I have never been as torn about the future prospects of banking as I am now. Even during the Icelandic financial crisis of 2008, my mind was not as close to blowing up as it is today. I am scared that people will need banking but not banks.
I am not only scared. I am also excited about the opportunities of the drastic changes ahead, the importance of staying on top of what is going on and of understanding to what is needed to win. In this turbulence you need to prepare well on multiple fronts, e.g. on how to embrace new European regulations like PSD2, the new payments directive, or GDPR, the new data protection regulation, and that is exciting.
Leaking profit pool
The consulting firm McKinsey believes that up to 40% of revenue and 60% of profit of important retail banking products will be at risk by 2025.
In another report the firm states that by 2020 the global payments industry will generate over $400 billion more in annual revenue than today. The problem for banks is that the value will be captured by the likes of Facebook, Google, Paypal and Amazon as they all have a banking or e-money license that enables them to compete with banks in a different way than before (see here: Facebook, Google, Paypal and Amazon).
The incumbents often innovate incrementally but today banks are being attacked from all sides. The disruption is not only coming from the tech behemoths but from unknown and unexpected players. Those are daring and able to do a different kind of business. The substitutes are therefore more dangerous than the imitators.
Stripe’s recent round of funding adds credibility to the threats of the substitutes. Stripe is a payments company founded six years ago by the Irish brothers Patrick and John Collison. Their recent funding round of $150M was led by Google-owner Alphabet’s venture capital firm CapitalG, doubling its valuation to a staggering $9 billion. This isn’t the only startup willing to swim in banks’ profit pools. The trend of their valuation also indicates that they are not the only ones believing they actually can do that.
This time it’s different — really
It can be a problem convincing the non-believers of this banking turmoil although it looks scary. Bankers have been expecting drastic change in banking for a long time. The non-believers can easily claim that this is another cry of wolf from the disruption choir. That choir has been singing the tune of a banking revolution for over twenty years, without any drastic change actually happening.
McKinsey addressed this concern in the 2015 Global Annual Banking Review in a side-note called “This time it’s different — really”. Although that there are striking similarities between today’s digital revolution and the dotcom bubble of 2000–2001 McKinsey mentioned at least three major differences; mobile connectivity invading our lives in totally different way than before, the scope of the revolution and how it it invades every aspect of the value chain in banking and thirdly the millennials, a generation that grew up with the internet and are becoming 75% of the buyers of banking services.
The way to win
Personal banking will be the first part of the banking business to be disrupted. My advice on the ways to win in banking is therefore focused on what is needed to win in personal banking. Banks have already lost if they don’t get the personal banking disruption play right. The other plays that follow don’t really matter.
In a true ex consultant spirit I want to highlight three themes that are key to staying relevant in personal banking; Centralization, Customer Centricity and Error Tolerance.
From Decentralization to Centralization
Banks need to replace a de-centralized infrastructure based on people with a centralized infrastructure based on data. People will not be the default option nor the core of the service model. They will a part of the omni-channel experience and only deployed for the value-adding activities that machines cannot do.
This centralization is important as well as doable as over 90% of all credit and service decisions in personal banking can be data driven in a more efficient, better and profitable way.
With lowering of fees, e.g. the card interchange fee (MIF), and increased regulatory cost, the margins are slimming too much to make the incremental changes enough.
Data driven centralized systems can lower cost on multiple dimensions, one being the reduced need for highly skilled credit people in the front-line. It can ensure a holistic user experience across all channels. Products are served through the most relevant channels — and only the channels that have the cost structure that make it feasible to use that channel.
The centralized data driven service model can also be more personal and easier to execute with less variability in performance than the direct personal interaction in a decentralized structure.
The people based de-centralized structure relies on exceptional people to provide excellent service. The centralized model relies only on exceptional structures and systems. Ordinary people with such structures and systems will have the abilities to provide exceptional service.
From Product to Customer
Personal banking needs to be transformed to customer centricity from product centricity. Customer centricity in banking can be defined as how bankers can use knowledge of customers to meet those customers needs and achieve trust-based long term relationships.
The consulting firm BCG frames this well in a 2012 report on customer centricity in retail banking. In marketing we need to foster a dialogue centered on each individual customers’ financial needs and make explicit commitments through as direct personal channels as possible. We should not forget that if we do mobile banking the right way our key customers touch us much as 10 times more than before and that gives us a great opportunity to provide personal value to each customer.
Customer centricity and pricing means that all pricing structures should be simple and fair, with transparent fees based on the value as opposed to one-price-fits-all mandates with hidden charges.
From Risk-Averse to Error Tolerant Culture
The third must to stay relevant in personal banking is the ability to build a culture of error tolerance. This is important to facilitate faster change and better customer service.
How BBVA, the multinational Spanish banking group, has reacted to the whirlwind of disruption is a good benchmark for other banks. In 2014 BBVA outlined how they were transforming the organization internally by fostering a new culture.
BBVA stated that the new culture was relying on error tolerance (as outlined in the company’s 2014 shareholder report on page 33). I think this was smart, needed and important for the execution of BBVA’s strategy.
At Íslandsbanki we have not changed our values or vision but we realize that we need to move to stay relevant, and such moves need agility, speed and error tolerance. We practiced that in the fall of 2015 when we launched Kass, a new mobile P2P wallet investment, that was approved by the management board and launched to the public within three months.
The solution was programmed by an external team, smart guys at Memento Payments, but the full end-to-end was managed by a cross-functional Íslandsbanki team. The team was working night and day for the period to bring a solution to the market in a time-frame drastically different from what we are used to and it worked. And it was great. But it wouldn’t have worked unless everybody embraced that the risk of errors was much greater than in most previous projects.
We made a lot of mistakes but now we are in much better shape to take the next steps. We didn’t let perfect get in the way of getting things done.
Not without challenges
But working fast and working with start-ups doesn’t always work — you need to be completely aware that a partnership with start-up entails risk.
Last year we were the first client of QuizUp at Work, a new product from the Icelandic QuizUp trivia game app, the now defunct but at the time the highest flying start-up in Iceland. We planned to use the platform for internal education, compliance testing and so on. One day we called QuizUp and they told us that they were no longer servicing the QuizUp at Work product — focusing solely on a tv show they planned to do with NBC in the US. So that ship had sailed: our investment in the startup’s project was lost because of their own pivot.
Íslandsbanki likes partnerships with start-ups and we realize that when we work with start-ups it means increased execution risk. Bankers need to admit and embrace that if you want to have chance to win you need to be ready to sometimes miss. No matter how good you are if you shoot you will miss a shot in a ball game. The only way not to miss is not to shoot.
It can mean that solution will not work out — but if we don’t try we will probably not stay alive long enough to stay relevant.
Avoid extinction, for now
Banks need first to win the personal banking battle. We need to prove to ourselves and to our customers that people in the future will need banks and not only banking.
We need to adapt to change of tides and embrace data driven centralization of our infrastructure, customer centricity of our service offering and error tolerance of our innovation. By doing this we are more likely to win and avoid the risk of becoming dinosaurs that will soon be extinct.