We Were Kings or When Fees Went to Zero

21.09.2017
Written by Spiros Margaris / Published in D!gitalist Magazine and Forbes.

The title was inspired by the 1996 documentary “When We Were Kings” about the heavyweight fight of 1974 between two boxing legends, Muhammad Ali and George Foreman. In the not-so-distant future, it will also be a fitting phrase for many in the banking and insurance industries.

Readers may ask themselves why I am talking about banking and insurance in such doom-ridden terms. My bleak forecast does not stem from the notion behind the common fintech (financial technology) and insurtech (insurance technology) industry pitch that they will change their respective industries with innovation and better customer experiences. Although I firmly believe that some of the startups will cause significant pain to the incumbents and will indeed change their respective industries. One day, some of the existing and as-yet unlaunched fintech and insurtech companies will also become incumbents that other startups aim to disrupt.  

The real threat to the financial industry will come from a radical approach to penetrate the financial market – an approach that I believe has not yet been addressed or even conceived by the competition. The emphasis is clearly on ‘yet’.

What is this new concept? It is simply this: offering financial services at or below cost. I have mooted this idea at many think tank events, and I thought I should write it down to share it more broadly. It is and should be a terrifying thought for many, and I strongly believe this approach will be implemented in the near future. It will bring many of the incumbents to their knees unless they prepare for what is to come by investing in technology and adapting radical business models.

People talk about the limited impact of fintech and insurtech on the incumbent business model. I must agree that at this point many startups have little influence if you look only at the customers they have taken away from incumbents. What the startups are already doing, however, is forcing many incumbents to lower their fees to better match what the smaller players offer to their clients. Moreover, startups have also changed customers’ expectations of the user experience. Startups will also use artificial intelligence and machine learning to compete against the established financial players that have more resources – such as money, data and clients – at hand to compete. Many startups already use machine learning algorithms to build better credit risk models, predict bad loans, detect fraud, anticipate financial market behavior, improve customer relationship management, and provide more customized services to their clients. Arguably, the biggest effect of startups is that they continuously put pressure on incumbent profit margins. Startups will continue to try to change the status quo because they smell blood in the incumbent water.

The real and biggest threat to incumbents will likely originate from tech giants, such as Apple, Facebook, and Google, and other big non-tech companies that have large customer and employee bases. These organizations will use their customers and employees to sell banking and insurance solutions, and the big financial institutions will become at best dumb pipes. The technical approaches to doing business within the fintech and insurtech industries may provide some of the tools tech giants and other large companies need to execute this strategy.

Yes, I know some readers will say that regulators will stop any attempt by non-traditional players to provide many banking and insurance services. However, I do not think regulators can or will stop the new competitors, because these companies will either obtain the necessary licenses to operate or have a bank or insurer provide third-party financial services to them. This strategy is not unlike the way in which some fintech challenger banks use the licenses of an existing bank to operate. 

Why should we expect this scenario of financial industry disruption to happen? In our case, we all seem to agree that the tech giants are the ones to fear because of the big data, platform and technology knowledge they possess. In addition, tech giants have several advantages, such as the trust factor and the constant interaction with satisfied customers. Furthermore, studies have shown that millennials would prefer to bank with tech giants such as Amazon, Facebook or Google than with the existing banking players. And last but not least, are the tech giants and startups that keep setting the bar higher for exceptional customer experience (for instance Apple's simplicity or Amazon's instant gratification) and shape the client behavior and expectations, not the incumbents.

All that speaks to tech giants’ favorable circumstances as serious competitors that are not yet ready to come in at full speed and hit the financial industry broadly, but it does not point to the need to fear an extreme disruption as I projected. I do not believe we will see those tech giants providing whole-spectrum financial services anytime soon, but they have the potential to offer services in certain segments, such as providing payment, lending or insurance options for their customers and employees.

What is terrifying to imagine is a situation in which tech giants or other big companies provide financial service solutions at or below production costs. No, that is not a typo; I mean providing financial services for nothing – for free. 

If we take this scenario to its extreme – that is, selling banking or insurance services for nothing (yes, for zero pounds, euros, dollars or renminbi) – then we have a situation in which financial institutions in their present forms will die or be reduced to shadows of their current selves.

That can and will happen, and I will tell you why: large companies could do exactly that – selling at or below cost – to win or keep customers. The new competitors would not need to earn money and could even afford to lose money in offering financial solutions if these features entice customers and new potential clients to use the companies’ core offerings. Remember that Facebook, for instance, earns the biggest portion of their profits through advertising because they have created a great platform through which people love to interact. Financial solutions would be just another great offering (especially if they are offered for free) to entice many people to join the tech giants’ ecosystems. Alternatively, car companies such as GM could provide their employees and customers with very cheap or no-cost (no cost to customers, at cost for the company) banking or insurance solutions. Don't forget that banking and insurance solutions can be provided at very little cost as white-label services from third parties that already have all the necessary licenses, technology and infrastructure.

All is not lost for banks and insurers, but it will be very hard for them to compete against savvy tech giants on their technological home turf. The financial industry has to think fast to find ways to compete before their business oxygen runs out.

One solution that banks and insurers should pursue aggressively is to embrace the fintech and insurtech industries for their innovative business spirit and fast, direct execution approach to new ideas. That means financial institutions should buy what they can or partner with startups to make up for all the shortcomings that legacy brings. Size and regulation will not be enough to protect incumbent financial institutions against new competitors, as we have seen in many other industries.

Another idea might be for financial institutions to place advertisements on their websites or apps to compensate for loss of profit margins. I do not think this is the only solution, but financial institutions must innovate beyond their core areas of expertise and standard industry practices. Why do you think Amazon, Uber and Airbnb have been so successful at disrupting their industries? It is because they thought and acted as if they had nothing to lose and everything to gain.

The ‘at or below cost’ approach to financial service solutions is not a far-fetched scenario for tech giants and other companies that are trying to find new ways to attract and keep clients. The banking and insurance industries must at least get very comfortable with the idea that low-cost or free financial services are coming.

A tsunami is often unnoticed in the open sea, but once it approaches the shore, it causes the sea to rise in a massive, devastating wave. The financial industry needs to determine if the threat by tech giants and non-tech companies is a small wave or a tsunami and prepare accordingly. My recommendation to all financial institutions is this: you'd better prepare for a tsunami even if all you see is a small wave on the horizon.