RESEARCH ARTICLE

European Journal of Business and Management Research

www.ejbmr.org

International Financial Reporting Standard (IFRS) 9

and the Financial Performance of Commercial
Banks in Kenya
Stephen Ongalo and Joshua Wanjare

ABSTRACT
The International Financial Reporting Standard (IFRS) 9 presents the latest
accounting treatment for financial assets and liabilities, impairment Submitted: November 7, 2022
procedures, hedge and fair value accounting. This new regulation largely Published: December 3, 2022
replaces the International Accounting Standards 39. The last form of IFRS
ISSN: 2507-1076
9 was published in July 2014 with the mandatory global compliance date for
IFRS 9 set on January 1, 2018, with earlier application encouraged. The DOI: 10.24018/ejbmr.2022.7.6.1738
main distinctive features of this standard are described in terms of hedge
accounting, recognition and classification, and fair value measurement of the S. Ongalo
financial instruments. The objective of the research study was to determine University of Nairobi, Nairobi, Kenya.
the impact of the mandatory adoption of IFRS 9 on the financial (e-mail: stephenongalo@ uonbi.ac.ke)
performance of commercial banks in Kenya. The study adopted an event J. Wanjare*
study approach or design by analyzing the quarterly financial statements of University of Nairobi, Nairobi, Kenya.
the commercial banks submitted to the Central Bank of Kenya and (e-mail: jwanjare@ uonbi.ac.ke)
comparing the performance of the commercial banks before the introduction
of the IFRS 9 and after its adoption. The study’s findings were that returns *Corresponding Author
on assets and returns on equity were on an upward trend despite the
introduction of IFRS 9. This was contrary to the expectation of poor
performance since lower earnings due to loan loss provisions were expected
to have a material effect on profitability.

Keywords: IFRS 9, Expected Credit Loss, Incurred Credit Loss, Non-

Performing Loans.

affect banks’ financial statements especially when it comes to

I. INTRODUCTION accounting for impairment of financial assets. As a result, the
Central Bank of Kenya (CBK) gave a grace period of 5 years
The main of objective of introducing IFRS 9 is to enhance
to banks, whose capital adequacy requirement might have
the credit risk provisioning by financial institutions thereby
been negatively affected to recapitalize. Banks were expected
improving their flexibility and ability to survive losses caused
to align fair value measurement of financial assets with their
by loan defaulters (CBK, 2018). The switch from incurred
business portfolios, cash flow projections and anticipated
losses to expected losses model necessitate the re-defining of
economic scenarios. All provisions computed in line with
business portfolios of the financial institutions by adjusting
IFRS 9 were to be recognized in the income statement (CBK
internal controls so that entities are cushioned against risky
2018). Lending to SMEs dropped by more than Ksh 13 billion
investments. The date for mandatory worldwide adoption of
due to banks' heightened risk sensitivity following the
International Financial Reporting Standards (IFRS) 9 was
enactment of the rate caps in September 2016, as well as
January, 2018. This saw Kenyan banks cooperate with their
provisioning requirements occasioned by the new
global peers, a sign of a fundamental change on how financial
International Financial Reporting Standards (IFRS) 9 on
institutions were expected to treat financial instruments in
Financial Instruments.
their books. The IFRS 9 introduced the Expected Credit Loss
IFRS 9 is an accounting standard that defines how an entity
(ECL) model replacing the Incurred Credit Loss (ICL) model
classifies and measures financial assets and liabilities that
of International Accounting Standard (IAS) 39, which had
include impairment methodology (IASB 2017). According to
been in use for a very long time. Reporting entities shifted
CBK (2016), the expected credit loss (ECL) model in IFRS 9
from recognition of losses already incurred to recognition of
is a double measurement model in that ECLs recognition is
expected credit losses of the future date (Kimathi, 2018).
either for a period of 12 months or for the whole lifetime. The
Commercial banks are prudently classifying their business
12-month ECLs are assets that have not experienced major
models in terms of their riskiness and making provisions
rise in credit risk while lifetime ECLs are assets that are
accordingly due to adoption of IFRS 9. Moody (2015) argued
experiencing major increase in credit risk. Equity, regulatory
that the change from IAS 39 to IFRS 9 will significantly
capital and key performance Indicators are notably affected

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since they have to account for expected credit losses as well will be recognized in OCI.
as incurred credit losses. Volatility in net income is more Study by Rene et al. (2018) investigated the preparation of
because external data on credit scores, net credit spreads and banking industry (a case study of HSBC Holdings Plc) in
forecasting of future economic conditions is incorporated in implementing the standard. They noted that it was detrimental
computing the ECLs. This will require banks to have most for some financial institutions to recognize Expected Credit
updated systems, processes and related internal controls that Loss because it negatively affected their financial
meet the extensive current data and computation needs of performance. Cipullo et al. (2014) conducted a study on the
ECL model (IASB, 2016). implications of IFRS 7 and IFRS 9 on the liquidity
CBK (2017) further explained that IFRS 9 made it performance of Malaysian banks. In their effort to explain the
necessary for financial institutions to use scheduled cash degree to which the IFRS 9 requirements assist the banks in
flows in classifying the financial assets and developed managing liquidity risk through appraisal of credit facilities,
suitable business model for managing the aforementioned they mentioned that the standard did not fully consider the
assets. Sound management skills were required to ensure that banks portfolios hence was expected to affect banks’ profits.
payments of principal and interest (SPPI) are achieved. The
mechanism financial institutions use in the recognition and
classification of their financial instruments affect the II. LITERATURE REVIEW
computation of capital resources hence constant fluctuations
Literature exploration on this topic reveals that a limited
in net income or shareholders’ equity (IASB 2013). IFRS 9
number of studies have so far been done globally as well as
enables a bank to switch to hedge accounting which is a new
locally since the IFRS 9 is a new standard. Petra Blažeková
model that provide risk-based approach to management of
(2018) investigated the impact of IFRS 9 on banks’ regulatory
financial assets. The hedge accounting model is principles-
capital focusing on increased credit risk provisioning. The
based, that is, ineffectiveness of IAS 39 is eliminated while
study concluded that The IFRS 9 regulation causes a decrease
prudent judgmental viewpoint is applied for continuous
of capital base of the banks. Another study by European
improvement of hedge accounting. Substantial updated
Financial Reporting Advisory Group (2018) carried out a
qualitative and quantitative disclosures are necessary in
study of how IFRS 9 presentation format of financial
demonstrating how judgement is arrived at about financial
information influence the investors’ behavior. Cipullo et al.
assets treatment (CBK, 2018).
(2014) conducted a study on the implications of IFRS 7 and
The replacement of IAS 39 by IFRS 9 brought changes on
IFRS 9 on the liquidity performance of Malaysian banks.
accounting treatment of financial instruments especially the
They found that IFRS 9 requirements assist the banks in
principles of recognizing and measuring financial assets,
managing liquidity risk through appraisal of credit facilities.
financial liabilities, and some contracts. IFRS 9 was set to
The IASB recommended a fair value measurement as one
provide solution to the complexity and inconsistency of IAS
of the significant features of IFRS 9 to be embraced by
39 on the firm’s business models. This is because it allowed
institutions dealing in financial assets. Fair value accounting
for the deferment of recognizing the credit losses on loans and
technique ensures that the carrying value of financial assets
receivables to later date on credit cycle. According to
can be exchanged between parties who have full information
Hoogervorst (2016), the IASB developed IFRS 9 in three
about market prices and are willing to do the transactions at
steps. The first step covered the classification and
an arm’s length (Gornjak, 2017). Before introduction to fair
measurement, second step was about impairment and lastly
value accounting, Purchase price accounting was widely
hedging of financial assets. The commercial banks with the
used. According to Emerson et al. (2010), the research by
guidance of CBK were therefore expected to adopt the agreed
Jones (1988) gives clear distinctions between these two
principles of IFRS 9 (CBK, 2018).
methods of accounting. Jones argued that the purchase price
The adoption of IFRS 9 led to an increased volatility of
is not a reflection of the general economic conditions of the
banks income streams because it applied the fair value
financial instruments at the time of subsequent transaction.
measurement, which is too sensitive to the risks assumed by
Cristin and Pepi (2013) pointed out that there is flaw in
an entity hence any changes are recorded in the income
accounting at cost mainly when a party wants to make sale of
statement (CBK, 2017). The asset is recorded at initial cost
the assets maintained in the books at historical cost. The
fewer principal repayments and adjusted for the amortization
reason they advanced for this argument is the value
amounts that have accumulated. Interest revenue is computed
fluctuations had been ignored during a given period. In their
using the effective interest method and accounted for in profit
arguments against fair value accounting Cristin and Pepi,
and loss.
(2013) states that accounting at fair value is only best and
Interest income, gains and losses from impairment, and a
ideal in markets with high liquidity, which is not always the
part of gains and losses from foreign exchange dealings are
case for most economies.
treated in income statement the same way assets amortized
The fair value accounting in standard IFRS 9 is applied
are treated (CBK, 2018). De-recognition or reclassification of
uniformly for all the financial instruments, the entities trade
financial assets modifies the fair value that had been
in the market and this ensures conformity in reporting by
accounted for in Other Comprehensive Income (OCI) and
different players in the industry Palea (2014). Reporting at
accumulated in equity thus reclassified to profit and loss
fair value represents present market condition the
resulting into an asset measured at Fair Value through Other
organization operates in hence decision makers are able to
Comprehensive Income (FVOCI). IASB (2017) further
make quality decisions since the information presented is up
explained that dividend income is recorded in profit and loss
to date. Fair value accounting is very useful to investors as
but in case, it is part of the investment cost recovered then it

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well as regulators since it provides early warning about the
financial institution stability mainly by providing real time
share prices of different companies (Linsmeier, 2011). The
IASB borrows from IFRS 13 to bring into use fair value
measurement of all assets and liabilities recorded in the
financial statements under IFRS 9 (Gornjak, 2017). Also, the
basis of impairment of financial instruments under IAS 39 is
incurred losses, while under IFRS 9 it is expected losses
(Marshall, 2015). The expected loss as the basis for
impairment provides a solution to the inconsistency and
complexity that led to financial crisis due to postponement in
recognizing impairment. The IFRS 9 introduces the
recognition of expected credit losses on financial instruments
prior to the occurrence of any losses. It further requires
entities to record the provisions of expected credit losses at
every reporting date to represent fluctuations in the credit risk
of financial assets (Marshall, 2015). Companies are directed
to enhance assumptions and improve the assessment on the
expected credit losses (IASB, 2015). The new model of
impairment of financial assets under IFRS 9 is future-
oriented, a shift from model which was based on historical
events. For accurate computation of an impairment cost on
every reporting date, a detailed assessment of the
organizational asset portfolios should be undertaken. The
new model begins impairment process the day after
acquisition of a financial asset. It recognizes the credit loss at
the time of transaction and subsequently in the impairment
hence it is a double-stage measurement model (Gornjak,
2017).
European Systematic Risk Board (2017) examined
implications of IFRS 9 on the financial stability. The report
outlines a lengthy discussion on whether the use of fair value
rather than historical cost should be for the measurement of
financial assets and the appropriateness of these methods for
different assets of the bank. It concludes that IFRS 9
principles make the financial asset classification to be more
explicit and logical than the IAS 39. The report recognizes
three major changes brought by the new standard. First, debt
instruments are valued at amortized cost. Second, the gains or
losses from equity instruments apart from dividend income
will not be recorded in profit or loss. They are measured at
fair value through other comprehensive income. Third, assets
of high liquidity specifically ones categorized under the hold-
to-collect portfolio model, which qualify to be incorporated
in the liquidity cushion set by relevant authorities are
measured at amortized cost. Consequently, worries about
unrealized fair value gains or losses come up should there be
need for selling them during financial distress.
Financial Reporting Council (2018) carried out thematic
review of disclosures in 2018 interim accounts relating to the
implementation of IFRS 9. The findings revealed that some
companies, in particular, some smaller banks, did not
sufficiently explain the impact of adopting IFRS 9. Using the
2017 auditor’s assessment of materiality as a guide, FRC
observed that IFRS 9 did not materially affect the results of
the nonbanking entities. FRC recommended that companies
should aim to ensure not only that mandatory disclosure
requirements are met, but that sufficient explanation of
concepts, elaboration of judgments made, and conclusions
reached are also provided, were material.
Rene et al. (2018) investigated the preparation of banking
DOI: http://dx.doi.org/10.24018/ejbmr.2022.7.6.1738
RESEARCH ARTICLE
industry (a case study of HSBC Holdings Plc) to implement
the standard. They noted that it was detrimental for some
financial institutions to recognize Expected Credit Loss
because it negatively affected their financial performance.
The study also pointed out that IFRS 9 was valuable in
providing unbiased and sound financial reports in the banking
sector. Also that the new standard requirements were
beneficial to the stakeholders of financial statements due to
the reliability of the information it produced.
Cipullo et al. (2014) conducted a study on the implications
of IFRS 7 and IFRS 9 on the liquidity performance of
Malaysian banks. They pointed out that main objective of
accounting standards is to provide information for making
necessary for understanding the cash flows of the business.
On the same note recommended that the IASB should first
give a clear meaning of liquidity, and then develop
accounting principles in line with the definition provided. In
their effort to explain the degree to which the IFRS 9
requirements assist the banks in managing liquidity risk
through appraisal of credit facilities, they mentioned that the
standard does not fully consider the banks portfolios. The
bank portfolio is significant in determining the banks
financial performance and therefore assets and liabilities
forming business model should forecast the future cash flows.
The study by Ntaikou et al. (2018) on Greek systemic
banks concluded that banks across Europe have put their
focus on the incorporation of the new, futuristic information
of the new model. Consequently, they put system in place for
estimating credit losses, into their existing models and
procedures and try to evaluate the range and magnitude of the
adoption of the newly established financial standard. In
addition, they mentioned that the enhancement of
transparency in banks’ reported income and profits, due to
mandatory adoption of the new accounting regime IFRS 9 is
a rather potential outcome since the stochastic character of the
ECL model encourages the discretion of the banks’
management teams.
Wall and Koch (2000), and Rochet (2005) found that
banking regulation consists of rules that aim to make banks
internalize the (potentially negative) externalities of their
actions on the rest of the financial system and the wider
economy, including those that engender systemic risk. The
information that accounting standard-setters consider
relevant for investors may not be the same as that considered
relevant by prudential regulators. To accommodate potential
discrepancies between these views, regulators often apply
“prudential filters” to figures arising from the application of
accounting rules, such as capital, resulting in the definition of
regulatory-relevant objects such as “regulatory capital”.
Adrian and Shin (2009) find a positive correlation between
leverage and total assets: the main driver of such
procyclicality is argued to have been collateralized
borrowing, not accounting rules. The link between fair value
accounting and procyclicality in the banking industry is
further challenged by some recent evidence. Laux and Rauter
(2017), using US commercial and savings banks, find no
evidence consistent with the notion that fair value accounting
– through the recognition of unrealized gains and losses on
financial assets – contributes to procyclical leverage. These
results point towards other important structural dimensions of
the financial system, unrelated to accounting, such as the
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business model of banks, the level of the regulatory capital
ratios and book leverage, as more relevant and plausible
reasons explaining procyclical leverage.
According to Laeven and Majnoni (2003), in the
conceptual risk management framework behind current
prudential capital requirements for credit risk, impairment
allowances (loan loss provisions) provide the buffer against
expected losses while bank capital is the buffer against
unexpected losses. Strategically delaying the recognition of
expected losses, or making incorrect estimates of them, has
an immediate effect on the bank's earnings (current expenses
are lower than they should be) and a significant long-lasting
implication for the bank’s financial health.
Goldstein and Sapra (2013) argue that while the connection
between transparency and market confidence in banking is
contentious, a consensus is emerging on the fact that a lack of
transparency after a sufficiently adverse shock that many
banks may be in trouble, is detrimental to financial stability,
which provides a rationale for the use of stress testing as a
tool to restore market confidence. In this sense, delaying loan
loss recognition in a crisis increases investors’ uncertainty
about banks’ fundamentals, leading to higher levels of bank
illiquidity and illiquidity risk, especially during crisis periods
(Bushman & Williams, 2015).
According to Ismi, (2004) the introduction of Structural
Adjustment Programs (SAP) in the late 1980’s, has seen the
banking sector worldwide experience major transformations
in its operating environment. Countries have eased controls
on interest rates, reduced government involvement and
opened their doors to international banks. Due to this reform,
firms of the developed nations have become more visible in
developing countries through their subsidiaries and branches
or by acquisition of foreign firms. More specifically, foreign
banks’ presence in other countries across the globe has been
increasing tremendously.
Mandatory adoption of IFRS 9 by commercial banks is still
a new topic in the industry and therefore few studies have
been conducted. Limited number of literatures in this area is
call for all stakeholders to carry out more research works.
Furthermore, the previous studies majored on developed
countries. This study therefore aims at filling this gap.
III. RESEARCH METHODOLOGY
The population of the study consisted of the commercial
banks operating in Kenya. There are 43 commercial banks of
which two were in receivership and one was under statutory
management (CBK, 2018). The choice of this population was
informed by the fact that the banking sector was the first to
be directed to adopt the IFRS 9. In addition, the financial
statements of commercial banks are easily accessible and
dependable because they are subjected to compulsory audit
by highly reputable and professional audit firms with
approval of the Central Bank of Kenya as the regulator. The
financial reports can be accessed via CBK websites. The
study adopted the census survey design where the financial
performance of all the 43 commercial banks was analyzed.
The financial statements were accessible from the CBK
websites. CBK demands 100% compliance with this
requirement from the commercial banks (CBK, 2016).
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RESEARCH ARTICLE
The study captured data from the secondary sources
including published audited financial reports and quarterly
financial statements that the commercial banks file with the
Central Bank of Kenya.
Descriptive statistics with the help of inferential analysis
was applied in examining the data collected. The uses of
frequency distribution tables, line and bar graphs to present
data collected facilitated description and explanation of the
study findings (Mbambo, 2015). Thus, the research used
tables and figures to summarize sourced data before
subjecting them to advance analysis and enhance
comparability. In employing event study methodology, the
researcher determined performance using profitability ratios,
ROA and ROE, before and after adoption of IFRS 9 to
investigate its effects on commercial banks financial
performance. Using the event study design, data was
organized into pre and post IFRS 9 adoption periods.
The risk relevance of credit loss provisions to loans ratio
ensure that the financial statements were prepared to high
degree of verification, that is act as a conservative measure in
pre and post IFRS periods. The non-systematic risk was
reduced after the implementation of IFRS due to the
availability of information to banks’ management team.
Results show that non-performing loans ratio reduced from
10.6% in pre-adoption of IFRS 9 to 10.0% in post-adoption
of IFRS 9. Under IFRS 9, Kenyan banks were managing their
loan book more prudently, which was good news in view of
the growing pile of bad loans that had strained performance
in the sector in the past two years (CBK, 2019). Banks were
subjecting borrowers to tighter scrutiny thus only advanced
loans to borrowers with impressive credit score. The mean for
non-interest income improved from 25.6 % in pre-adoption
of IFRS 9 period to 30.4% in post- adoption of IFRS 9 period.
This can be interpreted that commercial banks were
aggressive in activating other streams of income following
strict credit rating because of the introduction of IFRS 9.
Loss provision to loan ratio increased from 1.2 % to 1.4%
in pre-adoption of IFRS 9 and post- adoption of IFRS 9
respectively. The assessment of credit risk and the estimation
of ECL are required to be unbiased and probability-weighted
and should incorporate all available information that is
relevant to the assessment including information about past
events, current conditions and reasonable and supportable
forecasts of economic conditions at the reporting date. In
addition, the estimation of ECL should take into account the
time value of money. As a result, the recognition and
measurement of impairment is intended to be more forward-
looking than under IAS 39 and the resulting impairment
charge will tend to be more volatile. This resulted into an
increase in the total level of impairment allowances, since all
financial assets were assessed for at least 12-month ECL. In
addition, the population of financial assets to which lifetime
ECL was applied was larger than the population for which
there could have been objective evidence of impairment in
accordance with IAS 39 (Duh et al., 2012; Lim et al., 2013;
Walton, 2004). The mean of ROE of the commercial banks in
Kenya in pre-adoption period was 35.34 and that of ROA was
5.86. The results indicated that for every Ksh.100 invested on
equity there is a return of Ksh.35.34. In the same note, the
return on every Ksh.100 of assets employed was Ksh.5.86.
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70
60
50
Capital Adequacy
40
30
20
10
0
2017 2017 2017 2017 2018 2018 2018 2018
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
Time
CET 1
Fig. 1. The impact of IFRS 9 on CET1 ratio for commercial banks in
Kenya.
In post-adoption of IFRS 9, the mean of ROE of the
commercial banks in Kenya was 37.29 and that of ROA was
5.94. This implies that for every Ksh.100 invested on equity
there was a return of Ksh.37.29 and return on every Ksh.100
of assets employed was Ksh.5.86. Both ROE and ROE were
on the upward trend despite the introduction of IFRS 9, which
was expected to lower earnings. This was because loan loss
provisions had a material effect on profitability as the money
set aside as provisions to cushion against potential loan
defaults was usually taken directly from retained earnings.
This means that if a bank makes higher provisions, as will
inevitability be the case under IFRS 9, it will also report a
commensurate dip in profitability. The contrary findings can
better be explained by the fact that commercial banks were
granted a one-year earnings window where they were not
required to charge the increased provision to their income
statement. In addition, Kenyan lenders invested more on
government treasury bills and bonds, which are risk free and
other non-funded incomes hence improved the profit figure
used in calculation of both ROE and ROA. The ECL model
permits managerial discretion to an opportunistic smoothing
or manipulation of reported earnings.
Fig. 1 shows how transition from IAS 39 to IFRS 9 caused
CET1 ratios to fall with an average of 18 basis points across
the banking industry. This is because the increased
impairment charge reduces regulatory capital. There is capital
volatility in financial year 2017 is negligible, sharp drop is
observed in the first quarter of the financial year 2018 when
the adoption of IFRS 9 was made mandatory. In the first
quarter of the financial year 2018, the Kenyan commercial
banks recorded the lowest CET1 ratios, and then it starts
rising again in quarters two, three and four of the financial
year 2018. This could be attributed to the commercial banks’
ability to gain more insights on how to deal with the new
accounting regime. This finding echoed the KCB CEO’s
observation during Kenya Bankers Association conference
that that KCB’s capital adequacy ratio would decline by
approximately 100 basis point under the new regime
especially at the point of adoption. Further, he noted that the
bank was adequately capitalized to deal with IFRS 9; its cost
of risk would increase by an average of 25 per cent and 30 per
cent.
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RESEARCH ARTICLE
60%
50% 55%
53%
40%
30%
20%
10%
0%
FY 2017 FY 2018
Fig. 2. The Non-performing Exposure Provisioning Coverage.
Retained earnings are a key component of Common Equity
Tier 1 (CET1) resources, the most loss-absorbent type of
capital and that to which investors and regulators pay most
attention. Retained earnings are driven by Profit after Tax and
shareholder distributions. As such, additional impairment
acts as a drag on capital resources. This is important because
banks must preserve a basic level of capital adequacy to pay
dividends to shareholders and avoid being forced to take
capital actions such as raising equity, deleveraging their
balance sheet or transitioning to less risky and profitable
activities.
Data from commercial banks showed that since the
implementation of the new accounting standard (IFRS 9),
additional provisions implied raised the coverage of NPEs to
approximately 55% from 50% in the financial year 2018 as
depicted in Fig. 2. Apparently, this is a credit positive event.
The mechanism behind the positive impact is that raising the
provisioning coverage of non-performing exposures - NPEs,
banks will have the opportunity to trade the NPEs to the
secondary market without realizing material losses and at the
same time increase the potential NPEs write offs.
IV. FINDINGS AND CONCLUSIONS
Central bank of Kenya window boosted the commercial
banks’ profits for the year ended 2018. Most of the Kenya's
commercial banks have posted impressive profits for 2018,
benefiting from the Central Bank's one-year earnings
“protection” window in the implementation of the
International Financial Reporting Standard (IFRS 9) which
demands higher provisioning for bad loans. The Central Bank
of Kenya spared the lenders from charging increased loan-
loss provisions in their income statements in the first year of
the IFRS 9 regime (January 1 to December 31, 2018), a move
that has seen banks record lower expenses while pushing up
profits. CBK allowed banks to charge their increased loan-
loss provisions against the retained earnings in the balance
sheet and not in the profit-and-loss account, sparing them a
drastic dip in profits. Therefore, ROE and ROA maintained
upward trends, that is, ROE rose to 14.92 % in the financial
year 2018 from 14.14% in the financial year 2017. In the
same way, ROA rose to 2.38% in the financial year 2018 from
2.34% in the financial year 2017.
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Under the IFRS9, which replaced the International
Accounting Standard (IAS) 39, banks are expected to provide
for projected loan losses rather than those already incurred,
thereby reducing their profitability and eroding their capital
base. Consequently, the CBK gave Kenyan lenders a five-
year transition period to shore up their capital bases in
compliance with the new accounting standard. A review of
the commercial banks' financial statements shows a
significant reduction in loan loss provisions in the income
statements, with weakening performance of various revenue
streams because of controlled lending rates and low economic
activities. The greater impacts are likely to be observed in the
financial year of 2019 when banks are required to fully
implement the IFRS 9. This follows the end of the one-year
earnings “protection” window, CBK granted to Kenyan
lenders where they were not required to charge increased
loan-loss provisions in their income statements in the first
year of the IFRS 9 regime.
The study variables included risk relevance of credit loss
provision, NPL ratio, CET1 ratio, NPE provisioning
coverage, ROE and ROA. The risk relevance of credit loss
provisions to loans ratio was used as a conservative measure
in pre- and post-adoption of IFRS 9 period. It was noted that
non-systematic risk is reduced after the implementation of
IFRS due to the availability of information about borrowers’
credit profiles. Non-performing loans ratio reduced from
10.6% in the pre-adoption of IFRS 9 to 10.0% in the post-
adoption of IFRS 9. This is because Kenyan banks were
managing their loan book more prudently by subjecting
borrowers to tighter scrutiny and only advancing loans to the
ones with impressive credit score. The CET1 ration fell with
an average of 18 basis points across the banking industry
upon the introduction of the IFRS 9. This was because the
increased impairment charge reduces regulatory capital. The
capital volatility in financial year 2017 is negligible while a
sharp drop is observed in the first quarter of the financial year
2018 when the adoption of IFRS 9 was made mandatory.
Additional provisions raised the coverage of NPEs to
approximately 55% from 50% in the financial year 2018-
post-adoption period. This was a credit positive event because
raising the provisioning coverage of non-performing
exposures enabled banks to trade the NPEs to the secondary
market without realizing material losses. If a bank makes
higher provisions, as will inevitability be the case under IFRS
9, it will also report a commensurate dip in profitability. The
contrary findings are due to the fact that commercial banks
were granted a one-year earnings window where they were
not required to charge the increased provision to their income
statement. The enhancement of transparency in banks’
reported income and profits, under the implementation of
IFRS 9 was a positive outcome. However, the expected
regulatory capital volatility as well as the risk relevance of
key banking variables with the forward-looking information
regime captured by the LLP, raised further concerns about the
overall impact of the new accounting framework on the
banking and financial stability.
DOI: http://dx.doi.org/10.24018/ejbmr.2022.7.6.1738
RESEARCH ARTICLE
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