Financial Utilities: The light at the end of the international trading tunnel for disillusioned businesses

Anders la Cour, co-founder and Chief Executive Officer of Saxo Payments Banking Circle uncovers the real issues holding businesses back from expanding into international markets, and how the emerging Financial Utility could be answer

International trade is a subject which is currently making a rare sustained appearance in the consumer news headlines, thanks to the ongoing Brexit negotiations.

The subject is of course never far from the headlines in the trade media as it is such an important issue to businesses of all sizes. With the growth of the digital and online marketplace opening up international borders and breaking down barriers which traditionally confined businesses to local customer bases, payments need to catch up.

Currently, cross-border payments are too expensive, too slow, too inconvenient, and as a result are responsible for stopping 39% of businesses from expanding into international trade. This halts their growth and stops them from reaching their full potential. Of course, this is an issue which is of greatest significance for the smallest of businesses.

In the UK, there are 5.5 million Micro Businesses (with up to nine employees), making up 96% of all UK companies, and accounting for 32% of employment and 19% of turnover.

Clearly, an issue affecting ‘just’ smaller businesses, is a major issue for the entire economy.

Why are payments stopping growth?

In 2016, we commissioned a study with the aim of discovering the real pain points for FX and Payments businesses when trading internationally, so that we could see how Banking Circle could help banks and Financial Tech firms to help these businesses. The results allowed us build an accurate picture of the true stumbling blocks which affect businesses today, stopping so many from achieving their international ambitions.

In 2017, we responded to the findings of this initial survey by commissioning a white paper, published by Burnmark, to throw the spotlight on to how emerging financial utilities can make the difference needed to help businesses reach their international potential.

Tier two and three banks often find themselves caught up in regulation, compliance and legacy systems, stopping them from providing their customers with affordable cross border payments solutions. This means that these banks have often been unable to fully capitalise on the digital world where there are few barriers to international trade.

Bigger banks are using their global reach and deep pockets to tap into the digital revolution, whether solo or in collaboration with fintechs, to bring their customers new products and a better, more customer-centric, service. At the same time, they are retrenching from long-established, correspondent banking relationships.

As a result, tier two and three banks as well as Financial Tech businesses, all of whom rely on the bigger banks for access to international markets, are facing some big challenges as they try to find new ways to safeguard and grow their businesses.

Barriers to international trade

For businesses trading globally, cross-border payments have always been a necessary evil. With higher costs and slower transfer times than local transactions, they inevitably mean additional costs being passed onto customers – and that can mean lost opportunities.

A recent McKinsey report revealed that the average operational cost for a bank to execute a cross-border payment, via legacy correspondent banking agreements, is currently between US$25 and US$35 – more than ten times the cost of the average domestic Automated Clearing House (ACH) payment.

In addition, the FX rate varies based on size of the transaction, time of day, current volatility level, future implied volatility, quality of the customer, current market price action, and even competitor quote levels.

As a consequence, banks’ B2B cross-border payment revenue and profits are under pressure. They account for less than 20% of total payment volumes, but 40% of global payment transactional value, generating US$300 billion in global revenues in 2015. B2B payments drive roughly 80% of cross-border payments revenue and are a segment in which banks retain a nearly 90% share. Therefore, if businesses begin to reduce the cross-border payments they make via banks – perhaps turning to the growing world of FinTechs – this could have a huge impact.

The solution is to strip out any unnecessary stages and associated costs of the payment process. In fact, as shown in our latest white paper, in order to remain competitive, banks’ back-office costs for international payments need to drop by an incredible 90-95%. But this is not something banks can achieve whilst using traditional payment methods and correspondent banking agreements. If nothing else, the additional compliance requirements put upon banks in recent years such as changes to KYC and AML rules and the changes brought about by PSD2, are adding to the costs rather than alleviating the burden.

Enter the ‘Financial Utility’

Our latest white paper identifies that as an essential service used in everyday life by both consumers and businesses, the banking industry meets the basic criteria of a utility, but has traditionally not held the same structure as other utilities.

But this is changing. New regulation and increasing competition for the customer – not just amongst the banks but from a new generation of challengers – have had a huge impact. I believe this means that, for the first time in generations, the banking industry is on the cusp of big change.

New regulations are encouraging more Financial Techs to use banking assets and customer data to provide businesses and consumers with more innovative services. FinTechs are seizing the opportunity to shake up the traditional financial services model. 52% of UK millennials now prefer to do basic payment activities using FinTechs rather than banks, simply because it is more convenient and the technology is easier to use.

With 75% of global banks retrenching from foreign geographies, the correspondent banking model no longer serves the industry effectively. Banks are being forced to look at new ways to provide international services.

And that’s a good thing because they are now experiencing the benefits of outsourcing non-core functions to third-parties; namely, they can focus on owning, managing and growing their customer relationships, while specialist firms manage many of their back-office services.

Change is here

New technology is at the heart of new financial utility solutions, such as Banking Circle, that are able to offer financial institutions the opportunity to outsource core banking functions such as payments, leaving them the time and resources to focus on the customer relationship.

They can also expand beyond their local geographies to high growth markets without depending on larger banks for their infrastructure, or having to develop that infrastructure in-house.

Cost drivers such as higher compliance burdens and FX-related tasks can also be alleviated, enabling fintechs and banks to offer global payments at far lower prices, while retaining a healthy profit margin through radical operational efficiency gains.

Through Banking Circle, a financial utility, tier two and three banks and fintechs can offer their customers the facility to pay suppliers and partners directly from a web interface delivered by them, in their name, without any loss of time or cash, or the need for multiple banking relationships. This goes to the heart of what merchants trading internationally are looking for.

Banks and Financial Tech businesses need to be able to extend their value proposition for better customer acquisition, satisfaction and retention, to allow that 39% to reignite their international trading ambitions.

To learn more about Banking Circle and download our latest free white paper, click here.

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