Payments Infrastructure at the crossroads - will banks accelerate or stall on journey to grow payments business?

19 August 2011

By Ramanan Seshadri,
head of European Operations,
Hexaware Technologies

Payment solutions have reached a significant crossroads where existing infrastructure and requirements are under intense review. Banks and payment processors are faced with a perfect storm of issues that are large, complex and extremely dynamic.

Banks and payment processors are being confronted with an unprecedented change in the card acquiring software sector with the intended end-of-life status of ACI’s flagship product BASE24 and the consolidation and convergence between many other products like S1 and Metavante. As the costs of maintaining these systems go up, banks and processors will be left with little choice but to evaluate new systems, especially since many existing infrastructures date from the 1970s and 1980s.

The situation is aided by the fact that IT budgets at banks seem to have been unfrozen since the debacle of the 2008 recession and the severe financial problems experienced by many of the world’s largest retail banks, especially in the west.

There are variations on spending patterns, with Asia Pacific witnessing the biggest increase in technology spend, of 49 per cent between 2010 and 2015, to be $12.7 billion; Middle East and Africa is forecast to grow by 36 per cent to $5.5 billion. Even for the western economies suffering from the after effects of recession, some growth is forecast with North America rising by 23 per cent to $50.2 billion in 2015 and western Europe growing by 19 per cent to $40.1 billion (1).

So, there are funds to invest in improving banking payments infrastructure. But, the challenge is to focus on the best options for moving to a new infrastructure, given how new payment channels such as mobile and contactless are proliferating at an accelerating rate, in both developed and developing markets.

Let’s consider mobile payments as an issue. With smartphone sales soaring and market penetration high, the potential to use your mobile phone to make payments is growing and some commentators believe it is set to become the primary payment method. The growth forecasts are breathtaking. For example, mobile payments will reach $214 billion by 2015 in the US alone compared to $10 billion in 2010 and a 68 per cent compound annual growth (2).

Contactless payment is linked to the mobile payments trend, though the technology has failed to make a big impact in the past. This appears to be changing and comprehensive contactless payment systems are set to become a reality in some major markets including the US and China. According to recent research by ABI (3), 85 per cent of point of sale terminals will be shipped with contactless payment technology by 2016; currently only ten per cent of POS shipments include contactless technology.

The wider availability of this technology at retailers is a response to the growing popularity of offerings such as Google Wallet and the rapid rise in Near Field Contact (NFC) enabled smartphones and cards in people’s pockets and wallets. It has also been prompted by how some economies, such as China, encourage contactless payment by defining uniform standards for NFC in the shops.

New payment types such as mobile present the banks with a real challenge because the drivers lie outside of their control, are very new and much more complex. The interplay between mobile operating systems, handset brands, ecosystems and customer loyalty make accommodating mobile payments challenging to get right.

Avoiding the creation of a new set of back office systems silos is critical here, but hard to avoid as the banks try to respond to such fast moving and dynamic market conditions. Taking a strategic view is difficult when systems need to be in place quickly to handle new payment types driven by new devices and services. The temptation to add on another stack of supporting systems is hard to resist as a quick fix.

Increasing volumes of electronic transactions generated by multiple electronic instruments, and stricter regulation on fraud and anti-money laundering are combining to put greater pressure on organisations to manage risk and compliance - tasks that have seemed beyond many banks in recent years.

At least one western bank has fallen foul of the US Federal Reserve over short comings in its anti-fraud systems. In this case, the bank has been instructed to produce a detailed plan about how it will deliver meaningful improvements to its systems for monitoring suspicious activity and the frequency of transaction monitoring. Other regulators including the UK Financial Services Authority (FSA) are increasing their scrutiny of bank anti-money laundering systems. This means some banks are finding themselves caught in the compliance cross-fire when their systems can’t keep pace with regulatory scrutiny and change.

Taking this legacy infrastructure forward, doing the modernisation, compliance and data migration work as well as ensuring 24X7 availability of mission critical applications is daunting. In fact, banks often suffer inertia on attempting such large and complex roll-overs.

So how can banks and processors maximise opportunities for growth and cost controls, while eliminating risk of failures and delays, and keep firmly on the road to modernising their payments systems?

Industry initiatives will help banks respond to change because they will offer a standardised approach to handling new payments innovations. One good example would be the recent announcement of the bank-backed UK Payments Council to build a common mobile payments platform. What is interesting about this project is how it would put banks back in control of boosting the popularity of mobile payments. Previously it has been the mobile operators and handset makers who have driven this market, seeing it as an opportunity to make revenues from the handling of mobile payments.

However, if they are to maximise the value of such initiatives and develop new payment services, banks still need to review their payment back end systems. Currently these tend to be home grown systems that are difficult to adapt quickly or cost effectively. This is creating demand for plug-in solutions from third party vendors.

The most likely solution lies in banks adopting an approach centred on deploying a single payments switch that consolidates the multiple switching environment that has developed within a bank. Implementing this approach improves performance while enabling the bank to implement new business logic and message structures that can take account of new payment requirements. Additionally the payment switch simplifies the management of real-time messages and bridges the core banking applications with any external payment systems.

When considering this solution it is important to understand that a payments hub consists of an integrated and pre-packaged set of software and business applications. The key here is how well these components work together and can deliver the maximum throughput of transactions per second and average response time. This is critical if the hub is not to become a potential bottleneck within the banking IT infrastructure, as well as ensuring anti-money laundering screening does not add in any latency or other operational issues.

The payments hub should then become a platform for not only supporting legacy payment types and flows but new types of files and transactions such as mobile. With common payment features and functions consolidated within a single hub, the support for new payment models is simplified as the need for new separate infrastructures is eliminated. Operational costs associated with running multiple systems with duplicated functionality are avoided.

Banks have previously attempted more customised solutions, but the latest trends seem to suggest a greater willingness to rely on third party vendor solutions like a payments switch hub. In their Global Bank Technology Trends survey (4) of 80 CIOs and senior IT executives from global banks, analysts Aite revealed that nearly a half of respondents use or plan to utilise third party vendor solutions with only 16 per cent preferring to build in-house systems and solutions. It appears that this is only the beginning of a sea change in how banking CIOs approach major IT projects. According to Aite’s report, “banks’ reliance on third party vendors has never been as high as it is today ... [and] today’s reliance will pale in comparison to the level it will reach in years to come”. This forecast may see more European banks follow the example of North American and Asian banks and use more vendor solutions over custom made in-house solutions.

Migrating to a payment solution hub does present implementation challenges, especially as the migration must take place without disrupting existing systems. As many banks aim to develop leaner IT organisations they are realising that these challenges and risks can be shared with IT outsourcing specialists.

Combining pre-packaged solutions with consultancy and support to manage the configuration, implementation and final migration of new payments infrastructure should help banks transition their back office systems to new payments environments.

However, it would be wrong to conclude on how a payments revolution affects banking IT alone because there is a bigger picture to consider too. Mobile payments are creating a completely new payments environment that needs to be better understood. In this environment, payments are occurring literally anywhere, new alternative processors and services are emerging, and the type and size of payments is becoming more varied.

Banks are going to have to adapt payment systems but this adaptation is going to ripple throughout the wider economy and society as the means of payment truly are transformed.

1. Asia-Pacific IT budget to grow in 2012

2. Aite Group 2011

3. ABI

4. Global Bank Technology Trends 2011



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