The determinants of bank profitability in commercial banks an analysis of BIDV vietnam

--- NGUYỄN QUANG KHÁNH THE DETERMINANTS OF BANK PROFITABILITY IN COMMERCIAL BANKS - AN ANALYSIS OF BIDV VIET NAM CÁC YẾU TỐ QUYẾT ĐỊNH ĐẾN LỢI NHUẬN CỦA NGÂN HÀNG THƯƠNG MẠI – PHÂN

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NGUYỄN QUANG KHÁNH

THE DETERMINANTS OF BANK PROFITABILITY IN

COMMERCIAL BANKS - AN ANALYSIS

OF BIDV VIET NAM

CÁC YẾU TỐ QUYẾT ĐỊNH ĐẾN LỢI NHUẬN CỦA NGÂN HÀNG THƯƠNG MẠI – PHÂN TÍCH TRƯỜNG HỢP

CỦA BIDV VIỆT NAM

LUẬN VĂN THẠC SĨ QUẢN TRỊ KINH DOANH

HÀ NỘI - 2019

KHOA QUẢN TRỊ VÀ KINH DOANH

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NGUYỄN QUANG KHÁNH

THE DETERMINANTS OF BANK PROFITABILITY IN

COMMERCIAL BANKS - AN ANALYSIS

OF BIDV VIET NAM

CÁC YẾU TỐ QUYẾT ĐỊNH ĐẾN LỢI NHUẬN CỦA NGÂN HÀNG THƯƠNG MẠI – PHÂN TÍCH TRƯỜNG HỢP

CỦA BIDV VIỆT NAM

Chuyên ngành: Quản trị kinh doanh

Mã số: 60 34 01 02 LUẬN VĂN THẠC SĨ QUẢN TRỊ KINH DOANH

NGƯỜI HƯỚNG DẪN KHOA HỌC: PGS.TS PHẠM THỊ THANH HÒA

HÀ NỘI - 2019

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DECLARATION

The author confirms that the research outcome in the thesis is the result

of author‟s independent work during study and research period and it is not yet published in other‟s research and article

The other‟s research result and documentation (extraction, table, figure, formula, and other document) used in the thesis are cited properly and the permission (if required) is given

The author is responsible in front of the Thesis Assessment Committee, Hanoi School of Business and Management, and the laws for above-mentioned declaration

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TABLE OF CONTENTS

DECLARATION i

ABBREVIATION iv

LIST OF TABLES v

LIST OF FIGURES vi

INTRODUCTION 1

CHAPTER 1: THEORETICAL FRAMEWORK AND RESEARCH HYPOTHESES 5

1.1 Commercial banks introduction 5

1.2 General review of Bank profitability 6

1.2.1 Definition 6

1.2.2 Indicators of bank profitability 7

1.2.3 Internal factors effecting the bank profitability 9

1.2.4 Other external factor effecting the bank profitability 12

CHAPTER 2: OVERVIEW THE BIDV AND PROFITABILITY OF BIDV16 2.1 Review of BIDV and profitability in 2006-2017 intervals 16

2.1.1 Introduction to BIDV 16

2.1.2 Brief of BIDV profit making performance in 2006-2017 17

2.2 Comparative review of profitability in BIDV and Vietinbank in the concerned period 25

2.3 Potential determinants of profitability of BIDV 30

CHAPTER 3: METHODOLOGY AND DATA ANALYSIS 31

3.1 Chapter introduction 31

3.2 Research paradigm & strategies 31

3.3 Data collection & sample selection strategies 32

3.4 Sampling strategy: 32

3.5 Data analysis methods 33

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3.6 Descriptive statistics: 34

3.7 Correlation analysis: 37

3.8 Regression analysis: 38

3.8.1 Return on Equity 38

3.8.2 Return on Assets 40

3.8.3 Comment on model validity: 43

3.8.4 Hausman test 45

3.8.5 Multicollinearity test 46

CHAPTER 4: IMPLICATIONS AND RECOMMENDATIONS FOR BIDV TO IMPROVE THE PROFITABILITY IN THE FUTURE 48

4.1 Development strategy of BIDV in the near future 48

4.2 Recommendations for BIDV to improve the profitability in the future 50

4.2.1 Debt management policy 50

4.2.2 Maintaining other ratios that affect bank profitability 55

4.2.3 Diversify other sources of income beyond lending 57

4.2.4 Customer orientation strategy 58

4.2.5 Other practical solutions for BIDV 59

CONCLUSION 61

REFERENCE LIST 63

APPENDIX 67

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ABBREVIATION

ROA: Return on Assets ROE: Return on Equity NPLR: Non-performing Loan ratio CAR: Capital Adequacy ratio LDR: Loan to Deposit ratio LLPR: Loan Loss Provision ratio TA: Total Asset

DR: Dividend Ratio REM: Random Effect Method FEM: Fixed Effect Method

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LIST OF TABLES

Table 2.1 - Quality Criteria of BIDV 21

Table 2.2 - Dependent variables on profit in BIDV 30

Table 3.1 - Descriptive statistics 35

Table 3.2 - Correlation analysis 37

Table 3.3 - FEM-ROE regression 38

Table 3.4 - REM - ROE regression 39

Table 3.5 - Hausman Test - ROE 39

Table 3.6 - FEM - ROA regression 40

Table 3.7 - REM - ROA regression 42

Table 3.8 - Hausman Test - ROA 42

Table 3.9- Collinearity statistics 46

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LIST OF FIGURES

Figure 2.1 – BIDV ROA & ROE from 2006-2017 17

Figure 2.2 – BIDV Profit before and after tax from 2006-2017 23

Figure 2.3 – BIDV Total assets and Owner‟s equity 24

Figure 2.4 – Comparison of BIDV and Vietinbank profitability 25

Figure 2.5 – Comparison of BIDV and Vietinbank CAR 26

Figure 2.6 – Comparison of BIDV and Vietinbank NPL & LLR 28

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INTRODUCTION

1 Research motives:

In any economy, commercial banks play crucial role in moderating the flow

of cash so that the economic goal and objectives can be achieved This function of the commercial banks implies that the economy may only last as long as the commercial banks remain healthy However, the nature of a commercial entity requires any bank to set profit as their ultimate goals According to Misker (2015) profit indicates whether a business may sustain in long time or not while reflecting the efficiency of business management in the short run As a result, the investors also relies on profit to evaluate and compare among the different investment opportunities during decision making process For this reason, profit always remain among the top objectives of commercial banks

Meanwhile, it is no doubt that the practices involving credit activities in its core business make the commercial bank inevitably exposed to high credit risks which somehow keep the bank from achieving optimal profits In the wake of bank management, it is therefore important for the bank managers to strive to secure the profit maximization; yet the mission is rather challenging once the competition pressure in the banking sectors escalates Unlike any other type of business, the commercial banks are also tied with the regulations which are released to ensure the safety in bank operation; while the banks themselves must compete against each other Considering such a complicated situation, it is evident that the bank manager must consider such an extensive scope of factors to determine the relevant decisions in line with not only the position of the bank but also the tendency of external environment The challenge in maintaining high profit in the banking sector therefore set the ground for the studies seeking for determinants influencing profit by far

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However, there remain controversies on the set of criteria as well as how each factor corresponds with the rate of profit, depending on nature of business and conditions where the business operates In Vietnam, the empirical studies on factors affecting profit are numerous, yet the vast majority of papers by far just took account into the issue from rather macro perspectives It is therefore impractical when coming to the application of knowledge in improving profit

of particular bank This gaps in literature hence motivates the author in examining the issue in a narrower scope of a specific case – BIDV The selected target of the study is by far named as the Vietnam largest state-owned bank which had its successful IPO in 2011

Time scope: The study would focus on an interval over 10 years, starting from

2006 and ending at 2017 This period of time witnessed such a huge

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transformation of Vietnam economy as well as the domestic banking system after the country successfully made its accession into WTO in 2005 Following this, BIDV and other banks also experienced dramatic fluctuation due to exposure to the erratic changes caused by global financial crisis in 2008-2009 and the domestic recession in 2011-2012 Given this pattern, the data fetched from this period therefore reflected better the profit in relation to different conditions of driving factors

Target of study: BIDV is the main research target, given its important role in Vietnam economy The other commercial banks (Vietinbank) in the sectors are also included for comparative analysis and measurement

5 Research significance:

The research is expected to provide enormous benefits to any stakeholders involving to the banking business, including manager of BIDV and other commercial banks in Vietnam as well as the investors who are seeking for investment opportunities in this sector First of all, the focal point of this study which is set on different aspects of profitability should provide the managers of the commercial banks in Vietnam an insight into the mechanism

of bank profitability so that the strategic decisions in bank development can

be more effective Should the elements affecting bank profit be confirmed, the bank managers may subsequently respond by shaping the strategic approach with the aim of motivating positive factors and diminishing the negative factors at the same time Especially, as the case of BIDV is examined, the managers in this bank could directly benefit from the outcomes of this research, for the practical recommendations drawn out in line with the actual circumstance of the BIDV Last but probably not least, the investors who are examining the investment opportunities in the commercial banks should be empowered with important knowledge of profit analysis Knowing which favorable factors would positively or negatively affect the profit performance,

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the investors are capable of evaluating and predicting how would bank profit might change in the future As a result, the investors might minimize the investment risks with more efficient investment decisions All in all, the knowledge supplied by this study appears to be far more important as the banking system of Vietnam is undergoing through a transitional process as the economy and the entire sector are more integrated into the global system (KPMG, 2013)

1.1 Commercial banks introduction

In a rough definition, a commercial bank is a type of financial institution accepting deposits, making business loan, mortgage loan as well as offer various basic financial products including saving account and certificates of deposit According to Li and Zou (2014), commercial bank should be differentiated from investment bank which has different function, though some commercial bank might assume the dual business Though the commercial bank has core function of accepting deposit and providing bank loan, the specific types of deposit and bank loan might vary significantly from one to another As for deposit, there might be saving account deposits, fixed deposit or recurring account deposits The bank loan could be cash credit, money at call, overdraft facility or bill discount

In Vietnam, the definition of commercial bank is in fact rather generalized, yet remain following the common concept of commercial bank adopted worldwide According to Vietnam Law on Banking in 1997, a commercial bank

is defined as a form of credit institution entitled to carry out all banking activities and other activities Herein, the banking activities are instituted to include

1.2 General review of Bank profitability

1.2.1 Definition

The profitability of commercial bank is critical indicator of bank efficiency in exercising the banking operation The profitability also reflects the bank competitiveness in comparison with other institutions, as well as management quality of board In a rather extensive scope, the profitability could be referred

as being driven by both external and internal determinants On one hand, the internal factors or so-called controllable factors relates to internal management which aims to produce expected profit On the other hand, the external factors including macro determinants and bank specific ones are seen

as beyond the manipulation capacity of the banks As far as the study concerns about the focus on profitability management at bank level, it would merely include internal determinants into account for better relevancy The

on loan This is also known as net interest income However, there are also cases where bank charge no interest, such as checking account deposit In normal course of business, commercial banks always charge an interest higher than what is paid to depositors Similar to other commercial business, the profit is calculated after deducting the expense paid for bank operation including staffing, renting, utilities from revenue

As far as internal determinants are concerned, the DuPont model is proposed

to be examined as this framework reflects best the nature of profitability in firm-level management The model literally sources from the Return on Equity (ROE) as the cornerstone, before expanding to wide number of other profit indicators (Li &Zou, 2014) In particular, ROE is decomposed to Return on Assets (ROA) which is in turn split down to asset turnover and net profit margin Though the further breakdown provides more specific profit measuring methods, the research would adopt Return on Equity and Return on Assets as the 2 major proxies of profitability First of all, these variables are most important variables which stand on top of the DuPont model Second of all, such variables are also widely adopted in previous research papers for representing profitability (Gizaw, Kebede&Selvaraj, 2015; Li &Zou, 2014)

1.2.2 Indicators of bank profitability

The most common way to measure bank profitability and overcome the limitations of net income is through ROA and Return on Equity (ROE)

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(Mishkin & Eakins, 2012) ROA and ROE are convenient methods to measure bank profitability These two factors demonstrate how effective a bank is to use its assets or equity to make a profit The bank's ROA and ROE are calculated as follows:

Return on Equity (ROE)

Return on equity measures the profitability for each dollar of capital equity contributed by shareholders (Gizaw, Kebede and Selvaraj, 2015) In a broad scale, ROE reflects the efficiency of converting capital investment into profit; hence it is preferred by stockholders to be as high as possible However, in aspect of risk control, attempt to maximize return of equity might result in significantly greater risks faced by the bank A particular example is relative reduction of equity against net income, which would eventually induce possible violation to minimal regulatory capital whereas rising risk of insolvency (Misker, 2015) It is therefore required careful setting of ROE to maintain the balance For computation, ROE is calculated through the division of net income by total shareholder‟s equity, multiplied by 100

Return on Assets (ROA)

Return on assets measures the profitability relative to total assets owned by the bank In simple norm, it helps indicating the efficiency of transforming given assets into profit Sharing the same notion as turn on equity, the return on assets

is assumed to hold a positive relationship with level of profitability in the course

of profit maximization, though this is not always the case The ROA can be retrieved by dividing net income by total assets, multiplied by 100

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Overall, the return on assets and return on equity are majorly adopted as the indicators of profitability in most of studies; given the genuine reflection of profit making capacity of the business over certain period However, it is unnecessary for both of them to reflect the same result in testing relationship

of profitability with corresponding factors Therefore, it is important for including both of 2 variables in the analysis to bring about more comprehensive view

1.2.3 Internal factors effecting the bank profitability

Non-performing loan (NPL)

Non-performing loan, which is commonly referred to as the amount of payment remaining non-performed after maturity (Charles, 2001), is seen a typical h problem in wide range of articles Therefore, non-performing loan ratio which is taken from ratio of non-performing loan to total loan, should be able to indicate status of credit risks Maxwell and Peter (2016) claim that the increasing non-performing loan ratio comes with message of probability that the bank would not be able to recover the payment Consequently, commercial bank encountering higher non-performing loan level would probably see great financial loss and eventually realize lower profit after all

As a result, there should be negative relationship between bank profitability and non-performing loan rate (Messai&Jouni, 2013); giving sense for bank to drastically control such type of bad debt Nevertheless, Pasha and Khemraj (2009) oppose this relationship as he argues that the complicated definition of non-performing loan might distort the way this indicator to be recorded Therefore, the measurement of non-performing loan might be inconsistent across the countries with different regimes of bad debt recognition In fact, though calculation of non-performing loan is purely standardized, the complicated definition of overdue term for non-performing loan is the factor

of confusion Particularly, while the standard overdue term in International

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ground set by International Monetary Fund (2005) defines a minimal line of

90 days for credit risks to be recognized, it was found that the term varied significantly across the countries where past studies were conducted Specifically, the due for non-performing loan recognition on Russia is defined

as just 30 days, compared to 60 days in Estonia and Lithuania (Iuga&Lazea, 2012) Such difference in deadline may significantly contribute to the actual level of non-performing loan In Vietnam, the standard of non-performing loan is referred as in Decision numbered 493/2005/QĐ-NHNN by Vietnam Central Bank, wherein 90 days overdue is qualified for non-performing loan record Such compliance to international standard would facilitate the comparison with other studies better

Capital Adequacy Ratio (CAR)

The capital adequacy ratio refers to the level of equity held by the bank to secure it from the risks arise from credit transaction For its nature, capital adequacy ratio is considered as the reserve which protects depositors and banks from unexpected loss The capital adequacy ratio originally stems from regulation of Basel Accord, with regulatory minimum of 8% It is assumed that the reserve would enable bank to prevent financial loss; hence in long term the profitability should be guaranteed at certain level This is evidenced in the study of Olalekanand Adeyinka (2013) where it was found quite a positive relationship between the capital adequacy ratio and profitability On the other hand, it is also criticized that the reserve could prevent the bank from fully operating at 100% capital capacity; thus far driving profitability to be lower in short term where higher reserve is required (Gizaw, Kebede&Selvaraj, 2015)

In general term, the inclusion of capital adequacy ratio in batch measuring credit risk is compulsory as long as this variable reflects the true nature of credit risk management practice as well as the regulatory attempt to bring forth

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more stable operation of commercial banks in long term This is therefore essential to be included in the set of variables of this study

Loan to deposit ratio (LDR)

Loan to deposit ratio is adopted to measure the liquidity of bank in the wake

of profit maximization According to Gizaw, Kebede and Selvaraj (2015), the variable indicates whether commercial bank may withstand when depositor withdraw as well as when bank meet market loan demand via cash asset reduction The concept of liquidity in relation to credit risk management implies that a more liquid bank should be less likely insolvent before massive credit risks Especially, it is advocated by Misker (2015) that the systematic credit risks which often derive from financial crises demand would pose real challenge for the bank liquidity On the other hand, the profitability should not be high in case bank remains too secured Accordingly, the nature of risk taking and profit maximization make it difficult to determine a sufficient level

of liquidity among commercial banks (Misker, 2015)

Loan Loss Provision ratio (LLPR)

While capital adequacy ratio grants protection to depositors against unexpected loss, the loan loss provision reserve gives protection toward anticipated loss (Gizaw, Kebede and Selvaraj, 2015) Considering the essence of loan loss reserve as the contra income account, it literally enables expected loss

to be recognized in profit and loss statement As a result, high loan loss provision ratio should normally indicate lower profit and in report though the inclusion has not certainly reported deduction to the final profit In normal course, the loan loss provision is treated in quite various ways, including earning management or income soothing (Gizaw, Kebede and Selvaraj, 2015) However, its robust implication should reflect the belief of managers for quality of assets Accordingly, loan loss provision should increase when quality of asset drops and vice versa In this study, the variable Loan Loss Provision would be adopted to

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identify expectation for asset quality as a mechanism of credit risk management LLPR= the loan loss reserve / total loan balance

Total assets (TA)

It is argued by Misker (2015) that the assets should hold positive relationship with bank profitability This perspective is in line with the conclusion of Olalekan and Adeyinka (2013) who refers to assets as the mean of profit making Accordingly, bank with greater value of assets might find it easier to engage in the large investment or large scale financial operation, which in turn should fetch a greater profit to the bank This point of view, however, is opposed by Iuga and Lazea (2012) as the author advocates that the greater risk in large scale project should cancel out the greater profit that bank may subject to This argument is developed on the basis that there is always balance between the extent of risk and profit in any size of business Therefore, it is invalid to argue that the greater bank should be more effective

in profit making

Dividend ratio: (DR)

Nevertheless, Pasha and Khemraj (2009) argue that the dividend paying ration shows clearly how well the firm is making profit Accordingly, only high profitable firm with positive financial records may offer high dividend paying ratio to stimulate the investors However, one should also see that a profitable firm is not necessary to pay out high dividend but to retain the dividend payment for achieving further in the long run For this reason, the dividend paying ration might even drop when bank profitability is high, as long as the opportunities are worth the attention from the bank

1.2.4 Other external factor effecting the bank profitability

However, it can be seen that usually determinants of bank profitability are divided into two groups which are the internal or banks specific group and the external or macro-economic group Internal factors are related to the bank

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management level and are controllable The internal factors can be different between different banks Meanwhile external factors are uncontrollable since they are about the market and economy condition which can have the same effect on every banks In addition to the internal factors mentioned above, there are some external factors effecting the bank profitability such as:

Annual growth of GDP

There are mixed results regarding the effect of economic growth which is measured by GDP growth on profitability Nevertheless, it is believed that the loan portfolio as a majority of bank assets can be negatively affected by the bad economic conditions A low asset quality can force the bank the make banks increase the provision that reduces the bank reported income On the other hand, when the economy experiences positive growth, banks can benefit from the improvement of customers‟ business and credit solvency (Athanasoglou et al., 2008)

Inflation rate (INF)

Recent studies all suggested that inflation rate has a positive relationship to banks‟ returns When the inflation rate is high which lead to higher risk, the bank‟s management level anticipates inflation expectations and adjust interest rates of lending and borrowing to achieve higher profits

1.1 Developing the Hypotheses and conceptual model

From the perspective of bank definition, it is important to see that a bank with multiple function as BIDV would make it hard for the examination of profitability, given the pure fact that the elements of commercial function differ vastly from those of investment field Furthermore, the profit flow from investment also has longer term of maturity, making it hard to give out practical implications To ensure the focal point and efficiency of this study in understanding the profitability of BIDV, it is suggested to concentrate on commercial bank aspect only In the other words, the study would omit the

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profit flow from investment activity and would merely track the profitability

of BIDV from the deposit and lending operation This limitation of study scope also helps improving the effectiveness of making comparison of BIDV performance with other commercial banks, since the number of investment bank in Vietnam is highly scarce and limited function

The above discussion reveals that the profitability of commercial bank is controlled by a wide range of elements which vary significant across the different cycle of economy When it comes to details of each element, there existed dispute on how the profit of commercial bank would correspond with the changes of the element itself, as well as the relative correlation of the elements For instance, one might wonder whether it is better off to announce high dividend ratio for creating positive financial indication so that performance of the subsequent period would see a rise or would it be better to delay dividend payment to facilitate profit making capacity The same question might be raised for other indicators of the bank, with each constituting the important decision making by bank Meanwhile, the existing literature in Vietnam remain limited which make it hard for the manager to refer to and to develop a relevant strategy in attempt of profit maximization For such as bank with diversified operation as BIDV, the shortage of theoretical support makes every decision a risky bet to the bank

By way of conclusion, controversy over the relationship between factors of profitability suggests that it is important to access full understanding on the practical research The study with employment of secondary data is required

to reflect the current profit making capacity of typical Vietnamese bank as BIDV as well as related factors acting as forcing determinants

Based on the factors retrieved from literature, the study comes to the hypotheses that:

ROAt: Return on Assets at time t

ROEt: Return on Equity at time t

β0: Constant term

β1- β4: Coefficient of variables

NPLRt: Non-perfoming Loan ratio at time t

CARt: Capital Adequacy ratio at time t

LDRt: Loan to Deposit ratio at time t

LLPRt: Loan Loss Provision ratio at time t

LnTAt: Natural Logarithmic Total Asset at time t

Given the position of the bank, BIDV has expanded its network across Vietnam as well as having commercial presence in various countries around the world The operating field of BIDV has been quite diversified, ranging from finance, banking to insurance, providing a complete range of financial services, regarding currency, credit and other non-banking services Especially, unlike other commercial banks, BIDV also features agency funding projects those take place domestically or internationally To attain and maintain its competitive edge in an ever fierce competition of the banking sector, BIDV has been initiative in resorting to the comprehensive technological infrastructure of modern banking Especially, the period of

2007 onward witnesses the leading position of BIDV in Vietnam ICT Index,

Figure 2.1 – BIDV ROA & ROE from 2006-2017

(Source: BIDV annual report)

ROA (Return on Asset) is calculated as net profit divided by total assets

This is a financial ratio that shows the percentage of profit that company earns

in relation to its resources This indicator shows the quality of asset management The larger the profit, the greater the ratio ROA of BIDV has been maintained stably at nearly 1% over the years, then has been down from 1.04% in 2009 to 0.63% in 2017 The decline was strongly influenced by business environment While these years of economic crisis, almost businesses were at risk of bankruptcy but the bank's efforts maintained the

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 ROA 1,98% 1,27% 1,25% 0,94% 1,13% 0,83% 0,79% 0,78% 0,83% 0,85% ROE 15,33% 15,20% 13,60% 21,05% 17,96% 13,20% 12,38% 13,84% 15,27% 15,40%

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stability ratio in the acceptable level of fluctuations This illustrates the ability

of banks to operate the business and its ability to manage its assets effectively

In addition, because BIDV‟s Total assets increased rapidly in this period also made ROA ratio decrease

ROE (Return on Equity) is a profitability ratio that measures the ability to

generate profits from its shareholder investments in the company This indicator shows the performance of the company.ROE has significant fluctuation in the range of 13-18%, which is more remarkable when compared

to ROA fluctuation Of which, there have been 2 distinct periods to be recorded (BIDV, 2017) ROE reached the highest level in 2009 with 18.41% and gradually down to 17.96% in 2010 Notably, the bank profit rocketed despite serious damage from financial crisis in 2008-2009 period By the end

of 2011 when the ending joint stock process, the amount of equity increased, especially the rapid increase of chartered capital that led to a sharp decline in ROE to 13.20% and to 12.38% in 2012 (BIDV, 2017)

Despite such backward step, BIDV still stands among the banks having top profitability in Vietnam In fact, Tran (2015) advocates that the poor profitability of BIDV partly refers to domestic recession in 2011-2012 which set the long term effect on economic growth In fact, the downward trend is also the common pattern of all Vietnam commercial bank in this period, as ROE sector averaging at 9.56% in 2012 compared to 14.19% in 2011 (KPMG, 2013) Thus, from ROA and ROE we can see the effectiveness of banking operations in the past period and especially can see the dramatic changes in the size and structure of BIDV

The ROA and ROE ratios have always been improved and reached the normal level The income structure has shifted in positive direction Notably, the bank profit rocketed despite serious damage from the financial crisis in 2008-2009 period From 2011 onwards, the profit of BIDV has been on a declining trend,

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hitting the bottom of 12.38% ROE in 2012 Despite such backward step, BIDV still stands among the banks having top profitability in Vietnam In fact, Tran (2015) advocates that the profitability of BIDV partly refers to the domestic recession in 2011-2012 which sets the long term effect on economic growth In fact, the downward trend is also the common pattern of all the commercial banks in this period, as a sector at 9.56% in 2012 compared to 14.19% in 2011 (KPMG, 2013) Considering the fact, it is important to see that the performance of BIDV was still above the average line, recording the effort of the board in maintaining competitiveness

As a result of the implementation of strategic objectives and restructuring in the period 2012-2017, BIDV's growth over the past five years is impressive and comprehensive in all indicators with high growth rates (average 17% / year), compared with a number of specific targets: total assets increased more than 2.1 times, capital mobilization increased 2.5 times, outstanding loans increased 2.6 times, outstanding retail sales increased about 4 times, profit before tax increased 1.7 times On the networking, BIDV has 182 first-level branches and nearly 800 transaction offices across the country, increasing 63 branches and 284 transaction offices as compared to 2011 (Cong An, 2016)

In the past five years, BIDV has strengthened cooperation with domestic and foreign organizations, "paving the way" in investment activities abroad, strengthening international economic integration and comprehensive

Be proactive, actively integrate into regional and international financial market; secure, sustainable and effective credit growth, focusing on priority areas of rural agriculture, export, supporting industries, SMEs, high tech enterprises; dealing with bad debts with integrated solutions and measures; develop and diversify the list of products and services; establishing and effectively implementing the international economic integration strategy of

(Source: BIDV annual report)

As we have known that, the bank's operations always have risks There have major risk factors in every credit, deposit or payment transactions so the ability to accept and control risk or bad debt presents the credit quality, quality of the bank‟s operation

From the table above we also see that the NPL ratio is always under control at 3%, slightly increase to 3.03% % in 2012 However, the control under 3% is still

a positive point of BIDV in the quality of controlling non-performing loan According to the statistic in Table above, we can see that the equity of BIDV increased sharply in this period due to many reasons such as increasing chartered capital, the bank's funds increased sharply, the results of annual contributed profits led to the CAR of BIDV is always over 8% From 2009 to

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2017, CAR has always been above 9%, ensuring the minimum requirements

of the State Bank CAR was not increased but remained stable because BIDV used capital to increase its assets and expand its business activities to increase profit

LDR from 2014 to 2017 around 90%, nearly ensuring the minimum ratio prescribed by the State Bank of Viet Nam

LLDR well controlled, proving that bad debt is strictly controlled

This ratios shows the bank's ability to operate and its credit quality is extremely effective

Effectiveness Criteria

The main purpose of the bank's operation is trying to create profit, so the efficiency of the bank is reflected in its profit after each financial year This also means that the bank must find ways to maximize total revenue from operations and minimize costs, but still ensure the safety and fulfillment of other criteria

In the period of 2006- 2017, BIDV has continuously increased in value of income from financial activities Although minimizing costs is one of the essential purposes, banks always have to increase their reserves and operating expenses to secure their assets and credits that can help them handle the difficult conditions By doing so, BIDV can affirm the prestige of the bank with their customers and investors In particular, the cost of credit loss provision increased sharply from 1,437 billion VND in 2006 to 5,293 billion VND in 2010 and11,349 billion VND in 2017 Moreover, the most important

is the profit before and after tax should be always guaranteed to increase stably every year In 2006, pretax profit was 1,112 billion VND and increased

to 8,665 billion in 2017 Similarly, the net profit of owners reached a peak of 1,001 billion in 2006 and increased to 6,786 billion VND in 2017

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Figure 2.2 – BIDV Profit before and after tax from 2006-2017

(Source: BIDV annual report)

Moreover, the asset size growth with reasonable structure Total assets of

BIDV have continuously increased from 161,223 billion VND in 2006 to

1,202,284 billion VND in 2017 BIDV is always the top among banks with

the largest total assets in Vietnam The largest proportion of total assets is

credit activity This is the main income generating activity for the bank

Although the impact of the global recession leading to the financial situation

of customers as well as banking business is negatively affected, BIDV's credit

quality has been improved remarkably After all the efforts during the

financial crisis before 2010, BIDV has reached their goals as increasing in the

profit from 2010 to 2017 as the numbers given from the figure 3

0 1.000 2.000 3.000 4.000 5.000 6.000 7.000 8.000 9.000

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Profit before Tax 1.112 2.028 2.369 3.605 4.625 4.220 4.325 5.290 6.297 7.473 7709 8665

Profit after Tax 1.001 1.529 1.997 2.818 3.758 3.209 3.265 4.030 4.948 5.882 6229 6786

Profit before Tax and Profit after Tax of BIDV (Bil VND)

Profit before Tax Profit after Tax

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Figure 2.3 – BIDV Total assets and Owner’s equity

(Source: BIDV annual report)

In the liquidity, The Government implemented a policy package to stimulate interest The size of credit growth is greater than that of capital growth leading to difficulties in liquidity, competitive pressure share market that led banks to slow down growth The indicators of deposit growth, debt to capital ratio, and ratio of liquid assets to total liabilities, customer deposits to total liabilities of BIDV still ensures the liquidity and capital growth Moreover, BIDV always determines safety liquidity and capital growth are top priority tasks BIDV's liquidity management is carried out daily through the strict management of cash inflows and outflows in the whole system for each currency Frequently analysis, evaluation, forecasting and commendation on market situation to timely provide solutions Therefore, BIDV is always active and flexible for all situations in ensuring security and liquidity for the whole system

161.223 204.511 246.519 296.432 366.267 405.755 484.785 548.386 650.340

- 200.000 400.000 600.000 800.000 1.000.000 1.200.000 1.400.000 2006

as 10% since 2015

Figure 2.4 – Comparison of BIDV and Vietinbank profitability

(Source: BIDV and Vietinbank annual report)

While the aforementioned quantitative analysis helps revealing the most important variables to Vietnam commercial banks to consider when attempting to maximize profitability This section will provide an insight into the profit making operation of BIDV over the period to examine the efficiency of profit making in BIDV For practical implications, the comparison with Vietinbank will be made where relevant to judge the efficiency of financial performance conducted by BIDV A quick glance at the figure show that profit of Vietinbank and BIDV tended to oppose to each

0,00% 5,00% 10,00% 15,00% 20,00% 25,00% 30,00%

Comparison of Vietinbankv.s BIDV profitability

BIDV ROA Vietinbank ROA BIDV ROE Vietinbank ROE

26

other, though the pattern of change in certain periods could somewhat resembled each other Over a course of 15 years, it was seen that BIDV outran Vietinbank in most of the time, except before 2007 and after 2013 In particular, the period from 2007 to 2013 marked the sustainable growth of BIDV as the bank did not only develop new credit products and services to meet the changing demand of the market but also implement changes in credit management model This immediately brought about positive improvement in the financial performance of BIDV but also leverage the bank position to be the leading bank in Vietnam Notably, the sharp growth of BIDV profit indicators was mostly captured between 2008 and 2011 as the boom of stock market stimulated demand for investment fund

Despite capturing a higher profitability than BIDV prior to 2007, the following period saw quite poor performance in Vietinbank with ROE dropped to as low as 10% since 2014

Figure 2.5 – Comparison of BIDV and Vietinbank CAR

(Source: BIDV and Vietinbank annual report)

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 BIDV CAR 8,65% 7,85% 8,94% 9,54% 9,32% 11,07 9,65% 10,23 9,35% 9,07% 9,50% 9,34%Vietinbank CAR 5,80% 11,62 11,20 8,60% 8,00% 10,57 10,33 13,20 10,40 10,60 10,40 10%

Capital Adequacy Ratio

BIDV CAR Vietinbank CAR

27

In fact, the focus on keeping high capital adequacy reflects attempt of Vietinbank in securing better risk coverage, yet it is not sufficient to cover the shortcomings of this bank in credit risk evaluation In a close comparison to BIDV, Vietinbank still exercise decentralized appraisal mechanism, which give too much jurisdiction to branch in granting and appraising credit (Nguyen, 2016) Consequently, a vast majority of profit has been gone to reserve or deduction for non-performing loss According to Kagoyire and Shukla (2016), decentralized appraisal has the advantages in keeping high flexibility for banking operation as a greater frequency of assessment can be made, enabling bank to conduct more lending transaction than the counterpart This partly explains why Vietinbank could maximize the lending volume in the boom stage of economic cycle between 2008 and 2011 This is also evident in the fact that Vietinbank maintained very high loan to deposit ratio, despite the higher underlying risk The bank appears to follow an intensive lending strategy which deliberately pursued profit when the market demand went up However, Vietinbank had also to assume greater risk with this approach (Nguyen, 2015) According to Le and Pham (2017), the problem with strategy of Vietinbank was revealed in the period when the hype

of market was over It was turned out that a lot of loan became performing after 2011; thus the profit of Vietinbank was severely affected On the contrary, BIDV implemented a rather sustainable strategy with more careful lending operation (Nguyen, 2016) In fact, the lending strategy also granted BIDV a better performance with not only less risk but also higher profit on average The heart of strategy implemented by BIDV was the centralized appraisal which safeguarded the bank from credit risk In fact, the centralized appraisal has been the key factor which allows BIDV to outperform Vietinbank in profit making Thanks to this mechanism, BIDV has successfully maintained relatively low credit risk; hence the loss from

non-28

non-performing could be minimized, contributing majorly to higher profitability Apart from that, loan loss provision of BIDV was also significantly lower than that of Vietinbank in the period The below figure demonstrates that BIDV needed to set fairly lower reserved amount for covering credit loss than Vietinbank in most of the period between 2008 and

2014 The situation was only better for Vietinbank when it implemented the centralized appraisal system since 2014, followed by better credit management For this, not only loan loss provision but the non-performing loan rate of Vietinbank saw significant drop

Figure 2.6 – Comparison of BIDV and Vietinbank NPL & LLR

(Source: BIDV and Vietinbank annual report)

By contrast to the improvement in Vietinbank, BIDV tends to experience higher non-performing loan in 2014 onward, followed by the rising loan loss provision in the later year In 2014, BIDV non-performing loan rose significantly compared to 2013, causing the upsurge in loan loss provision to approximately in the following years to cover up the loss The major problem for BIDV derives from ineffective market diversification which put too much

0,00% 0,50% 1,00% 1,50% 2,00% 2,50% 3,00%

Comparison of Vietinbank and BIDV : NPL & LLR

BIDV NPL Vietinbank NPL BIDV LLR Vietinbank LLR

29

pressure on the centralized appraisal system of BIDV (Nguyen, 2015) As a result, it appears that the centralized appraisal is good practice to a certain extent; yet the long term growth requires bank more sophisticated strategies and practices of credit management to improve stability in bank performance According to Kagoyire and Shukla (2016), the centralized appraisal provides good security to the bank in short term, especially during crisis but it somehow deters the expansion of commercial bank in the long run Indeed, the credit performance of BIDV worked fairly well in both global and domestic crisis in 2008-2009 and 2011-2012, but it struggled to remain competitive when Vietnam economy recovered in 2013-2014 Furthermore, the diversification strategy of BIDV faced challenges when the decision making right was kept in the Headquarter According to Nguyen (2016), the heavy reliance on the headquarter decision made BIDV fail to meet the market demand which has changed at a faster pace than it was in the past Additionally, the centralized authorization made the implementation of diversification in bank branches far less flexible than the competitors Provided that each local branch also requires different approach to customer

in line with regional culture and behavior, the absence of jurisdiction in local level made it hard for BIDV to run the relevant marketing campaign tailored

to specific subset of customers For the aforementioned analysis, it is apparent that the actual performance of BIDV itself supported the findings of quantitative analysis Accordingly, it supports that bad debt and the loss loan provision indeed played the crucial role in determining the profit making performance in BIDV, whereas the other indicators merely casted random effect on the bank Especially, it was also confirmed that capital adequacy ratio merely secure the bank stability rather than adjust bank profitability in a direct basis All in all, a practical solution which is necessary for BIDV to address the existing low profit performance should be developed upon solving

30

bad debt in the bank Once this can be done, the profit of the bank can be assured to meet its objective The practical measures will be discussed in detail in the later section

2.3 Potential determinants of profitability of BIDV

Based on the above analysis, we can again summarize the factors and their effect on determinants of profit in BIDV as shown in the table below:

Table 2.2 - Dependent variables on profit in BIDV

Expected effect

Internal

factors

Loan Loss Provision ration LLPR -

External

factors