Risk and Financial Management - Case Study Example

FINANCIAL STATEMENTS ANALYSIS (Author’s name) (Institutional Affiliation) Performance Analysis Assets and Liability structure The asset structure can be defined as the mix of the company’s assets in different assets classes to maximize the over view of the company’s foundation (Bluhm, Overbeck & Wagner 2002). This is the best mix of fixed, current and intangible assets which indicates the company’s funding position (Saunders & Cornett 2011). This mix is observed by the lenders who evaluate the company’s ability to pay their debts as and when they fall due. The liability structure is the best value of liability the company can hold at a single period without facing liquidity problems (Tapiero 2004). This is the best value a company can get at the lowest cost without straining its resources. The liability structure gives the company’s risk based on the value it owes to third parties. Ratios highlight the position based on the assets and liability structure. Under the asset structure we shall look into the net changes in the asset position to see growth and shrinkage within the three years and also compare against both banks. Bank 2008 2009 2010 Comments Alpha bank 2,030,375 The sub total of the fixed assets 8,832,577=currents assets 2,109,212 The sub total of the fixed assets 8,871,919=current assets 1,572,562 The sub total of fixed assets 11,873,630= current assets There was growth between 2008 and 2009 which decreased in 2010. This can be attributed to the increase in asset held for sale and also the general decrease in price in the property markets. EIB GROUP 1,882,059 The sub total fixed assets 5,228,054=current assets 2,359,307 The sub total fixed assets 6,335,250=current assets 2,559,290 The sub total fixed assets 18,417,824=currents assets There is a steady growth in the asset of the group for the three consecutive years. The three year increment must also be noted.There is also an increase of current asset due to prepayments. N/B For Alpha Bank the asset include investment property, assets, plant and gear, goodwill and other insubstantial assets and other assets to represent the fixed assets/ noncurrent assets . Under the current asset the growth is steady and excludes the deposits from customer as they are third parties assets, which are, held for custody keeping. For the EIB Group the fixed asset include shares, tangible assets, intangible assets and other assets. The liability structure can be evaluated from two points. The first point is the ratio between the customer deposits against the loans given out. The second point is the evaluation of the look into liquidity, current and gearing ratios (Tapiero 2004). EIB Group The liquidity of the company can be explained through a provision set aside to ensure that the bank can meet it obligation punctually and in full (Bluhm, Overbeck & Wagner 2002).The bank has a Contingent Liquidity Plan that defines decision making procedures and the respective duties of officer in case of the sign of an approaching crisis. The CLP is subject to ad hoc updates to ensure there is clear and timely flow of information to the management committee. The average liquidity ratio was 48.0% ,23 point high than the minimum requirement as at 31 December 2010, compared to previous year ranging at 34.8% in 2009. The computation of this ratio was arrived at in consideration of the 14 currency on which this bank operates. The analysis also took into account the Held to Maturity and Available for sale (HtM vs. AfS) requirement. Liquidity can also be looked at by evaluating the outstanding loan balances. The EIB group had the outstanding loan decreased from 1.75% to 0.87%. Alpha Bank The amount is guarantee increase from 20,000 to 100,000 pounds per depositor through the guarantee fund. The bank also has provision based on discounted future cash outflows to ensure future obligations can be settled in the future without strain. The bank has a total credit exposure of 98,041,695 as 2009 from 103,614,840 as at 2008 the exposure has been reduced to 67,848,576 as 2010. The bank has also been using extensively the values issued by the External Credit Assessment Institutions (ECAI). The bank has also institutes a research on creation of statistical models which can calculate a given possible loss in case of default and exposure to help in monitoring the liquidity issue. The bank also has Stress Testing exercises which try to trigger events and issues to see how they affect loan repayments and affect the cash flow of the company. The financial crisis has affected banks on the basis of the changes in the property markets fluctuation of currencies (Saunders & Cornett 2011). This exposes them to obligation changes and also valuation of future contracts (Saunders 2007).These contracts have to be hedged against these changes to reduce the transaction charges minimize liability and also recover amount from past contracts before they get depreciated. Provisions have to be planned for to protect the customer deposits, bad debts and future expected commitments. The liability structures of the banks have been affected by the fact that future contracts are becoming more expensive and costly. The crisis has reduced the credit worthiness of corporate and individual. Banks have to evaluate the risk associated with lending. Alpha bank on to part has been able to participate on the economy shaping through the central bank of Luxembourg and increase it deposits with the different central banks under which it operates. The EIB Group on the under handle has established a more firmly risk management committee which has to oversee the valuation of contracts is done efficiently in the larger markets. Analyses of the Bank Performance to Determine the Effect from the Financial Market This section we shall look into the bank performance and analyses into trend and cross-sectional the main indicators will the price-earnings ratio, share price, credit rating and the return on investment. Earnings per share This entails the evaluation of the expected return on the shareholder (Lam 2003). It is computed as the earning attributable to shareholder divided by the number of ordinary shares. This show how much is created on a share and is used as a yard stick by the investor to see how much they are to earn on one share invested. The Alpha bank has a current EPS of0.02 in 2010 from a previous 0.64 in 2009 and 1.15 in 2008 as it can be seen the EPS has been reducing in the years despite the number of shares remaining the same. The EPS of the EIB Group can be calculating as follows: Ratio 2010 2009 2008 comments EPS 2,097,717/154,928,659=0.013 1,864,832/154,928,659=0.012 1,648,467/154,928,659=0.010 The EPS has been changing over the period and is being diluted overtime Price Earnings Ratio This is the overall between the current market price and the earning per share. It is compute as the ratio of the market price over the earnings per share (Lam 2003). Bank 2010 2009 2008 comments Alpha bank 5/0.02=250 10/0.64=15.625 20/1.15=17.39 The P/E has been increasing from the share price and that the returns are less minimal compared to the share price. EIB Group 104.42/.013=8032 104.42/.012=8701 104.42/.010=10442 The share is less volatile and does react to changes in the market due to it poor performances. Credit Rating The credit rating entails evaluates an issuer of a debt in terms on their potential in issuing credit (Saunders 2007). The rating is done in terms of the region based on the market risk, loan sizes, and the rate of default in those arrears against the number of loans the enterprise holds in default.th banks are rated according to their clearance in loans and also the changes experienced in the market. The alpha bank has the credit rating as follows as obtained from their website. Long Term* Short Term* Standard and Poor's CCC C Moody's Caa2 NP Fitch B- B *last update 30.09.2011 The European commission has rated the EIB Group as AAA in credit rating status. However it has been accused of not being vigilante on loans by competitors. This credit rating has give the EIB group a competitive edge as it the recommended borrower for many households. Return on Investment This is the return on what the investor have committed to the company by purchase of shares (Saunders & Cornett 2011). Generally this return is mostly compared to the risk free rate plus the beta of the investment multiplied by the risk premium. The risk premium is give by the market risk minus the risk free rate. The risk free in this term is the risk offered at the bond issued by the government. The risk free was at 4.5% in 2008 to the current 1.5% in 2011.this is against a GDP growth of 0.30%, inflation at 2.40% and unemployment at 9.9.%. The market return has been calculated at 9% to 13% based on the different market. The southern Europe is performing better in terms of investor return compared to central Europe. Bank 2010 2009 2008 Comments Alpha Bank 85,649/66,798,315*100=0.128 349,814/69,596,074*100=.0503 512,447/65,269,954*100=0.785 The return on investment has been decreasing in the periods. EIB Group 2097717/420457658*100=0.477 1864832/368006944*100=0.507 1648467/326306430*100=0.455 The return on investment is way below the expected and may scare way the investors. The return on investment reduced the investor confidence. This affects the share price as investor’s pullout to seek greener pasture. This can affect the bank’s deposits which have to be pitch against the total market capitalization. As it has been seen the financial effect has adverse effect on the performance of the financial institutions. The crisis crated a mutual distrust between the investors and the banks being at the centre of the financial system were mostly affected. The crisis contributed to the freezing of interbank’s lending and money markets. The overnight lending was also affected with interest rates increasing each day. This affected bank on the short term lending period and paralyzed the short terms markets. Market Risk Exposure This is the risk associated by trading within a given market (Tapiero 2004). The banks are operating in the European Market which has been affected by the financial crisis as other market. However this market is volatile as it has the banks having operations where the currencies are fluctuating within a very short range. The Alpha bank has subsidiaries which are in different industries which make it hard for the bank. These subsidiaries range from investment banks, asset management, insurance, real estate and hotel, special purpose and holding entities, other companies and joint ventures. This calls for the consolidation of the accounts to ensure that they have consolidated report which is used by a potential investor. Total credit exposure has been valued at 86,984,027 which have been distributed according to sectors. The biggest single exposure can be seen on construction and real estate with a total value of 8,976,547. The market risk is also noted through the change in the value of interest rates, equity prices and stock exchange indexes changes. Alpha bank have taken measure through Assets and Liabilities management committee. This committee has the mandate to evaluate the foreign currency risk and advice regarding spots and forward contracting. The committee also checks the interest rate exposure and looks into rate swaps interest options and future interests. The EIB on the other hand use group swaps to cover itself against interest fluctuation. The recording of hedge is also not done at book value but at the expected discounted future value. It also uses the leveling of financial instrument in the market through the recommended framework. Between the two banks the EIB is less exposed as in terms of currency fluctuation and which is cover by a joint committee. On the other and however the Alpha bank has diverse it portfolio too many business venture creating relation hence reducing the overall risk. However Alpha bank has overcome the market exposure and is less risky. The value at a risk framework is a used to forecast rates at the use of probability. This method is not realistic because despite probability being in force there are other major factors which affect the market. The recommended bank international settlement- standardized framework argues that the company should have a 8% value as the only risk amount and those who pass this grate are exposing themselves to risk in high terms. Both methods have loop hole and the best is the standardized framework which can be used to ensure that the bank is not exposing itself on a high risk. Derivatives The use of derivatives has been a new trend in the market which seeks to confirm a transaction by creating a contract in the present and ensuring that despite any change in the market the value of the transaction is maintained (Saunders & Cornett 2011). This ensures that the groups paying are under a specific obligation and hence reducing uncertainty. The banks have used derivatives to cover their selves. The main methods used are foreign exchange derivatives, interest derivatives and equity derivatives. The use of this method is beneficial but can be risk at times especially in this changing environment. The derivatives are used to give leverage and prevent large variations. The bank has also embraced hedging which helps in reduction of the risk. Derivatives have been discouraged because of the changes in the financial fields. These changes can expose the companies to be in the competitive market as the derivative try to fix interest in the future. The use of derivative also prevents the concept of a free market which is to be embraced to ensure the list full competitiveness. The use of derivatives can also be seen as the institution of self created monetary policies which are legal.they are not legally enforceable and hence their validity is questioned. References Bluhm, Christian, Ludger Overbeck & Christopher Wagner (2002). An Introduction to Credit Risk Modeling. New York, Chapman & Hall/CRC. Lam, James (2003). Enterprise Risk Management: From Incentives to Controls. Oregon, John Wiley. Saunders, A. (2007). Cram101 textbook outlines to accompany: financial institutions management: a risk management approach, 5th ed. [Moorpark, Calif.], Academic Internet Publishers. Saunders, A., & Cornett, M. M. (2011). Financial institutions management: a risk management approach. Boston [u.a.], McGraw-Hill. Tapiero, Charles (2004). Risk and Financial Management: Mathematical and Computational Methods. California, John Wiley & Sons. Read More