Retail banks in Japan still struggling with decreasing profitability

• Japanese banks see growth potential in the high mobile and internet penetration rates among local citizens
• Sumitomo Mitsui Group and MUFG Retail are rolling out innovative products and channels to provide better customer experience
• Local banks are more keen to use new digital channels to attract customers and help encourage spending

Japan has shown its own unique approach to product development – referred to locally as Galapagos syndrome - not only in the gaming market but also in financial services. In the retail banking market domination by Japanese mega banks and an increasing absence of foreign competition has led to the development of products and services not seen anywhere else. High costs and low margins have made operations in Japan unjustified for many foreign competitors; HSBC and Standard Chartered Bank withdrew from the Japanese market four years ago and Citibank is currently exiting its retail banking business in Japan.

Many Japanese banks have realised that Japan lags behind the rise of new technology players and the growth of online financial services seen in other parts of Asia. Following the 1990s’ bubble in equity and real estate prices and a general lack of confidence in the economy, retail customers in Japan still prefer to keep their wealth in liquid form, such as cash and government bonds, potentially making these customers an attractive target for new online players. Furthermore, Japan’s high internet penetration rate of 91%, the second highest within the Asia Pacific region, illustrates the country’s growth potential for technology in the banking sector (Figure 1).

Local and foreign banks in Japan see the growth potential that stems from the growing internet penetration rates in the region

There have been technology developments in support of the financial services sector. The Bank of Japan Financial Network System, BOJ-NET, was launched in October 2015 and offers enhanced safety and efficiency for payment and settlement systems used by Japanese retail banks. Furthermore, in line with fintech trends, the Bank of Japan established the "FinTech Center” and the “FinTech Network” to stimulate the exchange of information and expertise related to fintech in a cross-sectoral manner.

These activities indicate a strong sense of urgency from the Bank of Japan to encourage Japanese banks to embrace technology innovations. However, a regulatory change in May 2016 that enables banks to take up to a 5% stake in technology companies will likely bring significant developments and may prove to be the beginning of a game changer for the industry. Larger Japanese banks are ready to invest into fintech start-ups as they seek competitive advantage and drive profit growth.

This article looks at the strategic responses and technology adoption by the two mega banks – SMFG and MUFG - to improve retail customer offerings and maintain their profitability.

Sumitomo Mitsui Financial Group retail trends

Sumitomo Mitsui Financial Group (SMFG) reported that gross profit for retail banking increased by 0.9% to $4.0 billion (¥481.5 billion) in FY2015, mainly the result of asset growth driven by banking-securities collaboration (Figure 2); while profits from mortgage lending declined due to narrowing spreads. Meanwhile consolidated gross profit decreased by 2.6% to $24 billion (¥2,904.0 billion) due to higher expenses of ongoing investments by Sumitomo Mitsui Card Company (SMCC) and other subsidiaries.

Innovating its retail banking strategy has helped SMFG realise higher gross profit

SMFG is one of the three consumer lenders that dominate the lending industry in Japan. SMFG has two consumer lending businesses within the group, SMBC Consumer Finance (SMCF) and MOBIT. Outstanding loan figures for SMCF increased by 2.2% y-o-y, and by 9.2% y-o-y for MOBIT. The larger company, SMCF, holds $6.2 billion (¥741 billion) in outstanding loans, while the faster growing MOBIT has a loan book of $1.9 billion (¥221 billion).
SMCF has 1.6 million consumer finance customers and provides differentiated financial services to different categories of clients. It offers “Free Cashing”, a core product for individual customers to meet their diverse borrowing needs; the “Card Loan for Independent Businessman” for self-employed individuals to satisfy their funding needs; and the “Consolidation Loan” to alleviate the debt service burden of customers repaying loans. Channel networks have also been established to meet the demands of convenient banking. SMCF has built a trusted system for clients by consistently monitoring their transactions and providing a wide range of customer support through a nationwide network of 1,102 automated loan contract machines as of March 2016.

SMFG aims to enhance their capability to provide services by utilizing information and communication technology (ICT) offering banking services on smartphone and business-use tablet terminals. The bank established an IT Innovation department specializing in fintech in October 2015. It aims to offer new fintech products to retail customers such as a platform offering virtual payments, a solution that will significantly enhance payment security and reduce the cost of payments, even internationally, that is already increasingly widely available outside of Japan.

Other initiatives include accelerating the bank’s multi-franchise strategy as highlighted by the collaboration with Bank Tabungan Pensiunan Nasional of Indonesia (BTPN) in which SMFG holds a 40 percent stake. A new branchless retail banking model is to be introduced utilizing BTPN expertise; BTPN is ahead of Japan in mobile banking, having developed a branchless system that gives people in rural areas access to banking services through mobile phones.

For individual clients, SMFG is aiming to strengthen their capability in meeting clients' diversifying financial needs by further promoting collaboration between SMBC and SMBC Nikko Securities Inc, the bank’s wealth management arm. The ability to deliver personal wealth management solutions from a medium-to-long-term perspective, and providing a wide variety of products and services including foreign currency deposits and wrap accounts, has been a widely discussed topic for SMFG in 2016. With the establishment of the “Our commitment to fiduciary duties” programme, technologically enhanced financial instrument intermediary services through referrals between SMBC Trust Bank and SMBC Nikko Securities are already ongoing.

With the full acquisition of Citibank Japan and new operations under new brand PRESTIA, SMFG is promoting their bank-securities collaboration aiming to increase assets under management (AUM) in FY2016 by more than 20% compared to 2014 figures. AUM stood at approximately $0.6 trillion (¥75 trillion) for FY2014.

MUFG retail banking business

MUFG’s retail banking gross profit amounts to 30% of the total gross profit of the bank’s business activities. Retail banking gross profit was reported at $10.6 billion (¥1259.2 billion), with net operating profit at $2.4 billion (¥286.6 billion) in FY2015 (Figure 3). Gross profit decreased by 3.1% because of a decline in revenues from investment products as well as in loan and deposit revenues. Consumer finance and card income makes up 41% of total retail banking profits. MUFG credited the 5.5% growth in revenue from consumer finance and card business to its successful marketing strategies. 

Regional expansion and higher staff productivity through robotisation and digitisation are key components of MUFG's retail growth strategy

ACOM, which is 40 percent-owned by MUFG, is the market leader in consumer lending amongst the three largest players in the Japanese consumer lending industry. ACOM holds $6.0 billion (¥713 billion) in outstanding unsecured loans to consumers. In servicing clients’ needs, ACOM has more than 1000 consumer finance outlets offering over-the-counter services and the company also operates more than 1000 automatic contract machines. ACOM also partners with convenience stores and financial institutions providing deposit and withdrawal channels, with the marketing concept of easy-to-provide/ easy-to-repay financing.

The retail banking arm of MUFG is Bank of Tokyo-Mitsubishi UFG (BTMU). BTMU has 665 branches nationwide, providing a wide range of financial services. The ‘BANQUIC’ brand that was launched in 2007 allows customers to have their loans approved in a day, and cooperation with convenience stores eases the process of withdrawing financed money.

MUFG is working towards being a top financial group chosen by a wide variety of clients. The medium to long term strategy of MUFG retail banking is to deliver sustainable growth in wealth management by promoting wealth management and asset succession services to respond to the needs of an aging population. In February 2016, MUTB released the “Asset Succession Wrap,” which combines the “Mitsubishi UFJ Trust and Banking Fund Wrap” with an asset succession rider that enables a pre-assigned successor to promptly receive wrap account assets in cash after performing a simple application process.

For low risk appetite clients, the Nippon Individual Savings Account (NISA) has been created and is handled by the commercial bank, trust bank and securities companies, which are collectively contributing to expand the investor base. As a result, the NISA balance accounts at MUFG added approximately $3.3 billion (¥400 billion) in assets as of March 2016.

The bank views Asia as its second “home market”. As middle class populations increase, creating growth in demand for deposit, loan and settlement services, MUFG is enhancing its local needs-oriented commercial banking business by enlarging its business network while acquiring, investing in and seeking alliances with local banks. It is actively augmenting its service lineup by acquiring a majority share of Krungsri (Bank of Ayudhya) and forming capital and business alliances with VietinBank in Vietnam and Security Bank in the Philippines. The bank has recently taken a 20% stake in Security Bank Philippines, allowing MUFG to become a strategic partner and enabling MUFG to seize growth opportunities in the Philippines economy.

Technological innovation is at the heart of MUFG’s business plan to generate sustainable growth. It is the first bank in the world to introduce robots at branches. Tapping on artificial intelligence, the MUFG Nao robot was introduced in 2015 to interact and answer customers’ queries, providing round-the-clock banking and multilingual communication. Smartphone apps such as MUFG “Smart Account Opening App” allows customers to open accounts digitally and virtual agents ‘Mai’ and ‘Maiq’ help to answer basic service questions. MUFG has also placed great emphasis on blockchain technology as seen from its July 2016 investment in San Francisco-based Coinbase Global and involvement in various blockchain projects to explore the technology’s application and infrastructure.

The need to adapt, innovate and compete

With deposit rates at virtually zero, falling demand for lending will directly upset the margin that banks can earn from lending cash to companies and households. Banks in Japan are experiencing a challenging time as the central bank continues to place pressure on interest rates to spur credit growth and end deflation. Japanese banks are responding by adopting different strategies to rise to the challenge and achieve sustainable growth. Differentiated product and service offerings and increased partnership and acquisition activity are strategic responses being adopted by two Japanese megabanks to gain customer and market share in the retail segment. These Japanese banks are also seeking to improve their profitability by leveraging on digital innovations to enhance customers’ experience and differentiate themselves from the competition. Regulatory changes in 2016 will see Japanese banks investing more in technology firms, and the retail banking space is expected to become increasingly more competitive in the country.