COMMERCIAL BANKING

COMMERCIAL BANKING

Executive summary

Crisis in global finance compelled the banking industry to enter into the economic cycle while in the last phase. As such, top-line revenue decreased in growth to 4% in 2018, depicting a slow start to economic developments. Based on McKinsey’s research, the yield curves are increasingly being flattened due to fluctuations in valuations leading to weakening confidence in the banking sector. Banks have, therefore, undergone a series of cycles due to fluctuations in return on tangible equity (ROTE). Domicile has proved to be beyond the bank’s control since it takes quite a period of time to achieve stipulated partnerships and acquisitions. The review by McKinsey shows that returns accrued from tangible equity reduced to 14.1% in 2018 as compared to 20% in 2013. Therefore, banks have aspirations to create value due to its necessity to achieve sustainability in the banking industry.

Abstract

Commercial banking is a system that provides consumer services like making deposits, offering loans, and basic investment products. Commercial banking carries its operations based on for-profit businesses (Mikes, 2011). Commercial banking raises questions on how the banks go to waste, thus increasing pressure on the need to overhaul their business models. Nearly 60% of the commercial banks’ returns are less than the equity cost due to the deterioration experienced in the emerging markets (McKinsey, 2019). The global banking industry currently experiences economic cycles characterized by weakened confidence in the investors and slow growth of loans. However, the global banking review shows banks in developed countries experienced a slight improvement from 6.8% in 2013 to 8.9% by 2018.

What explains the differences between 40% of banks creating value to 60% destroying it

Scale

Scale explains the difference between the 40% on banking institutions, which creates value relative to 60%, which destroys it. As such, the banks improve their regulatory compliance by transforming their customer experiences. Research carried out by shows that 40% of banks creating value utilize scale, which results in stronger returns based on a salient segment (Wright, 2019). Scale banking stipulates that the cost of producing goods and services determines the overall value provided to the clients. Thus, the banking institutions creating value, therefore, use scale driven sales to standardize part of its wealth and assets. Hence, the scale ensures that institutional intermediation is harnessed and automated through technologies having low costs. McKinsey postulates that sub-scale banks would experience a downturn if the fast overhaul is not carried out on their operations (Wright, 2019).

Scale can be developed to exemplify the difference between the 40% of banks, which creates value compared to the rest, which does not add value. However, it would take time to develop formidable partnerships and acquisitions currently practiced by most banks. Therefore, banks need to utilize their irrespective scale to reinvent their strategic approaches towards their economic cycle (Farina et al., 2018). As a result, imperatives must be developed to reinvest resources in a manner that spurs innovation in subsequent cycles. About 20% of banks globally have not achieved the required scale levels, thus tend to be weak than their competitors in the dynamic market (Banks, 2018). The 60% of banks that do not add value are, therefore, at risk of downturns thus must utilize scale to level up their competitiveness. The above stipulations on scale provide an analysis of what provides the differences between the 40% of banks developing value.

Business models

Business models play a critical role in explaining the disparities between banks, creating value relative to 60%, which never realize the value (Banks, 2018). The business models outline the major ways in which banks make money either through charges on interests or services they provide. Some of the best business models have resulted in 20% of the banking institutions globally controlling 100% economic value in the vast industry (McKinsey, 2019). The risks undertaken by 60% of banks lead to value destruction resulting in downturns, which calls for bold actions in banking systems. Business models are required to cut operational costs while differentiating operations aimed at improving value. Surprisingly, business models tend to reduce risk costs, but 60% of banks end up destroying their value. Reinventing banks’ business models helps explain why a large percentage of banks end up destroying their value despite their applicability (Mitic & Kapoulas, 2012).

Geography

Geography plays a vital role in explaining the different levels in which banks create values. For instance, at-scale banks often serve a huge customer segment in a distinct geographical location. As such most banks in such a geographical location tends to create value due to the availability of favourable conditions (Blackburn et al., 2019). Hence, geography helps develop the best imperatives needed to reinvest capital in an intelligent manner so as to increase value. On the other hand, geography makes 60% of banks to contemplate on means to secure long-term viability in the market (Blackburn et al., 2019). Hence, it would be easier to develop foundational characteristics that determine a bank’s position. Moreover, geography can be used to consolidate global investments on banks to ensure the institutions improve on their value creation.

Similarities

The approaches used by banks to create value such as investments, capital markets, and cash management helps understand and implement concepts of service efficiency. As such, the approaches help develop imperative consultations with sales personnel on the best way to improve services. Thus, the strategies focus on realizing the need to incorporate every individual into the value creation process (Khanna & Martins, 2018). So, the approaches call for a merger with similar banks to sell their products and services to a stronger buyer to develop a complementary footprint. McKinsey and the company stipulate that the approaches utilize a narrow focus, which subsequently ignores bank roles towards their customers. As a result, banks are capable of tapping their customer base to strengthen engagement. All the approaches ensure that they make banking adjacencies (Khanna & Martins, 2018). So, the approaches are capable of capturing their data to articulate concerns based on the customers’ views.

Moreover, approaches like financial education and account consolidation undertaken by banks compare while they effectively utilize financial data to create value (Levy, 2011). The approaches have all compelled banks to make nonbanking adjacencies as a move to safeguard their interests. For instance, banks partner with health insurers to provide the best-consolidated billing systems to help their clients pay medical expenses in a more effective manner. The approaches have been used to extend the network values to provide customer services at reduced costs. For example, the ING and Ideabank have used the approaches to extend their banking adjacencies as outlined in the outer ring exhibit. Therefore, Post Bank has grown to be the largest provider of phone services in Italy. Thus, approaches such as financial education and account consolidation serve to create a network of value that spearheads the development of distinct ecosystems.

The approaches are taken by banks aspiring to create value ensure they create financial supermarkets to help tackle concerns in the digital banks. The approaches ensure that clients have easy access to financial services relative to their need to address integrated channels in finance. The approaches help develop financial supermarkets having a high focus on returns and an annual return of equity (RoE). As such, it serves to provide a 6% credit on balance sheets compared to 22% of RoE product sales. For instance, in the UK, 60% of the automatic insurance policies are vended by aggregators (McKinsey, 2019). The approaches compare since they create privileged relationships between financial markets to develop recommendations that ease the generation of customer data. It is common that the approaches utilize style services that reduce risks posed by disintermediation.

Finally, banks utilizing the facility and stock management approach to create value ensure they extend their worth across all customers. The approaches make banks leave an enormous value as unattended since most banks concentrate on growing business. However, the approaches are similar since they ensure that banks engage their customers to create value. The evolving trends in the late-cycle have increased uncertainty in nearly all the banks using such approaches. The negative impacts of the approaches are evident in the financial crisis experienced over the last decade globally. As a result, the banks have increasingly utilized the approaches to mend their balance sheets to take advantage of the low-interest caps. In 2018, the global lending growth hit its low point of 4.4%, which was below the nominal growth rate of 5.9% in terms of GDP.

Differences

Tactical approaches used by banks aspiring to create value normally benefit market leaders to improve their competitive advantage. The market leaders in Asian and Latin American nations usually enjoy returns accruing to 400 bps serviced from the average of banking returns. For instance, European banks utilize C-curve, thus sharing in excess of 10% ROTEs to their counterparts in stagnating at the middle stages. Across all the markets, the tactical approaches for developed banks serve a niche market segment based on their superiority to offer excellent customer services (Broeders & Khanna, 2015). On the other hand, tactical approaches utilized by challenged banks aspiring to create value are used to halt customer outflows. Thus, the challenged banks are left to improve their products to develop cordial relationships with the customers. As such, the approaches aim at changing their customers from being unhappy due to diminishing rates of return to being okay.

Besides, the approaches used by banks aspiring to create value do not utilize the same value-oriented strategy (Al-Musali & Ismail, 2016). Exhibit 20 shows that customer satisfaction levels would make a customer consider refinancing a mortgage with different providers. As such, the approaches differ in providing equal amounts of satisfaction levels based on their client needs. For instance, well-developed banking institutions integrate clients’ voices in their operational data to improve efficiency in providing services (Broeders & Khanna, 2015). Hence, customers tend to value products and services from such a firm, thus creating loyalty. However, some of the approaches scale up their capability and services to quickly develop value. Such banks utilizing scale capability tends to add value and prioritize some of their valuable levers. As a result, banks are required to customize their operations in a way that would help track results through capacity building.

The approaches used by banks aspiring to create value utilize fully leverage to carry out advanced analytics. The approaches help develop a competent AA program needed to create value within the shortest time possible (Melnick et al., 2010). Hence, the approaches aim at transforming the bank’s data details to develop the required roadmap to actualize the reality of actualizing value. McKinsey shows that value addition would, therefore, help increase the banking institution’s cost percentage by approximately 10% (Caplen, 2019). However, other approaches only depend on improving scale capability so as to create value. As such, the banks prioritize valuable levers as a strategic approach to improve iterative cycles experienced in the banking industry. The difference has been critical in developing qualitative dimensions required to outline the impact of value creation in the banking industry.

Finally, banks aspiring to create value utilize approaches based on partnerships, while others focus on mergers and acquisitions (M&A). Approaches that utilize M&A pass through a rigorous process that embarks on screening acquisition threats to prioritize them based on their significance on set strategic objectives. Thus, banks that utilize the M&A approach are required to develop a portfolio having coupled scrutiny (Ross, 2019). As such, bank teams are mandated to develop operating models based on their customer relationships. Contrary, banks that use partnerships approaches to create value pool their resources based on equitable share on returns. Hence, such banks are required to develop collaborative initiatives that align with marketing ecosystems.

Conclusion

The report develops insights into banks aspiring to create value based on data provided by McKinsey. As such, the report creates the required approach to motivate banks to create value rather than destroying it. Scale, business models, and geography provide what explains the difference exhibited between the 40% of banks creating value relative to the 60% that destroys it. Besides, the similarities and differences between the approaches undertaken by banks to create change have been outlined. The similarities portray that the approaches utilize similar themes to create value to various banking institutions. The disparities show how the approaches utilize varying tactics to banks aspiring to create value.

References

McKinsey (2019). McKinsey global banking annual review 2019: The last pit stop? Time
for bold late-cycle moves. McKinsey & Company. Link: https://www.mckinsey.com/~/media/McKinsey/Industries/Financial%20Services/Our%20Insights/Global%20Banking%20Annual%20Review%202019%20The%20last%20pit%20stop%20Time%20for%20bold%20late%20cycle%20moves/McKinsey-Global-Banking-Annual-Review-2019.ashx

Wright, C. (2019). McKinsey says one-third of banks on the brink in a downturn. Retrieved 7 March 2020, from https://www.euromoney.com/article/b1hp7hlrpvwjcy/mckinsey-says-one-third-of-banks-on-the-brink-in-a-downturn

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