Impact OF Liquidity ON Profitability OF Nepalese

Commercial Banks
Master For Finance And Control (Tribhuvan Vishwavidalaya)

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CHAPTER I
INTRODUCTION

1.1 Background of the Study

A day-to-day management of a firm’s short-term assets and liabilities plays an important
role in the success of the firm. Firms with glowing long-term prospects and healthy
bottom lines do not remain solvent without good liquidity management (Jose, Lancaster
& Stevens, 1996). Hence, despite maximization of shareholder wealth still remaining the
ultimate objective of any firm, preserving the liquidity of a firm is equally an important
objective and as such a firm should balance among the different interest objectives.
Increasing profits at the cost of liquidity can bring serious problems to the firm and a
tradeoff between these two objectives of the firms needs to be struck. If a firm does not
care about profit, it will not survive for a longer period while on the other hand if it does
not care about liquidity, it may face the problem of insolvency or bankruptcy. For these
reasons, therefore, liquidity management should be given proper consideration and will
ultimately affect the profitability of the firm.

Liquidity management is of crucial importance in financial management decision. The

optimal of liquidity management could be achieved by companies that manage the trade-
off between profitability and liquidity management (Khan & Ali, 2016).

The liquidity in the commercial bank represents the ability to fund its obligations by the
contractor at the time of maturity, which includes lending and investment commitments,
withdrawals, deposits, and accrued liabilities (Amengor, 2015).

Liquidity means how quickly bank can get your hands on your cash. Liquidity refers to
the conversion of assets into cash. Commercial bank has to maintain satisfactory level of
liquid assets that are easy to sale at market price. If the commercial bank holds liquid
assets balance in form of currency bank balance, marketable securities and other similar
assets cash or cash equivalent. But these could be invested for short term period to earn
interest than to keep the idle cash balance. In order to determine the optional investment
in liquid assets, a commercial bank must assess the benefits and cost of holding these
various balances. Since that higher the liquidity for the bank, lower will be the
profitability because

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bank holds more assets as idle cash would create problem in gaining the profit. Similarly,
lower the liquidity can also create problem for bank to repay demanding fund.
Maintaining the proper liquidity is very difficult task for every commercial bank. Bank
should maintain the proper liquidity in vaults according to NRB directions and policy of
proper considering the profit side (Thapa, 2017).

Profitability means to generate profits by the access of its cost or to earn profit. Profits
determined by the difference of its production cost and selling cost if the selling cost is
greater than production cost then its profitable otherwise we are bearing a loss (Boadi,
2013). Profit is the remaining amount after the deduction of all expenditures involved in
the running of a business. Some economists have defined profit as the percentage return
on the capital investment and also profit is the reward of ownership. It refers to amount
and share of national income which is paid to the owners of business that is those who
supply equity capital as variant is described as a profitability. In other word, profitability
refers to situation where output exceeds input that is the value created by the use of
resources. Profit could be taken as yardstick to measure success of any business
enterprise. Profitability refers to the firm’s ability to create sufficient profit on invested
capital. Then companies will be more interested to invest or to use more efficiently to
earn profit. Profitability is also related to solvency. The key is determined on profitability
ratios are return on assets (Kung’u, 2015).

Profitability refers to the net income of the company (bank) where company’s revenues
exceed its expenses. Income is generated from the activities of the companies (banks) and
expense is the cost of resources which are used to generate profit. Profitability is the main
objective of the companies. Businesses cannot survive in the market for the long run
without profitability. So, evaluating past profitability, calculating current profitability and
foretelling future profitability is very important for the company. Revenue and expense
are shown at the income statement which refers to the profitability of the company while
cash inflow and cash outflow are shown at cash flow statement which refers to the
liquidity of the company (Das, Chowdhury, Rahman, & Dey, 2015).

There is negative or inverse relationship between liquidity and profitability because huge
liquidity position decreases the profitability of the bank and vice-versa. But in some
cases,

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liquidity problem can create a panic to the depositor and banks can fall under trouble of
repayment of deposited money. At the liquidity shortfall banks cannot increase the
advance position to increase the profitability. So that banks try to manage the liquidity
position very efficiently. To increase the profitability, banks go to the risky investment
because there is a positive relationship between higher risk and higher return. On the
other hand, higher risk endangers the liquidity of the banks. When interest rate is lower,
the liquidity position of any bank is higher and higher liquidity position indicates the
availability of capital base. Liquidity surplus can be occurred if there is huge money at
hand with too few investments in real sectors. As a result of economic depression fund
usually is invested in bad ventures and bad ventures cannot repay the money of the banks
because they do not do well in the business and banks suffer from liquidity position at
hand for further investment or repayment of the depositor’s money (Das, Chowdhury,
Rahman, & Dey, 2015).

Liquidity risk is said to be assassin of banks. This risk can adversely affect both bank’s
earnings and the capital. Therefore, it becomes the top priority of a bank’s management
to ensure the availability of sufficient funds to meet future demands of providers and
borrowers, at reasonable costs. Episodes of failure of many conventional banks from the
past and the present provide the testimony to this claim. For instance, as United
States/U.S. subprime mortgage crisis reached its peak in the years 2008/9 unprecedented
levels of liquidity support were required from central banks in order to sustain the
financial system. Even with such extensive support, a number of banks failed, were
forced into mergers or required resolution. A reduction in funding liquidity then caused
significant distress. In response to the freezing up of the interbank market, the European
Central Bank and U.S. Federal Reserve injected billions in overnight credit into the
interbank market. Some banks needed extra liquidity supports (Bernanke, 2008).

The effects of liquidity on the performance of the firm will result in long conclusion that
it's the measuring of the amount of profit and promotion of the firm. The extension of
influence of profit and liquidity on the expansion and performance of the firm has been
arguable and no census has been reached (Asian A Umobong, 2015). Liquidity is
explained as a large position in assets or in cash which are easily can be changed to cash
much liquid assets produce flexibility for a firm with a minimum risk position according
to researcher

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liquidity can be measured through liquidity ratios included current ratio, cash ratio and
quick ratio current ratio can be measured through current assets divided by current
liabilities same as it is cash ratio is measured through sum of cash and marketable
securities divided by current liabilities and cash ratio is used to measure company’s
liquidity (Ngwili, 2013). Studies of Nepalese banks’ profitability are important as
guidance towards enhancing the economy since banks do contribute to economic growth
and stability. Stability in the banking sector helps to maintain stability in the economy
(Baral, 2005).

Every research is only based on some specific period of time. So, liquidity and
profitability position has been changing according to different factor like external and
internal factor. Therefore, this study has been made to analyze the impact of liquidity on
bank profitability of commercial bank. A bank has to perform the several functions and
among them, maintaining a balance between liquidity and profitability is very crucial.
Without proper balancing and analyzing its impact on profitability, a bank cannot
function properly in the market. So, the main purpose of the study is to analyze the effect
of bank liquidity on bank’s financial performance in Nepalese commercial banks.

1.2 Focus of the Study

This study focuses on the impact of liquidity on bank profitability of Nepalese
commercial banks Nepal Bank Limited (NBL), Agricultural Development Bank Limited
(ADBL), Nepal Investment Bank Limited (NIBL), Standard Chartered Bank Limited
(SCB), NIC Asia Bank Limited (NICA), and Global IME Bank Limited (GBIME) from
2015/16 to 2019/20, which are governmental, joint venture and private bank respectively.
This study focuses on identifying the strength and weakness of sampled banks in term of
liquidity position and profitability position. This research focuses on comparative study
of liquidity position and profitability position of Nepalese commercial banks. This study
attempts to get knowledge about the impact of liquidity on bank profitability and
relationship between liquidity and profitability, operational efficiency of the
management, efficient use of total assets by the management, shareholder’s return and
earnings per share etc.

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1.3 Statement of the Problem

The management of a firm’s liquidity is necessary for all businesses, small, medium or
large. When a business does not manage its liquidity well, it will have cash shortages and
as a result experience problems paying its obligations when they fall due. Indeed,
(Rafuse, 2010) observed that liquidity crisis has generally been credited as a major cause,
if not the main cause of small business failure in many developed and developing
countries. Currently, the business environment has become unpredictable and as a result,
there is need for business entities to put in place effective management of liquidity policy
that will even be able to cover the firms during challenging period. With the high level of
competition from both local and international competitors, the predictability of a firm’s
ability to meet its short term obligations when they fall due becomes of great importance.
The importance of managing liquidity requirements of a firm to ensure an improvement
in firm’s market value and profitability and this aspect must form part of the company's
strategic thinking in order to operate effectively and efficiently (Brigham, 2013).

Several studies have been conducted on how various financial elements impact on the
firm’s profitability. The studies include those by Uyar (2009) and Samiloglu and
Demirgunes (2008). With reference to Kenya, a number of studies have been conducted
on how various financial elements impact on the firm’s profitability. Kimani (2009)
undertook a research on the relationship between firm’s profitability and its size and the
book to market value: Evidence from the NSE. The study found out that the growth in
sales of a firm is positively related to the firm profitability. The study further concluded
that a firm that manages to increase its sales output improves its revenue and as a result
having more funds available for further expansion.

Holding more liquid assets diminishes a commercial bank’s profit and hinders the
investment prospect of the bank, which could lead to growth and expansion. However, if
it wishes to maximize profit, the commercial bank will have to reduce the level of liquid
assets it holds on the balance sheet. Holding too much illiquid asset will expose the
commercial bank to liquidity risk and huge interest charges in an even of fire sales
(Casu, Girardone & Molyneux, 2015).

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The review of previous studies conducted showed that the liquidity position of a
commercial bank seriously impacted it profitability. Further studies also showed that the
functioning of capital market and money market depends much on the liquidity position
of commercial banks. The maximization of the firm’s return could seriously threaten it
liquidity position and the pursuit of liquidity had a tendency to dilute returns. Those
previous studies also examined a set of commercial banks that provided services in the
services the same economy and operating in the same environment. More to that, those
studies were interested in establishing differences, if any, in the relative liquidity position
of those commercial banks. This research paper seeks to establish how the liquidity
position impacts the profitability of commercial bank in an economy. The study is
expected to focus and answer the following research questions:

 What is the liquidity and profitability position of selected commercial banks in

Nepal?

 What is the relationship between liquidity and profitability of Nepalese

commercial banks?

 Does liquidity affect the profitability of commercial banks in Nepal?

1.4 Objectives of the Study

The main objective of this study is to evaluate the impact of liquidity on profitability of
NBL, ADBL, SCB, NIBL, NICA and GBIME and other specific objectives are as
follows:

 To analyze the liquidity and profitability position of selected commercial banks.

 To analyze the relationship between liquidity and profitability position of selected

commercial banks.

 To examine the impact of liquidity on bank profitability of selected commercial

banks.

1.5 Significance of the Study

The bank and financial institutions are facing the problem of liquidity in the context of
Nepal which would affect the financial performance in the market. Due to lack of
sufficient

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knowledge on impact of liquidity on bank profitability, they are suffering from the
problem of liquidity. So, present study will be of substantial importance for banks,
researcher, scholar, research executives, planners, professionals and investors to meet the
objective of research and individual and organizational objectives. Then, this study will
be beneficial to different parties like management, shareholders, government, competitors
and customers. They will be helpful to find the appropriate bank among them. So, the
study is significance.

The study will be helpful to regulatory authority to formulate the effective policy,
guidelines, rules about liquidity and investment on securities to deposit to run the
commercial bank which study will suggest them to formulate the proper policy on that
topic. It helps to mobilize the fund effectively within bank such effective management
ideas will be helpful for achieving the organizational investment opportunities. The
financial agencies stock exchange and stock traders are also interested to know the bank’s
performance as well as customer. Such position of liquidity and profitability will be
effective measurement factor for the customers. This study is helpful for self - assessment
of respective bank. Management can analyze their weakness and strength reports. Policy
makers at the macro level that is government and NRB will also be benefit regarding the
formulation of further policies and deciding about maintaining the liquidity position in
the bank.

1.6 Limitations of the Study

The following limitations are pointed out in this study.

 The study is mainly conducted on the basis of secondary data. The validity of a
secondary sources data depends on the reliability of the annual reports of the
commercial banks.

 The study focuses only six banks, namely NBL, ADBL, SCB, NIBL, NICA and
GBIME which have not truly generalized this results for 27 commercial banks.

 This study only includes the analysis of data from fiscal year 2015/16 to 2019/20.
The findings are only based on that period.

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 The study focuses only on the liquidity and profitability analysis and does not
cover other aspects of bank’s activities.

1.7 Organization of the Study

The study has been categorized into five chapter, all are related to study of impact of liquidity
on bank profitability in commercial banks. The first chapter is introduction, it provides an
overview of the research topic of impact of liquidity on bank profitability of commercial
banks in Nepal and present the research background of subject matters of the study,
statement of the problem, objectives of the study (it consists of general objective and
specific objective), significance of the study and limitation of the study. The second
chapter is literature review, this chapter discusses and elaborates further on the study of
impact of liquidity on bank profitability of commercial banks in Nepal on previous
studies and past literature review. This chapter presents the part of introduction, review of
the literature, research gap, review of relevant theoretical models, proposed theoretical of
conceptual framework and conclusion. The third chapter is research methodology. This
chapter consists of introduction, research design, data collection methods which includes
primary data and secondary data, sampling design which contains target population,
sampling frame and sampling location, sampling elements, sampling techniques and
sampling size, research instrument, data analysis and conclusion part. The fourth chapter
is presentation and analysis of data, this chapter includes introduction, descriptive
analysis which includes arithmetic mean, standard deviation, correlation coefficient,
coefficient of variance and regression analysis, coefficient of multiple determination,
various chart, figure, other statistical tools, financial tools and conclusion are included in
this chapter. The final chapter is summary, conclusion and recommendations, this chapter
includes the research area by providing discussion on the research findings, conclusions,
limitations and recommendation for the future research and future growth and
improvement of the concerned commercial bank based on the data presentation and its
analysis using the tools used in the analysis.

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CHAPTER II
REVIEW OF LITERATURE

Literature review includes the previous studies that are related to this research that plays a
significant role in conducting any type of research. This chapter highlights up on the
existing literature for this several books, dissertation reports, handout and articles
published journal and newspaper are reviewed because the researchers by taking
guidelines from such studies can make research more valuable.

2.1 Conceptual Review

2.1.1 Financial Statement Analysis

Financial analysis means the analysis of financial statement of a firm to ensure its
comparative strength and weakness. In other words, financial analysis involves analyzing
financial statements prepared in accordance with generally accepted accounting
principles to ascertain information concerning the magnitude, timing and riskiness of
future cash flows. It establishes the relationship between the items of the balance sheet
and the income statement. It also provides the framework for financial planning and
control. The companies have variety of stakeholders such as shareholders, bondholders,
bankers, suppliers, employees and management. The stakeholders need to monitor the
firm and to ensure that their interests are being served. They rely on the company’s
financial statement for their interest. They will analyze the financial statement to have
information about the earnings of the company and short term and long term solvency
position of the firm (Brigham, 2013)

It is essential to make a meaningful conclusion about what a particular figure in the

firm’s financial performance. Financial statement analysis involves comparing the firm’s
performance with that of other firms in the same industry and evaluating trends in the
firm’s financial position. Internally, the financial manager use the information provided
by the financial analysis to help to take financing and investment decision. Externally, the
other stakeholders use financial statement analysis is to evaluate the attractiveness of the
firm.

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Income statement is a statement summarizing the firm’s revenues and expenses over an
accounting period, generally a quarter or a year. The income statement is also known as
profit and loss account.

The income statement summarizes the results of operations of an entity for a period of
time. It provides the real income picture of the company by deducting all operating
expenses from operating income. Income statement is the financial statement of banks
earning power and cost. Banks have to efficient in minimizing the cost and generating the
income. It is the major indicator of bank’s success and failure. The income statement
reflects the earning power of the banks. Generally, bank can raise the income by
providing higher rate of interest on credit (loan) than rate of interest paid on deposits
(Brigham, 2013).

Balance sheet is statement of firm’s financial position of the concern at the end of the
accounting period Balance sheet is prepared to know about the assets and liabilities at
that movement. The balance sheet shows assets on one side and liabilities and capital on
the other, the balancing of the statement being immediately apparent. Thus, balance sheet
disclosed the information regarding assets, liabilities and capital. It discloses how much
business owes to others and how much others owe to business.

The balance sheet of commercial bank is a statement of total assets and liabilities for a
particular day, so it discloses the financial position on a particular day and not for a
particular period. In fact, commercial banks are able to concrete opinion about the interest
earning assets that includes mostly loan and investment and interest paying liabilities that
cover mainly deposit and borrowing. Balance sheet helps to ascertain the financial
position of business on a particular date and also helps to decide the amount of provisions
of reserves which should be created for meeting future contingencies. Further, it helps to
ascertain the equity on the date of balance sheet. It contributes more other information
about the total assets and equity current assets and fixed assets and current liabilities and
long term liabilities (Brigham, 2013).
2.1.2 Financial Ratio Analysis
Financial ratio analysis is used as a technique to quantify the relationship between two or
more sets of financial data taken from income statement and balance sheet. It provides
the financial information about strength and weakness of a financial data in relation to
other

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proper analyzing the financial statement will provide the meaningful ascertainment of
financial results obtained by the bank.

Ratio is very useful for the purpose of identifying financial position and results with
company standard which will determine the success and failure of the company. To
identify the financial position and performance of a company; its ratio may be compared
with average ratios to the industry of which the firm is involved. Financial managers need
the information provided by analysis, which highlights the key aspects of firm’s
operation (Brigham, 2013). Various ratios are used to measure the financial performance
of the company. Among them only liquidity and profitability analyze here.

2.1.3 Concept of Liquidity

Liquidity ratios measure a firm’s ability to satisfy its short term commitment out of
current or liquid assets. These ratios focus on current assets and liabilities and are used to
ascertain the short term solvency position of a firm. The two primary tests of liquidity are
current ratio and quick ratio. Liquidity refers to the speed and ease with which assets can
be converted cash gold is relatively liquid assets. Liquidity includes the cash and cash
equivalent items or that can be converted to cash over the next 12 months. Liquid assets
are those assets which can be converted into cash without a substantial price reduction.
The liquid assets are current assets like receivable, inventory, cash balance in NRB.
Current assets are relatively liquid and include cash and those assets that we expect to
convert to cash (Shrestha, 2012).

Liquidity can further be termed as a bank’s capacity to fund increase an asset and meet
both expected and unexpected cash and collateral obligations at a reasonable cost and
without incurring unacceptable losses. Also, liquidity is a financial term that means the
amount of capital that is available for investment. Today, most of this capital is credit, not
cash. Bank Liquidity simply means the ability of the bank to maintain sufficient funds to
pay for its maturing obligations. It is the bank’s ability to immediately meet cash,
cheques other withdrawals obligations and legitimate new loan demand while abiding by
existing reserve requirements (Global Association of Risk Professionals, 2013).

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Liquidity is the status and part of the assets which can be used to meet the obligation.
Liquidity can be viewed in terms of liquidity stored in the balance sheet and in terms of
liquidity available through purchased funds. The degree of liquidity depends upon the
relationship between cash assets plus those assets which can be quickly turned into cash
and the liability awaiting payment. Generally, the definition of liquidity can’t be found in
the same way, in the countries of whole world. Because, it is known, as much as the
development of the monetary sector take place or the use of monetary devices increases.
So much the definition of it goes wider. Liquidity means the whole money stock money
(Bhandari & Lyer 2013).

Liquidity suggests that a liquid asset should be maintained by each commercial bank for
day to day operation of business smoothly. Such liquidity position should be maintained
by raising the funds and selling the assets. Appropriate level of liquidity determined by
central bank is an important phenomenon if they can’t raise the liquid assets, funds. It
may still be in problem. Many banks assume that liquid funds have to be maintained at
any time to fulfill the daily demand of fund. The enormous cash shortages to mobilize the
fund or cash from bank to customer, then it will create the serious problem for operating
the bank. Liquidity ratios attempt to reflect the picture of capacity of bank to meet short
term obligation (Pandey, 2015).

Bank liquidity refers to the ability of the bank to ensure the availability of funds to meet
financial commitments of maturing obligations at a reasonable price at all times. Bank
liquidity means a bank having money where they need it particularly to satisfy the
withdrawal needs of the customers (Wasiuzzaman & Tarmizi, 2010). The amount of
liquidity that a commercial banking system should maintain is one of the basic problems
of the bank system. As for going income, too little, however may be fatal not only to an
individual bank, but to the commercial banking system as a whole, the financial structure
of the country and the economy of the nation. Too little liquidity and the demands of the
depositors in the form of ‘ruins’ on the banks are like oil and water, they do not mix well
(Edgar & Reed, 2015).

Liquidity management is very important, because a bank can be closed if it cannot rise
enough liquidity even though technically it may still be solvent. Many banks assume that

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liquid funds can borrowed virtually without limit any time they are needed. So, they need
to keep certain form of easily marketed, stable price assets in the bank. The high cash
shortages experienced in recent years by banks in trouble make clear that liquidity needs
cannot be ignored.

Liquidity management is an important tool for the management of organization; it reflects

the organization’s ability to repay short-term liabilities, which include operating expenses
and financial expenses and financial expenses resulting within the organization in the
short term. As well as part of long term debt during the financial year or the operating
cycle, whichever is longer? There are many liquidity ratios, cash ratio, defensive interval
ratio) which can greatly affect the financial performance of companies (Robinson &
Sensoy, 2016).

The liquidity position of a firm would be satisfactory if it is able to meet its current
obligations when they become due. A firm can be said to have the ability to meet its
short- term liabilities if it has sufficiently liquid funds to pay the interest on its short
maturing debt usually within a year as well as to repay the principal. This ability is
reflected in the liquidity ratios of affirm. The liquidity ratios are particularly useful in
credit analysis by banks and other suppliers of short –term loans.

Liquidity ratio measures the ratio of liquid assets by total assets. Liquid assets include
cash and equivalent and cash reserve at the central bank, short term deposits in banks and
other government and non-government guaranteed securities as a percentage of total bank
assets. Liquidity risk is one the types of risk for banks when banks hold a lower amount
of liquid assets they are more vulnerable to large deposit withdrawals. Therefore,
liquidity risk is estimated by the ratios of liquid assets to deposit and liquid assets to total
asset. Various types of ratios have been used to measure the liquidity position of an bank
in concern with commercial banks different liquidity ratio such as total liquid assets to
total deposit ratio, credit to core capital to deposit ratio, credit to deposit ratio, NRB
balance to deposit ratio and investment in government securities to deposit ratio are used
to measure the liquidity position of commercial banks.

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2.1.4 Importance of Liquidity

A bank and financial institution cannot be run with liquidity. The commercial banks and
other financial institutions should keep the stock of liquid assets in the ratio of their
deposit liability as fixed by the NRB. If commercial banks and financial institution
maintain the stock of liquid properly as per the law and policy of the central bank, then
there is no dispute that liquidity is the most important thing for a bank. The Commercial
bank and financial institutions should maintain the balance of cash fund in required
amount that the monetary policy fixes. The importance of liquidity is considered very
sensitive because if it can’t maintain the liquidity, it has to pay fine. So, they have to
maintain certain amount determined by the NRB.

People deposit their savings into bank to safeguard them, earn interest, and get back
whenever they need. Liquidity is the life blood of bank, without which a bank cannot
survive for long. Banking transactions are more dependent upon the mutual faith between
bankers and customers. It is essential to maintain sufficient cash reserve in bank to
maintain the customer faith. Banks and financial institution should maintain some
liquidity to refund the deposit when account holders withdraw deposit. Hence, liquidity is
the life blood of bank. Since importance of liquid assets are; to run the daily operating
expenses, to meet the customer demand of fund, liquidity is necessary for the efficient
and healthy competition among banks to gain trust from public and including other
stakeholders, to control the economic fluctuation, to gain trust from public and including
other stakeholders, it is important to maintain statutory liquidity ratio in banks, it is
essential for the payment of all sorts of deposits such as current, saving and fixed account
of its customer’s.

2.1.5 Motive for Holding Liquidity by Commercial Bank

Liquidity generally related with cash and cash equivalent items and it is the most liquid
and least productive current assets. Cash, if it remains idle, earns nothing but involves
cost on terms of interest payable to finance it. If cash is the least productive current
assets, why should a firm hold the cash and keep in liquid form? There are four motives
for holding liquid assets:

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Transaction Motive
The motive for holding liquidity is to satisfy ongoing operation of firm. It refers the need
to hold liquid assets to satisfy normal disbursement collection activities associated with a
firm’s ongoing operation. In its ordinary course of action, a firm frequently involves in
purchases and sales of goods or services. A firm should make payment of wages, salary,
interest, commission, brokerage, rent, taxes, and insurance dividend and so on. Individual
and business firms keep some amount in liquid form for daily expenditure and
transaction. So, keeping some amount in ready cash (money) will help them in carrying
out the daily transactions. Keynes has divided the demand from money in transaction
motive into two parts. They are income motive and business motive (Subedi & Neupane,
2013).

Precautionary Motive
Precautionary motive refers to holding cash as a safety margin to act as a financial
reserve. A firm should also hold some cash for the payment of unpredictable or
unanticipated events. A firm may have to face emergencies such as strikes and luck- ups
form employees increase in cost of raw material, funds and labor fall in market demand
and so on. People desire to keep some ready money with them to solve the unforeseen
incidents that may occur in the future. This type of demand for money is known as the
demand for precautionary motive. People will be fully unaware of illness, accidents, etc.
that may occur in the future (Subedi & Neupane, 2013).

Speculative Motive
People desire to hold their resources in liquid form in order to take advantage of market
movements regarding the future changes in the interest rate. So, this type of demand for
money is known as the demand for money for speculative motive. It refers to the need to
hold liquidity to take advantage of bargain purchases, attractive interest rates, and
favorable exchange rate fluctuations. Speculative need for holding liquidity requires that
a firm possibly may have some profitable opportunities to exploit which are out of the
normal course of business. These opportunities a rise in conditions, when price of raw
material is expected to decline and purchase of inventory occurs at reduced price on
immediate cash payment (Subedi & Neupane, 2013).

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Compensating Balance
The firm should maintain the minimum cash balance with central bank for operating the
daily operation of bank. The cash balance that a firm must have to maintain with a bank,
to compensate that bank for services rendered or for granting a loan. Firm often maintains
bank balance in excess of transaction needs as means of compensating for the various
services. Bank provides various services to the firm like payment of check, and
information of credit, loan etc. (Subedi & Neupane, 2013).

2.1.6 Concept of Profitability

Profitability ratio is the end results of a number of corporate policies and decisions. It
measures how effectively the firm is being operated and managed. Various stakeholders’
owners, managers, and creditors are interested to know the financial soundness of the
firm. Profitability ratio depicts almost entire financial performance of the bank. The bank
is established, operated and run to gain the profit by providing financial services to their
customers.

Profit is the excess amount of revenue over expenses. For specific period of time
commercial banks are established to earn profit as well as providing financial services to
customer. All stakeholders of the bank put pressure on the bank management to earn
profit by providing excellence services to customer in the competitive financial world.
Every investor, depositors and other concerned stakeholders have a positive attitude
towards the highly profitable of financially viable and sound bank.

Bank profitability is the ability of a bank to generate revenue in excess of cost, in relation
to the bank’s capital base. A sound and profitable banking sector is better able to
withstand negative shocks and contribute to testability of the financial system (Brissimis
& Delis, 2008).

Profitability is the ability of a given investment to earn a return from its use. Profitability
means ability to make profit from all the business activities of an organization, company,
firm, or an enterprise. It shows how efficiently the banks management can make profit by
using all the resources available in the market. However, the term ‘Profitability’ is not
substitutable for the term ‘Efficiency’. Profitability is an index of efficiency; and is

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regarded as a measure of efficiency and management guide to greater efficiency. Though,

profitability is an important yardstick for measuring the efficiency, the extent of
profitability cannot be taken as a final proof of efficiency. Sometimes satisfactory profits
can mark inefficiency and conversely, a proper degree of efficiency can be accompanied
by an absence of profit. The net profit figure simply reveals a satisfactory balance
between the values receive and value given. The change in operational efficiency is
merely one of the factors on which profitability of an enterprise largely depends.
Moreover, there are many other factors besides efficiency, which affect the profitability
(Harward & Upton, 2012).

Profitability ratios are designed to provide answers to questions such as: (i) what is the
earning per share? (ii) what is the rate of return on shareholders’ equity? (iiii) what is the
rate of return on total assets? (iv) is the profit earned by the bank adequate? (v) what is
the rate of profit for various departments (Khan & Jain, 2014).

Profit is the difference between revenues and expenses over a period of time (usually one
year). Profit is the ultimate output of a company, and it will have no future if it fails to
make sufficient profits. Therefore, the financial manager should continuously evaluate
the efficiency of the company in term of profits. The profitability ratios are calculated to
measure the operating efficiency of the company. Besides management of the company,
creditors and owners are also interested in the profitability of the firm. Creditors want to
get interest and repayment of principal regularly. Owners want to get a required rate of
return on their investment. This is possible only when the company earns enough profits
(Pandey, 2015).

Therefore, profitability measures the success of firm in earning a net return on sale or
investment profitability measures the operating efficiency of the banks. It ensures the
long term viability of the company. The stakeholders like creditors, owners, and potential
investors are also invested to the profitability of the firm. Higher profitability ratio
ensures to stakeholders that their investment is safe and they can get regular return. It
shows the combined effect of liquidity, assets management and debt management on
operating results.

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2.1.7 Impact of Liquidity on Profitability

For bank, the words liquidity and profitability come again and again. There is no
possibility of profitability without liquidity. Also there is no growth in liquidity without
profitability. There are complements to each other, but these two also are opponent to
each other if there is high liquidity in bank, bank can’t gain profit. Because most part of
the liquidity is reserved in the bank, it does not give profit to the bank. The bank can’t
invest the amount. It is not possible to hope profitability without investment.
Cash is the important current assets for the operation of any business. It is the input
needed to keep the business running continuously. A bank as a business concern needs to
have cash and liquid assets which it can easily convert into cash at short notice. The types
of assets available to a bank to include cash, deposits with the central bank, treasury bills.
Thus, for banks to remain in the business of financial intermediation, they must formulate
policies to ensure the availability of cash and liquid assets in the asset portfolio at any
point in time (Pandey, 2015)

Liquidity risk reduces the ability of the bank to meet its financial obligations as they fall
due. When this risk remains unchecked, banks will lose customers thereby reducing the
volume of deposits. When deposits reduce, the bank will have insufficient funds for other
investments; this significantly reduces the level of profitability. Again, a high liquidity
risk causes a run on the bank. This run is evidenced in the panic withdrawal of deposits
by customers from the bank. This adversely affects the potentials of the bank by keeping
away would be customers and potential investors from the bank consequent upon this, the
bank’s operations reduce drastically and results in a significant reduction in profit.

Liquidity also refers to the ability of the commercial bank to convert its non-cash assets
into cash easily and without loss. The bank cannot have all its assets in the form of cash
because cash is an idle asset which does not fetch any return to the commercial bank. So
some of the assets of the bank, money at call and short notice, bills discounted, etc. could
be made liquid easily and without loss (Saunders & Cornett, 2015). The principality of
liquidity and profitability are very much crucial. In the lack of liquidity, the bank can’t
give payment to the depositors in the time of their demand can’t pay the loan to the
creditors. The bank, under the law can’t keep and maintain the capital funds not only this
much, the

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bank also becomes unable to face any economic rise and fall occurring in coming days to
keep liquidity very important. If high liquidity is harmful to the bank, liquidity crisis is
malignant to the bank. To be free from both of these two creditors, the bank should be
able to maintain balance of liquidity.

2.2 Theoretical Review

2.2.1 Theories of Liquidity
The major objective of a commercial bank is to create liquidity while remaining
financially sound. However, there are a number of dimensions in the way banks
concretely manage their liquidity risk. In plain words, there are competing liquidity
management theories. Liquidity management theories encompass where it is exactly
performed in the organization, how liquidity is measured and monitored, and the
measures that banks can take to prevent or tackle a liquidity shortage. These competing
theories include: commercial loan theory, shiftability theory and anticipated income
theory.

2.2.1.1 Commercial Loan Theory

It is a theory of asset management that emphasized liquidity; the doctrine held that banks
should restrict their earning assets to “real” bills of exchange and short-term, self-
liquidating advances for commercial purposes. In this way, it was argued; individual
banking institutions could maintain the liquidity necessary to meet the requirements of
deposit withdrawals on demand. Under a somewhat modified character this basic doctrine
came to be known in the U. S. as the commercial loan theory of credit.

The commercial loan theory of credit became obsolete both because of its conceptual
flaws and its impracticality. A critical underlying assumption of the theory held that
short-term commercial loans were desirable because they would be repaid with income
resulting from the commercial transaction financed by the loan. It was realized that this
assumption would certainly not hold during a general financial crisis even if bank loan
portfolios did conform to theoretical standards, for in most commercial transactions the
purchaser of goods sold by the original borrower had to depend to a significant extent on
bank credit. Without continued general credit availability, therefore, even short-term
loans backing transactions involving real goods would turn illiquid. Rigid adherence to
the orthodox doctrine was,

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furthermore, a practical impossibility if banks were to play a role in the nation’s

economic development. Moreover, the practice of continually renewing short- term notes
for the purpose of supporting long-term capital projects proved unacceptable. The failure
of banks to tailor loan arrangements to the specific conditions encountered with longer-
term uses in fact contributed to the demise of the practice.

2.2.1.2 The Shiftability Theory of Liquidity

The shiftability theory liquidity replaced the commercial loan theory and was
supplemented by the doctrine of anticipated income. Formally developed by Harold G,
Moulton in 1915, the shiftability theory held that banks could most effectively protect
themselves against massive deposit withdrawals by holding, as a form of liquidity
reserve, credit instruments for which there existed a ready secondary market. Included in
this liquidity reserve were commercial paper, prime bankers’ acceptances and, most
importantly as it turned out, treasury bills. Under normal conditions all these instruments
met the tests of marketability and, because of their short terms to maturity, capital
certainty.

A major defect in the shiftability theory was discovered similar to the one that led to the
abandonment of the commercial loan theory of credit, namely that in times of general
crisis the effectiveness of secondary reserve assets as a source of liquidity vanishes for
lack of a market. The role of the central bank as lender of last resort gained new
prominence, and ultimately liquidity was perceived to rest outside the banking system.
Furthermore, the soundness of the banking system came to be identified more closely
with the state of health of the rest of the economy, since business conditions had a direct
influence on the cash flows, and thus the re-payment capabilities, of bank borrowers. The
shiftability theory survived these realizations under a modified form that included the
idea of ultimate liquidity in bank loans resting with shiftability to the Federal Reserve
Banks. Under this institutional scheme, the liquidity concerns of banks were partially
returned to the loan portfolio, where maintenance of quality assets that could meet the test
of intrinsic soundness was paramount (Allen & Gale, 2014).

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2.2.1.3 Anticipated Income Theory of Liquidity

The doctrine of anticipated income, as formalized by Herbert V. Prochnow in 1949,
embodied these ideas and equated intrinsic soundness of term loans, which were of
growing importance, with appropriate repayment schedules adapted to the anticipated
income or cash flow of the borrower. The credit demands of business were well
accommodated under this system of banking policy, and the use of loan commitments
was freely pursued. Changing economic conditions, however, placed extra demands on
the banking system that resulted in a new approach to balance sheet management, and
businesses faced new financial challenges. Under this emerging state of affairs, bank loan
commitment policies would come to play a more important part in the credit process.

2.2.2 Theories of Profit

Economists have developed several theories of profits to describe profits of
entrepreneurs. Most of the theories are focused on the controversy about the role of
entrepreneur. Here some of the fundamental theories of profit have reviewed in detail.

2.2.2.1 Innovation Theory of Profit

This theory of profits explains that economic profits arise because of successful
innovation introduced by the entrepreneurs. Austrian economist joseph A. Schumpeter
(1853 -1950) is the originator of the innovation theory of profit. Schumpeter holds that
the main function of the entrepreneur is to introduce innovation in the economy and
profits are reward for performing this function. Innovation, as used by Schumpeter, has a
very wide connotation. Any new measure or policy adopted by an entrepreneur to reduce
his cost of production or to increase the demand for his product is an innovation.

Innovation may be of two types: (i) those which reduce cost of production. They include
the introduction of new machinery, improved production techniques or processes (i.e.,
innovation of new technique and product, and exploitation of a new source of raw
material of a new and better organizational pattern for the firm i.e., (innovation of new
market for the product and innovation of new method of organization.

The second type of innovations are those which are considered to increase the demand for
the product by introducing a new product or a new variety of an old product, new and
more

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effective mode of advertisement, discovery of new markets. So profits are cause and
effect of innovations. Profits served as a necessary incentive for making innovations;
hence they are a cause of innovations. Profits are also the effect of innovations, new and
superior types of innovation in production, management and marketing helps firms to
earn profit.
2.2.2.2 Managerial Efficiency Theory of Profits
The theory explain that some firm are efficient than others in term of management of
production, operations and successfully meeting the needs of consumers. Firms with
average level of efficiency earns average rate of return. Firms with higher managerial
skills and production efficiency are required to be compensated by above – normal profits
(i.e. economic profits). Therefore, this theory is also called compensatory theory of
profits. The conclusion is that above normal profits can arise because of exceptional
managerial skills. Ability to earn above normal profits is a continuing incentive for
greater efficiency (Shreshtha, Dahal, & Kharel, 2012).

2.2.2.3 Risk and Uncertainty Bearing Theory of Profit

This theory explains that profits are necessary reward of the entrepreneur for bearing risk
and uncertainty in a changing economy. Profits arise as a result of uncertainty of future.
Entrepreneurs have to undertake the work of production under condition of uncertainty.
In advance, they have to make estimates of the future conditions regarding demand for
the product and other factors which affect price and costs.

Risk and Uncertainty theory explains why super- normal profits (that is economic profits)
are required by the firms who operate in such fields as petroleum exploration which
involves relatively higher risk. Likewise, expected return on stocks should also be higher
than the interest on bonds because of greater uncertainty and riskiness of investment in
stocks of the companies. Hence, economic profits above a normal return are necessary to
compensate the owners of the firm for the risk. Since shareholders are residual claimants,
they need to be compensated for risk in the form of a higher return (Shreshtha, 2012).

2.2.2.4 Dynamic Theory of Profit

The dynamic theory of profit was developed by an American Economist J.B Clark.
According to him, profit is the difference between price and production cost of a

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commodity. This theory states that, “Profit arises due to dynamism in the economy.”
According to this theory, there are two types of economies.

Static economy refers to such type of economy where there are no risk and uncertainties.
In this type of economy, price and average cost of production are equal so that each firm
just earns normal profit. The forces of demand and supply do not change and even if they
change. Price of goods and production cost like wages and interest remain at their natural
level or normal level. Frictional profit will exist in the economy. In a dynamic economy,
profits arise due to dynamic changes in the society. Changes are constantly taking place
in the dynamic economy. In dynamic economy, there exist risk and uncertainties. Due to
risk and uncertainties, cost and demand conditions changes frequently create profits for
the firm.

2.2.2.5 Review of Related Studies

Various Studies have been conducted in many aspects of commercial banks. The
conclusions of the previous studies on many aspects of commercial bank are relevant to
this study. Since, the studies of previous articles, journals and thesis reviewed in this
regard.

Shrestha (2012) examined the impact of liquidity on profitability of commercial banks in

Nepal. To address the objective, the was sampled eight commercial banks established in
and before 1995 for the period between 2003/04 and 2010/11. Profitability analysis
showed that the overall profitability (i.e. ROA) of the sample banks had normally an
increasing trend. The overall trend of liquidity ratios was not largely smooth. Fluctuating
trend of the liquidity ratios did not make easy in increase trend of profitability of
commercial banks in Nepal. Since liquidity management can increase the banks’
profitability, the study examined their liquidity management as well as profitability
positions, using various financial tools. There was a significant impact on total deposit
ratio and cash vault to total deposits on profitability of commercial banks in Nepal due to
directive of Nepal Rastra Bank. This indicated that increase in these liquidity ratios
boosts the bank profitability and vice-versa. But, there was no significant impact of total
liquid fund to total deposit ratio, cash and bank balance to total deposits ratio, and total
liquid fund to current liabilities ratio on profitability. This revealed that profitability has
no relationship with those liquidity ratios. It has also studied data of only eight fiscal
years. Therefore, further studies should

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also cover as many more banks and years as possible to make their findings more valid
and should use more scientific tools and analysis.

Shahchera (2012) conducted a study on impact of liquid asset holdings on bank

profitability for a sample of Iranian banks. Using the generalized method of moment
(GMM), this study analyzed the profitability of listed banks using unbalanced panel data
over the period of 2002-2009. This study used the liquidity asset and liquidity asset ratio
square for estimating liquid asset and profitability relationship. The estimated relationship
between liquid assets and bank profitability is as expected. Coefficients for the liquid
assets ratio, its square, business cycle, regulation and its product are all statistically
significant. As expected, it was found evidence of a non - linear relationship between
profitability and liquid asset holdings. An important finding of this study was that the
business cycle significantly affects bank profits. The coefficient of business cycle has a
positive and statistically significant impact on bank profitability in results of the model;
this suggested that profitability exhibits pro-cyclical behavior. The coefficient of
regulation is negative and significant. Therefore, if regulators reduce the constraints
imposed on banks, banks can make profits.

Pradhan (2013) examined the impact liquidity on profitability in which liquidity ratio was
relatively fluctuating over the period, return on the equity is found satisfactory and there
is positive relationship between deposits and loan advances. It is also found that the
liquidity and banks loan are positively related to banks profitability. This study is based
on secondary sources of data of 16 commercial banks for the year 2005/6 to 2013/14
leading to the total observations of 144. The regression models were estimated to test the
significance and effect of bank liquidity on performance of Nepalese commercial bank.
Result revealed that return on equity is positively related to Credit to deposit ratio. This
indicated that higher the Credit to deposit ratio higher would be the return on assets and
return on equity. Similarly, correlation between capital ratio and ROA and ROE is found
to be positive indicating higher the capital ratio higher would be ROA and ROE.
However, the correlation between return on equity and liquidity ratio is found to be
negative indicating higher the liquidity in the bank lower would be the return on equity.
Further, the correlation is found to be negative for quick ratio with return on equity.
This study

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concluded that liquidity status of the bank plays important role in banking performance in
case of Nepalese commercial banks. This study revealed that Credit to deposit ratio,
liquidity ratio and capital ratio has positive impact on bank performance, while quick
ratio has negative impact on the same. The study suggested that banks willing to increase
bank performance should increase capital ratio and Credit to deposit ratio while should
control liquidity ratio and quick ratio.

Lartey, Antwi and Boadi (2013) evaluated both the liquidity and the profitability levels of
the listed banks were decreasing within the period 2005 – 2010. There was a weak
positive relationship between the liquidity and the profitability of the listed banks. These
findings support Bourke (1989) who found some evidence of a positive relationship
between liquid assets and bank profitability for 90 banks in Europe, North America and
Australia from 1972 to 1981. In view of the fact that liquidity has some amount of
bearings on the profitability of a bank, it is important that banks manage their liquidity
very well. When banks hold adequate liquid assets, their profitability would improve.
Adequate liquidity helps the bank minimize liquidity risk and financial crises. The bank
can absorb any possible unforeseen shock caused by unexpected need for decrease in
liabilities or increase in assets side of the statement of financial position. However, if
liquid assets are held excessively, profitability could diminish. Liquid assets usually have
no or little interest generating capacity. The opportunity cost of holding low- return assets
would eventually outweigh the benefit of any increase in the bank’s liquidity resiliency as
perceived by funding markets.

Karki (2013) conducted a study on Liquidity and profitability position of commercial

banks in Nepal which included SCB, HBL, NIBL, EBL, and NIBL with the objective to
examine the liquidity and profitability position of the commercial banks of Nepal. This
study formed that liquid assets of NIBL is higher than that of SCB, the liquid assets are
higher than that of other sampled bank, in cash reserve ratio, Liquidity position of NIBL
is very sound and the average net profit for SCB is higher. Net profit margin for SCB is
very efficient. As per this thesis, it would be better if SCB increased the liquid assets
considering the short term liabilities requirement NABIL and SCB should be cautious
enough while maintaining

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CRR, and thus should not maintain the credibility of the bank. Banks should restructure
the portfolio of its investment to achieve higher profit.

Rana (2014) conducted a study on performance measurement of joint venture commercial

banks of Nepal with reference to Standard Chartered Bank Limited, Nepal SBI bank,
Everest Bank and Nabil Bank Limited. The main objective of his study was to identify
the investment policy and strategies followed by the banks under study. The major
findings of this study are NABIL has maintained highest cash and bank balance total
deposit ratio among the entire sampled bank under study, all sampled banks have
maintained moderate level of investment to total deposit ratio, EBL has a highest EPS,
then other banks under study, SCB has the highest mean current ratio whereas NABIL
has the poorest. With the analysis and evaluation of various financial and statistical tools,
he recommended that all sampled banks under study should collect more amounts of
deposit through variety of deposit schemes and facilities. Moreover, he also suggested
SCB to keep wide vision in investment. Further, he also recommended the banks to invest
its funds in share and debentures.

Karki (2014) researched liquidity impact on loans and advances, that research identified
liquidity ratio was relatively fluctuating over the period, return on the equity is found
satisfactory and there is positive relationship between deposits and loan advances. The
recommendations made that are the existing condition of the liquidity of the banking and
financial institutions needs to be reduced through an appropriate investment policy.
Further, Joshi (2014) analyzed financial performance through the use of appropriate
financial tools like ratio analysis, simple regression analysis and to show the cause of
change in cash position of the two banks. In which he stated that bank profitability uses
the return on assets, the return on equity and net interest margin. The study found that
liquidity and bank loan are positively related to bank profitability. These studies
suggested using the more banks as a sample, using for scientific tools and multiple
regression technique of data analysis.

Akter and Mahmud (2014) examined the relationship between liquidity and profitability.
The profitability was measured as return on assets ratio and liquidity was measured a
current ratio. The data for this study was taken from the specific commercial banks
income

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statements and balance sheets of published in the annual report of such bank. The twelve
specific banks were taken as sample. For analysis of data a number of techniques were
used which included the correlation technique; regressions & descriptive statistics and
SPSS. The overall findings of this study are that there was no significant relationship
exists between liquidity and profitability in all the categories on banks in Bangladesh.
This study suggested using more variable of profitability and liquidity to find out the
relationship between them.

Abdullah (2014) focused on two important issues of main stakeholders of bank which
were liquidity and profitability. The shareholders desire maximum profitability as a
return on their investment, while the depositors option for a maximum liquidity as a
guarantee for safety and ability to pay their money on demand. Statistical significance of
liquidity on profitability can be great factor for existing and potential stakeholders.
Therefore, this study had attempted to investigate the impact of liquidity and profitability
of the private commercial banks of CSE-30 in Bangladesh by focusing on certain ratios
over a period of five years. Five private commercial banks have been selected to
undertake the research. Profitability measures - ROA and ROE were dependent variables
and liquidity measured - loan deposit ratio, deposit asset ratio and cash deposit ratio were
selected as independent variables. The research carried out simple regression analysis to
test the hypotheses. However, the null hypothesis was accepted in this study indicating
that there is no significant relationship between liquidity and profitability.

Alshatti (2014) investigated the effect of liquidity management on profitability in the

Jordanian commercial banks during the time period (2005–2012). Thirteen banks have
been chosen to express on the whole Jordanian commercial banks. The liquidity
indicators were Credit to deposit ratio, quick ratio, capital ratio, net credit facilities/ total
assets and liquid assets ratio, while return on equity (ROE) and return on assets (ROA)
were the proxies for Profitability. Augmented Dickey Fuller (ADF) stationary test model
was used to test for a unit root in a time series of the research variables and then testing
hypothesis by using regression analysis. The empirical results show that an increase in
the quick ratio and the Credit to deposit ratio of the available funds leads to an increase in
the profitability, while an increase in the capital ratio and the liquid assets ratio leads
to decrease in the

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profitability of the Jordanian commercial banks. The researcher recommends that there is
a need for an optimum utilization of the available liquidity in a various aspects of
investment in order to increase the banks' profitability, and banks should adopt a general
framework of liquidity management to assure sufficient liquidity for executing their
operations more efficiently, and they should initiate an analytical study of the evolution
rates of liquidity and their ability to achieve a balance between sources and uses of funds.

Das, Chowdhury, Rahman, and Dey (2015) analyzed better liquidity management
depends on the market condition, internal regulations and implementation of these
regulations. If banks want to increase the profitability, liquidity should be managed very
efficiently. This research is conducted by considering the banking condition and it proves
that excess liquidity reduces the profitability. Several techniques have been used to find
out this truth. It recommended to analyze the deposit and advancement policy the bank
which would focus on maintaining the liquidity of the bank.

Saleem and Rehaman (2015) investigated the growth and survival of business houses
hinges in the liquidity and profitability. The dexterity to lever between the two domains is
of paramount significance for the financial managers. The current study made an earnest
endeavor to investigate the relationship between liquidity and profitability of companies
listed in Saudi Stock Exchange (Tadawul). The study encompassed 99 listed companies
in (Tadawul). The data were collected from audited annual financial statements of listed
companies for a period of five years from 2008 to 2012. The profitability facets of the
companies were represented by the variables, namely, return on assets (ROA) and return
on equity (ROE). The liquidity of the companies was gauged by current ratio, quick ratio
and the absolute liquid ratio. The overall results revealed that there is only one positive
significant relationship between return on assets (ROA) and current ratio (CR) of the
companies in Saudi Arabia. Further, it is revealed that there is negative but insignificant
relationship between the return on assets (ROA) and quick ratio (QR) & cash ratio (CR)
of the companies in Saudi Arabia. Likewise, in the case of return on equity (ROE), there
is insignificant relationship with the three selected independent variables, namely, current
ratio (CR), quick ratio (QR) and cash ratio (CR). This study suggested for using
regression and correlation technique to find the relationship between liquidity and
profitability.

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Salim and Bilal (2016) explained that there is meaningful relationship between the bank’s
liquid assets to deposits; liquid assets divided by short term liabilities and return on
equity. The study found the significant relationship between the bank’s loans to total
assets, loan to deposit and short term liabilities, Bank’s loans – customer bank deposit to
total assets and return on assets. The study also found that no meaningful relationship
between Omani bank liquidity position and NIM (net interest margin). The data was
collected from the financial statement of four banks to examine the relationship between
the liquidity and financial performance of five periods of 2010 to 2014. The data
analyzed by using multiple regression analysis. This study suggested for using the more
variable of liquidity and profitability as dependent and independent variable to explore
the relationship.

Vintila (2016) focused on the relationship between market’s liquidity and the real
economy, and also on the effects that the banking system could generate, as the basis of
the entire financial system. This study started from the assumption that liquidity and
profitability are issues of significant impact on companies’ stability and development.
The analysis was conducted on companies listed on the Bucharest Stock Exchange. In
order to observe the changes recorded before the crisis and the subsequent evolution, data
were collected for a period of 10 years, from 2005 to 2014. In this paper, it did not focus
on testing a certain model, but analyzed the correlations between the studied variables. In
the first part of the study, a graphical analysis was conducted regarding the trend of
current liquidity and leverage ratios. Also, the effective tax rate was analyzed in order to
monitor the impact of tax pressure and changes recorded during the financial crisis. The
empirical study was conducted by econometric analysis, using multivariate regression
models for unbalanced panel data. Financial performance was approached through
accounting measures using return on assets and return on equity. Factors that could
influence firm’s performance were focused on liquidity and solvency indicators. The
results confirmed the statistically significant relationship between the analyzed variables
and revealed a negative correlation between liquidity and corporate financial
performance.

Khan and Ali (2016) researched the relationship between liquidity and profitability of
commercial banks in Pakistan. The main objective of the study was to find the nature of
relationship and the strength of relationship exists between the variables. Correlation and

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regression were used respectively to find the nature of the relationship and extent of
relationship between dependent and independent variables. Secondary data was used for
analysis which was extracted from the last five years (2008-2014) annual accounts of
Habib Bank Limited. After conducting correlation and regression analysis it was found
that there is significant positive relationship between liquidity with profitability of the
banks. Since, the data of the banking sector was used; hence the results could not be
generalized to other sectors. It has considerable impact on the profitability of commercial
banks in Pakistan. With the growing liquidity level to ascertain limit the profitability also
increases none of the variable shows negative relationship. Every ratios of liquidity
showed a positive relation with all the ratios of liquidity. Therefore, it is suggested that
banks should keep considerable amount of their liquid assets in order to get higher rate of
profit.

Maqsood, Anwer, Raza, Ijaz, and Shouqat (2016) explained that there is significant
impact of liquidity on bank profitability in the banking sector. The data that is used in this
is taken from financial statement of 8 different banks from 2004 to 2015. The regression
and correlation technique were used in this study. To look the liquidity, it used the
current and cash ratio as independent variable and to measure the profitability uses the
return on assets as dependent variable. It suggested using scientific tools and more
variable to measure the impact of liquidity on profitability.

Nabeel and Hussain (2017) examined the effect of liquidity management on profitability in
the banking sector of Pakistan. Liquidity management is independent and profitability is
dependent variable. The secondary data used for this study and taking from publish annual
report of ten banks (2006-2015). The data was analyzed by using correlation, descriptive
statistics and regression techniques. The quick, current, cash, interest coverage and
investment on securities to deposit ratios were taken as dimension of liquidity and return
on assets, return on equity, and earnings per share as dimension of profitability. The
research findings showed that interest coverage, investment on securities to deposit and
quick ratio had a positive whereas the cash and current ratio had negative relationship with
bank’s profitability. The data was taken from annual reports of ten banks from 2006-2015.
The results showed that most liquidity ratios had positive and some liquidity ratios had
negative relationship with the bank’s profitability. The findings of such study clarify
that interest

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coverage ratio had positive and significant relationship with banks profitability when it
analyzed with return on assets and return on equity. The investment on securities to deposit
ratio had positive and significant relationship with return on equity and earnings per share.
The quick ratio had positive relationship with profitability. The current ratio suggested the
positive but insignificant relationship when look the relationship with return on assets. And
current ratio suggested the negative and significant relationship with return on assets and
negative and insignificant with earning per share. Therefore, the overall results explained
that liquidity management has positive related with banks profitability.

2.2.2.6 Conceptual Framework

Liquidity refers to the ability of the bank to ensure the availability of funds to meet
financial commitments or maturing obligations at a reasonable price at all-time. The
conceptual framework can be developed based on above theory or review of literature.
Nepalese commercial banks have prepared annual and quarterly reports under the NRB
formats, which is mentioned in unified directives 2077, directive no. 4. To examine the
impact of liquidity on profitability of Nepalese commercial bank, independent variables
are total liquid assets to total deposit ratio, NRB balance to total deposit ratio or cash
reserve ratio (CRR), investment in government securities to total deposit ratio, credit
(loans and advances) to core plus deposit ratio and credit to deposit ratio, and dependent
variables are return on assets, return on equity and earnings per share.

Figure 2.1 presents the relationship between dependent and independent variables. The
return on assets is a financial ratio, which shows the percentage of return on total assets,
and return on equity is percentage of return on total shareholder’s equity. Then, earnings
per share is earnings available to shareholders divided by number of share outstanding.
Total liquid assets to total deposit ratio measure the ratio between liquid assets and
deposits. Credit to core capital plus total deposit ratio and credit to deposit ratio measure
the limit ratios, which the bank are allowed to issue loan, and advances. NRB Balance to
total deposit ratio measures the reserve fund, which is deposited on NRB as per
regulatory requirement, which is called CRR also. Investment on government securities
to total deposit ratio measures the portion that is invested on treasury bills, treasury bond
and other government securities.

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Liquidity Profitability

Liquid assets to total deposit ratio Return on assets

Credit to core capital plus deposit ratio
Credit to deposit ratio Return on equity
NRB balance to total deposit ratio
Investment on government securities to Earnings per share
deposit ratio

Independent variables Dependent variable

Figure 2.1 Conceptual Framework

2.3 Research Gap

The impact of liquidity on bank profitability of commercial bank in Nepal has been
conducted by few researchers. However, the researcher conducts study according to some
randomly selected commercial bank which is not specified the category of bank. They are
only concerned with selected sector like private, and joint venture. Nobody has taken into
consideration for these sectorial or cluster wise, i.e. government ownership bank, private
ownership bank and Joint venture bank categorization to identify the impact of liquidity
on profitability of commercial bank of Nepal. Previous researchers have not taken the
latest updated data from annual report of concerned bank from Nepalese context. In
international context, various related research between banks of different nations has
been taken into consideration.

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CHAPTER III
RESEARCH METHODOLOGY

It is very important to have a well-designed research methodology as it helps to improve

the degree of accuracy and significant contribution of the research. It includes the
research design, data collection methods, sampling design, research instruments, data
processing and data analysis. The sampling design include sampling frame, sampling
technique, and sample size.

3.1 Research Design

In this study, descriptive and causal research design has been adopted.

3.2 Nature and Sources of Data

The study is completely based on secondary data. For this purpose, data are collected
from published annual financial reports of six banks i.e Nepal bank limited, Agricultural
Development Bank Limited, Nepal Investment Bank Limited, Standard Chartered Bank
Limited, NIC Asia Bank Limited and Global IME Bank Limited. The data are taken over
a period of five years (2015/16 to 2019/20).

3.3 Population and Sampling

There are 27 commercial banks operating in Nepal (NRB, 2020). These 27 banks are
regarded as population. Among them, only six commercial banks have been selected as
sample. Six commercial bank are selected on based of cluster sampling method where
cluster includes government banks, private joint venture banks, private banks. From each
cluster, two commercial banks have been taken as sample and applying the convenience
sampling method to study the impact of liquidity on bank profitability of Nepalese
commercial bank. The Nepal bank limited and Agricultural Development Bank Limited
are taken from government banks of Nepal and Nepal Investment Bank Limited and
Standard Chartered Bank Limited are selected as an established joint venture bank from
private sector and NIC Asia Bank Limited and Global IME Bank Limited are selected as
an established private commercial bank of Nepal.

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3.4 Method of Data Analysis

Before analyzing the data, the data and information which are collected from annual
reports of the sampled banks have been presented systematically in the tables. For the
analysis of the research study the following financial tools and statistical tools are used.

3.4.1 Financial Tools

Financial ratios are calculated to examine the liquidity and profitability position of the
commercial banks. It is the relationship between financial variables contained in the
financial statement (i.e., balance sheet and income statements). It helps the stakeholders
to spot out the financial strength and weakness of the bank. There are several financial
tools, which can be applied in order to analyze the liquidity position and profitability of
commercial banks. Ratio analysis is one of the most commonly used techniques of
financial statement analysis. Financial tool includes the following ratios.

3.4.1.1 Total Liquid Assets to Total Deposit Ratio (LATDR)

This ratio measures the ratio of total liquid assets by total deposits. In other word, it is a
bank’s ability to satisfy its short term commitments. Total liquid assets include cash and
cash equivalent, cash reserve at the central bank, short-term deposits in other banks and
government securities. Liquidity risk is one of the types of risk for banks; when banks
hold a lower amount of liquid assets they are more vulnerable to large deposit
withdrawals. Therefore, liquidity risk is estimated by the ratio of total liquid assets to
total deposit. It can be computed as follows:

Total liquid assets to total deposit (LATDR) Total liquid assets

= Total deposits

3.4.1.2 Credit to Core Capital to Total Deposit Ratio (CCDR)

Credit to Core capital (CCD) ratio stands for the loans and advances to core capital plus
deposit ratio. It is the limit till which the banks are allowed to issue the loans and
advances. If the ratio is too high, it means that the bank may not have enough liquidity to
cover any unforeseen fund requirements. Conversely, if the ratio is too low, the bank may
not be earning as much as it could be. It can be calculated as follows.

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Credit to core capital plus deposit ratio (CCDR) = Total loans and advances
Core capital + total deposit

3.4.1.3 Credit to Total Deposit Ratio (CDR)

Credit to deposit (CD) is the most important ratio to measure the liquidity condition of
the bank. Credit means the loan and advances for the commercial banks. Banks with low
loan to deposit ratio (LDR) is considered to have excessive liquidity, potentially lower
profits, and hence less risk as compared to the bank with high LDR. However, high LDR
indicates that a bank has taken more financial stress by making excessive loan and also
shows risk that to meet depositors. The Credit to deposit ratio indicators to the
appropriateness of investing the available funds to the bank which derived from deposits
to need the demand of credited loans and advancement. It can be computed as follows.

Credit to deposit ratio (CDR) Total loan and advances

Total deposit
=

3.4.1.4 NRB Balance to Total Deposit (NRBTDR)

Due from Nepal Rastra Bank includes the balance maintained with Nepal Rastra Bank in
local currency and convertible foreign currency. Theses balance are also used in
maintaining the cash reserve and liquidity ratio required by Nepal Rastra Bank. Cash
reserve ratio is the certain rate of amount of cash that the bank and financial institutions
should hold as reserve in the central bank. If central bank increases the cash reserve ratio,
lowering the loanable funds available with the banks and vice versa. Currently BFIs to be
maintained CRR at 3% as per NRB directives 2077. It can be calculated as follows.

NRB balance to total deposit (NRBTDR) Due from Nepal Rastra Bank
Total deposit
=

3.4.1.5 Investment in Government Securities to Total Deposit Ratio

(IGSTDR)
The investment in government securities to total deposit ratio is a measurement of a bank’s
total investment in treasury bills, government bonds and NRB bonds to its total deposits.

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Treasury bills have very low yield. Despite the very low yields, commercial banks invest
on treasury-bills due to lack of other investment avenues and large sum of ideal funds at
their vaults. Beside serving as debt instrument for the government, treasury bills also act
as the monetary instruments for the central bank through which it injects liquidity and
absorbs from the market. It protects commercial banks from liquidity crunches. It can be
calculated as follows.

Investment in gov. securities to deposit ratio = Investment in government securities

Total deposits

The following ratios are used to measure the profitability of a bank.

3.4.1.6 Return on Assets (ROA)

The return on assets (ROA), which is called the firm’s return on total assets, measure the
overall effectiveness of management in generating profit with its available assets. The
higher the firm’s return on assets the better it is doing in operation and vice versa. The
higher ratio shows the efficiency financial resources invested in the company’s assets to
generate profitability. Return on assets (ROA) is a financial ratio that shows the
percentage of profit that a company earns in relation to its overall resources (Total
assets). This ratio measure for the operation efficiency for the company based on the
firm’s generated profits from its total assets. It shows the efficient management at using
assets to generate earnings.

Return on assets (ROA) Net income

= Total assets

3.4.1.7 Return on Equity (ROE)

The return on equity (ROE) measures the return on the owner’s investment in the firm.
Higher ratio of return on equity is better for owner. ROE is a direct measure of returns to
the stockholders. Because rewards to the institution’s owners are a key goal for the whole
organization, ROE is generally superior to ROA as a measure of profitability.
Management may be able to boost ROE simply through greater use of financial leverage
that is, increasing the debt to equity capital. It also shows well the firm has utilized the
resources of the owners. ROE measures a corporation's profitability by revealing how
much profit a
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company generates with the money shareholders have invested (Siraj and Pillai, 2012). It
can be calculated as follows.

Return on equity (ROE) Net income

= Shareholders equity

3.4.1.8 Earnings per Share (EPS)

Earnings per share measures the portion of a company’s profit allocated to each
outstanding share of common stock, Earnings per share serves as an indicator of a
company’s profitability. EPS is the major indicators to shareholders to know the
profitability of the bank. Higher the EPS, higher is the profitability of the banks which
provides the higher return per units of share and lowers the EPS, lower amount is paid to
shareholders. It can be calculated as follows.

Earnings per share (EPS) Net income - Dividends on preferred stock

= Average outstanding shares

3.4.2 Statistical Tools.

3.4.2.1 Arithmetic Mean

Arithmetic mean of a given set of observations is the sum of the observation divided by
the number of observations. In such as case all the items are equally important. Simple
Arithmetic mean is used in this study as per necessary for analysis.

We have,

x
Mean ( X ) =
n

Where,x = sum of all values of the observations

n = Number of observation and x = Value of variables

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3.4.2.2 Standard Deviation (S.D)

Standard deviation (s.d.) is defined as the positive square root of the mean of the square
of the deviations taken from the A.M. and denoted by (ϭ). The most useful and frequently
used measure of dispersion is the s.d. or root-mean square deviation. It can be calculated
as follows.


 X
ϭ
X2 n
Where, ϭ = Standard deviation
2
( X  X ) = Sum of the square of mean deviation
n = No. of observation

3.4.2.3 Coefficient of Variation (C.V)

CV reflects the relationship between standard deviation and mean of the data collected.
Coefficient of standard deviation is the relative measure of dispersing with respect to
standard. The c oefficient of variance is the percentage calculation of coefficient of
standard deviation. It evaluation of its result is likely similar to standard deviation, the
consistency and uniformity in data is felt more with less coefficient of variance. It is the
improvised version for comparing two pairs of variables independently with their
variability. C.V. is calculated as,


C.V. = x100%
x

Where,  = Standard Deviation and X = average mean.

3.4.2.4 Correlation Coefficient (r)

The correlation is a statistical tool which studies the relationship between two variables
and correlation analysis involves methods and techniques used for studying and
measuring the extent of the relationship between the two variables. Its value lies between
+1 and – 1. Correlation analysis enables to have an idea about the degree and direction of
the relationship between the two variables under study. However, it fails to reflect upon
the

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cause and effect relationship between the variables. The coefficient of correlation, denoted
by r is computed as under

𝑛 ∑ 𝑥𝑦 −∑ 𝑥 ∑ 𝑦
r= √[𝑛 ∑ 𝑥2−∑(𝑥)2][𝑛 ∑ 𝑦2−∑(𝑦)2]

3.4.2.5 Coefficient of Determination (r2)

The square of multiple correlation coefficients is known as the coefficient of multiple
determinations that is r2. It is useful because it explains the level of variance in dependent
variable caused or explained by its relationship with the independent variable. The
coefficient of determination also explains that how well the regression line fits the
statistical data. It can be calculated as follows:
r² = r * r

3.4.2.6 Regression Analysis

Regression is a statistical method for investing relationships between the variables by the
establishment of an approximate functional relationship between them. It is considered as
a useful tool for determining the strength of relationship between two (simple regression)
or more (multiple regression) variables. It helps to predict or estimate the value of one
variable when the value of other variable/variables is known. The multiple regressions
model can be written as:

ROA = a + b1LATDR + b2CCDR+ b3CDR + b4NRBTDR + b5IGSTDR + ℇ

ROE = a + b1LATDR + b2CCDR+ b3CDR + b4NRBTDR + b5IGSTDR + ℇ
EPS = a + b1LATDR + b2CCDR+ b3CDR + b4NRBTDR + b5IGSTDR +
ℇ

In above this model, ROE, ROA, and EPS measure the profitability of bank which
variable are dependent and a is constant and b1, b2, b3, b4, and b5 are regression
coefficient. LATDR is liquid assets to total deposit ratio, CCDR is credit (loans and
advances) to core capital to total deposit ratio, CDR is credit to deposit ratio and
NRBTDR is NRB balance to total deposit ratio and IGSTDR is investment in government
securities to total deposit ratio. They are independent variable and E is error term.

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3.4.2.7 Standard Error (S.E)

The statistical measures which is used to study the degree of variability between actual
and estimated value of dependent variable. It will measure the variability and scatterness
of the observed values around the multiple regression line. The lesser the value of the
standard error of estimate the better is the model fitted.

Ϭ1.23 = Standard error of estimate for dependent variable X1 on independent variable X2

& X3.

S.E =√
∑𝐱𝟏𝟐−𝐚∑𝐱𝟏−𝐛𝟏∑𝐱𝟏𝐱𝟐−𝐛𝟐∑𝐱𝟏𝐱𝟑
𝐧−𝟑

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CHAPTER IV
PRESENTATION AND ANALYSIS OF DATA

The presentation and analysis of data in this study have been done through the help of
financial statements and annual report of the year from FY 2015/16 to FY 2019/20.
Collected data are presented in the form of tabular and are analyzed with the help of
widely accepted tools of financial ratios and statistical tools. But it is informed that all
types of financial ratios and statistical tools are not studied under this chapter. Only those
ratios are calculated, analyzed and presented which are very significant to research topic.
Quantitative data analyzed relationship between liquidity and profitability and liquidity
impact on profitability of sampled Nepalese commercial banks are observed as follows.

4.1 Analysis of Liquidity and Profitability

Liquidity is crucial to run the bank and financial institutions. Commercial bank should
consider the maintaining proper liquidity to meet the loan demand and deposit
withdrawals. The profitability ratio is the operational efficiency ratio of commercial bank.
It is also efficiency of management to increase the performance of the bank. So it can be
observed by following financial ratio to examine the position of liquidity and its impact
on profitability to get the proper results as per objective of the study.

4.1.1 Liquid Asset to Total Deposit Ratio (LATDR)

This ratio measures the ratio between liquid assets and total deposits of the commercial
bank. Liquid assets includes total amount of cash-in-hand, balances with other bank and
financial institutions, money at call and short notice, and highly liquid financial assets
with original maturities of three months or less from the acquisition date that are subject
to an insignificant risk of changes in their fair value, and are used by the licensed
institution in the management of its short term commitments.

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Table 4.1

Liquid Assets to Total Deposit Ratio ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 37.21 28.31 39.58 30.01 26.57 33.51

2016/17 29.61 31.30 56.96 25.55 25.43 36.90

2017/18 24.83 29.47 45.40 25.52 23.79 26.93

2018/19 28.59 27.14 34.79 25.68 29.87 23.14

2019/20 27.91 30.75 56.75 26.60 27.47 25.27

Mean 29.63 29.40 46.70 26.67 26.63 29.15

S.D. 4.60 1.71 10.00 1.92 2.28 5.81

C.V. 15.51 5.83 21.42 7.19 8.55 19.94

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

Table 4.1 presents the liquid assets to deposit ratio of NBL, ADBL, SCB, NIBL, NICA
and GBIME in the FY 2015/16 to FY 2019/20, where NBL has its highest, lowest and
average LATDR are 37.21, 24.83 and 29.63 percent respectively, standard deviation is
4.60 percent and coefficient of variation is 15.51 percent. ADBL has 31.30, 27.14 and
29.40 percent of its highest and lowest LATDR respectively, standard deviation is 1.71
percent and coefficient of variation is 5.83 percent, which are reflected by government
ownership bank. Then, the highest and lowest, liquid assets to deposit ratio for SCB are
56.96, 34.79 percent respectively. Its average LATDR is 46.70 percent, standard
deviation is 10.00 percent and coefficient of variation is 21.42 percent. NIBL has 30.01,
25.52 and 26.67 percent of its highest, lowest and average LATDR respectively. Its
standard deviation is
1.92 percent and coefficient of variation is 7.19 percent. The highest, lowest and average
LATDR of NICA are 29.87, 25.43 and 26.63 percent respectively. Its standard deviation
is 2.28 percent and coefficient of variation is 8.55 percent. At last, the highest, lowest and
average liquid assets to total deposit ratio of GBIME in FY 2015/16 to FY 2019/20 are
36.90, 23.14 and 29.15 percent respectively, standard deviation is 5.81 percent and
coefficient of variation is 19.94 percent.

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4.1.2 Credit to Core Capital plus Deposit Ratio (CCDR)

CCD ratio is the most important ratio to measure the liquidity condition of the bank. If a
bank has higher the CCD, lower will be the Liquidity position and vice versa. If the bank
has lower CCD, which means, bank did not utilize its fund, its results to lower
profitability. Currently Maximum CCD ratio is 85 percent to Nepalese commercial banks
as per monetary policy 2077/78.

Table 4.2
Credit to Core Capital plus Deposit Ratio ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 66.18 79.25 43.70 68.49 77.75 73.27

2016/17 70.71 76.51 49.39 72.64 74.47 71.97

2017/18 72.45 77.34 50.74 75.01 75.11 78.68

2018/19 70.11 76.38 54.02 72.77 77.37 82.16

2019/20 66.34 72.23 45.45 72.75 76.75 79.76

Mean 69.16 76.34 48.66 72.33 76.29 77.17

S.D. 2.78 2.57 4.14 2.37 1.43 4.36

C.V. 4.02 3.37 8.51 3.27 1.88 5.66

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

Table 4.2 presents that the CCD ratio of NBL in the FY 2015/16, FY 2016/17, FY
2017/18, FY 2018/19 and FY 2019/20 are 66.18, 70.71, 72.45, 70.11, and 66.34 percent
respectively. Its average CCD ratio is 69.16 percent, standard deviation is 2.78 percent,
and coefficient of variation is 4.02. The CCD ratio of ADBL in the FY 2015/16, FY
2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 79.25, 76.51, 77.34, 76.38, and
72.23 percent. Its average CCD ratio is 76.34 percent, standard deviation is 2.57 percent
and coefficient of variation is 3.37 percent. then, the CCD ratio of SCB in FY 2015/16 to
FY 2019/20 are 43.70, 49.39,

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50.74, 54.02 45.45 percent respectively. Its average mean is 48.66 percent, standard
deviation is 4.14 percent and coefficient of variation is 8.51 percent. Similarly, the CCD
ratio for NIBL in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY
2019/20 is 68.49, 72.64, 75.01, 72.77 and 72.75 percent respectively. Its average CCD
ratio is 72.33 percent, standard deviation is 2.37 percent and coefficient of variation is
3.27 percent. They are sample of joint venture bank. The CCD ratio of NICA in the FY
2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 77.75, 74.47, 75.11,
77.37, and 76.75 percent
respectively. Its average CCD ratio is 76.29 percent, standard deviation is 1.43 percent
and coefficient of variation is 1.88 percent. Similarly, the CCD ratio of GBIME in the FY
2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 73.27, 71.97, 78.68,
82.16 and 79.76 percent respectively. Its average CCD ratio is 77.17 percent, standard
deviation is 4.36 percent and coefficient of variation is 5.66 percent which are reflected
by private commercial bank in Nepal.

4.1.3 Credit to Deposit Ratio (CDR)

The Credit to deposit ratio indicates to the appropriateness of investing the available
funds to the bank which derived from deposits to need the demand of credited loans and
advancement. It is computed as total loan and advances divided by total deposit.

Table 4.3 shows the results the relationship between total loans to total deposit. The CD
ratio of NBL in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20
are 71.05, 79.17, 79.77, 82.57 and 76.38 percent respectively. The average Credit to
deposit ratio is 77.79 percent for NBL, standard deviation is 4.36 percent and coefficient
of variance is 5.61 percent. Similarly, the CD ratio of ADBL in the FY 2015/16, FY
2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 95.45, 92.90, 95.64, 93.62 and
85.84 percent
respectively. Its average Credit to deposit ratio is 92.69 percent, which is higher as
compared to other sampled commercial bank and its standard deviation is 4.01 percent
and coefficient of variance is 4.32 percent. Then, the Credit to deposit ratio of joint
venture bank SCB in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY
2019/20 are 56.17, 64.38, 66.45 and 70.11 and 56.75 percent respectively. Its average
Credit to deposit ratio is 62.77 percent, standard deviation is 6.12 percent and its
coefficient of variance is

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9.75 percent. Similarly, the Credit to deposit ratio of NIBL in the FY 2015/16, FY
2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 78.49, 83.09, 86.10, 83.55 and
82.93 percent
respectively. Its average Credit to deposit ratio is 82.83 percent, standard deviation is
2.75 percent and coefficient of variance is 3.31 percent. The Credit to deposit ratio of
NICA in FY 2015/16 to FY 2019/20 are 85.62, 82.76, 80.51, 83.55 and 82.38 percent. Its
average Credit to deposit ratio is 82.88 percent, standard deviation is 1.84 percent and
coefficient of variance is 2.22 percent. The GBIME’s Credit to deposit ratio in the FY
2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 81.47, 79.31,
87.67, 91.98 and
88.80% percent respectively. Its average Credit to deposit ratio is 85.84 percent, standard
deviation is 5.28 percent and coefficient of variance is 6.16 percent.

Table 4.3

Credit to Deposit Ratio ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 71.05 95.46 56.17 78.49 85.62 81.47

2016/17 79.17 92.90 64.38 83.09 82.76 79.31

2017/18 79.77 95.64 66.45 86.10 80.51 87.67

2018/19 82.57 93.62 70.11 83.55 83.15 91.98

2019/20 76.38 85.84 56.75 82.93 82.38 88.80

Mean 77.79 92.69 62.77 82.83 82.88 85.84

S.D. 4.36 4.01 6.12 2.75 1.84 5.28

C.V. 5.61 4.32 9.75 3.31 2.22 6.16

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

4.1.4 Due from NRB Balance to Total Deposit (NRBTDR)

It measures the relation of deposited amount at NRB by commercial banks and their total
deposit. It also measures the liquidity position of bank and higher NRBTDR ratio
indicates the sufficient fund to make payments to customers.

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Table 4.4

NRB Balance to Total Deposit Ratio ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 12.21 5.39 2.72 7.13 6.33 7.14

2016/17 14.25 9.95 11.84 5.05 11.74 14.53

2017/18 6.29 7.90 5.94 5.27 10.49 4.48

2018/19 8.61 4.18 3.24 7.14 10.02 4.21

2019/20 4.28 8.74 2.09 8.48 8.88 5.21

Mean 9.13 7.23 5.16 6.61 9.49 7.11

S.D. 4.11 2.39 4.01 1.44 2.04 4.30

C.V. 45.01 33.02 77.63 21.78 21.54 60.48

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

Table 4.4 shows the results the relationship between cash held at NRB to total deposit.
The NRBTDR of NBL in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19
and FY
2019/20 are 12.21, 14.25, 6.29, 8.61 and 4.28 respectively. Its average NRBTDR or cash
reserve ratio is 9.13 percent, standard deviation is 4.11 percent and coefficient of
variation is 45.01 percent. Then, the NRBTDR of ADBL in the FY 2015/16, FY 2016/17,
FY 2017/18, FY 2018/19 and FY 2019/20 are 5.39, 9.95, 7.90, 4.18 and 8.74
percent
respectively. The average CRR is 7.23 percent, standard deviation is 2.39 percent and
coefficient of variation is 33.02 percent. The NRBTDR of SCB in the FY 2015/16 to FY
2019/20 are 2.72, 11.84, 5.94, 3.24 and 2.09 percent respectively. Its average CRR is 5.16
percent, standard deviation is 4.01 percent and coefficient of variation is 77.63 percent.
Similarly, the NRBTDR of NIBL in the fiscal year FY 2015/16 to FY 2019/20 are 7.13,
5.05, 5.27, 7.14, and 8.48 percent respectively. Its average NRBTDR is 6.61 percent,
standard deviation is 1.44 percent and coefficient of variation is 21.78 percent. The
private bank NICA has 6.33, 11.74, 11.74, 10.49, 10.02 and 8.88 percent NRBTDR in FY
2015/16
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to FY 2019/20 respectively. Average NRBTDR is 9.49 percent, standard deviation is 2.04

percent and coefficient of variation is 21.54 percent. GBIME has 7.14, 14.53, 4.48, 4.21
and 5.21 percent NRBTDR in FY 2015/16 to FY 2019/20 respectively. Its average
NRBTDR is 7.11 percent, standard deviation is 4.30 percent and coefficient of variation
is
60.48 percent.

4.1.5 Investment in Government Securities to Total Deposit Ratio

(IGSTDR)
Investment on securities to deposit ratio measures the ability of a bank to meet its
obligations by comparing its capital to its assets. NRB monitor this ratio to see if any
bank is at risk of failure. The intent behind the monitoring is to protect the financial
system from the negative effects of any bank failures, which includes protecting of funds
of depositors.

Table 4.5 shows the investment in government securities to deposit ratio of sampled
bank. NBL has 14.26, 9.52, 12.75, 11.18 and 20.15 percent in FY 2015/16 to FY
2019/20
respectively. Its average investment in securities to deposit ratio is 13.57 percent,
standard deviation is 4.08 percent, and 30.08 percent is coefficient of variation. The
investment in securities to deposit ratio of ADBL in the FY 2015/16, FY 2016/17, FY
2017/18, FY 2018/19 and FY 2019/20 are 7.25, 9.08, 10.85, 13.32 and 16.10 percent
respectively. Its average ratio is 11.32 percent, standard deviation is 3.49 percent and
coefficient of variation is 30.82 percent. The investment in securities to deposit ratio of
SCB in the fiscal year 2015/16 to FY 2019/20 are 17.60, 7.60, 6.59, 14.88 and 13.36
percent respectively. Its average mean is 12.01 percent, standard deviation is 4.75 percent
and coefficient of variation is 39.55 percent. The investment on securities to deposit
ratios of NIBL in the FY 2015/16 to FY 2019/20 are 12.11, 9.76, 11.16, 9.31 and 13.47
percent respectively. Its average mean is 11.16 percent, standard deviation is 1.70 percent
and coefficient of variation is 15.27 percent. NICA has a 15.13, 9.72, 7.89, 8.50 and
12.59 percent in FY 2015/16 to 2019/20 respectively. Its average mean is 10.77 percent,
standard deviation is
3.04 percent and coefficient of variation is 28.21 percent. GBIME has a 15.04, 11.08,
14.46, 9.34 and 10.90 percent investment in securities to deposit ratio in FY 2015/16 to
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FY

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2019/20 respectively. Its average ratio is 12.16 percent standard deviation is 2.46 percent
and its coefficient of variation is 20.25 percent.

Table 4.5

Investments in government securities to Total Deposit ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 14.26 7.25 17.60 12.11 15.13 15.04

2016/17 9.52 9.08 7.60 9.76 9.72 11.08

2017/18 12.75 10.85 6.59 11.16 7.89 14.46

2018/19 11.18 13.32 14.88 9.31 8.50 9.34

2019/20 20.15 16.10 13.36 13.47 12.59 10.90

Mean 13.57 11.32 12.01 11.16 10.77 12.16

S.D. 4.08 3.49 4.75 1.70 3.04 2.46

C.V. 30.08 30.82 39.55 15.27 28.21 20.25

Source: Annual reports of sampled banks FY 2015/16 to FY 2019/20

4.1.6 Return on Assets (ROA)

Return on assets (ROA) is a financial ratio that shows the percentage of profit that a
company earns in relation to its overall resources (total assets).
Table 4.6 presents the return on assets of each sampled commercial bank. So, ROA of
NBL in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 2.79,
2.78,
2.41, 1.50 and 1.22 percent respectively. The average mean is 2.14 percent, standard
deviation is 0.73 percent and coefficient of variation is 34.28 percent. The ROA of
ADBL in the FY 2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are
2.20, 2.02,
2.59, 2.71 and 1.73 percent respectively. The average ratio of ROA is 2.25 percent and
standard deviation is 0.40 percent and coefficient of variation is 17.79 percent. The ROA
of joint venture bank SCB in FY2015/16 to FY 2019/20 are 1.98, 1.98, 2.61%, 2.61 and
1.71 percent respectively. The average mean is 2.18 percent and standard deviation is
0.41 percent and coefficient of variation is 18.82 percent. Then, ROA of NIBL in

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the FY

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2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 1.96, 2.06, 2.13, 1.79
and 1.19 percent respectively. Its average mean is 1.83 percent and standard deviation is
0.38 percent and coefficient of variation is 20.67 percent. The ROA of NICA in the FY
2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 1.33, 1.48, 0.78, 1.37
and 1.24 percent respectively. Its average mean is 1.24 percent and standard deviation is
0.27 percent, and coefficient of variation is 21.89 percent. ROA of GBIME in the FY
2015/16, FY 2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 1.58, 1.77, 1.65, 1.05
and 1.05 percent respectively. Average ROA of GBIME is 1.56 percent and standard
deviation is 0.30 percent and coefficient of variation is 19.15 percent.

Table 4.6

Return on Assets ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 2.79 2.20 1.98 1.96 1.33 1.58

2016/17 2.78 2.02 1.98 2.06 1.48 1.77

2017/18 2.41 2.59 2.61 2.13 0.78 1.65

2018/19 1.50 2.71 2.61 1.79 1.37 1.78

2019/20 1.22 1.73 1.71 1.19 1.24 1.05

Mean 2.14 2.25 2.18 1.83 1.24 1.56

S.D. 0.73 0.40 0.41 0.38 0.27 0.30

C.V. 34.28 17.79 18.82 20.67 21.89 19.15

Source: Annual reports of sampled banks FY 2015/16 to FY 2019/20

4.1.7 Return on Equity (ROE)

The amount of net income returned as a percentage of shareholder’s equity or owner’s
investment in the firm.

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Table 4.7

Return on Equity ( in %)

NBL ADBL SCB NIBL NICA GBIME

2015/16 16.51 13.58 17.17 15.65 14.45 15.45

2016/17 13.51 11.77 13.06 16.62 14.56 16.65

2017/18 14.00 13.15 15.73 14.72 11.44 15.47

2018/19 8.80 14.39 16.31 12.98 20.24 16.91

2019/20 7.77 10.93 13.16 8.91 17.97 10.04

Mean 12.12 12.76 15.09 13.78 15.73 14.90

S.D. 3.70 1.40 1.88 3.04 3.42 2.80

C.V. 30.50 10.94 12.43 22.03 21.74 18.80

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

Table 4.7 presents the ROE of all sampled bank, the ROE of NBL in the FY 2015/16, FY
2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are 16.51, 13.51, 14.00, 8.80 and 7.77
percent respectively. Its average ROE is 12.12 percent, standard deviation is 3.70 percent
and Coefficient of Variation is 30.50 percent. The ROE of ADBL in the FY 2015/16 to
FY2019/20 are 13.58, 11.77, 13.15, 14.39 and 10.93 percent respectively. Its average
ratio is 12.76 percent and standard deviation is 1.40 percent and coefficient of variation is
10.94 percent. Similarly, the SCB’s ROE in FY 2015/16 to FY 2019/20 are 17.17, 13.06,
15.73,
16.31 and 13.16 percent respectively. Its average ROE is 15.09 percent and standard
deviation is 1.88 percent and coefficient of variation is 12.43 percent. The ROE of NIBL
in FY 2015/16 to FY 2019/20 are 15.66, 16.62, 14.72, 12.98 and 8.91 percent
respectively. Its average ratio is 13.78 percent, standard deviation is 3.04 percent and
coefficient of variation is 22.03 percent. The ROE of NICA in the FY 2015/16 to FY
2019/20 are 14.45, 14.56, 11.44, 20.24 and 17.97 percent respectively. Its average ROE is
15.73 percent and standard deviation is 3.42 percent and coefficient of variation is 21.74
percent. Then, ROE of GBIME in the FY 2015/16 to FY 2019/20 are 15.45, 16.65,
15.47, 16.91 and 10.04

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percent respectively. Its average ratio is 14.90 percent and standard deviation is 2.80
percent and coefficient of variation is 18.80 percent
4.1.8 Earning per Share (EPS)
Earnings per share measures the portion of a company’s profit allocated to each
outstanding share of common stock. Shareholder gets the amount of return on per share
invested by them.

Table 4.8

Earnings Per Share

NBL ADBL SCB NIBL NICA GBIME

2015/16 44.59 36.17 45.95 35.15 23.32 15.87

2016/17 38.74 31.59 38.69 33.66 22.01 19.40

2017/18 39.98 37.44 27.34 34.38 16.62 19.74

2018/19 26.28 41.90 30.40 25.80 34.22 21.46

15.33
2019/20 20.68 29.11 24.80 16.98 31.89

Mean 34.05 35.24 33.43 29.19 18.36

25.61
2.64
S.D. 10.09 5.02 8.73 7.79 7.29
C.V.(%) 29.64 12.75 26.12 26.69 28.46 14.40

Source : Annual reports of sampled banks FY 2015/16 to FY 2019/20

Table 4.8 presents the EPS of all sampled bank. The EPS of NBL in the FY 2015/16, FY
2016/17, FY 2017/18, FY 2018/19 and FY 2019/20 are Rs.44.59, Rs.38.74, Rs.39.98,
Rs.26.28 and Rs.20.68 per share respectively. Its average mean is Rs.34.05 and standard
deviation is Rs.10.09, and coefficient of variance (C.V) is 29.64 percent. The EPS of
ADBL in FY2015/16 to FY 2019/20 are Rs.36.17, Rs.31.59, Rs.37.44, Rs.41.90 and
Rs.29.11 respectively. Its average ratio is Rs.35.24, and standard deviation is Rs.5.02 and
coefficient of variation is 14.25 percent. EPS of SCB in FY 2015/16 to FY 2019/20 are
Rs.45.96, Rs.38.69, Rs.27.34, Rs.30.40 and Rs.24.80 respectively. Its average mean is

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Rs.33.43 and standard deviation is Rs.8.73 and coefficient of variance (C.V) is 26.12
percent. Then, the EPS of NIBL in FY 2015/16 to FY 2019/20 are Rs.35.15, Rs.33.66,
Rs.34.38, Rs.25.80 and Rs.16.98 respectively. Its average EPS is Rs.29.19, standard
deviation is 7.79 and coefficient of variance is 26.69 percent. Then, EPS of NICA in FY
2015/16 to FY 2019/20 are Rs.23.32, Rs.22.01, Rs.16.62, Rs.34.22 and Rs.31.89
respectively. Its average EPS is Rs.25.61, and standard deviation is Rs.7.29 and
Coefficient of variance is 28.46 percent. Similarly, EPS of GBIME in FY 2015/16 to FY
2019/20 are Rs.15.87, Rs.19.40, Rs.19.74, Rs.21.46 and Rs.15.33 respectively. Its
average EPS is Rs.18.36, standard deviation is Rs.2.64 and coefficient of variance is
14.40 percent.
4.1.9 Descriptive Statistics
The descriptive statics used in this study consists of mean, standard deviation, minimum
and maximum values associated with variables under considerations. The descriptive
statistics are summarized on Table 4.9. The table summarizes the descriptive statistics
mean values, standard deviation of different variables used in this study during the period
2015/16 to 2019/20 associated with 6 sample bank. ROA, ROE, and EPS are the
variables used to measure the financial performance of commercial bank. The dependent
variables used in the study are; ROA is return on assets, ROE is return on equity, the
independent variables are; LATDR, CCDR, CDR, NRBTDR and IGSTDR.
Table 4.9 shows that return on assets (ROA) ranges from minimum value of 0.78 percent
to maximum value of 2.79 percent leading to the average of 1.87 percent. The average
return on equity (ROE) is 14.06 percent with the minimum value of 7.77 percent and
maximum value of 20.24 percent. The EPS ranges from minimum Rs.15.33 to maximum
Rs.45.95 leading to the average of Rs.29.32. Similarly, the descriptive statistics for the
independent variable shows that LATDR has value of 15.87 percent and maximum value
of 56.96 percent leading to the mean of 29.73 percent. The average CCD ratio of the
sample banks is noticed to be the 69.99 percent with a minimum value of 43.70 percent
and maximum value of 82.16 percent. CD ratio ranges from minimum value of 56.17
percent to maximum value of 95.64 percent with an average of 80.80 percent. NRBTDR
ranges from minimum value of 2.09 percent to maximum value of 14.53 percent with an
average of 7.46 percent. Similarly, investment in government securities to deposit ratio
ranges from minimum 6.95 percent to maximum 20.15 percent with average 11.83
percent.

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Table 4.9

Descriptive Statistics

N Minimum Maximum Mean Std. Deviation

ROA (in %) 30 0.78 2.79 1.87 0.55
ROE (in %) 30 7.77 20.24 14.06 2.89
EPS (in Rs.) 30 15.33 45.95 29.32 8.98
LATDR (in %) 30 15.87 56.96 29.73 9.51
CCDR (in %) 30 43.70 82.16 69.99 10.50
CDR (in %) 30 56.17 95.64 80.80 10.16
NRBTDR (in %) 30 2.09 14.53 7.46 3.32
IGSTDR (in %) 30 6.59 20.15 11.83 3.23

4.2 Correlation Analysis

Bivariate Persons correlation coefficient analysis has been attempted to find the
correlations between dependent and independent variables and the results.

Table 4.10 presents correlations between dependent and independent variables, this table
shows that LATDR is positive but insignificant to return on assets which indicate that
higher the LATDR higher would be the return on assets of the banks. CCDR, CDR,
NRBTDR and IGSTDR are negatively related but not significantly to return on assets
which indicate that higher the CCDR, CDR, NRBTDR and IGSTDR lower would be the
return on assets of the bank.

Again, LATDR and NRBTDR are positively related to return on equity that is higher the
LATDR and NRBTDR higher would be the return on equity. So, LATDR and NRBTDR
have a negative impact on return on equity. CCDR, CDR, and IGSTDR are negatively
related to return on equity. So, higher the CCDR, CDR, and IGSTDR lower would be the
return on equity.

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Similarly, Earnings per share has moderate degree of positive correlation with LATDR
and significant at 5% level. This indicates higher the LATDR higher will be the EPS.
Similarly, EPS is positively related to NRBTDR indicating that higher the NRBTDR
higher would be the earnings per share. EPS is negatively related to Credit to deposit
ratio, credit to core capital plus deposit ratio and investment in government securities to
deposit ratio indicating that higher the CDDR, CDR and IGSTDR ratio lower would be
the earnings per share.

Table 4.10
Multiple correlations
ROA ROE EPS LATDR CCDR CDR NRBTDR IGSTDR
ROA 1
ROE 0.303 1
EPS .724** 0.360 1
LATDR 0.301 0.014 .414* 1
CCDR -0.264 -0.061 -0.278 -.831** 1
CDR -0.093 -0.151 -0.177 -.721** .933** 1
NRBTDR -0.017 0.003 0.028 -0.072 0.204 0.083 1

IGSTDR -0.109 -0.153 -0.034 -0.088 -0.183 -0.231 -.373* 1

**. Correlation is significant at the 0.01 level (2-tailed).
*. Correlation is significant at the 0.05 level (2-tailed).

4.3 Regression Analysis

Regression analysis results are the statistical tools for the data analysis. The regression
analysis has been conducted to examine whether or not the return on assets and return on
equity are affected by liquidity determinants of Nepalese commercial banks. The
regression results of return on assets with liquidity variables are shown in Table 4.11.

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Table 4.11
Estimated Regression Results of LATDR, CCDR, CDR, NRBTDR, IGSTDR on ROA of
Sampled Banks

Intercept LATDR CCDR CDR NRBTDR IGSTDR R² F value

1.779 -0.003 -0.084* 0.073* 0.031 -0.005 0.285 1.909

(0.865) (-0.145) (-2.329) (2.467) (0.897) (-0.13)

a. Figures in parenthesis are t-values
b. The sign asterisk (*) indicates that result is significant at 5 percent.

Table 4.11 presents regression result of variables based on panel data six commercial
banks from the year 2015/16 to 2019/20. This table shows regression result of model one
as ROA
= 1.779 - 0.003 LATDR – 0.084 CCDR+ 0.073 CDR + 0.031 NRBTDR – 0.005 IGSTDR
in the form of multiple regressions. The reported values are intercept and slope
coefficients of respective explanatory variables. The coefficient of intercept is 1.779
which is insignificant. The profitability is measured by ROA and others are independent
variables. Liquidity means availability of cash and how a bank can rapidly convert its
assets into cash to meet the need of short term. Higher amount of the liquid assets reflects
the greater liquidity of the bank. The following liquidity measures are used to measure
the liquidity efficiency; based on liquid asset to total deposit. Higher ratio shows the
more liquid commercial bank less in danger than the financial institution. It is negatively
related with ROA which is insignificant, it is -0.003 which means that if the liquidity
ratio is changed by 1 percent, then bank profitability will be changed by 0.003. Similarly,
Regression coefficients for independent variable credit to core capital plus deposit ratio is
–0.084. Since, this result revealed that beta coefficient is positive for CDR and NRBTDR
with return on assets, which indicates that increased these ratios increases the return on
assets of the banks, that is 1 percent changes in CDR and NRBTDR, ROA changes by
0.073 and
0.031 respectively. Again, IGSTDR is negative and insignificant with return on assets,
which indicates that increases NRBTDR, ratio return on assets decreases. Therefore, 1%
changed in NRBTDR, ROA will be changed by -0.005 insignificantly. R-Square is the
proportion of variance in the dependent variable (ROA) which can be predicted from the
independent variables (IGSTDR, LATDR, NRBTDR, CDR, CCDR). This value

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indicates

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that 28.50 percent of the variance in ROA can be predicted from the variables IGSTDR,
LATDR, NRBTDR, CDR and CCDR. This is an overall measure of the strength of
association, and does not reflect the extent to which any particular independent variable is
associated with the dependent variable. R-Square is also called the coefficient of
determination.
Table 4.12 shows regression analysis results of variables based on panel data of 6
commercial banks from the year 2015/16 to 2019/20. This table shows regression results
of model two as: ROE = 29.015 - 0.044 LATDR + 0.195 CCDR – 0.278 CDR – 0.170
NRBTDR – 0.299 IGSTDR in the form of multiple regressions. The reported values are
intercepts and slope coefficients of respective explanatory variables. The constant value
is
29.015. The profitability is measured by ROE and the beta coefficient for LATDR, CDR,
NRBTDR and IGSTDR are -0.044, -0.278, -0.170 and -0.299 respectively. These mean
that if 1 percent changes in respective ratio, ROE will be changed by -0.044, -0.278, -
0.170 and -0.299 respectively. So, they have a negatively impact on profitability of the
bank in term of ROE. The study reveals that increasing these ratios decrease the ROE of
the bank. The beta coefficient for CCDR is 0.195 positive with return on equity. This
result indicates that higher the CDDR lead to higher return on equity for commercial
bank of Nepal that is 1 percent changes in CCDR lead to changes by 0.195 in ROE. R
square indicates that 15.20 percent of the variance in ROE can be predicted from the
variables IGSTDR, LATDR, NRBTDR, CDR and CCDR.

Table 4.12
Estimated Regression Results of LATDR, CCDR, CDR, NRBTDR, IGSTDR on ROE of
Sampled Banks

Intercept LATDR CCDR CDR NRBTDR IGSTDR R² F value

29.015 -0.044 0.195 -0.278 -0.170 -0.299 0.152 0.863

(2.463) (-0.376) (0.941) (-1.641) (-0.867) (-1.470)

a. Figures in parenthesis are t-values
b. Dependent Variable: ROE

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Table 4.13
Estimated Regression Results of LATDR, CCDR, CDR, NRBTDR, IGSTDR on EPS of
Sampled Banks

Intercept LATDR CCDR CDR NRBTDR IGSTDR R² F value

-12.997 0.517 -0.326 0.524 0.397 0.378 0.228 1.414

(-0.372) (1.477) (-0.532) (1.043) (0.685) (0.626)

a. Figures in parenthesis are t-values
b. Dependent Variable: EPS

Table 4.13 shows regression analysis results of variables based on panel data for 6
commercial banks from the year 2015/16 to 2019/20. This table shows regression results
of model three as: EPS = -12.997 + 0.517 LATDR – 0.326 CCDR+ 0.524 CDR + 0.397
NRBTDR + 0.378 IGSTDR, in the form of multiple regressions. The reported values are
intercepts and slope coefficients of respective explanatory variables. The profitability is
measured by EPS. The constant value is -12.997. The beta coefficient for LATDR, CDR,
NRBTDR and IGSTDR are 0.517, 0.524, 0.397, and 0.378 respectively. These ratios
have a positive and insignificant impact on profitability in term of EPS. It implies that 1
percent changes in coefficient for LATDR, CDR, NRBTDR and IGSTDR, then EPS will
be changed by 0.517, 0.524, 0.397, and 0.378 respectively. However, coefficient for
CCDR is -0.326, this coefficient indicates a negative impact on EPS indicating 1 percent
changes in LATDR, EPS will be changed by -0.326, in sampled commercial banks. R
square indicates that 22.80 percent of the variance in EPS can be predicted from the
variables IGSTDR, LATDR, NRBTDR, CDR and CCDR.

4.4 Major Findings of the Study

 The average liquid assets to total deposit ratio of NBL, ADBL, SCB and NIBL,
NICA, and GBIME are 29.63, 29.40, 46.70, 26.67, 26.63 and 29.15 percent
respectively. Moreover, the C.V of such banks is 15.51, 5.83, 21.42, 7.19, 8.55 and
19.94 percent respectively.
 The average CCD ratio of NBL, ADBL, SCB, NIBL, NICA, and GBIME are
69.16, 76.34, 48.66, 72.33, 76.29 and 77.17 percent respectively.

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 The average credit to deposit ratio for NBL, ADBL, SCB, NIBL, NICA and
GBIME are 77.79, 92.69, 62.77, 82.83, 82.88 and 85.84 percent respectively.
 The average NRB balance to total deposit ratio for NBL, ADBL, SCB, NIBL,
NICA and GBIME are 6.93, 10.84, 29.53, 8.90, 6.37, and 9.87 percent
respectively.
 The average investment in government securities to total deposit ratio of NBL
ADBL, SCB, NIBL, NICA and GBIME are 6.93, 10.84, 29.53, 8.90, 6.67 and
9.87
percent respectively.
 The average ROA (Return on Assets) for NBL, ADBL, SCB, NIBL, NICA, and
GBIME are 2.14, 2.25, 2.18, 1.83, 1.24, and 1.56 percent respectively.
 The average ROE (Return on Equity) for NBL, ADBL, SCB, NIBL, NICA and
GBIME are 12.12, 12.76, 15.09, 13.78, 15.73, and 14.90 percent respectively.
 The average EPS for NBL, ADBL, SCB, NIBL, NICA, and GBIME are Rs.34.05,
Rs.35.24, Rs.33.43, Rs.29.19, Rs.25.61, and Rs.19.38 per share respectively.
 The descriptive statistics shows the minimum return on equity is 7.77 percent and
maximum is 20.24 percent, and minimum ROA is 0.78 percent and maximum is
2.79 percent and minimum EPS is Rs.15.33 and maximum is Rs.45.95. Similarly,
minimum LATDR is 15.87 percent and maximum LATDR is 56.96 percent and
minimum CCDR ratio is 43.70 percent and maximum CCD ratio is 82.16 percent.
Minimum and maximum value of CDR, NRBTDR and IGSTDR are 56.17
percent,
2.09 percent, 6.59 percent, and 95.64 percent, 14.53 percent, and 20.15 percent
respectively.
 Based on multiple correlation analysis LATDR has positive but insignificant
relationship with ROA. Relationship between return on assets and CCDR, CDR,
NRBTDR and IGSTDR is negative and insignificant. CCDR, CDR and IGSTDR
are negatively related to return on equity and so, these ratios have negative impact
on profitability in terms of ROE. LATDR and IGSTDR are positively related to
return on equity. EPS is positively related with LATDR and IGSTDR and
LATDR is significant at 5 percent level of significance. Similarly, EPS is
negatively related with CCDR, CDR and IGSTDR.
 Regression coefficient for LATDR, CCDR, CDR, NRBTDR, IGSTDR are -0.003,
-0.084, 0.073, 0.031, and -0.005 respectively. The multiple regression analysis
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shows that CDR and NRBTDR have positive and CDR has significant impact on
return on assets. LATDR is low degree of negative and insignificant impact on
profitability in term of return on assets. CDDR and IGSTDR have also negative
and insignificant impact on profitability in term of ROA and 28.50 percent of the
variance in ROA can be predicted from the variables IGSTDR, LATDR,
NRBTDR, CDR and CCDR, regression coefficient for LATDR, CDDR, CDR,
NRBTDR, and IGSTDR with ROE are -0.044, 0.195, -0.278, -0.170, and -
0.299. Therefore,
LATDR, CDR, NRBTDR and IGSTDR are negative and insignificant impact on
ROE. However, CCDR has a positive impact on profitability in term of return on
equity and 15.20 percent of the variance in ROE can be predicted from the
variables IGSTDR, LATDR, NRBTDR, CDR and CCDR. The unexplained
portion might be the other variable capital structure, other internal and external
factors etc. The regression coefficient for LATDR, CDDR, CDR, NRBTDR, and
IGSTDR with EPS are 0.517, -0.326, 0.524, 0.397, and 0.378 respectively. And
22.80% of the variance in EPS can be predicted from the variables IGSTDR,
LATDR, NRBTDR, CDR and CCDR. So, unexplained portion is explained by
other factors like capital structure, efficiency, environment, and management
efficiency. Since, LATDR, CDR, NRBTDR and IGSTDR are positive and
insignificant in term of EPS. CCDR is negative and it has insignificant
relationship or impact on profitability in term of EPS.

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CHAPTER V
SUMMARY, CONCLUSIONS AND RECOMMENDATIONS

5.1 Summary

Liquidity is most sensible and crucial aspect of the bank, shortage of liquidity is often one
of the first signs that a bank is in serious financial trouble and lead to the decrease in
public faith upon banks. Thus, ensuring adequate liquidity is always required to
continuous operation of banks. So, it has significant implications for the bank’s
profitability.

Liquidity creation itself is seen as the primary source of economic welfare contribution
by banks and also as their primary source of risk. Therefore, virtually every financial
transaction or commitments has implications for bank’s liquidity. In Nepalese context,
results have found that liquidity ratio was relatively fluctuating over the period, return on
equity is found satisfactory and there is positive relationship between deposits and loan
advances. It is also found that the liquidity and banks loan are positively related to bank’s
profitability and same authors revealed that the investment on securities to deposit and
liquidity is positively associated with banks profitability. It is the measurement of
efficiency of banks. It indicates the achievement of entire performance of the banks.

This study has been prepared to know about the relationship between liquidity and
profitability and position of liquidity and profitability in NBL, ADBL, SCB, NIBL,
NICA, and GBIME from government bank, joint venture bank, and private bank and
impact of liquidity on profitability based on multiple regression analysis tools with help
of SPSS version 26. Sample banks are selected on the basis of cluster wise. Two are
chosen from each sector. The results reveal that liquidity factors or variable affects the
profitability positively and negatively. Independent variables are LATDR, CCDR, CDR,
NRBTDR and IGSTDR and dependent variable are profitability ratio such as ROA, ROE
and EPS.

For the purpose of analysis and evaluation, different financial and statistical tools have
been used. Here, financial tools include are LATDR, CCDR, CDR, NRBTDR and
IGSTDR and profitability ratio (ROE, ROA, and EPS) whereas statistical tools

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include average

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mean, standard deviation, coefficient of variations and multiple correlation, multiple

regression, coefficient of multiple determination. These financial tools and statistical
tools help to analyze and evaluate the liquidity position of banks. Similarly, the
profitability ratios such as EPS, ROE, and ROA have been used to analyze and evaluate
the profitability position of banks. Multiple correlations, multiple regression, and
coefficient of determination are used to examine the impact of liquidity on profitability
position of commercial banks with the help of SPSS version 26.

The data that have been analyzed by such financial and statistical tools includes from FY
2015/16 to FY 2019/20. This study is mainly conducted on the basis of secondary data.
Therefore, the study has inherent limitations of the secondary data. The authenticity of
the study depends on the genuineness of the data collected. For the systematic analysis of
data, chapter plan has been prepared. Generally, the entire research and study has focused
on the descriptive study on impact of liquidity on profitability of Nepalese commercial
banks of NBL, ADBL, SCB, NIBL, NICA, and GBIME.

In this study attempts are made to get the result of the relationship between liquidity and
profitability of Nepalese commercial banks and liquidity position and profit position of
these sampled banks. This study helps to identify the operational efficiency of the
management, efficient use of total assets by the management and shareholders return and
earnings per share of the sample commercial bank obtained by shareholder in the market.

5.2 Conclusion
The study concludes that liquidity status of the bank plays important role in banking
performance in case of Nepalese commercial banks. There is a direct effect of current
state of interest rate instability of our country in the field of NRB direction and policy of
commercial bank and financial sector due to the violating environment in the country.
Most of commercial banks have been facing the high liquidity crisis in the market. Bank
and financial institution were increased the interest rate to get deposit for maintaining
liquidity adequate. Despite such conditions, these commercial banks have been managed
it appropriately in such critical situations.

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 On the basis of the study, the liquidity position of ADBL, SCB, and GBIME has a
better than other NBL, NIBL, and NICA from government ownership bank, joint
venture banks, and private banks. And, based on ROA, ROE, and EPS, ADBL,
SCB, and GBIME have a sound average profitability or performance.
 The results revealed that return on assets is negatively related to CDDR, CDR,
NRBTDR, and IGSTDR. This indicates that higher the CDDR, CDR, NRBTDR,
and IGSTDR lower would be the return on assets and LATDR is found to be
positive with ROA. However, correlation between LATDR and NRBTDR with
return on equity are found to be positive indicating higher the LATDR and
NRBTDR in the bank higher would be the return on equity. the correlation is
found to be negative for CCDR, CDR and IGSTDR, with ROE which indicating
the higher these ratios lower would be the return on equity. CDDR, CDR, and
IGSTDR are negatively related with EPS. LATDR and NRBTDR are positively
related to EPS.
 CDR and NRBTDR are found to be positive with return on assets which indicates
that increased these ratio increases the ROA. And, LATDR, CCDR and IGSTDR
are negatively related with ROA which LATDR, CCDR and IGSTDR lower will
be the return on assets. Beta coefficient for CCDR is positive with ROE.
However, LATDR, CDR, NRBTDR, and IGSTDR are found to be negative with
ROE. For EPS, the result shows that LATDR, CDR, NRBTDR and IGSTDR have
positive impacts on profitability. CCDR has negative impact on profitability,
which indicates the higher. CCDR lower would be the earnings per share or
profitability of the Nepalese Commercial Banks.
 Based on above financial ratio and statistical tools SPSS version 26, they are
clearly shows the SCB, and ADBL and GBIME have a better position of LATDR
from private banks, government and joint venture banks. And CCD ratio for
NICA is more consistent, based on CCD Ratio ADBL, NIBL, and GBIME have
been maintaining better Credit to core capital plus deposit ratio. Then, based on
CDR ADBL, NIBL and GBIME have maintained better position in government,
joint venture and private bank respectively. Based on NRBTDR, ADBL, SCB,
and GBIME have a better NRBTDR from government bank and joint venture
and

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private bank. Based on IGSTDR, ADBL, SCB, and GBIME have a better IGSTDR
from government bank and joint venture and private bank. Similarly based on
profitability, ADBL, SCB, and NICA have sound profitability in terms of ROA
from government, joint venture and private bank. In terms of ROE, ADBL, SCB
and NICA have a better profitability. Similarly based on EPS, ADBL, SCB, and
NICA have sound profitability in terms of EPS.
 This study concludes that liquidity status of the bank plays important role in
banking performance in case of Nepalese commercial banks. This study revealed
that liquid assets to total deposit ratio, Credit to deposit ratio, and NRB balance to
total deposit ratio and investment in government securities to deposit ratio has
positive impact on bank performance, while credit to core capital plus deposit
ratio and has negative impact on the same.

5.3 Recommendations
The following recommendations are made on the based on the conclusions as suggestions to
maintain the adequate liquidity and increase the profitability to sampled banks.

 Average LATDR of SCB is comparatively higher than that of other banks under
this study, SCB can invest its liquid assets or idle cash to other sector to increase
the profit.
 The Credit to core capital plus deposit ratio and credit to deposit ratio for SCB has
very low. So it can be increased because higher the Credit to deposit ratio higher
would be profitability. SCB should maintain the consistent Credit to deposit ratio.
 NRBTDR for SCB is comparatively higher than other commercial bank, SCB can
maintain the consistent cash reserve ratio, it can use its NRB balance to other
sector
i.e. loan and advances to reduce liquid assets and it helps to increase CCDR and CDR
and also the profit of the bank.

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