Unlocking the potential of commercial banking

RMA Journal, The,  April, 2003  by John Walenta

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Profit Levers

The right business model is of course necessary but not sufficient in itself. Greater performance needs to be squeezed out of the commercial businesses by focusing on a few key levers.

Indeed, achieving risk-adjusted returns in the mid-20% range generally is achieved only through a focused, measured, and disciplined execution of an aggressive game plan. The impact we have witnessed in our client work typically stems from six principal sources as seen in Figure 2.

The profit improvements noted can be concurrent with taking market share through the much more disciplined approach to market that results from better focus. Most of these improvements begin with a detailed understanding of customer economics and segmentation of the customer base. This makes it readily apparent where value is created in the banking business across a variety of dimensions. Once this information is understood, it becomes possible to align coverage and service intensity with each major customer segment and also to begin to develop the appropriate coverage model and distribution channels for those segments.

Time and time again, detailed analysis of a bank's data demonstrates that there are two other major leverage points in the business that need attention--pricing and credit/administrative processes. Within pricing, we typically find wide variations among RMs on their ability to negotiate consistent pricing on loan products for customers of a similar risk rating. Significant revenue can be lost through fee waivers, both standard and nonstandard, on noncredit products.

On the cost side, the credit process--broadly defined--is the single largest consumer of expenses for most commercial banking operations. Worse, it encourages a desk-based culture, whereby the RM often spends as little as 20% of his or her time on business development and much of the rest spent on paperwork. Indeed, the expense and effort of the credit process are often improperly aligned against underlying risk.

The impact of reengineering this process has been eye-popping: RMs are becoming able to spend more than 50% of their time on direct sales and marketing.

Some leading banks have gone a step further, moving to a location-independent working environment in which the RM is constantly on the road, visiting clients according to a weekly itinerary designed and set up centrally from a call center, and making only occasional trips to the bank's main office for training and team meetings.

The application of market best practices across the main performance levers of pricing, cross-sell, cost control, and credit process can enable a bank to achieve about a 25% risk-adjusted return for this segment.

Where Do We Go From Here?

Banks looking to augment returns in commercial need to follow a basic approach combining rigorous self-assessment with tangible optimization actions: in effect, understand what you may be doing poorly and then work to correct shortcomings. This means understanding client and product-level economics, how relationship managers spend their time, and what their cost-to-serve by major customer segment should be to sustain decent margins. Not surprisingly, banks need to focus attention on untangling costly full RM coverage models for their small business customers, in large part because these customers simply cannot cover the fixed costs of such an expensive coverage platform. Unfortunately, repositioning a bank's coverage model for this fragmented segment is not a trivial exercise. It requires repositioning the bank's approach to market in a way that standardizes and often cuts service intensity. If not properly executed, customer migration becomes a major issue and the small business segment can become a wasting asset. All of these actions imply or assume that basic infrastructure is in good shape. By this, we mean that internal MIS and client interfaces are reliable and user-friend 1, and that incentive schemes are appropriately aligned. The sometimes painful reality of strategic reviews is that money needs to be spent on these often neglected areas before the other gains start to fall into place. If handled properly, however, the gains are tangible and the long-term benefits fairly outweigh the short-term pain.