Small business banking – heading into the ‘rally years’

Following the banks’ strategic shift in providing services to small business in the 1990s and into the early 2000s, much progress and success has been had. In front of the banks lie new challenges and new opportunities. For the bank to continue to see the success from the small business segment at even today’s level, continued investment in the channel will be required. Potentially adding insult to injury is that in addition to stepping up investments in serving this segment, the bank will once again need to shift its philosophy in how it understands and serves this segment.

If we look at how the small business banking market is served over time, we'd find three distinct periods. The first generation, or ‘Lost Years’, captures those years when the bank effectively ignored small businesses or looked at the small business simply as a retail customer with some business banking needs, or a business too small to focus its corporate banking resources. The second generation, Birth of a Segment’, includes those years when the banks stepped up investments in serving small businesses as a unique customer segment. The banks questioned the silos, defined management leads for the segment, created segment specific messaging, built small business banking centers and created targeted online banking offerings. We are now squarely at the beginning of what we’ll call the third generation, the ‘Rally Years’.

The Rally Years will see additional investment in attention and resources as seen in the second generation, but not all banks will participate. Banks that will win and fully realize the rewards from serving the small business relationship will continue to work aggressively to remain relevant. These banks will seek to manage the breadth of the small business’ financial services transaction flow and providing value over and above commodity-like services; realizing this vision though will require a shift in how the bank sees itself as a provider to the small business. The leading banks in the Rally Years will be those that begin to look at the bank’s payment offering as the foundation for the small business relationship, much like it does for the wholesale segment (versus the legacy view of business checking being the bridge between the business and the bank – the small business’ once-entrée into the world of business banking).

Use payments as an offense and defense
When a bank has visibility into only one or two dimensions of the business, such as credit or demand deposit or payables over receivables, the relationship is left exposed. Banks long ago learned this, as illustrated today with banks tying credit decisions and discounts to use of their checking accounts. This view needs to expand beyond the “account” relationship though and into payments and ancillary services. A bank that wants a deeper relationship needs to look no further than the business’ cash flows.

Drive value through tailored delivery
The small business is time-starved, lacks financial management knowledge, and has a diverse set of needs. For the bank to address these challenges and needs, the delivery of the product or service must be engineered and tailored for the small business – not pushed in from the retail or wholesale side of the bank in legacy forms. A business doesn't need to have $15 million in revenue to need to move funds across borders. Similarly, just because a business needs to move funds cross-border doesn't mean it needs access to a sophisticated currency options trading and contract management facility. The bank must match the need to the delivery of the capability. To ensure the adoption and utilization of the capability, the bank must design the capability to be easy to subscribe or enroll (instant or pre-enrollment is ideal), easy to access, and easy to use (to transact or monitor) when and where the small business needs it. Tailoring the offering to the small business segment will serve to drive transaction volume, which in turn creates the opportunity to create insight and add value.

Leverage technology to manage and deepen the relationship
The small business segment might have less complex finances than its larger cousins, but to maximize the rewards from the segment will require providing more services. Making matters worse is that a bank’s small business segment can be many times larger than the bank’s middle market and large business portfolio. Providing more services to an even larger customer base is daunting given the constraints of accessing human capital.

Here technology plays multiple key roles. First, it will play a defining role in delivering much of the service experience. Technology will also manage (or monitor) the relationship so that when contact is made, human or otherwise, it is engaged based on everything the bank should know about the customer combined with what the right thing to say is. Lastly, technology will play the important role of creating and delivering insight to the small business when and where it is needed – where once this only occurred when the planets aligned where an account manager having the expertise, combined with the knowledge and access to the small business’ finances, could provide ‘insight’ and ‘advice’ right when the business needed it.

The financial reward from serving the small business market can be great but the investment to realize it will not be small. Signs in the market point to rethinking how the bank provides value to the small business, having relied too long on a relatively narrow offering and the diminishing value of the once critical relationship with the branch and branch banker. Now is the time to step back and contemplate the breadth of financial services and financial management needs, issues, and challenges a small business faces. With this broader view in mind, the bank needs to identify which of the small businesses’ needs it can meet and define a mix of products and services directed not only at driving sales but in locking in the business customer’s relationship into the future by creating value that others cannot easily replicate.

Without this mindset, the bank’s small business portfolio will achieve sub-par returns with increasing exposure to external threats. As the need to visit the branches declines the businesses’ financial services needs continue to increase while bank and non-bank competitors alike, such as Google and PayPal, seek to steal the small businesses’ transaction volume product sales and mind share. Filling in this gap will be found by assuming the new mindset and delivering a bank offering that addresses the unique needs of the small business – not one that simply reuses retail or wholesale capabilities.

The banks remain in the best position to lock in the deepest relationship with the small business. Few market participants can offer the breadth of services or realize the full potential of serving this segment’s needs in the way that a bank can, such as a payment gateway isn’t looking for deposits that can be used to fuel wholesale lending. This position will not last forever as non-bank competition looks more and more like a bank everyday and where it doesn’t, the non-bank competitor will point the customer to the bank segment only for what it can’t legally expose for now. While the market is poised and the bank is positioned for success, it has made the first step. Though the ‘barriers to entry’ to serving this market are high, the bank is already in market. As the goal isn’t to simply enter in the market, it is to be a leader in the market, the most significant and challenging step comes next.

It will require the bank to expand its mandate and identify and deliver the offering that fully monetizes the bank’s pedigree of financial services and financial management. If the bank is able to rethink and provide its small business offering with this broader perspective, it will not only reap the rewards in today’s market, but will also continue to enjoy the rewards into the future. Small business banking will forevermore receive the proper attention as the banks begin to treat small business customers as a unique and distinct class having unique and distinct needs.

About Edward Woods
Edward Woods is a senior analyst in Celent's Banking group and is based in the firm's San Francisco office. Woods' research covers online retail banking sales and distribution strategy, as well as online retail and small business payments. His research also deals with the trends shaping bank payment operations, as well as enterprise payment platform strategy.