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Redefining the Path to Profitability

As lenders are developing their post-recession investment and growth plans, they are taking the recent pause in growth as an opportunity to examine alternative methods to add value for both themselves and their customers.  While this has been evolving over many years outside of the United States, the movement has been more pronounced of late in North America, where lenders prior have relied more on direct-to-consumer channels and processes for growth in their customer base.

Several factors have combined to modify lender views on increasing profitability.  Higher delinquencies across most loan products, higher contact (collections and service) costs, lower response rates from traditional customer channels and other factors are pressuring business managers to investigate new ways to grow customer relationships and profitability.  In addition to these pressures on cost, perhaps the two most influential forces are increased regulatory oversight and reduced availability of capital to grow.

With stress on capital for growth and economic pressure on loan repayment performance across the board, financial institutions are learning that the data and experience they already have, especially in consumer lending, has more significant value today than ever before. 

Large banks, superregional, regional and local banks are realizing that they have either: home equity, vehicle, deposit or unsecured history with most of the credit-worthy households in their footprint.  The banks have built or acquired via bank consolidation extensive relationships and historical data on the households they work with.  The value of these data has increased relative to other customer expansion channels.

Lenders are therefore asking a different set of questions.  As they realize that there is already some history or open lending relationship with most of these consumers, there has been a shift from: “How can we add new accounts in these business lines” to:  “How can I grow profitability per consumer?”
 
This alteration of the fundamental underwriting equation requires a refocus of the toolkit in marketing and channel communications with the customer, and an even more significant focus of the credit underwriting policy and fundamentals.  Client banks are looking at their existing relationships, usage and repayment patterns across all loans, and determining the amount of credit facility they are willing to extend further to existing consumers and households. 

Once a bank identifies the amount they are willing to lend to a consumer, they then need to do three things:  Determine how much they are willing to allocate to collateralized loans and how much to unsecured loans; price the overall bundle and each incremental relationship; and identify the channel to communicate that offer to the customer.  These steps are evolving and will be discussed in future blog posts.

There are two significant changes in product promotion that this entails for financial institutions.  The first of these is the recognition that internal information has more significant value today.  Secondly, it has become more effective to use existing customer communication channels than to use legacy marketing techniques with customers as if there are no other bank relationships.  Successful banks have developed a promotional hierarchy that is both time and channel dependant. Five or ten years ago, a consumer would have received 5 to 9 promotions a month via mail, email and statement.  These banks today are still making these promotions, but they are more varied and contact type dependant.  A customer with a new mortgage with a bank may receive a vehicle loan promotion at 4.9% for $25,000 when they make a payment at a branch.  They may receive a completely different rate, limit or product offer if they phone the bank, and a different offer if they contact the bank on-line.  The product, limit and price will vary over time and place.

As bank profitability becomes more dependent on extending customer relationships, pricing across a bundle of products and services is becoming more complex.  To address this multi-dimensional challenge, FICO is working with banks on decision model and testing environments that evaluate constraints across the entire bundle and by product and product component.  We have also worked to enhance the ability of clients to view strategies for customer treatment segment by segment and node by node.

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