Journal of Economics and Management Volume 18, No. 1 March, 2022

Revenue Diversification, Financial Performance,and Risk of Banks

Dil Krishna Shahu

Faculty of Management, Tribhuvan University, Nepal

Abstract

This study examines the effect of revenue diversification on the financial performance and risk of the Nepali banking sector using annual data of twenty-two commercial banks listed on the Nepal Stock Exchange for the study period from 2004/2005 to 2014/2015. To deal with potential endogeneity caused by reverse causality, the study employs the instrumental variable method with two stages of least squares. The analysis concluded that revenue diversification has a positive effect on the financial performance of banks even after controlling the bank's specific and macroeconomic variables. Likewise, the study also revealed that an increase in revenue diversification of banks leads to an increase in Z score, which indicates lower risk since a higher Z score signifies lower risk for banks. Banks can improve their financial performance and value to investors and reduce their risk by diversifying their revenue into various sources. These results have significant strategic implications for bank managers, regulators, and supervisors who share a common interest in boosting banks’ financial performance and stability.

Keywords：Revenue Diversification, Financial Performance, Insolvency Risk, Instrumental Variable Method, Adjusted Herfindahl-Hirschman Index.

JEL Classifications： G11, G21, G32.

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