Credit Risk Management And The Profitability And Liquidity Of Money Deposit Banks (A Case Study Of First Bank Plc)
This paper is aimed at evaluating the impact of credit risk management and the profitability and liquidity of deposit money banks in Nigeria with particular reference to First bank of Nigeria Plc. Descriptive research design was used for the study where questionnaires were administered to a sample size of eighty (80) respondents.
The importance of credit in the economic growth and development of a country cannot be overemphasized. Despite the important role played by credit in the economy, it is associated with a catalogue of risks. The Nigeria banking industry witnessed some failures prior to the consolidation era due to imprudent lending that finally led to bad debt and some ethical facts.
The issue of non- performance of asset and declaring of ficticious project has become the order of the day in our banking system as a result of poor credit management leading to bank distress in the industry.
Three hypotheses were formulated and tested through use of chi-square on questionnaires administered to various respondents. From the data collected and the tested hypothesis, results showed that:
- Inadequate feasibility study affects loan repayment in the banking industry,
- The diversion of bank loan to unprofitable ventures affects loan repayment and
- The problem of poor attention given to distribution of loan has negative effect on banks performance. Amongst several recommendations were the following:
- Banks should establish sound and competent credit management unit and recruit well motivated staffs
- Banks should ensure that the chief executive avoid approval in principle in the credit management, and
- Banks should have a monitoring and control unit or department to carry out a sort of post- modern exercise by way of controlling and monitoring credit facilities and also ensuring completeness of all conditions precedent to draw down.
This is the introductory chapter of the chapters. is briefly explains the background of the study, statement of the problem, objectives of the study, research questions, statement of hypothesis, significance of the study, scope of the study, limitations of the study and definition of terms.
1.1 Background Of The Study
Banks as financial intermediaries are very significant in the economy of every nation. The relevance of banks to the economy lies primarily in their ability to mobilize credit and grant credit to various economic actors. Lending operations are core banking activities and the most profitable asset of credit institutions. In many markets, banks have to operate in the economic environment that is characterized by the existence of obstacles to good credit management. Where credit is not properly channeled, controlled and administered, it leads to a devastating effect on the banks, reducing its performance, profitability and further into bank distress and failure (Berger and Christa, 2009)
According to Cai and Anjan (2008), credit administration is the most important function of the banking industry. It is the most risky and difficult, and at the same time most profitable function performed by banks. The key strategic value a bank adds has always depended upon its ability to manage credit risk. This cannot be properly done without an effective risk assessment, control and follow up strategy. Risk increase when credit principles are violated. Sound banking practices require that bank management put in place standards for appraising and approving individual credit application to ensure that loans granted are repaid.
However, due to poor credit administration caused by loopholes and violation in risk assessment and control techniques, bad and doubted debts still claim a bulk charge on bank performance causing many banks to witness institutionalized distress and some, total unexpected collapse. Since lending carries a reasonable portion of resource exposure of deposit banks in Nigeria, the ability of a bank to generate much profit is largely a function of effective and efficient management of its lending portfolio.
The impact of liquidity position in management of banks have remained fascinating and intriguing, though very elusive in the process of investment analysis vis-à-vis bank portfolio management. There appears to be an interminable argument in the literature over the years on the meaning, role and determinants of liquidity and credit management. Acharya and Naqvi (2012) refer to liquidity as the speed and certainty with which an asset can be converted back into cash whenever the asset holder desires. A liquid bank stores enough liquid assets and cash together with the ability to raise funds quickly from other sources to enable it meet its payment obligations and financial commitment in a timely manner. Ngwu (2006) views liquidity management as the act of storing enough funds and raising funds quickly from the market to satisfy depositors, loan customers and other parties with a view to maintaining public confidence.
In spite of the measures put in place and aimed at protecting depositors and other public interest, the incidence of bank distress and failure has been on the increase in deposit money banks in Nigeria. This is as a result of increased probability of bank default, reduced performance and bulk charge against profits emanating from ineffective credit and liquidity risk management. Hence, for a bank to be viable and profitable; there must be strategic credit and liquidity risk management policies formulated and implemented in full. The tools for effective implementation of these policies will be anchored on the philosophy and mission of the bank, the overall credit risk strategy, and the credit policies adopted in the realization of strategic goals and objectives of the banks as well as the expansion prospects of such bank.
The effective management of credit and liquidity risks is inextricably linked to the development of banking technology, which will enable the bank to increase its speed of decision making and at the same time reduce the cost of controlling banking risk. The development of these banking technologies that reduce operating costs and cost of risk control will inevitably yield greater earnings and returns for the bank in terms of contribution and profitability.
1.2 Statement Of The Problem
With the increase of credit transactions and loan customers in the nation’s economy, credit expansion has been witnessed in the Nigerian financial sector. The trend of events in this sector shows that bank deposit-loan ratio increases daily as the economy grows daily. But credit risk has been on the increase with an increase in loan demands. Traditionally, credit was made available in association with one’s financial status, business sustainability, reputation and liquidity, but the unstable situation of the Nigerian financial market makes it difficult for banks to rely on the aforementioned determinants. Business conditions are often unpredictable and can lead to changes in the borrowers financial position and affects their ability the repay the loans at the date of maturity.
With the above scenario, the bank faces a credit risk of losing part or the entire loan including the interest receivable on such loans. This negatively affects the bank and reduces its’ financial strength to meet its’ financial obligations as they fall due. As these conditions remain unchecked, the liquidity of the bank is also threatened.
Liquidity is considered as the success of a bank, whose inefficient management constitutes a huge problem to both banks and the economy at large. The far reacting consequences of poor credit, profitability and liquidity management apart from decline in profit include loss of confidence in the bank’s ability to fulfill its short term and long term obligations, lack of trust on the part of depositors and other customers alike and the concomitant reduction in the level of operations.
In spite of the importance of credit and profitability, liquidity risk management to bank survival, no paper has so far analyzed the relationship between credit and liquidity risk on a broad range and its different dimensions in the Nigerian Money deposit banks . As a consequence, many important questions regarding this topic remain unanswered. What is the general relationship between credit and liquidity risk in banks? Do they jointly influence bank probability of default? What impact do these consolidated risks have on bank profitability? And if so, what measures should be adopted to manage both risks together? In view of the above, this study is centered on the profitable, efficient and viable remaking of deposit money banks in Nigeria within the matrix of the implementation of strategic and effective credit and liquidity management policies.
1.3 Objectives Of The Study
The objectives of this study is as follows
- To examine how feasibility study affect loan repayment in the banking industry.
- To highlight the extent in which diversion of bank loans to unprofitable ventures affect loan repayment.
- To examine how distribution of loans affect banks performance if banks give proper attention.
1.4 Research Question
- What is the general relationship between credit and liquidity risk in banks? Do they jointly influence bank probability of default?
- What impact do these consolidated risks have on bank profitability and Liquidity?
- And if so, what measures should be adopted to manage both risks together?
- To what extent does feasibility study affect loan repayment in the banking industry?
- To what extent does diversion of bank loans to unprofitable venture affect loan repayment?
- Does distribution of loans have effect on banks performance if given proper attention?
1.5 Statement Of Hypothesis
- H0: the consolidated risks does not have any impact on bank profitability and Liquidity?
- H1: the consolidated risks has an impact on bank profitability and Liquidity?
1.6 Significance Of The Study
This study will be useful to the executive and managers in the banking industry and other financial institutions. This is because it provides guidance which will enhance effect and efficient credit management aimed at attaining and boosting maximum profitability and liquidity in their banks. The depositor (public) on the other hand will be more enlightened on the need to be honest and fulfil the responsibilities in credit transaction with the banks so that they can look up to improve service from the banks. Finally to the researcher, this is an eye opener because as a potential manager it will guide one in future on how to manage credit facilities.
1.7 Scope Of The Study
This study is aimed at analysing the credit management in the banking industry in Nigeria with a particular reference to First Bank of Nigeria plc. The study intends to analyse the credit facilities in banking industry. It also reviews the various concepts procedures for efficient and effective credit management. It examines the success and failure (if any) as well as recommending corrective measure.
1.8 Limitations Of The Study
In this study, they course of carrying out this research encounters a lot of difficulties and was constrained in many areas among which are:
Data from banks: The problem of getting the managers, staff and customers of the two banks to answer questions in the proposed questionnaire, in many cases, information given by both banks and the ones from internet were not simplified. That is, they are very difficult to understand.
Time Constraints: in the aspect of theoretical and practical of this work, the researcher being a student had to apportion her time so as to carry out concurrently with other academic assignment.
Financial Constraints: the research was constrained by cavity of materials and other expenses. However, in spite of the limitations, effort were made by the researcher to utilize the limited resources at her disposal to ensure that the work is successfully completed.
1.9 Definition Of Terms
Below are the major terms used in the course of this research work.
A state where a person or firm is unable to meet their financial obligations.
management is the study of decision-makers from the supervisor and line managers at lower levels to the Board of Directors.
3) Loans And Advances:
These are credit facilities granted by banks to their customers. They could be short, medium or long term depending on the length of period of repayment
A credit facility (usually short term) granted by banks to current account holders and it carries interest charges on daily basis
Section 61 of BOFIA 1991 Act defines a banking business as business of receiving deposits on current account or other similar account paying or collecting cheques drawn by or paid in by customers.
A person is a customer if he or she has account with the bank.
7) Financial Ratio:
These are ratios usually expressed in mathematical terms to test the financial obligations.
8) Financial Statement:
They are firm balance sheets, profit and loss account and classified statement which show the financial state of affairs of the firm.
A person or group of persons who stand for bank customers for credit facilities.
10) Collateral / Securities:
is an asset presented by a customer to his bank to secure a credit facility granted to him by the bank.
5.0 Summary, Conclusion And Recommendation
This chapter focuses on summary, conclusion and recommendations. In this research, an attempt has been made to assess the Credit risk management and the profitability and liquidity of money deposit banks.
This study was directed towards perhaps the most sensitive problem on credit management in the banking industry in Nigeria.
The study was organized with five chapters. Chapter one introduced research topic under the background of the study, the chapter also stated the problems, objectives, significance of the study, limitations and as well as definition of relevant terms used in the study.
Chapter two focused on the review of literature related to the topic, while chapter three shows the research methodology used in gathering the relevant information needed, the decision and the administration of the questionnaire, and equally the parameters used for the analysis of the questionnaire.
Chapter four focused on the presentation, analysis and interpretation of data collection from the bank used. Finally the fifth chapter draws conclusion and also makes recommendation, which if adhered to, can enable banks manage their loans, recover their loans and make higher profits.
From the findings on hypothesis tested (under chapter four), the result showed the following:
- That inadequate feasibility study affects loan repayment in the banking industry,
- That the diversion of bank loan to unprofitable ventures affect loan repayment; and
- That the problem of poor attention given to distribution of loan has negative effect on banks performance.
The issue of non-performance of assets and declaration of fictitious projects has become the order of the day in our banking system. This is a result of poor credit management in the sector causing many banks to have become distressed. The study therefore, focused on credit management in banks with particular references to Frist Bank of Nigeria. Plc. Data collected and hypothesis tested revealed that inadequate feasibility study affects loan repayment; the diversion of bank loan to unprofitable ventures affects loan repayment and the problem of poor attention given to distribution of loan has negative effect on banks performance in the economy.
Taking cognizance of the problem of the study together with researcher‟s personal observations, it is believed that if they are strictly adhered to, some of the problems surrounding credit management which banks are encountering will be a thing of the past. The recommendations are as follow:
Banks should establish sound and competent credit management units and recruit well- motivated staff. Credit officers are the cutting edge of credit programmes. They perform a range of functions from project appraisal through credit disbursement and deposit mobilization to loan collection. Issues restraining to their selection, training, placement, job evaluation, reward and discipline need to be tackled effectively. Proper loan appraisal and follow-up, including very careful loan screening procedure and timely disbursement of approved loan should be undertaken by credit officers to reduce delinquencies and default.
Precaution in credit administration is important in reducing credit risk and can be achieved through (i) demand for appropriate collateral security before granting loans, and (ii) Effective loan supervision and monitoring by credit officers.
Banks in Nigeria should enhance their capacity in credit analysis and loan administration while the regulatory authority should pay more attention to bank compliance to relevant provisions of the Bank and other Financial Institution Act (1999) and prudential guidelines.
There should be credit manual, which should be strictly adhered to at every stage of the credit process when credits are administered and managed in accordance with laid down policies and procedures, the occurrence of reckless un-suitable credits and poor loan administration will be drastically reduced or eliminated.
Banks should ensure that the chief executive avoids „approval in principle in the credit process. Approval in principle is anticipating approval given by chairman in time of exigency and it is expected to ratify by the board of directors even when the outcome of the transaction is unknown and unfavourable. This has caused some banks‟ chief executives their job in the past. It is advisable to adhere to laid down credit process/procedure.
Bankers are advised to imbibe the spirit of „‟after-sales-services „‟. They should monitor the credit process as to prevent possible diversion of funds. There is a great danger in not monitoring a customer for it can lead to bad loan.
Banks should have a monitoring and control units or department to carry out a sort of post-mortem exercise by way of controlling and monitoring credit facilities and also ensuring completeness of all conditions precedent to draw down.
They should put in place proper credit documentation which serves as the official documentation verifying the existence of a credit facility and contains information relating to the credit. This will aid banks in recovery when the loan goes bad credits should also be extended within the target nerves and lending strategy of the institution.
Identifying to the key feature of credit origination to be the assessment of the risk profile of the customer /transaction, banks should develop procedure that adequately capture salient issues regarding the borrower’s industry, macro-economic factors, purpose of the credit, source of repayment, track record and repayment history of the borrower, repayment capacity of the borrower, the proposed terms and conditions, adequacy and enforceability of collaterals and appropriate authorization for the borrowing.
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