The Right Way to Efficiency Improvements: Improving the Bottom-Line AND the Customer Experience

Transcription

1 The Right Way to Efficiency Improvements:

2 Table of Contents Is Efficiency the New Mandate at Your Bank?... 3 The Right Way to Efficiency Improvements... 4 Leg 1: Revenue Management... 4 Leg 2: Expense Management... 6 Leg 3: Business Process Improvement... 7 Putting It All Together The Abound Resources RightPath Program Abound Resources Efficiency Improvement Services Page 2 of 12

3 Is Efficiency the New Mandate at Your Bank? With continued margin pressure and growing concerns about further drops in non-interest income, efficiency has become the new mandate in many community banks. In our 2010 community bank survey ( CEOs listed improve efficiency as their number two priority for the year ( clean up balance sheet was number one). Community bank executives are right to be concerned. For all but the largest banks, efficiency ratios have been on a steady decline for the last decade. 85% 80% 75% 70% 65% 60% 55% 50% 45% 40% 9% Improvement Efficiency Ratio All US Commercial Banks 10% Decline 18% Decline 20% Decline >$10BB $1BB - $10BB $100MM - $1BB <$100MM Since the Efficiency Ratio defines the amount of revenue generated by your overhead base, an 81% efficiency ratio means that, on average, the smallest community banks are spending $0.81 to generate $1.00 in revenue. That is simply not sustainable. As an industry, community banks must improve efficiency. The good news is that it can be done, and modest bumps in the Efficiency Ratio can lead to big dollar savings. Below is an example of two different sized banks making a 5 percentage point improvement in its Efficiency Ratio. Without any changes to its revenue base, the annual improvements in net income equal $600,000 for a $300 million bank and $2,500,000 for a $1 billion bank. The bad news is that a five or more percentage point improvement does not come from one simple change. A poor efficiency ratio typically indicates sales, product and overhead Bank Size $300 million $1 billion Percentage Point Improvement in Efficiency Ratio 5 points (from 72 to 65) 5 points (from 68 to 63) Net Income Improvement With Unchanged Revenue Base $600,000 per year $2,500,000 per year Page 3 of 12

4 problems, so improving the ratio typically requires several changes. Experienced bank executives are often anxious to embark on efficiency improvement projects because of frustrations with previous initiatives. Many efficiency projects never achieve the expected benefits because they never get implemented. Those that do often only serve as a one-time fix before the bank falls back into inefficient habits. Worse, many of those initiatives end up creating irreversible employee fears or irreparable damage to customers. Today s challenges call for a better way to address efficiency. What is needed is a long-lasting, strategic approach that will not hurt customers or create a fearful work environment for your employees. In our experience, success comes from a strategic, three legged stool approach that includes revenue management, expense management and a relentless focus on improving business processes. The right way to efficiency improvements, and the way to improve the bottom line and the customer experience, must include all three legs of the stool. Focusing solely on expense management will not achieve significant improvements in the efficiency ratio. We will touch on each of these and explore business process improvement in more detail since it is the most often overlooked piece of efficiency improvement initiatives. The Right Way to Efficiency Improvements Leg 1: Revenue Management Revenue management includes sales and marketing, margin management and non-interest income management. The most fun part of revenue management is growing the top line. The biggest improvement most community banks can make in revenue management is simply improving their sales and marketing methods. Improving the blocking and tackling pays big dividends: Page 4 of 12

5 Move from product-based selling (or order taking) to relationship-based advising. Bring back the sales management basics. Sales goals, pipeline reports, compensation tied to sales and profitability goals, etc. Nearly everyone in the bank should have sales or referral responsibilities. Move beyond branch-centric selling. Branch traffic is dropping so we cannot wait for prospects to come to us. Embrace e-marketing. newsletters, webinars, search engine optimization, etc. Expand your share of wallet and retain profitable customers. The net interest margin is the biggest driver of both a community bank s earnings and efficiency ratio so margin management is the most important revenue (and efficiency) management discipline. Looking at yields on a monthly basis does not cut it anymore. You should be tracking loan yields, loan pricing, deposit mix and CD maturity distribution on at least a weekly basis. Your tracking should include actual to plan results and drill down into a branch and officer basis. The most common margin management mistakes we see include a lack of loan pricing discipline including poor officer pricing accountability, no floors on variable rate notes and failure to maximize commercial deposits and treasury management services (to lower cost of funds and/or increase fee income). Non-interest income management should be part of your product development/management committees. Improving fee income can come from a number of methods: New products. High performance banks always keep an eye on the future. But rather than jumping on new product bandwagons, they lean heavily on customer feedback to generate new products and packaging. Consumers and commercial customers are willing to pay a reasonable price for products and services that make them money, save them money or provide convenience (in that order). Our experience is that treasury management services have the most new product opportunities. New packaging. Bundling is the name of the game in the consumer and small business segments today. By combining several value-added services (particularly payments), you can often drive more revenues than through one-off products. Raise and/or collect fees. Raising fees always must be balanced with market and customer sensitivities, but all fees should be reviewed at least once every other year. Our experience is that community banks are often unaware of how their fee structure compares with their competition, and that they typically give many services away for well below market rates. This is particularly true for cash management/treasury management services. Also, fee collection is a discipline that could improve in most community banks. The CFO, and perhaps even the CEO, should review the fees waived vs. collected report by officer, by department and by branch on at least a monthly basis. Many community banks assume efficiency improvement projects should focus solely on overhead reduction, but to drive big efficiency improvements, you must improve revenue. Over the last ten years, community bank efficiency ratio declines have been driven more by revenue declines than by overhead increases. So your efficiency initiatives must include an analysis and improvement of your sales and marketing, margin management and non-interest income management methods as well as an ongoing, continuous review and improvement of these methods. Page 5 of 12

6 Leg 2: Expense Management The three largest non-interest expenses in order of cost are people, technology and facilities. The most common drags on non-interest expense we see in these areas are: The key to getting the best return People on your personnel investment is to have fewer, better, higher paid A level employees equipped with better training and tools. A employees can often do the work of 1.5 B employees, so even if Technology you pay an A employee 20% more, you are still spending 25% Facilities less for one A than you are with 1.5 B s. Most Common Drags on Overhead Ineffective organizational structure (org chart) No personal connection with corporate goals leads to huge amounts of non-value added work Little accountability or performance-based pay Staffing for peak Duplicate functions Pay too much Don t maximize existing technology Under-utilized, non-optimized branches The move to more A employees will require improving your recruiting, hiring, training, retention and compensation programs. You must address incentive compensation if you have not done so. When done correctly, pay for performance works. If your compensation plan is to be right in the middle of the average salary range for a particular position, then you are attracting B s and C s. But if you invest in them through training, personal development and great tools, they will respond to accountability and incentive compensation and you can attract the A s and turn many B s into A s and C s into B s Technology is the second largest non-interest expense and is growing 6-10% even as efficiency ratios are declining. So is technology failing to deliver on its promise? Our experience from over 500 technology evaluation projects tells us that while some technologies simply haven t delivered, the big problem is not with the technology. It s with how banks buy technology and how they use it. When buying technology, community banks nearly always pay more than is needed. Our experience in negotiating hundreds of technology contracts suggest community banks, on average, pay about 15% more than is needed. They also often buy things they don t need and buy too much excess capacity. Additionally, community banks often do not realize the technology benefits because they often buy the wrong vendor solution (either because it s the cheapest or they didn t evaluate other options) or they simply pave the cowpath with the new technology and never fully take advantage of it. Facilities are the third largest non-interest expense and the big facilities issue in community banks is underperforming branches. Here is a vicious cycle we saw with many community banks over the last Page 6 of 12

7 decade. A bank decides to expand its branch network to build both core deposits and loans. A beautiful, expensive branch was built, a grand opening was held and then the branch manager and lender never left the branch again because they get buried with paperwork. They sat back in their offices and waited for walk-in traffic. After several quarters of missing the target deposit and loan balances, the bank shifted strategy and launched free checking in hopes of driving new deposit balances. Often the mantra was to leverage the existing infrastructure. It worked and new accounts started to grow. Tellers were added to support the new volume and a busy branch made everyone feel better. What was harder to see was that branch profitability actually dropped and many of the high net worth and commercial customers you originally attracted left because they grew tired of waiting in lines behind customers with $300 balances. Though often a sacred cow, branch profitability must be evaluated to truly address efficiency improvements. Branches have an important place in your strategy, but there are many more options available today; smaller footprints, loan production offices, remote deposit capture, online account opening, call centers, etc. The right mix will be driven by your business strategy, brand and customer base, but regardless of your mix, branch profitability monitoring and incentive compensation tied to branch profitability should be part of your ongoing efficiency initiatives. Efficiency initiatives must address personnel, technology and facilities costs. Initiatives must include both one-time fixes such as new compensation plans, technology utilization improvements, contract renegotiations, and branch profitability improvements, as well as ongoing disciplines for hiring, developing and retaining A level employees, selecting, negotiating, implementing and managing new technology purchases, and for monitoring and improving branch profitability. Leg 3: Business Process Improvement Often the root cause of overstaffing and under-utilized technology is inefficient manual processes. Business process improvement is a structured approach to improving your bank s business processes from how you open new accounts to how you make loans to how you process accounts payable. Unlike reengineering, business process improvement is an ongoing approach that focuses on the customer experience as much as it does on dollars and risk. The underlying idea behind business process improvement is that your strategic business goals must cascade down to the daily processes that are fundamental to your bank. Business process improvement is where the rubber meets the road. It s where your strategic plan meets the front and back office. It s where your management decisions impact your customers. Southwest Airlines does a number of things well, but its focus on one daily process drives a large part of its success. Southwest Airlines is able to turn around an aircraft in about 20 minutes about half the time of Page 7 of 12

8 its competitors. By doing so, they are able to increase the number of flights (improving revenue) and ontime percentage (improving customer service). In order to meet that target, they must maintain a single fleet of Boeing 737s which in turn minimizes expenses and risk. The improved process not only cuts costs, it increases revenue, customer service and risk management. That should be your goal for your most important processes. What are your top five processes? In our experience, the processes that most impact community bank earnings are also the processes that most impact customers, have the highest risk management considerations and have the most room for improvement. Those processes include: Loan origination New account opening Customer service Recent approaches to improving these processes have often fallen short. Loan Origination Most loan origination improvement projects over the last three years have been technology-driven projects. Many banks have added document imaging in hopes of streamlining the process or facilitating a consolidated back office, yet shadow files still exist across the bank and scanning has been relegated to the end of the process as just another to do. Improvements have yet to materialize. About 10% of community banks have added some variation of online lending in hopes of fueling loan growth, yet banks have not invested in marketing to drive much traffic and many banks don t have the infrastructure to meet these immediate loan requests (24 hour turnaround is an eternity in online lending). And perhaps as many as 25% of community banks have upgraded or replaced their loan origination systems in recent years with the idea of improving risk management. Documentation might have improved but many are still managing exceptions after the account is opened and the money s gone. New Account Opening Similarly, most new account projects have been technology or regulatory driven. Many banks have added online account opening, though again little marketing has driven little traffic and by the time the bank connects with the new customer, they have already opened their account elsewhere. Banks are struggling with BSA and other regulatory compliance issues at the new account desk so banks have added several tracking systems. Few are tightly integrated so it adds more data entry and manual processing which slows down the process (poor customer experience) and adds cost. Page 8 of 12

9 The irony, of course, is that while community banks were focused on technology and compliance, the big banks and large credit unions figured out how to address compliance and the customer experience by using technology. As a result, community banks have fallen further behind big banks and large credit unions on the emerging standards of customer experience (see chart). Customer Experience Metrics Big Banks and Large Credit Unions Typical Community Bank New Account Opening Decision Turnaround on Simple Consumer Loans % of Services Available as Self- Service 10 minutes 7 minutes 80% minutes 2 hours 30% Customer Service Unlike loan origination and new accounts, recent customer service initiatives have not been driven by technology or compliance. Customer service initiatives in the last three years have largely been cost-driven initiatives as part of back office consolidation projects. One of the most concerning trends has been to eliminate or freeze customer service positions without changing the volume of work performed. This approach nearly always leads to customer service issues. If cost control is the business goal, then change the process along with the staffing; automate more services (e.g., Internet banking password resets, card pins), reduce the number of service issues, shorten the amount of time to provide the service, etc. The other option is to convert idle CSRs into an outbound calling function. The two most common causes of disappointment in efficiency projects are unclear business objectives and silo solutions. Without measurable objectives, it is easy to fall into grey areas of what the real purpose is. Is the purpose something fuzzy like improve the loan origination process or is it more concrete like get the prospect a decision on non-real estate consumer loans in less than 10 minutes? Silo solutions refers to only addressing one component of the solution such as just focusing on technology or just focusing on compliance. How many times has your institution purchased a technology to improve a process yet never actually redesigned the process? And how often did that paving the cowpath approach work? Sustainable solutions must start with the business goal (e.g., 10 minute loan decision) and then factor in all components of the solution including process, policy, product, people, technology and risk management. Business process improvement is the key to avoiding silo solutions. How Do You Do Business Process Improvement? There are a number of different ways to approach process improvement. Consultants will all have their own variations and different terminology, but the basic approach includes these ten steps: Page 9 of 12

10 1. Identify a process to improve 2. Establish the key performance indicator (KPI) for the process 3. Map the current process and establish current KPI 4. Set target KPI for new process 5. Brainstorm and research ways to improve the process and meet target KPI 6. Map new process to meet target KPI 7. Make appropriate changes to policies, technology, products and risk management to support new process 8. Communicate and train employees (and customers) on new process 9. Rollout new process 10. Continuously measure and improve For a more thorough description of steps 1-10, please kwilliams@aboundresources.com. Putting It All Together Hopefully, it has become clear that sustainable efficiency improvements come from addressing the three legs of the stool; revenue management, expense management and business process improvement. And initiatives must include both a one-time fix and an ongoing, continuous improvement component. We suggest that before embarking on these initiatives, you spend some time educating your team on the efficiency ratio, how it is calculated and your trends. Also discuss the difference between being efficient and being effective. These are likely new concepts to some bankers that have grown up with a focus on only one leg of the stool - cost control. You should also communicate your strategic plan and focus on your top three most important goals for the year and even for the quarter. You will need to identify the committee that will get updates from the efficiency project team. It is typically a Board committee, a management committee or the IT Steering committee, but do what fits your culture. Set a timetable of when this committee will get updates on the project and determine the agenda for ongoing updates once the initial work is done. Typically, that agenda will include an annual review of the bank s efficiency ratio, how it compares to peers and/or competitors, an update on the revenue management program, the expense management program and the KPIs from the top five business processes. The Abound Resources RightPath Program Abound Resources offers a number of services to help you address efficiency improvement from comprehensive programs (all three legs of the stool) to tactical solutions (one part of one leg of the stool such as technology contract negotiations) and all of them are customized to meet your needs and budget. A summary of our offerings is provided on the final page of this document. Page 10 of 12

11 Our most comprehensive program is RightPath : Profit Improvement. This program addresses all three legs of the stool and provides a disciplined approach that provides not only short-term financial improvement opportunities, but, more importantly, lasting advantages that align with your bank s business strategy. Our program includes a detailed analysis and customized recommendations for improving your revenue management, expense management, key business processes, and the implementation of all recommendations. Additionally our approach incorporates your management and staff in the analysis, recommendations, and implementation to ensure real results. For banks that already have revenue and expense management programs in place, we offer RightPath : Process Improvement. This program is narrower in scope and focuses on business process improvement for your key processes. The end result is redesigned processes that are both more customer-focused and more bottom-line friendly, and also use your technology more effectively. Page 11 of 12

12 About Abound Resources Abound Resources helps community banks grow, become more efficient and make the right technology decisions Guaranteed. Whether evaluating a core processor, improving a cash management program, negotiating technology contracts, streamlining processes, or starting a de novo bank, Abound Resources offers both advisory services and web-based solutions that can meet most any need and budget. For more information, please contact: Ryan Esquell, Sales Director resquell@aboundresources.com or Kimberly Williams, Marketing Coordinator kwilliams@aboundresources.com or Abound Resources Efficiency Improvement Services Abound Resources Service When You Might Need Us What We Do RightPath : Profit Improvement You want to greatly improve your profitability and efficiency ratio Comprehensive improvement for revenue enhancement, expense control and business processes RightPath : Process Improvement You want efficiency improvements, improvements to your loan origination or new account processes or before you embark on a centralization project RightPath : Merger Assistance During pre-merger due diligence or before merger integration RightTech : Negotiate RightTech : Optimize Up to 30 months before your core, EFT, Internet banking or bill pay contracts come up for renewal You want to improve IT ROI, at IT budget time or when your IT auditor pointed out IT weaknesses Redesign your key bank processes for improved customer service, efficiency and risk management Pre-merger IT due diligence, contract negotiations for breaking contracts, and merger-related ops and IT integration Negotiate your contracts for big savings, better terms and improved service levels Improve utilization of your existing technology Page 12 of 12