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Comments
on Soludo's Consolidation of the Nigerian Banking Industry By Dr.
Yerima Lawan Ngama
1.
Introduction The
new Governor of the Central Bank of The
First Phase is to consolidate and strengthen Nigerian banks so as to
achieve the following: ·
Ensure
a diversified, strong and reliable banking sector. ·
Ensure
the safety of depositors money, ·
Play
active developmental roles in the Nigerian economy, ·
Be
competent and competitive players in the African regional and global
financial system. The
Second Phase will involve encouraging the emergence of regional and
unit/specialized banks. The
Governors listed thirteen major elements of the reform on which he is
having some preliminary thoughts
and asked all to come up with comments and suggestions before the
thoughts are finalized and turned into policy. Some of the key elements
of the reforms include the following: 1.
Requirement
that the minimum capitalization for banks should be N25 billion with
full compliance before end-December 2005. •
Only
the banks that meet the requirement can hold public sector deposits, and
participate in the DAS auction by end 2005. •
Publish
the names of banks that qualify by 2.
Consolidation of banking institutions through mergers and
acquisitions. 3.
Phased withdrawal of public sector funds from banks, starting in
July 2004. 4.
Adoption of a risk focused, and rule-based regulatory framework. 5.
Adoption of zero tolerance in the regulatory framework. 6.
The automation process for rendition of returns. We
believe each of the thirteen elements of the reform (including those not
listed above) will require a paper on its own.
Hence the purpose of this paper is to comment on the first
elements only: namely the increase of banks’ minimum capitalisation to
N25 billion. Part II of the
paper will discuss the second element of the reform, that is, the
consolidation of banking institutions through mergers and acquisitions. 2.
Capitalization Requirement Throughout
the history of the regulation of the Nigerian Banking System, the
drafters of our laws and regulations have often fell into the problem of
thinking in absolute rather than relative terms.
The issue of specifying a minimum paid-up capital for banks and
monetary penalty for breaches have always been stated in absolute terms.
As a result, whenever the banking industry grows either in real
or nominal terms the authorities quickly revise the minimum paid-up
capital or the penalties upwards. Hence
from the minimum paid-up capital has risen from N6.00 million in the
early 1980s to N12.00 million to N20.00 million to N40.00 million to N50
million to N1.00 billion (N2.00 billion for new banks) and now is on its
way to N25 billion. This
problem will continue to persist so long as we continue to state our
minimum capitalisation requirement in absolute terms. A
major problem with the use of minimum paid-up capital as a way of
strengthening a bank is the fact that it concentrates on only one
element of a bank’s capital base.
Many banks can meet or even exceed the required minimum paid-up
capital but still fail to meet the Capital to Risk Weighted Asset Ratio
(CRWAR) either due to the size of the risk assets they are carrying or
due to inadequate or even negative capital reserves.
Hence the most appropriate statistic to use in Capital Adequacy
legislation is the CRWAR. The
issue of minimum capitalisation is something that should be on-going and
predictable and not one that should be dropped like a bomb shell!!! Please
note that it is actually not clear from both the Governor’s speech or
all the follow-ups and commentaries, whether the required N25 billion
refers to the Paid-up Capital or Shareholders’ Funds or to the sum of
Tier I, Tier II and Tier III capital as defined by the new Basle Accord. This
issue is important because if what is required is to increase Paid-up
Capital to N25 Billion, then each of the 89 banks has to inject not less
than N23 billion, giving a total requirement of N2.047 Trillion.
What will they do with N2.047 trillion?
Bid for Foreign exchange? Establish more branches? The
new minimum capital requirement did not say what our banks are expected
to do with the N25 billion. Even
if we assume that the minimum capitalisation refers to the shareholders
funds, it still has little justification:
why N25 billion? Furthermore
the requirement sounds like a one-size-fits-all.
Should IBTC and Union bank of Nigeria Plc require the same
minimum capitalisation in naira volume?
Theoretically a bank’s shareholders’ fund is supposed
to finance its investment in fixed asset.
Hence a minimum Equity to Fixed Assets Ratio of 1.00 is always
required. (Note that banks
classify some fixed assets as Other Assets, these should be adjusted
for). So a bank needs as
much capital as its fixed assets requirement.
The reason for setting a Minimum Paid-up Capital is actually to
ensure that a new bank has enough capital to cover its fixed assets
requirement so that depositors’ funds are not used to fund fixed
assets. It is important to
point out that specifying a Minimum Shareholders’ Funds is
meaningless. The Capital to
Risk Weighted Assets Ratio (Total Qualifying Capital divided by Total
Risk Weighted Assets) is the only criteria for determining capital
adequacy. So since the
internationally accepted minimum (Basle Accord) is 8 percent, once a
bank meets the recommended minimum CRWA ratio the quantum of its
Shareholder Funds is not an issue.
From
current published results only First Bank Plc and Union Bank Plc have
Shareholders’ Fund in excess of N25 billion and hence can qualify as
at today. While UBA, Zenith
International Bank, Guarantee Trust Bank Plc and Standard Trust Bank
will qualify if they succeed in their current efforts to raise capital
from the stock market. This
will, however, only reduce the total requirement to N1.867 Trillion
(assuming that the average shareholders fund of the other 83 banks is
N2.5 billion). Can the other
83 banks raise N1.867 Trillion? The
answer is definitely NO, they cannot, and the market does not have such
funds. Hence the only option
left is for them to merge into a maximum of ten banks.
This will thus leave the system with between eleven to seventeen
banks. 2.1
Will this so-called consolidation improve the risk rating of
Nigerian bank? The
above consolidation will not improve the risk rating of the new
resultant banks. Aggregating
several banks will increase both the capitalisation and risk assets at
the same time. Hence the new
bank will have the average Capital Adequacy Ratio, Liquidity Ratio,
etc., of all the banks that merged.
In particular CBN has stated that no bank in Assuming
nobody will like to merge with the Unsound banks and the two that failed
to render returns are also Unsound.
Also assuming that only two out of the six banks could meet the
requirement on their own are Sound and that only 38 banks, as speculated
by ThisDay of July 12 2004, page 13, could successfully merge into five
new banks, then at the end of this Soludo exercise we will have the
following picture of the Nigerian banking system: TABLE
1: POSIBLE PICTURE OF THE
BANKING SYSTEM
What
will CBN do with the 44 banks that could not find partners to merge?
The Governor said he will publish their names in the papers on 2.2
Could the requirement lead to the inflow of investment from
abroad? It
is not clear if any of the foreign banks will like to increase the level
of capitalisation beyond what will ensure compliance with the Basle
Accord. The problem is that
of double regulation and parent company policy. First, if the home
Central Bank is satisfied with their level of capitalisation why should
they increase it unnecessarily. Secondly
most parent companies have a policy of maximising repatriation of profit
home, since the parent bank could assist in the provision of finance
beyond the single obligor limit of the local subsidiary.
Thirdly, the business strategy of the foreign bank is to serve
the multinational companies and the corporate customers only, hence they
may not be interested in mergers or acquisitions.
Hence the most likely outcome is that the parent banks will
inflow capital to increase the level of capitalisation of the
subsidiaries to N25 billion. This
will, however, be followed with an increase in the exposure limits of
the local subsidiary, so that the increased capital is utilised
optimally in taking over more business as a result of possible run on
the banks that fail to meet the requirement. It
is also possible that some foreign banks or finance institutions will
like to take advantage of the reduced bargaining power of local banks
and offer to take them over or buy significant shares in them.
Such local banks will have little room to extract maximum benefit
of such transactions because they just have to reach an agreement to
meet the new capitalisation requirement. 2.3
Will meeting the minimum capital requirement leads to the
achievement of all the objectives identified by the Governor? A
good policy must have clearly identified objectives.
The policy recommendation must also address all the objectives,
otherwise other consistent policies should be added and implemented
simultaneously. The problem
with the current minimum capital requirement is that it is consistent
with, but not sufficient to meet all, the four objectives that the
Governor set out to achieve. Let’s
now analyse the minimum capital requirement against each objective: 2.3.1
Ensure a diversified, strong and reliable banking sector. The
new reform is divided into two phases:
the first which will end on We
must now go back on the licensing of all banks in 2.3.2
Ensure the safety of depositors’ money The
presumption that consolidation will ensure safety is faulty.
A bank’s size is a function of the size of the National
Economy, the age of the bank and its branch spread. On the other hand
the health of a bank depends on the level of its corporate discipline,
its credit culture, its operational efficiency and its management
information system. Any big bank that failed to develop these attributes
of a healthy bank will sooner or later fail. We have seen the likes of
National Bank, ACB, Savannah Bank and Bank of the North.
Hence too much emphasis on size rather than health is a mistake.
Take Corporate Discipline, for example, this can make any merger
to end up with more problem than envisaged.
It can be easier for
about 80 banks shrunk to about 12 within one year in Another
problem of not allowing different variety and sizes of banks is that the
power of the regulatory authorities will be paralysed.
Suppose we have ten big banks they can all decide to ignore CBN
directives and there is nothing CBN can do: each of them is too
big to be allowed to fail. Our
experience in the last twelve years has shown that it is easier to
discipline or even manage the failure of a small bank than that of a big
bank. Banks should not be
allowed to feel invulnerable. 2.3.3
Play active developmental roles in the Nigerian economy For
me this is the most important objective of the reform.
Whatever type of banks we have if they fail to achieve this
single objective than they are not worth anything.
It is a pity that this is in fact the only objective that the
minimum capital requirement has failed to address.
To drive this point let us consider two banks: Rent
Bank Plc Capital
base:
N30 Billion; Branches:
4: Credit
Portfolio: 60% Import Finance Facilities, 20% leases to
Multinationals, 15% other loans to Large Corporates and 5% to High
Networth Individuals. Development
Bank Plc Capital
base:
N14 Billion; Branches:
260 branches spread in all the Senatorial Zones of the country. Credit
Portfolio: 30% Import Finance Facilities; 20% other
loans to Large Corporates; 20% loans and overdraft to Small and Medium
Scale industries; 15% Local Contractors; 15% Agriculture; and 10% Small
Business working capital finance. From
the “preliminary thoughts” of the Governor Rent Bank Plc is better
than Development Bank Plc. Hence
he will appoint Rent Bank Plc to: a)
One
of the banks recommended to Nigerians to patronise. b)
Be
a wholesale bidder in the Foreign Exchange Market c)
Keep
the Nation’s Foreign Reserve. d)
Hold
the accounts of the Public Sector. Note
that Rent Bank Plc is actually the same caricature
bank the Governor referred in his speech.
Hence from the above illustration it is obvious that it is faulty
to reward banks with the above incentives solely based on their ability
to raise their capital base to N25 billion.
More conditions, that are in line with our national economic
development priorities, most be added if the reform is actually intended
to serve our national interest. 2.3.4
Be competent and competitive players in the African regional and
global financial system. All
things being equal, the minimum capital requirement will not help in
achieving this objective. To
start with we have noted that the Nigerian economy is small: the N2.047
Trillion is not there. That
is why the governor recommended mergers.
But mergers will not increase the size and financial strength of
the banking industry. The largest
bank in 3.
Conclusion From
the foregoing it is obvious that the Governor has identified the major
problems of the banking system and also set the proper objectives for
the reforms that are needed. The
only problem is the prescription. I
believe that an eclectic approach is what we need rather than a single
prescription. What we want
is for our banks to be: a)
Financially
strong, b)
Sound
and safe, c)
Widely
spread so as to reduce the volume of money outside the banking system. d)
Able
to fund the economic priority areas as identified in our national
development plans. Only
banks that meet these four requirements should be supported (or is it
pampered) with the incentives the Governor is offering.
To conclude, therefore I am recommending the following minimum
requirements: TABLE
2: RECOMMENDED MINIMUM
REQUIREMENTS
Note
that specifying a minimum Shareholders’ Funds is meaningless.
The Capital to Risk Weighted Assets Ratio (Total Qualifying
Capital divided by Total Risk Weighted Assets) is the only criteria for
determining capital adequacy. Universal
Bank Type I: These should
the banks that will be allowed to enjoy the following incentives: a)
Hold
the National Reserve funds b)
Hold
Public Sector funds (Federal, States and LGs). c)
Act
as Wholesale dealers at DAS. d)
Act
as Settlement Bank to others in the industry. Universal
Bank Type II: These should
the banks that will be allowed to enjoy the following incentives: a)
Hold
Public Sector funds (States and LGs only) b)
Act
as Wholesale dealers at DAS. c)
Act
as Settlement Bank to others in the industry. All
other banks will not be qualified for the above incentives, the only
exception being that Investment and Specialised Bank can handle Public
Sector Projects due to their special expertise. The
good thing about this approach is that it is development oriented: a
bank must identify with our national economic development and remain
healthy to be qualified for the incentives.
The present capital requirement does not require a bank to
identify with our national economic developmental needs.
It
is obvious that the above proposal implies a shift in the time limit for
compliance. Hence the
minimum paid-up capital, ratio of credit to priority areas, liquidity
ratio and capital adequacy ratio should be met by |