Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 5 5 Measuring and Evaluating Bank Performance The purpose of this chapter is to discover what analytical tools can be applied to a bank’s financial statements so that management and the public can identify the most critical problems inside each bank and develop ways to deal with those problems.
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Value of the Bank’s Stock
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Value of a Bank’s Stock Rises When: Expected Dividends Increase Risk of the Bank Falls Combination of Expected Dividend Increase and Risk Decline
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Value of Bank’s Stock if Earnings Growth is Constant
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Key Profitability Ratios in Banking
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Key Profitability Ratios in Banking (cont.)
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Breaking Down ROE x x
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. ROE Depends On: Equity Multiplier Leverage or Financing Policies Net Profit Margin Effectiveness of Expense Management Asset Utilization Portfolio Management Policies
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Components of ROE for All Insured Banks
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Bank Risks Credit Risk Liquidity Risk Market Risk Interest Rate Risk Earnings Risk Solvency Risk
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Credit Risk The Probability that Some of the Bank’s Assets Will Decline in Value and Perhaps Become Worthless
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Credit Risk Measures Nonperforming Loans/Total Loans Net Charge-Offs/Total Loans Provision for Loan Losses/Total Loans Provision for Loan Losses/Equity Capital Allowance for Loan Losses/Total Loans Allowance for Loan Losses/Equity Capital Total Loans/Total Deposits
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Liquidity Risk Probability the Bank Will Not Have Sufficient Cash and Borrowing Capacity to Meet Deposit Withdrawals and Other Cash Needs
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Liquidity Risk Measures Purchased Funds/Total Assets Net Loans/Total Assets Cash and Due from Banks/Total Assets Cash and Government Securities/Total Assets
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Market Risk Probability of the Market Value of the Bank’s Investment Portfolio Declining in Value Due to a Rise in Interest Rates
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Market Risk Measures Book-Value of Assets/ Market Value of Assets Book-Value of Equity/ Market Value of Equity Book-Value of Bonds/Market Value of Bonds Market Value of Preferred Stock and Common Stock
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Interest Rate Risk The Danger that Shifting Interest Rates May Adversely Affect a Bank’s Net Income, the Value of its Assets or Equity
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Interest Rate Risk Measures Interest Sensitive Assets/Interest Sensitive Liabilities Uninsured Deposits/Total Deposits
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Earnings Risk The Risk to the Bank’s Bottom Line – Its Net Income After All Expenses
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Earnings Risk Measures Standard Deviation of Net Income Standard Deviation of ROE Standard Deviation of ROA
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Solvency or Default Risk Probability of the Value of the Bank’s Assets Declining Below the Level of its Total Liabilities. The Probability of the Bank’s Long Run Survival
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Solvency Risk Measures Spread Between Bank CDs and Treasury Securities of the Same Maturity Stock Price/Earnings Per Share Equity Capital/Total Assets Purchased Funds/Total Liabilities Equity Capital/Risk Assets
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Other Forms of Risk in Banking Inflation Risk Currency or Exchange Rate Risk Political Risk Crime Risk
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Performance Measures Related to Bank Size
Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved. UBPR The Uniform Bank Performance Report Provided by U.S. Federal Regulators so that Analysts Can Compare the Performance of One Bank Against Another