The number of branches and their overall foot traffic have declined in recent years, and the pandemic has only accelerated the move to digital, but the branch is not dead! The ability to measure, evaluate, and ultimately make informed decisions regarding your branch network continues to be a key element for success.
Traditionally, branch performance measurement equated to branch profitability analysis. While this is still a critical gauge of branch performance, it should be a starting point only. To better understand the value that your branches deliver to the institution as a whole, it is important to take a more comprehensive look at profitability analysis.
Continued Importance of Profitability Analysis
Profitability remains a vital metric for evaluating and comparing branch performance. Through robust profitability measurement and analysis, financial institutions can:
- Determine whether branches are generating enough revenues to cover costs Align branch manager performance with organizational goals
- Identify and optimize branch and staff efficiency
- Determine whether the branch network should be expanded or contracted
- Use the results to inform decisions around whether to open or close specific branches
- Ensure current branches are achieving profitability goals before expanding
By measuring, analyzing, and using branch profitability data, leadership can hold regional and branch managers accountable for achieving desired levels of profitability. The goal is to incent positive behaviors and decisions that will elevate the performance of both individual branches and the institution as a whole.
Digging Deeper into Profitability Analysis
Despite its importance, static profitability analysis has its limitations. To truly understand the drivers of profitability and how strategic and tactical decisions might impact that profitability, the following six profitability elements and best practices should be considered.
A static view of profitability in a single branch provides limited value. Because profitability measurement is as much art as it is science, getting buy-in to single-period numbers can also be challenging. Profitability really should be used as a relative metric, allowing comparisons between segments (in this case, branches) and between and across time periods. By taking a relative view of profitability, leaders can consistently compare performance across branches. If assumptions are consistently applied over time, trend results can provide additional insights that fuel decisions resulting in performance improvement.
Traditional branch profitability analysis often rewards branches for past successes. Consider not only evaluating total profitability, but also measuring and analyzing profitability based on recent production and activity. For example, if a branch has a large loan portfolio that generates significant revenue, that branch may be a top-performing branch from a total profitability perspective. However, also measuring the profitability of recent loan production may reveal that this branch has not produced many loans over the past year and may in fact be trailing other branches in loan production. In this case, traditional profitability analysis rewards the branch for loan production from years ago. Measuring profitability based on recent production in addition to traditional profitability helps identify such trends, revealing opportunities to realign behaviors and resources to support institution goals.
Profitability per Square Foot
The concept of profitability per square foot is a common performance metric for the retail industry. As branches adopt more of a retail store approach, this profitability metric is certainly one to consider. By leveraging technology to shrink back-office spaces in branches, financial institutions can either reduce the overall branch footprint (and cost) and/or provide more space for richer and more complex customer interactions. As this trend continues, the ability to evaluate overall profitability on a per-square-foot basis will level the comparative playing field and ensure the optimal use of space in each branch location.
Analyze Each Element of the Profitability Equation
A best-practice and accurate analysis of branch performance segments and analyzes additional components of the profitability equation, accounting for the following:
- Net interest margin through a funds transfer pricing (FTP) process: Perform additional spread and pricing analysis using the FTP results to help shape pricing and product strategies.
- Direct and indirect cost attribution: Use cost information to identify under- and over-capacity as well as opportunities to improve efficiencies and decrease costs.
- Capital allocation and provision/capital earnings charges: Use the credit risk and economic capital allocation processes to analyze profitability on a risk-adjusted basis, providing a better metric than just bottom-line profitability to compare performance between various segments, including branches
The integration and use of both branch profitability analysis and product profitability analysis can lead to better insights and help shape decisions and strategies for each branch. Product profitability measurement reveals the products used most and least by the customers of each branch and indicates what actually drives branch profitability. For example, if a concentration of customers at a particular branch uses an unprofitable product, there may be an opportunity to shift customers to more profitable products or to change processes, pricing, or fee structures for those products to help improve overall profitability. Likewise, identifying usage patterns for the most profitable products can help shape branch promotions and cross-sell strategies within the branch and across the branch network.
Taking that concept to the next level, measuring customer profitability to help drive individual branch and branch network decisions can also prove beneficial. Knowing the profitability of each customer that steps into a branch can help branch staff tailor their interaction with that customer. Given that the top 1% of customers generate the majority of profitability for a financial institution, it is critically important to identify and retain these customers. To illustrate the importance of analyzing customer/member profitability, consider the following examples.
If one of the most profitable customers of the institution frequently visits a particular branch, the branch staff should know this information and be able to proactively offer special deals, products, and pricing/fees for this customer. While staff should treat every customer well, understanding the profitability of each customer can help ensure retention of the highest-value customers.
As you consider possible branch closings and openings, it is important to understand the impact to customers that use (or may use) those branches. If an underperforming branch is being considered for closure, but happens to serve some highly profitable, highly valued customers, should that be factored into the decision? What is the risk of losing these customers if the branch is closed? If you decide to close the branch, consider proactively reaching out to those customers to let them know they are valued and provide them with alternatives channels and branches.
The ability to measure and evaluate branch performance is as important as ever, as you continue to define, evolve, and execute your branch network strategy to address a changing industry landscape and specific customer/member needs. One of the primary methods for analyzing branch performance continues to be overall profitability. However, as you evaluate profitability, digging deeper and expanding your analysis to understand other profitability drivers will help you make better and more informed decisions.
Read the final blog of this series, Maintaining the Momentum for Improved Branch Performance, which will explore how to broaden the scope of analysis to other data and metrics to more fully measure and understand branch performance.