| Pub. Date | : May, 2022 |
|---|---|
| Product Name | : The IUP Journal of Bank Management |
| Product Type | : Article |
| Product Code | : IJBM040522 |
| Author Name | : Ashish Srivastava |
| Availability | : YES |
| Subject/Domain | : Finance |
| Download Format | : PDF Format |
| No. of Pages | : 17 |
Primary (Urban) Cooperative Banks (UCBs) in India operate under the provisions of the Banking Regulation Act of 1949 - As Applicable to Cooperative Societies (AACS). Considering the large heterogeneity in their asset sizes and the absence of any regulatory cap on their leverages, the principal objective of this paper is to understand the interrelationship of their leverage and scale of operations with financial performance. The analysis, based on a three-year pooled data sample of 140 well-distributed UCBs, shows a significant difference across the capital adequacy, leverage and Net Interest Margin (NIM), based on the scale of operations, but due to heterogeneous and skewed distribution of UCBs in terms of asset size, the impact of the scale of operations on the financial performance does not manifest very clearly. It, however, shows that the scale of operations is unrelated to the incidence of non-performing advances. Further, UCBs with higher leverages do not show superior financial performance in terms of key financial variables. However, banks with higher leverage do gain in terms of their Return on Equity (ROE). These findings provide nuanced guidance to the UCBs and are also useful for regulatory policymaking on the subject.
The financial performance of banks depends on several factors, which include both the broad macroeconomic factors and the bank's capital structure, asset size, operational efficiency and managerial effectiveness. It is generally argued that the performance of banks depends largely on their operational efficiency and partially on the market structure and regulations. If a bank can offer its products and services at a relatively lower cost than its competitors, it can make profits and increase its size and market shares (Samad, 2008). Therefore, the ratio of total assets to equity (leverage) and the scale of operations reflected by the size of the total assets are important factors in understanding the financial performance of banks. While the Modigliani and Miller (MM) theory postulates that debt financing improves financial performance (Myers, 1984), Tan (2016) finds a positive impact of capital on bank profitability on account of higher creditworthiness, prudent lending, etc. because of a greater stake of owners, and availability of a higher cushion in absorbing the risk losses, and also somewhat lower borrowing cost. Secondly, an increase in asset size should normally bring economies of scale and consequent improved