Calling Card May 2012

Five Percent Efficiency ThroughExternal Spend ManagementNew Models to Build Capabilities andReduce Spend in Financial Services

This document is confidential and is intended solely forthe use and information of the client to whom it is addressed.

Booz & Company

Executive Summary

While managing cost is considered the new norm across the financial services industry, a return tohistorical performance in efficiency would require banks to rethink their approach to spendmanagement. The large and changing scope of external spend makes it a necessary and majorcomponent of any cost program.

Banks can reduce these costs by 10 to 20 percent and deliver a 5 percent or better improvement inefficiency while enhancing capabilities. Accomplishing this requires the use of these key levers:

– Manage discretionary spend as an investment pool– Build a demand management culture to eliminate waste– Restructure the supply base to access economics and capabilities– Manage supplier partnerships to capture efficiencies– Create a new operating model to sustain and enhance results

When you look at external spend with this new lens, you move expense management to theexecutive agenda. Your costs are no longer problems; they are now choices.

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Booz & Company

Note: The efficiency ratio (ER) measures what a bank must spend in order to make $1. The higher the ER, the worse the performance; ER = non-interest expense / operating revenue (expense calculatedas non-interest expense less depreciation and amortization of intangibles; revenue calculated as net interest income + non-interest income).Source: SNL Financial Data 1989-2011

To return to historical performance, banks must cut costs to lowertheir efficiency ratios

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The average efficiency ratiofor mid-cap banks since 1989has been 60%

As of 2011, it is 64% and stillclimbing

To return to historicalefficiency ratios between57% and 60%, a typical bankwould need to reduce costs by7% to 12% or grow revenueby 10% to 15%

Each point of efficiencyimprovement will require a2% cost reduction

Efficiency Ratio

Efficiency Ratio for 18 Banks(Midsized: Asset Size $50M - $350M)

2011200919941989 20041999

Average Efficiency Ratio

50%

60%

70%

HistoricalAverage

Best in Class

64

6160

63

585859

60

59

5758

575757

5758

606059

60

61

6262

Booz & Company

The large and bifurcated nature of external spend presents a realopportunity—for cost savings and capability building

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Cost Profile of Typical Bank

12%

Foreclosure & Repo

1%

Amrt & Goodwill2%Interest Expense

Comp & Benefits

40%

External Spend

45%

For a Typical Bank, External Spend ComprisesNearly Half of the Total Cost Base

Spend Is Bifurcated … Banks Must Manage Large SupplierRelationships and Fragmented Spend

Source: SNL Financial Data 1989-2011; top 15 midsized banks; Booz & Company experience and analysis

Spend (%)35

30

25

20

15

10

5

0

Supplier Distribution by Spend

0% 100%Suppliers by Size (%)

<$00K/year<$000K/year

<$KM/year

$XM-$YM/year

>$YM/year

Long tail of small,transactional

suppliers

Concentrated set oflarge, strategic

suppliers

MinimizeTransaction &

Management Costs

Maximize Joint ValueCreation (Productivity,

Capability, Innovation, etc.)

Booz & Company

Most banks still address spend through price and cost – higherimpact comes through demand and value levers

Increase coverage of spend Basic cost insights Credible threat to switch

supplier– “Designed-in” competition– Consistent messages

Auctions Multiyear target commitments Timing of the buy

Rationalize supplier base Switch to cost-advantaged suppliers Manage drivers of total cost of

ownership, to reduce internal costs Reduce internal process burden to

manage supply and transaction flow Streamline logistics/processes at

supplier interface

Reduce consumption Reduce/standardize specification Use industry standards instead of

custom designs Switch to substitute technologies

with desired functionality Leverage supplier innovation

capabilities

Find appropriate make/buy/outsource balance acrossvalue chain

Supply base restructuring Influence product mix/regional

preferences to favor products withgreater supplier base leverage

Ongoing supplier development setagainst “should be” cost andperformance targets

Enhance operating model to sustainimpact and efficiency

Procurement Function EnablesProcurement Function Delivers

Procurement Role

“Traditional” supplier-facingprocurement role

Lower Impact

“Nontraditional” skills increasingly requiredto influence internal stakeholders

Higher Impact

PriceLevers

ValueLevers

DemandLevers

CostLevers

Transformational Opportunities

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Build a DemandManagement Culture

Proactively ManageDiscretionary Spend

EstablishNew

SourcingOperating

Model

A fundamental rethink is required to get the most from externalspend—five levers to achieve five points of efficiency

Establish a robust program thatcaptures value

Build vendor managementcapabilities into normalbusiness operations

Invest the same level ofresources and commitmentexternally as you wouldinternally

Establish strong relationshipsbetween procurement andbusiness partners …

… to facilitate demanddiscussions during businessplanning

Establish KPIs that providestakeholders with insight intotheir demand trends

Think higher in the bill ofmaterials

Leverage supply base toaccess new/differentiatingcapabilities

Select suppliers to play in their“sweet spot,” but be aware offull complement of serviceofferings

Approach with an “investor’seye”—make explicit investmentdecisions

Proactively manage thespend—establish KPIs andmeasure results

Hold executives accountable

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2 3

4

Rethinking External Spend Management:5 Key Levers for Financial Services

20%-40% savings

10%-20% savings5%-25% savings

Restructure YourSupply Base

Near-Term Savings Longer-Term/OngoingNote: Savings opportunity is applicable to addressable spend for that opportunity lever.Source: Booz & Company analysis

Manage SupplierPartnerships

2%-5% savings

5

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Using this approach, 10% to 20% of external spend can berestructured or eliminated

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2%

2%

6%

1%

1%

3%-9%

3%-5%

Demand Management

3%

80%-90%

-10%

-20%

Resulting Spend

10%

80%

Supplier Management

1%-2%

Supply BaseRestructuring

3%

Discretionary Spend

2%-4%

2%

Total External Spend

100%

Savings Potential by Key Lever ($M)

1 2 3 4

Source: Booz & Company experience and analysis

EXAMPLE

High Savings OpportunityLow Savings Opportunity

Thereafter, sustainable annual savings of 3-5% or more should be achievable

Booz & Company

Discretionary spend is an investment pool, not an expense—manage it proactively at the enterprise level

$145$130

$100

+20%

Year 3Year 2Year 1

Discretionary Spend Year-over-Year GrowthClient Example: U.S. Regional Bank Without Active Management

($ Million)

Discretionary Spend1

Discretionary Spend TrendWith Active Management

-25.0%

Year 3 Target

75.0%

Year 2 Target

70.0%

Year 1 Actual

100.0%

Discussion

Discretionary spend is defined by categories thatthe business can “dial-up/dial-down” (e.g., travel,consulting, charitable contributions)

Executives should view discretionary spend as an“investment pool” vs. an “expense pool” …

… and strategically manage their decisions basedon the best “investment” for the bank

Unchecked, “discretionary” spend will grow year-over-year

A “lights-on" approach that deploys targetedpolicies can reduce non-revenue-relateddiscretionary spend

To manage the spend effectively, structureddashboards/scorecards should be developed andshared with stakeholders regularly

Putting a robust discretionary managementprogram in place can yield 20% to 30% savings

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Source: Booz & Company experience and analysis

Booz & Company

Demand management delivers savings in alignment with thedegree of change/effort the organization is able to make

Demand Management2

Demand Management Cost Potential Matrix

Conservative

Aggressive

Level ofEffort

Lowest GreatestSavings

ReduceQuantity

Eli-minateDemand

ReduceRequirements

EncourageSubstitution

ReduceFrequency

Heighten CostAwareness and

TightenPolicies andStandards

ImposeApprovals

andTighten

Procurementand

MonitoringProcesses

Critical SuccessFactors

ExecutiveCommitment

BenchmarkingBest Practices

Technology &Tools to Manage

Tracking &Measuring Results

ChangeManagement

EliminateDemand

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Supply base restructuring can enable access to best-practiceeconomics and differentiating capabilities

Insourced Outsourced

IT &Communications

Real Estate

ProfessionalServices

BusinessServices

Other G/A

Make-vs.-Buy Decisions Across SpendTypical FS Institution

Percent of Spend

Supply Base Restructuring3

Why the Move from Make to Buy? Cost advantage: To take advantage of the wage-

rate differential between the manufacturers and thesupply base

Superior competency: Over time, serviceproviders offered a degree of sophistication that in-house specialists could not match

Asset transfer: Selling assets to suppliersimproved the balance sheet and gross margins (dueto superior supplier competency)

Utilization improvement: Suppliers utilized unusedcapacity by selling to other firms, lowering theoverall cost of goods and services

Economies of scale: Concentrating on fewercapabilities and pooling demand helped supplierscreate economies of scale for Original EquipmentManufacturers

Business risk mitigation: Customers andsuppliers collaborated to reduce business risks suchas inventory obsolescence and stockouts

0% 100%

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Booz & Company

Financial services is following the lead of other industries toestablish an integrated, tiered supply base

Supply Base Restructuring3

Supplier Structure Model

Existing Supplier Landscape

In-HouseBusiness 3

In-HouseBusiness 2

FM FMFM MA MAFM PM PMPM PMPM

In-HouseBusiness 1

FM FMFM FM

High fragmentation in Tier Two interfaces

MAMA PM PMPM PM PM

Multiple Tier OneInterfaces

PM PM

Tier 2 Tier 2 Tier 2 Tier 2 Tier 2 Tier 2

Portfolio A Portfolio B

In-House CentralProperty Team

Multi-Service ProviderTier One

Multi-Service ProviderTier One

1 2

Office focused

Branch focused

1

2

Tier TwoTier TwoTier TwoTier TwoTier TwoTier Two

New Integrated Supplier Model

Supply Structure Considerations The supply base is changing, relying more and more

on outsource partners for the delivery of both non-core services and core operations

The structure of this supply base is changing too,evolving to resemble the tiered structure typical ofan automotive Original Equipment Manufacturer

The benefits of developing Tier One suppliersinclude:– Necessary scale and network– Capable of continuous innovation, coverage of

multiple technologies– Cost competitiveness

Success factors include:– Capable network of partners and Tier Two

suppliers– Appropriate scale to offer broad range of

capabilities required from a systems supplier– Innovation to avoid cost pressure and keep up

margins

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Booz & Company

Vendor management ensures sustainability and advantage beyondthe deal

Vendor Management4

Setting theAgenda

PerformanceManagement

Governance

PartnerSegmentation

Key Elements Description

Framework to guide productive discussions withsuppliers to drive desired outcomes

Four key elements: relationship review, improving ondelivery, opportunities for growth, joint planning

Systematic approach to managing vendor performance todrive consistency across the org

Three key elements: performance measurement, contractmanagement, risk management

Holistic operating model outlining the level of “touch” andprocesses, tailored to each relationship type

Clear delineation of roles, responsibilities, and processesto manage each relationship type

1

2

3

4

Clear segmentation of the supply base based on spendand criticality

Balances capturing a significant portion of the spend withincluding a manageable number of partners

Key Changes for Success

Establish a robust vendormanagement (VM) programto capture value and buildcapabilities from vendorrelationships

Embed VM capabilities in thebusiness operations, not justas part of the procurementfunction

Invest the same level ofcommitment and resourcesexternally as you wouldinternally

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Sourcing operating model—define the right organization constructto align the team

Sourcing Operating Model5

Best-practice strategic sourcing organizations focus on three capability areas to delivervalue to business partners, efficient delivery, and ongoing improvements

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Major Areas for Sourcing Organization

Category Strategy - develop the categorystrategy and drive the execution throughimplementation at the BU level

Category Expertise - develop andmaintain deep category expertise

Stakeholder Relationships - ensureintimate understanding of businessneeds

Category Performance - establishtargets/ goals and track performanceagainst them

Coordination - coordinate strategy-related activities with operations team

Process Standardization - championstandardized processes & methodologies

Organizational Talent - manage humancapital, professional development andgrowth

Vendor Management - identify supplierdiversity opportunities, develop andmaintain contracts, manage vendor qualprocess

Event-driven support - provide sourcingevent support, with a focus on processadherence & e-sourcing tools

Systems & tools – support implementationand management of tools

Thought Leadership - drive leading-edgethinking around on-going topics (e.g.BCC sourcing, market intelligence)

Best Practices - work with category leadsto implement best practices & next-levelchange

Analytics - provide advanced analyticalsupport and spend analytics

Strategic Projects – plan & executeprojects to enhance org capabilities, e.g.,SRM,

Value Measurement - track & reportperformance metrics & provide ad-hocanalysis, and link to finance

Center of Excellence

Drive advanced analytics andrelated capabilities on an on-going

& project basis

Procurement Operations

Ensure efficient & effectivestrategic sourcing processes &

support functions

Category Sourcing

Develop and execute categorysourcing strategies jointly with

BU / Functions

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Enhance the three key supply management capabilities

Sourcing Operating Model5

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IdentifyOpportunities &Build Business

Case

ApproveBusiness Case

ManageSourcing Process

& RefineBusiness Case

SelectProvider &NegotiateContract

Manage &Execute

Transition

ManageDay-to-DayOperations

Support Businessin Requirements

Planning

Support Businessin Managing

Demand

DevelopCategoryStrategies

Manage SourcingProcess

SelectProvider &NegotiateContracts

Support Day-to-Day

PurchasingNeeds

Set PartnerAgenda

Determine PartnerSegmentationDesignation

EstablishPartner

OperatingModel

ManageOn-going

PartnerPerformance

Outsourcing

Sourcing/Procurement

Vendor Management

Key Capabilities

CategoryManagement

ContractManagement

RiskManagement

ProcurementOperations e-Procurement

Key Capabilities

ChangeManagement

RiskManagement

ProjectManagement

CommunicationsPlanning

TalentManagement

Key Capabilities

ContractManagement

RelationshipManagement

RiskManagement

PerformanceMeasurement

Key Activities

Key Activities

Key Activities

The end-to end process to identify and execute the outsourcing oflarge/complex business operations

The process to aid Business stakeholders in identifying supply strategiesand procuring products & services to support daily operations

Managing strategic partnerrelationships for business

outcomes to maximize value

Booz & Company

Increase engagement with the business; change “red zones” to“green zones”

Sourcing Operating Model5

Typical company

Procurement’sview of procurement

View of procurement heldby other stakeholders(including top management)

Performance Mgmt/Tracking

OrderProcess

Mgmt

ContractMgmt

VendorSelection& Negot.

SourcingStrategy

Dev.

DemandMgmt

Reqmnt.Planning

On-GoingValueMgmt

RealEstate

IT &Telecom

Marketing

Corp.Services

BusinessServices

OVERALL

Performance Mgmt/Tracking

OrderProcess

Mgmt

ContractMgmt

VendorSelection& Negot.

SourcingStrategy

Dev.

DemandMgmt

Reqmnt.Planning

On-GoingValueMgmt

RealEstate

IT &Telecom

Marketing

Corp.Services

BusinessServices

OVERALL

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There is no one “right” way—one of three approaches will workbased on the opportunity and change required

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Three Approaches to Delivering the Benefits

TransformationalProgram

Run the effort programmatically and outside procurement

Engage business stakeholders and senior management

Prioritize the opportunity and address in waves to build momentum

Integrate the capability and opportunity road map and manage change throughout

Focus on a SpecificOpportunity Lever

Address one lever at a time to maintain focus and sustainable impact

Prioritize the effort to ensure it’s not “just another project” on the list

Think holistically and implement the solution across relevant enterprise spend

Engage a cross-functional team, beyond just procurement, to gain the necessarybuy-in

AddressSpecific Functional

or Spend Area

Strategically select the area to align with business needs and/or priorities

Address all opportunity levers to ensure maximum impact

Engage key stakeholders early and throughout the effort

Booz & Company

Lessons learned by banks making this transition

Put third-party spend management on the executive agenda: Big impact requires “big”attention

Make it worth the effort: If it’s too easy or too small, it won’t get the necessary attention or beworth the change required

Manage the opportunity at the top and “outside the lines”: It’s an enterprise problem, not aprocurement-, function-, or line of business-specific problem

Become capabilities-centric: Look beyond the answer to develop the supporting skills andongoing operating model

Manage the change: Mitigate risks and drive adoption by understanding the impact on allelements of the operation—people, processes, governance, and tools

Continue to make the effort: It has to be sustainable; the solution isn’t “once and done”

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When companies have followed this approach, they have realizedsignificant savings

Supplyrestructuring and

deployed newmodel—20%

savings

Strategic sourcingdirect-mail programat a Tier One bank

Conducted enterprise-widedirect-mail marketing spendand spec baseline across 13distinct business units andnearly 800 unique specs

Identified demand-side,process, and supply-sideopportunities and quantifiedsavings estimates associatedwith each lever for threecategories

Implemented a comprehensivestrategic sourcing processincluding distribution of anationwide RFP, suppliernegotiations, and creation of apreferred vendor base toachieve savings

Project Description Impact

30% annualsavings achievedover an 18-month

period

Demand managementand sourcing program

at a major bank

Performed a comprehensivereview of IT, marketing,operations, and HR spend toidentify savings opportunities

Identified demandmanagement opportunitiesand developed a program,outlining policies andprocedures to moreeffectively manage demand-side requirements

Implemented a reorganizationto align the sourcingorganization with businessunits for effectivemanagement of spend

Established astructure torealize ~10%

savings withinone year

Strategic sourcingprogram for leading

bank

Conduced spend baselineand categorized externalsexpenditures across the bank

Identified areas of opportunityand potential savingsestimates for several spendcategories; Identifiedcapability-building prioritiesfor sourcing team

Developed implementation plansfor each commodity; Createdand implemented strategicsourcing organization structure,including senior team buy-in andsourcing team training

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Booz & Company

ChicagoLisa MitchellPrincipal+1-312-578-4802lisa.mitchell@booz.com

Florham Park, NJPat HoustonPartner+1-973-410-7602pat.houston@booz.com

New YorkJodi MillerPrincipal+1-212-551-6639jodi.miller@booz.com

Contact Information

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Booz & Company is a leading global management consultingfirm focused on serving and shaping the senior agenda ofthe world’s leading institutions. Our founder, Edwin Booz,launched the profession when he established the firstmanagement consulting firm in Chicago in 1914. Today, weoperate globally with more than 3,000 people in 60 officesaround the world.

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