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Nigerian banks
Will they survive?
Kato Mukuru+234 (01) 448 5385KMukuru@rencap.com
Sector update
Equity Research5 December 2008
 
Banks
Nigeria
Report date: 5 Dec 2008
Total sector MktCap, $mn 22.241Target MktCap, $mn 30,011Average sector 2009 P/E 6.7xAverage sector 2009 P/B 1.17x
 
The million-dollar question
is whether Nigeria and its banking sector will survivethe ripple effects of the global credit tsunami and economic slowdown. Webelieve they will. At home, the key concern is margin loans.
 
Nigeria will survive
, in our view
 
because it is not 1) a significant player in globaltrade; or 2) a major recipient of external funding. For the first time, not being fullyplugged into the global economy will be a positive. Additionally, Nigeria’sapproximately $57bn of foreign reserves should support the currency anddomestic growth in 2009.
 
 
Nigerian banks should survive
, in our opinion
,
as they rank amongst theworld’s most capitalised banks (Sep 2008 CAR ratio was 22%). Their balancesheets remain underpenetrated (loan-to-asset ratios of around 34%) andunderleveraged (loan-to-deposit ratios of approximately 50%).
 
 
However, the margin-loan problem must be addressed
in order to restoreconfidence in the banking system and bring stability to the stock market. Theinterbank market remains tight, as the banks continue to speculate over thesolvency of their peers. Equity market rallies will continuously be undermined bythe margin overhang – what goes up will come down in the short term.
 
 
Margin loans; NGN1trn problem.
We estimate that the banking system’sexposure to margin loans is NGN1trn (20% of total loans). However, there is noconsensus on this number, with street estimates varying from NGN716bn (13% oftotal loans) to NGN1.7trn (31% of total loans).
 
 
The banks have the capital
to write-off 50% of this NGN1trn problem and stillhave a pro-forma CAR ratio of 18% (vs the minimum requirement of 10%).However, a write-off of this scale would significantly reduce their financialflexibility and ability to supply credit to the economy.
 
The CBN solution
has been to inject liquidity into the banking system by 1)reducing liquidity requirements, 2) expanding the discount window facility and 3)allowing the banks to restructure their margin loans up to 2009. Despite theseactions, the interbank market remains tight and rates stubbornly high. This isbecause these solutions do not address the margin loan problem.
 
 
To address this problem,
we believe all the stakeholders in the Nigerianbanking universe should come together to reach a consensus on how big thisproblem is and then find a zero-cost solution to Nigerian taxpayers. This wouldinvolve taking these problem loans off-balance sheet and returning liquidity tobank balance sheets.
Figure 1: Nigerian bank ratings and valuation summaryBanks Rating P/B 08 RoAE 09February year end
GTB
BUY
1.51 19%Intercontinental Bank
HOLD
1.48 21%
March year end
Access Bank
BUY
0.75 15%First Bank
HOLD
1.64 16%Union Bank
HOLD
2.18 24%
 April year end
Diamond Bank
BUY
1.02 17%FCMB
BUY
0.70 17%
June year end
PHB
HOLD
0.86 16%
September year-end
Oceanic Bank
BUY
1.14 17%UBA
BUY
1.54 29%Zenith Bank
BUY
1.13 21%
Source: Company data, Renaissance Capital estimatesNote: Priced on 25/11/08
Important disclosures are found at the Disclosures Appendix. This research material is released by Renaissance Securities (Cyprus) Limited.Regulated by the Cyprus Securities & Exchange Commission (License No: KEPEY 053/04).
Figure 2: Price performance – 52 weeks Figure 3: Price performance – 3 months
-76%-69%-67%-59%-54%-50%-49%-48%-46%-41%-38%-100% -80% -60% -40% -20% 0%Bank PHBOceanicFCMBAccessDiamond BankUBAZenithIntercontinentaUnionGTBFirst Bank
-52%-50%-44%-39%-36%-35%-33%-29%-28%-24%-20%-60%-50%-40%-30%-20%-10%0%FCMBUnionOceanicZenithUBAAccessDiamond BankIntercontinentBank PHBGTBFirst Bank
Source: MSCI, BloombergSource: RTS, Bloomberg
 
 
 
5 December 2008 Nigerian banks Renaissance Capital
 
2
Executive summary 3
 
Nigeria and its banks will survive 3
 
However, the margin loan problem needs to be addressed 3
 
The solution 5
 
Nigerian banks, new valuation approach 7
 
Population, significant contributor 9
 
Nigerian economy, resilient 9
 
Global trade flows, a marginal player 9
 
External financing, not a significant recipient 10
 
Nigeria can mitigate the risks of falling oil prices 12
 
GDP and banking assets, small contributor 13
 
Nigerian banking system, resolute 13
 
Leverage, low 13
 
Capitalisation, high 15
 
Returns, high 15
 
Nigeria, the individual banks stack up well 16
 
Margin loans, how big is the problem? 21
 
Nigerian shareholders, leveraged 21
 
The capital implications of writing this problem off 22
 
The valuation implications of writing this problem off 24
 
Disclosures appendix 25
 
Contents
 
 
Renaissance Capital Nigerian banks 5 December 2008
3
Nigeria and its banks will survive
As the ‘credit tsunami’ disrupts the global financial system and the threat of a globalrecession looms, the million-dollar question is whether Nigeria and its banks willsurvive? At home, the key concern is margin loans.In this note we explain why we believe that the Nigerian economy and bankingsystem will survive the ripple effects of the global credit tsunami and economicslowdown. Additionally, we also demonstrate why we believe Nigeria’s banks havethe capital to weather the margin-loan problem.From a top-down perspective, we believe the survival of the Nigerian economy willbe underpinned by its limited historic participation in global trade flows. What hastraditionally been a key limitation in Nigeria’s development, will ironically be apositive in the current macro-economic environment. Furthermore, Nigeria, like mostof Africa has not been a significant recipient of external emerging market fundingand therefore the outlook for 2009 is more of a continuation of the historical norm,rather than an abrupt change. Lastly, Nigeria’s approximately $57bn of foreignreserves (more than twice the size of South Africa’s) should support the relativestability of the naira and economic growth in 2009. Although we would note that weare currently experiencing volatility in the Naira, we still expect the CBN to stabilisethe currency over 2009.From a bottom-up perspective, we feel the survival of the Nigerian banking systemshould be supported by its highly capitalised balance sheet. At Sep 2008, theNigerian banking system’s capital adequacy ratio was 22% (12% above theminimum capital requirement). Not only are Nigerian bank balance sheets wellcapitalised, they are also under-penetrated. The average loan-to-asset ratio in ouruniverse of banks is around 34%. To put this into perspective, Santander, a leadingglobal retail bank had a 2Q08 loan-to-asset ratio of 61%. Finally, we would note thatbecause Nigerian balance sheets are under-leveraged (loan-to-deposit ratios for thebanks in our coverage universe average around 50%), the global credit squeeze willbe less of an issue for them.
However, the margin loan problem needs to be addressed
Although Nigerian banks are under-leveraged, Nigerian investors are highlyleveraged. Based on our base-case assumption, the system’s total margin-loanexposure is NGN1trn (20% of total loans). This level of exposure representsapproximately 14% of the total market value of the Nigerian Stock Exchange (NSE).Around our base-case assumption, we calculate that at the low-end, margin loanscould represent 10% (NGN716bn) of the NSE’s market value; at the high-end theycould account for 23% (NGN1.7trn) of the market value of the NSE. Typically mostequity markets limit margin-loan exposure to around 2% of market value (as shownin Figure 4).
Executive summary
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