How Do Banks Embrace Embedded Finance – Have the Fintechs Already Won?

Fintech | Francis Hellawell |
12 April 2022

There is a growing opinion that the Embedded Finance phenomenon provides traditional banks and financial institutions (FIs) with an opportunity to assert themselves against the neo/challenger companies that have been steadily eating their lunch. HSBC recently launched their own Banking-as-a-Service (BaaS) offering, and neobank Starling and banking services provider Railsbank both announced that Embedded Finance is a key focus of their future product development.

The early beneficiaries will be the big retailers, and it is no coincidence that some of the Big Tech players, such as Apple and Amazon, have been courting big banks and fintechs to provide support services to them. Both parties recognise the possibility of an increasingly symbiotic relationship – get this right and both sides win.

In this blog, we examine the key elements that need to be in place to succeed and what Financial Services (FS) players need to do to make the most of this opportunity. “Putting lipstick on a pig” will not be good enough – it’ll still be a pig.

WHAT IS EMBEDDED FINANCE?

Embedded Finance is the integration of a financial service with a traditionally non-financial service, product, or tech. This is based on the premise that it is often easier to buy financial products from the same source at the initial transaction, rather than having to interact with numerous businesses over some time. For example, online stores offer a “Buy Now, Pay Later” (BNPL) payment option that converts the cost into an automatic loan, seemingly from the online store itself instead of a third-party lender.

Separate interactions (even the virtual kind) are increasingly being bundled into a “session” in which you sort out everything at once – quickly, efficiently, and with an overall high-quality user experience. Embedding financial services into the value stream as seamlessly and promptly as possible aims to meet customers’ ever-increasing expectations for excellent customer experience (CX). One point of failure, however, will undermine the whole bundle and have the opposite effect.

HOW DOES THE EMBEDDED FINANCE ARENA LOOK LIKE?

“The world is forever changing, and big banks will die” has often been a mantra of industry observers; however, the figures tell a different story. Very few of the new players have moved beyond the status of secondary bank, deposits remain low, and the impact on the lending market marginal. This is compounded by the narrow product range offered by neobanks and their basic similarity to existing offerings – the “same” product but with a slicker interface has not proven a compelling enough proposition to shift the status quo.

As Embedded Finance gains momentum, and the demand for a wider range of offerings grows, attention will shift towards the single digital interaction. In the short term, the as-a-service providers with their integrated workflows and short time to market will be a compelling option. However, as product sophistication evolves driven by consumer demand for personalisation, the traditional big players will be presented with an opportunity to reinforce their dominant position. They will face some critical decisions:

Polish & buff vs full rebuild. Banks and FIs need to be extremely cautious of building up customer expectations and then smashing them on the rocks of delay and bureaucracy. Experience suggests that a glossy front end or partnering with “the best in the market” can make the customer experience worse if it’s not backed up with people, processes, and technology.

Choose your partner well. Banks and FIs need to choose their partners carefully, taking into account the brand values customers sign up to and spending time understanding the customer base, their expectations, and their journey (of which the banking service will only be a part).

Invest for growth and success. Designing, selecting, and building will not be cheap, but if done well, the prize is huge. Apple’s US collaborations with Goldman Sachs on “Apple Card” and “Apple Pay Later” have provided the retailer with some of the essential mechanisms for embedding finance in their ecosystem – and it will provide Goldman with a potentially eye-watering level of transactions.

The winners will be those institutions who can meld with the existing customer flow and interface but also utilise access to the simple processes and capital that sit behind any such transaction. This includes customer data, underwriting, and a substantial balance sheet.

WHAT TECH, PROCESSES, AND PEOPLE ARE NEEDED TO COMPETE?

Collaboration with third-party providers will be necessary to shift towards banking as part of an ecosystem. This will require a disruption of banking services as we have known them in the past – and a new focus on product design, process delivery, and service agility that centres on the end customer as opposed to corporate priorities and potential inertia. Observers suggest that surviving in this new Embedded Finance ecosystem is not about playing at seamless interconnectivity but revolutionary change for survival.

Let’s touch on the key components to stay on top of the revolution:

Data

Big data already runs much more of our lives than many people understand and is a crucial tenant in formulating a successful Embedded Finance marketplace. 25% of all Amazon traffic is based on algorithms being applied to customer data. The key is whether the FIs can add anything to this offer to provide the personalised bundled experience.

On the face of it, their inability to sell anything but aggregated data would seem to relegate them, and many senior executives within the industry fear the loss of the end customer relationship. However, providing other data points to the equation, particularly in the robo-advice space, can significantly enhance the experience and the arrival at the right end-product.

Artificial intelligence (AI)

Key to providing a slick customer experience is having an intuitive workflow, overlaid on well-defined processes with the ability to access reliable data sources. Even the granting of a simple rolling credit facility relies on multiple data points on which an underwriter must decide. As the sophistication of the product grows, the number of processes and data sources involved grows exponentially.

Herein lies the opportunity: slick processes and reliable data are the key components for the use of AI – it is perfect for scrutinising large volumes of data. The immediate and obvious application is for underwriting and the granting of automated credit facilities, lending decisions, and insurance provision and premiums. AI will also become critical to the provision of auto-financial advice as customers seek to protect themselves or make sense of their increasingly complex and fragmented finances.

At the very least, customers will seek insight and recommendations, and in some cases actual decisions. This blended approach creates a real opportunity for banks and FIs to leverage the best of AI to deliver smart financial advice at scale.

Serviced platforms

Banking-as-a-Service / Software-as-a-Service / Build-your-own-service platforms must be architected to make it easy for businesses to integrate financial services into their offerings. It is likely that, at least in the first iteration of embedding, these will be microservices-based; APIs can be embedded directly into an app or any part of the customer journey to switch on that offering. For example, by deploying Open-Banking-powered credit decisioning products, lenders can save thousands of hours of manual underwriting, enable the automation of banking policies, and implement real-time decisioning.

Cultural and process change

Banks and FIs will need to change the way they look at the market. Embedded Finance entails collaborating with partners to design end-to-end processes that start and finish outside the bank’s perimeter. Indeed, this could include many partners; for example, a single customer payment for multiple items in an Etsy basket will need allocating across multiple vendors. Besides the contractual negotiations this will entail – e.g. who “owns” the customer? – banks may need to come to terms with the fact that they are often the junior partner in a world where the dynamics of competition have shifted.

Embedded Finance has much broader-reaching impacts on other parts of the products than initially imagined. With lending products, for example, you don’t wait until checkout to offer the financing terms – you need to present the instalment options much earlier in the user journey to turn browsers into buyers. This requires a deep integration of the Embedded Finance products into the broader value stream.

EMBEDDED FINANCE RE-FUELS THE COMPETITION

New market entrants using modern technology have heightened customer expectations around how we consume banking services, fundamentally changing the rules of the game. Customer or user experience (CX/UX) has become the basis for competition, with the bar being set by the Big Tech companies and innovators from other industries. Personalisation, convenience, speed, and transparency have become must-haves, provided at a touch of a key rather than through traditional relationship channels.

Embedded Finance does not mean the end of traditional banks and FIs as we know them – far from it! It is a massive opportunity for all banks and FIs to increase agility and keep up with rapidly changing demands, by utilising new technologies to maximise their inherent assets or by increasing the sophistication of their products. Massive non-FS players are looking to integrate Embedded Finance into their business models. To do this, they need true partners with the underlying capabilities to significantly enhance the customer experience. Most banks and FIs already have these, but they need to focus on how to blend this seamlessly with their partners’ customer journeys.

At Endava, we are relishing the collaboration with our existing clients to build and evolve their Embedded Finance offerings and integrations – and we’d love to support new clients in their Embedded Finance journey as well.

Francis Hellawell

Principal Consultant, Banking & Fintech

Francis is a digital agilist and business architect within the Financial Services industry with 30+ years’ experience working for major financial services institutions. An articulate banking consultant with deep knowledge of the operational and regulatory requirements, he specialises in strategy, analysis, design and implementation of services and processes within the banking arena. Outside of work, Francis is a Rugby Union referee, owns a classic mini which he keeps on the road as a daily driver, and enjoys adventures with his teenage sons Alex and George and their Dachshund Arthur.

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