Plansmith Blog

A Tech In Community Bank’s Clothing

Posted by Ricardo Pena on 5/22/14 3:30 PM
The road to profitability begins with a very simple concept. An asset is acquired at a certain value X and it is sold at a value Y where Y is greater than X and the difference between the two gets you going. This is a concept that is very simple indeed. But this post isn’t a narrative about the arithmetic involved in generating profits; rather it is a discussion that begins with examining the nature of the assets being bought and sold, which is money.

Non-financial businesses ranging from the humble lemonade stand to the behemoth WalMart are easy to understand. The assets being transacted are, for the most part, quite tangible. It is easy to understand that something is manufactured, it is delivered to a retail place of business, it is stored in a warehouse as a portion of inventory, it is displayed on a shelf and it is ultimately purchased by people like you and me to put in a bag to take home. The equivalent chain of distribution can be identified in banking but there is one big difference that makes it all the more complicated. It is the fact that the product, being money in its many different forms, is not something you see, feel, taste, hear, or smell in any direct way.

When it comes to the bulk of transactions that financial institutions engage in, they do not purchase money from a manufacturer in any tangible form. They do not deliver this money in trucks. They do not store this money in a vault. They do not display it on shelves for customers to choose from. And they do not put it in bags for customers to take home. I am talking about the bulk of financial business that is transacted such as credit/debit card purchases, mortgages, car loans, commercial real estate loans, Fed Funds, bonds, derivatives, etc. … and don’t even get me started on BitCoins! All of these assets are transacted in electronic form that cannot be seen, felt, tasted, smelled or heard. They are magnetic bits stored on the hard drive of some computer somewhere.

So what’s the point about this obvious observation?

It means that due to the fact that the products are in the form of data, financial institutions are extremely prone to dealing with their products in very bad ways because they cannot see the obvious mistakes being made under the technological hood. Therefore, it behooves the financial institution to invest in ensuring that technology is done right.

I am certain that while you are reading this you are nodding your head in agreement thinking "That’s exactly what we do, of course." If I believed this to be the norm then I would have no reason to write this blog post since financial institutions already know what they’re doing. Well, I am here to tell you that your company is probably not. I’d almost bet dollars to donuts that if a competent Technical Architect were to audit your company’s systems from a technical perspective, the result would be an utter failure to utilize technology in the most effective way.

How and why does this happen?

One reason is because of what I alluded to above. The nature of financial transactions makes it very difficult to see how the way technology is being utilized cripples the organization when it comes to responding to the ever-changing needs of the business.

To illustrate, suppose you were running a restaurant. You would never buy a 5-gallon bucket of soup to sell to your customers if you wanted to be successful (I hope). Instead, you would buy the ingredients separately then put them together following a recipe and thereby making the soup fresh. What if you purchased all of your potatoes pre-mashed? Can you then make French fries? No. Yet this equivalent mistake is made in financial institutions all the time. This happens because management cannot see the obvious mistake like they can see it with potatoes. So the intangibility of the products, which are in the form of data, causes these types of mistakes to go on undetected.

Another reason why technology is misused or underutilized is because of the myth that financial institutions are not technology shops. Small community institutions can get away with depending on third-party solutions if they stick to engaging in financial services and transactions for which the problem is well-known and thoroughly solved by existing technology. However, as institutions get bigger this luxury begins to fade away.

The truth is that with the innovation in financial instruments, the diversity of portfolio mix from institution to institution, and the ever-changing regulatory requirements, there is no way that third-party vendors can solve every problem a financial institution is faced with. This is why a financial institution of significant size could never get away with depending solely on third-party solutions. Eventually, the financial institution reluctantly hires consultants to do custom work and/or hiring in-house programmers, making a part of the financial institution a technology shop anyway. A failure to recognize this early on leads to a patchwork quilt of systems that attempt to fill the gaps between what the third-party solutions provide and what they actually need and the systems end up not integrating very well anyway. Changing with the needs of the business therefore becomes time-consuming, costly, and operationally risky.

This phenomenon of misusing and/or underutilizing technology in financial institutions begins with a misguided attitude about I.T. that is cultivated in part by the fact that they cannot actually see the problems like they can see the problems in a retail business or a restaurant. This misguided attitude is that "we are a financial institution, not an I.T. shop" and therefore it is good and justified to be totally dependent on outside vendors to facilitate their needs. The key term here is "totally" dependent. Financial institutions should not attempt to solve all of their problems in-house. That would be crazy. Yes, most things should be solved by third-party solutions, but because third-party vendors cannot solve every problem that arises for every particular financial institution, then they must utilize many different solutions that have to be integrated internally and some portion of their solutions must be custom. These internal challenges must be solved in-house.

A third reason why this happens is because many times, technologists don’t understand finance. It is hard enough to implement technology well in a business they understand, but it is much more difficult to implement technology in a business they do not understand. Technologists must depend on Subject Matter Experts to convey the problem in a way that allows the technologist to bring forth the optimal solution. I had this epitome when I was far enough into my MBA curriculum, wherein I concentrated in finance, to realize where things were being lost in translation between technical geeks and finance geeks. Understanding how the financial industry works was crucial for me to understand where the problems lie and how to anticipate pitfalls in order to avoid potential problems and become more successful in my career. It is very rare to find a really good technologist. It is even rarer to find a good technologist that understands finance. Eventually something is put together that works, but the problems inherent in such implementations rear their ugly heads later on when the business needs to adjust to changing conditions and they discover that they cannot make changes easily.

All of this means that the financial institution must accept the fact that they have to have multiple personalities in the sense that they are a financial institution but must also have a serious attitude toward investing in technical competency. One blog post may not convince you, but digging deeper into some of the particulars in later posts might change your mind so stay tuned. The devil is in the details and time and time again it has been proven that like it or not, a financial institution will inevitably become just a tech in bank’s clothing.

Topics: strategic thinking, bank strategy, interest rate risk, strategy, community bank, community bank strategy, community bank budget, community bank budget software, community bank budgeting, fintech

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