Payments are at the core of a retail bank’s offering to its customers. They constitute the largest share of interactions of the bank with its customers, and also represent about a third of revenues at most banks. However, non-traditional players such as neo-banks, fintechs and big tech are entering the payments space and are infringing on this important profit pool for traditional banks.
There are now more than 150 fintech companies that have achieved unicorn status with a valuation of over $1B. FinTechs now account for about 5% of overall banking revenue in the US and for as much as 20% in payments related services and solutions. Moreover, these new entrants have accelerated the rate of innovation in payments, creating customer expectations for frictionless, embedded payments experiences and new payment methods.
Contactless payments have spiked during the COVID-19 pandemic. Real time payments are expected to account for almost 20% of all global electronic payment transactions by 2025. Buy Now Pay Later is reinventing lending at point of sale and will make up 25% of the unsecured lending market in the US by 2026. Meanwhile, 60% of Australian consumers are paying bills using a Request to Pay framework, with other markets globally following suit. At the same time Mercator indicates that since just 2017 crypto has grown from almost nothing representing roughly 7% of the world’s economy today. This is an unprecedented pace of innovation and change, further propelled by the COVID pandemic – all at a clip banks have a hard time keeping up or catching up with.
Traditional banks stand a great chance vs. fintech and big tech payment providers
In today’s world where almost half of consumers exclusively use digital channels to manage their finances and pay their bills, and cash is being displaced ever more, one may wonder whether traditional brick-and-mortar banks still have a role to play. The answer is emphatically: yes.
Banks possess considerable competitive advantages, notably their customer populations and relationships, including historical data and additional services (e.g., mortgage lending). In addition, more so than their new fintech competitors, banks are well placed to satisfy the need for a seamless omni channel payment experience between different payment methods (card, ACH, cheque, and digital payment methods), and can potentially offer better rates as they do not rely on payments transactions as their sole revenue and profit driver.
In fact, if anything many banks have stepped up their focus on merchant acquiring and other payments activities in spite of the up-and-coming new competitors, given the attractive returns and valuations of pure-play payments businesses, and the relative resilience and reliability the payments space showed throughout the COVID pandemic.
A modern infrastructure is key to surviving in the new world of payments
Despite the attractiveness of the opportunity, traditional banks have additional hurdles to overcome to effectively compete in the new world of payments. They face an aged and inflexible technology infrastructure that makes adding new services and adapting to new regulatory requirements cumbersome and expensive, with fewer people who are actually able to make these systems changes with each passing year. Yet the time is now for them to act and secure their future in the face of the rise of the challenger banks and big tech entering the payments arena. This should be an exciting journey, entering new lines of business with potentially attractive economics. For example, offering Buy Now Pay Later creates not only a biller transaction fee revenue stream for the bank, but also the opportunity to generate affiliate marketing fee revenues. Equally (if not more) important, having services like instant payments, Request to Pay and Buy Now Pay Later allow the bank to remain attractive with merchants and top of wallet with their consumers, not losing transaction volume and touchpoints.
Banks can pursue these opportunities on their own or through partnership with some of the fintechs – but in both scenarios, it’s important for the bank’s infrastructure to allow for quick and easy deployments. Concurrent with the impetus to embrace new services and payments types and generate additional revenue streams, banks will also need to push to modernize their technology infrastructure and embrace the cloud, improve cybersecurity, and drive an API strategy that accommodates for the new world of open banking.
Fortunately, there are also fintechs that have been focusing on building modern solutions for traditional banks to modernize their core banking and payments platforms. These innovative, cloud native and microservices enabled solutions can be assembled and extended in a Lego-bricks-like fashion allowing banks to migrate off from their monolithic applications as slowly or rapidly as they are able to, providing a way to minimize the risk while embarking on this exciting ride to improve their agility and efficiency. It’s an exciting time to be in banking and payments!