Swift changes in customer expectations are driving massive transformation in the banking industry. To meet these high expectations, banks need to adopt new technologies that help them become data-driven institutions. Further accelerating the situation is rising competition from non-bank (neo) tech companies. Moreover, the emerging business model of digital-only banks has attracted significant interest across the global financial services industry. In the US, 23.1 million customers transact with digital-only banks and this customer base is expected to reach 47.5 million by 2024 (19.8% CAGR from 2020). Instrumental to the success of these banks is their commitment to provide a seamless customer experience, driven by innovation, low costs, and efficient processes.
Trends that matter today for banks
1. Rising customer expectations
Customers no longer consider banks as just custodians or guardians of their money. This is because tech megaliths have completely redefined the user experience for their customers, which has shifted customer expectations to a new trajectory in the financial services world.
Hyper-personalization has been and continues to be the holy grail, the enduring aspiration for the services industry, with banks too having started investing in such tools to engage with customers in real-time and deliver products and services most aligned with their needs. AI/ML-driven processes are making it possible to analyze customer patterns, credit histories, and other unstructured data to create realistic data models for recommending financial services based on customers’ lifestyle choices.
3. Data-driven institution
Banks are adapting and transforming their business models to serve the growing millennial and Gen Z populations. This demographic is making use of banking and financial services predominantly through digital channels and has a significantly lower penchant for traditional business models. These tech-savvy users have forced financial institutions to adopt data-driven business models.
4. Emergence of tech companies
Today, digital transformation has prompted tech companies to enter the banking and payments sector. Big techs and FinTechs continue to make significant inroads into the banking system, specifically targeting millennials and Gen Z customers. The end-to-end customer experience provided by them is propelling banking services toward innovation in delivery and real-time processing.
Cloud-based core to accelerate the future of banking
Legacy core banking systems are built on outdated technology and present numerous challenges to incumbent banks in the form of a lack of agility, scalability, and innovation. This also acts as a deterrent to the business transformation agenda of banks. Moreover, cloud-based core banking systems are making it easier for non-financial firms to launch banks and new service offerings, thus questioning the relevance of legacy operations in traditional banking. A recent Wipro FullStride Cloud Services global study Making Business Thrive: A Cloud Leader Roadmap for Achieving 10x ROI found that cloud boosts the performance of financial services firms in the US, lifting revenue by up to 7.8% for those that are leaders in cloud usage. US firms on average see an ROI of 30% on their cloud investments, along with greater market share, higher revenue, lower costs, increased profitability, and improved risk management. Therefore, large banks are evaluating their core banking platforms and closely monitoring market trends to embark upon a core banking modernization journey.
1. Hand-cuffed by Legacy systems
Emerging customer expectations have accelerated the need for digital transformation, as new banking offerings are likely to be delivered to the market within days/weeks, not months. FDIC Chairman Jelena McWilliams recently mentioned that banks’ reliance on outdated legacy systems is her foremost concern for the sector.
“Large banks have been slow in up-gradation of their old IT systems as nearly 50% of them do not update these systems at the right time. Moreover, 43% of US banks still use COBOL, a programming language dating from 1959, and extra layers embedded on top of it are causing regular outages”
2. The Need for Change
Banks are rethinking their long-term approach to core banking systems (CBS). Their current CBS platforms, in many cases, are legacy, rigid, difficult to expand and maintain, and being challenged by the emerging digital banking ecosystem. These CBS platforms lack the agility, innovation, and operational efficiencies to address the ever-changing customers’ banking needs and expectations. Therefore, banks are evaluating different approaches to core modernization, ranging from big bang, rip-and-replace approach to a progressive transformation.
“Over 50% of mid-market banks (USD 10-100 billion of assets) believe in progressive transformation and gradually reduce the dependency on legacy core banking systems. Approximately 69% of mid-market banks are at varying stages of their core banking modernization journeys and around 27% are yet to embark on the journey but believe it is an immediate priority for the bank.”
3. Cloud-based core and Business Transformation
Cloud-based core banking strategies are on the rise within a broad range of banking segments and are witnessing an expansion in different geographies. Many banks are considering public cloud deployment a primary objective of their core banking modernization program. Some analysts predict that banks would largely shift to a cloud-based microservice architecture in the next few years. This is largely aligned with business needs, which include the introduction of new offerings, fast-to-market, low-risk phased implementation, and reduce IT costs (up to 50% vs. legacy).
“Global core banking modernization/transformation opportunity is expected to grow from USD 9.4 billion in 2020 to USD 35 billion by 2028 (CAGR of 18%) with around one-third the banks considering a cloud-native solution for modernization.”
Ways to approach legacy core modernization
Legacy core banking has been the mainstay of banks all over the world with banks making significant investments to maintain and upgrade these systems. However, the creation and delivery of banking products and services to customers is changing rapidly with the growing adoption of digital banking and the usage of emerging technologies such as APIs and cloud. As the banking business is increasingly evolving into a real-time – available anytime/anywhere, data-driven, AI/ML-driven, hyper-customized to users’ needs, and with very short time-to-market requirements – a new generation of cloud API-driven CBS will be needed to deliver a banking platform designed for change and to meet the demands of the future. Highlighted below are four core modernization approaches that banks can choose as they embark upon this journey.
Approach 1: Focus on a specific business area
This approach involves the modernization of a specific business area and does not encompass legacy core migration. The key focus is to reinvent business digital processes and launch a minimal viable product (MVP) within six months, particularly on the cloud. Business value drivers include faster product launch, expanded digital banking offerings, and the beginning of a legacy core modernization journey. The key intent of banks is to respond to changing customer needs quickly while maintaining the business relationship and market share. The risks of this approach are 1) cultural change to build a specific digital talent; 2) technology capabilities to be developed for the cloud; and 3) adoption of agile ways of working.
Approach 2: Replacement of legacy core with a new system
This strategy involves the end-to-end replacement of the existing core banking system with modern banking platforms. Business drivers include expansion of digital banking offerings, increase in customer acquisition across new geographies/demographics, and a reduction in legacy IT cost and maintenance risks. However, this approach poses a hazard for banks, as it exposes them to high investments and a long-drawn deployment cycle. It also necessitates an organization-wide commitment and a structured approach to manage the complexity involved in migration to a new core banking system.
Approach 3: Gradual and progressive transformation
In this approach, banks need to engage with a new vendor to adopt a new core banking system gradually and progressively. Banks benefit by moving to a best-of-breed application – based on new technology – in a phased manner. However, this approach also comprises lengthy deployment cycles, which can last for years and often involve high costs associated with the layers of core banking systems that run in parallel.
Approach 4: Extension of the core by building microservices
This approach involves banks extending the core by building a microservices layer, closely linked to existing core systems. Business drivers include a responsive architecture to build business agility and support innovation, such as open banking. However, decoupling of existing functionality can be a challenge; hence, identification of the ‘right’ use case is important. Other risk factors include dependence on partner systems/other core banking features that may not be identified completely when moving some features to the microservices layer. Additionally, assembling the right talent can prove to be difficult.
What Lies Ahead
In practice, the right core modernization approach will vary for each bank depending on its long-term business goals and will most likely comprise a combination of the approaches listed above. For example, core modernization may involve replacement of the aging legacy core with a cloud-driven core, but the implementation may be incremental and broken down into multiple MVP phases, each focused on specific, well-defined offerings. This will allow a faster time-to-market with respect to offerings, while limiting transition risks and reducing overall cost. Moreover, along the course of replacing the legacy core with cloud core technology, coexistence architecture will need to be designed and deployed to allow the old to interact with the new, until a full transformation to the new cloud Core platform is achieved. This may involve data sharing, API and microservices wrapper development for legacy core components, and seamless integration with both Fintech and legacy banking peripheral systems.
Legacy banks are undertaking many transformation initiatives to align themselves with the changing market paradigm and customer demand. Cloud-based core modernization is critical to help banks transmute into the digital institutions of the future. This includes having an effective cloud implementation strategy, over half of financial firms in the US also roll out change management strategies and create governance policies, implementation plans and appoint a cloud leader to drive deployment, and put ROI measurements and tracking systems in place.
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Interested in more? Check out our other articles:
Hyper-personalization: Customer engagement and the future of financial services.
Modernizing the core banking system: Enabling the future
Partner at Wipro Consulting and a Leader in the Core Banking Transformation Practice
Oded is an industry veteran with over 20 years of experience in core banking design and implementation, core platform modernization, online banking, mobile banking, digital payments, and digital automation technology innovation. An industry thought leader and keynote speaker, he specializes in envisioning and developing cutting-edge banking digital transformation channels and pioneering the modernization of legacy core banking platforms to the cloud.
Supported by: Shri Dhar, Senior Manager – Wipro Insights