If the next three to five years in retail franchise banking play out with the momentum identified during this study, the competitive landscape will change materially. There will be some winners, but many larger banks will lose share.
The Project Team’s “crystal ball,” calibrated by in-depth interviews with senior executives, and analysis of retail deposit growth adjusted for acquisitions, suggests:
The best 30% of practitioners will gain share and grow core deposits on an internally generated basis at a rate of some 4+% per year. Even better, a select few stellar competitors will achieve double-digit deposit growth rates.
However, the majority of the top 30 BHCs (bank holding companies) are unlikely to meet their revenue growth goals in retail. Undifferentiated banks will be lucky to sustain core deposits at current levels, continuing a trend where, excluding acquisitions, the poorest-performing 15 of the top 30 banks have suffered core deposit erosion averaging 1% per year since 1993.
Smaller banks and thrifts collectively will continue growing deposits some 3 percentage points per year faster than large banks.
Core deposits will continue to dominate retail revenues and profits during this planning horizon.
Potential compression in deposit-related pricing and the shift to lower margin substitute products may prevent banks from continuing to lift revenues via pricing actions. Pricing has historically had a beneficial impact to revenues of about 4% per year over the past 8 years.
Implications
The strategic consequences of growing 3 to 5 percentage points faster in core deposits than other institutions are significant. High performers will enjoy:
Income growth in the retail business double that of the also-rans.
A warranted P/E ratio for retail in the mid-20s vs. low teens or less.
Also, the ability to grow the retail business will likely be a key determinant of being a buyer versus a seller in subsequent M&A rounds. Moreover, for a number of banks that are pushing the limits on liquidity, a lack of deposit growth may compromise their ability to grow assets.
Therefore, banks that have been underinvesting in their retail business may want to reconsider that approach, taking into account these shareholder-valuebased perspectives.
Success Formulas
What are the underpinnings of success? At the beginning of this study, many hypotheses were posed about which strategies produce the most traction with customers, the importance of geographic location, the influence of mergers done well or poorly, and the importance of “execution.”
We found no “silver bullet” strategy. To the contrary, all of the six customer value strategies described in this report are found among the highest growing banks.
The banks that have posted stronger internally generated growth rates have the following attributes:
First, virtually all have coherent strategies for how they differentiate and add value to customers. This point, although seemingly trite, cannot be overemphasized. Project Team members heard first-hand and probed into the strategies of over three-quarters of the top 50 BHCs. The difference in the definitiveness and level of strategic commitment among the banks far exceeded expectations.
Second, most have been committed to their strategies for some time, often with consistent leadership.
Third, these stronger performers, because they have a better articulated strategy, exhibit a much higher degree of focus. Although many of these distinguished players now stress “execution,” this should not be misinterpreted — without agreement on a strategy beforehand, that emphasis would be problematic or impossible.
Fourth, to varying degrees, the winners have made decisions that make a difference with customers relative to growth in branches (more), pricing (relatively “friendlier” to the customer), deployment of offsite ATMs (higher density), and service quality emphasis (better). Regression analyses have identified these factors as accounting for 50% to 80% of the variation in deposit growth among institutions, depending on the years examined.
Fifth, having one’s branch franchise located in areas of rapid regional economic growth did make a difference, with some banks enjoying a lift of as high as three percentage points per year in core deposit growth due to this factor alone. Nonetheless, some banks in disadvantaged locales “beat the odds” and grew core deposits faster than banks in areas with higher GDP growth.
Finally, similar to our observation on strategy, no optimal organization structure was identified. However, we did find the better performers had more thoughtfully aligned their performance measures and incentive plans with the committed-to strategy.
Because of the growth momentum supported by the above factors, there is a strong probability that most of the best retail players over the last five years will continue to outperform.
Interestingly, acquisition intensity over the past six years did not show up as statistically significant in determining core deposit growth. This is because some banks actually improved the revenue growth of those they acquired, whereas others fell prey to attrition problems.
Agenda For Management
Consequently, the challenges banks face differ to some degree based on their current situation:
Most retail organizations do not have a fully agreed-on and committed-to strategy. Many of these companies are instead focusing on tactical execution initiatives, e.g., this year, efficiency, next year, service quality scores, etc. But, based on our analysis, a tactical approach is problematic. Such institutions need to factor in the downsides of deferring the selection of a strategy, that is, the ability to focus execution efforts. (Chapter V of this report discusses the pitfalls associated with planning efforts that fail to result in a defined strategy, and offers best practice solutions.)
For those banks with strategies that have proven powerful, reexamination may be warranted to assess whether those strategies are stalling. For example, in one interview, a bank that had enjoyed being the only institution in its area pursuing “free checking” is now concerned that this value proposition may become cluttered with other “me too” players and further compromised by the possibility that those customers who are particularly price-sensitive have already been captured. However, other banks using pricing as their value proposition do not anticipate that this strategy will be compromised, believing that these latecomers will fizzle. In any case, some kind of feedback and evaluation loop to determine whether or not the strategy needs to be refined is an indicated step for some banks.
Finally, we interviewed a few banks that are blessed with a committed-to, successful strategy that shows no signs of being compromised in the intermediate future. These are the fortunate few that understand how to invest for growth and achieve an attractive return. Having chosen a direction, they can focus on “execution, execution, execution.”
Independent of strategy, most bankers believe that significant gains must be achieved in marketing and selling effectiveness. But it is important to note that many different marketing and sales techniques can and should be considered. The choice — based on the power of the techniques and the fit with the strategy — will be a challenging one. This is because most players do not yet systematically measure the return on investment of marketing and sales expenditures.
Moreover, there will not be one right answer. The effectiveness of marketing techniques will vary depending on the selected value proposition. For example, some banks offering “Best Price” are finding that direct marketing approaches (mail and e-mail) are proving powerful. Alternatively, the highest growth bank with an “Advice” strategy uses hundreds of small events and financial planning sessions to meet prospects and strengthen relationships with customers; it feels that direct marketing is not in keeping with its market positioning.
Will these differences have strategic import at the corporation level? Wall Street analysts feel that the majority of banks are not equipped to win in retail franchise banking. They have a low regard for the articulated strategies of most banks and believe that their management teams are not marketing-driven. For example, they feel that most banks do not adequately understand customer segments. Moreover, analysts believe that, for many bankers, their previously trumpeted initiatives are not delivering measurable results, either from independent analysis or in presentations being given by bankers. So the lowgrowth situation in which most banks have found themselves is, according to analysts, a deserved state of affairs.
The body of the report is divided into five chapters:
Chapter I, Market Forces At Work In Retail Banking, sets the stage by dissecting the most important drivers of retail profits during the 1990s. This chapter quantifies performance drivers for banks that have achieved aboveaverage growth of checking and savings deposit balances. These products have dominated retail revenue growth (almost 85% of the total) and profits (almost 90%). Also estimated is the amount of total retail revenue growth — over 50% according to FMCG calculations — that has come from widening deposit spreads and increasing fees. Sustainability of this trend is identified as a key sensitivity to be addressed in a bank’s planning. Furthermore, we size the magnitude of nontraditional products such as investments and insurance. For most institutions, these will not be the near-term solution for growth.
Chapter II, The Retail Revenue Growth Challenge, highlights the division between Wall Street analysts and bankers on the outlook for revenue profit. Analysts project retail revenues growing at some 5% per year, assuming no collapse in pricing. They believe that most banks can manage cost increases to an annual average of 3% to 4%, and thus assume income growth of 6% to 7%, a disquietingly low number. Bankers predict that their individual organizations will grow revenues materially higher than the industry average, or about 8% per year. In effect, virtually all bankers are planning to gain share, since most feel that increasing prices to the degree enjoyed historically is unlikely. Interestingly, there are significant differences in levels of optimism.
Chapter III, The Keys To Revenue Growth Success, discusses the attributes of the financial services organizations identified as having high revenue momentum. The attributes shared by these players were noted above. These characteristics are distinctive, particularly in contrast to less focused organizations which usually pursue an agenda of tactically oriented initiatives, attempt to implement too many programs, and need important upgrades to sales, servicing, and other internal management competencies (e.g., refined performance measures and incentives).
Chapter IV, Six Value Themes And Their Key Strategic Attributes, outlines various strategies that are differentiated from the customer’s perspective, namely
Offers the lowest price
Has superior convenience
Offers higher service quality
Provides advice
Acknowledges the importance of its best customers
Personalizes and tailors products and services to a segment’s or customer’s particular needs.
Each of these value themes carries a range of implications for target customer segments, products and services offered, key economic drivers, required marketing, sales and servicing skills, and other management competencies. This chapter explores these implications for each value theme and provides case study examples from financial and nonfinancial service companies.
Chapter V, Selecting A Strategy And Aligning Implementation Priorities, provides a roadmap for banks that are not fully committed to a strategy. It also discusses steps to align implementation priorities with the strategy. While the need for a strategy is obvious, analysts, bankers, and the Project Steering Committee were almost all in agreement that very few institutions are indeed fully committed to a defined strategy — only an estimated 15% of the top 30 BHCs. Rather, most institutions today are either leaning towards a strategy but not committed, or simply pursuing tactical initiatives. Pitfalls that will need to be overcome while setting a strategy and implementation plan are also covered.
Finally the Appendix provides supporting detail on some of the major data sources and key assumptions behind important analyses used in the study.
The Revenue Growth Challenge In Retail Banking
First Manhattan Consulting Group
Bank Administration Institute
