Business and Other Risks

Risks that could have a material impact on investor decisions
are outlined below. Forward-looking items described below arethose of which YMFG is aware as of the end of the fiscal year
under review.
1. Non-Performing Loans(1) Non-Performing LoansYMFG maintains sufficient allowances against non-performing
loans to maintain the soundness of its assets. However, YMFG’s
non-performing loans and credit expenses could increase as theresult of economic movements in Japan and the local community,
fluctuations in real estate values and share prices, and themanagement status of recipients of YMFG’s financing. Suchfactors could have a negative effect on operating performanceand reduce equity capital.
To date, YMFG has worked diligently to move non-performing
loans off the balance sheet, to write off non-performing loans
appropriately, and to post sufficient allowances for doubtful
accounts. However, the Group could face larger-than-expected
losses when disposing of non-performing loans or incur higherthan-expected amortization.
(2) Allowance for Doubtful Accounts
In accordance with predetermined standards, YMFG posts anallowance for doubtful accounts using expected losses based on
past loan loss ratios. However, actual losses may differ from theamounts expected when the allowance for doubtful accounts isposted. As a result, actual losses could significantly exceed expected
losses, resulting in an insufficient allowance for doubtful accounts.
Furthermore, worsening overall economic conditions, declines
in collateral values and other unexpected factors may require theGroup to revise its set standards and expected losses, resulting in
the need to increase the allowance for doubtful accounts.
(3) Loans by Business Category, Geographic Region andOther Factors
From a risk management perspective, YMFG conducts credit
management of its portfolio by rating level, business category,scale, region and other factors.
However, large amounts of non-performing loans could begenerated in a specific business category and, if poor businessconditions in that business sector are prolonged, new corporatebankruptcies could arise. In such circumstances, YMFG’s credit
expenses could increase, having a negative impact on YMFG’soperating performance and financial condition.
Furthermore, as YMFG’s main bases of operation are in
Yamaguchi Prefecture, Hiroshima Prefecture and the city ofKitakyushu, the Group’s operations tend to be particularly
affected by regional economies. Conditions in those regional
economies could therefore have a negative impact on YMFG’soperating performance.
2. Capital Adequacy Ratio
As YMFG has overseas bases, it calculates a consolidated capital
adequacy ratio according to uniform international standards asprovided by “standards for determining whether a bank holdingcompany’s equity capital is sufficient, after taking into accountassets held by the bank holding company and its subsidiarycompanies, based on the provisions of Article 52-25 of the Banking
Act” (Financial Services Agency Notification No. 20 of 2016).

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YMFG Annual Report 2018

Yamaguchi Bank, a YMFG subsidiary, calculates its nonconsolidated capital adequacy ratio according to uniform
international standards based on “standards for determining
whether a bank’s equity capital is sufficient, after taking into
account assets held by the bank, based on the provisions ofArticle 14-2 of the Banking Act” (Financial Services Agency
Notification No. 19 of 2016).
Under uniform international standards (Basel 3), theconsolidated capital adequacy ratio must be maintained at 8%or higher, the Tier 1 ratio at 6% or higher and the Tier 1 ratioon common shares at 4.5% or higher (as of the end of theconsolidated fiscal year under review).
Momiji Bank and Kitakyushu Bank calculate their nonconsolidated capital adequacy ratios according to domestic
standards, based on Financial Services Agency Notification No. 19of 2016.
Domestic standards require a bank to maintain a capital
adequacy ratio of 4% or higher (as of the end of the consolidated
fiscal year under review).
If the capital adequacy ratio falls below the above-statedstandards, the regulatory authorities may order a bank todiscontinue all or part of its operations.
(1) Deferred Tax Assets
As of the end of the consolidated fiscal year under review,
Japanese accounting standards allow companies to record deferred
tax assets as expected tax benefits to be realized in the future.
Uniform international standards (Basel 3) allow deferred tax
assets related to temporary differences to be included in equitycapital, up to a certain limited amount, and YMFG includes inequity capital an amount calculated in accordance with Financial
Services Agency Notification No. 28 of 2012.
As the balance sheet amount of deferred tax assets is basedon various forecasts and assumptions, including those related tofuture taxable income, YMFG may reduce deferred tax assets if
it decides that all or part of these deferred tax assets cannot berecovered. Such a reduction would have a negative impact onYMFG’s operating performance and cause the capital adequacy
ratio to decrease.
(2) Total Accumulated Other Comprehensive Income
Under uniform international standards (Basel 3), the entire
amount of total accumulated other comprehensive income isincluded in common stock and other Tier 1 capital. Momiji Bankand Kitakyushu Bank, which apply domestic standards (Basel3), include amounts equivalent to 45% of land revaluationdifferences in 60% of equity capital under transitional measuresprovided by Financial Services Agency Notification No. 6 of 2013.
Accordingly, decreases in valuation differences on otheravailable-for-sale securities due to fluctuations in share prices andinterest rates, as well as declines in land revaluation differences inline with impairment or sale, can cause the capital adequacy ratio
to decrease.
3. Interest Rate Risk
YMFG, which engages mainly in banking operations, is affectedby fluctuations in market interest rates through interest onloans—an asset investment method, yields on bond and otherinvestments, and interest rates on deposits—a funding method.
Mismatches between the amount and timing of asset investments

and funding, as well as unforeseen interest rate fluctuations, may
have a negative effect on YMFG’s operating performance andfinancial condition.
4. Risk of Price Fluctuations on Holdings of Available-forSale Securities
YMFG has substantial holdings of marketable, available-for-salesecurities for investment purposes. Broad-based and large-scale
price declines may engender impairments or valuation losses
on holdings of available-for-sale securities, which could have anegative effect on YMFG’s operating performance and financial
condition and lower the capital adequacy ratio.
5. Risk Related to Pension Obligations
Decreases in the market value or investment yield of YMFG’spension assets or changes in the base rate used for calculating
retirement benefit obligations can result in losses. Also, changes
in pension plans can incur amortization expenses on past service
obligations. In addition, changes in the interest rate environmentand other factors can have a negative impact on the unfunded
portion of retirement benefit obligations.
6. Risk of Credit Rating Being Lowered
If rating agencies were to lower their ratings, YMFG could berequired to engage in transactions under unfavorable conditions
or become unable to engage in certain transactions. This situation
could have a negative impact on YMFG’s operating performanceand financial condition.
7. ComplianceTo encourage all executives and employees to reinforce thecompliance system, each year YMFG formulates complianceprogram practice items and undertakes a variety of initiatives.
However, if a compliance-related problem were to arise, it could
cause direct losses as well as resulting in the loss of trust amongcustomers cultivated over many years. As a result, YMFG’soperating performance could be negatively affected.
8. Holding Company Risk
Being a bank holding company, the majority of YMFG’s earnings
come from the dividends paid by its wholly owned subsidiaries,
Yamaguchi Bank, Momiji Bank and Kitakyushu Bank. Undercertain conditions, the Banking Act or the Companies Act may
restrict the amounts that Yamaguchi Bank, Momiji Bank andKitakyushu Bank can pay as dividends to YMFG. In addition,
Yamaguchi Bank, Momiji Bank and Kitakyushu Bank may become
unable to pay dividends to YMFG due to the insufficient postingof earnings. Their inability to pay dividends to YMFG could render
YMFG unable to pay dividends.
9. Other Risks(1) Liquidity Risk
YMFG raises the majority of its funds through deposits and istherefore able to manage funds provided through a stable sourceof funding. However, inconsistencies between investment andfunding or unexpected outflows of funds could hinder funding,rendering YMFG unable to fulfill its payment obligations on theirsettlement dates. Alternatively, YMFG may be compelled to raise
funds at substantially higher interest rates than usual, thereby
generating losses.

(2) Operational Risks
YMFG faces operational risks in the course of its operations.
These risks include internal fraud, external fraud, workplace
improprieties (such as acts that conflict with laws and regulations),
the improper handling of customer transactions (including
violations of obligations and problems with product designs),
natural disasters, accidents, system failures, customer relations,the inappropriate handling of transactions and unsatisfactory
process management. Such issues with business operations could
result in losses and have a negative impact on YMFG’s operating
performance and financial condition.
(3) Risk Related to Significant Legislation
YMFG strives to ensure thorough compliance and is reinforcing
its system for preventing violations of laws and regulations.
Nevertheless, YMFG could become subject to lawsuits due toviolations of laws and regulations in its various operations. Suchsituations could negatively affect YMFG’s operating performanceand financial condition.
(4) Risk Related to Outflows of Customer Information
YMFG retains significant information about customer deposits
and loans that should not be leaked outside. The Group has inplace measures to prevent outside incursions of its online andother systems. However, unexpected circumstances could resultin outflows of such information. The Group stringently manages
information printed on paper or stored in electronic media inaccordance with information asset management regulations, butsuch information could be leaked outside the Group by people withmalicious intent or as the result of the mishandling of information.
Such situations could call into question the Group’s socialresponsibility and result in claims of compensation for damages.
(5) Reputational Risk
Negative news reports and rumors about YMFG and the financialindustry, whether true or not, could negatively affect YMFG’soperating performance, financial condition and share price.
(6) Risk of Regulatory Change
As a bank holding company, YMFG is subject to restrictions
and supervision under the Banking Act and is bound to operate
within the restrictions in place as of the end of the consolidated
fiscal year under review (including laws, regulations, policies andconventional practices). Consequently, future regulatory changes
could negatively affect YMFG’s execution of operations, operating
performance and capital adequacy ratio.
(7) Risks Related to External Factors
External factors such as natural disasters (including earthquakes,
storm and flood damage, and contagious diseases), man-madedisasters (including terrorism and cybercrime) and technologicaldisasters (including electrical outages and computer trouble),
could result in damage to YMFG’s head office, branches andother locations, threatening YMFG’s ability to continue all or partof its operations and significantly affecting YMFG’s operations.
As a result, YMFG’s operations and financial conditions could be
negatively affected.

YMFG Annual Report 201818