How to save Nigerian banks

What may have started as an honest attempt to save the Nigerian banking industry is gradually degenerating into a major economic crisis. The Central Bank of Nigeria’s (CBN) daring move which saw the sudden sack of five bank Managing Directors have left the Nigerian economy with serious collateral damage that will task the economic management skills of the apex bank.



From all indications the CBN attempt to isolate and safe the five banks by pumping in N420 billion ($2.6 billion) and a installing a new management may not really end up saving the banks. It will just keep them alive to absorb more money from the apex bank which has already gone ahead to guarantee a permanent lifeline to the five banks domestic and international depositors and creditors.



The CBN guarantee was the minimum it needed to safe the banks from a experiencing a domestic run on their operations. With the CBN openly admitting that the five banks were in trouble, it was the signal that depositors needed to get out their funds from the banks. The aftermath of the CBN action has seen a consistent withdrawal of funds from the vaults of the five banks with little or no deposits occurring. No bank will survive a continuous outflow of cash from its vaults.



Internationally, the five banks especially and other Nigerian banks have suddenly had their international credit lines cancelled. One of the five banks is said to have had an international credit line of $1.5 billion cancelled in the wake of the CBN action. Nigerian banks may have lost international credit lines in excess of $10 billion following the CBN action. Hence the rush of the CBN governor to London, the world’s financial capital to explain his actions in the Nigerian banking industry.



The situation of the five banks have been compounded by the fact that the anticipated fast paced recovery of the nonperforming loans on their balance sheets has not materialized even with the intervention and harassment of debtors by the Economic and Financial Crimes Commission. As at the last count by the EFCC total loan recovery for all the five banks stood at about N70 billion from a total nonperforming loans of N747 billion as alleged by the CBN.



A clearer picture of the desperate situation faced by these banks becomes obvious when it is realized that deposit mobilization in these banks have come to almost a standstill, lending is at a total standstill as the newly installed management struggle to retool the operations of the five banks. However, even with no fresh money coming in, the banks are still forced to maintain their operations, paying staff salaries and other overheard costs incidental to their existence.



Faced with this situation the CBN will be forced to keep its cash tap open for these banks to stay alive. Already, there are strong speculations that the CBN bailout for the five banks will increase to a trillion naira ($6.67 billion). But this was before the House of Representative intervened and questioned the right of the CBN governor to lend money to the banks without its approval. Until this controversy is resolved, the CBN may be reluctant to give fresh money to the five banks.



This may raise critical issues for the survival of the five banks. Would they resort to the interbank market to stay alive? With the guarantee from the CBN, they are likely to be able to borrow from the interbank market. However, this will effectively return the five banks to the state they were in before they were taken over by the CBN, net borrowers of funds from the interbank market.



The new management of these five banks may have started seeing the desperate position they are currently in and have positioned for massive loan recovery. How successfully they do this will determine their liquidity but considering the current state of the economy, and the conservative disposition of the banks yet to be directed affected by the CBN action, success will be relatively minimal.



The new CBN governor, Sanusi may have not anticipated this logjam. His initial strategy seems to have been hinged on a quick sale of the banks hence the road show in London and subtle moves to seek foreign investors for the five banks. The foreign buyers have chickened out living Sanusi in a serious dilemma. This has been compounded with the series of court cases instituted by the former management of the five banks and also shareholders against the propriety of the CBN’s action against the five banks. Until these cases are dealt with in court and a decision reached, none of the five banks can be sold.

The implication is that Sanusi is left with keeping these banks on its cash lifeline through guarantees or call on the NDIC to wind them up.



So what should Sanusi do? Keeping the banks on its cash lifeline will prove too costly for the apex bank. One, the public would not find it funny to see the CBN pump in more than a trillion naira to keep these banks alive. The national law makers will bring the roof down on him. Besides, how would the CBN finance such a lifeline? Print more naira as it has done with the initial N420 billion bailout? Already, the initial N420 print has heightened inflation fears in the economy. A trillion naira fresh print will burst the inflation roof.



So should the CBN call in the NDIC to wind up the five banks? The pending court cases will make this difficult. Besides, it will raise a lot of issues as to the fact that the CBN took over healthy banks and ran them aground. Then considering how big, three of the banks, Intercontinental, Union Bank and Oceanic Bank are, the NDIC will find its hands full for several years, if it attempts to wind up the five banks at the same time. The sum of the deposit base off all the banks the NDIC wound up since its inception are not up to the deposit base of any of the five banks. Any attempt to wind up the five banks will also increase the reputational damage already suffered by the banking industry so far.



Already, all other banks have closed the tap on credit as they react to Sanusi’s action. There has been a massive movement of funds into fixed income securities which has resulted in steep drop in yields. The impact of the current scenario in the banking industry will be seen in a few months time as banks assets and incomes shrink dramatically. While the 2004 consolidation of Nigerian banks expanded the activities of Nigerian banks, the current “Sanusitization” of the banking industry is expected to lead to a sharp shrinking in banking assets and incomes. Banks will get smaller; banking jobs will vanish while the international expansion appetites which Nigerian banks showed after the consolidation exercise may have just been dealt a fatal blow.



So what should Sanusi do? The set up of the asset purchase fund may be Sanusi’s last best option to save a situation that is clearly getting out of hand. The set up of the Asset Purchase fund (APF) is similar to the strategy adopted by other developed countries to get out of a similar situation. It is expected that Sanusi will adequately capitalize the APF. The CBN has several options to capitalize the APF through additional printing of money or drawing down on its reserves or issuing bonds in the domestic and international capital markets or borrowing from the International Monetary Fund (IMF). Printing additional money will further increase the money supply base of the country and raise the risk of inflation however the other options have lower inflation risks.



The purpose of the APF will be to buy off the nonperforming assets portfolio of the five banks taken over by the CBN as well as the other banks in the system that will be willing to sell off some of the toxic assets on their balance sheets. The prices set by the APF should be commercially determined, that is the toxic assets will be priced not on their book value but on the basis of their viability as well as the cost and time value of money. The APF should have a clear profit motive in mind when buying off these assets off the balance sheet of the banks.



The advantage of the APF is the fact that it has a double advantage to the financial system. It will remove the toxic assets dragging down the operations of these banks, and at the same time help inject liquidity into the banking system freeing the troubled banks to continue their lending activities. Where loans are bought at less than book value, the difference should be written off against the earnings of the affected banks, and where earnings are not enough to absorb it, against the capital of the bank.



The APF after buying the toxic assets of the balance sheet of the banks assumes the position as the primary creditor to the bank debtors whose loans were bought. The APF will now go into negotiation with the debtor and decide on the best way to handle the debtor’s nonperforming position. The APF’s options would be open to either restructure the debt, advance additional debt to resuscitate the debtors business to put the debtor in a position to repay or wind up the company of the debtor. Whatever position adopted by the APF will be with the aim of recovering the debt taking into position the willingness and capacity of the debtor to repay and the economic cost of forcing him to pay.



South Korea is one country that has adopted this option in resolving the insolvency that threatened to collapse its banking sector. What South Korea did was set up a bad debt bank that bought toxic assets off the books of the troubled banks. The European Union is currently debating a similar option. South Korea has been so successful with this option that even the banks that were saved came together to also set a bad debt bank to compete with the governments bad debt bank in bidding for toxic assets on their balance sheets since they felt they were not getting fair prices for the toxic assets that the government bad debt bank was buying from them.