Bank customers The anticipated economic reform from the new administration is bound to weigh heavily on money…


Bank customers The anticipated economic reform from the new administration is bound to weigh heavily on money deposit banks. However, analysts from Renaissance Capital warn that it will be a serious gamble to put more burden on banks in a way that may increase the incidence of non-performing loans in the industry, reports Festus Akanbi With the inauguration of the new National Assembly last week, it is obvious that the coast is clear for President Muhammadu Buhari to unveil his economic team to Nigerians. So, as attention is fixed on the National Assembly, with the hope that the ministers’ list will make its way to the chamber any moment from now, keen watchers of the nation’s economy have begun to take positions on the fate that awaits the various sectors of the economy; considering the personality of the new president, the rising expectations of the people

and the reality of the state of the economy. For obvious reasons, the banking industry is bound to attract the immediate attention of the new administration. Analysts said this is so because apart from the need to further beef up the nation’s revenue, a drive expected to be largely driven by banking activities, a number of issues are still pending and their immediate resolution will guarantee the safety of deposits and investments in the banking industry. This was the position of the international financial and investment advisory firm, Renaissance Capital in its latest reports titled ‘Nigerian banks: Where is the bottom?

”, which was made available to THISDAY recently. The research firm, which based its findings on series of separate meetings held with operators in banks, oil and gas, power, manufacturing and general commerce, concluded that some far reaching decisions were bound to be taken by the new administration with the corresponding pains of the anticipated reforms in the economy. Pain of Reforms According to the report, “The decline in oil prices and the significant shock to the country’s revenue, coupled with the coming to power of a new president who is focused on deep-reaching reforms, suggests to us that the Nigerian banks are unlikely to be unscathed by the reform process. The reality is that the new government has to make certain tough decisions that we expect to affect the banks directly and indirectly near term.” Possibility of Higher Taxes The instability in the oil sector and the attendant shortfall in revenue have made a sharp diversification of the economy a non-negotiable step for the new administration. Government officials have been hinting on the readiness of the new administration to carry out fundamental reforms in tax administration as a way of hedging the economy against further shocks.

Analysts from Renaissance Capital therefore believed that the drive to improve government revenue via taxes could see a removal of or adjustment to the tax exemptions on interest earned on government and corporate securities. “We think this is low-hanging fruit for the new government given the size of Nigeria’s fiscal deficit, but highlight that this will be a big negative for banks’ tax rates and returns. The tax exemptions on government and corporate bonds/treasuries were gazetted by the outgoing president in December 2011, for a period of 10 years, with the exception of federal government bonds, which were given an infinite exemption. It is our understanding that since this exemption was granted under the executive powers of the president; it can similarly be reversed or amended by the same powers. Therefore, should the tax rate for the banks be materially increased, the investment case for the sector would be weakened significantly, in our view, as almost no bank would be able to match its cost of equity in the already tight monetary policy environment,” the report said. Asset Quality Rencap believed the other area where the new government’s reform process could put some pressure on the Nigerian banks is asset quality, saying the weaker macroeconomic conditions and tight monetary policy environment are additional factors that imply a weaker asset quality environment for the sector. According to the report, investors have been acutely focused on asset quality risks from the upstream and midstream oil & gas sector, with the expectation that companies could start defaulting because of the steep and elongated decline in oil prices.

The report said, “Considering declining revenue for the upstream companies and consequential cancellation, suspension or revision of contract terms with service companies, these concerns are valid, in our view. That said, our feedback from the banks has been that for the upstream loans, as long as production continues, the price risk will be addressed by extending the life of loans where necessary. Some loans have been restructured by banks such as Diamond, FCMB, Skye and FBNH, for example, and others are still works in progress across the system, particularly where they are syndicates. While this helps to prevent the loans from being classified as NPLs, as long as the restructuring is concluded before default, we expect collective impairments to rise as per IFRS requirements.

” It explained further that “there are additional concerns which suggest we could still see some NPLs arising from the upstream and/or midstream sectors. For example, some upstream projects have been suspended or cancelled, implying material revenue delays for the service companies that have taken out loans from the banks. While the banks likely have claim to the collateral, the cash-flow shocks and anticipated delays in disposing of any oil and gas collateral is likely to lead to these loans being classified, in our view.” It suggested that “Where projects have continued, we have read articles and heard from oil and gas players that day rates on a number of service contracts have been cut by as much as 20-40 per cent. Here, the banks could restructure loans to match the revised cash-flow expectations on the asset, as long as the service company is a) able to secure an extension to its contract with the upstream company; or b) has a guarantee of contract renewal.

“We see an additional implication of what we have described in terms of staff layoffs by both upstream and service companies – employees that Nigerian banks have historically been happy to support with payroll loans. The fall-back option for the banks, based on our discussions with them, is often that the employee’s retirement/disengagement benefits must be paid into the employee’s account with the lender. Some banks also insure the loan interest in the event of disengagement for a fixed period during which the employee might secure a new job. Nevertheless, we expect consumer NPLs to arise from these sectors also, and the banks have also been flagging this.” The analysts also raised asset quality concerns for banks that have exposure to companies with strategic alliance agreements (SAA) with the Nigerian Petroleum Development Company (NPDC). Other Asset Quality Issues Another area that caught the attention of Rencap analysts was the current salary delay in many states, which the report said may raise the level of non-performing loans in banks. It said, “We also highlight the on-going delay by many state governments in paying workers; there are also delays in salary payments at the federal level, and to contractors at various levels of government, with a number of on-going projects likely to be reviewed or cancelled given the sharp decline in government revenue, in our view. We expect these factors to drive NPLs in the sector, and the banks are already making provisions for potential NPLs in this regard.” Other Issues A similar issue is asset quality concerns arising from the 30 per cent depreciation of the naira over the past six-to-nine months, as well as the low availability of FX to facilitate imports and external payments.

“We understand players in the general commerce and manufacturing sectors are feeling the strain – something the banks have corroborated. The weak macro environment has also led to a cooling in real estate markets,” it noted. Meanwhile, analysts also expect high and rising bank lending rates on the back of the tight monetary policy environment to lead to higher defaults in the banking system. “We have seen banks such as Stanbic increase lending rates on mortgage and consumer loans by 200-300 bpts YtD, in parallel with offering customers a tenor elongation to smooth the financial burden. This is similar to the Kenyan banks’ experience in 2011/2012, where local banks underwent bouts of loan restructuring on the back of currency-driven policy rate hikes. We expect the Nigerian banks to have a similar experience and think the more important question to ask to gauge asset quality stress in the banking sector this year will be what proportion of the loan book has been restructured,” it said. The research firm said the restructuring of the downstream oil sector is another area to watch. Rencap said it was uncertain how the deregulation of the sector could play out, but thinks the new government is likely to review the outstanding subsidy claims of N200-300bn ($1.0-1.5bn). “This implies we could see some claims being rejected, which could lead to NPLs.

The longer-term issue we see here involves how the downstream reforms take shape; we expressed some views on this in our 1 December 2014 report, ‘Nigerian banks: The nature of growth and risk,” it said. The research firm said it expects the new government to institute some deep-reaching reforms and regulations, adding, “While the nature of such reforms remains uncertain, we expect they will present both opportunities for growth for Nigerian banks and possible sources of NPL stress, should borrowers fall on the wrong side of regulations or reforms.”