Australian banks to pay the cost for bad behaviour

The past twelve months have been a turning point for Australian banks. A regulatory crackdown in the aftermath of the royal banking commission’s findings beginning of 2018 exposed systematic failures and breaches of trust by incumbent banks. Their business model was far from being aligned with customer’s interest, focusing instead on revenue and shareholder profit and paying less attention to how those outcomes were achieved. ANZ’s CEO, Shayne Elliott, admitted to the royal banking commission that teams inside ANZ had made decisions based on their own knowledge of their own world around them, rather than the greater group, and so they search for and sought short-term tactical solutions when problems arose. At the same time, banks extolled their community engagement activities to its shareholders.

This dilemma between balancing different stakeholder interests surfaced also in wealth management. The largest banks CBA, ANZ, Westpac and NAB cultivated for years a model that is based on the provision of financial advice and the manufacture of financial products. Around this platform, they built a large pool of financial advisors to sell it. This modus operandi called vertical integration is being used across Australia and Asia in various forms to achieve economies of scale and reduce cost. As a result, they have offloaded their advice platform, superannuation and asset management businesses. The fallout from this crisis will have profound implications for the financial services industry not just related to customer compensation, fines and penalties.

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Consumer compensation cost, the Australian Financial Review said, could hit $10 billion. The portion on overall IT spent in the banking industry allocated for risk and compliance jumped from 29% to 35% between 2017 and 2018.

In January 2018, immediately prior to release of the findings by the royal banking commission, the net promoter score (NPS) of the big four banks was 2.8 and this fell to minus 2.8 in November 2018, according to Roy Morgan. The latest figure for February 2019 has shown some recovery to minus 1.6 but this remains one of the lowest levels recorded since 2014 and much lower than the latest rating of 23.2 for banks outside of the big four.

The reputational and business impact varies by bank however. CBA are digesting the impact on customers and deposits better than peers, partially because of their strong digital platforms. CBA’s is a market leader achieving a NPS of 37.8 for mobile and 31.3 for internet banking as of June 2018. It achieved a retail deposit growth of 3% yoy between June 2017 and June 2018. By contrast, ANZ had an outflow of retail deposits of one billion dollar between March 2018 and September 2018. Its growth was flat between September 2017 and September 2018. At AMP, the country’s oldest wealth manager, customers took away more than $5.5 billion dollars of superannuation and other investments for FY2018 with the outflow expected to continue in the first half 2019.

Besides the immediate impact, it may also catalyse a long-anticipated change in the competitive landscape and the way regulators trying to further break the cartel like effects of the industry such as lack of transparency, price wars and associations. In 2017, a consortium of largest banks sought the authorisation of the Australian Competition and Consumer Commission (ACCC) but ultimately lost its fight to collectively bargain with Apple and boycott Apple Pay. Despite the outcome, banks, with the exception of ANZ, have blocked Apple Pay in the next two years to offer this choice as a mode of paying. CBA customers have been persistently requesting Apple Pay for years.

In January 2019, the bank said “we heard you” via social media and made Apple Pay available to personal customers resulting in a 400 per cent increase in the number of payments made.

In the past, regulatory efforts to open up the banking industry had only limited effects despite making it easier to switch accounts. The big four banks market share to all household loans remained relatively stable between 2010 and 2017, shifting only slightly from 84% to 82%. At the same time, customer stickiness despite dissatisfaction kept two thirds of the big four bank’ customers from changing to other financial services provider. Most didn’t believe that 2nd tier and smaller banks had the same financial capabilities and price offers. Change is coming, however. The consumer data right (CDR), as part of the open banking reforms, will give customers unprecedented access to their banking and utility data, including credit scores enabling them with those data to get a comparison from other financial services providers. There are more than 25 new financial institutions seeking a licence with APRA either through the sandbox regime or actually formally seeking licences to enter the market. Smaller non majors are currently growing at a rate faster than the big four on the customer a sales side, and some are pushing aggressively into the market with more branches and better home loan services, though they are beset by their own transformational issues.

Bank Australia, a customer owned bank made up of 72 credit unions and co-operatives before 2015, grew its customer base by 35% yoy in FY2018 from 25%yoy in 2016 and 30% yoy in 2017. These growth rates will put a strain on dated internal systems and processes, operations, customer service and staff. Bank of Queensland and Suncorp are symptomatic for a class of players which struggle in modernising their core banking applications. BoQ’s lack of successful execution on the digital banking front and the inability to attract new owner managers for its franchises has hampered financial performance. With an intensifying competition and entry of new players into the market those smaller conventional banks are likely to be the biggest causalities.

ING Direct, the 5th largest home loan lender, has more than doubled its customer acquisition from 163,000 customers in 2016 to 400,000 customers in 2018. Of the 700,000 interactions ING has with its 100% digital customers each day, 70 per cent of that is through the mobile apps. While the big four are scaling back their product suite, simplifying their structure and processes, ING introduced in the last 18 years 5 products. Besides, mortgages, checking and savings accounts, pension products and superannuation it entered into personal loans in 2018. The bank grew its retail deposits by CAGR 5% between 2011 and 2015 but it grew since at a CAGR of 12% between 2015 and 2018. Part of this increase is based on the accelerated trend towards digital banking since 2015 and its added personal loan portfolio.

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In an interview with local media the CEO of Xinja, a neo bank which anticipates a full banking licences in 2019, said that the market may see four to five new neo-banks start up over the next 24 months. Volt Bank is expected to launch this year and has been granted a restricted authorised deposit taking (ADI) licence from APRA. While, customer numbers are not available yet for those, one indicator that customers may switch only gradually over time are the digital user growth per month of Up, the first fully licenced and cloud hosted digital bank of Bendigo and Adelaide Bank, the country’s sixth largest bank by assets.  Between its launch in October 2018 and December 2018 it was reported that the bank reached 20,000 users, acquiring a much lower digital user base per month compared to the larger banks (see figure X)

Changes in the competitive nature of the industry come at a time, when the incumbents are already one of the most digitised commercial banks in the Asia Pacific. 7 out of 10 banks in Australia allow new to bank customers to open a current account via mobile banking. CBA launched opening of full transaction accounts in 2016, which can be opened in three minutes including instant access via cardless cash and mobile payments.

Westpac, CBA and ANZ began also to architecture its technology stack to allow for a faster innovation cycle. NAB has just started. Between September 2017 and March 2019, the bank removed 8% of its IT legacy applications and 8% of applications have been moved to the Amazon Web Servies (AWS) as part of its AU$1.5 billion transformation strategy. It will eventually see a 35 percent shift to the cloud of its total 2600 applications.

Leading Australian banks are also good a managing cost. ANZ and CBA have a retail cost to income ratios of 35% and 38% respectively as of FY2018. At the front end, for instance, 42% of all products and services offered at CBA are sold online with 55% originating from mobile device which positions the bank in the top league among large domestic banks in the Asia Pacific. But the reality is that customer expectations are rising, regulatory scrutiny is increasing, and there will be a whole new range of competitors which banks see clearly as a threat.

Banks in Australia which pursue a multi brand strategy have been integrating their various subsidiaries under a single retail banking platform since 2015 to leverage better a shared understanding of customers’ needs and expectations across brands.

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The big four are in the midst of decluttering and simplifying their product and operational structure. The number and size of processing problems and the complexity of product design in the industry is so acute that it was highlighted by the royal banking commission. There are 408 operational steps at ANZ’s mortgage process and a large number of those steps are manual. According to NAB, it offered around 600 products in FY2017 which they reduced to 459 in FY2018 with a final number of 300 in the next five years. 

Westpac will be rolling out its new Customer Service Hub for mortgages in 2019 and extend the offering out to third-party channels by 2020, which is part of the group’s $800 million spend on system upgrades, digital transformation and innovation. At St. George mortgage applications can already be completed online or via mobile with specialist support available via live chat, personalised pricing and valuations and customers can stop and restart the process at any time. The bank has also started to offer mobile cheque deposits.

Westpac and NAB are heavily invested via their capital venture funds into a series of fintech companies such as Valiant, a business loan market place that matches SMEs to the best lender or Slyp which enables merchants to instantly send customers a smart digital receipt directly to the mobile banking app. The partnership is developing a range of smart receipt engagement modules that helps customers, merchants and banks to interact more meaningfully, including: intuitive ratings, offers and seamless loyalty enrolment.

ING allows customers to set automated saving goals triggered by specific events. For example, a customer can save for a tropical holiday by transferring a certain amount from the savings account every time the temperature drops below a certain degree on a daily base.

We’re starting to see banking combined as part of other (digital) services and this trend will accelerate in 2019. For example, NAB launched a partnership with realestate.com.au, combining property search with the home loan process.

Cashless payment transaction

Non-cash payments account for most of the value of payments in the Australian economy. Over 70 per cent of the value of non-cash transactions is accounted for by a small number of high-value payments made through Australia's real-time gross settlement (RTGS) system.

On average, in 2017 non-cash payments worth around $242 billion were made each business day, equivalent to around 14 per cent of annual GDP. The migration of large business payments to the RTGS system saw a decline in the importance of the cheque as a payment instrument. In 2017, around 4 cheques were written per person in Australia, down from 20 cheques per person 10 years earlier.

Cheque payments registered a decline of 22% from 2017, this year accounting for only 70K transactions versus 90K in 2017. As it stands, transactions thru the New Payments Platform (NPP), has even overtaken cheques even if the NPP was first made accessible to the general public only in February of 2018. NPP transactions for 2018 amounted to 74K.

In contrast to the declining importance of cheques, the use of electronic payment instruments at the retail level has grown rapidly. Debit cards have been the most frequently used payment method since 2010.

Double-digit growth has been recorded totaling 6.5M transactions in 2018 from 5.6M transactions in 2017. Debit card transactions is more than 2x more transactions than Credit and charge cards (see chart). The popularity of Debit cards reflect users’ preference for convenience and faster payments, and widespread acceptance coupled with lesser fees for merchants.

For many years, Australian governments and businesses have made extensive use of Direct Entry credits for social security and salary payments. Consumers and businesses also establish direct debits for bill payments. These payments continue to account for the bulk of the value of non-cash retail payments (i.e. non-RTGS transactions).

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Total value of Debit card spending by Australians has more than doubled since 2010, landing at 321B in 2018. However, in total value it is one of the lowest compared to 7.8T/B AUD of Credit Transfers and 3.49T/B of Direct Debits transactions.

The data shows us that while Australians swipe their Debit cards more frequently, they do so for more low-value purchases, the everyday necessities for example.

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New Payments Platform

To enhance convenience and encourage electronic payments for the daily, low-value transactions, the RBA and its Payments System Board rolled out a new payments infrastructure known as the New Payments Platform (NPP) that allows customers of different banks to make payments and transfer funds in real-time. Developed by SWIFT in collaboration between 13 members of Australia’s financial services industry, including three entities that are service providers for smaller institutions: ANZ, Australian Settlements Limited (ASL), Bendigo and Adelaide Bank, Citigroup, CBA, Cuscal, HSBC Bank Australia, Indue, ING Australia, Macquarie Bank, NAB, the RBA, and Westpac.

The platform provides an addressing service known as PayID, which allows users to enter only the recipient’s mobile phone number, ABN or email address to transfer the money (instead of sending a payment to a BSB and account number) any day of the week, on a 24/7 basis.

Despite infrastructure constraints, there has been steady rise in NPP transactions since its launch in February 2018. More than 1.9 million PayIDs had been created as of late August, and around 29 million payments worth $21 billion had been sent through the platform. The average value of an NPP payment has increased and is now around $900, consistent with the NPP being used for some larger-value payments that previously would have gone through the Direct Entry system. Over time, it is expected that the NPP will replace an even greater share of Direct Entry payments, particularly those that are more time critical or which benefit from the additional data capabilities.

Australia’s Big 4 payments initiatives

Westpac launched Siri for Westpac, an extension of the bank’s app for iPhones that enables customers to link their account to make a payment or check their account balance by giving Siri voice commands. This is considered a first in making payments thru voice technology. As a second-step authentication, Apple’s face ID or fingerprint scanner will be activated.

ANZ has activated contactless payments on compatible Android smart phones using Google Pay. To make a payment using Google Pay, customers just need to hold their phone over a payment terminal. The phone will then beep or vibrate to signal the payment is being processed. Once the payment is accepted the customer will receive a notification on the phone screen. ANZ likewise offers its customers an ability to make contactless payments thru Apple Pay.

NAB is working with Microsoft to design a proof-of-concept ATM leveraging cloud and artificial intelligence (AI) technology. The ATM is designed to allow customers who have opted into the service to withdraw from an ATM without a card. The ATM will use facial recognition combined with a PIN to authenticate the customer.

Commonwealth Bank (CBA) has undertaken the largest on-boarding of local businesses into payments technology giant Alipay. A total of 94,000 Albert touchscreen devices currently distributed by the bank across Australia have been activated with the ePay app. Once ePay is installed, it will enable local businesses to accept Alipay to improve the point-of-sale experience of inbound Chinese tourists and consumers. Thru ePay, local Australian businesses are likewise able to launch location-based promotional campaigns to Alipay wallet users, long before en route Chinese travellers even set foot in Australia.