Project Materials

CHAPTER ONE

INTRODUCTION

1.1. BACKGROUND OF THE STUDY

Risk management is a cornerstone of prudent banking practices. It is of no doubt that all the banks in today’s volatile environment are facing a number of risks, such as credit risk, liquidity risk, exchange rate risk, market risk and interest rate risk, among others – risks which may threaten the survival and success of the bank. In other words, banks are a risk business.

For this reason, effective risk management is necessary (Al-Tamimi & Al-Mazrooei, 2007). Risk management as commonly perceived does not mean minimizing risk; rather the goal of risk management is to optimize the risk-reward trade-off (Kanwar, 2012).

The ultimate goal of bank management is to increase the institution’s earnings and market value. This requires the bank to create a positive difference between the asset return rate and the cost of its obligations.

If a negative spread continues, the institution will face bankruptcy. To avoid this disaster, financial managers should carefully evaluate and manage the default risk (Burton, Nesiba, & Brown, 2015).

Generally, the financial system is adjudged the life wire of every economy. For this reason, the health of the financial system requires attention (Das & Ghosh, 2007) as its failure can disrupt economic development of the country.

The banking system helps in providing financial services which includes issuing money in various forms, lending money, receiving deposits of money, processing transactions and the creating of credit (Campbell, 2007). All these activities of the banks have an intrinsic risk in themselves. This makes the banking sector a very risky industry.

The risks in the banking sector cannot be eliminated or avoided (Soyemi, Ogunleye & Ashogbon, 2014).They can only be managed to control the degree and direction of their impact on bank performance.

According to Njogo (2012) risk management is seen as the identification, assessment and prioritization of risks followed by coordinated and economical application of resources to minimize, monitor, and control the probability and/or impact of unfortunate events. A study by Agwu, Iyoha, Ikpefan & Okpara (2015) identified five kinds of risk challenges to the Nigerian banking system as credit, liquidity, operational, foreign exchange and interest rate risks.

These risks can be grouped under systematic and unsystematic risks. The unsystematic risks are the credit, operational and liquidity risks, which result from internal operations and management decisions of the banks, whereas the systematic risks which are foreign exchange and interest rate risks are imposed on banks by external forces like the Central Bank of Nigeria, Policy and Foreign Exchange Market operations. All these risks affect bank performance in Nigeria.

In Nigeria, a new face of banking risk management techniques emerged in early 1990’s. The new strategy posits that effective risk management starts with first identifying the different types of risk and defining them before attempts to manage them are made (Abiola, & Olausi, 2014).

Despite the series of reforms that have been going on since 1999 to improve the capacity and health of Nigerian banks, the major test of risk management efforts of banks in Nigeria was the assessment of the risk asset quality of banks which led to the removal of eight chief executive officers and the injection of N600 billion into the banks (BGL 2010 Banking Report) in order to get the banks to lend again (Adeusi, Akeke, Adebisi & Oladunjoye, 2014).

Even after this exercise, the Nigerian banking sector still wallows in risk problems with high rate of non-performing loans, low liquidity rate and prevalent operational risks in form of forgeries and fraudulent acts (Abdullahi, 2013).

Risk is inherent in every business organisation or activity. The risk in the banking sector is more threatening and as such risk management is of grave importance to the sector. In Nigeria like some developing economies where consumer confidence index is low, banking business is riskier than normal (Alajekwu, Okoro, Obialor & Ibenta).

Banks have to battle with credit defaults, liquidity problems, balancing bank policy guidelines, regulatory issues and bank operations, as well as keeping pace with capital adequacy. Extant empirical studies have largely posited that risks have effects on bank performance but grossly disagreed on the direction of such effects.

Meaningful policies as well as managerial decisions may suitably emerge from these divergent findings. Akindele, 2012 and Ofosu-Hene & Amoh, 2016 who adopted all the risks in one study found a positive relationship between risk management and bank performance while the study by Oluasnmi, Uwuigbe & Uwuigbe, 2015 found a negative significant effect.

Other studies that concentrated on only credit risk such as Kayode, Obamuyi & Owoputi, 2015, Ogbulu & Eze, 2016, found that credit risk impacts on performance but did not indicate the direction, while Almekhalfi , Kargbo & Hu, 2016 noted that credit risk has an adverse effect on bank performance.

The present study seeks to examine the effect of risk management on bank performance in Nigeria as well as ascertain the direction of the impact.

1.2 STATEMENT OF PROBLEM

Risk management is typically recognized as a technical discipline as stated in the last couple of decades. They also stated strong risk management practices in the banking industry are paramount important for both economic sustainability and financial stability as well. Furthermore, in the world of finance, risk is a major component attracted lot attention from researcher.

Furthermore, According to Shafiq and Nasr (2010) Nigerian banking industry has confronted multiple risks including market risk, credit risk, foreign risk, operational risk, interest rate risk , capital adequacy risks and many more because of political instability, volatile economic environment of county as well.

To that respect, Bagh, et al. (2017) stated that severe economic meltdown on both home and International forums is another shock because of unskilled public sector, prices hiking, governance crux, natural upheaval, pathetic associations, corrupt managerial practices and policies, low per capita income, tremendous increase in

population growth rate, power distance, un- equal distribution of wealth, poor management, lack of funds, lack of quality of education, poor law and order state of affairs and Dearth of merit accordingly

these all factors are accountable for wretched state of affairs. Therefore, the problem statement to be addressed is “The Underlying effect of Risk Management on the Performance of Banks in Nigeria: A case of Zenith Bank Plc” Abuja.

1.3. AIMS OF THE STUDY

The major purpose of this study is to examine effect of risk management on the performance of banks in Nigeria. Other general objectives of the study are:

1. To examine the major types of risks faced by Zenith bank Plc in Abuja.

2. To examine the risk management practices in Zenith Bank Plc, Abuja.

3. To examine the effect of risk management on bank performance in Nigeria.

4. To examine the steps used by banks to identify, assess and mitigate risk.

5. To examine the relationship between risk management and performance of Nigerian banks.

6. To recommend the risk management tools that can help improve bank’s performance.

1.4 RESEARCH QUESTIONS

1. What are the major types of risks faced by Zenith bank Plc in Abuja?

2. What are the risk management practices in Zenith Bank Plc, Abuja?

3. What is the effect of risk management on bank performance in Nigeria?

4. What are the steps used by banks to identify, assess and mitigate risk?

5. What is the relationship between risk management and performance of Nigerian banks?

6. What are the recommended risk management tools that can help improve bank’s performance?

1.5 RESEARCH HYPOTHESES

Hypothesis 1

1. 1. There is no effect of risk management on bank performance in Nigeria.

1. 1. There is a significant effect of risk management on bank performance in Nigeria.

Hypothesis 2

1. 1. There is no significant relationship between risk management and performance of Nigerian banks.

1. 1. There is a significant relationship between risk management and performance of Nigerian banks.

1.6. SIGNIFICANCE OF THE STUDY

This study has a number of significant dimensions. The result of this study should provide information to the Nigerian banks risk management department on the progress so far made in identifying and evaluating risks as to enhance growth and profitability of the financial institutions.

The result of this study should also reveal how much such progress has impacted on the growth and performance of the entire banks in Nigeria. Essentially, this work is a step in a right direction to assist and enlighten the general public on what risk management in Nigerian banks is all about and hence guide them in their immediate decision of handling risks.

Furthermore, there is need to provide a reference document for further researchers and evaluation of risk management conducted by other Nigerians/other Nations. This research work will go a long way to increase the availability of

literature in the field of risk management in the banks and other related business associates that involve risk in the day-to-day running of the businesses. Finally, the study is of immense benefit to policy makers, investors, financial manager’s lecturers and the general public.

1.7    SCOPE OF THE STUDY 

The study is based on the effect of risk management on the performance of banks in Nigeria, case study of Zenith bank Plc, Asa Street, Maitama, Abuja.

1.8 LIMITATION OF STUDY

Financial constraint– Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview).

Time constraint– The researcher will simultaneously engage in this study with other academic work. This consequently will cut down on the time devoted for the research work.

1.8 DEFINITION OF TERMS

Risk: Risk of an asset is the potential change of future returns due to its assets (Weston & et al, 2008). Investors always face the risk that their rates of return asset June be lower than value of expected.

So the “risk” is likely to be different the real rate of return with investor’s desired rate. The risk of a financial asset is a function of one or more factors that cause changes securities prices in market.

Management: – This is defined as the process of directing, co-ordination and influencing the operations of an organization so as to obtain desired result and enhance a total performance.

Banks- These are financial institutions, which accept deposit and other loans to the customers.

Credit:- A transaction between two parties in which one (creditor or lender) supplier money, goods, securities in returns for a promised future, payment by the other of debtor borrower. To sell or lend in the basis of future payment.

Money:- This can be defined as anything which passes freely from hand to hand and is generally acceptable in settlement of debt.

Hedging: According to (Ebhalaghe, 2010) defined hedging as a system employed to smoothen out unpredictable fluctuations in financial variables so as to aid planning and avoid embarrassment induced by cash shortfalls.