Capital adequacy: the CAR ratio your sponsor bank cares about
Capital ÷ risk-weighted assets. Cross 15% or your license tightens.
By Solomon Ajayi · Free to read, no signup
If you operate as a Microfinance Bank, Payment Service Bank, or Mobile Money Operator under CBN (or your country's equivalent), you have a CAPITAL ADEQUACY RATIO requirement. CAR = (Tier 1 + Tier 2 Capital) ÷ Risk-Weighted Assets. Each asset on your books is weighted by risk (cash = 0%, government bonds = 0-20%, consumer loans = 75-100%, equity investments = 150-250%). The denominator scales with what you HOLD. The numerator scales with what your shareholders put in plus retained profits. If CAR drops below your regulatory floor (10-15% typically), the regulator restricts your operations. This lesson walks a balance-sheet snapshot through the CAR calculation conceptually, the journal entries are simple, the framework is the value.
Capital adequacy answers a single question the regulator cares about: if your assets lose value, do you have enough of your own money to absorb the loss before depositors are at risk? The ratio divides your capital (what shareholders put in plus retained profits) by your risk-weighted assets (what you hold, each asset scaled by how dangerous it is). Cash counts at zero percent because it cannot really go bad; a consumer loan book counts at seventy-five percent because borrowers default. The riskier your balance sheet, the bigger the denominator, the lower your ratio.
The entries in this lesson are deliberately boring. Deploying ₦200M of cash into consumer loans is a pure asset reclassification, Consumer Loan Book up, Cash down, no P&L. Nothing in that journal entry mentions CAR. But off-ledger, that same disbursal added ₦150M of risk-weighted assets (₦200M times seventy-five percent) to the denominator, and your ratio dropped. Every loan you write mechanically tightens the ratio, even though the books look perfectly balanced.
Because the constraint is invisible in the ledger, it has to be computed against your live balance sheet, typically nightly, and reported to the regulator monthly. The levers to loosen a tightening ratio are limited: raise fresh capital, retain more earnings, or shift the asset mix toward low-weight instruments like T-bills and cash. Each loan disbursal quietly consumes headroom until one more pushes you under the floor.
Worked example, step by step
Snapshot: ₦50M shareholder equity, ₦10M retained earnings
Your total Tier 1 capital is ₦60M. Tier 2 (subordinated debt, revaluation reserves) assume zero for simplicity. Total Capital = ₦60M.
| Account | Debit | Credit |
|---|---|---|
| Cash (1000) | ₦60,000,000.00 | |
| Shareholders' Equity (3000) | ₦50,000,000.00 | |
| Retained Earnings (3100) | ₦10,000,000.00 |
We use a marker entry to set state. In production, equity comes from share issuance + retained P&L; we represent the snapshot directly.
Acquire ₦200M of consumer loans (75% risk weight)
You deploy ₦200M of treasury into consumer loans. Risk-weighted asset value: ₦200M × 75% = ₦150M of RWA added. Before this, your RWA was minimal (just the cash and bonds). New CAR = ₦60M / ₦150M = 40%, comfortable.
| Account | Debit | Credit |
|---|---|---|
| Consumer Loan Book (1500) | ₦200,000,000.00 | |
| Cash (1000) | ₦200,000,000.00 |
Consumer Loan Book UP ₦200M (debit). Cash DOWN ₦200M (credit). Pure asset reclassification, no P&L. The CAR impact is a SHADOW calculation, not on the journal, it's computed nightly against your live balance sheet and reported to the regulator monthly.
Issue another ₦400M of loans: CAR tightens
Aggressive deployment. Total loan book now ₦600M. RWA = ₦600M × 75% = ₦450M. CAR = ₦60M / ₦450M = 13.3%, getting close to a 10% minimum (regulator-dependent). Next ₦50M of loans would push you under without a capital raise.
| Account | Debit | Credit |
|---|---|---|
| Consumer Loan Book (1500) | ₦400,000,000.00 | |
| Cash (1000) | ₦400,000,000.00 |
Consumer Loan Book UP ₦400M (debit). Cash DOWN ₦400M (credit). Same shape as before. The interesting fact is what's HAPPENING TO CAR off-ledger: every loan disbursal mechanically shrinks the ratio. Without capital injection (new share issuance) or P&L retention, you have a CEILING on how much you can lend.
Takeaway
CAR isn't a journal entry, it's a constraint that LIVES OUTSIDE the journal but governs what you can post into it. Every asset class has a regulatory risk weight; every disbursal of high-risk assets (consumer loans, equity investments) mechanically tightens your ratio. The lever to LOOSEN CAR is to (a) raise capital, (b) retain more earnings, or (c) deploy into low-risk-weight assets (T-bills, cash equivalents). Build the CAR calculator into your treasury dashboard so growth decisions are made with the constraint visible, not in a quarterly board pack when the regulator's already on the phone.
Practice this on a real ledger
Reading is half of it. Open this lesson in the lab to post the entries yourself against a real Postgres-backed double-entry ledger, with the validation on. Free, your sandbox is yours.