How are Banking Ratios Compiled ?

Financial institutions such as banks, financial service companies, insurance companies, securities firms and credit unions have very different ways of reporting financial information. This guide gives you the most pertinent information to analyze a financial service company's financial statements.

> USBR Bank Ratio Database New > Banking Data Ratio Guide (Pull Out Section) - PDF Analyzing Banking Data Return on Assets USBR calculates Return on Assets (ROA) by dividing net operating income by total assets. Return on Average Assets = ( Net Operating Income/ Total Assets )

Retun on Equity Return on Equity = ( Net Income/Stockholder Equity ) Return on Equity is determined by dividing net income (minus preferred dividends) by average common stockholders equity to get the return on equity.

Rate Paid on Funds The Rate Paid on Funds is determined by dividing total interest expense by total earning assets. The formula is as follows: Rate Paid on Funds = Total Interest Expense / Total Earning Assets This indicates what percentage or rate of interest is paid from assets.

Gross Yield on Earning Assets (GYEA) The gross yield on average earning assets measures the total average return on the banks earning assets. The gross yield on earning assets is computed as follows: GYEA = Total Interest Income / Total Average Earning assets Essentially, the gross yield on earning asset ratio is really just the rate paid on funds (RPF) plus the net interest margin which equals the GYEA. Rate Paid on Funds + Net Interest Margin = Gross Yield on Earning Assets

Risk Ratios Net Interest Margin Net Interest Margin Net interest margin is computed by dividing net interest income by total earning assets. Net Interest Margin = Net Interest income/ Average Earning Assets

Provision for Loan Losses This important figure is a reserve account to cover unexpected defaults on loans by borrowers. These are generally referred to as nonperforming loans. Reserve as a percentage of loans: ( Reserve/ Total loans ) Chargeoffs as percentage of loans: (Charge-offs/ Total Loans ) The higher the nonperforming loan and charge-off percentages, the higher the provision for loan losses should probably be. Consequently, this would reduce net income and earnings per share.

Long Term Debt to Total Liabilites and Equity The higher this figure, the more difficult it would be for a bank to borrow more funds.This figure is determined as follows: Long Term Debt to Total Liabilities and Equity = ( Long Term Debt / Total Liabilities plus Equity )

Loans-to-Assets The loans to assets ratio measures the total loans outstanding as a percentage of total assets. The higher this ratio indicates a bank is loaned up and its liquidity is low. The higher the ratio, the more risky a bank may be to higher defaults. This figure is determined as follows: Loans to Assets = ( Loans / Total Assets )

Capital Ratios Leverage Ratio The Leverage Ratio measures the banks equity to total average assets which is a common measure used to analyze capital adequancy of a bank. This figure is determined as follows: Leverage Ratio = ( Stockholders Equity / Average Total Assets )

Equity-to-Loans Equity to Loans reflects the degree of equity coverage to outstanding loans. This figure is determined as follows: Equity to Loans = ( Average Common Equity / Average Total Assets )

Tier 1 Capital Tier I Banks must maintain a ratio which is within the guidelines set by the FDIC guidelines. This figure is determined as follows: Tier 1 Capital = ( Stockholder Equity/ Risk-Adjusted Assets )

Total Capital Total Capital includes Tier I and the reserve for loan losses ( up to 1.25 % of Risk Adjusted Capital) plus subordinated notes (to 50 percent of Tier I capital). This figure is also set by FDIC guidelines.

Average Assets per Employee Average assets divided by the number of full-time equivalent employee on the payroll at the end of the period.

Capital adequacy ratio

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Capital adequacy ratio (CAR), also called Capital to Risk (Weighted) Assets Ratio (CRAR)[1], is a ratio of a bank's capital to its risk. National regulators track a bank's CAR to ensure that it can absorb a reasonable amount of loss and complies with statutory Capital requirements.

Contents

1 Formula 2 Use 3 Risk weighting o 3.1 Risk weighting example 4 Types of capital 5 See also 6 References 7 External links

Formula
Capital adequacy ratios ("CARRR") are a measure of the amount of a bank's core capital expressed as a percentage of its risk-weighted asset. Capital adequacy ratio is defined as

TIER 1 CAPITAL - (paid up capital + statutory reserves + disclosed free reserves) - (equity investments in subsidiary + intangible assets + current & b/f losses) TIER 2 CAPITAL -A)Undisclosed Reserves, B)General Loss reserves, C) hybrid debt capital instruments and subordinated debts where Risk can either be weighted assets ( ) or the respective national regulator's minimum total capital requirement. If using risk weighted assets,

10%.[1] The percent threshold varies from bank to bank (10% in this case, a common requirement for regulators conforming to the Basel Accords) is set by the national banking regulator of different countries. Two types of capital are measured: tier one capital ( above), which can absorb losses without a bank being required to cease trading, and tier two capital ( above), which can absorb losses in the event of a winding-up and so provides a lesser degree of protection to depositors.

Use
Capital adequacy ratio is the ratio which determines the bank's capacity to meet the time liabilities and other risks such as credit risk, operational risk, etc. In the most simple formulation, a bank's capital is the "cushion" for potential losses, and protects the bank's depositors and other lenders. Banking regulators in most countries define and monitor CAR to protect depositors, thereby maintaining confidence in the banking system.[1] CAR is similar to leverage; in the most basic formulation, it is comparable to the inverse of debtto-equity leverage formulations (although CAR uses equity over assets instead of debt-to-equity; since assets are by definition equal to debt plus equity, a transformation is required). Unlike traditional leverage, however, CAR recognizes that assets can have different levels of risk.

Risk weighting
Since different types of assets have different risk profiles, CAR primarily adjusts for assets that are less risky by allowing banks to "discount" lower-risk assets. The specifics of CAR calculation vary from country to country, but general approaches tend to be similar for countries that apply the Basel Accords. In the most basic application, government debt is allowed a 0% "risk weighting" - that is, they are subtracted from total assets for purposes of calculating the CAR.

Risk weighting example

Risk weighted assets - Fund Based : Risk weighted assets mean fund based assets such as cash, loans, investments and other assets. Degrees of credit risk expressed as percentage weights have been assigned by RBI to each such assets. Non-funded (Off-Balance sheet) Items : The credit risk exposure attached to off-balance sheet items has to be first calculated by multiplying the face amount of each of the off-balance sheet items by the credit conversion factor. This will then have to be again multiplied by the relevant weightage. Local regulations establish that cash and government bonds have a 0% risk weighting, and residential mortgage loans have a 50% risk weighting. All other types of assets (loans to customers) have a 100% risk weighting. Bank "A" has assets totaling 100 units, consisting of:

Cash: 10 units Government bonds: 15 units Mortgage loans: 20 units Other loans: 50 units Other assets: 5 units

Bank "A" has debt of 95 units, all of which are deposits. By definition, equity is equal to assets minus debt, or 5 units. Bank A's risk-weighted assets are calculated as follows
Cash Government securities Mortgage loans Other loans Other assets Total risk Weighted assets Equity CAR (Equity/RWA) 65 5 7.69%

Even though Bank "A" would appear to have a debt-to-equity ratio of 95:5, or equity-to-assets of only 5%, its CAR is substantially higher. It is considered less risky because some of its assets are less risky than others.

Types of capital
The Basel rules recognize that different types of equity are more important than others. To recognize this, different adjustments are made:
1. Tier I Capital: Actual contributed equity plus retained earnings. 2. Tier II Capital: Preferred shares plus 50% of subordinated debt.

Different minimum CAR ratios are applied: minimum Tier I equity to risk-weighted assets may be 4%, while minimum CAR including Tier II capital may be 8%. There is usually a maximum of Tier II capital that may be "counted" towards CAR, depending on the jurisdiction.

See also