After PSD2, will the best bank-as-a-platform start in a microsegment?

Large banks benefit from, and struggle with, the breadth of their business models. After PSD2, banks will not just be balancing the consistent interests of a distinctive group of payment account users versus the developers using the PSD2 APIs. Payment account users can be borrowers (or not) and depositors (or not) at the same time. Payment account users can be regular payers and/or regular payees. Mainstream EU banks are a combination of Credit Institution and Payment Institution.  Some customers are frequent users of the Payment Institution and infrequent users of the Credit Institution (or vice versa). These usage patterns can vary hugely over the customer lifecycle. Banks have diverse and have large segments to manage (private banking, corporate banking, small business banking, consumer banking etc.), with many customer life stages to consider.  Savers valuing the interest rates on long term deposits will be just as important to EU banks as Third Party Developers appreciating the quality of PSD2 API Documentation.

Aside from the breadth of their current business models, the CEOs of incumbent banks could have to lead two major transitions in order to react effectively to this platform-driven change in market structures. Firstly, they need to re-engineer their software architecture into a more modular design, so that they position key services onto the platforms that their account users are increasingly using to run many aspects of their lives. Secondly, they probably need to start thinking as platform businesses rather than product businesses. This is easier said than done, as the mind-set, management style, distribution techniques and governance processes are very different between platform businesses and product businesses. 

Most market leading banks in EU regions have these transitional challenges and the broad business models. In addition, the economic power and growth momentum of traditional banks are being overshadowed by the giant platforms that are achieving very significant market positions worldwide. It would be easy to focus on the size of these platforms and how they might leverage their market power in the future, particularly in the financial services industry. However, an equally informative line of research for a bank is the early corporate history of these giant platforms.  Many platforms scale well by focusing on encouraging value-creating interactions before they scale their user base. To achieve this, platforms that subsequently become giants often start out by targeting a microsegment that is a very small representative of the overall market.

A bank CEO considering the first initial baseline investment in Open Banking capabilities (beyond PSD2 obligations) could perhaps learn more from the known history of Facebook rather than the unknown future of Facebook. FaceMash, Facebook’s predecessor, opened in 2003. The website was set up as a type of “hot or not” game for Harvard students. The website allowed visitors to compare two student pictures side-by-side and let them decide who was “hot or not”. Facebook targeted Harvard, gradually moved on to other universities in the US and ultimately opened itself up to the world. However, had Facebook launched globally as a generic network, it could be a footnote in economic history like MySpace. The corporate obituaries of MySpace as a social network focus in on its bloat, with verticals covering celebrity, fashion, sport and even books. This was in contrast with Facebook, which initially aimed to do one thing very well, not many things adequately.

What was the one thing Facebook did well initially? Facebook focused on serving a microsegment of university students, to start with. Social networks existed at the time and were already finding large-scale adoption. However, they were often flooded with fake profiles. University students wanted a network with real people that were located nearby on campus. Facebook solved needs and removed friction from interactions, by focusing on identity (it required signing up with a Harvard email address) and by focusing on the profile picture (apparently an important input to an active social life in university). Facebook gave the Harvard students exclusivity that they valued, at least initially. Successful platforms often build traction relatively quickly by catering to an audience that values exclusivity. Facebook also leveraged a campus community with strong offline ties. This helped build engagement levels quickly, as online interactions were built on top of offline interactions.

University students are not known for being painfully shy, with lots of campus networking, socialising and showing off. However, the key question when starting small is "does this scale?" If it works with university students, will it work elsewhere? While user focus on university students was critical for Facebook, over-catering to the needs of one microsegment can ultimately impede the long-term goal of spreading into adjacent microsegments. The initial microsegment must be sufficiently representative of the larger whole and should not offer an overly customised experience that will not stay relevant with more mainstream audiences. Ultimately, despite the charms of university life, the success of Facebook proves that there was enough networking, socialising and showing off outside the campus gates to allow that global adoption. Crucially, the technology architecture, ecosystem orchestration techniques and adoption levels gained on campus gave Facebook the ignition and momentum to go mainstream.

Subsequent analysis of Facebook and its ultimate success suggests that the microsegment strategy works particularly well when both production and consumption is performed by the same target user. In the case of Facebook, the same user (a student in the early days) creates and consumes content. The platform could target a single, highly defined microsegment and facilitate a high number of interactions. This works far more easily then when two distinctly different communities must come on board to drive the network effects. Large network effects are built by scaling interactions and the available evidence suggests that platforms that initially enable thriving interactions within a small user base scale much faster.

The Facebook history book suggests that an aspiring bank-as-a-platform could start by targeting a small, contained microsegment that encourages production and consumption at low scale. For example, in the enterprise markets, this initial microsegment could be freelancers or sole traders. Once that platform scales, users from adjacent microsegments such as small limited companies and the professional advisors to small business could be attracted, helping the platform scale further and strengthening network effects.   In the consumer markets, the initial microsegment could be migrating or non-domiciled affluent professionals. Once that platform scales, users from an adjacent microsegment such as “mass affluent” professionals could be attracted. Of course, the right services will have to be developed to drive that frequent two-way interaction. Online interactions should be built on top of regular and important offline interactions.

In crude conclusion, an aspiring bank-as-a-platform probably needs to start thinking as a platform business rather than product business. This new thinking seems far more likely to be effective if a small, contained microsegment is rigorously evaluated and chosen for that initial baseline investment. The initial investment should have acceptable technical risk (e.g. maturity of technology, predictability of evolutionary trajectory, need for systems Integration, complexity) and an acceptable market risk (e.g. predictability of end user reception, predictability of end user needs, arrival of critical complements, matching by rivals etc.). The investment in the microsegment needs to be a discrete stage of investment with a measurable value proposition. The microsegment investment should deliver clear measurable benefits, even if no further stages are ever completed. A "microsegment by microsegment" approach may also radically change the technology procurement decision, if the aspiring bank-as-a-platform is not launching itself at the high-scale mass market. Crucially, given the potential of Open Banking to radically change industry structures, the investment in the initial microsegment should have plenty of cumulative learning on technical architecture, partner development, platform dynamics, team skillsets and business governance.