The New Year brings with it the end of the era of easy money in banking. By this we mean that some of the foundations of revenue growth and profitability in 2004 and 2005 will not be available in 2006. Four examples:
- The value of the carry trade (generating short-term deposits and investing them at higher rates) has been undercut by higher long-term rates and the possibility of an inverse yield curve.
- Higher rates will also negatively impact mortgage refinancings and new mortgage origination growth.
- Credit quality cannot get much better. In fact, several of our clients expect to see at least a slight credit downturn this year. As credit performance changes, management will no longer be able to reverse previously established provisions (The piggy bank is empty.)
- Acquisition activity may be stalled. At least temporarily, management will find it.increasingly difficult to justify most acquisitions.
A December 22nd Wall Street Journal article discussed the potentially dilutive impact of acquiring community banks with high PEs. While one analyst stated, “I firmly expect the multiple premium for small banks to shrink over the next year,” right now those premiums limit acquisition activity.
Increasingly, banks will need to rely on organic growth in order to generate the revenues and returns that investors demand. Of course, that is easier said than done. How are some of the best players meeting growth goals?
They decommoditize themselves. I have often repeated a comment made by a senior bank executive who said, “We’re all selling the same thing.” He meant that the basic deposit and loan products were the same and that in effect he viewed banks as all selling a commodity.
The best performers view that comment as wrong in two respects: first, customer segmentation and product positioning distinguish a product offer. For example, the basic products that a smart player like Umpqua Bank offers its customers may be similar to other banks, but its focus on certain niches and how it sells to those niches distinguish itself and its offer.
Second, the product itself can be distinctive. One of our clients has developed several new products in the past year aimed at the small and mid-sized business market. They based the product development focus on their read of the competitive landscape and their assessment of internal strengths. The resulting product offers are different from what others offer. Given that the bank based its products on its particular strengths, the products themselves are not easily replicable; that is, they are not offering commodities.
What are the customer segments and marketing/sales approaches that will differentiate a bank from competitors and allow it to exceed the expectations it has set set for itself and its investors?
They sell. We have found that bankers are exceptionally articulate at describing all the roadblocks they have to overcome in order to sell. However, they do a poor job at overcoming those roadblocks. The fact is that many bankers (whether wealth managers, commercial bankers, or retail personnel) do not want to sell and are happy to find excuses to avoid doing so. Management at the best performers makes sure that the people who should be in front of the customer are in front of the customer. They have done this by redesigning jobs to move “non-essential” tasks to specialized personnel (for example, dedicated administrators). At the same time they have altered compensation so that more customer revenue translates directly into more compensation for the salespersons.
They institutionalize the client. While a strong individual sales effort is critical, the customer belongs to the bank, not the individual. Institutionalizing a client is critical for a bank to retain a customer and grow revenues through building wallet share. Too often, bankers seem to view a customer as “theirs” rather than the bank’s. This limits revenue growth and results in below-potential market share.
More banks are forming teams that review their key consumer, wealth, small business, and commercial accounts. For commercial customers, teams exploiting account opportunities may consist not only of cash managers but also wealth management, international, insurance, etc. Depending upon the specific situation, the team leader could be from the commercial bank, wealth management area, or another group. Also, the team leader in one case will be a team member for another client opportunity. Again, adjustments to compensation encourage both the lead banker to open up his/her portfolio to others and the specialist banker to pursue these leads.
They select and segment. Last year, a senior manager at one of our clients began an offsite by saying that he did not buy into relationship banking. He thought it often led to below-par returns. He wanted to make sure that every product sold generated a high return, and he did not want to erode returns just for the sake of selling another product.
Rather than focusing on specific products, other clients have found that certain segments offer them the greatest growth opportunity. Segment selection can be based on one or more of multiple factors: size, industry, need, and life-cycle, among others. Banks wanting to generate outsized returns cannot be all things to all people. The best performers have long realized that and have acted on that knowledge for years. The imperative to choose a defined course and execute against it is stronger now than ever before.
The year ahead. If we are right that a lot of the “easy” or “easier” money is off the table, then the year will feature some banks finding their growth goals eluding them. Of course, this is the right time of year for senior management to assess itself versus the areas discussed above (decommoditization, selling, institutionalization, and segmentation) and to act ASAP to gear up to grow.