AN ANALYSIS OF CREDIT MANAGEMENT IN THE BANKING INDUSTRY (A CASE STUDY OF FIRST BANK OF NIGERIA PLC)

CHAPTER ONE: INTRODUCTION

1.1 Background of the Study

Credit management is a critical function in the banking industry, encompassing the policies, procedures, and practices that banks use to evaluate, approve, monitor, and recover loans and other credit facilities extended to customers. Credit is the lifeblood of banking; banks earn interest income from loans, which is typically their largest source of revenue. However, credit also carries significant risk—the risk that borrowers will default (fail to repay). Effective credit management balances the need to grow the loan portfolio (to generate revenue) with the need to control credit risk (to minimize loan losses). The key components of credit management include: (a) credit assessment and underwriting (evaluating borrower creditworthiness), (b) credit approval and documentation (loan agreements, collateral), (c) credit monitoring and review (tracking borrower performance, financial covenants), (d) problem loan management (early identification, restructuring, recovery), and (e) loan loss provisioning (setting aside reserves for expected losses). Poor credit management leads to high non-performing loans (NPLs), reduced profitability, capital erosion, and in extreme cases, bank failure (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

The Nigerian banking industry has experienced significant credit management challenges over the years. The banking crisis of 2009 was largely attributed to poor credit management practices, including inadequate credit assessment, weak risk management, insider lending, and lack of proper documentation. The crisis led to the intervention of the Central Bank of Nigeria (CBN), which injected billions of Naira into distressed banks, removed bank executives, and established the Asset Management Corporation of Nigeria (AMCON) to absorb toxic assets (non-performing loans). Following the crisis, the CBN implemented significant regulatory reforms to strengthen credit management in the banking industry, including stricter capital adequacy requirements, enhanced risk management guidelines, and the establishment of credit bureaus. Despite these reforms, credit risk remains a significant challenge for Nigerian banks, with non-performing loan ratios fluctuating in response to economic conditions (CBN, 2010, 2020; Adebayo and Oyedokun, 2019).

First Bank of Nigeria Plc is the oldest bank in Nigeria, established in 1894 as the Bank of British West Africa. It is a leading financial services group, offering commercial banking, investment banking, asset management, and insurance services. First Bank has a large customer base, extensive branch network across Nigeria and internationally, and a significant loan portfolio. As a systemically important bank, First Bank’s credit management practices are critical not only to its own performance but also to the stability of the Nigerian banking system. The bank has faced credit management challenges, including elevated non-performing loans in certain periods, leading to regulatory scrutiny and management changes. Understanding how First Bank manages credit risk and the effectiveness of its credit management practices is essential for assessing its financial health and performance (First Bank of Nigeria Plc, 2023; Okafor and Udeh, 2020).

The credit management process in a typical bank like First Bank follows a structured cycle. Credit origination: marketing and customer acquisition, where potential borrowers are identified. Credit assessment and underwriting: evaluation of the borrower’s creditworthiness using the “five Cs of credit” – character (willingness to repay), capacity (ability to repay from cash flow), capital (borrower’s net worth), collateral (assets pledged as security), and conditions (economic and industry factors). Credit approval: loans are approved based on delegated authority (loan officers, credit committees, board credit committee) depending on loan size and risk. Credit documentation: legal agreements, promissory notes, security documents, and collateral perfection. Credit disbursement: funds are released to the borrower after all conditions precedent are met. Credit monitoring: ongoing review of borrower financial performance, compliance with covenants, collateral valuation, and early warning indicators. Problem loan management: when loans become past due, banks engage in collection efforts, restructuring, and ultimately, recovery through legal action or collateral realization. Loan loss provisioning: accounting for expected credit losses under IFRS 9 (CBN, 2014; Rose and Hudgins, 2018).

The concept of non-performing loans (NPLs) is central to credit management. A loan is classified as non-performing when principal or interest is past due for 90 days or more (or earlier if there is evidence that the borrower will not pay). High NPL ratios indicate poor credit management, adverse economic conditions, or both. The NPL ratio is calculated as non-performing loans divided by total loans. The CBN has set a maximum permissible NPL ratio of 5% for Nigerian banks. When NPLs exceed this threshold, banks are required to increase loan loss provisions, which reduces profits and capital. For First Bank, managing NPLs within regulatory limits is a key performance indicator (CBN, 2014; Okafor and Udeh, 2021).

Credit risk assessment tools include both quantitative and qualitative factors. Quantitative assessment includes analysis of the borrower’s financial statements (liquidity, profitability, leverage, cash flow), credit bureau reports (borrower’s credit history with other lenders), and financial ratios (debt service coverage ratio, loan-to-value ratio). Qualitative assessment includes evaluation of management competence, industry risk, regulatory environment, and borrower character. For corporate borrowers, banks also analyze the borrower’s business model, competitive position, and supply chain. For retail borrowers (individuals), banks use credit scoring models that assign numerical scores based on income, employment history, credit history, and other factors. First Bank uses a combination of these tools to assess credit risk (Saunders and Cornett, 2019; Rose and Hudgins, 2018).

The role of collateral in credit management is significant. Collateral is an asset pledged by the borrower to secure a loan, which the bank can seize and sell if the borrower defaults. Types of collateral include: (a) real estate (land, buildings), (b) financial assets (stocks, bonds, deposits), (c) movable assets (vehicles, equipment, inventory), (d) personal guarantees (third-party guarantors). Collateral reduces credit risk because the bank has a secondary source of repayment. However, collateral is not a substitute for sound credit assessment; if the borrower’s cash flow is insufficient, the bank may still incur losses if collateral values decline or if realization is costly and time-consuming. For First Bank, collateral perfection (ensuring that security documents are legally enforceable) is an important control activity (CBN, 2014; Okafor and Udeh, 2020).

The concept of credit concentration risk is important. Concentration risk arises when a bank’s loan portfolio is heavily exposed to a single borrower, a group of related borrowers, a specific industry, or a geographic region. High concentration increases risk because a single default (or industry downturn) can cause significant losses. The CBN imposes single obligor limits (maximum percentage of capital that can be lent to one borrower) and sectoral limits (maximum exposure to certain sectors like oil and gas, real estate). For First Bank, managing concentration risk involves diversifying the loan portfolio across borrowers, industries, and regions (CBN, 2014; Rose and Hudgins, 2018).

The loan loss provisioning framework under IFRS 9 (International Financial Reporting Standard 9) is a significant development in credit management. Under IFRS 9, banks must recognize expected credit losses (ECL) from the time a loan is originated, rather than waiting for a loss event. Loans are classified into three stages: Stage 1 (performing – 12-month ECL), Stage 2 (significant increase in credit risk – lifetime ECL), Stage 3 (credit impaired – lifetime ECL with interest recognized on net carrying amount). The ECL model requires banks to use forward-looking information (economic forecasts) in estimating losses. For First Bank, IFRS 9 has increased the timeliness of loss recognition but also increased volatility in provisions (IFRS Foundation, 2014; Okafor and Udeh, 2021).

Credit monitoring and early warning systems are essential for preventing loan deterioration. Early warning indicators include: (a) deterioration in borrower financial ratios, (b) late payment of interest or principal, (c) drawdown of entire credit line, (d) request for loan restructuring or additional credit, (e) adverse news about borrower (litigation, regulatory action, loss of key customer), (f) decline in collateral value, (g) deterioration in industry conditions. When early warning indicators are triggered, banks intensify monitoring, request additional information, require corrective action, and potentially downgrade the loan classification. For First Bank, effective early warning systems can identify problem loans before they become non-performing, enabling proactive management (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

Problem loan management involves workout and recovery strategies. Workout refers to restructuring the loan to help the borrower recover (e.g., extending maturity, reducing interest rate, converting debt to equity, granting payment moratorium). Recovery refers to legal action to enforce repayment, including appointment of receivers, foreclosure on collateral, or filing lawsuits. Banks must balance the desire to recover funds with the cost and time of legal action, and the impact on customer relationships. For First Bank, the Asset Management Corporation of Nigeria (AMCON) purchased many non-performing loans from Nigerian banks (including First Bank) during the banking crisis. For more recent problem loans, the bank uses internal workout units and external lawyers (CBN, 2010; Okafor and Udeh, 2020).

The impact of macroeconomic conditions on credit management is substantial. Economic recession increases default risk as businesses fail and individuals lose jobs. Currency devaluation affects borrowers with foreign currency loans (who earn in Naira but owe in dollars). Interest rate increases raise debt service costs, potentially triggering defaults. Inflation erodes real incomes, affecting repayment capacity. For First Bank, credit management must be sensitive to the macroeconomic environment, with proactive adjustments to underwriting standards, portfolio composition, and provisioning (CBN, 2021; Adebayo and Oyedokun, 2020).

The role of credit bureaus in credit management has grown significantly in Nigeria. Credit bureaus (CRC Credit Bureau, First Central Credit Bureau, etc.) collect credit information from banks and other lenders, creating credit reports on borrowers. These reports enable banks to assess borrower credit history across the entire banking system, reducing information asymmetry. For First Bank, access to credit bureau reports improves underwriting accuracy and reduces the risk of over-indebtedness (multiple loans from different banks). The CBN has mandated that all banks must check credit bureau reports before approving loans above certain thresholds (CBN, 2014; Okafor and Udeh, 2021).

Finally, this study focuses on First Bank of Nigeria Plc as a case study because it is a large, systemically important bank with a significant loan portfolio and a history of credit management challenges. By analyzing First Bank’s credit management practices, the study can provide insights applicable to other Nigerian banks and to the banking industry more broadly. The findings will contribute to the literature on credit risk management and provide practical recommendations for improving credit management in the banking industry (Yin, 2018; Creswell and Creswell, 2018).

1.2 Statement of the Problem

First Bank of Nigeria Plc, like other Nigerian banks, operates in an environment characterized by economic volatility (recession, currency devaluation, inflation), regulatory changes (CBN prudential guidelines, IFRS 9), and competition. Credit management is a critical function that directly affects the bank’s profitability, capital adequacy, and regulatory compliance. Despite the bank’s long history and market position, it has faced credit management challenges, including elevated non-performing loans (NPLs) in certain periods, regulatory scrutiny, and management changes. Evidence suggests potential problems: (a) high NPL ratios exceeding regulatory thresholds (5%) at certain times, (b) significant loan loss provisions eroding profits, (c) concentration risk in certain sectors (oil and gas, real estate), (d) insider lending concerns, (e) inadequate collateral documentation, (f) weak credit monitoring and early warning systems, (g) slow recovery of problem loans, and (h) the impact of adverse macroeconomic conditions on borrower repayment capacity. These problems, if not adequately addressed, threaten the bank’s financial stability, profitability, and ability to extend credit to the economy. There is a lack of recent, systematic, empirical research that analyzes credit management practices at First Bank of Nigeria Plc, assesses their effectiveness, and identifies areas for improvement. Therefore, this study is motivated to analyze credit management in the banking industry, using First Bank of Nigeria Plc as a case study.

1.3 Aim of the Study

The aim of this study is to analyze credit management in the banking industry, using First Bank of Nigeria Plc as a case study.

1.4 Objectives of the Study

The specific objectives of this study are to:

1. Examine the credit management policies and procedures (credit assessment, approval, documentation, monitoring, recovery) of First Bank of Nigeria Plc.
2. Assess the quality of First Bank’s loan portfolio using key metrics (non-performing loan ratio, loan loss provision ratio, concentration risk, sectoral exposure).
3. Determine the relationship between credit management practices and the bank’s financial performance (profitability, capital adequacy, return on assets).
4. Identify the challenges affecting credit management at First Bank (economic conditions, regulatory changes, borrower behavior, internal weaknesses).
5. Propose recommendations for improving credit management practices at First Bank and other Nigerian banks.

1.5 Research Questions

The following research questions guide this study:

1. What are the credit management policies and procedures (credit assessment, approval, documentation, monitoring, recovery) of First Bank of Nigeria Plc?
2. What is the quality of First Bank’s loan portfolio (non-performing loan ratio, loan loss provision ratio, concentration risk, sectoral exposure)?
3. What is the relationship between credit management practices and the bank’s financial performance (profitability, capital adequacy, return on assets)?
4. What are the major challenges affecting credit management at First Bank (economic conditions, regulatory changes, borrower behavior, internal weaknesses)?
5. What recommendations can be made to improve credit management practices at First Bank and other Nigerian banks?

1.6 Research Hypotheses

The following hypotheses are formulated in null (H₀) and alternative (H₁) forms:

Hypothesis One

• H₀: Credit management practices have no significant effect on the non-performing loan ratio of First Bank of Nigeria Plc.
• H₁: Credit management practices have a significant effect on the non-performing loan ratio of First Bank of Nigeria Plc.

Hypothesis Two

• H₀: There is no significant relationship between loan loss provisions and the profitability (return on assets) of First Bank.
• H₁: There is a significant relationship between loan loss provisions and the profitability (return on assets) of First Bank.

Hypothesis Three

• H₀: Sectoral concentration (oil and gas, real estate) does not significantly affect credit risk at First Bank.
• H₁: Sectoral concentration (oil and gas, real estate) significantly affects credit risk at First Bank.

Hypothesis Four

• H₀: Challenges such as economic recession, currency devaluation, and weak collateral documentation do not significantly affect credit management effectiveness at First Bank.
• H₁: Challenges such as economic recession, currency devaluation, and weak collateral documentation significantly affect credit management effectiveness at First Bank.

1.7 Significance of the Study

This study is significant for several stakeholders. First, First Bank of Nigeria Plc’s management and board will benefit from a systematic analysis of credit management practices, enabling them to identify weaknesses, strengthen policies, and improve loan portfolio quality. Second, other Nigerian banks can use the findings as a benchmark for evaluating and improving their own credit management practices. Third, the Central Bank of Nigeria (CBN) and the Nigeria Deposit Insurance Corporation (NDIC) will gain insights into credit management challenges in a systemically important bank, informing regulatory guidelines, supervision, and stress testing. Fourth, the Asset Management Corporation of Nigeria (AMCON) will benefit from understanding recurring credit management weaknesses, informing future interventions. Fifth, investors and financial analysts will gain insights into First Bank’s credit risk profile, supporting investment and credit rating decisions. Sixth, credit bureaus and other financial infrastructure providers will gain insights into bank credit management needs, informing product development. Seventh, academics and researchers in banking, finance, and risk management will benefit from the study’s contribution to the literature on credit management in developing economies. Eighth, professional bodies (ICAN, ANAN, CIBN) will find value in the study’s identification of credit management challenges, informing training and CPD programs. Ninth, bank customers and the general public will benefit indirectly as improved credit management leads to a more stable banking system and better access to credit. Finally, the broader Nigerian economy will benefit as improved credit management in the banking sector supports sustainable lending, economic growth, and financial stability.

1.8 Scope of the Study

This study focuses on the analysis of credit management in the banking industry, using First Bank of Nigeria Plc as a case study. Geographically, the research is limited to the Nigerian operations of First Bank, with primary focus on its corporate headquarters and credit administration functions. First Bank is a commercial bank and financial services group. Content-wise, the study examines the following areas: credit management policies and procedures (credit assessment, underwriting, approval authorities, documentation, collateral perfection, disbursement); credit monitoring (early warning indicators, covenant tracking, portfolio reviews); problem loan management (workout, restructuring, recovery, legal action); loan portfolio quality (non-performing loan ratio, loan loss provision ratio, NPL coverage ratio); concentration risk (single obligor, sectoral, geographic); profitability and capital adequacy; and challenges (economic conditions, regulatory changes, borrower behavior, internal weaknesses). The study targets First Bank’s annual reports, financial statements, credit policy documents, regulatory filings, and management reports. The time frame for data collection is the cross-sectional period of 2018-2023, with historical data (e.g., 10-15 years) as available to identify trends. The study does not cover other banks (except for comparative context), nor does it cover non-credit functions (treasury, investment banking, operations), nor does it cover the bank’s subsidiaries beyond the parent bank.

1.9 Definition of Terms

Credit Management: The policies, procedures, and practices used by a bank to evaluate, approve, monitor, and recover loans and other credit facilities extended to customers.

Credit Risk: The risk that a borrower will fail to repay principal or interest on a loan as contractually agreed, leading to financial loss for the bank.

Non-Performing Loan (NPL): A loan where principal or interest is past due for 90 days or more (or earlier if there is evidence that the borrower will not pay).

NPL Ratio: Non-performing loans divided by total loans; a key indicator of loan portfolio quality.

Loan Loss Provision (LLP): An expense recognized to set aside reserves for expected credit losses on loans, reducing reported profit.

Loan Loss Reserve (Allowance for Credit Losses): A contra-asset account representing the estimated amount of loans that will not be collected.

NPL Coverage Ratio: Loan loss reserve divided by non-performing loans; measures the adequacy of provisions relative to problem loans.

Underwriting: The process of evaluating a borrower’s creditworthiness and determining loan terms (amount, interest rate, maturity, covenants, collateral).

Collateral: An asset pledged by a borrower to secure a loan, which the bank can seize and sell if the borrower defaults.

Credit Scoring: A statistical model that assigns a numerical score to a borrower based on financial and personal characteristics, used to predict default probability.

Five Cs of Credit: Character, capacity, capital, collateral, and conditions – the five factors used to assess borrower creditworthiness.

Single Obligor Limit: The maximum percentage of a bank’s capital that can be lent to a single borrower or group of related borrowers, set by regulation to limit concentration risk.

Sectoral Concentration: The proportion of a bank’s loan portfolio exposed to a specific industry sector (e.g., oil and gas, real estate, manufacturing).

Insider Lending: Loans extended to directors, key management personnel, or their related parties, which are subject to stricter regulation due to higher risk of self-dealing.

Workout: The process of restructuring a loan to help a distressed borrower recover, including extending maturity, reducing interest, converting debt to equity, or granting payment moratorium.

Foreclosure: The legal process by which a bank seizes and sells collateral (usually real estate) to recover a defaulted loan.

Expected Credit Loss (ECL): The expected credit losses over the life of a loan (lifetime ECL) or next 12 months (12-month ECL), recognized under IFRS 9.

IFRS 9: International Financial Reporting Standard 9, which introduced the expected credit loss model for loan loss provisioning, replacing the incurred loss model.

Capital Adequacy Ratio (CAR): The ratio of a bank’s capital to its risk-weighted assets; minimum requirement set by the CBN (typically 10-15% depending on classification).

Return on Assets (ROA): Net profit divided by total assets; measures how efficiently a bank uses its assets to generate profit.

Return on Equity (ROE): Net profit divided by shareholders’ equity; measures the return earned on owners’ investment.

First Bank of Nigeria Plc: The oldest bank in Nigeria, established in 1894, a leading financial services group, serving as the case study for this research.

Central Bank of Nigeria (CBN): The apex monetary authority of Nigeria, responsible for regulating banks and setting prudential guidelines for credit management.

Asset Management Corporation of Nigeria (AMCON): A government agency established to purchase non-performing loans from banks following the 2009 banking crisis.

Credit Bureau: An agency that collects and maintains credit information on borrowers, providing credit reports to banks for underwriting purposes.

CHAPTER TWO: LITERATURE REVIEW

2.1 Conceptual Framework

A conceptual framework is a structural representation of the key concepts or variables in a study and the hypothesized relationships among them. It serves as the analytical lens through which the researcher organizes the study, selects appropriate methodology, and interprets findings. In this study, the conceptual framework is built around two primary constructs: Credit Management (the independent variable) and Bank Performance (the dependent variable). Additionally, the framework identifies the specific dimensions of each construct and the moderating variables that influence the relationship (Miles, Huberman, and Saldaña, 2020).

2.1.1 Dependent Variables: Bank Performance

Bank performance, the dependent variable in this study, refers to the financial health, profitability, and stability of a bank, which are directly affected by the quality of its credit management. For the purpose of this study, bank performance is conceptualized along five key dimensions that are relevant to First Bank of Nigeria Plc. Each dimension is influenced by credit management practices (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

The first dimension is loan portfolio quality. This refers to the proportion of the loan portfolio that is performing (borrowers paying on time) versus non-performing (borrowers in default). Key metrics include: (a) non-performing loan (NPL) ratio – NPLs divided by total loans; lower ratios indicate better quality, (b) NPL coverage ratio – loan loss reserves divided by NPLs; higher ratios indicate better provisioning, (c) loan loss provision ratio – loan loss provisions divided by total loans; indicates the cost of credit risk, (d) net charge-off ratio – actual loan losses written off divided by total loans. Poor credit management leads to higher NPLs, higher provisions, and lower profitability (CBN, 2014; Okafor and Udeh, 2020).

The second dimension is profitability. This refers to the bank’s ability to generate earnings from its operations, including interest income from loans. Key metrics include: (a) return on assets (ROA) – net profit divided by total assets; measures overall efficiency, (b) return on equity (ROE) – net profit divided by shareholders’ equity; measures return to shareholders, (c) net interest margin (NIM) – net interest income divided by average earning assets; measures lending profitability, (d) cost-to-income ratio – operating expenses divided by operating income; measures efficiency. Credit management affects profitability through: interest income from performing loans, interest forgone on NPLs, loan loss provisions (expense), and recovery income from problem loans (Rose and Hudgins, 2018; Okafor and Udeh, 2021).

The third dimension is capital adequacy. This refers to the bank’s ability to absorb losses from credit defaults without becoming insolvent. Key metrics include: (a) capital adequacy ratio (CAR) – capital divided by risk-weighted assets; regulatory minimum is typically 10-15%, (b) tier 1 capital ratio – core capital divided by risk-weighted assets, (c) leverage ratio – tier 1 capital divided by average total assets. High NPLs erode capital through loan loss provisions (which reduce retained earnings) and direct write-offs. Banks with poor credit management may fall below regulatory capital requirements, triggering intervention (CBN, 2014; Saunders and Cornett, 2019).

The fourth dimension is liquidity. This refers to the bank’s ability to meet its short-term obligations (deposit withdrawals, loan funding) without incurring unacceptable losses. Key metrics include: (a) loan-to-deposit ratio – total loans divided by total deposits; high ratios indicate illiquidity, (b) liquidity coverage ratio (LCR) – high-quality liquid assets divided by net cash outflows over 30 days, (c) cash reserve ratio – cash held with CBN divided by total deposits. Poor credit management (high NPLs) reduces cash flow from loan repayments, straining liquidity. Banks may be forced to sell liquid assets or borrow at high cost (Rose and Hudgins, 2018; CBN, 2020).

The fifth dimension is regulatory compliance. This refers to the bank’s adherence to prudential guidelines and regulatory requirements related to credit management. Key areas include: (a) single obligor limits – not lending more than a specified percentage of capital to one borrower, (b) sectoral limits – not exceeding specified exposure to certain sectors (oil and gas, real estate), (c) insider lending limits – restrictions on loans to directors and related parties, (d) classification and provisioning – correct classification of loans (performing, watch, substandard, doubtful, loss) and adequate provisioning, (e) credit bureau reporting – submitting borrower data to credit bureaus. Non-compliance can result in penalties, restrictions, or regulatory intervention (CBN, 2014; Okafor and Udeh, 2020).

These five dimensions—loan portfolio quality, profitability, capital adequacy, liquidity, and regulatory compliance—are interrelated. Poor loan quality (high NPLs) reduces profitability (through provisions), erodes capital, strains liquidity, and may cause regulatory non-compliance. For First Bank, effective credit management is essential for maintaining strong performance across all five dimensions (Miles et al., 2020; Creswell and Creswell, 2018).

2.1.2 Independent Variables: Credit Management

Credit management, the independent variable in this study, refers to the policies, procedures, and practices used by a bank to evaluate, approve, monitor, and recover loans. For the purpose of this study, credit management is conceptualized along six key dimensions that are relevant to First Bank of Nigeria Plc. Each dimension represents a stage or aspect of the credit management process that affects loan portfolio quality and bank performance (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

The first dimension is credit assessment and underwriting. This refers to the process of evaluating a borrower’s creditworthiness before approving a loan. Key elements include: (a) financial analysis – analysis of borrower financial statements (liquidity, profitability, leverage, cash flow), (b) credit scoring – use of statistical models to predict default probability, (c) credit bureau checks – review of borrower’s credit history with other lenders, (d) collateral valuation – assessment of the value and enforceability of pledged assets, (e) cash flow analysis – assessment of the borrower’s ability to generate sufficient cash flow to service the loan (debt service coverage ratio), and (f) qualitative assessment – evaluation of management competence, industry risk, and regulatory environment. Weak underwriting leads to adverse selection (approving high-risk borrowers) and higher NPLs (CBN, 2014; Okafor and Udeh, 2020).

The second dimension is credit approval and authorization. This refers to the governance structure for approving loans. Key elements include: (a) delegated lending authority – loan officers have limits based on their experience and seniority; loans above limits require higher approval, (b) credit committee – a committee of senior managers reviews large or complex credits, (c) board credit committee – for the largest credits (above certain thresholds), (d) segregation of duties – the person who approves the loan should not be the same person who originated or disbursed it, (e) policy exceptions – any deviation from credit policy requires higher approval. Weak approval processes (e.g., loans approved by a single person without adequate review) increase the risk of poor credit decisions (Rose and Hudgins, 2018; CBN, 2014).

The third dimension is collateral and documentation. This refers to the legal and administrative processes for securing loans. Key elements include: (a) loan agreements – legally binding contracts specifying amount, interest rate, maturity, repayment schedule, covenants, (b) security documents – mortgages, charges, pledges, guarantees that give the bank rights over collateral, (c) collateral perfection – registration of security interests with relevant registries (Corporate Affairs Commission, Land Registry), (d) documentation review – legal review of all documents before disbursement, (e) custody of documents – secure storage of original documents. Weak documentation (missing signatures, unperfected collateral) makes it difficult or impossible to recover loans in default (CBN, 2014; Okafor and Udeh, 2021).

The fourth dimension is credit monitoring and portfolio review. This refers to ongoing oversight of the loan portfolio after disbursement. Key elements include: (a) financial covenant tracking – monitoring borrower compliance with financial ratios and other covenants, (b) early warning indicators – tracking triggers that may signal deteriorating credit quality (late payments, financial deterioration, adverse news), (c) site visits – visiting borrower’s business premises to verify operations, (d) collateral monitoring – tracking collateral value and condition, (e) portfolio reviews – periodic analysis of loan portfolio composition, concentration, and quality, (f) loan grading – assigning risk ratings to each loan (pass, watch, special mention, substandard, doubtful, loss). Weak monitoring allows problems to escalate undetected, leading to higher NPLs (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

The fifth dimension is problem loan management and recovery. This refers to actions taken when loans become delinquent or defaulted. Key elements include: (a) early collection – contact with borrowers as soon as a payment is missed, (b) restructuring and workout – modifying loan terms (extension, rate reduction, payment moratorium) to help the borrower recover, (c) legal action – filing lawsuits, obtaining judgments, enforcing collateral (foreclosure), (d) debt sale – selling non-performing loans to asset management companies or debt collectors, (e) write-off – removing the loan from the balance sheet when recovery is unlikely (after exhausting collection efforts). Effective problem loan management minimizes losses and recovers value (CBN, 2014; Okafor and Udeh, 2020).

The sixth dimension is loan loss provisioning. This refers to the accounting recognition of expected credit losses. Under IFRS 9, banks must recognize: (a) 12-month expected credit losses (ECL) for loans with no significant increase in credit risk (Stage 1), (b) lifetime ECL for loans with significant increase in credit risk (Stage 2), (c) lifetime ECL with interest recognized on net carrying amount for credit-impaired loans (Stage 3). Provisioning accuracy depends on the quality of credit monitoring and risk assessment. Under-provisioning understates losses and overstates profit; over-provisioning understates profit and reduces capital unnecessarily (IFRS Foundation, 2014; Okafor and Udeh, 2021).

These six dimensions—underwriting, approval, documentation, monitoring, recovery, and provisioning—are sequential and interdependent. Weakness in any dimension undermines the effectiveness of the entire credit management system. For First Bank, an effective credit management system requires all six dimensions to function properly (Miles et al., 2020; Creswell and Creswell, 2018).

The conceptual framework posits a positive relationship between the effectiveness of credit management (independent variable) and bank performance (dependent variable). Specifically, banks with strong credit assessment, approval, documentation, monitoring, recovery, and provisioning practices are expected to have lower NPL ratios, higher profitability, stronger capital adequacy, better liquidity, and regulatory compliance. However, this relationship is moderated by several factors, including macroeconomic conditions, regulatory changes, and competition, which are discussed in the theoretical framework (Rose and Hudgins, 2018; Saunders and Cornett, 2019).

2.2 Theoretical Framework

A theoretical framework is a collection of interrelated concepts, definitions, and propositions that present a systematic view of phenomena by specifying relationships among variables, with the purpose of explaining and predicting those phenomena. In this study, five major theories are adopted to explain the relationship between credit management and bank performance: the Credit Risk Theory, the Asymmetric Information Theory, the Financial Intermediation Theory, the Agency Theory, and the Portfolio Theory. These theories collectively provide a robust lens for understanding how credit management affects bank performance, why credit risk arises, and under what conditions credit management is most effective (Altman, 1968; Akerlof, 1970; Diamond, 1984; Jensen and Meckling, 1976; Markowitz, 1952).

2.2.1 Credit Risk Theory

Credit Risk Theory, as developed in the banking and finance literature (Altman, 1968; Merton, 1974), explains the nature, measurement, and management of credit risk. Credit risk is the risk that a borrower will fail to repay a loan as contractually agreed, causing financial loss to the lender. The theory identifies sources of credit risk: (a) default risk – the borrower simply stops paying, (b) downgrade risk – the borrower’s credit rating deteriorates, increasing the probability of default and potentially requiring higher provisions, (c) recovery risk – if the borrower defaults, the amount recovered from collateral or liquidation may be less than the outstanding loan (loss given default). The theory provides models for measuring credit risk, including: (a) Altman Z-Score – a discriminant model using financial ratios to predict bankruptcy, (b) Merton structural model – default occurs when asset value falls below debt value, (c) credit scoring models – statistical models predicting default probability based on borrower characteristics, and (d) credit rating systems – internal or external ratings (AAA to D) (Altman, 1968; Merton, 1974).

In the context of this study, Credit Risk Theory explains why credit management is essential for banks like First Bank. Banks must measure and manage credit risk to avoid losses that could threaten solvency. The theory predicts that banks with sophisticated credit risk measurement and management systems will have lower NPL ratios and better performance. The theory also explains the importance of diversification: by lending to many borrowers across different industries and regions, banks reduce the impact of any single default (unsystematic risk). However, diversification cannot eliminate systematic risk (economy-wide recession). For First Bank, Credit Risk Theory suggests that the bank should use quantitative credit risk models, maintain a diversified portfolio, and hold adequate capital against unexpected losses (Altman, 1968; Saunders and Cornett, 2019).

Credit Risk Theory also explains the concept of expected loss (EL) = probability of default (PD) × exposure at default (EAD) × loss given default (LGD). Banks must set aside provisions (loan loss reserves) for expected losses, and hold capital for unexpected losses (losses exceeding expectations). IFRS 9’s expected credit loss model is consistent with Credit Risk Theory. For First Bank, accurate estimation of PD, EAD, and LGD is essential for provisioning and capital adequacy (Merton, 1974; Okafor and Udeh, 2020).

Empirical research has confirmed that credit risk management practices (credit scoring, diversification, collateral) are associated with lower NPLs and higher bank profitability. For First Bank, Credit Risk Theory suggests that investment in credit risk infrastructure is a profitable investment (Altman, 1968).

2.2.2 Asymmetric Information Theory

Asymmetric Information Theory, famously articulated by Akerlof (1970) in his “market for lemons” paper, explains that when one party to a transaction has more or better information than another party, markets can fail. In banking, asymmetric information arises because borrowers have better information about their own creditworthiness, business prospects, and intentions than the bank does. This leads to two problems: (a) adverse selection – before lending, banks cannot distinguish good borrowers from bad borrowers; higher-risk borrowers are more willing to accept higher interest rates, leading to a pool of borrowers that is riskier than average (the “lemons” problem), (b) moral hazard – after lending, borrowers may take actions that increase the risk of default (e.g., excessive risk-taking, diverting funds) because they know the bank cannot monitor all their activities (Akerlof, 1970; Stiglitz and Weiss, 1981).

In the context of this study, Asymmetric Information Theory explains why credit management practices such as credit assessment, underwriting, and monitoring are essential. Banks reduce adverse selection by: (a) screening – collecting information on borrowers through financial statements, credit bureau reports, references, and interviews, (b) credit scoring – using statistical models to predict default, (c) collateral – requiring assets to secure the loan, which screens out borrowers who do not have assets. Banks reduce moral hazard by: (a) monitoring – regular review of borrower financial performance and compliance with covenants, (b) covenants – contractual restrictions on borrower actions (e.g., maintaining certain financial ratios, limiting additional debt), (c) incentive alignment – structuring loans with borrower equity at risk (e.g., requiring borrower to retain a portion of the project cost) (Stiglitz and Weiss, 1981; Diamond, 1984).

Asymmetric Information Theory also explains the role of credit bureaus. By sharing credit information across banks, credit bureaus reduce information asymmetry because a borrower’s credit history with other lenders is visible. This reduces adverse selection (banks can see if a borrower has defaulted elsewhere) and reduces moral hazard (borrowers know that default will be reported, damaging their ability to borrow from other banks). For First Bank, participation in credit bureaus and use of credit bureau reports are essential credit management practices (Akerlof, 1970; CBN, 2014).

Empirical research has found that banks that invest in screening and monitoring have lower NPL ratios. For First Bank, Asymmetric Information Theory suggests that credit management should focus on reducing information asymmetry through robust underwriting and monitoring (Stiglitz and Weiss, 1981).

2.2.3 Financial Intermediation Theory

Financial Intermediation Theory, developed by Diamond (1984) and others, explains why banks (financial intermediaries) exist. Banks perform the function of channeling funds from savers (depositors) to borrowers (firms and individuals). They overcome the problems of asymmetric information and transaction costs that would prevent direct lending between savers and borrowers. Banks have comparative advantages in: (a) information production – banks develop expertise in evaluating borrowers, reducing adverse selection, (b) monitoring – banks monitor borrowers on behalf of many small depositors who cannot monitor individually, reducing moral hazard, (c) liquidity provision – banks offer depositors demand deposits (withdrawable at any time) while making illiquid loans to borrowers, (d) risk pooling – banks diversify across many loans, reducing the risk borne by any individual depositor (Diamond, 1984; Diamond and Rajan, 2001).

In the context of this study, Financial Intermediation Theory explains why credit management is central to the bank’s business model. Banks earn profits by charging borrowers an interest rate higher than the rate paid to depositors, but this profit depends on the borrowers repaying. Poor credit management erodes the bank’s ability to intermediate effectively: depositors may lose confidence and withdraw funds, and the bank may fail. The theory predicts that banks with superior credit management (better screening, monitoring, and enforcement) will have lower cost of funds (depositors trust them) and higher profitability. For First Bank, effective credit management is not just about minimizing losses; it is about maintaining the trust of depositors and other creditors (Diamond, 1984; Saunders and Cornett, 2019).

Financial Intermediation Theory also explains the role of relationship banking. By establishing long-term relationships with borrowers, banks gain proprietary information that is not available to other lenders. This reduces information asymmetry and enables more efficient credit decisions. For First Bank, its long history and extensive customer relationships provide a source of competitive advantage in credit management (Diamond and Rajan, 2001; Rose and Hudgins, 2018).

Empirical research has found that banks with stronger credit management capabilities have lower funding costs and higher profitability. For First Bank, Financial Intermediation Theory suggests that credit management is a core competency that differentiates successful banks from unsuccessful ones (Diamond, 1984).

2.2.4 Agency Theory

Agency Theory, developed by Jensen and Meckling (1976), describes the relationship between principals (shareholders) and agents (managers). In a bank, shareholders (principals) delegate decision-making authority to managers (agents), including credit decisions. Agency Theory posits that agents may not always act in the best interests of principals due to information asymmetry (managers have more information about loan quality than shareholders) and divergent interests (managers may pursue personal goals such as bonuses, job security, or power rather than shareholder value maximization). This creates agency costs. In credit management, agency problems can arise when: (a) loan officers approve risky loans to meet volume targets (bonus incentives), (b) insider lending – loans to directors or related parties at favorable terms, (c) empire building – growing the loan portfolio too fast, without adequate risk control, (d) gaming – misclassifying problem loans to avoid provisioning (Jensen and Meckling, 1976; Watts and Zimmerman, 1986).

In the context of this study, Agency Theory explains the need for governance mechanisms to align credit management decisions with shareholder interests. Key mechanisms include: (a) credit approval hierarchy – requiring multiple approvals for large loans, reducing individual discretion, (b) credit committees – group decision-making reduces individual bias, (c) independent loan review – internal audit or external review of loan files to verify compliance and assess quality, (d) risk-adjusted performance metrics – compensating loan officers based on risk-adjusted returns (not just volume), (e) whistleblower policies – allowing employees to report unethical credit practices, (f) board oversight – the board credit committee reviews large loans and credit policy. For First Bank, Agency Theory suggests that strengthening governance mechanisms can reduce agency costs and improve credit management (Jensen and Meckling, 1976; Okafor and Udeh, 2021).

Agency Theory also explains the problem of regulatory oversight as a governance mechanism. The CBN acts as an agent of the public (depositors and taxpayers) to monitor banks. Prudential guidelines (limits, provisioning rules) constrain manager discretion. Sanctions for non-compliance (penalties, management removal) create consequences. For First Bank, regulatory oversight is an important check on managerial agency problems in credit management (CBN, 2014; Shleifer and Vishny, 1997).

Empirical research has found that banks with stronger governance (independent boards, active credit committees, internal audit) have lower NPL ratios. For First Bank, Agency Theory suggests that credit management must be embedded in a strong governance framework (Jensen and Meckling, 1976).

2.2.5 Portfolio Theory

Portfolio Theory, developed by Markowitz (1952) and extended to banking, explains how diversification reduces risk. The theory posits that by combining assets with imperfectly correlated returns, the overall portfolio risk can be reduced below the weighted average of individual asset risks. In banking, the loan portfolio is the bank’s primary asset. Diversification across borrowers, industries, and geographic regions reduces credit risk because not all borrowers default at the same time. The theory predicts that banks with more diversified loan portfolios will have lower NPL volatility and lower required capital (Markowitz, 1952; Saunders and Cornett, 2019).

In the context of this study, Portfolio Theory explains the importance of managing concentration risk in credit management. The CBN imposes single obligor limits and sectoral limits to enforce diversification. For First Bank, a loan portfolio heavily concentrated in the oil and gas sector or real estate sector would have higher risk than a diversified portfolio. Portfolio Theory suggests that credit management should include regular analysis of portfolio concentration and active diversification (CBN, 2014; Rose and Hudgins, 2018).

Portfolio Theory also explains the concept of risk-adjusted return on capital (RAROC) . Banks should allocate capital to loans based on their risk; loans with higher credit risk should earn higher returns to compensate. For First Bank, using RAROC in credit pricing and approval decisions ensures that the bank is adequately compensated for the risks it takes. Poor credit management includes underpricing risk (charging too little for risky loans) (Markowitz, 1952; Saunders and Cornett, 2019).

Empirical research has found that banks with more diversified loan portfolios have lower NPL ratios and higher profitability. For First Bank, Portfolio Theory suggests that diversification should be a key objective of credit management (Markowitz, 1952).