Covid-19 has made digitalisation a necessity for Thai banks

20 January 2021 4 min. read

The fate of Thai banks rests on medium to long term dividends on their digital investments, as Covid-19 cuts profitability. A new Roland Berger report presents the story so far, and the way forward.

In February, Roland Berger published a status report on Thailand’s banking sector – at a time when the Covid-19 economic impact was very much a peripheral issue. Profitability and returns on equity (ROEs) were key challenges even back then, mainly owing to hefty digital investments.

Thai banks entered 2020 amid what Roland Berger describes as the digital transformation “valley of no return” – where large sums being invested in the current term will take many years to yield dividends such as growth in revenue, efficiency and profitability. Key to surviving this interim period is cutting the cost base.

Impact of Covid-19 on Thai banks

Per Roland Berger’s February analysis, savings of just over $3 billion in the lead up to 2024 – 5% of the Thai banking sector’s total cost base – would have been enough to cross the valley of no return per se. This was before Covid-19. The firm’s latest analysis puts a cost saving imperative of around $6 billion on Thai banks – nearly 9% of their current cost base.

Covid-19 impact

The fact is that Covid-19 has been a major blow for banking around the world, and Thailand is no different. “Businesses and individuals are expected to be more conservative with their liquidity, growth investments and spending over the next years, posing a great challenge for banks in revenue generation,” explained Philippe Chassat, Roland Berger Senior Partner and head of its Southeast Asia Financial Services Competence Centre.

Compared to 2019, Roland Berger estimates a dip of 7% in operating income for Thailand’s banking sector in 2020. Credit losses are among the chief threats to profitability, with the non-performing loan ratio crossing 3% in the second quarter of last year. This boosts banks’ risk costs as well, spelling a challenging period for the sector – likely to extend well beyond 2020.

Required cost optimisation if digital investments pay dividends

“We estimate that the erosion of the return on equity is expected to worsen by a further decline of 1.1% in 2020 and 1.3% in 2021 with the prolonged effects of the pandemic,” added Chassat. And with many banks in the very middle of the valley of no return, there is limited liquidity to navigate these challenges.

“Existing rigid investment structures, in particular for digital transformation programs, along with the higher uncertainty and the overall deterioration of debt quality, will also directly impact the banks' bottom line,” explained Luca Turba, a Roland Berger principal in Bangkok.

So savings are of the essence – preferably around $6 billion worth by 2024. Yet, even this figure is riddled with risky assumptions. One is that the Covid-19 healthcare crisis will subside in 2021. The second is that government support for businesses will persist until the crisis subsides and the economy regains momentum. Neither of these scenarios has a reliable foundation for now.

Perhaps the biggest assumption, meanwhile, is that the heavy digital investments will yield the expected level of returns in time. Provided that digital dividends show up in numbers, Thai banks will emerge from the valley of no return with ROEs of over 8% – the healthy average for recent years.

Required cost optimisation if digital investments don't pay dividends

On the flipside, if digital investments fail to produce returns, ROEs would decline gradually and flatten below 7% by 2024 – a scenario where profitability will fast evaporate. And this is accounting for the billions in recommended cost savings.

Moving forward

According to Roland Berger, the only way forward is to move with the times. For all its challenges, Covid-19 has also thrown up some opportunities for the banking sector. For one, digital banking adoption has boomed, as physical retail and business takes a back seat. For banks, this is a chance to cut down on their brick & mortar presence – no doubt a source of substantial cost savings.

Technology can help here too. Leveraging the latest in data analytics, banks have an overview of their entire physical network and performance. “These tools offer banks the opportunity to define the optimal branch density and location to maximise profitability or revenue generation,” said Chassat.

For the branches that do remain, Roland Berger recommends tech enhancements to develop the “branch of the future” – where efficiency, customer experience, and omnichannel integration will all come together to deliver the maximum value for minimuim investment. With the fate of Thai banks resting on digital dividends, such strategic investments mark an optimal way forward.