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Financial institutions:

New e-strategies and e-risks


First, lets evaluate risks and strategies for financial institutions in the new Internet economy.

Velocity risk
Is my financial institution moving fast enough to develop new business solutions that can become viral ? Do ROI, ROE measures and risk mitigation and aversion metrics implicit in conventional bank think prevent the rapid risky deconstruction and cannibalisation of existing business lines ?

Market Relevance Risk
How do you measure the relevance of your financial institutions portfolio of offerings ? Its clear that retail branches quickly became an anachronism in a post-ATM world. High velocity Internet companies like eTrade.com, eLoan.com, and Mortgage-source.com all serve to remind financial institutions that alternate mechanisms are quickly found and exploited through new disintermediation and re-intermediation plays.

Technology and Operational Risks
What are the right technology standards to base new solutions around? How do you transfer the risk of technology implementation outside the financial institution? Even offerings from venerable players like Sun and Microsoft are not sure bets in a tumultuous tech world.

New strategies need to evolve though careful deconstruction analysis. First, deconstruct the entire transaction process- from identification of the customer need to order fulfilment. Second, distinguish between those functions currently performed by your company from those performed by competitors and customers. Third, pinpoint which of the customer and competitive responsibilities you can and desire to take responsibility for (e.g. better costs, extended value, economies of scale) and establish boundaries for your organisation. Outsource, sell and otherwise divorce yourself from the other processes since these are not core. Outsourcing, if done carefully, can allow you to retain many of the competitive benefits that insourcing those capabilities formerly did without the legacy baggage. Application Service Providers (ASPs), whether they are generic, or aggregators or vertical market focused can provide technology platforms for change. They can reduce the technology and operational risk in hosting new customer solutions.

The Internet economy has changed business practices, where now business is largely unconstrained by laws and limitations of the physical world. Consider how LandsEnd.com augments its fixed-price catalog with a Dutch auction for overstocks. Similarly Dells customers can by a customised computer using the company's famous on-line configurator or bid in an auction for a popular set-up. Alternative transaction mechanisms provide more ways for a customer to transact business at a given time. Process innovations like these are not necessarily borne from classical strategic analysis by bricks and mortar companies in the banking sector. Indeed the transition to bricks and clicks hides the inefficiencies implicit in the models that are undertaken.

Incumbents could easily become victims of their obsolete physical infrastructure and their own psychological baggage.

Assets that traditionally offered competitive advantages and served as barriers to entry in an erstwhile era quickly become liabilities in the new Internet economy where velocity is king. Among the most vulnerable institutions are those that provide high-value labour content (e.g. advice, brokerage, institutional trading) as part of their principal money making businesses. Electronic mediation through browser based transactions, electronic robots or agents (BOTS) and automated asset allocation services serve to segregate this market segment into further tiers where the cost, immediacy and market relevance of these solutions appeal to a broad constituency thereby relegating the highest tier to a smaller number of market participants.

While it may be easy to grasp this point intellectually, it is much harder to act on its implications. In many businesses, the assets in question are integral to a company's core competency. Its not so easy psychologically to withdraw from assets that are so central to a company's identity or that have high fixed costs, are long standing partner relationships tied to them. The newbie cyber start-ups and second-tier-and-nothing-to-loose competitors suffer less from these inhibitors. They are unconstrained by management traditions, organisational structures and fixed assets.

Some organisations remain committed to closed interactions with customers and appear ready to go down fighting rather than take the painful but potentially liberating switch to other strategies. The examples are myriad: Witness the death-knell of interdealer brokers in the foreign exchange markets as new electronic entrants EBS and Reuters usurped over 80% market share in just a few short years. Incumbent management, could only watch and put-fingers-in-the-dike as that important market essentially dried up as they watched. Also look at how Schwab and eTrade forced a segmentation of medium to high net worth individuals to not use high-tiered-brokerage services in favour of self-service on-line brokering. The delayed paroxysms of responses that followed by dislocated money centre brokerages and banks as they play catch-up in technology and in solutions were not well thought or well executed in many cases.

Additionally, the response to hedge as banks join consortiums, ECNs and alternative transactional systems is a first order response that seems reasonable for these institutions. BrokerTec, TradeWeb and others are primary examples of mutual risk and opportunity sharing. Hedging is a risk aversion tactic that is often used to reduce the effect of losses in a fast or unpredictable market.

However, we will no doubt see more interesting business dynamics as these same financial institutions deconstruct their enterprises and provide differential value moving forward; if they don't new entities will profit easily.

In other words, lending money, buying and selling bonds and equities on-line are only a small part of what a global financial institution can do in the new Internet economy.

Unfortunately, the infinite variety of factor combinations makes it an extremely difficult process to optimise. This is why financial institutions need to constantly immerse themselves in this process of strategic repositioning.

In a new Internet Economy, organisations that are engaged in B2B activities though newer cross-enterprise electronic activities will begin to catalogue capabilities on-line so that they can be syndicated, recombined and utilised by a broader variety of customers.

One technology enabler that may be employed is eXtensible Markup language (XML). XML is a meta language that allows for institutions to describe core competencies, assets, delivery channels, internal processes, etc. and other unstructured data in a structured syntax. The information can then be exposed as desired to other institutions to be used in new business models on demand.

XML, for example can be used to provide logical links between institutions, capabilities, assets and services. Consider, for example:

Customer A, a manufacturing firm wants to buy a quantity of raw goods from a producer in Malaysia, but does not want to be exposed to credit risk and would not mind paying a premium for this risk mitigation service.

Customer B, an Internet Service Provider wants to borrow money to build out a new Web hosting facility in Iceland and can pay in equity.

Fund C, would like more fund exposure in Iceland, but can only invest in debt instruments.

Money Centre Bank D, can transact the credit risk against offsetting credit exposures internally

Re-insurance company E can structure a deal for the ISP but does not have the efficiency of dealing cost-efficiently with Customer B

Each of these institutions would like some problem to be solved that some combination of the others would be ideal. Analysis, deconstruction, and directories of competencies exposed to each other can provide more value for all the customers. XML can be the lingua franca for such a system of interactions and analysis. BOTS can then roam the network providing opportunities in a B2B space that consumers currently get with Web aggregation shopping sites and agents.

That analysis is likely to be both qualitative and quantitative. Although enterprise resource planning (ERP) applications, customer relationship management (CRM), and risk management applications amass piles of information on operations and customers, most of the information is largely under-utilised in databases. The real business advantage lies in the ability to analyse large amounts of data from any business model, determine the personalised preferences of all people, then reach these people with the relevant information and solutions wherever they may be. This is the driving force behind the intersection of e-commerce and legacy information applications personalisation. XML is the substrate for which personalisation can be built on top of.

So, in a world where liquidity pools for bonds, equities, derivatives, credit instruments, and money markets abound, banks can offer tailored risk mitigation services, customised structures, and informational offerings on-line in a richer, more personalised way that leverages their core competencies along with others in an extended network or eco system. It is, after all the personalised grand synthesis of features, flexibility and cost that is most powerful and offers the most value to the customer.

Syndication and outsourcing are two elements of a coherent strategy that offer the twin benefits of speed and flexibility. An important feature of a syndication and outsourcing is that business rules, such as entitlement provisioning, usage tracking, limit restrictions and payment terms, can be passed between companies along with the asset or service as digital information in an XML stream. Because the information can be standardised, networks can be created, expanded and optimised far more quickly than is possible in the physical world. The flexibility of Internet architecture and the limitless creativity of Internet entrepreneurs and other market participants - means that every company will face a multitude of complex choices in structuring relationships.

Ultimately, the success of the organisation will be correlated to how companies identify deconstruction-sourced opportunities; how they syndicate their assets and services, and how they restructure their organisations around more differentiated, more powerful value-centric solutions for their customers in conjunction with other firms in a complex and optimised eco system.

Carl Carrie



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