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WORKING CAPITAL MANAGEMENT IN NIGERIA

BANKING INDUSTRY

BYBYBYBY

ONYEJI, STEPHEN IFEANYIONYEJI, STEPHEN IFEANYIONYEJI, STEPHEN IFEANYIONYEJI, STEPHEN IFEANYI

PG/MBA/11PG/MBA/11PG/MBA/11PG/MBA/11/60/60/60/60111178787878

DEPARTMENT OF BANKING AND FINANCE,

FACULTY OF BUSINESS ADMINISTRATION,

UNIVERSITY OF NIGERIA,

ENUGU CAMPUS

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MAY, 2013MAY, 2013MAY, 2013MAY, 2013

TITLE PAGE

WORKING CAPITAL MANAGEMENT IN NIGERIA BANKING

INDUSTRY

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BY

ONYEJI, STEPHEN IFEANYI

PG/MBA/11/60178

BEING A DISSERTATION PRESENTED IN PARTIAL FULFILLMENT OF THE

REQUIREMENT FOR THE AWARD OF MASTERS OF BUSINESS ADMINISTRATION

(MBA) IN BANKING AND FINANCE

TO THE DEPARTMENT OF BANKING AND FINANCE FACULTY OF BUSINESS

ADMINISTRATION, UNIVERSITY OF NIGERIA, ENUGU CAMPUS

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MAY, 20I3

CERTIFICATION

I, ONYEJI, STEPHEN IFEANYI, an MBA student of the Department Banking and Finance, with the

registration number PG/MBA/ 11/60178, have submitted this project report for the award of MBA

degree in Banking and Finance. This project report is my original work and has not been submitted in

part or in full for any degree or diploma in this university or any other institution.

__________________ _________________

Onyeji, Stephen Ifeanyi Date

We certify that this project report has been successfully completed and accepted for the award of MBA

degree in Banking and Finance.

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_______________________ __________________

DR. E. CHUKE NWUDE Date

Project Supervisor

________________________ _____________________

DR. J.U.J. ONWUMERE Date

Head of Department

_______________________ ____________________

External Examiner Date

DEDICATION

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This project report is dedicated to Almighty God who gave me life that I may enjoy all the benefit of

living. To the entire Onyeji’s family for their immeasurable love, care and support.

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ACKNOWLEDGEMENT

I am most thankful to God who made it possible for me to climb up to this present level of achievement.

To Him is all the glory.

I am highly grateful to Prof. and Mrs. C. 0. Onyeji for their effort towards my academic pursuit. You are

indeed a stunning combination of all that is good. My special thanks go to my mother, Mrs. Nneora Anna

Onyeji; My wife Ogochukwu P. Onyeji for their prayers and moral support.

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This project would not have been a success if not for the positive contributions of many peoples

especially my supervisor- Dr. E. Chuke Nwude; my H.0.D- Dr. J.U.J Onwumere; Dean of faculty- Prof

U.J.F. Ewurum; Mr. A. U. Onah.

I also express my profound gratitude to my departmental lecturers, Mrs. N.J Modebe; Dr. Austin

Ujunwa; Prof. C.U Uche and the entire staff of Banking and finance department. I cannot thank them

enough but I know that God will reciprocate this kind gesture.

And finally I am highly indebted to the Management and staff of Skye Bank Plc, Ogui, Enugu, for their

assistance which made this project very successful.

ABSTRACT

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Working capital management is very crucial in this period of global financial turmoil. This is because

illiquidity is prevalent world wide necessitating that effective and efficient management of any available

cash will be needed to ensure that company breaks even and survives this distressed time since credit is

not easily come by. This project presents empirical evidence of the effect of working capital

management and liquidity in Nigeria banking industry using annual financial report data for the period

2000-20 10. These data were analyzed using descriptive statistics and Financial Analysis Techniques of

working capital ratios. Contrary to most previous empirical works, cash operating cycle has a

significantly positive relationship with banks’ working capital management, just like debtors’ collection

period; whiles creditors’ payment period exhibits a significantly opposite relationship. However Nigeria

banks appear to perform poorly in these working ratios.

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TABLE OF CONTENTS

Page

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

Certification Page - - - - - - - - - ii

Dedication - - - - - - - - - - iii

Acknowledgement - - - - -- - - - - iv

Abstract - - - - - - -- - - - v

Table of Contents - - - - - - - - - vi

CHAPTER ONE: INTRODUCTION

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

1.2 Statement of the Problem - - - - - - - - 3

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1.3 Objectives of the Study - - - - - - - - 4

1.4 Research Questions - - - - - - - - 4

1.5 Scope of the Study - - - - - - - - 4

1.6 Significance of the Study - - - - - - - - 4

1.7 Definition of Terms - - - - - - - - 5

CHAPTER TWO:

2.0 Review of Related Literature - - - - - - - 7

2.1 Meaning of Capitalization - - - - - - - - 7

2.1.1 Over Capitalization - - - - - - - - 7

2.1.2 Under Capitalization - - - - - - - - - 8

2.1.3 Watered Capitalization - - - - - - - - 10

2.2 Working Capital Management - - - - - - - - 10

2.2.1 Liquidity and profitability Trade-Off - - - - - - - 12

2.2.2 Inventory Management and Profitability - - - - - 13

2.2.3 Debtors’ Management and Profitability Objective - - - - 14

2.2.4 Creditors Management and Profitability - - - - - - 15

2.2.5 Cash Management and Profitability - - - - - - 15

2.3 The Cash Conversion Cycle and Profitability - - - - - 16

2.4 Working Capital Management Efficiency - - - - - 18

2.5 The Nigerian Economy and Working Capital Management - - - 21

2.6 Cost Reduction Approaches in banks - - - - - - 22

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2.7 An Overview of Nigeria Banking Sector Capital Regulation - - - 23

2.7.1 Banking Sector Liquidity and Financial Crisis in Nigeria - - - 26

2.7.2 Factors Affecting Banking Performance in Nigeria - - - - - 28

CHAPTER THREE:

3.0 Research Methodology - - - - - - - - 35

3.1 Research Design - - - - - - - - - 35

3.2 Sample size/ Sampling Technique - - - - - - 35

3.3 Method of Data Collections - - - - - - - 36

3.4 Techniques of Data Analysis/Interpretations - - - - - 36

3.5 Anticipated Problems and Limitations of the Study - - - - 37

CHAPTER FOUR

4.0 Introduction - - - - - - - - - 38

4.1 Data Presentation - - - - - - - - - 38

4.2 Data Analysis - - - - - - - - - 57

4.3 Statement of Findings - - - - - - - - 58

4.3.1 Analysis of Composition of Workihg Capital Items - - - - 61

CHAPTER FIVE

5.0 Summary, Conclusion and Recommendation-- - - - - - 64

5.1 Summary - - - - - - - - - - 64

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5.2 Conclusion - - - - - - - - - 65

5.3 Recommendation - - - - - - - - - 65

References - - - - - - - - - - 67

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CHAPTER ONE

1.1 BACKGROUND OF THE STUDY

Working Capital management is a prime concern in a banking environment and a working

capital deficiency (that is excess of current liabilities over current assets) has often been a trigger

for bank failures. Working Capital of a Bank simply represents the operating liquidity available

to run the bank.

Management of working capital is an important component of corporate financial management

because it directly affects the profitability and liquidity of all firms, irrespective of their sizes.

Working capital management refers to the management of current assets and current liabilities.

Researchers have approached working capital management in numerous ways but there appear to

be a consensus that working capital management has a significant impact on returns, profitability

and firm value Deloof, (2003). Thus, efficient working capital management is known to have

many favourable effects: it speeds payment of short-term commitments on firms (Peel et. al,

2000); it facilitates owner financing; it reduces working capital as a cause of failure among small

businesses (Berryman, 1983); it ensures a sound liquidity for assurance of long-term economic

growth and attainment of profit generating process (Wignaraja and O’Neil,1999); and it ensures

acceptable relationship between the components of firms working capital for efficient mix which

guarantee capital adequacy, (Osisioma, 1997).

On the other hand, there is also a general agreement from literature that inefficient working

capital management also induces small firms’ failures (Berryman, 1983), overtrading signs

(Appuhami, 2008), inability to propel firm liquidity and profitability, (Eljielly, 2004; Peel and

Wilson, 1996; and Shin and Soenen, 1998), and loss of business due to scarcity of products,

(Blinder and Maccini, 1991).

For all firms, in both developed and developing economies, one of the fundamental objectives of

working capital management is to ensure that they have sufficient, regular and consistent cash

flow to fund their activities. This objective is particularly heightened for financial institutions

like banks. In banking business, being profitable and liquid are not negotiable, at least for two

reasons; to meet regulatory requirement and to guarantee enough liquidity to meet customers’

unannounced withdrawals. Consequently, proper working capital management would enable

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banks in sustaining growth which, in turn leads to strong profitability and sound liquidity for

ensuring effective and efficient customer services.

A bank is set to be liquid when there is sufficient cash and cash transferable assets including

investment in securities that are easily realizable at a short notice without loss to the bank,

together with the ability to raise fund quickly from other sources to enable it to meet its payment

obligations and financial commitment in a timely manner.

A Positive working capital is required to ensure that a firm is able to continue its operations and

that it has sufficient funds to satisfy both maturing short-term debt and upcoming operational

expenses. The Current assets are those assets which will be converted into cash within the

current accounting period or within the next year as a result of the ordinary operations of the

business. They are cash or near cash resources. For banks, these include: Cash and balances with

central bank, Treasury bills, Due from other banks, Prepaid expenses.

On the other hand, the Current liabilities are the debts of the firms that have to be paid during the

current accounting period or within a year. These include: Customer deposits, Due to other

banks, Current income tax, Short-term borrowings, and Dividends payable.

A key activity of the Central Bank of Nigeria (CBN) is liquidity management. According to the

CBN Act of 1958 and its subsequent amendments, the CBN is responsible for implementing

restrictive or expansionary monetary policies in order to achieve price stability, influence interest

rates, manage the growth in credit to the domestic economy and maintain the international value

of the local currency. It manages Banking Sector liquidity by supplying or withdrawing liquidity

from the Banking Sector which it deems to be consistent with a desired level of short-term

interest rates or reserve money. It relies on the daily assessment of the liquidity conditions in the

banking system, so as to determine its liquidity needs and thus, the volume of liquidity to inject

or withdraw from the economy.

Basically, banking is a service industry operated by human beings for the benefit of the general

public while making returns to the shareholders. As such, it is natural that the services provided

thereof by the industry cannot be 100% efficient; however, there is always a room for

improvement. It is on this statement that the index of our further discussion on this study is

based.

The Banking Sector plays an important role in the Nigerian economy. According to Soludo

(2009:23), Nigerian banks account for over 90 percent of financial system assets and dominate

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the stock market. As a result, a well funded Banking Sector is essential in order to maintain

financial system stability and confidence in the economy.

A significant body of literature exists on working capital management and the determinants of

banking liquidity; some of these include Central Banks’ recommendations, financial institutions

and risk management textbooks. However, Traditional working capital/liquidity management

involves the mapping, estimation and simulation of inflows and outflows within some time

horizon, including safety margins and contingency plans to deal with exceptional losses and

disbursements. The separation from the investment decision makes it difficult to assess

objectively how much cash is too much, hindering bank’s ability to seize profitable

opportunities, and how much is too few, making the risk of losses higher than acceptable in

exchange for the increased returns on illiquid assets. As a result, there is a gap between

theoretical developments in liquidity management and what is actually used in practice by

commercial banks, and the decision about the optimal liquidity level relies much more on art and

professional experience than on science and well specified decision processes.

The recent global financial crisis and its impact on the Nigerian Banking Sector has shown that

CBN’s daily forecasts of Banking Sector liquidity is not sufficient in assessing the liquidity

requirements of the sector as several

Banks remain relatively fragile and incapable of withstanding periodic liquidity shocks.

According to Alford (2010:6) “Following the special examination and during the period from

December 2008 to December 2009, Nigerian banks wrote off loans equivalent to 66% of their

total capital; most of these write offs occurred in the eight banks receiving loans from the CBN”.

Most of the banks also suffered panic runs and flights to safety during the period.

It is on this argument that this work lies to assess the working capital management of deposit

money banks in Nigeria.

1.2 STATEMENT OF THE PROBLEM

Between 1991 and 2011, over 55 Nigeria banks have been liquidated by the NDIC due to their

protracted problem of distress. According to Soyinbo and Adekanye (2002) and Adam (2003)

nearly 100 out of the 128 banks in Nigeria failed and collapsed as result of inadequate capital

base, mismanagement of funds, overtrading, and lack of sound regulation, control and unfair

competition from the foreign banks.

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How are Nigeria banks strategizing to improve upon their working capital management? What

are the existing working capital items of Nigeria banks? What has been the end-result of working

capital management in Nigeria banking industry?

These stated problems together with the research questions below are what the researcher tries to

encapsulate in the research topic with a view to providing their answers in the course of this

research.

1.3 RESEARCH QUESTIONS

In view of the above stated problems, my research questions for this study are as follows:

What is the composition of working capital items in Nigeria banks?

What have been the end-results of working capital management in Nigeria banks?

Have these components of working capital well managed?

1.4 OBJECTIVES OF THE STUDY

In dealing with the above research questions, the study seeks to achieve the following objectives;

To examine the composition of working capital items in Nigeria banks.

To examine the adequacy of working capital management in Nigeria banks.

To ascertain if the components of working capital are well managed.

1.5 SCOPE OF THE STUDY

This research attempts to study the working capital management among Nigeria banks. The

study covers all the commercial banks in Nigeria from 2000-2010 excluding two expatriate

banks whose annual reports and financials are in dollars, viz, Citibank and Standard chattered

Bank.

1.6 SIGNIFICANCE OF THE STUDY

Although much have been written about banks’ working capital management and liquidity

management, the significant of this study can be viewed from two major standpoints- practical

and academic.

Practical significance

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The bank directors, corporate bodies and management that want to embark on banks’ working

capital management and liquidity management will find useful information in this work.

For bankers in general, it will broaden their scope of knowledge on working capital elements,

management, optimization and risk management.

Academic Significance

In the academic arena, this research will prove to be significant in the following ways:

It will serve the purpose of arousing deep thoughts and genuine interest on the subject matter for

further research.

It will contribute to the enrichment of the literature on working capital management.

It will suggest ways (of interest to academics) based on empirical evidence of enhancing working

capital management

1.7 DEFINITION OF TERMS

WORKING CAPITAL: (abbreviated WC) is a financial metric which represents operating

liquidity available to a business, organization or other entity, including governmental entity.

MANAGEMENT: The act or manner of guiding or taking charge, handling, directing or

control.

OVERCAPITALIZATION: is a state where earnings are not sufficient to justify the fair return

on the amount of share capital which has been issued by the company

UNDERCAPITALIZATION: is a state where the capital which is owned by the business is

much less than the borrowed capital.

LIQUIDITY – It is the ability of banks to pay cash immediately when called upon to do so for

all of its demand liabilities

LIQUIDITY MANAGEMENT – It is the ability of the bank to manage the liquidity position

so that neither the liquidity nor the profitability will suffer. It involves the provision for the

withdrawal of deposit, short time cash cyclical and secular cash requirement of the specks –

financial institutions.

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DEPOSIT MONEY BANKS: The resident depository corporations and quasi-corporations who

have many liabilities in the form of deposits payable on demand, transferable by cheque or

otherwise usable for making payments.

DEPRESSION: The state of being depressed. It is a period when there is little economic

activity, and many people are poor or without jobs.

ECONOMY: The relationship between production, trade and the supply of money in a particular

country or region. It is the system of trade and industry by which the wealth of a country is made

and used.

DEREGULATION: It is a way to free a trade, business activity etc from certain rules and

controls.

LIBERALIZATION: This is a way to free somebody or something from political, religious,

legal or moral restrictions.

LOAN AND ADVANCE: Loan is a sum of money which is borrowed, often from a bank, and

has to be paid back usually together with an additional amount of money known as interest,

while Advance is bank lending which may be via term loan, overdraft, or bill discounting.

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CHAPTER TWO

LITERATURE REVIEW

2.0 INTRODUCTION

This chapter reviews contemporary articles and publications on working capital management of

commercial banks in Nigeria. It begins with definitions of terms relating to working capital of

banks prior to discussing literature on the needs for effective working capital management. It

further examines the strategic approach to cost reduction within the financial services

environment as well as how it can enhance available funds for lending purposes.

2.1: MEANING OF CAPITALIZATION

Reputable banking and finance writers such as Flannery (2005), Hofmann (2009) and Kashyap et

al (2008) all refer to capitalization as the process of determining the quantum of funds that a firm

needs to run its business. Ammann (2001) also notes that capitalization is only the par value of

share capital and debenture and it does not include reserve and surplus. According to Cooper et

al (2003) “capitalization is the sum of the par value of stocks and bonds outstanding”. To

Danielson et al (2004) “capitalization is the balance sheet value of stocks and bonds outstands”.

The Kinds of Capitalization: In the view of Cooper et al (2003) capitalization may be classified

into the three important types based on its nature, namely; over capitalization, under

capitalization and water capitalization.

2.1.1: OVER CAPITALIZATION

Hassan and Bashir (2009) indicate, refer to the company which possesses an excess of capital in

relation to its activity level and requirements. Simply, over capitalization is having more capital

than is actually required and the funds are not properly utilized. According to Ito and Sasaki

(1998) a business concern is said to be overcapitalized if its earnings are not sufficient to justify

a fair return on the amount of share capital and debentures that have been issued.

A business is said to be over capitalized when the total of owned and borrowed capital (equity

and debt) exceeds its fixed and current assets, that is, when its total capital exceeds the true value

of its assets. An over capitalized company can be likened to a very fat person who cannot carry

his weight properly. Such a person is prone to many diseases and is certainly not likely to be

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sufficiently active. Tanner (1995) argues that unless the condition of overcapitalization is

corrected, the company may find itself in great difficulties.

CAUSES OF OVER CAPITALIZATION

According to Nakaso (1999) over capitalization occurs due to the following causes: over issue of

capital by the company, borrowing large amount of capital at a higher rate of interest, providing

inadequate depreciation to the fixed assets, excessive payment for acquisition of goodwill, high

rate of taxation and under estimation of capitalization rate.

EFFECTS OF OVER CAPITALIZATION

Diamond (2001) also states that over capitalization leads to the following effects; reduce the rate

of earning capacity of the shares, difficulties in obtaining necessary capital to the business

concern, leads to fall in the market price of the shares, creates problems on re- and leads to under

or mis-utilisation of available resources.

REMEDIES FOR OVER CAPITALIZATION

According to Bikker and Hu (2002) over capitalization can be reduced with the help of effective

management and systematic design of the capital structure. Efficient management can reduce

over capitalization, redemption of preference share capital which consists of high rate of

dividend, reorganization of equity share capital and reduction of debt capital.

2.1.2: Under Capitalization

Under capitalization is the opposite concept of over capitalization and according to Banks (2004)

it will occur when the company’s “actual capitalization is lower than the capitalization as

warranted by it earning capacity”. Under capitalization is not the so called inadequate capital.

Under capitalization has been described by Hogath and Thomas (1999) as, “a corporation may be

undercapitalized when the rate of profit is exceptionally high in the same industry”. Diamond

(2001) defined under capitalization as “an excess of true assets value over the aggregate of

stocks and bonds outstanding”. When owned capital of the business is much less than the total

borrowed capital than it is a sign of under capitalization. This means that the owned capital of the

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company is disproportionate to the scale of its operation and the business is dependent upon

borrowed money and trade creditors.

Under-capitalization according to Shin (2006) may be the result of over-trading. It must be

distinguished from high gearing. In case of capital gearing, Rochet (2008) explains that there is a

comparison between equity capital and fixed interest bearing capital (which includes preference

share capital also and excludes trade creditors) whereas in the case of under-capitalization,

comparison is made between total owned capital (both equity and preference share capital) and

total borrowed capital (which includes trade creditors also). Under capitalization is indicated by

Low proprietary Ratio, Current Ratio and High Return on Equity Capital.

According to Ben-Nacour and Goaied (2008) the effects of under capitalization may be payment

of excessive interest on borrowed capital, use of old and out of date equipment because of

inability to purchase new plant and high cost of production because of the use of old machinery.

It is the conviction of Acquah (2006) that when Ghanaian banks were recapitalized, players in

the industry will modernize their services delivery systems, open more branches and extend more

loans to the Small and Medium Scale Enterprises (SME) sector thereby playing their proper role

in the socio-economic development in the country.

CAUSES OF UNDER CAPITALIZATION

According to Berger (1995) under capitalization arises due to the following causes; under

estimation of capital requirements, under estimation of initial and future earnings, maintaining

high standards of efficiency, conservative dividend policy, desire for control and trading on

equity.

EFFECTS OF UNDER CAPITALIZATION

Under Capitalization in the view of Tanner (1995) leads to certain effects on the company and its

shareholders. It leads to manipulation of the market value of shares, increases the marketability

of the shares, more government control and higher taxation, feelings of exploitation by

consumers of the company and high competition.

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REMEDIES FOR UNDER CAPITALIZATION

In the opinion of Ammann (2001) Under capitalization may be corrected by taking these

remedial measures: compensating with the help of fresh issue of shares, increasing the par value

of share by the issue of bonus shares to the existing shareholders and reducing the dividend per

share by way of splitting up of shares.

2.1.3: Watered Capitalization

If the stock or capital of the company is not backed by assets of equivalent value, Hogarth and

Thomas (1999) describe it as watered stock. In other words, watered capital means that the

realizable value of assets of the company is less than its book value. According to Hogarth and

Thomas (1999), “a stock is said to be watered when its true value is less than its book value”.

2.2: WORKING CAPITAL MANAGEMENT

Most empirical study on working capital management (WCM) is based on large non-financial

corporate institutions. Obviously, financial management of banks and these non-financial

enterprises bear strong similarities. However, there is a significant disparity which substantiates

the study of financial management of banks. Since banks of developing countries experience

difficulties in accessing external finance, they rely more strongly on internally savings funds than

larger banks from developed economies. Working capital management thus plays an important

role in the liquidity of banks in developing countries (Berger et al, 2001). There is an assertion

confirmed that working capital related problems such as overtrading are cited among the most

significant reasons for the failure of rural and community banks (Owusu-Frimpong, 2008).

Shin and Soenen (1998) examined the relationship between working capital management and

value creation for shareholders. They examined this relationship by using correlation and

regression analysis, by industry, and working capital intensity. Using a COMPUSTAT sample of

58,985 firm years covering the period 1975-1994, they found a strong negative relationship

between the length of the firm's net-trade cycle (NTC) and its profitability. Based on the

findings, they suggest that one possible way to create shareholder value is to reduce firm’s NTC.

Following pioneer work of Shin and Soenen (1998), Deloof (2003) study found a strong

significant relationship between the measures of WCM and corporate profitability. Their findings

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suggest that managers can increase profitability by reducing the number of days of accounts

receivable and inventories. In a related study, Wang (2002) emphasized that increase in

profitability can be achieved by reducing number of day’s accounts receivable and reducing

inventories. Thus, a shorter Cash Conversion Cycle (CCC) and net trade cycle is related to better

performance of the firms.

Furthermore, efficient working capital management is very important to create value for the

shareholders. Lazaridis and Tryfonidis (2006) investigated the relationship of corporate

profitability and working capital management for firms listed at Athens Stock Exchange. They

reported that there is statistically significant relationship between profitability measured by gross

operating profit and the Cash Conversion Cycle. Furthermore, Managers can create profit by

correctly handling the individual components of working capital to an optimal level. Similar

results with very few disparities are shown in Kenya (Mathuva, 2009), Nigeria (Falope and

Ajilore, 2009) and Istanbul (Uyar, 2009).

Raheman and Nasr (2007) studied the relationship between working capital management and

corporate profitability for 94 firms listed on Karachi Stock Exchange using static measure of

liquidity and ongoing operating measure of working capital management during 1999-2004. It

was found that there exist a negative relation between working capital management measures

and profitability.

On the contrary, Sharma and Kumar (2011) present findings which significantly depart from the

various international studies conducted in different markets that working capital management

and profitability is positively correlated in Indian companies. The study further reveals that

inventory number of days and number of days accounts payable is negatively correlated with a

firm’s profitability, whereas number of days accounts receivables and cash conversion period

exhibit a positive relationship with corporate profitability. This study was based on a sample of

263 non-financial BSE 500 firms listed at the Bombay Stock (BSE) from 2000 to 2008 and the

data evaluated using OLS multiple regression.

Thus, it could be concluded that even though finding common proxies for working capital policy

is difficult, researchers seem to agree, generally (with few exceptions), that CASH

CONVERSION CYCLE has a significantly negative relationship with firm profitability even

though most of these evidence are from non-financial firms. Also, it is evidenced that the

importance of good working capital management practices transcends industry or firm size (Shah

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and Sana, 2006; Howorth and Westhead, 2003; Peel and Wilson, 1996; Padachi, 2006; and

Garcia-Teruel and Martinez-Solano, 2007).

At this juncture, empirical literature will mainly centre on the relationships between working

capital components (inventory, debtors, creditors, and cash) and profitability, the effect of cash

conversion cycle on profitability as well as issues that border on trade-off between liquidity and

profitability. We shall now concentrate discussions along these above mentioned channels of

determining a firm’s profitability profile through effective liquidity management.

2.2.1: Liquidity and Profitability Trade-Off

Liquidity is a flow concept and as such refers to ability of a firm to generate adequate cash from

both internal and external sources to meet its cash requirements (Egbide and Enyi, 2008). It is

technically known as solvency meaning the firm’s continuous ability to meet maturing

obligations. While profitability refers to the firm’s ability to generate revenues in excess of the

cost of generating such revenues. Most empirical studies have established liquidity and

profitability as the most important goals of working capital management and have been found to

be universally associated with each other (Raheman and Nasir 2007, Shin and Soenen, 1998;

Pandey, 2005) Van-Horne and Wachowicz, 2005). Trade-off between the dual goals of working

capital management as shown in Smith (1980) which is similar to risk-return trade-off has

increasingly been supported by many empirical findings (Nguyena, 2007; Eljelly, 2004 and

Raheman and Nasir, 2007).

For example, Yunq-Janq (2002) examines relationship between liquidity and profitability for

firms in Japan and Taiwan and discovers that aggressive liquidity management enhances

operating performance which leads to achievement of higher corporate values for both countries

despite differences in both their structural characteristics and financial systems. Along the same

line of investigation, Eljelly (2004), examines a sample of 29 joint stock companies in Saudi

Arabia and finds a strong negative relationship between liquidity and profitability. These two

studies evidence the need to balance profitability with liquidity. This is because policies that tend

to maximize profitability tend to reduce liquidity and vice versa for the particular business firm

under consideration (Raheman and Nasir, 2007 and Uremadu, 1998, 2000, 2001). Although

profitability target is seen as the ultimate objective of an enterprise but preserving liquidity is

equally important. Hence, increasing profitability at the expense of liquidity or vise versa can

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bring serious problems to the firm. Therefore there arises the need to balance profitability goal

with liquidity goal of business enterprise in order to maintain a balanced working capital position

of the particular firm and (to) ensure its survival at all times. To have higher profitability, a firm

will have to maintain a relatively low level of current assets (Pandey, 2005; Van-Horne, and

Wachowicz, 2005, Egbide and Enyi, 2008). The implication of this is to ensure that fewer funds

are tied up in idle current assets, but the firm adopting this strategy will be sacrificing solvency

thereby exposing itself to greater risk of cash shortage and stock outs. On the other hand, to

ensure solvency, a firm has to be very liquid which means maintaining a relatively large

investments in current assets. The latter policy ensures that the firm is able to meet its short term

obligations as well as fills sales orders and ensures smooth production schedule. This will,

however, reduce profitability since a large proportion of funds are tied up in current assets

(Egbide and Enyi, 2008 and Uremadu, 2004). Nonetheless, profitability and liquidity objectives

should not be mistaken to be permanently mutually exclusive as there may arise situations where

both move in the same direction. For example, Lyroudi and Lazaridis (2000) demonstrate

through a study that there exists no linear relationship between liquidity and profitability among

the Greek food industry. In support of this view, Byrnes (2003) reports that Dell Corporation

generated huge amount of liquidity and extra-ordinary high returns at the same time. His study

reveals that while it took Dell forty five days to pay its vendors, its debtor’s collection period

was four days. That this strategy has crafted a sort of cash engine which enabled them to finance

the company’s rapid growth and limited its external financing needs as well as has yielded high

returns. Finally, this argument can equally be supported by a view that liquidity is a matter of

degree and lack of it can limit advantages of favorable discounts, profitable opportunities,

management actions and coverage of current obligations (Egbide and Enyi, 2008). In the same

way, illiquidity often precedes lower profitability, restricted opportunities, loss of owner control,

loss of capital investment, insolvency and bankruptcy (Anon, 2003).

2.2.2: Inventory Management and Profitability

Inventory management is a part of investment decisions and like every other investment,

investment in inventories is expected to yield a return higher than the cost of that investment,

that is, investment in inventories is expected to positively impact on the company’s profitability.

(Egbide and Enyi, 2008). Pandey (2005) rightly states that inventory policy will maximize a

27

firm’s value at a point in which incremental or marginal return from that investment in inventory

equals the incremental or marginal cost of funds used to finance it. Consistent with the above

proposition, Lazaridis and Tryfonidis (2005) state that the optimum level of inventories will have

a direct effect on profitability since it will release working capital resources which, in turn, will

be converted into business cycle or that will raise inventory level in order to respond to higher

demands. Byrnes (2003) reports that inventory management of Dell Corporation focused on

lowering inventory by 50 percent, improving lead time by 50 percent, reducing assembly costs

by 30 percent, and reducing obsolete with its reducing variance between supply and demands,

launched the company to higher levels of liquidity and profitability. It thereby led to the slogan

“Dell Manages Profitability, Not Inventory”.

2.2.3: Debtors’ Management and Profitability Objective

All efforts the financial manager makes in setting credit standard, credit terms and credit

collection periods are geared towards establishing an optimal credit policy for the firm. An

optimal credit policy is one which maximizes a firm’s value, and it is a point where Pandey

(2005) assets that the incremental or marginal rate of return of an investment is equal to the

incremental or marginal cost of funds used to finance that investment. Optimal credit policy

invariably translates into an optimal investment in receivables which, in turn, maximizes firm’s

value or net-worth. Usually a firm lengthens its credit period to raise its operating profit through

expanded sales turnover program. However, there will be net increase in operating profit only

when the cost of extended credit period is less than the incremental operating profit (Pandey,

2005 and Egbide and Enyi, 2008). The foregoing captures consensus of experts’ on views on the

relationship between receivables management and profitability objective of most business firms.

Hence, Damilola (2005) opines that the purpose of offering credit is to maximize profits.

Similarly, Lazaridis and Tryfonidis (2005) maintain that credit periods whether from suppliers or

granted to customers, in most cases, have a positive impact on profitability. However, due to

associated risks inherent in credit policy, financial managers, most often, vary the level of

receivables in keeping with the trade-off between profitability and risk. Pike and Chang (2001)

maintain that given a significant investment in accounts receivables by most large firms, credit

management policy choices and practices may have important implications on corporate value

and that successful management of resources will often lead to higher corporate profitability.

28

Hence, there should be a guided flexibility introduced in managing a firm’s customers (debtors)

credit extension policy.

2.2.4: Creditors Management and Profitability

The main purpose of effective management of the various components of working capital

(accounts payable inclusive), as earlier said, is due to the likely influence each component will

have on the company’s performance (measured here by profitability) and on the company’s

stability (measured by liquidity). Therefore, three different components of cash conversion cycle

could be managed differently to enhance both profitability and growth of the enterprise

(Lazaridis and Tryfonidis, 2005 and Egbide and Enyi, 2008). Accounts payables are largely

dependent on the firm’s purchases which, in turn, will depend on the volume of production.

Thus, a decision as to whether to take trade discount or not, or to stretch accounts payables or

not, should be based on the cost and benefits analysis of a firm’s credit policy in relation to

profitability and or liquidity of the enterprise. Van-Horne and Wachowicz (2005) put it this way,

“the firm must balance the advantages of trade credit against the cost of foregoing a possible

cash discount, any possible late payment, penalties, the opportunity cost associated with any

possible deterioration in credit reputation and the possible increase in the selling price the seller

imposes on the buyer”. Therefore, the ultimate effect of efficiently managing accounts payables

is to optimize the cash outflow that ensures that a firm’s liquidity is not adversely affected so that

a company’s profitability will not also be affected in the long run (Egbide and Enyi, 2008).

2.2.5: Cash Management and Profitability

The ultimate goal of the financial manager in the management of cash is similar to the

management of other current assets (e.g. stocks and debtors). The objective is to attain an

optimal balance and turnover of cash that maximizes the market value of the firm (Agrawal,

2007). Attaining the optimal balance of cash means that effective and efficient management of

cash should impact on both the firm’s liquidity and profitability (Egbide and Enyi, 2008). Pandey

(2005) and Gundayelli (2005) agree that effective cash inflow and outflow factors in such a way

as to maintain adequate control over cash position to keep the firm sufficiently liquid while

investing excess cash in some profitable opportunities. It should be recalled, as we stated earlier

somewhere in this paper, that excess cash implies inefficiency of management in applying funds

29

to profitability projects as idle cash earns no income. Similarly, inadequate cash exposes the firm

to risk of illiquidity since it would not be able to meet its short-term maturing obligations nor can

it take advantage of viable investment opportunities. Therefore, it behaves the financial manager

to formulate a cash strategy that will ensure cash management style which optimally enhances

liquidity at all times and leverages cash surpluses on profitability operations (Egbide and Enyi,

2008).

2.3: THE CASH CONVERSION CYCLE (CCC) AND PROFITABILITY

Another aim of working capital management is to maximize time outflows and inflows of cash

otherwise known as the cash conversion cycle while simultaneously optimizing process costs and

process quality (KPMG, 2005). Usually the process from when you spend money to when you

get money is undoubtedly the single most important process to optimize for any business. It is

therefore not surprising why most researchers adopt cash conversion cycle or period as the most

comprehensive measure of working capital management as well as testing its impact on

profitability (Deloof, 2003 and Reheman and Nasir, 2007). Nonetheless, the relationship between

cash conversion period and profitability does not have a clear demarcation as two schools of

thought have emerged namely: the traditional belief that a short cash conversion period favours

profitability and the contrary view that a longer cash conversion period can lead to improvement

of profitability (Shin and Soenen, 1998). Consequently, researchers around the world have

subjected this relationship to empirical examinations at different platforms and their findings and

conclusions are in support of the conventional school of thought. For instance, Shin and Soenen

(1998) in a study of a large sample of 58985 firms for a period of twenty years, find a strong

negative relationship between the net trade cycle and corporate profitability of listed companies

in America. They therefore conclude that financial managers can increase the value of firms for

their shareholders by reducing the conversion period to a reasonable minimum. Deloof (2003)

also investigates this relationship on a sample of 1009 large Belgian non-financial firms and

finds a significant negative relation between these two variables and concludes that managers

can increase corporate profitability by reducing average collection period and inventory

conversion period, and thus invariably reduce cash conversion period (CCP). Eljelly (2004) also

discovers that the CCC was a more important measure of liquidity and that its effects on

profitability are more than current ratio among joint stock companies in Saudi Arabia.

30

Furthermore, the study of the effect of working capital management on profitability which

examines a sample of 8872 small and medium size Spanish companies also reveals that a shorter

CCC can improve a firm’s profitability profile (Garcia-Teruel and Martinez-Salano, 2004). In

line with the above findings, KPMG (2000) asserts that a reduction in the CCC releases liquidity

and impacts directly on the company’s financial position thereby leading to rise in returns. In

Athens, Lazaridis and Tryfondis (2005) study a sample of 131 listed firms covering 2001-2004,

and find a strong negative relationship between profitability and CCC. They thus advise that

financial managers can create profits for their companies by correctly handling the cash

conversion cycle (CCC) and keep each component of CCC at optimal level. In India, the findings

of Akella (2006) are not different as Indian firms were advised to strive to improve their working

capital system as a way of enhancing their profitability status. Moreso, Reheman and Nasir

(2007) study a sample of 94 Pakistan firms and find a strong negative relationship between

components of working capital and profitability thereby indicating that as cash conversion cycle

increases it leads to decreasing profitability. Sadlovska and Viswanathan (2007)’s further survey

in a related study reveals that the best performing companies have CCC in the range of 5-6 times

shorter than the average and low performing ones. Conversely, a number of arguments could

arise in favour of a direct and positive relationship between a longer cash conversion cycle and

profitability. For example, Shin and Soenen (1998) argue that a firm could have larger sales with

a generous credit policy that extends cash cycle. In that case, the longer cash conversion cycle

may result in higher profitability. Besides, Deloof (2003) says that a longer cash conversion

cycle might increase profitability because it leads to higher sales. The above arguments are in

tan-dem with the findings of Lyroudi and Lazaridis (2002) that study this relationship among

food industries in Greece and find a positive and significant relationship between CCC and

profitability (measured by return on investment, ROI and net profit margin). These above cited

studies and their results outstandingly demonstrate that a longer cash conversion cycle can

equally improve corporate profits. Although, Lavely (1996) states that high sales volume does

not necessarily equate to high profitability and he further argues that a firm losing money each

time it sells cannot make it up in volume. Besides, corporate profitability might as well decrease

with cash conversion cycle if the costs of higher investment in working capital rise faster than

the benefits of holding more inventories and/or granting more trade credits to customers.

Nonetheless, these two schools have abandoned their divergent beliefs after further empirical

31

investigations reveal the contrary, yet, the sense in their arguments requires further empirical

investigation (Egbide and Enyi, 2008).

2.4: CORPORATE WORKING CAPITAL MANAGEMENT EFFICIENCY

Decisions relating to working capital and short-term financing are referred to as working capital

management. It involves managing relationships between a firm’s short-term assets and its short-

term liabilities. Its goal is to ensure that a firm is able to continue its operations and that it has

sufficient cash flow to satisfy both maturing and short-term debts, and upcoming operational

expenses. Working capital decisions are reversible and based on cash flows and profitability.

Measurement of a firm’s cash flow is by the cash conversion cycle, the net of days from the

outlay of cash for raw materials, to receiving payments from customers. This metric makes

explicit the inter-relatedness of decisions relating to inventories, accounts receivables and

payable, and cash. This effectively corresponds to the time that the firm’s cash tied up in

operations and unavailable for other activities.

The profitability measure of a firm’s working capital compares the returns on capital (ROC)

which results from working capital management, with the cost of capital, resulting from

investment decisions. Firm value is enhanced when ROC exceeds cost of capital. In combination

of these criteria, firms’ management combines policies and techniques for managing of working

capital. These policies aim to manage current assets, cash and its equivalents, inventories,

debtors, and short- term financing such that cash flows and returns are acceptable. Cash

management identifies the cash balance which allows for the business to meet day-to–day

expenses while reducing cash holding costs. Inventory management identifies the level of

inventory which allows for uninterrupted production while reducing investments in raw materials

and minimizing re-ordering costs, and hence increasing cash flow.

Debtor management identifies appropriate credit policy i.e. credit terms which will attract

customers, such that any impact on cash flows and the cash conversion cycle will be offset by

increased revenue and hence return on capital. Short-term financing management identifies the

appropriate sources of financing given the cash conversion cycle. Though it is agreed in financial

theory that inventory is ideally financed by credit granted by the supplier, firms may need to

utilize overdraft or convert debtors to cash through factoring.

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Investments in customer credit in the form of accounts receivables and inventories of goods or

materials are long-term resource commitments. Minimization of these investments relative to the

level and pattern of a firm’s operation is crucial in the total management of operating funds. The

key to a successful management of customers credit and inventories according to E. A. Helfert

[2003], is a clear understanding of the economies of trade-offs involved in it. Credit terms are a

function of the competitive environment as well as of a careful assessment of the nature and

credit worthiness of the customers. Involved in this is the decision on whether extended credit

terms, and the resulting rise in receivables outstanding are compensated for by the contribution

from any incremental sales gained. Similarly, extending normal credit to marginal customers

need to be carefully assessed in terms of risk of delayed payments or default, compared with

contribution from sales gained.

To forestall adverse effects of credit on firm operators, working capital efficiency require

constant updating of credit performance, and developing sound criteria for credit extension.

Efficiency in credit management ensures that a firm is able to pay its bills on time and carry

sufficient stocks [J. McMenamin,1999]. Inventory management in successful firms, according to

E.A. Helfert (2003, has evolved into a rigorous process of maximizing assets. This he added is

made possible by advances in information technology, leading to reduction in inventory levels.

Efforts to reduce investments in inventory yielded the just-in-time deliveries by suppliers to

customers and carefully rescheduled restocking triggered by instantaneous purchase data from

supplies available in the press and the internet. In effect, these techniques have created a close

relationship between major suppliers and customers usually with electronic linkages of

inventories, order, processing and production scheduling. This allows for timely co-ordination of

schedules and minimization of firm inventories and associated investments costs.

Trade credit from suppliers and accounts payable, helps offset receivables and inventories.

Efficiency in working management requires a firm to make use of credit terms extended to it,

balancing such with favourable trade-offs for early payments from customers with discounts.

Accounts payable, a form of working capital finance to this end should be maximally used by

firms.

E.A. Helfert (2003) suggested the exceeding of normal credit terms deliberately, as such making

the interest pay-off more favourable; cautioning of the risk of affecting the company’s credit

standing if delays beyond the credit terms granted, become habitual. Sound management of

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suppliers’ credit, thus requires current upto-date information on accounts and aging of payables

to ensure proper payments.

Firms are going concerns requiring working capital for its day-to-day operations. Though

current, their investments should be considered a long-term commitment to ensure proper

planning and commitment of resources, unless the firm is characterized by significant seasonal or

cyclical fluctuations. This central importance of working capital to the operational efficiency has

co-opted firm’s to put much emphasis on adequate planning, co-ordination and control of its

working capital to reduce associated costs and increase revenues and profitability.

Management of working capital in financial theory is possible using ratios.

The ratios used to analyze components of working capital, attempts to express the relative

effectiveness with which inventories and receivables are managed. They aid in detecting signs of

deterioration in value, or excessive accumulation of inventories and receivables. Inventories are

related to sales and cost of sales to determine of changes in relationship overtime. Accounts

receivables are also related to sales to determine changes overtime. The debtors-to-credit sales

ratio establishes how quickly cash is being collected from credit sales; and creditors-to purchases

ratio to establish the length of time it takes a firm to pay its suppliers.

The liquidity ratios, of current and acid-test, are used to determine the responsiveness of a firm to

pay for its liabilities. Ideal levels of these ratios are 2:1 for current ratio, and 1:1 for acid-test

ratio.

Working capital turnover ratio focuses on working capital items only, relating sales revenue to

working capital. The cash conversion cycle determines the length of time for cash to complete

the operating cycle, from time of purchase of materials with cash to time of sales and recovery of

cash. This cycle according to R.A. Anthony et al [2004] and L.J. Gitman [2006], a measure of

firm‘s liquidity, indicates the time interval for which additional short term financing might be

needed to support sales.

These measures of turnover, gives an indication of how well a firm manages particular subsets of

its assets, and regular analysis ensures early detection of signs of deterioration in value or

excessive accumulation of inventories and receivables.

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2.5: THE NIGERIAN ECONOMY AND WORKING CAPITAL MANAGEMENT OF

QUOTED FIRMS

Nigerian firms as others the world over, utilize working capital for smooth operation. They plan

for and manage their inventories, cash, receivables and payables, to ensure that requirements in

these items are met. Raw materials are needed for production; finished goods inventory to meet

customer demand and sales and profit objectives of firms. Cash is necessary to meet the liquidity

of Nigerian firms. Considering the low per-capita income and disposable income of Nigerian

consumers, Nigerian firms offer trade credit to customers, creating accounts receivables. These

firms also take advantage of trade credit from other firms, creating accounts receivables. The

little working capital available to Nigerian firms is managed by them to avoid operational

embarrassments.

The Nigerian economy characterized by low capacity utilization of firms, infrastructural

breakdown, unstable monetary policies, lack of local raw materials inputs, unstable foreign

exchange market, multiple taxation, low level of disposable income and purchasing power of

citizens, and high cost of finance, has negatively impacted on the working capital situation of

Nigerian firms. Liquidity situations of these firms are negative due to the high interest charged

on bank loans obtained by them to meet short-term financial obligations, also necessitated by

failed trade credit policies to customers. Multiple taxes by the three tiers of government have

worsened the financial situations of Nigerian firms.

Raw materials inputs, mostly imported, are affected by unstable foreign exchange market and

monetary policies of the government. Raw materials inventory are thus affected by inadequate

foreign exchange for importation, delays in clearing at the Nigerian port, and poor transportation

network. These affect the production runs of Nigerian firms and delivery of finished goods to

customers. Retailers importing finished goods are also affected by these factors. Local delivery

of raw materials to firms and delivery of finished goods to customers, are hampered by poor

transport infrastructures in the country. Low level of disposable income and purchasing power of

citizens affect patronage of firms’ products. This does not favour holding of large inventories

with attendant costs. Thus firms opt for the just-in-time system which is negatively affected by

poor infrastructure.

High cost of debt/overdraft in Nigeria limited the short-term finance of Nigerian firms to

collections on sales, hampering growth in net working capital.These factors have negatively

35

affected the working capital positions, planning, management, and the operational efficiencies of

Nigerian firms, exposing them to operational embarrassments, though improvements in working

capital positions of quoted firms have been recorded since increase in capital base of banks to

N25billion.

i we have identified six

2.6 COST REDUCTION APPROACHES IN BANKS

Downsizing And Branch Closure

“Downsizing is usually defined as a set of activities, undertaken on the part of the management,

designed to improve organizational efficiency, productivity, and/or competitiveness” (Freeman

and Cameron, 1993).

To Stoner et al. (2000), downsizing is a version of organizational restructuring which results in

decreasing the size of the organization and often results in a flatter organizational structure; one

way organizations convert to leaner, more flexible structures that can respond more readily to the

pace of change in global markets. This means that organizations downsize in order to be

competitive

Cascio (1993) sees downsizing as a deliberate strategy designed to reduce the overall size of the

workforce and is distinguished from non-intentional forms of organizational size reductions. A

variety of downsizing tools and techniques have appeared, including natural attritions, hiring

freezes, early retirements and lay off (Gandolfi and Neck, 2003).

For instance, about 103 branches of the former Intercontinental Bank Plc were shut down while

over 1,500 staff comprising former employees of Intercontinental Bank and those of Access

Bank Plc were sacked after the conclusion of the merger between the two banks

(www.thisdaylive.com: 6 May,2012 by festus Akanbi).

Also, First City Monument Bank Plc, which acquired Finbank Plc, effected the sack of 550 staff

of the Finbank, which translated to 30 percent of the staff strength. The process also led to the

closure of 43 branches of Finbank on 24th of April, 2012. When the exercise is completed,

FCMB, which initially had 139 branches, will have 278 and staff strength of 3,000.

Similar cost-cutting measures were adopted by the management of Ecobank Nigeria Plc after it

took custody of staff and branches of the defunct Oceanic Bank International Plc in the course of

36

the acquisition of the latter in 2011. After some of the old staff of Oceanic Bank were shown the

way out, some of the branches found to be unviable were also shut down.

Accenture (2008) identified major cost reduction opportunities for banks by analyzing products,

staff, customers, process, technology and sourcing, to enable them take a holistic view of cost

reduction for optimal identification and removal . For example, these areas are

• Are employee roles aligned to business needs? Are performance and compensation aligned? Is

labor sourced from low-cost locations?

• Can low-value customers be redirected to cheaper service channels? Can product promotions

be more effective?

• Can processes be automated, reengineered, centralized, simplified and/or outsourced?

• Can IT enhancement and maintenance expenses be decreased and service levels reduced?

• Is the procurement strategy aligned to the overall business strategy? Are supplier relationships

optimized?

2.7: AN OVERVIEW OF NIGERIAN BANKING SECTOR CAPITAL REGULATION

Banking was introduced into Nigeria in 1892 with the establishment of the African Banking

Corporation which was subsequently acquired by the Bank of British West Africa in 1894.

However, the banking system remained rudimentary with economic activities carried out either

by barter or use of commodity money. According to Adekanye (1986:21) “There was no

monetary system in Nigeria before 1912 when the West African Currency Board (WACB) was

established”. He added that “The West African Currency Board introduced the West African

Pound to replace the variety of circulating media of exchange in these territories.” WACB was

however only established to issue West African Pounds and to ensure convertibility of the West

African Pounds into English Pounds. It therefore could not control the demand for or supply of

money. In 1917, Barclays Bank DCO was established. These two banks had a virtual monopoly

on banking business up until the end of the Second World War.

After the end of the Second World War, there was an indigenous banking boom with 185 so

called ’mushroom banks’ registered between 1947 and 1952, although most did not actually

commence operations. Most of the banks that did start operating collapsed within a few years

due to a combination of mismanagement, insider lending and inadequate capitalisation. Only

37

four of the banks set up by local investors during the colonial period survived until independence

in 1960, all with the aid of substantial financial support from the regional governments, whose

explicit policy was to support the efforts of indigenous banks to finance local businesses. These

banks were also used to finance political activity and to channel loans to party supporters as well

as the banks’ directors.

The introduction of the 1952 Banking Ordinance which for the first time in Nigeria imposed

entry conditions for banks such as minimum capital requirements, and the loss of public

confidence induced by the failure of local banks, brought the indigenous banking boom to an end

by the mid 1950s (Nwankwo 1980: 45-53). For the first time, indigenous banks were required to

have a minimum paid-up capital of £12,500 while foreign banks were required to have a

minimum paid-up capital of £100,000. Banks were also required to maintain a reserve into which

a minimum of 20 percent of their annual profits had to be paid. The 1952 Banking Ordinance

was however ineffective in managing banking liquidity.

Ajayi and Ojo (1981:23) identified several defects of the 1952 Banking Ordinance. It did not

make any provision for assisting banks in need as there was no Central Bank to act as ‘lender of

last resort’; banks kept cash idle as there were limited investment avenues and also to maintain

the required level of liquidity. The Banking Ordinance of 1958 was subsequently enacted,

establishing the Central Bank of Nigeria. The 1958 Banking Ordinance raised the minimum

statutory reserve from 20 percent to 25 percent of annual profits; maximum lending to any one

borrower was limited to 20 percent of the sum of paid-up capital and statutory reserves; and

specified a list of acceptable liquid assets. The 1958 Banking Ordinance was amended in 1962;

the amendment raised the minimum paid-up capital of indigenous banks from £12,500 to

£250,000 while foreign banks were required to maintain a minimum of £250,000 worth of assets

in Nigeria.

The 1958 Banking Ordinance and its 1962 amendment were repealed in 1969 and replaced by

the Banking Act of 1969. The Banking Act of 1969 empowered the CBN to stipulate minimum

holding by banks of cash reserves, specified liquid assets, special deposits and stabilization

securities. The maximum lending to a single borrower was also increased from 20 percent to

33.3 percent of the sum of paid-up capital and statutory reserves. An IMF-supported Structural

38

Adjustment Programme (SAP) was introduced in 1986 in order to encourage competition and

market-led resource allocation. SAP “emphasized reliance on market forces and the private

sector in dealing with the fundamental problems of the economy.” The package of financial

reforms introduced during this period led directly to an increase in deposit money banks from 40,

pre-1986, to 120 in 1992. In 1990, entry into the Nigerian Banking Sector was further liberalized

as foreign banks were allowed to open offices in the country.

CBN Decree 24 and the Banks and Other Financial Institutions Decree 25 both of 1991, which

repealed the Banking Decree 1969 and all its amendments, were, thereafter, enacted to

strengthen and extend the powers of CBN to cover new institutions in order to enhance the

effectiveness of monetary policy, regulation and supervision of banks as well as non-banking

financial institutions. By 1998, however, the number of deposit money banks in operation had

whittled down to 89 with the monetary authorities liquidating 30 terminally distressed deposit

money banks. By end of March 2004, although there were still 89 deposit money banks in

Nigeria, 14 were assessed as being only marginally sound, 11 unsound and 2 not rendering any

returns to the monetary authorities during the period.

According to Soludo (2004:3), the problems with the unsound deposit money banks included

persistent illiquidity, poor asset quality, weak corporate governance and gross insider abuses.

The minimum capital requirement at the time was N 1 billion for existing banks and N2 billion

for new banks with most Nigerian banks having a capitalization of less than US$10 million(N1.4

billion). The weak capital base of some of the ailing banks was evidenced by their overdrawn

accounts with the Central Bank of Nigeria and high incidence of non-performing loans. Okonjo-

Iweala and Osafo-Kwaako (2007:15) explained that “To strengthen the financial sector and

improve availability of domestic credit to the private sector, a bank consolidation exercise was

launched in mid-2004. The Central Bank of Nigeria requested all deposit banks to raise their

minimum capital base from about US$15 million(N2billion) to US$192 million (N25billion) by

the end of 2005... in the process of meeting the new capital requirements, banks raised the

equivalent of about $3 billion from domestic capital markets and attracted about $652 million of

FDI into the Nigerian banking sector.” Although sufficiently capitalized, the financial crisis

which began late in 2007 showed that Nigerian deposit money banks were not resilient enough to

withstand liquidity shocks and continued to rely on significant liquidity support from the

monetary authorities. According to Fadare (2011:203), “Between August and December 2009 for

39

example, the Central Bank of Nigeria injected the equivalent of US$4.1 billion (N600billion)

into 10 Nigerian banks adjudged to be facing grave liquidity crisis, sacked 8 bank CEOs,

introduced a plethora of regulations and took other direct actions deemed necessary in order to

safeguard the Banking Sector from systemic collapse and to ensure the stability and soundness of

Nigeria’s banking sector.”

By the end of the third quarter of 2009, broad money (M2) showed an increase of 5.6 per cent on

a year-on-year basis. The trend in money supply movement was a reflection of the fall in net

foreign assets and slowdown in credit to the private sector. The gross official foreign reserves

had fallen from US$54.22 billion at the end of January 2008 to US$43.34 billion as at end

September 2009. To improve liquidity and financial stability in the Nigerian banking system, the

Monetary Policy Committee of the CBN in November 2009 introduced several policy measures

including quantitative easing to bridge the gap estimated at approximately N500 billion (US$3.3

billion) between the levels of current monetary aggregates and the benchmark levels for 2009;

redemption of promissory notes issued by the monetary authorities; and the lifting of the ban on

the use of Bankers’ Acceptances and Commercial Papers. Despite the various policy measures

implemented by the CBN to improve Banking Sector liquidity, key economic variables

deteriorated. For example, the headline inflation rate was 12.4 percent in November 2009, up

from 11.6 and 10.4 percent recorded in October and September, 2009 respectively. Reserve

money was also below the indicative benchmarks for most of 2009 while the annualized growth

rate of private sector credit was 26.10 percent, significantly below the indicative benchmark of

45 percent. The average maximum lending rate rose to 23.1 percent in November 2009 from

22.97 percent in September 2009 while the average prime lending rate rose to 18.93 percent in

November 2009 from 18.33 percent in September 2009, In November 2009, the Wholesale

Dutch Auction average exchange rate stood at N150.85 per US dollar compared with N149.3578

per US dollar in October 2009, representing a depreciation of 1.0 percent.

2.7.1: Banking Sector Liquidity and Financial Crisis in Nigeria

Moore (2009:9) explained that "a bank needs to hold liquid assets to meet the cash requirements

of its customers …if the institution does not have the resources to satisfy its customers' demand,

then it either has to borrow on the inter-bank market or the central bank". It follows therefore

that a bank unable to meet its customers' demands leaves itself exposed to a run and more

40

importantly, a systemic lack of confidence in the banking system. Bordo et al (2001), suggest

two explanations on the cause of liquidity runs on deposit money banks. They explained that

runs on banks are a function of mob psychology or panic, such that if there is an expectation of

financial crisis and people take panic actions in anticipation of the crisis, the financial crisis

becomes inevitable. Bordo et al (2001:58) also "asserts that crises are an intrinsic part of the

business cycle and result from shocks to economic fundamentals.

When the economy goes into a recession or depression, asset returns are expected to fall.

Borrowers will have difficulty repaying loans and depositors, anticipating an increase in defaults

or non-performing loans, will try to protect their wealth by withdrawing bank deposits. Banks are

caught between the illiquidity of their assets (loans) and the liquidity of their liabilities (deposits)

and may become insolvent.” Using a single bank, Diamond and Dybvig (1983), developed a

model which showed that bank deposit contracts can provide allocations superior to those of

interbank markets, offering an explanation of how banks subject to runs can attract deposits.

Brighi (2002) however show that abandoning the hypothesis of a single bank increases the

relevance of the interbank market. Further, the probability of a banking crisis at a single bank

decreases when interbank transactions are introduced - relative to a stand-alone bank. Indeed,

Diamond and Dybvig (1983:416) acknowledge that "if many banks were introduced into the

model, then there would be a role for liquidity risk-sharing among banks".

According to Brighi (2002), in a theoretical framework where liquidity crises are not only caused

by bank runs, and where there is uncertainty about the proportion of depositors who may want to

withdraw deposits, doing away with the assumption of an autarchic banking system decreases the

risk of bank failure as a single bank on its own would be unable to meet depositors’ demands.

To manage their liquidity risk and take decisions on how much cash and other liquid assets they

should hold, Agénor et al (2004:30) hypothesize that "banks internalize the fact that they can

draw funds from either the interbank market or the central bank in case of unexpected

contingencies." They added that in the event of illiquidity, banks must borrow the missing

reserves at a penalty rate; this is the opportunity cost of not holding sufficient reserves.

41

2.7.2: Factors Affecting Bank Performance in Nigeria

A CBN/NDIC collaborative study of distress in Nigerian financial institution in 1995 revealed

that factors such as bad loans and advances, fraudulent practices, under capitalization, rapid

changes in government policies, bad management, lack of adequate supervision, undue reliance

on foreign exchange, economic depression, political crisis, bad credit policy, and undue

interference from board members are factors responsible for bank and other financial institutions

distress. Ogunleye (2003) grouped these factors into institutional, economic; and political

factors; including supervisory measures. The institutional factors are endogenous factors which

are largely within the control of the owners and management of the banks. The collaborative

study of the CBN/NDIC submitted that most of the financial institutions surveyed attributed the

distressed conditions to institutional factors.

The general institutional factors that led to the identified factors on the banking system can be

discussed as insiders abuse, weak corporate governance, weak risk asset management and

inadequacy of capital. Economic and political factors as well as regulatory and supervisory

measures will also be discussed in brief.

a. Insiders Abuse

The government owned bank suffered from incessant/frequent changes in board membership and

many appointments were made based on political affiliation rather than expertise consideration.

Consequent upon this, board members saw themselves as representative, of political parties in

sharing the national cake emanating thereof and thus, ascribed their loyalty to the party members

rather than the proper running of the bank itself. On the side of the privately-owned banks,

shareholders constituted a problem. According to Olufon (1992), the owner-managers regarded

banking as an extension of their operations by appointing their relatives or friends to key

positions instead of relying solely on professional managers. Thus, their appointees were mere

loyalists who cared for the interest of their masters rather than the business itself. Shareholders

quarrels and boardroom squabbles were common among the banks that management attention

deviated in favor of unnecessary squabbles.

In some banks where harmony seemed to exist, another type of insider abuse took the form of the

owners and directors misusing their privileged positions to obtain unsecured loans which in some

42

cases were in excess of their banks statutory lending limits in violation of the provisions of the

Banks and other Financial Institutions Act (BOFIA) of 1991 as amended. In addition, some of

these owners and directors granted interest waivers on non performing insider-credits without

obtaining the CBNs prior approval as required by BOFIA. Their conversions of bank resources

to service their other business interest such as allocation of foreign exchange without naira cover

to insiders, later crystallized as hard core debts. They also indulge in compelling their banks to

directly finance trading activities either through the banks or other proxy companies, the benefits

of which did not accrue to the banks (Ogunleye, 2003).

b. Weak Corporate Governance

As a result of the insiders abuse of recruiting inexperienced and incompetent personnel to hold

key positions in the bank, deterioration of management culture and weak internal control system

instigated by the squabbles among the high rank management decision making team, and non

compliance with laws and prudential standards, mismanagement seemed to play a major role in

bank failure in Nigeria. Bank losses increased and management resorted to hiding the losses in

order to buy time and remain in control.

Many banks granted loans with no collateral or with little or no regard to the ability of the

borrowers to repay the loans. In this regard, Ogunleye (2003) noted that the proportion of non

performing loans in the distressed banks had during the period 1989-2000, been consistently

high, reaching about 80 percent of their loan portfolio. This ratio has significantly exceeded the

prudential maximum ratio of 20 percent.

c. Weak Risk Asset Management and Inadequacy of Capital

A number of banks had poor credit policies that loans are granted without securities and/or

ability of the borrowers to pay back. Okpara (1997) noted that it is not uncommon to find

securities being over valued and sometimes funds are disbursed without securities. Odejimi

(1992) noted that the major factors responsible for the precarious financial condition of the banks

were huge uncollectible loans and advances. In this observation, Ajani (1992) puts it that this

maladministration of credit portfolio is one of the most lapses that can make a high-flyer

manager lose ever thing overnight capital inadequacy has been recurrent in the banking system

that from time to time the CBN continues to articulate on the increase of the capital base of the

43

banking system. For instance the recent N25 billion Naira recapitalization exercise was meant to

beef up the ailing banks capital base.

d. Economic Condition

The banking industry being the nerve centre of the economy is invariably affected by economic

and political environment/condition of the country. For instance the Structural Adjustment

Programme (SAP) introduced in 1986 led to a wide range of economic reforms that affected the

banking system. Also political situation like the political crisis resulting from aborted attempt to

return the country to democratic rule in 1993, led to massive withdrawal of funds that affected

banks (especially) those around Lagos adversely.

e. Regulatory and Supervisory Measures

The regulatory and supervisory measures of the CBN/NDIC were unable to keep pace with the

rapid changes in the banking industry. The CBN brief (1999) noted that the ability of the CBN to

perform its regulatory role had in the past been affected by inadequate manpower both in terms

of quality and quantity. NDIC (1995) in discussing the challenges of bank liquidation and

deposit payoff, noted that closing a bank is a specialized job requiring services of technically

skilled people in banking, accounting, legal, quantity surveying, estate management, information

management and technology as well as facility support and also noted that manpower constituted

a problem to its supervisory function.

44

REFERENCES

1) Access Bank Plc Annual report and accounts 2010, 77-86

2) Abor J. (2005). The effect of capital structure on profitability: an empirical analysis of

listed firms in Ghana. Journal of Risk Finance.

3) Agyei, S. K. (2011), Capital Structure and performance of Banks in Ghana. Lap Lambert

Academic Publishing.

4) A Shah, “why capital adequacy regulation for banks”, (1996) 3 journal of Financial

Regulation and Compliance 279.

5) BankPHB Plc Annual report and accounts 2008, 77

6) Central Bank of Nigeria, Monetary, Credit, Foreign Trade and Exchange Policy

Guidelines for 1997 Fiscal Year (Monetary Policy Circular Number 31) 21 January,

2010, 21–22.

7) Deloof, M. (2003), Does working capital management affects profitability of Belgian

firms? Journal of Business Finance and Accounting, 30(3), 573 – 587.

8) Diamond Bank Plc Annual report and accounts 2010, 34-37

9) Ecobank Nigeria Plc Annual report and accounts 2010, 29-39

10) Eljelly, A. (2004). Liquidity-profitability tradeoff: An empirical investigation in an

emerging market. International Journal of Commerce and Management, 14(2), 48-61.

11) Falope, O. I. and Ajilore, O. T. (2009). Working capital management and corporate

profitability: evidence from panel data analysis of selected quoted companies in Nigeria.

Research Journal of Business Management, 3, 73-84.

12) Fidelity Bank Plc Annual report and accounts 2005 and 2009

13) First Bank of Nigeria Plc Annual report and accounts 2010, 119-125

14) First City Monument Bank Plc Annual report and accounts 2010, 109-110

45

15) Greuning, H.V and Bratanovic S. (1999): Analysing Banking Risk; Maxwell Publishing

House.

16) Guarantee Trust Bank Plc Annual Report and Accounts 2010, 99-105

17) Inderst, R. and Mueller, M. H., (2008). Bank Capital Structure and credit decisions.

Journal of Financial Intermediation, 17, 295-314.

18) Jerry L. J (1995): Regulation and the Future of Banking; Economic Commentary, Federal

Reserve Bank of Cleveland, August.

19) Kidwell, D. S et al (2000): Financial Institutions, Markets and Money; The Dryden Press,

Harcourt College Publishers.

20) Klise, E. S (1972): Money and Banking; South Western Publishing Co. Cincinnati, Ohio,

Fifth Edition

21) Kutner, N. N. (2004), Applied Linear Regression Models, 4th edition, McGraw-Hill

Irwin.

22) Lazaridis, I. and Tryfonidis, D. (2006). Relationship between working capital

management and profitability of listed companies in the Athens stock exchange. Journal

of Financial Management and Analysis, 19(1), 26-35.

23) Manuake, T. (2006): “The New Face of Banking”; TELL Magazine, Lagos, January 2

Journal of Money, Investment and Banking - Issue 24 (2012)

24) Mathuva D, (2009). The influence of working capital management components on

corporate profitability: a survey on Kenyan listed firms. Research Journal of Business

Management, 3, 1-11.

25) Nanon, S. (1999): “Capital Adequacy and Capital Issues in Nigeria”; CBN Journal of

Finance, Vol.3 No.2

26) Nigeria Deposit Insurance Corporation Annual Report, Lagos, 1991, 9

27) Ogunleye, R.W (1995): “Monetary Policy Influence on Banks’ Profitability –Evidence

from Single Equation Approach”; NDIC Quarterly, Vol.5 No.4 December

46

28) Ogowewo T.I and Uche C. (2006), Using banking share capital as a regulatory tool to

force bank consolidations in Nigeria.

29) Ojo, M. O. (1991). Deregulation in the Nigerian Banking Industry. A Review and

Appraisal of Economic and Financial Review, Vol. 1, No. 1, pp. 1-4.

30) Okafor, F. O. (1998). Implication of Deregulation of the Financial System on Banks. A

Journal of Banking and Finance, P. 3

31) Oluyemi, S.A (1996): “The Implications for Banks’ Profitability on Implementing the

Risk-Based Capital Requirements”; NDIC Quarterly, Vol. 6 Nos.1 & 2, March/June

32) Onaolapo A. R. (2007) An Evaluation of the Effects of Recapitalization on the Financial

Health of Nigerian Commercial Bank

33) Onyiwa, B. C (2002): “Capital Adequacy in Banks”; The Nigerian Accountant,

April/June

34) Onoh, J.K (2002): Dynamics of Money, Banking and Finance in Nigeria – An Emerging

Market; Astra Meridian Publishers, Lagos

35) Osisioma, B. C. (1997). Sources and management of working capital. Journal of

Sciences.

36) Sharma, A. K. and Kumar, S. (2011). Effect of Working Capital Management on Firm

Profitability. Global Business Review, 12(1), 159-173.

37) Shin, H.H. and Soenen, L.(1998). Efficiency of Working Capital Management and

Corporate Profitability”, Financial Practice and Education, Fall / Winter, 37-45.

38) Skye Bank Plc annual report and accounts 2006, 2008, 2010.

39) StanbicIBTC Bank Plc annual report and accounts 2009, 55-65

40) Uyar, A. (2009). The Relationship of Cash Conversion Cycle with Firm Size and

Profitability: An Empirical Investigation in Turkey. International Research Journal of

Finance and Economics. 24, 186-193.

47

41) United Bank for Africa Plc annual reports and accounts 2010 110-115

42) Wang, Y. J. (2002). Liquidity Management, Operating Performance, and Corporate

Value: Evidence from Japan and Taiwan. Journal of Multinational Financial

Management, 12, 159-169.

43) Zenith Bank Plc annual reports and accounts 2008 134-138

48

CHAPTER THREE

RESEARCH METHODOLOGY

3.1 RESEARCH DESIGN

This study is an analytical one, while the comparative/descriptive research method of

investigation and reporting of research work is adopted. These suit the researcher’s purpose and

are appropriate for this study. The data from published materials (e.g. annual reports) of all the

Nigerian banks from 2000 to 2010 formed the basis for the theoretical concepts and analysis. It is

only necessary that research questions be answered on the basis of the data which is the major

responsibility of the design that will anchor the pragmatic solutions to the research questions.

3.2: SAMPLE SIZE/SAMPLING TECHNIQUE

The population of the study in research statistics can be described as an entire number of people,

objects, events and things all of which have one or more characteristics of interest to a study. It is

the target of study for collection of data.

The population of interest of this study is the 22 deposit money banks that survived the recent

CBN banking reforms. These include:

1) Access Bank Plc- Acquired Intercontinental Bank

2) Citibank Ltd

3) Diamond bank Plc

4) Ecobank Nigeria Plc- Acquired Oceanic Bank

5) Enterprise Bank Limited- formerly Spring Bank

6) Fidelity Bank Nigeria Plc

7) First Bank Of Nigeria Plc

8) First city Monument Bank- Acquired FinBank

9) Jaiz bank

10) Keystone Bank Limited- Formerly BankPHB

11) Guaranty trust Bank Plc

12) Mainstreet bank Limited- Formerly Afribank

13) Savannah Bank

49

14) Skye Bank Plc

15) Stanbic IBTC bank Nigeria Limited

16) Standard Chartered bank

17) Sterling Bank Plc- Acquired equatorial Trust bank

18) Union bank of Nigeria- Owned by African capital Alliance Consortium

19) United Bank for Africa Plc

20) Unity Bank Plc

21) Wema Bank Plc

22) Zenith Bank Plc

The sample size is, however, all the commercial banks in Nigeria excluding the three recently

nationalized banks, viz, Enterprise Bank Limited, Keystone Bank Limited and Mainstreet bank

Limited . Also excluded are the two expatriate banks whose annual reports and financials are in

dollars, viz, Citibank and Standard chartered Bank.

3.3: METHOD OF DATA COLLECTION

This research relied mainly on the secondary data like already published reports, financial reports

or journals and CBN publications etc. Secondary data sources are documented works of others

(authors) that are related to the subject matter of study.

In view of the nature of this study, the researcher extensively made use of relevant data from

previous works of other authors in the field such as materials like financial journals, Central

Bank of Nigeria publications which include bullion, economic and financial reviews, economic

and financial indication briefs and CBN statistical bulletin. Also, Annual Reports and financials

of the deposit money banks in Nigeria from 2000 to 2010 are of great importance.

3.4: TECHNIQUES OF DATA ANALYSIS/INTERPRETATIONS

The method of data analysis will include tabular presentation and analysis, calculation of

percentage and presentation of charts. Tables and charts will be designed specifically for the

subject matter. However no table is reproduced directly from the source documents but data

50

obtained from the source are used to build tables and charts. Sources of data in table are

indicated by the source label at the bottom of the tables.

In Nigeria, the health of a bank or its performance status is evaluated based generally on the bank

examination rating system called CAMEL which is decoded as follows:

C= Capital Adequacy

A= Asset Quality

M= Management Efficiency

E= Earnings Strength

L= Liquidity Sufficiency

Therefore, the data analytical techniques to be employed in answering the research questions are

the Financial Analyses Techniques of Liquidity Sufficiency (working capital ratios).

a. Calculation of Net Working Capital (Current assets less current liabilities)

b. Analysis of working capital financial ratios: Current ratios ( Current assets/Current

Liabilities).

(The analysis shall be weighed against the universally accepted bench marks, e.g. current ratio=

2:1).

It is believed that the result of the analysis of the above key performance indicators will show the

general performance/management of banks’ working capital in Nigeria and suggest ways of

enhancing working capital management.

3.5: ANTICIPATED PROBLEMS AND LIMITATIONS OF THE STUDY

The major anticipated constraints in this research work are:

The inability to collect the annual reports of many banks for various years was a slow down to

this research.

The academic stress and time factor considering the nature of my job.

The escalating cost of sourcing the useful materials for this project.

51

CHAPTER FOUR

DATA PRESENTATION AND ANALYSIS

4.0 INTRODUCTION

This chapter is concerned with description analysis of data collected from financial reports of

each Nigeria banks and CBN publications. Data are presented in charts, tables, percentages and

words.

4.1 DATA PRESENTATION

The tables below show the structure, components and positions of current assets and current

liabilities of each 18 Nigeria banks. The banks are studied for eleven (11) years of their

operations under universal banking model (2000- 2010). Thus, the ‘Group’ figures were adopted

in this research work.

52

53

54

55

56

57

58

59

60

61

62

63

64

65

66

67

68

69

70

4.2 DATA ANALYSIS

This involves direct interpretation of the contents of the data presented. The table below

is a calculation of net working capital, current ratios and working capital position

(decision rule) of each banks.

Table 19: Net Working Capital, Current ratios and Banking Industry Working Capital

Position

Sources: Compiled by the Researcher

71

4.3 STATEMENT OF FINDINGS

The analysis shows the following in each of the banks:

1. Access Bank Plc:

The bank maintain a negative net working capital position in the following years: 2000 of (#936)

million; 2001 of (#1,814)million; 2002 of (#1,081)million; 2005 of (#8,113)million and in 2010

of (#224,882)million. These are an indication of overtrading and inefficiency in the use of

working capital; given also that the bank’s current ratio under review is 1:0.58 against 1:1

acceptable standard.

However the bank recorded a marginal positive net working capital of #3,859million in 2003;

#116,324million in 2006 and #398,000 in 2007. The improvement in net working capital of

Access bank from 2006 to 2007 was as a result of recapitalization exercise by CBN in 2005.

2. Diamond bank Plc

Extracting from table 2 and 19 above, one will observe that Diamond bank’s net working capital

in 2000 were (#22,711)million which form the base year of the analysis. In 2001, the bank’s net

working capital had a drop by (10,222/22,711) 45%, moving from (#22,711) million negative to

(#33,934) million. The net working capital of Diamond bank continued to experience a negative

position year after year over the period. There was no perceivable impact of CBN

recapitalization introduced in 2006 on the bank’s working capital management.

3. Eco Bank Plc

Extracting from tables 3 and 19 above, the bank had a marginal net negative position in the year

2000, 2002,2003,2004,2009 and 2010. However, in 2006 after CBN banking consolidation, the

bank net working capital grew by 42%, but there was a decline from 2009 down to 2010. One the

average, the bank is under-capitalized with a current ratio of 1:0.56.

4. Fidelity Bank Plc

Extracting from tables 4 and 19 above, one will notice that fidelity bank had a normal/balanced

net working capital position year after year. The current ratio stood at 1:1.05 over the period.

However there was a marginal decline in its current assets position from 2007 down to 2010.

This is likely to be as a result of the fact that banks were still finding it difficult to adopt fully to

the recapitalization introduced in 2006.

72

5. First Bank of Nigeria Plc

Extracting from tables 5 and 19 above, FBN maintain a marginal negative net working capital

position all through the period with a net negative of (#1.5)billion and current ratio of 1:0.79,

indicating overtrading and inefficiency in the management of working capital.

6. First City Monument bank Plc

Extracting from tables 6 and 19 above, FCMB grew both in current assets and liabilities

positions. The average net working capital over the period is (#130,678)million negative with

current ratio of 1:0.9

7. Guarantee trust Bank Plc

Extracting from tables 7 and 19 above, the net working capital of the bank is normal/balanced

year in year out over the period. The current ratio is acceptable at 1:1 – indicating

adequate/strong working capital management.

The #25billion recapitalization created a remarkable transformation in enhancing the bank’s

liquidity position as evidenced in 2006 to 2010 positions.

8. Skye Bank Plc

Extracting from tables 8 and 19, Skye bank’s post consolidation net working capital in 2006 was

#37,483million which form the base year of the analysis. In 2007, the net working capital had a

sharp drop, moving from #37,483 million positive to (#117,000) negative. The negative position

continued to 2010 with average current ratio of 1:0.58.

9. Stanbic IBTC Plc

Extracting from tables 9 and 19 above, stanbic IBTC net working capital position is similar to

Guarantee trust bank’s with a normal net position year in year out over the period studied.

However, the current ratio is slightly below acceptable general standard at 1:0.76

10. Sterling Bank Plc

The bank maintain a negative net working capital of (#215,412)million as observed from tables

10 and 19 above. The current ratio stood at .071, indicating under-capitalization and inefficiency

in the management of working capital.

11. United Bank for Africa Plc

The tables 11 and 19 show that UBA maintain a positive net working capital in 2007 and 2008 as

a result of large ‘short term investment’ and ‘due from other bank‘.

73

However, the bank recorded negative positions in other years within the period. Its strong capital

base has enhanced its ability to assume risks. UBA current ratio stood at 0.71.

12. Union Bank of Nigeria Plc

With respect to the influence of CBN restructuring in the industry, Union bank had a normal net

working capital year after year as calculated in table 19 above. The current ratio stood at 1:0.8

over the period.

However there was a marginal decline in its current assets position from 2007 down to 2010.

This is likely to be as a result of the fact that the bank witnesses a high non performing loan in its

coffer.

13. Unity Bank Plc

Extracting from tables 13 and 19, Unity bank’s post consolidation net working capital in 2006

was #7,483million which form the base year of the analysis. In 2007, the net working capital had

a sharp drop, moving from #7,483 million positive to (#12,056) negative. The negative position

continued to 2010 with average current ratio of 1:0.84

14. Wema Bank Plc

The calculation from tables 14 and 19 above, it was observed that Wema bank has a positive net

working. It large stock of stort term investment took the bank’s current ratio to as high as 2.16

with a positive net working capital of #910,801m- indicating under trading and idle funds.

15. Zenith Bank Plc

After calculating current ratio and net working capital position of Zenith bank, it was observed

that the net working capital of the bank is normal/balanced year in year out over the period. The

current ratio is acceptable at 1:0.9 – indicating adequate/strong working capital management.

The #25billion recapitalization created a remarkable transformation in enhancing the bank’s

liquidity position as evidenced in 2006 to 2010 positions.

16. Oceanic International Bank Plc

The bank maintain a negative net working capital position in the following years: 2004 of (#19)

million; 2006 of (#1,384)million; 2009 of (#685)million and in 2010 of (#744)million. These are

an indication of overtrading and inefficiency in the use of working capital; given also that the

bank’s current ratio under review is 0.68 against 1:1 acceptable standard.

74

However the bank recorded a marginal positive net working capital of in early

2000’s:2001,2002,2003 to 2005.

17. Intercontinental Bank Plc

The calculation from table 18 and 19 above, one will observe that Intercontinental bank’s net

working capital in 2000 were (#600)million which form the base year of the analysis. In 2001,

the bank’s net working capital had a drop by (10,222/22,711) 17%, moving from (#600) million

negative to (#3,634) million. The net working capital of the bank continued to experience a

negative position year after year over the period. There was no perceivable impact of CBN

recapitalization introduced in 2006 on the bank’s working capital management.

18. Afri Bank Plc (Mainstreet Bank Ltd)

The calculation from tables 17 and 19 above, it was observed that mainstreet bank has a positive

net working. It large stock of stort term investment took the bank’s current ratio to as high as

2.16 with a positive net working capital of #910,801m- indicating under trading and idle funds.

4.3.1 ANAYSIS OF COMPOSITION OF WORKING CAPITAL ITEMS

Question 2: What is the composition of working capital items in Nigeria Banks?

Current Assets Current Liabilities

� Cash and balances with CBN � Customer deposits

� Treasury bills � Due to other banks

� Due from other banks � Current income tax

� Overdraft( < 12months) � Short term borrowings

� Short-Term Investment � Dividends payable

These elements that made up banks working capital were extracted from their consolidated

balance sheet, consolidated statement of cash flows and notes to the consolidated financial

statements.

Current Assets / Liquid assets

• Cash and cash due from Central Bank; cash on deposit accounts; Due from Banks;

Interest-bearing deposits in other banks

75

• Due from banks: placements, demand and time deposits with other banks (does not

include loans to banks that may be termed time deposits due from banks) and although

there is a slight element of risk involved, it is still considered cash.

• Negotiable certificates of deposit (treasury bills, held by third parties as collateral for

various transactions).

• Overdraft: less than one year, secured against real estate, by shares of quoted companies,

cash collateral and unsecured

-Short term investments: equity securities-at lower of cost or market value listed, federal

Government Bonds- at cost listed and unlisted.

Current Liabilities

• Due to customers (onsight or time deposits): Savings accounts, regular checking accounts,

call accounts, money market deposit accounts, CDs.

• Core deposits consist of all interest-bearing and non interest-bearing deposits. They include

checking interest deposits, money market deposit accounts, time and other savings, plus demand

deposits. Core deposits represent the most significant source of funding for a bank and are

comprised of non interest-bearing deposits, interest-bearing transaction accounts. The branch

network is a bank's principal source of core deposits, which generally carry lower interest rates

than wholesale funds of comparable maturities.

• Due to banks (on-sight or time deposits)

• Commercial paper issued (rollover every 30 to 270 days)

• Short-term borrowings are usually from banks, correspondence banks, securities dealers,

and unsecured federal funds borrowings, which generally mature daily.

• Dividend payable (dividend in arrears)

76

Fig 4.1 Chart analysis of percentages of working capital components

Current Assets

0%

§ Cash and

balances with

CBN

10%

§ Treasury

bills

9%

§ Due from

other banks

37%

§ Overdraft

( < 12months)

27%

§ Short-

Term

Investment

17%

Current Assets

§ Customer deposits

§ Due to other banks

§ Current income tax

§ Short term

borrowings

§ Divident payable

It is necessary to know that ‘Due from other bank’ item of the current asset has above 40 percent

of the total volume, and figures in term of volume increases year after year. Also ‘Customers’

deposits’ item of the current liability has over 90 percent of the total volume. According to

Albert Brown (1990:7), you cannot increase the size of a bank by making loans but your bank

can grow by increasing deposits. It is based on high mobilization that a bank could create its

assets and a high profitability. So, the analysis of this variable could be seen as the genesis of

banking business as its growth will invariably transmit growth to other indices.

77

CHAPTER FIVE

SUMMARY, CONCLUSION AND RECOMMENDATION

5.1: SUMMARY OF FINDINGS

This study was designed to analyze the variables that affect working capital management in

Nigeria banks (bank by bank). This chapter is organized in line with the research objectives with

a view to stating the findings the way they are, while being mindful of the research questions.

Based on the above premises, the study made the following findings:

The results indicate that cash conversion cycle, debtors’ collection period and creditors’ payment

period are significant factors that explain the efficiency of working capital management in banks.

The study reveals that cash conversion cycle has a significantly positive relationship with each of

the banks’ working capital management. In other words as banks increase the length of its

debtors’ collection period and reduce its creditors’ payment period, the working capital of banks

is greatly enhanced. This is due to the nature of working capital used for banking operations.

Bank working capital is largely made up of short term debts in the form of customer deposits,

overdraft assets and short term investments vehicles. As the cash conversion cycle is delayed

through lengthened debtors’ collection period and shortened creditors’ payment period, banks

increase their interest earnings (which is the main source of revenue for banks) and reduce their

interest expenditure concurrently. This result seems to deviate largely from our expectations and

most previous empirical works which use data from non-financial firms (Shin and Soenen, 1998;

Wang, 2002 and Deloof, 2003) but corroborate that of (Padachi, 2006 and Sharma and Kumar,

2011). Most of these empirical works argue in favour of a negative relationship between cash

conversion cycle and banks working capital. The caution (with this study) however is that the

level of interest income earned by banks depends largely on the level of credit available to banks

for lending. Consequently, banks should match their assets against their liabilities appropriately

by finding the optimal combination of current assets and current liabilities that would enable the

banks to stay profitable and manage their working capital efficiently.

Astonishingly, the results also suggest that 74% of the banks have a negative working capital,

low current ratio, high debt collection period and high creditors payment period. All indicate

poor credit management policy and abysmal working capital management.

78

Working capital decisions provide a classical example of the risk-return nature of financial

decision making. Increasing a banks’ working capital reduces risk of illiquidity and increases

overall profitability. Its proper management requires trade-off of risks of and returns for financial

efficiency of banks’ operations which is not evidenced from results on Nigerian banks.

5.2: CONCLUSION

This study is a modest attempt to examine working capital management in Nigeria banks. The

study included all commercial banks in Nigeria, over an eleven-year period (2000-2010). The

study used data from Banks’ Annual Reports and CBN publications. Using descriptive research

methodology, within the framework of Financial Analyses Techniques of Liquidity Sufficiency

(working capital ratios), the study concludes that while cash operating cycle has a significantly

positive relationship with banks’ working capital efficiency, just like debtors’ collection period,

creditors’ payment period exhibits a significantly opposite relationship with optimal working

capital. Surprisingly, however majority of the banks appear to perform poorly as compared to

universal acceptable bench marks. Thus, even though banks are advised to increase their cash

conversion cycle, they are to do so cautiously since the level of interest income earned by banks

depends largely on the level of credit available to them for lending. Consequently, banks should

match their assets against their liabilities appropriately by finding the optimal combination of

current assets and current liabilities that would enable them to stay profitable.

5.3 RECOMMENDATION

The results of this study indicate that the working capital current ratio of Nigeria banks is

generally low and a negative cash conversion cycle. These seem to suggest overtrading/under-

capitalized and poor credit management policy. It is on this ground, this study recommends that:

i. The need to focus on cash flows, quick collection systems and discounts to improve on their

working capital positions and operational efficiency;

ii. Periodically evaluate receivables and liquidity management processes to determine their

effectiveness and efficiency, and where necessary, changes put in place;

79

iii. Base working capital decisions on the net effects of such decisions on cash flow and

profitability of the firm for optimal decision making;

iv. Concentrate on working capital decisions to optimize investments in them and ensure proper

planning /forecasting and control;

v. Ascertain and compare working capital costs and benefits to determine the existence of gains

if any before investment in the proposed working capital;

vi. Determine its working capital policies ensuring it improve corporate efficiency;

vii. Appraise investments in working capital using capital investment models, determining ahead

the viability of such investment;

viii. There should be enthronement of efficiency in the delivery of services through enhancement

of technology in banking and seeing it as a necessity that should be approached vigorously by all

banks;

ix. Government should ensure the stability of operating environment for banks. The liberalization

policy should be vigorously pursued to enable banks and business decision makers to work freely

within a wider horizon with reasonable degree of certainty about the environment for speedy and

more effective decision making;

x. Finally, the researcher leaves the work open for further research and criticism by other

researchers.

80

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Table 1: Access Bank Plc Working Capital positions from 2000 to 2010

Access bank (#

MILLION) 2010 2009 2008 2007 2006 2005 2004 2003

Current Assets

*Cash and balances with CBN 25,395 64,592 50,244 34,818 46,264 11,811 5,527 7,683

*Treasury bills 35,857 17,207 12,781 102,499 38,242 7,991 7,778 1,860

*Due from other banks 103,182 93,177 102,784 550,887

*Overdraft( < 12months) 131,960 85,998 204,046 102,982 15 10,750 4,768

*Short-Term Investment 1,803 2,900 103,675 39,011 38,242 7,990 7,777 1,859

298,197 263,874 473,530 830,197 122,748 27,807 31,832 16,170

Current Liabilities

* Customer deposits 486,925 438,558 430,096 353,746 5,725 35,398 23,574 10,666

* Due to other banks 64,039 43,216 30,183 69,402 849 1,356

*Current income tax 3,492 6,982 6,586 2,659 699 216 216 154

* Short term borrowings 80 69,248 6,616

*Divident payable 5,366 2,791 300 135 135

559,902 488,756 538,904 432,423 6,424 35,914 24,774 12,311

CA-CL

(261,705) -224,882 -65,374

397,774 116,324 -8,107

7,058 3,859

56)