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The Core System Conundrum

Posted by Michael Carter on Nov 8, 2017 9:00:00 AM
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Replacing a bank or credit union’s core system is not a decision to be taken lightly. A conversion to a new software provider can easily take more than a year in a best case.  These projects have often been compared to a heart transplant – very expensive, high risk and resource intensive. They also usually consume IT bandwidth that is needed to respond to a litany of business priorities such as the front office channels, products and services consumers depend on daily.

For this reason, we’ve advised in past blogs that financial institutions (FIs) not pursue a core system conversion for cost savings reasons alone since in most cases a good strategic sourcing manager can get you a competitive price without the pain and suffering inherent in a full replacement. Actual conversions should be reserved for situations where the FI has developed irreconcilable issues with its incumbent or has strategic needs that can only be satisfied through another provider.

A recent American Banker article raises an interesting, related point. While referencing a study that indicates 70 percent of FIs acknowledge frustration with their core systems, it also postulates that the “big four” providers have achieved such parity that swapping out one for another is unlikely to resolve any feature-based frustrations. This should not be surprising, given the maturity of these platforms.

From “Good to Just A-Little-Better” Won’t Cut it

It’s often said that good is the enemy of great. In the case of core systems, it might be argued the good might be great compared to the options. After all, the “devil you know” performs the routine blocking and tackling quite well and new features are unlikely to win kudos from customers since many of the functions of cores are presented to the customer through middle and front office applications.

Given FIs’ risk-averse and compliance-driven cultures – which are for the most part warranted given the assets with which they’re entrusted – it makes little sense to gamble a stable system for a near-peer that offers limited upside. However, we are seeing the emergence of a cohort of next-generation cores, many of them cloud-based, promising greater differentiation and the opportunity to capitalize on important enablers like real-time information, data analytics and artificial intelligence. 

First Movers – Courageous or Reckless?

How large does the upside of moving (or the downside of standing still) have to become to justify the risk of change? And what hurdles do these new solutions need to clear to instill enough confidence for prospective buyers to take the plunge?

We may be approaching a classic situation in which everyone watches apprehensively for the first kid with the courage to jump into the pool and confirm the water’s fine. Typically, the largest FIs are the one most willing to test out new technology.  Their vast resources allow them to mitigate much of the risk of taking the plunge.  However, new core technology might even give them pause considering the size and number of core deployments they may have.  That is understandable.  After all, few are willing to just “try out” open heart surgery to see how it feels. 

In most cases, regional banks prefer to be “fast followers” with new options and community-sized FIs have typically had to wait for the trickle-down effect to reach them (though certain technology developments in areas such as digital banking and payments have allowed them to innovate sooner than in the past). With the new entrants in the core space touting cloud-based models, it could be that the benefits of a core conversion for community institutions may outweigh the pain.    

This assumes these cloud-based core processing services are priced in a way that approximates the “pay by the drink” fashion that typically makes this delivery model attractive. It also includes the caveat that implementation and maintenance of the newer core products is simplified by using the cloud model. These factors – and the reduced complexity that is often found in the core processing infrastructures of smaller banks and credit unions could allow them to modernize first, an advantage most have never enjoyed. 

It’s hard to see a path out of our current core systems logjam, where risk outweighs benefit leaving most banks and credit unions choosing forward-based platforms to deliver innovations. Some of these platforms are function rich including capabilities such as data analysis, predictive modeling in areas such as a consumer’s cash flow and personalized marketing services that anticipate then personalize offers for new products and services.  In fact, these platforms may offer another long-term path out of the core conundrum.

Topics: Vendors & Contracts