A future for bricks and mortar

Physical banks are not an anachronism, but less is sometimes more. As more and more customers of financial-services companies turn to low-cost virtual-distribution channels, the higher-cost physical channels--traditional bank branches, in particular--will no doubt have a harder time earning their keep. Yet rumors of the death of bank outlets are exaggerated (Exhibit 1, on the next spread). Indeed, banks should find them a source of substantial value for years to come if they are carefully contoured to fit the rest of the distribution system and local market opportunities. [1] For bank outlets offer customers something that the Internet can never match: a secure physical location for transacting complex financial business with real people. In fact, their use has recently been increasing--from 54 transactions per US household in 1993 to 62 in 1998. More than 80 percent of consumers visit a physical outlet at least once a month, and bank outlets still generate 80 to 90 percent of new deposit, investment, and loan accounts. Thus it should hardly be surprising that consumers prefer financial institutions offering services both on the Internet and in physical outlets to institutions that offer them only on-line. Although 40 percent of on-line customers say they would consider opening an account with an on-line-only banking institution, some 70 percent say they would open an account with a bank that had physical outlets as well. Similarly, only 28 percent of brokerage customers say they would open a pure on-line brokerage account; 42 percent say that they would open an on-line account if the broker also had physical locations. Bank executives too favor physical outlets. In a series of recent interviews, several top executives of leading US banks identified physical channels as the most defensible source of competitive advantage over attackers. Executives confirm that while the Internet and phone channels are good for meeting the service needs of existing customers (by, for example, providing their account balances), physical outlets are better at bringing in new business. Charles Schwab, the pioneer on-line broker, reports that 70 percent of its new accounts are opened in its branches. It plans to increase its branch network, now approximately 350 units strong, by 15 to 25 percent a year over the next several years. Many conventional banks find that when they shut down a physical outlet, a new-economy competitor like Schwab moves into the space. But physical networks definitely need careful tending to flourish. Overall, they account for 50 percent of the cost base of a typical retail bank. During the past few years, banks have been busy developing lower-cost channels: automatic-teller machines (ATMs), telephone centers, and the Internet. Paradoxically, these often increase total distribution costs. If banks want to raise the productivity of their total distribution systems, they must cultivate their branch networks too--pruning in some places, planting in others. It isn't hard to find and close the worst-performing 10 to 20 percent of a bank's outlets. Although getting the rest of the network into shape without losing customers can prove much harder, it is worth the effort. Our experience suggests that optimizing the physical network can improve a retail bank's cost-to-income ratio by 5 to 8 percent. Principles of distribution Many bank executives would agree that optimizing a retail distribution system involves providing customers, at a minimum, with comparable convenience at a lower cost. Distribution systems today comprise not only physical channels but also remote, or virtual, ones. Banks need to understand how their physical outlets fit with these other channels. Before making ground level decisions about specific outlets and customers, banks must develop broad guiding principles for serving their target segments. Banks often start work on their distribution strategies by developing value propositions for many microsegments. …