Case

Credit Francais


Case prompt

Credit Francais is a medium-sized French bank that is currently struggling due to diminishing interest earnings and increased cost of risk due to the slow recovery of the French economy. The CEO of the company is looking for ways to revitalize the bank and is currently evaluating two options proposed by the top management. The first option is to expand into the consumer credit market, something the bank has never done before: the Chief Marketing Officer argues that the market looks very attractive as high interests may be charged to the customers. The second option is to increase the penetration of asset management products, in order to increase revenue from commissions. Both options require a significant upfront investment.

The CEO called you in order to evaluate the two options and asked for a recommendation.


Detailed solution

Paragraphs highlighted in orange indicate hints for you on how to guide the interviewee through the case.

Paragraphs highlighted in blue can be verbally communicated to the interviewee.

Paragraphs highlighted in green indicate diagrams or tables that can be shared in the “Case exhibits” section.


Suggested case structure

Key question: How much is the return on investment of the two options?

Exhibit 1 

 
Suggested steps ranked by priority: 
  1. Return on investment: Firstly, the interviewee should inquire whether the decision is made on budget constraints and should understand that the key parameter to be evaluated is the return on investment
  2. Profitability analysis: Secondly, the interviewee should inquire about the differential revenue and the differential costs generated by the two initiatives, in order to estimate the differential profits for each of the two options
  3. Other factors: The interviewee should qualitatively discuss other factors that must be taken in consideration when evaluating the two options

      Make sure the interviewee understands that the key to the case is to compute differential revenue and differential costs for each of the two options and then compare them based on the Return On Investment.

      If needed, share Exhibit 1 with the interviewee


        1. Profitability Analysis

        This part of the case should be led by the interviewer, introducing the interviewee to the fundamentals of the banking sector.

        1. Banks’ revenue can be divided into two broad categories
          • Interest revenues, which are revenues deriving from lending money to customers at an interest rate that is higher with respect to the one that the bank pays on the money it borrows; these revenues may usually be computed as the outstanding loans times the interest rate
          • Commissions and fees, which are revenues deriving either from banking transactions (e.g., wire transfers, credit cards, etc.) or from investment products (e.g., funds, portfolio management, etc.)
        2. Banks’ costs may also be divided into two broad categories:
          • Administrative and operating costs, which are costs necessary to sustain the banks’ regular activity, including personnel costs
          • Credit cost, which is the cost related to defaults on loans; this is usually computed as cost of risk, expressed in basis points, times the outstanding loans
          • Cost of funding, which is the interest rate the bank pays on the money it borrows. For simplicity, this can be assumed to be zero throughout the case

        At this point, brainstorm with the interviewee the sources of revenue and costs for both the initiatives:

          • Expanding into the consumer credit market generates interest revenue, while there will be both some administrative costs for the employees and credit costs due to defaults on loans;
          • Increasing penetration of asset management products will generate commission and fees, while there will be some costs for additional personnel;
          • Both initiatives will require an upfront investment cost, mainly related to the marketing of the new product and the setup of the units. 


        a. Consumer credit market

        Share Exhibit 2 with the interviewee. It shows data to compute the additional profits linked to the expansion into the consumer credit market

        Exhibit 2: 

        The additional revenue in a given year generated by the consumer credit market may be computed as:

        𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=𝑐𝑎𝑟𝑠 𝑟𝑒𝑣𝑒𝑛𝑢𝑒+ℎ𝑜𝑢𝑠𝑒 𝑎𝑝𝑝𝑙𝑖𝑎𝑛𝑐𝑒𝑠 𝑟𝑒𝑣𝑒𝑛𝑢𝑒+𝑜𝑡ℎ𝑒𝑟 𝑟𝑒𝑣𝑒𝑛𝑢𝑒

        Additional revenue for each category may be computed as:

        𝐶𝑎𝑡𝑒𝑔𝑜𝑟𝑦 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑐𝑙𝑖𝑒𝑛𝑡𝑠∗𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑠𝑖𝑧𝑒 𝑜𝑓 𝑙𝑜𝑎𝑛∗𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒

        Thus:
        𝐶𝑎𝑟 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=20,000∗20,000∗6%=24 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
        𝐻𝑜𝑢𝑠𝑒 𝑎𝑝𝑝𝑙𝑖𝑎𝑛𝑐𝑒𝑠 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=40,000∗5,000∗7%=14 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
        𝑂𝑡ℎ𝑒𝑟 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=50,000∗10,000∗10%=50 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

        Total additional revenue is thus:
        𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=24+14+50=88 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛


        The interviewee should be able to understand that one piece of data is missing: the average employee cost of the consumer credit division. After he/ she has realized this, the interviewee should be told that the average employee cost is 50,000 EUR/year.


          The interviewee should at this point be able to compute the total additional costs related to the initiative:

          𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑐𝑜𝑠𝑡𝑠=𝑒𝑚𝑝𝑙𝑜𝑦𝑒𝑒 𝑐𝑜𝑠𝑡𝑠+𝑐𝑟𝑒𝑑𝑖𝑡 𝑐𝑜𝑠𝑡𝑠

          𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑒 𝑐𝑜𝑠𝑡𝑠=𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑒𝑚𝑝𝑙𝑜𝑦𝑒𝑒𝑠∗𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑒 𝑐𝑜𝑠𝑡=  (50+100+200)∗50,000=17.5 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

          𝐶𝑟𝑒𝑑𝑖𝑡 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑐𝑎𝑡𝑒𝑔𝑜𝑟𝑦=# 𝑜𝑓 𝑐𝑙𝑖𝑒𝑛𝑡𝑠 𝑝𝑒𝑟 𝑐𝑎𝑡𝑒𝑔𝑜𝑟𝑦∗𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑠𝑖𝑧𝑒 𝑜𝑓 𝑙𝑜𝑎𝑛 𝑝𝑒𝑟 𝑐𝑎𝑡.∗𝐶𝑜𝑠𝑡 𝑜𝑓 𝑟𝑖𝑠𝑘 𝑝𝑒𝑟 𝑐𝑎𝑡.

          Thus:

          𝑇𝑜𝑡𝑎𝑙 𝑐𝑟𝑒𝑑𝑖𝑡 𝑐𝑜𝑠𝑡=20,000∗20,000∗2%+40,000∗5,000∗2.5%+50,000∗10,000∗4%=
          =8,000,000+5,000,000+20,000,000=33 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
           
          Total additional costs are thus:

          𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑐𝑜𝑠𝑡𝑠=17.5 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛+33 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛=50.5 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

          The additional profit generated by the initiative is thus:

          𝑨𝒅𝒅𝒊𝒕𝒊𝒐𝒏𝒂𝒍 𝒑𝒓𝒐𝒇𝒊𝒕𝒔=𝑨𝒅𝒅𝒊𝒕𝒊𝒐𝒏𝒂𝒍 𝒓𝒆𝒗𝒆𝒏𝒖𝒆𝒔 −𝑨𝒅𝒅𝒊𝒕𝒊𝒐𝒏𝒂𝒍 𝒄𝒐𝒔𝒕𝒔=𝟖𝟖 −𝟓𝟎.𝟓=𝟑𝟕.𝟓 𝑬𝑼𝑹 𝒎𝒊𝒍𝒍𝒊𝒐𝒏

          b. Asset management products

          The interviewee should be able to understand that one piece of data is missing: the average employee cost of the consumer credit division. After he/ she has realized this, the interviewee should be told that the average employee cost is 50,000 EUR/year.

            Exhibit 3: 

            The interviewee should be told that the campaign will have the effect of switching a certain percentage of each type of customer from current low-revenue products to asset management products with higher revenue. In order to do this, the bank will need to hire new employees, proportional to the number of clients that have switched from the low-revenue products to the high-revenue products.

            The additional revenue for each client category may be computed as follows:


            (𝐴𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=𝑁𝑜.# 𝑜𝑓 𝑐𝑙𝑖𝑒𝑛𝑡𝑠∗𝐶𝑎𝑚𝑝𝑎𝑖𝑔𝑛 𝑃𝑒𝑛𝑒𝑡𝑟𝑎𝑡𝑖𝑜𝑛∗𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑎𝑠𝑠𝑒𝑡𝑠∗(𝐹𝑢𝑡𝑢𝑟𝑒 𝑟𝑒𝑣𝑒𝑛𝑢𝑒−𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑟𝑒𝑣𝑒𝑛𝑢𝑒) )


            Thus:


            𝑃𝑟𝑖𝑣𝑎𝑡𝑒 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=20,000∗20%∗500,000∗(0.8% −0.2%)=12 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

            𝐴𝑓𝑓𝑙𝑢𝑒𝑛𝑡 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=100,000∗10%∗200,000∗(0.5% −0.15%)=7 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

            𝑅𝑒𝑡𝑎𝑖𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=800,000∗5%∗80,000∗(0.3% −0.1%)=6.4 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛


            Total revenue is thus:


            𝐴𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒=𝑃𝑟𝑖𝑣𝑎𝑡𝑒 𝑟𝑒𝑣.+𝐴𝑓𝑓𝑙𝑢𝑒𝑛𝑡 𝑟𝑒𝑣.+𝑅𝑒𝑡𝑎𝑖𝑙 𝑟𝑒𝑣.=12+7+6.4=25.4 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛


            The interviewee should be able to understand that one piece of data is missing: the average cost of an asset management advisor. The interviewee should not use the same employee cost that has been used for the consumer credit division because the salary of an asset management advisor is higher. After realizing this, the interviewee should be told that the average employee cost is 80,000 EUR/year.

              The employee cost for a particular segment may thus be computed as:



              Thus:




              Total yearly costs and profits for the asset management initiative are thus:


              𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑐𝑜𝑠𝑡𝑠=6.4+4+3.2=13.6 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛


              𝑇𝑜𝑡𝑎𝑙 𝑝𝑟𝑜𝑓𝑖𝑡=𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑟𝑒𝑣𝑒𝑛𝑢𝑒𝑠 −𝑇𝑜𝑡𝑎𝑙 𝑎𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝑐𝑜𝑠𝑡𝑠=25.4−13.6=11.8 𝐸𝑈𝑅 𝑚𝑖𝑙𝑙𝑖𝑜𝑛


              2. Return on investment

              Interviewee should enquire about upfront investments costs

              Upfront investment costs are:

                • 30 EUR million for the consumer credit initiative
                • 8 EUR million for the asset management initiative

                  The ROI, measured in annual profit divided by investment (neglecting discount rates) is thus:



                  The interviewee should now inquire on the constraints that the bank has on its investments, in order to understand whether the recommendation should be based on the project with the highest annual profit or on the project with the highest ROI.

                    The interviewee should be told that the upfront investment costs would be taken from a “special projects” budget, which is pre-determined and not changeable. The budget is sufficiently large to accommodate either of the two initiatives (but not both of them at the same time) and the remaining part of the budget would be invested in a project with a 130% per annum ROI.

                    As we have budget constraints, investments should be ranked from the highest ROI to the lowest ROI. Thus, the company should pursue the asset management initiative and use the remaining money of the “special projects” budget for the alternative investment yielding a 130% per annum ROI.


                    3. Discussion

                    Prompt the interviewee to reason on ways to increase the total ROI of the “special projects” budget

                    A deeper analysis shows that each of the initiatives is actually made up by three “lower-level” initiatives, which could be carried out on a stand-alone point of view. Thus, the previous solution is not necessarily the one that will generate the highest ROI, because it has been identified by examining only two sets of possible initiatives. A more thorough analysis would thus require to compute the additional profits of each of the six initiatives, ask the interviewer to split the upfront investment costs into costs for each one of the initiatives and compute the ROI of each initiative. Then, initiatives would be ranked from the one with highest ROI to the one with lowest ROI (including the alternative investment) and would be chosen in order up to the cap of the “special projects” budget.


                    Prompt the interviewee to summarize the case in no more than two sentences

                    Summary:

                    Given our budget constraints and the alternative investments available, we recommend choosing the asset management initiative as it yields the highest ROI. The consumer credit initiative yields an higher yearly profit compared to the asset management initiative (37.5 vs. 11.8 EUR million), but, considering investment cost, has lower ROI (125% per annum vs. 148% per annum).


                    4. Other factors

                      Prompt the interviewee to focus on potential risks and other factors that should be considered

                      Several other factors could affect the revenue increase and the ROI:

                      1. Revenue increase:
                        • Strategic fit: Which qualitative factors would you consider in the decision (e.g., fit with the bank’s core business, easiness of finding adequate resources, etc.)?
                        • Regulation: How do you think regulatory issues should be taken in consideration in making the decision?
                        • Long-term scenario opportunities: Which one do you think is a better investment in the long-term: consumer lending or investment products? Which are the macro-economic variables that would influence this choice?

                      2. ROI discount rate: ROI has been computed without discounting future cash flows: how would this influence the decision?
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