Time Is Now for Banks to Rethink Payment Strategies

For banks to realize new revenue streams as payment transactions evolve, they need to redefine their value proposition to existing and prospective customers. Panelists here at Oracle Corp.'s OpenWorld session titled "Fueling Your Payments Revenue with High Octane Information" said banks must go beyond managing the movement of money and consider managing the information embedded in the payments that come in over multiple payment networks.

Preparation for implementing the Check Clearing Act for the 21st Century (Check 21) has prompted many banks to invest in IT. Michael Noble, executive vice president of bank operations at Wells Fargo Bank, said that although there hasn't been a lot of noise surrounding the implementation of Check 21 so far, he expects that to change in 2005. "We have to defend our franchise," Noble said. "There are lots of profits to be had in handling payments of various types."

Is Check 21 a door to mass fraud? Find out here.

One challenge banks are dealing with, Noble said, is the gradual phasing out of checks as a way to make payments. "Banks have been predicting the death of checks since the 1960s, but now we see evidence that they really are going away," he said. "The paper volume of transactions is dropping significantly, while the total payment volume is increasing."

Noble estimated that there were 42.5 billion checks processed in 2000, which is dropping to approximately 37.9 billion in 2004. By 2007, he expects checks to drop to 31.1 billion. At the same time, the number of electronic payments is growing—from 30.7 billion in 2000 to 45.1 billion in 2004 to an estimated 60 billion in 2007. Losses in paper check volume are being more than made up by electronic transactions.

The shift to electronic transactions is changing how banks process payments. They are moving away from the current hub-and-spoke arrangements, necessary when moving physical checks from bank to bank, to a more distributed mode of processing. "We're capturing payments on the desktop rather than running paper checks through mainframes," Noble said. "It's a sea change in the banking industry."

William Randle, CEO of Synoran, a software and services firm that offers Web service technology to deliver payment information across the enterprise, said the next generation of payment processing will go much deeper than Check 21 requires. "The opportunity goes well beyond checks," said Randle, "It's about image capture and transfer. It's an opportunity brought on by legislation that can go much further."

Randle cited the $490 billion spent on IT across global financial services firms, and estimated that only 27 percent of that expenditure went toward new development in 2001. Operations and maintenance gobbled up 63 percent, while 10 percent was spent enhancing existing technology. Banks need to move from hard-wired payment processing to distributed processing modes, and they need to adopt strategic IT models that bring them a competitive advantage, Randle said. He strongly recommends that financial institutions rethink their IT spending to support the rapid pace of business change. "Business agility and time-to-market are more important than cost considerations," he said. "An optimal payment strategy can generate additional revenue."

Next Page: Knocking down the silos.

Randle sees a broad and bold future for financial services firms, once they make IT a competitive advantage rather than merely a commodity. He said banks have a motivation to consolidate globally now, with risk as a driver to enterprise systems. The first thing banks need to do is change from a silo-based system to improve security and to streamline processes. "Banks are notorious for cannibalizing their own payment processes," Randle said. "They must understand total costs and revenues rather than treating each payment type separately."

Gary Cawthorne, vice president and managing partner for Unisys Corp., said banking IT is currently organized into silos around the various payment systems they support. A bank might support wire transfers, remittance and lock boxes, credit cards, ACH, and the traditional paper checks. These information silos create redundancies in supporting applications, modes of reconciliation, customer service, sales channels, management, and technology and integration. Cawthorne cited the example of a UK-based bank that he saw had 403 different payment systems—and a lot of costly redundancy. These redundancies provide little value to customers and generate no revenue.

"We believe image transfer is a catalyst to begin implementing a payments architecture," Cawthorne said. Through this architecture, a bank can consolidate metrics from payments into a data mart, complete with business analytics, he said. Consolidation of payment types can provide improved research, fraud detection and regulatory reporting. It can also allow a bank to handle domestic and international account transfers, which is becoming an issue in Europe with cross-border payments.

Cawthorne estimated that payments provide banks with 35 percent of their revenues, so it's important to understand the profitability of the various payment types. "How can a bank get a grip on profitability if the payments are buried within functional silos?" he asked. "We're moving to an age where it's all about the information, not just the payment." Cawthorne believes that image quality and usability should be high on a bank's priority list.

Peter Winner, Oracle's director of financial services, said payments are no longer about moving money, but about the information associated with the payment. "The industry must capture this information and move it across the enterprise," Winner said. The more a financial institution knows about a particular transaction, the more it can predict that client's behavior. "Technology improvements can make end-to-end integration possible," Winner asserted.

Winner recommended that banks consolidate on a customer hub approach to take a leadership position in financial services. He envisions grid software that balances servers, which are built on open systems. A data hub can create standard business definitions, and with a shift of the business focus to customers and their behaviors, banks can analyze buying habits and anticipate customer needs. For example, a customer who is seen making expenditures on auto repair can be presented with the possibility of an auto loan—to replace the junker that is costing so much money on repairs.

"Check 21 will have a profound effect on how we look at data," Winner said. "Banks risk losing control of their payments business without making changes in their IT infrastructure."

(From an article by Theresa W Carey in eWeek.com dated Dec 7, 2004)