The customer-owned alternative

The customer-owned banking sector in Australia has combined assets of $83.9 billion and services over 5.3 million customers throughout the country. Currently, 100 customer-owned institutions and 13 friendly societies are operating in Australia, including 82 credit unions, seven mutual building societies and 10 mutual banks.

Collectively, credit unions, mutual banks and building societies are the fifth largest holder of household deposits in Australia, holding 10.7 per cent as at June 2013.

Often described as the ‘fifth pillar’ of the Australian banking industry, the mutuals sector creates much needed competition, which ultimately benefits consumers and brokers.

According to the Reserve Bank of Australia’s (RBA’s) March 2012 Financial Stability Review, the customer-owned banking sector is well capitalised with aggregate tier one capital ratio of about 15 per cent, as compared with around 10 per cent for Australian banks.

The sector also demonstrates secure lending practices, as shown by its mortgage arrears figure. According to Standard & Poor’s Prime RMBS Arrears Statistics Report, the mutuals sector recorded arrears at 0.20 per cent, nine basis points below that of the major banks.

Customer-owned financial institutions have a strong presence right across Australia, with New South Wales and South Australia leading population penetration for the sector at 27 and 26 per cent respectively.

The mutual structure under which customer-owned institutions operate means there is no conflict between customers and shareholders. This allows these institutions to focus exclusively on working for their customers to provide the best service and most competitive pricing possible.

This customer-focused model is clearly reflected in customer satisfaction rates.

Roy Morgan research shows that in the six months to August 2013, 89.2 per cent of total mutual sector customers were satisfied with their institution, compared to a satisfaction rate of just 81.1 per cent for CBA, which performed best of the four major banks.

The customer-owned banking industry is represented by the Customer Owned Banking Association (COBA). Previously known as the Association of Building Societies and Credit Unions (ABACUS), COBA relaunched under its new name in July 2013.

In 2013 COBA has advocated for a financial system review ensuring smaller institutions remain in a position to compete with the larger banks.

Mark Degotardi, head of public affairs at COBA, says a strong mutuals sector is vital for a competitive banking industry.

“Since the GFC, big bank market share has increased and the result, if left unchecked, will be less competition and consumers will pay more,” he says.

“A wide-ranging independent inquiry should examine if our regulatory and policy settings need to change to stimulate more competition.”

DRIVING COMPETITION

“The inquiry needs to examine the risks of a concentrated banking market, the shortcomings of the ‘one size fits all’ approach to regulation, the importance of diversity of ownership models like the customer-owned model, and the benefits reaped by the big four banks because of their ‘too big to fail’ status,” says Mr Degotardi.

“COBA wants the FSI to produce a more robust and diverse system, where regulators have responsibility for both stability and competition, and accountability for delivering on both. It should be a system that enables smaller players to grow by resolving funding inequities and building a framework that will help withstand the next global economic challenge.”

Mr Degotardi emphasises the importance of choice in the banking industry, allowing consumers the ability to shop around and find the most appropriate products for them.

“We also hope the inquiry will examine the absence of a regulatory body that is charged with ensuring Australian consumers are given sufficient diversity and choice in the retail banking market,” he says.

The smaller players in the Australian banking sector provide much needed competition to the major banks. Without this competition, consumers would be worse off.

Stewart Saunders, national manager brokers at ME Bank, says mutuals are very important as they provide a real alternative to the commercial banks.

“Where mutuals are fundamentally different is their business models and ownership structure, in which the balance of return is not as heavily weighted to the shareholders but more toward customers through consistently lower priced products and low or no fees,” he explains.

“There is a general perception, which is warranted, from the Australian consumer that banks have a history of favouring their shareholders over customers.

“We are seeing an era of major banks achieving record profits and I think bank customers should ask the question, ‘Does this profit have to come at my expense?’”

Mr Saunders says after considerable consolidation within the banking sector, as a number of the majors have bought out smaller banks, the competition provided by the mutuals sector is more important now than ever before.

“While competition remains strong, the playing field is changing and moving towards less competition, which would be to the detriment of brokers and their customers.

“Only a truly competitive market will continue to drive innovation and meet customers’ financial needs. The non-majors, like mutuals, ME Bank, regional banks and other non-majors are all important in challenging the majors and keeping competition alive,” says Mr Saunders.

“The consolidation that we have seen in the banking sector is a concern for the industry, including brokers.”

BENEFITS FOR BROKERS

“A broker’s value proposition is perfectly aligned with the mutuals, which are focused on the customer,” says Mr Saunders.

In an industry driven by referrals from clients, Mr Saunders says the increased customer satisfaction of the mutuals can be an enormous positive for brokers.

“I suggest there would be significant benefits for brokers from recommending some of the alternatives, which often have very high customer satisfaction levels,” he says.

Jason Murray, general manager products and marketing at CUA, the largest customer-owned financial institution in the Australian financial industry, says that mutuals offer some balance to the entire banking sector.

“Without the mutuals sector you don’t have the balance, you don’t have that ‘fifth pillar’ that gives the customers some choice,” he says.

“People want to go to someone who is an expert and can come up with the very best options for their needs.

“If it wasn’t for the mutuals sector, there would be much less competition and considerably fewer options.”

Charlton Nevis, general manager third party and strategic alliances at Wide Bay Australia, says mutuals offer a great alternative for those brokers who are sick of dealing with the major banks.

“Brokers will provide their top three or so recommendations to individual customers that suit their circumstances. The segment of customers that will not bank with a major is relying on brokers to recognise and recommend the suitable ‘alternative’,” he says.

“Many customers just do not wish to borrow from or bank with a major bank. The mutuals provide that equivalent alternative that fulfils that stated customer need.”

John Minz, CEO of Heritage Bank, a mutual institution formerly known as the Heritage Building Society, says mutuals actually offer a number of advantages to brokers.

“Our ‘people first’ approach applies just as much to our partners and staff as it does to our customers,” he says.

“That means we build strong relationships with brokers and bend over backwards to satisfy their needs.”

According to Mr Minz, staff of mutuals buy into the customer-owned culture and often stay much longer than in other areas of the banking sector.

“That means brokers deal with happy, responsive, experienced and available people who will do their best to meet all broker needs.

“Because we are smaller, brokers aren’t just a faceless number in a queue,” he says.

Finally, Mr Minz says mutuals provide brokers with a fantastic alternative to the bigger banks, which means brokers can present more options to their clients.

“They can refer with confidence the fact mutuals usually offer a better financial outcome for their clients, and also a more satisfying banking experience,” he says.

CONSUMER PERCEPTION

Consumer perceptions of banking institutions are heavily shaped by marketing and public relations campaigns.

Given the major banks’ enormous resources, it is no surprise that many consumers associate the majors with strength and stability.

This, combined with an underperforming financial sector in recent years – in which many institutions worldwide have suffered – has left some consumers cautious of doing business with smaller mutual lenders.

According to Mr Minz, this perception is unfounded. He says mutuals actually take a more conservative approach to banking.

“The core asset for most mutuals is lower risk residential mortgage lending. Few mutuals choose to aggressively engage in commercial lending activities,” he says.

According to Mr Minz, mutuals’ customer focus actually helps to build strength and stability due to the type of banking they are involved in.

“Because of their smaller balance sheet and their retail business focus, mutuals generally have a significant proportion of traditional retail funding. This means high deposit to loan ratios,” he says.

Monica van Riet from Mortgage Choice says she uses the customer focus of mutual lenders as a selling point for her clients.

“They have got really great customer service, not only from the loan application perspective for us, but also the post-settlement perspective for their clients,” she says.

Ms van Riet admits some of her clients are initially apprehensive to use the mutuals but says she can usually change their view with a brief explanation of their value proposition.

“Some people are uncomfortable dealing with a smaller lender or someone they may not have heard of – but mostly they just want the best deal,” she says.

“I give my clients options and we go through these and look at their borrowing capacity. We then look at who is offering the best deal and how they can get them the best value for their money, and they then make the decision based on that.

“I have rarely had a customer say they don’t want to use a mutual if it gives them the best value for money,” she adds.

Harold Parkinson from Smartline says consumers’ perceptions seem to have changed in the last decade, with fewer people requesting loans from the majors and more people willing to shop around for the best deal.

“They have no dramas whether it is a building society or bank anymore. Quite often nowadays, the younger people are savvier with what is going on within the market and they’re not looking for a major bank; they’re just looking for the best deal,” he says.

Many consumers don’t know much about the smaller lenders, but Mr Parkinson says it’s usually an easy sell once he brings up pricing and service.

“They ask me ‘Who are Heritage?’ for example, and ‘Are they safe?’ ‘What about the government guarantees?’ and these sorts of things, and I say, ‘I bank with Heritage and I am happy with it’, and that’s usually good enough,” he says.

While the perceptions appear to be changing, Mr Parkinson says he still has some clients who only want to hear about the majors.

“I still use Commonwealth and ANZ a lot because you get a few – predominantly older customers – who want to stay with a major bank no matter what; you will never convert those people, even if the interest rates are better,” he says.

THE BIGGEST CHALLENGES

Mutuals face many challenges to remain competitive against much larger and better resourced competitors.

Mr Saunders says “Size improves economies of scale, and smaller organisations have higher capital requirements, higher liquidity requirements, plus legislative and compliance costs”.

The higher operating costs experienced by smaller institutions can impact on their ability to compete for customers.

“There is concern about the continued ability for mutuals to compete in an industry where scale can reduce costs and operational efficiencies, to keep up with regulatory and legal changes and to innovate to provide products and services that are compelling for consumers,” he says.

“This is a real shame for competition in an industry where the top four banks account for around 80 per cent of market share.”

Mr Saunders says the major banks use their much greater resources to attract customers with short-term promotions.

“While customers’ satisfaction of mutuals is well above those of the major banks, being able to convert this into growth has been a significant challenge,” he says.

“There is also the current high level of competition between banks in a low credit growth environment, which is manifest in many bigger banks sacrificing short-term margin to win customers through short-term marketing offers like cash-back offers, fee waivers and the like – offers amplified by well-financed marketing and advertising campaigns.”

According to Mr Saunders, it is important for mutuals to focus on long-term value. He says smaller entities can win customers in that way.

“Mutuals need to shift customers’ attention from the short-term marketing offers to the general value proposition offered by customer-owned banks,” he says.

Mr Saunders says despite these significant challenges, the future is bright for the Australian mutuals sector: “A large proportion of Australian banking customers are looking for a better deal,” he says.

“Customers have been conditioned to accept the behaviour of the big banks and perhaps don’t realise there is a safe, highly competitive banking alternative supported by real service.”

Many people share the view that mutuals simply need to raise their awareness amongst the general public in order to increase their market share.

Mr Murray says “When you’ve got four brands that are so dominant, the noise of that gets in the way of recognising there are other options, and I think that is the primary challenge for mutuals”.

He also believes the current regulation framework is a significant burden for smaller entities.

“The smaller you are, the bigger the burden,” says Mr Murray.

“We still have to do the same checks and balances as the banks, but we don’t necessarily have the same resources to do so.”

Mr Minz says the biggest challenge for the mutual sector is competing on a playing field that provides significant advantage to the big banks.

“The major banks benefit from a lower cost of funding because rating agencies take into account the implicit government guarantee they enjoy,” he says.

“No government would ever sit back and allow one of the big banks to collapse; thus this ‘too big to fail’ status allows them to obtain funding much more cheaply than their mutual competitors, which just enhances their dominant position.”