Banks around the world are on the rack.
On one hand, they are under intense pressure to reduce costs, with the branch network the obvious source of savings through staff reductions and closures. On the other hand, they continue to rely heavily on branches for sales and service. No major financial institution has yet demonstrated that the mass market will accept clicks-only access to its financial needs, with "bricks and clicks" the new paradigm. So how does the traditional branch best fit into this multichannel world?
Over 30 years, banks have come full circle. They have replaced the costly human machinery of relationship banking through the trusted branch manager with the costly and unproven machinery of customer relationship management technology. Cross-sale ratios have remained stubbornly between one and three products per customer, cost-income ratios stay at 50% or more, and customer enthusiasm for the branch visit has, if anything, fallen further.
All this argues strongly for new thinking about how the branch is run. The much-discussed, though rarely defined, need to shift from bank branch to retail outlet would require investment in new formats, new locations, new people, and retail-oriented training and tools. But a bank presenting the investment community with anything but a cut-and-close approach to their branch network and an equally aggressive investment plan for remote channels will face a rough ride. Evidence that more branches, not fewer, were needed was one of the driving forces behind London-based Abbey National PLC's decision to try franchising its branch network.
The Abbey National pilot will run for six months in 12 of its 780 branches. Pilot franchisees will see their base salaries drop by 25%, to about $70,000, but with the potential to earn as much as a $260,000 annual bonus should performance increase.
Franchising is a bold way of achieving local ownership. It passes responsibility for local revenue, cost, and capital investment to the franchisee, but the bank retains central control over its brand, technology, and key business processes. Compared to the typical branch manager, the franchisee has a radically different motivation and one much more closely aligned with that of the shareholder. In particular, the franchisee has a minimum six-year horizon, versus two years for most branch managers. We would expect their sense of responsibility and willingness to invest in the local market to increase accordingly.
The franchisee has a direct incentive to make branch economics work. No more wooden dollar incentives, soft performance measures or free rides on badly set central budgets. Franchisees will live and die on the enthusiasm of customers to buy products, the productivity of the local team, and the cost base from which they operate.
Running a franchise is a career path in its own right. Gone is the pressure on retail talent to move to headquarters. In fact, the shift to such a highly variable reward creates positive selection in making a franchise attractive to a manager who is confident he or she can do the job. As the sole U.K. franchisor, we would expect Abbey National to become a talent magnet for the most able, ambitious managers in the U.K. retail industry.
A possible effect of franchising is the shift of costs - about $400 million in Abbey National's case - from the bank to the franchisees. This would reduce $290 billion-asset Abbey National's cost/income ratio to about 35%, in part simply an accounting shift, but also reflecting the leanness of its business model compared to one of full ownership. More important are the actual revenue and cost efficiencies that then flow from the way the franchise is managed. Experience to date is encouraging, with piloting of the underlying incentive model having already demonstrated a year-to-year increase of more than 30% in the regulated sales force's productivity, and 50% compared to the pre-pilot period.
Of course there are risks. Mortgages are not hamburgers. The typical McDonald's customer does not expect to order in one restaurant and get his meal served at another. Nor does he expect to be able to check the menu at the restaurant, but then eat over the telephone or digital TV. And franchising as a concept should not be seen as a panacea. Franchising brings its own set of challenges, including the risk of free-riding by franchisees and poor alignment of their behavior with group values. All of these bank-specific and more general concerns are solvable with some deft principal-agent economics and associated carrot-and-stick clauses written into the franchise agreement. Indeed, one of the benefits of franchising is that it forces a bank to think through and formalize such basic questions as what constitutes a good job by a branch manager.
There are also tax and regulatory regimes to satisfy. The U.K. regulator has given approval to Abbey National's pilot, but must still be convinced that full-scale franchising is acceptable.
Perhaps the biggest challenge is the stress placed on head-office functions by turning hundreds of passive managers into active customers. But these pressures may be just the discipline that banks have for too long lacked. The head office that continues to produce poorly designed products, incomprehensible literature, or unwanted junk mail will now do so at the direct cost of the franchisee and so can expect short shrift from them.
Franchising is a radical solution to the challenge of injecting some much-needed vitality and retail discipline into the branch network.
Most banks have given franchising some passing thought in their more creative 'off-sites,' but few have stopped to think through the detailed benefits and practicalities.
In the meantime, press attention will again shift to branch closures, job losses, and cries of exclusion. But if Abbey National can show that franchising is viable as a basis for branch management, then it need not be so. In five years, franchising might just have established itself as the model for how a branch should be run, albeit with significant variations in the relationship between franchisor and franchisee. We might see more branches and branch employees, not fewer, employed more productively and better serving customers. It might not be too much to claim that franchising may yet be the salvation of branch banking.
Mr. Weil heads the customer value management practice at Oliver, Wyman & Co. in London.
