Banks Scout Out B2B Space

A fifth-generation midwestern banker, Sandy Kemper understands firsthand the tenuous hold that commercial banks today have on the financial assets of Americans. “When my father started out in this business 50 years ago, banks had 95% of financial assets,” explains Kemper, whose family founded and still runs what is known today as UMB Financial Corp., an $8.1 billion organization headquartered in Kansas City, Missouri. “When I started in banking 15 years ago, that was down to 44%, and when I left banking last year it had dropped to under 20%.”Kemper didn`t exactly leave banking. Although he stepped down as president and chief executive officer of UMB, and chairman and CEO of its lead bank, he remains a director of the holding company and a member of its executive committee. Kemper`s regular job these days, however, is CEO of eScout.com, a UMB subsidiary that lets other banks and businesses outsource the underlying operations for their business-to-business (B2B) electronic commerce offering. eScout is akin to a Web-based buyers` club. Powered by technology (and an equity investment) from Commerce One Inc., a leading supplier of software for B2B commerce, eScout leverages the buying power of many companies to achieve economies not otherwise available to any one individually, while offering sellers new potential buyers. Its market: small, independent businesses with average assets of about $3 million, and the community and regional banks that count them as customers. Its products and services cover a wide swath, from training and office supplies to financial products such as 401(k) plans and payroll administration. It`s not a novel concept. There are thousands of these so-called e-marketplaces springing up on the Internet. In a report early last year, Gartner Group suggested that upward of 10,000 e-marketplaces would be in operation by 2002. What makes eScout unique is that it appears to be the only broad-based e-marketplace that`s been hardwired to the banking system. “The real guts of what we`re doing involves the payments process,” says Kemper. “We`ve mapped the ACH [automated clearinghouse] process to our marketplace.” The ACH, created in the 1970s as an electronic alternative to the check payment system, is perhaps best known as the mechanism used for direct deposit of payroll. As banks and nonbank providers of financial services have jockeyed for position in the B2B marketplace, the ACH stands out as a more economic and bank-friendly means of financial settlement than credit cards, which are used today to pay for the bulk of online purchases. A batch processing system, the ACH is driven by scale economies, so the more payments processed through the system the lower the cost of each. Every federally insured financial institution is connected to the ACH, by way of the Federal Reserve and a handful of bank-run competitors. And perhaps best of all, the ACH is linked to the demand deposit accounting (DDA) systems of financial institutions. “That creates stickiness,” Kemper says. What`s more, he adds, in two years of operation no instances of fraud have been reported by eScout members. Traditionally, banks have played the role of as trusted financial intermediaries, and the logic of extending that role to the Internet is the primary motivation for them to join eScout. “A lot of B2B companies are attempting to build trust on a platform of technology; we build on a foundation of trust to support the technological needs of customers,” Kemper says. Apparently other bankers like the idea. By late last year, more than 1,200 banks (with combined total assets in excess of $330 billion) and 7,500 independent business customers of those banks had signed on as members of the eScout MarketPlace. Kemper`s goal for 2001: to end the year with 3,000 community banks and a score of regional institutions using the eScout network. Some community banks are expected to join up through correspondent relationships with upstream regional banks. So far, he`s inked agreements with 10 regional holding companies, including $19 billion First Tennessee in Memphis; CalFed, a $60 billion institution based in San Francisco; Marquette Bancshares Inc., a $3 billion institution based in Minneapolis; and $18 billion AllFirst Financial in Baltimore. Many of these same banks are also investors in eScout, which raised about $54 million in private investments last year. UMB, Kemper says, is keeping an arm`s-length relationship, to establish eScout as an objective third-party service provider. eScout was a logical choice for AllFirst, which is known for its middle-market cash management services, according to Deborah Matz, a senior vice president. “We saw a real need to protect the business we`ve been in,” explains Matz. “But we were not going to go out and build our own marketplace.” And what`s the financial benefit to Allfirst? The bank charges a fee each time a customer purchases something through eScout Marketplace, without the accompanying burden of infrastructure costs. The bank also benefited from rapid deployment: it was just two months from the time the contract was signed with eScout until AllFirst`s website was a conduit to the marketplace. “In this day and age, you don`t have to create the infrastructure to benefit from it,” says Rajeev Agarwal, director of commercial banking at TowerGroup, Needham, Massachusetts. “Banks should be distributors, not developers, of financial products,” he says. Explains Matz: “Our justification was that we`d be retaining and attracting new business customers with this. If we didn`t play, our small business customers were going to find some other marketplace, and with them would go all the balances and the banking relationships.” Paul Martaus, president, Martaus & Associates, Mountain Home, Arkansas, agrees the relationship component is critical to the success of a bank`s e-commerce forays. The chief financial officers of participating companies typically drive e-marketplaces, so the first line of approach to the bank is through the credit department. “Banks need to offer commercial lending and underwriting to support B2B e-commerce, but they need to align that with a neutral ACH access alternative that supports online payments,” Martaus says. Matz says it`s been a smooth transition for Allfirst, which included in the planning process its business banking, middle market, and relationship managers. The technology staff has had minimal involvement, she adds, since the technology is hosted outside the organization. “It`s been remarkable how everyone has latched onto the idea and has been talking it up with colleagues and customers,” says Matz. The premise is fairly simple: Customers enter eScout through the bank`s website. To the casual observer, it`s just another Web page, yet it boasts access to a virtual inventory of more than 2.8 million products and services. Here`s where it gets really interesting. “It`s not just about revenue. It`s also about your operating ratios,” says Agarwal in discussing the business case for banks participating in B2B e-marketplaces. Outsourcing B2B platform requirements allows banks to offer a wide range of Web-accessed commercial services at little or no upfront cost. No new purchase of hardware or software; each bank pays ongoing fees to eScout based upon asset size, predicted participation, and transaction costs. Also, he notes, since smaller companies are frequent users of expensive branch services, “there`s an opportunity for banks to bring some of that traffic online if they make it an attractive channel,” notes Agarwal. That companies are moving more commercial activities to the Internet is an undisputed fact. Zona Research Inc. reports that 42% of U.S. businesses were expecting to go online for 11% to 25% of purchases last year. Forrester Research predicts that in 2003, businesses will spend over $1.5 trillion online, including $220 billion on business services. For some perspective on these numbers, consider that the U.S. gross domestic product was $9.9 trillion in the second quarter of 2000. Kemper cites statistics that suggest more than half the national GDP is generated by small businesses, “and the vast majority of those companies bank with regional and community banks,” he adds. “If a bank doesn`t build something like this for their customers and instead goes out and partners [with an e-marketplace provider], the payment services on the site will not tie back to the bank,” he points out. A review of similar e-marketplaces suggests this is the case, although some have direct ties to credit card organizations, like Visa, the bank-owned consortium, and its chief nonbank rival American Express. Some of the nation`s largest banks, meanwhile, are forging relationships with technology providers they hope will keep them running, possibly to the exclusion of smaller banks. Citigroup, for example, has a deal with Oracle Corp., a big name in e-business software, that lets Citi imbed payment and other financial services into Oracle`s product line. Kemper wants to build a network of regional banks that can link together and eventually internationally, and compete with the likes of Citigroup and its e-commerce partners. “It`s very logical for banks to facilitate electronic commerce,” Kemper says. “We understand the middle market, payments, and how to link the two.” “This is how banks have done business forever,” adds Matz: bringing together buyers and sellers and facilitating settlement of the deal. “It`s just that now we`re doing it on the Internet.” Consultant Martaus adds one note of caution. In today`s fickle marketplace, he notes, Internet companies are not exactly a hardy lot. “You have to pick your technology partners very carefully, taking into consideration the real vagaries of life,” he counsels.