Digital Innovation by Banks (Part 1)
In their article “Strategic choices for banks in the digital age”, Henk Broeders and Somesh Khanna of management consulting firm McKinsey & Company, enumerate compelling actions that banks will have to undertake if they are to survive. Granted the authors refer to banks in developed economies when they site predictions on digital laggards and winners. However, the trend towards increased digitization is clear.
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A few highlights from the article:
Consumers around the world are quickly adopting digital banking. Incumbents only have a short period to adjust to this new reality or risk becoming obsolete.
If the last epoch in retail banking was defined by a boom-to-bust expansion of consumer credit, the current one will be defined by digital. This will include rapid innovation in payments and the broader transformation in systems enabled by digital technologies. The urgency of acting is acute. Banks have three to five years at most to become digitally proficient. If they fail to take action, they risk entering a spiral of decline similar to laggards in other industries.
Revenues and profits will migrate at scale toward banks that successfully use digital technologies to automate processes, create new products, improve regulatory compliance, transform the experiences of their customers, and disrupt key components of the value chain. Institutions that resist digital innovation will be punished by customers, financial markets, and—sometimes—regulators. Indeed, our analysis suggests that digital laggards could see up to 35 percent of net profit eroded, while winners may realize a profit upside of 40 percent or more (exhibit).
Where banks stand
Globally, more innovative incumbent banks and financial institutions are moving rapidly to embrace digital. Most have invested heavily in transaction migration. They have also significantly upgraded web and mobile technologies and created innovation and testing centers. In addition, banks increasingly realize that to succeed with digital, they must adopt the habits and culture of digitally native companies: for example, opening up the banks’ application programming interfaces, pursuing agile development, or hosting hackathons to foster intensive digital collaboration.
We expect no letup in the pace of change. Within the next five years, digital sales have the potential to account for 40 percent or more of new inflow revenue in the most progressive geographies and customer segments. By 2018, banks in Scandinavia, the United Kingdom, and Western Europe are forecast to have half or more of new inflow revenue in most products coming from digital sales. Those in the United States are expected to trail them but are still forecast to see significant new inflow revenue come from digital. Among bank products, savings and term deposits, as well as bank services to small and midsize enterprises, are expected to see more than half of new inflow revenue coming from digital by 2018
Although these forecasts may take longer to materialize than expected, we believe the digital transformation is at an inflection point. Banks have just a few years to adapt. Appreciating the magnitude of the opportunity—and the gravity of the threat—is vital, but it is just the first step in formulating a winning digital strategy. Digital will touch every aspect of bank operations, from product development to risk management and human-capital management. Successful strategies need to be based on a clear understanding of how digital creates value, granular perspectives on consumer behavior and market dynamics, and careful prioritization by top management among hundreds of potential digital investments.
Capturing the value of digital
There are four fundamental ways in which digital capabilities can be used by banks to create value.
First, digital technologies increase a bank’s connectivity—not just with customers but also with employees and suppliers. This extends from online interactivity and payment solutions to mobile functionality and opportunities to boost bank brands in social media.
Second, digital draws on big data and advanced analytics to extend and refine decision making. Such analytics are being deployed by the most innovative banks in many areas, including sales, product design, pricing and underwriting, and the design of truly amazing customer experiences.
A third way that digital creates value is by enabling straight-through processing—that is, automating and digitizing a number of repetitive, low-value, and low-risk processes. Process apps, for example, boost productivity and facilitate regulatory compliance, while imaging and straight-through processing lead to paperless, more efficient work flows.
Finally, digitization is a means of fostering innovation across products and business models. Examples of this include social marketing and crowdsourced support, as well as “digitally centered” business models.
(to be continued)