CONSOLIDATION AND FINANCIAL PERFORMANCE OF COMMERCIAL BANKS IN NIGERIA

CONSOLIDATION AND FINANCIAL PERFORMANCE OF COMMERCIAL BANKS IN NIGERIA

A STUDY OF SELECTED BANKS

ABSTRACT

 The development of sound banking system in Nigeria is becoming increasingly difficult to achieve because of increase distress and unethical practices. The Nigerian banking sector was highly oligopolistic with remarkable features of market concentration and leadership. The CBN’S decision to consolidate banks through drastic increase to N25billion as minimum capital base has led to a remarkable reduction in the number of banks changed their mode of operations and their contribution to the economy. The need for a strong, reliable and viable banking system is underscored by the fact that, the industry is one of the few sectors in which the shareholders fund is only a small proportion to the liabilities of the enterprise. It is therefore, not surprising that the banking industry is one of the most regulated sector in any economy. This research focuses on the relationship between banks’ capital and their deposit mobilisation, asset base and profitability. The Ordinary Least Square (OLS) econometric method was used to examine the regression models that were stated to examine the relationship between the key variables. the results of the analyses showed that the capital base of banks plays a crucial role in determining the profitability of a bank. It was also found that capital base influences the asset base and deposit liabilities of banks. The study found that banks consolidation has changed the market structure of the banking sector, increased the efficiency and reliability of banks, created opportunity for financial institutions and market participants, and raised their intermediation potentials. Thus, it has positive impact on the financial performance of banks and the economy as a whole. It also become evident that for such a policy/strategy to be effective, central bank of Nigeria needs to make banks recapitalisation a continuous exercise at interval of 5 -10 years to catch up with inflation and happenings in the world.

CHAPTER ONE

1.1     BACKGROUND TO THE STUDY

The history of the Nigeria banking system is replete with growth and burst cycles in the number of operating banks and their branches. The Central bank of Nigeria resolves to carry out reforms in the banking sector in order to ensure a sound financial system which is one of its mandates. Between 1994 and 2003 a space of nine years, no fewer than 36 banks in the country closed shop due to insolvency. In 1995 four banks were closed down. But 1998 may go down well in history as the saddest year for the banking industry, 26 banks closed shops that year. Three terminally ill banks also closed shop in 2000. In 2002 and 2003 at least one bank collapsed. The failed banks had two things in common – small size and unethical practices. Of the 89 banks that were in existence as at July 2004, when the banking sector reforms were announced, no less than 11 of them were in a state of distress.

According to the CBN, between 69 and 79 of the banks were marginal or fringe players. The decade 1995 and 2005 were particularly traumatic for the Nigerian banking industry; with the magnitude of distress reaching an unprecedented level, thereby making it an issue of concern not only to the regulatory institutions but also to the policy analysts and the general public. Thus the need for a drastic overhaul of the industry was quite apparent. In furtherance of this general overhauling of the financial system, the Central Bank of Nigeria introduced major reform programme that changed the banking landscape of the country in 2004.

The main thrust of the reform agenda was the prescription of minimum shareholders’ funds of 25 billion for Nigerian Deposit money bank not later than December 31, 2005. In view of the low financial base of these banks, they were encouraged to merge. Out of the 89 banks that were in operation before the reform, more than 80 percent (75) of them merged into 25 banks while 14 that could not finalize their consolidation before the expiration of deadline were liquidated (Elumilade,2010; Afolabi, 2004).

In view of the above, this study intends to examine the impact of consolidation and recapitalization exercise on the financial performance of banks in Nigeria.

 1.2     STATEMENT OF THE PROBLEM

Nigerian banking sector has experienced a boom-and-bust cycle in the past 20-25 years. After the implementation of the structural adjustment program (SAP) in 1986, and the deregulation of the financial sector, new banks proliferated, mainly driven by attractive arbitrage opportunities in the foreign exchange market (Heiko, 2007). But prior to the deregulated period, financial intermediation never took off and even declined in 1980s and 1990s (CBN, 2004).

The sector was highly oligopolistic with remarkable features of market concentration and leadership. Lemo (2005) noted that there were ten banks that control more than 50% of the aggregate assets of the banking sector; more than 51 % of the aggregate deposit liabilities; and more than 45% of the aggregate credits. The sector was characterized by small sized banks with high overheads; low capital base averaging less than $l0million; heavy reliance on government patronage and loss making. Nigeria’s banking sector was still characterized by a high degree of fragmentation and low levels of financial intermediating up to 2004.

However, it is not altogether clear whether the imposition of capital requirements actually reduces risk-taking incentives. Santos (1999), notes that actual capital requirements may increase risk – taking behavior. Also,

Shrieves and Dahl (1992) argue that higher capital requirements may induce borrowers to shift to capital markets and in the process impair capital allocation, while Gorton and Winton (1995) show that raising capital requirements can increase the cost of capital. Thus, theory provides conflicting predictions on whether capital requirements curtail or promote bank performance. This study shall make effort at clearing the air as regard the impact of capital base on bank performance with evidence drawn from the Nigerian banking sector.

1.3    OBJECTIVES OF THE STUDY

The main objectives of the study are highlighted below:

1.     To evaluate the influence of capital base on the savings mobilization performance of Nigerian banks;

2.     To determine the relationship between capital base and asset base in Nigerian banks;

3.     To examine the effect of capital base of banks on their profitability.

1.4     RESEARCH QUESTIONS

This study is being guided by the following research questions:

1.     To what extent does capital base influence the saving mobilization performance of a bank?

2.     What is the relationship between capital base and asset base of a bank?

3.     How does capital base impact on banks’ profitability?

 1.5     STATEMENT OF HYPOTHESES

HYPOTHESIS I

Ho : That there is no relationship between the capital of a bank and

its deposit liability.

H1 : That there is relationship between the capital of a bank and its deposit liability.

HYPOTHESIS II

Ho : That there is no relationship between the capital of a bank and

its asset base.

H1 : That there is relationship between the capital of a bank and its asset base.

1.6     SIGNIFICANCE OF THE STUDY

The significance of this study is to add to the general body of knowledge, enlighten the general public on the effect of recapitalization and consolidation on the performance of banks in Nigeria. Besides, it will put to rest the argument between the proponents and opponents of the relationship between bank’s capital base and performance. This research work would also establish the fact that consolidation (merger and acquisition) is a veritable means for fostering banking growth.

The findings of the study would be beneficial to the regulators of the banking sector as they would serve as a yardstick for appraising the bank consolidation. It would also benefit the management of Nigerian banks as it would reveal the extent to which the recapitalization and consolidation exercise have impacted on their performance, thereby providing a basis for the need to re- strategize.

Investors, Banking practitioners, analysts and students of banking and finance would be more enlightened on the direct and indirect effects of bank recapitalization and consolidation on banks’ performance and the banking sector as a whole.

1.7     SCOPE AND LIMITATION OF THE STUDY

In carrying out this research, attention would be focused on selected Nigerian commercial banks (First Bank of Nigeria Plc, United Bank for Africa plc, Guaranty Trust Bank Plc and Zenith Bank Nigeria Plc.) and time frame considered is the period between 1996 and 2010. The research also intends to ascertain whether the objectives of the consolidation exercise had been attained and banks have achieved their full potentials and can act as catalyst for economic development of the Nation. The study shall consider the present state of banks in Nigerian as compared to yester- years.

Due to time couple with financial constraint, the study shall be unable to cover all of the important references on capital and focuses on the effect of recapitalization and consolidation on the financial performance of banks in Nigeria.