Despite tightening credit conditions and falling oil prices, recent consolidation in the industry has left Nigerian banks in good stead to weather the storm. However, with the beginnings of a nascent liquidity crunch, the sector's outlook in 2009 will remain precarious.
Reduced credit lines, combined with the exodus of foreign portfolio investors from Nigeria's capital markets, have exacerbated the country's drop in oil revenues. As a result, the government's Federation Account, funded by hydrocarbon taxes, has had less liquidity to inject into the inter-bank money market, making it more difficult for the sector to raise funds, and forcing the central bank (CBN) to become the dominant supplier of foreign exchange.
"Foreign investment is not flowing into Nigeria to supplement domestic liquidity, due to the worldwide financial crisis," Wale Abe, chief executive officer (CEO) of the Money Market Association of Nigeria, told OBG. "So I don't see any end to the illiquidity we are seeing in the market in the near future until the global economic climate improves."
However, even as international banks and funds begin to call in their loans, there is evidence that the Nigerian industry can muster sufficient cash to fulfill its commitments. In December 2008, for example, Intercontinental Bank repaid its $160m obligation to a consortium of eight foreign banks, including BNP Paribas and Citigroup.
The difficulties banks are facing in mobilising funds on the international capital markets has pushed them to focus more aggressively on retail and corporate deposits. Indeed, the sector has recently been on a bit of an acquisition spree in West and Central Africa, with four major Nigerian banks currently moving into the UEMOA market. In December 2006 the United Bank for Africa (UBA) bought 37.84% of the Banque Internationale pour le Burkina (BIB), while in April last year Access Bank acquired 88% of Omnifinance, a small bank in Cote d'Ivoire. Additionally, Diamond Bank has plans to open 23 new branches in Benin by the end of 2010.
With the banking penetration rate in Nigeria at less than 25% and the ratio of loans and credits to GDP at just 12.3% as of 2007, there are still encouraging prospects for domestic retail growth, although the relatively high commercial interest rates remain a challenge. In line with the need to increase clarity and transparent competition amongst lenders, in August 2008 the CBN began to publish an open display of all banks' deposit and lending rates on its website.
To spur further growth during this relatively fallow period, the central bank has also begun to take a more bullish role, following the recent easing of its monetary policy, by providing access to local banks for the CBN discount window in order to mobilise funds. Starting from September 2008, the CBN reduced the liquidity ratio for banks from 40% to 30%, while the cash reserve ratio fell from 4% to 2%. On September 18 the base interest rate was cut from 10.25% to 9.75%. The central bank estimates that these measures accounted for an N1.2tn ($8.09bn) injection of funds into the economy.
In light of the drop in liquidity as well as share price issues, banks have erred on the side of caution by attempting to cut costs, anticipating a difficult year ahead. Since the start of 2009, they have reduced cost allowances for branches as well as cut travel, communications and advertising budgets. They have also been examining their staffing levels, although no redundancies have yet been announced.
An increasing number of analysts have faulted the lack of transparency in banks' share price trading. The technique of margin trading - whereby banks lent funds to individuals and corporations who then invested part of these funds back into the banks' shares - has been particularly highlighted.
"Margin trading has led to significant exposure for Nigerian banks," Latyr Diop, an investment banker at Lagos-based Afrinvest, told OBG. "Although there doesn't seem to be a widespread realisation yet, banks are in crisis due to their own, Nigerian, version of a credit crunch."
Share prices have come under increased scrutiny in recent months. While 21 of the country's 24 banks are listed on the Nigerian Stock Exchange (NSE) (out of a total of 233 stocks listed), these accounted for 45% of the exchange's capitalisation at year-end 2008. However, the NSE has indeed recorded an N5.7tn ($38.43bn) loss for the full year 2008, with the CBN estimating that banks' exposure to the NSE is around N800bn ($5.39bn), although certain analysts argue that this figure is significantly lower than it should be. As early as May 2008, a JP Morgan study on the country's banking sector argued that the seven largest banks (with a then-market capitalisation of $40bn) were overvalued by 56%.
Much of the drop in the NSE was due to the flight of foreign portfolio investors in light of the global financial situation. However, the drop led to investment flowing to term deposits and money market instruments, thereby boosting deposits. Should the NSE index recover, banks could be left to struggle to mobilise deposits as investors revert to capital market instruments.
Despite these challenges, Nigerian banks do remain some of the biggest players on the African continent. Since the drastic increase in capital requirements to $200m in 2005, consolidation has reduced the number of banks from 89 to 24, all of which now have capitalisations in excess of $1.2bn. Consolidation could well continue: WEMA bank, currently under CBN management, has received takeover bids from both Intercontinental Bank and First City Monument Bank (FCMB), and a deal is expected to be concluded in coming months.
A CBN statement last November, however, noted that the average capital adequacy ratios in the industry, at 22.25%, remained satisfactory. While analysts argue that overall banking assets have been overvalued by as much as 10%, the consensus seems to indicate that given the very strong capitalisation of the banks, none are in danger of insolvency, even with a 10% depreciation of assets.
In mid-2008 the CBN created guidelines for the operations of credit agencies, instituting the Credit Reference Company with financing from 12 of the country's largest banks (accounting for over 70% of the industry) as well as technical support from the International Finance Corporation (IFC). Similarly, XDS Solutions launched an independent credit bureau of its own in 2008. More could well emerge in 2009 as the industry improves its risk management strategies and relies on accurate credit information for lending.
Despite challenging conditions on the international front, Africa's most populated country presents strong growth prospects for the banking industry. With increased attention to transparency and risk management, the sector is set to continue making inroads into the previously low level of penetration. The regulatory reforms are indeed encouraging, as is the size of the sector. But the perfect storm of relatively low oil prices, a depressed stock market and challenges in accessing credit lines from international financial markets point towards a difficult year ahead. As more developed banking sectors falter, international investors keep watching one of the world's premier frontier economies.