Smart banks can win: Leveraging next-generation technology ......• FinTech revenues will increase 10 times in the next four years, exceeding US$100bn.7 JP Morgan Chase CEO Jamie

Delivered by Ingenta to: Norman DeLucaIP: 209.23.223.4 On: Thu, 13 Jul 2017 12:40:53

Copyright: Henry Stewart Publications

© Henry Stewart Publications 2397-060X (2017) Vol. 2, 1 51–57 Journal of Digital Banking 51

Smart banks can win: Leveraging next-generation technology to win the battle for the customer relationshipReceived (in revised form): 28th September, 2016

Norman J. DeLucaleads Bottomline Technologies’ Digital Banking business, which designs, develops and delivers software solutions that enable more than 1,000 financial institutions around the world to acquire, deepen and grow profitable relationships with businesses. His passion is accelerating innovation in financial services and creating value at the nexus of banking and technology. Before joining Bottomline Technologies, he spent nearly 20 years in the banking industry, working at some of the world’s leading financial institutions, including FleetBoston Financial, Bank of America and Royal Bank of Scotland Group. He was a vice chairman of RBS/Citizens Financial Group, chief executive of RBS Global Transaction Services, Americas, and has built and led a number of high-performing, multibillion-dollar financial services businesses. At Bottomline Technologies, his focus is leveraging technology and a deep understanding of customer needs to help financial institutions compete, win and grow in business and commercial banking.

Digital Banking, Bottomline Technologies, 325 Corporate Drive, Portsmouth, NH 03801, USA

E-mail: [email protected]

Abstract The banking industry is in a period of transformation as FinTechs have infiltrated the market with innovative, easy-to-access and easy-to-use financial solutions designed to meet the evolving needs of lucrative commercial customers. This change in the industry presents banks with a huge opportunity — but only for those who are willing to think differently. This paper outlines the challenges banks face, as well as the steps they need to take if they hope to emerge victorious from this battle. The guidance covered will focus on how banks can capitalise on the lucrative small and medium-sized business (SMB) segment by delivering an intuitive, engaging and seamless customer experience; solidifying the core relationships that drive business and commercial banking competitiveness; harnessing the power of innovation to drive new sources of fee income and defend against the threat of disintermediation; and sustaining their profitable role as a trusted consolidator and digital intermediary.

KEywoRDS: FinTech, digital disruption, disintermediation, innovation, customer engagement

INTRODUCTIONIt is a well-documented fact that the banking industry is confronting a period of profound and disruptive change. Opportunistic, well-funded FinTechs have targeted the banking industry — especially its most vulnerable and profitable segments — and brought a powerful mix of speed, simplicity and agility that has been difficult for banks to comprehend, let alone match.

These disruptive innovators have challenged and upset the status quo, providing customers with innovative, easy-to-access and easy-to-use financial solutions that are more reminiscent of services from Amazon and Apple than of a traditional banking experience. With precisely targeted and smartly constructed value propositions, new players have identified large growth opportunities and profit pools that banks have failed to recognise or protect.

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52 Journal of Digital Banking Vol. 2, 1 51–57 © Henry Stewart Publications 2397-060X (2017)

Banks, meanwhile, overly confident in their status as incumbent institutions, have been slow to respond to these developments, turning a blind eye to this emerging challenge to their economic viability.

The most progressive financial institutions have begun to accelerate the pace of innovation in response to a more realistic assessment of the threats and opportunities. As a result, we are beginning to see more variability in the innovation strategies among banks and more separation between the likely winners and losers in the inevitable period of consolidation that lies ahead. The pace and intensity of the commitment to innovation, however, lag far behind the demands of the marketplace and the standards set by leading digital enterprises. It is not a question of ‘survival’ — banks are with us for the foreseeable future, in some form — but it is a matter of fundamental competitiveness and financial performance.

Virtually every industry observer and pundit has weighed in with facts, data and analyses that support the basic thesis of digital disruption and ‘an industry at risk’:

• 35 per cent of market share is at risk owing to digital disruption.1

• As of last year, there were more than 12,000 FinTechs rapidly moving into every banking activity and market.2

• Global FinTech investment grew 75 per cent, or US$9.6bn, in 2015.3,4

• More than half of current deposit account and credit card customers said they would switch banks if a new, fully digital provider had an attractive offering.5

• By 2020 an estimated 15% of traditional banks’ revenues could shift to online-only players, including branchless banks and new technology entrants.6

• FinTech revenues will increase 10 times in the next four years, exceeding US$100bn.7

JP Morgan Chase CEO Jamie Dimon was right when he said: ‘Silicon Valley is good at getting rid of pain points. Banks are good at

creating them.’ 8 Banks are caught between two worlds: a past in which they dominated with a well-established, well-protected business model, and a future in which they need to change and adapt quickly and rapidly develop new competencies without compromising their safety and soundness. It is a tall order.

Digital disruption is not a ‘one size fits all’ problem or opportunity. Different segments of the end-user marketplace — consumer, small business, commercial and corporate — represent different challenges. Financial institutions have varied levels of resources and capabilities, and must respond with unique and creative strategies, rather than a ‘me-too’ approach to innovation. For example, institutions that focus on business and commercial banking, and concentrate their innovation efforts accordingly, may be able to gain a sustainable advantage over more retail-oriented banks and non-bank competitors. Moreover, mid-sized financial institutions that compete with the largest tier 1 banks (Bank of America, JP Morgan Chase, Wells Fargo, Citibank) would be ill-advised to adopt the same approaches to technology investment and innovation as the largest enterprises.

The good news amid all this disruption and upheaval is that smart banks can still win. The victors will be those institutions that combine a sharpened focus on their core strengths and advantages with a targeted and cost-effective approach to innovation. Success will come to those who learn to partner strategically and effectively and, most importantly, recognise that what matters most is a relentless focus on the customer experience and primary ownership of the customer relationship.

‘THE FIGHT FOR THE CUSTOMER’McKinsey’s highly influential Global Banking Annual Review illustrates banks’ most pressing issue with great clarity: ‘As digitization accelerates, banks will be in a battle for the customer that will define the next 10 years for the industry . . . The fight to hold on to customer relationships will be a high-stakes struggle.’9




Leveraging next-generation technology to win the battle for the customer relationship


This critical strategic issue has captured the personal attention of every well-informed bank CEO — and for good reason. Digitisation threatens banks’ historical advantage as a consolidator of financial relationships. This threat is aimed squarely at the long-term viability and sustainability of the banking business model, and it has emerged in the midst of a general ‘shareholder-value crisis’ for the industry. Sustainable organic growth is virtually non-existent; interest rates and net interest margins remain at extraordinarily low levels; and regulatory, compliance, risk and security demands continue to drive costs and crowd out growth-oriented investments.10 Leading banks trade in the public markets at substantial discounts to their book value and struggle to earn their cost of capital, falling short of the long-term expectations of investors.

Historically, banks have had defensible economics and a very resilient business model, much of which was based on the principle of primary ownership of the financial services relationship. The important drivers of this model — primarily the advantages of physical distribution — are under assault from digitisation, mobility and the proliferation of more easily accessible,

affordable and compelling technology solutions (as well as powerful demographic changes). This unbundling of commercial banks, which is the focus of digital disruption and its most aggressive practitioners, is indeed a real and present danger to the industry — not because it is trendy or fashionable, but because it is economic.

According to McKinsey’s 2016 global industry review, banks derive 60 per cent of their profits from the fee-based services that they cross-sell into the core deposit relationship. They earn a 6 per cent return-on-equity (ROE) from balance sheet activities (taking deposits and making loans), and a 22 per cent ROE from ‘origination and sales’ activities (fees from other services, especially payments and asset management). In other words, if banks do not maintain ownership of the core relationship with the customer, their business model is exposed to potentially irreparable damage, and the fundamental economics of the industry will be eroded further. Ownership of the customer relationship is defined by share of market as well as ‘share of mind’ — the coveted position of access, trust and confidence, and stewardship of assets and information (Figure 1).11

Figure 1: origination and sales — the focus of non-bank attackers — account for ~60 per cent of global banking profits. Source: McKinsey Panorama — Global Banking Pools.




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THREATS AND OPPORTUNITIES: THE SMB SEGMENTWhile digital disruption has been an issue for the banking industry as a whole, some segments are feeling the shift more acutely than others, especially the small and medium-sized business (SMB) segment, which is simultaneously the banking industry’s most exposed vulnerability and its most attractive opportunity. SMBs have essentially become a battleground for the entire industry as competition is waged for ownership of the primary financial management relationship in this very lucrative market.

The rapid advance of digitisation is reflected in the fact that 44 per cent of SMBs already buy a payments or cash management services from a non-bank (including 6 out of 10 growing companies)12; only 22% of businesses are managing their finances from their banks’ online banking site13; and 60% would switch providers for a digital solution that combined accounts payable and accounts receivable management, cash flow forecasting and direct integration with accounting software (Figure 2).14,15

Fragmentation among the various components and workflows involved in business financial management is a

major driver of frustration for firms of all sizes — and an opportunity for both digital disruptors and banks. This is especially true for SMBs, which generally have complex needs but little or no specialised financial management staff.

Banks and accounting software providers, along with many challengers, are fighting for ownership of the SMB relationship, and its profits — or, in many cases, to skim the most lucrative parts. Banks need to recognise this subtle but critical competitive threat. The strategy of many non-bank digital challengers is, in fact, not aimed at ‘stealing’ a bank’s customer. Instead, its objective is to carve out the most profitable revenue streams and capture the commercial benefits of innovation, while leaving the bank with the commoditised deposit account and its regulatory-driven cost structure. (For many bankers, PayPal offers a poignant reminder of the risks and opportunity costs of complacency and of failing to innovate around their core business.)

Smart banks, however, are well positioned to compete in this important battle for market position and profitable growth. They, along with other aggregators and consolidators, are the logical beneficiaries of ‘the diminishing returns of digital

Figure 2: Small-business use of non-bank technology providers






disruption’. For SMBs, the proliferation of attractive, easily accessible and affordable offerings from a multitude of dynamic FinTech innovators is a very real phenomenon. Paradoxically, however, the effect of this ‘disaggregation and disintermediation’ is that it is sowing the seeds of its own destruction. The more one-off financial solutions an SMB can access and afford — regardless of the individual merits of each solution — the more complex and unmanageable their lives become, and the more compelling the opportunity is for an effective and trusted intermediary.

This essential dynamic was captured in a recent focus group among SMBs conducted by Bottomline Technologies. A business owner who had been an early adopter of many attractive non-bank services, including Bill.com, Dwolla and Square, and who was an active user of QuickBooks as well as her bank’s digital offerings, said:

‘I have this fantasy of someone taking all of my favorite things and jamming them together in a way that actually works for us.’

For SMBs, whose primary focus and passion is their core business, ‘works for us’ is defined in large measure as simplifying the experience of financial management and banking, and delivering the benefits — but not the burdens — of integration and interoperability among different solutions.

In the business and commercial banking markets, the primary financial services relationship — defined, especially, as the primary cash management relationship — is the most important driver of customer lifetime value and of a valuable bank franchise. The place where the business customer maintains its core deposits, concentrates liquidity, manages its working capital and order-to-pay cycle, and forecasts and manages cash flow will win the lion’s share of profits and prevail in the higher-order digital battle for long-term ownership of the customer relationship.

Smart banks clearly have an opportunity to win in the lucrative SMB segment.

Their focus must be on employing digital technologies to create value for customers where it matters most: reducing the pain points in business financial management from fragmented and poorly integrated solutions and complex workflows. Many banks need to focus less on ensuring that they have ‘checked as many boxes’ as possible on the long list of products and features that they can offer on their website or digital banking platform, and more on how the most important things work together to deliver an intuitive, engaging and rewarding customer experience.

NEXT-GENERATION TECHNOLOGY MODELFor the vast majority of banks a new approach to technology investment and deployment is essential to their ability to compete digitally and grow profitably. The reality is that the largest financial institutions have the scale to make massive investments in technology to address the full range of demands and obligations they face, and to sustain that investment over time. The largest banks are steadily gaining advantage through technology investment, and they have the wherewithal to spend what they need to capitalise on that advantage, increasingly at the expense of smaller banks.

Banks of all sizes are under enormous pressure to increase returns on capital, cut costs, manage risk and compliance, combat security threats and confront new sources of competition. They know that the winners and losers, increasingly, are going to be determined by their successful management of technology, that the expectations and demands of customers are changing dramatically, and that they need to invest more intelligently and productively in digital technologies. The smartest regional and mid-sized banks know that the old way of consuming technology is obsolete. They cannot do it all themselves. They cannot sustain the necessary investments




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in information technology infrastructure, security, compliance AND innovation. They cannot move as slowly as they have in the past, with compartmentalised, long-duration, on-premise software projects.

The next-generation technology model that progressive banks are adopting relies more on outsourcing and building close relationships with important strategic partners. It leverages the cloud computing infrastructure of proven, large-scale enterprises and Software-as-a-Service (SaaS) models to enable greater speed, more agility and a lower total cost of ownership, and it employs a mobile-first approach to application development. This model — cloud/SaaS/agile — offers regional and mid-sized banks the means to operate with more architectural scalability and flexibility so they can accelerate the delivery of new solutions to market and continuously upgrade their offerings without costly and disruptive IT projects.

One of the most important transformations that innovative banks should consider is the application of next-generation technologies to the essential challenge of the integrated customer experience, which is vital for digital competitiveness and profitable growth. This is the single most important thing banks must do to win: enable customers to engage with the bank, through any channel, at any time, in a completely seamless and frictionless manner, accessing the full range of services the bank and, increasingly, its network of partners can offer, while ensuring that the credit, and brand equity, from that experience accrues to the bank and translates into customer loyalty and lifetime value.

Many banks have been trying to solve the problem of an integrated customer experience through a combination of portal providers and technologies, suppliers of the disparate services and functionality required and ‘do-it-yourself (DIY)’ integration. This model is unlikely to work, and may very well render smaller financial institutions

increasingly uncompetitive versus larger banks as well as fast-moving, non-bank competitors. Fortunately, the development of Platform-as-a-Service (PaaS) solutions in the financial technology markets offers a path to successfully addressing this essential challenge. PaaS technology, for smart banks that are willing to think differently, changes the game in fundamentally important ways.

PaaS is essentially a cloud-based set of tools and services designed to support the rapid development, deployment and management of applications, without the complexity of building and maintaining the infrastructure typically associated with launching software solutions. PaaS combines the economic benefits of SaaS and cloud computing with the self-service innovation tools that enable the customisation and differentiation banks need to be truly competitive, especially where it matters most — the customer experience.

A good example of this is the interaction between smartphones and the applications deployed on them. The full value derived from a smartphone, whether an iPhone or an Android, does not come from the phone itself, or even from the company that made the phone. The phone manufacturer likely did not even create most of the apps customers rely on. The true value comes from all the external developers who have collaborated on the platform to develop the apps consumers use. The result is that users get the apps they cannot live without, and the smartphone manufacturers get the credit for making the overall experience possible.

PaaS, deployed with an architecture of open Application Programming Interfaces (APIs) that enable access to, and greater interoperability among, solutions from multiple parties, brings the same concept to banking. The benefits are substantial:

• Third parties can freely innovate on the bank-owned and branded platform, which is beneficial to both parties since partnering with others in a digital






ecosystem can accelerate banks’ speed to market by up to 50 per cent.16

• The user experience can be segmented and individualised, content can be added and continuously refined, new applications can be developed and integrated — without dependence on underlying code changes or heavy IT lifting.

• Banks still control the primary customer relationship, while also managing all the critical security and compliance issues and maintaining the integrity of the operating environment.

• Banks get the faster innovation they need to be more competitive, as well as the wherewithal to design and manage a comprehensive ecosystem that harnesses third-party innovators as an integral part of the banks’ primary ownership of the customer relationship.

CONCLUSIONIn the next five to ten years we can expect to see a commercial banking landscape where only the most savvy banks remain — those that have confidently embraced next-generation technology models and established new digital platforms that place them firmly at the centre of the customer relationship. Smart, savvy banks will remember that the customer experience is really the solution, primary ownership of the customer relationship matters most, partnering and outsourcing is a strategic skill that must be mastered, and openness to new technologies will separate the winners from the losers.

With the right approach to technology management, financial institutions can deliver an intuitive, engaging and seamless customer experience; solidify the core relationships that drive business and commercial banking competitiveness; harness the power of innovation to drive new sources of fee

income and defend against the threat of disintermediation, and sustain their profitable role as a trusted consolidator and digital intermediary.

References1. Skan, J., Dickerson, J., and Masood, S. (2015). ‘The

Future of FinTech and Banking: Digitally Disrupted or reimagined?’ Accenture, available at: http://www .fintechinnovationlablondon.co.uk/media/730274 /Accenture-The-Future-of-Fintech-and- Banking -digitallydisrupted-or-reima-.pdf (accessed 15th January, 2017)

2. Dietz, M., Harle, P., Khanna, S., and Mazingo, C. (2015). ‘The Fight for the Customer McKinsey Global Banking Annual Review 2015’, McKinsey & Company, available at: http://www.mckinsey.com /industries/financial-services/our-insights/the-fight -for-the-customer-mckinsey-global-banking- annual -review-2015 (accessed 15th January, 2017).

3. Skan, J., Dickerson, J., and Gagliardi, L. (2016). ‘FinTech and the Evolving Landscape: Landing Points for the Industry’, Accenture, available at: https://www . accenture.com/t20160427T053810__w__/us-en /_acnmedia/PDF-15/Accenture-Fintech- Evolving -Landscape.pdf (accessed 15th January, 2017).

4. Ibid.5. Ibid., ref. 2 above.6. Ibid., ref. 1 above.7. Ghose, R., Dave, S., Shirvaikar, A., Horowitz, K., Tian,

Y., Levin, J., and Ho, S. (2016). ‘Digital Disruption: How FinTech Is Forcing Banking to a Tipping Point’, Citigroup, available at: https://www.ivey.uwo.ca /cmsmedia/3341211/citi-2016-fintech-report -march.pdf (accessed 15th January, 2017).

8. Ibid., p. 14.9. Ibid., ref. 2 above.

10. Ibid.11. Ibid.12. Barry, C. (2016). ‘Winning the Battle for Small

Business Customers’, Aite Group and Bottomline Technologies, available at: https://www.bottomline .com/sites/default/files/digital-banking-aite-battle -for-smb-dsg-srr-1602-016.pdf (accessed 15th January, 2017).

13. Barry, C. (2015). ‘Ten Things Banks Need to Know About Their Small-Business Customers’, Aite Group LLC, available at: http://aitegroup.com/report/ten -things-banks-need-know-about-their-small - business-customers (accessed 15th January, 2017).

14. Barry, C. and Hajj, L. (2014). ‘Monetizing the Small Business Opportunity’, Aite Group LLC, available at: http://aitegroup.com/report/monetizing-small - business-opportunity (accessed 15th January, 2017).

15. Ibid., ref. 13 above.16. Ibid., ref. 1 above.


http://www.fintechinnovationlablondon.co.uk/media/730274/Accenture-The-Future-of-Fintech-and--Banking-digitallydisrupted-or-reima-.pdf




http://www.mckinsey.com/industries/financial-services/our-insights/the-fight-for-the-customer-mckinsey-global-banking--annual-review-2015




https://www.accenture.com/t20160427T053810__w__/us-en/_acnmedia/PDF-15/Accenture-Fintech--Evolving-Landscape.pdf




https://www.ivey.uwo.ca/cmsmedia/3341211/citi-2016-fintech-report-march.pdf



https://www.bottomline.com/sites/default/files/digital-banking-aite-battle-for-smb-dsg-srr-1602-016.pdf



http://aitegroup.com/report/ten-things-banks-need-know-about-their-small--business-customers



http://aitegroup.com/report/monetizing-small--business-opportunity

http://aitegroup.com/report/monetizing-small--business-opportunity

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Smart banks can win: Leveraging next-generation technology ......• FinTech revenues will increase 10 times in the next four years, exceeding US$100bn.7 JP Morgan Chase CEO Jamie