WHY DO BANKS HAVE DIFFICULTY IN INNOVATING?

Several reasons exist why established companies may lose the battle for leadership in newly emerging markets. Among them are underinvestment in core competencies, imprisoned resources, bounded innovation, the tension between performers and producers, and the mismatch between current core competencies of banks with customer needs.²¹

4.3.1 Underinvestment in core competencies

In an organization like a bank, which consists of multiple strategic business units (SBUs), no single unit may be able to justify the investment required to build leadership in some new core competence.

The managers of these SBUs will underinvest because none of them feels responsible for establishing a viable position in core products beyond the established strategy.²² This is currently the situation, as none of the established online lending platforms or other financial innovation startups have emerged from the existing financial sector. Perhaps banks are overconfident—that they possess the underlying core competencies to address the financial needs of their customers—that they neglect product innovation. They also have the backup of governments and central banks who will bail them out when things go south. Believing they can always buy innovation when they need it, banks underinvest in the competencies that allow them to compete in the future. Instead of recognizing the need for long-term investment in new competencies, many banks focus only on that part of the FinTech sector with the most obvious payoffs. They try to cherry-pick the winners in the race for leadership in financial technology innovation, without learning how innovation works from the ground up. In a sense, this behavior has a tradition at banks: they have long relied on third parties to supply them with software solutions and other services. However, never before have suppliers been able to compete directly with banks.

Today, they could decide to offer a service on their own directly to the market, which may net them billions of dollars in profit. None of the current trends in technology and innovation bode well for the banks when it comes to their market position in financial services in five to ten years from now. But even if they started innovating from within, they will still have to overcome other hurdles, such as their imprisoned resources.

4.3.2 Imprisoned resources

As SBUs evolve, they develop unique competencies. Typically, managers often see those people in an organization as the sole property of the business unit in which they earned their keep. Managers of other SBUs might want to “borrow” talented people from time to time to address challenges they are facing. However, SBU managers are often unwilling to lend their competence carriers, and they may actually hide talent to prevent the pursuit of new opportunities outside a particular SBU. We can compare this to residents of an underdeveloped country hiding most of their cash under their mattresses. The benefits of competencies, like the benefits of cash on hand, depend on the velocity of their circulation as well as on the size of the stock a company holds. When competencies become imprisoned, the people who carry these competencies never get assigned to the most exciting opportunities, and their skills begin to atrophy.²³ In the past, this may have had few consequences for banks. Employees could either play ball or look for another job. Luckily, today, anybody with competencies in financial technology innovation will have no problem finding plenty of venture capital to launch their own startup. If talented individuals feel they will be better off on their own, their loyalty to an employer becomes fragile. Several ex-bankers have already founded FinTech startups on their own. We expect this trend to continue.

4.3.3 Bounded innovation

If companies lack core competencies to compete, their individual SBUs will only recognize and pursue the low hanging fruit—those innovation opportunities that are close at hand.

In the case of banks and financial technology innovation, this mainly covers marginal product-line extensions and automation. New disruptive technology will almost certainly stay under the radar of banks for this reason. Hybrid opportunities will emerge only when companies and their managers remove their blinkers.²⁴

4.3.4 Performers vs. producers

Because people have better opportunities today to start their own ventures, imprisoned resources have become mobile across companies. In recent years, employees have begun to expect their employers to be aligned with them, not the other way around. This has spawned a new entrepreneurial class of innovators who have little interest in even pitching their ideas to large corporations. However, what might it have been like if companies had provided an environment that inspired innovators to develop their ideas in-house? What if the world's self-made billionaires had carried out their innovations at large corporations that hired them early in their careers? When examining these questions, we may want to distinguish between the mindset of performers and producers.²⁵ Performers possess skills in one key area but often fail to see the combinations that are necessary to convert an idea into a profitable business. Producers, on the other hand, see the potential for a new idea in the market, and they can execute on this idea to help it reach the greatest market potential. Creating breakthrough innovation and value for companies needs both skill sets in combination: the ability to follow through on processes and details to make the business work, and the vision to unite divergent ideas and resources into a blockbuster concept. However, performers lead today's great companies, and they primarily hire and reward other performers. This cultivates a performer-centric culture that pushes out those people with the greatest ability to create long-lasting value. Attracting producers into companies requires changes to the way organizations think and operate.

Without a mind shift, companies will fail to attract—let alone identify—those people with the talent to ensure its competitiveness in the digital future.²⁶

4.3.5 Divergence between core competencies of banks with customer needs

Just as “managers rise to the level of their incompetence,” an organization's capabilities define its disabilities in another context.²⁷ Their systems, processes, and values ensure the continuation along an agreed upon trajectory. By definition, these capabilities shut everything down that diverts an organization from its projected path. Among the current core capabilities of banks are the following:

■ Guarantee of their liabilities from central banks (via license)

■ Capability in money management

■ Capability in risk management

■ Physical presence with branches

■ Networks of ATMs

■ Established proprietary channels of debit and credit card payments

■ Experience in rolling out financial products and underwriting loans

■ Strong legal departments

At the same time, trends in consumer behavior demand more than the capabilities in the list above. Customers are always on, hyper-connected to a variety of social networking sources, adopting new technology and services rapidly, and demanding mobile communication without onerous requirements to “know your customer,” or KYC in short. Their demands look something like this:

■ 24/7 availability for personal questions with rapid response beyond 9-5 business hours

■ Well-developed digital channels that are accessible for two-way communication, not just one-way push advertising

■ Low cost and transparency in financial services

■ Easy to understand and transparent information about loans and products

■ Ease of application for loans and products with rapid decision and availability of funds

■ Painless and inexpensive ways to pay and receive funds

When banks deny loans to customers and businesses, borrowers are just clicks away from new solutions provided by online lenders, online payment providers, and mobile-first banks.

As we learned when we looked at the social factors that enabled FinTech, customers have little patience for the onerous requirements of banks to comply with regulation, and fail to see why they should pick up the slack for past mistakes in the banking world that have resulted in a barrage of new regulation. Structural factors, such as increased regulatory requirements for banks, have made excursions into the murky waters of untested, unproven technology taboo. Yet this is exactly what disruptive technology demands: abandoning the safeguards and plunging head-on into a new adventure. It is already obvious that this is hardly what banks can and want to do. They need sure-fire wins, and they need them quickly. In light of the strong headwinds that banks face, what can they do to stay relevant in the financial sector in the future? They will have to develop core competences that allow them to innovate themselves. However, innovative capabilities are hardly an add-on. The wider ecosystem must shed beliefs that hinder innovation to give a company a realistic chance to keep and improve its market share.

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Source: Akkizidis Ioannis, Stagars Manuel. Marketplace Lending, Analysis Financial, and the Future of Credit: Integration, Profitability, and Risk Management. Wiley,2016. — 344 p.. 2016

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