Financial Services Deals Chart of The Month: UK Banking – new paradigm required
July 15, 2016
The aggregate statutory profitability of the UK’s major banks since the financial crisis has been poor, with little sign of improvement in recent years (see chart below).
While, understandably, the banks are keen to focus on so-called underlying profits (excluding the costs of PPI, litigation, restructuring and other customer redress for example) – which show a more positive trend – over the long term it is statutory profits that produce shareholder returns.
This disappointing financial performance has been produced despite a period of stable market shares and market structure, a benign economy and a competitive environment characterised by high levels of customer inertia. In combination with today’s considerably higher capital requirements across the industry, profitability is now unsustainably low.
Challenged on all fronts
The banks’ challenges are on all sides of their business model. Despite shedding over 200,000 jobs (almost 1/3rd) since 2008*, total operational costs are largely unchanged over this period. The balance sheet deleveraging and prevailing anaemic levels of new lending growth also deprive the banks of any operating leverage benefits, further adding to their cost pressures.
Aggregate income has reduced by over 20% since 2007* as the banks have reduced the size of their lending books by £800bn and income yields have fallen, driven by the prevailing low interest rate environment and high levels of competition for new customers. The only good news for the banks over this period has been the reduction in the annual charges for bad debts and other impairments, although, in large part this is the corollary of the low interest rate environment and modest levels of new lending. This could, of course, reverse if the UK economy deteriorates post the recent EU referendum.
Radical shift now needed
The UK’s major banks need to find new ways of generating income, or migrate to radically lower cost models, or preferably both. The level of competition is only increasing as challenger banks gain increasing scale, new fintech-driven entrants emerge with completely different models and cost structures, and new sources of capital flow into the sector targeting many of the banks’ previously most attractive markets. Official interest rates remaining lower for longer doesn’t help either.
Against this background, a new paradigm is now urgently required especially in a post-Brexit world.
Get in touch if you would like to discuss this further. You can also download the graph as a pdf here: Download 160715-094323-PS-UK_FS Deals Chart - Flyer FINAL
