Buying shares in a Nigerian bank can be an attractive way to participate in the country’s financial system and potentially grow your wealth through capital appreciation But buying a bank stock simply because it is a household name, has a popular brand, or recently paid a large dividend can be a costly mistake.and dividends.
But buying a bank stock simply because it is a household name, has a popular brand, or recently paid a large dividend can be a costly mistake.
Banks are fundamentally different from ordinary businesses. Their main raw material is money, and much of their balance sheet consists of financial assets and liabilities whose values depend on interest rates, inflation, exchange rates, credit quality, regulation, and customer behaviour.
For that reason, evaluating a Nigerian bank requires more than looking at its share price.
Before buying a bank’s shares, you should ask a more important question:
«Is this bank generating sustainable returns while maintaining a healthy balance sheet and taking risks that shareholders are adequately compensated for?»
This guide explains the key metrics and qualitative factors investors should examine.
1. Start With the Bank’s Business Model
Before looking at financial ratios, understand how the bank actually makes money.
Nigerian banks generally generate income from several sources, including:
– Interest earned on loans and other financial assets
– Interest earned on government securities
– Fees and commissions
– Foreign-exchange-related activities
– Electronic banking and payment services
– Investment banking and other financial services
Two banks can report similar profits while having very different business models.
One may have a large corporate-loan portfolio, while another may have a strong retail banking franchise with millions of customers. Another may derive significant income from treasury and foreign-exchange activities.
The difference matters because each source of income carries different risks.
Questions to ask
– How much of the bank’s income comes from lending?
– How diversified are its income sources?
– Is income growing because of genuine business expansion or temporary market conditions?
– Does the bank have a strong retail, corporate, SME or digital franchise?
– How dependent is it on volatile foreign
-exchange income?
A bank with diversified and recurring sources of income may be more resilient than one relying heavily on a single source.
2. Examine Revenue and Profit Growth
The next step is to examine the bank’s financial statements over several years rather than focusing on one impressive reporting period.
Look at:
– Gross earnings
– Net interest income
– Non-interest income
– Profit before tax
– Profit after tax
– Total assets
– Customer deposits
– Loans and advances
– Shareholders’ equity
The objective is to determine whether the bank is consistently growing.
A bank whose profit jumps dramatically in one year deserves further investigation.
Was the increase caused by:
– Higher interest income?
– Loan growth?
– Lower impairment charges?
– Foreign-exchange gains?
– Investment gains?
– A one-off accounting event?
A temporary boost to earnings should not be valued in the same way as sustainable growth.
Look for consistency
A bank producing moderate but consistent earnings growth can sometimes be more attractive than one producing spectacular but highly volatile results.
Think in terms of earnings quality, not just earnings size.
3. Pay Close Attention to Return on Equity (ROE)
Return on Equity, or ROE, measures how effectively a bank generates profit from shareholders’ capital.
The basic formula is:
ROE = Profit After Tax ÷ Average Shareholders’ Equity × 100
For example, if a bank generates ₦100 billion in profit using an average shareholders’ equity of ₦1 trillion:
ROE = 10%
The higher the sustainable ROE, the more efficiently management is using shareholders’ capital.
