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Jim Young and Dallas Wells discuss a recent PrecisionLender blog post on why now is the right time to cross-sell. They uncover why you should cross-sell and share tips for better cross-selling.
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3 Reasons to Cross-Sell & 4 Ways to Do It Better
Bankers: Five Ways to Use Profitability Data to Move You Forward
Jim Young: Hi, and welcome to The Purposeful Banker, the podcast brought to you by PrecisionLender, where we discuss the big topics in the minds of today's best bankers. I'm your host Jim Young, Director of Communications of PrecisionLender, and I'm joined again today by PrecisionLender EVP of Client Development Dallas Wells.
Today, we're going to talk about a blog post Dallas wrote a few weeks ago called Three Reasons to Cross-Sell, and Four Ways to do it Better. Dallas, what prompted you to write this piece? Something you'd been hearing from clients? Something you'd read about?
Dallas Wells: I think probably a little bit of frustration. Cross-selling is something that, it's kind of considered the holy grail, really, in banks. Everybody wants to be good at cross-selling, and just about every bank you would talk to considers themself a relationship bank, but when you actually dig into, well, how do you do that? Most of them are just spouting the words that sound good. There's very little action that actually goes along with that.
What we wanted to dig into was why is that? Why are some banks good at it and some banks are not, and what can banks do to turn it into more than just lip service?
Jim Young: Well, let's start with your thoughts about regulators. I get the impression that you think they are, what's the word, maybe a little bit of a scapegoat, a little bit of a boogieman when it comes to the issue of cross-selling?
Dallas Wells: Yeah, I think, and I think this is maybe, I get why this is the case, that this has been beat into bankers a little bit, but the first reason for just about everything of why aren't you better of X or why aren't you doing more of X? Well, because of the regulators, and in this case, one of the things I hear a lot is, "Well, we need to cross-sell more deposits because the regulators are getting on to us, because of this now growing liquidity issue."
What they're talking about is, since the crisis, there was this immediate flood in of deposits into the banking system, so banks were flush with liquidity, and so everybody kind of stopped paying attention to deposit growth. Over the last few years, loan growth has outpaced deposit growth by a fair amount, and so I think banks are just feeling like, "Man, we've been at this for a while. Surely, the regulators are going to start paying attention to this and they're going to force us to care about the deposit side of the balance sheet again."
With the caveat that, of course, there are always banks that will be in that position, I'm sure there are banks that are hearing that today from an examiner that, "Hey, you gotta get some deposits in here, some core deposit funding." If you look at the industry numbers, that's still really not the case, and what we've been seeing was this really shrunken down time frame with a silly axis on the side of the graph, and actually, I included one of those in the blog post of showing the ratio of loans to deposits in the banking industry and how that's changed over the last few years, and it does go up and to the right, and I think that's been used to alarm bankers a little bit, but if you compare where those numbers are to the 30-year industry average or the high number that we hit right before the crisis, it puts a little more context around it, and then if you really zoom back out to a longer time frame and you go back, I pulled it out to the mid '80s, where we are now is actually below that 30-year trend line.
As an industry, there's not a liquidity problem. There are individual pockets that may have that issue, but that's not why you should be focusing on cross-selling. Don't do it because you think the regulators might get on to you. That's usually a bad reason to make a strategic banking decision.
Jim Young: Gotcha. On to some of those reasons then, the real reasons that you should have for increasing the focus on cross-selling. First you mentioned need to balance interest rate risk. One of your charts caught my eye. Why has the percentage of long-term loans, I think you put it for community banks if I remember correctly in this one. It risen basically by 80% in the past nine years, long-term loans. I'm not the banker guy, but that doesn't sound like a good trend.
Dallas Wells: No, and ... This one is, again, the first reason, if you do want to talk about regulatories as you might actually have, again, now, this one is a little bit of a flip of the last one. You look industry-wide, it looks like there's not really a problem, the industry has not extended the asset base, but there's a clear division between the big banks and the community banks, and I use as my cutoff because it's what FDIC uses. That's 10 billion in assets.
Above that, those banks have been very "steady as she goes" in terms of how much of their asset base is made up of long-term assets, which is longer than five years is the regulatory definition.
No change. In fact, they've been pretty steady in these levels for a very long time. If you look at the community banks, those with assets below 10 billion, they've had this huge spike up, and there's lots of reasons for that. I think the main one is that community banks get a much larger share of their revenue from net interest income, from earning interest income on loans and investments. They don't have all the fee income resources and revenue streams that the much larger banks have. You don't have an investment banking division at your local community bank. They have had to get, I guess the word I would use is be creative. In a very low rate environment, they've had to stretch things a little bit to generate revenue growth and continue to cover all the cost.
They didn't take credit risk this time. At least, most of them didn't. That's not the line they were pushing on. Instead, they've been pushing on this interest rate risk line. Let's go a little further out on the yield curve, let's make slightly longer term fixed-rate loans because the yield curve is steep out there, and we can get a little more extra return. They've just been doing that quarter after quarter, year after year now for a while, and it's gotten to, for quite of a few of those banks, into a pretty ugly position, so the best way to hedge that, the cleanest way to hedge it is to have core deposits on your balance sheet.
If you're one of those banks that's seen the duration of your balance sheet drift out over the last five, seven years, then you should definitely be paying attention to how you cross-sell and how you can get some more true core customer deposits on your balance sheet.
Jim Young: Otherwise, you're basically just kind of kicking the can down the road here, and eventually, you're going to have to-
Dallas Wells: Yeah, I mean, eventually, what ... The reason that's so dangerous is if there is a quick spike-up in short-term interest rates, your funding cost will start rising, but you've got all these asset yields locked into place because they're long. They have remaining maturities greater than five years, and they're just going to be stuck there. Pre-payment rates will even slow down. You'll have less opportunities to reprice those assets, but your funding cost will continue to rise, and you're really going to get squeezed, and get squeezed from a level that's already pretty close to record-industry low, so there's not a whole lot of room left there. That's why there is some regulatory concern about that, and there should be some board-level concern about that as well for those banks facing that.
Jim Young: Speaking of rates, they're not spiking, but they're rising. Talk about a little bit about what that means for deposit and deposits and fee income and again, what that means, why that is another reason for cross-selling.
Dallas Wells: I think this is the real reason. This is the one I wanted to get to, so maybe I buried it a little deep in the blog post.
We get trough the regulatory issues, and you should really care about this because it is a huge driver of your actual enterprise value as a bank. What are deposits worth? If you just think of having a commercial customer bring you $100,000 demand deposit account, so it, your classic business checking account. That account, for quite a while now, hasn't been worth all that much. Again, that's a function of really low interest rates. You get this $100,000 worth of deposits, you pay no interest on it, but you can only invest it at whatever the market rates are, which for years now has been very, very low, so the deposits had some value, but not a whole lot, and in fact, you had all these extra regulatory costs and issues associated with now carrying that deposit account, so you see why banks ignored these.
But now as short-term rates have started ticking up, and actually rates have ticked up a little bit all along the curve, as you said, not a ton, it's not a spike, but the Fed has started slowly unwinding things, and so as rates have started moving up, that same $100,000 deposit account has been getting more and more valuable. Just, nothing the bank's doing. Just a function of rates around it.
What we looked at was an FTP rate, or a funds transfer pricing rate, which is essentially that rate at which you can invest those deposit dollars. Now, it's going to be different for every bank, so the numbers we're using here aren't universal. It'll depend on the characteristics of the accounts that you're using and lots of other things, but we just used our standard number that we suggest for most banks that are just starting on PrecisionLender. Those demand deposits have about a five-year life, so we look at five-year funds transfer rates and how those have moved for the last couple of years.
Much more value to those deposits, much more profitability, and so you should be asking for those. Those should help you get more aggressive with loans because now you have a more profitable deposit account to tie to it, so cross-selling should be easier for you now than it has for a long time.
Jim Young: You've made, you made, I'll give you credit, you have made a pretty compelling case for why it is now the time to emphasize cross-selling, but it's one thing to say, "Hey, let's cross-sell more." If it was that simple, everybody would be doing it. Let's go through a few of your tips on how to do it better, starting with what you term visibility. What do you mean by that?
Dallas Wells: Here's where cross-selling gets hard and I think why a lot of banks, like we talked about in the beginning, why they say they want to do cross-selling, but there's not a lot of action that goes with it, and I think the struggle here is to be able to incentivize your bankers in a way that actually makes sense. The temptation has been to oversimplify this.
As one example, the Wells Fargo cross-selling issues that they ran into, they had this little motto internally "eight is great." They wanted eight different products with each customer. The incentives on that are pretty clear, and with hindsight, you can see, well, no kidding, they're going to have some employees doing things maybe they shouldn't if they don't have really good controls around that, but we see this still in lots of other places where if you get a car loan with your local credit union, the rate is quarter point cheaper if you also have your deposit account there. It's this arbitrary number that maybe works on average, although I doubt a lot of them have even done that level of analysis with it.
We go with these oversimplified rules of you can give a cheaper rate if they have deposits, you can negotiate the CD rate if they have their checking account here. Lots of those little rules that still exist in just about every bank we talk to. It's gotta be visibility, but not with these oversimplified metrics, not just counting the number of accounts that you have, but it's actually gotta be how profitable are those accounts.
Our friend Jeff Marsico over at the Kafafian Group has been talking a lot about this as well. You have to pay attention to the profitability of those accounts, and you have to incentivize your bankers to cross-sell the right kind of business, so the one that's going to make sense for your customers, but also the one that actually generates bottom-line profits. If you're just blindly doing it, you can actually be adding loss leaders to a relationship and just be creating losses instead extra income.
You have to make a way for it to be visible to your bankers when they need to be having conversations and making decisions with those customers. Sounds easy, but it can pretty hard to execute, but you have to start there if you're going to be good at this.
Jim Young: Does that basically lead into what you didn't talk about, like combined targets? Is that the answer because I interpret that as, look, as long as I can come up with the right total, how I get there in terms of which products and how much I'm making off of each product is secondary, or am I either, A, oversimplifying it or, B, completely missing the point?
Dallas Wells: No, I think you're right on track there. This is not something unique to banking. Just about every business in the world uses this, and the one that will probably resonate with people, there's two big ones that we see all the time.
Number one, when you go into the grocery store, and so they'll have loss leaders, they'll actually lose money on some of the most common products. The typical one used to be, I don't know if it still is, used to be a gallon of milk. We'll sell our milk for 99 cents a gallon, but it's going to be in the back of the store. We want you to come here for that. That's the thing we'll advertise. You'll come in, you'll pick up other things along the way, and the full basket of stuff that you buy, we have a healthy margin on. It was the cheap thing that got you in the door.
Gas stations are now much this way now. If you look at the financial statements of a convenient store that you bank, typically, they break even at best on the gas sales. They make all the money on the Red Bulls and the Ding Dongs that you come in and buy while your car is filling up. That's the high-margin stuff that actually drives the profitability in business.
In banking, it's much the same way where there's going to be some product that will entice the customer and get them in, but can we have a basket of stuff that makes the overall relationship profitable, and if we had to get a little bit skinny on the real estate loan to win the line of credit and the deposit that actually makes it profitable, then so be it, but again, you have to have the ability to see each of those components and how they add up together.
What we're talking about with targets is you have to have a clear target profitability that you're aiming at, and you need to know where you stand on each individual product and then where that overall full basket stands, and if you can hit the number on your full basket, you're golden. That's how you incentivize cross-selling is get them to be throwing profitable accounts into the bundle to make sure that the customer ends up where you need them to be.
Jim Young: That explains the whole economic model of the movie theater I used to work at too.
Dallas Wells: You got it.
Jim Young: It was all based around paying $8 for a bucket of popcorn.
Dallas Wells: Yeah, it's that 50-gallon bucket of popcorn. That's where they all the money, yup.
Jim Young: Exactly. Dallas, I may not be quite the fine, moral upstanding citizen that you are. As you're describing this, I'm thinking, man, it might be tempting if I was a relationship manager to price that deal for the loan at the, not, break even, or maybe even a little bit below and tells the guys in credit that yeah, don't worry, I'm going to bring over a really profitable deposit later. What is the mechanism to make sure someone like me can't pull off that sort of thing?
Dallas Wells: Well, it unfortunately is common enough that it's one of the first things we talk about with the management group as we start getting into this exact issue is we'll show them, "Hey, here's how you can help your bankers cross-sell better," and a lot of the management teams will say, "Hey, we've been down this road before, and what ends up happening is our bankers will use the same potential deposits over and over and over, and we just price down this relationship systematically over time, and those deposits never actually show up." Our response to that is always, "Well, it's not your bankers' fault. That's your fault for not following through."
Now, in their defense, that's been a little bit hard to do, and this goes back to another one of the issues we talk about quite a bit, which is banks are really good at measuring the things that they actually win, that actually lands on their books. What they're really bad at measuring is the things that don't get on their books, so the deals that they lost, the loans that they didn't win, or the deposits that are sitting somewhere out there at one of your competitive institutions in your market, you have deposit accounts sitting there that maybe have even been promised to you, but you have no way of tracking those. You have to come up with some sort of mechanism for doing that.
Ours is pretty simple, but it works pretty well. What we do is we just look at the total deposits that a customer had at the relationship level when they made that promise, so we promise we'll bring you an extra $500,000 in deposits. Then you can look down the road, whenever that timeframe is, 60 days, 90 days down the road, and say, have their total relationship deposit balances gone up by that amount? If they haven't, then the first step is to hold that customer accountable. "Hey, remember you were going to bring that account over. Let's get that done."
The second step is to hold your bankers accountable. Once you've gone past whatever your threshold is, you need to start holding them accountable for the deals that never actually show up. We see a lot of banks actually putting loan covenants around this now to put some teeth to it. "Here's your rate if you bring the deposits. If you don't bring them within 90 days, here is your rate."
Now, again, you have to have a way of following up and actually using those things if you need to, but you have to have all those basic layers in place before you can actually make this happen. Mostly, it's about getting the process and the systems there where you can measure these things, you can monitor them, and then you just have to have management following through and holding people accountable.
Jim Young: There you have it, Dallas has laid out the reasons why it's time to cross-sell, and he's given you all the ways to do it better, so therefore, go-
Dallas Wells: Problem solved, right?
Jim Young: ... forth and cross-sell. Get it done.
Dallas Wells: Yeah.
Jim Young: That'll do it for us today. Thanks for listening. If you'd like to learn more, visit our resource page at explore.precisionlender.com. If you like what you've been hearing, make sure to subscribe to the feed in iTunes, SoundCloud, Google Play, or Stitcher. We love to get ratings and feedback on any of those platforms.
Thanks for listening. Until next time, this has been Jim Young with Dallas Wells, and you've been listening to The Purposeful Banker.
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As a Content Manager here at PrecisionLender, Maria develops the messaging, stories and content pieces for prospects and current clients – showing them the value in PrecisionLender. Her passion for serving others is evident as she leads the volunteer program here at PrecisionLender. Maria’s ability to be organized and constructive, along with her ability to be practical makes her an exceptional addition to our team.
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