An Analysis of the Usefulness of Annual Financial Statements to Credit Risk Analysis in Kenyan Commercial Banks

Abstract

The management of risk is key to the success of any organization. In the financial sector the most significant risk credit risk. The import of credit risk can be seen from the fact that the primary reason a bank fails or falls into big trouble are bad loans or too many other bad debt Nickson. 2002). The Kenyan banking sector. in particular. has been ailed over the years by the relatively high level of non-performing loans i.e. 30 percent of its total loans have been non-performing as at 30-12-200 I (CBK). Information is a crucial ingredient in the management of risk . According to Berry et al., 1993 and Danes et a l. , 1989 financial information is the most valuable information in the bank lending decision . Financial reports and statements about a company are a key source of information in a assessing its financial condition (Coyle. 2000). Yet according to Jarvis et al, 1996 very little is known as to how users of corporate financial reports use the information contained in these reports . I he study consequently had three objectives; to establish whether credit risk analysts in Kenyan commercial banks use financial statements in credit risk assessment. to identify the sections of annual reports which credit risk analysts find most useful and to find out from credit risk analysts in Kenyan commercial banks improvements that can be made to financial statements. All the commercial banks operating in Kenya were sampled and asked to provide information through the use of questionnaire. The respondents for the study were the credit risk analysts of the banks. The study revealed that credit risk analysts use information derived from financial statements in their lending decisions. The study showed that credit risk analysts do not rely on only one source of information. Credit risk analysts also indicated that they would like some improvements made to annual reports. These results are expected to be useful both for organizations seeking loan finance and for accounting standards setters. They are also useful as a reference point for comparative studies that might be undertaken in other African countries.