To what extent that fintechs could possibly disrupt the market is still hard to predict. But the lending business is no doubt undergoing a paradigm shift. The old model of commercial banks was the interest rate spreads and fees backed by fairly rigid regulatory and sophisticated licensing regimes. The conventional perception of commercial banking functions consists of expanding deposits on a significant scale and then chasing after well-connected large businesses to extend credit. Hence, private small enterprises are usually underserved, suffering financial challenges at different critical moments of their life cycle. A review of the cost of lending makes such financing gaps sensible: commercial banks reported that a small business client was profitable only if it purchased more than three products. In China, lending cost to one small or medium-sized enterprise was as high as 30 percent of the country’s GDP per capita in 2013–2014. Yes, call centers and Internet banking had already been widely used, but they were often created and promoted by bureaucrats from individual banks. The technologies tend to be closed systems and information was not shared across crucial SD 4 trillion US dollars globally. Today, we have reached the digital tipping point. Cost reduction and data accessibility are playing instrumental roles in constructing a customer-centric model in the banking industry. Fifty years ago, ATMs were perceived as breakthroughs for financial inclusion, and they squeezed the cost of serving a client for physical banks to 21%. The rise of Internet banking two decades ago further cut it to 4%. When fintechs are beginning to shake up the industry, the cost finally falls to only 1~2%. Looking beyond individual digital gadgets, we can also find innovations that integrate different parts of the ecosystem into one single data analytic compass. By constantly tracking behavioral data pertaining to small retailers on its internet-based shopping platform, Alibaba is closely monitoring their transactions, constantly collecting valuable data that could be used for generating customized credit scores and risk models, which no banks were able to achieve ever before. The lending process that was built on this approach has proved reliable and timely, where oftentimes no collateral is required. Per transaction, the cost of extending credit has dropped by 1000 times to only 0.36 USD for Alibaba. It appears that traditional brick-and-mortar banks are facing steep challenges posed by fintechs. So, is this an alert that new technology entrants will ‘cherry pick’ key products and quickly eat into banks’ small business market share? Should banks be transformed into technology companies? In fact, customer management approaches targeting SME borrowers already existed even prior to this tipping point. IFC Customer Management in SME Banking report suggests that customer management is a concept explaining good practices of understanding customer needs, matching them with banks’ offers, and managing long-lasting relationships through customer life-cycle. Experiences in the EU and the US have revealed that effective customer management leads to greater profitability — ROE performance. In a study carried out by Roland Berger, a consultancy, Banks are categorized into different performance groups as in Figure 1. Group 1 employs customer management approaches. By contrast, Group 4 and 5 banks have not yet seen the value of strategies. The findings have shown a clear relationship between customer management and the ROE of different performance groups. Segmentation is one of the SME customer management strategies. And the IFC report features Garanti Bank in Turkey as a good example, which involves deciding which SMEs to target and identifying segments requiring distinct offers. At the Bank, industrial sectors were used primarily to sub-segment the customer base. Gender was also used as a parameter of sub-segmentation to a degree. Then, the Bank identifies the individual needs of each sub-segment through in-depth market research. This, in turn, facilitates the development of a sub-segment ‘proposition’ comprising around 20 product bundles. Garanti Bank has a market share of SMEs that is three times higher than in its other segments and has become the leading SME bank in Turkey. Other than segmentation, the IFC has also pointed out acquisition, cross-selling, retention, and collection as fundamental customer management phases. If, in the past, only a few banks could afford to acquire the full set of capabilities in customer management due to considerably high overheads and walled fortresses of data scattered around the world, then today’s digital innovation can make this approach much more viable and applicable for the majority. From this perspective, the customer-centric model does not require a sharp switch of industries but can actually be achieved within the banking sector itself with the help of innovative technologies. The real question now is: Will banks successfully marry digital technologies with their SME customer management approaches in this new age of ‘creative destruction’? If yes, how? If No, why not? Note: The author is the founder of Stonelake Capital (www.stonelake.capital) and wrote this article as a consultant to the World Bank Group. To what extent that fintechs could possibly disrupt the market is still hard to predict. But the lending business is no doubt undergoing a paradigm shift. The old model of commercial banks was the interest rate spreads and fees backed by fairly rigid regulatory and sophisticated licensing regimes. The conventional perception of commercial banking functions consists of expanding deposits on a significant scale and then chasing after well-connected large businesses to extend credit. Hence, private small enterprises are usually underserved, suffering financial challenges at different critical moments of their life cycle. A review of the cost of lending makes such financing gaps sensible: commercial banks reported that a small business client was profitable only if it purchased more than three products. In China, lending cost to one small or medium-sized enterprise was as high as 30 percent of the country’s GDP per capita in 2013–2014. Yes, call centers and Internet banking had already been widely used, but they were often created and promoted by bureaucrats from individual banks. The technologies tend to be closed systems and information was not shared across crucial SD 4 trillion US dollars globally. Today, we have reached the digital tipping point. Cost reduction and data accessibility are playing instrumental roles in constructing a customer-centric model in the banking industry. Fifty years ago, ATMs were perceived as breakthroughs for financial inclusion, and they squeezed the cost of serving a client for physical banks to 21%. The rise of Internet banking two decades ago further cut it to 4%. When fintechs are beginning to shake up the industry, the cost finally falls to only 1~2%. Looking beyond individual digital gadgets, we can also find innovations that integrate different parts of the ecosystem into one single data analytic compass. By constantly tracking behavioral data pertaining to small retailers on its internet-based shopping platform, Alibaba is closely monitoring their transactions, constantly collecting valuable data that could be used for generating customized credit scores and risk models, which no banks were able to achieve ever before. The lending process that was built on this approach has proved reliable and timely, where oftentimes no collateral is required. Per transaction, the cost of extending credit has dropped by 1000 times to only 0.36 USD for Alibaba. It appears that traditional brick-and-mortar banks are facing steep challenges posed by fintechs. So, is this an alert that new technology entrants will ‘cherry pick’ key products and quickly eat into banks’ small business market share? Should banks be transformed into technology companies? In fact, customer management approaches targeting SME borrowers already existed even prior to this tipping point. IFC Customer Management in SME Banking report suggests that customer management is a concept explaining good practices of understanding customer needs, matching them with banks’ offers, and managing long-lasting relationships through customer life-cycle. Experiences in the EU and the US have revealed that effective customer management leads to greater profitability — ROE performance. In a study carried out by Roland Berger, a consultancy, Banks are categorized into different performance groups as in Figure 1. Group 1 employs customer management approaches. By contrast, Group 4 and 5 banks have not yet seen the value of strategies. The findings have shown a clear relationship between customer management and the ROE of different performance groups. Segmentation is one of the SME customer management strategies. And the IFC report features Garanti Bank in Turkey as a good example, which involves deciding which SMEs to target and identifying segments requiring distinct offers. At the Bank, industrial sectors were used primarily to sub-segment the customer base. Gender was also used as a parameter of sub-segmentation to a degree. Then, the Bank identifies the individual needs of each sub-segment through in-depth market research. This, in turn, facilitates the development of a sub-segment ‘proposition’ comprising around 20 product bundles. Garanti Bank has a market share of SMEs that is three times higher than in its other segments and has become the leading SME bank in Turkey. Other than segmentation, the IFC has also pointed out acquisition, cross-selling, retention, and collection as fundamental customer management phases. If, in the past, only a few banks could afford to acquire the full set of capabilities in customer management due to considerably high overheads and walled fortresses of data scattered around the world, then today’s digital innovation can make this approach much more viable and applicable for the majority. From this perspective, the customer-centric model does not require a sharp switch of industries but can actually be achieved within the banking sector itself with the help of innovative technologies. The real question now is: Will banks successfully marry digital technologies with their SME customer management approaches in this new age of ‘creative destruction’? If yes, how? If No, why not? Note: The author is the founder of Stonelake Capital (www.stonelake.capital) and wrote this article as a consultant to the World Bank Group. Note: The author is the founder of Stonelake Capital (www.stonelake.capital) and wrote this article as a consultant to the World Bank Group. Note: The author is the founder of Stonelake Capital (www.stonelake.capital) and wrote this article as a consultant to the World Bank Group.

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