Operations in Financial Service Businesses

Many nations include growing their financial serivces sector as part of their national service innovation roadmaps (see figure page 2 of http://www.ifm.eng.cam.ac.uk/ssme/documents/080428ssi_us_letter.pdf).   These nations may find a recent article of special interest.   Hatzakis, Nair, Pinedo (2010) have created a truly comprehensive article on operations in financial service businesses – a real “tour de force” and significant contribution to the emerging area of service science.

I especially like the summary Appendix A table that shows where research has been done, and where little research is available.   The table maps the process realm (retail banking, commercial lending, insurance, credit cards, mortgage banking, brokerage/investment advisory, asset management) for each of the operational processes (acquisition/origination, current customer portfolio management, delinquent customer) and strategic processes (product design, service/process design).

Some extracts that especially resonated for me below:

Hatzakis, ED, SK Nair, ML Pinedo (2010) Operations in Financial Services—An Overview. PRODUCTION AND OPERATIONS MANAGEMENT
Vol. 19, No. 6, November–December 2010, pp. 633–664.

“We provide an overview of the state of the art in research on operations in financial services. We start by highlighting a number of specific operational features that differentiate financial services from other service industries, and discuss how these features affect the modeling of financial services. We then consider in more detail the various different research areas in financial services, namely systems design, performance analysis and productivity, forecasting, inventory and cash management, waiting line analysis for capacity planning, personnel scheduling, operational risk management, and pricing and revenue management. In the last section, we describe the most promising research directions for the near future.” (Pg 633);

“Financial services firms are an important part of the service sector in an economy that has been growing rapidly over the past few decades. These firms primarily deal with originating or facilitating financial transactions. The transactions include creation, liquidation, transfer of ownership, and servicing or management of financial assets; they could involve raising funds by taking deposits or issuing securities, making loans, keeping assets in custody or trust, or managing them to generate return, pooling of risk by underwriting insurance and annuities, or providing specialized services to facilitate these transactions.” (Pg. 633);

“There are several unique operational characteristics that are specific to the financial services industry and that have not been given sufficient attention in the general treatment of services in the extant literature. We list below a number of these unique operational characteristics and elaborate on them in what follows: Fungible products with an extensive use of technology, High volumes and heterogeneity of clients, Repeated service encounters, Long-term contractual relationships between
customers and firms, Customers’ sense of well-being closely intertwined with services, Use of intermediaries, Convergence of operations, finance, and marketing.” (Pg. 634);

“Service systems design has attracted quite a bit of attention in the academic literature. It is clear that service design has to be as rigorous an activity as product design, because the customer experiences the service first hand, much like a product, and comes away with impressions regarding the quality of service. Although the quality of service delivery depends on a number of factors, such as associate training, technology, traffic, neighborhood customer profile, access to the service (channel access), and quality of resource inputs, the service experience gets baked into the process at the time of the service design itself, and therefore a proper service design is fundamental to the success of the customer experience.” (Pg. 638);

“Many service firms are measuring success by factors other than profitability, using such factors as customer and employee loyalty, as measured by retention, depth of relationship, and lifetime value (Heskett et al. 1994). Chen and Hitt (2002), in an empirical study on retention in the online brokerage industry, found that ease of use, breadth of offerings, and quality reduce customer attrition. Balasubramanian et al. (2003) find that trust is important for online transactions, because physical appearance of branches, etc. no longer matter in such situations. Instead, perceived environmental security, operational competence, and quality of service help create trust. In general, service quality is difficult to manage and measure because of the variability in customer expectations, their involvement in the delivery of the service, etc. In general, there may be two different measures of service quality that are commonly used: the first refers to and measures the actual service provided (e.g., customer satisfaction, resolution, etc.), the second may refer to the availability of service capacity/ personnel (e.g., service level, availability, waiting time, etc.).” (Pg. 639);

“Forecasting is very important in many areas of the financial services industry. In its most familiar form in which it presents itself to customers and the general public, it consists of economic and market forecasts developed by research and strategy groups in brokerage and investment management firms. However, the types of forecasting we discuss tend to be more internal to the firms and not visible from the outside.” (Pg. 640);

“Organizations, households, and individuals need cash to meet their liquidity needs. In the era of checks and electronic transactions, an amount of cash does not have to be in physical currency, but may correspond only to a value in an account that has been set up for this purpose.” (Pg. 645);

“Physical cash, i.e., paper currency and coins, remains an important component of the transactions volume even in economies that have experienced a significant growth in checks, credit, debit and smart cards, and electronic transactions. Advantages of cash include ease of use, anonymity, and finality; it does not require a bank account; it protects privacy by leaving no transaction records; and it eliminates the need to receive statements and pay bills. Disadvantages of cash include ease of tax evasion, support of an ‘‘underground’’ economy, risk of loss through theft or damage, ability to counterfeit, and unsuitability for online transactions.” (Pg. 646);

“In financial services, in particular in retail banking, retail brokerage, and retail asset management (pension funds, etc.), queueing is a common phenomenon that has been analyzed thoroughly. Queueing occurs in the branches of retail banks with the tellers being the servers, at banks of ATM machines with the machines being the servers, and in call centers, where the operators and/or the automated voice response units are the servers. These diverse queueing environments turn out to be fairly different from one another… ” (Pg. 647);

“An enormous amount of work has been done on workforce (shift) scheduling in manufacturing. However, workforce scheduling in manufacturing is quite different from workforce scheduling in services industries. The workforce scheduling process in manufacturing has to adapt itself to inventory considerations and is typically a fairly regular and stable process. In contrast to manufacturing industries, workforce scheduling in the service industries has to adapt itself to a fluctuating customer demand, which in practice is often based on non-homogeneous Poisson customer arrival processes. In practice, adapting the number of tellers or operators to the demand process can be done through an internal pool of flexible workers, or through a partnership with a labor supply agency (see Larson and Pinker 2000).” (Pg. 649);

“Operational risk in financial services started to receive attention from the banking community as well as from the academic community in the mid-1990s. Operational risk has since then typically been defined as the risk resulting from inadequate or failed internal processes, people, and systems, or from external events (Basel Committee 2003). It covers product life cycle and execution, product performance, information management and data security, business disruption, human resources and reputation (see, e.g., the General Electric Annual Report 2009, available at www.ge.com).” (Pg. 651);

“Financial services organizations expend serious efforts and resources on pricing and revenue management. Applications are diverse; they include the setting of: (i) interest rates (APR) on deposits and credit products, (ii) trading commissions, (iii) custody fees, (iv) investment advisory fees, (v) fund fees (which for hedge funds can be a function of assets and performance), and (vi) insurance policy premia. Pricing and revenue management are intertwined with many operations management functions in large financial services firms, because pricing strongly affects consumer demand for products and services, and customer attrition. Complicated pricing mechanisms can increase the volume of billing questions to call centers. All of these can have significant implications on how these products and services are best delivered (e.g., capacity issues, quality issues) as well as on cash (inventory) management.” (Pg. 653);

“In this paper, we have attempted to present an overview of operations management in the financial services industry, and tried to make the case that this industry has several unique characteristics that demand attention separate from research in services in general. We have identified a number of specific characteristics that make financial services unique as far as product design and service delivery are concerned, requiring an interdisciplinary approach. In Appendix A, we provide an overview table of the various operational processes in financial services and highlight the ones that have attracted attention in operations management literature. From the table in Appendix A, it becomes immediately clear that many processes in the financial services industries have received scant research attention from the operational point of view and that there are several areas that are worthy of research efforts in the future. These include each step in the financial product and service life cycle as well as in the customer relationship life cycle.” (Pg. 656);

Finally, I am keen to see what new financial instruments exist that might allow for buildings to be re-constructed every so many years… for example, luxury hotels may benefit from frequent reconstruction (see slide #25 in http://www.slideshare.net/spohrer/icsoc-20101208-v2, and the URL from the slide may be of interest in comparing asset management in luxury hotels to asset management in financial operations: http://www.youtube.com/watch?v=Hm7MeZlS5fo — some similarities dealing with a casino 🙂 ).  Recently, trying to come up with important KPI’s (Key Performance Indicators) for cities, I started researching what the service life of an average building is — what I found so far is surprising — the half-life of an average building’s service-life span is about the same as the average life-span of a person in the US, around 75 years – moreover, while technology is increasing the average life span of people, it appears to be decreasing the average life-span of buildings (more modern building materials are correlated with shorter life spans of buildings)… an interesting observation I think which can be generalized to other human-made things that are part of service systems benefiting from good ROI on investment in the technologic infrastructure supporting the service system:  http://www.softwoodlumber.org/pdfs/SurveyonActualServiceLives.pdf

Investing in run-transform-innovate of service systems will require new types of financial instruments, new processes in financial service businesses, and perhaps even new types of financial service businesses.

Leave a Reply