Measuring Digital Transformation - The 'Profitability Paradox' and Digital Capabilities

There is an ongoing debate as to whether digital transformation increases bank performance. Beccalli (2007) argues in favor of a 'profitability paradox' indicating that investments in information technology do not increase bank performance. Prior banking literature has found diverging empirical evidence. We suggest new measures of digital transformation extracted from U.S. banks' annual reports by using text mining methods. These measures distinguish between digitalization investments and digital capabilities as is common in the information systems literature. Our results support the 'profitability paradox' for sole digitalization investments, but find a positive link between bank performance and digital capabilities. This helps to better understand the diverging results in the literature. Interestingly, capabilities related to IT infrastructure are identified as a central driver of bank performance