One of the key attributes of money is that it is used as a unit of measurement. Thus, where Francis and Alberta earn GH₵10,000 each per month it is convenient to say that they both earn the same salary, perhaps perform similar functions in the same organisation or are at a parallel level in terms of the firm’s prevailing organogram. Similarly, prices quoted for similar items enable us to determine the values (even if superficially) of the items.
When it comes to analysing the balance sheets of two banks, however, the various line items in quantitative terms can give a fallacious view of the strengths or risk exposures inherent in the individual banks under consideration.
The usually half-hearted one-paragraph notes to the accounts do little to illuminate the true state of risk or value of the bank. This is where assets valued GH₵400million in bank A can differ significantly from the same line item valued GH₵400million in bank B. This situation is more evident when considering, particularly, the aggregated assets and liabilities of figures presented in the individual bank’s balance sheets.
Without access to the qualitative dimensions regarding the composition of these assets and liabilities’ figures, one may be tempted to jump into making dangerous conclusions. Of particular interest in judging the relative financial strengths or positions of different banks are vital issues which are not disclosed in the financials, in spite of the current global push for more disclosures and transparency in financial statements.
The exclusion of the under-mentioned critical issues has the tendency to obscure the real worth of inter-bank comparison, unless one has insider knowledge or access to other qualitative factors of the banks under consideration:
(a) the concentration mixes of the individual assets and liabilities portfolio
(b) the maturity profiles of the assets and liabilities
(c) the aging analysis or the quality of the loan portfolio
(d) the sectoral distribution of the assets (loans and advances)
(e) the specific risk factors associated with different sectors of the economy and degree of the individual bank’s exposure to these sectors.
(f) the relative cost of funds in the liabilities portfolio, and
(g) the product mix of the deposit liabilities – i.e. how much is held in, say, demand deposits, savings deposits and time deposits?
Admittedly, too much detail in the financials would make it cluttered and put off the average reader. For the critical analyst, however, merely churning out ratios for comparison purposes can be quite an unworthy exercise – unless these can be supplemented by trend analysis and assurance of consistency in the application of accounting principles and other extra financial information.
Each of these factors that illuminate the respective strengths of the various balance sheets will be explained in further detail shortly.
Depending on whether a bank has traditionally been a merchant, or development-oriented bank, its cost of funds tends to be relatively higher than a retail/commercial bank. The latter tends to benefit from low-cost retail deposits which also are usually comparably more cheap and stable than the high cost and volatile corporate funds. The Net Interest Income margin thus reflects these cost dynamics.
It follows therefore that the income generation capacity of two banks with say GH¢500,000,000 each in liabilities cannot necessarily be said to be on the same level. This is because their liquidity and income generation capacities can differ significantly. This is even more accentuated when one gets to know the concentration dynamics of these deposits; that is, “what proportion of these deposits are held by say the Top-20 Depositors?”
Similarly, maturity profiles of the various liability items (the quantum of deposits in the respective demand, savings and time deposits buckets) will determine the level of mismatches that can be tolerated by the individual bank. For instance, it would be imprudent for a bank with short-term maturities in its liability mix to engage in long-term loans and advances.
To manage its risk, the resultant advances would have to be short-term in nature offered to top corporates at relatively slim interest margins, while emphasis is placed on fees and commission income from other transactions. This does not, however, suggest that loans and advances are financed by deposits alone. Accumulated reserves that increase shareholders’ funds and other tier-two capital items complement the quantum of loans and advances that may be granted. Analysts should therefore be interested in these cushions.
The figures presented for net loans and advances also obscure the relative quality of such loans. The consolidation does not help one to determine the aging analyses of the different borrowing clients.
Whereas one bank’s figure may represent fairly current exposures, another’s figure may be made up predominantly of hard core irrecoverable loans, in spite of the subjective provision for bad debts that may have been made in the income statement.
In terms of income generation, therefore, one bank may be stronger or weaker than another, even if they both depict the same quantum of loans and advances in their respective balance sheets.
Of equal importance to the analyst is the concentration of the loans and proportion of this that is held by, say, the bank’s top-twenty clients, and the specific industries or sectors in which these clients operate. Any specific risk in the sector in which they operate can have dire consequences on the respective banks’ fortunes. The banks’ exposure to VRA, ECG and the BDCs clearly exemplify this point, but which fact may not be revealed in the individual balance sheets to aid fair comparisons of different banks. The Finatrade exposure that hit some six key banks some months ago is another classic pointer.
Concentration dynamics also prevail in terms of the total deposit liabilities. The raw figures in balance sheets do not show the deposit mix’s volatility, especially which clients hold what proportion of the deposit figure. Are these individual or corporate clients, and what is the likelihood of major withdrawals?
Obviously, the degree of volatility has implications on how the bank plays on the money market or engages in long-term advances. At some point in time, a telcom company was said to be commanding close to 20% of total deposits across the banking industry. A strategy to become a net borrower in the economy as part of the company’s internal risk management initiatives could have serious implications for the banks holding these deposits.
Other key areas of risk that are not apparent from figures in the balance sheets are interest rate and foreign exchange risks, depending on the sensitivity of the individual bank’s assets and liability structures and offshore exposures to rates variability.
This brief insight plays into the argument (which has now been laid to rest somewhat) of whether all the universal banks should have the same minimum capital of GH¢400,000,000 irrespective of their different stages of growth, the specific risk exposures faced by each bank and their risk absorption or tolerance levels. Clearly, GH¢400,000,000 is not equal to GH¢400,000,000 in different banks, given the above exposition.