Fast Money: The Innovation Race Between Established and Upstart Financial Services Firms
The banking and finance industry has always been capable of adapting. But as the world recovers from the pandemic, banking and financial services face a new disruption from fintechs and “neobanks.” With lower cost bases and a very different, technology-driven approach to customer experience, these newcomers have been developing fast.
The financial services sector has also experienced a massive rise in digital banking usage caused by the Coronavirus pandemic. For institutions with healthy infrastructure, this was a big positive, whether it was in high net worth advisory or remote banking. It also showed the centrality of high-quality digital banking user experience to today’s customers.
We must not assume, however that all is well on the disruptor/innovator side. Some neobanks were laying off staff during the pandemic because their ramp-up costs are high – and their paying customer bases are still growing. They also have market share and profit margin challenges through stiff competition from other fintech companies.
Established finance institutions, on the other hand, have huge numbers of customers and significant revenue streams. Their challenge: to innovate and make their legacy systems and data management strategies swift enough to keep up with their new upstart challengers. These legacy systems and problems with data management have hampered innovation.
The challenger neobanks and fintechs, by contrast, are far more agile: they have perhaps two-thirds lower technology costs and offer the interfaces and functionality younger consumers and companies want. They also have investors who support them. Yet they don’t have the scale of the big banks, nor the data. In banking, success is all about scale and achieving it is not easy. Each side also has different cost-pressures. While the fintechs concentrate on the cost of getting a new customer through the door, banking industry incumbents want to be more efficient and reduce the cost of execution.
How the financial services industry will evolve
Large banks know if they get the connection right with consumers and corporations, they will be in a much better position in the next five or ten years. To do this, however, they need the fintechs’ agility. They must simplify their data management so they can adapt to changes in demand rapidly and scale as workloads increase. They must be capable of building and deploying data-intensive AI applications faster so they can transform the user experience for consumers. There needs to be a wider recognition that simpler approaches can be highly effective.
Fintechs and neobanks, on the other hand, need a compelling value proposition to attract consumers and generate meaningful revenues.
This is why the incumbents and the fintechs will draw closer through collaboration or acquisition. By collaborating with incumbents, fintechs and neobanks can use their digital skills and innovation to make niche areas of the established institutions’ operations far more profitable while benefiting from access to a massive customer base it would otherwise take them years to acquire.
Modern data management technology such as microservices, APIs and API management, have lowered barriers to publish and consume services, creating a dynamic ecosystem that allows organizations to focus on their core competencies and differentiation. They can rely on the ecosystem for commoditized, non-core, and non-differentiating capabilities.
Acquisition, on the other hand, brings its own problems, since the pace of innovation often slows once a young organization has been bought by an established competitor.
For these reasons, we may see a hybrid model between collaboration and acquisition, in which the big incumbents develop through consolidation into aggregators, becoming open banking marketplaces and acting as the nexus between customers and services. A new digital retail bank may, for example, use a major player’s credit expertise, risk and control mechanisms while designing a new user experience from scratch.
Whichever model of cooperation it is, the new offerings devised together by incumbents and fintechs will have to stand out. With so much competition, differentiation through excellence in technology, customer experience and support will be essential.
What does the future require?
Agility is vital to the future of banking and should be a major aim for all ambitious financial organizations. Mindsets must change as well as technology.
From now on, senior management in banks must think like their counterparts at software companies. That means constantly gleaning what is going well or wrong and acting on it. When there are problems, they should be fixed before customers are fully aware. Many neobanks are leading the way on this, updating their apps weekly. Big banks, by contrast, are much slower, updating apps yearly or quarterly, with a few in the four-to-six week timeframe. This has to change.
When deciding how to transform, incumbent organizations must ask themselves how they are addressing client and employee needs in terms of products, services and information. They must build a picture of where banking is going and be confident they are heading in the same direction. Established banks must become product-oriented organizations just like digital native rivals, abolishing internal boundaries and creating cross-functional teams under product owners.
Keep the organizational DNA alive
Scale, innovation and agility have become vital attributes in banking. Yet as incumbent institutions adapt and assess which newcomers to partner with or acquire, it is essential they do not lose sight of what it is that makes them special or forget what their goal is. Banks are still about people, processes and technology, and the people side of the business is where high levels of service and distinctiveness enable the organization to stand out and build profitable long-term relationships.
If organizations lose their DNA, they will crumble. Incumbent banks have a larger and more diverse customer base that is difficult to please and, in today’s world, less likely to tolerate low levels of service from loss of organizational focus.
Established banks must be as nimble as possible and collectively approach their work as if their business model is at risk every day. It is not only digital transformation that is necessary, but also a mental mind-shift. Only then can banks believe they are on the path to digital transformation, resilience and long-term profitability.
Find out more about the future of financial services and why the ability to see around corners will offer the most advantage in this webinar hosted by The Economist.
Michael Hom is a technology executive with over 25 years of experience working in Financial Services industry. Prior to joining InterSystems, Michael was a Managing Director managing Global Rates, Securitized Products, and Municipals Technologies at Royal Bank of Canada Capital Markets. Previously, he was an Executive Director overseeing Cross Product Technologies including Risk, Sales and Trade Management at Nomura Securities. Michael started his career at Lehman Brothers, building systems in the Rates, Foreign Exchange and Emerging Markets areas. Later on, he became Senior Vice President leading Securitized Products – Whole Loans, Real Estate, and Principal Finance Technologies. He holds a Bachelor’s degree in computer science from Columbia University School of Engineering and Applied Science.