French lenders' retail banking bounce looks short-lived as problems persist

The reopening of the French economy following the lifting of restrictions to stop the spread of COVID-19 boosted French retail banking activity in the second quarter.
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France's largest lenders will struggle to maintain surging profits at their domestic retail banking businesses in the coming quarters due to the high costs associated with their large branch networks and the low rate environment.

A faster-than-expected recovery in the French economy drove a surge in fees and commissions, as well as loan and deposit growth, helping the lenders' domestic retail banking units to record their best quarterly performance in years in the second quarter. The trend is unlikely to continue, analysts cautioned, as costs from large branch networks will weigh on profits.

Of the three largest French banks by assets, Société Générale SA has the largest exposure to French retail banking, with revenue from the business making up 30.44% of total income, according to S&P Global Market Intelligence and company filings. For BNP Paribas SA and Crédit Agricole SA domestic retail banking contributes 13.48% and 15.96% of total income, respectively.

"Looking overall at retail banking in France, it all remains challenging even in the current environment, which is probably the best it's been for a while," Johann Scholtz, banking equity analyst at Morningstar, said in an interview. "There's not really been a massive improvement in the structural profitability of French retail banking."

BNP Paribas told Market Intelligence that the trend in its Domestic Markets and French Retail Banking divisions was "generally positive ... despite the persistent impact of low rates." Crédit Agricole and Société Générale declined to comment on second-quarter results.

BNP Paribas' French retail banking business hit €377 million in pretax income, 78.20% up on the same quarter in 2020, according to company filings. CASA's French retail banking operation LCL — separate from the much larger retail network of parent company and mutual bank Crédit Agricole Group — took in €317 million in pretax profit in the quarter, a 73.22% year-over-year increase, according to Market Intelligence data. And Société Générale more than doubled pretax profit year over year from its French retail banking network, bringing in €606 million in the second quarter.

The bounce in profitability in the second quarter at the three largest French banks is more likely an anomaly than the start of a trend, given the long-standing nature of the French retail banking sector and the current climate, said Sam Theodore, senior consultant with Scope Investor Services.

"French retail banking was never highly profitable," said Theodore, largely due to the high degree of financial inclusion pursued in the country over many decades, which necessitates banks servicing large numbers of "peripheral" customers that pay little or nothing for that service, Theodore added. "And it's never going to be highly profitable, especially in an environment with low rates where mortgages don't yield the same yields that they had in the past, even in France, which was a historically low-yield retail market."

The strong year-over-year growth in the quarter was primarily due to the weak performance of the businesses in the second quarter of 2020, in which revenue and profit plummeted to their lowest levels in years as the first wave of the COVID-19 pandemic battered the French economy. This was despite a strong increase in loan production across the banks in the second quarter of 2020, driven by state-guaranteed loans to small and-medium enterprises and corporates in response to the pandemic.

A problematic part of the retail banking picture for the three French lenders is expenditure. Operating expenses for Société Générale's French retail banking business increased year over year by 5.19%. CASA's grew by 3.27%, while BNP Paribas' were flat.

At the heart of the banks' stubbornly high French retail banking cost-base is their extensive domestic branch networks. Société Générale has 2,722 branches in France, BNP has 1,773 and CASA has 1,725, according to Market Intelligence data.

"The efficiency of the [French banks'] branch networks has increased, but still there are too many physical branches," said Theodore.

Other European banks of similar scale, such as HSBC Holdings PLC and Barclays PLC, have moved to a more branch-light model in recent years. Of HSBC's 3,127 branches around the world, just 600 are in its home market of the U.K., while U.K.-based Barclays has 804 branches in its domestic market of a total of 891 globally, the data showed.

HSBC recently called time on its venture into the French retail banking market, taking a £3 billion hit when it sold its 244-branch network and 800,000 customers to U.S. private equity firm Cerberus in June. CEO Noel Quinn told the Financial Times that the business was generating a sizable loss in a market that is challenged for returns.

Some branch consolidation in France is underway following Société Générale's decision in December 2020 to merge its retail and commercial banking network with its Crédit du Nord Société Anonyme subsidiary. The plan targets an almost 30% branch reduction and annual cost savings of €450 million by 2025.

Still, any drastic reduction in the number of branches across France in the near future is unlikely due to the "specificities of the French market," said Nicolas Hardy, executive director, financial institutions at Scope Ratings. Physical bank branches remain important to many customers in France, meaning there are social, cultural and political concerns for the banks to consider as they adapt their model, Hardy added.

The slower pace of change in French retail banking is partly due to the central role of cooperative and mutual banks in the market, which dominate household lending in the country and are generally less focused on maximizing shareholder returns, said Scholtz.