Impact of income and geographical diversification on the the financial performance of Commercial Banks in Kenya

Abstract

So as to better withstand the rapid revolution in the banking sector, characterized by incessant changes in technology, liberalization and stiff competition, commercial banks have resorted to diversifying away from traditional lending activities into new risker areas alongside employing newer distribution channels. The current study analyses the impact of this income and geographical diversification on the financial performance of forty commercial banks in Kenya between 2008 and 20 I 4. Fixed effects and random effects panel analysis frameworks are employed to this end. Performance is measured as Return on' Asset (ROA) and Return on Hirschman Index (Hl-11). The study finds a negative relationship between both income and geographical diversification when ROA is used as a measure of performance, indicating no benefit in diversification. However, using ROE as a measure of performance reveals a positive relationship between both income and geographical diversification and firm performance. The mixed results could be attributed to the fact that net interest income, non-interest income and profit moderately moved together over the period of this study which indicates that they responded to the same economic shocks in a similar manner. In addition, the Kenyan banking industry is dominated by a few large banks with small and medium banks recording dismal ROA despite the increasing diversification efforts. Growth of these bank could significantly improve the results as ROA would improve hence aiding commercial banks to reap the benefits of diversification.