A Critical Review of Empirical Studies on Assessing

Bank Performance using CAMEL Framework

Maude, F. A.1 & Dogarawa, A. B.2

1
Business Education Department, Federal College of Education, Zaria
2
Department of Accounting, Ahmadu Bello University, Zaria [corresponding author – [email protected]]
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Abstract
CAMEL as a tool for assessing the soundness of banks has become increasingly important following
the recent financial crises in the banking sector. Poor asset quality and low capital base were seen
as some of the factors responsible for the banking failures. Several studies have been conducted to
assess the effect of CAMEL on financial performance in both developed and emerging economies.
These studies are however, largely characterized by conflicting findings as a result of institutional
differences and measurement choices. This paper uses exploratory and descriptive methods to
review extant literature on the relationship between CAMEL ratios and bank performance with a
view to exposing the controversy of measurement and methodologies in this area of research that
has attracted little attention in emerging economies such as Nigeria. The paper posits that CAMEL
rating system is a popular way of assessing the soundness of banks in various economic and
institutional jurisdiction because of the strategic importance of banks in national economies. It
however observes that CAMEL studies are just evolving in emerging economies such as Nigeria and
therefore concludes that there is the need to explore the relationship between CAMEL ratios and
performance of banks in Nigeria especially that the country is faced with new economic situations
such as dwindling oil revenue and other factors that may have serious ramifications on the country’s
banking sector. The paper is important in identifying literature gaps that will serve as an impetus
for future empirical studies.

Keywords: CAMEL, Central Bank of Nigeria, performance, empirical studies, Nigeria

1. Introduction

The banking sector plays an important role in the development of economies because it is a

central source of finance for most businesses. Banking business is however quite challenging

because there are many regulatory requirements which banks must comply with in addition to the

effort they must exert to improve their performance. Muhmada and Hashim (2015) argued that in

the financial system, banks in particular are exposed to a variety of risks that are growing more

complex nowadays. The risks, if not properly managed, could have significant negative impact on

the operations of banks and consequently impair their performance. As such banks’ performance

and stability are accorded serious attention given their strategic importance in economic

development of nations.

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 Bank performance is measured at three levels; management, regulatory and external rating

agencies. The purpose of regulatory and supervisory rating system is to measure bank performance

at internal level and its compliance with regulatory requirements in order to keep it at the right track

(Nimalathasan, 2008). These ratings are highly confidential, and are largely not available to the

general public. External rating agencies however, examine and evaluate banks, and thereafter issue

rating for the general public and investors to be guided. It is important that both regulatory and

external ratings present the same result about an institution’s performance and condition in order to

provide clear information to investors and management. It was observed however, that in the past,

several banks had suffered bankruptcy despite positive rating results accorded them by rating

agencies and regulatory institutions. This, according to Ogibo (2012) suggests the failure of both

internal rating system and external rating agencies. In order to cope with the complexity associated

with the business of banking, and address the mix of risk that banks are exposed to, a combination

of financial ratios analysis have been developed and used to measure the condition and financial

performance of banks. In addition to financial ratios, benchmarking, measuring performance against

budget or a mix of these methodologies are also widely used as documented in the literature

(Nimalathasan, 2008).

One of the measures of supervisory information that has been developed and used in

evaluating the overall condition and soundness of banks is the CAMEL rating system. The rating

system dated back to 1979 when Federal Reserve System of United States implemented The

Uniform Financial Institutions Rating System (UFIRS) in the US banking institutions in order to

help provide a convenient summary of bank condition at any time. Under the framework, banks are

judged on the components of Capital adequacy, Asset quality, Management, Earnings and Liquidity

based on a score of ‘1’ through to ‘5’ for each of the components. The rank 1 is the highest rank,

indicating strongest performance, and rank 5 represents the lowest rank, which suggest weakest

performance. The composite total of the scores is used as a measure of a bank’s overall condition.

The composite ratings normally take "1", "2", "3", "4" and "5" to indicate "strong", "satisfactory",

"fair", "marginal" and "unsatisfactory" respectively.

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 Using CAMEL indicators to examine the safety and soundness of banks, and facilitate

mitigation of potential risk of bank failure has become widespread among regulators (Dang, 2011).

As a recognised internationally standardized rating tool, CAMEL is considered a modern tool and

the most appropriate approach for managerial and financial assessment of banks (Trautmann, 2006).

It is also considered a very useful mechanism that provides flexibility between on-site and off-site

examination thus serving as the main model for evaluating bank performance (Muhmada & Hashim,

2015). It is in view of this, Demyanyk and Oftekhar (2009) and Dang (2011) claimed that of all the

different banks rating systems available in the world, CAMEL is so far the most successful. The

proliferation of research in this area over the last decade seems to lend credence to the

aforementioned claim.

Many studies have been conducted to assess the performance of the banking sector in

different countries using CAMEL framework (Nimalthasan, 2008 in Bangladesh; Sangmi & Nazir,

2010 in India; Shar, Shah & Jamali, 2010 in Pakistan; Rai, 2010 in Nepal; Ogibo 2012 in Kenya;

Adesina, 2012 in Nigeria; Ongoro & Kusa, 2013 in Kenya; Islam, Siidiqui, Hossain, & Karim, 2013

in Bangladesh; Abdallah, 2013 in Middle East; Habib & Be, 2014 in Turkey; Yuskel, Dincer &

Hacioglu, 2015 in Turkey; Getahum, 2015 in Ethiopia; Muhmada & Hashim, 2015 in Malaysia).

Most of the studies showed that CAMEL analysis explains performance of banks in a better way

relative to other rating systems. The direction of the studies and extent of their coverage as well as

measurement of the CAMEL variables used however vary from one study to the other and across

different countries suggesting controversy and inconclusiveness of findings regarding the influence

of CAMEL on performance.

In Nigeria, the banking industry has witnessed many upheavals over the years, which have

led to the collapse of quite a number of banks. Most of the failures have caught investors unawares

because of the gap between the performance of the banks in the stock market in terms of share prices

and their actual soundness. In 2004 through to 2005, the Central Bank of Nigeria (CBN) increased

the capital base of Deposit Money Banks (DMBs) in the country to a minimum of N25 billion in

order to get the banks protected from the shocks inherent in the financial sector. As such, various
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mergers and acquisitions took place which reduced the number of banks to 25 mega banks. These

banks were regarded as strong and unlikely to fail. However, during the global financial crises that

started in 2007, cases of bank failure were reported in 2009 which led to the acquisition of Oceanic

Bank PLC and Intercontinental Bank PLC by Eco Bank and Access Bank respectively among others.

Thus, capital base as a measure of soundness was put to question hence the need for more scientific

method of evaluating financial institutions’ health condition and financial performance by reviewing

different aspects of their activities using various information sources such as financial statement,

sources of funding, macroeconomic data, budget and cash flow. This underscores the need for

application of CAMEL rating, which is an internationally acclaimed method of appraising soundness

of financial institutions. It is observed however that despite the growing importance of using

CAMEL to evaluate bank performance in developing nations like Nigeria, research in the area has

attracted little effort in the country (e.g. Dzeawuni & Tanko, 2008; Williams, 2011; Adesina, 2012;

Kenneth & Adeniyi, 2014; Echekoba, Egbunike & Ezu, 2014).

In light of the paucity of literature on the subject matter in Nigeria and inconsistent research

findings across the globe, this paper seeks to descriptively explore the empirical literature on

CAMEL and bank performance with a view to exposing the literature gaps that will aid future

research particularly in Nigeria. The paper contributes to the body of literature by exposing

contradiction of findings in different domains and jurisdictions due to either variables selection or

choice of variable measurements, and also suggesting potential areas for further research.

The remainder of the paper is structured as follows. Section 2 discusses the concepts and

measurements of the components of CAMEL. Section 3 critically reviews relevant empirical

literature, summarises the studies and indicates the gaps contained in them. Section 4 concludes the

paper and points out the way forward for future researchers.

2. Components of CAMEL

CAMEL is an acronym for five components of bank safety and soundness, namely Capital

adequacy, Assets quality, Management efficiency, Earnings ability, and Liquidity. It is a popular
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tool used by bank regulatory and supervisory agencies to identify banks that have problems and

require close supervision, and categorise banking institutions based on their financial health as sound

bank (rating 1 or 2), early warning bank (rating 3 or 4), and problem bank (rating 5). The tool focuses

on performance evaluation of financial institutions by examining its profit and loss statement and

balance sheet on the basis of each of the components (Deyoung et al., 2001). The purpose of the

framework is to determine a bank’s overall condition and to identify its financial, operational and

managerial strengths and weaknesses (Trautmann, 2006). However, owing to a growing need for

regulators to focus more on risk management especially in the 1990s, a sixth component, Sensitivity

to market risk, 'S' was added to the framework in 1996 thereby changing it to CAMELS (Doumpos

& Zopounidis, 2009). To fully address the emerging risk issues in banking business, the evaluation

system of the initial five components was redefined.

Capital adequacy focuses on the total position of a bank's capital. It assures the depositors

that they are protected from the potential shocks of losses that a bank incurs. Asset quality

determines the robustness of financial institutions against loss of value in the assets. Since banks are

in the business of creating loans and advances, high concentration of loans and advances indicates

vulnerability of assets to credit risk. Management efficiency assesses compliance with set norm,

planning ability; reaction to changing situation, technical competence, leadership and administrative

quality. Earnings represent the prime source of increasing capital of any bank. Strong earnings and

profitability profile of a bank reflect its ability to support present and future operations. Increased

earning ensures adequate capital, which can absorb all loses and give shareholder adequate

dividends. An adequate liquidity position refers to a situation, where an institution can obtain

sufficient funds, either by increasing liabilities or by converting its assets quickly at a reasonable

cost. It is assessed in terms of assets and liability management (Trautmann, 2006; Demyanyk &

Iftekhar, 2009; Idris, 2010; Dang, 2011).

In what follows, each of the components of the CAMEL framework is discussed with

emphasis on its measurement and parameters.

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2.1 Capital Adequacy

A bank needs capital because it serves several important roles. It absorbs losses by allowing

a bank to continue to operate as going concern during periods when losses owing to operation or

other adverse financial results are experienced; promotes public confidence by providing a measure

of assurance to the public that an institution will continue to provide financial services even in the

event losses are incurred, thereby helping to maintain confidence in the banking system and

minimize liquidity concerns. Also capital, along with minimum capital ratio standards, restrains

unjustified bank asset expansion by requiring that asset growth be funded by a commensurate

amount of additional capital; helps to minimize the potential moral hazard; and promotes safe and

sound banking practices (Nimalathasan, 2008).

Capital adequacy is one of the prominent indicators of the financial health of a bank. It is

regarded as a very useful measure of whether a bank will be able to bear unexpected losses and

absorb shocks emanating from the financial system. It serves as a basis for conserving, protecting

and earning stakeholders’ confidence as well as preventing a bank from bankruptcy. It reflects the

inner strength of a bank and its ability to stand in good stead during the times of crisis. It has direct

bearing on the overall performance of a bank as it affects a bank's activities like opening of new

branches, fresh lending in high risk but profitable areas, manpower recruitment and diversification

of business (Demyanyk & Iftekhar, 2009; Sangmi & Nazir, 2010).

Sangmi and Nazir (2010) opined that capital adequacy may have a bearing on the overall

performance of a bank. This is corroborated by the fact that opening of new branches, fresh lending

in high risk but profitable areas, manpower recruitment and diversification of business through

subsidiaries or through specially designated branches all require adequate capital. Therefore, capital

adequacy represents the degree of leverage of a bank and indicates the relative proportion of

shareholders equity and debt use to finance its assets.

The literature has documented several ratios for measuring capital adequacy also called

capital adequacy ratio (CAR). The CAR is used to ascertain the ability of a bank to absorb a

reasonable level of operational losses and its capacity to meet the losses. The most popular ratio is
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Debt-Equity Ratio (D/E), which indicates the degree of a bank's leverage. Another ratio, which is

considered superior to debt/equity ratio though avoided by many researchers is Capital to Risk

Weighted Assets Ratio (CRAR). This ratio is expressed as a percentage of a bank's risk weighted

credit exposures, and is used to protect depositors and promote the stability and efficiency of the

financial system. Two types of capital are measured under CRAR: tier one capital, which can absorb

losses without a bank being required to cease trading, and tier two capital, which can absorb losses

in the event of a winding-up and so provides a lesser degree of protection to depositors. A third ratio

that is commonly used in the literature to measure capital adequacy is Advance to Assets Ratio

(Adv/Ast). This ratio indicates a bank’s aggressiveness in lending. Generally, lending is considered

the most important activity that brings profit to banks. A less pronounced measure of CAR is

Government Securities to Total Investments (G-sec/Inv), which indicates the risk-taking ability of a

bank and its risk-return strategy ((Nimalathasan, 2008; Demyanyk & Iftekhar, 2009; Dang, 2011;

Islam, Siidiqui, Hossain, & Karim, 2013).

Capital adequacy is rated based on a number of parameters. These include nature and volume

of problem assets in relation to total capital and adequacy of loan loss and other reserves; balance

sheet structure, nature of business activities and risks to the bank, asset and capital growth

experience and prospects, earnings performance and distribution of dividends, capital requirements

and compliance with regulatory requirements, access to capital markets and sources of capital, and

ability of management to deal with the above factors (Trautmann, 2006; Shar, Shah & Jamali, 2010).

2.2 Asset Quality

A bank's assets are considered the main source of its operations risk. This is because banks

are in the business of financial intermediation. The bulk of their activities has to do with creation of

loans and advances. In the process of creating, disbursing and managing these loans and advances,

a bank is exposed to credit risk. This means that a bank's asset quality measures how well credit are

created, managed and recovered. It is an important parameter that gauges a bank's financial strength.

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It is used to ascertain the component of non-performing assets as a percentage of the total assets

(Habib & Be, 2014).

Some of the popular measures of asset quality as documented in the literature are Net Non-

Performing Assets to Total Assets (NNPAs/TA), Net Non-Performing Assets to Net Advances

(NNPAs/NA), Total Investments to Total Assets (TI/TA) and Percentage Change in Non-

Performing Assets. NNPAs/TA discloses the efficiency of a bank in assessing credit risk and, to an

extent, recovering debts. NNPAs/NA measures the net non-performing assets as a percentage of net

advances. TI/TA indicates the extent to which assets are deployed in investment as against advances.

Percentage Change in NPAs tracks the movement in Net NPAs over previous year (Rai, 2012).

Asset quality is assessed based on some parameters. The parameters include the volume of

problem assets, volume of overdue or rescheduled loans, management's ability to administer all the

assets of a bank and to collect problem loans, large concentrations of loans and insiders loans, loan

portfolio management, loan loss reserves, and growth of loans volume in relation to a bank’s

capacity (Trautmann, 2006; Dang, 2011).

2.3 Management Efficiency

The ability of a bank's management is reflected by its soundness and effectiveness. In

banking operation, the sustainability and quality of earnings is more important than its quantity.

Inappropriate credit risk management adversely affects both quality and quantity of earnings. If a

bank can achieve strong quality and quantity of earnings, then it will be able to pay a sustainable

return to its shareholders. The capability to absorb any unexpected shock arising from different risks

will also translate into an increase in the earnings and profitability of a bank (Gollin, 2001; Rai,

2012).

Four different ratios are commonly used to measure management efficiency also referred to

as management soundness or management quality (Dang, 2011). First is Total Advances to Total

Deposits (TA/TD), which measures the efficiency with which a bank’s management converts the

deposits available with the bank into high earnings. The second ratio is Profit per Employee (PPE),
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which shows the surplus earned per employee measured as profit after tax over the total number of

employees. Third is Business per Employee (BPE), which indicates the productivity of human force

of bank, that is, the efficiency of employees of a bank in generating business for the bank. The fourth

measure is Return on Net worth (RONW), which measures the profitability of a bank.

Rating of management efficiency is based on the board and management's quality of

monitoring of and supporting a bank's activities and their ability to understand and respond to all

associated risks. Other parameters used for assessing management quality are development and

implementation policies and procedures, availability of internal and external audit function,

concentration or delegation of authority, compensations policies, and response to concerns and

recommendations of regulators (Trautmann, 2006).

2.4 Earnings Ability

The quality of a bank's earnings represents an important criterion that determines its ability

to earn consistently. It evaluates the profitability of a bank and explains its future earnings

sustainability and growth (Nimalathasan, 2008). Three main ratios used in determining earnings

quality have been documented in the literature. First is the ratio of Operating Profit to Average

Working Funds (OP/AWF), which evaluates how much a bank can earn profit from its operations.

The second ratio is Percentage Growth in Net Profit (PAT Growth), which shows the percentage

change in net profit over the previous year. The third ratio, Net Profit to Average Assets (PAT/AA)

measures return on assets employed or the efficiency in utilization of assets (Dang, 2011).

Earnings are rated based on earnings sufficiency to cover potential losses, provide adequate

capital and pay reasonable dividends. Other parameters used to rate earnings are composition of net

income and volume and stability of income components, level of expenses in relation to operations,

non-traditional sources of income, adequacy of provisions, and earnings exposure to market risks

(Trautmann, 2006).

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2.5 Liquidity

Liquidity is considered one of the most important criteria for sound banking operation. It

shows the degree to which a bank is capable of fulfilling its obligations as they fall due. Banks make

money by mobilizing short-term deposits at lower interest rate, and lending or investing these funds

in long-term at higher rates (Rai, 2012). If a bank faces liquidity crisis, there is a probable chance of

bank run to occur. Liquidity is thus crucial for banks and it is of utmost importance for a bank to

maintain correct level of liquidity which will otherwise lead to decline earnings (Getahun, 2013).

Liquidity is rated based on sources and volume of liquid funds available to meet short term

obligations, volatility of deposits and loan demand, interest rates and maturities of assets and

liabilities, access to money market and other sources of funds, diversification of funding sources,

reliance on inter-bank market for short term funding, and management ability to plan, control and

measure liquidity process (Trautmann, 2006). Liquidity risk on the other hand, is a curse to the

image of a bank. As such banks need to take appropriate measures that will help in hedging liquidity

risk; at the same time ensuring that good percentage of funds is invested in high return generating

securities in order to generate profit with provision of liquidity to the depositors.

Liquidity is measured using a number of ratios. One of the ratios is Liquid Assets to Demand

Deposits (LA/DD), which measures the ability of a bank to meet the demand from depositors in a

particular year. Another ratio is Liquid Assets to Total Deposits (LA/TD) that measures liquidity to

total deposits of a bank. A third ratio is Liquid Assets to Total Assets (LA/TA), which measures the

overall liquidity position of a bank. Liquid assets include cash in hand, balance with institutions and

money at call and short notice while total assets include the revaluation of all assets (Nimalathasan,

2008; Dang, 2011).

3. Review of Empirical Studies on CAMEL and Bank Performance

Several studies have assessed the effect of CAMEL on firm performance. The studies

documented mixed and inconclusive findings. Asan (2008) did a comparative study of financial

performance of banking sector in Bangladesh. The study used a sample of 48 banks categorized into
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private commercial banks and nationalized commercial banks, government owned development

financial institutions and foreign commercial banks. Data Envelopment Analysis (DEA) and

Stochastic Frontier Approach (SFA) were used as technique of analysis. The result revealed that 3

banks were rated strong, 31 satisfactory, 7 fair, 5 marginal and 2 unsatisfactory. Although it is

acknowledged that the study employed a relevant and robust technique of analysis given that the

focus of the study is to rate the sample banks based on the CAMEL framework, the methods used

may not reveal robust result when studying cause and effect relationship.

Similarly, Rai (2010) assessed the trend of CAMEL metrics in commercial banks in Nepal

using descriptive approach. Measures of financial performance included return on assets, return on

equity and earnings per share. The result indicated a downward trend of all variables during the

period reflecting the economic hardship experienced by the country which is propelled by the global

financial crises. It should be noted that the focus of the study was to expose the change in the

variables and compare banks’ performance over time. This study thus suffers weakness of not using

appropriate technique of analysis to study effect relationship.

The study of Dang (2011) aimed to assess whether CAMEL framework plays a crucial role

in banking supervision in Vietnam and also to identify the benefits as well as the drawbacks of the

system. The study concluded that CAMEL rating system is a useful supervisory tool and that its

analysis approach is beneficial as it is an internationally standardized rating that provides flexibility

between on-site and off-site examinations, and thus it is the main model of assessing banks

performance. It however, highlights the disadvantage of not following the Vietnamese banks closely,

ignoring the interaction with banks top management and overlooking the provisions as well as

allowance for loan loss ratio. The study is mainly descriptive in nature and therefore the findings are

largely based on the subjective analysis of the researcher.

Ogibo (2012) examined the relationship between CAMEL and financial performance using

a sample that consisted of 42 commercial banks in Kenya for the period 2006 to 2010. The study

employed OLS multiple regression technique to analyse the panel data. The result indicated that

earnings quality had positive and significant influence on return on equity while all other variables
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revealed weak relationship with financial performance. The limitation of the study is that the period

covered may not yield significant relationship among the variables. Also, the differences in business

environments may also account for different results that will warrant investigation of the same

phenomena in other countries.

Islam, Siddiqi, Hossain and Karim (2013) assessed four (4) types of banking system

operating in Bangladesh. The performance of the banks was compared with each other, and the

overall performance of the banking sector was also compared with that of other countries using

performance data on the basis of some selected CAMELS ratios. The study covered the period 2004

to 2011 and used ANOVA test and correlation to find out the impact of different ratios. The results

showed that ROA, ROE and liquidity ratios were too low in Development Financial Institutions and

also reflected negatively in the overall banking industry performance. Foreign Commercial Banks

and Private Commercials Banks showed positive signals of a well-functioning industry whereas

State owned Commercial Banks showed a trend of improving performance. The shortcoming of the

study is that it employed ANOVA to assess CAMEL in banks with different ownership. Thus, its

conclusions cannot be extended to the effect of CAMEL ratios on financial performance using more

robust techniques of analysis.

Habib and Be (2014) also attempted to investigate the performance and financial soundness

of state and private owned banks in Turkey. The study covered a period of eight years 2005-2012

and used a sample of three state owned and twelve private owned banks. The data were analyzed

using 23 ratios related to CAMEL framework. On the overall, the study found a significant

difference between performance of state owned and private owned banks in Turkey. The study did

not directly examine the effect of CAMEL on financial performance. Also, ANOVA was used for

comparing means differences of the state owned and private owned banks with regard to CAMEL

ratios and therefore not to test CAMEL and Performance hypothesis. The study is also descriptive

and largely a comparative analysis of performance of different classes of Turkish banks. Its findings

therefore say little about the effect of CAMEL framework on financial performance of banks.

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 Similarly, Yuksel, Dincer and Hacioglu (2015) examined the relationship between CAMELS

ratios and credit ratings of 29 deposit banks in Turkey for the period 2004 - 2014. The study showed

that asset quality, management quality and sensitivity to market risk have significant effect on credit

ratings. In the same vein, Karapinar and Dogan (2015) compared the performance of interest-free

banks and conventional banks in Turkey using CAMELS framework for the period 2006 - 2011.

Their analysis showed that, compared to the regular banks, interest free banks performed well with

respect to sensitivity to market risks within the period of the study but appeared to have done poorer

in terms of liquidity and management.

Muhmad and Hashim (2015) evaluated banks’ performance of both domestic and foreign

banks in Malaysia using CAMEL framework for the period of five years 2008-2012. The study used

regression analysis. The result showed that capital adequacy, asset quality, earnings quality and

liquidity have significant impact on the performance of Malaysian banks. However, management

efficiency exhibited insignificant relationship with financial performance. The finding of the study,

may suffer sampling error because the period covered may not be large enough to establish

convincing evidence.

Getahun (2015) investigated the relationship between CAMEL ratios and financial

performance of banks in Ethiopia. The study used a sample of 14 banks for a five year period (2010-

2014) and employed fixed effect regression model as the technique of analysis. The results showed

that capital adequacy, management efficiency and assets quality had negative effect on both the

financial performance measures (ROA and ROE) used in the study. On the contrary, earnings quality

and liquidity revealed positive and significant associations with financial performance. It is

important to note that the study used a robust technique of analysis that takes into account both the

spatial and temporal nature of the data (fixed-random effect regression model). However, the

difference in financial systems operations in different countries calls for such investigation using

data from other countries. Also, the inclusion of government owned banks in the sample may have

marred the authenticity of the results as banks face different risk exposures as a result of different

ownership structure.
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 Mishra and Aspal (2012) analysed the financial position and performance of state banks

using CAMEL. The result showed no statistically significant difference between the CAMEL ratios

used and performance of the banks. This they noted may be due to adoption of modern technology,

banking reforms and recovery mechanism in the country. Because the study focused only on state

owned banks, which have different risk exposure from privately owned banks, its finding could be

generalized to other private commercial banks.

Fredrick (2012) analyzed the impact of credit risk management on the performance of

commercial banks in Kenya using CAMEL framework. The study used multiple regression analysis

to analyse the panel data extracted from the financial reports of 42 registered banks for a period of

five years, 2006-2010. The study could not document a strong link between the CAMEL components

used and financial performance of the banks. Specifically, it established that capital adequacy, asset

quality, management efficiency, and liquidity had weak relationship with financial performance

whereas earnings ability had a strong relationship with financial performance. The period covered

stopped at 2010 thereby suggesting a need for further research on the same matter owing to the

several banking reforms that the country had undergone from 2010 to date.

Williams (2011) examined the efficacy of CAMELS framework in determining the capital

adequacy of banks in Nigeria. The study documented that CAMELS rating is effective in

determining the capital adequacy ratio of banks in Nigeria. Also, Adesina (2012) conducted a

comparative performance evaluation of the Nigerian banking sector in the post 2005 consolidation

through CAMEL framework. The study performed a descriptive ranking comparing the performance

of the banks in order to analyze their respective strengths and weaknesses. Average values of the

ratios for five year period (2006-2010) were used to apply ranks of 1 to 15 (best to worse). The result

indicated that banks have divergent strengths and weaknesses during the period of study. As noted

earlier, the descriptive statistics approach does not lend itself to statistical inferences and therefore

suffers the problem of generalization. Also, the period covered stopped at 2010 thereby giving the

opportunity to study the effect of CAMEL on performance of banks in the country using a more

recent data. In addition, Echekoba, Egbunike and Ezu (2014) examined the determinants of banks’
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profitability in Nigeria using CAMEL framework for the period 2001 to 2010. The result of the

Ordinary Least Square (OLS) showed that liquidity has a significant impact on banks’ profitability

while capital adequacy, assets quality, management efficiency, and earnings have no significant

effect. Given that the data used in the study is panel, with characteristics of both cross-section and

time series, pooled OLS is considered inappropriate since there was no evidence of the absence of

panel effects in the dataset. Kenneth and Adeniyi (2014) also used CAMEL framework and stock

market information to predict bank failure in Nigeria from 2006 to 2010. The result of the multiple

discriminant model showed that the Z score of almost all the banks used for the study fall within

bankruptcy region.

More so, Owusu (2012) investigated the performance of local and foreign banks using

CAMEL rating system in Ghana. Using secondary data, simple random technique was used to select

six foreign and six local banks based on the years of operation, market share, bank size, and nature

of the business. The study employed multiple regression analysis to draw inference. The study

revealed that foreign banks perform better with respect to capital adequacy, asset quality and

management efficiency. On the other hand, local banks perform better than their foreign counterparts

with respect to earnings ability and are also more liquid. The study showed a positive relationship

between ROA, OPTR and NIM. Also a similar relationship exist between OPTR, NPLTAM, and

ROE of commercial banks in Ghana, however CAR and ROE are negatively correlated. Another

inference that was drawn by the study is that the emphasis placed on CAMEL ratios varies according

to indigenization of the banks. Although Ghana share many things with Nigeria in terms of banking

operations, there are some structural differences between the two countries in terms of institutional

characteristics and risk exposures faced by banks.

The empirical studies reviewed above are summarized in Table 1:

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Table 1: Summary of empirical studies

Author Country/Domain/Sample Dependent Technique of Findings

Variable Analysis
Asan Bangladesh/ 48 banks for ROA Data Envelopment 3 banks were rated strong,
(2008) the period 1999-2006 ROE Analysis and 31 satisfactory, 7 fair, 5
Stochastic Frontier marginal and 2
Approach unsatisfactory.
1 nationalized commercial
bank was rated
unsatisfactory and 3
marginal.
Rai (2010) Nepal/ 26 commercial ROA Descriptive CAMEL metrics revealed
banks for the period ROE decreasing trend during the
EPS period of study.
Williams Nigeria/All listed deposit CA ratios Discriminant CAMEL framework is
(2011) money banks analysis important in determining
capital adequacy.
Adesina Nigeria/ All commercial ROA Descriptive/ Nigerian banks have
(2012) banks in post ROE comparative divergent soundness based
consolidation 2006-2010 analysis on the CAMEL ratios
Kenneth Nigeria/All listed deposit Z Scores Discriminant Almost all the banks used
& Adeniyi money banks analysis for the study fall within
(2014) bankruptcy region.
Echekoba, Nigeria/deposit money ROA OLS Liquidity is significant but
Egbunike banks ROE capital adequacy, assets
& Ezu quality, management
(2014) efficiency, earning are not
Fredrick Kenya/42 registered ROE OLS multiple C, A, M & L had weak
(2012) commercial banks for regression relationship with
2006-2010 performance, while E had
strong effect on ROE.
Ogibo Kenya/ 42 commercial Financial OLS multiple C, A, M & L had weak
(2012) banks for the period 2006- performance regression relationship with ROE.
2010 measured by E. had significant positive
ROE effect.
Owuso Ghana/ listed commercial ROA OLS multiple Foreign banks are better in
(2012) banks ROE regression terms of C, A & M. local
bank are better in terms of
E. and L.
Islam et Bangladesh/ 2004-2010 ROA ANOVA Foreign banks performed
al. (2013) ROE better than their domestic
counterparts with regards
to CAMEL ratios.
Habib Turkey/ 15 banks for 2005 23 ratios ANOVA there is a significant
and Be to 2015 relating to statistical difference
(2014) CAMEL between performance of
state owned and private
owned banks based on the
rating system
Muhmada Malaysia/ domestic and ROA OLS multiple C, A, E, and L have
& Hashim foreign banks for period ROE regression positive significant impact
(2015) 2008-2012 of performance measures.
Getahun Ethiopia/ 14 listed ROA Fixed effect C, M, & AQ have negative
(2015) commercial banks for the ROE regression model relationship while E & L
period 2010-2014 have positive effect.
Source: Author, 2016
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 The review of empirical studies revealed controversy of findings on the effect of CAMEL

framework on financial performance of banks. These controversies, we observe are mainly as a

result of differences in measurement of the ratios. Different studies adopt varying ratios based on

researchers’ choice and their relevance in institutional settings. In order to really understand the

relationship of CAMEL with performance therefore there is the need to examine different ratios for

each of the components given that they are of divergent merits and demerits. A closer look at the

studies also shows that a good number of them have used descriptive approaches to test the

soundness of banks. These studies are not quite informative as they cannot show relationship with

performance but merely show strength and weaknesses of individual banks in the sample and

perform a comparative analysis. This study observes that in order to document sound policy

implication, there is the need to go further than mere description of CAMEL ratios of banks as both

investors and regulators are interested in performance of the financial sector.

It can also be observed that few studies in Nigeria have assessed the relationship between

CAMEL framework and bank performance. These studies except Echekoba, Egbunike and Ezu

(2014) and Kenneth and Adeniyi (2014) have used sample periods prior to 2012. New events in the

country that have direct consequences on the operations of banks such as the falling value of the

Naira against the dollar and the waning oil prices, which deeply hurt the economy, make it necessary

to re-examine the effect of these ratios on financial performance of banks. Another land mark policy

of the government that necessitates CAMEL studies is the introduction of the Treasury Single

Account (TSA) which leaves quite a number of banks scampering to raise funds to sustain their

operations.

4. Conclusion

The CAMEL rating system is a popular way of assessing soundness of banks in various

economic and institutional jurisdiction because of the importance of banks in national economies

particularly the developing ones. As such various studies have been conducted in order to evaluate

the effect of CAMEL framework on financial performance of banks. These studies have produced
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mixed findings as a result of measurement differences, sampling choices and different economic and

institutional settings.

In this paper, a review of these empirical evidences was conducted with a view to identifying

literature gaps that will serve as an incentive for further research. The study concludes that CAMEL

studies are just evolving in Nigeria and therefore there is the need to explore the relationship between

the ratios and financial performance especially that the country is faced with new economic

situations such as dwindling oil revenue and other factors that may have serious ramifications on

bank performance. The limitation of the study is that it is not empirical and therefore suffers

subjectivity issues that normally trail exploratory and descriptive research methods.

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