Financial Ratios of Financial Institutions

Profitability measures the earnings and profitability profile of banks reflecting the ability to support present and future operations. Depositors, shareholders, lenders and other stakeholders will be able to know the capability of banks in financing its expansionary program; ability of banks in absorbing losses incurred; how banks can make payment of dividends; and how can banks build up their capital. Profitability ratios can help to identify the capabilities and the most widely used ratios are ROA, ROE and Net Interest Margins.

Liquidity measures the ability of banks to meet its anticipated and unanticipated demands for funds. Demands of funds can be in the formed of withdrawals by customers, new loan approvals and disbursement, cheque clearings and also for reserve requirement. Therefore it is important for banks to have balanced in level of short term assets and long-term assets. An example of a long-term asset is loans and advances. Loans and advances of a bank should not be growing at a drastic rate as the bigger the long-term assets the lower is its liquidity position.

Assets quality is measured by analyzing the level of non-performing loans, recoveries, and adequacy of provisions. Non-performing loans (NPLs) level must be at its minimum as it can have an adverse impact on earnings capacity of banks. It must be manageable by imposing stringent requirement on loan application and applying effective tools in evaluating new loan applications. The lower the NPLs, the better is the ‘quality’ of assets.

Capital adequacy is to protect interest of depositors and shareholders and banks are required to achieve a minimum capital adequacy of 8 %. From the regulators point of view it determines the stability of financial system. The higher the adequacy the better is the bank in its ability to protect depositors and