Hearts and minds: the fintech battle for the consumer

The tech revolution is having a lasting impact on a number of industries (Taxis, Hotels and Social Media being prominent examples). It has brought new ways that consumers access products, how these products are delivered and valued. It is in Fintech where technology is changing the underpinnings of the entire financial ecosystem.

Recent research has shown that consumers are happy to try fully digital propositions for banking (Fidor Bank being a good example), with more than half stating that they would switch banks if there was a relevant offer. Whilst switching will most likely be lower (due to lethargy and friction), these are worrying stats for the industry.

 Margins will come under pressure, and the customer relationship, a platform from which banks sell other, higher margin, fee-based products, will be weakened or might even disappear

Breaking it down the banking model, we can see which areas are likely to be affected. With 59% of profits being in origination, sales and distribution. 

As of August 2015, there were more than 12,000 FinTechs rapidly moving into every banking activity and market. Most new entrants are targeting this segment, and in 5 key areas (consumer finance; mortgages; SME lending; retail payments and wealth management), between 10-40% of revenues will be at risk within the next 10 years. This translates into 20-60% of profits being at risk.

Furthermore, by selectively picking off these segments from incumbents, the ability of banks to cross-sell will be affected, and will strand certain loss-leader segments like basic lending. Even where more agile firms do not succeed in stealing customers, they are forcing banks to lower their prices, reducing already thin margins.

As digitisation accelerates, banks will be in a battle for the customer that will define the industry for the next 10 years

The penetration of Fintech is significant, especially in payments, which is a $1Trn market. New legislation (PSD2) will lower the bar even further and allow smaller, more nimble companies to gain scale. These new companies provide a better customer service as well as lower costs.

1. Barriers to entry for fintech
Although there has been progress, there are still many challenges ahead for Fintech.

Compliance and regulation: For now, regulators have accepted the moderate risk profiles of most firms. This might change as scalability increases and/or when there are some high profile failures within the industry.

Privacy and security: As more banking services are digitised, big breaches could send consumers back to the safety of the large incumbent players.

Credit cycle: The long-term economics of the Fintech sector are still untested. We need to go through a credit cycle first before we can see the true underlying strength of Fintech.

Network effects: these allow banks to scale and diversify investments across many different entities that a constant liquidity churn layer is introduced into the system. Can fintech companies achieve quality network effects at a lower cost base (i.e. without significant headcount) and within the limits of current regulations?

Those that do not seek to transform may well become somewhat digitized, but will likely be stuck in the middle – outwardly modern, inwardly struggling, and moving slowly toward extinction

2. How financial institutions need to respond
To compete with the more nimble competition, financial institutions must mirror the traits of fintech firms. They should leverage their large in-house datasets to deliver contextual and more personal consumer proposition. They must lower costs and be flexible enough to respond to changing consumer expectations

Banks that embrace the digital transformation can find success, holding off smaller, more agile players on the one hand, as well as less agile incumbents on the other.

Banks have to re-imagine their relationship with the customer and integrate digital propositions deeply into their platforms’ technical layer. In particular, banks need to:

• Embrace a culture of innovation and changing customer expectations
• Review their brands and reconnect with the customer on a more emotional level
• Renew the customer experience so that its at the heart of what they do and accurately reflects and supports the new brand positioning
• Build digital at scale

For more detail, here's the link to the report:
http://www.mckinseypanorama.com/media/18162/The-fight-for-the-customer-McKinsey-Global-Banking-Annual-Review-2015.pdf