Banks and fintech: the next step

In recent years, the Philippine banking ecosystem has undergone rapid digital transformation driven by sweeping technological advances. The Philippine Banking Almanac states that the Philippine banking industry started as a government venture to provide deposit services and fund production in the agricultural and commercial industries. That was 160 years ago and since then, the industry has evolved to include various aspects of financing, up to the ubiquitous digital systems that are now used all over the world. This is no surprise since the banking industry has always been characterized by continuous, customer-driven innovation.

RISE OF E-BANKING
E-banking first revolutionized the Philippine banking industry in the 1980s with the introduction of automated teller machines (ATMs). These machines eliminated several geographic and time constraints as they allowed customers in urban areas to conduct cash withdrawals and deposits on an everyday basis. In 1999, the invention of smartphones, coupled with developments in the telecommunications industry, paved the way for early versions of mobile banking. Customers could now conduct basic banking transactions such as balance inquiry and fund transfers to accounts within the bank using a short messaging service (SMS). This was followed by internet banking in 2000 which allowed customers to accomplish transactions through computers and the Internet. It was at this point that banks started to veer away from their traditional bricks and mortar operations, integrating both online and offline operations into their physical presence.

FINTECH SOLUTIONS AND OPPORTUNITIES
As technology continued to improve alongside the increase in mobile ownership and Internet subscriptions, the next few years saw a rise in the adoption of financial technologies (FinTech). Financial services became further digitized with the invention of mobile wallets, payment gateways and virtual currencies. These services are now more accessible and convenient than ever as Filipinos can conduct transactions, pay bills, and purchase goods and services using applications on their personal computers or smartphones. However, most of these innovations are not actions of banks but initiatives of FinTech companies that envision providing enhanced financial services at a reduced cost.

FinTech solutions present many opportunities for the Philippines that can be summarized in three main points.

First, it reduces the country’s dependence on a paper-based payment system. A 2015 case study by the Better Than Cash Alliance (BTCA) titled Leaving money on the table: The corporate and SME experiences of digitizing business payments in the Philippines found that digital payments could save Philippine banks about $1.52 per transaction. Also, a digital payment system reduces the risk of graft and corruption because records are automatically created as money passes between accounts.

Second, FinTech can spur greater financial inclusion. The 2017 Global Findex report by the World Bank revealed that majority of Filipinos remain unbanked with only 34.5% of adult Filipinos holding formal financial accounts. Access to financial services remains a challenge because it is difficult for banks to establish physical branches across the more than 7,000 islands that comprise the Philippines. However, FinTech services transcend geographical barriers by granting accessibility through technological platforms.

Third, it provides SMEs with alternative financing opportunities. According to a 2019 study by the Milken Institute, FinTech in the Philippines: Assessing the State of Play, SME lending only made up 2.5% of the total lending portfolio of commercial banks. Sources of capital are a pressing issue for small business owners who are unable to fulfill the loan requirements set by banks. FinTech start-ups have developed an alternative credit-scoring system that can assess the repayment capacity of potential borrowers, allowing Filipinos without a formal credit history to apply for loans.

COLLABORATION AND INNOVATION
Today, FinTech has become a major industry composed of start-ups that are creating solutions for payments, consumer lending, financing for SMEs, remittances, logistics and transportation, and investments. The 2017 EY FinTech Adoption Index emphasized the recent rise in the percentage of digitally active FinTech consumers. The survey conducted across 20 selected markets revealed that 50% of consumers use FinTech money transfer and payment services. Furthermore, 64% of consumers prefer using digital channels to manage several aspects of their lives. The study revealed that global FinTech adoption could increase to an average of 52%. The expansion of the FinTech industry is also due to the efforts of the Bangko Sentral ng Pilipinas (BSP) to continually update and reform much of their regulatory framework in response to the recent financial services trends.

As the industry continues to gain momentum, it also gains capital from investors. In fact, over P5 billion was invested in the Philippine FinTech sector in 2018. These companies have been steadily gaining customers, expanding their market share, and competing with the banking industry.

However, partnership and collaboration — not competition — between banks and FinTech companies can maximize innovation and unlock the potential of the Philippine banking industry’s digital future. Essentially, banks and FinTech companies share the same goal: to deliver better financial services, improve regulatory compliance and reduce long-term costs.

FinTech companies offer a wide range of products such as robotic process automation, data analytics and artificial intelligence that can greatly enhance the business operations of banks. They are also more flexible in integrating and working with cryptocurrencies, rewards and loyalties in the form of tokens, and becoming the cash in and cash out alternatives.

In addition, some FinTechs are capable of giving their partners and clients revenue in the form of rebates or commissions through services such as mobile e-loading and financial transactions.

Meanwhile, banks are adept at handling the common challenges faced by FinTechs such as the significant costs incurred due to customer acquisition and the barriers encountered in cross-border business. Banks are also experienced in handling costly compliance matters such as Anti-Money Laundering Act (AMLA) and Know-Your-Customer (KYC) regulations.

The anonymity that online financial services provide poses risks to AMLA and KYC regulations as cybercriminals and money launderers may see FinTechs as instruments for financial crimes.

To better protect financial institutions from money laundering and other financial cybercrimes, BSP issued Circular no. 950 which contains additional requirements for AMLA and KYC compliance. Complying with these regulations is expensive and can greatly impact the finances of FinTech startups, but these costs are bearable for large financial institutions such as banks. Thus, FinTechs can benefit from the banks’ compliance and regulatory competencies, especially if they are already reaching their marketing saturation points.

With the relative advantages of each side, it is clear that strong collaboration between banks and FinTech companies have great potential and opportunities that can result in relevant and sustainable solutions for their customers.

In order for banks to form successful strategic relationships with FinTechs, they need to clearly define their digital solutions goals. Then, they must work together to design a FinTech framework that best suits their business needs, size, culture and operations as well as their customers’ banking needs and expectations. Banks should also encourage innovation initiatives that promote their long-term growth strategies.

FUTURE OF THE FINANCIAL SERVICES INDUSTRY
The change-driven history of financial institutions demonstrates that adopting emerging technologies unlocks many opportunities. Today’s digitally competitive business landscape requires leaders of financial institutions to embrace sustainable technological transformation and pioneer innovation. In turn, these efforts will lead to financial services that deliver prime transformational value to Filipinos, ultimately boosting their financial well-being and strengthening the economy.

This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the authors and do not necessarily represent the views of SGV & Co.

Armando N. Cajayon, Jr. is a Principal in the Advisory Services of SGV & Co.