Digital Partnerships Should be a Priority for Banks in 2013

The payments industry is undergoing an unprecedented evolution due to the confluence of evolving technology, new entrants and changing customer behavior.  

With the whirl of innovation, players are moving faster to deliver new propositions into the market and many are looking to digital commerce partnerships to unlock differentiated value. Most banks, however, are inexperienced at forging strategic alliances with fast moving start-ups and technology companies. As a result, they risk both poorly chosen gambles or sitting on the sidelines while game-changing partnerships are struck.

The pace of change is accelerating in the payments market, with a few major forces increasing the rate of disruption. To start, the financial crisis and resulting regulatory changes have shifted traditional payment economics for most bank players. Next, consumers are spending more of their lives in digital settings – online media, social networks, video games, etc. – requiring traditional payment players to be relevant in these commerce areas too. Finally, new entrants such as Google, Facebook and Apple have deep wells of patient capital and are stepping into the payments arena to drive their core businesses.

Several players are clearly focused on capitalizing on this rapid-fire digital partnership model. American Express, for example, has struck multiple deals across the digital commerce landscape (e.g., FourSquare, Facebook) and launched a $100 million venture capital fund located in Silicon Valley. They have made a strategic decision to lead in this space.

Citigroup has also invested heavily – striking formative partnerships with Google Wallet and enabling points-sharing on Facebook. Meanwhile, smaller institutions are also making their mark. Veridian Credit Union, for example, is one small institution striking partnerships with Dwolla. In merchant acquiring, Heartland Payment Systems and LevelUp have teamed up to bring new commerce options to merchants.

Still, digital commerce partnerships remain incredibly challenging for traditional banks. To start, they can happen very quickly. Allegiances may be struck and implemented in a matter of months – much faster than the enterprise risk committee decision-making at many banks. Second, they expose banks to a new set of partner risks. If these new partners and their "fail fast" approach to innovation fall afoul of customers or regulators, the blowback on the bank partner could be material. Next, digital commerce partners can be unpredictable.

Apparent leaders today can quickly fade and partners can redirect their strategies. Google Wallet, for example, shifted from direct integration with banks to an "open wallet" that consumers can simply link virtually any bankcard. Finally, implementation uncertainties with new technologies are massive.

To be successful, traditional banks and acquirers evaluating digital commerce strategies need to assess several factors. First, how does a digital partnership support the overall strategy? Objectives range from securing unique market advantages for leaders to creating an innovation buzz for fast followers. In addition, banks need to clearly understand the risks. Successful players will assess the maximum downsides and enable themselves to exit partnerships quickly.

Next, banks need to determine where in the value chain they are willing to be aggressive with digital partners. Customer acquisition, marketing, rewards and product features are areas where banks typically have a wider degree of freedom for digital partnerships. Underwriting, account management and collections, however, are riskier for digital partners.

Finally, banks need to enable digital partnerships to be successful. Here are some tips to help deliver on a successful partnership.

Find a champion. Establishing ground-breaking partnerships requires leadership. Successful banks have empowered leaders to drive the strategy, negotiations and manage the partnerships over time. These leaders will need to build consensus, marshal resources and break log jams.

Establish a partnership council. Formalize an enterprise council for reviewing and implementing strategic partnerships. This will provide ready-to-go coordination mechanisms across all parts of the institution as partnerships often impact multiple business units or functions.

Ramp-up business development. Empower business development groups to actively look for partnerships and provide funding for strategic investments. These groups can spearhead potential partnership deals, and then transition to business unit leaders.

Open an office in Silicon Valley. Create a physical presence in areas of high innovation like Silicon Valley. From American Express to Citigroup, multiple institutions are establishing offices in the Bay Area to get close to the action and network with start-ups, monitor trends and evaluate partners.

Hire innovation talent. Acquire talented innovators from startups or innovation-rich firms. American Express, for example, brought in Josh Silverman (former Skype CEO and executive-in-residence at Greylock Partners) to run its U.S. Consumer Services Business. Protecting these hires from traditional organization turf wars is important to maintain the momentum.

Dan Ewing is a senior expert at the global consulting firm McKinsey & Co.