Financial services firms are trying to build the firm of the future, but their lack of progress is stoking deep scepticism among investors, according to Oliver Wyman’s annual State of the Financial Services Industry report.

Only 25 per cent of investors surveyed were confident that firms’ digital transformation strategies will be effective, and less than one per cent believed the plans were both clear and credible.

“The need to invest and build the firm of the future is pressing, but the window to deliver is closing and a reckoning is inevitable,” said Ted Moynihan, managing partner and global head of financial services. “While some breakthroughs are occurring, macroeconomic conditions are going to put a lot of pressure on investment in areas where there has not been a positive enough impact yet on the bottom line.”

According to the report, financial services firms spend an average of five per cent of revenue per year on transformation – but investors say they do not understand what firms are investing in, or why. Investors don’t receive useful metrics on progress, and they are distrustful of the cost-benefit case of significant technology investments.

The report found that 98 per cent of European banks mentioned ‘digital’ in their external communications, compared to only 27 per cent of analyst research reports.

This disconnect is happening at a time when valuation growth among BigTech and FinTech firms has eclipsed financial services. Since 2010, price-to-earnings ratio for FinTechs have steadily risen, with multiples now twice financial services firms. Banks have seen the price-to-earnings multiple fall from 14 times to 11 times.

In mature markets, low interest rates have already delivered cyclical revenue declines that are worse than any digital disruption. Oliver Wyman estimated that three quarters of the value erosion in European banking has come from macro factors and regulation, and only a quarter from new entrants, FinTechs and margin compression.

While revenue growth is low and macroeconomic conditions are deteriorating, the need for financial services firms to invest in transformation remains pressing. Challenging returns and overcapacity mean a step-change in productivity is often needed, according to the report. Longer-term, the increasing competitive pressure from technology companies will increase the pace of financial services offerings being brought to the market.

Right now, firms are struggling to get investment to their strategic priorities, with 40 per cent of change budgets still going toward mandatory regulatory changes, stated Oliver Wyman. “Light touch management of digital initiatives will come to an end, and a more disciplined, interventionist approach will emerge.”

The consultancy stated five key points for firms to get the balance right:

1) take a surgical approach to investment, avoiding me-too digital capability building;
2) focus on a smaller number of well-funded growth initiatives;
3) increase focus on productivity gains from investment in technology;
4) develop better science on how to measure and manage change; and
5) improve external communications so investors can better understand what drives performance and allow progress on long-term change to be tracked.

“Winning firms will need a mix of both the vision and value mindsets, but many will get the balance wrong,” concluded Moynihan. “Each company needs to find the right mix to bring vision and value together and agree on a path forward – all while the threat of BigTech looms, a recession may be coming, and investors are growing increasingly impatient.”

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