Unlocking Banking as a Service for Business Customers

Banking as a service, or BaaS, has become one of the most important strategic imperatives for chief executives across all industries, including banking, technology, manufacturing and retail.

Retail and business customers want integrated experiences in their daily lives, including seamlessly embedded financial experiences into everyday experiences. Paying for a rideshare from an app, financing home improvements when accepting a contractor quote, funding supplier invoices via an accounting package and offering cash management services to fintechs — these are just some examples of how BaaS enables any business to develop new and exciting propositions to customers, with the relevant financial services embedded into the process. The market for embedded finance is expected to reach $7 trillion by 2030, according to the Next-Gen Commercial Banking Tracker, a PYMNTS and FISPAN collaboration. Banks that act fast and secure priority customer context will experience the greatest upside.

Both banks and potential BaaS distributors, such as technology companies, should be looking for ways to capitalize on BaaS opportunities for small and medium-sized enterprises and businesses (SMEs). According to research from Accenture, 25% of all SME banking revenue is projected to shift to embedded channels by 2025. SME customers are looking for integrated financial experiences within relevant points of context.

SMEs need a more convenient, transparent method to apply for a loan, given that business owners are often discouraged from exploring financing opportunities. In 2021, 35% of SMEs in the United States needed financing but did not apply for a loan according to the 2022 Report on Employer Firms Based on the Small Business Credit Survey. According to the Fed, SMEs shied away from traditional lending due to the difficult application process, long waits for credit decisions, high interest rates and unfavorable repayment terms, and instead used personal funds, cut staff, reduced hours, and downsized operations.

And while there is unmet demand from SMEs, there is also excess supply. Over the last few years, the loan-to-deposit ratio at U.S. banks fell from 80% to 63%, the Federal Reserve wrote in August 2021. Banks need loan growth to drive profits. Embedding financial services for SME lending is not only important for retaining and growing customer relationships, but also critical to growing and diversifying loan portfolios. The time for banks to act is now, given the current inflection point: BaaS for SMEs is projected to see four-times growth compared to retail and corporate BaaS, according to Finastra’s Banking as a Service: Global Outlook 2022 report.

How to Succeed in Banking as a Service for SMEs
There are three key steps that any institution must take to succeed in BaaS: Understand what use cases will deliver the most value to their customers, select monetization models that deliver capabilities and enable profits and be clear on what is required to take a BaaS solution to market, including partnerships that accelerate delivery.

BaaS providers and distributors should focus on the right use case in their market. Banks and technology companies can drive customer value by embedding loan and credit offers on business management platforms. Customers will benefit from the increased convenience, better terms and shorter application times because the digitized process automates data entry. Banks can acquire customers outside their traditional footprint and reduce both operational costs and risks by accessing financial data. And technology companies can gain a competitive advantage by adding new features valued by their customers.

To enable the right use case, both distributors and providers must also select the right partners — those with the best capabilities that drive value to their customers. For example, a recent collaboration between Finastra and Microsoft allows businesses that use Microsoft Dynamics to access financing offers on the platform.

Banks will also want to focus on white labeling front‑to-back customer journeys and securing access to a marketplace. In BaaS, a marketplace model increases competition and benefits for all providers. Providers should focus on sector‑specific products and services, enhancing data and analytics to enable better risk decisions and specialized digital solutions.

But one thing is clear: Going forward, embedded finance will be a significant opportunity for banks that embrace it.

Does Your Bank Struggle With Analysis Paralysis?

The challenge facing most community financial institutions is not a lack of data.

Institutions send millions of data points through extensive networks and applications to process, transmit and maintain daily operations. But simply having an abundance of data available does not automatically correlate actionable, valuable insights. Often, this inundation of data is the first obstacle that hinders — rather than helps — bankers make smarter decisions and more optimal choices, leading to analysis paralysis.

What is analysis paralysis? Analysis paralysis is the inability of a firm to effectively monetize data or information in a meaningful way that results in action.

The true value is not in having an abundance of data, but the ability to easily turn this cache into actionable insights that drive an institution’s ability to serve its community, streamline operations and ultimately compete with larger institutions and non-bank competitors.

The first step in combatting analysis paralysis is maintaining a single source of truth under a centralized data strategy. Far too often, different departments within the same bank produce conflicting reports with conflicting results — despite relying on the “same” input and data sources. This is a problem for several reasons; most significantly, it limits a banker’s ability to make critical decisions. Establishing a common data repository and defining the data structure and flow with an agreed-upon lexicon is critical to positioning the bank for future success.

The second step is to increase the trust, reliability, and availability of your data. We are all familiar with the saying “Garbage in, garbage out.” This applies to data. Data that is not normalized and is not agreed-upon from an organizational perspective will create issues. If your institution is not scrubbing collected data to make sure it is complete, accurate and, most importantly, useful, it is wasting valuable company resources.

Generally, bad data is considered data that is inaccurate, incomplete, non-conforming, duplicative or the result of poor data input. But this isn’t the complete picture. For example, data that is aggregated or siloed in a way that makes it inaccessible or unusable is also bad data. Likewise, data that fails to garner any meaning or insight into business practices, or is not available in a timely manner, is bad data.

Increasing the access to and availability of data will help banks unlock its benefits. Hidden data is the same as having no data at all.

The last step is to align the bank’s data strategy with its business strategy. Data strategy corresponds with how bank executives will measure and monitor the success of the institution. Good data strategy, paired with business strategy, translates into strong decision-making. Executives that understand the right data to collect, and anticipate future expectations to access and aggregate data in a meaningful way is paramount to achieving enduring success in this “big data” era. For example, the success of an initiative that takes advantage of artificial intelligence (AI) and predictive capabilities is contingent upon aligning a bank’s data strategy with its business strategy.

When an organization has access to critical consumer information or insights into market tendencies, it is equipped to make decisions that increase revenue, market share and operational efficiencies. Meaningful data that is presented in a timely and easy-to-digest manner and aligns with the company’s strategy and measurables allows executives to react quickly to changes affecting the organization — rather than waiting until the end of the quarter or the next strategic planning meeting before taking action.

At the end of the day, every institution’s data can tell a very unique story. Do you know what story your data tells about the bank? What does the data say about the future? Banks that are paralyzed by data lose the ability to guide their story, becoming much more reactive than proactive. Ultimately, they may miss out on opportunities that propel the bank forward and position it for future success. Eliminating the paralysis from the analysis ensures data is driving the strategy, and enables banks to guide their story in positive direction.

The Unlimited Potential of Embedded Banking

With fewer resources and smaller customer bases, community banks often find themselves on the losing end of a tug-of-war game when getting involved in emerging technologies. But that’s where embedded banking is a game-changer.

Embedded banking offers every financial institution — regardless of size — a chance to grab market share of this relatively untapped, billion-dollar opportunity.

Embedding financial services into non-financial applications is a market that could be worth almost $230 billion in revenues by 2025, according to a report from Lightyear Capital. That means forward-thinking community banks could see a big upside if they make the strategic investment — as could their non-bank partners. And those companies that are orchestrating integrations behind the scenes could also reap rewards in the form of subscription or transactional services. And ultimately, end users will benefit from the seamless experience this technology provides. While it’s a winning proposition for all, a successful embedded finance operation involves preparation and strategy. Let’s take a closer look at the four players who stand to benefit with embedded banking.

Community Banks: Building Reach
As community banks retool their strategies to adapt to more digital users, they also face growing challenges from digital-only neobanks and fintechs to retain their existing customers. They will need innovative features on-par with their big-budgeted competitors to thrive in the space.

Embedded banking is a legitimate chance for these banks to stake out a competitive advantage. Embedded banking, a subset of banking as a service (BaaS), allows digital banks and other third parties to connect with banks’ systems directly via application programming interfaces, or APIs. Today, 70% of banks that sponsor BaaS opportunities have less than $10 billion in assets. The cost to compete is low, and the services that non-bank entities are seeking are already available on banking platforms.

To start, institutions work with a technology company that can build APIs that can extend their financial services, then identify partners looking to embed these services on their digital platform. A best-case scenario is finding a digital banking partner that can deliver the API piece and has connections with potential embedded banking partners. Once a bank has an embedded banking strategy in place, expansion opportunities are unlimited. There are numerous non-bank partners across many industry verticals, offering entirely new customers at a lower cost of a typical customer acquisition. And these partnerships will also bring new loans, deposits and payment transactions that the bank wouldn’t otherwise have.

Nonbanks: Retaining Customers, Bolstering Satisfaction
Companies outside of the finance industry are rapidly recognizing how this technology can benefit them. Customer purchases, loans or money transfers can all be facilitated using services from a bank partner via APIs. Companies can offer valuable, in-demand financial services with a seamless user experience for existing customers — and this innovation can fuel organic growth. Additionally, the embedded banking partnership generates vast amounts of customer data, which companies can use to enhance personalization and bolster customer loyalty.

Consumers: Gaining Convenience, Personalization
Making interactions stickier is key to getting consumers to spend more time on a website. Sites should be feature-rich and comprehensive, so users don’t need to leave to perform other functions. Embedding functionality for relevant financial tasks within the platform allows users to both save time and spend more time, while giving them valuable financial products from their trusted brand. They also benefit from data sharing that generates personalized content and offers.

Tech Companies: Growing Partnerships, New Opportunities
Technology providers act as the conduit between the financial institution’s services and the non-bank partner’s experience. These providers — usually API-focused fintech companies — facilitate the open banking technology and connections. By keeping the process running smoothly, they benefit from positive platform growth, the creation of extensible embedded banking tools that they can reuse and revenue generated from subscription or transaction fees.

Everyone’s a Winner
This wide-open embedded banking market has the potential to be a game changer for so many entities. The good news is there is still plenty of room for new participants.

Harness the Power of Tech to Win Business Banking

The process for opening a consumer account at most financial institutions is pretty standard. It’s not uncommon for banks to provide a fully digital account opening experience for retail customers, while falling back on manual and fragmented processes for business accounts.

Common elements in business account opening include contact forms, days of back-and-forth communication or trips to a branch, sending documents via secure email systems that require someone to set up a whole new account and a highly manual document review process once the bank finally receives those files. This can take anywhere from days to multiple weeks for complex accounts.

Until very recently, the greatest competitor for banks in acquiring and growing business accounts was other banks. But in recent years, digital business banks have quickly emerged as a more formidable competitor. And these digital business banks empower users to open business accounts in minutes.

We researched some of the top digital business banks to learn more about how these companies are winning the business of small businesses. We discovered there are three key ways digital banks are rapidly growing by acquiring business accounts:

1. Seamless, intuitive user experiences. Business clients can instantly open accounts from a digital bank website. There’s no need to travel to a branch or pick up a phone; all documents can be submitted online.
2. Leveraging third-party technology. Digital banks aren’t building their own internal tech stacks from the ground up. They’re using best-in-class workflow tools to construct a client onboarding journey that is streamlined from end to end.
3. Modern aesthetics. Digital business banks use design and aesthetics to their advantage by featuring bright and engaging colors, clean user interfaces and exceptional branding.

The result? Digital banks are pushing their more traditional counterparts to grow and innovate in ways never before experienced in financial services.

Understanding what small businesses need from your bank
A business account is a must-have for any small business. But a flashy brand and a great user experience aren’t key to opening an account. Small businesses are really looking for the right tools to help them run their business.

While digital banks offer a seamless online experience, community banks shouldn’t sell themselves short. Traditional banks have robust product offerings and the unique ability to deal with more complex needs, which many businesses require. Some of the ways businesses need their financial institutions to help include:

  • Banking and accounting administration.
  • Financing, especially when it comes to invoices and loan repayment.
  • Rewards programs based on their unique needs.
  • Payments, specifically accepting more forms of payment without fees.

It’s important to keep in mind that your bank can’t be all things to all clients. Your expertise in your particular geography, industry or offerings plays a huge role in defining your niche in business banking. It’s what a lot of fintechs — including most digital banks — do: identify a specific niche audience and need, solve the need with technology, and let it go viral.

While digital banks might snap up basic small and medium businesses, the bar to compete in the greater market is not as high as perceived — especially when it comes to differentiated, high-risk complex entities. But it requires a shift in thinking, and the overlaying the right tech on top of the power of a community based financial institution.

It’s important that community bank executives adopt a smart, agile approach when choosing technology partners. To avoid vendor lock-in, explore technologies with integration layers that can seamlessly plug new software into your bank’s core, loan origination system, digital banking treasury management system and all other platforms and services. This means your bank can adopt whatever new tech is best for your business, without letting legacy vendors effectively dictate what you can or can’t do.

Your level of success in winning at digital banking comes down to keeping the client in focus and providing the best experiences for their ongoing needs with the right technology. While the account itself might be a commodity, the journeys, services and offerings your bank provides to small businesses are critical to growing and nurturing your client base.

What Does a Tech-Forward Bank Look Like?

You wouldn’t think Jill Castilla would have trouble getting a bank loan. After all, she’s the CEO of Citizens Bank of Edmond, a $354 million institution in Edmond, Oklahoma. But as a veteran of the U.S. Army married to retired lieutenant colonel Marcus Castilla, she figured they would qualify to get a VA home loan from a bank other than Citizens, which doesn’t offer VA loans.

After 60 days stretched to more than 90 days, the big bank still hadn’t said yes or no, and the seller was getting increasingly anxious. To get the house they wanted, the couple switched gears and got a loan from Citizens instead.

After abandoning the attempt to get a VA loan, Castilla vowed to help other veterans. Her bank has partnered with several technology companies, including Jack Henry Banking, Teslar Software and ICE Mortgage Technology to start a lending platform on a national basis called Roger.

Bank of Edmond hit on a problem the market hadn’t solved: How to make the process of getting a VA loan quicker and easier, especially in a hot real estate market where veterans are more likely to lose bids if they can’t be competitive with other buyers. As Managing Director Sam Kilmer of Cornerstone Advisors put it at Bank Director’s FinXTech Experience conference recently, borrowing from Netflix co-founder Marc Randolph, “the no. 1 trait of an innovator is recognizing what causes other people pain.” Many banks like Castilla’s are trying to solve customer problems and remake themselves with the help of technology, particularly from more nimble financial technology, or “fintech” partners.

In fact, investors already view banks differently based on their approaches to technology, said William “Wally” Wallace IV, a managing director and equity analyst at Raymond James Financial, who spoke at the conference. Wallace categorized banks in three groups: the legacy banks, the growth banks and the tech-enabled banks.

The legacy banks aren’t growing and trade close to book value or 1.5 times book, Wallace said. The growth banks emphasize relationships and are technologically competent. They trade at 1.5 to 2.5 times book. But the tech-enabled banks use technology offensively, rather than defensively. Tech-enabled banks look to create opportunities through technology. Their stocks command a median tangible to book value of 2.5 times. They have more volatile stock prices but they have outperformed other indexes since 2020, with an average return of 104%, he said. Wallace predicts such banks will out-earn other banks, even growth banks, in the years ahead. He estimates their earnings per share will enjoy average compound annual growth rates of about 24% over a five-year period starting next year, compared to 7% for small-cap banks on average.

Take the example of banking as a service, where a bank provides financial services on the back end for a fintech or another company that serves the customer directly. Wallace said those banks have a fixed cost in building up their risk management capabilities. But once they do that, growth is strong and expenses don’t rise at the same rate as deposits or revenue, generating positive operating leverage.

But, as banks try to remake themselves in more entrepreneurial and tech-forward ways, they’re still not tech companies. Not really. Technology companies can afford to chase rabbits to find a solution that may or may not take off. Banks can’t, said Wallace. “You have to be thoughtful about how you approach it,” he added. But, he suggested that tech-enabled banks that invest in risk management will have large payoffs later. “If you guys prove you can manage the risks, and not blow up the bank, investors will start to pay for that growth,” he said.

Customers Bancorp is positioning itself as one of those tech-forward banks but it’s already seeing results. The West Reading, Pennsylvania-based bank reported a core return on common equity of 24% and a return on average assets of 1.63% in the first quarter of 2022.

Jennifer Frost, executive vice president and chief administrative officer at $19.2 billion Customers Bank, spoke at the conference. “We had some pretty sophisticated platforms, but we didn’t have a way to unlock the power with the people who knew how to use them,” she said. Since the Paycheck Protection Program proved the bank could pivot to providing digital loans quickly, the bank began ramping up its capabilities in small business and commercial lending. Instead of limiting itself to buying off-the-shelf platforms from technology providers, its strategy is to carefully pick configurable programs and then hire one or two developers who can make those programs a success.

“Take what you’ve learned here and start a strategy,” she warned the crowd of some 300 bankers and fintech company representatives at the conference. “If you’re not starting now, it’s going to be a dangerous season.”

Poll Results: Digital Transformation’s Next Phase

NYDIG-Report.pngJPMorgan Chase & Co., which is the largest U.S. bank by assets, spends $12 billion a year on technology, investing in a vast array of technologies that include machine learning, artificial intelligence and blockchain. The second largest bank, Bank of America Corp., spends roughly $3.5 billion annually on new technology initiatives alone, according to Chairman and CEO Brian Moynihan.

It’s a lot of money — and a level of spending that smaller banks can’t hope to achieve. Executives and directors primarily representing community banks under $10 billion in assets reported a median technology budget of $1.7 million for fiscal year 2021 in Bank Director’s 2021 Technology Survey, with a median increase in spending of 10% compared to the previous year.

Those limitations should have bank leaders thinking strategically about how to allocate those precious dollars. With that in mind, Bank Director’s FinXTech division polled bank executives in January and February 2022 about technology adoption trends, and asked about specific noncore solutions that have had a recent, significant impact toward achieving their goals.

Bankers identified 20 platforms as their favorites when it came to driving that change, ranging from digital lending solutions to data analysis. You can find the companies listed on page 7-8 of the report. To categorize the solutions by type, we relied on input from FinXTech Research Analyst Erika Bailey, who manages Bank Director’s FinXTech Connect platform, a guide to financial technology companies working with U.S. banks.

While the past 18 months found many banks putting digital account opening and lending platforms in place — in response to the digital acceleration brought about by the pandemic — banks shifted plans for the next 12 months to application programming interface (API) platforms, data aggregation and analysis, and workflow automation.

To gain additional perspective on these trends, we talked to the executives of three banks that are actively accelerating their digital journeys. Mascoma Bank, a $2.6 billion mutual in Lebanon, New Hampshire, is in the early stages of implementing an API-enabled, cloud-based core platform that will help the bank customize its product and service offerings. St. Louis-based Midwest BankCentre, with $2.4 billion in assets, leveraged its digital subsidiary to expand its capabilities to all of its customers; it will expand digital account opening to business clients in 2023. And West Reading, Pennsylvania-based Customers Bancorp, with $20 billion in assets, is using data-driven insights to fuel the next phase of its digital transformation.

Click here to access the poll results and learn more about how those banks are moving technology transformation forward in this special report.

Also included is a success checklist, questions that boards and leadership teams could ask to help strengthen their technology strategy.

Bank leaders should start by evaluating their organization’s strengths and how technology can align with strategy, advises Ron Shevlin, chief research officer at Cornerstone Advisors. “Stop thinking about technology adoption, and focus more on … the business opportunity,” he says. “Focus on the business results.”

Recapturing the Data That Creates Valuable Customer Interactions

Before the end of 2021, regulators announced that JPMorgan Chase & Co. had agreed to pay $200 million in fines for “widespread” recordkeeping failures. For years, firm employees used their personal devices and accounts to communicate about business with their customers; the bank did not have records of these exchanges. While $200 million is a large fine by any account, does the settlement capture the true cost of being unsure about where firm data resides?

In 2006, Clive Humby coined the phrased “data is the new oil.” Since then, big tech and fintech companies have invested heavily in making it convenient for consumers to share their needs and wants through any channel, anytime — all while generating and accumulating tremendous data sets makes deep customer segmentation and target-of-one advertising possible.

Historically, banks fostered personal relationships with customers through physical conversations in branches. While these interactions were often triggered by a practical need, the accumulated knowledge bankers’ had about their customers, and their subsequent ability to capitalize on the power of small talk, allowed them to identify unmet customer needs with products and services and drive deeper relationships. Fast forward to the present day: Customer visits to branches have dropped to unprecedented levels as they embrace digital banking as their primary way of managing their finances.

But managing personal finances is different from banking. While most bank interactions revolve around checking balances, depositing checks and paying people and bills, the valuable interactions involve open-ended conversations about the desire to be able to buy a first home, planning for retirement or education, and funding large purchases like cars. These needs have not gone away — but the way consumers want to engage with their institution has completely transformed.

Consumers want to engage their banker through channels that are convenient to them, and this includes mobile messaging, SMS, Facebook messenger and WhatsApp. JPMorgan’s bankers may not have been trying to circumvent securities regulations in engaging with customers on their terms. Failing to meet your customers where they are frustrates both customers and bankers. Failing to embrace these digital channels leads to less valuable data the bank can use.

Banking platforms — like digital, payment and core banking — can capture data that provides insight into consumers’ saving and spending behavior, but fails to capture latent needs. Institutions that make it more convenient for customers to ask their personal banker something than Googling it opens up an entirely new data source. Allowing customers to ask open-ended questions augments transactional insight with unprecedented data on forward-looking needs.

In a recent case study, First National Bank of Omaha identified that 65% of customers expressed interest in exploring new products and services: 15% for credit cards, 12% for home loans, 9% for investments, and 7% for auto loans.

If “data is the new oil,” the real value lies is in the finished product, not the raw state. While data is exciting, the true value is in deriving insights. Analyzing conversational data can provide great insight. And banks can unlock even greater value when they analyze unprocessed conversational data in the context of other customer behavior, like spending patterns, propensity to use other engagement channels and socio-demographic changes.

At present, most of this data is owned and guarded by financial processors and is not readily available for banks to access and analyze. As banks extend their digital engagement model, it is imperative they own and can access their data and insights. And as banks increasingly see the benefits of allowing customers to engage with their banker in the same way they talk to their friends, key considerations should include:

  • Conversation aggregation. Is a customer’s conversation with multiple bankers aggregated to a single thread, avoiding data lost through channel switching?
  • Are conversations across channels retained within a dedicated and secure environment?
  • Can conversations transition from one relationship banker to another, avoiding the downfall of employee attrition?
  • Are suitable tools powered by artificial intelligence and other capabilities in place to ensure a real-time view of trending topics and requests?
  • Data access. Is raw conversational data readily available to the bank?

Engaging customers through digital channels presents an exciting opportunity for banks. No longer will data live within the mind of the banker: rather, insight that are derived from both individual and aggregate analysis can become a key driver for both strategic and tactical decisioning.

An Inside Look At One Bank’s Digital Growth Planning

By now, most bank leadership teams understand the importance of offering well-designed digital experiences. What we’ve found is often more elusive is knowing where to start when making a significant investment in digital.

One bank that recently grappled with this was Boston-based Berkshire Hill Bancorp, the $11.6 billion parent company of Berkshire Bank.

Executives wanted to digitally transform the bank and that success would only be achievable if they unified around a core set of goals and built a robust strategic plan for reaching them. This vision allowed teams to work toward individual milestones along the way.

We recently spoke with Lucia Bellomia, EVP and head of retail banking and CIO Jason White. They gave us an inside look at what went into developing the Berkshire BEST plan for transformation, and the factors they believe will lead to their successful digital growth.

The Berkshire leadership team started by recognizing that if the plan was going to truly transform the entire bank, they needed to gather input and feedback from every department. “Executives spoke to stakeholders in every department to what milestones the bank would need to hit and what it would take to achieve those goals”, says Bellomia. They also formed groups specifically to achieve some of the components of that milestone.

Involving this many additional stakeholders extended the strategic planning phase — In Berkshire’s case, it took three months of meetings. But White felt the time spent laying a foundation of transparency and open communication will help the bank execute and fulfill the objective of the transformation.

Without some clearly defined pillars outlining your main goals, the whole process of starting the institution’s digital plan can feel chaotic and messy. White suggests that banks first investigate what it means for their institution to digitally transform, and then define the core strategic pillars from there.

Berkshire’s three core pillars were: optimize, digitize and enhance. These pillars support efforts to improve the customer experience, deliver profitable growth, enhance stakeholder value, and strengthen their community impact. Taking the time to first define core pillars that support a larger strategic plan helped Berkshire Bank recognize even greater opportunities. Rather than simply adding new digital services to their banking stack, they realized they could facilitate the evolution of their entire bank.

With the plan announced and in place, Berkshire launched into the execution phase of its transformation. Here, they were met with new challenges that required thoughtful commitments from leadership and investments in project infrastructure. One impactful early investment was developing a transformation office that was responsible for measuring, monitoring and communicating the success of the plan. Executives and sponsors worked with the office to define both date and monetary milestones.

A dedicated internal resource focused on project management helped Berkshire communicate the progress made toward each milestone through regular meetings, tracked and updated key performance indicators, and other updates.

Equally important to the success of Berkshire’s transformation plan was its commitment to scrutinizing each investment and vendor to ensure the right fit and an acceptable return on investment for the bank. The bank is a “low-code” development team with limited resources and used achievable digital goals to identify and select vendors to digitize, according to the bank’s plan.

As part of its transformation plan, the bank extended its existing fintech relationship to include digital banking platforms for consumer and small business customers. This allows the bank to innovate and digitize at an accelerated pace, without having to grow internal developer resources.

Ultimately, institutions like Berkshire Bank are realizing that developing a successful plan for digital transformation that works for both internal stakeholders and customers requires a rethinking of the way executive teams gather feedback, address challenges across departments, and monitor the success of a project.

Should You Invest in a Venture Fund?

Community banks needing to innovate are hoping they can gain an edge — and valuable exposure — by investing in venture capital funds focused on early-stage financial technology companies.

Investing directly or indirectly in fintechs is a new undertaking for many community banks that may lack the expertise or bandwidth to take this next step toward innovation. VC funds give small banks a way to learn about emerging technologies, connect with new potential partners and even capture some of the financial upside of the investment. But is this opportunity right for all banks?

The investments can jump start “a virtuous circle” of improvements and returns, Anton Schutz, president at Mendon Capital Advisors Corp., argues in the second quarter issue of Bank Director magazine. Schutz is one of the partners behind Mendon Ventures’ BankTech Fund, which has about 40 banks invested as limited partners, according to S&P Global Market Intelligence.

If there is a return, it might not appear solely as a line item on the bank’s balance sheet, in other words. A bank that implements the technology from a fintech following a fund introduction might become more effective or productive or secure over time. The impact of these funds on bank innovation could be less of a transformation and more of an evolution — if the investments play out as predicted.

But these bets still carry drawbacks and risks. Venture capital dollars have flocked to the fintech space, pushing up valuations. In 2021, $1 out of every $5 in venture capital investments went to the fintech space, making up 21% of all investments, according to CB Insight’s Global State of Venture report for 2021. Participating in a VC fund might distract management teams from their existing digital transformation plan, and the investments could fail to produce attractive returns — or even record a loss.

Bank Director has created the following discussion guide for boards at institutions that are exploring whether to invest in venture capital funds. This list of questions is by no means exhaustive; directors and executives should engage with external resources for specific concerns and strategies that are appropriate for their bank.

1. How does venture capital investing fit into our innovation strategy?
How do we approach innovation and fintech partnerships in general? How would a fund help us innovate? Do we expect the fund to direct our innovation, or do we have a clear strategy and idea of what we need?

2. What are we trying to change?
What pain points does our institution need to solve through technology? What solutions or fintech partners have we explored on our own? Do we need help meeting potential partners from a VC fund, or can we do it through other avenues, such as partnering with an accelerator or attending conferences?

3. What fund or funds should we invest in?
What venture capital funds are raising capital from community bank investors? Who leads and advises those funds? What is their approach to due diligence? Do they have nonbank or big bank investors? What companies have they invested in, and are those companies aligned with our values? What is the capital commitment to join a fund? Should we join multiple funds?

4. What is our risk tolerance?
What other ways could we use this capital, and what would the return on investment be? How important are financial returns? What is our risk tolerance for financial losses? Is our due diligence approach sufficient, or do we need some assistance?

5. What is our bandwidth and level of commitment?
What do we want to get out of our participation in a fund? Who from our bank will participate in fund calls, meetings or conferences? Would the bank use a product from an invested fintech, and if so, who would oversee that implantation or collaboration with the fintech? Do bank employees have the bandwidth and skills to take advantage of projects or collaborations that come from the fund?

Busting Community Bank Credit Card Myths

Credit card programs continue to be among the most significant opportunities for the nation’s largest banks; is the same true for community banks?

After a slowdown in 2020, credit card applications grew back to pre-pandemic levels in 2021. It is projected that credit cards will experience strong growth in 2022, particularly in small business and commercial segments. While a few community banks recognize the business opportunity in credit cards, according to Federal Deposit Insurance Corp. reports, over 83% do not own any credit card assets on their books.

The potential rewards of issuing credit cards are huge. Customers who have more financial products with their bank show improved retention, with more activity across the products, leading to higher profitability. It can help community banks serve their local community and improve their customers’ financial health. And community banks can realize a high return on assets (ROA) from their credit card program.

Despite these benefits, community bank executives hold back their institutions from issuing credit cards due to several myths and misconceptions about the space. Credit card issuing is no easy task — but with available technology and servicing innovations makes it possible to bust these myths.

Myth 1: The Upfront Investment is Too High
While it would be a significant investment for a financial institution to put together a credit card program from scratch, there is no need to do that. A bank can leverage capabilities built and offered by companies who offer credit cards as a service. In fact, community banks need to make little to no upfront investment to add innovative solutions to their offerings.

Myth 2: Customers are Well Served by Agent Banks
In the past, many community banks opted to work with an agent bank to offer credit cards because it was the only option available. But participating in an agent bank referral program meant they essentially lost their customer relationship to the issuing bank. Additionally, the community banks cannot make their own credit decisions or access the credit card data for their own customers in this model. Alternative options means that banks should consider whether to start or continue their agent bank credit card offering, and how it could affect their franchise in the long run.

Myth 3: Credit Card Programs are Too Risky
A handful of community banks have chosen to issue subprime credit cards with high fees and interest rates — and indeed have higher risk. However, sub-prime lending is not the focus of vast majority of community banks. Relationship lending is key; credit cards are a great product to deepen the relationships with customers. Relationship-based credit card portfolios tend to have lower credit losses compared to national credit card programs, particularly in economic downturns. This can provide comfort to conservative bankers that still want to serve their customers.

Myth 4: Credit Card Programs are Unprofitable
This could not be further from the truth. The average ROA ratio overall for banks increased from 0.72% in 2020 to 1.23% in 2021, according to the Federal Deposit Insurance Corp.; credit cards could be five times more profitable. In fact, business credit cards and commercial cards tend to achieve an ROA of 8% or higher. Commercial cards, in particular, are in high demand and expected to grow faster due to digital payment trends that the pandemic accelerated among businesses. Virtual cards provide significant benefits to businesses; in turn, they increase spend volume and lead to higher interchange and lower risk to the bank.

Myth 5: Managing Credit Cards is Complex, Time-Consuming and Expensive
Banks can bust this myth by partnering with a organizations that specialize in modern technology and program management of credit cards. There is technology available across all card management disciplines, including origination, credit decision making, processing, sales/servicing interfaces, detailed reporting, integrated rewards, marketing and risk management. Partners can provide expertise on policies and procedures that banks will require for the program. Community banks can launch and own credit card programs in 120 days or less with innovative turnkey solutions — no new hires required.

Considering the past challenges and perceptions about credit cards, it is no surprise that these misconceptions persist. But the future of credit cards for community banks is bright. Community banks armed with knowledge and foresight will be positioned for success in credit cards. Help from the right expertise will allow them to enhance their customer experiences while enjoying high profitability in the long run.