What's with The Woolwich?

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John Stewart, the chief executive of the Woolwich, makes an unlikely guru of Internet banking. There is something rather incongruous about the way this avuncular Scotsman in pinstripes and red braces slips effortless into Silicon Valley jargon as he describes his attempts to turn a former South London suburban building society into the model "new economy" financial services factory.

For the last 18 months, the 48-year-old has been bending the ear of anyone who would listen about how technology was transforming his business. One colleague said: "Most investors thought he was barking." Recently, there have been signs that his message is getting through. Stockbroking analysts and management consultants who a year ago would have dismissed the Woolwich as an example of a business destined for the corporate scrapheap are now flocking to hear Mr Stewart's recipe for growth.

What many people find refreshing about Mr Stewart is that he is one of the few people running a bank who seems to have a clue what it feels like to be a customer. "If you have been going to a restaurant for 20 years, you'd think they'd know what you like to eat what you like to drink. But if you borrowed from the same bank for 20 years and you walk into your branch and ask for a mortgage they give you a form to fill in."

For years, the conventional wisdom in the City has been that there is nothing wrong with the banking sector that cannot be solved by aggressive cost-cutting mergers. But Mr Stewart believes banks are not built to understand their customers, but built around products. "We are product- obsessed." The traditional bank is organised in big stand-alone product "stovepipes" - mortgages, consumer finance, retail banking. "Some credit card divisions are companies in their own right."

This obsession with products misses the point, he says. "It does not help the customer. The customer gets separate mailings but is not treated as a customer. People don't want banking products. [Those products] are just enablers for what people want - a home, a car, a washing machine, a holiday. Banking products are as dull as dishwater."

The old-style thinking is reflected in how conventional banks are tackling the challenge of the Internet. Some, such as the Halifax or the Co-operative Bank are rushing to launch stand-alone Internet banks with trendy brand names, offering the same dull banking products. But Mr Stewart believes the advances in computer technology are at last making it possible to build a banking business around what customers want.

He reckons that what he calls the "peanut.com" approach is not going to stop these banks being swept away by the forces of change. "The Internet is not something stuck on the side of your business," he says. "It is your business. You have to engineer your business around the Internet."

His big idea is what he calls Open Plan Services, a concept meant to do for banking what open-systems architecture did for computing. Customers who sign up for Open Plan Services are not sold products, but an all-embracing service which allows them to manage their money in the most cost-effective and convenient way.

Last month, Mr Stewart announced plans for a national roll-out after a pilot scheme in part of the country proved far more popular than even the Woolwich anticipated. He is adamant that while his strategy exploits all the benefits of the Internet to provide a new way of offering customers banking services,"this is not Internet banking. This is more than than that. This is private banking for the masses".

Open Plan Services allow customers to know exactly what they have and where. But equally importantly, anyone in the bank you deal with will have access to the information needed to give you an instant answer, for mortgage approval or a new cheque book.

The credit card is not a ticket to run up debts at a ruinous interest without your bank knowing. It is just another way of accessing the low- cost credit available to all homeowners. In that respect, it is not dissimilar to the Virgin One Account offered jointly with the Royal Bank of Scotland. The difference is that with Virgin One all your borrowings and income are lumped in one account, Open Plan Services allow you to keep separate borrowing and savings accounts but offset them against each other.

The possibilities once you break down traditional product barriers are huge. Current accounts can be automatically swept and surplus funds put into a high-interest savings account. Your savings can be put into "jam jars" so you can keep your rainy day money separate from your Christmas Club money and still get the full interest rate as if the money was all lumped together in a conventional high-interest account. The Woolwich is planning to offer virtual financial advice on the Net. "If you think Open Plan is a product you are missing the point," says Mr Stewart.

Customers seem to like it. The pilot scheme was a success beyond his wildest dreams. With no publicity, and no advertising, Open plan attracted 25,000 customers in the space of a year. Typically they hold three products, a record for an industry where everyone says cross-selling is the future but not one has a clue how it to be achieved. Much to the Woolwich's surprise, many of those who signed up were not existing customers. After ironing out the inevitable teething problems, Open Plan is ready to roll. Mr Stewart has set a target of two million customers by 2002, backed by an investment of pounds 125m.

"Our biggest problem," says Mr Stewart, "is with the staff. Customers get the hang of it, staff don't." Weaning staff off the old product-led mentality is the hardest challenge he faces. Mr Stewart, whose father was a motor mechanic, grew up in a slum tenement in a down-at-heel part of Edinburgh called Gorgie. He ignored his parents' sensible advice to go and find a safe civil service job and studied chemistry at Herriott- Watt university. He lasted a year before deciding he preferred oceanography, which would give him plenty of time to indulge a passion for scuba-diving. But while waiting to get on the course he started working and decided he preferred that even more.

He tried his hand as a Gestetner salesman before joining the local branch of the Woolwich in 1977. As a budding management trainee his first job was to open the post. After several branch management jobs, he came down to London to head office staff in 1985. Over the next few years, he set up several new businesses under the Woolwich umbrella, including a life insurance business and a unit trust operation.

In 1996, having shown considerable ability to take the group into new business areas, he found himself suddenly having to pick up the pieces after the chief executive Peter Robinson, quit in the middle of the preparations for flotation amid allegations that he had put personal expenses, including the landscaping of his garden, through the firm.

Mr Stewart quickly realised the Woolwich had to do something radical if it was to avoid being swallowed up by a rival once its statutory protection against takeover expired in 2002. The second smallest (after the Northern Rock) of the crop of building societies which floated on the stock market in the windfall bonanza of 1997, the Woolwich enjoyed a positive customer image by the virtue of the fluffy "Are you with us? No, I'm with the Woolwich" ad campaign of the 1980s. But there was little to distinguish it from the pack in selling itself to hard-nosed institutional investors. "We realised if we don't do something we were going to get fried," says Mr Stewart. "We asked ourselves what would the bank of the future look like?"

He has strong views about how the established banking institutions - the Woolwich included - serve the customer. There is nothing new about hearing customers whinge about how banks treat them. What is unusual is hearing the chief executive of major quoted UK financial institution agree they are right.

Technology and the competition coming in its wake means the old cartel which allowed banks to take their customers for granted is being broken up. Profits are still high overall, but in many areas of retail banking margins are starting to fall sharply. Yet most banks persist with the same product-led approach.

One response to increasing competition is to use technology and economies of scale to turn yourself into a low-cost producer churning out simple products which can be pumped out cheaply through low-cost distribution channels such as the phone, ATMs (automatic teller machines), and now the Internet.

Mr Stewart says this is a game which ultimately only the big guys with the big balance sheets can win. The big banks are always going to be able to raise money more cheaply in the capital markets with which to fund their mortgages, overdrafts and credit card loans. "We wanted a strategy where the undersized guy could win."

Another way out was to do an Egg, set up a stand-alone Internet operation which will undercut the established banks. Internet banks are, ultimately, vastly cheaper to run. In practice, you still need people to design, build and run these systems, and Egg, like many Internet startups is having to run at a substantial loss to get customers online, hoping it can find ways of making money out of them some way down the line.

Sir Peter Davis, the chief executive of the Prudential and one of Mr Stewart's growing band of admirers, boasts that Egg has enabled the Pru to acquire a deposit base the size of Yorkshire Building Society for a fraction of what it would cost to buy an institution of that size. He does not say he employs as many people as the Yorkshire Building Society.

Mr Stewart believes the rationale behind Egg and its imitators is fundamentally flawed, because penalising electronic customers for phoning with a query is daft. He liberally quotes from Andy Grove, the chief executive of Intel, the chip producer with whom he shared a platform at the Confederation of British Industry in the autumn.

Like Mr Grove, he says what we are seeing is just stage one of the Internet revolution. "Clicks companies", as Mr Grove calls them, "are just going for a land grab, concentrating on building a customer base because you will be able to make a profit out of them later." The real winners will be the "clicks and mortar" companies who use the Internet to transform their business.

Mr Grove is equally effusive in his admiration of Mr Stewart. At the same CBI conference, the Intel boss cited what Mr Stewart was doing as the glowing example of a company that had gone beyond thinking of the Internet as a technical channel. Mr Stewart believes high street branches will not disappear. "They will be more like cybercafes, where people drop in to be taught how to use the bank's online access." Banks clearly possess huge amounts of information about their customers, yet they seem chronically unable to access that information in a meaningful way. The banking that relies on knowing customers intimately and treating them as individuals, is what bankers have traditionally called private banking. It has been available only to the privileged few.

Mr Stewart believed if he could harness modern information technology to provide something akin to private banking at an affordable cost, he might be getting close to the bank of the future. Predictably, his IT people were far from enthusiastic. "We realised we had a year to do it. Our IT people said it would take five." John Stewart got his way. With the help of Microsoft, Intel and Unisys, his IT people were able to reconfigure the system to cope with the "customer-facing" organisational structure Mr Stewart wanted.

The other plank to his strategy was to see if anything could be done to improve the Woolwich's performance in its traditional mortgage business. Mr Stewart realised they had a problem when they found they were praised for the best mortgage products on the market, but were unable to cope with demand.

He went to the US to see a company called Countrywide, set up 30 years ago in California by a brash, permanently suntanned Italian-American called Angelo Mozilo. Countrywide is America's leading independent mortgage provider, processing a staggering $100bn in applications a year, a growing number of which are approved over the Internet without a piece of paper touching a hand. The operations are lean and mean. "If it moves, automate it," is Mr Mozilo's slogan.

Mr Stewart was impressed. The two struck a deal last year to set up a mortgage-processing centre in the UK, using Countrywide know-how. The venture is taking on Woolwich's mortgage-processing and administration and will shortly bidfor third-party contracts to manage mortgages on behalf of other organisations, in the UK and Europe.

The re-engineering of the Woolwich systems has given those who run the business awesome power to anticipate customer behaviour. They can look at who has written cheques to Egg and see if they can offer something to win them back. Mr Stewart says one of the senior managers decided to test the power of the system and ran off a list of mortgage customers whose behaviour suggested they were dissatisfied enough about their present mortgage to move within the next two months. The colleague was sidetracked and did not check the list until several months later. By that time 80 per cent of those in the list had moved.

The City now sees Woolwich more as potential predator than prey. A year ago, Peter White the chief executive of Alliance & Leicester, another of the crop of 1997 converters, thought he was pushing at an open Woolwich door. Not so. Fast forward to this year, when Mr Stewart sensed Mr White's star was on the wane after his botched attempt to steer Alliance & Leicester into a merger with the Bank of Ireland, so he contacted John Windeler, A&L's American chairman, last month and suggested it was time to talk.

This approach appears to have shocked the Alliance & Leicester board and made them realise how far they behind they were in the e-commerce game. In days, Mr White, an old-fashioned cost-cutter with little in the way of ideas for developing the business, had left the bank.

Mr Stewart believes the transformation he has engineered at the Woolwich has given it a genuine competitive edge. The example he wants to follow is that of Microsoft, the Seattle-based software giant which dominates the market for computer operating systems but is still spending $2bn developing a replacement for Windows.

"What they say in Seattle, is if you don't eat your children someone else will," says Mr Stewart. "That is the lesson the banks should be learning."