First, let’s get out there that banks need to charge more fees, not less. Generating fees is critical to bank performance. However, as an industry, we need to be sensitive to how we charge fees to incent the right behavior. Remote deposit capture (RDC) fees are a perfect example. Our industry, by charging customers for RDC, inhibits balance building, increases defection, increases operational cost and increases the customer’s reliance on branches – all the opposite of what our goals should be. In this article, we will step through a typical bank example and show how banks can make more money by not charging RDC fees.
The Condo Association
This real-life example has to do with a small, 63-unit condominium association that is located five miles from the bank’s branch. The customer has a loan, an operating account and two reserve accounts all with an average collective balance of over $100k. The customer makes two trips per week to the branch to deposit collected checks.
For the customer, having RDC is a clear win. They make two trips to the branch per week which is a 35-minute roundtrip if everything goes well. The manager at the association makes $30 per hour so the mileage, time saved and faster cash flow comes out to a net value of about $2,000 per year. This customer can benefit from RDC.
The Bank Perspective – Direct
From the bank’s point of view, the cost of the RDC machine is $25 per month, and they charge $50 per month to lease the customer the check scanner for a $25 net fee gain. The manager from the condo association comes in two times per week and takes the merchant teller’s time for a cost of approximately $6 per transaction of time and processing cost, or $48 per month.
Thus, the direct economics look like this – The bank’s direct costs of processing via RDC is approximately $31 per month to include the equipment vs. $48 to do it manually in a branch. On a direct cost basis, the bank AND the customer would rather be processing through RDC.
But wouldn’t the bank want to move their customer to RDC AND charge so they can make the extra $25 per month in fee income?
The Bank Perspective – The Bigger Picture
The answer is no, to the question above and here is why – by charging a fee for a core service, your bank inhibits more customers getting on. Here is what a sample price sensitivity or elasticity graph looks like based on 1,000 eligible (i.e., profitable) RDC customers.
While this data is only one service area and at one point in time (2017), and your data will likely to vary based on the composition of businesses in your service area, production and competition. In this case, if this bank dropped its price to $0, and gave RDC away, it would theoretically pick up another 427 customers. That is another $42mm or more in deposits, at a time when rates are rising, or another $566k of annual value. By dropping the price of RDC, demand expands.
To recap, if a bank charges for RDC, they make an additional $168k in operating revenue per year. If they don’t charge, they pick up another 427 customers and gain 427 customers over time for another $42mm in balances and a net gain in annual value of $566k.
The annual value gain, however, pales in comparison when you start talking cumulative lifetime value. Here is the critical point that could be missed – RDC almost doubles your retention rates by dramatically cutting your commercial customer defections. Requiring this condo association to come into the branch creates no barriers to leave. With RDC, customers believe, rightly or wrongly, that they have a branch in their place of business and that switching banks is hard. For those that have ever tried to sell a customer on a new RDC system, it is not easy.
The RDC customer tends to have more balances, use more products, has more engagement and more loyalty than the non-RDC customer. Compared to the same size and type customer that goes into a branch to handle their commercial items, cumulative lifetime value is almost double and goes from an average of $178,000 to $326,000. If you can pick up 608 customers that fit that profile, that is close to $200mm in pre-tax value over the life of the bank.
The Biggest Picture – Branch Reduction
Despite the positive economics of why you want more RDC customers, the biggest reason has to do with your ten-year strategic plan. Every bank needs to be thinking about how to transition away from a large number of branches and streamline their delivery channel. The average community bank has $64mm of deposits in their branch or not enough to cover annual operating expenses. As mobile banking becomes more widespread and branch/traffic continues to drop, those banks with the cheaper delivery platform will more easily acquire inefficient banks. In ten years’ time, the average branch will be closer to $500mm in total deposits.
Moving customers to RDC and other electronic channels will help your bank consolidate branch over the long term. RDC isn’t an additional expense but a way to save a huge amount of future fixed costs.
Putting This Into Action
It is critical for banks to build fee income but you don’t want to do it with a core product that creates value for your franchise. Like our sample condo association, charging for value-added core services creates less demand. As such, before your charge for such services, you want to make sure the value of your revenue stream, on an after-tax basis, is greater than the value you are losing by charging. For RDC, the case is pretty clear - banks need to be careful of charging.
If you have a superior RDC product or a brand that has pricing power and/or your price elasticities are such that pricing doesn’t have an impact on demand, then great, charge away as you can have your cake and eat it to.
Waiving fees for RDC comes with its own set of problems with marketing and staff training. Putting customers on analysis for RDC and “soft charging” them against balances is probably the next best way to do it, but managing analysis is complex and may or may not be a solution. Understand your long-term goals and then set a minimum average daily balance as a threshold where you will not charge for RDC. In this manner, a smaller customer that values convenience can pay for RDC while customers that create positive value can do so without impediment.
Submitted by Chris Nichols on November 01, 2017