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When should a bank change?

When should banks move to dump branches, rearchitect for electronic connections and move away from old style paper processes?  When do we see the tipping point and how do you deal with it?

This has been the core of lots of chat this week, specifically talking about old bank models versus new ones. Branch distribution versus online and mobile. Letters of credit versus open account. OTC trading versus algo trading. SWIFT versus secure cloud networks. Clearing and settlement versus real-time. KYC, AML and regulations versus customer service and sales.

You name it, and I’ve probably talked about it.

The common theme is how to deal with the old style of banking business, based upon paper-based forms and documentation versus the new style business, based upon electronic media and communications.

The old style business is cumbersome, unwieldy and hard to monitor; the new one is fast, completely transparent and easy to track.

But it’s not simple because it means dumping the old model at some point to fully transition to the new one and the question is: when?

Banks were built on the unwieldy old style business of branches issuing documentation to clients and tracking transactions via log books and double-entry book-keeping.

This new style business doesn’t fit with that model.

The new style business is based around an electronic centre which purely connects folks with online accounting.

It’s zero-overhead, straight through processing, hands free banking.

It doesn’t fit.

How do we transition from the old model to the new without killing our existing profitable business?

How do you move from bricks and paper to click and mobile?

This struggle is not a new one. It’s been around ever since we moved towards online customer self-service.

It’s just that it’s getting faster and faster as a conundrum, as the deluge of electronic reformation hits the industry.

Ten years ago, the industry made early moves to exploit the situation by closing branches as customers moved to internet service.

That was a failure of timing.

The branch closures were too early and too soon – the customers’ weren’t ready and the systems weren’t fault-tolerant enough or pervasive and ubiquitous enough to support such debunking.

Now that has changed but, due to the bad experiences of a decade ago, bankers are reluctant to try this approach again today.

But they should.

Because now the timing is better, the customer is readier, the technology works and the processes are robust.

But now the difficulty is different as every time we talk about moving from the old world of bricks and paper to the new world of click and mobile, the issue is how to let go of the profitable past and move to the unprofitable future.

Banks make their money out of processing the non-standard. If everything is standardised, cheap and easy, how do they make money?

This is well illustrated by the SEPA implementation, and the fact that the loss of cross-border processing of non-standard payments for standardised cross-border money movements reduces margins to a fraction of the past.

Put that on a scale of all transactions and interactions, and banks are reluctant to change … especially as they don’t need to thanks to the protection of regulatory licences and government approvals as the major barrier to entry into this industry.

Well that’s all about to change too, because the newbies operate around the fringes of banking.

Take PayPal.

They began as a superset on the old banking systems that made online payments easy.

Once they attained critical mass, they applied for a banking licence and got one.

Now they’re a bank processing over $60 billion in transactions per annum.

The minnow becomes the whale.

So what to do, what to do?

Well there are answers, and most of it leads back to one of my favourite management writers Clayton Christensen.

Having blogged about his concepts of disruptive movements and the innovator’s dilemma, I won’t repeat all that again today, except to say that the premise is: a new operator enters your industry offering something that looks irrelevant; before you know it, the irrelevant operators subsumes you and the industry by changing its economic paradigms.

The best example is Japanese car operators in the USA in the 1950s who offered cheap new cars. Ford and GM thought they were rust buckets and dismissed them as such. However, Americans could suddenly buy new cars and they did en masse. The second hand car market disappeared and, over the years, the Japanese car manufacturers upscale and produced cheap luxury cars. After half a century, Ford and GM were on their knees and the Japanese had won (until Toyota messed up their brakes that is).

Read more about the theory here.

Anyway, I was struck by this dilemma again as I read Fortune magazine’s insightful piece on the future of reading.

Here’s a key few thoughts:

Magazines, books, newspapers — all that printed stuff is supposed to be dying. Advertising pages, which have been steadily declining, dropped 26% in 2009 alone … The better news is that with the arrival of Apple's forthcoming iPad and other tablet computers — touch sensitive, full color, easy to watch video on, network-connected to virtual newsstands and stores — the publishing industry might once again have a remunerative way of giving it to them.

Later in the article, the author (Josh Quittner) asks the key question: can traditional publishing companies reorganize and move fast enough to embrace and serve new platforms?

Think of this as “can traditional banks reorganise and move fast enough to embrace and serve new platforms?” and I’ve replaced the words related to publishing to make this bank specific. So here’s the answer:

Banks have had 15 years to reorganise to embrace and service new platforms so since the commercial browser came out. They haven't reinvented or reimagined themselves. The talk we're hearing now is not at all about reinvention and reimagination — it's again about trying to shoehorn old models of business into this new reality.  The reason why banks haven't reinvented or reimagined themselves is because the old way of doing business has been blindingly successful.

In the case of publishing, it’s different to banking. The reason is that content became free online, and that has disrupted their business model. In the case of banking, the change is very different – namely that distribution and service has become free so branches are less needed, apart from providing sales.

But if you look at the future of reading article, the question is the same: how and when do you move from an old business model to a new one, when the new one kills your old one, its profits and it structure?

You wipe out your old business overnight, and you move from a profitable past to an unprofitable present to build for a profitable future.

The answer is clear however.

You build your profitable future by using your profitable past to subsidise the unprofitable present.

What does that mean?

Start a new business model under a different business entity unrelated to your existing one.

This is what happened when call centres disrupted – First Direct, Direct Line, etc all flourished as newbies under oldies umbrellas – and this will happen again for those who are wise.

For those who aren’t, the tipping point will come when their profitable past becomes unprofitable.

However, at that point, desperation sinks in as the margins have been whittled down to worthless.

Transition now, don’t wait and do it before i
t’s too late.

For more insights into these areas, click onto our directory of social finance or banking-as-a-service presentation.

About Chris M Skinner

Chris M Skinner

Chris Skinner is best known as an independent commentator on the financial markets through his blog, the Finanser.com, as author of the bestselling book Digital Bank, and Chair of the European networking forum the Financial Services Club. He has been voted one of the most influential people in banking by The Financial Brand (as well as one of the best blogs), a FinTech Titan (Next Bank), one of the Fintech Leaders you need to follow (City AM, Deluxe and Jax Finance), as well as one of the Top 40 most influential people in financial technology by the Wall Street Journal’s Financial News. To learn more click here…

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  • I totally agree with your analysis and think the parallel to the traditional publishing platforms with banks can be made at a finer level. I believe information “freedom” or the capacity to access your financial information outside of a walled banking experience will have the same dramatic impact on banks as it has on the media industry (even more, because at core, this information belongs to the customer)