The views expressed in this article are solely those of the author and should not be attributed to the European Payments Council.
The ability to offer instant payments has become a necessity for banks around the world as they keep up with customer expectations and set themselves up strategically for the future. As the development of instant payment infrastructures spreads around the world and existing systems mature, the number of banks connecting to these systems is growing rapidly. These smaller banks – and large banks in secondary markets – have different needs when it comes to choosing an instant payments solution that fits their budget, timescale, and maintenance needs. Banks of all sizes avoid costly and extended ‘rip-and-replace’ approaches. Implementing a full-blown payments hub can easily cost many millions. This research focuses on considerations related to the cost and process of extending legacy systems to handle instant payments.
As part of a research study sponsored by Icon Solutions, we interviewed 15 executives from both large and small banks, as well as from technology providers and payment processors. We also examined six bank and processor case studies on budget and cost issues. Our findings are presented in this summary, which illuminates the challenges and key lessons for institutions making the move to instant payments today.
Challenges when implementing instant payments
Small- and medium-sized banks unanimously report the adoption of a targeted instant payment solution as the preferred strategy. This approach allows the bank to integrate a module that contains pre-programmed functionality such as core banking extensions, templates, and scheme rules that add the instant payment capability alongside legacy systems. The chief aim is for this new functionality to work in harmony with legacy systems and require as little development as possible.
Despite taking a lean approach, small- and medium-sized banks report unique challenges when implementing solutions for instant payments, such as:
- Sensitivity to up-front and maintenance costs when these unavoidable costs may consume a significant percentage of available budget.
- Integrating vendor solutions with existing back office systems.
- The need to have solutions on the market promptly to accelerate return on investment.
- Developing a business case in an environment where lower transaction volumes are expected and having the ability to scale as transaction volumes grow.
- Compliance with future scheme changes.
- Maintaining flexibility to develop future products and services.
- Scarcity of qualified experts, especially payments specialists.
- Unexpected delays caused by external timelines, such as testing and on-boarding processes defined by the scheme.
By categorising these challenges by type, we observed that the majority are related to costs. So we investigated these costs more thoroughly.
Costs of instant payments solutions
Our research into the cost of instant payments solutions revealed valuable insights into the structure of these costs:
- System integration is a primary driver of implementation costs, not the volume of transactions.
- Initial investment costs are typically split: forty percent on hardware and software licensing costs; thirty-five percent on system integration, configuration and customisation; twenty-five percent for system testing.
- On average, solutions providers charge an annual maintenance fee equalling twenty percent of the base price, covering software updates, licence fees and minor system enhancements. As a result, maintenance can account for over fifty percent of cumulative costs by Year Five in some scenarios. Hardware and implementation costs are largely Year One costs and therefore decline when assessing costs over five years.
The main drivers of cost are the size and complexity of the bank’s legacy environment. Other drivers include the licence and maintenance terms, which are also driven by the bank’s size and to some extent by the market position of the solution provider. Larger, more established providers with a stronger market position typically charge a higher licensing and maintenance fee than smaller providers. To illustrate the typical budgets for a range of implementations, we have modelled three scenarios and have not assumed any additional system enhancements during the first five years of system ownership.
All of these scenarios apply to small- and mid-size banks and large banks in secondary markets; large financial institutions in their major markets are outside the scope of this modelling exercise.
Through the interviews, we were also able to uncover meaningful insights into how banks are thinking about instant payments and the IT solutions needed to implement them:
Key qualitative insights highlighted by the research include:
- Despite market pressures, creating a business case for implementing instant payments solutions presented a major challenge for many organisations.
- To manage costs, solutions need to be capable of scaling quickly as transaction volumes grow.
- Delays and overspends were widely attributed to the complexities of integration with legacy systems.
- Post-implementation scheme changes were reported as the largest driver of hidden costs and banks reported a lack of budget to deal with them.
- Future-proofing system configurations to enable the introduction of new products and services was viewed as essential.
- Small- and medium-sized banks unanimously reported adopting modular, configurable solutions instead of custom development.
- A vendor’s expertise with end-to-end instant payment processes and ability to support the organisation were key considerations. Smaller banks with limited resources reported needing more support and assistance from their chosen partner.
- Larger, established solution providers typically charge higher licensing and maintenance fees than smaller competitors.
- The effects that instant payments solutions have on liquidity management, channel development and interfaces with back-office systems are often revealed only during project planning.
Instant payments represent a major challenge for all banks but are particularly demanding for smaller banks with limited budgets and internal expertise. Creating a business case presented a challenge for many organisations, especially since the volume of transactions drives the revenue but the complexity of the implementation effort drives the cost. Moreover, software updates, licence fees and minor system enhancements were found to account for over fifty percent of total ongoing costs by Year Five in some scenarios. Delays and overspends were widely attributed to integration with legacy systems, and post-implementation scheme changes were reported as the largest driver of hidden costs.
To manage these costs and avoid surprises, many small- and medium-sized banks choose configurable, flexible solutions capable of scaling quickly as transaction volumes grow and products mature. Implementing ‘off-the-shelf’, modular solutions that provide targeted immediate payment capabilities is advantageous. This approach enabled banks to optimise existing IT resources, protect legacy investment, lower costs, remain compliant with scheme changes, develop future products and compete with larger banks and non-bank payment providers. As instant payments become a reality in markets around the world, many banks without large volumes need to pursue a targeted approach that helps meet regulatory demands and customer expectations without completely overhauling the bank and at an affordable cost.
For additional information or to download the entire study, please see http://www.iconsolutions.com/research/.
Dr. Leo Lipis is Chief Executive of Lipis Advisors, a Berlin-based consultancy focused exclusively on payments and payment systems.
If you would like to comment on this article, please identify yourself with your first and last name. Your name will appear next to your comment. Email addresses will not be published. Please note that by accessing or contributing to the discussion you agree to abide by the EPC website conditions of use.