It is by no means certain which European banks will be well positioned post-Emu. Without the critical mass needed to challenge the first-tier US banks, most European institutions will have to focus on carving value out of niche market positions. Those banks that have benefited from operating in areas that the big US institutions have so far seen fit to ignore may have to find a new niche, and fast.
For mid-tier European banks, recent research by Andersen Consulting identifies strategies that have allowed a new superbreed to emerge in the financial services industry.
Andersen Consulting analyzed the equity returns, financial results and operating strategies of more than 250 financial services firms in 15 developed nations from 1987 to 1996. It dubbed the top third in this group – in terms of return to shareholders, adjusted for local stock market indices – “value capturers”.
It finds that the performance gap in financial services is widening. A minority of organizations are generating high returns to their shareholders, and fewer still are combining shareholder return with high revenue growth.
A worrying fact for institutions that have been protected by national entry barriers is that firms in more competitive, deregulated markets perform far better for their shareholders, in general, than the firms in the more tightly regulated markets. While 52% of the US firms and 48% of the UK firms analyzed are value capturers, only 19% of financial services firms in continental Europe, and fewer than 15% of firms in Asia Pacific, fall into this category. If those institutions are performing badly already, they could really suffer when they have to start competing in an open market – a case of competition acting as a kill-or-cure remedy.
The study also finds that factors often believed to lead to superior performance, such as high concentration of banking assets, efficient electronic payment infrastructure and high revenue growth, seem to have no bearing on the ability of a company to achieve high value for shareholders. In fact, the key to achieving value-capturer status is strategic focus. The study finds that companies can follow any one of three paths to success, so long as they choose a path that was right for them and stick to it.
Companies such as Barclays, Cetelem and Citicorp have achieved value-capturer status by maximizing the profit that can be squeezed from rather flat revenue by getting rid of low-margin businesses, eliminating unprofitable products or customers and reducing costs. This type of company – “optimizers” – tends to achieve high shareholder returns from low to average revenue growth.
Optimizers also use technology to create new distribution channels, unload staff from branch services and automate heavily manned factories and stand-alone services that were previously vulnerable to infinite and costly customization. Barclays, for example, has used two years of strict cost control to return £1.75 billion ($2.9 billion) of value to shareholders and more than double its share price.
Companies such as Aegon, Lloyds TSB and Travelers have achieved value-capturer status by buying growth through mergers and acquisitions and, usually, paying for it with cost savings. This type of company – “consolidators” – delivers strong revenue growth with top-flight shareholder returns.
Consolidators typically focus on customer retention and profitability. This requires an ability to evaluate new markets and portfolios with speed and accuracy. Consolidators also have a highly honed operational infrastructure that helps them quickly absorb companies. Aegon, for example, has focused on buying high-quality life insurance providers and entering underdeveloped markets early.
Companies such as Charles Schwab, Bank of Scotland and Banca Fideuram have achieved value-capturer status by identifying new trends in customer habits or market conditions, developing products that satisfy this unmet desire. The strategy of this type of company – “innovators” – produces the most dynamic breed of winner, generating both high growth and high shareholder return.
Innovators tended to come from non-traditional sources and are most often found in places where the regulatory climate is relatively open, capital markets spawn niche opportunities and technology innovation is quickly accepted. Bank of Scotland, for example, has introduced virtual banking outside its home market to generate additional revenues and expand its customer base.
Whether optimizer, consolidator or innovator, all the best-performing companies in the study have certain traits in common. They are explicit and committed about how and where they want to compete. Whatever they do, they do it fast. They can identify and then acquire any skills or expertise that they need. And they are able to renew their competitive position every two to five years.
To carve a niche in the new European financial services industry, companies will have to decide quickly what their route to value is going to be. The removal of market barriers with the arrival of the euro will create unprecedented opportunities for companies that have the strategic vision to respond. Those that want to stand still may not have any future at all.
Noel Gordon is a strategy partner in Andersen Consulting’s financial industry services practice
