Pardon the understatement, but executives and investors have long clashed over the expense side of the ledger.
This tension seems to be coming to a head as banks look to spend more on back-office and customer-facing technology even as the pressure endures for them to rein in spending.
It was evident this week in tough questions for executives at U.S. Bancorp, BB&T, KeyCorp and M&T about how they are going to walk the tightrope between investments that could promote revenue growth or save money in the long run and the imperative to sustain profitability now.
One of the key moments came when analysts pressed U.S. Bancorp executives on their outlook for expenses — and how the company plans to fund their big plans to improve technology.
Noninterest expenses at U.S. Bancorp rose 5% during the first quarter, to $3.1 billion — including an 8% increase in technology and communications costs to $235 million. The Minneapolis company expects total costs to increase “in the mid-single-digit range” in the short term and between 3% to 5% annually over the longer term as it invests in a range of digital offerings to attract customers in new markets.
John McDonald, an analyst with Sanford Bernstein, asked executives about the guidance, noting that other regional banks “seem able this year and maybe next year to self-fund” their tech investments and keep expenses mostly flat.
Chairman and CEO Andy Cecere responded by pointing to the company’s efficiency ratio of 55.9% as of March 1, lower than other big-bank peers. He also said the company is playing the long game when it comes to improving technology at the $460 billion-asset company.
“We are going to focus on positive operating leverage, in making sure that our expense growth is below our revenue growth,” Cecere said. “But at the same time, we want to make sure we’re balanced in terms of making investments for the longer term.”
For years, technologies such as online and mobile platforms have been about customer convenience, but now banks are looking for ways to turn digital channels into an avenue for sales, experts said. Whether these tech investments eventually produce enough additional revenue is a big unknown, said R. Scott Siefers, an analyst at Sandler O’Neill.
“There are two reasons to make these investments,” Siefers said. “You have to remain competitive and you don’t want to be left behind. And the other is to generate revenue. And I would say no one has cracked that code yet.”
Another big question is how efficient these investments will eventually make financial institutions, said Brian Foran, a partner in the universal and regional banks division at Autonomous Research. Foran noted that conventional wisdom has long held that an efficiency ratio around 50% was great for a bank, but now industry observers are wondering if these tech investments will eventually drive that figure lower or simply help banks maintain their current levels.
“Is there an endgame where it is a structurally more efficient industry?” Fornan asked. “That is the longer-term question that comes up a lot.”
And questions will persist about which strategies banks should use to pay for their investments.
BB&T is one of the banks that industry observers pointed to for its ability to self-fund technology investments. Expenses fell 20% to roughly $1.7 billion in the first quarter at the $220.7 billion-asset BB&T from a year earlier. During its first-quarter conference call, management said that costs could continue to decline in the coming months. The Winston-Salem, N.C., company also said that it cut nearly 1,500 jobs and closed about 150 branches in the last year. It also reduced costs tied to outside IT services.
“There's a decent chance as we look through 2018 and 2019 that the best way to think about our expenses is kind of flattish to down-ish,” BB&T Chairman and CEO Kelly King said.
“I don't see any major [event] that is going to be driving expenses up,” King said. “Frankly … I’m really intense about expense control.”
Management outlined several tech projects, including debit card fraud alerts and controls to let customers limit credit and debit card spending to certain geographic areas. BB&T also plans to introduce Siri payment for Zelle by the end of May. (BB&T has enrolled 164,000 clients for Zelle since adding the service in mid-December.)
BB&T quietly tested a digital platform late last year that provides bank employees with near-real-time feedback on commercial client issues to speed up response times. The program will be expanded more aggressively over the next year.
A mobile app for auto lending was launched in February to let clients make payments, among other things. So far, the app has 15,000 downloads and has led to 11,000 payments.
To be sure, there are risks tied with these investment, as was the case the high-profile systems outage that plagued BB&T in February.
Management said the outage was tied to an investment it made in a new call center to improve duplicate and redundant data hauls. BB&T ended up refunding $15 million in fees and incurring $5 million in expenses to address the issue.
“The event occurred because some of the investments that we made were not fully executed the way they should have been,” King said.
KeyCorp has also tried to keep expenses in check while investing in technology and other areas. But costs were higher than expected in the first quarter, partly because the company accelerated some of its technology investments.
The $137 billion-asset company is upgrading its consumer lending platforms for residential real estate and other nonresidential real estate loans. Siefers expects it to make other digital and cyber investments in the future.
The Cleveland company has long faced questions about managing expenses and those concerns were highlighted once again during its first-quarter earnings call on Thursday. Its cash efficiency ratio was almost 63% in the first quarter, far above its goal of 54% to 56% by yearend.
Beth Mooney, KeyCorp’s chairman and CEO, acknowledged during the call that the expenses were “elevated” because of higher employee benefits and severance in addition to the tech investments.
“Expenses reflected some seasonal factors and other timing differences but are expected to come down over the course of the year,” Mooney said. “And we remain on a path to make meaningful progress, approaching the upper end of our efficiency ratio target this year.”
The company is looking for additional costs saves from closing 40 branches this year, third-party vendor contracts, middle- and back-office functions, the realignment of several business units and adjustments to staffing models. It expects in the second quarter to complete a round of $50 million in costs cuts from its 2016 acquisition of First Niagara Financial Group.
“We are supposed to see the inflection point this year,” Marty Mosby, an analyst at Vining Sparks, said of KeyCorp’s efforts to shed costs. “This is going to be critical for them to deliver. I think they understand that.”
Don Kimble, KeyCorp’s chief financial officer, said that expenses for the first quarter would be a “high point” for the year and that technology spending should decrease going forward, though the company would continue to look at investments.
M&T Bank Corp. in Buffalo, N.Y., has been increasing its spending on technology “pretty consistently” for the past three to five years, CFO Darren King said during the company’s first-quarter earnings call. He said the $118.6 billion-asset M&T has grown its technology spending around 10% to 13% a year on new technology and maintenance of existing systems alike.
Much of M&T’s spending has been in consumer-facing technologies, like upgrading its mobile app and website, improving cash management tools for commercial customers and reducing the time it takes to open a checking account or credit card, Darren King said. M&T also plans to launch Zelle later this year, either late in the second quarter or early in the third, he said.
Noninterest expenses grew 18%, or $145 million, on a year-over-year basis at M&T, but that included a $135 million increase in its litigation reserves to deal with unspecified pre-existing lawsuits.
“There are other parts of the bank where we're becoming more efficient where it changes the process, and business models are helping us reduce our costs,” Darren King said. “And therefore, you don't see as clearly in the numbers the big spike in technology investment.”