“Notes from the Beach”

The following is the famous “Notes from the Beach” memo that Executive VP John Reed (head of Citi’s Consumer Services Group, before he took the CEO & Chairman reins from Walter Wriston) wrote in March 1976…

…while on vacation in the Caribbean!

And it’s absolutely prophetic!

John was an incredibly-brilliant leader, both within Citi as well as with the entire banking & financial services industry. His ideas were years ahead of his time!

When I look back on the first dozen years (’78-’90) of my career, I clearly see how his ideas & vision…enunciated in this 1976 memo…began transforming into real, tangible efforts!

He talks about having a banking presence in 18 countries. During his tenure, Citi was, or began, doing business in more than 100 countries!!!

Had he never answered his home phone when Sandy Weill called him that rainy Sunday evening in February 1997, Citi would have remained the preeminent financial services firm in the world & there’s a good chance that the Great Mortgage Crash of 2008 would never have occurred!

Not just for Citi, but the entire financial services industry.

Oh, well!

His memo was addressed to his primary business heads…Messrs. Charlie Long, SVP; Dick Kovacevich, VP (the head of NY Banking was “just” a VP; after Citi, he became CEO of Norwest, then later, Wells Fargo); Phillips, SVP & Tozer, SVP…with instructions to share it with their management teams.

Here goes…

Re: Consumer Buslness

I. As you may know, I make a pretty good effort to use my vacation to do nothing. That turns out to be hard. So from time to time, I jot down notes and thoughts relating to different things that are going on. The following comments are not particularly well organized – and certainly not exhaustive – but do tell some of my concerns about our common effort in the Consumer Services Group. They are passed along in an attempt to communicate and to open up lines of communication.

II. It should be pretty clear that we are creating something new. The consumer banking business has been – at best – a sideline effort as related to corporate banking in Clticorp. In addition, the business has suffered the severe economic burdens of inflation whlch have been working on a dlstribution system designed for the “banking buslness – when, in fact, there ls no such thing. As a retail system – the branches are overdesigned – as a corporate presence, they are unnecessary. The card business suffers from an inflation-vulnerable paper processlng base – the domestic businesses from their birth as “congenerlcs’ and the overseas consumer effort – even more than in New York – has taken a back seat to the explosive growth of the IBG (Investment Banking Group).

Our current efforts reflect the conviction that in the years ahead the consumer business will be fundamental to Citicorp – that it is not a sideline business but a core business – and that we must bring it into an operative reality.

Thls conviction is the result of an internal assessment of Citicorp and where we are going but more importantly, speaks of the external world and the view that the consumer sector is immensely large, evolving in importance and currently poorly served by financial organizations. In addition, it is clear that some relevanf new delivery technologies are available to the business and will have an important bearlng on both the economic dynamlcs and the institutional and legal/regulatory framework within which we work. The existence of these technologies strongly suggest that we shoutd either reconfigure and reinvigorate our own efforts or get out of the business – our currcnt posture is not economically viable over the long run.

When I say that what we are building is new – I am not referring to these technologies nor to new delivery systems. Rather, I refer to a fundamentally new business starting with a dedicatton to the consumer and to the proposition that we offer a set of services that will substantially satisfy a family’s financial needs under terms & conditions that will earn the shareholders an adequate profit while gaining a healthy, positive & straightforward relationships. Currently problems characterize each phase in this statement: (l) It is our perception that consumer needs are only inadequately satisfied; (2) Our business has lost money and is consistently under our hurdle rate; and 3) has been characterized by too many instances of poor service, poor products, bad pricing and other negatives.

III. It should be clear that we must start with the consumer, with the family unit and with its needs for financial services. Our objective cannot be to be in the loan business or the deposit business. The task ls not to run branches nor to issue cards. These are but a means to an end – the business is an effort on our part to manage resources so as to satisfy consumer needs. Our products and services will change as these needs evolve. The rationale for a given distribution system wlll be derived from the need to provide services and facilities for their delivery.

lt ls both possible and desirable to describe the results of our efforts. I do so by categorizing them in three ways: the occupation of space, profits and the character of the business organization itself, that is

A) Occupation of Space – along three dimenslons: l) our share of the relevant rnarket; 2) within that share – our tier or position of the share of the total actual users of financial services tor a family unit that is a customer; and

3) our psychological position – i.e., how well do we satisfy, to wit, how healthy is the relationship

B) Profits – along two dimensions:

Absolute contribution or PCE; and quality of RoRA.

C) Character of the Organization – along three dimensions:

l. to what extent does the work organization provide o healthy environment for each of us;

2. to what extent does the organization learn & regenerate itself developing skills and people to cope with new and different problems; and

3. to what extent is the organization a healthy contributing part ol Citicorp.

V. The ” how” by whlch we achieve results is very much in an early developmental stage – we clearly have a lot to learn and much that seems obvious today may turn out not to be. A set of priorities has been stated: namely, control, profitability and then growth and each Division is reworking an identified set of business tasks and objectives. Our 1976/77 plan describes the Group’s direction. Hopefully, as of thls moment, we are organized to get to work.

We rejected a functional organization so as to build around the concept of the Business Manager. In dolng so, we recognized that we ma y have sacrificed some things, but were persuaded that the “business manager” was a better, Iong term concept because: (1 ) long term, it would build more good people; (2) It implied that we would break the CSG into manageable pieces (twenty-four business managers); (3) lt forces operating level buslness responsibility down into the organization; and (4) It insures a balanced “full business view”. At the same time, it sacrifices some of the professional thrust of operations and marketing and at least during 1976/77, burdens the CSG with a large number of key slots filled with individuals new to the business and new to their job. In short, we will experience a learning period. We must also develop a reasonable management mechanism to talk to each other.

Vl. Leadershlp ls obvlously crucial to our effort. The CSG is a masslve organization including some eighteen thousand of us in eleven countries. The key day to day management slot is that of the Business Manager. The tone of the organization and the extent to which we “pull together” is very much dependent on the efforts at that level. It is important to recognize that the “people” dimension of our job is a line responsibility. A staff function – personnel – is not going to maintain the fabric of the organization. Ensuring that people are listened to, talked to, properly paid, etc., is one of the prime jobs of management. Common sense is the only thing required – we have elaborate policies and procedures, there ls an abundance of advice available for the asking – all that is required is that the line officers accept the responsibility and actively work at the “people management” dimension of the business. You should know that

(1) I will work to minimize the bureaucratic process (but it won’t disappear);

(2) I would expect two levels of review on people issues – you should know those working for you and the next layer down;  (3) I assume that management is responsible for the environment in which people work; and (4) our existing staff programs are more than adequate for all but exceptional circumstances – but they can be changcd and if they should, you should say so.

If you have not seen these – ask for them.

VII. We are a service business. The quality of our products depend upon their design but even more importantly on the environment within which they are delivered. Our failures stay with us for a long time –  our successes are taken for granted. We are all consumers ourselves and understand the dynamics of this problem.

The domestic card activities and the New York Branch systcm has a service problem – we may well have similar situations elsewhere. The problem is two-fold. Flrst, we are out of balance, that ls – we probably have not allocatcd sufficient resources to customer service and we have probably not truly organized to tackle the problem. Second, and more importantly, we do not have a service attitude. Regardless of resources and organization, there ls a potentlal capacity to deliver service, to smlle, to take that one extra step whlch we do not deliver. We should, and must.

There are also a lot of questions to be asked about customer service. How much of our performance depends simply on attitude and leadership?

Should all customers be treated the same way – or like the airlines, should we develop special service units and facilities for certain groups of customers (even to include special branches). How much service could be dellvered by phone?

What does staffing Ievel have to do with servlce? Quality of stafflng? If we substantially upgrade customer contact job requirements, would the effect pay for itself? What about training?

VIll. It seems highly likely that the pricing of consumer financial services wlll undergo important changes. At present we deal wlth our customers through a set of prices that can hardly fail but to leave them with a confused, if not somewhat suspicious, impresslon of our business. On the loan side, government requirements (in the U.S.) have tended to improve communications, whlle on the deposit side the typical customer is confronted with a confusing set of alternatives. Since pricing practices are likely to be altered as thrifts become full service competitors and the card develops in conjunction with “core” accounts – both tor revolvers and non-revolvers – it would seem to be important to develop a set of attitudes and policies with regard to the alternatives we could face. We have not yet looked into the subject – but we should – with the clear intent that we could lead the industry into a pricing approach that not only would generate appropriate revenues, but would also recognize the importance of pricing in comnunicating with our customers and in revealing the values inherent in the business.

IX. Auditing has tended to be relegated to the Comptrollers, yet lt seems to me that “risk protection” is a line responsibility. These two attitudes are in conflict. I would like to see each Business Manager define – in specific detail – the risks to which the corporation is exposed as a result of the existence of the business effort. These risks should not be limited to those that are strictly financial but should include exposure to legal/regulatory problems – unionization, consumer issues, etc.. Once detailed, thls understanding should be translatcd into a set of management practices and audit programs that wlll insure appropriate protection for the stockholder. If we do thls. I am inclined to belleve that we can run our business in a prudent way and that the audit/compliance programs will be more useful, informative and substantially less costly.

Credit is a clearly differentiated class of risk. Our historlcal experience has not been good. At Princeton, l’ve estimated that in addition to the normal credit and fraud write-offs, we had written off some $70MM that was traceable to specific business errors. Yet an analysis leaves the impression that most of our credit problems can be related to one of two problems. First, poorly conceived credit products or second, loss of control of routine collection/receivable management processes. Since this seems to be the case, we are instituting  procedures that will require a Group level approval for each and every credit product and routine reporting – in a common format – of the status of receivables. There is no intent to preempt and remove these two areas oI management from the Business Manager level where they quite correctly rest – there ls, however, a need to insure appropriate review and attention to these issues throughout the Group.

X. The notlon of a ‘business propositlon” or preceptlon on the part oI a given manager of that whlch has to be created in order to achieve a business success is key to the concept of running a business and distinguishes the manager from the “administrator.

Presumably, when embraced, a buslness proposition is fleshed out and fought for as the model of what needs to get done in running our business. It Is my impression that we have not yet fully defined nor embraced such propositions at the business level throughout the CSG. We clearly know what business we are in and what objectives we are trying to achieve –  yet the balance and tone of each business has still to be fully defined and embraced by business managers throughout the Group. This is a priority for us.

It is impossible to make general comments about the marketing dimensions of business propositions – choices as to which segment to target and have to position ourselves within the market are many. The only general rule is that we have not tried to establish the same posture around thc world.

Some comment can be made about the financial dynamics of our various businesses – and about the need to manage the trade-offs between volume (share), margins and distribution. These trade-oIfs may be central to much of our business activity in the next several years.

Momentum: ln general the built-in momentum pushes us toward increaslng thc volume of our business – cuttlng dlstribution costs – and leaving margins generally as they are.

Margins: The issues of margins is a tough one yet the previous comments on pricing should make clear that we may well have an opportunity to restructure the business. At least in our “supermarket banklng” businesses, the current situation is unacceptable – margins are too low and depositors are subsidizing borrowers. By and large, margins have not changed (against a long term roll) over the years and the economics of the dlstribution system is a strong negatlve. It Is also true that the dlstribution oI customers has a great impact on the average margin manifest in the business and that a small group of customers may well be subsidizing the bulk oI the system.

Distribution: The card obviously is openlng new opportunities for the dlstribution of consumer financial services – yet: (a) that is currently very much a U.S. phenomenon; (b) the use oI cards – whether as an attribute of the traditional branch based business or on a stand-alone basis – is stlll undefined as its relatlve attractiveness for use “in” branches as opposed to “out” of branches; and (c) the current processlng underlying the card business is quite uneconomic.

Leavlng the card aside, wlth the exception of pure direct lending offices, we have relatively little feel for the capaclty of our distribution systems – hence for thelr economics. lt would seem that the “output” of the distribution system is (a) minutes of transaction time; (b) minutes oI servlce time, and (c) minutes of platform time. The utilization of the output varies greatly tlroughout the day – and probably between customers. The cost of distribution ls very high – on average (worldwide) eating up some 85% of the net revenues provided by customers. While there would seem to be promise of cost reductions – these seem most likely to be available by re-thinking and re-configuring our distribution systems rather than through efficiencies. Such redesign does not stand alone, but relates to the fundamental business proposition being supported.

Volume (share): In some instances volume (share) is a question oI ”more of the same”. In other cases any material change in volume will involve a significant restatement of our market proposition potentially involving additions to our product lines, e.g., DDA in Belgium and U. K. or upgrading service levels (e.g., New York?). While volume as an end in and of itself can be a problem and while there is great concern with adding volume to over-used distribution systems at low margins – in the long run – when we are in balance vis-a-vis margins and distribution, growth must, of course, come from expansion of volume. In the meantime, the situation varies across the businesses.

Profitability: The issue of profitability and its fate as the businesses develop is, of course, crucial. The Group plan imposes some boundaries on aggregate profit performance and speaks to the issue of pacing, yet it remains true that the trade-offs between margins/volumes/distribution that must be managed business by business cannot be taken wlthout regard to net Performance.

– in a number of overseas countries current 1976/77 profits have been sacrificed to develop our business position,

– in Nationwide and more recently Upstate NY, severe restrictions on growth have been necessary to reverse unacceptable losses,

– card efforts have begun funded at the cost oI current profits to the extent manageable.

In re-readlng these notes, it could well be that you are wondetlng why they were written and why they were sent to you. It seems clear that we must build  a communlty of understandinq and commitment. There are some 35 of us – Division Heads, Business Managers, GMO/Group Mgmt Office staff and key operating and marketing officers who in the aggregate have responsibility to manage the consumer effort. It is fundamentally important that we share views and forge common beliefs in the thrust of our effort. In my mind, we wlll not succeed unless all oI us succeed.

It is probably important to say that leadershlp involves more than target settlng and evaluation. Each of us has an active responsibility to make those working for us succeed in thelr respective responsibilities. The buslness managers are clearly key. As described earlier, this was created as the focal point for day-to-day business responsibilities. The rest of the organization ls designed to support this role. Division Heads are strategic managers. They have responsibility to act as ‘player coaches’ with the business managers and ensure the success of that effort but more importantly, they provide an overview of their constituent businesses and give direction to the development of our efforts. The GMO staff, if functioning properly, ls an extension of my own office. Ideally, their viewpoint is that of the Group Head. They help me in my job and should not direct the line organization. They do what I would like to do if I had the time or the specific skills. In the aggregate, we are all partners in this effort and must forge the working relationship to reflect that fact.

John S. Reed

Executive Vice President

March 9, 1976