Bank Alfalah Limited was incorporated on June 21, 1997 as a public limited company under the Companies Ordinance, 1984. The bank is engaged in commercial banking and related services as defined in the Banking Companies Ordinance, 1962. The bank was privatised in 1997. The Abu Dhabi Group, owner of the bank, has invested in technology to have an extensive range of products and services.
These broadly include general banking, financial services, Islamic banking, consumer banking, treasury and international banking. Because of its superlative performance over the years the bank has been assigned short-term rating of A1+ and long term rating of AA. The bank currently has a network of 282 branches. This includes 48 Islamic banking branches and 7 foreign branches in Bangladesh, two in Afghanistan and one offshore banking unit in Bahrain. Bank Alfalah has expanded its branch network and deposit base, along with making profitable advances and increasing the range of products and services.
Bank Alfalah is the 5th largest bank of Pakistan in terms of its assets that are 6% of the total banking sector assets. The banking sector has expanded rapidly in Pakistan along with the fast paced economic growth. The increased competition in the banking sector has encouraged the Banks to come up with services that could satisfy the needs of a large consumer base. The result has been increased profitability of all banks.
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KSE SYMBOL BAFL
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Current share Price 11
Profit After Tax 1.301Billion
(CY 07: 3.506billion)
ROA 0.37%
ROE 7.63%
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THE BANKING INDUSTRY IN FY08
In the last quarter, the banking system successfully weathered a liquidity stress. The stress emerged in usual timeframe ie withdrawals on the occasion of Eid-ul-Fitr and a number of global, domestic and industry specific factors further compounded it. Major dampening factors like global financial turmoil, economic slowdown and contractionary monetary policy were compounded by an unusual liquidity stress during October-November 2008. The current account deficit was quite high and the real exchange rate had significantly appreciated to unsustainable levels that ultimately put pressure on rupee/dollar exchange rate and led to capital outflows.
On top of it, breakdown of capital market in Pakistan and the series of news on the financial meltdown in the advanced markets raised general public doubts about the financial strength of some Pakistani banks. By this time, due to relatively higher growth in advances, the liquidity profiles of the banks had already been burdened. In this backdrop, the usual post Eid liquidity pressure in interbank market led to rumour-mongering about the banks. The impact was severe in some banks especially the small banks with the constrained liquidity profile in terms of ADR.
The reduction in Cash Reserve Requirements (CRR) and Statutory Liquidity Requirements (SLR) requirements in early weeks of October 2008 to manage the liquidity stress resulted in a significant decline in cash and treasury bank balances by the end of Dec-08 quarter thus releasing funds for financing the growth of advances. However, strong capacity developed by the banks and regulators over the years and the offsetting measures taken by the State Bank of Pakistan enabled the system to avert this transitory stress from converting into a financial crisis.
INVESTMENTS
Investments, especially the govt. papers, which declined in both absolute rupee terms as well as a proportion of total assets during the first nine months of CY08, registered a slight increase during the last quarter. Actually, the heightened credit risk on account of deterioration in macroeconomic fundamentals and already constrained liquidity profile induced the banks to shift their preference towards risk-free Market Treasury Bills (MTBs).
The banking system is marked with a high concentration as a few number of banks hold a major share of the system's total assets and deposits. This concentration has been following an overall declining trend as the medium sized banks gradually gained market share. However, due to unusual liquidity stress that affected mainly the small and medium sized banks, the market share of five large banks inched up to 52.4 percent (51.3 percent in Sep-08).
DEPOSITS
The deposit component, which used to witness a strong growth in last quarter, registered a slow growth of Rs 153 billion (3.8 percent) this year. Incidentally, foreign remittances, a key factor behind the recent year's strong growth in deposits, maintained the momentum and grew by 17 percent over the CY08. The industry has been witnessing a gradual shift in deposits from savings to term deposits for quite some time. This trend emerged largely in response to the SBP's policy incentives to encourage the mobilization of longer-term deposits so as to reduce the maturity mismatches.
Consequently, fixed deposits gained a significant share of savings deposits since 2004. However, SBP's policy drive to increase the CRR and SLR in last week of Jun-08 and exemption of long-term deposits also from SLR requirements during the last quarter seem to have considerably invigorated this trend (other factors like general rise in interest rates and innovative deposits scheme have also augmented depositors preference for terms deposits)
ADVANCES
During the quarter under review, advances witnessed a significant slowdown in sharp contrast to industry's established patterns for the last quarter. The worsening business and economic environment somewhat increased the credit risk, which compelled the banks to adopt cautious lending strategy, particularly in consumer sector where the advances have been decreasing since the start of CY08. Some new loans have been issued of which a significant portion of these was disbursed to public sector enterprises (PSEs).
CY08 however observed a deviation in the growth pattern of advances. Slackness in the demand for bank credit during CY07 coupled with slowdown in economic activities and tightening of monetary regime, forced the banks to reposition their lending strategy and asset profile. The asset mix of the banking system gradually shifted from lending to investments during the first three quarters of CY07.
PROFITABILITY
Currently, the cumulative profit of 22 listed commercial banks has declined by 21% to Rs 50.3bn in 2008 as compared to Rs 63.6 billion in the same period in 2007, mainly due to higher provisions for non-performing loans (NPLs) and impairment loss. The full year profits of CY08 were however lower than profits for the last couple of years but still it remained profitable. The overall profitability was neutralizing due to more than proportionate increase in operating expenses and provisioning for loan losses.
In absolute terms, expenses increased by 33.4 percent to Rs 235.8 billion in CY08, which affected the overall profitability of the system. In addition to higher provisions, enhanced branch network with increased human resource base has soared the expense of the system during the last quarter under review. Moreover, stock market crash in the second half of 2008 resulted in bank recognizing impairment loss of Rs 12 billion as against only Rs 287 million recognized in 2007.
High spreads of 7.29% in 2008 and strong advances growth of 19% supported the net interest income, while non-interest income increased by 11% on the back of surge in exchange gain as rupee remained volatile against the dollar. The annual audited results of the top five banks for the year 2008 show that their profitability on average has remained at the previous year's level. The assets distribution on the basis of ROA shows that 16 banks, holding 67.9 percent market share, have ROA of one percent and below.
The banking sector in Pakistan has remained somewhat insulated from the global financial turmoil and has maintained its profitability albeit the slower growth. The prevailing global economic downturn nevertheless has the potential to impair corporate and business profitability that may ultimately heighten the credit risk and may affect the earnings of the banking sector in the quarters ahead.
NPLS
This rise in NPLs observed across all the banking groups except specialized banks, where NPLs have actually decreased. NPLs have been on the rise mainly due to poor economic performance of the economy and the FSV benefit therefore resulting in worsening of asset quality ratios. Total provisions for NPLs surged to Rs 53 billion in 2008 as against Rs 42 billion in 2007, an astounding growth of 27% largely due to slowdown in economic growth. The composition of segment wise NPLs of the banking system shows that infection ratio of all the segments except agriculture have increased.
The infection ratio of consumer finance portfolio increased in CY08 (2.3 percent over the year). Rising inflation and contained disposable incomes coupled with increasing lending rate have reduced consumers' appetite for credit as well as their repayment capacity, resulting in increasing defaults rate in the consumer finance. Interestingly, in the wake of economic slowdown, banks seem to facilitate the businesses through rescheduling/restructuring of loans, the textile sector being the major beneficiary.
Latest banking industry numbers show an effort to keep balance sheets clear of NPLs by recognizing and providing for NPLs on criteria that are more stringent. This approach might look costly in the meantime but in the long run it'll definitely benefit banks by providing a cushion to withstand losses. The bank realized an income (profit after tax) of Rs 1.301 billion which is 63% lower than previous year (FY07: Rs 3.506 billion) translated into Rs 1.63 earnings per share (FY07: Rs 3.92). In comparison to other large banks BAFL has not been able to maintain profitability. The interest income rose by 20% but Interest expenses rose more than proportionate by 22%.
The interest expenses were high as there was a minimum 5% return floor on deposits which added multiple folds to costs. The net interest income growth was 17%, which is satisfactory but it is diluted by massive increases in provisions against non-performing loans. The income after provisions grew by only 6% in this FY08. The non-interest income contributed 15% lesser than previous year due to decreases in fee and commission and income from sale of securities.
The bank's performance has generally improved in all segments in FY07. Bank Alfalah Limited declared profit after tax of Rs 3.1bn with earnings per share of Rs 4.82 in FY07 as compared to profit after tax of Rs 1.7bn with earnings per share of Rs 2.71 in FY06. A significant growth of 77.6% has been registered during FY07 on the back of capital gain of Rs 1.7bn on sale of Warid Telecom (Pvt) Limited. The bank also declared a cash dividend of Rs 1.50 per share for FY07 and 23.0% bonus share.
Net interest income of the bank registered a growth of 53.8% to Rs 9.1bn in FY07 as compared to Rs 5.9bn in FY06 mainly on the back of interest earned on the deposits to customers. (Total deposits of the bank grew by Rs 33.6bn during FY07). In FY07, the bank sold 48.8m of its holdings in Warid Telecom (Pvt) Limited out of 316.7m to Singapore Telecommunication Limited (Singtel) at a price of US $37.67m. Due to this, bank earned Rs 1.7bn of capital gain during FY07, which resulted in the growth of 87.3% in non-interest income. Non-interest income climbed to Rs 6.0bn in FY07 as compared to Rs 3.2bn in FY06.
In terms of profits the Pakistani banking sector ranks amongst the top ten in the world. Bank Alfalah has had its share in the phenomenal profits growth of the banking sector. In FY08 we witness an increase in advances in contribution to earning assets. In previous year there has been a shift from advances to higher investments in FY07. This shift was in line with the overall industry trend. In FY08 an overall decrease in all the earnings ratios is seen as the profits fell drastically. This is not in line with what industry has to offer. The banks did suffer but with lesser intensity.
In FY07 a positive growth of deposits has somewhat succeeded in improving the ROD of the bank which had declined in 2006. The deposits of Bank Alfalah have shown an increase over the years largely due to increase in fixed deposits by customers. Deposits by both customers and financial institutions have seen a growth. The most prominent factor behind this was increase in the market's liquidity due to increased FDI and remittances inflow. Since 2004 there has been a growth of 131% in the bank deposits, which is an indicative of the growth that this bank has seen.
In FY07, profits have also risen due to increase in advances, investments, and lending to financial institutions (earning assets). Only the lending to financial institutions grew by 264% in FY06. But ROD has shown a declining trend. This has been the case because the profits for Alfalah have not risen proportionally with the increase in deposits. In the year 2006 deposits grew by 7.7%. This significant increase was the result of the excessive reserve growth in the economy. But the corresponding increase in profits was a meager 3.6%. In FY03 the ROD was 2.77 that has declined to 1.28 in 2007.
DEPOSITS
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Deposits
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Customers Growth 2008 2007
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Fixed 36% 116,688,618 85,520,839
Savings -20% 86,416,689 107,879,576
Current a/c Non-remunerative 16% 78,316,246 67,604,689
Others 136% 7,715,468 3,264,104
Total Customers deposits 9% 289,137,021 264,269,208
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Financial Institutions
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Remunerative 32% 11,570,748 8,759,047
N-remunerative -83% 24,089 142,586
Total F.I deposits 30% 11,594,837 8,901,633
Total 10% 300,731,858 273,170,841
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In FY08 deposits grew by 10% to an amount of Rs 300.731 billion. Mostly the growth is seen in fixed and current deposits. As mentioned before the minimum 5% floor on deposits returns added to costs of funds for the banks. Another hit on deposits was from National Savings Schemes where they offered better rates and better terms.
In FY07 deposits increased from Rs 239m to Rs 273m an increase of 14%. The trend of ROD has reversed this year as it has improved from 0.55 in FY06 to 1.28 FY07 mainly because of improved control on costs resulting in improved profits.
Due to bank's eagerness for raising longer-term deposits to match their assets maturity profiles, it is expected that the share of fixed deposits in total deposits of the banking system would continue to further increase in days ahead. Whereas the ROA of the banking system has further improved to 1.07 in FY07 from 0.48 in FY06, Bank Alfalah's ROA had shown a significant decline in the FY06. Though still better than the industry average the ROA declined from 2.15 in FY03 to 1.07 in FY07. The total assets of the bank have grown by 19% from Rs 248.31 billion to Rs 329 billion in 2007.
In FY06 Earning Assets grew by 8.8% but the resulting profitability growth has only been 3.6%. ROE has had a fluctuating trend for the bank. It rose in the FY05 on the back of high profits for the year but declined in the subsequent year. As the general trend in the banking sector, this bank is also retaining profits and has had fresh capital inflow. One reason for this enhanced capital base is for meeting the minimum capital requirement of the SBP. The ROE of Alfalah is 21.62%, which is low compared to the sector average of 25.6%. This way the bank also meets the Basel II requirements for risk exposures by keeping higher capital in hand.
Yield is an indicative of the profitability of the banks assets. The bank's net interest income (NII) has increased by 53.8% in 2007 whereas the non-interest income rose by 87.3% due to capital gains on sale of Warid Telecom. But as in the banking sector the NII contribute the most to income. The increase in NII is mainly because of the high spreads that Bank Alfalah is taking advantage of like others in the sector. An important observation in the income of the bank is that its earning assets have been generating increasing returns over the years.
But overall profitability had not seen great increments because of increasing costs of funding these earning assets. In the year 2006 bank's mark-up/interest costs rose by 111% as compared to a 73% increase in its earnings. This was also indicated by a declining interest margin, which is a ratio of mark-up/return/interest expensed to the mark-up/return/interest income. The result is that though the yields are high, overall profits are low and so ROA, ROE and ROD have shown a declining trend in 2006. However the situation improved in FY07.
Non-performing loans augmented by 121% in FY08 to an amount of Rs 8.934 billion, which impose a threat to profitability. This NPLs growth is not in line with industry-wide NPLs growth. The NPLs have shown variable character during the period of analysis, first increasing from Rs 2.845 billion in FY03 to Rs 2.935 billion in FY04, then decreasing by almost two-thirds of that to Rs 1.06 billion in FY05. Thus there was a drastic cut down in NPLs in this year, which was also reflected in industry figures, where NPLs decreased from Rs 211 billion in FY03 to Rs 177 billion in FY05.
This was the result of extensive measures by the industry in general and this bank in particular to improve the regulation and monitoring of loans and control defaults through more rigorous screening. The following year, however, once again showed a rapid rise of more than a hundred percent in NPLs to Rs 2.31 billion. This rise in NPLs can be more accurately attributed to the rapid rise in interest rates during this period than to any lapse in the bank's screening procedures, as the State Bank had taken definite measures to tighten its monetary policy. At the same time there was a high level of indebtedness in both private sector and consumer markets.
There was a slowdown in the rapid decline in industry NPLs, which stood at Rs 175 billion at the end of FY06. Disaggregated industry analysis revealed that there were plenty of fresh NPLs incurred during this period. However, extensive write-offs and recoveries managed to reduce the overall level of NPLs. The bank is now making greater efforts aimed at the recovery of NPLs, and a tightening of the loan policies is expected. Provisioning against NPLs grew phenomenally during FY07 and amounted to Rs 2.3bn over Rs 697.6m in FY06. Bank made incremental provisioning of Rs 1.0bn during the year due to the withdrawal of FSV benefit which was the major reason behind the upsurge in the provisions.
Due to increasing number of non-performing loans, car financing by the bank has declined by 42.3% in FY07. Car financing covers the major portion of total consumer financing of the bank. The total number of cars financed during FY07 was 12,058, which were of Rs 5.7bn as compared to 20,012 cars financed during FY06 equal to Rs 9.9bn. Deposits rose from a modest Rs 76.7 billion in 2003 by almost 70% to reach Rs 130 billion in 2004, after which they again rose by more than 70% to touch Rs 222 billion in 2005. Deposits continued to show strong growth, rising by more than 14% in 2007 to cross Rs 270 billion.
The major upward trend in deposits throughout the industry has been the result of the heavy economic activity during recent years fuelling the demand of consumers and the private sector for credit. The industry has also shown a trend towards increasing deposits in banks, a major cause of which is, of course, the booming economic activity, apart from higher foreign inflows in the form of worker remittances and FDI, as well as expanding branch networks, product innovation and better efforts at marketing. In fact, deposit growth in the top five banks, including Alfalah, was actually slower than that in the next five banks.
However, local private banks have shown the highest deposit growth of any in the banking sector. Deposits showed consistent growth in both local and foreign currencies. Both customer and institutional deposits showed steep growth in 2004 and 2005, while in 2006, growth in customer deposits slowed while institutional deposits showed a decline. Deposit growth had also slowed in the industry as a whole in 2006, declining from 18.3% in FY05 to 13.1% in FY06. Another marked trend within the deposit structure of the bank was the greater growth shown by fixed deposits as compared to and at the cost of saving deposits.
Fixed deposits increased by an absolutely stunning 100% and 300% in FY04 and FY05 respectively, and by a further 11% in FY06, thus attaining a level of almost Rs 89 billion at the end of that year, as compared to a mere Rs 11 billion at the end of FY03. On the other hand, while saving deposits grew by almost 55% in FY04, their growth slowed to around 25% in FY05, and actually turned into a 3% decline in FY06, so that their level changed from Rs 44 billion at the end of FY03 to Rs 79 billion at the end of FY06. This is a good sign for the bank since its long-term deposits have risen.
The ratio of earning assets to total assets for the bank shows remarkable uniformity, suggesting careful management of and investment in interest generating assets. Within earning assets, however, the bank shows a gradual trend of movement of capital into and away from lendings to other financial institutions. These declined from 9% of earning assets in FY03 to 0% in FY04, then increased to 13.3% in FY05, but were again reduced to 6% in FY06.
This variation also caused a fluctuation in the percentage of earning assets held as advances, which increased from 58% in FY03 to 71.5% in FY04, then again declined to 58.5% in FY05, finally increasing to 68.5% in FY06. The trend in investments has been mainly a declining one, from 39% of earning assets in FY03 to about 28% in FY04 and FY05, then again declining to 26% in FY06. Industry figures substantiate this trend to an extent, where in FY06 advances increased to 55.8% of total assets from 54.4% in FY05, while investment portfolio decreased from 21.9% of assets to 19.2% in the same period.
In addition, 60% of the growth in banking assets in FY06 was accounted for by growth in advances. The advance to deposit ratio (ADR) on the other hand has shown a decline over this period. The ADR for the industry as a whole had actually increased in 2006, as a result of an aggressive loans policy overtaking the strong growth in deposits. The bank, however, managed to maintain and actually improve its liquidity position. As has been mentioned above, deposits showed a steep upward trend, increasing by almost 70% in FY04 and FY05, and by a further 7% in FY06.
On the other hand, though advances increased by almost 80% in FY04, they showed more moderate growth rates of 34% and 26% in FY05 and FY06 respectively, showing a more moderate and cautious expansion in loans by the bank. Advances have shown a strong upward trend over both the short and long-term categories. The figures for FY07 show that the bank has further improved its liquidity position. The ADR remained flat in FY07. Advances have grown by 14.13% from 150m to 171m during this period.
The high growth in advances was offset by an equally higher growth in deposits. The industry as a whole has also experienced an ease in the liquidity position as a result of slower growth in loans. This slowdown in lending was caused by an increase in interest rates accompanied by less credit capacity in the market. Industry figures also show that banks have shown an increase in investment portfolios somewhat corresponding to the decline in loans, showing a shift in banks' policy towards lower risks and returns.
The solvency situation for the industry as a whole has shown marked improvement in recent years, caused by increasing profitability and fresh inflows of capital. The figures for the bank show that there was a decline in the solvency position in 2005 as a result of high growth in deposits. As a result, from financing 4% of assets in FY04, equity financed around 3% of equity in FY05. This situation, however, has improved in 2006 because of increases in equity, which once again financed almost 4% of assets.
However, earning assets in comparison to deposits declined from around 1.03 in FY04 to 0.97 in FY05 and 0.96 in FY06. This is caused by the fact that while deposits have shown tremendous growth over the period under study, the bank has maintained a consistent approach with respect to its earning assets and has not expanded them to the same extent. The increase in MCR by the SBP has also led to banks increasing their capital share. The figures for FY07 show a continuing improvement in the solvency position of the bank as a result of further increases in capital. This follows an industry-wide trend of better solvency.
Banks have dominated the capital markets of Pakistan because of their superlative performance. They comprise one third of the total capitalization of the KSE. A notable change is seen P/E ratio in FY08. It rose significantly and shows a positive trend of growth which goes in contradiction of the falling profits. This is mainly due to extremely low share price in FY08 which was a common place. Till FY07 Earnings of Alfalah have been rising on the back of higher profitability over the years. As mentioned earlier banks have been retaining their profits. But the overall boom in the economy and the banking sector has made the investors confident of long-term gains. Thus price has been increasing for Alfalah.
The price of bank Alfalah's share has fluctuated between Rs 34 to Rs 87 over the past three and a half years P/E has been on the rise that indicates that investors are looking forward to invest in the stocks of the bank in expectation of better returns in the future. A multiple of 12.04x makes the share look overvalued but its strong fundamentals have kept the investors interested. MV to BV has shown a steady trend. Though the book value has been on the rise MV is almost 2.6x the BV again indicating investor's confidence generally in the banking sector to do well on the back of high spreads.
An usual steep trend is seen dividend yield which is mainly due to falling market price of shares and not the performance. Dividend yield has been high in FY07. The share is being traded at a high value. The bank also declared a cash dividend of Rs 1.50 per share for FY07 and 23.0% bonus share. But the dividend policy of the bank is such that it prefers bonuses rather than cash dividends. Thus there has been retention of profits by the bank as prefers to reinvest profits rather then giving them out as dividends. The bank plans to use the additional capital to strengthen itself in Pakistan and abroad. Also it intends to use this capital to meet SBP's future capital adequacy requirements.
The future plans have kept the investors interested and resulted in keeping the MV of its share above Rs 50 since February 2007. Dividend cover is given by DPS/EPS. It has had an increasing trend since DPS has been increasing more than the EPS. The bank has been inclined towards bonus issues resulting in increased number of outstanding shares.
FUTURE OUTLOOKThe global financial crisis has its effects trickling down to our banking systems. The financial sector is facing its lows but still on a comparative basis its better than other neighboring countries owing to regulations and the role of SBP to take timely corrective measures. Measures include relaxation of CRR and SLR in phases. The banking sector's spread continues its rising trend after witnessing a dip to the level of 6.78% in June 2008 that has being taken as an after effect of minimum profit payment of 5% on saving accounts. The profits show that long term investment in Pakistani banking system will be lucrative, as the assets quality is quite satisfactory.
As against the world-wide trend of low interest rates even zero-rated, Pakistan continued to follow stance of tightening of the monetary policy using the high interest rate as a tool to contain inflationary pressures at the cost of stalled economic activities. It can be noted that SBP already charging lower mark-up rate from exporters against export refinance facility under EFS in order to enable them to become competitive in the international market. The trade and industry however feels in order to ignite a spark in the dull and dreary economic conditions and to come out of the persisting recession the incentive of low interest should have been given to all stakeholders across the board to achieve the desired results.
Some market expectations were that current discount rate at 15% is too high and we recently saw a reduction of 100 basis points. In fact the cut in the interest rate was long overdue as done by other economies elsewhere as well as in the face of stability returned into macro situation under the IMF program. Trade experts feel that in current times low cost credit is vital to stimulate the economy and international trade. Pakistan exports have a combination which can be well suited to the current world economic situation, ie low value added goods have Income elasticity's and are least likely to be affected the economic slowdown.
Challenges faced by the economy, in general, and banking sector, in specific, include restrained liquidity, slowdown of economic activity, and high inflation. Despite of these issues BAFL has been able to earn profits and only concern is of the higher NPLs growth, which has to be checked as it has surpassed to alarming levels.
COURTESY: Economics and Finance Department, Institute of Business Administration, Karachi, prepared this analytical report for
Business Recorder.DISCLAIMER: No reliance should be placed on the [above information] by any one for making any financial, investment and business decision. The [above information] is general in nature and has not been prepared for any specific decision making process. [The newspaper] has not independently verified all of the [above information] and has relied on sources that have been deemed reliable in the past. Accordingly, the newspaper or any its staff or sources of information do not bear any liability or responsibility of any consequences for decisions or actions based on the [above information].