Speech - Finance Director Michael Ullmer to the Australian Institute of Banking and Finance - 9 September
Edited text of an address to the Australian Institute of Banking and Finance by Michael Ullmer, Finance Director, National Australia Bank.
The Challenge Facing Financial Services
9 September, 2005
Melbourne
It’s interesting at this time to reflect on the challenges facing not only the financial services industry but National Australia Bank as well. As it happens, the National Australia Bank Board meeting last Thursday and Friday was a year to the day when Ahmed Fahour and I joined the National. It seems like it was only yesterday.
The year has flown by. There’s obviously been an enormous amount on, but I think within the National we do see that we’re beginning to get our arms around the issues. We went on the journey, as John Stewart has referred to it, of rebuilding. That’s not to say it’s been easy, it’s not to say there’s not a lot more to do. But I think we have a clearer view of where we’re heading.
What I wanted to talk about today was how I see the role of Finance Director evolving in the modern day world in larger corporations. And then to talk to some of the challenges that we’re facing at the National, some of the challenges I see for the industry, and close out on some thoughts I have around innovation in the financial services sector.
So firstly, what I thought I’d do is give you a quick outline of the territory I cover at the National. As the Executive Director responsible for Finance and Risk, I’m one of the three executive directors that provide the link between the Board and the business. I think that in itself is a bit of an emerging trend. If you looked overseas, in the US or in the UK or Europe, it is very common for a number of the senior executives to be sitting on the Board, whereas in Australia it is not as common.
In our company, you’ve got Ahmed Fahour who is running what is by far the largest business unit sitting on the Board; you’ve got me from a finance and risk perspective on the Board and obviously, John Stewart as the Group Managing Director. I think for the non-executives Directors that provides a very useful sort of conduit where they get a very clear perspective around what’s happening in the organisation. The non-executives, I imagine, would have some comfort that there are a number of executives sitting alongside them who have exactly the same obligations and exposures that they do as directors.
Over the last year, in terms of what’s happened in the finance and risk space, we’ve moved to a fundamentally different model to the one that was there a year ago. When I started back in September last year, on day one finance was heavily centralised, driven out of Melbourne … or 500 Bourke Street, effectively. Risk, similarly, was heavily centralised and the integration between finance and risk was not as strong as I like to see it.
Across the Group there were just fewer than three thousand people in finance and risk who effectively came under my area of responsibility. And that is a pretty amazing thing for a lot of people because large-scale financial services companies do have a big resource in that area.
What we’ve done over the last year is move to a decentralised model. One of the critical drivers of that is that’s the model we’ve moved to from a business perspective, so we’ve created these very strong regional functions where this is all around being relevant to your customers.
Our customers live in geographies and therefore, we should be organised around geographies. And so we have Ahmed as the Chief Executive of Australia; Peter Thodey, in New Zealand; we have Lynne Peacock in the UK; and we have John Hooper as the chief executive of our Institutional Markets & Services business.
In a critical area like finance and risk, you need to respond to that, and so we’ve moved to a regional-based model. That’s involved over 2200 of the finance and risk folk moving out of the central organisation to work in those regional structures. Those people are now part of whatever region they happen to be supporting. They’re on the payroll of that region.
Each of the regions has a regional Chief Financial Officer and also each region has a Chief Risk Officer. And the linkage that we then have through to the centre is through those regional CFOs having a linkage up to my deputy on the finance side in the centre – Gordon Lefevre – and on the risk side the regional Chief Risk Officers have a linkage up to Mike Hamar, who’s the Group Chief Risk Officer, who’s also on my team.
That is a very big psychological difference as well. For any of you who have ever worked in a centre function, and now moving out into the regional businesses, that is a big change, but it’s all around making it very clear to people that we’re all part of the one team. Our job is to serve customers wherever we may be, and it’s not around business sits over here and finance and risk sit over here. It’s around an integral part of any business, but particularly a financial services business is around the management of risk, and is around understanding the drivers of performance. And so, it’s critical that we have regional finance and risk functions that are integrated into the business.
That means, that at the centre, we’ve now moved to a much smaller resource and the focus that we are now driving at the centre is moving beyond looking at what the historical financial performance has been, and moving that to now understanding what has been the driver of that financial performance, what does that tell us about the future, what does that tell us about how we can enhance performance going forward, and what does that tell us about how we should be developing our strategy.
And that really leads me on to the next area that I’m responsible for, Strategy Development. Simon Moore, who heads up Strategy, is now part of my team, and that includes both the coordination of strategy at a Group level, as well as mergers and acquisition activity.
At the regional level, given the model we’ve moved to, there are significant and capable strategy functions that are focusing on regional issues, what is relevant to the local markets, and what are the strategies they need to be embedding at the regional level in order to grow shareholder value. And, at the Group level, we are then looking at what are the synergies across the portfolio of businesses and how we can optimise that portfolio so as to deliver satisfactory returns to shareholders.
And this is where I see the evolution in the role of the Finance Director, moving to working more closely with the Group Managing Director and, obviously, with the regional Chief Executives, in actively managing how we allocate our capital across the group. I’ll come back to that shortly.
The M and A side of the portfolio – mergers and acquisitions – that certainly takes me back to the days when I worked with quite a number of the people in the room here on things like the demutualisation of National Mutual or the restructure and sale of State Bank South Australia and the techniques that we’re using in our M and A and strategy functions here at the National apply just as much as to whether you’re out there looking at something you may acquire or something you may wish to divest, as well as looking at your own business portfolio and understanding what it is you can do to improve the shareholder return from that area.
The next area that is my responsibility is treasury and balance sheet management. That’s under Rick Sawers, who’s also a part of my team. That’s obviously critical in a bank, and particularly in the major trading banks here in Australia, and indeed New Zealand, where there’s a much increasing reliance on wholesale funding to accommodate asset growth as the gap between wholesale funding and retail funding opens up, as more and more of opportunities are found for people to invest disposable income.
And a particular driver there is obviously superannuation, and that’s obviously the strategy why a number of us have moved quite heavily into that funds management and superannuation space.
And also, within this responsibility comes the whole aspect of marketing and positioning our debt and equity programs with investors.
And in case I get bored with all of the above, legal, economics and internal audit are all part of financial risk management.
So how does all this work in practice? An increase in focus of all companies - and I’ve touched on this a moment ago - particularly in banks, is around the efficient allocation of capital. And Basel II has really accelerated this. And I know in a number of areas people have a lot of angst around Basel II. And I’ll shortly talk about some views I have around regulation and compliance. But certainly, my perspective on Basel II is largely around how people should run a bank effectively.
It’s very hard, I find, to look at the requirements of Basel II, and not stand back from that and say, well that’s actually what a good bank should be doing. And I think the real upside from Basel II is it’s put a line in the sand around a point in time at which people have to have a really clear understanding of what their capability is on a whole range of critical issues for banking, and what it is they need to do if there are gaps. And I think all banks, not just in Australia, but around the world that are going for advanced accreditation on Basel II will have some gaps, that’s inevitable. What are the plans, then, to close those gaps, and the time frame then, that’s been set by the regulators, is effectively a couple of years to work on that.
So I think there’s a real upside in that. One of the key things that comes through very strongly in Basel II and particularly here in Australia with the prerequisites that APRA have required is around having an economic capital allocation model that effectively allocates capital, based on underlying risk, on a uniform basis, across all your business activities.
Sounds simple, sounds obvious: pretty hard to do, particularly in an area like operational risk. But it is what drives the whole logic of bringing finance and risk together, as we have at the National, as is the case at some other banks. Because unless you have a very complete understanding of risk, on the dimensions of credit, market, and operational risk, then you don’t know the capital that you have to allocate to the various aspects of your business. Unless you have an understanding of the financial and business performance, you don’t know then what are the returns you’re getting on that capital that’s been allocated.
And obviously, the two come together to provide risk adjusted returns, which then starts to inform where do we wish to apply our capital, and that drives the whole sort of capital allocation piece, which obviously has a large involvement from treasury, and capital management areas.
And by using this common measure of capital across risk dimensions and across businesses, you can assess the performance of those businesses on a consistent basis. And then that drives you down a track, where you can start to say, which are the businesses that really seem to be outperforming? Can we allocate more capital to those businesses to facilitate faster growth? Which are the businesses that are underperforming relative to whatever benchmarks you’ve set. Why is that? Can we improve the performance of that business? What is management going to do about it, and what’s going to be the costs of doing that?
Is it because we’re uncompetitive, or we’re in a market that is becoming unattractive? That may mean that you reduce the capital allocation. You may slow down the business growth, or indeed, you may choose to divest the business.
And that then links back into how we evaluate our mergers and acquisition opportunities. So I think it all comes together in a nice sort of logical flow, and certainly we’ve got a lot of benefit over the last year in thinking all that through.
And then critical to all of this is what are the information platforms that you have in place to measure financial returns and risk. Particularly as they are now evolving from being almost backward looking control functions, to forward looking functions that are providing business insight, to help drive strategy and business performance.
So, to summarise my key deliverables as Finance Director. Firstly, working with John Stewart, always a good idea to keep the boss onside. In terms of working with John it involves shaping our strategy and at the Group level the portfolio of businesses that make up the company. That will become increasingly important as we move through the stabilisation phase of our program and into the rebuilding phase as our recovery progresses.
Secondly, playing a key role in the development of culture across the organisation. Some people may find that a little curious, a Finance Director even being able to spell the word. But in my view, good culture underpins sustainable growth in the business and that’s what delivers long-term shareholder returns.
I feel that by engaging your employees better, your customer service improves, your community perception is enhanced, the trust of the regulators grows- which is all critical to an organisation like ours - and all of that must add up to better returns for shareholders.
And, as I've mentioned, I spend a lot of time communicating with the market, whether that’s on the debt side of the equation or whether that’s with equities.
Now, what are some of the challenges that are facing the National? Well, firstly speaking generally about all businesses in Australia, there’s a real challenge out there to maintain earnings momentum while financing longer-term growth opportunities. And this has led to ever increasing competition, both from traditional competitors and as well as from new entrants.
At the National we have an additional challenge over and above that with a major restructuring program under way, and the way our frontline people have withstood targeted campaigns on our franchise has been fantastic. That has been a critical area that the analysts and the investors have been watching, because National’s great strength has always been having this fantastic franchise in business banking particularly, but also in the top end of retail. And clearly, with what we’ve been through over the last 18 months, you don’t have to be Einstein to identify that other competitors, whether they're the traditional players or new entrants, are going to be looking at our franchise and see what business they can win away.
And the way our frontline people have initially withstood that and held the position while all sorts of nonsense was going on around them, and then, more recently throughout this calendar year, to be in a position where we’ve been growing market share, both in business and in retail through, as I say, this calendar year. It’s just been a fantastic achievement.
We are also fixing a whole range of risk and control weaknesses. If any of you suffer from insomnia, then there are a couple of very large reports that were issued at the beginning of 2004 that very graphically set out a number of the issues we have to deal with. And I'm not criticising those reports. Again, that’s been a very valuable exercise in focusing the whole organisation, giving us that wakeup call, and I believe we will emerge from this as a very strong competitor, and as I say, the competitive urge within the company has come through very strongly already.
But at the same time as dealing with those issues, just like any other company, we need to create further efficiencies, reduce our costs. But, I think, very importantly, if we reflect on what was the environment that led us into the position in the first place, it’s absolutely critical that we build a safe environment for our people so that they are absolutely confident that they can raise issues of concern, and that they know those issues will be addressed in an objective and fact-based way. Because at the end of the day those of us who have been in business for a while, know that the bad news eventually emerges, and Ahmed has a fabulous phrase that in this company we want good news to travel quickly and we want bad news to travel even faster, because unless you get the issues to the surface, you have no chance of actually dealing with them.
So, as you may have gathered, I’m confident that this will provide significant long-term benefits. But on that whole issue then of compliance and regulation, there is, quite rightly, a debate under way at the moment about increasing expectations in both corporate governance and on the regulatory front. And that has led to significantly higher compliance and risk management costs for all companies, not just banks. But with banks, we have a number of additional overlays because of the regulatory environment we live in.
I think, particularly for listed companies, we have to accept that the increasing exposure of the public to listed companies, particularly through superannuation, brings a greater focus on these issues. And further, there are certain industries, such as banking, where there are sensitive political considerations or, indeed, national economic considerations.
At the end of the day, we are entrusted with looking after the deposits of the nation. And, therefore, I don’t think it’s any surprise the community has a right to be satisfied that our activities are subject to the appropriate level of prudential supervision.
And then, if you roll into that the collapses we had in the ‘80s and in the ‘90s, which created, more generally, a climate of mistrust and suspicion and, indeed, cynicism, I think you start to understand what are some of the drivers behind these forces that we see at the moment.
Coming out of the ‘80s and ‘90s, and I make this very clear, particularly on offshore road shows to overseas investors, that I think corporate Australia learnt an enormous amount. I think some real hard lessons were learnt, but I think corporate Australia responded to those and lifted the whole corporate governance game immeasurably.
But, in more recent times, in the United States, there have been a number of spectacular collapses. That’s led to a tightening of regulatory scrutiny in the largest market in the world. And if something happens in the US, it’s inevitable that around the globe, and not just for SEC registrants like ourselves, that there will be a reaction. Other regulators around the world will react and follow that lead.
And so, the question to ask is: Has the pendulum swung too far, and does the cost imposed by that additional regulation and compliance activity outweigh the public benefit? And I note on that point, that we’re seeing a number of regulators and, in particular, the SEC who are now saying that companies are applying the requirements that have come in over the last couple of years too literally. And as usual, the lawyers will get blamed for that, but in my view, lawyers typically act on instruction.
And the instructions coming from boards and managements, which are saying make sure that there’s no slip up here. And why would boards and management say that? Well, when in the US there are photo opportunities of CEOs and CFOs in handcuffs going off to jail, and I’m not jesting, you can understand why people in my position take this stuff extremely seriously. I always took it seriously, but I tell you what, I don’t want to go to jail.
So that, I think, has been a natural reaction from that environment. But I think there’s a really important point, which is looking beyond the cost, and understanding the strategic opportunity, and indeed competitive advantage that can come from handling regulation and compliance well.
And that takes me back to the point I was making about Basel II. The smart response to all of this is to simplify business processes, improve training, and reduce the number and complexity of products. That saves time, speeds up delivery to your customers, customers get better service, and the regulatory and community perception improves. And with all of that, you enhance your brand value.
So again, my approach has always been to understand that this is one of the natural requirements of the community upon listed or banking organisations. And the trick is, how do you embed it into your processes in a way that you get those efficiencies, but importantly, you get customer service. And you don’t detract from customer service in the way that you impose these things.
The final point I said I’d touch on is around innovation. I was intrigued at the banking awards that occurred earlier this year, up in Sydney, that in the best new product category, not one major bank was nominated for product of the year.
And what I find curious about that is that – by default, therefore –the innovation is coming from smaller banks, from the mono line players, the new entrants. And I’m sure, if you were sitting in their product development areas and their strategy areas, you’d be looking at the major banks, and saying, if only I had the resources of those organisations, imagine what I could do. And I was sitting there thinking, how really odd, that organisations with those resources are not up there, you know, one through five, in terms of nominations for best product. And, certainly, at the National, we have been a follower in this product development area for too long.
And one of the cultural changes that we’re driving through at the National, is to encourage people to take personal accountability to get things done, and use their initiative. And this is not just around the regulatory compliance space. This is in the whole space of customer service, around product developments. And this has really speeded up decision-making, and it’s enabled us, in the last six to nine months, to start bringing new products to market much quicker.
As I said, some of these are catching up with the competition. We launched, earlier this year, a Smart deposit account, which was effectively a catch-up. Anyone would recognise that. It’s not saying it’s not a good product, but I couldn’t claim that was an innovation.
But there are others that have given us a real edge. And one I’d call out there is the Fast Loan, which has been one of the key drivers of the out-performance in our business banking division over the last nine months. And, as I said, our starting position was with the number one franchise, but off that, we’ve managed to grow it above market, effectively, for this calendar year.
And the Fast Loan, which has a process that previously took anything up to two to five days, the commitment to customers is that within fifteen minutes, we will give you an approval which, provided you can support, the information you’ve provided in the application, then that loan will be approved.
And it’s been done in no way changing any of our risk standards, or our risk appetite. Just simply taking out unnecessary steps in the process. And, as I was alluding to earlier, faster decisions for our customers, so we’re winning business because of it, because the customers have now got a deal straight away, they don’t need to shop around; lower cost; and an increased market share. So, that’s exactly the sort of perfect trilogy that you want.
We’ve introduced, in more recent times, the Personal Project Loan, which has gone extremely well. And the Visa Mini is a good initiative that is gaining traction in the young adult market, where we feel we’re under-representative.
So, as you may have gathered, there’s plenty on at the National, it’s a fantastic place to be. Thank you.