BS Analysis

ANALYSIS OF THE BALANCE SHEETS OF COMMERCIAL BANKSAD-477 BANK MANAGEMENT InstructorBlent enver

BS Trainig Services [email protected]

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BALANCE SHEET ANALYSIS OF

COMMERCIAL BANKS


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ANNUAL REPORTOF

BANKSBS Trainig Services [email protected] 3

ANNUAL REPORT 1. AUDITORS REPORT (AR) 2. FINANCIAL STATEMENTS (F/S) 3. NOTES TO F/S


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AUDITORS REPORTINDEPENDENT

AUDITORS REPORTBS Trainig Services [email protected] 5

INDEPENDENT AUDITORS REPORT 1.What is done ? 2.What is audited ? 3.What is the auditors & managements responsibility ? 4.Audit is done based on what standard ? 5.Auditors opinion based on IASBS Trainig Services [email protected] 6

WHAT IS AUDITED ? We have audited : 1. The Balance Sheet as of Dec31 1998 and 2. Statement of Income 3. Statement of Shareholders 4. Statement of Cash Flows for the year then endedBS Trainig Services [email protected] 7

HOW IS THE F/S AUDITED ? We conducted our audit in accordance with International Standards on Auditing (ISA) We plan & perform the audit to obtain reasonable assurance that F/S are free of material misstatement.


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HOW IS THE F/S AUDITED ? An audit includes assessing the accounting principles used & significant estimates made by management, as well as evaluating the overall F/S presentation. We believe our audit provides a reasonable basis for our opinion.BS Trainig Services [email protected] 9

AUDITORS OPINION In our opinion, the F/S referred to above present fairly, in all material respects, the financial position of A Bank & the results of its operations, changes in its cash flows for the year then ended, in accordance with International Accounting Standards. Arthur Andersen & CoBS Trainig Services [email protected] 10

FINANCIAL STATEMENTSOF COMMERCIAL BANKS


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FINANCIAL STATEMENTS 1. BALANCE SHEET 2. STATEMENT OF INCOME 3. STATEMENT OF SHAREHOLDERS EQUITY 4. SOURCES & USES OF FUNDS STATEMENTBS Trainig Services [email protected] 12

B/S ANALYSIS DEPENDS ON Available Data Standard Reporting Practice Use of Internationally Accepted Accounting Standards Use of Internationally Accepted Auditing Standards Use of External & Internal Audit PracticeBS Trainig Services [email protected] 13

BALANCE SHEET SHOWS The Financial Position of a Bank As at a specific date. As of Dec. 31,1998


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BALANCE SHEET EQUATION ASSETS

100= Equals

=

= 100

LIABILITIES + Plus SHAREHOLDERS EQUITY


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BALANCE SHEET Assets Liquid Assets Loans Marketable Securities Investment Securities Fixed Assets Accrued Interest Other Assets Total AssetsBS Trainig Services [email protected]

150 400 200 50 100 70 80 105016

BALANCE SHEET Liabilities Deposits Bank Borrowings Accrued Expenses Other Liabilities Bonds Issued Shareholders Equity Total Liabilities & S/HEBS Trainig Services [email protected]

400 150 100 80 70 250 105017

SHAREHOLDERS EQUITY Share Capital Legal Reserves Retained Earnings Revaluation Surplus Share Premiums Net Income Total S/H EquityBS Trainig Services [email protected]

100 30 50 20 10 40 25018

ASSET VALUATION GAAP & IAAP

Generally Accepted & Internationally Accepted Accounting Principles

LOWER OF COST OR MARKET


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ASSET CLASSIFICATION

TOTAL ASSETSNON INTEREST EARNING ASSETS INTEREST EARNING ASSETS


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LIABILITY CLASSIFICATIONTOTAL LIABILITIESINTEREST BEARING LIABILITIES NON INTEREST BEARING LIABILITIES


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BALANCE SHEET DOES NOT SHOW Interest Rates Interest Sensitivity Due Dates Foreign Currency breakdown Collateral


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STATEMENT OF INCOME SHOWS The results of operations of a bank. For the period between two dates. For the year ended Dec. 31 , 1998


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NET PROFITNET PROFITTOTAL INCOME TOTAL EXPENSE24


TOTAL INCOMETOTAL INCOMENET INTEREST INCOME NET NON-INTEREST INCOME25


NET INTEREST INCOMENET INTEREST INCOMEINTEREST INTEREST INCOME EXPENSE (+) (-)BS Trainig Services [email protected] 26

NET INTEREST INCOMENET INTEREST INCOME INTEREST INCOME P/LINTEREST EARNING ASSETS B/S

INTEREST EXPENSE P/L INTEREST BEARING LIABILITIES B/S


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NET NON-INTEREST INCOMENET NON-INTEREST INCOMENON NON INTEREST INTEREST INCOME EXPENCE (+) (-)BS Trainig Services [email protected] 28

STATEMENT OF INCOME Interest Income Interest Expense Net I.Income Non Interest Income Operating Expenses Pre-Tax Profit Tax Provision Net IncomeBS Trainig Services [email protected]

1000 (700) 300 220 (450) 70 (30) 4029

ANALYSIS OF PROFIT

NET PROFIT(NP)

PROFIT FROM BANKING OPERATIONS (NET OPERATING INCOME) (NOI)

PROFIT FROM EXTRAORDINARY TRANSACTIONS (PEXT)

PROFIT FROM SECURITY TRANNSACTIONS (PST)


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BANKING RISKSBS Trainig Services [email protected] 31

BANKING RISKS

C AMEL A M E LBS Trainig Services [email protected] 32

CAMEL CapitalAdequacy


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C

AMEL

AssetQuality


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CA

MEL

Management Quality


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CAM

EL

EarningsEfficiency


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CAME

L

LiquidityRisk


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CAMEL RISKS Capital Adequacy Asset Quality Management Earnings LiquidityBS Trainig Services [email protected] 38

BANKING RISKS 1.2.3.4.5.CAMEL 6. Credit Risk 7. Interest Rate Risk 8. Interest Rate Sensitivity Risk 9. Foreign Exchange Availability Risk 10. F/X Position RiskBS Trainig Services [email protected] 39

BANKING RISKS 11. Accounting & Reporting Risk 12. Computer Risk 13. Capital Market Operations Risk 14. Money Market Operations Risk 15. Country (Sovereign) Risk 16. Pricing RiskBS Trainig Services [email protected] 40

BANKING RISKS 17. Theft Risk 18. Fraud & Defalcations Risk 19. Natural Disasters 20. Strategic Risk 21. Reputation Risk 22. Market Risk 23. Fiduciary Risk 24. Transaction Risk 25. Regulatory / Compliance Risk 26. Large Loans / Deposits Risk 27. Concentration RiskBS Trainig Services [email protected] 41

RATIO ANALYSISNumerator ______________________ DenominatorBS Trainig Services [email protected] 42

RATIO ANALYSIS

Balance Sheet __________________ Balance Sheet

Income Statement ________________ Balance Sheet


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RATIO ANALYSIS

What is the

What is the

LEVEL ?

TREND ?


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RATIO ANALYSIS 1. Capital Adequacy 2. Asset Quality 3. Management 4. Earnings & Efficiency 5. Liquidity


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RATIO ANALISIS CAPITAL ADEQUACY The Capital of a Bank protects the Bank against unexpected future losses.


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RATIO ANALYSIS CAPITAL ADEQUACY 1. Shareholders Equity -----------------------------------Total Assets

The ability of the present Capital to support the further growth of AssetsBS Trainig Services [email protected] 47

RATIO ANALYSIS CAPITAL ADEQUACY 2. Shareholders Equity -----------------------------------Risk Weighted Assets


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RATIO ANALYSIS CAPITAL ADEQUACY 3. Shareholders Equity -----------------------------------Risk Weighted Assets + RW Contingent LiabilitiesBS Trainig Services [email protected] 49

RATIO ANALYSIS CAPITAL ADEQUACY 4. Total Debt -----------------------------------Shareholders Equity

The ability to raise additional Debt CapitalBS Trainig Services [email protected] 50

RATIO ANALYSIS CAPITAL ADEQUACY 5. Financial Leverage : Total Assets -----------------------------------Shareholders Equity


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RATIO ANALYSIS CAPITAL ADEQUACY 6. Capital Formation Rate : Retained Net Income (RNI) ------------------------------------------------- Average Shareholders Equity RNI = Net Income - Dividends to be paid The internal growth of Equity CapitalBS Trainig Services [email protected] 52

RATIO ANALISIS ASSET QUALITY 1. Loans -------------------------------Total Assets


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RATIO ANALISIS ASSET QUALITY 2. Non Performing Loans = a) Loans past due more than 90 days b) Loans not accruing interest c) Loans with low interest rates d) Loans on which repayment terms have been renegotiated. BS Trainig Services [email protected] 54

RATIO ANALISIS ASSET QUALITY 3.

Non Performing Loans ------------------------------------Total Loans

Indicates how much of the loan portfolio is non performing.


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RATIO ANALISIS ASSET QUALITY 4. Reserves for Non Performing Loans --------------------------------------------- Non Performing Loans Indicates the ability of the loan loss reserve to absorb potential losses from currently non performing loans.BS Trainig Services [email protected] 56


Loan Loss Provision ------------------------------------Average Loans

Shows current income reduction in anticipation of loan losses.


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Net Charge - Offs ------------------------------------Average Loans

Shows current income reduction in anticipation of loan losses.


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RATIO ANALISIS ASSET QUALITY 7. Interest Earning Assets ------------------------------------------------Total Assets


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RATIO ANALISIS ASSET QUALITY 8. Non Interest Earning Assets ------------------------------------------------Total Assets


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RATIO ANALISIS EARNINGS & EFFICIENCY A Bank with no profit is like a human body with no blood.


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THE PRIMACY OF EARNINGS A bank can not sustain itself long without a positive cash flow. Earnings are essential to : 1.Absorb loan losses 2.Finance internal growth of capital 3.Attract investors to supply capitalBS Trainig Services [email protected] 62

RATIO ANALISIS EARNINGS & EFFICIENCY 1. Return on Assets ( ROA )

Net Income -------------------------------------------Total Average AssetsBS Trainig Services [email protected] 63

RATIO ANALISIS EARNINGS & EFFICIENCY 2. Return on Equity ( ROE )

Net Income -------------------------------------------Average Shareholders EquityBS Trainig Services [email protected] 64

RATIO ANALISIS EARNINGS & EFFICIENCY 3. Return on Equity ( ROE ) ROE = ROA * Equity Multiplier

ROE = ( NI / AST ) * ( AST / SHEQ )


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RATIO ANALISIS EARNINGS & EFFICIENCY 4.

Interest Income -------------------------------------------Average Interest Earning AssetsBS Trainig Services [email protected] 66


Net Interest Income -------------------------------------------Average Total AssetsBS Trainig Services [email protected] 67


Interest Income on Loans -------------------------------------------Average Total LoansBS Trainig Services [email protected] 68


Total Operating Expense ------------------------------------------------ Total Operating IncomeBS Trainig Services [email protected] 69

RATIO ANALISIS EARNINGS & EFFICIENCY 8. Efficiency Ratio

Non Interest Expense --------------------------------------------------- Net Interest Income + Fees CommissionsBS Trainig Services [email protected] 70

RATIO ANALISIS EARNINGS & EFFICIENCY 9. Break Even Ratio

Total Expenses - Non Interest Income --------------------------------------------------- Total Average Interest Earning AssetsBS Trainig Services [email protected] 71

RATIO ANALISIS EARNINGS & EFFICIENCY 10. Net Free Funds Ratio Non Paying Liabilities - Non Earning Assets ------------------------------------------------- Interest Earning Assets


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RATIO ANALISIS EARNINGS & EFFICIENCY 11. Interest Rate Sensitivity Gap : Interest Rate Sensitive Assets ( minus ) Interest Rate Sensitive Liabilities Shows the net amount to be effected by the future change of interest rates in the marketBS Trainig Services [email protected] 73

RATIO ANALISIS EARNINGS & EFFICIENCY 12. Interest Rate Sensitivity Gap Ratio : Interest Rate Sensitive Assets ------------------------------------------------Interest Rate Sensitive Liabilities


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RATIO ANALYSIS LIQUIDITY Inadequate Liquidity of a Bank may cause an accident similar to an airplane crash !


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RATIO ANALISIS LIQUIDITY 1. Loans ------------------------Deposits


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RATIO ANALISIS LIQUIDITY 2. Liquid Assets ------------------------Deposits


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RATIO ANALISIS LIQUIDITY 3. Liquid Assets -------------------------------Deposits + Borrowings


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RATIO ANALISIS LIQUIDITY 4. Assets Due for the Period ----------------------------------------Liabilities Due for the Period


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RATIO ANALISIS LIQUIDITY 5. Net Large Liabilities ---------------------------------------- Net Earning Assets Both numerator & denominator are net of short-term assets. Measures the extent to which net earning assets would be effected by the loss of a banks large liabilities.BS Trainig Services [email protected] 80

RATIO ANALISIS LIQUIDITY 6.

Liquid Assets ----------------------------------------Large Liabilities

Measures the assets readily available to cover a loss of large liabilities.


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Core Deposits ----------------------------------------Earning Assets

Indicates the extend to which earning assets are funded by those deposits considered stable and not subject to interest rate disintermediation.BS Trainig Services [email protected] 82


Brokered Deposits ----------------------------------------Earning Assets

Measures the extent to which a bank is funding assets with high-priced and volatile brokered deposits.BS Trainig Services [email protected] 83

MATURITY ANALISISDays Cash Loans 0-10 100 200 300 Deposit 400 Borrow 150 550 10-30 200 500 700 300 200 500 30-60 300 200 500 800 200 1000 60-90 50 100 150 20 30 5084


MATURITY ANALYSISDays Asset Liab 0-10 100 300 10-30 500 200 30-60 1000 1500 -500 +300BS Trainig Services [email protected]

60-90 2000 700

Short - -200 Long +

130085

OFF - BALANCE SHEET RISK 1. Loan Commitments ----------------------------------------Average Assets

Shows the extent of a banks obligation to make loans.BS Trainig Services [email protected] 86

OFF - BALANCE SHEET RISK 2.Contingent Liabilities & Commitments --------------------------------------------------- Average Assets

Shows the extent of a banks commitments & contingent liabilities.BS Trainig Services [email protected] 87

BANK ANALYSISCHECKLIST


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BANK ANALYSIS CHECKLIST EARNINGS 1. Is earnings at an adequate level ? 2.Does valid reporting exist for earnings?


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BA CHECKLIST EARNINGS IF POOR, ASCRIBABLE TO : 1. Low asset yield 2. High cost of funds 3. Inadequate non interest income 4. High loan charge off s 5. High loan loss provisions 6. Mismanaging taxes 7. High overhead costsBS Trainig Services [email protected] 90

BA CHECKLIST EARNINGS IF STRONG, ASCRIBABLE TO : 1. Strong asset yield 2. Low cost of funds 3. Adequate non - interest income 4. High loan charge off s 5. High loan loss provisions 6. Adequate taxes 7. Low overhead costsBS Trainig Services [email protected] 91

BANK ANALYSIS CHECKLIST CAPITAL ADEQUACY 1. Is level of capital high enough ? 2. Is capital growing proportionate to assets ? 3. Can additional debt be raised if needed 4. Is there pressure to pay high dividendsBS Trainig Services [email protected] 92

BANK ANALYSIS CHECKLIST LIQUIDITY 1. Is bank dependent on bought money ? 2. Is this dependence traditional or recent 3. Is core deposit growth proportionate to asset growth ? 4. Is volatile funds significant to assetsBS Trainig Services [email protected] 93

BANK ANALYSIS CHECKLIST ASSET QUALITY 1. Are net charge - off s reasonable ? 2. Is management slow to charge off loans 3. Is loan growth reasonable ? 4. Is loan loss reserve level adequate ? 5. Do earnings comfortably cover loan losses ?BS Trainig Services [email protected] 94

INTEREST MARGININCREASING THE

INTEREST MARGIN %BS Trainig Services [email protected] 95

INCREASING INTEREST MARGIN Interest Income..200 Interest Expense( 50 ) --------- INTEREST MARGIN.. 150 ----------


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INCREASING THE INTEREST MARGINBANK STRATEGY TO

INCREASE THE INTEREST MARGIN

INCREASE SIZE

CHANGE INTEREST SPREAD

ALTER ASSET/LIABILITY MIX


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INCREASING THE INTEREST MARGIN BANK STRATEGY ACTION 1.Expand Assets 2.Reduce Fixed Assets 3.Increase Equity Base

Increase Size


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INCREASE THE INTEREST MARGIN BANK STRATEGY ACTION 1.Re-Price Asset Portfolio 2.Re-Price Liability Portfolio

Change Interest Spread


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INCREASE THE INTEREST MARGIN BANK STRATEGY ACTION 1.Plan Taxes 2.Reduce Liquidity 3.Increase Aggressiveness 4.Change Asset Yield Sensitivity 5.Change Liability Cost Sensitivity100

Alter Asset / Liability Mix


INCREASE THE INTEREST MARGIN BANK STRATEGY Increase Size ACTION Expand Assets IMPLEMENTATION 1.Offer new Products and Services 2.New Loans/Deposits 2.Open new Branches 3.Expand Promotion Budget 4.Reduce Interest Spread101


EXPAND ASSETS REPERCUSSION 1.Increase operating Expenses 2.Need for Capital 3.F/A Regulations 4.Decrease Capital Ratio 5.Reduce ROA IMPLEMENTATION 1.Offer new Products and Services 2.New Loans/Deposits 3.Open new Branches 4.Expand Promotion Budget 5.Reduce Interest Spread102


INCREASE THE INTEREST MARGIN BANK STRATEGY Increase Size ACTION Increase Equity Base

IMPLEMENTATION 1.Reduce Dividend pay out 2.Offer Dividend reinvestment 3.Sell Stock 4.Establish Employee Stock Ownership PL103


INCREASE EQUITY BASE REPERCUSSIONS 1.Hurt shareholders 2.Double taxation S/H 3.Reduce ability to leverage ROA, dilution of earnings 4.Continued Employee Expectations IMPLEMENTATION 1.Reduce Dividend pay out 2.Offer Dividend reinvestment 3.Sell Stock 4.Establish Employee Stock Ownership PL104


INCREASE INTEREST MARGIN BANK STRATEGY Change Interest Spread ACTION Re-price Portfolio

IMPLEMENTATION 1.Increase rates on Loans 2.Compound return more frequently 3.Reduce rates on Deposits 4.Compound cost less frequently105


REPRICE PORTFOLIO REPERCUSSIONS 1.Lose business Loan quality decrease 2.Increase operations Client dissatisfaction 3.Lose business Liquidity problem 4.Increase operations Client dissatisfaction IMPLEMENTATION 1.Increase rates on Loans 2.Compound return more frequently 3.Reduce rates on Deposits 4.Compound cost less frequently106


INCREASE INTEREST MARGIN IMPLEMENTATION BANK STRATEGY Alter Asset/Liability Mix 1.Minimize cash 2.Minimize due from 3.Sell Securities & Bonds 4.Increase short term Deposits107

ACTION Reduce Liquidity


REDUCE LIQUIDITY REPERCUSSION 1.Liquidity Risk 2.Lose correspondent 3.Incur book losses

IMPLEMENTATION 1.Minimize cash 2.Minimize due from 3.Sell Securities & Bonds 4.Increase short term Deposits108

4.Increase volatility of deposits


INCREASE INTEREST MARGIN BANK STRATEGY Alter Asset/Liability Mix IMPLEMENTATION 1.Increase loan/deposit ratio 2.Increase highest yielding loans 3.Increase highest yielding securities

ACTION Increase Aggressiveness


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INCREASE AGGRESSIVENESS REPERCUSSION 1.Increase need for capital 2.Increase loan losses 3.Increase security losses

IMPLEMENTATION 1.Increase loan/deposit ratio 2.Increase highest yielding loans 3.Increase highest yielding securities


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INCREASE INTEREST MARGIN BANK STRATEGY Alter Asset/Liability Mix IMPLEMENTATION 1.Increase S/T & variable rate assets if rates will increase 2.Decrease S/T & variable rate assets if rates will decrease

ACTION Change Asset Yield Sensitivity


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CHANGE ASSET YIELD SENSITIVITY REPERCUSSION 1.Wrong estimate of interest movement, thereby reducing interest spread IMPLEMENTATION 1.Increase S/T & variable rate assets if rates will increase 2.Decrease S/T & variable rate assets if rates will decrease


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INCREASE INTEREST MARGIN BANK STRATEGY Alter Asset/Liability Mix IMPLEMENTATION 1.Decrease S/T & variable rate liabilities if rates will increase 2.Increase S/T & variable rate liabilities if rates will decrease

ACTION Change Liability Cost Sensitivity


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CHANGE LIABILITY COST SENSITIVITY REPERCUSSION 1.Wrong estimate of interest movement, thereby reducing interest spread IMPLEMENTATION 1.Decrease S/T & variable rate liabilities if rates will increase 2.Increase S/T & variable rate liabilities if rates will decrease


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CONSOLIDATED FINANCIAL STATEMENTSBS Trainig Services [email protected] 115

CONSOLIDATED BALANCE SHEETPARENT BANKCONSOLIDATEOwnership > 50%

EQUITY ACCOUNTINGOwnership Btw 50% - 20%

COST BASISOwnership < 20 %

BANK A

BANK B

BANK C


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