PERFORMANCEANALYSIS TOOLSFor BANKS

By Rahul kumar

PERFORMANCEANALYSIS FACTORSOPERATING EXPENSES PER BRANCH (PSBs)PROFIT PER BRANCHBUSINESS PER EMPLOYEE (PSBS)EFFICIENCY AT EMPLOYEE LEVEL (PSBS)

ESTABLISHMENT EXPENSES PER EMPLOYEE (PSBS) Establishment expenses (staff costs) include expenses made on salaries,allowances, provident fund, bonus, etcCREDIT - DEPOSIT RATIOS (PSBS)PROFIT PER EMPLOYEEPROFITABILITY INDICATORS (PSBS)

PROFITABILITY INDICATORS (PSBS)RETURN ON ASSETS (PSBS)RETURN ON EQUITY (PSBS)NON INTEREST INCOME AS PERCENTAGE OF TOTAL INCOME (PSBS)(i)Commission, exchange and Brokerage,(ii) Profit on 'sale of investments (net),(iii) Profit on revaluation of investments,(iv) Profit/loss on sale of land, buildings and other asserts,(v) Profit on exchange transactions (net),

1. CAMEL RATINGSPerformance Evaluation Technique used by most banks across the worldundertakes all the important criteria, i.e. (CAMEL) Capital AssetsManagement Earnings; and LiquidityInternal supervisory tool for evaluating - soundness of banks and for identifying those banks which require special supervisory attention or concern

Recommended by Padmanabhan Committee (1995) - rated on a five point scale (A to E) Evaluation Parameters (Ratios) a) Capital Adequacy : Capital to Risk-Weighted Assets . A sound capital base strengthens confidence of depositorsAsset Quality : Non-Performing Loans to Total loans . Indicative of quality of Bankers` credit decisions. It is indicative of poor credit decision-making Management : Non-interest expenditures to total assets . Measures working of the management. Expenses, such as payroll, workers compensation and training investment, reflects the management policy stance.

(d) Earnings : Return on Asset (e) Liquidity : Cash maintained by banks and balances with RBI, to Total Asset ratio It is an indicator of bank's liquidity. Banks with a larger volume of liquid assets are perceived safe, allow banks to meet unexpected withdrawals.

RATING SYMBOLS A -Bank is sound in every respect B - Bank is fundamentally sound but with moderate weaknesses C - financial, operational or compliance weaknesses that give cause for supervisory concern D - Serious or immoderate finance, operational and managerial weaknesses that could impair future viability E - critical financial weaknesses and there is high possibility of failure in the near future.

2. Evaluating bank PerformanceA Framework for Evaluating Bank PerformanceInternal PerformanceExternal PerformancePresentation of Bank Financial StatementsAnalyzing Bank Performance with Financial RatiosProfit RatiosRisk RatiosInternal Performance Evaluations Based on Economic ProfitRAROC (Risk-Adjusted Return on Capital)EVA (Economic Value Added)

Internal PerformanceBank planning (policy formulation)Goals, budgets, strategic planningTechnologyComputers, communications, paymentsPersonnel developmentChallenges (personal selling and geographic expansion)Job satisfaction (training and compensation)

External PerformanceMarket shareEarnings effectsRole of technologyRegulatory complianceCapital LendingSecuritiesPublic confidenceDeposit safetyBank imageA Framework for Evaluating Bank Performance

Presentation of Bank Financial StatementsBalance sheet Assets: cash assets, loans, and securitiesLiabilities: deposit funds and non-deposit fundsCapital: equity capital, subordinated notes and debentures, loan loss reservesIncome Statement Interest incomeNon-interest incomeInterest expensesNon-interest expenses (including provision for loan losses)Net profit

2. Analyzing Bank Performance with Financial RatiosProfit ratiosRate of return on equityROE = NI/TE (net income after taxes/total equity)Rate of return on assetsROA = NI/TA (net income after taxes/total assets) Other profit measuresNet interest marginNIM = (Total interest income - Total interest expense)/Total assetsNote: municipal bond interest is not taxable, such that it must be grossed up to a pre-tax equivalent basis by dividing municipal interest earned by the factor (1 - tax rate of bank).

Analyzing Bank Performance with Financial RatiosProfit ratiosUnraveling profit ratiosROE = ROA x TA/TE (total assets/total equity or equity multiplier). where ROE (return on equity.)Thus, by decreasing equity, a bank can increase ROE based on any given level of ROA. ROE = NI/OR x OR/TA x TA/TE (where OR is operating revenue). The NI/OR ratio is the profit margin, while OR/TA reflects asset utilization. By using this breakdown, one can make inferences concerning the reason for say increases in ROE. If asset utilization and equity multiplier did not change, the profit margin must have increased due to cost savings pushing this ratio up.

Analyzing Bank Performance with Financial RatiosRisk ratiosCapitalizationLeverage ratio Total equity/Total assetsTotal capital ratio (Total equity + Long-term debt + Reserve for loan losses)/Total assetsNote: book values and market values likely are different and yield different results.

Analyzing Bank Performance with Financial RatiosRisk ratiosAsset qualityProvision for loan loss ratio = PLL/TL (provision for loan losses/total loans and leases)Loan ratio = Net loans/Total assetsLoss ratio = Net charge-offs on loans (gross charge-offs minus recoveries)/Total loans and leasesReserve ratio = Reserve for loan losses (reserve for loan losses last year minus gross charge-offs plus PLL and recoveries)/Total loans and leases Non-performing ratio = Nonperforming assets (nonaccrual loans and restructured loans)/Total loans and leases

Analyzing Bank Performance with Financial RatiosRisk ratiosOperating efficiency (cost control)Wages and salaries/Total expensesFixed occupancy expenses/Total expensesLiquidityTemporary investments ratio = (Fed funds sold, short-term securities, cash, trading account securities)/Total assetsVolatile liability dependency ratio = (Total volatile liabilities - Temporary investments)/Net loans and leasesNote: This ratio gives an indication of the extent to which hot money is being used to fund the riskiest assets of the bank.

Analyzing Bank Performance with Financial RatiosOther financial ratiosTax rate = Total taxes paid/Net income before taxesDollar gap ratio = Interest rate sensitive assets - Interest-rate sensitive liabilities Total assets where rate-sensitive means short-term with maturities of less than one year (or repriced in less than one year).

3. Internal Performance Evaluations Based on Economic ProfitEVA (Economic value added)

= Adjusted earnings Opportunity cost of capital,

where adjusted earnings is net income after taxes, and the opportunity cost of capital equals the cost of equity times equity capital.RAROC and EVABoth methods are beneficial in assessing managerial performance and developing incentive compensation schemes compatible with shareholder wealth goals.RAROC has a short-run perspective (i.e., business unit profit is compared to the units capital at risk)EVA has a long-run perspective (i.e., business unit profit is compared to the cost of capital of the bank)

Risk-adjusted return on capital(RAROC) is a Risk-based profitability measurement framework for analysing risk-adjusted financial performance and providing a consistent view ofprofitabilty across businesses

Ratio Analysis

Ratio Analysis is an effective tool of analysis of financial statements. In the present study following selected ratios are calculated to have in-depth analysis and interpretation of vital areas of accounting and finance, like- profitability, current obligation, solvency, efficiency and risk. Under each of these five categories six different ratios are calculated.

Net worth ratio or Return on Shareholders fundsNet worth ratio or Return on Shareholders funds This ratio measures the returns available to the shareholders on the capital invested by them in the enterprise. As this ratio reveals how well the capital of a firm is being used, so higher ratio is considered as better. fromwordfile

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