6 Financial Performance Analysis of Islamic BANK PDF

European Journal of Economics, Finance and Administrative Sciences
ISSN 1450-2275 Issue 57 February, 2013

© EuroJournals, Inc. 2013
http://www.eurojournals.com/EJEFAS.htm
The Financial Performance Analysis of Islamic and

Traditional Banks: Evidence from Malaysia
Osama A. Hazzi
Department of Business Administration, Faculty of Economics
Damascus University, Damascus, Syria, Department of Banking and Financial Sciences
The Arab Academy for Banking and Financial Sciences, AABFS, Damascus, Syria
E-mail: osama.hazzi@hotmail.com
Tel: +963-932-925596
Mohamad Ihsan AL Kilani

Department of Accounting, Faculty of Economics, Damascus University
Damascus, Syria, Certified Management Accountant (CMA)
Syrian Certified Accountant
E-mail: ekilani1@gmail.com
Tel: +963-933-665581
Abstract
This article statistically examines the financial performance for both of Islamic and
Traditional banks in Malaysia to know whether or not there are significant differences
between such banks with respect to profitability, liquidity and risk performance. We find
that the Traditional banks are more profitable than Islamic banks, while the latter is more
liquid and less risky, especially with respect to the risk-weighted capital ratio, than the
Traditional banks. Suggestions for further studies are demonstrated in this article.
Keywords: Financial Performance, Islamic Banks, Traditional Banks, Financial Analysis,

Financial Ratios.
JEL Classification: G21.
1. Introduction
The banking sector is considered a main engine of the economic growth of a country, which no secret
to anyone the importance of its role in financing most business; it is considered as the backbone of the
economy. The banking sector in Malaysia, however, is a worthwhile example to talk about. According
to the Doing Business 2013 report of International Finance Corporation (IFC), one of the World Bank
group, the report finds that Malaysia remains among the world's most business-friendly countries
ranking 12th (out of 185 economies). In fact, that is not a strange thing for such country, which its
banking sector dates back to the early 19th century when rapid economic development caused the
opening of foreign bank branches and setting up of Malaysia's first domestic bank in 1913.
However, banking sector in Malaysia comprises licensed institutions namely commercial
banks, finance companies, merchant banks, discount houses and money brokers which are licensed
under the Banking and Financial Institutions Act 1989 (BAFIA) and supervised by Bank Negara
Malaysia (BNM), the central bank of Malaysia. In addition, the Islamic financial industry, which
includes Islamic banking as well as Takaful industry, is already included in such sector in Malaysia
134 European Journal of Economics Finance and Administrative Sciences - Issue 57 (2013)
and such industry has generally a significant role in the economy of a country. The Islamic finance
industry has made a steady progress in Malaysia since the establishment of the first Islamic bank in
1983 and the formation of the first Islamic insurance company (Takaful) in 1984.
In connection with the Islamic finance industry, the Islamic banking, a system of banking that
complies with Shariah (Islamic law), has grown tremendously since it first emerged in the 1970's and
became one of the main players in the financial world. According to the Islamic Development Bank
group report (2010), the Islamic assets will reach about USD 1,600 billion by the end of 2012 with
revenues of USD 120 billion. Moreover, the Islamic banking sector obviously attracted more attention
during the financial crises. The work of Hasan and Dridi (2010) finds that Islamic banks, on average,
are stronger resilience during the global financial crisis. Looking back, derivatives generally and
securitization of financing through Collateralized Debt Obligations (CDOs) specifically were main
reasons, which caused the recent global financial crisis and such these factors do not fall under Shariah.
In fact, it is difficult to get finance from Islamic banks unless they are deemed prudent Shariah
compliant, growth promoting and beneficial to society.
It has to be noted here, that there are guiding principles regarding Islamic finance industry,
which make difference between Traditional banking system and Islamic banking system and protect
the Islamic banks from failing in any financial crisis. Such principles enshrined from Al-Qur’an and
Prophetic Sunnah. The study of Ahmad and Hassan (2007) mentions to the most important of such
principles, which generally include the following: (1) any predetermined payment over and above the
actual amount of principal in the financial dealings is prohibited. The most common term falls under
such principle is interest (Riba). According to Islamic law, Chapra (1986) mentions to the definition of
Riba which technically refers to the premium that must be paid by the borrower to the lender along
with the principal amount as a condition for the loan or for an extension in its maturity (as cited in
Ahmad and Hassan, 2007). However, Islam prohibits Riba (see Al-Qur'an, Sura Al-Baqarah, verses
275-281). In this regard, Islam is not the only the religion which prohibits the practice of interest
(Riba), Christianity also prohibits it (see New American Standard Bible, NASB, Exodus 22:25).
Judaism also prohibits interest among Jews themselves (see New International Version, NIV,
Deuteronomy 23:19). (2) The lender must share in the profits or losses arising out of the enterprise for
which money was lent. In other words, Islamic finance is based on the premise that the provider of
capital and the user of capital should equally share the risk of business ventures, whether those are
industries, farms, service companies or simple trade deals, while in traditional banks risk sharing is not
generally offered. (3) Making money from money is not Islamically acceptable which Islam views
money as a medium of exchange; a way of defining the value of a thing; it has no value in itself, and
therefore should not be allowed to give rise to more money, via fixed interest payments, simply by
being put in a bank or lent to someone else. Muslims are encouraged to purchase and are discouraged
from keeping money which in Islam, money represents purchasing power, therefore, cannot be used to
make more purchasing power (money) without undergoing the intermediate step of it being used for
the purchase of goods and services. (4) Gharar (deception) as well as Maisir (Gambling) is prohibited
which one cannot, for example, sell what does not own, because this is regarded as a form of
deception. On the other hand, the act of gambling, which sometimes referred to betting on the
occurrence of a future event, is also prohibited. However, under this prohibition, any contract entered
into, should be free from uncertainty, risk and speculation. Another related point, parties cannot
predetermine a guaranteed profit based on the principle of 'uncertain gains', which does not even allow
an undertaking from the customer to repay the borrowed principal plus an amount to take into account
inflation. The rationale behind the prohibition is the wish to protect the weak from exploitation.
Therefore, options and futures are considered as non-Islamic and so are forward foreign exchange
transactions because rates are determined by interest differentials. (5) Investments should only support
practices or products Islam does not forbid or discourage.
However, such principles including that one, which requires financial transactions to be
accompanied by an underlying productive economic activity, diminish the potential for excessive
exposure to risks associated with leverage and risk taking as they contribute in the stability of the
financial and economic. Hasan and Dridi (2010) refer to that adherence to Shariah principles precluded
Islamic banks from financing or investing in the kind of instruments that have adversely affected their
conventional competitors and triggered the global financial crisis.
On the other hand, there are alternative financial services according to the Islamic financial
industry. Lee and Ullah (2007) mentions to the most common standard financial products of Islamic
banking including: (Murabaha), meaning intermediation, is the purchase of buying goods needed by
clients and then selling them on later at a profit; (Mudaraba), meaning sponsorship, is a profit-sharing
investment contract between one party providing funds and another party managing the funds;
(Musharaka), meaning partnership, is a profit and loss-sharing investment contract between two or
more parties; (Ijara), meaning capital leasing, is an Islamic lease agreement allowing profits by
charging rental, not by charging interest; (Salam) and (Istisna) contracts, meaning a forward selling
agreement and a contracting agreement, respectively, are similar in nature, where a bank provides
funds for the future delivery of a product at a predetermined price on a certain date. It has to be noted
here that such services not limited only to the Islamic banking in Muslim countries, United Kingdom
has also seen enormous growth both domestically and internationally in the Islamic finance, which
London is one of the top five financial centers in the world for Islamic finance. Moreover, United
Kingdom is considered as the gateway for Islamic finance industry to enter Europe. Wilson (2007)
attributes that to the Financial Service Authority in United Kingdom, which it plays a proactive role
with respect to Islamic banking and finance and is broadly supportive.
However, Malaysia is considered a scholar country in Islamic financial industry, which there
are more than thirty Islamic financial institutions in Malaysia fall under four main components, namely
Islamic banking, Takaful and re-Takaful, Islamic interbank money market and Islamic capital market.
In fact, the expansion of such industry is driven by the current fifty six institutions including, the
commercial ones, offering Islamic financial services which there are more than one hundred Islamic
banking products and services available in the industry. Over and above, as December 2011,
Malaysia’s total Islamic banking assets has reached RM334.9 billion with a market share of 22.4% and
recorded an average annual growth rate of 16.07% for the period 2002 to 2011 (Malaysian Investment
Development Authority, 2012).
Generally, Malaysia is one of the most important global hubs in financial industry, which the
contribution of Malaysian financial sector to nominal Gross Domestic Product (GDP) is expected to
grow from 8.6 % of nominal GDP in 2010 to between 10% and 12% by 2020. Furthermore, such sector
is envisaged to serve domestic, regional and international needs, which there is a network of more than
2,000 banks branches across Malaysia, and such branches represent a primary source of financing for
the domestic economy.
Above-mentioned, banking diversity in Malaysia, which clearly represented in Islamic and
Traditional banks, gives to such country a special imprint among the global banking sectors, so it is a
worthwhile example to study such banks in such country. Furthermore, evaluation of the financial
performance of banking sector is a common way to judge the financial performance of such kinds of
banks. Moreover, such evaluation is also considered an important material for many parties alike; such
as shareholders, depositors, bank managers and regulators, which it helps investors to take their
decisions regarding investing in or withdrawing their money from such banks, as it also directs the
bank managers to take the decisions which help to improve the situation of banks. From such
importance, either represented in the banking sector in Malaysia or represented in Malaysia as a
country itself, this work aims to find out whether or not there are significant differences in the financial
performance between Islamic and Traditional banks in Malaysia with respect to profitability, liquidity
and risk performance. The purpose behind that is to evaluate between such kinds of banks, to compare
the financial performance for them, and to test which kind of such banks is doing well and to separate
them from those that perform poorly according to the profitability, liquidity and risk performance.
2. Literature Review
The matter of the financial performance evaluation is a well advanced within finance and management
fields (Tarawneh, 2006). According to the related reviews, several researches were conducted to
measure the performance for both of Islamic banks (IBs) and Traditional banks (TBs).
The study of Ryu, Piao and Nam (2012) finds that Islamic banks have lower risk and high profit
than traditional banks in Malaysia. They statistically assure that Islamic banking system is more stable
and sound than Traditional banking system in Malaysia. They also assert that the risk management and
prudence are embedded in Islamic finance because of its focus on the need for transactions to be
supported by underlying economic activity. They, however, attribute the strengths of Islamic finance to
Shariah (Islamic law) principle, which requires financial transactions to be accompanied by an
underlying productive economic activity. The study of Rashwan (2010) also tests the financial
performance for both of Islamic and Traditional banks pre and post 2008 financial crisis. They find that
there is a significant difference between IBs and TBs in 2007 and 2009, while there are no significant
differences in 2008. Their study indicates that the crisis hit both banking sectors alike, but the Islamic
banks outperform their counterparts in 2007, while the Traditional banks perform better in 2009 when
the crisis effect starts reach the real economy, which in turn is the only way of investment for Islamic
banks. The work of Hasan and Dridi (2010), which compares the performance of Islamic banks and
Traditional banks during the recent financial crisis, finds that Islamic banks, on average, are stronger
resilience during the global financial crisis. The study of Samad (2004) also examines the financial
performances of Islamic and Traditional banks in Bahrain, especially, after the first Gulf War and it
concludes that there is no major difference in performance between Islamic and conventional banks
with respect to profitability and liquidity. But, it finds that there exists a significant difference in credit
performance, which Islamic banks are exposed to less credit risk compared to Traditional banks. The
work of Hussein (2004), which consists of investment and commercial banks for both of Islamic and
Traditional banks, finds that there is no, in general, much difference in profit efficiency between
Islamic and Traditional investment banks in Bahrain despite the fact that Islamic banks are small and
act as venture capital. In contrast, the only Islamic commercial bank in the sample outperforms the
Traditional counterparts. He attributes that to the lack of competition, whereby the Islamic commercial
bank is able to reduce inputs costs and charge higher mark-up. The study of Samad and Hassan (1999)
applies the financial ratios analysis to test the financial performance between a Malaysian Islamic
bank, which represents in Bank Islam Malaysia Berhad (BIMB), and a group of eight Traditional banks
in Malaysia. They, however, conclude that Islamic bank is relatively more liquid and less risky than the
selected group of Traditional banks. They also find that bankers' lack of knowledge is the main reason
for slow growth of financing under profit sharing performance measure. Through the comparison of
Islamic bank and the group of eight conventional banks, they also reveal that there is no difference in
economic participation.
On the other hand, the study of Ashraf and Rehman (2011), which conducts on both of Islamic
and Traditional banks in Pakistan, asserts that banking performance of Islamic banks is less effective
than the Traditional banks. They attribute that to augmented operating cost and inefficiency of
management. The study of Rosly and AbuBakr (2003) also test the performance of Islamic banks and
Traditional banks in Malaysia. Although, they record that return on assets (ROA) is higher in Islamic
banks, but this does not imply higher efficiency. They confirm that Islamic banks that thrive on
interest-like products (credit finance) are less likely to outshine Traditional banks on efficiency terms.
In the context of talking about the related reviews, Lee and Ullah (2007) is one of these reviews which
calls for corporation between Islamic and Traditional banking system, which their study develops
several deal structures that could help to expand cooperation between such systems.
Above-mentioned, the related reviews show that there are studies support that Islamic banks
doing well more than Traditional banks, while there are studies support the opposite. This study,
however, aims to test statistically whether or not there are significant differences in the financial
performance between Islamic and Traditional banks in Malaysia with respect to profitability, liquidity
and risk performance.
3. Methodology
Financial management theories provide various indexes for measuring and evaluating a bank's
performance. One of them is financial ratios, which the use of such ratios is quite common in the
literature, for example but not limited to (e.g., Almazari, 2012; Ashraf and Rehman, 2011; Al-Hawari,
2006; Samad, 2004; Samad and Hassan, 1999; and Appiah-Adu, 1998). However, the important benefit
of using financial ratios is compensating bank disparities (Samad, 2004). Banking firms are not equal
with respect to sizes; the use of ratio removes the disparities in sizes and brings them at par.
On the other hand, that there is no an official standard which determines the financial ratios
which should be used to evaluate the financial performance. However, using the financial ratios
depends on the side of the financial performance the researcher wants to evaluate. Therefore, since we
want to test whether or not there are differences in the financial performance between Islamic and
Traditional banks with respect to profitability, liquidity and risk performance, a group of the related
financial ratios are listed below. Moreover, we use the independent-sample t-test (2-tailed) at a chosen
significance level (α = 0.05) to test whether or not such differences are significant with the assumption
is that the performance ratios are normally distributed, since many business phenomena generate
random variables with probability distribution that they are very well approximated by a normal
distribution. For example, the monthly rate of return for a stock (MacClave, Benson and Sincich,
2008). Moreover, the independent-samples t-test is a robust statistical test for such purpose.
Above-mentioned, and according to the related reviews, which previously mentioned, the
following hypotheses are proposed:
Hypothesis 1: there is no significant difference in the financial performance between Islamic
and Traditional banks in Malaysia with respect to profitability performance.
and Traditional banks in Malaysia with respect to liquidity performance.
and Traditional banks in Malaysia with respect to risk performance.
As for data collection, we obtained the related data of Islamic and Traditional banks from the
official website of central bank of Malaysia, Bank Negara Malaysia (BNM) for the period of 2007-
2011, after they have been let us know that using such data, which is already for public viewing, is
allowed for research purposes. Some of the chosen data are categorized under Rates & Statistics,
Statistics section, Monthly Statistical Bulletin, while the other are categorized under Financial Stability
and Payment Systems Report. According to such data, to the related financial tables and to the
financial statements, we calculate the related financial ratios taking into account the rounding.
4. Performance Measures
This work depends on the internal way to study the financial performance of banks using a group of the
financial ratios, which related to items of the financial statements of banks. However, the following
categorized ratios are employed for evaluating purposes of the financial performance for both of
Islamic and Traditional banks with respect to profitability, liquidity and risk performance.
4.1. Profitability Performance

Profitability ratios are a class of financial measures, which are used to assess a business's ability to
generate earnings during a specific period. For most of profitability ratios, having a higher value
relative to a competitor's ratio or the same ratio from a previous period is indicative that the business is
doing well. We use the following profitability ratios:
4.1.1. Pre-Tax Profit on Assets Ratio = Pre-Tax Profit / Total Assets Average.
This ratio is an indicator of how effectively a company is using its assets to generate earnings before
payment of taxes and dividends. In other words, it measures the effectiveness of management in
employing the resources available to it. It is, however, a good indicator of a bank’s financial
performance with respect to profitability side and managerial efficiency, so the higher such ratio, the
higher is the financial performance of profitability of a bank.
4.1.2. Pre-Tax Profit on Shareholders' Funds Ratio = Pre-Tax Profit / Total Shareholders' Funds
Average.
This ratio measures a corporation's profitability by revealing how much profit a company generates
with the money shareholders have invested. The higher such ratio, the more efficient is the financial
performance of profitability of a bank. Such profitability ratios measure the financial performance and
the managerial efficiency of bank. However, profitability ratios are only part of bank performance
story.
4.2. Liquidity Performance

Liquidity ratios in a bank demonstrate the ability to pay its current obligations. Generally, but not
always, the higher the value of the ratio, the larger the margin of safety that a bank possesses to cover
short-term obligations. Liquidity ratios are, however, listed bellow as following:
4.2.1. Total Loans "Total Financing" to Total Deposits Ratio = Total Loans "Total Financing" /
Total Deposits Average
This ratio is a commonly used measure for assessing liquidity and credit risk, which measured by
dividing the banks total loans or total financing by its total deposits. This ratio indicates, however, the
percentage of a bank's loans funded through deposits. In general, between 70% and 80% indicates that
the bank still has capacity to write new loans or new financing depending on its own deposits. On the
other hand, a high loan to deposit ratio may indicate several things, but from liquidity's viewpoint, a
high value of such ratio indicates a potential source of illiquidity and insolvency due to deposits are
quite stable source of funding for a bank and loans are riskier asset than other financial assets because
of lower market liquidity. Therefore, a higher loan or "financing" deposit ratio means more financial
stress by making excessive loans. So, the lower loan or "financing" deposit ratio is always favorable to
the higher one.
4.2.2. Total Deposits to Total Assets Ratio = Total Deposits / Total Assets
The ratio of total deposits to total assets is another liquidity measure, which considered a traditional
liquidity. This ratio is measured by dividing the banks total loans or total financing by its total assets.
However, such ratio indicates the broad "reliable" base of funding for the bank, which establishes how
much of the bank's assets are funded by deposits, rather than borrowed funds or equity.
4.3. Risk Performance and Capital Adequacy

At its meeting in 30 November and 1 December 2010, the Basel Committee on Banking Supervision
agreed on the details of the Basel III rules text, which includes reforms represented in global regulatory
standards on capital adequacy and liquidity. The objective of such reforms, which scheduled to be
introduced from 2013 until 2018, is to improve the banking sector's ability to absorb shocks arising
from financial and economic stress, whatever the source, thus reducing the risk of spillover from the
financial sector to the real economy. However, the next financial ratios are used to measure risk
performance and capital adequacy of a bank.
4.3.1. Net Impaired Loans (Net Impaired Financing) Ratio = Net Impaired Loans (Net Impaired
Financing) / Net Total Loans Average (Net Total Financing Average)
Net impaired loans ratio is the most important criteria to assess the quality of loans or financing in both
of traditional and Islamic banks. It measures the percentage of net total loans or net total financing
which are doubtful in banks' portfolio. The lower the ratio, the better is for a bank. In this regard, a loan
in Malaysia is classified generally as non-performing when interest is due but unpaid for three months
or more. Moreover, conservative banks classified a loan as a non-performing when interest is due but
unpaid for three months. In this study, we calculated this ratio according to such conservative way.
4.3.2. Core Capital Ratio (CCR) = Core Capital "Tier 1" / Total Risk Weighted Assets Average
Tier 1 capital ratios are used by regulatory agencies to determine the overall financial health and
strength of a bank. Such ratio is also an important indicator for a party to evaluate the capital adequacy
when desires to borrow big loans or to deposit big amount of money in a bank due to Tier 1 capital can
absorb losses without a bank being required to cease trading, However, such ratio required to be, in
general, a minimum 6.0% to be "Well Capitalized", so the higher the core capital ratio, the better is for
a bank.
4.3.3. Risk-Weighted Capital Ratio (RWCR) = Capital Base / Total Risk Weighted Assets
Average
Since, banking institutions are required to comply with the risk-weighted capital ratio requirement at
all times, this ratio is a framework set by the Bank for International Settlements (BIS) which sets the
desired level of capital against risk-weighted assets. However, this ratio represents a key indicator of
protecting depositors and promotes the stability and efficiency of financial system of a bank, then. In
addition, since Tier 1 can absorb losses without a bank being required to cease trading, Tier 2, which
also included in capital base, can absorb losses in the event of a winding-up and provides a lesser
degree of protection to depositors. Therefore, the higher the risk-weighted capital ratio, the more is the
financial strength of a bank.
5. Findings
Aforementioned, this work uses the financial ratios to evaluate the financial performance of Islamic
and Traditional banks. However, comparing between such banks through the financial ratios does not
give results whether or not the differences between such banks are significant. So, to get such results,
especially with respect to profitability, liquidity and risk performance, independent-sample t-test (2-
tailed) at the chosen significance level is used by IBM SPSS program for such purpose.
After applying the related statistical test, two main tables are listed below which the first table
provides descriptive statistics of the averages performance with respect to profitability, liquidly and
risk performance for both of Traditional and Islamic banks, while the table 2 provides the main
statistical indicators of Levene's test for equality of variances, which are represented in "F" and "Sig",
as it provides t-test for equality of means, which are represented in t-test and Sig. (2-tailed) also known
the observed p-value. In this regard, choosing the row of the related results of t-test for equality of
means from table 2, which used to determine whether or not there are significant differences in the
means of the Islamic and Traditional banks, depends on the values of the Levene's test. However, when
Sig. of Levene's test, which its value is between 0 and 1, is bigger than 0.05, the row of data of "equal
variances assumed" should be selected; otherwise the row of data "equal variances not assumed"
should be selected. From table 2, all values of the Sig of Levene's test are bigger than 0.05, which that
means "homogeneity of variances", except the value of variable of core capital ratio which is smaller
than 0.05. On the other hand, the value of Sig. of Levene's test links with F of Levene's test. In other
words, the larger the F statistic number, the greater is the possibility of Sig of Levene's test that the
variances are different. Similarly, the smaller the F statistic number, the greater is the probability that
the variances are equal. Moreover, the chosen values of t-test and Sig. (2-tailed) should be compared to
the selected significance level, to determine whether there are significant differences in the means of
the two groups (Islamic and Traditional banks). However, when the observed p-value is less than the
chosen significance level, the null hypothesis will be rejected. Otherwise, the null hypothesis will be
accepted. According to the two tables, which listed below, we conclude the following:
5.1. As for Profitability Performance

Table 1 shows that the averages of profitability performance in Traditional banks, which are
represented in both of pre-tax profit on assets ratio and pre-tax profit on shareholders' funds ratio, are
(1.52 and 18.12; respectively) higher than those in the Islamic banks which were (1.18 and 14.28;
respectively). In this regard, the Std. Deviation of profitability performance in Traditional banks, which
represent in both of the previous ratios, also reflect such previous results, which the Std. Deviation is
used to measure the risk of the stock. The basic idea of that is the standard deviation measures the
volatility, so the more a stock's returns vary from the stock's average return, the more volatile the stock.
Indeed, the results shows that the Std. Deviation of profitability performance in Traditional banks,
which represent in both of pre-tax profit on assets ratio and pre-tax profit on shareholders' funds ratio,
are (0.2408 and 2.6874; respectively) higher than those in the Islamic banks which were (0.1643 and
1.4202; respectively). Initially, the results indicate that Traditional banks are more profitable than
Islamic banks. However, to test whether or not such differences are significant, table 2 provides such
results. It shows that the observed p-value for both of pre-tax profit on assets ratio and pre-tax profit on
shareholders' funds ratio are (0.025 and 0.022; respectively) less than the chosen significance level α
(0.05), so we reject the related null hypothesis, which represents the hypothesis 1 in this work, and our
study concludes that there is a significant difference in the financial performance between Islamic and
Traditional banks in Malaysia with respect to profitability performance. In other words, Traditional
banks are, indeed, more profitable than Islamic banks in Malaysia.
5.2. As for Liquidity Performance

Table 1 shows that the averages of liquidity performance in Islamic banks, which are represented in
both of total loans (total financing) to total deposits ratio and total deposits to total assets ratio, are
(74.68 and 79.02; respectively) better than those in the Traditional banks which were (79.94 and 72.38;
respectively). Initially, that means Islamic banks are more liquid than Traditional banks. Looking back,
the lower total loans (total financing) to total deposits ratio, as liquidity ratio, is always favorable to the
higher one. However, to show whether or not the differences in the means are significant, table 2
provides such results. It shows that the observed p-value for both of total loans (total financing) to total
deposits ratio and total deposits to total assets ratio are (0.030 and 0.000; respectively) less than the
chosen significance level α (0.05), so we reject the related null hypothesis, which represents the
hypothesis 2 in this work, and our results concludes that there is a significant difference in the financial
performance between Islamic and Traditional banks in Malaysia with respect to liquidity performance.
In other words, Islamic banks are, indeed, more liquid than Traditional banks in Malaysia.
5.3. As for Risk Performance

Table 1 shows that the averages of risk performance in Islamic banks, which are represented in each of
net impaired loans (net impaired financing) ratio, core capital ratio and risk-weighted capital ratio, are
(2.62, 12.76, and 15.54; respectively) better than those in the Traditional banks which were (2.90,
11.42 and 13.38, respectively). Initially, that means Islamic banks are less risky than Traditional banks.
Looking back, lower net impaired loans (net impaired financing) ratio is always favorable to higher
one. However, to show whether the differences in the means are significant, table 2 provides such
results. It shows that the observed p-value for both of net impaired loans (net impaired financing) ratio
and core capital ratio are (0.581 and 0.162; respectively) bigger than the chosen significance level α
(0.05), so there are no significant differences in the means of the risk performance between Islamic and
Traditional banks with respect to both of net impaired loans (net impaired financing) ratio and core
capital ratio. Looking back, choosing the row of data of "equal variances not assumed" regarding to
core capital ratio was according to the value of Sig. of Leven's test. In this regard, although the value of
Sig. of Levene's test of core capital ratio is too small, which that means the scores of core capital ratio
in the Islamic banks are vary much more than the scores in the Traditional banks over the studied
period, the study does not find a significant difference in the means of the risk performance between
Islamic and Traditional banks with respect to core capital ratio (p-value = 0.162 > α = 0.05). Put
scientifically, although there is variability in the two conditions is significantly different; the study
does not record a significant difference in the means of the risk performance between such banks with
respect to core capital ratio. Returning to the reason behind that, we find that Bank Negara Malaysia
(BNM) implemented the Basel II framework in 2008 and according to a mandate set by the central
bank; all banks in Malaysia were required to compute their capital adequacy ratios under Basel II from
January 2008. In addition, banking institutions adopting the new capital adequacy framework from
2008 were also subject to a capital requirement for operational risk based on either the basic indicator,
standardized or alternative standardized approaches (Aziz, 2008). Moreover, the adoption the new
capital adequacy synchronized with the happening of the global financial crisis, which really started to
show its effects in the middle of 2007 and into 2008. So, all this has made all banks especially the
Traditional banks to raise their capital especially their Tier-1 capital. However, the Traditional banks,
indeed, had to do that at the beginning of the second quarter of 2008 more than what they were usually
in the previous months and more than the raising in the Islamic banks.
On the other hand, table 1 also shows that the average of risk performance in Islamic banks,
which represented in risk-weighted capital ratio, is (15.54) better than the Traditional banks (13.38).
Initially, that means Islamic banks are less risky than Traditional banks with respect to risk-weighted
capital ratio. However, to show whether or not the difference in the means of such ratio is significant,
table 2 provides such results. It shows that the observed p-value for risk-weighted capital ratio is
(0.011) less than the chosen significance level α (0.05), so there is a significant difference in the means
of the risk performance between Islamic and Traditional banks with respect to risk-weighted capital
ratio. In other words, Islamic banks are, indeed, less risky than Traditional banks in Malaysia with
respect to risk-weighted capital ratio, while there are no significant differences in the risk performance
between Islamic and Traditional banks with respect to both of net impaired loans (net impaired
financing) ratio, core capital ratio.
Table 1: Descriptive Statistics
Financial ratios (Variables) Groups (Banks) Means (%) Std. Deviations (%)
Islamic Banks 1.18 0.1643
Pre-tax profit on Assets Ratio
Traditional Banks 1.52 0.2408
Pre-tax profit on Shareholders' funds Ratio
Total Loans (Total Financing) to Total Deposits Islamic Banks 74.68 3.5822
Ratio Traditional Banks 79.94 2.6576
Total Deposits to Total Assets Ratio
Net Impaired Loans (Net Impaired Financing) Islamic Banks 2.62 0.8289
Ratio Traditional Banks 2.90 0.7036
Core Capital Ratio (CCR)
Risk-Weighted Capital Ratio (RWCR)
Table 2: Independent Sample Test
Levene's Test for Equality t-Test for Equality of

of Variances Means
Sig. (2-tailed)
F Sig. t
"P-Value"
Pre-tax profit on Assets Equal variances assumed 0.886 0.374 -2.761- 0.025
Ratio Equal variances not assumed -2.761- 0.028
Pre-tax profit on Equal variances assumed 1.088 0.327 -2.825- 0.022
Shareholders' funds Equal variances not assumed
-2.825- 0.030
Ratio
Total Loans (Total Equal variances assumed 2.217 0.175 -2.637- 0.030
Financing) to Total Equal variances not assumed
-2.637- 0.032
Deposits Ratio
Total Deposits to Total Equal variances assumed 1.048 0.336 5.826 0.000
Assets Ratio Equal variances not assumed 5.826 0.002
Net Impaired Loans Equal variances assumed 0.049 0.830 -0.576- 0.581
(Net Impaired Equal variances not assumed
-0.576- 0.581
Financing) Ratio
Core Capital Ratio Equal variances assumed 26.459 0.001 1.683 0.131
(CCR) Equal variances not assumed 1.683 0.162
Risk-Weighted Capital Equal variances assumed 0.382 0.554 3.283 0.011
Ratio (RWCR) Equal variances not assumed 3.283 0.011
This study, however, is consistent with the results of other related studies. It is consistent with
the studies of Ryu, Piao and Nam (2012); and Samad (2004) regarding to risk performance that they
find Islamic banks less risky than the Traditional banks. Moreover, this study is also consistent with the
results of the study of Samad and Hassan (1999) which it finds that Islamic banks less profitable than
Traditional banks.
To sum up, this study statistically assures that Traditional banks more profitable than the
Islamic banks, while the latter is more liquid and less risky especially with respect to risk-weighted
capital ratio than the Traditional banks over the period 2007 to 2011 in Malaysia.
6. Suggestions for Further Research

In the literature, bank performance is still predominantly measured using accounting methods by
comparing financial ratios related to costs and profitability. Appiah-Adu (1998), however, claims that
there are two approaches to measure the financial performance in the literature. The first is the
subjective concept, which measures the performance of firms based on stakeholders' evaluation and
comparison with their competitors, while the second approach is objective and based on the absolute
measure pf performance such as financial ratios. Moreover, whilst using financial ratios is useful, the
using them as a sole measure of performance has been criticized by many researchers (e.g., Yen, 1996;
and Berger and Humphrey, 1997) to be limited in scope (as cited in Nucbe, 2009). So, using other
approaches in measuring the financial performance of banks, such as the econometric approach, is one
option we support.
As mentioned previously, this study is consistent with the studies which find that Islamic banks
less profitable than Traditional banks such as the study of Samad and Hassan (1999), that they find that
bankers' lack of knowledge in selecting, evaluating and managing profitable project is a significant
cause for slow growth of financing under profit sharing performance measure. Frankly, we tend to such
reason for slow profits, so we recommend the managements in the Islamic banks to invest their excess
money which especially caused by the deposits in projects which they can generate more profits taking
into account the balance between the goals of the liquidity and profitability.
As mentioned previously, this study is also consistent with the studies, which find that Islamic
banks are more liquid than Traditional banks. Moreover, this study also finds that Islamic banks are
less risky, especially with respect to risk-weighted capital ratio, than Traditional banks, so we
recommend the financial analysts classifying the Islamic banks less risk than the traditional banks
when designing the investment portfolios.
Last but not least, studying the impact of the recent global financial crisis on the financial
performance for both of the Islamic and Traditional banks to test which kind is more stable and less
effected by such crisis, is another recommend we support. Moreover, studying also the impact of the
economic policies, especially the monetary policy and its tools, on the financial performance for both
of Islamic and Traditional banks is a worthwhile topic to study.
In the end, since the related data of Islamic banks in the banking industry in Malaysia available
just from 2006, so applying studies for longer period and for more one country is one of the
suggestions of this study we support.
References
1] Ahmad, Abu Umar Faruq. and Hassan, M.Kabir. (2007). Riba and Islamic Banking. Journal of
Islamic Economics, Banking and Finance, 3(1), 1-33.
2] Al-Hawari, Mohammad A. (2006). The Effect of Automated Service Quality on Financial
Performance and the Mediating Role of Customer Retention. Journal of Financial Service
Marketing, 10 (3), 228 - 243.
3] Almazari, Ahmed Arif.(2012). Financial Performance Analysis of the Jordanian Arab
Bank by Using the DuPont System of Financial Analysis. International Journal of
Economics and Finance, 4 (4), 86-94. DOI: 10.5539/ijef.v4n4p86.
4] Appiah-Adu, Kwaku ., & Singh, Satyendra. (1998). Customer orientation and performance: a
study of SMEs. Management Decision, 36 (6), 385 – 394.
5] Ashraf, Mian Muhammad., & Rehman Ziaur. (2011). The Performance Analysis of Islamic and
Conventional Banks:The Pakistan’s Perspective. Journal of Money, Investment and Banking,
October (22), 99-113.
6] Aziz, Zeti Akhtar. (2008, August). Basel II implementation and the development of Asia's
financial system – experiences, challenges and regional cooperation (Central bankers'
speeches). Kula Lumpur, Malaysia: at the 4th SEACEN/ABAC/ABA/PECC Public-Private
Dialogue for the Asia Pacific Region. Retrieved from January 1, 2013, from Bank for
International Settlement (BIS). website, http://www.bis.org/review/r080819a.pdf
7] Bank Negara Malaysia. (2001). Chapter Five, Islamic Banking and Takaful. (pp. 76-84).
Retrieved from: http://www.bnm.gov.my/index.php?rp=16
8] The Holy Bible: New American Standard Bible, NASB. (1995).
9] The Holy Bible: New International Version, NIV, (1984).
10] Bank Negara Malaysia. (2001). Chapter Three, Banking Sector. (pp.31-59). Retrieved from:
http://www.bnm.gov.my/index.php?rp=14
11] Doing Business. (2012). Doing Business 2013: Smarter Regulations for Small and Medium-
Size Enterprise (10th ed.). Washington, DC: U.S. Retrieved November 21, 2012 from: http://
www.doingbusiness.org/~/media/GIAWB/Doing%20Business/Documents/Annual-
Reports/English/DB13-full-report.pdf
12] Hasan, Maher., & Dridi., Jemma. (2010, September). The Effects of the Global Crisis on
Islamic and Conventional Banks: A Comparative Study. (Working Paper No.10/201),
International Monetary Fund, Washington, DC: U.S. Retrieved November 26, 2012, from:
http://www.imf.org/external/pubs/ft/wp/2010/wp10201.pdf
13] Hussein, Khaled A, (2004). Banking efficiency in Bahrain: Islamic versus Conventional Banks
(Working Paper No. 68). Islamic Development Bank, Jeddah, Saudi Arabia: Retrieved
November 26, 2012 from Islamic Research and Training Institute (IRTI), website,
http://www.irtipms.org/OpenSave.asp?pub=200.pdf
14] Islamic Financial Service Board, Islamic Research and Training Institute and Islamic
Development Bank. (2010). Islamic Finance and Global Financial Stability. Jeddah, Saudi
Arabia. Retrieved November 21, 2012 from: http://www.ifsb.org/docs/IFSB-IRTI-IDB2010.pdf
15] Lee, Kun Ho, & Ullah, Shakir. (2007). Integration of Islamic and Conventional Finance.
International Review of Business Research Papers, 3(5), 241-265.
16] Malaysian Investment Development Authority. (2012). Investment in Malaysia. Retrieved
November 14, 2012 from http://www.mida.gov.my/env3/index.php?page=banking-system
17] McClave, James T., Benson, P. George., & Sincich, Terry. (2008). Statistics for Business and
Economics (10th ed). New Jersey: Pearson Education, Inc.
18] Ncube, Mthuli. September, (2009). Efficiency of the Banking Secotr in South Africa.
Johannesburg, South Africa: University of the Witwatersrand.
19] The Holy-Qur'an: Sura Al-Baqarah.
20] Rashwan, Mohamed H. (2010, December). A Comparison between Islamic and Traditional
Banks: Pre and Post the 2008 Financial Crisis. Retrieved November 27, 2012 from SSRN:
http://ssrn.com/abstract=1724451 or http://dx.doi.org/10.2139/ssrn.1724451
21] Rosly, Saiful Azhar ., & Abu Bakar, Mohd Afandi. (2003). Performance of Islamic and
Mainstream Banks in Malaysia. International Journal of Social Economics, 30 (12), 1249 –
1265.
22] Ryu, Kyeong Pyo., Piao, Shu Zhen., & Nami, Doowoo. (2012). A Comparative Study between
the Islamic and Conventional Banking Systems and Its Implications. Scholarly Journal of
Business Administration, 2(5), 48-54.
23] Samad, A., & Hassan M. Kabir. (1999). The Performance of Malaysian Islamic Bank During 1984-
1997: An Exploratory Study. International Journal of Islamic Financial Services, 1(3), 1-14.
24] Samad, Abdus. (2004). Performance of Interest Free Islamic Banks vis-à-vis Interest Based
Conventional Banks of Bahrain. IIUM Journal of Economics and Management, 12 (2), 115-129.
25] Tarawneh, Medhat. (2006). A Comparison of Financial Performance in the Banking Sector:
Some Evidence from Omani Commercial Banks. International Research Journal of Finance
and Economics, May (3), 101-112.
26] University of the Witwatersrand. (September, 2009). Efficiency of the Banking Secotr in South
Africa. Johannesburg, South Africa: Ncub, Mthuli.
27] Wilson, Rodney. (2007, December). Islamic Finance in Europe (RSCAS Policy Paper No.
2007/02). Italy: European University Institute. Retrieved November 15, 2012 from Robert
Schuman Centre for Advanced Studies, European University
Institute.http://cadmus.eui.eu/bitstream/handle/1814/7739/?seq

6 Financial Performance Analysis of Islamic BANK PDF

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

6 Financial Performance Analysis of Islamic BANK PDF

Uploaded by

Copyright:

Available Formats

European Journal of Economics, Finance and Administrative Sciences

ISSN 1450-2275 Issue 57 February, 2013

The Financial Performance Analysis of Islamic and

Mohamad Ihsan AL Kilani

Keywords: Financial Performance, Islamic Banks, Traditional Banks, Financial Analysis,

4.1. Profitability Performance

4.2. Liquidity Performance

4.3. Risk Performance and Capital Adequacy

5.1. As for Profitability Performance

5.2. As for Liquidity Performance

5.3. As for Risk Performance

Table 1: Descriptive Statistics

Levene's Test for Equality t-Test for Equality of

6. Suggestions for Further Research

You might also like