Twilight Of The Teller?

Cyberbanks are advancing all across Europe

Eighteen months ago, Paul McNamara closed out his account at the Bank of Ireland and moved to First Direct, a novelty on the European scene: a bank that has no traditional branches. Like First Direct's 850,000 other customers, the 31-year-old McKinsey & Co. management consultant simply picks up the telephone or sits down at a computer terminal to pay bills or handle other transactions. "Bank opening hours tend to be at crunch working hours, when I don't have time," says McNamara, who lives in London.

Busy young clients like McNamara are fueling rapid growth of these new "direct banks" and brokerages around Europe. First Direct, a unit of HSBC Group's Midland Bank PLC subsidiary, adds 12,500 new customers a month. Bank 24, a three-year-old Deutsche Bank offshoot that offers banking and brokerage services, will nearly double its German customer base this year, to 450,000. Traditional banks are edging into cyberspace, with their own telephone and computer banking services. So by 2001, figures Boston Consulting Group Inc., 51 million Europeans, or about one in six, will be banking that way.

TARGET: GERMANY. Big changes in Europe's financial-services industry are coming as a result. Branch networks, once powerful competitive tools for gathering cheap deposits, are fast becoming costly white elephants. The direct banks, housed in cheap real estate away from prime locations and employing less-qualified and part-time staff, are driving down banking fees and margins. The imminent arrival of the euro, Europe's common currency, will soon make direct banking across borders easier, putting more pressure on European banks to consolidate. Direct banks, says Guido Merz, a consultant with Munich-based Roland Berger & Partner, are "driving the restructuring of retail banking."

Expansion-minded banks already have latched on to the format as an inexpensive means to gain market share in neighboring countries. Cash-rich Germany is a choice target. Inconvenient business hours at traditional banks and a heritage of lousy customer service give the outsiders a boost. Banco Santander, Spain's largest bank, has lured more than 100,000 customers to its four-year-old German direct-bank subsidiary, Santander Direkt Bank. And in March, ING Group of the Netherlands plunked down $152 million for a 49% stake in Allgemeine Deutsche Direktbank, Germany's oldest direct bank, with about 300,000 customers. It is now funding the sleepy savings bank's expansion into new products, such as insurance and mutual funds.

But the biggest shocker may come from tough new competitors, such as E*Trade, the U.S. online brokerage. Continental bankers are toting up the rich pickings to be made now that Europe's savers are becoming equity investors. But they may lose the prize. Banks, which have long dominated European brokerage, charge commissions of up to 1.5%. By contrast, E*Trade charges low flat fees. It made its big move in June by agreeing to invest $6.4 million in a joint venture with Electronic Share Information Ltd., a British online supplier of stock quotes and other financial information with 170,000 clients. Earlier, it signed licensing deals covering countries such as France and Germany. It did consider tie-ups with major financial groups but found, says Judy Balint, president of E*Trade International, "their decision-making part was slow."

Unless old-line European banks embrace direct-bank technology faster, they risk losing out to lower-cost competition. Some are beginning to add such services as 24-hour phone access and online transactions. The strategy looks attractive because, according to consultants' estimates, a transaction done on the phone costs half as much as in a branch. Internet transactions are even cheaper. Bank 24 figures each one costs 1 cents, vs. $1.12 via phone.

Even so, there's no free ride. Initially, the new technologies add to costs because they require big investments. That steps up the pressure to wring out costs from inefficient operations in traditional branches. Besides, banks have to pass on some of the cost savings to attract customers. Germany's Comdirect Bank, for instance, charges a monthly checking account fee of $2.80 per month, vs. $7 at parent Commerzbank. To encourage online usage, each payment via PC lops 56 cents off the fee until the account is free. And the account pays 2.7% interest, vs. zilch at Commerzbank.

As a result of hefty startup costs and surging competition, only a handful of direct banks are profitable. Comdirect, in which Commerzbank's investment is estimated at over $56 million, lost $15.7 million last year. Company officials don't expect to be in the black until next year. One culprit has been higher-than-expected marketing costs as the new banks scramble to attract customers. In Germany, some banks have spent as much as $1,700 for every new account won, figures consultant Merz.

CONVERGING RULES. The big payoff is likely to come as the cyberbanks start treating Europe as a huge single market of about 300 million account holders. Despite the cross-border incursions by the likes of Santander, no bank has yet launched a Europewide operation. For one thing, regulations, such as data-protection laws, still differ from country to country and are obstacles to such a move. But those barriers are expected to crumble soon as the rules converge, say analysts and bankers. Already, some banks are mulling how to expand around the Continent. "The name Bank 24 can be used all over Europe," says Thomas Holtrop, a managing director of the Deutsche Bank startup. "We will position ourselves well."

In any case, Europe's traditional banks have little choice but to go with the trend. The number of direct-bank customers may still be a fraction of Europe's banking market. But they are among the most attractive--and profitable--for banks. They tend to be younger than the average customer and to earn more. First Direct customers, for instance, earn 50% more than the British average. They also are more likely to buy products, from mutual funds to life insurance, that generate healthy fees.

The big winner in the shift toward direct banking will be consumers like McNamara. Sure, there will be fewer bank branches in the future. But convenience is rising as new technologies come online. Fees for basic services are dropping. And waiting in a teller line is becoming a thing of the past.

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