Lending to the Nigerian private sector increases

Against the backdrop of a slowing economy and low oil prices, the Nigerian banking sector – filled with heavyweight regional players and the largest sector on the Nigerian Stock Exchange (NSE) – has sought to play an increasingly important intermediary role, facilitating efforts to diversify the economy through increased private sector credit and lending to small and medium-sized enterprises (SMEs).

However, macroeconomic conditions, including a depreciating currency and changes to the government’s fiscal policy, are impacting the ability of banks to deploy capital in the real economy. Furthermore, the Central Bank of Nigeria (CBN) has unveiled a number of plans to tighten the risk management of the sector and further reduce the exposure of banks to government debt, all of which could herald significant changes to the competitive landscape.

INDICATORS: There are 27 banks operating in Nigeria, a figure that has barely changed since a 2004 wave of consolidation reduced the number from 89 to 25. Of these institutions there are 21 commercial banks, five merchant banks and one non-interest bank. As of December 2015, there were 5468 branches in Nigeria and two abroad. According to CBN data, total assets for commercial banks grew by 2.3% in 2015, reaching N28.1trn ($88.7bn, at the time of printing). This followed 13.1% year-on-year (y-o-y) growth in assets in 2014 and 14.2% a year earlier. Merchant banks and non-interest banks enjoyed much stronger asset growth in 2015, with rises of 19.6% and 24%, respectively. However, these increases were both achieved from much lower bases, with combined banking assets of N251.4bn ($793.7m) as of end-2015.

Listed financial services companies, including insurance firms, posted a market capitalisation of N2.66trn ($8.4bn) in June 2016, representing 15.4% of the NSE total. The financial services industry is the second-largest industry after industrial goods by market capitalisation on the country’s exchange. Furthermore, the trading of bank shares is responsible for much of the exchange’s liquidity, making up 93% of equity turnover volume on the NSE in the final week of 2015. In 2015 share prices fell for banks listed on the NSE alongside the broader market: the banking index dropped by 23.6%, while the all-share index decreased by 11.5%. Dividend yields remain strong, however, and although GDP growth slowed considerably in 2015, several major banks, such as Zenith and Guaranty Trust Bank (GTB ank), maintained or increased dividend payments in the fourth quarter of 2015, providing investors with a steady stream of income and offsetting dips in share prices that are expected to continue.

The financial (non-insurance) sector contributed 2.7% to GDP in 2015 at 2010 constant prices. Total lending rose 15.2% y-o-y in 2015 to N52.9trn ($167bn). In terms of lending activity, the upstream and downstream oil and gas sectors accounted for 25.2% of lending activity in 2015, a slight increase from 23.1% in 2014. Other major recipients of credit in 2015 were manufacturing (14.1%), trade (8.2%), financial services (6.0%) and the government (5.7%). Average prime lending rates at commercial banks were slightly higher in 2015, rising to 16.9% from 16.6% in 2014. Deposit rates were also slightly higher, increasing from 3.4% in 2014 to 3.7% in 2015, and remaining elevated compared to the 2010-13 period, when rates were between 1.4% and 2.2%.

FINANCIAL INCLUSION: In 2012 the CBN published its National Financial Inclusion Strategy, which sought to “reduce the percentage of adult Nigerians that are excluded from the financial services sector from 46.3% in 2010 to 20% by 2020”. According to the latest data from Enhancing Financial Innovation and Access (EFInA), an NGO promoting financial inclusion in Nigeria, the percentage of adults excluded from the financial sector had fallen to 39.5% of the population by 2014. Significant opportunities to boost inclusion and bring more money into the formal system lie in methods such as mobile banking (see analysis).

US think tank the Brookings Institution ranked Nigeria 10th of the 26 developing countries it analysed across Africa, Asia, and Latin America in its “Financial and Digital Inclusion Project” 2016. The country scored well in terms of its commitment to financial inclusion and its regulatory environment.

The Pension Reform Act of 2014 was another positive effort made by the government to promulgate systems and models that increase public participation in the economy, which it did by broadening the eligibility requirements. The act “created a more contributor-friendly framework, and participants now have easier access to their funds”, Eric Fajemisin, CEO of Stanbic Pensions, told OBG. “People can use this money to finance the purchase of housing and during times of unemployment.” Furthermore, pensions have been seen as a reliable segment for some time. “Pension schemes in Nigeria are a mature area in the financial services industry and a rare spot of sanity in the economy. The sector has the potential to grow tremendously in the coming years,” Eguarekhide Longe, CEO of AIICO Pensions, told OBG.

INCREASING INTERMEDIATION: As with many emerging markets in Africa, rates of lending to the real economy and private sector in Nigeria are relatively low, despite the large size of the country’s banking sector. This is not only the result of an opaque credit environment, but also of a tendency by commercial banks to seek out the guaranteed returns of government securities. According to the CBN, total credit to the private sector grew 8.4% in 2015 to N54.28bn ($171.4m). By contrast, claims on the government, including treasuries and other securities, increased by 13.7% in 2015, making up 16.1% of total assets in the banking sector.

A key pillar of the CBN’s strategy to reverse this trend has involved increasing the non-oil economy’s access to credit. Complementing an interest rate cut of two percentage points to 11% in November 2015, the CBN lowered the cash reserve ratio (CRR) from 25% to 20%. The same month saw a prime lending rate of 16.13% and a maximum lending rate of 27.02%. The lowering of the reserve requirement formed part of the central bank’s stated policy of “moral suasion” through which it hoped to persuade banks to push the additional 5% out into the economy in the form of credit, without explicitly requiring them to do so.

Beyond the traditional monetary tools of adjusting interest rates and CRRs, the CBN has put in place risk-sharing programmes designed to cut lending interest rates to SMEs by half. However, Olubunmi Asaolu, head of equity research at FBN Capital, told OBG that the government may need to do more to incentivise banks to lend. Citing poor infrastructure as a reason for increased risk to SMEs, he argues for more support via indirect lending by the state to the economy. “The banks need more incentives, not coercion,” Asaolu said. “If there is a large borrower in a critical sector, or one that the government deems very important, banks may be willing to provide additional funding if the government participates and provides solid guarantees. The challenge is to balance the risk of crowding out versus providing support. I think the latter is needed more at this stage. This would move a portion of the risk from the bank to the CBN, possibly giving banks enough cover to increase lending.” Loan growth could also come from government efforts to substitute imports. If successful, a push towards domestic production and naira-denominated services could allow banks to widen their reach, especially to SMEs.

LIQUIDITY CHANGES: The success of the CBN’s efforts to push real economy lending further have been impacted by Nigeria’s macroeconomic travails. With inflation rising to an 11-year high of 16.5% in June 2016, the CBN was forced to increase interest rates to 14% a month later, and the cash reserve ratio had already been increased to 22.5% in March. This inflation has been the result of downward pressure on the naira from low oil prices (see Economy chapter), exacerbated by the imposition in late 2015 and early 2016 of capital controls and the subsequent shift to a nominally free float in June 2016.

Given the inability of importers to quickly source sufficient foreign exchange to settle trades due to capital controls, with obligations as issuers of letters of credit, banks were forced to use their own foreign exchange reserves to make up the difference. Without a clear picture of when the CBN will provide more foreign exchange liquidity, several institutions have slowed their issuance of new letters of credit.

In recent years several banks have issued eurobonds. GTB ank issued a $500m eurobond, which will mature in May 2016, and First Bank and Fidelity both have debt of $500m and $300m, respectively, maturing in 2018. Despite the recently floated naira, observers believer that payment schedules are unlikely to be seriously affected by current currency fluctuations. Asaolu of FBN Capital told OBG that “the money banks owe on their eurobond liabilities that are due in the very near term is not large relative to their total liabilities”, adding that banks will have enough time and resources to source the dollars necessary to service their debts on time.

An additional hurdle the sector will have to clear in its efforts to boost lending is the restructuring of the government’s accounts, which are also draining a small amount of liquidity. Nigeria’s recent transition to the Treasury Single Account (TSA) relocated funds in thousands of government accounts spread across the banking system to one single account held by the CBN. By some estimates the emergence of the TSA removed N1.3trn ($4.1bn), or approximately 10% of total bank holdings, from the banking system.

ASSET QUALITY: The weakening economy has brought greater risk to the sector’s balance sheets in terms of non-performing loans (NPLs) and loan restructuring. Muyiwa Oni, banking sector analyst for Stanbic IBTC, told OBG that the average NPL ratio of around 4% at the start of 2016 is expected to rise to 8% in 2016. “If we consider that NPL ratio for the sector peaked at 33% in 2009 during the last asset quality cycle, NPLs could easily reach 20% at a time when bank balance sheets are much larger.”

With a history of inefficient loan utilisation and poor debt management practices, the energy sector is at greatest risk. As oil prices hover around $40 per barrel as of mid-2016, many smaller, less-established firms are struggling to cut costs and repay their debts. Compounding the difficulty, a number of borrowers both in the energy and utility sectors have restructured their loans to avoid defaulting. These restructured loans are not yet considered non-performing, and therefore have not triggered the need for additional loss provisions, but if oil prices fail to rebound and firms continue to struggle, a rise in NPLs could be one of a number of repercussions.

Other sectors are also exposed to macroeconomic turbulence, which could further contribute to growth in bad loans. The general commercial sector, for example, which according to Oni represents approximately 12% of banks’ total outstanding loans, may face problems related to the previous capital control regime and currency depreciation.

The first quarter of 2016 brought another cause for concern with four major banks – Diamond Bank, Ecobank, First Bank and First City Monument Bank – issuing profit warnings. Each institute cited the rise in NPLs due to lower oil prices as an issue. Though Oni told OBG that “so far there is no indication that failure is likely for any of the systemically important banks”, low profits will not be tenable over the long term.

CREDIT BUREAUS: To help improve transparency, the CBN has licensed three private credit bureaus since 2009: Nigerian-based CR Services; CRC Credit Bureau, formed as a partnership between Nigerian-based firms and the US-based Dun and Bradstreet; and Xpert Decision Systems Credit Bureau of South Africa. Credit bureau coverage of the adult population increased to 6.7% in 2015, from 5.8% in 2014, according to the World Bank’s “Doing Business 2016” Report. As of 2015, this represented 5.6m individuals and 715,363 firms. In order to develop a more complete picture of an applicant’s credit history, banks and institutions are required to check at least two of the three bureaus before arriving at a decision.

BAD DEBT: The establishment of the state-owned Asset Management Corporation of Nigeria (AMCON) in 2010 following the financial crisis of 2008-09 has improved the quality of assets in the sector. The so-called “bad-debt bank” was launched with an anticipated lifespan of 10 years and with the mandate of soaking up NPLs from banks’ ledgers. AMCON acquired loans with a value of N4.02trn ($12.7bn) at a price of N1.76trn ($5.6bn), and by the end of 2015, it had recovered 57% of those assets, earning a return of 7%. Today, AMCON’s portfolio primarily consists of assets in oil and gas (27.2%), general commerce (18.5%), capital markets (17.9%), manufacturing (6.2%), and finance and insurance (5.5%).

REGULATORY FRAMEWORK: As regulator of the banking sector, the CBN has taken an increasingly proactive role in recent years, ensuring lenders adhere to international norms, limit risk exposure and contribute to financial intermediation. According to the Scope, Condition and Minimum Standard for Commercial Banks Regulations implemented by the CBN in 2010, to obtain a new banking licence, banks must submit an internal controls framework, design and implement a risk management framework, adhere to international financial reporting standards and observe minimal capital requirements based on the bank’s intended geographic reach. Regional banks, which are limited to operating in no more than 12 contiguous states, are required to maintain capital of at lease N10bn ($31.6m). National banks – free to operate throughout the country – are obliged to have at least N25bn ($78.9m) of capital, while international banks have a minimum requirement of N50bn ($157.85m). Banking regulation explicitly states that the CBN has the authority to adjust these parameters. Since a bout of margin lending precipitated a domestic banking crisis in 2008 and 2009, the CBN has dramatically stepped up enforcement and supervision. Furthermore, banks are increasingly being fined for breaching provisions and mandates, such as those related to the TSA or anti-money laundering. As a result, larger banks have become more cautious to ensure compliance and avoid running afoul of regulations. Banks have also elevated the status of their compliance departments, in many cases placing compliance officers on senior management teams.

Although Nigeria is not an official signatory of the Basel Accords, the CBN has incorporated much of Basel II into its regulatory framework and is now looking to roll out regulations in line with Basel III.

CAPITALISATION: That being said, potential revisions to Basel III standards may lead to changes in capital requirements for lenders. Regulators in Europe have followed an interpretation of Basel III whereby sovereign debt denominated in the bank’s home currency – a major component of the Nigerian banking sector’s assets – does not necessarily require risk capital. This zero-risk interpretation is currently under review by the Basel Committee. The reinterpretation of this rule, which is expected during the second half of 2016, could have significant effects on the level of risk capital that banks hold as Nigeria moves towards full implementation of the Basel recommendations.

The sector is currently well capitalised, and the CBN monitors capital adequacy ratios (CARs) to ensure they are at a minimum of 15% for banks that are systemically important or have international authorisation, and at 10% for other lenders. However, loan losses have begun to threaten the capital adequacy levels of some banks, and in March 2014 the regulator gave three commercial banks until June 2016 to recapitalise after they failed to reach the minimum CAR of 15%. Plans to implement a 16% CAR for systemically important banks (SIBs) on July 1, 2016 were also delayed due to the tough business environment. Nonetheless, Asaolu notes that the 15% minimum CAR set by the CBN, which is broadly being met or surpassed, provides enough of a buffer for the sector as a whole. “Based on what we see, if things start to go off the rails, the sector as a whole has enough capital to prevent any systemic crisis.”

BANKING MAJORS: Since 2009 the CBN has progressively mandated more stringent standards for SIBs. The eight largest banks operating in the country have been classed as SIBs: First Bank, GTB ank, Zenith Bank, United Bank for Africa (UBA), Access Bank, Skye Bank, Ecobank Nigeria, and Diamond Bank. In addition, Tier-2 capital can only account for 25% of qualifying capital for SIBs – with Tier-1 capital accounting for the remaining 75% – while for other banks the limit is 50%. However, the minimum liquidity ratio of 30% is the same for all banks.

FIRST BANK OF NIGERIA: Established in 1894, First Bank is the largest bank in Nigeria in terms of total assets and has more than 750 branches nationwide. The bank also maintains a presence throughout West Africa and has two European subsidiaries, one in London and another in Paris. As of December 2015 total assets were reported as N4.2trn ($13.3bn), with N4.3trn ($13.6bn) posted a year prior. CAR in 2015 stood at 13.3%, versus 12.3% in 2014, while the NPL ratio rose from 2.9% in 2014 to 18.1% a year later. Liquidity was at 51.9% in 2015.

ZENITH: Established in 1990, Zenith boasts over 500 domestic branches. The bank also has a presence in several West African countries, the UK, South Africa and China. Zenith is now looking to expand operations deeper into Europe and Asia. Between 2014 and 2015 total assets rose from N3.4bn ($10.7m) to N3.8bn ($12m), while CAR improved by 1% to 20%. Over the period, the bank’s liquidity ratio fell from 48.1% to 41.2%, while its NPL ratio rose 0.4% to 2.2%.

UBA: Tracing its roots to British French Bank, UBA was incorporated in February 1961, shortly after Nigeria won independence. Today, the bank has a presence across the continent. In December 2015 capital adequacy and liquidity ratios were strong at 20% and 53%, respectively, up on 17% and 45% a year prior. The same month saw the bank post an NPL ratio of 1.7% and total assets of N2.8trn ($8.8bn).

ACCESS: As a leading commercial bank, Access has representative offices and subsidiaries in West Africa, Central Africa, China, the UAE and the UK. Total assets grew slightly from N2.1trn ($6.6bn) in 2014 to N2.6trn ($8.2bn) a year later. As of year-end 2015 liquidity had increased 2% y-o-y to 38%, while CAR also rose from 18.4% to 19.5% . Unlike other large Nigerian lenders, Access’s NPL ratio also improved, falling from 2.2% in 2014 to just 1.7% the next year.

GTBANK: Based in Nigeria, GTB ank has subsidiaries across West Africa and a small presence in London. Total assets for the group rose slightly from N2.4trn ($7.6bn) in 2014 to N2.5trn ($7.9bn) a year later. The banks capital adequacy and liquidity ratios both improved over the period, from 17.5% and 40.1%, respectively, to 18.2% and 42.2%. Meanwhile the NPL ratio remained steady at just over 3%.

ECOBANK: Headquartered in Togo, Ecobank operates in 36 African countries, and its foothold in Nigeria was strengthened with the 2011 acquisition of Oceanic Bank. In December 2015 total assets for the Nigerian subsidiary were N1.8trn (5.7bn), up from N1.78trn (5.6bn) the previous year. CAR stood at 19% as of year-end 2015, compared to 16% the previous year. However, NPLs also increased significantly over the period, from 4.9% to 11.3% .

DIAMOND: Incorporated in 1990, Diamond Bank is retail focused with 317 branches across Nigeria, Benin, Côte d’Ivoire, Senegal and Togo. The company reported total assets of N1.8trn ($5.7bn) for 2015, down on N1.9trn ($6bn) in 2014. CAR decreased slightly to 16.3% in 2015 from 17.5% in 2014, while NPLs rose 33.5% y-o-y from N42.5bn ($134.2m) in 2014 to N56.7bn ($179m). Liquidity, however, strengthened to 52.8% in 2015 from 41.7% in 2014.

SKYE: With operations starting in 2006, Skye Bank has over 200 branches across Nigeria. The bank also has a presence elsewhere in West Africa. As of September 2015, its CAR stood at 17.3%, up from 16.7% the previous year. Total assets over the year also from N1.1trn ($3.5bn) to N1.3trn ($4.1bn); however, the doubling of its NPL ratio from 2% to 4% over the same period was a cause for concern. Indeed, in July 2016 the CBN replaced top management at the bank due to its liquidity and non-performing loan ratios having been outside the required thresholds for some time. The bank’s failure to post full year figures for 2015 makes it difficult to know exactly what kind of losses the group suffered, but personnel changes at the top have paved the way for a new strategy going forward.

REVENUE SOURCES: Interest-related activities account for the lion’s share of banking revenue, up to 70% of overall revenues by some estimates. However, a significant portion of top line revenue stems from alternative sources. Previously, for example, banks could count on foreign exchange-related transactions to make up a significant portion of non-interest revenue, though the drop in foreign exchange and related capital controls have hindered this. Structural changes in the first quarter of 2016 to other non-interest sources, such as fees and commissions, have also altered the revenue paradigm for Nigerian lenders. In twin policy shifts, the CBN ended its Commission On Transactions (COT) policy and, shortly thereafter, instituted a new maintenance fee on individual current accounts. The CBN began phasing out the COT, a fee levied on account withdrawals, in 2013, reducing it each year until phasing it out completely at the start of 2016. According to local press reports, the COT had constituted nearly one-fifth of total banking revenue. The new maintenance fee, charging up to N1 ($0.003) per N1m ($3157) held in current accounts, aims to mitigate the impact of lost revenue from the COT. Unlike the COT, the fee is negotiable. “Although the fee is negotiable, it is better than not having anything at all,” Oni of Stanbic Bank told OBG. “Overall, outlook on non-interest revenue is for things to be flat at best. If we look beyond that, maybe the only area banks have control over is cost.”

Faced with low prospects for revenue growth, banks have been focusing on cost-cutting measures, with a wave of layoffs across the sector recently, exacerbating Nigeria’s chronic unemployment and dwindling middle class. Measures aimed at improving efficiency have also been considered, including increased renewable energy use to reduce the cost of running diesel generators, and limiting staff travel and exposure to foreign vendors.

TECHNOLOGY: The sector has also seen a number of recent developments in both front and back office technology. In line with the government’s efforts to roll out national electronic and biometric identity cards, in early 2014 the CBN introduced the Bank Verification Number (BVN) – a unique, numeric identifier assigned to each account holder in the formal banking system. Prior to the BVN, there was no one means of verifying and linking biographical data for the purposes of monitoring banking activities, credit and other financial transactions. The registration deadline for residents was extended to October 31, 2015, while citizens abroad had until January 31, 2016 to register at a Nigerian embassy. Much of the Nigerian banking sector is now in compliance.

On the consumer-facing side of business, the CBN has also been looking to boost cashless transactions through mobile banking, e-banking and point-of-sale devices. Rolled out nationwide in July 2014, the CBN’s “cash-less” policy seeks to modernise the country’s payment systems, reduce the cost of banking services and transactions, and increase the effectiveness of monetary policy by incorporating more transactions into the formal system. The CBN intends to achieve these goals by imposing fees on cash withdrawals that exceed certain limits, N500,000 ($1578) for individuals and N3m ($9471) for corporations, and by enabling the technological environment necessary to process transactions electronically.

Supporting this effort, nearly all banks have a web or mobile platform allowing customers to access banking services remotely. Additionally, financial technology companies, such as Nigerian firm Interswitch, are developing software and platforms to power digital payments, POS terminals, and other electronic payment and transaction processing services. According to CBN data, Nigeria is experiencing strong growth across many of its mobile and electronic transaction platforms, while seeing a decline in traditional cheque transactions, the value of which fell by 14.8% to N6.2trn ($19.6bn) in 2015. Meanwhile, the number of ATM transactions rose by 8.4% to 433.6m in 2015. The value of other forms of electronic payments also increased in 2015: POS transactions grew 43.8% to N448.5bn ($1.4bn), internet purchases increased by 23.7% to N91.6bn ($289.2m) and mobile payments rose 27.7% to N442.4bn ($1.39bn).

NON-INTEREST FINANCE: Islamic financial services are referred to as non-interest finance in Nigeria. Although approximately 50% of Nigeria’s population is Muslim, non-interest finance has yet to gain a real foothold in the banking system. While some lenders have opened divisions dedicated to non-interest finance, Jaiz Bank is the only lender solely dedicated to offering the service. In the first quarter of 2016 Jaiz announced its plans to open 10 new branches across the country by the end of the year, which would represent an increase of over 50% relative to the end of 2015. Total assets in the non-interest banking segment have shown significant levels of growth in recent years, with increases of 33.7% in 2014 and 24% in 2015, when the segment registered N55.6bn ($175.5m) in assets, compared to N28.1trn ($88.7bn) for commercial banking. Several lenders in the country also provide non-interest financial products through non-interest banking windows, such as South African subsidiary Stanbic IBTC.

To improve the sustainability of the sector, the Nigeria Deposit Insurance Corporation released a new framework aimed at insuring non-interest bank deposits, which were previously not covered by the national deposit insurance scheme. The new framework sets out, inter alia, to protect depositors against failures in non-interest banks, to increase public confidence in the system and engender competitiveness.

EFInA, which has been a key promoter of non-interest finance in Nigeria, sees it as another avenue to promote the goal of greater financial inclusion. On the subject of the potential for growth, Chidinma Lawanson, CEO of EFInA, told OBG “[Non-interest finance] is unlikely to overtake traditional finance, but I expect it to eventually reflect its share of finance globally.”

MORTGAGES: One untapped potential opportunity for lenders comes in the form of mortgages. The central bank highlighted in its Financial System Strategy 2020 that despite its population of 184m there were less than 600,000 formal mortgages in Nigeria, covering only 5% of the total housing stock in the country. Prime mortgage rates as high as 28% make mortgages out of reach for most Nigerians.

In partnership with the International Finance Corporation, the government recently set up the National Refinance Mortgage Company (NRMC), a secondary mortgage company which purchases mortgages from banks to free up capital for additional mortgage lending. NRMC is in the very early stages, but purchased its first, exploratory tranche of mortgages in early 2016. The body is also developing underwriting criteria to standardise eligibility across the country.

OUTLOOK: Lenders are likely to continue to face headwinds as growth in NPLs and loan restructuring activity threaten to continue creating liquidity problems. With these obstructions to raising capital and the sector’s overexposure to the oil and gas industry, state attempts to boost financial inclusion in recent years could provide an important lifeline to banks. Recent reforms to the mortgage and pension environments should complement the proliferation of cashless and non-interest banking to provide financial institutions greater opportunities for growth.