Microfinance Banks (“MFBs”) plays a significant role in promoting financial inclusion by extending credit, and delivering essential banking services to low-income individuals, small businesses, and the informal economies. For investors who are passionate about financial inclusion, the process of obtaining the operational licence for MFBs from the Central Bank of Nigeria (“CBN”) has become increasingly difficult and riddled with unnecessary bottlenecks and delays. For such investors and Fintech operators, acquiring an MFB has become an attractive strategy for entering the MFB business in Nigeria.
Acquiring an MFB is not a straightforward commercial transaction as the success of the transaction is dependent on thorough legal, regulatory, financial and operational due diligence to avoid inheriting hidden liabilities, regulatory breaches, unhealthy loan port folios and weak corporate governance system. Understanding the risk that may be embedded in a target MFB, is not only essential for completing the transaction, but also for determining long-term viability after the acquisition of the MFB.
This article offers clarity on the core issues investors should consider when purchasing an MFB in Nigeria.
CATEGORY OF LICENCE
Understanding the category, a target MFB falls under is crucial when considering an acquisition. This is because, each category of MFB has distinct regulatory requirements for minimum capital, permissible operations, geographic coverage and compliance requirement. understanding the category ensures that the investor is prepared to meet the obligations associated with each category and avoid regulatory breaches that may occur due to non-compliance resulting from unpreparedness.
Regulatory Compliance
Verification of share structure and minimum capital requirement
The required capital base for each category of MFB varies. This is one area where understanding the category of licence is crucial. Each category of licence has its regulator approved minimum share capital requirement that must be maintained by an MFB at all times. Non-compliance with the minimum share capital may result to the revocation of the operational licence. Especially, where the bank has received several warnings from the Central Bank of Nigeria (“CBN”). Investors must ensure that the target MFB meets the required minimum capital base before considering the MFB for purchase.
Furthermore, in the event that there has been any changes in the share structure, whether by way of capital injection or introduction of a new shareholder, a thorough due diligence exercise must ensure that the requisite CBN approvals were obtained for the changes to the share structure.
Board Composition
The CBN, sets out specific rules regarding the structure and membership of the board of directors. These requirements are intended to promote strong corporate governance, mitigate conflicts of interest, and ensure sound management. Ensuring board composition compliance is not just a “box-ticking” exercise, it is a fundamental prerequisite for regulatory approval. Buyers must ensure that the persons that make up the Board of the MFB have been duly approved by the CBN, that they meet the fit and proper persons requirement of the CBN and that where there has been any changes in the board, same has also been approved by the CBN.
Compliance with permissible activities for MFBs
The CBN has laid out a clear-cut list of activities that a holder of a microfinance bank licence can cover. Some of these activities including lending within the single-obligor limits, accepting deposits, payment and remittance services, investment of surplus funds in approved instruments etc. operating outside of the permissible activities for MFBs is a major compliance issue that may come with sanctions and penalties from the regulators. This is one factor that could lead to the revocation of an operational licence
Requisite CBN approval for post-licensing changes
Investors must look out for any post-licensing changes that may have occurred in the history of the target MFBs existence and that the required approval was obtained for the changes. The following post-licensing changes must be approved by the CBN:
- Changes in shareholding structure
- New shareholders
- Appointment and removal of directors
- Appointment and removal of senior management staff
- Change of name
- Change of registered address
- Relocation of head office
- Introduction of new products and services
- Capital restructuring
- Branch expansion or closure
Every major post-licensing change by an MFB, must be approved by the CBN. Failing to do so can result in regulatory sanctions, reversal of the action or in severe cases, revocation of licence.
Compliance with the requirements of the law on protection of personal data of customers
MFBs are classified as data controllers/processors of major importance, meaning that they must uphold a higher standard of data governance. The Nigeria Data Protection Act has made adequate provisions to ensure that data controllers/ processors put measures in place to protect the personal data of customers under their custody. Therefore, it is important that an MFB is seen to be in compliance at all times as non-compliance could lead to the imposition of sanctions, fines and penalties.
A thorough due diligence exercise must be able to answer the following questions:
- Are regular staff trainings conducted to ensure that employees have adequate knowledge of data protection laws?
- Are there role-based access control to limit data exposure?
- Are there strict password authentication policies
- Are there measures in place to ensure due diligence and monitoring?
- Are regular data protection compliance audit conducted?
- Has the MFB employed or engaged the services of a qualified data protection officer?
A thorough due diligence exercise must ensure that an MFB is in compliance with the requirements of the law for protection of the personal data of customers.
Liabilities and Contingent Liabilities
When purchasing an MFB in Nigeria, it is essential to conduct a thorough review of both liabilities and contingent liabilities. These can significantly impact the value of your investment and expose you to unexpected financial or legal risks post-acquisition. Here are key types and examples to be aware of:
Non-performing loans
There must be a thorough assessment on the loan portfolio in order to determine the quality of the loans especially with regards to the proportion of loans that are overdue or unlikely to be recovered.
Tax liabilities
It is important that a thorough assessment is carried out to ensure that the target MFB is in compliance with all necessary tax remittances such as corporate income tax, value added tax, pay as you earn tax, withholding tax etc. unremitted taxes are debts to the government that must be paid eventually and delays may come with penalties in form of fines or even imprisonment in some instances.
Also, it is important to look out for ongoing tax investigations or unresolved tax disputes with tax authorities.
Pending litigation
Investors must confirm and identify whether there are ongoing law suits or claims by customers against the MFB. Also, investigate to ensure that there are no existing claims, decisions of tribunals, judgment of a court or regulatory investigations that may result in financial penalties or obligations or even result in the revocation of the operational licence.
Default fees, fines and sanctions
Investors must look out for default fees, previous or potential penalties from the CBN, Nigeria Deposit Insurance Commission (“NDIC”) or other regulators.
Operational or service provider liabilities
It is crucial to review material contracts or agreements with third parties, vendors, or service providers such as an agreement with the services providers where there is core banking software application, agent partnership or fintech integration. The purpose of this review, is to ensure that there are no outstanding payments or obligations to vendors, service providers or landlords in the case of a lease. This will also help the investor determine whether to continue the contract with the service provider or determine same.
Existing lease obligations
It is important to examine the terms of lease for the office building or any equipment under lease to ensure that there are no hidden cost or hidden liabilities.
Unresolved regulatory compliance issues
Pending matters with regulatory bodies may result in future liabilities. Therefore, it is important to look out for queries from regulators, and ensure that there are already measures being put in place to ensure compliance. Also, that the bank has complied with the queries that may have been raised by the regulators within the time frame provided.
Employee liabilities
A thorough assessment must be carried out on HR records, payroll records, employment contracts and employee handbooks to ensure that there are no unpaid salaries, bouses, or allowances owed to staff that may eventually become the responsibility of the new owner if not settled before the acquisition.
Under Nigerian law, employers must remit pension contributions on behalf of employees. Missed or underpaid contributions can lead to regulatory penalties and back payments.
Investors must also, look out for gratuity or severance payments, leave entitlements, unpaid health insurance premium or other contractual or regulatory benefits that may be accruable to employees. This is to avoid unrecorded or underestimated liabilities or penalties from regulatory bodies such as the National Pension Commission or the Nigeria Social Insurance Trust Fund.
An interview with the employees may be frowned upon by the owners of an MFB, but it is important and investors may conduct interviews or anonymous surveys to determine employees’ morale or detect unresolved grievances from disgruntled employees. Unresolved issues with disgruntled employees can create significant, financial, legal and operational challenges after the conclusion of a transaction. Thorough due diligence can mitigate these risks.
Debt liabilities
MFBs operate like other financial institutions. They incur liabilities in the course of providing financial services. When conducting due diligence, it is important to understand the debt obligations of the target MFB and how they may affect the financial health of the company. Investors may look out for borrowings from other banks or development finance institutions, obligations to refinancing institutions in the event of refinancing and asses the customer deposits under the custody of the MFB.
It is important to thoroughly assess the debt liabilities of an MFB as they may affect the valuation of the bank and also, to avoid post-acquisition losses.
Other factors to consider are as follows:
Liquidity risk
In the context of acquiring an MFB, understanding and managing liquidity risk is essential for both regulatory compliance and the ongoing viability of the MFB. This is so because, insufficient liquidity can lead to operational problems or even insolvency. It is also a regulatory issue in the sense that the CBN requires a minimum liquidity ratio for MFBs which is 20% of deposits. A careful assessment of the liquidity risk should be a central part of a due diligence strategy.
Reporting and compliance infrastructure
A proper due diligence assessment must ensure that the target MFB is in compliance with filing the following returns and reports:
- CBN Returns: Section 5.3 of the Revised Regulatory and Supervisory Guidelines for MFBs in Nigeria requires that MFBs must submit monthly returns to the CBN.
- NDIC Returns: Timely report to the NDIC on deposit liabilities, insured balances and risk assessments.
- Tax Reporting: Accurate and on-time submission of tax returns to the Federal Inland Revenue Services and relevant state tax authorities.
- Annual Returns to the Corporate Affairs Commission (“CAC”): A proper due diligence exercise must ensure that MFBs file their Annual CBN approved Audited Financial Statement to the CAC.
- Report to the Nigeria Financial Intelligence Unit (“NFIU”): The Money Laundering (Prevention and Prohibition) Act 2022 and the Terrorism (Prevention and Prohibition) Act 2022 makes provision for the following reports:
- Suspicious transaction report
- Currency transaction report
- Foreign transaction report
Non-compliance with filing of periodic and daily returns and reports to the regulators will attract fines or penalties that may come up eventually as post-acquisition liabilities and debts on the new owners. It could equally lead to the revocation of license, in extreme circumstances.
CBN and NDIC examination reports
MFBs are subject to routine and special examinations conducted by the CBN and the NDIC. These examinations are designed to assess the financial soundness, governance, compliance and risk management practices of MFBs. The reports usually cover a wide range of issues and the most recent report may be relied upon as they may reveal the following:
- Real financial health of the MFB
- Hidden liabilities
- Fraud and forgery risk
- Insider abuse
- Governance weaknesses
- Capital adequacy issues
- Risk- rating by regulators
Following the above, it is clear that examination reports of the CBN and the NDIC forms part of documents that should be reviewed for possible acquisition of an MFB.
Acquiring an MFB in Nigeria presents an opportunity to enter the financial services industry. However, it is a transaction that requires meticulous planning, comprehensive due diligence, and full compliance with all relevant regulations. Prospective buyers must carefully assess the financial health of the target institution, scrutinize liabilities including loans, deposits, and contingent obligations, and evaluate governance, operational, and cybersecurity risks.
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About KORIAT & CO.
We are a commercial law firm in Nigeria with network of lawyers and consultants in Ghana, Kenya and Rwanda. The above article is not legal advice and does not automatically make our readers our clients unless they specifically instruct us to act or represent them in any way.
We assist local and foreign clients to process company registration and business licences in Nigeria, Ghana, Kenya and Rwanda.
Please contact Koriat & Co. through admin@koriatlaw.com or 09067842241 if you require additional information about or assistance in processing company incorporation or application for a money lender’s licence.
