An Evaluation of the role of credit risk management on profitability on commercial banks in Kenya

Gachini, Emmy Nyambura
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Strathmore University
The effective management of risk is an important part of an inclusive approach to management of risk and is needed to ensure longevity of any banking institution. This study sought to examine credit risk management and its effect on the profitability of commercial banks in Kenya. Specifically the study addressed the following objectives, to examine the effect of Credit risk identification, the effect of Credit Risk Monitoring on profitability of listed commercial banks and to examine Credit risk analysis and its effect on profitability of their banks. The study was guided by three main theories namely Risk Management Theory, Information Asymmetry Theory and Agency Theory. This study adopted a quantitative research design, which helps in establishing the direction and magnitude of causal relationships. Measurements are taken on each variable over two or more distinct time periods which allowed to measure changes in chosen variables over time. The study found that different commercial banks consider credit risk identification, credit analysis and assessment, credit scoring mechanism, and risk monitoring and that credit analysts use the univariate accounting based credit scoring systems to compare key accounting ratios of specific clients versus industry ratios to show how a client's ratio differs from the industry standards or trends. At 5% level of significance and 95% level of confidence, capital adequacy ratio, loan to deposit ratio, non-performing loans ratio, management efficiency ratio and the net profit were all significant on profitability of commercial banks in Kenya. The study concluded that risk monitoring assists the banking administration to detect errors in good time and that internal auditors are greatly involved in the risk identification process where risk trigger questions are mostly used as identification methods. Statistically, there was a significant relationship between the effects of credit risk management and financial performance of commercial banks in Kenya. The study recommends that commercial banks should enhance usage of credit risk control practices in credit risk management to a very great extent.
Submitted in partial fulfilment of the requirements for the degree of Master of Commerce at Strathmore University