ANALYSISOF CREDIT RISK MANAGEMENT AND ITS IMPACT ON THE PROFITABILITY OF BANKS AND LENDINGTO THE EMERGING OIL AND GAS SECTOR IN GHANACHAPTER ONEINTRODUCTION1.1 BACKGROUND OF THE STUDYSince the disclosure ofoil and gas in the Western region of Ghana, most partners principallyhousehold, have come into conclusion and of the view that, most Ghanaians wouldenhance themselves in the briefest conceivable time overlooking the dangersrelated with the newfound business and real players. We have seen realdifficulties and monetary dangers that oil-delivering nations like Nigeria havelooked throughout the years. In Ghana, political associations including theadministration and other significant partners have just checked their profitswithout shaping the desires of the general population.Banks, the major and key stakeholder(s) in both the upstream anddownstream oil and gas assumes the main role in dealing with their investors’values and the risks related with the exploration and production of oil andgas.
Banks financing role in the oil and gas industry at all levels makes themexposed to credit risk in their everyday activities. Ghana, for a few years,has just been a net consumer of oil and other oil-related goods however withthe discovery and creation of oil in commercial quantities accompanies its ownadvantages and dangers to players related with the “black gold”.This work winds up plainly important to uncover the potential creditrisk to the banks as around 85% of banks in Ghana now exchange oil andoil-related activities as part or entire business line as their centre businessoperations.
I am therefore convinced that a number of banks without muchexposure in the oil and gas trading activities in the emerging sector might betrapped by the sight of financial booms and face difficulties if the nature ofcredit risks and management associated with the sector are not identified andwell understood and the necessary strategies adapted to mitigate against suchhappenings in order to prevent losses. The results of not mitigating andmanaging risks are huge losses such as what happened to Barings Bank Plc in1995. Barings Bank Plc collapsed as a result of its inability to meet theenormous trading obligations that a staff exposed on behalf of the bank.My primary objective is to identify appropriate credit riskmanagement practices and its effect on banks profitability and be able to showhow these effects affect such an emerging and young market. In achieving thisobjective, I will aim at tackling the following issues; a.
The nature of credit risks in the oil and gas industry and bankingsector.b. Risk management practices and its effect on banks profitability.c.
Relationship between the credit risk to banks and lending to theemerging oil and gas sector.I intend to investigate the existing risk and its impact on theprofitability of banks as well as credit risk effect on lending to the oil and gassector in Ghana and also able to identify appropriate strategy or guidelines asbuild up guide on existing credit risk policies for managers and bank staffsfor smooth operational flow. The guidelines shall be consistent with sound andprudent banking practices applicable on the global front. The credit riskpolicy guideline is not expected to cover every credit risk exposures due tothe dynamic nature in the banking and energy markets. This will not intend toalter business judgement, sound assessment of borrower’s ability, integrity andwise structuring of credit facility appropriate to the needs of both a borrowerand the bank.1.
2 PROBLEMOF STATEMENT:Oil is apparently the most valuable commodity on the planet, it canbe revile or gift to countries if not appropriately managed, at any rate, andthe ‘Dutch disease’ is still new in literature. The ‘black gold’ on the planetis without a doubt the biggest source of energy presently. It is positionedamong the most unpredictable non-agricultural commodities, especially in recenttimes. In the course of the last five (5) years, oil prices dropped from 110USD/barrel in April 2014 to 64 USD/barrel in June 2015 and additionally droppedto 50 USD/barrel in August 2016.
The present oil value remains at 56.63USD/barrel (47.66 EUR/barrel) as at September 2017. This verifiable patternindicates how unpredictable oil prices can be. Despite the fact that the oilprices is a noteworthy source of instability in the world economy, it is not ameasure of credit risk, fear or a check of future financial wellbeing in theoil exploration and production areas, related sectors, for example, the naturalgas, utility, chemicals and auto segments, or the security markets. CreditDefault Swaps (CDS) for these oil and oil-related sectors measure expectedcredit risk, fear, greed and the future monetary strength of these sectors,which is significant data that the oil price may quantify. Risk managementpractices influence banks profitability and increases firm’s value and maydecrease financial distress.
Risk management is considered as a measuring toolfor determining banks failure or success. As commercial banks in Ghana looksfor opportunities to invest their capital and their investor’s value, theenergy sector (oil and gas) turns into an emerging business sector foropportunities and also dangers as they are exposed to credit and counterpartyrisks. This work seeks to bring to limelight, the need for Banks to criticallypay attention to credit risk management practices while achieving profitability.The problem of this study is to identify the potential credit risk to the banksand its effects on banks profitability as about 70%-80% of banks in Ghanacurrently trade in oil and oil related activities as part or wholly businessline as their core business operations.