Friday, 29 July 2011

No end date for cheques is a big mistake

The commuting of the death sentence on cheques made by the Payments Council annouced early in July is both disappointing and a strategic mistake.

The original decision to set a target date for the end of cheques in 2018, with a final decision to be taken in 2016 to confirm or deny this, was taken in 2006 giving more than enough notice for the industry to prepare and come up with an alternative solution. By removing a date by which the cheque will finally stop the Payments Council has significantly relieved the pressure on the banks to find an alternative means of making Person-to-Person (P2P) and Person-to-Charity payments, the primary source of cheques today. In the long term this is not going to be to the advantage of either charities or small businesses.

Whilst currently personal customers who write cheques don't explicitly pay a charge for the cost of the processing of their cheques due to so-called 'free banking', with the increasing pressure that consumer groups, politicians and the Independent Commission on Banking are putting on the banks for greater transparency in charging, then it is almost inevitable that 'free banking' will end and customers will start being charged for the services they use. With the volume of cheques in the UK declining by 11% per year then inevitably the cost of processing cheques will inevitably rise, since the infrastructure required to process cheques is still going to be required despite the drop in volume. This will result in less of the donation to a charity actually going to good causes. For small businesses it will mean that they will either have to try and pass on the costs to the customer or, more likely, they will have to absorb the costs as their competitors stop accepting cheques. Either way this is not good news.

The consumer groups, the Federation of Small Businesses and the charities, rather than lobbying for the extension of cheques and Canute-like denying the inevitability of the demise of the cheque, should have been applying maximum pressure to the banks to come up with a viable, cost-effective alternative, rather than, as they have, letting the banks off the hook. In the short-term this is a seen as a populist move - in the long term it will be seen as a grave mistake.

Wednesday, 6 July 2011

EU and ICB 20th Century thinking hampering LBG disposal programme

The intent of both the EU and the Independent Commission on Banking by forcing Lloyds Banking Group to sell branches was to create greater competition in the UK banking market, however their 20th century thinking has made the possibility of this happening highly unlikely.

Both the EU and the ICB have defined the disposals in terms of market share and branches. By not understanding or not recognising the impact of treating the reductions in market share in deposits and mortgages as separate and unrelated topics they have given any new entrant an almost impossible task. They have made this task even harder by tying it to a large number of physical branches, whilst not recognising that increasingly branches are becoming irrelevant and a high capital burden for any organisation to take on.

Indeed, for example, indications are that NAB whilst interested in acquiring the customers sees the deal as far less attractive if they have to acquire the branches as well. A similar argument could almost certainly be made by Tesco.

To get an understanding of the impact of the mismatch between the deposits and the loans - it is estimated that there will be an initial £35bn cash shortfall between the deposits and the loans that the acquirer will have to deal with. Bidders will have to find a way to fund this. This £35bn makes the asking price of £2.5bn look like loose change. Whilst the Information Memorandum shows how the funding gap will reduce to between £14 and £17bn over time, that is still a significant amout of money. Building that into the business case for a new entrant means that the time to get to breakeven for any new entrant is going to be a long time, maybe too long for investors.

Add to this that the audit firms are warning that any bidder who puts in a bid  for the assets could lead to the auditors not being able to sign off on their accounts.

The FSA is also not helping to get this deal away by warning about the operational risk associated with migrating off the Lloyds systems. Even the CEO of Lloyds Banking Group, Antonio Horta-Osorio, agrees that what is being sold is not a good as it could be. In his strategy announcement at the end of June he laid out the need to significantly improve the efficiency of the Group's IT systems, the same IT systems that the buyer would be acquiring. Inheriting inefficient systems will hardly put the acquirer in a strong competitive position, let alone the costs, risks and complexity of migrating onto a new set of systems.

The combination of the funding gap and the operational risk could result in the buyer being required to hold a Tier 1 capital ratio  of almost 20%, double the level of the Big 5 banks. This would put the new entrant at a significant competitve disadvantage to the existing incumbants; hardly a way to increase competition!

Had the EU and the ICB understood the UK Retail Banking market in the 21st century they would have proposed a disposal based on matching deposits and loans and based on numbers of customers, and had branches as optional, giving a new entrant a far better chance of competing with the Big 5. However they didn't and the process is being forced through at pace for good reason on the part of LBG. By ensuring that  the bidding process is well underway before the ICB reports in September, it makes it far more difficult for the ICB to make the case to add further branches as their interim report suggested.

By the end of the second week of July first round bids need to be submitted. By the end of July the second round bids will need to be in. It will be extremely interesting to see how many, if any bidders, remain at that stage.

The reality is that the most likely outcome will be a floatation, a floatation of a cloned mini-Lloyds Banking Group. Given that it will be led by senior executives from Lloyds Banking Group, using the processes and systems of that Group, but hampered with more expensive funding and without the level of investment that Antonio Horta-Osorio has indicated in his strategy review, it is unlikely that this new player will do much for competition in the UK banking market.

For more detail see

Monday, 4 July 2011

Banks taking different approaches to advice

HSBC in the UK announced last week that they would be axing 450 advisors for the branch as a result of the regulation to ban commission and make customers explicity pay for advice, The Retail Distribution Review, RDR. This would still leave them with 1500 advisors in the branch network. The timing of this announcement on the day that Lloyds Banking Group announced its strategy including reducing staff by a further 15,000 could be coinicidental, but cynics would suggest otherwise.

HSBC is only the latest of the banks to indicate the impact of RDR on the way that customer's can expect advice to be offered following the implementation of the regulation.

There is no consistent approach to the way that the banks and the building societies see the post-RDR world.

Whislt the HSBC strategy is to be neither fully in the branch-based advice market or out of it in the post-RDR world (a rather half-pregnant position to take, some might suggest) Barclays was quick out of the blocks to announce that they would be withdrawing advice-based services from their branches for all but the most wealthy. See

Prior to their agreement to merge with Yorkshire Building Society, now Britain's second largest building society, Norwich & Peterborough Building Society announced that they were transferring their branch-based IFAs to Aviva, thus relieving themselves of the costs associated with bringing their IFAs up to the professional standards required by the regulation and gaining the scale advantages a bancassurance relationship with one of the world's largest insurance companies brings. There has been no annoucement by Yorkshire Building Society that they are reversing this decsion.

As part of the strategy announcement made by the CEO of Lloyds Banking Group, Antonio Horta-Osorio, at the end of June, he made it clear, in contrast to Barclays, that Lloyds Banking Group is committed to providing bancassurance to its customers through its ownership of Scottish Widows and a fundamental part of the growth for the Group is expected to come from significantly increased cross-selling of insurance and investment products to customers, however he did focus was on execution only and investment platforms, rather than branch-based advice in his announcement.

RBS/Natwest have announced that they will be offering the simplifed approach, which fundamentally means a limited set of products that they can sell, so caveat emptor - buyer beware!

Outside of the UK shores some very interesting experiments about how to deliver cost-effective advisory services are underway with banks as diverse as Bank of America and Bank of Moscow (see ). Both of these banks are looking at the use of video-conferencing. The outcomes of these pilots are being closely watched by banks and mutuals across the globe.

What is clear is that there isn't total consensus on what the the post-RDR world will look like. What there is consensus on is that for the less well off there will be less access to advice and as a result many customers will be left unprotected and under-invested for their retirements at a time when the length of the average retirement and the amount of money needed to support yourself during that retirement is increasing.