What Makes the Best Better?
What makes the best of the best outperform the competition? It’s a question that puzzles business leaders everywhere, especially in the banking industry, where razor-thin margins and a tough economic climate have put a damper on institutional performance. Yet, there are some banks that consistently perform better than their peers. To understand what these banks are doing differently compared to lower performing institutions, Fiserv conducted a study that reviewed the performance metrics of banks with assets ranging from $1 billion to $10 billion.
We evaluated these institutions in terms of revenue, non-interest income, loan and core deposit growth. Next, we identified the factors that distinguished the leading growth institutions. Across the board, the research found that strong and growing banks maintained five key attributes: a strong cost foundation, sustained lending volumes, steady non-interest income, decreased reliance on service fees and a proven motivation to capture market share.
Some of what we uncovered in the analysis may be surprising. The leading growth banks were distributed across the country. While they tended to operate in areas with strong local economies, they weren’t concentrated in any one particular region. The results did not point to one particular lending product strategy, either. Forty percent of the top performers had well diversified loan portfolios and most of the remaining were fairly equally represented in a number of lending categories, suggesting there are more factors at play than one particular focus.
So, what gives these leading growth banks such a powerful edge? Here is what the analysis revealed:
Motivated to capture market share. Unsurprisingly, leading growth banks operated in markets that had a greater density of households and businesses (on average 1,590 per square mile versus 715). What is surprising, however, is that these high performing institutions do not possess overwhelmingly strong market share. The average FDIC market share within close proximity to each bank was just over 6% for all banks surveyed, but only 2% for leading growth banks. This shows that the top performers are competing fiercely in saturated markets.
Strong cost foundation. A lower cost foundation lessens the risk required to generate revenues, and it’s one of the most significant influences on sustained profitability. Cost foundation is a unique metric calculated by adding interest expense and non-interest expense by average earning assets. The study revealed that the leading growth banks not only excelled in generating revenue but were also efficient from a cost perspective in generating that revenue.
Loan production fees over service charge fees. Thanks to greater regulatory scrutiny, highest performers in the study are relying less on servicecharge fees to generate income. For all banks evaluated, approximately 34% of non-interest income came from deposit service charge fees compared to 17% for top performers. Instead, leading growth institutions are becoming decidedly more dependent on loan production fees, which include origination fees and gains on loan sales in the secondary market. The proportion of these fees to overall non-interest income is almost twice as much for top performers.
It’s all about loan volume. Top performing banks are simply lending more than their peers. For leading growth banks, total loans as a percentage of average earning assets was nearly 75%, compared to an average of 65% for all banks studied. But, while top performers lead with higher loan volume, it’s often done with some sacrifice to loan yield. This can be attributed to two factors: aggressive pricing and higher quality of loans.
Optimized non-interest income opportunities. Leading growth banks generate more of their revenue from non-interest income opportunities than the typical bank. Core non-interest income made up nearly 24% of revenue for the top performers, significantly more than the 15% generated by their lower performing peers. This will be critical to all banks going forward as net-interest margins continue to be squeezed.
Some bank leaders search for a magic bullet to obtain and sustain high performance and most are disappointed. While a radical new offering or selling strategy may boost performance temporarily, long-term gains are made more incrementally by having a disciplined focus on hyper-efficiency. To perform well in 2013, banks must lend more while simultaneously finding new non-interest income opportunities and capturing market share from the competition. Armed with a strong cost foundation and insight into opportunities of differentiation, banks can find their unique path to growth.