May 1, 2020
While a plethora of challenger banks and neobanks have preferred to build their core platforms in-house, the game is not lost for traditional platform providers.
Tata Consultancy Services Ltd. recently announced that its flagship core banking platform TCS Bancs would power Israel’s first digital-only bank. As an increasing number of new banking initiatives prefer to build their core platforms in-house, in this article, we rewind and analyze how well the original gangsters of the core banking world have fared in this niche segment.
The last decade has seen the mushrooming of several digital-only direct banks worldwide. The earliest direct banks were set up almost 30 years ago, but it wasn't until the early part of this millennium when the internet got fully commercialized that they started gaining traction. First Direct (later acquired by HSBC) and ING Direct were the earliest known faces of direct banking, but globally they were few in number. The global financial crisis of 2009 brought in a renewed interest in direct banks as people developed a trust deficit with traditional banks, and the perceived risk in market investments was very high. With lower capital cost and a tech-driven operational model, most direct banks offered better savings rates, and thus, deposit money flowed into them. Although a lot of that spurt tapered off by 2012, it established the confidence of retail consumers and the viability of direct banking as a business model. Since 2012, the world has seen a plethora of digital-only banking initiatives. They fall into one of the following three segments:
You can find a comprehensive analysis of the global neobanking landscape by MEDICI here.
Most direct banks, which started from the later part of the previous decade, chose to launch on off-the-shelf core banking platforms. ING Direct launched on FIS Profile (barring a few countries); and Jibun Bank (the first-ever mobile-only bank), UBank (the direct-bank of NAB), and HBOS (the direct-bank of Lloyds) launched on Oracle’s core banking systems. Standardized products & processes, established methodologies, model bank data combined with the rich experience of rolling out banking platforms made them the favorable choice. It may also be noted that the power of low-code development, agile methodologies, the elasticity of the cloud, and architectural & design patterns like Rest APIs and microservices were still evolving then.
Fast forward to the present day: due to several reasons, most digital-only banking initiatives prefer to build their core platforms in-house. Here are some of the prominent ones:
Architecture: Traditional core platforms were built as monoliths serving as a bank-in-a-box. Although functionally modular, due to their tight binding at the design level, they offer inadequate flexibility to deploy in small blocks without encumbrances. The expectation of tech-savvy digital banks is to have access to self-sufficient microservices, which can be progressively connected over a period of time – think Lego bricks.
Cloud Nativeness: Traditionally designed for on-premise deployments, traditional core banking platforms are cloud-native. This shortcoming goes hand-in-hand with the previous point on architecture as the best utilization of cloud comes about with a microservices-based architecture. Not being cloud-native debilitates continuous and independent development and the rollout of consumer-facing features. Depending on workloads, it also affects the independent scalability of certain parts of the platform.
Platform Openness: Most traditional core platforms were built to support organic growth. They cater to a closed ecosystem, which is often the bank’s own. As new collaborative business models with marketplace partnerships emerged, the need for having an open platform to integrate with partners grew. Although most of them now offer Open APIs through their developer portals, they lack the technical finesse of well-designed APIs that have been thought through from a customer experience standpoint. This is a very common issue reported by most FinTechs that have tried to integrate with banks.
Cost & Time-to-Market: The financial model of licensing parts of the platform and charging for professional services to implement the platform does not fit into the new world of launching a digital bank. Budgets are often low, to begin with, and there is no room for long due diligence. Regardless of how much we strip down a traditional core system, there is a minimum threshold cost (which is often high) one can’t get away from. The monolithic design also poses several limitations on adopting agile methodologies, and this directly affects the time-to-market, quick wins, and, therefore, the perceived risk.
Internal Product Strategy: With an existing base of customers to support and nurture, most traditional core banking companies face the massively uphill task of keeping up with the expectations of old and new segments of customers. A reckless overhaul is a non-starter. This poses positioning problems. Very often, large transformative solutions are proposed to lean and light digital banks. A classic analogy in the industry is selling a Ferrari when only a simple Prius is needed.
As mentioned earlier, there are three broad categories of direct banks that exist worldwide. There seems to be a pattern in the core platform choices made by each of these subsegments.
As trends indicate, several digital-only brands of traditional financial institutions have preferred to go with seasoned core banking platforms. This can be attributed to factors such as incumbency, availability of baked-in localization & compliance, and the credibility of a trusted rollout partner (the likes of Accenture, IBM, and Capgemini).
Here are some examples:
Globally, several challenger banks with a digital banking license have stuck to building their own cores. However, for the ones that chose to buy an off-the-shelf platform, the verdict has been split between new-age and traditional core platforms.
Among modern core systems, Mambu has been the most popular choice for challenger banks with the likes of N26, OakNorth, and ABN New10, choosing it over in-house builds. Atom Bank in the UK switched over from FIS Profile, a traditional system, to Thought Machine, which is another new-age core platform.
The most successful company from the traditional core system pack for challenger banks has been Temenos with its Transact platform (earlier known as T24). Volt and Judo in Australia; Varo Money, and Grasshopper Bank in the US; and Praxia Bank in Greece and Alba Bank in the UK (under license application) are some of them. The recent TCS announcement of partnering with the first digital bank in Israel and Fiserv powering Tandem Bank in the UK has added to this mix.
Among the third category of over-the-top neobanks, hardly any have chosen an off-the-shelf core solution and have preferred to build it themselves. This is because such brands typically focus on customer experience and value-added services, whereas the heavy lifting of maintaining the ledger, compliance, risk, payments, and reporting is done through their partner banks.
Against popular opinion, it may not be game over for the veterans of the core banking world. Temenos, TCS, Oracle, Infosys, FIS, and Fiserv have all been investing in upgrading their platforms and modernizing their architecture. The increasing number of challenger banks signing up with Temenos is a result of focused investment for the past few years in product positioning, cloud enablement, partner enablement, and astute commercial packaging.
Rearchitecting a legacy core system is a long shot and requires both tactical and strategic measures. The bulk of these efforts are currently going into fragmenting the monolith into well-rounded, consumable, self-sufficient micro-services; containerization; and making them available on the cloud. Making the platform truly cloud-native requires the application to be practically re-written from the ground-up on the cloud. While this is being done with new functional modules that do not have code baggage, refactoring old modules will happen slowly, but it is well and truly underway. Additionally, the pedigree of global best practices in products, processes, and compliance supplemented by domain expertise carries an intangible value.
With a sound product strategy, early adopter banks and smart financial engineering, one can foresee a number of challenger banks signing up for these seasoned players in new avatars in the months to come.
Don't just rule them out yet!