Boiling the Frog: Time to Re-think Branches?
Recently, several banks have begun addressing branch distribution costs. Bank of America has been consolidating branches, exiting in-store locations and reducing off-site ATMs. JPMorgan Chase has been reconfiguring their branch network, pruning some while expanding in a few high value locations. And recently both Independent Bank (Michigan) and Old National of Evansville, Ind., announced branch reductions.
But, as hedge fund investor and bank analyst Tom Brown stated in an insightful point-of-view recently, these are the exceptions; the rest of the industry remains behind the curve.
We all know the trend – and it is not our friend. Branch-based transactions are declining due to direct deposit, debit, on-line bill pay and other means of check disintermediation. Branch visits are declining, resulting in fewer face-to-face sales opportunities. Checking account economics have been hit dramatically with low interest rates and limitations on overdraft fee income. High cost branches cannot be supported in a world with fewer transactions, fewer customer visits and lower product profitability.
The branch is not dead, but it must change.
This is not exactly news, so why is the industry taking so long to come to grips with changed branch channel economics? Perhaps it is a natural reticence to invest in uncertain change, or concern about the risk of potential customer disruption. But how long can we wait? Those who tarry before beginning the process are in danger of becoming like the frog in the gradually warming pot of water, who only realizes how hot it has become when the water boils and it is too late to get out.
So, what should we do?
Market and Cost Models
First of all, bank executives need an objective model to quantify opportunities in each market or branch trade area so resources can be strategically aligned with market potential. I am often struck by executives who will carefully analyze credit risk before making a decision but un-hesitantly make subjective judgments about market potential or resource allocation without utilizing the wealth of data available to improve the quality of these decisions.
We need to know how much upside potential each branch and market has, not just in aggregate but by specific line of business such as consumer deposits, consumer loans, small business deposits and wealth management. Without this informing knowledge, management cannot make the best decisions about how to invest capital, allocate talent, target their marketing or align other resources to capture the opportunity. Nor can they make the best decisions about which markets merit expansion and which warrant reduced investment.
Branch cost dynamics have to change. Whether you believe it takes $40 million in deposits for a branch to be profitable, or only $20 million, the message is the same: too many branches are not profitable and at the current pace of sales they are unlikely to ever achieve a decent return on investment. About 20% of the branches at large financial institutions are too small to justify the minimum staffing required for dual control and branch security. And the percentage is significantly higher at community banks, which have smaller average branch deposits.
We need branches that are less expensive to build and manage and we know how to do it without compromising customer service or staff security. We need branches that have a cost structure that breaks even at half of today’s typical cost and we need branches that can operate with fewer staff.
Part of the answer is greater use of assisted self-service. Customers will adopt in-branch assisted self-service when such options are presented appropriately. There are abundant examples of institutions that have reconfigured existing facilities and restructured staffing, with almost immediate payback in terms of return on capital investment as well as improved sales performance.
It is a myth that it won’t work in your market, that your customers are different. Some are, most aren’t. They use self-service checkout at Home Depot. They rely on Garmin to find where they are going. They use Skype to video conference with their grandchildren. They drive GPS-enabled combines while simultaneously checking crop futures on the Internet. Simply put, if you aren’t already taking steps in this direction, you are missing low-hanging opportunities for cost savings.
And it is a myth that small physical branches equates to small profits. Texas-based Frost Bank built a facility about the size of an in-store branch in a suburban Austin strip mall that grew to $42 million in deposits in just 4 years. It’s all about targeting the right market, creating the right physical presence and developing the right sales process.
And on that score, we definitely need a different sales model. If branches are evolving away from being transaction points and becoming sales and service hubs, then how should we structure the sales process? If customers are less likely to come into the branch, how can we either find more ways to encourage visits, or become more creative in our outreach into the community?
Oregon’s Umpqua Bank has long been a leader in this area and has built its entire retail banking effort around small, community oriented “stores.” But they are not the only bank that is successfully implementing this strategy. Every time I visit Amplify Credit Union in Austin I find a book fair, or a music concert or a Friday evening BBQ going on – all ways to attract customers and prospects. Frost Bank recently introduced several mobile branches – full service (although cashless) branches in a van – that go out into the community and visit bank-at-work sites. Cincinnati-based Fifth Third Bank has aggressively increased community outreach, resulting in significant increases in household acquisition.
When should you start to make forward thinking changes in your branch network? There’s no time like the present to start pruning branches in low growth areas, improving the economics of existing branches and developing the sales rhythms you’ll need in tomorrow’s environment. Don’t be that frog waiting for the water to boil.