Is Banking Headed for a Great Consolidation?

By: Paul Schaus

December 3, 2024

Is everything about the banking industry destined to consolidate? Would it be a bad thing? Under the next administration and the planned Department of Government Efficiency, we may find out. The Heritage Foundation’s Project 2025 proposes merging the OCC, FDIC, the NCUA, and the Federal Reserve’s “non-monetary supervisory and regulatory functions.” Given the number of US banks and credit unions has fallen, there may be too many regulators for too few financial institutions (FIs). This complexity doesn’t even account for state-level banking regulators, likely with thousands of employees between them.

Problems with the banking industry include government bloat and overlap between agencies. Based on some back-of-the-envelope math, in 1991, there was just under one supervision employee at primary federal regulators for every FI. In 2023, there were about three supervision employees for two FIs. Over that time, based on reports from regulators and some rough estimates, the number of federal bank and credit union supervision employees dropped by a little under 30%, from 20,000 in 1991 to 14,600 in 2023, and the number of insured FIs dropped by more than half, from 21,000 to 9,200.

Thinking about the consolidation of the banking industry from another angle: Will there always be so many traditional bank technology vendors? Do we need all of them? If the banking industry consolidates, should supporting technology come with it? The lifeblood of these vendors in the US market is that the vast number of community FIs buy instead of build and choose different solutions. Vendor lock-in has helped the big three or four grow across FI segments. But if we see consolidation across FIs and regulators, the number of traditional vendors could also fall to those best positioned in the market.

What does the banking industry and the regulatory landscape look like in 10 years? Just because things are a certain way now doesn’t mean they need to stay that way. Today, we have too many agencies supervising too few banks, and too many vendors offering the same solutions. In that context, consolidation isn’t bad.

Even with the election behind us, there is a lot of uncertainty in the banking industry. We recommend that boards start planning now for potential outcomes, so if major changes are around the corner, they’ll be prepared. Here are some areas to think about:

• Competitive strategy: How to survive and thrive, particularly as a smaller FI, in a market with a higher proportion of big players with more resources and geographic reach putting pricing pressure on competitors.
• Technology strategy: How to negotiate contracts, assess gaps, and articulate needs to larger vendors while independently planning a technology roadmap. Decide how to execute a modernization plan in context.
• Mergers and acquisitions: Important considerations include due diligence on balance sheet quality, compliance practices, and infrastructure compatibility, and planning for the integration of strategy, systems, and employees.
• Regulatory change management and compliance: Assess the potential impact of a consolidation in banking regulators, or at minimum substantial changes in supervisory and enforcement activities.

No matter how things turn out, we also want to make sure there are enough banks to cater to different markets — cities and rural areas — and that fintechs bring enough technological innovation to create competition. This will require a delicate balance that positions consolidation against another pillar of a healthy banking system — growth.

Finding the Right ROI in Bank Tech

December 5, 2024

By: Tyler Brown

Infrastructure Investments

Fewer than a quarter of bankers in a survey by Bank Director said their bank measured return on investment (ROI) for technology projects, implying at least one widespread problem with banks’ technology planning: A resource allocation approach that doesn’t robustly consider the costs and benefits of technology projects on operations and profits. Skipping a careful look at the long-term costs and opportunities may reduce ROI to a fuzzy, emotional judgement that okays or kills initiatives out of feeling rather than metrics.

The failure to measure ROI may also result from insufficient technical knowledge among the board and senior management, too much dependence on vendor pricing and projections, treatment of technology as solely a cost center, or picking other business metrics that are too limited. As bankers think about how to best measure technology ROI, there are a few key pieces to consider:

• Account for the raw costs of maintenance, modernization, and long-run expenses for a given technology choice.
• Link revenue opportunities, cost savings, and strategy to the most relevant business and technology functions.
• Measure the opportunity cost as part of ROI: Even if a system in isolation runs at a loss, is it narrower than in the current state?
• Forecast changes in operational efficiency, revenue, and cost in different scenarios and adjust based on actual numbers. ROI doesn’t just exist at a point in time.
• Think of technology as part of an ecosystem of systems and processes. ROI is a function of how different systems work together and the impact they have on the organization.

Bankers may only implement an ROI framework piece by piece, but it’s a business discipline that takes forethought. The easiest place to start is likely to understand in detail the cost of maintaining existing infrastructure versus modern solutions. It gets more complicated from there. Justifying and managing the cost of a technology project while maintaining existing infrastructure are huge hurdles.

Holistically evaluating the ROI for a new digital banking platform, for example, may require considering the ongoing cost of legacy modules, the professional services expenses for a direct connection to a core banking system and nonnative integrations, new long-run infrastructure costs, and revenue gains from more competitive customer acquisition, account opening, and onboarding (or stemming the loss of prospective customers to more digitally up-to-date competitors).

ROI for technology projects in the end comes down to self-determined, carefully defined business and technology strategies. Senior management needs direction from a technology-savvy, forward-thinking board on business and modernization plans as well as performance indicators to assess costs and returns over time. Otherwise, technology spend risks turning into an avenue for shiny object syndrome.