An Appraisal of the CBN’s Approach to Resolution of Skye Bank Plc
Background
On 21 September, 2018, the Central Bank of Nigeria (CBN) revoked the banking licence of Skye Bank Plc, on the ground that it was significantly undercapitalised. The CBN also claimed that Skye Bank’s shareholders were unable to recapitalise the bank. CBN’s first regulatory intervention in Skye Bank was on 4 July, 2016, when the CBN replaced some board members and injected N350 billion into the bank.
Polaris Bank Ltd (a bridge bank), has been established to take over the assets and liabilities of Skye Bank. The CBN and the Nigerian Deposit Insurance Corporation (NDIC) have turned over Polaris Bank to the Asset Management Corporation of Nigeria (AMCON). AMCON has injected N786 billion into Polaris Bank, and is expected to source for a credible investor.
This write-up examines Skye Bank’s resolution and key issues arising therefrom, such as the special insolvency regime for banks, the bridge bank approach, bail-outs and bail-ins, the too-big-to-fail principle and moral hazard, and the treatment of Skye Bank’s shareholders.
Special Insolvency Regime for Banks In addition to some provisions under Part XV of the Companies and Allied Matters Act, 1990, banks are subject to a special insolvency regime. Principally, Sections 31 to 40 of the Banks and Other Financial Institutions Act, 1991 (BOFIA) and Sections 37 to 44 of the Nigerian Deposit Insurance Corporation Act, 2006 (NDIC Act), set out provisions applicable to distressed banks. The special resolution regime for banks, may be justified on a number of grounds.
First, banks provide financial services which ensure financial system stability, and drive economic growth. These services range from taking deposits, extension of credit to businesses and individuals, to processing of payments. Failure of a systemically important bank, will have more serious adverse effects on the financial system and national economy, than the collapse of a non-banking company.
Second, bank resolution processes are highly complex and more complicated than general corporate insolvency processes. In bank resolution, public interest takes centre stage. Priority is given to protection of financial stability, and national economy. These considerations, are alien to general corporate insolvency processes. Corporate insolvency processes focus on securing a collective administration of the insolvent’s assets, for the benefit of the general creditors.
Third, bank resolutions require early intervention and application of appropriate resolution measures, to avoid systemic risk. Delays and compliance with procedures, may exacerbate an already grave situation. Sections 33 to 40 of BOFIA and Sections 37 to 44 of the NDIC Act stipulate the regulators saddled with the responsibility of initiating bank resolution processes, the grounds for initiating such processes, and the resolution measures. This eliminates the risk of frivolous initiation of such insolvency processes, which may severely harm banks and the financial system.
The Bridge Bank Approach Establishment of bridge banks is hinged on Section 39 of the NDIC Act. The bridge bank approach used in Skye Bank’s resolution, is not novel in Nigeria. Bridge banks were used in August 2011 for the resolution of Spring Bank (Enterprise Bank Ltd), Afribank (Mainstreet Bank Ltd) and Bank PHB (Keystone Bank Ltd).
An advantage of bridge banks, as can be seen in Skye Bank’s resolution, is non-disruption of banking operations. Skye Bank’s depositors, have had uninhibited access to their funds in Polaris Bank. All deposits have also been fully protected. The 5000 employees of Skye Bank, have been retained in Polaris Bank. This would not have been achievable, in liquidation. Depositors would have incurred losses, given that the deposit insurance limit for liquidated universal banks is N500,000. Employees of Skye Bank would have been laid-off, and there would have been a contagion in the financial system, characterised by bank runs and bank panics.
Further, bridge banks are exempted from maintaining minimum issued/paid up capital under any extant laws: Section 39(3) of NDIC Act. On NDIC’s request, regulators such as the CAC, CBN, SEC, NSE etc. may grant forbearance, exemption or waivers to bridge banks in respect of their operations: Section 39(4). These are clearly designed to give bridge banks respite, to achieve their set objectives.
Too big to fail: Bail-outs and moral hazard In a recent interview, Ahmed Kuru (the MD of AMCON), gave the reason for bailing-out Skye Bank as being that: “it is a very big bank and if you allow anything to happen to it, it will affect some other financial institutions”. The regulators viewed Skye Bank, as being too systemically important to fail. The too big to fall principle suggests that, where a bank is systemically important, it ought to be supported by government when in distress, to avoid any systemic risk. Skye Bank’s resolution may be contrasted with the recent revocation of licenses and proposed liquidation of 74 insolvent and 12 terminally distressed microfinance/ primary mortgage banks and other finance institutions, by the CBN. Clearly, these entities were not considered as being too big to fail.
An estimated N3.83 trillion has been expended on bank resolutions by the regulators, since 2009. Commendable as the intention may be, there is a moral hazard risk. This is the tendency for bank executives to increase their exposure to risk, given the assurance that the banks are too systemically important to be allowed to fail. Bail-outs shelter bank executives from the adverse consequences of their unreasonable actions, and may increase their appetite for inordinate risk-taking. More worrisome is the fact that, these implicit government guarantees are financed with public funds, which would have been used for other socially beneficial projects. Moral hazard highlights the need for regulators to thoroughly investigate immediate and remote causes of Skye Bank’s failure, and take appropriate civil and criminal actions against all culpable persons. This will serve as a deterrent, against insurance-induced excessive risk-taking in the sector.
Bail-out vs Bail-in A bail-in involves depositors, creditors and/or shareholders of a distressed bank, fully or substantially recapitalising a distressed bank. The only notable instance where bail-in was used in bank resolution, was in Cyprus during its 2013 banking crisis. In the resolution, the Bank of Cyprus converted 37.5% of deposits exceeding €100,000 into class ‘A’ shares. A further 22.5% of the deposits, were held as a buffer for potential conversion at a future date. Bail-ins obviate the use of public funds for bank resolutions, and may curb moral hazard. The result of a successful bail-in, is a healthy bank devoid of indebtedness to the government.
However, depositors may not be willing to sacrifice their deposits, to save banks. In Skye Bank’s case, the CBN claimed the shareholders were unable (or unwilling) to recapitalise the bank. Bail-ins may potentially induce bank runs, which will hasten the collapse of the bank. In Cyprus, withdrawals for deposits exceeding €100,000 were limited to a maximum of 10% of the deposits to prevent a run. The perception that depositors’ funds may be confiscated for bank resolutions, may erode public confidence in the banking system and discourage savings in banks. Accordingly, bailing-in Skye Bank, would have significantly impaired the achievement of Nigeria’s 2020 financial inclusion targets contained in the National Financial Inclusion Strategy of 2012. Instructively, Bank of Cyprus was bailed-in, because the government was unable to finance a resolution, due to massive national debts. This was thus, an exceptional case.
The Fate of Skye Bank’s Shareholders Skye Bank’s shareholders are arguably the biggest losers, in its resolution. The CBN has revoked Skye Bank’s banking licence. Its assets and liabilities have been transferred to Polaris Bank. The NSE has halted trading of its shares. Although Skye Bank retains its legal personality ( Savannah Bank (Nig) Plc v Saba (2018) 14 NWLR (Pt 1638) 56 at 102H-103C; NDIC v UBN Plc (2015) 12 NWLR (Pt 1473) 246 at 294E-296D, 297C-F), this is temporary. The NDIC is expected to liquidate the company, pursuant to Section 40(2) and (3) of the NDIC Act and subsequently, obtain a dissolution order: NDIC v UBN Plc (supra) at 293F-294A. This explains the antagonism of shareholder-groups, towards CBN’s resolution measures.
Nevertheless, the resolution measures are legally unimpeachable. The revocation of Skye Bank’s licence, was premised on Section 12(1)(c),(d) and (e) of BOFIA. Section 39(1) of the NDIC Act empowers the NDIC, in consultation with the CBN, to establish bridge banks to assume deposits and liabilities and purchase assets of failing banks. Section 38(1)(e) of the NDIC Act empowers the NDIC to “take such other measures that are reasonably necessary for the purpose of securing and restructuring the failing insured institution.” These are indeed wide powers, in which the NDIC utilised in turning over Polaris Bank to AMCON to source for credible investors.
Interference with shareholders’ rights in a bank resolution, is an unavoidable necessity. As residual claimants, shareholders assume the highest risks in bad times, and receive the highest returns in good times. The treatment of Skye Bank’s shareholders may also be justified on public interest ground: Sections 33(1) (a), 36 and 38(1) of BOFIA. In the Skye Bank resolution, public interest required the protection of financial stability, national economy, the interests of depositors and employees to take priority over shareholders’ rights. Shareholders’ interests were adverse to some of the resolution measures, and would have considerably inhibited their implementation. There appears to be a silver lining for Skye Bank’s minority shareholders, with the recent assurance by the CBN that they will not lose all their investments. The CBN has stated that, under an arrangement, only the value of their investments will be “substantially whittled down”. It remains to be seen, how this would be achieved, considering that over N1 trillion of public funds have been “invested” in recapitalising Skye Bank/Polaris Bank.
“THE REGULATORS VIEWED SKYE BANK, AS BEING TOO SYSTEMICALLY IMPORTANT TO FAIL. THE TOO BIG TO FALL PRINCIPLE SUGGESTS THAT, WHERE A BANK IS SYSTEMICALLY IMPORTANT, IT OUGHT TO BE SUPPORTED BY GOVERNMENT WHEN IN DISTRESS, TO AVOID ANY SYSTEMIC RISK”