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Digital Transformation in Financial Services – Strategic Options

Cutty Sark, the UK’s legendary sailing ship built in 1869 transported tea and cocoa beans across the world. Lots of incremental improvements made the clipper one of the fastest sailing ships in its time.

Unfortunately, the owners did not see the disruption coming when steam technology took over and soon steam ships came to dominate the global trade routes. As a result Cutty Sark became a training ship and today you can admire her, beautifully restored at a dry dock at Greenwich, east London overlooking the skyline of London’s financial center. Will banks, asset managers and insurance companies face a similar fate, will it just be a question of time until some of them turn into museums as one author of The FINTECH Book (published by WILEY) predicted?

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Disruption is part of our lives

What happened to the American company Kodak and its film business when they failed to respond to the trends towards digital photography? What happened to the European telecommunications giant Nokia who owned 49.4% of the global mobile phone market in 2007 and ignored the launch of Apple’s iPhone that same year?

Disruption has started in financial services – summarized by the term FINTECH. JP Morgan CEO Jamie Dimon warned of the growing competition by FinTech startups when he said in a letter to shareholders in 2015 “Silicon Valley is coming. There are hundreds of start-ups with a lot of brains and money working on various alternatives to traditional banking”. The challenge - all of us who work in Financial Services face - is that digital transformation and corporate innovation is really hard. It is very difficult for financial services companies to come up with commercially successful innovation and to build an organization which can remain innovative on an ongoing basis.

Already in 1942, the Austrian economist Joseph Schumpeter researched unexpected, rapid spurts of entrepreneur-driven growth and introduced the term “creative disruption”. The importance of this concept has grown steadily with an increased speed of change.

Profitable big incumbents normally have a blind spot towards disruption especially when it comes from smaller, more innovative players outside their traditional set of competitors.

These fintech firms lack the incumbent’s fear of disrupting existing profit streams and do not have the burden of old legacy systems, or the high cost structure of existing banks, investment managers or large insurance companies.

In large financial services organizations, the “innovation muscles” are often weakened by growing bureaucratization, loss of tolerance for risk, commitment to existing financial products and services and fears about cannibalizing them, adherence to current business models, reliance on financial metrics to measure

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innovation and a lack of innovation culture and leadership. Therefore it is estimated that 70 percent of organizational change efforts fail (source: “Cracking the Code of Change”, Harvard Business Review, May-June 2000 by Nitin Noria and Michael Beer).

The FINTECH Circle Institute works with financial leaders on Digital Transformation challenges both in the UK and globally via our FinTech MasterClasses. Below I share a summary of the most important concepts on how digital transformation can become a success including the important role the top leadership team has to play.

Scale alone is not an impediment to innovation capability. In 2007, when Apple launched the iPhone, it was already 30 years old and it was number 123 on the Fortune 500 list. So what are the lessons large banks, asset managers and insurance companies can learn – how can they digitally transform their organizations?

Digital Innovation Strategy

It all starts with the leadership commitment to innovation and to embrace change as a matter of survival long-term. All financial services companies need to develop an innovation strategy to set the priorities between different types of innovation options and to manage the trade-off between short and long-term innovation opportunities. It is also required to set the “tone from the top” and to align different parts of a complex organization towards common objectives.

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A good digital innovation strategy should provide direction so employees know in which direction the organization wants to go and why. At the end of the day innovation strategy is about action and should be specific enough to help execute in terms of how to allocate a company’s budget and where to focus on.

A good innovation strategy focuses on both technological innovation and business model innovation, as not just the technology or legacy infrastructures can become obsolete, but also business models can become outdated. So, corporate innovation can be defined as a process that established businesses go through to introduce and implement new opportunities into their existing working practices. Larger organizations will often have a dedicated team to identify what the current trends and opportunities (both from a technology and business model point of view) are.

Innovation Capabilities

For any financial institution to remain competitive two organizational capabilities are key: first, the ability to identify valuable new ideas to solve problems and second, to know how to select between all possible choices to focus on those opportunities best for your enterprise. In order to innovate well, a diverse talent pool is important who brings a variety of functional, technical and industry know-how together as many breakthrough innovations require diverse knowledge domains. Innovation requires rapid experimentation, iteration and learning by building and testing solutions in prototypes and getting customers feedback very early on.

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Corporate innovation models: Open & Closed Innovation

• Closed innovation models are those where the corporation seeks to do innovation in-house to build its own digital skill base. Innovation models consist of research, internal intrapreneurship programs and internal accelerator models.

• Open innovation models are those where corporations work with third-

party organizations including fintech startups to improve their business products and services, reduce costs or increase regulatory compliance led by an open innovation team. Open innovation models can also include innovation outposts, corporate venture capital and external acceleration programs.

• There is no right or wrong corporate innovation model. It depends on the organization, their objectives and budgets – however in practise we have seen that a combination of open and closed innovation models work best. No innovation model can be a ‘one size fit’s all’, instead they should be viewed as a guide to lead towards digital transformation. We will now look at these models in more depth.

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Research & Development

Most corporations will have some form of a research and development department/team to research market trends, new technologies and their use cases for finance and investigate ways to keep that company innovating. Across finance, we are dealing with lots of new technologies from cloud computing, to big data analytics, artificial intelligence/machine learning, blockchain & distributed ledger technologies, the internet of things etc.

Most technologies are complex and unfamiliar territory for employees in financial services companies (we will talk about the role of education and upskilling financial services employees later). The role of the R&D function among other things is to assess these emerging technologies and new business models (such as crowd-funding, peer-to-peer lending, multi-sided platform business models etc) and recommend which ones will impact the organization and should be explored further.

Education

Most employees in finance need to learn more about technology innovation (to understand what is already available on the market and how it could benefit their own organization), agile working practices such as design thinking methods and learn about new business & revenue models to decide on their product and pricing strategy overall. “FinTech” is the generic term for all types of financial

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technology and new business models applied to finance, consisting of several sub-sectors including:• WealthTECH – the application of fintech solutions to the global investment

management, wealth management and private banking sectors• InsurTECH – the application of fintech solutions to the global insurance and

re-insurance market• RegTECH – the application of fintech solutions to support regulated entities

with the compliance requirements from KYC/AML onboarding• PayTECH – the application of fintech solutions to payments of all types

(individual, company) and in all currencies (FX, remittance payments)• LegalTECH – the application of fintech solutions to all legal work across

financial services

Internal Intrapreneurship Program

Some financial institutions run internal competitions to identify the most innovative employees encouraging them to propose new products & solutions. The best “intrapeneurs” will then receive time off (up to 6 months) to fully work on their new business propositions still being fully employed by the company and supported by an external Acceleration Partner to provide constant coaching, scale up expertise, industry contacts and feedback to maximise the chances of success and connecting the internal startup with the external fintech ecosystem of FINTECH Circle.

FINTECH Circle is the Acceleration Partner for Societe Generale, one of the leading banks globally, to help internal startups to move from an initial idea on a slide deck to a minimum viable product and prototype over a 6 month acceleration process which includes weekly coaching and mentoring sessions for the bank’s internal intrapreneurs so that they can learn and adopt the latest agile working methods including design thinking and be connected to the external fintech ecosystem.

“Société Générale‘s Transform to Grow strategy requires us to work with the best industry partners to help accelerate digital transformation internally. We chose FINTECH Circle because of their unique expertise in helping us launch new products and services in our capital market and wealth management businesses. Having FINTECH Circle as our partner allows our employees to plug into their global fintech ecosystem with Fintech MasterClasses (which we successfully rolled out to our top management), bestselling books and fintech investment events to ensure that our teams are fully informed about the latest fintech trends and developments impacting our industry.”

ANTHONY WOOLLEY, HEAD OF INNOVATION, SOCIÉTÉ GÉNÉRALE

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Innovation team

Innovation Teams are normally focused on developing relationships with outside innovation partners and introducing those outside partners to the relevant internal divisions which might benefit. The responsibilities of an innovation team are to investigate what academia, external fintech startups, external innovation partners etc. can offer, and how they could benefit the corporation. Innovation teams often scout fintech companies, listen to their pitches, get to know their management teams and business models and where appropriate, organize paid pilot projects to investigate closer collaboration.

An innovation outpost

An innovation outpost can be the next step for the innovation team to make. By establishing an outpost, or a base in a different geographical area, they can seek-out other clients, partners and startups. Successful innovation outposts are often located in cities or regions that offer the greatest opportunities for identifying advancements in the industry.

Investment and acquisition

By using Corporate Venture Capital (CVC), financial services companies use their own venture funds to invest minority stakes into fintech companies, which can often result in a long-term and ongoing investment opening up important distribution channels for the fintech firms. In 2018, a third of all global fintech

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investments included a CVC. CVCs often want to place strategic bets and co-invest with other institutional investors such venture capital firms.

Fintech Accelerators

Accelerators can be internal or external:• Internal Accelerator Programs – Startups are offered the opportunity

to physically be part of or embed the corporation’s offices for a certain period of time. This can be a useful option because it provides financial support and physical proximity to the customer to engage. The corporation benefits by working closely with startups which are purely selected to meet its own corporate objectives.

• External Accelerator Programs – These programs are normally co-sponsored by several financial services companies and headed by an external third party. With external accelerators, the corporation can place one of its professionals into an accelerator’s third-party office where they can build necessary relationships with startups and knowledge about the fintech ecosystem. This can be a huge benefit to the corporation, because they don’t have to carry the whole cost, and they have easier access to the vast startup community. However, these programs are not customized for their specific needs as the companies are selected by all sponsors.

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Assuming that a bank, asset manager or insurance company has selected a fintech company to work with, often initial methods for assessing the right fit include:

• Pilot projects – Often a small rollout to test a product and its effectiveness

• Proofs of concepts (POC’s) – The process to demonstrate how a fintech solution will benefit a bigger corporation. The overall aim is for the fintech company to show how they can help to improve or solve issues using the client’s real data and connecting to its existing IT infrastructure if required.

Role of the Board & Leadership Team

Digital Transformation is so complex that it requires great leadership from the top of the organization. Innovation is a human activity – people make all important decisions about innovation which is often driven by the culture of the organization.

“FINTECH Circle shared corporate innovation models, specific FinTech solutions and strategic collaboration options during a highly effective FINTECH immersion for our top management. We found the focus on cutting edge FinTech innovation very insightful.”

MATTHIAS MUELLER, HEAD OF INNOVATION, THE SIX GROUP

Culture determines the way people think and how they behave, which problems are selected as top priorities, which products and solutions are being rolled out at scale and which customer segments to target.

Leaders have a strong impact on the culture of any financial institution. As Board Members we should encourage:1. Clear communication of the Digital Innovation Strategy and

reinforcing the message with the leaders’ own behaviour as role models

2. Strengthening the Innovation Capabilities investing into both open and closed innovation models (as previously described)

3. Willingness to Experiment & tolerance for failure – innovative companies experience a lot. Finance companies need experiments to learn what customers respond best to. It requires risk taking in an organization and failure of experiments should not be punished but seen as part of the innovation cycle of testing more unknown and uncertain areas and assumptions about

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new products, solutions, features or new business models overall.

4. Collaboration – a good innovation culture is open to new ideas getting input from stakeholders inside the whole organization (junior employees or customer facing employees can often have excellent ideas and they must be heard) and also from outside the organization – customers, suppliers, partners and competitors. We also speak of “co-option” – a term referred to the activity of collaborating with an organization which might compete in other areas.

This is a difficult task and requires open and clear communication where organizations collaborate and where they individually focus on to gain a competitive advantage. Examples are global blockchain consortia which many banks participate in for joint learning, exploration and collaboration of industry wide use cases, while at the same time keeping their own in-house Blockchain research efforts confidential.

Becoming an innovation leader

As we discussed above, for innovation to be successful, leadership inside the organisation is required. These are the traits that we spot in successful innovators:

• Continual development – leading banks are the vanguard of hiring people who have a variety of skills and capabilities. This new talent falls outside the traditional remit of recruitment types by requiring more digital skills. Innovative staff form partnerships and work collaboratively with other organisations to pool new skills and continually enhance capabilities.

• Customer focused – It is important to remember that innovation should be

centred around the customer. There is no point capitalising on new technology if it does not benefit the customer base. To be fully customer focused, there needs to be a greater shift to look at the customer’s expectations, needs and desires.

• Innovation is a top priority – To be fully innovative, and welcome change;

financial services need to deliver holistic strategies. This means that the innovation strategy is supported by the whole organization and not just the leadership team which of course needs to be the one that champions innovation in ordver to drive new programs forward in an urgent fashion.

Over the last 10 years since the global financial crisis two goals dominated many corporate strategies across financial services – regulation/compliance and cost-cutting/operational efficiency. So during these last years leading financial

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services companies were focused on regulation, internal cost-cutting initiatives, and most IT investments were spent on incrementally improving legacy technology.

During this time the fintech sector developed strongly and tech giants globally moved into finance – from payments, to savings to insurance. This megatrend will continue and tech companies often initially focuse on niche segments of small companies (SMEs), freelancers and the underbanked/un-banked customer segments. Long-term, tech giants are moving into the mainstream finance market offering full service solutions using both mobile and voice technologies as the new interface resulting in new ways how people engage with their finances going forward.

Financial technology and new business models will completely change the way we bank, invest, save money and insure ourselves and our businesses. Financial services firms should not end up as museums as the beautiful UK sailing ship Cutty Shark did but reposition themselves as fintech empowered organizations providing superior customer services and integrating financial services into the lives of both individual and corporate customers in a seamless way.

Digital Transformation is not easy, but it can be done well!

Susanne CHISHTI, CEO and Founder of FINTECH Circle & FINTECH Circle Institute providing education and courses in digital transformation leadership and fintech innovation.

Further Reading:

• The FINTECH Book: The Financial Technology Handbook for Investors, Entrepreneurs and Visionaries by Susanne Chishti, Janos Barberis, 2016

• The INSURTECH Book: The Insurance Technology Handbook for Investors, Entrepreneurs and FinTech Visionaries by Sabine L.B VanderLinden, Shân M. Millie, Nicole Anderson, Susanne Chishti, 2018

• The WEALTHTECH Book: The FinTech Handbook for Investors, Entrepreneurs and Finance Visionaries by Susanne Chishti, Thomas Puschmann, 2018

• Creative Construction – The DNA of Sustained Innovation by Gary P. Pisano, 2019

• The Digital Transformation Playbook – ReThink your Business for the digital age by David L. Rogers, 2016

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