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'Too complex to thrive' Western banks face uncertain future - IBM study

17 December 2009  |  8430 views  |  0 Tokyo

At a time when trust in banks is at an all time low, a new study by IBM finds that too many are over-reliant on revenue streams that no longer exist, have unsustainable cost structures, and are burdened by excessive levels of operational complexity and inflexibility.

The extensive global study conducted by the IBM Institute for Business Value (IBV) concludes that the returns of the past are over as the world's banks face a period of 'discipline, diet and detox'.

"The banks that emerge from the current economic crisis as winners will be the ones that are focused on clients' success, while the weaker, less focused banks may never recover," says Shanker Ramamurthy, IBM's Global Industry Leader, Banking & Financial Markets. "But restoring client relationships is only part of the solution - banks must also become far less complex and develop an enterprise-wide view of risk."

According to the IBV report, banks can close the 'trust gap' by investing in behavioural analytics to gain a better understanding not only of their clients' perception of value, but also of what they are actually willing to pay a premium for. Instead, too many banks are currently over-reliant on less useful demographic metrics, such as age, health, or stage of life, suggests the research.

The switch in customer-profiling should also be accompanied by a new focus on enterprise-wide risk collation, says IBM, to provide fresh insights on organisational silos and bottlenecks.

However, the report finds that banks in many parts of the world have an unsustainably high cost of operation, rendering their traditional operating models obsolete. To succeed, banks must seek to lower operating costs through business model innovation, supported by long-term savings initiatives in areas such as IT, shared services and front/back office integration, suggests IBM.

Analysis by the IBV found that Chinese and emerging market banks, which have smaller product portfolios and simpler operational structures, have taken the lead (among the top 139 financial institutions) in establishing the best cost income ratio, outpacing North American and Europe banks.

Between 2003 and 2006 cost income ratios for leading banks in China averaged 49.8%, already a good deal lower than their peers in the USA (58.8%) or Europe (57.8%), while their average Return on Assets (RoA) was similar to their European peers, but lower than their US ones. However in 2007 and 2008 the leading Chinese banks have moved ahead by reducing their cost income ratio to an impressive 35.8%, while raising their RoA to 1.29%. Meanwhile in the USA the average cost income ratio has risen to 71.9% while RoA has fallen to 1.08%, and in Europe cost income ratios have risen to 73.2% with RoA as low as 0.01%.

While much of the regulatory focus has been on the Western banks being 'too-big-to-fail', it is their complexity and inflexibility rather than their size that is really hampering them as many are simply 'too-complex-to-thrive', notes the report. It points out that Chinese banks are just as large, but are in an early phase of growth in which they are focusing on extending relatively simple banking services to the unbanked.

While regulatory reform may break up some banks or at least separate their retail banking and financial markets operations, the study notes that shareholders may be better served by far greater simplification of business models in order to drive cost/income ratio improvement and improve operational flexibility.

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