OPERATIONAL RISK MANAGEMENT AND COMPETITIVE ADVANTAGE IN THE GHANAIAN BANKING INDUSTRY: A CASE STUDY OF ECOBANK GHANA LIMITED By DANIEL OWUSU NYARKO (B.ed Foundations) A Thesis Submitted to the Accounting and Finance Department, Kwame Nkrumah University of Science and Technology (KNUST), Kumasi, in partial fulfillment of the requirements for the degree of Master of Business Administration (MBA) Finance School of Business College of Humanities and Social Sciences ©August, 2015 DECLARATION I hereby declare that this submission is my own work towards the Master of Business Administration (MBA) Finance option and that, to the best of my knowledge, it contains no material previously published by another person nor material which has been accepted for the award of any other degree of the University, except where due acknowledgement has been made in the text. Daniel Owusu Nyarko (PG9616113) Signature Date Certified by: Prof. J. M. Frimpong (Supervisor) Signature Date Certified by: Dr. K. O. Appiah Head of Department Signature Date i DEDICATION This work is dedicated to my mother, Mrs. Agnes Owusu, my father, Mr. Isaac K. Owusu, also to my uncle, Mr. Michael Pascal Afrifa and his wife Mrs. Grace Ahenkorah Afrifa for your patience, encouragement and emotional support. ii ACKNOWLEDGEMENT I thank the Almighty God, who gave me the strength, protection, continuous guidance and direction in pursuing this program. It is His divine grace; mercies and guidance that held me throughout these years of school and to the completion of this research I would like to express deepest gratitude to my supervisor Professor J. M. Frimpong for his full support, expert guidance, understanding and encouragement throughout my research. Without his incredible patience and timely wisdom and counsel, my thesis work would have been a frustrating and overwhelming pursuit. I would like to advance my sincere gratitude to Mr. Daniel Boateng, Miss Ivy Yayra Biscoff, Mr. Desmond MC-Arthur and Mr. Kwesi Attobrah of Ecobank Bank for their support and input at the last stage of this study. I also appreciate the support and unconditional love from my parent, fiancée, siblings’ and the entire family members during the last two years; I would not have been able to complete this thesis without their continuous love and encouragement. Finally, I say a big thank you to all who spent time to respond to my interview questions and those who assisted in diverse ways directly or in directly in successfully completing this thesis. iii ABSTRACT The Banking industry today is characterized by intense rivalry coupled with rapid changes in customer expectations, increasing regulatory requirements, technological innovation. Failures in processing activities as a result of human errors, fraud and system failures bring significant losses to banks and these losses are key sources of operational risk. In view of the rising competition within the industry in respect of customer satisfaction and retention, corporate reputation and reward maximization, there is the need for banks to critically align business objectives with risk and control information to enhance operational performance, reduce cost in order to achieve the competitive advantage. The study focuses on how operational risk management and competitive advantage in the Ghanaian banking industry; a case study of Ecobank Ghana Limited. Interviews were conducted at various branches of Ecobank. The findings of the study indicated the components of operational risk and various strategies used to mitigate these risks, it reveals that Ecobank are realizing the significance and importance of operational risk management as a tool for gaining competitive advantage, it also reveals challenges encountered in managing operational risks and strategies utilized to curb challenges posed by operational risk. It is therefore recommended that Banks must link their operational risk management activities to their business objectives and identify the potential hurdles that hinder their competiveness; Operational risk management is the responsibility of all staff including the Board of Directors and management and as such awareness must be created on the need to identify, evaluate, monitor, control and report operational risk issues in accordance with the strategies and policies of banks in ensuring the adequacy of capital against operational risk. iv TABLE OF CONTENTS DECLARATION................................................................................................................ i DEDICATION................................................................................................................... ii ACKNOWLEDGEMENT ............................................................................................... iii ABSTRACT ...................................................................................................................... iv LIST OF ABBREVIATIONS ......................................................................................... xi CHAPTER ONE: INTRODUCTION ............................................................................. 1 1.1 Background to the study ............................................................................................. 1 1.2 Problem statement ....................................................................................................... 4 1.3 Objectives of the Study ............................................................................................... 6 1.4 Research Questions ..................................................................................................... 6 1.5 Significance of the Study ............................................................................................ 7 1.6 Scope of Study ............................................................................................................ 8 1.7 Limitations of study .................................................................................................... 8 1.8 Organization of the Study ........................................................................................... 8 CHAPTER TWO: LITERATURE REVIEW .............................................................. 10 2.0 INTRODUCTION .................................................................................................... 10 2.1 AN OVERVIEW OF RISK ...................................................................................... 10 2.2 SOME KEY RISKS IN THE BANKING SECTOR ................................................ 11 2.2.1 Credit Risk ..................................................................................................... 11 2.2.2 Market Risks .................................................................................................. 12 2.2.3 Liquidity Risk ................................................................................................ 13 v 2.2.4 Interest Rate Risk ........................................................................................... 13 2.2.5 Foreign Exchange Risk/Forex Risk ............................................................... 14 2.2.5 Country Risk .................................................................................................. 14 2.2.6 Operational Risk ............................................................................................ 15 2.3 RISK MANAGEMENT IN BANKING ................................................................... 19 2.4 OPERATIONAL RISK MANAGEMENT IN THE BANKING INDUSTRIES ..... 21 2.5 MODELS FOR OPERATIONAL RISK MANAGEMENT .................................... 22 2.5.1 The Head Office Operational Risk Management Approach .......................... 23 2.5.2 Organizations utilize a mixture of stand-alone tools to help control operational risk......................................................................................................... 25 2.5.3 Internal Audit taking a lead role in operational risk management approach. 25 2.5.4 The New model of Operational Risk Management ....................................... 26 2.6 KEY SUCCESS FACTORS AND COMPETITIVE ADVANTAGE IN THE BANKING INDUSTRY ................................................................................................... 29 2.7 REVIEW OF RELATED STUDIES ........................................................................ 31 CHAPTER THREE: METHODOLOGY AND CASE STUDY PROFILE .............. 34 3.0 Introduction ............................................................................................................... 34 3.1 Research Design........................................................................................................ 34 3.2 Population ................................................................................................................. 35 3.3 Sample Size and Sampling Technique ...................................................................... 35 3.4 Data Collection Instrument ....................................................................................... 36 3.4.1 Interviews ....................................................................................................... 36 3.4.2 Observation .................................................................................................... 37 vi 3.4.3 Document analysis ......................................................................................... 38 3.5 Sources of Data ......................................................................................................... 38 3.6 Ethical Consideration ................................................................................................ 38 3.7 Data Analysis ............................................................................................................ 39 3.8 Profile of Ecobank .................................................................................................... 39 CHAPTER FOUR: DATA PRESENTATION, ANALYSIS AND DISCUSSION OF FINDINGS ....................................................................................................................... 43 4.0 Introduction ............................................................................................................... 43 4.1 Understanding of Operational Risk .......................................................................... 43 4.2 Constituents of Operational Risk at Ecobank ........................................................... 44 4.2.1 Internal Constituents of Operational Risk at Ecobank ................................... 44 4.2.2 External Constituents of Operational Risk at Ecobank Ltd ........................... 46 4.3 Strategies put in place to manage and control internal and external constituents of Operational Risk at Ecobank Ltd. ..................................................................................... 49 4.3.1 Strategies Utilized in Managing Internal Constituents of Operational Risk at Ecobank.................................................................................................................... 50 4.3.2 Strategies Utilized for Managing External Constituents of Operational Risk at Ecobank.................................................................................................................... 53 4.4 How Operational Risk Management gives Ecobank a Competitive Advantage. ..... 58 4.5 Challenges Encountered by Ecobank in managing Operational Risk ...................... 67 4.6 Strategies utilized by Ecobank to curb challenges posed by Operational Risk. ....... 69 CHAPTER FIVE: SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATIONS ................................................................................................ 71 vii 5.0 Introduction ............................................................................................................... 71 5.1 Summary of findings................................................................................................. 71 5.2 Conclusion ................................................................................................................ 76 5.3 Recommendations ..................................................................................................... 77 5.4 Directions for future Studies ..................................................................................... 77 REFERENCES ................................................................................................................ 79 APPENDIX ...................................................................................................................... 85 viii LIST OF TABLES Table 2.1: Top Operational Risk Events ......................................................................... 18 Table 3.1: List of interviewees........................................................................................ 37 Table 4.1: Operational Losses and Fines ........................................................................ 48 Table 4.2: Entire Cost on Operational Risk Management .............................................. 57 Table 4.3: Profit Before Tax (PBT) ................................................................................ 63 Table 4.4: Loans &Advances to Banks and Customers .................................................. 65 Table 4.5: Total Deposit from Banks & Customers ....................................................... 66 ix