As a result of the global financial crisis of 2008/09, many banks the world over, in developed and developing countries, suffered sharp credit losses in their loan portfolios leading to bank failures and worldwide worry about systematic risk. This gave rise to more concerns about the stability and efficiency of banking and financial systems, and the need for central banks to tighten supervision and regulation of lending activities of banks.
Indeed, Tanzania’s central bank and financial regulator, the Bank of Tanzania, has introduced numerous reforms aimed at strengthening the country's banking and financial system. Today, several assessments are periodically conducted to timely forecast any undesirable exposure. Specifically, the ratio of non-performing loans (NPLs) to gross loans is normally used as a soundness indicator. But what are NPLs?
By definition, NPLs are credit facilities – secured or unsecured - in respect of which the interest and/or principal amount has stayed past due for a definite period of time. NPLs are "non-performing" because they stop generating income for the bank. According to the Banking and Financial Institutions (Management of Risk Assets) Regulations, 2008, NPLs are “any credit accommodation[s] for which contractual repayments are 90 days or more past due or [are] classified as substandard, doubtful or loss, and [are] placed on a non-accrual basis”.
It should be noted that although applied in Tanzania, the 90 days overdue criterion to identify exposures as non-performing is not universally applied. Moreover, NPLs in Tanzania cannot be reclassified as “performing” merely by substituting them with new loans.
In a 2001 International Monetary Fund (IMF) Working Paper entitled “The Treatment of Nonperforming Loans in Macroeconomic Statistics”, Adriaan Bloem and Cornelis Gorter argue that the primary cause of NPLs is the unavoidable number of erroneous economic decisions individuals make and bad luck e.g. unfavourable weather conditions and abrupt changes in the cost of fuel, prices of export products, foreign exchange or interest rates, etc.
This is why a bank’s credit committee should properly review the aptness of advancing credit facilities to a company or individual and adhere to sound lending principles and practices by steering clear of insider lending, for instance.
Another cause of NPLs in the banking system is the poor fiscal policies which militate against NPL resolution. Such policies result into high inflation rates. Anticipations about future inflation influence interest rates, which would remain high if investors believe that the government wants to pump more money through the central bank into the economy.
The direct impact of NPLs on the financial performance of banks in Tanzania has led to concerns amongst bankers. NPLs impinge on operational efficiency which consequently affects profitability, liquidity and solvency position of banks.They also affect the thinking and attitude of bankers and financiers with regards to disbursement of funds to borrowers. Hence, NPLs create a vicious effect on the survival and growth of banks, all the more reason for the Bank of Tanzania (BoT) to help banks manage properly their NPL portfolios.
In a Financial Stability Report (FSR) issued five years ago, in 2011, the BoT admitted that the upturn in the ratio of NPLs needed to be monitored carefully. More recently, the IMF said in an advisory note that while Tanzanian banks are sufficiently capitalized with good returns on equity, the increasing number of NPLs is an issue that needs to be examined more thoroughly.
According to the IMF, the ratio of NPLs to gross loans in Tanzania increased from 7.1 per cent in September 2013 to 8.5 per cent in September 2014. Underperformance in manufacturing, trade and agriculture was the main reason for the increase in the reported NPLs.
In its FSR for September 2015, the BoT said that the ratio of NPLs to gross loans which had dropped to 6.5 per cent as at end March 2015 increased to 6.8 per cent as at end September 2015, above the threshold of 5.0 per cent with an adverse effect on banking sector asset quality.
It should be noted that, in one of its FSR issued five years ago, in 2011, the BoT admitted that the upturn in the ratio of NPLs needed to be monitored carefully, and embarked on a process to update its legal and regulatory framework for the banking and financial sector.
However, despite the enactment of various legislation and the ongoing efforts by the BoT to underscore the importance of credit recovery, NPLs are, especially in view of Tanzania’s fiscal deficits, still a major concern to not only banks as noted above, but also to taxpayers and the general public (depositors), out of whose deposit funds loans are disbursed.
A high stock of NPLs in banks’ balance sheets can lead to taxpayers’ money being used to bail-out banks, or else depositors would have to suffer financial losses. This could hurt confidence in the country’s financial and economic system.
Because the development of the banking and financial sector is crucial to the endurance of the Tanzanian economy, the level of NPLs must be brought down significantly. Maintaining a lower level of NPLs, preferably far below the 5.0 per cent threshold, not only allows banks to expand their lending activities for supporting development plans and minimize the chances of insolvency and bankruptcy, but also safeguards depositors’ funds and promotes a stable and efficient banking and financial system.
In this regard, the government of Tanzania, working together with the BoT, could introduce clearer, more rigorous, and more explicit measures to help banks recover their NPLs from defaulting companies and individuals, and revivify lending to economically viable Tanzanian businesses, projects or investment activities.
One such measure would be for the reintroduction of foreclosure legislation. Simply defined, foreclosure is the institution of legal proceedings to transfer title or ownership of a property mortgaged to the bank as a security for a loan to a facility in the name of the bank.
The legislation could require that banks issue a foreclosure notice as a first step and; if not complied with, file an application in court for an Order to foreclose on the mortgaged property or charge in respect of matured or expired loans and loans which are not eligible for extension, renewal, roll-over, and renegotiation or restructuring.
Courts could issue an Order to foreclose only if the mortgaged property or charge was duly registered with the Ministry of Lands, Housing and Human Settlements Development or the Business Registration and Licensing Agency. Furthermore, it would be a prudent requirement for banks to report foreclosed assets to the BoT and to seek a time frame within which to sell the assets.
Foreclosure however, is without challenges: Since foreclosure could be an undesirable measure from a bank’s standpoint due to; in part, the possibility of prolonged legal proceedings ensuing, banks should resort to foreclosure only as a last recourse when it would have been established that the borrower is either unable, or unwilling, to repay the loan.
By and large, if implemented well, foreclosure could generally be seen as an effective measure to enforce recovery of banks’ NPLs owed by Tanzanian companies and individuals.
Apart from the reintroduction of foreclosure legislation, the BoT could introduce the “strategic debt restructuring” measure, whereby banks would be allowed, at the time of the initial restructuring, to include, in loan restructuring agreements with borrower companies, an option to convert the whole or a part of the loan and interest outstanding into a 51 per cent (or more) equity stake and to bring in, as soon as possible, ‘new promoters’ in companies defaulting on their debt commitments agreed under restructuring plans.
The new promoters should in no way be related to the borrower companies, and it would be sagacious for the BoT to relax the measure from regulatory ceilings or restrictions on capital market exposures, investments, and intra-group exposures. Likewise, banks acquiring shares of companies listed on the Dar es Salaam Stock Exchange and under restructuring could be exempted by the Capital Markets and Securities Authority (CMSA) from certain disclosure requirements and from making open offers.
With strategic debt restructuring, a committee formed by lenders of the defaulting company could closely monitor the company’s performance and, if necessary, appoint a new management to replace the existing one. If shareholders and directors of a defaulting company get the message that they could lose control over their company, repayment culture and credit management could improve. In reality, this would provide more funds to lend to business and industry in Tanzania. Furthermore, if a smooth cycle of lending and recovery went on, the Tanzanian economy would grow. In this process, strategic debt restructuring would have a huge role to play in the recovery of banks’ NPLs.
Nevertheless, banks’ control of the acquired company comes with the responsibility to run the company efficiently and effectively. In light of this, banks might be apprehensive [given the fact that the business of banks is not to run companies, but to lend money], and understandably so, that they don’t have the dynamism, internal technical expertise and know-how to manage a large company.
As an alternative, banks could use the existing management to run the companies, but with more external monitoring and supervision. This could afford opportunities for Tanzanian corporate lawyers, specialist debt advisers and interim directors to support banks, as long as professional liability issues are properly addressed.
Other practical challenges that banks might grapple with include lack of, or little, cooperation by the trade unions of Tanzania; as well as, finding new promoters (investors) to buy the 51 percent or more equity stake acquired in the defaulting companies. For these reasons, unless a disposal is assured, banks might not want to immediately exercise the option of strategic debt restructuring. Instead, like in the case of foreclosures, the option should be resorted to only as a last recourse when it would have become clear that repayment of the loan can no longer be expected.
Executed well, strategic debt restructuring could ultimately boost the bargaining power of banks during loan restructuring negotiations and ensure that defaulting companies comply with their restructuring plans. This would be a key reform for helping resolve stress in the banking system, and improve cash flows for companies. Nevertheless, such strategic restructuring should be done at a “fair value” and not lower than the “face value” for the shares.
The existing regulations on debt restructuring in Tanzania do not give banks sufficient leeway to take control over defaulting companies. Thus, by making banks majority owners and replacing the existing management and therefore giving banks the power to turnaround the ailing company by making it financially viable and then selling their stake to an investor as a way to recover their money, it is hoped that willfully defaulting companies would be endeared to better credit compliance and responsible management and; as a result, ensure better corporate governance structure in the companies.
All the same, there are bound to be difficulties in implementing the strategic debt restructuring and foreclosure measures, and this article has not exhausted all the difficulties. Accordingly, at this moment when banks are facing challenges to recover NPLs, organizing a workshop, under the joint auspices of the BoT and the Tanzania Bankers Association, could create a powerful opportunity to understand how these measures could be precisely implemented and the difficulties so that appropriate regulations and guidelines could be developed by the government through the BoT.
Finally, comprehensive and holistic legislative reform towards a healthier, more vibrant and more sound banking and financial system could be a long time coming, yet given the fact that banks continue to struggle with a surge in NPL provisions – which are a drag on Tanzanian banks’ profitability and a negation of new lending activities – the Government must rally behind the BoT Governor, to strengthen the value of the shilling and improve the economy and; in the process, lower interest rates. This would allow Tanzanian enterprises and individuals in business to improve their cash flows and finances thereby creating a positive impact on economic activities, primarily due to the increase of availability of affordable, potential funding.