Retail banking profitability

Information that can be shared if inquired:

• The bank will sell 4 products through this incentive program:
  • CDs (certificate of deposit)
  • Checking accounts
  • Mutual funds
  • IRAs (individual retirement accounts).
• Examples of the products’ revenue streams include monthly fees, interest generated, commission earned, overnight float options, and cross-selling.

The interviewee should gather information about:

• Products

The interviewee should ask for more information about each product in order to determine each product’s profitability.

• Revenue Streams

The interviewee should determine each products’ profit margin.

Key Insights

• Each product has a different profit margin.
• However, the profit itself (margin times the average deposit) is the same ($80) for each product.
• The maximum incentive that the bank can give employees per product sold is $80.

Knowing this, let’s see what the options for incentive programs are.

Information that can be shared if inquired:

• There are three obvious incentive options (many others might be contemplated):
  • a fixed commission per product sold
  • a percentage of the profit generated
  • a combination of the first two methods

The interviewee should now ask about the incentive program’s structure.

Key Insights

• It is cheaper to keep current customers than it is to acquire new ones. An incentive program should account for this.
• A fixed commission per product sold incentivizes acquisition of new customers.
• A percentage of the profit incentivizes keeping current customers.
• The best option is to use a combination of the first two methods.

Information that can be shared if inquired: Average lifetime of client (time the customer u a product):
3 years Commission is paid when a product is sold. Commission is also paid for each year the customer keeps the product.

The interviewee should now calculate the incentive program’s profitability and give the client a solid recommendation.

Costs

These commissions are a fixed one-off cost and a recurring cost.

One-off: the bank salesman earns $4 for each product sold.

Recurring: each year, they will receive 5% of the profit generated due to their existing clients.

This equals to an average of about $4 per year:

The incentive program will be profitable and compensate the recurring commission costs if the sales increase more than 5%:

However, we need also to cover the fixed one-off commission when a product is sold. Since the average customer lifetime is 3 years, these 5% must be paid in 3 years.

In order for the incentive program to be economically feasible, sales should increase by approximately 6.92%.