PERFORMANCE OF SELECTED COMMERCIAL BANKS

Digitally Signed by: Content manager’s

DN : CN = Weabmaster’s name

O= UUniversity of Nigeria, Nsukka

OU = Innovation Centre

Fred Attah

Faculty of Business Administration

Department of Management

EFFECT OF RISK MANAGEMENT ON THE

PERFORMANCE OF SELECTED COMMERCIAL BANKS

IN ENUGU STATE, NIGERIA

ADINDE, JUSTICE CHUKWUEMEKA

PG/MBA/12/62020

: Content manager’s Name

Weabmaster’s name

a, Nsukka

Business Administration

EFFECT OF RISK MANAGEMENT ON THE

PERFORMANCE OF SELECTED COMMERCIAL BANKS

ADINDE, JUSTICE CHUKWUEMEKA

EFFECT OF RISK MANAGEMENT ON THE PERFORMANCE OF

SELECTED COMMERCIAL BANKS IN ENUGU STATE, NIGERIA

ADINDE, JUSTICE CHUKWUEMEKA

PG/MBA/12/62020

DEPARTMENT OF MANAGEMENT

FACULTY OF BUSINESS ADMINISTRATION

UNIVERSITY OF NIGERIA, ENUGU

SEPTEMBER, 2014

TITLE PAGE

EFFECT OF RISK MANAGEMENT ON THE PERFORMANCE OF SELECTED

COMMERCIAL BANKS IN ENUGU STATE, NIGERIA

ADINDE, JUSTICE CHUKWUEMEKA

PG/MBA/12/62020

A PROJECT REPORT SUBMITTED TO THE DEPARTMENT OF MANAGEMENT,

FACULTY OF BUSINESS ADMINISTRATION, UNIVERSITY OF NIGERIA, ENUGU

IN PARTIAL FULFILMENT OF THE REQUIREMENTS FOR THE AWARD OF

MASTERS IN BUSINESS ADMINISTRATION (MBA) IN MANAGEMENT

SEPTEMBER, 2014

DECLARATION

I, ADINDE JUSTICE CHUKWUEMEKA, PG/MBA/12/62020, hereby declare that this

project report is original and has not been submitted elsewhere for the award of any degree.

__________________________ __________________

Signature Date

APPROVAL

ii

This work, “EFFECT OF RISK MANAGEMENT ON THE PERFORMANCE OF

SELECTED COMMERCIAL BANKS IN ENUGU STATE, NIGERIA”, by ADINDE

JUSTICE CHUKWUEMEKA is hereby approved as a satisfactory project for the award of

the degree of Masters in Business Administration (MBA) in Management.

____________________________ ___________________

DR. AGBAEZE, E.K Date

(Supervisor)

__________________________ ___________________

External Examiner Date

___________________________ ____________________

DR. UGBAM, O.C Date

(Head of Department)

iii

DEDICATION

To the Ancient of Days, Almighty God, the fountain of wisdom and knowledge who

strengthens and sustains my intellectual endeavours.

To my mum, for all her prayers.

And to my entire family members, for their patience, understanding, unfailing supports and

encouragement all through the programme.

ACKNOWLEDGEMENTS

iv

Several people have been helpful in the course of writing the project, acknowledgements are

due to individuals and corporate bodies that supported me during the period. My utmost

regards goes to my able supervisor, Dr. Agbaeze, E. K for his punctilious supervision.

Amidst his tight schedule, he found it exclusively worthy to be dedicated to this work. I am

equally grateful to all my lecturers, they include; the Dean Faculty of Business

Administration, Prof. Nnabuko Justitia Odinaka, the Head of Management Department, Dr.

Ogechukwu. C Ugbam, Prof. Johnny Eluka, Prof. U.J.F Ewurum, Dr. Vincent Onodugo, Dr.

B.I Chukwu, Dr. Ann Ogbo, Dr. C. Nnadi, Dr. Fr. Anthony Igwe, Dr. C.A Ezigbo and late

Dr. C. O Chukwu,

My profound gratitude goes to the risk officers and operations staff of the banks, in spite of

their tight official schedules, found time to respond to the questionnaires. Their responds on

issues of risk management assisted in reaching the conclusions and recommendations

presented in this work. I am equally grateful to the Librarian and Library staff of the

University of Nigeria, Enugu Campus Library for providing me some of the materials I used.

I am highly indebted to all the authors of books and journal articles, whose works assisted me

greatly in the course of writing this project.

I am grateful to my mum for her motherly care. Her prayers helped me. I owe so much to my

elder brothers; Dr. Ikechukwu and Mr. Azubuike Adinde, they laid the foundation of what I

am today. My profound gratitude also goes to my other siblings; Mrs. Ifeoma Onwuama,

Nneka Aneke, Oluchi Ovuoba, Tessy and Chukwuma and also to my nieces and nephews. I

must not forget to thank my in-laws; Pastor Arinze Onwuama and Dr. Chukwuemeka Ovuoba

for the numerous aids I received from them during the programme.

I sincerely appreciate the moral support of my friends and classmates towards the successful

completion of this work, they include; Dr. (Mrs) Onyia Angela, Uchenna Ibe, Jude Ibe,

Chukwuemeka Umeh, Tochukwu Okeke, Johnny Chikelu, Cyril Eze, Geoffrey Ekoja, Chidi

Onyia, Nnenna Igboanude and Amaka Obeleze, may God reward you all.

Adinde Justice Chukwuemeka

September, 2014

ABSTRACT

v

This study focused on the effect of risk management on the performance of selected

commercial banks in Enugu State, Nigeria. The Commercial banks were selected on a cross

sectional basis. The work evaluated the link between risk management and bank

performance. The study is relevant because of the growing importance of risk management as

the economic environment changes in the face of intense competition, rapid innovation in

financial markets, application of technology and the globalization of financial markets. The

study utilized survey research design because of the type of information needed. Structured

questionnaire was used to collect data for this work and Chi-square statistical approach was

used in testing the acceptability or otherwise of the hypotheses formulated. The results

showed that effective risk management significantly affects the performance of banks. Based

on the findings, it was recommended that banks in Enugu state, Nigeria, should enhance their

capacity in risk management by devising effective and efficient process to identify, measure,

monitor and control risks while the regulatory authority should periodically review the

operations of banks to ensure they comply with relevant provisions of the Bank and Other

Financial Institutions Act (BOFIA 1999) and prudential guidelines.

TABLE OF CONTENTS vi

Title Page -------------------------------------------------------------------------------------- i

Declaration -------------------------------------------------------------------------------------- ii

Approval -------------------------------------------------------------------------------------- iii

Dedication -------------------------------------------------------------------------------------- iv

Acknowledgement ----------------------------------------------------------------------------- v

Abstract -------------------------------------------------------------------------------------- vi

Table of contents ----------------------------------------------------------------------------- vii

CHAPTER ONE: INTRODUCTION

1.1 Background of the Study ----------------------------------------------------------- 1

1.2 Statement of Problem -------------------------------------------------------------------- 4

1.3 Objectives of the Study ----------------------------------------------------------- 5

1.4 Research Questions -------------------------------------------------------------------- 5

1.5 Hypotheses ----------------------------------------------------------------------------- 6

1.6 Significance of the Study ----------------------------------------------------------- 6

1.7 Scope and Limitations of the study -------------------------------------------------- 7

1.8 Definition of terms -------------------------------------------------------------------- 7

References ------------------------------------------------------------------------------------- 10

CHAPTER TWO: REVIEW OF RELATED LITERATURE

2.1 Conceptual Framework ---------------------------------------------------------- 11

2.2 Theoretical Framework ---------------------------------------------------------- 13

2.2.1 Risk and Uncertainty ------------------------------------------------------------------- 13

2.2.2 Rationale for risk Management ------------------------------------------------- 14

2.2.3 The risk Management Process ------------------------------------------------- 16

2.2.4 Risk Identification ------------------------------------------------------------------- 16

2.2.5 Risk Measurement ------------------------------------------------------------------- 16

2.2.6 Risk Monitoring and Control ---------------------------------------------------------- 17

2.2.7 Risk Reporting ------------------------------------------------------------------ 17 vii

2.3 Empirical Review ------------------------------------------------------------------ 17

2.3.1 Credit risk Management --------------------------------------------------------- 19

2.3.2 The Prudential Guidelines --------------------------------------------------------- 20

2.3.3 Credit Portfolio Classification System --------------------------------------- 21

2.3.4 Provision for Non-Performing Facilities --------------------------------------- 23

2.3.5 General Provisions ------------------------------------------------------------------ 24

2.3.6 Credit Portfolio Disclosure Requirement --------------------------------------- 24

2.3.7 Interest Accrual ------------------------------------------------------------------ 25

2.4 Liquidity Risk Management --------------------------------------------------------- 26

2.4.1 Need for Liquidity Risk Management --------------------------------------- 27

2.5 Interest Rate Risk Management ------------------------------------------------ 27

2.6 Market or Systematic Risk --------------------------------------------------------- 28

2.7 Foreign Exchange Risk --------------------------------------------------------- 29

2.8 Solvency Risk ------------------------------------------------------------------ 30

2.9 Operational Risk ------------------------------------------------------------------ 31

2.10 Model Risk --------------------------------------------------------------------------- 32

2.11 Risk Modelling ------------------------------------------------------------------ 32

2.12 Banking Regulation and Risk Management --------------------------------------- 33

2.13 Risk Management and Bank Performance --------------------------------------- 34

References ------------------------------------------------------------------------------------ 36

CHAPTER THREE: RESEARCH DESIGN AND METHODOLOGY

3.1 Research Design ----------------------------------------------------------------- 40

3.2 Area of Study -------------------------------------------------------------------------- 40

3.3 Population of the Study -------------------------------------------------------- 40

3.4 Sample Size -------------------------------------------------------------------------- 40

3.5 Method of Data Collection -------------------------------------------------------- 41

3.6 Instrument of Data Collection ----------------------------------------------- 41 viii

3.7 Validity of the Instrument -------------------------------------------------------- 41

3.8 Method of Data Analysis -------------------------------------------------------- 42

References ----------------------------------------------------------------------------------- 43

CHAPTER FOUR: PRESENTATION ANALYSIS AND INTERPRETATION OF

DATA

4.1 Presentation and Analysis of Data ---------------------------------------------- 44

4.2 Test of Hypotheses ---------------------------------------------------------------- 56

4.2.1 Decision Rule ------------------------------------------------------------------------- 56

4.2.2 Operational Assumption ------------------------------------------------------- 56

4.2.3 Test of Hypothesis One ------------------------------------------------------- 57

4.2.4 Test of Hypothesis Two ------------------------------------------------------- 59

4.2.5 Test of Hypothesis Three ------------------------------------------------------- 62

4.2.6 Test of Hypothesis Four ------------------------------------------------------- 64

CHAPTER FIVE: SUMMARY OF FINDINGS, CONCLUSIONS AND

RECOMMENDATIONS

5.1 Summary of Findings ------------------------------------------------------ 68

5.2 Conclusions ------------------------------------------------------------------------ 68

5.3 Recommendations --------------------------------------------------------------- 68

5.4 Contribution to Knowledge ------------------------------------------------------ 69

5.5 Suggestion for Further Research -------------------------------------------- 69

Bibliography -------------------------------------------------------------------------------- 70

Appendix I -------------------------------------------------------------------------------- 75

ix

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

Modern banking began in Nigeria in 1982 when the African Banking Corporation (ABC)

based in South Africa opened a branch in Lagos. ABC was taken over by British Bank for

West Africa (BBWA) and subsequently changed its name to Standard Bank in 1894 and then

to First Bank of Nigeria in 1894. According to Nwankwo (1991), other early comers included

the Anglo-African Bank established in 1891, which later became Bank of Nigeria in 1905

and the Colonial Bank in 1916. The Colonial Bank was taken over by Barclays Bank (now

Union Bank Plc) in 1925. As at 1928, the British Bank for West Africa and Barclays Bank

were only banks operating in Nigeria.

Indigenous banks started emerging in the early 1930s, several of them sprang up rapidly but

most collapse with the same rapidity due to such factors as poor management, illiquidity,

inadequate capital, speculative features of their operations and most importantly the absence

of a regulatory framework. By 1954, 21 of the 25 indigenous banks had failed with 16 of

them collapsing in 1954 alone. Of the remaining 4 indigenous banks, Mercantile Bank failed

in 1962 leaving only National Bank, African Continental Bank and Agbomagbe Bank (now

WEMA Bank). The spate of bank failures made the colonial administration to enact the

Banking Ordinance in 1952; this was followed by regulations to strengthen the banking

system. The commencement of operations by the CBN in 1959 stemmed the wave of bank

failures (Adekanye 1986).

According to Obadan (1997), the banking sector was dominated by expatriate banks until

1977 when the Federal Government promulgated the Nigerian Enterprises Promotion Decree

which pegged the equity shares in foreign banks to 40%. Since then, the banking industry has

grown steadily, peaking at 120 in 1992 following government’s liberalisation and

deregulation of the banking sector under the Structural Adjustment Programme (SAP)

introduced in 1986. This development led to financial distress in the sector. The distress in

the era could be traced to inadequate executive capacity, unhealthy competition, weak

corporate governance, insider abuse and poor capitalisation. By 2005, 89 banks were

operating in the country with total assets in excess of N2 trillion and a branch network of

over 3000. Majority of the banks exhibited various degrees of weaknesses ranging from poor

asset quality, illiquidity, insolvency, weak capital base, poor corporate governance and poor

management system.

Valencia and Nocera as cited in Opoku-Adarkwa (2011:1) opine that past decade has seen the

world witnessing one of the most shocking financial meltdowns. The effects of the crisis

were pervasive and hit almost every sector of global businesses; the most affected sector was

the financial services industry, specially the banking sector. The banking sector did not only

witness the dramatic disappearance of the most renowned institutions like Leman-Brothers

and Bear Stearns, it also became a regular target for tougher regulations, public anger and

academic criticism. There are numerous explanations on the causes of the current financial

crisis. One factor that has received significant attention during this crisis is risk management

discourse. It seems that risk management has become an important tool, from which banks

try to achieve legitimacy in the eyes of the public and regulators. This triggering effect has

given stakeholders in the Nigerian banking industry cause not only to consider the returns

made in the sector, but also critically examine frameworks used to manage risks in the sector

and safeguard their interests. This is because the failures faced by the industry in recent times

have been blamed largely on the weaknesses of the regulatory frameworks and the risk

management practices of the financial institutions. The greatest impact of the crisis has been

on the banking industry where some banks that were hitherto performing well suddenly

announced large losses with some of them going burst. Some reasons put forward for the

failures in risk management in this regard include the limited role of risk management in the

granting of loans in most banks. This is largely because the banks are unable to influence

business decisions of its borrowers coupled with the fact that their considerations are

subordinated to profitability interests and lack of capacity to adequately make timely and

accurate forecasts. This has resulted in the flouting of basic risk management rules such as

avoiding strong concentration of assets and minimizing the volatility of returns.

Though the impact of the global financial crisis on the banking sector in Nigeria has been

quite minimal such that it did not threaten the survival of banks in the sector, it serves as a

wake-up call to all financial institutions. This is largely because the sector has little exposure

to complex financial instruments and relies mainly on low-cost domestic deposits and

liquidity unlike banks in the developed countries.

Under a new banking sector reform programme announced on July 2004, Nigerian banks

were expected to recapitalise to N25 billion through consolidations by means of mergers and

acquisitions or fresh capital injection. The consolidation exercise that ended in December

2005 produced 25 banks, recently reduced to 22 banks with the acquisitions of

Intercontinental bank Plc, Oceanic bank Plc and Equatorial Trust bank (ETB) Limited by

Access bank Plc, Ecobank Plc and Sterling bank Plc respectively with better prospects for

increased profitability, greater international competitiveness and leading economic

development in the country.

It is against the background above that effects of risk management on the performance of

selected Commercial banks in Enugu State are being presented in this research work.

Risk management as both an economic and financial concept has gained increasing attention

in recent times. In the past decade, rapid innovation in financial markets, deregulation and the

internationalisation of financial markets have changed the face of banking in Nigeria

significantly.

Chorafas (2001) agrees that the origin of risk is uncertainty of future outcome; the probability

of an adverse outcome. It is the chance that events or actions will not have their previously

planned outcome.

Levine (2003) states that risk to a banker means the perceived uncertainty connected with

some event. Presenting the same viewpoint, Besiss (2010) writes that risks are uncertainties

resulting in adverse variations of profitability or losses. It designated any uncertainty that

might trigger losses.

Greuning and Bratanovic (2003) assert that banks are subjected to wide spectrum of risks in

the course of their operations. In broad terms, the main types of risks that banks are exposed

to include financial risks, operational risks, business risks and event risks. Financial risks in

turn comprise two types of risks, namely; Pure risk and Speculative risk. Pure banking risks

are mainly those related to credit risk, liquidity risk and solvency risk. The main categories of

speculative risks are interest rate, currency and market price or position risks.

Risk management in banking refers to the entire set of risk management processes and

models allowing banks to implement risk-based policies and practices. The process covers all

techniques and management tools required for measuring, monitoring and controlling risks.

Interest risk management has grown phenomenally over the past recent years for the

following reasons:

• Banks have major incentives and rapidly staving off risk

• Regulations developed guidelines for risk measurement and for defining risk-based

capital.

• There are also the additional reasons that several new approaches to risk management

have been developed for all types of risks, providing tools that make risk

measurement and their integration into bank processes feasible.

1.2 STATEMENT OF PROBLEM

Commercial banks play essential roles in the process of economic development. As financial

intermediaries, they facilitate the mobilisation of financial resources from surplus units to

deficit units, thereby ensuring efficient allocation and utilisation of funds. To play this crucial

development role on a sustainable basis, commercial banks must have sound corporate risk

management systems in place to forestall the possibility of insolvency, illiquidity and

eventual failure.

Santomero (1997) states that Commercial banks are in the risk business. In the process of

providing financial services, they assume various kinds of financial risks. Over the last

decade our understanding of the place of commercial banks within the financial sector has

improved substantially.

BGL Banking Report (2010) cited by Kolapo, Ayeni and Oke (2012:32) stress that the

Nigerian banking industry has been strained by the deteriorating quality of its credit assets as

a result of the significant dip in equity market indices, global oil prices and sudden

depreciation of the Naira against global currencies. The poor quality of the bank’s loan assets

hindered banks to extend more credit to the domestic economy thereby adversely affecting

economic performance. This prompted the Federal Government of Nigeria through the

instrumentality of an Act of the National Assembly to establish the Asset Management

Corporation of Nigeria (AMCON) in July, 2010 to provide a lasting solution to the recurring

problems of non-performing loans that bedevilled Nigerian banks.

Evolving an effective risk management system has been a source of constant challenge to

commercial banks. The fact that commercial banks are in the risk business accentuates the

importance of a strong and sustainable system for identifying, measuring, monitoring and

controlling the spectrum of risks faced by commercial banks. Available evidence indicates

that commercial banks do not give adequate emphasis to risk management in terms of

resources commitment and the level of board and management support deserved by the

process.

More than any other factor, inadequate risk management explains the difficulties faced by

financial institutions in Nigeria. The illusion of paper profits, wrapped corporate governance

and a weak financial reporting environment have over the years deluded the banks that all

that counted was the quantum of the bottom line without regard to the element of risk. It is

therefore no surprise that in the wake of the consolidation programme most Nigerian banks

which hitherto appeared to be doing well suddenly became insolvent and illiquid.

In line with the above observations and the seemingly indispensability of banks in the

economy, this study is designed to examine effects of risk management on the performance

of selected Commercial banks in Enugu State.

1.3 OBJECTIVES OF THE STUDY

This study aims at assessing effects of risk management on the performance of selected

Commercial banks in Enugu State. Specifically, the study intends to achieve the following

objectives:

1. To identify the risks encountered by Commercial banks in Enugu State.

2. To determine the risk management practices among Commercial banks.

3. To determine the extent the legal and regulatory provisions designed to manage risks

in the Nigerian banking system support sound risk management.

4. To determine the effect of resourceful risk management and bank performance in

Enugu State.

1.4 RESEARCH QUESTIONS

The research questions are designed to obtain answers to the major issues of concern to the

researcher in the problem area. The following research questions are considered relevant to

the study.

1. What are the risks encountered by the Commercial banks in Enugu State?

2. What are the risk management practices among Commercial banks in Enugu State?

3. To what extent does the existing legal and regulatory provisions support sound risk

management practices among Nigerian banks?

4. What effects do risks management have on performance of Commercial banks in

Enugu State?

1.5 HYPOTHESES

The following hypothesis formed the basis of this research work:

Hi: There are significant risks encountered by Commercial banks in Enugu State.

Hi: There are effective risk management practices among Commercial banks in

Enugu State.

Hi: The existing legal and regulatory provisions support sound risk management

practice among Nigerian banks.

Hi: Effective risk management has significant effects on the performance of banks

in Enugu State.

1.6 SIGNIFICANCE OF THE STUDY

There is paucity of research in risk management generally and as it relates to the banking

sector in particular. A healthy banking system is a prerequisite for a sound and stable

financial system. The various stakeholders in the commercial banks range from employees,

management, investors, shareholders, government, depositors, regulators and financial

analysts. These interested parties suffer in varying degrees when a commercial bank suffers

financial difficulties or failure due to vulnerability to risk. The potential loss of deposits is the

immediate consequence of a commercial bank crisis. Besides, there is the possibility of the

loss of investments by shareholders, the loss of employment by employees and the potential

for contagion in the event of a failure or severe financial crisis.

The findings of the study will arouse the risk awareness and consciousness of the banks to

enable deeper understanding of the various issues involved in the risk management process.

It is hoped that the study will contribute to the existing pool of knowledge on risk

management in banks and offer useful tools and techniques for better identification,

measurement, monitoring, controlling and reporting of risks faced by commercial banks.

1.7 SCOPE AND LIMITATIONS OF THE STUDY

This study was delimited to the effects of risk management on performance of selected

commercial banks in Enugu State. It focused on the reasons, objectives, procedures and

benefits of risks management.

However, one cannot reasonably undertake any research project without some constraints. In

choosing the research topic and scope of the study the researcher was mindful of factors that

could impede the effective realisation of the research objectives. Refusal of some banks in

accepting and answering questions contained in the questionnaire is one the major constraints

encountered during this study. It is well known that lack of time and financial resources can

limit the potential scope and depth of a research work. This has been the case with this study.

This study has therefore not been as exhaustive as it should be due to the paucity of time and

finance.

Risk management is a growing area of interest in economics and finance with multiple

disciplines and subfields. This research work has not been able to explore the vast and

crucially important issues in risk management because its scope is limited to the experience

of commercial banks in Enugu State.

1.8 DEFINITION OF TERMS

• Earnings Risk

The earnings of a bank may sometimes decline due to factors inside the bank or due to

exogenous factors such as changes in laws and regulations or changes in economic

conditions. Earnings risk is therefore the risk to a bank’s bottom line arising from

internal and external factors.

• Inflation Risk

This is the probability that an increasing price level for goods and services will

unexpectedly erode the purchasing power of banks earnings and the return to its

shareholders.

• Credit Risk

Credit or counterparty risk is the chance that a debtor or financial instrument issuer

will not be able to pay interest or repay the principal according to the terms specified

in a credit agreement.

• Liquidity Risk

According to Greuning and Bratanovic (2003), a bank faces liquidity risk when it

does not have the ability to efficiently accommodate the redemption of deposits and

other liabilities and to cover funding increases in the loan and investment portfolio.

These authors go further to propose that a bank has adequate liquidity potential when

it can obtain needed funds (by increasing liabilities, securitising, or selling assets)

promptly and at a reasonable cost. The Basel Committee on Bank Supervision, in its

June 2008 consultative paper, defined liquidity as the ability of a bank to fund

increases in assets and meet obligations as they become due, without incurring

unacceptable losses.

• Market Risk

According to Bessis (2010), “market risk is the risk of adverse deviations of the

market-to-market value of the trading portfolio due to market movements during the

period required to liquidate the transactions”.

• Interest Rate Risk

This is the risk incurred by a bank when the maturity of its assets and liabilities are

mismatched. It is the impact of changing interest rates on a bank’s margin of profits.

It is the risk of decline in a bank’s earnings due to the movements in interest rates.

• Currency or Exchange Rate Risk

This is the risk that exchange rate changes can affect the value of bank’s assets and

liabilities.

• Operation Risk

This is the risk that existing technology may malfunction or break down. It relates to

the uncertainty regarding the firm’s investments and investment opportunities and are

influenced by the product markets in which a firm operates.

• Insolvency Risk

This is the risk that a bank may not have enough capital to settle or offset a sudden

decline in the value of its assets relative to its liabilities.

• Basel Accord

Used to refer to the Committee of the Bank of International Settlements which sets

guidelines on capital requirements for banks.

REFERENCES

Adekanye, F. (1986), The Elements of Banking, UK, Graham Burns.

Bessis, J. (2010), Risk Management in Banking, England, John Wiley and Sons.

Chorafas, D.N. (2001), Managing Risk in the New Economy, New Jersey: Prentice Hall.

Greuning, H.V and Bratanovic, S.B (2003), Analysis and Managing Banking Risk: A

Framework for Assessing Corporate Governance and Financial Risk, United States

of America: World Bank Publications.

Kolapo, T.F, Ayeni, R.K and Oke, M.O (2012), “Credit Risk and Commercial Banks

Performance in Nigeria: A Panel Model Approach”, Australian Journal of Business

and Management Research, Vol. 2 No 2, PP 31-38. Retrieved on February 1st,

2014, from http://www.ajbmr.com/articlepdf/aus-20-70i2n2a4.pdf

Levine, R. (2003), The Corporate Governance of Banks: A Concise Discussion of Concepts

and Evidence, Working Paper, Global Corporate Governance Forum, Washington

DC

Nwankwo, G.O (1991), Money and Capital Markets in Nigeria Today, Lagos, University of

Lagos press.

Obadan, M. I (1997), “Distress in Nigeria’s Financial Sector-need for house cleaning by

Financial Institutions”. A speech delivered at the closing lunch of the 3rd

Annual

Bankers Conference, Unpublished.

Santomero, A. M (1997), “Commercial Bank Risk Management:An Analysis of the Process”:

Paper Presented at the Wharton Financial Institution Centre Conference on Risk

Management in Banking, Journal of Financial Services Research. Retrieved on

February 1st, 2014 from http://www.fic.wharton.upenn.edu/../9511B.pdf

CHAPTER TWO

REVIEW OF RELATED LITERATURE

The relevance of banks in the economy of any nation cannot be overemphasized. They are the

cornerstones, the linchpin of the economy of a country. The economies of all market-oriented

nations depend on the efficient operation of complex and delicately balance system of money

and credit. Banks are an indispensable element in these systems. They provide the bulk of

money supply as well as the primary means of facilitating the flow of credit. Consequently, it

is submitted that the economic well being of a nation is a function of advancement and

development of her banking industry.

2.1 CONCEPTUAL FRAMEWORK

Banking is a risk business. In Nigeria, the spate of bank failure in the early days of banking

was accounted for by poor risk management practices, among other factors. According to

Onyiriuka (2004), the widespread banking crisis of the 1990 during which several banks

failed was phenomenal in terms of its scope and consequence on the economy. About thirty-

four banks were liquidated by the regulatory agencies within a period of four years 1994-

1998. Many of the banks failed mainly due to poor risk management practices arising from

weak corporate governance, poor asset quality, illiquidity and lean capital base.

In pursuit of its profit objective, a bank must ensure that it is doing so in the context of

enlightened consciousness of the risks and uncertainties in its operating environment. In

Rawnsley’s (1995) view, balancing risk and return is therefore critical to maintaining profits

and reputation as well as operational independence. Most banking risks are embedded in

processes and products. When the process or the product goes wrong it can result in a

scandalous loss of international proportion such as Bank of Credit and Commerce

International (BCCI) or the 94 year old Barings Bank in the United Kingdom.

The need for risk management in the banking industry has become more urgent owing to the

increasing internationalization of financial markets, rapid innovations, deregulation,

extensive application and swift advancements in technology as well as the phenomenal

growth in non-performing assets. Levine (2003) points out that while the 1950s focused on

the techniques for the management of banks assets, the 1960s and 1970s emphasized liability

management, banking in the 1980s was concerned with risk-how to measure risk and how to

control risk, the improvement of the industry and the satisfaction of customers. This view is

supported by Chorafas (2001), argues that credit risk, market risk, operational risk and other

risks facing an institution are amplified because of globalisation, deregulation, innovation and

technology which together help to define the new economy characterizing the beginning of

the 21st century. The new economy is the name given to those industries benefiting directly or

indirectly from the latest revolution in information and communications technologies, the

extensive use of the latest electronic systems, advanced software, digitalization and the

internet. Banks are participants as well as beneficiaries in this new economy.

Onyiriuka (2004) canvasses that the position of the subject matter of ‘risk’ and ‘uncertainty’

assume considerable importance in determining business success and failures, especially in

banking. He maintained that the conventional approach to appreciating this fact is linked to

the inverse relationship between the two plausible business outcomes, namely a higher risk

leads to more profit and vice versa.

Risk is a function of uncertainty and inability to foresee the future correctly. The connection

between bank success and failure is clearly not simply a question of capital as the existence

of capital alone is not a performance indicator. Failure of banks in several jurisdictions

including Nigeria, the United Kingdom, Spain, Japan, Italy and elsewhere have been

attributed to several risk factors such as the decision-making qualities of its senior personnel

as well as the political environment in which it operates. In the case of Nigeria, the factors

that have been outstanding include poor asset quality (large volume of non-performing

assets), illiquidity of asset portfolio, inadequate capital, absence of effective supervisory and

regulatory framework and wrapped corporate governance.

In a wider context, the experiences of Asia economies also bear relevance to the subject

matter. During the 1980s and 1990s, the East Asian economies experienced extremely high

growth. Key reason were huge loans from Western banks, a rapidly rising population, high

rates of savings and investment, a monetary policy that was able to hold down inflation and

the mirage of exceptional returns on investment, which also characterised other emerging

markets. Former World bank chief economist, Stiglitz (2000) says that it was reckless lending

by international banks and other financial institutions, combined with reckless borrowing by

domestic financial institutions that may have precipitated that crisis.

What has become apparent is that the banking crisis of the recent years has been primarily

due to the sophistication of the financial markets. The innovations of complex financial

products such as derivatives and swaps have further complicated the risk profile of banks and

the risk management process. On the international scene, the incidents involving institutions

such as Barings Bank of England, Daiwa Bank of Japan and Orange County were all linked

to poor understanding of the intricacies of derivatives trading, an innovative financial

product. The intensification of the use of computer and communications technology enabled

the introduction of various technology-driven products such as electronic funds transfer,

online and real-time banking, electronic smartcards and other technology applications and

platforms with embedded risks.

Despite the advances in the financial market, risk has been an ever-present phenomenon. Its

understanding and treatment has been founded on some theoretical underpinnings, which

have enabled risk researchers and practitioners to undertake meaningful work on the subject.

2.2 THEORETICAL FRAMEWORK

The changing environment in which banks operate presents major opportunities for banks,

but also entails complex, variable risks that challenge traditional approaches to bank

management. As a result, banks must gain financial risk management capabilities in order to

survive in the market-oriented environment, withstand competition and contribute

meaningfully to economic growth and development. To establish our theoretical framework,

we shall examine two terms that writers sometimes confuse. These are ‘risk’ and

‘uncertainty’.

2.2.1 RISK AND UNCERTAINTY

In understanding the theoretical underpinnings of risk management, it is pertinent to explore

the distinction between the two related yet different concepts of risk and uncertainty. It is

common to find authors who equate risk to uncertainty and use the two terms

interchangeably. It is also common place to find other writers who contrast between risk and

uncertainty in order to bring out clearly the meanings of the two terms. According to Irukwu

(1974:4), in everyday life the one thing that is certain is uncertainty and one of the purposes

of insurance is to alter the scenario by substituting certainty for uncertainty. For a better

understanding of the relationship between the two terms, we shall consider the views of some

authors. Willet as cited in Ale (2009) defined risk as “the objectified uncertainty regarding

the occurrence of an undesired event”. Risk is inherent in any walk of life and can be

associated with every human decision-making action of which the consequences are

uncertain. Okafor (1983:28), states that the term ‘risk’ has different shades of meaning.

Literarily, it means exposure to danger or economic adversity. In the latter sense, risk is used

as a surrogate for the likelihood of loss or the potential size of such a loss. Pfeffer (1956)

contends that risk is a combination of hazards and is measured by probability; uncertainty on

the other hand is measure by the degree of belief. Risk is a state of the world; uncertainty is a

state of the mind.

Some writers clearly distinguished between risk and uncertainty by associating risk with

some degree of qualification and measurability. Akinsirule (2002), opines that risk occurs

where what the future outcome will be is not known but where the various possible outcomes

may be expected with some degree of confidence from knowledge of past or existing events.

In other words, in a risk situation, probabilities of alternative outcomes can be estimated,

where in the case of confidence from knowledge of past or existing events, such that no

probability estimates are available.

To draw the distinction between the two concepts, Bessis (2002), observe that not all factors

that alter the environment and the financial market such as interest rate, exchange rate, stock

indexes, and inflation rate are measurable. According to him, there are unexpected and

exceptional events that radically and abruptly alter the general environment. Such

unpredictable events described as uncertainties might generate fatal risks that drive

businesses to bankruptcy. In his view, one direct way to deal with these types of risks is stress

scenarios or ‘worst-case’ scenarios, where all relevant parameters take extreme values.

2.2.2 RATIONALE FOR RISK MANAGEMENT

It seems appropriate for any discussion of risk management procedures to begin with why

banks manage risks. According to standard economic theory, managers of value maximizing

firms ought to maximize expected profit without regard to the variability around its expected

value. However, there is now a growing literature on the reasons for active risk management.

In fact, the recent review of risk management reported in Oldfield and Santomero (1995) lists

dozens of contributions to the area and at least four distinct rationales offered for active risk

management. These include managerial self-interest, the non-linearity of the tax structure, the

costs of financial distress and the existence of capital market imperfections. Bessis (2002),

expresses the view that visibility and sensitivity to risks are so important to banks because

banks are ‘risk machines’ which transform risks and enabled them in banking products and

services.

Bessis (2002), opines that there are strong motives for a bank to implement risk management

practices. These include providing a balanced view of risk and returning from a management

point of view, to develop competitive advantages and to comply with increasingly stringent

regulations. Banks face a range of regulatory risks when they default on statutory and

regulatory requirements such as monetary penalties, sanctioning of the board of directors and

in extreme cases licence revocation and liquidation.

Effective risk management by banks facilitates the achievement of the goal of maximization

of shareholder wealth. It enables banks to achieve sustained market price stability, to protect

and grow return on investment. From a macroeconomic perspective, the argument for risk

management by banks appears to be even stronger. Grenuning and Bratanovic (2003),

suggest that because banks participate in both the domestic and international financial

systems and play a key role in national economic development, they must manage risks

effectively.

In the financial universe, risk and return are two sides of the same coin often; it is easy to

lend and to obtain attractive revenues from risky borrowers. The price to pay is usually one

that is higher than the prudent bank’s risk. The prudent bank limits risk and therefore both

future losses and expected revenues by restricting business volume and screening out risky

borrowers. Although the prudent bank avoids losses, it might suffer from lower market share

and lower revenues. However, after a while, the risk-taker might find out that higher losses

materialized and obtain an ex-post performance lower than that of the prudent bank. In order

to compare banks under the two different scenarios above, it is necessary to assign some

measure of risk to income. It does work to compare policies driven by different risk appetites.

According to Berger and Allen (1994), comparing performances without risk-adjustment is

like comparing Apples and Oranges.

From a competitive perspective, screening bank borrowers and differentiating the process

accordingly, given the borrowers’ standing and their contributions to the bank’s portfolio

risk-return profile are key issues. Hughes, William, Lorretta and Choon-Geol (1994), take the

position that not doing so results in adverse economics for banks. To drive the point home,

Dahl, Ronald and Shrieves (1990), argue that banks that do not differentiate risks lend to

borrowers rejected by banks that better screen and differentiate risks because of their strong

risk management systems. By overpricing good risks, banks without good risk systems

discourage good borrowers and by under pricing risks to customers, they attract them. By

attracting the relatively good borrowers and discouraging the relatively bad ones, banks with

less advanced risk management processes face the risk of becoming riskier and poorer than

banks adopting good risk-based practices at an earlier stage.

It is logical therefore to expect that those banking institutions that actively manage their risks

have a competitive advantage. They take risks more consciously and from an enlightened

perspective, they anticipated adverse changes, they protect themselves from unexpected

events and they gain expertise to price risks. Competitors who lack such abilities and systems

may gain business in the short-term. Nevertheless, they will lose ground with time, when

those risks materialize into losses, because of the higher degree of vulnerability.

2.2.3 THE RISK MANAGEMENT PROCESS

Since risk is the probability that outcomes will vary from our expectations, the risk

management process aims to minimize divergence of outcomes from expectations and

achieve outcomes that are more predictable. The risk management process, therefore involves

the following:

2.2.4 RISK IDENTIFICATION

This has to do with knowing those factors that may lead to variations from expected

outcomes. This phase of the risk management process involves discovering and

understanding the risks, including their structure and incidence on a given business process

such as lending or funds transfer. In making a lending decision, for example the credit analyst

must clearly identify many of the credit risks as he can conceivably identify and give a clear

indication of their nature and characteristics. Onyiriuka (2004) asserts that such risks include

the probability of liquidity stress, cash deficiency, income or business volatility, collateral

inadequacy and outright default.

2.2.5 RISK MEASUREMENT

Risk measurement and quantification has been one of the most challenging aspects of the risk

management process. It estimates the likelihood of occurrence of risk factors and their

severity. Kwan (1990) states that while quantitative finance addresses extensively the risks in

capital markets, the extension to the various risks of financial institutions remained a

challenge for several reasons. The first is that risks are less tangible and visible than income.

Risks remain intangible and invisible until they materialize into losses. Second is that it is

generally the case that simple solutions do not capture risks. For instance a credit risk

exposure from a loan is not the risk. The real risk depends on the likelihood of losses and the

magnitude of recoveries in addition to the size of the amount at risk. But Dimson (1979),

notes that observing and recording losses and their frequencies could be a solution.

Unfortunately, more often than not, loss histories are insufficient. For example, it is not

simple to link observable losses and earning declines with specific sources of risks.

2.2.6 RISK MONITORING AND CONTROL

This involves designing measures aimed at mitigating the impact of risk or counteracting

them. Monitoring ensures that measures put in place to contain risk are continuously

implemented and serves their purpose.

To ensure that banks operate in a sound risk management environment with reduced impact

of uncertainty and potential losses, managers need reliable risk measures to direct capital to

activities with the best risk/reward ratios. Management needs estimates of the size of

potential losses to stay within limits set through careful internal considerations and by

regulators. They also need mechanisms to monitor positions and create incentives for prudent

risk taking by divisions and individuals. According to Pyle (1997), risk management is the

process by which managers satisfy these needs by identifying key risks, obtaining consistent

understandable operational risk measures, choosing which risks to reduce, which to increase

and by what means and establishing procedures to monitor resulting risk positions.

2.2.7 RISK REPORTING

Risk reporting entails keeping accurate and comprehensive data on expectations vis-à-vis

performance as a basis for policy review and corrective action. While the above phase of the

risk management process are generic and can be adopted for any type of risk, the

differentiation of risk also demands a unique set of strategies for managing them. Banking

risk could be better managed if the peculiar risks are clearly delineated and understood

through measurement and quantification.

2.3 EMPIRICAL REVIEW

Risk management evolved from a strictly banking activity, related to the quality of loans, to a

very complex set of procedures and instruments in the modern financial environment. It

underscores the fact that the survival of an organization depends heavily on its capabilities to

anticipate and prepare for the change rather than just waiting for the change and react to it.

Risk is associated with uncertainty and reflected by way of charge on the fundamental /basic

i.e in the case of business it is the capital, which is the cushion that protects the liability

holders of an institution. These risks are interdependent and events affecting one area can

have ramifications and penetrations for a range of other categories of risk.

There is therefore, the need to understand the risks run by banks and to ensure that the risks

are properly confronted, effectively controlled and rightly managed. Each transaction that a

bank undertakes, however, changes the risk profile of the bank thereby making it a near

impossibility to provide real time risk update and profile of the institution (Opoku-Adarkwa,

2011:11).

Risk Management (RM) is described as the performance of activities designed to minimise

the negative impact (cost) of uncertainty (risk) regarding possible losses (Schmidt and Roth,

1990). Redja (1998) also defines risk management as a systematic process for the

identification, evaluation of pure loss exposure faced by an organisation or an individual, and

for the selection and implementation of the most appropriate techniques for treating such

exposures. The process involves: identification, measurement and management of the risks.

Bessis (2010) also adds that in addition to it being a process, risk management also involves a

set of tools and models for measuring and controlling risk. The objectives of risk

management include the minimization of foreign exchange losses, reduction of the volatility

of cash flows, protection of earnings fluctuations, increment in profitability and assurance of

survival of the firm.

Bassis (2010) defined banking risk as adverse impacts on profitability of several distinct

sources of uncertainty. Risk measurement requires capturing the source of the uncertainty and

the magnitude of its potential adverse effect on profitability. Oldfield and Santomero (1997),

argues that risks facing all financial institutions can be segmented into three separable types

from a management perspective. These are:

(i) risks that can be eliminated or avoided by simple business practices,

(ii) risks that can be transferred to other participants and

(iii) risks that must be actively managed at the firm level.

In the first of these cases, the practice of risk avoidance involves actions to reduce the

chances of idiosyncratic losses from standard banking activity by eliminating risks that are

superfluous to the institution’s business purpose. Common risk avoidance practices here

include at least three types of action:

• The standardisation of process, contracts and procedures to prevent inefficient or

incorrect financial decision is the first of these.

• The construction of portfolios that benefit from diversification across borrowers

and that reduce the effects of any one loss experience is another.

• Finally, the implementation of incentive-compatible contracts with the

institution’s management to require that employees be held accountable is the

third. These points have been made in different context by both Santomero and

Trester (1997) and Berger and Udell (1995).

Bessis (2010) indicates that the goal of risk management is to measure risks in order to

monitor and control them and also enable it to serve other important functions in a bank in

addition to its direct financial function.

2.3.1 CREDIT RISK MANAGEMENT

Of all the risks a bank faces, credit risk is considered the first in terms of importance. The

basic reason for this priority is that most of a bank’s activities relates to lending. Donald et al

in Danson and Adano (2012) defined Credit risk simply as the potential that a bank borrower

or counterpart will fail to meet its obligations in accordance with agreed terms. The goal of

credit risk management is to maximize a bank’s risk-adjusted rate of return by maintaining

credit risk exposure within acceptable parameters. Banks need to manage the credit risk

inherent in the entire portfolio as well as the risk in individual credits or transaction. The

effective management of credit risk is a critical component of a comprehensive approach to

risk management and essential to the long-term success of any banking organisation. The

Basel Committee on Banking Supervision (2001) defined credit risk as the possibility of

losing the outstanding loan partially or totally, due to credit events (default risk). Credit risk

is an internal determinant of bank performance. The higher the exposure of a bank to credit

risk, the higher the tendency of the banks to experience financial crisis and vice-versa. Bessis

(2002), states that credit or counterparty risk is the chance that a debtor or financial

instrument issuer will not be able to pay interest or repay the principal according to the terms

specified in a credit agreement. It is an inherent part of banking. Credit risk means that

payment may be delayed or ultimately not paid at all, which can in turn cause cash flow

problems and affect a bank’s liquidity. Counterparty risk comes from non-performance may

arise from a counterparty’s refusal to perform due to an adverse price movement caused by

systematic factors or from some other political or legal constraint that was not anticipated by

the principals. The three main types of credit or counterparty risk are as follows:

(i) Personal or Consumer risk

(ii) Corporate or Company risk

(iii) Sovereign or Country risk

Credit risk is the first of all risks in terms of importance. Default risk, a major source of loss

is the risk that customers default, meaning that they fail to comply with their obligations to

service debt. Credit risk is also the risk of a decline in the credit standing of an obligor or the

issuer of a bond or stock. Such deterioration does not imply default but it does imply that the

probability of default increases. In their work on capital regulation and banks risk, Furlong,

Furlong, Frederick and Michael (1989) posit that a deterioration of the credit standing of a

borrower does not materialise into a loss because it triggers an upward move of the required

market yield to compensate the higher risk and triggers a value decline.

In broad terms, they argued that effective credit risk management is anchored on the

following framework, namely, credit portfolio management, lending function and operation,

credit portfolio quality review, non-performing loan portfolio, credit risk management

policies, policies to limit or reduce credit risk, assets classification and loan loss provisioning

policy.

In Nigeria, banks are subject to prudential guidelines, which contains provisions on the

classification and treatment of non-performing credit portfolio.

2.3.2 THE PRUDENTIAL GUIDELINES

Article II. Conscious of the anticipated increase in the number of banks and other financial

institutions, as a result of the SAP induced explosion of the 1990s, the regulatory authority

(the Central Bank of Nigeria) introduced the prudential guidelines with the objective to

ensure qualitative credit to serve as a catalyst for the much anticipated economic boom of the

SAP years. It was meant to serve as the linchpin for credit risk management among banking

institutions. The document states inter alia that “without prejudice to the requirements of the

statement of Accounting Standard on Accounting by Banks and Non-Bank Financial

Institutions (Part 1) issued by the Nigerian Accounting Standards Board (NASB), all licenced

banks shall be required to adhere to the prudential guidelines enunciated in this circular for

reviewing and reporting their performance, with immediate effect. In view of the

international nature of banking, the guidelines are based on practices endorsed by reputable

international financial institutions and regulatory authorities.

These guidelines should be regarded as minimum requirements and licenced banks, which

already have more stringent policies and practices in place, are encouraged to continue with

them”.

2.3.3 CREDIT PORTFOLIO CLASSIFICATION SYSTEM

According to the Prudential Guidelines for Licenced Banks (1990), issued by the Banking

Supervision Department of the Central Bank of Nigeria, licenced banks should review their

credit portfolio continuously (at least once in a quarter) with a view to recognising any

deterioration in credit quality. Such reviews should systematically and realistically classify

banks’ credit exposures based on the perceived risks of default. It states that in order to

facilitate comparability of banks’ classification of their credit portfolios, the assessment of

risk of default should be based on criteria, which should include, but are not limited to,

repayment performance, borrower’s repayment capacity on the basis of current financial

condition and net realizable value of collateral.

Credit facilities (which include loans, advances, overdrafts, commercial papers, bankers

acceptances, bills discounted, leases, guarantee and other loss contingencies connected with a

bank’s credit risks) should be classified as either “performing” or “non-performing” as

defined below:

(a) a credit facility is deemed to be performing if payments of both principal and interest

are up-to-date in accordance with the agreed terms;

(b) a credit facility should be deemed as non-performing when any of the following

conditions exists:

(i) interest or principal is due and unpaid for 90 days or more.

(ii) interest payments equal to 90 days interest or more have been capitalised,

rescheduled or rolled over into a new loan (except where facilities have

been reclassified as specified).

The guideline states that the practice whereby some licenced banks merely renew, reschedule

or rollover non-performing credit facilities without taking into consideration the repayment

capacity of the borrower are objectionable and unacceptable. Consequently, before a credit

facility already classified as “non-performing” can be reclassified as “performing” the

borrower must effect cash payment such that outstanding unpaid interest does not exceed 90

days. Non-Performing credit facilities should be classified into three categories namely, sub-

standard, doubtful or lost on the basis of criteria specification below:

(a) Sub-standard

The following objective and subjective criteria should be used to identify sub-standard credit

facilities:

(i) Objective Criteria: facilities on which unpaid principal and/or interest

remain outstanding for more than 90 days but less than 180 days.

(ii) Subjective Criteria: credit facilities which display well defined weaknesses

which could affect the ability of borrowers to repay such as inadequate cash

flow to serve debt under capitalization or insufficient working capital, absence

of adequate financial information or collateral documentation, irregular

payment of principal and/or interest and inactive accounts where withdrawals

exceed repayments or where repayments can hardly cover interest charges.

(b) Doubtful

The following objective and subjective criteria should be used to identify doubtful credit

facilities.

(i) Objective Criteria: facilities on which unpaid principal and/or interest remain

outstanding for at least 180 days but less than 360 days and are not secured by

legal title to leased assets or perfected realisable collateral in the process of

collection or realisation.

(ii) Subjective Criteria: facilities which, in addition to the weaknesses associated

with sub-standard credit facilities reflect that full repayment of the debt is not

certain or that realisable collateral values will be insufficient to cover bank’s

exposure.

(c) Lost Credit Facilities

The following objective and subjective criteria should be used to identify lost credit

facilities.

(i) Objective Criteria: facilities on which unpaid principal and/or interest remain

outstanding for 360 days or more and are not secured by legal title to leased

assets or perfected realisable collateral in the course of collection or

realisation.

(ii) Subjective Criteria: facilities which in addition to the weaknesses associated

with doubtful credit facilities, are considered uncorrectable and are of such

little value that continuation as a bankable asset is unrealistic such as facilities

that have been abandoned, facilities secured with unmarketable and

unrealisable securities and facilities extended to judgement debtors with no

means or fore collapsible collateral to settle debts.

The guideline therefore states that banks are required to adopt the criteria specified above to

classify their credit portfolios in order to reflect the true accounting values of their credit

facilities. Licenced banks should note that the Central Bank of Nigeria reserves the right to

change the objective criteria for the classification of any credit facilities and to prescribe the

classification it considers appropriate for such credit facility.

2.3.4 PROVISION FOR NON-PERFORMING FACILITIES

The guideline further states that licenced banks are required to make adequate provisions for

perceived losses based on the credit portfolio classification system prescribed above in order

to reflect their true financial condition. Two types of provisions (that is specified and

general) are considered adequate to achieve this objective. Specific provisions are made on

the basis of perceived risk of default on specific credit facilities while general provisions are

made in recognition of the fact that even performing credit facility harbours some risk of

loss no matter how small. Consequently, all licenced banks shall be required to make

specific provisions for non-performing credits as specified below:

(a) For facilities classified as sub-standard, Doubtful or Lost:

(i) Interest overdue by more than 90 days should be suspended and recognised

on cash basis only.

(ii) Principal repayments that are overdue by more than 90 days should be fully

provided for and recognised on cash basis only.

(b) For principal repayments not yet due on non-performing credit facilities, provisions

should be made as follows:

(i) Sub-standard credit facilities: 10% of the outstanding balance.

(ii) Doubtful credit facilities: 50% of the outstanding balance;

(iii) Lost credit facilities: 100% of the outstanding balance

For prudential purpose, provisioning as prescribed above should only take cognisance of

realisable tangible security (with perfect legal title) in the course of collection or realisation.

Consequently, collateral values should be recognised on the following basis:

(a) For credit exposure where the principal repayment is in arrears by more than six

months, the outstanding unprovided principal should not exceed 50% of the estimated

net realisable value of the collateral security.

(b) For credit exposure where the principal repayment is in arrears by more than one

year, there should be no outstanding unprovided portion of the credit facility

irrespective of the estimated net realisable value of the security held.

(c) For credit exposure secured by a floating charge or by an unperfected or equitable

charge over tangible security, it should be treated as an unsecured credit and no

account should be taken of such security held in determining the provision for loss to

be made.

2.3.5 GENERAL PROVISIONS

Each licenced bank is required to make a general provision of at least 1% of risk assets not

specifically provided for.

2.3.6 CREDIT PORTFOLIO DISCLOSURE REQUIREMENT

(a) Each licenced bank is required to provide in its audited financial statements analysis

of its credit portfolio into “performing” and “non-performing” as stated.

(b) The amount of provision for deterioration in credit quality (that is losses) should be

segregated between principal and interest.

(c) A maturity profit of credit facilities based on contracted repayment programme

should be provided along with the maturity profile of deposit liabilities in the

financial statement.

2.3.7 INTEREST ACCURAL

It is the responsibility of bank management to recognise revenue when they are earned or

realised and make provision for all losses as soon as they can be reasonably estimated.

However, experience revealed a wide diversity amongst licenced banks on income

recognition. While a few banks cease accruing interest on non-performing credit facilities

after three months, some after six months or a year, some do not appreciate the need to

suspend interest on such facilities.

In order to ensure the reliability of published operating results, the following criteria should

be adopted by all licenced banks for the treatment of interest on non-performing credit

facilities:

(a) All categories of non-performing credit facilities should automatically be placed on

non-accrual status that is, interest due thereon should not be recognised as income.

(b) All interest previously accrued and uncollected but taken into revenue should be

reversed and credited into suspense account specifically created for this purpose

which should be called “interest in suspense account” unless paid in cash by the

borrower. Future interest charges should also be credited into same account until such

facilities begin to perform.

(c) Once the facilities begin to perform, interest previously suspended and provisions

previously made against principal debts should be recognised on cash basis only.

Before a “non-performing facilities” can be reclassified as “performing”, unpaid

interest outstanding should not exceed 90 days.

In Baestaen’s (1999:225) view, in managing the credit portfolio, the considerations that form

the basis for sound lending policies include; limit on total outstanding loans, geographic

limits, credit concentration, distribution by category, types of loans, maturities, loan pricing,

lending authority, appraisal process and maximum ration of loan amount to the market value

of pledged securities, others are financial statement disclosures, policy or loan impairment,

collections and financial information.

2.4 LIQUIDITY RISK MANAGEMENT

According to Greuning and Bratanovic (2003), a bank faces liquidity risk when it does not

have the ability to efficiently accommodate the redemption of deposits and other liabilities

and to cover funding increases in the loan and investment portfolio. These authors go further

to propose that a bank has adequate liquidity potential when it can obtain needed funds (by

increasing liabilities, securitizing, or selling assets) promptly and at a reasonable cost.

Liquidity risk can best be described as the risk of a funding crisis. While some would include

the need to plan for growth and unexpected expansion of credit, the risk here is seen more

correctly as the potential for a funding crisis. Such a situation would inevitably be associated

with an unexpected event such as a large charge off, loss of confidence or a crisis of national

proportion such as a currency crisis. In any crisis, risk management here centres on liquidity

facilities and portfolio structure. Recognising liquidity risk leads the bank to recognise

liquidity itself as an asset and portfolio design in the face of illiquidity concerns as a

challenge.

In practice, the concept of liquidity risk is multi-dimensional. It could arise for instance,

when a bank is unable to meet depositors’ demand for immediate cash for their financial

claims. It is also indicated by a bank’s inability to raise funds at normal cost. It can be due to

market liquidity which relates to liquidity crunches because of lack of volume. It could also

be in the nature of asset liquidity risk whereby the lack of liquidity is related to the nature of

assets held by the bank. Liquidity risk in practice is conceptualized as the risk that a sudden

surge in liability withdrawals may leave a bank in a position of having to liquidate assets in a

very short period of time and at low prices (Saunders 1997).

According to Campbell, Lo and Mackinlay (1997), liquidity is necessary for banks to

compensate for expected and unexpected balance sheet functions and to provide funds for

growth. It represents a bank’s ability to efficiently accommodate the redemption of deposits

and other liabilities and to cover funding increases in the loan and investment portfolio. A

bank has adequate liquidity potential when it can obtain needed funds (by increasing

liabilities, securitising or selling assets) promptly and at a reasonable cost. The price of

liquidity is a function of market conditions and the market’s perception of the inherent

riskiness of the borrowing institution.

2.4.1 NEED FOR LIQUIDITY RISK MANAGEMENT

Liquidity risk management lies at the heart of confidence in the banking system. The

background to this is that banks are highly leveraged (Tier 1) in the region of 20:1. Kim and

Santomero (1998) state strongly that the importance of liquidity transcends the individual

bank because a liquidity shortfall at a single institution can have systematic repercussions. It

is in the nature of a bank to transform its liquidities to different maturities on the asset side of

the balance sheet. Since the yield curve is typically upward sloping, the maturity of assets

generally tends to be longer than the liabilities.

Contributing to the subject of banks financing and liquidity, Stulz (1990) was of the view that

the amount of liquid or of readily marketable assets that a bank should hold depends on the

stability of its deposit structure and the potential for raid loan portfolio expansion. Generally,

if deposits are composed primarily of small stable accounts, a bank will need relatively low

liquidity. A much higher liquidity is normally required when a bank has a somewhat high

concentration of large corporate deposit accounts.

In summary, the framework for liquidity risk management has three aspects, namely

measuring and managing net funding requirements, market access and contingency planning.

2.5 INTEREST RATE RISK MANAGEMENT

This is the risk incurred by a bank when the maturity of its assets and liabilities are

mismatched. It is the impact of changing interest rates on a bank’s margin of profits. In order

words, interest rate risk is the risk of decline in a bank’s earnings due to the movements in

interest rates. Elsewhere, Sweeny and Warger (1986) made the point that the combination of

volatile interest rate environment, deregulation and a growing array of no-and-off balance

sheet product has made the management of interest rate risk a growing challenge.

Interest rate risk is the risk of a decline in earnings due to the movements of interest rates.

Long-term interest-bearing assets are more sensitive to interest rate movements. Most of the

items of banks’ balance sheets generate revenues and costs that are interest rate-driven. Since

interest rates are unstable, so are earnings. To drive the central issue home, Dermine (1985)

contents that anyone who lends or borrows is subject to interest rate risk. The lender earning

a variable rate has the risk of seeing revenues reduced by a decline in interest rates; the

borrower paying a variable rate bears higher costs when interest rates increase. But another

perspective, Stone (1974) state that both positions are risky since they generate revenues or

costs indexed to market rates. The other side of the coin is that interest rate exposure

generates chances of gains as well.

Greuning and Bratanovic (2003) posits that banks encounter interest rate risk from four main

sources namely repricing risk, yield curve risk, basis risk, and optionality. The primary and

most often discussed source of interest rate risk stems from timing differences in the maturity

of fixed rates and the repricing of the floating rates of bank assets, liabilities, and off-balance

sheet positions. The basic tool used for measuring repricing risk is duration, which assumes a

parallel shift in the yield curve. Also, repricing mismatches expose a bank to risk deriving

from changes in the slope and shape of the yield curve (nonparallel shifts). Yield curve risk

materialises when yield curve shifts adversely affect a bank‘s income or underlying economic

value. Another important source of interest rate risk is basis risk, which arises from imperfect

correlation in the adjustment of the rates earned and paid on different instruments with

otherwise similar repricing characteristics. When interest rates change, these differences can

give rise to unexpected changes in the cash flows and earnings spread among assets,

liabilities, and off-balance-sheet instruments of similar maturities or repricing frequencies.

In their study of interest rate risk and equity values, Scott and Peterson (1986) explain that

interest rate risk management comprises the various policies, actions and techniques that a

bank can use to reduce the risk of diminution of its net equity as a result of adverse changes

in interest rates.

2.6 MARKET OR SYSTEMATIC RISK

Systematic risk is the risk of asset value change associated with systematic factors. It is

sometimes referred to as market risk which is in fact a somewhat imprecise term. By its

nature, this risk can be hedged, but cannot be diversified completely away. In fact, systematic

risk can be thought of as undiversifiable risk. All investors assume this type of risk wherever

assets owned or claims issued can change in value as a result of broad economic factors. As

such systematic risk comes in many different forms. For the banking sector, however, two are

of greatest concern namely, variations in general level of interest rates and the relative value

of currencies. Because of the banks dependence on these systematic factors, most try to

estimate the impact of these particular systematic risks on performance, attempt to hedge

against and thus limit the sensitivity to variations in undiversifiable factors. Accordingly,

most will track interest rate risk closely.

Market risk arise when banks trade their assets and liabilities rather than holding them for

long-term investments funding or hedging purposes. They are risks incurred in the trading of

assets and liabilities due to changes in interest rates, exchange rates and other asset prices. In

the view of Bessis (2010), “market risk is the risk of adverse deviations of the mark-to-

market value of the trading portfolio due to market movements during the period required to

liquidate the transactions”. It is the risk of losses in on-an off-balance sheet positions arising

from movements in market prices.

According to Opoku-Adarkwa (2011:18), banks are subject to market risk in both the

management of their balance sheets and in their trading operations. Market risk is generally

considered as the risk that the value of a portfolio, either an investment portfolio or a trading

portfolio, will decrease due to the change in value of the market risk factors. There are three

common market risk factors to banks and these are liquidity, interest rates and foreign

exchange rates. Market Risk Management provides a comprehensive framework for

measuring, monitoring and managing liquidity, interest rate, foreign exchange and equity as

well as commodity price risk of a bank that needs to be closely integrated with the bank’s

business strategy.

2.7 FOREIGN EXCHANGE RISK

This is the risk incurred when there is an unexpected change in exchange rate altering the

amount of home currency need to repay a debt denominated in foreign currency. Bessis

(2010) defines foreign exchange risk as incurring losses due to changes in exchange rates.

Such loss of earnings may occur due to a mismatch between the value of assets and that of

capital and liabilities denominated in foreign currencies or a mismatch between foreign

receivables and foreign payables that are expressed in domestic currency. According to

Greuning and Bratanovic (2003), foreign exchange risk is speculative and can therefore result

in a gain or a loss, depending on the direction of exchange rate shifts and whether a bank is

net long or net short (surplus or deficit)in the foreign currency.

In principle, the fluctuations in the value of domestic currency that create currency risk result

from long-term macroeconomic factors such as changes in foreign and domestic interest rates

and the volume and direction of a country‘s trade and capital flows. Short-term factors, such

as expected or unexpected political events, changed expectations on the part of market

participants, or speculation based currency trading may also give rise to foreign exchange

changes. All these factors can affect the supply and demand for a currency and therefore the

day-to-day movements of the exchange rate in currency markets.

Foreign exchange risk is generally considered to comprise of transaction risk, economic risk

and revaluation risk. Transaction risk is the price-based impact of exchange rate changes on

foreign receivables and foreign payables, that is, the difference in price at which they are

collected or paid and the price at which they are recognised in local currency in the financial

statements of a bank or corporate entity. Alternatively known as business risk, economic risk

relates to the impact of exchange rate changes on a country‘s long-term or a company‘s

competitive position. With increasing globalization, capital moves quickly to take advantage

of changes in exchange rates and therefore devaluations of foreign currencies can lead to

increased competition in both overseas and domestic markets. This phenomenon makes this

component of foreign exchange risk very critical for its management. The third component,

revaluation or translation risk arises when a bank‘s foreign currency positions are revalued in

domestic currency, and when a parent institution conducts financial reporting or periodic

consolidation of financial statements. Banks conducting foreign exchange operations are also

exposed to foreign exchange risk in forms of credit risks such as the default of the

counterparty to a foreign exchange contract and time-zone-related settlement risk.

2.8 SOLVENCY RISK

Commercial banks are involved in international transactions which involve lending to foreign

borrowers. Solvency risk is the risk that the repayments from foreign borrowers may be

interrupted because of interference from foreign governments or other adverse developments

in the borrower’s country which affect the ability to honour loan obligations.

According to Pindyck and Rubinfield (1991), ultimately solvency risk is risk that a bank may

not have enough capital to offset a sudden decline in the value of its assets relative to its

liabilities. Insolvency is a consequence of the outcome of excessive interest rate, market

credit, off-balance sheet foreign exchange, technological sovereign and liquidity risks.

2.9 OPERATIONAL RISK

This is the risk that existing technology or support systems may malfunction or break down.

Operational risk is associated with the problems of accurately processing settling and taking

or making delivery on trades in exchange for cash. Operational risks are those of

malfunctions of the information system, reporting systems, internal risk monitoring rules and

internal procedures designed to take timely corrective actions or the compliance with internal

risk policy rules (Bessis, 2010).

Marshall (2001) notes that in the absence of efficient tracking and reporting of risks, some

important risks remain ignored, do not trigger any corrective action and can result in

disastrous consequences. In essence, operational risk is an “event risk”. There is a wide range

of events potentially triggering losses.

To address operational risk, Jameson (1998) states the need to set up a common classification

of events that should serve as a receptacle for data gathering processes on event frequencies

and costs. Such taxonomy is still flexible and industry standards will emerge in the future.

What follows is a tentative classification. Operational risks appear at different levels such as

people, processes, technical and information technology.

Developments in modern banking environment, such as increased reliance on sophisticated

technology, expanding retail operations, growing e-commerce, outsourcing of functions and

activities, and greater use of structured finance (derivative) techniques that claim to reduce

credit and market risk have contributed to higher levels of operational risk in banks

(Greuning and Bratanovic, 2003).

Opoku-Adarkwa (2011:24), notes that the recognition of the above-mentioned contributory

factor in operational risk has led to an increased attention on the development of sound

operational risk management systems by banks with the initiative being taken by the Basel

Committee on Banking Supervision. The Committee addressed operational risk in its Core

Principles for Effective Banking Supervision (1997) by requiring supervisors to ensure that

banks have risk management policies and processes to identify, assess, monitor, and control

or mitigate operational risk. In its 2003 document, Sound Practices for the Management and

Supervision of Operational Risk, the Committee further provided guidance to banks for

managing operational risk, in anticipation of the implementation of the Basel II Accord,

which requires a capital allocation for operational risks. Despite all these efforts by the

regulators at addressing operational risk, practical challenges exist when it comes to its

management. In the first place, it is difficult to establish universally applicable causes or risk

factors which can be used to develop standard tools and systems of its management since the

events are largely internal to individual banks.

2.10 MODEL RISK

Model risk is significant in the market universe, which traditionally makes relatively

intensive usage of models for pricing purposes. Model risk is growing more important with

the extension of modelling techniques to other risks, notably credit risk, where scarcity of

data remains a major obstacle for testing the reliability of inputs and models. Models risk

materialises, for instance, as gaps between predicted values of variables, such as the VaR and

actual values observed from experience. Pricing models used for market instruments predict

prices which are readily comparable to observed prices.

2.11 RISK MODELLING

Tracking risks for management purposes requires models for better capturing risks and

relating them to instrumental controls. Fishelson-Holstine as cited in Mays (1998), opines

that the first consideration in model development should be to understand the business

objective and thereafter to decide if the model required should be predictive or descriptive.

He opines that a predictive model seeks to identify and mathematically or quantitatively

represent underlying relationships in the data that are not simply temporary anomalies,

whereas the benefit of descriptive models is the insight they provide. By contributing

valuable information about a portfolio, descriptive models can influence the types of

decisions to be made.

Effective risk management relies on quantitative measures of risk which are provided by

predictive models. Risk models have two major contributions namely measuring risks and

relating these measures to management controls over risk. Banking risk models address both

issues in embedding the specific of each major risk. Summarising, risk models combine four

main building blocks:

(a) Risk drivers and standalone risk of transactions: Risk drivers are all factors

influencing risks, which are necessary inputs for measuring the risk of individual

transactions. When considering in isolation, the intrinsic of a transaction is

‘standalone’.

(b) Portfolio risk: Portfolio models aim to capture the diversification effect that makes

the risk of portfolio transactions smaller than the sum of the risks of the individual

transactions. They serve to measure the economic capital under the VaR

methodology.

(c) Top-down and bottom-up links: These links relate global risk to individual

transaction risks or sub-portfolio risks. They convert global risk and return targets into

risk limits and target profitability for business lines (top-down) and conversely, for

facilitating decision making at the transaction level and for aggregating business line

risks and returns for global reporting purpose (bottom-up).

(d) Risk-adjusted performance measuring and reporting for transactions and

portfolios: Both risk-return profiles feed the basic risk processes. Profitability and

limit setting, providing guidelines for risk decision and risk monitoring.

2.12 BANKING REGULATION AND RISK MANAGEMENT

Regulations have several goals: improving the safety of the banking industry by imposing

capital requirements in line with bank’s risks; levelling the competitive playing field of banks

through setting common benchmarks for all players; promoting sound business and

supervisory practices. Regulations have decisive impact on risk management. According to

Keeley (1988), the regulatory framework sets up the constraints and guidelines that inspire

risk management practices and stimulates the development and enhancement of the internal

risk model and processes of banks. Regulations promote better definition of risks and create

incentives for developing better methodologies for measuring risks. They impose recognition

of the core concept of the capital, stating that banks’ capital should be in line with risks and

that defining capital requirements implies a quantitative assessment of risks.

The existing Accord on credit risk dates from 1988. The Accord Amendment for market risk

(1996) and the New Basel Accord (2001) provide very significant enhancement of risk

measures. The existing accord imposed capital charge against credit risk. The amendment

provided a standardized approach for dealing with market risk and offered the opportunity to

use internal models subject to validation by the supervisory bodies, allowing banks use their

own models for assessing the market risk capital. The new accord imposes a higher

differentiation of credit risk based on additional risk inputs characterizing banks facilities. By

doing so, it paves the way towards internal credit risk modelling already instrumental in

major institution.

Matten (2000:18) expressed the view that regulators face several dilemmas when attempting

to control risks. Regulation and competition conflict since many regulations restrict the

operations of banks. New rules may create unpredictable behaviour to turn around the

associated constraints. For this reason, regulators avoid making brutal changes in the

environment that would generate other uncertain.

2.13 RISK MANAGEMENT AND BANK PERFORMANCE

According to Eduardus, Hermeindito, Putu and Supriyatna (2007:20), a major objective of

bank management is to increase shareholders’ return epitomising bank performance. The

objective often comes at the cost of increasing risk. Banks face various risks such as interest

risk, market risk, credit risk, off-balance risk, technology and operational risk, foreign

exchange risk, country risk, liquidity risk and insolvency risk. The bank’s motivation for risk

management comes from those risks which can lead to bank under performance.

Tai (2004) states that issues of risk management in banking sector have greater impact not

only on the bank but also on the economic growth. Tai concludes that some empirical

evidence indicates that past return shocks emanating from banking sector have significant

impact not only on the volatilities of foreign exchange and aggregate stock markets, but also

on their prices, suggesting that banks can be a major source of contagion during the crisis.

Banks which better implement the risk management may have some advantages:

(i) It is in line with obedience function toward the rule.

(ii) It increases their reputation and opportunity to attract more wide customers in

building their portfolio of fund resources.

(iii) It increases their efficiency and profitability.

Cebenoyan and Strahan (2004) find evidence that banks which have advanced in risk

management have greater credit availability, rather than reduced risk in the banking system.

The greater credit availability leads to the opportunity to increase the productive assets and

banks’ profit.

Both bank performance and risk management are dependent on implementing good corporate

governance; hence, the two constructs are interrelated by nature. Interrelationship between

the two represents the risk and return trade-off. When banks manage their risk better, they

will get advantage to increase their performance (return). Better risk management indicates

that banks operate their activities at lower relative risk and at lower conflict of interest

between parties. These advantages of implementing better risk management lead to better

banks performance. Better bank performance increases their reputation and image from

public or market point of view. The banks also get more opportunities to increase the

productive assets, leading to higher bank profitability (Cebenoyan and Strahan 2004).

Al-Khouri in Kolapo, Ayeni and Oke (2012:34) assessed the impact bank’s specific risk

characteristics and the overall environment on the performance of 43 commercial banks

operating in 6 of the Gulf Cooperation Council (GCC) countries over the period of 1998-

2008. Using fixed effects regression analysis, result showed that credit risk, liquidity risk and

capital risk are the major factors that affect bank performance when profitability is measured

by return on assets while the only risk that affects profitability when measured return on

equity is liquidity risk.

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CHAPTER THREE

RESEARCH DESIGN AND METHODOLOGY

This chapter describes in detail the procedure used in carrying out the research work. It

explains the approach employed by the researcher in collecting data from both primary and

secondary sources, as well as the research design, data collection instrument and the

procedure for data processing.

3.1 RESEARCH DESIGN

The researcher collected data for the research from both primary and secondary sources using

a structured approach. This study utilized a survey research design because of the type of

information needed. Survey research is one which involves the assessment of public opinion,

beliefs, attitudes and motivation using questionnaire and sampling techniques.

The researcher used data gathered from the banks as contained in the banks’ annual audited

financial reports and information obtained from operation staff and officers in-charge of risk

management who responded to a set of questions on various aspects of risk management.

3.2 AREA OF STUDY

The banks studied were all Nigerian banks that had branches in Enugu State and their head

offices in Lagos. These banks were engaged in universal banking which imply that they

offered a broad range of financial services, including pure banking services, capital market

services as well as insurance products and services.

3.3 POPULATION OF THE STUDY

The target population was banks in Enugu State. Three (3) banks were selected and had been

in operation since early 1990s. The banks are First Bank of Nigeria Plc, United Bank for

Africa Plc and Diamond Bank.

3.4 SAMPLING SIZE

A total of 130 staff of the banks including operations staff and Officers in-charge of risk

management were administered questionnaire. This is made up as follows: First Bank 70

staff, UBA 40 staff and 20 Diamond Bank staff. A sample size of 98 was used, comprising

First bank 53, UBA 30 and Diamond Bank 15.

Taro Yamane formula was used to arrive at this sample size. The formula is stated below:

N

n = 1 + N (℮) ²

Where n = Sample size

N = Total Population

e = Acceptable error limit (0.05)

1 = Unity ( it is constant)

3.5 METHOD OF DATA COLLECTION

Structured questionnaire was used to collect data for this work. The questionnaire items were

generated through a review of available literatures and was administered and analyzed by the

researcher. Direct administration of this questionnaire was to allow for free interaction

between the researcher and the respondents.

3.6 INSTRUMENT OF DATA COLLECTION

Questionnaire and historical documentations were used as instrument of data collection. The

questionnaire was from the factors identified during the review of literature. The research

questions, objectives of the study and the hypotheses formulated were considered in raising

the questionnaire.

3.7 VALIDITY OF THE INSTRUMENT

Validity is the process of ascertaining the extent to which the instrument measures what it

purports to measure. In order to ensure the validity of the research instrument, proper

structuring of the questionnaire and a conduct of a pre-test of all the questions contained in

the questionnaire was carried out. However, the researcher used content validity to ensure the

validity of the instrument. Content validity is concerned with how well the content of the

instrument samples the kinds of things about which conclusions are to be drawn. Content

validity ensures that the sample size of the population is a representation of the variables the

instrument will measure.

3.8 METHOD OF DATA ANALYSIS

The data collected were arranged and analysed based on the hypotheses formulated and the

research questions. The Chi-square statistical approach was used in testing the acceptability

or otherwise of the hypotheses posed in this research question.

The Chi-square formula is given below:

X² = ∑ (fo –fe)²

fe

X 2 = Value of Chi-square

Where: fo = Observed frequency

fe = Expected frequency

∑ = Summation

Bowleye proportional allocation formula was used to determine the exact number of each

category in the sample size. That is:

nh = nNh

N

Where: nh = Categories sample size

n = Sample size

Nh = Categories Population

N = Total Population size

UBA Staff = 98 x 40 = 30

130

First Bank Staff = 98 x 70 = 53

130

Diamond Bank Staff = 98 x 20 = 15

130 98

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CHAPTER FOUR

PRESENTATION ANALYSIS AND INTERPRETATION OF DATA

The essence of this chapter is to present and analyse the data collected for the study. The

presentation and interpretation of data were based on questionnaire administered to the staff

of the selected banks in Enugu. A total of 98 questionnaires were distributed and 88 retrieved

or collected from respondents having answered the questions therein.

4.1 PRESENTATION AND ANALYSIS OF DATA

Table 4.1: Questionnaires Distributed and Retrieved.

Bank No Distributed No Retrieved Responds percentage%

UBA 30 26 87

Diamond Bank 15 13 87

First Bank 53 49 92

Total 98 88 90

Source: Field Survey; 2014

The above table shows high percentage of response from the population surveyed; hence

there is an overall response percentage of 90%. This shows that most of respondents were

interested in the research topic and understood the questions contained on the questionnaire

very well.

Research Question 1: What are the risks encountered by your bank?

Question a: Interest rate is encountered by the banks?

Table 4.3: Data on interest rate risk encountered by banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 3 1 - 4 5

Strongly Agree 11 - 43 54 61

Do not Agree 5 9 6 20 23

Indifferent 7 3 - 10 11

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table above shows that a total of 4 or 5% of the respondents agree that interest rate risk

is encountered by banks in Enugu State, 54 or 61% of the respondents strongly agreed, while

20 or 23% do not agree and 10 or 11% respondents were indifferent.

Question b: The bank has Operational and Technological risk?

Table 4.4: Data on Operational and Technological risks encountered by banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 9 3 2 14 16

Strongly Agree 17 10 47 74 84

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table depicts that a total of 74 or 84% of the respondents strongly agree that the banks

have operational and technological risk, 14 or 16% of the respondents agreed, while none of

the respondents indicated do not agree or indifferent.

Question c: Market risk is one of the risks encountered my bank?

Table 4.5: Market risk as one of the risks encountered by banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree - - - - -

Strongly Agree - - - - -

Do not Agree 22 11 43 76 86

Indifferent 4 2 6 12 14

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

Table 4.5 shows that none of the respondents indicated agree or strongly agree, 76 (86%) of

the respondents indicated do not agree while 12 (14%) indicated indifferent. This implies that

market risk is not encountered by the banks in Enugu State.

Question d: Is liquidity risk is a major challenge facing the bank?

Table 4.6: Data collected on liquidity risk as a major challenge facing the banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 6 2 10 18 20

Strongly Agree 18 10 30 58 66

Do not Agree 2 1 4 7 8

Indifferent - - 5 5 6

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

Table shows that 18 (20%) of the respondents indicated agree, strongly agree 58 (66%)

respondents, do not agree 7 (8%) and 5 (6%) of the respondents indicated indifferent. This

means that credit risk is encountered by the banks.

Question e: Credit risk is encountered by my bank?

Table 4.7: Data showing Credit risk as one of the risks encountered by banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 4 1 2 7 8

Strongly Agree 20 12 41 73 83

Do not Agree 2 - 6 8 9

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

Table shows that 7 (8%) of the respondents indicated agree, 73 (83%) indicated strongly

agree while 8 (9%) do not agree and none of the respondents indicated indifferent. This

means that market risk is major challenge facing the banks.

Question f: Insolvency risk is encountered by my bank?

Table 4.8: Data collected on insolvency risk as encountered by the banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 5 - 2 7 8

Strongly Agree - - 4 4 5

Do not Agree 19 9 40 68 77

Indifferent 2 4 3 9 10

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

From table 4.8 above 7 (8%) of the respondents indicated agree, 4 (5%) strongly agreed, 66

(77%) respondents do not agree and 9 (10%) of the respondents indicated indifferent. This

shows that insolvency risk is not a challenge facing the banks.

Having exhaustively analysed the questions administered for testing hypothesis one, a

compressed result for the individually analysed questions are presented below.

Table 4.9: Condensed response of the six questions for testing hypothesis one.

ORGANISATION SA A NA IND TOTAL

UBA 66 27 50 13 156

Diamond Bank 32 7 30 19 78

First Bank 165 16 99 14 294

Grand Total 263 50 179 36 528

Source: Survey data, 2014

After getting the grand total for the compressed analysis, aggregate response of the three

organisations are:

Table 4.10: Aggregate response of the three banks

Source: Field Survey, 2014

Research Question 2: What are the risk management practices among Commercial

banks?

Question a: Understandings of the issues of risk are well communicated to all staff?

Table 4.11: Understandings of the issues of risk by bank staff.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 6 1 3 10 11

Strongly Agree 20 12 46 78 89

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

RATING RESPONSE PERCENTAGE (%)

Strongly Agree 263 50

Agree 50 9

Not Agree 179 34

Indifferent 36 7

Total 528 100

The table above shows that 10 (11%) of the respondents indicated agree, 78 (89%) strongly

agreed whereas no respondent either indicated do not agree or indifferent. It then means that

understandings of the issues of risk are well communicated to all staff.

Question b: It is necessary to formally take risk analysis into consideration for investment

appraisal?

Table 4.12: Data on necessity of formally taking risk analysis into consideration for

investment appraisal.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 9 4 6 19 22

Strongly Agree 17 9 43 69 78

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table shows that 19 (22%) of the respondents indicated agree, 69 (78%) strongly agreed

whereas no respondent either indicated do not agree or indifferent. This depicts risk analysis

is formally taken into consideration for investment appraisal.

Question c: Credit rating and scoring system is strictly adhered to?

Table 4.13: Interpretation of data collected on credit rating and scoring system

adherence.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 10 3 7 20 23

Strongly Agree 16 10 42 68 77

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table shows that a total number of 20 (23%) of the respondents indicated agree, 68 (77%)

strongly agreed whereas no respondent either indicated do not agree or indifferent. It means

that credit rating scoring system is strictly adhered to by the banks.

Question d: Existing measurement tools effectively predict credit risk and other risks?

Table 4.14: Effectiveness of measurement tools in predicting credit risk and other risks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 12 4 6 22 25

Strongly Agree 10 9 40 59 67

Do not Agree - - 3 3 3

Indifferent 4 - - 4 5

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

Table 4.11 shows that 22 (25%) of the respondents indicated agree, 59 (67%) strongly agreed

whereas 3 (3%) of respondents either indicated do not agree and 4 (5%) indicated indifferent.

It shows that existing measurement tools effectively predict credit risk and other risks.

Having exhaustively analysed the questions administered under research question two, a

compressed result for the individually analysed questions is presented below.

Table 4.15: Condensed response of the four questions for testing hypothesis two.

ORGANISATION SA A NA IND TOTAL

UBA 63 37 0 4 104

Diamond Bank 40 12 0 0 52

First Bank 171 22 3 0 196

Grand Total 274 71 3 4 352

Source: Field Survey, 2014

Table 4.16: Aggregate response of the three banks.

Source: Field Survey, 2014

Research Question 3: To what extent does the existing legal and regulatory provisions

support sound risk management practices among Nigerian banks?

Question a: The introduction of the Prudential Guidelines by the regulatory authority (the

CBN) has ensured qualitative risk management among banking institutions in Nigeria?

Table 4.17: Effect of the Prudential Guidelines on qualitative risk management among

banking institutions in Nigeria.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 19 9 41 69 78

Strongly Agree 7 4 8 19 22

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table shows that 69 (78%) of the respondents indicated agree, 19 (22%) strongly agreed

whereas no respondent indicated do not agree or indifferent. It shows that the prudential

guidelines by the regulatory authority to some extent ensure qualitative risk management

among banking institutions in Nigeria.

RATING RESPONSE PERCENTAGE (%)

Strongly Agree 274 78

Agree 71 20

Not Agree 3 1

Indifferent 4 1

Total 352 100

Question b: Regulatory framework sets up the constraints and guidelines that inspire risk

management practices and stimulates the internal risk model and process of banks.

Table 4.18: Data on effect of Regulatory framework on risk management practices.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 6 3 13 22 25

Strongly Agree 20 10 36 66 75

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table shows that 22 (25%) of the respondents indicated agree, 66 (75%) strongly agreed

whereas no respondent indicated do not agree or indifferent. This shows that regulatory

framework sets up the constraints and guidelines that inspire risk management practices and

stimulates the internal risk model and process of banks among banking institutions in Nigeria.

Question c: Nigerian banks have clearly stated risk management policies?

Table 4.19: Interpretation of data on risk management policies in Nigerian banks.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 9 2 7 18 20

Strongly Agree 17 11 42 70 80

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table indicates that 18 (20%) of the respondents indicated agree, 70 (80%) strongly

agreed while no respondent indicated do not agree or indifferent. This means that Nigerian

banks have clearly stated risk management policies.

After the analysis of questions administered for testing hypothesis three, a compressed result

of the individually analysed questions is presented below.

Table: 20: Compressed response of the three questions for testing hypothesis three.

ORGANISATION SA A NA IND TOTAL

UBA 44 34 0 0 78

Diamond Bank 25 14 0 0 39

First Bank 48 61 0 0 109

Grand Total 117 109 0 0 226

Source: Survey data, 2014

Table 4.21: Aggregate response of the three banks.

Source: Survey data, 2014

Research Question 4: What effects do risks management have on performance of

Commercial Banks in Enugu State?

Question a: Risk management enables banks to achieve sustained market price stability,

protect and grow return on investment.

Table 4.22: Effects of risk management in achieving sustainable market price stability,

protection and return on investment.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 8 10 12 30 34

Strongly Agree 17 3 34 54 61

Do not Agree 1 - 3 4 5

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

RATING RESPONSE PERCENTAGE (%)

Strongly Agree 117 52

Agree 109 48

Not Agree 0 0

Indifferent 0 0

Total 226 100

The table above shows that 30 (34%) of the respondents indicated agree, 54 (61%) strongly

agreed while 4 (5%) respondents indicated do not agree and none indicated indifferent. It

means that risk management enables banks to achieve sustained market price stability, protect

and grow return on investment.

Question b: Effective risk management facilitates the achievement of the goal of

maximization of shareholders wealth?

Table 4.23: Interpretation of data on effectiveness of risk management in achieving the

goal of maximization of shareholders wealth.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 13 7 36 56 64

Strongly Agree - - 5 5 6

Do not Agree 11 6 - 17 19

Indifferent 2 - 8 10 11

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

From the table above 56 (64%) of the respondents indicated agree, 5 (6%) strongly agreed, 17

(19%) respondents indicated do not agree whereas 10 (11%) indicated indifferent. It means

that effective risk management to some extent facilitates the achievement of the goal of

maximization of shareholders wealth.

Question c: There is correlation between bank failure and poor risk management?

Table 4.24: Data on the correlation between bank failure and poor risk management.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 3 5 2 10 11

Strongly Agree 23 8 47 78 89

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table above depicts that 10 (11%) of the respondents indicated agree, 78 (89%) strongly

agreed and none of the respondents indicated do not agree and indifferent. It shows that there

is correlation between bank failure and poor risk management.

Question d: Effective evaluation of risk management is a critical component for

enhancement of investment/bank performance?

Table 4.25: Interpretation of data on the effects risk management on investment/bank

performance.

Rating UBA Diamond Bank First Bank Total Percentage %

Agree 4 2 7 13 16

Strongly Agree 22 11 42 75 85

Do not Agree - - - - -

Indifferent - - - - -

TOTAL 26 13 49 88 100

Source: Field Survey; 2014

The table shows that 13 (16%) of the respondents indicated agree, 75 (85%) strongly agreed,

while none of the respondents indicated do not agree or indifferent. It means that effective

evaluation of risk management is a critical component for enhancement of investment/bank

performance.

Having exhaustively analysed the questions under the research question four, a compressed

result for the individually analysed questions are presented below.

Table 4.26: Condensed response of the four questions for testing hypothesis four

ORGANISATION SA A NA IND TOTAL

UBA 62 28 12 2 104

Diamond Bank 22 24 6 0 52

First Bank 128 57 3 8 196

Grand Total 212 109 21 10 352

Source: Field Survey, 2014

After getting the grand total for the compressed analysis, aggregate response from the three

organisations are:

Table 4.27: Aggregate response of the three banks

Source: Field Survey, 2014

4.2 TEST OF HYPOTHESES

In this section, the researcher validated the four hypotheses of the research work. In testing

the hypotheses formulated, Chi-square (X²) statistical tool was used.

4.2.1 DECISION RULE

Accept the null hypothesis (Ho) if the calculated Chi-square value is less than the critical

value of the Chi-square distribution table, otherwise reject the null hypothesis and accept the

alternate hypothesis (Hi). That is; Accept: Ho if Xt2 ≥ Xc

2 and reject Hi

Where: Xt2

= Critical Value of Chi-square

Xc2

= Calculated Chi-square

4.2.2 OPERATIONAL ASSUMPTION

1. Level of significance = 5%

2. Degree of freedom = (r – 1) (c – 1)

3. Expected data = Row total x Column total

Total value

4. Critical value = (4 – 1) (3 – 1)

= 3 x 2

RATING RESPONSE PERCENTAGE (%)

Strongly Agree 212 60

Agree 109 31

Not Agree 21 6

Indifferent 10 3

Total 528 100

= 6

= 12.592

4.2.3 TEST OF HYPOTHESIS ONE

Ho: Commercial banks in Enugu State do not encounter any risk.

Hi: There are significant risks encountered by Commercial banks in Enugu State.

In testing the hypothesis, the condensed response of the research question; what are the risks

encountered by your bank? was used.

Table 4.28: Response on the risks encountered by banks.

ORGANISATION SA A NA IND TOTAL

UBA 66 27 50 13 156

Diamond Bank 32 7 30 19 78

First Bank 165 16 99 14 294

Grand Total 263 50 179 36 528

Source: Survey data, 2014

Using Chi-square formula: X² = ∑ (fo –fe)²

fe

Where: X² = Chi-square

fo = Observed frequency

fe = Expected frequency

∑ = Summation

Expected frequency = Row total x Column total

Total value

a. 156 x 263 = 77.70

528

b. 156 x 50 = 14.77

528

c. 156 x 179 = 52.89

528

d. 156 x 36 = 10.64

528

e. 78 x 263 = 38.85

528

f. 78 x 50 = 7.39

528

g. 78 x 179 = 26.44

528

h. 78 x 36 = 5.32

528

i. 294 x 263 = 146.44

528

j. 294 x 50 = 27.84

528

k. 294 x 179 = 99.67

528

l. 294 x 36 = 20.05

528 528

fo Fe fo-fe (fo-fe)2 (fo-fe)

2 /fe

66 77.70 -11.7 136.89 1.761776062

27 14.77 12.23 149.5729 10.12680433

50 52.89 -2.89 8.3521 0.157914539

13 10.64 2.36 5.5696 0.523458646

32 38.85 -6.85 46.9225 1.207786358

7 7.39 -0.39 0.1521 0.020581867

30 26.44 3.56 12.6736 0.479334341

9 5.32 3.68 13.5424 2.54556391

165 146.44 18.56 344.4736 2.352319039

16 27.84 -11.84 140.1856 5.035402299

99 99.67 -0.67 0.4489 4.503862747

14 20.05 -6.05 36.6025 1.825561097

528 528 0 30.54036524

Source: Field Survey, 2014

DECISION: The calculated Chi-square value (X2c) is far greater than the critical value of the

Chi-square distribution table (X2

t) (ie 30.540 > 12.592). Therefore, we reject the null

hypothesis (Ho) but accept the alternate hypothesis (Hi). This implies that there are

significant risks encountered by the Commercial banks in Enugu State.

4.2.4 TEST OF HYPOTHESIS TWO

Ho: There are no effective risk management practices among Commercial banks in

Enugu State.

Hi: There are effective risk management practices among Commercial banks in

Enugu State.

The condensed response of the research question; “how adequate is the risk management

practices among Commercial banks” was used in testing the hypothesis.

Table 4.29: Response on the adequacy of risk management practices among Commercial

Banks

ORGANISATION SA A NA IND TOTAL

UBA 63 37 0 4 104

Diamond Bank 40 12 0 0 52

First Bank 171 22 3 0 196

Grand Total 274 71 3 4 352

Source: Field Survey, 2014

Using Chi-square formula: X² = ∑ (fo –fe)²

fe

Expected frequency = Row total x Column total

Total value

a 104 x 274 = 80.95

352

b 104 x 71 = 20.98

352

c. 104 x 3 = 0.89

352

d. 104 x 4 = 1.18

352

e. 52 x 274 = 40.48

352

f. 52 x 71 = 10.49

352

g. 52 x 3 = 0.44

352

h. 52 x 4 = 0.59

352

i 196 x 274 = 152.57

352

j. 196 x 71 = 39.53

352

k. 196 x 3 = 1.67

352

l. 294 x 4 = 2.23

352 352

fo fe fo-fe (fo-fe)2 (fo-fe)

2 /fe

63 80.95 -17.95 322.2025 3.980265596

37 20.98 16.02 256.6404 12.23262154

0 0.89 -0.89 0.7921 0.89

4 1.18 2.82 7.9524 6.739322034

40 40.48 -0.48 0.2304 5.691699605

12 10.49 1.51 2.2801 0.217359389

0 0.44 -0.44 0.1936 0.44

0 0.59 -0.59 0.3481 0.59

171 152.57 18.43 339.6649 2.226288917

22 39.53 -17.53 307.3009 7.773865419

3 1.67 1.33 1.7689 1.059221557

0 2.23 -2.23 4.9729 2.23

352 352 0 44.07064405

Source: Field Survey, 2014

DECISION: The calculated Chi-square value (X2c) is far greater than the critical value of the

Chi-square distribution table (X2t) (44.070 > 12.592). Therefore, we reject the null hypothesis

(Ho) and accept the alternate hypothesis (Hi). This means that there are effective risk

management practices among Commercial banks in Enugu State.

4.2.5 TEST OF HYPOTHESIS THREE

Ho: The existing legal and regulatory provisions do not support sound risk

management practice among Nigerian banks.

Hi: The existing legal and regulatory provisions support sound risk management

practice among Nigerian banks.

This hypothesis was tested using the condensed response of the research question: To what

extent does the existing legal and regulatory provisions support sound risk management

practices among Nigerian banks?

Table 4.30 Response of legal and regulatory provisions support of sound risk

management among Nigerian banks.

ORGANISATION SA A NA IND TOTAL

UBA 44 34 0 0 78

Diamond Bank 25 14 0 0 39

First Bank 48 61 0 0 109

Grand Total 117 109 0 0 226

Source: Survey data, 2014

Using Chi-square formula: X² = ∑ (fo –fe) ²

fe

Expected frequency = Row total x Column total

Total value

a 78 x 117 = 40.38

226

b 78 x 109 = 37.62

226

c. 78 x 0 = 0

226

d. 78 x 0 = 0

226

e. 39 x 117 = 20.19

226

f. 39 x 109 = 18.81

226

g. 39 x 0 = 0

226

h. 39 x 0 = 0

226

i 109 x 117 = 56.43

226

j. 109 x 109 = 52.57

226

k. 109 x 0 = 0

226

l. 109 x 0 = 0

226 226

fo fe fo-fe (fo-fe)2 (fo-fe)

2 /fe

44 40.38 3.62 13.1044 0.324526993

34 37.62 -3.62 13.1044 0.348335991

0 0 0 0 0

0 0 0 0 0

25 20.19 4.81 23.1361 1.145918772

14 18.81 -4.81 23.1361 1.229989367

0 0 0 0 0

0 0 0 0 0

48 56.43 -8.43 71.0649 1.259936093

61 52.57 8.43 71.0649 1.35184723

0 0 0 0 0

0 0 0 0 0

226 226 0 5.660521939

Source: Field Survey, 2014

DECISION: The calculated Chi-square value (X2

c) is less than the critical value of the Chi-

square distribution table (X2

t) (ie 5.660 < 12.592). Therefore, we reject the alternate

hypothesis (Hi) and accept the null hypothesis (Ho). It means that the existing legal and

regulatory provisions do not effectively support sound risks management in Nigerian banks.

4.2.6 TEST OF HYPOTHESIS FOUR

Ho: Risk management has no positive effects on the performance of banks in

Enugu State.

H1: Effective risk management has significant effects on the performance of banks

in Enugu State.

The hypothesis was tested using the condensed response of the research question: What effect

do risks have on performance of Commercial banks?

Table 4.31: Response on effects risks on Commercial banks performance.

ORGANISATION SA A NA IND TOTAL

UBA 62 28 12 2 104

Diamond Bank 22 24 6 0 52

First Bank 128 57 3 8 196

Grand Total 212 109 21 10 352

Source: Field Survey, 2014

Using Chi-square formula: X² = ∑ (fo –fe)²

fe

Expected frequency = Row total x Column total

Total value

a 104 x 212 = 62.64

352

b 104 x 109 = 32.20

352

c. 104 x 21 = 6.20

352

d. 104 x 10 = 2.95

352

e. 52 x 212 = 31.33

352

f. 52 x 109 = 16.10

352

g. 52 x 21 = 3.10

352

h. 52 x 10 = 1.48

352

i 196 x 212 = 118.05

352

j. 196 x 109 = 60.69

352

k. 196 x 21 = 11.69

352

l. 196 x 10 = 5.57

352 352

Fo fe fo-fe (fo-fe)2 (fo-fe)

2 /fe

62 62.64 -0.64 0.4096 6.538952746

28 32.20 -4.2 17.64 0.547826087

12 6.20 5.8 33.64 5.425806452

2 2.95 -0.95 0.9025 0.305932203

22 31.33 -09.33 87.0489 2.778451963

24 16.10 7.9 62.41 3.876397516

6 3.10 2.9 8.41 2.712903226

0 1.48 -1.48 2.1904 1.48

128 118.05 9.95 99.0025 0.838648877

57 60.69 -3.69 13.6161 0.224354918

3 11.69 -8.69 75.5161 6.459888794

8 5.57 2.43 5.9.049 1.060125673

352 352 0 32.24928846

Source: Field Survey, 2014

DECISION: The calculated Chi-square value (X2

c) is greater than the critical value of the

Chi-square distribution table (X2

t) (ie 32.249 > 12.592). Therefore, we reject the null

hypothesis (Ho) and accept the alternate hypothesis (Hi). This indicates that effective risk

management has significant effects on the performance of banks in Enugu State.

CHAPTER FIVE

SUMMARY OF FINDINGS, CONCLUSIONS AND RECOMMENDATIONS

This chapter summarises the findings of this research work. It also provides conclusions

drawn from the findings and makes recommendations that may be helpful to the banks,

economic policy makers and the regulatory authority responsible for regulating the activities

of banks in the Nigerian economy.

5.1 SUMMARY OF FINDINGS

• The study has established that there are significant risks encountered by Commercial

banks in Enugu State.

• The banks have adequate measures and processes of monitoring and controlling risks

that ensure proper risk management practices.

• The existing legal and regulatory provisions do not effectively support sound risk

management.

• As a result of effective risk management, banks performance has tremendously

increased. It enable banks to achieve sustainable market price stability, protect and

grow return on investment, also increases their efficiency and profitability.

5.2 CONCLUSIONS

The results obtained from the research clearly support the assertion that effective risk

management contributed to a greater extent to the performance of banks in Enugu State.

Therefore, effective risk management is important in banks and allows them to improve their

performance and prevent bank failure, to achieve that, banks should have positive risk

management culture, legal and regulatory provisions or policies strengthen.

5.3 RECOMMENDATIONS

The reason for risk management is for better performance and to prevent bank distress.

Consequent upon the findings and conclusions drawn from this work, the following

recommendations were made:

• Banks in Enugu State should enhance their capacity in risk management, there should

be effective, efficient and comprehensive risk management process to identify

measure, monitor and control risks.

• There is also the need for banks in Enugu State to adopt sound corporate governance

practices, manage their risks in an integrated approach and focus mainly on core

banking activities.

• The existing legal and regulatory provisions should be looked into and amended

where necessary and there should also be periodical review of the operations and

performances of banks by the regulatory authority to ensure that banks operate in

accordance with the relevant provisions of the Bank and Other Financial Institutions

Act (BOFIA 1999) and Prudential Guidelines.

5.4 CONTRIBUTION TO KNOWLEDGE

This research work contributed to the existing pool of works or studies on risk management

in banks which other researchers have carried out in the past. It is believed that banks in

Enugu State will find this research useful as it will help risk managers mitigate risks

associated with their operations, thereby improve profitability.

5.5 SUGGESTION FOR FURTHER RESEARCH

This study only investigated the effects of risk management on the performance of selected

banks in Enugu State, Nigeria. It will provide a guide for further studies on risk management

in the banking industry. Also further study should be focused on the impacts of risk

management on the wealth return of banks shareholders.

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APPENDIX 1

EFFECT OF RISK MANAGEMENT ON THE PERFORMANCE OF

SELECTED COMMERCIAL BANKS IN ENUGU STATE.

I am a Post-graduate student of University of Nigeria, Enugu currently carrying out research

on Effects of Risk Management on the Performance of Selected Commercial Banks in Enugu

State.

This questionnaire is designed to obtain information on various aspects of risk management

in your bank; the information given will be utilized solely for this study and will be treated

with utmost confidentiality.

SECTION A: BANK

United Bank for Africa

First Bank

Diamond Bank

SECTION B: RESEARCH QUESTION

Kindly supply answers to the questions below by selecting one of the options as appropriate

in the box.

KEY: A = Agree, SA = Strongly Agree, NA = Not Agree, IND = Indifferent

S/N QUESTION A SA NA IND

1. What are the risks encountered by your bank?

a. Interest rate risk is encountered by my bank

b. The bank has Operational and Technological risk

c. Market risk is one of the risks encountered by my bank

d. Liquidity risk is a major challenge facing the bank

e. Credit risk is encountered by my bank

f. Insolvency risk is encountered by the bank

2.

What are the risk management practices among

Commercial Banks in Enugu State?

Thank you.

a. The understandings of the issues of risk are well

communicated to all staff.

b. It is necessary to formally take risk analysis into

consideration for investment appraisal.

c. Credit rating and scoring system is strictly adhered to

d. Existing measurement tools effectively predict credit risk and

other risks.

3. To what extent does the existing legal and regulatory

provisions support sound risk management practices

among Nigerian banks?

a. The introduction of the Prudential Guidelines by the

regulatory authority (the CBN) has ensured qualitative risk

management among banking institutions in Nigeria.

b. Regulatory framework sets up the constraints and guidelines

that inspire risk management practices and stimulates the

internal risk model and process of banks.

c. Nigerian banks have clearly stated risk management policies

4. What effects do risks management have on performance

of Commercial banks?

a. Risk management enables banks to achieve sustained market

price stability, protect and grow return on investment.

b. Effective risk management facilitates the achievement of the

goal of maximization of shareholders wealth.

c. There is correlation between bank failure and poor risk

management.

d. Effective evaluation of risk management is a critical

component for enhancement of investment/ bank

performance.