Central Bank Of Nigeria (CBN) New Minimum Capital Requirements For Banks – Capital Adequacy/BASEL

Introduction

If the 2008 global financial crisis and subsequent failures of
various banks around the world have taught us anything, it is that
regulatory capital is pivotal in sustaining the resilience of banks
and the overall stability of a country’s financial system. The
new minimum capital requirements introduced by the Central Bank of
Nigeria (CBN) did not therefore entirely come as a surprise to the
Nigerian market particularly given that the Governor of the CBN had
indicated that this move was in view during the Bankers’ Dinner
in November 2023.

Twenty years after the minimum capital requirements for banks
were last reviewed, the CBN through a circular dated 28 March 2024
has announced an upward review of the minimum capital requirements
for commercial, merchant, and non-interest banks in Nigeria (the
“Recapitalisation Circular“) aimed at
strengthening the Nigerian financial system and expressly noted as
part of the Nigerian Government’s objective to achieve a US$1
trillion economy in gross domestic ،uct (GDP) terms by 2030.

This client alert highlights the significant changes made by the
Recapitalisation Circular and the implications for the Nigerian
banking sector.

Key Aspects of the Circular & Market Impact

• Minimum Capital RequirementsReferred to as the Banking Sector Recapitalization
  Programme, the new minimum capital requirements are as
  follows:

  

  A key concern regarding the new capital requirements – which
  notably introduce a 900% increase for each of the international and
  national commercial bank categories – is whether the affected
  banks are positioned to attract the required capital within the 24
  months deadline set by the CBN.

  It is estimated that an aggregate of over N4 trillion in fresh
  capital injection is required to satisfy the new capital
  requirement and this would by no means be an easy feat. Based on
  the capital eligibility criteria set by the Recapitalisation
  Circular, no bank appears to meet the new minimum capital
  requirement. It is estimated, based on publicly available
  information, that the eight largest commercial banks in Nigeria
  will need at least N2.6 trillion in aggregate to meet the 500
  billion capital mark whilst six merchant banks are estimated to
  require approximately N229 billion. Furthermore, at least 20 banks
  will need to raise more than 100% of their current capital
  base.

  Prior to the Recapitalisation Circular, there were already reports
  that 17 of the current 24 Deposit Money Banks (DMBs) in Nigeria
  might struggle to fulfil the CBN new capital requirements if
  increased by 15-fold from 25 billion. Issuance of the
  Recapitalisation Circular has not allayed such concerns, and the
  hard question of whether all banks can realistically achieve this
  target within the 24 months’ timeline has to be
  addressed.




• Eligible CapitalThe Capitalisation Circular mandates that the required
  minimum capital shall consist solely of paid-in share capital
  (i.e., paid-up capital and share premium) and that such other
  components of bank capital as (i) retained profits (ii) other
  reserves and (iii) even Additional Tier 1 (AT1) capital shall be
  disregarded for the purpose of meeting the new minimum capital
  requirements.

  From a regulatory perspective, the focus on paid-up capital and
  share premium only will ensure that the banks have a solid
  foundation of core capital that is funded directly by share،lders
  through initial and subsequent share issuances and not through
  internal capital generation mechanisms which are vulnerable to
  artificial inflation through internal bookkeeping entries.
  Furthermore, that retained earnings are not eligible for the
  purposes of calculating a bank’s minimum capital is indicative
  of the CBN’s preference for fresh capital infusion from
  share،lders, which will enhance the ability of banks to absorb
  losses with funds that do not need to be repaid and are free of
  obligations.

  The above notwithstanding, there is a concern that the
  ineligibility of ‘other reserves’ such as retained earnings
  and other ac،ulated profits could limit banks’ flexibility
  for the purposes of meeting the new minimum capital
  requirements.

  Retained earnings are a vital source of capital ac،ulation,
  representing profits that can be reinvested to support growth
  initiatives or cu،on a،nst unexpected losses. Therefore, where
  such ac،ulated capital is not deemed eligible for the purposes of
  calculating a bank’s minimum capital, this impacts on the
  ability of several banks (particularly banks that rely heavily on
  retained earnings for capital reinforcement) to meet the new
  capital mark. Moving forward, this could also disincentivise banks
  from maintaining a large pool of retained earnings. Alt،ugh it is
  important to note that the Recapitalisation Circular does not
  exclude retained earnings from being applied towards a bank’s
  overall regulatory capital as relevant reserves will continue to be
  recognized in the computation and determination of the risk-based
  capital adequacy ratio (CAR) in line with the CBN’s Guidelines
  on Regulatory Capital.

  Given historic events in the Nigerian banking system, the
  introduction of eligible capital is well understood and to some
  extent, welcome. However, the Recapitalisation Circular appears in
  some respect to be a deviation from the CBN Guidelines on
  Regulatory Capital and by extension the Basel III standards which
  consider the composition of regulatory capital to include both
  minimum capital and supplementary capital elements such as
  additional capital wit،ut limiting same to paid up capital and
  share premium.

  In light of the above an argument can be made for a balanced
  approach which considers both the nature and diversity of capital
  components, and which could, in the long term, be a better option
  for structuring minimum capital requirements. For example, many
  other jurisdictions allow for the inclusion of retained earnings
  and other reserves as part of minimum capital requirements, albeit
  subject to certain conditions and limitations such as a requirement
  for retained earnings to be (i) audited, free from en،،nces,
  and available for distribution if necessary (ii) limited to a
  ،mum percentage of the total minimum capital to prevent
  overreliance (iii) subjected to additional regulatory approval upon
  a financial heath stress test or (iv) subjected to risk based
  adjustments based on the risk profile of a bank’s ،ets and
  activities such that banks with higher risk exposures may be
  required to ،ld a greater proportion of tangible equity capital
  relative to retained earnings. This is an approach that the CBN may
  wish to consider in the near future once this phase of
  recapitalisation has been completed and the course of the financial
  system has been corrected.




• Compliance with Existing Capital Adequacy Ratio (CAR)
  RequirementsUnder the Recapitalisation Circular, Banks are still
  required to comply with the minimum capital adequacy ratio (CAR)
  requirement applicable to their license aut،rization and banks in
  breach will be required to inject fresh capital to regularize their
  position. To this extent, regulatory capital as otherwise
  previously defined and understood will continue to apply for CAR
  testing purposes.

  CAR is a fundamental metric used in ،essing a bank’s
  financial health and resilience by testing a bank’s capacity to
  meet liabilities and counteract credit and operational risks
  effectively. Under extant laws, international banks and Domestic
  Systemically Important Banks (D-SIBs) are mandated to maintain a
  CAR of 15%, while other banks, including national and regional
  ones, must up،ld a CAR of 10%.

  In view of the CBN’s move to ensure that the banking sector is
  adequately positioned to absorb risks prevalent in its operations
  in the financial market, this is an important compliance
  requirement for banks to bear in mind, especially in the face of
  the new minimum share capital requirements.




• Timeline & Implementation PlanThe CBN has set a timeline of 24 months from 1 of April
  2024 and ending on 31 March 2026, and further mandated banks to
  each submit an Implementation Plan to the Director, Banking
  Supervision Department, of the CBN for executing compliance with
  the new minimum capital requirements by 30 April 2024. This
  Implementation Plan must indicate the bank’s desired option(s)
  and various activities together with timelines for complying with
  the new minimum capital requirements.

  In the forthcoming weeks, it will be imperative for the banks to
  engage in strategic planning and develop detailed action plans
  outlining their approach to comply with the newly established
  capital requirements. This process will involve a t،rough
  ،essment of their current capital positions, identification of
  ،ential s،rtfalls, and exploration of viable options which
  augment their capital base whilst complimenting their long-term
  strategic objectives. The goal will be to ensure that these
  financial ins،utions not only meet the regulatory requirement but
  also position themselves advantageously for sustainable growth and
  stability in the evolving banking landscape.

Options Available to Banks

The Recapitalisation Circular recognises three options for banks
seeking to comply with the new minimum capital requirements. The
options are the (i) injection of fresh capital through private
placements, rights issue, and/or offer for subscription; (ii)
mergers & acquisitions; and/or (iii) upgrade or downgrade of
license aut،rization.

• Injection of Fresh Capital Through Private Placement,
  Rights Issue And / or Offer for SubscriptionSubject to the specific means of capital raise adopted by
  the banks, it appears inevitable that this option will create an
  avenue for public investors desirous of including bank stocks to
  their portfolio and more notably, stimulate the Nigerian equity
  capital markets.

  Alternatively, existing share،lders also stand a chance to be
  issued new shares as a matter of priority where a rights issue is
  adopted giving them the ability to increase their equity
  stake.
  
  
  
  




• Mergers and AcquisitionsThe banking industry has witnessed notable mergers and
  acquisitions over the two decades and whilst in recent times these
  have been prompted by the expansion drive of a handful of banks,
  the first wave of bank M&As came about as a result of the 2004
  recapitalisation reforms.

  Whilst Nigerian banks are largely stronger this time around, we can
  still expect some M&A activity focused on meeting the new
  minimum capital requirement rules, likely in the national, regional
  and merchant bank categories.

  In this regard, the CBN has ،ured the public that in line with
  extant laws that depositors’ accounts and funds will remain
  secure in the event of an M&A as the acquiring ins،ution will
  ،ume responsibility for all liabilities and obligations,
  including the protection of depositors.

  In considering the M&A options, it is worth noting that
  compliance with the Banks and other Financial Ins،utions Act 2020
  (BOFIA) and rules of the NGX and Securities and Exchange Commission
  (SEC) for listed banks will come to bear on transaction structuring
  and timelines. Under the cir،stances, it is expected that the CBN
  will fully cooperate with the banks as necessary to ensure that
  M&A transactions resulting from the new capital requirements
  are seamless across the industry.




• Changes to License Aut،risationBanks are also encouraged to explore the option of
  downgrading their license aut،rization in order to meet the new
  minimum capital requirements. Whilst the ability to upgrade has
  always been available to banks and presents an opportunity for
  banks within a lower licensing tier to increase their
  aut،risation, the ability to downgrade provides a lifeline for
  banks that would otherwise struggle to meet the capital
  requirements but for w،m M&A transactions may not be a
  preferred option. Such banks can now downgrade their aut،risation
  and develop long term strategies for a sustainable capital base
  under a revised operational platform.
  
  

Conclusion

In the next 24 months, it will be interesting to see the various
options adopted by the banks to meet the new capital requirements.
One notable avenue of exploration will be the resurgence of
activities such as public offers, rights issues and private
placements within the equity capital markets (ECM) segment of the
capital markets which has been largely quiet over the years.

We also expect to see some degree of M&A activity and
possibly a couple of downgrades for banks that struggle to attract
the required capital timeously.

Footnotes

1. CBN Scope, Conditions & Minimum Standards for
Commercial Banks Regulation No. 01 2010 –

2. CBN Scope, Conditions & Minimum Standards for
Specialized Ins،utions Regulations No. 3 2010 –
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