Over the past several months I’ve been spending a lot of time looking at the industry in which I work (Financial Services) and wondering what it is that keeps this industry from leading in innovation. Like many other industries, the leaders in banking regularly talk about innovation, and some even claim to be leaders in innovation. But as I look across the industry I see very little real change. Even the best innovators in Financial Services are making primarily incremental changes, with very few disruptive ideas coming from the incumbents.
The Innovator’s Dilemma
It reminds me of Clayton Christensen’s Innovator’s Dilemma, where we are now seeing small non-bank competitors entering the Financial Services market. These competitors offer “good enough” solutions that provide significant new value to traditional customers. But if the incumbent Financial Services companies aren’t innovation leaders, where can they look for inspiration? BCG publishes an annual list of the most Innovative companies, so I figured that would be a good place to start.
The BCG study also serves as a proof point to my position that banks are simply not innovative. If you look at the list, you will notice that there isn’t one financial sector company in the Top 50 this year. In fact, there hasn’t been a bank in the list since 2012 when HSBC found themselves in 28th place. Even if you go back to before the financial crisis of 2008, there have only been a handful of banks who have made the list. And none of them have sustained their ranking.
Where Are The Innovators?
So where are the innovators? In 2014, 7 of the top 10 Innovators came from the tech and telecom sectors, two from the automotive sector, and one from the consumer and retail segment (and that one is Amazon who I would contend is a tech company).
Perhaps this shouldn’t be a real surprise as innovation is typically measured by the number of patents filed in a year, and tech and telecom companies are significant contributors to the patent pool. That measurement also excludes a view into the more innovative small companies that are entering the Financial Services space, but who are playing at a much smaller scale (specifically those competitors that Christensen’s Innovator’s Dilemma indicates that we should be looking at to avoid disruption).
So where is the innovation in Financial Services and what is the risk of not knowing?
HBR calls out the risks highlighting how Apple became the dominant player in the music industry in just five years, Google wiped out the vast majority of GPS companies market cap with the release of their mobile maps app, and Alibaba grew to a $16 billion lender in less than three years. Industries can change quickly, and from my perspective inside the industry, the Financial Services industry is ripe for massive change.
Payments have been a critical profit area for banks over the past 15-20 years. With the high interest rates collected on credit cards, the interchange fees collected from merchants, and the annual fees collected on many premium and rewards cards, banks have profited. But while banks have enjoyed the widespread acceptance of the major credit card networks, some smaller companies are starting to challenge the revenue model and customer value proposition that is the foundation of the business.
PayPal was one of the first to start to disrupt the industry. They offer a simple online payment mechanism that is easy to integrate for small merchants and easy to sign up for consumers. PayPal is now the number one online payments company in several countries and has a vast footprint in even the most profitable areas of the world. While PayPal relies on a similar business model of fee for purchase, their easily integrated interface makes them more approachable than traditional banks and credit card companies.
New competitors are now attacking the physical payments world as well. Companies like Square offer a significant improvement on the customer value proposition. Rather than simply moving payments from cash to card or card to phone, Square has eliminated the need to reach for a payment tool at all. Instead, they rely on previously approved spending patterns and geo-location to enable simple and quick transactions.
Many retailers are also now offering their own payment tools allowing customers to link their spending to proprietary apps. These apps leverage existing payments networks but disintermediate the card companies and banks from the customer in the transaction. Payments and patterns are now available to the retailer, and they can offer direct rewards to their customers based on their actual spending patterns.
Deposits and Day-To-Day Banking
Deposit accounts are seen as a protected space for banks profits given the current regulatory environment. But even these areas are not safe from disruption as non-banks take a non-traditional look at how their customers use these types of products.
Recently Walmart teamed up with American Express to launch BlueBird. BlueBird is a prepaid credit card which works over the existing payment rails but targeted at Walmart’s lower-income market. Rather than offering a full deposit product bank account, Walmart is instead offering a pre-paid card which behaves like as a deposit account. BlueBird is perfect for customers who operate week-to-week on their balances. Customers can have their pay direct-deposited to their new card just like a bank account, but the “bank” becomes Walmart. BlueBird then drives more of their spending through the doors of the giant retailer through rewards.
Leading in Innovation
Banks have lived in a regulated world for years which has provided significant barriers to entry around their businesses protecting them from new competition. It is incredibly expensive to start a bank, and the regulatory controls maintain substantial overhead on the business. In exchange for those high barriers to entry, banks have enjoyed some of the most protected profit positions of any industry anywhere.
The banks that survive the oncoming innovation onslaught will be the ones that recognize the shift in the landscape. They will need to behave more like the companies that top the BCG Innovation index. Banks need to cordon off investment in innovation through R&D. They need to focus on value creation for their customers in the same way that tech companies focus on customer experiences. Finally, they need to create new technologies and experiences and protect them through patents, rather than relying on the regulatory protections of the past.
The Financial Services industry is overdue for disruption, and the signs of the start of that disruption are all around us today. I challenge all of my peers in the Financial Services industry to look around and consider how to shift to compete in an entirely new way. It will mean making hard decisions to rebuild technology foundations built for agility and reducing short-term profit targets. It will mean tearing down boundaries between business lines, technology, and operations teams aligned to the same priorities. Finally, it will mean rethinking our relationship with our customers, not just incremental improvements. We need to re-examine our value proposition completely.
The old days of operating in a protected environment are nearly gone. Those that survive will be those that recognize the signs and take real action TODAY rather than waiting until it is too late to change course. Those that don’t will be reminiscent of Kodak, hiding their heads in the sand and ignoring the changes around them until it is too late.
Tim Empringham, MBA
Tim Empringham is a passionate advocate for Innovation in organizations of all sizes as a mechanism to drive growth, create uncontested market space, create new customer value, and drive efficiency into the internal organization. His focus is on disruption of thinking and markets through integrative thinking, structured Innovation frameworks, and leadership development of Innovation and Change leaders within the organization.