Chapter VI: Banking Strategies: Analysis & Challenges

By Dr. Karim Kobeissi Lebanese University - 2013

Introduction
What is a Strategy?
A strategy is a long term plan of action that clearly articulates the direction a business will pursue and the steps it will take to achieve its objectives.

According to Porter, the purpose of any strategy is to achieve a sustainable competitive advantage for the business.

Introduction (con)
For years, banks have realized the need to define a business

strategy, not only for reasons of internal clearer presentation

of the mission and objectives but also for external causes of

communication with their shareholders1 in order to expose

controlled development.

Section 1: The Field of Banking Strategies

Defining a Strategic Field of a Bank The bank Strategy must belong to a field whose boundaries are obviously defined so as to clarify the limits of the activity and avoid dispersions. The main variables structuring the strategic field of a bank are: products, customers, technology and geographic area.

1.1 Variables Defining The Strategic Field

In banking, Zollinger (2008) defined the four variables structuring the strategic (or competitive) field as follows: 1) Clients The customer dimension contains a variable number of

elements according to the degree of distinction retained in segmenting the market: individuals and companies as well as

public organizations and financial institutions. It is mostly the

first two categories of customers that form the largest bulk, which can be segmented.

1.1 Variables Defining The Strategic Field

2) Products The product dimension reflects the representation of banking as a multiproduct activity. Each product line (e.g., Loans1, Investments, deposits) correspond to a function, to a usage type and to one or more customer segments: a) Services related to the management of deposits and credit operations. b) The products of financial engineering: management consulting to the financial asset (investments). c) The risk management services: currency risk, country, interest rate, credit. -d) The provision of value added services such as linking customers through exchange of information, funds or securities.

Variables Defining The Strategic Field (con)

3) Technology The technology concept is taken in its broadest sense, which permits to

integrate the nature of the means of production and the channels of

distribution.

Technology affects all other dimensions structuring the strategic field due to its influence on the marketing and delivery of products and services. The same product or service can be distributed via different channels and technologies (internet, phones,). The technology can also affect other operations such

as information storage, transmission or treatment of operations. Information

technology permits bankers to spend more time in contact with their customers which is a very important task in the banking sector and facilitate data analysis and offers customization (CRM).

Variables Defining The Strategic Field (con)

4) The Geographical Area This dimension takes into account on international scale, the physical proximity and cultural similarities. It is particularly characterized by the concepts of risk, regulation and customers needs1. In the banking sector, this aspect has long been a key variable in defining the strategic field, which is probably less true in the current period. But a reflection of the size and boundaries of the area of intervention is essential. Decisions in terms of optimal size and articulation between local and global dimension in terms of service, contact with customers and the organization, often determine the success of the largest banks.

***The Matrix of Competitive Fields***

The Matrix of Competitive Fields (con)

The various combinations of these choices correspond to different strategic and competitive profiles. Each of the elements (A; B; C)

of this

matrix identify

a distinct competitive field

which

correspond to a different strategic objective for the firm. In fact, the elements A & C correspond to the same product type

(e.g.,

Debit

Card)

sustained

by

the

same

technology

(IT

Hardware & Software); however, they target different customer segments (Business Men & Ordinary Clients). Moreover, the elements A & B correspond to the same product type (Loan) targeting the same customer segment (Middle Class Employees); however, with different technologies (SMS, Internet).

The Matrix of Competitive Fields (con)

FOR EVERY COMPETITIVE FIELD, THE BANK CAN APPLY A DIFFERENT

STRATEGY.

Section 2: Possible Strategic Options for Banks

In the banking sector, two techniques of strategic analysis allow us to understand the strategies that could be adopted in consistency with the selected competitive field. The first technique is based on the results of an analysis of

the

business

in

terms

of

its

strengths,

weaknesses,

opportunities and threats (SWOT Analysis). The second technique is based on the results of an analysis of the business in terms of the factors of change in the banking industry.

2.1 Strategies Derived From a "SWOT Analysis

The various strategies outlined in the SWOT matrix have marked the development of banks during the past thirty years and stimulated

the challenge between traditional strategies of diversification and

specialization. These strategies are based on the variables that define their fields namely customer, product, technology and geographic area.

Within a "SWOT" matrix, the banks objectives on a competitive field must derive from the knowledge of the competitive position occupied at any given time and the the "Opportunities & Threats" banks market share. This from the changing diagnosis in terms of "strengths & weaknesses" is confronted with resulting

environment.

The SWOT Matrix

SWOT Matrix & Possible Banking Strategies

Strategies Derived From a "SWOT Analysis (con)

2.1.1 Conquest Strategy
A conquest strategy is an offensive strategy which express a will for power and

domination. It assumes the full involvement of the general direction of the

bank.

Conquest of Individuals

Private individuals insure a stable supply of the banks deposits and represent A
marketplace for a range of services and products . Conquest of Companies the exploitation of this segment requires the use of industrial management methods in job organization as well as in long term planning, and the adoption of new techniques of marketing.

Firms are vital for the bank in terms of potential long-term growth. However,

Strategies Derived From a "SWOT Analysis (con)

2.1.2 Re-Orientation Strategy
Like any business, the bank evolves according to cycles and meet at certain times of its development some sudden changes which impose modifications that are necessary for its survival. The objective in this case is clear, it aims to reconstruct a manoeuvre

margin and a range of possibilities. The crossing point is financial:

interrupt participation, taking away losing activities... This strategies require having a capital knowledge on the new means employed in the banking activity and their own advantages. Decisions consist generally in focusing on activities in which the bank has strengths which will increase its profits. Another choice is to take advantage of existing products that are insufficiently

developed.

Strategies Derived From a "SWOT Analysis (con)

2.1.3 Re-Orientation & Divestments Strategy
The implementation of reorientation strategies can be also translated by divestments (e.g., sales of all the banks branches in Lebanon) hence, making resources available for development in a new

geographical area or even a different business industry. Generally,

divestments are taken into account when the environment appears exceedingly risky and the position of the bank in terms of market share, cost or quality, does not allow it to hope for a development in this specific banking field (the part located in the lower left of the SWOT matrix).

Strategies Derived From a "SWOT Analysis (con)

2.1.4 Consolidation Strategy
In business, consolidation refers to the mergers and acquisitions

(M&A) of many smaller companies into much larger ones for

economic benefit. The dominant rationale used to explain M&A activity is that acquiring firms seek improved financial performance. The following motives are considered to improve financial performance: economy of scale,

economy of scope, increased revenue or market share, crossselling, cost synergy, taxation, geographical or other diversification, resource transfer, vertical integration, and hiring.

Strategies Derived From a "SWOT Analysis (con)

Finally, a consolidation strategy can be adopted following a major

failure which makes renewal a necessity. The priority consists in

reinforcing and solidifying the key strengths of the bank, in slowing

down the decline and in protecting the independence of the bank.

2.2 Strategies Derived from Changes in the Banking Industry

The factors of change in the banking industry (IT expansion;

deregulation;

innovation;

modification

in

the

demand,

globalization of financial markets) produced and continue

producing

effects

leading

to

two

strategies

Diversification and Specialization.

Strategies Derived from Changes in the Banking Industry (con) 2.2.1 Diversification Strategy

According to Zollinger (2008), diversification is based on a

modification of the structure of the strategic field. The banks modify the structures of their strategic fields in

terms of products, customers, technology or geographical

area.

Usually, to diversify is to offer new activities (insurance,

brokerage, ...) corresponding to new products and new services.

Strategies Derived from Changes in the Banking Industry (con) Three types of diversification:
1)Vertical Diversification

This type of diversification consists in selling existing products for

other customers or in other markets (e.g., open an agency to Nabatiyeh).

2) Horizontal Diversification
This type of diversification consists in selling new products having possibly a technological link between them but having especially a commercial link because the customers are the same. 3) Conglomerate Diversification This type of diversification consists in entering an entirely different market that has little or no synergy with its core business or technology (ex: selling cars, jewellery, financial products... ).

Strategies Derived from Changes in the Banking Industry (con)

Advantages of Diversification

The foundation for using the diversification strategy in the banking

sector or even out of the area rely on three paradigms: 1) Cost Savings

The first advantage of diversification arises from the possibility to

exploit economies of scale. They can occur due to the sharing of certain resources or certain assets of several products (distribution network; employees; IT system). Diversification may be considered because of the complementarities of products offered when it is possible to sell various products to certain categories of customers.

Strategies Derived from Changes in the Banking Industry (con)

2) Risk Reduction In financial theory, it is assumed that to reduce the risk we should diversify the portfolio of our assets (e.g., BBVA Bank). The risk for a diversified bank will increasingly reduce as the correlations

between the yields on the banking and non banking activities are weaker (from this point of view, the diversification in the insurance field is justified).

Strategies Derived from Changes in the Banking Industry (con) 3) Market Power
The ability to sell a set of diversified products to the same customer can reduce the information asymmetry between the bank and the customer. It also can lead to the creation of a market power: customers detaining several products with the same bank find it

difficult to change even when they receive appealing offers from

competitors.

Strategies Derived from Changes in the Banking Industry (con)

2.2.2 Specialization Strategy

This strategy consists on focusing the activities of the bank on a market segment that corresponds to a type of financial products (Bank of New York management of financial shares), of customers (e.g. Barclays clients riches) , of technology (e.g. First Direct online banking only) or of a geographic area (e.g. Lebanese market only). This strategy allows the bank to be clearly identified by clients, to better highlight its professionalism, show reasonable development and control. Experience has shown that the concentration on a limited number of segments leads to a better monitoring and control of risks.

Specialization strategy can lead to either differentiation or a cost leadership approach.

Differentiation Strategy
The strategy of differentiation is the search for a competitive advantage built around a unique character of the offer which is perceived by the customers. This unique character has to make the imitation or the substitution of the offer by the competitors very difficult.

The differentiation strategy allows the bank to escape a direct

competition by the prices. It is thus a question, for the bank of fighting against its competitors by implementing means

other than the price to make perceive its products as unique

in the eyes of the customers.

Advantages of Differentiation Strategy

This strategy favors the creation of special relationships with customers, thus making it difficult to change bank). It also allows to set a higher price level for products and services.

Disadvantages of Differentiation Strategy

The bank has to watch out that the differentiation cost does not entail a higher price to the one that the customers are ready to pay the bank does not have to try hard to differentiate a product or a service which has no value for the customer.

Moreover, the competitors may easily imitate the difference

character.

Cost Leadership Strategy

Cost leadership, in basic words, means the lowest cost of operation in the industry. The cost leadership is often driven by company efficiency, size,

scale, scope and cumulative experience. A cost leadership strategy aims to

take advantage of the scale of production, a well defined scope and other economies (e.g. a good purchasing approach), producing highly standardized products, and using high technology. In the banking sector, the technology is

in the center of this strategy, as well for the production costs as for the
distribution costs.

N.B. Cost leadership is different from price leadership. A company could be the lowest cost producer, yet not offer the lowest-priced products or services. However, cost leader companies do compete on price and are very effective at such a form of competition, having a low cost structure and management.

Cost Leadership Strategy

At the production level Commercial banks took advantage of the continuous decrease of computing costs (due to IT innovation) to optimize the processing cost of their current transactions. Ex: the unit cost of processing of a bank check decreased by half during these last twenty years.

At the commercial and distribution level Banks developed more flexible information systems

(consultation of the sales of accounts by videotex, creation of a Web site)

Advantages of Cost Leadership Strategy

Increase revenues. Increase market share. Develop loyalty and gain new customers. Weakening competitors. Channel value back to customers in terms of better service at lower prices.

Disadvantages of Cost Leadership Strategy

A price war (if the competitors reduce also their prices).

The cost cutting can reduce the capacity of innovation of the company and thus its adaptation to the market.

Increase the investment expenses (the domination by the

costs generally require important investments).

Remarks
According to Porter, on an aimed market, it is necessary to adopt a single

strategy (differentiation or costs leadership). However, the idea that both

strategies are incompatible and that it is necessary to operate a clear choice

between them is uncertain. If the segment aimed by the market marks its
preference for a single advantage (quality or price) a pure strategy seems

superior. However, when the customers value multiple attributes or have

changeable preferences, mixed strategies seem preferable.