An Investigation of Factors Responsible for Loan Default and Its Impact on Business Owners

CHAPTER ONE

INTRODUCTION

Background of the study

International organisations are coming to the realisation that banks mostly (MFIs) are veritable and effective channels to ensure the effectiveness of programme implementation, particularly in projects aimed at alleviating poverty and having firsthand knowledge of the needs and interests of the poor. This is an important realisation because MFIs are able to provide direct knowledge of the needs and interests of the poor (Okumadewa, 2018). According to Chossudovsky (2017), the World Bank’s Sustainable Banking with the Poor project (SBP) estimated that there were more than 1,000 banks in over 100 countries in the middle of 1996. These institutions each had a minimum of 1,000 members and three years of experience in the industry. A microfinance institution can be defined as any financial institution that not only provides small loans to microenterprises, SMEs, groups and individuals but also provides other financial services such as savings, insurance, investment advice, and even training programmes to its customers. banks can also be defined as any financial institution that provides small loans to microenterprises, SMEs, groups and individuals (Okumadewa, 2018).

In numerous public lectures and forums, the problem of loan delinquency and default among commercial banks and banks has been mentioned as one of the reasons why commercial banks have not showed much interest in funding micro, small, and medium enterprises (SMEs). According to Balogun & Alimi (2020), the failure of a borrower to meet his or her loan obligation when it is due can be characterised as loan default. Because of the unanticipated and detrimental effects it has on SME financing, high default rates in SME loans should be of great concern to policymakers in developing nations. The issue of loans going into default or becoming delinquent is a problem that affects microfinance organisations all around the world, including Nigeria.

The likelihood that a microfinance institution (MFI) will not collect the principal amount of its loans, along with any accrued interest, is the most typical and, in many cases, the most significant type of vulnerability that can affect an MFI (Warue, 2012). According to her, considering that the vast majority of microloans are unsecured, delinquency and default can swiftly expand from a few of loans to a considerable chunk of the portfolio (Okumadewa, 2018). This infectious impact is made worse by the fact that microfinance portfolios frequently have a high concentration in specific company sectors. This makes the effect much more likely to spread. As a consequence of this, a large number of clients may be vulnerable to the same kinds of external risks, such as a decrease in demand for the clients’ products, an epidemic of a livestock disease, unfavourable weather, and many more. These causes cause fluctuations in the quality of the microloan portfolio, which highlights how important it is to maintain credit risk management. In this respect, microfinance institutions (MFIs) require a monitoring system that brings to light payback issues in a manner that is both obvious and prompt. This enables loan officers and their supervisors to focus on delinquency (repayment rate) before the situation spirals out of control (Okumadewa, 2018).

Statement of the Problem

The ability of financial institutions to successfully and efficiently collect on the loans they have made is a primary factor influencing the level of stability in the banking industry (Chossudovsky, 2017). When clients fail to make their loan payments, they put their banks, the economy, and themselves in a precarious position. There is a favourable association between the concepts of loan default rate and the profitability of banks for the financial institutions (Ntiamoah, Oteng, Opoku & Siaw, 2018). The inability of banks to generate further loans is a direct result of the losses that are incurred as a result of loan defaults.

If banks are unable to generate additional loans, this will have a negative impact on their function as financial intermediaries and put them at danger of failing. There is not a single region on the planet that is entirely untouched by the ongoing banking crisis. It affects people all across the world. There is a negative correlation between rising default rates on loans and a fall in GDP, both of which have knock-on effects for the economy (Chossudovsky, 2017).

Customers who default on their payments will not only face the stigmatising impacts of the regulator’s use of the “name and shame” strategy, but they will also be unable to get vitally important extra or alternative financing. The borrower faces a significant number of repercussions as a result of the default, which might result in the borrower filing for bankruptcy (Chossudovsky, 2017). Additionally, the lending financial institution has the ability to make the borrower’s situation even more difficult by seizing the borrower’s assets as a form of debt payback. The borrower’s credit rating will suffer if they are unable to make their loan payments on time.

 Objectives of the Study

The main objective of this study is to investigate factors responsible for loan default and its impact on business owners. Specific objectives of this study are:

i.          To determine the extent business owners default on loan repayment.

ii.        To find out the causes of business owners loan default.

iii.      To  recommend measures to control the loan default of business owners.

Research Questions

The following research questions will be answered in this study:

i.          To what extent business owners default on loan repayment?

ii.        What are the causes of business owners loan default?

iii.      What are the measures to control the loan default of business owners?

 Significance of the Study

The successful strategies that were uncovered in this research have the potential to have a significant influence on the capability of existing and future SMEs to get business loans and to timely repay those loans. When it comes to debt repayment, providing assistance to small and medium-sized businesses may result in positive social change by increasing economies and creating employment opportunities. In addition, the creation of effective methods may strengthen connections between owners of small and medium-sized enterprises (SMEs) and financial institutions. The findings of this study might be used by the Federal Government of Nigeria to support and aid the development of existing small and medium-sized organisations (SMEs), as well as to stimulate the establishment of new enterprises.

This study has the potential to contribute to social change by supplying owners of small and medium-sized enterprises (SMEs) with information about sources of funding for SMEs and the consequences of loan default. The executives of small and medium-sized businesses (SMEs) may uncover new business strategies while applying for loans for their companies. These strategies may require them to modify their existing strategies or try out new approaches. There is a possibility that this inquiry will be beneficial to financial institutions.

Banking organisations generate income and profits through the collection of interest rates from small and medium-sized business loans. Additionally, the growth of businesses as a result of their successful access to business loans may assist regulatory agencies in Nigeria in collecting additional revenue through taxes and business licence fees, which may then be used to the benefit of the entire population.

 Scope of the Study

This study focuses on an investigation of factors responsible for loan default and its impact on business owners. Specific focus of this study are on determining the extent business owners default on loan repayment, finding out the causes of business owners loan default and recommending measures to control the loan default of business owners.

Selected business owners in Enugu, Enugu State will be the respondents for the survey of this study.

Limitations of the Study

In the course of carrying out this study, the researcher experienced some constraints, which included time constraints, financial constraints, language barriers, and the attitude of the respondents. However, the researcher were able to manage these just to ensure the success of this study.

Moreover, the case study method utilized in the study posed some challenges to the investigator including the possibility of biases and poor judgment of issues. However, the investigator relied on respect for the general principles of procedures, justice, fairness, objectivity in observation and recording, and weighing of evidence to overcome the challenges.

Definition of Terms

Loan Default: In finance, default is failure to meet the legal obligations of a loan, for example when a home buyer fails to make a mortgage payment, or when a corporation or government fails to pay a bond which has reached maturity.

Impact: A marked effect or influence.