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Gauging the Financial Performance of Banking Sector using CAMEL Model:

Comparison of Conventional, Mixed and Pure Islamic Banks in Pakistan

Article in International Research Journal of Finance and Economics · January 2012

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International Research Journal of Finance and Economics
ISSN 1450-2887 Issue 82 (2012)
© EuroJournals Publishing, Inc. 2012
http://www.internationalresearchjournaloffinanceandeconomics.com

Gauging the Financial Performance of Banking Sector using

CAMEL Model: Comparison of Conventional, Mixed and
Pure Islamic Banks in Pakistan

Rehana Kouser
Lecturer, Department of Commerce
Bahauddin Zakariya University, Multan-Pakistan
Tel: +92-333-6102638
E-mail: rehanakousar@bzu.edu.pk

Irum Saba
Ph.D. Scholar, INCEIF, Malaysia
Tel: +60-12-3338548
E-mail: irumsaba82@gmail.com

Abstract

The study is a comparison based on performance of Pure Islamic banks, mixed

banks (we use this word for all those banks that have their Islamic as well conventional
branches) and conventional banks using CAMEL model. It is an appropriate and simple
model to evaluate the financial and managerial assessment of institutions. The ratios
defined by CAMEL method are analyzed by using ANOVA to investigate any significant
difference. The data analysis is done using SPSS. Based on our analysis, we found that
Islamic banks have adequate capital and have good asset quality when compared to Islamic
branches of conventional banks and conventional banks. Moreover, Islamic banks in
general have good management competency in comparison to conventional banks. The
earnings of Islamic branches of conventional banks are greater than full-fledge Islamic
banks and conventional banks. Finally, it can be concluded that Islamic banks have a
developing setup.

Keywords: CAMEL, Financial Performance, Banking, Comparison, Pakistan

JEL Classification Codes: G20, G21, G29

1. Introduction
Islamic money market is operating in countries like Bahrain, Malaysia and some other countries of
Gulf region in addition to conventional money market. Recently, a memorandum of understanding is
signed between Bahrain, Saudi Arabia, Malaysia, Indonesia, Brunei and Sudan on the establishment of
first International Financial Market with the participation of Islamic Development bank (Ayub, 2002).
A liquidity management center is also operating in Bahrain with the objective to provide liquidity to
Islamic banks in their needs and is in coherence with the Shariah. The Government of Pakistan, Iran
and Sudan have introduced Islamic system of financing on country level. In Saudi Arabia, due to the
legislation, banks are not permitted to perform Riba based operations although there are a small
number of Islamic banks in the country. A number of countries have also made amendments in their
International Research Journal of Finance and Economics - Issue 82 (2012) 68

legislation by taking Saudi Arabia as an example. The Islamic institutions and banks can be further
divided into two categories: Islamic commercial banks and Islamic investment institutions. A list of
some of the banks and institution falling in these two categories is provided in Table-1.

Table 1: Error! No text of specified style in document.: Islamic commercial banks and investment institutions

Islamic Commercial Banks Islamic Investment Institutions

Al-Rajhi Banking and Investment Corporation DaralMaal Al Islami (Geneva)
(Saudi Arabia) Dallah Al-Baraka Group of Saudi Arabia
Kuwait Finance House (Kuwait) The Islamic Investment Company of the Gulf
Al-Baraka Islamic Investment bank(Bahrain) The Islamic Investment Company (Bahamas)
Bahrain Islamic bank (Bahrain) The Investment Company (Sudan)
Faisal Islamic Bank (Egypt) The Bahrain Islamic Investment bank (Manama)
Dubai Islamic Bank (UAE) Islamic Investment House(Amman)
Jordan Islamic Bank (Jordan) Meezan Bank (Pakistan)
Qatar Islamic Bank (Qatar) National Investment Trust (Pakistan)
Islami Bank Bangladesh (Bangladesh) Al-Baraka Islamic Investment Bank (Pakistan)
Bank Islam Malaysia Berhad (Malaysia)

Islamic financial institutions are becoming more popular. The current assets of Islamic banks
and financial institutions are over $200 billion and the growth rate is 10%-15% per annum (Ayub,
2002). Figure-1 shows the number of Islamic banks operating in different countries across the world. It
can be observed that Islamic banking is a small but a dynamic market. Moreover, it is spread across the
globe and is not just limited to Middle East and South East Asia. This concept is also present in USA,
UK and many other European countries. Many such institutions are present there since long. Some
conventional banks have also their Islamic banking subsidiaries. A large number of banks in the world
are now offering Islamic financial products and participating in capital market transactions. It is
interesting to note that there is also an Islamic Market Index in Dow Jones. The deposits with Islamic
banks are growing fast. It has been observed that Islamic banks are utilizing their funds efficiently and
have introduced novel methods of financing and investment which are secure and lucrative.

Figure 1: Number of Islamic banks in different countries

69 International Research Journal of Finance and Economics - Issue 82 (2012)

1.1. Objectives of Islamic Financial System

Finance plays a major role in society and economic system. The aim is to provide all types of elements
needed by the members of the society and economic system. The objective of Islamic financial system
is to provide an economic system capable of doing economic justice. Islam has stressed that Adl
(justice) should be done in every aspect of life. The justice according to Islam is a complete system of
accountability which does not allow exploitation, unfairness and inequality; Ayub (2002). The ideal
system of market economy is based on ownership, freedom of enterprise and competitive environment
of business and industry. Islam as a religion supports the ideal system of market economy. Competitive
price mechanism balances the demand and supply of goods in order to serve the society in an efficient
way.
Our Holy Prophet (Peace Be upon Him) has allowed the competitive price mechanism. One has
to observe the constraints in an economic system imposed by Shariah so that the State ensures that
norms of the system are being correctly followed.
Economists studying economic system of Islam have pointed out two important objectives
which are:
• Economic stability: A stable economic system helps in the reduction of inequities
introduced by recession, inflation and unjustified changes in prices and exchange rates
• Economic growth: It is determined by level of output, growth of output, composition of
output and efficiency in resources usage

1.2. Performance of Islamic Banks

In general, Islamic bank are performing better than conventional banks (Iqbal, 2001). It has observed
that the performance of Islamic banks slowed down during 1990s as compared to the performance in
1980s. The Islamic banking is expanding at a rate of 10% in absolute terms. The growth was observed
to 15% in 1980s. Iqbal (2001) has listed following reasons for this phenomenon:
• In 1980s, the Islamic banks were a new trend so a higher growth was natural
• Conventional banks started offering Islamic products and services in 1990s which diverted
customers
• Establishment of Islamic Mutual Funds may have diverted the Islamic banks’ deposits in
the 1990s
• With the huge increase in number the Islamic banks, it became difficult naturally to
maintain the same growth rate
It has been observed that Islamic banks are well capitalized, profitable and stable due to their
effective use of resources. In comparison to international standards in banking, Islamic banks are at par
with them in terms of profitability ratios but their operations are not cost effective (Ayub, 2002). It has
been commented that Islamic banks are suffering from excess liquidity. The study in Iqbal (2001)
showed that it is not correct and Islamic banks are outperforming conventional banks in all areas on
yearly basis.
The growth and performance of Islamic banks ensures that interest-free banking is feasible.
And an Islamic Money Market is highly desirable. Many entrepreneurs and depositors which were not
investing due to religious bindings have found this type of banking very useful. Islamic banks and
financial institutions need to think about enhancement of liquidity, development of secondary money,
capital markets and introduction of public finance instruments in order to have a bright future.

1.3. Challenges and Problems Faced by Islamic Banks in Pakistan

In general, Islamic banks are facing following challenges and problems; Sarkar (1999), Ayub (2002).
• Insufficient capital market and Islamic financial instruments
• Accounting principles and procedures are needed
• Unavailability of Islamic Inter-bank money market
• Lack of training institutes
International Research Journal of Finance and Economics - Issue 82 (2012) 70

• Bad debts
• Uniformity in operations of Islamic banks is needed.
• Political situation of country and economic slowdown
• Lack of legal protection
• Skilled manpower in Islamic Shariah banking is needed
• Unified Shariah ruling is absent
• Insufficient track record of Islamic banking
• New regulations for banking are desired
• Need of a central bank which supervises Islamic banks and check their compliance with
Shariah
• Audit based on Shariah ruling is missing
• Corruption
• A small number of supportive and link institutions are present
• Collaborated research work on Islamic financial system is desired
• Insufficient co-operation between Islamic banks
• Islamic financial practices lack harmony
• Lack of training institutes
• Lack of links with training institutes
• Islamic banks hesitation to finance high-return projects
• Low research and development budget
• Shariah guideline manual is missing
• Risk analysis and measurement methodology
• Management problem related to Islamic operations

1.4. Conventional Banking in Pakistan

Before 1947, the financial sector of Pakistan was dominated by branches of British banks. After the
partition, the State Bank of Pakistan was founded in 1948. The main responsibilities of the State Bank
of Pakistan were to establish the monetary and supervisory policies. During the sixties, specialized
development institutions such as Industrial Development Bank of Pakistan and Agriculture
Development Bank of Pakistan were emerged. Later, in 1974, the Government of Pakistan nationalized
all banks operating in the country and a Pakistan Banking Council was established. Before its
dissolution in 1997, the Pakistan Banking Council was considered to be a banking holding company
with limited supervisory powers. Afterwards, the State Bank of Pakistan became the sole regulatory
authority of banks and financial institutions of Pakistan. In this role, the State Bank of Pakistan has
done excellent efforts in making the financial institutions and banks profitable. Currently, the
conventional banks in Pakistan can be categorized into the following four groups:
• Privatized banks
• National commercial banks
• Private banks
• Foreign banks
There are a total of 22 foreign banks, 25 domestic commercial banks (private, privatized and
nationalized) operating in Pakistan while a number of specialized banks are working.

1.5. Research Problem and Objectives

The concept of Islamic banking is relatively new and prevailing in many countries of the world. It is
quite logical to assess the financial performance of these banks from various aspects. The study
investigates the financial performance of Islamic banks and compares with the conventional banks
operating in Pakistan.
71 International Research Journal of Finance and Economics - Issue 82 (2012)

The CAMEL method is commonly used for the evaluation of performance and ranking. The
CAMEL assesses the performance based on Capital adequacy, Asset quality, Management
competency, Earnings and Liquidity. The main objectives of the study are: analysis of performance of
Islamic banks operating in Pakistan and comparison of Islamic and conventional banks using the
results of CAMEL method. Moreover the addition of conventional banks with Islamic banks (partially
Islamic banks) is absolutely new in the literature.

2. Literature Review
It has been notified in the quarterly report (for last quarter of 2010) of state bank of Pakistan that
Islamic banking is flourishing in terms of assets, deposits and profitability in Pakistan but overall
performance of Islamic banks are not better than the country’s industry. The evaluation of performance
of Islamic banks is not a trivial task and it requires many parameters to come up with a sound analysis.
Therefore, a systematic way of evaluation is highly desired. In Sarkar (1999), authors has evaluated the
performance of Islamic banks in Bangladesh based on their productive & operational efficiencies and
mode-wise investments banking efficiency model criteria is proposed by the author for bank
evaluation. The proposed model is based on five tests which include: investment opportunity utilization
test, profit maximization test, project efficacy test, loan recovery test and test of elasticity in loan
financing. The study sample includes Islamic Bank Bangladesh Limited (IBBL), Al-Baraka Bank
Bangladesh Limited, Al-Arafah Islamic Bank Limited, social investment bank limited and Faisal
Islamic bank of Bahrain. The author found that Islamic banks can provide efficient banking services
and can perform even better to promote and stabilize economy if given a chance to operate as a sole
system which would also help in demonstrating the potential of the Islamic financing system.
Moreover, Islamic banks can survive with in the conventional banking framework through PLS modes
of financing. The author has also suggested that an Islamic financial market is utmost necessary to
compare the performance of Islamic bank and conventional banking system.
In a research on Islamic banks in Malaysia, Samad & Hassan, (1999), the authors used financial
ratios (profitability, liquidity, solvency and risk) to evaluate the performance of Islamic bank.
Statistical hypotheses testing test like t-test and f-test were used to compute the significance of each
financial ratio on performance of the bank. The study was conducted in the period 1984-1997. One
Islamic bank (bank Islam Malaysia Berhad, Malaysia) and 8 other conventional banks were included in
the study and their comparison was presented.
According to the comparison they made, bank Islam Malaysia Berhad has made important
progress on return of assets and return on equity during the study period. The liquidity performance of
the Islamic bank during the study period was same but in comparison to conventional banks, the
Islamic bank was found to be more liquid. The Islamic bank was found to be more at risk during the
study period but in comparison, it was less risky and solvent. Moreover, it has been discovered that the
economic participation of Islamic and conventional banks was the same. Iqbal (2001) has used trend
and ratio analyses for the performance of Islamic banks over the period 1990-1998. A total of 12
Islamic banks operating in gulf region, Bangladesh, turkey and Malaysia along with 12 conventional
banks operating in the same regions are included in the study. The annual reports of the banks were
used to generate the data for the analysis. The trend analysis determined that there was a gradual
decrease in the growth of Islamic banking as compared to its starting growth in 1980s. This could be
regarded as absolutely normal as the trend for new things is maximum at its start while it decreases as
time goes by. Moreover, people were interested in interest-free banking and found Islamic banks
lucrative at the start. According to the author, Islamic banks are generally stable, profitable and well
capitalized. The authors also pointed out that the Islamic bank should keep their profitability ratios
high enough in order to compensate its customers against high risk which is contrary to conventional
banks where less risk is involved. His findings also negated the general perception about Islamic banks
that they were more liquid than conventional banks.
International Research Journal of Finance and Economics - Issue 82 (2012) 72

In, Zaman & Movassaghi, (2001) the authors have examined the growth of Islamic banking in
middle east and gulf regions. Twenty different banks were studied for their products and services. The
study was based on financial data from the banks. The authors pointed out that some of the practices
and financial instruments are not coherent with the traditional Islamic principles. For example, Islamic
banks use of fix percentages of profits and losses which clearly indicates interest-based banking and is
in conflict with the true spirit of Islamic banking. They suggested that flexible interest-rates must be
used which would be dependent on changing businesses and economic conditions which would help
depositors, investors and borrowers. The authors have also stressed out that the Muslim world is
lacking qualified and trained persons who can understand the Islamic financial system and can
implement it in its true nature.
In a study conducted in 8 countries of middle east on the evaluation of performance of 14
Islamic banks during the period 1993-1993 (Bashir, 2001), the author examined the relationship
between profitability and bank characteristics after controlling the economic and financial structure
indicators. During the study, some internal measures like capital, leverage, overheads, loans and
liquidity ratios and some external measures like taxation, financial structure, etc., have been analyzed
using statistical regression. The author concluded that high leverage and large loans to asset ratio leads
to higher profitability and foreign banks found to be more profitable than their domestic counterparts.
Moreover, he found that favorable macroeconomic conditions affect the performance of bank
positively while taxes (implicit or explicit) have negative effect on performance. The author has
suggested that Islamic banking must not be asked to maintain the required reserve level as central bank
does not provide discount loans or last resort borrowings.
Rashid (2007) conducted study in Pakistan during 1999-2006 and evaluated the financial
performance of Islamic banks by using financial ratios. The authors have taken profitability, liquidity,
risk, solvency and community development into consideration for this analysis. The mean, standard
deviation, t-test and f-test have been used to measure the significance of financial ratios on the
performance of banks. The author also provided a comparison of Islamic and conventional banks in
Pakistan. Three Islamic banks, Meezan bank, Al-Baraka Islamic bank and Islamic bank division of Al-
Falah bank, and eight other conventional banks were considered for study. According to the author,
conventional banks are more profitable than Islamic banks and he found that basic modes of financing
(e.g. Mudarba and Musharika) are less popular in Pakistan.

3. CAMEL Model
The camel framework was originally intended to determine when to schedule on-site examination of a
bank. A popular framework used by regulators is the camel framework, which uses some financial
ratios to help evaluate a bank’s performance Yue (1992). The five camel factors, viz. Capital adequacy,
asset quality, management soundness, earnings and profitability, and liquidity, indicate the increased
likelihood of bank failure when any of these five factors prove inadequate. The choice of the five
camel factors is based on the idea that each represents a major element in a bank’s financial statements.
Tarawneh (2006) investigated a comparison of financial performance of Omani’s commercial banks
using camel model and he work on different measureable relationships between bank’s size, asset
management, operational efficiency and financial performance. He used the data for the period of
1999-2003. In his study he quantitatively checks the variations and differences in performance among
different commercial banks of Oman. He classifies and ranked them on the bases of their financial
performance which serves as a guide line for the future development. The key financial indicators are
used and constructed from the financial statements of commercial banks and he used them to evaluate
their internal performance like return on asset, asset utilization, operating efficiency, assets size and
interest income to assess the performance of banks. The data is taken from the annual reports of the
sample period.
Analysis of variance (ANOVA) was used in testing the hypotheses and to measure the
differences and similarities between the sample banks according to their different characteristics.
73 International Research Journal of Finance and Economics - Issue 82 (2012)

Pearson correlation coefficient also used to investigate the correlation between the paper variables at
5% level of confidence according to the SPSS package.
A case study of commercial banks efficiency in Tanzania by Aikaeli (2008) was made to
investigate their efficiency using non parametric data envelopment analysis for the period 1998-2004.
The result showed that commercial banks in Tanzania is not disappointing to financial sector reforms
as the data envelopment analysis DEA efficiency scores was high, 96%. The usage of the CAMEL(S)
framework in banking studies in emerging economies is limited. Banking sector’s literature show that
there are many researches on evaluation of financial performance of banks except camels there are
many tools PEARL, DEA etc. Najjar (2008) analyzed of the bank of Palestine and Jordanahli bank.
The main objectives of this study were to investigate into the performance of Jordanahli bank and
Palestine, and used the CAMEL analysis to ensure equitable distribution to shareholders depends on
fundamental analysis.
Wirnkar & Tanko (2008) considered banking performance of major Nigerian banks using the
camel framework. Negu & Mesfin (n.d) has measured financial performance and efficiency of
commercial banks in sub Saharan African with DEA model. Ali (2009) has worked on a project on
camels framework, investigated the strengths of using camels framework as a tool of performance
evaluation for banking institutions of Kathmandu.
Dash and Das (2010) has analyzed the banking sector of India using camels model the analysis
was performed for a sample of fifty-eight banks operating in India, of which twenty-nine were public
sector banks, and twenty-nine were private sector/foreign banks. The study covered the financial years
2003-04, 2004-05, 2005-06, 2006-07, and 2007-08 (i.e. Prior to the global financial crisis). The data
for the study consisted of financial variables and financial ratios based on the CAMELS framework,
obtained from the capitaline database. The results show that private banks / foreign banks are better
than in the public sector, the factors that most studies to reduce the camels. These two factors in order
is to improve the performance of private banks / foreign-run and accurate and profitability. The results
of the study suggest that public sector banks have to adapt quickly to changing market conditions, in
order to compete with private/foreign banks. This is particularly due to the wide difference in their
credit policy, customer service, ease of access and adoption of it services in their banking system.
Public sector banks must improve their credit lending policies so as to improve asset quality and
profitability.
Cole and Gunther (1998) investigated on the comparison of on-site monitoring and off-site
monitoring and selected a sample of 9,880 insured commercial banks analyzed, 2,008 had camel
ratings at year-end 1987 based on financial data from 1986 or earlier. If these banks are incorporated in
2008, and the entire sample was analyzed from 9,880 banks, the precision of the monitoring system
off-line in the camel ratings were even higher. If the fault is 10 percent of banks can be expected from
the worst criticism, the camel rating, only 74 percent of the incidents took place to identify, and the
results of the identification of off-site surveillance system, 88 percent used outside of the control
system of reference by means of accounting information available to the public. Their results suggest
that if the bank no more than two semesters, are considered off-measurement systems are usually more
for the survival of their assessment camel. The accuracy of forecasts have lower camel ratings, the
older, two bedrooms or more, because the precision of the camel rating, off-measuring systems. More
accurate forecasts are at valid, the off-site update of the score for each bank in each district and
accuracy of financial data on which they rest. Cole and Gunther (1998) claimed to the conclusion that
the systems off-site monitoring role of the monitoring process continues to play as a complement to on-
site inspections.
In (Muljawan, Dar, & Hall, 2004), the authors have developed the capital adequacy framework
for Islamic banking. The framework proposed by the authors is a combination of modern bank theory
and principle agent relationship giving an optimal structure for Islamic banks. The authors proposed
that Islamic banks could enhance their fiduciary role by carefully monitoring their capital structures
and by having adequate financial cushions. They also suggested that the agency role could be enhanced
by asking shareholders to maintain a minimum level of financial participation and the bank should
International Research Journal of Finance and Economics - Issue 82 (2012) 74

disclose financial information to investors. The authors claim that the proposed capital adequacy
requirements improve the soundness of Islamic banking practices and enhance the use of PLS by
Islamic banks.
Dar and Presley (2000) have discussed and analyzed the third area of CAMEL model i.e.
Management and control of internal governance of banks and financial companies. The Islamic banks
and financial companies of Muslim world are taken into consideration. They have found that the an
absence of correct balance between management and control rights is the major cause of lack of profit
and loss sharing in the Islamic finance structures.
In a study on financial and policy indicators influencing the overall performance of Islamic
banks (Hassan & Bashir, 2003), the authors have studied in detail the relationship between profitability
and the banking characteristics in economic and financial controlled environment. The study is based
on bank size and profitability statistics computed from the bank level data. The performance of Islamic
bank is computed using the internal characteristics which include bank size, leverage, loans, short term
funding, and overheads, while controlling the external factors such as macroeconomic, regulatory and
financial market environment. The authors have used regression analysis to find the relationship
between profitability and bank characteristics. According to the analysis presented by the authors,
following points are deduced:
• Higher profitability can be achieved by high leverage and large loans to asset ratio
• Foreign banks are more profitable than local counterparts
• Taxation (implicit or explicit) effects the bank performance in downward direction
• Favorable macroeconomic conditions impact the performance positively
• There is a strong correlation (in positive manner) between profitability and overhead
Some researchers (Ahmed, 2001) (Al-Sadah, 2000) (Yousuf, 2001) have focused on the
management of excessive liquidity in Islamic banks. The excessive liquidity is a major problem faced
by Islamic banks in the Muslim world which causes reduction in short-term earnings of bank and may
cause death to a bank. An analysis of sources of liquidity risks in Islamic banks and methods to
identify the risk in various modes of financing is presented in (Ali, 2004). The author has also studied
the practices being followed by banks to reduce the liquidity risks. Such problems can be solved by
forming liquidity management center which develops an active secondary market for short-term
shari’a compliant treasury products. In another work (Rehman, 1999), the author has stressed on the
need of Islamic instruments of careful management of liquidity. He has analyzed the existing
framework of Islamic and conventional banks and suggested to develop a lariba (term used by author
to denote interest-free Islamic banking) money market fund on the pattern of conventional money
market fund but conforming the Islamic laws of financing. Misman & Bhatti, (2010) have compared
the bank Islam Malaysia Berhad with other Islamic and conventional banks based on risk and return. In
comparison, Islamic banks and conventional banks are subjected to same types of risks i.e. Credit risk,
market risk and operational risk and it is not appropriate to think that Islamic banks are free of risk.
The study sample includes 28 commercial, 11 Islamic and 28 stocks. The analysis is based on the
annual report of bank Islam Malaysia Berhad, bank-scope database. Autoregressive time series is used
for forecasting of total financing. The authors have found that risks in Islamic banking are influenced
to three factors: instruments and products offered by Islamic bank, compliance of operations with
shariah and lack of global standardization and regulation. In particular, credit and market risks are
more challenging for Islamic banks.

4. Research Methodology
As study is related to the performance assessment of banking sector based on the CAMEL model so
following section explained the variables of study.
75 International Research Journal of Finance and Economics - Issue 82 (2012)

4.1. Variables
Based on CAMEL, there are five categories of variables. These categories are Capital Adequacy, Asset
Quality, Management Capability, Earnings, and Liquidity, explained below:

4.1.1. Capital Adequacy

Leverage: ratio of risk-weighted assets and net assets of the MFI. Ability to raise capital: to evaluate
the response of the IMF should be able to supplement or increase of capital at some point. You can
measure the provision for losses on loans of MFIs and to what extent the lack of absorption of credit:
the adequacy of reserves.

4.1.2. Asset Quality

Quality of the portfolio: the portfolio risk of a portfolio of more than 30 days late. The depreciation
rules Write-Offs/Write CAMEL criteria. Portfolio Classification: portfolio review times of aging, in
conjunction with the policy of the institutions in evaluating portfolio risk. Capital: the productivity of
fixed assets: the policy of the Fund investments in fixed infrastructure assessment of capital adequacy
to the needs of employees and customers.

4.1.3. Management Capability

Management: how well the establishment of management positions, including a variety of technical,
managerial independence and ability to make decisions in an efficient and flexible. Human Resources:
Human Resources determine whether a clear direction and support for staff, including recruitment and
training of new employees and incentives for performance evaluation. Processes and controls: the
extent to which the MFI has important processes and how to effectively control risks throughout the
organization, as it formalizes the environmental control and quality of the inner and external auditors.
System verifies that the system work efficiently and effectively, and generate reports to management
timely and accurate. Strategic planning and budgeting process need to define a comprehensive and
participatory forecast to generate short-and long-term financial and budget will be updated as needed
and used in decision making.

4.1.4. Earnings
Adjusted return on capital: the ability to establish and measures to increase the equity by the results of
operations. Operational Efficiency: To measure the effectiveness of the device and monitor progress in
achieving cost structure closer to its level of financial institutions. Asset-weighted returns: asset
valuation and the use of the IMF, an institution with the ability to create resources for the previous
generation. Interest to evaluate how management analyzes and adjusts the definition of microcredit
interest rates (deposit and, if appropriate), based on the cost of funds, the objectives of profitability and
macroeconomic

4.1.5. Liquidity
Liability structure: an overview of the composition of organic compounds, including their content,
payments of interest and sensitivity to changes in the macroeconomic environment. Availability of
funds for the credit indicates the extent to which credit institutions, timely delivery and flexible. Cash
flow: how far the organization has succeeded in establishing the requirements for cash flow to
evaluate. The performance of other current assets: an assessment of the extent to which MFIs use their
own money, bank accounts and short-term investments to invest the time and the best performance
according to financial needs in order to maximize.
Sample of study is comprised of 4 full-fledge Islamic banks, 6 Islamic branches of conventional
banks and 4 conventional banks. Name of sample banks used in the study are given below.
International Research Journal of Finance and Economics - Issue 82 (2012) 76

4.2. Sample of Study

Following banks are included in the research study for a comparison:
Full-fledge Islamic Banks
• Meezan Bank Limited
• Bankislami Pakistan Limited
• Al-Baraka Islamic Bank
• Dubai Islamic Bank Pakistan Limited
Islamic Branches of Conventional Banks
• Habib Bank Limited
• National Bank of Pakistan
• Muslim Commercial Bank Limited
• United Bank Limited
• Bank Al-Falah Limited
• Bank Al-Habib Limited
Conventional Banks
• Allied Bank of Pakistan
• JS Bank
• KASB
• My Bank
In order to make this research study more comprehensive then we used both primary and
secondary sources for collection of relevant data and required information. Researchers used
“interview” to collect primary data from respective professional bankers.
Data is also collected from secondary source because the primary data was not sufficient to
meet the requirement of this study. This data was collected from the following sources:
• Annual and quarterly financial statements of six Islamic Commercial Banks and selected
Conventional Commercial Banks.
• Database of the State Bank of Pakistan.
• Quarterly Brochures of the State Bank of Pakistan on Islamic Banking.
• Database of Karachi Stock Exchange.
• Leading Pakistani English Newspapers.
• Different Research Journals.
• Books on Islamic Banking and Finance.

5. Data Analysis and Statistical Findings

To find results certain statistical tests are used in the study. Two categories of tests are employed. First
category is based on the comparison of the means in three categories of banks. Secondly we used the
trend analysis for graphical comparison and trends in CAMEL ratios. These tests are, ANOVA,
Levene’s test, and tests for robustness of means. Tests are performed using SPSS. Tables in annexures
provide the results for used tests.
Results of both categories of data analysis are explained step by step in following sections.

5.1. Comparison of Means

When we have only two samples we can use the t-test to compare the means of the samples but it
might become unreliable in case of more than two samples. ANOVA is used in case of more than two
groups like this. If we only compare two means, then the t-test (independent samples) will give the
same results as the ANOVA. To compare the means of conventional, mixed and Islamic banks we
performed the ANOVA. It tests the hypothesis that there is no significant difference between the mean
CAMEL ratios.
77 International Research Journal of Finance and Economics - Issue 82 (2012)

Levene's test is an inferential statistic used to assess the equality of variances in different
samples. Some common statistical procedures assume that variances of the populations from which
different samples are drawn are equal. Levene's test assesses this assumption. It tests the null
hypothesis that the population variances are equal (called homogeneity of variance). If the resulting p-
value of Levene's test is less than some critical value (typically 0.05), the obtained differences in
sample variances are unlikely to have occurred based on random sampling. Thus, the null hypothesis of
equal variances is rejected and it is concluded that there is a difference between the variances in the
population.
Levene's test uses the mean instead of the median. Although the optimal choice depends on the
underlying distribution, the definition based on the median is recommended as the choice that provides
good robustness against many types of non-normal data while retaining good statistical power. If one
has knowledge of the underlying distribution of the data, this may indicate using one of the other
choices. The Brown and Forsyth test statistic is the F statistic resulting from an ordinary one-way
analysis of variance on the absolute deviations from the median.

5.2. Trend Analysis

At second step we performed the trend analysis for CAMEL ratios of three types of sample banks.

5.2.1. Capital Adequacy

Capital adequacy is determined by three ratios called dependency ratio, capital to asset ratio and debt to
asset ratio. The trend analysis results of each ratio are discussed below.
Dependency ratio determines the dependency of banks on outside funding for its operations.
The computation of this ratio is dependent on the donations and grants given to bank from outside
sources. In Pakistan, the banks are not financed by outside sources therefore, for each bank included
our study, the dependency ratio is zero. This ratio does not play any role in our analysis.
The average capital to asset ratio of Islamic banks and conventional banks decreases over the
study period while Islamic branches of conventional banks have maintained the ratio in Figure-2.

Figure 2: Average Capital to Asset Ratio

International Research Journal of Finance and Economics - Issue 82 (2012) 78
Figure 3: Average Debt to Asset Ratio

Figure 4: Average Loan Loss Provision

We compare different categories of banks considering two categories at one time using
Independent samples t-test. The analysis suggest that there is no significant difference in average
capital to asset ratios of Full-fledge Islamic and conventional banks, T(38) = -0.825, p > 0.05, there is
no significant difference in average capital to asset ratios of Full-fledge Islamic banks and Islamic
branches of conventional banks, T(35) = -1.48, p > 0.05 in Table 1.2 and there is no significant
difference in average capital to asset ratios of Islamic branches of conventional banks and conventional
banks, T(39) = 1.01, p > 0.05.
79 International Research Journal of Finance and Economics - Issue 82 (2012)
Table 2: ANOVA Results for CAMEL Ratios

Levene’s Brown-
Ratios F-value p-value p-value p-value
Statistic Forsythe Stat
Capital to Asset Ratio 1.100 .339 10.122 .000 1.510 .232
Debt to Asset Ratio 17.122 .000 4.483 .015 14.505 .000
Loan Loss Provision Ratio .107 .899 3.510 .036 .101 .904
Portfolio in Arrears 3.355 .041 14.880 .000 4.701 .015
Loan Loss Ratio 3.903 .025 15.045 .000 5.844 .007
Reserve Ratio 3.863 .026 18.874 .000 5.849 .007
Number of Active Borrowers per Credit Officer 11.093 .000 145.066 .000 15.259 .000
Number of Active Borrowers per Management Staff 12.546 .000 127.545 .000 15.632 .000
Portfolio per Credit Officer 18.043 .000 29.771 .000 25.050 .000
Cost per Unit Money Lent .841 .436 9.578 .000 1.170 .320
Cost per Loan Made 15.690 .000 13.568 .000 17.795 .000
Return on Performing Assets 12.537 .000 8.001 .001 10.587 .000
Return on Average Total Assets 8.005 .001 10.890 .000 11.182 .000
Financial Cost Ratio .630 .536 .890 .415 .573 .568
Administrative Cost Ratio 7.996 .001 7.789 .001 6.486 .004
Operating Self-Sufficiency Ratio 22.595 .000 11.608 .000 25.630 .000
Current Ratio

The average debt to asset ratio of conventional banks decreases from 2006 to 2009 then it
increases in 2010. In contrast to Islamic branches of conventional banks and the ratio gradually
increases for the Full-fledge Islamic banks.

5.2.2. Asset Quality

Asset quality is determined by four ratios called loan loss provision ratio, portfolio in arrears, loan loss
provision and reserve ratio. The trend analysis results of each ratio are discussed below.
The average loan loss provision ratio of conventional banks increases from 2006 to 2008 then it
decreases in 2009 and 2010. Islamic branches of conventional banks follow the same trend, it increases
in 2007 to 1.5% then it decreases in 2008. Since then, the ratio is increasing for Islamic banks.
In Figure-5, there is a slight change in portfolio in arrears for full-fledge Islamic banks and
Islamic branches of conventional banks. However, for conventional banks, average portfolio in arrears
decreases in 2007 but rapid increase can be seen in the years 2008-2010.

Figure 5: Average Portfolios in Arrears

International Research Journal of Finance and Economics - Issue 82 (2012) 80

The average loan loss ratios of conventional banks are not significant at all while Islamic
branches of conventional banks have highest loan loss ratios. Average loan loss ratios of full fledge
Islamic banks lies between the loan loss ratios of other two categories. The gradual increase in loan
loss ratios of full fledge Islamic banks can be seen.
In Figure-6 the average loan loss ratios of conventional banks are not significant at all while
Islamic branches of conventional banks have highest reserve ratios which decreases over the study
period (except for year 2007). Average reserve ratios of full fledge Islamic banks increase gradually
over the study period.

Figure 6: Average Loan Loss Ratio

Figure 7: Average Reserve Ratio

81 International Research Journal of Finance and Economics - Issue 82 (2012)

5.2.3. Management Competency

Management competency is determined by five ratios called number of active borrowers per credit
officer, number of active borrowers per management staff, portfolio per credit officer, cost per unit of
money lent and cost per loan made. The trend analysis results of each ratio are discussed below.
In Figure-8 the average numbers of active borrowers per credit officer of full fledge Islamic
banks are the lowest amongst the categories while those of Islamic branches of conventional banks are
the highest. The trend suggest that there is a decrease in number of borrowers per credit officer in case
of Islamic branches of conventional banks and conventional banks while full-fledge Islamic banks
have maintained this number.

Figure 8: Average Number of Active Borrowers per Credit Officer

In Figure-9 the average number of active borrowers per management staff of full fledges
Islamic banks are the lowest amongst the categories while conventional banks have the highest
number. The trend suggest that there is a decrease in number of borrowers per management staff in
case of conventional banks while full-fledge Islamic banks have maintained this number.

Figure 9: Average Number of Borrowers per Management Staff

International Research Journal of Finance and Economics - Issue 82 (2012) 82

In Figure-10 the average portfolio per credit officer of full fledges Islamic banks are the lowest
amongst the categories while Islamic branches of conventional banks have the highest number. The
trend suggests that there is an increase in portfolio per credit officer for all the three categories.

Figure 10: Average Portfolios per Credit Officer

In Figure 11 the average costs per unit money lent of full fledge Islamic banks decreases in
2007 and then it largely remains almost constant. The quantity decreases from 2006 to 2008 and
increases in 2009 and 2010 in case of Islamic branches of conventional banks while for conventional
banks, it increases to 14.3% in 2009 and a slight fall is observed in 2010.

Figure 11: Average Cost per Unit Money Lent

83 International Research Journal of Finance and Economics - Issue 82 (2012)

In Figure 12 the average costs per loan made of full fledge Islamic banks is the lowest one and
increases slightly over the study period. The quantity increases from 2006 to 2009 for conventional
banks and Islamic branches of convntional banks, and then it decreases a little bit in 2010.

Figure 12: Average Cost per Loan Made

Figure 13: Average Return on Performing Assets

International Research Journal of Finance and Economics - Issue 82 (2012) 84
Figure 14: Average Return on Average Total Assets

Figure 15: Average Financial Cost Ratio

85 International Research Journal of Finance and Economics - Issue 82 (2012)
Figure 16: Average Administrative Cost Ratio

Figure 17: Average Operating Self-Sufficiency Ratio

5.2.4. Earnings
Earnings is determined by six ratios called number of return on performing assets, return on total
assets, financial cost ratio, administrative cost ratio, operating self-sufficiency ratio and financial self-
sufficiency ratio. The trend analysis results of each ratio are discussed below.
In Figure-13 the average return on performing assets of Islamic branches of conventional banks
decreases over the study period while the quantity decreases largely over the study period for
International Research Journal of Finance and Economics - Issue 82 (2012) 86

conventional banks. The average return on performing assets increases in 2007 for Islamic banks then
it remains stable from 2008 to 2010.
In Figure-14 the average return on average total assets of Islamic branches of conventional
banks as well as of conventional banks decreases over the study period. The quantity increases to 0%
in 2007 and remains stable over the years 2010.
In Figure-15 the average financial cost ratio of banks of all three categories increases from 2006
to 2009 (except there is a small drop in average financial cost of conventional banks in 2009). In 2010,
the average financial cost ratios of Islamic branches of conventional banks and increases but the
quantity decreases for other two categories.
In Figure-16 the average administrative cost ratio of conventional banks increases steadily to
0.05% in 2010. The ratio decreases over the study period from 2006 to 2010. The average
administrative cost ratios of Islamic branches of conventional banks are the lowest and changes slowly
over the study period.
In Figure-17 the average operating self-sufficiency cost ratios of Islamic banks are steady over
the study period. The ratio decreases from 2006 to 2009 for conventional banks and it increases a little
in 2010. The ratio drops to 40% in 2008 from 55% (in 2006) and it remains constant over the years for
Islamic branches of conventional banks.
Due to absence of donations and grants Pakistani bank sector, the operating self-sufficiency
ratio and financial self-sufficiency ratio are the same. Thus, the analysis and results discussed in
previous section apply to this ratio also.

5.2.5. Liquidity
Liquidity is determined by one ratio called current ratio. The trend analysis results of current ratio are
discussed below.
In Figure-18 the average current ratio of Islamic banks is lowest in 2006. The average current
ratio of all categories of banks decreases in 2007. In 2008, a small increase in average current ratio of
conventional banks is observed followed by a small decrease in 2009. Later, in 2010, a large change in
the ratio is observed for conventional banks while the changes in the ratio for other categories remain
small.

Figure 18: Average Current Ratio

87 International Research Journal of Finance and Economics - Issue 82 (2012)

6. Conclusions
Statistical findings reveal that there are significant differences in the mean CAMEL ratios of three bank
types. The performance measurements of Islamic banking in Pakistan are different in comparison to
the results drawn from the similar studies done in other parts of the world. For example it is argued that
UAE Islamic banks are relatively more profitable, less liquid, less risky, and more efficient as
compared to the UAE conventional banks. Samad & Hassan (2000) revealed in their study that BIMB
(Bank Islam Malaysia Berhad) is less profitable, relatively less risky and more solvent as compared to
conventional banks of Malaysia.
The difference in results is largely due to the fact that Islamic banking has longer history in
these countries as compared to Pakistan where full-fledged Islamic banking started merely few years
back. Moreover, conventional banking has a longer history, deeper roots, vast experience of learning
from the financial markets mechanisms, and larger share in the Pakistan financial sector. Considering
these facts of the matter, we don’t find the results of our study surprising. However, the way Islamic
banking sector is improving and growing in Pakistan. Islamic Banking Department was established on
15th September, 2003 and has been entrusted with the task of promoting and developing the Shariah
Compliant Islamic Banking as a parallel and compatible banking system in the country. Islamic
Banking is one of the emerging field in global financial market, having tremendous potential and
growing at a very fast pace all around the world.
In January 2002, Meezan Bank Limited was granted first Islamic Banking License by State
Bank of Pakistan. The progress of Islamic Banking in Pakistan has also been commendable during the
last Five years. Currently there are six licensed full-fledged Islamic Banks and twelve conventional
banks with independent Islamic Branches.

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