Commercial Ban In Bahrain: Framework Adopted, Justification (Dissertat. Methodology Sample)

Chapter 4: Methodology
4.1 Introduction
This chapter devotes to understand the framework used to study the performance of commercial banks in Bahrain and their outcome. This chapter also devotes to present the main performance frameworks in the literature by briefly viewing the advantages and disadvantages for the current attempt. The sub-section justifies the reason why the selected framework “CAMEL” is used by denoting to the past studies and mentioning various outstanding scholars who have applied this framework in their research. Moreover, a number of sub-ratios under each component of “CAMEL” parameters will be briefly explained.
Based on the studies, the general outcome of performance of banks in Bahrain suggested that the banking sector in Bahrain was sound financially with a satisfactory asset quality, sufficient liquidity, sufficient capital and profitability. Moreover, the level of efficiency and productivity had been improved over the years. Conversely, a study exposed that the profitability of commercial banks in Bahrain were less, had exposure to high credit risks and less liquidity as compared to the banking sector. Studies also showed that there were no significant differences in performance profitability of interest-free banks and interest-based banks however; differences were in relation to the quality of their credit and liquidity performance.
Studies on efficiency have used different parameters and indicators for determining and comparing the bank’s performance of different countries and regions, which overtime, where the traditional financial ratios analysis methodologies were used for measuring such kind of performances.
For investigating the overall influence of financial crisis in the direction of performance of banks, it is essentially significant to recognize the banking financial performance determinants. Research reveals that performance of banking financial is mainly impacted by external and internal elements.
Further literature also exposes that ROE (Return on equity) and ROA (Return on Assets) are very essential signs of “banking financial performance” (i.e. profitability) and usually it is utilized as the dependent variables. Research also suggest that among internal aspects and forces that affect banking performance includes leverage, short-term funding, ownership (equity), overhead, loans and bank size. The GDP per capita is actually the external variable that is generally involved in literature of banking financial performances.
Current studies carried by Naceur & Omran (2011), for empirically contrasting performance of Conventional banks (CBs) and Islamic Banks (IBs) post and pre the global financial crisis often argues over the Islamic banks overall performance at the time of financial crisis of 2008 that was most effective as compared with their equivalent conventional banks, with their tool fulfilling with Islamic Sharia’s showed better flexibility to negative speculation and profitability affected conventional banks. Subsequently, this has controlled the remarkable extensive of Islamic Banking with an attempt to ease financial systems along with restore the confidence of investors within banking industry as stated by Bashir (2000).
4.2 Framework Adopted
The study deploys a descriptive financial-ratio analysis to describe, classify, measure and compare the performance of commercial interest free and interest based banks in Bahrain during the selected period 2011-2015. “CAMEL “ ranking system will be applied in this study as the main analytical framework.
4.3 Justification
CAMELS framework provides a real picture of performance by providing proper assessment of banks condition which is beneficial to potential shareholders, current shareholders, account holders, regulators and other stake holders (Barr, et al., 2002; Sarker, 2005).
Additionally, previous studies as mentioned in chapter 3 used simple ratios to analyze banks performances and focused mainly on profitability, liquidity and credit exposure. This created a gap to get a clearer picture of performance and hence, the framework adapted will fill in the gap to provide a clear picture of Bahraini banks performance.
4.3 Framework Background
The CAMEL parameter adopted in the research study was originally developed in the United States banking regulatory regime (Kaya, 2001). CAMEL is an acronym for Capital Adequacy, Assets Quality, Management Quality, Earnings and Liquidity (Sarker, 2005). These five vital components are used to assess, evaluate and compare banks in relation to their performancesby giving a comprehensive view (Nimalathasan, 2008).
There were only 5 initials (i.e. CAMEL)until 1997 and the Sensitivity to market risk, which is the last initial, was added as complementary in 1997. The Federal Deposit Insurance Corporation Improvement Act of 1991, in the United States, made it an essential requirement that analysis using CAMELS framework must be done on any bank’s data and of any year. Speaking in general, CAMELS framework was originally developed to reflect and analyse the overall management quality, extent to which banks are in compliance with law, financial standards and internal administration system of the banking industry. Moreover, It is a rating system, which was designed by the regulatory regime for detecting the full financial standards of various banks from a distance. Nowadays, the framework of CAMELS in its latestform is adopted and used by national supervision authorities as well as by the international rating agencies. The international rating agencies classify and assess financial institutions based on their domestic and foreign currencies as well as their short/long term obligations.(Sakarya. 2010).
4.4Sample selection and Data collection
Out of the 28 operating commercial banks under the Central Bank of Bahrain (CBB) regulatory regime, only 6 banks have been selected for this study. The banks are equally classified into two categories namely: Interest-based banks (i.e. conventional banks) and Interest-free banks (i.e. Islamic banks) that are among the top 15 banks in Bahrain and registered on the Bahrain Bourse.
The study is built on secondary data and the required data used in this paper is originated from Bankscope database (Bureau Van Dijk), official sources like the Central Bank of Bahrain, Central Informatics Organization (CIO), Bahrain Economic Development Board, etc. for insuring credibility and reliability of information. The figures are conveyed in the USD currency and hence, a constant exchange rate of 0.376 was used to convert any amount in BHD currency to USD currency.[A global comprehensive database of banks to generate annual reports for the selected year]
Table 3.1 gives a summary of some data on the selected 6 banks considered in this study.
Institution Name

Year of Establishment

Headquarter+Branches

Ownership

Type

Ahli United Bank B.S.C (AUB)

2000

1+20

Public

Interest Based

Bank of Bahrain and Kuwait (BBK)

1971

1+23

Public

Interest Based

National Bank of Bahrain B.S.C (NBB)

1957

1+28

Public

Interest Based

Bahrain Islamic Bank B.S.C (BISB)

1978

1+10

Public

Interest Free

Al Salam Bank (ALSALAM)

2005

1+10

Public

Interest Free

Khaleeji Commercial Bank (KHALEEJI)

2003

1+9

Public

Interest Free

Each component of the framework will be explained briefly below along with the ratios that will be deployed to assess the main components of “CAMELS”:
4.5Capital Adequacy Performance
Performance of any bank can be assessed by its level of capital adequacy, which gives a focused overview on the expected capital to be maintained on the balance sheet to protect them from risks exposure like credit, operational and market risk. Banks depositors can also be protected from such exposure that any bank may incur (Kaya, 2001). As per the Financial Institutions Rating System in the United States, 1997, complying with the legal mandatory capital requirement is a vital aspect to decide and maintain the level of capital adequacy, which is a serious element to exposure.
It is very important to consider that a minimum capital requirement varies from one country to the other depending on the country’s regulatory regime. As this study is related to commercial banks in Bahrain, the minimum capital requirement ratio as per the CBB is 12% that is calculated in compliance to the requirements of Basel 2 (CBB, 2016).
The capital adequacy of the banks selected in this study will be examined using the below key financial ratios as sub-parameters:
1 Tier-1 Capital Ratio;
2 Total Capital Ratio;
3 Equity -Total Asset Ratio;
4 Equity-Net Loans Ratio;
5 Equity-Customers & Short-term funding and
6 Equity-Liabilities ratio
4.5.1 Tier-1 Capital
This proportion assists in distinguishing the equity capital of a bank to its risk-weighted asset (Venkatesh& Suresh, 2013). The fundamental equity capital of a bank, which is a measure of its solid equity strength, is known as the Tier-1 capital. A bank’s risk-weighted asset comprises total assets a bank holds and that credit risk exposure is systematically weighted. As per Basel guidelines, Tier-1 Capital ratio must be minimum 4 percent. Nevertheless, the regulatory regime in Bahrain (CBB) has initiated all banks to keep a minimum ratio of 12.5 percent (i.e 8.5% more than Basel guidelines) or greater than the minimum requirement (C...