IMPACT OF INTELLECTUAL CAPITAL ON FINANCIAL

PERFORMANCE OF THE BANKING SECTOR IN SRI LANKA

KUMBURAHENA GAMARALLAGE YASHORA LAYANGI

2020
IMPACT OF INTELLECTUAL CAPITAL ON FINANCIAL
PERFORMANCE OF THE BANKING SECTOR IN SRI LANKA

By

KUMBURAHENA GAMARAL.LAGE YASHORA LAYANGI

Reg. No: EU/IS/2014/COM/57

Index No: COM 1827

A Project Report
submitted to the faculty of Commerce and Management, Eastern University, Sri
Lanka as a partial fulfillment of the requirement of the Degree of Bachelor of
Commerce Honours in Accounting and Finance
B.ComHons (Accounting and Finance)

Department of Commerce
Faculty of Commerce and Management
Eastern University, Sri Lanka

2020
DECLARATION

“I declare that this is my own work and this project report does not incorporate without
acknowledgement any material previously submitted for a Degree or Diploma in
Eastern University, Sri Lanka or any other University or institute of higher learning and
to the best of my knowledge and belief it does not contain any material previously
published or written by another person except where the acknowledgement is made in
the text.

Also, I hereby grant to Eastern University, Sri Lanka the non-exclusive right to
reproduce and distribute my project report, in whole or in part in print, electronic or
other medium. I retain the right to use this content in whole or part in future works (such
as articles or books).”

Name of the Student :K.G.Y.Layangi

Signature :………………………………….

Date :………………………………….
CERTIFICATION

This is to certify that the project report

“IMPACT OF INTELLECTUAL CAPITAL ON THE FINANCIAL

PERFORMANCE OF THE BANKING SECTOR IN SRI LANKA”

By

KUMBURAHENA GAMARALLAGE YASHORA LAYANGI

Reg. No: EU/IS/2014/COM/57

Index No: COM 1827

has been accepted by the Faculty of Commerce and Management, Eastern University,
Sri Lanka, as a partial fulfillment of requirements of the degree of Bachelor of
Commerce (B.Com) Specialization in Accounting and Finance.

Supervisor :…………………………… Date:…………………….

Examiner І :…………………………… Date:…………………….

Examiner ІІ :…………………………… Date:…………………….

Dean :…………………………… Date:…………………….

ACKNOWLEDGEMENT

First of all, I would like to acknowledge with deep appreciation the encouragement and
invaluable guidance of my supervisor, Mr. R. Uthayakumar Senior Lecturer of the
faculty of Commerce and Management, Eastern University Sri Lanka, for his generous
and untiring efforts extended to me in all phase of the presentation of study. He spent
much patient and valuable time, with his unhesitant help and valuable suggestion,
which no doubt in my successful completion of this report. I specially thank him for
full dedicated support and participation in my research study.

I sincerely Mrs. V.R. Ragal, Senior lecturer and Dean, Faculty of Commerce and
Management, Eastern University Sri Lanka. As well as I sincerely thank to Mr. T.
Paranthaman, Senior lecturer and Head of Department of Commerce, Eastern
university, Sri Lanka.

I wish to thank the staff of library and computer unit who helped me to prepare this
study. And my gratitude to my parent and friends immensely who have given support
and the necessary strength that made by research study quite pleasant. I also wish to
thank each and every one who has helped in numerous ways to carry on my research
smoothly and make the study great success. I warmly thank them all.

K.G.Y.Layangi

Researcher

i
ABSTRACT

This study was attempted to investigate the impact of Intellectual capital on the
financial performance of the banking sector in Sri Lanka. The objectives of this study
are to identify the impact of human capital on financial performance, to identify the
impact of structural capital on financial performance and to identify the impact of
capital employed on financial performance of banking sector in Sri Lanka.

In this study literature part explained independent variables, dependent variable and the
relationship between those variables clearly defined by using previous literature
reviews. Conceptual model is developed based on the existing literature. Many studies
have been done in the area of intellectual capital and its contribution to the value of the
firm. This study sets out to extend the evidence by investigating the intellectual capital
of banks operating in Sri Lanka. The study uses Value Added Intellectual Capital model
(VAIC) in determining intellectual capital and its three major components. In this study
panel data sets of Sri Lankan banking sector were used to investigate the impact of
intellectual capital on financial performance of banking sector in Sri Lanka using the
Random Effects model. Random Effect model has selected by using the results of
Hausman Test. For the purpose of this study, 100 observations of 20 banks over the
period 2014-2018 were included. Annual reports, especially the profit and loss accounts
and balance sheets of the selected banks have been used to obtain the data. Return on
Assets (ROA) was considered as proxies for financial performance

Findings of this research indicates that, Sri Lankan banks, in general, human capital
efficiency, structural capital efficiency and capital employed efficiency have a
significant positive relationship with financial performance. Further these findings
would be both conceptually and practically appealing for bankers to apply knowledge
management practice in their institutions. Also this study would provide some
information to the stakeholders and potential investors to assess the value creating
capabilities of selected banks. Findings of this study help decision makers be aware of
the importance of intellectual capital as a key factor that can enhance a firm’s ability to
maintain their competitive position

Keywords: Intellectual Capital, Financial Performance, Return on Asset, Sri Lankan

Banking Sector

ii
TABLE OF CONTENTS

ACKNOWLEDGEMENT .............................................................................................. i

ABSTRACT ...................................................................................................................ii

LIST OF TABLES ..................................................................................................... viii

LIST OF FIGURES ...................................................................................................... ix

ABBREVIATIONS ....................................................................................................... x

CHAPTER ONE .......................................................................................................... 1

INTRODUCTION........................................................................................................ 1

1.1 Background of the Study ...................................................................................... 1

1.2 Problem Statement ............................................................................................... 5

1.3 Research Questions .............................................................................................. 5

1.4 Objectives of the Study ........................................................................................ 5

1.5 Significance of the Study ..................................................................................... 6

1.6 Scope of the Study................................................................................................ 6

1.7 Summary .............................................................................................................. 7

CHAPTER TWO ......................................................................................................... 8

LITERATURE REVIEW ........................................................................................... 8

2.1 Introduction .......................................................................................................... 8

2.2 Theoretical Framework ........................................................................................ 8

2.2.1 Overview of Intellectual Capital.................................................................... 8

2.2.2 Emergence of the Intellectual Capital Concept ........................................... 10

2.3 Theoretical Base ................................................................................................. 12

2.3.1 Knowledge Base Theory ............................................................................. 12

2.3.2 Human Capital Theory ................................................................................ 12

2.3.3 Resource Base Theory ................................................................................. 13

2.3.4 Intellectual Capital Theory .......................................................................... 13

2.4 Definition and Components of Intellectual Capital............................................ 14

iii
2.4.1 Definition of Intellectual Capital and Difficulties Incurred by Defining the
concept .................................................................................................................. 14

2.4.2 Components of Intellectual Capital ............................................................. 15

2.5 Intellectual Capital and Financial Performance ................................................. 16

2.5.1 The Value Added Intellectual Capital ......................................................... 16

2.5.2 Human Capital Efficiency (HCE)................................................................ 17

2.5.3 Structural Capital Efficiency (SCE) ............................................................ 18

2.5.4 Capital Employed Efficiency (CEE) ........................................................... 19

2.6 Financial Performance........................................................................................ 20

2.6.1 Ratios ........................................................................................................... 21

2.7 Significance of Measuring Intellectual Capital ................................................. 23

2.8 The Banking Sector in Sri Lanka ....................................................................... 23

2.9 Review of Empirical Studies .............................................................................. 24

2.10 Summary .......................................................................................................... 26

CHAPTER THREE ................................................................................................... 27

CONCEPTUALIZATION AND OPERATIONALIZATION .............................. 27

3.1 Introduction ........................................................................................................ 27

3.2 Conceptualization ............................................................................................... 27

3.3 Independent Variables ........................................................................................ 28

3.3.1 Human Capital Efficiency (HCE)................................................................ 29

3.3.2 Structural Capital Efficiency (SCE) ............................................................ 30

3.3.3 Capital Employed Efficiency (CEE) ........................................................... 31

3.4 Financial Performance........................................................................................ 31

3.4.1 Return on Assets (ROA) .............................................................................. 31

3.5 Operationalization .............................................................................................. 32

3.6 Summary ............................................................................................................ 33

CHAPTER FOUR ...................................................................................................... 34

iv
METHODOLOGY .................................................................................................... 34

4.1 Introduction ........................................................................................................ 34

4.2 Study Setting, Study Design, and Method of Study........................................... 34

4.3 Population of the Study and Sample .................................................................. 35

4.4 Method of Data Collection ................................................................................. 35

4.5 Data Presentation................................................................................................ 36

4.6 Methods of Measurements ................................................................................. 36

4.7 Methods of Data Analysis and Evaluation ......................................................... 36

4.7.1 Descriptive Analysis .................................................................................... 37

4.7.2. Unit root test ............................................................................................... 37

4.7.3. Correlation Analysis ................................................................................... 38

4.7.4. Diagnostic Test ........................................................................................... 39

4.7.5. Regression Analysis ................................................................................... 41

4.8 Hypothesis Testing ............................................................................................. 43

4.9 Summary ............................................................................................................ 44

CHAPTER FIVE ....................................................................................................... 45

DATA PRESENTATION AND ANALYSIS ........................................................... 45

5.1 Introduction ........................................................................................................ 45

5.2 Data Presentation................................................................................................ 45

5.3 Data Analysis ..................................................................................................... 46

5.3.1 Univariate Analysis ..................................................................................... 46

5.4 Trend Analysis ................................................................................................... 52

5.4.1 Trend Analysis of Human Capital Efficiency (HCE) .................................. 52

5.4.2 Trend Analysis of Structural Capital Efficiency (SCE) .............................. 53

5.4.4 Trend Analysis of ROA ............................................................................... 54

5.5 Unit Root Test .................................................................................................... 54

5.6 Correlation Analysis ........................................................................................... 55

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5.7 Diagnostic Test ................................................................................................... 56

5.7.1 Heteroscedasticity........................................................................................ 56

5.7.2 Autocorrelation ............................................................................................ 56

5.7.4 Normality ..................................................................................................... 58

5.8 Regression Analysis ........................................................................................... 59

5.8.1 Fixed Effects Model .................................................................................... 59

5.8.2 Random Effects Model ................................................................................ 60

5.8.3 Hausman Test .............................................................................................. 61

5.9 Summary Results for Random Effect Model (Multiple Regression) ................. 62

5.10 Testing Hypothesis ........................................................................................... 62

5.11 Summary of Hypothesis Testing ...................................................................... 64

5.12 Chapter Summary............................................................................................. 64

CHAPTER SIX .......................................................................................................... 65

DISCUSSION ............................................................................................................. 65

6.1 Introduction ........................................................................................................ 65

6.2 Discussion on Relationship between Intellectual Capital Variables and Financial

Performance. ............................................................................................................ 65

6.2.1 Relationship between Human Capital Efficiency and Financial Performance

.............................................................................................................................. 65

6.2.2 Relationship between Structural Capital Efficiency and Financial

Performance .......................................................................................................... 65

6.2.3 Relationship between Capital Employed Efficiency and Financial

Performance .......................................................................................................... 66

6.3 Discussion on Impact of Intellectual Capital Variables on Financial

Performance ............................................................................................................. 66

6.3.1 Impact of Human Capital Efficiency on the ROA ...................................... 66

6.3.2 Impact of Structural Capital Efficiency on the ROA .................................. 67

6.3.3 Impact of Capital Employed Efficiency on the ROA .................................. 68

vi
6.4 Summary ............................................................................................................ 68

CHAPTER SEVEN .................................................................................................... 69

CONCLUSIONS AND RECOMMENDATIONS ................................................... 69

7.1 Introduction ........................................................................................................ 69

7.2 Conclusions ........................................................................................................ 69

7.3 Recommendations .............................................................................................. 70

7.4 Suggestions for Further Research ...................................................................... 71

7.5 Limitations ......................................................................................................... 71

7.6 Summary ............................................................................................................ 72

REFERENCES ........................................................................................................... 73

APPENDIX ................................................................................................................. 81

Appendix – І ............................................................................................................. 81

Appendix – ІІ - Output for Data Analysis ................................................................ 85

CHECKLIST .............................................................................................................. 92

EMAIL CONFIRMATION ...................................................................................... 95

vii
LIST OF TABLES

Table 3. 1 Operationalization ....................................................................................... 32

Table 4. 1 Decision Criteria ………………………………….………………………38

Table 4. 2 Decision Criteria for Hypothesis ................................................................ 43

Table 5. 1 Selected Banks ….……….………………………………………………..45

Table 5. 2 Summary Statistic from STATA ................................................................ 47

Table 5. 3 Descriptive Statistics of Independent Variables Based on the Year ........... 50

Table 5. 4 Descriptive Statistics of ROA ..................................................................... 51

Table 5. 5 Summary for Panel Unit Root Test............................................................. 55

Table 5. 6 Correlation Analysis ................................................................................... 55

Table 5. 7 Breusch-Pagan / Cook-Weisberg Test for Heteroskedasticity ................... 56

Table 5. 8 Test for Autocorrelation.............................................................................. 57

Table 5. 9 Result of Multicollinearity Test .................................................................. 57

Table 5. 10 Normality Test .......................................................................................... 58

Table 5. 11 Results of Fixed Effects Model ................................................................ 60

Table 5. 12 Results of Random Effects Model ............................................................ 60

Table 5. 13 Results of the Test for Correlated Random Effects (Hausman Test) ....... 61

Table 5. 14 Summary Results for RE Model ............................................................... 62

Table 5. 15 Hypothesis Testing ................................................................................... 64

viii
LIST OF FIGURES

Figure 3. 1 Conceptual Framework ............................................................................. 28

Figure 5. 1 Normality Distribution of ROA .................................................................48

Figure 5. 2 Normality Distribution of HCE ................................................................. 49

Figure 5. 3 Normality Distribution of SCE.................................................................. 49

Figure 5. 4 Normality Distribution of CCE ................................................................. 50

Figure 5. 5 Trend Analysis of Human Capital efficiency ............................................ 52

Figure 5. 6 Trend Analysis of Structural Capital Efficiency (SCE) ............................ 53

Figure 5. 7 Trend Analysis of Capital employed Efficiency (CEE) ............................ 53

Figure 5. 8 Trend Analysis of ROA ............................................................................. 54

Figure 5. 9 Normality Distribution of Residuals ......................................................... 59

ix
ABBREVIATIONS

CBSL - Central Bank Sri Lanka

CE - Capital Employed

CEE - Capital Employed Efficiency

CSE - Colombo Stock Exchange

HC - Human Capital

HCE - Human Capital Efficiency

IC - Intellectual Capital

ROA - Return on Assets

SC - Structural Capital

SCE - Structural Capital Efficiency

VA - Value Added

x
CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

Nowadays, the knowledge-based and challenges environment had affected the

productive of the business industries which lastly demonstrate the development of the
country. A number of business industries have considered value creation to be
important elements for the implementation of competitive advantages for their
business. The value creation of the business would not only perform by the physical
assets, but also preferred how successful the intellectual capital management would be.
The firms focused on the intellectual capital or non-physical assets had the impact and
interactions within the process of the business whether successful or not. Therefore, the
increasing number of sector has changed and considered non-physical assets or
intellectual capital in the current business market.

With the fast boom of technologically advanced companies in the knowledge-based

economy, corporate management has place additional attention on the importance of
intellectual capital. As the results of dominated by knowledge economy in 21st century
many firms are shifting from using physical capital and embrace intellectual capital, as
more and more firms are trying to find better ways to use their resources efficiently in
order to sustain in the dynamic changing business environment, hence there is a huge
move by several firms from production era to knowledge era and from production labor
to knowledge worker (Lipunga, 2014).

The concept of intellectual capital has not been outlined in single definition; however,
researchers have struggled to create their own domains. Intellectual capital, interpreted
as an intangible asset, have zero value on firm balance sheet but it positively impacts
the overall performance and success of it.

Intellectual capital is described as intangible assets that may be a supply for property
competitive advantage. Currently, intangible assets are other types of assets besides
tangible. A firm may utilize both tangible and intangible assets in making worth for its
stakeholders. Traditionally, tangible assets are thought-about as important within the
method valuable creation, whilst, intangible assets have not been recognized as such

1
important in creating value for stakeholders. In a parallel to the above view, physical
assets like land, labour and capital got the priority within the production economy. The
important given to the intangible assets is, however, growing within the previous few
decades.

There are many definitions of intellectual capital; Edvinsson and Malone (1997)
defined intellectual capital as knowledge that can be converted to the value. Thomas
Stewart, an ex-editor of the business magazine “Fortune”, describes intellectual capital
as “something that cannot be touched, although it slowly makes you rich”. Rastogi
(2003) refers to IC as “ a dynamic nexus of a company’s human capital, social capital
and knowledge management”. Moreover, Petty and Guthrie (2000) identify the
definition offered by organization for economic and co-operation in 1999 that “IC is
the economic value of two categories of intangible assets of a company”, namely
structural and human capital.

Furthermore, intellectual capital as described by Bontis (1998) and Choudhury (2010)

is the full knowledge of organization’s personnel, organizational routines and network
relationships. It contains three components. They are human capital (HC), structural
capital (SC) and capital employed (CE) (Public,1998). Human capital is the generic
term for the knowledge, information and competence. Structural capital comprises of
the routines, procedures, system, and database and capital employed which speaks of
the value of the assets that add to an organization’s capacity to create income also
known as operating assets.

Globally, research in intellectual capital continues to grow across industries and

continents; sectors including banking, insurance, audit, hotel and small and medium
sized enterprises. In Sri Lanka, fewer studies have been done this area. Intellectual
capital is very important for banks; first, because banks provide countless services that
are not accounted for by traditional accounting information. For example, the financial
statements fail to provide the values of human capital, organizational capital as well as
customer capital that are important building blocks of every firms (Seetharaman et al.,
2002). Again, the universal banking liecence requires banks to provide various financial
services that, although they are argued to help diversity risk, require expertise to handle
effectively.

2
Intellectual capital is important for both society and organizations. It can be a source of
competitive advantage for business and stimulate innovation that leads to the generation
of wealth. Intellectual capital (IC) plays an important role in the performance of an
organization, and it reflects distinctive characteristics that, ceteris paribus, can be
determinate the success or failure of an organization relative to its peers (Public, 1998).
Chen et al.,(2005) concluded that the intellectual capital of firms has a positive impact
on market value and financial performance. They also argued that investors place
different value on sub components of intellectual capital such as physical capital,
human capital and structural capital. Moreover, some of the studies (Ferraro and Veltri,
2011; Samiloglu, 2006) pointing out the non-existence of a relationship between
intellectual capital and market value or financial performance.

Since it has been recognized that intellectual capital has an effect on creating value and
increasing the financial performance of firms, various methods have been developed to
quantify it. Public (1998) developed an efficiency model that monitors and measures
the creation of value, known as value added intellectual coefficient (VAIC). The value
added intellectual coefficient uses income statement and balance sheet values to
measure whether there is any value adding occurring in a firm that can be attributed to
and stemming from its intellectual capital growth. This study adopts the value added
intellectual coefficient to measure intellectual capital perforamace of banking sector in
Sri Lanka. This study further investigates whether intellectual capital (IC) and its
components affect the financial perforamace indicator of banks, namely return on assets
(ROA).

The banking sector in Sri Lanka is monitored by the Bank Supervision Department of
the Central Bank of Sri Lanka under the Banking Act, Monetory law Act and Exchange
Control Act. Under the Banking Act and Finance Companies Act , three types of
financial institutions are allowed to operate in Sri Lanka by the Central Bank of Sri
Lanka. They are; licensed commercial banks, registered finance companies and
licensed specialized banks. In Sri Lanka has a fairly diverse banking system, including
the Central Bank of Sri Lanka (CBSL), 2 large state-owned commercial banks ( Ceylon
Bank and People’s Bank), 11 private domestic commercial banks, 13 foreign banks, a
national saving bank, a regional development bank, 2 housing banks, and 3 licensed
specialized banks. Totally there are 26 Licensed commercial banks (LCBs) including

3
13 branches of foreign banks , and 7 Licensed Specialised Banks (LSBs) by end of
2019. Within the Sri Lankan financial system,the banking sector is the most active
sector in Sri Lankan’s economy and it plays an active role in the country’s economic
development.

According to given in annual reports of banks in Sri Lanka, there are some variation
observed in the intellectual capital and financial performance indicators. Among these
licensed banks in Sri Lanka, some banks were selected to monitor variation in
Intellectual capital indicators and ROA in the year of 2018. In the Bank of Ceylon
(BOC) , Human Capital Efficiency (HCE) is 9.49 and Return on Asstes (ROA) is 6.6%
and in Hatton National Bank (HNB), HCE is 9.48 and ROA is 7%. When compare these
two, BOC has high level of HCE but less ROA. In the same year HNB has low level of
HCE but higher ROA than BOC. However, the Structural Capital Efficiency (SCE) of
the Peoples bank is 0.87 and ROA is 7.4% and the SCE of the DFCC bank is 0.90 and
ROA is 7.6%. Therefore, in peoples bank has low level of SCE and low level of ROA
and the same year DFCC bank has high level of SCE and ROA is higher than peoples
bank. Furthuremore, the Capital Employed Efficiency (CEE) of the Nation Trust Bank
(NTB) is 0.10 and ROA is 7.9%. In the same year CEE of the BOC is 0.081 and ROA
is 6.6%. Considering those values NTB has high level of CEE and high level of ROA.
And also BOC has low level CEE and low level of ROA than NTB when comparing
both banks.

A number of research studies have been carried out in internationally about the impact
on intellectual capital on financial performance (Vishnu, 2015; Njuguna, 2014; Lina,
2014; Mavridis, 2004). In Sri Lanka context, few research focusing on impact of
intellectual capital on financial performance (Kehelwalatenna and Gunaratne, 2010;
Jayawickrama and Lakshan, 2018; Aruppala et al., 2015).While the grounded
framwork of intellectual capital has been in place and intellectual capital is being
studied in many countries to provide their business with a competitive advantage over
their competitors, there is a still gap in understanding whether to invest and use
intellectual capital as a critical asset. Therefore, the firm’s intellectual capital and its
impact on financial performance need to be measured in order to create more
awareness.

4
Furthermore, most studies have focused on intellectual capital research in developed
countries, and very few studies have used emerging developing world, especially in Sri
Lanka, to assess the impact of intellectual capital on specific industries such as banks.
This has created a gap that needs to be addressed because, with rapidly changing
environment filled with innovation, information and technology, firms are increasingly
challenged with global competition (Muhammad & Ismail, 2009) which makes
intellectual capital more important to all of them for sustainability and competitive
advantages. Thus, it has been stated that there is still a need to promote more studies in
developing countries.

Therefore this study uses the banking sector to find the impact of intellectual capital
and financial performance and uses VAIC model to analyze if the intellectual capital
has an impact on financial performance of Sri Lankan banks.

1.2 Problem Statement

In this context, the problem of the study is identified as “What is the Impact of
Intellectual Capital on Financial Performance of Banking Sector in Sri Lanka?”

1.3 Research Questions

Based on the research problem identified above, the following research questions are
raised for the investigation.

1. What is the impact of Human Capital on the Financial Performance of banking

sector in Sri Lanka?
2. What is the impact of Structural Capital on the Financial Performance of
banking sector in Sri Lanka?
3. What is the impact of Physical Capital on the Financial Performance of banking
sector in Sri Lanka?

1.4 Objectives of the Study

The main objective of this study is to identify the intellectual capital and its impact on
the financial performance of banking sector in Sri Lanka. Rather than those objective,
there are some another objective. Those are,

5
1. To find out the impact of Human Capital on the Financial Performance of
banking sector in Sri Lanka.
2. To find out the impact of Structural Capital on the Financial Performance of
banking sector in Sri Lanka.
3. To find out the impact of Capital Employed on the Financial Performance of
banking sector in Sri Lanka.

1.5 Significance of the Study

The findings of this research can serve as a useful input for banks to apply knowledge
management in their institutions and to address factors affecting the performance of
intellectual capital to maximize their value creation and financial performance.

It is expected that the research work will give importance to the management team of
commercial banks, policy makers and future researchers, thus: the study mainly have
the following importance. Since this study aims to investigate the impact of intellectual
capital on banks’ financial performance in Sri Lanka, it would assist Sri Lankan banks’
management team in the new formulation of their bank policies and procedures help to
boost their financial performance and to take corrective actions on their existing one /
policy and procedure amendments. Furthermore, policy makers from the administrative
/ governmental organ can benefit from this study outcome by establishing new policies,
procedures and standards for banks as well as by making changes to existing ones so as
not to adversely affect financial performance. And the study fills the gap in existing
literature and provides evidence whether variables identified by previous studies in
other countries researches are the same as the ones found in Sri Lanka.

This will be a great support to economists, bankers, business analysts, customers and
all stakeholders involved in Sri Lankan banking sector to make their investment and
other financial decisions properly.

1.6 Scope of the Study

The theoretical scope of the study includes two main dimensions such as intellectual
capital and financial performance of banks. The empirical scope of the study has been
narrowed down to banks listed in Colombo Stock Exchange (CSE) under Bank,
Finance, and insurance sector and Government banks. This study will attempt to find

6
out the impact of intellectual capital on financial performance of banking sector in Sri
Lanka. There are 26 licensed commercial banks and 7 licensed specialized banks in Sri
Lanka. Out of these banks researcher selects only 20 banks. The study will be
undergone through past 5 years. This research study will be mainly carried out using
the documentary secondary data; especially using the Central Bank reports, annual
publications and web sites of selected companies.

This research deals with the data analysis and findings regarding the impact of
intellectual capital on financial performance of banking sector. It will present how
gathered data are analyzed with the correlation analysis and regression analysis using
STATA (15.0) and finally it will discuss the related results of the analysis. And also it
will show the results in the forms of tables, charts, graphs and using other data
presenting techniques. Return on Assets ratio will be computed to measure the financial
performance of the selected companies representing the banking sector.

1.7 Summary

This chapter gives background knowledge to the reader about the study of intellectual
capital and its impact on financial performance on banking sector in Sri Lanka. Based
on research questions, research objectives were developed and this will be the base for
the research process. Accordingly, the scope of the study, significance of the study and
limitation of the study helped to the reader to get better understanding on the study.

7
CHAPTER TWO

LITERATURE REVIEW

2.1 Introduction

Literature review is one of the essential part of a research study, since it enables and act
as a platform to the researcher as well as anyone shows an interest to go through with
the research and to be familiar with the theoretical aspects and concepts of the study.
So, in this chapter, it is going to provide a critical analysis of the most relevant theories
and presenting the theoretical concepts of the study field, the definition of the main
variables, and other empirical evidence by reviewing some selected papers and articles
related to the subjects of this study. Also reviewing literature was carried out by using
relevant books and research papers and searched the internet through the search-
engines. This chapter fully consisted with a theoretical review and empirical studies
done by number of researchers worldwide with their findings on the impact of
intellectual capital on the financial performance of the banking sector.

2.2 Theoretical Framework

2.2.1 Overview of Intellectual Capital

Since peoples were dealing with different issues and from a variety of backgrounds,
their definitions of intellectual capital directly reflect their unique perspectives and the
very specific sets of problems they were working to resolve. Each of the perspectives
they developed is true for the specific needs of the user. The term intellectual capital
(IC) was first published in 1969 by John Kenneth Galbraith. He supposed that IC meant
more than just “intellect as pure intellect” but rather incorporated a degree of
“intellectual action” in that sense, and that intellectual capital is not only a static
intangible asset, but an ideological process; a means to an end.

The limitations on financial statements in explaining firm value underline the fact that
the source of economic value is no longer the production of material goods, but the
creation of intellectual capital (Chen et al.,2005). Intellectual capital comprises human
capital and structural capital wrapped up in customers, processes, databases, brands,
and systems (Edvinsson & Malone,1997), and has been playing an increasingly
important role in creating competitive advantages that are sustainable for businessess.

8
Among the Intangible assets especially Knowledge are gaining prominence than ever
before as a matter of survival and of achieving competitive advantage for the firm to
compete strategically (Latif et al., 2012) . Thus it is no secret that the organization that
continues to invest in new skill and technology will continue to be successful and
intellectual capital has become the critical driver for sustainability (Bontis, 2001). Since
intellectual capital can improve the organizations’ financial performance, create value,
and provide sustainable environment for global competitive advantage, the use of
intellectual capital should become one of the priorities of all organizations.

Intellectual capital can be described as a tripartite connotation containing human

capital, relational capital and structural capital components. Its concept is
comparatively new in the global business environment. According to Chatzkel (2002),
from a managerial perspective, intellectual capital can be defined as the knowledge,
applied experience, organizational technology, relationships, and professional skills
that provide the market competitive edge. A more complex version of this definition
says that intellectual capital is: knowledge that can be turned into value or profit. It is
the value embedded in people, processes, and customers’ emboidied ideas.

Given the growing importance of intellectual capital in driving firm value and
competitive advantages, a suitable measure of the intellectual capital of firms is still in
infancy.The problem is that intellectual capital is typically not used effectively and may
cost businesses lost revenue in millions of dollars a year (Sudarsanam et
al.,2006).Instead of measuring the intellectual capital of firms, Public (2000) proposed
a measure of the efficiency of value added by corporate intellectual ability (Value
Added Intellectual Coefficient (VAIC)).

From a firm’s resource base major components of VAIC can be viewed– physical
capital, human capital, and structural capital. VAIC is being increasingly used in
business (Public,1998,2000) and academic applications (Firer & Williams, 2003). In
comparison with research studies conducted in developed countries, the study of
intellectual capital practices of business within developing countries is given limited
attention .

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2.2.2 Emergence of the Intellectual Capital Concept

While analysing the process of development of the concept of intellectual capital and
intellectual capital management, it is seen that no studies have been made directly
aimed at studying and revealing it. Quality and its meaning were grasped later on. When
we look at the historical development, it draws out attention to the fact that there are
many conceptual thinkers. Everyone has made a different contribution to the concept
of intellectual capital. The concept of intellectual capital is based on three origins that
are different from each other.

Between 1957 and 1997, several academic researchers and economists carried out new
operational strategies based on resource efficiency rather than the generally-accepted
theory of competitive powers. The resource-based approache suggests that all
enterprises have their own unique competencies and talents (Sullivan, 1998) . However,
the thought that information is one of an enterprise’s resources on its own, and that it
should be handled with the care shown in the management of other assets, and that
there is the need to make investments in information is new.

The term Intellectual Capital was first used by Michael Kalecki in 1975, by referring to
the economist John Kenneth Galbraith. Kalecki has said that; “How many of us are
aware of the intellectual capital we acquired during the last decades.”

The concept of intellectual capital first emerged in the study of Hiroyuki Itami
published in Japan in 1980 entitled “Mobilizing Invisible Assets”. This study referred
the importance of management of invisible assets, in other words, abstract assets, for
enterprises in Japan and contributed to the formation of an infrastructure to determine
the value of such assets.

Secondly, Penrose, Rumelt, Wemerfelt and other economists have been the first
thinkers on the concept and method of intellectual capital, with their article
“Commercialised Technology”, after organizing a seminar which they merged with the
study of David Teece in UC Berkeley in 1986, and in their search for a different point
of view that of company theory.

Finally , the study of Swedish Karl-Erik Sveiby in his own language emphasized the
human capital in intellectual capital. He argued that skills and information of the

10
employees are a potential resource of enrichment for an enterprise, and therefore, can
be used to measure the performance of a company.

It is recognized that the intellectual capital which has begun to be discussed again with
the current trend of the information economy, was first brought to the agenda in this
sense in the article “Brainpower” written by Thomas Stewart in June 1991. Stewart
defined intellectual capital in his article as; the whole of everything known by the
employees of an enterprise, and that give competitive advantage to the enterprise in the
market.

In a research conducted by Sveiby in 1998, by using the data pertaining to whole of the
enterprises listed in Dow Jones Industry Index, the intangible assets were compared to
the book values and it was determined that the ratio of intangible assets to the book
values had never been this high in any period of the market.

When the companies are analysed basically, it will be seen that they are comprised of
physical, financial and intellectual assets. Intellectual assets are the sole abstract assets
of a company. Therefore, intellectual capital emphasises that enterprises with their
intangible assets will create more value than with their tangible assets. In the long-terrm
success of companies, tangible and financial assets lose their influence.

The following are the basic points which help to increase the imporance of intellectual
capital:

1. Revolution in the information technology and information society.

2. Rise of knowledge and knowledge based economy.
3. Change in the relationships among people and in the structure of the networks
and novelty and creativity being the most basic indicator of competence.

Evaluation of intellectual capital with the currently acceptable accounting

understanding leads to incorrect results. Concepts of “information capital, non-financial
assets, intangible assets, lost assets, invisible assets, intellectual capital” have begun to
be increasingly used by both the regulators and academicians while the assets which
have had an impact on the market value of enterprises and which have not been seen to
a large extent in the accounting records used to be defined as “goodwill” or “unearned
increment” until 1980s (Edvinsson & Malone, 1997) .

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2.3 Theoretical Base

The theories that are underpinning the study of firm preference are knowledge based
theory, human capital theory, resource base theory and intellectual capital theory.

2.3.1 Knowledge Base Theory

Originating from the strategic management literature, this perspective builds upon and
extends the resource-based view of the firm initially promoted by Penrose (1959). The
firm’s knowledge-based theory considers knowledge as the most significant resource
of a firm (Njuguna, 2014). Its proponents argue that because knowledge-based
resources are usually difficult to imitate and socially complex, heterogeneous
knowledge bases and capabilities between firms are the key determinants of sustained
competitive advantage and superior corporate performance.

This knowledge is embedded and carried out by multiple entities including

organizational culture and identity, policies, routines, documents, systems, and
employees (Njuguna, 2014) . Although the resource-based view of the organization
recognizes the important role of knowledge in firms that achieve a competitive
advantage, knowledge-based proponents argue that the resource-based perspective
does not go far enough. Information technologies play an important role in the firm’s
knowledge-based view that information systems can be used to synthesize, optimize,
and expedite large-scale intra- and inter-firm knowledge management (Alavi &
Leidner, 2001)

2.3.2 Human Capital Theory

Human capital theory is based on the theory of macroeconomic development field.

Some researchers argue that there are various types of capital, including schooling, a
computer training course, and medical care expenditure. And in addition, lectures on
the virtues of punctuality and honesty are capital too. In the true sense, they improve
health, increase earnings, or add to a person’s appreciation of literature over a lifetime.
As a result, it is fully in keeping with the capital. The concept of expenditure on
education, training and medical care is traditionally defined as investments in capital.
These are not just expenses but investments that can be calculated with valuable returns
(Njuguna, 2014).

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2.3.3 Resource Base Theory

According to the resource-based theory point of view, core competencies can be build
from the organizational point of view, many ideas that intellectual capital is a core
competency or power (Njuguna, 2014). The Resource-Based View (RBV) confirms
that the performance of an organization is based on a set of internal resources and
capabilities. This focuses on the internal resources and capabilities that can improve
competitive advantage. The aim is to highlight the role of resources in supporting
organizational performance in a dynamic and competitive environment (Acur et
al.,2010). These resources are used to support firms in the production of better products
and services in order to satisfy their customers’ needs. These resources have four
characteristics. They are rare, valuable, have few substitutes and are not easily imitable
(Njuguna, 2014) .

2.3.4 Intellectual Capital Theory

Intellectual capital theory is a new prominent theory that has not only challenged the
large attention, but already considerably promises the increase of business results in the
future. The theory is based on the fact that tangible assets (land, buildings, equipment
and money) of today’s leading companies around the world have less value than
intangible assets, which has not been quoted in their business balances. Theory is
founded on the conviction that the company wealth is based on the human capital,
structural capital and consumer capital. The value creation occurs when one type of
capital turns into another. The value has been created whenever the human ability
(human capital) creates new business processes (structural capital) which results in
better services for consumers and increases their loyalty (consumer capital) (Njuguna,
2014).

In this study, the theory will help in elaborating the intellectual capital and its role in
the performance of the organization.

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2.4 Definition and Components of Intellectual Capital

2.4.1 Definition of Intellectual Capital and Difficulties Incurred by Defining the

concept

An accurate and acceptable definition of intellectual capital will facilitate its method,
its strategic use and naturally its measurement to a large extent. According to Engstrom
et al., (2003), there is no iniform definition of intellectual capital. But the definions are
not significantly different among the researchers. Most of the definitions basically
contain the same key words: knowledge, skills, know-how, experience, intangible
assets, information, processes, and value creation. For example, intellectual capital is
defined by Edvinson and Sullivan (1996) as knowledge that can be converted into
value. According to them, this definion is very board, encompassing inventions, ideas,
general knowledge, designs, computer programs, data processes, and publications.
Edvinsson and Malone (1997) define intellectual capital as “ the possession of the
knowledge, applied experience, organizational technology, customer relationship and
professional skills that provide a company with a competitive edge in the market”.

In this context, the definition that is mostly referred to in literature is the definition
made by Stewart (1997) who made the greatest contribution to the creation and
development of the concept of intellectual capital. According to Stewart, intellectual
capital is: “intellectual material that can be put in use in order to create prosperity. In
other words, “it is knowledge, information, intellectual property and experience”.

According to Sullivan (1998) who contributed greatly to the discussion of the

intellectual capital concept in scientific platforms, it consists of two components. The
human capital and intellectual assets are these components. Sullivan’s distinction was
based on the value of covered and explict knowledge. The value created by knowledge
within the mind of human being and shared on a limited basis is human capital; the
value created by open – coded knowledge is intellectual assets. Those under the legal
protection of intellectual assets (intellectual property) are the assets that belong to the
intellectual assets.

The International Accounting Standards Committee (IASC) defined intellectual capital

as intangible assets and the integrity of trademarks, brands, computer software, licenses,

14
copyrights, patents, concession agreements, service and production rights, prototypes
and formulas (Johanson, 1999).

The concept of intellectual capital is comparable to the concept of goodwill in

accounting. The dictionary definition of goodwill is the difference between the
purchase price and the sum of the fair value of the net assets of the purchased company.
Goodwill can only be recognized if an entity has acquired another entity, as goodwill
can not be purchased or sold as a separate item. Goodwill can only be interpreted as a
part of the intellectual capital or an appraisement of intellectual capital. The main
difference between them is that a selling entity’s goodwill is calculated. However
intellectual capital is calculated for an operating entity. Intellectual capital has a boader
framework than goodwill.

2.4.2 Components of Intellectual Capital

It cannot be argued that there is a unanimous opinion on the establishment of the

elements of intellectual capital. However, it can be argued that there are certain
elements on which agreement has been reached. Human and structural capital are the
most generally agreed points.

Researchers also have categorized all of an organization’s non-physical assets and

resources into several components. Popular elements include human capital (HC),
structural capital (SC) and relation or customer capital (CC). Human capital includes
the knowledge and efficiency that employees take with them when they leave the
organization. It encompasses the knowledge, skills, experience and abilities of people.
From the organizational perspective structural capital includes all non-human resources
of knowledge such as, databases, organizational charts, executive instructions of the
processes, strategies, administrative programs, in other words, the content of such
issues is much more higher than its material value (Roos et al.,1997) . Relation capital
comprises all resources related to the external relationships of the company with
customers, suppliers or other stakeholders. As a result, relational capital is the
knowledge that is embedded in the relationships with any stakeholder that affects the
life of the organization.

The activity of these three components in harmony will develop creativity, openness
towards novelties, cooperation and feedback within the corporation. When this fact was

15
recognised, it became necessary that the intellectual capital within the firm is unveiled,
revaluated, balanced and identified and the company should develop its value-creating
talents using all these.

2.5 Intellectual Capital and Financial Performance

2.5.1 The Value Added Intellectual Capital

VAIC is an analytical procedure designed to enable management, shareholders and

other relevant stakeholders to effectively monitor and evaluate the efficiency of Value
Added (VA) by the company's total resources and each major resource component
(Kurfi et al.,2017). Previous research on intellectual capital used the Value Added
Intellectual Coefficient (VAIC) developed by Ante Pulic in 1998 as measurement of
Intellectual Capital performance. Public (1998)also come out with a result that indicates
the Value Added Intellectual Coefficient (VAIC) theory as the approach to measure
how much and how efficiently IC and capital employed create value based on the
relationship between three main components: (1) capital employed; (2) human capital;
and (3) structural capital. This is agreed by Saengchan (2007), as the study aimed at
investigating the Value Added Intellectual Coefficient (VAIC) of public, which
includes human capital (HC), structural capital (SC) and physical capital (CA) as the
measure of the efficiency of capital employed and its impact on the financial
performance of companies.

2.5.1.1 VAIC and Financial Performance

Although, there has been an ongoing debate regarding VAIC components improving
the performance of financial institutions, there is a wide range of studies investigating
the impact of intellectual capital on the financial performance of firms as measured by
the VAIC model. While some of these studies (Gan & Saleh, 2008; Tan et al., 2007;
Chen et al.,2005) suggest that impact of intellectual capital on the financial
performance of firms is positive, others (Chan, 2009; Ghosh & Mondal, 2009) fail to
provide adequate evidence of this positive relationship. some scholars documented
negavitive relationship between intellectual capital and financial performance (Kamath,
2008; Joshi et al.,2013). Some studies (Goh, 2005; Mondal & Ghosh, 2012) suggest
that HCE is the most important component of VAIC that has a positive impact on

16
financial performance; while others ( Al-Musali & Ismail, 2014; Ting & Lean, 2009)
says that CEE has a positive effect on performance.

2.5.2 Human Capital Efficiency (HCE)

Human capital comprises the skills and knowledge of employees that can be further
improved with the aid of training. The experience that can be gained through training
programmes is another dimention of human capital. Human capital is the basis of
intellectual capital and basic component for researching about intellectual capital (Chen
et al., 2005). Human capital is employee-dependent, such as employees’competence,
commitment, motivation and loyalty. Although human capital is recognized as being
the heart of creating intellectual capital, a distinctive feature of human capital is that it
may disappear as employees leave (Bontis, 2001). According to (Rastogi, 2000) as cited
by Stiles and Kulvisaechana the concept and view point of human capital stems from
the fact that there is no substitute for knowledge and learning, creativity and innovation,
skills and capabilities and that they need to be relentlessly pursued and focused on the
firm's environmental context and competitive logic. Nielsen et al (2006) submit that
human resources capital is the core of intellectual capital components and that it
includes skilled staff, knowledge and management philosophy the company's
performance has been affected.

Human capital is important since it is the source of novelties and discoveries. Therefore,
the competencies of employees who are in the status of producers of knowledge, their
analytical and conceptual thinking skills, harmony with team work, creativity, problem-
solving skills, adaptability to changes, ability to use initiatives, self-confidence,
education levels, occupational competencies, and the added value they create by sharing
the information they possess shall proportionally increase the value of the human
capital .

Sub components of human capital can be identified as know-how, training, and features
specified to business, business assessment, knowledge related to work, competition
related to work, power of entrepreneurship, innovation and ability to understand before
and after the process, changeability. The power of human capital possessed by
companies is expressed by the knowledge of the employees, the type of the employees
owned by the companies and the speed of sharing of the created knowledge (Edvinson
& Sullivan, 1996).

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2.5.2.1 Human capital and financial performance

Financial performance in relation to human capital represent significant actions or

achievements which accrue to an enterprise as a result human capital measurement and
application. The traditional monetary bookkeeping is unable to look at the firm’s real
value if it measures only physical assets (Lina, 2014). Previous studies confirm that HC
maks value for the organization. For example, the investigation of Gan and Saleh (2008)
examined the relationship between HC and firm execution and HC had a significant
impact on the firm’s profitability and productivity.In the same vein, the study of Al-
Musali and Ismail (2014) proved an HC and its effect on financial performance of Saudi
Arabian banks where they revealed that HC was positively related to the financial
performance of banks. Chen et al. (2005) also found that HC had a significant impact
on profitability.

2.5.3 Structural Capital Efficiency (SCE)

Structural capital (SC) is defined as the knowledge that remains within the firm. It
includes organizational routines, procedures, systems, cultures and databases.
Examples include organizational flexibility, a documentation service, the existence of
a knowledge centre, the general use of information technologies and organizational
learning capacity. Muhammad and Ismail, (2009) opined that structural capital was
created over a period of time as a competitive intelligence, formulas, information
system, patents, policies and other products or systems. Internal structural capital
consists of internally developed IC, capturing the effectiveness of the policies and
processes of the firm, the positive nature of the working environment and the innovation
produced by the research and development teams of the firm (Petty & Guthrie, 2000).
Therefore structural capital contains items such as strategy, patents and brand names.

Belkaoui (2002),identified structural capital as organizational knowledge in terms of

technologies, inventions, data, publications, stratergy/culture, structure/systems,
organizational routines and procedures. Furthermore, Roos et al., (1997) argues that
structural capital is “ what remains in the company when employees go home for the
night” and states that its certain elements can be legally protected in the form of patents
and trademarks.

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2.5.3.1 Structural Capital and financial Performance

Structural capital is more permanent assets that remain when intellectual assets arising
out of employees, customers and strategic partnerships are ignored. Bontis (2000)
conducted a study on IC and business performance, and found that IC had a positive
relationship with business execution regardless of industry. Maditinos et al., (2010)
conducted another study to confirm findings of Bontis (2000) , the findings revealed a
positive relationship between structural capital and firm performance. In his study,
Appuhami (2007) has found a positive relationship between structural capital and firm
performance.

2.5.4 Capital Employed Efficiency (CEE)

Capital employed, which speaks of the value of assets that add to the capacity of the
organization to generate revenue, also known as operating assets. On the other hand,
capital employed can be defined as total capital in fixed and current assets of a
company. It reflects the potential an organization has due to ex-firm intangibles (
Bontis, 1999) and describe the value of relationships with suppliers, allies and
customers are classified into the forms of brand equity and customer loyalty (Stewart,
1997). He submits that brand equity defines a quality promise for which a customer
agrees to pay a premium price and brand value is financially measurable while customer
loyalty accounts for a customer base that can be measured and depicted at a premium
price. It is the knowledge embedded in relationships with customers, suppliers, industry
associations or any other stakeholder that influence the organization‟s life (Edvinsson
& Malone, 1997).

2.5.4.1 Capital Employed and Financial Performance

Capital utilized is regarded as the strongest predictor of execution (Choudhury, 2010).

Accordingly, Lina (2014) opined that a strong linkage between capital utilized backings
that information tied up in relationship between representatives, customers, suppliers,
cooperation accomplices and so forth tends to prompt process and create developments,
better critical thinking that tends to increase the efficiency of generation and
administration of conveyances and, in addition, customer satisfaction. Appuhami and
Bhuyan (2015) have also built a positive relationship between capital employed and
capital gains on the Thai stock market shares of listed companies. Additionally,

19
physical capital employed efficiency has been found to have a significant positive
impact on organizational financial performance (Chen et al., 2005). Although many
studies have found the relationship between capital employed and business
performance, the result is mixed and inconclusive.

2.6 Financial Performance

Financial performance is a subjective measure of how well a firm can use assets from
its primary business mode and generate revenues. The term is also used as a general
measure of the overall financial health of a firm over a given period of time. According
to Business Dictionary, financial performance is a subjective measure of how well a
firm can use assets from its primary mode of business and generate revenues. So,
financial performance simply reflects a broad scope than the profitability of a firm.
Financial performance is an extent to which a company financial health over a period
of time is measured according to Naz and Naqui. In other word, it is a financial action
used in order to generate higher sales, profitability and worth of a business entity for its
shareholders through managing its current and non-current assets, financing, equity,
revenue and expenses. Its main purpose is to provide complete to the point information
to shareholders and stakeholders to encourage them in making decisions. It can be used
to evaluate similar companies from the same industry or to compare industries in
aggregation (Naz & Naqvi, 2016).

Also in their study Kennedy and McMullen describes that financial performance is
“scientific evaluation of profitability and financial strength of any business concern”
(Kennedy & McMullen, 1973) Financial statement analysis attemt to unveil the
meaning and significance of the items composed in profit and loss account and balance
sheet. It assists the management in the formation of sound operating and financial
policies. There are many different ways to measure financial performance, but all
measures should be taken in aggregation. Line items such as revenue from operations,
operating income or cash flow from operations can be used, as well as total unit sales.
Furthermore, the analyst or investor may wish to look deeper into financial statements
and seek out margin growth rates or any declining debt (www. Business
Dictionary.com, 2018).

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According to Tsuma and Gichinga (2016), financial performance measures are intended
to evaluate the effectiveness and efficiency by which organizations use financial and
physical capital to create value for shareholders. Much of what we know about the
determinants of industry, firm and business financial performance is in the form of
measures of individual relationship in models linking various hypothesized causal
variables to various performance measures. The causal variables usully describe some
combination of elements of environment, firm strategy and organizational
characteristics. This work is found in several disciplines including
economics.management, business policy, finance, accounting, management science,
international business, sociology and marketing.

According to Laura and Corina, 2012 the primary objective of financial managemnt at
the level of economic entities is represented by the maximization of their value, no
matter what size they have. From this aspect, tracking the efficiency developed in
companies requires constant monitering of the financial performance. Naz and Naqvi
(2016) showed that financial performance principally reflects business sector outcomes
and results that shows overall financial health of the sector over a specific period of
time. It indicates that how well an entity is utilizing its resources to maximize the
shareholders wealth and profitability. Although a complete evaluation of a firm’s
financial performance take into account many other different kind of measures but most
common performance measurement used in the field of finance and statistical inference
in financial ratios.

2.6.1 Ratios

In order to evaluate financial condition and performance of a firm, the financial analyst
needs certain tools to be applied on various financial aspects. One of the widely used
and powerful tools is ratio or index. Ratios express the numerical relationship between
two or more things. Any financial ratio/s might be useful and meaningful if it compare
with other related meaningful information, either a present or past similar indicator/s
for the same firm or similar firms in the same industry. Although financial ratios are
considered useful and practical in financial analysis, these financial ratios shoul be
interpreted and analyzed in a rational manner with caution taken into consideration the
limitations of these financial ratios in order to get the expected meaningful result from
it.

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There are many financial ratios used by accountants and financial analysts, and most of
these financial ratios can be classified in to several categories according to their use in
financial analysis. Among them profitability ratios are an indicator for the firm’s overall
efficiency. It’s usually used as a measure for earnings generated by the company during
a period of time based on its level of sales, assets, capital employed, net worth and
earning per share. Profitability ratios measures earning capacity of the firm, and it is
considered as an indicator for its frowth, success and control. Creditors for example,
are also interested in profitability ratios since they indicate the company’s capability to
meet interest obligations. Shareholders also are interested in profitability. It will
indicate the progress and the rate of return on their investments. The ratios of the return
on assets (ROA) and the return on equity (ROE) are the most used profitability ratios
in the analysis (Kabajeh et al., 2012).

2.6.1.1 Return on Assets Ratio

Return on Assets (ROA) is an indicator of how profitable a company is relative to its

total assets. ROA gives an idea as to how efficient management is at using its assets to
generate earnings. Calculated by dividing a company’s annual earnings by its total
assets, ROA is displayed as a percentage. Sometimes this referred to as “ Return on
Investment” (ROI).

ROA tells you what earning were generated from invested capital (assets). ROA for
public companies can vary substantially and will be highly dependent on the industry.
This is why when using ROA as a comparative measure, it is best to compare it against
a company’s previous ROA number or the ROA of a similar company.

The assets of the company are comprised of both debt and equity. Both of these types
of financing are used to fund the operations of the company. Fraser (2004) states return
on total assets that measure the overall efficiency of the firm in managing its total
investment in assets and in generating return to shareholders. Return on total assets
indicates the amount of profit earned relative to the level of investment in total assets.
Otherwise ROA is determined by net profit after tax before interest divided by total
assets and multiplied by 100.The ROA figure gives investor an idea of how effectively
the company is coverting the money it has to invest into net income. The higher the

22
ROA number, the better, because the company is earning more money on less
investment.

2.7 Significance of Measuring Intellectual Capital

With the continuing pressure of globalization and the highly competitive nature of the
international market today, the importance of performance measurement is increasing.
Performance measurement is a tool primarily designed to improve decision-making as
it allow user to examine the capabilities, progress and success of an organization or
industry over time, either against the same region or of different regions (Stewart,
1997). In traditional accounting measures, assets primarily concern financial and
physical capital (Edvinsson & Malone, 1997). IC measurement covers important non-
financial contents, including customer satisfaction, innovation and human capital.
There is a significant difference between the two approaches: IC measurement looks
forward to the future while financial accounting is looking backwards (Sveiby).
However, Bontis (2001) more indepth views, is that IC is a vital resources for strategic
marketing and business management and its quantification has great benefit as an
internal management tool rather than an external communication to investors.

2.8 The Banking Sector in Sri Lanka

In any country, the banking sector plays a key role in setting the economy in motion
and in its development process. Banks promote growth and success of business in both
developed and developing countries. According to Kamath (2008), the banking sector
is an ideal area for IC research because the banking sector is “intellectually” intensive
and its employees are (Intellectually) more homogeneous than those in other economic
sectors.

Sri Lankan banking sector is monitored by the Bank Supervision Department of the
Central Bank of Sri Lanka under the Banking Act, Monetory law Act and Exchange
Control Act. Sri Lankan financial system, historically, has been characterized as
one of the financial systems having a pre-dominant banking sector. The Central Bank
of Sri Lanka (CBSL) acts as the sole regulator for the banking system in Sri Lanka. Sri
Lanka has a fairly well-diversified banking system, which includes the Central Bank of
Sri Lanka (CBSL), two large state-owned commercial banks (Ceylon Bank and
People’s Bank), eleven private domestic commercial banks, thirteen foreign banks, a

23
national savings bank, a regional development bank, two housing banks, and three
licensed specialized banks. Citibank N.A. is the only U.S. bank operating in Sri Lanka.
The domestic commercial banks operate branches throughout the island. All
commercial banks operate foreign currency banking units and conduct off‑shore
business and finance projects approved by the BOI. The Central Bank is responsible
for regulation and supervision of Sri Lanka's banking system.

Totally there are 26 Licensed commercial banks (LCBs) including 13 branches of

foreign banks , and 7 Licensed Specialised Banks (LSBs) by end of 2019. All
commercial banks operate foreign currency banking units and conduct off‑shore
business and finance projects approved by the BOI. The Central Bank is responsible for
regulation and supervision of Sri Lanka's banking system. The legal framework consists
of the Monetary Law Act and the Banking Act.

Moreover, the two state-owned development oriented financial institutions (i.e.

Housing Development and Finance Corporation and State Mortgage and
Investment Bank) mainly deal with long-term development finance needs that are not
fulfilled by commercial banks and other long-term credit requirements for
agricultural, housing and construction sectors. State-owned National Savings Bank
(NSB), the largest LSB, is mainly concerned with servings of small scale savers.
NSB is one of the main tools of the government in implementing its interest rate
policy, whereas major part of the funds mobilized by NSB is kept in government
securities.

Although some foreign banks were already established before independence was
achieved in 1948, most large foreign banks, such as the Hong Kong and Shanghai
Banking Corporation (HSBC), entered into the market in the early 1990s with the shift
in government policies that provided equal opportunities for private sector as well as
for state sector-owned banks. The CBSL is the regulator of both commercial banks and
specialized banks. Its role involves conducting on-site and off-site supervision of these
institutions.

2.9 Review of Empirical Studies

The first empirical study of intellectual capital was conducted by Public (1998), which
examine the impact of IC on firm performance. Public (1998) has developed a new

24
method using accounting tools to measure IC and financial performance of companies.
It has opened the way for researchers from many countries to measure IC efficiency in
banking and other sectors (Abdulsalam et al.,2011). Bontis, (1998) shed some light on
the development of some terms and measurement models relating to IC and its effect
on firm performance. Bontis et al., (2000) studied the accounting effects of IC
components (HC, SC and relational capital) on the performance of Malaysian service
and non-service companies. They have shown that HC and relational capital have a
positive impact on the service sector.

Meressa, (2016), empirically examine the determinants of intellectual capital of

Ethiopia banks by considering bank age, bank size, investment in information and
technology, bank risk, profitability, ratio of staff cost to total income and bank
concentration as an explanatory variables. With arrangement of secondary data, short
panel, quantitative approach and deductive method of inquiry, the fixed effect linear
regression analysis revealed that bank profitability, ratio of staff cost, investment in
information and technology and bank concentration have statistically significant
positive effect on intellectual capital performance. In addition, bank risk and age have
significant negative effect on intellectual capital performance. Furthermore, the study
found that, bank size has statistically insignificant negative relationship with
intellectual capital performance.

Njuguna, (2014) aimed to determine how intellectual capital affects the Kenyan state
corporations’ financial performance. This study followed a descriptive research design
using primary data obtained by self-administered questionnaires and using a technique
of multiple regression analysis. The findings of the study indicate that the company
culture which contains valuable practices of conducting business is the major benefit
resulting from organizational intellectual capital. The findings also indicated that
employees are highly skilled in their jobs as the major way of human capital to improve
the performance of the firm.

Al-Musali and Ismail, (2014) examines intellectual capital performance of listed banks
in Saudi Arabia using VAIC methodology and investigates the impact of IC on financial
performance. The results of a sample survey of all listed banks during 2008 and 2010,
found that IC performance of Saudi banks is low and it is positively associated with
bank financial performance indicators. However, when VAIC is divided into its

25
components, the relationship between the components and the financial performance
indicators of the bank vary.

Chen et al., (2005) examined experimentally the relationship between the market value
of intellectual capital and the financial performance of accepted companies in the
Taiwan share market during 1992 and 2002, tests results of hypothesis using multiple
linear regression showed that intellectual capital has a positive impact on market value
and financial performance of the company and can be a measure of future performance
of the company.

Appuhami (2007) examined the relationship between intellectual capital and profit of
each share in 33 companies of financial providence industry, banking and Thailand
exchange insurance in 2005. This finding illustrate the ability of intellectual capital for
creating capital profit and therefore absorbing investors in the market.

2.10 Summary

This chapter is generally consisted of several sections with sub sections to clearly
clarify the major and basic concepts and theories related to the study. It is enriched and
highlights the finding of number of previous research studies around the world. Most
of these studies concentrated on different segments but with little attention to the
banking sector in Sri Lanka.

26
CHAPTER THREE

CONCEPTUALIZATION AND OPERATIONALIZATION

3.1 Introduction

This chapter covers the following areas such as conceptualization, operationalization

and summary. This empirical study is concerned with the impact of intellectual capital
on financial performance of banking sector in Sri Lanka.

This chapter describe the conceptualization and operationalization of variables such as

intellectual capital and financial performance. Conceptualization is the process of
taking a constructs or concepts and refining it by giving it a conceptual or theoretical
definition. It represents the clear conceptual thinking for the research.

Operationalization represents making the concepts more accurate by relating it to

indicators. Indicators is the operationalization facilitate to understand the concept of the
research study planning. In this chapter concepts and the variables such as intellectual
capital and financial performance are conceptualized and operationalized with several
references of definitions given by scholars in literature. The formation of the instrument
for measuring the study variables was developed here. The way of applying those
developed instrument through operationalization to measure the study variables to
attain objectives of the study as per conceptualization was discussed in the next chapter.

3.2 Conceptualization

Conceptualization is the ability to invest or formulate an idea or concept. The

conceptualization phase of a project occurs in the initial design activity when the scope
of the project is drafted and a list of the desired design features and requirements is
created. According to educational researcher Smyth (2014), conceptual frameworks are
structured from a set of broad ideas and theories that help a researcher to properly
identify the problem they are looking at, frame their questions and find suitable
literature.

In this study, conceptualization of the research focuses to intellectual capital and

financial performance of licensed banks in Sri Lanka. According to this research mainly
consists of two variables namely intellectual capital and financial performance of

27
licensed banks in Sri Lanka. Independent variable is intellectual capital and dependent
variable is the financial performance. Furthermore, Public’s (2000) Value Added
Intellectual Capital (VAIC) approach is used to determine the level and the performance
intellectual capital of the Sri Lankan bank. Return on Assets (ROA) was used to
measure the financial performance. Figure 3.1 shows the conceptual framework
developed by the researcher for this study.

Human Capital
Efficiency (HCE)

Structural Capital Financial Performance

Efficiency (SCE) (Return on Asset (ROA))

Capital Employed
Efficiency (CEE)

Figure 3. 1 Conceptual Framework

Source: (Aruppala et al., 2015)

3.3 Independent Variables

The VAIC methodology developed by Ante Public (1998) forms the basis for the
measurement of the independent variable in this study. In his words, VAIC is an
analytical procedure designed to enable management, shareholders and other relevant
stakeholders to effectively monitor and evaluate the efficiency of Value Added (VA)
through the total resources of a company and each major resource component.
Following VAIC and its three components, HCE, SCE and CEE represent the
independent variables. As mentioned earlier, VAIC measures the IC of firms and
provide information about the value creation efficiency of tangible and intangible assets
within a firm (Tan et al., 2008).

The equation below formalizes the VAIC relationship algebraically;

VAIC = HCE + SCE + CEE

Where;

28
VAIC = Value added intellectual coefficient of the banks

HCE = Human capital efficiency coefficient of the banks

SCE = Structural capital efficiency coefficient of the banks

CEE = Capital employed efficiency coefficient of the banks

In order to calculate VAIC, the ability of a company to create value added (VA) to all
stakeholders must first be calculated. In its simplest form VA is the difference between
output and input. Output represents the net sales revenues and input contains all the
expenses incurred in earning the sales revenues except labour costs which are
considered to be a value creating entity (Tan et al.,2008). The VA is also defined as the
net value created by firms during the year (Chen et al.,2005), and can be expressed as
follows:

VA= Output- Input = NI+ T+ I+ D+ A +W

Where; VA (value added) for the banks are computed as the sum of Net income after
tax (NI), Tax expense (T), Interest expense (I), Depreciation (D), Amortization(A) and
Employee wages and salaries(W)

3.3.1 Human Capital Efficiency (HCE)

Human capital (HC) comprises the skills, experiences, productivity, knowledge and fit
of employees at workplace. Within the VAIC model, HC is defines as salaries and
wages (Public, 1998). Therefore, HCE is calculated as the ratio of total VA divided by
the total salary and wages spent by the firm on it employees. It can be expressed as
follows:

HCE = VA/HC

where:

HCE - Human capital efficiency coefficient of the banks,

VA - Value added of the banks and

HC – Total salary and wage cost of the banks.

29
If salaries are low and VA is high, the firm using its HC efficiently. If VA is low in
relation to salaries, the firm’s HC is not being utilized efficiently and HCE will be low.
Higher HCE results from effective utilization of HC to add value through operating
profit.

3.3.2 Structural Capital Efficiency (SCE)

Structural capital (SC) is defined as the knowledge that remains within the firm. It
includes organizational routines, procedures, systems, cultures and databases.
Muhammad and Ismail, (2009) opined that structural capital was created over a period
of time as a competitive intelligence, formulas, information system, patents, policies
and other products or systems.

In order to calculate SCE, it is first necessary to determine the value of the firm’s
Structural Capital (SC). Public (1998) proposes the total VA of a company less its
human capital is a suitable proxy of the SC of a firm. That is:

SC = VA – HC

Where;

SC = Structural capital of the banks

VA = VA of the banks and

HC = Total salary and wage expenditure of the banks.

Thus, VA is influenced by the efficiency of HC and SC. SC is dependent upon HC, and
greater HC translates into improved internal structures. HC and SC are inversely related
(Tan et al., 2008). This results in SC decreasing as HC increases, which is logically
inconsistent with the theoretical definition of SC. To fix this, Public (1998) calculates
SCE as;

SCE = SC / VA

Where; SCE = Structural capital efficiency coefficient of the banks.

30
3.3.3 Capital Employed Efficiency (CEE)

Capital employed can be defined as total capital in fixed and current assets of a
company. It reflects the potential an organization has due to ex-firm and describe the
value of relationships with suppliers, allies and customers are classified into the forms
of brand equity and customer loyalty (Stewart, 1997).

CEE encompasses the efficiency that SCE and HCE are unable to capture. Public
(1998) argues that IC cannot create value on its own, and so it must be combined with
the Capital (both physical and financial) Employed (CE). CE represents the book value
of total tangible assets. Thus CE is calculated as total assets minus intangible assets and
CEE is defined as:

CEE = VA / CE

Where; CEE = Capital employed efficiency coefficient of the banks.

CE = Book value of the net assets of the banks.

3.4 Financial Performance

Financial performance is a subjective measure of how well an organization can use

assets from its primary mode of business and generate revenues. The term is also used
as a general measure of the overall financial health of a company over a period. It
indicates that how well an entity is utilizing its resources to maximize the wealth and
profitability of its shareholders. Although a complete evaluation of the financial
performance of a firm take into account many other different types of measures but
most common performance measurement used in the field of finance and statistical
inference is financial ratios. To measure the financial performance different categories
of ratios are used. Ratios are generated through financial statement analysis and
interpreted to evaluate the financial performance. For the study purpose one ratio is
used: Return on Assets (ROA)

3.4.1 Return on Assets (ROA)

Return on assets is an indicator of how profitable a company is relative to its total assets.
ROA gives an idea to a manager, investor, or analyst as to how efficient a company’s

31
management is at using its assets to generate earnings. ROA is the key measure of bank
profitability. The greater the ROA, a firm is more efficiency in using its assets. This is
one of the commonly used ratios to measure firm’s financial performance. ROA has
been calculated as follows:

Net Profit after tax before interest

ROA = * 100
Total assets

3.5 Operationalization

The process of operationalization is specifying the procedure that will be employed to

measure the concepts of the study. It always encompasses measurement.
Operationalization is the process of taking a conceptual definition and working it more
precise by linking it to one or more specific, concrete indicators or operational
definitions. These are usually things with numbers in them that reflect empirical or
observable reality. The outcomes of operationalization will be the indicators that
represent the concepts. The Table 3.1 shows the operationalization of the study
variables.

Table 3. 1 Operationalization

Variable Variables Notion Ratio Measurement

Category

Human Value Added Calculation of ratio by

Capital reference to annual
HCE
Efficiency Total Salary And Wage report of banks
Cost

Structural Structural Capital Calculation of ratio by

Independent
Capital SCE reference to annual
Variable
Efficiency Value Added report of banks

32
Capital Calculation of ratio by
Value Added
Employed reference to annual
CEE
Efficiency Capital Employed report of banks

Dependent Return Net Profit After Tax Calculation of ratio by

Variable On Assets Before Interest *100 reference to annual
ROA report of banks
Total Assets

Source: (Nik Muhammad & Amin Ismail, 2009), (Clarke et al.,2010), (Chen et al.,
2005)

3.6 Summary

The empirical study is concerned with the impact of intellectual capital on financial
performance of banking sector in Sri Lanka. Chapter provides the clear understanding
about the conceptual framework and operationalization.

The model represents the key variables that are associated with the intellectual capital
and financial performance. In each of the measurements taking into consideration using
annual financial statements. The conceptual framework and operationalization draft it
can help to evaluate the impact of intellectual capital on financial performance.

33
CHAPTER FOUR

METHODOLOGY

4.1 Introduction

This chapter provides guidelines to do the research systematically. A procedure

designed to the extent to which it is planned and evaluated before conducting the
inquiry and the extent to which the method for making decisions evaluated is called as
methodology. This chapter attributes how the research has planned to conduct to
understand the impact of intellectual capital on the financial performance of banking
sector in Sri Lanka.

This methodology chapter of the research study mainly focuses on discussing those
research methods and techniques has planned to use by the researcher while justifying
the reasons for use those methods. As a very important element of a research study,
data collection method, tools and the sampling techniques are discussed after the
research design. Then the researcher describes the data analyzing methods that will be
used to find out the answers to the research questions. Data presentation methods are
also explained. Generally, this chapter includes these sections as study setting, design,
method of survey, data collection, data analysis, data measurement and data evaluation
for this study.

4.2 Study Setting, Study Design, and Method of Study

The research study is focused on explaining the impact of intellectual capital on the
financial performance of the banking sector in Sri Lanka. The researcher wished to find
out answers for three questions through the study by analyzing the VAIC of the banking
sector over past 5 years and its impact on financial performance of the banking sector.
To analyze the impact of intellectual capital on the financial performance, two variables
are to be used. Each variable is defined by its appropriate indicators. The research has
designed to conduct the study for banking industry. In this empirical study quantitative
method and secondary data sources are used.

34
4.3 Population of the Study and Sample

People that the researcher want to find out about are collectively known as the study
population or simply population; the size of the population is usually denoted by the
letter N. It could be a group of people living in an area, employees of an organization,
a community, a group of people with special issues, etc. (Kumar, 2014).

This study conducts on licensed banks in Sri Lanka that currently operate a total of
thirty-three banks. The sample was selected from the population. According to the
Central Bank annual report there are 26 licensed commercial banks and 7 licensed
specialized banks in Sri Lanka (Sri Lanka Banking Report - June 2018).

For this research 20 banks were taken as sample to conduct this research. When
determining the sample mainly considered about all domestic commercial banks and
selected foreign commercial banks and licensed specialized banks. Because of some
foreign commercial banks provide their annual reports in foreign currency. Most of the
foreign banks have not clear and details annual reports of Sri Lankan branches that is
one reason to selected 13 domestic banks, 3 foreign banks and 4 licensed specialized
banks as a sample.

Those 20 banks are; Amana Bank PLC, Bank of Ceylon, Cargills Bank Ltd,
Commercial Bank of Ceylon PLC, DFCC Bank, Habib Bank Ltd, Hatton National Bank
PLC, MCB Bank, National Development Bank PLC, Nation Trust Bank PLC, Pan Asia
Banking Corporation PLC, People’s Bank, Sampath Bank PLC, Public Bank Berhad,
Seylan Bank PLC and Union Bank of Colombo PLC under the licensed commercial
banks. Moreover, Housing Development Finance Corporation Bank of Sri Lanka,
National Saving Bank, Regional Development Bank and Sanasa Development Bank
PLC are selected under the licensed specialized banks.

4.4 Method of Data Collection

In order to meet the objectives of the study, data were collected from secondary sources.
Secondary data is data that have been previously collected from some other project
rather than the one at hand but found useful by the researcher. Mainly data is collected
from the web site of Colombo Stock Exchange. In this study secondary data refers the
financial reports of license banks under listed under Colombo Stock Exchange within

35
the period of 2014 – 2018. Further scholarly articles from the academic journals,
relevant text books on the subject and the internet search engines were also used.
According to the research questions of the study data was extracted from the financial
reports of used banks.

4.5 Data Presentation

All the data are presenting yearly basis in five years, from 2014 to 2018. The data can
easily understand for interpretation, if such it is presented graphically or pictorially.
Therefore, the collected data can be presented by using the tables with connecting to
the objectives of the study.

4.6 Methods of Measurements

The variables in the research model were measured through calculation of average
ratios from financial statements, annual reports and company records of the licensed
banks for the period of 2014 to 2018.

4.7 Methods of Data Analysis and Evaluation

The quantitative approach is employed to find out the results of the research study.
Quantitative approach is more suitable for the study when using numerical and
secondary data. This study used secondary data extracted from the audited annual
reports of the sample banks for the five-year period 2014 to 2018 which provided a
panel of 100. In relation to this, panel data is suitable for longitudinal analysis because
it provides both the time and cross-sections dimensions (Baltagi et al., 2005). The data
was analyzed of the banks by employing descriptive statistics, correlation and
regression analysis. To determine the suitability of the panel data for statistical analysis,
various tests were carried out on the data collected. The tests are panel unit root test,
diagnostic tests (heteroscedasticity and multicollinearity), Breusch Pagan LM test and
Hausman test.

Ultimate purpose of the regression and correlation is testing the hypothesis, make
conclusion on the study and give appropriate recommendation and advices to the
management of the banks.

36
4.7.1 Descriptive Analysis

Univariate analysis is the technique of comparing and analyzing the dependency of a

single predictor and a response variable. And also Univariate analysis is thought to be
one of the simplest forms of data analysis as it does not deal with causes or
relationships, like a regression would. Univariate Analysis is done by using descriptive
statistics. These statistics include measures such as mean, standard deviation, maximum
and minimum statistics. This analysis is to be used intellectual capital, ROA both
dependent and independent variables for banking sector in Sri Lanka. The arithmetic
mean and standard deviation are the most commonly used measures the level and
variation of the variables. Mean is the arithmetic average, and it is calculate dividing
the total value by total number of items. It usually denoted by the x. The standard
deviation is an absolute measure if dispersion and it is used to indicate dispersion of
variables.

4.7.2. Unit root test

Unit root test has become widely popular over past few years to test whether the data
are stationary or not. If the time series is not stationary, the result will have no economic
meaning. Non-stationary data will make the result meaningless or invalid and generate
the problem of research. Before running our linear regression and Co-integration test,
we need to test for Unit root and make sure that we are dealing with stationary data
before using it. When dealing with time series data, it is important to examine the
existence of unit root in the data series. Hypotheses are as follows,

H0 = Panels are non-stationary

H1 = Panels are stationary

There are numerous unit root tests available and the most popular among them is Levin-
Lin-Chu unit root test. Levin-Lin-Chu unit root test applied on all dependent and
independent variables in this research to test the stationary of the data series. The null
hypothesis for LLC is that the series is non-stationary. According to the results show
P>0.05, it means series is non stationary.

37
By looking at the results, it appears that the p-values for all the included variables in
our research are greater than the critical value (5%). So we cannot reject the null
hypothesis. It means the variables are non-stationary. It implies that need to take the
first difference to those variables before run the model.

Thus the results of unit root test after first difference all variables became stationary.
All the variables are converted into their natural logarithms to eliminate the potential
heteroscedasticity, if there exists (Faisal et al., (2017); Faisal et al., (2018)).

4.7.3. Correlation Analysis

Correlation is carried out to find out the strength of the relationship between variables.
For the study it is used to identify the strength or weakness of the relationship between
intellectual capital and financial performance of the banking sector in Sri Lanka. For
that two variables are used as independent and dependent variables such as intellectual
capital and financial performance accordingly.

The Pearson correlation coefficient from -1 to +1 is used to explore the degree of

relationship between these variables. The decision criteria regarding correlation
analysis are given in the table below.

Table 4. 1 Decision Criteria

Relationship between variables

Pearson correlation coefficient
+1 Perfect positive relationship
+0.8 to +0.99 Strong positive relationship
+0.4 to +0.79 Moderate positive relationship
+0.1 to +0.39 Weak positive relationship
0 No relationship
-0.1 to -0.39 Weak negative relationship
-0.4 to -0.79 Moderate negative relationship
-0.8 to -0.99 Strong negative relationship
-1 Perfect negative relationship

38
4.7.4. Diagnostic Test

In order to check the adequacy of a chosen model, researchers can apply a range of
diagnostic tests, each of which is designed to detect a particular form of model
inadequacy the correct specification of the model.

The purpose of and diagnostic test is to control accurately control the probability of
wrongly rejecting the null hypothesis, while at the same time ensuring a high
probability of correctly rejecting the null hypothesis.

Therefore, various diagnostic hypotheses are available. Such as,

 Test for Heteroscedasticity

 Test for Autocorrelation
 Test for Multicollinearity
 Test for Normality

4.7.4.1 Test for Heteroscedasticity

The condition of classic linear regression model implies that there should be
homoscedasticity between variables. This means that the variance should be constant
and same. Variance of residuals should be constant otherwise, the condition for
existence of regression, homoscedasticity, would be violated and the data would be
heteroskedastic Brooks, (2008). To check for this, Breusch-Pagan-Godfrey tests were
applied.

The Breusch-pagan tests of the null hypothesis that the error variances are all equal
versus the alternative that the error variance are a multiplicative function of one or more
variables. Hence, following the general null hypothesis of Breusch-pagan tests, the
researcher develops the following hypothesis to check the presence of
heteroscedasticity:

H0 = Homoscedastic error term

H1 = Heteroscedasticity error term

39
4.7.4.2 Test for Autocorrelation

The test for autocorrelation tested from numbers of researches such as Kasman et al.,
(2011); Muneer (2011); and Tai (2005) found that time series data could have high
probability of existence of autocorrelation problem in the residual. The null hypothesis
(H0) will be rejected if the autocorrelation. Hypotheses as follows,

H0: No autocorrelations errors

H1: Autocorrelation errors

4.7.4.3 Test for Multicollinearity

Multicollinearity indicates a linear relationship between explanatory variables which

may cause the regression model biased (Gujarati, 2004). If an independent variable is
an exact linear combination of the other independent variables, then we say the model
suffers from perfect collinearity, and it cannot be estimated by OLS Brooks (2008).
When independent variables are multicollinear, there is overlap or sharing of predictive
power. This may lead to the paradoxical effect, whereby the regression model fits the
data well, but none of the explanatory variables (individually) has a significant impact
in predicting the dependent variable Gujarati, (2004). According to the Gujarati (2004)
the variables considered as highly collinear if the VIF exceeds 10.

4.7.4.4 Test for Normality

Normality test was applied to determine whether a data is well-modelled by a normal

distribution or not, and to compute how likely an underlying random variable is to be
normally distributed. If the residuals are normally distributed, the histogram should be
bell-shaped and the Jarque-Bera statistic would not be significant. This means that the
p-value given at the bottom of the normality test screen should be greater than 0.05 to
support the null hypothesis of presence of normal distribution at the 5% level.
Theoretically, if the test is not significant, then the data are normal, so any value above
0.05 indicates normality. Skewness measures the extent to which a distribution is not
symmetric about its mean value. Kurtosis refers to the “Peakedness” of the distribution.
For a normal distribution the kurtosis value is 3. Kurtosis measures how fat the tails of
the distribution are, the Jarque–Bera test for normality is based on two measures,

40
Skewness and kurtosis. The Jarque-Bera probability statistics P-value is also expected
not to be significant even at 10% significant level Brooks (2008). Normality test
hypothesis are stated as follows,

H0 : Residuals are normally distributed

H1 : Residuals are not normally distributed

Co-integration analysis merely establishes the existence of long-run relationships

among variables but does not fully establish the stability of such relationships especially
in the occurrence of a shock to the system. Therefore, stability test use for it.

4.7.5. Regression Analysis

Most commonly, regression analysis estimates the conditional expectation of the

dependent variable given the independent variable, that is the average value of the
dependent variable when the independent variables are held fixed. In all cases, the
estimation target is a function of the independent variables called the regression
function. In regression analysis, is it also of interest to characterize the variation of the
dependent variable around the regression function, which can be describe by a
probability distribution. Regression analysis is also used to understand which among
the independent variables are related to the dependent variable, and to explore the forms
of these relationship.

The two types of regression analysis are simple regression analysis and multiple
regression analysis. Simple regression analysis allows estimating the relationship
between an independent variable (X) and dependent variable (Y). Multiple regression
analysis concedes estimating the two or more independent variables (Xs) and dependent
variable (Y).

4.7.5.1 Random effect (RE) Vs Fixed effect (FE) model

This study uses a panel data. Panel data are also called longitudinal data or cross-
sectional time-series data. These longitudinal data have “observations on the same units
in several different time periods” (Kennedy, 2008: 281); A panel data set has multiple
entities, each of which has repeated measurements at different time periods. Panel data
may have individual (group) effect, time effect, or both, which are analyzed by fixed

41
effect and/or random effect models. The simplest types of fixed effects models allow
the intercept in the regression model to differ cross-sectionally but not over time, while
all of the slope estimates are fixed both cross-sectionally and over time. The random
effects approach proposes different intercept terms for each entity and again these
intercepts are constant over time, with the relationships between the explanatory and
explained variables assumed to be the same both cross-sectionally and temporally
(Brooks, 2008).

To examine whether individual effects are fixed or random, a Housman specification

test was conducted providing evidence in favor of the REM model Baltagi (2005). The
null hypothesis for this test is that unobservable heterogeneity term is not correlated or
random effect model is appropriate, with the independent variables. If the null
hypothesis is rejected then we employ Fixed Effects Method Brooks, (2008).

The Hausman test hypothesis is

H0= Random effect model is appropriate

H1= Fixed effect model is appropriate

The following model is used to identify the impact of intellectual capital on financial
performance of Sri Lankan listed banks. The study used the accounting proxies (ROA)
to measure the financial performance of listed banks in Sri Lanka. In order to assesses
the impact of each of the VAIC components used in this model. Researcher has obtained
panel data refers to the fact that all the banks have data for all selected years. Panel
regression model is given below.

Financial Performance = f (intellectual capital)

ROA it = β0 + β1 (HCE) it + β2 (SCE) it + β3 (CEE) it + ε it

Where:

ROA = Return on Assets (dependent variable)

β0 = Constant coefficient

β = Regression coefficients for measuring independent variables

42
HCE = Human capital efficiency

SCE = Structural capital efficiency

CEE = Capital employed efficiency

i = Firm

t = Time period

ε = Error component showing unobserved factor

4.8 Hypothesis Testing

Testing of hypothesis is one of the most important aspects of the theory of decision
making. It is usually considered as the principle instrument in the research. Its main
function is to suggest new experiments and observations. The hypothesis may not be
proved absolutely, but in practice it is accepted if it has withstood a critical testing. The
hypothesis of this of this study are based on the propositions that intellectual capital is
directly affecting the financial performance of the banking sector in Sri Lanka. In this
research, the hypothesis testing is done by forming the Alternative Hypothesis (H1),

H1= There is a significant impact of Human Capital Efficiency Coefficient (HCE) on

the Return on Assets (ROA) of Sri Lankan banks.

H2 = There is a significant impact of Structural Capital Efficiency Coefficient (SCE) on

the Return on Assets (ROA) of Sri Lankan banks.

H3= There is a significant impact of Capital Employed Efficiency Coefficient (CEE)

on the Return on Assets (ROA) of Sri Lankan banks.

Table 4. 2 Decision criteria for Hypothesis

Rule Decision

P ≥ 0.05 Do not reject the null hypothesis

P < 0.05 Reject the null hypothesis

43
The p value is the probability of getting a test statistic equal to or more extreme than
the sample result, given that the null hypothesis is true. P value is often referred to as
the observed level of significance.

4.9 Summary

This chapter describe the methodological approaches followed in examining the impact
of intellectual capital on financial performance of listed banks in Sri Lanka. This
chapter primarily deal with the introduction, study setting, study design and method of
study, sampling, method of data collection, measurement, data analysis and evaluation.
STATA (15.0) will be used to analyze the data derived from the secondary sources
using multivariate analysis techniques to find out the answers to the research questions.

44
CHAPTER FIVE

DATA PRESENTATION AND ANALYSIS

5.1 Introduction

The purpose of the data presentation and analysis is to obtain the result by presenting
the statistical data in constructive and meaningful manner. This chapter analyses data
collected from secondary source. Data presentation, analysis and further discussion
which data are collected by the researcher, relating to investigation of the impact of
intellectual capital on financial performance of banking sector in Sri Lanka. In this
study involves data presentation by using tables and figure.

The presented data is analyzed based on statistical techniques such as unit root test and
Diagnostics tests for Multicollinearity, Heteroscedasticity, Autocorrelation and
Normality test using the STATA (15.0) package.

5.2 Data Presentation

This study has conducted by using 20 banks. It covers the five years starting from 2014
to 2018. The selected banks are shown below.

Table 5. 1 Selected Banks

No. of observations
No Name of the bank
(Annual report)

01 Amana Bank PLC 5

02 Bank of Ceylon 5
03 Cargills bank Ltd 5
04 Commercial Bank of Ceylon PLC 5
05 DFCC Bank 5
06 Habib Bank Ltd 5
07 Hatton National Bank PLC 5
08 Housing Development Finance Corporation Bank 5
09 MCB Bank 5

45
10 Nation Trust Bank 5
11 National Development Bank PLC 5
12 National Saving Bank 5
13 Pan Asia Banking Corporation PLC 5
14 People’s Bank 5
15 Public Bank Berhad 5
16 Regional Development Bank 5
17 Sampath Bank PLC 5
18 Sanasa Development Bank PLC 5
19 Seylan Bank PLC 5
20 Union Bank of Colombo PLC 5
Total 100
(Source: Survey Data)

5.3 Data Analysis

Univariate and multivariate analysis were used to analyze the data collected from
secondary source to identify the impact of intellectual capital on financial performance
of the banking sector in Sri Lanka.

5.3.1 Univariate Analysis

Univariate analysis has been done for both dependent and independent variables to
summarize the data and find out the pattern of the data. Statistical software package of
STATA (15.0) was used for this analysis. This includes descriptive analysis such as
minimum, maximum, mean and standard deviation for each variables separately for the
sector for the five years period from 2014 – 2018.

5.3.1.1 Descriptive Analysis

Table 5.2 provides a summary of the descriptive statistics of the dependent and
independent variables for the 20 licensed banks from the year 2014 to 2018 with a total
of 100 observations. The table shows the mean, minimum, maximum, standard
deviation and number of observations of the dependent and independent variables.

46
Table 5. 2 Summary Statistic from STATA

Variable Mean Std. Dev. Min Max Observations

overall 6.281 2.039543 -1.3 10.5 N= 100

ROA between 1.702833 2.5 9.14 n= 20

within 1.173564 2.481 9.681 T= 5

overall 6.82803 2.140426 1.081 10.913 N= 100

HCE between 1.671173 3.182 10.0136 n= 20

within 1.37893 3.89303 9.81723 T= 5

overall .78231 .1373082 .403 .991 N= 100

SCE between .1232078 .4772 .9302 n= 20

within .0654732 .54051 .97211 T= 5

overall .08817 .021101 .046 .168 N= 100

CEE between .0181253 .0616 .1428 n= 20

within .0114018 .04557 .11657 T= 5

(Source: Survey Data)

Table 5.2 shows the average indicators of variables computed from the financial
statements and the standard deviation that shows how much dispersion exists from the
average value. According to Brooks (2008), a low standard deviation indicates that the
data point tend to be very close to the mean, whereas high standard deviation indicates
that the data point are spread out over a large range of values.

47
The goal of the summary statistics is to calculate the mean and the standard deviation
and break this down for between and within variation. According to 5.2 table, this have
the minimum and maximum ROA and if we look at between is the average between
individuals over time. For within means how much each individual observation differs
if take away the overall mean. The mean of the dependent variable ROA 6.28% the
overall standard deviation is 2.04%, the between deviation is 1.7% and the within
variation is 1.17% which means that we have high between variation from one
individual to the next than within variation. And also the standard deviation of ROA is
6.28 implied that the volatility of returns from assets varies from the mean by 6.28%
only.

Figure 5. 1 Normality Distribution of ROA

With regards to the independent variable, the mean value of HCE indicates that banks
human capital is more effective in creating value than SCE and CEE during the periods.
Maximum and minimum values of HCE are respectively 10.913 and 1.081. The average
6.83 HCE has a standard deviation of 2.14. It reveals that values of HCE vary around
the mean value 6.83.

48
Figure 5. 2 Normality Distribution of HCE

SCE maximum value is 0.991 and a minimum value is 0.403. Mean value of SCE is
0.78. It has the standard deviation of 0.137. If reflects that values of SCE vary around
the mean value of 0.78.

Figure 5. 3 Normality Distribution of SCE

49
When considering the CEE, there is a maximum value 0.168 and a minimum value of
.046. CEE has a mean value of 0.88. Standard deviation of CEE is 0.21.

Figure 5. 4 Normality Distribution of CCE

The following table shows the average of intellectual capital components and deviation
in yearly basis for the five years.

Table 5. 3 Descriptive Statistics of Independent Variables Based on the Year

HCE SCE CEE

Variable
Mean SD Mean SD Mean SD

2014 6.33 2.142421 .76395 .163357 .0862 .0187325

2015 5.58045 2.025054 .73585 .1545848 .07775 .0184929

2016 6.66485 1.914076 .78565 .1178805 .08725 .019692

2017 7.8273 1.916215 .81735 .1136746 .09485 .0214385

2018 7.73755 1.998973 .80875 .1271621 .0948 .0238164

(Source: Survey Data)

50
As per the table 5.3, the mean value of HCE has split between the ranges of 5.58 to 7.83
and maximally deviated around 2.14 while SCE within the range of 0.74 to 0.82 during
the 5 year period. The highest mean of HCE of 7.82 has been recorded in 2017 while
the lowest 5.58 in 2015. Also in 2017 the highest SCE is showed as 0.82 and the lowest
0.74 in 2015. When it is considered the CEE, on average maximum value is 0.09485
and it also represent the year 2017. In 2018 also it was 0.948. the minimum mean was
recorded as 0.0778 in again 2015.

The following table presents the descriptive statistics of dependent variable, return on
assets separately for the period of 2014 – 2018.

Table 5. 4 Descriptive statistics of ROA

Year Descriptive statistics

N Minimum Maximum Mean Standard Deviation

2014 20 -1.3 8.5 5.83 2.055314

2015 20 -.8 10.2 5.19 2.11583

2016 20 2.9 10.5 6.15 1.870969

2017 20 2.8 10.4 7.165 1.849118

2018 20 3.2 10.2 7.07 1.758019

Total 100 -1.3 10.5 6.281 2.039543

(Source: Survey Data)

This study analysis 100 ROA observations representing 20 companies in banking

industry for the years starting from 2014 to 2018. The minimum ROA in the data set is
-0.8% and the maximum ROA is 10.5%.

The mean value of 6.28% is the average ROA for the 20 banks. The highest mean value
of ROA was generated in 2017 and the lowest in 2015. It was 7.2% and 5.2%
respectively.

In this data set, the standard deviation is 2.04%. this explains how spreads out the data
are from the mean. There is higher standard deviation of 2.1% in the year 2015. It means

51
that the values in the data set are far away from the mean value 5.19%. the lowest
standard deviation is 1.75% in 2018. It indicates that the data points tend to be close to
the mean value of 7.07%.

5.4 Trend Analysis

This section discusses the trend of the data distribution for both dependent and
independent variables. The trend of the variables such as HCE, SCE, CEE and ROA is
discussed by using mean value in each year.

5.4.1 Trend Analysis of Human Capital Efficiency (HCE)

9
Mean Human Capital Efficiency

7.83 7.74
8
6.66
7 6.33
6 5.58
(HCE)

5
4
3
2
1
0
2014 2015 2016 2017 2018
Year

Figure 5. 5 Trend Analysis of Human Capital efficiency

Figure 5.5 shows the trend analysis for Human Capital Efficiency between the year
2014 and 2018. It has unsteady increasing and decreasing trends. The year 2017 had
the highest value of 7.83 while lowest value of 5.58 recorded was in the year 2015. In
2017 HCE was increased to 7.83 and then gradually decreased to 7.74 within the year
2018.

52
5.4.2 Trend Analysis of Structural Capital Efficiency (SCE)

0.84
0.82
Mean Structural Capital 0.82 0.81
Efficiency (SCE)
0.8 0.79

0.78
0.76
0.76
0.74
0.74

0.72

0.7
2014 2015 2016 2017 2018
Year

Figure 5. 6 Trend Analysis of Structural Capital Efficiency (SCE)

Figure 5.6 displays the way of the Structural Capital Efficiency changes through the
five years period 2014 – 2018. Year 2017 has the highest mean value of 0.82 whereas
year 2015 has the lowest mean value of 0.74 for SCE. 0.82 has gradually been decreased
in the year 2018. SCE in 2015, 2016, and 2017 were 0.74, 0.79 and 0.82 respectively.
It can be observed that the SCE has increased to 0.82 in the year 2017.

5.4.3 Trend Analysis of Capital employed Efficiency (CEE)

0.1 0.095 0.095

Mean Capital Employed Efficiency

0.086 0.087
0.09
0.078
0.08

0.07

0.06
(CEE)

0.05

0.04

0.03

0.02

0.01

0
2014 2015 2016 2017 2018
Year
Figure 5. 7 Trend Analysis of Capital employed Efficiency (CEE)

53
Figure 5.7 shows the trend analysis for Capital Employed Efficiency between the year
2014 – 2018. It has slowly increasing trend. The year 2017 and 2018 had the highest
value of 0.095 while the lowest value of 0.078 recorded was in the year 2015. In 2017
CEE was increased to 0.095 and then it constant within the year 2018.

5.4.4 Trend Analysis of ROA

8 7.12 7.07
7 6.15
5.83
6
Mean ROA (%)

5.19
5
4
3
2
1
0
2014 2015 2016 2017 2018
Year
Figure 5. 8 Trend Analysis of ROA

Figure 5.8 indicates the yearly mean ROA for the 20 banks in Sri Lanka. The highest
mean ROA of 7.17% recorded in the study period was in the year 2017 while the lowest
mean ROA of 5.19% was in 2015. After that it has increased to 7.12% in 2017 and
decreased to 7.07% in 2018.

5.5 Unit Root Test

The Levin-Lin-Chu was performed in order to test stationary properties of time series
data because technique with the non-stationary property will result in spurious
regression. It is needed that the variables be stationary. The following hypothesis can
be developed in order to conduct the unit root test.

H0: Panels are non-stationary

H1: Panels are stationary

54
Table 5. 5 Summary for Panel Unit Root Test

Variable Statistic P-value Rejection Rule Result

HCE -4.3856 0.0000 If p-value < 0.05 reject H0 HCE is stationary

SCE -2.1636 0.0152 If p-value < 0.05 reject H0 SCE is stationary

CEE -4.0381 0.0000 If p-value < 0.05 reject H0 CEE is stationary

ROA -3.3890 0.0004 If p-value < 0.05 reject H0 ROA is stationary

(Source: Survey Data)

As shown in the above table, this study use LLC test to determine whether the series
contains a unit root. The LLC test p value for all the variables are less than 0.05. there
is sufficient evidence to reject the null hypothesis. Therefore, it can be concluded that
those mentioned variables are stationary at its level of significance.

5.6 Correlation Analysis

To analyze the association between the dependent and independent variables, a

correlation analysis is undertaken and the results are presented below.

Table 5. 6 Correlation Analysis

Variables ROA HCE SCE CEE

1.0000
ROA 100

0.7313* 1.0000
HCE 0.0000
100 100
0.5375* 0.4789* 1.0000
SCE 0.0000 0.0000
100 100 100
0.6331* 0.5358* 0.4072* 1.0000
CEE 0.0000 0.0000 0.0000
100 100 100 100

55
(Source: Survey Data)

The output given in Table 5.6 depicts that there is a significant positive relationship
between ROA with regards to the elements of intellectual capital. All HCE, SCE and
CEE are positively correlated and which means that it does yield profitability to
enhance on these resources. As performance is positively associated with profitability,
banks should attempt to enhance its human capital efficiency, structural capital
efficiency and capital employed efficiency. As shown in the above table, there is a
moderate positive correlation value between each pair of intellectual capital elements.
HCE is positive and significantly related to ROA (r =0.7313, p< 0.0001) indicating
moderate relationship between human capital efficiency and financial performance than
other two components. SCE (r = 0.5375) and CEE (r = 0.6331) also have the moderate
correlation with ROA.

5.7 Diagnostic Test

5.7.1 Heteroscedasticity

H0 = There is homoscedasticity error term

H1 = There is heteroscedasticity error term

Table 5. 7 Breusch-Pagan / Cook-Weisberg Test for Heteroskedasticity

Chi 2 Prob > chi2

0.12 0.7286

The p-values were above 0.05, the null hypothesis of homoscedasticity is failed to reject
at 5 percent of significant level. This implying that there is no significant evidence for
the presence of heteroscedasticity in this research models.

5.7.2 Autocorrelation

H0 = There is no autocorrelations errors

H1= There is autocorrelation errors

56
Table 5. 8 Test for Autocorrelation

F statistics Prob > F

6.101 0.0232

As can be seen in the above table 5.8, F test result and the P value of F-statistic is
0.0232. P-value is less than the significance level of 0.05. Hence, the null hypothesis of
no autocorrelation is failed to accept at 0.05 of significant level. Therefore, there is
sufficient evidence to reject the null hypothesis. It means there is autocorrelation.

5.7.3 Multicollinearity

When there is a perfect linear relationship among the predictor, the estimates for a
regression model cannot be uniquely computed. The term collinearity implies that two
variables are near perfect linear combinations of one another. When more than two
variables are involved it is often called multicollinearity, although the two terms are
often used interchangeably.

Table 5. 9 Result of Multicollinearity Test

Variable VIF 1/VIF

HCE 1.58 0.631445
CEE 1.46 0.683473
SCE 1.35 0.738826
Mean VIF 1.47
(Source: Survey Data)

Based on the Variance Inflation Factors (VIF) computation all models have no the
problem of multicollinearity. The VIF for all independent variables are less than 10.
According to Gujarati (2004) the variables considered as highly collinear if the VIF
exceeds 10, consequently all have not highly collinear based on this rule of thumb.
Therefore, model of this study is free from the multicollinearity problem.

57
5.7.4 Normality

Normality test was applied to determine whether a data is well-modelled by a normal

distribution or not, and to compute how likely an underlying random variable is to be
normally distributed. Normality test hypothesis are stated as follows,

H0: Residual are normally distributed

H1: Residual are not normally distributed

Table 5. 10 Normality Test

Variable Pr(Skewness) Pr(Kurtosis) Adj chi2(2) Prob>chi2

ROA 0.0013 0.0046 14.85 0.0006

HCE 0.3224 0.5730 1.33 0.5152

SCE 0.0000 0.0896 19.02 0.0001

CEE 0.0013 0.0146 13.34 0.0013

ALL 0.1932 0.6578 1.94 0.3798

(Source: Survey Data)

The above table indicates Jarque-Bera Statistic of all variables are 1.94 and p-value of
0.3798 >0.05. Therefore, there is sufficient evidence to accept the null hypothesis and
concluded that the residuals are normally distributed.

58
Figure 5. 9 Normality Distribution of Residuals

5.8 Regression Analysis

The study used panel data regression model to identify the impact of intellectual capital
on financial performance of banking sector. In panel least square method, Fixed Effects
Model and Random Effects Model are used to analyze the panel data. To identify
suitable model initially the researcher performed fixed effects and then performed
random effects separately. The test for correlated random effects (Hausman Test) was
then applied to determine which of the two models was applicable. STATA (15.0) was
used to run panel data regression model. The results obtained through STATA (15.0)
were discussed below.

5.8.1 Fixed Effects Model

Fixed effects model was performed for the panel data of 100 observations (20 banks for
5 years from 2014 – 2018). The fixed effects model analyses the impact of variables
that vary across time and assume that those time – invariant factors are unique to the
entity and should not be correlated with other entity factors. In other words, fixed effect
model cannot estimate the effects of a variable which varies across the firms but not

59
over time. Under this model each entity is different from others and therefore error term
will not correlate with other entity.

Table 5. 11 Results of Fixed Effects Model

Within Between Overall

R-squared 0.7753 0.5250 0.6052

ROA Coef. Std. Err. T P>|t| [95% Conf. Interval]

HCE .260828 .0707728 3.69 0.000 .1199013 .4017547

SCE 4.251684 1.3055 3.26 0.002 1.652102 6.851266

CEE 46.57895 8.268806 5.63 0.000 30.11365 63.04424

_Cons -2.932942 .8133772 -3.61 0.001 -4.552583 -1.313301

(Source: Survey Data)

Table 5.5 displays the output of the fixed effects model for ROA. The output is
significant at 95% confidence level and explains 60% of the (R-sq = 0.605) variation
of the explanatory variables.

5.8.2 Random Effects Model

In panel data analysis, if the differences across the banks have some influences on the
response variables, then it should be needed to go for the random effects model.

Table 5. 12 Results of Random Effects Model

Within Between Overall

R-squared 0.7741 0.5438 0.6186

60
ROA Coef. Std. Err. Z P> |z| [95% Conf. Interval]

HCE .3028617 .0652766 4.64 0.000 .1749219 .4308016

SCE 3.895075 1.151527 3.38 0.001 1.638123 6.152027

CEE 42.51086 7.407052 5.74 0.000 27.9933 57.02842

_Cons -2.582288 .7788482 -3.132 0.001 -4.108802 -1.055773

(Source: Survey Data)

The model explains 61.9% variation in the explanatory variable at 95% confidence
level. The output further explains the positive and significant coefficients for HCE, SCE
and CEE with ROA. Having tested the fixed effects model and random effects model,
it should be needed to go for the Hausman Test to find which model is suitable for this
panel data analysis.

5.8.3 Hausman Test

For the question whether to use fixed effects or random effects. Hausman (1978)
proposed a test which is called the Hausman test. In order to determine which of the
two models should be preferred (i.e. whether the Fixed Effects or the Random Effects
Model), the following hypothesis was investigated:

H0 = Random Effects Model

H1 = Fixed Effects Model

Table 5. 13 Results of the Test for Correlated Random Effects (Hausman Test)

Total summary Chi-Sq. Statistic Chi-Sq. d.f Prob.

Cross-section random- ROA 2.46 3 0.4820

The above table 5.13 shows that, Hausman specification test, the P-values of model is
0.4820. This value is way beyond the 5% level of significance. Hence, the null
hypothesis of the random effect model is appropriate is failed to reject at 5% of

61
significance level. This implies that, the random effect model is more appropriate than
the fixed effect model and gives more comfort for this model.

5.9 Summary Results for Random Effect Model (Multiple Regression)

Table 5. 14 Summary Results for RE Model

ROA

Variable Coefficient Prob.

C -2.582288 0.001

HCE 0.3028617 0.000

SCE 3.895075 0.001

CEE 42.51086 0.000

R2 0.6186
(Source: Survey Data)

ROA it = β0 + β1 (HCE) it + β2 (SCE) it + β3 (CEE) it + ε it

ROA it = -2.58229 + 0.302862 (HCE)it + 3.895075 (SCE)it + 42.51086 (CEE)it

The R2 value of regression reflects 61.86% contribution of intellectual capital variables

towards ROA in banking sector. The β coefficient values indicate the individual
contribution of each predictor to the model. As per the results mentioned in table 5.14
with the coefficient of 0.3028617 in HCE, it can be stated that one unit increase in HCE,
it will lead to increase ROA by 0.3028617.

The β coefficient for SCE is 3.895075. This result explains that if one unit of SCE
increases, ROA will increase by 3.895075. The β coefficient for CEE is 42.51086. This
result explains that, if one unit of interest rate increases, ROA will increase by
42.51086.

5.10 Testing Hypothesis

For the purpose of this study, following hypotheses were tested to identify the impact
of each intellectual capital variable on financial performance of banking sector in Sri

62
Lanka. The results of multiple regression analysis were used to identify the impact of
intellectual capital variable on financial performance.

Hypothesis 01

H1 = There is a significant impact of Human Capital Efficiency Coefficient (HCE) on

the Return on Assets (ROA) of Sri Lankan banks.

As per the results of multiple regression analysis between these two variables, the
regression coefficient is .3028617 which is significant (p = 0.000). there is sufficient
evidence to accept the alternative hypothesis. Therefore, it can be concluded that human
capital efficiency and positively affects return on assets of banking sector in Sri Lanka.

Hypothesis 02

H2 = There is a significant impact of Structural Capital Efficiency Coefficient (SCE) on

the Return on Assets (ROA) of Sri Lankan banks.

According to the above table 5.14 significant value is 0.001. this value is less than 0.05
(p < 0.05). There is enough evidence to accept the alternative hypothesis. It is concluded
that there is statistically significant impact of structural capital efficiency on return on
assets.

Hypothesis 03

H3 = There is a significant impact of Capital Employed Efficiency Coefficient (CEE)

on the Return on Assets (ROA) of Sri Lankan banks.

According to the above table 5.14 significant value is 0.000. This value is less than 0.05
(p < 0.05). There is enough evidence to accept the alternative hypothesis. It is concluded
that there is statistically significant impact of capital employed efficiency on the return
on assets.

63
5.11 Summary of Hypothesis Testing

Table 5. 15 Hypothesis Testing

No Hypothesis Results

H1 There is a significant impact of Human Capital Efficiency Accepted

Coefficient (HCE) on the Return on Assets (ROA) of Sri Lankan
banks.

H2 There is a significant impact of Structural Capital Efficiency

Coefficient (SCE) on the Return on Assets (ROA) of Sri Lankan Accepted
banks.

H3 There is a significant impact of Capital Employed Efficiency

Coefficient (CEE) on the Return on Assets (ROA) of Sri Lankan Accepted
banks.

5.12 Chapter Summary

This chapter consists collected data presentation and analysis. Independent and
dependent variables are presented through the descriptive analysis. Correlation was
used to determine the relationship between dependent and independent variables. The
regression analysis used to find out the level of impact. It was done through Random
Effects Model by using STATA (15.0). Hypothesis developed was tested based on the
statistical significance of coefficient. Next chapter will be presenting the discussion on
findings in detail.

64
CHAPTER SIX

DISCUSSION

6.1 Introduction

This chapter dicusses the findings from the data analyzed and presented in the chapter
five. The discussion is presented in the way that can be addressed the questions of this
study. This includes the discussion of descriptive analysis for all the variables, the
discussion of the relationship between dependent and independent variables and the
discussion of testing the regression model presented in previous chapter regarding the
intellectual capital and financial performance of banking sector in Sri Lanka.

6.2 Discussion on Relationship between Intellectual Capital Variables and

Financial Performance.

This is discussed by using the results of correlation and regression analysis in order to
determine the relationship between intellectual capital variables and financial
performance. Further it can be useful to identify the impact of each selected intellectual
capital variable on financial performance of banking sector in Sri Lanka by considering
those independent variables separately with dependent variables.

6.2.1 Relationship between Human Capital Efficiency and Financial Performance

According to the correlation analysis, there is a moderate positive correlation of 0.731

and significant value of 0.0000 which is less than 0.05 between human capital
efficiency and ROA. Therefore, it can be concluded that there is a significant positive
relationship between human capital efficiency and ROA.

6.2.2 Relationship between Structural Capital Efficiency and Financial

Performance

There is a moderate positive Pearson correlation of 0.538 and significant value of 0.000
which is less than 0.05 between structural capital and ROA. Therefore, it can be
concluded that there is significant positive relationship between structural capital
efficiency and ROA.

65
6.2.3 Relationship between Capital Employed Efficiency and Financial
Performance

According to the correlation analysis, there is a moderate positive Pearson correlation

of 0.63 and significant value of 0.0000 which is less than 0.05 between capital
employed efficiency and ROA. Therefore, it can be concluded that capital employed
efficiency has a significant positive relationship with ROA.

6.3 Discussion on Impact of Intellectual Capital Variables on Financial

Performance

6.3.1 Impact of Human Capital Efficiency on the ROA

As shown in the regression output presented in chapter five, the coefficient of human
capital efficiency (HCE) as measured by value addition to total employee’s salary and
benefits to total assets ratio is 0.30286 and its corresponding P-value is 0.000.Meaning
that holding other independent variables fixed at their average value, when human
capital efficiency (HCE) increase by one unit, Sri Lankan banks Return on Asset (ROA)
will increase by 0.30286 unit and significant at 5% of significance level. Therefore, the
study not rejected the alternative hypothesis 01 that, there is a significant impact of
human capital efficiency coefficient (HCE) of Sri Lankan banks and their financial
performance measure (ROA). This means, there is no sufficient evidence to support the
insignificant impact of HCE on ROA.

The impact is positive as expected and this positive impact of human capital efficiency
on financial performance of Sri Lankan banks could be attributed to the fact that
efficiency of employees in service rendering firms has in value creation for the firms
and financial performance too. The possible reason for the significant positive
relationship could be the recently evident innovative new banking products in the Sri
Lankan banking industry and also signifies the efficiency of employees when compared
with the outlays for salary and benefit. Furthermore, the result suggests that, Sri Lankan
banks employees‟ salary and benefit skim alignment with their financial performance.

Similarly, in India, using a sample of 30 firms across manufacturing and services,

Kamath (2015) assessed IC and performance and found that HCE was the major
components of IC with an impact on productivity. Mondal and Ghosh (2012) also

66
confirmed the positive significant relationship between HC and bank productivity.
Tripathy et al., (2015) assessed the relationship between 164 firms in seven industries
(including banks) and found a high impact of HCE on firms performance. Nimtrakoon
and Chase, (2015) found similar results, consistent with those of Wang et al., (2011),
that HCE significantly affects firm performance. However, it contradict with the
findings of Ferraro and Veltri, (2011); Gottfredson, (1997).

6.3.2 Impact of Structural Capital Efficiency on the ROA

According to the multiple regression output, the coefficient of structural capital

efficiency (SCE) as measured by the firm value addition without the human capital to
the value addition ratio is 3.895 and its corresponding P-value is 0.001. Meaning that
holding other independent variables fixed at their average value, when structural capital
efficiency (SCE) increase by one unit, Sri Lankan banks return on Asset (ROA) will
increase by 3.895 unit and statistically significant at 5% of significance level.
Therefore, the study not rejected the alternative hypothesis 02 that, there is a significant
impact of structural capital efficiency coefficient (SCE) of Sri Lankan banks and their
financial performance measure (ROA).

The empirical result found here supports the result of Shamsudin and Yian, (2013) in
Malaysia, Fethi et al. (2013) in Iran, Mehri et al., (2013) in Malaysia and Latif et al.,
(2012) in Pakistan. Furthermore, the same result is found by Bontis et al., (2015), who
confirmed that SCE has a significant relationship with productivity. More so, studies
on Indian banks (Tripathi et al.,2015) also revealed that SCE has a major impact on the
performance of firms measured by ROA. However, it contradicts with the finding of
Jensen, (1998) and finding of Isanzua, (2015).

Public, (1998) states that, SCE is dollar of SC within the firm, for every dollar of value
added, and as HCE increases, SCE increases. If the efficiency measures for both HCE
and SCE were calculated with VA as the numerator, the logical inconsistency would
remain. Hence, the impact is positive as expected, and this positive impact of structural
capital efficiency on the financial performance of Sri Lankan banks could be attributed
to the fact that Sri Lankan banking sector is more competitive sector and hence, Sri
Lankan banks financial outlay is strictly controlled to be productive. In the other hand

67
it implies the efficiency of Sri Lankan banking industry in maintain good customer
relationship, low cost processes, and dependable databases, brands, and systems.

6.3.3 Impact of Capital Employed Efficiency on the ROA

The regression output presented that, the coefficient of capital employed efficiency
(CEE) measured by the ratio of value added to employed capital is 42.51 and its
corresponding P-value is 0.000. Meaning that holding other independent variables
constant at their average value, when capital employed efficiency (CEE) increase by
one unit, Sri Lankan Return on Asset (ROA) will increase by 42.51 unit and statistically
significant at 5% of significance level. Since there is significant positive impact of CEE
on ROA of sampled Sri Lankan banks, the study can’t reject the alternative hypothesis
03 that, there is a significant impact of capital employed efficiency on financial
performance (ROA).

Scholars including Chen et al., (2005) found CEE to be positive and significant with
corporate measures such as EP and ROA. Consistently, Chan (2009) primarily assessed
the impact of IC on organizational performance, revealing that CEE is positive with all
performance measures, including productivity. A study on Turkish banks by Ozkan et
al., (2017) similarly records a strong association between CEE on bank performance
for the period of 10 years (2015-2014). These studies show that different authors in
different geographic areas have all verified that CEE has a positive influence on either
productivity or profitability.

6.4 Summary

This chapter was discussed all the findings obtained through STATA (15.0) by
comparing the findings of previous studies to identify the impact of intellectual capital
on financial performance of the banking sector in Sri Lanka. It was discussed and
analyzed the findings of descriptive statistics, correlation and multiple regression
analysis. Based on that, the next chapter will provide conclusions and
recommendations.

68
CHAPTER SEVEN

CONCLUSIONS AND RECOMMENDATIONS

7.1 Introduction

This chapter discussed the conclusions about the variables which help to measure the
impact of intellectual capital on financial performance of banking sector in Sri Lanka.
It further proposes some recommendation that can be taken to improve the study and
some suggestions for future researchers.

7.2 Conclusions

Conclusions of the study have been made by considering the results of this study to
address the research questions. This study has considered 20 licensed banks in Sri
Lanka for the financial year 2014- 2018 for the purpose of this study. The research
model was created based on the analysis and evaluation from literature on intellectual
capital. Correlation and multiple regression analysis were used to determine the impact
of intellectual capital on financial performance of the banks operating in Sri Lanka. The
methodology adopted is the one of “Value Added Intellectual Coefficient” (VAIC) and
its components described into HCE SCE and CEE that has been previously utilized by
similar studies (Chen et al., 2005; Firer & Williams, 2003; Williams, 2001). Hypothesis
were tested by using the results of multiple regression analysis.

Objective 01

The first objective of the study is to find out the impact of human capital on the financial
performance of banking sector in Sri Lanka. The results of correlation analysis indicate
that human capital efficiency has a positive significant relationship with the financial
performance (ROA). By using multiple regression analysis, the study concluded that
human capital efficiency has a positive significant impact on financial performance
(ROA) of banking sector in Sri Lanka.

Objective 02

Second objective of the study is to find out the impact of structural capital on the
financial performance of banking sector in Sri Lanka. The results of correlation analysis
specify that structural capital efficiency has a positive significant relationship with

69
financial performance (ROA). This is accordance with the results of multiple regression
analysis. Therefore, the study concludes that structural capital efficiency has a positive
significant impact on financial performance (ROA) of banking sector in Sri Lanka.

Objective 03

Third objective of the study is to find out the impact of capital employed on the financial
performance of banking sector in Sri Lanka. Correlation analysis point out that capital
employed efficiency has a positive significant relationship with financial performance
(ROA). Results of multiple regression analysis confirm positive and significant impact
of capital employed efficiency on financial performance of banking sector in Si Lanka.

7.3 Recommendations

There is no enough published study that has examined the issue of the impact of
intellectual capital on the financial performance for the Sri Lankan Banking sector. This
study can be used as an assistance to get a better understanding of intellectual capital
on financial performance of banking sector in Sri Lanka.

Since the result of this study provide that, among the intellectual capital components,
Human capital efficiency coefficient (HCE) and structural capital efficiency coefficient
(SCE), more important in enhancing the firm financial performance than tangible and
physical assets capital employed efficiency coefficient (CEE). This would alert the
directors and managers of Sri Lankan banks emphasize on intellectual capital variables
through establishment of separate department. So that clear and proper records and
protection of significant components of intellectual capital could be kept by banks. This
will help them to make their decision would be efficient.

Since the result of this study provides that, human capital is significant factor for
financial performance, while human capital accounting is not in place in Sri Lankan,
major financial regulatory bodies should encourage the inclusion of human capital
accounting in the financial reporting of Sri Lankan banks. Thus, standards should be
created for human resources identification and measurement. This will enhance
valuation of human capital, ensure a higher degree of utility to stakeholders, uniformity
in disclosures and will show a reliable comparison of human capital values.

70
7.4 Suggestions for Further Research

According to this study, researcher covered only banking sector in Sri Lanka. Other
researchers can examine their research in other sector or they can take more than one
sector and they can compare these different sector in their study.

According to this study researcher take 20 banks and financial statements of 5 years.
Future researchers can take more samples. Furthermore, another research area that
could be extended is to examine intellectual capital and financial performance to other
banks.

Moreover, further studies can also be carried out on the Sri Lankan banking industry
by using more than one measurement of firm’s financial performance such as Return
on Equity (ROE), and Assets Turn Over (ATO) to investigate the impact of IC
efficiency of firms’ financial performance.

7.5 Limitations

The primary limitation in this study is that the data collection focused on only one sector
in one country and there is a relatively narrow five-year period for the data collection.
Further sub variables selected to represent each intellectual capital component could be
improved if researchers used a primary data collection method for this research.

The analysis and its derived conclusions based on the secondary data sources (mainly
on published annual reports), both the dependent and independent variables are
computed from this past data sources. Hence, the historical data not always reflect the
current and future economic situation

Further this research is linked to the model VAIC used in this research. Some scholars
have questioned the validity and appropriateness of the model (Stahle et al.,2011). They
claimed that the model is designed to measure the efficiency of the firms’ human capital
and capital investment rather than intellectual capital.

Other limitations are unavailability of required data during this study. Thus, it
necessitates the study to use the available data at hand to carry out this research work
and study uses only one variable (ROA) to measure the financial performance of one
of the most important sector.

71
7.6 Summary

This chapter contains conclusions and recommendation for the study on the impact of
intellectual capital on financial performance of banking sector in Sri Lanka. This
chapter has considered each variables and necessary aspects that the companies need to
consider more to accomplish the future success in regarding intellectual capital and
financial performance.

72
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APPENDIX

Appendix – І

Data considered in the study to obtain the results.

No Name of the Bank Year HCE SCE CEE ROA

1 Amana Bank 2014 2.524 0.604 0.063 3.2
2 Amana Bank 2015 2.999 0.667 0.064 3.3
3 Amana Bank 2016 3.399 0.706 0.068 4
4 Amana Bank 2017 4.402 0.773 0.076 5.2
5 Amana Bank 2018 4.691 0.787 0.079 5.3
6 Bank of Ceylon 2014 7.593 0.991 0.097 6.2
7 Bank of Ceylon 2015 6.559 0.848 0.07 5.3
8 Bank of Ceylon 2016 7.73 0.871 0.078 6.3
9 Bank of Ceylon 2017 9.546 0.895 0.083 6.9
10 Bank of Ceylon 2018 9.485 0.769 0.081 6.6
11 Cargills bank 2014 1.081 0.403 0.051 -1.3
12 Cargills bank 2015 1.125 0.431 0.062 -0.8
13 Cargills bank 2016 2.968 0.663 0.075 2.9
14 Cargills bank 2017 5.168 0.806 0.083 5.8
15 Cargills bank 2018 5.568 0.813 0.091 5.9
16 Commercial Bank 2014 4.09 0.804 0.076 5.8
17 Commercial Bank 2015 4.001 0.786 0.073 5.4
18 Commercial Bank 2016 7.407 0.865 0.079 6.2
19 Commercial Bank 2017 8.854 0.887 0.087 7
20 Commercial Bank 2018 8.619 0.884 0.086 6.9
21 DFCC 2014 9.192 0.901 0.091 7.4
22 DFCC 2015 9.089 0.873 0.083 6.9
23 DFCC 2016 8.132 0.811 0.079 6.4
24 DFCC 2017 9.852 0.899 0.093 7.8
25 DFCC 2018 6.928 0.899 0.09 7.6
26 HDFC 2014 8.805 0.901 0.113 8.5
27 HDFC 2015 5.098 0.804 0.101 7.2

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28 HDFC 2016 5.736 0.826 0.113 8.5
29 HDFC 2017 6.732 0.76 0.128 10.4
30 HDFC 2018 5.63 0.705 0.11 10.2
31 Hatton National Bank 2014 5.422 0.456 0.083 6.3
32 Hatton National Bank 2015 5.335 0.425 0.069 5.1
33 Hatton National Bank 2016 8.172 0.562 0.083 6.4
34 Hatton National Bank 2017 9.989 0.59 0.093 7.6
35 Hatton National Bank 2018 9.483 0.493 0.087 7
36 Habib Bank Ltd 2014 7.293 0.863 0.077 5.6
37 Habib Bank Ltd 2015 7.134 0.86 0.069 4.8
38 Habib Bank Ltd 2016 6.205 0.839 0.057 3.8
39 Habib Bank Ltd 2017 5.134 0.805 0.046 2.8
40 Habib Bank Ltd 2018 5.52 0.819 0.059 3.2
41 MCB 2014 7.289 0.493 0.085 6.2
42 MCB 2015 7.035 0.489 0.084 5.6
43 MCB 2016 6.077 0.471 0.067 4.3
44 MCB 2017 6.003 0.471 0.057 4
45 MCB 2018 5.009 0.462 0.053 3.9
46 Nation Trust Bank 2014 7.721 0.825 0.097 6.9
47 Nation Trust Bank 2015 5.138 0.805 0.084 5.7
48 Nation Trust Bank 2016 5.955 0.832 0.094 6.8
49 Nation Trust Bank 2017 7.521 0.867 0.108 8.4
50 Nation Trust Bank 2018 7.458 0.873 0.101 7.9
51 National Development Bank 2014 7.398 0.865 0.081 6.4
52 National Development Bank 2015 6.79 0.853 0.07 5.5
53 National Development Bank 2016 8.168 0.878 0.084 7
54 National Development Bank 2017 9.887 0.901 0.095 8
55 National Development Bank 2018 9.397 0.894 0.088 7.4
56 National Saving Bank 2014 9.415 0.93 0.094 7.6
57 National Saving Bank 2015 10.425 0.939 0.115 10.2
58 National Saving Bank 2016 10.846 0.941 0.117 10.5
59 National Saving Bank 2017 9.49 0.931 0.099 8.7

82
60 National Saving Bank 2018 9.892 0.91 0.1 8.7
61 Pan Asia Banking Corporation 2014 6.106 0.836 0.083 6.6
62 Pan Asia Banking Corporation 2015 5.924 0.831 0.077 5.7
63 Pan Asia Banking Corporation 2016 7.672 0.87 0.096 7.7
64 Pan Asia Banking Corporation 2017 9.004 0.889 0.106 8.9
65 Pan Asia Banking Corporation 2018 10.913 0.903 0.108 9.2
66 People's Bank 2014 6.544 0.847 0.083 6.7
67 People's Bank 2015 5.059 0.802 0.073 5.2
68 People's Bank 2016 6.078 0.835 0.082 6.3
69 People's Bank 2017 9.267 0.892 0.096 8
70 People's Bank 2018 7.893 0.873 0.091 7.4
71 Public Bank Berhad 2014 4.536 0.78 0.075 4.2
72 Public Bank Berhad 2015 3.829 0.739 0.058 2.6
73 Public Bank Berhad 2016 4.015 0.751 0.06 3
74 Public Bank Berhad 2017 4.902 0.796 0.085 4.8
75 Public Bank Berhad 2018 5.001 0.802 0.081 4.8
76 Regional Development Bank 2014 8.132 0.681 0.076 6.1
77 Regional Development Bank 2015 4.257 0.627 0.049 5.6
78 Regional Development Bank 2016 5.893 0.654 0.102 6
79 Regional Development Bank 2017 7.761 0.734 0.111 7.4
80 Regional Development Bank 2018 9.917 0.768 0.12 7.9
81 Sampath Bank PLC 2014 6.88 0.649 0.081 6.3
82 Sampath Bank PLC 2015 5.941 0.523 0.07 5.1
83 Sampath Bank PLC 2016 7.421 0.865 0.083 6.5
84 Sampath Bank PLC 2017 9.557 0.895 0.097 8
85 Sampath Bank PLC 2018 9.078 0.892 0.096 7.9
86 Sanasa Development Bank 2014 5.298 0.811 0.089 7.2
87 Sanasa Development Bank 2015 5.037 0.801 0.08 6.6
88 Sanasa Development Bank 2016 5.455 0.817 0.105 8
89 Sanasa Development Bank 2017 6.35 0.843 0.114 9
90 Sanasa Development Bank 2018 6.886 0.923 0.115 9.1
91 Seylan Bank PLC 2014 5.419 0.815 0.085 6.1

83
92 Seylan Bank PLC 2015 5.401 0.814 0.077 5.5
93 Seylan Bank PLC 2016 6.757 0.852 0.088 6.8
94 Seylan Bank PLC 2017 7.849 0.873 0.1 8
95 Seylan Bank PLC 2018 7.381 0.865 0.092 7.4
96 Union Bank of Colombo 2014 5.862 0.824 0.144 4.6
97 Union Bank of Colombo 2015 5.433 0.8 0.127 3.3
98 Union Bank of Colombo 2016 9.211 0.804 0.135 5.6
99 Union Bank of Colombo 2017 9.278 0.84 0.14 6.6
100 Union Bank of Colombo 2018 10.002 0.841 0.168 7.1

84
Appendix – ІІ - Output for Data Analysis

01. Descriptive Analysis

Summary Statistics

Descriptive Statistics Based on the Year

85
02. Unit Root Test

Levin-Lin-Chu Unit Root Test for HCE

Levin-Lin-Chu Unit Root Test for SCE

86
Levin-Lin-Chu Unit Root Test for CEE

Levin-Lin-Chu Unit Root Test for ROA

87
03. Correlation Analysis

Correlations

04. Heteroscedasticity Test

05. Autocorrelation Test

88
07. Multicollinearity Test

08. Normality Test

Skewness/Kurtosis Tests for Normality

89
09. Multiple Regression Analysis

Fixed Effects (FE) Model

Random Effects (RE) Model

90
10. Hausman Test
Hausman FE RE

91
CHECKLIST

Details of Project Report Area Page no./

Sec no.
Mark(x)
Cover page
X
 Title of project report (Times New Roman, 14, bold, center
aligned, uppercase) X

 Candidate’s full name (same as above) X

 Year of submission (Times New Roman, 14, bold, center aligned) X

Title page x

 Title of project report (Times New Roman, 14, bold, center X

aligned, uppercase)
x
 Candidate’s name with initials (same as above)
 Student registration number (same as above) x
 Student index number (same as above) x
 Submission statement (Times New Roman, 12, bold, center x
aligned, Capitalize Each Word)
x
 Name of the department, faculty and the University (same as
above)
x
 Year of submission (same as above)

Declaration x

Certification x

Acknowledgement i

92
Abstract ii
 Brief Introduction to the Subject x
 Summary of Methodology x
 Summary of Results x
 Summary of Conclusions and Recommendations x
 Keywords x
 Maximum words limits are 300 x

Table of Contents iii

List of Tables ix

List of Figures x

List of Abbreviations xii

Chapter 01 – Introduction 1
 Background of the Study 1-5
 Research Problem 5
 Research Questions 5
 Objectives of the Study 5
 Significance of the Research 6
 Scope of the study 6
 Summary 7

Chapter 02 - Literature Review 8

 Introduction 8
 Theoretical Framework 8-12
 Theoretical Base 12-14
 Definition and Components of Intellectual Capital 14-16
 Intellectual Capital and Financial Performance 16-20
 Financial Performance 20-23

93
 Significance of Measuring Intellectual Capital 23
 The Banking Sector in Sri Lanka 23

 Review of Empirical Studies 24-26

 Summary 26

Chapter 03 – Conceptualization and Operationalization 27

 Introduction 27
 Conceptualization 27
 Independent Variables 28-31

 Financial Performance 31

 Operationalization 32

 Summary 33

Chapter 04 – Methodology 34

 Introduction 34

 Study Setting, Study Design, and Method of Study 34

 Population of the Study and Sample 35

 Method of Data Collection 35

 Data Presentation 36

 Method of Measurements 36
36-43
 Method of Data Analysis and Evaluation
43
 Hypothesis Testing
44
 Summary

Chapter 05 – Data Presentation and Analysis 45

 Introduction 45
 Data Presentation 45
 Data Analysis 46-52
 Trend Analysis 52-54
 Unit Root Test 54
 Correlation Analysis 55
 Diagnostic Test 56-59

94
 Regression Analysis 59-62
 Summary Results for Random Effect Model 62

 Testing Hypothesis 62-64

 Summary of Hypothesis Testing 64

 Summary 64

Chapter 06 – Discussion 65

 Introduction 65

 Discussion on Relationship between Intellectual Capital 65-66

Variables and Financial Performance
 Discussion on Impact of Intellectual Capital Variables on 66-68
Financial Performance
68
 Summary

Chapter 07 – Conclusions and Recommendations 69

 Introduction 69
 Conclusions 69
 Recommendations 70
 Suggesting for Further Research 71
 Limitations 71

 Summary 72

References 73-78

 Included all the References x

 All References Follow APA Style x

Appendix 79-83
 Research Instruments (If used) x
 Data Analysis Outputs (If needed) x
 Summary of Data Sheet x
 Mapping of Learning Outcomes x

95
 Soft Copy - Project report, Data Sheet, Analysis x
 Supervision Record (Original) x
 Checklist for project report (In last page) 90-94

96
EMAIL CONFIRMATION

Approval by Examiner 01

Approval by Examiner 02

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