ISSN 2348-3156 (Print) International Journal of Social Science and Humanities Research ISSN 2348-3164 (online) Vol. 10, Issue 4, pp: (292-316), Month: October - December 2022, Available at: www.researchpublish.com
Effect of Credit Risk Determinants on Financial Performance of Commercial Banks in Kenya Justus Okumbo Manyala1, Dr. Jane Queen Omwenga2, Dr. Charles Weda3 1,2
Jomo Kenyatta University of Agriculture and Technology, Nairobi, Kenya DOI: https://doi.org/10.5281/zenodo.7226135
Published Date: 19-October-2022
Abstract: Credit remains one of the main sources of income for any banks globally. However, this exposes the banks and other financial institutions to credit risk as there is a possibility of non-payment of the loan by the borrowers as per the contractual obligations. Assessing and managing this risk is becoming a crucial factor for every commercial bank across the world. This study therefore, sought to determine the effect of credit risk determinants on the financial performance of commercial banks in Kenya. The data set comprised the 41 commercial banks in Kenya as of the year 2021. The determinants of credit risk for this study were Capital Adequacy (CA), Loan Loss Provision (LLP), Liquidity Risk (LR), and Asset Quality (AQ). The financial performance of the banks under study was measured by the Return on Assets (ROA) and Return on Equity (ROE). These ratios indicated the financial performance in terms of the profitability of the banks under study as far as the efficient utilization of assets of these banks, and the ability of the banks to utilize money invested by investors to create profit. The study used secondary data from the annual financial statements of the 41 commercial banks in Kenya for five years from the year 2017-to 2021 (panel data). Both correlation and inferential statistics designs were used to complete the resulted analysis from the Statistical Package for Social Sciences. Correlation and regression analyses were conducted to explain the effect of credit risk determinants on financial performance of commercial banks in Kenya. The study found that capital adequacy had a direct significant effect on financial performance of commercial banks in Kenya (p= 0.001, β= 0.164). Loan loss provision registered an indirect significant effect on the financial performance of commercial banks in Kenya (p= 0.000, β= -0.325). The study further found that liquidity risk had an indirect significant effect on financial performance of commercial banks in Kenya (p= 0.000, β= -0.568). The study also found that asset quality had a positive insignificant effect on financial performance of commercial banks in Kenya (p= 0.114, β= 0.089). Generally, the study concluded that credit risk determinants had a statistically significant effect on the financial performance of commercial banks in Kenya (R-square= 0.875, p-value= 0.000). The study recommends that the regulatory authority for the commercial banks, Central Bank of Kenya should enhance its oversight on the compliance of developed policies guiding the operation of commercial banks to enable them to continue with adequate financial performance. Keywords: Capital Adequacy, Loan Loss Provision, Liquidity Risk, Asset Quality, financial performance.
1. INTRODUCTION 1.1 Background of the study In the current worldwide economy, banks mostly procure income from the premium charged on loans extended to their clients (borrowers). The interest rates charged by the banks on advances are generally higher than the interest these banks pay on the deposits received from their customers. These banks usually extend credits up to the point where they can no longer do so because of the reserve prerequisite limitation. Ongoing improvement in the business climate internationally
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