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PwC – Long-term viability of the banks under pressure

30 September 2009 PricewaterhouseCoopers (PWC)

The international fiscal crisis wreaked havoc in the global economic banking industry causing many banks to re-evaluate their business plans in order to stay afloat. Industry conditions have been permanently altered and banks need to act quickly to develop comprehensive plans, first to stabilise their business and then to move forward. Even though the South African banking industry has been weathering the financial storm quite well, it is imperative that they conform to international standards in order to maintain long-term success.

According to a new international paper presented by Andrew Gray, Financial Services, Advisory UK Leader from PricewaterhouseCoopers (PwC) titled, ‘The Future of Banking: Returning Stability to Banks and the Banking System’, banks have until now only been reacting to the global downturn putting short-term measures in place to address the immediate crises. However, banks need to move forward and start addressing longer-term issues as there is no guarantee that they will do well in future, even for those banks that have survived relatively unscathed.

Tom Winterboer, SA Financial Services Lead Partner and Banking Leader for PwC says, “To ensure the future success, banking strategies must get the fundamentals right. This includes governance; risk control; financial management; delivery; legal and physical structures as well as people and reward. Nothing less than a world class approach will suffice and the ability to address all of these issues, in the correct order and to ensure that all responses are aligned, will be critical to survival.”

The new PwC paper provides a blue print for change. It advises that a clear strategy and vision will be essential for the success of the international banking industry.

Some of the key challenges facing South African banks include:

· Cost of funding in the markets: Banks must first address their own balance sheets. After securing capital, banks need to review their competitive position.

· Demand for credit and the need to lend: Banks need to be very careful when managing existing clients money and manage long-term relationships for both consumers and corporates.

· Implementing stringent risk management models: Banks need a clear understanding of past, present and future risks. This is vital, as business models are intertwined and decisions made in one division could have a direct effect on the success of a different division.

Capital is a scarce commodity and the people, processes, policies and systems that govern its deployment will need to become more efficient and robust. Capital and funding structures will become simpler, lower returns on equity will also become more acceptable.

People, rewards and culture have played a significant role in the development of the international crises. According to the paper, management should make it a priority to fix these issues, many of which will take significant time and effort to get right and will only deliver their full benefits in the long run.

Winterboer explains, “Financial services institutions need to build strong and resilient cultures in which responsible risk taking becomes the norm. This will require different approaches to reward, development, performance management, communication and recruitment.”

Preventing future crises

Regulators internationally largely failed to spot the crisis that blew up the world’s financial system and rightly they remain nervous about the ability of banks to withstand future shocks. Successive and ongoing injections of cash into the financial system, including government assistance show that it is difficult to know where the bottom of the crisis really lies.

South African banks are well placed in the global economy and have not experienced a run on banks during this crisis, as was the case in the US and Britain. The local regulator has handled the South African situation competently, however, further and better regulation may be required as we follow international trends as part of the restoration of confidence in our banking industry. Rigorous stress testing using a wider range of scenarios should be conducted to ensure that we are prepared for the worst case scenario.

As banks look to the future, transitional change is probably insufficient – structural and transformational change must also be considered. This is not simply a case of conducting a review of the business model and reassessing the value proposition of the bank, but understanding how the future business model will be delivered.

In conclusion Winterboer says, “The findings of PwC’s research shows that improved operating efficiency has been driven by strong income growth rather than an improvement on the cost side. With liquidity risks now better understood, it is increasingly clear that apparent improvements in operating efficiency over the last decade were at least partly achieved through increased exposure to liquidity risk.”

It is of critical importance that all key priorities mentioned in the paper are addressed in the right order. This is what should differentiate the leading institutions from second tier players in the future and ensure survival in the new world.

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