Insider-Loans, Rising Risk Appetite Raise Prospects of Higher NPLs in Banks

CBN Office Abuja

In 2012, most banks were able to operate within the threshold of the five percent limit for non-performing loans as stipulated by the Central Bank of Nigeria (CBN). However, the spectre of legal tussles against delinquent borrowers including some directors of banks are raising the fear that banks’ Non-Performing Loans in 2013 may surpass the limit set by the CBN, reports Festus Akanbi

If feelers emanating from the banking industry are anything to rely on, then the full year financial reports of banks for the 2012 operation year may begin to emerge anytime from this month.

What this means is that the Central Bank of Nigeria (CBN), as the apex supervisory body in the banking industry should be in the custody of most of the results by now.

However, as other members of the banking community continue to speculate on the qualities of results to be churned out by the various operators for the period under review, there are fears that some of the banks are likely to run foul of the CBN’s directives on the level of non-performance loans in their kitty for the 2013.

Industry watchers had raised the alarm that banks are likely going to exceed the five percent limit on non-performing loans given the declining yields from fixed income securities; the fact that Assets Management Corporation of Nigeria (AMCON) has foreclosed the possibility of further purchase of bad loans; and a regime of the competition-induced aggressive risk assets creation.

Legal Tussle with Delinquent Borrowers
Industry operators who raised the alarm pointed to series of court cases instituted by banks to recover loans granted to some delinquent customers as well as legal battles against some bank directors over insider-related facility. The ongoing legal duel between Access Bank Plc and Capital Oil and Gas is one of such moves against controversial debtors.
As at the July 2012, the total industry NPLs was as high as N339.88 billion, about 4.29 percent of total banking credit of N7.87 trillion. AMCON purchase of NPLs in the industry for last year was over N5trillion, out of which about N1.7 trillion was invested in bonds due for redemption at the end of this year.

CBN’s Pre-emptive Strike
In what could be described as a pre-emptive strike, the apex bank a fortnight ago warned banks against excessive concentration of credit risks in their asset portfolio to boost their capital adequacy profile.
Part of the factors that caused the recent crisis in the Nigerian banking industry were the systemic weaknesses, which allowed operators to concentrate on certain products, business lines and legal entities, the collective exposure of which negatively affected the banking system.

But the Central Bank’s Director of Banking Operations Tokunbo Martins, in a fresh circular to all banks and discount houses, underlined the importance of proper management of needs through the establishment of sound risk management processes in their operations.

Consequently, the apex bank said it had reviewed the risk weights assigned to some identified exposures, irrespective of its existing risk management control guidelines for banks and discount houses to check credit concentration risks.

According to the CBN, the risk weight assigned to direct lending to local governments, states, government ministries, departments and agencies, MDAs has been raised from 100 to 200 per cent, while investments in Federal Government bonds would continue to attract zero per cent risk weight.

The same weight is not for state government bonds, which is expected to continue to attract a risk weight of 20 per cent, particularly those that meet the eligibility criteria spelt out in the guidelines for granting liquidity status.

Where the exposure to any economic sector, defined by the International Standards Industrial Classification of Economic Sector as issued by the CBN, is above 20 per cent of the total credit facilities of the bank, the CBN said the risk weight of the entire portfolio would be 150 per cent.

Urging strict compliance to the directives, the CBN clarified that total exposure to a particular industry would cover-off balance sheet engagements in which the banks takes the credit risk, pointing out that all breaches of single obligor limits without prior approval by the CBN would be regarded as impairment to capital.

Similarly, the Central Bank said banks’ related entities in a holding company structure would include the financial holding company, FHC, and other subsidiaries within the group, for purposes of credit transactions, adding that such transactions would be treated as a loan liability.

But some analysts while commending the CBN over recent restrictive directives on banks’ operations urged it to beef up its manpower for the challenges and improve on its risk-based supervision.

“It is important for banks to understand that risk management and corporate governance are not a destination, it is a process. As soon as we understand anything that constitutes risks, we would take appropriate steps to make sure that we avoid those risks from crystallising,” Sanusi said in a response to a directive barring Holco banks from lending to subsidiaries.

Bismarck Rewane, chief executive officer, Financial Derivatives Company, in his monthly presentation at the Lagos Business School breakfast meeting said AMCON’s continued purchase of bank’s non-performing loans in 2012 helped improve banks’ balance sheets generally, with the result that most banks non-performing loans ratio was below five percent.

“This may imply that banks have to watch their risk creation more carefully, as there will be no AMCON to take the burden off their books. AMCON’s position also means that there is likely to be some banks NPLs going above the CBN recommended five percent limit by the end of 2013,” he said.

Speaking further, Rewane said, “As at third quarter, most banks could have almost covered their cost of operations just by investing in government securities. A bank, for example, earned 45.1 percent of interest income from treasury bills and government bonds, compared to 51.9 from loans and advances.”

Rewane said consequently margins of banks would be threatened by heightening competition “as yield in government securities, hitherto a safe and rewarding haven for the banks, continues to fall.”

Financial Intermediation
A leading financial analyst, and Head Research and Intelligence, BGL Plc, Mr. Olufemi Ademola, in his response to the anxiety expressed in certain quarters over the speculations on possible jump in banks’ NPL portfolio said “The role of banks is financial intermediation; i.e. deposit taking and loan creation. However, in recent times, Nigerian banks have reduced lending activities, which is considered detrimental to economic growth; hence the pressure on banks to increase lending.” According to him, the pressure is from two sources. First is the potential reduction in interest rate, explaining that the high demand for the securities would lead to lower yield on fixed income instruments.

Creating a scenario that will engender lending activities in banks, Ademola said, “Since a significant portion of banks’ profitability has been from securities trading, the disappearance of huge returns could affect the bank’s profitability; hence the banks would be forced to focus on financial intermediation. Secondly, government efforts at reforming the real sector may douse the general reluctance of banks to lending and thus jump-start interest in lending to the sectors.

“Increased lending would also lead to higher non-performing loans, possibly breaching the maximum regulatory NPL ratio of 5%.
“Already a number of the banks still have NPL ratio in excess of 5%. However they have achieved considerable success in bringing the ratio down from over 10% previously. Right now, the banks are not very disposed to lending due to the risky business environment. In addition, the stance of the CBN on risk management also added to the banks non-disposition to lending. However, rather than discourage lending totally, I think the stringent monetary policy of the CBN will lead banks to pass all credit requests through very rigorous process, which may delay loan approvals and reduce the number and amount of loan requests granted. With increased pressure for loan creation, the risk of growing NPL ratio exists but an effective and thorough risk management process, sector-focused and increased capacity building for expertise in selected sectors can help mitigate the risk of growing NPL.”

AMCON was established in 2010 to buy up the non-performing loans of the nation’s banking system and recapitalize eight fragile banks that almost collapsed but for the timely intervention of the Central Bank of Nigeria (CBN).

Reacting to the fear that AMCON’s decision to stop purchase of loan could lead to the growth of NPLs in banks, the BGL official said, “In my opinion, I think it is about time that AMCON stops acquiring bad loans from banks so as to prevent the moral hazard of banks selling all troubled assets to the corporation without even thinking of any remedial situation. The corporation should exist to resolve non-performing loan assets of banks only when the situation prevents the banks from functioning efficiently and effectively. The continuous purchase of assets from the banks would turn the corporation to a dump site of all bad assets and prevent the banks from strengthening their risk management processes.

“Although, the corporation has argued that the painful haircut to the assets of banks when they are sold to AMCON would prevent this problem, I think that despite the discounted valuation of the assets, the possibility of selling to the corporation quickly is less painful to the banks than having to work out remedial situation for obligors, which most times takes a long time and requires write offs and forbearance. Hence, in my opinion, the stoppage of purchase of bad assets by AMCON (for now), is a good idea.”

Banker’s Perspective
However, Managing Director/Chief Executive, Wema Bank Plc, Mr. Segun Oloketuyi, said it is too early for anybody to talk about the direction of banks’NPLs.

“Nobody has released its full year results for last year, so I think it is speculative to say that banks’ NPLs may breach the CBN directive, he said, stressing, however, that it is unprofessional for banks to continue to use the vehicle of AMCON for the management of their non-performing loans.

“Banks should devise a robust strategy to manage their risk assets by making sure that whatever risks they take do not affect their books,” he said.

The Wema Bank boss wants the banking public including shareholders to exercise patient and allow banks to get their results out instead of speculating on the size of their non-performing loans.

In his contribution, Rewane said the situation may not be as bad as being speculated. He believes virtually all the banks have adequate capitalisation and a regime of new supervisory environment.

He noted that banks were now risk averse given the fact that they are no longer supporting to projects enthusiastically.