March 2022

Accuracy Talks Straight #4 – Industry insight

Retail banking, the old guard versus the new

David Chollet
Partner,
Accuracy

Nicolas Darbo
Partner,
Accuracy

Amaury Pouradier Duteil
Partner, Accuracy

Retail banking is a sector that is set to see its rate of transformation accelerate in the next few years. The past 10 years have seen in particular distribution methods evolve towards more digitalisation, without calling into question the physical model, however. In the 10 years to come, in a world where technology will gradually make it possible to serve major needs via platforms, supply, distribution and technological solutions must all evolve.

1. THE TRANSFORMATIONS AT WORK

It is not worth spending too much time explaining the context in which retail banking has been developing for several years now; suffice it to say that there are three principal challenges:
ultra-low rates, regulation that has toughened considerably since 2008 and the arrival of new players.

Beyond this context, the sector is experiencing major technological changes. The first such change regards data. Open banking designates an underlying trend that is pushing banking IT systems to open up and share client data (identity, transaction history, etc.). A new open banking ecosystem is gradually taking shape, in which multiple actors (banks, payment bodies, technology publishers, etc.) share data and incorporate each other’s services in their own interfaces, making it possible to provide new services and to create new tools.

Another major development is banking as a service (BaaS). Historically, retail banking was a fixed-cost industry. The opening up of data, the swing to the cloud and the API-sation of banking systems have made closed and vertically integrated production models redundant. Each of the production building blocks of financial services can now be proposed ‘as a service’. This transformation leads to a swing from a fixed-cost economic model to a variable-cost basis. By outsourcing their banking system, digital challengers can launch their businesses with lower costs and shorter time frames.

Finally, the sector cannot entirely avoid the phenomenon of super-apps, which are gradually changing uses by aggregating services for highly diverging needs. This change may slowly make the way clients are served obsolete and probably requires the development of what we might call ‘embedded finance’.

2. THE FUTURE OF TRADITIONAL PLAYERS

Traditional banks have generally resisted the prevailing winds mentioned above. Over the past 10 years, their revenues have not collapsed, though their growth has proved to be somewhat moderate.

Traditional players still have a certain number of strengths. First, historical banks have complete product ranges, which of course cover daily banking (account, card, packages, etc.), but also the balance sheet side of things, with credit and savings products. Classifying the IT systems of major banks among their strengths may seem rather unconventional. Nevertheless, these large systems, though not agile, are often highly robust, and they have made it possible to shrink the technological gap with neobanks. Finally, traditional players are financially powerful and capable of investing to accelerate a technological plan when necessary.

Naturally, these players have some weaknesses, the main one being the customer experience. However, this point does not relate to the gap with neobanks, which has most often been filled; it relates to the gap with purely technological players for example. When considering the trend of convergence of needs, this weakness may represent something of a handicap for the financial sector as a whole. Another weakness relates to these players’ low margin for manoeuvre in terms of the reduction of headcount or number of agencies, if the implementation of a massive cost-reduction programme proved necessary.

These players are deploying or will have to deploy different types of strategy. First, there are the financial actions, be they concentrating or restructuring. Concentration aims to dispose of all activities away from the bank’s main markets in order to be as large as possible in domestic markets. Restructuring, in Spain in particular but also in France with the business combination between SG and CDN, aims to reduce the break-even point.

Banks should also take other actions. In terms of IT, there will come a time, in the not too distant future, where the lack of agility of historical systems will no longer be compensated by their robustness. Developments will accelerate and the speed of developments will become key.

Finally, traditional players will have to rethink their distribution models in the light of digital technology and the convergence of the service of major types of need, which will enable embedded finance. The idea of embedded finance is to incorporate the subscription of financial products directly into the customer’s consumption or purchase path. The financial service therefore becomes available contextually and digitally.

3. THE FUTURE OF NEOBANKS

Neobanks have developed in successive waves for more than 20 years, and the last wave saw the creation of players developing rapidly and acquiring millions of clients. They are capable of raising colossal funds on the promise of a huge movement of clients towards their model.

The primary strength of neobanks is their technology. Having started from scratch in terms of IT, they have been able to rely on BaaS to develop exactly what they need, all with a good level of customer service.

Moreover, these players generally target precise segments; as a result, they have a perfectly adapted offer and customer path, something that is more difficult for generalist banks.

Their weaknesses are often the corollary of their strengths.

Yes, their limited offer makes it possible to better fulfil certain specific needs, but in a world where technology is enabling the emergence of multi-service platforms, addressing only some of a customer’s financial services needs is not necessarily a good idea. It places neobanks on the periphery of a business line that itself is not best placed in the trend of convergence of needs. But if neobank offers are limited, it is not necessarily by choice.

Developing credit and savings products, areas most often lacking in neobanks, would need them to change size in terms of controls and capital consumption in particular. Finally, the consequence of this limited offer is their inability to capture the most profitable retail banking customers en masse: the customer with multiple accounts. This explains their low revenues, which plateau at €20 per client.

This does not necessarily condemn the future of the neobank. For a start, it is necessary to distinguish between countries based on the availability of banking services. In countries with a low level of banking accessibility, neobanks have an open road before them, like Nubank in Brazil (40 million customers). In countries with a high level of banking accessibility, it is a different story. The low level of revenues and the trend of convergence of major needs will force neobanks to make choices: they can urgently extend their offer to balance sheet products, like Revolut appears to be doing; they can decide to skip the balance sheet step and widen their offer directly to other areas, like Tinkoff is doing in Russia; or they can let themselves be acquired by a traditional player that has an interest in them from a technological perspective – but they should not wait too long to do so.

The retail-banking sector is more than ever under the influence of major transformations. These may be internally generated, like those that touch on data and BaaS, or externally generated, like the development of platforms serving major needs, initially driven by consumer desire for simplification. In this context, traditional players must address two major topics: embedded finance, on the one hand, and potentially the swing towards decidedly more agile systems to stay competitive, on the other. As for neobanks, their offer must be extended to cover balance sheet products urgently, at the risk of losing some agility, or to cover other needs.

But the finance sector as a whole should probably seek to simplify the consumption of its services considerably, faced as it is with non-financial players that have already undertaken this transformation.

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