Martina Dowidchuk, Consultant

Bank customer demographics and their preferences are constantly evolving, changing the dynamics of market demand and supply. Tracking information about your market demographics, customer life stages, financial product usage, account balances, and the market’s competitive landscape allows banking institutions to more appropriately align their services and resources with the market needs and focus their efforts on profitable opportunities.

Make Informed Strategic Decisions
Consider the following:

• What is your existing geographical distribution of your loan and deposit customers?
• How much customer wallet share have you already captured?
• How much more potential is there to grow within the existing markets?
• Are there any new market opportunities?
• How effective are your competitors in serving the market?
• How does your performance compare to other banks operating in similar markets and using similar business strategies?
• Is there a potential to benefit from a merger or an acquisition?
• How does your market environment affect your stock value?

Use the available market and bank customer information to track your current position, make adjustments in your competitive strategies, and to better prepare for the new opportunities. Stay relevant to your target market by tailoring your product and service offerings, delivery channels, marketing activities to match the changing trends in the demographics, customer preferences, and the competitive landscape. The more you understand your market, the better you can serve it and compete in it.

Ensure Regulatory Compliance
Information about your existing market coverage, the demographic com-position of your market, and the diverse needs of the community can provide a useful base for your CRA/HMDA compliance program. It can help you assure that your banking products and services reach all potential customers throughout the assessment area and meet the needs of the communities under the CRA regulation. The information should also be used to support your CRA assessment area delineation.

If you decide to proceed with a new branch opening, branch purchase, or an acquisition, the market information is often required for the review in the regulatory application process.

In Summary
Market data provides valuable pieces of information for a bank to consider in the bank planning and management process. By carefully assessing market conditions to understand the supply and demand dynamics of your market, you can employ effective strategies to achieve your objectives. Young & Associates, Inc. has been performing market analyses and bank performance evaluations for 34 years. If we can help with determining and evaluating relevant market data for your bank, please give me a call at 1.800.525.9775.

Martina Dowidchuk, Consultant

There are many examples of successful branches operating in less-than-ideal market environments. New branching opportunities, however, may not be obvious on the surface.

Overcrowded Markets “The communities in our area are overbanked” is one of the most common concerns that we hear from our clients when we discuss their market expansion opportunities and branching strategies. Intense competition is becoming a fact of life.

How do you identify whether a market will be able to support a new branch office or whether it is over-banked? You may want to begin with the population-per-branch ratio, and compare it with the regional or other relevant averages. In addition to the resident population, daytime population and the size of the business base should be considered in relation to the number of branches. Generally speaking, the higher the ratio, the less competitive the market. A more important measure, however, is the strength of the competitors (versus your strength) and how they are perceived by the community. You will need to examine the type and quality of your competitors, and which niches they are pursuing. Depending on the expertise of your competitors and how they are positioning themselves in the market, you may be able to identify potentially underserved market segments. An analysis of the competitor branch locations, centralized draws in the area, and the existing traffic patterns may help you identify underserved geographic locations. The number of competitors operating in the area is less relevant if you are the only bank targeting a specific market segment or you are able to stand out from the competition in other ways. If you are confident in your expertise and your service quality, some of the nearby competitors may present an opportunity, not an obstacle.

Flat Growth and Small Markets Many community banks operate in smaller, rural markets with limited population growth and less-than-average demographics. They realize that future growth will have to come from markets outside of their local community but keep postponing expansion due to the lack of growth in the area. Although stagnant markets may not offer the instant growth potential of expanding suburban corridors, the branch expansion benefits are often still available. Attractive demographics usually come at the expense of a higher cost-of-market entry and a higher competitive intensity. If the slower growth or the smaller size of the market is aligned with a lower-cost branch service model, the new branch is very likely to become a profitable component of a bank’s network.

Avoid gauging market opportunities based on a few demographic characteristics. The size and dynamics of your market are affected by not only the population living in the area, but also the population commuting to the area for work, retail draws, travel patterns, or the businesses operating in the area. Many people bank close to where they work, and the places of high workforce concentration do not often pop up on the list of high-growth areas, although they may be attractive branching markets. New growth adds to the market potential, but household turnover is also a good source of new household arrivals offering similar opportunities. These are just a few examples of factors that should be taken into consideration.

Justifying Branch Investments New brick-and-mortar branches do not come cheap and, in most cases, you will need to wait several years to see them contribute to the bank’s bottom line. A typical community bank branch begins generating profit in the third year of operation and breaks even within the first five years. However, if you have identified a market where you can grow, the branch investment may be a very effective way of utilizing your capital and adding value to your bank over the long term.

The key is to watch the relationship between growth, profit, and the amount of capital that needs to be deployed. Let’s look at an example of an average branch in an average market. Within five years, the branch would grow to about $15 million in assets, and its profit contribution would be around $150,000. Assuming a 10 percent equity-to-asset ratio, $1.5 million in equity is needed to support the asset growth. If the bank’s value is about 14 times its earnings, the $150,000 profit generated by the branch in Year 5 would theoretically represent a value of $2.1 million, or $0.6 million more than the capital invested. In this case, growth is adding sufficient profit to justify the capital allocation. With an average profit contribution of $400,000 per year for a mature branch, the value in earnings generated by the branch is significant.

In Conclusion Although branching opportunities are harder to find, branch banking continues to be critical to retail banking success.

If you are interested in discussing this article or evaluating your bank’s potential expansion opportunities, please call Martina Dowidchuk at 1.800.525.9775 or click here to send an Email.

Martina Dowidchuk, Consultant

Both examiners and bankers agree that there is value in measuring an institution’s earnings and risks by comparing their performance with other, similar banks. Finding true peers and obtaining a meaningful comparison for a de novo bank, however, could be a challenge. The pools of potential peer candidates within specific age categories are limited, regional economic climates vary significantly, and financial institutions are pursuing increasingly diversified strategies. Young & Associates, Inc. has been helping bankers in the process of obtaining meaningful performance comparisons through its customized peer analysis reports and consultations. Customize Your Peer Group

The customization options are virtually endless. The most commonly used criteria for de novo bank purposes include age, asset size, geographical region, lending specialization, and number of branches. Some banks find it helpful to compare their performance to several peer groups simultaneously. As an example, these may include a specific “model” bank, a group of de novo banks of similar age, and a peer of mature banks with similar business specialization. For a one-year-old de novo, it may be helpful to see not only performance of peers with similar age, but also performance of two-year-old and three-year-old banks during the same time period. The older bank peer groups may provide useful insights about the benchmarks to be targeted in the future. Some institutions choose to use peer groups comprised of high performing banks in their regions, rather than targeting averages. On the other hand, a peer comparison based primarily on performance of institutions doing equally poorly would most likely fail to set off alarm bells.

Quantify Potential Earnings Enhancements

Both ratios and dollar impact need to be considered when benchmarking performance. A small ratio change affecting a large asset or liability balance may be far more significant than a relatively large ratio change affecting a smaller balance. Our impact analysis included with the peer report illustrates in dollar terms how your earnings and balance sheet would be affected if your performance ratios matched peer averages. This way, it provides a snapshot of the areas where you need to focus your energy.

As an example, let’s consider a bank with an average asset size of $100 million that generated $3 million in net interest income – a margin of 3 percent. The average peer group margin is 4 percent. To reach the comparable net interest margin with the existing asset size, the bank would need to generate a net interest income of $4 million. Therefore, the below-average net interest margin has a negative impact on the bank’s earnings of $-1 million. By improving a margin by 100 basis points, this bank could potentially improve its earnings by $1 million. Similar dollar impact calculations are performed for all other major profitability ratios, asset quality ratios, capital adequacy, and liquidity ratios.

Identify Profitability Drivers and Impediments

The ratios in our peer reports are organized using the “decision tree” approach. We begin with the overall performance measures that are then analyzed further on subsequent pages. For example, the net interest margin is explained by interest income / average assets and interest expense / average assets. Interest income / average assets is further studied through the ratio of earning assets / assets, composition of earning assets (with detailed loan mix information), and yields on earning assets (with detailed loan yield information). The interest expense is explained through the individual components of funding mix and cost of interest-bearing funds. The purpose of the decision tree analysis is to explore how ratios are interrelated and how one ratio can affect other ratios, thus allowing you to track the source of a particular performance to its root cause. We believe the value of the peer analysis rests in its aid to a banker in asking the right questions about bank performance and asking those questions in a systematic manner.

Apply Information in Strategic Planning and Action Planning Process

Each bank has its own unique operating characteristics that affect both its balance sheet composition and its income stream. No single ratio or trend is indicative of a financial institution’s condition. A given bank may be above or below the peer group average for a given ratio; however, that information must be considered in combination with other related facts before its importance can be determined. Young & Associates, Inc. regularly assists clients in interpreting the unique results of their performance and peer analysis, helps address the conditions that require further attention, and applies the information in the strategic planning and action planning process.

For more information on our peer reports, contact me at 1.800.525.9775 or click here to send an Email.

Sample peer reports and pricing information is available on our Web site by clicking here.