Go to any management and board planning meeting these days, and you will seldom find a topic that gets more attention and discussion than increasing fee income.
Banks have done a good job maintaining overall fee income. Since the beginning of 2001, while net margin has reduced by .19 percent, banks increased fees on deposit accounts from .35 percent of assets to .36 percent, and this in the face of the free checking onslaught. The 800-pound gorilla of fee income during this period, of course, was mortgage banking. However, now that every last homeowner has a 4.5 percent fixed rate mortgage, most banks are factoring in 30-40 percent reductions of mortgage banking volume and income.
While banks look for the next big source of non-interest revenue, market forces are at work in the ever-burgeoning area of electronic banking and payment systems, and the impact on banks will be significant. Here’s a fast Gonzo tour of three areas that banks will need to keep close tabs on.
Signature debit… PIN-based debit…. stored value cards… pre-paid debit cards… credit cards. Ask a dozen prognosticators what will happen to volumes for each of these, and you’ll get at least two dozen answers.
There is no doubt that debit transactions are on the fastest growth path. PIN and signature debits combined accounted for 18 billion transactions in 2003, and recent reports from both The Tower Group and Financial Insights estimate that number will increase to roughly 38 billion in 2007. The significant difference in the two reports was in the estimate of transaction mix. Tower predicts equal PIN and signature transactions. Financial Insights, however, estimates that close to 70 percent would be PIN-based. Now, given the lower fees charged for PIN debit, there is a significant amount of money riding on which estimate is right.
Now, let me apply some simplistic Gonzo logic to this question. Here we go:
Um, is this hard to figure out? Markets are rational, so it seems that unless merchants and consumers suddenly turn stupid or start imbibing too much of the funny Kool-Aid, real-time PIN debit makes way too much sense not to prevail.
The impact on this entire issue on bank fee income could very much be a good-news, bad-news scenario. The good news is that by every estimate being published, the increase of debit usage will more than offset fee compression. The bad news is increased PIN debit usage in lieu of writing checks could reduce NSF fee income significantly. Indeed, a recent study by Celent Communications predicted that PIN debit revenue to banks would increase $3 billion by 2007, but that NSF fees due to migration to debit would decline $3.212 billion, netting a loss of $212 million. (Can I hear anybody say “overdraft debit privilege”?)
What is the mandate for banks? First, don’t plan that irrational or punitive price increases will solve the movement to lesser debit income rates. They won’t. Merchants and consumers have feet, lawyers, and a proven willingness to use both.
Second, push usage, usage, usage. If banks can control nothing else, they can control how much usage offsets margin compression.
Cash-back debit and consumer reluctance to pay increased fees have combined to take a toll on ATM volumes. The number of ATMs deployed in the United States increased from 273,000 in 2000 to 471,000 in 2004. At the same time, the average number of transactions per ATM declined from 3,900 to 2,400.
Particularly hit in this decline are off-site ATMs, where the average transactions per month have declined to 1,500. The net effect of this has been a fairly significant consolidation of off-site ATMs to larger operators.
Credit Card Management recently reported that the average ATM switch fee paid by users was $1.70 in combined issuer/acquirer charges. There is no reason to think that the downward trend in usage will change, and less reason to think that markets will allow fees to increase.
The mandate for banks? Be prepared to move fast to remove or relocate unprofitable off-site units, or make sure that they are strategically located to serve internal customers and build loyalty.
And as for the “added value” fee-based transactions ATMs were going to produce? The rich history includes such ideas as tickets (um, failure), stamps (crash), cross-sales (huh?), and bus passes (zzzzzzz). Here’s a free suggestion: ATMs have a lot of room inside. How about having them double as coke machines? I mean, aren’t people always thirsty?
A lot of people in mid-size and community banks will be toasting Bank of America for its movement to free bill payment. Without B of A, we’d all still be sweating and trying to come up with some sort of ROI for the service. Now, everybody can just point out that B of A made the need to be free a no-brainer.
Most of the steam has gone out of the fee-based, Internet banking concept, anyway. Synergistics recently conducted a survey in which 80 percent of respondents said they would not pay for online banking services, and of those who said they might pay a fee, most limited it to a modest set-up charge.
Usage by most accounts grows steadily. Most banks are approaching 35-40 percent Internet banking usage (25-30 percent active) among checking customers, with bill payment approaching 10 percent.
The direct biller option is still trumping bank and other consolidator options, with most estimates showing a 60/40 split in favor of direct biller, proof again that if something gets there first and it’s simple, people will gravitate to it.
Not surprisingly, studies (including one recently completed by Boston Consulting) show that the average customer who is an active Internet banking/bill pay user is twice as profitable and twice as loyal as one who is not. Of course, there are two ways to interpret this data. One is that the most profitable customers were the first to use these services. The second is that getting people to use online banking products makes them more profitable.
It probably doesn’t matter which of these is true, because the mandate is clear: get the 20 percent of your customers who represent the most profit to the bank locked into both services. Make it a top priority for both personal bankers and branch managers and measure progress regularly.
There is a common theme in all three areas. The marketplace will put constant pressure on fees, and fee compression is inevitable. Banks probably can’t do much to change this. What banks can control is increased usage, particularly among high-end customers, that cement relationships. And guess what? That’s the other topic that gets the most attention at the planning meeting we mentioned earlier. How ‘bout that for irony?
-tr