Bank Management Assignment 2

Name: Dinesh M Section : A Roll No: 19PGP051

Question 1

Question 2

P0 = $47.08 per share.

Question 3

Assets
1/ (Equity Capital / Assets) = = 1 / 0.09 = 11.11x
EquityCapital

In contrast, Cardinal Savings has an equity multiplier of:

1/ (Equity Capital / Assets) = = 14.29x

With an ROA of 0.85 percent Bluebird Savings Association would have an ROE of:

ROE = 0.85 x 11.11x = 9.44 percent.

With an ROA of .85 percent Cardinal Savings would have an ROE of:

ROE = 0.85 x 14.29x = 12.14 percent

In this case Cardinal Savings is making greater use of financial leverage and is generating a
higher return on equity capital.

Question 4
Happy Merchants National Bank
Income and Expense Statement (Report of Income)
Interest and fees on loans $44
Interest and dividends on securities 6

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 Total interest income 50

Interest paid on deposits 32

Interest on nondeposit borrowings 6
Total interest expense 38

Net interest income 12

Provision for loan losses 1
Noninterest income and fees 16
Noninterest expenses:
Salaries and employee benefits 10*
Overhead expenses 5
Other noninterest expenses 2
Total noninterest expenses 17
Net noninterest income -1

Pretax operating income 10

Securities gains (or losses) 2
Pretax net operating income 12
Taxes 2
Net operating income 10
Net extraordinary income -1
Net income 9
*Note: the bank currently has 40 FTE employees.

Happy Merchants National Bank

Report of Condition
Assets Liabilities
Cash and deposits due from banks $100 Demand deposits $190
Investment securities 150 Savings deposits 180
Federal funds sold 10 Time deposits 470
Net loans 670 Federal funds purchased 60
(Allowance for loan losses = 25) Total liabilities 900
(Unearned income on loans = 5) Equity capital
Plant and equipment 50 Common stock 20
Surplus 25
Total assets 980 Retained earnings 35
Total Capital 80
Total Earnings Assets 830 Interest-bearing deposits 650

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Question 5

ROE = $605 ROA = $605

$45,000 - $38,000 $45,000

= 0.0864or 8.64 percent = 0. 0134 or 1.34 percent

Net Interest = $2,200 - $1400 = $800 = 0.02 or 2 percent

Margin $40,000 $40,000

Earnings = $605 = $.121 per share

Per Share 5,000

Net Noninterest = $800 - $900 = -$100 = -0.0025 or -0.25

percent
Margin $40,000 $40,000

Net Operating = ($2,200 + $800) – ($1,400 + $900 + $100) = $600 = 0.0133 or 1.33 percent
Margin $45,000 $45,000

Alternative Scenario a:

Interest income $2,310

Interest expense $1,470
Total assets $45,000
Securities losses or gains $21
Earning assets $40,000
Total liabilities $38,000
Taxes paid $16
Shares of Common Stock
outstanding 5,000
Noninterest income $840
Noninterest expense $945
Provision for loan losses $100

ROE = $640 ROA = $640

$45,000- $38,000 $45,000

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 = 0.0914 or 9.14 percent = 0.0142 or 1.42 percent

Net Interest = $2310 - $1470 = $840 = 0.021 or 2.10 percent

Margin $40,000 $40,000

Earnings = $640 = $.128 per share

Per Share 5,000

Net Noninterest = $840 - $945 = -$105 = -0.00263 or -.26 percent

Margin $40,000 $40,000

Net Operating = ($2310 + $840) – ($1,470 + $945 + $100) = $635 = 0.0141 or 1.41 percent
Margin $45,000 $45,000

Alternative Scenario b:

ROE = $570 ROA = $570

$45,000 - $38,000 $45,000

= 0.0814 or 8.14 percent = 0.012667 or 1.27 percent

Net Interest = $2090 - $1330 = $760 = 0.019 or 1.90 percent

Margin $40,000 $40,000

Earnings Per Share = $570 = $.114 per share

5000

Net Noninterest = $760 - $855 = -$95 = -0.00238 or -.24 percent

Margin $40,000 $40,000

Net Operating = ($2090 + $760) – ($1,330 + $855 + $100) = $565 =0.0126 or 1.26 percent
Margin $45,000 $45,000

Question 6

Total Assets
ROE = ROA * = 0.011 * ($12 / 1.2) = = 0.11 or 11%
Equity Capital

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Alternative Scenario a:

R0A increases by 50%, with no change in assets or equity capital.

Therefore, the new ROA = 0.011 * 1.5 = 0.0165 or 1.65%.

New ROE = 1.65% * 10 = 16.50%

This represents a 50% increase in ROE. With no changes in assets or equity, the investors' funds
are more effectively utilized, generating additional income and making the bank more
profitable.

Alternative Scenario b:

ROA decreases by 50%, with no change in equity or assets.

Therefore, the new ROA = 0.011 * 0.5 = 0.0055 or 0.55%.

New ROE = 0.55% * 10 = 5.50%

This represents a 50% decrease in ROE. The bank's management has been less efficient, in this
case, in managing their lending and/or investing functions or their operating costs.

Alternative Scenario c:

ROA = .0076 or .76%

Total assets double in size to $24 billion and equity capital doubles in size to $2.4 billion..
Therefore, the equity multiplier (i.e. total assets/equity capital) remains the same (E.M. =
$24/$2.4 = 10). As a result, ROE changes from the original situation (i.e.),
.76% * 10 = 7.6%).

This represents a decrease in ROE. The bank's management has been less efficient, in this case,
in managing their lending and/or investing functions or their operating costs.

Alternative Scenario d:

E.M. = Total Assets/Equity Capital = $6/$0.6 = 10.

Therefore, ROE = .76% * 10 = 7.6%.

Question 7

Net Income after Taxes = $150 million -$130 million -$5 million = $15 million

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Equity Capital = $1.00 billion - $900 million = $100 million

Net Income after Taxes

ROE = = $15 million / $100 million = 0.15or 15%.
Equity Capital

Alternative Scenario a:

Total revenues = $150 million * 1.10 = $165 million

Total expenses = $130 million * 1.10 = $143million
Tax liability = $5 million * 1.10 = $5.5 million
Net Income after Taxes = $165 - $143- $5.50 = $16.5 million

ROE = $16.5 million/$100 million = 0.165 or 13.2%

Change in ROE = (16.50%-15%)/15% = 10%

Alternative Scenario b:

Total assets increase by 10% (Total assets = $ 1.0 * 1.10 = $1.1 billion)
Total liabilities increase by 10% (Total liabilities = $900 million * 1.10 = $990
Revenues and expenses (including taxes) remain unchanged.

Solution: Equity Capital = $1.1 billion - $990 million = $110 million

ROE = $15 = .1364

$110 13.64 percent

Therefore change in ROE = 13.64 % - 15% = -1.36% = -.0909%

15% 15% (ROE decreases by 9.09%)

Alternative Scenario c:

Total revenues decline by 10% (Total revenues = $150 million * 0.90 = $135million)
Total expenses decline by 10% (Total expenses = $130 million * 0.9 = $117 million)
Tax liability declines by 10% (Tax liability = $5 * 0.9 = $4.5 million)
Assets and liabilities remain unchanged (Therefore, equity remains unchanged)

Solution: Net Income after Tax = $135 million - 117 million - $4.5 million = $13.5

ROE = $13.5 million = 0.135 = 13.5%

$100 million

Therefore change in ROE = 13.5% - 15% = -1.5% = -.10

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 15% 15% (ROE decreases by 10%)

Alternative Scenario d:
Total assets = $1.0 billion * 0.9 = $900 million
Total liabilities = $900 million * 0.9 =$810 million
Equity capital = $900 million - $810 million = $90 million

ROE = $15 = .1667

$90 16.67 percent

Question 8:
ROE = ROA * (Total Assets/Equity Capital)

Total Assets = ROE = 12% = 10.91x

Equity Capital ROA 1.10%

If ROA unexpectedly falls to 0.80% and target ROE remains 12%:

12% = .80% * Total Assets

Equity Capital

Total Assets = 12% =15 x

Equity Capital .80%

Question 9

Net income = $25

Total operating revenues = $135
Total assets = $1,700
Total equity capital accounts = $160

a. Net Profit Margin = Net Income = $25 mill. = 0.1852 or 18.52%

Total Operating Revenue $135 mill.

b. Asset Utilization = Total Operating Revenues = $135 mill. = 0.0794 or 7.94%

Total Assets $1700 mill.

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 c. Equity Multiplier = Total Assets = $1700 mill. = 10.63 times

Total Equity Capital $160 mill.

d. ROE = Net Income = $25 mill. = 0.1563 or 15.63 %

Total Equity Capital $160 mill.

Question 10
Profit Asset Equity
Year Margin Utilization Multiplier ROA ROE
1 10.19% 0.0883 11.11x 0.90% 10.0%
2 11.63% 0.0956 11.67x 1.11% 12.96%
3 10.3% 0.1202 11.03x 1.24% 13.67%
4 10.11% 0.1369 10.52x 1.38% 14.55%
5 10.2% 0.1532 10.14x 1.56% 15.83%

Question 11
a. Tax Management = Net Income
Efficiency Ratio Net Income Before Taxes and Securities Transactions

= $29 million - $8 million - $21 million

$29 million $29 million

= 0.724 or 72.4percent.

b. Expense Control = Net Income Before Taxes and Securities Gains

Efficiency Ratio Total Operating Revenues

= $ 29 million = 0.046 or 4.6 percent.

$650 million

c. Asset Management Efficiency Ratio = Total Operating Revenues

(Asset Utilization) Total Assets

= $650 million = 0.371 or 37.1 percent.

$1,750 million

d. Funds Management = Total Assets = $ 1,750 million = 10.29 x.

Efficiency Ratio Equity Capital $170 million

e. ROE = Net Income after Taxes = $ 21 million = 0.124 or 12.4%

Equity Capital $170 million

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 ROE = ROA * Total Assets = Net Income * Total Assets
Total Equity Total Assets Total Equity

= [($29 x 1.20) - $8 * $1,750 = $34.8 - $8 * $1,750

$1,750 $170 $1,750 $170

= 0.0153 * 10.3 = 0.1576 or 15.76%

This represents a 27% increase in ROE, from 12.4% to 15.76%. Since the equity multiplier did
not change, this increase in ROE is due to the increase in ROA, from 1% to 1.26%.

Alternative Scenario b:

$650 $650
Asset Management Efficiency Ratio = = = .31 or 31 percent.
$1750 * 1.2 $2100

This represents a decrease of 16.4%.

$2100
Funds Management Efficiency Ratio = = 12.35 times
$170
This represents an increase of 20%.

ROE would not change since the decrease in the asset management efficiency ratio is offset by
the increase in the funds management efficiency ratio.

Alternative Scenario 3:

Funds Management = Total Assets = $1,750 = $1,750 = 8.58

times
Efficiency Ratio Equity Capital $170 x 1.20 $204

ROE = Tax Management Efficiency Ratio * Expense Control Efficiency Ratio * Asset Management
Efficiency Ratio *Funds Management Efficiency Ratio

= 0.724 * 0.045 * 0.371 * 8.58 = 0.1037 or 10.37%

Change in ROE = 10.37% - 12.4% = -0.164 or a 16.4% decrease

12.4%

Question 12

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 a. Net Interest Margin = Interest Income – Interest Expenses
Total Assets

= $70 - $56 = $14 = 0.014 or 1.40 %

$1,000 $1,000

b. Noninterest Margin = Noninterest Income – Noninterest Expenses

Total Assets

= $5 - $8 = -$3 = -0.0030 or -.3%

$1,000 $1,000

c. ROA = Net Income = [($70+$5+$2+$1) – ($56+$8+$3)] = $11 = 0.011 or 1.10%

Total Assets $1,000 $1,000

Question 13

Total assets 385 360 331 319 293

ROA 1.82% 3.33% 3.93% 4.08% 5.46%

Valley's ROA has gone from an exceptional level, at almost 5.5%, progressively down to a
reasonably good level, at 1.82%, over the last four years.

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