fis strategic insights vol 1 august 2011

FIS ENTERPRISE STRATEGY VOLUME 1 • AUGUST 2011

FIS STRATEGIC INSIGHTS • V 1 AUGUST 2011 ©2011 Fidelity National Information Services, Inc. and its subsidiaries.

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By Fred Brothers EXECUTIVE VICE PRESIDENT, ENTERPRISE STRATEGY

At this spring’s Client Conference and InfoShare sessions on “Meeting Customers on Their Terms,” I talked about eight trends shaping the future of banking. The trends are framed within a banking market that is increasingly big, global and digital. For those of you who missed the session or would like to pass along these ideas to colleagues who couldn’t be there, I’ve written this article about two of the eight major trends.

In 2008, Thomas Friedman, a New York Times columnist with three Pulitzer Prizes, wrote a great book entitled “Hot, Flat, and Crowded.” It focuses on the impact that global warming (hot), globalization (flat) and population growth (crowded) are having throughout the world. After reading the book, I thought about how hot, flat and crowded the banking world has become — with a few modifications.

We’re competing in a banking market that is:1. Big: The players competing for consumers’ financial attention, both within the banking industry and from outside it,

are more massive and influential than ever before.2. Global: We are now a global banking system, and consumers care less about the home location of their services than

the quality of the services they are receiving.3. Digital: Mobile Internet connections and social media are profoundly affecting the attitudes and expectations of

banking consumers.

In this month’s column, I’m going to talk about the trends behind our newly “big” banking market: the still-growing size of the biggest financial institutions and the other huge players that are influencing the financial marketplace.

The “Big” Trends in the Big, Global and Digital Banking Marketplace

I N T H I S I S S U E

• The “Big” Trends in the “Big, Global and Digital” Banking Marketplace

•Retail Channels Never Die

•Mobile Banking: Clearing the Runway

• Economic Insights

FIS ENTERPRISE STRATEGY VOLUME 1 • JULY 2011


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We are competing in the land of the giants. U.S. banks have been consolidating for years, but the new shift is the massive consolidation of deposit share within the largest financial institutions. Twenty years ago, commercial banks with deposits of $10 billion or more held about one-third of commercial bank deposits in the U.S. Today, banks of that size hold nearly 75 percent of all deposits. And, due to several high-profile mergers of huge institutions during the recent financial crisis, four now have more than a trillion dollars in assets each. Banks of this size were unheard of only a few years ago. These are massive financial institutions, both domestically and globally, with very large presences in retail banking, commercial banking and capital markets (Figure 1).

The “mega” financial institutions have enormous resources. They will be the market-makers, setting the standards in our industry, including efficiency ratios, innovation, and online and mobile products. When you include in this equation the huge Global 100 financial institutions that have purchased mid-sized banks in the U.S., it’s clear that the competitive landscape has changed enormously in the past few years.

Let’s look at one example of how these “mega” financial institutions define the competitive marketplace. Mobile is exploding. We all know that. Some of the largest financial institutions launched mobile banking applications early and aggressively. The result is quite telling. Last February, we completed a primary research project with 4,000 U.S. consumers. Thirty-seven percent of our survey respondents reported that their primary DDA is with one of the top-10 financial institutions. But, of the consumers who are active mobile banking users, more than half (52 percent) have their DDA with a top-10 bank. For these largest financial institutions, their share of mobile banking customers is nearly 50 percent more than their share of deposits.

Despite how big and influential the mega banks are, they’re not the only influencers who are setting your customers’ expectations. Let’s look at who else is doing that.

Have you noticed how good Amazon.com is at recommending products and telling you what else people who bought your item also purchased? I’ve never seen this done in banking. The discount offers from Groupon are relatively unsophisticated in their targeting, but their offers feel (and are promoted as) personalized. The Walmart® Money Center looks, feels and acts like a bank branch, but with the store hours of Walmart. These companies are our competitors — both now and in the future — and they are redefining our customers’ expectations of personalization, availability and convenience.

Figure 1: Competing in the Land of Giants



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We’re also watching social media sites closely. Some are moving into payments directly, while others are offering services that are radically changing consumer interactions. Google predicts the search results you need before you’ve finished typing in the request. Smartphone app stores are providing you with all the content you need — anywhere, anytime — and suggesting more content you might like, as well. These are the companies shaping the expectations — and setting the bar — for our customers.

Non-traditional providers of financial services have proven they can capture significant market share from financial institutions. According to the latest reports from these companies, PayPal® has 94 million active accounts. NetSpend® encompasses 30,000 purchase locations and over 100,000 reload locations. MoneyGram® has 227,000 locations in 190 countries. Walmart® Money Centers process five million transactions each week. Prosper® has one million members and has funded $223 million in loans. Apple® holds more than 200 million credit card numbers in iTunes® accounts. These numbers keep growing as non-financial institutions process more and more financial transactions.

Put your customers in the middle of your market landscape. See where they connect and how they interact in their daily lives. Think about the lessons that could be applied from companies that have built market value because they are experts at connecting with their customers in unique ways. Success in today’s banking market will depend on meeting customer expectations that have been set by very big players, most of them unconnected with traditional banking.



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Retail Channels Never Die

Figure 1: Majority of Consumers Use Two to Four Banking Channels

By Paul McAdamSENIOR VICE PRESIDENT, RESEARCH & THOUGHT LEADERSHIP

Consumers want options when it comes to accessing their banking information, adding or removing account funds, and resolving service issues. When accomplishing these tasks, some consumers prefer self-service banking, some prefer a more traditional in-person approach and many actively use all delivery channels. Despite the expansion of self-service banking, consumers’ person-to-person interactions with branch staff and live phone reps remain significant. As certainly as we can say that self-service banking is the way of the future, it seems we can also say that old banking channels never die — or at least they don’t die quickly.

These are some of the key findings from recent primary consumer research completed by the FIS™ Enterprise Strategy team. The implications for financial institutions are significant.

Consumers Want a Multichannel Experience

When we asked consumers about their interactions with their primary checking account provider, we learned that the majority (61 percent) of consumers use between two and four channels within a 30-day time period (Figure 1). Nearly a quarter of consumers (24 percent) reported using five or more channels. Consumers have proven that there isn’t a retail banking channel they don’t like.

Generational differences have a huge impact on channel usage. When looking at the consumers reporting use of five or more channels, 41 percent were Gen Y but only 9 percent were classified as Mature (born before 1946).

In-person Service Remains Essential

Given the acceleration in self-service banking and electronic payments adoption over the past decade, it’s easy to overstate the importance of self-service channels while downplaying the importance of the in-person experience. But in reality, a consumer’s choice of banking channels is situational.



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Consumers want the flexibility to use whatever point of contact suits their needs at any given time. The auto insurance provider Esurance® captures this spirit perfectly in its recently developed marketing tagline, “People when you want them, technology when you don’t.” Our research validates this concept. Of retail banking consumers, 57 percent are multichannel, having used both in-person and self-service channels of their primary checking account providers within the past 30 days (Figure 2).

Only 20 percent of consumers are completely self-service customers. These consumers don’t use any in-person channels — only online, mobile, ATM and/or automated telephone banking. This segment is comprised primarily of younger generations and self-directed, mass-affluent consumers.

Conversely, 23 percent of consumers are primarily in-person banking customers. These are consumers who conduct in-person branch or live telephone rep transactions and reported no use of online or mobile banking channels. Many, but not all, of them are older.

Sixteen years following the launch of Internet banking in the U.S., we are still at a stage in retail banking where the population of primarily in-person banking consumers is slightly larger than the totally self-service crowd — and the majority of consumers are truly multichannel.

Multichannel Delivery Dilemma

This situation sets up a strategic dilemma for many financial institutions. Given the host of revenue pressures facing the industry, it is starting to become prohibitively expensive to simultaneously maintain branch-based and self-service delivery systems that are equally robust. A balancing act must be achieved. Many financial institutions will be forced to ask their customers to support all of this multichannel access through one or a combination of the following:

• Paying higher fees • Bringing the provider greater financial wallet share • Substantially shifting transactions to self-service channels

Acting on these strategies for improving customer profitability involves addressing a complicated set of considerations in order to execute them in a way that is perceived positively by customers. All of the strategies require convincing customers to change well-established behaviors. And, all of them hold a certain degree of risk of alienating customers who are unable or unwilling to make changes in their banking behavior. In upcoming editions of FIS Strategic Insights, we will discuss the challenges and opportunities associated with specific strategies for improving customer profitability.

Figure 2: Most Consumers Are Multichannel and Use a Mix of Self-service and In-person Banking



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Clearing the Runway for Mobile Banking Adoption

By Mandy PutnamDIRECTOR, RESEARCH & THOUGHT LEADERSHIP

Consumer interest in all things mobile is higher than ever, providing banks an opportunity to launch mobile banking applications that could potentially generate a great deal of interest. But is it worth the investment? FIS™ Enterprise Strategy studied the market and conducted an online survey of 4,000 mobile phone owners in February 2011. Our research indicates that three things are propelling mobile banking penetration:

1. Better technologies for mobile devices. Recent double-digit growth in smartphone adoption has enabled consumers to expand the activities they can perform via mobile phone connections — from creating a video and sharing it (with one special person or with millions of people) to accessing just about any information, including one’s bank account, anywhere and anyplace.

2. Proliferation of banking apps. Recent estimates place the number of mobile banking apps between 1,400 and 1,6001.

3. Desire to stay connected. Nearly three-quarters (73 percent) of mobile phone owners “agree” or “strongly agree” that they don’t go anywhere without their mobile phone. How many other things could people cite that they don’t go anywhere without? Maybe their wallets today, but tomorrow, even wallets could morph into chips in smartphones.

Who Are the Mobile Bankers?

The number-one predictor of whether someone will engage in mobile banking is if they download a banking app for their phone (rather than just accessing the bank’s site through their phone browser). Two characteristics of app downloaders define who is most likely to use mobile banking apps:

1. Generation. Gen Y accounts for 26 percent of mobile phone owners but more than one-half (54 percent) of banking app users — that’s double the representation. These mostly 20-somethings (the oldest ones are now 31) are beginning to build and feather their nests. They demand quick access to funds wherever they are and whenever they need them. Access to mobile banking is the cost of entry if you want to do business with Gen Y (Figure 1).

2. Large-bank patronage. Because large banks have led the way in providing apps to their customers, customers of the top-10 banks account for nearly six out of 10 banking app users (Figure 2). According to our survey findings, large banks also have provided their customers with a more satisfying mobile banking experience, which makes them “stickier” customers.



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Mobile banking consumers are also marked by their frequent use of the Internet via mobile phone. Nearly nine out of 10 mobile banking users (88 percent) describe their mobile phones’ Internet capabilities and usage this way: “I have Internet access on my mobile phone, and I use it frequently.”

So what else, beyond being young, connected and a big-bank patron, defines mobile banking users? One important thing that sets them apart is their financial habits, which are driven by their above-average mobility and online orientation.

If you think that mobile banking is a substitute for a physical trip to the bank or ATM, think again. Mobility increases exposure to places where financial transactions can be conducted. For mobile banking users, mobile banking is an additional point of contact with their financial institution, not a substitute.

Mobile banking users also are likely to access online financial services outside of conventional financial institutions. If you don’t offer a person-to-person (P2P) payment solution, you are likely losing business to PayPal: six out of 10 mobile banking users make P2P payments.

Are Mobile Banking Users Worth the Effort?

The answer to this question is, unequivocally, yes. When compared against non-mobile banking users within their generations, mobile banking users have higher asset balances. The young ones — Gen Y and Gen X — also have higher credit and loan balances as a result of their acquisitive life stages.

There is abundant runway ahead for growing a mobile banking market beyond the early adopters who compose today’s mobile banking segment. Key tailwinds include the continued growth in smartphone and tablet adoption, as well as mobile payment options on the horizon. Today’s mobile banking users will become the early adopters of mobile payment — at least that’s what they told us.

Figure 1: Mobile Banking App Usage by Generation

Figure 2: Mobile Bank App Usage by FI Type



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There are also headwinds to mobile phone adoption: to ensure mobile app success, financial institutions need to increase: 1) awareness, 2) banking app penetration and 3) appetites for mobile banking among consumers who will become the “early majority.”

1. Lack of awareness. Currently, 44 percent of mobile phone owners do not know if their financial institution offers mobile banking. Although no financial institution is going to run a campaign announcing that they don’t offer mobile banking, those 1,400 to 1,600 financial institutions that offer mobile banking apps need to improve their communications and onboarding processes for new app users.

2. Lack of apps. Again, the number-one predictor of mobile banking usage is downloading a banking app. Increasing app availability will increase penetration.

3. Lack of appetite. Preferences for online banking via computers and concerns about security also represent impediments to the diffusion process (Figure 3). One in five (19 percent) non-users report that they simply have not bothered to try mobile banking yet. Their indifference could be reversed through communication of a clear value proposition and “sampling incentives.” Those with security concerns (28 percent) will require different messages to assuage their worries.

This article is derived from the recently-published white paper, “Clearing the Runway for Mobile Banking Adoption.” 1 Interview with Jim Breune, netbanker.com. April 8, 2011.

Figure 3: Reasons for Not Doing Mobile Banking



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Record Earnings in the Midst of New Risks and Regulations

By Jim Gamble DIRECTOR, RESEARCH & THOUGHT LEADERSHIP

Corporate earnings have been the brightest spot so far in the U.S. economic recovery. U.S. corporations have enjoyed strong gains in profits as a result of increased efficiencies and member companies of the Standard & Poor’s 500 index are expected to show record-high earnings in 2011 and 2012 (Figure 1). Bank earnings are recovering, albeit more slowly than in most other industries. Although new regulations are forcing financial institutions to adapt their business models, bank earnings are expected to return to their historically high levels by 2015.

While corporate earnings have benefitted from trimming payrolls, workers have not and unemployment remains high. We are in a “jobless” recovery — reminiscent of the recovery after prior recessions, but more severe this time. Improvement in the labor market has lagged improvement in the broader economy, which has led to an overall modest economic recovery despite bullish corporate earnings. In order to stimulate the economy, the Fed lowered interest rates to an unprecedented level. Until the economy chalks up sustained improvements in the jobless rate, the Fed is unlikely to raise interest rates (Figure 2). Banks will benefit from the wide yield spread between long-term Treasury bonds and the Fed funds rate. As long as inflationary pressures remain mild, this wide yield spread will likely persist through the remainder of 2011 and into 2012 (Figure 3).

Figure 1: Estimated S&P 500 Index Earnings



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Despite recent congressional agreement to raise the debt ceiling after the contentious debate, lack of resolution about budget issues has the potential to disrupt the current pattern of economic recovery. Potential cuts in entitlement programs and increases in taxes remain uncertain. Also uncertain is the long-term impact on demand from abroad to hold U.S. debt. These issues could dampen consumer spending and borrowing as well as business investment and hiring.

Outlook for Bank Earnings

The improvement in the economy and, in particular, increased consumer appetite for borrowing and a sustained wide yield spread produce a favorable environment for financial institutions to generate increased earnings on deposit balances. Having deleveraged themselves during the recession, consumers will become more confident about borrowing again as unemployment subsides.

The outlook for bank earnings is based on two separate methods of forecasting — a “top-down” macroeconomic model based on a long-term correlation between the bank income statement and economic growth, and a “bottom-up” model which is a summation of earnings estimates for individual financial institutions.

(See Figure 4 for key economic forecasts that drive the “top-down” model.) The separate methods produce similar outcomes.

Figure 2: Fed Funds Rate Will Remain Low

Figure 3: Treasury Yield Spread

Figure 4: Key Economic Forecasts



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1. Top-down macroeconomic model (Figure 5). This earnings forecast is based on the assumption that the rise in gross domestic product will drive increased lending. The combination of earnings gained from the wide yield spread between long-term Treasury bonds and the Fed funds rate on top of increased lending will provide a strong boost to net interest income.

Examination of non-interest income shows its growth historically following growth in gross domestic product. However, recent changes in regulation have added a new layer of complexity to the forecast for non-interest income as financial institutionslook to new sources of non-interest revenue.

Recent financial institution research conducted by FIS™ Enterprise Strategy found that financial institutions view improvement in customer profitability as the primary way they intend to meet their financial goals. They are looking at new options for generating income that will not be jeopardized as a result of regulatory changes. Assuming alternative options will fill in the non-interest income gap are attained, the non-interest income growth will likely continue to parallel growth in GDP.

Financial institutions also are likely to benefit from reduced expenses as provisions for losses decline in response to economic improvement and a lessening consumer debt burden (Figure 6).

2. Bottom-up earnings estimate (Figure 5). This estimate of earnings is based on the compilation of estimated earnings of larger, publicly traded banks — a good proxy for the broader universe of regulated financial institutions. These estimates are generated by a variety of financial analysts, typically employed at brokerage firms. The estimates take into account both macroeconomic forecasts and unique characteristics of individual financial institutions.

Figure 5: Estimated Bank Earnings

Figure 6: Provisions for Losses



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Conclusion

The U.S. economy and banking organizations are both resilient. Even in the face of new challenges, there is sound support for an optimistic outlook and a return to normal levels of profitability for banks. For further proof, look at the stock market — another leading indicator of economic growth. As of late-July 2011, the S&P 500 has roughly doubled in price since the recession low in March of 2009. The recovery will likely not move in a straight line, but it will occur, providing an optimistic outlook for the financial performance of banks.

Strategic Insights is a monthly newsletter that provides research, thought leadership and strategic commentary on recent events in banking and payments. The newsletter is produced by the Enterprise Strategy team at FIS. FIS is one of the world’s top-ranked technology providers to the banking industry. With more than 30,000 experts in 100 countries, FIS delivers the most comprehensive range of solutions for the broadest range of financial markets, all with a singular focus: helping you succeed.

If you have questions or comments regarding Strategic Insights, please contact Paul McAdam, SVP, Research & Thought Leadership at 708.449.7743 or [email protected].

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