Imagine that your chief executive officer summons you to a meeting of the bank's senior managers. At precisely 8 a.m., he or she strides in and, totally expressionless, steps to the podium and begins to speak to a room that is suddenly very quiet.
"Good morning. I appreciate your coming on such short notice. The news I bare is important to each of you in this company. For the last several months, we have been considering the market forces of the banking industry--and the strategic direction we should take for the benefit of our shareholders. It has become clear to us that if we are to survive as a profitable competitor, we must be a much larger company.
"Accordingly, I am announcing that First Inter-galactic Bank and our own company have signed a definitive agreement to merge our two great companies ...."
Your CEO then starts to explain the advantages and timetable of the merger. But while he is speaking, imagine what your thoughts would be. It's immediately clear to you that First Inter-galactic is the acquirer and you're the acquiree. Merger is just a nice way of saying your company has been sold. How would you honestly feel? Angry? Frightened? Psychologists say that during a merger, people go through a series of emotions much the same as we do with any major change, such as divorce or death of a loved one.
Maybe you or I will never attend a meeting like the one I described--but don't count on it. We're about to enter the final phase of banking consolidation, which will combine many regional banks into a few truly national companies. We'll see some huge mergers creating $300 billion banking companies. Eventually, 10 to 15 national banks will become household names, controlling perhaps 50% to 80% of the nation's banking business.
Obviously, these mergers will change the face of our industry, but the continuing consolidation of banking is only one piece of what we have to do to prepare for the next millennium--and it's hardly futuristic stuff. We're just catching up with what the economics of the market have demanded all along. In fact, our industry is playing a lot of catch-up these days because we've been focusing on the wrong things.
Obsessed With Washington
Part of the problem has been our preoccupation with Washington. That's understandable--Washington is always good drama, and it's heartening to see Congress finally take national interstate branching and other so-called reform seriously. But now it's time to forget about Washington, and to stop wasting our energies with a whiny "poor us" attitude about regulation and all the things we can't do. We can sit around and bellyache about unfair regulation forever and it's not going to help much. We need to focus instead on the marketplace--and what we can do to control our own destiny.
Ten to fifteen years ago, some in our industry failed to focus on the marketplace. They didn't understand that mid-sized banks were doomed. They didn't believe consolidation was coming. Few of those banks are with us today.
Many of us also believed that banks could continue offering the products and services that have been profitable for hundreds of years. We kept offering CDs and straight senior debt, even after our customers told us with their feet--as they walked out the door--that they wanted something else.
Our industry is dying today because we haven't given our customers what they want, when they wanted it. Many of us have been so busy fighting and acquiring each other--and congratulating ourselves--that we missed the real threat. We sat on our hands--and complained to Washington--while non-bank competitors won hundreds of thousands of our best retail and commercial customers ... by default. We sat on our hands for 15 years while mutual fund assets grew from zero to more than $2 trillion. That's more than the combined deposits of the 100 largest U.S. banks. We sat on our hands for 15 years while commercial banks' market share shrank from nearly 50% to 32%--as Wall Street firms found cheaper and more flexible ways to meet booming demand for corporate credit.
First Union and many banks today are fighting back, but the hard truth is we lost a generation of investors because we were not ready to offer them mutual funds. The hard truth is our industry has lost the biggest national corporate customers to Wall Street firms--and today we risk losing many of the growing firms in our regional markets. The hard truth is this: The party isn't just winding down--we missed it altogether. We sat home without an invitation on prom night. It will be cold comfort to control 50% to 80% of the nation's banking business if we've lost most of that business to competitors outside the banking industry.
Ironically, what scares me the most about our industry today is there's not enough fear out there. Right now we're all doing so well, nobody's afraid of anything. Everybody's making money, so we're tempted to tell ourselves that maybe the old formula is intact after all. Yet we all know it's only cosmetic prosperity caused by wide interest-rate margins and a recovering economy. We all know the same underlying problems that contributed to record bank failures only three years ago have not gone away. But we'd rather not think about what will happen when the next down cycle hits.
So what can we do to avoid missing the next party? That party promises to be a hell of a good time for those who are around to enjoy it. But to get on this guest list, we must learn to offer our customers what they want--when they want it.
That won't be as easy as it sounds. Consider, for instance, the strength of Merrill Lynch, which I regard as our most formidable competitor. Merrill expects to exceed $1 trillion in client assets this year--that's nearly 5% of all U.S. financial assets. It's the biggest investment banking underwriter, largest vendor of money-market funds and second-largest mutual fund company.
When Merrill Chairman Dan Tully was visiting in Charlotte a few months back, he asked me--just to be polite, I'm sure--"Well, what can I do for you?" I said, "For openers, I want access to your best consumer marketing people, your consumer strategy notebook, and the data-processing programs that drive your product and service group." You know what he said? "You got it, Ed." Then he said, the problem is not figuring out what to do--the problem is execution, and it will would take us 15 years to do it. He's exactly right.
Winning Back the Customer
We've got all the tools we need to compete successfully against Merrill Lynch and the rest of our non-bank competitors. What we need is the talent, the determination and the will power to successfully execute our plans over the long haul.
To compete with our non-bank rivals, First Union has in place a superior delivery system: 1,300 branches in eight South Atlantic states. We're in the midst of a massive training program to prepare 2,400 of our employees--about two in every branch--to sell mutual funds.
We also bought a mutual fund company because if I'm going to compete with someone, I want to know everything they know. By combining the Evergreen Funds with First Union's funds, we'll manage and sell about 30 funds with assets totaling $7 billion. We'll effectively become the nation's eighth largest brokerage house. We know that anything short of a total, long-term commitment won't work. We intend to be a player no matter what the economic environment--able to survive market downturns while offering our customers what they want, when they want it.
We've taken a similar approach with our Capital Markets Group--which is literally an investment bank housed inside First Union. One of the reasons we wanted to be a $70-billion-plus company was to attract the intellectual capital to offer the most sophisticated services to our corporate customers. Just since January, we've recruited more than 65 capital markets experts from Wall Street and other financial centers to complement the strong teams we already had in place.
Instead of letting Wall Street firms lure our customers away, the Capital Markets Group will be there with the products they need to manage their risks or revenues. These products include: private placements, loan syndications, merger and acquisition advice, risk management, merchant banking, and eventually corporate debt and equity underwriting.
Last year we created an energy group in Texas. Within 120 days of its formation, First Union's new group had arranged the acquisition of the oil and gas assets of a New York Stock Exchange company for our client--a Montana partnership looking to establish a presence in the Gulf Coast Region. The client is a subsidiary of a First Union customer in Florida. That yielded us a sizable advisory fee that otherwise would have gone to a Wall Street investment banker.
We estimate there are 110,000 potential capital markets customers in our South Atlantic region alone. Twenty-five percent of these companies already have some relationship with First Union, giving us home court advantage over Wall Street. We intend to use it. Our goal is to quadruple pre-tax-earnings in the Capital Markets Group to $400 million by 1998.
To get back in front of the curve--instead of always playing catch-up--we have to prepare for the alternative delivery systems of the future. When this topic is discussed today, inevitably we hear something like, "Oh my God, banks have all these branches and they're going to be out-of-date. What's going to happen to all that brick-and-mortar investment and all those people who work in branches? Ain't it awful?"
That misses the point. Worrying about cannibalizing our branches with electronic banking is as off-base as worrying about cannibalizing our deposit base by selling mutual funds. Again, we need tO listen to our customers. About 15% of our customers tell us they're ready today to do all of their banking without ever having to go inside a branch. It's an evolutionary change, but it's picking up steam. It took almost 25 years for bank customers to become heavy users of ATMs over the teller line, but it won't take nearly that long for our customers to embrace new forms of electronic banking. In 1989, 75% of bank customers said they wanted personal contact when conducting financial business. By 1993, only four years later, the number had dropped to almost 50%.
Of course, we can't lose sight that the majority of our customers--particularly those over age 50, the ones who have most of the money--still want to do most of their banking, face-to-face, in a branch. The phrase to emphasize here is alternative delivery systems. Customers have different preferences and we must offer them different choices, or they'll go to someone who does.
The good news is technology will allow us to tailor our service delivery to their preferences--and still make a profit. The tricky part will be picking our partners--the cable companies, phone companies, software companies and others that are bringing the wires and technology into our customers' homes. We'll need to form partnerships with these builders of the much-ballyhooed information highway to deliver our long-promised home banking. But we won't be sure which road is the right one--just like the early VCR users weren't sure whether to buy Beta or VHS.
Lead From the Front
Should we be the pioneers, and risk getting stuck with Beta, or wait on the sidelines until the proper route is clearer? My gut feeling is we cannot afford to play catch-up on this one, so we need to hedge our bets by experimenting and forming alliances with several of the highway builders.
Another dicey question will be how far in from of our customers we should venture. When I was in army officers' training, a sergeant told me, "If you want to get these guys out of a foxhole to make a charge, you've got to go first. They'll follow you if you stay about 5 yards in front of them. But if you get 50 yards in front of them, they're going to say, 'Look at that fool out there, he's too damn far away.'"
To stay ahead of the curve this time, we must stay in front of our customers and take them where they want to go--but not 50 yards in front. That does not mean we should be timid. In fact, the biggest risk will be moving too slowly, dragging our feet when we should be leading the charge.
What will some of these alternative delivery systems look like? In 14 First Union branches around the Southeast, we're testing interactive video to link prospective mutual fund, mortgage and insurance customers with product experts in Charlotte. The customer, sitting in a branch, sees and talks with the counselor on a computer screen. At the same time, on another part of the screen, the counselor can key in some 'what if calculations. The technology had its hiccups in the beginning, but that's part of the learning process. And it's still too early to tell how well our customers like it. But if this pilot is a success, I can envision interactive kiosks in many of our branches and other locations.
More important, this may be the crude forerunner to widespread home banking on computer or telephone screens in our customers' homes--crude because before it takes off, we'll have to offer something as simple as the remote channel changer on your TV set. We'll have to use personal computers or phones or other devices that customers are already using and upgrading in their homes. We'll have to make it easy to bring up your account, add or subtract to it, check out 30 different mortgage offerings, you name it--all from your own home.
A clear implication of alternative delivery systems is fewer employees and fewer branches--and many more people in centralized service centers. Like many of you, we already operate 24-hour service centers handling customers' inquiries about their accounts via different 1-800 numbers. Where we need to move is centralizing those centers so our customers have to call only one number to get their questions answered about any product or service--eventually by a person talking to them on an interactive video screen.
More than that, we have to make them sales as well as service centers--like L.L. Bean does today. When I call L.L. Bean and say the tops are worn out on my hunting boots, they say, "Fine, send them in here and we'll put some new tops on for free, And, by the way, have you seen our new fly rod?"
Does this mean the end of the bank branch? No. But our remaining branches will become more specialized, looking something like half-bank and half-brokerage. They'll also be devoted largely to sales, not service. While today's branch probably devotes 75% of its efforts to service, tomorrow's will devote 75% to sales.
Because branches account for such a big chunk of our expenses, the savings potential of alternative delivery systems is enormous. Just compare, as one study has, the cost of a teller transaction ($1.07) with an ATM transaction (27 cents).
So, clearly, this is a party we can't afford to miss. The admission ticket to everything I've mentioned this morning--mutual funds, capital markets and alternative delivery systems--is size. We'll need critical mass to afford the technology and the talent it will take to go head-to-head against our non-bank competitors.
But mere size and new products or services won't be enough. We must quickly and fundamentally redefine and restructure our traditional business--business that has been very good to bankers for hundreds of years, but business that is a dinosaur today. Some alternative delivery systems will take five to fifteen years to develop. But we can't wait for the marketplace to come to us. We must move boldly ahead now, all the while listening very carefully to our customers.
If I get shot, I want to be running and listening--not sitting on my hands and complaining. Robert Lutz, president of Chrysler Corporation and one of the leaders of the American auto industry's resurgence, has an expression that best summarizes our challenge. Lutz says: "Being large doesn't mean being safe. The large won't eat the small--the swift will eat the slow!"
Edward E. Crutchfield Jr. is chairman and CEO of First Union Corp.
