Chapter 6
Measuring Bank
Performance
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Dr. Awatef ELLOUMI
Dr. Awatef ELLOUMI
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As, much like any firm, ratio analysis is useful to measure
performance and compare performance among banks.
The following slide shows both calculations and historical
averages for key bank performance measures.
Dr. Awatef ELLOUMI
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Recent Trends
in Bank Performance Measures
 ROA = Net Profits/
Assets
 ROE = Net Profits/
Equity Capital
 NIM = [Interest Income
- Interest Expenses]/
Assets
Dr. Awatef ELLOUMI
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Figure 9.10
Who is interested in bank performance?
Dr. Awatef ELLOUMI
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Return on Equity Model
 Profitability Analysis
Return on Equity (ROE)
Return on Assets (ROA)
Dr. Awatef ELLOUMI
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Figure 9.11
The ROE decomposition
Dr. Awatef ELLOUMI
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Capital Adequacy Management
 Bank capital helps prevent bank failure.
 The amount of capital affects return for the owners (equity holders) of the
bank.
 Regulatory requirement
Dr. Awatef ELLOUMI
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Capital Adequacy Management
How Bank Capital Helps Prevent Bank Failure:
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Bank Capital and Bank Profits
How the Amount of Bank Capital Affects Returns to
Equity Holders:
Return on Assets: net profit after taxes per dollar of assets
net profit after taxes
ROA =
assets
Return on Equity: net profit after taxes per dollar of equity capital
net profit after taxes
ROE =
equity capital
Relationship between ROA and ROE is expressed by the
Equity Multiplier: the amount of assets per dollar of equity capital
Assets
EM =
Equity Capital
net profit after taxes net profit after taxes
assets


equity capital
assets
equity capital
ROE = ROA  EM
Dr. Awatef ELLOUMI
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Capital Adequacy Management
 Trade-off between safety and returns to equity holders:
 Benefits the owners of a bank by making their investment safe
 Costly to owners of a bank because the higher the bank capital, the lower the
return on equity
 Choice depends on the state of the economy and levels of confidence
Dr. Awatef ELLOUMI
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Application: How a Capital Crunch Caused a Credit
Crunch During the Global Financial Crisis
 Shortfalls of bank capital led to slower credit growth:
 Huge losses for banks from their holdings of securities backed by residential
mortgages.
 Losses reduced bank capital
 Banks could not raise much capital on a weak economy, and had to
tighten their lending standards and reduce lending.
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Table 9.11
Selected ratios for three former large US investment banks (%)
Source: Bankscope.
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Figure 9.12
Value destruction in European banking
Source: McKinsey (2012).
Dr. Awatef ELLOUMI