The Study on Impact of the Credit Risk Management on Profitability of Licensed Commercial Banks in Sri Lanka

Abstract

Credit risk management has become an important topic for financial institutes, especially, Banks who provides financial services in relating to the conditions of uncertainty. The turmoil of the financial industry emphasizes the importance of effective risk management procedures. Consequently, this research, aimed to explore the Impact of the Credit Risk on profitability of licensed top ten commercial banks in Sri Lanka. Thus, this study focuses to gain a better understanding of credit risk management and its impact on profitability. Study was done using quantitative research methods with deductive approach. The secondary data was collected sample consists with 10 licensed commercial banks in Sri Lanka for the period of seven years from 2010 to 2016. The data was tested using panel regression methods to inference the results throughout Pool Ordinary Least square, Fixed effect and Random effect models. The profitability was measured by return on assets (ROA) and return on equity (ROE) as dependent variable. Non - performing loan (NPL) ratio, Capital adequacy ratio (CAR) are used as independent credit risk variables. The study found that the NPL ratio showed a significant negative relationship between profitability measures of ROE with the banks. On the other hand, findings show that CAR is positively associated with the profitability for ROE and ROA. Thus, results are concluded that credit risk management has significantly impacted on stability of banks. Managers, therefore, can increase firm’s profitability by improving the performance of management of credit risk components.