ABSTRACT

The resultant effect of financial liberalization opened up the

Nigerian economy to global financial markets, which has generated

increasing apprehension in the economy and has exposed the fragility

and vulnerability of her financial system. It is therefore imperative for

the Central Bank of Nigeria to introduce measures that will reduce the

exposure and enhance the stability of the Nation’s financial system. A

defensive measure that will strengthen the existing banks and put the

new ones on a good start is needed, hence the introduction of new

capital base of N25billion. This study investigated the impact of

recapitalization in the banking system on the performance of the banks

in the Country with the aim of finding out if the recapitalization is of

any benefit. The study employed secondary data obtained from

statistical bulletin and NDIC annual reports. The data were analyzed

using regression analysis by applying E-views package. It was found

that recapitalization has a positive impact on banks performance

through the increase in the net income after tax. The study however

commends that bank management should embark on effective

intermediation drive and diversify their funds in such a way that they

can generate more income on their assets, so as to improve their

profitability.

CHAPTER ONE

1.0 INTRODUCTION

1.1 BACKGROUND OF THE STUDY

“The Nigerian banking system today is fragile and marginal.

Our vision is a banking system that is part of the global change,

and which is strong, competitive and reliable. It is a banking

system which depositors can trust, and investors can rely upon.

Evolving such a banking system is a collective responsibility of all

agents in the Nigeria economy. Everyone has a role to play”,

Soludo, 2004.

The above presentation by Soludo clearly shows the state of

the Nigerian banking system before the recapitalization and

consolidation exercise of 2004. Banking reforms have been an on

going phenomenon around the world right from the 1980’s, but it

is more intensified in recent time because of the impact of

globalization which is precipitated by continuous integration of

the world market and economies.

Banking reforms involve several elements that are unique to

each country base on historical, economic and institutional

imperative. (Uchendu, 2005) as cited in (Adegbaju and Olokoyo

2008) maintained that in Nigeria, the reforms in banking sector

precede against the backdrop of banking crisis due to highly

undercapitalization deposit taking banks; weakness in the

regulatory and supervisory framework; weak management

practices, and the tolerance of deficiencies in the corporate

governance behavior of banks. Therefore banking sector reforms

and recapitalization have resulted from deliberate policy response

to correct perceived or impending banking sector crises and

subsequent failure.

The 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. But prior to deregulated period, financial

intermediation never took off and even declined in 1980’s and

1990’s. The banking sector was highly oligopolistic with

remarkable features of market concentration and leadership. The

sector was characterized by small sized banks with high

overheads, low capital base averaging less than $10 million (Ten

million dollars); heavy reliance on government patronage and

loss-making. Nigeria’s banking sector was still characterized by a

high degree of fragmentation and low level of financial

intermediation up to 2004.

Traditionally, the role of banks whether in a developed or

developing economy, consists of financial intermediation,

provision of an efficient payments system and serving as conduct

for the implementation of monetary policies. So, it is

incontrovertible that the banking system is the engine of growth

in any economy given its function of financial intermediation.

Through this function, banks facilitate capital formation, lubricate

the production engine turbines and promote economic growth. it

has postulated that if these function are efficiently carried out,

the economy would be able to mobilize meaningful level of

savings and channel these funds in an efficient and effective

manner to ensure that no viable project is frustrated due to lack

of funds. However, banks ability to engender economic growth

and development depend on the health, soundness and stability

of the system. 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 share holders fund is only a small

proportion of the liabilities of the enterprise. It is therefore, not

surprising that the banking industry is one of the most regulated

sectors in any economy. so, in view of the importance of the

banking sector in economic development and the imperfections of

the market mechanism to mobilize and allocate financial

resources to socially desirable economic activities of any nation,

governments all over the world, do regulate them more than any

sector in an economy.

The Nigerian banking system has undergone remarkable

change over the years, in terms of the number of institutions,

ownership structure, as depth and breadth of operations.

These changes as noted earlier have been influenced largely by

challenges posted by deregulation of the financial sector,

globalization of operations, technological innovations and

adoption of supervisory and prudential requirements that conform

to international standards.

As at end-June, 2004, there were 89 deposit money banks

operating in the country, comprising institutions of various sizes

and degrees of soundness. Structurally, the sector is highly

concentrated, as the ten largest banks account for about 50

percent of the industry’s total assets/liabilities. Most banks in

Nigeria have a capitalization of less than $10million

(Ten million dollars). Even the largest bank in Nigeria has a capital

base of about US $ 240 million (Two Hundred and Forty million

dollars) compared to US $67 billion and US $526 million for the

second largest bank in Singapore and for the smallest bank in

Malaysia respectively (Soludo 2004).

Notably, in Malaysia, banks were required to raise their

capital base from about $70 million to $526 million in one year, in

1998 a merger in France resulted in a new bank with a capital

base of US $688 billion, while the merger of two banks in

Germany in the same year created the second largest bank in

Germany with a capital base of US $541 billion, Consolidation and

recapitalization is going on in South Africa. Amalgamated Banks

of South Africa (ABSA) has asset base larger than all of Nigerian

commercial banks put together. (Soludo 2004). The small size of

most of our banks, each with expensive headquarters, separate

investment in software and hardware, heavy fixed costs and

operating expenses, and with bunching of branches in few

commercial centre lead to very high average cost for the industry.

This in turn has implications for the cost of intermediation, the

spread between deposit and lending rates, and puts undue

pressure on banks to engage in sharp practices as means of

survival.

Irrespective of the cause, however, bank recapitalization and

consolidation is implemented to strengthen the banking system,

embrace globalization, improve healthy competition, exploit

economies of scale, adopt advanced technologies, raise efficiency

and improve profitability and performance. Ultimately, the goal is

to strengthen the intermediation role of banks and to ensure that

they are able to perform their developmental role of enhancing

economic growth, which subsequently leads to improved overall

performance of the banking sector and the economy in general

It is on this background that the Central Bank of Nigeria

(CBN) in the maiden address of its current Governor Prof. Charles

Soludo, outline the first phase of its banking sector reforms

designed to ensure a diversified, strong reliable industry.

“The key elements of the 13 point reform programme

include:

Minimum capital base of N25 billion with a deadline of 31st

December 2005

Consolidation of banking institutions through mergers and

acquisitions.

Phased withdrawal of public sector funds from banks,

beginning from July 2004

Adoption of a risk-focused and rule-base regulatory

framework

Zero tolerance for weak corporate governance, misconduct

and lack of transparency.

Accelerated completion of Electronic Financial Analysis

Surveillance System (e-FASS).

The establishment of an Asset Management Company.

Promotion of the enforcement of dormant laws,

Closer collaboration with the EFCC and the establishment of

the financial intelligent unit. As cited in Adeyemi (2006). Two

of the above reform elements which have since generated so

much concern and reactions from various stakeholders are.

Requirement that the minimum capitalization of banks

should be N25 billion with full compliance by 31st December

2005 and

Consolidation of banking institutions through mergers and

Acquisitions. The first is a companion to the second and both

reform agenda work in tandem.

This paper is motivated by the need to look into the Central

Bank of Nigeria’s recent reform strategy that employed certain

performance in order to conform with that of the international

community.

1.2 HISTORY OF BANK RECAPITALIZATION IN NIGERIA

Recapitalization of banks is not a new phenomenon. Right

from 1958 after the first banking ordinance in 1952 the colonial

government then raised the capital requirement for banking

especially the foreign commercial bank from 200,000 pounds to

400,000 pounds. Ever since then, issue of bank recapitalization

has been a continuous occurrence not only in Nigeria but

generally around the world.

Recapitalization in Nigeria comes with every amendment to

the existing banking laws. In 1969, capitalization for banks was

1.5 million naira for foreign banks and N600,000 for indigenous

commercial banks. As from 1988, there had been further increase

in the capital base. In February 1988, the capital base for

commercial banks was N5 million. In 1989, there was a further

increase to 20million.

In recognition of the fact that well-capitalization banks would

strengthen the banking system for effective monetary

management, the monetary authority increased the minimum

paid-up capital of commercial banks in February 1990 to

N50million. Distressed banks whose capital fell below existing

requirement were expected to comply by 31st March, 1997 or face

liquidation. Twenty six of such banks were liquidated in January

1998. Minimum paid up capital of commercial banks was raised to

the level of N500million with effect from 1st January, 1997, and by

December 1998, all existing banks were to recapitalize.

The CBN brought into force the risk-weighted measure of

capital adequacy recommended by the Basle committee of the

Bank for international settlements in 1990. Before then, capital

adequacy was measured by the ratio of adjusted capital to total

loans and advances outstanding. The CBN in 1990 introduced a

set of prudential guidelines for licensed banks, which were

complementary to both the capital adequacy requirement and

statement of standard Accounting practices. The prudential

guidelines, among others, spelt out the criteria to be employed by

banks for classifying non-performing loans. In 2001, when the

universal banking was adopted in principle, the capital base was

jerk up to N2billion for new banks.

But in July 2004, the new governor of the CBN announced

the need for banks to increase their capital base to N25 billion all

banks are expected to comply by December 2005.

1.3 STATEMENT OF PROBLEM

Globally, activities of banks reflect their unique role as the

engine of growth in any economy. The importance of the financial

sector of an economy which comprises banks and non-banks

financial intermediaries, the regulatory framework and the ever

increasing financial products, in stimulating economics. Prior to

the recapitalization of banks, the state of the Nigerian banking

sector was very weak. According to Soludo (2004), “The Nigerian

banking system today is fragile and marginal. The system faces

enormous challenges which, if not addressed urgently could

snowball into a crisis in the near future. He identified the

problems of the banks, especially those seen as feeble, as

persistent illiquidity, unprofitable operations and having a poor

assets base”.

Assessment of banks as at end-March, 2004, the CBN

ratings of all the banks, classified, 62 as sound/satisfactory, 14 as

marginal and 11 as unsound, while 2 of the banks did not render

any returns during the period. A further analysis of the returns of

the marginal and unsound-banks reveals that the industry

nonperforming assets account for 19.5%.

Many banks appear to have abandoned their essential

intermediation role of household savings mobilization and

inculcating banking habit at the house hold and micro enterprise

Researcher: Osunwa Chinwe

levels. The indifference of banks towards small savers,

particularly at the grass roots levels has not only compounded the

problems of low domestic savings and high banking lending rates

in the Country, it has also reduced access to relatively cheap and

stable funds that could provide a reliable source of credit to the

productive sectors at affordable rates of interest. The banking

system prior recapitalization promoted tendencies towards a

rather sticky behavior of deposit rates, particularly at the retail

level, such that, while banks lending rates remain high and

positive in real terms most deposit rates especially those on

savings, are low and negative. In addition, savings mobilization at

the grassroots level has been discouraged by the unrealistic

requirements by many banks, for opening accounts with them.

The questions to be addressed are therefore:

1) What are the impacts of bank recapitalization on bank

development in Nigeria overtime?

2) What is the trend of bank development/performance in

Nigeria overtime?

1.4 OBJECTIVES OF THE STUDY

A study undertaken without an objective in view will

certainly lack direction and as such ends up fruitless. Therefore

this study, the recapitalization of bank and banks development in

Nigeria is a study which has been necessitated by the current

trend in the banking sector in Nigeria. This trend has been less

than satisfactory and has for this reason attracted a lot of

concern.

These trends take the form of persistent illiquidity,

unprofitable operations and a poor asset base. This is mostly

associated with the frequent cases of bank distress or failure and

its consequences on the overall economy and banking sector

performance in Nigeria. Also, the study is posited to look at the

past and recent recapitalization policy of the CBN for banks in

Nigeria, its efficiency and the performance of banks since its

effectiveness commenced.

This study therefore, addresses itself to determining the

following:

1. The impact of bank recapitalization on bank development in

Nigeria overtime.

2. The trend of bank development/performance in Nigeria

overtime.

1.5 STATEMENT OF HYPOTHESIS

The hypothesis could simply be stated as below to help us

accept or reject our findings.

H01: Banks recapitalization does not have a positive impact

on banks development in Nigeria.

H02: Banks development in Nigeria does not have a definite

trend.

1.6 SIGNIFICANCE OF THE STUDY

This study is significant in its efforts to making individuals in

banking service and other fields of work have the basis for

understanding the origin and impact of recapitalization on banks

development and banks performance in Nigeria. It will also help

individual and government to appreciate the role banks

development through such reforms like recapitalization plays, by

leading to greater banking performance and overall development

of the Nigeria economy.

The government is also expected to benefit from this study

in view of its important role on mapping out strategies that deals

with banking sector problems through its solutions and

recommendations, thereby making it a helpful means for them to

creating an enabling environment for sound, stable and

professional banking practices required for the development of

the banking sector and the economy in general. In other words,

the recommendations at the end of this work can serve as a

springboard from which the government can seek solutions to the

problem of banks failure in Nigeria.

Members of the business community will also find this work

significant, in the sense that it seeks to address issues concerning

the ineffective and inefficient process of intermediation in the

banking sector in Nigeria for an effective and efficient process of

intermediation in the anking sector with result in available credit

facilities at affordable costs to the business community for

productive investments.

Finally, findings and recommendations from this work can

serve as a viable basis for future research work. Moreover, it is

significant to the student in partial fulfillment of the department’s

condition for the conferment of a Bachelor of Science (B.Sc. Hons)

in Economics.

1.7 SCOPE AND LIMITATION OF THE STUDY

This study undertakes to research into the relationship

between banks recapitalization and banks

development/performance in Nigeria. Therefore, the central

points of focus for analysis are the banking system within the

Nigerian Economy. This therefore, necessitates that a study such

as this should be done in the context of the domestic economy

concerned, in this case Nigeria.

The accuracy of data obtained is a major problem since data

is basically from secondary sources. Also, the financial cost of

movements and transportations to secure relevant data poses

another setback-notwithstanding, it is my wish as the researcher

to put together all relevant data and facts that will be necessary

for the successful completion of this work.

1.8 DEFINITIONS OF TERMS

1) Assets: These are possessions of value, both real and

financial owned by the bank or company. It includes Real

assets like land, building or machinery and financial

assets like cash and securities and credit extended to

customers.

2) Bank Distress: This is when a bank can no longer honor

their role of immediate withdrawal, it becomes bank

failure if the bank liquidates or closes down.

3) Consolidation: This is a fusion of the assets and liabilities

in whole or in part of two or more business establishment.

Consolidation represents the idea of investment and the

coming together of firms; it can also mean larger size,

larger shareholders and larger number of depositors. It

can be achieved by mergers/Acquisition and

recapitalization.

4) Deregulation: Is the removal or relaxation of

government regulation of economic activities.

5) Financial Intermediation: This is the process of

borrowing money from one set of people and lending it to

another especially by banks.

6) Globalization: This is the process through which the

whole world becomes a single market.

Supervisor: Dr C.C. Umeadi

7) Illiquidity: This is the property of an asset of not being

easily turned into money.

8) Liabilities: This is the legal responsibility of banks to be

able to pay money that they owe.

9) Monetary Policy: This is a policy instrument by the

Central Bank used to monitor the volume of money in

circulation.

10) Oligopoly: This is a market situation in which there are a

few firms selling homogenous or differentiated products.

11) Recapitalization: Entails increasing the debt stock of the

company or issuing additional shares through existing

share holders or new shareholders or a combination of the

two. It could even take the form of merger and acquisition

or foreign direct investment.

12) Insolvency: This is the inability of an individual or a

company to pay debts as they fall due.