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DeNovo FinTech FocusÀ la carte banking: FinTech’s largest threat to bank profits
DeNovo: A platform to aid in understanding how disruption affects business strategy and what actions to take
The rare alignment of consumer, regulatory, and industry forces is accelerating a shift toward an open and inclusive financial system, and banks would do well to prepare.
2À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
À la carte banking
What happens when consumers have more control over their financial matters than the banks that handle their accounts? This scenario is unfolding today as financial technology (FinTech) innovators develop platforms that enable consumers to act on the data from multiple financial services companies, all aggregated together—and to move capital easily among institutions without friction or fees.
This type of service, which we refer to as “à la carte” banking, could put direct pressure on the operating margins of incumbent banks. Combined with a regulatory climate that favors financial interoperability, it creates a new competitive threat for financial services companies. Banking portability—the ability to retain account numbers even when transferring accounts to new providers—will exacerbate the threat. À la carte banking may not fully emerge this year, but it is a real competitive threat within the banking system, looming during the next few years.
When consumers can manage a variety of financial products and services from different institutions with one application, it will facilitate the cross-institution movement of money and accounts and will dramatically improve the flexibility of consumers to pick and choose products seamlessly at competing providers. More important, consumers will be able to see and act on their full financial profile at a glance, thereby allowing them to make better-informed decisions.
To compete against this new service model, financial institutions will need to develop more flexible product distribution, enhance partnerships, and deliver compelling digital experiences to sustain the perceived value of consolidated banking relationships. If not, they are likely to see their customers migrate to more inclusive FinTech platforms.
It’s a threat looming during the next few years.
3À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
A potential loss of advantage
Today, many consumers interact with only one or two financial institutions because opening new accounts can be a tedious process. This consumer inertia historically has provided banks with excellent customer retention and cross-selling potential, but the possibility of frictionless movement of money among accounts at different institutions may diminish that advantage.
Industry data bears out our hypothesis that many bank customers remain loyal at first when it becomes easier to move their activity from one bank to another. For example, in the U.K. in 2013, Bacs Payment Schemes Limited introduced its Current Account Switch Service, enabling consumers, small businesses, and nonprofits to seamlessly close their existing financial services accounts and transfer funds to new ones. Since inception, the service has helped switch 3 million accounts. Although this sounds impressive, it’s too early to say if the switch service is successful. If one assumes that on average each of the 49.7 million people over the age of 20 in the U.K. holds one checking account, just 2 percent of people in this demographic used the service each year so far.1,2
U.S. consumers have behaved in a similar fashion. A study of activity between 2008 and 2012 suggests only half of consumers who considered switching banks actually did so.3 Of the consumers expressing concerns about switching accounts, 63 percent cited worries about transferring bill pay or other automatic debits/credits to a different account. This behavior is highly indicative of the stickiness that the banking industry currently enjoys.
FinTech innovators excel at new customer acquisition.
4À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
The benefits to incumbent banks are immense. Cross-selling remains a high-margin activity for them. Financial services industry statistics suggest that households with 6.6 banking products on average generate twice the revenue of customers with the standard average of 2.7 products. The most prolific customers—those with an average of 16.6 products, which usually include both personal and small business–related accounts—generate nearly 17 times the revenue of a standard two-product customer.4 The ability to capture more business from existing customers might be the biggest driver of growth and profitability at any given financial institution, and FinTech startups, particularly “enablers” of the à la carte movement, could well disrupt this status quo.
If the ability of banks to retain customers effortlessly is compromised, this will naturally add to the pressure for new customer acquisition—which is an expensive activity and an area where innovation at FinTech companies is often superior.
Wireless network operators faced a similar challenge in 2003 when full mobile number portability was implemented in the United States. This allowed consumers to move their mobile number between carriers at no fee. The industry experienced immediate price compression and consolidation. To compete, carriers had to redefine their business model,
5À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
with some operators creating and owning content instead of simply delivering it. Companies that did not foresee this change were relegated to “dumb pipe” commodity status—a scenario that banks will want to avoid.
Why the friction may fade
Consumer habits might change, especially if FinTech innovators remove inconveniences and a more integrated global financial services system begins to develop. The rise of open application program interfaces (APIs) and a more favorable regulatory environment are key potential catalysts for the new à la carte services. For example, in August 2015 the European Parliament adopted the revised Directive on Payment Services to enhance consumer protection, promote innovation, and improve the security of payment services, particularly online and mobile payments.
“We have already used EU competition rules to ensure that new and innovative players can compete for digital payment services alongside banks and other traditional providers,” said Commissioner Margrethe Vestager on the day the legislation passed. “Today’s vote by the Parliament builds on this by providing a legislative framework to facilitate the entry of such new players.… The new Directive will greatly benefit European consumers by making it easier to shop online and enabling new services to enter the market to manage their bank accounts, for example to keep track of their spending on different accounts.”
The U.S. is far behind in this regard, especially when it comes to data sharing, a critical component of the emerging models. Only in November 2016 did the Consumer Financial Protection Bureau launch a public inquiry into the siloing of consumer data following the hindering of access by third-party apps by JPMorgan Chase, Wells Fargo, and Bank of America.5,6
The growth of real-time payment rails—platforms that allow quick movement of money among financial entities—may also accelerate the growth of à la carte banking. These platforms can help à la carte models re-create the feel of a single enterprise solution for account
The rise of open APIs and a more favorable regulatory environment are key potential catalysts for the new à la carte services.
6À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
holders. À la carte models also will get a boost from regional efforts such as the U.K.’s Faster Payments Service and the U.S.’s National Automated Clearing House Association same-day ACH funds transfer (a Federal Reserve initiative for real-time payments launched in September 2016). Any innovation that improves the cross-institution banking experience will introduce opportunities for new models to build differentiated consumer experiences.
The nature of à la carte services
There are three groups of à la carte banking “enablers” listed in the DeNovo platform, all at different levels of maturity. Each of these categories, regardless of development stage, has the potential to change how consumers choose to evaluate, select, and manage financial services accounts.
Product aggregation services, such as NerdWallet, SmartAsset, FinanzCheck, and BankBazaar, make up the first category. These services offer consumers and small businesses information about a wide range of financial products and services so they can choose those that best suit their needs. They do not overcome the inconvenience of having to separately manage multiple accounts and products at a variety of institutions.
The second category encompasses companies that act as personal finance “assistants” to help consumers budget and manage their money, and also provide financial education. Examples include Wacai, Money Dashboard, Digit, and
7À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
Money Forward. These more sophisticated services help consumers and small business owners better understand the true cost and benefits of financial products and how they may impact their individual finances.
The third group combines the features offered by those in the first and second categories. Companies such as Varo Money and Bud allow consumers to cross-shop products within the application and offer one-stop, multi-account management through an API and, in some cases, across a variety of providers.
Companies that participate in these three areas have seen recent momentum. Total funding tops US$2.2 billion (see Exhibit 1), and annual funding increased roughly 50 percent in 2016 to more than $600 million.
Exhibit 1
À la carte banking enablers gain funding
Source: Screenshot from DeNovo platform
8À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
Incumbents fight back
Incumbents are taking notice of these new models and introducing their own contenders (see Exhibit 2). For example, Citibank offers Citigold card members an app unifying the mobile experience, and Goldman Sachs sells competitors’ investment products through its portal.7,8 These moves highlight early steps that incumbents can take to help steer consumer preferences through digital platforms. Banks that fall behind in providing a unified, choose-your-own-product approach could cede share in the not-so-distant future.
Exhibit 2
Incumbents take notice and adapt
Despite a high perception of risk, 44% of banks plan to provide an à la carte o�ering
64%Intend to integrate foreign products or functionalities into own digital offering
44%Are planning to integrate own products or functionalities into foreign ecosystems
32%Expect to offer new functionalities that are essential for existing ecosystems
Source: Strategy& analysis
9À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
What you can do about it
If you are a leader in an incumbent financial services institution, then you can protect highly profitable cross-selling by taking steps to defend a key competitive advantage: convenience.
Make use of your considerable customer data assets to create more compelling cross-product interactions than could be achieved in an ecosystem of unaffiliated service providers. More specifically, you can proactively position yourself by taking actions like these:
• Explore new business models with a more fluid customer base and less reliance on deposits and transfer fees for income.
• Recruit new customer groups—for example, international customers and lower-income individuals.
• Take full advantage of the trove of customer data you already hold, using it to design relevant products and services. Banks have significantly more customer data than startups do; take advantage of this competitive edge.
In the end, a deeper understanding of human behavior may save the day for you. Sheena Iyengar, the S.T. Lee Professor of Business at Columbia Business School, is a social psychologist and author of The Art of Choosing. Her research has found that too much choice can overwhelm us, leading to unpleasant experiences. Banks may be able to tap into this human response to abundant choice to demonstrate the value of selecting financial products and services from one source.
As entrants into the new distribution models rush to amass as many product offerings as possible, FinTech innovators such as wealth management services Betterment and Wealthfront, which aim to limit choice, may come out ahead. Only time will tell if an embarrassment of choices will be the new consumer value proposition. In the meantime, traditional financial services providers would do well to prepare.
Explore new business models, recruit new customer groups, and take full advantage of your customer data.
10À la carte banking: FinTech’s largest threat to bank profitsDeNovo FinTech Focus
Endnotes1 www.ons.gov.uk/peoplepopulationandcommunity/populationandmigration/populationestimates2 www.ons.gov.uk/peoplepopulationandcommunity/populationandmigration/populationestimates/datasets/populationestimatesanalysistool3 www.consumerreports.org/cro/news/2012/07/switching-banks-can-be-a-hassle-survey-shows/index.htm4 https://www08.wellsfargomedia.com/assets/pdf/about/investor-relations/presentations/2016/community-banking-presentation.pdf5 https://www.regulations.gov/document?D=CFPB-2016-0048-00016 http://www.wsj.com/articles/cfpb-advances-plans-giving-bank-customers-data-sharing-rights-14793588617 www.americanbanker.com/news/bank-technology/what-the-citigold-experiment-says-about-mobile-bankings-direction-1092695-1.html8 www.wsj.com/articles/goldman-sachs-has-a-new-model-apple-1477863314
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Musarrat QureshiSubject matter [email protected]
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Capital markets and investment and wealth management
Michael RaneriSubject matter [email protected]
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