IMPACT OF BANK SPECIFIC DETERMINANTS ON

PROFITABILITY OF COMMERCIAL BANKS IN NEPAL

A Thesis Report

By
Bhawani Tondon
MWU Regd.: 2019-67-3-1010-0172
Faculty of Management
Mid-West University

Submitted in
partial fulfillment of the requirement for Master of Business Administration
(MBA) degree

Submitted to
Office of the Dean
Faculty of Management, Mid-West University
Birendranagar, Surkhet, Nepal

August, 2023
 DECLARATION

I hereby declare that this graduate project report entitled “Impact of Bank Specific

Determinants on Profitability of Commercial Banks in Nepal” embodies the result

of valid research work carried out by me as a partial fulfillment of the requirement of

the course Master of Business Administration, Faculty of Management, Mid-West

University. No part of the project has been submitted to any university/institution by

me for the purpose of achieving any academic degree.

Bhawani Tondon
August 2023
 APPROVAL SHEET

We Approve

The Graduate Research Report entitled “Impact of Bank Specific Determinants on

Profitability of Commercial Banks in Nepal” undertaken by Ms. Bhawani Tondon
has been found satisfactory for the award of Master of Business Administration
(MBA) degree.

Pramod KC, PhD Signature:

GRP Supervisor Date:

Dev Raj Paneru, PhD Signature:

Chair, Research Management Committee, GCI Date:

Dhundi Bhattarai, PhD Signature:

Head, MBA Research Cell Date:

Dev Raj Adhikari, PhD Signature:

External Invigilator Date:

Subash Shrestha, PhD Signature:

Member, Research Management Committee, GCI Date:

I, Bhawani Tondon, hereby declare that this thesis report has been approved as per
university guidelines and the same has not been submitted anywhere else for any
other degree. I understand, this report will now become part of Mid-West University
library collection in physical and electronic form.

Bhawani Tondon Date:

Degree Candidate
 ACKNOWLEDGEMENT

I would like to express my deepest gratitude to the following individuals and

organizations, without whom this thesis would not have been possible:

My Supervisor, Dr. Pramod KC, for his continuous guidance, invaluable insights, and
continuous support throughout the research process. His expertise and dedication have
been instrumental in shaping the direction of this thesis.

The Head of MBA Research Cell, Dr. Dhundi Bhattarai for his thorough review,
constructive feedback, and thoughtful suggestions. His input has greatly enhanced the
quality and rigor of this research.

The Director of MBA Program Dr. Akshay Arora for his utmost support and
cooperation in both academic aspects as well as research purposes.

The Mid-West University, for providing the opportunity to carry out this thesis work
along with necessary resources, facilities, and environment conducive to academic
inquiry.

Lastly, I would like to thanks my family and friends, for their unwavering support,
encouragement, and belief in my abilities. Their patience, understanding, and
motivation have been my pillars of strength throughout this challenging journey.

This thesis stands as a testament to the collaborative efforts and contributions of the
aforementioned individuals, and I am truly grateful for their involvement in my
academic journey.

Sincerely,

Bhawani Tondon

iv
 ABSTRACT

The consistent and proficient performance of the banking industry is vital for
ensuring the financial stability of any country as it contributes significantly in the
GDP of any country. In recent years, the profitability of the banking sector has
received significant attention, leading to a substantial body of literature examining
the role of resource management in determining banks' profitability and return on
assets (ROA) and return on equity (ROE) are considered as the key indicators used to
measure profitability of the banks.

There are various factors that has an impact on bank’s profitability among which
non-performing loan, capital adequacy ratio and bank size are some of the bank
specific determinants impacting on bank’s profitability. A significant level of non-
performing loans (NPLs) can pose a risk to the stability of both the banking industry
and the overall financial system. Thus, this study attempted to explore the impact of
non-performing loan, capital adequacy ratio and bank size on return on assets and
return on equity of commercial banks in Nepal. This study has covered the data of 21
commercial banks comprising of 3 public sector banks and 18 private sector banks in
Nepal for the period of 2015/16-2021/22. However, due to recent merger of Laxmi
Bank Ltd. and Sunrise Bank Ltd. on 29 th Ashadh 2080, there are altogether 20
commercial banks in Nepal at present.

The correlation analysis and multiple regression analysis has been used for data
analysis where non-performing loan, capital adequacy ratio and bank size has been
taken as independent variables and return on Assets and return on equity (ROE) has
been taken as dependent variables. The major findings revealed that NPLs have
positive impact on ROE of public banks, while they have negative impact on ROE of
private banks. Likewise, CAR has negative impact on ROE for both public and
private banks however CAR has positive impact on ROA for private banks. Lastly,
Bank Size has negative impact on ROA for both public and private banks and also
negative impact on ROE for private banks.

v
TABLE OF CONTENTS

DECLARATION...........................................................................................................ii
APPROVAL SHEET....................................................................................................iii
ACKNOWLEDGEMENT............................................................................................iv
ABSTRACT...................................................................................................................v
LIST OF APPENDICES.............................................................................................viii
LIST OF TABLES........................................................................................................ix
LIST OF FIGURES........................................................................................................x
LIST OF ABBREVIATIONS.......................................................................................xi
CHAPTER I...................................................................................................................1
INTRODUCTION..........................................................................................................1
1.1 Background of the Study......................................................................................1
1.2 Gaps Analyses......................................................................................................5
1.3 Focus of the Study................................................................................................5
1.4 Objectives of the study.........................................................................................6
1.5 Statement of the Problem.....................................................................................6
1.6 Research Questions..............................................................................................7
1.7 Research Hypotheses............................................................................................8
1.8 Significance of the Study......................................................................................9
1.9 Limitation and Delimitations of the Study.........................................................10
1.10 Operational Definitions of the Key Terms.......................................................10
1.11 Organization of the Thesis Report....................................................................11
CHAPTER II................................................................................................................13
LITERATURE REVIEW.............................................................................................13
2.1 Introduction........................................................................................................13
2.2 Review of Theoretical Perspectives...................................................................13
2.3 Review of Related Policy Documents................................................................17
2.4 Review of Related Studies..................................................................................18
2.5 Development of Theoretical Framework of the Study.......................................25
2.6 Chapter Summary...............................................................................................26
CHAPTER III...............................................................................................................30
RESEARCH METHODOLOGY.................................................................................30

vi
 3.1 Introduction........................................................................................................30
3.2 Research Design.................................................................................................30
3.3 Population of the Study and Sampling...............................................................30
3.4. Units of Analyses..............................................................................................31
3.5 Scope of the Study..............................................................................................35
3.6 Model Specification............................................................................................35
3.7 Nature and Sources of Data Collection..............................................................36
3.8 Socio-Ethical Compliances................................................................................36
CHAPTER IV..............................................................................................................37
DATA PRESENTATION AND ANALYSES............................................................37
4.1 Introduction............................................................................................................37
4.2 Trend Analysis.......................................................................................................37
4.2.1 Public Banks Trend Analysis..........................................................................37
4.2.2 Private Banks Trend Analysis.........................................................................38
4.3 Descriptive Analysis of the Variables....................................................................40
4.4 Correlation Analysis...............................................................................................41
4.5 Regression Analysis...............................................................................................43
4.6 Key Findings of the Study.................................................................................51
CHAPTER V................................................................................................................53
SUMMARY, CONCLUSIONS & RECOMMENDATIONS.....................................53
5.1 Introduction............................................................................................................53
5.2. Summary...............................................................................................................53
5.3. Discussions............................................................................................................54
5.4. Conclusions...........................................................................................................57
5.5. Recommendations for Managerial Implications...................................................58
5.6. Recommendations for Further Research..............................................................59
References....................................................................................................................60
APPENDIX 1...............................................................................................................67
Annual data of commercial banks in Nepal.................................................................67
APPENDIX 2...............................................................................................................72
Measurement of Selected Variables.............................................................................72

vii
LIST OF APPENDICES

Annual data of commercial banks in Nepal………………………………………….66

Measurement of Selected Variables………………………………………………….71

viii
LIST OF TABLES

Table 2.3: Classification on Non-Performing Loans in Nepal………………………………………..17

Table 3.3: List of commercial banks and the study period……………………………………………31
Table 4.2.1: Data Showing Average of Variables for Public Banks………………………………….37
Table 4.2.2: Data Showing Average of Variables for Private Banks…………………………………38
Table 4.3: Descriptive Statistics of Dependent and Independent Variables…………………………..40
Table 4.4.1: Correlation Analysis of Public Commercial Banks in
Nepal…………………………….41
Table 4.4.2: Correlation Analysis of Private Commercial Banks in Nepal……………………………
42
Table 4.5.1: Regression Model Summary Using ROA as Dependent Variable for Public
Banks………………………………………………………………………………………………….43
Table 4.5.2: Anova Table Using ROA as Dependent Variable for Public Banks…………………….43
Table 4.5.3: Regression Analysis Using ROA as Dependent Variable for Public Banks…………….44
Table 4.5.4: Regression Model Summary Using ROE as Dependent Variable for Public
Banks…….45
Table 4.5.5: Anova Table Using ROE as Dependent Variable for Public
Banks……………………..45
Table 4.5.6: Regression Analysis Using ROE as Dependent Variable for Public
Banks……………..46
Table 4.5.7: Regression Model Summary Using ROA as Dependent Variable for Private Banks……
47
Table 4.5.8: Anova Table Using ROA as Dependent Variable for Private
Banks…………………….47
Table 4.5.9: Regression Analysis Using ROA as Dependent Variable for Private
Banks……………..48
Table 4.5.10: Regression Model Summary Using ROE as Dependent Variable for Private Banks……
49
Table 4.5.11: Anova Table Using ROE as Dependent Variable for Private
Banks…………………...50
Table 4.5.12: Regression Analysis Using ROE as Dependent Variable for Private Banks……………
50

ix
LIST OF FIGURES

Figure 2.2: Non-Performing Loans of all banks in Nepal………………………….17

Figure 4.2.1: Variables Trend Analysis for Public Banks………………………….37
Figure 4.2.2: Variables Trend Analysis for Private Banks…………………………39

x
LIST OF ABBREVIATIONS

% Percentage
& And
ADBL Agriculture Development Bank Ltd.
ANOVA Analysis of variance
APA American Psychological Association
BS Bank Size
CAR Capital Adequacy Ratio
CZBIL Citizens Bank International Ltd.
EBA European Banking Authority
EBL Everest Bank Ltd.
et al. and others (from Latin et alii)
etc. and so forth (from Latin et cetera)
FINSAC Financial Sector Advisory Centre
FSIs Financial Soundness Indicators
GBIME Global IME Bank Ltd.
GDP Gross Domestic Product
GNPA Gross Non-Performing Assets
GoN Government of Nepal
HBL Himalayan Bank Ltd.
IMF International Monetary Fund
KBL Kumari Bank Ltd.
LBL Laxmi Bank Ltd.*
LDR Loan to Deposit Ratio
Log Logarithm
MBL Machhapuchhre Bank Ltd.
NABIL Nabil Bank Ltd.
NBL Nepal Bank Ltd.

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NICA NIC Asia Bank Ltd.
NIMB Nepal Investment Mega Bank Ltd.
NMB NMB Bank Ltd.
NPA Non-Performing Assets
NPLs Non-Performing Loans
NRB Nepal Rastra Bank
NSBI Nepal SBI Bank Ltd.
PCBL Prime Commercial Bank Ltd.
PRVU Prabhu Bank Ltd.
PSBs Public Sector Banks
RBB Rastriya Banijya Bank Ltd.
ROA Return on Assets
ROE Return on Equity
ROI Return on Investment
SANIMA Sanima Bank Ltd.
SBL Siddhartha Bank Ltd.
SCB Standard Chartered Bank Nepal Ltd.
SPSS Statistical Package for the Social Sciences
SRBL Sunrise Bank Ltd.*
VIF Variance Inflation Factor

xii
 CHAPTER I
INTRODUCTION

1.1 Background of the Study

Financial institutions serve as intermediaries by collecting funds from the public and
investing them in financial assets such as deposits, loans, and bonds, rather than
physical assets. Among various financial institutions, banks offer a wide range of
services, including accepting deposits, providing loans, currency exchanges,
discounting commercial notes, safekeeping valuables, supporting government
activities, and offering equipment leasing, among others (Kirui, 2014). They play a
crucial role in promoting economic growth by facilitating the smooth flow of credit
and providing investment opportunities in productive sectors. As a result, ensuring the
stability of banking institutions becomes a fundamental aspect of maintaining overall
financial system stability. The consistent and proficient performance of the banking
industry is vital for ensuring the financial stability of any country (Kolapo, Ayeni &
Oke, 2012).

The establishment of Nepal Bank Limited in 1937 marked the beginning of the formal
banking sector in Nepal, and since then, the banking industry has undergone
significant changes in its size, complexity, functions, and role in the economy.
Commercial banks in Nepal are classified into two groups, public (state-owned) and
private banks (non-state-owned), based on ownership and control. At present, there
are 3 public and 18 private sector banks operating in Nepal. Among the public banks,
Rastriya Banijya Bank Limited is one of the largest banks in terms of deposit
mobilization, with the Government of Nepal (GoN) owning 99.97 percent equity
shares. The GoN also owns 51 percent of the equity capital in Nepal Bank Limited
(NBL) and Agricultural Development Bank Limited (ADBL), with ADBL initially
being established as a development bank specializing in the agricultural sector, and
later upgraded to a commercial bank in 2006 (NRB, 2022).

Bhattarai (2020) stated that banking industry is a significant component of Nepal's

service sector, and it contributes approximately 18% to the country's Gross Domestic

1
Product (GDP) as of the fiscal year 2075/76. Athanasoglou, Brissimis & Delis (2008)
in their study concluded that, with the exception of bank size, all other bank-specific
determinants have a significant impact on bank profitability. Several empirical studies
conducted by Olweny & Shipho (2011), Ongore & Kusa (2013), Yesmine & Bhuiyah
(2015), Al-Homaidi, Tabash, Farhan & Almaqtari (2018), and Gwachha (2019) have
found that various internal factors, including assets quality, liquidity, credit risk,
operational efficiency, cash reserve ratio, and assets size, as well as external factors
like gross domestic product, money supply, interest rate, and inflation, significantly
impact the financial performance of banks. By identifying these factors and taking
appropriate actions, both bank management and regulatory authorities can work
towards achieving their goals and contribute to the overall economy of the nation.

Kirui (2014) explains that in recent years, the profitability of the banking sector has
received significant attention, leading to a substantial body of literature examining the
role of resource management in determining banks' profitability and return on assets
(ROA) and return on equity (ROE) are the key indicators used to measure profitability
of the banks. A significant level of non-performing loans (NPLs) can pose a risk to
the stability of both the banking industry and the overall financial system (Boudriga,
Taktak & Jellouli, 2010). The non-performing loan (NPL) serves as a crucial indicator
of asset quality and plays a vital role in assessing the financial stability of banks
(Rajan & Dhal, 2003). It is crucial to prioritize the effective management of credit
risk in banks due to its impact on the financial intermediary function of commercial
banks. This function serves as a primary source of income for banks and plays a
pivotal role in ensuring the overall financial stability of an economy (Klein, 2013).

Non-performing loans (NPLs) are loans that are in a state of default, which
occurs when the borrower fails to make repayments to the creditor within a
specified timeframe. The level of non-performing loans and their ratios are
crucial indicators of financial soundness. However, there is no globally
accepted and standardized definition of what constitutes an NPL (Singh,
2022).

2
The European Banking Authority (EBA) and the Basel Committee have both
provided definitions for non-performing loans to ensure consistency across
their member states. According to these definitions, a loan is considered non-
performing if it has not been paid for more than 90 days and is a significant
exposure, or if the borrower is unlikely to repay the loan in full without selling
collateral, regardless of the amount or duration of past due payments.
Additionally, the Basel Committee's guidelines state that non-performing loans
include those past due for over 90 days, those with a decline in
creditworthiness, and those unlikely to be fully repaid without collateral,
regardless of their current or past due status (Singh, 2022).

Likewise, the IMF, with the approval of its Executive Board, formulated the
Financial Soundness Indicators (FSIs), which includes the most commonly
recognized global definition of non-performing loans. According to the FSI
Compilation Guide of March 2006, loans and other assets should be classified
as non-performing if either the principal and interest payments are past due by
90 days or more, or if interest payments equal to three months or more have
been capitalized, refinanced, or rolled over (Barisitz, 2011).

In context of Southeast Asia, central banks have categorized their NPLs

differently for accounting provisioning purposes. The countries like Thailand
and Indonesia have further divided their NPLs into substandard, doubtful, and
bad quality categories. Therefore, the definitions of non-performing loans
within Southeast Asia vary between countries and tend to be more detailed
than the definitions provided by international organizations such as the
European Banking Authority and the Basel Committee. However, all of the
definitions use a minimum length of 90 days or three months as the standard
for determining whether a loan is non-performing. This standardization will
make it easier to compare NPL ratios globally, but comparisons should still be
done carefully as the minimum duration is just one aspect of the overall picture
(Singh, 2022).

The World Bank Group's Financial Sector Advisory Centre (FINSAC)

3
published a report titled "Are Non-performing definitions comparable across
countries?" which highlights the challenges and complexities of comparing
NPL definitions and asset classification systems across countries. While
certain benchmarks like the 90 days past due threshold for non-performing
loans and the five categories for asset classification are widely accepted, there
are other implementation and regulatory issues that may initially seem
insignificant but have significant impacts on prudential benchmarks such as
NPL and coverage ratios. Many countries have implemented asset
classification systems, with about half of them establishing minimum
provisioning percentages. However, the treatment of collateral in regulatory
provisioning requirements varies greatly, and countries that consider collateral
typically define multiple quality classes for it. There is general consensus on
how to handle multiple loans to a single customer. Divergences in practices are
observed in loan forbearance, including the definition of restructured loans and
criteria for upgrading and classifying them. The EBA definitions can serve as a
benchmark for harmonizing the regulatory treatment of forbearance exposures
among supervisors in the region.

Thus, the loans that is in default or on the verge of default is referred to as a

non-performing loan (NPLs) or non-performing assets (NPAs). A loan is
typically regarded as non-performing when the borrower hasn't made any
payments for a long time, like 90 days or more. Since they are unlikely to be
returned and may cause losses for the lender, non-performing loans can pose a
serious issue for lenders. Due to their potential to trigger decreased lending
and economic downturns, non-performing loans can also have a detrimental
effect on the economy as a whole.

The factors that contribute to Non-Performing Assets (NPAs) include various

reasons such as disasters, failed investments, inefficiency in the recovery
process, changes in the business cycle, lending policies, lack of monitoring and
follow-up on loans, and regulatory issues. NPAs not only affect the
performance of banks but also have an impact on the overall financial system
and economy. They reflect the health of the bank's performance and affect the

4
 stability of the financial infrastructure and the entire economic system
(Pokharel, 2020).

Non-performing loans have a widespread impact on various sectors of an

economy, but financial institutions, particularly commercial banks with large
loan portfolios, are most significantly affected by this issue. High levels of
non-performing loans in the financial sector can impede progress towards
economic growth (Panta, 2018). At present, there are 21 commercial banks in
Nepal which comprise the largest share of assets in the banking industry. Since
the commercial banks operate with high volume transactions and their roles
and functions are more than other financial institutions licensed by NRB, they
are more strictly regulated (NRB, 2022).

1.2 Gaps Analyses

Many research studies have explored similar topics concerning Nepal's financial
situation. However, only a limited number of these studies have considered data from
all commercial banks in the country. Previous research has mostly relied on panel data
from a selected few commercial bank, which has restricted the comprehensiveness of
their understanding of Nepal's banking system. In contrast, this study sets itself apart
by utilizing panel data from all 21 commercial banks operating in Nepal, making it a
comprehensive examination of the Nepalese banking system. The main objective of
this study is to investigate the impact of non-performing loans, considering three
bank-specific variables within the dataset. By employing this approach, the research
aims to provide a more holistic and accurate assessment of how non-performing loans
affect the profitability of commercial banks in Nepal.

1.3 Focus of the Study

The study focuses on conducting comprehensive literature review of existing studies

on non-performing loans, profitability, and related factors in the context of
commercial banks in Nepal, as well as globally. The study aims to determine the
impacts of non-performing loans on profitability of commercial banks in Nepal where
the data of all 21 commercial banks operating in Nepal are considered for the study.

5
The financial data of 7 years i.e., from 2015/16 to 2021/22 are gathered from different
secondary sources such as bank’s annual report and NRB reports to conduct the study.

Through the collected data, the study aims to conduct statistical analyses to explore
the relationship between non-performing loans and profitability, such as correlation
analysis, regression analysis, and hypothesis testing considering five different
variables i.e., Return on Assets (ROA), Return on Equity (ROE), Non-Performing
Loans (NPL), Capital Adequacy Ratio (CAR) and Bank Size (BS).

1.4 Objectives of the study

i. To identify the existing position of NPL, CAR, BS, ROA and

ROE
ii. To identify the relationship between NPL, CAR, BS, ROA and
ROE
iii. To identify the impacts of NPL, CAR, BS on ROA of
commercial banks in Nepal
iv. To identify the impacts of NPL, CAR, BS on ROE of
commercial banks in Nepal

1.5 Statement of the Problem

The collapse of all three commercial banks in Benin during 1988-90, with 80
percent of the banks' loans portfolio being non-performing, and the high rate of
non-performing loans portfolio of 60-70 percent in Cameroon during 1993
with the closure of five commercial banks and restructuring of three others,
illustrate the devastating impact of non-performing loans on the banking
industry. The global financial crisis of 2007/08, which originated in the US
due to the default of subprime mortgages, further highlights the importance of
studying the relationship between bank performance and non-performing loans
(Panta, 2018). Many banks in various countries are unable to generate
sufficient profits from loans provided due to NPLs. As a result, it is crucial to
manage and control NPLs to ensure optimal performance of individual banks
and to maintain a stable financial environment within the economy (Jha,

6
2022).

Non-performing loans (NPLs) have been a major concern for financial

institutions in Nepal for several decades. One of the most significant
consequences of a large number of NPLs in the banking system is the potential
failure of the bank. Various studies have shown that asset quality is a
significant predictor of insolvency, and failing banking institutions often have
high levels of non-performing loans prior to their collapse (Gautam, 2018).
The high rate of loan defaults, fraud, and embezzlement is attributed to
excessive political interference and illegal activities. The lack of proper risk
management in approving loans has further exacerbated the situation and poses
a threat to the profitability of banks (Bhattarai, 2016).

The financial system in Nepal is primarily dominated by the banking sector,

with commercial banks accounting for about 80% of the total financial system.
Nepal Rastra Bank (NRB) is the central bank of Nepal who is responsible for
regulating the financial system in Nepal. It is crucial to understand the stability
of the commercial banking industry to ensure financial stability in Nepal. The
Nepalese financial system has experienced significant growth since financial
liberalization which was introduced in 1980. So, to ensure long-term financial
and economic stability, it is important to analyze the factors that contribute to
non-performing loans in the Nepalese banking industry (Koju, Koju & Wang,
2017).

According to the report published by NRB, the total loans and advances
provided by commercial banks increased by 27% in the FY 2020/21 where
public banks saw a 24.89% increase in their loans and advances, while private
banks experienced a higher increase of 27.33%. Likewise, the total amount of
non-performing loans (NPLs) held by commercial banks slightly decreased by
0.76% where private sector banks saw a 3.29% increase in their NPLs, while
public sector banks experienced a decrease of 12.46% in their NPLs (NRB,
2022).

7
 Previous studies have highlighted that the growing issue of non-performing
loans is a significant challenge faced by commercial banks in Nepal. However,
there is a lack of research specifically focusing on this topic, particularly in
developing countries like Nepal. Therefore, this study aims to fill this gap by
analyzing quantitative data to identify the impacts of non-performing loans on
the profitability of commercial banks in Nepal. The study covers the data of all
the commercial banks operating in Nepal. This approach has not been
previously explored in the literature and could provide new insights into the
relationship between non-performing loans and profitability in Nepalese
commercial banks.

1.6 Research Questions

The research problem has been addressed through the following questions:

i. What is the existing position of NPL, CAR, BS, ROA and ROE?
ii. What is the relationship between NPL, CAR, BS, ROA and ROE?
iii. What are the impacts of NPL, CAR, BS on ROA of commercial banks in
Nepal?
iv. What are the impacts of NPL, CAR, BS on ROE of commercial banks in
Nepal?

1.7 Research Hypotheses

Non-Performing Loans

Credit risk has a significant impact on a bank's profitability among the various types
of risks they face. This is primarily because loans, which generate interest income,
constitute a major portion of a bank's revenue. As a result, credit risk assumes greater
importance in determining a bank's overall financial performance (Herrero, Gavilá &
Santabárbara, 2017). Numerous research studies, including those conducted by Singh
et al. (2021), Shrestha (2020), Bhattarai (2020), Panta (2018), Gnawali (2018),
Gautam (2018), Mittal & Suneja (2017), Bhattarai (2016), Ombir & Bansal (2016),
and Jha & Hui (2012), have explored the relationship between non-performing loans

8
and a bank's profitability, as measured by Return on Assets and Return on Equity.
These studies consistently indicate a negative correlation, suggesting that an increase
in non-performing loans tends to have an adverse effect on a bank's profitability.
Therefore, the hypothesis developed from the aforementioned discussions is as
follows:

H1: There is a negative relationship between non-performing loans and return on

assets

H2: There is a negative relationship between non-performing loans and return on

equity

Capital Adequacy Ratio

Makri et al. (2014) elucidate that the capital adequacy ratio plays a pivotal role in
shaping the risk behavior of banks. It serves as a gauge of a bank's financial
robustness and capacity to absorb risks. As a result, this ratio is utilized to safeguard
depositors, foster the stability of the financial system, and enhance its efficiency.
Ochei (2013), Sangami and Nazir (2010), and Uyen (2011) have discovered a positive
correlation between the capital adequacy ratio and a bank's profitability. Conversely,
Singh et al. determined that the capital adequacy ratio does not exert a significant
influence on non-performing loans (NPLs). Bhattarai (2020) established the
significant role of the capital adequacy ratio in shaping a bank's profitability. Koju,
Koju, & Wang (2018) ascertained a negative association between non-performing
loans and the capital adequacy ratio. Therefore, the hypothesis developed from the
aforementioned discussions is as follows:

H3: There is a relationship between capital adequacy ratio

and return on assets

H4: There is a relationship between capital adequacy ratio and return on equity

Bank Size

9
Bank size is calculated as the natural logarithm of the total assets of the bank.
Vighneswara & Swamy (2012) identified a robust inverse relationship between bank
size and the extent of non-performing loans (NPLs). Singh et al. observed a notable
influence of bank size on NPLs. Bhattarai (2020) revealed the considerable impact of
bank size in shaping a bank's profitability. Panta (2018) found a negative and
significant correlation between bank size and non-performing loans. Koju et al.
(2018) identified a noteworthy positive connection between non-performing loans and
bank size. Therefore, the hypothesis developed from the aforementioned discussions
is as follows:

H5: There is a relationship between bank size and return on assets

H6: There is a relationship between bank size and return on equity

1.8 Significance of the Study

The non-performing loans of the commercial banks are gradually increasing which
has a greater impact on banks leading them towards several consequences. It affects
consumers' loan cycle, immobilizes cash funds, decreases consumer’s level of
confidence, which ultimately affects the growth and profitability of banks. Therefore,
banks have begun to put the NPL management under top priority worldwide. This
study aims to cover the overall picture of the non-performing loans (NPLs) of private
and public commercial banks in Nepal. As loans are crucial for the profitability and
reputation of commercial banks, this study is significant in several ways. Firstly, the
study will provide valuable insights into the current issues and data related to NPL of
the commercial banks, which can help in identifying the extent of the problem and its
impact on the banking sector. Similarly, the study will aid the banking industry in
identifying and tracing the level of impact of factors that contribute to NPL. By
understanding these factors, commercial banks can develop effective strategies to
manage their loan portfolios and minimize the risk of NPL. Likewise, the study can
contribute to the existing literature on the impact of non-performing loans on bank
profitability, particularly in the context of developing countries like Nepal. This can
add to the knowledge and understanding of the banking sector's functioning in

10
developing economies, which can be useful for future research and academic studies.
Overall, the study's findings can have practical implications for commercial banks,
policymakers, and regulators in Nepal and contribute to the development of a healthy
and sustainable banking sector.

1.9 Limitation and Delimitations of the Study

The study's limitations arise from its exclusive focus on data from commercial banks,
which may not fully represent the entirety of Nepal's banking landscape. The
regression analysis indicated insignificance relationships between NPL and CAR as
independent variables and ROA as the dependent variable for public banks. Similarly,
for public banks, the link between Bank Size and ROE appeared insignificant.
Additionally, the study overlooked several pertinent variables that could influence a
bank's profitability, like liquidity ratio, loan loss provisions, and inflation. Instead, it
only examined non-performing loans, capital adequacy ratio, and bank size.
Moreover, the study's scope was confined to a mere 7-year dataset from commercial
banks. These factors constitute the study's limitations.

1.10 Operational Definitions of the Key Terms

The definitions of all the dependent and independent variables under study are as
given below:

1.10.1 Non-Performing Loans (NPLs). The nonperforming loan to total gross loan
ratio is a measure of a bank's health and efficiency that detects issues with the quality
of its loan portfolio. It is calculated by dividing the gross value of nonperforming
loans on the balance sheet by the total value of the loan portfolio, including
nonperforming loans before deducting loan loss provisions. To comply with
international guidelines, loans are classified as nonperforming if payments of
principal and interest are overdue by 90 days or more, or if future payments are not
expected to be paid in full.

1.10.2 Bank Size. Bank size pertains to the quantity of assets held by a bank. It is
quantified by taking the natural logarithm of the total value of assets.

11
1.10.3 Capital Adequacy Ratio. It is calculated by dividing the total regulatory capital
by the risk-weighted assets. This ratio is determined based on the guidelines outlined
in either Basel I or Basel II. The CAR serves as an indicator of a financial institution's
ability to withstand shocks and maintain a strong balance sheet. It evaluates the
sufficiency and availability of capital, which ultimately determines the resilience of
the institution in the face of unforeseen events.

1.10.4 Return on Assets. Return on Assets (ROA) is a metric that assesses a

company's ability to generate profits using the assets it possesses. It serves as a key
indicator for managers, analysts, and investors to evaluate the financial well-being of
a company. ROA calculates the correlation between a business's asset value and the
profits it generates within a specific time frame. By employing ROA, managers and
financial analysts can gauge the efficiency of a company in utilizing its resources to
generate earnings.

1.10.5 Return on Equity. Return on Equity (ROE) is a financial metric that evaluates a
company's profitability from the perspective of its owners. It quantifies the
relationship between the net income generated by the business and the value of
shareholders' equity. ROE provides insights into a company's effectiveness in
converting shareholder investments into profits, showcasing its efficiency in utilizing
the equity provided by its owners.

1.11 Organization of the Thesis Report

The whole graduate research report is divided into five major chapters which include
Chapter One: Introduction, Chapter Two: Literature Review and Conceptual
Framework, Chapter Three: Research Methodology, Chapter Four: Analysis and
Results and Chapter Five: Discussion, Conclusion, and Implications.

Chapter I: Introduction

This chapter provides basic information related to the research topic and
outline of the study. This chapter showcases the background of the study, gap
analyses, focus of the study, objectives of the study, statement of the problem,

12
research questions, research hypotheses, significance of the study, limitation
and delimitations of the study and operational definitions of the key terms.

Chapter II: Literature Review

This chapter provides the related findings, definitions, and related words on
the related topic from other researchers, journals, and already published
articles which are very much essential for the successful completion of the
research work. This chapter also includes a theoretical framework that shows
the relationship between the dependent and independent variables.

Chapter III: Research Methodology

The research design and methodology are the planned methods used while
conducting the research that helps a research report to achieve its findings and
conclusions. This chapter includes information on research design, population
and sampling for the study, units of analyses, scope of the study, model
specification, nature and sources of data collection, and socio-ethical
compliances for the study.

Chapter IV: Presentation and Analysis of Data

This chapter includes presentation of data and analysis of the findings using
diagrammatic tools like bar-graph. The data are analyzed using the statistical
tools i.e., trend analysis, descriptive analysis, correlation analysis and
regression analysis. Furthermore, the key findings of the results are also
included in this chapter.

Chapter V: Summary, Conclusion and Recommendations

This final chapter revolves around the summarized report of the whole work,
major discussions related to the similar study and focuses on concluding the
work by highlighting the major findings. This chapter also includes
recommendations and provides guidelines for the prospective users, readers,
and future researchers. In addition, extensive references are presented at the

13
 end.

CHAPTER II
LITERATURE REVIEW
2.1 Introduction

This chapter presents a review of related studies on the topic under

study and it’s organized into six main categories. Section 2.2
provides the theoretical perspective of non-performing loan. Section
2.3 presents the policies related to non-performing in Nepal.
Section 2.4 presents the literature reviews on related topics. Section
2.5 covers the theoretical framework developed from undergone
literatures. Section 2.6 presents summary of comments to cover
literature validated and falsified.
2.2 Review of Theoretical Perspectives

Senthil, Sridevi, Nageswari & Ramya (2019) stated that Non-

Performing Assets (NPA) refer to loans provided by banks or
financial institutions that borrowers fail to repay the principal
amount or interest on time. When a bank is unable to retrieve the
loan or collect regular interest payments, it affects the flow of funds
within the banking industry. This issue has been a global concern
and has been extensively discussed. NPAs not only cause distress to
banks but also have an impact on the overall wealth of a country.

Asfaw, Bogal & Teame (2016) have found several causes of non-
performing loans which are briefly mentioned below:

1. Bank Specific Factors:

Poor Credit Assessment
Banks must conduct proper credit assessments to ensure that
loans are only given to borrowers who have the capacity to
repay the principal and interest on time. Poor credit assessment

14
means approving loans without properly analyzing the
borrower's ability to repay, which can lead to the occurrence of
bad loans in the bank's portfolio.
Weak Credit Monitoring
Negligence on the part of banks to continuously observe and
monitor borrowers' activities and use of funds as specified in the
loan contract can be a significant factor in the occurrence of
non-performing loans. It is important for banks to conduct
regular supervision and demand financial reports from
borrowers to analyze their project or business and ensure that
they have the financial ability to repay their debt.
Aggressive Lending
The excessive risk appetite of banks and their compromised
integrity in approving credit, coupled with rapid credit growth,
is believed to be a significant factor in the occurrence of loan
defaults. Excessive financing is considered the primary cause of
non-performing loans, and there is evidence that rapid credit
growth is a sign of increased risk-taking by banks and a
worsening loan portfolio quality.
Excessive Financing
Excessive financing can lead to non-performing loans when
banks extend credit beyond the ability of borrowers to repay.
This can occur when banks become too aggressive in their
lending practices, overlooking or downplaying the risks
associated with the loans. Additionally, excessive financing can
lead to a build-up of debt, which can make it more difficult for
borrowers to meet their repayment obligations, increasing the
likelihood of default and NPLs.
Higher Interest Rates
High loan interest rates can also contribute to non-performing
loans, as borrowers with lower incomes may struggle to make
payments on the higher interest amount. Banks with large

15
 interest rate spreads may be more susceptible to having a higher
amount of non-performing loans.
Poorly Negotiated Credit Terms
When banks have weak terms and conditions for loans, such as
insufficient collateral requirements, unrealistic due dates for
repayment, and inadequate restrictive and protective covenants,
it can lead to borrowers engaging in haphazard business
activities and operations. This may ultimately result in the
borrower's insolvency and bankruptcy, leading to defaults in
loan payments to the bank. Therefore, it is essential for banks to
establish strong and reasonable terms and conditions for loans to
prevent non-performing loans from occurring.
2. Customer Specific Factors:
Credit Culture of Customers
The credit culture of customers can contribute to non-
performing loans when borrowers take on loans beyond their
capacity to repay or engage in fraudulent activities. If customers
have a culture of defaulting on loans or are not transparent about
their financial status, it can lead to higher rates of non-
performing loans. Additionally, borrowers may also take on
loans from multiple lenders, increasing their debt burden and the
likelihood of defaults. Ultimately, a responsible credit culture is
essential for reducing the risk of non-performing loans.
Lack of Knowledge & Related Experience
Borrowers who lack the necessary skills and expertise to
manage their business may struggle to generate enough income
to repay their loans. This can lead to loan defaults and
ultimately result in non-performing loans for the lender.
Willful Default
Willful default by customers is a major factor contributing to
non-performing loans. This occurs when borrowers intentionally
avoid making repayments on their loans, often as a result of

16
financial mismanagement or fraud. Willful defaulters can create
significant financial losses for lenders, as they may have to write
off the loan as a bad debt. Additionally, such actions can also
harm the lender's reputation and creditworthiness, making it
more challenging to secure financing in the future.
Loan Diversion
When borrowers take out loans for a specific purpose but then
divert the funds to other activities or investments it may not
generate enough income to repay the loan as per the agreed
schedule, leading to loan defaults. This practice can lead to
significant losses for lenders and can negatively impact the
borrower's creditworthiness and reputation. To avoid loan
diversion, lenders should have strong monitoring and control
mechanisms in place to ensure that loans are used for the
intended purpose.

Lack of Commitment from Promoter’s side

Promoters who do not have a genuine commitment to the
project or business for which they have taken a loan may not
allocate sufficient resources towards it or engage in fraudulent
activities, resulting in loan defaults. Additionally, if the
promoter does not have a stake in the business, such as owning
equity or providing personal guarantees, they may not have a
sufficient incentive to ensure the business's success, leading to
non-performing loans.
Non-performing assets (NPAs) have a significant impact on the
performance and profitability of banks. The negative effects of
NPAs are numerous and include changes in the attitudes of
bankers towards lending, which may lead to a decrease in credit
expansion for productive purposes. This can lead to a situation
where banks prefer low-risk investments that are not helpful for
the growth of the economy. Failure to address the level of NPAs

17
in a timely manner can result in a reduction in the earnings
capacity of assets and a negative impact on return on investment
(ROI). It can also lead to an increase in the cost of capital and a
widening of the gap between assets and liabilities. Moreover,
high provisioning requirements due to mounting NPAs can have
a negative impact on capital adequacy ratio and bank
profitability. Additionally, NPAs can cause a decline in the
value of shares, even below their book value, in the capital
market as a result of which NPAs can negatively affect a bank's
risk-taking ability (Satpal, 2015)
According to the data from 2016 to 2021, Nepal's average value
of non-performing loans was 1.57 percent, reaching a minimum
of 1.16 percent in 2021 and a maximum of 1.7 percent in 2017.
The most recent data from 2021 indicates Nepal's rate at 1.16
percent. In comparison, the global average in 2021, based on
113 countries, stood at 6.05 percent.

Figure 2.2: Non-Performing Loans of all banks in Nepal

18
 Non-performing loans as percent of all bank loans in Nepal
1.8
1.6
1.4
1.2
1
0.8
0.6
0.4
0.2
0
2016 2017 2018 2019 2020 2021

NPL

(Source: https://www.theglobaleconomy.com/Nepal/Nonperforming_loans/)

2.3 Review of Related Policy Documents

Loans in Nepal are classified into two categories: performing loans

and non-performing loans. Performing loans are further divided into
Pass loans and Watchlist loans, while non-performing loans are
further divided into substandard loans, doubtful loans, and loss
loans, based on their overdue period. Each category requires
specific loan loss provisions. The overview of such categories along
with the loan loss provisions for each are mentioned below:

Table 2.3: Classification on Non-Performing Loans in Nepal

Classifications of Loans Duration Overdue Loan loss provisions

Pass Up to 1.3% Performing
1 Loan
mont
h
Watchlist 1 5%
mont
h to 3
mont

19
 h
Sub 3 25% Non-Performing
standard mont Loan
h to 6
mont
h
Doubtful 6 50%
mont
h to 1
year
Loss More 100%
than 1
year
Source: Nepal Rastra Bank Unified Directives, 2078

2.4 Review of Related Studies

Vira, A., Imran, C., Nurman, Anwar, & Ali, A. (2023) investigated
on The Effect of Non-Performing Loan (NPL) and Loan to Deposit
Ratio (LDR) Return on Assets (ROA) in PT. Bank Sulselbar and
found that there is statistically insignificant negative relationship
between non-performing loan and return on assets.

Jha (2022) examined the factors affecting the non-performing loans

(NPLs) in the selected commercial banks of Nepal over the period
of 2015/16 to 2019/20. The study found that GDP growth rate and
inflation rate do not have significant negative effects on non-
performing loans (NPLs) in Nepalese commercial banks, while
weighted average interest spread and ownership dummy have
significant positive effects. The study also identified 10 factors that
affect NPLs, with the four most critical factors being annual growth

20
rate in GDP, annual inflation rate, weighted average interest rate,
and ownership dummy.

Koten (2021) studied on Determination of the relationship between

non-performing loans and profitability in the Turkish banking
system with panel regression analysis and found that there is a
statistically significant negative relationship between non-
performing loans and return on assets.

Adhikari (2021) conducted a comparative study of non-performing

loan (NPL) management practices in Nepalese commercial banks
with a focus on Nepal Investment Bank Ltd. (NIBL) and Everest
Bank Ltd. (EBL) and found that Loans & Advance and Return on
Assets has significant relationship with Non-Performing Loan while
Return on Assets have insignificant relationship with Non-
Performing Loan.

Singh et al. (2021) investigated the effect of non-performing loans

(NPLs) on the profitability of Nepalese commercial banks. The
study shows that NPLs have a negative impact on the profitability
of Nepalese commercial banks, reducing both ROA and ROE.
Credit risk management, loan recovery strategies, and
macroeconomic conditions are significant determinants of NPLs in
Nepal. Effective credit risk management and loan recovery
strategies are crucial for improving the sustainability and
profitability of Nepalese commercial banks.

Shrestha (2020) conducted a study on the determinants of financial

performance of Nepalese commercial banks using a panel data
approach. The literature review highlighted bank size, asset quality,
liquidity, capital adequacy, and efficiency as important determinants
of financial performance. The study found that bank size, liquidity,
and capital adequacy had a positive impact on financial

21
performance, while non-performing loans had a negative impact.
The efficiency of banks was also found to be an important
determinant of financial performance. The study suggests that
policymakers and bank managers in Nepal should monitor these
determinants to ensure the continued stability and growth of the
banking sector.

Bhattarai (2020) examined the effects of non-performing loans

(NPLs) on the profitability of commercial banks in Nepal. The
author provides an overview of the Nepalese banking sector,
including the factors that have contributed to the high level of NPLs
in the sector. The study found that NPLs have a negative impact on
the profitability of Nepalese commercial banks, with a significant
reduction in return on assets (ROA) and return on equity (ROE) for
banks with high levels of NPLs. Furthermore, the study finds that
credit risk, asset quality, loan concentration, and macroeconomic
conditions are significant determinants of NPLs in Nepalese
commercial banks.

Raghavendra (2018) examined the effects of Non-Performing

Assets (NPA) on a commercial bank, the factors contributing to
NPAs, and the repercussions they have. The research proposed that
in order to address the issue of deliberate loan defaulters in India
and worldwide, it is crucial to undertake bank or financial
institution restructuring, enhance financial depth, modernize skills
relevant to improving creditworthiness, and improve staff
efficiency.

Panta (2018) investigated the impact of non-performing loans

(NPLs) on the profitability of joint venture banks in Nepal. The
study found that NPLs have a significant negative impact on the
profitability of joint venture banks in Nepal, with a reduction in
return on assets (ROA) and return on equity (ROE) for banks with

22
high levels of NPLs. Additionally, the study found that credit risk
management, loan recovery strategies, and macroeconomic
conditions are significant determinants of NPLs in the Nepalese
banking sector.

Koju et al., (2018) examined the macroeconomic and bank-specific

determinants of non-performing loans (NPLs) in the Nepalese
banking system. The study found that Non-Performing Loan have
significant positive relationship with export to import ratio,
inefficiency, and assets size and a negative relationship with the
GDP growth rate, capital adequacy ratio and inflation rate.

Gnawali (2018) examined the effects of non-performing assets

(NPAs) on the profitability of Nepalese commercial banks. The
study found that NPAs have a significant negative impact on the
profitability of Nepalese commercial banks, with a reduction in
return on assets (ROA) and return on equity (ROE) for banks with
high levels of NPAs. Additionally, the study finds that credit risk
management, loan recovery strategies, and macroeconomic
conditions are significant determinants of NPAs in the Nepalese
banking sector.

Gautam (2018) investigated the impact of non-performing loans

(NPLs) on the profitability of Nepalese commercial banks. The
study finds that NPLs have a significant negative impact on the
profitability of Nepalese commercial banks, with a reduction in
return on assets (ROA) and return on equity (ROE) for banks with
high levels of NPLs.

Bhattarai (2018) assessed the internal and macroeconomic factors

that determine non-performing loans (NPLs) in Nepalese
commercial banks. The study found that internal factors such as
credit risk management, loan concentration, and asset quality are

23
significant determinants of NPLs in Nepalese commercial banks.
Furthermore, the study found that macroeconomic factors such as
inflation and economic growth also have a significant impact on
NPLs in the banking sector.

Suvitha & Gayathri (2018) examined the banking sector, with a

particular focus on the factors contributing to the increasing levels
of Non-Performing Assets (NPAs) and the measures taken to
control them, particularly in Public and Private Sector Banks. The
study revealed that NPAs are more prevalent in Public Sector Banks
compared to Private Sector Banks. It also highlighted the causes,
severity of NPAs, and measures employed to address the issue. The
study indicated that the fundamental problem behind the rising
NPAs is the manner in which banks assess credit risk and the
existence of deliberate loan defaulters.

Mittal & Suneja (2017) found that the level of Non-Performing

Assets (NPAs) is higher in public sector banks in comparison to
private sector banks. The research suggested that while the
government is implementing measures to address the NPA issue,
banks themselves need to take a more proactive approach by
implementing a well-defined NPA policy to prevent the
accumulation of non-performing assets. Additionally, banks should
enforce strict measures to recover NPAs. Furthermore, bankers
should evaluate the Return on Investment (ROI) for proposed
projects and extend loans to customers with stronger
creditworthiness.

Roy & Samanta (2017) identified a strong negative correlation

between Gross NPA (GNPA) and profit, indicating that as GNPA
increases, profits gradually decrease. The study also highlighted a
significant reduction in the profits of most banks, with some even
incurring losses. It emphasized that simply making provisions

24
against NPAs cannot prevent the losses caused by increasing NPAs.
While provisioning can serve as a caution for NPA losses, it cannot
be considered a comprehensive solution for the growing NPAs in all
selected Public Sector Banks (PSBs). The study recommended that
banks should exercise caution while granting loans by thoroughly
assessing the backgrounds of loan recipients and implementing
stricter recovery procedures.

García-Herrero, Gavilá, & Santabárbara (2009) argued that although

holding a large portfolio of loans incurs operating costs, bank
profitability is expected to rise with a higher ratio of loans to assets.
This holds true when interest rates on loans are liberalized, and the
bank applies markup pricing. Among the various types of risks that
banks encounter, credit risk appears to have a greater influence on a
bank's profitability. This is due to the fact that a bank's revenue
primarily stems from loans, which generate interest income.

Bhattarai (2016) concluded that there exists a significant

relationship between a bank's performance and credit risk
indicators. The ratio of non-performing loans was found to have a
negative impact on a bank's performance. Conversely, the cost per
loan assets exhibited a positive effect on bank performance. The
positive coefficient associated with cost per loan assets indicates the
bank's efficiency in providing loans to customers and generating
higher interest revenue compared to interest expenses and other
operational costs. Cost per loan assets is considered an influential
factor in improving the performance of banks.

Shiralashetti & Poojari (2016) examined the causes of Non-

Performing Assets (NPA) and their impact on a bank's profitability.
The research discovered a moderate association between Gross
NPA and Net profit in Syndicate Bank. Furthermore, the study

25
revealed that there was no notable difference in NPA levels across
different sectors.

Ozurumba (2016) conducted a study on the impact of Non-

performing Loans on the Performance of Selected Commercial
Banks to analyze how non-performing loans, loan loss provisions,
and loans and advances impacted bank performance, as measured
by Return on Assets and Return on Equity. The study's specific
outcome revealed that there is a negative correlation between return
on assets and return on equity concerning non-performing loans and
loan loss provisions. In contrast, there is a positive correlation
between both return on assets and return on equity and loans and
advances.

Ombir & Bansal (2016) examined the recent trends in Non-

Performing Assets (NPAs) among different categories of banks in
India. Their objective was to explore whether the ownership
structure influenced NPA levels, particularly challenging the belief
that public sector banks had higher NPAs. However, the study did
not find substantial empirical evidence to support this belief. The
results indicated that public sector banks performed similarly to
private sector banks in terms of NPAs, while foreign banks tended
to demonstrate relatively higher profitability compared to domestic
public and private banks. Furthermore, the study revealed a negative
impact of higher NPA levels on a bank's profitability.

Bhattarai (2015) examined the determinants of non-performing

loans (NPLs) in Nepalese commercial banks. The study found that
factors such as credit risk, asset quality, loan concentration,
profitability, and macroeconomic conditions are significant
determinants of NPLs in Nepalese commercial banks.

26
Adebisi & Matthew (2015) discovered that there is no correlation
between Non-Performing Loans (NPL) and Return on Assets
(ROA) in Nigerian banks. This implies that the asset value of the
firms is not influenced by the level of NPL. However, the study did
find a relationship between NPL and Return on Equity (ROE) in
Nigerian banks, suggesting that the maximization of shareholders'
wealth is affected by NPL levels.

Pradhan (2014) conducted research to explore the relationship

between loan loss provisions in commercial banks and the impact of
non-performing assets on their performance. The study concluded
that improper credit policies, political pressure to lend, lack of
supervision and monitoring, economic slowdown, and
overvaluation of collateral were the major causes of NPAs. In recent
years, both private and public sector bank have been making efforts
to maintain their loans and advances to prevent the occurrence of
non-performing assets. To address NPAs in public banks, it was
recommended that timely recovery of loan amounts and interest be
prioritized, along with the implementation of an appropriate loan
loss policy. The study further concluded that a high level of non-
performing assets not only reduces banks' profitability but also
negatively impacts the overall financial and operational health of
the organization. Immediate control of NPAs was emphasized as
failure to do so could potentially lead to the closure of banks in the
future.

Bhattarai (2014) examines the determinants of non-performing

loans (NPLs) in Nepal from the perspective of Nepali bankers. The
author reviews the literature on the determinants of NPLs, including
factors such as loan characteristics, macroeconomic conditions,
institutional factors, and banking practices. The survey found that
poor loan appraisal and monitoring, weak legal and regulatory

27
frameworks, and poor economic conditions were among the most
significant factors contributing to NPLs in Nepal.

Shingjergji (2013) examined the relationship between various bank-

specific factors and the non-performing loan ratio whose results
revealed that the capital adequacy ratio displayed a negative
relationship, although it was not statistically significant. However,
previous studies conducted by Berger (1995), Vatansever & Hepsen
(2013), Alexandri & Santoso (2015), Radivojevic & Jovovic (2017)
have consistently found a significant and positive association
between the capital adequacy ratio and non-performing loans.

According to Jha & Hui (2012), their research findings indicated a

negative correlation between non-performing loans and both the
capital adequacy ratio and return on assets (ROA). Similarly, a
negative relationship was observed between non-performing loans,
capital adequacy ratio, and return on equity (ROE). On the other
hand, the study revealed a positive correlation between the total
loan-to-total deposit ratio and both ROA and ROE.

Shrestha (2010) highlighted some key issues related to NPAs. The

presence of NPAs not only diminishes the yield on investments but
also negatively affects the profitability of the Commercial Bank of
Nepal. A non-performing asset refers to an asset that no longer
generates income for the bank. It includes situations where the
overdue amount remains unpaid for two consecutive quarters,
leading to its classification as an NPA for the entire year. This
category encompasses instances of borrowers defaulting or
experiencing delays in repaying interest or principal amounts.
Banks are increasingly confronted with credit risk arising from
borrowers' failure to meet their obligations. The presence of a high
level of non-performing loans significantly impacts the profitability
of banks, particularly concerning loan disposals.

28
 According to De Lis, Pagés, & Saurina (2001), Rajan & Dhal
(2003) & Hu, Li, & Chiu (2004) there is a negative relationship
between bank size and non-performing loans. However, other
studies conducted by Alexandri & Santoso (2015), Khemraj &
Pasha (2009), Boudriga et al. (2010) & Bhattarai (2015) have found
a positive relationship, although it is not statistically significant,
between bank size and non-performing loans.

2.5 Development of Theoretical Framework of the Study

Banks primarily earn income through the interest earned on loans

and advances, as well as the repayment of the principal amount.
However, if these assets fail to generate income, they are classified
as non-performing assets (NPA). The presence of non-performing
loans in a bank's records is unfavorable for the banking industry, as
it impacts the strength and size of financial statements and reduces
the level of return on assets. In such cases, banks must allocate a
significant portion of their profits to cover doubtful and bad loans,
which negatively affects their profitability (Agarwala & Agarwala,
2019). Commercial banks are crucial for the growth and
development of any economy, but the issue of non-performing loans
(NPLs) is a persistent problem globally, including Nepal. High
levels of NPLs can adversely affect the profitability of banks and
even lead to their failure. In Nepal, the banking sector is facing
challenges due to NPLs, raising concerns about the stability of the
banking system and the overall health of the Nepalese economy.
Thus, the study focuses on highlighting the impact of non-
performing loans on profitability of commercial banks in Nepal by
considering five different variables i.e., return on assets, return on
equity, bank’s size, capital adequacy ratio and non-performing loans
which are the crucial in determining the bank’s profitability.

29
 The framework is a diagrammatic representation of how the
profitability of banks is influenced by non-performing loans.
According to literatures, the indicator of bank’s profitability is
Return on Assets, and Return on Equity. Thus, these profitability
variables are considered as a dependent variable to show their
relationship with independent variables considered in this study i.e.,
non-performing loans, capital adequacy ratio and bank size to
measure the impact of non-performing loans on bank’s profitability.

The diagrammatic representation of independent and dependent variables is shown

below:

Independent Variables
Dependent Variable

NPL, CAR, Bank Size

ROA, ROE

2.6 Chapter Summary

S.N Author/Year Research Title Major Findings

.
1 Vira et. al., 2023 The Effect of Non-Performing NPL has negative but
Loan (NPL) and Loan to insignificant relationship
Deposit Ratio (LDR) Return with ROA
on Assets (ROA) in PT. Bank
Sulselbar
2 Koten, 2021 Determination of the NPL has negative
relationship between non- relationship with ROA
performing loans and
profitability in the Turkish

30
 banking system with panel
regression analysis
3 Singh et. al., 2021 The Effect of Non-Performing ROA, Bank Size, GDP, &
Loan on Profitability: Inflation has significant
Empirical Evidence from impact on NPL but CAR
Nepalese Commercial Banks doesn’t have significant
impact
4 Adhikari, 2021 A Comparative Study of Non- Loans & Advance and ROA
Performing Loan Management has significant relationship
of Nepalese Commercial with NPL while ROE have
Banks (With Reference to insignificant relationship
NIBL and EBL) with NPL
5 Shrestha, 2020 Determinants of Financial Managerial Efficiency,
Performance of Nepalese Liquidity, Assets Quality
Commercial Banks: Evidence and Operational Efficiency
from Panel Data Approach has positive impact on
financial performance but
credit risk has negative
impact on financial
performance
6 Bhattarai, 2020 Effects of Non-performing Non-performing loans,
Loan on Profitability of Capital Adequacy Ratio,
Commercial Banks in Nepal Liquidity and Bank Size
have significant role in
determining bank’s
profitability while Inflation
doesn’t have significant role
7 Panta, 2018 Non-Performing Loans & Bank specific variables: the
Bank Profitability: Study of net interest margin has a
Joint Venture Banks in Nepal positive significant effect
while the bank size has a
negative significant

31
 relationship with non-
performing loans.
Macroeconomic variables:
GDP growth rate and
inflation do not relate with
non-performing loans
8 Koju et. al., 2018 Macroeconomic and Bank- NPL have significant
Specific Determinants of Non- positive relationship with
Performing Loans: Evidence export to import ratio,
from Nepalese Banking inefficiency, and assets size
System and a negative relationship
with the GDP growth rate,
capital adequacy ratio and
inflation rate
9 Gnawali, 2018 Non-Performing Asset and its Government Bank -
Effects on Profitability of Negative impact of NPA on
Nepalese Commercial Banks ROA & ROE; Positive
relationship of CAR with
ROA
Overall Bank - CAR has
positive relationship with
ROA & ROE
10 Gautam, 2018 Impacts of Non-Performing NPL has positive
Loans on Profitability of relationship with ROA
Nepalese Commercial Banks while NPL has negative
relationship with ROE

32
11 Bhattarai, 2018 Assessing banks internal and Macroeconomic factors
macroeconomic factors as such as inflation and
determinants of non- economic growth also have
performing loans: Evidence a significant impact on
from Nepalese commercial NPLs in the banking sector
banks
12 Mittal & Suneja, The problem of rising non- NPAs is higher in public
2017 performing assets in banking sector banks in comparison
sector in India: comparative to private sector banks
analysis of public and private
sector banks
13 Roy & Samanta, Analysis of non-performing NPA has strong negative
2017 assets in public sector banks of correlation with bank’s
India profit
14 Radivojevic & Examining of determinants of There is a significant
Jovovic, 2017 non-performing loans positive relationship
between CAR and NPL
15 Bhattarai, 2016 Effect of non-performing loan NPL have negative impact
on the profitability of on a bank’s performance
commercial banks in Nepal
16 Shiralashetti & Non-performing assets: A case NPL has a moderate
Poojari, 2016 study of syndicate bank association with Bank’s
Profit
17 Ozurumba, 2016 Impact of Non-Performing NPL has a negative
Loans on the Performance of correlation between ROA
Selected Commercial Banks in and ROE
Nigeria
18 Ombir & Bansal, An Analysis of Non- There is a negative impact
2016 Performing Assets of Indian of higher NPA levels on
Banks bank’s profitability
19 Alexandri & Non-performing loan: Impact There is a positive
Santoso, 2015 of internal and external factor association between CAR

33
 (Evidence in Indonesia) and NPL
20 Adebisi & The impact of non-performing There is no correlation
Matthew, 2015 loans on firm profitability: A between NPL and ROA but
focus on the Nigerian banking there is a relationship
industry between NPL and ROE

34
 CHAPTER III
RESEARCH METHODOLOGY

3.1 Introduction

This chapter discusses the overall research methodology followed in this

study. It includes the details about research approach, population and
sampling, unit of analysis, scope of study, research module, nature and sources
of data collection and socio ethical compliances.

3.2 Research Design

This study aims to identify the impact of non-performing loans on profitability

of commercial banks in Nepal by establishing a relationship between non-
performing loans and key financial indicators of profitability i.e., return on
assets and return on equity. To perform such analysis, the profitability
indicators of bank i.e., Return on Assets (ROA) and Return on Equity (ROE)
were defined as dependent variables and Non-Performing Loans (NPL),
Capital Adequacy Ratio (CAR) and Bank Size were defined as independent
variables.

The underlying relationship between empirical observation and the

mathematical expression of quantitative connections is the main focus of
quantitative research. Therefore, this study will adopt descriptive and casual
comparative research design to meet the objective of this research. All the
required data related to the variables considered under the study will be
collected from the annual report of the respective banks.

3.3 Population of the Study and Sampling

The population for the study is the commercial banks operating in Nepal.
There were 21 commercial banks comprising of 3 public sector banks and 18
private sector banks in Nepal during the study. The study has considered the
latest 7 years data of all 21 commercial banks in Nepal. However, due to

35
 recent merger of Laxmi Bank Ltd. and Sunrise Bank Ltd. on 29 th Ashadh 2080,
there are 20 commercial banks at present. The list of commercial banks are as
follows.

Table 3.3: List of commercial banks and the study period

S.N. Commercial Banks Bank Type Study Period
1 Agriculture Development Bank Ltd. Public 2015/16 - 2021/22
2 Citizens Bank International Ltd. Private 2015/16 - 2021/22
3 Everest Bank Ltd. Private 2015/16 - 2021/22
4 Global IME Bank Ltd. Private 2015/16 - 2021/22
5 Himalayan Bank Ltd. Private 2015/16 - 2021/22
6 Kumari Bank Ltd. Private 2015/16 - 2021/22
7 Laxmi Bank Ltd.* Private 2015/16 - 2021/22
8 Machhapuchhre Bank Ltd. Private 2015/16 - 2021/22
9 Nabil Bank Ltd. Private 2015/16 - 2021/22
10 Nepal Bank Ltd. Public 2015/16 - 2021/22
11 Nepal Investment Mega Bank Ltd. Private 2015/16 - 2021/22
12 Nepal SBI Bank Ltd. Private 2015/16 - 2021/22
13 NIC Asia Bank Ltd. Private 2015/16 - 2021/22
14 NMB Bank Ltd. Private 2015/16 - 2021/22
15 Prabhu Bank Ltd. Private 2015/16 - 2021/22
16 Prime Commercial Bank Ltd. Private 2015/16 - 2021/22
17 Rastriya Banijya Bank Ltd. Public 2015/16 - 2021/22
18 Sanima Bank Ltd. Private 2015/16 - 2021/22
19 Siddhartha Bank Ltd. Private 2015/16 - 2021/22
20 Standard Chartered Bank Nepal Ltd. Private 2015/16 - 2021/22
21 Sunrise Bank Ltd.* Private 2015/16 - 2021/22

3.4. Units of Analyses

In order to accomplish the objective of the research, this study completely relies on
secondary data collected from respective bank’s annual report and various financial

36
and statistical tools are used to perform necessary calculations and find out the results.
To identify the data of the variables financial tools are used while to analyze and
interpret the result of the variables statistical tools are used. The statistical
calculations such as calculation of mean, standard deviation, coefficient of variation,
correlation and regression analysis are made using the SPSS V 27 Software. The
financial and statistical tools that are applied in the study has been mentioned below:

Financial Tools:

This study considers two dependent variables i.e., Return on Assets (ROA) and
Return on Equity (ROE) and three independent variables i.e., Non-Performing Loans
(NPL), Capital Adequacy Ratio (CAR) and Bank Size (BS) to identify the impact of
non-performing loans on profitability of bank. Thus, the following financial tools are
used to carry out the necessary calculations for the variables:

i. Return on Assets
Return on Assets (ROA) often known as the firm’s return on
total assets measures 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.
It is calculated as follows:
ROA = Net Income
Total Assets
ii. Return on Equity
Return on Equity (ROE) measures the return on owner’s
investment in the firm. The owner’s investment refers to the
equity capital employed by the firm. It includes common stock,
paid-in capital and retained earnings. Higher ratio of return on
equity is better for owner. It is calculated as follow:

ROE = Net Income

Total Equity
iii. Non-Performing Loans

37
 Non-Performing Loan (NPL) ratio is used to measure the level of
bank’s credit risk and quality of outstanding loans. Small NPL
ratio indicates less loss to the bank’s and vice-versa. It is
calculated as follows:
NPL = Non-Performing Loan
Total Loan
iv. Capital Adequacy Ratio
Capital Adequacy Ratio (CAR) is an indicator of how well a
bank can meet its obligation. It is a measurement of a bank’s
available capital expressed as a percentage of a bank’s risk-
weighted credit exposures. It is calculated as follows:
CAR = Core Capital + Supplementary
Capital
Total Risk-Weighted
Exposure
v. Bank Size
Bank size ration represents the ownership of assets by bank and
is measured as the natural logarithm of the value of total assets. It
is calculated as follows:
Bank Size = log (Total Assets)

Statistical Tools:

Apart from financial tools, following statistical tools are used to identify and analyze
the relationship between the variables:

i. Arithmetic Mean (x̄ )

It is the sum of all the values in a list of numerical values

divided by the number of items in the list. It is also known as
average and is calculated using the following formula:

38
ii. Standard Deviation (σ)

It is a measure of the amount of variation or dispersion of a set of

values. A low standard deviation indicates that the values tend to
be close to the mean of the set, while a high standard deviation
indicates that the values are spread out over a wider range. It is
calculated as:

iii. Coefficient of Variation (CV)

It is a measure of dispersion of a probability distribution of
frequency distribution. It is also known as Normalized-Root-
Mean-Square Deviation, Percent RMS and Relative Standard
Deviation. It is calculated as:

iv. Correlation Coefficient (r)

It is a statistical measure of the strength of a linear relationship
between two variables. It’s value can range from -1 to +1. A
correlation coefficient of -1 describes a perfect negative or
inverse correlation with the values a variable when other variable
decline and vice versa. It is calculated as:

39
v. Coefficient of Determination (R2)
It is a measure of how well a statistical model predicts an
outcome. The outcome is represented by the model’s dependent
variable. The lowest possible value of R 2 is 0 and the highest
possible value is 1. As the value of R2 is closer to 1, the better a
model is at making predictions. It is calculated using the
following formula:

vi. Regression Analysis

It is a statistical method that helps us to determine the
relationship between dependent variable and one or more
independent variables. It is used to assess the strength of the
relationship between variables and for modeling the future
relationship between them. It is calculated using the following
model:
Y= a + b1X1 + b2X2 + b3X3 + …………+ btXt + e
where,

40
 Y= the variable that we are trying to predict (Dependent
Variable)
X= the variable that we are using to predict Y (Independent
Variables)
a= the intercept
b= the slope (Coefficient of X)
e= the regression residual (error term)

3.5 Scope of the Study

This study covers the data of all the 21 Nepalese Commercial Banks in Nepal.
The latest data of commercial banks for the period of 7 years i.e., 2015/16 to
2021/22 is collected and analyzed for the study.

3.6 Model Specification

The study will be guided by the following multiple regression model for data
analysis: Regression Model:
Model 1:

ROAit = β0 + β1NPLit + β2 CARit + β3 BSit + εit

Model 2:

ROEit = β0 + β1NPLit + β2 CARit + β3 BSit + εit

where,

ROAit = Return on Assets of bank ‘i’ in year ‘t’

ROEit = Return on Equity of bank ‘i’ in year ‘t’
NPLit = Non-Performing Loans of bank ‘i’ in year ‘t’
CARit = Capital Adequacy Ratio of bank ‘i’ in year ‘t’
BSit = Bank Size of bank ‘i’ in year ‘t’
β0 = the intercept (constant term)
β1, β2, β3 = regression coefficient for respective variables (i.e., the
slope which represents the degree with which return on assets and

41
 return on equity changes as the independent variable changes by one
unit)

εit = Error term

3.7 Nature and Sources of Data Collection

The study relied entirely on secondary data sources for collecting information.
Mainly, the data and information were obtained from the Annual Reports
published by the banks, NRB Unified Directives, NRB Banks Supervision
Report, NRB Financial Stability Report, and NRB Annual Report.
Additionally, relevant information was gathered from Journal Articles,
Published Books, Published & Unpublished Thesis Reports, and various other
secondary sources.

3.8 Socio-Ethical Compliances

To ensure the study adheres to socio-ethical standards, this report has adhered
to the Mid-West University Master's Thesis Guidelines provided by the
college. The writing style of the report follows the APA Style. All the
necessary data from the banks has been obtained from their official annual
reports, thereby avoiding any potential falsification. The report strictly adheres
to the APA 7th Edition writing guidelines. The information gathered during the
research process has been solely used for the purpose of this report and has not
been submitted elsewhere for any other purpose.

42
 CHAPTER IV
DATA PRESENTATION AND ANALYSES
4.1 Introduction

This chapter of the study presents and examines the data related to both
dependent and independent variables. The primary focus is on understanding
the influence of Non-Performing Loans (NPL) on the profitability of banks. To
achieve this, the chapter employs trend analysis, correlation analysis, and
regression techniques. The key outcomes and findings derived from the
analyses are subsequently discussed and interpreted.

4.2 Trend Analysis

4.2.1 Public Banks Trend Analysis

Year ROA (%) ROE (%) NPL (%) CAR (%) BS [log (TA)]
2015/16 2.05 18.64 3.91 12.61 2.12
2016/17 1.70 15.57 3.90 15.09 2.15
2017/18 2.12 15.40 3.84 14.05 2.18
2018/19 2.17 15.66 3.51 16.85 2.26
2019/20 1.57 12.82 3.13 16.31 2.32
2020/21 1.34 10.68 2.39 15.73 2.40
2021/22 1.11 9.35 2.00 14.64 2.44
Table 4.2.1: Data Showing Average of Variables for Public Banks

Figure 4.2.1: Variables Trend Analysis for Public Banks

43
 Public Commercial Banks Trend Analysis
20.00

15.00

10.00

5.00

-
2015/16 2016/17 2017/18 2018/19 2019/20 2020/21 2021/22

ROA (%) ROE (%) NPL (%)

CAR (%) BS [log (TA)]

The above figure shows that over the period from 2015/16 to 2021/22, the public
commercial banks in Nepal have shown a fluctuating trend in key financial metrics.
Return on Assets (ROA) decreased from 2.05% in 2015/16 to 1.11% in 2021/22,
indicating a decline in the banks' ability to generate earnings from their assets. Return
on Equity (ROE) followed a similar pattern, declining from 18.64% to 9.35%,
suggesting reduced profitability for shareholders' equity. Non-Performing Loans
(NPL) remained relatively stable, ranging from 3.91% to 2.00%, indicating a
moderate level of credit risk and loan quality management. Capital Adequacy Ratio
(CAR) exhibited a slight overall increase, rising from 12.61% to 14.64%, indicating
improved capital reserves to cover potential losses. Bank Size experienced a
consistent growth trend, reflecting the expansion of banks' operations and their
increasing scale. Overall, the trend suggests a mixed performance for public
commercial banks in Nepal, with varying levels of profitability, risk management, and
capital adequacy while pursuing growth in bank size.

4.2.2 Private Banks Trend Analysis

Table 4.2.2: Data Showing Average of Variables for Private Banks

Year ROA (%) ROE (%) NPL (%) CAR (%) BS [log (TA)]
2015/16 1.75 19.28 1.39 12.39 1.87
2016/17 1.79 15.28 1.12 14.28 1.95
2017/18 1.73 14.04 0.95 13.72 2.04
2018/19 1.82 15.90 0.96 13.38 2.11
2019/20 1.26 11.82 1.30 14.01 2.20

44
 2020/21 1.24 12.18 1.02 13.64 2.29
2021/22 1.20 11.92 1.13 13.23 2.35

Figure 4.2.2: Variables Trend Analysis for Private Banks

Private Commercial Banks Trend Analysis

25.00

20.00

15.00

10.00

5.00

-
2015/16 2016/17 2017/18 2018/19 2019/20 2020/21 2021/22

ROA (%) ROE (%) NPL (%)

CAR (%) BS [log (TA)]

The above figure denotes that over the span of 2015/16 to 2021/22, the private
commercial banks in Nepal demonstrated a relatively consistent trend in key financial
indicators. Return on Assets (ROA) remained relatively stable, hovering around
1.20% to 1.82%, suggesting a consistent ability to generate earnings from their assets.
Return on Equity (ROE) exhibited a similar trend, ranging from 11.92% to 19.28%,
indicating a steady profitability relative to shareholders' equity. Non-Performing
Loans (NPL) initially showed a decline from 1.39% to 0.95% in 2017/18, before
slightly increasing to 1.30% in 2019/20, suggesting effective risk management but a
modest increase in credit risk later on. Capital Adequacy Ratio (CAR) maintained a
relatively steady range of 13.23% to 14.28%, indicating consistent capital reserves to
cover potential losses. Bank Size, represented by the logarithm of Total Assets (BS

45
[log(TA)]), showed a consistent growth trajectory, indicating a sustained expansion in
the banks' operations and size. Overall, the trend reflects private commercial banks'
ability to maintain stable profitability, effective risk management, and a commitment
to growth in bank size over the analyzed period.

4.3 Descriptive Analysis of the Variables

Table 4.3: Descriptive Statistics of Dependent and Independent Variables

Descriptive Statistics

Std.
Variables N Minimum Maximum Mean Deviation Variance

Return on Assets 147 .70 2.77 1.5673 .43888 .193

Return on Equity 147 .17 28.29 14.2984 5.00343 25.034

Non-Performing 147 .01 8.83 1.4267 1.28419 1.649

Loans

Capital Adequacy 147 10.20 22.99 13.7371 2.19358 4.812

Ratio

Bank Size 147 1.63 2.62 2.1370 .20320 .041

Valid N (listwise) 147

The table presents the descriptive statistics for the variables considered in this study.
It shows that the Return on Assets ranges from a minimum of 0.7 to a maximum of

46
2.77, with an average value of 1.56. On the other hand, the Return on Equity ranges
from a minimum of 0.17 to a maximum of 28.29, with an average value of 14.29.

The variable "Non-Performing Loans" ranges from a minimum of 0.01 to a maximum

of 8.83, and its mean value is 1.42. Similarly, the variable "Capital Adequacy Ratio"
ranges from a minimum of 10.20 to a maximum of 22.99, with a mean value of 13.73.
Lastly, the variable "Bank Size" ranges from a minimum of 1.63 to a maximum of
2.62, and its mean value is 2.13.

4.4 Correlation Analysis

Table 4.4.1: Correlation Analysis of Public Commercial Banks in Nepal

Non- Capital
Return on Return on Performing Adequacy Bank
Variables Assets Equity Loans Ratio Size

Return on Assets 1

Return on Equity .257 1

Non-Performing .440* .659** 1

Loans

Capital Adequacy .255 -.576** -.216 1

Ratio

Bank Size -.670** -.056 -.413 -.187 1

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

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

Looking at the public bank correlation results, it can be seen that, at a 5% level of
significance, there is a low degree positive association between Non-Performing

47
Loans and Return on Assets. Similar to this, Non-Performing Loans and Return on
Equity have a moderate degree positive association at the 1% level of significance.
However, there is a moderate degree negative relationship between Bank Size and
Return on Assets at 1% Level of Significance. Additionally, at a 1% level of
significance, there is a moderate degree negative correlation between the Capital
Adequacy Ratio and Return on Equity.

Table 4.4.2: Correlation Analysis of Private Commercial Banks in Nepal

Capital
Return on Return in Non-Performing Adequacy
Variables Assets Equity Loans Ratio Bank Size

Return on Assets 1

Return in Equity .609** 1

Non-Performing -.174 -.453** 1

Loans

Capital .235** -.078 -.245** 1

Adequacy Ratio

Bank Size -.375** -.210* .000 -.100 1

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

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

Looking at the private bank correlation results, it can be seen that, at a 1% level of
significance, there is a low degree positive association between Capital Adequacy
Ratio and Return on Assets. Similarly, Bank Size and Return on Assets have a low

48
degree negative association at the 1% level of significance. Additionally, there is a
low degree negative relationship between Non-Performing Loans and Return on
Equity at 1% Level of Significance. Furthermore, there is a low degree negative
correlation between the Bank Size and Return on Equity at 5% Level of Significance.

4.5 Regression Analysis

Table 4.5.1: Regression Model Summary Using ROA as Dependent Variable

for Public Banks

Model Summaryb

Change Statistics
Std. Error R
R Adjusted of the Square F Sig. F
Model R Square R Square Estimate Change Change df1 df2 Change
1 .722a .522 .438 .40855 .522 6.186 3 17 .005
a. Predictors: (Constant), Bank Size, Capital Adequacy Ratio, Non-Performing Loans
b. Dependent Variable: Return on Assets

Based on the provided table, with a p-value of 0.005, which is below the
significance level of 0.01, it suggests that the regression model is statistically
significant. This means that the model fits the data better than a model with no
predictor variables. Additionally, the R 2 value of 0.438 indicates that
approximately 43.8% of the variation in the Return on Assets can be explained
by the Non-performing Loans, Capital Adequacy Ratio, and Bank Size.
However, around 56.2% of the variance is attributed to factors not considered
in this particular model.

49
 Table 4.5.2: Anova Table Using ROA as Dependent Variable for Public Banks

ANOVAa

Model Sum of Squares Df Mean Square F Sig.

1 Regression 3.098 3 1.033 6.186 .005b

Residual 2.838 17 .167

Total 5.935 20

a. Dependent Variable: Return on Assets

b. Predictors: (Constant), Bank Size, Capital Adequacy Ratio, Non-Performing Loans

The ANOVA Table's F-ratio is used to assess the overall suitability of the
regression model for the data. In this case, the table indicates that the
independent variables have a significant predictive effect on the dependent
variable. The F (3, 17) value of 6.186, with a p-value of .005, being less than
the significance level of .01, demonstrates that the regression model is indeed a
good fit for the data.

Table 4.5.3: Regression Analysis Using ROA as Dependent Variable for

Public Banks

Coefficientsa

Standardiz
ed
Unstandardize Coefficient
d Coefficients s Collinearity Statistics
Std.
Model B Error Beta T Sig. Tolerance VIF
1 (Constant) 5.318 2.13 2.497 .023
0
Non- .156 .111 .275 1.409 .177 .741 1.350
Performing
Loans
Capital .035 .029 .218 1.208 .244 .862 1.160

50
 Adequacy
Ratio
Bank Size -2.044 .768 -.516 -2.662 .016 .750 1.334
a. Dependent Variable: Return on Assets

According to the table, the Variance Inflation Factor (VIF) values for each individual
variables are below 10, indicating that the model does not suffer from
multicollinearity issues.

The test significance denotes that bank size has a statistically significant negative
impact on return on assets (p-value of 0.016 < 0.05) indicating that when bank size
increases by 1 unit, return on assets decreases by 0.516 units other things remaining
the constant.

Table 4.5.4: Regression Model Summary Using ROE as Dependent Variable

for Public Banks

Model Summaryb

Change Statistics

Std. Error R
Mode R Adjusted of the Square F Sig. F
l R Square R Square Estimate Change Change df1 df2 Change

1 .802a .643 .580 3.91160 .643 10.191 3 17 .000

a. Predictors: (Constant), Bank Size, Capital Adequacy Ratio, Non-Performing Loans

b. Dependent Variable: Return on Equity

Based on the provided table, with a p-value of 0.000, which is below the
significance level of 0.01, it suggests that the regression model is statistically
significant. This means that the model fits the data better than a model with no
predictor variables. Additionally, the R 2 value of 0.580 indicates that

51
 approximately 58% of the variation in the Return on Equity can be explained
by the Non-performing Loans, Capital Adequacy Ratio, and Bank Size.
However, around 42% of the variance is attributed to factors not considered in
this particular model.

Table 4.5.5: Anova Table Using ROE as Dependent Variable for Public Banks

ANOVAa

Model Sum of Squares Df Mean Square F Sig.

1 Regression 467.788 3 155.929 10.191 .000b

Residual 260.111 17 15.301

Total 727.899 20

a. Dependent Variable: Return on Equity

b. Predictors: (Constant), Bank Size, Capital Adequacy Ratio, Non-Performing Loans

The ANOVA Table's F-ratio is used to assess the overall suitability of the
regression model for the data. In this case, the table indicates that the
independent variables have a significant predictive effect on the dependent
variable. The F (3, 17) value of 10.191, with a p-value of .000, being less than
the significance level of .01, demonstrates that the regression model is indeed a
good fit for the data.

Table 4.5.6: Regression Analysis Using ROE as Dependent Variable for Public
Banks

Coefficientsa

Standardiz
Unstandardiz ed
ed Coefficien Collinearity
Coefficients ts Statistics

Std. Toleran
Model B Error Beta T Sig. ce VIF

52
 1 (Constant .748 20.39 .037 .97
) 3 1

Non- 3.90 1.063 .618 3.67 .00 .741 1.35

Performi 0 0 2 0
ng Loans

Capital -.75 .281 -.420 - .01 .862 1.16

Adequac 6 2.68 6 0
y Ratio 9

Bank 5.30 7.352 .121 .721 .48 .750 1.33

Size 0 1 4

a. Dependent Variable: Return on Equity

According to the table, the Variance Inflation Factor (VIF) values for each individual
variable are below 10, indicating that the model does not suffer from multicollinearity
issues.

The test significance shows that non-performing loans (p-value of 0.002 < 0.01) and
capital adequacy ratio (p-value of 0.016 < 0.05) has a statistically significant impact
on return on equity. The beta coefficient of non-performing loan and capital adequacy
ratio indicates that when non-performing loan increases by 1 unit, return on equity
increases by 0.618 unit and when capital adequacy increases by 1 unit, return on
equity decreases by 0.420 unit other things remaining constant.

Table 4.5.7: Regression Model Summary Using ROA as Dependent Variable

for Private Banks

Model Summaryb

Std. Change Statistics

Error of
Adjuste the R
R dR Estimat Square F Sig. F
Model R Square Square e Change Change df1 df2 Change

1 .443a .197 .177 .37712 .197 9.947 3 122 .000

53
 a. Predictors: (Constant), Bank Size, Non-Performing Loans, Capital Adequacy Ratio
b. Dependent Variable: Return on Assets

Based on the provided table, with a p-value of 0.000, which is below the
significance level of 0.01, it suggests that the regression model is statistically
significant. This means that the model fits the data better than a model with no
predictor variables. Additionally, the R 2 value of 0.177 indicates that
approximately 17.7% of the variation in the Return on Assets can be explained
by the Non-performing Loans, Capital Adequacy Ratio, and Bank Size.
However, around 82.3% of the variance is attributed to factors not considered
in this particular model.

Table 4.5.8: Anova Table Using ROA as Dependent Variable for Private
Banks

ANOVAa

Sum of Mean
Model Squares df Square F Sig.

1 Regression 4.244 3 1.415 9.947 .000b

Residual 17.351 122 .142

Total 21.595 125

a. Dependent Variable: Return on Assets

b. Predictors: (Constant), Bank Size, Non-Performing Loans, Capital Adequacy Ratio

The ANOVA Table's F-ratio is used to assess the overall suitability of the
regression model for the data. In this case, the table indicates that the
independent variables have a significant predictive effect on the dependent
variable. The F (3, 122) value of 9.94, with a p-value of .000, being less than
the significance level of .01, demonstrates that the regression model is indeed a
good fit for the data.

Table 4.5.9: Regression Analysis Using ROA as Dependent Variable for

Private Banks

54
 Coefficientsa

Standardize
Unstandardize d Collinearity
d Coefficients Coefficients Statistics

Std. Toleranc
Model B Error Beta T Sig. e VIF

1 (Constant) 2.63 .462 5.711 .00

6 0

Non- -.052 .033 -.133 - .11 .939 1.06

Performin 1.586 5 5
g Loans

Capital .037 .019 .167 1.982 .05 .930 1.07

Adequacy 0 6
Ratio

Bank Size -.727 .166 -.358 - .00 .989 1.01

4.388 0 1

a. Dependent Variable: Return on Assets

According to the table, the Variance Inflation Factor (VIF) values for each individual
variable are below 10, indicating that the model does not suffer from multicollinearity
issues.

The test significance shows that capital adequacy ratio (p-value of 0.05 = 0.05) and
bank size (p-value of 0.00 < 0.01) has a statistically significant impact on return on
assets. The beta coefficient of the capital adequacy ratio and bank size indicates that
when capital adequacy ratio increases by 1 unit, return on assets increases by 0.167
units and when bank size increases by 1 unit, return on assets decreases by 0.358 units
other things remaining constant.

Table 4.5.10: Regression Model Summary Using ROE as Dependent Variable

for Private Banks

Model Summaryb

55
 Std. Change Statistics
Error of R
R Adjuste the Square F Sig. F
Mode Squar dR Estimat Chang Chang Chang
l R e Square e e e df1 df2 e
1 .545a .297 .279 4.10673 .297 17.148 3 122 .000

a. Predictors: (Constant), Bank Size, Non-Performing Loans, Capital Adequacy Ratio

b. Dependent Variable: Return in Equity

Based on the provided table, with a p-value of 0.005, which is below the
significance level of 0.01, it suggests that the regression model is statistically
significant. This means that the model fits the data better than a model with no
predictor variables. Additionally, the R 2 value of 0.279 indicates that
approximately 27.9% of the variation in the Return on Equity can be explained
by the Non-performing Loans, Capital Adequacy Ratio, and Bank Size.
However, around 72.1% of the variance is attributed to factors not considered
in this particular model.

Table 4.5.11: Anova Table Using ROE as Dependent Variable for Private
Banks

ANOVAa

Model Sum of Squares df Mean Square F Sig.

1 Regression 867.622 3 289.207 17.148 .000b

Residual 2057.562 122 16.865

56
 Total 2925.184 125
a. Dependent Variable: Return in Equity
b. Predictors: (Constant), Bank Size, Non-Performing Loans, Capital Adequacy Ratio

The ANOVA Table's F-ratio is used to assess the overall suitability of the
regression model for the data. In this case, the table indicates that the
independent variables have a significant predictive effect on the dependent
variable. The F (3, 122) value of 17.14, with a p-value of .000, being less than
the significance level of .01, demonstrates that the regression model is indeed a
good fit for the data.

Table 4.5.12: Regression Analysis Using ROE as Dependent Variable for

Private Banks

Coefficientsa

Unstandardized Standardized Collinearity

Coefficients Coefficients Statistics
Std.
Model B Error Beta T Sig. Tolerance VIF
1 (Constant) 36.518 5.027 7.264 .000
Non- -2.306 .356 -.508 -6.484 .000 .939 1.065
Performing
Loans
Capital -.585 .204 -.226 -2.870 .005 .930 1.076
Adequacy
Ratio
Bank Size -5.517 1.805 -.233 -3.056 .003 .989 1.011
a. Dependent Variable: Return on Equity

According to the table, the Variance Inflation Factor (VIF) values for each individual
variable are below 10, indicating that the model does not suffer from multicollinearity
issues.

The test significance depicts the non-performing loans (p-value of 0.000 < 0.01),
capital adequacy ratio (p-value of 0.005 < 0.01) and bank size (p-value of 0.003 <
0.01) has a statistically significant impact on return on equity. The beta coefficients of

57
non-performing loans, capital adequacy ratio and bank size explain that when non-
performing loans increases by 1 unit, return on equity decreases by 0.508 units, when
capital adequacy ratio increases by 1 unit, return on equity decreases by 0.226 units
and when bank size increases by 1 unit, return on equity decreases by 0.233 units
other things remaining constant.

4.6 Key Findings of the Study

Trend Analysis:
Looking at the trend analysis for public and private commercial
banks in Nepal. The data showed that, public commercial
banks faced fluctuations in profitability and capital measures
while private commercial banks showcased steady earnings,
effective risk management, and maintained their growth track.
Correlation Analysis Result for Public Banks
 There is a low-degree positive association between Non-Performing Loans
(NPL) and Return on Assets (ROA) at a 5% level of significance while there is
a moderate-degree positive association between NPL and Return on Equity
(ROE) at the 1% level of significance.
 There is a moderate-degree negative relationship between Bank Size and
Return on Assets at a 1% level of significance.
 There is a moderate-degree negative correlation between Capital Adequacy
Ratio (CAR) and Return on Equity at the 1% level of significance.
Correlation Analysis Result for Private Banks
 There is a low-degree positive association between Capital Adequacy Ratio
(CAR) and Return on Assets (ROA) at a 1% level of significance.
 Bank Size and Return on Assets have a low-degree negative association at the
1% level of significance.
 There is a low-degree negative relationship between Non-Performing Loans
(NPL) and Return on Equity at the 1% level of significance.
 There is a low-degree negative correlation between Bank Size and Return on
Equity at the 5% level of significance.

58
 Regression Analysis Result for Public Banks
 Bank Size has a negative impact on return on assets (p-value of 0.016 < 0.05),
H5 accepted
 Non-Performing Loans has a positive impact on return on equity (p-value of
0.002 < 0.01), H2 rejected
 Capital adequacy Ratio has a negative impact on return on equity (p-value of
0.016 < 0.05), H4 accepted
Regression Analysis Result for Private Banks
 Capital Adequacy Ratio has a positive impact on return on assets (p-value of
0.05 = 0.05), H3 accepted
 Bank Size has a negative impact on return on assets (p-value of 0.00 < 0.01),
H5 accepted
 Non-Performing Loans has a negative impact on return on equity (p-value of
0.000 < 0.01) H2 accepted
 Capital adequacy Ratio has a negative impact on return on equity (p-value of
0.005 < 0.01), H4 accepted
 Bank Size has a negative impact on return on equity (p-value of 0.003 < 0.01),
H6 accepted

59
 CHAPTER V
SUMMARY, CONCLUSIONS & RECOMMENDATIONS

5.1 Introduction
This chapter provides a concise overview of how our study aligns with the research
questions and offers a comprehensive analysis of the key discoveries. The aim of the
discussion is to spotlight significant findings in line with the study's objectives.
Similarly, the conclusion encapsulates the entire research and proposes potential
recommendations derived from the study's outcomes.

5.2. Summary
In order to shed light on the links between important financial indicators, the current
study explores the complex relationship between non-performing loans (NPLs) and
the profitability of commercial banks in Nepal. The study tries to identify how NPLs
affect the return on assets (ROA) and return on equity (ROE), two crucial profitability
indicators, using a careful quantitative examination. The study uses a descriptive and
causal comparative research design to accomplish this goal, substantiating its
conclusions by thoroughly examining secondary data sources such as Annual Reports,
Regulatory Documents, Financial Stability Reports, and Scholarly Literatures.

The report covers a thorough examination of 21 commercial banks for a time frame of
seven years (2015/16 to 2021/22). During this time, there was a clear trend in NPLs,
which was a good indicator of the stability of the banking sector and the caliber of
loans. Even though the sector as a whole had an increase in NPL percentages,
particularly from 2018 to 2019, the subsequent years showed diverse results,
suggesting multiple factors such the economic conditions, industry-specific
challenges, and risk management strategies. Public and private sector banks showed
notable differences, with some managing NPLs well while several private banks
maintained commendably low ratios, highlighting careful loan portfolio management.

The correlation analysis of the study revealed fascinating insights into the financial
performance of the public banks. The contrary relationship between higher NPLs and
higher ROA raises questions about possible underlying causes that should be

60
investigated further. As a result of the interdependent link between well-capitalized
banks and increased profitability, strong capital adequacy ratios showed a positive
correlation with both ROA and ROE. Conversely, the research identified challenges
in sustaining a robust Return on Assets (ROA) within larger financial institutions.
Moreover, the interplay among bank size, capital adequacy ratio, and Return on
Equity (ROE) underscored the intricate equilibrium between the scale of operations
and the achievement of profitability.

Regression studies, which offered more deep insights, confirmed these relationships.
While NPLs and the capital adequacy ratio did not continue to have statistical
relevance in this setting, bank size emerged as a statistically relevant factor affecting
ROA for public banks. NPLs and capital adequacy ratio, however, had significant
effects on ROE. The capital adequacy ratio emerged as a key factor affecting ROA in
the private bank sector, but NPLs and bank size dominated this connection. NPLs,
capital adequacy ratio, and bank size all showed statistical significance when it came
to ROE.

Therefore, this extensive study essentially creates a link between the empirical and
mathematical worlds by identifying the complex relationships between non-
performing loans and profitability in Nepal's commercial banking sector. The results
indicate that there is a complex relationship between NPLs and profitability, with
several internal and external factors playing a role. These revelations have important
consequences for banks' risk management procedures, capitalization plans, and
operational concerns, and they offer a solid basis for well-informed decision-making
in Nepal's dynamic and demanding banking market.

5.3. Discussions
By contrasting and comparing the subject matter constructs taken into consideration
of research findings and significant discoveries identified in the present study and the
past researchers, the present study has established the comparative debates. For this,
the works of Gnawali (2018), Gautam (2018), Bhattarai (2018) and Shrestha (2020),
Bhattarai (2020) were taken into consideration when constructing comparative
discussions for this study.

61
Gnawali (2018) conducted research focused on the impact of Non-Performing Assets
(NPLs) on the profitability of Nepalese Commercial Banks. The study employed
Return on Assets (ROA) and Return on Equity (ROE) as dependent variables and
investigated the correlation and regression relationships with NPLs. The study
covered 3 government banks and 10 non-government banks from 2010 to 2017,
revealing a negative correlation between NPLs and both ROA and ROE across public
and private banks. Capital Adequacy Ratio (CAR) was positively linked to
profitability in certain instances. This study shares significant similarities with the
current research. Both studies employed a similar model to assess the impact of non-
performing loans on bank profitability, utilizing ROA and ROE as dependent
variables. However, Gnawali (2018) introduced additional independent variables,
such as loan loss provision, the ratio of loan loss provision to total loans, and the ratio
of total loans to total deposits. In contrast to the previous findings, the present study
found a positive correlation between NPLs and both ROA and ROE in public banks,
while a negative correlation existed between NPLs and ROE in private banks. This
disparity highlights the nuanced dynamics of the impact of non-performing loans on
bank profitability, shedding light on how this relationship can differ based on bank
ownership and other factors.

Gautam (2018) conducted a study that delved into the effects of Non-Performing
Loans (NPLs) on the profitability of Nepalese Commercial Banks. The research
spanned the timeframe from 2007/08 to 2016/17 and employed Return on Assets
(ROA) and Return on Equity (ROE) as dependent variables. The study considered
NPTL, CDR, NPLA, and IILA as independent variables, drawing from 100
observations across 10 different Nepalese commercial banks. Through the application
of regression models, the study aimed to analyze the impact of non-performing loans
on bank profitability. The findings from this research unveiled non-performing loans
exhibited positive connections with ROA but displayed negative relationships with
ROE. This outcome closely resonates with the present study's results, which similarly
found a negative correlation between NPLs and ROE in the context of private banks.
This consistency in findings underlines the significance of non-performing loans in

62
influencing bank profitability and underscores the need for effective management
strategies, particularly for private banks facing this negative association.

Bhattarai (2018) conducted a study focused on comprehending the determinants of

non-performing loans (NPLs) in Nepalese commercial banks. Through the utilization
of both descriptive and causal comparative research designs, the study investigated
variables such as NPLs (dependent) and factors like bank-specific attributes (size,
return on assets, total loan and advance to total deposit ratio, capital adequacy ratio)
as well as macroeconomic indicators (real gross domestic product growth rate,
inflation) as independent variables. Employing an ordinary least square (OLS)
regression model, the findings revealed significant influences of bank-specific aspects
(ROA, LTD, CAR) and macroeconomic factors (GDP) on non-performing loans
within Nepalese commercial banks. However, the current study's outcomes contrast
with those established by Bhattarai (2018), as they suggest no substantial impact of
ROA on NPLs in both public and private banks. This divergence highlights the
intricacies of NPL determinants and implies that the influence of specific variables
like ROA on NPLs could differ across different studies or banking contexts. This
discrepancy underscores the need for ongoing research and tailored strategies to
address NPL-related challenges effectively.

Bhattarai (2020) conducted a study exploring the impact of Non-performing Loans

(NPLs) on the profitability of commercial banks in Nepal. The study employed
various regression models, encompassing Pooled Ordinary Least Squares, Fixed
Effect, and Random Effect models. The central focus was on assessing the effect of
NPLs, Capital Adequacy Ratio (CAR), Liquidity (LIQ), bank size (SIZE), and
inflation (INF) as independent factors on Return on Equity (ROE) as a measure of
profitability. Across the three employed models, the study consistently demonstrated
that NPLs, CAR, and LIQ were significantly and negatively linked to ROE. This
aligns with the current research findings, where a comparable negative relationship
was identified between NPLs and CAR with respect to ROE among private banks.
This agreement in outcomes underscores the robustness of the observed relationship
and highlights the shared influence of NPLs and key financial metrics on bank

63
profitability. The study by Bhattarai (2020) and the present study reinforce the
importance of effective management strategies concerning non-performing loans and
financial health indicators to sustain or enhance commercial bank profitability in the
context of Nepal.

5.4. Conclusions
This study explores the relationship between key bank-specific factors and the
financial performance of commercial banks in Nepal. The study focuses on Non-
Performing Loans (NPL), Capital Adequacy Ratio (CAR), and Bank Size as
independent variables, while examining their influence on Return on Assets (ROA)
and Return on Equity (ROE) as dependent variables. Through the analysis, the
following conclusions can be drawn:

1. Non-performing loan and Profitability: The study reveals that Non-

Performing Loans (NPL) has positive impact on return on equity for public
banks while negative impact on return on equity for private banks. This
suggests that a higher level of non-performing loans result increase in return
on equity for public banks but decrease in return on equity for private banks.

2. Capital Adequacy and Profitability: The analysis demonstrates that Capital

Adequacy Ratio (CAR) has a notable influence on the financial performance
of banks. Capital adequacy has negative impact on return on equity for public
banks which suggests that increase in capital adequacy ratio results in decrease
in capital adequacy ratio. However, the capital adequacy ratio has shown
positive impact on return on assets but negative impact on return equity with
private banks. This indicates that increase in capital adequacy ratio results
increase in return on assets highlighting the significance of maintaining
sufficient capital reserve to support earning generation for private banks. In
contrast increase in capital adequacy ratio results decrease in return on equity
indicates that higher capital reserves might lead to relatively lower equity-
based profitability, potentially due to increased costs associated with
maintaining higher capital.

64
 3. Bank Size Impact: The study underscores the role of Bank Size in shaping
bank profitability. In public commercial banks, larger bank size is linked to
lower Return on Assets (ROA), while in private commercial banks, larger
bank size correlates with decreased Return on Assets (ROA) and Return on
Equity (ROE). This suggests that while expansion might contribute to
economies of scale, it can also impact profitability metrics.

In conclusion, the study demonstrates the significance of bank-specific determinants –

Non-Performing Loans, Capital Adequacy Ratio, and Bank Size – in shaping the
profitability of commercial banks in Nepal. Effective credit risk management,
maintaining an optimal capital position, and understanding the trade-offs associated
with bank size expansion emerge as key considerations for banks seeking to enhance
their financial performance. The findings contribute to the understanding of the
nuanced relationships between these factors and bank profitability, providing valuable
insights for policymakers, regulators, and banking institutions to make informed
decisions for sustainable growth and stability in Nepal's banking sector.

5.5. Recommendations for Managerial Implications

Understanding the NPL data for different banks can provide insights into their loan
portfolio quality and risk management practices over time. It helps regulators,
investors, and stakeholders to assess the financial health and stability of the banks.
Thus, through this study, following recommendations can be done:

1. Strengthen Credit Risk Assessment: Banks should focus on enhancing their

credit risk assessment processes to identify potential defaulters more
effectively.

2. Effective Loan Recovery Strategies: Developing and implementing efficient

loan recovery strategies is vital. Banks should establish dedicated departments
or units to manage and expedite the recovery process for non-performing
loans. This could involve collaborating with external collection agencies or
legal entities when necessary.

3. Proactive Loan Restructuring: Encourage the adoption of proactive loan

restructuring initiatives to prevent loans from becoming non-performing in the

65
 first place. By identifying struggling borrowers early and working out
mutually beneficial repayment plans, banks can minimize the risk of loans
deteriorating into non-performing status.

4. Strategic Capital Management: Maintaining a strong Capital Adequacy

Ratio (CAR) is critical. Banks should focus on capital preservation and
continuous monitoring of capital adequacy levels. Adequate capital buffers
can provide a safety net to absorb losses from non-performing loans.

5. Optimize Liquidity Management: Effective liquidity management is

essential to cover unforeseen challenges arising from non-performing loans.
Banks should regularly assess their liquidity positions and maintain sufficient
liquid assets to ensure smooth operations and meet short-term obligations.

6. Continuous Training and Skill Development: Train bank staff to better

identify and manage non-performing loans. Enhancing employees'
understanding of risk management practices, legal procedures, and negotiation
skills can lead to more effective loan recovery efforts.

7. Regulatory Compliance: Ensure strict adherence to regulatory guidelines and

reporting standards concerning non-performing loans. Transparent reporting
practices enhance investor confidence and regulatory compliance.

5.6. Recommendations for Further Research

This study's exploration of the link between non-performing loans and profitability
underscores the potential for future research in this domain. Interest on Loans are the
primary source of income for banks and management of loan portfolio is always at a
greater risk. It is very crucial to determine the underlying factors determining non-
performing loans such as poor credit assessment and weak monitoring of loan. In the
same note, it is again equally important to understand the possible consequences that
are derived from the non-performing loans which we discussed earlier. Therefore,
numerous pertinent considerations emerge for prospective investigations. The present
study has considered only 3 independent variables which may not truly determine the
actual scenario as per the change in time. Also, the variables considered in the study is

66
only bank specific. Thus, looking at more variables considering both bank specific
and growth factors along with 15-20 years data might provide clearer picture on
impacts of non-performing loans on banks profitability in future.

67
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76
 APPENDIX 1

Annual data of commercial banks in Nepal

ROA (In %)
2015/1 2018/1
Bank 6 2016/17 2017/18 9 2019/20 2020/21 2021/22
NBL 2.40 1.34 2.41 1.52 1.22 1.33 1.12
ADBL 2.32 2.15 2.54 2.77 1.86 1.59 0.90
RBB 1.42 1.60 1.42 2.23 1.64 1.10 1.30
NABIL 2.32 2.69 2.61 2.11 1.58 1.71 1.27
NIMB 2.00 2.10 2.13 1.79 1.19 1.56 1.55
SCB 1.98 1.84 2.61 2.61 1.71 1.22 1.83
HBL 1.94 2.19 1.67 2.21 1.79 1.68 1.09
Nepal SBI 1.59 1.57 1.97 1.94 1.17 0.70 1.07
EBL 1.59 1.83 1.97 1.94 1.42 0.89 1.13
KBL 1.69 1.29 1.27 1.17 0.76 1.04 1.22
LBL 1.35 1.52 1.55 1.66 1.20 1.12 0.93
CZBIL 2.24 1.80 1.72 1.62 1.08 1.29 1.11
PCBL 2.05 1.89 1.82 2.15 1.48 1.72 1.33
SRBL 1.62 1.54 1.78 1.81 1.17 1.05 1.15
SANIMA 1.78 1.86 1.85 2.07 1.41 1.44 1.09
MBL 1.49 1.82 1.47 1.61 1.01 1.02 0.95
NICA 1.51 1.64 0.97 1.56 1.32 1.09 1.20
GBIME 1.58 1.75 1.63 1.82 1.37 1.35 1.40
NMB 1.48 1.66 1.80 1.83 1.09 1.32 1.35
PRVU 1.64 1.76 0.86 1.29 0.71 0.80 0.82
SBL 1.69 1.54 1.47 1.49 1.26 1.25 1.10

(Source: Annual Report of Respective Banks)

77
 ROE (In %)
2015/1 2016/1 2017/1 2018/1 2019/2 2020/2 2021/2
Bank 6 7 8 9 0 1 2

NBL 16.49 7.59 14.02 8.88 7.76 8.91 8.23

ADBL 12.03 12.59 13.00 14.71 11.70 11.20 6.68

RBB 27.41 26.53 19.19 23.39 19.02 11.93 13.13

NABIL 25.61 22.41 20.94 17.76 13.61 15.19 10.19

NIMB 26.00 19.12 14.71 13.00 8.92 11.04 11.17

SCB 17.15 11.98 18.66 19.49 15.15 9.44 14.21

HBL 24.53 21.58 14.17 18.34 15.40 14.89 10.76

Nepal
SBI 17.46 14.85 15.81 16.20 10.44 6.26 9.57

EBL 17.56 15.14 16.00 17.30 13.52 9.39 10.88

KBL 22.02 15.87 9.93 10.50 6.71 10.43 12.28

LBL 11.18 9.22 10.57 12.57 10.09 9.35 8.91

CZBIL 20.36 11.52 11.20 11.71 8.93 11.17 10.21

PCBL 24.56 18.31 15.43 16.34 11.01 13.46 10.33

SRBL 14.46 11.40 12.73 13.94 10.16 9.82 11.82

SANIM
A 26.91 14.39 18.67 23.20 16.09 18.57 14.13

MBL 16.06 13.68 12.07 15.04 10.88 12.52 11.66

NICA 18.54 18.43 12.09 22.73 19.26 17.09 18.43

GBIME 15.88 18.00 15.48 16.91 12.88 13.53 13.93

NMB 20.29 19.34 11.22 12.99 8.17 11.32 12.24

PRVU 0.17 0.19 7.69 12.45 7.76 10.06 9.93

SBL 28.29 19.66 15.34 15.71 13.81 15.68 13.82

(Source: Annual Report of Respective Banks)

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 NPL (%)

Bank 2015/16 2016/17 2017/18 2018/19 2019/20 2020/21 2021/22

NBL 3.11 3.32 3.37 2.64 2.47 2.05 1.83

ADBL 4.36 4.60 3.41 3.29 2.84 1.88 2.09

RBB 4.25 3.77 4.75 4.59 4.08 3.23 2.09

NABIL 1.14 0.80 0.55 0.74 0.98 0.84 1.62

NIMB 0.68 0.83 1.36 2.78 2.91 2.46 1.49

SCB 0.32 0.19 0.18 0.15 0.44 0.96 0.59

HBL 1.23 0.85 1.40 1.12 1.01 0.48 1.59

Nepal SBI 0.14 0.10 0.20 0.20 0.23 0.23 0.15

EBL 0.38 0.25 0.20 0.16 0.22 0.12 0.12

KBL 1.15 1.86 1.05 1.01 1.39 0.96 1.11

LBL 0.80 0.93 1.29 1.11 1.04 0.75 0.89

CZBIL 1.38 2.02 1.48 1.13 1.19 1.64 2.22

PCBL 1.23 0.88 0.85 1.00 1.48 0.99 1.77

SRBL 1.22 1.37 1.24 1.03 1.86 1.39 1.30

SANIMA 0.02 0.01 0.03 0.08 0.45 0.12 0.33

MBL 0.55 0.38 0.44 0.37 0.52 0.62 1.04

NICA 0.76 0.36 0.06 0.46 0.75 0.50 0.53

GBIME 1.89 1.60 0.77 0.55 1.76 1.41 1.28

NMB 1.81 1.68 0.88 0.82 2.68 2.27 1.45

PRVU 8.83 4.55 3.98 3.76 3.15 1.68 1.86

SBL 1.47 1.50 1.09 0.75 1.38 1.00 1.07

(Source: Annual Report of Respective Banks)

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 CAR (In %)

Bank 2015/16 2016/17 2017/18 2018/19 2019/20 2020/21 2021/22

NBL 10.20 14.47 11.27 16.80 17.01 16.80 15.05

ADBL 17.18 20.41 19.66 20.37 19.29 16.94 15.59

RBB 10.46 10.39 11.22 13.39 12.64 13.46 13.29

NABIL 11.73 12.90 13.00 12.50 13.07 12.77 13.09

NIMB 14.92 13.02 12.66 13.26 13.54 14.71 15.96

SCB 16.38 21.08 22.99 19.69 18.51 17.17 15.95

HBL 10.84 12.15 12.46 12.60 14.89 13.89 11.75

Nepal SBI 13.49 15.71 15.15 14.12 15.55 13.86 13.25

EBL 12.66 14.69 14.20 13.74 13.38 12.48 11.89

KBL 11.69 14.50 13.36 11.75 15.35 13.71 12.63

LBL 11.15 13.58 12.43 11.83 13.02 12.15 12.75

CZBIL 12.40 16.88 13.84 14.37 15.14 13.70 12.69

PCBL 11.60 13.28 12.24 12.76 13.84 14.82 13.12

SRBL 12.05 14.47 13.38 13.22 14.38 13.41 12.35

SANIMA 12.36 15.57 12.41 13.19 13.00 13.57 13.66

MBL 12.36 16.82 15.36 12.79 13.02 12.06 13.63

NICA 12.44 13.83 12.24 13.32 13.50 12.47 13.38

GBIME 12.35 11.37 11.47 12.31 12.48 13.20 12.67

NMB 10.98 13.61 15.75 15.45 15.08 15.08 13.59

PRVU 12.29 11.18 11.86 11.16 11.18 13.10 12.86

SBL 11.25 12.38 12.12 12.70 13.17 13.36 13.00

(Source: Annual Report of Respective Banks)

80
 Bank Size [log(Total Assets)]

Bank 2015/16 2016/17 2017/18 2018/19 2019/20 2020/21 2021/22

NBL 2.08 2.11 2.13 2.23 2.28 2.35 2.42

ADBL 2.06 2.11 2.13 2.18 2.25 2.35 2.39

RBB 2.22 2.24 2.30 2.35 2.43 2.49 2.52

NABIL 2.12 2.16 2.23 2.30 2.38 2.46 2.62

NIMB 2.11 2.18 2.24 2.27 2.31 2.36 2.39

SCB 1.81 1.89 1.92 1.97 2.07 2.06 2.09

HBL 2.00 2.03 2.07 2.12 2.19 2.25 2.34

Nepal
SBI 1.89 2.00 2.01 2.07 2.12 2.14 2.18

EBL 2.06 2.07 2.16 2.23 2.27 2.33 2.35

KBL 1.63 1.79 1.92 2.02 2.16 2.28 2.33

LBL 1.75 1.85 1.91 2.03 2.11 2.18 2.24

CZBIL 1.74 1.82 1.89 1.95 2.04 2.23 2.29

PCBL 1.74 1.89 1.98 2.01 2.18 2.28 2.32

SRBL 1.77 1.86 1.92 1.98 2.07 2.14 2.23

SANIM
A 1.75 1.85 1.96 2.04 2.10 2.21 2.28

MBL 1.78 1.84 1.93 2.02 2.10 2.20 2.25

NICA 1.91 2.00 2.23 2.34 2.40 2.54 2.55

GBIME 1.94 2.07 2.10 2.18 2.44 2.54 2.56

NMB 1.88 1.95 2.05 2.13 2.25 2.36 2.41

PRVU 1.84 1.97 2.05 2.14 2.22 2.32 2.37

SBL 1.87 1.95 2.11 2.18 2.23 2.36 2.42

(Source: Annual Report of Respective Banks)

81
Variables Symbol Measurement
Defined

Return on Assets ROA Net income after taxes divided by total

assets

Return on Equity ROE Net income after taxes divided by

shareholder’s equity

Non-Performing Loans NPL Non-performing loans divided by total

loans

Capital Adequacy CAR Sum of core capital and supplementary

Ratio capital divided by total risk-weighted
exposure

Bank Size BS Natural logarithm of total assets

APPENDIX 2

Measurement of Selected Variables

82