Banks: Don’t bank the underbanked; bank businesses that serve them well

Banks: Don’t bank the underbanked; bank businesses that serve them well

Reposted from BAI’s Banking Strategies:

Banks have struggled serving the un- and underbanked for decades. By definition, one wonders how banks can ever serve the unbanked. Even so, to date, it seems that a majority of bank efforts to capture more customers from both segments falls into two categories that I’ll call “missionary” and “mercenary.” I believe neither works particularly well and will propose a different approach that is rarely discussed when it comes to this large and growing population.

The missionary efforts are largely Community Reinvestment Act (CRA)-driven. Banks in this category strive primarily to achieve a good rating from bank regulators as well as maintain positive community relations and involvement. Except for the small cottage industry of “community development banks,” which are essentially all-CRA institutions, most banks’ CRA-related lending represents a drop in the bucket. More importantly, these efforts are also tiny relative to the un- and under-banked market, which is basically one in every four adults. The missionary approach, while clearly important to almost all banks, and in most local communities, doesn’t move the needle enough in most banks’ profit & loss statement to warrant greater commitment of resources. There are exceptions, of course, but this has been overwhelmingly true since CRA was enacted in the 1970s.

The mercenary approach, on the other hand, is commercially motivated. Products such as overdraft protection, subprime mortgages and salary advances clearly address a consumer demand – especially among  the un- and underbanked – but are loudly maligned as aggressive (even predatory) when it comes to economically fragile households. What regulatory action doesn’t limit, headline risk will. Few people realize, for example, that most overdraft fees compare very unfavorably to payday loans when you calculate the effective annual percentage yield. And few people know that big banks, including U.S. Bancorp and Wells Fargo & Co., offer products that function and cost basically the same as payday loans. The mercenary approach doesn’t work because it is perceived as… well, mercenary, although there are exceptions. Some products and services that serve the emerging mass market fairly, profitably and at some scale include Wells Fargo’s international money transfer program and Regions Financial Corp.’s Now suite of products (check out their funny TV commercial).

The model I would like to propose – as commercially attractive, scalable and responsible – is a business banking rather than retail banking approach. Retail banking, I fear, will remain caught in the missionary/mercenary dichotomy for a host of reasons. But consider the number of new non-bank niche experts who are able to work with this customer segment without worrying, as so many bankers do, about installing bullet proof glass in their branches. These companies have access to new channels, whether big-box retailers, small bodegas, or the right places online. They are carving out new products and creating unheard-of efficiencies. Why not target your underbanked initiatives at these specialists?

Examples to consider include offering a BIN-sponsorship (the right to issue credit or debit cards) to cutting edge prepaid program managers, like Plastyc; providing lending capital to responsible lenders, like Progreso Financiero; and offering banking services to progressive money services businesses, such as Papa Cash in Los Angeles. Banks could receive CRA credit for these activities, but these are big potential revenue generators in their own right. In any case, these nonbank companies, and many more like them, are starting to serve underbanked customers at scale and forging a new path between missionary and mercenary: visionary.