Sie sind auf Seite 1von 105

Impact of Non-Interest Income on Profitability of Commercial Banks in Nepal

Submitted By: Santosh Nepal


Roll No: 12220110

A Graduate Research Report submitted to


Ace Institute of Management
Pokhara University

Submitted for the degree of Master of Business Administration

Kathmandu
September 2015

ACKNOWLEDGEMENT
There are several people and institutions that I would like to thank, without their support I would
never have finished this dissertation.
I would like to express my gratefulness to my supervisor, Mr. K.B. Manandhar for his great
perspectives, guidance, support and suggestion.
I would also like to thank Dr. Ram Kumar Phuyal for his suggestions and guidance in conducting
an efficient research and his tips on tackling the problem faced during conduction of the
research.
I would also like to thank Mr. Ujjwal Paudel for providing guidance and motivation during
conduction of the research.
Finally, I would also like to thank Mr. Prabhat Uprety (Faculty, Business Research
Methodology) for providing guidance and motivation for the study and also by sharing his
knowledge with me and Mr. Sohan Babu Khatri (Faculty, Financial Management), for his
lectures on various subjects and their continuous guidance in respective topics, without the
knowledge I gained in those lectures, this research would not have been completed.

Santosh Nepal
September, 2015

ii

CERTIFICATE OF AUTHORSHIP
I hereby declare that this report is my own work and to the best of my knowledge and belief, it
contains no material previously published or written by another person nor materials which to a
substantial extent has been accepted for the award of any other degree of a university or other
institution of higher learning, expect where due acknowledgements.
I also certify that the thesis has been written by me. Any help that I received in my research work
and the preparation of the thesis itself has been acknowledged. In addition, I certify that all
information sources and literature used are indicated in the thesis.

...
Santosh Nepal
Exam Roll No: 12220110
P.U. Registration No: 2012-2-57-0051

iii
APPROVAL SHEET
Recommendation for Approval
This GRP report prepared and submitted by Mr. Santosh Nepal in partial fulfillment of the
requirements for the degree of Master of Business Administration has been supervised by me and
recommend it for acceptance.

..
Name and Signatures of GRP Advisor
Date...

Acceptance of the External Examiner


I approve the GRP submitted by Mr. Santosh Nepal. The grade sheet has been submitted to the
Dean, School of Business and Pokhara University through the college on a separate evaluation
sheet.

Name and Signature of the External Examiner


Date...

Viva Examination
The candidate has successfully defined the GRP. We recommend it for acceptance. The grade
sheet has been submitted to the Dean, Pokhara University through the college on a separate
evaluation sheet.
External Examiner....
GRP Adviser
Other Members.
Date..

iv

TABLE OF CONTENTS
ACKNOWLEDGEMENTi
CERTIFICATE OF AUTHORSHIP...ii
APPROVAL SHEET..iii
TABLE OF CONTENTS....iv
LIST OF TABLES.vii
LIST OF FIGURES......viii
ABBREVIATIONS....ix
EXECUTIVE SUMMARY.......xii
CHAPTER ONE ................................................................................................................................. 1
INTRODUCTION............................................................................................................................... 1
1.1 Background of the Study ....................................................................................................... 1
1.2. Statement of the Problem.................................................................................................... 6
1.3. Research Objective............................................................................................................... 6
1.4. Significance of the Study ...................................................................................................... 7
1.5. Research Hypothesis ............................................................................................................ 8
1.6. Limitation of the Study......................................................................................................... 8
1.7 Operational Definition /Assumptions ................................................................................. 10
1.8. Organizational Structure of the Study ............................................................................... 12
CHAPTER TWO .............................................................................................................................. 13
REVIEW OF LITERATURE AND THEORETICAL FRAMEWORK ......................................................... 13
2.1. Review of Literature ........................................................................................................... 13
2.2. Research Gap...................................................................................................................... 25

v
2.3. Theoretical Framework ...................................................................................................... 26
2.3.1 Specification of the Model ........................................................................................... 31
CHAPTER THREE ............................................................................................................................ 32
RESEARCH METHODOLOGY .......................................................................................................... 32
3.1. Research Design and Plan .................................................................................................. 32
3.2 Population and Sample Size ................................................................................................ 33
3.3. Instrumentation of Data..................................................................................................... 35
3.4. Data Collection Procedure ................................................................................................. 35
3.4.1. Primary Data ................................................................................................................ 35
3.4.2. Secondary Data............................................................................................................ 36
3.5. Reliability and Validity of Data ........................................................................................... 36
3.6. Analysis and Plan: Method of Data Analysis ...................................................................... 37
3.6.1. Primary Data Analysis .................................................................................................. 37
3.6.2. Secondary Data Analysis.............................................................................................. 37
CHAPTER FOUR ............................................................................................................................. 38
RESULTS AND DISCUSSION ........................................................................................................... 38
4.1. Secondary Data Analysis .................................................................................................... 38
4.1.1. Descriptive Statistics.................................................................................................... 38
4.1.2. Variance Inflation Factor ............................................................................................. 42
4.1.3. Correlation Analysis..................................................................................................... 43
4.1.4. Multivariate Regression Analysis................................................................................. 50
4.1.6. Discussion of the Results ............................................................................................. 52
4.1.7 Variance Analysis .......................................................................................................... 61
4.2. Primary Data Analysis......................................................................................................... 62

vi
4.2.1 Analysis of Likert Scale.................................................................................................. 64
4.3. Summary of test in Hypothesis .......................................................................................... 67
4.3.1. Based on Secondary Data ............................................................................................ 67
4.3.2. Based on Primary Data ................................................................................................ 67
CHAPTER FIVE ............................................................................................................................... 68
SUMMARY AND CONCLUSION...................................................................................................... 68
5.1 Summary of Findings........................................................................................................... 68
5.2 Conclusions.......................................................................................................................... 71
5.3 Recommendation ................................................................................................................ 74
BIBLIOGRAPHY .............................................................................................................................. 76
ANNEXURE .................................................................................................................................... 82

vii
LIST OF TABLES
Table 3.1: List of Selected Commercial Banks

33

Table 4.1: Descriptive Analysis

39

Table 4.2: Summary of Trend Analysis of Selected Bank Variables

40

Table 4.3: Summary of Percentage Analysis of Commercial Banks

41

Table 4.4: Variance Inflation Factor

42

Table 4.5: Correlation Matrix of Selected Bank Variable with ROA and ROE

43

Table 4.6: Multivariate Regression Analysis with Dependent Variable ROA

50

Table 4.7: Multivariate Regression Analysis with Dependent Variable ROE

51

Table 4.8: Variance Analysis of ROA

61

Table 4.9: Variance Analysis of ROE

61

Table 4.10: Analysis of Factors Having High Concentration on NII

63

Table 4.11: Analysis of Variables Affecting the ROA of Commercial Banks

64

Table 4.12: Analysis of Variables Affecting the ROE of Commercial Banks

65

viii
LIST OF FIGURES
Figure 1.1: Yearly Weighted Average Interest Spread of Commercial Banks

Figure 2.1: Conceptual Framework

27

Figure 4.1: Analysis of Relevance of Non-Interest Income

62

Figure 4.2: Analysis of Risk in Non-Interest Income

63

ix
LIST OF ABBREVIATIONS

ADBL

Agricultural Development Bank

BOK

Bank of Kathmandu

CIT

Citizen Bank

DI

Dividend Income

EBIT

Earnings before Interest and Tax

EBL

Everest Bank Limited

EI

Exchange Income

FP

Financial Performance

GC

Guarantee Commission

GDP

Gross Domestic Product

GRD

Grand Bank

HB

Himalayan Bank

HHI

Herfindahl-Hirschman Index

JAN

Janata Bank

KUM

Kumari Bank

LAX

Laxmi Bank

LC

Letter of Credit

LUM

Lumbini Bank

MBL

Machhapuchre Bank

x
MFI

Monetory Financial Institution

MTA

Money Transfer Activity

NAB

Nabil Bank

NB

Nepal Bangladesh Bank

NBE

National Bank of Ethiopia

NCC

Nepal Credit and Commerce Bank

NEB

Nepal Bank

NIBL

Nepal Investment Bank Limited

NII

Non-Interest Income

NIM

Net Interest Margin

NMB

NMB Bank

NOI

Non-Operating Income

NRB

Nepal Rastra Bank

OLS

Ordinary least-squares

PB

Prime Bank

PSA

Profit/(Loss) on Sale of Assets

RBB

Rastriya Banijya Bank

REF

Renewal Fee

RF:

Remittance Fee

ROA

Return on Assets

ROE

Return On Equity

xi
SAN

Sanima Bank

SBI

SBI Bank

SC

Service Charge

SCBN

Standard Chartered Bank Nepal

SID

Siddhartha Bank

SUN

Sunrise Bank

xii
EXECUTIVE SUMMARY
The main objective of this study is to investigate the relationship between selected internal bank
variables and bank profitability in terms of return on assets and return on equity and to find out
the dominant variables of commercial banks by considering yearly data from 2010-2014 of
profit/(loss) on sale of assets, dividend income, letter of credit, guarantee commission, remittance
fee, exchange income, service charge and renewal fee. Understanding this relationship is
important and worthwhile for all commercial banks managers regarding performance decision of
banks. As the development of banking sectors depends profoundly on strong decision making
that leads to the efficiency and performance.
The study is based on both primary and secondary data. The annual publication of banks were
used as secondary sources and analyzed through excel and statistical tools such as descriptive
statistics, percentage analysis, correlation, multiple regression and trend analysis. The study has
sampled 24 commercial banks out of 30 of the year 2010 to 2014 to examine the relationship
between selected bank internal variables and profitability measured in terms of return on assets
and return on equity. For the collection of primary data, survey technique was done based on the
questionnaire which was distributed to the managers and officers of all the sampled commercial
banks located inside the Kathmandu valley. Convenience and judgmental sampling technique
was used. Two methodologies were used in order to determine the relationships; first a
correlation test on the studied variable. Second, a multivariate regression analysis for the studied
variable where eight independent variables: profit/(loss) on sale of assets, dividend income, letter
of credit, guarantee commission, remittance fee, exchange income, service charge and renewal
fee while return on assets and return on equity treated as dependent variable.
Pearson correlation coefficient show that there is positive correlation between return on assets
with dividend income, letter of credit, guarantee commission, remittance fee, exchange income
and renewal fee whereas there is negative correlation with profit/(loss) on sale of assets. Besides,
there is positive correlation between return on equity with dividend income, letter of credit,
guarantee commission, remittance fee, exchange income and renewal fee. In contrast there is
negative correlation with negative correlation with profit/(loss) on sale of assets. In addition, the
multiple regression analysis indicates that guarantee commission, remittance fee, exchange
income, service charge and renewal fee are significant in influencing return on assets and return

xiii
on equity. The result shows the non-significant relationship between profit/(loss) on sale of
assets, dividend income, letter of credit with return on asset and return on equity.
From the primary data analysis, it is found that there is significant relationship between selected
internal bank variables and return on assets and return on equity. And study also found that
service charge has high concentration and dividend income has low concentration on NonInterest Income from the qualitative research. This is also important for regulators in order to
assist in the formulation and implementation of policies for future stability in the sustainable
development. This is also of interest to investors in terms of understanding stock price of
commercial bank to make necessary adjustments on their open positions. Knowing which force
leads to high performance can hold in determining the right operational procedures and aware
about what might happen in the financial market.
An implication of this analysis is that bank diversification into non-traditional activities should
be not hazardous. Banking institutions can reap diversification benefits as long as they wellstudied it and know just how much diversification would be necessary to achieve positive result
by considering its specific characteristics, capabilities and the risk level, and as they choose the
right niche.
Keywords: Commercial banks, non-interest income, fee based income, primary and secondary
data, and inferential analysis

CHAPTER ONE
INTRODUCTION
1.1 Background of the Study
Commercial banks play a vital role in the economic resource allocation of countries. They
channel funds from depositors to investors continuously. They can do so, if they generate
necessary income to cover their operational cost they incur in the due course. In other words for
sustainable intermediation function, banks need to be profitable. Beyond the intermediation
function, the financial performance of banks has critical implications for economic growth of
countries.
The traditional role of commercial banks has centered on intermediation and the generation of
net interest income through two core activities; namely, the collection of deposits on which
banks pay interest and the issuing of loans for which they receive interest income. Good financial
performance rewards the shareholders for their investment. This, in turn, encourages additional
investment and brings about economic growth. On the other hand, poor banking performance can
lead to banking failure and crisis which have negative repercussions on the economic growth.
On the research process, the circular of Nepal Rastra Bank draws attention about the fee based
income. This help to study about the financial literacy and performance of the commercial banks
by non-traditional activities. The researcher was curious to know about whether non-traditional
activities of commercial banks in Nepal will be sustainable for the high performance.
Banks exist to intermediate the transactions between demanders and suppliers of money at a
given consideration. Earnings from these transactions i.e from loans and deposits is traditional
income generating activities. However, critical analysis of financial statements for commercial
banks reveal a different trend, where over 40% of their net operating income comes from nonintermediation income generating activities. (DeYoung & Rice, 2004)
The researcher intended to do the study on commercial banks because non-traditional incomes
are observed higher than traditional income in Nepalese Market. Therefore to know whether
commercial banks can survive if there is deregulation or any changes in regulation regarding

2
non-traditional activities in future is the motivation of the researcher to do study on banks of
Nepal. The researcher intended to study the performance of commercial banks in terms of ROA
and ROE
The literature not only showed the greater function of banks in the economy but also stressed that
without the existence of a sound and efficient banking system, the economy can't function well.
When a bank fails, the whole of a nation's payment system is thrown in to jeopardy (Ikhide,
2000).
On the other front, studies also shown that bank performance also are influenced by the business
cycle or economic performance (Dermerguc and Huizinga, 2001). Both ways of arguments
justify the close link of banks and the economy which instigates the need to understand the
determinants of bank performance from both the bank and the aggregate economy wide
perspectives. Thus, financial performance analysis of commercial banks has been of great
interest to academic research.
The performance of commercial banks can be affected by internal and external factors (Flamini
et al., 2009). These factors can be classified into bank specific (internal) and macroeconomic
variables. The internal factors are individual bank characteristics which basically are influenced
by the internal decisions of management and board. The external factors are sector wide or
country wide factors which are beyond the control of the company and affect the profitability of
banks.
The shift of commercial bank from the traditional activities to the nontraditional activities is due
to regulated market and monetary policy tightened by the Nepal Rastra Bank. The fixed interest
spread leads to bank to diversify its product and services and researchers is motivated to find out
either the non-traditional activities are the major indicators of the profitability of the commercial
banks. Except Standard Chartered Bank Nepal, all commercial banks have brought their interest
rate spread below 5 percent. According to statistics, unveiled by NRB, the weighted interest rate
spread of commercial banks stood at 4.5044 percent which is illustrated by below figure.

Fig 1.1: Yearly Weighted Average Interest Spread of Commercial Banks


This shift toward noninterest income has contributed to higher levels of bank revenue in recent
years, but there is also a sense that it can lower the volatility of bank profit and revenue, and
reduce risk. One potential channel is that noninterest income may be less dependent on overall
business conditions than traditional interest income, so that an increased reliance on noninterest
income reduces the cyclical variation in bank profits and revenue. Alternatively, expanded
product lines and cross selling opportunities associated with growing noninterest income may
offer traditional diversification benefits for a banks revenue portfolio.
Fundamentally, financial flows of commercial banks are from the intermediation process. It
comprises of interest paid on deposits, interest received from loans and securities and the
resulting net interest margin. However, over the decade commercial banks especial in developing
countries gradually expanded beyond these tradition sources of revenue toward fee earning,
trading profit and loss, commissions and other non-interest income sources. Across all types of
banks, study found increased share of non-interest income may adversely affect the return on
assets and equity. Therefore, researcher intends to find out whether diversification is the best
alternative to ensure good return on assets and equity.
Banks in recent times have changed their focus from depending heavily on interest income to
generating revenue from fee generating activities. It was found that smaller banks are more

4
involved in non-interest earning activities, relative to their larger counterparts. The increasing
importance of non-interest income (NII), particularly in recent years, has stimulated research on
the factors which have underpinned its performance. International evidence has shown that bank
characteristics as well as environmental factors such as deregulation, globalization, and
investment in technology and developments in the financial architecture have played a
significant part in explaining trends in NII. More specifically, these bank-specific features
included the composition of the loan portfolio as well as the degree of personal service offered
by the banking institution. The findings for Craigwell and Maxwell (2005) showed that noninterest income was positively related to both bank profitability and earnings volatility.
Examples, non-interest income include deposit and transaction fees, insufficient funds (NSF)
fees, annual fees, monthly account service charges; inactivity fees, check and deposit slip fees,
etc. Institutions charge fees that provide non-interest income as a way of generating revenue and
ensuring liquidity in the event of increased default rates. Fee income includes a wide range of
sources of income including fund management fees, loan arrangement fees, fees for advice, trust
and custody fees, and commission on sales of third party financial products such as insurance.
This study had used internal factors affecting non-interest income to find out the relationship
between profitability and the selected bank variables. Profit/(loss) on sale of assets, dividend
income, letter of credit, guarantee commission, remittance fee, exchange income, service charge
and renewal fee are those internal variables taken in consideration for the research.
In recent times, Ritter and Udell (1996) found that sources of revenue has became important in
banks as a result it have shifted from traditional interest income to nontraditional sources of
revenue, known as non- interest or fee income. These sources of income have a great growth
significant in non-interest income.
In recent years, though, the distinction between types of banks has become blurred, partly by
takeovers and partly by traditional retail banks going into fee-earning activities. In recent year,
the profitability of traditional banking activities such as business lending and deposit has been
diminished. Thus, the central bank formulated policy to reduce interest rate of treasury bills.

5
As a result, there has been a huge shift to non-traditional financial activities as a way of
maintaining their position as financial intermediaries. The changes are relevant for financial
stability. The reason is straightforward. The more unstable is a banks or any other firms
earnings stream, the more risky the firm is.
Analysis of income and expense data of commercial banks shows that the dominant sources of
revenue is loan interest and discount. Fieldman and Schmidt (1999) found that over 20 years
non-interest income has transformed for supportive role into a major contributor of banks
revenue. In Kenya, the figure reflects downsized interest income despite growth in non-interest
income.
Omuodo (2003) found that as pressure mounts on the banking industrys profitability resulting
from over reliance on interest income by banks, it is strategically imperative that banks focus on
other revenue streams. National Industrial Credit Bank (NIC) has introduced new products to
diversify revenue and to keep its head above the water. Further, researcher stated that part of NIC
banks strategy has been to diversify revenues, by expanding the scope of its activities in
addition to its predominant asset finance focus and offering more general commercial banking
facilities and other products. Premium financing and provision of custodial services have
reduced over reliance on interest income.
The consequences of noninterest income for the financial performance of commercial banks are
not well understood. All else equal, an increase in noninterest income will improve earnings but
an increase in noninterest income seldom occurs without concomitant changes in interest
income, variable inputs, fixed inputs, and/or financing structure.
During 1990s noninterest income trended up, was generally believed that shifting banks
income away from intermediation-based activities in which bank income was subject to credit
risk and interest rate risk, and toward fee-based financial products and services, would reduce
banks income volatility. Moreover, it was conventionally believed that expansion into new feebased products and services reduced earnings volatility via diversification effects. But recent
empirical studies indicated that neither of these beliefs holds on average. (Jin & Young-Jae,
2009).

6
1.2. Statement of the Problem
The globalization and financial de-regulation in banking sector prolonged the banking activities
produced different diversified product and services. The concentration on banking services in
recent year had been shifted from traditional activities to non-traditional activities. Most of the
Nepalese commercial bank is enjoying around half of its net income from non-traditional
activities based on sale of assets, dividend income, letter of credit, guarantee commission,
remittance fee, exchange income, service charge and renewal fee. In this regards, the research on
the Nepalese commercial banks would lead us to know the impact of non-interest income on the
performance. The study intends to explore the relationship between selected bank internal
variables and profitability. This research is focused on commercial banks of Nepal. In order to
know how banks are enjoying surplus of non-interest income and concentration of income in
non-traditional activities, this work is carried out.
Therefore the study focuses on following issues:

Is there any relationship between the profitability of bank and the selected variables
(bank internal variables)?

Which variable plays most important role (concentration) in determination of profitability


of bank?

1.3. Research Objective


The study has specified following objective:

To study the different dominant factors influence to Non-Interest Income.

To test the relationship between selected variables and financial performance (ROA &
ROE).

7
1.4. Significance of the Study
This study includes the variable relating to performance of bank that is ROA and ROE. Thus the
purpose of the present study is to investigate whether there is relationship of selected bank
internal variables with performance of commercial Bank by using yearly data spanning form
year 2010-2014. Therefore this research will contribute to the researchers individual career
development as well as it is mainly concern for the academic purpose. Further the finding of the
study may have important implication for investors, decision makers, and other stake holders as
well. In addition, the present work improves the earlier studies performed in the Nepalese
context and offers the value addition to the existing literature.
The study will enable individual bank to evaluate interest and noninterest income and the
significant to its operation. To identify other forms of non-interest income organization may
venture into to enable the organization increase profitability and income stability.
The research will contribute to body of knowledge by documenting the contribution and
relationship of non-interest income to the whole organization and the profitability in financial
institution and enhance further research on the same.
The information will enable shareholder to know that their investment are yielding return and
also encourage investor to invest in the commercial banks that are diversifying portfolio. How
the diversification will provide banks future profitability.
Bank managers income and professional reputations are clearly linked to bank earnings and
hence high instability or volatility of earning will fare poorly on their performance on the
extreme it will lead to insolvency. The benefit of this study is to provide the management to
rethink about the income diversification and investment management portfolio. It will also help
management to research the alternative way of non-traditional activities. The further practice of
traditional activities rather than fee based income will also help management to provide easy
access of services to customers, suppliers, community and investors. The study will also help
management to create spirituality of work over employees to practice entrepreneurial in banking
activities.

8
Bank regulators are vested with the responsibility of protecting the payment systems and also
protection of the customer from bank failure this necessitate bank to lay down mechanism of
measuring banks stability through its earning. This occurs when there is unstable earning. The
results of this paper may be useful to the financial institutions, Non-Governmental organization
and the Government of Nepal. It may provide a guide to remedial regulatory schemes and
supervisory programme to support the operation of financial institutions
The study will also help government to know either fee based income is an instrument of
sustainable economic development. As we are aware banking sectors have a key role in national
economic transformation process. The further study will help government to explore other
investable areas rather than practicing fee and commission based activities in the banks. Further
may give direction to the donor agencies, entrepreneurs and business people and importantly,
fills the research gap and provide further data for scholars.
1.5. Research Hypothesis
This research observes the relationship of selected variables with ROA and ROE. In order to
achieve the objective of the study the following hypothesis are developed:

HoROAi : There is no significant relationship of i th variable with ROA.


HoROEi : There is no significant relationship of i th variable with ROE.
where,
i= profit/(loss) on sale of assets, dividend income, letter of credit, guarantee commission,
remittance fee, exchange income, service charge and renewal fee.
1.6. Limitation of the Study
There are number of macroeconomic variables which have direct and indirect influence on
performance on commercial banks. However, this study only considers profit/(loss) on sale of
assets, dividend income, letter of credit, guarantee commission, remittance fee, exchange
income, service charge and renewal fee.

9
Internal factors such as capital size, size of deposit liabilities, size and composition of credit
portfolio, interest rate policy, labor productivity, and state of information technology, risk level,
management quality, bank size and moderating variables such as liquidity ratio, leverage ratio,
stock market index, exchange rate, off-balance sheet items, investment portfolio and monetary
policy also plays important role in determining the performance of bank. Due to the time
constraint these variables has not been taken in consideration. It may be useful for future studies
to include either economic variable that might influence the performance in short run so that
dynamics between the variables could be addressed properly. However given that this research
was a preliminary investigation without much literature precedent.
The study has following limitations:

The study covers only 24 out of 30 commercial banks. Banks with recent mergers and
banks whose 5 years data are unavailable are excluded from the study.

Macroeconomic variables like GDP, inflation has not been taken in consideration.

Internal factors such as capital size, size of deposit liabilities, size and composition of
credit portfolio, interest rate policy, labor productivity, and state of information
technology, risk level, management quality, bank size and moderating variables such as
liquidity ratio, leverage ratio, stock market index, exchange rate, off-balance sheet items,
investment portfolio and monetary policy has not been taken into consideration.

Conducting the research for academic purpose has always the limited time so due to
limited time frame, the in depth analysis in the subject matter may not be possible to
carry out.

In some cases, the data for individual variables could not be found among the sampled
bank and in this case the analysis is done neglecting the unavailability of data.

The primary information is based on the responses from 90 respondents.

Reliability of the study is based upon the accuracy of published data and the data given
by general respondent.

10
1.7 Operational Definition /Assumptions

Performance
Performance of the financial institution is measured by the return on assets, return on
equity. The indicators of the performance for the research studies are return on assets and
return on equity.

Time Series
A Time series is a collection of observations of well defined data items obtained through
repeated measurements over time.

Correlation
Correlation is the statistical analysis that defines the variation in one variable by the
variation in another, without establishing cause and effect relationship. The coefficient of
correlation is a measure of the strength of the relationship between the variables: that is
how well changes in one variable can be predicted by changes in another variable.

Auto-Correlation
Autocorrelation is the correlation (relationship) between members of a time series of
observations such as yearly selected bank variables.

Regression
Regression Analysis is a statistical tool for the investigation of relationship between
variables.

Trend Analysis
Trend analysis is an aspect of technical analysis of the data that tries to predict the future
movement of historical data. Trend analysis is based on idea that what has happened in
the past gives us an idea of what will happen in the future.

Profit/ (Loss) on Sale of Assets


Profit/ (loss) on sale of assets of commercial bank is defined as the profit or loss of land
and building and assets owned by commercial bank. The assets are classified as land,
vehicles, buildings, intellectual property and default loan property. The profit is earned

11
when the market price is greater than the cost price owned and loss vice versa. A gain
resulting from selling an asset at a price higher than the original purchase price.

Dividend Income
Dividend income is earned from the dividend paid by company listed in Nepalese
Market. As per NRB directives, commercial bank can invest in insurance companies,
hydropower, microfinance, hotels and other manufacturing companies listed.

Letter of Credit
Letter of credit means an instrument issued by a bank to another bank instructing to
accept cheque, draft, hundi or bill of exchange drawn by specified person up to the limit
of specified amount. It includes Telex or communication charges to buyers bank
couriers, postage reimbursement bank charge, controllable fees and buyers letter of
credit.

Guarantee Commission
A contract of guarantee is a contract to perform the promise or discharge of liability of
third person in case of his default. In other words, if the debtor fails to settle a debt, the
bank will cover it. This is the commission for the bank on behalf of being guarantee.
Bank Guarantee is generally of two types: financial and performance guarantee.

Remittance Fee
Remittance transaction includes a fee charged by the sending agent, who is paid by the
sender and a currency conversion fee for delivery of local currency to the beneficiary in
recipient country. In such a transaction, money transfer operators require the beneficiary
to pay a fee to collect remittances. This fee may be charged to account for frequent
exchange rate movements.

Exchange Income
Exchange income is the income earned from purchase and sale of foreign exchange or the
acts of borrowing, giving credits, and of accepting or providing foreign exchange in any
manner. In finance, an exchange rate between two currencies is the rate at which one
currency will be exchanged for another. The commercial bank earned income through the
fluctuation in exchange rate and book up foreign currency.

12

Service Charge
Service charge is a fee incurred by a company for the expenses associated with its
account transactions. The term service charge covers all charges and fees made by a bank
to their customers. In common parlance, the term often relates to charges in respect of
loan and services its rendered

Renewal Fee
Renewal fee comprises of renewal of overdraft account, loan, account renewal, insurance
renewal, card renewal and other services rendered through commercial bank.

1.8. Organizational Structure of the Study


The report on this study consists of five chapters. Second chapter deals with review of literature
where in depth analysis of existing selected literature about the subject matter is reviewed. This
includes Review of Literature, Research Gap and Theoretical Framework. Third chapter deals
with the Research Methodology which includes six sub heads namely, Research Design and
Plan, Population and Sample Size, Instrumentation of Data, Data Collection Procedure,
Reliability and Validity of Data, and Method of Data Analysis. Fourth chapter includes about
Data Presentation and Analysis. Fifth chapter is dealt with Summary of Findings, Conclusion
and Recommendations.

13

CHAPTER TWO
REVIEW OF LITERATURE AND THEORETICAL FRAMEWORK
2.1. Review of Literature
Stiroh (2002) made an effort to study the link between the growing reliance on noninterest
income and the volatility of bank revenue and profits in the U.S. banking industry using panel
data from the year 1970 to 2001 adopting regression model for quantitative analysis.. The major
finding of the study was that both aggregate and bank data provide little evidence that this shift
offers large diversification benefits in the form of more stable profits or revenue. At the
aggregate level, declining volatility of net operating revenue reflects reduced volatility of net
interest income, rather than diversification benefits from noninterest income, which is quite
volatile and has become more correlated with net interest income. At the bank level, growth rates
of net interest income and noninterest income have also become more correlated in recent years.
The study showed that there is a clear negative association between noninterest income shares
and profits per unit of risk in terms of bank risk and return.
Smith, Staikouras and Wood (2003) made an effort to examine the variability of interest and
non-interest income, and their correlation, for the banking systems of EU countries for the years
1994-98 using time series data. The study used 2,655 financial institutions of 15 EU countries by
using the balanced sample adopting time series and cross sectional analysis. The objective of the
study was to find the profitability and risk of noninterest activities relative to interest-bearing
banking activities, and the potential diversification benefits of non-interest activities to a banking
firm. The study found that non-interest income is much more volatile than interest income,
variability of non-interest income increases, and there exists a negative correlation between
interest and non-interest income in several countries. Another major finding of the study was that
the average non-interest income increases from 0.88% of total assets in1994 to 1.09% in 1998.
Only in Spain, Greece, Finland, Portugal, and Sweden non-interest income as a proportion of
total assets decreased in the last two years. The volatility of non-interest income was higher than
the volatility of interest income for all EU countries. So, although net interest income levels are
much higher than the respective for non-interest income, the volatility of the non-interest sources
of income is much larger.

14
DeYoung and Rice (2004) made a study on the effect of non-interest income on operating
income in the US commercial banks from the year 1989 to 2009. The main objective of the study
was to find the empirical link between bank non-interest income and financial performance. The
study found that noninterest income now accounts for over 40% of operating income in the U.S.
commercial banking industry. The result indicates that well-managed banks expand more slowly
into noninterest activities, and that marginal increases in noninterest income are associated with
poorer risk-return tradeoffs on average. The study suggest that noninterest income is coexisting
with, rather than replacing, interest income from the intermediation activities that remain banks'
core financial services function.
Craigwell and Maxwell (2005) made an effort to study the trends in non-interest income at
commercial banks in Barbados between 1985 and 2001 using panel data regression model. The
main objective of the study was to investigate the determinants of non-interest income and its
impact on commercial bank financial performance. The study found that the incidence of
noninterest income in Barbados declined over the period 1985 to 2001, contrary to other
countries in the Caribbean and the wider developed world. Apparently, most of the major factors
that cause banks in the developed world to generate more non-interest income, like deregulation
and technological change for the development of loan securitization. Study concluded that the
result for Barbados may be attributed to the absence of some of the factors that were pinnacle to
the generation of noninterest income in developed countries, such as deregulation and
technological change, especially for the development of loan securitization and credit scoring.
Furthermore, the study found that increases in non-interest income are linked to greater bank
profitability but also to higher earnings volatility.
Lozano and Pasiouras (2008) made an effort to study the impact of non-traditional activities on
the estimation of bank efficiency by using unbalanced dataset of sample of 4,960 observations
from 752 publicly quoted commercial banks operating in 87 countries between 1999 and 2006.
All bank-specific data were obtained from Bank scope database of Bureau van Dijk and were
converted to US dollars where unconsolidated data were selected wherever available. The
Battese and Coelli model was used to investigate the inclusion of proxies for non-traditional
activities as an output in studies of bank efficiency. The major contribution of the study is the
average efficiency increases with the inclusion of either the off balance sheet or the non-interest

15
income in the output vector. The inclusion of non-interest income in the profit function results in
mean efficiency scores that are significantly higher than the ones obtained from the traditional
model B1 in all cases. Researcher have found that on average cost efficiency increases whether
researcher use OBS or non-interest income as an indicator of non-traditional activities. The
results imply that the estimation of traditional models that do not account for non-traditional
activities through non-interest income will underestimate both cost and profit efficiency.
However, the impact of OBS on efficiency is in most cases insignificant and its influence can be
either positive or negative and varies across geographical regions and level of economic
development, as well as the specification of the model.
Kick and Busch (2009) made an attempt to study the determinants of non-interest income and its
impact on financial performance and the risk profile of German banks between 1995 and 2007.
The study has used data from the Bundesbanks prudential database which incorporates
information derived from bank balance sheets and the supervisory reports of individual German
banks, Bundesbanks borrowers statistics, and credit register for loans of 1.5 million euro or
more. The study has focused on the primary income sources of banks: interest and fee business.
An essential aspect of the analysis is the treatment of endogeneity between banks risk-returncharacteristics and their activity in fee income generating operations. For the treatment of
endogeneity the study has specified two models: one is a fixed-effects panel model with
regressors lagged by one year and, the second is a two-stage least squares estimator. The latter
approach allowed the researcher to analyze the factors determining a banks participation in the
fee income business. Thus the study applies both panel fixed-effects and cross-sectional twostage least squares models. The major finding of the study is that banks with a large share of fee
income exhibit a more favorable risk-return profile, i.e. they enjoy a higher risk-adjusted return
on equity (ROE) and total assets (ROA). Additionally, the study also found that for commercial
banks, strong involvement in the fee business is accompanied by higher ROE and ROA-volatility
and, therefore, with increased risk. In particular for commercial banks some fee income activities
are associated with much higher risks than other income sources and, therefore, they could
contribute to destabilize both individual banks as well as the whole banking system.
William and Prather (2010) made an effort to study the impact on bank risk of portfolio
diversification between traditional margin income and feebased income for banks operating in

16
Australia. The study considered several performance variables, which analysis compares the
benefits of diversification across different bank types relative to margin income and fee income.
Further, regression analysis considered bank risk and revenue concentration. The major finding
of the study was that feebased income is riskier than margin income but offers diversification
benefits to bank shareholders. While improving bank riskreturn tradeoff, these benefits are of
second order importance compared to the large negative impact of poor asset quality on
shareholder returns. The major contribution of the study was that its results suggest that
shareholders of banks will benefit from increased bank exposure to noninterest income via
diversification. From a regulatory perspective, diversification reduces the possibility of systemic
risk, but caution must be offered with respect to banks pursuing absolute returns rather than
monitoring riskreturn tradeoffs, and so exploiting the benefits of the implied guarantee offered
by too big to fail.
Hong (2010) made an effort to analyze the ratio of non-interest income in the business income
and return on equity (ROE) using time series data based on the quarter data from 2002 to 2009 of
China Merchants Bank adopting augmented dickey-fuller test and co integration rank test. The
major contribution of the study was that there exists a co integration relationship between the
ratio of non-interest income in the business income and return on equity (ROE). To optimize the
income structure through developing the non-interest income business is the inevitable choice for
commercial banks under the increasingly fierce competition, which has become a worldwide
tendency for commercial banks. The study shows that Chinese commercial banks should take
measures to continuously improve the non-interest income business so as to enhance their
operation performance, and to narrow the gap with the commercial banks in developed countries.
The short-term fluctuation of ROE results from two factors, one is the short-term fluctuation of
NONINT, other one is the equilibrium error which indicates the degree the variable ROE
deviates from its long-run equilibrium. The short-term fluctuation of non-interest income
business has a significant impact on the short-term fluctuation of the operation performance of
commercial banks. Therefore, the study concludes that the commercial banks should maintain
the stable development of the non-interest income business so as to avoid excessive fluctuations
of the operation performance of the commercial banks due to the excessive fluctuation of noninterest income.

17
Mata (2010) made an effort to investigate the institutional factors that influence the MFI
decision-making process of entering the remittances market using observations of 225 MFIs
from 18 Latin American and Caribbean (LAC) countries considering the operational, managerial,
and financial performances as a potential explanatory factor. Results exhibit that financial
performance has the highest impact on the MFIs decision to diversify by offering a remittances
service. The major contribution of the study was that, MFIs with a higher probability to enter the
money transfer market are those that have better access to liabilities, including deposits (so they
have access to funds to invest in the new activity), while their operational capacities and their
profitability are not determinants in the decision-making process and should probably be
analyzed as a result of the decision. The result suggest that all other things being equal, the
probability of having an MFI operating on the remittances market will positively depend on its
capacity to finance investment (and probably operational) costs related to the new activity. The
study also suggests that MFIs enter the market because this could have an effect on their
profitability (considered as a result of the decision, not as a determinant). This implies that, to
some extent, as long as financial resources are available, MFIs will tend to launch a MTA
(Money Transfer Activity), regardless of the operational capacities and the managerial
performances available in the institutions.
Tapper (2010) made an effort to study the inter-linkages between non-interest income, financial
performance and the macro-economy to Jamaican panel data for the period March 1999 to
September 2010.The study also investigates the determinants of non-interest income in a context
of the increasing reliance by banking institutions on revenue generation from non-interest
income activities. The model used was seemingly unrelated regression (SUR) estimation method.
Also Herfindahl-Hirschman index (HHI) has been included in the analysis. The study shows that
ATM technology, personal lending and loan quality are among the main microeconomic factors
driving the performance in non-interest income in the commercial banking sector. Regarding the
macroeconomic environment, interest rate and foreign exchange rate volatility were the key
factors which explained the performance in non-interest income. The study also found that
stronger performance in non-interest income not only leads to increased profitability but also
increased variability in performance. Also the finding for large banks shows that lower earnings
on investments lead to increases in service charges from loans and may reflect more aggressive
loans expansion by these increase institutions to increase fee income.

18
Teimet et al., (2011) made an attempt to study income source diversification and financial
performance of commercial banks in Kenya. The main objective of the study was to find the
relationship between income source diversification and the performance of bank. The study used
secondary data and longitudinal approach to study the 5 years trends of income source
diversification. Diversification and focus were analyzed using HHI. The findings of the study
were ROA and ROE shows weak positive linear relationship with the ratios of earnings before
interest and tax to Asset and Equity respectively. Findings from the results of regression indicate
that all financial performance measures (NOI, EBIT, ROA, and ROE) reveal positively linear
relationship with diversification level, implying they increase with increase in diversification
level. ROA and ROE shows weak positive linear relationship and the model reveal HHI accounts
for little variance in ROA and ROE since ROA and ROE are ratios of EBIT to Asset and Equity
respectively.
Yang and Wu (2011) made an effort to test how non-interest income affects U.S. commercial
banks profitability for recent decade. The main objective of this research is to find out the
relationship between the banks Non-Interest Income and their profitability. The study uses
regression method to conduct an empirical estimation for the empirical data from Wharton
Research Data Services (WRDS). The data covers all the US Bank holding companies that had
reported to the Bank Regulatory from the year 2000 to 2010. The study uses two time segments
to conduct regression and analysis: one is year 2000 to 2006 (pre-crisis period), another period is
from year 2007 to 2010, the recent data. The study shows that, for asset value larger than one
billion, the traditional banking business (borrowing and lending) is not supporting the banks
profitability if the bank use ROA and ROE as the measurement. On the other hand no matter
what size the bank is, Non-Interest Income would always support the ROA and ROE of a bank
before and after financial crisis. The major finding of the study was that in the U.S. commercial
banking system, non-interest income contributes to as much as over 40% of net operating
income, compared to only 20% in 1980, which demonstrates non-interest income is playing a
very important role. The results show that banks with higher non-interest income normally have
stronger power of profitability. It also indicates that the impact of non-interest income on bank
performance can be different, depending on how performance is measured.

19
Karakaya and Er (2012) made an effort to study determinants of bank profitability and the
relation between noninterest (nonprofit) income and bank performance for an emerging market,
Turkey using 6 years data between 2005-2010 of the banks using cross sectional, time series and
panel data adopting random effects model and fixed effects models. The study comprises of 30
banks, 26 of which are commercial banks and 4 participation banks whose uninterrupted data
were available for the analysis period. The results indicate that banks and participation banks
which have adequate capital and which are large in size gain higher profits from their assets and
Noninterest (nonprofit) income margin increases equity capital profitability of banks. The study
shows that noninterest income which is the main revenue factor of commercial banks and
nonprofit income which is the main revenue factor of participation banks have effect on equity
capital profitability.
Erji et al., (2012) made an effort to investigate the effect of non-interest income, which includes
commission earned, trustee fee, and exchange gains on mean and variation of bank profits in
Taiwans banking industry. The study selected all available Taiwan commercial banks on an
annual basis from 1992 to 2009. Stirohs method was employed to estimate the diversification
effect of non-interest income instead of DEA method. The study analyzed the aggregate
volatility and cyclicality and then the cross-sectional correlation and bank-specific correlation
and set up an econometric model to analyze the impact on bank risk and return from increasing
non-interest income. At the aggregate level, Taiwan banking industry shows that non-interest
income appears much more volatile than net interest income, especially after 2002. At the bank
level, this study explores how there are diversification benefits from increasing non-interest
income, but not in large banks. There is positive significance to explain how diversification
benefits will decline as non-interest income enlarges. By analyzing the econometric model, the
continued expansion in the component of non-interest income will lower risk-adjusted returns.
From these overall results, the study concludes that inflation, along with nontraditional activities,
may not have diversification benefits in Taiwans banking industry. The study shows that
increasing non-interest income shares will not improve profitability and diminish risk.
Nguyen (2012) made an effort to examine the determinant of bank net interest margin (NIM) and
non-traditional banking activities (NII). A system estimation approach was employed to control
for the simultaneity between NIM and NII for commercial banks in a group of 28 financially

20
liberalized countries during the period between 1997 and 2004. Researcher found a statistically
significant negative relationship between NIM and NII for the period between 1997 and 2002. A
generally positive but statistically insignificant association between NIM and NII was found for
the subsequent period (20032004). Banks increasing involvement in non-traditional activities
was negatively correlated with risk-adjusted profitability measures in the former sub period,
suggesting no obvious diversification benefits. However, the share of noninterest income was
positively related to the return on assets (ROA) and the return on equity (ROE) for the latter
subsample.
Karanja (2012) made an effort to examine the relationship between non interest income and
financial performance of commercial Banks in Kenya. The study used a descriptive research
design of 43 commercial bank and one mortgage finance bank for the period of five (5) years
from 2007 to 2011 both years inclusive. The study used secondary data to investigate the
relationship between independent and dependent variables. The data was analyzed using
descriptive analysis, correlation analysis and regression analysis. This study used multiple linear
regression technique in data analysis. The major finding was that the banks with higher noninterest income shares tend to exhibit contemporaneously higher ROA and equity-asset ratios.
Non-interest income expansion of commercial banks raises profit variability. While more
profitable banks tend to exhibit higher non-interest income ratios, banks with higher non-interest
income ratios do not necessarily show subsequently higher profitability. The study found a
positive significant relationship between noninterest income and financial performance of
commercial banks in Kenya. The data analysis confirms a non-linear relation between the non
interest income and financial performance.
Kiweu (2012) made an effort to investigate whether diversification of income sources for
Kenyan banks leads to better earnings and reduced individual bank and systemic risks. The main
objective of the study was to analyze the extent to which observed shift toward fees income
generating activities has improved bank performance and reduced volatility of revenue. The
study employs panel data on Kenyan commercial banks covering the years 2000 2012. To
measure income diversification, the Herfindahl Hirschmann Index (HHI) was computed for all
banks to account for diversification between the two major types of income generating activities
i.e. interest and non-interest income. The major contribution of the study was that established

21
bigger banks are more diversified than small banks and tend to have higher returns. Findings
were clear that non-interest income is much more volatile than interest income as observed over
the sample period. Given increase in fee based income, Kenyan banks can expect increased
volatility in bank earnings and less benefits from income diversification. The findings also
revealed that lending rates were significantly correlated with net interest income.
Crouzille, Tacneng and Tarazi (2013) made an attempt to examine the impact of bank revenue
diversification on the performance of banks in an emerging economy. The study used two-way
fixed-effects panel regressions for the sample of 39 commercial banks (23 domestic and 16
foreign banks), in the Philippines from 1999 to 2005. The study also used the appropriateness of
estimation method using the Hausman test to check whether a fixed effects model is more
appropriate than a random effects model. The study found that most of the non-interest income
was drawn from trading activities (45.30%) compared to fee-based activities (38%).Trading in
government securities and foreign exchange profit were the largest source of trading income
(30.60% and 51.50%), while service charges dominated the fee-based income sources (61.40%).
Larger banks presented a higher level of non-interest income in total operating income (38.16 %
for large banks and 39% for medium-sized banks) than small banks (32.22%). Foreign exchange
profit and trading of government securities are the two main sources of trading income for all
types of banks. The major contribution of the study was that Philippine banks have a different
non-interest income structure. For an average Philippine bank, the share of trading activities in
non-interest income is relatively higher compared with an average U.S. bank. Whereas most of
the fee-based income is obtained from traditional bank intermediation activities, trading income
is nontraditional as its growth is less correlated with net interest income growth. From a standard
portfolio approach, the study indicates that there might be higher diversification benefits from
shifts towards trading income activities rather than shifts towards fee-based income activities.
Moussu and Arthur (2013) made a study on return on equity (ROE) as a central measure of
performance in the banking industry with a sample of 273 banks from 28 countries. The main
objective was to determine the relationship between ROE, risk and non-interest income. The
study used simple OLS model, where the dependent variable is the buy-and-hold return in the
crisis and the main independent variable is the ROE of the banks before the crisis and control
variables as bank capital measures, additional funding structure variables and the share of non-

22
interest income activities in the banks operating income. The study has focused on the
importance of non-traditional activities using the ratio of non-interest income to total operating
income. Non-interest income includes net fee income, net commission income and net trading
income. The nature of the activities has been proven to have a significant impact on bank risk.
The statistics for the non-interest income are comparable to those for deposits. The average share
of non-interest income was around 38.7% but the standard deviation is rather high (22.7%),
revealing again substantial heterogeneity in the nature of activities across banks. It was
concluded that ROE was not only the main measure of bank performance from a risk
management perspective, ROE could be a good performance measure if the measurement and
disclosure of risks led to a perfect adjustment of the level of bank equity.
Kohler (2013) made an effort to analyze the impact of banks non-interest income share on risk
in the German banking sector for the period between 2002 and 2010 using panel data adopting
regression model for descriptive analysis. The study used 461 savings banks (4,026
observations), 1,291 cooperative banks (11,132) and 192 other banks (1,602) for sample. The
study used linear and quantile regression estimators for analyzing data. The study found that
banks with a more traditional, retail-oriented business model such as savings banks, cooperative
banks and other retail-oriented banks become significantly more stable if they increase their
share of non-interest income, while investment-oriented banks become significantly less stable.
The study also found that the impact of non-interest income on risk depends on the business
model of a bank. Overall, the study indicates that retail-oriented banks should increase their
share of non-interest income to become more stable. Investment-oriented banks, in contrast,
should decrease it. The result of the study imply that banks are significantly less risky if they
have a more balanced income structure and neither depend heavily on interest nor on non-interest
income. Also the study shows that decomposition of non-interest income into fee and
commission and trading income shows that impact on bank stability comes from fee and
commission income.
Ongore and Kusa (2013) made an effort to study on the determinants of financial performance of
commercial banks in Kenya. They have conducted the study of 37 commercial banks. The main
objective of this study was to find the relationship between the dependent (ROA, ROE, NIM)
and explanatory (bank specific and macroeconomic) variables. The main finding of the study

23
was that there is no significant effect of the of bank specific factors on the financial performance
(dependent variables) of commercial banks. The liquidity variable as one of the bank specific
factor, which is positively related with bank performance, has no significant effect on the
financial performance of commercial banks in Kenya. A multiple linear regression model and tstatistic were used to determine the relative importance (sensitivity) of each explanatory variable
in affecting the performance of banks. The moderating effect of ownership identity was also
evaluated by using ownership as a dummy variable.
Damankah, Tsede and Amankwaa (2014) made an effort to analyze the factors that are common
with banks that engage in non-interest earning activities in Ghana. The study used a panel dataset
constricted from the income statement and balance sheet of 20 universal commercial banks
operating in Ghana from 2002 through 2011. The study used the income statement components
of fees and commission as well as other income as the measure of bank non-interest income
(NII) and estimated two multiple regression equations to test for and established the significance
of some factors that influence banks engagement in non-interest earning activities. The major
contribution of the study was that interest income (INI), exposure to risk (ExpR), and liquidity
(LIQ) are the main driving factors of banks engagement in non-interest earning activities in
Ghana. Findings also established that smaller banks with lower levels of deposits, banks with
higher anticipated loan losses and high liquidity are mostly engage in non-interest earning
activities. The study also found that the Central Banks Prime rates also affect banking
operations and is positively related to banks engagement in nontraditional activities.
Saunders, Schmid and Walter (2014) made an effort to examine the relationship between the
ratio of non-interest to interest income, bank size, bank performance, and bank risk based on a
sample of 368,006 quarterly observations on 10,341 US banks during the period 2002-2013
using OLS regressions method and descriptive analysis. The study shows that trading income
accounts for approximately 18% of non-interest income across the entire sample of banks, on
average, and is often considered to the most controversial type of non-traditional bank income.
So, the study separately analyzed the ratio of trading income to interest income and found a
positive and significant relationship between trading income to interest income and bank
profitability which holds across all bank size groups and market regimes. The study also found
that banks that generate a higher fraction of their income in non-traditional business have a lower

24
probability of insolvency than banks that focus more heavily on traditional banking activities.
The major finding of the study is that a greater reliance on non-interest income is associated with
higher bank profitability and lower risk at the individual bank level and non-interest income
seems to have bolstered bank-level profitability without adverse effects on individual bank risk.
Lelissa (2014) made an effort to study the determinants of Ethiopian commercial bank
performance considering bank specific and external variables on selected banks profitability for
the 1990-2012 periods. The empirical investigation uses the accounting measure return on assets
(ROA) to represent Banks performance. The study used data from secondary sources for
selected banks in the industry. The study involved both descriptive and econometrics techniques.
The econometrics method used in the study basically involved assessing the impact of selected
internal and external variables on the performance of the banking sector. Basic descriptive
statistics is applied for trend analysis and to identify outliers. The major contribution of the study
was that income diversification should also be focused. The share of income from foreign
operation in the form of service charge was found to be one of key drivers of the performance of
Ethiopian Banks. Hence, the study shows that banks should divert their attention towards
maintaining the proper mix of non-interest bearing assets which can generate fee incomes and
their loan exposures. The focus to introduce fee based services which are less exposed to credit
risk should be one of the areas that Ethiopian banks need to work for in the future if they need to
sustain their profitability performance.
Louzis and Vouldis (2015) made an effort to examine the determinants of interest and noninterest income in the Greek banking system aiming to understand the primary drivers of overall
profitability for Greek banks. The study uses dynamic panel data techniques and a unique data
set, including supervisory data, covering the whole Greek commercial banking system from 2004
to 2011 on an annual basis adopting dealer model and correlation techniques. The major
contribution of the study was that net interest income is primarily affected by the banks market
power, their operating costs and their strategic choice to diversify their income sources by
enhancing non-interest income.. Moreover, interest and non-interest income are found to be
substitutes rather than complements, with non-interest income used as an indirect competition
instrument by efficient banks, instead of competing directly with their peers through prices in
loans and deposits. The major finding of the study was that non-interest income exhibited a

25
higher degree of persistence, thus providing a buffer for adverse external shocks. Further
decomposing non-interest income, e.g. into fees and trading income would be especially relevant
since these sub-components were expected to exhibit different type of behavior and their
underlying determinants may differ. And finally it shows that in the Greek banking system
interest and non-interest income are substitutes rather than complements.
2.2. Research Gap
Much relationship between bank performance and CAMEL has been done before by many
scholars and academicians. There are many researches on the performance of banks by
macroeconomic variables and other internal variables like capital size, size of deposit liabilities,
size and composition of credit portfolio, interest rate policy, labor productivity, and state of
information technology, risk level, management quality, bank size, liquidity ratio, leverage ratio,
stock market index, exchange rate, off-balance sheet items, investment portfolio and monetary
policy and bank policy and management.
To the best in the knowledge of researcher it has been found that the research has been done only
in the foreign commercial banks. The research works done in other countries have not
incorporated the impact of the letter of credit or guarantee commission on performance of
commercial. The previous study covered only two to three variables at a time while this study
covers maximum variables under non-interest income which affect performance of commercial
banks in Nepal. As far as the knowledge of researcher, the study on non-interest income to the
performance of commercial bank was mostly done in foreign banks so covering the gap of
previous studies this research attempts to examine the relationship between selected bank
variables (non-interest income factors) which are profit/(loss) on sale of assets, dividend income,
letter of credit, remittance fee, guarantee commission, exchange income, service charge and
renewal fee and profitability of Nepalese commercial banks (i.e. ROA and ROE). The
performance based on non-interest income (selected variables) in context of Nepalese
commercial bank will be helpful for further researchers.

26
2.3. Theoretical Framework
The theoretical framework is developed so that it serves as a foundation on which the entire
research is based. The possible systematic diagram based on conceptual framework is as follows.
This is a self-made model based on the assumptions that all selected variables have impact on the
performance of Banks. The research is based on the study conducted by Ngendo Karanja.
Karanja (2012) used regression model to analyze the relationship between non-interest income
and financial performance of commercial banks in Kenya. The study used independent variables
Fees and Commissions Income on Loans & Advances, Foreign Exchange Trading Income, Dividend
Income and Deposit and Transaction Fees and Other Account Fees and dependent variable as ROA.
The F statistic was significant suggesting that the model was fit to explain the relationship. The study
concluded that noninterest income had partial significant positive impact on financial performance.
The study recommends that in order for the financial performance of commercial bank to improve,
the management should not highly depend on non-interest income but diversify to other income
generating activities.

27
Independent Variables

Dependent Variables

Profit on sale of Assets

Dividend Income

Letter of Credit

Return on Assets
(ROA)

Guarantee Commission

Return on Equity
(ROE)
Remittance Fee

Financial
Performance
(Profitability)
(FP)

Exchange Income

Service Charge

Renewal Fee

Figure 2.1: Conceptual Framework

28

Defining Variables
Return on Asset (ROA)
Return is expressed as net profit after tax and bonus and it is retrieved from profit and loss
account of annual report of Nepalese commercial banks. While total assets is collected from
balance sheet of annual banks of Nepalese commercial banks.
Mathematically, the study used ROA is expressed as:
ROE= Net Profit / Total Assets
Return on Equity (ROE)
Return is expressed as net profit after tax and bonus and it is retrieved from profit and loss
account of annual report of Nepalese commercial banks. While equity is collected from
statement of changes in equity form in annual report.
Mathematically, the study used ROE is expressed as:
ROE= Net Profit / Total Equity
Profit/ (Loss) on Sale of Assets
Profit/ Loss Sale of Assets of commercial bank is defined as the profit or loss of land and
building and assets owned by commercial bank. The profit is earned when the market price is
greater than the cost price owned and loss vice versa. A gain resulting from selling an asset at a
price higher than the original purchase price.
Dividend Income
Dividend Income is earned from the dividend paid by company listed in Nepalese Market.
According to Nepal Rastra Bank Directives, commercial bank can invest in insurance companies,
micro finance companies, hydropower companies, private limited up to 25% of the core capital.
Distribution of earnings to shareholders that may be in the form of cash, stock, or property.

29
Letter of Credit
A letter from a bank guaranteeing that a buyer's payment to a seller will be received on time and
for the correct amount. In the event that the buyer is unable to make payment on the purchase,
the bank will be required to cover the full or remaining amount of the purchase.
It comprises of compensating the advising bank for authenticating the L/C. sending the L/C to
the beneficiary logging the L/C into the banks liability system. It includes Telex or
communication charges to buyers bank couriers, postage reimbursement bank charge,
controllable fees and buyers letter of credit.
Guarantee Commission
Banks guarantees are written obligations of the issuing bank to pay a sum on to a beneficiary on
behalf of its customers in the event that the customers themselves do not pay the beneficiary.
Through such guarantee letters, issuing bank undertakes responsibilities to provide fund
(guarantee amount), following a default by you of your contractual or other obligations.
Letters of Guarantee can be in the form of Bank Guarantees, Performance Bonds, Bid Bonds,
Shipping Guarantees, Advance Payment Guarantees, Counter Guarantees, Supplier Credit
Guarantees etc.
A guarantee from a lending institution ensuring that the liabilities of a debtor will be met. In
other words, if the debtor fails to settle a debt, the bank will cover it. This is the commission for
the bank on behalf of being guarantee.
Remittance Fee
The cost of remittance transaction includes a fee charged by the sending agent, who is paid by
the sender and a currency conversion fee for delivery of local currency to the beneficiary in
recipient country. In such a transaction, money transfer operators require the beneficiary to pay a
fee to collect remittances. This fee may be charged to account for frequent exchange rate
movements.

30
The commission bank gets on the process of sending money to remove an obligation. This is
most often done through an electronic network, wire transfer or mail. The term also refers to the
amount of money being sent to remove the obligation.
Exchange Income
In finance, an exchange rate (also known as a foreign-exchange rate, forex rate) between two
currencies is the rate at which one currency will be exchanged for another. The commercial bank
earned income through the fluctuation in exchange rate and book up foreign currency.
Service Charge
It is a fee incurred by a company for the expenses associated with its account transactions. The
term service charge covers all charges and fees made by a bank to their customers. In common
parlance, the term often relates to charges in respect of loan and services its rendered. These
charges may take many forms, including:

monthly charges for the provision of an account

charges for specific transactions (other than overdraft limit excesses)/ or service
processing fee.

interest in respect of overdrafts (whether authorized or unauthorized by the bank)

charges for exceeding authorized overdraft limits, or making payments (or attempting to
make payments) where no authorized overdraft exists

Renewal Fee
It comprises of renewal of overdraft account, loan , account renewal , insurance renewal, card
renewal and other services rendered through commercial bank.

31
2.3.1 Specification of the Model
Multiple linear regression attempts to model the relationship of selected bank internal variables
with the profitability.
ROA= 0 + 1PSA + 2DI+ 3LC+ 4GC+ 5RF+ 6EG+ 7SC + 8REF+ e(i)
ROE= 0+1PSA +2DI+3LC+4GC+5RF+6EG+7SC+8REF+ e.(ii)
Where,

ROA: Return on Assets

ROE: Return on Equity

PSI: Profit/Loss on Sale of Assets

DI: Dividend Income

LC: Letter of Credit

GC: Guarantee Commission

RF: Remittance fee

EI: Exchange Income

SC: Service Charge

REF: Renewal Fee


Where,

1.. 8: Coefficient of selected bank variables with ROA


0: Regression Constant with ROA
1.. 1: Coefficient of selected bank variables with ROE
0: Regression Constant with ROE
e: Stochastic Term

32

CHAPTER THREE
RESEARCH METHODOLOGY
Research Methodology is a way to systematically solve the researchers problem. It facilitates
the researchers work and provides reliability and validity. Kothari (1988) defined research as a
scientific systematic research for pertinent information on a specific topic. In this chapter, the
research design, data collection procedure and procedure concerning analysis of data are
described thoroughly. Analysis is conducted by using appropriate financial and statistical tools
and findings are presented in a systematic way.
3.1. Research Design and Plan
Research Design is a plan, structure and strategy of investigation. It is a blue print for the
collection, measurement and analysis of data. A research design is the arrangement of conditions
and analysis of data in a manner that aims to combine relevance to the research purpose with
economy in procedure. It is the overall operational pattern of framework for the project that
stipulates what information is to be collected from which source and by what procedures.
The study is based on both primary and secondary data. This study focuses on understanding the
non-interest income factors that affects banks performance of Nepalese banks. This study
mainly concerned with historical research. Descriptive and analytical approaches are used to
show the outcome of the study. But generally, to show the variables affecting banks
performance, past historical data are used. The relevant and needed data has been collected from
various publications of different commercial banks and Nepal Rasta Bank.
The study investigates the relationship of selected bank variables on performance of commercial
banks. Many of the researchers in various countries have found the significant relationship
between non-interest income and profitability of commercial banks. These studies were concern
multifactor model to explain the factor of variation on performance. This study will follow a
multifactor model in finding the relationship of selected variables with ROA and ROE.

33
3.2 Population and Sample Size
The term population or universe for research means the universe of research study in which
the research is based. There are 30 commercial banks operating in the country. The population of
the primary data for this research is each and every class A commercial banks operating in the
country.
For the secondary data analysis whole population is not considered due to data unavailability and
merger and acquisition in banks. As per the requirement of the study, only those banks are taken
whose data are available for 5 years. The total population of the banks has been categorized in
terms of availability of data. So out of 30 commercial banks, 24 have been taken as the sample
size for this study.
Table 3.1 List of Selected Commercial Banks
S.N.

Name of Banks

Years

No of Observations

Covered
1.

Standard Chartered Bank Nepal

2010-2014

2.

Sanima Bank

2010-2014

3.

Laxmi Bank

2010-2014

4.

Nabil Bank

2010-2014

5.

SBI Bank

2010-2014

6.

Bank of Kathmandu

2010-2014

7.

Nepal Bank

2010-2014

8.

Everest Bank

2010-2014

9.

Nepal Investment Bank

2010-2014

10.

Himalayan Bank

2010-2014

34
11.

Kumari Bank

2010-2014

12.

NMB Bank

2010-2014

13.

Sunrise Bank

2010-2014

14.

Siddhartha Bank

2010-2014

15.

Citizen Bank

2010-2014

16.

Lumbini Bank

2010-2014

17.

Janata Bank

2010-2014

18.

Agricultural Development Bank

2010-2014

19.

Nepal Bangladesh Bank

2010-2014

20.

Prime Bank

2010-2014

21.

Nepal Credit and Commerce Bank

2010-2014

22.

Machhapuchhre Bank

2010-2014

23.

Grand Bank

2010-2014

24.

Rastriya Banijya Bank

2010-2014

For collection of primary data, questionnaire has been distributed to the managers and officers of
all the sampled commercial banks located inside the Kathmandu valley. 90 samples were
collected. Sampling was done on the basis of convenience and judgmental sampling.
Convenience sampling was used, as it would be difficult and inconvenience to visit all bank
located outside valley in a given specified time frame and judgmental sampling involved
collecting information from those members of the population who were in the best position to
provide the information.

35
3.3. Instrumentation of Data
The study focuses on both qualitative and quantitative aspect. In order to collect the primary
data, structured questionnaire is used whereas for secondary data, an audited financial statement
of the sampled banks is used. The software that has been used to input the primary and secondary
data is SPSS version 16.0.
For the analysis of the qualitative aspect, primary data were collected from the respondent of
different banks. This has been broken down into two phase.
The questionnaire is composed of instruction on how to answer the question and the statements
in the questionnaire paper. Coding system has been used for likert scale questions. To gather
data, the questionnaire was designed in a structure format that included:

Single-choice response question

Multiple-choice response question

Ranking scale

Likert scale

For the analysis of the quantitative data, financial data of the sampled banks from annual reports
were taken from websites of sampled banks and visit to bank whose data are unavailable in
websites. The tools that are used for interpretation of quantitative data are pearsons correlation
coefficient, multiple regression analysis, significance 2 tailed, variable inflation factor,
percentage analysis and trend analysis.
3.4. Data Collection Procedure
3.4.1. Primary Data
A questionnaire consisting of 9 set of question relating to non-interest income variables
affecting banks profitability has been used. The structured questionnaire is presented in
Annexure 1. Out of 125 distributed questionnaires, 90 questionnaires were collected on time. The
questionnaires were given to the banks managers/ officers on hard copy format.

36
3.4.2. Secondary Data
For secondary sources, the required information such as Profit and Loss Account, Balance Sheet,
Dividend Income, Profit/ Loss on Sale of Assets, Letter of Credit, Guarantee Commission,
Remittance Commission, Exchange Income, Service Charge, Renewal Fee were collected from
various sources which include:

Annual Reports

NRB- Banking and Financial Statistics

3.5. Reliability and Validity of Data


Validity and Reliability are the two crucial factors that play a vital role throughout the study i.e.
since designing of the study till examining the study. Validity is checked for both the primary
and secondary.
For valid and reliable primary data, the questionnaire was designed by taking expert opinions.
Further, to minimize the errors generated from the non-response of the questionnaire, cross
check was done and respondents were given clear instruction to fill the questionnaire in correct
manner. Further the reliability of primary data is checked by Cronbachs Alpha. In this research
the Cronbachs Alpha records 0.932 which is greater than 0.7, thus the data taken into
considerations for the study are reliable.
For the secondary data analysis, multi co-linearity and correlation had been carried out along
with cross checking of data in order to check the reliability and validity of data. Variance
Inflation Factor (VIF) were checked in the selected variables and found to be in the model range
1.05 to 2.78 which suggests that there is no multi-collinearity in the data. Since all data used for
the study are based on audited annual reports and NRB statistics, the analysis is considered as a
valid for the study purpose.
The reliability of a measure indicated the stability and consistency with which the instrument is
measuring the concept and helps to access the goodness of a measure.

37
3.6. Analysis and Plan: Method of Data Analysis
The main purpose of the study is to know the impact of non-interest income on the profitability
of commercial banks. Various statistical and econometric models are used in order to analyse
primary and secondary data. Under this study, data analysis is performed as per the nature of data
and its availability.
3.6.1. Primary Data Analysis
The primary data questionnaire comprises of single response questions, multiple response
questions, ranking question and likert scale questions. The questionnaire also included some
variables/factors that may have direct impact on banks performance, which are not included in
secondary analysis.
Once the data were gathered, they were entered in SPSS software. The analysis such as
descriptive analysis, one sample statistics, and frequency analysis were obtained from these data.
The output drawn from the SPSS were firstly copied to MS-Excel for the effective presentation
and later they were inserted into the report.
3.6.2. Secondary Data Analysis
Data are analyzed through descriptive statistics, correlation matrix and econometric model.
Mean, Minimum, Maximum, Standard Error, Standard Deviation, Skewness and Kurtosis are
used as descriptive statistics to describe and summarize the data. Percentage analysis is used to
analyze the changes in commercial bank performance on the basis of selected internal variables.
Variance analysis is used in factorial design to minimize replication and combined groups when
effects are found to be statistically or practically significant. Similarly, Correlation matrix is used
to find the correlation between the independent and dependent variables. Lastly, multivariate
regression analyses are used on the two econometric models.

38

CHAPTER FOUR
RESULTS AND DISCUSSION
This chapter includes the presentation and analysis of the data for the achievement of the
objectives of the research. The purpose of this section is to provide the empirical results of
relationship between selected bank internal variables and profitability measured by return on
assets and return on equity. Chapter has been divided into two sections. The first section covers
descriptive and inferential analysis of the secondary data and the second section covers the
descriptive and inferential analysis of the primary data.
The secondary data analysis consists of: (i) Descriptive statistics, (ii) Trend Analysis (iii)
Percentage Analysis of Dependent Variables (iv) Percentage Analysis of Commercial banks
selected bank internal variables (iv) Correlation analysis (v) Regression Analysis and (vi)
Variance Analysis
The Primary data analysis consists of (i) Descriptive statistics and (ii) One sample t-test
statistics.
4.1. Secondary Data Analysis
4.1.1. Descriptive Statistics
The study used mean, minimum, maximum, standard deviation, standard error, skewness and
kurtosis to analyze the data.

39
Table 4.1: Descriptive Analysis
N

Minimum

Maximum

Mean

Std.
Deviation

Skewness

Varibales

Statistic

Statistic

Statistic

Statistic

Statistic

Statistic

Std. Error

Statistic

Profit/(Loss) on Sale of
Assets

119

-13431.7

546667.2

11465.25

54770.04

8.473677

0.221782

79.69042

Dividend Income

119

-2074.29

154051.1

5838.771

18873.46

5.767672

0.221782

37.41964

Letter of Credit

119

107843

19886.47

19913.57

2.091405

0.221782

5.148326

Guarantee Commission

119

149.63

233974.4

35793.07

37806.54

2.289559

0.221782

7.216432

Remittance Fee

119

10.61

170827.4

27117.8

32521.94

1.674475

0.221782

3.017153

Exchange Income

119

-73908

529995.6

99784.78

133952.8

1.834575

0.221782

2.589829

Service Charge

119

412068.2

61946.08

65196.49

3.312893

0.221782

14.2303

Renewal Fee

119

38995.7

3719.066

6205.581

2.487975

0.221782

9.021179

Return on Assets

119

8.15

1.670084

1.078576

2.23621

0.221782

10.26659

Return on Equity

113

-361.36

102.96

13.07168

38.72202

-8.07944

0.227447

79.67355

Kurtosis

Table 4.1 represents the summary statistics of the variables under the study. The average yearly
index of ROA and ROE 1.67 and 13.07 during the study period (2010-2014) records a standard
deviation 1.078 and 38.722 respectively implying a medium volatility in commercial banks. The
mean of profit/loss on sale of assets records 11465.25(in 000s), dividend income 5838.77(in
000s) and renewal fee 3719.06(in 000s). The result reveals that most of the high concentration
on mean of commercial banks is on letter of credit, guarantee commission, remittance fee,
exchange income and service charge.
Skewness and Kurtosis are both numeric measures for normality test that are used to determine
whether a data set is modeled for normal distribution or not. If either of these values is not close
to zero, then our data set is not normally distributed.
Positive value on skewness tests for ROA, profit/(loss) on sale of assets, dividend income, letter
of credit, guarantee commission, remittance fee, exchange income, service charge and renewal
fee suggest that these variables have long right tails, while negative value of the skewness tests
for ROE had extreme values during the study period which suggest that these variables have long

40
left tails. It indicates a deviation from normal distribution of the data and volatility in that
parameter.
Given that Kurtosis value for exchange income 2.58 are less than three, the distribution of these
variables exhibit non-normality. The kurtosis value of roa, roe, profit/ loss on assets, dividend
income, letter of credit, guarantee commission, remittance fee, service charge and renewal fee
are more than three, the distribution of these variables exhibit normality. The kurtosis values of
all variable indicated platykurtic distribution flatter than a normal distribution with a wider peak.
The probability for extreme value is less than for normal distributions and values are wider
spread around the mean.
Table 4.2: Summary of Trend Analysis of Selected Bank Internal Variables
Variables
Return of Assets
Return of Equity
Profit on Sale of Asset
Dividend Income
Letter of Credit
Guarantee Commission
Remittance Commission
Exchange Income
Service Charge
Renewal Fee

Year (Highest)
2010
2010
2014
2014
2014
2014
2014
2014
2014
2014

Value
2.0454
17.23
23327
11182
27374
52122
31094
133353
91693
5476.9

Year (Lowest) Value


2012
2013
2013
2013
2010
2010
2011
2011
2011
2010

1.4608
4.93
4597.5
2141
15024
23158
22950
70451
45003
2214.1

Table 4.2 shows the year selected bank internal variables perform high and low. Among the
taken 5 years of period from 2010-2014, it is seen that there is remarkable improvement and high
earning of selected variables in the year 2014. The highest earning from PSA, DI, LC, GC, RF,
EI, SC and REF is in year 2014. The ROE and ROA was highest in the year 2010.

41
The following table 4.3 deals with the percentage analysis on the attribution as follows.
Table 4.3: Summary of Percentage Analysis of Commercial Banks
Variables

Highest

Lowest

Return on Assets

Nabil, ADBL and NB

Nepal Bank, MBL and Grand

Return on Equity

SCBN, EBL, and Nabil

Janata, Grand and Nepal Bank

Profit(Loss) on Sale of Assets

NCC, Nepal Bank and MBL

Citizen, Nabil and BOK


NB, Citizen and Sunrise

Letter of Credit

Himalayan, Nepal Bank and


RBB
BOK, Sunrise and MBL

Guarantee Commission

SBI, NCC and MBL

NMB, RBB and Sanima


NMB, NCC and Citizen

Exchange Income

Siddhartha, MBL and Nepal


Bank
Sunrise, SCBN and MBL

Service Charge

Citizen, Sunrise and MBL

NB, NMB and NIBL

Renewal Fee

Nepal Bank, Citizen and MBL

NB, NMB and NCC

Dividend Income

Remittance Fee

NB, ADBL and RBB

RBB, ADBL and NMB

Table 4.3 shows Machhapuchhre bank has earned high from non-interest income during the
research period. Looking at the result of Machhapuchhre bank, PSA, LC, GC, EI, SC and REF
seems to be higher than other banks. Nepal Bank earned highest from remittance fee among all
other banks, and Rastriya Banijya bank earned highest from dividend income in the study period.
It is seen that NB bank earns lowest from REF, SC, DI, LC whereas NMB earns lowest from RF
and GC compared to other banks in the study period. From the study it is seen that Citizen, Nabil
and BOK incurred loss from sale of assets in the study period. Also from the table it can be seen
that NB bank has highest ROA and Grand Bank has lowest ROA. Likewise, Nabil bank has
highest ROE and Nepal bank has lowest ROE.

42
4.1.2. Variance Inflation Factor
Before we analyze the data we should detect if there is any multi-collinearity among the variable
chosen. The variance inflation is performed to support the validity of the regression results In
case of VIF, if the results are below the 10, suggest no multi-collinearity (Gujarati, 2004).
Table 4.4: Variance Inflation Factor
Variables

VIF

Profit/(Loss) on Sale of Assets

1.05

Dividend Income

1.81

Letter of Credit

2.78

Guarantee Commission

1.65

Remittance Fee

2.01

Exchange Income

2.67

Service Charge

1.25

Renewal Fee

1.70

The result reveals that VIF is reasonably good. The values of variance inflation factor for the
variables are in the model range 1.05 to 2.78 for variables profit/(loss) on sale of assets, dividend
income, letter of credit, guarantee commission, remittance fee, exchange income, service charge
and renewal fee.

43
4.1.3. Correlation Analysis
Table 4.5: Correlation Matrix of selected bank variable with ROA and ROE
Correlations
ROA
Pearson
ROA

Correlation

Pearson
ROE

Correlation
Sig. (2-tailed)
N
Pearson

PSA

Correlation
Sig. (2-tailed)
N
Pearson

DI

Correlation
Sig. (2-tailed)
N
Pearson

LC

Correlation
Sig. (2-tailed)
N
Pearson

GC

Correlation
Sig. (2-tailed)
N
Pearson

RF

Correlation
Sig. (2-tailed)
N
Pearson

EI

Correlation
Sig. (2-tailed)
N
Pearson

SC

Correlation
Sig. (2-tailed)
N
Pearson

REF

Correlation
Sig. (2-tailed)
N

PSA

0.07

LC
0.22

GC
0.46

RF
0.18

EG
0.28

SC
0.23

REF

0.21
0.02

0.17

0.45

0.02

0.00

0.05

0.00

0.01

0.37

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.21

1.00

-0.11

0.03

0.17

0.16

0.08

0.15

0.03

0.06

0.22

0.75

0.06

0.08

0.37

0.11

0.78

0.52

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

-0.13

-0.11

1.00

0.00

-0.07

-0.05

0.03

-0.06

-0.01

0.13

0.17

0.22

1.00

0.48

0.59

0.77

0.49

0.92

0.17

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.07

0.03

0.00

1.00

0.02

0.02

0.60

0.08

0.03

0.23

0.45

0.75

1.00

0.81

0.86

0.00

0.38

0.72

0.01

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.22

0.17

-0.07

0.02

1.00

0.40

0.32

0.70

-0.03

0.43

0.02

0.06

0.48

0.81

0.00

0.00

0.00

0.73

0.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.46

0.16

-0.05

0.02

0.40

1.00

0.19

0.43

0.37

0.31

0.02

-0.13

DI

1.00

Sig. (2-tailed)
N

ROE

0.08

0.00

0.08

0.59

0.86

0.00

0.03

0.00

0.00

0.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.18

0.08

0.03

0.60

0.32

0.19

1.00

0.41

0.10

0.19

0.05

0.37

0.77

0.00

0.00

0.03

0.00

0.26

0.04

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.28

0.15

-0.06

0.08

0.70

0.43

0.41

1.00

0.02

0.08

0.00

0.11

0.49

0.38

0.00

0.00

0.00

0.87

0.36

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.23

0.03

-0.01

0.03

-0.03

0.37

0.10

0.02

1.00

-0.04

0.01

0.78

0.92

0.72

0.73

0.00

0.26

0.87

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.08

0.06

0.13

0.23

0.43

0.31

0.19

0.08

-0.04

1.00

0.37

0.52

0.17

0.01

0.00

0.00

0.04

0.36

0.68

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

119.00

0.68

119.00

44
Table 4.5 represents the result of correlation test. Estimated correlation coefficient should be
tested to determine whether theres a significant relationship between the dependent variables
and independent variables or not. Significant tests allow us to assess whether apparent
relationship between random variables are the result of chance. If we decide that the relationship
do not result from chance, we will be inclined to use this information in prediction because a
good prediction of one variable will help us to predict other variable.
If the corresponding value is higher than the level of significant we do not reject the null
hypothesis and infer that theres no significant relationship between the dependent variable and
the independent variable.
Data Analysis and Discussions:
The variables that were taken to measure the profitability of commercial banks were Return on
Assets (ROA) and Return on Equity (ROE). Thus, in this section the study will discuss the
inferential analysis about the relationship of profitability and selected bank internal variables.
Relationship between Return on Assets and Profit/ (Loss) on Sale on Assets
The result reveals that the corresponding p-value of profit/(loss) on sale on assets -0.13 means
there is a weak relationship among the variables implying that changes in one variable are not
correlated with changes in the second variable. As of negative sign, it concludes that as one
variable increase in value, the second variable decrease in value.
The sig.(2-tailed) value record 0.17 is more than the significance level 0.05 concluding that there
is no statistically significant correlation between return on assets and profit/loss on sale of assets.
This means, increase or decrease in one variable do not significantly relate to increase or
decrease in second variable.
Relationship between Return on Assets and Dividend Income
The result reveals that the corresponding p-value of dividend income 0.069 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.

45
The sig.(2-tailed) value record 0.454 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on assets and Dividend income.
This means, increase or decrease in one variable do not significantly relate to increase or
decrease in second variable.
Relationship between Return on Assets and Letter of Credit
The result reveals that the corresponding p-value of letter of credit 0.21 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.
The sig.(2-tailed) value record 0.01 is less than the significance level 0.05 concluding that there
is a statistically significant correlation between return on assets and letter of credit. This means,
increase or decrease in one variable do significantly relate to increase or decrease in second
variable.
Relationship between Return on Assets and Guarantee Commission
The result reveals that the corresponding p-value of guarantee commission 0.46 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.
The sig.(2-tailed) value record 0.00008 is less that the significance level 0.05 concluding that
there is a statistically significant correlation between return on assets and guarantee commission.
This means, increase or decrease in one variable do significantly relate to increase or decrease in
second variable.
Relationship between Return on Assets and Exchange Income
The result reveals that the corresponding p-value of exchange income 0.276 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.

46
The sig.(2-tailed) value record 0.002 is less that the significance level 0.05 concluding that there
is a statistically significant correlation between return on assets and Exchange income. This
means, increase or decrease in one variable do significantly relate to increase or decrease in
second variable.
Relationship between Return on Assets and Remittance Fee
The result reveals that the corresponding p-value of remittance fee 0.178 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.
The sig.(2-tailed) value record 0.05 is equal to that of the significance level 0.05 concluding that
there is a statistically significant correlation between return on assets and remittance fee. This
means, increase or decrease in one variable do significantly relate to increase or decrease in
second variable.
Relationship between Return on Assets and Service Charge
The result reveals that the corresponding p-value of service charge 0.234 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.
The sig. (2-tailed) value record 0.01 is less that the significance level 0.05 concluding that there
is a statistically significant correlation between return on assets and service charge. This means,
increase or decrease in one variable do significantly relate to increase or decrease in second
variable.
Relationship between Return on Assets and Renewal Fee
The result reveals that the corresponding p-value of renewal fee 0.08 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.

47
The sig. (2-tailed) value record 0.37 is more that the significance level 0.05 concluding that there
is no statistically significant correlation between return on assets and service charge. This means,
increase or decrease in one variable do not significantly relate to increase or decrease in second
variable.
Relationship between Return on Equity and Profit/Loss on Sale on Assets
The result reveals that the corresponding p-value of profit/(loss) on sale on assets -0.127 means
there is a weak relationship among the variables implying that changes in one variable are not
correlated with changes in the second variable. As of negative sign, it concludes that as one
variable increase in value, the second variable decrease in value.
The sig.(2-tailed) value record 0.178 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on equity and profit/loss on sale of
assets. This means, increase or decrease in one variable do not significantly relate to increase or
decrease in second variable.
Relationship between Return on Equity and Dividend Income
The result reveals that the corresponding p-value of dividend income 0.018 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.
The sig. (2-tailed) value record 0.844 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on equity and Dividend income.
This means, increase or decrease in one variable do not significantly relate to increase or
decrease in second variable.
Relationship between Return on Equity and Letter of Credit
The result reveals that the corresponding p-value of letter of credit 0.15 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.

48
The sig.(2-tailed) value record 0.1066 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on equity and letter of credit. This
means, increase or decrease in one variable do not significantly relate to increase or decrease in
second variable.
Relationship between Return on Equity and Guarantee Commission
The result reveals that the corresponding p-value of guarantee commission 0.14 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.
The sig. (2-tailed) value record 0.12 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on equity and guarantee
commission. This means, increase or decrease in one variable do not significantly relate to
increase or decrease in second variable.
Relationship between Return on Equity and Exchange Income
The result reveals that the corresponding p-value of exchange income 0.133 means there is a
weak relationship among the variables implying that changes in one variable are not correlated
with changes in the second variable. As of positive sign, it concludes that as one variable
increase in value, the second variable also increase in value.
The sig.(2-tailed) value record 0.15 is more than the significance level 0.05 concluding that there
is no statistically significant correlation between return on equity and exchange income. This
means, increase or decrease in one variable do not significantly relate to increase or decrease in
second variable.
Relationship between Return on Equity and Remittance Fee
The result reveals that the corresponding p-value of remittance fee 0.05 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.

49
The sig. (2-tailed) value record 0.54 is more than the significance level 0.05 concluding that
there is no statistically significant correlation between return on equity and remittance fee. This
means, increase or decrease in one variable do not significantly relate to increase or decrease in
second variable.
Relationship between Return on Equity and Service Charge
The result reveals that the corresponding p-value of service charge 0.006 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.
The sig.(2-tailed) value record 0.94 is more than the significance level 0.05 concluding that there
is no statistically significant correlation between return on equity and service charge. This
means, increase or decrease in one variable do not significantly relate to increase or decrease in
second variable.
Relationship between Return on Equity and Renewal Fee
The result reveals that the corresponding p-value of renewal fee 0.06 means there is a weak
relationship among the variables implying that changes in one variable are not correlated with
changes in the second variable. As of positive sign, it concludes that as one variable increase in
value, the second variable also increase in value.
The sig.(2-tailed) value record 0.52 is more than the significance level 0.05 concluding that there
is no statistically significant correlation between return on equity and service charge. This
means, increase or decrease in one variable do not significantly relate to increase or decrease in
second variable.

50
4.1.4. Multivariate Regression Analysis
A. Determinants of ROA
Table 4.6: Multivariate Regression Analysis with Dependent Variable ROA
B

Beta

S.E

Sig

(Constant)

1.1817

0.1690

6.9921

0.0000

Profit/(Loss) on Sale of Assets

-0.09

0.000004

-0.9811

0.3288

Dividend Income

0.01

0.000006

0.0585

0.9535

Letter of Credit

-0.03

0.000008

-0.2360

0.8139

Guarantee Commission

0.39

0.000003

3.5192

0.0006

Remittance Fee

0.09

0.000004

1.6662

0.0034

Exchange Income

0.08

0.000001

1.0155

0.0023

Service Charge

0.07

0.000002

2.5916

0.0013

Renewal Fee

0.02

0.000019

1.7660

0.0480

Adjusted R Square

0.1907

Durbin-Watson

1.8907

R Square

0.2456

Table 4.6 shows that there is significant relationship of ROA with guarantee commission,
remittance fee, exchange income, service charge and renewal fee and there are no significant
relationship with profit/(loss) on sale of assets, dividend income and letter of credit.
The data also shows the summary of regression analysis with moderate explanatory power of
regression model with return on assets. Adjusted R2 has a value of about 0.19 meaning that the
selected bank internal variable explain only 19.07% if changes in return of assets for sampled
commercial banks.
The study used Durbin-Watson test to determine the auto correlation of all variables. The study
confines there is no auto correlation in Nepalese commercial bank and selected bank internal
variables since the value is near to 2.

51
B. Determinants of ROE
Table 4.7: Multivariate Regression Analysis with Dependent variable ROE
B
(Constant)
Profit/(Loss) on Sale of Assets
Dividend Income
Letter of Credit
Guarantee Commission
Remittance Fee
Exchange Income
Service Charge
Renewal Fee
R Square

0.156926

Beta

S.E

Sig

3.4589

6.7100

0.5155

0.6072

-0.0963

0.0001

-1.0111

0.3142

0.0203

0.0003

0.1621

0.8715

0.1169

0.0003

0.7464

0.4570

0.1199

0.0001

1.9913

0.0034

0.0172

0.0002

2.1296

0.0410

0.0031

0.0000

1.0200

0.0021

0.0183

0.0001

2.1765

0.0013

0.0236

0.0008

1.1935

0.0140

Adjusted R Square

0.0902

Durbin-Watson

1.82126

Table 4.7 shows that there is significant relationship of ROE with guarantee commission,
remittance fee, exchange income, service charge and renewal fee and there is no significant
relationship with profit/(loss) on sale of assets, dividend income and letter of credit.
In this regression model summary analysis, the study has excluded two banks from sample
namely Nepal Bank and Grand Bank as they have extreme negative ROE and their adjusted R
square is near to zero. So after excluding the two banks from sample, adjusted R2 value of ROE
excluding two banks is 0.0902 meaning that the selected bank internal variables explain only
9.03 % if changes in return on equity for sampled commercial banks. DW test results that there is
no autocorrelation as its value is near to 2.
The equation goes as follows:
ROA= 1.817 -0.09 PSA + 0.01 DI- 0.03LC+ 0.39 GC+ 0.09RF+ 0.08EI+ 0.07SC+ 0.02REF
ROE= 3.45- 0.0963 PSA +0.020DI+0.11LC+ 0.1199GC+ 0.0172RF+ 0.0031EI+ 0.0183SC+
0.0236REF

52
4.1.6. Discussion of the Results
Profit/ Loss on Sale of Assets
Finding of profit/loss on sale of assets with regard to ROA and ROE seems to have negative
coefficient inferring there is negative relationship between them. In contrast p- value approach
the result seems different in nature. The finding shows that profit/(loss) on assets have
insignificant relation with ROE and ROA.
It seems to be logical since the core activities of commercial bank is not leasing activities of
land, building and other intellectual property. In this regard, researcher enticed that commercial
bank NPA is minimal i.e. below 5% on average in the study period (NRB Banking and Financial
Statistics, Vol.60, 2014). Higher NPA results commercial bank to transfer power of attorney to
institution and sell those assets accommodating the cost price of the investment. Secondly,
selected commercial banks are not engaged in leasing activities of land, building and other
assets. In context of Nepalese economy, investment included in assets are associated with cost of
holding them for tenure; short and long term risk trade off among the assets, market price of
assets, management decision, land and building tax reform, legal rigid process which affect on
purchase, sales and hold of assets in long term yielding minimal profit in commercial banks.
Management plays imperative role in investing in such assets. This decision is influenced by
personality and style of management (Myers & Majluf, 1984), which researcher had not taken in
consideration in study.
In the study period, the market had suffered the real estate bubble burst (spotlightnepal.com, Sept
30. 2015). It is the condition where most of the commercial bank invested in real estate but later
felt like the price on investment is not as worthy as it seems on the market. Due to upsurge in
loan in real estate, the NRB has issued some regulatory directives to banks and financial
institutions to limit the loan flow in real estate (NRB Unified Directives, 2067) which resulted
the bank limit their investment in single sector.
Since the assets in question are the sort that are valued on the balance sheet - namely, fixed
assets and not intangible assets like people or ideas- ROA is not always useful for comparing one
company against another. Some companies are 'lighter', having their value based on things such
as trademarks, brand names and patents, which accounting rules don't recognize as assets. A

53
software maker, for instance, will have far fewer assets on the balance sheet than a car maker. As
a result, the software company's assets will be understated, and its ROA may get a questionable
boost.
Demand and supply theory also works in allocation of real estate price. There are numerous
reasons that affect the price as customers are aware of financial crisis and real estate bubble price
due to technological advancement (media and internet) in Nepal. Thus, the income on sale of
asset is negligible and doesnt have much influence on the overall bank profit volume thus
resulting insignificant relationship on ROE and ROA. Also the dataset reveals that some banks
did not trade in assets within the study period, thus their impact made the results insignificant.
Dividend Income
The result reveals that there is positive coefficient inferring positive relationship between them.
In contrast p-value approach, the result seems different. The study found that there is
insignificant relationship with ROA and ROE.
It seems to be relevant in commercial banks as bank core investment is on loan and other
competitive instruments in the market. There are many variables that play important factor in the
investment in stock market by management of commercial banks. Mainly, it depends on the
psychology of the management which is driven by the market factors, company risk, investment
policy constraint, internal decision and macro-economic variables (Kengatharan

&

Kengatharan,2014). Also, the bank must utilize its investment in loan and treasury market and
other competitive market products to reap the benefit of those investments.
Bank is not necessarily involved in investing in stocks and seeking dividend incomes from other
companies. Banks main business is lending money as loans. Besides that banks also involve in
non-interest income generating transactions. Dividend income is also one of the non interest
incomes generating transaction. But in case of Nepalese banks, dividend income doesnt have
significant relationship with bank performance which shows that Nepalese banks do not consider
investing in other companies for dividend income.
The size of dividend income in commercial banks is very low since commercial banks cannot
invest on stock of other commercial banks as per the prevailing laws of Nepal, hence losing the

54
opportunity to reap dividend income from these banks. As per all FY data, there is more than
70% market share capitalization of financial institution. Whereas, if compared with banks total
assets or equity, the dividend income size is insignificant with no any effect on ROA and ROE.
The dataset also reveals that all banks did not invest in other companys stock within the 5-year
period thus their impact made the results be insignificant.
Letter of Credit
The result found that the coefficient of the letter of credit with ROA is negative and ROE is
positive inferring there is negative and positive relationship among the variables respectively. In
addition, p-value approach shows that there is no significant relationship of letter of credit with
return on asset and return on equity.
The results seem logical as letter of credit is risky in terms of international market and currency
risk. Commercial banks assess the risk in customer profile, international market, exchange rate
risk and environment risk. Since customer have to buy the good and pay the party within the
stipulated times which result bank to assess and evaluate the customer profile and delivery risk
from the third party. Banks lend their creditworthiness to the beneficiaries by issuing LCs to get
commission from the customers for these facilities. These facilities add to risk exposure, so it is
extended to effective/potential parties only.
Also, there is strife in market place among the commercial bank. The rigid process, beneficiary
credibility, importer risk, international payment system, charge fee based on different
commercial bank and service rendered by them would also play in determining the performance
in commercial bank which affects the income from the letter of credit.
Also there are other alternatives to LC in Nepalese commercial banks provides which are
collections, telegraphic transfer, other different products like advance payments/collection,
document against payments (collection) so that there is minimal transaction with LC which in
turn have insignificant impact on ROA and ROE of Nepalese commercial banks.
Since, Nepalese trading house has low trust among the foreign manufacturers resulting them to
make transaction in telegraphic transfer rather than letter of credit. Whereas, we can see some
business house specially the trading involving in LC process and the contribution of these

55
business house on bank profit is again negligible and do not have much impact on overall bank
huge assets and equity resulting the low effect on overall ROA and ROE.
Letter of credit is the matter of trust. And it is done for international business dealings. Most of
the Nepalese banks are small in size and lack reputation and trust in international market. So
issuance of LC is not the major source of income for them. As from the data extracted from
annual reports of commercial banks, it is seen that only few banks in Nepal are involved in major
LC transactions. Due to these factors LC does not impact the performance of Nepalese
commercial banks.
Guarantee Commission
The study found that coefficient of guarantee commission with ROA and ROE is positive
inferring that there is a positive relationship among the variables. More ever, p- value approach
shows that there is significant relationship of guarantee commission with return on asset and
return on equity.
As from the trend analysis we can see that the guarantee commission is increasing every year in
the study period. Also it is seen that annual foreign trade is increased in the study period. Though
export is not so significantly increased but import data shows that there is significant increment
every year (NRB Banking and Financial Statistics, Vol 60, 2014), which ultimately needs
guarantee by the outside party and thus the business house of Nepal needs to have bank
guarantee. Guarantee is done in high values which in turn generates higher commission. Bigger
companies needs to have bank guarantee to do business for their security purposes so increasing
the bank guarantee increases the profit and positively impacts on ROA and ROE. Also there is
increment of remittance every year (NRB Economic Bulletin, Vol 49, 2014) which creates more
consumption and thus to fulfill the higher consumption there are more business transaction
which needs more bank guarantee and thus the bank earns good profit from the guarantee
commission and have significant impact on ROA and ROE of commercial banks.
The finding seems to contextual in the Nepalese market as in the study period, Nepal Tourism
Year 2011, Nepal Investment Year 2012-13 and opening of special industry zone as per the
budget plan was implemented. In the study period major infrastructural works were carried out
which ultimately needed to have bank guarantee. Many hydropower companies like Upper

56
Tamakoshi, Sanjhen, Rahughat were in work (Thanju, 2013) and other major telecommunication
projects like Huawei, ZTE were started in Nepal in the study period. Also due to high imports,
there was more business house making banking guarantee to import goods. Bank Guarantee is a
common way of bank lending. From this banks are definitely having impacts on the
performance. Either the guarantee defaults or they meet the obligation firms performance will be
directly impacted.
Remittance Fee
The study found that coefficient of remittance fees with return on assets and return on equity is
positive inferring that there is positive relationship among the variables. In contrast, p-value
approach shows that there is significant relationship of remittance fee with return on asset and
return on equity.
There is a trend of increment of remittances income every year in the study period (NRB
Economic Bulletin, Vol 49, 2014). First, the fixed costs of sending remittances make the flows
lumpy, providing households with excess cash for some period of time. This might potentially
increase their demands for banking services and hence foster banking outreach and depth. The
Nepalese economy over the period has been driven by the remittance money since millions of
Nepalese manpower is heading foreign countries as workers, students etc. and the banking sector
are actively involved in between. This provides bank with remittance fee for the service and the
fee which seems noticeable because the frequency of transaction is huge. The bank profit seems
to be directly affected by these remittance fees hence with noticeable impact on overall ROE and
ROA.
Since bank offers households a safe place to store this temporary excess cash. Second, interbank
and transfer might be collected in bank branches are important means of receiving remittances.
Bank charge and processing fees for remittance can be a significant source of income for
commercial banks in receiving countries. The potential to collect these fees might induce bank to
expand their outreach and locate close to remittance recipient.
Third, a substantial portion of remittance flow to households that is likely to be unbanked
households in the middle and lower parts of the income distribution. Thus, banks acting as
remittance paying agents are well-positioned to offer other services to unbanked households

57
receiving remittances. Fourth, processing remittance flows provides banks with information on
the income of recipient households. This information may make banks better able to extend loans
to otherwise opaque borrowers.
Remittance is one of the major sources of income in Nepal. Being so, the fee, bank charges for
remittances creates significant amount of profit for banks which cannot be ignored. In fact these
days remittance is one of the major non-interest incomes of banks. This research also shows the
significant relationship of remittance fee with banks performances.
Exchange Income
The study found that coefficient of exchange incomes with return on assets and return on equity
is positive inferring that there is positive relationship among the variables. In contrast, p value
approach shows that there is significant relationship of exchange income with return on asset and
return on equity.
We can see the figures of import (NRB Banking and Financial Statistics, Vol 60, 2014) are
increasing every year in the study period. So higher import results in higher foreign currency to
be exchanged inside county and in turn generates higher income by commercial banks. In the
study period it has been seen that there is trend of constant growth of foreign exchange rate
except in 2011. Due to the constant growth term, the treasury department in commercial bank
had earned good amount of profit from the exchange fluctuation/ or forward buying. Also the
increasing remittances in the study period caused the banks to earn high foreign currency
exchange income. Also due to high inflow of tourists due to SAARC Summit, Tourism Year
2011, Nepal Investment Year 2012-13 in the study period, the banks got opportunity to earn
from foreign exchange. Data also shows foreign exchange reserve has increased every year
significantly (NRB Economic Bulletin, Vol 49, 2014) which indicates that banks have earned
high foreign currency and while earning the income was also significant. High FDI flow has also
helped banks earn foreign currencies.
Paudyal (2012) study shows the changing pattern of major contributors of foreign exchange
earnings. Workers remittances (58%), merchandise exports (16%) and tourism receipts(7%) are
the major sources of the foreign exchange earnings in the country which together made about
81% of total foreign exchange earnings in 2009/10.

58
Except in the year 2011, there is a growing trend of exchange income in the commercial banks
between the study periods 2010-2014. Since, the exchange market during the study period
observes greater flexibility but the point to be notice is the flexibility was much on Dollars and
Euros whereas Nepal has more of its tourist and visitors from Asian countries (mainly Indian and
Chinese) and Nepalese currencies being pegged with Indian currency, the flexibility has less
effect on exchange. Likewise the lower fluctuation on other incoming currencies, Nepalese banks
are being able to reap maximum benefit out of it.
Nepalese currency had been weak compared to the US Dollar on average and other convertible
currencies in the study period from 2010-2014 due to its peg with Indian rupees, remained fairly
stable during the few months of the study period. (NRB Economic Bulletin, Vol 10, 2014). On
the other hand the value of USD has been fluctuating since 2007-8 financial crises; key reason
initially is the fall in the interest rates was hurting the treasury and debt investors and outflow
from US created fluctuation in the value of USD due to which the commercial banks could make
good income from these fluctuations.
Exchange income is one of the major source of noninterest income of commercial banks of
Nepal. Being so the profit bank makes from currency fluctuations and charges for currency
exchange creates a significant amount of profit for banks which cannot be ignored. This research
also shows the significant relationship of exchange income with banks performances. This period
was associated with the acceleration of remittance inflows, the continuation of the peace process,
and the financial crisis in the developed world.
Service Charge
The study found that coefficient of service charge with return on assets and return on equity is
positive inferring that there is positive relationship among the variables. In contrast, p value
approach shows that there is significant relationship of service charge with return on asset and
return on equity.
Bank in terms of generating income rely mostly on service charge after interest income. Banks
involve in many transactions of its customers/depositors directly and indirectly and charge the
certain service charge out of it. Since, Nepalese investors arent secured in terms of their

59
investment therefore seeks the bank service like loan processing, guarantee which in turn
facilitate banks with high service charge thus enhancing bank profit.
First, technological and regulatory changes opened up new sources of noninterest income.
Second, noninterest income was believed to provide favorable attributes to a bank's revenue
stream. Most generally, the advances made in computing and telecommunications make it
possible for banks to directly market service charges in a manner not previously possible.
(Hawtrey, 2003). Furthermore, there has been a change in technology like automated teller
machines and internet banking which also aects banks cost structure.
Payments systems are heavily reliant upon deposit-based instruments, banks are in a unique
position to profit by cross-selling payment-based, payment-related and non-payment-related
products and services to their deposit customers. For example, banks offer customers a broad
menu of payment methods with which to access the funds in their deposit accounts-such as
checks, debit cards, direct debit for paying bills, direct deposit for receiving paychecks, and
online bill paying and offer payment products peripheral to customers account, such as credit
cards. Depending on their business model and competitive strategy, banks can and do charge fees
for these payment-related services. Banks have become increasingly aware that their profits can
be enhances by offering costly new relationship-based services (ATMs) at low prices or for a fee.
Service income from credit cards includes late payments, interest on credit card balances above
the cost of a traditional loan, finance chargers for cash advances, fees for handling transactions
on behalf of merchants and card holders and interchange fees for credit card purchase (DeYoung
& Rice, 2003).
Renewal Fee
The study found that coefficient of renewal fee with return on assets and return on equity is
positive inferring that there is positive relationship among the variables. In contrast, p value
approach shows that there is significant relationship of renewal fee with return on asset and
return on equity.
It seems relevant in the context of Nepal as renewal fee comprises of different accounting fees
segregated in different heading. The renewal fee of commercial banks includes renewal of

60
overdraft, renewal of credit, card renewal, service and product rendered by banks. The customers
are liable to deposit fees for the service and product they use. The high dependency of Nepalese
investors on bank and renew of their services at every fiscal year or periodic renewal tend to
make high inflow of profits out of it.
Since the trend of renewal fee in the study period is increasing every year, it can be inferred that
most banks are making good profits from these. Since the technological advancement like epayments, mobile payments, credit/debit cards, the banks earn income from their annual or
periodic renewal of given services so that there are plenty of titles under which Nepalese
commercial banks can earn good profits. Also, there is increasing loan in commercial banks
(NRB Banking and Financial Statistics, Vol 60, 2014), which ultimately leads to renew of the
loans annually which create income under the heading renewal fee thus increasing non-interest
income. Due to these factors, there is significant relationship with ROA and ROE of Nepalese
commercial banks.
In the context of the globalization and technological innovation, many e-products, Damankah et
al., (2014) found ATM technology, personal lending and loan quality are among the main
microeconomic factors driving the performance in non-interest income in the commercial
banking sector. There are different other moderating and driving variables which the study has
not taken into consideration.
DeYoung and Roland (2001) suggests why non-interest income may increase bank earning. Most
bank loans are relationship based and as a result have high switching cost, while most renewal
fee based activities are service and loan based. Thus, despite credit risk and fluctuations in
interest rates interest income from loans may be more volatile than non-interest income from fee
based activities. In addition, within the context of an ongoing lending relationship, the main
input needed to produce more renewal fee is typically for the services rendered by banks and
more loans provided to the customer. Thus, fee based activities may require greater operating
leverage than lending activities, which makes bank earning achieve growth in the long term.

61
4.1.7 Variance Analysis
It is a collection of statistical models, the difference among group means and their associated
procedures used as variation among and between groups. A variety of techniques are used with
multiple factor ANNOVA to reduce cost. One techniques used in factorial designs is to minimize
replication and to combine groups when effects are found to be statistically (or practically)
insignificant. An experiment with many insignificant factors may collapse into one with a few
factors supported by many replications.
Table 4.8: Variance Analysis with ROA
Model
1

Regression
Residual
Total

Sum
Squares

of

Df

33.716
103.556
137.272

8
110
118

Mean
Square
4.215
0.941

Sig.

4.477

.000

Table no. 4.8 shows the output of the ANNOVA analysis and whether we have a statistically
significant difference between group means. The data reveals that the significance level is 0.000
which is less than 0.05 concluding there is a significant difference in the mean of selected bank
internal variables with return on assets.
Table 4.9: Variance Analysis with ROE

Model
1

Regression
Residual
Total

Sum
Squares
9562.202
178628.1
188190.3

of

df
8
110
118

Mean
Square
1195.28
1623.89

Sig.

0.736

0.659

Table no. 4.9 shows the output of the ANNOVA analysis and whether we have a statistically
significant difference between group means. The data reveals that the significance level is 0.659
which is greater than 0.05 concluding there is no significant difference in the mean of selected
bank internal variables with return on equity.

62
4.2. Primary Data Analysis
The output derived from the study of primary data provides the insight on the real world
experience of financial managers in determining the factors affecting the bank profitability.
= 0.932
The study found that Cronbach's Alpha records 0.932 which is greater than 0.7, thus the data
taken into consideration for the study are reliable.

Fig. 4.1: Analysis of Relevance of Non-Interest Income.


Figure no.4.1 shows that, out of 90 respondents, 8.77% i.e. 8 respondent feel that noninterest
income is not significant relevant to the net profit of the commercial banks. Similarly, 31.57%
i.e. 28 respondent feels that it is highly significant relevant to the net profit of the commercial
banks. However, larger chunk 59.64% i.e. 54 respondent feels that the non-interest income is
significantly relevant to the net profit of the commercial bank.

63

Fig. 4.2: Analysis of Risk in Noninterest Income


Figure no. 4.2 shows that, out of 90 respondents, 26.31% i.e. 23 respondent perceive that there is
low risk in noninterest income. Similarly, 14.03% i.e. 13 respondent perceive that there is high
risk in noninterest income. However, larger group 59.64% i.e. 54 respondent feels that there is
moderate risk in non-interest income.
Table: 4.10 Analysis of Factors Having High Concentration on NII
Factors having high concentration on non-interest income
Minimum

Maximum

Mean

Rank

Profit/Loss on Sale of Asset

4.63

Dividend Income

5.18

Letter of Credit Charge/Fee

4.67

Guarantee Commission

4.37

Remittance Fee

4.00

Exchange Income

4.16

Service Charge

3.95

Renewal Fee

4.89

Table no. 4.10 shows the factors that have high concentration on non-interest income. In the
above table Rank 8 indicates the most concentrated factors and Rank 1 indicates the least
concentrated factors. As per the response, service charge and remittance fee is considered to be
the two highly concentrated factors among eight factors and dividend income and renewal fee as
the two least concentrated factors among eight factors.

64
4.2.1 Analysis of Likert Scale
Table 4.11: Analysis of Variables Affecting the ROA of Commercial Banks
One-Sample Test
Min.

Max.

Mean

Statement

Std.

Sig. (2-tailed)

Deviation

Profit on Sale of Asset affect ROA

3.58

0.96

4.54

0.00

Dividend Income affect ROA

3.67

0.81

6.22

0.00

Letter of Credit affect ROA

3.82

0.85

7.34

0.00

Guarantee Commission affect ROA

4.04

1.02

7.68

0.00

Remittance Fee affect ROA

4.07

0.98

8.25

0.00

Exchange Income affect ROA

4.07

0.92

8.75

0.00

Service Charge affect ROA

4.16

0.77

11.29

0.00

Renewal Fee affect ROA

4.04

0.94

8.28

0.00

Table no. 4.11 shows the analysis of likert scale data to test the significance of various factors.
Eight statements of different variables are provided to analyze the significant test. To signify the
importance between profitability and other variables test value of 3 has been taken. The
interpretation of each statement is as follows:

Profit/(loss) on sale of asset is one of the determinants that affect ROA. This statement
has been agreed by all the respondents. The agreement level of this statement is strong
enough that the mean value of the satisfaction is 3.58. One sample t-test has been used to
test the significance of profit/loss on sale of assets of commercial banks. The p-value is
0.00 which is less than 0.05, indicating it is a significant factor that affects profitability.

For the statement dividend income affecting the ROA, mean value of satisfaction is 3.67.
This proves respondents agree to the above statement. The p-value is 0.00 which
indicates a significant relationship.

For the statement letter of credit affecting ROA, the mean value is 3.82 which is
agreement level to this statement. The p value is 0.00 i.e. <0.05, which indicates that the
statement is significant.

65

For the statement guarantee commission affecting the ROA, mean value is 4.04 which is
high level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement remittance fee affecting the ROA, mean value is 4.07 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement exchange income affecting the ROA, mean value is 4.07 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement service charge affecting the ROA, mean value is 4.16 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement renewal fee affecting the ROA, mean value is 4.04 which is high level
of agreement to the above statement. The p-value is 0.00 which indicates a significant
relationship.

Table 4.12: Analysis of Variables Affecting the ROE of Commercial Banks


One-Sample Statistics
Sig. (2-tailed)
Std.

Statement

Min.

Max.

Mean

Deviation

Profit on Sale of Asset affect ROE

3.82

0.78

7.96

0.00

Dividend Income affect ROE

3.79

0.80

7.49

0.00

Letter of Credit affect ROE

3.82

0.95

6.57

0.00

Guarantee Commission affect ROE

4.07

0.90

8.94

0.00

Remittance Fee affect ROE

4.16

0.77

11.29

0.00

Exchange Income affect ROE

4.16

0.82

10.67

0.00

Service Charge affect ROE

4.16

0.96

9.11

0.00

Renewal Fee affect ROE

4.14

0.85

10.08

0.00

Table no. 4.12 shows the analysis of likert scale data to test the significance of various factors.
Eight statements of different variables are provided to analyze the significance test. To signify

66
the importance between profitability and other variables test value of 3 has been taken. The
interpretation of each statement is as follows:

Profit/(loss) on sale of asset is one of the determinants that affect ROE. This statement
has been agreed by all the respondents. The agreement level of this statement is strong
enough that the mean value of the satisfaction is 3.82. One sample t-test has been used to
test the significance of profit/loss on sale of assets of commercial banks. The p-value is
0.00 which is less than 0.05, indicating it is a significant factor that affects profitability.

For the statement dividend income affecting the ROE, mean value of satisfaction is 3.79.
This proves respondents agree to the above statement. The p-value is 0.00 which
indicates a significant relationship.

For the statement letter of credit affecting ROE, the mean value is 3.82 which is
agreement level to this statement. The p value is 0.00 i.e. <0.05, which indicates that the
statement is significant.

For the statement guarantee commission affecting the ROE, mean value is 4.07 which is
high level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement remittance fee affecting the ROE, mean value is 4.16 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement exchange income affecting the ROE, mean value is 4.16 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement service charge affecting the ROE, mean value is 4.16 which is high
level of agreement to the above statement. The p-value is 0.00 which indicates a
significant relationship.

For the statement renewal fee affecting the ROE, mean value is 4.14 which is high level
of agreement to the above statement. The p-value is 0.00 which indicates a significant
relationship.

67
4.3. Summary of test in Hypothesis
4.3.1. Based on Secondary Data
Multiple Regression Findings
Independent Variables
Profit/
(Loss) on Sale of Assets

Relationship with ROA


No Significant

Relationship with ROE


No Significant

Dividend Income

No Significant

No Significant

Letter of Credit

No Significant

No Significant

Guarantee Commission

Significant

Significant

Exchange Fee

Significant

Significant

Remittance Fee

Significant

Significant

Service Charge

Significant

Significant

Renewal Fee

Significant

Significant

4.3.2. Based on Primary Data


One Sample t-test
Independent Variables

Relationship with ROA

Relationship with ROE

Significant

Significant

Significant

Significant

Letter of Credit

Significant

Significant

Guarantee Commission

Significant

Significant

Exchange Fee

Significant

Significant

Remittance Fee

Significant

Significant

Service Charge

Significant

Significant

Renewal Fee

Significant

Significant

Profit/
(Loss) on Sale of Assets
Dividend Income

68

CHAPTER FIVE
SUMMARY AND CONCLUSION
5.1 Summary of Findings
The globalization and financial de-regulation in banking sector prolonged the banking activities
produced different diversified product and services. The concentration on banking services in
recent year had been shifted from traditional activities to non-traditional activities. Most of the
Nepalese commercial bank is enjoying around half of its net income from non-traditional
activities based on sale of assets, dividend income, letter of credit, guarantee commission,
remittance commission, exchange income, service charge and renewal fee.
Many of the variables like dividend income, profit/ loss on sale of assets, letter of credit,
guarantee commission, remittance commission, exchange income, service charge, renewal fee
also impact on the profitability of the bank. The study has investigated the relationship of this
variable with profitability of commercial bank. The indicator of the banks performance is
determined by return on assets and return on equity.
The specified objective of this study is to investigate the relationship between selected internal
bank variables and banks profitability in terms of ROA and ROE and to find out the different
dominant factors influencing non-interest income of commercial banks of Nepal.
After conducting the research on non-interest income factors affecting performance on
commercial banks, a number of positive, negative, significant and no significant results were
observed. The major findings from secondary data analysis are:

The average yearly index for ROA and ROE are 1.67 and 13.07 during the study period
(2010-2014) with a standard deviation i.e. 1.078 and 38.72 respectively implying a
medium volatility in commercial bank.

ROA and ROE records minimum of 0.00, -361.36 and maximum of 8.15 and 102.96
respectively. The mean of profit/(loss) on sale of assets records 11465.25 (in 000s),
dividend income 5838.77 (in 000s) and renewal fee 3719.06 (in 000s).

Positive value on skewness tests for ROA, PSA, DI, LC, GC, RF, EI, SC and REF
suggest that these variables have long right tails, while negative value of the skewness

69
tests for ROE had extreme values during the study period which suggest that these
variables have long left tails. It indicates a deviation from normal distribution of the data
and volatility in that parameter.

Kurtosis value of EI is less than three, the distribution of these variables exhibit nonnormality. The kurtosis value of ROA, ROE, PSA, DI, LC, GC, RF, SC and REF are
more than three, the distribution of these variables exhibit normality.

The value of VIF factor suggests that there is no multi-collinearity among chosen
variables.

According to the trend analysis, selected banks has earned highest in the year 2014 from
all non-interest income. The income from NII is increasing every year except for income
from PSA and DI which have fluctuation in their earnings.

According to the percentage analysis of ROA of commercial banks, the top 5 which
records highest are Lumbini, Standard Chartered, Nabil, Agriculture Development and
Nepal Bangladesh. In contrast, the lowest 5 commercial banks that record lowest return
on assets are Grand Bank, Machhapuchre bank, Nepal bank, Janata bank, and Sunrise
bank.

According to the percentage analysis of ROE of commercial banks, it shows that Grand
Bank Limited and Nepal Bank Limited record the negative return on equity. Similarly,
Janata bank, Machhapuchre bank and Sunrise bank records lowest return on equity
whereas five commercial banks; Nepal Bangladesh bank, Nepal Investment bank,
Standard Chartered bank, Everest bank and Nabil bank records highest ROE.

According to Pearson Correlation Coefficient, there is positive correlation between ROA


with DI, LC, GC, RF, EI, SC and REF whereas there is negative correlation with PSA.

Similarly, there is positive correlation between ROE with DI, LC, GC, RF, EI, SC and
REF whereas there is negative correlation with PSA

Likewise, the corresponding p-value shows that there is no statistical significant


correlation of PSA, DI, REF with ROA whereas there is statistical significant relationship
between ROA and LC, GC, EI, RF, SC. Also p-value shows that there is no statistical
significant relationship between ROE and selected bank internal variables.

70

The multiple regression analysis indicates that PSA, DI, and LC are insignificant in
influencing return on assets. Also there exists significant relationship of ROA with GC,
RF, EI, SC and REF.

The regression analysis with ROE model indicates there is significant relationship of
ROE with GC, RF, EI, SC and REF and insignificant relation with PSA, DI and LC.

The study confine there is no auto correlation in Nepalese commercial bank and selected
bank internal variables since the value is near to 2.

According to variance analysis, there is significant difference in the mean of selected


bank internal variables with ROA and no significant differences in the mean of selected
bank internal variables with ROE.

The major findings from primary data analysis are:

According to the survey, larger group i.e 59.64% of respondent felt that the non-interest
income is significant relevant to the net profit of the commercial bank.

In the analysis of risk, larger group i.e. 59.64% respondent feels that there is moderate
risk in non-interest income.

In the analysis of lesson learned for banker from loss incurred due to reliance in NII,
57.89% of respondent thought that tightening of internal process and policy could be the
lesson, 59.65% of respondent thought good corporate governance could be the lesson and
42.11% of respondent thought in-depth study of customer profile could be the lesson for
banker.

The survey shows that service charge and remittance commission are the two highly
concentrated factors among eight factors and dividend income and renewal fee are the
two least concentrated factors among eight factors that have high concentration on NII.

The result shows that 49.12% of respondent gave their opinion that NRB regulation could
be the reason for difficulty in increasing non-interest income. Similarly, 57.89% of
respondent gave their opinion that market competitiveness could be the reason, 43.86%
gave their opinion that depth study research and development could be the reason.

Likert scale analysis shows that all selected bank internal variables (PSA, DI, LC, GC,
RF, EI, SC and REF) have significant relationship with both ROA and ROE.

71
5.2 Conclusions
The research was conducted to study the impact of bank specific variables on banks profitability.
The analysis of the secondary data and primary data showed that the performance of the
commercial banks in Nepal is influenced by non-interest income which is consistent with the
finding of Saunders et al., (2014) who found that higher ratio of non-interest income to interest
income is associated with a higher profitability across the banking sector and under different
market regimes.
The outcome of the study revealed that there is no statistical significant correlation between
ROA with profit/ (loss) on sale of assets, dividend income, renewal fee. In contrast there is a
statistical significant correlation between ROA with letter of credit, guarantee commission,
remittance fee, exchange income and service charge. Sherene (2010) found that service charges
and fees in particular are highly correlated with net income which is consistent to our finding.
Similarly, there is no statistical significant correlation between ROE with all selected bank
internal variables which is in contrast with the finding of Gamra (2011) who found that foreign
exchange income and other income have a statistical significant relationship with risk adjusted
ROE and fee and commission income has shown insignificant relationship.
As per regression coefficient, the study found the significant relationship between majority of
bank variables and performance of selected commercial banks. Study found out that there is
negative and no significant relationship of ROA with profit/ (loss) on sale of assets, and letter of
credit. However there is positive and no significant relationship with dividend income. Also the
result founds positive and significant relation of ROA with guarantee commission, remittance
fee, exchange income and service charge and negative and significant relation with renewal fee.
In regard with ROE, there is negative and no significant with profit/ (loss) on sale of assets,
whereas positive and no significant relation with dividend income, and letter of credit.
Furthermore, there is positive and significant relation with guarantee commission, remittance fee,
exchange income, service charge and renewal fee.
The finding of our study is consistent with theories and findings of other scholars. Craigwell and
Maxwell (2015) found that bank characteristics and the ATM technology (service charge and

72
renewal fee) as the most influential factors shaping the trend of non-interest income in the
banking industry in Barbados and suggests that non-interest income is positively related to both
bank profitability and earnings volatility. Damankah (2014) found that ATM technology (fee
income) is one of the main microeconomic factors driving the performance in non-interest
income in the commercial banking sector and interest rate and foreign exchange rate volatility
are the key macroeconomic factors which explain the performance in non-interest income. Same
study shows that lower earnings on investments lead to increases in service charges from loans
and may reflect more aggressive loans expansion by these increase institutions to increase fee
income.
The researcher used variance (ANNOVA) analysis assumptions, including and excluding Grand
bank and Nepal Bank from the sample. Since Grand Bank and Nepal Bank have extreme
negative ROE during the study period. Researcher excluded these banks from sample and found
out the significant difference in the mean of selected bank internal variables with ROE. However
including those banks in the sample, the study found the no significant difference in the mean of
selected bank internal variables with ROE.
Consequently, the study found there is no difference in significance with ROA while including
and excluding the Grand and Nepal Bank. The study found there is significant difference in mean
of selected bank internal variables with ROE in both the cases.
Also from trend analysis, it can be concluded that all the selected variables was highest in the
year 2014 among the study period. As 2014, enjoyed good indicators in market due to high
remittance inflow, tourism flow due to Nepal Tourism Year 2014 and other macro-economic
variables trend analysis also seems to record remarkable improvement in data of selected
commercial bank in study period. Also the year 2014 was sparked with a new flicker of hope of
making new constitution by CA due to which the investment was also high. Also there was a
hope of political stability and creation of investment friendly environment. The year 2014 was
also the hosting of 18th summit of South Asian Association for Regional Cooperation. The year
was also indicated by the increment of imports mainly industrial products by 25.7%. The balance
of payment surplus ended at the end of first quarter of 2013/14 stood at $513.505m and foreign
exchange reserves $6.615b which indicated the increment in exchange income. (FES, Nepal)

73
Apropos of the study objective, the researcher used qualitative and survey techniques to find out
the significant relationship of performance and selected bank internal variables. The primary
respondent of the study were the employees of the selected commercial bank of different post.
These were selected for the real implication of research to understand the viewpoint of financial
future managers in determining the factor affecting the bank performance.
Among the variables taken into consideration, the researcher used mean analysis to find out the
high concentration of selected variables on non-interest income. Hence, the study found that
service charge has high concentration and dividend income has low concentration on NII which
is consistent with the finding of Lelissa (2014) who found the ratio of service charge to gross
income which mainly is a measure of income from foreign operation and hence the level of
income diversification or business mix has a positive impact on profitability.
This paper discusses the impacts of non-interest income in commercial banks of Nepal, as well
as examines the important variables that have significant impact on non-interest income in the
Nepalese banking system. It finds that the incidence of noninterest income in Nepalese
commercial bank is significant consistent to other countries in the world. Apparently, most of the
major factors that cause banks in the developed world to generate more non-interest income, like
deregulation and technological change for the development of loan securitization and credit
scoring, have not yet taken root in Nepal. Guarantee commission, remittance fee and service
charge seems to be the most influential factors shaping the pattern of non-interest income in the
banking industry in Nepal, results confirmed by an empirical model using panel data.
Furthermore, increases in non-interest income are linked to greater bank profitability and
increased performance measured by ROA and ROE.
An implication of this analysis is that bank diversification into non-traditional activities should
be not hazardous. Banking institutions can reap diversification benefits as long as they wellstudied it and know just how much diversification would be necessary to achieve positive result
by considering its specific characteristics, capabilities and the risk level, and as they choose the
right niche.

74
5.3 Recommendation
The finding provides an insight into the characteristics and practices of successful commercial
banks in terms of profitability. In the view of these, the following recommendations can be made
which may be useful for bank management, policy makers, shareholders and further researchers.

The format of financial reports and extent of disclosure seemed to vary among the banks.
As a result, continuous data for the full sample period were not available for some
explanatory variables, which had to be neglected for the purpose of the study. Also the
unavailability of financial data in the website becomes a difficulty for researcher to
extract the data.

Banks which have been ignored from this study due to unavailability of data can be
considered for the purpose of further study.

For this study, only class A commercial banks has been considered. Further research
can be done by taking into consideration of B and C class financial institution

As the data reveals that remittance has significant relationship with ROA and ROE, the
recommendation drawn from these result for commercial banks would be new reforms
and innovation in remittance funding that would increase credit easing of commercial
banks. Since remittances might help relax households financing constraints, the demand
for and the overall level of credit might fall as remittances increase. Regardless of
remittance recipients demand for credit, overall credit levels might still increase in
remittance receiving areas if banks channel the increased liquidity from remittance
deposits to previously unfunded or underfunded projects.

Exploring the primary data, the researcher found 59.65% respondent think that good
corporate governance should be lesson for the bank. Hence, the researcher recommends
commercial bank should practice good corporate governance to increase the performance
from non-interest income.

The researcher further suggests that commercial bank should practice rigid customer
profile process to prevent any further losses arising from non-interest income.

75

The study found out 57.89% of respondent gave their opinion that NRB regulation could
be the reason for difficulty in increasing noninterest income. Hence, to increase the
performance of commercial bank and market efficiency, NRB should deregulate and
introduce financial reform in the country to increase the sustainability of Nepalese
commercial banks.

The study recommends that there is also need for the finance manager of commercial
banks to note that there is some evidence to suggest that higher noninterest income may
lead to improve financial performance. This may be attributed to stability of income flow
in the financial institution.

76

BIBLIOGRAPHY
Aggeler, H and Feldman, R. (1998). Record bank profitability: how, who and what does it
mean?, Federal reserve bank of Minneapolis. Fedgazette Journal, Vol (10), Issue 2, pp.
221-239.
Al-Tamimi, H. and Hassan, A. (2010). Factors influencing performance of the UAE Islamic and
conventional national banks. Global Journal of Business Research, Vol (4), Issue 2, pp.
1-9
Angbazo, L. (1997). Commercial banks, net interest margins, default risk, interest rate risk and
off-balance sheet banking. Journal of banking and Finance, Vol (21), Issue 9, pp.55-87.
Baele, L., Olivier D.J., and Rudi V.V. (2007). Does the stock market value bank diversification?.
Journal of Banking and Finance, Vol (7), pp. 1999-2023.
Bashir, A. (2000). Assessing the performance of Islamic banks: Some evidence from the Middle
East. Paper presented at the ERF 8th meeting in Jordan.
Chiorazzo, V., C. Milani, and F. Salvini. (2008). Income Diversification and Bank Performance:
Evidence from Italian Banks. Journal of Financial Services Research, Vol (33), pp. 181
203.
Craigwell, R. and Maxwell, C. (2005).Non-interest income and financial performance at
commercial banks in Barbados. Seminar paper presented on 26th Annual Review Seminar
to Research Department, Central Bank of Barbados
Crouzille, C.M., Tacneng, R. and Tarazi, A. (2013). Is bank income diversification beneficial?
Evidence from an emerging economy.A working paper of Universite de Limoges,France.
Damankah, Tsede, O., Amankwaa, A. (2014). Analysis of non-interest income of commercial
banks in Ghana Basil Senyo. International Journal of Academic Research in Accounting,
Finance and Management Sciences, Vol (4), Issue 4, pp. 263-271.

77
Demerguc, A. and H. Huizinga. (1999). Determinants of commercial bank interest margins and
profitability: Some international evidence. World Bank Economic Review, Vol (13),
Issue 3, pp. 379-408.
DeYoung, R. and Rice, T. (2004). Non-interest income and financial performance at U.S.
commercial banks. The Journal Financial Review,Vol (39), Issue 1, pp.10-18.
Erji, Y., Cheng, M.C., Lee, C.C., and Chen, I.J. (2012). Diversification in banking: Is noninterest income the answer? The case of Taiwan banking industry. Journal of Business
and Policy Research,Vol (7), Issue 1, pp. 1 29.
Flamini, C., Valentina C., McDonald, and G., Liliana, S. (2009). The determinants of
commercial bank profitability in Sub-Saharan Africa. IMF Working Paper.
Gamra, S.B. (2011). Revenue diversification in emerging market banks: implications for
financial performance. An unpublished working paper submitted to Cornell University,
Newyork.
Hong, F. (2010).An empirical research on the relationship between non-interest income business
and operation performance of commercial banks. A proceedings of the 7th international
conference on Innovation & Management, Vol (6), Issue 49, pp.1477-1481 presented in
School of Economics and Management, Heilongjiang Institute of Science and
Technology, P.R. China.
Karakaya, A. and Er, B. (2012).Noninterest (nonprofit) income and financial performance at
Turkish commercial and participation banks.International Business Research, Vol (6),
Issue 1, pp. 16-28
Karanja, N. (2012). The relationship between non-interest income and financial performance of
commercial banks in Kenya. An unpublished MBA Research Project submitted to School
of Business, University of Nairobi.
Kengatharan. L., and Kengatharan, N. (2014). The influence of behavioral factors in making
investment decisions and performance: Study on investors of Colombo stock exchange,
Sri Lanka. Asian Journal of Finance & Accounting, Vol (6), Issue 1, pp.5-18

78
Kenneth J. Thygerson (1995), Management of Financial Institutions, 1st Edition. United States:
Harpercollins Publisher.
Kevin, J.S. (2004). Diversification in Banking: Is noninterest income the answer? The Journal of
Money Credit and Banking, Vol (36), Issue 5, pp.16-24.
Khrawish, H.A. (2011). Determinants of commercial banks performance: Evidence from Jordan.
International Research Journal of Finance and Economics, Vol (5), Issue 5, pp. 19-45.
Kick, T. and Busch, R. (2009). Income diversification in the German banking industry. A
discussion paper series 2 Banking and Financial Studies No. 09/2009 of Deutsche
Bundesbank, Frankfurt, Germany.
Kim, J.G., and Kim, Y.J. (2009). Non interest income and financial performance at South Korea.
The Journal of Finance, Vol (39), Issue 3, pp. 881-92.
Kiweu, J.M. (2012). Income Diversification in the Banking Sector and Earnings Volatility:
Evidence from Kenyan Commercial Banks. A working paper series 2 of KBA Centre for
Research on Financial Markets and Policy.
Kohler, M. (2013). Does non-interest income make banks more risky? Retail- versus investmentoriented banks. A discussion paper No. 17/2013 of Deutsche Bundesbank, Frankfurt,
Germany.
Kothari, C.K. (2004). Research Methodology: Methods and Techniques, 2 nd edition. New Delhi:
New Age International.
Lelissa, T.B. (2014). The determinants of Ethiopian commercial banks performance.European
Journal of Business and Management, Vol (6), Issue 14, pp.52-62
Lepetit, L., Nys, E., Rous, P., and Tarazi, A. (2007). Bank income structure and risk: An
empirical analysis of European banks. Journal of Banking and Finance, Vol (32), pp.
1452-1467.
Lozano, A.V., and Pasiouras, F. (2008). The impact of non-traditional activities on the estimation

79
of bank efficiency: International evidence. An unpublished working paper series 2008.01
of School of Management, University of Bath, UK.
Louzis, D.P. and Vouldis, A.T. (2015). Profitability in the Greek banking system: A dual
investigation of net interest income and non-interest income. A working paper series 191
of Bank of Greece.
Mata, R.S. (2010). Diversification of Microfinance Institutions:Determinants for Entering the
RemittancesMarket. CEB Working Paper No.10/043 2010, UniversitLibre de Bruxelles Solvay Brussels School of Economics and Management.
Montiel, P.J. (1995). Financial policies and economic growth: Theory, evidence and countryspecific experience from Sub-Saharan Africa. A paper on African economic research
consortium AERC Special Paper No. 18. presented in Nairobi, Kenya.
Moussu, C. and Arthur, P.R. (2013). ROE in banks: Myth and reality. An unpublished working
paper No. 03/2013 to ESCP, Europe.
Murthy, Y. and Sree, R. (2003). A study on financial ratios of major commercial banks. A
research study of College of Banking & Financial Studies, Sultanate of Oman.
Myers, S and Majluf, N. (1984). Corporate financing and investment decisions when firms have
information that invbestors do not have. Journal of Financial Economics, Vol (13), pp.
187-221.
Nguyen, J. (2012). The relationship between net interest margin and noninterest income
using a system estimation approach. Journal of Banking and Finance, Vol (36), Issue 9,
pp.2429-2437.
Ongore, V.O. and Kusa, G.B. (2013).Determinants of financial performance of commercial
banks in Kenya. International Journal of Economics and Financial Issues, Vol(3), Issue
1, pp.237-252.
Paudyal, S. (2012). Does tourism really matter for economic growth? Evidence from Nepal.NRB
Working paper 2012 of Nepal Ratra Bank, Vol (24), Issue (1).

80
Rogers, K., and Sinkey, F.J. (1999). An analysis of nontraditional activities at US commercial
banks. Review of Financial Economics, Vol ( 8), pp. 25-29.
Saunders, A., Schmid, M. and Walter, I. (2014). Non-interest income and bank performance: Is
banks increased reliance on non-interest income bad? Working paper on finance no.
2014/17 of Swiss Institute of Banking and Finance, University of St. Gallen, Switzerland.
Silber, R. and Udell (1996). Money Banking and Financial Markets, 11th edition. New York:
Pearson Education.
Smith, R., Staikouras, C., and Wood, G. (2003). Non-interest income and total income stability
An unpublished working paper no.198, 2003 of Bank of England.
Stiroh, K.J. (2002). Diversification in Banking. Is non-interest income the answer? An
unpublished staff research report of Federal Reserve Bank of New York, New York.
Tapper, S.A. (2010).Non-interest income, financial performance and the macro economy:
Evidence on Jamaican panel data. A CBB working paper 2012 of Central Bank of
Barbados,Research and Economic Analysis Department.
Teimet, P., Ochieng, O.D., Away, S., and Teimet, P.R. (2011).Income source diversification and
financial performance of commercial banks in Kenya.International Journal of Business
and Public Management.Vol(1), Issue 1, pp.26-35.
Williams, B. and Prather, L. (2010). Bank risk and return: the impact of bank noninterest
income. International Journal of Managerial Finance,Vol(6) Issue 3, pp. 220 244
Yang, Z. and Wu, M. (2011).Non-interest income and bank profitability. Thesis paper submitted
to Faculty of Business School of SFU.
Yigremachew, B. (2007). Determinants of private bank profitably: Determinants of Private
Banks' Profitability in Ethiopia: Panel Data Evidence.
Zhuofan, Y. and Mingfeng, W. (2011).Non-interest income and bank profitability. An
unpublished MBA Research Project submitted to Simon Fraser University.

81
Website Visited
http://bfr.nrb.org.np/circular/2071-72/2071_72_For_A_%2c_B_&_C_Class--Circular_13Provision%20regarding%20Consumer%20Protection%20&%20Financial%20Literacy.pdf
http://bfr.nrb.org.np/directives/Guidelines--Banking_Service_Fee_Guidelines_2067.pdf
http://www.fesnepal.org/reports/2014/annual_report/annual_report_2014.htm (Nepal in the Year
2014: A Glance)
http://www.nrb.org.np/red/publications/study_reports/Study_Reports-A_Report_on_Real_Estate_Financing_in_Nepal%20-%20A_Case_Study.pdf
http://www.nrb.org.np/bfr/statistics/bank_fina_statistics/Banking_and_Financial_Statistics-No_60%20July%202014.pdf
http://www.nrb.org.np/red/publications/economic_bulletin/Quarterly_Economic_Bulletin--201410_(Mid_October).pdf
http://www.spotlightnepal.com/News/Article/CRISIS-IN-BANKS-Banking-on-Un-Real-Estatehttp://www.nepalenergyforum.com/hydropower-promise-in-nepal/

82

ANNEXURE
A1: Questionnaire
Dear Sir/Madam,
My name is Santosh Nepal, MBA student at Ace Institute of Management and I am conducting
this survey as partial fulfillment for the completion of Masters in Business Administration at Ace
Institute of Management affiliated to Pokhara University. The general purpose of this study is to
evaluate the Impact of non-interest income on performance of commercial banks of Nepal. I
would like to invite your participation in this survey by filling up this questionnaire. All
information will be treated with strict confidentiality. All the questions are for academic purpose
only.
Part I- GENERAL INFORMATION
1. How long you have been associated with banking sector?
1. 1-3 yrs

2. 3-6 yrs

3. 6-9 yrs

4. 9 yrs and above

Part II- BANK PERFORMANCE QUESTIONAIRE


2. Tick the relevance of non- interest income to the net profit of commercial banks.
1. Non-Significant

2. Significant

3. Highly Significant

3. How do you perceive risk in non-interest income?


1. Low

2. Moderate

3. High

4. What could be the lesson for banker from loss incurred due to reliance in Non-Interest
Income? (e.g. Melamchi, Rahughat Project Related)
(You can tick in more than one)
1.

Tightening of internal process and policy

2.

Good corporate governance

3.

In-depth study of customer profile

4.

Any other Factor:..

83
5. Give your opinion about the difficulty in increasing non-interest income? (You can
choose more than one)
1.

NRB Regulation

2.

Market Competitiveness

3.

Lack of Good Customer

4.

Depth study Research and Development

5.

Slackness in Economy

6.

Any other Factor: .

6. Rank the factors that have high concentration on non-interest income.(Rank 1 being the
lowest and 8 being the highest)
1.

Profit on sale of asset

2.

Dividend income

3.

Letter of Credit Charge/Fee

4.

Guarantee Commission

5.

Remittance Commission

6.

Exchange Income

7.

Service Charge and Processing fee

8.

Renewal Fee

7. Reason bank divert from interest income activities to non-interest income activities (fee
and charge based income)
1.

Market condition

2.

Competition

3.

Investment opportunity

4.

Risk reduction

5.

Higher profit

6.

Diversion in Income

84
8. Please give your opinion on variables affecting the ROA of commercial banks.
Strongly

Disagree

Neutral

Agree

Disagree

Strongly
Agree

Profit on Sale of Asset affect ROA


Dividend Income affect ROA
Letter of Credit affect ROA
Guarantee Commission affect ROA
Remittance Commission affect ROA
Exchange Income affect ROA
Service Charge and Processing Fee affect ROA
Renewal Fee affect ROA
9. Please give your opinion on variables affecting the ROE of commercial banks.
Strongly
Disagree
Profit on Sale of Asset affect ROE
Dividend Income affect ROE
Letter of Credit affect ROE
Guarantee Commission affect ROE
Remittance Commission affect ROE
Exchange Income affect ROE
Service Charge and Processing Fee affect ROE
Renewal Fee affect ROE

Disagree

Neutral

Agree

Strongly
Agree

85
A2: Trend Analysis of Selected Variables of Commercial Banks

86

87

88

A3: Percentage Analysis

89

90

91

A4: Secondary Data