Roadmap to successful core banking system replacement - Critical success factors and best practices

Core Banking Trends in Asia Pacifi c Market Trends 1.1 Prominent recent deals in the region 1.2 Geographic dispersion of deals in recent years and 2006 estimates 1.3 Activity within count

Critical Success Factors and Best Practices

Ne e ti Ag g a rwa l, C FA

Pub lishe d Se p te mb e r 2006

Ma na g e me nt Re p o rt:

Ro a dma p to Suc c e ssful

C o re Ba nking Syste m Re pla c e me nt

C ritic a l Suc c e ss Fa c to rs a nd Be st Pra c tic e s

Although the author and publisher have tried to provide information

as accurately as possible, they accept no responsibility for any loss, injury or inconveniences suffered by any person using this document The author and publisher have taken all reasonable care to ensure the data and information in this report is accurate and presents a fair representation of the subject matter

First Publication: 15 September 2006

ISBN: 981-05-6643-3

© 2006 The Asian Banker All rights reserved

The Asian Banker, incorporated in Singapore as T.A.B International Pte Ltd, claims all rights as owner of intellectual property in this report No part of this document may be reproduced, stored in a retrieval system or transmitted in any form by any means, electronic, mechanical, photocopying, recording or otherwise, without the written permission of the publisher and the copyright owner

ABOUT THE ASIAN BANKER

Asia’s fi nancial service landscape is undergoing tremendous change and evolution

Liberalisation, consolidation and rapid technological advances have opened up

tremendous opportunities for fi nancial institutions and, it is vital for banks to benchmark

themselves against their competitors and to keep abreast of global developments.

Decision-makers need accurate, incisive, timely and continuous information to bring their

organisation to the next level, meet competitive challenges successfully and manage

their own future The Asian Banker has long recognised the importance of information as

a strategic management and decision-making tool and is positioned to provide banks and

partner organisations useful, crucial and timely business intelligence.

The Asian Banker achieves this through three synergistic services:

Asian Banker Research: current, continuous and in-depth research on best

practices and market developments and trends

Proprietary & generic research services

Subscription-based research support services for different programs

Asian Banker Publications: incisive news and information on transformational

issues

The Asian Banker Journal

Asian Banker E-newsletters on different segments in the fi nancial services industry

such as operations & technology, wealth management, CRM, retail distribution and

payment systems amongst others

Annual Publication: The CEO Collection; The Asian Banker 300 Banks Ranking

Special Reports on M&A; Internet Banking; Payments Systems; Retail Banking;

CRM; Risk Management; Wealth Management and Operations & Technology

Asian Banker Forums: exclusive gathering of industry leaders and senior decision

makers to network and exchange information

Annual Major Conferences

The Asian Banker Summit

The Future of Banking in China

Asia Pacifi c Heads of Retail Banking Annual Meeting

China International Risk Convention (CIRC)

Roundtable Series / Consultative Forums

Wealth Management Advisory Forum

Consumer Credit Advisory Forum

Risk Advisory Forum

Industry Briefi ngs

Contact:

THE ASIAN BANKER

10 Hoe Chiang Road

We would like to convey our sincere thanks to Mr Hubert Knapp for sparing his valuable time and providing us with important insights into core banking systems for the preparation of this report

Mr Knapp is one of our International Resource Directors He is currently a Managing Partner in Immacon Pte Ltd and holds a dual responsibility as Executive Partner in Motif Technologies Bangkok

Mr Knapp has 25 years of experience in the fi nancial services industry He specialises

in core banking enabled change, business transformation, credit risk management and strategy development His career in banking and consulting covers assignments

in Germany, United Kingdom, Switzerland, Turkey, Nepal, Sri Lanka, ASEAN and many other parts of the world

He has managed retail and wholesale banking operations for major global banks

in Europe and Asia After his stint as Deputy General Manager of a joint-venture merchant bank in Indonesia, his interest turned to fi nancial services consulting His consulting assignments constitute a highly diversifi ed portfolio that includes some of the largest commercial banks in Asia

Critical Success Factors and Best Practices

Table of Contents

1 Core Banking Trends in Asia Pacifi c

Market Trends

1.1 Prominent recent deals in the region

1.2 Geographic dispersion of deals in recent years and 2006 estimates

1.3 Activity within countries and their vendor preferences1.4 Estimates of system and software spending in Asia Pacifi c

Technical Trends

1.5 Evolution and convergence of core banking systems1.6 Technology integration in Asian countries

1.7 Trends in platform usage among Asian countries

1.8 Trends in deployment approach

2 Bankers’ Perception Survey on Core Banking System Selection

2.1 Survey results on key reasons for replacement

2.2 Survey results on factors considered in system selection2.3 UNIX versus mainframe – survey results on

considerations in system selection

3 Core Banking System – An Overview

3.1 Core banking system – an introduction and defi nition3.1.1 Defi nition of core banking system

3.1.2 What to expect in core banking replacement

3.1.3 Rationale for front-end systems replacement3.2 Overview of the core banking system replacement project

4.4.4 The right architecture and platform4.4.5 Selection process

4.5 Phase 3 – Implementation 4.5.1 Key challenges and critical success factors4.5.2 Implementation process

4.6 Phase 4 – Deployment4.6.1 Deployment process4.6.2 Deployment approaches4.7 Risk mitigation

4.8 Financial implications

5 Core Banking Replacement Building Blocks

5.1 Application architecture and core banking5.1.1 Key issues

5.1.2 Deployment strategy5.2 Service oriented architecture5.3 Interface considerations 5.4 Coexistence

5.4.1 Branches5.4.2 Call centres5.4.3 ATM transactions5.4.4 Other online interfaces5.4.5 Batch interfaces – inward clearing

5.4.6 Batch interfaces – outward clearing5.4.7 Other transaction implications

5.5 Data conversion and data cleansing5.6 Product rationalisation

5.7 Process rationalisation

6 Critical Success Factors and Best Practices

6.1 Project organisation and programme management

6.1.1 Stage 1 project organisation6.1.2 Stage 2 project organisation6.1.3 Stage 3 project organisation

6.2 Critical success factors and best practices in system selection

6.3 Critical success factors and best practices in vendor selection

6.4 Best practices for vendors (for successful implementation)

7 Unique Core Banking Replacement Considerations

7.1 A large multinational bank7.2 A small commercial bank7.3 An Islamic bank

7.4 “Internet only” banks7.5 Mergers and acquisitions of banks

8 Country Trend Analyses

8.1 India8.2 China8.3 Japan, Korea and Taiwan

8.4 South East Asia – Indonesia, Malaysia, Thailand and Singapore

A1.1 State bank of IndiaA1.2 Union bank of Philippines

A1 Appendix II – An Average Request for Proposal

of the task is such that it is often compared to a heart transplant, involving huge risks, high costs and substantial time and human resources.

The critical need for replacement stems from rising customer expectations and existing technical limitations Banks are fi nding it imperative to expand their channels and services while managing operational and technical costs even as margins are shrinking due to stiff competition But this is hampered

by technical limitations as many traditional fi nancial institutions are shackled

by a series of heavily siloed non-integrated back-offi ce legacy systems in which customer information resides in multiple and unconnected locations

Attempts to integrate these through layers of middleware have just made the structure more complicated in many cases On the other hand, abandoning the antiquated structure itself presents a major challenge from the organisation and fi nancial perspectives But competitive pressures are forcing banks

to take speedy actions, as can be seen in our analysis of trends in Asian markets

Analysing the Asian markets and the recent core banking replacement decisions, we found that there has been a gradual rise in the number of core banking deals in the last two years Interestingly, almost half of the deals during this period have come from state-owned Indian banks These banks had faltered due to competitive pressure from private banks and have found

it imperative to purchase (in most cases for the fi rst time) new core banking systems and upgrade themselves technically to improve product innovation, agility in decision making and cost effectiveness We expect the Asia-wide trend to continue in the year 2006; but as the Indian market nears saturation, there are likely to be fewer deals from this country in the following years

Looking at the trend in countries that have fi rst-generation technical sophistication, we have discovered that core banking replacement is considered a cyclical industry as banks come to the market about every 15 years to replace an ageing system and improve their effi ciencies In the last two years, many banks in countries like China, Taiwan and Malaysia have shown initial signs of awakening to the need for technical advancement We expect to see increasing activity in China with foreign banks getting full access

to the sector in 2007 under WTO stipulations and with China’s hosting of the

Olympics in 2008 On the other hand, we have found that banks in countries like Japan and Indonesia are still mulling over the wisdom of replacing Once a bank has decided to replace its system, it embarks on a complex process involving a series of critical choices To start with, the bank has

to decide on the most appropriate approach to system replacement The choices vary with the availability of technical skills, complexity of the project, availability of products and costs involved As banks weigh their options, they often have to consider the pros and cons of “buying” versus “building” and “purchasing” versus “outsourcing” We have discovered that most Asian banks increasingly prefer to focus on their core business rather than lock their resources in building a system and there is a distinct trend towards the purchase of packaged solutions However for large multinational banks,

a ready packaged solution often does not meet the complex requirements and hence may require further development (as in the case of HSBC) or substantial customisation at the minimum

To better comprehend the complicated process of core banking replacement,

we begin with a defi nition of the core banking system We defi ne it as a highly effi cient “customer accounting” and transaction processing engine, for high volumes of back-offi ce transactions and customer-level accounting and reporting of the deposit and loan products processed in the bank However

it does not include the front offi ce Thus we believe that the bank has to

fi rst determine whether it really needs to replace its core system or it can manage with just front-offi ce replacement In many cases, it is likely that the bank needs to replace both along with the general ledger – which would be

a project of even bigger magnitude If the bank has to change both front end and core banking, we recommend it be done through the same vendor to avoid integration issues

Our research shows that banks which go ahead with replacement should make a clear transition from their legacy system to the new system Partially bringing old elements such as codes, process automation and loss-making legacy products into the new environment will lead to sub-optimal returns

We have divided the process of core banking replacement into four phases The fi rst phase is business justifi cation and identifi cation of business requirements through delta analysis We believe that the bank should, fi rst and foremost, determine its long-term strategic goals as these would guide the bank towards the critical requirements for its system With the business objectives in mind, banks need to analyse the capabilities and defi ciencies

of their existing core banking system to determine the new system’s requirements – yet during our research, we discovered that only 70% of the banks in our sample do so In addition to setting the objectives, the bank should establish the business and fi nancial justifi cation for the project at this

early stage of the process.

The second phase of the project is selection of the system and the vendor

Selection of a core banking system will affect not only the growth and fi nancials

of the organisation but also its viability and competitiveness Hence banks need to critically evaluate all available options and select the system that provides the right DNA (the architecture) to meet its business and strategic requirements We believe that the selection process should involve business representatives from all functional divisions owing to the pervasive nature

of these systems within the organisation Viewing the project as just an IT project would be a recipe for failure

The selection process begins with the issuance of a Request for Proposal

to various vendors Each of the bids is assessed on both qualitative and quantitative terms across a matrix of selection criteria The critical requirements from a new system are fl exibility and scalability to cater to future growth We advise banks to ensure that with the new system, they are not simply shifting

to a bigger box which may become a constraint again in a few years’ time,

as this would defeat the whole purpose of replacing the system Equally important is that banks should not be enamoured with “bells” and “whistles”

(which are more often than not the front-end features) and should look for

a system that has the requisite processing power rather than just a user friendly front-end screen

We have discovered that one of the challenges is picturing the banking landscape in years to come due to the rapid pace of change in the banking business Thus the right selection would be one with a forward-looking

fl exible architecture that has the ability to support the business ambitions of the bank and allows for future modifi cations with ease This can come from Service Oriented Architecture (SOA) SOA is a relatively recent development which, in its purest sense, is centred on loosely coupled components which support generic services and are based on web technology In a core banking context, it essentially means reducing barriers in antiquated infrastructure and creating real-time integration of disparate systems and sharing of databases

on a fl exible and easily upgradeable infrastructure We advise banks to look for a system that has the fl exibility of SOA and to integrate their systems and components in an SOA-based framework within the bank

Banks need to select not the “best” system available but the one that is most appropriate for their particular requirements Different banks and their unique requirements are discussed in section 8

Equally critical is selecting the right vendor We believe that it is imperative for banks to consider vendors as long-term partners in growth in today’s fast-paced environment The critical vendor assessment criteria include trust

in the vendor’s ability to meet the business objectives (through optimum customisation and localisation of the product) as well as the vendor’s reliability, implementation capabilities and fi nancial strength Vendors that have a track record of providing international-quality products while meeting the local needs of banks are more likely to achieve long-term success The mix of product and services coupled with pricing are critical considerations

We have rated leading vendors in Asian markets based on our assessment and a survey done among bankers – this is discussed in our section on vendor assessment

Platform choice is one other critical factor in selection While mainframe remains unbeaten in its robustness and stability, UNIX-based systems are becoming more popular We have discovered that banks in Asian countries are increasingly shifting towards the more agile and fl exible UNIX systems, which are perceived to have lower operational and maintenance costs While this is true for banks that have lower transaction volumes, it may not be so for large retail banks We believe that mainframes continue to have a distinct advantage in terms of stability and scalability Hence for mission critical projects, mainframes would still be preferred for their reliability However for small banks (and those banks that are acquiring a core banking system for the fi rst time and whose transaction volumes are not very high), a UNIX-based system could meet their requirements As more than 50% of the deals

in Asia have come from small banks, UNIX-based systems have become more common

The third phase of the project is implementation The key objective is to operationalise and pilot the transformed future state, including technology, process and organisational change This involves developing detailed designs, including system designs for confi guration and customisation and designs for interfaces and data conversion The other critical elements of this phase are building and testing the system, implementing pilot projects and conducting business acceptance tests at each stage We recommend that banks limit customisation of the core banking system to what is essential

as it may affect the core processing ability of the system Rather, the banks should customise the front end which interacts with the users

At each stage, the bank should undertake delta analysis to determine the effi cacy and success of the project; this would determine whether it progresses

to the next stage Delta analysis and sign-off at each stage are essential to ensure that deliverables and expectations match, or else the project can easily digress from its initial plan and increase in scope through incremental changes which will lead to schedule and cost overruns

The next and fi nal phase of the project is deployment This is probably the most critical and challenging stage, where the bank undertakes the actual

deployment of the new system The process involves numerous logistical issues such as data conversion, interfacing and coexistence.

Banks can approach this transition in two ways – big bang implementation and gradual deployment Big bang essentially means all systems go live at the same time While this is quicker, it is also riskier Instead we recommend phased implementation, where deployment is done in small clusters, though the bank has to tackle the tricky issue of coexistence We believe that the gradual step-by-step approach is appropriate in most cases as it entails lower risks, facilitates change management and allows changes to be incorporated

in the technical framework as it is being installed (to provide a better fi t with the business)

Data conversion and data mapping are two crucial elements that the bank has

to deal with during deployment The data migration and conversion process

is often hampered by lack of available information on the old system Mass migration requires a large capital investment, takes a few years to implement and poses a signifi cant risk of service interruptions that can reduce customer satisfaction The other critical challenge is to maintain smooth operations and develop interfaces across delivery channels during transition through coexistence of two systems

We believe that banks should predefi ne the milestones at each stage of the replacement process and ensure they are adhered to At any stage, if the bank fi nds that it cannot achieve these milestones, it may review its project and decide whether and how it wants to continue the project

Our research into change management during replacement shows that the majority of banks upgrade their system or implement a new one to meet existing users’ process and work culture requirements Instead, however,

we recommend that banks align their products, processes and work culture with the new system In other words, the replacement should be undertaken together with product and process rationalisation coupled with work culture transformation in order to optimise the returns from the new system

This embracing of new technology requires tremendous effort in change management, which demands extensive user training and re-engineering

of processes across the organisation There is often resistance to change and employee dissatisfaction during the transition We believe this can be countered only through effective communication and developing the right business environment

We have discovered that just 30% of recent replacement projects had active CEO involvement However our research shows that successful projects require the backing of a strong leader from top management with a strategic

mindset and the duty to see the project through Strong leadership support and a capable steering team (which can harness the bank’s resources, take quick decisions and motivate staff to see the project through) are critical for success Banks need to develop strong internal teams that have effective communication and technical skills, to share decision-making with the service provider to overcome problems The complexity of the process and inevitable hiccups will demand that banks engage in the process with thorough planning and programme organisation.

This section examines the trends in core banking transformation among Asian countries and covers a wide spectrum of issues ranging from pattern in deals, replacement approach, platform selection, implementation and key architectural trends The aim

is to learn from recent decisions and understand the market dynamics of this region

Core Banking Trends in Asia Pacifi c

Market Trends1.1 Prominent recent deals in the region1.2 Geographic dispersion of deals in recent years and 2006 estimates

1.3 Activity within countries and their vendor preferences1.4 Estimates of system and software spending in Asia Pacifi cTechnical Trends

1.5 Evolution and convergence of core banking systems1.6 Technology integration in Asian countries

1.7 Trends in platform usage among Asian countries1.8 Trends in deployment approach

1.1 Prominent Recent Deals in the

Region

Major Asian Core Banking Deals in Last two Years

In keeping with the worldwide trend, Asian banks have been active

in replacing and upgrading their core banking systems in the last few years We believe high demand and competitive pressures are forcing many banks in the region to improve their technical base

Analysing the recent decisions, we noticed three signifi cant trends Firstly, more than 50% of banks that decided to replace their core banking systems were small banks with an asset base of less than

$1 billion Medium to large Asian banks are taking considerably long

to mull over the wisdom of replacing Secondly, banks are increasingly favouring the UNIX platform Part of the reason for this observation is that most of the recent deals came from small banks, for which the UNIX platform is more feasible Thirdly, no vendor dominates the region, but Asian service providers have been given preference by banks while vendors with strongholds in Europe and the United States fi nd it diffi cult

to develop a solid position here

Looking at the geographic dispersion of recent decisions, we discovered that the concentration of replacements has varied in the last two years However the Indian banking industry has taken a clear lead in core banking transformation Most of the deals came from state-owned banks like Bank of Baroda, Allahabad Bank and Central Bank of India

•

•

•

Market Trends

No vendor dominates the country but Infosys and TCS have taken a fair share of the pie There has been a distinct preference for local vendors

as they offer international-quality products and yet understand the unique Indian requirements

Leading Vendors in Asian Countries in Last two Years

In China, SAP clinched the core banking systems deal awarded by China Minsheng Bank, marking the entry of this global vendor in the region

Chinese banks are increasingly considering replacement; however following implementation problems in a few Chinese banks, they are now more cautious about taking the plunge Taiwan banks did not enter into a single deal in 2004 but showed sudden activity in 2005 I-fl ex has emerged as the top vendor in this country

The Philippines was rather subdued with just two deals in 2005 (as compared with fi ve deals in 2004) – both came from smaller banks and were won by Nucleus Software The last major deal in the Philippines was that of Union Bank of Philippines which replaced its system with Finacle of Infosys Malaysia, on the other hand, continued to witness a

fl urry of activity with many small banks upgrading their ageing systems primarily through local vendors

Internationally, one of the biggest deals in the past year was for HSBC’s global operations, which was won by Temenos The bank is understood

to be improving further on the present solution Within the region, DBS Bank’s core banking deal was another feather in the cap of Infosys, a

clear leader in Asian region,

but some vendors have

higher market share in certain

countries

leading player in the region, particularly in India.

Analysing vendor dominance in the region, we discovered that I-fl ex, Infosys, TCS-FNS, Nucleus Software and System Access have been popular among second-tier banks in Asia For large banks, the preferred vendors include Temenos, TCS, SAP and Infosys Leading international vendors such as Fiserv and Fidelity have shown little activity in the region

in the last two years

TCS-FNS and Infosys are strong in this region, particularly in India Temenos, however, has had no signifi cant deal in Asia in the recent two years though it continues to be a fi erce contender for deals from top-tier banks across the world Its last big project in the region was for Industrial Bank of Korea

Globally, Islamic banking is a fast growing sector with banks demanding

a system specifi cally catering to this segment Within Asia, Islamic banking has been popular largely in Malaysia and Indonesia The leading vendors for Islamic banking in the region are Silverlake, Infopro and Microlink who have done a fair number of deals in Malaysia

In summary, we believe that international vendors have found it diffi cult to establish a stronghold in Asian markets as there is distinct preference for vendors who are perceived to have knowledge of the unique local market conditions in addition to a solid track record

Please see our section on vendor analysis for more details.

•

•

•

•

iwan China

Indone sia Philippines Vi

etnam Singapore South Korea

Thailand

Number of deals in 2006(e) Number of deals in 2005 Number of deals in 2004

Legend

Source: Asian Banker Research

Regional Breakdown of Deals Within Asia for 2005

India 50%

Malaysia 11%

Greater China 16%

Indonesia 5%

Philippines 5%

Others 13%

Source: Asian Banker Research

The deals include only core banking deals in the region It does not include other applications and systems such as treasury and trade processing

We believe that activity for core banking systems will increase steadily in the next 2-3 years in Asia Pacifi c The trend in individual countries will, however, vary based on local market conditions

Clearly, India continues to dominate Asia’s core banking systems market with its 50% share of the total core banking deals by commercial banks

in the region This is because the emergence of technically advanced

•

•

Market Trends

Indian market is fast reaching

saturation; China and Taiwan

are opening up

private banks in the country has forced most state-owned banks to substitute (and in most cases acquire for the fi rst time) a centralised core banking system to improve their competitiveness and retain their market share However we expect the trend to slow down in the next couple of years as most leading banks have already entered into core banking deals A few banks that have not yet upgraded their systems are fi nding

it increasingly diffi cult to compete and are currently evaluating available products and vendors

Taiwan witnessed a recent surge in core banking deals, though mostly from smaller banks In China, the number of deals has been rising slowly but steadily as more and more banks evaluate the need for replacement; however most of these deals have been from smaller banks We expect the current trend in both Taiwan and China to continue this year

Malaysia has also been active with four deals in 2005, though most of these were again from smaller banks However we believe some big banks like Maybank are actively considering core banking replacement

We expect to see more core banking deals in Malaysia with Islamic banks favouring local vendors who can meet Islamic banking requirements.Most other countries saw just a few small deals with the exception of Singapore, where DBS has entered into a core banking deal for its retail business Thailand and Korea were noticeably absent from the scene in

2005, but we expect activity in both countries to pick up over the next couple of years

•

•

•

1.3 Activity Within Countries and

Their Vendor Preferences

Activity in Banking Sectors for Core Banking Replacement in Last two Years

Vendor Preference

International Vendors

Local Vendors

Trends indicate likely shift in future

% of banking sector replacing CBS in last 2 years

Singapore

South Korea Taiwan Vietnam

Philippines

Thailand

India Malaysia Indonesia

Source: Asian Banker Research

The level of activity is represented by the percentage of commercial banks

in each country that have awarded core banking system deals in the last two years It is based on number of deals and gives the same rating to big and small banks

We believe that almost 25% of the Indian banking sector has entered into core banking replacement deals in the last two years In absolute terms, the number is far higher than that of any other country – though

as a percentage of the whole sector, it may not be as signifi cant Most banks in this country have preferred local vendors owing to not just the international level of expertise and reputation of the vendors but also their higher level of trust in them Contributing to this is also the fact that many Indian vendors have advanced in these last few years to become some of the leading vendors in the world

Interestingly, the banking sectors of Thailand and Korea saw no new deals in 2005 despite being active in 2004 However there was increased activity in Taiwan and China Increasing competition from foreign banks

in these countries is forcing banks to evaluate their core banking replacement needs We believe the core banking transformation in these countries is set to accelerate over the next few years

•

•

Market Trends

Indian banks have favoured

technical advancement through

local vendors

Other Asian countries expected

to continue to show demand for

core banking transformation

Most Chinese banks have shown a strong preference for systems that are designed to suit their specifi c and unique requirements For this reason, smaller Chinese banks have preferred domestic vendors while larger banks have preferred international vendors that can meet their local needs Similarly, many Malaysian banks have preferred local vendors that can meet their Islamic banking requirements.

Banks from developed markets like Singapore and Hong Kong have

fi rst-generation technical sophistication and are undertaking a cyclical replacement of their ageing systems In contrast, banks in countries like India, Pakistan and Vietnam are purchasing core banking systems for the fi rst time now For obvious reasons, activity among the banks that lack technical sophistication will increase

We believe that most Asian banks prefer to select vendors that either involve local people through a setup in their country or partner local vendors This is because there is a perception among the bankers that

a local is more likely to understand and adapt to the unique local needs

of a particular country However in many countries, the availability of international-quality products from local vendors is a limiting factor which has forced banks to look for alternatives

•

•

•

China banks have preference

for systems that cater to their

unique needs

1.4 Estimates of System and

Software Spending in Asia Pacifi c

Investments Made by Asian Banks in Core Banking System Software and Services

800

600 1,000

Spending as % of total revenue of Asian banks

Source: Asian Banker Research

The estimates of investments only cover the cost of system software such

as licence fees and the service cost It includes only core banking systems replacement by banks and excludes other system applications such as treasury and trade processing

We have discovered that the cost structure of core banking deals varies considerably due to multiple factors such as the scale and complexity of the replacement process However, generally, we believe that the total investment required to purchase core banking systems is made up of software and service cost which constitutes 30%, system integration cost of 20-25% and hardware and infrastructure cost of 45-50%

Based on our analysis of recent deals, the system and service cost for

a small bank (with a size of $1 billion or less) comes to $5 million-10 million For a medium-sized bank ($1 billion-50 billion), it is $25 million-

30 million For large global banks (more than $50 billion), the deal size

is likely to be higher depending on the extent of transformation being undertaken

•

•

Market Trends

Steady increase in spending

likely to continue; no signifi cant

jump expected in near future

Deal sizes have varied from

about $5 million for small banks

to more than $50 million for

large wholesale banks

A critical cost item is system software cost; this includes the cost of software licences, which varies depending on project For example, for FNS customers, software licence cost has varied from $1 million to over

$7 million, with an average of $1.8 million in 2005

Overall, we have seen a steady rise in investment made by banks in Asia over recent years We expect the trend to continue However, as

a percentage of total revenue, we believe the investments are likely to show a declining trend as the banks have witnessed even higher growth

in revenue We also believe that there is stiff price competition among vendors and that this will keep the costs in core banking replacement under control

•

•

1.5 Evolution and Convergence of

Core Banking Systems

Evolution of Core Banking Systems

Business Platform J2EE, NET

EAI, BPM, WS Parameterisation

Legacy systems

Web XML Web services Service-oriented architecture?

China Bank:

Kirchman ICICI: Finacle

HDFC: I-flex for retail

KDB: FNS Banco de Oro:

ICBS Chinatrust:

FNS

HDFC: I-flex for corporate OCBC: Silverlake

StanChart:

testing open sys Kasikorn: IBM

Taishin: FNS Baroda: Finacle B.Shanghai:

Temenos

HSBC-Temenos DBS - Infosys Central Bank

of India - TCS China Minsheng - SAP

Source: Asian Banker Research

Convergence in Core Banking Systems

Parameters

Mainframe systems

UNIX systems

J2EE, NET platforms; EAI, BI, WS integration tools

Towards core banking systems today

Source: Asian Banker Research

The fi rst generation of banking technology was represented by the IBM mainframe, which had immense data processing capabilities but was not

as effi cient in back-offi ce accounting functions Nonetheless its reliability

•

Technical Trends

Evolution of core banking

industry in Asia shows

increasing convergence of

technologies and focus on

architecture of systems

and scalability remain unbeaten today In the next stage of evolution came parameterisation of processing rules and enhancement in automation from back- to front-offi ces Here, the UNIX platform solutions have shown high functionality, with some of them using relational database technology to maintain accounting and administrative data.

UNIX systems have borrowed ideas freely from mainframes such

as logical partitioning, the ability for isolation, the ability to share across partitions, and common interfaces Integration tools and other technological advancements have brought about a certain level of standardisation and convergence of technologies today at the platform, application and architectural layers

Banks are increasingly looking for solutions that have the technical capability to meet their unique functional requirements while improving their competitiveness There is also increasing demand for component-based modular systems that do not have integration issues

Source: Asian Banker Research

Service Oriented Architecture (SOA) is a relatively new concept that has gained popularity quickly Herein, business applications are constructed from independent reusable interoperable services that can

be reconfi gured without a vast amount of technical labour The concept

is based on web services and components that are brought together to perform specifi c business tasks It essentially means reducing barriers in antiquated infrastructure and creating a real-time integration of disparate systems and a sharing of databases on a fl exible and easily upgradeable infrastructure We discuss this in more detail in section 5

On the architectural front, J2EE and NET are two architectural frameworks that have evolved in the last few years These are new-generation fl exible

and interoperable architectures that facilitate the complete meshing of core banking solutions with the complex technology fabric of the bank.

The key attributes that banks require from their architecture are fl exibility, scalability and agility With customer expectations increasing, banks have moved towards centralised systems with customer-centric architecture, where they drive the business through a single view of the customer and the paramount consideration in all decisions is the consumer

IT Service Providers in the Region

• Vendor consolidation through mergers and acquisitions

• Partnership among vendors to mix and match solutions

• Standard protocols and fierce competition among IT service providers leading to increased product offerings and price competition

Source: Asian Banker Research

The growth in demand for core banking systems in Asia Pacifi c has prompted many international vendors such as SAP, Temenos, Fidelity and Misys to focus increasingly on the region At the same time, vendors that began their operations in Asian countries have grown to become recognised names across the world; these include companies like Infosys, I-fl ex and TCS

Desire to become the leading player in the market has led to mergers and acquisitions among IT service providers At the global level, Fidelity’s acquisition of Sanchez broadened its reach to a larger collection of banks Among leading vendors in Asia, TCS acquired FNS in a leap from their previous alliance Another example of consolidation in the industry

is Oracle’s acquisition of a stake in I-fl ex These players are developing

an increasingly strong foothold in the core banking systems market

Greater convergence makes it diffi cult for bankers to differentiate between vendors’ value propositions However standard protocols and

fi erce competition have led to more product offerings and price wars – a boon for the industry as a whole

•

•

•

•

Asian vendors are increasing

their global reach

Desire to become leading

player has led to consolidation

in the industry

1.6 Technology Integration in

Asian Countries

Technology Integration in Asian Countries

Thailand India (State Banks)

Philippines China

Malaysia Indonesia

Hong Kong Taiwan

Singapore Australia India (Private Banks)

Ce ntr alised

da ta c

en tr e

Co re bank ing sy stems

adv anc emen t

Robust mi ddle

w ar

e

and basic CRM We

b ser vic es and

customer c

en tricit y

Source: Asian Banker Research

We tracked the technical advancement of banking sectors and architectures in several Asian countries We discovered that the integration of technology and the movement from account centricity to customer centricity have varied signifi cantly among Asian countries Developed countries such as Japan, Singapore, Hong Kong and Australia have shown distinct technical advancement not only on the core banking front but also in their banking systems architecture, achieving customer centricity through integration

On the other hand, developing countries like China, Thailand, Philippines, Indonesia and Malaysia are far behind These countries are now moving towards data centralisation (having advanced from branch automation), but many of the banks have yet to achieve core banking sophistication Architectural integration is still at the initiation stage in these countries However we believe that competitive pressures are forcing banks to expedite this process

In India, relatively new private banks have given a new direction and a signifi cant boost to core banking integration in the banking sector of this country State-owned banks are already beginning to arm themselves with more integrated systems to face this competition

•

•

•

Technical Trends

Developed countries have

shown distinct technical

advancement

1.7 Trends in Platform Usage

Among Asian Countries

Recent Core Banking Acquisition Trends Among Asian Banks

Mainframe-Likely to shift to UNIX

Source: Asian Banker Research

Traditionally, Asian banks – particularly those in Korea, Japan and China – use mainframe-based proprietary systems The robustness, stability and scalability of these systems have been proven over the years and continue to attract these banks But in the last fi ve years, market dynamics have changed considerably and banks are increasingly considering the UNIX-based systems

The shift in preference has been brought about by competitive pressures

in the market which have forced banks to look for systems that can meet their functional requirements with fl exibility and agility Accelerating the trend is the fact that most Asian banks are smaller compared with many European and multinational banks and hence UNIX systems are considered adequate for their scalability requirements Another major factor that draws many bankers to UNIX is the cost savings Changes in regulatory requirements (under Basel II) have also forced banks to look for an integrated and fl exible system

For these reasons, we have seen an increasing shift among Korean and Chinese banks towards UNIX-based systems However Japan and many South East Asian countries still seem to be adopting a “wait and

•

•

•

Technical Trends

Many countries continue to be

primarily mainframe users but

there is a strong shift in favour

see” approach In mature countries like Singapore, there are very few deals as well; but in the country’s most recent deal, DBS opted in favour

of a UNIX platform

In the Indian subcontinent, most commercial banks are adopting core banking systems for the fi rst time Thus most banks have taken advantage of this new-generation technology As there is no problem

of integrating with the existing system, implementation is cheaper and less complex Moreover, the traditional preference of Indian banks (and Indian vendors) is for a UNIX environment

While smaller Asian banks have favoured UNIX-based systems owing

to their cost effectiveness, we believe that mainframe has proved to be more reliable and scalable for a larger size of operations As transaction volumes increase, the total cost per user in mainframe decreases, making it more competitive

•

•

1.8 Trends in Deployment

Approach

Deployment Approaches in Recent Core Banking Decision

Long Duration

Existing Implementation Time

Short Duration

Implementation Approach

Singapore

HSBC Bank

China Minsheng Bank

Central Bank of India

Allahabad Bank

Muslim Commercial Bank

Bank of Panshin

Union Bank of Philippines Bank of

East Asia

Hua Xia Bank

Industrial Bank of Korea Cathay United Bank

State Bank of India DBS Bank

China Development- Bank

Bank Asset Size

More than

$100 billion

$20-100 billion Less than

$20 billion

Source: Asian Banker Research

The banks have two options in deployment “Big Bang” implementation largely involves a new system which goes live at the same time that all the processes are shifted onto it This is believed to be the quickest but probably also the riskiest way to deploy the project While the risks are high, the integration problems are minimised as old and new systems do not coexist A phased approach, on the other hand, involves gradual deployment across branches/functions generally through “big bang” in small clusters Here, the banks have to face the sticky issue of coexistence of two systems

Our research shows that in Asia Pacifi c, the traditional phased deployment approach is distinctly preferred for its reduced risks and gradual change

in processes Though the choice of approach varies with banks’ unique requirements, top-tier banks in general have preferred the gradual approach This is because their scale of operation makes “big bang” not only extremely diffi cult but in some cases also unfeasible

Most banks with an asset size greater than $100 billion have preferred phased deployment and the time required has stretched over many years For example, it is expected to take about fi ve years for HSBC

Similarly, ABN AMRO plans to gradually implement its system in the Greater China region and some other Asian countries over a period of

•

•

•

Technical Trends

Bigger banks continue to prefer

gradual deployment while some

smaller banks choose “big

bang” approach

fi ve years For State Bank of India and Central Bank of India, it is likely to

be around four years We believe that it is critical to keep the rollout time and the period that two systems coexist as short as possible

On the other hand, a few smaller banks have taken the quicker approach

of “big bang” These include: Union Bank of Philippines whose system

by Infosys was implemented in just one year; Industrial Bank of Korea by Temenos; and Cathay United Bank, Taiwan by TCS-FNS

•

2 Banking System

Selection

We have conducted a series of surveys in the Asian banking sector to strengthen our research on various aspects of core banking transformation Our surveys have given us an insight into how bankers assess various vendors in the region, key considerations in the selection of a new system, and platform preference among Asian banks We have discovered that some

of the common perceptions lack sound foundation

Bankers’ Perception Survey on Core Banking System Selection

2.1 Survey results on key reasons for replacement 2.2 Survey results on factors considered in system selection2.3 UNIX versus mainframe – survey results on considerations in system selection

2.1 Survey Results on Key

Reasons for Replacement

Perception Survey on Key Reasons for Replacement

% of executives citing area as a problem

Other Errors in operation Errors in data Availability Errors in processing Scalability Timing problems Technology Simplification Integration Cost Flexibility

Source: Asian Banker Research

A survey done in Asia Pacifi c countries last year found that infl exibility, high cost and diffi culty of integration were the three main problems that banks faced in legacy systems

•

2.2 Survey Results on Factors

Considered in System Selection

Perception Survey on Factors Considered

Importance

Cost Short product time-to-market Availability of third party applications Ease of integration

Vendor reputation and track record Straight through processing/ real-time capability Truly modular and integrated, single sign-on Functionality

Scalability Reliability/ stability

Source: Asian Banker Research

With increasing standardisation and convergence, banks believe that it

is now easier for them to switch from one vendor to another for multiple systems To assess the importance that banks give to various parameters

of selection, we conducted a survey a few months back

The survey highlighted the importance of cost in the selection of a core banking system in Asia Most banks considered cost savings – through lowering of maintenance cost or operational cost – as one of the key benefi ts that was motivating them to change their core banking systems

Another key reason cited by many bankers was their desire to improve competitiveness through faster rollout of products, product innovation and differentiation Availability of third-party applications and ease of integration were other critical factors that the bankers looked for in system selection Vendor reputation and track record also came high in the list

Trust in the vendor’s ability as well as the vendor’s reliability and fi t with the project are often cited as considerations in the selection process

Interestingly, architectural features such as STP, fl exibility and scalability were much lower in the list However, we believe that these are essentially the features that will determine the functionality of the system in future

The survey results indicate that many bankers tend to give undue importance to cost and other considerations in their selection process, which often leads to awkward consequences

Cost remains the key

consideration when choosing

a core banking system,

regardless of platform

2.3 UNIX Versus Mainframe

– Survey Results on Considerations in System Selection

Perception of Strengths of Each System

Interestingly, mainframe systems systems are perceived as new, which is not always true.

Stability

Old Architecture More Vendors

Many banks in Korea and Japan use internal programmers to customise their systems.

Total Cost of Ownership

UNIX systems can be approximately 50% cheaper than mainframe technology.

For operational expenses, UNIX systems can be 30-40% cheaper than mainframes.

Source: Asian Banker Research

In a survey done some months back, we asked bankers what they saw

as the strengths and weaknesses of UNIX and mainframe systems We found that while there are an increasing number of banks favouring UNIX systems due to low cost of ownership, scalability and recent technical advancements, stability is still perceived to be the biggest strength of mainframe systems

According to one banker, keeping legacy systems running consumes 70% of IT budgets, leaving little resources for technical enhancements

60-to gain competitive advantage According 60-to one bank in Korea, “When

we purchase a UNIX system, we enter a buyers market as there are many products available and we can choose But when we purchase mainframe, we enter a sellers market and may have to wait.” Another banker feels that while UNIX technology is improving, it may not match the scalability of mainframes yet

Banks that have invested in their system are aware that a considerable amount of time, money and effort is involved in customising and adapting these systems Replacing these systems is a painful and risky exercise However the fact remains that many of these legacy systems are unlikely

to give banks the innovation and technical advancement that can be provided by solution providers who have been constantly upgrading

•

•

•

Stability is the biggest

perceived strength for

mainframe systems, while lower

TCO is the biggest perceived

strength for UNIX systems

their technology Banks are increasingly realising that their expertise is

in banking and not IT development

According to a leading global vendor, Asian banks have always been very interested in UNIX solutions and so, proportionately speaking, we have more UNIX centres in Asia than in the United States We believe this is because the core banking market today is dominated by Indian banks, which have traditionally preferred UNIX-based systems

While the debate over preferred technology continues, it goes without saying that what may be considered suitable by one bank may not be appropriate for another bank For example, big banks with an extensive scale of operation may fi nd it risky to switch from mainframe systems to UNIX technology primarily because of complexities, high risks and huge costs involved in the process However a small bank which is building its core banking system from scratch (or replacing it) may prefer lower-cost open systems

Open Versus Proprietary – Perception of Features

Cost - Cost to acquire and maintain Agility - Perceived slower development and adaptations

to trends in technology Hardware/Software - Fewer hardware and software suppliers can lead to challenges in negotiating a reasonable pricing if the bank does not posses sufficient bargaining power

Skills - Smaller and hence more expensive pool of skilled resources available in the market

Cost - Perceived lower total cost of ownership (TCO)

However, in real life operations, the TCO in complexity of operation increases with the numbers of users and transactions volume

Architecture - Considered more flexible architecture Our analysis however shows that some of the mainframe solutions have a more contemporary architecture

"Add on's" - Perceived higher availability of third party applications However, our analysis shows that such applications can also be integrated into mainframe architectures

Hardware/Software - More choice of hardware systems, and application software provider

Functionality - Integrated universal Banking solution often provide higher level of functionality (at the cost of scalability)

Skills - Larger pool of skilled resources available in the market

Reliability - Less stable than mainframe systems (but this could be acceptable for smaller banks)

Scalability - Lower level of scalability Scalability comes at the cost of overly complex operating environments Security - Lower level of security than mainframe systems Viruses have been found in Unix based environments

Deployment -Not yet proven on large scale though becoming increasingly popular among smaller banks

UNIX SYSTEM Mainframe SYSTEM

Source: Asian Banker Research

•

•

Open systems have proved their ability to perform from the security and technology points of view According to one banker, “5-10 years ago a large bank would go for mainframe, no questions asked But in the last 5-10 years things have changed Any bank today, no matter how big, may consider switching to open system.”

On the other hand, most big banks still favour the reliability and stability

of mainframes Some bankers are inclined towards proprietary systems

as they are used to working on them Switching to a new technology would not only involve a huge amount of cost and high risks but also require effort to get used to the new processes

According to one vendor, “Open systems are most appropriate for Asian banks due to their smaller size compared to many international banks They don’t need the scalability of mainframes and the scalability of open systems has really increased in recent years.” One leading bank in Korea states that the trend in Korea today is to shift towards UNIX systems from IBM “due to the availability of small packages that can be easily integrated in our system [whereas] when we use mainframe we need to code them which would be a time consuming proposition”

The right choice varies with banks’ requirements

As can be seen from the survey, platform choice is a dilemma that all bankers face when they consider replacement Our in-depth analysis shows that for smaller Asian banks, a UNIX platform could be more feasible as they may not need the scalability of the mainframe and UNIX can be cost effective for a small number of transactions However our research shows that for large retail banks, mainframe is likely to still be the preferred choice because:

It is more reliable and keeps the system running through most upgrades Hence the downtime is low

It has the capability to support a large number of users, supports multiple applications and allows better resource management This is especially important where transaction volumes are high

It requires less server capacity than UNIX for the same amount of work and has higher continuous availability (due to less downtime)

On the cost issue, UNIX-based systems are generally believed to have

a lower total cost of ownership (TCO) However the benchmark, we believe, should not be total cost of ownership but total cost per user Our research indicates that when the bank has large volumes of transactions and users, the operational cost of mainframe could be lower on a per-user

Strengths and weaknesses of

proprietary and open systems,

as perceived by respondent

banks

Our research and analysis of

the platform features reveal a

different picture

basis Also, while making the cost comparison, banks must consider the switching costs (shifting from existing mainframe to UNIX) and the cost

of the coexistence of two systems during the replacement process

Please see our section on platform choices in section 4 for more details