Building Society and the Banking Sector in the UK

Introduction

A ‘mutual’ building society has no shareholders, only members. That means its owners doubles as its customers- the investors and borrowers. Drawn from a co-operative savings group, this concept emerged in the 19^th century in the United Kingdom. In the UK today, buildings have gone into full banking services such as mortgages and deposit accounts, providing competition to the conventional banking sector like never before. Just at the start of 2008, there were over 55 mutual building societies in the UK alone with total assets of over £ 36 billion [Building Societies Association, 2007]. As observed, many of the mutual building societies in the UK like Halifax, Abbey National, Northern Rock and Cheltenham and Gloucester who have ventured into the banking services have faced the current economic meltdown coupled with banking crisis (Ian, 2008, p. 5).

Historical background

According to the Building Society Association, the ever first building society was formed in the year 1775 in Birmingham City. It saw the establishment of many more building societies all over the country, with initial purpose of managing a central fund contributed on a monthly basis by members, who wanted to build their houses. Once all members got housed, the society was to be dissolved. However, in 1830, a new cream of permanent building societies like Leek United Building Society emerged, operating on a rolling basis, with a continuous recruitment of new members as soon as the old members had acquired houses. With such developments, it was logical to put in place an operational framework with legislative guidelines, hence the establishment of the Building Society Act of 1874, which was subsequently amended in 1894, 1939, and later 1960 (Building Societies Association, 2007).

With numerous building societies all over the country; almost every town having its own building society, the members of these societies grew in number, becoming so popular with the population to an extent that it became apparent there were prospects of growth and expansion. Unexpectedly, with the development of more advanced financial management skills and knowledge, the number of building societies has reduced over the last decade (Pepper, 2004, p. 23). This is because most of them merged, to form bigger societies, principally to enjoy large economy of scale, often adopting new names, and importantly got through de-mutualisation (25). Subsequently, majority of them were taken over by commercial banks while others just merged and transformed themselves into banks, offering all the financial services to their clients (28). This could have been prompted, at large, by the changing of the British banking laws that paved way for the building societies to offer financial services to their customers just as traditional banks do (Heffernan, 2003, p. 59). However, quite a number of the management team of these building societies felt that they could compete at equal level with the traditional banks, hence they pressed for the passing of a new act that allowed them to demutualize, and allow their members to choose whether transform the society to a limited company, with 75% of members vote guaranteeing such a proposal (66). Consequently, the mutual ownership changed into shareholders. In principle, many of the members accepted the proposal and changed their societies into limited companies, and some eventually got listed on London Stock Exchange.

To cub the increasing members of the societies who joined to get quick loans and huge profits, some rules were imposed to restrict such new members from such quick benefits in the late 1990s, requiring them (new members) to contribute for some years before realizing the said benefits. This rule saw an end to demutualization by the year 2000 since quick profits as driving force no longer existed (Heffernan, 2003, p.71)

Since most building societies were not members of the UK clearing system directly, they all used a role number to identify to identify individual accounts instead of allocating a unique six-digit sort-code and eight-digit account number to the BACs standards (Pepper, 2004, p.63). However, a more recent development has witnessed the diminishing use of use of role numbers by building societies, thus obtaining sort-code and allocating account numbers to its members within the clearing system (75).

Trends in European Building Societies

In the entire European market, there has been consistent building of pressure on the building societies to adopt the new diversification of offering numerous services rather than the traditional building intentions. Financial experts attribute this to the European banks’ strategic shift to the user to be neglected retail banking in the 1980s. They say that the pressure is likely to continue as most of the banks in Europe are consistently scrambling to acquire the established building societies in order to position themselves in competitive market. However, as observed, the problem is developing due to the fact that the market is getting congested day by day, with new entrants coming with new and more appealing strategies focused on customers. Heffernan, (2003, p.7) highlights the following reasons for service delivery diversification by these institutions:

• To maintain profitability in the traditionally growing competitive market,
• To reduce risk by less concentration,
• To benefit from economics of scope,
• To reduce excess capacity,
• To compete away cross-subsidies due to the presumed high profitability of bigger competitors.

It therefore follows that if the demand for these products is static, there would likely be a smaller volume for businesses, consequently lowering profitability. Campbell (1998, p.11) states that in the entire Europe, the high magnitude of selling financial services to the personal end consumer is focused on acquiring the new clients, with the assumption that the size and profitability are never factors to be considered.

It is therefore a little bit confusing, a paradox, that the profits of building societies and clearing banks in Europe soared up in the 1980, a time when it was expected to slow down due to the intensified competitive environment. Campbell, 1998, p.10) highlights the reason behind profitability by the banks as measured by ROA and ROE despite the paradox as;

• Through the endowment effect which ultimately raises the profitability in general
• Since the nature of business is changing in a manner that automatically generates profits without necessarily increasing the asset base
• The margins are raised on all businesses perhaps due to strong demand, and
• The asset mix changes where there is a switch from low to high margin assets as happened in the years 1986 and 1987, thereby increasing the ROA and declining margin

In the entire Europe, there is a general trend of the central bank as the lender-of-last-resort available to the building societies as well as banks. While the building societies have their own regulatory structure and attempt to diversify, the central banks in European states have taken an initiative to control the building societies purposefully for the national interest. For instance, if the depositors find themselves on the verge of losing their savings due to insolvency, the central bank may decide to salvage the situation either by compensating the individuals or bailing out the society, the latter being the most common practice around Europe (11).

Table 1: Europe’s banks and building societies’ rates of return (Adapted from Association of Building Society website)

Key:

• RRA- Rate of Return on Assets
• RRE- Rate of Return on Equity
• Rate of Return on Capital
• E/AR-Equity Assets Ratio
• C/AR-Capital Assets Ratio
• BS- Building Societies

Public perception

Owned and run by members who are the customers, building societies should be doing their marketing properly. With the mixed feeling about the current banking sector, accused of high charges and poor services, it is logically hard to rebuild the public image of the big high street banks. According to the report released by the Financial Ombudsman, since 2005, about 1000 new complaints concerning poor services and high charges are reported daily. A recent study indicated that 65% of Britons said they had no faith in their bank, justifying the low public opinion on the UK banking sector. Hefferman (2003) conducted a study and found out that the pricing behaviors on deposits and mortgages by demutualized building societies were more beneficial to shareholders than customers, and that the few remaining mutual building societies offered consistent and better rates [2].

Analysis of Mutual building society

In order to understand the financial might of the building societies, we will highlight a list of the current top 10 building societies in the UK as of March 2009 [5]:

Table 1: List of Building Societies in the UK (source: Association Building Societies website, 2007)

Note: the highlighted societies are not part of the corporate group, even though they may own other businesses in other sectors of the corporate world (Building Societies Association, 2007)

In their public relations efforts, mutual-building societies pride themselves on their lack of shareholders who would demand the share of profit, therefore living them with the option of re-investing or reusing all the profits to rebuild their union. For example, nationwide building society highlights on their website that they have calculated a figure of £5billion as the cumulative benefits drawn by the customers’ decision to remain mutual over the last decade (Pepper, 2004, p. 89). Could this be a marketing gimmick or a reality? considering the fact that mutual life insurers as well as pension providers have less ground in the UK, more so after the transformation of Standard Life to a PLC in the year 2006 (Ian, 2008, p. 55)

Windfall payoff attraction

Many of the building societies like Abbey National transformed into PLCs, with the force of attraction into this transformation being the members desire to get the big windfall payments that are given in the form of shares and cash in the company (Building Societies Association, 2007). However, many people were coming warily of this move as it was seen as opening ways for the “carpetbaggers”, a term used to describe those people whose motivation to join as members were mainly focused on picking up quick windfalls (Campbell, 1998, p.6). Some members used their voting rights to push for the demutualization while those who did not approve of it just waited for the demutualization to occur (7).

The proponent of the process fronted an argument that the members’ benefits that come as a result of demutualization far much surpass the other benefits derived from the mutual ownership. They are:

• The members’ ownership values were changed into cash payments or shares as happened when Scottish Widows was demutualized in the years 2000 that saw every member pocket averagely £6,000.
• Members are in a position to access capital since plc creates more opportunities for growth, with a possibility of raising share prices, putting even more value into the members’ windfalls.
• Cultural change; the nature of plc offers the possibility of cultural change in leadership by offering corporate governance best practices as well as encouraging the management teams accountability through a well-defined transparency and regulatory as well as shareholder oversight
• That the fact that directors are likely to start comparing their salaries with other directors from other limited companies meant that they (directors) would be working directly towards achieving the goals of the company hence a possibility of an upward trend (Building Societies Association, 2007)

On the contrary the opponents of the demutualization presented the following arguments against this process;

• That it reduces and devalues membership rights to mere shares, therefore meaning the one-member-one-vote culture that is fronted by the mutuality is unceremoniously lost. This gives way to the managers a leeway to manipulate and control all the issuers related to funds,
• Payment of dividends and the corporate costs; the shareholders normally demand a slice of the profits every half-year financial status revelation. Furthermore there are other extra costs arising from the plc status compliance criteria that eat too much of what the company expects to offer to its customers in terms of products and services they provide. The Building Society Association’s estimation is that an average of 30% to 35% more is used in the management and maintenance of plc as compared to mutuals,
• Conflict of interest; in the decision-making process, it may become difficult when the shareholders and the policyholders have conflicting views on the company’s way to success. For example, the amount of dividend to be paid may become an issue. Furthermore, the newly demutualized societies between 1995- 2000 had to bow down to pressure from shareholders who wanted cost-cutting strategy by dissolving about 24% of their branches. This is despite the fact that this action would directly affect the services offered to customers,
• Risk; traditionally, there is always potential pressure from the city that requires directors to sometimes unreasonably adopt a very ambitious growth plan, instead of focusing on the already available customers. If not properly managed, it can really backfire if not properly managed (Building Societies Association, 2007).

External environment for the UK banks and building societies sector

Changes in consumer behavior of this market

The mutually owned building societies in the United Kingdom went through drastic transformation in terms of the services they offered to their members/clients (Campbell, 1998, p.7). The transformation saw the ushering of permanent membership unlike the membership termination as used to be, thereby offering the financial services to its members that entailed accepting deposits and offering mortgage lending operations (8). Between the period of 1983 and 1992, there were significant changes in the financial services sector, precisely due to deregulation and the expectations on the eminent competition that consequentially impacted the consumer behavior (8).

The financial services sector has significantly changed over the last decades. Brought about by new legislation and the expected fierce competition, the changes have seen many institutions resorting to the user to be neglected marketing as the way out to fasten adjustment (Harris, 2000, p. 296). In essence, building societies are one of the sectors that have been placed in a hard rock situation of developing a marketing structure that would see them effectively undertake corporate performance seriously (298). In essence, they should have a marketing information system that would underpin as well as strengthen the concept of marketing more so at the implementation level (299)., Harris emphasizes that the present strategy to develop marketing information systems by mainly smaller building societies is likely to have short-term impacts in terms of intelligence in marketing (300).

In his study titled testing for expense preference behavior in the UK building societies: the implication for measures of scales and scope of economies, Hardwick (1996, 17), revealed that expense preference behavior is still present in the UK despite the competition offered in the retail financial services sector, thus posing a worrying trend in this market. The same study also revealed that building society still has its profits flexible, thus making profits despite the recent fierce competition from the traditional banking sector 21. This is simply because the public perception of larger conglomerates brought about by mergers and acquisition are simply meant to gain access to the recognized business rather than improve services to the customers of the societies (22).

A very notable event that ultimately reflected and ultimately transformed the consumer behavior is the financial crisis at Equitable Life, a company trusted with custody of UK life and pensions for quite a long time (Ian, 2008). The world’s oldest life assurer was pushed to the walls to close its doors to completely new business towards the end of 2000 after it lost a protracted legal battle at the high court related to their promised annuity to particular classes to policyholders over long number of years (Ian, 2008). Such events drew angry reactions from all quarters, with the harshest reaction coming from the government. When launching the report concerning affairs of the commission in 2004, Lord Penrose launched a scathing attack on the “maximum distribution” policies that rendered Equitably unsustainable, leaving it without enough reserve that would have seen them cover all its commitments, and consequently leaving the policyholders with significantly reduced pensions that would guarantee them life up to retirement (Ian, 2008). The common question that anybody would ask is that, in case Equitable was a plc, would things have been different? May yes or no, but the ultimate reasoning would have that “Equitable plc’s” shareholders would have demanded their full dividend, and reject any pay cut proposal (Morrison, 1997, p. 155).

In September 2007, crisis at Northern Rock (former building society demutualized to a plc bank in 1997) sparked panic among the savers (Ian, 2008). Northern Rock was forced to turn to Bank of England as a last resort lender after other banks maintained a cut in their lending (Morrison, 1997, p. 158). This sudden news sparked fear among the Northern Rock account holders who rushed to withdraw their savings. The assurance from the treasury that all the savings would be covered is what calmed the situation (159). These changes have therefore ushered in a new wave of customers who are more concerned about the safety of their savings everywhere, and not only in the mutual building societies.

Britannia Building Society

Britannia Building Society, headquartered in Staffordshire, England is the second largest building society (based on £36.8 billion asset value), and one of the only left UK mutual building societies (Building Societies Association, 2007). According to their website, www.britannia.co.uk, being a member of the Building Society Association, it provides direct financial services through the use of their more than 250 branches in the United Kingdom. It also provides mortgages, savings, and lending to the UK market. Recently it has entered an agreement with AXA that would see them provide pension, life protection as well as investment products. A new merger was also agreed on in April this year (2009) that would see it change its name to Co-operative Finance Services Ltd (web).

Brief history of Britannia

Historically tracing its roots all the way from the year 1856 under the name, Leek and Moorlands Permanent Building Society, Britannia has generally evolved from its former name as a result of several mergers (www.britannia.co.uk) For example the mergers between NALGO Building Society in 1960, followed by a change of name to Leek and Westbourne after the merger with Westbourne Park in the year 1995, 1974 merged with western countries, and finally the merger with Oldbury Britannia Building Society realized the present name to of Britannia Building Society (Building Societies Association, 2007)

Merger with CFS

The merger between Britannia and CFS has been planned for this year (www.britannia.co.uk). This merger is expected to bring together two successful financial providers that will create a business worth £70 billion of assets, 9 million customers and 12,000 employees. CFS, known for its strong banking insurance and investment prowess, combined with Britannia Building Society, is famous for its high street presence, and expertise on savings and mortgage (Britannia website). This merger is expected to bring about some notable changes, offering full services at their joint 300 branches, call centers based in UK, and over 20 corporate banking centers all over UK (Britannia website). According to the highlights of this planned merger as illustrated on the company’s website, in this new development, the depositors will be restricted to one maximum amount of £50,000 across an organization irrespective of the number of accounts held with that organization.

The recent employee satisfaction survey (2008) conducted by Times newspaper saw employees of Britannia voting in favor of the society, making it second in category of large companies (business times online). Britannia boasts of products such as savings, investments, mortgages, credit cards and insurance. According to the net income of about £49.3 million (December 2007) and employees reaching 5000 in number, it is no denying the fact that Britannia is a success story (Britannia website). What has made Britannia excel where many companies fail? Well many will argue that it has excelled due to the series of mergers and the diversification of its products. But most mutual building societies have diversified their products at the same time have consistently merged with other institutions. So definitely there is more into the above-speculated factors. According to the Britannia website, their policy statement states “At Britannia we believe in treating our customers fairly. Being a mutual building society means we are owned by our members, so:

• Our members have a say in how we are run
• We have no shareholders to answer to
• We have shared over £540 million in profits in the last 12 years.

This vision statement clearly illustrates their emphasis on one core value: customer focus- which is considered a crucial aspect of any successful business.

Building Society’s marketing

Following a series of mergers and acquisitions of the building societies, it has become an uphill task to market the current building society’s dual responsibility of financial custody and mortgage services. This is due to the poor public perception the general public has of the banking sector, as mentioned earlier, accused of high interest rates and extremely high charges for its customers. Furthermore, Heffernan’s (2003) study proved that demutualized societies have their pricing behaviors on deposits and mortgages more favorable to shareholders than to customers, while the few left mutual building societies still preferred for their more favorable rates to their customers.

To emphasize the preference of mutual building societies over the demutualized ones, initially only the deposits of up to £50,000 per individual or institution were protected by the Financial Services Compensation Scheme (FSCS). However, some building societies like Nationwide and Yorkshire have already negotiated a temporary scheme that would ensure that all their members are protected, irrespective of the amount deposited (Building Societies Association, 2007). This trend is likely to increase across the nation as more and more building societies strive to dissociate themselves from the “badly wounded” banking sector (Merrell, 2000, p. 25).

Merrell (2000, p. 26) observes that the financial service sector has witnessed significant changes due to new legislation as well as competition that have resulted in a situation where the market has become a place to adjust. The building societies in essence have been placed in a critical situation where they have to perform in the competitive corporate world (27) It is this scenario that has led to identification of marketing information systems as the bedrock to corporate performance (28). The effort to establish a market niche has seen many managers devising ways of acquiring and maintaining customers. This is as a result of the belief that customer focus is the only way to stay afloat in the globally competitive financial market that has been considerably affected by the falling prices. However, as Heffernan (2003, p. 33) observes, it’s not all about getting closer to customers that would save the financial sector. He elaborates that there are more into marketing than what appears at face value, that is, more strategic decisions are necessary to make the business leaner and focused thus deriving maximum benefits (Ennew & Waite, 1997, p 131).

Managing customers is one critical aspect of marketing that has practically eluded many demutualized building societies and the traditional banking sector (Harris, 2000, p.302). Harris explains that the process of managing customers and markets helps the business explore the market orientations that would ultimately illustrate the necessary things to do as a manager in order to build a reputation for the company (303). When well organized, customer management is critically important in that it would help in the recognition of ways to improve customer recognition and value, thus help in the evaluation of the competitive advantage, and ultimately identifying new structures, products and services that would give leverage in the competitive market (304).

The concept of cultural paradox is a very important criterion that must be considered in order to venture or establish a strong market share. Pepper (2004, p.67) in his study of cultural paradox states that how a particular group of people “think and perceive” is dependent on their own cultural orientation, thus describing the people to be the local market while the global market is the brand. Even though Pepper is trying to explain that local market should be treated separately from the global market, we have picked up the line of the local market to emphasize the UK marketing scenario. It is thus crucial to acknowledge that cultural perception of the financial service providers in UK (demutualized building societies included) are based on the people and not the brand. So should the building societies strive to build their brands at the expense of the people’s welfare or at the expense of good services? Paradoxically speaking, good brands are dependent on good services, so brand building should be focused on good services and of course good customer care.

Marketing history suggests that market segmentation is the cornerstone to a successful marketing strategy and has long acted as an important source of differentiation and competitive advantage as seen in the automakers like Volvo and Mercedes that have clear designs, pricing strategies, and branding methodology that allow them to focus to a specific market segment with a defined psychographic group of consumers (Buzzel, 1978, p. 141). The alternative to market segmentation is the unfocused generic strategy not particularly based on any specific needs and wants of the target market (149) symbolic of the UK financial service providers. Harris (2000, p. 304) examines the traditional monolithic technique branding in the UK financial service providers (the big four: HSBC, Barclays, NatWest, and Lloyds TSB). His findings indicate that the big four banks still wholly rely on branding their products under the parent name of the company, mostly described as “credential-based branding” that emphasizes the size, age, and experience of the company (305). For example, while some indication suggests that some form of segmentation influenced the branch openings and establishments, the marketing strategy remained one: appealing to all and sundry, who would be interested in owning the account (Morrison, 1997, p.160). This means that the size of the bank dictated the marketing ability of that bank, and that no attempt was made to understand and cater for the difference in needs and wants that traditionally exist between various consumer groups (161). That is, they don’t have any model of promoting a particular brand for their products hence leaving the consumer with no option of specializing in a particular product sold. The real challenge basically emerged when the merged and acquired building societies were also exposed to the same model of branding (163).

With the upsurge of online banking that makes it easy to segment the market, it would be more logical if these institutions changed their branding strategy and adopted a more conventional branding strategy that would guarantee their position in the market. The whole reliance on geographical segmentation alone should be a thing of the past as the market looks is more inclined towards psychographic segmentation as illustrated by Campbell (1998, p. 239). Campbell proposes that segmentation of the market should focus on the market segment’s financial sophistication, the decision-making process of the potential clients, and most importantly how much information processing is involved (244). He concludes that such are the parameters that would have substantial marketing stimuli and the designing and establishment of brand names. Morrison (1997) however proposes the use of all the branding alternatives, i.e. monolithic, endorsement, and sub-branding.

Short term marketing plans

Over the years, marketing concept has mainly focused on an attempt to attract customers, especially those new ones, described by the marketing fraternity as customer acquisition. However, lately many businesses have noticed that customer retention is equally important, in an attempt to build their reputation and most importantly increasing their turnover. It therefore calls for the managers of these building societies to have a clear decision making that would create a clear position in the competitive market to ensure their products and services are consistent with the overall strategy of the organization.

As much as the building societies may have long-term plans that would ensure their continuous presence in the market, they require more integrated short-term goals that can be achieved within a shorter period to pave way for the overall long-term goal. The organizations need to differentiate themselves with the core goals of delivering products to customers on a competitive basis. How can they do this without getting confused in this increasingly complex marketing matrix? Ennew & Waite (1997, p.172) proposes that besides the strategic plans for long-term goal achievement, the organizations need to have annual marketing plan to help them achieve the joined-up as well as coordinated approach to achieving short-term goals in the marketing strategy layout.

Even though there is no universally agreed criterion for setting up annual marketing plan, the building society organizations can adopt a common marketing approach to marketing planning derived from their individual strategic business plans (Buzzel, 1978, p. 142). Let’s say for example, a broad-based HSBC may decide to draw an annual marketing plan for its diverse products of mortgages as well as property finance products, completely separate from its pension range of products. Principally, the two separate products will be operating under the overall goal and the position statement of the bank; “the world’s local bank”, but at the same time they will be acting separately as unique products in their own segment of the market (144).

Improving business process

Business process implies the way in which the business services are delivered, which entails the policy guiding the deliverable services, procedure of delivery, degree of mechanism, and many more considerations Pepper (2004, p. 56).

1. Process; the heterogeneity of the services prompts quality management as well as control.
2. Inseparability indicates that the service provision process is likely to be visible to the consumer hence the necessity to practice flexibility such that the variation arising are taken care of.
3. The intangibility of services means that if the service delivery process will be considered by the customers as one way of good or bad service delivery in their general assessment

Pepper, explains that process is not only important to the distribution alone but also the pricing since it affects the monitoring and measurements of the cost of production. It’s therefore advisable for the building societies to carefully scrutinize the process of delivering the services such that they may use it to develop the sensible pricing criteria (61-62).

Conclusion

In the past few years, the future of building societies has witnessed an intense debate, with some people offering a scathing attack on its progress and future. The critics say that the building societies have been overtaken by events, i.e. they are “outmoded, anachronistic, Victorian institutions” with glorious past but lacking any role to play in the 21^st century (Furash, 1999, 37). The fact that significant number of building societies have been converted into banks or merged to offer the traditional services preserved for banks like the mainstream financial services is enough justification by its critics.

On the contrary, there is a surprising trend where there still exist over 65 mutual building societies in the UK alone (Building Societies Association, 2007). This fact disapproves the virtual critics and supports the proponents’ views who illustrate the direct focus on customer needs and wants, customers’ freedom from the requirement to pay dividends as seen in the listed banks, and the long term perspective are the key to success of the otherwise popular mutual building societies (Campbell, 1998, p. 8)

The fact that building societies operate under their own specific legislation, contained under the Building societies Act (1986), which did away with used to exist restrictions to the numbers and type of services adds value to the fact that they are integral part of the society in general, and more specifically to the UK market, which has practically lost faith in the banking sector (Building Societies Association, 2007).

Reference

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