Banks That Don't Rely on Branches, Geography, or Good Customer Service Won't Grow

Banks that rely on: 1) branching to attract and sell; 2) geography to determine who to sell to; and 3) good customer experience won't produce satisfactory levels of growth and return on assets, since they need a different approach.

   Happy young woman holding large fork and table knife while sitting at sidewalk cafe 
Young woman sits at sidewalk cafe, happily holding fork and knife.

The market research team at the Fintech Snark Tank recently published a report on cryptocurrency.

In the blockchain world, there is a concept called a hard fork, explained as:

"A change in a network's protocol that makes previously invalid blocks and transactions valid, requiring all users to update their software.

According to Investopedia, "a fork can be initiated by developers or members of a crypto community who are dissatisfied with the existing blockchain's functionalities."

Banking’s Hard Fork

The “hard fork” is a good comparison for what the banking industry is facing.

The physical-attraction and distribution methods (marketing) that banks have relied on in the past are increasingly "obsolete," forcing them to "update to the latest version" of their protocol, i.e., digital marketing and distribution.

When it comes to the banking industry, hard fork is more than just a business strategy and sales technique.

A blockchain hard fork may be initiated in response to "the dissatisfaction with the features provided" by an implementation.

Banking is the same. Consumers and small businesses are not satisfied—or, at least, less than thrilled—with the "features" of banks' typical debit and credit products.

When banks go through a hard fork, they will have to develop new methods.

A three-pronged approach to problem solving

A bank's strategy, in a nutshell, is:

  • What customers does it serve? This dimension identifies the segments that a bank focuses on serving. The most important ones are a clue to understanding its strategy.
  • What and how does it sell/deliver? This question encompasses the actual product (or service), the quality of the customer experience in acquiring and using it, and its price.
  • How does the bank reach its customers? This identifies the “marketing and distribution” aspect of strategy—i.e., where does a bank find customers, sell to them, and deliver its products and services.

In the shift from branches to search to platforms,

In the past, banks were (mostly) limited to selling through branches and in a specific area.

The banking world that once existed no longer does.

According to a recent survey, three out of every ten Generation Zers and Millennials consider a digital bank or fintech to be their primary checking account provider, and I would bet that most of them have no idea (or don’t care) where that provider's headquarters is.

The concept of "branch as attractor" has been losing its appeal for 20 years as search-based online platforms became more popular. However, this trend is changing and the point of attraction is now shifting from search to platforms like Square and Credit Karma.

Geography is no longer considered a strategic factor

The change in focus from "branch as attractor and point of delivery" to "virtual space as the new marketplace" negates the importance of geography as a way to define "who" to sell to.

In the past, when physical features and distribution were significant, geography created obstacles to market entry and gave an edge to incumbents in a local market.

The situation has changed.

The use of the term "members of a geographic community" to define a bank's target market is increasingly ineffective, as geography (usually) does not help banks identify customers with unique product and service requirements.

Customer experience is not a strategy; it's a way of life.

Bankers have bought into the belief that their products are commodities and that the only way to gain a competitive advantage is by providing a better customer experience.

They are wrong. Why?

  • Banks that have already created a positive customer experience may not see much of a return on investment if they try to improve their offerings.
  • Banks with a poor customer experience are at a disadvantage when it comes to making improvements. They can't simply catch up, and even if they do, their efforts won't necessarily pay off.
  • When financial products from banks are embedded into non-financial companies, the nature of "customer experience" shifts from the bank to the non-financial company.

Methods that rely on: 1) branches to attract and sell; 2) geographies to determine who to sell to; and 3) customer experience to differentiate won't produce acceptable levels of growth and return on assets.

Two Ways to Save Banking

Rakefet Russak-Aminoach, Managing Partner at Team8, former CEO of Bank Leumi, and three-time member of Fortune's 100 Most Powerful Women in Business writes:  fintech/4 Fintech leaders outline 4 key trends for 2022

Neobanks have challenged traditional banks in pricing, and are struggling to attract mainstream customers.

Neobanks, which often struggle to attract customers, can benefit from using embedded banking solutions, which are able to reach people who are already using a service.

By enabling companies to expand their offerings, create new revenue streams, and better serve customers across their ecosystem, any business—financial or otherwise—can enhance its competitive position.

This is true for incumbent banks, who already have a [somewhat] captive audience of customers, as it is for neobanks.

Fintech is the new "paradigm"—but banks have to choose between an fintech embedded in their operations and an finance that's entrenched in their business.

One way to finance a project is through the use of an embedded financial instrument, as described in

At its core, embedded finance—the integration of financial services into non-financial websites, mobile applications, and business processes—is a way to reach new markets.

Banks do not deal with consumers and small businesses directly. They instead rely on another company to provide financial services for these clients.

What are the reasons for a bank to do this?

1) Affordability. Low-cost way to reach customers (from $5 to $35 vs. from $100 to $200, as stated by Oliver, Wyman).

Banks using embedded finance strategies have better ROA and ROE than other banks.

   ROA and ROE of BaaS Banks 
  Source: Andreessen Horowitz
ROA and ROE of BaaS Banks are based on the "asset-lite" model. Andreessen Horowitz explains: "We think the future belongs to banks that have no material balance sheet, that are

Fintech companies are increasingly embedding their products into larger financial institutions.

Fintechs' products and services are sometimes used by financial institutions. This is called "embedded fintech".

   Embedded fintech examples 
  Source: Cornerstone Advisors
Cornerstone Advisors cited a few examples of fintech in their report.

Why should we do that?

1) Cash flow. A revenue recession in banking means that there's less cash to go around, which can result in a decrease in mortgage payments, overdrafts, and other income sources for banks. Banks must find new ways to make money or else they could be forced to close their doors.

Banks Must Develop Targeted, End-to-End Solutions

Banks that pursue an embedded finance or embedded fintech strategy still need to answer the three strategy questions (who, what, and where).

When a bank chooses to use one of the two strategies, it must revisit the three questions: which customers are most important? Which products will be lead products and how do they have to be improved to be more competitive in the market? Where and how will we reach our most important customers?

The top four to five customer segments, products, and channels generate the majority of banks' revenue. Banks should start their strategic planning process by identifying these highest-earning parts of their business.

The finance department should estimate the revenue that will be generated by the new business venture for three years from now.

If the projected revenue contribution of customer segments, products, and channels for 2025 is similar to the contributions in 2022, go back and start again.