Seranan

Electronic copy available at: http://ssrn.com/abstract=1895211

EFFECT OF CAPITAL STRUCTURE ON BANKS PERFORMANCE :

A PROFIT EFFICIENCY APPROACH

ISLAMIC AND CONVENTIONAL BANKS CASE IN INDONESIA

Ade Salman Al-Farisi 1, Riko Hendrawan

2

1 PT. Bank Mandiri Tbk.

2 TELKOM Institute of Management

ABSTRACT

Banks were knowned to have volatile capital structure caused by their financial liquidity. This

paper aims to examine the impact of capital structure towards performance of two group of

banks, conventional and Islamic banks, by using profit efficiency approach. Two stages

procedure were employed. In the first stage we measure profit efficiency score for each bank in

Indonesia during year 2002-2008 by using distribution free approach (DFA). In the second stage

we employ banks’ capital ratio to measure their impact towards their performance.

Output from the first stage indicate that bank’s average profit efficiency scores equal to 0,60.

Whereas the maximum score equal to 0,78. So there is still room around 0,18 Indonesian banks

to improve their performance. The output also indicate the Islamic banks in Indonesia succeed to

place their position at top 20% highest profit efficiency score.

Result from the second stage indicate that bank’s capital ratio have a negative effect on their

profit efficiency. Futhermore, the negative effect happened to be higher for the Islamic bank

group compared to conventional bank. This result consistent with Diamond & Rajan (2001)

opinion that higher capital could degrade bank’s profit performance.

Keyword : capital structure, conventional bank, islamic bank, liquidity, profit efficiency.

JEL : G.21

________________________________________ Corresponding author :

TELKOM Institute of Management

Jl. Gegerkalong Hilir No.47, Bandung 40152, West Java- Indonesia

Tel.: + (62222035691); fax: +(62222033830).

E-mail address: : [email protected]


1. INTRODUCTION

Both Islamic and conventional banks run the same financial intermediaries function. The term

Financial intermediary simply means a business that interacts with 2 types of individuals and

institutions in the economy (Rose & Hudgins, 2008 : 1) Deficit spending individuals and

institutions, whose current expenditures for the consumption and invesment exceed their current

receipts of income and who therefore need to raise funds externally through borrowing and

issuing stock, 2) Surplus spending institutions and individuals, whose current receipt of income

exceed their current expenditures on goods and services so that they have surplus funds that can

be saved and invested. Intermediaries perform the indispensable task of acting as a bridge

between these two groups, offering convenient financial services to surplus-spending units in

order to attract funds and allocating it to deficit spenders.

On the other hand, although both bank runs the same intermediation function, the basis utilized

by Islamic Banks is the profit / revenue sharing principle, differ from conventional banks that

based on market interest. The profit /revenue sharing basis might influence the Islamic bank’s

capital structure, as indicated by Moody’s Investor Service (2008) :

“However, unlike conventional banks, the charges attached to funding cost is supposed to be a

function of the asset’s yields, as per the core principle of profit sharing..”.

“With the profit / revenue sharing basis, there are possibilities where Islamic Banks’ profit

might get higher or lower in a certain period. In this situation Islamic Banks’ needed additional

capital as a buffer to cover this volatility. The additional capital usually knowned as investment

risk reserve or profit equalization reserve”

Based on empirical data during the year 2002-2008 for two Islamic banks (Bank Muamalat

Indonesia / BMI and Bank Syariah Mandiri / BSM) and one conventional bank (Bank BCA) in

Indonesia we can see some differences on their ROE (return on equity) ratio, where ROE at BMI

and BSM are lower and more fluctuative compared to BCA :


Table 1

Return on Equity BCA, BMI, BSM 2002-2008

Year BCA BMI BSM

2002 22.1% 15.2% 9.9%

2003 18.9% 9.9% 5.4%

2004 22.9% 8.0% 27.4%

2005 22.7% 12.5% 21.6%

2006 23.5% 15.0% 13.7%

2007 22.0% 10.3% 20.7%

2008 23,0% 31,2% 23,5%

Mean 22.2% 14.6% 17.5%

Std. Dev 1.5% 7.8% 8.0% Source : Processed from Annual Financial Statement of Bank BCA,

Bank Muamalat and Bank Syariah Mandiri 2002- 2008.

From the table 1 above, shows that BCA’s average ROE equal to 22,2%, higher compared to

BMI’s ROE (14,6%) and BSM (17,5%). Also with standard deviation equal to 1,5%, BCA’s

ROE is more stable compared to BMI (7,8%) and BSM (8%). The capital ratio for each bank are

as follow :

Table 2

Capital Ration BCA, BMI, BSM 2002-2008

Tahun BCA BMI BSM

2002 9.8% 20.3% 27.0%

2003 9.5% 21.5% 13.1%

2004 9.4% 24.1% 8.0%

2005 10.6% 22.9% 7.6%

2006 10.3% 27.8% 7.3%

2007 9.4% 20.1% 6.3%

2008 9,3% 7.7% 7.06%

Mean 9,8% 20,6% 10,9%

Std. Dev 0,5% 6,3% 7,4% Source : Processed from Annual Financial Statement of Bank BCA, Bank

Muamalat and Bank Syariah Mandiri 2002- 2008.

From the table 2 above, shows that BMI and BSM have higher capital structure ratio (Total

Equity / Total Asset) and more fluctuative compared to BCA. This condition could create

questions from the stakeholder about the Islamic bank’s performance.

Moody’s Investor Service (2008), have indicated that with the profit / revenue sharing basis,

there are some possibilities where Islamic Banks’ profit might get higher or lower in certain

period. In this situation Islamic Banks’ needed additional capital as a buffer to cover this

volatility. The additional capital usually knowned as investment risk reserve or profit

equalization reserve.

Diamond & Rajan (2001) argued that banks set up a volatile capital structure. This volatile

capital structure to cover their liquidity. Volatile capital structure enables banks to continue to to

channel loans which were illiquid and raise new deposit which were liquid. But capital addition

will lower bank’s deposit ratio, affecting the maximum amount of credit, and raising their cost of

capital.

Based on some reasons above, this study aims to compare conventional banks and Islamic Banks

performance by using efficiency indicators, and to evaluate the impact of their capital structure

decision towards their performance.

2. LITERATURE REVIEW

2.1. Calculation of Bank’s Efficiency Scores and Application to Measure Bank’s

Performance

De Young (1997) have noted that comparing cost ratios between two banks was improper to do

because there are some differences on their product mix, size, market conditions, and other

characteristics that could influence banks’ cost. Although ratios was easy to formed, he argued

that ratios was hard to be interpreted. Myopic analyses on the expenditures can be misleading.

De Young used stochastic cost frontier analysis that formed the best hypothetical bank in the

population as a benchmark. Stochastic cost frontier alone represents development conception on

efficiency (input-output) in economics.

The Efficiency approach measures the ability of a unit or someone in yielding maximum outputs

with their available inputs / resources. There are two statistical methods in measuring efficiency,

that is parametric statistical methods and non parametric statistical methods. Mlima and

Hjarmalsson (2002) concluded that each method utilized based on the following approach : (1).

Non parametric statistical efficiency utilized for the production or service approach. With this

approach, customer’s deposit were treated as the bank’s output. (2) Parametric statistical

methods utilized for the intermediation or asset approach. With this approach, bank accepts

customer’s deposit as one of their input and distribute it in the form of loan as their output.

Banks mobilize and distribute funds by using their resources efficiently to gain profit.

Di Patti (2000) argued that profit efficiency can be associated with company’s value

maximization concept. Where value of the firm represents a sum of present value of expected

profit in the future. So that failure in company’s value maximization will be related to failure for

the profit maximization with certain risk. Further, profit efficiency is a relative performance

concept that compare companies with the best company in industry as the optimal frontier.

With the efficiency approach, if a company cannot reach the optimal value (represented by the

best company in the industry), things can be measured. We can compare efficiency concept with

value of the firm concept. In the value of the firm concept, changes of value of the firm reflects

fluctuation of performance to expectation and not to their potency. Therefore it could not

indicate – for example - the existence of agency cost problem.

Other reason is that changes on company’s stock market price will reflect differences of market

price, where companies have only limited control over it. While profit efficiency can measure

how a company’s position compared to the best company in industry facing the same condition.

Based on the consideration above, and also to depict more intermediation function on both bank

group, this research will use the profit efficiency approach.

2.2. Bank’s Volatile Capital Structure

Differ from non financial company, liquidity might influence bank’s capital structure. Relations

between the asset side with the liabilities side on bank’s balance sheet made liquidity an issue. In

the asset side of their balance sheet, banks distribute loans / credits which they cannot collect

instantly. Where in the liabilities side, banks raise funds by selling deposit products that can be

withdrawn by depositors at any time. This mismatch condition of liquidity happened because

bank’s liabilities are more liquid compared to their assets. If depositors draw their money at the

same time, it could create a “bank run” (Diamond, 2007). So if depositors consider there are

problems at the banks’ asset side and the bank tries to negotiate or influence their deposit value,

depositors will chose to conduct the “bank run”.

Diamond & Rajan (2001) argued that banks need liquidity after channeling its credit. This

condition can be avoided if the bank can borrow enough money and channel it to entrepeneur.

To support this, banks set up a volatile capital structure. This volatile capital structure enables

banks to continue to to channel loans which were illiquid and raise new deposit which were

liquid. If depositors need to draw their funds, bank can pay them by taking new deposit. So this

matter will be like a never ending process.

Because the nature of deposits are volatile, hence banks needed fixed capital. But capital addition

will lower bank’s deposit ratio, affecting the maximum amount of credit, and raising their cost of

capital.

3. METHODOLOGY

Unit analysis in this research is commercial banks which conducted by census to the 102

conventional banks and 3 Islamic banks in Indonesia. Banks that operate Islamic banking

operations as part of their unit (unit usaha syariah), so their financial statement were mixed

between the conventional and Islamic banking operations, were excluded from the analysis. But

banks that treated their Islamic Banking Unit as a subsidiary, and separate their financial

statement, were included. Banks that do not operate as a commercial bank, were also excluded.

The profit function used in this paper developed by Berger and Di Patti (2003) , Berger and

Mester (1997), which evaluate how close a company in obtaining profit as achieved by the best

company within the same exogent condition. So that company’s profit represents a function from

input, output, and environment variables :

ln (π) = fπ (y,w,v) + ln uπ + ln єπ

Where π represents profit variable, y represents output variable, w represents input variable, and

represents environmental variable that can influence company performance. u represents

controllable factors that may influence efficiency, while є represents uncontrollable factors or

random error.

The Alternative Profit Efficiency model can be depicted as follows :

aπi [ exp {faπ (w

i, y

i, v

i) } x exp (lnu

iaπ) ]

APEFF = ------------- = -----------------------------------------------------

aπmax

[ exp {fiaπ (w

i, y

i, v

i) } x exp (lnu

maxaπ) ]

Berger and Di Patti (2003) also developed Standard Profit Efficiency model. The difference

between the standard an alternative profit efficiency is that the output variable (y) at Standard

Profit Efficiency will be replaced by the price (p). The model specification of profit function

which is used in this research is a translog model (Berger and Di Patti, 2003) as follows :

3 3 3

ln π (w,y,v,t) = α + Σ βi ln yit + ½ Σ Σ βik ln yit ln ykt

3 i=1

3 3 i=1k=1

+ Σ γj ln wjt + ½ Σ Σ γjm ln wjt ln wmt j=1 j=1 m=1

3 3

+ Σ Σ δij ln yjt ln wjt + θ1 ln vt + ½ θ2 (ln vt)2

i=1 j=1

3 3

+ Σ τi ln yjt ln vt + Σ ηj ln wjt ln vt + θ1t

i=1

j=1

3 3

+ ½ θ2t2 Σ Φi ln yjtt + Σ ωj ln wjt t + λt ln vtt + εt (1)

The model measures bank’s profit (π) as a function of three input variables (w1-3), three output

variables (y-1), one environmental variable (v), and time (t)

where :

t = time index

εt = error term, which consist of :

ut = represents inefficiency from bank

zt= normal error term or random noise.

Profit (π) = Variable Profit = Interest Income – Interest Expenses

Input Variables (w), consist of :

w1 = Cost of Labor / Total Asset

w2 = Price from borrowed funds = Interest Expenses / ( Total of Third Party Fund + Marketable

securities + Interbank + Accepted Loans)

w3 = Price from physical capital = ( Non Interest Expense – Labour Cost) / Fixed Asset

Output Variables (y) consist of :

y1 = channeled loans

y2 = Marketable securities (including bonds)

y3 = Net of non interest income

Environmental variable ( v) :

v = monthly inflation rate in Indonesia during research period.

Statistical analysis which were used to test hypothesis in this research is pooled least squared

regression. After the error term for each bank obtained from the regression model above, it will

be used in calculating profit efficiency scores as follows :

1 T

ζ = ----- Σ ζt , so that profit efficiency for each bank were calculated : T t=1

EFF = exp [ζ – max (ζ )]

In the second stage, the following model will be used to test the impact of Capital Ratio towards

bank’s efficiency :

EFFjt = πt + ρCAPjt + ς(DBANK x CAP)jt +єjt (2)

Where :

t = time index

j = the j bank

εt = error term

CAP = Total Equity / Total Asset ratio

DBANK = dummy variable, equal 1 for Islamic bank, and 0 for conventional bank

4. RESULT

Table 3 below shows descriptive statistic of the data . One dependent variable (bank’s profit) and

3 independent variables that have significant effect are as follows :

Table 3

Descriptive Statistics

Bank Profit, Input and Output Variables

Bank Group Item

Dependent Variable Bank’s Profit

(Rp. Mio)

Independent Variables

Labour cost / Total Asset

(w1) Channeled Loans (y1)

Marketable Securities

(y2)

Conventional

Mean 88,056 0.5% 2,928,959 2,224,140

Max 3,584,924 3.5% 126,826,445 161,554,954

Min (128,899) -3.7% 1,549 -

Skewness 6.6 1.3 7.7 8.5

Islamic

Mean 63,811 0.50% 3,339,008 131,098

Max 406,266 1.10% 10,361,619 932,310

Min (41,983) 0.11% 168,468 -

Skewness 2.2 0.6 0.6 1.9

Source : Data processing

Based on table 3 above , we can conclude that :

- The range of profit at conventional banks are larger compared to Islamic bank. Where the

ratio of average profit / total asset of the 102 conventional banks are between 0,24% to

3,43%, while the range for Islamic Banks are smaller that is between 1,51% s.d 1,64%.

- Average of Labour cost / Total Asset in the conventional banks is equal to 0,53% relatively

bigger compared to The Islamic bank group which equal to 0,50%.

Estimation on Bank’s Profit Model

By using pooled least square regression from translog alternative profit efficiency model (1)

above, this research try to depict bank’s intermediation role in using raised funds from society

and channels it in the form of credit to maximize profit. To prevent negative value, a constant

added to the variable profit. And to eliminate heteroskedasticity influence we used white

heteroskedasticity analysis. Output obtained by using eViews data processing is as follow :

Tabel 4

Estimation Result of Bank’s Profit.

Variabel (constant)

Estimasi parameter t-stat

C -6.153663 -2.718874**

LNY1 1.458401 5.463503***

LNY2 -0.295751 -4.226026***

LNY3 0.074965 0.417610

0.5*LNY12 0.022154 3.050833***

0.5*LNY13 -0.057986 -3.072741***

0.5*LNY23 -0.007848 -1.549481

LNW1 -1.630558 -4.336924***

LNW2 -0.443767 -1.387854

LNW3 -0.148965 -0.671960

0.5*LNW12 0.015218 0.230322

0.5*LNW13 -0.242846 -3.107148***

0.5*LNW23 0.181958 1.865010*

LNY1W1 0.148126 4.045404***

LNY1W2 0.069081 1.625500

LNY1W3 0.003526 0.256885

LNY2W1 -0.018110 -3.227066***

LNY2W2 -0.014703 -2.240189**

LNY2W3 -0.014630 -2.899973**

LNY3W1 -0.054474 -1.877800*

LNY3W2 -0.011104 -0.325807

LNY3W3 0.008513 0.855067

INF -18.27145 -1.214993

0.5*INF2 -47.01485 -0.126017

LNY1INF -2.125315 -1.694733*

LNY2INF -0.138811 -0.941623

LNY3INF 1.438600 1.506000

LNW1INF -1.023150 -0.605510

LNW2INF -7.386964 -4.313685***

LNW3INF -1.426113 -1.262630

T 0.026246 0.757958

0.5*T2 -0.000222 -0.274453

LNY1T -0.001467 -1.070161

LNY2T 0.000713 2.049247**

LNY3T 0.002786 2.130935**

Variabel (constant)

Estimasi parameter t-stat

LNW1T -0.002560 -1.080445

LNW2T 0.000385 0.082081

LNW3T 0.007483 3.826306

INFT -0.019561 -0.076795

R-squared : 0.942823

Adjusted R-squared : 0.939406

F-stat : 275.9092


* Significant at α = 10%

** Significant at α = 5%

*** Significant at α = 1%

Result from table 4 above shows estimation model of factors that influence bank’s variable

profit. From the result we can conclude that some independent variables, that is channeled loans

(y1), marketable securities (including bonds) (y2), and labour expenses (w1), have a significant

effect on bank’s variable profit. While for some independent variables, the quarterly inflation

rate (v) and the time index (T) do not have significant effect on bank’s variable profit. But

according to Koetter opinion (2005), with the interaction of some variables at the same time,

hence interpretation from each variable becomes not directly. Hence we only consider some

variables that have significant effect and compare it to some former researchs :

* Channeled Loans output variable (y1)

From the regression result we can see that coefficient of the channeled loans output variable is

equal to 1.458401. Positive coefficient number indicate that channeled loans and bank’s profit

growth have a positive relation. This has the same result with the research conducted by Illieva

(2003) and Santos (2007) that found a positive relation with bank’s profit function. While

Koetter (2005) whose research separates between commercial loan and interbank’s loan found a

positive relation between interbanks loan and bank’s profit, but a negative relation for the

commercial loan. Other result came from research by Fitzpatrick, Trevor & Mc Queen, (2005)

who found the relation was not significant.

The high level coefficient of channelled loans variable compared to other output variables,

indicate that channeled loans is a potential variable to improve bank’s profit efficiency. The

same opinion came from research conducted by Haddad et. al. (2003) where they concluded that

channelled loans play important role in determining bank’s profit efficiency.

* Marketable Securities (including bonds) Output Variable (y2)

From regression result we can see significant but negative relation between marketable securities

variable with bank’s profit. Where the coefficient from the variable equals to -0.295751.

Negative coefficient indicate if marketable securities grow higher, then the bank’s profit will fall.

This result differs from Santos’ (2007) research who found significant and negative relation but

with bank’s cost function (not bank’s profit) with coefficient -0,99%. Research from Koetter

(2005) found positive relation with bank’s profit with coefficient 0,790.

* Price of Labour Input Variable (w1)

Coefficient from labour price variable is significant and equal to -1.630558. Negative coefficient

number indicates that higher labour price have negative impact on bank’s profit. This output

matches result from Koetter (2005) with coefficient - 0.387. While two other researches give

different result. Research from Fitzpatrick, Trevor & Mc Queen (2005)and Illieva (2003) found a

positive and significant relation of this variable with bank’s profit.

Estimating Coefficient of Determination (R2)

Coefficient of determination (R2) resulted from the regression equals to 0.942823, meaning that

94.282% of bank’s variable profit were influenced by determinant variables in the model, while

5,718% is influenced by other variables outside the model.

Bank’s Profit Efficiency Scores

By using the error term from the regression model above, we count the profit efficiency scores

for each bank as follows :

1 T

ζ = ----- Σ ζt

T t=1

EFF = exp [ζ – max (ζ )]

Descriptive statistics of the profit efficiency scores for all banks are as follows :

Tabel 5

Descriptive Statistics of The Profit Efficiency Scores

Year 2002-2008

Item Scores

Mean 0.603799

Skewness 1.199675

Min 0.513134

Max 0.776964

N 105 Source : Data processing

Table 5 above shows that the maximum profit efficiency scores equals to 0,776964, while the

average for all banks is 0,603799. Hence on average banks in Indonesia still have room to

improve their profit efficiency scores for 0,776964 – 0,603799 = 0.173165.

The profit efficiency scores for all banks are as follows :

Table 6 Profit Efficiency Scores

Year 2002-2008

No. BANK

Profit Efficiency

Score

1 Standard Chartered Bank 0.777

2 Bank Windu Kentjana International 0.761

3 Deutsche Bank A.G. 0.754

4 Bank China Trust Indonesia 0.753

5 Bank Woori Indonesia 0.752

6 The Bank of Tokyo Mitsubishi 0.742

7 Bank Maybank Indocorp 0.731

8 Bank Syariah Mandiri 0.728

9 J.P Morgan Chase Bank N.A. 0.722

10 Bank UOB Indonesia 0.717

11 Bank Rabobank International 0.717

12 Bank Muamalat Indonesia 0.715

13 Bank KEB Indonesia 0.712

14 Bank Mizuho Indonesia 0.703

15 Bank Ina Perdana 0.701

16 Bank Sumitomo Mitsui Indonesia 0.691

17 Bank Mayapada International 0.690

18 American Express Ltd 0.688

19 ABN Amro Bank 0.682

20 Bank of America N. A 0.673

21 Bank Syariah Mega Indonesia 0.671

22 Citibank N.A. 0.660

23 Bank OCBC Indonesia 0.654

24 Bank Victoria International Tbk 0.652

25 Bank Kesawan 0.652

26 The Bangkok Bank Company Ltd. 0.644

27 Bank Resona Perdania 0.642

28 Bank Swaguna 0.634

29 Bank Eksekutif International 0.615

30 Bank Bumiputera 0.606

31 Bank Himpunan Saudara 1906 0.605

32 Bank BNP Paribas Indonesia 0.597

33 Bank Persyarikatan Utama 0.595

34 Bank ICBC Indonsia 0.594

35 Bank Jasa Arta 0.586

36 Bank Agroniaga 0.586

No. BANK

Profit Efficiency

Score

37 Bank Harda International 0.586

38 Bank Index Selindo 0.585

39 Bank NISP 0.585

40 Bank Mega 0.584

41 Centratama Nasional Bank 0.584

42 Bank Bengkulu 0.583

43 Bank Akita 0.583

44 Bank Harfa 0.574

45 Bank Sinarmas 0.573

46 Bank Central Asia 0.571

47 Bank Bali 0.571

48 Bank Ekonomi Raharja 0.571

49 Bank Hana 0.571

50 Bank Maspion Indonesia 0.571

51 Bank Mestika Dharma 0.571

52 Bank Nusantara Parahyangan 0.571

53 Bank Bisnis International 0.571

54 Bank Harmoni International 0.571

55 Bank Multi Arta Sentosa 0.571

56 Bank Sumatera Barat (Bank Nagari) 0.571

57 Bank Jawa Timur 0.571

58 Bank Papua 0.571

59 Bank Antar Daerah 0.571

60 Bank Bumi Arta 0.571

61 Bank Ganesha 0.571

62 Bank Haga 0.571

63 Bank Hagakita 0.571

64 Bank Lippo 0.571

65 Bank Swadesi 0.571

66 Bank UOB Buana 0.571

67 Anglomas Internasional Bank 0.571

68 Bank Artos Indonesia 0.571

69 Bank Dipo International 0.571

70 Bank Indomonex 0.571

71 Bank Jasa Jakarta 0.571

72 Bank Kesejahteraan Ekonomi 0.571

73 Bank Mitraniaga 0.571

74 Bank Purba Danarta 0.571

75 Bank Sinar Harapan Bali 0.571

No. BANK

Profit Efficiency

Score

76 Bank Sri Partha 0.571

77 Bank UIB 0.571

78 Bank Yudha Bhakti 0.571

79 Prima Master Bank 0.571

80 BPD Kalimantan Timur 0.571

81 BPD Yogyakarta 0.571

82 Bank Lampung 0.571

83 Bank Jambi 0.571

84 Bank Sulawesi Selatan 0.571

85 Bank Jawa Tengah 0.571

86 ANZ Panin Bank 0.571

87 Bank Commonwealth 0.569

88 Bank Nusa Tenggara Timur 0.569

89 Bank Pan Indonesia Bank 0.560

90 BPD Sulawesi Tenggara 0.557

91 Bank Maluku 0.556

92 Bank Mayora 0.555

93 Bank Sulawesi Utara 0.555

94 Bank Mandiri 0.554

95 Bank Century 0.553

96 Bank Tabungan Pensiunan Nasional 0.547

97 Bank Kalimantan Tengah 0.543

98 Bank Royal Indonesia 0.542

99 Bank Fama International 0.541

100 Bank Finconesia 0.540

101 Bank Metro Express 0.539

102 Bank Alfindo 0.532

103 Liman International Bank 0.524

104 Bank DBS Indonesia 0.515

105 Bank Sulawesi Tengah 0.513


From table 6 above, shows that Standard Chartered Bank has the highest profit efficiency score

(score 0,7769) whereas Bank Sulawesi Tengah has the lowest profit efficiency scores (score

0,5131). For the three Islamic bank, ranked between the 20% of the highest profit efficient

banks, that is: BSM ( ranked 8, score 0,728), BMI ( ranked 12, score 0,715) and Bank Mega

Syariah Indonesia (ranked 21, score 0,671).

If we grouped the banks based on their owners, descriptive statistic to the profit efficiency scores

shall be as follows :

Tabel 7

Descriptive Statistics of The Profit Efficiency Scores

Based on Bank’s Owner Year 2002-2008

Item

Government Banks

Private Forex

Private Non Forex

Rural Banks

Joint Banks Foreign Banks

Mean 0.5539 0.5941 0.5778 0.5636 0.6641 0.7047

Skewness 1.7696 1.8871 (2.2576) (0.5758) 0.3351

Min 0.5539 0.5391 0.5237 0.5131 0.5154 0.6445

Max 0.5539 0.7279 0.7006 0.5832 0.7613 0.7770

N 1 29 33 17 16 9

*Including 3 Islamic banks Source of : Data processing

Based on the ownership, can be seen that on average foreign banks group represent the most

efficient banks in using all of their resources (input and output resources) in running the

intermediation function to yield profit. The next most efficient groups are : joint banks, private

foreign exchange bank, private non foreign exchange banks, rural banks and government banks.

Foreign bank group as the highest profit efficient groups are similar to the research output

according to Hadad, Santoso & Mardanugraha (2003), where for the year of 2001 – 2003 foreign

banks group represent the most efficient.

Estimation of the Model : Influence of The Capital Structure Towards Profit Efficiency

At the second stage, regression of the capital ratio towards bank’s profit efficiency score as

according to model (2) above resulting the following output :

Table 8

Regression Output

The Effect of Capital Ratio towards Bank’s Profit Efficiency

Variables Coefficient Std. Error

t-

Statistic Prob. Prob

C 0.722816 0.000700 1031.858 0.0000 Significant

CAP -0.470281 0.060061

-

7.830090 0.0000 Significant

DBANK*CAP 0.133089 0.059725 2.228359 0.0281 Significant

R-squared 0.725207 Adjusted R-Squared 0.719819

Prob (F-Stat) 0


Islamic Bank ρCAP coefficient : -0,470281

Conventional bank ρCAP coefficient : -0,470281 + ς = -0,470281 + 0,133089 = -0.337192

Analysis of the Influence Total Equity / Total Asset Ratio to Profit Efficiency

Based on the output above, we can see that the Total Equity / Total Asset (CAP) have a negative

slope which is equal to -0,4703 for the Islamic bank and -0,33712 for the conventional bank.

This model also have coefficient determination (R2) that is 0,725, so we can conclude that

partially additional capital can explain 72,5% bank’s profit efficiency. Also based on the variable

coefficient above, every 1% increase Total Equity/Total Asset ratio will caused 0,33%

degradation on conventional bank’s profit efficiency scores and 0,4703% degradation for the

Islamic bank. Differences of this coefficient indicate that additional capital addition will have

higher negative effect towards profit efficiency scores at the Islamic bank compared to the

conventional bank. This result consistent with Diamond and Rajan (2001) opinion, where larger

capital addition have the potency to degrade bank’s profit performance.

5. CONCLUSION AND SUGGESTION

By using pooled least square method to estimate translog profit efficiency model, some variables

that influence significantly to bank’s profit are : channelled loans (positive effect), marketable

securities (negative effect), labour cost (a negative effect). While other variables do not have

significant effect. Based on residual estimation, average profit efficiency score to the entire

banks equal to 60,38%, whereas the maximum profit efficiency score equal to 77,70%. Thereby

on average banks in the sample still have room to improve their resources allocation to increase

profit by 77,70% – 60,38 = 17,32%.

Standard Chartered Bank has the highest profit efficiency score (77,70%) while Bank Sulawesi

Tengah has the lowest score (51,30%).

From the entire 105 banks, the three Islamic banks ranked in the 20% most profit efficient, that

Bank Syariah Mandiri (rank 8), Bank Muamalat Indonesia (rank 12) and Bank Mega Syariah

(rank 21). So that although there is an indication that Islamic Banks’ might needed additional

capital that could create their relatively low ROE compared to their conventional peers, but

descriptively can be said that Islamic banks can manage their input and output variables good

enough in yielding profit.

The Ratio of Total Equity / Total Asset have a negative and significant effect towards both

Islamic and Conventional Banks’ profit efficiency. This result consistent with the opinion that

additional capital could degrade bank’s profit performance. We also noted that additional capital

will have higher negative effect on Islamic banks’ performance compared to conventional banks.

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