By Rivo Uibo, Co-founder and Chief Business Officer at Modularbank
The banking industry is undergoing radical change. Incumbents, as well as challenger banks and neobanks, which were once considered ‘newcomers’ themselves, are facing new competition as fintechs and companies outside of the traditional realm of banking seek to reap the benefits of offering banking and financial services. The emergence of embedded finance, driven by technological advances as well as heightened consumer expectations for more seamless retail experiences, is testing the long-held ‘monopoly’ of banks. But what is bringing this shift about? And where will this trend leave banks in the future? Will they be displaced by non-banks, in directly serving customers?
Shifting industry dynamics
There are a number of factors contributing to the changes taking place in the banking industry and the rise of embedded finance. Recent technological innovations, such as cloud computing and APIs, alongside positive developments in financial regulation and the emergence of open banking have completely transformed the financial landscape. According to Simon Torrance, member of the World Economic Forum, the shift from traditional banking to modern and distributed banking will represent an increase in revenues from $3.6tn to $7.2tn over the next ten years.
With businesses across all sectors facing competition and tight margins, embedding financial services into core offerings is an innovative way of making products or services more appealing and more convenient. It also opens up entirely new revenue streams and opportunities for up-selling and cross-selling. Estate agents, travel agents, construction firms, retailers and utility providers are just some examples of non-financial companies which can benefit from integrating financial services, such as flexible payment options or credit facilities, directly into their customer offerings.
Indeed, as the scale of opportunity presented by embedded finance becomes increasingly clear, some industry commentators, including Forrester, believe that this will have a radical impact on the future of banks with some saying that it will leave them as solely infrastructure providers. In its recent report, “The future of banking is built on trust”, Forrester claims that: “Banks will have a stark choice: own customers or power finance; few can manage both”.
The options open to banks
Undoubtedly, this demand for more seamless financial services to be available at the point of sale through any channel is a key trigger behind an inevitable and major change in the industry. And as a consequence, it is likely we will see an evolution in the role of banks with many becoming ‘infrastructure providers’, powering finance through third parties. However, embedded finance is not the only factor driving this transition. In recent years a number of banks, including Starling Bank, LHV and BBVA have also started to open up their banking infrastructure and provide Banking as a service (BaaS) to enable enterprises and startups to roll out white label banking services. These developments offer banks important opportunities to open up new channels and provide a new way of being relevant in the evolving banking ecosystem.
But while some believe that providing banking infrastructure is the inevitable future for banks, this needn’t be their only destiny. On the contrary, banks that are willing to embrace this evolution of the industry are now presented with an opportunity to widen their range of offerings and operate in ‘multiple modes’; providing services directly to their own customers while also offering their services to customers via third parties in the form of embedded finance. In addition, for many banks, there is an opportunity to open up their infrastructure to fintechs to allow them to market their own services based on that infrastructure, thus creating a brand new revenue stream.
Future-proofing organisational structures
However, in order to succeed in operating in these multiple modes and providing these diverse offerings, banks will need to make some important changes to the way in which they are currently structured. Banks are going to continue to face increased competition from non-banks. To remain appealing to end users, they will need to rethink their core philosophy and adapt their structures and business units to better understand and respond to the specific needs of different types of customers.
Most banks today have an organisational structure that is product-centric rather than customer centric and operates in silos. Product offerings tend to be created for broad brackets of customer types, such as students or small businesses. But this approach will no longer be sufficient if banks are to remain competitive in this new banking landscape. Banks need to take a much more granular and customer-centric approach and reorganize themselves so that they focus on addressing the specific needs of customers within these sub-segments. Only by setting themselves up to focus on diverse customer types and through understanding the specific needs and challenges each of these customers face, will banks be able to offer tailored services that address individual customer needs.
So while the arrival of non-banks to the banking scene and the emergence of embedded finance may be unnerving for banks who have worked hard to build customer loyalty, it needn’t signal the demise of banks in providing financial services directly to end users. We believe that banks can operate in ‘multiple modes’ and that there is scope to capitalise on the changing dynamics within the industry. Providing banks take the steps needed to gain a better understanding of their own customer needs, they will be able to select their most profitable lines of business and focus on best serving their own customers via their own channels – while also creating additional revenue streams through developing an infrastructure play and enabling brand new banking services to third parties.