Chapter Three

The Organization and Structure of Banking

and the Financial-Services Industry
  Bankers and the managers of competing financial
institutions have evolved different Organizational
Forms to perform these various roles and to supply the
services their customers demand.

 As larger institutions play wider range of roles and

Introduction offer more services, therefore size is a significant factor
in determining how financial firms are organized.

 Not only, the financial institution’s role and size

determine how it performs, but the law and regulation
affect the performance and diversity of the
organization around the globe.
  There are so many different types of financial institutions
that the distinction between these different types often
get very confusing.

 Depository institutions could be classified by their

The Array of corporate or organizational structure.
Organizational
Structure and Types in  Their assets may be under control of a single corporation
the Banking Industry or they maybe structured as multiple corporations linked
to each others through a common group of stockholders.

 They may sell all their services through a single office or

offer those services through multiple facilities scattered
around the globe.
 * Different types of organizational structures that have

dominate banking and other financial-service industries over

the years:

1)Unit Banking Organization:

 Unit banks, one of the oldest kinds that offer all of their services

Different Types of from one office.

Organizational The banks maintain no branches.
Structure
Although some services such as( taking deposits, cashing checks
or paying bills) may be offered from limited-service facilities; such
as drive-up windows and ATMs.
Many new banks start out as unit organizations, because of
limited capital, management and staff, until the financial firm can
grow and attract additional resources and professional staff.
 2) Branching Organizations:
 As units financial firm grows larger in size it usually decides to establish at
some point a branching organization.

 Especially if it serves a rapidly growing region and find itself under

pressure either to follow its business and household customers as they
move into new locations or lose them.

 Branching organizations offer the full range of services from several

Different Types of locations, including a head office and one or more full service-branch
Organizational offices.
Structure
 It also offer limited services through a supporting network of drive-in
windows , ATMs, computers networked with the bank’s computers, point
of sale terminals in stores, shopping centers, internet, and other advanced
communications systems.

 Senior management is usually located in the home office, though each

full-service branch has its own management team with limited authority
to make decisions on customer loan applications and other daily
operations.
  The causes of the rapid growth in branching:

1) The movement of population from cities to suburban

communities.

• Forcing many large downtown financial firms to either

Reasons follow or lose their mobile customers
behind
• Results has been the expansion of branch offices, ATMs.
Branching’s
Growth 2) Business growth has fueled the spread of branching

 The credit needs of rapidly growing corporations

necessitate larger and more diversified lending institutions
that can reach many local markets for small deposits
account and pool those funds into large-volume loans.
  Branching organization often buy out smaller
institutions converting them into branches and
concentrating the industry’s assets into the hand of
fewer firms.
Advantages
and  Customers convenience seem to improve because
Disadvantages more services are available at every branch location
of Branch and branching areas tend to have more offices per
Banking unit of population, reducing transaction costs for the
average customer.

 However some service fees seem to be higher in

branching areas.
  Websites and Electronic Networks: An alternative or
a supplement to Traditional Bank Branch offices:

 Electronic branches; These include websites offering:

 internet banking services

 automated teller machines (ATMs)

Electronic  point of sale terminals in stores (POS) and
Branching shopping centers to facilitate payments for
goods and services
 personal computers and call-center systems
connecting the customer to his or her financial
institution
  Through many of these computer and telephone
based delivery systems customers can:
 Check account balances

 Set up new accounts

Electronic
 Move funds between accounts
Branching  Pay bills

 Request loans

 Invest funds any hour of the day

  Many banks- especially virtual banks; that provide their services
exclusively through the Web are cost saving along their
customers and gain a market advantage over depository
institutions still relying heavily on neighborhood branch offices.

 But, despite significantly lower transactions costs, Virtual

Electronic banking firms have not yet demonstrated they can be

consistently profitable.
Branching  Other problems facing virtual- bank segment is their tendency
to advertise their much lower transaction costs.

 Furthermore, combatting the fact that customers often feel

more secured if they know the depository institution, having a
full-service branch where they can go to straighten out serious
problems.
  One of the reasons studies of financial-firm
operating efficiency are sometimes confusing in
their results may lie in the motivations of
managers and owners.
 Example: pursuing minimum operating costs
and maximum efficiency make some sense for
financial firms that seek maximum earnings for
Financial their owners.

Firm Goals  Suppose management of a financial firm decides

that benefits for managers ( and not the
stockholders or the public) should be the primary
objective of the company.
 In this case, the opposite of cost control and
efficiency- something called expense-preference
behavior-may come to shape the firm’s
performance.
  Expense-Preference Behavior:

 These managers often appear to value fringe benefits, plush

offices and ample travel budgets over the pursuit of maximum

returns for the stockholders.

 Such expense-preference behavior may show up in the form

Financial of staffs larger than required to maximize profits or

Firm Goals excessively rapid growth, that causes expenses out of control.

 Some economists believe that expense-preference behavior

is more likely where management is dominant and

stockholders are not well organized.

 Therefore, managers have more opportunity to enjoy luxuries

lifestyle at the shareholder’s expense.

  Agency Theory:

- The concept of expense-preference behavior is

part of a much larger view of how modern
corporations operate, called agency theory.

 Agency theory: Analyzes the relationship

Financial
between a firm’s owners and its managers, who
Firm Goals
are legally agents for the owners.

 Agency theory explores whether mechanisms

exist in a given situation to compel managers to
maximize the welfare of their firm’s owners.
  One way to reduce costs from agency problems
is to develop better systems for monitoring the
behavior of managers and to put in place
stronger incentives for managers to follow the
Financial wishes of owners. For example:
Firm Goals  Tying management salaries more
closely to firm’s performance.
 Giving management access to valuable
benefits (such as stock options)
  Many experts believe that lower agency costs
and better company performance depend upon
the effectiveness of Corporate governance.

 Corporate governance: The relationship that

Financial exits between managers, board of directors,

Firm Goals stockholders and other stake holders (such as

creditors) of a corporation.

 In the long-run, agency problems may be

reduced by efficient labor and capital markets.
  Labor markets, can reduce management’s
tendency to feather its own nest at the expense
of stockholders by rewarding better-performing
managers with higher salaries and more job
Financial opportunities.

Firm Goals  Capital markets, can help eliminate bad

managers and poor performance with the threat
of corporate takeovers ( which could lead new
owners to fire existing management) and
lowering stock price of poorly managed firms.