Australian banks do not spend enough on technology

Australian banks are coming to understand that their old computer systems will not enable them to prosper in the next decade and leave them vulnerable to cyber-attacks.

But the lower short-and medium-term profits and dividends they face as they transform their systems and move to the modern cloud-based systems have horrified those bank boards that have studied the situation.

The warning issued by McKinsey, which I set out yesterday, is an exact description of the dilemma facing the four big Australian banks and their shareholders: “Whilst imaginative institutions are likely to come out leaders in the next cycle, others risk becoming footnotes to history. However, there are steps every bank can take today to change their fortunes and begin the next cycle on a stronger footing, but time is running out”.

The best global example of how you transform a big bank is Bank of America. At least two of our banks have recently studied how it was transformed.

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When the remarkable Brian Moynihan took over as CEO in 2010, Bank of America’s problems had many similarities to those facing Australian banks today.

BA faced loses and fines as a result of its bad lending, and other practices which led to the global financial crisis. Unlike Australian banks, Bank of America had also undertaken a series of large disastrous takeovers just before the crisis, so Moynihan’s first task was to sort out the mess and stabilise the bank.

He then realised the old computer systems would be inadequate for the third decade of the twenty-first century. Fascinatingly, National Australia Bank came to same conclusion around the same time. Both BA and NAB were told by their existing technology gurus that the old systems could be adapted. The other three Australian banks were given the same advice and that advice is still being peddled in our Australian banks. Moynihan knew it would prove to be wrong but how do you execute fundamental change against the advice of your technology leaders?

Around the 2012-13 period he made a fundamental decision that would transform the Bank of America from a struggling US major into one of the most successful banks in the world.

Away from head office

Bank of America is based in Charlotte, North Carolina and Moynihan decided that the new systems would have to be developed outside of head office — a similar decision was made a decade earlier when Qantas CEO Geoff Dixon decided that the discount airline Jetstar had to be based outside of the Sydney head office, in Melbourne.

Moynihan took the technology budget from the base bank and set up a new systems operation in Silicon Valley, working very closely with the Stanford University. In Australia, very few chief executives understand the rich technology knowledge that exists in universities, which is particularly useful when you are establishing completely new systems.

Gradually the base BA operation found that it was struggling to keep up and so the environment was created to transfer the customer information to the new systems. In Moynihan’s own words he was a “disrupter” of his own bank.

Those Australian banks that have studied BA learn that a modern bank must spend vast sums on technology. Australian banks do not spend nearly enough on technology, preferring use the money to pay high fully franked dividends which have become an integral part of the Australian capital market.

Banks have to be high technology companies. Bank of America spent $US10 billion in research and development last year. Australia’s high bank dividends are not sustainable. Moynihan realised that branches are used by bank customers in transactions where personal contact is required. While the BA branch count was reduced the company still maintained a large branch network revamped to the new environment.

The reduced cost base and new technology driven customer services has enabled the bank to grow in most areas of its business including deposits, consumer loans and business loans. The shares have skyrocketed. The cash generated enabled it to resume larger payouts.

Moving to the cloud

Let me quote Moynihan in showing what a modern cyber protected bank can do when it moves to the cloud and introduces modern systems: “Technology investments are directed at innovation across our company. Perhaps that is most apparent in the investments in our industry-leading online consumer platform and state-of-the-art branch network,” he says.

“EricaTM is one example. Our virtual banking assistant combines interactive communications and artificial intelligence (AI) to learn and anticipate client needs is unique in the industry. Since we introduced Erica in spring 2018, more than 5 million customers have used the capability and the adoption rate is growing fast.

“Another innovation in which we’ve invested is ZelleTM, our peer-to-peer transfer capability enabled by our mobile app.

“Bank of America, along with other large banks, developed Zelle and we have extended full access to the capability to a growing network of participating financial institutions. Zelle transactions by our clients are growing over 100 per cent a year, and we had nearly 5 million users at the end of 2018. And we’re just getting started.

“Another investment we’ve made is in our digital auto shopping experience, enabling customers to search, select a car, and get underwritten in real time.

“Customers can use our mobile app to search online for a car with access to thousands of dealers’ inventories, with over 1 million cars available. We have seen a seven-fold jump in financing applications in this area since launch in May 2017”

That’s modern banking. The saddest day for Australian banking in the twenty-first century was when the then when then-NAB CEO Cameron Clyne abandoned the NextGen new computer system for the main bank after having started UBank based on it. That was our chance to start a modern banking system in line with BA.