Closing market loophole has made all the difference

VICTOR OGIEMWONYI 

Victor Ogiemwonyi, a retired investment banker, is a former Governing Council member of the Nigerian Stock Exchange (NSE), now Nigerian Exchange Group (NGX Group). He sent this contribution from Ikoyi, Lagos. He can be reached via comment@businessamlive.com 

About twenty years ago, Professor Chukwuemeka Charles Soludo, (now civilian governor of Anambra State) was Governor of the Central Bank of Nigeria (CBN).

He started a revolution that positively changed the financial landscape in Nigeria by strengthening our banks and the banking system. 

He had insisted that the minimum capital for banks must now go up to N25 billion, taking it from a current capital  requirement of just N2 billion. This was a very high hurdle for many banks at the time to climb. Those who were obviously not going to make it, critiqued the policy. They said the “one size fits all “ policy was bad. They argued that there should be room for different sizes of  banks — small, medium and large. Like what has emerged now, after many years. 

Professor Soludo’s insistence on that shock treatment was valid. If you had given any room for variation of the capital requirement at the time, many of the banks will not do the right thing. They will shape shift, and nothing will be achieved. 

The banking industry at the time had many shaky banks, and were a risk to the entire financial system. The indiscriminate issuance of bank licences, at the time, resulted in 89 banks, most of them glorified finance houses. Worse still, many of them were floated with debt capital, making them highly leveraged. 

The top 10 of the banks were responsible for 90 percent of the deposits and profits of all the banks at the time. There was not enough capital for many of them to finance any business. This was a disaster needing urgent attention, and quick rectification, before it threw the economy into turmoil. There was a need to have solid banks that will finance the economy. 

While there were good arguments for allowing for small, medium and large banks, drastic action was needed at the time to ensure success with the recapitalisation goal.

There were also options for banks who could not raise money, to merge with other banks. But, the mentality of everyone wanting to own their own bank and remaining CEO did not allow some to see this option.

The N25 billion minimum capital forced many of them to either raise money or merge with other banks. The capital raising option, from the stock market, was the best route, for many. It was a bold action that expanded our capital markets and also allowed Nigerian investors to share in the growth and the profits the banking industry represented at the time.

Those who used the Nigeria Stock Exchange to raise the needed capital had a wide range of investors, both domestic and international.

It was also a test for our capital markets and specifically for the Nigeria Stock exchange, to see how they would cope. Up to that point, the market had not raised anything close to what the banks needed to raise. The Nigerian capital markets and the Nigerian Stock Exchange, vindicated themselves with the large sums that were raised later. 

There was, however, one major loophole that was to bring tears and ramifications of great proportion with implications, later, and it still reverberates today.

At the time, it was customary for companies that were having any corporate action, that may likely influence their share prices, to be suspended from trading, until the corporate action was over. This was so for years, so it was not something new, or any deliberate action to manipulate the market. Nobody at the time saw how the smart Alecs would use it. The CBN further enabled this, because of the long drawn out Capital verification exercise, that elongated the issuing time table, sometimes adding several months to the offer period,  before the issue can be finalised and the new shares  listed, for investors to be able to sell, if they wanted to. 

This loophole, created with this “time lag widow,” (suspending trading), on the shares of the companies raising money, allowed for the creation of “Bubble Capital”. It allowed those share prices to rise above their real valuation and in some cases, allowed for deliberate inflation of prices of those shares, giving unscrupulous insiders, opportunity to take advantage. 

A good example of this manipulation of share prices was a case of the bank that calls itself, the West Africa Bank. It set out to raise $2.5 billion at the time. Though the market was booming, it was obvious that the N38 share price, set for this Offering was inflated. There were claims that this particular bank had previously bought a lot of empty banks, to add and inflate its balance sheet, to appear big. The bank, even built and counted as branches, “match box-like” bank offices, they called branches. 

The underlying fundamentals for this bank could not  support the N38 price valuation. Because of the very high price that these shares were issued, discerning investors avoided buying in, with the result that the offer actually failed, but for the unscrupulous nature of the  smart Alec “Group lead” at the time, they had to do anything and everything to conclude the offer. They were already sucked in, and had no way out. To start the manipulation process for the bank’s share price, they plundered their Nigeria subsidiary’s depositors fund, by taking out over N35 billion, first to acquire the existing shares of the bank in the  stock market, thereby  pushing the price to the unsustainable level it reached. They did this by recruiting some stockbrokers and giving them non-recourse loans from these depositors’ funds, to acquire and warehouse shares bought on their behalf. 

When they could not get enough subscribers, after the offer closed, they took more money from the depositors funds to buy some of the newly issued shares, to enable them reach 30 percent subscription level. This was to ensure that  the prescribed threshold by the Securities and Exchange Commission ( SEC) for success of the offer was reached, and the offer declared successful. 

This was pure securities fraud. 

Using its subsidiary’s Depositors Funds to acquire its own shares, is not allowed. When the offer closed, the world was experiencing a financial crisis, and the $2.5 billion could not be raised. They now had their own crisis, because they needed to return depositors’ money they used in “under writing” their own issue and the shares they bought and warehoused. As they sold down their warehoused shares rapidly, they forced down the price to  N8.00,  within 180 days of finalising the issue. This created huge losses for the investors who bought their shares. Even the bank was unable to completely sell down their own warehoused shares. It remains in their books, and is described as … “Other Nigerian Legacy Assets” in their Balance sheet … whatever that is.

Let me state that what is written here is not fiction. It happened exactly as described here. It is also now very well documented with a board ordered forensic audit report, from EY, the auditing accountants. Some court filings also exist’ The arrow head of this crime was identified. But those who could do something about it, at the time, chose not to do anything.

I am hoping that the SEC and EFCC will someday realise that this is securities fraud  against Nigerian investors, and it is also criminal. It needs to be properly investigated, even if not for prosecution, but a proper study, to understand what happened and ensure it never happens again, particularly as we are already into another season of bank recapitalisation. 

There are still victims in the investor community that were hurt, some of them have never returned to the market. Those who bought shares valued at N38, saw them rapidly fall to N8 within a very short time. The shares even traded for as low as N5 at some point. Even today, 15 years later, the price is yet to get to N38 per share.

Investors are still nursing their losses. 

I am glad for the new rule change that has allowed for continuous trading on shares even when fundraising is going on. This rule change has made all the difference, by ensuring that the recent fund raising by banks is going on well, while trading is going on with their shares in the market. This has allowed for an orderly capital raise, and ensured, so far, that none of the banks, raising money from the stock market, has seen its share issue prices rise more than 10 percent of the issuing price. This is made possible as stockbrokers and traders in the market are ready to correct any irrational exuberance and price bubbles. Closing this loophole made all the difference. 

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