Times are good for large consumer services companies. Costs are down, productivity is at record levels, stock market valuations are stratospheric, and option packages generate gains that border on egregious. But are these companies sowing the seeds of their destruction? By failing to understand that consumer expectations are rapidly increasing while their own service levels are steady (or declining), many consumer service companies are in danger of leaving a growing performance gap. If they continue on this trajectory, they may jeopardize their brand names and leave the door open for non-traditional competitors and new entrants. To illustrate this point, one need only look at the retail banking industry.

Recent performance impressive

Banks made enormous improvements in efficiency since the capital crisis in 1992. They cut waste, reengineered processes, eliminated excess capacity, and negotiated better prices from vendors. The cost base of FDIC- insured banks increased 15 percent since 1992, while revenues increased 30 percent. As a result, the expense/revenue ratio (the way the industry defines productivity) improved from 66 percent in 1992 to 62 percent in 1996. Impressive financial performance has probably been the most important reason the bank stock index outperformed the S&P 500 composite index over this period.

Remarkably, banks achieved these gains with no impact on customer satisfaction. A 1996 American Banker/Gallup poll revealed that 59 percent of customers are 'very satisfied' overall with service, up from 57 percent in 1992. Consumer confidence in the financial health of the banking industry has skyrocketed. More than three-fourths of bank customers today rate it "very healthy" or "fairly healthy," up from a rock-bottom 51 percent in 1991 and 1992.

These results may be less comforting than they appear. Many improvements implemented during this period were internal, easy, and had limited impact on customers-actions buzzword-prone consultants refer to as "low hanging fruit." Unfortunately for major banks, this low-hanging fruit has already been picked.

Moreover, the results stated above are misleading. In measuring customer satisfaction, banks focus on overall measures. However, the top 20 percent of customers contribute 80 to 110 percent of a typical bank's profits. Banks found that satisfaction of these customers is lower than average (they're more demanding) and has fallen noticeably in the past three years. Furthermore, the research methods banks employ are simplistic. They don't force customers to force order rank which attributes they really care about, or make trade-offs between price and service, and provide little insight into how customers react to product feature/price/service level combinations. Many institutions are underinformed on critical issues concerning consumer needs and preferences.

Despite the above, many bank executives drive their organizations to improve the productivity ratio. Cheered on by Wall Street analysts, senior executives publicly announce their intention to drive ratios below 50 percent in the next several years and privately wonder if their targets are too conservative. The will is present, but the skill to improve productivity without eroding the perceived performance gap may be lacking.

In addition, bank executives feel pressured to adopt a short-term mindset. There is enormous focus by Wall Street analysts on quarter-by- quarter improvements in productivity, so banks must limit investment spending to levels that can be "funded" through other savings. This near- term mentality, for example, has made it difficult to make strategic investments in alternative distribution channels. Consumers are shifting transactions away from branches. A growing number look for superior capabilities and find that major banks don't measure up to telephone financial services leaders such as Fidelity.

Meanwhile, research suggests that customers, particularly the most profitable ones, are likely to become more demanding. Market research indicates that consumers have less spare time and want services as error- free as possible, quick resolution of problems, and fast turnaround on information requests and product applications.

So what's the danger? If banks continue on their trajectory they could suffer in three ways. First, they may tarnish their brand names. Most major banks have surprisingly strong brand names in their markets, but are positioned as top-quality, full-service providers. As consumer perception of the performance gap increases, their brand names will deteriorate. Increasing spending on brand advertising, the knee-jerk reaction of many banks, won't work if consumers' experience doesn't measure up. Second, banks could be leaving themselves open to poaching from financial services industry leaders or fellow major banks deciding to take a more customer- focused, customer-oriented path. Finally, they are making it more likely that their most profitable consumers will get frustrated and give non- traditional players a try. It would be a shame to look back five to ten years from now and realize that banks played into Bill Gates's hand.

A customer-driven way forward

Retail banks can keep improving performance if they find a customer- driven way of making management decisions. To do this, executives should:

Invest in new approaches to understanding buyer values. A few leading banks are experimenting with tools and techniques. Many of these are used by consumer product companies and have been employed, to great benefit, by leading monoline credit card companies. These tools and techniques help companies identify customer segments, understand what they care about, and what they will pay for product feature/service level combinations. This insight allows companies to make better decisions about where to maintain what they have, what to cut with little risk, and what they must improve to keep up with consumer expectations.

Emphasize shareholder value creation as the primary metric. Expense/revenue is a valid measure simple to understand and use, but should not be the overriding metric. Once again, shareholder value approaches are used elsewhere, particularly in leading industrial companies. Typically, shareholder value measurement is introduced gradually, starting at the top of the organization.

Get personally involved. Banking executives are often reluctant to solicit direct customer feedback. Senior executives of the best consumer service organizations instead relish such one-on-one discussions. Upon joining American Express, one senior executive said that he learned more from listening in on a half-day's worth of inbound phone calls than from reading reams of internal reports.

Leverage customer insights to break through the revenue wall. Investing to improve customer understanding will also provide information and tools to design products and services with high appeal for a segment of customers and provide attractive economic returns for the bank. The leading credit card companies have proven that even a r simple product like a credit card, which larger banks had concluded was becoming a commodity, can be positioned in different ways to different customers. Similar opportunities may exist in other products.

A successful transition is a win-win situation, enabling an institution to improve customer satisfaction, achieve better productivity ratios, and improve bottom line profits. It's time to close the gap.

Gordon Cliff, partner, financial services industry practice, Andersen Consulting LLP.

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