extent of risk information disclosed.

According to paragraph 56 of FRS132 Financial Instruments – Disclosure and Presentation, there is a specific requirement that an entity shall describe its financial risk management objectives and policies, including its policy for hedging each main type of forecast transaction for which hedge accounting is used. Similarly paragraph 58 of FRS132 Financial Instrument specifies that an entity shall disclose a description of hedge; nature of risk being hedged, and a description of the financial instruments designated as hedging instruments and their fair values at the balance sheet date. For each type of market risk such as interest rate risk, an entity shall disclose information about its exposure to interest rate risk, including effective interest rates and maturity dates (or contractual re-pricing). On the other hand, for credit risk an entity shall disclose the amount that best represents its maximum credit risk exposure as at balance sheet date, without taking into account of the fair value of any collateral, in the event of other parties failing to perform their obligations under financial instruments, and significant concentration of credit risk.

2.2.1 Foreign Exchange Risk Disclosure Format

When hedging instruments held or issued by an entity, either individually or as a class, creates a potentially significant exposure to the foreign exchange, commodity and interest rate risks. Their terms and conditions that warrant disclosure are: the principal, stated face value, for derivative such as IRS, forwards and future contracts; date of maturity, early settlement option held by either party to the instrument, including the period in which, or date at which, the options can be exercised and the conversion or exchange ratio.

2.2.2 Interest Rate Risk Disclosure Format

The carrying amount of financial instruments exposed to interest rate risk may be presented in tabular form, grouped by those that are contracted to mature or be re-priced in the following periods after the balance sheet date. It can be one year or less; in more than one year but not more than two years; in more than two years but not more than three years; in more than three years but not more than four years; in more than fours but not more than five years; and more than five years. Interest rate information may be disclosed for individual instruments, or weighted average rates or a range of rates may be presented for each class of financial instrument.

2.2.3 Credit risk Disclosure Format

The disclosure of the financial assets exposed to credit risk shall include the carrying amount of the assets in the balance sheet, net of any provisions for loss. For example, in the case of an IRS carried at fair value, the maximum exposure to loss at the balance sheet date is normally the carrying amount because it represents the cost, at current market rates, of replacing the swap in the event of default. Besides that, a financial asset subject to legally enforceable right of set-off against a financial liability shall be disclosed. It is intriguing to learn that even though MASB advise companies to disclose liquidity risk but no format has been suggested to date.

2. 3.0 Definition of commercial banks

In the early days, commercial banks were commonly known as exchange banks because their business was concentrated mainly in the financing of external trade. This involved primary transactions in foreign exchange, such as remitting and receiving funds to and from abroad, and trading in commercial bills, including the short- term financing of foreign trade. Commercial banks are defined as “any person who carries on bank business”, under the Banking Act, 1973. Banking business means the business of receiving money on current or deposit account, paying and collecting checks drawn by or paid by customers, and making advances to customers, and include such other business as the Central Bank, with the approval of the Finance Minister, may prescribe.

However, definition under the Banking and Finance Institution Act, 1989 (BAFIA) is almost the same as the definition under Banking Act, 1973 in which a bank can be defined as “individual or organizations” whom operates the business of banking such as receiving deposits for current account, saving account, making payment and receiving customers’ checks and other financing. Today, all the operations in the banking industry are governed by BAFIA, 1989. It is developed to replace the Finance Company Act, 1969 as well as the Banking Act, 1973. The introduction of the BAFIA is intended to provide an integrated supervision of the Malaysian financial system and to modernize and streamline the laws relating to banking and banking institutions.

2.2.1 History of Commercial Banks

Commercial banks worldwide are mostly owned by private sectors. They are formed as a business organization with the objective to make profits. In their early establishment in Malaysia, commercial banks have played an important role in the transaction and development in the industry of commerce. The business was mainly focused in financing the overseas business transactions such as foreign exchange (in term of sending and receiving money to and from other countries) and also financing in the short- term markets.

The main focus on external transaction was due to the development of economy sector especially in the import and export. Moreover, the business operations at that time were run by the branches with the supervision of their head office in overseas. The first bank branch in Malaysia was Charted Mechantile Bank, in 1959. The bank’s head office was initially in India, and then shifted to London and lastly China. Later, when the economy has developed drastically, there were more foreign bank branches. Today, the traditional practice of the banking industry in Malaysia has progressed. An important feature in the development of banking is the growing of locally incorporated foreign and domestic banks.

BAFIA came into force on October 1, 1989 the domestic bank were required to formally exchange their licenses for new ones issued under BAFIA. The foreign banks, however, were given a time period of five years (up to October, 1994) to exchange their licenses in view of the provision requiring them to incorporate locally. The growth of locally incorporated banks marked a significant change in commercial banking in the country which prior to the 1970’s was dominated by foreign banks. As at the end of 1959, there were then only 8 domestic as compared to 18 foreign banks. After 1982, foreign banks had been restricted from opening new branches in Malaysia in line with the policy to encourage the growth and development of domestic banks, particularly the expansion of the branch network into the rural areas. As at December 1996, there are a total of 37 commercial banks with a total branch network of 1569. The regulated expansion of banks has contributed towards a wider and better spread of banking facilities.

3. 0 Introduction

After the Enron, WorldCom, and Xerox scandals, there has been increasing demand for more disclosures, especially in non- financial segment of the annual report. The need of greater transparency to disclosure the information in the financial statement has increasing more important over the year.

Philip (2005), Transparency is defined as ‘ the public disclosure of reliable and timely information that enables users of that information to make an accurate assessment of a bank’s financial condition and performance, business profile, risk profile and risk management’. Reliable and timely information mean that information disclosure in the annual report is reliable and can help the investors or any interested parties to make the decision in the timely manner. As for, relevance implies that the risk information meets the decision-making needs of the user of that information and timeliness is necessary to ensure the information is received at appropriate intervals and while it is still relevant.

The same author states that reliable information tends to be information about past events, while information about future events is inherently unreliable. However the most relevant information for decision-making is future information and therefore a tension arises between relevance and reliability. Central to this is the issue of forward – looking risk information which is potentially of great relevance, but which is also inherently unreliable.

Risk management

3.1 Disclosure Regulation Debate

Patrice Gelinas (2007), the information firms disclose through regulatory filings and voluntary communication bring into being a complex array of costs and benefits. For example, publicly disclosed information can attract investors as well as qualified employees, increase public profile, and permit benchmarking when competitors must similarly disclose. At the same time, producing information is costly because firms must, among other things, hire and equip information producers and release intelligence that can harm their competitive position.

Hua Hwa Au Yong (2005), the disclosure of proprietary risk management information can put banks at a competitive disadvantage as valuable information is available to their rivals. Additionally, the cost of producing and providing information may be a significant burden for some banks. The prescriptive accounting treatments could bias banks’ decision- making towards the activity and instruments with the least costly regulatory outcome. For example, banks may simply decide to reduce the use of risk management instruments given the detailed disclosure requirements.

Extent theory on voluntary disclosure shows that, absent market imperfections or externalities, firm managers have incentives to optimally trade off the costs and benefits of voluntary disclosure, and to provide the efficient level of information to investors in the economy (Healy and Palepu, 2001).

A single efficient amount of disclosure exists when disclosure costs increase at an increasing pace and benefits increase at a decreasing pace as the amount of disclosure a firm releases augments. Similar assumptions are widespread (e.g. refer to Admati and Pfleiderer, 2000) and seem reasonable. For example, if regulators mandated public disclosure of detailed itemized inventory up to, say, the number of paper clips at every employee’s desk, this extra disclosure would probably generate minimal incremental benefits because of its limited value for investors. However, the costs associated with preparing this information in terms of labor hours, additional pages of printed information, and loss of intelligence to competitors, to name but a few, would certainly be exponential.

Philip (2005), state that it is important to note that disclosure itself will not create transparency unless it is disclosure of ‘useful’ information. Immaterial risk information need not be published as, by definition, this is information that would not influence the user’s decision.

Three theoretical arguments support disclosure regulation in favor of investors and any interested parties. First, Leftwich (1980) and Beaver (1998) note that regulation increases economic efficiency because market failures in disclosure could lead to underproduction of information. Failures arise because existing shareholders pay for the production of information disclosure, but cannot charge potential shareholders who free-ride on the information. Second, the same authors note that it can reduce the information gap between informed and uninformed investors, a purpose that simply redistribute wealth between different shareholder strata. Linsmeier (2002), information gap refers to information asymmetry that exists between a firm’s insiders and outsiders. An information gap reduces firm value due to high monitoring and bonding costs. Managers can increase firm value by narrowing the information gap between banks, investors and other stakeholders via disclosure of value information. Third, Coffee (1984) and Mahoney (1995) argue that it leads to efficient and liquid securities markets because it reduces information asymmetry between investors and managers to solve the agency problem. Keryn Chalmers (2005), derivative disclosures can reduce agency costs. Bank managers, as agents, may act in their own interest, with regulators and shareholders needing to restrict and monitor their behavior. Restriction and monitoring is achievable through the imposition of higher capital adequacy requirements, strict disclosure regulations, or higher expected returns to debt and equity capital providers. By disclosing derivative – related information, bank managers are able to reduce agency costs.

In contrast, Admati and Pfleiderer (2000, p. 479) summarize well the viewpoint of researchers who do not believe that disclosure regulation favors investors:

If disclosure is good, why don’t firms do it voluntarily? Regulation should not be necessary if disclosure is in the firm’s best interest. The need for disclosure regulation is further brought into question by the well-known ‘‘unraveling’’ results of Ross (1979), Grossman (1981), and Milgrom (1981), whereby lack of disclosure is taken to be bad news, forcing the informed party to reveal its information in equilibrium. If this is the case, again, regulation that requires that certain information be disclosed seems to be redundant.

In short, the debate between proponents and opponents to disclosure regulation demonstrates that there is no consensus on its desirability for investors or on whether it increases economic efficiency. To the opposing, disclosure regulation is costly for investor it supposedly helps and, to the extent that managers’ pay is linked to the performance of the firm, it impacts managers’ pay negatively.

Conclusion

Disclosure debate

Banks need to disclose minimum information as required by the regulator. In other words, banks are giving their right to choose not to disclose additional information. As thus, this may lead to complex array of costs and benefits. Although public disclosed additional information can attract more investors, but banks may choose to not disclose it as the cost of disclosure might be greater than it benefit. This why lead to complex of interest.

Three theoretical arguments support disclosure regulation in favor of investors. First, the regulation increases economic efficiency. Second, it helps to reduce information gap between informed and uninformed investors. Lastly, it reduces information asymmetry between investors and managers.

3.2 Risk Disclosure Requirements

Among the many new areas of interest that require disclosure in the annual report are matters relating to social and environmental obligations and the intellectual property of the company. Currently, such disclosures are still left to the discretion of the company in many countries and under varying guidelines issued by the authorities and accounting bodies. (Azlan Amran, Abdul Manaf Rosli Bin and Bin Che Haat Mohd Hassan, 2009) Below are some guideline and standards that which is issue for the banking sector.

Basel II

According to Bank Negara Malaysia, Malaysia will adopt the new capital accord- Basel II set by Basel committee. This Basel II is the revised international capital framework. The Basel II Framework describes a more comprehensive measure and minimum standard for capital adequacy that national supervisory authorities are now working to implement through domestic rule-making and adoption procedures. It seeks to improve on the existing rules by aligning regulatory capital requirements more closely to the underlying risks that banks face. The objective of this new framework is to emphasize on the need for refined measurement of risks, more efficient capital management and the adoption of sound risk management practices that will ultimately contribute to greater financial stability. This will to enhance the corporate governance framework, the robustness of the internal control systems, and to introduce greater transparency and market discipline.

Currently bank in Malaysia is still follow the current accord issued in 1988, this Basel I has served as the international benchmark for capital adequacy assessment for banking institutions. Although this can achieved the desired results in terms of developing more well- capitalized banking institutions globally, however the rapidly change in the developments in financial market over the years, the existing accord may less effective.

The new Basel Accord comprises three pillars. The first pillar provides a minimum capital measurement framework for credit and operational risks. In essence, the regulatory capital requirement is aligned more closely with the actual degree of underlying risk that the banking institution faces. It provides the capital measurement that has three options with different levels of complexities for both credit and operational risks to better reflect actual risk. The second pillar focuses on strengthening the supervisory process, particularly in assessing the quality of risk management in the banking institutions. The supervisory process aims to provide the mechanism to ensure that other risks such as concentration risks and market risks in the banking books being managed. Under such an environment, prudent lending such as that characterized by a high degree of portfolio diversification, could justify lower capital requirements. The third pillar specifies minimum disclosure requirements on capital adequacy to enhance market discipline. (Evidence from Bank Negara Malaysia, 2009)

The adoption of the new accord is consistent with strengthening risk management capability. This not only can result in greater capital savings but the domestic banking system also can become more competitive and integrated with the global marketplace. However, Malaysia will adopt a two- phased approach for Basel II. Which mean that, the first phase will begin in January 2008 all the banks will adopt the standardized approach for credit risks and basic indicator approach for operational risk. The second phase will adopt by year 2010.

IAS 30- Disclosures in the Financial Statements of Banks and Similar Financial Institutions

The financial statements of banks and similar financial institutions are complying with all Financial Reporting Standards. According to Financial Reporting Standards, IAS 30 recognizes the uniqueness of bank and their different accounting and reporting needs. IAS 30 also encourages the presentation of a disclosure of a commentary on management and control of liquidity and risk.

The objective of the IAS 30 is to prescribe appropriate presentation and disclosures for banks. The purpose of this is to provide users with appropriate information to assist them to evaluate the financial position and performance of banks and to enable them to obtain a better understanding of the special characteristics of operations of banks. Users of financial statement of banks will be interested in the liquidity and solvency and the risk related to the assets and liabilities recognized in the balance sheet including off balance sheet items.

4.0 Introduction

The objective of this chapter is to describe the methodology to be used in conducting this study. This included the explanation on sample selected, data collection, method of analysis and hypothesis.

4.1 Sample Selected

From the total number of twenty - two licensed commercial banks in Malaysia only out of nine banks are locally own. Thus, only nine banks have been chosen as the sample size for this study. As this study only focus on risk management disclosure from Malaysia perspective. (Table 3)

No.

Name

Local commercial bank

Foreign commercial bank

1.

Affin Bank Berhad

x

2.

Alliance Bank Malaysia Berhad

x

3.

AmBank (M) Berhad

x

4.

Bangkok Bank Berhad

x

5.

Bank of America Malaysia Berhad

x

6.

Bank of China (Malaysia) Berhad

x

7.

Bank of Tokyo-Mitsubishi UFJ (Malaysia) Berhad

x

8.

CIMB Bank Berhad

x

9.

Citibank Berhad

x

10.

Deutsche Bank (Malaysia) Berhad

x

11.

EON Bank Berhad

x

12.

Hong Leong Bank Berhad

x

13.

HSBC Bank Malaysia Berhad

x

14.

J.P. Morgan Chase Bank Berhad

x

15.

Malayan Banking Berhad

x

16.

OCBC Bank (Malaysia) Berhad

x

17.

Public Bank Berhad

x

18.

RHB Bank Berhad

x

19.

Standard Chartered Bank Malaysia Berhad

x

20.

The Bank of Nova Scotia Berhad

x

21.

The Bank of Nova Scotia Berhad

x

22.

United Overseas Bank (Malaysia) Bhd.

x

Table 3: List of Licensed Commercial Banks in Malaysia (Evidence from Bank Negara Malaysia, 2009)

4.2.0 Data Collection

4.2.1 Source of Data

Source of information can be generally categorised into 2 categories namely the primary and secondary data. Primary data come from the original source and are collected especially to answer the particular research question. The method of collecting primary data normally is through observation, questionnaires, and interview. In the other hand secondary data are collected from various sources such as thesis, journals from library and internet, government sources, textbooks and various articles that are related to this study. As for this study, secondary data will be used as the sources of information and data for analysis.

Choosing annual reports to examine to what extent the banks disclosed their risk due to (1) the annual reports is the main source for the investors to make investment decision, (2) easier to make comparison among banks by study their annual reports, (3) annual reports also is the secondary data that can gather from internet. Thus, this method is very useful for the purpose of this study.

4.2.2 Data Collected

Annual reports for every single bank as listed on the Table 4 will be used to analysis the information on risks disclosed by the banks in their financial statements.

Bank

Annual Report 2007

Annual Report 2008

Annual Report 2009

Affin Bank Berhad (under Affin Holding Group)

X

Alliance Bank Malaysia Berhad (under Alliance Group Berhad)

AmBank (M) Berhad (under AMMB Holding Berhad)

CIMB Bank Berhad (under Bumiputra-Commerce Holding Berhad)

X

EON Bank Berhad (under Eon Capital Berhad)

X

Hong Leong Bank Berhad

Malayan Banking Berhad

Public Bank Berhad

RHB Bank Berhad

X

Total

9

9

5

Table 4: Number of Commercial Banks Annual Report that able to download from Bursa Malaysia as at February, 28 2010.

In reference to Table 4 above, total nine banks annual reports were able to downloaded from Bursa Malaysia for the period between 2007 and 2008. However, as for year 2009 only five of these reports were available in Bursa Malaysia’s website. The other four banks annual reports were not able to obtained due to the banks financial year end date is on 31 December (i.e. their financial reports for the year ended 2009 are still in the process of being audited). These banks are Affin Bank, CIMB Bank, EON Bank and RHB Bank. Nonetheless, for Public Bank even though its financial year ends date is on 31 December, the bank’s annual report was available in Bursa Malaysia’s website due to the fact that the company’s annual general meeting was scheduled to be held on March 2, 2010.

Among the banks, they have difference financial year-end. For example, RHB Bank Berhad has their financial year-end on 31 Dec, while Malayan Banking Berhad has their financial year-end 30 Jun, and Alliance Bank Malaysia Berhad has their financial year ended 31 March. As so, for the purpose of this study, three years time period taken as the reasonableness time period for this study.

In reference to Table 5, out of the total of nine local commercial banks, two banks having financial year-end on 31 March. Whilst another two banks having financial year- end 30 Jun and the rest having financial year- end on 31 December.

Bank

Financial year- end on 31 March

Financial year-end on 30 Jun

Financial year- end on 31 December

Affin Bank Berhad

Alliance Bank Malaysia Berhad

AmBank (M) Berhad

CIMB Bank Berhad

EON Bank Berhad

Hong Leong Bank Berhad

Malayan Banking Berhad

Public Bank Berhad

RHB Bank Berhad

Total

2

2

5

Table 5: Banks List with Year-end which differs.

4.2.3 Method of analysis (Analysis Technique)

Information that was disclosed in the bank’s annual report can be qualitative (non – financial) and quantitative (financial). Hue Hwa Au Yong (2005), point out that qualitative information consists of management objectives and strategies, discussion of risks and management method, while as for quantitative information consists of notional amount, market value data, risk – weighted asset computation, gross current credit risk, and liquidity risk and others risks . For the purpose of this study, it is focuses on the qualitative part of annual reports, as Amran (2006), indicated that from an earlier study have shown that most of the disclosures are qualitative in nature and concentrated in the chairman’s statement.

Information to be disclosed is a matter of judgments. Hence, guideline from Financial Reporting Standards in Malaysia will take as guidance to examine the level of compliance among commercial banks in Malaysia.

Descriptive analysis is use for this study. The bank annual report will downloaded from Bursa Malaysia website. To locate the a bank disclosure of risk, the “ Find” option in Adobe PDF was used to search key word such as “risk”, “credit risk”, “interest rate risk”, “liquidity risk”, “foreign risk” and “operation risk”. Then I will seize the content of risk in a statement from the bank’s annual reports and study the type of risk they disclosure examine whether it is voluntary disclosure or mandatory disclosure. I believe that with used of take the “content” and put in a “statement” and examine the level of compliance, I will be able to gather accrual result from the study.

4.3 Hypothesis

Hypothesis 1:

H0 = Interest rate risk disclosure was favored as compared to credit risk.

H1 = Interest rate risk disclosure and credit risk are equally disclose in banks financial statement.

Hypothesis 2:

H0 = The commercial banks disclosed both mandatory and voluntary risk information.

H1 = The commercial banks disclosed only mandatory risk information.

Hypothesis 3

H0 = All commercial banks in Malaysia disclosed financial risk management objectives and policies.

H1 = Not all commercial banks in Malaysia disclosed financial risk management objectives and policies.

Hypothesis 4:

H0 = The commercial banks in Malaysia comply with Financial Reporting Standards in Malaysia.

H1 = The commercial banks in Malaysia do not comply with Financial Reporting Standards in Malaysia.

4.4 Conclusion

The risk management disclosure level categorize into few type of risk; credit risk, interest rate risk, foreign exchange risk, liquidity risk, and operating risk. Among those types of risks some banks disclosed in their annual reports while some of the banks do not disclose it. Out of twenty – two commercial banks in Malaysia only nine banks have been chosen for this study, as this study only focused on risk management disclosed from Malaysia perspective.

This project will be conduct by descriptive analysis, study the note to account that disclose in the annual reports for the banks, and to examine the level of compliance to FRS 132. Nevertheless, the study only focuses on the non- financial section or the narrative part of the annual report.

5.0 Introduction

5.1 Research question

The purpose of this paper is to determine the extent of which commercial banks in Malaysia are providing risk management disclosure suggested under FRS 132.

Research question 1: Which type of risk more likely to be disclosure by banks?

Type of risk

Number of company disclose (percent)

Number of company do not disclose (percent)

Total

Operational risk

Credit risk

Liquidity Risk

Market risk:

Foreign Currency Exchange Risk

Interest Rate Risk

Equity Risk

Research question 2: Do the commercial banks in Malaysia disclose financial risk management objectives and policies?

Listed Bank

(percent)

Non – Listed Bank(percent)

Total

Financial Risk management statement and policy

Yes

No

Total

Table 6: This table reports the number of banks providing financial risk management and policy

Research question 3: Do commercial banks provided additional voluntary disclosure?