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How Leading Banks Outperform Through Differentiation 2013

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					Financial Services Practice




Breakaway: How Leading Banks
Outperform Through Differentiation
McKinsey Global Banking
Annual Review 2013
Breakaway: How Leading Banks
Outperform Through Differentiation
McKinsey Global Banking
Annual Review 2013
Contents




 Executive Summary                  2




 The “Triple Transformation”        6
 Imperative Is Intensifying




 The Industry’s Transformation:    18
 Early Progress, More to Do




 Leaders’ Breakaway Strategies     27




 Developing a Strategy for         40
 Outperformance: Steps for Banks
 And a Path for the Industry
2                      Breakaway: How Leading Banks Outperform Through Differentiation




    Executive Summary
    New research from McKinsey finds that the global banking
    industry shows some signs of progress in its quest to
    return to sustained health and profitability. The industry
    has improved its capital position; it raised its tier-one
    capital ratio to 12.0 percent in 2012, up from 11.4 percent
    in 2011 and 8.4 percent in 2007. Many banks successfully
    cut costs in the past year, though for the industry as a
    whole, costs have remained essentially flat. Loan-loss
    provisions have returned to historical levels in many
    developed markets. Banks (and governments) have wound
    down a good portion of the assets they had assigned to
    “bad banks.”
 Breakaway: How Leading Banks Outperform Through Differentiation                                                3




                However, these steps have not been              able, value-creating strategies: distinctive
                enough to lift returns. True, industry re-      customer franchise, back-to- basics bank-
                turn on equity (ROE) rose—from 7.9 per-         ing, balance-sheet-light investment special-
                cent in 2011 to 8.6 percent in 2012. But        ist, growth-market leader, and global
                1.6 percentage points of that gain were         at-scale universal. The unity and clarity of
                driven by one-time changes in goodwill          these banks' strategy, and the discipline of
                and improvements in impaired assets.            their execution, have been recognized by
                Year-on-year, in fact, banks’ operational       the markets – the three essential ingredi-
                performance deteriorated.                       ents for outperformance. Remarkably, many
                                                                of these banks are not from emerging mar-
                Why? Banks are contending with a range
                                                                kets but are thriving in highly competitive,
                of forces. The global macroeconomy has
                                                                low-growth regions.
                some bright spots, but growth remains
                muted. Financial globalization has slowed       Their success is reflected in their financial
                and may even be regressing: capital flows       performance. These outperforming banks
                and trade are in retreat, new taxes are         have an ROE of 15 percent (versus 7 per-
                under discussion, and other regulations         cent for the other 410), higher margins,
                are denting banks’ results. Intense com-        and faster revenue growth. They enjoy a
                petition and waves of digital upstarts are      price/book ratio of 2.0, again far superior
                also contributing to what is, all things con-   to the other banks’ 1.0. Differentiation is
                sidered, a fairly cheerless operating envi-     the name of the game.
                ronment. Banks are also responsible;
                                                                Some other banks have strong strategies
                many have not yet made the hard choices
                                                                and disciplined execution, but markets
                needed to turn around performance.
                                                                have not yet noticed. They should stay the
                                                                course. But many other banks, whose
                                                                strategies may have gotten muddled in an
 Many banks will be attracted                                   attempt to be all things to all investors,
                                                                need to change direction. They should first
   to the distinctive customer
                                                                review how the five strategies create value,
franchise strategy, but most of                                 then choose one that fits well with the

  them are unsuited for it and                                  bank’s capabilities and markets. Today’s
                                                                high-performing banks have the advantage
underestimate the challenges.                                   for now but must take steps to consolidate
                                                                their gains. Other banks whose value cre-
                                                                ation stems largely from location in high-
                Yet despite the headwinds, our research         growth markets may need to reconsider
                has identified a number of banks that are       their strategy; several of these markets are
                outperforming. Of the 500 biggest banks in      now slowing. For those banks that are cur-
                the world, 90 have defined—and are suc-         rently not creating value, the choice is
                cessfully executing—one of five distinguish-    somewhat starker. Some are already on
4                                            Breakaway: How Leading Banks Outperform Through Differentiation




                the right path to deliver the combination of       formance. Many customers and
                strategy, execution, and financial results         shareholders crave simplicity. Banks
                needed to win recognition from investors.          that adopt this approach need to es-
                Many others, whose strategies may have             tablish and maintain cost leadership
                gotten muddled in an attempt to be all             and strong risk-management discipline
                things to all stakeholders, need a more            as we head into an even slower growth
                radical course correction.                         environment.

                Our analysis suggests a number of strik-        ■ Balance-sheet-light strategies are
                ing themes that are likely to emerge in the        gaining favor in the context of new
                next several years:                                rules, such as the leverage ratio.
                                                                   Both securities services specialists and
                                                                   wealth/investment banking firms are re-
        Many of today’s winning                                    vamping their propositions – with client-
                                                                   centric solutions, agile technology, and
    growth-market leaders will need a
                                                                   risk distribution at the heart of the offer.
     new strategy as markets mature
                                                                ■ Many of today’s winning growth-
           and growth slows.                                       market leaders will need a new
                                                                   strategy as markets mature and

                ■ Many banks will be attracted to the
                                                                   growth slows. A fortunate few are
                                                                   situated in buoyant markets that will
                  distinctive customer franchise                   likely defy the broader macroeco-
                  strategy, but most of them are un-               nomic slowdown, and they will find
                  suited for it and underestimate the              continued success with this strategy.
                  challenges. Success in this strategy             Others should be on the lookout for a
                  requires innovation in digital banking,          different approach.

                                                                ■ Several banks are attempting the
                  data analytics, and multichannel sales
                  and service, enough to earn premium
                  economics from satisfied, loyal cus-             global at-scale universal strategy,
                  tomers. Investing in these capabilities          but a mere half-dozen are suc-
                  is a high-risk, high-reward bet. Banks           ceeding with it. Success in this strat-
                  that accept this challenge must be dis-          egy depends on exceptional risk
                  ciplined when it comes to cost and risk          management and a mastery of the
                  management; if not, they might get               challenges of managing massive com-
                  stuck in the middle, with higher cost            plexity. The odds are long against sus-
                  structures than the basic banks and              tained success; a few of the global
                  lower revenues than the distinctive-             universals will need to retrench, and
                  customer-franchise banks.                        some may decide to break up.

                ■ A back-to-basics approach is likely           ■ The rise of industry utilities may
                  to be the best strategy for most                 have significant influence on
                  banks to return to sustainable per-              banks’ choice of strategy. A growing
Breakaway: How Leading Banks Outperform Through Differentiation                                                 5




                  number of activities, including some         20 percent of the largest 500 global
                  core banking functions, might be better      banks may be broken up or acquired by
                  placed with new companies that spe-          better performing rivals.
                  cialize in them. The rise of new utilities
                  might help more banks successfully                            ■    ■     ■
                  adopt the back-to-basics approach.
                                                               This report consists of four chapters. In
               To execute the chosen strategy, banks           the first, we discuss the industry’s financial
               will need to draw on the levers relevant to     performance in 2012 and the forces that
               their strategy, a process we outlined in        are keeping it in check. In the second, we
               the 2012 edition of this report, The Triple     review banks’ substantial progress on the
               Transformation. That report proposed a          agenda suggested in The Triple Transfor-
               three-pronged transformation of banks’          mation, and the work still to do.
               economics, business models, and cul-
               ture. If banks execute those transforma-        The third chapter explains our new research
               tions in sufficient numbers, and embrace        on the 90 outperforming banks and the five
               differentiation in strategy, we see a couple    strategies that are powering their results
               of important results. First, the industry       (page 27). The report concludes with a re-
               could return to sustainable economics,          view of the steps that today's outperform-
               with ROE of 12 percent or more, once            ers can take to stay on top, and the more
               again in excess of the cost of equity. But      difficult agenda facing other banks that
               second, in the process of this shift, up to     want to breakaway from the pack.
     6                                                     Breakaway: How Leading Banks Outperform Through Differentiation




                                         The “Triple Transformation”
                                         Imperative Is Intensifying
                                         In some respects, the global banking industry’s 1
                                         performance improved in 2012. But it is still falling short
                                         of the expectations of investors and other stakeholders.
                                         The operating environment is doing the industry no
                                         favors, with uncertain economic and regulatory
                                         conditions and competitive intensity increasing in many
                                         markets. In this context, the “triple transformation”—the
                                         slate of economic, business-model, and cultural changes
                                         we recommended in the 2012 edition of this report—is
1
    In this report, “the banking
    industry” includes deposit-taking    more important than ever.
    and lending institutions and other
    banks whose business is
    concentrated in investment
    management, servicing, and
    processing. It does not include
    pure asset or wealth managers, or
    insurance companies.
                        Breakaway: How Leading Banks Outperform Through Differentiation                                                                                                    7




    Exhibit 1


    Before one-time                       Total global ROE2, 2000 – 2012E
                                          Percent
                                                                                                                                           ROE by region
                                                                                                                                           Percent
    adjustments,                                                                                                                                              ROE 2012      ∆ ROE
                                                                                                                                                                            (2011-2012)
    ROE improved in                           20
                                                                                                                                           Emerging markets
                                                                                              17.3                17.7
    2012, driven by                                                                               16.3
                                                                                                                         16.8
                                                                                                                            Emerging       Latin America               16   -3.0
    North America                             15
                                                                                                                            markets
                                                                                                                                           China                       19   -0.5
                                                                                              13.6
    and the “GIIPS”1                                                                  12.7                                                 Other Emerging             14    -0.3
    countries
                                              10                                                                                           Developed world
                                                                                                                         8.6
                                                                                                                  7.9       Global
                                                                                                                                           North America          8          +0.6
                                                                                                                        5.6
                                                                                                                              Developed
                                               5                                                                              world        Western Europe     2             -2.0
                                                                                              3.5
                                                                                                                  4.7
                                                                                                                                           GIIPS & Cyprus     -4                   +13.3
                                                                                                0.6
                                               0                                                                                           Other Developed        9          +0.2
                                              2000                                            ‘07 ‘08             ‘11 ‘12
                                                                                                                                           Global                  9         +0.7

                                                1
                                                    Greece, Ireland, Italy, Portugal, Spain
                                                2
                                                    Based on a sample of ~1,500 quoted banks with eligible data
                                          Source: Thomson Reuters; McKinsey Global Banking Pools




                                          Clear progress, but value creation                                                         points below nominal GDP growth. In the
                                          remains some way off                                                                       30 years or so before 2007, banking rev-
                                          At first glance, the banking industry ap-                                                  enues had tracked or modestly exceeded
                                          peared to gain momentum in 2012. Re-                                                       growth in the broader economy; 2008
                                          turn on equity (ROE) was 8.6 percent, up                                                   also saw the industry P/B fall to 0.9.
                                                                                                                         2
                                          from 7.9 percent in 2011 (Exhibit 1). The                                                  However, the relative strength in 2012 in-
                                          industry’s price/book (P/B) ratio improved,                                                dustry ROE is deceptive (Exhibit 3, page
                                          from 1.02 in 2011 to 1.15 in 2012. Rev-                                                    8). Several one-off items—including
                                          enue growth was stable, at 4.3 percent                                                     lower rates of impairment in goodwill and
                                          versus 4.4 percent in the prior year.                                                      other assets, especially holdings of
2
    In this report, price/book ratio
    and return on equity (ROE) do         At face value, then, 2012 represents an-                                                   Greek government bonds—are responsi-
    not include intangible assets,                                                                                                   ble for 1.6 percentage points of the im-
    unless otherwise specified. See the
                                          other step on the long slog up from the
    appendix for definition of terms      depths of the crisis, when ROE bottomed                                                    provement. 3 Ignoring the one-off effects,
    and more on the databases used in
    this report.                          out at 4 percent (Exhibit 2, page 8). In                                                   global-banking-industry ROE actually fell
3
    The analysis also showed a slight     2008, industry revenues fell radically; be-                                                from 7.9 percent in 2011 to 7 percent in
    composite effect from 2011 to
    2012; if the effect is taken into     tween 2007 and 2008, revenues con-                                                         2012. Rising costs and reduced leverage
    account, ROE performance would
    be slightly worse.                    tracted by 2 percent—11 percentage                                                         cut into returns.
8                                                                            Breakaway: How Leading Banks Outperform Through Differentiation




Exhibit 2


Though             Global banking industry performance, 2000-2012
                   Percent
improving,                                            ROE 22
                                                                           Profitable, but                                                   Sustainable
banking industry                                                20         under-delivering

performance is                                                  18

                                                                16
not yet                                                                                                                               2000-2005
                                                                14
sustainable                                                                                                                        2020?
                                                                12
                                            COE
                                            (11-12%)            10

                                                                  8                                         2012

                                                                  6

                                                                  4
                                                                            2008                                                            Unsustainable
                                                                  2
                                                                           Crisis                                                           growth
                                                                  0
                                                                      -12    -11      -2     -1     0      1                                   2           3          4
                                                                       Revenue growth - nominal GDP growth

                   Source: McKinsey Global Banking Pools




Exhibit 3


Without some       Global banking ROE change,1 2011-2012
                   Percent
one-off
                   2011 ROE                                                                                                               7.9
improvements,
industry ROE       Margin                                                                                                                          0.3

declined from      Cost                                                                                                        -0.7

2011 to 2012       Leverage                                               -0.7

                   Loan loss
                                                                0.2
                   provisions

                   One-offs2                                                                                                   1.6


                   2012 ROE                                                                                                                                                                   8.6


                          1
                              ROE impact from stepwise disaggregation of the 2011-2012 change in ROEs; e.g., margin effect is calculated as the difference between 2011 ROE and a theoretical ROE that is
                              calculated with 2012 margin, but 2011 cost, leverage, LLP, one-offs. “Mix effect” is included.
                          2
                              Unusual expenses (change in impairment of goodwill, securities, etc.), tax and other. Includes decrease in goodwill impairment from $58B in 2011 to $26B in 2012, Greek
                              government bond write-off decline from $53B to $4B, and other impairments and write-off changes from $25B in 2011 to $57B in 2012. Net change is a decrease in one-off
                              expenses from $135B in 2011 to $87B in 2012.
                   Source: Thomson Reuters; SNL; McKinsey Global Banking Pools
            Breakaway: How Leading Banks Outperform Through Differentiation                                                                                                     9




Exhibit 4


Proportion of              Average bank price-to-book value1
                           Basis points
                                                                                                                            Banks with P/B less than 1
                                                                                                                            Percent
                                                                                                                                                                P/B multiples

banks with P/B              4.0x
                                                                       3.8                                                  Emerging markets
ratio of less than
                                                                                                                            Latin America                 35     1.7x
1 is still high in                                                                                                          China                   23           1.2x
                            3.0x
developed                                                                                                                   Other Emerging                 42    1.6x
                                                                                 2.4
markets                                      2.0
                            2.0x
                                             1.6                       1.6                                     Emerging     Developed world
                                                                                                   1.5         markets
                                                                                                         1.4                North America            43          1.2x
                                                                                 1.0       1.4
                             1.0x                                                              0.9 1.0                                                    59     0.9x
                                                                                                                            Western Europe
                                                                                                      Developed
                                                                                           0.7        world                 GIIPS & Cyprus                 70    0.7x

                                                                                                                            Other Developed                66    1.0x
                               0x
                               2000 01 02 03 04 05 06 07 08 09 10 11 12 13 2

                                 1
                                     Based on a sample of ~1,500 quoted banks with eligible data
                                 2
                                     Estimated based on 2013 H1
                           Source: Thomson Reuters; McKinsey Global Banking Pools




                           To be sure, some parts of the world did                                                    crisis, 2012 still does not compare well.
                           better than others. ROEs in Latin America,                                                 Over the cycle, from 2006 to 2011, return
                           China, and some other emerging markets                                                     on equity was 9.2 percent; industry rev-
                           are still in the mid- to high teens (though                                                enues grew at the same rate as GDP; and
                           in 2013, margin pressure may be pushing                                                    the industry P/B was 1.66.
                           these lower). North America posted a
                                                                                                                      And value continues to leak slowly away.
                           small increase from 2011, to 7.9 percent.                                                  Analysts estimate banks’ cost of equity
                           But returns in Western Europe were ane-                                                    (COE) in various ways; the consensus of
                           mic, at 2 percent.                                                                         their estimates is about 11 or 12 percent,
                           For the industry in aggregate, it turns out                                                depending on the region. ROE less COE
                                                                                                                      shows a performance gap for the global in-
                           that 2012 was actually a step sideways,
                                                                                                                      dustry of three or four percentage points.
                           and, some share-price gains notwith-
                                                                                                                      Furthermore, the industry is growing a bit
                           standing, another frustrating year for
                                                                                                                      slower than the broader economy.
                           stakeholders. The global banking industry
                           is not yet delivering the returns and                                                      Investors are aware that banking’s road
                           growth that it consistently achieved before                                                ahead is uphill: in every region, a fair pro-
                           the crisis. Even if we consider perform-                                                   portion of banks operate today with a P/B
                           ance over a longer period, including the                                                   ratio of less than 1 (Exhibit 4). They are
    10                                                                  Breakaway: How Leading Banks Outperform Through Differentiation




                                         also nervous about how further capital in-       Continued pressures
                                         fusions and sales of government-owned            In 2013, external shocks (such as the
                                         positions will affect valuations. In mid-2012    Cyprus banking crisis, the devaluation of
                                         McKinsey estimated that the banking in-          the yen, the announcement by the Federal
                                         dustry in Europe needed an additional €1.3       Reserve that it might begin to “taper” its
                                         trillion by 2021 to meet Basel III capital re-   bond-purchase programs, and the result-
                                         quirements.4 While banks have raised             ing drop in some emerging-market curren-
                                         some capital since then—over €200 billion        cies) popped up with regularity. But the
                                         between December 2011 and June 2012,             global financial system seems to have
                                         according to the European Banking Au-            taken these in stride. The VIX index has
                                         thority—there is still a long way to go, in-     never again approached the high it
                                         cluding sums needed to buy back                  reached in October 2008. Even events
                                                                              5
                                         state-owned positions in banks.                  such as the S&P downgrade of US debt
                                                                                          and civil war in Syria caused the index to
                                                                                          flare only slightly. Over time, financial in-
                                                                                          dustry volatility has reverted to its long-
               Reduced volatility does not mean,
                                                                                          term mean of about 15 to 20.
               however, that the pressures on the
                                                                                          Reduced volatility does not mean, how-
                 banking industry are any less.                                           ever, that the pressures on the banking
                                                                                          industry are any less. Economic expecta-
                                                                                          tions are decidedly sober, as improving
                                         Furthermore, other stakeholders—cus-             conditions in some countries, especially
                                         tomers, employees, governments, and              the United States, are offset by slow-
                                         regulators—also expect more. Retail cus-         downs in China and most other emerging
                                         tomers have lost faith in banks and are          economies. Capital controls—a troubling
                                         dissatisfied with low returns on savings         blast from the past—are just one of many

                                         products. Business customers are aware           signs of growing financial nationalism; as

                                         of the high risk premiums they are paying        countries defend their financial borders,
                                                                                          banking markets will inevitably suffer. And
                                         when they can get a loan; some cannot
                                                                                          the pace of regulatory reform is accelerat-
                                         get credit and are unhappy about it. Gov-
                                                                                          ing again. Some significant rule changes
                                         ernments are anxious to boost economic
4
    Dina Chumakova, Miklos Dietz,                                                         are now set, but others are more ambigu-
    Tamas Giorgadse, Daniela Gius,
                                         growth and want banks to lend more;
    Philipp Härle, and Erik Lüders,                                                       ous, and still more are on the horizon.
                                         moreover, they are still stinging from the
    Day of Reckoning for European
    Retail Banking, mckinsey.com,        cost of recent bailouts.
    July 2012                                                                             The global economy downshifts—
5
    “EBA publishes final report on the   All in all, it is clear that the industry is     again
    recapitalisation of European
    banks and paves the way for the      making progress and is recovering from           The prognosis for the global economy is
    transition to the CRDIV
    framework,” European Banking         the crisis. But, as we discuss next, it is       subdued at best. The McKinsey Global
    Authority, eba.europa.eu, October
    2012.                                dogged by a poor operating environment.          Institute has long tracked executive sen-
                     Breakaway: How Leading Banks Outperform Through Differentiation                                                                   11




  Exhibit 5


  Revenue growth                     Industry revenue growth and GDP growth in two scenarios, 2013-2020 CAGR1
                                     Percent
  is expected to
                                                                  “Golden Age” of banking,          “Consensus” scenario      “Slowdown” scenario
  slow, barely                                                     2002-2007                         2013-2020                 2013-2020

  exceeding GDP                      Nominal
                                     after-risk revenue                                       9.6                     7.9                3.9
  growth
                                     Nominal GDP                                        6.6                         6.7                  4.3


                                     Real                                               6.5                   4.3                 1.3
                                     after-risk revenue


                                     Real GDP                                     3.5                       3.2                    1.8


                                           1
                                               Using USD, fixed 2012 EOY FX rate
                                     Source: McKinsey Global Banking Pools




                                     timent; in its most recent survey (June                            held back by a range of factors: the slow
                                     2013), some corporate leaders began to                             dissipation of sovereign risk in the Euro-
                                     retreat from their earlier view that emerg-                        pean Union and little progress on the
                                     ing markets would lead the global econ-                            structural challenges that have threatened
                                     omy over the next several years. 6                                 it recently; a protracted process of finan-
                                     Support is shifting to the notion that in-                         cial regulatory reform in the United States;
                                     stead, developed economies would take                              a continued high degree of state control in
                                     the lead—which would mean slower                                   China; and high inflation and volatile com-
                                     growth overall. More executives also                               modity and real-estate prices in other
                                     foresaw the possibility of a “lost decade”                         emerging markets.
                                     for the global economy.
                                                                                                        In the second and more somber scenario,
                                     What does this mean for banking? We de-                            real global GDP growth slows to a crawl:
                                     veloped two scenarios to anticipate the ef-                        1.6 percent annually through 2020. This
                                     fects of a slow economy on the industry’s                          scenario does not foresee any major eco-
                                     revenues (Exhibit 5). The first scenario rep-                      nomic crises but instead a deep recession
                                     resents a consensus view; in most re-                              in both developed and emerging markets.
                                     spects, it agrees with base-case scenarios                         In this version of events, Europe will be
                                     developed by the International Monetary                            unable to solve its problems, and the
6 “McKinsey Global Survey results:   Fund, the Economist Intelligence Unit, and                         United States will struggle with both its
  Economic conditions snapshot,”
  mckinsey.com, June 2013; 2,275     IHS Global Insight. In it, real global GDP                         growing debt load and new tax hikes that
  executives responded in this
  edition of the bimonthly survey.   grows at 3.5 percent through 2020 and is                           damage competitiveness. In China, the
    12                                                              Breakaway: How Leading Banks Outperform Through Differentiation




                                        scenario foresees shifting from an invest-      their 2007 peak. Across advanced
                                        ment- to a consumption-based economy,           economies, cross-border lending has de-
                                        and in other emerging markets it calcu-         clined sharply as banks have retrenched
                                        lates that slowing capital and trade flows      to their home markets. In particular, finan-
                                        will take a big bite out of growth.             cial integration in Europe has reversed:
                                                                                        since 2007, eurozone banks have reduced
                                        In this report, we use the first scenario as
                                                                                        cross-border assets by $3.7 trillion.7
                                        our base case. In it, nominal revenues
                                        after risk costs for the global industry        In part, this reflects a healthy correction
                                        would grow at 7.9 percent annually              after a rapid expansion in global credit mar-
                                        through 2020, a touch ahead of nominal          kets. Taken too far, however, the resulting
                                        GDP growth of 6.7 percent. The use of           balkanization of financial markets could hin-
                                        this scenario is supported by develop-          der legitimate borrowers’ access to financ-
                                        ments in the first half of 2013. For exam-      ing. And this, in turn, is directly correlated to
                                        ple, the slight shift in growth back to         the slowdown in global economic growth.
                                        developed markets that this scenario fore-
                                                                                        Trade is showing similar signs of retreat. Ac-
                                        sees is seen in banks’ 2013 P/B ratios,
                                                                                        cording to the World Trade Organization,
                                        which are declining in emerging markets,
                                                                                        growth in world trade will fall from 5.2 per-
                                        and rising slightly in developed markets.
                                                                                        cent in 2011 to 2.5 percent in 2013. Al-
                                                                                        though some disputes were settled in the
                                                                                        third quarter of 2013, restrictions on gov-
                  Across advanced economies,                                            ernment procurement in some emerging
                cross-border lending has declined                                       markets and the spillover effect of uncon-
                                                                                        ventional monetary policy in developed
                sharply as banks have retrenched                                        economies are fanning protectionist fears.
                     to their home markets.                                             Regarding the slowdown, the WTO says
                                                                                        “there are strong indications that protection-
                                                                                        ism has … played a part and is now taking
                                        Growing financial nationalism                   new forms that are harder to detect.”8
                                        In many ways, the ties that bind the global     Under pressure to boost economic
                                        financial system are fraying. With capital      growth and lacking other effective tools,
                                        flows and trade in retreat, and currency        central banks around the world launched
                                        wars and taxation on the rise, the vital        a number of asset-purchase programs. In
7
    Toos Daruvala, Richard Dobbs,
    Ricardo Falcón, Philipp Härle,      connections of finance are diminishing—         their home countries, quantitative easing,
    Ju-Hon Kwek, and Susan Lund,
                                        and banking opportunities with them.
    Financial Globalization: Reset or                                                   along with other policies, produced a
    Retreat?, McKinsey Global
    Institute, mckinsey.com, March      Consider first financial globalization, where   record low-interest-rate environment that
    2013.
8
                                        after two decades of expansion, there has       undoubtedly helped put the developed-
    “WTO sees gradual recovery in
    coming months despite cut in        been a marked retreat. Cross-border capi-       world banking system back on its feet.
    trade forecasts,” wto.com,
    September 19, 2013.                 tal flows have fallen by 60 percent from        But it also caused a flow of “hot money”
                         Breakaway: How Leading Banks Outperform Through Differentiation                                                    13




                                            from slow-growth markets to fast-growth        including an automatic exchange of infor-
                                            ones. As currencies rose in these coun-        mation, has accelerated. In the future, it
                                            tries, governments came to fear a loss of      will likely be harder to avoid taxation.
                                            competitiveness and some introduced
                                            capital controls.                              A new wave of regulatory uncertainty
                                                                                           Banks in advanced economies are com-
                                                                                           ing to grips with many features of Basel
                                                                                           II.5, Basel III, and Dodd-Frank. Most
                     With currencies volatile and
                                                                                           banks in Europe and North America are
                  growth slowing, the stage may be                                         prepared for new capital charges for mar-
                      set for currency “wars.”                                             ket risk and counterparty credit risk, as
                                                                                           well as the liquidity coverage ratio, a cen-
                                                                                           terpiece of Basel III.

                                            Meanwhile, these unconventional mone-          But considerable uncertainty and challenge
                                            tary policies have introduced another un-      remains in some other aspects of Basel
                                            certainty, as unwinding these policies may     regulation. The minimum leverage ratio
                                            prove difficult. The recent US suggestion      (MLR) is a game changer for some of the
                                            that it might taper future bond-purchase       largest universal banks.9 In 2012 eight of
                                            programs shook investor confidence and         the top ten banks by assets had leverage
                                            led to precipitous sell-offs in both equity    ratios within the proposed guidelines; the
                                            and currency markets as the hot money          other two will likely have to take immediate
                                            flowed out. With currencies volatile and       steps to shrink their balance sheets. But
                                            growth slowing, the stage may be set for       some of the eight may yet need to take ac-
                                            currency “wars.”                               tion; big banks based in the United States
                                                                                           would be subject to a new rule proposed
                                            Finally, taxation policy is also becoming
                                                                                           by the Federal Reserve, which calls for a 5
                                            more intensely competitive. Advanced
                                                                                           percent MLR (that is, a leverage ratio of
                                            economies have systematically reduced
                                                                                           20:1), and a 6 percent MLR for some sub-
                                            corporate tax rates for two decades, and
                                                                                           sidiaries (16.67:1). If international regula-
                                            multinational corporations have used dif-
                                                                                           tors follow suit, the deleveraging effect will
                                            ferences among tax regimes to lower their
                                                                                           naturally be much more extensive.
                                            overall tax bill. Meanwhile, a thriving tax-
                                            haven industry has produced some re-           Other Basel rules will also challenge
                                            markable anomalies—for example, a              banks. The net stable funding ratio
                                            substantial share of Russian private           (NSFR), another key precept of Basel III,
                                            wealth became concentrated in Cyprus.          is one. The NSFR is undergoing a review
9
    In its simplest form, the minimum
    leverage ratio (MLR) is defined as      The tide may be turning, however. Over         and will likely be relaxed. Even then, many
    equity over assets. As such it is the
    reciprocal of the more common           the past 12 months, the G20 agenda to          banks may need to adjust their balance-
    metric of financial leverage. A 3                                                      sheet structure and funding to comply.
                                            reduce tax arbitrage and improve trans-
    percent minimum MLR effectively
    sets a leverage cap of 33x.             parency into private individuals’ banking,     Another is Basel III.5, a fundamental re-
     14                                                               Breakaway: How Leading Banks Outperform Through Differentiation




                                          view of trading-book practices. These           many, will exacerbate the cross-border
                                          rules will require banks to calibrate book      lending contraction discussed earlier, as
                                          definitions, hedging practices, and mod-        the use of deposits generated in one mar-
                                          els. The rules will likely force some to hold   ket for lending in other markets is becom-
                                          more capital as a result. Banks are strug-      ing more constrained.11 Establishing
                                          gling to prepare for compliance with these      firebreaks between businesses, as several
                                          far-reaching new regulations.                   of these new regulations envision, will also
                                                                                          be costly for banks as pools of liquidity
                                          Perhaps the most important regulatory un-
                                                                                          and capital become trapped, and dupli-
                                          certainty, however, relates to the structural
                                          regulations under consideration in many         cate structures are erected.

                                          countries. Pending regulations intended to      Finally, national legislatures in several
                                          ensure orderly recovery and resolution—         parts of the world are debating the wis-
                                          including ring fencing of core activities and   dom of a financial-transactions tax. Some
                                          the establishment of national subsidiaries      have dropped the idea. But others have
                                          whose liabilities are match-funded by their     embraced it. Importantly, an EU-wide fi-
                                          own assets—would undoubtedly promote            nancial-transactions tax remains a distinct
                                          banks’ safety and soundness.                    possibility, despite some legal challenges.

                                                                                          Intensifying fight for profits and
                    With industry growth moderate                                         share
                                                                                          With industry growth moderate at best,
                     at best, incumbent banks are                                         incumbent banks are fighting more in-
                   fighting more intensely than ever                                      tensely than ever for share, even as new
                                                                                          business models establish a foothold in
                   for share, even as new business
                                                                                          traditional banking markets.
                     models establish a foothold in
                                                                                          Incumbents: Hypercompetition and
                      traditional banking markets.
                                                                                          price cutting
                                                                                          Arguably, competition has lessened
                                                                                          somewhat in the complex trading activi-
                                          However, these structural regulations
                                                                                          ties most affected by Dodd-Frank and
                                          might have serious implications. Ring
                                                                                          Basel II.5 and III. Some big institutions
                                          fencing could drive up costs for banks—
                                                                                          were merged or acquired during the finan-
10
     Average analyst estimate, as         for example, the consensus view is that
     reported in Leonardo Gambacorta                                                      cial crisis, reducing competition in certain
     and Adrian van Rixtel, “Structural   changes proposed in the Vickers Report
     bank regulation initiatives:                                                         products, at least in the short term. More-
     approaches and implications,”
                                          could impose an estimated £6 billion10 of
                                                                                          over, many firms that aspired to provide
     Bank for International               additional costs to UK banks, equivalent
     Settlements Working Papers,                                                          clients with complex trading services have
     Number 412, bis.org, April 2013.     to 33 percent of industry pretax profit in
11
                                                                                          withdrawn, as they refocus on their core
     Toos Daruvala et al, Retreat or
                                          2011. Subsidiarization and the pressure
     reset?.                                                                              capabilities and key customer franchises.
                                          for matched books, for example in Ger-
                         Breakaway: How Leading Banks Outperform Through Differentiation                                                    15




                                           And anecdotal evidence suggests that             United Kingdom, cash payments for new
                                           those that have remained in these com-           current accounts ranging from €50 to
                                           plex activities have benefited.                  €100 have become the industry standard.
                                                                                            Rate wars for time deposits are waging
                                                                                            unabated, with even retail rates narrowing
                 Transaction products demonstrate                                           to within roughly 15 basis points of the
                                                                                            risk-free rate (this is an average; rates are
                   similar competitive intensity. In                                        lower in some stable markets, and much
                 corporate cash management, fees                                            higher in some struggling economies).

                   are often waived altogether as                                           Transaction products demonstrate similar
                                                                                            competitive intensity. In Asian and Euro-
                  banks fight to capture balances.
                                                                                            pean corporate cash management, fees
                                                                                            are often waived altogether as banks fight
                                                                                            to capture balances. In payments, com-
                                           On the other hand, the retreat from com-         petition has long been intense. Payments
                                           plex trading has been matched by a rise          are very often the first banking product
                                           in competition for flow volumes in rates         purchased by both retail and small-busi-
                                           and foreign exchange, for lower-risk as-         ness customers and are considered a
                                           sets, and—outside the United States—for          “stronghold” product, worth pursuing
                                           the “sticky” deposits needed to fund             even if (as is the case in many areas) they
                                           them. On the asset side, the best-rated fi-      are only profitable when subsidized by
                                           nancial institutions on both sides of the        float income on associated balances. As
                                           Atlantic have pushed spreads on low-risk         we discuss next, a throng of new com-
                                           lending to record lows. Rates on no-fee,         petitors is targeting payments, among
                                           low loan-to-value mortgages are now              many other products, ratcheting up the
                                           lower than most banks’ credit-default            competitive intensity.
                                           swaps. Spreads on corporate loans are
                                           well under 50 basis points for high-quality      Rise of new competitors
                                           Western European companies. Mean-
                                                                                            Nearly 20 years ago, Bill Gates famously
                                           while, the larger Asian banks are winning
                                                                                            observed that banking is essential, but
                                           trade- and infrastructure-finance deals in
                                                                                            banks are not.12 At the time, he meant
                                           Europe, pushing prices down and under-
                                                                                            that banks’ troubled IT systems, a long-
                                           mining the incumbent banking leaders.
                                                                                            time weakness, were vulnerable to com-
                                           On the liability side, underfunded Europe        petition from software companies. Today,
                                           has seen intense competition for the retail      his comment looks prescient in another
                                           and commercial deposits that receive the         way: many of banks’ traditional strengths
                                           most favorable treatment from the new            are now under fire from a wide range of
12
     Attributed to Bill Gates in 1995 in                                                    unexpected sources, with some far-reach-
     “A survey of online finance,”
                                           Basel rules on liquidity. Particularly in Ger-
     The Economist, May 18, 2000.          many, the Netherlands, Poland, and the           ing implications.
     16                                                          Breakaway: How Leading Banks Outperform Through Differentiation




                                    Entrants from other businesses are further       credit-default swaps, and foreign ex-
                                    increasing capacity in an already satu-          change. Platforms have even sprung
                                    rated market. Broadly speaking, retailers        up in staid markets like the one for cor-
                                    have strong access to customers and su-          porate bonds. 13 Dealers’ flows and prof-
                                    perior service skills, and in cases such as      its are at risk, and so too are some
                                    PayPal and Amazon, better analytics and          market operators.
                                    targeting skills. On the other hand, an-
                                                                                     Second, new aggregators—like Mint and
                                    other entrant to retail banking from out-
                                                                                     eWise in the United States, and Konto-
                                    side the industry, the postal service, has
                                                                                     blick in Germany—are redefining cus-
                                    mostly struggled to successfully differenti-
                                                                                     tomer access, as they become the go-to
                                    ate its retail offerings. In corporate bank-
                                                                                     source for customers searching for finan-
                                    ing, hedge funds and private-equity firms
                                                                                     cial products. Banks have historically ben-
                                    have entered the market, raising new cap-
                                                                                     efited from an asymmetry of information,
                                    ital to make sizable loans to corporations
                                                                                     in which customers find it difficult to com-
                                    and commercial real-estate developers.
                                                                                     pare banks’ competing offers. These sites
                                    New digital businesses are shaking things        are changing that, and are already weak-
                                    up, disrupting four historical strengths that    ening the customer/bank connection.
                                    have propelled traditional banking. First,       Some may have the potential to transform
                                    digital start-ups are creating new ways for      the overall distribution model for retail fi-
                                    customers to access banking services, es-        nancial services.
                                    pecially payments. This kind of infrastruc-
                                                                                     A third disruption is the emergence of
                                    ture—payment systems, along with
                                                                                     new fully electronic service models—a di-
                                    invoicing services and asset-management
                                                                                     rect threat to the branch network. Re-
                                    services— has long been one of banks’
                                                                                     mote-only banks such as Simple in the
                                    greatest assets. These new electronic
                                                                                     United States, Russia’s RocketBank, and
                                    models are redirecting transaction flows
                                                                                     comdirect in Germany compete on the
                                    and even infiltrating and altering retail cus-
                                                                                     basis of innovative tools for users to ex-
                                    tomer relationships. Mobile payments
                                                                                     amine their personal finances. They are
                                    services such as M-Pesa, Square, PayPal,
                                                                                     able to offer a fairly full range of services,
                                    and Google Wallet are rapidly gaining vol-
                                                                                     which they often source from traditional
                                    ume in various payments markets. While
                                                                                     banks and sell on a white-labeled basis.
                                    the impact on incumbents is negligible
                                                                                     National Australia Bank has countered
                                    now, it could soon become significant.
                                                                                     with its own remote-only service, UBank,
                                    The same disintermediation of banks in           a move that other incumbents will likely
                                    their relationship with customers is also        adopt. And many smaller banks, unafraid
                                    well advanced in wholesale banking.              of cannibalizing their main offering, have
13
     Roger Rudisuli and Doran
     Schifter, Corporate Bond E-
                                    New electronic-trading platforms now             come to market with new remote-only
     Trading: Same Game, New        dominate several asset classes, includ-          banks. In the end, whether the impetus
     Playing Field, mckinsey.com,
     August 2013.                   ing treasury futures, cash equities,             comes from start-ups or other banks, the
                           Breakaway: How Leading Banks Outperform Through Differentiation                                              17




       Exhibit 6


       In this context,                   The “Triple Transformation”

       the “Triple                          1 Economic                                    Activate drivers of growth

       Transformation”                        transformation
                                                                                          Improve capital efficiency
                                                                                          Drive cost efficiency
       imperative is
       more relevant
       than ever                            2 Business model                              Retail: Innovate and improve services
                                                                                          Private banking: follow wealth creation
                                              transformation                              Corporate: cross-sell and lean
                                                                                          Capital markets: continue to restructure



                                            3 Cultural                                    Improve organizational health
                                                                                          Change short-term profit-taking mindsets
                                              transformation                              Foster disciplined risk culture
                                                                                          Strengthen reputation


                                          Source: McKinsey analysis




                                          effects are the same: heightened competi-       remember that in its early days, PayPal
                                          tion, and margin compression.                   was a system for users of Palm Pilots to
                                                                                          beam payments back and forth between
                                          Finally, new peer-to-peer (P2P) busi-
                                                                                          handheld devices. This failed almost im-
                                          nesses are making major inroads into lu-
                                                                                          mediately— but PayPal was reborn to be-
                                          crative consumer lending, especially in the
                                                                                          come a potent force in payments.
                                          United Kingdom and the United States.
                                          LendingClub, the US-based P2P lender, is                                ■    ■    ■
                                          closing in on $2 billion in funded loans.14     In McKinsey’s second annual review of
                                          Zopa is similarly gaining ground in the UK      the banking industry, 15 we argued for a
                                          market for retail lending. These P2P busi-      “triple transformation” that could lead the
                                          nesses are neutralizing banks’ traditional      banking industry to sustainable health.
14
     “Google Buys Stake in                advantage in risk assessment, though            One year later, with the industry context
     LendingClub Startup Valued at
     $1.55 Billion,” Bloomberg, May 2,
                                          they may eventually struggle as cus-            still sober and investors’ and other
     2013.                                tomers get stuck with unforeseen risks
15
                                                                                          stakeholders’ expectations unmet, this
     Toos Daruvala, Miklos Dietz,
     Philipp Härle, Joydeep Sengupta,
                                          that are difficult to mitigate.                 transformation is even more important
     Matthias Voelkel, and Eckart
     Windhagen, The Triple                Many of these would-be disruptions will         (Exhibit 6). In the following chapter, we
     Transformation: Achieving a
     Sustainable Business Model: 2nd      fail, of course, but some will certainly suc-   will review the considerable progress
     McKinsey Annual Review on the
     Banking Industry, mckinsey.com,
                                          ceed. Bankers that find some of these in-       banks have made on this agenda, and
     October 2012.                        novations dubious might want to                 the work still to do.
18                      Breakaway: How Leading Banks Outperform Through Differentiation




     The Industry’s Transformation:
     Early Progress, More to Do
     There were real signs of progress at some individual banks
     as they embarked on the triple transformation of their
     economics, business models, and culture. But for the
     industry overall, there is still much to be done to translate
     these intense efforts into measurable results.
            Breakaway: How Leading Banks Outperform Through Differentiation                                                                     19




                           Economic transformation                                         look) (Exhibit 7). Some parts of banks’
                           In last year’s report, we suggested that                        economic transformation are moving in
                           banks:                                                          the right direction, with clear progress on

                           ■ improve their capital efficiency by re-
                                                                                           key indicators like capital ratios and loan-
                                                                                           loss provisions (at least at developed-
                                viewing and restructuring loan books,                      world banks). On costs, progress has
                                enhancing risk models, and improving                       been spotty: some banks have done
                                collateral management                                      spectacularly well, but for the industry as
                           ■ find new sources of growth, especially                        a whole, costs are essentially flat. On bal-
                                specific opportunities that might be                       ance, progress is evident, but there is a
                                hidden within uninteresting averages                       long way to go. We estimate that, of the

                           ■ cut costs, by simplifying businesses,
                                                                                           three- to four-percentage-point perform-
                                                                                           ance gap (ROE minus COE), banks closed
                                streamlining operating models, optimiz-
                                                                                           about 10 percent last year. In the first half
                                ing processes, and shifting more activi-
                                                                                           of 2013, banks notched up another small
                                ties to low-cost locations
                                                                                           gain, of about half a percentage point,
                           One year on, it seems the glass is half-full                    driven mainly by banks in Japan and the
                           (or half-empty, depending on your out-                          United States.

Exhibit 7


Banks have                                             Glass half full…                                 … or glass half empty?

                             ROE                        ROE improved in 2012                             Current improvement not sustainable
made some                                                                                                as it was mostly driven by one-offs

progress on the
                             Growth                     Industry revenues after risk costs               Industry revenue growth still well
drivers of                                              have now exceeded their 2007 peak                below pre-crisis levels
economic
transformation               Margins                    Despite pressures, margins slightly
                                                        increased to 313 bps in 2012 from 312
                                                                                                         Margin compression expected in
                                                                                                         future
                                                        bps in 2011

                             Risk cost                  Normalized at about 23 bps for                   Rising above 70 bps for China, other
                                                        advanced economies                               emerging economies, GIIPS & Cyprus


                             Operating cost             Fell to 194 bps of assets for emerging           Rose to 191 bps of assets for
                                                        economies                                        developed world


                             Deleveraging               Tier-1 capital rose from 8% in 2007 to 12% by    Deleveraging drags on performance;
                                                        2012, making banking healthier; wholesale        outside the US, industry still too
                                                        funding costs normalizing for most markets       reliant on balance sheet financing

                           Source: McKinsey analysis
     20                                                                  Breakaway: How Leading Banks Outperform Through Differentiation




                                           Clear positive signs                            to 2012, total industry-wide tier-one capi-
                                                                                           tal increased by 73 percent.17
                                           Start with the good news. In 2012, two
                                           clear signs of improving economic per-          Second, the banking industry in devel-
                                           formance emerged. First, the banking in-        oped markets has brought down its loan-
                                           dustry has gone from dangerously                loss provisions. In 2009, loan-loss
                                           undercapitalized to well capitalized — a re-    provisions peaked at 30 percent of in-
                                           markable achievement. In 2007, the indus-       come for US banks and 27 percent for
                                           try held tier-one capital of just 8.4 percent   Western European banks. Even in 2011,
                                           of assets, reserves that would barely sat-      provisions were still quite high—18 per-
                                           isfy Basel III’s minimum capital require-       cent and 20 percent of income for US and
                                           ments, let alone the management buffers         Western European banks, respectively.
                                           and systemically-important-financial-insti-
                                                                                           2012 was the best year in a long while for
                                           tution surcharges that are now coming. At
                                                                                           developed-market credit performance.
                                           8.0 percent, Western European banks
                                                                                           Years of restructuring and substantial
                                           were particularly troubled, given impending
                                                                                           write-offs have reduced debt to much
                                           changes in definitions of tier-one capital.
                                                                                           more sustainable levels for borrowers.
                                                                                           And quantitative easing has reduced debt
                                                                                           service costs to extraordinarily low levels.
                      In 2009, loan-loss provisions                                        Along with a reviving US economy, these
                    peaked at 30 percent of income                                         developments allowed US banks to im-
                                                                                           prove 2012 loan-loss provisions to only 9
                    for US banks and 27 percent for                                        percent of income. Similarly, in much of
                        Western European banks                                             Western Europe, the ratio improved to 11
                                                                                           percent. However, in the so-called GIIPS
                                                                                           countries (Greece, Ireland, Italy, Portugal,
                                           By year-end 2012, however, the industry         and Spain), and in Cyprus, 2012 loan-loss
                                           had transformed its capital position,           provisions surged to a record high 46 per-
                                           through a combination of capital raisings,      cent of income.
                                           retained earnings, and risk-weighted-asset
                                           optimization (including deleveraging). At       Mixed performance on costs
16
     “EBA publishes results of the
     Basel III monitoring exercise as of   12.0 percent tier-one capital, the industry     On costs, 2012 saw a mixed performance.
     30 June 2012,” eba.europa.eu,
     June 30, 2012.                        is now well on track to meet Basel III (and     For the industry in aggregate, costs were
17
     Our analysis did not normalize for    other) requirements as they take effect.        about flat—the cost/asset (C/A) ratio for the
     differences in accounting rules
     between Europe and the United         Western European banks in particular            industry rose to 1.91 percent in 2012, up
     States.
                                           made a remarkable turnaround. After             from 1.89 percent in 2011.18 In the United
18
     Cost to assets is a good indicator
     of changes in cost over time; the     many banks failed the (lenient) region-wide     States, C/A has been flat since 2009. Over
     popular cost-to-income ratio can
     be skewed by changes in income        stress tests in June 2012,   16
                                                                             by year-end   the same period, C/A has increased in Eu-
     (a common occurrence) and to
                                           the region as a whole had reached a 12.7        rope but has fallen in many emerging mar-
     differences in the way income is
     calculated across countries.          percent tier-one capital ratio. From 2007       kets in Asia, and in Latin America.
            Breakaway: How Leading Banks Outperform Through Differentiation                                                                                                                                              21




                           To be sure, a few banks were able to cut                                                        saw costs and assets grow (or decline) at
                           costs, some by impressive amounts. In-                                                          essentially the same rate, making no
                           tensive end-to-end cost-reduction pro-                                                          progress on cost efficiency.
                           grams have cut billions at some of the
                           largest global banks, including UBS and                                                         Some lingering concerns
                           Bank of America. Many nationally focused                                                        The economic transformation of the bank-
                           banks like Lloyds have also achieved                                                            ing industry still has a long way to go.
                           strong results on cost reduction.                                                               There are three important concerns.

                           However, only six of the eight largest                                                          First, industry revenue growth is slowing
                           banks were able to lower their C/A in                                                           as economic growth in developing mar-
                           2012. This is of a piece with a longer                                                          kets slows. (Consider for example China;
                           trend. Exhibit 8 presents the results for                                                       the Economist Intelligence Unit, among
                           the 500 largest banks over the four years                                                       others, recently lowered its predicted
                           2009 to 2012. Several banks were able to                                                        growth rate through 2015 from 13.6 per-
                           cut costs faster than assets grew. Others                                                       cent to 10.8 percent.) Banking-industry
                           were less successful; their costs grew                                                          revenues rebounded at a 9.4 percent
                           faster than their asset base. Most banks                                                        compound annual growth rate from 2008


Exhibit 8


Some banks                 Cost efficiency of top 500 banks globally, CAGR 2009-2012
                           Percent
have improved                            Total assets           20
                                                                                                                                                                                        Banks that were
cost efficiency,                                                                                                                                                                         unchanged1
                                                                                                                                                               54%
but the industry            Banks that                          15
                            improved1
on average has                                                                   30%
                                                                10
not
                                                                  5


                                                                  0
                                                                                                                                                                                        Banks that got
                                                                                                                                                                                        worse1
                                                                                                                                                                   16%
                                                                 -5


                                                               -10
                                                                 -10                 -5                 0                 5                10                15                20
                                                                      Opex

                                 1
                                     Banks that improved their cost efficiency had an Asset-OPEX growth differential of at least +0.5 standard deviation (+4.7%) above the average difference. Banks whose cost
                                     efficiency deteriorated had an Asset-OPEX growth difference of at least -0.5 standard deviation (-4.7%) below the average. Banks with unchanged cost efficiency were within +/- 0.5
                                     standard deviation of the average Asset-OPEX growth difference.
                           Source: McKinsey analysis, Thomson Reuters
22                                          Breakaway: How Leading Banks Outperform Through Differentiation




               to 2010, as expanding revenues in devel-         loans still represent 87 percent of total pri-
               oping markets offset the contraction in          vate nonfinancial debt outstanding; in the
               the United States and Western Europe.            United States, the comparable figure is 57
               From 2011 to 2012, global revenues grew          percent. Europe is at about the same level
               by 4.4 percent—the second year in a row          as non-Japan Asia (90 percent), where
               at this new, much lower level of growth.         corporate-bond markets are nascent.
               After 30 years of expansion, global bank-
                                                                To sum up the work on economic trans-
               ing revenues as a percentage of GDP
                                                                formation in 2012: banks have done much
               (both in real terms) fell in 2011, and we
                                                                to reduce their risk profile—improving
               expect this “penetration rate” will not
                                                                their capital base, addressing costs, and
               grow again until 2020 at the earliest.
                                                                so on. They also have built a strong posi-
                                                                tion in liquidity: US banks in particular
                                                                hold more cash and government securi-
      Many banks have made real                                 ties than at any time in the past six years.

      progress in optimizing their                              However, investors are still reluctant to tie
                                                                up their capital in banks. The consensus
     business portfolios and ridding                            of analysts’ views on cost of equity sug-
        themselves of “bad” and                                 gests that, while it has come down signifi-
                                                                cantly since 2009, COE remains
          nonstrategic assets.                                  substantially higher than in 2007.

                                                                Business-model transformation
               Second, developing-world loan-loss provi-        In our 2012 report, we suggested that:

                                                                ■ Most banks should rethink their institu-
               sions (LLPs) are beginning to rise at a
               somewhat alarming rate. Loan-loss provi-
                                                                  tional portfolios, shifting resources to
               sions at Latin American banks rose from
                                                                  capture growth and cleaning up bad
               1.48 percent of assets in 2011 to 1.59 per-
                                                                  assets
               cent in 2012. In Brazil in particular, we ex-
               pect these numbers to rise substantially in      ■ Retail banks should reinvent their cus-
               2013. Similarly, LLPs in India rose from 0.61      tomer proposition, to meet rising ex-
               percent in 2011 to 0.63 percent in 2012            pectations

                                                                ■ Wholesale banks should more funda-
               and are on course to increase in 2013 as
               well. In China, LLPs fell from 0.29 percent in
                                                                  mentally re-tool; corporate banks
               2011 to 0.27 percent in 2012, but they are
                                                                  should diversify revenue streams, and
               still higher than in 2010 (0.25 percent).
                                                                  capital-markets businesses should re-
               Finally, outside the United States, the            configure to build on their true
               banking industry is still too reliant on bal-      strengths in managing risk, serving
               ance-sheet lending, as opposed to debt             clients, and running efficient infra-
               capital markets. In Western Europe, bank           structure
                        Breakaway: How Leading Banks Outperform Through Differentiation                                                 23




                                         Many banks have made real progress in           Similarly, banks have taken decisive steps
                                         optimizing their business portfolios and        to divest their noncore businesses, with
                                         ridding themselves of “bad” and non-            many of them going to other banks for
                                         strategic assets. The retail industry is also   which they are a better strategic fit.
                                         systematically reinventing itself “from the     Global banks have divested at least $722
                                         customer back”—increasing value to cus-         billion of assets since 2007. US- and UK-
                                         tomers and eliminating unnecessary com-         headquartered banks have led the charge
                                         plexity. And wholesale divisions are also       in portfolio rationalization, accounting for
                                         taking steps.                                   23 percent and 22 percent, respectively,
                                                                                         of deal value.

                                                                                         All this represents a big step forward—but
                        Since the onset of the
                                                                                         more is needed. New research from McK-
                   financial crisis, many banks have                                     insey concludes that, for a variety of rea-
                    indeed taken decisive action to                                      sons, European banks are considering the
                                                                                         sale of some 475 businesses.19 Some
                   wind down underperforming and                                         new research from the Bank for Interna-
                            noncore assets.                                              tional Settlements20 suggests that, for the
                                                                                         biggest and most complex institutions,
                                                                                         such sales may be smart in their own
                                         Portfolio optimization                          right, as diversity of revenues is only ef-

                                         Since the onset of the financial crisis,        fective up to a point. Adding retail busi-

                                         many banks have indeed taken decisive           ness to wholesale banks, or vice versa,
                                         action to wind down underperforming             produces higher ROEs. But this diversifi-
                                         and noncore assets. To illustrate, in           cation effect fades as the mix between
                                         2009, nine big banks around the world           the two becomes equal; ROEs start to fall
                                         had isolated $900 billion in assets in sep-     back to levels only slightly higher than un-
                                         arately reported “bad bank” units; at           diversified banks. Markets may be a step
                                         year-end 2010, nine big national                ahead in figuring this out: very large, com-
                                         schemes in Western Europe and the               plex, and nontransparent banks are start-
                                         United States held another $560 billion.        ing to see their valuations discounted.
                                         By year-end 2012, these institutions and
                                         governments had made material                   Retail reinvention ‘from the customer
                                         progress. The banks cut their assets by         back’
                                         27 percent and the national schemes by          In 2012, banks had some success putting
19
     Patrick Beitel, Pedro Carvalho,
                                         70 percent. However, it is turning into a       the focus back on customers and clients.
     and João Castello Branco, “What’s
     next for the restructuring of       Sisyphean struggle. New bad banks               Some banks were able to make funda-
     European banks?”, mckinsey.com,
     August 2013.                        sprang up in 2011 and 2012, and as a            mental changes to become more cus-
20
     Gambacorta and van Rixtel,          result, the industry still holds some $1.1      tomer- and client-centric, with Spanish
     “Structural bank regulation
     initiatives.”                       trillion in bad assets.                         banks leading the way. CaixaBank, for ex-
24                                       Breakaway: How Leading Banks Outperform Through Differentiation




             ample, created an innovation lab, hiring      and services to meet customers' rapidly
             creative talent from outside banking and      changing needs.
             structuring the unit as an independent
             subsidiary to insulate it from the rest of    New approaches in corporate and in-
             the bank. BankInter has likewise created      vestment banking
             an innovation unit, drawing on its own ex-    In corporate banking, the value of cross-
             perts and others from technology firms        selling has long been known but has
             and universities. CheBanka has rethought      proved difficult to achieve. In 2012, some
             online banking; its new app for iPhone        leading corporate banks began to tackle
             looks nothing like traditional bank sites     the problem in new ways. A few are shift-
             and is proving a hit with young, tech-        ing from a sales-management approach
             savvy consumers.                              based mainly on volume and total rev-
                                                           enues to a focus on value-added services.
                                                           Others are introducing a “shadow” count-
        Very large, complex,                               ing system to measure relationship man-
     and nontransparent banks                              agers’ (RMs) results on all products. Banks
                                                           are also aligning incentives between corpo-
      are starting to see their                            rate bankers and product specialists (such
       valuations discounted.                              as transaction-banking specialists and in-
                                                           vestment bankers). Finally, some are pilot-
                                                           ing a centralized marketing-intelligence unit
             Elsewhere, Australia’s Commonwealth           that supports RMs in developing commer-
             Bank has developed a clever property          cial initiatives targeted to specific clients
             app; by pointing their smartphone’s cam-      and products, particularly those products
             era at a house, users can bring up the        such as transaction banking with which
             property’s sales history and local informa-   many RMs are less familiar.
             tion. Russia’s Sberbank has pioneered an
                                                           In capital markets, several banks are mov-
             SMS-based service for peer-to-peer pay-
                                                           ing forward on the triple-transformation
             ments, and has equipped some of its
                                                           agenda. UBS, among others, made big
             ATMs with the ability to make loans on the
                                                           changes to its business mix in 2012. In
             spot. JP Morgan Chase’s Blueprint serv-
                                                           the wake of these shifts, some leading
             ice allows customers to create, manage,
                                                           banks are undertaking a fundamental re-
             and track payment plans.
                                                           assessment of the shape of the busi-
             All these enhancements are steps in the       ness—and the balance sheet that
             right direction, but there is still some      supports it—considering variables such
             ways to go. Even the leading banks can-       as regulatory capital requirements, lever-
             not yet match tech-driven companies           age, and funding. This kind of multivari-
             such as Amazon in their commitment to         able optimization exercise can help banks
             continual transformation of their products    determine long-term business viability and
                      Breakaway: How Leading Banks Outperform Through Differentiation                                                  25




                                      optimize product-portfolio and balance-       the bank’s planning and decision-making
                                      sheet assets. Some banks are also con-        processes are brought in line with new
                                      templating changes to their traditional       risk-culture principles.
                                      product-oriented structure and are devel-
                                                                                    Already, though, several leading global
                                      oping capabilities that can be deployed
                                                                                    banks are taking important steps to regain
                                      across asset classes. These capabilities
                                                                                    the public’s trust, redefining strategies,
                                      include an “execution factory,” a risk and
                                                                                    policies, practices, and compensation to
                                      solutions group, and a funding and fi-
                                                                                    shift employees’ behaviors and mind-sets.
                                      nancing arm.
                                                                                    On compensation, European banks in
                                                                                    particular will be prompted to make
                        In 2012, after a spate of                                   progress soon, as new EU guidelines take
                                                                                    effect. In the future, bonuses won’t be al-
                  billion-dollar losses, many banks                                 lowed to exceed salaries by more than 2x,
                  raised operational risk to the top                                and 40 to 60 percent of bonuses will be
                                                                                    deferred for three to five years. At least
                            of their priorities.
                                                                                    half of bankers’ bonuses will be paid in
                                                                                    shares or other securities, not cash, and
                                                                                    shares will have to be held for a period of
                                      Cultural transformation                       time. Bonuses will be subject to “claw-
                                      In the previous version of this report, we    back” should the profits on which they are
                                      suggested that banks start to rebuild a       based prove to be only temporary.
                                      risk culture and compensation model
                                                                                    Many banks are making changes to com-
                                      that would restore public trust and in-
                                                                                    pensation schemes. Morgan Stanley, for
                                      crease the safety and soundness of the
                                                                                    example, has announced the revisions it
                                      banking sector. One year on, some
                                                                                    made in 2012, 21 the latest in a series of
                                      progress is evident. But banks should be
                                                                                    changes stemming from the crisis. It
                                      aware that patience and tenacity are cru-
                                                                                    upped the equity component of deferred
                                      cial. Big banks will need to build a broad
                                                                                    bonuses from 33 percent to 50 percent.
                                      consensus among the company’s top 50
                                                                                    It extended the vesting schedule for the
                                      or 60 leaders about the current culture’s
                                                                                    deferred cash portion of bonuses from
                                      weaknesses. Then they must agree on
                                                                                    two years to three. And it established a
                                      and clearly define the kind of culture they
                                                                                    quarterly review process to identify and
                                      want to build. This is no small task; it
                                                                                    evaluate situations in which clawback
                                      typically requires agreement on four or
                                                                                    might be needed.
                                      five core statements of values about the
                                      desired culture—statements that imply         In 2012, after a spate of billion-dollar
                                      clear process changes. Changing the op-       losses, many banks raised operational
21
     “Morgan Stanley Compensation &   erating environment of a large organiza-      risk to the top of their priorities. Critically,
     Governance Practices,”
     morganstanley.com, March 2013.   tion takes at least two to three years, as    they are shifting from a taxonomic view, in
     26                                                          Breakaway: How Leading Banks Outperform Through Differentiation




                                     which classification and measurement           2012 banking still occupied the bottom of
                                     were thought to be sufficient, to a            a leading global index of trust.22 It will
                                     process-based view that looks for the          clearly take many years for banks to effect
                                     breakpoints in chains of activity. In an-      a full cultural transformation.

                                                                                                      ■    ■   ■
                                     other move, many banks are shifting from
                                     trailing measures to real-time metrics,
                                     with more tightly defined tolerances. And
                                                                                    Up to this point, we have discussed the
                                     they are establishing new norms for risk
                                                                                    context and the challenges facing banks
                                     taking, encouraging transparency and re-
                                                                                    (Chapter 1), and banks’ tactical re-
                                     spect for risk.
                                                                                    sponses to date (Chapter 2). In the follow-
                                     Yet, as an indicator of just how long the      ing chapters, we shift to a forward-looking
                                     process to transform the culture will be, in   focus on strategies for value creation.




22
     2012 Edelman Trust Barometer,
     edelman.com.
Breakaway: How Leading Banks Outperform Through Differentiation                    27




               Leaders’ Breakaway Strategies
               If the industry is to achieve a triple transformation, it cannot
               happen if banks try to pull all the available levers at once.

               Our new research identifies the five focused strategies that
               when well executed are driving the outperformance of today’s
               leading banks. These banks and their distinctive strategies
               explain much of the value creation in the sector in recent years.

               Several of the other banks creating value today appear to be
               buoyed by the growth markets in which they operate – a less
               reliable source of value. Meanwhile, banks with a price-to-
               book ratio of less than one have choices to make. Some are
               following a focused strategy but need to redouble their efforts
               on execution to deliver financial results that will restore
               market confidence.
28                                                                      Breakaway: How Leading Banks Outperform Through Differentiation




Exhibit 9


The market         Value creation outlook for top 500 banks globally, 2012
                   Percent
expects that                           P/B1
most value-                                                                 Not currently
                                                                            creating value but
                                                                                                                        Market expects value
                                                                                                                        creation to continue
                                                                            expected to in the              32%         as in the past
destroying                                                     22%          future

banks today will
continue to do
so in the future                        1.0x

                                                               38%          Not currently                               Currently creating
                                                                            creating value and                          value, but market
                                                                            market expects this                         expects value
                                                                            to continue                                 creation to stop or
                                                                                                                        other impairments of
                                                                                                                        assets to occur
                                                                                                             8%




                                                   ROE1-COE                                        0%


                         1
                             Equity adjusted for goodwill
                   Source: Thomson Reuters; McKinsey Global Banking Pools




                   Many others, however, are trying to do                                        confirm that the crisis has passed, but un-
                   too many things – their strategies have                                       certainty about growth and profits remains
                   converged on a muddy middle that is diffi-                                    very much alive. Many banks have re-
                   cult to execute and unlikely to create                                        sorted to pulling out all the stops, in an “all
                   value. If these banks can concentrate                                         hands on deck” approach. These banks
                   their strategy and execution on one of the                                    are pulling a plethora of levers to boost
                   five dominant sources of value, they can                                      revenues, cut costs, and improve capital.
                   significantly boost their performance.                                        They are simultaneously articulating to in-
                                                                                                 vestors both a growth story and an effi-
                   Clear strategy and disciplined                                                ciency story, in an attempt to improve
                   execution pay off                                                             returns and create shareholder value.

                   The pressures we discussed in Chapter                                         As many banks struggle to respond to
                   1—weak macroeconomic conditions,                                              this context, we observe two undesirable
                   growing financial nationalism, a new wave                                     effects. First, lackluster operating per-
                   of regulation, and dynamic and intense                                        formance: only 69 of the top 500 banks
                   competition—have challenged banks’                                            reduced cost-to-assets while also in-
                   strategies. A number of financial indicators                                  creasing margins from 2009 to 2012.
                       Breakaway: How Leading Banks Outperform Through Differentiation                                                                                               29




     Exhibit 10


     Market leaders                     Performance classification of top 500 banks globally, 2012
                                        Percent
     follow one of                                         500

     five clear and                      Outperforming 2                    18%
                                                                                                                                                 Number
                                                                                                                                                 of banks
                                                                                                                                                                Share of assets of
                                                                                                                                                                all 500 banks1
                                                                                                                    Distinctive strategies
     distinctive
                                                                                                                    Global at-scale
     strategies                                                                                                     universal
                                                                                                                                                    7            12.8%

                                        Performing with
                                        the market 2                       36%                                      Balance sheet-light
                                                                                                                    investment specialist          9              2.4%


                                                                                                                    Distinctive customer
                                                                                                                    franchise                      22             8.6%



                                                                                                                    Back-to-basics                 25             5.5%
                                        Underperforming 2                  46%


                                                                                                                    Growth-market
                                                                                                                                                   27             4.4%
                                                                                                                    leader


                                              1
                                                  Total banking assets (including intangible assets, receivables, etc.)
                                              2
                                                  For full definition, see “Identifying outperformance” on page 30
                                        Source: Thomson Reuters, Capital IQ, McKinsey Global Banking Pools




                                        Second, underwhelming returns: 60 per-                                                        ment decisions and their operating ap-
                                        cent of the top 500 banks return less than                                                    proach. By eliminating distractions, they
                                        their cost of equity.                                                                         are able to execute more effectively.

                                        Further, the markets are unconvinced that                                                     Eighteen percent of the 500 banks we
                                        many banks will improve in the foresee-                                                       studied meet these three tests (Exhibit
                                        able future. By assigning them a price                                                        10). (See “Identifying outperformance” on
                                        lower than book value, the market expects                                                     page 30 for more on the analysis.) These
                                        63 percent of these underperformers will                                                      90 banks have benefited from their disci-
                                        not create value in the future (Exhibit 9).                                                   pline and performance, generating higher
                                                                                                                                      returns (ROE of 15 percent versus ROE of
                                        In contrast, outperforming banks combine
                                                                                                                                      7 percent for all other banks23), higher
                                        clear strategy, consistent execution, and
23
     Other banks include those                                                                                                        margins, and higher revenue growth.
     performing with the market and     the financial results needed to win in-
     underperforming banks; see
                                        vestor confidence. These banks have                                                           This has resulted in more value to share-
     “Identifying outperformance” on
     page 30 for definitions of these   made their primary approach to value cre-                                                     holders (22 percent total returns to share-
     groups. Returns on equity (ROEs)
     are simple averages; weighted by   ation clear to their boards, employees,                                                       holders (TRS) from 2009 to 2012 compared
     assets, the outperforming 90 had
     a 12 percent ROE, and other
                                        customers, and shareholders. Their                                                            with 8 percent for the rest). The market has
     banks 9 percent.                   strategies are paramount in their invest-                                                     awarded these banks higher P/B multiples
30                                                          Breakaway: How Leading Banks Outperform Through Differentiation




     Identifying
     outperformance


     We have long understood that geography is a key determi-            ■ We calculated a median for each primary indicator in each
     nant of financial performance for banks. In fact, the correla-        geographic market, based on the financial performance of
     tion between banks’ performance (ROE) and that of the                 banks headquartered there.
                                                                         ■ We identified banks that meaningfully outperformed their
     markets in which they operate is just over 50 percent. This is
     a consistent relationship; it has risen every year since we first
                                                                           markets on two or more of these primary performance in-
     examined it in 2008, when the correlation was 34 percent.
                                                                           dicators.
                                                                         ■ We compared those banks with multiple primary indica-
     In our new research, we sought to understand how banks can
     outperform—that is, how they can deliver results better than
                                                                           tors of outperformance across markets to identify consis-
     would be predicted simply by their “geographic destiny.” We
                                                                           tent patterns. For example, we found that banks with
     focused on publicly available information on 500 banks with
                                                                           cost/asset ratios below their market average often also
     assets of more than $1 billion in 2012. See the Appendix for
                                                                           have lower loan-loss provisions and higher dividend pay-
     more information on the databases used. Of these banks, 270
                                                                           out ratios. In another example, we found a set of banks
     were value-creating (that is, they had a price/book ratio of
                                                                           with very high margins and ROEs and also high tier-one
     greater than 1, based on book value at year-end 2012 and
                                                                           equity ratios and high cost/asset ratios.
                                                                         ■ From this analysis, we identified five consistent patterns or
     share prices as of September 2013). Given that financial re-
     sults can sometimes be an unreliable indicator of actual per-
     formance, we sought to combine science (an analysis of the            archetypes of outperformance. We created an initial set of
     available data) with art (expert opinion) to help inform the          rules or boundary conditions that would identify a bank
     strategic thinking of the industry. In so doing, we discerned         with an archetype. For example, we determined that a
     five strategies that are clearly creating value today.                “growth-market leader” must have higher growth and ROE
                                                                           than the average bank in their primary market; and that
     Data-driven analysis                                                  market must itself be growing by at least 5 percent annually.
                                                                         ■ As discussed below, we validated this data analysis with an
     We first engaged in a structured, data-driven review of pub-
     licly available financial information on the 270 banks with
                                                                           expert understanding of the strategies and execution ca-
     price/book ratio of greater than 1:
     ■ We identified a set of primary quantitative indicators of
                                                                           pabilities driving the observed differences in financial re-
                                                                           sults across the five archetypes of outperforming banks.
                                                                         ■ Finally, we engaged in an iterative process to refine our
       performance: revenue growth, cost/asset ratio, margin, re-
       turn on equity, and return on assets. We also looked at
                                                                           quantitative rules—to sharpen differences among the five
       some secondary or informational indicators, such as tier-
                                                                           archetypes and to enhance internal consistency within
       one equity ratio and dividend payout ratio.
                                                                           them. In the section “Five clear strategies for outperfor-
             Breakaway: How Leading Banks Outperform Through Differentiation   31




  mance” on pages 32 to 34, we identify the most relevant
  quantitative criteria for each strategy.

Expert validation
After this initial quantitative screening, 128 banks of the 270
with price/book ratio greater than 1 met our criteria for out-
performance. Recognizing that publicly available financial
results do not tell a complete story, and that banks’ operating
environments can have material and practical differences, we
then engaged in a qualitative review of the same 270 banks.
We considered publicly available information on their strate-
gies and activities. We also conducted a series of interviews
with in-house and industry experts.
Through this qualitative review, we eliminated many banks
from the outperformer category; these were primarily small
banks from emerging markets with anomalous financial re-
sults. We also added several banks that did not meet all the
quantitative financial criteria we established, but —in the
view of our experts— owed their value creation to choosing
and executing one of the five clear strategies.
This analysis thus identified three groups of banks within the
500 we studied. First, 90 were identified as outperformers
with strategies, execution, and financial performance that
create value today. Second, 180 were identified as “perform-
ing with the market,” generating price/book greater than 1
largely due to their favorable geography. Third, 230 other
banks have a price/book ratio of less than 1. In this third
group, some are midway through strategic transformations
that should in time be recognized by the market. Others are
more muddled and still trying to do too many things.
32                                                                        Breakaway: How Leading Banks Outperform Through Differentiation




                   (2.0 versus all others at 1.0). Nor is this a                              Five clear strategies for
                   one-time event: the P/B of these 90 banks                                  outperformance
                   has risen 5 percent since 2008, whereas                                    While the 90 leading banks are geographi-
                   other banks in the sample saw a decrease                                   cally diverse, the number of strategies
                   of 19 percent over the same period.                                        they follow is surprisingly small. In fact, all
                   The 90 outperformers come from all over                                    90 can be reasonably classified into one
                   the world, including several banks in each                                 of five clear strategies:
                   of Africa, Asia, Europe, Latin America,                                    ■ Distinctive customer franchises:
                   South America, and North America. Sur-                                       Banks using this strategy deliver
                   prisingly, despite the macroeconomic                                         growth and returns by providing a no-
                   headwinds in the developed world, the                                        tably exciting customer experience
                   outperformers are primarily concentrated                                     from beginning to end, for which cus-
                   in these markets (59 percent, holding 86                                     tomers are willing to pay a premium.
                   percent of the outperformers’ assets and                                     (Not every market has such a customer
                   representing 75 percent of the group’s                                       base.) Serving customers well is impor-
                   market capitalization) (Exhibit 11). US                                      tant in other strategies, but the objec-
                   banks are prominent (26 percent of the 90                                    tives are different. Customer-franchise
                   outperformers, 30 percent of assets, and                                     banks typically focus on retail and
                   29 percent of market cap).                                                   commercial clients; the strategy is


Exhibit 11


The five distinc-   Geographic distribution of top 500 banks globally, 2012
                   Percent
tive strategies                 100% =           500                                    180        90
                                                                                                                               Developed market

are found every-                                                                                                               Emerging market
                   North America                 18%
where, but are                                                                      28%
                                                                                                  32%

concentrated       Western Europe                17%
                                                                                        4%
in developed                                                                            9%
                                                                                                  19%
                                                                                        8%
markets            Other developed               22%

                   China                                    4%                                    9%    2%


                                                                                    51%
                   Other emerging                40%                                              38%




                                              Top 500                      “Performing with   Outperforming
                                               banks                      the market” banks       banks

                   Source: Thomson Reuters, Capital IQ, McKinsey Global Banking Pools
   Breakaway: How Leading Banks Outperform Through Differentiation                                              33




                     more difficult to achieve with corporate    ■ Growth-market leaders: These banks
                     and institutional clients. To make the          deliver strong top-line growth by out-
                     grade, banks must have an after-risk            performing others in fast-growing mar-
                     margin at least 10 percent higher than          kets. These banks have better growth
                     the market average. They are also               rates and ROEs than the market aver-
                     readily distinguished by well-designed          age, and a growth rate in home mar-
                     products, a market-leading digital offer-       kets of more than 5 percent annually.

                                                                 ■ Global at-scale universals: These
                     ing, high share of wallet, and high cus-
                     tomer-loyalty scores.
                                                                     banks deliver steady profit growth
                  ■ Back-to-basics banking: This strat-              through a relentless quest for global
                     egy delivers steady profit growth               economies of scale and scope. To be
                     through a simple proposition, sustain-          included in this category, banks must
                     able cost advantages, and tightly man-          derive more than 30 percent of their
                     aged risk. These banks have a                   revenues from operations outside their
                     cost-to-assets ratio 30 basis points            home market(s), and at least 20 per-
                     lower than the market average and               cent each from retail and wholesale
                     have a dividend-payout ratio of more            banking.
                     than 20 percent.
                                                                 Exhibit 12 (page 34) shows the financial
                                                                 results of following a strict strategy and
                                                                 identifies the different sources of strength
   The top 90 banks have been                                    for each.

successful by adhering to a set of                               Of course, as explained in “Identifying
principles specific to their strategy.                           outperformance” on page 30, many banks
                                                                 outside the 90 top banks have attempted
                                                                 one of these strategies. In and of itself,

                  ■ Balance-sheet-light investment
                                                                 picking a strategy is no guarantor of suc-
                                                                 cess. Outperforming banks have chosen
                     specialists: These banks deliver
                                                                 one strategy and focused on execution,
                     strong returns by focusing on value-
                                                                 as we discuss next, and markets have re-
                     added, technology-intensive, low-risk
                                                                 ceived the message.
                     institutional services while avoiding
                     capital-intensive activities. The crite-
                                                                 How outperformers create value
                     ria for this group includes a revenue/
                                                                 The top 90 banks have been successful
                     assets ratio of more than 10 percent
                                                                 by adhering to a set of principles spe-
                     and a capital/assets ratio of more
                                                                 cific to their strategy. In this section, we
                     than 15 percent, and they must derive
                                                                 discuss the characteristics of each strat-
                     more than 50 percent of their group
                                                                 egy, and its principles. We have also
                     revenue from wealth- and asset-man-
                                                                 chosen familiar examples to illustrate
                     agement activities.
34                                                                                Breakaway: How Leading Banks Outperform Through Differentiation




                     them, though of course there are many                                                           that customers are willing to pay more for
                     examples of banks successfully execut-                                                          it. Investing in a distinctive offering can be
                     ing these principles. The examples are                                                          expensive; these banks typically have a
                     drawn from both outperforming banks                                                             higher cost/asset ratio than the average
                     and market performers that excel on a                                                           player in their market. But they use these
                     few elements of a strategy, but for vari-                                                       investments to power higher margins;
                     ous reasons have not yet been recog-                                                            their cost/income ratios are strong.
                     nized by markets for their strong
                     performance.                                                                                    Banks such as US-based Wells Fargo &
                                                                                                                     Company and India’s HDFC Bank empha-
                     Distinctive customer franchises                                                                 size superior, comprehensive offerings to
                     Banks following this strategy deliver a su-                                                     retail and commercial customers. They
                     perior customer experience that is re-                                                          are selective in how they serve corporate
                     warded by premium economics. By no                                                              customers—typically “championing” na-
                     means are they the only banks that value                                                        tional corporates whom they know well,
                     their customers; the difference is that they                                                    rather than facing global universal banks
                     deliver something that is so much better                                                        head-on in international markets.

Exhibit 12


The five winning      Selected performance
                     measures of top 500 banks
                                                                                          Growth-market leaders
                                                                                          Balance sheet-light investment specialists
                                                                                                                                                    Back-to-basics
                                                                                                                                                    Global at-scale universals
                                                                                                                                                                                        75th percentile

                                                                                                                                                                                        0.0    Mean
                     globally, 2012
strategies create    Percent
                                                                                          Distinctive customer franchises
                                                                                                                                                                                        25th percentile

value in different
                      ROE                                      ROA                                  Margin                              Cost-to-assets                  Revenue growth2
ways
                      22                                       2.5                                  12                                  12                             25



                                  18.8                                                                                                  10                             20
                      18                                       2.0                                  10
                                                                          1.8                                                                                                    17.2
                                            16.8
                                                                                                                                         8                             15
                      14                                       1.5                                   8
                                                    13.6                          1.3                                                                                                     11.6
                                     12.0                                                                                                6                             10

                                                               1.0                                       6.1
                      10                                                    1.0                      6
                                                                                        0.9                                                                                                   6.7   6.8
                                                                                                                                         4                              5
                                                                                                                                                   3.7
                                                                                                               4.6   4.7
                                                                                                                                             3.0
                        8                                      0.5                                   4                      4.2                      2.6                            0.7
                                                                                                                                                                                    0
                                                                                                                                                           2.4   2.5
                                                       7.1                                    0.4                                        2                              0
                                                                                                                                  3.6



                        4                                        0                                   2                                   0                              -5


                            1
                                Assets and equity adjusted for goodwill
                            2
                                2008-12 CAGR
                       Note: Outliers excluded (e.g. >40% margin, -31% revenue growth)
                     Source: Thomson Reuters, Capital IQ, McKinsey Global Banking Pools
Breakaway: How Leading Banks Outperform Through Differentiation                                              35




               Nordea is successfully executing many el-          tionship banking for the segments that
               ements of the distinctive customer fran-           appreciate it.

                                                             ■ Invest in a superior customer expe-
               chise strategy. It views its dealings with
               customers not as a series of isolated
                                                                  rience while focusing on efficiency be-
               transactions, but as an ongoing and “end-
                                                                  hind the scenes, in commoditized
               to-end” relationship. The bank fully com-
                                                                  activities.
               mits to customers that commit to it; these
               “relationship customers” have more than       ■ Establish and defend premium pric-
               five products, worth at least €30,000 in           ing for services that deliver superior
               either savings or loan volume. It provides         value while also creating pricing struc-
               dedicated banking advisors to relationship         tures that can attract new customers
               customers, and special branches to give            and reward loyal customers.

                                                             ■ Promote a truly customer-centric
               them advice. Over the years, the bank has
               invested in a robust digital experience;
                                                                  mentality, a view that is creative, dy-
               more than 85 percent of the households it
                                                                  namic, sincere, and united around the
               serves do their banking online. Front-line
                                                                  goal of making customers’ lives and
               staff spend more than 40 percent of their
                                                                  businesses better.
               time with customers—an unusually high
               figure. As is typical of banks using this
                                                             Back-to-basics providers
               strategy, the bank achieves a price pre-
               mium, while staying in a competitive          Banks in this group deliver steady profits

               range. Finally, it has invested in lean im-   through continual de-risking and by estab-
               provements and has started to move to         lishing an enduring cost advantage of
               straight-through processing in the back       some kind. The strategy responds to a
               office, boosting productivity.                deeply felt desire for simplicity on the part
                                                             of many customers and stakeholders, in-
                                                             cluding investors. Banks that exhibit char-
                                                             acteristics of this strategy include
   Back-to-basics banks                                      Comerica in the United States and Swed-
    naturally derive their                                   bank in Europe.

  competitive strength from                                  Back-to-basics banks naturally derive
                                                             their competitive strength from excellence
     excellence in cost.                                     in cost. Cost is a foremost consideration
                                                             in every choice they make, from the
                                                             board room to the stock room. They
                                                             serve customers well, but unlike distinc-
               These banks follow several consistent
                                                             tive customer franchises, they pass some
               guiding principles:
                                                             of this cost advantage on to their cost-
               ■ Deliver value and convenience in            conscious customers: pricing leadership
                  meeting the full range of customers’       keeps their margins a little worse than the
                  needs. These banks enable true rela-       market average.
36                                           Breakaway: How Leading Banks Outperform Through Differentiation




                 M&T Bank serves the Northeast and mid-         ■ Maintain a “no surprises” balance
                 Atlantic regions of the United States,           sheet with a preference for “vanilla”
                 where it has successfully deployed sev-          risks.

                                                                ■ Develop a “tight ship” culture, in
                 eral elements of this strategy. It has per-
                 formed very well, even through the
                                                                  which management and employees are
                 financial crisis, by maintaining a low cost
                                                                  closely aligned on priorities.
                 structure (its cost-efficiency ratio is more
                 than 10 percent lower than most US
                                                                Balance-sheet-light investment spe-
                 banks), staying conservative in its credit
                                                                cialists
                 underwriting, and providing solid cus-
                                                                Firms that exhibit characteristics of this
                 tomer service. Its consistently strong per-
                                                                strategy include those traditionally fo-
                 formance has made it a core holding of
                                                                cused on asset management for retail and
                 Warren Buffet.
                                                                private clients, such as Julius Baer; in-
                                                                vestment-services specialists like BNY
                                                                Mellon and State Street; and investment
       Investment specialists generate                          banks undergoing reinvention, like UBS.
     most of their superior performance                         Investment specialists generate most of
     from margins that are much higher                          their superior performance from margins
                                                                that are much higher than the market av-
     than the market average, and from                          erage, and from a lower asset base. BNY
             a lower asset base.                                Mellon is a familiar example of several ele-
                                                                ments of this strategy. Over the course of
                                                                the past 20 years, the one-time Bank of
                                                                New York underwent a profound transfor-
                 The guiding principles for these banks in-
                                                                mation, from traditional money-center
                 clude:
                                                                bank to one of the largest asset managers
                 ■ Deliver a simple and clear value             and servicers in the world. It got there by
                   proposition, providing customers with        shedding retail-banking operations in
                   “just what it says on the tin.”              2001 and 2006, and refocusing its corpo-

                 ■ Maintain a defensible cost advan-
                                                                rate-banking franchise on cash manage-
                                                                ment and other transaction services. It
                   tage, by relying on a simple business
                                                                made dozens of strategic acquisitions to
                   model, relentless cost focus, and pro-
                                                                build economies of scale in technology-in-
                   grammatic M&A to build economies of
                                                                tensive core businesses—crowned by its
                   scale.
                                                                2006 acquisition of Mellon Financial.
                 ■ Become a low-cost price leader,              Today, BNY Mellon is seeking to innovate
                   passing part of the cost advantage on        in the face of regulatory change, for ex-
                   to customers in the form of lower            ample, by making a focused push to be-
                   prices.                                      come a leader in collateral-management
                       Breakaway: How Leading Banks Outperform Through Differentiation                                               37




                                       services.                                      scale those cities and micromarkets in
                                                                                      which growth is happening fastest.24
                                       These institutions thrive by doing a num-
                                                                                      These banks use their outstanding cus-
                                       ber of things very well:
                                                                                      tomer proposition primarily for acquisition.
                                       ■ Stay on the leading edge with “high
                                                                                      Standard Chartered has for some time
                                         IQ” products that meet customers’
                                                                                      been a well-recognized example of four
                                         rapidly changing needs
                                                                                      growth-market leadership principles. First,
                                       ■ Manage risk intermediation skill-            it chose a forward-thinking geographic
                                         fully, with well-developed distribution      portfolio, almost entirely in high-growth
                                         capabilities to minimize balance-sheet       markets in Asia, the Middle East, and
                                         size                                         Africa. Second, it developed a compelling

                                       ■ Deliver agility at scale—both rapid
                                                                                      proposition for customer acquisition (es-
                                                                                      pecially in middle market, less so in con-
                                         application development and a robust,
                                                                                      sumer), thanks to a global business that
                                         reliable platform

                                       ■ Balance sophisticated productivity
                                                                                      works closely with each country business
                                                                                      to maximize relevance and local appeal.
                                         management in the front office with          That operating model has been a third
                                         intense focus on efficiency in the mid-      strength: country CEOs concentrate on
                                         dle and back offices                         top-line business performance, supported
                                                                                      by COOs who work with global functions
                                       Growth-market leaders
                                                                                      to ensure efficiency and effectiveness. Fi-
                                       This strategy is used both by local banks      nally, the bank's culture celebrates its in-
                                       in strong growth economies in which the        ternational diversity and respects the
                                       financial system is taking off (such as        unique qualities of the countries in which
                                       Bank OTP in Eastern Europe) as well as         it operates.
                                       multilocal players with a strong presence
                                                                                      These banks succeed by doing a number
                                       in several growth markets (such as Stan-
                                                                                      of things very well:
                                       dard Chartered). These banks have gone
                                       beyond market beta-type returns by driv-       ■ Initiate bold, early, at-scale entry
                                       ing innovation, bringing the best of the de-      into attractive cities and countries, an-
                                       veloped world to emerging high-growth             ticipating future demand rather than
                                       markets, and shaping the financial system.        waiting until it has arrived

                                                                                      ■ Promote an assertive, “take the
                                       They proactively seek out hotspots of
                                       growth, and may use different approaches
                                                                                         hill” mentality, empowering local talent
                                       to suit each market. Value creation comes
24
     See Yaw Agyeniw-Boateng,
                                                                                         to take initiative (while referring to a
                                       from shrewd timing and agility, rather than
     Richard Dobbs, James Manyika,                                                       consistent playbook)
     Jaana Remes, Sven Smit, and       standard processes. In this way, growth-
                                                                                      ■ Shape the market with a compelling
     Jonathan Woetzel, "Urban world:
     The shifting global business      market leaders get past the problem of
     landscape,” McKinsey Global
     Institute, mckinsey.com, June
                                       “geography is destiny.” Using leading-            offer that can dislodge traditional com-
     October 2013.                     edge techniques, they identify and enter at       petitors
38                                          Breakaway: How Leading Banks Outperform Through Differentiation




                 ■ Develop unique insights into non-          today, a much better performance than
                   transparent risks—for example,             the local market average.
                   building highly predictive qualitative
                                                              The low number of banks successfully
                   risk-assessment models for data-poor
                                                              executing this strategy attests to its diffi-
                   markets
                                                              culty. Success is likely to become even
                                                              more elusive. As wages escalate, global
                                                              economic arbitrage is becoming more
       Global universals trail market                         difficult. With that, banks’ internal trans-
                                                              fer pricing is becoming trickier, and cus-
      averages on margins, but their
                                                              tomer focus and efficiency may come
          immense scale results in                            under pressure.
        superior cost performance.                            HSBC’s network of servicing centers ex-
     These players tend to deliver ROE                        emplifies the kind of transformational
                                                              change and operational sophistication
       at or near COE today, a much                           required to realize the benefits of global
     better performance than the local                        scale. It was a pioneer in adopting
                                                              global offshoring at scale: nearly 60 per
              market average.                                 cent of the group’s operations and IT
                                                              are conducted in the network. HSBC or-
                                                              ganizes its shared services through a
                 Global at-scale universals                   unique combination of products and ge-
                                                              ographies: for example, the mortgage
                 Only 7 banks are outperforming with this
                                                              servicing group processes most of the
                 model today, though many more are try-
                                                              mortgages sold in nearly all the coun-
                 ing. Global universal banks serve cus-
                                                              tries (except Hong Kong) in which the
                 tomers well by delivering an
                                                              bank provides this product. The ap-
                 unparalleled range of products, serv-
                                                              proach extends to IT as well; the bank
                 ices, and geographic coverage, including     has just 4 global data centers. Applica-
                 both fast- and slow-growth markets.          tion development is done on a family of
                 They provide strong returns to sharehold-    global cross-product platforms called
                 ers through a relentless quest for           HUB (HSBC Universal Banking). Cus-
                 economies of scale and scope. The strat-     tomization for country or line of busi-
                 egy can be effective whether the bank is     ness is infrequent. The benefits of global
                 organized as a “multilocal,” or around       scale have been a dependable source of
                 global product lines.                        strength: the bank’s cost-to-income and
                                                              cost-to-assets ratios are consistently
                 Global universals trail market averages on
                                                              lower than its peers.
                 margins, but their immense scale results
                 in superior cost performance. These play-    The guiding principles for these banks in-
                 ers tend to deliver ROE at or near COE       clude:
Breakaway: How Leading Banks Outperform Through Differentiation                                               39




               ■ Offer a broad range of products                  individual responsibility is paramount to
                  and services across geographies                 success and survival.

                                                                                ■   ■     ■
                  and channels in sufficient depth to en-
                  able economies of scale and scope.

               ■ Successfully manage transforma-             These five strategies are ushering in a new
                  tional investment and change re-           age of differentiation in banking. Each of the
                  quired to realize a consistent,            outperforming 90 banks has chosen one of
                  integrated technology platform and op-     these strategies and is consistently execut-
                  erating model.                             ing it. Many others are creating value prima-

               ■ Relentlessly reduce costs by contin-
                                                             rily because of their geography. Several
                                                             banks seem to be doing nearly as well as
                  ually improving and simplifying ways of
                                                             the outperformers, but have not yet received
                  working in complex activities.
                                                             recognition from the market. The rest seem
               ■ Maintain an unassailable balance            to be operating with indistinct strategies.
                  sheet, capitalizing on information ad-
                                                             As we discuss next, as more banks adopt
                  vantages and diversification benefits
                                                             differentiating strategies, especially if many
                  while avoiding “tail risk” surprises.
                                                             embrace the return-to-basics strategy that
               ■ Promote a conservative risk cul-            this commoditizing, heavily regulated in-
                  ture—given the complexity of these in-     dustry requires, the sector may take a big
                  stitutions and the risks they face,        step forward in its return to value creation.
40                       Breakaway: How Leading Banks Outperform Through Differentiation




     Developing a Strategy for Out-
     performance: Steps for Banks
     And a Path for The Industry
     In today’s dynamic market, every bank must continue to
     innovate and improve. Outperformers cannot afford to rest
     on their laurels; the pressures are too great, and the forces
     of creative destruction are too strong. Even outperforming
     banks need to take action to ensure sustained success.

     Other big banks that aspire to industry leadership have a
     different and in some cases more daunting task. As the top
     banks pull away, the pressure rises on others to invest in
     digital capabilities, better underwriting skills, stronger risk-
     management capabilities, and so on. It will become
Breakaway: How Leading Banks Outperform Through Differentiation                                                41




               progressively harder to match leading-           Staying ahead
               edge skills at the scale and sophistication      For those in the outperforming 90, life is
               of the market leaders. Moreover, cus-            relatively good. But the level of perform-
               tomers’ perceptions are becoming more            ance required to stay ahead will rise as
               acute. In the past, differences among            the industry recovers from the crisis and,
               banks were not always visible to cus-            as we discuss below, other banks attempt
               tomers. That is changing, and banks can          to fight their way into the top tier.
               expect to see more customers sign up
               with banks that deliver on their promises,       To consolidate their lead, the outperform-
               and drop those that don’t.                       ing banks will need to continue to im-
                                                                prove within their chosen distinctive
               To join the industry leaders, a bank will        archetype. For two strategies in particu-
               need to understand which of the five             lar, remaining on top will be difficult in-
               strategies best suit it, given its circum-       deed. First, in the global universal model,
               stances. Some common paths are likely            we estimate that fewer than 10 banks will
               to develop; notably, many banks are likely       be capable of staying ahead of a com-
               to find their best fit is with the back-to-ba-   plex array of challenges. Success will de-
               sics approach, a good match for an envi-         mand bold choices to distinguish areas
               ronment in which some businesses are
                                                                in which the banks seek global preemi-
               less attractive than they used to be.
                                                                nence from those that merit a more fo-
                                                                cused, niche approach. It will demand
                                                                continual innovation to compete effec-
   Slowing growth markets                                       tively with increasingly strong national
                                                                banks. It will also require global cost
   will separate the wheat
                                                                transformation at a scale and complexity
        from the chaff.                                         unprecedented in banking.

                                                                Growth-market leaders have another sort
                                                                of problem: some of the fast-growth ge-
               We expect to see more transactions activ-
                                                                ographies on which they depend are
               ity, as big groups get smaller and small
                                                                slowing down, and other attractive mar-
               underperformers merge with more capa-
                                                                kets may be closed to acquisition or new
               ble competitors. Industry utilities will also
                                                                entrants. Success will go to banks that
               likely play an important role, particularly
                                                                are ever more painstaking and thoughtful
               for those services that back-to-basics
                                                                about growth, finding specific, very attrac-
               banks want to offer at low cost.
                                                                tive opportunities hidden within disap-
               If banks take up this agenda and execute         pointing averages. We expect that the
               their chosen strategies, the shape of the        number of banks succeeding with this
               industry will change considerably, and its       model will decline significantly; the slow-
               health will improve. That will benefit in-       ing of markets will separate the wheat
               vestors, customers, and the public.              from the chaff.
42                                           Breakaway: How Leading Banks Outperform Through Differentiation




                In all five strategies, one area in which top   Catching the leaders
                banks (indeed, most banks) should invest        The position for many of the other 410
                effort is digital capabilities. The stakes      large banks is concerning. They are strug-
                here are high: banks (especially those          gling with sub-1 price-to-book ratios, an
                using the distinctive customer strategy)        ROE that lags behind COE, slow growth—
                aspire to provide advanced interfaces and       and in some cases all three. With the
                ubiquitous connectivity for customers,          economy subdued in developed markets
                and next-generation computing and big-          and slowing in emerging ones, they will
                data analytics for staff. If they get the       likely be unable to grow out of their prob-
                technology right, banks can propel im-          lems. Even if growth exceeds expecta-
                provement in many areas: the customer           tions, other forces such as financial
                experience, product and service innova-         nationalism, new regulation, and intense
                tion, distribution, revenue and risk opti-      competition could place a low ceiling on
                mization, corporate strategy, and others.       banks’ upward trajectory.

                                                                The aspiring 410 fall into two categories;
                                                                both groups trail the industry leaders by a
     Nearly half of the top 500 global                          wide margin (Exhibit 13). The first group,
                                                                consisting of 180 banks, is performing
     banks are in the second group,
                                                                with the market; these banks have suc-
            underperformers.                                    cessfully ridden economic momentum to
                                                                achieve satisfactory performance, with
                                                                total shareholder returns of 21 percent
                That said, digital skills and the investment    from 2009 to 2012 and a current price-
                to build them will be different in each of      to-book ratio of 1.5. However, the tail-
                the strategies. For example, growth-mar-        winds that have propelled them—strong
                ket leaders need compelling online offer-       GDP growth, commodity booms, and so

                ings to attract and retain new customers.       on—are unlikely to continue. Many banks

                Investment specialists should have two          in this group have also enjoyed the bene-
                                                                fit of the doubt from their investors; all
                digital aspirations: a strong “straight-
                                                                banks in this group have a P/B greater
                through” offering for mature trading and
                                                                than 1, but roughly 40 percent have
                processing activities, and new services
                                                                ROEs that trail their COE. Bank leaders
                and interfaces that can provide additional
                                                                would be unrealistic to expect this to
                value to customers as well as strengthen
                                                                continue for very long.
                the bank/customer bond. A third exam-
                ple: distinctive customer franchises will       Nearly half of the top 500 global banks
                need advanced data-analytical skills to         are in the second group, underperform-
                drive sales and sufficient integration of       ers. These banks have the biggest chal-
                digital and physical channels to provide        lenge to improve their fortunes: they will
                customers with a seamless experience.           have to further reduce their risk-weighted
             Breakaway: How Leading Banks Outperform Through Differentiation                                                                                                 43




                            assets, significantly reduce costs, and                                                       out a strategy; rather, investors expect
                            simplify their business focus, all before                                                     banks to make starker strategic choices,
                            they can chart a course to join the outper-                                                   and be more precise about how they will
                            forming 90. Put another way, they will                                                        improve performance. Some market per-
                            have to draw liberally from the triple-                                                       formers may have strong strategies and
                            transformation agenda set out a year ago.                                                     may even be executing them well, but the
                            With a current P/B for the group of 0.5,                                                      market for some reason does not recog-
                            many will be challenged to achieve sus-                                                       nize it. Some underperformers may al-
                            tainable returns; in an increasingly Darwin-                                                  ready be recovering, with the foundations
                            ian industry, many will likely become                                                         of a strong strategy in place, and can ex-
                            targets for stronger rivals.                                                                  pect that in time markets will come to ap-
                                                                                                                          preciate their new direction.
                            Setting the strategy: Surveying the
                                                                                                                          For many banks in both groups, however,
                            options                                                                                       a strategic reset is in order. As the previ-
                            Both market performers and underper-                                                          ous chapter outlined, the choice comes
                            formers need to define and deliver a dis-                                                     down to one of the five strategies de-
                            tinctive strategy. This does not mean that                                                    ployed by top-performing banks. Three of
                            these banks are currently operating with-                                                     the five (global at-scale universal, bal-


Exhibit 13


Markets are                 Price-to-book ratio, 2008-20121
                            Indexed, 2008 =100 percent
rewarding banks
that successfully           130%
                                                                                                                                                ∆ P/B, 2008-12   P/B, 2012
execute the five             120%
                                                                                                                                                Percent
distinctive                 110%
                                                                                                                             Outperforming 90    +5%              2.0x
strategies                  100%

                              90%                                                                                            Performing with
                                                                                                                             the market          -12%             1.5x

                              80%

                              70%

                                                                                                                             Underperformers     -37%             0.5x
                              60%

                                0%
                                       2008               2009                  2010                   2011               2012


                                  1
                                      Arithmetic average of banks with assets of more than $1 billion at year-end 2012.
                            Source: Thomson Reuters, Capital IQ, McKinsey Global Banking Pools
44                                           Breakaway: How Leading Banks Outperform Through Differentiation




                ance-sheet-light investment specialist,          Given these challenges, many banks will
                and growth-market leader) have clear bar-        need to choose between investing to be-
                riers to success that any aspiring bank          come a distinctive customer franchise and
                must consider.                                   downshifting to a back-to-basics strategy.
                                                                 While the former is certainly more exciting
                Start with the global universals. As noted,
                                                                 for management teams to pursue, many
                regulation, difficulty in cutting costs to the
                                                                 would be better off with the second op-
                levels needed, the rise of strong competi-
                                                                 tion. For most undifferentiated banks, a
                tors in overseas markets, and the chal-
                                                                 distinctive customer franchise requires a
                lenges of managing a complex
                                                                 significant investment in areas such as
                organization make this a challenging aspi-
                                                                 customer marketing analytics, digital
                ration for almost all banks; fewer than 10
                                                                 technology, frontline sales specialists, and
                are likely to succeed.
                                                                 new credit-underwriting platforms. Banks
                                                                 will have to be able to identify with clarity
                                                                 and certainty the unique (not just unusual)
      While the distinctive customer                             benefits that they provide customers with
      franchise strategy is certainly                            today, and on which customers choose a
                                                                 bank. Banks have to be able to depend
     more exciting, most banks would                             on extraordinarily deep customer relation-
           be better off with a                                  ships, loyalty, and satisfaction.

          back-to-basics model.                                  Back-to-basics is likely to be the favored
                                                                 strategy for banks that are drifting. Obvi-
                                                                 ously, aspirants to this model will have to
                The balance-sheet-light model requires at        reduce expenses in many areas, such as
                least one of the following at-scale busi-        product development and management of
                nesses: a wealth-management or asset-            the branch network. But they will also re-
                management business, a transaction-              quire superior, industrial-like processes,
                processing business, or a securities and         from “design for manufacture” in product
                investment-banking franchise. All are ex-        development to “lean” approaches in
                ceptionally difficult to build from scratch.     sales, product delivery, customer service,
                                                                 and technology.
                And growth-market leadership is location-
                and context-dependent. A developed-              Most successful customer-franchise and
                market bank with no presence in high-            back-to-basics banks are smaller and
                growth geographies is unlikely to succeed        more focused than global universal banks.
                with organic entry. It will be challenging       To achieve success with one of these two
                enough for established growth-market             smaller strategies, some of the largest
                leaders to unearth “hot” opportunities as        banking groups that are currently strug-
                the overall market cools.                        gling will need to make sizable divestitures
                        Breakaway: How Leading Banks Outperform Through Differentiation                                                   45




                                          or even break up their banks. The strategic    Even this rough approximation may be
                                          focus required to succeed, combined with       enough for banks to knock a couple of
                                          the organizational penalty of being a com-     models from consideration. To gain more
                                          plex global organization,25 as well as the     precision, they can then compare their
                                          higher capital requirements associated         current performance with the market lead-
                                          with size, will force many large banks to      ers on their short list of models. For exam-
                                          pare back to a model where they benefit        ple, many market-performing and
                                          more clearly from a sustainable advantage.     underperforming banks will find that the
                                                                                         jump to global universal is too difficult, and
                                          Setting the strategy: How strong is            their configuration unsuited to becoming
                                          the fit?                                       an investment specialist. For some, it will
                                          These strategic choices will not come          make sense to think about a growth-mar-
                                          easily; in fact they go against the grain at   ket strategy (though this strategy, as dis-
                                          many banks that have become accus-             cussed, has some critical dependencies).
                                          tomed to decades of growth. Nor is cul-        If these banks cannot access growth mar-
                                          ture the only problem of adaptation. In        kets, their choices will boil down to two:
                                          every respect, banks will need to assess       distinctive customer franchise or back to
                                          the fit between their current capabilities     basics. Many banks will gravitate toward
                                          and the business models that actually          the former, but they should pause to see
                                          create value.                                  how they fare on several critical metrics.
                                          One good way to start is by thinking           How much of their customers’ current
                                          through the effect of a given strategy on      spending do they enjoy? The outperforming

                                          the way core functions are organized and       banks that use this strategy routinely re-

                                          managed. Consider technology. For the          ceive 40 percent or more. How do they do

                                          global universal bank, the technology          on customer loyalty? Top banks are recom-

                                          strategy is focused on continual upgrades      mended by their customers more than 80
                                                                                         percent of their time. What about margins?
                                          to systems, to boost capacity, lower
                                                                                         If the bank’s margins are only market aver-
                                          costs, and provide customers with greater
                                                                                         age, then there’s work to do: leading banks
                                          flexibility across markets and products.
                                                                                         using this strategy typically charge 20 to 50
                                          For the back-to-basics bank, the focus is
                                                                                         basis points more than their competitors. If
                                          almost exclusively on lowering costs while
                                                                                         the bank comes up short on several of
                                          maintaining integrity and coherence
                                                                                         these metrics, as many are likely to do,
                                          across systems. Balance-sheet-light in-
                                                                                         then they should assess their fitness for a
                                          vestment specialists prize rapid applica-
                                                                                         return to the basics, something that many
                                          tion development above all. In this same
                                                                                         banks are likely to be able to do.
                                          way, each function (marketing/pricing, risk
25
                                          management, asset/liability management,        Asking these kinds of questions can en-
     Martin Dewhurst, Jonathan
     Harris, and Suzanne Heywood,         and so on) will vary markedly from one         sure that banks are not setting their sights
     “Understanding your globalization
     penalty,” mckinsey.com, July 2011.   strategy to the next.                          on an unreachable goal.
46                                         Breakaway: How Leading Banks Outperform Through Differentiation




              Setting the strategy: The industry               public cannot continue to shoulder the bur-
              context                                          den of banking failure, but overcapacity is
              As the sails of the global economy con-          only easily reduced through consolidation.
              tinue to sag, it is becoming clear that
                                                               The transfer of ownership of banking as-
              many banking markets and products suf-
                                                               sets, potentially on a vast scale, is one
              fer from overcapacity. Some consolidation
                                                               development that strategists will have to
              may be on the way. Many banks will likely
                                                               factor in to their calculations. Another
              exit businesses in which scale is elusive;
                                                               such trend is the rise of industry utilities
              other businesses that are not core to their
                                                               and third-party solutions. Some banking
              strategy, or that consume too much capi-
                                                               activities, such as credit-card processing,
              tal, might also be put on the block. More-
                                                               merchant services, and mutual-fund ad-
              over, several banking businesses are still
                                                               ministration have long been in the hands
              held by government, which will likely want
                                                               of specialist firms. Today, many other ac-
              to return them to private hands, either
                                                               tivities are shifting away from banks and
              through flotation of shares or sales of en-
                                                               toward companies that can do them more
              tire businesses.
                                                               effectively and cheaply: cash manage-
                                                               ment, cross-border payments, current-
                                                               account servicing, and corporate actions,
      Today, many other activities                             among others. Tomorrow, other activities
     are shifting away from banks                              could follow this path, including risk rat-
                                                               ing, credit-risk management, personal-
      and toward companies that                                loan processing—even some core bank
     can do them more effectively                              systems might be more effectively man-
                                                               aged by others. As banking leaders con-
              and cheaply.
                                                               template their next move, they would do
                                                               well to examine their business for activi-
                                                               ties that might be shifted to others, help-
              Who will buy? The slack will likely be taken     ing them accelerate the transition to the
              up by incumbents growing their market            chosen business model.
              share—if regulators agree. Governments in
              many countries have resisted consolida-          Executing the strategy
              tion, reasoning that banking power is al-        With a strategy chosen and a fit con-
              ready too concentrated, and the                  firmed, banks can then develop a change
              accumulation of capital and risks in big         program, drawing on those triple-transfor-
              banks makes them difficult to wind down          mation levers that will lift the bank’s per-
              in the event of failure. To that end, a major    formance. As a case in point, consider the
              thrust of financial reform has been to pro-      program in which many banks will need to
              vide for effective resolution of failed banks.   go back to basics. Such a program is
              Regulators have a tricky balancing act: the      likely to feature a relentless attack on
Breakaway: How Leading Banks Outperform Through Differentiation                                               47




               costs. But to round out the economic           next several years. What follows is not a
               transformation, more will be needed:           single-point prediction of the future;
               banks will have to make tough decisions        rather, it is an illustration of how the in-
               to develop a coherent, integrated platform     dustry could evolve from its currently
               that can allow the bank to move down the       stagnating performance to a better and
               industry cost curve. And they will have to     sustainable structure.
               simplify their roster of products, and those
                                                              From the industry’s perspective, the most
               products’ prices, reducing their complex-
                                                              important result would be better econom-
               ity and cost. Risk taking will have to shift
                                                              ics. Consider a scenario in which overca-
               toward “vanilla” risks that are easily un-
                                                              pacity is mostly eliminated, with half of the
               derstood and transferred.
                                                              underperforming banks in the top 500 ac-
               The transformation of the business             quired by better performers. For the in-
               model, for these would-be basic banks,         dustry as a whole, ROE could return to 12
               should include the elimination of unnec-       percent or more (Exhibit 14, page 48).
               essary “bells and whistles” in their serv-     Risk-adjusted banking revenues might
               ice; in their core businesses, most            once again grow slightly faster than GDP
               service resolution should be automated.        as banks manage their underwriting more
               They will have to consider divesting units     carefully. Margins might rise to 3.5 per-
               that don’t square well with a basic ap-        cent on average, a bit better than the cur-
               proach: a retail business serving the af-      rent 3 percent.
               fluent in a noncore market would be a
                                                              In such a scenario, the industry would be
               prime candidate for disposal.
                                                              more stable, too, with most or all banks
               The cultural transformation would likely       earning better than their cost of capital.
               include the strengthening of a top-down        That in turn would benefit other stake-
               decision-making model, with only limited       holders. Investors would of course like
               discretion and authority at the front line.    the higher returns; in a virtuous circle,
               Risk limits and other rules will need to be    that will probably lower banks’ cost of
               strictly enforced. And compensation            equity. Governments would be pleased;
               must be structured to attract people who       rock-solid banks are more likely to lend,
               are suited to delivering the bank’s basic      boosting economic growth, and less likely
               products—fewer rocket scientists and           to get into trouble and require a costly in-
               more people who want to sell mortgages         tervention. Banks’ clients would enjoy
               and current accounts in a fair and             lower premiums for risk, safer and stead-
               friendly manner.                               ier returns on investments and savings,
                                                              and greater access to credit. In such a
               The industry resets                            scenario, bank employees would fare less
               If the industry takes up the proposed          well; the elimination of excess capacity
               agenda in sufficient numbers, we can an-       inevitably means that jobs will be lost—a
               ticipate several positive results over the     troublesome prospect, as it is unlikely
48                                                                             Breakaway: How Leading Banks Outperform Through Differentiation




Exhibit 14


Two views of the    Strategic classification of banks in 2020
                    Percent
industry’s future                                                                                                                                                                       Global at-scale
                      An inertia scenario                                                            A healthy industry scenario                                                        universal
reveal stark          Banks with clear distinctive strategy stay the                                 Full business-model transformation, 20% of
                                                                                                                                                                                        Growth-market
                      course; banks with a 2012 P/B>1 but                                            banks (50% of underperfomers) are taken over                                       leader
differences           ROE<COE relegated to underperformers                                           or merged
                                                                                                                                                                                        Balance-sheet-light
                     100% = 500 banks                                                                100% = 400 banks                                                                   investment specialists
                                                            1%                                                                               3%                                         Distinctive customer
                                                                        2%                                                                                                              franchise
                                                                4%               20%                                                                            54%
                                                                                                                                                 5%                                     Back-to-basics
                                                                          5%                                                                             4%
                                                                                                                                                                                        Performing with the
                                                                                                                    25%                                                                 market
                                                                                 7%
                                                                                                                                                              13%                       Underperforming




                              62%                                              18%
                                                                                                                 21%
                                                                                                                                                        30%




                    Source: Thomson Reuters, McKinsey Global Banking Pools




Exhibit 15


These changes         System ratios1 in an inertia scenario                                                              System ratios1 in a healthy industry scenario
can return the        Percent                                                                                            Percent
                                                                                                                                                                   ~80

industry to a                                                                                                                 ~12-13
sustainable ROE
                                                                                               ~30
of 12-plus
percent                        ~6-7


                                                                 ~3                                                                                            ~3.5
                                                                                 ~2                                                                                              ~2
                                                                                                                                                  ~1
                                                  -1
                                ROE 2                         Margin            C/A        Share of                               ROE 3      Revenue Margin                     C/A        Share of
                                            Revenue                                       banks with                                          growth                                      banks with
                                             growth                                       sustainable                                       minus GDP                                     sustainable
                                           minus GDP                                         ROE                                                                                             ROE


                          1
                              Changes in system ratios are assumed to be driven by reallocation among the different categories.
                          2
                              Additional global assumptions: LLP to assets, one-offs recover to pre-crisis level; 15% decline in leverage; 5% improvement in cost-to-assets; 5% decline in margins
                          3
                              Additional global assumptions: LLP to assets, one-offs recover to pre-crisis level; 15% decline in leverage; 5% improvement in cost-to-assets
                    Source: McKinsey Global Banking Pools
Breakaway: How Leading Banks Outperform Through Differentiation                                              49




               that other industries could provide suit-     looking for opportunities to sell noncore
               able opportunities for job seekers. Those     businesses at premium prices, or to build
               workers that remain with banks, however,      skills in risk management and managing
               would likely have more career options,        complexity; or both.
               steadier compensation, and more pre-
                                                             Banks that are currently market perform-
               dictable career paths.
                                                             ers or underperformers have their own
               Exhibit 15 lays out the banking landscape,    traps to avoid. Many will be tempted by
               should it evolve in the ways described        the distinctive-customer-franchise strat-
               above.                                        egy; its combination of ROE and growth

                                ■   ■    ■
                                                             potential make it tantalizing. But leading
                                                             banks can make this strategy seem
               Top banks need to be particularly mindful     easy, when in fact it is exceptionally diffi-
               of two pitfalls. The growth-market-leader     cult to pull off. The back-to-basics ap-
               strategy is only as good as the markets       proach is ultimately where most
               providing the growth; there will undoubt-     struggling banks will find success.
               edly be more of these, but it is an open      Banks that get caught in these traps are
               question whether the next phase of            more likely to be among the 20 percent
               macroeconomic growth will be as strong        of institutions worldwide that, in our esti-
               as the last one. And global universals will   mate, may become acquisition targets in
               need either a smart retrenchment plan,        the next several years.

                                                             Sandra Boss

                                                             Miklos Dietz

                                                             Fritz Nauck

                                                             Aditya Sanghvi

                                                             Rob Lentz




               The authors would like to acknowledge the contributions of Kate Armstrong,
               James Hoffman, and Ben Margolis to this report.

               Global Banking Pools: Krisztina Bákor, Jay Datesh, Attila Kincses, Máté Préda
50                                                          Breakaway: How Leading Banks Outperform Through Differentiation




Appendix


Definition of metrics
1. Revenues. Total customer-driven revenue pools after risk costs

2. Cost-to-income ratio. Operating expenses/total revenue pools before annual provisions for loan losses

3. Return on equity (ROE). Total accounting net income after taxes/average common equity

4. Capital ratio. Tier-one ratio, calculated as tier-one capital/risk-weighted assets

5. Loan-to-deposit ratio, Total nonsecuritized customer-lending volumes/total customer-deposit volumes

6. (Revenue) margin. Revenues before risk cost/total assets

7. Credit-default-swap (CDS) spreads. Used as a measure of perceived risk of the banking sector (in basis points)

8. Market multiples. Measured as the weighted average of individual banks’ price-to-book (P/B) and price-to-
     earnings (P/E) ratios within a specified country or region

Databases used in this study
We used two primary databases.

Global Banking Pools (GBP). A proprietary McKinsey asset, Global Banking Pools is a global banking database,
capturing the size of banking markets in 69 countries from Angola to the United States, across 56 banking prod-
ucts (with 7 additional regional models covering rest of the world). The database includes all key items of a profit-
and-loss income statement, such as volumes, margins, revenues, credit losses, costs, and profits. It is developed
and continually updated by more than 50 McKinsey experts around the world who collect and aggregate banking
data from the bottom up. The database covers the client-driven business of banks, while some treasury activities
such as asset/liability management or proprietary trading are excluded. It captures an extended banking landscape
as opposed to simply summing up existing bank revenues, including not only activities of traditional banks but also
of specialist finance players (for example, broker/dealers, leasing companies, and asset managers). Insurance
companies, hedge funds, and private-equity firms are excluded. The data covered for each country refer to bank-
ing business conducted within that region (for example, revenues from all loans extended, deposits raised, trading
conducted, or assets managed in the specific country). The data cover 12 years in the past (2000 to 2011) and 9
years of forecasts (2012E to 2020).

Thomson Reuters banking. A database of the key profit-and-loss, balance-sheet, and other financial metrics of
the top 500 banks by market capitalization, sourced from Thomson Reuters. All banks are clustered individually
into countries (based on their domicile), regions, and specific bank types (based on a classification of 14 different
bank types). The data cover 13 years (2000 to 2012), with a varying number of banks available in different years.
For price-to-earning (P/E), price-to-book (P/BV), and ROE aggregations, we used an extended sample of over
1,500 banks worldwide, again sourced from Thomson Reuters.

Additionally, we used data from a range of other sources (including the Organization for Economic Co-operation
and Development, the European Central Bank, and Bloomberg) to populate various indicators.
Breakaway: How Leading Banks Outperform Through Differentiation                                                                                                                                                                        51




2012 Country Financial Statistics
$ billion


   Region                                Country                         Stock values and volumes                                                                                                 Cross-border capital flows
                                                                         Financial               Market             Government                 Private            Non-securitized
                                                                         depth/GDP               capitalization     debt securities            debt1              loans                           Inflows              Outflows

  Western Europe                         Austria                         329%                       106                257                       384                562                           -10                   -3
                                         Belgium                         370%                       300                464                       272                631                           -68                 -67
                                         Denmark                         600%                       225                162                       759                738                             9                   34
                                         Finland                         325%                       159                 117                      164                373                            51                   32
                                         France                          373%                     1,823              2,049                     2,484              3,314                            82                 -38
                                         Germany                         299%                     1,486               2,178                    2,178              4,230                           182                 461
                                         Greece                          359%                        45                141                        97                567                            63                   56
                                         Ireland                         984%                       109                119                     1,203                563                            47                   42
                                         Italy                           350%                       480               2,183                    1,711              2,403                            14                    7
                                         Netherlands                     623%                       651                438                     1,899              1,438                          -100                  -13
                                         Norway                          333%                       253                104                       432                879                            18                 130
                                         Portugal                        473%                        66                164                       231                490                            -6                   -4
                                         Spain                           459%                       995                972                     1,452              2,517                            45                   55
                                         Sweden                          467%                       561                166                       610              1,121                            43                   68
                                         Switzerland                     468%                     1,079                112                       465              1,306                           116                 225
                                         United Kingdom                  524%                     3,019               2,224                    3,454              3,456                           -59                 -88

  Americas                               Argentina                        53%                        34               102                         40                 76                            12                    8
                                         Brazil                          189%                     1,230              1,436                       856              1,004                           115                   59
                                         Canada                          354%                     2,016              1,288                       812              2,319                           183                  120
                                         Colombia                        144%                      262                109                         14                143                            20                    9
                                         Mexico                          135%                      525                386                        292                383                            84                   58
                                         Peru                            112%                        97                 27                        19                 80                            13                   20
                                         United States                   464%                    18,668             14,042                    20,872              9,298                           416                   13

  Asia Pacific                            Australia                       372%                     1,286               569                      1,446              2,428                            85                   56
                                         China                           225%                     3,697              1,287                     2,500             10,992                           334                 451
                                         Hong Kong                       638%                     1,108                 95                       166                309                           151                 158
                                         India                           184%                     1,263               804                        184              1,106                            71                   24
                                         Indonesia                       105%                       397               137                         36                349                            41                   16
                                         Japan                           473%                     3,681             10,556                     4,036              9,953                           298                 355
                                         Korea                           383%                     1,180               419                      1,024              1,803                            32                   79
                                         Malaysia                        398%                       476               151                        228                352                            -7                  -10
                                         Philippines                     205%                       264                111                        18                119                            11                   14
                                         Singapore                       402%                       414                117                       178                402                            73                 112
                                         Taiwan                          357%                       735               177                        161                617                           -51                   73
                                         Thailand                        280%                       383               101                        196                343                            42                   36
                                         Vietnam                         149%                        33                 14                        14                145                            14                    5

  CEE                                    Croatia                          217%                       22                 17                          4                 81                            0                   0
  & CIS                                  Czech Republic                   162%                       37                 80                         56               143                            12                  10
                                         Hungary                          255%                       21                 82                         35               186                            -9                  -2
                                         Poland                           190%                      178                252                         67               431                            19                  12
                                         Romania                          103%                       16                 11                          1               147                             2                  -1
                                         Russia                           116%                      875                157                        279             1,030                           108                 166
                                         Slovakia                         140%                        5                 43                          5                76                             0                   0
                                         Slovenia                         194%                        6                 22                          4                56                             0                   2
                                         Turkey                           138%                      309                268                         30               487                            69                  23
                                         Ukraine                           87%                       21                 16                          5               111                            16                   2

  Middle East and                        Angola                           16%                        N/A                 N/A                       N/A                15                             2                   5
  Africa                                 Egypt                            93%                        58                  87                       N/A                 94                             6                  -3
                                         Kuwait                          124%                        97                  N/A                      N/A                118                            -7                  42
                                         Morocco                         156%                        53                                            N/A                91                             6                   0
                                         Nigeria                          48%                        56                                             1                 66                            11                   8
                                         Saudi Arabia                     97%                       373                  N/A                        3                300                            12                 135
                                         South Africa                    296%                       612                 151                       100                274                            24                   6
                                         United Arab Emirates            131%                        68                  10                        56                336                            12                   2

      1
          Includes all corporate and financial bonds, as well as securitized loans; excludes non-securitized loans
  Note: Numbers enclosed here are preliminary as of September 2013. Due to revisions in source data and methodological improvements, our 2011 base data may have changed since our 2012 report. For further details please feel free
        to contact us at gbp@mckinsey.com
52                                                                                                                 Breakaway: How Leading Banks Outperform Through Differentiation




2012 Banking Markets
$ billion


      Region                            Country                             Banking revenues and profitability
                                                                            Revenue                     Revenue                       Cost-to-                    Profit                       Risk cost                 Loan-to-
                                                                            margin1                     pools 2                       income ratio                pools 3                     ratio 4                   deposit ratio 5

     Western Europe                     Austria                             1.3%                           14.4                       49%                             4.1                     0.7%                      151%
                                        Belgium                             1.0%                           17.0                       66%                             2.5                     0.4%                      110%
                                        Denmark                             1.3%                           18.0                       39%                             7.7                     0.2%                      306%
                                        Finland                             0.9%                            7.8                       53%                             2.5                     0.2%                      221%
                                        France                              1.0%                           81.5                       63%                           12.9                      0.5%                      140%
                                        Germany                             1.1%                         133.7                        67%                           25.4                      0.2%                      107%
                                        Greece                              2.3%                          (14.6)                      53%                          (21.6)                     7.5%                      315%
                                        Ireland                             1.0%                            1.5                       50%                            (4.3)                    2.1%                      288%
                                        Italy                               1.6%                           75.2                       54%                           10.7                      1.3%                      112%
                                        Netherlands                         0.8%                           31.0                       52%                             7.8                     0.4%                      139%
                                        Norway                              1.2%                           12.7                       49%                             4.3                     0.2%                      285%
                                        Portugal                            1.6%                            8.2                       54%                             0.7                     1.1%                      165%
                                        Spain                               1.8%                            9.0                       37%                          (27.2)                     2.5%                      123%
                                        Sweden                              1.2%                           20.7                       48%                             7.2                     0.2%                      339%
                                        Switzerland                         0.8%                           38.4                       56%                           12.0                      0.2%                      139%
                                        United Kingdom                      1.1%                         139.8                        50%                           39.9                      0.6%                      102%

     Americas                           Argentina                           7.4%                          15.3                        57%                           3.5                       1.4%                       58%
                                        Brazil                              6.9%                         204.2                        54%                          42.2                       4.3%                      147%
                                        Canada                              1.3%                          99.2                        60%                          27.3                       0.2%                      106%
                                        Colombia                            4.7%                          18.1                        46%                           5.4                       1.8%                      114%
                                        Mexico                              3.5%                          34.1                        50%                           8.2                       2.1%                      121%
                                        Peru                                6.6%                          10.0                        56%                           2.7                       1.0%                      145%
                                        United States                       1.3%                         860.3                        57%                         185.4                       1.0%                       86%

     Asia Pacific                        Australia                           1.2%                          90.2                        38%                          37.2                       0.2%                      153%
                                        China                               2.3%                         553.3                        38%                         232.1                       0.5%                       73%
                                        Hong Kong                           1.2%                          28.4                        36%                          14.1                       0.3%                       30%
                                        India                               1.8%                          56.2                        47%                          26.7                       0.4%                       78%
                                        Indonesia                           4.7%                          37.5                        55%                          10.8                       0.9%                      105%
                                        Japan                               0.9%                         258.0                        64%                          42.5                       0.3%                       75%
                                        Korea                               1.8%                          60.9                        35%                          25.4                       0.9%                      131%
                                        Malaysia                            1.6%                          17.7                        58%                           4.8                       0.4%                      112%
                                        Philippines                         2.1%                           6.0                        53%                           1.7                       0.4%                       87%
                                        Singapore                           1.2%                          20.7                        52%                           6.4                       0.4%                       55%
                                        Taiwan                              1.1%                          20.8                        58%                           5.5                       0.4%                      105%
                                        Thailand                            3.2%                          28.6                        51%                           9.7                       0.7%                      118%
                                        Vietnam                             2.7%                           2.4                        34%                          (0.3)                      2.8%                       97%

     CEE                                Croatia                             2.9%                            2.7                       37%                            1.2                      1.0%                      212%
     & CIS                              Czech Republic                      2.9%                            8.3                       46%                            2.9                      1.1%                       96%
                                        Hungary                             3.7%                            4.8                       57%                           (0.8)                     2.9%                      270%
                                        Poland                              2.8%                           18.9                       51%                            6.4                      0.7%                      169%
                                        Romania                             3.6%                            4.5                       67%                            0.1                      1.7%                      225%
                                        Russia                              4.2%                           75.8                       52%                          23.2                       1.0%                      107%
                                        Slovakia                            3.2%                            3.6                       43%                            1.3                      1.5%                      158%
                                        Slovenia                            3.1%                            1.2                       42%                           (0.0)                     3.0%                      174%
                                        Turkey                              4.7%                           33.5                       35%                          16.2                       1.0%                      127%
                                        Ukraine                             6.3%                            5.2                       54%                           (2.3)                     6.4%                      114%

     Middle East and                    Angola                              5.1%                            1.7                       42%                            0.6                      0.6%                       52%
     Africa                             Egypt                               2.2%                            4.1                       71%                           (0.2)                     1.5%                       53%
                                        Kuwait                              1.3%                           10.2                       36%                            6.0                      0.8%                       91%
                                        Morocco                             2.3%                            3.4                       88%                           (0.2)                     0.7%                      140%
                                        Nigeria                             6.9%                            8.3                       64%                            1.7                      0.9%                       78%
                                        Saudi Arabia                        2.4%                           13.7                       39%                            7.2                      0.8%                       89%
                                        South Africa                        1.8%                           19.2                       61%                            3.5                      0.7%                       84%
                                        United Arab Emirates                2.1%                            8.6                       38%                            3.5                      1.0%                      109%

         1
           Calculated as total customer-driven revenue pools before provisions for loan losses/total customer driven volumes (at average of period) as it is available in Global Banking Pools
         2
           Revenue pools after provisions for loan losses
         3
           Profit pools after tax
         4
           Loan loss provisions/total retail and wholesale loan volumes (at average of period)
         5
           Calculated as non-securitized loans/deposits (at end of period)
     Note: Numbers enclosed here are preliminary as of September 2013. Due to revisions in source data and methodological improvements, our 2011 base data may have changed since our 2012 report. For further details please feel free to
           contact us at gbp@mckinsey.com
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Contact
For more information about this report, please contact:


Sandra Boss                               Aditya Sanghvi
Director                                  Principal
London, UK                                New York City, USA
sandra_boss@mckinsey.com                  aditya_sanghvi@mckinsey.com

Miklos Dietz                              Rob Lentz
Director                                  Associate Principal
Budapest, Hungary                         Charlotte, NC USA
miklos_dietz@mckinsey.com                 rob_lentz@mckinsey.com

Fritz Nauck
Director
Charlotte, NC USA
fritz_nauck@mckinsey.com
Financial Services Practice
November 2013
Copyright © McKinsey & Company
www.mckinsey.com/clientservice/financial_services

				
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