A Capital - ME Article, January 2008 Edition
Many Banks are now back to the 70s and 80s strategies of controlling costs to bring expense levels in line with lower expectations for revenue growth. However, preparing for success in 2008 onward will require more than efficiency gains.
the region will need to decrease their reliance on the consumer finance segment to reduce portfolio concentrations and to build sources of more sustainable and less variable earnings.
This is especially important for those banks whose delinquency ratios have been proliferating at fearful levels. A high default rate has been a severe headache for those banks that have relaxed their standards. They have done so primarily by reducing interest rates, increasing borrowing limits and easing guarantor requirements repayment terms and convenants. These practices led to big problems for many banks in the current decade, when increased competition for personal loans and the loosening of central banks ‘restrictions led banks to dramatically increase their consumer finance lending activities without proper infrastructure, market knowledge, corresponding increase in back-office operational efficiency and improved internal risk-control practices.
Fresh Priorities
Setting the right strategy or altering the current one to take into account the changing social and economic environment is key to continuing growth for Middle Eastern banks. Commercial banks need to focus on five vital imperatives :
1. Building relationship strength.
2. Improving lending portfolio quality
3. Overcoming dependency on lending as the major source of earning
4. Widening customer base
5. Mitigating operational risks by not only implementing the Basel 2 Accord, but also taking other essential operational measures.
Banks must find new ways of doing business to complete effectively in the challenging environment in which they will find themselves in 2008. For banks to successfully address these challenges, they need to change their strategies from trying to accumulate/increase volume to focusing on maximizing efficiency and risk-adjusted return.
To begin this transition, banks need to shift their full attention to optimizing their loan portfolios through improved loan portfolio analytics, managing exceptions and the like. Second, banks must innovate not only to internally manage for value but also to provide customer value. Third, communication at all levels must become a strategic priority for banks. Fourth, banks must improve training, especially in areas where professional technical expertise needed to preserve vital services I globally scarce, such as trade finance, securities or FOREX.
Taking a Different Track
Even global banks now need to revise the operating strategies they adhered to in the last decade when they fixated on growing their earning. After years of recording staggering profits, net-interest income will probably reduce in the next year since acute competition continues to compress margins. Demand for loans will shrink for sectors that generated past growth as more and more markets become saturated. The Cost of lending is rising as credit (loans)provisions are increasing. For most banks, these costs are rising at a much faster pace than earnings generated from assets, an operative situation that bankers and economists often refer to as "diseconomies of scale".
Many banks are now back to the 70s and 80s strategies of controlling costs to bring expense levels in line with lower expectations for revenue growth. However, preparing for success in 2008 onward will require more than efficiency gains. Specifically, banks will need to focus on reviewing major corporate relationships, adapting their business models to drive growth in new ways and improving their sales, client management and project execution processes to maximize both efficiency and effectiveness.
Next month: The nuts and bolts of banking success.
