Why digital platforms count for banks

Lenders can leverage technology and AI to enhance their products and improve service delivery. FILE

As the rise of digital technologies continues to reshape the future, the global financial landscape is not exceptional.

Over the last decade, the sector has been undergoing a profound digital change. This shift has been a game-changer for all the traditional banking institutions.

And as they face challenges and evolving market dynamics, they also have a significant opportunity to create value by embracing digital platforms.

While experiencing a significant renaissance in profitability, the change that the financial world is witnessing is what McKinsey calls the 'Great Banking Transition’.

This has made the sector face stiff competition from non-traditional players and various market segments.

According to the 2022 McKinsey report analysis on banking sector, for lenders to survive and thrive in this evolving landscape, they must embrace new technologies and adopt the principle of inclusivity.

It also highlighted how banking achieved the highest profits over a decade by amassing a staggering $400 trillion in assets and generating a remarkable $6.8 trillion in revenue.

This resurgence can be attributed to improvement in net interest margins, which bolstered the sector's profits by approximately $280 billion in 2022.

This boost has also elevated the return on equity (ROE) to 12 percent in 2022, with an expected 13 percent in 2023, a substantial increase compared to the average of nine percent since 2010.

Africa's banking sector has not been left behind. It has mirrored this global performance, with net profits reaching $22.3 billion in 2022, exhibiting an average annual growth rate of approximately eight percent since 2021.

The continent outperformed the global trend, with a remarkable ROE of 15 percent recorded in 2022 and an anticipated 16 percent in 2023.

Some African banks have even emerged as the most profitable players in the sector, fueled by higher interest rates that have ended the long-standing trend of margin compression. Kenya, in particular, has emerged as a pioneering ground for reinvention of banking.

McKinsey's report further reveals that Kenya’s banking sector has been a standout performer, generating around $1.5 billion in profits in 2022, with a consistent ROE of 19 percent in 2022 and 2023, the report says.

Several factors have contributed to Kenya's superior performance, including higher GDP and population growth, groundbreaking disruptions, strategic partnerships, ecosystem plays, and cost-efficient service delivery methods, often provided by fintechs and telecommunications companies.

One noteworthy aspect of this banking transformation is the concentration of global banking growth in specific geographic regions, particularly the Indo-Crescent region.

This region, situated around the Indian Ocean, now houses around eight percent of global banking assets and is home to 51 percent of the world's top-performing financial institutions. It encompasses advanced economies such as Australia and Singapore and developing markets among them Kenya, Mozambique, and Tanzania.

As traditional banks face challenges and evolving market dynamics, they have a significant opportunity to create value by embracing digital technologies. These include technology and AI integration, transaction business scaling, enhanced distribution and risk management.

Banks can leverage technology and AI to enhance productivity, better utilise talent, and improve product and service delivery. This includes harnessing the power of AI and advanced analytics to automate processes, create platforms, and cultivate ecosystems. Operating more like tech companies and adopting a cloud-based, platform-oriented architecture will be essential.

Achieving scale in the market or product is crucial for success. Banks can focus on deepening their presence in a niche market or expanding to cover an entire market. This can be achieved through mergers and acquisitions or partnering with others to enhance transaction businesses. In Kenya, for example, digital payment platforms are acquiring small banks in a strategy to scale.

Banks should optimise distribution channels to reach and advise customers directly and indirectly. This includes embedded finance and marketplaces and providing digital and AI-based advisory services.

An integrated omnichannel approach can maximise automation and human interaction. Further, in an evolving risk environment, banks must stay vigilant. They must adapt to macroeconomic changes, evolving regulatory requirements, and emerging risks like cyber threats and fraud.

The ongoing ransition is also reshaping traditional banks' balance sheets because the sector is still facing other challenges due to rising interest rates.

The various transactions now require them to prioritise technology adoption, flexibility in their balance sheets, scaling or exiting transaction businesses, improving distribution, and adapting to evolving risks.