Thoughts from Next Bank Europe

Earlier this month, I attended one of two days of the Next Bank Europeconference in Barcelona. The conference brings together industry thought leaders, progressive banking executives, technology providers and start-ups to discuss the future of the industry. Here are some of my thoughts and takeaways from the day.

Financial service industry disruption is a given

The conference, rightly, took as a given that the industry is undergoing the same kind of change that other industries, such as music and travel, have already been through. As Peter Vander Auwera from Innotribe put it in his keynote “it is obvious that financial services is the next industry to be disrupted”.

Nonetheless, it might be worth spending a sentence or two on how we got here. Changing customer behaviour, in particular a much higher propensity to change, is an important factor. But the key is technology change. As we point out in our paper on digital disruptors, the nexus of forces – cloud, big data, mobile and social – is transforming the industry’s competitive dynamics. Cloud lowers the cost of doing business, reducing a major entry barrier, but also allowing firms to focus on discrete parts of the value chain. Mobile allows new players to offer banking services without the need for branch networks, again reducing an entry barrier, but also to innovate with those services. Social media is providing the opportunity to inject a social context into banking, as well as giving more data and insights into customers’ lives. And big data is making it possible for firms to analyse exploding data volumes and draw meaningful intelligence from it.

One of the interesting takeaways from listening to the BBVA Open Talent Finalists (apart from how many of them seem to have originated out of London’s vibrant fintech scene) was that they all make pervasive use of some or most of these new technologies to offer potentially disruptive services e.g. ClauseMatch(the winner) offers a “cloud-based platform for negotiating commercial agreements”, Aire, which “uses an algorithm to make the best use of credit scoring” and Lendstar “a financial social network” allows friends to share money “using a single mobile application”.

What advantages, if any, do banks have in the digital world?

These kinds of conferences can sometimes be a bit too dismissive of incumbent banks’ ability to compete, but several of the speakers did point out that banks do have some great assets for the digital era. As Marco Bressan – CEO of BBA Data & Analytics – highlighted, banks have an abundance of customer data and stated that “Google & Amazon are investing billions to try to even get close”. Banks also have massive customer bases, a reputation – albeit not what is was – for security, and the ability to offer integrated services across the value chain (payments, credit, deposits, etc) which few entrants can or are allowed to do.

New entrants attacking areas with high margin/low regulatory oversight…

If you look at where new (non-banking) entrants are concentrating their efforts, it is logically in areas with low regulatory oversight but high profitability, areas like remittances and FX. Unsecured lending is another such area, underserved by banks today for a bunch of reasons such as high administrative costs, and there are many ambitious start-ups moving to fill the gap, including Kreditech, a company I met during one of the coffee breaks. Kreditech’s business model is interesting: a big data approach to credit scoring, taking into account up to 15,000 data points, combined with very high levels of automation (decisions made in seconds, loans made in under 15 mins) and convenience (applications can be made over any channel or device, money paid into current account, withdrawn from ATM or paid against credit card).

…as well as the point of interaction with the customer…

The other area where new entrants are focusing is on payments and wallets, gateways into financial services. Unlike a lot of people, it seems, I see Apple Pay as a major strategic move in the long game of bank disintermediation. If Apple or any other provider of payments or wallets, such as PayPal, is able to increasingly direct traffic, recommending products and services, then banks will lose the point of interaction with their customers and, by extension, control over pricing and the capability for cross- and up-selling. It allows Apple et al. to suck value out of banking without having to involve themselves in the heavily regulated business of banking.

…Leaving banks at a clear crossroads

If new entrants pick off the most lucrative parts of the value chain, which cross-subsidize banks’ other businesses, and come to control the point of sale of financial products, then banks will see themselves increasingly relegated to the role of providing heavily-regulated, commodity middle and back office services, such as transaction execution and clearing.

This leaves banks at a clear crossroads: accept this fate or fight back. Joydeep Bhattacharya, Managing Director and Interactive Financial Services lead at Accenture, spoke of his company’s vision of the Everyday Bank where, as he put it, a bank “engages with its customer at their moments of truth” providing them with the information and the tools to take better decisions.

Can banks be innovative?

Can banks fight back? Can they realize the Accenture vision of the Everyday Bank? Can banks be innovative? Not within their existing structures…that was the conclusion of an interesting morning panel discussion at Next Bank. Michael Dooijes from Rabobank, an entertaining panellist, told us that nothing short of a revolution would work: “innovation won’t come from existing leadership. They won’t make the cut,” he said. Marcus Treacher, from HSBC, a more circumspect contributor, suggested that banks’ hierarchies were counter-productive and undermined the entrepreneurial culture banks need to foster.

Some mindset changes needed

Certainly, some mindset changes are needed, without question. For one, if banks are to achieve the Everyday Bank vision, they need to change the way they look at data, moving from being data custodians to being data analysts, interpreting and analysing customer data to bring value to customers’ lives. They must also stop looking at customers as just profit centres and, like so many start-ups do, think about how they can help customers – to budget better, to reach their financial ambitions, etc. Lastly, they need to set out a realistic plan of action, which in many cases will begin with fixing some of the basics, such as having a robust data model and real-time processing capabilities. As Joydeep Bhattacharya from Accenture put it, “there’s no point trying to be Amazon if you can’t fulfil the basics”.

New vehicles

One way to getting the groundwork right and to achieving a culture in which innovation can thrive would be to start again. To take whatever great assets exist and use them to seed a new organization, with a different brand and identity, free from legacy systems, legacy processes, legacy bankers and legacy hierarchy. This is what many banks seem to be experimenting with, such as BNP Paribas’ Hello Bank.

One other option is to try to absorb some of the start-up culture and creativity by working more closely with them. One of the afternoon sessions was given over to a panel on this subject and we heard from banks such as Rabobank, Sberbank and Intesa Sanpaolo about how they are working with incubators and bootcamps to help mentor start-ups, with a number of objectives in mind – to know what is happening, to draw inspiration from what is happening and, where applicable, to bring that innovation in house by buying the start-up or setting up a commercial venture together.


One other obvious way banks can embrace external innovation is to open up their platforms and so, even though I missed it, I was pleased to see that the subject of APIs had such prominence on day two. With APIs, banks could let third-party developers build and licence apps on their platforms. Similarly, they could offer other providers’ products. While in both cases this would involve potentially giving up some revenue streams, it would both foster innovation and also keep customers coming to their platform (and thus mitigate the risk of disintermediation). In keeping with the mantra of the digital age, the choice for banks is to cannibalize their business or let someone else cannabilize it for them. Or to quote Andrew Shaw from Kreditech when I asked if he would consider licensing their platform to incumbent banks, he said “we’ve had approaches and discussions about that, but it’s getting to the point where we’d rather white label banks’ products onto our platform.”


Why Apple Pay Matters

Over the last week or so, since Apple launched Apple Pay on 9 September, I have been reading lots of commentary – like this article from the New York Times – that Apple Pay is no big deal. Sure, they say, it may lead to some marginal improvements in convenience for consumers and it will likely cut fraud, but it is hardly the revolution in payments that we might have expected.  After all, through Apple Pay we’ll still be using credit cards, albeit indirectly, and paying over the same card issuer schemes. So how can Apple Pay really be shaking things up? Well, part of what makes Apple Pay interesting lies precisely in its attempt to preserve the status quo. However, Apple Pay is also a highly strategic move in the long game of financial services disintermediation.

A lifeline for Visa and Mastercard

Apple Pay uses a technology known as HCE (Host Card Emulation), which Wikipedia describes as “virtual and exact representation of a smart card using only software”. HCE has been endorsed by Europay, Mastercard and Visa (EMV) and both Visa and Mastercard have worked closely with Apple to help bring Apple Pay to market. The reason? While Apple Pay dematerialises the physical wallet, it is otherwise pretty conventional in the way it works. A merchant acquirer terminal reads the wireless instructions sent by Apple Pay, which are then processed through the existing card schemes. So, although EMV will likely see some compression in fees over time as Apple is able to exert more pressure and the incidence of fraud (which in part justifies present fees) falls, the future of EMV is safeguarded – for a while at least.

A stay of execution, but do merchant acquirers and scheme operators have a long term future?

The world is moving towards real-time payments. Mexico, the UK, Singapore and Sweden all operate real-time payment systems, many other countries are implementing such a system (e.g Australia) and countless others are investigating the possibility of real-time payments. With real-time payments, an individual can make a mobile payment – using a service such as PayM in the UK – and the recipient will receive value instantly (before settlement). But as well as receiving instant value, the merchant does not have to use a merchant acquirer service or pay fees to the credit card scheme operator. It is difficult to see how, long term, these real-time peer-to-peer payments won’t supersede credit card payments even though eventually it probably will come down to a choice for Apple (which theoretically could also process payments using iTunes if it wanted).

The data prize

The convenience and the fraud prevention aspects of Apple Pay are interesting, but the real value is in the data. Apple Pay doesn’t store any of a customer’s data on the smartphone itself and most of the sensitive data is encrypted. However, that does not stop Apple from gaining information regarding such things as the merchant name, the date and time of the transaction, which it can then associate with a person’s Apple ID.

A marketplace for financial services

With more data comes more power. Pretty soon, Apple will be a position to recommend third-party products and services to you (a service it can monetize in a number of ways such as taking a commission), it can help you make better and more informed spending decisions (e.g. letting you know there is a sale on at a merchant you use regularly) and so on. This would ultimately enable Apple to offer a marketplace for financial products without having to offer those services themselves.

Where would this leave traditional banks? Unfortunately, unless banks make the necessary changes to their business to take a much more active role in customers’ commercial and financial lives (see my paper on lessons from industry disruptors), the future looks like one where banks will lose the direct relationship with the customer and, by extension, any control over price or any capability to cross- or up-sell; that is, a future as a provider of a highly-regulated commodity service.

You see, Apple Pay is about more than making your iPhone stickier; it’s about making Apple stickier.