A Weak Macroeconomic Climate: A Clog in the Wheel of The Nigerian Banking Industry?

LAGOS, Nigeria, Capital Markets in Africa: Over the last two years, the Nigerian economy has contended with severe pressures primarily on account of the plummeting price of crude oil. In addition to reducing federally collected revenue, the external reserves have also maintained a downward trajectory. The situation was further aggravated by a renewed militancy in the oil producing region, changes in political administration and the delays in the clear articulation of an economic direction by the new government. All this culminated in high inflation and low capital importation leading the country to slip into recession after negative GDP growth were recorded in the first two quarters of 2016. The Nigerian banking industry has been significantly affected by the downturn in the economy as well as the fiscal
policies instituted to address the economic challenges. This is evident in the high level of non-performing loans, the creation of risk assets, stunted profitability and poor capital adequacy. The weaknesses in the risk management framework of Nigerian banks were also exposed by the prevailing economic challenges.

The gloomy economic climate has heightened credit risk in the Nigerian economy. As a result, the appetite of Nigerian banks for risk asset creation has waned considerably. In 2015, growth in the industry’s net loans was muted despite the naira devaluation during the year which increased the value of foreign currency dominated loans. The efforts of the Central Bank of Nigeria (CBN) to stimulate lending by reducing the monetary policy rate (MPR), credit reserve ratio (CRR) and providing incentives to lending to some sectors during the year were also not successful. Although we expect the industry’s loan portfolio to grow by 13% in 2016, this is premised primarily on the depreciation of the domestic currency and its impact on the foreign currency component of the loan book.


Over the last five years, Nigerian banks leveraged the divestment of oil assets by the international oil companies to increase their exposure to oil and gas sector by lending to indigenous companies that acquired these assets. The Eurobonds raised by the banks funded these transactions that were usually denominated in US dollars. The assets were valued using high crude oil price as the commodity was trading above $100 per barrel during this period. As a result, the industry’s exposure to oil & gas sector spiked to 22% of total loans as at 31 December 2015.  Unfortunately the plummeting crude oil price significantly reduced the cash flows of oil companies with some unable to meet their loan obligations. Although the banks restructured most of their oil and gas loans, about 11% of the exposure to this sector were impaired as at 31 December 2015. This propelled a 127% spike in the industry’s non-performing loans (NPLs) during the year to N875 billion as at FYE 2015, the highest in the last five years. This represented 7.7% NPL ratio (non-performing loans to gross loans), more than twice the 3.2% recorded in 2014.

The foreign currency demand management policies introduced by the CBN to reduce the depletion of the external reserves which affected the ability of corporates to source inputs in addition to declining consumer purchasing power contributed to the increase in impaired credits in the manufacturing and general commerce sectors. The inability of some state government to pay salaries as well as staff rationalisation also increased delinquency rate of personal loans. As at 31 December 2015, about nine banks recorded NPL ratio above the 5% regulatory maximum. Subsequent to year end, the industry’s NPL ratio increased further to 10% in Q1 2016. We however note that the bulk of the Industry’s impaired credits are concentrated in some banks with only one of the top five largest banks recording NPL ratio above the regulatory threshold. The deterioration in the loan book resulted in the loan loss expense more than doubling to N365 billion and accounted for 26% of net interest income.


In 2016, the story remains the same. The devaluation of the domestic currency coupled with non-abating economic pressures remain the most significant factors responsible for increases in the impairment levels in the industry. One bank recorded NPL ratio of 77% as at H1 2016 one bank had recorded an NPL of ratio of 77%.” “In August 2016 the CBN responded to the high impairment levels in the industry by granting a one-off forbearance for banks to write-off fully provisioned loans without awaiting the mandatory one year period. As a result, we anticipate that the industry’s NPL ratio will stand at 12.5% as at FYE 2016, despite the ravaging macroeconomic headwinds as Nigerian banks leverage this policy to reduce their level of impaired credits.

The macroeconomic pressures impacted the performance of Nigerian banks with pre-tax return on average equity dipping to 13.3% as at FYE 2015, the lowest in the last 5 years. Foreign exchange income plummeted by about 58% on account of the foreign currency regime of the CBN which significantly reduced the volume of trade transactions. This resulted in the Industry’s non-interest income declining by 6% during the period under review. We however noticed increased push for electronic banking income. The number of POS terminals deployed in 2015 increased by 34% resulting in the volume of transaction consummated on the platform increasing by 74%. Most banks expanded their ATM network while one bank introduced a new payment channel.

In response to the economic pressures, most banks are adopting measures to reduce operating costs. Cost to income ratio remained elevated at 73% in 2015 relative to 68% recorded in 2014. Despite staff rationalisation as well as other cost containment measures adopted in 2016, we believe the inflationary pressure in the economy will increase operating expenses by at least 10%. Conversely, the low government spending on account of the late passage of the 2016 budget, difficulties in accessing anticipated borrowings and persistent challenges in the foreign exchange market will keep the income of the Nigerian banks low in 2016 in our view. Based on these factors, we anticipate further decline in the profitability of the banking industry in 2016 with a single digit pre-tax return on equity.


Capital Adequacy remains resilient

The capital base of the industry will remain adequate despite the economic pressures. As at 31 December 2015, the industry had core capital of _3.7 trillion and each of the banks had capital base above the regulatory minimum. During FY 2015, two banks successfully conducted rights issue exercises to shore up their capital base. Secondary capital comprising long term borrowings also grew by 39% supported by the Eurobond raised by one bank and the devaluation of the domestic currency which increased the naira value of foreign currency borrowings. Nonetheless, the Basel II computed capital adequacy ratio (CAR) of some of the banks were impacted negatively by the ravaging macroeconomic headwinds. Two banks recorded CAR  below the regulatory threshold while one other bank’s Basel ratio was at the regulatory minimum as at 31 December 2015.


As at the same date, the CAR of some banks were also below their internal benchmark. We expect the industry’s capital base to remain resilient in 2016, although pressured due to the macroeconomic climate. The macroeconomic pressures have exposed the weaknesses of the risk management practises in most Nigerian banks. Most banks that breached the CBN sectoral limit especially in the oil and gas sector suffered significant deterioration in their loan book.

Banks with inadequate collateral coverage and poor quality collateral were also exposed. The non-adherence to the CBN policy on insider related credits was also revealed as some  director related loans became impaired. Nigerian banks are using the prevailing challenges to fortify their risk management framework. Some banks have engaged independent consultants to review their risk management practises while some others have implemented reforms needed to mitigate prevailing risks. The remedial and recovery processes of most banks were also strengthened while most credit requests are now scrutinised more rigorously. We believe compliance is key to success here. Nigerian banks are operating under stressed market condition which has led to the banks transforming to a defensive mode. We expect the performance of banks to be subdued in the near term and outlook for the industry is negative.


By Ayokunle Olubunmi, Analyst, Agusto & Co., Lagos, Nigeria

This article features in the INTO AFRICA October 2016 edition, which focuses on the Banking Sector in Africa and is titled Banking in Africa: The current status.

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