The CARD Act has inexorably changed the rules of the game in the credit card industry.
The old rules greatly favored the big-market players—large and monoline issuers—enabling them to utterly dominate the industry. Small-market players—community and regional banks—were left to compete at the fringes, or to simply bend to reality and become agents of the big issuers, offering their customers branded cards but accruing almost none of the benefits.
The CARD Act levels the playing field for the first time in decades, allowing community and regional banks the opportunity to compete once again in the card business and regain the home-team advantage with their customers, deepening relationships and diversifying their balance sheets.
OLD RULES OF THE GAME:
Compete mainly on perceived price via direct mail: With credit cards being a commodity, the big issuers competed mainly on price, stealing customers away with introductory offers. The monoline issuers built up a barbell APR distribution of credit card balances—attracting new customers with 0% APR and then re-pricing a substantial portion of balances to default APR, usually more than 24%. Direct mail was the primary channel for credit card growth. Even though the net response rates fell below 0.5% and new account acquisition costs rose to over $125 per account, the back-end pricing practices allowed the high font-end costs to be absorbed.
Deploy complex and fuzzy practices: Given that monoline issuers didn’t have a deep relationship with their customers, there wasn’t a significant downside to their franchise to be less than transparent with customers. Double-cycle billing, short grace periods, and little advance notice on price changes were among the favored practices, along with hair triggers on aggressive fees that allowed the issuers to rake in short-term profits.
Keep digging deeper on underwriting standards: The key was to continue to expand the risk-eligible universe as the better-risk population became saturated with offers. The motto was “we can risk-price any customer and make them profitable.” The larger issuers booked increasingly higher-risk customers, relying on their ability to increase the APR immediately when an account showed any sign of weakness. In truth, much of the revenue was accrued on the books but not realized, as it washed out when accounts were charged off.
NEW RULES OF THE GAME:
Sell to relationship customers: Relationship customers have a higher lifetime value than non-relationship customers due to lower acquisition costs, lower losses and lower attrition rates. There is significantly more core franchise value in deepening relationships with existing deposit-account customers than sourcing customers far away from your footprint through direct mail. The value proposition still needs to be competitive, but it does not need to be the lowest price to get the best customers. Community and regional banks can leverage their branches to market to their existing customers. The lower cost to acquire a credit card customer through the branch channel is a significant competitive advantage over direct mail.
Deploy transparent practices: The lynchpin for community banks traditionally has been their franchise of relationship customers. Successful community banks have a culture of deploying transparent practices that yield trust and loyalty. Now that the playing field has been leveled, new players can exploit this traditional “consumer friendly” advantage. Their customer service representatives can again service credit card customers in their branches free of the need to explain the unfriendly and often deceptive practices of a third-party issuer. Instead, they can focus on cross-selling and expanding existing relationships with their credit card customers.
Leverage low-cost deposits for funding and diversify balance sheets: Community and regional banks now can diversify their balance sheets and book high-earning prime credit card assets. As real estate loans continue to be a challenge, community and regional institutions are looking to add performing consumer and small-business loans. Credit cards can be a great source of such loans. Deposit-based funding amplifies the opportunity for an attractive spread.
If done right, regional and community banks that get back in the credit card business will be among the winning teams in the new game. Over time, credit card loans can make up 5% to 10% of the total assets on the books of these financial institutions, providing an attractive earning asset that adds value in their customers’ wallets.
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