First Republic grew like a weed through its innovative business model. From 2011 (right after its IPO) to 2022, its assets increased roughly 10-fold. Then it went off the rails. The story holds lessons for innovators everywhere.
The bank’s magic stemmed from its holistic approach to clients — rather than seeing customers as a collection of owned products, it viewed them through the lens of a relationship. First Republic wouldn’t just pitch for a business’ line of credit or asset finance, for example, but also aim to get the owner’s mortgage and wealth management too. This was a bright idea — the bank wasn’t cross-selling in the traditional sense, but rather seeking overall relationships right from the get-go.
But there was a problem. This unique model made risk hard to assess. Theoretically, the bank should have had superior insight into someone’s overall liquidity, the health of their business, and their financial prospects. In practice, that’s hard to execute. A few companies work out detailed, sophisticated ways to alternatively assess risk (see: Capital One). More seem to try and fail. Worse, the business model was predicated on low rate loans made to depositors who were also paid low rates for their cash balances; however, these cash balances were large and more easily transferred than for the lower balance depositors that most banks have, so the model was vulnerable both to a rise in rates and a bank run. Both occurred. Now the company is being sold to JPMorgan for next to nothing.
Here’s the big lesson: innovation and risk management shouldn’t be opposites. They’re complements. If you’re going to build a truly innovative business or business model, there will absolutely be risks. Many companies reflexively dislike these, don’t articulate them well, and kill the idea early. A few just go for it and worry about the risks later. Neither course is a good one.
A far better route is to build up a capability in risk management alongside a strength in innovation. Consider questions like:
- What are all the risks behind an idea, by category? What is each one’s general likelihood and potential impact?
- What risks are correlated? Could risks combine to exponentially increase their effect?
- What risks are dependent on other ones playing out first?
- When do these risks matter most? For instance, First Republic’s problems with its unique risks were compounded by a rapid rise in interest rates.
- What are leading indicators of key risks materializing?
- Which risks can be mitigated? Which can be addressed most quickly, cheaply, and with highest impact?
A mature innovation capability excels not just at creating great insights and ideas, but in assessing and managing risks. That way, ideas are less hamstrung by doubters, the organization is less afraid to fail (fast and inexpensively), and the company learns by doing more than via endless analysis.
Innovators, embrace the risk managers. They’re some of the most important allies in your journey.
Contributed to Branding Strategy Insider by: Stephen Wunker, Managing Director of New Markets Advisors and author of Jobs to be Done: A Roadmap for Customer-Centered Innovation.
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