EFFECT OF CREDIT RISK MANAGEMENT PRACTICES ON

PERFORMANCE OF COMMERCIAL BANKS IN KERUGOYA TOWN

GROUP MEMBERS
MUTUKU ELIZABETH MWENDE BE100/G/9452/20

GLORIA MUTUA BE100/G/9807/20

WAMBUA LUCAS NGUI BE100/G/9490/20

DENNIS VUNDI MUNYAO BE100/G/9440/20

HILARY KIMATHI BE100/G/9683/20

JANE MUTHUTHIRI BE100/G/8495/20
GATHIGE JAMES GICHURU BE100/G/11951/20

RESEARCH PROPOSAL SUBMITTED IN PARTIAL FULFILLMENT OF

THE REQUIREMENT OF THE AWARD OF BACHELOR’S DEGREE IN
COMMERCE OF KIRINYAGA UNIVERSITY.

2023

i
 DECLARATION
This research is original work that has not been submitted to any other institution or
organization.

Name Reg No: Signature Date

Mutuku Elizabeth Mwende BE100/G/9452/20 ………… …………..

Gloria Mutua BE100/G/9807/20 ………… …………..

Wambua Lucas Ngui BE100/G/9490/20 ………… …………..

Dennis Vundi Munyao BE100/G/9440/20 ………… …………..

Hilary Kimathi BE100/G/9683 -------------- ----------------

Jane Muthuthiri BE100/G/8495/20 --------------- ----------------
Gathige James Gichuru BE100/G/11951/20 ------------- ------------------

This research work has been submitted for scrutiny with my consent as a university
supervisor.

Signature ……………………………………………. Date ………………………………

Dr. Mary Gitonga

KYU, Kenya

ii
 DEDICATION
This research paper is dedicated to our families, friends, supervisor who have consistently
supported and encouraged us. It is also dedicating our work to the university and all
academicians, researchers who may need to use it in future.

iii
 ACKNOWLEDGEMENT
The researchers applaud the Almighty God for His immeasurable generosity for allowing us to
complete this research paper. Our sincere appreciation to Mary Gitonga our supervisor for her
objective criticism, corrections, support and valuable advice which made the research paper a
success. We also thank our families, friends and any other party who contributed and assisted us
in one way or the other to completion of our work.

iv
TABLE OF CONTENTS
DECLARATION.......................................................................................................................................ii
DEDICATION............................................................................................................................................iii
ACKNOWLEDGEMENT........................................................................................................................iv
LIST OF FIGURE...................................................................................................................................vii
LIST OF TABLE....................................................................................................................................viii
LIST OF ABBREVIATION.....................................................................................................................ix
DEFINITION OF KEY TERMS..............................................................................................................x
ABSTRACT..............................................................................................................................................xi
CHAPTER ONE........................................................................................................................................1
INTRODUCTION.......................................................................................................................................1
1.1 Background of the Study...................................................................................................................1
1.1.1Credit Risk Management..........................................................................................................2
1.1.2 Performance..............................................................................................................................2
1.1.3 Credit Risk Management and Performance...........................................................................3
1.1.4 Commercial Banks in Kenya...................................................................................................4
1.2 Statement of the Problem................................................................................................................5
1.3. Purpose of the study.........................................................................................................................6
1.4 Research Objectives..........................................................................................................................6
1.5 Research Questions...........................................................................................................................6
1.6 Justification of the Study...................................................................................................................7
1.7 Scope of the Study.............................................................................................................................7
CHAPTER TWO: LITERATURE REVIEW.........................................................................................8
2.1 Introduction.......................................................................................................................................8
2.2 Theoretical Literature Review............................................................................................................8
2.2.1 Modern Portfolio Theory............................................................................................................8
2.2.2 Agency theory...........................................................................................................................9
2.2.3 Information Asymmetry Theory...........................................................................................10
2.3 Conceptual Framework....................................................................................................................11
2.4 Empirical Review..............................................................................................................................15
2.4.1 Credit policies and performance...............................................................................................15
2.4.2 Credit appraisal and performance........................................................................................19
2.4.3 Credit control and performance............................................................................................21

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 2.4.4 Credit monitoring and performance.....................................................................................23
2.5 Summary of the Literature..............................................................................................................27
CHAPTER THREE: RESEARCH METHODOLOGY.......................................................................28
3.1 Introduction.....................................................................................................................................28
3.2 Research Design...............................................................................................................................28
3.3 Target Population............................................................................................................................28
3.4 Sampling Design and Sampling Frame.............................................................................................28
3.6 Data Collection Methods.................................................................................................................29
3.7 Data Analysis Methods....................................................................................................................29
3.8 Reliability and Validity of Data.........................................................................................................30
3.9 Significance Test..............................................................................................................................30
APPENDIX II: Work Plan.................................................................................................................31
APPENDIX III: Budget......................................................................................................................32

vi
 LIST OF FIGURE

Figure 2.1: Conceptual framework................................................................................................28

vii
 LIST OF TABLE

Table 2.1: Operationalization and measurement of variables.......................................................29

viii
 LIST OF ABBREVIATION
ALR – Appropriated loan receivables

CAR- Capital Adequacy Ratio

CBK- Central Bank of Kenya

CDR- Constant Default Rate

CER- Coupon Equivalent Rate

CAMEL- Capital Adequacy Asset Quality Management Earning Quality Liquidity

EVA- Economic Value Added

KBA- Kenya Bankers Association

LLR- Loan Loss Ratio

LR- Loan Rate

MENA- Middle East and North Africa

MQR- Mortgage Qualifying Rate

NPL- Non- Performing Loans

NPLR- Non -Performing Loan Ratio

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NPC- Monetary Policy Committee

PR- Price Ratio

QI- First quarter

ROA- Return on Asset

ROE- Return on Equity

SPSS- Statistical Package for Social Sciences

DEFINITION OF KEY TERMS

Credit risk management - is defined by Kalui and Kiawa (2019) as "systems, controls, policies,
and procedures established by businesses to ensure efficient payment collection from clients,
thereby minimizing the potential of non-performance.

Financial performance - is a subjective assessment of a company's ability to produce revenue

by utilizing assets from its principal method of business. Kenton (2021).

Commercial banks - collect deposits, issue checks, lend money, and provide standard banking
services and products including savings accounts and CDs to people and small companies.
Kagan, (2021). (2021).

Credit monitoring - entails developing procedures for identifying and reporting potential credit
and other loan challenges in order to ensure that they are closely monitored, corrected, and
provisioned (Makovi, 2015).

Credit policy - refers to the methods used by financial institutions to collect past-due accounts.

Credit appraisal - entails screening clients to ensure they have the ability and willingness to
repay the loan on time (Kariuki&Kaijo, 2020).

Credit risk control- is the procedures and systems to reduce the existence of credit risk
associated with loan exposure (Langat &Otuya, 2019).

x
 ABSTRACT
A company's success or failure may be directly tied to how well it handles credit risk. Stability
and consistent profit production are impossible without proper credit risk management, while
losses and even the failure of a financial organization may result from ineffective credit risk
management. This study will evaluate how well-managed credit risks have been for Kerugoya’s
commercial banks. The research will use a number of credit risk management measures,
including credit monitoring, credit policies, credit rules, and credit control. The primary source
material will be collected through questionnaires sent out to bank managers in Kerugoya town.
By employing a Likert scale, the surveys will reveal how widely implemented credit risk
management measures are. The eight licensed commercial banks in the Kerugoya central
business area will have their financial reports analyzed, along with reports from the Central Bank
of Kenya for use as secondary data (CBD). To determine the link between the explanatory and
response variables multiple regression analysis will be used using SPSS. Eight commercial banks
in Kerugoya’s central business district (CBD) will be the focus. A non-probabilistic sampling
strategy predicated on a practical sampling method will be used. A descriptive approach will be
used for this study. The research is grounded on three theoretical frameworks: information
asymmetry, agency, and the modern portfolio.

xi
 CHAPTER ONE
INTRODUCTION
This chapter covers the study’s background, including the introduction of the subject, the
explanation of the problem, purpose of the study, the study’s objectives, justification of the study
and the scope of the study.

1.1 Background of the Study

According to the finance-growth nexus concept, a country's economic growth is bolstered by its
banking sector, so long as it is healthy, diverse, and well-developed (King and Levine, 1993). In
countries still in their developmental stages, the commercial banking sector is the most advanced
(Agbo and Udeh, 2021). They play an important role in connecting savings with investors. Loan
assets are the primary source of investment capital. Indeed, commercial banking's primary
function is the provision of money to borrowers. Lending risks should be spread out, fairly
valued, and allocated to the most profitable endeavors; this is what a good credit policy does
(Okoth & Gemechu, 2013). Credit risk in banking refers to the probability of loan default by a
borrower.
The rise of the financial sector in Kenya has been a driving force in the country's and the East
African region's overall economic development in recent years (Sally 2022). Kenya's banking
industry is the largest, most stable, and fastest-growing in the region. (Muritania, 2017) The
Kenyan banking business has seen several shifts as a consequence of technological development,
globalization, and deregulatory policies (CBK, 2021). The banking industry's loan portfolio has
been influenced by structural shifts for both internal and external reasons. Commercial banks
make their money via loans, therefore how they manage their credit facilities is crucial to their
bottom line (Ongore & Kusa, 2013). Every bank's bottom line will benefit from adopting and
implementing sound risk management strategies, especially those related to credit. Many bank
failures on a global and local scale may be traced back to ineffective credit risk management
practices, which in turn leads to bad financial results (Chesoli, 2021). If banks are good at
managing their credit risks, they may see an improvement in their overall financial performance
as a result of avoiding losses.
There are three main ideas that underpin this research. Modern portfolio theory, agency theory,
and the notion of information asymmetry. The concept of information asymmetry was first
proposed by economist George Akerlof in 1960. The document mandates that financial
institutions use a variety of factors when evaluating potential borrowers. Banks will be more
likely to lend to borrowers that are financially stable if there is less of a knowledge gap between
them and their clients. Back in 1952, Markowitz laid the groundwork for what we now know as
contemporary portfolio theory. An efficient frontier of optimum portfolios may be created that
maximizes return relative to risk, as predicted by the theory. The theory asserts that the idea of
credit risk management is grounded in the practice of managing working capital. This theory has
relevance to the study at hand because it sheds light on the specifics of how banks organize their
loan portfolios in accordance with their goals. When they developed agency theory in 1973,

1
Stephen Ross and Barry Mitnick were among its first proponents. It claims the agent and the
owner have competing interests in the administration of the owner's property (Tripuri, 2008).
Management's choices on credit risk management and their effects on the bottom line are
explained by the theory.
1.1.1Credit Risk Management
As defined by Masnet (2021), credit risk management is the method through which a bank's
equity and loan deficiency reserves are managed to achieve the lowest possible risk. It's a
planned strategy for dealing with the unpredictability that comes from doing things like
conducting risk assessments, developing management strategies, and putting administrative
resources toward mitigating potential dangers (Afriye &Akotey, 2012). Michael (2018) describes
management of credit risk as "a process in which risks associated with the potential for loan
repayment failures are identified, monitored, estimated, and ultimately mitigated." Credit risk
management, as defined by Kalui and Kiawa (2019), is a set of interrelated systems, controls,
policies, and procedures. This research will use the definition of credit risk management given by
Kalui and Kiawa (2019), which states that it is the set of measures taken by businesses to ensure
efficient collection of payments from clients and to lessen the chance of nonpayment.
A variety of indicators of good Credit management methods have been proposed by various
academics. Five credit risk ratios—equity multiplier ratio, capital sufficiency ratio, non-
performing loan ratio, interest coverage ratio, and provision for credit losses to total credit—are
used by Mohammed and Uttam (2022) to examine the effect of credit risk management on bank
performance in Bangladesh. In order to examine the effect of credit management techniques on
the profitability of Nigerian banks, Oluseyi (2022) employs four strategies: diversification, credit
risk insurance, market risk hedging, and capital buffer strategies. Using Risk Diversification,
Risk Assessment, and Risk Control, Catherine (2019) calculates the impact of credit risk
management on the bottom line of Uganda's commercial banks. In order to simulate XYZ's
approach to credit risk management, this study will use the practices of credit monitoring, credit
appraisal, credit policy, and credit control. It's possible that the outcome is relevant to the
financial health of commercial banks given the stronger effect these proxies have on
nonperforming loans, the primary source of credit risk.
1.1.2 Performance
Success in the banking sector is widely recognized as a key driver of economic expansion
(Samuel and Mohammed 2021). The profitability of a bank may be affected by how well the
bank performs. This is the reason for and end result of the work done by financial institutions
(2018,Ferrouhi). Organizational success may be most reliably (albeit controversially) predicted
by a bank's financial results (Melwani, 2019). The financial and market performance of a bank,
the efficacy of its human resources, the efficiency of its operations, and its emphasis on its
customers are only four of the many factors that contribute to its overall success.
The financial performance of Kenton is a relative indicator of the success of the firm in its main
business (2021). In Indonesian accounting, the term "financial performance" refers to an
organization's skill in controlling and directing its capital. Throughout a certain time frame, a
company's financial success is measured by its net income or loss. Indicators of financial health

2
are used to evaluate progress toward objectives, facilitate the release of funds, and boost
investment opportunities for banks. It has been shown that (Heresmans, 2019). Financial
performance is a statistic that may be used to compare the success of different firms or
industries.
The significant shifts that have occurred in the banking and finance industries of all advanced
nations have boosted the relevance of financial performance analysis of banks. The success of a
commercial bank's finances has a significant impact on the organization's plans for the future.
Due to the fact that financial analysts in the UK and NZ commonly use the company's annual
report on finances as a data source, it is hard to ascertain the health of a business or organization
without first reviewing its financial statements. Financial reports ( Profit and loss account,
balance sheet) undoubtedly play a vital role in the fundamental approach of security analysis.
Among the most essential parts of a set of financial statements are the ratios presented therein.
Understanding a company's profitability is necessary prior to going on to debt and liquidity
research.
The effectiveness of an organization is determined by the efficiency with which it achieves its
goals using the resources at its disposal (Sollenberg &Anderson, 1995).
Financial profitability of commercial banks in Bangladesh was evaluated by Mohammed and
Uttam (2022) using return on equity, Tobin's Q, and economic value added. Oluseyi (2021) use
the Price Earnings (PE) ratio as a surrogate for the efficiency of banks. Catherine (2022), Saleh
& Abu Afifa (2020), Abdelaziz et al. (2020), Ekinci & Poyraz (2019), and Tekalagn et al. (2015)
are only few of the academics that have used ROA and ROE to evaluate financial institutions.
This research will follow in the footsteps of these others by gauging effectiveness using
measures of consumer happiness, professional development, and internal controls. In particular,
customers' level of contentment with the service they have received is a major factor in shaping
their wants and desires for future purchases. Therefore, satisfied customers are inclined to
recommend the company to others. The existence of returns in a bank is predictable to safeguard
savers and creditors when measuring the success of a bank's management and anticipating future
bank profits. Another aspect of financial statements that causes anxiety is profits, since these
numbers are often used as a proxy for a bank's success or failure in fulfilling its objectives.
1.1.3 Credit Risk Management and Performance
Financial companies might get monetary benefits from adopting credit risk management
practices. Financial results may be improved by the systematic assessment, management, and
monitoring of credit risks. A. Kariuki, et al (2016). Commercial banks' bottom lines are impacted
by how well they handle credit risk in their lending portfolios. An effective credit risk
management system will determine how well a bank's loan portfolio does. Banks need to
minimize the possibility of loan default since losses on principal and interest, recovery expenses,
and the management of opportunity costs all eat away at their bottom lines. Three Muslims:
Muhammad, Sarwar, and Rehman (2019). Successful management of credit risk is crucial to the
bottom lines of financial organizations. Financial results may be improved by the systematic
assessment, management, and monitoring of credit risks. To wit: Kariuki, 2016. (2016).
Commercial bank loan portfolios thrive or flounder based on credit management practices.

3
Banks' principal purpose is lending, thus it's important that all regulatory requirements be met.
Inadequate safeguards against default, postponed payments, and reckless lending all contribute to
the growth of credit risk (Vadova, P.2003). The lending business is commercial banks' bread and
butter, and with that comes a fair amount of credit risk. Credit risk in commercial banks may be
analyzed either globally or for individual investments. A drop in bank profitability is possible if
credit risk is not identified and handled effectively. If a bank doesn't manage its credit risk, it
may wind up with lots of bad loans and unpaid bills, hurting its bottom line. It's a double loss for
the bank: they don't get the principal plus the interest they were counting on. Inadequate loan
management also increases the price of debt recovery. Because of this, the bank is compelled to
record losses, which lowers its performance. So, in order to boost commercial banks' bottom
lines, it's important to study proxies for credit risk management.
1.1.4 Commercial Banks in Kenya
Commercial banks are the banking organizations that accept deposits, provide checking account
services, lend money, and sell basic financial products like Certificates of deposit and savings
accounts to individuals and small businesses. (Kagan, 2021). Commercial banks, as defined by
(Rashmi 2022), are organizations whose primary economic function is to operate as a financial
intermediary by accepting deposits from the general public and using those funds to make loans
and provide credit to customers in exchange for interest. A commercial bank is defined as a
financial institution in this research that deals primarily in the acceptance and lending of
customer deposits and the provision of related banking services. Accepting deposits, extending
credit, managing the bank's funds and making payments, as well as providing other agency and
advisory services, are all areas of focus for commercial banks. Commercial and business banks
work together to provide financial services to small and medium-sized organizations. Size and
complexity may be used to divide up clients. Gabriel 2022).
The Central Bank of Kenya is the primary controller of commercial banks in the country (CBK).
Banks in Kenya may be roughly divided into two categories, the first being those owned by
locals and the second being those owned by foreigners. CBK (2022) reports that as of this
writing, there are 39 commercial banks operating in Kenya. With a 1% drop to 12.5% from
13.5% in Q1' 2022, the gross Non performing loans (NPLs) ratio enhanced the asset quality of
listed banks. The nonperforming loan (NPL) percentage for the total banking industry was 14.1%
in April 2022, according a news release from the MPC. As of Q1 2022, listed banks are still
taking on debt from foreign lenders in order to shore up their capital reserves and increase their
capacity to provide credit to SMEs that are seen as higher risk.
In Kenya, commercial banks have banded together to form the Kenya Bankers Association
(KBA), which acts as an advocate for commercial interests and tackles problems faced by its
members. According to the KBA's study (2020). CBK has issued recommendations for
managing the risks associated with climate change, and as a consequence, banks are shifting their
long-term financing toward greener, more sustainable, and less commercially vulnerable
investments. Review of the Stocked Banking Industry for the First Quarter of 2022. The power
to license and regulate previously unregulated digital credit issuers was granted to CBK by a new

4
statute adopted by CBK. There was a grace period of six months after the rules were issued on
the 18th of March 2022 for digital lenders to apply for a license from CBK.
1.2 Statement of the Problem
The commercial banking sector is crucial to the economy as a whole because of its involvement
in the issuance of credit. There have been risky situations recently that have mostly affected the
credit ratings of corporations and banks (World Bank report June 2022). Credit appraisal, credit
monitoring, credit control, and sound lending rules are all examples of managerial proxies that
have been shown to contribute to banking sector expansion. By following these procedures,
banks can guarantee that only reputable customers obtain loans, which helps to lower the number
of bad loans in circulation and boost overall efficiency (Herb et al, 2022).
The banking industry is the backbone of every country's monetary system since it takes part in
vital functions of the economy (Khan Et.al, 2020). A financial organization runs the danger of
having borrowers who do not pay their obligations if it does not use good management
procedures. The safety of depositors' funds, stockholders' investments, and workers' wages, as
well as the national economy as a whole, depends on the health of the nation's banks (Muhiudin,
2014). Credit risk management is an essential practice that boosts financial performance and
should not be neglected by any firm.
Etienne et al. (2022) review the literature from all around the world to find out how credit risk
management has affected banks in the MENA area. A nonlinear link between market
performance and credit risk management is discovered. On the other hand, Khan et al., (2020)
look at the impact of credit risk on the security of banks in Pakistan. They determine that
nonperforming loans (NPLs) have a deleterious impact on the efficiency and profitability of
Pakistan's commercial banks. Bishnu (2019) looked at how credit risk management impacts a
bank's bottom line. Here in Nepal. There was a discrepancy in the results between the techniques
used for managing risk and their impact on financial outcomes for banks. In Nepal, the CAR,
NPLR, and MQR all show favorable correlations with bank performance, whereas the CDR and
RS all show negligible effects on bank health and growth. There is a missing piece of
information from these research that calls for a regional investigation.
Credit risk management at banks in the Middle East and North Africa (MENA) is analyzed from
a global viewpoint by Etienne et al., (2022) using secondary data. Bank performance is not
impacted by credit risk management, according to the research. By analyzing secondary data,
Siddique (2022) analyzes how credit management methods and bank-specific variables interact
to affect bank performance in India and Pakistan. Credit risk management's impact on banks'
bottom lines varies depending on their chosen approach, according to the research. Bank
profitability is shown to be significantly impacted by NPLs, CER, and LR, but significantly
influenced by CAR and ALR.
To examine how credit risk management measures have impacted Standard Chartered Bank of
Kenya's financial performance, Karanja (2015) analyzes qualitative data. The research concludes
that credit risk management strategies considerably boosted profits by lowering the costs of
doing business and making it easier to recover from any losses that did occur. According to

5
Onyang'o (2017), the impact of credit risk management on the bottom line of Kenya's
commercial banks is analyzed. Commercial banks' bottom lines are shown to be unaffected by
the Loss Given Default (LGD) ratio, the Capital Adequacy Ratio (CAR), and the Loan Loss
Provisions (LLP) ratio.
Several holes may be seen in the aforementioned research. Several studies have been conducted
on this subject from a global perspective, but there is still need for more research from a regional
perspective. The majority of research have also relied on secondary data, which might be
affected by measurement bias. Moreover, the research reaches different results on the connection
between the independent proxies bank profitability and the sovereign proxies risk management
techniques. As a result, the purpose of this research is to fill such gaps by analyzing how
commercial banks in Kerugoya Town fare as a result of their credit risk management
procedures.
1.3. Purpose of the study
The purpose of this study is to investigate the impact of credit risk management practices on the
performance of commercial banks in Kerugoya Town, offering practical insights for both the
banking sector and local regulators, as well as contributing to the body of knowledge in the field
of finance and risk management.

1.4 Research Objectives

The study would seek to achieve the following objectives:
i. To investigate the influence that credit risk management has on the performance of
commercial banks in Kerugoya town.
ii. To assess the impact of credit monitoring on performance of commercial banks in
Kerugoya town.
iii. To establish the influence of credit appraisal on performance of commercial banks in
Kerugoya town.
iv. To determine the effect of credit policy on performance of commercial banks in
Kerugoya town.

1.5 Research Questions

The study would seek to answer the following questions
i. What is the influence that credit risk management has on the performance of commercial
banks in Kerugoya town?
ii. What is the impact of credit monitoring on performance of commercial banks in Kerugoya
town?
iii. What is the influence of credit appraisal on performance of commercial banks in Kerugoya
town?

6
iv. What is the effect of credit policy on performance of commercial banks in Kerugoya town?
1.6 Justification of the Study
The results of this study would be valuable to the prior literature as well as current hypotheses,
for instance. According to the theory of information asymmetry, the loan payback rate would be
significantly reduced if it were possible to share information about clients' credit worthiness with
banks. (Weinberg, 2006). In this research, an attempt will be made to provide new information to
the theory by determining the influence of certain factors, such as credit appraisal, on the
performance of commercial banks. It will be useful for the management of commercial banks as
it will give an awareness of the practices of credit risk management and their impact on financial
performance. As a result, it will be able to assist them in the process of drafting credit policies.
Also, the study will offer trustworthy data that the government may use to build strategic
recommendations for the financial sector. As a result of this study, other academics and students
will get information that is essential, and a foundation will be established for individuals who are
interested in exploring the topic further and doing further research.
1.7 Scope of the Study
The primary focus of the research will be on the way in which credit risk management might
have an effect on the overall financial performance of commercial banks located in Kerugoya
town. The study will look at the financial performance of commercial banks as a dependent
variable, while credit monitoring, credit assessment, credit policy, and credit risk management
will all be investigated as independent factors. For the purpose of this research, only primary
data will be utilized as a source of information.

7
 CHAPTER TWO: LITERATURE REVIEW

2.1 Introduction
This chapter provides an overview of the literature review conducted so far, including the
literature's theoretical and empirical foundations, as well as a critical analysis of the current
literature and an identification of its shortcomings and future directions.

2.2 Theoretical Literature Review

This section examines many ideas that are proposed in connection with management of credit
risk and performance. These theories include the contemporary portfolio theory, the information
asymmetry theory, and the agency theory.

2.2.1 Modern Portfolio Theory

The theory of modern portfolio was proposed by Markowitz (1952). It asserts the possibility of
optimal portfolios that maximize anticipated return at a given level of risk. Markowitz presents a
mathematical justification for why and how a diversified portfolio might reduce an investor's
exposure to risk. Calculating portfolio risk is all that's left of the portfolio selection difficulty
(Reilly and Brown, 2011). Credit risk management is based on the premise that proper
management of working capital is essential, according to modern portfolio theory. A solid
working capital strategy is essential to the smooth operation of any company. So, it is essential
that there be sufficient funds in the company's bank accounts at all times. Also, in order to
maximize profits, the money now set aside as working capital should be given back as quickly as
feasible (Nzuve, 2013).

The contemporary portfolio theory relies heavily on this basic motion. Investing a portfolio
purely on the merits of each individual investment is inappropriate. Instead, it's important to
think about the fee structure of the portfolio as a whole in light of the price fluctuations of
individual assets. The process of investing entails balancing the potential benefits with the
potential dangers. Maximum expected return assets are often high-risk investments. The modern
portfolio theory elucidates ways to choose a folder that generates the maximum feasible
anticipated earning for a certain level of risk. Modern portfolio theory provides an alternative by
outlining how to choose a portfolio with the minimum feasible risk for a given anticipated return
(the centered forecasted return cannot be more than the highest yielding accessible asset)., except
bad holdings of property are available). That's why diversity is such an integral part of today's

8
portfolio theory. With optimistic assumptions and a distinct mathematical definition of risk and
return, modern portfolio theory elucidates where to find the most effective diversification
approach.

The major advantage of a portfolio is the ability to develop association with less risk and
probably better projected returns than may be gained by investing in individual stock
(Butterworths, 1990). In a nutshell, the theory examines how many permutations of securities
affect one another in terms of both risk and reward. A portfolio's anticipated return is calculated
by taking the simple weighted average of the returns on the individual stocks in the portfolio.
The portion of a change fluctuation that corresponds to a protection is separate from and
unrelated to the price fluctuations of other securities. As a result, the investor has the option of
lowering the total amount invested or spreading it out across a wider range of assets. As loans
represent the banking industry's financial assets, this theory may be used to elucidate why and
how commercial banks should build diversified loan portfolios. The portfolio may be tailored to
a certain need, time frame, sector, etc. The idea isn't perfect since Markowitz didn't set out to
address mortgage portfolio management but rather the importance of purchasers' financing
portfolios when making investments and taking on risk. The concept does not go into detail on a
few important topics, such as how financial institutions should organize their loan portfolios to
get the best possible return on investment with the least possible amount of risk. In its current
form, it no longer explains how to assemble a portfolio devoid of danger. Many dangers
associated with the management of a mortgage portfolio by a bank are also ignored by the
theory. As a result, the idea cannot be used in a comprehensive manner to the management of
credit score risk in financial institutions.

2.2.2 Agency theory

In 1973, Stephen and Berry created agency theory to help resolve conflicts between different
parties. It contended that when it came to the management of owner funds, the agent and the
principle had competing interests (Tipuric, 2008). Besides seeing use in corporate governance,
the idea is also finding its way into other fields of research. It is relevant in situations where
owners have appointed agents to act on their behalf. The original inspiration for the theory of
agency came from a need to characterize the dynamic between the agent and the principle in the
administration of large businesses.

9
The idea classifies company people into three categories: participants, shareholders, and
managers. Managers and workers of a company may be motivated by their own self-interest, but
they are nonetheless accountable to the shareholders for the choices they make. Padill, (2002)
argues that managers may be driven by self-interest rather than the agreement's objectives, giving
in to chances rather than sticking to commitments, and behaving in ways that benefit persons
other than shareholders (Bhimani, 2008). In this way, the idea may be used to illustrate a
partnership in which one partner acts as the manager of the other.

According to Jensen and Meckling's agency theory from 1976, people always do what's in their
own best interests, based on the incentives and punishments available to them. According to the
notion, managers contribute significantly to efficient management by being accountable for their
responsibilities and authority. It asserts that a key component of good governance is holding
management to account for their actions and choices. It further alleges that the management,
shareholders, and debt holders all have competing interests since the managers are more
concerned with maximizing their own wealth than the shareholders'. The company's goal of
maximizing shareholder value might be jeopardized if it either takes on too much risk or avoids
high-risk initiatives despite their positive net worth.

This research is supported by the literature because it argues that performance-based pay for
managers is a crucial tool for ensuring that shareholder value is maximized. To better examine
and define risk management processes, management will be encouraged to do so by this policy.
Credit managers will be subject to such oversight to guarantee efficient implementation and
frequent assessment of credit risk management strategies.

2.2.3 Information Asymmetry Theory

In 1970, George Akerlof first put out this notion. He saw that markets had asymmetry in
information, meaning that one side has more and better knowledge than the other. The quality of
the goods is unknown to the customers, but known to the sellers. A bank that knows more about
the loan than the borrowers might use this to its advantage. Because of this, borrowers could
make the poor choice of settling for a lower quality product. In a similar vein, banks that use
adverse selection to lend to consumers with unclear creditworthiness risk attracting low-quality
assets with high risk of default owing to the lack of complete knowledge about the quality of the
asset.

10
Even lavish actions are covered under the principle. Asymmetric information occurs when one
party to a transaction has access to necessary details while the other does not (Stieglitz) (1975).
Akerlof et al. (1961), who won the economic Nobel Prize in 2000 together, are among the
theory's most prominent proponents. In his analysis of the market for lemons (Akerlof, 91970),
the author highlights the interplay between uncertainty and the market mechanism by contrasting
data asymmetry. Spence (1973) believes that businesses take a risk when they hire new workers
since it is unclear whether or not they will be able to successfully run the company and make a
good contribution to its productivity. He distinguishes one kind of situation from others using
logic. He acknowledged the realities that exist between employers and workers, citing situations
in which low wages create a stubborn equilibrium point that blocks wage bargaining in some
markets.

The notion of signaling and how effectively it works to resolve the information asymmetry
problem are the two primary methods. In 1961, economist Joseph Stiglitz proposed the screening
hypothesis. It states that the one who is unaware of the situation may easily convince the other
party to share the information with them. Offering a variety of choices allows one to make a
decision based on the information they have at their disposal. To illustrate, assume that the seller,
who is more knowledgeable than the buyer, decides to use the services of salesmen, mortgage
brokers, stock brokers, and other experts.

This research is supported by the idea of asymmetric information, which states that in credit
markets with imperfect information, banks may mitigate default by providing customers with
strong incentives to disclose relevant details about the loan's risk profile throughout the
application process. They show that increasing interest rates may not be the best course of action
for banks looking to limit their exposure to poor loans, since doing so would send a signal that
they are unwilling to lend to the afflicted sector of the market. The theory's applicability to the
research at hand stems from the fact that it expands our understanding of how commercial banks
may boost their bottom lines via better loss prevention strategies facilitated by credit risk
management procedures.

2.3 Conceptual Framework

The research variables are presented within a conceptual framework, which also directs
quantitative conceptualization, operationalization, and measurement of study variables (Neuman,

11
2000 Schindler) (2003). It is made up of the following independent variables: credit policy,
credit risk management, credit assessment, and credit monitoring, while the financial
performance is the variable that is being measured.

Concerns about how financial institutions go about collecting on overdue accounts gave rise to
the concept of "credit policy," which is now an operationalized field of study (Malik &Ahmed,
2015). Commercial banks often utilize demand letters, in-person reminders, phone calls, and
attachments of mandated savings to collect on delinquent accounts (Gatuhu, 2013). Customers'
propensity and means to make loan repayments on time are evaluated throughout the credit
assessment process (Kariuki and Kajio 2020). The SC, S model is used by lending institutions as
a basis for their decisions about who to provide credit to. This framework includes such factors
as credibility, assets, resources, and status (Abed 2013). Credit risk management is the practice
of implementing policies and processes to limit the potential for financial loss due to
overextension of credit (lagat and ofuya, 2019). Methods of reducing exposure to default include
risk-based pricing, covenants, diversification, and management of loans in default (Kassower,
2017). The "monitoring" part of an internal audit of a bank's operations, accounts, and loans
involves a regular assessment and evaluation of the system's internal control procedures (Mutua,
2015). The success of a company monetarily is evaluated in terms of how well it meets the needs
of its customers, how much it expands its knowledge.

12
Independent variables. Dependent variable

Credit monitoring

 Check on
loan
 Credit
disbursement

Credit appraisal

 Collateral
 Capacity Performance
 characters
 Customer
satisfaction
Credit policy
 Learning and
 Credit limit growth
 Debt recovery
 Credit term

Credit control

 Credit
committee
 Loan default
Figure 1: Conceptual framework

Source: Authors (2023)

13
Operationalization and measurement of variables

Variable Measurement
Credit appraisal Using a 5-pointLikert Scale where 1
 Collateral represents to no extent, 2-to a less extent, 3-
 Capacity to average extent, 4-to a large extent and 5 -

 Characters to extreme extent

Credit control Using a 5-pointLikert Scale where 1

 Credit committee represents to no extent, 2-to a small extent,
 Loan default 3-to average extent, 4-to a large extent and 5
-to a extreme large extent
Credit monitoring Using a 5-pointLikert Scale where 1
 Credit disbursement represents to no extent, 2-to a small extent,
 Check on loan 3-to average extent, 4-to a large extent and 5
-to extreme extent
Credit policies Using a 5-pointLikert Scale where 1
 Credit limit represents to no extent, 2-to a less extent, 3-
 Debt recovery to a moderate extent, 4-to a large extent and

 Credit term 5 -to extreme extent

Performance Using a 5-pointLikert Scale where 1

 Customer satisfaction represents to no extent, 2-to a less extent, 3-
 Learning and growth to a moderate extent, 4-to a large extent and
5 -to a very large extent
Table 1:Figure 2.1 Operationalization and measurement of variables

14
2.4 Empirical Review
Several academics have looked at the influence that credit risk management has on bank c
performance as a result of the fact that credit risk management poses a significant danger to the
overall performance of banks.

2.4.1 Credit policies and performance

Kessey (2015) finds that credit risk management is a significant concern. Kessey performed his
study in Ghana to learn more about how financial institutions there handle credit risk. During his
study, Kessey looked for barriers to implementing credit risk management policies, procedures,
and technologies in Ghana. According to the research, the presence of credit risk is a concern for
commercial banks regardless of how solid their lending conditions are on paper. Kessey found
that some banks had sound credit policies but weak implementation. The study looked at the
credit risk management practices and portfolio quality of the six selected banks. The survey
found that credit risk is still a bank's top priority, and that despite the existence of credit plans
and rules, implementing them has proven challenging. Credit risk was shown to be the root cause
of the poor quality of the bank's loan portfolio. A lack of frequent credit policy reviews and the
absence of efficient credit recovery methods were also identified.

In her research, Maina Kamotho (2022) looked at how credit rules affected the financial services
offered by Islamic banks in Kenya. Focus was placed on how various factors, such as credit
criteria, loan processing methods, and credit collection strategy, affect the efficiency with which
financial instruments function. The ideas of agency, credit power, credit risk, and credit
information were all taken into account. It examined three Islamic-only banks in Kenya using a
descriptive research approach. Ninety-six bank managers were surveyed; this group included
debt managers, financial analysts, credit collectors, and other legal advisers who specialize in the
debt division of their respective financial institutions. There was not enough people for a Census
to be necessary. Primary and secondary sources, including the Central Bank's published
financials and other publications, were mined for information. Information gathered from Kenya
from 2010 to 2019. Pilot testing was performed on the instruments to guarantee their accuracy
and precision. The dependability coefficient (Cronbach Alpha) was used. Metrics including
means and standard deviations, as well as inferential statistics, were used in the investigation.
Findings indicated that credit criteria, loan processing methods, and debt collection practices
15
significantly contributed to bank profitability. Those in charge of accounts payable may do a lot
to boost the company's bottom line by establishing a clear strategy for collecting on overdue
loans. To improve their bottom lines, Islamic banks in Kenya should follow certain simple
operational rules for loan management. The current financial situation requires the loan
administrator to strive toward raising the current loan amounts. Management at the Islamic bank
and policymakers like the Kenya Bankers Association were two groups that may benefit from the
study's findings.

The impact of credit risk management strategies on the profitability of Kenyan commercial
banks was analyzed by Kimani Njenga (2021). The researcher used a descriptive method to
answer the study's hypotheses. The research sample consisted of 40 different commercial banks.
It was possible to acquire quantitative secondary data thanks to the use of a data collecting
application. To compile our forecast for the years 2016-2020, we used records from the Kenyan
central bank and the Kenya Bureau of Statistics. Primary data were gathered by means of
questionnaires. Both descriptive and inferential statistics were utilized to analyze the data in the
research. Descriptive analysis included central tendencies, outliers, and other measures of central
tendency, whereas inferential analysis took into account mean, normalcy, and standard deviation.
Researchers found a strong link between loan policy and return on equity. The results also
revealed that credit.

To study how loan policy affects the bottom lines of pharmaceutical companies traded on India's
Bombay Stock Exchange, Mohammad Yameen (India), 2020 examined a sample of 82
companies and data from 2008 to 2017. (BSE). Collection and payment deferral periods are used
to evaluate a company's credit policy, while return on assets is used to evaluate its profitability
(ROA). It is shown that the control variables leverage, company size, and age all have a negative
influence on pharmaceutical firm profitability, whereas the number of days' collection period and
the number of days' payment deferral period both have negative and significant effects. Financial
managers at pharmaceutical businesses could shorten the collection time and increase the
deferral period to reduce the risk of bad debts. To further prevent bad debt, it is recommended
that they check the credit of prospective clients. The results also demonstrated a substantial link
between lending policies and ROA.CBK ought be strongly engaged in management of credit to

16
ensure that appropriate procedures are maintained for the protection of commercial banks and the
clients as it takes part in important functions in policy formation.

The effects of Jordanian commercial banks' lending procedures on their financial performance
were studied (Al-hawatmah, z., & Shaban, O.S., 2020). The descriptive analytic method was
employed in this research to describe and evaluate the study's theoretical foundations. The
foundational information was gathered with the use of a questionnaire developed especially for
this endeavor. The sample for the study entailed the 13 commercial banks in operation in Jordan
during the years 2016 and 2020. According to the data, lending policies (and their combined
determinants) have a 75.3% influence on the profits of Jordanian commercial banks. In addition,
53.9% of the banks' profits have been linked to the specific credit risk procedures they've
implemented. This result contradicts the results of Munyiri (2010), who found that easing
lending policies would boost demand and boost bank profits. The research concluded that
Jordanian commercial banks would benefit from focusing on a clearly defined task,
responsibility, and power allocation in accordance with lending policies. This would give
employees at all levels of the company the authority to make important credit decisions quickly,
which would increase the company's customer base and profit margins.

Research conducted by Lorna Riasi in 2018 examined the impact of credit risk management on
the bottom lines of deposit-accepting saccos. This study used a descriptive research strategy.
Eighteen Saccos in Mombasa County, Kenya, were employed in the research, and their
performance between 2014 and 2015 was analyzed. Sacco's and other websites were mined for
supplementary information used in this investigation. Financial statement data was analyzed
using multiple regression to see how credit risk management at Sacco affected the company's
bottom line. Excel and SPSS were used to analyze the data descriptively. Results showed a
favorable correlation between financial success and credit management techniques. A positive
correlation was found for credit rules, suggesting that they had a beneficial effect on business
outcomes. Based on the findings of this research, Saccos are encouraged to put more money into
credit policy in order to improve their financial standing.

Chepkoech, 2016) investigated the link between the lending practices of commercial banks in
Eldoret town and the banks' bottom lines. To do so, the study examined the impact of
management policies, the role of capital adequacy requirements, and the impact of shares,

17
savings, and deposits on the financial performance of commercial banks in Eldoret town. Both
asymmetric information theory and the idea of transaction costs informed this research. 156
participants were selected from the pool of bank branch managers and credit officers. Purposive
sampling was used to choose branch managers of commercial banks having licenses from the
Kenyan central bank, and a simple random sample process was used to select credit officers for
the research. Data collection occurred via the use of questionnaires, and analysis was performed
using both descriptive and inferential statistics. Findings indicated that the regression weights for
all of the independent variables were statistically significant: shares of savings and deposits
(p=0.000), capital adequacy (p=0.40), management policies (p=0.002), and liquidity
management (p=0.036). Hence, the variables for capital adequacy, liquidity management,
management practices, and the proportion of savings and deposits are all predictors of financial
success. In the context of commercial banking. The paper recommends that commercial banks
implement lost loan provision strategies, regularly evaluate lending regulations, and invest in
training for bank management and personnel. Commercial banks should, as a last step, check that
their internal management procedures are open and honest, productive, and protective of
everyone's rights. Loan policy issues are another area where commercial banks need to solve
them correctly. The article suggests more study be conducted to identify the elements that affect
loan performance in Kenyan commercial banks. The findings of this research will provide light
on the interplay between loan performance and other variables, information that might be used to
inform the development of risk management policies and laws in Kenya's commercial sectors.

Dorcas Wanja Mwaura and Jagongo Ambrose evaluated influence of loan policies on the
profitability of Kenyan commercial banks in 2017. Primary purpose of the research was to
examine the connection between credit data and outcomes, as well as the connection between
loan parameters and financial outcomes. The challenge identified in the research was that
commercial banks with stricter credit standards were losing business to others with more lenient
policies, which in turn impacted the performance of the former. This study used descriptive
research techniques. The sample included all 43 commercial banks with primary offices in
Nairobi's CBD. To collect primary data, we used drop and pick questionnaires with closed-ended
questions. The intended audience consisted of credit officers from commercial banks in Kenya.
Inferential and descriptive statistics were applied to investigate the data. The survey also found
that commercial banks heavily weigh the borrower's credit history when deciding loan amounts,

18
suggesting that the feature of the credit terms and standards have significant influence on
competition of banks. The findings indicate that credit policy contributes to commercial banks'
success.

Shukla 2016 investigated state of management of credit at Rwanda's commercial banks. Total of
57 people who work in the credit division at Equity Bank answered questions for a descriptive
study. All of the people in the population were included in the sample because of the method of
sampling that was used. This study's primary data came from questionnaires the researcher had
to administer herself. Statistics, descriptive and inferential, were applied to examine the facts.An
important correlation between credit policy and bottom line outcomes was found.

In 2016, Kyagoyire & Shukla investigated the effect of credit management on the profitability of
Rwanda's commercial banks. A total of 57 people who work in the credit division at Equity Bank
answered questions for a descriptive study. All of the people in the population were included in
the sample because of the method of sampling that was used. This study's primary data came
from questionnaires the researcher had to administer herself. Statistics, both descriptive and
inferential, were used to examine the data. Data analysis showed a substantial connection
between credit policy and business outcomes.

2.4.2 Credit appraisal and performance

Robert and Mary (2018) researched how credit risk management practices affected the
profitability of Kenya's commercial banks. This study analyzed the impact of loan demand,
lending control tools, and debt collection processes on the efficiency with which Kenyan banks
provided their monetary services. The descriptive search strategy was used for the study. At
year's end, the study said, all commercial banks in Kenya with active licenses had been included
in the demographic targeted by bank supervisors. The observing group consisted of loan officers
and financial managers from commercial banks. The census of the 39 commercial banks
included an average of 78 randomly selected participants. The investigation included both
primary and secondary sources of information. The results of the research indicated that
commercial banks in Kenya benefited from a positive and statistically significant correlation
between loan appraisal and financial performance. The research recommends that commercial
banks be more open about their loan approval and refinancing processes, and set clear lending
limits for individual customers.

19
Wangi (2018) looked at the impact that credit risk management proxies have on the efficiency of
Kitengela's commercial banks. The sample size was 50 individuals from from commercial banks'
credit departments. The researcher used convenience sampling to narrow their attention to only
five commercial banks in Kitengela (equity, cooperative, Barclays, KCB, and Family bank).
Almost all of the study's findings came from first-hand interviews and observations. The former
was amassed by means of a self-administered survey with just one- or two-choice items.
Descriptive statistics, such as the mean and standard deviation, were used to classify and
summarize the data. To examine the data, we used a social science statistical program (SPSS).
Results were mostly presented using a pie chart, frequency distribution tables, and a bar chart,
with ANOVA employed for analysis. The results show that credit rating had a beneficial impact
on performance without being statistically significant.

Credit risk management activities and bank performance: an investigation by Everylne, 2016.
This study used a descriptive research strategy. Research included 43 banks in Kenya, however
only 39 of them contributed data. Both primary and secondary information were used in the
investigation. Questionnaires were sent to acquire primary data on credit risk management
practices, and public accounting records from a range of banks were mined for secondary data on
financial performance during a five-year span beginning in 2011. The acquired financial data
was summarized using descriptive statistics like mean and standard deviation before being
examined using regression and correlation. According to the study's findings, commercial banks'
financial outcomes are positively correlated with their perceptions of credit risk. The results of
this research indicate that the quality of commercial banks' loan rating systems is related to their
economic success in Kenya.

The extent to which the Bank of Equity relied on customer evaluations for credit management
was investigated by Drs.Shukla and Kagoyire (2016). The study was done using a descriptive
cross-sectional design. The participants in this research were 57 people working in the credit
department of Equity Bank. They administered surveys to collect data, which was subsequently
tabulated and analyzed using SPSS. The paper finds that borrower credit evaluation is relied on
by Rwandan commercial banks for loan management. It was also determined that client
assessment is a significant proxy for loans and that particular components of security are vital
during such appraisals, since they take into consideration the type of the customer seeking loan

20
instruments. Lack of consideration for the client's capacity to repay the debt constitutes default.
At long last, it found that Rwanda's commercial bank employees were up to the task of client
evaluation. In order to ascertain how credit appraisal affects the health of commercial banks,
Njiru (2017) conducted studies. Commercial banks conduct credit checks using a wide range of
methods, including but not limited to those listed above. The CRB (used by 91%) and the 5Cs of
credit (87% of respondents) were named as the most common methods of establishing credit.

77% of people said that commercial banks do utilize customers' credit histories. Nevertheless,
the credit scoring methodology was not as popular as other approaches. Just around half of those
polled believed that their own organization really did this. It is expected that loan performance
would increase dramatically with the widespread and consistent use of the aforementioned
strategies.Deposit-accepting SACCOS in the County of Nairobi were studied by George and
Isabela (2017), who looked at the effect of credit assessment processes and loan monitoring on
earnings. The study used a descriptive research strategy. The sample size consisted of 80 people
from 40 deposit-taking SACCOs in Nairobi County, all of whom had been tasked with
controlling credit risk. The research used a random sampling method. The questionnaire served
as a means of collecting data from the participants. The information gleaned from the
questionnaire was recorded in tabular form, coded, and run through the SPSS v.21 computer
software for analysis. Positive and statistically significant effects of credit assessment proxies on
the financial performance of SACCOs in Nairobi County were found in the regression analysis.
According to the results, it is imperative that SACCOS and other financial institutions implement
appropriate credit evaluation and credit monitoring methods.

2.4.3 Credit control and performance

(Maurice &Gerald 2021) researched on South Sudan's commercial banks' results and credit risk
management practices. The research set out to evaluate the connection between credit risk
management and financial institution success. Credit risk management proxies were analyzed to
determine their usefulness for identifying, valuing, and controlling credit risks. The study in Juba
used a cross-sectional research approach and interviewed 124 people with knowledge of the
credit operations at 7 sample banks. Data was collected by cluster, purposive, and sample
random methods using structured questionnaires and interview procedures. The research
demonstrated a statistically significant positive correlation between credit risk management
practices and financial institution efficiency. The results of the credit risk management system

21
were striking. The research also found that a 37.1% improvement in bank performance was
associated with a 1% improvement in credit risk management. Asset quality was affected by
credit risk management in two ways: beta=0.371 and alpha=0.000. The research found that
improving credit risk management as a structural necessity necessitates striking a balance
between company demands and internal regulations.

Loan portfolio performance and credit risk management were analyzed by (Smail 2019) for
deposit-taking savings and credit cooperative societies in Garissa County, Kenya. The study set
out to investigate the effects of credit risk management strategies on the profitability of loan
portfolios held by SACCOS. Based on the findings of this study, SACCOs use risk management
measures and reaction systems to limit the impact of potential disasters. In this study, we used a
descriptive approach to the investigation. This study aimed to survey the members of six
different deposit savings Saccos. Fifty-three loan officers participated in the research and were
selected using a purposive selection technique. This study used questionnaires to collect primary
data. Descriptive statistics were used to analyze the data, which resulted in the creation of charts,
tables, means, and variances. Multiple linear regression was used as well. In light of the findings
presented here, it is clear that Saccos need to have robust credit risk management policies.

(Priscar, 2016) looked at how commercial banks in Kenya handled credit risk and how it affected
their bottom lines. According to the results, managing credit risk correlates well with financial
success. It was discovered that credit risk management is correlated with financial results by
85.5%. The study used a purely descriptive methodology. Both primary and secondary sources
were used in this investigation. Questionnaires were the primary method of data collection. Data
was analyzed using a multiple regression model for this investigation. The findings of the study
argued for a revised approach to bank credit risk management.

Jedidah (2018a) used a descriptive study methodology to examine the effect of commercial
banks' credit risk management procedures on their profitability in Kitengela, Kenya. From what
was uncovered, it was clear that effective management of credit risk contributed significantly to
financial success for banks. Fifty bank workers from the credit function unit were selected as the
study's participants. The research also used a convenience sample approach to narrow its focus to
only five commercial banks in Kitengela. Primary information was gathered using a self-

22
administered questionnaire for this research. Pie charts, frequency distribution tables, and bar
graphs were used to display the results from calculating mean and standard deviation from the
collected data. Banks were urged to put money on alignment and channel optimization in the
report to boost performance. Researchers determined that credit risk management control is an
integral part of any comprehensive risk management strategy for financial institutions. Recent
study by DrShukla and Kagoyire (2016), who set out to analyze the effects of credit risk
management on the bank's bottom line in Rwanda's Equity, uncovered that interest rates do, in
fact, affect loan performance at commercial banks. Credit committees' participation in the loan
decision-making process was also shown to be significant in lowering credit risk and avoiding
default. Customers are more likely to repay loans when credit checks are used routinely and
penalties are assessed for late payments. Moreover, loan application forms for customers are a
helpful tool for enhancing credit management and monitoring, while adjustable repayment
schedules encourage timely loan payments. Credit checks, the research concluded, are an
effective tool for debt management when used routinely.

Muasya (2013) looked on how commercial banks in Kenya handled credit risk and how it
affected loan defaults. His investigation used a descriptive research strategy. The majority of
commercial banks in the United States reportedly do not use credit risk control information
systems, despite the fact that they are essential for accurate risk monitoring, measurement, and
management. Yet, he found that the majority of the bank's management understood the need of
sharing data internally for the sake of risk management. According to the findings, credit risk
management processes are a common practice at most commercial banks in the nation, and the
government approves of the majority of their control measures. Creating legislation for credit
risk management, like the Credit Information Sharing Act. It also found that credit risk
management actions at Kenyan commercial banks had a substantial inverse correlation with
credit losses.

Wanjohi (2013) looked at how well-established systems of internal control affected the financial
results at a number of different commercial banks. The researcher used a descriptive approach to
their study. Primary and secondary sources were used to compile the data. Descriptive statistics
were used to examine the study's data. With a mean score of 90%, Appropriate Internal Controls

23
Practice stood out as the most valuable credit risk control activity for Kenyan banks. There is
clear evidence that it has a major effect on bottom line results.

2.4.4 Credit monitoring and performance

Kargi (2011) obtained loan ratios as indicators of bank performance and credit risk from the
annual reports and records of sampled banks from 2004 to 2008 and analyzed them using
descriptive correlation and regression techniques to investigate the impact of credit monitoring
on Nigerian banks' profitability. Results suggest that Nigerian banks would benefit from better
credit risk management.

In their 2010 study, Ahmed and Malik analyzed the main purpose of risk management in
financial institutions and the main monitoring strategies employed. In order to mitigate the
negative effects of potential threats without removing them entirely, risk management was
essential. Their research showed that it was possible for a bank to lower the probability of
borrower default via the application of credit management risk. This process aids financial
institutions in establishing criteria for who obtains credit, how much credit is made accessible,
how much it costs, and what safeguards are in place to guarantee that the banks make a profit on
the loans they make.

The vast majority of businesses (82.4%) use rules and standards to optimize risks, 76% of banks
utilize an internal control system, and just a minority (69%), implement risk via measuring,
mitigating, and monitoring strategies, according to research conducted by Ahmed and Khan
(2010). Risk management and monitoring are two areas where foreign and local banks in the
UAE vary greatly, according to research published by Al-Mazrooei (2014). Commercial banks in
the UAE were deemed to have efficient and effective management and monitoring systems,
according to the survey. The research indicates that a system of monitoring and control is useful
in the context of risk management measures.

(Jedidah, 2018) looked on how different credit risk management strategies impacted the success
of Kitengela's commercial banks. All of the study's findings came from first-hand information
gathered by researchers using questionnaires. A descriptive approach was used for this study.
Convenience sampling was used, and only five commercial banks were included in the study.
The information was classified using descriptive statistics. The data was analyzed using SPSS,
and then pie charts, frequency distribution tables, and bar charts were used to visually represent

24
the results before being subjected to ANOVA for statistical significance. According to the
study's findings, keeping tabs on credit risks had a negligible and unfavorable impact. According
to the results of the research, financial institutions need to adopt a more all-encompassing
strategy for managing risk.

SACCOs in Mombasa County, Kenya was the focus of a research by Lorna (2018), who used
secondary and primary sources to examine the connection between credit risk management
practices and SACCO financial performance. Credit risk monitoring was shown to have a
positive effect on financial performance, with an increase in monitoring leading to a 0.137-unit
rise in performance. The study used a descriptive research strategy. In this research, multiple
regression analysis was used to examine the results of 18 SACCOs over a two-year period.

The impact of credit risk management on the profitability of Rwandan commercial banks was
studied (Ugirase, 2013). The study set out to assess the impact that keeping tabs on credit risks
had on commercial banks' bottom lines. The study used a descriptive research strategy. Findings
showed that credit risk monitoring was an unreliable indicator of commercial banks' financial
health. There were eleven commercial banks included in the analysis. Information was gathered
via questionnaires and analyzed using SPSS 17. The research recommended that the government
of Rwanda provide a policy and regulatory environment that is supportive to the commercial
banking association.

(Fredrick, 2012) looked at how credit risk management affected the bottom lines of Kenyan
commercial banks. The purpose of the research is to use the CAMEL indicators as a means of
determining the relationships existing between the various components of credit risk
management. Using a causal research design was made easier by the use of secondary data.
Multiple regression was used to examine the data collected for the investigation. The results
indicated that commercial banks might benefit greatly from implementing the CAMEL
framework's recommendations for improving operational efficiency. A modest relationship
between CR, asset quality, management efficacy, liquidity, and financial performance was also
found (ROE).

The effect of diversified loan portfolios on banks and returns was studied (Elipkimi et al, 2017).
We used both stationary and time-varying estimates, as well as generalized least squares and

25
momentum methods, all of which are within the realm of practicality. The research found little
evidence that diversified loan portfolios improved bank profitability or reduced credit risk.

Bishnu (2019) investigated how credit risk management affects the bottom line of Nepalese
commercial banks. Ten commercial banks were employed as a panel in the investigation, and
160 observations were collected between 2001 and 2016. Credit risk was evaluated using the
CAR, NPL, MQR, CD, R, and sensitivity to market risk, while financial success was gauged
using the return on assets. The research used descriptive statistics and regression to examine the
data. The results show that CAR, NPLR, and MQR all have a substantial correlation with the
financial outcomes at commercial banks. Similarly, neither CDR nor risk sensitivity had any
appreciable effect on business earnings in Nepal.

The impact of credit risk management and bank-specific variables on the financial performance
of South Asian commercial banks was studied by Khan et al., (2021). Nonperforming loans
(NPLs), credit availability ratio (CAR), credit experience ratio (CER), average loan to value
(LR), and loss ratio were all credit risk metrics considered in the research. Financial results were
evaluated using return on assets (ROA) and return on equity (ROE). In this study, we relied on
information gathered from secondary sources. Nineteen commercial banks' data covering the
years 2009-2018 was analyzed. Findings showed a negative correlation between NPL, CER, and
LR and financial performance (ROA and ROE), but CAR and ALR showed a favorable
correlation.

Etienne et al. (2022) looked at how MENA countries handle risk and how well their bank’s
function. From 2010 to 2018, 51 listed commercial banks from across 10 MENA nations were
used as a sample for a panel data regression study. The analysis weighed the significance of
accounting and market results in determining the level of risk. In this study, we found that credit
risk management had a little impact on the financial results reported by banks. Bank performance
is not substantially influenced by liquidity risk management. Liquidity risk management has a
significant effect on both the efficiency and profitability of credit risk management when banks
combine the two.

To find out whether the Central Bank of Kenya's (CBK) prudential standards affect the
performance of commercial banks, Mohammed et al., (2017) used a descriptive research
approach. This study analyzed the impact of credit risk management strategies on the

26
profitability of commercial banks. Based on their findings, the authors conclude that Credit risk
has a substantial effect on the profitability of commercial banks. Primary data were collected for
this study, and SPSS was utilized for analysis.

From 2012 to 2016, Musabi and Mbiti (2018) analyzed the performance of 43 banks in Kenya to
see whether loan facilities laws had an impact on bank success. At all 43 financial institutions,
descriptive research was conducted using SPSS for statistical analysis. The findings of this study
indicate that commercial bank financial performance is greatly affected by rules governing
lending facilities. In addition, it was suggested that CBK should prohibit additional fees on credit
facilities by establishing correct lending processes and minimizing the lengthy cycle required,
and that bank management should invest in liquid assets and upgrade credit policies to improve
financial performance.

2.5 Summary of the Literature

Theoretical and empirical research both indicate that proper risk management is essential for the
administration of any asset portfolio. The majority of empirical studies that sought to evaluate
the link between credit risk management and the performance of commercial banks were skewed
toward credit management approaches used in the financial industry and did not examine risk
management historically. This was the case despite the fact that these studies sought to evaluate
the performance of commercial banks. The findings of the study suggest that debt management
adds to the performance of financial institutions; yet, they fail to establish a clear multiplicative
impact on the performance of commercial banks caused by the many different debt management
frameworks.

The explored theories have brought to light an essential aspect of banks, namely risk and return,
as well as the keeping of portfolios to diversify risk. The purpose of the theorist's presentation
was to address investors in the stock market. As a direct consequence of this, theories have not
adequately addressed the connection that exists between credit management and the performance
of commercial banks. The review of the relevant literature uncovered a number of holes, which
served as the impetus for the inquiry.

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 CHAPTER THREE: RESEARCH DESIGN AND METHODOLOGY

3.1 Introduction
In this section, the research strategy that will be used to identify and answer the study's issue is
justified for use. This chapter provides an overview of the techniques that will be adopted in
order to solve the difficult issue of the influence that credit management has on the functioning
of commercial banks in Kerugoya town. Methodology, target population, sampling design and
frame, sampling technique, sample size, information collection strategies, research processes,
and data processing techniques are all described in this section. This chapter comes to a
conclusion with a concise discussion of the reliability and validity of the data.
3.2 Research Design
It is a strategy that outlines how the information needed to answer certain research questions will
be gathered and assessed. Denicolo and co. (2016). According to McNabb (2017), descriptive
research design is a type of research design that is used to learn about the current status of the
phenomenon and to describe what is present with respect to variables or conditions in a situation.
This study uses descriptive research design to examine the effect of credit risk management
practice's on performance of commercial banks in Kerugoya town.Descriptive research design
will be suitable in this study owing to the fact that several banks in Kerugoya town will be
sampled. As a result, studies that seek to determine a connection between independent factors
and dependent variables are a good fit for this technique of research. In the present study, a
descriptive research approach will be used in order to explore the influence of credit risk
practices on the financial performance of commercial banks in the town of Kerugoya. The
descriptive survey design describes responses from people to questions about phenomenon with
an aim of understanding respondents perception from which truism is created.This design will be
particulary useful as the study sought to establish the perception of respondent in reference to the
influence of credit risk management practices on performance of commercial banks.

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3.3 Target Population
According to McNabb (2017), the target population is the whole group of people or objects that
should serve as the source for the sample to be taken. It encompasses everyone or everything that
has the aforementioned characteristics. The audience for this research will consist of all 39
commercial banks in Kenya that have been granted permission to do business there.
3.4 Sampling Design and Sampling Frame
The process of selecting a subset of a statistical population in order to get an accurate
representation of that group's overall characteristics is known as sampling. A sample design is a
technique that describes how subsets of individuals will be picked, as stated by Cooper and
Schindler (2014). The research will adopt a method for the sample that is both realistic and
includes people who are easy for the researcher to get in touch with. A sampling frame may be
thought of as a list of all of the constituents of a population. It is a complete list of everything
that the investigator wants to check into (Greaney & Kellaghan, 2012). As a result, the sample
for this research will be comprised of the financial managers working for each of the seven
commercial banks in Kerugoya town that both have licenses and are currently doing business
there.This will provide a sample size for commercial banks respondents of seven whose
customers will be sampled for the study.The sampling frame for commercial banks will be drawn
from the commercial banks in Kerugoya town.Stratified random sampling will be used to select
commercial banks to participate in the study.
3.5 Sampling Size
Sampling size refers to the number of individuals that are included in the selection of participants
for a research study in order to get results that are representative of a certain community
(Oladipo, 2015). While conducting empirical research with the purpose of deriving conclusions
about a population from a sample, one of the most important factors to take into account is the
size of the sample (Taherdoost 2017). The importance of selecting a sample size that is
representative of the population cannot be overstated due to the repercussions (Anokye, 2020). In
view of the implications of this finding, the research team has decided that the sample size for
this study will consist of seven different financial managers.According to Cooper and
Schindler(2014),stratified random sampling entails grouping the study samples into homogenous
strata from which a sampling fraction is selected.Commercial banks within Kerugoya town will
be grouped into various categories of which a sampling fraction of 10% of the target group will
be selected..Selection of the sample size will be based on Cooper and Schindler(2014)
recommendation for sample size which indicate 10%-20% of accessible population is adequate
enough for a sample.This gave twenty eight respondents sampled from a population of one
hundred.

3.6 Data Collection Methods

The process of gathering, measuring, and analyzing specific insights for the sake of research
standards and verified techniques is referred to as data collection (Bhat, 2020). This research will
make use of both primary and secondary data, with the latter kind of information coming from

29
sources such as periodicals, financial reports from commercial banks, and yearly reports from the
CBK. The comments provided by the financial managers and credit managers will be used as the
primary source of data. The category of this respondent was chosen because of the enormous
effect they have over both the financial performance of commercial banks and the management
of their customers' credit. In order to get a good enough representation of the population, this
research will look at secondary data collected over the course of five years (2018-2022). The
information that will be acquired will be specific to the influence that credit risk management,
credit assessment, credit monitoring, and credit regulations have had on the performance of the
institutions that are the subject of this research.
3.7 Data Analysis Methods
The data analysis will be carried out with the help of the SPSS application. Throughout the
process of analyzing the data, regression modeling will be used to establish whether or not there
is a connection between the variables that are being assessed. Since it is possible to use it to
examine data gathering as well as to detect correlations between variables, multiple regression
modeling will be used in the research project. The prediction of variables may be simplified by
include a large number of variables in a single regression analysis. As a consequence of this, the
researcher will make use of the model to investigate whether or not there is a connection between
the performance of banks and the management of credit risk. The following is the study's
regression model:
Y=β0 +β1H1 + β2H2 + β3H3 + β4H4 +є
In which:
Y is the performance and is measured using customer satisfaction, learning and growth
H1= Credit risk appraisal
H2= Credit monitoring
H3= Credit control
H4= Credit policy
β0 = fixed effect
β1, β2, β3 and β4 represents regression coefficients
є represents error
3.8 Reliability and Validity of Data.
The dependability of a study is measured by how consistently and reliably its findings can be
reproduced (Revelle & Condon, 2019). When discussing the validity of a study, one must
consider how well the results among the study participants reflect genuine findings among
comparable people outside the study (Cizek, 2020). This research will use a multiple-forms
strategy to increase reliability. The multiple-forms method includes administering the same
survey to respondents in different ways (Liao, 2012). Yet, validity will be guaranteed because of

30
the careful pairing of assessment tool and research aims. As many extraneous elements as
possible will be taken into account in the research.
3.9 Significance Test
The overall significance of the relationship between credit risk management techniques and
commercial bank performance in Kerugoya will be determined using a T-test.

APPENDICES 1: Study population; List of commercial banks in Kerugoya Town

No. NAME OF THE BANK YEAR

LICENSED
1. Kenya Commercial Bank Limited (KCB). 1896
2. Co-operative Bank of Kenya Limited. 1968

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3. Equity Bank Limited. 2004
4. Family Bank Limited. 2007
5. Barclays Bank of Kenya Limited (Absa). 1916
6. Sidian Bank Limited. 1999
7. Post Bank. 1910
APPENDIX II: Work Plan
Date 2023 202 2024 2024 2024 2024 2024
Nov, 4 Feb Feb March March March
week Jan week1 week 2 week 1 week 2 week3
2 wee to
To k4 week 3
2023J
an
Activity week
3
Proposal
writing

Presentation
of proposal

Correction of
proposal
Data
collection
Data analysis
Report
presentation
Correction of
report work

32
APPENDIX III: Budget.

Item description Quantity and time Unit cost Total

Airtime 3 weeks Sh. 50 per day Sh. 1050
Printing 2 Sh.300 Sh. 600
Pen 5 Sh.25 Sh.105
Books A4 96pgs 1 Sh.80 Sh.80
Hired laptops 2 Sh.1500 Sh.3000
Lunch 3weeks sh.250 Sh.5250
Travelling 4days Sh.50 Sh.200
GRAND TOTAL Sh. 10, 285

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