Tuesday, November 01, 2005

Scotiabank Aims to Grow its Wealth Management Business

  
The high-performing bank wants to double this side of the business to claim its “natural market share”

Investment Executive, James Langton, November 2005

Bank of Nova Scotia has been one of the best-performing banks over the past several years, with one key exception — its wealth-management division. Now the bank has big plans for this part of its business, but it faces an uphill climb in its bid to move up the wealth-management rankings.

Among the Big Five banks, Scotiabank’s core business has been a standout. Given domestic constraints, the Big Five have looked outside Canada for expansion. Most of them have looked to the U.S., and have struggled with their strategies. They’ve also faced a variety of compliance and legal problems, with Royal Bank of Canada the latest to indicate it’s taking a US$500-million provision for ongoing Enron Corp.-related litigation.

But Scotiabank has steered clear of these issues and — by avoiding the U.S. and focusing on less developed markets — it has done an impressive job of global expansion. Its domestic wealth-management business, however, has been a noticeable laggard. Among the Big Five, Scotiabank fields the smallest wealth-management unit.

In an investor presentation held in mid-October, the bank revealed that, based on revenue, its wealth-management division has just a 7% market share. This is far below the 15% it considers to be its “natural market share,” based on the size of its other businesses.

How did it fall so far behind? For one, it has long had one of the smaller sales forces among the bank-owned dealers. For many years, BMO Nesbitt Burns Inc. and RBC Dominion Securities Inc. battled aggressively for status as the country’s biggest brokerage firm. They were both surpassed by CIBC Wood Gundy when it snapped up the retail sales force of a retreating Merrill Lynch Canada Inc. That left TD Bank Financial Group — which went its own way, building a full-service sales force from scratch — and Scotiabank with the smaller sales forces. Royal Bank and TD have also both enjoyed tremendous success with their asset-management businesses.
So, compared with its chief rivals, Scotiabank has been a bit lost in the shuffle in terms of scale and strategy.

Now Scotiabank is taking up the challenge. It is investing heavily in its wealth-management business in an effort to win back its “rightful” market share. At the investor presentation, which covered the bank’s overall domestic strategy, Scotiabank outlined plans to grow the wealth-management business by hiring new advisors, spending on training and technology, seeking acquisitions and pulling investment dollars from its large retail banking client base.

Tapping into an existing client base and cross-selling products is a challenge with which all the bank-owned dealers grapple. It has often proved easier said than done. Scotiabank does have significant assets to exploit, but it remains to be seen whether it can successfully pull it off.

Bank executives are constantly tweaking their referral systems and pronouncing them effective. But the reality on the ground is often the opposite. Cross-selling investments is no easy task. Although price can swing the sale of a product such as a mortgage from one bank to another, moving a brokerage account is a different proposition.

As CIBC World Markets Inc. explained in a report following Scotiabank’s presentation: “It makes sense to us that the borrowing needs of a customer are more prone to being shopped and, therefore, market share is more easily lost or gained in the lending marketplace. However, the investing business is even more relationship-driven in our view, which leads to materially stickier assets.

“Stealing market share is difficult at the best of times,” CIBC adds. “Unless Scotia can create a material competitive advantage through product innovation (typically short-lived), service excellence or building a larger sales force, growth in share will be a challenge.”

Scotiabank seems intent on trying all those avenues to gain a competitive advantage. Its Executive Vice President of wealth management, Chris Hodgson, says ScotiaMcLeod plans to hire about 200 full-service advisors over the next couple of years, increasing its advisor force to more than 1,000 by 2008. The parent also aims to double the retail bank’s investment sales force over the next few years, freeing up the 300 full-service advisors who cover bank branches to seek more new clients. He suggests that in 2006 these advisors will go from spending about 10% of their time on external sales to 50%.

Hodgson also suggests that the bank has invested in products and support systems to enhance its chance of effectively cross-selling. This means new investment products for the bank’s branches, including proprietary funds and external products; beefed-up training; more financial planning tools; and new technology for advisors’ desktops. New contact management and portfolio management software will be rolled out in 2006.

Scotiabank advisors have long griped about technology in Investment Executive’s annual Brokerage Report Card. It was an issue in the latest version of the survey, conducted earlier this year. Scotiabank ranked third among the Big Five bank-owned dealers. This was only good enough for ninth spot overall, though, as advisors at the independent dealers showed far more love for their firms.

While new technology always holds the promise of improving efficiency and enhancing productivity, advisors are often rightly leery. Large new rollouts always carry implementation risks and new technology often doesn’t live up to its promise. So, how much productivity improvement can be wrung from the existing sales force through new technology is a big question.

Bulking up the sales force will certainly grow revenue, but this isn’t an easy task, either.

Much of this growth will probably come in the form of new recruits who require training. Many recruits will be unproven as salespeople, and the risk is that some will fail; the really good ones could move on to more entrepreneurial shops.

Also, growing by recruiting new advisors is a considerable challenge. In its report, CIBC recalls that Scotiabank delivered an investor presentation in 2001 that highlighted similar opportunities for growth. Back then, Scotiabank predicted it could grow its sales force from 850 advisors to almost 1,300 in two years. But, four years later, it only has about 840 advisors. “Clearly growth of the channel is not easy, and we don’t believe it gets any easier from this point forward,” CIBC notes.

The CIBC report also suggests that Scotiabank may be asking too much from its branch-based sales force. CIBC reports that in 2001 Scotiabank experienced a “significant challenge” in having branch staff handling an average of 240 households each. “Now the bank expects the sales force to manage 500 households at a peak load.

This appears to us to be a significant challenge if the bank wants to achieve more than maintenance activity,” the CIBC report says. “While we suspect Scotia’s technology can provide an edge in attempting to be proactive, the caseload will probably result in a reactive sales force.”

Scotiabank certainly seems to recognize the challenge of growing its sales force organically. It is willing make acquisitions to complete its expansion, it says. Analysts estimate that Scotiabank is sitting on almost $5 billion in capital that could be spent on acquisitions. Hodgson suggests the bank is looking for deals large and small, from significant to secondary and in every area of the wealth-management business — from asset management to distribution — as well as high-end investment-counselling types of businesses.

However, having the appetite and resources for deals is easier than finding suitable and attractive acquisitions. “While we have diligently sought out acceptable targets and looked at several potential opportunities over the past year, we have not yet found the right target at the right price,” Hodgson notes.

This is a familiar refrain in the Canadian retail investment business. The asset-management business looks to have plenty of excess capacity and be ripe for consolidation, yet appealing deals are few and far between. The largest firms in the mutual fund business either have very large foreign parents or are so closely held that it would be hard to pry them free. Smaller firms abound, but there are few that are big enough to make a meaningful difference to the bottom line or to justify the inevitable risk and pain of integration.

Similarly, on the distribution side, the significant players are mostly bank-owned, foreign-owned or closely held — all conditions that make meaningful acquisitions a significant challenge.

“We will continue to seek opportunities to invest our capital by acting judiciously and with discipline and conviction when the opportunity is right,” Hodgson pledges. “While a key component of our focus is a significant domestic acquisition, we will also be looking at targeted ‘bolt on’ acquisitions and strategic alliances, which could include joint venturing and/or white labelling.”

An acquisition is a quick way to build scale, but could prove difficult. “In our view, gaining new customers is probably the key for [Scotiabank] and critical in wealth management,” notes Blackmont Capital Inc. analyst Darko Mihelic in a report. However, he suggests, Scotiabank’s hiring plans aren’t likely to “affect near-term results meaningfully.... Acquisitions are possible, but its track record suggests unlikely.”

Notwithstanding the challenges, Scotiabank has grown its wealth-management revenue over the past couple of years. “The performance of the wealth-management subgroup has been a quiet strength for Scotiabank in 2005,” notes Genuity Capital Markets Ltd. in its report on the meeting, noting Scotiabank’s wealth-management business has recorded double-digit revenue growth, well ahead of its rivals.

In his presentation, Hodgson suggested that the group would generate about $930 million in revenue for fiscal 2005. But the opportunity exists for the bank to more than double that by reaching its “natural” market share. Even so, achieving this ambitious goal would only put it on par with the fourth-ranked bank in the wealth-management game.

If there’s a silver lining, it’s Scotiabank’s massive potential for growth. But, given the ferocity of the competition, living up to that potential won’t be easy.
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