A report from The Economist Intelligence Unit The disruption of banking Sponsored by The disruption of banking Contents Introduction Fintech—the perspective of banks Fintech—the perspective of Fintech Banks and Fintech—symbiosis 10 Banks and Fintech—integration 11 © The Economist Intelligence Unit Limited 2015 The disruption of banking Introduction Digital disruption is the top-of-mind technological portfolios—from payments to lending to foreign issue in the C-suite today Senior executives in exchange As Jamie Dimon, CEO of J.P Morgan virtually every industry are wondering whether told his shareholders about Fintech: “They all want their irm will be Amazoned or Ubered Others take to eat our lunch Every single one of them is going a more nuanced view that new digital players to try.” might skim off their best customers or steal a share from their most proitable product lines All are market, Fintech has its share of hype and trying to determine whether they should ignore, promotion In order to develop a fact-based acquire, partner or compete with their new perspective, The Economist Intelligence Unit (EIU), technology-driven competitors sponsored by Hewlett Packard Enterprise, has One of the most publicised disruptive conducted parallel surveys of more than 100 challenges is the one posed to the multi-trillion- senior bankers and 100 Fintech executives The dollar banking industry by inancial technology objective is to determine their respective views on upstarts, known as “Fintech”.2 More than $25bn the impact of Fintech, the strengths and has been poured into Fintech in the past ive weaknesses of the participants and the likely years, making it the number-one target for landscape for the retail banking industry over the venture funding An estimated 4,000 irms are next ive years challenging banks in every product line in their Although it accounts for less than 2% of the For the purposes of this research, banking is deined as retail banking plus lending to small business Fintech is deined as new entrants that use Internet-based and mobile technologies to create new or superior banking products Fintech irms range from start-ups to the bank product offerings of large tech irms like Google or Apple © The Economist Intelligence Unit Limited 2015 The disruption of banking Fintech—the perspective of banks ❛❛ The holy grail for banks is to become the best at ‘integration’ ❜❜ Andres Wolberg-Stok, Global Head of Emerging Platforms and Services at Citibank Banking is one of the most entrenched of their own assessment, the formidable merger of incumbent industries, boasting trillions in assets inancial services and digital technology, or and comprising six of the top ten companies in “integration” “Customers’ underlying inancial the world More than 90% of households in needs haven’t changed dramatically but the way developed economies use a bank Most in which they want to fulil those needs has It is a important, banks’ positions are protected by a commercial imperative for banks to continuously maze of government regulations that restrict new innovate and upgrade their services to meet entrants and stile new forms of competition evolving demands,” says Miguel-Angel Rodriguez- So what banks have to worry about? By Sola, Group Digital Director at Lloyds’ Banking Banks’ views on the Fintech challenge Which scenario best describes your views on how Fintech might disrupt traditional banking? (% respondents) Fintech phenomenon is overstated 10 Banks will continue to dominate 20 A mix—bank and Fintech—each dominating sectors 33 Banks and Fintech will have about equal share 24 Banks will become minor players Source: The Economist Intelligence Unit survey, 2015 Banks’ response to the Fintech challenge How you view the banking industry’s response to Fintech competition? (% respondents) Banks’ views Fintech views Banks are not meeting the challenge IGNORING DISRUPTION Banks are not meeting the challenge TALKING ABOUT IT BUT NOT MAKING CHANGES 54 Banks are meeting the challenge TAKING APPROPRIATE STEPS BEING PROACTIVE Banks are overreacting IGNORING DISRUPTION TALKING ABOUT IT BUT NOT MAKING CHANGES 59 Banks are meeting the challenge 44 BEING PROACTIVE TAKING APPROPRIATE STEPS 40 Banks are overreacting Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking Group in London Some executives believe that digital disruption the right talent Without the right people, they cannot pursue the best strategies … and without is hype that will go away Not bankers More than strong Fintech initiatives, they cannot attract 90% of bankers project that Fintech will have a risk-oriented technology leadership … and so on signiicant impact on the future landscape of “It’s the personality of someone who chose banking Almost a third project that Fintech will banking as a career versus someone who wakes win an equal share or even dominate the market up and sees himself as an innovator or While apparently concerned, banks not entrepreneur,” says Steve Streit, Chairman, appear to be stepping up to the challenge A President and Chief Executive Oficer of majority of bankers (54%) believe that banks are Pasadena-based Green Dot either ignoring the challenge or that they “talk An oft-cited challenge to banks is their legacy about disruption, but are not making changes” technology systems Granted, banks’ networks An even larger percentage of Fintech executives are necessarily complex—they provide the (59%) agree with them back-ofice operations for thousands of complex What is holding the banks back? products, need to support stringent security requirements and must support exacting regulatory and risk- management standards By their own admission, banks see the chief However, many banks’ IT systems are barriers to responding to Fintech as the “soft ramshackle structures that include systems issues”—lack of a clear digital strategy, cultures installed in the 1970s, 1980s and 1990s “People unsuited to rapid change and an inability to now retiring are the only ones who understand attract how some of these systems work” says Noah top technological talent “It is a challenge we Breslow, Chief Executive Oficer (CEO) of OnDeck, face as banks to sustain the entrepreneurial spirit” a small business lending platform An industry built says Hector Lagos Donde, President and on acquisitions has resulted in multiple install Managing Director of Mexico’s Grupo Monex bases Many of these systems are in-house and One banker described this as a vicious circle— because banks are risk-averse, they not attract based on mainframe or client/server technologies “Banks’ systems are so complex and Banks’ self-assessment of their weaknesses in competing against Fintech How important are each of the following in driving competitive disadvantage for banks? (Bankers who cited “Very Important”) Culture & people Technology Business model Clear strategic vision for digital 49 Danger of security breaches 42 Culture not suited to rapid change 38 Lack of agility/slow to market 35 Constrained by legacy technologies 35 Recruiting/retaining technology talent 33 Appropriate leadership 31 Obtaining Senior Executive support 30 Regulatory pressures 30 Lack of clarity on Fintech opportunities to pursue 27 24 Investment capital Unwilling to cannibalize product 21 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking Banks’ self-assessment of their strengths in competing against Fintech How important are each of the following in driving competitive advantage for banks? (Bankers who rated each “Very Important”) Reputation for stability 42 Customer loyalty 41 Existing customer base 40 Risk management experience 39 Regulatory experience 34 Deep financial pockets 33 Regulatory barriers to entry 33 Federal deposit guarantee 33 Access to investment capital 31 Flexible and scalable technology 31 Physical branch network 25 Full line of banking products 25 Compelling marketing 16 Source: The Economist Intelligence Unit survey, 2015 clunky that it takes a bank two years to bring considerable strengths to the Fintech ight anything,” says one Fintech executive whose irm Banks’ greatest strength is clearly their customer provides payment services to leading banks franchise One of the hallmarks of the customer Regulation presents a double-edged sword to relationship is a reputation for trustworthiness and banks A majority of bankers (56%) believe that stability—no major retail bank failed in the regulation protects banks within their traditional inancial crisis of 2008 Banks are also one of the businesses But 62% also agree that regulation will most highly penetrated of all service providers— restrict banks in their response to Fintech—as more than 92% of US households have a banking reporting standards, risk-management practices relationship.3 and capital requirements make establishing and Second, banks bring hard-won expertise in the expanding new business models within the critical ields of regulatory compliance and risk banking system dificult to impossible management This is more than just know-how—it Finally, Fintech presents the challenge of product cannibalisation to banks A bank is hardwired into the technology networks that banks have spent billions to create considering a peer-to-peer lending business must Finally, banks have capital They have the accept that it will transfer share directly from its capacity to invest and build new ventures and long-established, deeply ingrained consumer the staying power to weather intense lending operation And it will so on a lower fee competition No wonder, then, that 95% of basis and at lower margins No wonder that banks bankers and Fintech executives believe that are hesitant to meet the challenge of Fintech banks will remain in a strong position even as But banks should not be underestimated—they Fintech gains ground © The Economist Intelligence Unit Limited 2015 Federal Deposit Insurance Corporation, June 2013 The disruption of banking Fintech—the perspective of Fintech ❛❛ Banks often underestimate the constraint of legacy systems that can hobble innovation in new products and services ❜❜ One of the more interesting indings from our the meantime, Fintech innovators enjoy a freer surveys is that Fintech executives respect the hand than banks “Fintech may not be as aware banks more than the bankers themselves of regulation,” says Mr King, “until they get René Lacerte, CEO,Bill.com, a Fintech devoted to accounts payable and accounts receivable for small business is hard to see a start-up beat them head on When asked about the future balance slapped down by it.” Fintech appears to between the two segments, Fintech executives understand this—and to accept the future need were more than twice as likely to predict that for experience in managing risk and maintaining banks would continue to dominate the market regulatory compliance “A Fintech that competes (46% v 20%) In a segment known for hubris and head on with banks needs a compliance and conidence, only in 20 Fintech executives predict regulatory team bigger than any other division in that banks will become minor players “Lots of the company” according to Erik Engellau-Nilsson, banks have such incumbency advantages that it Marketing Director for the Swedish start-up Klarna Instead we’re seeing more Fintech players and l Investment capital: Start-ups have a ravenous banks working together to deliver innovative appetite for cash Business models that require solutions and superior customer experiences,” says scaling up to millions of customers in just a few Sam Hodges, co-founder and U.S Managing years will always see lack of investment capital as Director of Funding Circle a constraint on their business In the absence of available funding, adroit Fintechs ind alternatives l Light regulatory hand The lack of regulatory “Collaboration rather than competition between constraints on Fintech feels like a competitive banks and Fintech can help startups overcome advantage today, says Moven CEO Brett King, typical challenges of balance sheet capacity and but in the future that advantage will diminish In distribution reach,” says Lloyds’ Rodriguez-Sola Fintech’s views on the bank-Fintech competition Which scenario best describes your views on how Fintech might disrupt traditional banking? (% respondents) Fintech phenomenon is overstated 12 Banks will continue to dominate 46 A mix – bank and Fintech – each dominating sectors 27 Banks and Fintech will have about equal share Banks will become minor players 10 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking Fintech’s self-assessment of their weaknesses in competing against banks How important are each of the following in driving competitive disadvantage for Fintech? (Fintech executives who cited “Very Important”) Lack of experience in risk management 27 Not having necessary investment capital 25 Lack of investment capital 24 Inexperienced leadership 24 Lack of customer trust 23 Need to build customer base 22 Inexperience with regulatory compliance 22 Danger of security breaches Do not carry full line of banking products 17 15 Source: The Economist Intelligence Unit survey, 2015 l Building a customer franchise: Fintech irms are customers generally not beneit from now less than 2% of the banking market They are government guarantees “Trust for new competing with the banks and 4,000 other organisations does not occur at the speed of disruptors to win customers of all kinds—and have technology” says Eugene Danilkis, co-founder only a few years to so Fintech executives and CEO of Germany-based Mambu, a cloud- consider building a customer base to be an based alternative to traditional banking platforms important challenge to the industry “You can build technology in a year or two but trust takes as long as human behaviour requires.” l Winning customer trust: Fintech is essentially Fintech will be challenged to gain customer trust asking millions of households to move their as they move beyond the early adopters inancial relationships to untried entities Fintech Fintech’s self-assessment of their strengths in competing against banks How important are each of the following in driving competitive advantage for Fintech? (Fintech executives who cited “Very Important”) Focus on limited product set 34 Absence of legacy systems 33 Agility and speed to market 31 Capacity to innovate 31 Technology expertise 27 Less regulatory pressure 27 Ability to improve current products 25 Superior customer experience 24 Proprietary applications & algorithms Scalable, flexible technology 22 21 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking l Providing a single product: Fintech executives be a monolithic attack on incumbents are aware that banking customers are used to (compared with iTunes in the music industry or having all of their banking needs met under one Kindle in books) but will, instead, be the sum of roof They lack the ability to cross-sell or build individual product-by-product battles common platforms for just a single product But Fintech irms also bring important assets to With this in mind, we asked Fintech executives to give their views on the likely competitive balance between themselves and banks in the the arena Foremost is the ability to take a “category killer” approach to banking portfolios Fintech irms are nine primary retail products in ive years Their responses show some interesting patterns: able to maintain a laser-like focus on a single product, building excellence into both the l Banks will continue to be the dominant players technology and the customer experience in all categories: Even disrupting irm executives— Second is their nimbleness in technology—both an usually known for their hubris—expect banks to attribute of a disruptive irm’s culture and of remain the dominant inancial institutions in all Fintech’s “clean slate” technology base product categories This not the case in other But Fintech’s greatest underlying strength is its industries (for example, the music or travel culture, which provides an ability to move fast, to industry) where disruptors expect to and have take risks, and to innovate This strength is become market leaders acknowledged by both the Fintech irms and the banks that compete with them The disrupted banks—why they need Fintech l All bank products are on the table for digital disruption: Fintech executives believe that Fintech will take a share in products ranging from mortgages to payments and from deposits to As noted, Fintech irms are typically focused on a small business loans—a view echoed by bankers single product and have created business models There will be no safe haven from disruption and technology structures tailored to that product’s market Therefore, disruption is not likely l While Fintech will not dominate, it will take a The future landscape—balance of banking and Fintech by product For each banking product, what is the most likely competitive balance between banking and Fintech in five years? Banks will be dominant/major players Split the market Deposits (short term) 67 Small business loans 14 28 68 Home equity loans 68 Auto loans 16 20 59 Transaction accounts 22 17 66 Payments & money transfers Mortgages 11 67 Term deposits Credit cards Fintech will be dominant/major players 12 21 11 20 72 20 60 32 79 19 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking signiicant share: Even allowing for a certain level of hubris, Fintech looks poised to take a signiicant share of the total market They are showing early success, with Fintech reporting strong growth in Fintech executives are very aware of the revenue in 2014 challenges they face in the retail banking market Across the board, banks are being presented The irst challenge is the odds More than 4,000 with compelling, transparent business models that new irms (with more than 1,000 in payments challenge them for market share in each product along) are vying for banking customers—perhaps In foreign exchange payments, start-ups are 100 will be truly successful Candidates will need matching individual holders of euros and dollars to every advantage to win in a crowded market lower exchange fees by 90% Google Wallet The second is scale The business models of makes possible the use of a smartphone as a many Fintech entrants require that they ramp up wallet, cutting bank fees and giving Google to millions of customers or transactions if they are control of a customer segment that is younger, to make the return on investment (ROI) work wealthier and more tech-savvy than the average Making their products and brand known, with Lending Club uses a peer-to-peer model that limited name recognition and smaller marketing allows it to avoid most regulatory burdens, while budgets, will be a challenge Earning the trust of offering lenders and borrowers dramatically better customers as a inancial partner will be an even rates And so on throughout the product portfolio greater challenge So the danger to banks is not corporate oblivion The third is time Fintech irms are in a land-rush like that experienced by travel agencies or environment, needing to be the irst to establish a Eastman Kodak The danger is that innovative dominant standard or to gain a critical mass of business models take a bite out of every part of networked customers Furthermore, many of them banks’ product portfolios— skimming off their best work under a venture capital model that funds customers and driving down fees The problem is them for only three or four years—if not successful likely to grow as tech-savvy millennials, who have by then, they go bust So Fintech irms are in a little loyalty to banks, begin to take larger shares of hurry inancial assets In their worst-case scenario, banks Finally, as the successful irms emerge, they will become commodity providers of back-ofice have to make the painful migration from start-up functions, with lower growth and squeezed to being a real inancial services irm In the margins banking world, this requires taking on the Banks can stop this “death of a thousand cuts” regulators, becoming proicient in the art of risk They need to co-opt the challenge by selectively management, ensuring data security and building adopting Fintech as their own and marrying the the technology to support these capabilities disruptors’ innovative business models to their own The Fintech disruptors— why they need banks For many Fintech irms, the key to success will strengths and considerable assets “We don’t see be partnering well The lucky few that can marry disruptors as a threat” says Chad Ballard, Director their models to existing institutions with trusted of Mobility and New Digital Business Technologies, brands, deep pockets, industry expertise and at BBVA Compass (the US arm of Banco Bilbao millions of customers will be the ones that pull Vizcaya Argentaria) “We see opportunities to ahead of their peers to achieve rapid scale The collaborate and work to create new product logical partners for the winners in Fintech will be innovations and better experience for clients.” the banks © The Economist Intelligence Unit Limited 2015 The disruption of banking Banks and Fintech—symbiosis ❛❛ This is a whole universe far beyond banking ❜❜ Beatrice Cossa Dumurgier, Chief Operating Oficer, retail banking at BNP Paribas, which operates digital HELLOBANK, a captive Fintech in the Eurozone As part of our research, the EIU asked bankers and could be via Fintech” says Kobus Van De Venter, Fintech executives to assess their own strengths Executive Head: Group Technology Strategy, and weaknesses as they prepare to compete with Execution Ofice and Insight at Nedbank in South each other What is interesting is a remarkable Africa The question is whether, in leveraging the match between the strengths of banks and the assets of their larger partner, a Fintech partner or weaknesses of Fintech, and, conversely, the acquisition can maintain its identity and freedom strengths of Fintech and the weaknesses of banks of action One complementary factor is obvious: Fintech What’s more, can the new Fintech operators needs customers and banks have customers But avoid past mistakes with systemic consequences? their mutual interest goes further Banks’ brands Many Fintech irms act as new intermediaries (eg and resources can provide assurance to brokers in peer-to-peer lending) that not bear customers in a sensitive product ield The Fintech the risk for the loans they make We all remember offering can be one of a number of products for the consequencies of that in 2008 customers who want to bank under one roof What Fintech can provide for banks is a mirror Banks and Fintech irms have more business interests in common than issues that divide them image—the ability to move quickly and to Clearly, some Fintech irms will choose to go it alone innovate using technology “In some instances, and some banks will stick to traditional banking your fastest pathway to delivering client value products Assessment of banks’ strengths versus Fintech’s weaknesses How important are the following in giving banks/Fintech an edge in competition? (%, Banks and Fintech’s self-assessments, citing “Very Important” or “Somewhat Important”) Strength of banks Existing customer base Need to build customer base 83 70 Reputation for trust and stability Lack of customer trust Experience with regulators Inexperience with regulation Weakness of Fintech firms 80 79 Full line of banking products Limited line of products 81 66 Lack of investment capital 80 82 79 Deep financial pockets 74 80 Effective risk-management programmes Lack of experience in risk management 75 Source: The Economist Intelligence Unit survey, 2015 10 © The Economist Intelligence Unit Limited 2015 The disruption of banking Banks and Fintech—integration ❛❛ Fintech is the main topic that bankers want to talk about at bank forums ❜❜ Matt Wilcox, Senior Vice President, Marketing Strategy and Innovation, at Fiserv, a company that arms banks worldwide with high-tech products including Popmoney, a peer-to-peer payment system “If I were a betting person” says Phil Heasley, CEO future state of the combined entities of ACI Worldwide, “I’d say that some really smart banks are going to survive by merging with some Ringfence the new culture: Banks have risk and really smart Fintechs.“ The special challenge of process-focused cultures because their regulators this “Fintegration” is preserving the acquired and their business practices demand it Imposing company’s agility and innovation, while marrying these practices on a free-wheeling start-up may it to the controls and assets of the bank Here are suffocate the very agility that is the goal of some guidelines from those who have gone there acquisition In today’s talent market, it can also before (in very rough order of implementation): drive attrition of the human assets It may be advisable to “ringfence” the new entity—with its Include IT in the due diligence and integration own leadership, compensation, rules and even planning: Combining a bank and Fintech is at its physical location—to preserve its innovative heart combining two technologies When IT is mindset involved early, it can pre-audit the two infrastructures, identify the touchpoints, and Make regulatory integration an early priority: create the integration plan The acquisition should This opposite is true for regulatory compliance not be closed without an “IT battle plan” that Once the deal is closed, Fintech employees maps the current state, transformation plan, and should be on-boarded onto the bank’s Assessment of Fintech’s strengths versus banks’ weaknesses How important are the following in giving banks/Fintech an edge in competition? (%, Banks and Fintech’s self-assessments, citing “Very Important” or “Somewhat Important”) Strength of Fintech Absence of legacy software/systems 80 Constrained by legacy technology 75 Capacity to innovate Lack clear strategic vision Less regulatory pressure Under regulatory pressure 70 Weakness of banks 77 78 Agility and speed to market Culture not suited to rapid change 79 81 Technology expertise 79 Able to improve current products Inability to recruit/retain tech talent Unwillingness to cannibalise products 76 66 80 75 Source: The Economist Intelligence Unit survey, 2015 11 © The Economist Intelligence Unit Limited 2015 The disruption of banking compliance platform Mandatory training should Integration of enterprise infrastructures: Once take place, and policies, contracts and guidelines these priorities have been met, the process of should be integrated into the highest standard of integrating the two infrastructures—data centers, the two entities data networks, network and application architecture, etc—begins For some banks, this Make data security an early priority: Our may be a stimulus for migrating legacy systems to research has shown that many Fintech irms more cost-effective cloud networks not place as high a priority on security as their counterparts at banks A security audit should be This process could be summed up as “keep two part of due diligence, and immediately after cultures, but integrate the technology back close both entities should be brought within ofice” This solution is designed to preserve the common protocols and networks, preferably at culture of innovation, marry it to the assets of the the higher standard of the two bank, and accelerate the combined offering to market Data integration: A centrepiece of the IT Battle True, not all Fintech irms will partner with banks, Plan should be a roadmap for the integration of and many banks will choose to home-grow their data In particular, a primary data management models But we project that a dominant trend in system that allows an integrated, common view retail banking over the next ive years will be of customers should be an early priority Utilisation banks’ co-option of Fintech models of lexible cloud or hybrid cloud systems may accelerate this process Banks have proven their adaptability before; for example, when they digitised themselves and went online in the 1980s and 1990s We expect to see many of the same banking names in 5-10 years, but the way we receive banking services will have shifted As is the case in so many disruptive events, the winner will be the consumer, who will receive lower prices, more innovative products and better service in a transformed banking world 12 © The Economist Intelligence Unit Limited 2015 The disruption of banking Whilst every effort has been taken to verify the accuracy of this information, neither The Economist Intelligence Unit Ltd nor the sponsor of this report can accept any responsibility or liability for reliance by any person on this report or any of the information, opinions or conclusions Cover: Shutterstock set out in the report 13 © The Economist Intelligence Unit Limited 2015 London 20 Cabot Square London E14 4QW United Kingdom Tel: (44.20) 7576 8000 Fax: (44.20) 7576 8476 E-mail: london@eiu.com New York 750 Third Avenue 5th Floor New York, NY 10017 United States Tel: (1.212) 554 0600 Fax: (1.212) 586 0248 E-mail: newyork@eiu.com Hong Kong 1301 Cityplaza Four 12 Taikoo Wan Road Taikoo Shing Hong Kong Tel: (852) 2585 3888 Fax: (852) 2802 7638 E-mail: hongkong@eiu.com Geneva Boulevard des Tranchées 16 1206 Geneva Switzerland Tel: (41) 22 566 2470 Fax: (41) 22 346 93 47 E-mail: geneva@eiu.com ... minor players 10 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking Fintech’s self-assessment of their weaknesses in competing... 19 Source: The Economist Intelligence Unit survey, 2015 © The Economist Intelligence Unit Limited 2015 The disruption of banking signiicant share: Even allowing for a certain level of hubris,... management 75 Source: The Economist Intelligence Unit survey, 2015 10 © The Economist Intelligence Unit Limited 2015 The disruption of banking Banks and Fintech—integration ❛❛ Fintech is the main topic