Why traditional banks still outcompete FinTechs

The retail bank­ing sec­tor seems to be more resilient than oth­ers in the face of new dig­i­tal play­ers. Why is this?

Bank­ing has always been a tech­nol­o­gy-dri­ven indus­try and the sec­tor did not wait for the arrival neo-banks to chal­lenge itself. In retail bank­ing, the trans­for­ma­tion start­ed more than 30 years ago with com­put­er­i­sa­tion and dema­te­ri­al­i­sa­tion. Cus­tomers were able to access basic oper­a­tions direct­ly, such as trans­fers or cur­rent account con­sul­ta­tions. Dig­i­tal tech­nol­o­gy has also facil­i­tat­ed access to finan­cial sav­ings and con­tributed to the democ­ra­ti­sa­tion of the stock market.

Yet, this trans­for­ma­tion has raised ques­tions like: do bank branch­es still have a pur­pose? At first, the explo­ration of dig­i­tal tech­nol­o­gy went hand in hand with an exten­sion of the branch net­work. They were not con­tra­dic­to­ry: in a busi­ness based on human rela­tions, the phys­i­cal net­work is impor­tant, par­tic­u­lar­ly for first con­tact. Branch net­works made it pos­si­ble to win over a cus­tomer base and build up their loy­al­ty. It is a log­ic has not dis­ap­peared. And even if numer­ous ‘dig­i­tal’ banks have appeared in the last ten or fif­teen years, none of them have real­ly replaced a local bank.

Nonethe­less, this new auton­o­my of the cus­tomer in dai­ly oper­a­tions has led to the evo­lu­tion of branch­es. The counter-pay­er was replaced by advi­sors, some of them spe­cialised, whose role was to accom­pa­ny the cus­tomer through­out his or her life.

Until the 2000s, banks were able to invest in both phys­i­cal and dig­i­tal chan­nels. But in the wake of the 2008 finan­cial cri­sis there was a mas­sive switch to dig­i­tal. Why did this happen?

This shift in invest­ment cor­re­sponds to a very rapid change in busi­ness mod­el. Before the finan­cial cri­sis, the bulk of pay­ment was based on the out­stand­ing amounts, which enabled cred­it to be grant­ed. The bank made its mar­gin on inter­me­di­a­tion, and its income there­fore depend­ed main­ly on the vol­ume of out­stand­ing amounts and their rotation.

After 2008, with the col­lapse of inter­est rates, the remu­ner­a­tion of loans became very low. The inter­me­di­a­tion mar­gin fell sharply. To rebuild their mar­gins, banks played on two fronts: reduc­ing costs through dig­i­tal tech­nol­o­gy (giv­en that the revenue/cost ratio was his­tor­i­cal­ly very low in this sec­tor) and sell­ing products.

Retail banks have there­fore start­ed to sell dif­fer­en­ti­at­ed ser­vice pack­ages, espe­cial­ly to a “mass afflu­ent” clien­tele that is not rich enough for pri­vate banks, but is will­ing to pay for pre­mi­um ser­vices such as Gold or Pre­mier cards. The banks are try­ing to sell advan­tages and priv­i­leges: spe­cialised advis­ers, tick­et­ing. They are also think­ing about rewards: infor­ma­tion, train­ing, events on finance or sus­tain­able devel­op­ment, meet­ings between peers.

Is the wealth of data avail­able to them use­ful here?

Yes, data is cru­cial: but banks still exploit this wealth very lit­tle, even though they have data­bas­es that are both very large (mil­lions of cus­tomers) and very pre­cise (hun­dreds of trans­ac­tions for each one), much larg­er than those of insur­ance com­pa­nies, for example.

Their his­tor­i­cal posi­tion­ing is that of a trust­ed third par­ty, which has con­fi­den­tial infor­ma­tion and keeps it. But this could change, under pres­sure from Fin­Techs (dig­i­tal start-ups in the finan­cial sec­tor) which do not have these con­cerns. In par­tic­u­lar, banks could exploit this data to bet­ter serve their own cus­tomers, but also sell (anonymised) mar­ket­ing insights to oth­er industries.

They could also con­tract with their cus­tomers to pass on or exploit some of their data. This aspect is only just emerg­ing and, con­trary to what one might think, the inter­est­ed cus­tomers are not those with the low­est incomes but peo­ple belong­ing to the CSP+, who expect more effi­cien­cy and per­son­al­i­sa­tion thanks to the exploita­tion of cus­tomer knowl­edge and there­fore of their data. These devel­op­ments are vis­i­ble in the Unit­ed States. In Europe, where reg­u­la­tions are stricter, banks are test­ing and experimenting.

Anoth­er aspect is plat­formi­sa­tion, which enables them to enter the ecosys­tems of cus­tomer needs, as banks have already done by pro­vid­ing insur­ance or telecom­mu­ni­ca­tions ser­vices. Retail banks are par­tic­u­lar­ly inter­est­ed in the ecosys­tems of mobil­i­ty, health and enter­tain­ment. The for­ays into these ecosys­tems are enabled by an enabling tech­nol­o­gy, the API. But inter­con­nect­ing infor­ma­tion sys­tems does not solve every­thing. They need to define the right strate­gic posi­tion­ing in worlds that are already high­ly cov­et­ed and ensure suf­fi­cient sources of revenue.

The ques­tions a bank asks itself are which ecosys­tems it can be an entry point into and, in the oth­ers, what are the right part­ner­ships to gain mar­ket share. It has a com­pet­i­tive advan­tage that is not neg­li­gi­ble: on the screen of your smart­phone today, you inevitably have your bank’s application.

Aren’t Fin­Techs and neobanks bet­ter equipped to enter these ecosys­tem dynamics?

They are more agile, no doubt, and both their man­agers and their teams spon­ta­neous­ly enter into this log­ic. In fact, we are now see­ing the rise of a myr­i­ad of play­ers, includ­ing not only dig­i­tal pure play­ers: tele­com oper­a­tors and insur­ers are also very present.

How­ev­er, in retail bank­ing ser­vices, no major dig­i­tal play­ers are emerg­ing, and the sec­tor’s his­tor­i­cal play­ers are doing quite well. There are sev­er­al rea­sons for this. First of all, cus­tomers still express the need to have a bank that is well estab­lished, espe­cial­ly as banks have con­tin­ued their dig­i­tal trans­for­ma­tion: cus­tomer feed­back shows that there is no major dif­fer­ence between banks and neobanks in terms of experience.

Sec­ond­ly, we are not so much wit­ness­ing an upheaval as a con­sol­i­da­tion: banks are buy­ing the right Fin­Techs, find­ing part­ners and inte­grat­ing them. This is in line with the mind­set of star­tups and the investors who back them: they are most often look­ing for an “exit”, which in effect means either an IPO or a buyout.

Neobanks often remain sec­ondary banks, attract­ing their cus­tomers with tar­get­ed offers such as every­day bank­ing, for­eign oper­a­tions, micro-cred­it… Those that have sur­vived are often sub­sidiaries of tra­di­tion­al banks. Neo-banks such as N26 or Rev­o­lut have not tak­en a large share of the mar­ket: we are far from the expo­nen­tial growth observed in oth­er sec­tors that have been shak­en up by dig­i­tal pure play­ers. It should be not­ed in pass­ing that the cus­tomers of neobanks are often “mul­ti-banked”: they have accounts in sev­er­al insti­tu­tions. But these cus­tomers are not easy to make prof­itable. The prof­itabil­i­ty of a bank is no longer relat­ed to the vol­ume of its out­stand­ings, but size still counts for a lot.

How­ev­er, in this high­ly reg­u­lat­ed busi­ness, the man­age­ment and indus­tri­al­i­sa­tion of core bank­ing are com­plex (core bank­ing refers to all the basic soft­ware com­po­nents that man­age the ser­vices pro­vid­ed by a bank to its cus­tomers) if one wants to cov­er the dif­fer­ent clien­te­les and the whole range of their needs. This is a for­mi­da­ble bar­ri­er to entry for newcomers.

Interview by Richard Robert