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McKinsey & Co’s latest Asia-Pacific Banking Review 2019 report, titled Bracing for consolidation: The quest for scale, warned that the “dual threat” of an unfavourable macroeconomic environment and long-term structural issues that emerge from regulatory changes favouring innovation could place Asia-Pacific banks at risk of seeing their above-average returns-on-equity (ROE) fall to single digits (as low as 9 per cent).
In 2018, Australia’s major banks delivered an average ROE of 12.5 per cent.
The report said that there will always be a role for smaller lenders offering “superior” services to high-net-worth individuals, small and medium-sized businesses and other niche segments, but that pursuing partnerships or mergers could be the “most efficient” way for them to “build scale, boost productivity and consolidate technology and talent”.
It was noted in the report that new regulations in Asia-Pacific markets that demand better risk management, stricter capital controls, higher efficiencies and stronger competition have an “indirect impact” on consolidation as they pose “special challenges for smaller, less-efficient banks”.
“Several banks in the region have already completed multiple transactions, but we have yet to see the emergence of a strategic and programmatic approach to mergers and acquisitions,” the McKinsey report stated.
“Banks need to urgently redouble their efforts to boost productivity, optimize capital and pursue strategic growth. Bracing for consolidation will get banks in shape to forge ahead through the storm.”
While there is “considerably less room for consolidation” in countries like Australia, McKinsey still expects well-capitalised banks to seek synergies in areas such as market growth, technology and talent.
A recent Standard & Poor’s (S&P) report, titled Larger, Well-Managed Australian Mutuals will Prevail as Market Consolidates, argued that continued consolidation is needed to “neutralise” some of the disadvantages mutual banks face and compete on a more level playing field with the big four, who have much lower operating and funding costs.
Acknowledging that building blocks are already in place “for a data-driven, customer-centric digital banking business” for many banks, the McKinsey report suggested that in order to carry through with the transformation, banks should “urgently” shift to flexible and streamlined technology architecture and modernised systems and applications in order to compete with “disruptors” on speed, productivity and customer experience.
“Market expectations are rising as customers become accustomed to the sleek, fast and intuitive design of digital platforms like Facebook, Amazon and WeChat. To remain competitive, banks need to future-proof their technology by shifting to modular platforms that can be updated frequently as the market changes and new innovations become available,” the report said.
A similar argument was made by technology consultancy firm Capgemini and banking association Efma last year, when they warned that bank customers could ditch them for large tech players – such as Alibaba, Amazon, Apple, Google, Samsung and Tencent – in pursuit of a better experience.
According to their World Retail Banking Report 2018, which was based on a survey of more than 10,000 retail banking customers and interviews with 60 senior bank executives around the world, the common denominator in the next wave of banking is believed to be a “commitment to place the customer at the centre of the value proposition”.
The research found that banks are eager to treat technology firms as colleagues rather than competitors. Senior executives said they could “generate non-traditional revenue” via collaboration with technology firms, such as by jointly developing a new service or distributing third-party products via a marketplace.
According to S&P’s Future of Banking: Fintech Flags Turning Point in Australian Banking report, banking customers will expect more than just a home loan or savings account in the future; rather, they will expect their providers to offer customised products based on their full financial profile, similar to the way Netflix and Spotify tailor their offerings.
Further, McKinsey believes that the “smart use” of data analytics could help banks attract new customers and “deepen” existing customer relationships. In doing so, the global management consulting company predicts that banks could boost their profit before taxes by 20 per cent to 40 per cent.
“Most Asia-Pacific banks, however, have yet to generate an adequate return from their analytics investments. The problem is often the failure of top leadership to focus on data as a core enterprise asset,” the report said.
S&P’s report stated that access to comprehensive financial data, such as through Australia’s open banking regime, will allow banks to “more accurately price for risk and create tailored product offerings”.
However, while the big four banks have more resources to invest in data analysis, “they stand to lose the competitive advantage historically afforded by their proprietary customer databases and extensive branch networks”.
“Their reliance on legacy banking systems may also be an impediment in making the necessary changes,” the ratings agency’s report said.
S&P also expects neobanks to be one of the bigger beneficiaries of Australia’s open banking regime, as they are not anchored down by legacy systems or extensive branch networks.
“Their lack of existing infrastructure – they operate digitally, usually from an app – and generally younger target customer base allows them to focus on using data to develop innovative product offerings,” the report stated.
[Related: Consolidation ‘inevitable’ for mutuals to compete]
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