Effects of Basel III Framework on Capital Adequacy of Commercial Banks in Kenya

A Research Project Submitted to the Chandaria School of Business in Partial Fulfilment of the Requirement for the Degree of Masters in Business AdministrationThe purpose of the study was to assess the effects of Basel III framework on capital adequacy requirement in commercial banks in Kenya. The study sought to address the following research questions: why are capital adequacy regulations important in commercial banks in Kenya? What challenges are commercial banks facing in the implementation of capital adequacy requirement? What measures have commercial banks taken to ensure compliance with the capital adequacy requirement? A descriptive survey design was applied to a population of 43 commercial banks operating in Kenya. The target population composed of the 159 management staff currently employed at the head offices of the various commercial banks in Kenya. The population was composed of Senior, Middle and Junior or Entry level Management staff. A sample of 30% was selected from within each group. Primary data was gathered using questionnaires which were dropped off at the bank’s head offices and picked up later when the respondents had filled the questionnaires.Descriptive analysis was used to analyze quantitative data while content analysis was used to analyse qualitative data. The findings show that capital adequacy requirement is important in commercial banks because it leads financial stability in the Kenyan economy, improves credit risk management techniques as poor credit risk management requires more capital and leads to reduced vulnerability to liquidity shocks due to the sound capitalisation policies being implemented under the Basel III framework. Findings also revealed that capital adequacy affected the balance sheet structure of the commercial banks in Kenya. Smaller banks without the minimum capital requirements in their balance sheet would be required to merge with other smaller banks or seek additional capital injection from investors. Middle tier banks have gone to the stock markets to seek additional capital through rights and bond issue. Large multinational banks have sought capital injections from their parent company. Hence capital adequacy have has significantly changed the balance sheet structure of commercial banks in Kenya. The commercial banks in Kenya have deployed various strategies to comply with the looming capital adequacy requirements. These strategies include cutting back on lending, withholding dividend payments, aggressively increasing their interest income and other revenues through various promotions, offers and products in the lending market. This has been combined with cost cutting measures so as to increase net profits hence improving the capital base through retained earnings. Some commercial banks listed in the Nairobi Securities Exchange have issued additional shares through rights issues in order to ensure compliance with the capital adequacy requirement. The study recommends that banks should continue the pursuit of various strategies to ensure that they are in compliance with Basel III requirements and the Central Bank of Kenya’s Prudential Guidelines. This will be achieved through the expertise and involvement of the Asset and Liability Management Committee. The staff of this committee should be drawn from mainly the finance, legal, compliance and treasury departments. Compliance with the capital requirements will lead to a safety net for all commercial banks as the additional capital will act as a cushion that absorbs losses in case of distress in the commercial banking sector