Wednesday, December 19, 2007

Distribution

Chase (formerly Bank One, which merged with JP Morgan Chase in 2004) has a large network of branch offices here in Chicago. When I moved into Bucktown about 6 years ago, there were no branches locally; but soon they filled in every corner (it seems) as the neighborhood gentrified. In River North there weren't a lot of branches because there was limited residential traffic until recently when all of the condominiums were built over the last 5 years or so; now we have branches all over the place.

In a branch near my condo in River North (which oddly enough has a "fake" 2nd story that you can see as you ride on the Brown line of the "L" overhead) they added a coin counting machine that you see in the picture above. Unlike the coin counting machines in grocery stores, this coin counting machine doesn't charge 5 to 10 cents for each dollar - you just feed in your coins and collect your cash from the bank teller (presumably in paper dollars, else why else visit?).

The coin counting machine was great; I lugged over plastic cups full of change and received over $200 in return. While I was waiting for my cash, I started up a conversation with the bank teller, who said that they were going to leave the coin counting machine only for a limited time but it was bringing in tons of foot traffic to the branch so they decided to make them permanent.

I found this to be interesting; only a few years ago banks were trying to get customers to use their online services instead of going to a retail branch and physically speaking with a teller or representative. This article from 1999 talks about banks that were charging $2 to speak with a bank employee for transactions that could either be done online or by phone.

The rationale for driving customers to use the phone (bank by phone was the rage a few years ago - now this has largely been superseded by Internet banking since you can do everything online that you can do by phone and it is much less tedious) or the Internet was simple - the incremental cost of these transactions was very low (almost zero for the Internet) while keeping a vast branch network of living, breathing employees accruing benefits was viewed as an expensive liability.

What happened to make banks move from viewing branches as a liability to suddenly going out and building branches and filling them with staff across the country? Banks figured out that if you can bring in a customer and sell them on other services that the bank offers (loans, investments, etc...) then that customer becomes far more profitable than just a checking or savings account customer. This study by AT Kearney the consulting firm ranks the banking companies on how they leverage "organic growth" which is mainly done by selling more services to existing customers as opposed to buying market share through M&A.

It will be interesting to see if the downturn in the housing market and cratering of the subprime market (which will soon impact the number of home equity loans as home equity values stop growing) will slow or halt this growth in retail banking. Washington Mutual was an aggressive builder of new locations; it seems likely that their growth of physical branch offices will cease. The interesting part of these new services is that the banks mainly offered convenience to customers; they didn't necessarily offer the best loan rates but at least you could "wrap" your services together onto integrated statements. I always found the "invest where you bank" come on to be ludicrous; by that logic you could also say "invest where you do your laundry" since running an FDIC guaranteed operation is nothing like recommending investments for growth (I am being facetious; certainly some banks and representatives are good at the business; but in general the logic that would drive you to invest at your bank is not compelling).

Back to the topic (loosely) at hand; it is interesting how the branch network was a long-term asset for decades, then it suddenly was viewed as a liability, then it exploded in growth again, and I am betting that the branch network growth will slow or possibly reverse with the souring of the housing market. For now it is a "good" thing to fill the branch with customers turning in their change; maybe later this won't be the case unless these customers are somehow turned to profit beyond what you could obtain online.

The final oddball item from my perspective is that the OTHER business that had a distribution network for years and then desperately tried to get rid of it was the utility business. Utilities had offices in every town with trucks and crews and a service office. But utilities, unlike banks, were poor at selling additional services (what else do you want them to do beyond provide monopoly gas and electric services and keep the lights on) and the fact that a local presence allowed them to respond quickly to storms and natural disasters (as well as employ local staff) didn't really add much to the bottom line (after all, it is a monopoly - you can't leave anyways even if the service sucks). So utilities have been pruning their distribution staff and offices for years and decades, even as the volume of power sold has increased.

Perhaps someday utilities will once again open local offices if they start heavily investing in "demand management" strategies to reduce local consumption, in lieu of building more plants and new transmission lines. Instead of giving you a new toaster to open an account perhaps they will give you an efficient light bulb or sell a service to install more efficient appliances in your home. This seems far fetched, but you never know... maybe the soon-to-be-empty bank branches throughout our cities will turn into a few retail outlets for energy services.

The last distribution play is the post office - they are EVERYWHERE. In foreign countries like Italy and Germany where the postal service has been deregulated or partially deregulated, they sell other services and products within the post office branches to leverage this ubiquitous network. In the USA, however, our post office doesn't sell much but commemorative stamps which hardly leverage anything (these probably are better over the Internet, anyways). As long as they are a monopoly whose main purpose is to keep government employees being paid on a regular basis, don't expect a lot of innovation here (on the sell side) or cost reduction strategies (to eliminate tiny or redundant branches).

Cross posted at Chicago Boyz

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