Almost everyone knows the tale of Kodak. After over 100 years of market dominance in film and camera production, it was forced into bankruptcy in 2012 after Kodak’s management failed to understand the threat of digital photography on their business.
A similar story befell Blockbuster. A market leader in the late 1990s, by 2010 its business was in tatters as Netflix and online streaming soared in popularity.
The story at the heart of both these examples is survival. And specifically, the failure to see and embrace technology as a means to survival. Blockbuster even briefly entertained the idea of acquiring Netflix for $50 million in 2000, but changed its mind about the online streaming business in the wake of the dotcom bubble collapse.
Banking is today facing a similar crisis. While obviously much more intertwined in the fabric of business and society than a movie rental and camera business, commentators have been calling for the banking sector to quickly adapt their businesses in the face of changing customer needs and the threat of technological changes, or suffer the consequences.
Boston Consulting Group has coined the label “too slow to survive” to capture the crisis that banks are facing when it comes to their traditional business models disintegrating before their eyes, much of it down to new technologies giving challengers the upper hand. And we couldn’t agree with this label more.
As SMEs begin their journey on the road to recovery following the Covid pandemic, this presents a great opportunity for banks to readdress their services, the technologies they use and the way they run their businesses if they are going to continue to survive and not be undermined by challenger businesses.
And the stakes are high for doing this right – McKinsey estimates that SMEs generate $850 billion of revenue for banks each year, and pre-Covid expected this segment to grow by over 7%.
Banks run the risk of missing out on a slice of this pie if they can’t bring their business models and their approach to SME banking up to scratch.
What should banks be doing to remain relevant, run themselves better and ultimately survive in the next era of business banking? Here are 3 areas we think they should be addressing:
1. Embrace the idea of ecosystems
FinTechs and other tech start-ups all around the world are providing traditional banking products to a wide mix of SMEs today. Ranging from Stripe’s “company in a box” Atlas tool for complete banking services, to Xero in New Zealand on payroll and invoicing. This is starting to now manifest itself as an ecosystem, which McKinsey defines as “an interconnected set of services [or products] that allows users to fulfill a variety of needs in one seamless experience.” [Source: “The ecosystem playbook: Winning in a world of ecosystems” – McKinsey & Co – April 2019].
While often competing with these services, banks may sneer. But why not embrace this concept and take a leading position? There are many examples of banks participating, orchestrating or building ecosystems.
For example, GoBank participated in Uber’s ecosystem in the US by offering services to SME owners via the ride-hailing app, while some banks like RBS have launched standalone digital business banks (with the example being Mettle).
Sitting alongside this reality is the expectation that with banking becoming more and more modern, technologies such as Artificial Intelligence (AI), blockchain and biometrics will play an increasingly more prominent role (and in many cases, already are). Ecosystems could be a way for banks to quickly adapt and embed these kinds of technologies in the services they offer.
2. Data-driven banking
Less about building something new, more about getting on top of what you already have – it's critical for banks to get a handle on their data.
It means you will actually know who you are doing business with, allowing you to scale relationships and avoid getting stung by the regulator if your customers don’t turn out to be who you think they are.
Fines for AML mishaps are on the rise: consultancy Duff & Phelps showed that AML fines in the first six months of 2020 was $706 million, a lot higher than the 2019 aggregate of $444 million.
Avoiding breaching AML rules is often harder to do in practice. With often hundreds of thousands of business relationships, having a totally accurate and up to speed view of who are the bad apples can be challenging - unfortunately an argument that won’t wash with the FCA.
Being plugged into the right data and technology to constantly monitor and update your employees in real-time can be the difference between a smooth-running compliance operation, and a billion-dollar fine landing on your desk.
Furthermore, data lets you see who the winners and the losers are. What happens if a client’s business is going well but suddenly heads in the direction of a messy bankruptcy filing? It’s not just about AML, it’s about what firms actually do, and how they are running themselves.
There are signals out there in the data that show this, and equally allow you to choose who you do business with – which can be the difference between a profitable SME banking practice, and a less profitable one.
As McKinsey points out, “the profits of SME-focused banks have traditionally lagged behind those that specialise in other customers, often because of highly varied credit quality in the portfolio.” Knowing who your customer is, and what their credit profile is, can be critical when building a profitable SME banking book.
3. Digital-led banking services
The red thread running through all of this is digitisation. SMEs today have very different needs to what they did 2, 3 or 5 years ago, and many base their expectations on their own experiences from the consumer world which is far more advanced in many respects. And since the Covid pandemic, the expectation for digital services is even greater.
Banks are simply losing ground to challengers because they have failed to digitise their services quickly enough. A mix of poor legacy tech infrastructure and an internal culture that doesn’t embrace innovation can be blamed.
As Laurence Krieger, CEO of challenger business bank Tide, puts it: “Challengers, like Tide, are agile and have built a digital-first proposition, meaning we can quickly iterate, innovate and adapt to our members' needs, continually moving our product offering forward.”
And remember that SME customers will want different things. EY envisages an omni-channel approach that blends physical branches with digital services, particularly for things like cash management.
Initiatives like Open Banking in the UK have created a precedent for how data is shared, and how digital services are built on top of this. Three years in, as an open finance initiative it has grown its user base and this will only continue to expand – currently there are 3 million users of the UK’s Open Banking system with over 700 companies involved or in the pipeline.
Against this backdrop it's important to think digitally – which as EY points out in its Future of SME Banking paper, allows you to challenge business models, and industrialise innovation to create value through new products and services.
Ultimately Kodak and Blockbuster’s demise came down to one thing: A lack of vision. Without this, businesses valued at billions of dollars became worthless in a matter of years.
While traditional banks are relatively far from this point, the markers are already there: FinTech Iwoca reported in 2019 that it has a greater share in business overdrafts than Santander and HSBC.
What is important is having a vision for the new era of banking – one where the banks are running themselves as efficiently as possible through greater use of data, and offering the best possible mix of services for their customers.
Having such a vision will mean that banks don’t just survive, but they also thrive in this new era.