Banking on technology - The shareholder benefits of a digital future - Goldman Sachs Research
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EQUITY RESEARCH | May 22, 2018 | 12:35AM EDT
The following is a redacted version of the original report. See inside for details.
Americas Banks
Americas Banks
Banking on technology
The shareholder benefits of a digital future
The benefits of innovation in the banking industry have largely either accrued to customers in
the form of lower prices or added to the cost base of the banking industry with limited
revenue benefits. We see the current wave of digitization, which is centered on electronic
payments, straight through processing and AI, generating real scale and efficiency benefits
for the largest US banks. The decreasing importance of a physical distribution network also
appears to be driving market share concentration with the largest banks taking 6pp of deposit
market share since 2008. We see these trends accelerating over the next five years and
estimate that the largest banks could see 350bps of efficiency improvement increasing to
800bps if revenue growth is factored in. Tech companies continue to seek opportunities to
expand into financial services given their brand and broad customer base. However, we see
their focus on eliminating frictions in payments and expanding their offerings to the
under-banked, which are likely to be better achieved through partnerships and JVs with
incumbent players.
Richard Ramsden James Yaro Sal Saroni Heath P. Terry, CFA James Schneider, Ph.D.
+1(212)357-9981 | +1(212)902-1913 | +1(917)343-5320 | +1(212)357-1849 | +1(917)343-3149 |
richard.ramsden@gs.com james.e.yaro@gs.com sal.saroni@gs.com heath.terry@gs.com james.schneider@gs.com
Goldman Sachs & Co. LLC Goldman Sachs & Co. LLC Goldman Sachs & Co. LLC Goldman Sachs & Co. LLC Goldman Sachs & Co. LLC
Goldman Sachs does and seeks to do business with companies covered in its research reports. As a
result, investors should be aware that the firm may have a conflict of interest that could affect the
objectivity of this report. Investors should consider this report as only a single factor in making their
investment decision. For Reg AC certification and other important disclosures, see the Disclosure
Appendix, or go to www.gs.com/research/hedge.html. Analysts employed by non-US affiliates are not
registered/qualified as research analysts with FINRA in the U.S.
The Goldman Sachs Group, Inc.Goldman Sachs Americas Banks
Table of Contents
PM Summary 4
Low-cost tech improving efficiency 10
Scale matters - Tech looks to concentrate the US banking market 17
Large tech company (i.e., Amazon) and venture capital ambitions in the banking space 21
Appendix A: Sensitizing benefits from digital vs. third-party providers 24
Disclosure Appendix 25
Other contributing authors
Willis Palermo Mohammed Moawalla Melissa Kuang, CFA Vishal Agarwal
+44 20 7552-8394 +44 20 7774-1726 +65 6889-2869 +1(212)934-8377
willis.palermo@gs.com mohammed.moawalla@gs.com melissa.kuang@gs.com vishal.agarwal@gs.com
Goldman Sachs International Goldman Sachs International Goldman Sachs (Singapore) Pte Goldman Sachs India SPL
Note: The following is a redacted version of “Americas Banks: Banking on technology: The
shareholder benefits of a digital future" originally published May 22, 2018 [39pgs]. All company
references in this note are for illustrative purposes only and should not be interpreted as investment
recommendations.
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PM Summary
While the banking industry is not new to technology innovation, historical data
suggest that the bulk of the benefits of innovation have largely either accrued to
customers (in the form of lower prices) or added to the cost base of the banking
industry with limited revenue benefits. We believe that the current wave of
digitization is set to differ from those seen previously as banks are both reshaping
historical distribution channels as well as reaping much greater economies of
scale through cashless payments, straight-through processing and applying
artificial intelligence (AI) to price customer relationships versus products. In this
report, we estimate that digitization could improve efficiency ratios by up to
350bps over the coming five years, while other expense saves, and revenue
growth could total 460bps. Including moderate revenue growth and credit
normalization, we see US banks potentially reaching 18% ROTCEs in 2022 (vs. 12%
in 2017 [normalizing for one-time tax reform impacts]). If banks were to reach
destination capital levels (using the recent Fed SCB proposal as a guideline)
ROTCEs could reach roughly 21%. We have based our analysis on the impact of
digitization on the experience in overseas markets (primarily the Nordic and Singaporean
banks), which have seen some of the greatest levels of digital technology migration
since the Crisis and provide a plausible roadmap for the impact of digitization in the
United States.
We also believe there are increasingly clear data to support the conclusion that
differences in technological innovation are driving market share concentration in
the industry in favor of the largest names. Over the last nine years, US banks with
>$100bn in assets have increased their market share in deposits by 6pp, and by 4pp in
loans. The top four US banks by assets (JPM, BAC, WFC, C) have seen organic retail
deposit growth average 7% since 2011, which is two times the growth rate of smaller
regional banks, and they now account for 46% of all account openings, a 5pp increase
versus 2016. As growth is less constrained by the need to have a physical presence in
any given market and has become more a function of the breadth and quality of the
digital offering as well and price competitiveness, we see this trend accelerating over
the next five years.
We believe that the leading tech companies, most notably AMZN, will look to
expand their footprints in retail financial services, but see their focus as being on
removing frictions in the payment system and expanding basic payment and
banking services to the under-banked in a bid to grow their client bases.
Partnerships with banks versus outright competition are likely to remain the
preferred approach, at least in the near term. Digitization and deregulation clearly
provide an opportunity for disruptive innovation, although we think aspirations will be
moderated by the prospects of greater regulatory oversight and reluctance over taking
on significant levels of credit risk. Venture capital investment in FinTech reached $6bn in
1Q18, or roughly 10% of total VC funding across all sectors, although US funding has
begun to flatline and remains relatively small compared to the overall investment in tech
4Goldman Sachs Americas Banks
by the traditional entities. It is interesting to note that on average, banks spend 8pp
more on tech than other industries while outsourcing 20pp less of the cost.
n Is this time ‘round any different? Compared to other forms of tech. innovation in
banking, we view this round of digitization as offering real efficiency gains for
shareholders. In the past, new forms of distribution (i.e., the ATM, and
internet-based banking) were layered onto existing channels with no meaningful
efficiency benefits, with United States bank efficiency ratios near 61% since 1992.
Since 1950, the United States has seen uninterrupted branch per capita increases of
>7x. However, since 2008, branches per capita are down 11% and we estimate this
metric could decline a further 22% through 2022, given that the United States still
has one of the highest number of branches per capita of any country in the world
(33 per 100,000 people vs. a global average of 28 and 16 in the Nordic region). Our
analysis also shows a strong relationship between a rise in cashless payments and
an improvement in efficiency ratios, with Nordics showing a consistent
improvement in efficiency ratios as cash usage declined.
n The value of digitization for shareholders: We estimate that digitization could
improve efficiency ratios by 350bps (ex. revenue growth) over time, with 50% of the
benefit from a potential shift to digital distribution channels, including less reliance
on branches and call centers, online bill pay and cashless payments as well as
streamlining back office systems through greater use of AI and straight-through
processing. Resources can be shifted from operating the business to: 1) developing
new tech to drive revenue growth (e.g., Singaporean DBS’ tech spend is flat vs.
2014, but it has freed up ~20% of its tech budget to invest in new tech vs.
maintaining existing systems); 2) or reducing cost. We have based our efficiency
estimates on the experience of Nordic banks, which have seen 620bps of efficiency
improvements since 2010, with around half of the improvements due to a shift
towards digital distribution channels. Over the last ten years, cash usage has fallen
by 16pp in the Nordic region (vs. by 8pp for other developed world jurisdictions).
Moreover, widespread adoption of digital distribution has resulted in rapid branch
rationalization with 45% of branches closed since 2006 vs. 10% in other countries
we have analyzed. While the United States is unlikely to see the same rate of
decline in cash transactions due to competing cashless payment options, greater
reliance on checks and physical bill payment, as well as fewer policy-driven initiatives
to reduce cash usage, we estimate that cash transactions could decline by 5pp over
5 years, leading to a 170bps efficiency improvement.
n Scale matters - Tech looks to concentrate the US banking market: In addition to
increased efficiency, we believe that technology can drive increased market share
concentration over time. We estimate that the top 25 banks could see up to 3-4pp of
market share gains as consumers become more comfortable with “branch lite”
offerings. In our view, the next wave of technology adoption is also likely to result in
market share shifts as: 1) the focus moves to pricing client relationships rather than
products, making cherry picking individual products more difficult and resulting in
higher product penetration for incumbents; and 2) a virtuous cycle whereby tech
investment leads to efficiency improvements and a pricing advantage that in turn
drives higher market share. We have seen market share shifts towards large banks
5Goldman Sachs Americas Banks
since the Crisis, with 6pp of deposit market share gains for banks >$100bn in
assets, and 4pp in loans. These are comparable to retail, where the top 10 market
participants have gained 7pp of market share over that time period.
n Tech’s aspirations in banking: Thus far, AMZN’s banking initiatives have spanned
co-branded credit cards, merchant financing, and payment services. To date, most
have been through JVs vs. through standalone initiatives. Given the significant
banking profit pool and the increased customer willingness to buy purely digital bank
products, there is clearly an opportunity for disruptive innovation, especially in retail
banking. For example, FinTech VC investing has seen a 33% CAGR over the last
three years. Despite AMZN’s opportunity to expand in financial services, we believe
the highly regulated nature of the industry and an unwillingness to take on credit risk
on its balance sheet will temper its aspirations to build a standalone banking
operation. We see the company’s initiatives as focused primarily on removing friction
at the point of sale and expanding its customer base to consumers that are either
card-less or under-banked. On the merchant side, lending activity looks to be
centered on providing working capital to constrained merchants.
n Large caps beneficiaries from tech: Banking is a scale game, and we think
innovation exacerbates this. Large caps will be best able to amortize tech costs. In
our upside earnings scenario over the next five years (which includes revenue
growth and expense saves deriving largely from technology), we see roughly
800bps of efficiency gains, with roughly 40% from cost saves.
Defining the “digital customer”
We define a digital customer as someone who: 1) goes into branches infrequently ( 5-10 12 - 20
check deposits); or
2) Digital
B) Digital sessions (e.g., balance
interactions, < 75 - 100 > 100 - 150
inquiries on computer/cell phone); or
comprised of:
C) Digital payments (e.g., ACH, P2P
< 20 - 25 > 25 - 30
payments)
Source: Company data, Goldman Sachs Global Investment Research
6Goldman Sachs Americas Banks
Exhibit 2: We estimate tech could improve large US bank efficiency Exhibit 3: ...this equates to roughly 600bps of ROTCE improvement,
ratios by 350bps, and revenue growth and credit normalization with expenses driving 180bps and the rest from revenue and credit
could improve it by a further 460bps... normalization, while excess capital returns could drive an addt’l
Note: Other expenses includes large bank FDIC assessment/deposit 260bps of ROTCE upside....
intangible roll-off
6.4% 2.6% 20.8%
60.2%
US Bank Efficiency Ratio Assuming
Tech Based Efficiency Gains (%)
US Bank ROTCE Assuming Tech Based
0.5% 18.3%
-1.7% 56.7%
-2.8%
Efficiency Gains (%)
-1.7%
0.9% 14.2%
0.9%
52.1% 12.3%
-2.9% -1.0%
-0.7%
from Tech
2017 Eff.
Branch
Growth
Expenses
Efficiency
Other Tech
Net Fee
Net NII
Growth
Eff. Ratio
Implied
Cuts
Ratio
Other
ratio
2017 Branch Other ROTCE Net Rev. Credit Other Implied Excess Dest.
ROTCE Cuts Tech from Tech Growth Norm. ROTCE Capital Capital
Return ROTCE
Source: Company data, Goldman Sachs Global Investment Research Source: Company data, Goldman Sachs Global Investment Research
Exhibit 4: ...which implies that ROTCEs could reach 18%, or ~25% Exhibit 5: The largest US banks have improved expense / assets
upside to our coverage on average since the Crisis, which we largely attribute to the benefits of scale,
while small banks saw the inverse...
2.6 Digital Upside + 2010 2017
Destination
Capital 3.10% 3.17%
2.3
Banks expenses to atssets (%)
USB 2.74% 2.62%
Digital Upside 2.59%
2.54%
2019E Consensus PTBV (x)
Scenario
2.0
PNC
JPM
1.7 2019E Avg
BAC
MS
1.4
WFC
1.1
C
Top 5 Top 6-15 Industry ex. top 15
0.8
10% 12% 14% 16% 18% 20% 22%
2019E Consensus ROTCE (%)
Source: Company data, FactSet, Goldman Sachs Global Investment Research Source: SNL, Company data, Goldman Sachs Global Investment Research
Exhibit 6: ...and this has translated to >$100bn banks gaining Exhibit 7: ...this is comparable to retail industries, which have seen
4pp/6pp of loan/deposit market share - we est. 3pp/4pp of further roughly 700bps of market share gains since the Crisis
share gains through 2022...
98% 2008 2017
Loans Deposits 92%
3%
Market share for top 10 players (%)
76%
Loan, deposit market share for US Banks
4%
72% 71%
72%
67% 67%
68% 65% 63%
8%
>$100bn in assets (%)
64% 64% 16% 7% 4% 54%
61% 62%
4%
60% 95% 40%
61%
88%
8% 32%
56% 58% 64% 58% 59%
57% 9%
52% 51% 50%
32%
48% 23%
43%
44%
40% 40%
36%
2018E
2019E
2020E
2021E
2022E
2007
2005
2006
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
Source: SNL Financial, Company data, Goldman Sachs Global Investment Research Source: Euromonitor, Goldman Sachs Global Investment Research
7Goldman Sachs Americas Banks
Exhibit 8: US banks have not seen structural efficiency ratio improvement since the before the mid-1990s,
but we think this time could be different
68%
US Industry Efficiency Ratio Avg
66%
Bank Industry Efficiency Ratio (%)
66% 65% 65%
63% 63%
64% 63% 62%
61%
62%
60% 59% 59%
60%
57% 58% 59% 57%
58%
56% 55%
54%
52%
52%
50%
2018E
2020E
2021E
2022E
2019E
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
Source: FDIC, Goldman Sachs Global Investment Research
Exhibit 9: US bank branches per capita have fallen by 11% since 2008, and we expect a further decline of 22% through 2022
Note: Branches per 1mn people based on FDIC institutions
1950s 1960s 1970s 1980s 1990s 2000s 2010s 2020Es
Banking Tech Advancements
1980: Girobank 1994: Stanford
1950: Credit 1967: 1973: Federal offers 2010: Mobile 2017:
launches
cards Barclays rolls SWIFT US internet banking takes Zelle app
telephone
introduced out the ATM established banking off released
banking services
1958: Western 1980: 1985: Bank of 2004: Digital 2015:
Union deploys Electronic Scotland launches check clearing ChasePay
Telex system cash counter electronic home (Check 21 Law) announced
300
273
FDIC Branches per 1mn
242
250
200 188
People
150
100
50 32
0
Source: Euromonitor, Census Bureau, Goldman Sachs Global Investment Research
8Goldman Sachs Americas Banks
Low-cost tech improving efficiency
“As we pull out [consumer] We estimate efficiency ratios for the large US banks could improve by 350bps as
transactions and automate
banks benefit from significantly lower marginal costs per transaction from
them or they get handled
digitally, they are typically
cashless payments, online bill pay and reduction in paper-based processes, which
the easier transactions to should accelerate the rationalization of branches and call centers. Further,
deal with, leaving the more digitization allow for tech expenses to be shifted from running the business to
complex, more expensive
either: 1) build new tech to drive revenue growth; or 2) saved to generate
[ones] for people. And so
to be able to have a
operating leverage. For example, we have seen DBS Group hold the tech budget
situation where we are flat over the past four years, while freeing up 20% of the budget to invest into new
getting the cost to come tech to drive revenue growth, vs. spending it on maintaining existing processes.
down and volumes to be
We have based our analysis on efficiency improvements by looking at the impact of
substantially less than the
business drivers is again a
digitization in the Nordic region over the past seven years. We argue that the shift
good example of operating towards lower-cost/more-scalable distribution platforms could see US banks reaching
leverage.” 52% efficiency ratios by 2022 versus 60% in 2017 (inclusive of 3% p.a. revenue
- Gordon Smith, JPM growth). While the experience of DBS Group implies US banks could produce even
Co-President & Co-COO greater efficiency savings (cost/income ratios could improve by up to 420bps), the small
size of the country and its much higher population and business concentration limit
broad-based comparisons with US banks, in our view.
Exhibit 10: We estimate branch cuts and other tech improvements can reduce efficiency ratios by 350bp,
with modest revenue growth providing the other levers
60.2%
US Bank Efficiency Ratio
Assuming Tech Based
Efficiency Gains (%)
-1.7% 56.7%
-1.7%
52.1%
-2.9%
-1.0% -0.7%
2017 Eff. Ratio Branch Cuts Other Tech Eff. Ratio Net NII Growth Net Fee Other Implied
from Tech Growth Expenses Efficiency ratio
Source: Company data, Goldman Sachs Global Investment Research
Using the Nordic case to sensitize US bank efficiency progress
Nordic banks have seen ROTCEs increase +140bps since 2010, due mainly to a
step-change in efficiency ratios, which have fallen by 620bps. Nordic banks made
significant tech investments in 2010 and 2011, which peaked at 6.3% of revenues in
2011, compared to a current run rate of 5.4%. Since 2007, cash usage fell by 16pp as a
% of total transactions (vs. 8pp for other jurisdictions) with one Nordic bank noting that
fewer than 10% of branches still carry cash. In addition, digitization led to a rapid
rationalization of the branch network which fell by 45% vs. 10% in other countries.
Remixing to smaller branches, which are advice-driven rather than transaction-centric,
also improved efficiency. Across developed regions, there is a relatively strong
9Goldman Sachs Americas Banks
relationship (67% R2) between cash transactions as a % of total vs. efficiency ratios,
with Nordics having both low use of cash and efficiency ratios, and the United States
and Continental Europe the highest.
Exhibit 11: We attribute 290bps of Nordic efficiency gains to branch cuts and tech. improvement
disaggregation 2010-2017 (%)
53.7%
Nordic bank efficiency ratio
50.8%
0.8%
2.1% 3.7% 47.5%
4.7%
2.3%
2010 Branch cuts Others/ tech. Eff Ratio NII growth Fees growth Revenue 2017
from Tech Related
Expenses
Source: Company data, Goldman Sachs Global Investment Research
Exhibit 12: Across the developed world, ROTCEs declined since the Crisis, aside from Nordic banks, where ROTCEs increased by 140bps...
Jurisdiction (as of Revenue to Assets Expenses / assets Efficiency Ratio Provision to assets ROA Leverage ROTCE
2017) 2010 2017 2010 2017 2010 2017 2010 2017 2010 2017 2010 2017 2010 2017
US 5.4% 4.3% 3.2% 2.6% 59.4% 60.2% 1.0% 0.2% 0.77% 0.97% 17.0x 12.7x 13.1% 12.3%
Nordics 1.6% 1.6% 0.9% 0.8% 53.7% 47.5% 0.2% 0.0% 0.40% 0.63% 26.7x 19.3x 10.8% 12.2%
Canada 3.3% 3.2% 1.8% 1.7% 56.6% 55.0% 0.2% 0.2% 0.74% 0.88% 27.5x 23.1x 20.3% 20.3%
Australia 2.9% 2.4% 1.3% 1.1% 44.3% 43.0% 0.3% 0.1% 0.91% 0.90% 22.5x 16.9x 20.4% 15.2%
Continental Europe 2.4% 2.2% 1.4% 1.4% 59.2% 63.4% 0.5% 0.3% 0.31% 0.33% 30.2x 21.5x 9.5% 7.1%
Avg. 3.1% 2.7% 1.7% 1.5% 54.7% 53.8% 0.5% 0.2% 0.63% 0.74% 24.8x 18.7x 14.8% 13.4%
Source: Company data, Goldman Sachs Global Investment Research
Exhibit 13: ...we compare the components of Nordic vs. US banks’ ROTCEs changes since 2010...
Nordic Banks US Banks
60%
35.0%
50%
ROTCE Waterfall (%)
40%
11.8%
30%
6.9% 19.0%
17.0% 4.1%
20% 13.1% 18.3% 12.2% 12.3%
10.8% 6.3%
10.8% 1.7%
0.3% 0.4%
10%
7.3% 12.1%
0%
2010 Asset Revenue Net 2017 ROTCE Credit Taxes/ Leverage 2017
ROTCE Growth Margin Efficiency [ex Credit, Other ROTCE
Leverage, Other]
Source: Company data, Goldman Sachs Global Investment Research
10Goldman Sachs Americas Banks
Exhibit 14: ...with Nordics’ stable efficiency and strong asset Exhibit 15: ...while US bank ROTCEs have fallen on weaker
growth, partially offset by deleveraging... efficiency, lower revenue margins and significant deleveraging
35.0%
Nordic Bank ROTCE Waterfall
US Bank ROTCE Waterfall (%)
4.1%
6.9% 17.0% 1.7% 11.8%
0.3% 0.4%
18.5%
(%)
12.2% 18.7% 6.1%
10.8% 10.9%
7.3% 13.1% 12.3%
12.1%
2010 Asset Revenue Net 2017 Credit Taxes/ Leverage 2017 2010 Asset Revenue Net 2017 Credit Taxes/ Leverage 2017
ROTCE Growth Margin Efficiency ROTCE Other ROTCE ROTCE Growth Margin Efficiency ROTCE Other ROTCE
[PPOP] [PPOP]
Source: Company data, Goldman Sachs Global Investment Research Source: Company data, Goldman Sachs Global Investment Research
Exhibit 16: Nordics invested early in tech (6.0% of rev. vs 5.4% in Exhibit 17: ...and Nordic usage of cash has fallen by 16pp since
‘17); other jurisdictions ramped up spend over that time period... 2007, while US and Cont. Europe have much higher cash usage...
Nordics US Australia Canada % cash transactions 2017 Change in % cash transactions
35%
Delta in % cash transactions vs.
Cash transactions as % of total
34%
Reported IT expenses as % of
consumer payments (%)
7.9%
6.9% -5%
revenues
2007 (pp)
6.8% -6%
-7% 19%
6.0% -10% 12%
5.7% 9%
5.4% 7%
4.6%
4.4% -16% -16%
Continental Europe US Avg. Australia Nordics Canada
2010 2011 2012 2013 2014 2015 2016 2017
Source: Company data, Goldman Sachs Global Investment Research Source: Euromonitor, Goldman Sachs Global Investment Research
Exhibit 18: ...at the same time, Nordics have been most proactive in Exhibit 19: ...and Nordic countries are the only developed region
rationalizing branches, while US and Cont. Europe lag... that has reduced its ATM footprint
Note: Number of bank branches by country per 100,000 adults, and
based on World Bank data. Australian data is June end.
US Australia
Branches per 100,000 adults (2017) % change since 2006 Nordics Continental Europe
-4% 180
-5% Canada Singapore
-7%
2016 Commercial bank branches (per
40.3
No. of ATMs, rebased to 100 in 2004
170
% change in branches since 2006 (%)
-11%
160
32.7 -17%
-19% -19% -20% 150
27.9
100,000 adults)
27.8
25.1 140
22.9
130
15.9 120
13.5 110
-45%
9.0 100
90
80
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
Cont. EU US Avg. Australia UK Canada Nordics Germany Singap.
(2013)
Source: ECB, RBA, FDIC, Goldman Sachs Global Investment Research Source: Euromonitor, Goldman Sachs Global Investment Research
11Goldman Sachs Americas Banks
Exhibit 20: We see Nordic bank efficiency ratios falling with the Exhibit 21: ...leading to Nordics’ low efficiency ratios and
usage of cash in the banking system... above-average efficiency gains since 2010 vs. other jurisdictions
Efficiency Ratios (%) [LHS] % Cash Transactions [RHS] 2017 Efficiency ratio % Change since 2010 % (rhs)
6%
60% 25% 63%
Change in efficiency ratio since 2010
60%
21% 55% 4%
54%
Nordic Bank Efficiency Ratio (%)
Nordic % Cash Transactions (%)
4%
20% 48%
Efficiency ratio %
2%
55% 43%
2%
-1% 0%
54% 15% -2%
50% -2%
9% -1%
10% -4%
48%
45% -6%
5% -6%
-8%
Continental US Canada Average Nordics Australia
40% 0% Europe
2010 2011 2012 2013 2014 2015 2016 2017
Source: Euromonitor, Company data, Goldman Sachs Global Investment Research Source: Company data, Goldman Sachs Global Investment Research
Exhibit 22: We see a relatively strong relationship between reliance on cashless transactions and lower
efficiency
100% Less cash
2017 non cash transactions % of total
usage,
95%
lower Canada
90% efficiency... Nordics
Australia
transaction value
85%
80%
75%
...more cash
70% usage, higher
US lg. caps
efficiency
65% US regionals
R† = 67%
Cont. Europe
60%
40% 45% 50% 55% 60% 65%
2017 Efficiency ratio
Source: Euromonitor, Company data, Goldman Sachs Global Investment Research
Applying the Nordic roadmap to the United States: How much could US bank efficiency
improve?
Based on efficiency improvements seen at the Nordic banks over the last seven years
we estimate that US banks could hypothetically reach 52% efficiency ratios by 2022
(versus 60% today) if we assume that revenues grow by 3% p. a. over the same time
period.
n Cashless adoption: The shift to cashless payments has had a significant effect on
efficiency ratios in the Nordic region in recent years. Processing cash and checks
constitutes a major part of US bank expenses (e.g., BAC has disclosed that
managing cash & checks across its network costs $5bn a year, or 9% of the 2017
expense base, and JPM has already recognized $365mn in expense savings from
moving to paperless statements [1% of total 2017 expenses]). Using the
relationship between the decline in cash usage (-12pp) in the Nordic region over the
past seven years vs. the implied efficiency (-210bps) benefit suggests that there
could be a 170bps improvement in efficiency ratios if cash payments in the United
States decline by 5pp over the next five years.
12Goldman Sachs Americas Banks
The forecast change in US cash usage is less than what has been seen in the Nordic
region over the last 7 years, which is driven by two factors: 1) The United States
operates a highly fragmented banking system with multiple competing payment
systems (e.g., Paypal, Venmo, Apple Pay, Zelle). Using a Herfindahl Hirschman index
on the top 10 banks, we have seen US bank concentration grow by nearly 100%
since 2007, but the concentration still remains roughly half that in other developed
markets, and the US banking system remains roughly 1/3 as concentrated as those
in the Nordic countries . There is a strong relationship between concentrated
banking systems and use of electronic transfers. 2) The lack of US government
policy incentivizing cashless payments, as was promoted in Singapore, China and
the Nordic region, has likely contributed to slower adoption.
n Branch rationalization: We estimate that branch rationalization and branch footprint
downsizing could drive up to $1.2bn of cost saves over the next five years on
average for the large caps, improving efficiency ratios by around 170bps. US branch
numbers have fallen by 3% over the last two years and we believe that there is
considerable room to rationalize the US branch network further given the high
density of branches per capita vs. other countries (the US has 33 branches per 100k
adults vs. 28 in other developed markets) as well as declining branch usage. Based
on industry estimates, we are assuming that about 20% of US branches will be
closed over the next five years, and banks can also reduce the since of a typical
branch from 4-5k square feet to closer to 1.5-2k.
Exhibit 23: The regression of Nordic bank efficiency vs. efficiency ratios allows us to estimate US
efficiency gains (industry estimates peg US cashless payments down 5pp through 2022)
Note: Dotted line is implied from regression
Source: Euromonitor, Company data, Goldman Sachs Global Investment Research
13Goldman Sachs Americas Banks
Exhibit 24: Since 2010, US banks have managed to reduce expenses by $4bn despite $11bn of pressure from
higher regulatory expenses, with $3.3bn of expense cuts coming from tech-related initiatives
11.0 1.7
disaggregation 2010-2017 ($ bn)
US bank non interest expense
1.6
1.3
5.3
4.9
263.9
260.1
2010 Reg. spend Others/ tech. Branch cuts Lower NII Lower fees Non-core 2017
Source: Company data, Goldman Sachs Global Investment Research
Exhibit 25: While share gains and amortizing ever-higher tech Exhibit 26: ...US bank concentration remains the lowest among
costs have driven US bank industry concentration (using an HHI developed markets, at roughly 1/2 that of other jurisdictions and 1/3
analysis) nearly 100% since 2007... of Nordics
1,000 % Electronic transfers 2017 HHI (top 5 banks, rhs)
US bank concentration (top 5 banks HHI)
900 2531
Herfindahl-Hirschman index -Top 5
Electronic transfers as % of total
800
Banks by Total Assets 2017
2061
consumer payments (%)
700
1780
600 1622
500
903
34%
400 792 903
300 595 24%
22%
200 16%
13%
100
0
Nordics Continental Australia Canada US
2007 2010 2017
Europe
Source: SNL, Company data, Goldman Sachs Global Investment Research Source: Euromonitor, SNL, Company data, Goldman Sachs Global Investment Research
Exhibit 27: US banks on avg. have $240mn in deposits per branch.. Exhibit 28: ...with large cap branches falling 16% since 1Q12
-1%
403
% change in branches 1Q12-1Q18 (%)
Average total deposits per branch- 1Q18
-6%
-8%
293 283
-16% -16%
237
223
(US$ mn)
-22%
113 107
-41%
C BAC JPM Avg. WFC USB PNC USB WFC JPM Avg. PNC BAC C
Source: Company data, Goldman Sachs Global Investment Research Source: Company data, Goldman Sachs Global Investment Research
14Goldman Sachs Americas Banks
What could drive faster tech adoption, and what could it mean?
Processing cash and checks constitutes a significant portion of US bank expenses. Current
estimates only predict a 5ppt decline in cash payments over the next five years, but we believe
digital payment adoption could accelerate if one or more of the following were to occur:
n Accelerated cashless payment technology adoption: We think the existing state of US payment
technology (principally point-of-sale (POS) technology) is one of the main barriers to digital payment
adoption, and think digital payment adoption could accelerate as the industry adopts new technology.
Card penetration is higher in countries with more POS terminals per capita, suggesting acceptance is
one of the main drivers of digital payment adoption). However, we believe the number of POS terminals
will drive only a certain level of digital payment adoption and that standardized POS technology is
crucial to reach higher levels of digital adoption. In both Australia and the United Kingdom, the adoption
of standardized, contactless POS technology has accelerated digital payment adoption – in the United
Kingdom, digital payments took off after the London Underground adopted contactless. Contactless
payments account for 92% of transactions in Australia and 56% of transactions in the United Kingdom.
This contrasts to the United States, where payment technology remains complex and the majority of
merchants have not transitioned to contactless payments. Denmark, Spain, Canada, and Russia are
following Australia and the United Kingdom, and we believe the United States can follow this same
trajectory once contactless POS gain sufficient scale.
Exhibit 29: POS technology is one of the main drivers of digital Exhibit 30: We think contactless adoption in the US could
payment adoption meaningfully accelerate digital payment adoption
POS terminal penetration vs. card penetration Contactless payments as a % of transactions
80% 100%
90% Australia
70%
Contactless payments as a % of
80%
Card PV Penetration of PCE
60%
70% US
50%
transactions
60%
UK
40% 50%
30% 40%
20% 30%
20%
10% US today
10%
0%
0 500 1000 1500 2000 2500 3000 3500 4000 0%
Terminals / 100,000 population Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year Year Year
10 11 12
Source: Company data, Goldman Sachs Global Investment Research Source: Company data, Goldman Sachs Global Investment Research
n Eliminating cash and checks: We estimate cash and checks currently account for approximately 45%
of payments. This is especially true in B2B, where we estimate cash and checks account for nearly 60%
of payments. Cash and check transactions are costly – BAC estimates that it spends $5bn processing
cash and check transactions per year (9% of its annual expense base). Shifting to electronic payments
(cards, online bill pay, push payments) can generate significant cost savings. This has already occurred
in Sweden and Singapore – where checks represent 0% and 2% of payments, respectively – and has
started to occur in the United States where the number of B2B transactions made via check has
declined over the last decade. We expect this decline to continue, and believe other forms of payment
(including push payments will take share from cash and check. We have seen some trends towards
15Goldman Sachs Americas Banks
greater use of online bill pay, with industry data implying that 52% of US bills were paid using
online bill pay in 2017 vs. only 33% in 2010, with 70% of those bills paid through ACH or banks’
websites.
Exhibit 31: The share of B2B transactions made via check has Exhibit 32: ...and we expect this trend to continue over the
declined over the past decade... next few years
% of the organization’s B2B payments made with check US B2B payment breakdown
100% 100%
7% 8% 9%
Check B2B payment penetration
81% 8% 11% 13%
74% 80%
% of B2B payments
80% 22%
67%
32%
60%
60% 45%
50% 51%
40%
40% 63%
50%
20% 34%
20%
0%
2014 2017 2020
0%
2004 2007 2010 2013 2016 Checks ACH Cards Cash/wire
Source: Association of Financial Professionals Source: Credit Research Foundation, NACHA
Exhibit 33: US usage of checks has fallen from 18% to 9% over the last few years, but remains well above check usage in other
jurisdictions, with Sweden at 0%, and Singapore at 2%
Note: E-money and card transactions overlap for Singapore
x Payment instruments by non-banks, by number of transactions x
’11 18% 7% 11% 64%
’12 16% 7% 11% 66%
US
’13 13% 7% 11% 68%
’14 11% 7% 11% 70%
’15 9% 7% 11% 72%
’11 27% 9% 64%
’12 26% 9% 65%
Sweden
’13 25% 9% 67%
’14 25% 8% 67%
x
’15 26% 7% 68%
’11 2% 2% 7% 88%
’12 2% 2% 7% 88%
Singapore
’13 2% 2% 14% 82%
’14 2% 2% 15% 81%
’15 2% 1% 15% 80%
x Checks Credit transfers Direct debits Card payments E-money x
Source: BIS, Goldman Sachs Global Investment Research
n Policy change: Government policy change supporting digital payments could be another avenue for
accelerating digital payment adoption. While this approach has been successful in China, Holland, and
Singapore, we do not think similar policies will be pursued in the United States.
16Goldman Sachs Americas Banks
Scale matters - Tech looks to concentrate the US banking market
“I’ve been in the banking Digitization and the higher resource requirements associated with competing
business... 32 years; and I
with the industry leaders are likely to result in a more consolidated banking
would maintain in the last
two years more has
industry over time and we think banks >$100bn in assets could gain 3-4pp of loan
changed [than] in the 30 and deposit market share. Since 2010, the number of US banks has consolidated by
years beforehand... Banks 14% based on a Herfindahl Hirschman Index (HHI), and the largest banks have been
that really focus on
able to amortize this cost over a larger expense base, with expenses to assets for the
technology, innovation and
the successful interaction
top 5 banks falling roughly 60bps to 2.54% (vs. increasing 3bps for smaller banks). Over
with customers are going the same time period, US banks with >$100bn in assets have gained 4pp in market
to be the winners.” share in loans and 6pp in deposits. Having grown deposits at the same rate in
- Andrew Cecere, 2003-2011, money center banks’ retail deposits have grown by an average of 7.3% since
President, CEO & Director, 2011, nearly twice the rate at regional peers. The consolidation in the capital market
USB business has been even more pronounced, with revenue market share for the top 3
growing by 14pp since the Crisis. We note that this consolidation is comparable to retail
industry market share consolidation, where the top 10 players have seen roughly
700bps of market share gains since the Crisis.
Moreover, the geographies that have seen the most significant increase in
concentration since the Crisis have also seen the greatest amount of efficiency
improvement. We draw two broad conclusions:
“I have not, in all my years 1. Tech spending is only going up: Tech innovation is driving higher costs that large
in these businesses, seen
banks will be able to more comfortably amortize across expense bases, with large
the rate of change as great
as it is now; and the
banks spending 17% of total 2017 exp. on tech, vs. only 15% at regionals (although
impact of the mobile and we recognize business models may differ).
digital transformation is
2. It’s always been a question of scale, but now even more so - market share
really meaningful.”
gains through building vs. buying: Banking has always been a question of scale,
- Gordon Smith, JPM
but we think technology significantly increases the fixed costs for banks, but at the
Co-President & Co-COO
same time should lead to material reductions in the marginal cost of transactions.
US banks have noted that the cost per digital interaction is $0.20 vs. $4.00 for a
traditional interaction. At the same time, customers who predominately utilize digital
channels express much higher levels of customer satisfaction, with the UK banks
seeing 75% higher loyalty from digital customers versus the average. The largest
banking institutions can bring new technology to market more quickly as well as
pass on some of the scale benefits to customers in the form of lower pricing. We
expect this to drive a virtuous cycle, where large banks can utilize a broader set of
client data to both better understand consumer preference and assess credit risk,
which should in turn drive market share over time.
17Goldman Sachs Americas Banks
Exhibit 34: Account openings have increased 5pp for money center Exhibit 35: ...and money center banks have seen roughly 300-350bps
banks YoY, while falling 5pp/6pp for superregionals/regionals... higher organic retail deposit growth p.a. than smaller peers since
‘11, vs. roughly in line from ‘03-’11...
2016 2017 03-11 CAGR 11-17 CAGR
46% 7.3%
41%
% of new customer acquisition
Organic retail deposit growth
32% 5.2%
4.8%
26% 26% 4.1% 4.2%
3.8%
3.6%
21% 3.2%
7%
2%
Money centers Super regional Regional/Community Direct Money centers Super regional Regional Community
Source: FDIC, SNL, Novantas Analysis Source: FDIC, SNL, Novantas Analysis
1. Tech spending demands are only going up
“1B digital interactions this Large banks spend more on tech over a bigger expense base: The largest banking
quarter... more and more
institutions are now spending 17% of total expenses on tech vs. 15% for regionals, with
capabilities there and
becoming more and more
this gap widening over time. While comparisons between firms on tech spending can be
embedded in everything misleading (due to differences in the scope of operations, legacy systems and
that consumer does... definitions of what constitutes “tech”), the larger banking institutions do seem to be
[We’re] gaining share
increasing their tech spending more rapidly than smaller institutions. The trend has been
against people [that] don’t
have all those capabilities.”
evident for the last three years - the largest US banking institutions have increased tech
spending by 6% p.a. (versus total expenses staying flat over the same time period), with
- Brian Moynihan, BAC
tech spending as % of total increasing 2pp to 17%.
Chairman & CEO
Exhibit 36: Banks in jurisdictions that have seen more Exhibit 37: Banks spend 7pp more on tech as a % of total vs. other
concentration have seen the largest improvement in efficiency industries, and also outsource roughly 20pp less of their IT cost
ratios over the past few years
90
25% Industrial
Goods R† = 72%
Change in efficiency ratio: 2006-13
80
% Outsourced software penetration
20%
Energy
70
15%
60
10%
50
5% Consumer
Average
40
0%
Healthcare
30
-5% Public Sector Insurance
20
Banking
-10%
R† = 25% 10 Telecoms
-15%
-60% -40% -20% 0% 20% 40% 0
Change in Top 5 banks Concentration: 2006-13 2 4 6 8 10 12 14 16
IT as a % of total costs
Source: IMF, Company data, Goldman Sachs Global Investment Research Source: BCG, Gartner, Forrester, Company data, Goldman Sachs Global Investment Research
2. It’s always been a question of scale, but now even more so - market
share gains through building vs. buying
Large banks’ tech builds are more expensive but also should lead to market share
gains through faster time to market, and better pricing. We recognize that building
18Goldman Sachs Americas Banks
new technology is generally more expensive than buying technology from a third party
provider, such as Fiserv or Temenos (which is potentially why large-cap tech budgets
represent 17% of total expenses vs. 15% at regionals). However, we think large banks
building new tech will increasingly become a better investment vs. small banks buying
it:
“To compete with... 1. Building is a speed advantage that likely drives market share: Large banks that
Venmo, [Zelle is] real-time
build tech have an advantage over those who buy, because they can roll out
and safer, and they don’t
necessarily have real-time
technology to consumers faster than those who need to wait for third-party
on most of their development. Banks are not normally tech innovators but rather second movers,
payments.” who typically role out technologies when there is evidence of mounting customer
- Jamie Dimon, JPM demand. For example, Venmo came to market offering a consumer friendly P2P
Chairman & CEO payment experience. When customers started adopting the technology, the banks
responded with Zelle, which offers both P2P payments but also settles instantly (vs.
multiple days for Venmo). We believe that timely digital offerings which enhance the
customer experience are one of the few ways that a bank can distinguish its product
offering and build customer loyalty. For example, JPM noted during its 2018 Investor
Day that digitally engaged clients have 10% higher retention rates than non digitally
engaged clients.
“If you’re a great client, we 2. It’s a question of scale... Building tech allows banks to integrate their systems
can do it for free, all right?
across products and creates a virtuous cycle driving market share gains:
We...[give] a lot of things
away for free as part of a
Banking has always been a question of scale, but we believe that tech innovation is
package. We look at the heightening these scale advantages. Institutions that build products that interface
price of the whole across all systems in the bank should find that these products give the institutions a
package, not necessarily
more holistic view of the client, improve risk-based pricing, and identify potential
the product, but we’re
getting much better by the
product gaps. The ability to have interfacing systems will likely create a virtuous
way having... product cycle: Better understanding of the customer’s risk and product preferences leads to
managers everywhere.” improved pricing that attracts and retains clients Greater systems integration could
- Jamie Dimon, JPM drive some of the same improved underwriting over the cycle.
Chairman & CEO
How much could large-cap market share increase?
We expect that gap in technology spending between the largest banks and their
peers could drive 3pp-4pp in loan/deposit market share gains for banks >$100bn in
assets through 2022. Since 2010, the US banking industry has consolidated by 14%
based on the HHI concentration index. The number of banks has shrunk by 2% p.a. and
large banks have gained >2pp of market share across all loan categories, total assets,
deposits, and capital markets businesses. We do note that the process of migrating
deposits towards large banks is a gradual one, given that historically only 6-7% of
deposits migrate in any given year.
19Goldman Sachs Americas Banks
Exhibit 38: Banks over >$100bn in assets have gained 4pp/3pp/6pp in market share in assets/loans/deposits from smaller institutions since
the Crisis, and we expect further gains over the next five years...
US Bank Market Share by Bank Size
Assets Loans Deposits
% vs vs 2022 vs vs 2022 vs vs 2022
2005 2010 2017 2005 2010 2017 2005 2010 2017
2005 2010 Impl. 2005 2010 Impl. 2005 2010 Impl.
Over $100bn 45% 64% 68% 23% 5% 72% 40% 58% 61% 21% 3% 64% 43% 62% 67% 24% 6% 71%
Under $100bn 55% 36% 32% -23% -5% 28% 60% 42% 39% -21% -3% 36% 57% 38% 33% -24% -6% 29%
$50bn - $100bn 14% 8% 5% -9% -3% 4% 15% 8% 6% -9% -2% 5% 13% 7% 5% -8% -2% 4%
$10bn - $50bn 15% 8% 10% -4% 2% 10% 15% 10% 12% -3% 2% 13% 14% 8% 10% -4% 2% 11%
Below $10bn 26% 20% 17% -10% -4% 14% 29% 24% 21% -9% -3% 18% 30% 23% 18% -12% -6% 15%
Total 100% 100% 100% 0% 0% 100% 100% 100% 100% 0% 0% 100% 100% 100% 100% 0% 0% 100%
Source: SNL Financial, Company data, Goldman Sachs Global Investment Research
Exhibit 39: ...with numbers of FDIC-chartered banks falling 2% p.a. Exhibit 40: Large banks can amortize a greater level of marketing
since 1984, we believe a further 1k banks could disappear over the spend, increasing as a % of total industry marketing expense from
next five years 75% to 80%
16.0
14.8
Total FDIC-insured banks (ex. mergers)
14.0
Money center marketing exp. % of
12.0
80%
10.0
8.3
total (%)
8.0 7.1
6.1
6.0 75%
4.0
2.0
0.0
2018E
2020E
2022E
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
Pre-Crisis Post-Crisis
Source: FDIC, Company data, Goldman Sachs Global Investment Research Source: SNL, Company data, Goldman Sachs Global Investment Research
20Goldman Sachs Americas Banks
Large tech company (i.e., Amazon) and venture capital ambitions in the
banking space
The combination of increased digitization and de-regulation has resulted in
greater speculation around the ultimate ambitions of leading technology
companies and FinTech in the banking space.
So far, Amazon’s initiatives in financial services have spanned co-branded credit
cards, merchant financing, and payment services like Amazon Pay and Amazon
Cash. Given the significant profit pool and the increased customer willingness to
buy purely digital bank products (a recent Bain survey suggests that more than
half of the US population would be comfortable buying financial products from
tech companies), there is clearly an opportunity for disruptive innovation,
especially in retail banking. As an example, FinTech venture capital investing over
the last three years has grown at a 33% CAGR). There has been significant growth in
FinTech venture capital investment over the past three years (see section on FinTech
investment below). 1Q18 spending reached $6bn, with investments spanning the full
spectrum of banking offerings, including blockchain, artificial intelligence, online lending,
payments, asset management and capital markets. That being said, we have noted
greater recent investment in international FinTech investment, while US investment has
stagnated over the last three years, as Fintech companies have faced difficulties in
growing stable and affordable funding sources especially for lending focused models,
and US banks have significantly stepped up their tech spending partly in response to the
fintech innovations
Exhibit 41: A recent Bain study suggests that roughly 50% of Americans appear to be comfortable buying financial products from tech
companies
73%
products from tech. companies, by age
52%
offered from their favorite tech. company
Americans willing to buy financial
consider buying these products, if
61%
% of US respondents who would
42% 32%
30%
21%
18-34 35-54 55 or older Credit card Bank account Investment Mortgage/ home
loan
Source: Bain analysis, Bain Research New Customer Loyalty in Retail Banking Survey 2017, Copyright 2018, Bain & Company. Reprinted with permission
The financial services venture landscape
Between blockchain, artificial intelligence, online lending, and innovation in
payments, asset management and capital markets, venture capital has found
plenty of attractive targets in financial services. Private investment in financial
technology companies has increased globally from $2.56bn in 1Q15 to $5.98bn in
21Goldman Sachs Americas Banks
1Q18, a 33% 3-year CAGR . Growth in funding has been primarily driven by
international companies (about a 60% 3-year CAGR) as private investment in domestic
companies has slowed to a 3-year CAGR of 13.5%. Further, the number of US funding
rounds has stagnated while international funding rounds have nearly doubled in the
same 3-year time span.
Capital inflows into two sub-sectors, Asset & Financial Management and Trading
(which includes wealth management and automated advising) and Accounting &
Finance (personal finance and lending), have already reached levels close to full-year
2017 in the first 130 days of 2018. Leading deals in Asset & Financial Management and
Trading include eToro, Wealthfront, Folio, and Wealthsimple, which account for 26%
of sub-sector investment year-to-date. Within Accounting & Finance, companies in this
group such as WeCash have attracted 40% of sub-sector investment.
Exhibit 42: VC investments into fintech Exhibit 43: Fintech investments by select categories
$ billions $ billions
$7 400
$20
US VC Investment
350 $18 Asset & Financial Management & Trading
$6
Global ex-US VC Investment
$16 Billing, Expense Management and
300
$5 # of US deals Procurement
$14
# of Global deals 250 eCommerce enablement
$4 $12
200 $10 Accounting & Finance
$3
150 $8
Payments
$2 $6
100 Other
$4
$1 50 $2
$0 0 $0
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
YTD
Source: CB Insights, compiled by Goldman Sachs Global Investment Research Source: CB Insights, compiled by Goldman Sachs Global Investment Research
Exhibit 44: VC investments by industry Exhibit 45: VC investments by industry
$ billions
100% 60 3.5k
90% 3.0k
50
80%
2.5k
70% 40
60% 2.0k
50% 30
1.5k
40%
20
30% 1.0k
20%
10 0.5k
10%
0% 0 0.0k
1Q12 3Q12 1Q13 3Q13 1Q14 3Q14 1Q15 3Q15 1Q16 3Q16 1Q17 3Q17 1Q18
Technology Healthcare Fins/FinTech Consumer
Technology Healthcare Fins/FinTech Consumer Industrials Energy Industrials Energy # of deals (RHS)
Source: CB Insights, compiled by Goldman Sachs Global Investment Research Source: CB Insights, compiled by Goldman Sachs Global Investment Research
Performance over the TTM ended 1Q18 was strong across verticals, with the exception
of Real Estate initiatives. Billing, Expense Management, and Procurement Fintech
funding showed particularly strong growth, up nearly 400% yoy. Funding is growing
much more rapidly than deal counts as earlier stage financings slow, potentially a sign of
later stage investing in proven business models at the expense of start ups. Large
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