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The Bank Credit Analysis Handbook: A Guide for Analysts, Bankers and Investors, 2nd Edition by Philippe Delhaise, Jonathan Golin

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Chapter 4

Deconstructing the Bank Income Statement

To allege that making a provision against bad and doubtful losses was outside the ordinary activities of a bank and therefore not expected to recur . . . seemed to fly in the face of reality. Bad debts are of course a normal part of banking, and had been an even more regular feature of Midland’s performance.

—Terry Smith1

This book explores the creditworthiness of banks from several angles, many of them articulated around the income statement. Readers might be familiar with general accounting rules, and this chapter will introduce them more specifically to the bank’s income statement. Inevitably, a number of concepts or definitions have to be discussed at this stage, while a more thorough analysis will be offered in later chapters, thereby introducing some degree of unavoidable duplication.

Evaluating a bank’s earnings requires an understanding of how banks make money and how they differ from nonfinancial firms. This was the subject of Chapter 3, which discussed the business of banking and observed that a bank generates earnings from two primary sources: (1) assets that produce interest income;2 and (2) fees, commissions (including net income from assuming risk, whether on or off balance sheet), and trading gains (or dealing gains). This characteristic affects the structure of the bank’s income statement3 and accounts for some of the differences between how banks and nonfinancial companies report income. Principal differences between ...

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