A control function, with monitoring and warning capabilities, is crucial in this matter.

Measurement and control are intended to assess:

Implementation of action plans: are the necessary steps really implemented?

Relevance of the actions compared with markets

Tangible result at commercial level: How much, after how long? What is the differential?

This part will be heavily developed in the module focusing on how to keep the strategy under control. But the main topics will be briefly presented here.

Why a new organisation?

To start a new activity or to open a new branch

To imagine a specific sale’s staff specialised in coaching partners

To create new tools to analyse the results of a new branch

To improve current branch management

Key success factors

In terms of methods it is necessary to think of

Tools

Organisation

Managers

To lead a quality control on the actions decided

Insist on 2 major aspects:

Involvement of the entire hierarchy, from top to bottom. If not, a project will quickly be doomed.

Use project management skills. All Western banks have an Organisation Department, which shows that this type of skill is a requirement, especially in a fast-moving environment and where increasingly technical tools and products are used. Organisation managers are here to ensure that operational staff are correctly supported, that their requirements are taken into account, and the IT Department works according to their needs.

Conclusion and notices

Conclude that the creation of the tools and the methods detailed are developed in one of the module of the topic “branch network management”.

As a result of this discussion, some practical suggestions are likely to emerge. These suggestions should be noted and, if agreed with bank management, forwarded to the appropriate person after the course.

Control

Finally, mention that the Control function is the next logical step after having started the implementation of your commercial strategy with your branch network. This will be the subject of a following module of this cycle on branch network management.

Adapt the pricing to their local markets

Who is sensitive to prices? In general private clients, more than companies.

To assess:

Average price

+ or – counterpart risk (counterpart, sector risk)

discount price to enter a market

Packaging the price

Communication policy

What sort of events, publications, advertising, sponsoring and exhibition to organise our contacts and develop a efficient promotion on the potential market.

Give a few examples of concrete exhibition to target the potential market.

From several publicity for banks which you have relieve in the press and which you show, ask to the group to judge the relevance of the messages and the consistency of the image of the bank and the selected review.

Human resources policy

Precise to the group that any change, any new orientation imply men. Moreover all new organisation is valid only if people join it and if they can adapt. It is thus fundamental to tackle in the action plans the question of people.

Note that some aspects of the problem of Human Resources management will also be examined in the Resources module.

Human resources policy

What are my human resources requirements to have very efficient and professional people with good understanding of the targeted markets?

Example : Do I need to employ local employees for specifics markets with a very strong culture?

Exercise

Among the crucial questions relating to human resources is the profile of a branch manager. Indeed it is essential to have managers in accordance with the situation of the branches in local markets.

Ask the trainees, to propose, for branches in different types of situation, the “ideal” profile for a manager.

Profile of a branch manager

Quickly mention other aspects. For example:

Training of teams to develop skills on specific markets

Reinforcing sales teams to sustain / increase growth.

As a conclusion ask trainees if they see more points, and add:

Hiring or firing, creation of new business lines, integration of newly acquired networks with a different culture…

Retail banking involves being able to manage mass products. High volumes, low margins, and requires sound IT support and organisation to make it profitable.

Wholesale banking is totally different: it rests on low volume, high margin products. Heavy IT is not so strongly necessary but the bank can not take the risk of a dissatisfied customer: image is very sensitive.

Try to get the trainees to focus on products and services using their imagination and common sense:

Think profitability and competitiveness

Define interfaces between credit, legal, and operations staff.

Case study

Divide the trainees into 3 groups, who will work for 20mn on 3 different problems. Each group will have a secretary, in charge of writing down the thoughts of the whole group.

Group 1: Describe a banking offer that will be designed for corporate business in a non-monetary area (Eastern Siberia). Trainees will have to develop schemes and services aimed at generating value for the bank working for corporate clients with no or very little cash.

Group 2: Define the pricing policy of a banking offer aimed at mass population. Business will be located in a large urban area such as Moscow, St Petersburg or Kiev.

Group 3: Develop a commercial strategy, including publicity and use of media, to develop a commercial offer in a specific industry: the car making industry.

In this exercise, we assume that business takes place in any currency but within national borders.

After 20 minutes, get together the proposal of each group and share the answers with everybody.

There is of course no standard answer for this type of exercise but the following this will bring some support for developing ideas. They will be displayed only for the sharing of results.

Banking offer

Concerning Russia and other CIS countries, developing business in non-monetary areas can be an element of development strategy, with specific know-how.

Offer in a non monetary area:

Identify local industries and tradable products

Petroleum, gas, steel beams, grain…

Establish a rating for commodities

Liquidity and value

Develop barter arrangement capabilities

Bank commissions in cash or commodities

Main components of action plans:

Products and services

Pricing policy

Place (distribution channels)

Promotion policy

People (human resources) policy and Organisation

Products and services

The bank knows which clientele it wants to work with. What do customers need? What don’t they need? It is important to meet all expectations, but it is as well important to avoid wasting resources in designing products / services which will be used by nobody.

Cite an example of a French consulting house which made an analysis of banking offers in Western Europe in the mid 90s, which found out that 80% of products that were cited in banks’ offers were seldom or never used.

Pricing policy

It is of no use to have the right services if they are not correctly priced. Pricing policy is at the heart of a bank’s know how: in commercial banking, it consist in assessing the risk of selling money to a customer that shows a probability of not paying back.

Price includes many elements: cost of resources, commercial margin for those who have collected the resource, bank’s general expenses and structure costs, cost of risk and finally commercial margin.

Then, price is to be confronted with those offered by competitors. Are you too high? You may not work. Are you too low? If so, have you discovered a niche where competitors charge too high and you may develop, or did you assess a wrong cost for risk?

Finally, are you able to operate profitably with the commercial prices you are able to display?

Place (distribution channels)

Are your business units adequately located according to your customers?

Retail banking needs a large branch network, located in populated areas.

If you deal with small-medium companies, your presence will be developed in industrial areas.

Corporate banking and finance requires fewer units, and distance is less a problem. M&A advisory business needs no network at all since it consists of a small team of highly skilled professionals.

Promotion policy

This aspect mainly deals with retail banking. It consists in having identified selected products that the bank manages and sells well, and wants to develop aggressively. Strong communication and discount pricing will attract customers. Then it is up to the bank to retain them and make the relationship profitable by offering other products/services with higher added value.

People (human resources) policy and Organisation

How adequate are the people in the units? Do they have the local culture and understand well local requirements and habits? Or to the contrary, do they have a difficult time to adapt?

Also, is your organisation in line with the commercial policy? In particular, how long does it take to make a loan decision? To discuss the prices for a deal?

Exercise

Give the group 5 minutes to brainstorm on the first topic: product,

to identify the components of a banking offer included : financial and extra financial services emphasis with the potential markets and their expectations.

give a few examples:

Purpose of a loan agreement, a specific and reasoned credit corporate credit cards, specific insurance, monthly information letter, accounting software, gifts and discount prices associated to a club of customers.

The brainstorming should last 5 minutes and again expect feedback in a brief, concise format.

How is the future of our branch network?

Is our network adapted to our potentials markets?

What are the different components of our branch network to change, to improve the efficiency of our branch network?

This shows that these thoughts lead to dramatic decisions concerning the branch network. Consistency between branch coverage and market reality may lead to close or create branches or other forms of business presence.

Recommendations

Is our strategy consistent with the local markets?

3 main options concerning branches:

However, a branch is something rather costly: fixed investment, IT systems, staff, etc. and if the local opportunities hardly justify such an investment, but the bank still wants to be present or develop business, a range of alternative possibilities exist.

Examination of alternative distribution channels that can be developed instead of branches on the potential markets:

External growth : take over local banks / networks

Develop local partnerships

Remote banking, Electronic transmission, E-business

Wandering office (travelling executives)

Exercise

Ask trainees to imagine during five minutes the alternatives they can implement for part of their own network.

Then gather the ideas, list them on a table (model below) and mention their comments.

Ask them to comment and ensure that each proposal is viable within the logic of their own bank. This could be restricted to 2 or 3 examples if trainees come from a vast variety of banks, for schedule reasons.

TABLE

Recommendations

Opening, relocating, closing a branch is not enough.

Insist on that being present on a market does not mean the bank is efficient

Question

Ask trainees to identify the main data to analyse about this topic.

This exercise will prepare for the material that will follow.

Analysis of the customer portfolio

What are the main criteria to analyse?

Examine for example our corporate customers: are they consistent with the with the bank’s business targets?

Answer elements

Much analysis can be made on the customers portfolio.

For example:

Number of products held on average by each customer

Type of products / services used by customers

Balances by account

Penetration rate in an area or an industry (= number of customers on the whole of the companies of the sector)

Average age of individual customers

Average seniority of the customers in their relation with the bank

1. Human resources management pays

Human resources are considered by Western banks as a resource among others. And here is an example of the estimated profitability of HR management, which by far outperformed financial and industrial investments in a sample of industries.

2. What is found as HR management

HR is most of the time ill managed. According to local cultures, hiring and managing people is mostly based on criteria not linked with the adequacy of the person to the job.

3. What should be HR management

HR management is among the most delicate tasks that exists, so it is difficult to summarise it in a few slides. Main elements here to remind are:

To assess skills and their adequacy to the jobs

To assess the future changes in requirements, determining a career path. The objective in doing this is to ensure that an individual’s future is understandable and motivating. The risk to avoid in doing so is to prevent that skills leave the bank to competition. As it is said with humor at Citibank, the large US bank: “Train the best, keep the rest”.

Also schemes need to be developed to ensure that compensations and other “retainers” offered to bank employees match the individual’ real performance.

Explaining main organisational issues: Branch manager in connection with both front and back office.

Identify responsibility for back office, front office and the overall management of the head of the branch.

2. A branch’s business relies on IT systems

All transactions, all activity of a branch needs to be monitored for coordination either at regional level, or at head office level. Products sold, volumes, client profiles, etc. are all crucial information for the management of the entire network and the evolution of the commercial policy.

IT systems are the only tools that allow a correct management of all this. This explains why the banking and finance industry is the first consumer of information technology.

3. Pitfalls in IT systems

Flawed IT systems can lead to catastrophic bank management. Here are cited a few reasons why systems can’t fulfill their duty.

Stress that the main threat is when decision makers in selecting / implementing IT systems do not have a clear understanding of habits and needs of operational personnel.

Associating branch staff (managers at least) is the key for a successful implementation.

4. Need to have a clear idea of business, challenges and requirements

The analysis of business, needs and local developments as well as strategic issues for the future of branch business is the first stage is assessing requirements for branches’ IT systems.

Reversely, branch staff must understand that a new computer system will not do everything. They will not have something that will work and thing at their place and prepare coffee also.

5. A few key rules, and be pragmatic

“Garbage in, garbage out’ is the most important thing to remember in IT. A system will only be as good as what is in it. This means that reliability, timeliness of data is as important as the processing a parameter setting itself.

Also, in a moving business, it is important to ensure the adaptability of systems to changes. Possibilities of parameter changes, without having to rewrite the entire code, is very important.

6. Choosing a system

In house systems against standard packages

Forwarding key decision elements

Every choice has its own advantages and inconveniences.

Generally the smaller the bank, the better it is to buy a package of simple management tools.

For a larger bank, with its own IT development division, the question can be more acute. There is a balance to find between management requirements, the political power of the IT Division Manager himself, and the business profile of the bank. The more standard operations there are in the bank, the more logical a standard package would be.

Remember that buying an oversized system, where just a small portion of the functionalities will be used by the bank, or requiring heavy changes to match your business, could be a catastrophic operation.

Branches are at the heart of the liquidity flow of a bank, and the main issue for the bank’s treasury department is to keep track of the overall changes in cash flows, aggregating flows from all units (branches + head office commercial business)

The interest rate risk

The interest rate risk consists in the possibility that the interest rate obtained from a loan is lower than expected, or the cost of borrowed resources (including deposits) is higher than expected.

Here again branches are a very sensitive point in this interest rate risk management, as they apply commercial rates to customers and negotiate maturities of transactions.

For all interest sensitive transactions, the reporting system from branches has to collect and aggregate interest rates and maturities of transactions. Only then, a bank can assess its overall sensitivity and be able to carry out an interest rate policy.

The currency (or FX) risk

The FX risk is very similar in its behaviour to the interest rate risk. The policy to manage it is then very similar. Since branches’ business can be carried out in various currencies (local currency, US dollar, other hard or soft currencies), the bank needs to have a well determined FX policy, especially in terms of open positions, and have it well widespread to branches. The currency position needs to be reported daily and the central treasury manages the equilibrium, taking into account regulation and possible active currency position for the bank as a whole.

Stress the growing importance of global risk management and coordination between head office and branch network in implementing the risk management strategy.

Allocating capital to branches

Capital needs to be allocated to risky transactions. Capital is here to cover possible losses. The final use of capital is the responsibility of bank’s top management and closely depends on the ease or difficulty to raise capital.

In respect with the recommendations of the Basel Committee, an amount of capital of 8% of the loan amount is required to hedge the borrower’s default risk.

Banks can have either a simple capital allocation system based on the Basel recommendations, or a more sophisticated system based on its own assessment of credit risk. The only constraint then is, at the end of the process, to meet the overall regulatory requirement.

Examples of capital allocation

The 2 main rationales in having capital are financing the growth of new businesses or investments in the bank, and to cover losses generated by risks.

But capital is a scarce resource, by far the most costly because the most difficult one to obtain. The capital allocated to business units, profit centers or branches have a cost, which must be covered by the transactions using capital.

Risk weighted performance measurement

Return on capital: methods to take into account the cost of risks

RAROC (Risk adjusted return on capital) had been created as a monitoring tool by Bankers Trust in the late 80s. This is a system that measures the profitability of a transaction, after it has been completed, by including the cost of capital in the direct costs attached to the transaction. This risk adjusted profitability (return) is used to calculate a risk weighted return on capital.

RORAC (Return on risk adjusted capital) to the contrary is a pricing method, used to set the price for a transaction before it starts. Capital is increased by the amount of risk and then, profitability is compared with this risk adjusted capital

Exercise: calculating RAROC and RORAC

Assumptions

A bank’s profit center grants a 1 M RUR over 1 year at an 18% interest rate in fine. Head office grants this profit center 500 000 RUR in capital, priced at 15% per year. The BIS ratio for the transaction is 8% of capital over 100% of the loan.

Calculate the risk-weighted profitability of this transaction:

RAROC method:

RORAC method:

Calculation is done ex ante, when the profit is not yet known but the transaction’s return is being defined:

Which means, as a percentage of the amount of the loan, an extra refinancing cost of: 12 000 / 1 M RUR = 1,20%

Asset & Liability management is a topic not always well known, especially outside treasury and central management officers in a bank’s head office.

Definition for ALM: set of techniques aiming at assessing the bank’s sensitivity to risks with the use of modelling and projections. It traditionally focuses on the main financial risks, but can have a broader range and be in charge of the entire financial risk management of a bank.

The issue here is to ensure that branch business is in line with directives gives by the ALM policy. It requires and adequate information system and decision implementation procedures.

ALM: pedagogical exercise

Assumptions on interest rates

Samplebank balance sheet

Question 1:

What is the term value of the bank, assuming that there will be no other transactions?

Question 2:

Interest rates (all of them) drop by 2 points. What is the interest rate sensitivity of the bank?

Answers

Question 1:

Calculating the term value of the bank:

Question 2:

Calculation of the interest rate sensitivity of the bank, assuming that all lines of balance sheet sustain the change

compared with 18,33 before the change. The bank has a sensitivity of 0,62 M RUR per percent change in interest rates.