Financial Services Practice

Indian Banking:
Towards Global Best Practices

Insights from industry benchmarking surveys

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Indian Banking:
Towards Global Best Practices

Insights from industry benchmarking surveys

November, 2007

The Indian banking sector is rapidly globalising, making it important for Indian banks to ensure their
practices match those of the best banks in the world. This is the focus of this years Annual Bankers
Conference, with the theme Indian Banking: Towards Global Best Practices.
To assess how leading banks in India are meeting global best practices, McKinsey & Company has
administered, on our behalf, five industry benchmarking surveys across selected banks. Building on
existing proprietary research across various industries internationally, McKinsey has achieved the
difficult task of defining, measuring and comparing the processes and practices of leading banks in
India with those of leading banks in other parts of the world. This report captures the findings and
conclusions of this research, and highlights what must be done to bring banking in India to world-class
levels.
The Bank of Baroda and the Indian Banks Association thank McKinsey & Company for devoting
time and resources to conducting the survey and putting together this report. We also thank all the
banks that have taken part in the benchmarking survey; their participation has made it a tremendous
success.
This is our first association with McKinsey & Company as Knowledge Partners. We hope to continue
this relationship in our future endeavours.

Dr. A. K. Khandelwal

H. N. Sinor

Chairman & Managing Director

Chief Executive

Bank of Baroda

Indian Banks Association

Preface
Indias banking sector is growing rapidly and is expected to enjoy even greater growth opportunities
in the future. Several Indian banks are pursuing global strategies, as Indian companies globalise and
people of Indian origin increase their investment in India. At the same time, a large number of global
banks have stepped up their focus on India, keen to participate in the sectors growth.
Today, the question often asked is: how competitive are Indian banks and how do the practices
at work in these banks compare against global best practices. To assess this, we at McKinsey &
Company, with support from the Indian Banks Association, profiled 14 leading banks in India, using
five proprietary surveys developed by our Banking and Securities, Organisation, Risk Management
and Business Technology practices and administered at banks across the world. This allowed us
to compare the performance and practices of Indian banks with those of global banks in a way we
believe has not been done before. The banks surveyed include: seven leading public sector banks,
four new private sector banks, and three large foreign banks with a significant presence in India.
The five surveys we administered are: the McKinsey Personal Financial Services Survey; Excellence in
Retail Banking Survey; IT Benchmarking Survey; Organisational Performance Profile Survey; and Asset
Liability Management Survey.
The surveys were detailed and consisted of two parts. The first entailed a qualitative assessment based
on a detailed performance grid to analyse the underlying practices at work (e.g., a self-assessment
grid to evaluate excellence in retail banking). The second involved detailed analyses of quantitative
data and financial performance (e.g., technology spends or retail banking data).The analysis focused
on unearthing underlying capabilities using our proprietary methodology in each of the survey areas.
All data was handled with utmost confidentiality. Findings and conclusions in the chapters that follow
reflect aggregate numbers with no attribution to any particular bank. During analysis, code names
were assigned to individual bank data to ensure confidentiality even within the working team.
Our findings uncover several interesting facts and trends that are likely to influence the evolution of
the sector in India. Five key highlights include:
(i) While on the surface most banks in India currently have similar levels of profitability, there are
dramatic differences in the underlying economics. The profitability of the wholesale banking
operations of attackers, i.e., new private and foreign banks, is much higher compared to incumbents,
i.e., public sector and old private banks that mainly rely on their valuable legacy retail franchises.

Our analysis shows that access to retail banking deposits is today the biggest driver of retail
banking profitability; in fact incumbent banks enjoy a staggering ROE (return on equity) of about
33 per cent on their retail banking portfolios. Attackers, on the other hand, are investing heavily in
building large-scale retail franchises.
(ii) Our research globally indicates that customer experience is the biggest driver of value. However, in
India customer experience and tailored offerings will be a big driver of bank profitability as young,
affluent customers are more demanding and discerning and are less credit-averse. Our survey reveals
that while attackers have revolutionalised levels of convenience and provide customers with superior
service levels, they also have more customers with negative experiences. Further, the research
shows that such customers fragment their wallet more than others leading to inferior economics.
(iii) The survey results show that Indian banks have historically had access to superior talent relative
to other global banks leading to superior organisation performance on average. However, it is well
known that incumbents suffer from a severe lack of specialist skills and new-age leaders. The
survey shows that the extent of the problem is acute and crippling for these banks. They need to
act urgently to attract, hire, develop and retain the best available talent to ensure sustained growth
in the long term. While attackers are doing better on this front, they will also have to deal with
severe talent shortage issues and will need to devise innovative strategies to continue to attract
talent and develop new leaders.
(iv) The Asset Liability Management Survey shows that treasury is a significant contributor to bank
earnings in India. The treasury divisions at Indian banks are integrated profit centres that manage
capital market businesses and credit and market risk. It is encouraging to see that several attackers
have leapfrogged on this front and are using sophisticated risk management techniques on par
with those implemented by global banks. However, risk management practices in public sector
banks are at a nascent stage and simply conform to regulatory and compliance measures.
(v) Indian banks, in particular attackers, have leveraged the nations IT skills to establish a competitive
advantage. IT has now become a distinctive capability that these banks can successfully export
to international markets as they globalise. Attackers with best-in-class IT capabilities are truly the
best in the world on account of three factors: the ability to avoid using legacy systems, superior
governance practices that often entail direct CEO involvement, and the India advantage. However,
most incumbents have made large investments in technologies such as core banking solutions,
but have not fully developed strategies to derive value from these investments, e.g., leverage
these investments to upgrade their levels of customer service.
We hope that these findings derived from a robust fact base will stimulate debate and facilitate
informed decision making in Indias banking sector as it aspires to become globally competitive and
continues to grow rapidly in both the domestic and international markets.

Joydeep Sengupta

Renny Thomas

Director

Partner

McKinsey & Company

McKinsey & Company

Banking in India:
Towards global best practices

Banking in India:
Towards global best practices
Over the last four years, Indias economy has been on a high growth trajectory, creating unprecedented
opportunities for its banking sector. Most banks have enjoyed high growth and their valuations have
appreciated significantly during this period. Looking ahead, the most pertinent issue is how well the
banking sector is positioned to cater to continued growth.
A holistic assessment of the banking sector is possible only by looking at the roles and actions of
banks, their core capabilities and their ability to meet systemic objectives, which include increasing
shareholder value, fostering financial inclusion, contributing to GDP growth, efficiently managing
intermediation cost, and effectively allocating capital and maintaining system stability (Exhibit 1).
Exhibit 1
Exhibit 1

Assessing the performance of the Indian banking sector

Stakeholders

Enablers

Five key objectives

Enabling regulatory
environment

Banks

ILLUSTRATIVE

Core capabilities
Organisation
Sales and
distribution
Credit and risk
IT and operations

1. Return share-holder
value
2. Foster financial
inclusion
3. Contribute to GDP
growth
4. Efficiently manage
intermediation costs
5. Effectively allocate
capital and maintain
stability

Policy
makers

Source: McKinsey analysis

15

GLOBAL COMPARISONS INDICATE THAT INDIAS BANKING SECTOR MEETS ITS

OBJECTIVES BUT IS POLARISED
Our survey of 14 leading banks in India shows that banks have done remarkably well in increasing
shareholder value, allocating capital effectively, and contributing to GDP growth (Exhibit 2). However,
in comparison to international peers Indian banks could do more to foster financial inclusion and
manage intermediation costs. Our findings also highlight the clear divide between the performance
of incumbents, i.e., public sector and old private banks, and attackers, i.e., new private and foreign
banks, a reflection of the underlying shifts in the banking sector.
Exhibit
Exhibit 2 2

Banks are doing well on 2 of the 5 objectives

ILLUSTRATIVE

Stakeholders Enablers
Made significant
progress
Enabling regulatory
environment
Banks

Core
capabilities

Made progress

Five key
objectives

Need to make
significant progress

Policy
makers

Five key objectives of the banking sector

Performance on achieving
these objectives

1. Return shareholder value

2. Foster financial inclusion
3. Contribute to GDP growth
4. Effectively manage intermediation costs
5. Effectively allocate capital and maintain stability
Source: McKinsey analysis

Increasing shareholder value: Indian banks have enjoyed high growth in underlying businesses over
the last three years. Loans have grown at over 30 per cent and deposits at about 18 per cent during
this time. Profitability remains robust at around 18 per cent (pre-tax return on equity), which compares
favourably to that of Asian peers. This up-tick in performance has been handsomely rewarded: banking
stocks have appreciated by over 35 per cent year-on-year from January 2000 to October 2007, outdoing
overall stock-market growth in India as well as that of banks in the region (Exhibit 3).
Fostering financial inclusion: Indian households are among the highest savers in the world, saving as
much as 32.4 per cent of their income. Household savings account for 69 per cent of Indias gross
national savings, significantly more than in most countries. But the financial system has only been
able to access 47 per cent of these savings (Exhibit 4), partly because of geographical fragmentation
that often results in limited reach.
Further, Indian urban centres account for almost 60 per cent of total savings deposits (as of March
2006), despite only 27 per cent of the population residing in 4,000 urban locations. This reaffirms two
widely held beliefsthe potential of customers in urban areas is high and more importantly, there is
need to foster financial inclusion to tap the remaining 73 per cent of customers fragmented across
650,000 villages in India.
16

Exhibit
Exhibit 3 3

Indian banks have provided high returns to shareholders over the last few years
India achieved the highest growth in the region and
has maintained high profitability . . .
Countries

Indian banking sector outperformed most banking indices

with highest total returns to shareholders . . .
Per cent, TRS CAGR; Jan 00-Oct 07

Assets growth

Deposits
growth

Pre tax ROE

CAGR;
FY04-06

CAGR;
FY04-06

Per cent;
FY06

1,200

India
17.2

18.8

1,000

17.9

800

Malaysia
18.1

16.1

Indian banks
Indian market
Chinese banks

16.3

600

China*

Indian banks:

36.76

Indian market:

24.03

Chinese banks:

17.57

UK banks:

9.34

FTSE all shares:

7.16

Dow Jones Index:

4.54

UK banks
FTSE all shares
Dow Jones Index

400
14.5

18.2

15.1

200
Thailand
7.2

9.1

0
Dec-99

9.1

Jul-01

Feb-03

Sep-04

Apr-06

Oct-07

* Growth data for China is from 2001-06

Source: EIU; Central banks of various countries; DataStream; McKinsey analysis

Exhibit
Exhibit 4 4

India's households are among the highest savers; however the financial sector
attracts only 47% of total savings
Household savings as a share of gross national savings
Gross national
savings rates
Per cent of nominal
GDP; 2005

Per cent; 2005

69
55
44

by the financial services sector (2005)

High geographic fragmentation has

meant that banks have not been able to

reach a large part of the population
About 34% of total bank branches are
in urban India

37
24

India

France China*

Mexico Japan

32.4

18.0

21.2

50.4

Only 47% of the total saving is accessed

26.4

20

16

South
Korea

United
States

32.8

12.9

There are 19 ATMs per thousand

people in India as compared to 51 in
China, 193 in Brazil, and 246 in
Mexico**

* MGI estimate based on 2005 GDP and estimates of flow-of-funds information

** Number of ATMs in 2006
Source: Country National Accounts; IMF; McKinsey Global Institute; McKinsey analysis

17

Contributing to GDP growth: The financial services sector contributes about 5 per cent to the nations
GDP. This is line with the ratios in most the developed and developing countries and reflects the ability
of the sector to create employment. Our work suggests that the financial services sector will create
3.6 million direct jobs by 2010. By 2020, this figure could double to over 7.4 million (Exhibit 5) with
the banking sector accounting for one-third of the total, and the insurance and asset management
industries for the remaining.
Exhibit
Exhibit 5 5

Healthy contribution to GDP and good employment prospects characterise

the banking landscape
. . . and has the potential to
employ people in large
numbers

Indian banking sectors contribution to GDP is healthy, almost at par

with developed countries and better than most peers in the region
Banking sectors value-added to nominal GDP; per cent; 2006

6.5

China

5.1

India

4.8

UK

Thailand

employ as many as 3.6

million people by 2010 and
7.4 million people by 2020

5.3

USA

Malaysia

Financial services can

2.6
2.5

Source: EIU; RBI; WIM; Hewitt; McKinsey analysis

Managing intermediation costs: Intermediation costs continue to remain high in India as compared
to those in other markets. At 5.1 per cent (the difference between the average cost of lending and
the average cost of raising liabilities), it is also among the highest in the region. Part of the difference
is driven by the cost associated in meeting regulatory requirements. Banks are required to keep a
minimum statutory liquidity requirement (SLR) of 25 per cent and maintain lending to the priority
sector at 40 per cent of total lending. A large portion of funds are thus invested in these low-yielding
assets that contribute to higher intermediation costs on the core lending portfolio. Overall efficiency
is further constrained by low ticket sizes in general (Exhibit 6).
Allocating capital and managing system stability: Indian banks seem to have made significant
improvements in capital allocation. In 2003, 56 per cent of capital was allocated to sectors yielding
low returns, often less than cost of debt. In 2007, however, only 22 per cent of capital was allocated
to underperforming sectors. A much stronger economy accounts for some of the difference, but banks
deserve some credit for a dramatic reduction in non-performing loans between 200307 (Exhibit 7).

18

Exhibit
Exhibit 6 6

Cost of intermediation in India remains high

High intermediation costs despite spurt in lending interest rates and
deposit rates
Difference between lending rate and deposits, represented by spreads
Per cent; 2007
Average lending rate
~13% and deposit rate
at 8% in FY07

5.1
4.0

3.4

2.9
2.4

India

Thailand

China

USA

Driven by
Low overall
efficiency
Small ticket size
Low operating
efficiency
Regulatory cost
associated with
Statutory
requirements
for CRR, SLR
Priority sector
lending

Singapore

Source: EIU; RBI; WIM; McKinsey analysis

Exhibit 7
Exhibit
7

NPAs have reduced dramatically due to improved capital allocation aided by a

ESTIMATES
booming economy
Economic growth underpins the return on capital employed across
industries
Sector ROIC*
(2003)

ROIC <
cost of
debt

Total capital
employed
(2003)

Total capital
employed
(2007)

Sector ROIC*
(2007)

. . . while non performing loans have

declined in the banking sector over the
last few years
NPAs as a percentage to advances

9%
56%

4.7

22%

8.1

Example industries
Paper and paper
products
Steel
Textiles
Hotels and tourism

Example industries
Textiles
Plastic
Rubber
Health services
Inorganic chemicals

8%
7%
6%
5%
4%

ROIC >
cost of
debt

14.4

44%

Example industries
Drugs
Auto
Food and beverage
Cost of debt** Petroleum
= 7.46

78%

16.5

Cost
of debt** =
9.55

Example industries
Paint
Cement
Auto
Drug
Food and beverage

3%

Gross
NPA

2%

Net
NPA

1%
0%
2003

04

05

06

2007

* ROIC = (PAT + (interest payment x (1-tax rate))/total capital employed

** Cost of debt = Prime lending rate x (1tax rate)
Source: RBI; CMIE-Prowess; McKinsey analysis

19

Underlying shifts in the banking sector reveal a clear divide

Indias banking sector is marked by a clear divide between incumbents and attackers covered in
the survey. Another characteristic feature is that, though attackers have been appropriating share,
incumbents have enjoyed better returns in segments such as retail banking.
Between 2000 and 2007, attackers have increased assets from 12 to 26 per cent, profits from 21 to
32 per cent, and market capitalisation from 37 to 49 per cent. They have been rewarded with a higher
than average P/E (price-to-earnings) ratio of 27, compared to 7 for incumbents, and a price-to-book
ratio of 3 compared to 1.0 for incumbents (Exhibit 8). There are good reasons for this trend. Attacker
banks exhibit far higher capabilitiesoften matching world standards. Our proprietary Excellence in
Retail Banking Survey (covered in chapter 3) reveals the vast differences in capabilities (Exhibit 9).
The picture is more mixed when it comes to returns. While the overall profitability of attackers and
incumbents is similar, at 15 per cent and 14 per cent respectively, there is a striking underlying
difference. Incumbents earn a whopping 33 per cent return on equity in their retail businesses
compared to an average of 16 per cent for attackers. Nevertheless, incumbents earn just a 9 per cent
return on equity on the rest of their business compared to 15 per cent for attackers (Exhibit 10).
While profitability varies widely within the two groups of banks, retail profitability largely depends on
the stage at which banks are investing in building a franchise. The fact that, incumbents enjoy a return
on equity of around 33 per cent (capital allocated using Basel I norm) reinforces that retail banking
adds more value once the franchise is built. Incumbents continue to profit from large deposit bases,
thanks to their legacy distribution networks and franchises. Meanwhile attackers continue to invest
heavily in building a retail franchise and realise a relatively lower return on equity. However, attackers
that have already invested ahead of the competition have begun to reap the benefits of a large
franchise compared to players with smaller franchises.
Exhibit
Exhibit 8 8

Beneath the surface, significant shifts are taking place in the banking
landscape

Attacker
new private and
foreign banks

Incumbents
old private and
public sector
banks

Share of assets

Share of profits

Share of
market cap**

P/BV

P/E

Rs 000 crore;
per cent

Rs crore; per cent

Rs crore; per cent

Times; 2007

Times; 2007

1,133
12

88

2000

3,384

7,306

26

21

74

2007

79

2000

31,230

36,356

32

37

68

2007

63

2000*

298,849

49

27

51

2007*

* As of 29 March 2007; market cap for banks not listed in FY00 imputed using a price to book value of peers
** Foreign banks not included in market cap analysis as they are not listed
Source: CMIE-Prowess; DataStream; Bloomberg; annual reports; McKinsey analysis

20

Exhibit
Exhibit 9 9

Capabilities contrast dramatically attackers demonstrate global capabilities

while incumbents lag behind

ERB EXAMPLE

Rankings*; 2007

Corporate leadership
Marketing and sales
Distribution efficiency
Processing and IT
Credit policy and skills
Attackers
Asian
max
Top 10 global
banks

Incumbents
India
average

* Ranked on a scale of 0-4, 0 being the lowest and 4 being the highest
Source: McKinsey & Company Proprietary Excellence in Retail Banking survey of leading banks in India

Exhibit
Exhibit 1010

Legacy of branch networks and retail deposits of incumbents are levelling the
playing field
Per cent; 2007***

ESTIMATES

Share of capital
employed
Overall

37

Post tax return

on equity**

40

Attackers
Incumbents

15

63

60

14

Split of retail
revenue from
deposits

65

50

Retail

Rest of
bank*

Share of profits

32

16

50

68

33

33

47
67

53

38

15

* Rest of bank includes all activities other than retail, like SME, wholesale, treasury, after adjusting for excess capital
** Return on equity using regulatory capital requirement of 9%; Asset income includes capital benefit and deposit income includes third
party distribution income
*** Data for banks from our excellence in retail banking survey database
Source:Annual reports; RBI; McKinsey analysis for top Indian banks in our Excellence in Retail Banking survey

21

Incumbents earn as much as 65 per cent of their retail revenue pool from deposits, as opposed to
attackers, who earn 38 per cent from it. Retail deposits are a huge driver of profit and could be seen
as a separate profit centre, not only a source of funds for the lending. But the incumbents cant rest
easy. A large part of the rest of the businesswholesale banking and treasuryis rapidly globalising
and is an area where attackers have begun to dominate.

CORE CAPABILITIES OF BANKS IN INDIA:

ACTIONS NEEDED ON MULTIPLE DIMENSIONS
In view of the sharp divide in Indian banking, it is imperative to assess attackers and incumbents
core capabilities. Our survey reveals several areas in which banks belonging to both categories display
scope for improvement (Exhibit 11).
Exhibit
11
Exhibit 11

Real capability levels of incumbents and attackers differ significantly

ILLUSTRATIVE

Stakeholders Enablers

Five key objectives

1. Return shareholder
value

Enabling regulatory
environment
Banks

2. Foster financial
inclusion

High level
of capability

3. Contribute to GDP
growth

Core
capabilities

4. Effectively manage
intermediation costs
5. Effectively allocate
capital and maintain
stability

Policy
makers

Four key capabilities

Low level
of capability

Incumbents

Attackers

1 Organisation
2 Sales and distribution
3 Credit and risk
4 Information technology and operation
Source: McKinsey analysis

Organisation: Imperative need to strengthen leadership and talent

An assessment of the organisational capabilities of banks in India using McKinseys proprietary
Organisational Performance Profile Survey indicates that Indian banks on average have benefited
from superior organisation performance relative to banks in other markets given their historic access
to superior talent. However, today, incumbents need to strengthen their organisations on several
dimensions. At present, the low motivation and skills are of particular concern, and if not addressed
could prove crippling for these organisations (Exhibit 12).
A challenge both types of banks face is people development, although it is a particularly acute one
for incumbents. Close to 80 per cent of responses from incumbents indicate that recruitment, people
development, and retention require urgent attention (Exhibit 13).

22

Exhibit
Exhibit 12 12

Attackers display superior organisation and performance attributes,

incumbents fall short on a few
Per cent responding strongly agree or agree; 2007

Incumbents (7)
n = 586

Accountability
68%
External
Orientation
75%

Attackers (7)
n = 438

Direction
61%

Leadership
74%

Capability
82%

Motivation
57%

Environment and
values
60%

Direction
81%

Accountability
83%

Coordination and
control
73%

External
Orientation
81%

Innovation
53%

(Incumbents Attackers)

-6%

Capability
83%

-1%

Innovation
72%

Motivation
82%

Environment and
values
74%

-3%
-7%

Coordination and
control
76%

Leadership
81%

-20%
-15%

Distinctive (85%+)
Superior (70-85%)
Common (50-69%)
Not effective (0-49%)

-19%
-25%

-14%

Source: McKinsey & Company Proprietary Organisation Performance Profile survey of leading banks in India (n = 1,024)

Exhibit 13
Exhibit 13

Talent and people development will be the biggest challenge for Indian banks,
particularly for the incumbents
Per cent responding strongly agree or agree; 2007

Incumbents
Attackers

Organisation performance parameter

1

The company continually refreshes its talent pool

by recruiting top performers from outside the
company to fill key roles

Performance level
15
54

22

The company proactively identifies and mines the

best external sources of top candidates

51

26

The company attracts highly talented people

69

The company extends financial incentives to

motivate employees at all levels

13
62

Source:McKinsey & Company Proprietary Organisation Performance Profile survey of leading banks in India (n = 1,024)

23

Sales and distribution: Driven by innovation

Attackers have innovated considerably in the area of sales and distribution. They rank higher than the
best global banks in effective multi-channel management and the development of future channels, and
also score high on the aggressive use of remote channels, to the extent that their branch interactions
are lower by a third compared to incumbents. Attacker banks could use innovative and efficient alternate
channel management capabilities to gain a competitive advantage as they globalise (Exhibit 14).
Exhibit 14
Exhibit 14

Attackers in India have pioneered global standards of innovation in distribution

Attackers
Incumbents
Top 10 global banks

Attackers have a higher usage of alternate

channels, whereas incumbents continue
to leverage their branch network

Attackers compare favourably against global peers

on distribution efficiency*

Per cent using a particular channel

3.6
3.4
3.2

3.3
3.1

3.1

Internet
Multi-channel
management

Development of
future channel

57.0
55.0

ATM

Telephone

2.6

Branch capacity Effective use

management
of direct
channel

34.0

Branch

3.3

Mobile

39.0

1.9
0.9
4.2
0.4
3.8
0.9

* Scale of 0-4, 0 being the lowest and 4 being the highest

Source: McKinsey & Company Proprietary Excellence in Retail Banking survey and Personal Financial Services survey

On average, attackers score higher than incumbents on customer service. But customers also report
more negative experiences with these banks than with incumbents. This shows that as customers
become more discerning, their expectations rise. Attackers in India must enhance customer service
to dissuade these customers from fragmenting their wallet by increasing the numbers of banking
relationships. Our survey shows that customers reporting positive experiences with banks have
relationships with 2.4 financial institutions; while those reporting negative experiences on average
have relationships with 2.7 financial institutions (Exhibit 15). Further, the emergence of newer customer
segments, such as affluent and young professionals, will drive demand for superior banking services.

Credit and risk management: Long way to match global standards

Overall, banks in India seem to be managing risk well. But, once again, attackers perform better than
incumbents on this front. This suggests that incumbents risk market disfavour, reflected by the higher
chance of adverse portfolio selection (Exhibit 16). Incumbents will need to strengthen credit risk
management, particularly their funding and liquidity practices. Our survey showed that, on the whole,
they lack advanced early warning systems and use only basic funds transfer pricing methodologies to
conform to regulatory and compliance measures (Exhibit 17).

24

Exhibit
Exhibit 15 15

While existing service levels are perceived as high, increasing customer

demands will put pressure on banks
Per cent responding strongly agree or agree; 2007
84

1 The waiting time at

the branch office is
reasonable

Have you had any

negative experience
with your bank in the
past 2 years?

71

Negative experience
leads to use of more
financial institutions
Average numbers of
financial institutions used

12
70

2 Problems are
resolved by the first
person I speak with

61

8
2.4

75
3

2.7

68

The company delivers

on its promises
Attackers
Attackers

Incumbents

People with
positive
moments
of truth

People with
negative
moments
of truth

Incumbents

New emerging segments likely to drive need for superior services

Affluent customers
Young professionals
Source:McKinsey & Company Proprietary Personal Financial Services survey

Exhibit
Exhibit 16 16

Indian banks compare favourably against global credit and risk best practices
Attackers
Incumbent

Attackers exercise best-in-class credit skills

and policy* . . .

. . . However, incumbents lag behind significantly*

3.2

Credit underwriting, rating and

scoring

2.3

3.3
3.2

3.1

3.4
Risk-based pricing

2.6

2.8

3.1

Credit portfolio management

Incumbents

Attackers

Top 10
global
banks

2.1

Asian
max

3.3

Credit monitoring workout

2
* On a scale of 0-4, 0 being the lowest and 4 being the highest
Source: McKinsey & Company Proprietary Excellence in Retail Banking survey of leading banks in India

25

Exhibit
Exhibit 17 17

Overall funding and liquidity practices will need strengthening

Percentage of respondents; 2007

Incumbents
Attackers
Top 10 global banks

Incumbents lack advanced early warning systems

and contingency plans . . .

. . . and significantly lag behind attackers in the

use of advanced FTP methodology

33
Single rate (one rate
applies to all)

50

Formal contingency
plan

25
4

42

67
Multiple rates (different
rates apply to different
B/S items)

17

Formal contingency
plan including
escalation process with
increased severity of
stress

12
8
33

38

Matched-term funding
rates

33

63
88

Source: McKinsey & Company Proprietary Asset Liability Management survey of leading banks in India

Exhibit
Exhibit 18 18

On technology the best banks in India are among the most efficient in the world
ESTIMATES

US$ 000s; 2007

IT spend/
banking FTE

Best Indian
banks**

India

Sample
average

European
bank
average

IT spend/1,000
accounts*

Network spend/
access point

10.2

2.4

9.1

11.9

n/a

21.2

0.4

7.0

15.9

6.2

11.7

76

n/a

* Accounts include only deposit accounts

** Sample set of best banks in India includes 5 leading private and foreign banks
Source: McKinsey & Company Proprietary IT Benchmarking survey of leading banks in India; McKinsey analysis

26

Desktop + helpdesk
spend/ desktop

0.5

1.0

1.5

IT and operations: Opportunity to leverage competitive capabilities globally

In technology, select private and foreign banks in India are among the best in the world, spending
less than US$11 per account on IT systems and services, compared to an average spend of
US$76 per account in European banks. This has been achieved by avoiding legacy systems, using
distributed computing, and benefiting from Indias lower cost talent pool. While there are still areas
for improvement, Indian banks can export these capabilities (low-cost technology platform) as they
globalise (Exhibit 18).

27

Our methodology

Our methodology
McKinsey & Company, with support from the Indian Banks Association, profiled 14 leading banks in
India, using five proprietary surveys to assess how well their capabilities meet global best practices.
The five surveys we administered are: the McKinsey Personal Financial Services Survey; Excellence in
Retail Banking Survey; Organisational Performance Profile Survey; Asset Liability Management Survey;
and IT Benchmarking Survey. Our survey findings were compared with the results of the corresponding
five surveys administered across global banks. The comparisons allowed us to determine how Indian
banks perform vis--vis global counterparts. Below, we describe each of the surveys and the methodology
that we followed.

PERSONAL FINANCIAL SERVICES

The proprietary McKinsey Personal Financial Services Survey is one of the largest customer surveys in
Asia. It is administered across 12 Asian markets and captures customer data from multiple customer
segments, e.g., affluent and mass affluent.
To assess consumer needs, attitudes and behaviours in personal financial services (PFS), McKinseys
Asia-Pacific PFS 2007 survey profiled over 13,000 customers across 12 Asian countries in 2007. The
survey collected quantitative data through 60-minute, face-to-face interviews with customers, who were
asked over 150 questions. It spanned all key customer segments and product markets. In India, the
survey covered over 5,300 customers from urban and rural segments. The India survey also offered a
basis for comparison with the results from 36,000 profiles available through four such surveys carried
out in India by McKinsey since 1998.

EXCELLENCE IN RETAIL BANKING

Excellence in Retail Banking (ERB) is a McKinsey approach for assessing the linkages between strategy,
capability and performance in retail banking. The overall performance of banks is assessed along
five dimensions: corporate leadership and performance, marketing and sales, distribution efficiency,
processing efficiency, and credit policy and skills (Exhibit 1).
The survey consisted of two stages. In the first stage participants ranked themselves on a scale of
zero to four across 32 competencies reflecting the five dimensions of excellence (zero being the lowest
and four the highest score). During the second stage, participating banks provided information on their

109

retail deposits, loans, fee income, operating costs (across branches, other channels, back offices and

other areas) and credit losses. To assess true profitability and return on equity, we transfer priced
revenues both on the deposit and loans side based on market clearing rates, and attributed costs
and provisions based on data collected from the banks. In addition, we attributed capital using Basel
I norms.
Exhibit
Exhibit 1 1

Defining the excellence in retail banking methodology

Corporate
leadership for
performance

Sup
e
c r e d r io r
i
and t policy
skill
s

Excellence
in Retail
Banking

Highly efficient
processes
and IT

ly
High ped
lo
deve ting
e
mark les
a
and s tence
e
comp

Differentiated
and efficient
distribution

Source: McKinsey & Company Proprietary Excellence in Retail Banking framework

Using this proprietary ERB methodology, we assessed retail banking practices, operating efficiency,
growth and profitability. We then compared the findings with those of over 100 leading banks across
the world surveyed earlier.
For the purposes of analysis, we grouped the 14 banks according to the inherent growth of the franchise
(measured by annual growth in total retail deposits plus retail loans over three years) and overall
profitability (measured by the cost-income ratio).

ORGANISATIONAL PERFORMANCE PROFILE

This proprietary survey evaluates the effectiveness of an organisation in achieving its vision and
aspirations. The Organisation Performance Profile (OPP) Survey has covered over 100,000 participants
from over 400 global organisations so far. The resulting database of over 100,000 respondents was
cleaned, normalised (to address language and cultural barriers) and tested using rigorous methodologies
to validate the soundness of the outcomes. All standard tests on the integrity and robustness of our
data (e.g., Cronbachs alpha) were run. An exhaustive set of OPP frameworks was tested and refined
using data from these surveys and data available on the financial performance of these organisations.
The results of these tests have confirmed the reliability and validity of the survey tool.
The Organisation Performance Profile Survey was administered with over 1,000 senior managers at the
participating banks. Their responses were then compared with responses in our global database.

110

The survey examines three drivers of organisational performance: alignment, execution and renewal.
Alignment indicates a shared understanding of where an organisation is headed, what its purpose and
strategy is, and how supportive its internal environment is, including culture and interactions, to help
employees achieve its overall vision and aspirations. Strong alignment is one of the key attributes of
an effective organisation.
Alignment is assessed by measuring responses to statements related to the following attributes of an
organisation:
Direction: People understand and are aligned with the companys vision or strategy and how it is to be
achieved.
Leadership: Leaders at all levels inspire employees and shape their actions to achieve better
performance.
Environment and values: The quality of employee interaction (e.g., culture, workspace design) fosters
a shared understanding of core values. This is usually achieved by sufficient collaboration and
transparency, and process-driven efficiency and consistency.
Execution was assessed through responses to statements about outcomes and supporting
practices:
Accountability: Reporting relationships and the performance assessment process ensure that people
are accountable for results.
Capability: Internal skills and talent are sufficient to support the companys strategy and to create a
competitive edge.
Coordination and control: Business performance and risk are measured and reported.
Motivation: Employees are inspired to perform and encouraged to stay with the company.
Renewal is a key attribute of an organisations performance and is revealed by how the organisation
understands, interacts, responds and adapts to its situation and external environment. The survey
gathers responses on how organisations are performing on each of these attributes:
External orientation: Constant two-way interaction takes place between the organisation and customers,
suppliers, partners, or other external groups that help create value.
Innovation: A flow of ideas and change ensures that the organisation can sustain itself, survive and
grow over time.
The survey measures how organisations are doing on several aspects of organisational performance by
capturing two distinct but related elements of performance: outcomes and practices (Exhibit 2). It is
made up of two parts. In the first, respondents are asked to rank their companys effectiveness on nine
predefined outcomes of organisational performance. In the second, respondents views are probed on
actions or practices that can be used to achieve each outcome.

111

Exhibit
Exhibit 2 2

Defining the methodology used to assess the organisations performance profile

Organisation performance profile

Performance culture comprises of

9 outcomes, grouped into 3 clusters

Direction

Accountability

External
orientation

Alignment

Coordination
and control

How does the organisation

execute against its strategy
and deliver its services?

Innovation

Leadership

Where is the organisation

headed, what is its purpose
and strategy, and
how supportive is its internal
environment?

Execution
Capability

Motivation

Environment
and values

Renewal

How does the organisation

understand, interact,
respond, and adapt to its
internal and external
environment?

Source: McKinsey & Company Proprietary Organisation Performance Profile framework

ASSET LIABILITY MANAGEMENT

The Asset Liability Management (ALM) Survey is based on McKinseys proprietary methodology to
assess banks across six key parametersstrategy and philosophy, organisation policy and governance,
structural market risk and capital, fund transfer pricing, funding and liquidity management, and systems
(Exhibit 3).
Exhibit
Exhibit 4 3

Asset liability management best practices fall into 6 key areas

1.
Strategy and
philosophy
2. Organisation,
policy and
governance

6.
Systems

ALM best
practices
5.
Funding and
liquidity
management

4.
Funds Transfer
Pricing
(FTP)

3.
Structural market
risk and capital
management

Source:McKinsey & Company Proprietary Asset Liability Management Survey framework

112

Strategy and philosophy: A banks risk management practices are guided by its risk strategy and
philosophy. We considered a banks ALM philosophy (e.g., profit versus cost centre), risk appetite,
integration with enterprise risk management and business strategy, and hedging strategy and policy.
Organisation, policy and governance: To achieve best-in-class ALM practices, banks must have a basic
organisational structure and responsibilities (risk group, treasury, ALCO) in place. Such arrangements
are necessary to establish risk policies and limit structures, to assess performance management and
incentives, and to review and audit procedures.
Market risk and capital management: Managing market risk is one of the most important functions
of ALM. Risk management techniques to manage different of types risks and processesinterest
rate risk and foreign exchange risk, hedging approaches and choice of instruments, and reporting and
monitoringare assessed in this part.
Funds Transfer Pricing: As part of this parameter, we looked at the FTP methodology, FTP processes
and reporting, and monitoring of the FTP system.
Funding and liquidity management: This is the second most important function of ALM and it
encompasses funding and liquidity management processes, and balance sheet optimisation and yield
management.
Systems: Well-managed risk processes require suitably designed IT infrastructure. The system
architecture needs to facilitate risk measurement and control. Front- and back-end support is required
for the effective execution of risk processes.
Similar benchmarking initiatives were undertaken over the last few years across many financial
institutions worldwidethis allows for further comparisons across the stated parameters. The results
from the survey were benchmarked against those of our Global Treasury and ALM Survey conducted
across 30 leading institutions worldwide in late 2006.

IT BENCHMARKING
The IT benchmarking survey is based on McKinseys proprietary methodology to assess a banks overall
IT capability. It measures IT performance in banks along the following four dimensions (Exhibit 4):
Spend allocation: Total spends on technology are analysed by category, activity, and frequency (whether
recurring or one-time) to ascertain how much is invested and spent, in which areas, and for what
return.
Value creation: The survey assesses alignment of IT systems with corporate objectives to determine if
the right sets of activities are chosen to create business value from investments.
Solutions: The survey assesses whether the chosen solutions provide utility with minimal complexity.
Delivery: The survey probes for strong governance and management processes, development of inhouse talent and the right sourcing to determine how well the change and steady-state solutions are
being managed, measured, and delivered.

113

Exhibit
Exhibit 5 4

The IT benchmark measures how technology enables business performance

along 4 dimensions
How much should be invested
and spent, for what return and in
which areas?

IT
cr va
ea l u
t io e
n

objectives

sp

en

Current value creation

IT alignment with corporate

IT

IT spend effectiveness and

intensity
IT spend allocation

How does IT add value to the

business and to what extent?

Business
performance

How well are the change and

steady-state solutions managed,
measured, and delivered?

IT

de
liv

IT

er

IT governance
IT management processes
IT talent management
Sourcing
Productivity

Source: McKinsey & Company Proprietary IT Benchmarking framework

114

t io
lu
o
s

ns

How effective are the

chosen solutions?

Application complexity management

Infrastructure complexity management
Cross-border consolidation for regional
banks

115

Financial Services Practice

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