16 minute read 4 Aug 2020
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How COVID-19 is accelerating banks’ cost transformation programs

Authors
Jan Bellens

EY Global Banking & Capital Markets Sector Leader

Passionate leader on innovation in financial services, especially in emerging markets. Global citizen. Keen traveler.

Dai Bedford

EY Global Banking & Capital Markets Consulting Leader

Transformation leader. Talent developer. Family man. Welsh rugby fan.

Contributors
16 minute read 4 Aug 2020

Banks must be agile in managing costs in the pandemic recovery period. If not, the financial repercussions could hit their long-term value.

The effects of COVID-19 are being felt across the banking industry, with each institution’s operating models, business plans and growth strategies completely changed. Beyond immediate concerns for staff and customer well-being, banks are keenly aware of the impact this is having on business continuity and long-term value creation. Banks that effectively address this volatility – recognizing the need to adapt quickly – may have an opportunity to come out ahead of their competitors.

Nonetheless, banks face a period of weak investment returns, which, coupled with market uncertainty, could affect their capital positions. The impact of the COVID-19 crisis represents half of the expected credit loss expense that European banks reported in Q1 2020, with an average of €700m. In the US, banks reported significant increases in their credit loss allowances, with three major banks recently stating that they put aside a total of $25b in Q2 2020.

Forbearance programs and cheap state-backed loans are keeping businesses and households buoyant, meaning that recognition of impaired loans could be delayed for several quarters, potentially into 2021. Additionally, negative or close to zero interest rates, coupled with a sustained economic slowdown, will also weigh on banks’ revenues and lead to an increase in credit risk.

To emerge from the crisis intact, banks must use this period as an opportunity to accelerate transformation agendas and develop new business models. Crucial to this change is a much-needed focus on how to achieve substantial, yet sustainable, cost reduction and workforce productivity improvement. Banks need to address the strategic, structural, and operational drivers of cost to achieve this effectively. For example, banks must consider the impact that multiple client segments, products, geographies, and distribution channels have on their cost base and revaluate their strategies in light of COVID-19

Along with this, the crisis is causing banks to revisit their assessments of core and noncore assets. As a result, banks are increasingly considering divestment opportunities, with 60% of banks saying they plan to divest in the next 12 months – up from 46% pre-crisis. Divestment will play a greater role in how banks think about the type of organization they want to be in the future and how easy it will be to execute that transformation.

The rise in the adoption of digital banking products and solutions by customers during lockdowns has propelled financial organizations to expedite their digital transformation agendas. Banks’ current remote working policies provide an opportunity for leaders to reimagine how a distributed workforce could operate in the long term and what cost implications this approach could have. And for many, the crisis has highlighted banks’ reliance on third-party operators – both their flaws and benefits. When effective, managed services are a valid way for banks to rely on trusted partners to help improve technology systems and alleviate the burden of back-office systems and processes.

The rise in the adoption of digital banking products and solutions by customers during lockdowns has propelled financial organizations to expedite their digital transformation agendas. Banks’ current remote working policies provide an opportunity for leaders to reimagine how a distributed workforce could operate in the long term and what cost implications this approach could have. And for many, the crisis has highlighted banks’ reliance on third-party operators – both their flaws and benefits. When effective, managed services are a valid way for banks to rely on trusted partners to help improve technology systems and alleviate the burden of back-office systems and processes.

Overall, banks need to carefully consider how their cost transformation programs can work in harmony with the new challenges of the COVID-19 crisis – as well as those of the future.

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Chapter 1

The office of the future

Banks are considering their real estate footprint and ways to reduce associated workplace costs.

Many banks in markets around the world are operating with a distributed workforce, with staff working from their living rooms, basements and bedrooms. However, with government restrictions beginning to ease across the worst-affected countries, banking leaders are considering the shape of their workforce in a COVID-19 world. Banks’ real estate footprint is central to these discussions.

Social distancing restrictions – likely to stay in place in many countries for some time – mean that, even if banks decide to gradually bring their staff back to the office, they will need a lot more office space because employee density will be much lower. On top of this, banks with large offices in cities like New York or London not only must consider the feasibility of thousands of employees returning to work, but also issues concerning the use of public transport and potentially longer commute times for employees. With no cure in sight, this raises a host of financial, health, safety, and employee well-being challenges for banks. "CFOs are paying particular attention to employment-related costs during this period. They know they may need to enhance wellness, mental health, and learning and development budgets,” says Jan Bellens, EY Global Banking & Capital Markets Sector Leader.

In addition to returning to the office, banks must also coordinate the reopening of local branches in line with local government guidelines and advice. Safety measures, including face masks, temperature checks, one-way corridors and designated desks, are some of the ways in which banks are expected to ensure employee and customer health and well-being.

CFOs are paying particular attention to employment-related costs during this period. They know they may need to enhance wellness, mental health, and learning and development budgets.
Jan Bellens
EY Global Banking & Capital Markets Sector Leader

At the same time, remote working has been surprisingly effective. As a result, banks are seriously considering ways to reduce their real estate footprint. However, they first must grapple with the feasibility and financial cost of exiting prime office space. Firms with leased premises may find it difficult to break their contracts and exit without substantial payments. And, crucially, banks need to still cater to staff who do not want to work from home or find working from home challenging. Banks that do not focus on these employees could be at a competitive disadvantage when attracting future talent – compared to other, more flexible organizations that may offer a hybrid working approach.

Away from large cities, some banks are beginning to look at establishing a number of cheaper suburban or regional offices that are closer to peoples’ homes. This could result in shorter commute times and a reduction in employees’ carbon footprint. Studies show that in early April, daily global CO2 emissions decreased by 17% compared with mean 2019 levels, with just under half of this total resulting from changes in transport.¹

Should banks pursue this lower-cost option, the question of employee talent pools will also begin to emerge. Banks that historically required workers to live in, or close to, high-cost cities could have an opportunity to allow people to work from places with a lower cost of living, potentially reducing labor costs via lower salary requirements.

The key to success in any future scenario is really understanding the individual needs of each employee and matching those with the needs of the bank.

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Chapter 2

Digital transformation: putting customers first

COVID-19 has accelerated the use of digital banking services. Could this be a tipping point?

COVID-19 has radically changed consumer behavior – for both retail and corporate banking clients – and has acted as a catalyst to increase the use of digital banking. In our recent EY Future Consumer Index, 62% of respondents said they will use less cash in the future, and 59% expect to use more contactless payments. Bank branch closures, in particular, have propelled the use of digital products and services – accelerating banks’ digital and technology transformation programs.

Digital adoption rates among small and mid-size enterprises (SMEs) have also increased – for one bank in Singapore, the number of new digital accounts increased 2.4 times in Q1 2020, compared to the same period in 2019. The same bank also saw the number of SME digital loan applications rise 49%, up from 30% in 2019.

At a time when banks’ margins are low, digital tools can unlock cost savings that will prove essential to surviving a period of economic uncertainty. And banks are also focused on digital enablement internally – specifically how to digitize traditional manual processes to match growing demand, which, in turn, enables cost reduction. Intelligent automation and advanced analytics can create efficiencies, but also offer banks much-needed scalability to optimize processes. What cannot be automated should be reengineered and digitized.

It’s not just a question of automating processes to drive banks’ cost transformation agendas; it’s about looking at sustained digital adoption.
Dai Bedford
EY Global Banking & Capital Markets Consulting Leader

To match customers’ digital expectations, banks are making substantial improvements to their user experience (UX) design to offer a more seamless and intuitive customer experience. Banks’ digital product distribution strategies are front of mind for banking leaders who acknowledge, that to sustain current digital adoption rates, they must improve the appeal and ease of banking online.

Banks are aware that to successfully align with all of their customers’ preferences and expectations, they must provide a balance between digital and human interaction. COVID-19 has forced customers to change how they bank. But, to maintain customer satisfaction levels across the board, banks must consider that some customers may want to return to traditional services, where they expect or prefer a higher degree of human support. “It’s not just a question of automating processes to drive banks’ cost transformation agendas; it’s about looking at sustained digital adoption,” says Dai Bedford, EY Global Banking & Capital Markets Consulting Leader.

For example, in April 2020, Lloyds Banking Group decided to equip up to 2,000 customers over the age of 70 with free tablet devices, and set up a dedicated phone line to provide training and support to help vulnerable customers access online banking.²

To go further in achieving this balance, banks should consider integrating customers’ financial well-being into their cost transformation programs. Increasingly, customers’ use of digital banking products and services will align to other aspects of their lives, such as health and wellness, enabling a whole new industry that revolves around ecosystem partnerships. A broader set of products and services may even drive the adoption of some subscription-based models in banking.

Our long-held belief that subscription models in banking would become a reality is now gaining traction. Banks are experiencing an acceleration to membership models as a direct result of COVID-19. Our latest research draws on emotional connection data, which shows that, to truly connect with and gain the trust of customers in a fully digital world, banks must evolve in a similar fashion to e-commerce giants. By adopting the best of their practices and customer-centric solutions, banks can build out a set of fully connected ecosystem experiences and value propositions for their customers.

Indeed, our Index found that over a quarter of respondents said they would be willing to pay a premium for products that promote well-being. Overall, banks that drive their cost transformation programs in a customer-centric way will be the ones that succeed in permanently shifting how customers’ banking needs are met and fulfilled.

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Chapter 3

Managed services: a cost-effective solution

COVID-19 is presenting unprecedented challenges to banks’ operational resilience and business-continuity plans. Managed services can help.

COVID-19 has fundamentally inverted the historical assumptions banks use to set up their operating models and organizational structure – placing particular pressure on banks’ back-office functions. The pace of change affecting tax and finance operations means that banks cannot afford to postpone transforming these functions if they want to boost operational resilience and create greater value for their organizations.

However, even before the pandemic, banks’ back-office operations were already in the crosshairs of cost management. Banking executives recognized that there is no real competitive advantage for being the best as a back-office and, as a result, many banks were beginning to manage these costs more vigorously.

COVID-19 has shown the degree of supply chain and third-party risk that many banks have. This means conversations around operational resilience versus cost are going to become more prevalent.
Karl Meekings
EY Global Banking & Capital Markets Lead Analyst

Deploying managed services offers banks an opportunity to reduce operating expenses in the long term and is a major talking point among bank leaders at present. It is a topic that is currently drawing a broad range of views, depending on banks’ experience of third-party operators during the pandemic.

Nonetheless, COVID-19 is likely to serve as a major tipping point for banks to lean more toward managed services, with banks revisiting their decisions on what can and should be nearshored/offshored or outsourced. Managed services are, in effect, banks’ business continuity plan – and their potential benefits are not going unnoticed by the banks, their customers, or regulators.

In a crisis, maintaining the stability of the banking system is in the interest of all stakeholders. Managed services’ providers that have the right secure technology platforms, with multi-access pipes pre-built to receive data from different sources from a bank’s wider business ecosystem, can be vital cost-saving and continuity-enabling channels.

In today’s COVID-19 environment, it is crucial that banks take the right steps now to ensure the success of their cost transformation programs for the future.

  • Show article references#Hide article references

    1. ICOS, Supplementary data: Temporary reduction in daily global CO2 emissions during the COVID-19 forced confinement, June 2020
    2. Lloyds Banking Group, Lloyds Banking Group teams up with We Are Digital, The Silver Line and Mental Health UK to offer practical and emotional support for the most vulnerable in society during the coronavirus crisis, April 2020

Summary

The COVID-19 crisis should be seen as a catalyst for banks’ cost transformation programs. There are numerous short- and long-term implications and their impact means banks need greater renewed focus on strengthening the banking ecosystem. To succeed, they must meet the demands of new ways of working, push forward digital transformation agendas, and strengthen their relationships with trusted partners.

About this article

Authors
Jan Bellens

EY Global Banking & Capital Markets Sector Leader

Passionate leader on innovation in financial services, especially in emerging markets. Global citizen. Keen traveler.

Dai Bedford

EY Global Banking & Capital Markets Consulting Leader

Transformation leader. Talent developer. Family man. Welsh rugby fan.

Contributors