Banks Achieve High Performance Banking

¶ … Banks Achieve High Performance Banking

Following a wave of consolidations and deregulation during the 1990s, the banking industry has become increasingly competitive in recent years. Moreover, innovations in so-called e-banking have created the demand for a wider range of banking services that are available through a number of delivery platforms. Banks can no longer afford to specialize in a narrow range of service, and banks have been required to respond to these forces in the marketplace in meaningful and timely ways in order to remain competitive. In this environment, identifying how banks achieve high performance banking has assumed new relevance and importance. To this end, this paper provides a review of the relevant peer-reviewed and scholarly literature concerning these issues, followed by a summary of the research and important findings in the conclusion.

Review and Discussion

Although definitions vary, Grasling suggests that performance is generally a measure of how successfully banks manage and structure time in which the impact of the banking work process has the most significant effects. More specific features of high performance banks were examined in a study by DePrince, Ford and Strickland who cite the results of a series of seminal articles that examined Federal Deposit Insurance Corporation (FDIC) call report data to identify the factors that characterized high performance banks. This analysis was important, DePrince and his associates, suggest, because "Everyone in the business knows banking has changed dramatically over the past 20 years. Size and number of institutions, types of products offered, and technological advances come readily to mind. But what is less well-known is if, and how, the methods have changed for being a high performance bank" (36). Based on their analysis, DePrince et al. report that high performance banks typically earned profitability through various channels at higher than industry averages by minimizing trade-offs between asset yields and risks that were unfavorable by generating increased interest and fee income on loans and investments; concomitantly, these high performance banks experienced fewer losses on these assets. In addition, high performance banks eliminated waste at every opportunity and controlled the costs of funds by collecting lower cost funds compared to their average-performing industry counterparts (DePrince et al. 36).

Other factors that set high performance banks apart from their banking industry counterparts included the ability to minimize personnel expense as well as other overhead costs such as lease and operating expenses (DePrince et al. 36). Rather than simply paying their personnel less, high performance banks excelled at minimizing their human resource costs by achieving more loans and deposits for each full-time employee compared to the industry average (DePrince et al. 36). According to DePrince and his colleagues, "As a result, the full-time high performance bank employees -- on average -- generated over 90% more net operating income than their less adept peers in other banks" (36).

The final factors that characterized high performance banks identified by DePrince et al. were the ability of banks to generate and retain more earnings than other banks each years and the ability to increase their loans, assets, deposits, and equity faster than their industry counterparts. This level of agility and nimbleness is absolutely essential to achieve high performance levels following the deregulation of the banking industry and the increasing competition from non-banking competitors. In this regard, Suter emphasizes that, "The pressure to create new sources of revenue is not merely a result of the fabled shift in consumers' attitudes from a saving to an investing mentality. The advent of commercial paper, money market mutual funds, and securitization have enabled non-bank institutions to progressively steal vital financial assets from banks for the past several decades. Top performing banks are those that have continually reinvented the banking business to boost performance in the face of growing incursions by nonbanks" (36). Following the deregulation of the banking industry, Suter suggests that high performance banks have more actively sought out alternative revenue generation sources than their lower performing counterparts. In this regard, Suter reports that, "Many of the top-performing institutions have successfully adapted their businesses to take advantage of fee-based sources. Others have adopted lending specialties to fuel asset and interest income growth while increasing efficiency" (36).

Although a number of metrics can be used to gauge performance levels of banks, according to Spinard and Suter, banks' return on average assets ratio has long been considered been one of the best single metrics that can be used to assess performance. "Even today," Spinard and Suter add, "return on assets remains an accurate gauge by which to measure industry performance" (35). A study by Pickering found that at year-end 2000, about 3,800 banks in the United States had assets between $50 million and $500 million and the highest-performing 950 banks in this group had return on assets levels of between 1.64 and 1.67 with an average of 1.65 compared to the industry average of between 1.12.

An important point made by Pickering, though, was that each of these high performing banks competes in a different environment and that each of these high performing banks has identified the optimum approach to generating these higher levels of returns on assets. In this regard, Pickering advises that, "Each bank is in a unique environment that determines that bank's most profitable loan-to-deposit ratio-- some environments support a high ratio while others do not. Bankers who try to push their bank's ratios higher than their environment can support will very likely reduce profits. However, bankers who recognize that they have reached their bank's loan-to-deposit 'sweet spot' can then maximize profits by maximizing the effectiveness of their bank's investment portfolio" (89).

Likewise, Hanley, Suter and Cocheo report that across-the-board comparisons of high performance banks can be misleading because they may fail to identify all of the factors that account for their success compared to industry averages because of every bank is unique in some fashion in terms of their product and services mix and the communities they serve. In this regard, Hanley and his colleagues emphasize that, "While many similarities exist among institutions, the industry is not homogeneous. Banks may differ on product offerings, delivery strategy, and business focus. Rankings showcase competitors that have developed a business formula that maximizes returns, and are an instrument, albeit blunt, for identifying the drivers of today's banks" (37). Similarly, Lenhoff reports that as of year-end 2008, the 400 top banking performers did not achieve this level of success using the same methods. "Differences in markets," Lenhoff advises, "dictated differences in approaches" (29).

These points are echoed by Donner and Dudley, but these authorities suggest that by and large, the highest performing banks are those that have identified the optimal mix of pricing structures and customer services for the markets in which they compete. For instance, Donner and Dudley note that, "High-performing banks have the ability to find the right balance in customer relationships and operations. They carefully measure and manage those items which count the most, and effectively combine seat-of-the-pants marketing with customer research and sales databases" (18). Another distinguishing factor of high performing banks was the quality and experience of the leadership team that was in place (Donner and Dudley 19). According to these authorities, "Most notable in these institutions were the CEOs. They were actively involved in all aspects of their businesses and built a team of managers and employees who understood and embraced their corporate vision" (Donner and Dudley 19).

Similarly, Segerstrom suggests that high performance banks are "Banks with low risk [which] are very profitable and very stable. Management is characterized by experimentation, adaptation, and a team approach. The culture of such banks encourages ideas and 'no unpleasant surprises'" (47). Notwithstanding the similarities among high performance banks cited by the authors above, though, Segerstrom maintains that, "High-performance banks have little in common beyond their performance. They include new and old, large and small, rural and urban, branch and unit, consumer and business banks. What this shows, of course, is that a good financial structure and good strategy can succeed in any environment; a weak structure and strategy can never succeed" (48). Other common themes that characterize high performance banks include:

1. Superior customer service;

2. Conservative practices; and,

3. Ongoing investments in technology, diversification, expansion and marketing (Lenhoff 29).

With respect to the emergence of innovations in technology and the effects on high performance, top performing banks have used these innovations time and again in order to help control costs and minimize personnel requirements, but they have also used technology to expand their reach into the community through brick-and-mortar branches (Bielski 55). In addition, Bielski indicates that it is not so much a matter of which specific technologies and e-banking services are offered that sets high performance banks apart from their industry counterparts but rather the mix of e-banking and brick-and-mortar services that are featured. In this regard, Bielski reports that high-performance banking in the years to come will involve the following:

1. Biometric authentication;

2. Radio frequency identification (RFID) for sales and service;

3. Digital pen and paper designed for electronic signature capture and simplified forms processing;

4. Spatial tracking systems that make banks' floor plans and product positioning more effective;

5. Intelligent interactive displays that reflect the interests of the watcher;

6. Use of wireless tablet personal computers (PCs) for client interviewing; and,

7. Videoconference virtual experts for collaborative selling (56).

The same features that characterize high performance banks in their brick-and-mortar operations appear to relate to the use of technology as well, with the best performing banks having identified the optimum mix of services for the markets they serve. For instance, Grasing reports that, "Banks are taking a variety of approaches in implementing technology to make improvements in retail delivery. The methods differ, depending on the bank management's mindset toward the purpose of the software and its valued place in the new business or service delivery processes" (3). The main point in this area is that high performance banks apply technology in ways that help minimize errors as well as the cost and time required for individual transactions as well, making banking operations more efficient and allowing more time for new revenue generation (Grasing 4).

Based on the results of a recent independent survey conducted by the Robert E. Nolan Company, Grasing reports that the Nolan Efficiency Ratio Benchmarking Study found no relationship between a given software system and higher performance. These findings suggest that higher performance is related to how well the applications have been integrated into banks' operations rather than the specific software application that is in place (Grasing 4). The findings that emerged from the Nolan Efficiency Ratio Benchmarking Study also indicate that teller efficiency is significantly higher in top-performing banks compared to the banking industry averages: "The data demonstrates that high-performing banks handle 13% more transactions per month than average banks. The relative cost per transaction is 35% higher in the average banks than the high-performing banks" (Grasing 5). Moreover, the results of the Nolan Efficiency Ratio Benchmarking Study also found that high-performance banks have:

1. A work distribution of 55% on sales and account opening;

2. An 18% distribution on fee and non-fee services;

3. An 8% distribution on customer problem resolution; and,

4. A 19% distribution on administration and other services.

By sharp contrast, personnel in lower performing banks spend an inordinate amount of time involved with problem resolution, thereby allowing less time to be devoted to sales and opening new accounts (Grasing 5). For instance, high performance banks enjoyed a rate of 152 new accounts per employee compared to the average bank's 139 new accounts, representing a significant 9.35% difference (Grasing 5).

Likewise, another indication that high performance banks use their time and resources more effectively than the banking industry average is reflected in the fact that top-performing banks open just 25% of new deposits to the total deposit account balances compared to 32% for average performing banks. These percentages indicates the new non-time deposit account balances as a percentage of total non-time deposit balances was 14% in high performance banks compared to 20% in average performing banks, suggesting that high performance banks are not required to develop as many new deposit balances because they are realizing higher returns on their existing deposits compared to average performing banks (Grasing 5).