Sample Proposal # 1 Warning: Do not submit this proposal (or any

proposal having this title) to the campus.

CAPITAL STRUCTURE AND FINANCIAL PERFORMANCE OF

NEPALESE INSURANCE COMPANIES

A Thesis Proposal

Submitted to

Management Research Department

Faculty of Management
Prithvi Narayan Campus, Pokhara
Tribhuvan University

In partial fulfillment of the requirements for the Master's Degree in

Business Studies (MBS)

By

[Student’s Name]
Campus Roll No. …….
TU Registration No. ….
Mobile: ……………..
Email: …………….

Pokhara
July 2021
 TABLE OF CONTENTS
Page

1. Background of the Study

1
2. Focus of the Study
2
3. Statement of the Problem
2
4. Objectives of the Study
3
5. Hypothesis (Optional)
3
6. Significance of the Study
3
7. Review of the Literature
4
7.1 Theoretical Review 4
7.2 Review of Past Studies 10
7.3 Research Gap 15
8. Research Methodology
15
8.1 Research Design 15
8.2 Population and Sample 15
8.3 Nature and Sources of Data 16
8.4 Data Collection Techniques 17
8.5 Data Analysis Tools 17
8.6 Research Framework and Definition of Variables 18
9. Limitations of the Study 23
10. Organization of the Study 23
11. Work Plan 24
12. Budgeting (Optional) 24
References 25
Appendices (Bio-data, Questionnaire, etc.)

Bio-data is compulsory

ii
 1

1. Background of the Study

The banking sector in Nepal has grown significantly in recent years, with commercial
banks playing a vital role in the country's economic development. However, the sector is
not without its challenges, particularly in terms of managing risk and ensuring
profitability. In order to maintain a sustainable business model, commercial banks must
carefully balance their risk and return profiles. Nepal's banking sector faces a number of
challenges in managing risk, particularly in the areas of credit risk and liquidity risk.
Credit risk is a significant concern for banks, particularly given the country's high level
of non-performing loans (NPLs). Meanwhile, liquidity risk has become more
pronounced in recent years, particularly in the wake of the COVID-19 pandemic. +
Overall, the challenges faced by commercial banks in Nepal highlight the need for
effective risk management strategies. By analyzing the risk and return profiles of these
banks, it may be possible to identify areas where improvements can be made and develop
recommendations for future policy and practice(Economic Journal of Development
Issues Vol. 17 & 18 No. 1-2 (2014) Combined Issue, Page: 128-148).

Commercial banks play a crucial role in the economy by mobilizing savings, providing
credit, and facilitating financial transactions. However, they also face significant risks
that can impact their profitability and stability. Therefore, a comprehensive risk and
return analysis of commercial banks is necessary to evaluate their performance, identify
risk factors, and develop strategies for managing these risks. The performance of
commercial banks in terms of risk and return is influenced by a variety of factors,
including credit risk, liquidity risk, interest rate risk, market risk, and macroeconomic
factors. These factors have been extensively studied in the literature, with several studies
highlighting the need for effective risk management strategies to ensure the sustainability
of commercial banks. (Kaur and Kaur 2019), In the context of Nepal, the banking sector
has witnessed significant growth in recent years, with commercial banks playing a
crucial role in the country's economic development. However, the sector is not without
its challenges, particularly in terms of managing risk and ensuring profitability.
Therefore, a risk and return analysis of commercial banks in Nepal is necessary to
evaluate their performance, identify areas for improvement, and develop
recommendations for future policy and practice.
 2

The financial sector plays a significant role in the growth and development of the
economy. Banks, in particular, are an essential component of the financial sector and are
crucial for economic growth (Al-Muharrami & Matthews, 2013). Bank profitability is an
important indicator of its performance and reflects its ability to generate returns for its
investors (Chen & Liao, 2015).

Return on assets (ROA) and return on equity (ROE) are the two widely used indicators
of bank profitability (Khan & Rahman, 2015). ROA measures the ability of the bank to
generate profits from its assets, while ROE measures the bank's ability to generate profits
for its shareholders. The higher the ROA and ROE, the better the bank's performance is
considered (Zahid, Shah, & Khan, 2020).

Several factors affect the profitability of banks, including size, capital structure, liquidity,
and macroeconomic factors (Hassan, Bashir, & Hussain, 2018). The relationship
between these factors and bank profitability has been extensively studied in the literature.
For instance, several studies have found that size positively affects bank profitability (Al-
Muharrami & Matthews, 2013; Khan & Rahman, 2015). Meanwhile, capital adequacy
ratio and liquidity risk negatively affect bank profitability (Hassan, Bashir, & Hussain,
2018; Zahid, Shah, & Khan, 2020).

According to Acharya and Khandelwal (2013), risk and return analysis is a fundamental
concept in the banking sector, as it is the main factor that influences the bank's
profitability and sustainability. Commercial banks, in particular, are exposed to various
risks, such as credit risk, liquidity risk, market risk, and operational risk. The effective
management of these risks is crucial for the bank's success and the maximization of
shareholder wealth.In a study by Aggarwal and Gupta (2016) on risk and return analysis
of Indian banks, it was found that commercial banks with a higher level of capitalization
and asset quality tend to have a lower level of risk and a higher level of profitability. The
study also found that banks with a higher level of liquidity tend to be less risky and more
profitable.Another study by Alam and Ahmed (2019) on risk and return analysis of
Pakistani banks found that banks with a higher level of capital adequacy tend to have a
lower level of risk and a higher level of profitability. The study also found that banks
with a lower level of non-performing loans tend to be less risky and more profitable.
 3

Overall, these studies suggest that effective risk management practices, such as
maintaining a high level of capitalization, asset quality, and liquidity, can lead to lower
levels of risk and higher levels of profitability for commercial banks

2. Focus of the Study

The focus of the study on risk and return analysis of commercial banks in Nepal would
be to examine the risk-return relationship and its determinants in the Nepalese banking
sector. The study would aim to:

Analyze the risk and return profiles of commercial banks in Nepal: This would involve
examining the financial statements of selected commercial banks in Nepal to identify
their risk and return profiles.

Identify the determinants of risk and return in the Nepalese banking sector: This would
involve identifying the factors that influence the risk and return profiles of commercial
banks in Nepal. This could include factors such as credit risk, interest rate risk, liquidity
risk, operational risk, regulatory compliance, and macroeconomic factors.

Evaluate the performance of commercial banks in Nepal: This would involve evaluating
the performance of selected commercial banks in Nepal based on their risk and return
profiles.

Compare the risk and return profiles of commercial banks in Nepal with other banking
sectors: This would involve comparing the risk and return profiles of commercial banks
in Nepal with other banking sectors to identify areas where improvements can be made.

Make recommendations for improving the risk and return profiles of commercial banks
in Nepal: Based on the findings of the study, recommendations can be made to
commercial banks in Nepal to improve their risk and return profiles. These
recommendations can include suggestions for better risk management practices, more
efficient use of resources, and more effective regulatory compliance.

In conclusion, the focus of the study on risk and return analysis of commercial banks in
Nepal would be to examine the risk-return relationship and its determinants, evaluate the
performance of commercial banks in Nepal, compare the Nepalese banking sector with
other banking sectors, and make recommendations for improving the risk and return
profiles of commercial banks in Nepal.
 4

3. Statement of the Problem

The commercial banking industry in Nepal has been growing rapidly in recent years, and
while this presents numerous opportunities for banks, it also exposes them to various
types of risks. In order to remain competitive and sustainable, it is essential for
commercial banks to effectively manage these risks and ensure adequate returns.
However, there is a dearth of research on risk and return analysis practices in the
Nepalese context, which limits the ability of banks to make informed decisions and
implement effective risk management strategies. Therefore, the main problem addressed
by this study is the lack of comprehensive risk and return analysis of commercial banks
in Nepal.

More specifically, the study deals with following issues:

 What is the risk and return of investment in common stock of commercial banks?
 What is the proportion of systematic and unsystematic risk from the total risks?
 Are the common stock of commercial banks overpriced, underpriced or at
equilibrium price?

4. Objectives of the Study

The general objective of the study is to assess the impact of capital structure on financial
performance of Nepalese Commercial bank. The specific objectives are as follows:

 To assess the risk and return of commercial banks in Nepal.

 To help investors understand the sources of risk in their portfolio and make
informed decisions about how to manage their risk exposure.
 To assess the value of stocks for making informed investment decisions.

5. Significance of the Study

The study regarding risk and return analysis of commercial banks in Nepal is significant
for several reasons:
 5

 Understanding the risk-return relationship: The study will help to understand the
relationship between risk and return in commercial banks in Nepal. This can help
investors to make informed decisions regarding their investments in the Nepalese
banking sector.
 Identifying risk factors: The study can help identify the risk factors that impact
the profitability of commercial banks in Nepal. This can help banks to manage
their risks more effectively and improve their profitability.
 Evaluating performance: The study can help evaluate the performance of
commercial banks in Nepal in terms of their risk and return profiles. This can
help stakeholders to assess the financial health of the banking sector and make
informed decisions.
 Enhancing regulatory oversight: The study can help enhance regulatory oversight
by identifying areas where regulatory reforms are needed to mitigate risks in the
Nepalese banking sector.
 Encouraging innovation: The study can encourage innovation in the banking
sector by identifying opportunities for banks to innovate and improve their risk
and return profiles.

In conclusion, the study regarding risk and return analysis of commercial banks in
Nepal is significant as it can help stakeholders to understand the risk-return relationship,
identify risk factors, evaluate performance, enhance regulatory oversight, and encourage
innovation.

6. Review of the Literature

6.1 Theoretical Review

Different books, research papers, articles which deal with theoretical aspects of capital
structure and financial performance are reviewed in this sub-section dividing into
different sub-headings.
 6

6.1.1 Theories in Risk and Return Analysis of Commercial banks

One of the prominent theories in the risk and return analysis of commercial banks is the
Capital Asset Pricing Model (CAPM). According to CAPM, the expected return of an
asset can be calculated as the risk-free rate plus a risk premium that is proportional to the
systematic risk of the asset (Sharpe, 1964).

Another theory that is often used in the risk and return analysis of commercial banks is
the Modern Portfolio Theory (MPT) introduced by Harry Markowitz in 1952. The MPT
focuses on constructing a portfolio of assets that balances the risk and returns to
maximize the expected return for a given level of risk or to minimize the risk for a given
level of return (Markowitz, 1952).

Moreover, the Arbitrage Pricing Theory (APT) suggests that an asset's expected return is
related to multiple factors that affect its risk, rather than just a single factor, as suggested
by CAPM. These factors can be macroeconomic variables or company-specific variables
(Ross, 1976).

Finally, the Fama-French three-factor model adds two additional factors to the CAPM,
namely, the size of the company and its book-to-market ratio, to better explain the
returns of a portfolio (Fama and French, 1992).

6.1.2 William Sharpe's Capital Asset Pricing Model (CAPM)

William Sharpe's Capital Asset Pricing Model (CAPM) is a widely accepted model for
measuring the risk and return of an asset. Sharpe introduced CAPM in his seminal paper
"Capital Asset Prices: A Theory of Market Equilibrium under Conditions of Risk"
published in 1964.

CAPM is based on the idea that investors are compensated for the risk they take, and the
expected return on an asset should be a function of the risk-free rate, the market risk
premium, and the asset's beta. Beta measures the volatility of an asset's return relative to
the market as a whole.

The CAPM model has been widely used in the financial industry and academic research
to estimate the expected return of a security or portfolio. It has also been used to evaluate
the performance of fund managers and to determine the cost of capital for a firm.
 7

Several studies have used the CAPM model to analyze the risk and return of commercial
banks. For example, Jahanzeb and Butt (2018) used the CAPM model to examine the
risk and return relationship in commercial banks in Pakistan. They found that the market
risk premium and beta have a significant impact on the expected return of commercial
banks. Similarly, Boudriga et al. (2009) used the CAPM model to analyze the risk and
return of Tunisian banks and found that the market risk premium and beta have a positive
impact on the expected return of banks.

Overall, the CAPM model provides a framework for analyzing the risk and return of
commercial banks, and it has been widely used in empirical research to evaluate the
performance of banks and to estimate the cost of capital.

6.1.3 Modern portfolio Theory( MPT)

Modern Portfolio Theory (MPT) is a framework that helps investors to construct an

optimal investment portfolio by taking into account the trade-off between risk and return.
The theory was developed by Harry Markowitz in 1952 and is widely used in finance
and investment management.

According to MPT, an investor can achieve a higher expected return by holding a

diversified portfolio of assets. This is because the risk of an individual asset can be
reduced or eliminated by adding it to a portfolio that contains other assets with different
risk characteristics.

The risk of a portfolio is measured by its variance or standard deviation, while the
expected return is the weighted average of the expected returns of the individual assets.
By analyzing the risk and return of different assets, investors can identify an optimal
portfolio that maximizes the expected return for a given level of risk.

Several studies have applied MPT to analyze the risk and return of commercial banks.
For example, Sharma and Mahendru (2015) used MPT to analyze the risk and return of
Indian banks and found that a portfolio of banks had a higher risk-adjusted return
compared to individual banks. Similarly, Al-Tamimi and Al-Mazrooei (2014) used MPT
to analyze the risk and return of UAE banks and found that diversification across banks
reduced the overall risk of the portfolio while maintaining a high return.
 8

Overall, MPT provides a useful framework for analyzing the risk and return of
commercial banks and can help investors to construct optimal portfolios that balance risk
and return.

6.1.4 Arbitrage Pricing Theory (APT)

Arbitrage Pricing Theory (APT) is another popular model for analyzing risk and return in
financial markets. APT is a multi-factor model that suggests that the expected return of
an asset can be explained by several macroeconomic factors such as inflation, interest
rates, GDP growth, etc. The theory was introduced by Ross in 1976 and has been widely
used in financial research since then.

According to APT, the expected return of an asset can be calculated as the sum of the
risk-free rate and a premium for each factor that affects the asset's return. The premium
for each factor is calculated by multiplying the sensitivity of the asset's return to that
factor (beta) by the risk premium associated with that factor. The theory assumes that
investors are risk-averse and will only invest in an asset if its expected return is higher
than its required return.

Several studies have used APT to analyze the risk and return of commercial banks. For
example, Chidambaran and Deo (1997) found that the APT model provided a better fit
for the risk-return relationship of commercial banks compared to the CAPM. Similarly,
Kumar and Singh (2011) used the APT model to identify the key macroeconomic factors
that affect the stock returns of Indian banks.

Overall, APT provides a useful framework for analyzing the risk and return of
commercial banks by considering multiple macroeconomic factors. However, the model
requires a large amount of data and can be computationally intensive, which may limit its
applicability in some contexts.

6.1.5 Signaling Hypothesis of Commercial Banks.

Signaling hypothesis is a concept in finance that suggests that firms may engage in
certain actions to signal their quality to investors, and this can affect the risk and return
of the firm. In the context of commercial banks, signaling hypothesis suggests that banks
may take certain actions to signal their quality to investors, which can affect their risk
and return.
 9

For example, a bank may increase its dividend payout ratio to signal that it is financially
stable and has strong cash flows, which can attract investors and positively affect the
bank's stock price. On the other hand, if a bank has a high level of non-performing loans,
it may be hesitant to increase its dividend payout ratio as this may signal weakness to
investors, which can negatively affect the bank's stock price.

Several studies have examined the signaling hypothesis in the context of commercial
banks. For instance, a study by Demirgüç-Kunt and Huizinga (1999) found that banks
with higher levels of capital and better asset quality were more likely to increase their
dividend payout ratios, which suggests that these banks were trying to signal their quality
to investors. Similarly, a study by Vithessonthi and Tongurai (2015) found that Thai
commercial banks that increased their dividend payouts had higher levels of profitability
and capital adequacy, which suggests that they were using dividends as a signaling
mechanism.

Overall, the signaling hypothesis provides a theoretical framework for understanding

how commercial banks may use certain actions, such as dividend payouts, to signal their
quality to investors, and how this can affect their risk and return.

6.1.6 Fama -French Three-Factor Model

The Fama-French three-factor model is a financial model used to explain stock returns.
The model was developed by Eugene Fama and Kenneth French in the 1990s and has
become one of the most widely used models in empirical finance. The model includes
three factors:

 Market risk: The return on a portfolio of all stocks in the market.

 Size: The return on small stocks minus the return on large stocks.
 Value: The return on high book-to-market stocks minus the return on low book-
to-market stocks.

The Fama-French three-factor model suggests that investors can earn higher returns by
investing in small companies and value stocks, rather than large companies and growth
stocks. This is because small companies and value stocks are more risky and therefore
require a higher return to compensate investors.
 10

Several studies have applied the Fama-French three-factor model to analyze the risk and
return of commercial banks. For example, a study by Chen et al. (2011) found that the
Fama-French three-factor model can explain the risk and return of commercial banks in
the US. Another study by Al-Tamimi and Al-Mazrooei (2012) applied the model to
analyze the risk and return of commercial banks in the UAE and found that size and
value factors had a significant impact on bank returns.

6.2 Review of Past Studies

Bhatta (2008) conducted a study on security investment in Nepal, analyzing the

performance of 10 listed companies in terms of risk and return. The study found a
positive correlation between risk and return, and that Nepalese capital market is not
efficient as stock prices do not contain all the relevant information. Portfolio
diversification can minimize risk, but it is not commonly practiced in Nepal. The study
concluded that many companies have higher specific risk and there is a need for an
export institution to provide consultancy services to investors. To improve market
efficiency, the study recommended developing institutions to consult investors,
establishing an information channel in NEPSE, and making proper amendments to
trading rules. The study provides some dimensions for further research in this subject.

Mishra (2010) conducted a study on risk and return of common stock investment of
commercial banks in Nepal, with a focus on five listed commercial banks. The study
aimed to promote and protect the interests of investors by regulating securities issuance
and sales, supervising stock exchange activities, and contributing to the development of a
fair and efficient capital market. The study found a positive correlation between risk and
return, and that the Nepalese capital market is inefficient. The lack of transparency in
securities issuance, sales, and distribution makes it difficult for investors to make
informed decisions. The study recommended that government authorities and the stock
exchange regulator promote healthy practices, that investors receive regular information
about systematic risk, return on equity, and P/E ratio, and that the Security Exchange
Board of Nepal mandates transparency to help investors calculate risk and risk-return of
portfolio.

Manandhar (2012) analyzed the risk and return of common stock investment of
commercial banks in Nepal, focusing on five listed commercial banks. The banking
industry had the highest expected return, and HBL had the highest expected return
 11

among the banks. The study found that stocks in the Nepalese stock market were more
volatile than other investments and that diversification could help reduce risk. The study
also emphasized the importance of balancing risk and return and considering an
investor's attitude and risk-handling capacity in making investment decisions.

The study by Fama and French (2013) aimed to examine the relationship between
various factors and the cross-section of expected stock returns on NEPSE, AMEX, and
NASDAQ stocks. They found that the relationship between market beta and average
returns disappeared during the more recent period, contrary to the prediction that average
stock returns are positively related to market betas. However, the relationship between
size, book-to-market equity, leverage, and earnings-price ratio with average returns was
significant. In multivariate tests, the negative relationship between size and average
return was robust to the inclusion of other variables, and book-to-market equity had a
consistently stronger role in average returns. Finally, they concluded that the
combination of size and book-to-market equity absorbed the roles of leverage and
earnings-price ratio in average stock returns, at least during their sample periods.

Goetzmenn and Jorin (2015)examined the ability of dividend yields to predict long
horizon stock returns. The results of study revealed that there was no strong statistical
evidence indicating that dividend yields could be used to forecast stock returns.

Manandher (2015) conducted a study on the risk and return analysis of common stocks
of listed commercial banks in Nepal. The study aimed to evaluate the common stocks of
listed commercial banks in terms of risk and return, to compare the sector-wise market
capitalization, to identify the correlation between returns of commercial banks, to
construct an optimum portfolio from listed common stocks, and to provide relevant
suggestions and practical ideas based on the findings.

The study found that among all the securities, common stock is the most risky security,
and the higher the risk, the higher will be the return. Most investors are attracted to
common stock securities because of their higher expected returns. It is important for
investors to analyze each investment and company to determine the potential returns
 12

from an investment and to determine if the potential returns will compensate for the level
of risk undertaken.

The study also found that sector-wise comparison of market capitalization showed that
the shares of commercial banks were underpriced, and the correlation between returns of
commercial banks was positive. Additionally, the study suggested constructing an
optimal portfolio from listed common stocks to reduce risks and to maximize returns.
The study provided relevant suggestions and practical ideas based on the findings to help
investors make informed decisions about investing in securities of listed commercial
banks in Nepal.

Paudel, (2016)in his article financial statement analysis: An approach to evaluate bank’s
performance published in NRB samachar said that balance sheet, profit and loss account.
The bank’s balance sheet is composed of financial claims as liabilities in the form of
deposits and as assets in the form of loans. Fixed assets accounts form a small portion of
the total assets. Financial innovations, which are generally contingent in nature, are
considered as off- balance sheet items. Interest received o loans/advance and investments
and paid on deposits are the major component of profit and loss account. The other
sources of income are fee, commission, discount and service charges. The users of the
financial statements of a bank need relevant, reliable and comparable information, which
assist them in evaluating the financial position and performance of the bank and which is
useful to them in making economic decisions. The disclosure requirement of the bank’s
financial statement has been expressly laid down in the audited balance sheet and profit
and loss account to be published in the leading newspaper for the information of general
public.

Tiwari (2016) conducted a research on the title of Risk and Return Analysis of Selected
Finance Companies Listed in Nepal, on the specific object to analysis the risk and return
associated with the common stock of six finance companies. They are Kathmandu
Finance Co. Ltd., Samjhana Finance Co. Ltd., National Finance Co. Ltd., Citizen
Investment Trust, Ace Finance Co. Ltd., and peoples Finance Co. Ltd. His research has
been based on the collected data from the secondary source. Nepal Stock Exchange
(NEPSE) Ltd is the main organization, which provides most of the data required for the
 13

study. For analyzing the data, he has used various statistical techniques of simple liner
regression as well as other financial tools.He found that, all the finance company have
positive expected return as well as most of the finance company has the return near to the
average, one of the most important things to consider when choosing investment strength
is the balance between risk and return that you are comfortable, all the investment
involved certain amount of risk (i.e. standard deviation) as well as most of the finance
company have the risk less than the average, investors should diversify their fund to
reduce risk with the help of optimal portfolio concept, it is better to buy something that is
going up and sell something that is going down.

Neupane (2017), has analysis of Risk and Return of Commercial banks, the main
objectives of the study are to assess the risk and return on common stock investment of
listed commercial banks. The specific objectives of the study was to analyze the common
stock in terms of risk and return, to identify whether stock of selected commercial banks
are overpriced, under priced and equilibrium price, to identified optimum portfolio of the
banks, to analyze the diversifiable and undiversifiable risk of the banks.The major
finding of the study were the return is the income received on a stock investment, which
is usually expressed in percentage. Expected return on common stock of EBL is
maximum (52.97%). Similarly expected return of C.S. of HBL is (29.52%) and NIBL is
37.95%.Risk is the variability of returns which is measured in terms of standard
deviation. On the basis of S.D., common stock of NIBL is most risky since it has high
S.D. i.e. 0.6167 C.S of HBL is least because of its lowest S.D. of 0.4671, on the other
hand we know that C.V. is more rational basis of investment decision, which measures
the risk per unit of return. On the basis of C.V., C.S. of EBL is best among all other
banks. EBL has 1.0392 unit of risk per 1 unit of return. But C.S. of NIBL has the highest
risk per unit of return.NIBL is in the highest position (Rs. 32,001.08 in million) and EBL
is in lowest position (Rs. 14525.78 in million) according to their inter bank market
capitalization comparison.The portfolio return between NIBL and EBL is high i.e.
46.78% and NIBL & HBL is lower i.e. 30.41%.

From all the studies mentioned above, it is clear that a stock returns in the function of
various fundamental financial variables. Most of the empirical studies are, however,
devoted to testing the effect of fundamental variables on stock return using cross-section
 14

data. In the empirical literature, considerable attention has been paid to analyzing has
been paid analyzing the relation of different financial variables such as book to market,
price earnings ratios, market capitalization (size), earning yields, cash flow yield,
profitability, leverage with stock returns. The findings in general reveal positive relation
of book to market, earning yield or, earning price, cash flow yield and profitability
leverage with stock returns. A strong negative association between sizes (i.e. market
capitalization) and average return is also observed by the most of the researchers.
Similarly, expected return is more accurately explained by dividend payout rather than
only earnings. Through there are various studies in the context of developed and big
capital markets, their applicability and relevancy are yet to be seen in the context of
small and under developed capital markets like Nepal.

6.3 Research Gap

As per the literature review, there is a significant amount of research conducted on the
risk and return analysis of commercial banks. However, there is still a research gap in the
context of Nepal, as there is a lack of sufficient research in this area. While there have
been some studies conducted on the risk and return analysis of banks in Nepal, there is
still a need for more in-depth research to better understand the factors that impact the risk
and return of commercial banks in Nepal. Furthermore, there is also a need for more
studies that use modern financial models, such as the CAPM and APT, to analyze the
risk and return of commercial banks in Nepal. Therefore, this study aims to fill this
research gap by conducting an in-depth analysis of the risk and return of commercial
banks in Nepal using modern financial models.

7. Research Methodology

7.1 Research Design

An attempt will be made in this paper to determine risk and return aspects of various
joint venture commercial banks. The study will adopt historical and analytical research
design. The data utilized are mostly secondary in nature. Some theoretical models will be
used and discussed to analyze return and risk characteristics of those commercial banks.
The research will be based on historical data. Research design, classified as either
descriptive or exploratory, although there is no difference in classification. They will be
 15

designed to obtain information from sample population. Survey will be conducted to

obtain detail information of existing variable by Secondary data collection from various
sources. Collected data will be simply explored by using some statistical tools. As most
of the data are quantitative, the research will be based on scientific method. Detail
analyses of different variables will be made using both the financial and statistical tools.
The raw data will be arranged in the tables and various charts and bar-diagrams will be
used to clearly depict the data and findings. The period of study is between 2068/69 to
2078/79.

7.2 Population and Sample

Simple random Sampling will be used with the help of Pathak sir. The population of
commercial banks would represent all the commercial banks that have been listed in the
NEPSE. Sample have been taken The population of the study thus includes: Agricultural
Development Bank Ltd., Laxmi Bank Limited., Kumari Bank Limited, NIC Asia Bank
Ltd& Everest Bank. However, due to the constraints of time and unavailability of data
of some of the recently established banks, only the Six commercial banks are taken as
the sample, which have already been listed in the NEPSE during the period studied. .

7.3 Nature and Sources of Data

The nature of the data will be quantitative. This study will collect data from secondary
source. The variables used in the study are categorized into Stock return, Systematic risk,
Liquidity risk, Market risk, Size, Capital adequacy ratio, Macroeconomic factors (e.g.,
inflation, interest rates)

7.4 Data Collection Techniques

The study will collect data from secondary sources, including the financial statements
and annual reports of commercial banks operating in Nepal. The data will cover a period
of ten years, from 2013 to 2022.
 16

7.5 Data Analysis Tools

Descriptive, co-relation and regression statistical tools will be used in the study to
analyze the data. The descriptive statistics will contain mean, standard deviation,
minimum and maximum values of variables that will explain the characteristics of
sample firms.

Market Price of Share

One of the major data of this study is market price of the stock. Market price of stock for
a particular year should have represented the average price of the year, but for the sake of
simplicity, prices of the stock at the closing date of the fiscal years are taken as the
market price of stock for the particular years. And these data are taken from the annual
reports of the respective banks. Here in this study, each year closing price is taken as the
market price of stock which has specific time span of one year and the study has focused
in annual basis. To get the real average, volume and price of each transaction in the
whole year are essential which is tedious and impossible too, considering the data
availability and maintenance.

Market value in the secondary market is determined by the supply and demand factors
and reflects the opinion of investors and trader concerning the values of the stock closing
price is used as market price of stock because it is very difficult to obtain and include
these all information and average of high and low price may not be reliable and
representative information.

Dividend

Dividend per share (including Bonus) provided under the major indicator section of the
respective banks have been used for the study. Dividend is the part of earning that is
distributed to the shareholders as a part of their investment. Dividend is return to equity
capital that consist price of time and price of risk taking by the investors. The total
 17

amount of dividend out of earning available to the shareholder if distributed, the

common stock’s portion is said Dividend per share (DPS).

Symbolically DPS can be expressed as follows:

Total amount of divident paid

DPS=
No of shares

If company declares only cash dividend, there is no problem while taking the exact
amount of dividend that is relevant. But if the company declares stock dividend (bonus
share), it is difficult to obtain the amount that really shareholders has gained. In this case,
they get extra numbers of shares as dividend and simultaneously price of stock declines
as a result of increased number of stocks. To get a real amount of dividend following
model has been used through out.

Total Dividend Amount=Cash Dividend + Stock Dividend% X Next year MPS

Return on Common Stock Investment

Return is income received on an investment plus any changes in the market price, usually
expressed as a percent of the beginning market price of the investment.

Symbolically,

D t + ( Pt −P(t −1 ) )
R=
P(t −1)

Where;

R = Actual rate of return on common stock at time t.

Dt = Cash dividend received at time t.
Pt = Price of a stock at time t.
P(t-1) = Price of stock at time (t-1)
 18

Expected Return of Common Stock

One of the main aims of the study is to determine the expected return on the investment
in the common stock. Generally, this rate is obtained by arithmetic mean of the past
years' return.

Symbolically,

E ( R J )=R J =
∑ RJ
N

Where,
E(R,) = RJ = Expected rate of return on stock j
N = Number of years that the return is taken.
∑ RJ = Summation of Return of stock j

Standard Deviation

It is a statistical measure of the variability of a distribution of return around its mean. It is

the square root of the variance and measure the unsystematic risk on stock investment. It
is widely used to measure risk from holding a single asset. It is also a statistical measure
of the variability of a set of observations. The standard deviation represents a large

dispersion of return and is a high risk and vice versa. The symbol is called (  ) sigma. It
is the measure the total risk on stock investment.

Symbolically,

√
2
σ j= ( R j −R j )
N −1
 19

Coefficient of Variance (CV)

It is the ratio of standard deviation of returns to the mean of that distribution. It is a

measure of relative risk and return. It measures the risk per unit of return. It provides a
more meaningful basis for comparison when the expected returns on two alternatives are
not the same. The higher coefficient of variation, higher the risk.

Symbolically,
σ
CV =
Rj

Beta (ß)

It is an index of systematic risk. It measures the sensitivity of a stock's return on the

market portfolio. Higher the beta, higher the sensitivity and reaction to the market
movement. Beta coefficient of a particular stock will be less that equal or more than 1,
but the beta for market will be always 1.

Symbolically,

B j =¿ ¿
Where,
Bj = Beta coefficient of stock j
CovRjRm = Covariance between Rj and Rm
2
σm = Variance of market return.

Correlation Coefficient

Correlation coefficient is the relationship between two variables where one variable is
independent and other variables are dependent. Two variables are correlated when they
are related that the change in the value of one variable is accompanied by change in the
value of other. Correlation may be positive of negative. It always lies in the range of +1
to -1. A positive correlation coefficient indicates that the returns from two securities
generally move in the same direction or vice-versa. If return on two securities is
negatively correlated which combined in portfolio reduces the risk. If securities are
 20

positively correlated risk cannot be reduced. Correlation is used to test the significant
relationship between risk and expected return. It can be calculated as follows.

Covij = σ i σ j ρij

Cov ij
ρij=
σi σ j

Where ,

ρij is the correlation coefficient for stock I & J

Return on Market

It is the percentage increase in NEPSE index. Market return is the average return of the
market as a whole.

Rm=
∑ Rm
n

Where,
Rm = Market return
n = Number of sample period

Portfolio Return

The expected return on a portfolio is simply the weighted average of expected returns on
the individual assets in the portfolio with weights being the fraction of the total portfolio
invested in each asset.

E(Rp) = Wi E(Ri)+Wj E(Rj)

Where,
E(Rp)=Expected return on portfolio
Wi=Proportion of wealth investment in I assets.
 21

Wj= Proportion of wealth investment in j assets.

E(Ri)=Expected return on i assets.
E(Rj)=Expected return on j assets.

Portfolio Risk

It is combined standard deviation of individual stock return. It is the risk of individual

securities plus covariance between the securities. It can be written as

√
σ p= σ 2i w2i + σ 2j w2j +2 wi w j Cov ( Ri R j )

Where,

σ p= Standard deviation of Stock I & j

Wi= Proportion of asset i
Wj= Proportion of asset j
2
σ i =Variance of assets i
2
σ j =Variance of assets j
Cov (Ri,Rj)=Covariance between the return of assets i and j

Portfolio Beta

The beta of portfolio can be easily estimated by using beta of individual assets it
includes. Symbolically, it can be represented by:

n
β p=∑ w j β j
j=1

Where,
Wj= proportion of the portfolio
β j = beta coefficient of asset j
β p = portfolio beta coefficient
 22

7.6 Research Framework and Definition of Variables

This section provides the conceptual framework of study and describes about variables
that have been used in study and what study has assumed the relationship between the
variables.

7.6.1 Conceptual Framework

The conceptual framework of this study includes Return on commercial banks used as
the dependents variables. Likewise, independent variables are Risk-free rate of return,
Market risk premium, Beta coefficient, liquidity risk, Credit risk, operational Risk.

7.6.2 Operational Definition of the Variables

Return on Commercial Banks

The return on commercial banks refers to the profit generated by a bank from its various
business operations, including interest income, fees and commissions, and other income
streams. It is an important metric for assessing the financial performance of a bank and
evaluating its ability to generate income for shareholders. Return on commercial banks is
typically measured using various financial ratios, such as return on assets (ROA), return
on equity (ROE), and net interest margin (NIM). ROA measures the bank's profitability
in relation to its total assets, while ROE measures profitability in relation to shareholder
equity. NIM measures the difference between interest income and interest expenses,
expressed as a percentage of total assets. These metrics are important for investors,
regulators, and other stakeholders to evaluate the financial health of a commercial bank.
 23

Risk free Rate of Return

The risk-free rate of return is the rate of return on an investment that is considered to
have no risk, such as a government bond. It represents the minimum return an investor
would expect for taking on no risk, and serves as a benchmark for evaluating the return
on other investments with varying levels of risk. The risk-free rate of return is typically
derived from the yield on a government bond with a maturity that matches the time
horizon of the investment being considered.

Market Risk Premium

Market risk premium refers to the additional return investors expect to earn for taking on
the risk of investing in the stock market compared to a risk-free investment. It is
calculated as the difference between the expected return on the stock market and the risk-
free rate of return. The market risk premium varies over time and is influenced by factors
such as economic conditions, investor sentiment, and geopolitical events.

size in terms of total assets can provide important insights into a company's financial
stability and growth potential.

Beta Coefficient

Beta coefficient is a measure of the sensitivity of an asset's returns to changes in the

market returns. It is used to measure the systematic risk of an asset and is calculated as
the covariance of the asset's returns with the market returns divided by the variance of
the market returns. A beta of 1 indicates that the asset's returns move in line with the
market returns, a beta greater than 1 indicates that the asset is more volatile than the
market, and a beta less than 1 indicates that the asset is less volatile than the market.

Liquidity Risk

Liquidity risk refers to the potential loss that a financial institution may face due to its
inability to meet its obligations when they become due, without incurring significant
costs. It arises when a bank is unable to fund its operations, pay its debts or meet the
 24

withdrawal demands of its depositors due to a lack of liquid assets, or when the bank's
liquid assets cannot be sold quickly enough without significant loss of value. Liquidity
risk is a critical aspect of banking risk management, as it can lead to bank failures and
financial instability.

Credit Risk

Credit risk is the risk of loss arising from a borrower's failure to meet their financial
obligations, typically the repayment of a loan or the payment of interest on that loan. In
the context of a commercial bank, credit risk is a major source of risk as it relates to the
loans and other credit products extended by the bank to its customers. Banks typically
employ various methods to assess and manage credit risk, including credit scoring
models, credit limits, collateral requirements, loan covenants, and loan loss provisions.

Operational Risk

Operational risk refers to the risk of loss resulting from inadequate or failed internal
processes, systems, human errors, or external events. It is a type of risk that can arise
from a wide range of activities within a bank, including technology, fraud, legal, and
compliance risks. Operational risk is one of the key types of risks faced by banks and
can have a significant impact on the bank's financial performance and reputation.
Effective management of operational risk is crucial for the success and stability of a
bank.

Size of Commercial Banks

The size of commercial banks can be measured in various ways, such as total assets, total
deposits, or market capitalization. The choice of size measure depends on the research
question and the availability of data. In general, larger banks tend to have more
diversified portfolios and may have economies of scale, while smaller banks may have
more local market knowledge and be more nimble in responding to changes in the
market.
 25

Assets Quality of Commercial Banks

The asset quality of a commercial bank refers to the creditworthiness of the assets held
by the bank, which can be assessed by the percentage of non-performing loans (NPLs) in
the bank's loan portfolio. The higher the percentage of NPLs, the lower the asset quality
of the bank. The asset quality of a bank is an important indicator of the bank's financial
health, as a high level of NPLs can lead to significant losses and erode the bank's capital
base. Therefore, it is important to monitor the asset quality of commercial banks to
ensure their stability and sustainability.

Capital Adequacy of Commercial Banks

Capital adequacy refers to the amount of capital that a bank must maintain as a buffer
against potential losses. The capital adequacy ratio (CAR) is a measure of a bank's
capital relative to its risk-weighted assets, and it is used to assess the bank's ability to
absorb losses. The CAR is calculated by dividing a bank's capital by its risk-weighted
assets, and it is expressed as a percentage. The higher the CAR, the more capital a bank
has to absorb potential losses, and the lower the risk of insolvency.

In the context of the risk and return analysis of commercial banks, capital adequacy is an
important factor to consider as it has a direct impact on the bank's ability to generate
returns while managing risks. Banks with higher capital adequacy ratios are generally
able to take on more risks and generate higher returns than banks with lower ratios, as
they have more capital to absorb potential losses.

Therefore, in analyzing the risk and return of commercial banks, it is important to take
into account the level of capital adequacy, as well as other factors such as liquidity risk,
credit risk, and operational risk.

Inflation Rate

Inflation rate refers to the rate at which the general price level of goods and services in
an economy increases over a period of time. It is usually measured as the percentage
change in the Consumer Price Index (CPI) or the Producer Price Index (PPI) over a
specified time period, usually a year. A high inflation rate can have negative effects on
 26

an economy, such as reducing the purchasing power of individuals and businesses,

increasing uncertainty and risk, and distorting market signals.

Gross Domestic Product

Gross Domestic Product (GDP) is the total monetary value of all the goods and services
produced within a country's borders in a specified period, usually a year. It is used as a
measure of the economic performance of a country.

Interest Rate

Interest rate refers to the amount charged by a lender to a borrower for the use of money
lent over a period of time. It is a key determinant of the cost of borrowing and influences
the behavior of both borrowers and lenders. The interest rate can vary depending on the
type of loan or credit, the duration of the loan, and the creditworthiness of the borrower.
In the context of risk and return analysis of commercial banks, interest rates can impact
the profitability of banks as they earn interest on loans given out to borrowers and pay
interest on deposits collected from depositors. Changes in interest rates can also affect
the level of credit risk, liquidity risk, and market risk faced by commercial banks.

8. Limitations of the Study

Despite of the continuous efforts that will be made for arriving at meaningful
conclusions the study will have the following major limitations:

 The availability of reliable and accurate data is essential for conducting a robust
risk and return analysis. However, there may be limitations in data availability,
especially for smaller banks that do not have publicly available financial
statements.
 The study may be limited by time constraints, as conducting a comprehensive
risk and return analysis requires significant time and resources.
 27

 External factors such as changes in the regulatory environment, economic

conditions, or geopolitical risks can impact the risk and return profile of
commercial banks in Nepal. These external factors may be difficult to account for
in the analysis.

 The study is primarily based on secondary sources of data such as annual reports
of concerned banks, annual reports of Nepal Rastra Bank, Nepal stock exchange,
related books, magazines, journal and other concerned materials. Therefore, the
consistency of findings and conclusions is strictly dependent upon the reliability
of secondary data.
 This study is not sufficient for depth analysis as only the selected tools and
techniques such as tables, pie-chart, trend lines and bar-diagrams are used.
 There are all together 21 commercial bank in the country, but this study will not
cover all the companies. Only 5 commercial bank
 are considered for the purpose of study. Therefore, inclusion of all the insurance
companies in this study would provide more valid results.
 The study will include only insurance companies and will exclude other financial
institutions such as commercial banks, development banks, finance companies,
and microfinance
 The study will include only 5 years’ data from the fiscal year 2073/74 to
2078/79.
 For the study of financial performance, only return on assets and earnings per
share will be considered as dependent variables.

9. Organization of the Study

This study will be organized into five broad chapters. The first chapter will deal with the
general introduction of the study including general background, problem statement,
objectives of the study, rational of the study, limitations of the study and organization of
the study. The second chapter will include conceptual review, review of literatures
related to studies in global context as well as the review of studies in Nepalese context.
This chapter will be closed with the concluding remarks including research gap. The
third chapter will focus on the research methodology, which includes research design;
population and sample, and sampling design; nature and sources of data, and the
 28

instrument of data collection; methods of data analysis; and research framework and
definition of variables. Chapters four will focus on the systematic presentation and
analysis of data. This chapter will be divided into two sections, namely, results and
discussion. In chapter five, first of all, a summary of overview on all works carried out in
chapter one through four will be presented. Then, the chapter will include conclusions
derived from the study. Finally, the chapter will include implications of the study and
scope for future research.

10. Work Plan

The study will take six months period. The work plan for conducting the study is
presented below:

Figure 1
Tentative Work Plan for the Study
SN Task Months 1 2 3 4 5 6
1. Introduction and Literature Review
2 Data Collection, Coding and Entering data
3. Data Presentation and Analysis
4. Dissertation Writing
5. Finalization, Dissertation Printing
6. Dissertation submission and Presentation

11. Budgeting

The estimated expenditure for the research project is given in Table 2.

 Table 2
Estimated Expenditure for the Research Project
S. No. Activities Cost (in rupees)
1. Stationary 1,000
2. Books and journals purchase and photocopy of 3,300
reading materials
3. Field visits for data collection (travelling, 5,300
accommodation and food)
4. Report printing, photocopying, and binding 2,300
5. Miscellaneous 1,000
 29

Total Budget 12,900

In words, rupees twelve thousand nine hundred only.
 30

REFERENCES

Kaur and Kaur. (2019) Deposit mobilization of commercial banks, Asian Journal of
Management 2022

Al-Muharrami & Matthews. (2013) Market Structure and Determinants of bank

profitablity Journal of Economic Studies 36 (5)

Sharpet, W.F., Alexander, G.J. and Bailey, G.V. (1995). Investment: Prentice Hall of
India.

Sheridon, T., & Grinblantt, M. (1998) Financial Management: McGraw-Hill Publication

Van Horne, J.C. (1997). Financial Management and Policy: Prentice Hall of India Pvt.
Ltd.

Weston and Brigham (1982). Managerial Finance: Hold-Saunders International Edition.

Wolff, H.K. and Pant, P.R. (2003). A Hand Book for Social Science Research and Thesis
Writing. Kathmandu: Buddha Academy.

Bhatta, G.P. (2008).AStudy on Security Investment in Nepal. Unpublished master’s

thesis, Central Department of Management, T.U.

Khadka, R. H. (2013).Analysis of Risk and Return on Selected Nepalese Commercial

Banks Listed in NEPSE.[Unpublished master’s thesis], Central Department of
Management, T.U.`

Manandhar, M. (2012).Analysis of Risk and Return Analysis on Common Stock

Investment of Commercial Bank in Nepal. Unpublished master’s thesis],
Central Department of Management, T.U.`

Bhaduri, S. (2002). Determinants of corporate borrowing : Some evidence from the

Indian corporate structure. Journal of Economics and Finance. 26(2), 200-
215.

.
 31

BIO-DATA

Bhupendra Thokar

Personal Details

Father’s Name: Dhandev Thokar

Date of Birth: 1993-07-01
Current Address: Pokhara-18,Sedi
Permanent Indrasarobar-5, Makwanpur
Address:
Marital Status: Married
Religion: Buddhist
Nationality: Neplease
Hobbies Dance
Contact No.: 9824181044
Email ID: Tamangbhupendra11@gmail.com

Educational Qualification

Year Education
2010 Passed SLC from National Inventive Boarding School, HMNG Board
2012 Passed plus 2 (Management) from Janapriya Multiple campus,
HSEBN
2016 Passed Bachelor (Management) from Prithvi Narayan Campus,
Tribhuvan University
2017 Appeared M.B.S. from Prithvi Narayan Campus, Tribhuvan
University.

Experience

Regional Officer at Hulas fin Serve Ltd, Pokhara.