How to calculate cost-to-income ratio of a bank?
Cost-to-income ratio is calculated by dividing the operating expenses by the operating income generated i.e.net interest income plus the other income.
Cost-to-income ratio = Operating Expenses
Operating Income
where, Operating Expenses = Employee Cost + Other Operating Expenses
Operating Income = Net Interest Income + Other Income
Cost-to-income ratio is important for determining the profitability of a bank. The ratio gives a clear view of how efficiently the bank is being run - the lower the ratio, the more profitable the bank. Changes in the ratio also highlight potential problems - if the ratio rises from one period to the next, it means that costs are rising at a higher rate than income. Thus there is an inverse relationship between the cost-to-income ratio and the bank's profitability.
Let us calculate the cost-to-income ratio for HDFC Bank for FY13 from the below data (extracted from its FY13 audited standalone financial results):
| Sr. No. | Amount in Rs. crore | FY13 | FY12 |
| A | Interest Earned | 35,065 | 27,874 |
| B | Other Income | 6,853 | 5,790 |
| C | Total Income | 41,918 | 33,664 |
| D | Interest Expended | 19,254 | 14,990 |
| E | Operating Expenses | 11,236 | 9,278 |
| F | : Employee Cost | 3,965 | 3,400 |
| G | : Other Operating Expenses | 7,271 | 5,878 |
|
| Computation: | ||
| H | Net Interest Income (A – D) | 15,811 | 12,884 |
| I | Operating Income (H + B) | 22,664 | 18,674 |
| J | Cost-to-Income Ratio (E ÷ I × 100) | 49.58% | 49.68 |
Thus, HDFC Bank’s cost-to-income ratio for FY13 is 49.58% which is 100 basis points lower than the level in FY12, indicating efficiency in performance.
Let us consider another example – Punjab National Bank (extract of its audited standalone FY13 financial results):
| Sr. No. | Amount in Rs. crore | FY13 | FY12 |
| A | Interest Earned | 41,893 | 36,476 |
| B | Other Income | 4,216 | 4,203 |
| C | Total Income | 46,109 | 40,679 |
| D | Interest Expended | 27,037 | 23,062 |
| E | Operating Expenses | 8,165 | 7,002 |
| F | : Employee Cost | 5,675 | 4,723 |
| G | : Other Operating Expenses | 2,490 | 2,279 |
|
| Computation: | ||
| H | Net Interest Income (A – D) | 14,856 | 13,414 |
| I | Operating Income (H + B) | 19,072 | 17,617 |
| J | Cost-to-Income Ratio (E ÷ I × 100) | 42.81% | 39.75% |
Thus, for PNB, cost-to income ratio has deteriorated in FY13 i.e. it incurred higher cost (42.811 paise for every rupee earned during the year, as against 39.75 paise incurred in FY12 to earn a rupee).