ISLAMIC FINANCEA SOLUTION TO THE CRISIS OR A CHOICE WITH

LIMITED SCOPE

By

Besarta Tafa

PhD. Ioannis Tampakoudis

A THESIS

Submitted to

SHLUP “Instituti Kanadez i Teknologjisë”

CANADIAN INSTITUTE OF TECHNOLOGY

Faculty of Economy

Department of Business Administration

In partial fulfillment of the requirements for the degree of:

Master of Science in Business Administration

Submitted on July 13, 2015

Approved:

PhD. Ioannis Tampakoudis__________________

PhD. Arjan Kadareja_______________________

I understand that my thesis will become part of the collection of Canadian Institute of Technology. My signature below authorizes release of my thesis to any reader upon request. I also affirm that the work represented in this thesis is my own work.

Besarta Tafa _________

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Title of thesis:

Islamic finance. A solution to the crisis or a choice with limited scope?

Abstract:

The current US financial crisis was a hard experience which affected the entire world

economy. Even nowadays, its effects are still being felt. The purpose of this study is

to give an explanation to the major factors which caused it and to provide an

alternative solution to this problem. It is focused on the context of Islamic Banking

and Finance, demonstrating the healthy conditions of many Islamic banks during the

crisis.

The thesis is divided into two parts; in the first part, the main causes of the current US

crisis of 2007-2008 are extensively analyzed. Then, the principles and philosophy of

the Islamic Finance, Islamic Financial Products and Islamic Banking are presented.

The second part contains a comparison of the Balance Sheets between samples of

conventional banks with a corresponding sample of Islamic ones. The analysis is done

using financial ratios as well as descriptive statistics.

In general, the results show that the financial crisis begun due to multiple factors,

mainly as a result of the “subprime loans” and the hiding of the complex risky assets

especially by Anglo-Saxon financiers. Indeed, The Economist stated “they claimed to

have found a way to banish risk when in fact they had simply lost track of it” . The

Islamic Finance and Banking has been somehow immune to these occurrences because

of their special way of functioning.

As a conclusion, it could be argued that applying the Islamic principles might have

prevented such a crisis. It can really be a robust solution for recent and futures

economic turmoil arising from the burst of the crises.

Keywords:

financial crisis, Islamic Banking, Islamic Finance, financial ratios, descriptive

statistics, subprime loans, Islamic principles,

Table of Contents

INTRODUCTORY OBSERVATIONS AND THE THESIS OBJECTIVES..................................5CHAPTER1: ISLAMIC FINANCE FRAMEWORK.............................................................61.1. WHAT IS ISLAMIC FINANCE?...............................................................................61.2. ISLAMIC FINANCIAL PRODUCTS...........................................................................7CHAPTER 2: EMPIRICAL ANALYSIS..........................................................................162.1. DATA AND METHODOLOGY................................................................................162.1.1. ISLAMIC BANKS..............................................................................................172.1.2. CONVENTIONAL BANKS..................................................................................242.2. ANALYSIS AND RESULTS....................................................................................342.2.1. TIER 1 CAPITAL RATIO..................................................................................362.2.2. TOTAL CAPITAL RATIO..................................................................................372.2.3. LOANS TO DEPOSITS RATIO............................................................................382.2.4. ROA...............................................................................................................392.2.5. ROE................................................................................................................402.2.6. EFFICIENCY RATIO..........................................................................................412.2.7. NPL RATIO.....................................................................................................43CONCLUSIONS...........................................................................................................44

List of acronyms ROA…………………………………………………………………………………………………………………………...Return On Assets

ROE……………………………………………………………………………………………………….......................Return On Equity

NPL…………………………………………...............................................................................Non-performing loans

RHB Bank………………………………......................................................................Rashid Hussain Berhad Bank

CIMB………………………………………………………………………………….Commerce International Merchant Bankers

HSBC……………………………………………………………………….…….Hong Kong and Shanghai Banking Corporation

RBS……………………………………………………………………………………………………………….…..Royal Bank of Scotland

BNP Paribas………………………………………………………………………….…………Bank of Paris and the Netherlands

MUFG………………………………………...............................................................Mitsubishi UFJ Financial Group

US………………………………………………………………………………………………………….…………………………United States

UK………………………………………………………………………………………………………………….……………United Kingdom

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List of figures

FIGURE 1- MUSHRAKAH CONTRACT................................................................................................................7FIGURE 2-MURABAHAH CONTRACT.................................................................................................................9FIGURE 3-SALAM CONTRACT.......................................................................................................................11FIGURE 4-ISTISNA CONTRACT.......................................................................................................................13FIGURE 5-IJARAH CONTRACT.......................................................................................................................14

List of tables

TABLE 1-ISLAMIC BANKS TOTAL ASSETS................................................................................................17TABLE 2- BANK ALBILAD PERFORMANCE RATIO....................................................................................18TABLE 3- RHB ISLAMIC BANK PERFORMANCE RATIO............................................................................19TABLE 4- KUWAIT FINANCE HOUSE PERFORMANCE RATIOS...................................................................20TABLE 5- MYBANK ISLAMIC MALAYSIA PERFORMANCE RATIOS............................................................21TABLE 6- DUBAI ISLAMIC BANK PERFORMANCE RATIOS........................................................................22TABLE 7- ABU DHABI ISLAMIC BANK PERFORMANCE RATIOS................................................................22TABLE 8- QATAR ISLAMIC BANK PERFORMANCE RATIOS.......................................................................23TABLE 9- CIMB PERFORMANCE RATIOS..................................................................................................24TABLE 10- CONVENTIONAL BANKS TOTAL ASSETS.................................................................................25TABLE 11- JP MORGAN PERFORMANCE RATIOS......................................................................................25TABLE 12- BANK OF AMERICA PERFORMANCE RATIOS...........................................................................26TABLE 13- CITIGROUP PERFORMANCE RATIOS........................................................................................27TABLE 14- HSBC HOLDINGS PERFORMANCE RATIOS.............................................................................28TABLE 15- MITSUBISHI UFJ FINANCIAL GROUP PERFORMANCE RATIOS................................................29TABLE 18- BNP PARIBAS PERFORMANCE RATIOS...................................................................................32TABLE 19- BANCO SANTANDER PERFORMANCE RATIOS.........................................................................33TABLE 20- DEUTSCHE BANK PERFORMANCE RATIOS..............................................................................33TABLE 21- ISLAMIC BANKS PERFORMANCE RATIOS................................................................................34

List of graphs

GRAPH 1.TIER 1 CAPITAL…………………………………………………………………………………………………………………………42GRAPH 2.TOTAL CAPITAL...………………………………………………………………………………………………………………….....43GRAPH 3.LOAN/DEPOSITS…………………………………………………………………………………………………………….…………44GRAPH 4.ROA………………………………………………………………………………………………………………………………..…….45GRAPH 5.ROE………………………………………………………………………………………………………………………………….…..46GRAPH 6.EFFICIENCY………………………………………………………………………………………………………………………………47GRAPH 7.NPL………………………………………………………………………………………………………………………….….……….48

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Introductory observations and the thesis objectives

Recently, there is an ongoing increased interest for the notion of Islamic Finance. It is

a new concept in non-Islamic countries, but it is becoming widely accepted from the

market participants, especially in the financial market. Islamic Finance was introduced

in non-Islamic countries after the financial crisis of 2008. Apparently, the Islamic

finance was thought to be a choice for the problems that the financial crisis caused.

Many studies have been done about the Islamic Finance, showing interesting results

about it. Non-Islamic countries began to implement the Islamic Finance practices and

methodology. Nowadays, more and more countries are using it in parallel with

conventional finance. A special part of Islamic Finance is the Islamic Banking. It has a

different way of operating from conventional Banking. The bank products are in

compliance with the Islamic low (Shariah), differing from those of conventional

banks. They help their customers by financing their purchases or entering into

different investing contracts to make profits.

There is an extensive literature about the Islamic Finance in general and the Islamic

Banking in particular. Considering that it has been a trend recently in almost all the

countries, even in non-Islamic ones, many researchers have intended to further shed

light on the idea of Islamic Finance. According to Schoon (2009) the industry of the

Islamic Finance has been growing rapidly after the 2000s, while Siddiqui (2014)

asserts that Islamic Finance is an industry of trillion dollars with many financial

institution participating. Both authors suggest that it can be used as an alternative to

conventional Finance. Cosgrave (2014) provides evidence for the expansion of the

industry of Islamic Finance, revealing that its strong position in cash is the prevailing

factor for its growth. He highlights the fact that many investment funds have adopted

the Shriah compliance way of making business as their framework of an ethical

behavior.

As far as the banks' capital adequacy is concerned, the studies question the rationale

for Islamic banks to have restricted regulation for their capital requirements. Paldi

(2014) reveals that capital requirements should address the issue of liquidity risk for

Islamic banks. According to Ariss and Sarieddine (2007) Islamic Banks need less

capital requirements than conventional banks, since they act as agents on behalf of

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their depositors who rely on the trustworthiness of the banks' investment decisions in

order to collect their money back.

The aim of the thesis is to explain the way the Islamic Banks operate and the types of

the available contracts. Also, there is a theoretical comparison between Islamic

Finance and conventional Finance, highlighting their similarities and differences as

well as their advantages and drawbacks. Subsequently, there is an empirical

comparison between Islamic and conventional Banks, forming two samples with the

largest (by asset size) and most representative financial institutions. The comparison

was done by using the banks’ performance ratios for conventional banks1, while for

the Islamic ones we retrieved data from their financial statements. Considering that the

banking industry is the main pillar of the economy we examine if the application of the

Islamic framework in the banking system of the non-Islamic countries could be a

source of stability.

Chapter 1: Islamic Finance framework

1.1. What is Islamic Finance?

Islamic finance is a way of making financial transactions, in compliance with the

Islamic Law (Sharia). It is based on five principles which are:1 For conventional banks we used data from http://www.bankregdata.com/.

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1. Prohibition of interest. The interest or so called “riba” is prohibited by the

Islamic law. Therefore, all the transactions must exclude the interest in order to be in

compliance with Sharia. All the financial institution as well as other financial agents

give and take money with no interest included in any transaction. The legitimacy

under this principle is that the money itself must not generate money. It is believed

that this restriction will eventually bring a more efficient allocation of funds and a

more profitable use of them.

2. Profit/Loss sharing principle. According to this principle, all the parties in a

contract/transaction must share the profits as well as the losses incurred by an

investment. This is done by a predetermined ratio, agreed by all parties. It is more fair

for all either if the investment results in profits or in losses and no injustice exists.

3. Asset backed transaction principle. The transactions or contracts between

parties involved must be based on an underlying asset, which must be real and

tangible.

4. Prohibition to support some sectors. It is not permissible to invest in sectors

like gambling, alcohol and pork. Entering in gambling is linked to the prohibition of

pure speculation.

5. Prohibition of uncertainty. The principle of prohibition of uncertainty does not

mean that the investment must not be risky at all. In our world everything is risky and

we cannot eliminate it. The meaning is that it must not have uncertainty in the terms of

the contract.

1.2. Islamic Financial Products

Mudarabah

Mudarabah is an investment contract under which an entrepreneur manages the funds

of an investor who has no management right. The entrepreneur pledges to invest the

funds in a profitable investment, using his knowledge, time management and

expertise. If the investment results in profits, according to the “Mudarabah” contract

these profits are shared between the investor and the entrepreneur at a predetermined

ratio. If the investment results in losses, the only one who bears them is the investor,

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since the entrepreneur had nothing to lose, except his time. This does not imply that

the entrepreneur can act recklessly, since the investor can monitor and control him. If

the losses resulted came as a consequence of the entrepreneur fraud οr misconduct he

becomes personally responsible.

Musharakah

Musharakah creates a joint venture in which both parties provide investment capital,

entrepreneurial skills, and labor; both share the profit and/or loss of the activity

(Jamaldeen, 2012).

Figure 1: Mushrakah Contract

Investor A Investor B

Musharaka

1.Cash investment

1.Cash investment

2.Share of profits/ losses

The only difference from “Mudarabah” is that all parties invest their money, as share

of the total investment, and also bear the losses resulted by the investment. As in the

“Mudarabah” contract there is not a fix rate of return for the investor, only part of

gains resulted from the investment. In this type of contract there are two or more

investors. All of them, put cash investment in the contract. They also manage the

investment, providing to the entrepreneur the appropriate skills in order to succeed to

his investment project. If there are profits, the two investors share them at a

predetermined ratio, while the same exists in the case of losses.

Musharakah vs. Interest Based Financing

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1. In the Musharakah contract, the parties decide a ratio to share the profits, if any. On

the other hand, the interest based financing provides for the investor a fix rate of

return, which is the interest rate. Unlike the Musharakah, the interest based financing

enables income for the provider of capital, even though the investment results in

losses.

2. In Musharakah, apart from the profits, the parties share also the losses. As said

before, the profits are shared at a predetermined ratio, while the losses are set based on

the amount of the capital invested. On the other hand, in the interest based financing,

the investor does not bear any losses. He is separated from the investment.

3. According to the foregoing we can say that the Musharakah distributes the wealth

on an Egalitarian way, while the interest based financing can be unfair for both parties.

That is because, if the investment results in losses, is unjust for the entrepreneur to pay

the investor the fix rate of return, considering that the loss is not his fault. On the other

hand, if the investment results in huge profits, is unfair for the investor to take only the

fix rate and not to have the right to participate in the share of these profits.

Murabahah

Murabahah is a “Cost-plus financing - a contract sale between the financier or bank

and its client for the sale of goods at a price which includes a profit margin agreed by

both parties. As a financing technique, it involves the financier or bank purchasing

goods required by the client. The goods are then sold to the client with a mark-up.” 2

Figure 2: Murabahah Contract

2 http://www.islamic-banking.com/glossary_M.aspx

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Islamic BankSupplier Customer

1.Bank purchasesthe good

2.Bank pays the “purchase price”

3.Bank sells goodsTo customer

5.Deferred paymentof the “sale price”

4.The ownership transfers to the customer

First, the Islamic Bank enters into a contract with a supplier/manufacturer. The bank

purchases the goods from the manufacturer, paying the agreed purchase price. Then,

the bank enters into a second contract with a customer. The bank sales the goods to the

customer and the ownership are transferred to him too. The sale price is higher than

the price the bank paid to the manufacturer. It is predetermined in agreement between

the bank and the customer, as the “Purchase price plus a profit markup”. The bank

must disclose to the buyer the total cost of the goods and the profit is going to make.

Murabahah vs. short term loan

1. The subject matter of the Murabahah contract is the tangible asset. This is in

compliance with the principle of the asset backed transaction. In the short term

loan the subject matter is the money lent or borrowed.

2. The compensation for the investor in the Mudarabah is the profit margin (the

difference between the sale price and the purchase price). In the short term

loan, what the investor takes apart from the principal is the interest.

3. The rollover is not permissible in the Murabahah contract, while in the short

term loan it is usually applicable. The reason why it is not permissible in the

Mudarabah is that it is a kind of interest, which is prohibited according to

Islamic low. Its use in the short term loan is a result of the customer default of

payment in time. So the lender extends the time for the borrower to pay,

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meanwhile he charges a higher interest. In an attempt to solve the default

problem, this may lead to customer insolvency.

4. The Murabaha contract may require collateral but it is put after the goods are

purchased. In the short term loan the collateral is put at the beginning.

5. In the Murabahah the bank must be transparent regarding the costs and also the

profit margin it requires. In the short term loan no cost transparency is

required.

6. In the Murabahah the ownership of the goods is transferred to the customer the

time the purchase is made, as well as the liability of deferred payments. In the

short term loan the ownership of the money remains to the lender while the

borrower becomes liable of the principal and interest payments.

7. Risks involved in the short term loan are credit risk and interest risk. In the

Murabahah there is no interest risk while there is credit risk. Another risk is

that the customer may not buy the goods. There is also the commodity risk or

otherwise called market risk.

Salam

“Salam is a forward financing transaction, where the financial institution pays in

advance for buying specified assets, which the seller will supply on a pre-agreed date.

What is given in exchange for the advance payment of the price should not in itself be

in the nature of money. For the payment in advance, the contracting parties stipulate a

future date for the supply of goods of specified quantity and quality.” 3 

3http://www. financialislam.com/salam.html

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Figure 3: Salam Contract

Islamic Bank

Producer

Buyer

1.First SalamContractPrepaid Price P

2.Second SalamContractP + Margin

3.DeliveryandOwnership transfer

4.Delivery and ownership transfer

Initially, the bank enters into a contract with the producer/manufacturer. The bank

makes a prepayment of the goods. The producer pledges to deliver the goods at a

specified time, at a specified quantity. Then the bank enters into a second contract with

the customer. The price the customer pays to the bank is P + profit margin. This is the

gain the bank makes from this type of contract. When the goods are produced, the

producer has to deliver them to the bank. At the same time the bank delivers the goods

to the final customer. The ownership is transferred to him too.

This type of contract is used in order to provide capital to the manufacturer, who needs

it. But it is necessary that the producer specifies in advance the time of the delivery as

well as the quantity and the quality of the products. This is a procedure in order to

protect the buyer, since this type of contract is an exception from the rule of asset

backed transaction.

Salam vs. forward contract

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The Salam contract has similar features with the modern concept of the forward

contract. But they have some essential differences, since the Salam contract must be in

compliance with the Islamic low. More specifically:

1. In the Salam contract the payment is made in advance while the goods are

delivered in the future. In contrary, in the forward contract the payment and

also the delivery of goods is made in the future,

2. The purpose of the Salam is to provide capital to producer in order to facilitate

the production process. The purpose of the forward contract is hedging or

speculation from the change of prices in the market.

3. Forward contracts are subject to default risk while the Salam contract does not

face this type of risk since the payment is done at the beginning.

Benefits of Salam

1. To the institution. There are some benefits to the institution or the intermediary

which derive from the Salam contract. At first the intermediary takes a promise

from a third party to buy the goods. So, the final customer provides capital to

the intermediary. Furthermore, it can make gains from the difference in prices,

namely the profit mark-up. The number of contracts in which the intermediary

enters may be too big, so the profits it can make can be too high.

2. To the buyer. The information asymmetry makes it difficult for the investor to

decide which the best investment opportunity is or what the best think to buy

is. The intermediary, in this type of contract can make it easy for the investor to

choose. It has the ability to use the economies of scale and other tools to assess

the investment opportunities and, finally, to choose the most profitable ones.

3. To the seller. The seller of the goods has to produce theme before selling, but

sometimes it is difficult for the manufacturer to find the required capital. This

type of contract offers capital to the producer, providing liquidity. Moreover,

he doesn’t need to borrow funds, take a loan or issue a security, which above

all require interest to be paid. Even though there is still the risk that the costs

may increase in the future, he can lock on the minimum price for the goods to

be sold, so he can hedge his position.

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Istisna

Istisna is a contract of sale of specified goods that can be sold before the manufactured

products come into existence; an order to manufacture (for purchase) allowing the

buyer to pay the price progressively in accordance with the progress of a job or project

or against delivery in stages.4 This second type of forward sale contract allows an

Islamic financial institution to buy a project (on behalf of the buyer) that is under

construction and will be completed and delivered on a future date.

Figure 4: Istisna Contract

Islamic Bank Buyer

Manufacturer

1.First IstisnacontractPrice P

2.Second Istisna contractP -Margin

3.DeliveryandOwnership transfer

4.Delivery and ownership transfer

Firstly, the bank enters into a contract with a buyer. They agree that the latter will pay

price P for the goods that will be purchased. Then the bank enters into a second

contract with the producer. Since the bank provides immediate capital to the producer,

a discount is made to the bank. So the bank has to pay P – margin. The difference

between the price the bank receives from the buyer and the price it pays to the

producer makes the profit for the bank. When the goods are produced or the project is

finished, they are delivered from the manufacturer to the bank. Then the bank delivers

them to the final customer. The ownership is transferred to the customer too.

This type of contract is like the Salam contract; however, the main difference here is

that the intermediary enters firstly into a contract with the buyer and then with the

producer. In the Istisna contract, the banks' profit derives from the producer's discount,

while in the Salam contract it comes from the final buyer.

4 http://www.islamic-banking.com/glossary_I.aspx

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Ijarah

Ijarah is a form of a leasing contract in which there is a transfer of ownership of an

asset for a specified period for an agreed price. Instead of lending money on interest,

Ijarah allows a financial institution to make profit by charging rentals for the use of the

asset.

There are three types of Ijarah:

a) Ijarah Thumma Bai - Lease Agreement incorporating sale of the leased asset at

the end of the lease period.

b) Ijarah Muntahiya Bil Tamleek - Lease Agreement with option to own the

leased asset at the end of the lease period.

c) Ijarah Wa Iqtina - Lease Agreement with option to acquire the leased asset at

the end of the lease period. Often, it is used in the context of home purchasing.

Figure 5: Ijarah Contract

Buyer

Islamic Bank

Supplier 1.Bankpurchasesthe asset

2.Bank paysthe “purchase price”

3.Bank transfersthe usufructs

4.Cusomer pays the rent

Potentialtransferof ownership

The Islamic bank first buys the asset from the supplier. It pays the supplier the full

purchase price immediately. Then the bank enters into an Ijarah contract with the

buyer/customer. The bank enables the buyer the use of the asset. In exchange of the

asset used, the lessee pays the bank the rent. At the end of the contract the lessee must

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give back the asset to the bank. There exists the possibility that the ownership can be

transferred to the lessee.

Ijarah vs. conventional leasing

Ijarah contract and convectional leasing have some similarities as well as some

differences. Regarding the ownership, it is to the lessor in the Ijarah contract as well as

in the conventional leasing. There exists also the possibility of ownership

transferability at the end of the contract in both. In fact, the Ijarah is a short term

contract while the conventional leasing is a longer term one. Finally, the value of the

Ijarah doesn’t change but the value of the conventional leasing may change over time.

Sukuk

Sukuk is a financial certificate with similar characteristics to that of a conventional

bond, while the key difference lies on the assets backed. It represents a proportionate

beneficial ownership in the underlying tangible asset(s) of particular projects or

investment activity. Sukuk is similar to the traditional Western interest bearing bond,

which under the Sharia law is not permissible. The issuer of a Sukuk sells the

certificate to an investor, who then gives that back to the issuer for a predetermined

rental fee. The issuer also makes a contractual promise to buy back the bonds at a

future date at par value.

Advantages and disadvantages of Sukuk

There are some important advantages from the use of Sukuk to the financial system

and to the economy as well. Firstly, Sukuk promotes the share of risk between parties

who have their part into the investment. This enhances the due diligence and makes

the projects more profitable. Also, it helps the mobilization and investment of savings

by providing a very productive way of using them, stimulating growth and prosperity.

Based on the principle of asset backed transaction, Sukuk has an underlying asset. Its

existence creates a strong link between financial and productive flows, by making

profits in a real, tangible investment, and not making money from money. In addition,

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the risks are related to the real project, rather than to the activities which do not have

any real economic benefits. This makes the financial system more stable and enhances

the entire economy. The project can have great real returns which can cover the risks

undertaken. As disadvantages we can mention that the Sukuk are not standardized and

there are complexities to structure them.

Sukuk vs. conventional bonds

Sukuk is the name of the Islamic bond. Since it has to be in compliance with the

Islamic law, they have differences from the conventional bonds.

1. In a Sukuk investors are partially owners of the asset or of the project in which

they invest. In a conventional bond, the investor does not own any part of the

asset or does not take any benefit of the project. He just provides capital to a

borrower, receiving eventually the face value and the coupon payments,

irrespectively of the results of the project that is financed.

2. The unit of issue of the Sukuk is the share of the asset, depending on the

amount each of the parties has invested on the assets or the project. In the

conventional bond the unit issue is the share of debt. So, they own just the part

of the money they have lent to the borrower.

3. The price of the issue in the Sukuk is set based on the market value of the asset

or of the project to be financed. In the conventional bond the price of the issue

is set by the lender based on the creditworthiness of the issuer.

4. The reward of the Sukuk is the share of profits, while there is also the risk of

sharing losses of the capital invested. The reward that the lender takes in the

conventional bond is the face value plus the coupons. The risk it faces is the

default risk as well as interest rate risk.

5. There are no costs in the conventional bond while in the Sukuk there are some

costs related to the assets.

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Chapter 2: Empirical Analysis

2.1. Data and methodology

Considering that the nature of Islamic Banks and their way of operating is different

from the Conventional Banks, we tried to adjust the corresponding ratios, using the

most appropriate items in each case. The Tier1 Capital ratio and the Total Capital ratio

have been given from the bank itself in the financial statements. The ROA and ROE

are simply calculated as Net profit/Total assets and Net profit/Total Equity

respectively. Since in the Islamic Banks there are no loans, we used financing assets

and since there are no non-performing loans, impairment of financing assets is used.

Concerning the efficiency ratio, in some cases the total expenses were used since there

are no interest expenses, and where it has been disclosed operating expenses were used

as well.5

2.1.1. Islamic Banks

In our study eight Islamic Banks are taken into consideration. In terms of total assets,

the top three banks are Bank Albilad, RHB Islamic Bank and Kuwait Finance House.

In fact, they account for around 60% of the total assets of all the examined banks. The

remaining 40% is shared among the other five banks which are smaller regarding their

asset size. The weights help to better assess the ratios which will be analyzed and also

to understand the impact that the biggest banks have on each ratio.

Table 1: Islamic Banks total assets

Bank Name Tot. Assets($ Bill) Weight

Bank Albilad 79 24.98%RHB Islamic Bank 68 21.50%

5 Not all the Islamic banks’ financial statement use the same terms and for that reason we analyze the calculations we have done for each bank in particular.

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Kuwait Finance House 52.2 16.50%Mybank Islamic Malaysia 30.6 9.67%Dubai Islamic Bank 26 8.22%Abu Dhabi Islamic Bank 23.3 7.37%Qatar Islamic Bank 20.1 6.35%CIMB 17.1 5.41%

Total 316.3 100.00%

The biggest Islamic Bank regarding the assets size is Bank Albilad which is located in

Saudi Arabia (Table 2).6

Loan/Deposit ratio = Financing net/Customer’s Deposits

Efficiency ratio = Total operating expenses/Total operating income + Net

income from investing and financing assets.

NPL ratio = Impairment charge for financing net/Financing net

Tier 1 capital ratio for this bank has been declining during the crisis, and a slight

decline continued the years after the crisis. Even though, its high value before crisis

enabled it to keep relatively high values at an average of about 18 % in the coming

years, and also to recently increase. The total capital ratio shows almost the same

pattern. The difference is that the increase has started in 2011, indicating an increase in

the Tier 2, given that Tier 1 and Risky assets are the same.

Loan / Deposits ratio has fluctuations over years. This has to do with the

internal decisions of the bank to finance or to invest.

The trend of ROA and ROE shows a decline the year of the crisis and the year after,

and a recovery after that. This indicates that the crisis caused a fall in the returns and

then the returns from investments went up. Recently we observe high levels of these

ratios.

The efficiency ratio also has many fluctuations during the observed time frame,

indicating changes in using expenses to produce income.

NPL ratio shows fluctuation the years around the crisis, reflecting the

instability, while there is a decrease later which reflects the ability of this big

bank to manage the default risk.

6 Source: Bank website; http://www.bankalbilad.com/

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Table 2: Bank Albilad performance ratio

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 33% 23.25% 19.85% 16.58% 15.45% 13.67% 16.04%

Total capital 24.19% 18.41% 17.43% 18.31% 18.52% 17.14%

Loan/Deposit 48.78% 75.42% 80.27% 72.58% 59.81% 76.89% 80.44%

ROA 0.44% 0.78% -1.43% 0.44% 1.19% 3.16% 2.01%

ROE 2.33% 3.89% -8.27% 2.98% 9.65% 21.55% 14.29%

Efficiency 53.78% 51.59% 79.43% 58.40% 50.27% 45.35% 41.48%

NPL 1.05% 0.24% 2.75% 1.97% 1.83% 1.51% 0.75%

The second biggest bank is RHB Islamic Bank (Table 3) which is located in Malaysia.7

Loan/Deposit ratio = Financing and advances/Total deposits

Efficiency ratio = Total expenses / Total income

NPL ratio = Impaired financing and advances/Financing and advances

Even for this bank Tier 1 and the Total capital ratios show a decline during the crisis

and then there is an increase in the years coming until recently.

Loan / Deposit ratio also has many fluctuations during the period of observation. The

year of crisis the ratio was raised, showing a non-very strong liquidity position, but the

willingness of the bank to help the customers by financing them.

We observe a declining in the ROA and ROE values, reflecting the effect of the crisis,

mainly because the performance of the Islamic banks depends on other takeovers.

However, they managed to keep positive values for all the period, even in the year of

crisis.

The efficiency ratio has fluctuations too. We observe an increase of the ratio the year

of the crisis and the years close to it, reflecting the need of more expenses to generate

7 Source: Bank website; http://www.rhb.com.my/

20

revenues. In any case, the values are not too much above the maximum optimal ratio

of 50%.

NPL ratio has been decreased the year of the crisis, related this with the

increase of lending from the bank.

Table 3: RHB Islamic Bank performance ratio

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 16.03% 12.07% 12.50% 12.23% 12.88% 13.97% 13.86%Total capital 17.89% 13.54% 13.78% 13.56% 13.93% 14.70% 14.42%

Loan/Deposit 62.47% 65.03% 58.66% 72.53% 61.12% 73.11% 72.41%ROA 1.97% 1.29% 0.84% 0.56% 0.90% 0.65% 0.61%ROE 23.31% 14.46% 9.96% 7.18% 11.40% 10.30% 8.95%Efficiency 40.28% 52.15% 63.46% 61.61% 53.06% 47.71% 51.11%NPL 4.20% 3.30% 3.80% 6.95% 4.16% 2.56% 2.34%

Kuwait Finance House is located in Kuwait (Table 4).8

Loan/Deposit ratio = Receivables/Depositors’ accounts

Efficiency ratio = Total expenses / Total income

NPL ratio = Impairment receivables/Receivables

Tier 1 capital and Total capital ratios have a slightly decrease during the crisis, but the

effect of this was felt further the years after the crisis. However, the values are enough

high to classify them as well capitalized. Moreover, the values of Total capital do not

differ too much from those of Tier 1, meaning that the reserves for loan losses have

not been rising.

Loan/Deposit ratio indicates a weak liquidity position of this bank. Even

though there are fluctuations, the values are somewhat high.

We observe a decline in ROA and ROE during the crisis and some years after and a

recovery during the recent years.

The efficiency of the operations of the bank has been high one year before the crisis,

while it declines during crisis. But, we observe a non-good efficiency the years after

the crisis.

8 Source: Bank website; http://www.kfh.com/

21

NPL ratio was raised during the crisis, unlike the other Islamic Banks. The reason for

that may be the decision of the bank not to extend the loans, as we can observe in the

declining of the Loan/Deposit ratio too.

Table 4: Kuwait Finance House performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 22.81% 21.73% 15.08% 14.15% 13.51% 13.57% 17.23%

Total capital 23.00% 22.00% 15.21% 14.22% 13.73% 13.93% 17.44%

Loan/Deposit 74.39% 72.29% 70.10% 72.50% 66.03% 70.83% 64.33%

ROA 3.70% 1.66% 0.64% 0.57% 0.28% 0.84% 0.92%

ROE 23.14% 10.95% 4.59% 4.48% 2.38% 7.52% 7.22%

Efficiency 30.53% 55.13% 64.84% 67.52% 78.04% 68.10% 67.19%

NPL 0.44% 3.21% 1.88% 2.05% 2.95% 2.77% 2.42%

Mybank Islamic is also located in Malaysia (Table 5).9

All the ratios of the bank are given.

What we observe here is an increase of the Tier 1 capital during the crisis, while there

is a slight decrease of the Total capital ratio. This may implicate an increase in the

reserves, but a decrease in loan loss reserves, higher than that.

Loan / Deposit ratio has been increased and it has a high value, showing a

weak liquidity position. However, this bank better represents the philosophy of

Islamic banks.

ROA and ROE show a decline during the crisis and the years close to it and an

increase in the recent years. Still the values remain positive. We could argue that the

efficiency has been moderate, although it has been fluctuated during the selected time

period.

Regarding NPL ratio, a decrease during crisis and some years after that is observed,

reflecting the increase of Loan/ Deposit ratio, i.e. the increase of outstanding loans.

9 Source: Bank website; http://www.maybankislamic.com.my/

22

Table 5: Mybank Islamic Malaysia performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 10.30% 11.40% 10.80% 10.55% 11.35% 13.15% 13.06%Total capital 15.90% 15.80% 14.80% 14.15% 16.05% 17.00% 15.66%

Loan/Deposit 76.30% 80.90% 87.40% 86.80% 87.80% 89.80% 89.90%ROA 1.30% 1.10% 0.20% 1.20% 1.20% 1.20% 1.20%ROE 17.60% 15.20% 3.10% 14.50% 15.20% 16.00% 15.10%Efficiency 42.80% 44.20% 52.80% 49.80% 49.70% 48.60% 47.80%NPL 3.00% 1.90% 1.60% 1.20% 1.86% 1.09% 0.95%

Dubai Islamic Bank with location in Dubai (Table 6)10

Loan/Deposit ratio = Islamic financing assets/Customers’ deposits

Efficiency ratio = Total operating expenses/Total income

NPL ratio = Allowances for impairment/Islamic financing assets

In general, we observe an upward trend for Tier 1 capital and for Total capital ratios

which indicate an enhanced capital position. The only exception is observed in the

year of the crisis when the Tier 1 capital ratio has been growing, while Total Capital

ratio shows a decline. This implicates that the reserves have been growing, while loan

loss reserves have been declined.

Loan /deposit ratio has been in almost average values, except some high values

in 2010 and 2012. During the crisis an increase of the ratio is observed.

ROA and ROE stay in relatively high values, although during crisis and some

years after that a decrease is observed.

In the years around the crisis the efficiency of this bank has been too high. Even

though it has been increased, it is around 50 % which suggests a healthy financial

condition. In 2012 and 2013 we observe a decline of the ratio, implementing an

increased performance.

10 Source: Bank website; http: http://www.dib.ae/

23

NPL ratio, as in the most of Islamic Banks has been declined during crisis, and after

that it has been growing.

Table 6: Dubai Islamic Bank performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 10.80% 11.80% 12.20% 13.15% 13.60% 13.90% 18.20%

Total capital 12.05% 11.35% 17.70% 18.45% 18.20% 17.40% 18.20%

Loan/Deposit 45.97% 52.11% 51.56% 67.91% 61.60% 63.33% 60.11%

ROA 2.98% 2.03% 1.44% 0.90% 1.17% 1.25% 1.52%

ROE 23.56% 19.39% 13.50% 7.72% 10.38% 11.29% 10.51%

Efficiency 29.70% 35.00% 42.51% 47.73% 51.62% 51.04% 48.22%

NPL 3.49% 3.43% 5.57% 6.56% 7.72% 7.24% 3.98%

Abu Dhabi Islamic Bank is located in Abu Dhabi, United Arab Emirates (Table 7). 11

Loan/Deposit ratio = Murabaha and other Islamic financing/Depositors’

accounts

Efficiency ratio = Operating expenses/Operating income

NPL ratio = Provision for impairment/ Murabaha and other Islamic financing

Tier 1 capital and Total capital ratio for this bank are meaningless. They fluctuate

since 2007, having no pattern thereafter. This indicates changes in the policies of the

bank, regarding the amount of reserves that must be kept.

Loan /Deposit ratio also has been fluctuating. This bank has the lowest values for this

ratio. This may be related to a high liquid position but more likely is that this bank

does not have the power to finance the customers like the other banks do.

ROE and ROA have high values, always positive ones. A huge decrease we observe

the year right after the crisis.

The efficiency has also been high, except the year right after the crisis.

NPL ratio has been increasing from 2011, while a decreased is observed recently.

11 Source: Bank website; http://www.adib.ae/

24

Regarding these observation we can argue that this bank tried to keep a defensive

strategy, nevertheless, the crisis really affected it.

Table 7: Abu Dhabi Islamic Bank performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 17.90% 14.09% 14.00% 13.37% 13.50% 18.43% 16.42%

Total capital 16.73% 11.84% 17.04% 15.95% 17.39% 21.42% 16.86%

Loan/Deposit 41.96% 48.92% 43.37% 40.13% 42.35% 39.06% 37.43%

ROA 1.75% 1.66% 0.12% 1.36% 1.55% 1.40% 1.41%

ROE 14.19% 15.10% 1.09% 12.62% 13.48% 9.49% 11.09%

Efficiency 23.24% 44.27% 69.81% 49.78% 52.66% 54.00% 54.36%

NPL 0.30% 2.23% 6.55% 8.37% 9.49% 8.34% 7.49%

Qatar Islamic Bank (Table 8)12

Loan/Deposit ratio = Due from financing activities/Customers’ accounts

Efficiency ratio = Net operating expenses/Net operating income

NPL ratio = Provisions for impairment of due from financing activities/ Due

from financing activities

This bank has the most strange but strong position of all the Islamic Banks.

Tier 1 and Total capital ratios have been relatively high even though there is a slight

decrease in the year of the crisis. The most important evidence here is that their values

do not differ too much from each other, while often the difference is zero. This

implicates no reserves for loan losses for this bank.

The most interesting values are those of Loan/Deposit ratio. This ratio has too high

value, meaning that the bank has been too much exposed to liquidity risk. Those

values have been increased during the crisis and they reached the pick in 2014.

ROA and ROE present really high values, although the trend has been downward.

12 Source: Bank website; http: http://www.qib.com.qa/

25

We can observe that the efficiency of this bank has been too high, although it has been

declining slightly during the crisis. This fact implies that the decision of the bank to

finance too many the customers has been a good one. QIB has the highest values for

these ratios.

Table 8: Qatar Islamic Bank performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier1 capital 18.34% 16.35% 17.33% 17.37% 18.58% 14.71% 15.67%Total capital 18.76% 17.04% 17.33% 17.37% 18.58% 15.41% 16.51%

Loan/Deposit266.38%

370.12%

337.32%

336.20%

321.74%

474.98%

378.03%

ROA 5.88% 4.90% 3.37% 2.57% 2.09% 1.54% 1.71%ROE 27.12% 23.00% 14.68% 14.63% 9.46% 8.63% 9.70%Efficiency 19.79% 18.05% 25.30% 22.09% 31.96% 31.31% 32.49%NPL 0.01% -0.25% 0.14% 0.17% 0.04% 0.44% 0.21%

CIMB Bank is located in Kuala Lumpur, Malaysia (Table 9).13

All the ratios are given.

Tier 1 and Total capital ratios for this bank increased during the crisis and in

the years before and after. Recently, we observe a slight decline but still the

values remain at satisfactory levels.

Loan/Deposit ratio presents relatively high values, like the other Islamic banks,

and with fluctuations during the examined period.

We also observe high values of ROE and ROA, with a decline during the crisis and

with the recovery in recent years.

The efficiency remains around the average too, with its slight fluctuations.

Regarding NPL ratio we can say that the values are somewhat high and there is a

decline during and the year after the crisis.

13 Source: Bank website; http://www.cimb.com/

26

Table 9: CIMB performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1capital 9.36% 10.75% 14.81% 14.47% 15.26% 12.40% 11.60%

Total capital 12.46% 13.90% 15.06% 15.36% 17.59% 15.50% 12.90%

Loan/Deposit 75.59% 79.91% 79.49% 79.65% 82.84% 84.20% 88.40%

ROA 1.52% 0.93% 1.16% 1.30% 1.34% 1.37% 1.28%

ROE 20.05% 11.77% 14.88% 16.19% 16.40% 16.00% 15.50%

Efficiency 47.63% 52.81% 52.96% 55.68% 54.69% 56.40% 57.60%

NPL 7.25% 4.94% 4.98% 6.14% 5.11% 3.80% 3.20%

2.1.2. Conventional Banks

The top three banks by assets size constitute around 80% of the total assets of the

sample. These banks are JP Morgan Chase & Co, Bank of America and Citigroup.

Being such representative in the total amount, they will be the drivers of the ratios of

conventional banks’ performance.

Table 10: Conventional Banks total assets

Bank Name Tot. Assets ($ Bill) WeightJP Morgan Chase & Co 2103 37.40%Bank Of America 1457.9 25.93%Citigroup 1354.7 24.09%HSBC Holdings 179.7 3.20%Mitsubishi UFJ Financial Group 107 1.90%Ally Bank 97.8 1.74%RBS Citizens 96 1.71%BNP Paribas 85 1.51%

27

Banco Santander 81.2 1.44%Deutsche Bank 60.91 1.08%

Total 5623.21 100.00%

JP Morgan Chase & Co is the biggest bank by assets size in US (Table 11).

Tier1 capital and Total capital ratios show moderate and not high values for this bank.

It is apparent an increase in the ratios during the crisis and some years after due to the

increase of the reserves as a protection to credit risk. Afterwards the values fluctuate

depending on the bank’s policy. There is a substantial difference between Tier 1 and

Total capital Ratios, meaning that the reserves for loan losses have been relatively

high and have been increased during the crisis.

Loan/Deposit ratio had high values before the crisis and then the values

declined. This is due to the reduction of the lending from banks being afraid of

a default.

ROA and ROE present acceptable values, falling in the period of the crisis, but

still remaining positive. This indicates strong position of this bank, even in the

crisis.

NPL ratio, unlike the Islamic banks shows an increase during the crisis but still the

values are not too high, so again pointing out the strong position of this bank.

The efficiency ratio of the bank has fluctuations. It has always been above 50%,

suggesting not a very strong efficiency.

Table 11: JP Morgan performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 8.13% 8.57% 9.40% 10.46% 9.69% 9.21% 10.16%

Total capital 11.25% 12.18% 13.03% 14.43% 13.43% 12.50% 13.08%

Loan/Deposits 70.09% 62.25% 64.75% 65.36% 55.55% 57.81% 54.49%

ROA 0.90% 0.75% 0.32% 1.04% 0.82% 0.78% 1.11%

ROE 9.61% 8.25% 3.64% 11.97% 10.28% 9.70% 13.19%

NPL 0.75% 1.32% 4.96% 5.23% 4.13% 3.09% 2.59%

Efficiency 63.66% 62.93% 57.80% 59.88% 69.82% 74.33% 62.61%

28

Bank of America is focused in strategic connections for improved lives of its

customers (Table 12).

Tier 1 and Total capital ratios do not have high values, meaning that the bank is not

very well capitalized. We observe a slight decrease of the ratios in the crisis, but an

immediate increase in the years after, reflecting its impact in the long run. The values

between them differ significantly, meaning that the reserves for loan losses have been

too high.

Loan/Deposit ratio presents high values but it has a downward pattern. Unlike

Islamic banks, Conventional ones choose to reduce the amount of the loan

outstanding right after the crisis. This bank reflects it, even though the values

are high.

ROA and ROE show almost high values before the crisis. A huge decrease during the

crisis and some years after is observed. In the recent years we observe an upward trend

but the values are not too high, neither do they reach the value before the crisis.

NPL ratio increased during the crisis and the years before and after, and we observe a

slight decrease recently.

The efficiency ratio has average values. A slight increase is observed in the year of the

crisis and the year right after that. A really high value of the ratio is observed in 2011,

meaning a poor efficiency.

Table 12: Bank of America performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 8.43% 7.90% 9.04% 10.25% 11.21% 12.88% 12.30%

Total capital 10.91% 10.88% 12.56% 13.79% 14.73% 15.76% 14.17%

Loan/Deposits 85.52% 82.49% 72.21% 70.88% 68.58% 66.17% 70.57%

ROA 1.33% 0.65% 0.41% 0.36% 0.42% 1.02% 1.07%

ROE 15.05% 7.97% 4.17% 3.22% 3.46% 8.32% 8.69%

NPL 0.35% 1.18% 4.92% 5.54% 4.53% 3.81% 3.23%

Efficiency 51.28% 49.93% 41.57% 63.89% 73.11% 62.89% 62.73%

29

Citigroup is a leading bank in US. “Progress informed by the past, and inspired by the

future” is its philosophy (Table 13). 14

Tier 1 has values slightly above the limit for the bank to be classified as well

capitalized. Bothe tier 1 and Total capital ratios have an upward trend due to

the increase of the reserves for being protected by the effects of the crisis. The

differences between them also are significant, indicating high and growing loan

loss reserves.

Loan/Deposit ratio has had really high values, suggesting that this bank used to

finance excessively their customers. But the trend is downward for long period

which means that the bank has shrunk the lending.

ROA and ROE had really high values before the crisis. A huge decrease is observed

the year of the crisis and even more in the year right after that, being in negative

values. Later on, the values increased but still have not reached the level before the

crisis.

An increase of the NPL ratio during the crisis is observed. In the recent years the ratio

presents again a decrease.

The efficiency has been almost in average values. A decrease in the efficiency is

observed during the crisis.

Table 13: Citigroup performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 8.28% 9% 14.24% 14.08% 14.87% 15.26% 13.37%

Total capital 12.37% 13.42% 16.74% 15.89% 16.67% 16.53% 15.47%

Loan/Deposits 91.89% 86.68% 72.57% 72.08% 70.57% 60.36% 60.27%

ROA 1.27% -0.20% -1.03% 0.82% 0.48% 0.84% 1.14%

ROE 16.06% -2.46% -9.91% 7.53% 4.09% 7.14% 10.16%

NPL 0.62% 1.96% 4.41% 4.19% 2.17% 1.89% 1.64%

Efficiency 55.42% 69.67% 68.98% 46.64% 58.64% 59.64% 54.45%

14 Source: Bank website; http://www.citigroup.com/

30

HSBC, placed in UK, London is among the biggest banks in the world (Table 14).

“HSBC aims to be where the growth is, helping businesses to thrive and economies to

prosper and enabling people to realize their ambitions.”15 

Tier 1 capital ratio presents a slight decrease in the year of the crisis while Total

capital ratio increased. This means that may be the general reserves have been

decreased but the reserves for loan losses have been increased more. In general, the

pattern is upward implicating the increase of the reserves in order to keep a protective

position.

Loan/Deposit ratio has had high values before the crisis and then it suffered a

decline, similar with all the conventional banks.

ROA and ROE had also high values before the crisis and they suffered a huge decrease

during the crisis and some years after. The values felt below zero for this bank too. We

can observe that the recovery is not in satisfactory figures.

NPL like in all conventional banks has been growing in the years around the

crisis, while a decrease is observed recently.

The efficiency has been satisfactory. A decrease is observed in the year of the crisis

and a high inefficiency is observed in 2013.

Table 14: HSBC Holdings performance ratios

2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 8.69% 8.31% 9.27% 12.01% 14.13% 18.12% 14.50%

Total capital 12.34% 13.03% 13.46% 16.62% 19.85% 24.23% 19.54%

Loan/Deposits 78.79% 72.99% 76.06% 55.88% 49.70% 41.83% 51.67%

ROA 1.32% -0.18% -0.41% 0.69% 0.36% 0.99% 0.40%

ROE 16.57% -2.43% -4.32% 7.08% 3.59% 9.41% 3.86%

NPL 0.74% 1.77% 3.38% 3.80% 3.20% 2.95% 2.14%

Efficiency 50.96% 69.59% 63.16% 55.90% 64.17% 51.68% 73.98%

MUFG located in Japan, Tokyo, is one of the largest banks (Table 15).16

15 Source: Bank website; http://www.hsbc.com/16 Source: Bank website; http://www.mufg.jp/

31

Tier 1 and total capital ratios represent satisfactory values. A decrease in the ratios is

observed during the crisis, representing an increase in the risky assets. After that the

ratios have been increased due to the increase of the reserves in order to minimize the

consequences of the crisis.

Loan /Deposit ratio presents particularly high values. Unlike the other

conventional banks an increase in the ratio is observed in the year of the crisis,

while it fluctuates after the crisis.

ROA and ROE were in high levels and decreased immediately during the crisis. They

reached the negative values the year after the crisis. The recovery started later on but it

isn’t a complete recovery yet.

NPL ratio has been growing in the years around the crisis and it has started to

decline recently.

The efficiency was not satisfactory during the examined period. However, we can

observe that the decision to extend the loans in 2008 was good, resulting in a higher

efficiency. The impact has been felt in the years coming, recording a high inefficiency

in 2013.

Table 15: Mitsubishi UFJ Financial Group performance ratios

  2007 2008 2009 2010 2011 2012 2013%

Tier 1 capital 9.31% 8.70% 9.04% 11.63% 13.96% 12.61% 11.10%

Total capital 11.33% 10.82% 11.31% 13.90% 16.04% 14.24% 13.18%

Loan/Deposits 84.76% 100.91% 81.13% 70.03% 81.84% 81.66% 82.60%

ROA 1.11% 0.75% -0.39% 0.65% 1.23% 0.79% 0.56%

ROE 11.58% 8.45% -3.53% 5.58% 9.16% 6.38% 4.60%

NPL 0.10% 0.56% 2.35% 3.33% 1.46% 1.06% 1%

Efficiency 64.99% 55.33% 72.75 73.53% 70.79% 75.30% 83.18%

Ally bank is located in Detroit.17

Tier 1 capital and Total capital ratios show high values. It has been a decline in the

year of the crisis due to the increase of the risky assets. Then, we observe an increase

for a few years later and a fluctuated pattern recently. Their values do not differ to

17 Source: Bank website; http://www.ally.com/

32

much from each other, meaning that the loan loss reserves for this bank have not been

too high.

Loan/Deposit ratio shows too high values, with a downward trend during the

crisis and fluctuations in the years coming.

ROA and ROE have the same characteristics as all the other conventional banks. They

suffered a huge decrease especially in the year of the crisis and the year right after it.

NPL ratio has been growing during the crisis while in the coming years there are

fluctuations.

About the efficiency, it seems to have been modest, with a very huge decrease during

the crisis.

Table 16: Ally Bank performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier1 capital 15.46% 14.89% 18.67% 20.25% 17.54% 16.82% 17.59%

Total capital 15.91% 15.68% 19.94% 21.25% 18.76% 17.85% 18.42%Loan/Deposits

177.08%

142.23%

108.87%

127.39%

151.41%

149.79%

131.69%

ROA 1.59% -0.51% -1.92% 0.85% 1.31% 1.25% 0.88%

ROE 14.25% -4.64%-15.35% 6.03% 8.49% 8.15% 5.68%

NPL 0.99% 1.35% 2.91% 1.08% 0.60% 0.63% 0.58%

Efficiency 41.01% 83.82% 66% 50% 47.99% 48.64% 63.16%

Royal Bank of Scotland is the biggest British bank being located in Scotland (Table

17).

Tier 1 and Total capital ratios presented good values. A decrease is observed in the

year of the crisis for both of them due to the increase of the risk weighted assets. After

that, the values have been increased because of the increase in the reserves. The

differences between them are in average values, representing the amount of loan loss

reserves.

Loan/Deposit ratio has been too high and it was growing in the year of the

crisis. After the crisis the pattern suggests a decline.

33

ROE and ROA had no high values. A decrease is observed during the crisis, reaching

negative values in 2008 and 2009. A really bad situation for this bank is observed even

in 2013.

NPL ratio has had the same pattern as the other conventional banks.

The efficiency has been at an average level, while a huge inefficiency is

recorded in 2013.

Table 17: RBS Citizens performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 9.82% 8.68% 9.30% 10.06%11.46%

11.89% 12.90%

Total capital10.58%

10.56% 11.78% 12.54%

12.92%

13.47% 14.48%

Loan/Deposits

88.22% 122%

108.02%

103.73%

96.50%

94.92% 92.28%

ROA 0.83% 0.61% -0.51% -0.02% 0.40% 0.80% -13.30%

ROE 3.93% 4.47% -4.02% -0.14% 2.54% 4.64% -79.53%

NPL 0.55% 0.68% 1.69% 2.42% 2.16% 1.75% 1.96%

Efficiency52.91%

51.44% 64.52% 65.62%

65.54%

63.01%

454.22%

BNP Paribas is a French bank (Table 18).18

We can observe that the trend for Tier1 capital and for the Total capital ratios is the

same as all the Conventional banks. The values are almost at the same ranges.

Loan/Deposit ratio also presents too high values. It has been an increase of 10

percent in the year of crisis and then the pattern shows a decrease of the ratio,

suggesting a crump in the loans given from the bank.

ROA and ROE also have the same characteristics as those of the other Conventional

banks.

The same we can say even for the NPL ratio.

18 Source: Bank website; http://www.bnpparibas.com/

34

The efficiency has been in normal values, with a little decrease in the years after the

crisis.

Table 18: BNP Paribas performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 10.83% 10.18% 10.45% 13.29% 14.79% 15.34% 15.32%

Total capital 11.77% 11.33% 11.72% 14.65% 16.06% 16.61% 16.59%

Loan/Deposits 104.37% 114.16% 110.94% 104.86% 93.74% 90.68% 90.55%

ROA 1.09% 0.49% -0.46% 0.48% 0.92% 1.05% 0.99%

ROE 6.79% 3.26% -3.15% 2.81% 5.03% 5.88% 5.50%

NPL 0.58% 1.29% 2.78% 3.12% 2.78% 1.33% 1.06%

Efficiency 51.60% 52.41% 60.24% 60.68% 54.78% 53.52% 58.64%

Banco Santander is the largest bank in Eurozone (Table 19).19

Tier1 and Total capital ratios indicate a strong capital position which has been growing

during the time. However, the reserves for loan losses has been increased during the

period of the crisis, as derived from the differences between the two ratios.

Loan/Deposit ratio presents high values and the pattern is similar with the other

banks.

ROA and ROE do not show high values. There is a decline during the crisis, which has

been felt more in 2009 when the values have been negative.

NPL ratio had the same characteristics and pattern as the other banks.

The efficiency has not been too high, although a slight increase is observed in the year

of the crisis. The effect of the crisis has been felt one year after when the efficiency

has significantly dropped.

Table 19: Banco Santander performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 8% 8.02% 9.16% 10.15% 14.20% 13.22%14.13%

Total capital 10.51% 11.39% 12.55% 13.16% 16.43% 15.24%16.02%

Loan/Deposits

114.55%

117.58%

106.45%

114.30%

104.64%

105.46%

97.90%

19 Source: Bank website; http://www.santander.com/

35

ROA 0.82% 0.65% -0.63% 0.36% 0.56% 0.64% 0.56%

ROE 6.72% 6.40% -5.97% 2.95% 3.54% 4.16% 3.48%

NPL 0.71% 1.15% 3.32% 4.23% 3.06% 2.36% 2.18%

Efficiency 61.09% 59.02% 82.92% 60.35% 59.15% 66.85%66.75%

Deutsche Bank with location in Frankfurt is a global bank.20

From the figures of Tier 1 and Total capital ratios we can conclude that this bank was

very well capitalized. Even though a decrease of the ratio is observed during the crisis,

it fluctuates thereafter.

Loan/Deposit ratio has moderate values, which indicates that the bank choose

to follow a tight policy regarding the loans given to the costumers. We observe

a big decrease during the crisis and then there are fluctuations.

ROA and ROE had low values going near zero during the crisis, but they

reached their negative values in 2012.

NPL ratio has been fluctuating but in the year of the crisis it records an

increase and the highest value.

Also the efficiency has been worsening during the crisis, recording the highest value.

In the years after the crisis it fluctuates in acceptable levels.

Table 20: Deutsche Bank performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1 capital 34.69% 27.72% 35.11% 39.20% 39.62% 29.21% 30.15%

Total capital 35.88% 28.30% 35.78% 40.10% 40.03% 29.58% 30.47%

Loan/Deposits 83.68% 56.02% 74.99% 60.73% 47.42% 64.50% 53.17%

ROA 1.85% 0.03% 1.76% 1.64% 0.99% -0.54% 0.75%

ROE 8.15% 0.16% 8.47% 7.96% 4.75% -2.74% 4.74%

NPL 2.16% 4.38% 2.56% 4.13% 2.16% 1.44% 0.92%

Efficiency 66.15% 113.24% 44.10% 55.21% 53.08% 48.29% 52.75%

20 Source: Bank website; www.db.com

36

2.2. Analysis and results

Using the individual performance ratios of each bank and the weight each of them has

regarding the total assets, we have the results for Islamic Banks and Conventional

Banks in Tables 21 and 22 respectively.

Table 21: Islamic Banks performance ratios

  2007 2008 2009 2010 2011 2012 2013

Tier 1capital 20.33% 16.72% 15.11% 14.08% 14.07% 14.03% 15.42%

Total capital 13.27% 17.75% 16.13% 15.61% 16.30% 16.55% 16.26%

Loan/Deposit 73.16% 88.30% 85.85% 88.29% 80.58% 98.12% 91.47%

ROA 2.10% 1.50% 0.35% 0.85% 1.07% 1.56% 1.31%

ROE 16.91% 12.16% 4.06% 7.80% 10.06% 13.43% 11.28%

Efficiency 39.26% 47.61% 62.40% 55.80% 54.76% 50.74% 50.21%

NPL 2.23% 2.18% 3.19% 3.94% 3.63% 2.93% 2.25%Table 22: Conventional Banks performance ratios

  2007 2008 2009 2010 2011 2012 2013Tier 1 capital 8.77% 8.83% 10.91% 11.86% 12.19% 12.51% 12.17%

Total capital 11.80% 12.33% 14.10% 15.03% 15.26% 15.12% 14.55%

Loan/Deposits 83.38% 78.39% 72.16% 71.18% 66.42% 64.03% 63.64%

ROA 1.14% 0.43% -0.08% 0.76% 0.63% 0.86% 0.81%

ROE 12.72% 4.78% -0.53% 7.73% 6.39% 8.27% 8.77%

NPL 0.62% 1.46% 4.54% 4.80% 3.53% 2.82% 2.39%

Efficiency 57.31% 61.75% 57.25% 57.76% 66.80% 65.77% 68.02%

In the following Graphs, we present comparatively the results for the two groups of banks for i) Tier 1 and Total Capital ratios, ii) Loan/Deposit and Efficiency ratios, and iii) ROA, ROE and NPL.

37

2007 2008 2009 2010 2011 2012 20130.00%

5.00%

10.00%

15.00%

20.00%

25.00%

Tier 1 capital-Total capital

Tier 1capital Isalmic banks Tier 1capital Conventional banksTotal capital Isalmic banks Total capital Conventional banks

2007 2008 2009 2010 2011 2012 20130.00%

20.00%

40.00%

60.00%

80.00%

100.00%

120.00%

Loan/Deposit-Efficiency ratio

Loan/Deposit Isalmic banks Loan/Deposit Conventional banksEfficiency Isalmic banks Efficiency Conventional banks

2007 2008 2009 2010 2011 2012 2013-2.00%0.00%2.00%4.00%6.00%8.00%

10.00%12.00%14.00%16.00%18.00%

ROA-ROE-NPL

ROA Isalmic banks ROA Conventional banks ROE Isalmic banksROE Conventional banks NPL Isalmic banks NPL Conventional banks

38

2.2.1. Tier 1 Capital Ratio

Tier 1Capital Ratio= Equity Capital+ReservesRisk weighted assets

This is a capital adequacy ratio which expresses the ability of the firm to cover its

risky assets with its equity capital and reserves. It is used to classify a firm as well

capitalized or not. The frontier values for this classification are 6%.

In fact, the Islamic banks show a declining ratio during the financial crisis in the order

of 3.61%, while the conventional banks present a slight increase of the ratio of 0.6%.

All the Islamic banks have had a small decrease of Tier 1 capital ratio, which might

have been caused by a decrease in reserves. On the other hand, the increase in the ratio

for the conventional Banks is due to the significant increase of the two leaders, namely

JP Morgan Chase & Co and Citigroup where their dominant position in the industry

enabled their further capital strengthening. The other banks have had a decrease in the

ratio.

From 2007 to 2012 the trend for the Islamic banks has been downward and then we

observe an increase for the next year (2013). For the conventional Banks the pattern is

exactly the opposite; there is an upward trend until 2012, followed by a subsequent

decrease for 2013. Apart from the leading conventional banks, the other six show a

decreasing trend the year of the crisis and a reversal one year after. An explanation for

this observation may lie on the increase of the risk weighted assets during the crisis

that caused a decrease in the ratio and an immediate response of capital injection that

was reflected in the subsequent improvement of the ratio.

Although the Islamic Banks have a decrease in these years, the ratio is in enough

higher levels compared to the Conventional Banks. This suggest a more efficient

coverage of their risky assets with adequate capital. The absence of the interest makes

the assets of the Islamic Banks less risky than those of the conventional Banks,

although in the crisis the credit risk increases for both of them.

39

2007 2008 2009 2010 2011 2012 20130.00%

5.00%

10.00%

15.00%

20.00%

25.00%

Islamic BanksConventional Banks

Graph 1. Tier 1 Capital

2.2.2. Total Capital Ratio

Tota lcapital ratio=Tier 1 capital+Tier 2 capitalRisk weighted assets

This ratio, apart from the Tier1 includes also Tier 2 which is composed by preferred

stock, subordinated debt and loan loss reserves. The most important element of the

formula is the loan loss reserves, which differ between banks, depending on their

policy. For the conventional Banks the trend of Total capital ratio is similar with that

of Tier 1. The increase of the reserves for possible loan losses causes the increase of

the ratio, considering that the banks act prudently in order to be protected from the

inability of borrowers to pay back their debts. As far as the Islamic banks are

concerned, the Total Capital ratio remains steadily at satisfactory levels and more

importantly it is higher from the conventional banks during the entire examined

period. There is a slight fluctuation of the ratio but this could be partly explained with

the changes on the policy of maintaining loan loss reserves.

40

2007 2008 2009 2010 2011 2012 20130.00%2.00%4.00%6.00%8.00%

10.00%12.00%14.00%16.00%18.00%20.00%

Islamic BanksConventional Banks

Graph 2. Total Capital

2.2.3. Loans to Deposits Ratio

Loan ¿ Deposit= Total loansTotal deposits

This ratio displays how much liquid the bank is. A high value of the ratio implicates

that the bank doesn’t have too much liquidity. On the other hand, low values of the

ratio may tell that the bank is not taking advantage of profitable investments.

Islamic Banks' deposits are different from Conventional banks. In particular, a deposit

in an Islamic bank can take two forms: the first form doesn’t give any return i.e. it is

just safekeeping, while the other form is under Mudarabah or other types of Islamic

financial products, where the customer gives his money to the bank for investment

purposes. In the latter case the customer takes the profit generated from the

investment. The term “loan” on Islamic banks also differs from Conventional Banks,

since the former do not provide loans to their customers... They just finance the

customers' needs, receiving a profit mark-up in return.

The Loans to Deposits ratio shows minor fluctuations for the Islamic banks, reflecting

small changes of their investing and financing policies. The ratio remains in relative

41

high levels between 80% and 100%, indicating the banks’ inclination to provide

continuing and increasing assistance to their customers during and after the crisis.

Indeed, this fact confirms the context and substance of Islamic finance, although a

high ratio may cause liquidity difficulties.

The diminishing trend of the examined ratio for the conventional banks from 2008

onwards demonstrates their conservative strategy during the economic turmoil.

Although the customers’ deposits decreased inevitably, the banks became more

reluctant regarding their lending policy. Definitely, this fact made the effects of the

crisis more intense since the borrowers were unable to refinance their debts.

2007 2008 2009 2010 2011 2012 20130.00%

20.00%

40.00%

60.00%

80.00%

100.00%

120.00%

Islamic BanksConventional Banks

Graph 3. Loan/Deposits

2.2.4. ROA

ROA= Net incomeTotal assets

This ratio tells how efficiently the company uses its assets to generate profits. The

higher the value, the better. For Islamic Banks this means profitable investments while

for Conventional Banks this means profitable loans i.e. high returns from interest rates,

as their main asset are the loans.

42

The pattern of ROA is similar for the two samples, presenting a sharp deterioration

from 2007 to 2009 and a slow recovery thereafter. More importantly, the ratio

becomes negative for the conventional banks in 2009 while it remains in modest levels

during the entire examined period. Their vast dependence on interest income to

generate profits renders unstable the course of ROA the years after the crisis, being

well below 1%. In contrast, the Islamic banks reveal enough higher ratios than the

conventional banks, denoting effective investing and financing activities for the

former. As a result, the ratio shows a dramatic evolution after the crisis, varying

significantly higher than 1%.21

2007 2008 2009 2010 2011 2012 2013-0.50%

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

Islamic BanksConventional Banks

Graph 4. ROA

2.2.5. ROE

ROE= Net income

Shareholder s' equity

This ratio indicates how profitable has been the operations of the banks, considering

the funds collected from their shareholders. The higher the ratio, the best. For Islamic

21 A high impact on the Change of the ROA had one of the biggest banks, Citigroup with high negative

values in 2008-2009. It was -0.2% in 2008 and -1.03% in 2009.

43

banks the ratio is related with the performance of the other institutions and companies,

since their main activity is the investment in different projects.

The pattern of ROE is similar with that of ROA, reflecting the negative effects of the

crisis. Although the course of the ratio for both the Islamic and the conventional banks

is similar, the magnitude of losses is significantly higher for the latter. More

specifically, conventional banks show a decrease of 8% from 2007 to 2008, they have

losses in 2009, while the ratio slightly exceeds the order of 8% in 2012 and 2013. In

contrast, the Islamic banks have ratios steadily above 4%, while their ROE is at least

2% higher than the conventional banks between 2011 –2013. The last observation may

be attributable to the certain way Islamic Banks make business; their sources of

profitability derive from the effectiveness of other businesses and projects, while the

main source for conventional banks is through lending. 22

2007 2008 2009 2010 2011 2012 2013-2.00%0.00%2.00%4.00%6.00%8.00%

10.00%12.00%14.00%16.00%18.00%

Islamic BanksConventional Banks

Graph 5. ROE

2.2.6. Efficiency Ratio

Efficiency ratio= ExpensesRevenues

22 Also in ROE Citigroup had a high impact in the total weighted average ratio. The values have been -

2.46% in 2008 and -9.91% in 2009.

44

This ratio indicates how efficient is the bank in generating revenues by expenses.

Since interest expenses are excluded, the focus is on the efficiency of the banks’

operations. The lower the ratio, the better. This means that the bank spends less to gain

more revenues. Considering that the Islamic Banks do not have interest expenses, total

expenses or operating expenses are used instead.

Both the conventional and the Islamic Banks show increasing ratios from 2007 to

2009, suggesting an inefficient management of their operations. More expenses are

required in order to generate income, while the banks' ability to generate income

during the crisis is limited. This observation is confirmed by the decreasing pace of

ROA and ROE that described previously.

After 2009 the Islamic Banks show a decrease in the ratio indicating increased

efficiency of their operations, while the conventional banks fail to slow down their

inability to manage expenses and revenues effectively. Indeed, the former have enough

lower values of the ratio compared to the latter, meaning that they managed to achieve

higher income with lower costs. Therefore, the Islamic Banks have been more efficient

in their operations than the conventional and still continue to be.

2007 2008 2009 2010 2011 2012 20130.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

70.00%

80.00%

Islamic BanksConventional Banks

Graph 6. Efficiency

45

2.2.7. NPL Ratio

NPL=Non−performing loansTotal loans

This ratio shows the non-performing loans as a percentage of total loans of the bank.

The lower the ratio, the better because this implicates that from the total amount of

loans, only few of them are not paid back. Since the Islamic banks do not provide

loans, non-performing loans do not exist as well. Alternatively, the impairment on

financing assets is used as an approximation to calculate the amount of money that has

not been turned back.

The ratio follows the same pattern for the Islamic and the conventional banks for all

the examined period. However, the latter shows a radical increase of the ratio during

the crisis, exceeding the order of 4%. For the Islamic banks the trend is upward but in

more decent levels and steadily below 4%.

After 2010 there is a decrease of the ratio for both groups of banks meaning that they

started to recuperate from the effects of the crisis. Moreover, the Islamic Banks show

slightly higher ratios due to their willingness to extend the “loans” to their customers

in order to facilitate their payments. Again this is done in line with the Sharia low and

the spirit of Islamic financing.

2007 2008 2009 2010 2011 2012 20130.00%

1.00%

2.00%

3.00%

4.00%

5.00%

6.00%

Islamic BanksConventional Banks

Graph 7. NPL

46

Conclusions

The Islamic Finance has had a boom all over the world, even in non-Islamic countries,

especially in the years after the financial crisis. This indicates that it could be an

alternative solution to the Conventional Finance. Other financial institutions

approached the Shariah Compliance’s rules as their ethical behavior. Islamic Finance

promotes equity basing in the Egalitarian distribution of wealth. It also promotes a

strong link between financial and productive flows and greater stability of the financial

system.

Islamic Banks have had a strong position in their capital. Their Capital Adequacy

Ratios suggest that they were protected by the risks of their assets. The high values of

the ratios were especially due to the low numbers of risky assets. Return on assets and

also on equity had high values, indicating that they have been efficient in using their

assets and the shareholders’ equity to produce income. Their efficiency was rest even

in their operations. Even though they couldn’t avoid the crisis, they managed to keep

decent returns and to avoid the losses. Their way of making business is very different

from the Conventional Banks, making the terms “Loans” and “Deposits” to have

different meaning and different approach. In fact, this conduct of business led them to

greater returns and higher stability.

All in all, in case the economic and social aspects of the Islamic Finance are

considered, it could be argued that the Islamic Finance could be a great alternative to

the Conventional Finance, a new philosophy that policy makers and institutional

bodies should take very seriously into consideration.

47

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