The path to improved profitability runs through data

Improving net income takes more than just reducing expenses and raising fees. The professional management of the business must be focused on sustaining profitability and growth. And in today’s world of abundant data, using analytics to unearth actionable information creates insights that can lead to more revenue and increased net income from all revenues. Consider the following examples to learn how leading banks have used analytics to differentiate themselves from the competition.

Rethink the potential of your commercial customers

We know that the majority of retail customers are unprofitable. But what about commercial customers? Similarly, across our client base we find that 80% of commercial customers don’t generate any profit. But, unlike retail, commercial has an officer of the bank assigned to every customer, and these banks have robust account analysis systems. These officers could renegotiate the deal if they only had the information available to show them how. Consider this the “low hanging fruit.”

One of our clients, with $20 billion in assets, identified that if the institution just brought its unprofitable commercial customers to break-even, it would improve net income by $12,000,000. When senior leaders presented this to the executive committee, the CEO responded, “Why would we accept break even? We should make a profit!” Exactly!

Tracking volumes against compensating balances doesn’t go far enough. Commercial bankers need customer profitability. And not just total customer profitability, but customer profitability unbundled to show every product purchased and each product’s profitability. This product profitability fluctuates by customer. It’s affected by each customer’s behavior; that is, their balance amounts, terms and rates, channel usage, transaction intensity, etc. When commercial bankers arm themselves with credible and accurate profitability information, they grab that low-hanging fruit from the vine and turn these opportunities into wins.

Understand retail local market profitability

Best-practice banks view results from a local market — meaning, a specific demographic area serviced by a branch or cluster of branches — from a number of perspectives. They want to know the aggregate profitability of the customers in that location in order to compare markets and target attractive markets to penetrate. They also want to know individual customer profitability to identify customers for targeted marketing. Lastly, they want to know how walk-in customers utilize the location. This differs from profitability because the walk-in customers may actually be customers of record of other branches or local markets.

The crucial difference between local market profitability and customer profitability is that customers can move to other local markets and still be customers of the bank. It’s important to understand this movement of customers over time because it impacts the very nature of local market demographics: We all know that neighborhoods change, and a location that’s profitable today may not remain so over time.

Measuring and managing local markets involves the two most important analytical measures of a branch or location: profitability and productivity. How profitable is it to have a presence in a specific location, and what’s the productivity of the people who staff the location to service the walk-in business?

Measure local market profitability by calculating the revenue of the customers of record of the local market less the cost of generating that revenue. You’ll be a step ahead of the many banks that do not compute the cost of generating the revenue. In fact, most banks misstate branch profitability by taking the revenue of the customers of record of the branch and subtracting 1) the direct expenses of the branch (that is, expenses of positioning resources in the branch to service the walk-in customers from any branch) and 2) some allocated back-office expenses. This mismatch of revenue and expense distorts results and adversely impacts decision-making.

Use data as a window into customer behavior

You can gain a sense of customer behavior by zeroing in on usage-based charges to the P&L. Since the charges reflect the channels the customer utilized and the resources they consumed, the P&Ls reflect the impact of customer behavior on net income. Behavior is evidenced by the size of the balances in their accounts, the number of transactions they create, the channels they use, and the fees they pay. Taken in combination, this data tells a story that unlocks the potential for further understanding and analyzing customer profitability.

We worked with one bank that had been creating retail customer P&Ls for a number of years using this approach. It had retained all of that history in its data warehouse. This retail bank had adopted a company-wide objective of retaining their profitable customers. So, its marketing department came up with a brilliant idea: The marketing manager suggested that the bank use its predictive modeling software to examine the last three years of customer P&Ls and pinpoint the profitable customers that had left the bank. The department decided to look at the last ninety days of their behavior and apply what the software learns to the existing customer base and identify the profitable customers that could be planning on closing their accounts. The software came back with a list of names of customers likely to close out their relationships.

The marketing department assembled lists by branch and sent them out to the branch managers. One of the branches called to say they received the list around noon and found that one of the names on the list had closed out their relationship at 10 a.m. that morning. This obviously enhanced the credibility of the effort, and word spread throughout the branches. Their calling efforts succeeded in retaining many of the customers on the list.

I could share numerous examples of profitable decisions arising from analytically derived information that provides insights into the business. But, banks can only score these wins when employees have access to credible and accurate information regarding customer profitability for commercial, wealth and retail customers; product profitability; local market profitability and regular monthly reporting of resource utilization by channel; and cost center and profit center. The key? Adopt cost-effective analytical methodologies that eliminate the bickering over rates and rules, and you’ll find a path toward a consistent, professional approach to sustaining profitability and growth.

 

Gregory J. Nolan is the CEO of G J Nolan & Co., a management consulting firm that focuses on enhanced profitability in the international financial services community. He can be reached at [email protected].