Living with new realities in banking sector

Eddy Tamboto, Contributor The Jakarta Post, Jakarta | Wed, 03/25/2009 1:56 PM

The Boston Consulting Group (BCG) conducts an annual study to analyze the value creation performance of top banks globally.

This past year has been a very tumultuous year for the global economy and especially the banking sector. The word "unprecedented" has now become a very common description of the current crisis. BCG's Creating Value in Banking 2009 report is aptly named Living with New Realities.

The impact of the crisis on Indonesian banks has fortunately been very different from how it has impacted major global banks.

That said, it is worthwhile for Indonesian bankers to step back and reflect on the global upheaval, before getting down to the task of thinking through what should be done at home.

Globally, the losses suffered by the banking industry are astounding. Since the pre-crisis peak, the market capitalization of the global banking industry has fallen by US$5.5 trillion.

This is equivalent to the about 10 percent of the global GDP. But losses are only half the story. The financial crisis has done more than destroy value and topple banks.

It has redefined what financial institutions must do to compete and win. For banks, this crisis will prove to be as transformative as it is destructive.

Banks are living with new realities that will redefine what they must do to compete and win. As a result, we expect the much-maligned universal banking model will re-establish its primacy.

The fundamentals of this model are sound. Banks using the universal banking model are built on strong customer relationships and funded predominantly from their own deposit base.

In Indonesia and the rest of Southeast Asia, the universal banking model has been the predominant business model of choice for major banks (e.g., Mandiri, BCA, Danamon, etc.) and this is clearly going forward.

Banks will become more focused. They will compete where they can win. Large banks will still loom over the landscape, but they are much more likely to be multi-local institutions -repeating a simpler, more standardized business model across fewer countries - rather than wide-ranging, highly complex global titans.

By returning to the past banks will move forward. They will once again emphasize old-fashioned products and practices, where the bias is to lend what is brought in as deposits.

Their business models will reflect a more cautious, more highly regulated, and less risk-oriented environment. There will be a stronger focus on transaction, processing and fee-based activities.

This does not mean that banking will be dull or easy. If anything, it will become more demanding as banks get back to the business of focusing on their customers - the emphasis will be on relationships, not products.

The new realities will force many banks to fall back on core businesses and leaner cost structures. They will revert to the things they do best and compete only in markets where they have strong positions.

These actions - coupled with better risk management and an up-to-date view of how the crisis is playing out - should do more than ensure stability.

In Indonesia to date, we are fortunate that the crisis has had a more muted impact on the banking sector.

Indonesian banks are in a much healthier state than most in other parts of the world, partly due to the painful restructuring they underwent as a result of the Asian financial crisis a decade ago.

Two Indonesian banks that feature as top performers in BCG's Creating Value in Banking 2009 report are BCA and BRI. BCA appears in the top 10 for highest Total Shareholder Return among mid-cap banks globally in 2008 based on returns for the past five years.

BRI is among the highest for profitability performance in 2008 as measured on the basis of return on equity. This is clear evidence of the Indonesian market potential.

That said, the crisis presents some clear short-term challenges and opportunities. At the top of the list is clearly managing asset quality. There are expectations from many analysts that the nonperforming loan rate for Indonesian banks will go up in the short term as the economy cools down.

Proactive management of asset quality will determine whether banks will have a decent or a horrible 2009. Beyond that, a critical topic for many banks will be the strength of their retail deposit franchise.

A successful deposit franchise can contribute a material difference to a bank's profitability as well as provide customer relationships to expand the business in the long term.

Many bankers are also talking about how loan growth will slow down in the near future relative to the aggressive growth we saw in 2007-2008. This is likely to happen.

However, it is also important to balance that with the longer term view of the market. There are long-term attractive market opportunities in many different areas - including retail banking, micro-finance and the wholesale segment.

In our view, the slowdown provides clear opportunities for banks to re-tool the necessary capabilities, processes and systems they need to capture the longer term opportunities.

Acting now will position banks to gain substantial ground in their core markets at the expense of competitors that do not respond quickly and with purpose. As we have already said, a crisis is too good an opportunity to waste.

The writer is a partner and managing director at BCG's Jakarta office. This article is based on the Living with New Realities: Creating Value in Banking 2009 report, which can be found at http://www.bcg.com/impact_expertise/publication/files/Creating_Value_in_.... The Boston Consulting Group is a leading global management firm