Reforms to Côte d'Ivoire's banking industry

Banking regulations across the UEMOA region have been expanding in scope over the 2016-18 period, centred around three key pillars: namely the introduction and enforcement of new minimum capital requirements; the migration to the Basel II and Basel III frameworks; and cross-jurisdictional collaboration between West African central banks.

New Capital Requirements

One of the most significant regulatory changes affecting the Ivorian banking sector in recent years has been the increase in capital requirements. The Central Bank of West African States (Banque Centrale des États de l’Afrique de l’Ouest, BCEAO) mandated that banks in the region be capitalised to a minimum of CFA10bn (€15m) by end-June 2017. The aim of this measure was to improve solvency in the system, but this is proving particularly challenging for smaller banks. In its country report published in December 2017, the IMF noted that, “While most banks have already complied with the new minimum bank capital requirement of CFA10bn (€15m) ahead of the mid-2017 deadline, stronger enforcement of capital standards is needed for four smaller banks.”

While the sector currently appears to be reasonably well capitalised at an aggregate level, the risk-weighted capital-adequacy ratio (CAR) has fluctuated from 10.1% at end-2014 to reach 8% by end-2016. As lending has surged in recent years, assets have grown much faster than capital has been raised, which helped explain the decline. However, by mid-June 2017 the CAR had rebounded, and is currently close to 10%. As the remaining banks take steps to meet the BCEAO’s minimum capital requirement of CFA10bn (€15m), a recovery in the aggregate capitalisation ratio is expected to follow.

Migration To Basel Ii & Basel Iii

In June 2016 the Council of Ministers of the UEMOA region adopted a suite of regulatory reforms, which included the phasing in of Basel II and III norms over a five-year period beginning on January 1, 2018. The most significant change was the increase in the minimum capital requirement from 8% of total assets to 9% of risk-weighted assets, comprising a minimum 6% Tier-1 capital, of which no less than 5% should be common equity. There is also to be a further common equity capital conservation buffer of 2.5%. Thus, though minimum capital requirements are to be raised, the shift to risk-weighted calculations of assets means that the more creditworthy the loans and other instruments on the asset side of the banks’ balance sheets are, the less capital will be needed to cover them. Given that the capital adequacy ratio of the Ivorian banking sector was 8% as recently as the beginning of 2017, just in line with the regulatory minimum, the capital-raising requirements in 2018 are likely to be significant in order to meet the new thresholds, above and beyond the efforts of banks to meet the separate CFA10bn (€15m) regulatory minimum.

Risk-Weighted Challenges

Under the Basel III framework, banks will need to apply risk-weightings to their lending portfolios. In practice this is likely to lead to a certain degree of credit rationing whereby less creditworthy borrowers may struggle to access credit. At the same time, because of the way they are treated in risk-weighted lending models, the most creditworthy borrowers – those with “AAA” or “AA” ratings, for example, will become more attractive to the banks as borrowers. In turn, this may divert credit portfolios towards sovereign and high-grade corporate bonds. On balance though, the phasing in of the new standards, combined with the gradual reduction in single obligor limits is likely to see banks diversify their lending portfolios.

At present, risk-weighted asset modelling on the basis of variable counterparty risk is only carried out to a limited extent in Côte d’Ivoire. Apart from the more stringent capital requirements, the gradual move to risk-weighted balance sheet management is likely to pose both financial and human resources challenges at the level of individual banks, and could foment organisational change. This burden is likely to be felt most acutely by smaller banks and by those which cannot call on parent banks for fresh capital or for the expertise and manpower needed to implement the new risk-weighting models.

The sector’s migration to Basel II and III standards will also help to put pressure on banks to further improve their risk-governance arrangements, putting in place robust mechanisms and methods to manage lending portfolios efficiently while ensuring the relevant risk ratios are respected and reporting requirements are met. This is also likely to entail significant investments in technology. “Basel III standards will impose stricter transparency rules, which will help develop the inter-banking market by allowing us to assess the stability of peers and thus make informed decision about who to work with,” Jean-Louis Mennan-Kouamé, CEO of BICICI, told OBG.

Less Concentrated

The Council of Ministers also reduced the single obligor limit from 75% of total regulatory capital to 25% of Tier-1 capital, significantly reducing the extent to which any bank can be exposed to a single counterparty. This reduction is to be phased in, from a 65% limit in operation in 2018 to 25% in 2021. While enforcement of the limit has not traditionally been strict, increased compliance is likely to constrain banks’ margin for manoeuvre, and should see a reduction in the concentration of lending portfolios around a small number of big borrowers. “Banks relying on few major clients will need to diversify their portfolios if they seek to play a role in financing the economy, particularly given the rollout of the Basel regulations,” Charles Daboiko, CEO of Ecobank, told OBG.

Less Risk, Less Reward

In 2013 the return on equity (ROE) of the banking sector was 17.4%, while the top-tier Ivorian banks are regularly able to achieve ROEs at double this level. Attaining such strong profitability is likely to be more challenging in the future, however, under the Basel III regime. On the one hand, compliance costs are expected to rise significantly, which will hurt the bottom line. On the other hand, leverage levels will be reduced as capital requirements are increased, while the application of risk-weightings to lending portfolios is anticipated to divert lending to relatively more creditworthy borrowers to whom banks will need to offer more competitive lending rates.

Similarly, while the concentration of lending to relatively few large corporate borrowers has proved to be a very profitable business model in the past, it may have left some banks over-exposed to default risk. With the phased reduction of the single obligor limits, the level of default risk is likely to be reduced, but at the cost of reduced profitability.

Capital Market Impact

The new regulatory framework is likely to change needs, incentives and therefore behaviour of actors in the capital markets as well. “At the moment, the local bond market is dominated by sovereign bonds. As we migrate to the Basel III regime, it will make sense for banks to shift their asset mix more towards corporate bonds and less to traditional loans to take advantage of more favourable risk coverage rules and stable funding requirements,” Dominique Banny, director of client coverage for West Africa at Standard Bank, told OBG.

If local rates are driven up as a result of regulatory changes, this is likely to make borrowing in euros and dollars relatively more attractive. This would reinforce the trend already in evidence with respect to Ivorian government debt and, in the absence of hedging arrangements, could lead to increased exposure to adverse currency movements in the banking sector as well as in the corporate sector.

Joint Surveillance

The third major initiative of the Council of Ministers in June 2016 was the introduction of consolidated supervision of banks and financial holding companies across the UEMOA region. This means that the totality of a financial group’s operations across the region are considered together, allowing the authorities to get a better grasp of the risks it faces. The BCEAO has also been stepping up collaboration with other central banks further afield. “There has been a noticeable increase in the surveillance of local banks and parent banks jointly by the BCEAO and the central bank in the jurisdiction of the parent bank,” Banny told OBG. “We have seen increased cooperation with the Moroccan and Nigerian central banks, in particular. This means that the central banks ‘learn by doing’ and both get better at applying the rules to banks operating across multiple jurisdictions.”

Protecting Consumers

In October 2017 the IMF highlighted a number of institutional and regulatory measures planned by the authorities to improve consumer protection and financial inclusion. In particular, an observatory for the quality of financial services is to be created to promote transparent and comparable financial services, better manage user complaints about financial services and help to strengthen financial education.

The authorities also plan enhance the Information and Credit Bureau and encourage greater usage of its services. When first established in mid-2015, the organisation was the first such credit bureau operating in the UEMOA region.

Over the longer term, these regulatory reforms, combined with a more rigorous enforcement of rules and regulatory requirements across the board, is expected to increase the solidity of the banking sector in Côte d’Ivoire and across the UEMOA region. However,there are concerns that this will bring with it reduced lending, increased borrowing costs and reduced profitability for the banks. It is also widely expected to foment consolidation in the banking sector, with an elevated level of merger and acquisition activity expected in the medium term.