Impact of Incorporating Corporate Sustainability into the Credit Risk Assessment of Nigerian Banks

Abstract

Nigeria, a developing country with the largest economy in Africa, has a significant sustainable development (SDG) funding gap, and the banking sector has been identified as a collaborator in closing this gap through asset allocation to sustainable business. Banks’ primary concern in their asset allocation is credit risk reduction. However, there have been no studies in Nigeria to ascertain if allocating loans to more sustainable businesses can improve their credit risk prediction. To address this gap, this quantitative thesis sought to assess the cause-effect relationship between sustainability performance and credit risk. Employing the Good Management Theory, the impact of integrating sustainability performance with conventional criteria of Nigerian corporate borrowing clients on borrowers’ default risk and banks’ credit risk prediction was evaluated. Using a cross-sectional survey design, the study found that integrating sustainability assessment increases the prognostic validity of credit risk prediction by 3.7%, and improved sustainability performance was associated with reduced borrowers’ default risk. The study found that the social sustainability subfactor had the most significant impact on credit risk prediction, while the borrowing client’s firm sector was found to increase the prediction accuracy. Overall, the study findings agree with the Good Management Theory. The study contributes significantly to the academic literature on the impact of sustainability performance on credit risk in Africa, identified the most significant sustainability indicators, the effect of the firm’s corporate lifecycle, and designed a new survey instrument suitable to measure sustainability performance in Africa.