In the first half of 2022, the Central Bank of Nigeria (the “CBN”) issued the Guidelines for the Regulation and Supervision of Credit Guarantee Companies in Nigeria (the “Guidelines”) in furtherance of the Bank’s efforts to improve access to finance and lending for micro, small and medium scale enterprises (“MSMEs”) in Nigeria. To achieve this, the Guidelines introduce a regulatory framework for credit guarantee schemes (“CGS”) in Nigeria to promote flexible collateral requirements by lenders, reduce credit risk, stimulate lower interest rates and accelerate economic growth in the country.
Given that MSMEs make up an estimated 90% of all registered businesses in Nigeria, contribute over 50% of the country’s nominal gross domestic product (GDP), and account for over 80% of employment, creating a sustainable business environment for them to thrive is crucial if the country is to achieve any meaningful inclusive growth and development. This is why the creation by the CBN of a regulatory framework for credit guarantee schemes and the operation of credit guarantee companies in Nigeria is a laudable move toward increasing access to finance for MSMEs in the country.
Highlights of the Guidelines
1. Definition of Credit Guarantee Companies
The Guidelines define a Credit Guarantee Company (“CGC”) as an institution licensed by the CBN with the primary objective of providing guarantees to Participating Financial Institutions (“PFIs”) i.e. banks and other CBN-licensed lending financial institutions against the risk of default by obligors i.e. MSMEs.
2. Scope of Credit Guarantee by CGCs
CGCs are to provide third-party credit risk mitigation to lenders (“PFIs”) through the absorption of a portion of the lender’s losses on the loans made to Nigeria-based MSMEs in case of default. A guarantee issued by a CGC represents a legal commitment to discharge an agreed portion of the liability of a borrower in the case of default.
PFIs may apply for and obtain a guarantee from only CGCs licensed by the CBN for any loan granted to MSMEs. Conversely, a CGC may guarantee only loans originated by PFIs excluding impaired assets that had been acquired.
3. Permissible and Non-Permissible Activities by the CGCs
Licensed CGCs are permitted to (a) provide guarantee for risk assets; (b) render advisory services for financial and business development; (c) invest surplus funds in government securities; (d) partake in other investments as may be approved by the CBN; (e) provide technical assistance to lenders and borrowers on credit and business development; (f) maintain and operate various types of accounts with banks in Nigeria; (g) engage in recovery of the guaranteed sum from defaulting borrowers, etc.
On the other hand, CGCs are prohibited from (a) providing guarantees to entities outside Nigeria; (b) providing guarantees to entities within their holding company structure and connected entities; (c) providing guarantees to any institution they are indebted to; (d) accepting deposits; (e) granting credit to customers; (f) managing pension funds or schemes; (g) foreign exchange, commodity and equity trading; (h) trading in derivatives, swaps, etc. (i) collecting and clearing third-party cheques and other instruments through correspondent banks; (j) acquiring, selling or leasing real estate without CBN approval; etc.
4. Obtaining a Credit Guarantee Company Licence
To obtain a CGC licence, the promoters of a CGC are required to submit a formal application to the CBN. The application process comprises two stages, namely: Approval-in-Principle (AIP) and Final Licence.
For Approval-in-Principle, the promoter(s) of a CGC shall apply to the CBN with the relevant documentation in support. They must also pay a non-refundable application fee of One Hundred Thousand Naira (NGN100,000.00) or such other amount as the CBN may prescribe from time to time and must have a Ten Billion Naira (NGN10,000,000,000.00) minimum paid-up share capital. The CBN will communicate its decision to the promoters within ninety (90) days of receipt of an application.
To obtain a final licence, the promoter(s) of the CGC must, not later than six (6) months from the date of obtaining an approval-in-principle, apply to the CBN for the final licence. The application must be supported with evidence of payment of a One Million Naira (N1,000,000.00) non-refundable application fee and other documentation.
With the introduction of this licensing regime, we note that existing credit guarantee companies must now apply for and obtain a CGC licence from the CBN to continue their operations. However, no specific timeline is provided in the Guidelines in this regard.
5. Commencement of Operation
Before commencing operation, a licensed CGC is obligated to notify the CBN of its intent and readiness to commence operation. The letter (of notification) must be accompanied by the CGC’s register of shareholders; share certificates issued to the shareholders; opening statements of affairs signed by at least two directors and auditors; Enterprise Risk Management Framework (ERMF); internal control policy, etc.
6. Prudential/Capital Adequacy Requirements
Prudential Requirements: CGCs may guarantee or cover up to a maximum of 75% of the default amount of any loan by an MSME. However, the cumulative guarantee liabilities of a CGC must not at any time exceed ten (10) times its shareholders’ fund unimpaired by losses.
Capital Adequacy Requirements: CGCs are required to commence operations with and maintain at all times, a minimum paid-up capital of NGN10 billion or such amount as may be prescribed by the CBN from time to time.
The capital adequacy ratio of a CGC will be measured as the percentage of its shareholders’ funds unimpaired by losses to its total risk-weighted assets. Their minimum Capital Adequacy Ratio (CAR) (Qualifying Capital/Total Risk-Weighted Assets) is set at ten per cent (10%) and must be maintained at all times. Failure to maintain the CAR will, until the required ratio is restored, prevent the relevant CGC from (a) undertaking further investment; (b) paying a dividend to its shareholders; (c) opening additional branch(es), and (d) any other action as may be determined by the CBN.
The CBN may also require a CGC to maintain additional capital as the CBN considers appropriate in respect of other specific risks.
The CBN may also require a CGC to submit a recapitalization plan within a specified period and failure to comply with such requirement constitutes a ground for the revocation of the operating licence of the CGC.
7. Other notable points:
a) CGCs are precluded from declaring dividends until they have (a) written off all preliminary and pre-operational expenses; (b) made adequate provisions for all losses, and (c) met the minimum prudential requirements as specified by the CBN from time to time;
b) The prior written consent of the CBN must be obtained before any agreement or arrangement in connection with a sale, merger, change of ownership or control, or reconstruction of a CGC and acquisitions of 5% or more in the shareholding of a CGC;
c) CGCs must comply with all relevant statutory disclosure requirements for financial institutions, Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) legislations, Know-Your-Customer (KYC) regulations, and CBN guidelines and circulars;
d) CGCs’ charges, fees, and commissions must abide by the CBN Guide to Charges by Banks And Other Financial Institutions 2017, or any other directives as specified by the CBN;
e) CGCs must file the relevant monthly and annual returns and audited financial statements with the CBN;
f) There are specific sources of funds that may be used by CGCs in their operations;
g) There are specific requirements for the composition of the Board of Directors of CGCs;
h) All CGCs must have an Internal Audit Unit which shall be responsible for external and internal compliance obligations;
i) All CGCs must have an Enterprise Risk Management Policy (ERMP); and
j) The CBN reserves the right to revoke a CGC licence where there is evidence of insolvency; misuse of the licence; unauthorised cessation of business for any continuous period of six (6) months, or any period aggregating six months during a continuous period of 12 months, or breach of the CGC Guidelines.
Access to regular and affordable finance has been a major impediment to the growth of MSMEs in Nigeria.[i] According to the Pricewaterhouse Coopers (PwC) MSME Survey 2020, obtaining finance was reported as the most pressing problem facing MSMEs in Nigeria, especially considering the difficulty in obtaining bank loans; double digits interest rates; and financial institutions’ bias toward larger corporate investors.
Consequently, the Guidelines for the Regulation and Supervision of Credit Guarantee Companies in Nigeria is a major breath of fresh air for MSMEs in Nigeria. Credit Guarantee Schemes (CGSs) have been widely considered as one of the means of addressing the challenge of limited access to credit by MSMEs, and have become so popular that a recent survey by the Organization for Economic Cooperation and Development (OECD) described them as now constituting “structural elements of financial systems” across the world.
MSMEs are a driving force of economic growth, financial development and financial inclusion globally. Consequently, the introduction by the CBN of a formal regulatory framework for credit guarantee companies in Nigeria is indeed a welcome development that is expected to reduce MSME lending/credit risk, stimulate lower interest rates on loans, and increase access to credit for a crucial sector of the Nigerian economy that is presently underserved by traditional financial institutions.
Akorede Folarin is a corporate finance lawyer at one of Nigeria’s foremost corporate/commercial law firms. He specializes in banking, private equity, M&A and corporate restructurings.
[i] According to the World Bank, “approximately 70% of Micro-, Small and Medium-sized Enterprises (SMEs) in emerging markets lack access to credit. While the gap varies from region to region, [it is] particularly wide in Africa and Asia.” (World Bank 2019)