Where Your Commercial Bank Needs to Focus Today

A few weeks prior to this article, Carl shared his thoughts on banking ecosystems and the ‘brain of the bank’ and their importance to the commercial bank on an episode of the Purposeful Banker podcast. This blog post lays out that conversation in a way that’s easy to read and easy to execute upon. 

Related Reading: What's an Ecosystem and Why's Everyone Talking About It?

McKinsey and Microsoft put out their own white papers about the topic of the banking ecosystem. We’ve been preaching this for a while, as well. Why do you think they’re now jumping on the ecosystem bandwagon?

Carl: Right now, we're at a unique point in banking. Eight or 10 years prior to the downturn, many banks were in the boom years. They were finding ways to go and grow and win more deals. They weren’t really investing in technology and a lot of the technology innovations that we have today didn't exist back then. Cloud-based services, software as a service, etc. have fundamentally changed.

Then the downturn happened and banks didn’t invest for almost 10 years, because their hair was on fire. It reminds me of a quote from “The Smartest Guys in the Room,” the book about Enron.

They said, "At the end, it was like our hair was on fire ... every day we came to work, our hair was on fire and all we had to put it out with was a hammer."

Banks went for eight years where rates were low and they were cutting costs. Then they started getting some relief on the horizon, the economy picked up, and the rates rose. But then, you’ve got this 20-year period where they’ve invested in almost nothing.

Right now, you'll see almost every bank that is in it to win it for the long term, is taking that new wave of profits from rising rates and investing in rebuilding the “Brain of the Bank.” They’re rebuilding their overall value chain of how they deliver things. And because of that, we’re seeing lots of talk around the ecosystems and the ecosystems folks are putting together.

You've mentioned the phrase, "Brain of the Bank," and around here, that's what we use a lot more often than banking ecosystem. Are those different names for the same thing? Or is there a difference in the two?

Carl: I think they're different slices and different viewpoints of the same thing or similar things. We actually made the “Brain of the Bank” and started with a larger concept called the commercial bank value chain. We break that value chain into two main pieces - the brain of the bank and the heart of the bank.

The heart is the core system, general ledger, transaction processing, and transaction management piece, which is not the metaphorical heart or metaphysical heart, like the heart and soul. It is the physical heart, it pumps the blood, keeps you alive, and you’ve got to have it. It is largely, in terms of the value chain of the bank, probably one of the most commoditized things that you do, i.e. processing transactions.

What we call the Brain of the Bank is really the mechanism through which you make better decisions and drive better outcomes and conversations with your customer. It’s your CRM system, pricing and profitability, origination workflow, and portfolio management.

I think you're seeing a shift. In the past, the core system and general ledger was the tail that wagged the dog. Everything was bound to this legacy-type technology. Now you're starting to see, through the use of cloud-based services, SAAS-based solutions, and open APIs, folks plug in these pieces of technology with one another and build or rebuild the brain of the bank.

Some banks fall into the mindset of thinking of the ecosystem as a set of tools and technologies and a list of things to do that you have to put together. But in thinking this way, you can end up buying a bunch of tools and technologies and checking off a bunch of to-dos, but you haven't fundamentally transformed the value chain and how you create valuable interactions with your customers to earn a better return.

Speaking of banking transformation, it still feels like a great deal of the talk is about the customer experience and meeting the customer needs in terms of the retail banking customer. Can the same principles be applied to the commercial bank?

Carl: I think it's a similar thing. And I think folks tend to focus on the retail side in a lot of the mainstream media for a couple reasons. One, retail reaches more people. Second, it's easier for folks to understand, because almost everybody has a retail bank account, checking account, savings account, whatever it is.

Commercial is a much narrower scope, but a much higher value scope in terms of the operating income to the bank. A lot of the technology that first came in to banking was marketing automation and other tools that easily transferred over onto the retail side. But all of that, in terms of redesigning the customer's journey through the bank, is every bit as true for commercial as it is for retail. I think it's probably more valuable in the commercial bank, because it's less of a commodity experience by its nature.

There are things in the commercial banking value chain that are fundamentally difficult by their nature. But then there are also some things that banks make difficult because of dysfunction in their processes and legacy systems. We’re seeing banks start to cut out some of those problems.

But for things like underwriting a commercial real-estate loan or underwriting a commercial construction loans, doing those difficult things and doing them well is really the source of sustainable value.

The McKinsey white paper, “Financial Ecosystems: The Next Horizons for U.S. Banks,” argues that  we’re now at a point where more and more people are starting to overhaul their legacy systems and build bank ecosystems. If you’re not thinking along these terms and you're not acting along these terms, you're going to be a laggard, instead of a fast follower. Do you agree? Is the inflection simply a matter of the strong economy and that the banks are flush with cash now?

Carl: I think what you're seeing now is some big banks move – somewhat from prodding from non-bank lenders and somewhat from prodding of consumer retail stuff. Ad when some banks move, particularly capable ones on the commercial side, that’s the threat for other banks. Because of that folks are starting to act. There is an inflection point and that inflection point, I would say, moves from the fear of being first and being wrong to all of a sudden the fear of being last and being right. I think that's what we're seeing right now.

Is the goal to have that ecosystem built as much as possible within your bank so you don't have to go outside to complete your ecosystem?

 Carl: I don't think that's the winning solution. You’ve got to figure out what your core is, find the hard things that you do well that no one else does well, and focus your efforts there. For everything else, ask yourself, "Is this thing something that a third party can innovate faster, and can learn faster because they work with 100 banks?" Then make sure that piece of technology connects to these other systems and stands on the shoulders of giants in that regard.

Related Reading: Get Busy Buyin' or Get Busy Dyin' 

I want to finish up talking about the conceptual value of the ecosystem. Does some of it come from seemingly mundane things, like not having to login multiple times to different accounts and different solutions?

Carl: I think if you can eliminate the friction point, you'll get out of the starting blocks sooner, and it’s a must-have early on. And yes, you create value by removing friction, like adding single sign on. But then you truly have to differentiate and provide more valuable service than that. I don't think you can build a long-term sustainable position through the ‘mundane’ things.

How much of the value then, once you've built out an ecosystem, comes from improvement in efficiency vs. the ability to deliver augmented intelligence? Are banks at the latter point yet?

Carl: I think that's coming. I've been involved in technology for a long, long time now. And I’ve seen quite a few patterns. What I’m seeing now with making use of intelligence and customer behavioral data, using the right kind of data the right way to generate more customized experiences for consumers on both the retail and commercial sides, and augmenting human experiences is happening faster than anything I’ve seen before.

There’s a book by Peter Drucker called “The Effective Manager,” and one of the things they discuss is the difference between effectiveness and efficiency. Efficiency is doing things right - the most efficient way. Effectiveness is doing the right things. You have to balance those two things. What I see a lot with banks and other companies is the focus on efficiency is, "How do I do things right and do things cheaper and more efficient and more cost effective?" At some point, you start trading off effectiveness for that, and it leaves a wide swath of ground open to your competition.

Efficiency can't get you all there. You have a certain amount of fixed cost, and it's a one over X relationship. So, as you start making it more and more efficient, you kind of asymptotically approach the floor. In terms of creating value, a more valuable experience that folks will pay for, there's no ceiling on that. And that's where effectiveness comes in. There needs to be a balance in getting them right. Being efficient leaves room to find ways to be more effective, but efficiency in itself is a race to the bottom.