F I N A N C I A L S E RV I C E S Banking on Innovation? The challenge for retail banks A DV I S O RY “We are always saying to ourselves... we have to innovate. We’ve got to come ” up with that breakthrough. Bill Gates, Chairman, Microsoft Corporation Banking on innovation? 1 Contents Foreword 3 The real challenge facing retail banking 5 Innovation in retail banking 9 Payment systems: innovation in practice 1 1 The inside view: could do better 13 Self-assessment 13 Attitudes to the role of innovation 13 Innovation expenditure and evaluation 14 Innovation portfolio 14 Organisation and process 15 Barriers to innovation 15 Rising to the challenge 17 Recognising the need to improve 17 Key innovation capabilities 17 Learning how to innovate better 19 Appendix 1 22 Appendix 2 24 2 Banking on innovation? “Innovation is the central ” issue in economic prosperity. Michael Porter, Bishop William Lawrence University Professor, Harvard Business School Banking on innovation? 3 Foreword Retail banking is under increasing pressure. Competition is tough, margins are being squeezed, new entrants and new business models are threatening established providers, and regulatory requirements continue to grow. The banks which grow and prosper will be those that can profitably develop new products, services and channels to market. Innovation will increasingly be the key to success. It is commonly said that retail banks Innovaro Ltd1 undertook a joint review What is very clear is that retail banks are poor at innovation. This is not to assess the state of innovation in are, in the main, well behind the game entirely fair. A lot of innovation does retail banking and its potential to in the way they manage the innovation occur in the sector. But much of it is enable the sector to rise to the process. Other industry sectors have a not classified as such, and is hidden challenges of the future. This report great deal to teach them about how to from view; and much of it focuses on represents a synthesis of conclusions implement a structured innovation new processes and ways of doing from day-to-day external client management and delivery process. business, rather than on the classical experiences and KPMG and Innovaro development of new technology and insights in this area. products. KPMG LLP (UK) and We believe that the most successful retail banks of the future will be those which take these lessons to heart and act on them. 1 Innovaro Ltd is a leading innovation consulting and research firm 4 Banking on innovation? Banking on innovation? 5 The real challenge facing retail banking Most, if not all, senior executives in retail banking would probably claim that they understood the challenges facing the industry. In a sense, they would be right. The challenges of structural change, increasing regulation, tough competition and more demanding customer expectations are routinely expounded (see Appendix 1). But in a more profound sense, these executives would be wrong. They do not — and cannot — understand the most significant challenges facing their business, because the genuinely threatening developments are those which are unexpected and unpredictable. The lesson from a wide range of • Within little more than five years, management technology, complex industries and markets is that the truly digital photography has largely variable pricing models and threatening challenges — those which destroyed the mass market for direct-sales channels to become a have the potential to destroy existing traditional film; it is likely that use major competitor to traditional businesses — are those which result of film will shortly become limited airlines in little over five years. from disruptive innovations, whether to a tiny minority of professionals, The airline’s holding company, these focus on new technology, new specialists and diehards. In 2004, easyGroup, has extended similar business processes or completely new Kodak effectively withdrew from business models into markets such business models. These challenges fall the film camera market. Nikon has as car rental, cinemas and hotels. outside the boundaries of familiar, ceased production of all but one or incremental change, and are often two models of film camera. Konica impossible to foresee until it is too Minolta has withdrawn from the late. The victims are those who never film market completely. AgfaPhoto saw it coming. went into liquidation in 2005. High street photo-processors are Three recent examples are: struggling to offset the collapse in • The traditional recorded music film sales by providing digital industry has been turned upside processing and printing services. down by the consequences of • The passenger airline industry has digital downloading. Sales of CDs been transformed by the rise of are declining precipitously. In July ‘low-cost’ carriers such as , 2007 the American artist Prince Southwest Airlines in the US and actually gave away a million copies Ryanair in Europe: Southwest is of his latest recording in association now the largest airline in the with a British Sunday newspaper. country in terms of passenger , In September 2007 the British numbers carried, while Ryanair is band Radiohead announced that the third largest European carrier they were making their latest on the same basis. Alongside album available for download on conventional strict cost control and the basis that fans could decide ‘no-frills’ service, Ryanair has how much to pay for it — or pioneered an innovative business alternatively download it free of model of virtually giving tickets charge. The conventional business away and making money from model, where live performance in-flight sales and extra charges, served to promote album sales, and from subsidies from airports has been reversed, with musicians the company agrees to fly into. having to revert increasingly to Its rival low-cost carrier, easyJet, touring to generate revenue. has exploited sophisticated yield 6 Banking on innovation? To date, retail banking has avoided To be sure, the substantial and Sustainable competitive advantage such disruptive shocks. But online increasing regulatory burden on the depends on a number of factors. banking has already transformed retail banking sector constitutes a But one of the clearest conclusions customer channels. Non-traditional significant barrier to entry. Companies to be drawn from studying the most banking providers such as large unwilling to submit to the necessary successful companies is that those retailers or utility companies are taking scrutiny, or unable to implement which sustain the highest share price a growing share of the market. New cost-effective compliance systems, are those which are the most payment technologies threaten will be deterred from entering the consistently innovative3. In a virtuous conventional cash transactions. market, especially in an environment circle, innovation underpins success of soft margins and cost pressures. and success generates innovation. A more radical entrant to the UK Both large multinational banks and In retail banking, as in other sectors, market, Zopa, offers a new business specialist niche providers are likely meeting the real challenges of the model based on peer-to-peer ‘social to continue to dominate the market. future will depend on constant and lending’, where an online marketplace intensive innovation in products, allows lenders and borrowers to be But who dares bet against a truly services and processes. matched, by-passing banks completely. disruptive new technology or business As yet, the sums involved are small. model? Customer inertia is perhaps Most banks are currently striving to But already the model is being copied the only significant constraint on retail achieve operational excellence and internationally, for example by Prosper banks losing their grip on their improved efficiency. Hence sustained in the US, Smava in Germany and markets, so the potential for dramatic competitive positioning will be attained Boober in the Netherlands. Whether change is ever-present. by those which secure long term social lending has the potential to pose Disintermediation between lenders customer loyalty by delivering a serious challenge to the conventional and borrowers, dynamically-variable attractive and compelling products retail banking sector is unclear. But as loan pricing, real-time clearance… and services tailored to the What Investment commented: ‘No who can predict what might be over customers needs. banks in the middle, no huge the horizon? Some idea of the wide overheads, no unethical investments potential for such disruption can be — Zopa could permanently change gained from reviewing the range of the way people save and invest current issues and trends in the their money.’2 industry (see Appendix 2). 2 What Investment, Product of the month, August 2006 3 Innovation Leaders, http://www.innovationleaders.org “No banks in the middle, no huge overheads, no unethical investments – Zopa could permanently change the way people save and invest ” their money. What Investment, Product of the month, August 2006 8 Banking on innovation? Banking on innovation? 9 Innovation in retail banking It is commonly said, both within and outside the sector, that retail banks are especially poor at innovation. A typical comment is from The Banker: “Banks are abysmal at innovation. 4 ” Similarly, Kathleen Khirallah, Director at Tower Group says: “Retail banking has traditionally ” been a place where the road to innovation is blocked by numerous barriers. 5 Banks rarely feature in league tables of the most innovative companies. In many ways this is to be expected. customer interactions and in facilitating more efficiently, designing new Banks’ traditional, and appropriate, outsourcing, off-shoring and similar financial instruments and new trading prudence can easily be expressed as cost management strategies. programmes” are not innovation, he conservatism. Stringent regulation says. Naturally the bankers disagree.’6 militates against risk-taking and Balancing the innovation mix imposes caution in the process of developing and implementing new ideas. Softer pressure from regulators, Business Model Innovation Management Innovation such as the Financial Services Authority’s Treating Customers Fairly 2015 Product principle, discourages the launch of radical new products and drives convergence to a norm. 2012 But it’s not as simple as that. To begin with, some banking sectors, at least, are characterised by constant, creative Process product innovation: witness the 2010 proliferation of derivatives and structured finance products in investment banking in recent years. And in retail banking itself, consumer 2008 channels have been revolutionised in Service recent years by the internet, both in terms of on-line banking with traditional banks and through the Future Growth launch of internet-only banks such as Smile (a division of the Co-operative Bank) and Egg (formerly a division of Prudential and now part of Citigroup) On the other side of the argument, To some extent, it’s simply a matter of in the UK. Eric von Hippel, Head of the Innovation definition. Innovation is a particularly and Entrepreneurship Group at MIT slippery concept. What to one Systems and process innovations have Sloan School of Management observer may look radical and new been equally important over recent ‘disparages what investment bankers may to another seem simply an years in transforming banks’ back applaud as innovation: “automating incremental development of existing office functions, in streamlining systems they’ve got, processing loans products or processes. There are 4 The Banker, 5 February 2007 5 “Opening the Flood Gates of Retail Bank Product Innovation: Technology Drivers to Realize the Future” Tower Group, June 2005 , 6 The Banker, ibid 10 Banking on innovation? structural difficulties too. The traditional An innovative organisation requires knowledgeable, empowered teams to paradigm of innovation is that it is drive idea progression, supported by appropriate metrics product- or technology-focused, and emerges from a dedicated group doing what is termed research and sign development. But research and De Le development (R&D), as formally tion ad isa defined, often excludes the kind of ers an hip software and process development on Org which banking innovation frequently depends: ‘The Frascati Manual only Structure Ambition acknowledges software development Culture Governance that represents a “scientific and technological advance” as R&D and hence as innovation.’ So much innovation in retail banking is ‘hidden innovation’.7 The use of existing Metrics Resource software for a new application or Rewards Learning Perf purpose, for example, is not orm considered to be an investment in y ilit an innovation — despite the central role eM ab c p that this software might play in an age Ca providing an innovative new service m ent such as internet banking. 7 Hidden Innovation: How innovation happens in six ‘low innovation’ sectors, NESTA (the National Endowment for Science, Technology and the Arts), June 2007 Banking on innovation? 11 The trick, then, is to identify and shop online, most using their online now be used at a wide range of assess innovation in retail banking on bank account to make payments or stores, restaurants and other retail its own terms, unencumbered by transfers. For the first time, the outlets. Since the launch of London semantic or definitional distortion. number of adults using internet Underground’s similar Oyster card in One fundamental characteristic banking exceeds those using 2003, over 10 million have been emerges: retail banking innovation telephone banking. issued, and 5 million are in regular is as much about process as about use.9 Contactless payment technology product, although where the Other process innovations have had is now being extended to regular product is as intangible as most a more mixed reception. The payment cards for small retail financial services, the distinction development of new, automated, transactions of £10 or less, with Visa’s between product and process can integrated back-office systems has ‘payWave’ system in Europe; be quite blurred. allowed banks to outsource and customers will simply hold their offshore routine administration and contactless card up to a secure reader Nevertheless, it is fair to say that retail customer service functions. At the to make their payment. In the UK, banking innovation mainly focuses on same time, centralisation of Barclays Bank’s OnePulse card, how products and services are transaction processing — and of such , launched in autumn 2007 combines delivered to the customer, how the core operations as credit risk a credit card, cashless payment and customer interaction is managed and assessment and sanctioning — has Oyster travel card in one product. how back-office operations are carried reduced the role of the local branch Payment by mobile phone using similar out, rather than on the development of and led to a raft of branch closures. near-field communication technology radically new retail financial products. There are now clear signs that the is already entering the market, Most new products are incremental consumer resents the consequent and is likely to take off rapidly in developments of a small range of adverse impact on service, with the near future. fundamental offerings: loans, leading retail banks now stressing local mortgages, savings etc. accessibility and re-focusing on the Other payment system innovations branch network. with significant potential include: As far as the consumer is concerned, • The VeriChip Corporation has the most visible process innovations Payment systems: innovation in practice developed the first human- of recent years have been those implantable RFID microchip to be exploiting internet technology to allow licensed by the US Food and Drug a rapid increase in on-line banking Most examples of retail banking innovation occupy the blurred region , Administration. In May 2007 the transactions. In the UK, recent figures Financial Times reported that a from APACS, the UK payments between process and product. An area where process and product group of clubbers in Barcelona had association,8 show that: opted to have VeriChip implants. developments have combined to produce genuine innovation in retail ‘When they want to buy a drink, • almost half (48 per cent) of internet banking is that of payment methods. they simply wave their techno- users now bank online From cheques to credit cards, enabled arms across the counter.’10 • online banking users have almost debit cards, chip-and-pin and now • The Vodafone-Citigroup joint doubled since 2002 contactless payment systems, venture offering a global money how consumers transact purchases transfer service using SMS text • younger age groups make up the is being revolutionised. Cash is messaging won the Banker greatest proportion of new users increasingly marginalised. particularly magazine’s New Payment Systems as many retailers are now beginning Innovation award in July 2007. The figures show that 16.9 million to refuse to accept cheques. adults — over a third of the adult population — now bank online, with But beyond such examples, where is It is already ten years since Hong Kong sustained innovation in retail banking two-thirds of online current account introduced the Octopus card, a coming from? How do bankers holders now going online at least once contactless stored value smart card. themselves rate their innovation a week. The great majority — 90 per Originally designed for payment on the performance? How great is the cent — of internet banking users also city’s public transport system, it can challenge they face? 8 APACS, Press release, 28 December 2006 9 The Guardian, 13 March 2006 10 Financial Times, 18 May 2007 12 Banking on innovation? Banking on innovation? 13 The inside view: could do better In order to research the views of retail bankers on innovation in their companies, and to assess how their innovation performance measured up against the best-performing companies, KPMG and Innovaro mounted a joint review. This involved structured face-to-face interviews with senior executives — CEOs, and CXOs in Strategy, Marketing and Innovation roles — of UK, American, Dutch and Irish banks. All were global companies, with a or the sector as a whole, very highly. Attitudes to the role of innovation global perspective being obtained on a Outside financial services, companies broad range of topics: such as Apple were seen as exemplars Attitudes to the role of innovation • assessment of current capability of product innovation; Toyota was seen varied between companies. Some saw as a leading process innovator; and it clearly, and simply, as implementing • the role of innovation Ryanair was picked out for its business new ideas to generate growth and • levels of investment and evaluation model innovation. In FMCG and profits. Others, explicitly focused on of results retailing, Unilever and Tesco were putting the customer at the heart of mentioned as having a good grasp of the business, were principally • innovation portfolio customer needs. concerned about customer • innovation structure and process relationships, and saw innovation as • barriers to innovation Overall, the banks surveyed rated producing new or better ways to themselves only between average and satisfy customer needs in detailed good on the innovation scale. Some aspects of product, process and In summary, respondents recognised felt they were at the leading edge in service, rather than searching for a the importance of innovation to their individual areas, with pockets of radically new ‘silver bullet’. future business development, while innovation; others that they were only acknowledging their comparatively average or worse. Specific examples of All interviewees considered that they poor innovation performance at innovation identified elsewhere in the were using customer insight to make the moment. financial services sector included new better business decisions. Most had a payment methods such as contactless Customer Insight team in place or Self-assessment payment (discussed above) and used insight systematically to develop internet/telephone banks such as new product and service offers, All interviewees rated their strategic First Direct and Egg. A significant through techniques such as focus focus on innovation from medium to feature was that US companies (Bank groups, data mining, customer tests, high, with most of the banks stating of America, Washington Mutual, Wells lead user panels. that it was firmly on senior executives’ Fargo, Wachovia etc) were in general agendas. There has been an increased seen as more innovative than Some interviewees took a broader focus recently on innovation and the British ones. view, regarding innovation as part it can play. For some, clear developing combinations of new themes were being used to drive The banks are starting to use a number systems, processes and innovation such as simplicity and of ways to ‘import’ better innovation communications, and business accessibility. But some questioned thinking into their businesses – they model innovations, as well as tools whether the message had yet been are using external consultants; to help staff find solutions to heard by all employees, and whether benchmarking performance against customer problems. they knew how to contribute. other sectors; formally exchanging learnings with exemplar organisations; By contrast, retail banking executives and actively recruiting talent from did not rate the innovation outside of the sector. performance of their own business, 14 Banking on innovation? Innovation expenditure and there was a clear expectation of a Innovation portfolio evaluation return on investment for the new business ventures. Interviewees were asked where their There was an overwhelming view that main current innovation focus lay, spend on innovation was increasing, Very few were using formal innovation whether on product/service (ie visible although few accounted for innovation metrics to measure value/return. to the consumer) or on process (ie spend separately (see the discussion Some were incorporating innovation largely invisible), and whether about definition earlier). Spend on metrics in a balanced scorecard (e.g. incremental or fundamental change insight and product development were percentage of business from products was the target. Although it was generally categorised as marketing, launched within last three years). difficult to derive specific figures, and spend on process improvements Others were using operational metrics there was a general view (see generally came under the heading of to gauge the success of some diagram) that the focus had shifted IT. Those that did account separately innovation initiatives (e.g. what away from cost-driven process did this in the form of a venture fund percentage of customers feel valued at improvement to improving the with a specific investment capacity. the counter, what percentage would customer experience; albeit that the make a repeat purchase, what majority of effort was focused on Expenditure on innovation was not percentage would recommend us to a incremental improvement. usually linked to any form of growth friend). However compared to best-in target, although in some cases class innovators, the use of metrics was limited. Banking on innovation? 15 Breakthroughs Fundamental Offset mortgage Change Next Generation Platforms Product Changes Improved Ave 30% Production Hybrids & Derivatives Small Modification Ave 70% On-line banking Small Improved Fundamental Modification Production Change Process Changes Organisation and process Barriers to innovation Three main models for managing All interviewees identified barriers to innovation were apparent: effective innovation in their companies. • small, central innovation team with a clear brief to work with Three in particular were often business units mentioned: • innovation clearly part of the • regulatory and compliance ‘day job’ constraints • innovation activities vested in • cultural constraints: silo mentality, the marketing/insight/new cautiousness and bureaucracy product development teams • short-termism. Innovation processes used by the Nevertheless, there was a clear view different companies varied from being that innovation would be a major ‘quite loose’ to ‘a formal stage gate contributor to business performance in process’. Idea generation tended not future, especially in the areas of new to be formalised, and was heavily products and new business models. ‘product owner’ based, Unsurprisingly, Given the generally lukewarm the result is a focus on short-term assessments of current performance, incremental innovation. there is an obvious corollary that retail banks need to raise their game — and All respondents were struggling with recognise this. the question of how to (whether to) ‘roll out’ innovation and make it part of the corporate culture or DNA. 16 Banking on innovation? Banking on innovation? 17 Rising to the challenge Recognising the need to improve We have seen that some innovation is taking place in the retail banking sector, whether or not it is explicitly recognised as such. But we have also seen that senior banking executives judge themselves as lagging behind industry leaders in other sectors, and that the lack of systematic innovation processes is particularly marked in retail banking compared with other sectors. Set against this, it is clear that more effective, rapid and productive innovation strategies will be key to banks’ survival and prosperity as the industry evolves over the next decade. There is evidently a strong desire Key innovation capabilities Collaboration – The most effective among companies in the sector to innovators have a clear understanding improve their innovation performance. From previous Innovaro research it is of their core capabilities, and of their Several banks point to legal and evident that, across multiple sectors, partners, and work together to deliver compliance constraints. However, there are five common capabilities that innovative products and services. these have not been a barrier to innovation leaders clearly possess and They adopt formal open innovation innovation in other heavily regulated exploit: approaches and exploit technology sectors, such as pharmaceuticals, scouting. airlines and the food industry. Strategic Focus – The most successful They should not represent and innovative companies in other Process – They use simple, insurmountable obstacles to sectors have a clear focus on the role yet effective, pipeline/portfolio implementing a more effective of innovation within their markets and approaches to conceiving, qualifying, innovation strategy. the contribution that innovation makes developing and then quickly launching to the business. They clearly recognise new products and services. The senior executives interviewed the need to define innovation strategy recognise their companies’ in such a way that it becomes an Organisation – In the most successful shortcomings, especially in the light of integral part of business strategy, companies, roles, responsibilities and increasing challenges facing them in and is understandable and culture all support innovation, the future. But they are less clear on implementable by all in the business. while appropriate metrics are used how to overcome them. This is where to measure and reward successful an appreciation of best practice in Insight – Innovation leaders innovation. other sectors, supplemented by the demonstrate an excellent lessons of successful implementation understanding of their marketplace It is clear from the conclusions of innovation strategies elsewhere, and customers, and an ability to outlined earlier, that retails banks have can be most valuable. configure products and services quite a way to go to match the best around emerging needs. They have examples in other industries. access to a full range of insight techniques, including not just quantitative and data-orientated methodology but also qualitative approaches such as ethnography, personas, semiotics etc. 18 Banking on innovation? Issues for the innovation leader Do we have a clear focus on the role innovation can play in retail banking and the contribution that innovation can make to our company? How well do we understand our marketplace and customers, and how well are we able to configure products and services around emerging needs? Do we have a clear understanding of our core capabilities and those of our partners, and how well do we work together to deliver innovative products and services? Is our process for developing and launching new products and services simple and effective? Do roles, responsibilities and culture in the company all support innovation; do we have effective metrics to measure and reward successful innovation? Banking on innovation? 19 Learning how to innovate better The most enlightened retail banks recognise that other industry sectors In many other sectors, there is a have a great deal to teach them about growing trend towards a more open how to implement a structured style of learning, with the concept of innovation management and delivery ‘innovation discovery’ becoming process. We believe that the most commonplace — where those successful retail banks of the future companies starting their innovation will be those which take these lessons journey target specific leaders from to heart and act on them. For the rest, which to learn and use various there will be a risk of succumbing to mechanisms to stimulate innovation the profound and unexpected within their own organisation. Some of challenges we have seen hit the banks in our survey are also doing other industries. this, particularly focusing on the general retail and hotel sectors, which clearly suggests a focus on service innovation. And as we have seen, some banks are deliberately looking to external recruitment, consultants and the use of their own non-executive directors to stimulate more effective innovation processes. Effective innovation processes systematically identify, develop and progress ideas from both inside and outside the orgnisation Stimulus Ideation Development Delivery Impact Uncertainty Foresight (5 to 10 yrs) Trends (3 to 5 yrs) Insight (1 to 2 yrs) Predictability Time Innovation Partnerships Innovation Toolkit Innovation Metrics 20 Banking on innovation? Appendices Banking on innovation? 21 22 Banking on innovation? Appendix 1: There are familiar challenges in retail banking… The retail banking sector is under increasing pressure, from regulators, competition, cost pressures and shrinking margins. Structural change: rationalisation Increasing regulation Technology and consolidation Regulation is a major factor in driving The growth in banks’ dependence on Retail banks’ organisational model is both priorities and market trends. IT systems is constant and relentless. undergoing continual change. The last The FSA, Ombudsman, Office of Fair Compliance and core processing have two decades have seen continuous Trading, US Regulators and Banking to take priority, since without these the evolution to segmented distribution by Code Standards Board impose a range bank cannot survive. The challenge will customer type and through multiple of onerous requirements, from Treating increasingly be to maintain and channels, central design of products Customers Fairly to effective business develop alongside these core systems and determination of credit, and controls and prudent balance sheet applications which can add real efficient operations serving a range of management. The regulators are commercial benefit: systems which frontline businesses. Globalisation and themselves scrutinised by consumer provide better information, faster to internationalisation continue to reduce bodies, the Government and by an allow smarter business decisions to be the number of separate banks. often hostile media. The taken; systems which facilitate Middle-ranking banks, in particular, responsibilities of regulators interaction with the customer and the lacking economies of scale, are likely sometimes overlap, and it is at times creation of products for which there is to be squeezed by the large unclear which has jurisdiction. In the unmet demand. multinationals on one side and by major banking centres of the world, small niche providers on the other. regulators are pursuing parallel agendas aimed at improving transparency in financial reporting, preventing money laundering and improving consumer protection. Banking on innovation? 23 Change in customer behaviour Competition and the rise of and expectations non-traditional banks Customers, as in many other Competition is increasing as the consumer sectors, are becoming internet provides ready price increasingly discriminating. The internet comparison, driving margins down; gives them access to vast amounts of the development of efficient third party comparative information, helpfully suppliers enables relatively small consolidated for them by price players to operate efficiently through comparison websites. Customer pooling operations or outsourcing attitudes are fragmenting, with distribution. Securitisation has enabled individual preferences generating businesses to compete with lower scores of niche interest markets. capital requirements. The relatively The ease of price comparison and small number of large banks means simple transfer processes between that decisions on pricing have to be suppliers, reinforced by intense made with a very close assessment competition, means both that brand of the timing and nature of loyalty is declining rapidly and that competitor response. inertia is becoming a much less significant factor in customer retention. …but what about the unfamiliar challenges? 24 Banking on innovation? Appendix 2: Issues and trends in the retail banking industry Issues • Widespread liquidity crisis • EU Directives on Consumer Accountability • Rising interest rates and Credit, Payments and MIFID personal debt levels Increasingly consumer driven • Corporate social responsibility industry and environment • Real questions on whether free in-credit banking will end and the • Internet allows price comparison • Good corporate governance and execution major implications for • Financial transparency competition in banking with • Increasing demand for lower State of the industry Payments increasing in prices and higher quality importance as a source of • Growing long term saving • Very profitable BUT revenue vehicle demand and tax break • Major regulatory challenges to Increasing regulatory environment investments current model for pricing and cross selling • Greater legislation and cost Public image/reputation transparency requirements • Customer demands lower prices • Competition Commission PPI Review • Treating Customers Fairly and for better service Principles Based Regulation • Reduced loyalty • OFT bank charge review • Increasing risk management • Negative public image resulting • Lower margins and increased regulation — specifically Basel II from adverse media competition Trends Retail Banking channel growth Growth of retail strategic alliances Cost Control • Continued diversification of • Banks choose whether they • Outsourcing and off shoring channels available to focus on all aspects of of processing customers – PDA, Online, Distribution, Product Phone and Branch manufacture or IT and Ops • Lean manufacturing and STP • Security issues, anti-money • Some choose to distribute Enhanced customer focus and laundering and instances through IFAs, others to differentiation of fraud outsource aspects of IT • Constant imperative to improve • On demand banking available and Operations customer service and retain when and where the Growth areas client base customer wants • Wealth management is a fast • Development of internet and • New channels lower the barriers growing market as is Premier ease of transfer has resulted in to entry for niche providers for the next tier of customers reduced client loyalty Consumer finance • Savings and Bancassurance • Particular emphasis on service markets are showing through retail branch networks • Low margins due to competition strong growth and 24-hour customer support • Compensating revenues from cross-sale under • Islamic Finance is a fast growing • Resurgence in focus on face-to sub-segment serving affluent face and personal touch regulatory challenge Muslim populations customer care • ‘Sub-prime’ borrowers and resulting higher degree of credit risk kpmg.co.uk Contacts Michael Robinson Partner Financial Services KPMG LLP (UK) Tel: 020 7694 2904 David Sayer Partner Financial Services KPMG LLP (UK) Tel: 020 7311 5404 Ian Pallister Director Innovaro Limited Tel: 020 7866 6184 The information contained herein is of a general nature and is not intended to address the circumstances of any , © 2007 KPMG LLP a UK limited liability partnership, particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no is a subsidiary of KPMG Europe LLP and a member guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the firm of the KPMG network of independent member future. No one should act on such information without appropriate professional advice after a thorough examination firms affiliated with KPMG International, a Swiss of the particular situation. cooperative. All rights reserved. Printed in the United Kingdom.. KPMG and the KPMG logo are registered trademarks of KPMG International, a Swiss cooperative. Designed and produced by KPMG LLP (UK)’s Design Services Publication name: Banking on Innovation? Publication number: 310061 Publication date: November 2007 Printed on recycled material.