Sunday, January 13, 2013

Should Banks Jettison Unprofitable Customers?


I will tell you why in a moment, but first why I thought of this question.

Alan Weiss of Summit Consulting penned a book called The Consulting Bible (see my bookshelf if interested in the book). In it, Weiss suggests you jettison the lower end of your client list when you win new clients. His reasons:

  • The client is no longer profitable.
  • You are bored with the work.
  • The client is troublesome.
  • The work is unpleasant.
Financial institutions rarely go through such an exercise. In fact, I am currently preparing for a meeting with a client to discuss what to do about unprofitable branches. It has always been challenging to advise clients to reduce rather than to add. But to add value to customer interactions in banking, we have to dedicate time to making our customers situation better, in some way. Continuing to rely on having a nearby branch or a mobile app to add value will solidify our position as a commodity, in my opinion.

Instead, what we can offer customers is hassle free banking, improved financial condition, and peace of mind. To do that, we need talented employees with time. Time cannot be expanded. Giving 110% of your time only makes sense on a t-shirt.

But unlike consulting, financial institutions make most of their revenue on the spread. If an unprofitable customer keeps $10,000 in deposit balances with you and you can re-deploy that money at a 3% spread, then you generate $300 in revenue on very little marginal cost. Letting that customer go to a competitor will not reduce employee or occupancy expense. In fact, you would experience very little cost reduction (FDIC insurance and possibly a small data processing savings). 

But what you can do is push customer service to the appropriate level based on the value of the customer to you. Keep your most talented employees reserved for your most profitable and strategically important customers. Because those customers have the greatest potential to appreciate the value your FI brings to their situation. Growing high value customers while properly serving commodity customers is critical to improving your FI's relevance and breaking the commodity cycle.

Any stories out there about identifying and serving high value customers appropriately?

~ Jeff


  1. 100% right - allow me to expand using the following truisms:

    1) growing deposits for the sake of growing deposits while Loan / Book ratio is ~70% does not generate a spread of 3%. In fact, it generates a negative spread which is why many Community Banks are struggling.

    2) Branches account for 70%+ of total cost basis while generating (near) zero revenue. If the primary objective of the Branch is to house Sales focused employees, then a Community Bank would be wise to utilize an open-floor type model in a class-A building thereby dramatically slashing wasteful spending and redirecting investment into more valuable initiatives.

    3) hopefully by now most Bankers will have realized that the vast majority of banking customers do not want to engage through the branch channel. Most high-value customers have neither the interest nor the time. Bankers would be wise to increase the convenience factor by enabling their customers to engage when / how / where and when their customers prefer.

    4) jettisoning unprofitable customers may not be a sound solution, however, improving the efficiency of channels, products, servicing, marketing, and pricing of for various customer segments is essential. Treating a customer that generates an operating loss for a Bank (~80% of customers in a typical Community Bank) on par with a customer that generates thousands of dollars in operating profit is imprudent.

    Branches are just a sales & service channel, just like call center, online, mobile, and ATMs. Decisions about each should be fact based and dispassionate. More importantly, decisions about branches (or any other channel, product, etc.) should be made in the context of overall business strategy --- that is, how will the Bank compete and differentiate in a very crowded, largely commoditized market place? What is it that the Bank offers that is not available at a bank down the street, across town or 1,000 miles via an online-only bank (and no, great customer service is not an acceptable answer)?

    1. Serge,

      I'll comment in your order:

      1. It takes appreciably longer to win a core deposit relationship than a loan. If you would like to fund a new $2MM loan with business checking requires the acquisition of 50 new accounts. Core deposit acquisition planning requires time and I would be suspicious of any claim that banks can achieve just in time funding with core deposits. So banks should "get while the getting is good". And, yes, today banks may not fund a loan with new deposit acquisition, but last I checked, most financial institutions enjoy a > 3% margin.

      2. Branches generating near zero revenue... not sure if this was a serious comment.

      3. According to a Cisco IBSG 2012 study, 53% of customers prefer to use the branch to apply for a loan, and 48% prefer to use a branch to obtain support for a banking issue. You don't believe this to be true?

      4. Now we are in 100% agreement.

      ~ Jeff

  2. Jeff -

    I would also add that realizing and understanding that a certain percentage of your customers are not profitable and don't have the likelihood of providing a profitable relationship (at least anytime in the near future) also provides one other benefit. If you're aware of this, and have identified these relationships, you can reduce the resources generally applied (time and money) in marketing, cross-selling, etc. to these customers. This enables you to focus resources and efforts on the opportunities that can truly produce positive results.

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    2. Mike,

      I agree with your comments. I was near Tampa last month. I should have given you a call!

      ~ Jeff

  3. I worked with hundreds of clients in a consulting capacity over a 20 year period, I can count on one hand the number who weren't either troublesome or unprofitable, or where the work wasn't boring or unpleasant.

    If you're a consultant and EVER run into a client who is profitable and pleasant where the work is easy and exciting... hang onto them for dear life. But if you're firing all the annoying ones you don't like, you'll be sitting alone in an empty office with nothing to do.

    1. Jeffry,

      I agree with you in that during an engagement there are always sources of conflict (usually healthy) in a consulting relationship. For example, I had an engaging conversation today about the use of projected loan portfolio loss rates in a client capital plan.

      However, I believe Alan Weiss was referring to letting the most troublesome clients go as you add new ones, if you have a fixed capacity.

      ~ Jeff

  4. This is has been a key challenge across the industry for quote some time. I have currently doing some work in the area of client profitability for affluent clients and ran into a 1991 Journal of Retail Banking article (OK, so I'm a bit of a pack rat) that cited Oliver Wyman data showing "29% of customer relationships accounted for 700% of retail bank profits, with the remaining 71% subtracting 600% from this total". That's not too different from contemporary data I have seen.

    There is definitely art and science involved in being able to successfully scale service delivery appropriately, but the starting point is at least having the data to understand which are customers are profitable and which ones are not, and targeting your proactive retention and expansion activities towards the former.

    The trickier part is trying to figure out which of the currently unprofitable customers have the highest likelihood of becoming profitable in the not too distant future.

    1. JP,

      Wouldn't this be an excellent research project for Marketing... identifying the most profitable customers, sorting into groups by industry (for businesses) and demographic group (for individuals), incorporating into strategic decision making, and then building a marketing plan that supports strategy and targets groups that tend to be the most profitable?

      ~ Jeff