This article first appeared in Corporate, The Edge Malaysia Weekly, on June 20 - 26, 2016.
FINANCIAL technology, or fintech, as it is commonly known, is certainly not a new thing. Financial services companies have, for many decades, used technology to improve internal processes, enhance efficiencies and offer innovative products.
So, why is there such frenzied hype about fintech these days?
A lot of the ballyhoo is focused on the disruptors that have emerged in recent years. It is a compelling storyline: Small start-ups with powerful technology can render banks irrelevant forever. But that’s hardly the entire story.
For starters, it is helpful to take a closer look at what fintech entities are and do. Generally speaking, there are two types — the competitive ones that seek to disrupt financial services incumbents and the collaborative ones that have innovative technologies to enhance financial services.
The financial landscape has definitely shifted with the incumbents and newcomers to financial services finding that they are operating and competing in an increasingly crowded and dynamic space.
What is known about fintech
What is certain is that a lot of money is being poured into fintech globally. By some estimates, US$50 billion has already been invested in this area in the last five years.
According to Citi’s Digital Disruption report, funding for fintech grew tenfold to US$19 billion in 2015 from US$1.8 billion in 2010.
A big part of the financing comes from venture capital funds, and a lot of it has been going towards the payment subsector of financial services.
Citi Research analysts estimate that over 70% of the fintech investments to date have been in the business-to-consumer (B2C) personal/SME business segments.
There are two reasons for this. Firstly, consumer behaviour has changed dramatically, especially with the smartphone revolution. Simply put, consumers now expect convenience and seamless user experience in transactions.
Secondly, it is often easier for a B2C solution to score new clients by offering more value and a better user experience than business-to-business (B2B) solutions that need to overcome more hurdles before a new client can be acquired.
Next, although opinions differ as to how much can be disrupted, what is undeniable is that many disruptions are already happening in many areas of financial services (see table on Page 76).
“Banking is actually a simple business. We take deposits and give out loans. We get some interest from loans and we give some back to depositors. So, what worries us is, who else, who are non-banks, can do this too?” asks a local banking industry source who is looking at fintech innovations.
The answer is that a lot of the financial services functions do not require banks per se and can be done online, as seen in other markets.
So, who else can take deposits? Probably anything that has a prepaid function or a digital wallet.
Who else can enable payments and fund transfers? Right now, online platforms and mobile apps can facilitate payments and fund transfers. Chat applications like Facebook Messenger and WeChat have an integrated payments platform for some markets.
Who else can offer loans? Almost anyone who is plugged into a peer-to-peer (P2P) lending platform.
Herein lies the fear. Suddenly, banks are competing not just with other banks. The competitors are getting more numerous and more unfamiliar. They are technology giants like Apple, Google, Samsung and Alibaba. There are also small but well-funded start-ups with an innovative edge.
“The truth is, these fintech entities compete in different bits and pieces of the business. These small guys have specific solutions for things like remittance, big data and so on. There is a saying now: ‘Death by a thousand cuts’,” says Raja Teh Maimunah Raja Abdul Aziz, who is Hong Leong Bank Bhd’s chief operating officer of digital innovation and transactional banking as well as Hong Leong Islamic Bank Bhd’s managing director and CEO.
What is yet unknown
Perhaps, the biggest unknown about fintech at this point is how disruptive the new entrants can be and how much revenue and market share is at stake.
Malayan Banking Bhd (Maybank) group chief strategy officer Michael Foong points out that no one really knows how much is at stake. “In actual fact, no one really knows how much value fintech entities will bring to banks or how much they may disrupt the banks.
“What we do know is that fintech companies are forcing banks to relook at their relationships with customers and how they operate. And I believe this will spur innovation and value-creation for all parties,” he says.
In its report “Cutting Through the Fintech Noise”, McKinsey warns that 10% to 40% of banking revenue could be at risk by 2025 if banks do not take any mitigating actions.
This is particularly urgent in five major areas of retail banking — consumer finance, mortgages, lending to small and medium enterprises, retail payments and wealth management.
“Attackers are likely to force prices lower and cause margin compression,” McKinsey says.
Jirnexu CEO Siew Yuen Tuck is among those who take a more sober view. He notes that while there are areas in banking that are starting to change, there remains the big question of how banks’ business is being chipped away. “What’s still not entirely clear is who is going to disrupt and how they are going to disrupt.”
Siew, for one, is not convinced that incumbent financial services firms will be entirely displaced by fintech companies in the short term because the incumbents are entrenched. “They’re like elevator businesses. It does not matter if you build a better elevator, no one is going to take out their existing elevator,” he quips.
Jirnexu is technically a fintech start-up but one that is more collaborative. It offers a technology platform that helps enhance the customer acquisition niche for banks, insurance companies and telecommunications companies.
“Can you point to a fintech company that has taken material market share away from banks in the developed markets? Not yet,” Siew says.
The early numbers of disrupted business are in but they are still a fraction of the total amount of business that incumbents still control globally.
On the loans side, P2P lending still accounts for single-digit percentages of total loans out in most major markets.
It is perhaps the growth potential of these fintech disruptors that scares bankers the most. In a report, Citi global head of digital strategy Greg Baxter points out that currently, only 1% of North American consumer banking revenue has migrated to new digital business models.
Nevertheless, he says this could increase to about 10% by 2020 and 17% by 2023.
China is often cited as an example of what could be, especially in Asia, where internet giants have moved into financial services and offer more efficient and convenient services.
China’s biggest fintech firms, such as Alipay and Tencent, are said to have as many as, if not more, clients than the top banks there.
At present, banks can take comfort in the fact that they have the capital, clients and scale that fintech entrants do not. Fintech companies, meanwhile, have the advantage of agility and new innovations.
Raja Teh is not worried about fintech’s onslaught. Instead, she says she is excited about the developments in the fintech world and what it means for the future of banking.
“Without the fintech evolution, your customer experience would not change. With fintech companies coming in, suddenly, all the banks are saying, ‘Okay, what’s going on?’”
What worries her though is if the banking industry “does not get it” and gets left behind.
“The opportunities far outstrip the [threat]. If the banks get it, we can actually turn it into something far bigger than what the little boys are doing,” Raja Teh says.
For one, banks still have high trust value among consumers. You would not put your life savings in a digital wallet, would you?
For now, banks must be careful that fintech disruptors do not chip away at the more profitable side of the business, says Raja Teh.
What is up for grabs
In fending off competitive disruptors, incumbents are roping in the more collaborative fintech companies to enhance their position. There is an oft-quoted prophetic remark by Microsoft co-founder Bill Gates in the 1990s on how “banking is essential but banks are not”.
CIMB Group chief executive Tengku Datuk Seri Zafrul Aziz cites that quote but says his interpretation of that is that banks that fail to respond quickly and appropriately to the digital era are at risk of losing relevance.
“We will still have banks except that they will be transformed. Banks that survive will provide significantly higher value-added services because transaction fees from being a mere trusted intermediary will diminish,” he says.
Tengku Zafrul cautions that to ignore or downplay potential competition from fintech companies would be to risk being left behind by those with forward vision and who take concrete actions.
“Banks need to innovate to remain competitive. As a firm advocate of banking technology and financial innovation, we are also excited about the potential opportunities created by more innovative offerings and solutions. And that includes working alongside suitable fintech companies when the opportunity arises,” he says.
The Boston Consulting Group’s Global Retail Banking 2016 report points out that banks can drive substantial improvements in their financial and operational performance by enhancing their digital capability.
“These benefits can include boosting revenue per customer by 50%, increasing customer penetration by 30% and reducing operating costs by as much as 20%,” says the consulting firm.
It adds that digital technology’s pervasiveness, lower cost of entry and potential impact means that it is imperative that banks today launch new digital products and services and digitise internal processes.
“With the proliferation of fintech competitors and the evolution of customer attitude and behaviours, banks face the danger of becoming increasingly commoditised over the next five years. To prevent this, they must focus on customer needs and priorities. They must become customer-centric, not product-centric.”
Global corporate venture capital fund Santander InnoVentures argues that the second phase of fintech offers a broader opportunity to re-engineer the infrastructure and processes of the trillion-dollar global financial services industry.
“The strengths and weaknesses of both banks and fintech companies means that both will often do better by cooperating rather than by competing.
“New digital businesses must either grow quickly or die. Banks can offer fintech companies immediate scale and critical mass through access to demand,” the fund notes in its Fintech 2.0 report.
Amid all the noise surrounding fintech and the future of banking, the bottom line is that incumbents have little choice but to fight tech with tech.