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Citibank in Asia Pacific

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1 Citibank in Asia Pacific

2 Introduction Citibank’s branch banking business conducted operations in 15 countries throughout Asia Pacific and the Middle East in 1989 Citibank’s branch banking business was projected as a prestigious, consumer-oriented international bank and the undisputed leader in the marketplace Financial services were targeted to affluent upper and middle income market segment Citibank’s Asia Pacific branch banking business was challenged with increasing earnings from $69.7MM to $100MM by 1990

3 Citibank’s Challenges
Increase earnings in Citibank’s Asia Pacific bank business through the launch of a credit card product Obstacles: Mixed opinion from the Asia-Pacific country managers that a successful credit card launch was possible Questions abound regarding Citibank’s ability to adopt mass-market positioning to acquire credit card customer and maintain its up-market positioning with its current upscale branch banking customers Differing customer attitudes and usage patters across the Asia Pacific region High level of market uncertainty across the region with regulations, branch limitations, talent, poor infrastructure, etc.

4 SWOT Analysis Strengths Weakness Opportunities Threats
Market Leader Branding Credit card considered a status symbol Targeted countries include booming, growing economies (Philippines, India) and affluent, Westernized countries (Australia, Singapore), diversifying risk Strong economies of scale in data processing Hong Kong presence provides valuable data to estimate revenue impact and price credit cards accordingly Weakness Consumer attitudes and usage varies across countries Australia & Singapore are saturated markets Country managers are unconvinced/no buy-in. Credit card offering adds complexity to organizational compensation structure Cannibalization of current services Brand dilution Collections process is undefined Centralized data processing costs, politics Learning curve on demand side & cost side Opportunities Penetration leader in new markets Target growing middle and upper class Portfolio allows for customization in markets Additional revenues from cross-selling and arbitrage Threats Fraud Defaults Laws and regulations AMEX and Diner’s Club are early entrants with brand cachet Competitors offer discounts

5 Break Even - Sensitivity Analysis
Acquisition Costs Unit Cost Prospects RR Qualify Cards Card Customers Acq Cost/Card Direct Mail 1.5 300,000 0.02 0.67 0.8 3216 139.93 Direct Sales 225,000 30,000 0.5 8040 27.99 Take One 0.25 2,000,000 0.015 0.334 8016 62.38 Bind In 0.15 3,000,000 0.01 56.14 Break Even Analysis Scenario Target No Fixed Costs VC Total Costs Rev/Cust Break Even # Acquisition Advertising Support ($25/card) I 250,000 7,857,000 2,000,000 35,000,000 6,250,000 51,107,000 180 283,928 II 500,000 16,574,000 4,000,000 50,000,000 12,500,000 83,074,000 461,522 III 750,000 27,228,000 6,500,000 60,000,000 18,750,000 112,478,000 624,878 IV 1,000,000 40,026,000 9,000,000 70,000,000 25,000,000 144,026,000 800,144 Break Even - Sensitivity Analysis Direct mail is expensive and may be inappropriate in some emerging markets where current directories may not be available and/or mail service is unreliable. Bind ins are relatively expensive, have a low response rate, and in part also depend on mail service. Direct sales unit cost is determined by assuming 200 working days per year, 10 calls per sales person, and $18,000 cost/yr per sales person. Break Even analysis acquisition fixed costs were calculated using a combination of direct sales and take-one techniques. The BE analysis started with a 90/10 Direct Sales : Take One for 250,000 target customers, and was scaled down to 65/35 mix for 1,000,000 targets inasmuch as it may become progressively difficult to procure larger and larger numbers of qualified sales people and in order to avoid building too large a sales force from a compensation perspective. Also, as the number of target customers increases, we assume that more blanket type of solicitation will be necessary which may be better achieved more quickly through methods other than direct sales. Some economies of scale are presumed for the support component of fixed costs. Revenue per customer in the BE analysis was derived by using Citi’s historical experience in Hong Kong as provided for in Table B. BE analysis was done for Singapore, using a weighted average of revenues per customer based on annual income. Since the annual per capita in Hong Kong and Singapore is very similar, this approach should be reasonable. Additional revenues from cross-selling or foreign exchange arbitrage opportunities ARE NOT considered in net revenue per customer. Break even in Singapore can be reached with 461,522 customers. - Sensitivity analysis demonstrates that with a $150 level of customer revenue, it would take Citi 749,853 to break even, while if they can generate revenues of $210 or higher through membership/annual fee considerations and cross selling, break even can be reached with about half the number of customers. It must be noted that just because an analysis may show a negative NPV or that Citi cannot reach breakeven fast enough, or generate profit by 1990, that does not necessarily mean the project is not worth undertaking as the analysis does not take into consideration future considerations. Each market entered requires its own acquisition cost analysis and marketing strategy. There is a steep learning curve for elements of this business which Citibank will benefit from. Breakeven and long run profitability will depend on repeat customer business, and therefore, sellers of the product should be incentivized. Note: the acquisition costs and equipment/systems component of the support costs are not recurring charges. This will likely positively effect the project’s future revenue stream. Revenue Per Customer 120 150 180 210 240 Scenario I 425,892 340,713 283,928 243,367 212,946 II 692,283 553,827 461,522 395,590 346,142 III 937,317 749,853 624,878 535,610 468,658 IV 1,200,217 960,173 800,144 685,838 600,108 5

6 Market Entry – Game Theory
Citibank AMEX This analysis must be done for each country under consideration for market entry. If Citi decides not to enter a certain market, then clearly they do not benefit, and AMEX can either stay with its premium product or consider doing its own real market research to test the validity of entering the mass market which could yield them additional revenue. IMPORTANT: Neither company has a dominant strategy!!!! GAME: (AMEX is the dominant player in the Asia Pacific credit card market with its premium card business) 1. Citi chooses to enter or not. If it enters, it chooses to enter with premium card offerings or with mass market card offering. 2. Citi does not know what AMEX response will be. 3. AMEX, not knowing what Citi’s decision is, chooses either to stay with its premium card strategy, or expand to mass market cards. - The payoffs depend on the consumer’s reception of mass market credit cards and the actions of Citi and AMEX. Customer’s favorable response to mass market credit cards is 0.4 There is no “correct” strategy for either firm and each is subject to forces beyond its control. The companies can see the payoffs and possible implications of their decisions rather than completely relying on hopeful market surveys under uncertain conditions. Whether entering a market new, or adjusting a strategy, each company needs to recognize the potential gains and possible loss of revenue due to their action or loss of focus on the old market. Neither player should be able to easily choose a preferred strategy. Both should realize that in this scenario, its not in Citi’s interest “not to enter market”. So, AMEX only has to analyze the scenarios where Citi enters with premium or mass market offerings. No matter what Citi enters with, AMEX receives higher expected payoffs when they keep their premium product. If Citi realized this, they will also see that they should enter with a mass market strategy in order to capture a 50 market share if the response is positive. This is their payoff maximizing strategy. But they also have to understand that in this option, AMEX could also enter the mass market. If the firms collaborated, they would choose strategies that maximized the sum of their payoffs. This occurs when AMEX remains premium and Citi enters with a mass market product, or if they knew the response would be negative, not enter at all. - Players do not consistently maximize their payoffs due to the imperfect nature of information. Source: Demisch, McGarry, Mukhtar, Rajbansi; Feb 2008 6

7 Conjoint Analysis Build ideal mix of product attributes
Determine customer segmentation Identify cannibalization & competitive response Joining Fee Annual Fee Brand Services Incremental Revenue None Citi (Visa, MC) Card replacement Cash advance Low Amex Loss/misuse liability Pre-payment High Visa/MC Spending limit Advance ticket sales Diner’s Club Cash Advance Product warranty extension Local Bank Year-end summary Product/Travel insurance Use Conjoint Analysis in potential launch markets to better understand opportunity and ideal positioning based on customer preferences. Sensitive to cannibalization of Citi-owned Diners Club as well as true competition. Chart shows sample list of product attributes to be explored. Note: Conjoint Analysis could be pushed even further in markets such as Taiwan where debt is not allowed. In this market, we may use Conjoint to explore other card options such as Charge or Debit AND/OR other revenue generating opportunities altogether from the rest of Citi’s product portfolio.

8 Cross-Selling Success selling auto loans through car dealers
Greater potential with Citi cardholders Opportunity for cross-sell of products such as Auto Loans, Ready Credit, Deposits, Mortgages Enables virtual presence in countries restricting number of foreign bank branches Bundle with bank services for lower combined fees How calculate cross-sell value? Take Hong Kong Citibank example where 6% of account holders also have Citi credit card and assume same opportunity in reverse… Cross-selling through auto dealers successful due to ideal targeting Bundling – consider no origination and/annual fees with presence of account and/or minimum in account

9 Cross-Sell Value Calculation Relative Year 1 (phased launch)
Australia Hong Kong Singapore TOTAL Total # cards 10.5M 2M 630K 13.1M Proj. # Citi cards Yr 1 1M 150K 25K 1.75M Proj. Citi card customers 588K 88K 15K 691K # of Citibank customers 85K 130K 18K 233K Net Revenue from Fund $59M $67M $16M $142M NRFF per customer (exact figure) $694.12 $515.38 $888.89  N/A Card holders w/ 2nd product 35.3K 5.3K 0.9K 41.5K Incremental NRFF (cross-sell value) $24.5M $2.7M $784K $28M Total Relative Yr 1 value for all 9 Asia markets would be $29M Assumes 1.7 cards per customer and 6% of card holders will purchase 2nd Citi product as result of cross-sell efforts. Percentage based on 6% of Hong Kong’s Citibank customers also owning Citi card.

10 Arbitrage Opportunities
Sample Exchange Rates US $1 = HK $1.13 US $1 = Australian $1.33 HK $1 = Australian $1.18 Buy HK $11.3M with US $10M Buy Aus $13.334M with HK $11.3M Buy US $10.025M with Aus $13.334M Just one example of arbitrage strategy Citibank can take advantage of to make money from currency exchange rates between their markets. Can also be used to minimize impact of economic downturns in single markets. Rates are estimated for late 1980’s. Obviously! Note: Assumes cards/accounts are in local currency for each market. If not, arbitrage can still occur but limited to the available currencies. Triangle arbitrage (also known as triangular arbitrage) refers to taking advantage of a state of imbalance between three markets: a combination of matching deals are struck that exploit the imbalance, the profit being the difference between the market prices. Triangular arbitrage offers a risk-free profit (in theory), so opportunities for triangular arbitrage usually disappear quickly, as many people are looking for them. Note this is just one round of exchanges! Triangular Arbitrage Example = US $25K Profit! Across Citibank’s Asia-Pacific customer accounts = $1.5M+ per turn. 10

11 Market Segmentation Market segmentation using different income and population segments. First graph is per capita adjusted for urban population A linear trendline is drawn across the graph which shows Aus, India, Singapore and Taiwan above the line. The second graph is per Exhibit 8 in case study, also with trendlines drawn for each income segment. 11

12 Market Segmentation Low Risk, Safe Return Australia, Singapore, Taiwan Moderate Risk, Moderate Return- Thailand, Malaysia High Risk, High Return - India, Indonesia, Philippines Used the criteria in left hand column and performed weighted average scoring given the assigned weights in the second column. Priority markets indicated by red numbers at the bottom of chart were determined by grouping countries by their respective scores. Based on the criteria used and weighting, the priority order corresponds with the level of risk and expected returns in each country. Need to take other considerations into account such as cultural bias (e.g. Taiwanese traditionally are debt averse), countries risk may be worth taking in view of the upside potential in an underserviced market (such as India) - Entering several countries at once may provide a competitive advantage by discouraging other firms from entering as well. 12

13 Customer Lifetime Value (CLV)
 Value of Purchase  Profit per Acquired Customer Item 1 Item 2 Item 3 Year 1 150.00 60.00 15.00 37.50 9.00 1.50 Year 2 15.30 1.45 Year 3 171.74 15.61 32.63 1.19 Year 4 69.46 15.92 6.33 0.97 Year 5 196.62 16.24 23.91 0.79 Net Present Value 65.95 11.45 4.13 Total NPV 81.53 Assumptions Years of Customer Life 5 Annual Discount Rate 15% Item 1 Item 2 Item 3 Initial Purchase Price $150.00 $ $ Annual Product Inflation 7% 5% 2% Margin per Product 25% 10% Retention Rate Year 1 95% Retention Rate Later Yrs. 80% Years between Purchase 2 0.6 0.25 Discount Rate(%) 5 10 15 20 $101.60 $90.57 $81.53 $74.03 Customer 7 $117.58 $102.12 $90.00 $80.33 Life Years $127.91 $108.88 $94.51 $83.39 $140.63 $116.01 $98.63 $85.83 Harvard Business Review Model: tool designed to let the user estimate the cost of acquiring a customer and the NPV of that customer’s business during his useful economic life. The more complex model allows the user to examine multiple products with distinct customer loyalty and repurchase characteristics. Multi item model assuming 5 yr customer life and 15% discount rate (risky market). Chose variety of items with different prices, margins and product inflation to mimic potential consumer usage. The sensitivity table demonstrates the effect of varying discount rates and customer life years on Total NPV. In a medium risk market/country with moderate consumer life , if Citibank were to grow its credit card business to 250,000 customers, this would have a NPV of $25.53 Million. In Australia, where there are over 4 million people in upper income levels without credit cards, if Citibank could build a customer base of 250,000, because of low risk the NPV could range from $25.4 Million to $35.1 Million (without additional cross selling opportunities). Source: CLV Calculator- HBR

14 Long Run Effects of Risk on Marketing Policies
Expected Cash Flow Period 1 Period 2 Discount Rate NPV Calculation NPV Low Price Strategy $10M $14M 15% (10)/(1+0.15)+ (14)/(1+0.15)2 $19.27M High Price Strategy $6M $4M 5% (6)/(1+0.05)+ (4)/(1+0.05)2 $9.34M Using Table 8: Hong Kong Revenue data Low Price Strategy assumes waiving joining fee & higher annual fee to obtain recurring charges Low Price Strategy assumes ~67K of card owners in the $6200-$12,400 income bracket and ~ $1M from higher brackets. Assume that higher income brackets will sign up in Period 2. High Price Strategy assumes joining fee and low annual fee High Price Strategy assumes all card owners in the >$23,000 income bracket and ~15K card owners in the $12,400-$23,200 income bracket. Assumes loss/defaults in Period 2. Assume a higher discount rate of 15% for the Low Price Strategy since it targets mass markets & involves repositioning. Assume a discount rate of 5% for the High Price Strategy. Coordinate finance & marketing functions to select appropriate discount rate, marketing policies and resource allocations after analyzing the risks and returns from different marketing policies. Reference: Sharan Jagpal (2008) “Fusion for Profit” pp 26

15 EV of Entering a Test Market in Singapore Using Real Options
Using a $70M - $100M profit trajectory in 2 years, assumes $85M in year 1 Assumes Singapore is 10% of market. Expected incremental profit from Singapore market = 10% of $85M Assumes a discount rate of 5% for the Singapore test market Investment is $70M for ~1M card owners ($35M for 250K clients + ~ $12M for every additional 250K clients) Assumes $20M upfront test market costs Conditional NPV calculations for an immediate launch assumes a 10% discount rate since it is more risky

16 Country Managers Risk-averse and reluctant to handle card product
Tie compensation to product Compensate for long term vision Local currency (Jagpal, NB chapter 23) 4 Component Parts of Compensation Base wage Share of NPV of after tax operating cash flow Share of NPV of tax shield Share of real options of product Above mix changes per country and per period! Use Conjoint Analysis in potential launch markets to better understand opportunity and ideal positioning based on customer preferences. Sensitive to cannibalization of Citi-owned Diners Club as well as true competition. Chart shows sample list of product attributes to be explored.

17 Compensation - Period 1 Australia vs. India example NPV Operations
NPV Tax Shield Real Options Compensation Recommendation Australia High ($59M) High Low 25% Base Salary 37.5% NPV Operations 25% NPV Tax Shield 12.5% Real Options India Low ($6 M) 50% Base Salary 12.5% NPV Operations 6.25% NPV Tax Shield 31.25% Real Options - Australia real options are low due to the fact it is a saturated market, and the probability of success with the card is low or there will be low penetration – consumers looking for more from their card like additional banking services. Need to continue to worry about bank operations with small component based on card success. India High real options because of low CC penetration, status symbol, brand mattered. Might be easier sell to get customers here with the Citi name. Still, you wish to penetrate more market overall and can possibly do that with card, so you base more salary on card profits

18 Compensation - Period 2 Australia vs. India example NPV Operations
NPV Tax Shield Real Options Compensation Recommendation Australia High (>$59M) High withdraw 50% Base Salary 25% NPV Operations 25% NPV Tax Shield India Low (>$6 M) Low remain 25% NPV Operations 6.25% NPV Tax Shield 18.75% Real Options Australia loses compensation on card effects since company has withdrawn - India removes some of the card weight in order to have company manager focus on cross selling to card customers.

19 Recommendations Use a staged roll out plan introducing each of three groups at 6-9 month intervals (Australia, Singapore, Taiwan first). Opt for a test market initially, followed by multi-country entry. The presence of cost and demand dynamics must be considered when formulating pricing strategy, and Citibank may choose to learn from first movers errors. For uncertain marketplaces, use Real Option Valuation model. Build centralized data processing center before entering test market. (Citi absorbs initial $35 MM investment) Establish specific credit card business independent from other business units in each country Charge country managers usage fee based on either computational usage, dollar usage, or user (per merchant/cardholder) & continue to charge until investment recouped Allow country managers to set join fee

20 Recommendations (cont’d)
Features of credit card program should match the brand positioning and corporate image. Include gold features for premium clients and regular/base features for others. In saturated markets grow through acquisition, and use green field approach in emerging countries. Capitalize on cross-selling and foreign currency exchange arbitrage opportunities. Structure flexible country manager compensation to encourage elements of shared risk and long term focus on available marketing options. Compensate country managers in local currency.

21 Questions

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