THE IMPACT OF CREDIT RISK MANAGEMENT ON ORGANIZATION PERFORMANCE

1.1 Introduction

Credit risk is most simply defined as the potential that a bank borrower or counterparty will fail to meet its obligations in accordance with agreed terms (BCBS, 1999). Credit remains the primary source of revenue for the banks and financial institutions. "Risks in financial services are larger in scope and scale than ever before" (Djan et al, 2015). Banking sector is regarded as the backbone of an economy, without proper banking channels the total business environment would be adversely affected. In addition, the modern banking was placed in a very complex and intricate environment so its smooth functioning was very crucial for the growth of the country (Singh, 2015).

As a prelude to other parts of this study, this chapter will discuss the background upon which this study was initiated, the statement of problems that led to this study, the Aim and Objectives of the study. Others are Significance of the study, Scope of work, Limitation of the study and Definition of technical terms.

1.2 Background of Study

Bank failure is a problem in different countries (Lall, 2014). Risk may be defined as a probability or threat of damage, injury, liability, loss, or any other negative occurrence that is caused by external or internal vulnerabilities, and that may be avoided through preemptive action (Bizuayehu, 2015). Credit risks are not only argued to affect financial performance of loans but they also have far reaching implications (Kibor, 2015). Similarly, credit risk is the king of all risks (Asfaw & Veni, 2015). Credit risk is one of the most vital risks for banks. Credit risk arises from non-performance by a borrower. It may arise from either an inability or an unwillingness to perform in the pre-commitment contracted manner (Bizuayehu, 2015). The banks are inevitably exposed to credit risk because they grant credit facilities as they accept the deposits (Muriithi et al. 2016). Hence, business without any types of risks is not a business. Risk is inherent in banking business or any form of business. Banks and financial institutions are exposed to variety of risks among them credit risk is more severe than other risks.

A company’s financial statements can be regarded as the output of a model of the firm, a model designed by the management, the company’s accountants and tax authorities. Different companies used different models, meaning that they treat similar event in different ways. One reason this is possible because generally accepted accounting principles (GAAP) allow a certain degree of latitude in how to account for various events. In practice, shortcut procedures are often used. Many analysts focus on reported accounting figures, even though such numbers may not adequately reflect true economic values. In addition, simple measures are often used to assess complex relationship. For example, some analyst attempt to estimate probability that short-term creditors will be paid in full and on time by examining the ratio of liquid assets to the amount of short term debt. Similarly, the probability that interest will be paid to bond holders in timely fashion may be estimated by examining the ratio of earnings before interest and taxes to periodic amount of such interest payments. Often the value of a firm’s common stock is estimated by examining the ratio of earnings after taxes to book value of equity. The main aim of every banking institution is to operate profitably in order to maintain stability and improve in growth and expansion. To ensure that the growth in the banking sector does not jeopardize its stability, risk management is crucial (Oludhe, 2011).

Risk management is a systematic method of identifying, analyzing, assessing, rating, monitoring, controlling and communicating risks associated with any bank’s activity, function or process to avoid or minimize losses and maximize opportunities. It should address methodically all the risks surrounding the organizations’ activities past, present and in particular, future (Stavroula, 2009).Credit risk is accessed through analyzing the financial performance of commercial banks in an attempt to mitigate impacts arising from credit defaults. The financial health of the commercial banks depends on the possession of good credit risk management dynamics. Commercial banks may have a keen awareness of the need to identification, measurement, monitoring and controlling credit risk as well as to determine that they hold adequate capital against these risks and that they are adequately compensated for risks incurred (Bhattarai, 2016).

Credit risk in banks may also arise due to internal weaknesses in any financial institutions such as management inefficiency. Management deficiency affects liquidity causing an increase in nonperforming loans (Mwaurah, 2013). In addition, the non-performing loan (NPL) in the balance sheet of a financial institution represents the ratio of aggregate non-performing loans and the total gross loan.Banks performance with regards to credit risk depends on various internal and external factors. Internal factors are bank specific determinants and the external factors are the determinants related to economic environment (Naceur and Omran, 2011) as cited in (Mwaurah, 2013).Proper credit management is a precondition for any financial institutions’ stability and continuing profitability, albeit deteriorating credit quality is the most frequent cause of poor financial performance of the financial institutions (Gatuhu, 2013).

This study will focus on the financial performance of the commercial banks in Nepal. Recent literatures have narrow focus. How to define research problem is undoubtedly a difficult and challenging job. Whatever, Sekaran (1991) has defined research problem as "any situation where a gap exists between the actual and the desired ideal state". The previous studies about measuring financial performance of commercial banks have gained special attention during the last decade, for instance, various banking journals have devoted special issues. There were a lot of grievances over the performance of the commercial banks. Poor credit risk management is the primary cause of the bank failure.

The power of financial institutions is to create money is of great importance in business operations. Commercial banks are especially the major financial intermediaries in any country and they are the major providers of credits to the households, and corporate sectors. They deal with both retail and corporate customers and have well diversified deposit and lending and generally offer a full range of financial services to their clients (Magnifique, 2013).

Therefore, in Ibolo Micro Finance Bank in Offa Kwara State where the research was carried out, the activities that was conducted is to know the Impact of Credit Risk Management on Organization Performance.

1.3 Statement of Problem

Credit risk management on Organization Performance in Nigeria has generated a lot of misconceptions and misinterpretations as regards its importance, the best techniques in its modeling, its benefits to life insurers and most importantly in the socio economic development of Nigeria.

The confusion of methods to employ in reducing the risk involved with credits to life insurers both on the part of the insurers and the financial institution in question. Credit availability to insurers have also been a very controversial issues as most insurers complain of not been assisted with credits.

1.4 Aim and Objectives of the Study

The aim of the study is to examine the Impact of Credit Risk Management on Organization Performance using Ibolo Micro Finance Bank Offa Kwara State as a Case Study. In achieving this aim, the following objectives were set out as follows:

1. To examine the impact of credit risks on Organization Performance.
2. To examine the benefits of credit to Organization Performance.
3. To examine the relationship between credit risk and Organization Performance.
4. To analyze the effect of credit risk management on the financial performance of Ibolo Micro Finance Bank.

1.5 Research Questions

The study came up with research questions so as to be able to ascertain the above stated objectives. The specific research questions for the study are stated below as follows:

• Is there any relationship between credit risk and Organization Performance?
• Does credit risk management have effect on the financial performance of Ibolo Micro Finance Bank?
• What is the impact of credit risks on Organization Performance?
• What are the benefits of credit to Organization Performance?

1.6 Research Hypothesis

In order to pursue the objective of this study, the following generalized statements have been designed to guide and aids in obtaining the result for the experiment to be conducted. For this work, the null hypothesis will be represented with H0 while the alternative hypothesis will be represented with hypothesis H1.

Hypothesis One

• H0: There is no significant relationship between credit risk and Organization Performance in Ibolo Micro Finance Bank Offa Kwara State
• H1: There is significant relationship between credit risk and Organization Performance in Ibolo Micro Finance Bank Offa Kwara State

1.7 Significance of Study

This study will be important to banking sector in the management of credit risks when it comes to Organization Performance. This study also will be of importance to Nigerians in unraveling the importance of credit to their profitability.

This study will also be of immense benefit to researchers who intend to know more on this study and can also be used by non-researchers to build more on their research work. This study contributes to knowledge and could serve as a guide for other study.

1.8 Scope of Study

The scope of this research is focused on the Impact of Credit Risk Management on Organization Performance using Ibolo Micro Finance Bank Offa Kwara State as a Case Study.

1.9 Limitations of the Study

During the course of this study, many things militated against its completion, some of which are:

1. Time Constraint: The time frame given to accomplish this project was very short due to school academic calendar and it was carried out under pressure which made the researcher not to implement some necessary features.
2. Establishment Policies: Establishment policies posed a serious limitation as most staffs are not ready to release information needed for this project work. There were lots of information needed from the staffs of this establishment to enhance the study which took them time to release or they did not release at all for security purposes, hence the scope was reduced.
3. Research material: availability of research material is a major setback to the scope of the study.
4. Frequent power failure: This made the researcher append more money on fuel to ensure sustainable power.
5. Financial Constraint: Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview).