Dollars and Sense

Aging core banking systems are taking their toll on competitiveness as banks are waking up to the importance of infrastructure improvements.

The banking industry has attained a certain notoriety over time for its heavy reliance on legacy applications. However, new evidence suggests that the global financial sector may now be on the cusp of an IT revolution. A global survey of senior bank executives and bank branch staff by global management consulting, technology services and outsourcing firm Accenture and business software solution giant SAP AG indicates that institutions are finally acknowledging the impact that aging core systems are having on their competitiveness – and a growing number are now looking to update their systems to ensure future success.

“Like any other corporation, banks have got to grow to survive,” says Thomas F. McAllister, Senior Industry Principal, Banking Solutions and Field Services Hub at SAP America, Inc. “ However, everybody can now offer pretty much everything and deposits – and, to a large degree, mortgages and loans – are becoming a commodity in the US. Therefore, banks have to be able to differentiate by pricing and by customer relationship management rather than by the actual products. However, aging core banking systems mean that bankers are experiencing difficulties in changing quickly, reacting and offering new services to their customers and, at the same time, building a good relationship with their customers. ” 

One of the first studies to gather the views of high-level bank business and IT executives, as well as branch-level employees, who are the primary users of core banking systems, nearly 1500 bankers around the world participated in the report, with 43 of the top 100 banks represented. Some of the results of the extensive investigation surprised many – including those responsible for the study itself.

“When we asked banks what the biggest problem hindering the success of their core banking systems was , to our surprise flexibility was quoted by over 70 percent,” says Christian Göckenjan, Vice President of Financial Services at SAP AG. “Flexibility impacts issuing new products, issuing new channels, merging and acquiring new companies, flexibilising pricing and relationship pricing, adapting to any other market dynamics in terms of product offerings…the list goes on and on. They can’t change and react to the market pressures that we have today: whether these are regulatory pressures, pricing pressures or migration and merger pressures, where they can’t bring systems together.”

Spending habits

Executives surveyed indicated two major reasons their systems are so inflexible: old systems built on what they considered to be the wrong technology for future growth and systems that have been customized over time, resulting in complex systems resistant to change and expensive to maintain. “In North America, historically we have used standard software and packaged systems for the last 25 to 30 years,” explains McAllister . “There is a lot of old legacy hardware and software. Banks are hiring folks that are used to working in COBOL and even assembly language systems that are old and not as flexible and valuable as the new logic-oriented systems. But bankers are faced with the need to be agile. There’s one large bank here in the United States, recognized for being customer-centric, that is still not able to merge one of its largest banks. It can’t offer the same product set in one geographic location that it does in the other because it can’t bring the systems together!”

Elsewhere, more common concerns were also uncovered. Not surprisingly, virtually half of the executive respondents also cited cost as a major issue with their core banking systems. What did come as a shock, however, were the spending habits of the banks relating to these systems.

“If you look at the way banks spend their money, about 50 percent is spent on maintenance,” highlights Jean-Marc Ollagnier, Global Managing Partner of the Accenture Financial Services Solution Group. “But when you look at development, which is the remaining 50 percent, they spend more than 25 percent building interfaces between systems. Therefore, the innovation development part of their IT budget is only in the 20-25 percent range. They are spending huge amounts of money to maintain what they have. When they build a project a huge amount of interfacing and technological work needs to be done because of the aging system. This means that their legacy is limiting their ability to innovate. That is a wrong dynamic because innovation remains important to the business.

“Also, because they are working on old technology, they will face problems attracting the best talent to maintain their system because it is more and more difficult to find engineers that are willing to work on old technology. So they will have an issue where some of their workforce will retire in the coming years and they will have difficulty attracting new talent to work on those technologies.”

Watershed moment

Overall, the study’s results underline the fact that the banking sector is nearing a watershed moment in its IT development. The inability to maintain flexible operations, the inability to innovate and the inability to attract the best workforce threatens to have a significant impact on many banks – and this is expected to force their hands, encouraging them to look at migrating or replacing their legacy systems. Certainly there is new technology emerging that could provide a solution to their problems, offering a flexibility to introduce new products and offer an attractive proposition for customers.

“The new software will be component-based, it will be quite changeable and will be able to offer new products in weeks instead of six months to a year,” says McAllister . “The new products will be real-time, and real-time positioning is a huge advantage. Think in terms of the corporate or the retail customer – if they are able to have access to all of their accounts then the banks can do the relationship right there in real-time. The constraint is not the bank’s deposit system but whatever the feed is, and as soon as firms are on a high-speed link, they can move money among their subsidiaries, they can know what their position is, they can invest any overs that they don’t need for the day and intra-day investments and earnings could become a reality.”

With customers sure to clamour for such services, there are serious competitive risks for those that continue to turn a blind eye to their core banking system shortcomings. “There is a danger that there will be a fast mover in the market, an early adopter,” suggests Göckenjan. “ Right now, part of the reason why US banks can afford not to move is because most or all of them don’t move. But as soon as somebody breaks the ice, that will release a new force.”

Taking it to the next level

Yet despite these warnings – and despite the study clearly demonstrating that most banks are now well aware of the impact that their aging core banking systems are having on their competitive edge – under a quarter of US banks are moving to overhaul their core technology. The study found that only 20 percent of North American banks are planning core banking system replacements within the next five years, compared to 30 percent in Europe and over 35 percent in Asia Pacific. While this has been a cause for consternation for some, McAllister insists there is no reason for concern.

“That 20 percent probably have an activity in place, are looking at what they have got and are already figuring out changes,” he explains. “If we had asked the question “who is talking about their core legacy systems?” the number would have been much higher – and 20 percent is a great figure already. But the North American banks are looking at their infrastructure and they know they have to be flexible, they know they have to be able to change, they know they have to be able to offer more products and have to be able to understand the customer. However, core banking, especially deposit transformation, is expensive and timely, so needless to say they are very cautious. So they are talking about changing their systems and they certainly know there is competition coming in. The American banks are simply trying to figure out how to transition at the moment.”

Ollagnier is ultimately optimistic about the study’s findings – and foresees that the sector’s acknowledgement of its infrastructure limitations will be the thin end of the wedge. “It is fair to say that they need to engage some replatforming in some way, because it is the only industry now that remains with these kind of processes,” he concludes. “This industry is generally much more profitable than other industries, and it globally manages a lot of very difficult processes which is impressive. But if you look at its basic infrastructure you see a problem. It has this legacy that is preventing it from really streamlining their operations and taking it to the next level. The fact hat we are already seeing 20 percent of the US market ready to move ahead is good progress, as 20 percent of all the banks in the US is a large number. We are convinced that more is to come because the need is there – when you have 70 percent saying that they have flexibiliy issues and that they are unable to cope with new challenges then you know there is more to come.”