Challenger banks growing rapidly
(26 May 2015 – United Kingdom) Small challenger banks in the United Kingdom have secured stellar returns, giving the UK’s ‘big five’ high street banks reason for worry.
A KPMG report found challenger banks have increased lending assets by 16 percent and grew faster than the big five in 2014, compared to a decline in lending assets of 2.1 percent for the big banks.
The new annual report, The Game Changers, analyses the full-year results of some of the largest UK challenger banks, grouped in three categories – the ‘Large Challengers’, ‘Small Challengers’ and ‘Retailer-owned’ banks.
The report revealed that while Small Challenger banks are securing stellar returns, key financial indicators of the Large Challengers such as the return on equity, are becoming very similar to the ‘Big Five’ – Barclays, HSBC, Lloyds, Royal Bank of Scotland and Santander.
Challenger banks overall, are also becoming more cost efficient as they grow.
In particular, as Small Challengers have grown, they have benefitted in a reduction in their cost to income ratio (CTI), from 65 to 53 percent between 2012 and 2014.
Larger challengers reported a higher CTI of 64 percent in 2014 as many have inherited a higher cost base, which has yet to be optimised.
These figures are remarkably similar to the ‘Big Five’, who reported an increase in their CTI from 60 to 63 percent in the same period.
KPMG head of challenger banking and alternative finance, Warren Mead said that although the challenger banking sector is growing rapidly and securing greater returns, it is the Small Challengers who are driving its growth.
“Small Challengers are securing high returns and have better cost optimisation. If this trend were to continue, as the challengers grow and benefit from economies of scale, it poses an interesting question for the Big Five as to whether too big to fail, becomes too big to compete?
“Financially, the Large Challengers are looking very similar to those of the traditional banks,” Mead said.
“To ensure they remain differentiated, they must review their brand, distribution, products, culture and customer service.
“Digital banking is a great example. Our report found that the mobile functionality of the challengers is at best equal to, but often worse than, the ‘Big Five’.
“For those challengers focusing on customer service or cost as a differentiator, this could be a major hurdle for the future,” he said.
The report also revealed that the challenger banks are strengthening their balance sheets and embarking on a lending spree, while traditional banks reduce the size of their operations as a result of regulation.
However challenger banks face key challenges. Although regulatory rules apply equally to all banks, in practice however, they do not.
Challengers have to hold more capital in comparison to established banks.
Depending on the results of the Competition and Markets Authority’s current review into the banking sector, there may also be a significant impact on the fortunes of the challenger banks and their willingness to push further into the small business banking and current account markets, KPMG said.
Large Challengers include Post office (financial services are provided by Bank of Ireland UK), National Australia Bank, TSB and Virgin Money.
Small Challengers are Aldermore Group, Handelsbanken, Metro Bank, OneSavings Bank, Shawbrook Group and Secure Trust Bank.
Retailer-owned banks include Asda Money, M&S Bank, Tesco Bank and Sainsbury’s Bank.
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