Corporate banking revenue to reach 2.8 trillion by 2020

28 July 2015 Consultancy.uk

Total global corporate banking revenue is expected to grow to $2.8 trillion by 2020, research by the Boston Consulting Group shows. According to the firm, revenue growth is expected to increase for the industry across all regions, with the Asian-Pacific region to see 9% annual growth to 2020. Although revenues as a whole are expected to grow, the divergence in profitability between the top 75th percentile division and the bottom 25th percentile is bigger than it was in 2007.

A recent report from the Boston Consulting Group (BCG), titled ‘Global Corporate Banking 2015: The Look of a Winner’, explores the corporate banking sector to identify how well corporates banks are functioning. Not merely in the post crises environment but also in relation to larger trends affecting the industry as a whole. The background for the report, involves the 2014 edition of BCG’s Corporate Banking Performance benchmarking in which 250 corporate banking divisions took part.

Corporate banking
The corporate banking divisions are one of the main profit drivers for banks globally. The units account for almost half of the banking industry’s revenue pool globally and are estimated to grow by 7-8% annually through 2020. There are however considerable variations in terms of performance across the banking sector, with the profitability performance between top and bottom percentile divisions as high as 50%. BCG notes that the while the financial crisis has hit banks hard, there is much more going on which is affecting the profitability of corporate banks, including digitalisation, new regulation, disintermediation, and globalisation.

Performance gap between top and bottom percentile

Resolving pre-tax profit
Even though corporate banking continues to play a major role in the life cycle of banks, the latest benchmark from BCG shows that nearly two-thirds of banking divisions have returns on capital below the hurdle rate*. Particularly challenged were divisions in Western Europe, as well as in Central and Eastern Europe, where pre-tax returns were below 10%.

In terms of individual performances in Western Europe, the 75th percentile divisions made pre-tax returns slightly above the hurdle at 17%, while the bottom percentile divisions were underperforming their 2007 percentile counterparts by 7%. North American divisions were doing very well, with even the bottom percentile group overstepping the hurdle. Worldwide there is significant variation, with the 75th percentile returning above 2007 levels, but the underperformers falling 4% below their 2007 levels.

Profitability trend corporate banking

In terms of absolute numbers, the research finds that more than half of corporate banking divisions worldwide show declining economic profit over the previous three years. North American banking institutions, while performing above average, are experiencing a downward trend, as competition increases at 75% of divisions. In Western Europe, despite the turnaround initiatives at many banks, a large number of divisions — some 65% — have negative and declining economic profit. The Middle East has a 50-50 split between negative and declining and positive and improving profits. The Asia-Pacific region is performing relatively well, with only 26% negative and declining and 32% positive and improving.

BCG notes that “corporate banks with the right business model can create value in all segments and regions, despite local or segment-specific challenges. Even in Western Europe, which is one of the most difficult environments, top-quartile players consistently exceed typical hurdle rates.”

Growth in corporate banking revenue

Growing revenue
The research shows that while the profitability of the corporate banking division is trending downwards in many regions of the world, there is a long term positive trend for the growth of revenue in the sector for all regions. The Western Europe division revenue is expected to grow by 4% annually between 2012 and 2020 from $381 billion to $511 billion, while North America is expected to see a 6% annual growth from $316 billion to $486 billion by 2020. The Latin American and Middle East and African markets will both see 8% annual growth. The Asian-Pacific market will see the most impressive year on year growth of 9%, almost doubling from $722 billion in 2012 to $1,406 billion in 2020. The total revenue across all regions will by 2.88 trillion in 2020.

The profitable winners, according to BCG, will be the corporate banks that align themselves with the megatrends affecting the industry. For instance, by developing digital offerings and new businesses models focused on clear-eyed review of the current portfolio of client segments, products, and regions served, with “those that fail to adapt their business models run the risk of suffering prolonged, painful periods of underperformance.”

* BCG’s methodology uses a 16% pre-tax hurdle rate and assumes that regulatory capital is 10.5% of risk-weighted assets.

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The business and operating models of digital-only banks

04 April 2019 Consultancy.uk

In recent years, several digital-only banks have successfully managed to nestle themselves in the banking landscape, with their popularity continuing to increase. Looking at it from the customer’s point-of-view, there is little difference between these FinTech unicorns; looking at the bigger picture, however, reveals significant variation in their business models. Matyas Fekete, a consultant at KAE, explores some of the main similarities and differences in digi-bank business and operating models. 

What about the profit?

Unlike in the UK, in most of continental Europe, bank accounts and corresponding banking services are historically paid-for services. The fact that digital banks offer most of their services free of charge has undoubtedly helped them build a large customer base. On the other hand, despite comparatively low set-up and minimised operational costs compared to that of traditional banks, and given the lack of revenue stemming from the typically no-fee model, profitability has proved difficult to achieve. Monzo, for instance, recorded a net loss of £30+ per customer in its most recent financial year. 

In the start-up world, it is customary to focus on expansion rather than profit – see the case of Uber, for instance. Still, while profitability might not be their number one priority in their early stages of development, it must be a long-term goal of any business. With their ever-growing customer base, digital banks are increasingly under pressure to turn their business from loss- to profit-making. 

Credit where credit is due

Digital banks pride themselves on their fair (often meaning “free”) proposition and have so far stayed clear of offering loans (including credit cards & overdrafts), traditionally amongst the most lucrative products for traditional providers. Though somewhat reluctantly, newcomers are also realising that offering lending products is one of the most straightforward ways to offset losses made on their free, often high-cost services (e.g. overseas ATM withdrawals). Monzo, N26 and Starling have recently started offering credit products to their customers, with their loan offering expected to be extended to a wide range of services, from mortgages to overdrafts. Correspondingly, creating a lending portfolio can also pave the way for launching an interest-paying savings offering – a proposition seen as a basic banking product that is yet to feature in most digital banks’ portfolios. 

The business and operating models of digital-only banks

The premium customer

While most digital banks offer most of their products for free, some have extended their offering by paid-for premium services in order to create a revenue stream. As these premium features – including different types of insurance, unlimited free transfers/withdrawals, faster payment settlement or concierge services – are often offered in a subscription format, customers are typically prompted to pay for the full package rather than just the desired service(s), providing a significant revenue stream for the bank. Revolut, for instance, was amongst the first digital banks in Europe to break even earlier this year, a feat largely due to revenue from its premium subscription.

SMEs like digital too

Traditional banks typically service small and medium sized businesses under their retail rather than corporate banking arm. Having their product offering tested with consumers, and consequently gaining a reasonable customer base, digital banks have also identified SMEs as an ideal segment to extend their target audience to. The five FinTechs profiled have already gone, or plan to go, down this path by following up their consumer solution with a business account. While both propositions are typically built on similar features, some providers charge businesses a monthly subscription (e.g. Revolut), while others apply additional fees to specific services (e.g. TransferWise), banking on the expectation that businesses are more likely to be willing to pay for banking – something they are already used to doing. 

The marketplace model

While most digital banks offer a wide range of banking services, some of these tend to come from partnering with third-party providers. For instance, Starling Bank’s only proprietary product is its current account, which serves as a basis for the provision of ancillary services, ranging from loans to insurance, to investment opportunities. Instead of developing these services in-house, Starling enables a select group of partnering financial service providers access to its platform in exchange for a fee. In effect, Starling is using its customer base to create a market for its partners, charging a commission for each acquired customer. 

In such cases of digital banks applying this marketplace model, the majority of their income often comes from partners rather than customers. Naturally, only banks with a large enough customer base can be successful in this set-up, underlining the current intensity of competition amongst digital banks.

Banking as a Service

While customer-centricity is heralded amongst the main USPs of digital banks, some are looking beyond offering consumer-facing services to diversify their revenue streams. Starling, which is among the few digital banks built on its own proprietary platform, has recently leapt into the Banking as a Service (BaaS) industry, making its technology available to other start-ups looking to launch a digital bank. Naturally, this raises the question whether the two offerings could threaten each other’s success. Generally, as long as such partners operate in different markets, the two business lines should be able to thrive alongside each other. Further along the line, however, such partners could easily end up expanding their banking solution into the same market(s) as they aim for global success, and by doing so, becoming direct competitors. 

Different approach, same result?

It is fair to say that consumers in Europe looking to bank with a digital-only provider would have a difficult time finding relative advantages/disadvantages amongst the leading players in the industry. Still, despite the limited surface-level variety, exploring the business models of leading digital banks reveals different approaches to the challenge of making money. Alongside the more straightforward method of offering paid-for premium features/subscriptions, some are banking on the value that access to their customer base offers to third-parties, while others outsource their technology to neobanks wanting to focus on the Fin rather than the Tech. With competition amongst digital banks heating up, it will be interesting to see which business model(s) prove to be the winning formula in the long term.