BankerVision

Innovation not "cool enough" in banks

In a post entitled "The problem with banking innovation and how to fix it", Guillaume remarks:

"smart innovative employees go to companies that have an innovative management environment and culture..."

And earlier in the piece he cites a post by Allen Weinberg stating that banks have difficulty hiring innovative employees because of "their lack of coolness". Both of these remarks are, I think, somewhat short of the mark.

I have never had any difficulty whatsoever hiring an innovative employee. In fact, we have a queue of people who want internal transfers to us, and a list of interns who want a placement that everyone else is jealous of. And I can tell you why. It is because we do different work, work at the edge, which is attractive largely as a result of the "coolness" factor.

"Ah", I can hear you think from here, "but are those innovative employees?"

Well yes. Practically everyone is innovative, but often they don't know it. I had an experience the other day which reminded me of this. We were working on something called a "Leadership Challenge", where a group of us from around and about have to focus on "making the bank more proactively innovative". Excepting myself, no one on this group does innovation for their day job.

"I'm not that innovative",this person says. I reply with a question "do you try new things in case you can make things better?". Of course the answer was yes. And doing things differently to get a better outcome is innovative behaviour.

But later in his post Guillaume identifies the thing which is difficult about innovation (and not just in banks):

"People with innovative ideas as well as execution capabilities are a company's greatest asset and should be given opportunities before they leave and join a company that does"

The problem is that having the ideas is the fun part. Everyone likes sitting around and dreaming about what is possible. Turning those ideas into something, though, is much harder. The innovative employee who also wants to sign-up for execution is a rare animal indeed.

And people are often surprised at what execution entails. More often than not, it is about sales. Selling the idea to get some support. Selling the project so that people don't block. In the end, selling whatever-it-is to the people that need to sell it. "Opportunities" are made for innovation, not given.

It is fallacious to think that all you have to do is give an innovator money to get innovation. If, however, what you want is lots of pet projects, then by all means hand over the wallet.

Finding an innovative employee who has execution and who is able to sell is about as easy as identifying the last existing specimen of the dodo.

Suggesting that all the good innovators won't work for banks misses the key point. Which is that there aren't that many good innovators to start with.

Innovation and the future-proof bank

The "project" I've alluded to on this blog a few times recently is a book I'm working on to be published by Wiley. It's called "Innovation and the Future Proof Bank" and will come out early in 2009. As you've probably gathered from the title, it is supposed to help bankers create innovation teams and use them to safeguard their future in the face of the furious change our industry is presently experiencing.

Here's the key idea: innovation needs not only a nice process to get things through a pipeline, it needs a set of tools that can forecast the likely shape of things to come and then optimise the innovation process accordingly. I make the point throughout that the innovation process  is itself a disruptive innovation in a bank. The degree to which it is successful is correlated with how well such processes are able to anticipate, and the book talks about how that can be done. It's always surprised me how few innovation teams I've talked to in banks actually operationalise the process of thinking about what's coming up.

Here are some of the other key things I'm dealing with:

• What happens when you give an innovation programme too much money too soon. Everyone always concentrates on not having enough money, but the reverse situation can be much, much worse.
  
• The nature of the leadership required to get an innovation function to work.
  
• The theoretical models you can use to de-randomise innovation, including an individual level diffusion model that was the subject of my doctoral research years ago
  
• Politics and governance, actually two sides of the same coin, and why they are the friends of innovators. Why complain about them when they can drive the innovation agenda themselves if you let them?
  
• And, inevitably, a section on dealing with IT. IT is both the biggest advantage that banks have, and the largest issue that must be dealt with to get anything done. IT has rules, and has them for a reason. Innovators break rules, and do that for a reason also. How does one balance the two?

But really, I'm hoping that the end result will be a book that senior managers can use to help them establish an innovation function. That bank innovators can use to help them make their existing methods as robust as possible. And that partners of banks - vendors for example - can use to let them interface with the innovation functions of banks so that both parties benefit.

I've been collecting material from lots of institutions around the world, since the book won't be limited to any particular region. I'm also using material from other industries to a lesser degree: at the time the proposal was peer-reviewed by Wiley's industry people, quite a bit a feedback came back that the material would be more interesting if it had examples from other sorts of companies in the financial services value chain. Post offices and peer-to-peer lending, for example.

I've already been in contact with many of you whom email me regularly to gauge your interest in participating in this book by contributing an interview or a case study. But I know that I don't know most of you who read here. So if you'd like to participate in the book I'd be really thrilled to hear from you. I'm looking for case studies around innovation processes, specific results of that process, people and leadership, governance or anything else that might be useful guidance to anyone starting their innovation journey. And I'm also looking for stories of things that went wrong. I realise that this last is likely to be more challenging.

Nothing will be published without your written approval. Actually Wiley are very strict on getting authorities in place. So if you want to be a part of the book, you'll have lots of chances to make sure that my writing represents things in a way you're happy with. Email me if you're interested at james.gardner@lloydstsb.co.uk.

I'll post periodic updates here from time to time to let you know progress. And I hope you'll have a virtual glass of Champagne with me when I finish the manuscript and send it off in September.

Peer to peer lending through the lens of disruption

I've begin to ask myself whether peer to peer lending is, in fact, a disruptive or incremental innovation. I can already imagine everyone out there reading this incredulously: of course peer to peer lending is disruptive!

But just because it is something banks aren't really doing much of at present does not make it disruptive.On the other hand, the theory behind disruption is well understood. It should be possible to see signs of peer-to-peer disrupting banks. Clayton Christensen's underpinnings to what follows will be obvious if you've read his books.

So what signs would one expect if p2p was beginning to disrupt traditional lending?

Firstly, it would start small, and grow big. It would start in segments the traditional part of the industry- banks - would not care much about. Loans, for example, to people that a bank wouldn't normally lend to. The loans that Prosper and Zopa are writing - would they be writing them today if customers could get a similar loan from a bank?

Secondly, the product needs to be good enough for the target market of people in that segment, but would under-perform for higher segment tiers. Because of this under performance, banks naturally dismiss p2p as an inconsequential threat to more highly profitable business. Bigger loans are more complicated. Mortgage, for example, requires all this stuff which a personal loan doesn't. Clearly, p2p under performs for complicated big products presently, although there are signs of this changing. Virgin Money in the US, for example, with their acquisition of Circle Lending, could conceivably crack the more complicated loans with a peer to peer model.

Thirdly, you'd expect to see banks ceding the low margin, uncomplicated loans to peer to peer, and move upmarket aggressively. For a peer to peer lender, such a market is attractive because of their low cost base and different business model. For a bank, however, margins are much thinner, and the upscale markets very much more attractive. The exit would be a natural, and justified move.

Here is the key question: are we seeing such behaviour presently in banks where a P2P player has entered the market? The answer is complicated by the present situation in financial markets. According to Zopa, they are doing great business at present, and even they put this down to the Crunch. Its by no means obvious, given what else is going on, that banks are exiting.

On the other hand, Gartner suggested a month or so ago that p2p could capture 10% of retail lending in the next year and a half. One way that would happen is if banks decided to leave very low margin unsecured loans on the table for peer to peer. It would be a classic example of flight from a disruptor.

My view is that if the Gartner forecast comes true - or actually, even close to true - p2p is disruptive, and is a very, very significant threat to the core business of banks (I realise I previously dismissed the Gartner forecast as ambitious). As a hypothetical exploration for a moment, let's explore what might happen if this came to pass.

Peer to peer, on an aggressive expansion programme, would naturally improve its product. This would make them good enough in other segments that banks had not yet vacated. There are already signs of this improvement happening. Zopa, for example,  launched deposit insurance, which will likely make them good enough to attract deposits from people who otherwise would have used a bank. There would still be a cost and business model advantage compared to banks, so banks would, again, have the choice to flee or fight. Disruption theory would suggest flight as the likely option. There would still be a more profitable segment for banks to focus on, so flight would make good commercial sense.

Now, that's all predicated on the idea that banks are already ceding low margin markets to P2P (because it is disruptive), and as I've said, that's by no means something that is certain right now. Let's consider the alternate case where, in fact,  P2P is incremental.

An incremental innovation introduces a minor variation on the core theme already offered by the incumbent. Such a variation would make it more likely or less expensive to get a loan (or make a deposit), but probably doesn't offer much that a bank wouldn't be able to if it put its mind to it. Likelihood is easily addressed by a bank through its lending criteria, and price is similarly easy to counter, especially if you have deep pockets. In any event, it does seem likely that any present price advantage in the P2P model comes as a result of premiums paid by a new entrant to get its foot in the door with customers.At this stage, I am not aware of any data that suggest that the social aspect of peer to peer is sufficiently motivating to consumers who want to conclude a financial transaction.

When P2P is conceptualised as incremental, entrants are fighting directly for customers of incumbent banks. In such a play, banks will definitely not cede low margin markets, and will counter with competitive products of their own. Family and friends lending, for example, would be such a response, where banks act as lending administrators for a fee, though not providing the funding themselves. That's the same model business model of most P2P players, but backed by the much larger resources of a bank.

In the case of an increment on traditional lending, I'd expect that banks will win the competitive battle. Either because they enter P2P themselves, or because of the competitive fatigue that new entrants will experience over time.

So let me state the key question differently: are P2P players writing loans to customers that wouldn't have acquired a loan previously? Or are they fighting to take share from banks by winning over the same customers? The former is disruptive, and the latter isn't. 

As this is such an important question, no matter which side of the debate you come down on, I'd welcome any thoughts.

On Titles 2.0 and what they mean

Katherine Coombs, who works with me in our innovation team at the bank, blogs on the subject of titles for innovators.

This internal micro-meme all started recently when the team went to visit IBM's labs, where they met a whole group of people with titles such as "Innovation Ninja" and "Virtual World Evangelist". Katherine opines that if she took the title "Ideas Monkey" - a slightly humorous though not very accurate summary of what she does for us -  she'd be in a position of reduced credibility every time she handed out her business card. She prefers to retain her very corporate title "Senior Innovation Manager".

On the other hand, Annalie Killian , of AMP in Australia calls herself "Catalyst for Magic", and says:

Catalyst for Magic has been my business title since I joined AMP on 2 April 2000.  I chose it because my real title is this long, boring, corporate-sounding sentence that puts people, myself included, to sleep.

Catalyst for Magic is much more fun, a fabulous conversation starter and the perfect summary of what I do…which is to help unleash the magic we find from employing human beings, as opposed to machines, to transform tour organisation and our business.

Initially, when everyone came back from the visit to IBM, I was skeptical in the extreme about the value of - as one of the team put it - "2.0 friendly" titles. It took a conversation with a colleague to open my eyes to something that Annalie knew from the start: the title can be a great door opener. Is it possible you can create buzz with an email signature, and if so, what might the value of that buzz be in the innovation process?

Actually, I've lost count of the times people have said to me "Head of Innovation? What a great job!". Even this corporate-sounding version gets people excited.

How would you spend your time: one hour with a Senior Manager (a title denoting a hierarchical position only) or that same hour with a "Innovation Insider"? if you've never met the individual before, I'd be willing you'd bet on the latter, if only out of curiosity. At the very least, the title connotes that the individual might know something you want to know rather than being someone that demands time from you because of their position.

As an experiment, I sent out a serious business type email today with the title of "Diviner of Newness" instead of "Head of Innovation". Not only was the response pretty immediate, I got a phone from someone who never picks up the phone ever. Clearly, the right title can create buzz.

So, I am now not as skeptical as I previously was on this subject. I may explore a nice Title 2.0 for myself, and certainly have given free rein to the team to use any title - within reason - themselves. It will be interesting to see if they actually do something about it.

PS: I am preserving my old "Head of" business cards. I'll still need them, since a lot of business today is about hierarchy and one's place in it. But when I finally come up with the right Title 2.0, I'll definitely use it when the situation seems to make sense that I do so.

The economic implications of power

I was in a meeting with Cisco yesterday where they talked of the work they are doing with respect to greening the network in the data centre. Basically, they said, you can increase the efficiency of a data centre by decreasing the number of ports that each server uses. With virtualisation on the rise, that is apparently a big concern. The newest switches apparently take 10 watts of power on each side of the cable to run. Add that up over thousands of ports and you can see the point.

Actually, this is an ever-so-common story. The availability of power to data centres is swiftly becoming the limiting factor in much of what we do these days. Remember those old glory days where we had to optimise our systems to use as little compute and storage as possible because there just wasn't much to go around?

We are now in the same boat again - but now there isn't enough power to go around.

Gazing into the future a little, what is the effect of not having enough power to go around? Yes, the price will go up. Getting more requires large scale and long term investments in infrastructure, so to all intents and purposes the supply is fixed.

Is it so hard to envisage a situation where large corporate users of power are expected to kick funds into the consumer market to stabilise prices due to their disproportionate use? Or get charged a special carbon tax to offset their power use? Or actually wind up having to build their own power generation? I think it isn't.

Now, if that or any scenario similar occurs, we are faced with a very dramatic increase in our IT expenses- without any increase in capability. Can you imagine the impact on our cost to income ratios, which have been falling steadily over the last decade? They'll suffer a swift reversal.

20 years ago, the biggest cost when you wanted to start an airline was buying the planes. What is it now? The fuel. The entire dynamic of the airline industry was changed by it.

How likely is it that the largest costs of a particular IT capability - over the life of the system - will be the power that drives the system? I think very. Such a development will have architectural and economic consequences for everyone that needs a lot of compute.

Banks? We're practically all computer.

In deregulated markets, it is already the case that you can buy power in advance. For a fixed price. Having a futures exchange for power is a natural consequence of scarcity, so I suppose those will become more common in the near future.

But power is an input in a long value chain that results in data centre compute. There are so many other things that have to be taken into account as well: the cost and availability of network links, the skills of people in the area, and the economic environment of the local region. These all result in various - and fluctuating - prices per MIP in the data centre.

Wouldn't it be natural, then, that we might see the emergence of MIPS markets? A futures exchange where one buys cycles in the cloud? If we take the airline analogy again, that is certainly what happens when carriers need to guarantee the price of their fuel for the future.

I think it won't be that long until we will need the ability to run our workloads on any cloud, anywhere. That will be because we'll get our MIPS for the best price, in advance, on a futures exchange. Of course there are technical and cultural issues with this, and I can already imagine the security folk meltdown when anyone dares to suggest putting customer data not just on someone else's data centre, but on a random facility dictated entirely by price.

But economics are a powerful motivator.

Where is that uniqueness in services?

The acquisition of EDS by HP is all over the news, and apparently will result in the second largest tech services firm in the world after IBM. Now, that's all very well, and we are a very big buyer of technology services, but size does not a compelling value proposition make.

I am challenged, in fact, to find anything about services companies that would make me want to choose one over the other.

Yesterday, for example, Christophe and I met with such a company. They had some interesting things to say, but ideas are rarely enough to get us going. We need execution.

Our key execution question was around their distinctive uniqueness: let's face it, if you are going to charge those big rates, there better be something different to justify it.

Technology is a commodity, not a uniqueness. And if we want business expertise, we go to a business consulting house, not a technology vendor.

Anyway, as far as I can tell, there wasn't anything very unique about this particular vendor, and neither will there be that much uniqueness in the new services behemoth that is HP and EDS. In fact, they will likely be distracted for at least two years while they sort out the integration.

The fact is, there are only so many ways to package up a bunch of people and try to sell them for a decent margin. Especially when what you are doing is helping us do business-as-usual.

Or is there?

There is a monumental difference between the outputs of a star performer and an average one. I think the number usually quoted is ten times more effective, and that's a huge upside when you're under pressure to deliver. The thing is, star performers are pretty hard to find. Consequently, they aren't likely to come cheap and are almost certainly not going to get commoditised. It would be amazing to find a services company that had a disproportionate share of star performers, when by an large, everyone is after the same people.

Everyone has access to the same labour market that services companies have, and so we know that arguments around "having the best people" are probably spurious. And if those people have chosen to work in a services company, they usually show up for the pitch, but are nowhere to be seen at execution time. Ten times more effective people are a precious commodity not to be wasted on anything so mundane as servicing customers.

So how about this for a unique proposition: have only star performers, and put up your rate card ten times to cover the fact that you have only one tenth of the headcount. Be so confident that your people can do miracles that you don't bother with risk-based pricing. Charge us nothing if you fail to meet any commitment at all, even if it isn't all your fault because your superstars can fix any problem. Make it a no-brainer to hire you because that is the only way that we can guarantee to our management that without fail we can deliver something.

I think we'd be glad to pay for uniqueness like that.

HP and EDS: where are the star performers in your now 200,000 plus average services employees? Do you even know? And how will you use them to give us uniqueness that will make us want to hire you?

How many innovators does it take to change a light bulb?

Answer 1: Three- one to ideate, one to innovate, and one to determine if we actually do have light.

Answer 2: None- the major advance in light was the discovery of fire and nothing new is going to happen in bulbs so we're moving onto transcendental luminescence.

Answer 3: One, but only once. This new bulb doesn't blow.

I've learned that if you ask the light bulb question and don't get all three answers, an innovation team doesn't have a sufficiently broad set of views.

Inevitably, that means you leave money on the table.

Doing consumer electronics

There is a revolution going on that - it seems to me -  banks haven't much noticed.  The revolution is in how low the barriers have become to create desirable consumer electronics. So low, that even if you don't know anything about what you're doing, you can do it.

I first stumbled on this last year when I was out at the Microsoft Research labs in Cambridge. They were doing lots of work that involved wearable sensors, and these things looked like you could just walk into a shop and buy them. I wanted to know where they got all their great looking hardware: "Oh, we just use an engineering firm down the road, it takes them a week to make anything we need". You would not believe the off-hand tone this researcher used, as if what I was asking was of so little consequence that the question was a waste of oxygen.

I was amazed, having imagined teams of people, just like the ones we have to have when we do software in the bank. So I subsequently investigated this claim and found it to be true. There are engineering companies that can turn around hardware for you in a week.

Actually, doing hardware is way less expensive than building software. It is in an interesting reversal of the otherwise universal maxim that bits are cheaper than atoms. Apparently there are all these standard "reference platforms" and they just throw them together in the form factor you need.

So we investigated some more, and discovered the whole industry has moved to an ODM - Original Device Manufacturer - model. You hand over the specification and design (that was likely done by some local engineering firm), and these contract production lines turn out the volume of product you need.

We wanted to know what it would take to miniaturise to an unprecedented level. Apparently you do something called custom silicon: they take your reference design and make dedicated chips or something. The price is higher than off the shelf, but nothing as high as you'd expect.

In other words, you can outsource everything about hardware. You can make sexy consumer electronics. And you can do it very, very cheaply.

Now, doesn't that pose some interesting options for banks, who are normally limited to utilising the devices that consumers have bought elsewhere?

The most famous example I can think of a of a bank doing hardware was 1950 when Bank of America collaborated with Stanford University to create the first business computer. That was a multiyear effort without any certainty of success. When you do hardware today, you don't have any of those costs or risks.

If I needed any reinforcement of this, it came when one of our favourite vendors responded to a query about biometrics with a custom device. I couldn't believe it. They didn't have exactly what we needed, so they made it for us - in about a week - and then furnished us with about a dozen of them for an internal conference we are doing today.

The fact that hardware can now be a sales tool implies that it has a very, very low price of entry. Low enough that banks could design their own consumer electronics to support the customer experience, if they wanted. You can imagine the situation: you choose your bank because its gadgets are the most desirable. Isn't that what happened with iPhone? People changed their phone company just to get one.

Innovation is about building new levers

Last night, I was at dinner with an innovator from another large company involved in financial services. We were discussing the optimum mix of incremental, disruptive and breakthrough innovation. In common with so many other people I've spoken to, it became apparent quickly that the feeling was that incremental was not necessarily the sort of things an innovation team should be working on. Big, bold disruption, that's what innovation teams should be doing!

But the real question comes down to one of risk: with a dollar to invest, do you take a gamble that might pay off hugely, or a more cautious approach where returns will be way more modest, but much more certain? My view is the younger the innovation programme, the less risky you can afford to be with the money you have. Get some runs on the board before you try for the big stuff. And, as I've said here for ages, make sure you can pay the bills. Incremental does that.

Anyway, the discussion swiftly moved to the regularly recurring old chestnut: is  incremental innovation or optimisation? In this case, my companion's thought was that incremental was very much business as usual, and therefore ought to be part of the work we all do every day. Optimisation, in other words. I disagree with this.

Optimisation is the process of moving various levers in a business process to get a better result. You decide where to set the levers by watching whatever measures you have on the process.

Innovation is quite different though, because the goal is almost never to move levers. The goal is to create new levers altogether, or to extend the range of movement of existing ones. The actual moving is best done by the business owners of whatever-it-is.

Conceptualised in this way, one no longer thinks about the mix of incremental, disruptive and breakthrough. The key strategic question is about the size and range of levers you decide to build.

A look back in time: prospects for home banking

You'll love this. I was going through past issues of the ABA Journal recently, and came across the October 1981 issue. It had an article entitled "Home banking prospects: A status report on explosive growth" (you can only get it now through various pay wall databases, I believe). Bare in mind the time scales. Web based online banking didn't really emerge until 1995 when Presidential Savings Bank was the first in the world to launch it. Videotex based systems had never really caught on, though they were available from 1979. And phone banking had been in limited pilots since then too, with broader adoption not occurring until 1982.

Given that, its surprising just how accurate some of these predictions are. Take this for example:

"Banking services are only part of a cluster of home information offerings that will set the pace for growth (of self service). Theoretically, an unlimited number of information providers could offer data bases of various kinds. Banks will be one class of information provider."

The article goes on to talk of a "communications switch" which makes the necessary connections between the user and database vendor. A single vendor switch was not what happened of course, as the internet evolved into a universal switch not owned by anyone in particular. But the concept, then, was clearly sound.

The slow follower syndrome is something we've been aware of in banking for ages now. Institutions don't like to be the first to try the new stuff. Neither do we always understand up front why the new stuff is important. At this moment, we're struggling with personal finance sites and peer to peer lending, but in 1981, bankers were having trouble getting the importance of self-service as a delivery channel:

"Many bankers not involved in any of the current tests (of home banking) may find it hard to get excited about providing new banking services that seem to have marginal value for customers just getting used to automated teller machines."

The biggest problems were technical in 1981. And the question was whether households would prefer telephone based terminals (i.e., a dedicated device embedded in the telephone) or screen based home banking using interactive cable. Screen based self-service were seen as preferable, but already institutions were leaning towards the phone, because of a projection that only 9% of households would have interactive cable by 1990. Of course, Internet was in its early stages for commerce then, and was about to zoom upwards in adoption. Nonetheless, everyone was pretty much set on the idea of terminal based access in the long term. Bank One, the first institution to pioneer phone based self service, stated that it expected that 60% of its customers would have a stand alone videotex terminal costing about $250, 20% would use decoders attached to their TV sets, and the remainder would use home computers.

But one of the most interesting things about this historical backtrack is that most of the nine institutions listed expected to be able to charge for their home banking services. Prices were based on a subscription model, and were up to $30 a month. It is obvious in retrospect, I suppose, that convenience doesn't pay. But you can see the evidence of dollar signs in the eyes of everyone talking about the offering then. Chase, for example, wanted to offer its correspondent banks a franchise opportunity. They would buy devices for about $200 each, and then sell them on to customers, with Chase getting about $6 per month from the deal for each.

And the article is insightful in one more respect: in 1981 it correctly foretells the features arms race that we've all been engaging in since self service became the business:

"any (home banking) convenience, such as home shopping or a sophisticated cash management service, could be the one that pulls an account away from your bank, if you don't offer it, to mine if I do"

So here is my key takeaway from this brief look back. We - banks - aren't as bad as it might seem at predicting the future. From a market and environment perspective, most of this was spot on. Admittedly the technology selections were going down a dead end, but they were overtaken by developments that weren't on the radar then.

It gives me a level of comfort that the course we are presently charting is likely to work out well in the end.