Today's investment, tomorrow's payoff

Successful financial institutions depend on appreciating the value of each customer—and that requires better data management.

by Jackie Zack

Banks in today's marketplace must manage millions of customers, hundreds of products, varied distribution channels and growing networks of branches and representatives all across broad geographic areas. Add to that intense competition from "megacompanies," increasingly complicated compliance and regulatory concerns and the ongoing need for effective risk management, and you have significant and complex data and information issues that banks must address in order to stay competitive and profitable.

The effect of the megabank
The banking industry has experienced an unprecedented number of mergers and acquisitions in recent years: It's estimated that the 10 largest banks in the United States now control 62% of total bank assets. Internationally, the pace of merger activity has been equally as frantic, and cross-border mergers have become an ongoing reality for the industry. The belief behind bank mergers is that "bigger is better;" organizations hope to lower costs and provide better products by serving a greater number of customers.

However, the trend has created new challenges for the banking industry. As banks have become larger, more complex organizations, they face concerns related to:

• Systems integration
• Cross-selling across a larger entity
• Fine-tuning services
• Taking a proactive stance when it comes to looking to the future and listening to the marketplace

With so many more customers, more complex service offerings and intensified competition, truly knowing and understanding customers and their desired interaction experiences becomes mission critical. It is here that banks can reap the benefits of better data management through technologies such as enterprise data warehouses and data mining to efficiently analyze complex business problems and incorporate analytical applications, helping them understand customer needs and identify market trends.

Despite the mergers that have led to supersized banks, one of the biggest problems in banking has been massive overcapacity, a predicament that exists around the world.

The issue of overcapacity has a trickle-down effect when it comes to consumer consolidation and deposit growth: Most consumers indicate they'd like to consolidate their financial relationships with one financial institution, but only a small percentage actually do.

The lack of consumer loyalty is attributed to the "overbanking" crisis as well as the consumer's perceived notion that banks don't truly understand their needs. "You've got too many banks and other service providers and therefore you've got business spread all around," explains Sandy Berry, senior industry consultant for Teradata and former independent financial institution consultant. And even though a bank might have several accounts with a customer that doesn't necessarily mean it knows the customer's value. A consumer, for example, might have five accounts at one bank, but most of his monetary value might be in an investment account in a brokerage firm.

After the Dow Jones Industrial Average plummeted in 2002-2003, banks saw increases in deposit growth—which is essentially the fuel for bank profitability—as consumers looked for safety outside of the financial markets. However, that trend is changing. "The money is going back into the markets, so the deposit growth has slowed down tremendously," says Berry. "It's now running on an annual basis of about 5% or less, where it was running at 10-12% (during the market's decline). Banks are really struggling with keeping deposits growing at a reasonable cost."

Managing organic growth
According to Bill Bradway, vice president of banking practice for Group Financial Insights, the No. 1 challenge facing banks today is the need to increase revenue. "Banks need to be able to continue to expand their revenue to produce more income," he says. "Even if you could hold costs flat, you need to be able to expand revenue to make money." One of the key ways to achieve this, Bradway advises, is through organic growth—internal growth stemming from existing customers within the business' existing footprint.

"What Wall Street and shareholders are looking for more and more, and what is really valued, is organic growth, where the institution is attracting new customers at a measured rate," Bradway explains. Organic growth is critical because financial markets are wary of acquisitions, and even if a bank makes an acquisition it needs to see increased revenue in order to justify the acquisition costs. Indeed, the investor community typically takes a dim view of mergers or acquisitions that create megabanks. For the most part, they have not created shareholder value and often create customer backlash and loss of accounts.

Banks are realizing that the key to organic growth is information: The more they know about their customers, the better strategic and spending decisions they can make. Hot areas of customer management include:

• Customer profitability
• Customer segmentation
• Event-based marketing
• Account consolidation

It's important to know which customers create the greatest value and what needs to be done to solidify the relationship and provide them with the right experience.

Bradway says that successful financial institutions are making great strides by focusing on optimizing customer management. One method for doing this is by actively promoting multigenerational optimization. For example, a client's 13-year-old child starts receiving customized mailings to introduce her to the company; when she turns 16 and is put on the family's auto insurance policy, the company knows; and when she graduates from college and begins to make financial investments, the company knows that too. The company realizes that marriage, family and even retirement will bring more opportunities.

"These banks understand this circle of life, and they are measuring and identifying different events in life that trigger a demand for financial services. They are constantly trying to sense and measure when these events are happening so that they can present themselves as a possible option in a low-key way," Bradway says.

CRM through your ATM
One of the more specific trends emerging in today's banking world is event-based marketing through less-exploited technological channels such as the ATM. "This is a great opportunity for banks to leverage their ATM network to create a more pleasing experience for the customer when the ATM is used to sell and communicate," says Berry. ATM technology can not only be used to "remember" a customer's language and favorite type of transaction, but also to deliver personalized messages and offers.

"Interaction management" is the term Bradway uses to describe this trend. By immediately identifying significant financial events through the analysis of a customer's daily transactions, a bank can provide the customer with a solid, event-driven offer that addresses a real and timely need. According to Berry, "Banks that are successfully executing this type of customer management are enjoying rapid organic growth, best-in-breed customer satisfaction and favorable investment analyst reviews."

Risk and regulations
Expanding revenues and optimizing customer management are two critical focus areas for banks today, but risk and regulation factors can complicate a bank's efforts to achieve those goals. "They have to do this in an environment that has an increased level of regulatory compliance and attention to risk management," explains Bradway.

Risk management is defined as the practices an organization uses to optimize the manner in which it takes financial actions. Risk factors include market, credit, operational and performance risks. According to Bradway, dynamics such as credit-risk management, identity management and fraud detection are seemingly separate issues but, in fact, may actually be linked together. What is perceived initially as a credit-risk problem, for instance, might actually be an identity-theft issue: a bank might contact a customer for failure to repay a loan, only to learn that the customer's identity was stolen and the individual never even applied for the loan.

In cases such as these, banks need to have adequate systems in place that can connect the processes to effectively monitor risk-taking activities and adhere to relevant policies. "This whole area becomes information-critical—and the foundation for success is data. You've got to know across the corporation what's going on, what your customer risks are and what your operating risks are," says Berry.

How banks approach this issue can have a drastic impact on customer retention. A November 2004 study by Unisys Corporation showed half of U.S. households would be willing to switch their accounts to financial institutions that offer stronger theft detection and alert services.

Another high-profile area of risk management concerns regulatory compliance. "The world of regulatory compliance is becoming increasingly complex," says Bradway. "There have been a host of new regulations over the last few years. The USA Patriot Act and the anti-money laundering requirements in the Bank Secrecy Act have been given new teeth, which all spin around knowing your customer and sharing data, if you are required to, with federal authorities to join the fight against terrorism."

What's more, corporate governance scandals have resulted in other new legislative, regulatory and judicial initiatives, which have put a renewed focus on risk management. Basel II and Sarbanes-Oxley are regulations for financial institutions regarding financial reporting. Basel II was designed to redefine how banks across the globe calculate regulatory capital and issue compliance reports to regulators and the public. Sarbanes-Oxley establishes new guidelines for financial institutions with regard to corporate governance, management reporting, financial statement disclosures and management assessment of internal controls.

If a bank fails to comply with the new regulations, the costs can be considerable. According to the FDIC's Future Of Banking Study, "Failures of corporate governance can cause enormous financial losses, not only to individual corporations and their stockholders but also to society as a whole. One widely quoted estimate of the cost of U.S. corporate governance failure is $40 billion a year, or the equivalent of a $10 a barrel increase in the price of oil."

Some banks have already faced huge fines for compliance issues, and the damage extends beyond the monetary payouts. Offending institutions are put under regulatory notice, which limits or even prohibits activities such as new branch development and acquisitions. Banks also realize that the challenge is "enterprise" risk, not just risk in any one business unit. As a result, banks have no choice but to invest money, time and resources in the infrastructure to address risk manage-ment issues, including implementing a data warehouse to help banks develop credit, operational and risk models and to perform analysis.

Reacting to the changes
To meet today's business demands head-on, the banking industry should focus on several key concepts. First and foremost is a continued recognition that data—and, more importantly, information—is a corporate asset. Banks need to understand customers in their totality. A person or business isn't just a retail customer or a corporate customer or a wealth-management customer; properly managed, they could be all three.

Another important step involves understanding risk across the total corporation and having all the risk information about a customer in one place. If a customer has a credit card, a mortgage, a car loan and an equity loan, all of that can be brought together so the institution has a total picture of a customer's credit risk instead of seeing it only in terms of an individual product.

In the end, though, the biggest differentiator for a bank could well be the quality of experience it offers. Banking customers tend to vote with their feet—and consequently their wallets—if they feel a bank isn't addressing their needs. To succeed, banks must have a comprehensive view of what each client needs and expects, and that's precisely the vision an enterprise data warehouse provides. T

Jackie Zack, a Michigan-based business, technical and feature writer, has written for several trade journals.