Site Selectivity

By Bill Stoneman

Site selection, not execution, may be the dominant factor in de novo branch success. Are banks getting it right?

U.S. banks easily will spend more than two and a half billion dollars to open more than 1,000 new branches in the next few years, and much has been made of the need for superb execution in this campaign. Factors ranging from marketing to the performance of front-line staff have been cited as key determinants of success with new outlets.

But overlooked in all of the emphasis on follow-through is the fact that, in many cases, the de novo game is won or lost largely on the basis of site selection ? where the new installations are located. And as with all trends where multiple players are rushing to deploy resources ? remember dot-com mania? ? there is a risk that important decisions will be based too much on popular theory and executive guesswork and too little on thorough research.

The likely scenario, based on expert analysis, is that there will be a wild dispersion in performance among the new branches, with the most successful units racing ahead of the pack and the least successful left dragging in the dust. Recent research by First Manhattan Consulting Group, for example, found that the top 20% of new branches outperform the bottom 20% by a factor of 10.

Even the banks that come up with runaway winners need to stay mindful of the downside risk, since they too will probably wind up with some duds in their de novo portfolios. A typical free-standing branch costs $2.3 million to build and absorbs another $500,000 in annual operating expenses, according to estimates by MarkeTech Systems International in Raleigh, N.C.

Given the extent to which poor performers can offset results from top-tier units, "you have to do consistently better than average" with the overall portfolio of new branches in order to win a payoff on the exercise, says FMCG president James McCormick. Site selection figures strongly in such an achievement, as underscored by a recent MarkeTech statistical study suggesting that up to 70% of de novo success hinges on factors other than execution.

To do the best job with critical site decisions, managers should avoid an unquestioning reliance on conventional wisdom about what works best. Fast-growing locales aren't always the best choice, nor do affluent areas provide a guarantee of success. It's important to understand the full range of site-related performance factors. Considerations range from traffic patterns, site visibility and convenience of access to the number of businesses, daytime workers and competitors in the area.

Strategic alignment is supposed to be the glue that holds it all together, so it is vital to clarify important corporate-level issues, such as competitive differentiation, brand positioning and target customer segments. Some players find it advantageous to enter high-population areas that are densely packed with competitors. Others believe they do best in newly developed locales where the competition is slim. Still others thrive in storefront outlets situated in retail shopping areas.

To be sure, many institutions have seasoned teams that work constantly on site-selection issues, and they see nothing particularly challenging about the days ahead. But with some players announcing ten-fold increases in the volume of annual branch openings, the stakes are far higher. Though familiar and reliable, the family sedan might not be up to speed on the Autobahn.

Kicking the Tires

When John H. Laing gets serious about a prospective new branch site, he leaves the paperwork in his office and takes a first-hand look. For Hibernia Corp.'s consumer banking officer for Texas, "kicking the tires" means standing at a prospective location for a couple of hours, watching which directions cars travel during various times of the day and trying to figure out what it would take to catch drivers' attention.

Laing recalls one location that sounded great and clearly met his demographic criteria: near a shopping mall that was situated right next to a major highway. It turned out, however, that the site couldn't be seen from the highway and was only accessible via a road that led into the back of the mall. This road also turned out to be lightly used.

"We kept looking at it and said, 'maybe we're here the wrong time of day.' We made about 10 visits and finally walked away, saying you can't trust the demographics all the time."

This level of attention to detail speaks to the critical influence of locale on the performance potential of a new branch. And while the careful handiwork exhibited by Laing is essential, it is not clear how well some major institutions will do in attempting to open hundreds of additional outlets within a few short years. Finding good places to put all that brick and mortar will be difficult.

Picking branch sites is a high-stakes business because it is expensive to build new offices and location is widely regarded as a major factor in consumers' decisions to bank with one institution rather than another. The banks that announced major de novo branch expansions are counting on these offices to generate deposit growth. But they could end up with a financial drain if they don't place these branches well.

The traditional approach to branch site selection usually begins with demographic data on a targeted area, which is then combined with deposit and loan information on local competitors from the Federal Deposit Insurance Corp. Executives usually seek either fast-growing or densely populated areas that will generate the growth they need to make the branches profitable within a reasonable period of time, which the industry normally defines as one to two years.

The process sounds quite reasonable, but unfortunately, new findings from MarkeTech cast doubt on the usefulness of demographic and FDIC data in making site selections. In a statistical study of more than 5,000 mature U.S. branches (seven to 11 years old), variables such as household income, household growth, population density and competition explained less than a fourth of deposit performance. "This data…is best used in conjunction with other analyses about the environment for the proposed branch." (click here to read sidebar).

Market Penetration

It is not clear how well banks are blending science and strategy in branch site selection. Several expansion-minded institutions, including Bank of America Corp. and Washington Mutual Inc., declined to be interviewed for this story; others commented on their strategies but didn't go into their analytical processes. But overall, it appears that corporate priorities and trial-and-error feedback are the driving forces in many instances.

One prominent approach seen these days is to circumvent mergers and acquisitions and use new branches to penetrate a market. Charlotte-based Bank of America, for example, expects to open 550 new locations through 2005, including offices in Chicago, New York, Boston and Philadelphia, where it does not currently have a presence.

Institutions such as BofA, Commerce Bancorp Inc. and Washington Mutual believe they have a competitive advantage that allows them to wrest business from banks already entrenched in the markets they are entering. Part of the impetus lies with the fact that some major markets remain quite fragmented; part of it has to do with corporate muscle and a belief that the weaknesses of competitors can be exploited; and part of it is based on a differentiated approach.

For example, Vernon W. Hill 2d, chairman and president of New Jersey's Commerce Bancorp, is supremely confident that his company's formula for convenient, friendly service will make it a winner in downtown New York, far from its roots in suburban New Jersey. "We want to go into the middle of the competition, into the middle of the most densely banked areas," he says.

So much for why providers might jump into an entirely new territory, but it gets murky quickly when it comes time to select specific sites. A large share of all new branches is being built by market leaders in fast-growing outlying suburbs. In these instances, banks are seeking to claim what they regard as their "fair share" of a market's business. However, MarkeTech did not find strong statistical support for the proposition that high-growth markets offer lots of profit potential for banks.

Targeting wealthy areas is another prominent tactic, although some recent studies suggest that affluence also is a poor predictor of de novo branch success. First Manhattan managing vice president Gordon J. Goetzmann notes that affluent people have numerous financial institutions clamoring for their attention and don't necessarily keep much of their money in a bank.

One factor that does seem to improve a branch's chance of success is population density. All other things being equal, a dense population will likely help to provide the deposit growth needed to make a branch profitable, which further explains why so many "out-of-towners" are interested in markets like Chicago and New York.

Foot Traffic

Within given locales, fast-growing and otherwise, one fairly prominent strategy is to place branches near a cluster of major retailers to capitalize on the foot traffic they generate. This approach to branch site selection highlights one eternal truth in this business: the key criterion is "traffic, traffic, traffic," says Dean Silverman, a director of John Ryan International, a branch design and marketing consultant based in Minneapolis. "Everything else pales by comparison."

Omaha, Neb.-based Commercial Federal Corp., for example, favors a kind of "piggybacking" strategy for new branches it's opening in Omaha, Denver and Des Moines, Iowa. In most cases, Commercial Federal tries to line up space in shopping centers anchored by a Wal-Mart, or a Lowe's home improvement store, or perhaps a leading grocer, according to Chris Gill, director of distribution planning for the $13.3 billion-asset institution thrift.

One advantage of this approach is that it allows Commercial Federal to benefit from the demographic research performed by these other retailers and then leverage the traffic those companies generate. "We look at high-traffic retail areas where people are already going to do other business and where they can combine errands into one trip," Gill says.

TCF Financial Corp. of Wayzata, Minn., which is building 20 to 25 branches in 2003, takes the same view. "We prefer to be near large-footprint retailers that draw people from a five-mile radius," says Mark L. Jeter, president of the bank's Minnesota business and also head of de novo development of standalone branches companywide.

In a variation on this approach, Washington Mutual tries to find storefront space within high-traffic retail areas, angling to capitalize on the market while avoiding the high costs of constructing standalone outlets. Wamu, which emphasizes basic retail banking centered on mortgages, often leases storefront space within a line of stores ? in strip centers and on city blocks.

Wamu executives declined to comment on this strategy. However, John Nicola, a senior vice president and site selection consultant with International Banking Technologies in Norcross, Ga., says storefront space costs less than standalone parcels and thus lends itself to a strategy of rapid numerical expansion. Washington Mutual opened 143 new branches in 2002 and expects to add another 49 this year, including 32 in Chicago.

Of necessity, much of the thinking on individual parcels revolves around what is actually available at a given time. And there are other considerations, such as parking space, local zoning rules that might delay construction and building codes that might restrict the size of signage. "We have a list of criteria for sites," Laing says. "But like everything else in life, you can't meet all of them. You look for enough of them to get comfortable."

An institution's criteria must include the wide range of services it plans to offer in a branch. As a full-service bank, Hibernia tends to favor roomy, standalone buildings with sufficient parking space. In Texas, for example, it is building 6,500-square-foot offices with four or five drive-up windows and room to serve small business owners and offer investments and mortgages.

It is all too easy to become engrossed in such details, however, and neglect the larger question of which factors most strongly influence de novo success. As the MarkeTech findings illustrate, there's a lot more to this than simple demographics, and the question now is whether expansion-minded players have factored that truth into their ambitious campaigns.

Mr. Stoneman is a freelance writer based in Albany, N.Y.

Copyright © 2003 by Banking Strategies, published by BAI.

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