Business and Economics

The reinvention of the bank branch

Rodney Maddock and Eliana Maddock Monash University March 2014 rodney.maddock@monash.edu

Overview▪ Changing economics

– Inside the bank – Outside the bank !

▪ Trends in numbers

▪ Key drivers

▪ Academic research findings on key issues

– Branch efficiency – Network efficiency – Informational advantages – Locational issues – Strategic deterrence – Customer evolution

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The obvious – branch economics are changing!

Inside the bank: !

• changing patterns of customer demand !

• changing cost structures

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PWC 2012

Patterns of customer demand!▪ Time ▪ Location ▪ Technology

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Changing cost structures!service customers through multiple channels at different costs

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The obvious – branch economics are changing

Outside the bank !▪Changing patterns of competition ▪Changing business environment

“My advice on what to do tomorrow is clearly invest in technology and ensure your business model is ready for what’s coming next”

!Thompson, report from Davos

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Changing patterns of competition

!▪Competitive threats ▪Technology based !▪Existing competitors ▪New entrants

!Who are the new entrants?

▪overseas banks

▪companies expanding into financial services

▪start-up businesses

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Changing business environment

▪ Ratings and regulators ▪ Basel III ▪ Premium for

deposits ▪ Key role for

branches

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Current research: regulation▪ A poll of the 50 financial executives at the World Economic

Forum in Davos

▪ Question :“Will financial sector regulation mean more or less competition?”

– Eighty per cent believe that it would mean less competition.

– They believe that innovation is being restricted by the

rules on • anti-money laundering (AML) and • Know Your Customer (KYC).

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Impact for branch numbersChanging patterns of customer demand

Negative Changing cost structures

Negative Changing patterns of competition

Positive Changing business environment

Positive

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Number of bank branches (USA)

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Number of bank branches (Australia)

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Source: APRA

Politics

▪ The stability of branch numbers partly reflects politics

▪ Very hard to cut branch numbers

▪ Explicit policy – Engage with local

member – Explain issues and

alternatives – Suffer anyway

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From news.com.au website

August 2013

Strategies!Faced by these forces everyone is following substantially the same strategies

▪Recognize value of branch presence

▪Lower branch cost

▪Optimize branch design

▪Up-skill branch staff

▪Induce customers to appropriate channels

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Key branch driversKey functions

▪Do you need branches to raise deposits?

▪Do you need branches to make loans?

▪Do you need branches for special customers?

▪Do you need branches as a defence?

!Fundamental issues

▪Are you running your branches efficiently?

▪Do you have your branches in the right places?

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High value activities!

- Complex products and advice !

- Physical branches increase confidence

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Source: PWC 2012

Source: CapGemeni 2013

Customers open accounts in branches

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Preference for branch presence (Deloittes UK)

“I would only have a current account with a bank with branches I could visit”

“I like to keep some of my savings at the same bank as my current account”

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Strategies – research issues!Faced by these forces everyone is following substantially the same strategies

▪Recognize value of branch presence

▪Lower branch cost

▪Optimize branch design

▪Up-skill branch staff

▪Induce customers to appropriate channels

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Current research: staffing!

▪ Still a lot of room for improvement on staffing

▪ Staffing: A bank with a well developed staffing model, and branches operating in a highly competitive environment has an average improvement potential in total staff costs of 18%.

“Rationalizing inefficiency: Staff utilization in branches of a large Canadian bank”, Omega 2012 !▪ Key finding is that

–Tellers are well managed –Other branch staff are given too much slack –More than necessary to manage peak-load issues

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Current research: information advantage!US Results (Cleveland Fed)

▪Lower income borrowers are significantly less likely to default on a loan from a bank than a broker

▪Large banks are as good as small banks in processing soft-data

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!▪ Local branches can

provide better information ▪ Lower mortgage

defaults ▪ Better small

business lending

Current research: location▪ There are still locational inefficiencies

▪ Branch network: there is a potential for closing down part of the network while maintaining current service levels, even under the most conservative estimates of efficiency and capacity

▪ Branch network (Germany): “Optimal Capacity Utilization and Reallocation in a German Bank Branch Network: Exploring Some Strategic Scenarios”

▪ Key finding is that you ned to analyze your network design in addition to branch analysis

▪ German bank could reduce branches from 136 to between 95 and 120, and achieve the same results

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Current research: network effectsMintel’s Retail Banking US 2012 report found: ▪Half of consumers chose their bank because there was a branch near their home

▪Nine in 10 consumers said that it was important to them to have a bank branch nearby

NY Fed found:

!▪Efficient branch scale is above 500 branches

▪Main driver is deposit raising not lending

▪Higher network density lowers deposits per branch

▪Smaller banks have higher small business lending rates

▪Fee income per $ of deposits rises with network size

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Current research: strategic deterrence!▪ Building excess capacity

can deter entry ▪ Raises the cost to

competitors ▪ Takes longer to make

new branches profitable

US Results

▪First movers have up to 15% profit advantage over followers

▪Competition induces construction of about one-third more branches

▪Intensity of branching does not depend on the size of the market

▪Banks match each other closely and do not carve out separate geographic markets

▪Branches subject to increasing returns ie too small

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Channel management and self-service

Co-production of service – role of customer

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Customer efficiency – mixed blessing!

▪ Measure customer efficiency in using channels by reference to what would be optimal for the customer

– Efficiency is negatively related to age, positively to education !

▪ More efficient customers are more profitable for the bank – This is a channel effect not a transaction mix or volume effect !

▪ Negative relationship between attrition and efficiency – Greater usage of tellers is associate with lower attrition – Stickiest customers have moderate efficiency !

“Customer efficiency, channel usage and firm performance in retail banking” Xue et al (2007).

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Lessons▪ Industry economics are changing quickly

▪ Physical presence still creates potential profit

▪ But competition drives excessive entry

▪ There are still direct efficiency gains to be had at branch level

▪ There are still direct efficiency gains to be had at network level

▪ Customer efficiency in channel use is a mixed blessing

– Profitable to a certain level – Increased attrition can occur

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Business and Economics

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