Frog Parable in Finance and why should Traditional Banks care about a wave of FinTech (Financial Technology)? Thoughts!
We are still in the early stages of how the FinTech industry will impact the financial sector, regardless of any hype that might suggest otherwise. FinTech startups and tech giants will change the banking industry in ways that we could never have imagined, especially when we look back in just 10 years’ time. A FinTech tsunami is heading towards the financial industry’s shore, so banks should diligently prepare for the vast and disruptive changes to come. Most banks have historically been resistant to this message, but it is happening regardless. The reality is that most incumbents that aren’t in the top 100 global banks are already years behind the average FinTech in their specific domain.
We’ve all heard the frog parable that basically says that a frog that is put in a pot of boiling water will jump right out of it. However, if the frog is placed in the pot with comfortable water temperature and then the water is heated up slowly to boil, it will not realise the danger of likely death until it is too late. Although science does not corroborate the so-called “frog experiment”, it serves as an excellent metaphor for the risk that organisations face by not adapting to the new environment created by technology-led banking experiences.
Future scenario-planning is a core skill for incumbent banks in particular. They should ask themselves: are the changes we’re seeing in the experience layer and core building blocks of financial services led by FinTechs the boiling water in this metaphor? Or are there incumbents smart enough to realise the danger and act accordingly — in this case, adapting to the new standards in day-to-day banking created by FinTech startups?
The broader evidence suggests that while we have seen some banks taking steps towards capitalising on what the FinTech startups or technology leaders have to offer, such as cutting-edge technology implementation, innovative solutions and excellent user experience, not enough are taking the threat seriously. The typical posture of the industry at large has been to see FinTechs as competitive threats. That is a pity because I believe the FinTech industry can significantly assist incumbents in addressing their legacy systems limitations and, more importantly, their legacy thinking.
One positive effect coming from the FinTech wave is that it is certainly now easier for those inside a bank organisation who want technology to be as cutting edge as possible to get attention from senior management. Slowly but surely, the injection of innovations from the FinTech space has given way to top bank management feeling the urgency to stay competitive. These examples are becoming more common daily: such as Wells Fargo’s Greenhouse, Chase’s Finn and Emirates NBD’s Liv apps in response to the likes of Starling and Monzo; or HSBC’s PayMe P2P app as a response to Alipay’s dominance there. There is also Schwab, Fidelity and Vanguard’s own robo-advisor efforts in response to Betterment, Wealthfront and Personal Capital. In most cases, though, incumbents still lag three-to-four years behind the innovations created by leading FinTechs; and even after the launch, these same FinTechs remain ahead in terms of design innovations, features and thinking. The water is still boiling.
It makes sense, then, that partnerships between banks and FinTechs should be far more common today than they are. Some incumbents have experimented with the opportunities FinTech partnerships can offer them, but statistically, this is true only for a handful of banks globally. Is this a question of trying to figure out how to work with each other as partners, given both bring different strengths and advantages to such a partnership?
FinTech companies usually have a faster and cheaper innovation process and are extremely customer-focused, qualities that are out of reach of probably all banks today. On the other side, the advantages banks bring to a possible partnership, such as revenue (for the FinTech), customers (scale) and brand are also extremely compelling. That is why I believe we are about to see a wave of collaboration between FinTechs and banks that will accelerate industry change. For those banks still resistant to such opportunities, they are going to find themselves falling further behind the changes in the industry. One of the primary reasons the banking industry is being forced to adapt to this new world is plain that customers are increasingly comparing offerings by banks to what FinTech startups or tech giants have to offer. It starts with simple things like: why can’t I open my account through your app instead of a branch? Why does your app look so dated compared with these challenger banks? And why hasn’t your internet banking design changed in a decade? It is clearly reminiscent of how Apple set the standard for design, user experience and innovation for all their competitors by focusing on delighting the customer. In the same way, FinTech startups have successfully redefined what the customer demands from a bank. FinTechs have set the bar for the user interface much higher than incumbent banks.
The solution is patently obvious. The smartest banks will increasingly see that FinTech startups should serve as virtual innovation hubs, which they can take advantage of by partnering with or acquiring some of them. Accelerator, incubation, innovation and hackathon initiatives by banks simply do not provide the desired effect of becoming more innovative, often because the culture of the bank does not allow innovative ideas to be adopted at the same rate as with a FinTech. However, these programs can be used to gain insight into FinTech offerings, and better judge the right FinTechs to partner with or acquire.
Due to their operational complexity, compliance constraints, legacy systems and thinking and just the organisation’s sheer size, incumbents are by nature slow to adapt. Another reason for banks moving slowly might be the assumption that their older customers with money do not care about the difference, for instance, between a cutting-edge banking experience and the current state of the bank’s technology. That would be a flawed and dangerous assumption because we clearly see older people use cutting- edge technology like iPads or iPhones smartphones in their daily life. Regardless of age, demand for cutting-edge banking technology, reduced friction in financial services and best-in-class user experience will be a bar set by the success of FinTech players.
When you are delivering hundreds of millions of dollars or more in net margin each year, it is understandable why banks are hesitant to cannibalise their business model by more aggressively applying FinTech operationally, and that they would rather see it done slowly by the startups and act as a so-called fast follower when it succeeds. Statistically, this lag is resulting in gradual (and sometimes dramatic) shifts in market share. Thus, the better decision may be for the banks to cannibalise their own business, staying in control of the process and their destiny. In contrast to the startups, banks have the brand, customers and money to feed new business units, and therefore to increase the likelihood of success.
However, at the same time, banks need to address and manage the fundamental disadvantages they carry of lack of execution speed and focus. Ultimately, it still comes back to the fact that if you want fast, cheap innovation within your bank, you should be looking to change the culture internally to leverage more effectively off technology partnerships.
Whether your bank ends up like the frog in this scenario is to a large extent in the hands of its leadership. For many incumbents the frog metaphor will play out in the worst way possible because they failed to see an industry being reshaped by emerging players, imagining that there was enough momentum in their old business model to ride it out. Their smarter competitors will jump out of the hot water to aggressively pursue partnerships with the FinTech agitators and technology innovators, recognising the boiling water as one of the greatest opportunities the financial industry has experienced in the last 700 years. Do you want to be the frog or the boiling water? Be the water, my friend…
