The recent introduction by the extant Banks and other Financial Institutions Act 2020 ( the “Act“) of Bail-in, as a tool for resolving bank insolvency is an important diligence point for investors, lenders and shareholders investing in Nigerian banks. This is especially important in view of the implications which the regulatory construct of Nigeria’s Bail-in tool has for the contractual and property rights of bank creditors. What one finds generally in the Act, is a terse Bail-in framework which provides the Central Bank of Nigeria (“CBN“) Governor with wide discretionary powers. While it is acknowledged that regulatory discretion is important for bank regulation, the breadth of discretionary powers which the CBN Governor wields becomes obvious when one considers the bail-in framework in the UK and EU. In this update, we provide a highlight of some of the key legal issues for bank creditors under Nigeria’s bank Bail-in framework.
1) Application of the Bail-in Tool/Procedure
The Bail-in process commences with a determination by the CBN to apply the Bail-in tool. This determination is made at the sole discretion of the CBN. The CBN may exercise this discretion where it believes that the Eligible Instruments of a failing bank ought to be bailed-in to facilitate the rescue of a failing bank or where the available assets of a failing bank are unlikely to support the payment of its liabilities.[1] The highlight of the application of the Bail-in tool in Nigeria, is the issuance by the CBN of a Bail-in Certificate[2] which essentially states the terms and conditions under which the Bail-in tool will be applied to a failing bank. In deciding whether to use its bail-in powers, the CBN has to be satisfied that a bail-in will facilitate the rescue of a bank and that the available assets of a bank do not or are unlikely to support the liabilities of the bank as they become due. Other than these conditions, the Act does not provide for any especial conditions or resolution objectives which the CBN must consider when applying a Bail-in tool. The level of discretion which the CBN Governor has in this regard, is a marked departure from the Bail-in regime in the UK, where the Bail-in tool is applied under strict conditions which aim to balance the interests of the public with private investment considerations.
2) Legal Effect of a Bail-In
(a) Modification, Cancellation or Conversion of Securities in a Bail-in
The legal effect of a Bail-in in Nigeria is to, in the hands of a creditor, cancel, modify or convert the relevant Eligible Instrument of a failing bank. The CBN solely determines which and how many of such Eligible Instruments to cancel or the extent of such modification or conversion. Such cancellation takes precedence over and overrides any law or contract which suggests otherwise. Accordingly, a Bail-in operates despite any restrictions arising in any written contract or any law in force before the effective date of a Bail-in Certificate.
(b) Suspension of Judgements & Enforcements in relation to Bail-ins
Another legal effect of the application of a Bail-in in Nigeria is, that all claims and judgements debt enforcement in respect of any Eligible Instrument existing or being pursued shall become suspended and unenforceable against a failing bank[3]. The wording of this provision suggests that the application of the Bail-in tool may have a retroactive effect.
3) Pre-Resolution Rights of Shareholders and Security Holders
The CBN is not bound by the priority rights that bank creditors would have enjoyed under a pre-resolution contract. However, if the CBN decides to exercise its Bail-in powers in accordance with the priority and treatment which a pre-resolution creditor or shareholder would have enjoyed, had a bank be wound up, the CBN may take into consideration (a) any widespread adverse impact that the bank’s failure would have on the financial system in Nigeria or the economy of Nigeria(b) the need to maximize the value for the benefit of creditors of the bank, specialized bank or other financial institution as a whole (c) public interest (d) any other matter the CBN considers relevant. The wording of this provision is expressed in discretionary terms suggesting that the CBN does not have a firm obligation to consider the interest of bank creditors. This section of the Act appears to refer to the No-Creditor-is Worse-Off (NCWO) principle, which is the principle that creditors should not bear higher losses in a resolution than they would bear if the bank under resolution had been liquidated under normal insolvency proceedings. However, the language of the Act does not mandate the CBN Governor to comply with the NCWO principle.
4) Contractual Recognition of Bail-in Powers
The CBN also has the statutory powers to mandate banks, by way of regulation, to include a provision in the relevant contracts of a bank, where parties expressly recognise the Bail-in powers of the CBN and also expressly agree that the Eligible Instruments underlying such contract, as well as the parties, would be bound by the provisions of a Bail-in Certificate issued by the CBN.[4]
5) Which Securities qualify as Eligible Instruments?
The Act defines “Eligible Instrument” to mean
- equity instrument or other instrument that confers or represents a legal or beneficial ownership in the bank, except an ordinary share
- unsecured liability or other unsecured debt instrument that is subordinated to unsecured creditors’ claims of the bank, specialised bank or other financial institution that are not so subordinated
- instrument that provides for a right for the instrument to be written down, cancelled, modified, changed in form or converted into shares or another instrument of ownership, when a specified event occurs.
It is clear from the definition of “Eligible Instrument” in the Act that the “secured liabilities” of a failing bank are “excluded liabilities” and would not ordinarily be subject of a Bail-in Certificate. This is consistent with international Bail-in practice. However, the scope of excluded liabilities remains unclear. For instance, it is unclear the extent to which protected deposits are excluded from the scope of application of a bail-in tool. It is also unclear whether liabilities owed to a pension scheme, employees or liabilities owed to creditors providing critical goods and services are excluded. It is also unclear whether liabilities that arise by virtue of the bank holding client assets will qualify as an excluded liability. These are liabilities that will be typically be excluded from the application of the bail-in tool. However, the failure of the Act to specifically delineate the scope of excluded liabilities creates some level of ambiguity.
Comments
It is standard and internationally-accepted practice for Bail-ins to be governed by clear and very specific rules regarding , (a) the procedures which the CBN and other stakeholders must follow in a Bail-in and (b) the rules clarifying the hierarchy according to which creditors claims are converted into equity. A clear statutory backing for an application of the NCWO principle is consistent with international practice and often necessary to provide comfort to investors. Accordingly, we fully expect the CBN to shortly issue relevant Bail-in Regulations to provide clarifications as necessary.
[1] Section 37 of the Act
[2] Section 38 of the Act
[3] See Section 39 (1) of the Act
[4] See Section 39 (2) of the Act
This legal update is not intended to be taken as legal advice. Please seek professional legal advice specific to your situation. For more information or consultation regarding the content of this article, please reach out to the undersigned or to your usual Balogun Harold.
