What are ‘challenger banks’?
The term ‘challenger banks’ is a blanket term for the bulk of new banks that have emerged in an attempt to challenge the dominance of Britain’s retail banking giants (namely HSBC, Royal Bank of Scotland, Barclays and Lloyds).
Who are the challenger banks?
Ownership: 100 percent Virgin Group.
Branches: 80 stores and lounges.
Customers: 4 million (as last reported in 2012).
Strategy: superior customer service.
Ownership: 61.5 percent Lloyds Banking Group; 38.5 percent listed on LSE.
Branches: 630. Customers: 5 million.
Strategy: to expand its market share in current accounts and mortgages by promising a return to traditional local lending.
Ownership: 90 percent JC Flowers and Kent Reliance; ten percent flotation.
Branches: Kent Reliance, InterBay Commercial, Prestige Finance, Jersey Home Loans, Guernsey Home Loans, Reliance Property Loans, Easiprocess, Heritable Development Finance.
Customers: 142,000 savings customers.
Strategy: focus on specialist areas of the mortgage and buy-to-let markets.
Ownership: private investors.
Strategy: focus on physical branches (corner shops), to grow to 200 branches over time.
Is there a case for challenger banks?
Challenger banks assert that they are advantageous in that they begin with cleaner reputations. They are not held back by past misconduct bills, such as the billions of pounds big banks are reserving for the mis-sale payment protection. Many challenger banks have sought the buoyant equity market to raise cash for expansion.
Following an analysis which concluded that market conditions have stabilised, the management of Virgin Money has given the go ahead for their IPO, with the aim of being admitted onto the LSE by the end of November. The Chief Executive explains that the decision is motivated by the Bank of England Financial Policy Committee’s clarification on leverage ratio (a measure of how much capital banks are required to have in relation to their total assets). Last week, the Bank of England announced that it wants UK banks to hold capital equivalent to 4.05 percent of their assets in 2019, up from the current 3 percent. In response, Virgin Money stated that it was ‘pleased to note that we operate in excess of the recommended requirements’, with a leverage ratio of 3.8 as of 30 June 2014.
Leverage ratio and funding issues have proven to be a common persuasive argument for challenger banks. TSB, which separated from Lloyds Banking Group and floated earlier this June, has a lot of capital, alongside funding to support a bigger bank. TSB’s Chief Executive, Paul Pester insists that branches play a significant role in attracting new customers, and said that TSB aims to bring competition to the UK with its wide network of 631 branches, and is pushing to expand even further with a planned additional 30 branches in the southeast over the next three years.
Bank branches in themselves have also proven to be a championing point among banks such as Metro, who pride themselves for their customer service and glitzy branches. Metro Bank is attempting to compete on convenience, which branches open up to 12 hours a day, 7 days a week. Additionally, they also provide cheap overdraft rates and do not charge customers to use debit cards in Europe.
For all the qualities of branches and capital ratios, many investors have reservations about challenger banks, the main being their ability to turn a profit. Except for OneSavings, many of the banks are struggling to prove to investors that they can remain viable. OneSavings has been able to generate profits by snapping up the risk-heavy lending that competitors have avoided.
Unavoidably, challenger banks face certain disadvantages. Analysts cautioned that a mere increase in the number of providers in the market is not sufficient to fuel competition. Furthermore, results show that only between three and four percent of customers are switching current accounts, despite the improved convenience provided by new banks. Financial researcher, Andrew Hagger commented that although challenger banks offer consumers more choices, it will be many years before new banks dominate the market.
While these challenger banks seek to change the status quo within the UK banking market, it would not be right to think of them as a homogenous group of lenders. Each bank faces varying circumstances and hurdles in establishing their market share. Deal makers hoping to cash in on the flurry of rights issuances and IPOs – thought to come with the introduction of challenger banks – will have to address these issues before presenting the company to the public. Already the tapering equities market has led many lenders to reconsider their urgency in floating the company. Banks like Aldermore have already postponed their IPO dates until after the May 2015 election in order to gauge future lending environments. Until then, deal makers wait in eager anticipation.