Q2 2021 Results
#CBIPwC
As confidence, profitability and investment in new technology continue to rise, financial services (FS) organisations have the opportunity to take transformation to the next level. The organisations leading the way are embedding change into business as usual, from creating a compelling digitally-enabled customer journey to building ESG into the strategy and mindset of the business.
“The latest survey shows the UK financial services industry is in the strongest position it’s been in for many years. But with costs, customer expectations and regulatory demands all rising fast, organisations are under pressure to deliver more for less. The big differentiators will be how quickly they can embed change and harness the full benefits of transformation.”
The upsurge in optimism, revenues and returns in financial services continues. But the pace of the rebound and surrounding transformation is intensifying the pressures in costs, skills and talent.
Volumes rose at the fastest pace since Q4 2014 and profitability at the most rapid rate since Q1 2019. Concerns over defaults also appear to have eased, with most banks expecting non-performing loan rates to either stay the same (58%) or fall (13%) over the next three months. This will boost banks’ ability to invest in economic recovery and longer term priorities such as ‘Build Back Better’ and Net Zero transition.
With much of the increase in business volumes coming from mortgage demand, it remains to be seen whether this can be sustained following the end of the stamp duty holiday. A further question mark includes the impact of rising inflation over the coming year. This underlines the need to keep pace with shifting customer expectations whilst tackling operating costs.
“Banks are facing high levels of change, from accelerating digitisation and the move to hybrid ways of working to the growing focus on ESG. A piecemeal or incremental response is not enough. Meeting these demands while containing costs and delivering sustainable returns requires front to back change in strategy, skills and operating models.”
The sharp rises in volumes and returns seen in previous quarters are beginning to flatten, albeit from a high base.
The survey findings highlight both heightened concerns over the impact of new regulation and uncertainty over customer demand. Incoming renewals pricing changes could make it harder to subsidise new business offers. Insurers also face rises in claims costs as people get out and about more post-lockdown.
These developments will reinforce the advantages for insurers with lean and agile operating models, enabling them to compete on price and respond quickly to changing demand.
*Results in the above graphic relate to General Insurance
“From renewals pricing changes and expectations on ESG to new ways of working and reporting results, insurers have their work cut out. And change is going to keep coming, underlining the vital importance of being agile and the mindset and operational capabilities that underpin this. Insurers that get this right can not only attract new business and boost returns but also strengthen public trust and make themselves a magnet for talent.”
While still strong, volumes and returns aren’t rising as fast as in previous quarters. Headcounts are also expected to increase over the next three months, though not quite as rapidly as in Q2.
Headwinds highlighted in the latest survey include the acceleration in salary inflation, which is adding to the burden of increased regulatory costs. Greater transparency over fees and value for money will make it harder to pass these increases on to investors.
This underlines the need to boost operating efficiency and rein in costs. A key area of focus is the relative returns from individual funds. In the past, overall aggregate profitability masked any weaknesses in individual fund returns. But with margins squeezed, it’s important to know which funds are delivering and which aren’t.
Our analysis shows that less than 20% of funds are typically profitable on a fully costed basis (direct and indirect cost allocation). Lack of data and systems has meant that most investment managers don’t have fund-specific information on the real costs and returns, their drivers and how these can be optimised. Advances in data analytics now make this kind of evaluation of fund levels possible. The results can help investment managers to refresh, rationalise and target investment more effectively within their product set.
“Investment managers are under pressure to live up to their promises on ESG. Compliance with regulatory and rating agency standards can’t meet these demands on their own, especially as the criteria can be inconsistent or even misleading. Real credibility demands a fundamental transformation that puts ESG at the centre of purpose, strategy and how the business is run.”
The proportion of FS organisations that have moved from cloud transition to full implementation has increased significantly over the past year.
With cloud transition now advanced, FS organisations can move on to the next and, in many ways, most critical phase of digital transformation. Customer journeys are at the centre of this next big leap. Key priorities include a clear understanding of individual customer needs and being able to respond with the same ease, speed and intuition customers have become accustomed to in other aspects of their commercial lives.
Slow and cumbersome customer journeys are becoming a thing of the past. For example, it’s now possible to set up accounts or approve mortgages in minutes. Seamless omnichannel delivery also means that when a customer moves from one channel to another they can simply pick up where they left off, rather than starting again from scratch and repeating all the previous interactions.
How far have banks come? Progress is being made, with the gap closing between long established institutions and digital-first neo-banks. But the fact that none of the banks in our survey report they are at the ‘realising the benefits of cloud implementation’ stage, suggests that there is still some way to go before they can move on to the customer-focused digital transformation 2.0.
Similarly, it’s telling that managing financial risk is ahead of customer understanding as the area where they believe they can derive the most value from analytics and artificial intelligence (AI). With customers pushing for increased personalisation incumbents need to ensure they are harnessing all the benefits of the cloud and technology.
The game-changing potential of digital transformation 2.0 includes real-time risk monitoring, pay-as-you-use cover and dynamic pricing.
The ambition is clear. Insurers are the most likely of all the sectors in our survey to see customer understanding as the area where they can derive the most value from analytics and AI. Yet legacy and implementation issues at the foundation stages of transformation remain, with most insurers still at the transition stage of cloud adoption.
The next stage of transformation is an opportunity to develop a much richer understanding of investor preferences, while creating a more informed and interactive experience. This is also a chance to drive real insight into costs, returns and value for money.
Yet, few investment managers (20%) have completed implementation of the cloud across the business. Customer understanding is the area where they believe that they can gain most value from analytics and AI, though only around 40% do so.
Put the customer at the centre of strategies for transformation. The key starting point is a shift in focus from developing and marketing products to delivering customer outcomes. Technology, talent and platform strategies can build from there.
70% of FS organisations plan to invest more in cyber security over the next 12 months. This is a significant increase since 2020 (48%).
The top priority is improving the ability to detect and respond to a cyber breach (76%). This is followed by putting a greater focus on how to respond to new/emerging cyber threats (67%) and improving the way they report on and mitigate cyber security risk (66%).
The move to hybrid ways of working plus the rapid acceleration of digital transformation is making FS organisations take another look at their IT infrastructure and increase investment in cyber security.
As threat levels and the sophistication of perpetrators continue to increase as they probe for gaps and weaknesses, cyber security is no longer considered as a niche bolt-on but a business essential that needs to be embedded within an organisation’s operating model and IT architecture.
Particular concerns centre on the levels of security within third-party partners and suppliers. Your business is only as safe as its weakest link, which is often outside the perimeters of your organisation. With FinTech partnerships and ecosystem delivery increasing in importance, this should be a key area of focus.
Change is coming faster than ever. And it’s coming on multiple fronts - from the move to hybrid working and ever more digitally-enabled operations to the shift in customer expectations and growing focus on ESG. Plus, the disruptive impact of regulation is still ever-present.
The latest survey highlights the challenges many FS organisations face when dealing with change. More investment and resources can’t resolve this on their own. Mindset, culture and underlying purpose are just as important so change can be embedded and become business as usual.
Banks need to take their workforce with them on their digital transformation journey - not only to ensure they are maximising return on investment, but to spot potential skills gaps and ensure the technology is having the required impact.
The skills needed to make the most of new technology are clearly important, though upskilling appears lower down banks’ list of strategic priorities (58% citing this) than advances in technology (94% citing this). Employees may also be wary of technology for fear that it will disrupt their ways of working or take their job altogether. Clear communication and workforce buy-in are therefore critical in accelerating and embedding change.
Insurers face the twin challenges of uncertainty over demand in the short-term and longer term shifts in business models. For example, reduced car usage during lockdown has highlighted value for money questions over annual motor cover and could increase demand for pay-as-you-drive insurance. Even bigger changes lie ahead once driverless vehicles start to become common.
Being able to track and anticipate demand and move in quickly to respond underlines the importance of agility when it comes to embedding change.
ESG highlights the challenges facing investment managers in embedding change. Participants cite insufficient resources as a key stumbling block. Both this and other research we’ve carried out also underline the challenges of ever-increasing regulation and issues around data, along with the lack of consistency in the criteria used by both regulators and rating agencies to judge ESG performance.
Clearly, there is a risk of undermining credibility through a poor ESG rating. But the metrics can be arbitrary and fail to recognise progress against objectives. A more effective approach would be to look beyond tactical compliance to embrace real transformation in purpose and strategy, with ESG at its heart.
More than half of FS organisations believe that public perception of the FS industry has improved through the COVID-19 pandemic (12% significantly and 44% moderately).
Banks are the most likely to report an improvement in perception (23% significantly and 48% moderately). Insurers and investment managers are less likely to report a positive shift, with none seeing a significant improvement.
The FS industry has played an important role in helping the country through the COVID-19 pandemic, from safeguarding jobs and pensions to sustaining credit, investment and risk protection. This has provided an opportunity to rebuild some of the trust eroded following the 2008 financial crisis.
FS organisations need public trust to sustain their social licence to operate. Positive perceptions not only foster public goodwill and customer loyalty, but also help to attract talent, including people who might not have considered a career in financial services before.
Rather than seeing improved perceptions as an end in themselves, for FS organisations they can be a springboard for asserting a wider purpose, connecting with society and helping to deliver its priorities. Climate change is a clear case in point, from helping to finance the move to Net Zero to harnessing insurers’ data and expertise on catastrophe risk and resilience.
Regulatory reporting on ESG or diversity and inclusion may not be enough on its own. Full transparency calls for a clear explanation of your strategy, its implications and its outcomes, especially where this may not be clear-cut. For example, financial support for companies associated with fossil fuels may attract bad publicity or an unfavourable ESG rating. But this funding could also play a vital role in enabling such companies to shift to sustainable energy generation.
Leader of Industry for Financial Services, PwC United Kingdom
Tel: +44 (0)7711 773030
