There has been a great deal of discussion—and consternation—about digital disruptors, and what threat they pose to traditional financial institutions.
Brett King, author and disruptor himself as co-founder of Moven, has famously said, "In the next 10 years, we'll see more disruption and changes to the banking and financial industry than we've seen in the preceding 100 years."
These non-traditional competitors see the world differently. They have a "can do" mentality first—as opposed to "can't do"—which is typically ingrained among many traditional banks because of compliance or risk management concerns and the like.
Do bankers feel impact?
Concerns over less-regulated players isn’t entirely new. The industry has been talking about the potential impact of non-traditional lenders for more than 20 years. In 1994, for example, the American Bankers Association formed its Market Share Task Force to study what threat non-chartered competitors posed. Despite these concerns, with a few exceptions, there has been little significant impact on market share thus far.
In fact, in a recent national survey of 135 financial institution executives and directors, only 17% rated the present day disruptors as "a real competitive threat." (87% of respondents were from banks; 70% were members of executive management. My firm conducted the survey jointly with Chris Nichols at CenterState Bank.)
Primary among the reasons respondents cited: difficulty of achieving scale and avoiding the complexities that come with a bank charter.
This is not to suggest the threat is not real in the future.
In the survey, 42% of bankers do see the disruptors as a real threat in five years. Moreover, 12% of bankers would even consider joining them as “shadow banks” by relinquishing their charter, to relieve their regulatory burdens.
From PayPal and Moven in the payment area, to Quicken, Lending Club, and Prosper in the lending space, the concern is that as the country shifts from physical to digital in banking, those players skilled in digitizing anything will relegate community banking to the same fate as the corner hardware or bookstore.
Several survey respondents observed that banking is becoming a brave new world—but only for those with the fortitude, imagination, and capacity to be visionary change agents who can survive.
Looking at disruptors’ models
To better understand how much risk the disruptors will pose, it helps to study their business models and target markets.
For the most part, the disruptors are currently not pursuing the traditional markets of banks or credit unions. Instead, they typically seek unsecured lending and credit card refinancing to millennials and the underbanked (such as Lending Club and Prosper), as well as non-bankable businesses (OnDeck and Kabbage compete here, among many others).
In fact, these players don't want your 2% auto loans, 4% mortgages, or 5% CRE loans. They focus on more profitable niches. When combined with their P2P and other investor expectations of returns of 5%-9% or higher—as cited by disruptor firms like Lending Club and Prosper—they must avoid the lower returns associated with full service retail banking.
Disruptors use smart data to better serve their niche markets. They can offer mass customization of services, risk management, and pricing given a prospect's specified needs and desires.
Further, they are expanding their capabilities to serve as a financial life coach, offering spending and savings guidance to millennials and others. These capabilities strike a very responsive chord with those placing greater importance on “faster and easier,” over price. Rate-conscious bankable customers will remain better served through traditional institutions.
[Editor’s note: How far several large banks’ own disruption of the disruptors will go—their recent resisting of the data pulls that aggregator sites have long engaged in from banks’ sites—remains to be seen.]
A few disruptors have achieved significant market share. Most notable is Quicken Loans. It is now the third-largest mortgage originator in the U.S., with a 4.9% market share. Additionally it excels in performance, with the highest satisfaction rating by J.D. Power, and fast approval times (18 days vs. 26 days industry average).
More disconcerting for the future of traditional institutions is that 75% of the workforce will consist of millennials by 2025. Millennials are a prime target of the disruptors, and a group who highly values faster and easier.
The good news is that many banks appear to be positioning themselves along these lines, with 46% of institutions surveyed indicating they are making changes to provide faster and easier service.
Moreover, the traditional players appear willing to adapt to the new expectations and business requirements that the disruptors are likely to instill.
In the survey, 69% of bankers said they will need new strategies, lines of business, and methods to compete effectively. Another 26% said that a significant transformation of their business model will be required. A key to success for the traditional institutions, ultimately, will be to match the frictionless convenience of the disruptors, while also leveraging their cost of funds advantage.
Otherwise, banks and others risk becoming quasi-utilities, offering safekeeping protected by deposit insurance; commodity low-rate/low-return lending; and little else of added value.
Bankers’ view of the endgame
So, will the digital disruptors eventually dominate and take over banking?
Only one in 20 bankers surveyed felt so.
When one considers the disruptors' own target markets, business models, and strategic intent of staying "under the radar" of the complexities associated with financial institution charters, the evidence strongly suggests more of a continued niche role, but with increasing penetration, market share, and new business requirements and customer expectations for all.
The largest traditional institutions are also not likely to surrender their market dominance without a fight. This is evidenced by their innovation labs and partnerships with and acquisitions of some of the disruptors. One survey respondent suggested that an increase in such relationships will help counter the low margin environment of the traditionalists.
In the end, disruptors may help traditional institutions become better competitors and more responsive to the new needs of younger generations as they become the dominant demographic in the workforce. The disruptors will also continue to penetrate the critically underserved underbanked niche.
But they won't—nor do they want to—take over banking and replace the traditionalists.
About the author
Joseph H. Cady, a certified management consultant (CMC), is managing partner of CS Consulting Group LLC, a San Diego-based strategy consultancy specializing in financial institutions. Email at [email protected]
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