Factors Affecting Capital Adequacy Ratio Of Commercial Banks In Viet Am.pdf

HO CHI MINH UNIVERSITY OF BANKING

UNIVERSITY GRADUATION THESIS

FACTORS AFFECTING CAPITAL ADEQUACY RATIO OF COMMERCIAL BANKS IN VIETNAM

MAJOR: FINANCE AND BANKING SUBJECT CODE: 7340201

NGUYỄN QUỲNH

HO CHI MINH CITY, 2024

HO CHI MINH UNIVERSITY OF BANKING

UNIVERSITY GRADUATION THESIS

FACTORS AFFECTING CAPITAL ADEQUACY RATIO OF COMMERCIAL BANKS IN VIETNAM

MAJOR: FINANCE AND BANKING SUBJECT CODE: 7340201

Student’s name: NGUYỄN QUỲNH Student code: 050608200598

Class: HQ8-GE06

SUPERVISOR

Ph.D NGUYỄN THỊ NHƯ QUỲNH

HO CHI MINH CITY, 2024

ABSTRACT

Capital adequacy ratio (CAR) is a financial indicator that measures a bank's operational safety and risk management The bank has a stable capital adequacy ratio that can withstand financial risks arising in the future Therefore, the author chooses the thesis topic "Factors Affecting Capital Adequacy Ratio of Commercial Banks in Vietnam" as an empirical study to identify factors that considerably impact the capital adequacy ratio (CAR) of 25 commercial banks in Vietnam in 2013-2022 The independent variables that the author included in the study to hypothesize the regression model include Return on assets (ROA), Size of the bank (SIZE), Net Interest Margin (NIM), Loan Assets Ratio (LOA), Loan loss reserves (LLR), Lidiquity (LIQ) and Leverage (LEV)

Using the Pooled OLS Regression Model, Fixed Effects Model, Random Effects Model, Feasible General Least Square Model, and regression model tests, the author concluded that the research results from the Feasible General Least Square estimation method as the final study conclusion The results of the study illustrate that the factors banks that negatively affect the capital adequacy ratio (CAR) of Vietnamese commercial banks are ROA, SIZE, LOA and LEV In contrast, NIM positively impacts the commercial banks’ capital (CAR) Besides, LLR and LIQ have no statistical significance in the research model From there, relevant policy implications will be proposed to improve management activities of the capital adequacy ratio of Vietnamese commercial banks in the future

TÓM TẮT

Tỷ lệ an toàn vốn (CAR) là chỉ số tài chính đo lường mức độ an toàn về hoạt động và quản trị rủi ro của ngân hàng Ngân hàng có chỉ số an toàn vốn ổn định có khả năng chống chọi với những rủi ro tài chính phát sinh trong tương lai Vì thế, tác giả lựa chọn đề tài khoá luận "Các yếu tố ảnh hưởng đến tỷ lệ an toàn vốn của các ngân hàng thương mại tại Việt Nam" là nghiên cứu thực nghiệm nhằm xác định các yếu tố tác động đáng kể đến tỷ lệ an toàn vốn (CAR) của 25 ngân hàng thương mại tại Việt Nam trong giai đoạn 2013-2022 Các biến độc lập mà tác giả đưa vào nghiên cứu để đưa ra giả thuyết về mô hình hồi quy bao gồm Lợi nhuận trên tài sản (ROA), Quy mô ngân hàng (SIZE), Biên lãi ròng (NIM), Quy mô khoản vay (LOA), Dự phòng tổn thất cho vay (LLR), Khả năng thanh khoản (LIQ) và Đòn bẩy tài chính (LEV)

Sử dụng mô hình hồi quy bằng phương pháp bình phương nhỏ nhất, mô hình tác động cố định, mô hình tác động ngẫu nhiên, mô hình bình phương nhỏ nhất tổng quát và các kiểm định mô hình hồi quy, tác giả kết luận rằng kết quả nghiên cứu từ phương pháp ước tính bình phương tối thiểu chung khả thi là kết luận nghiên cứu cuối cùng Kết quả nghiên cứu cho thấy các yếu tố ngân hàng ảnh hưởng tiêu cực đến tỷ lệ an toàn vốn (CAR) của các ngân hàng thương mại Việt Nam là ROA, SIZE, LOA và LEV Ngược lại, yếu tố NIM tác động tích cực đến vốn của các ngân hàng thương mại (CAR) Bên cạnh đó, LLR và LIQ không có ý nghĩa thống kê trong mô hình nghiên cứu Từ đó đề xuất các hàm ý chính sách liên quan để có thể cải thiện hoạt động quản lí tỷ lệ an toàn vốn của các ngân hàng thương mại Việt Nam trong tương lai

DISCLOSURE

This thesis course is the author's research work, and the results are truthful Others make no previously published content or content except for quotes fully sourced in the thesis The author gathered the information, data, and content cited from various sources, which are highly reliable and cited in the reference section

HCM City, ……….2024

Author

Nguyễn Quỳnh

THANK YOU

I especially want to thank my supervisor, Nguyen Thi Nhu Quynh, for guiding me in completing my graduation thesis in recent years Although there are not many meetings and exchanges with her, most are by phone or the Internet, she always wholeheartedly guides me Thereby, I can complete one of my theses in the best way

With limited conditions, time, and experience, this essay cannot avoid shortcomings I look forward to receiving the guidance and comments of the teachers so that I can have additional conditions, raise my awareness, and better serve in future teaching

Thank you very much!

LIST OF ACRONYMS

12 Leverage LEV

1.1.2 Necessity of the research 1

1.2 THE OBJECTIVE OF THE RESEARCH 2

1.2.1 General objectives 2

1.2.2 Specific objectives 3

1.3 RESEARCH QUESTION 3

1.4 OBJECT AND SCOPE OF THE RESEARCH 3

1.5 METHODOLOGY OF THE RESEARCH 4

1.6 CONTRIBUTION OF THE RESEARCH 5

1.6.1 Practical contribution 5

1.6.2 Academic contribution 5

1.7 STRUCTURE OF THE RESEARCH 5

CHAPTER 2 LITERATURE REVIEW 7

2.1 OVERVIEW OF CAPITAL ADEQUACY RATIO 7

2.2 LITERATURE REVIEW 8

4.2.2 Check for multicollinearity 48

4.3 REGRESSION MODEL AND VALIDATION MODEL RESULTS 49

4.3.1 Validation model results 51

4.3.2 Inspection of Fixed Effects Model (FEM) defects 53

4.3.3 Overcoming the research model and GLS regression model method 54

4.4 SUMMARIZE AND DISCUSS RESEARCH RESULTS 58

CONCLUSION OF CHAPTER 4 61

CHAPTER 5 CONCLUSION 62

5.1 CONCLUSION 62

5.2 THEORETICAL IMPLICATIONS 62

5.3 LIMITATION AND FUTURE RESEARCH 64

5.3.1 Limitations of the topic 64

5.3.2 Further research directions 64

CONCLUSION OF CHAPTER 5 65

REFERENCE 66

LIST OF TABLES

Table 2.1: Summary of previous studies 12

Table 3.2: Statistics of expected signs of variables in the model 30

Table 4.1: Statistics of variables 38

Table 4.2: Correlation coefficients between research variables 47

Table 4.3: Results of multicollinearity test 48

Table 4.4: Results of Pooled – OLS, FEM and REM 49

Table 4.5: Results of the Hausman test 52

Table 4.6: Results of Breusch and Pagan LM test 52

Table 4.7: Results of Modified Wald test 53

Table 4.8: Results of Wooldridge test 54

Table 4.9: Results of FGLS model troubleshooting 55

Table 4.10: Summary of estimated results 57

LIST OF FIGURES

Figure 3.1: The process of the research 24 Figure 4.1: The average CAR of Vietnamese commercial banks from 2013 to 2022 39 Figure 4.2: The average ROA of Vietnamese commercial banks from 2013 to 2022 40 Figure 4.3: The average SIZE of Vietnamese commercial banks from 2013 to 2022 41 Figure 4.4: The average NIM of Vietnamese commercial banks from 2013 to 2022 42 Figure 4.5: The average LLR of Vietnamese commercial banks from 2013 to 2022 43 Figure 4.6: The average LOA of Vietnamese commercial banks from 2013 to 2022 44 Figure 4.7: The average LIQ of Vietnamese commercial banks from 2013 to 2022 45 Figure 4.8: The average LEV of Vietnamese commercial banks from 2013 to 2022 46

Capital adequacy ratio is an important criterion, a measure of well-being and reliability for banks and financial institutions (Aspal and Nazneen, 2014) A bank's operations will be guaranteed when its capital is maintained at a safe level, and the bank may face losses and ensure the safety of fixed assets when the economy becomes unfavorable (Abusharba et al., 2013; Aspal and Nazneen, 2014) With this capital adequacy ratio, the investor can determine the bank's ability to pay due debts and risks This ratio is also used to warn depositors against bank risks (Aspal and Nazneen, 2014)

1.1.2 Necessity of the research

In recent years, Vietnamese commercial banks have gradually oriented their systems closer to international standards, taking that as a prerequisite to ensure the maximum reduction of systemic risks in the bank Vietnam still needs to have unified regulations on banks' capital adequacy ratios Banks need to maintain a minimum capital adequacy ratio of 8% if they comply with regulations on capital adequacy ratio according to Circular No 41/2016

By the end of 2023, more than 20 commercial banks are implementing Basel II at the State Bank of Vietnam (SBV) request in Circular No 41/2016, dated December 30,

2016, regulating the capital adequacy ratio for banks and foreign bank branches The State Bank issued Circular No 41/2016, regulating capital adequacy ratios for banks and foreign branches The banking system needs to meet Basel II standards, including three pillars: Pillar I focuses on determining the minimum capital adequacy ratio that a bank needs to maintain against market risks, credit risks, and operational risks; Pillar II is the risk management monitoring process of an organization; Pillar III is information disclosure by banks (Chen, 2023)

Being in a situation where the capital adequacy ratio is too high or too low is detrimental to the bank Suppose the capital adequacy ratio is too high In that case, banks cannot provide capital for investment projects and only invest in assets with a lower level of risk, leading to lower capital efficiency and lower profits On the contrary, when banks have low capital adequacy ratios, their ability to cope with crises and economic shocks will decrease Therefore, maintaining the capital adequacy ratio at an appropriate level by controlling factors that affect the capital adequacy ratio will help the bank use capital effectively and maintain safe banking operations (Lê Hồng Thái, 2020)

In this study, the factors that are the main influencing factors on the capital adequacy ratio of Vietnamese commercial banks in the period 2013-2022 will be studied Based on the results obtained from the research, several solutions are proposed for both micro (for commercial banks) and macro (for state banks) to contribute to the development of the Vietnamese economy—the stable development of the Joint Stock Commercial Bank in particular and the Vietnamese banking system in general

1.2 THE OBJECTIVE OF THE RESEARCH 1.2.1 General objectives

The general objective of the research is to examine the factors affecting Vietnamese commercial banks' capital adequacy ratio (CAR) From the results obtained,

the study proposes implications and policies to promote development and ensure capital adequacy efficiency for Vietnamese commercial banks

1.4 OBJECT AND SCOPE OF THE RESEARCH

Object of the research: factors affecting the capital adequacy ratio of Vietnamese

commercial banks

Scope of space: Vietnam's banking system currently has a total of 49 banks

including the State Bank, Joint Stock Commercial Bank, Joint Venture Bank, Foreign Bank Branches in Vietnam and 100% foreign-owned banks This study was conducted on 25 commercial banks in Vietnam, based on carefully considered criteria to ensure a

representative sample Firstly, the banks included in the study have publicly disclosed their capital adequacy ratios Secondly, only banks with a charter capital of over 3000 billion VND were considered, guaranteeing that the study focuses on larger-scale banking institutions Lastly, these 25 banks represent approximately 83% of the total charter capital and 70% of the total number of commercial banks at the time of the study This significant proportion underscores the relevance and representativeness of the sample, allowing for a more accurate reflection of the overall situation regarding the capitalization and operations of major commercial banks in Vietnam

Scope of time: The study has a total of 250 observations The study data was

measured between 2013 and 2022 This period encompasses a phase of robust economic growth and transformative events in the banking sector, such as the COVID-19 pandemic, offering rich insights into banks' responses to economic shocks Additionally, these years feature improved data availability and witness the impact of technological advancements in banking, making the analysis both relevant and comprehensive for current banking practices

1.5 METHODOLOGY OF THE RESEARCH

The author uses a quantitative approach in this study, where quantitative research concentrates on measuring and evaluating cause-and-effect relationships between different variables (Hardani et al., 2020) Specifically, the research uses Pooled OLS Regression Model, Fixed Effects Model (FEM) and Random Effects Model (REM) to estimate the regression equations In addition, using the Hausman test to choose the suitable model The Breusch-Pagan test and Wooldridge test is used to verify defects in the study model Finally, the study will utilize FGLS (Feasible Generalized Least Squares) estimation to address these issues

1.6 CONTRIBUTION OF THE RESEARCH 1.6.1 Practical contribution

The thesis will not only strengthen the theory of factors affecting the capital adequacy ratio but will clarify the degree of impact of factors on the capital adequacy ratio

From the data from quantitative models, the thesis proposes some governance and policy implications in enhancing efficiency and ensuring capital adequacy efficiency for commercial banks in Vietnam

1.6.2 Academic contribution

There have been many studies on factors affecting capital adequacy ratios, but the impact results are still inconsistent The thesis "Factors affecting capital adequacy ratio of commercial banks in Vietnam" provides additional empirical evidence on factors affecting capital adequacy ratios of commercial banks in Vietnam The topic is a tangible reference that provides information for interested subjects

1.7 STRUCTURE OF THE RESEARCH

The thesis consists of 5 chapters with the following main contents:

Chapter 1 Introduction

To determine the feasibility and accuracy of the research topic, Chapter 1 sets out important contents such as the urgency of the topic, research questions to determine the research objectives, objects and scope of the topic, appropriate research methods, contribution of research and structure of research topic These contents help the reasoning behind the research become more rigorous and highly practical

Chapter 2 Literature Review

Chapter 2 describes an overview of the context of Vietnamese commercial banks The thesis also outlines the definition of the capital adequacy ratio and how to measure it From there, it points out the factors affecting the capital adequacy ratio of commercial

banks In addition, review and summarize previous studies related to factors affecting banks' capital adequacy ratio

Chapter 3 Methodology

Chapter 3 outlines the research process It also proposes a research model and formulates hypotheses related to factors that impact CAR In addition, demonstrates how independent variables are measured, how research data are collected, quantitative regression models, and methods for testing statistically significant coefficients consistent with the research hypothesis

Chapter 4 Research Results and Discussion

Chapter 4 presents statistical results describing and estimating regression results Analysis of regression estimation results and hypothesis testing

Chapter 5 Conclusion

Chapter 5 summarizes the results of the final regression model and the conclusions gathered from Chapter 4 Since then, some relevant policy implications are proposed to maintain Vietnamese commercial banks' stable capital adequacy ratio Finally, points out the limitations of the research topic and new directions for further research in the future

CONCLUSION OF CHAPTER 1

Chapter 1 presents the reasons for choosing the research topic, the research questions established to find the research objective for the topic, the object and scope of the study, methodology of the research, the academic and practical contributions of the thesis and structure of the study

CHAPTER 2 LITERATURE REVIEW

2.1 OVERVIEW OF CAPITAL ADEQUACY RATIO

In the mid-1970s, lending in banks was widely developed without any parallel increase in capital (total capital divided by total assets measures the ratio of capital) Therefore, the government sets a regulatory standard for capital adequacy ratios to control this situation (Al-Sabbagh, 2004)

Capital adequacy is said to be a platform for monitoring the safety of a bank The capital adequacy ratio (CAR) is used as an indicator for banks and investors to determine the risk level of each bank Banks must keep their entire equity to a minimum to avoid unexpected losses and the risk of bankruptcy (Aspal and Nazneen, 2014) Capital adequacy ratios are often used to signal depositors about bank risks and are also aimed at increasing the steadiness and efficiency of the commercial banking system The investor can determine the bank's ability to pay its debts and term risks with this capital adequacy ratio When the bank ensures that the capital adequacy ratio is maintained at a stable level, its ability to withstand financial shocks also becomes more vital than ever so that the bank can protect itself and its customers (Bateni et al., 2014)

The capital adequacy ratio serves as an essential indicator for evaluating a bank’s resilience against financial disturbances and unforeseen losses It plays a pivotal role in ensuring the overall stability and reliability of the banking system (Gharaibeh, 2023) Capital Adequacy Ratio is a coefficient that determines a bank's capacity to meet term liabilities and other risks such as credit risk, market risk, operational risks, and other risks This coefficient is calculated based on the ratio of equity capital to risk-weighted assets of the bank Therefore, regulatory agencies use the capital adequacy ratio as an important financial index to evaluate the "safety and soundness" of banks The purpose of the CAR coefficient is for commercial banks to operate stably, avoid the situation of banks chasing profits, and increase investment through lending activities in risky areas (Vu and Dang, 2020)

Each bank exists and operates in a different environment, and for each country, there will be different economic stability Therefore, bank management agencies in each country will have different regulations on this coefficient, but still must comply with the standards of the Basel committee, banks must ensure to maintain this coefficient according to national regulations aimed to stabilize the region's economy and contribute to the stability of the world economy In Vietnam, commercial banks comply with the minimum capital ratio of 8%, applying Basel II standards issued by the State Bank in Circular No 41/2016, dated December 30, 2016, regulating the capital adequacy ratio for banks and foreign bank branches

Capital Adequacy Ratio (CAR) is the ratio of a bank’s equity capital to its weighted assets Central banks and banking regulators decide to prevent commercial banks from using excessive leverage and becoming insolvent (Vu and Dang, 2020) In this research, the Capital Adequacy Ratio is presented by the following formula:

Also set against Indonesia's stock market backdrop, Usman et al (2019) conducted a similar study as Setiawan and Muchtar (2021) The difference is that the

authors used secondary data taken from the financial statements of 27 conventional banks listed on the stock market from 2007 to the end of 2018 The ideal study model chosen for this study is the Random Effect Model, the Fixed Effect Model, and the General Least Square Model with six independent variables: bank size, leverage, loan loss reserves, net interest margin, loans to assets ratio, and liquidity ratio The results of the study show that liquidity does not have any effect on the capital ratio At the same time, the capital adequacy ratio has a positive relationship with leverage and net interest margin The opposite happens when capital ratio is negatively linked to bank size, loan loss reserve, and loan asset ratio

Masood and Ansari (2016) gathered data from the annual financial statements of 14 Pakistani regional banks to identify determinants of the capital adequacy ratio The Fixed Effect Model and the Random Effect Model are used to measure the research model of the impact of independent variables on CAR: return on assets, return to equity, non-performing loans, loan-to-asset ratio, loan loss reserves, deposit asset ratio, equity asset ratio, bank size, and ownership concentration The study found that loan loss reserves, deposit asset ratio, and equity asset ratio positively affect the capital adequacy ratio In contrast, loan-to-asset ratio and ownership concentration have the opposite effect of capital adequacy ratio Additionally, the remaining independent variables, including non-performing loans, bank size, and profitability indicators such as return on assets and return to equity, do not give results that explain the impact on capital adequacy ratios

Another study on the impact of factors on capital adequacy ratios in the Albanian banking system was conducted by Shingjergji and Hyseni (2015) The 31 banks’ data samples were collected from financial statements published on the official websites of Albanian banks Regression Model-Ordinary Least Squares (OLS) was applied to the study to find out the relationship between capital adequacy ratio and independent variables, containing return on equity, return on assets, non-performing loans, loans to

deposit ratio, equity multiplier, and the natural logarithm of total assets Research results indicate that profitability indicators such as return on equity and return on assets are not statistically significant with the capital adequacy ratio Non-performing loans, loans-to-deposit ratio, and equity multiplier are negatively associated with the capital adequacy ratio On the other hand, the bank size positively correlates with the capital adequacy ratio

In the Federal Republic of Nigeria region, Olarewaju and Akande (2016) conducted a study comparing factors affecting capital adequacy ratios of 15 quoted banks between 2005 and 2014 The study applied the descriptive and fixed effect panel regression model to measure independent variables, including return on assets, bank size, credit risk, liquidity structure, deposit structure, and two macroeconomic variables, gross domestic product and inflation Finally, the paper found that return on assets and bank size positively correlated with capital adequacy ratios In contrast, credit risk, liquidity structure, and deposit structure negatively impacted the capital adequacy ratio In addition, factors such as gross domestic product and inflation are not statistically significant to capital ratios

In Ethiopia, Mekonnen (2015) conducted an empirical study of factors influencing the capital adequacy ratio of commercial banks The author gathered available data for eight banks for the period from 2004 to the end of 2013 The author proposes the Random Effect and Fixed Effect Model methods that measure factors influencing the capital ratio, including bank size, deposit ratio, loan to total asset, liquidity position, return on asset, return on equity, net interest margin and leverage The author gives the results: return on assets, deposit ratio and bank size positively correlate to capital adequacy ratio Return on equity and interest margin are negatively related to the capital adequacy ratio Other factors such as highly liquid position, loan to total assets ratio, and leverage ratio have no statistically significant impact on capital adequacy ratio

An experimental study using the Feasible Generalized Least Squares Model, Fixed Effects and Random Effects Model took data from the financial statements of 24 banks in Turkey conducted by Buyuksalvarci and Abdioglu (2011) for the period 2006-2010 Bank size, deposits, loans, loan loss reserve, liquidity, profitability such as return on asset and return on equity, net interest margin and leverage were proposed by Ahmet Büyükşalvarcı (2011) as operative independent variables and capital adequacy ratio as dependent variables Finally, a negative effect on the capital adequacy ratio is caused by the loan ratio, return on equity, and leverage ratio Loan loss reserve and return on assets positively affect the capital adequacy ratio The capital adequacy ratio is unaffected by bank size, debt ratio, liquidity, and net profit margin

The topic of the capital adequacy ratio has been studied extensively in Vietnam in recent years Le et al (2022) report a model with independent variables, including bank size, leverage, loan loss reserve, customer deposits, loans to customers, liquidity, and profitability, affecting the dependent variable, which is the capital adequacy ratio The Pooled OLS Regression Model, Fixed Effects, and Random Effects Model measure data of 24 Vietnamese commercial banks over 11 years from 2009 to 2019 The paper found that financial leverage, client deposits, customer loans, liquidity, and profitability negatively affect the CAR Additionally, bank size and loan loss reserves do not correlate with capital adequacy ratios

The Feasible General Least Square (FGLS) Model was included in the research model by Vu and Dang (2020) to explain the impact of independent variables, including bank size, deposit ratio, loans to total assets, loan loss reserves, liquidity, profitability ratio, net interest margin, non-performing loan ratio and leverage on the dependent variable capital adequacy ratio The research data is taken from the annual financial reports of 31 commercial banks in Vietnam from 2011 to 2018 The author gives the final result that loan loss reserves, leverage and return on equity negatively impact the capital adequacy ratio The opposite situation is when only a return on assets positively

correlates with the capital adequacy ratio The authors report no correlation between bank size, net interest margin, non-performing loan ratio, deposit ratio, loans to total assets, liquidity and capital adequacy ratio

Pham and Nguyen (2017), using a fixed effect model, analyzed factors affecting the capital adequacy ratio of 29 Vietnamese commercial banks from 2011-2015 The research model rescue includes assets with liquidity of cash and precious metals in total assets, net interest margin, bank size, loan loss reserve, leverage, and loan share Research results show that the net interest margin and liquidity have a positive effect on the capital adequacy ratio Meanwhile, the share of loan and loan loss reserve harm the capital adequacy ratio This study did not find the effects of the leverage ratio and the size of the bank on the capital adequacy ratio

The research conducted by Lu and Doan (2021), using the Pooled OLS Regression Model and Fixed Effects Model, identified factors influencing the capital adequacy of 20 joint-stock commercial banks in Vietnam The research findings that the rate of return on assets, deposit ratio, liquidity ratio, loan ratio, loan loss reserve, non-performing loan ratio, leverage ratio, bank size, board size, Independent members in the Board, Female members of the Board of Directors, The foreign member ratio in the Board, Educational attainment of the members of the Board, Consumer price index, Gross domestic product

Table 2.1: Summary of previous studies Authors Topic of

Factors

affecting the Capital

Adequacy

The study used secondary data as a sample taken from the financial statements of

While bank size and return on equity factors have a positive impact on the capital adequacy

Ratio of Banks Listed in Indonesia Stock

Exchange

24 selected banks during the year The period from 2006-2010 Using the Random Effect Model, Fixed Effect Model and Common Effect Model methods

ratio, loan ratio negatively impacts the capital adequacy ratio On the other hand, loan loss reserve and liquidity do not have any effect on the capital adequacy ratio

Usman Masood, Sanaullah Ansari (2016)

Determinants of capital adequacy ratio: A perspective from Pakistani banking sector

The study used data from the annual financial statements of 14 Pakistani regional banks Using Fixed Effect Model and Random Effect Model

Loan loss reserves, deposit asset ratio, and equity asset ratio positively affect the capital adequacy ratio In contrast, loan-to-asset ratio and ownership concentration have the opposite effect of capital adequacy ratio In addition, the remaining independent variables,

non-performing loans, bank size, and profitability indicators such as return on assets and return to equity, do not give results

that explain the impact on capital adequacy ratios Odunayo

Magret

Olarewaju and Joseph

Olorunfemi Akande (2016)

An Empirical Analysis of Capital

Adequacy Determinants in Nigerian Banking Sector

The study used data from 15 quoted banks on the

Exchange between 2005 and 2014 Using Cross-Sectional Specific fixed effect model

Return on assets and bank size positively correlated with capital adequacy ratios In contrast, credit risk, liquidity structure and deposit structure negatively impacted the capital adequacy ratio In addition, factors such as gross domestic product and inflation are not statistically significant to capital ratios

Yonas Mekonnen (2015)

The factors affecting the capital adequacy ratio in the commercial banking system in Ethiopia in the period 2004-2013

The study used secondary data which is gathered from annual reports of eight commercial banks in Ethiopia in the period 2004-2013 Using the Random Effect Model and Fixed Effect Model

Return on assets, deposit ratio and bank size have a positive correlation to capital adequacy ratio Return on equity and interest margin are negatively related to capital adequacy ratio Other factors such as highly liquid position, loan to total assets ratio,

and leverage ratio have no statistically significant impact on capital adequacy ratio

Ahmet

Buyuksalvarci and Hasan Abdioglu (2011)

Determinants of capital adequacy ratio in Turkish Banks: A panel data analysis

The study took data from the financial statements of 24 banks in Turkish from 2006-2010 Using the Feasible Generalized Least Squares Model, Fixed Effects and Random Effects Model

A negative effect on the capital adequacy ratio is caused by loan ratio and return on equity, and leverage ratio Loan loss reserve and return on assets positively affect the capital adequacy ratio The capital adequacy ratio is not affected by bank size, debt ratio, liquidity and net profit margin

Ali Shingjergji, and Marsida Hyseni (2015)

The

determinants of capital adequacy ratio in the Albanian banking system during 2007-2014

The study used quarterly data from the first trimester of 2007 until the third trimester of 2014 with a total of 31 banks Using Regression Model- Ordinary Least Squares (OLS)

Profitability indicators such as return on equity and return on assets are not statistically significant with the capital adequacy ratio Non-performing loans, loans-to-deposit ratio, and equity multiplier are negatively associated

with the capital adequacy ratio On the other hand, the bank size positively correlates with the capital adequacy ratio

Bahtiar Usman, Henny Setyo Lestari and Tiara Puspa (2019)

Determinants of capital adequacy ratio on the banking industry: Evidence in Indonesia Stock Exchange

The study used 27 Indonesian conventional banks that have been listed on the Indonesia Stock Exchange (IDX) from 2007 to 2018 with 324 observations Using the Random Effect Model, Fixed Effect Model and General Least

Square Model

Liquidity does not have any effect on the capital ratio At the same time, the capital adequacy ratio has a positive relationship with leverage and net interest margin The opposite happens when capital ratio is negatively linked to bank size, loan loss reserve and loan asset ratio

Hung Phuong Vu and Ngoc Duc Dang (2020)

Determinants influencing capital adequacy ratio of Vietnamese commercial bank

The study used data from

commercial banks for the period from 2011 to 2018 Using Feasible General Least Square (FGLS) Model, Fixed

Loan loss reserves, leverage and return on equity negatively impact the capital adequacy ratio The opposite situation is when only a return on assets produces a positive correlation

Effects, and Random Effects Model

with the capital adequacy ratio The authors report no correlation between variables such as bank size, net interest margin, non-performing loan ratio, deposit ratio, loans to total assets, liquidity and capital adequacy ratio

Vinh Hoang Le, Anh Hoang Nguyen and Thuy Minh Le (2022)

Factors affecting capital adequacy ratio of joint-stock

commercial banks in Viet Nam

The study used data from

commercial banks in Vietnam for 11 years from 2009 to 2019 Using Pooled OLS Regression Model, Fixed Effects, and Random Effects Model

Financial leverage, deposits from clients, loans to customers, liquidity, and profitability negatively affect the capital adequacy ratio Additionally, bank size and loan loss reserves do not correlate with capital adequacy ratios

Pham Thi Xuan Thoa and Nguyen Ngoc Anh (2017)

The

Determinants of Capital Adequacy Ratio: The

The study used data from

commercial banks in the period 2011-2015 Using Pooled OLS Regression

The net interest margin and liquidity positively effect on the capital adequacy ratio Meanwhile, the share of

Case of the Vietnamese Banking System in the Period 2011-2015

Model and Fixed Effects Model

loan and loan loss reserve harm the capital adequacy ratio This study did not find the effects of the leverage ratio and the size of bank on capital adequacy ratio

(Source: Summarized by author)

2.3 RESEARCH GAP

Many empirical studies have explored the factors that affect the capital adequacy ratio of Vietnamese and global banks, but they often come to different conclusions This inconsistency is because of factors such as short-term sample size and inadequate representation of banks Furthermore, they often do not fully consider external factors such as gross domestic product, inflation rate, etc

The study focuses on Vietnamese banking and uses the latest data from the most recent period to provide further empirical evidence on the determinants affecting the capital adequacy ratio and valuable insights into the unique context of the country Additionally, suggesting some policy implications by accurately identifying the most impactful factors

2.4 FACTORS IMPACTING THE CAPITAL ADEQUACY RATIO

Studies by Le et al (2022), Vu and Dang (2020), Setiawan and Muchtar (2021), Usman et al (2019),…identified factors affecting CAR, including profitability, such as return on assets and return on equity, bank size, loan loss reserves, liquidity, leverage, deposit ratio, and net interest margin In this research, the factors used to analyze the critical effects on the capital adequacy ratio: bank size (SIZE), loan assets ratio (LOA), loan loss provision (LLR), liquidity (LIQ), return on assets (ROA), net profit margin (NIM) ) and leverage ratio (LEV)

• Bank size (SIZE)

The natural logarithm of total assets represents the size of a bank Intending to access capital markets, bank size is vital to making it easier for banks to access capital The market access of big banks will be good and stable with low costs thanks to their low risk and return ability Large banks with good ratings are likely to exploit excess reserves in the market (Jackson et al., 2002) Banks with significant surplus assets can increase investment activities, and profits will also increase The capital adequacy ratio will increase by obtaining high profits (Setiawan & Muchtar, 2021) However, the opposite can happen when the bank's capital adequacy ratio is low, when it is prominent as it diversifies its assets and reduces risk The larger the mass of the bank, the higher the ability to hold a variety of risky assets than smaller banks (Gropp & Heider, 2007; Shrieves & Dahl, 1992; Võ Hồng Đức, Nguyễn Minh Vương and Đỗ Thành Trung, 2014)

• Loan assets ratio (LOA)

The ratio of total loans to total assets is expressed in the loan ratio On the balance sheet, essential investments are represented by loans Loans generate significant profits for banks Not only profit but also the level of credit risk a bank can face due to loans The portfolio's diversity and the loans' characteristics will generate different risks and returns Banks will be at greater risk when loans are extended more To hedge bank risk, a large amount of capital is required, and a positive relationship between loans to customers and capital adequacy requirements (Mpuga, 2002) Research by Masood and Ansari (2016) again indicated a contrary relationship between the capital adequacy ratio and the loans to total assets ratio Capital will suffer heavy losses if banks actively increase lending activities In a situation where the borrower cannot repay the debt, the bank not only weakens its capital, but its profitability accordingly suffers

• Leverage (LEV)

The leverage ratio is the ratio between the total amount of debt a bank uses to invest in its operations and the total amount of capital owned by that bank The leverage ratio has an inverse relationship with the capital adequacy ratio Banks with a high level of leverage may hold low capital (Vu and Dang, 2020; Aktaş & Unal, 2015) Therefore, an inverse is expected for the leverage and capital adequacy ratios A bank with high leverage is often riskier than banks with low leverage, and low leverage is a threat to the bank According to Usman et al.(2019), a bank has a high capital adequacy ratio when its leverage ratio is high Banks with low leverage will need more equity, which means that the bank will not have enough to withstand unexpected economic losses

• Loan loss reserves (LLR)

The amounts set aside for potential losses from lending are called loan loss reserves Every bank has a deduction for bad loans when customers do not adequately perform loan contracts More provisions mean more risk due to more extensive customer loan portfolios Specifically, when a bank suffers a loss due to loans, it must deduct reserves from the capital if deposits and income are insufficient to cover it, which leads to the loss of bank capital (Usman et al, 2019) From there, if a bank has a more extensive loss reserve, the higher the lending risk, the more difficult it will be to raise capital (Vu and Dang, 2020) Alternatively, positivity can occur between the capital adequacy ratio and loss provision To overcome the financial losses, banks actively increase capital to a higher extent (Buyuksalvarci & Abdioglu, 2011; Usman & Sanuallah, 2016; Võ Hồng Đức, Nguyễn Minh Vương and Đỗ Thành Trung, 2014)

• Liquidity (LIQ)

Liquidity held by a bank affords the ability to immediately meet the demand of depositors' withdrawal and disbursement of committed credits Angbazo (1997) argued that as the ratio of capital investments in cash or cash equivalents increases, the bank's liquidity risk leads to lower liquidity premiums in the net profit margin Therefore, the

increase in bank liquidity can positively impact the capital ratio Banks holding highly liquid assets may avoid default The bank's capital adequacy ratio will increase at that time due to reduced capital operation risk (Võ Hồng Đức, Nguyễn Minh Vương and Đỗ Thành Trung, 2014) Some studies, on the contrary, showed a negative association between capital adequacy ratio and asset liquidity Banks holding large amounts of highly liquid assets will weaken their ability to pay profits and reduce capital accumulation, decreasing capital adequacy ratios (Le et al., 2022; Hewaidy & Alyousef, 2018)

• Return on assets (ROA)

A return on assets will be formed by dividing total net income by total assets Return on assets is a key that investors often use to analyze the financial and operational levels of commercial banks Through return on assets, banks can adjust debt into profit The relationship between return on assets and the bank’s capital level is positive (Olarewaju & Akande, 2016) In Nigerian banks, the relationship is shown that a one percent change in ROA will make 40% of the equity ratio in total assets fluctuate Mekonnen (2015) also shows the positive impact of return on assets on capital adequacy ratios in empirical studies of Ethiopian banks Meanwhile, Le et al (2022) counter this hypothesis by pointing out the inverse effect of a return to the assets on the capital adequacy ratio Commercial banks always try to invest actively in highly profitable assets The riskier the loan investment, the higher the return; thus, the risk to the asset portfolio will increase, and the capital reserves will decrease

• Net interest margin (NIM)

Net interest margin (NIM) represents the ratio of net interest income to total assets The difference between income from loans and interest expense on deposits represents net interest income in NIM It shows how much the bank earns in interest on loans vs how much it pays out in interest on deposits (Usman et al., 2019)

Banks can flexibly hold and control lending rates and mobilize interest rates to maximize net profit margin; however, there will be a certain level of risk Since then, to generate more net interest income, banks can increase net profit margin, and a positive relationship is shown between net profit margin and capital adequacy ratio (Angbazo, 1997) Net profit margins also tend to have the opposite effect on capital adequacy ratios Bank reserves will be lower if commercial banks focus on managing accrued interest income from income assets (Mekonnen, 2015; Mohamed, 2018)

CONCLUSION OF CHAPTER 2

Chapter 2 gives an overview of Vietnamese commercial banks and the theoretical basis of the capital adequacy ratio Next, the results from previous studies are synthesized and summarized to build a model for the research paper Finally, introduces factors that have an impact on capital adequacy ratios, including bank size (SIZE), loans (LOA), loan loss provision (LLR), liquidity (LIQ), return on assets (ROA), net profit margin (NIM), leverage ratio (LEV) The thesis describes the positive and inverse effects of factors on the capital adequacy ratio from previous empirical studies as a premise for hypotheses of impact in the research model for the next chapter

CHAPTER 3 METHODOLOGY

3.1 THE RESEARCH PROCESS

The process of the study will be carried out in steps as follows:

Step 1: Identify research questions and objectives for the thesis topic

Step 2: Collect and briefly summarize the theoretical basis and previous studies

on the research topic within Vietnam and abroad

Step 3: Formulate relevant hypotheses and design the appropriate research model Step 4: Collect data from the financial statements of 25 commercial banks

through Fiinpro's database

Step 5: Define research methods using specific analysis and estimation

techniques such as Pooled OLS Regression Model (OLS), Fixed Effects Model (FEM), Random Effects Model (REM), descriptive statistics, correlation analysis, and regression analysis of panel data

Step 6: Analyze the achieved regression results and draw conclusions explaining

the direction of impact of independent variables on the CAR-dependent variable

Step 7: This is the final step in the process, where, based on the regression results,

write a research on the topic reviewed, draw conclusions and make relevant recommendations and policy implications to answer the research questions and address the proposed research objectives

(Source: Summarized by authour)

Figure 3.1: The process of the research 3.2 RESEARCH MODELS

Based on empirical research conducted globally and in Vietnam, such as Le et al (2022), Vu and Dang (2020), Setiawan and Muchtar (2021), Usman et al (2019),…The author discovered that each country has various variables, measurement methods, and the direction in which the variables (or factors) affect capital in research papers

The author discovered that prior research had focused on some variables, including bank size, return on total assets, liquidity, net interest margin, loan loss reserves, loans, and the leverage ratio, that may affect the capital of the business These variables share the ability to collect data, economic significance, correlation, and an explanation of the study problem

Therefore, the research model was chosen to show variables that affect the capital of listed construction businesses in Vietnam, which is presented by the following formula:

CARit = 𝜷𝟎 + 𝜷𝟏ROAit + 𝜷𝟐SIZEit +𝜷𝟑NIMit + 𝜷𝟒LLRit + 𝜷𝟓LIQit + 𝜷𝟔LOAit +

𝜷𝟕LEVit + εit

Where:

CARit: Capital adequacy ratio ROAit: Return on total assets SIZEit: Size of commercial bank NIMit: Net interest margin

LLRit: Loan loss reserves, the ratio of loan loss provision to total loans LOAit: Loans to customers, the ratio of total loans to total assets

LIQit: Liquidity, the ratio of total liquid assets to total assets LEVit: Leverage ratio of the commercial bank

Ratio (CAR) is the ratio of a bank’s equity capital to its risk-weighted assets (Vu and Dang, 2020) In this research, the Capital Adequacy Ratio is presented by the following formula:

The return on total assets (ROA) ratio calculates how much money a corporation can make on each dollar of assets The formula for calculating this ratio is to divide earnings after tax after tax by the average asset value (Lu and Doan, 2021)

𝑹𝐎𝐀 =𝐄𝐚𝐫𝐧𝐢𝐧𝐠𝐬 𝐀𝐟𝐭𝐞𝐫 𝐓𝐚𝐱𝐀𝐯𝐞𝐫𝐚𝐠𝐞 𝐀𝐬𝐬𝐞𝐭𝐬

Hypothesis H1: The return on total assets (ROA) positively impacts the capital adequacy ratio

• Bank size (SIZE)

Bank size represents the bank's total assets and is one of the measures used to determine the bank's liquidity level According to Kultan (2016) and Mishu et al (2020), have demonstrated that large-sized banks have poor risk control and low safety since they invest in high-risk assets Large banks might sometimes have suboptimal risk control when investing in high-risk assets due to the pursuit of higher returns to satisfy shareholder expectations, which can lead to an increased tolerance for risk Their vast

and complex operations can make managing and assessing risk difficult Furthermore, the test bank scale results show a negative effect on the capital adequacy ratio, which was researched by Bateni et al (2014)

By computing the logarithm of a bank's total assets, the SIZE factor, which measures both the capital and the bank's current total assets, is used to determine the size

of a bank (Le et al., 2022)

𝐒𝐈𝐙𝐄 = 𝐍𝐚𝐭𝐮𝐫𝐚𝐥 𝐥𝐨𝐠𝐚𝐫𝐢𝐭𝐡𝐦 𝐨𝐟 𝐭𝐨𝐭𝐚𝐥 𝐚𝐬𝐬𝐞𝐭𝐬

Hypothesis H2: Bank size negatively impacts the capital adequacy ratio

• Net interest margin (NIM)

Usman et al (2019) found that net interest margin significantly positively affects the bank capital of banks in the Indonesia Stock Exchange Financial institutions with substantial earnings can bolster their capital reserves by retaining profits, which sends a favorable message about the company's worth When banks report high-income figures, it simplifies the process for bank executives to administer the bank's equity capital effectively and reduces the inclination toward risk-taking (Iloska, 2014) Another consensus study by Pham and Nguyen (2017) showed a similar relationship between net interest margin and capital adequacy ratio

The net interest margin (NIM) measures the relationship between the net profit margin and the average earning assets Net interest income is the sum of the interest payments made on deposits less the interest received on loans (Usman et al., 2019)

𝐍𝐈𝐌 = 𝐍𝐞𝐭 𝐈𝐧𝐭𝐞𝐫𝐞𝐬𝐭 𝐌𝐚𝐫𝐠𝐢𝐧𝐀𝐯𝐞𝐫𝐚𝐠𝐞 𝐄𝐚𝐫𝐧𝐢𝐧𝐠 𝐀𝐬𝐬𝐞𝐭𝐬

Hypothesis H3: Net interest margin positively impacts the capital adequacy ratio

• Loan Loss Reserve (LLR)

A negative relationship can occur between the capital adequacy ratio and loss provision, as demonstrated by Pham and Nguyen (2017) During a financial crisis, when banks suffer loan losses, the impact hits their capital reserves- the funds set aside to cover