Why managing the unexpected is key to becoming a successful bank

New UK banking applicants need to have a clear vision and articulate how they will scale up profitably and prudently.

In brief

• Gaining a bank licence requires detailed planning along with significant design and development. Early and open engagement with the regulator is key to success.
• This is just the start. New banks need a strategy to support their growth and to meet the requirements of running a UK-based bank.
• They should design their business and operating model backward from where the bank plans to be in the next five years, then build it forward at pace.

Increased competition in UK banking remains a key objective for the regulator. It is seen as a vital tool to increase choice and value for consumers, serving all parts of the economy and fostering innovation.

From 2013 to March 2021, 26 UK start-ups and 24 foreign bank subsidiaries have gained a banking licence. However, this number does not tell the full story. According to The Bank of England, “There is a significant difference between the number of firms that are interested in becoming a bank and those that subsequently gain authorisation.”1 Whilst some may fall out as they decide on alternative routes to market — such as a payment, e-money or consumer credit licences — others fail to demonstrate the standards required to become a bank.

A two-pronged approach is key 

The authorisation process - from first discussions of the bank’s vision with the regulator, building their operational capabilities to finally going live, providing the bank’s services to the UK customer - is a journey not to be underestimated. In EY teams’ experience, there are two important foundations to successful applications:

1. Have a cohesive and clear view of the business plan

There is a high bar to gaining authorisation, given the systemic importance of banks. The PRA wants applicants to demonstrate operational and financial resilience and a capability to measure and manage risks — with proportionate but robust controls and governance. Applicants also need to show the Financial Conduct Authority (FCA) how they would provide a duty of care to their customers.

Applicants need to be sure of their business plan, their operating model, as well as the markets that they wish to develop and grow into, before approaching the regulator. This needs to be a comprehensive overview that demonstrates a full picture of not only current but more importantly, their future long-term plans applying a ‘future-back’ approach.

2. Have an early, open and regular dialogue with the PRA

Once applicants have a clear view of their plans, the next key step is to have regular conversations with the regulator throughout the process. From having a first pre-application meeting and regular ’challenge sessions’ to the submission of the final application. This allows firms to fully explain their plans and allay any concerns. It should also mean that there are no surprises when the application is formally submitted. 

For further information on the bank authorisation process and the regulator’s expectations once a bank has been authorised, download our report.

Planning for sustainable and safe growth

After months or even years of focusing on the application process, new banks cannot lose focus. Again, many fail to appreciate the ongoing need to develop, adapt and change as they grow. Unsurprisingly, both the PRA and FCA have increased their scrutiny and expectations of how new banks manage their business in the first few years post-authorisation, covering:

• How will it become profitable? 
• How will it manage its risks? 
• What if the bank becomes insolvent?
• How will it ensure robust oversight?
• Does it have a capital-transition plan?

We have seen firms gain their authorisation but struggle to manage their growth post-authorisation. For example, their risk management and compliance framework fails to keep pace with business growth or new regulations. That starts to hamper business growth, as resources and management are constantly ‘catching up’ instead of focusing to develop their business. 

It underlines the fact that successful authorisation only signals the beginning — rather than the end — of the journey to become an established, safe and secure UK bank. 

As part of a bank’s transformation from now to next and beyond, a newly established institution is unlikely to be profitable right from the start. Establishing itself in the market and growing organically to the point of profitability will take time and considerable effort. 

The PRA does not expect profitability from day one after authorisation but has outlined its expectation that a challenger provides a clear path to profitability. The PRA’s focus on reaching profitability should be seen in the light of a new entrant’s capability to achieve organic capital generation through the development of a sound business model and reduce its reliance on continual external capital injections. 

Echoing the future-back approach outlined, defining and designing a firm’s risk and capital management framework and capital requirements alongside a detailed business and operating model will provide clear visibility and allow a fast-growing bank to move towards its goals over a five-year period.

We continue to explore the key elements of the PRA’s expectations of new and fast-growing banks as part of its ‘strong and simple’ approach for the supervision of non-systemic banks in our ‘Growing a sustainable bank’ report. We also outline some design approaches to offer a view on how potential or existing financial service operators may develop banking strategies and establish themselves as a bank.