Q (gtnews): “Transaction banking is going to define corporate banking of the future” it was stated at Sibos 2014. How would you define transaction banking and do you agree that it will play such a key role in the years ahead?
A: (Didier Vandenhaute): Historically focused on payments and cash management, leading transaction banks now include both trade and trade-related products and securities and fund services, resulting in a mix of concentrated and fragmented businesses serving both FI and corporate customers.
The importance of transaction banking has increased significantly over the years. Transactional banking divisional chiefs now have a seat on the board, with a clear mandate to invest in their line of service and get a bigger wallet share of their clients. This is mainly due to three reasons:
- To a certain extent, the revenues generated are free of risk, not consuming any capital. This helps the banks improve their expected return on capital.
- A PwC study for one of our banking clients demonstrated that the total average revenue generated with clients where a transaction banking relationship existed was significantly higher than one where no such relationship existed. This was mainly due to cross-selling opportunities and the close relationship that transaction banking brings along.
- Most importantly, transaction banking business is ‘sticky’. When you’ve been able to lock in a client with its transaction banking business, you know it will be there for the long term.
However, some areas of transaction business – such as short-term liquidity that was of high value to the banks only two to three years ago – are now less valuable and hence interesting to the banks due to Basel III implications. This complicates the picture for corporates. Moreover, the recent history of Royal Bank of Scotland (RBS) pulling out of transaction banking in several countries demonstrates that while this business can be very attractive for banks, it’s only when organised internally in an efficient manner, leveraging economies of scale.
Bas Rebel: It is difficult not to agree with this statement. In the wake of the 2008 financial crisis, banks certainly put transaction banking at the top of their agenda and investment programs for all the reasons Didier mentions. At the same time on the demand side, treasurers and chief financial officers (CFOs) became more open to redistributing the banking wallet in exchange for lending commitments.
However, the business case in transaction banking is no guaranteed success. The market dynamics are such that the banks increasingly have to share the wallet – not only with other banks, but also with technology providers and, in Europe, with payment service providers (PSPs). The role of banks and bank accounts in business-to-business (B2B) and business-to-consumer (B2C) transaction banking is changing rapidly as tech companies and PSPs take a bigger share. The key question for banks will be: how to yield a decent return in transaction banking while other parties eat their lunch? RBS’ most recent response may be the ‘writing on the wall’.
What have been the main drivers for corporates’ growing interest in transaction banking over recent years?
Vandenhaute: Taking into account the growing interest of the banks to get access to transaction banking business, the corporates have realised that they have a “golden asset” in their hand. Since the crisis, corporates have reduced their over-reliance on bank credit wherever possible and established strong access to debt capital markets and the traditional, almost mathematical, relationship between credit support and wallet share of transaction banking has changed.
Selection of banks is increasingly based on quality of services and cost, rather than purely credit. Corporates have become more sophisticated, making their own analysis of the overall profitability generated through the relationship. Some corporates are now allocating each specific product to the bank which is best able to manage it, understanding the real value of this asset for each bank.
Also, the environment has changed drastically over recent years, especially in Europe with the single euro payments arera (SEPA) now a reality. Solutions like full centralisation of payment and collections (payment-on-behalf of (PoBo) and receipt-on-behalf-of/collections-on-behalf of (RoBo/CoBo) structures) are now becoming real.
Rebel: There are different drivers for the corporate interest in transaction banking. Next to the wallet distribution topic highlighted by Didier, treasurers and CFOs have also put a greater than ever focus on cash visibility in real-time. Both themes clearly put bank communication and technology on the treasurer’s agenda.
On top of that, the drive to optimise working capital has brought transaction banking and funding products closer together and had treasury involved in financial logistics, of which transaction banking solutions are keystones. Treasurers have discovered that further integration of transaction processing in the front-end processes of sales and procurement drive efficiency and effectiveness in business processes.
How much has the development of increasingly sophisticated technology contributed to the trend?
Vandenhaute: Two elements have played a role. Firstly, technology solutions like SWIFT or payment factories are no longer only reserved for the large multinational corporations (MNCs). More and more, mid-market corporates are looking into ways they can reengineer their banking structure, implement efficient liquidity management structures and centralise the execution of the group’s financial and operational payments. Banks and system vendors have clearly understood that and have come up with solutions which are adaptable and affordable for these types of corporates too.
Secondly, banks and systems vendors have come up with solutions that allow corporates to have access to real-time information in order to make instantaneous decisions for treasury. They want to have access to consolidated information and dashboard monitoring with one single entry for all applications. The proposed solutions allow corporates to get a faster, better and easier grip on their transaction business.
Rebel: It goes without saying that supply and demand influence each other. However, we tend to believe that demand is the prime driver here. Over recent years we have seen technology companies – start-ups and established companies alike – filling the void between traditional tools and corporate back office systems.
We refer not only to pure breed treasury management systems (TMS) or in-house banking (IHB) solutions, but also e-wallet solutions for consumer-to-business (C2B) transactions, for example payment service providers that standardised the acquiring processes across ‘clicks’ and ‘bricks’ channels. Nor have we yet seen the full potential of the integration between processes on the financial and physical supply chains. In this respect it’s interesting to see how Uber, Amazon and Zalando leverage state-of-the-art payment technology to deploy their standard and scalable business models across regions and the globe.
Having said that, the non-banking vendors are boosted by new regulation like the Payment Services Directive (PSD2). The definition of access to the account for instance might fundamentally change the revenue model of transaction banking as it defines transactional data to be property of the account holder rather than the bank. PSD2 may well also trigger payment product innovation, creating alternatives for higher-margin transaction banking products.
How big an impact has come from the increasingly strategic role of treasury and treasurers’ demands for more sophisticated solutions?
Vandenhaute: The role of the treasurer has evolved. The CFO is looking at a treasury function that actively contributes to the strategic decisions of the whole business and provides financial leadership. Treasury needs to be a strategic partner to the business and to the board, advising on dynamic financial risk management tailored to new products and markets. In order to succeed in its mission, the treasurer will have to access to the right information and data through the adapted solutions to their needs. Technology will play a big role.
Rebel: We notice that treasurers drive the bank connectivity agenda wall-to-wall, more than ever before. This is closely linked to the required discipline on funding and the demand for a grip on corporate cashflow. Both are strategic topics.
Typically this trend supports the drive to create a banking hub internally that is linked to SWIFT and/or a PSP. Building on this, treasurers certainly get more and more involved in sophisticated integration between their corporate systems and banking back offices. This, in turn, drives better and new solutions that are attainable to a wider group of companies.
But there is a whole different source of inspiration. While, in the past, new technology was typically introduced in the B2B market and potentially spilled over to B2C and C2C markets, today we see the opposite happening. Since the introduction of tablets, smart phones and the app-store, corporate buyers are inspired by their personal experiences with apps and demand similar features and functions for their office.
At Sibos 2014, many attendees were sceptical that a corporate transaction banking model could be developed immediately and it would take several more years. Was this overly pessimistic?
Rebel: This statement is quite pessimistic on the ability of transaction bankers to adapt to the rapidly changing world around them; I refuse to believe that all bankers are dinosaurs. Furthermore while a bank may be disposable, banking is not! There will be a role for banks storing and forwarding value between independent parties. We see a number of banks evaluating their strategic options and working on new revenue models in response. There will also be others that may take a similar decision to RBS’s and reduce their transaction banking presence in certain or all markets. Although this RBS decision isn’t an easy one, making clear choices now may turn out more economical in the long run.
The 2008 crisis increased awareness of counterparty risk linked to banks – has this limited the number that a corporate will consider for transaction banking?
Vandenhaute: In 2010, PwC conducted a survey to better understand the impact of the crisis on treasury. One of the elements highlighted was that the importance of financial counterparty risk had increased significantly (pre-crisis 58% of respondents considered it to be an element of key importance; post-crisis the figure rose to 82%). Nevertheless, the reality shows that some corporates have short-term memories and tend to forget the good intentions of the past. Recent developments at RBS show that not only financial but also proper operational counterparty risk management is still vital.
Rebel: No, on the contrary. We believe that corporates are considering distributing their transaction banking wallet across more banks and for good reason. Firstly, many companies vividly remember autumn 2008 when many treasurers and CFOs were contemplating the consequences of a house bank disappearing and/or the uncomfortable dependency on funding by one or only a few banking partners. Over the past few years, they have learned to value their fee-earning wallet as a ‘golden asset’ for attracting funding commitment.
This doesn’t mean that service and pricing for these banking products are ignored. On the contrary – corporate treasurers are sensitive to these, as PwC’s 2014 treasury survey revealed. Treasurers also put a value on flexibility. Consequently banks with less than state-of-the-art transaction banking services may have limited access to fee income from corporates. More creditworthy corporates have typically implemented a policy that participation in credit facilities and lending is a prerequisite for being invited to transaction banking tenders.
In any case, bank communication hubs are pivotal in this strategy of bank relationship management as setting up and maintaining bank interfacing is still regarded as expensive and cumbersome.
Is corporate transaction banking an area where service providers who are not banks will increasingly compete?
Vandenhaute: There are more and more new entrants in the transaction banking space and the way PSD2 is now drafted should facilitate the access to this market to the PSPs. This should result in increased competition in certain areas, mainly the payment execution and the use of (big) data. Banks will have to differentiate themselves, providing value added information and services and moving from a traditional role of good executor to an advisor role. Some are clearly moving already in that direction, to differentiate from their peers, but also from these new entrants.
Rebel: The players in the transaction banking arena are getting more diverse. New entrants are attracted to the game because the rules are changing and the playing field is expanding; i.e. the corporate buyer is getting a more holistic view on treasury, payment processing and cashflow management.
Each type of competitor has its own background and mind-set and typically occupies a niche. No matter how frightening this may appear to bankers, it is highly unlikely that PSPs and tech companies will ever compete like-for-like with banks without becoming banks themselves. Some new entrants are certainly flirting with such a strategy.
Having said that – and to the extent they haven’t yet done so – transaction bankers will need to define their key competencies and strategy in order to stay an actor in the game. Key competencies are different from core competencies, in the sense that they appeal to the recognition of the outside world rather than one’s own conviction. Building a strategy based on key competencies lays the foundation of sustainable revenue and profit models.
Do you expect transaction banks to develop closer cooperation and more partnerships with one another so they can provide bundled services to their corporate clients?
Vandenhaute: PwC’s 18th annual CEO survey for Banking and Capital Markets, published in January, found that “more than 40% of BCM CEOs see joint ventures, strategic alliances, and informal collaborations as an opportunity to strengthen innovation and gain access to new customers and ne or emerging technologies. And 37% plan to enter into a least one new joint venture or strategic alliance over the next 12 months”. Listening to them, cooperation and partnerships should for sure increase in the near future.
Rebel: All indicators suggest the transaction banking area is more dynamic than ever and it will take some time until we have reached a new equilibrium. Dynamic markets are characterised by new entrants, but also players retracting from the markets. While tech companies have no legacy and therefore can only gain from the dynamism, banks and corporates will assess the market potential differently. The banking sector as a whole will lose market initiative to some extent. Some individual banks will even leave the arena providing some opportunity for other banks to become stronger in the face of the new entrants.
For the corporate treasurer and CFO, this dynamism is a mixed blessing. Of course they welcome the potential process efficiency and effectiveness by implementing new solutions, but from first-hand experience we also know that RBS’s recent decision impacted many of their clients, which now are confronted with a significant project and complex wallet and risk distribution decisions.
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