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Perspectives

The Digital Advantages of Banking as a Service (Part 1)

2017-01-03


To contend with insurgent competitors, banks must rethink their value proposition and embrace open APIs, taking the BaaS approach to entering the digital ecosystem.

This is the first in a two-part series.

Although banks are considered pioneers of process automation, they now find themselves playing catch-up in today’s consumer-led, digitized financial services landscape. Insurgent financial technology competitors (i.e., fintechs) are disrupting traditional banking worldwide, bringing to market an assortment of digitally innovative, multi-channel banking solutions. Such offerings — including digital wallets and peer-to-peer (P2P) lending and payments — are increasingly finding favor among today’s always-connected, tech-savvy consumers. To retain wallet share, banks must rethink their approach to service delivery. 

In our view, banking as a service (BaaS) is a key weapon in banking organizations’ competitive toolkit, as it can help them accelerate their entry into new markets and quickly meet the needs of digital consumers — or fail fast and move onto other more profitable services. To succeed with BaaS, banks need to embrace three key facets of this service approach: 

A command of open banking APIs

Banks can leap into digitization using application programming interfaces (API), which enable them to share data with developers and third-party partners, such as fintechs. These partners can then develop valuable service offerings, such as mobile payment applications and peer-to-peer lending solutions. Banks must also be willing to tweak their role as active participants, but not necessarily owners, of the end-to-end customer experience. 

A shift to solutions assembly

With the BaaS model, banks act as assemblers of financial management solutions, using componentized capabilities that facilitate plug-and-play operations. Componentization also promotes reuse, standardization and cost reduction.

A focus on innovation and the user experience

Provisioning data to external partners can facilitate innovative customer-oriented products, such as virtual intelligent banking assistants. These offerings could grow the customer base while simultaneously reducing costs.

Pioneers such as Fidor Bank in Germany, for example, recently launched an API-driven open banking platform with a community of third-party developers (see our Cognizanti article “Making Dollars & Sense of the Platform Economy”).

Shifting to BaaS 

Most global banks now view BaaS as an essential part of their future growth. We see six industry trends mandating this shift:

Figure 1

  • The pervasive growth of digital banking. Banks everywhere are responding to digital proliferation by focusing on persona-driven experiences, just-in-time services and modularized product offerings. For example, to take advantage of the burgeoning digital wallet space, MasterCard launched its Partner Wallet API, which allows external wallet solutions to plug into the MasterPass Acceptance Network to access services such as check-out, fraud detection and authentication. Doing so enables MasterCard to cooperate with promising fintechs rather than directly competing with them. They still want both market share and mindshare, of course, but they are willing to partner to provide both. 

  • Competition with fintechs: To compete as an agile orchestrator of the digital economy, banks need to partner with or acquiring fintechs to provide end-to-end services and drive innovation. For example, American Express recently partnered with research lab Ideas42 in an effort to cultivate and deliver new offerings.

  • The revolution of open banking platforms via service-oriented architectures. The open banking trend cannot be ignored. For example, the Open Bank Project is a leading initiative to provide a standardized structure for sharing banking data. The UK has embraced the concept, with plans to implement a mandatory UK open banking API standard, and Spanish bank BBVA is building an open API platform that helps developers enhance their solutions in areas such as peer-to-peer payments and personal finance management. 

  • The need to meet the needs of small and medium-size business. The prospect of enhanced convenience is pushing smaller business owners to move to easier to use online banking options, such as FreshBooks and PayPal. To stymie the outflow of customers, banks must either partner with these new cloud entrants or offer relevant services to make banking for smaller companies more user-friendly, convenient and affordable.

  • The shift to solution assembly. New-age IT architectures are arising to support plug-and-play modularized solutions, making it easier and quicker for banks to develop new services and business channels. 

  • Contending with ever-changing regulations. Compliance demands have accelerated in recent years, requiring greater technology investment. By componentizing their IT architectures through micro-services, banks can respond to new regulations more quickly and with minimal disruption, opening the doors to full-fledged BaaS models.

Of course, BaaS also exposes banks to risk, including customer fragmentation and the potential for erosion of bank-led product innovation. Banks can manage that risk with clear objectives and careful planning. The first step of the journey focuses on discovery and experimentation, such as layering an API gateway on top of their existing technology stack. As adoption evolves beyond testing, an API management platform and portal can then be established. After use cases are exposed, the next stage involves transformation of the bank’s legacy systems to make it possible for partners, developers and other collaborators to access and leverage the data. 

Such change may sound intimidating to some banks. With a successful BaaS implementation, however, banks can evolve from being a peripheral entity in the digital revolution to an important power broker for consumers and innovators alike. See Part 2 for our recommendations on facilitating a successful transformation.

To learn more, read "How Banking as a Service Will Keep Banks Digitally Relevant and Growing" or visit the banking and financial services section of our website.

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The Digital Advantages of Banking as a Service (Part 1)