Most Heritage Financial Firms Risk Becoming Irrelevant with Digitization
There is a gloomy trend developing around heritage financial firms. Statistics show that 80% of them will go out of business, or will become commoditized by 2030. It is not a recent trend, either. Since the 2008 financial crisis, all financial providers have underperformed.
US banks, in particular, have seen a flat 9.1% return on equity since 2012, while the return on assets has remained at 1% since 1992. What's more, the net interest margin is at a 30-year low of only 3.1%.
Financial technologies, commonly known as Fintech, and various nontraditional entities such as Alibaba or Metro Bank, are changing the way the financial industry operates. Ant Financial, a full-service online provider, and an Alibaba affiliate has over 870 million active users and more than $300 billion in deposits.
As of 2018, the Chinese financial provider is valued at $150 billion, far surpassing Goldman Sachs, which is at $88 billion. Far more efficient transaction platforms, coupled with the lower costs, have allowed Ant Financial to pay interest 150 basis points higher than traditional banks can.
Metro Bank's founder Vernon Hill, on the other hand, had received the Institute of Economic Affairs (IEA) Free Enterprise Award in April 2013. The organization credited Hill by saying that "He is a remarkable entrepreneur who has identified a clear opportunity and entered the UK banking scene at a time when the sector has been under constant fire." The bank, itself, grew its revenue by 62% in 2016, while its customer accounts have increased by 40% during that same period.
These are a few glaring examples of fintech in action. Traditional financial service providers will need to move much faster and build their digital platforms as well as to find niche products and services to sell on other's platforms if they wish to remain relevant in this changing market.
Recommendations Going Forward
Previous business models are no longer viable over the mid to long-term as these digital disruptors will completely change the face of the financial industry in the immediate future. Digital partnerships will create a favorable environment where these disrupting technologies will scale at an exponential rate, offering more and more diversified services, in the process.
As a consequence, financial service CIOs will have to work extra hard in accelerating this digital transformation in their firms, as a means of remaining relevant. In other words, CIOs need to guide CEOs and other members of the upper management through the so-called Hype Cycle that accompanies rapid technological innovation.
It includes resistance to the disillusionment part of the cycle as well as encouraging the acceleration of their digital business efforts. One suitable process would be to provide examples of digital business platforms already being implemented in the financial sector, as well as other industries, as a means of proving the speed at which things change once the tipping point arrives. An organization may not have time to fully substitute its traditional business model once the effects begin to be felt.
Depending on their size, financial institutions need to take a different approach to the issue.
- Large firms should consider building their digital platforms and create an ecosystem that will be able to drive scale and enable smaller firms to take part.
- Midsized firms are advised to buy or merge with even smaller organizations as a means of gaining scale or divest low-return business to better focus their efforts on other providers' platforms with high-margin niches.
- Small firms should sell their commoditized products and services and strive to become versatile fintechs.
In short, the old financial business and operational models are quickly becoming obsolete in this ever more changing business environment. Only by adopting this new strategy, can they hope to survive the transition and not be part of the 80% as mentioned earlier. For more information on these developments, please feel free to talk to us.