A true digital-only strategy hasn’t historically been within most financial institutions’ (FIs’) scope of comfort. They worried about not knowing the market intimately enough, and as a result, have often had fractured support among the executive ranks. But now, banking as a service is upending this paradigm by offering the promise of significant revenue gains for financial institutions who choose to participate.
Banking as a service, or a partnership system between an FI, a fintech or brand, and a platform provider to provide embedded banking services, has changed the competitive landscape for all parties. Five years ago, FIs and fintechs viewed each other as competitors, with fintechs nipping at the niche products and market segments that FIs didn’t find profitable to target. Now, that’s no longer the case. “There’s such a big win in this for financial institutions that want to participate,” says Paul Walker, GM of Q2’s Banking as a Service division. “In this partnership model, [FIs and fintechs] can win, and win big.”
Paul Walker recently sat down with Tearsheet to discuss how banking as a service is driving growth for financial institutions. Listen to the full podcast here.
According to Walker, FIs have traditionally viewed digital as a complementary strategy, not an exclusive strategy. But now these institutions can move into a new, digital-first role by partnering with fintechs and brands in this banking as a service model. Think of it as a division of duties. While fintechs and brands take on the responsibility of user experience, marketing, promotion, and customer acquisition, FIs work in the background to provide oversight and compliance. “They are the regulatory interface,” says Walker. “Playing that role primarily is something they’re very comfortable with, and it’s really where they excel.” In this arrangement, FIs no longer directly interact with the end user, so they need to develop a completely different go-to-market strategy. That makes some FIs uncomfortable, but in order to compete in this new digital-first world, they need to have a locked-in digital strategy, or else they’ll fall to competitors who are willing to adapt.
Different options for different strategies.
Fortunately, even if an FI is uncomfortable with the prospect of not owning the customer relationship, there are options. Walker paints a scenario where traditional FIs can launch a digital bank (imagine a challenger bank owned by the FI) using a separate, cloud-based core. One of the key benefits of banking as a service is that it allows FIs to serve new market segments — particularly the underbanked — and by launching a digital bank brand instead, FIs can accomplish that in a different way.
What type of growth are we talking about?
The growth available to FIs who participate in banking as a service is staggering. Walker says, “Oftentimes, these banks have been around for 40 or 50 years, and maybe maxed out at a portfolio of 50,000 to 80,000 total account holders. Now, after a couple of years of partnering with some of these fintechs and brands, they’re now sitting on a couple million consumer accounts.”
Is this sort of growth typical of all banking as a service arrangements? It depends on who your platform partner is. Q2 has proven scale, having successfully launched some of the largest brands in the market. “I think very few providers can demonstrate that success,” says Walker.
Another key factor in the success of companies who partner with Q2 is the fact that we offer a separate, cloud-based core processor. Walker clarifies that “we often have competitors who may actually be middleware sitting on a legacy core, which could be problematic in certain areas of this business.” Middleware is an intermediary layer that translates the information from the digital banking product into the legacy core, the ledger where each user’s financial information is stored. One of the main problems with middleware solutions is they often have to be updated separately from the core, which can cause technology glitches. In Q2’s case, we are the core processor, which brings a greater level of certainty and stability to financial transactions — key qualities when you’re looking at significant scale.
What types of banking products can financial institutions help fintechs and brands provide?
Fintechs and brands want to offer true banking products: DDA offerings, paperless checking accounts, savings accounts, debit cards, etc. Not things like prepaid cards. “They want true DDA accounts because in most cases, they’re not just looking to launch a card — they’re looking to offer an extensive portfolio when it’s all said and done,” says Walker. Cards are an important stage-one rollout, but large fintechs and brands typically want to offer much more. A full portfolio of financial products, at scale. That’s why it’s important for FIs who wish to enter the banking as a service space to develop a separate strategy, one that differs from their typical in-person service arrangements. FIs need to move at a quicker pace, the pace that most fintechs and brands move at.
Banking as a service offers the promise of more, better financial products for more people. And the FIs, fintechs, and brands who choose to participate are positioned to do very well for themselves. But it’s important to understand the different technology and business arrangements that are at play before choosing a partner. That’s why we’ve written a comprehensive eBook, “The Age of Abundant Banking: How to stay innovative when every company offers a debit card.” It covers everything from the rise of fintechs to the nuances of banking as a service platform options, giving you the full scoop on this exciting area of financial services.
