Profit Efficiency and Capital Structure of Banks in Ghana: A Dea Approach

Abstract

Using a nonparametric DEA approach, this study estimates the profit efficiency of 26 banks in Ghana over the period 2000 to 2013. This is compared to the estimates of two profitability ratios, ROA and ROE. The study then examines the influence of capital structure on the estimated profit efficiency and the extent to which the degree of competition measured by the Boone Indicator and the Herfindahl Hirschman Index influences the capital structure-profit efficiency nexus. The extent to which a bank’s ownership of a subsidiary (conglomeration) impacts the capital structure-profit efficiency link is also investigated. Two competing hypotheses-the efficiency risk and franchise value hypothesis are also tested to summarize the bi–causal relationship that exists between profit efficiency and capital structure. The results reveal that banks in Ghana operate close to the benchmark profit frontier and are 79% profit efficient. A comparison of the nonparametric DEA profit efficiency indicator with the profitability ratios suggest that these methods agree weakly on the performance of a bank. For the impact of capital structure on profit efficiency, the study found support for the trade-off and agency cost theories of capital structure. It was also found that competition and conglomeration do not necessarily influence the link between capital structure and profit efficiency of the banks. The study further found support for the efficiency risk hypothesis which indicates that profit efficient banks in Ghana choose more leverage relative to equity in financing their operations.