The consolidation craze that has swept the US cards industry
since 1997 may have abated for the time being, but there is no
doubt that it has irreversibly changed the industry. Major names
such as Providian, Metris and MBNA have been subsumed by larger,
more diversified retail banking entities, and the few remaining
monolines, such as Capital One, have rejected the monoline business
model in favour of diversifying and expanding their business lines
to ensure sustainable long-term profitability. The table opposite
details how monolines have gradually disappeared from view to be
replaced by fully featured retail banking institutions.
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How diversification became the norm
As was detailed in CI 375, monoline organisations became prime
targets for consolidation as they lacked a diversified banking
model. In the US’s saturated credit card market, the ability to
cross-sell other retail banking products would prove to be the most
obvious way of maintaining steady and profitable revenue
streams.
Intense competition and tighter margins had combined to place huge
pressure on credit card providers. The proliferation of 0 percent
interest offers and other consumer enticements initially boosted
profits and customer acquisition rates, but also had the effect of
eroding consumer loyalty, as cardholders switched providers on a
regular basis to chase the best rates. Instead of adding cards to
their wallets, consumers were simply replacing them.
US consumers were quickly becoming jaded with credit cards – levels
of repayments were increasing rapidly, debts were being paid off
more quickly and debit cards were beginning to surge in popularity.
The result was that credit card portfolios were losing
profitability. Consumers were turning towards lower-cost forms of
credit such as mortgage equity withdrawal and auto finance deals,
both of which experienced significant uptake in the last three
years, due to historically low interest rates and greater
competition in the market. Ironically, it appears that those banks
that were pushing home equity products to consumers may have
inadvertently dented their own credit card profits.
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By GlobalDataBetween 2001 and 2005, the Federal Deposit Insurance Corporation
reported that outstanding balances of home equity loans grew from
$174 billion to $538 billion, while outstanding credit card loan
balances in the same period only grew from $235 billion to $368
billion. Conversely, credit card portfolio profitability fell from
a portfolio-wide yield on equity of 2.52 percent in 2002 to 1.86
percent in 2005, according to the Federal Financial Institution
Examination Council. It soon became apparent to the monolines that
credit cards as a stand-alone business could not remain
economically viable, and there was little room to grow the business
any further.
Capital One branches out
Capital One was one of the last remaining monolines to realise that
it needed to diversify in order to stay profitable. It already had
a successful auto lending business, and in 2005 it acquired US
regional bank Hibernia for $5 billion. The Hibernia acquisition
gave Capital One access to more than 300 bank branches, mainly in
the southern US, and a lucrative home equity business. In the first
quarter of 2006, Capital One posted a staggering 74 percent
increase in earnings.
Capital One followed this move in early 2006 with its acquisition
of another regional bank, North Fork, for $14.6 billion. The deal
placed Capital One among the top ten banks in the US, and the
combined company became the third-largest retail depository
institution in New York, the US’s largest deposit market. The
combined company was estimated to have deposits of more than $84
billion, a managed loan portfolio of more than $143 billion, more
than 50 million customer accounts and 655 branches. The acquisition
further expanded Capital One’s product set by introducing North
Fork’s lucrative small business franchise.
Other deals were announced, the bulk of which were established
retail banks buying more specialised banks in the mortgage or small
business sector. However, this didn’t stop 2006 from being a rocky
year for banks in terms of overall economic fundamentals and many
industry observers are predicting that 2007 could be just as rough.
Some investment analysts expect bank earnings to weaken over the
year, mainly due to the sudden collapse of confidence in the US
housing market, rising interest rates and rising levels of consumer
debt. The US Federal Reserve continued raising interest rates
through the first half of 2006 in a bid to stem inflation, but held
rates during the summer as concerns about an economic slowdown
emerged.
Overseas expansion
In this uncertain atmosphere, it seems likely that there will be a
temporary halt to the mega-billion takeovers of the previous years.
Even though the monolines are now gone, the question of how to
ensure profitability appears to be forcing the large diversified US
retail banks and card issuers to turn their focus to overseas
markets, as has happened at
Citi. Suffering from declining card profitability in the US
market, the financial services giant recently acquired UK card
issuer
Egg from parent company Prudential for $1.12 billion. Citigroup
said it intends to retain the Egg brand and the unit will be
combined with its UK consumer operations.
The purchase includes online products and services including
payment and account aggregation services, credit cards, personal
loans, savings accounts, mortgages, insurance and investments.
Citigroup said the acquisition will more than quadruple its UK
credit card base by adding Egg’s approximately 2.9 million credit
card customers to Citigroup’s 800,000 cardholders.
It has also made inroads into the increasingly lucrative consumer
credit market of South America. In November 2006, Citi reached a
definitive agreement to acquire Grupo Financiero Uno (GFU), the
largest credit card issuer in Central America, and its affiliates.
GFU is privately held and in September 2006 had more than 1 million
retail clients representing 1.1 million credit card accounts, $1.2
billion in credit card receivables and $1.3 billion in deposits in
Guatemala, El Salvador, Honduras, Nicaragua, Costa Rica and
Panama.
