- There's no 'revenue':-Banks generally prefer to club interest & other income into an omnibus 'operating income' category. This also reflects the ground reality of shared infrastructure, common staff and management where legally distinct entities in retail banking, trading etc are managed together. While breakup of operating income is there in the notes, that is not much useful
- Distinguish 'Operating Income' from 'Operating Profit':- Operating income is a proxy for REVENUE but operating profit means EBIT. These are NOT the same.
- Gross interest is meaningless- Look at 'Net interest expense/margin':- Considering that banks generally lend basis their own borrowings, net interest income(Interest Income minus interest expense) is a good lever on the competitive position of a bank(when compared to other banks)
- Operating Expenses only(not S&D etc):- In the service sector where majority costs are fixed, the conventional breakup into S&D/Admin does not make much sense and so the title comes 'Operating Costs'. Increasingly, companies like Vodafone are following this for their expense reporting
- Look at average assets NOT year end ones for ratio analysis:-After Lehman's infamous repo 105 gimmick, it becomes important to know the average numbers on the balancesheet. Good banks should typically report this.
- Return on Assets(RoA) is better than RoE:- A bank uses all its assets(not merely equity) and a good measure of operating performance is RoA. RoE merely signifies how lucky the bank was with its capital structure decision. In a volatile market, good RoA stay but if interest rates swing, the impact on RoE would be more due to the financial leverage involved. So, RoA is a good measure.
- Note the key moves in/out of the bank:- Banking, specially investment banking, is still a more people than process driven one(if you exclude retail banking). So, key people make much more difference here than in say auto/steel. While this is true of any service oriented business, banking is emphasized because relationship profitability is quite high here, also because too many outward moves to other banks may indicate losing competitive position.
- P/BV works for lending business not advisory:- The rationale for P/BV is that banks can use their book value to lend more. But for advisory business like trading, investment banking etc, the P/E/ MCap/Turnover may be a better way to analyze.
Saturday, January 22, 2011
Analyzing financial statement of banks-some pointers
As an avid investor(and MBA student), I track a few banking stocks(both Indian and global). Considering the rather complex/opaque reporting, it is often difficult (for someone used to non-financial stocks) to make sense of this all. Investopedia provides a good base with its article on analyzing bank financials and its banking industry handbook but there's more to know.