Bahrain's Commercial Bank Performances During 1994-2001

Credit & Financial Management Review, First Quarter 2004 by Samad, Abdus

Abstract:

The main focus of this paper is to examine empirically the performance of Bahrain's commercial banks with respect to credit (loan), liquidity and profitability during the period 1994-2001. Ten financial ratios are selected for measuring credit, liquidity and profitability performances. By applying student's t-test to these financial measures, this paper finds that commercial banks' liquidity performance is not at par with the banking industry. Commercial banks are relatively less profitable and less liquid and, are exposed to risk as compared to banking industry. With regard to credit performance this study finds no unambiguous conclusion.

Introduction

Bahrain is an important financial center in the Middle East. It has attracted the establishment of a large number of offshore banks, regional and foreign banks. These banks operate side by side with the locally established commercial banks and provide strong competition in deposit and loan markets. Unlike many other countries, the operating theatre of Bahrain's commercial bank is different. It hosts a large number of foreign commercial banks as well as offshore banks. There are currently 45 offshore banks5. In addition, there are more than 8 foreign commercial banks. Currently, there are total of 17 commercial banks. Out of them 7 are locally incorporated, and function as full-fledged commercial banks6. The rest of the banks are not locally incorporated; they are foreign banks. A relatively free entry makes the banking market of Bahrain more competitive, and the commercial banks of Bahrain thus face intense competition not only from domestic commercial banks but also from foreign banks.

The level of competition has intensified with establishment of two Islamic banks incorporated locally. The establishment of two major Islamic commercial banks, Bahrain Islamic Bank and the Faysal Islamic Bank, has increased the level of competition in deposit and credit market. The fierce competition - domestic and foreign- within the limited confines of the domestic wholesale and retail market might have impact on commercial banks' performance. In this context of dual competitions it is natural and interesting to know the performance status of commercial bank. The present study is motivated by this idea.

The final motivation for the study is that all parties, bank customers, investors, regulators and bank managements, may derive benefit from its findings. After the Gulf War I, Bahrain GDP growth rate declined from 11.2% in 1991 to an average of 4.8%7. The unemployment rate increased from 3% in 1991 to 6% in 2000.8 There has been no bank (commercial) performance study in Bahrain, as far as I am aware, during the post Gulf War period. It is natural for all relevant parties of commercial banks, bank customers and investors in particular, to know how these commercial banks perform during these periods with respect to credit, liquidity and profitability. The paper, thus, wants to assess empirically commercial banks' performance of Bahrain.

Reviews of Literature, Methodology and Data

The extant of bank study literature is vast. However, studies relating to commercial bank performance in the developing nations are limited. Sabi (1996) investigated the performance of Hungarian banks and found that foreign banks are more profitable and less risky than domestic. Samad (1999), and Samad and Hasssan (2001) investigated commercial bank performances for the Bank Islam Malaysia. They found, in general, that conventional commercial banks are less liquid and more profitable than the Islamic bank. Arif (1989), Wong (1995) studied Islamic banking, Bank Islam Malaysia performance and efficiency.

Among the researchers who have studied banks' profitability performance are Rhodes and Savage (1981) Fraser and Rose (1971), Hester and Zorllner (1966), Philip and Rose (1974), Haggested (1977), Smirlock (1985), Bourke (1989), Molyneux and Thornton (1992), and Stienherr and Huveneers (1994). Most of these studies were performed by using American data with an exception of Bourke (1989), Molyneux and Thornton (1992) and Stienherr and Huveneers (1994). Other authors such as Habson, Mosten and Severeins, (1978) and Fraas, (1974) focused their attention to bank holding company and unit bank performance.

Interestingly, most of these studies were conducted to the context of finding the determinant/s of bank profitability for testing structure conduct performance hypothesis.

Since there are not many studies regarding commercial banks' general performance, the study of Bahrain's commercial bank performance with respect to profitability, liquidity and credit operation is an important step in this direction.

Methodology and Data

This study uses financial ratios for measuring financial performance of commercial banks. The use of ratio in measuring credit, liquidity and profitability performance is common in the literature of finance and accounting practices. Bird and McHuge (1977), Leve and Sunder (1979), and Chen and Shimerda (1991) used ratio in measuring firm performance. Ross (1991), Spindler Etal (1991), Sabi (1996), Hempel and Simonpson (1998), Samad (1999) and Samad and Hassan (2000) used ratio index in measuring commercial bank performance. The greatest advantage for using ratio for measuring banks' performance is that it compensates bank disparities created by bank size.