See the 21st Century Now: Look at Financial Services

Tom Peters

Are you in the steel business? Hotels? Anxious about what happens when information technology reaches its wild and wooly potential? Study the banking industry and read the just-published Technology in Banking, by McKinsey & Company consultants Tom Steiner and Diogo Teixeira.

Banking used to be a cozy, regulated game. Banks were all things to all people; profits were pretty much assured. Then in the early 1980s came deregulation. Next, new technologies. With computer power growing between 25 and 40 percent a year, the systems side of the banking business is reshaping the industry.

“Banking products,” the authors note, “are simply information combined in new ways, so with hundredfold increases in the amount of information available, it is not surprising that there are a lot of new products.” This product flood transformed bank balance sheets: Service fees, or “non-interest income,” (income not generated by loans), soared in the ’80s, especially at big banks that created products to maximize information-processing economies of scale. Non-interest income at Bankers Trust ($56 billion in assets), for instance, shot from 32 to 64 percent of total income between 1980 and 1988.

Deregulation and the new technologies also caused specialization and disaggregation on a grand scale. Banking’s traditional “make-make-make approach,” as Steiner and Teixeira call it, is now history. Consider Manufacturers Hanover Corporation’s credit card business: In 1987 it was fifth biggest in the country, with 3.4 million accounts and a $2.5 billion asset portfolio; MHC also processed $2.5 billion yearly in credit-card sales drafts for merchants. Then MHC sold its merchant-support business to Fort Lauderdale’s NaBanco, a specialized data-processing company. Next it peddled credit-card processing operations to another non-bank specialist, First Data Resources. Finally MHC “securitized” (turned assets into tradable commercial instruments) and sold $475 million of its credit card receivables. “The result,” the authors write, “has been to create credit card transactions that are captured by others, routed to MHC via others, processed by others, and the balances of which may ultimately belong to others. MHC retains the customer servicing, collection responsibility, and authority over all credit decisions.”

Banks today aim at narrow markets where they can be truly distinct. Take First Wachovia of Winston-Salem, N.C., which has become the country’s second largest processor of student loans. “Student lending is extremely complex,” Steiner and Teixeira observe, “because each state has different rules for each type of student. A medical education loan is different from a liberal arts education loan, which is different from a truck driving school loan. … First Wachovia has developed proprietary software to track student loans and deliver the required servicing.” First Wachovia generates $5 million profit on approximately $23 million in annual revenue from this specialty.

The authors offer many other examples of effectively “focused” (their favorite word) strategies. State Street Boston Corporation is no longer really a bank, but a data processing company (“a computerized record-keeping and accounting business”); the $7 billion (assets) institution dumped 90 percent of its branches and aimed instead to become a force in the “custodial” business, performing intricate record-keeping for the securities industry. State Street now handles 10 percent of the world’s securities transactions ($625 billion), collaring a 36 percent return on equity.

The value of specializing/focusing is staggering: The stock market value of non-bank American Express’s Green Card alone exceeds the combined stock market value of huge Chemical Bank, Chase Manhattan,and Manufacturers Hanover. In fact, the rise of non-banks is as dramatic as the dismemberment of the banks themselves. The authors project a thoroughly specialized financial services environment. Smaller banks will be mainly “retailers” serving the local customer directly; big banks will become “manufacturers and wholesalers;” and non-banks will be the “production subcontractors.”

Information technology systems offer “the most leverage to dominate (one of the roughly 150) lines of (banking) business,” Steiner and Teixeira contend. Competition in the industry now centers on individual products (for example, student loan processing services), rather than across the board, bank versus bank rivalry. Bank strategy amounts to deciding precisely where to strike, then designing the appropriate supporting technology systems.

Banking’s saga is every industry’s saga. Financial services lead by 10 years because of the central role information, by definition, plays in the industry. (And even here, only 10 percent of the industry’s transactions have been automated.) Disaggregation, specialization, the onslaught of new outsiders, and unexpected new bases for competitive advantage (especially via clever information packaging) are dramatically altering the global commercial landscape. If you want to see in 1990 a clear snapshot of the year 2000 in your industry, digest Technology in Banking—and begin your search now for the unconventional new strategies and products that will separate tomorrow’s winners and losers.