Driven Determinants to Indonesia Sharia Commercial Banks' Performance: The Important Role of Diversification Strategy

Purpose: This study aims to analyze the role of income diversification and asset diversification on the sensitivity of the determinant of the Net Operating Margin (NOM) of Islamic Commercial Banks (ICB) in Indonesia. Design/Methodology/Approach: By using the technique of the endogenous switching regression analysis, the researcher assumes that the influence of the NOM’s determinant can be different when the bank has high or low diversification. By dividing the two regimes on the diversification variable, the researcher can determine which regime the NOM will be more sensitive to the fluctuation of the NOM’s determinant. Findings: The results of this study indicate that operational costs have an essential role in determining the level of NOM. NOM tends to be more sensitive to its determinants when the ICB is not functionally diversified compared to ICB, which diversifies its income and assets. This study also found that a large ICB has a greater probability of diversifying high income than a small ICB. Research limitations/implications: This study has limitations, among others, this study only covers Islamic commercial banks in Indonesia for a certain period due to data availability. This study also only focuses on the company's internal variables, so that future researchers can use a wider range of data and external variables to enrich the diversification effect. Practical implications: This study has several important policy implications for banks regarding a detailed description of the benefits of asset diversification and income diversification. In addition, the results of this study can also be used as a reference for policy makers, especially the government if they want to build an ideal NOM ratio for the Islamic banking industry by establishing regulations related to the efficiency level of Islamic banking in carrying out financial intermediation activities. Originality/value: This study contributes to the recent literature that presents the role of income diversification and asset diversification on the sensitivity of the determinants of Net Operating Margin (NOM) in Islamic Commercial Banks (ICB) in Indonesia.