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Driving profitability in a low-rate world: the state of the banking industry

State of banking industryPowerful trends are shaking the banking industry. The U.S. Federal Reserve Board has slowly increased interest rates, and from the banks’ perspective, those increases have been frustratingly small. In addition, the financial crisis led to regulatory changes that have driven up compliance costs. Capital requirements on profitability have changed, altering the business portfolio. And changes in the competitive environment and technology have disrupted the environment even more.

“In this environment, even the best-run banks are challenged to deliver a satisfactory return on equity,” said Nigel Smith, Grant Thornton LLP’s national Financial Services leader. Nevertheless, banks can respond to the challenges.

Driving simplification
U.S. banks tend to operate in product and channel silos, duplicating processes and missing opportunities to integrate data. The cause? Previous acquisitions that weren’t fully integrated or individual businesses that had too much autonomy in their operations and technology. In addition, the number of channels, including digital and social media, has steadily increased. They may have been tacked on to existing solutions rather than re-engineered or upgraded. The results may be fragmented operations and lower productivity.

All of these conditions can add up to customer frustration and real competitive risk. New competitors may be able to design a simpler, more intuitive customer experience from scratch.

Banks need to radically simplify their operating models, starting with their markets and customer segments. They can increase efficiency by eliminating unnecessary products and features. Moving to rationalized operations and IT platforms is tougher, but critical to drive out complexity and increase productivity.

Investing in compliance optimization
Product and service innovation may take a back seat to compliance with regulations like the Dodd-Frank Wall Street Reform and Consumer Protection Act, mandates from the Consumer Financial Protection Bureau, stress tests and capital requirements. New and unconventional competitors may have an open door if they don’t have the same regulatory burden.

Regulations aren’t going away, but banks of all sizes can comply with them more efficiently and effectively.
For example, they can reduce costs for activities that don’t add value and refocus their compliance teams.

“Many regulatory and associated reporting solutions were implemented in a hurry, to meet mandatory deadlines, and would certainly benefit from end-to-end process re-engineering, reducing duplication and driving productivity,” according to Jose Molina, a principal in Grant Thornton’s Financial Services Advisory practice. He also recommends using risk-based approaches, along with machine learning and analytics, to automate repetitive tasks and relying on human intervention to reduce the most risk.

Innovate through industry utilities
Some leading banks are reaching outside their institutions, establishing cross-industry “utilities” with other banks to share core functions that don’t give them a competitive advantage. Some of the areas they’re sharing are client screening and third-party risk assessment and monitoring.

The benefits are many including lower costs, increased efficiency and improved performance. The ability to look at risk and potential fraud across the industry may also help banks collectively respond to threats.

Identify value-added services
In addition to simplifying products and services, banks need to focus on value-added services that will command a market premium. By concentrating on customer segments instead of products, they can identify and understand individual segments, life stages, life events and needs that open the door to a richer array of value-added services. Those services should lend themselves to additional fees and bundling products and services that truly meet customer needs. For example, banks could offer retail customers a home relocation service or product such as home insurance or home improvement loans, rather than just a mortgage.

Ahead: a better customer experience
Banks can return to profitability if they can drive true economies of scale in their customer relationships. That will mean tackling underlying complexity to offer a better customer experience while driving a simplified operating model.