NINE men out of ten, if asked how they would
set about gauging the strength of a bank, would say " From its balance sheet." The tenth man would be wiser. He, too, would require to look closely into the balance sheet, but before doing so, he would require to be satisfied 'with regard to two other things—the ability and judgment .possessed by those mainly responsible for the bank's :policy and working, and the efficiency of its organisation and control.
The qualities possessed by a very small number of men, sometimes even of one man, mainly responsible for the general policy and the operations of a bank, are a matter of great importance. A bank is by no means a machine which runs itself." It requires wise initiative, great judgment and experience, constant vigilance. The official to whom one looks for this com- bination of qualities varies in different banks. In a few exceptional instances it is the chairman ; in others the managing director;, in others still the general manager or general managers. The sphere of these different officials inter se is not, in practice, strictly defined. One has known banks of which the chairman and board have been little more than puppets in the hands of a highly efficient general manager of strong will and dominating personality. On the other hand, there have been banks of which the general manager has been merely a channel through whom the policy of a strong chairman and board is carried out. In theory, the board decides policy ; the general manager is responsible for carrying -it out. In practice there are variations of the theory. A really efficient general manager is more than the chief executive officer of his bank. He wields considerable influence in matters of policy also. We have seen kindred instances in connexion with the Government of the country. Some Secretaries of State have been little more than the mouthpieces of the permanent officials of their departments. Others—such men, for example, as Mr. Joseph Chamberlain when at the Colonial Office—not only take a strong view and a strong lead in matters of policy, but carry their colleagues with them, and, incidentally, confer on the office they hold -an importance which is largely due to their personality. If one had to gauge the stability of any financial institution one would require to satisfy oneself, in the first instance, with regard to the qualifications of the official or officials mainly respon- sible for its direction and supervision. In banking, as in other businesses, the personal element is one which can never, with safety, be ignored.
Another matter as to which one would like to be satisfied is the manner in which the bank is organized ; as to -what, for want of a better term, I should call the " tightness " of the central control ; the effective hold of the central management on the operations of the outlying branches and agencies.
Here again there are wide differences, in practice, between banks. Some banks allow a wide discretion to local directors. In such banks those directors, within fairly well defined limits of course, are responsible for a group of branches within their district. This is one of the results of amalgamation. When you take over a bank, you may either absorb it entirely—make each of the branches within its old sphere of operations directly responsible to the head office and subject to its immediate control—or you may leave it much as it was before you took it over, to be directed and managed, up to a point, by those who were in charge of it before the amalgamation. I am personally a believer in the principle of devolution in banking. I do not see how the huge banking businesses of to-day are to be effectively carried on without some application of that principle. But I realize that inevitably, to some extent, the devolu- tion of responrObility tends to lessen the close control of business from headquarters, and before I ventured to give an opinion on the position of any bank, I should require to be satisfied that the head office had effective control of the more important business carried on in various, parts of the country and of the world. In the absence of such control, the ability possessed by the head office officials may, to a considerable extent, be neutralised if the outlying branches and agencies of a bank are not conducted with equal ability.
On neither of these important points, however, has " the man in the street " the means of obtaining close information. For his guidance in estimating a bank's strength he is necessarily almost- 'entirely dependent on what he is able to gather from the balance sheet.
Where the auditors of the bank are of high standing, the balance sheet test is a good one. Good bank auditor perform their task of auditing in no perfunctory way. Not only do they take such obvious and elementary steps as to check the, holding of cash and of investments and the correctness of the figuies generally, but they go fully. into the vital matter of the security held against advances and into the sufficiency of the provision .which every bank makes for the possibility of bad debts. The caustic saying "-a balance sheet is the last remaining element - of mystery in a prosaic age " does not apply to the 'well-audited balance sheet of a modern. bank.
The principal tests of the soundness of a bank's position are the quality of its loans and its investments, the proportion which its cash bears to its liabilities, and the proportion of its advances to its liabilities ; the liabilities in both cases being, of course, mainly in the form of deposits. With regard to the quality of the investments, the balance sheet itself, to a considerable extent, supplies the information required. By far the largest item of the investments, in the case of all the big- banks, is in the form of " Securities of, or guaranteed by, the British Government." Only a very small proportion of them consists, generally; of " Indian and Colonial Government securities and other investments," and for the quality of these " other investments " we may safely rely on the auditors.
One further constituent part, though not a very large one, of the investments of most of the big banks nowadays consists of their holding of shares in banks operating in other parts of the kingdom or of the world of which they, the- holding banks, hava the sole or chief control. Exception has, at times, been taken to this item as a " mixed " asset, as of course it is, since, as a rule, these shares in other banks are not fully paid up and therefore carry with them a contingent liability. As, however, the balance sheets -of these subsidiary or affiliated banks are usually sent out to the share- holders of the parent bank with the balance sheet of the main concern, the shareholders are placed in the position of being able to judge,. to a 'large extent, the value of those investments, and this feature of the balance sheet is not one which need give them any concern. With regard to the quality of the advances—the most vital matter in the whole statement—one is. dependent mainly on the judgment of the directors and chief officials of the bank and, quite secondarily; on the judgment and good faith of the auditors. I may say that it is in this matter that the greatest improvement has been shown in recent years. No one who, like the writer, has had a good deal to do in the last thirty years with the absorption of comparatively small banks operat- ing in the provinces by big institutions having their headquarters in London will question the statement that, taken as a whole, a greater degree of judgment is shown by the big banks than was shown by the smaller ones. Whatever we may think of bank amalgamations, there can be no question that they have greatly strengthened the position of banks as a _whole in the highly important matter of the quality of the advances. This brings us to the further test : what proportion does the cash in hand and at the Bank of England, and the " money at call and short notice," which is practically all repayable in a matter of days, bear to to the deposits of the bank In so far as we rely solely on the balance sheet, this is the first, though not the most important, test to be applied. In the balance sheets of the joint stock banks of England and Wales at the end of 1924 . the average percentage which the two items, cash in hand and at short notice, bore to the total liabilities was 20.9 per cent, and during the last twenty-five years it has. varied from 18 to 28 per cent., the higher figure being shown during the War years, when the banks deposited large sums at three days' notice with the Bank of England. For the last five years this percentage has stood at a fraction over 20 per cent. of the ,total liabilities of the banks, which, by the way, include other items, such as (at the end of 1924) £132,000,000 of acceptances, in addition to deposits. . _ This means that the banks could, either at once or within a few days, meet well over one-fifth of all the demands which could possibly be made upon them by their depositors ; and if the items " cash " and "-money at call or short notice," in the case of the particular bank in which we are interested, shows- a proportion of about 20 per cent., we may assume that the cash position is satisfactory. The element of risk may be practically ignored in the case of a bank's short loans to the money market, owing to the excellent nature of the cover held.
This brings us to the chief remaining test : the pro- portion which the advances made by the bank beat to its total liabilities. This is a matter which, very properly, engages the close and constant attention of the chief officials of every bank. From long experience, they get to know what proportion of their deposits they may, with safety, lend. Still taking the figures of the joint stock banks of England and Wales, as a whole, - at the end of 1924, the proportion borne by the advances plus the discounts averaged 54.3 per cent., and in the last twenty-five years it has varied between 41.4 per cent. and 58.3 per cent, the lower figure being shown during one of the War years, when, as we all know, many people who were previously regular or frequent borrowers had no need of banking accommodation. • - If, therefore, in the case of the bank into whose stability we are enquiring, the proportion of advances plus dis- counts stands at anything like this proportion shown by the banks as a whole, we may fairly conclude that its position, in this respect also, is satisfactory. A better test is afforded, however, by eliminating the discounts...-This for 'the reasini that'- the "item "Bills discounted" in the balance sheets of most banks includes Treasury Bills, as well as commercial bills, and while Treasury Bills are technically " bills discounted," they are obviously more in the nature of an investment, and a highly satisfactory and liquid one. Eliminating the • discounts, then, and also, on the other side, the acceptances, the question remains, what proportion should advances—loans and overdrafts—bear to a bank's deposits ? Fifty per cent. is the percentage usually regarded as a maximum, but this is somewhat conservative. No hard and fast rule can, be laid down. -: Much depends on the nature of the business. If, however, the other tests referred to are satisfactory, and the amount of the advances proper does not exceed 55-60 per cent. of the deposits, the balance sheet may be passed.
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