The New Banking Consumer.

It is not surprising that most big banks are working hard to offload their least profitable segment of customers, those with one banking product and maybe $1,500 in their checking or savings account.

           

Most banks struggle with the value of “profitability and scalability” when looking at financial services for the underserved.  The current environment underscores some of the frustration for traditional bankers: consumer backlash to increasing fees on existing products and a hostile regulatory environment for small dollar credit products. Traditional banks would seem to have two equally undesirable choices: be a mercenary or a missionary.  There may be another path – be a visionary.

Traditional banks should do a better job at data analysis and a much better job of understanding their customer’s behavior.  Combining a basic segmentation analysis of their accounts with a look at their “whole wallet” of financial transactions can transform low balance, single account, unprofitable customers into a new profitable growth segment.

Here are some potential opportunities:

• A recently completed segmentation analysis of your customer base  identifies 35% that are not profitable because their only product is a low balance checking or savings account.
• There is a major university or large military base in your community, but you don’t have a good product fit for the student population or enlisted personnel.
• You have a youth/young adult strategic initiative, but don’t yet have a strong mobile or card-based product to support it.
• You have a growing working class population that is different than your historical suburban, mass-affluent target customer.

What each of these scenarios have in common is what the regulators call “underbanked” customers.  According to the FDIC, this represents 23% of the population, totaling 60 million adults in the US.    These are typically customers who only have a single savings or checking account with an average balance of less than $1,500 and are not an immediate lending opportunity.  At first glance, as a traditional bank, this is your least desirable group of customers for profitability and growth.

But looks can be deceiving.  If you only value their current account relationship, you are losing money on these customers, right?  The deposit value of their low balance does not offset the cost of providing them a free account, and they do not generate any other revenue.  However, if you were to spend a “day-in-the-life” with these same people, you would find that they make two or three visits every month to another financial services provider to cash their paychecks, pay bills, send money to family members, and purchase reloadable prepaid cards (to avoid overdrafts in their account).

This monthly, reoccurring behavior represents an average of $30 per month or more in non-interest fee income, giving these “unprofitable” customers a real value of $360 a year! The 60 million unbanked and underbanked combined spend approximately $10.4 billion on “alternative financial products,” such as money-orders, payday loans or simple check cashing.

So, who is currently capturing your customer’s “whole wallet” of transactions, monthly revenue, and relationship potential?  A few years ago, the answer would have been check cashing stores and payday lenders.  Now, the list includes Walmart, Kroger, Rite-Aid, and an increasing number of large banks.  If you don’t think that serving the underbanked has become mainstream, here are some compelling statistics:

Reloadable prepaid debit cards are the fastest growing financial services product, and the two most recent IPO’s in the financial services industry were Green Dot and Netspend, the number one and number two providers of prepaid cards respectively. 

Or just stop by a Regions Bank branch and check out their NOW Banking product offering, which makes all these services available right at the teller line! Unfortunately, Regions reputation is suffering because of the steep fees they charge, thinking that they have a captive market. Maybe not now, but soon, that won’t be true.

What these large non-financial retailers and banks have figured out is that by bundling “alternative financial services” and using outsourced technology and risk management providers, you can convert previously unprofitable customers into a profitable growth segment, save them money, and expand your relationship for future growth.

So, my advice to banks is to take a second look at your “unprofitable” accounts, and you may find a golden opportunity to profitably expand services to existing customers and create a “regulatory friendly” new revenue channel at the same time.

The good news is that traditional banks will ignore me and this advice, enabling iPeopleFINANCE to serve this under-banked and under-served segment of the consumer finance market when we go live in September, without competition from traditional banks.

It would be really cool if I could now offer a coffee mug or toaster to our first 500 customers, but alas, I can’t do that today. But, if you will stay tuned and tell all your friends, when we get ready for pre-launch in August, I am sure we will have lots of cool swag for you and every one of our first 500. If you would like to get on our mailing list, please drop your e-mail address in as a comment to this post.

A free re-loadable debit card, mobile cash applications, loans of between $5,000 and $25,000 at great interest rates, super-low fees, and a new credit bureau that will enable you to rebuild your credit! All online, 24/7, and FDIC insured. How cool is that?

The Under-banked. My Advice to Banks.

It is not surprising that most big banks are working hard to offload their least profitable segment of customers, those with one banking product and maybe $1,500 in their checking or savings account.

           

Most banks struggle with the value of “profitability and scalability” when looking at financial services for the underserved.  The current environment underscores some of the frustration for traditional bankers: consumer backlash to increasing fees on existing products and a hostile regulatory environment for small dollar credit products. Traditional banks would seem to have two equally undesirable choices: be a mercenary or a missionary.  There may be another path – be a visionary.

Traditional banks should do a better job at data analysis and a much better job of understanding their customer’s behavior.  Combining a basic segmentation analysis of their accounts with a look at their “whole wallet” of financial transactions can transform low balance, single account, unprofitable customers into a new profitable growth segment.

Here are some potential opportunities:

• A recently completed segmentation analysis of your customer base  identifies 35% that are not profitable because their only product is a low balance checking or savings account.
• There is a major university or large military base in your community, but you don’t have a good product fit for the student population or enlisted personnel.
• You have a youth/young adult strategic initiative, but don’t yet have a strong mobile or card-based product to support it.
• You have a growing working class population that is different than your historical suburban, mass-affluent target customer.

What each of these scenarios have in common is what the regulators call “underbanked” customers.  According to the FDIC, this represents 23% of the population, totaling 60 million adults in the US.    These are typically customers who only have a single savings or checking account with an average balance of less than $1,500 and are not an immediate lending opportunity.  At first glance, as a traditional bank, this is your least desirable group of customers for profitability and growth.

But looks can be deceiving.  If you only value their current account relationship, you are losing money on these customers, right?  The deposit value of their low balance does not offset the cost of providing them a free account, and they do not generate any other revenue.  However, if you were to spend a “day-in-the-life” with these same people, you would find that they make two or three visits every month to another financial services provider to cash their paychecks, pay bills, send money to family members, and purchase reloadable prepaid cards (to avoid overdrafts in their account).   This monthly, reoccurring behavior represents an average of $30 per month or more in non-interest fee income, giving these “unprofitable” customers a real value of $360 a year! The 60 million unbanked and underbanked combined spend approximately $10.4 billion on “alternative financial products,” such as money-orders, payday loans or simple check cashing.

So, who is currently capturing your customer’s “whole wallet” of transactions, monthly revenue, and relationship potential?  A few years ago, the answer would have been check cashing stores and payday lenders.  Now, the list includes Walmart, Kroger, Rite-Aid, and an increasing number of large banks.  If you don’t think that serving the underbanked has become mainstream, here are some compelling statistics.  Reloadable prepaid debit cards are the fastest growing financial services product, and the two most recent IPO’s in the financial services industry were Green Dot and Netspend, the number one and number two providers of prepaid cards respectively.  Or just stop by a Regions Bank branch and check out their NOW Banking product offering, which makes all these services available right at the teller line! Unfortunately, Regions reputation is suffering because of the steep fees they charge, thinking that they have a captive market. Maybe now, but soon, that won’t be true.

What these large non-financial retailers and banks have figured out is that by bundling “alternative financial services” and using outsourced technology and risk management providers, you can convert previously unprofitable customers into a profitable growth segment, save them money, and expand your relationship for future growth.

So, my advice to banks is to take a second look at your “unprofitable” accounts, and you may find a golden opportunity to profitably expand services to existing customers and create a “regulatory friendly” new revenue channel at the same time. The good news is that traditional banks will ignore me and this advice, enabling iPeopleFINANCE to serve this under-banked and under-served segment of the consumer finance market when we go live in September, without competition from traditional banks.

It would be really cool if I could now offer a coffee mug or toaster to our first 500 customers, but alas, I can’t do that today. But, if you will stay tuned and tell all your friends, when we get ready for pre-launch in August, I am sure we will have lots of cool swag for you and every one of our first 500. If you would like to get on our mailing list, please drop your e-mail address in as a comment to this post.

A free re-loadable debit card, peer-to-peer loans of between $5,000 and $25,000 at great interest rates, super-low fees, and a new credit bureau that will enable you to rebuild your credit! All online, 24/7, and FDIC insured. How cool is that?

Venture Capital’s NEW Bank Account.

The chaos unleashed by the financial crisis of 2008 has created a host of new investment opportunities for venture capitalists eager to identify and profit from the ongoing shakeup in the financial-services industry.

Finance may not be what first springs to mind when someone mentions the phrase “venture capital.” These early-stage investors are better known for providing seed capital for high-growth technology companies like Google, or for seeking out promising biotech or clean-energy companies in their infancy. In contrast, the financial-services industry is typically seen as the domain of big banks, insurance companies, and asset-management firms—not the kind of businesses that need venture capital financing or where a VC can hope to turn a few million dollars into a few hundred million dollars in a couple of years’ time.

But that’s too narrow a view of both the venture capital universe and the financial-services business today, argue venture investors like Dan Rosen, a principal at Highland Capital. He has seen estimates that small but promising startups in this sector received a total of about $3.8 billion between 2002 and 2008, and that venture backers were able to pull out $19.4 billion in returns during the same period, divided almost equally between the profits from initial public offerings of those portfolio companies and their sale to larger businesses in M&A transactions.

Despite the slump in overall venture capital returns of late—as reported here earlier this week, the 10-year returns fell to a measly 4.2 percent in the first half of 2010, according to a study by Cambridge Associates—the financial-services arena continues to provide a ray of light for those venture investors, like Highland Capital and San Francisco-based FTV Capital, that are willing to place their bets in this market. Investments made in financial-services startups during 2009, for instance, have generated a mean of 35.89 percent in returns for their backers.

True, those are early days for venture investments, which can take five to 10 years to demonstrate how profitable they really are. But venture investors agree that there are tremendous opportunities for financial-service entrepreneurs in the wake of the crisis and the erosion of consumer trust in once-powerful brand names like AIG. “We don’t think the dollars going into this space will double or triple, but for people willing to take the time to understand this space, there are plenty of businesses, some based on long-term trends and some that are just now becoming clear, that are tremendously appealing,” says Rosen.

While the entrepreneurial part of the financial-services industry hasn’t generated as many home runs for venture backers as, say, technology, there have been and remain opportunities for payoffs. PayPal, for instance, generated big returns for its investors when eBay bought it for $1.5 billion in late 2002. Now, many venture investors are looking for big payoffs on another kind of payment system, prepaid debit cards such as those issued by Green Dot Corp. and NetSpend Corp. (which have won funding from premier venture firms Sequoia Capital, in the case of Green Dot, and Oak Investment Partners, in the case of NetSpend). Netspend went public last month at a price of $11 a share and closed Thursday at $15.23 a share; Green Dot’s IPO in July was a success, with the stock closing Thursday at $53.12 a share, up from the $36 IPO price.

Rosen sees these transactions reflecting one of four big trends in financial-services startups post-crisis: the effort by consumers to manage their financial lives. While prepaid debit cards like those offered by Green Dot and Netspend are typically pitched to the under-banked (those who rely on check-cashing outlets rather than banks), they are also being used by customers who want to take control of their spending habits and try to avoid depleting their bank accounts or running up hefty credit-card bills.

Another new business model is that of PerkStreet, a company in which Highland Capital invested during its Series A financing round. Rosen describes it as a next-generation online bank, offering FDIC-insured checking accounts, but that also offers customers cash-back rewards and other goodies for spending via their debit cards. “It’s all part of a new awareness on the part of Americans on finding ways to be smarter about how they spend their money,” Rosen explains.

Other venture dollars have flowed to companies whose business models reflect longer-term changes in the financial-services universe. For instance, companies like Blippy and Swipely bring social networking to shopping, offering consumers who choose to share information about their purchasing habits access to specially targeted offers. (Backing these business models isn’t without its risks: Blippy accidentally made the credit-card numbers of some early users public.)

Social networking and gaming are also fueling the demand for new kinds of payment systems that aren’t dependent on Visa, MasterCard, or even PayPal. For instance, if you want to buy a sword to better compete with rivals in cyberspace, you’re buying an object with no inherent value—something traditional payment systems haven’t yet been able to address. A firm like Boku Inc., however, offers gamers and others the ability to pay for those with a smartphone or other mobile device.

Indeed, mobile-oriented payment systems are now emerging as the holy grail for investors in entrepreneurial financial-services companies. “There are new ways to do traditional transactions, like using handheld devices to check out while you’re standing in a line in a store,” says Jim Hale of FTV Capital. “I still haven’t found a way to invest in that yet,” he says, but adds that it’s just a matter of time before a handful of companies find a way to make that work smoothly and begin battling for market share.

In the meantime, Hale is finding all kind of opportunities to back new businesses that develop low-cost financial products for consumers. PowerShares Capital Management LLC was founded in 2003 and launched a whole array of cutting-edge exchange-traded funds that go beyond passive index investing, including the first active real estate ETF. PowerShares was acquired by Invesco Ltd. three years later, but Hale hopes that a London-based firm in which his fund is an investor, ETF Securities, will be another big coup when it comes time for him to sell.

There are already plenty of opportunities for startup businesses to win venture capital backing in these areas, VCs agree. What remains unclear is the extent to which a bigger shakeup in the financial system may yet produce new and undreamed of opportunities for entrepreneurs.

For instance, it’s becoming clear that the economics of traditional banking have become more difficult. A big bank can’t use the profits from proprietary trading to help cover the costs of maintaining a big branch network any longer, nor can it charge the kinds of overdraft and other fees that once helped subsidize networks of tellers and branch managers. So what happens next? Will banks pull back from street-front lending? Will there be room for new businesses to emerge, offering peer-to-peer lending via the Internet?

Those are some of the questions on the minds of venture investors as they continue to scour the landscape for fresh ideas. “This is probably the most wide-open landscape that we’ve ever seen,” says Dan Rosen. “True, it’s still a regulated industry, and some investors don’t want to deal with that.” But those willing to make the effort believe they’ll be richly rewarded and that the one-year returns made public by Cambridge Associates might just be the beginning of a prolonged boom.