Sorting Out If and How Banks Should Launch a Digital Bank

There is a laundry list of questions bankers are bound to have when it comes to creating a digital bank subsidiary: Do we build our own? Do we buy a tech package? What's more affordable? The information on the subject can be confusing, so here's a look at the options available and explanations of some of the terms.
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Fintechs may seem to have the edge in the digital banking movement, but banks and credit unions of all sizes are not conceding the contest. Some of them are launching their own digital banks, including giants like Goldman Sachs with Marcus, and small institutions like Cambridge Savings Bank with Ivy.

Many other banks and credit unions have an interest in doing the same, but it’s not easy to get started. The lingo alone is a nightmare: build or buy, low code versus no code, platform banking and even the “buy, build, extend, and assemble” model.

To compound the confusion, there are weighty questions often left unanswered in the digital bank conversation. One big one: Did all these banks and credit unions that launched a digital bank hire specialized experts to build out the tech or did they buy a digital bank package from a fintech that can do it faster and better for less?

Why Launching a Digital Bank Could be Crucial

Creating a separate digital bank unit is a vital step for banking growth in the 21st century, McKinsey argues in a report. 40% of people are using fintechs for daily financial activities and more than nine out of ten of them are satisfied with the experience.

“Banks must excel on multiple fronts, combining the strengths of an incumbent with the agility of a start-up,” the McKinsey report says. “They also need a unique idea, a top-notch team, and a clear path to profitability. None of this is easy. However, banks that make the grade are likely to boost group performance and, potentially, create a star of the future.”

Read More: How Strong Is Your Board’s Digital Banking Technology IQ?

Parsing Out Build or Buy Strategies

The “build or buy” debate can apply to any bank technology question. However, the term is now applied more often to financial institutions interested in developing a separate digital bank subsidiary. To “build” refers to when a bank or credit union hires tech experts to build online banking technology in-house, whereas “to buy” in this sense means purchasing the necessary capabilities from a fintech or other vendor.

McKinsey surveyed banks which invested in a digital bank subsidiary and found it takes on average 15 months to build a digital bank from development to launch and 18 months from launch for a bank to break even on the investment. It often requires an investment of $20 million or more prior to breaking even and an average of 30 employees at launch, although over half (55%) of new business heads are often sourced from the existing bank’s core team.

A Harvard Business Review study found that any company would benefit more from buying over building given that “firms can reduce innovation time by up to 19% if technology licensing is used as an input to their R&D.”

Digital banking vendors, not surprisingly, support this view. Liz High, Executive Vice President of Nymbus Labs, tells The Financial Brand that buying a prepackaged digital bank can be easier and much more cost-effective for a legacy financial institution looking to technologically raise their game. Nymbus calls their product a “digital bank in a box.”

“It allows us to develop a business case for either setting up one of our digital niche brands or helping a bank to invest in the market they want,” says High. Nymbus Labs is currently working with about 15 financial institutions.

Read More: The Most Popular Digital-Only Banks in the World

Bank technology company nCino recommends banks and credit unions consider buying technology, arguing financial marketing teams can “benefit from adopting new capabilities quickly — typically within 12 months — to address immediate needs and market demands.”

“Choosing to buy your key technology solutions will also help you achieve return on investment (ROI) more quickly, because implementation costs can be spread over time and a faster implementation cycle means a quicker realization of benefits like in-house efficiencies and cost savings, or a boost in sales growth and revenues,” according to an nCino report.

Digital Scorecard

There are many arguments in favor of buying the tech components needed for a startup digital bank versus building it, but it’s not entirely one-sided.

Nabeel Wyne — an advisor on digital banks, digital transformation and enterprise architecture at Capgemini — suggests smaller, community banks take the “buy’ approach, if they can.

“‘Build’ is a tough road that mostly does not suit the corporates who do not have core technical expertise in-house and rely on partners to deliver applications,” Wyne wrote in a LinkedIn post.

All this suggests buying is the way to go.

But is that always the right approach for a community or regional bank or a credit union? It turns out the answer might not be so simple, and each institution must weigh the pros and cons to figure out what works best for their backend systems and teams.

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The Benefits of Building Your Own Digital Bank

There are some non-financial factors that banks and credit unions should consider before relying solely on an outside fintech for the technology to create a digital bank subsidiary. As bank technology provider Technisys points out, when buying a supplied tech package, the financial institution itself will rarely own the technology. Further, it will be difficult to differentiate the product from competitors who hire specialists in-house. The company summarizes the pros and cons in the table below.

Build Buy
Pros (1) Design customer experience for bank and customers

(2) Own the tech

(3) Greater control of the development process

(4) Less reliance on third parties

(1) Less time to market

(2) Immediate access to new functions offered by vendor

(3) Lower total cost of ownership

(4) Proven solutions and results

Cons (1) Longer time to market (must implement, test and launch new features)

(2) Need for human capital with highly specialized skills

(3) Construction risk

(1) Difficult to differentiate from competitors

(2) Vendor dependency

(3) Vendor reliability and risk

Source: Technisys

Technisys advocates for a platform approach, explained further down.

The benefits of building your own digital bank tech are evident, but a bank or credit union must be able to afford the technology experts to design and maintain the website and mobile app(s). Large banks pay top dollar for such digital bank specialists. PNC Financial Services, for example, pays Technology Engineers an average of $107,834 annually and M&T Bank pays $105,380 for comparable talent, according to Glassdoor.

The Cost of Tech Talent:

Technology engineers at PNC and M&T Bank are paid salaries averaging in the low six-figures.

Does ‘Low Code’ and ‘No-Code’ Change the Math?

You may have heard the terms “low-code” and “no-code” in the technology space. As The Financial Brand describes in an earlier article, low-code programming “uses a developmental system from one vendor or another that essentially creates ‘building blocks’ of code that accomplish common tasks.” Individuals with varying levels of experience with code can work with low-code programs.

No-code, on the other hand, is a simplified version for individuals with no coding experience. The “building blocks” are set up like a template interface with drag-and-drop graphics. Low-code and no-code strategies are often designated for institutions looking to upgrade backend technology under their existing brands and the technology generally is bought from a fintech vendor.

Is There a Middle Ground Between Build and Buy?

The build or buy debate rages on, but there are some experts who recommend banks and credit unions consider a compromise — the platform approach.

“A fixation on building or buying negates a third option, which is to partner to create an ever-evolving and adaptable banking platform,” writes data technology company MX. They call this the ‘buy, build, extend, and assemble’ model.

The platform approach means a bank or credit union can involve multiple fintechs in the digital bank for different needs in a more evolutionary way. A bank can create a platform working with a vendor with open API infrastructure and hire out one fintech for digital payments, another fintech for credit checking and another for a chatbot.

It is important to note that many fintechs and vendors use different terms to describe platform products and services. Boiled down, however, these mixed-approach models mean a bank or credit union will buy a ‘digital bank platform’ and a network of fintech partners to expand that platform as the financial institution grows.

Other companies, like Nymbus, offer prepackaged digital banks that are scalable within that company. Liz High uses the most recent digital bank they launched — Hitched — as an example.

“We came up with the idea, we built the brand, we did the messaging and positioning, and built the technology,” High explains. “And then we sold it to the bank.” The bank in this case was Iroquois Federal Savings and Loan.

Aside from the purchase price, Nymbus makes money the more customers engage with the digital bank platform, High says, which encourages faster technology growth on Nymbus’ part. Ultimately, High explains, the goal is for a bank or credit union to buy several digital banks, each catering to different subsets of populations.

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