Branch Consolidations: Handle with Care

Branch consolidation is a major theme in retail banking this year as institutions pare back their branch networks to reduce expenses and increasingly rely on self-service channels to meet customer needs.

Unquestionably, the potential cost savings associated with overlapping branch consolidations can be intoxicating. However, pulling the trigger on this opportunity without understanding attrition dynamics and deploying actions to retain high-revenue customers has resulted in many banks making inappropriate, shareholder value-destroying decisions.

Our analysis shows that the challenges of executing branch consolidations while avoiding serious revenue attrition are more difficult than often assumed. In some cases, actual attrition is more than double the expectations from conventional wisdom.

Specifically, we find that bankers have a tendency to underestimate both the magnitude of short- and intermediate-term attrition from branches that are closed and also the reduced longer-term revenue growth in branches receiving the customers. In some cases, bankers’ overly optimistic views are a result of only looking at relatively short-term attrition; e.g., over the first six months post-closing. We find considerable evidence that higher attrition persists for two years after a consolidation.

This loss of revenue has a material income impact because of direct and allocated back office and administration costs of branch networks As a consequence, even modest customer run-off can outstrip the cost benefits of consolidation.

Consider these insights from FMCG’s analysis of the economic impact of consolidating branches, where we measure success, identify winners and losers and then determine what the best practices are that make the difference. Looking at more than 1,000 branch pairs that were consolidated over the period 2004 to 2009, we found that deposit loss within the first two years ranges widely.

Many bankers believe that attrition is quite low if the branches are close to each other.  Indeed, in the 20% of consolidations with the least defection, only 5% of deposits are lost after two years. However, in the 20% of consolidations with the greatest attrition, a revenue-crushing 55% of the deposits consolidated from the closed branch are lost, on average.  As a consequence, we estimate that 60% of branch consolidations resulted in a negative net present value (NPV) because of higher-than-acceptable attrition.

Beyond short-term runoff, consolidations tend to have longer-term effects on revenue momentum. Following a three-year stabilization period, a typical consolidated branch experiences a decline in revenue growth of four percentage points per year relative to local market performance, according to our study. Note, however, that averages can be misleading and some banks outperform while others suffer more.

These findings have several implications for planners evaluating branch consolidation opportunities. We recommend that you make sure that your financial model is properly calibrated for:

  • The likely loss in revenues from consolidation over the two year post-closing period, taking into account factors that make a difference to attrition such as distance between branches, whether the receiving branch is one with a strong growth track record, the nature of local competition, and whether the receiving branch will be over-capacity;
  • The fact that longer-term growth of the remaining branch may be compromised;
  • Your likely performance in these cases relative to industry averages. As a start, for example, examine your performance in previous consolidations.

In branch consolidation planning efforts supported by our firm, we have found that the inclusion of these factors has a material impact on the choice of branches to be consolidated. We also found that efforts to improve customer retention can work. Indeed, if a bank can achieve best-practice levels of retention, more branch pairs can be included in the close/consolidation program and the positive income impact of each one is multiplied.

Overall, it is important to carefully determine which branches offer attractive potential if consolidated; set appropriate goals for the surviving branch’s revenue growth; and define and execute steps to minimize attrition, focusing on high-revenue customers.

On a related note, if you emerge from a consolidation with a branch total that exceeds your “fair share” of deposits in a given market area, you’ve increased your challenge of sustaining growth. You then need to formulate a marketing agenda incorporating the need to work harder and smarter to compensate for the fact that your share of doors open is less than your share of deposits.

Mr. McCormick is founder and president of New York City-based First Manhattan Consulting Group. He can be reached at [email protected]