Strategies: Small Banks, Big Imperative

 

Peter Lucas

 

Keeping up with change in electronic payments is hard, but essential, work for community banks. Here’s how they’re doing it.

 

Every time a huge bank—Bank of America Corp., JP Morgan Chase & Co., and Wells Fargo & Co., for example—makes a splash in payments, as they did last month announcing clearXchange, their joint person-to-person service, community banks get that elephant on the chest feeling.

 

The cause of their anxiety is the knowledge that innovation in electronic payments by the big banks threatens their customer base. Indeed, today’s tech-savvy consumers are looking for such innovations as P2P, mobile banking, and mobile payments, and the most logical place to get them is through large banks. They have the resources to develop such products internally or partner with leading technology providers to roll them out nationally.

 

It’s a tough pill to swallow for most community banks. “It’s likely some of our customers will go to one of the big three banks just to get their new P2P service,” says Bob Steen, chairman and chief executive of Bridge Community Bank in Mechanicsville, Iowa. “We’re going to need a similar offering, because if we can’t compete in payments, it will hurt the value of our franchise.”

 

Most small banks understand that payments can be the key to opening a wide array of relationships with customers. That makes payments—and especially mastery of new payment methods—critical to attracting and keeping accounts.

 

At the same time, exclusion from any new payment product because of lack of resources to develop and market it or the inability to find a technology partner that can provide it at an affordable cost is a risk few community banks can afford.

 

Partner And Rival

 

Still, many community banks are not able to focus on payments these days as they are struggling to comply with new regulatory demands.

 

“A lot of community banks are financially troubled right now, and with the financial regulatory reforms such as Dodd-Frank and the Durbin bill coming down the pipe, a lot of community banks don’t have time to think about anything else,” says Steen.

 

As a result, many community banks are looking to third-party technology providers to develop the payment products they need to compete. The most obvious are bank-platform providers such as FIS, Fiserv, and Jack Henry & Associates, which aggressively market to community banks.

 

Teaming with a platform provider allows banks to integrate new applications as needed, rather than converting the entire operating platform. That’s a big plus for community banks looking to get more mileage out of their existing hardware and software.

 

“Community banks simply don’t have the staff to dedicate to managing multiple vendor relationships and they don’t necessarily want to partner with a vendor that can be a potential competitor,” says Cary Whaley, vice president of Payments and Technology policy for the Independent Community Bankers of America (ICBA)

 

Take PayPal, which pioneered electronic P2P payments. Some see the San Jose, Calif.-based unit of eBay Inc. as a perfect example of a technology provider that can offer community banks an affordable payment option on one hand and compete with them on the other.

 

PayPal is offering banks the opportunity to ride on the rails of its P2P network. Consumers can log into their PayPal account online via their smart phone or initiate a PayPal P2P transaction via an ATM owned by a bank in the PayPal network.

 

Once logged into her account, the sender enters the mobile phone number or e-mail address of the recipient she wants to send money to and the amount to be sent. The recipient is sent a text message to their phone or e-mail notifying them they are about to receive a P2P payment.

 

To accept the payment, the recipient gives the okay to have the money transferred to her PayPal account. If she does not have a PayPal account, she can open one via her smart phone or online.

 

Once the money is deposited in the recipient’s PayPal account, she can move it to the bank account of her choice, forward it to someone else via PayPal, spend it at any of PayPal’s 8 million merchants, or withdraw the money as cash from an ATM using her PayPal debit card. First Data processes transactions made with the card.

 

“We are providing the last-mile capabilities for the banks,” says Dan Schatt, general manager for innovations at PayPal. “Banks own the front-end capabilities and can charge the customers for the service. While we offer this service to banks of all sizes, it is a way for community banks to grab their share of transaction volume and offer their customers a convenience for which they are likely to pay.”

 

While the service is indeed attractive to community banks, the inclusion of a PayPal debit card makes some community bankers uneasy. “We see PayPal as a technology partner and a competitor,” says Brad Rose, vice president of Information Technology and Security for LaJunta, Colo.-based The State Bank. “PayPal takes the technology burden of P2P off banks, but they also have a debit card.”

 

No Afterthought

 

Community bankers looking for an alternative could turn to Fiserv’s ZashPay, which allows consumers to send money to or receive money from anyone using their bank’s Web site or Zashpay.com. But alternatives like this have both strong points and weaknesses.

 

With ZashPay, the consumer enters the mobile phone number or e-mail address of the person she wants to send money to, the payment amount and a message. Consumers can send money to anyone who has a bank account in the United States. More than 700 U.S. banks have signed up for ZashPay, and about 400 have implemented it so far.

 

“Our P2P offering gives community banks a payment product that can make them competitive in P2P payments with big banks,” says Mary Beth Lawson, vice president, Product Management for Brookfield, Wis.-based Fiserv. “Any time the big banks adopt a new payment product, consumers see it as an endorsement of the product, so it is a benefit for community banks to have this same type of capability.”

 

One advantage PayPal’s P2P service has over ZashPay is that consumers can initiate cross-border transactions because the money is initially sent to a PayPal account. PayPal’s ubiquity is also seen as a strong selling point.

 

“A lot of volume is moving through PayPal, and at some point there will likely have to be some type of partnership with them even though they are a potential competitor,” says Rule Loving, assistant vice president at StonehamBank, Stoneham, Mass.

 

Mobile banking also has small banks thinking big. Thanks to the growing sophistication of smart phones, on which consumers can play video, search the Web, access e-mail, play online games, and conduct transactions, any time, anywhere, bankers are no longer treating mobile commerce as an afterthought.

 

In 2010, about 15% of community banks offered a mobile-banking application, according to the ICBA. That figure is expected to rise to between 25% and 28% in the next year.

 

“Payment technology is moving so fast today that banks, especially community banks, really can’t wait too long to ramp up new offerings,” says Stoneham Bank’s Loving. “Mobile banking is growing and it may soon get to a point where if a new customer comes to a bank and the bank does not offer it, they’d be adverse to give that bank their business.”

 

Flying High with Pilots

 

StonehamBank offers a mobile-banking application through FIS that allows consumers to check their balance, access a mini-statement, and pay bills. While the convenience of being able to perform these functions via a smart phone is a key selling point for customers, the bank actually saves money when consumers use the application to perform balance inquiries outside daily business hours.

 

Many consumers will contact the bank’s call center during off hours to check their balances, which costs Stoneham between $6.50 and $7.00 per call. “If we can offload 5% to 6% of those calls to the mobile application, the cost of the application will pay for itself,” says Loving, who adds the bank does not charge customers for the application.

 

About 10% of the bank’s debit card holders have downloaded the application. Ultimately, Loving says, the bank wants to have about 30% of its debit card holders using the app.

 

StonehamBank began offering mobile banking a few years ago. In that time, it has learned that consumers will not flock to new technology just because it is offered. “Adoption rates are growing, but more along the lines of when online banking and ATMs were first offered,” says Loving. “We have learned that consumers need to have the service frequently marketed to them in order to generate interest, as with any new service.”

 

While most community banks lack the internal resources to develop new technology that can put them at the forefront of payments, they can still join pilot programs that put them on the leading edge.

 

Bridge Community Bank, for example, is participating in a Deposited Check Truncation project from NACHA, the regulatory organization for the automated clearing house network. DCT is intended to cut processing costs for banks compared to the cost to clear check images. As one of 10 participating banks in the pilot, Bridge is acting as an originating institution.

 

Bridge’s Steen says more than 70% of the checks the bank handles fall under the $250 ceiling established for the pilot. More than 50% of those checks are eligible for ACH conversion.

 

Since the pilot began in August, Steen says the bank has not received one request from a customer for an image of a truncated check, a fact confirmed by NACHA. The pilot is scheduled to conclude at year’s end.

 

“We are saving about 90% of the processing costs for converting low-dollar, non-business checks to an ACH transaction,” says Steen, who is on the NACHA board.

 

No Do-Overs

 

Participating in a pilot gives community banks an opportunity to have a say in how new products are developed. That could be extremely valuable, since the lack of internal information-technology resources at community banks means they have little margin for error when offering a new product.

 

“Community banks are more nimble than the big banks, but they can’t afford a do-over if they offer a new product or service and find it does not fly with consumers,” says ICBA’s Whaley. “That’s why having a voice in the pilot process is so important to community banks, because they want to make sure the products they offer fit the needs of their mission and customer base.”

 

One new payment offering generating interest among community banks is Google Inc.’s new, Android-powered mobile wallet, introduced in May. Google’s entry, which relies on near-field communication (NFC) technology, is seen by some community bankers as a potential alternative to Bling Nation, which offers a closed-loop transaction network linking local merchants and local banks in a community to allow on-us processing of debit transactions.

 

Rose of The State Bank says the bank recently received a letter from Bling Nation saying that the local merchant network it was supporting is being dismantled due to lack of merchant support for the product (box). “It’s surprising,” says Rose. “I thought it was a good product for merchants, but in some cases some arm-twisting was needed to get them to sign on.”

 

While Google’s entry into payments is viewed as giving new life to NFC, which has struggled to gain a toehold in payments due to constant bickering between banks and wireless carriers, it’s unclear whether the wallet will be made available on non-Android devices. If not, it will exclude iPhone and BlackBerry users, which are a significant portion of the mobile market.

 

Google has said it will not charge issuers for access to its wallet and will instead earn revenues from offers and deals it will deliver through the platform. Still, at least some community bankers aren’t ready just yet to sign up. “I think the Google wallet would be a good alternative to Bling Nation, but a lot depends on the fee schedule and what Google’s plans are,” adds Rose.

 

Despite feeling hard-pressed to remain competitive in payments, community banks are by no means on the verge of being run out the arena by the big banks. By finding partners that have the resources and the economies of scale needed to keep implementation and transaction-processing costs low, community banks can continue to be relevant in the payments game.

 

“Third-party partnerships make it possible for community banks to level the playing field with the big banks when it comes to payments, and community banks should be looking to leverage these potential partnerships,” says George Throckmorton, managing director, Advanced Payment Solutions for NACHA. “There are many opportunities out there for community banks to offer the same services as the big banks.”

 

 

 

Bling Hits the Pause Button

 

When Palo Alto, Calif.-based Bling Nation last month said it is pausing operations of its PayConnect and FanConnect mobile services to retool its services in response to feedback from merchants and users, analysts immediately pointed to slow acceptance among merchants and consumers as the culprit.

 

“If a payments company can’t deliver a substantial base of new customers to merchants, there is not a strong enough value proposition for merchants to support it,” says Rick Oglesby, a senior analyst with Boston-based Aite Group. “Bling has previously stated that its payment offering was a commodity and it appears they could not deliver a large enough customer base outside of what PayPal offered. Access to large segments of new customers is a potent value proposition for merchants.”

 

Bling began testing funding of its accounts through PayPal in July 2010 and in October was included in PayPal Inc.’s iPhone app.

 

Although Bling’s immediate future is uncertain, the company said in an e-mail that the “Bling Nation leadership team remains intact and we feel that we have a winning combination that will dominate these areas in the long term.”

 

Bling relied on contactless stickers affixed to phones to initiate payments at the point of sale. Tapping the handset on point-of-sale readers, called “Blingers,” debited the consumer’s account.

 

In late 2010, Bling added FanConnect, a social-media application that allowed consumers to “like” a business on Facebook and share information about merchants and special offers within their Facebook community, which provided merchants with an easy entrée into social networking. Bling planned to support the program with analytics and customer-relations management tools for merchants.

 

Bling’s decision to suspend operations is likely to leave the company far behind competitors in a market that is developing fast and attracting major players, including wireless carriers and the Web search giant Google Inc., observers say. Some say that when the company does resume operations, it may have to do so under a new brand name to distance itself from its past failures. Officials from the company were not available for further comment.

 

“There is no question Bling will be playing catch-up by the time it relaunches,” says Oglesby. “It’s quite clear that the Google wallet is going to be more about the value of the marketing solutions it offers than payments. Google has a lot of assets and brand recognition. The question for Bling is whether it can learn from its failures and the successes of other players in the payments market.”