Abstract

Loan portfolio is the greatest asset and the most important source of income for banks, most banks advance considerable parts of their financial resources to customers as loans. Despite the extensive appraisal and monitoring procedures implemented by banks to assure borrowers’ repayment of loans, a significant number of loans become late.

Thus, this study seeks to assess the causes and challenges of loan default on the financial performance of commercial banks in Cameroon. Specifically, the study aimed to evaluate the causes of loan default among commercial banks in Cameroon, to find out the challenges management of commercial banks encounter in the recovery of delinquent loans, to investigate the effect of loan delinquency on financial performance and to find practical means or measures that can be put in place to minimize loan default.

To achieved these objectives, the study employed both purposive and simple random sampling techniques using a structures-questionnaire to sample 70 staffs and employees of commercial banks in Buea Municipality. Findings revealed that the major causes of loan defaults among commercial banks were multiple borrowing by customers, fraudulent loan officers, insufficient disposable income, inexperienced loan officers, the high interest rate on the loan, and inadequate loan screening and documentation.

It also revealed various challenges management encountered in the recovery of delinquent loans were customer’s unwillingness to repay, the longer duration it takes for recovery of loan, over-borrowed client and economic challenges such as poor circulation of cash, late payment of salaries etc. The impact of loan delinquency on the performance of commercial banks were increase in loan recovery expenses, decrease in working capital, leads to high pricing of loan, dumping the moral spirit of loan officers, decreases the profitability of the banks, and inability to disburse more loans in the future. The study suggested that proper management and control mechanisms and the demand for security or collateral by banks as a prerequisite for granting the loan are major possible ways that can be employed by commercial banks to minimised delinquent loans.

CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

Lending has become a vital role in banking due to its direct impact on economic growth and development. This is being pursued in the majority of countries, especially in emerging countries, where banks and lending activities have been usefully incorporated into government policy formation in the national economic development process. Thus, in the modern economy, bank lending activity as it influences economic growth and development has continued to acquire prominence (Kariuki, 2013).

Banks provide loans and advances, as well as a variety of dependent facilities, as development agents. The majority of cash deposited with banks are used to provide personal and company customers with loans and advances to help them with their particular economic activity. Banks, like any other business, are in the business of making money, so they charge interest on credit extended and pay interest on cash deposited with them (Anolue, 2010). The gross margin is the difference between the interest received and the interest paid, which represents the banks’ profit (Damankah and Amankwaa, 2015).

Commercial banks are essentially deposit-taking institutions. They are financial intermediaries who facilitate the transfer of cash from surplus to deficit sectors, hence introducing credit risk. As a result, credit became the major activity of banking, as well as the primary criterion for evaluating a bank’s quality and performance (Aremuand, 2010).

The most profitable business for banks is supposed to be lending. However, if loan decisions are not made carefully, it could become a bank’s biggest loss-making operation. As a result, the bank places a premium on the security of any loan or advance. As a result, banks ensure that the loans issued are likely to be repaid by the borrower with a reasonable degree of certainty. The bank lending function is highly regulated to guarantee responsible policies and procedures to keep these risk factors under control (Anolue, 2010).

In the lending function, banks also manage risk by establishing documented norms and processes for processing each loan request. The majority of bank loans and advances follow several basic rules that serve to reduce the negative effects of lending, particularly the frequency of bad debt. Banks place a high value on a borrower’s character, such as honesty, truthfulness, integrity, and dependability. The sum provided must be able to be repaid with reasonable certainty from the firm’s operations. If the loan is given to a private individual, the source of repayment must be secure. The borrower must be able to provide adequate security that may be used as a backup plan if the projected source of repayment fails (Anolue, 2010).

To assist lower credit risk, all of these precautions are included in lending activity. The danger that the principal or interest, or both or part thereof, of credit granted to a customer, may not be returned by the loan arrangement is known as credit risk ((Fabozzi and Modigliani, 2003). When this occurs, the bank will designate the credit as bad debt, which will eventually be written off. This has a long-term negative impact on the bank, as well as the economy as a whole.

This is exactly what happened to numerous banks in Cameroon that were previously categorized as troubled by the Central Bank of Cameroon. As a result, it is required that banks maintain a high level of efficiency and effectiveness in their operations, particularly in the field of loan-making, given the impact on bank profitability, liquidity, and safety objectives, as well as the overall health of the economy (Cameroon Tribune, 2010).

The number of loans and advances these banks grant, the quality of the loans, and the contingency made for loan losses all influence their performance (Njimated et al., 2017). Banks must ensure that they have enough liquidity to cover their clients’ deposit withdrawals. Excess liquidity, on the other hand, should not be kept idle in banks’ vaults; instead, banks should put these resources to work in profitable ventures, most notably in the form of loans and advances, which account for the majority of their profits (Njimated et al., 2017).

The banking system in Cameroon is segmented into the formal, semi-formal, and informal Sectors. In the formal sector, there are few players with branch networks confine mostly to urban and semi-urban areas. As a result, the bulk of about 80% of the population that is rural makes very little use of the formal banking sector (Tameta, 2011).

This location problem has led to the development of the semi-formal sector in the form of cooperative savings associations and savings and credit associations. In addition, the informal banking sector has proved vital for the rural population. However, the financial sector in Cameroon specializes in short-term credit as opposed to the long-term loans that are necessary for industrial development. The commercial banking subsector has for too long focused on short-term lending that historically has largely targeted the foreign trade sector and large enterprises, leaving a persistent unsatisfied demand for medium-term and long-term capital finance for both large and small-scale enterprises (IMF, 2009).

Banking business involves receiving funds from the public by accepting demand, time, and saving deposits or borrowing from the public or other banks, and using such funds in whole or in part for granting loans, advances, and credit facilities and for investing funds by other means. The formal banking system in Cameroon can be divided into five markets: commercial banks, corporate banks, leasing finance, savings banks, and building societies. These form the core of the financial system in Cameroon (IMF, 2009).

There are seventeen commercial banks in Cameroon (Afriland First Bank, Banque Atlantique, Banque International du Cameroun pour l’Epargne et le Crédit (BICEC), Citibank, Commercial Bank of Cameroon (CBC), Ecobank, National Financial Credit Bank (NFCB), Societe Commercial de Banque – Credit Agricole (SCB -CA), Societe Generale des Banques au Cameroun (SGBC), Standard Chartered Bank, Union Bank of Cameroon-Oceanic (UBC-Oceanic), United Bank for Africa (UBA), Attijariwafa bank from Morocco and the recent BGFI Bank, a Gabonese bank). These banks accept deposits including checking accounts and offer credit services to both individuals and companies (BEAC, 2018).

While the Cameroonian financial sector is said to be dominated by foreign banks, the commercial banks are relatively large as they accounted for around 26.8%of GDP in 2018 (COBAC, 2018).  In terms of credit extension to the domestic economy, Afriland First Bank Cameroon’s largest bank, announces that it has granted a total of 618billion FCFA in credit as of June 30th 2018. Credit was granted as salaries, overdraft, schooling and automotive credits as well as mortgages. In the same period in 2018, the group was one of the five institutions (including SocieteGenerale Cameroun, Eco Bank, SCB and BICEC), which provided about 72% of loans granted to the country. This includes the 3,321.1billion FCFA bank loans granted to Cameroon in 2017, of which Afriland and the 4 other banks provided 2,391.19 billion FCFA. (Ministry of Finance, 2018). It should be noted that Afriland Bank currently operates 43 branches (out of a total of 283 bank branches in Cameroon), 117 ATMs and 197 electronic terminals. The banking sector includes 14 banks and 9 financial institutions (eight of which were operational in 2017).

Commercial banks play the following economic functions: they facilitate the formation and allocation of capital, they transform the risk of financial assets, and they promote market efficiency (Carter, 2004) commercial banks are easily the largest and the most diversified of the financial intermediaries in terms of assets and liabilities. The only major asset that they do not hold is corporate stock, which law prohibits them from acquiring (Foundations of Banking, 2005).

1.2 Statement of the Research Problem

Commercial banking industry in Cameroon has been facing a lot of issues over the past decades. These stern from the increasing competition from microcredit institutions such as credit union and microfinance who have over the years been able to support to the less privilege in rural areas(Ojong and Tabot, 2019). Commercial banks are also faced with the issues of increasing operational cost combined with low-interest rates and a decrease in return on equity, are all putting pressure on commercial banks in Cameroon (Ojong and Tabot, 2019).

The performance of commercial banks is essential in a dynamic and competitive world and therefore annual/regular checking is needed. Most financial institutions utilize debt in different ways to influence the investment made in their assets which influences the return on equity. The debt-equity amount is considered significant in influencing the investment riskiness and general financial performance of commercial banks. The increased risk on investment can lead to poor performance on financial institutions, individuals and companies since the cost of servicing the debt can develop beyond the capacity to repay due to internal difficulties either due to poor resource management or income loss (Mungure, 2015).

Ideally, a debt recovery policy has been used as a legitimate and necessary organizational activity where collectors and creditors can take reasonable steps and procedures to secure payment from businesses or customers or that are bound legally to repay cash they pay or owe (Mungure, 2015).Among the various services provided by the bank, lending has been the primary activity for a decade. It’s against this background that the study seeks to investigate the effect of loan default on the financial performance of commercial banks in Cameroon.

Loan defaults as presented in Figure 1 has been shown to be causes by many factors such as institutional related causes, credit staffs cause and client related causes. The institutional related causes include credit policies and procedure of the financial institution, over reliance of management information system, the multiplier effect and information asymmetry. Credit related causes are limited to lenient credit appraisals techniques, inadequate training, poor loan portfolio management, inadequate credit risk assessment. Client related causes of loan defaults are unplanned borrowing, multiple borrowing, diversion of loans from intended purpose and bankruptcy or insolvency (Kwabi, 2015).

Loan defaults can result to low interest income, additional expenses as a result of bad debt, halt in market expansion, reduce liquidity in the bank this will intend led to unavailable finances needed to aid entrepreneurial access, more opportunities which may create more job (Chelagat,2012).

1.3 Research Questions

The main research question for this study is to investigate; what are the causes and challenges of loan default on the financial performance of commercial banks?

The specific research Questions for this study are;

1. What are the causes of loan default among commercial Banks in Cameroon?
2. What are the challenges management of commercial Banks face in the recovery of delinquent loans?
3. What is the effect of loan default on the financial performance of commercial banks?
4. What measures or strategies can be put in place by commercial banks to minimize loan defaults?

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