With all the new challenges banks now face, one of the oldest and biggest still remains: competition. And that competition goes far beyond a bank's typical rivals. Even retailers like Wal-Mart (WMT) are getting into financial services, offering basic banking to their shoppers.
To address this new tide of competition, banks are looking for novel ways to retain and attract customers. But cosmetic enhancements and branch renovations can only go so far. Financial-services providers have to make extensive changes in how they sell to customers. The key to these changes will be upgrading information technology systems. In fact, if banks don't transform these systems, they stand to lose customers and substantial revenue.
Competition has a direct impact on banks' customer retention rates. According to Kathleen Khirallah, research director at TowerGroup, "the average consumer in the U.S. divides his or her financial wallet among multiple financial institutions. U.S. consumers don't keep all their eggs in any one basket, preferring instead to work with four or five financial providers at any given time. Consumers establish relationships with a variety of providers to cover their banking, insurance, and investment needs." This means that no one bank is dominating the market and, more importantly, customers don't think that one institution is capable of providing all of the services they need.
It's not enough for banks simply to offer attractive services—the key to retention is the ability to bundle products and services in a way that reflects the customers' specific lifestyles and financial requirements. And the biggest issue that banks must overcome to make bundling a reality is disparate IT systems.
To determine what changes banks should make to their IT infrastructures, we must look at the current state of their IT systems and address the flaws.
Research from Celent shows that banks continue to invest in maintenance rather than in new systems, with almost three-quarters (74.5%), or $236.7 billion in real dollars, of IT investment going to maintaining old IT systems. These systems are segmented by product, with redundant processes for each. For example, a checking account and a savings account have different sets of functions that do the same thing—they have two separate functions that open an account, two separate functions that generate monthly statements, and so on.
Upgrades Not Top Priority
These redundant and separate systems make it nearly impossible to sell more products and services to existing customers in the form of a personalized bundle. Also, the complex and rigid nature of these systems dramatically increases the time it takes to bring new products and services to market. Currently, it takes, on average, 14 months to 18 months to deploy a single new product or service, and it's done by playing a tedious game of "connect the dots" between different product segments.
So why has it taken banks until now to see these challenges? The truth is that they've seen them coming but there were other priorities and there were no low-risk, low-cost options to fix them. First, banks have had to spend the past several years focusing time and resources on regulatory requirements. As a result, banks did not have the extra budget for comprehensive back-office upgrades.
Second, it was cheaper and easier to renovate the decor of the bank to make it look more like a retailer of bank services. Banks spent money on outward appearances in the hopes of appealing to customers. However, it's the behind-the-scenes elements that banks truly need to change in order to be successful retail banking organizations in the future. Third, even if banks wanted to modernize their IT systems, in the past they had only one choice: a total system replacement, which is extremely risky and can cost anywhere from $300 million to $400 million over five years.
Targeting the Affluent
Today there is a new approach to modernizing IT systems that can help banks retain customers and grow revenue without doing a wholesale replacement. It's called "componentized banking." With this approach, banks can update their IT systems one step at a time, while reducing maintenance costs. One benefit of this approach is that centralization of product components helps banks better bundle services that fit customers' needs, letting them target specific customer segments and create a superior experience for their customers regardless of the product.
The next step for banks after modernizing their IT systems is to identify their target customer segments and offer service packages that directly speak to the financial situations of those groups. Being a "one-stop shop" for everyone and everything isn't the most effective way to retain the most customers. Wal-Mart and other retailers are offering services that their customers need when they are in the stores. These include such services as bill payment and check cashing. Retail banks have to do the same thing and home in on one customer segment: the affluent.
This segment represents trillions of dollars in aggregate assets. According to the TowerGroup, there are currently 15 million households in the U.S. alone with investable assets of between $200,000 and $2.5 million. These customers know what services they want and they expect more than cookie-cutter treatment from their bank. They demand individual attention and services that cater specifically to their lifestyles. For example, if a customer approaches his financial adviser about a new mortgage, he wants his adviser to know he has two children in high school and that he might also benefit from a low-interest college loan.
Changes Not for Everyone
Wells Fargo (WFC) has taken a step in this direction and made changes to become a retailer of financial services. For example, its branches are referred to as shops and they are able to easily offer consumers bundles of services, helping to dramatically boost the products-per-customer ratio.
For some financial institutions, making that transition isn't going to be so easy, and might not even be the most appropriate decision for their business. For example, large banks whose systems are already in a "siloed" state face more complexity when they make acquisitions because they are literally running two different sets of IT systems. In addition, community banks, whose customer base is rooted in the particular location of the bank, will face challenges because of their size and lack of resources.
It is nearly impossible for them to bundle services effectively because they rely on other banks to supply products and services. Finally, adopting a "retailer" approach wouldn't benefit specialty banks the way it would other institutions. By specializing in specific product areas, these banks lack the integration necessary to offer comprehensive and targeted bundles to customers.
As evidenced by Wal-Mart, retailers are not far behind banks in offering customers financial services. Wal-Mart knows what its customers want and delivers those services to them in a fashion that is most convenient. Looking like a retailer is one thing, but it doesn't mask the fact that banks are lacking the technology and processes necessary to give customers the products and services they need. For banks to remain competitive, it is imperative that they invest in their IT systems now to increase customer retention in the future.