The benefits and use cases for blockchain technology in banking

15 November 2016 Consultancy.uk

Blockchain, while still relatively new to the financial space, is seeing interest from around 90% of banking sector executives, according to a new study on the potential of the technology in the industry. 40% of banks find themselves still at the exploration phase, while around 30% are pursuing proof of concepts. Intra-bank cross-border transactions are regarded as the most likely payment system to see blockchain implementation, followed by cross-border remittance and corporate payments.

Developments in the FinTech space – an industry which received $19 billion in venture capital last year – are touted to radically transform the face of financial services, from payment systems and clearing to financial settlements. One of the technologies which has received considerable hype in recent years is blockchain, a distributed ledger technology (DLT) that serves as the backbone of cryptocurrencies such as bitcoin. The technology remains in its formative stages; however, consultancy firms, such as Accenture, proclaim that the technology will come to revolutionise aspects of the financial services industry. 

In a new study from Accenture, titled ‘How Banks are Building a Real-Time Global Payment Network’, the consulting firm asked commercial banking professionals across the US, Canada and Europe, about the impact they believe blockchain will have on their operating models and operations.

The state of blockchain adoption in banking

Of the respondents, nine out of ten said that their institution is currently exploring the use of blockchain/distributed ledger technology in payments – largely because of the myriad compelling benefits blockchain offers. 40% of respondents note however, that, while interest is apparent within their organisation, they are currently in a strategy forming or looking into the technology phase. “In other words, despite their enthusiasm for and interest in blockchain, many banks are still considering where to use it”, write the authors. 

30% of the organisations say that they are involved in proof of concepts (POCs) with other companies. Around 30% are more active, with 13% engaged in production implementation and 17% say that they are at the forefront of the developments in the field.

Leading use cases for blockchain

Leading use cases

According to the research, a number of different payment systems will potentially benefit from the technology. Intra-bank cross-border payments ranks the highest, with 44% of the participants defining it rank 1, with no respondent ranking the category below rank 4. Cross-border remittances was cited as the second highest rank 1 category, at 21% of respondents, while 32% of respondents cited it with rank 2. Corporate payments came in third in terms of rank 1, at 20% of respondents, however, it came in first in terms of rank 2, at 45% of respondents.

Inter-bank cross-border payment systems was ranked fourth, with 14% of respondents giving it rank 1, while 24% gave it rank 2 and 33% rank 3. Few respondents placed high ranking to person-to-person payment, at 8% rank 1 and 23% rank 2.

According to a recent study by BCG, the global payments industry will grow strongly in the coming decade, hitting $2 trillion by 2025, up from $1.1 trillion today, highlighting the potential blockchain can have on the market and institutions.  

Anticipated benefits

In terms of major anticipated benefits of the technology, there is a clear consensus: blockchain has the potential to be a game changer. “Wherever banks hope to deploy blockchain, executives expect a wide range of benefits, including lower costs, quicker settlement, fewer errors and exceptions, and new revenue opportunities”, state the researchers. Lower financial costs was ranked a number 1 benefit by 37% of respondents, followed by 17% that gave it rank 2. 

Major anticipated blockchain benefits

Lower administrative costs were cited by 35% rank 1, while 15% gave it rank 2. Shorter settlement time comes third, with 34% of respondents placing it rank 1. Reduced errors/exceptions came in fourth, at 33% of respondents, while new revenue opportunities took fifth spot with 31% of respondents ranking it 1. Lower capital costs came in last, ranked 1 by 29% of respondents. 

“If fully adopted, blockchain will enable banks to process payments more quickly and more accurately while reducing transaction processing costs and the requirement for exceptions.”

Implementation

However, as with all major changes that are fed into a complex landscape such as financial services, the adoption of blockchain comes with several challenges. Executives may face a large degree of internal resistance – Accenture’s study finds that half of the banks struggle with generating internal momentum for blockchain integration and implementation. According to executives surveyed, kick-starting blockchain initiatives will require addressing key regulatory and compliance issues, the two biggest factors they believe contribute to internal resistance to blockchain. Security is another reason banks could be hesitant to embrace blockchain.

Resistance to blockchain

While resistance is a critical success factor in blockchain adoption, the biggest one is the network. “A lot hinges on the extent to which a formal network emerges to facilitate global accessing and clearing of payments”, state the authors. Accenture highlights that the network should have two defining characteristics: It should include the necessary defined rights, obligations, controls and standards; and it should offer a quick and efficient onboarding process that enables banks to essentially “plug and play” into the network for both existing and future corridors. In addition, standards are seen as especially critical, with the addition that both the network and standards should not be an exclusive club.

Accenture concludes: “Blockchain technology itself works – there’s no debate about that. Now it’s time for banks to look at the bigger picture and work together, and with non-banks, to help define the backbone that can underpin a universally accepted, ubiquitous global payment system that can transform how banks execute transactions.”

Related: Digital payment systems rise slowly as awareness grows.

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The business and operating models of digital-only banks

04 April 2019 Consultancy.uk

In recent years, several digital-only banks have successfully managed to nestle themselves in the banking landscape, with their popularity continuing to increase. Looking at it from the customer’s point-of-view, there is little difference between these FinTech unicorns; looking at the bigger picture, however, reveals significant variation in their business models. Matyas Fekete, a consultant at KAE, explores some of the main similarities and differences in digi-bank business and operating models. 

What about the profit?

Unlike in the UK, in most of continental Europe, bank accounts and corresponding banking services are historically paid-for services. The fact that digital banks offer most of their services free of charge has undoubtedly helped them build a large customer base. On the other hand, despite comparatively low set-up and minimised operational costs compared to that of traditional banks, and given the lack of revenue stemming from the typically no-fee model, profitability has proved difficult to achieve. Monzo, for instance, recorded a net loss of £30+ per customer in its most recent financial year. 

In the start-up world, it is customary to focus on expansion rather than profit – see the case of Uber, for instance. Still, while profitability might not be their number one priority in their early stages of development, it must be a long-term goal of any business. With their ever-growing customer base, digital banks are increasingly under pressure to turn their business from loss- to profit-making. 

Credit where credit is due

Digital banks pride themselves on their fair (often meaning “free”) proposition and have so far stayed clear of offering loans (including credit cards & overdrafts), traditionally amongst the most lucrative products for traditional providers. Though somewhat reluctantly, newcomers are also realising that offering lending products is one of the most straightforward ways to offset losses made on their free, often high-cost services (e.g. overseas ATM withdrawals). Monzo, N26 and Starling have recently started offering credit products to their customers, with their loan offering expected to be extended to a wide range of services, from mortgages to overdrafts. Correspondingly, creating a lending portfolio can also pave the way for launching an interest-paying savings offering – a proposition seen as a basic banking product that is yet to feature in most digital banks’ portfolios. 

The business and operating models of digital-only banks

The premium customer

While most digital banks offer most of their products for free, some have extended their offering by paid-for premium services in order to create a revenue stream. As these premium features – including different types of insurance, unlimited free transfers/withdrawals, faster payment settlement or concierge services – are often offered in a subscription format, customers are typically prompted to pay for the full package rather than just the desired service(s), providing a significant revenue stream for the bank. Revolut, for instance, was amongst the first digital banks in Europe to break even earlier this year, a feat largely due to revenue from its premium subscription.

SMEs like digital too

Traditional banks typically service small and medium sized businesses under their retail rather than corporate banking arm. Having their product offering tested with consumers, and consequently gaining a reasonable customer base, digital banks have also identified SMEs as an ideal segment to extend their target audience to. The five FinTechs profiled have already gone, or plan to go, down this path by following up their consumer solution with a business account. While both propositions are typically built on similar features, some providers charge businesses a monthly subscription (e.g. Revolut), while others apply additional fees to specific services (e.g. TransferWise), banking on the expectation that businesses are more likely to be willing to pay for banking – something they are already used to doing. 

The marketplace model

While most digital banks offer a wide range of banking services, some of these tend to come from partnering with third-party providers. For instance, Starling Bank’s only proprietary product is its current account, which serves as a basis for the provision of ancillary services, ranging from loans to insurance, to investment opportunities. Instead of developing these services in-house, Starling enables a select group of partnering financial service providers access to its platform in exchange for a fee. In effect, Starling is using its customer base to create a market for its partners, charging a commission for each acquired customer. 

In such cases of digital banks applying this marketplace model, the majority of their income often comes from partners rather than customers. Naturally, only banks with a large enough customer base can be successful in this set-up, underlining the current intensity of competition amongst digital banks.

Banking as a Service

While customer-centricity is heralded amongst the main USPs of digital banks, some are looking beyond offering consumer-facing services to diversify their revenue streams. Starling, which is among the few digital banks built on its own proprietary platform, has recently leapt into the Banking as a Service (BaaS) industry, making its technology available to other start-ups looking to launch a digital bank. Naturally, this raises the question whether the two offerings could threaten each other’s success. Generally, as long as such partners operate in different markets, the two business lines should be able to thrive alongside each other. Further along the line, however, such partners could easily end up expanding their banking solution into the same market(s) as they aim for global success, and by doing so, becoming direct competitors. 

Different approach, same result?

It is fair to say that consumers in Europe looking to bank with a digital-only provider would have a difficult time finding relative advantages/disadvantages amongst the leading players in the industry. Still, despite the limited surface-level variety, exploring the business models of leading digital banks reveals different approaches to the challenge of making money. Alongside the more straightforward method of offering paid-for premium features/subscriptions, some are banking on the value that access to their customer base offers to third-parties, while others outsource their technology to neobanks wanting to focus on the Fin rather than the Tech. With competition amongst digital banks heating up, it will be interesting to see which business model(s) prove to be the winning formula in the long term.