Interactive Banking – How Digital Banking Will Affect Branch Bank Real Estate

March 1, 2016

Guest Blog – Written By Ira Bellinkoff ira@edgerealtyadvisors.com

Banks are modernizing by embracing technology, providing more interactive customer experiences and conducting the same amount of work in a branch with a smaller footprint. Large, regional, and local banks are updating the traditional teller counter to provide a more self-service experience, opting instead for multiple kiosk-type stations on the branch floor. The kiosks are staffed by employees who can assist customers or direct them to a virtual (headquarters office) assistant. Remaining floor area is dedicated to higher margin services such as brokerage and investment services.

As consumers continue to increase their utilization of online banking functions, the physical building requirements for branch banks are changing. What does this mean for the value of bank real estate?

Smaller Branches: Not uncommonly, legacy freestanding branches that opened over 30 years ago typically ranged in size between 5,000 and 8,000 square feet with several drive-through lanes. New branch banking sites are shrinking, with newer facilities ranging between 2,500 and 3,500 square feet and situated on 0.75 to 1.50 acres. Some newer facilities in urban areas are even forgoing drive-through lanes.

Deposits Matter: As a “rule-of-thumb,” a bank can pay rent equal to or less than 1% of its deposits at a particular location. The number of branches is declining not only due to technological revolutions but also due to burgeoning regulatory costs. If an existing bank location has a rent-to-deposit ratio above 1.0%, there is a much higher probability it might be shuttered.

Pledged Investment: Most banks are developed as build-to-suit assets encumbered by a ground lease. New leases typically have a base term of 20 years, with an additional 20 to 30 years in renewal options. According to Calkain Companies, excluding California, bank cap rates range between 3.94% and 6.57%, with an average of 5.22%. Credit quality, length of the remaining term, and the risk-free premium over the 10-year Treasury are the three most important factors affecting cap rates—aside from the real estate. Having the return characteristics of a bond, bank real estate, meeting modern standards, is a safe-haven investment for well-heeled and 1031-exchange investors.

Overall, banks will continue to exist. While technological changes will likely result in branch contraction, surveys indicate that customers frequently choose their bank based on the availability of nearby branches, presumably when they encounter situations that warrant interaction with bank staff. Additionally, there always be a need for immediate cash and consumers prefer to avoid ATM fees of non-member systems. Aside from freestanding branches, complementary “micro branch” locations will likely become more common and serve as a way to balance costs.