Commercial Banking’s Untapped Pricing Opportunities

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The independent research firm Forrester has recognized BCG as a leader in AI Services. In its new report The Forrester Wave™: AI Services, Q2 2024, Forrester cites the distinct factors that we believe set BCG apart. These factors range from our visionary approach aimed at enhancing our clients' competitive edge with AI, to our transparent commitment to investments in R&D, technical development, talent quality, and industry-specific capabilities. You can read my full post and access the Forrester report here.

My Game Changer co-author Arnab Sinha recently spoke to the writers of BCG’s “Right Now” newsletter about the challenges and opportunities in dynamic pricing. You can read the full newsletter here.

In case you missed them, here are some posts since last week’s newsletter.

Don’t “wing it” in pricing: Pricing is not an area for improvisation, especially in sectors such as software. You can read the full post here.

Restaurants refine the Choice Game: They are getting as creative with pricing as they are with their menus. You can read the full post here.

Target cuts prices: Will the retailer’s recent price changes work? Success with price cuts is not so simple. You can read the full post here.

Playing the Cost Game makes sense for companies when certain market characteristics apply, such as when a fragmented supplier base sells standardized or commoditized products to large organizations. Too many sectors, however, default to some of the principles of the Cost Game when they should be playing an entirely different game. For this week’s guest contribution, we have asked our colleagues Cesar Torres and Lionnel Bourgouin to describe how to win in the Custom Game in commercial banking.

Commercial Banking’s Untapped Pricing Opportunities

Commercial banks have traditionally had a bias toward the twin objectives of volume and share. In most industries where that bias exists, a commodity mindset takes hold over time. That holds true even within banks that have differentiated capabilities. They default to “cost-plus” pricing mentality as they aim to meet return hurdles based on risk, cost of funds, and operating expenses. The result is a systemic underpricing of products and services.

In recent years, however, commercial banks have made pricing a top priority, after enduring pressures on deposits, regulatory cost increases, and rising operating expenses. The banks have realized the inherent constraints of cost-plus pricing and thus the need to play a different pricing game.

Most commercial banks are actually playing the Custom Game, because they negotiate discounted deals against heavy competition. Success in this game has quantitative and qualitative dimensions. It requires a bank to manage discounts and exceptions effectively, and it also requires that relationship managers (RMs) have confidence in the recommended prices. Banks that optimize prices with a Custom Game mindset can unlock significant upside. We have seen improvements between 10% and 15% in fee revenue and increases of around 15 to 25 basis points in loan margins when banks replace cost-plus pricing with disciplined discount negotiations.

Realizing these opportunities demands more than a mindset shift. Banks need robust AI-driven analytics to set discounting guidelines at the relationship level. They also need to place a strong focus on change management to ensure that RMs buy into the adoption of new pricing practices.

Combining the Custom Game and the Choice Game

The Custom Game is the antithesis of one-size-fits-all pricing, which is a common outcome of cost-plus pricing. As banks improve within the Custom Game and observe the power of price differentiation, they may notice that cost-to-serve may be high for some customer segments, resulting in a misallocation of resources. Some commercial banks are harnessing this as another pricing opportunity by playing the Choice Game with their smaller clients (SMEs) that have more standardized needs.

Developing standardized packages for SMEs brings several benefits to both parties. It simplifies and speeds up the sales process, lowers implementation costs, preserves price realization, and offers clients a more consistent experience. Playing the Choice Game with SME clients can yield an additional 15% to 20% improvement in margins, once the menu of options for SMEs has reached scale.

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