Investors and analysts commonly use the efficiency ratio, or expense-to-revenue ratio, to compare a bank’s expenses to its revenues. The ratio equals non-interest expense divided by the sum of net interest income and non-interest income and shows, as a percentage, how much money a bank spends to generate each dollar of revenue. A lower percentage ratio means a bank is more efficient at generating revenue, while a higher percentage suggests inefficiency. You can compare the expense-to-revenue ratio of a bank to that of its competitors and the industry average to determine how efficient a bank is compared to others.
Step 1
Find a bank’s total non-interest expense on its income statement. A bank typically provides the total amount of non-interest expense, which includes items such as salaries, rent, depreciation and utilities.
Step 2
Find a bank’s net interest income and non-interest income on its income statement. A bank typically provides the total of each amount. Non-interest income includes items such as fee income and service charges.
Step 3
Calculate the sum of net interest income and non-interest income. For example, add $400,000 in net interest income to $600,000 in non-interest income. This equals $1 million in total net interest income and non-interest income.
Step 4
Divide the bank’s total non-interest expense by the sum of its net interest income and non-interest income to determine its expense-to-revenue ratio. For example, divide $450,000 in non-interest expense by the $1 million sum of net interest income and non-interest income. This equals 0.45.
Step 5
Move the decimal two places to the right in your result to convert it to a percentage. In the example, convert 0.45 to 45 percent, which is the bank’s efficiency ratio.
Tip
You can also apply this ratio to companies in other industries, such as telecommunications, by dividing total operating expenses by total revenues.