the challenge of bank innovation - full version - 2.2017

The challenge of Bank innovation: Fight for survival

Verona, Italy 2/2017

By Massimiliano Fuccio

2

Agenda

• This document tries to analyze all recent innovation trends that are having a

disruptive impact on the traditional Banking business

• It is based on public documents mentioned as sources

• It covers USA BigTech, Asian BigTech, Digital Banks, FinTech (Marketplace

lending and Crowd Equity, Roboadvisory and Personal financial management &

planning, Payments & Transactional, Blockchain, InsurTech*), Telco Banks and

Retailer Banks

* InsurTech are only presented as a FinTech macro-class but are out of scope of this document

3

• Each year the financial sector features the entry of new players capable of offering new solutions through digital products or services that are more user friendly and cheaper than those offered by traditional Financial Institutions

• While the current impact on traditional banks profit may be limited, letting other intermediaries get in between the bank and its clients opens up to significant risks for the future

• New digital players may represent either a threat or an opportunity for traditional European Banking Groups:

USA BigTech present huge financial resources, extensive customer bases and almost all own licenses to offer financial services in Europe with PayPal, Amazon, Alphabet and Facebook as the main future threats

Asia BigTech present huge financial resources, offer banking services to their clients but do not own licenses to offer financial services in Europe and Alibaba represents the main future threats for European Banks

Digital banks are technology-driven and customer-centric financial institutions mostly operating through apps and websites and they already represent a threat

Marketplace lending is the practice of lending money through online platform services that match lenders directly with borrowers and they are more interest in cooperating with Financial Institutions that not to compete with them

Equity crowdfunding platforms facilitate subscriptions for new shares and allow the crowd to become shareholders, they are growing fast but are small in absolute terms and they do not represents a threat

A RoboAdvisor is an algorithm-based software offering computer-generated investment recommendations with a vast potential market and lack of a specific regulation and represents more an opportunity than a threat

Personal financial management and planning FinTech facilitate clients financial management and planning through web or mobile apps fully integrated in the digital banking experience and they represent an opportunity

Payments are of strategic importance as the anchor for client relationships, but Regulators have identified the dominance of banks in payments as a problem and they are acting to stop it and consequently Payment Fintech represent a threat

Blockchain is a new software architecture that can disrupt financial intermediaries and its impact will depend on the future cooperation as well as the adoption by existing or new market players with a related potential risk for Banks that profit pools could shift to new players

Telco Banks can empower the unbanked population in developing countries by providing financial inclusion, but in developed countries are unlikely to have a significant impact and are not a threat for Banks operating in Europe

Large Retailers, like Tesco or Cerrefour, have launched their a retail banking activities to earn the loyalty of their customers and to use customer data to compete, but they do not represent a big threat due to their current small size relative to their banking markets

Executive summary

4

Digital revolution and FinTech

Digital revolution direct consequence

Each year the financial sector features the

entry of new players capable of offering

new solutions through digital products or services that are

more user friendly and cheaper than those offered by

traditional Financial Institutions

Digital revolution

Digital revolution as a power shift

from corporations to consumers

Who are the new digital players

USA BigTech

Asian BigTech

New StartUp FinTech

Digital Banks

Large Internet giants from China as Alibaba, Baidu and Tencent that have already been successful in financial services in their country of origin (and so they are ahead of western peers) and that are interested in expanding abroad

Financial technology, also known as FinTech, is an economic industry composed of companies that use technology to make financial services more efficient. Financial technology companies are generally startups founded with the purpose of disrupting incumbent financial systems and corporations that rely less on software

•Within FinTech there is also InsurTech, is an economic industry composed of companies investing in the design & implementation of more self-directed insurance services for both customer acquisition and customer servicing

Telco Banks

Economic environment

Low interest rates scenario and lower bank revenues

Big Technology firms from the USA such as Facebook, Google, PayPal, Amazon and Apple that are interested in widening their offering in the financial sector leveraging their brand image, number of subscribers and financial strength

Regulation

Highly regulated environment

The four major challenges of the banking sector

Technology-driven and customer-centric financial institutions that have digital as the only or predominant channel for engaging with customers. They are generically challenger banks and are either banks that need to work in partnership with a Bank since they do not have a Bank License or Digital Native with an autonomous Bank License

Telephone carriers implementing initiatives aimed to provide mobile financial services

Retailer Banks*

Retailers initiatives aimed to provide traditional financial services leveraging on their strong data mining capabilities

* Retailers initiatives are not digital, but they leverage big data mining capabilities

Public perception

Significant loss of trust from the public post Lehman Brothers

5

1,8 2,1 2,4

4,0

12,1

19,1

20,9

2010 2011 2012 2013 2014 2015 2016

(In $Bn)

Investment trend in FinTech and main business areas

Investment trend in FinTech

Global investments in FinTech are growing fast, featuring a 2010-16 CAGR of 48%

Main business areas of FinTech

Marketplace lending

Global private investments in FinTech companies

Crowd Equity A form of crowd-funding in which funds are invested in a Firm in exchange of returns and participation

Payments

Every electronic or digital payment method allowing the execution of transactions among different players without the need for physical money

Personal financial

management and planning

Digital platforms allowing final users to monitor through their chosen device (PC, Tablet, Mobile) all their bank accounts and related finances in an aggregated and simple “tableau de board”, aimed at facilitating personal financial mngmt & planning

Investment & Wealth mgnt

Fully automated investment services, also called RoboAdvisory

Blockchain Public decentralized ledgers maintained in a distributed PC network working without the need of a central authority acting as an intermediary

New and direct way of issuing loans through digital platforms that put in contact lenders with final clients (without banks intermediation) and give (to lenders) the opportunity to select final client to finance

Source: IEB, Garcia de la Cruz, PWC

Insurance (InsurTech*)

Self-directed Life and P&C platforms introducing new products such as the pay-as-you-go insurance, capable of analyzing client risk with innovative remote technologies an intermediary

* InsurTech is out of the scope of this document

6

43%

26%

13%

18%

0%

25%

50%

75%

100%

European Banks profit split

Investment Banking Markets

Asset Management, Private Banking

and Insurance

Corporate Commercial Banking

Retail

Digital Players’ sustainable competitive advantages

Digital Players’ sustainable competitive advantages

• Being different is the mantra of Digital Players since business models that are simply based on a lower cost-to-serve may be easier to replicate by traditional Financial Services

Companies that are trying to solve a financial need in a different, rather than simply a cheaper, way are more likely to maintain their innovation edge for longer

It can be a different target market or the new business model

Business models that are only based on a lower cost-to-serve may be easier to replicate by traditional Financial Institutions

• Activities that are less capital intensive are also more likely to be disrupted by FinTech-based business models

Source: Citi, Personal analysis

RoboAdvisory

Risk taking lending platforms

Non risk taking lending platforms

Payments

PFM & Personal Advisory

InsurTech

Mortgage lending

Corporate lending

Wholesale Banking

Cheaper Different

Capital intense

Capital light

Different and capital light as a strong and sustainable

competitive advantage

Different as a sustainable competitive advantage

Capital light as a sustainable competitive advantage

While the current impact on profit may

be limited, letting other

intermediaries get in between the bank and

its clients opens up to

significant risks for the future

Future perspectives

Consequence for traditional Financial Institutions

•Currently, the greatest challenge for incumbent institutions is in the consumer and SME businesses, especially in payments and unsecured lending both in terms of: potential market share loss to

new entrants share shift between

traditional competitors margin pressure from

increased competition

•At a segment level, retail banking (covering consumers and the majority of SMEs) is a large share of traditional Financial Institutions profits

Areas of current lower

FinTech interest

7

Lending46%

Money Transfer

3%

Payment23%

Savings &Wealth

10%Insurance

10%

Digital Currency

3%

EquityCrowdfunding

2%

InstitutionalTools

3%

AssetManagement

&

Wealth10%

Insurance10%

InvestmentBanking

4%

LargeCorporate

3%

Personal &SME73%

Capital deployed in 2015 in private FinTech companies by segment

Where FinTech global investments are going

Source: CBInsights, KPMG, Crunch Base and Citi Research

Payments Savings &

investments Lending

Capital Markets

Insurance Overall

Personal/SME 26% 10% 46% 0% 10% 92%

Corporate 3% 0% 4%

IB/Markets 4% 4%

Overall 29% 10% 46% 5% 10% 100%

Capital deployed in 2015 in private FinTech companies by business area

Dollar invested in private FinTech companies by business area and customer segments

In terms of bank’s products offered, Fintech investments are mostly going to payments and P2P lending

Main products offered by FinTech

In terms of bank’s segments

served, Fintech investments are mostly going to consumer and

SME

Main segments served by FinTech

(Capital Mkts)

(Payments)

(Capital Mkts)

(Payments)

(Payments)

(Saving and Investments)

(Insurance)

Capital deployed in 9M2016 in private FinTech companies by

business area

Lending60%

Insurance13%

Payment14%

Blockchain3%

Wealth Management

2%Mobile Banking

1%

Others7%

8

Lending28%Money

Transfer10%

Payment19%

Savings &Wealth

16%

Insurance5%

Digital Currency

8% EquityCrowdfunding

6%

InstitutionalTools

8%

Number of FinTech companies by segment in 2015

How many FinTech players are competing at a global level

Source: CBInsights, KPMG, Crunch Base and Citi Research

Payments Savings &

investments Lending

Capital Markets

Insurance Overall

Personal/SME 29% 15% 28% 1% 5% 78%

Corporate 8% 1% 9%

IB/Markets 13% 13%

Overall 37% 15% 28% 15% 5% 100%

Number of FinTech companies by business area in 2015

Number of FinTech companies by business area and customer segments

In terms of bank’s products offered, Fintech companies

are more numerous in the payments and lending space

Main products offered by FinTech

In terms of bank’s segments served,

Fintech investments are

more numerous in Personal & SME

Main segments served by FinTech

(Capital Mkts)

(Capital Mkts)

(Payments)

(Payments)

(Saving and Investments)

(Insurance)

AssetManagement

&

Wealth16%

Insurance5%

InvestmentBanking

12%

LargeCorporate

8%

Personal &SME59%

(Payments)

(Lending)

9

An increasing portion of traditional Banks clients is under the radar of the FinTech and InsurTech companies

Private Banking & Asset Mgnt

Investment Banking

Corporate Banking

Retail Banking

Life & P&C Insurance

Consumer Finance

High risk

client

Small Enterprises

Medium Enterprises

Large Corporates

Medium risk

client

Low risk

client

Mass Market

Affluent

High Net Worth

Individual

High risk

client

Medium risk

client

Low risk client

High risk

client Medium risk

client Low risk

client

Key Core clients

Other clients

Non core clients

Banks business areas

InsurTech

Lending FinTech

Crowd Equity

(Mostly SMEs)

Source: Personal analysis

Excluding ad-hoc complex payment

(Ex.: Trade finance)

Future perspectives

While the current loss of clients may be small, letting

other intermediaries get in between the bank and their clients

opens up risks for the future

Robo Advisory

Lending FinTech

Core clients

Other clients

Non core

clients

Non core

clients Other clients

Core clients

(Mostly SMEs)

Core clients Other

clients Non core

clients

Personal financial

management and planning

FinTech

Payments & Transactional

FinTech

Lending FinTech


FinTech

10

The impact of FinTech and Insurtech on P&L and BS of a traditional Banking Group

Generic Baking Group organizational chart

Group Executive Committee - Board of Directors

Consumers SEs MEs Large Corporates

Lending FinTech

Private Banking & Asset Management Investment Banking Corporate Banking Retail Banking Insurance Consumer Finance

On Consumer: • Less loans issued (BS) • Less interest margin (P&L) • Less fees & commissions (P&L) • Eventual loss of clients if the

offer is extended to other Banks’ products

On Small/Medium Entreprises: • Less loans issued (BS) • Less interest margin (P&L) • Less fees & commissions (P&L) • Eventual loss of clients if the


Payments & Transactional FinTech

On Consumer: • Less fees & commissions

(P&L) • Eventual loss of clients if the


On Small/Meduim Entreprises: • Less fees & commissions

(P&L) • Eventual loss of clients if the


Crowd Equity

On Small/Medium Entreprises: • Less fees & commissions (P&L)

RoboAdvisory

On consumer: • Less AUM (AUM) • Less fees & commissions (P&L)

InsurTech

On Life and P&C: • Less operating investment result

(P&L) • Less fees & commissions (P&L)

Personal financial mngmt and planning

On Consumer: • Less fees & commissions

(P&L)


11

Source: Amazon, Alphabet, Apple, Facebook, PayPal, Garcia de la Cruz, Personal analysis

USA BigTech strategic summary

Logo

Keys

2 Funds: G.Ventures G. Capital

Medium-low High Medium-high Medium * commissions received from the different intermediaries or from the final customer ** low returns activity

Low

USA BigTech present huge financial resources, extensive customer bases and almost all own licenses to offer financial services in Europe with PayPal, Amazon, Alphabet and Facebook as the main future threats

12


Asian BigTech strategic summary

Logo

Keys Medium-low High Medium-high Medium * commissions received from the different intermediaries or from the final customer ** low returns activity

Low

Asia BigTech present huge financial resources, offer banking services to their clients but do not own licenses to offer financial services in Europe and Alibaba represents the main future threats for European Banks

13

Digital banks are technology-driven and customer-centric financial institutions mostly operating through apps and websites and they already represent a threat for traditional banks

Source: Burnmark; PWC; Personal analysis

•Digital Banks represents the main direct competitors of traditional Banks since they are expected to have an average cost/income of ~26% vs. that of traditional Banks of ~60% •Winning Digital Banks will be those that will effectively face: the need to achieve economies

of scale in a short timeframe the high customer acquisition

costs the heavy competition in niche

markets

Digital Banks as the main direct competitors of

traditional Banks

Keys

Null

Medium-low

High

Medium-high

Medium Number of branches (mostly

branchless)

Ability to serve customer in the

best possible and transparent

manner (customer-centricity)

Presence of a more flexible IT infrastructure if

compared to traditional Banks legacy systems

Faster processing times and

flexibility in pricing as keys to capture customers

Ability to compete

directly with the

traditional bank

Offshoring a significant portion of their full-time

employees

Key issues characterizing Digital Banks business model

Ability to compete directly with the traditional bank

Fully digital banks offering basic banking products like deposit and basic loans with

an approach aimed to personalization, simplification

and lower costs

14

Source: Deloitte, Personal analysis

MPLs vs. Traditional Banks

Keys Medium-low High Medium-high Medium Low

Marketplace lending is the practice of lending money through online platform services that match lenders directly with borrowers and they are more interest in cooperating with Financial Institutions that not to compete with them

Bank

MPLs

•MPLs are likely to find a series of profitable niches to exploit, such as borrowing which falls outside banks risk appetite and segments that value speed enough to pay a premium

• The cost of acquiring customers remains high and finding borrowers is often more difficult than securing lenders and, consequently, partnerships with banks, credit card lenders, or tech firms will be important in increasing customer awareness and ensuring platforms grow

Today partnerships are key for MPLs

• Banks will probably continue to have more to gain than to lose from implementing a strategy of effective collaboration and partnering with MPLs They may also benefit from adopting some of MPLs best practices,

particularly those around customer experience or utilizing elements of the MPL model to expand geographically without bearing the distribution and regulatory costs of the traditional bank model

•MPLs will represent a threat to Bank only if they will be able to expand their offering to include ancillary services such as cash-flow tools and business advice, for which customers would be willing to pay a premium

Next steps for Banks

15


Equity crowdfunding vs. Traditional Banks


Equity crowdfunding platforms facilitate subscriptions for new shares and allow the crowd to become shareholders, they are growing fast but are small in absolute terms and they do not represent a threat for banks

Bank

Equity crowdfunding

16


RoboAdvisor vs. Traditional Wealth Manager


RoboAdvisor

Traditional Wealth

Manager

A RoboAdvisor is an algorithm-based software offering computer-generated investment recommendations with a vast potential market and lack of a specific regulation and represents more an opportunity for traditional Wealth Managers than a threat

• Ignoring RoboAdvisory the opportunity focusing on servicing UHNWI and HNWI who require higher added-value services tailored to specific needs

•Developing an in-house RoboAdvisory solution to leverage internal expertise, architecture and resources This should reduce the existing cost base for providing discretionary services to the mass affluent segment

• Acquiring a RoboAdviser at a fair price to serve a new group of customers at lower cost • Partnering with an existing RoboAdviser to take advantage of this digital trend and its services in order to capture younger tech-savvy

investors who may become the core clientele of tomorrow

Next steps for traditional Wealth Managers

17


Personal financial management and planning FinTech vs. Banks


PFM & Financial planning Fintech

Banks

Personal financial management & planning FinTech facilitate clients financial management and planning through web or mobile apps fully integrated in the digital banking experience and they represent an opportunity for Banks

• Banks can cooperate with these platforms to have access to a powerful database on the financial behavior of clients allowing them to better design differentiated offers and to increase customer loyalty with targeted solutions/services that make sense with customer current situations Banks can also enhance their positive image and transparency through their association with platforms

• Alternatively Banks can decide to develop their own Personal financial management & Financial planning tools in order not to risk to loose clients to competing banks


Mostly due to the transparency of interests and fees levels of aggregated banking, trust, brokerage and credit cards accounts

18

Source: Deloitte, Personal analysis


• If Banks do not act they can continue to loose their leading position in payments, loosing proximity to the customer and then loosing clients and payment-related and payment-unrelated revenues streams to FinTech (ex.: PayPal with its instalment credit lending facility, PayPal Credit) By not responding to innovations in payments, or by relying on FinTech, Banks risk becoming utilities earning low margins and to survive

they will need to build scale and operate efficiently to make sufficient returns on investment • The strategic option for card payments is clear since the card payment networks are already large and global (even the biggest banks are small

by comparison) and so banks’ dominant strategy is to collaborate with the big networks • The strategic option for non-card payments for large Banks are in-house innovation and industry collaboration as a cost-efficient way of

developing new infrastructure, achieve industry-wide inter-operability, make it available to customers and achieve greater user acceptance • The dominant strategy non-card payments for smaller banks is always to collaborate, with other Banks and FinTech opening their platforms to

innovations as part of an open API approach and industry collaboration in the infrastructure and network areas

Payment and Transactional FinTech FinTech vs. Banks

Payment and transactional

Fintech

Banks


Payments are of strategic importance as the anchor for client relationships, but Regulators have identified the dominance of banks in payments as a problem and they are acting to stop it and consequently Payment Fintech represent a threat for Banks

19


•The most impactful Blockchain applications will require deep collaboration between incumbents, innovators and regulators, adding complexity and delaying implementation •Updating financial infrastructure through Blockchain will require significant time and investment

Blockchain today and tomorrow

Keys

Null

Medium-low

High

Medium-high

Medium

Importance of aligning key

stakeholders for collective action

(difficult balancing of interests in the face

of diverging interests and zero-sum games)

Importance of changes to existing

regulations, standards of practice, and of the creation of

new legal and liability frameworks to implement new

financial infrastructure

Time and investment requirements to replace existing

financial infrastructure by

Blockchain

Importance to take into

consideration all three key

observations for Blockchain

implementation to be successful

Key observations to be taken into consideration for Blockchain successful

implementation

Blockchain enablers

Blockchain is a new software architecture that can disrupt financial intermediaries and its impact will depend on the future cooperation as well as the adoption by existing or new market players with a related potential risk for Banks that profit pools could shift to new players

Source: World Economic Forum, Deloitte, Morgan Stanley, Evry, Personal analysis

•Cost mutualisation: Banks will need to share infrastructure build-out costs equitably if new systems are to be truly inter-operable industry utilities this is potentially subject to organizational disputes as users assess how much to invest or customize (which degrades of interoperability and speed) and by which measure to allocate costs among participants (ex.: by revenues, by market share,...)

•Governance: key operational issues are not technology but process and governance related (ex.: who would be in charge of maintaining and managing the blockchain) •Regulation: regulation is critical in driving to a fully dematerialized environment

20

Telco Banks

Traditional Banks

Source: GSMA, IEA (Institute of Economic Affairs - UK), Equity Bank, BankingHub, EuroMoney, Arthur D. Little, Personal analysis


Developing countries

Developed countries

Keys

Null

Medium-low

High

Medium-high

Medium

Telco Companies

Traditional Banks

1

2

21

Source: S.Worthington, Personal analysis

Large Retailers have launched their retail banking activities to earn the loyalty of their customers and to use customer data to compete, but they do not represent a big threat due to their current small size relative to their banking markets

Retailers

Traditional Banks

Retailer Banks vs. Banks


• The challenge to become a mainstream players in full-service retail banking can only be achieved with significant acquisitions

Next steps for Retailer Banks

22

Technology (act as a Venture Capital)

How should a traditional Banking Group react?

The competitive

arena

Traditional Banking Groups

will face increasingly

stronger competition from new

entrants that will

progressively become more robust and will

continue to invest in

innovative offerings

Possible responses in terms of tech and culture

Culture

Banks leadership teams and HR departments will need to:

• change the mind-set from traditional leadership-down management to a model that encourages innovation

• foster a progressive mind-set aimed at trying because failing is much better than not trying at all

• identify promising profiles and develop incentives to attract entrepreneurial talent

• adapt to new talent acquisition methods redesigning career paths and offering incentive arrangements

• introduce talent management frameworks encouraging and reward emerging trends and technologies learning attitude

Incumbent main risk

Incumbents might run the risk of being surpassed in

their core business strengths

Response

Technology and

innovation corporate culture are

the key drivers of the

future

Banks leadership teams will need to: • Adopt a mobile-first approach as the key to improve

customer experience • and partnering with FinTech to:

strengthen Banks competitive position quickly identifying challenges and opportunities

bring solutions or products into the market more quickly

gain a deeper understanding of how they complement one another

Source: PWC; Personal analysis

Commercial alliance M&A

Partnering alternatives with FinTech

23

Annexes

24

• Focus on USA BigTech

• Focus on Asian BigTech

• Focus on Digital Banks

• Focus on FinTech

Crowdfunding o Marketplace lending o Crowd Equity

Investment & Wealth management o Roboadvisory o Personal financial management & planning

Payments & Transactional Blockchain

• Focus on Telco Banks

• Focus on Retailer Banks

Annexes

25

USA BigTech present huge financial resources, extensive customer bases and almost all own licenses to offer financial services in Europe

Source: Amazon, Alphabet, Apple, Facebook, PayPal, Google Finance, Yahoo Finance, Credit Suisse; Statista.com; Citi Research

USA BigTech Key data

Market cap* (in Bln$) ROE Employees Logo

Licenses to offer

financial services

in Europe

Intraday marked cap at 14/10/2016

Revenues (in Bln$)

Net Income

(in Bln$)

Cash And Cash

Equivalents including

Short Term Investments

(in Bln$)

Cash Flow From

Operating Activities (in Bln$)

Last twelve months at 30/6/2016


At 31/12/2015

At 31/12/2015


At 30/6/2016

E-money institution license in Ireland (2014)

Amazon

Apple

Alphabet (Ex-Google)

Facebook

393,14 120,64 1,93 19,81 11,92 13,6% 230.800

541,68 81,76 17,99 73,07 26,04 15,0% 66.575

220,29 47,80 41,60 81,27 37,9% 110.000

22,16 6,00 18,43 8,60 13,4% 14.495

630,34

367,06

Banking license in

the Netherlands

(2007)

None

E-money institution license in

Luxembourg

PayPal 10,01 1,36 3,41 2,55 10,2% 16.800 47,31

Banking license in

Luxembourg (2007)

Market Cap calculated using

shares outstanding

Global active users/

Customers

304Mil (2015)

>1.000Mil (2016)

800Mil Itunes (2015)

1.5508Mil (2015)

188Mil (6/2016)

(E-commerce)

(Data, software, hardware)

(Data monetization)

(Data monetization)

(Payments services)

26

Electronic money

institutions cannot do

• take deposits*** or other repayable funds** from the public •grant credit from the funds received or held for the purpose of issuing electronic money

•grant interest or any other benefit unless those benefits are not related to the length of time during which the electronic money holder holds electronic money

Alphabet and Facebook have entered the financial services industry as Electronic-money institution

• any funds received by electronic money institutions shall not constitute either a deposit or other

repayable funds received from the public

What is an Electronic-money institution (2009/110/EC)

Source: European Commission

Incumbent main risk

Alphabet and Facebook currently

own a European Electronic-

money institution

license

Electronic money

institutions can do

1) issue electronic money* as a digital equivalent of cash, stored on an electronic device or remotely at a server

2) provide services enabling cash to be placed on a payment account as well as all the operations required for operating a payment account

3) provide services enabling cash withdrawals from a payment account as well as all the operations required for operating a payment account

4) execute payment transactions, including transfers of funds on a payment account with the user's payment service provider or with another payment service provider

5) execute payment transactions where the funds are covered by a credit line for a payment service user**

6) issue and/or acquiring of payment instruments 7) provide money remittance 8) execute payment transactions where the consent of the payer to

execute a payment transaction is given by means of any telecommunication, digital or IT device and the payment is made to the telecommunication, IT system or network operator, acting only as an intermediary between the payment service user and the supplier of the goods and services

9) grant credit related to payment services in points 5, 6 or 8 • Credit shall not be granted from the funds received in exchange of electronic money

10)provide operational services and closely related ancillary services in respect of the issuing of electronic money or to the provision of payment services

The European E-Money Directive

(2009/110/EC) (EMD)

It aims to: • enable new, innovative and secure electronic money services to be designed

• provide market access to new companies

• foster real and effective competition between all market participants

to benefit consumers, businesses and the wider European economy

* One common type of e-money is the “electronic purse’” where users store relatively small amounts of money on their payment card or other smart card, to use for making small payments

** execution of direct debits, including one-off direct debits, execution of payment transactions through a payment card or a similar device, execution of credit transfers, including standing orders.

** *Any funds received by electronic money institutions shall not constitute either a deposit or other repayable funds received from the public

27

USA BigTech already offer specific Financial services to their clients

•Payment platform :Amazon offer a payment platform to its merchant clients in exchange of a fee (in Continental Europe is the sumo of a Processing Fee of 3,4% of the transaction amount is + 0,35€ Authorization Fee . In the UK the Processing Fee varies on the basis of the transaction value with a range of 3,4%-1,4%+0,2£ Authorization Fee)

• Credit and debit cards: In the US Amazon in JV with Visa offers its own credit or debit card : Amazon.com Rewards Visa Card In the UK it has not offered yet an Amazon branded credit card but it allow, through the site, to chose and obtain one among a

great selection of credit cards and payment cards from the leading UK card issuers • Credit lines: In the US Amazon offers credit lines to government institutions and businesses thanks to a JV with Synchrony Bank

(it offe a 55 days “Pay-In-Ful”l Credit Line with no interests and a traditional “Revolving” Credit Line) in the UK it offers and “Pay Monthly” credit line for orders of >400£ with a response in as little as 60 seconds

• Lending: Amazon Lending Program (available in the USA and in Europe only in France, Germany, Italy, Spain and the UK) is on an invite-only basis and is not open to all sellers on Amazon's platform and offers three-to-six month financing of loans up to $600K to help merchants purchase necessary inventory with interests rates between 6% and 14% (in JV with a Bank)

• Virtual money: Amazon Coin that is a digital currency (100 Coins= $1) that clients can use to buy games/apps from Amazon

• E-Wallet: App “wallet” in which the customer can store his/her credit or debit card to then pay using the Iphone . The transaction is executed approaching the phone to the retailer apple-wallet reader it’s a service of intermediation more that a financial product since Apple offers a secure platform that connect the clients, the

retailer and the Financial Institutions Apple obtains a commission on the value of the transaction from the Financial Institutions and this has been the main limit to its

expansion (In Europe is only in UK, Switzerland and France). Apple does not charge users, merchants or developers

•Payments and deposits: Its current target in terms of financial services offered is to allow customers to accumulate money within the Facebook and to allow them to use it to execute payments and transactions with other users Facebook currently allows USA customers to send or receive money through Messanger

In the near future it may be possible also in Europe where Facebook own the E-money license

• E-Wallet: Google “wallet” in which the customer can store his/her credit or debit card to then pay using the Android Smartphone . The transaction is executed approaching the phone to the retailer contactless payment terminal Google Payment Corp. charges merchants no fees for accepting Android Pay and Android Pay does not charge any fees for

purchases through Android Pay. The service is offered for free (The service is currently available in the US and in the UK) • (In the USA and in the UK) loans to SMEs to help them buying advertising space service that is expected to be offered in other European countries in the next future thanks to the Bank License

Source: Amazon, Alphabet, Apple, Facebook, PayPal, Garcia de la Cruz

•Online payments: free for buyers and from 1.9% to 3.4% + €0,35 per transaction to merchants (increasing in case of FX) •Money remittance: Free when used PayPal balance, 3.4%+€0,35 for credit card payments (either the sender or recipient can pay) • Send invoices: No monthly fees. From 3.4% to as low as 1.9% + 20p per invoice to merchants •Virtual deposit account: a virtual account on which money can be deposited using a credit card or a traditional bank account in

order to execute real time e-commerce purchase transactions • Small bus. funding: (In Europe only in the UK) PayPal Working Capital is a cash advance for PayPal merchants and sellers for a

fixed fee and in minutes

28

Amazon, Alphabet and Facebook are currently more complementary to traditional banks, but PayPal, Amazon, Alphabet and Facebook represents the main future threats


USA BigTech strategic summary

Logo

Keys

2 Funds: G.Ventures G. Capital

Medium-low High Medium-high Medium * commissions received from the different intermediaries or from the final customer ** low returns activity

Low

29










Annexes

30

Asian BigTech Key data

Market cap* (in Bln$) ROE Employees

Licenses to offer

financial services

in Europe

Revenues (in Bln$)

Net Income

(in Bln$)

Cash And Cash

Equivalents including

Short Term Investments

(in Bln$)

Cash Flow From

Operating Activities (in Bln$)

Intraday marked cap at 14/10/2016



At 31/12/2015

At 31/12/2015


At 30/6/2016

Market Cap calculated using

shares outstanding

Logo

Alibaba

Tencent

Baidu

255,37 16,93 7,21 18,097 8,788 21,51% 36.446

60,52 10,66 4,74 10,48 3,00 41,0% 41.467

18,68 5,17 N.A. N.A. 28,59% 31.557 251,56 None

None

None

Source: Google Finance, Yahoo Finance; Citi Research; Bloomberg

Asia BigTech present huge financial resources but do not own licenses to offer financial services in Europe

450Mil (2016)

590Mil (2015)

760Mil (2016)

(E-commerce)

(Data monetization) Search engine –

The Google of China

(Data monetization) Games & instant

messaging

Global active users/

Customers

China’s government has been in needs to encourage economic growth by providing access to capital and financial services to small and emerging companies. The state owned banking system falls short in this goal. Therefore policy makers have encouraged competition in the financial industry incentivizing entrepreneurs to modernize that sector

Consumers have quickly migrated to digital and mobile financial services

China financial services sector

31

Asian BigTech already offer banking Financial services to their clients and are positioned ahead of USA Big Tech in terms of penetration in the Financial Sector

•Online bank: MyBank to provide financial solutions for individuals in both urban and rural areas and small and micro enterprises and challenging China’s state owned banks with its 100% digital, branchless banking operation open 24 hours a day. It’s one of China’s first privately owned internet banks. Its mission is to answer to the needs of those who have limited access to financial services in China and to give affordable loans for small and micro enterprises and investment products

•Online payments: Alipay an online payments company similar to PayPal, but bigger. It is the world’s leading third-party payment platform. The number of Alipay registered users are over 400mil and the number of partnering financial institutions exceeded 200. it doing some $520 billion in annual transaction volume. In addition, Alipay handles over 80 million transactions daily, 45 million of which are through mobile payment accounts. Alipay has more than 48% of the third party online payment market in China

• E-Wallet:, Alipay Wallet a digital wallet that is integrated with Alipay to enable eCommerce and P2P payments (in China and a significant ownership in PayTM, India’s largest digital wallet).There are 190 million annual active users of Alipay Wallet in China

•Money market fund: Yu’e Bao the largest money market fund in China (China only) with 77€Bln in AUM and nearly 125Mln users • Lending marketplace: Sesame Credit is a marketplace platform that lets SME and individuals borrow from investors directly

(China only). Products offered on the platform include also universal insurances and structured funds • Lending: Ant Micro Loan or Ant Credit (China only) provides micro online loans to SME and individual online entrepreneurs,

evaluated based on data. The products include credit loans and online merchant loans • Credit rating: Sesame Credit, a data-based credit ratings provider (China only) that generates credit scores based on the online

behavior of consumers and small businesses on Alibaba’s Taobao (consumer-to-consumer) and Tmall (business-to-consumer) marketplaces. It is based on online and offline data and its data collected include web-pages users visit, goods purchased and payment histories on Alipay. It would make credit more widely available to consumers or small business owners who have limited traditional credit history (They may have never obtained bank loans or applied for credit cards, but they might be active internet users who shop online, e-pay their utility bills on time or have a stable residential status)

Source: Alibaba; Baidu; Tencent; Citi Research

Ant Financial is the online payments and finance affiliate of Alibaba and it is focused on serving small and micro enterprises as well as consumers. Businesses operated by Ant Financial are:

•PtoP E-Payments: through its popular instant messaging app WeChat (a proprietary centralized closed network) with ~$50Bln in 2016 monthly transaction volume - Online Bank: online only bank called WeBank is 30% owned by Tencent (its largest shareholder) that faces tough competition from MYbank of Alibaba in its offering of offer small loans and investment products. It is China’s first online-only bank - Consumer Credit Scoring using the wealth of its customers information to define user score

• E-Wallet: Baidu wallet is a mobile wallet service that offers interbank transfers for free, lets users pay for online purchases and utility bills, and more. The payment service is linked to other Baidu services such as Bai Fa, the wealth-management product

•Baidu Finance: personal loan service (to let clients borrow ≤10 times their monthly income and pay it back in ≤3yrs), wealth management (Bai Fa an online wealth management service in cooperation with China Asset Management Co in which is allowed a minimum investment of just 1yuan), Consumer Credit Scoring (through its investment in a US FinTech ZestFinance to provide credit rating to third-party financial services since it doesn't have a license to provide consumer credit information services), online insurance (it established a company with German insurer Allianz and private equity firm Hillhouse Capital), social payments to lets users pay friends via a text message through a direct investment in the blockchain (Bitcoin or not) payments firm Circle

•Online Bank: CITIC and Baidu establishing a partnership with Baixin Bank to make finance inclusive for small businesses. It’s an independent legal entity, with its parent companies only offering material support but not intervening in its day to day operation. The partnership is aimed to leverage each other's' expertise. Baidu brings its traffic resources, behavioral data on users and data analytics (to assess a person's creditworthiness or better risk management), while CITIC brings the knowledge of financial products

32

Alibaba and Baidu are expanding abroad in other Asian markets, but are also considering the European market for Chinese tourists payments and for cross-border E-payment transactions

Alibaba’s Ant Financial launched operation in Hong Kong, Singapore, Thailand and has unveiled a partnership with Ingenico Group SA (a France-based company with operations in all Europe). At the moment, Alipay’s priority is to tap on the Chinese tourists to expand its acceptance points globally. Ingenico provides the technology involved in secure electronic transactions and represents the processing platform that has thousands of merchants as its customers. Ingenico traditional business is based on the manufacture of point of sale (POS) payment terminals, but it also includes complete payment software and related services, also software for merchants. The alliance has the aim to target Chinese tourists visiting Europe that is a very large market given most travelers are Alipay customers already. Ingenico payment terminals are in thousands of online and physical stores in 150 countries and it already manages cross-border electronic transactions for Alipay and its parent company Alibaba. Alipay has no plans at this point to offer its services to consumers who aren’t from China. The 120 million Chinese people who traveled in 2015 and spent $875 each on average during those trips. It promises to drive business to retailers, with a wallet app that lets some 450 million users to pay (In comparison, only a ~12Mil subscribers combined use mobile wallets by Apple Inc., Google or Samsung Electronics Co.). Offering its retail customers more payment options is a way to keep them happy as well as grow service charges by increasing volume. Alipay is building customer loyalty even when Chinese users travel beyond China. Ant Financial has also allied in France with Edel Bank (the banking subsidiary of E.Leclerc) to expand with retailers interested in accepting transactions executed with Chinese tourists paying with the digital wallet Alipay. Edel Bank provides free to merchant a “terminal" in the form of a mini-tablet that can read the "QR code", a bar code, issued by the customer's smartphone when he/she wants to pay for a purchase. Once the transaction is validated by Alipay, Edel Bank credits the bank account of the choice of the merchant. The merchant pays a commission whose amount depends on the payment volumes, but its level would not be far higher than that with a card payment. The bank will, at first, equip the largest number of stores in Paris receiving Chinese tourists, especially in luxury, hospitality and transportation. It will then expand its target to provincial cities and to Europe. Alipay’s reached then also the American marketplace since Chinese consumers are continuously seeking high quality U.S. products and Western merchandise that they can’t find in China. Alipay expansion is designed to allow U.S. brands and retailers to sell directly to Chinese consumers using localized payments with Alipay and direct shipping. Alipay has reached the American marketplace with various retail partnerships and tidying-in its payments platform with some of the U.S.’s biggest name retailers particularly in luxury and high-end goods. This program is called Alipay ePass program that is a cross-border eCommerce platform

Tencent Wallet is in the process to launched its mobile payment and digital wallet services outside of China in Hong Kong. Its focused is to serve the domestic Chinese market given its huge scale there and it has limited ambitions about the international front where its messaging app has not scaled to the vast size achieved in China

Source: Alibaba; Baidu; Tencent; Citi Research

Alibaba

Tencent

Baidu

Baidu Wallet has launched or will launch its mobile payment and digital wallet services outside of China in Thailand, South Korea, Japan, Hong Kong, Macau and Taiwan. Baidu has clearly expressed interested in cross-border transactions with its strategic investment in the blockchain payments startup Circle. Circle has already an E-money institution license in the US and in Europe and Baidu (through Circle China that has been set up as an independent company) will probably have the ability to move currency value in those markets

33


Asian BigTech strategic summary

Logo

Keys Medium-low High Medium-high Medium * commissions received from the different intermediaries or from the final customer ** low returns activity

Low

Alibaba may be the most dangerous Asian BigTech player for traditional European Banking Groups, followed by Baidu

34










Annexes

35

Digital Banks business strategy, business models and organization

Digital Banks

•Digital banks are gaining prominence due to the underlying inefficiencies of the incumbents in serving the customer in the best possible and transparent manner creating space for competitors to

enter or to gain market share by offering a superior service, or by simply being available to customers

•Digital banks are technology-driven and customer-centric financial institutions also named challenger banks operating through:

apps, websites, branches and a combination of these

business model and technological model built around customer centricity

innovative ways of underwriting, faster processing times and flexibility in pricing as keys to capture customers

Business models

Main business models are emerging:

•Real Challengers (or, just, challenger banks): Fintech that have obtained a banking license in the last 3-5 years or are in the process of procuring a banking license with digital as the only or predominant channel for engaging with customers

•Pseudo Challengers: Digital subsidiaries, digital partners (neo banks) and digital startups of existing banks which engage with customers through both branch and digital channels

Source: Burnmark

60%

26%

-10%

-6%-18%

C/I Traditional banks with

branch network

Offshoring benefit (50% of

full time

employees)

Focused IT Infrastructure

benefit

Branches-free distribution

channel benefit

C/I Digital Banks

Digital Banks organization

•Challenger banks tend to be asset-light and leverage customer data and technology to drive their customer-centric strategy with simpler product sets traditional banks have, instead, extensive marketing and operations strategy to drive their product-centric business model

•Challenger banks are expected to have an average cost/income of ~26% since they generally: offshore a significant portion of their full-time employees

present a focused IT infrastructure and not a legacy system mixed approach mostly focused on acquiring

best-of-breed applications from established vendors and fintech startups and with just a few building the technology in-house (as Fidor Bank)

run distribution channels that are branches free

Traditional Bank vs. Digital Bank forecasted cost/income comparison

36

Digital Banks key organization models and key players Digital Banks possible organization models

Source: Burnmark; IEB; Garcia de la Cruz

Product, sales and

marketing

Channels

Back office

Bank license

Proprietary

Partner bank’s

Partner bank’s

Partner bank’s

Proprietary

Proprietary

Partner bank’s

Partner bank’s

Proprietary

Proprietary

Proprietary

Partner bank’s

Proprietary

Proprietary

Proprietary

Proprietary

In house capabilities Self-reliant

Reliance on partner bank

Large challenger

Neo Banks Digital

subsidiaries Digital native

USA (Partner with CBW Bank )

Main Digital Banks players

USA (partner with The Bancorp )

Neo Banks

(Acquired by BBVA )

Canada (partner with People’s Trust )

China (owned by Tescent)

France (Owned by BNP)

Germany Austria

Italy

Belgium

Digital subsidiaries

Digital native

France (Owned by AXA)

UK

Germany Austria

Switzerland

Italy

UK Germany

UK

Russia

European Economic Area (EEA)

Germany Austria

Finland

UK

UK

(Owned by BPCE of France )

(Acquired by BBVA )

37

31/12/2014 31/12/2015

Interest Income 12.546 21.415

Commission income 3.000 3.234

Other income 6.854 4.057

Staff costs -3.765 -5.649

Operating expenses -10.668 -16.407

Writedowns -3.868 -6.294

Others 61 115

Operating profit 4.160 471

Depreciation and amortisation -471 -580

Result before taxation 3.689 -109

Taxation -1.308 16

Net Income/ loss 2.381 -93

Loss brought forward from the previous year -5.025 -2.644

Net loss -2.644 -2.737

Total assets 304.000 446.000

In €/000

31/03/2015 31/03/2016

Net interest and similar income 15 61

Fee and commission expense 0 -37

Staff costs -4.093 -15.281

Operating expenses -4.093 -15.566

Operating loss -8.171 -30.823

Depreciation and amortisation -184 -797

Loss before taxation -8.355 -31.620

Taxation 791 1.874

Total comprehensive loss for the year/period -7.564 -29.746

Total assets 16.528 47.692

In €/000

Atom Banks Key Financial Data

Digital Natives

key financial

data

• Expectation are high but currently Digital Natives are still unprofitable StartUps

Future perspectives

Source: Atom Bank and Fidor Bank websites

Forecasted cost/income comparison does not guarantee that Digital Banks are already profitable and the question remains how successful they are in making their client base profitable

Atom Banks Key Financial Data

• The question remains how successful Digital Banks are in making their client base profitable since, unfortunately, these banks are not reporting revenue figures separately with the sole exception of few Digital Natives

Digital Banks profitability

• Digital natives, representing the most extreme form of Digital Banks, have still to demonstrate their profitability

Digital natives

profitability

38

54%52%

42%

25% 25%

0%

10%

20%

30%

40%

50%

60%

Lending Fixed savings Saving bonds Mortgages Short term deposits

Digital Banks main products offered

Digital Banks main customers

Source: Burnmark * commercial real estate secured by liens on commercial, rather than residential, property

• The millennial generation (those born between the 80s and the 90s) is the main target of Digital Banks since is group that is leading the exploration options beyond traditional banking and are consumers who: are digital natives and so they desire a simplified, intuitive and on-

demand customer service are socially hyper-connected are increasingly concerned about financial stability due to their early

years being spent during the financial crisis and so they desire a mostly free customer service

• Small firms consistently report higher financing hurdles given their small size and limited assets are also targeted by Digital Banks

•Digital Banks have fulfill the needs of unserved or underserved customer segments including unsecured personal lending, CRE lending*, student lending, auto loans, credit cards, SME lending and some categories of invoice financing

Products penetration within Digital Banks

Digital Banks

offering and

customer segments

•The question now is whether the challenger banking is here to stay

•Digital Banks success will clearly depend on either obtaining the customer’s mindshare or on scaling up very quickly

Future perspectives

Digital Banks customer base and main products offered

39

Digital Banks ability to compete directly with the traditional bank and Digital Banks key strategic issues

Digital Banks key strategic issues to win

Key to Digital Banks will be: •maintaining high modularity of products and services Solutions that banks can easily integrate or incorporate to improve and simplify operations

•being able to cater to micro-segments of the population with personalized products

•adopting new solutions to improve and simplify operations Increased sophistication in methods to reach, engage, and retain customers

Simplified and streamlined product application processes to improve customer experience

Introduce self-service tools Facilitate credit underwriting and decisioning

• fostering a move away from physical channels and towards digital/mobile delivery

Source: Burnmark; PWC;IEB; Garcia de la Cruz; Personal analysis

•Digital Banks represents the main direct competitors of traditional Banks since they are expected to have an average cost/income of ~26% vs. that of traditional Banks of ~60% •Winning Digital Banks will be those that will effectively face: the need to achieve

economies of scale in a short timeframe

the high customer acquisition costs

the heavy competition in niche markets

Digital Banks today and tomorrow

Keys

Null

Medium-low

High

Medium-high

Medium Number of branches (mostly

branchless)

Ability to serve customer in the

best possible and transparent

manner (customer-centricity)

Presence of a more flexible IT infrastructure if

compared to traditional Banks legacy systems

Faster processing times and

flexibility in pricing as keys to capture customers

Ability to compete

directly with the

traditional bank

Offshoring a significant portion of their full-time

employees

Key issues characterizing Digital Banks business model

Ability to compete directly with the traditional bank

Fully digital banks offering basic banking products like deposit and basic loans with

an approach aimed to personalization, simplification

and lower costs

40










Annexes

41

0,80

2,24

4,41

0,33

0,59

1,02

1,13

2,83

5,43

2013 2014 2015

UK Continental Europe Cagr 2013-15

1,13 2,83 5,433,249,65

33,58

4,13

20,29

94,61

2013 2014 2015

Europe Americas Asia-Pacific

The size and Geographic distribution of Crowdfunding

Crowdfunding, the process in which a number of people confer sums of money to finance projects is gaining importance globally and is growing fast

• Crowdfunding indicates the process by which a number of people (a crowd) confer sums of money (funding), also of modest entity, to finance an entrepreneurial project or initiative of some kind using Internet sites (platforms or portals), sometimes receiving remuneration in exchange

• This FinTech segment is gaining importance and is growing fast

Source: Bruegel; KPMG & Cambridge University

Crowdfunding

(2013-15 – in €Bln)

Regional online

alternative finance volumes

• In 2015, the total online alternative finance has been dominated by Asia-Pacific region, followed by the Americas an Europe

• Each region has a distinctive market leader which contributes significantly to the total volume and activity of each respective regional market In the Asia-Pacific region is China

that is the world’s largest market for online alternative finance (2015 volume of 93,39€Bil)

In the Americas is the US (2015 volume of 33,29€Bil)

In Europe is the UK (2015 volume of 4,41€Bil)

European Online

Alternative Finance Market

Volumes

(2013-15 – in €Bln)

134,7%

76,8%

119,5%

• In 2015, the total online alternative finance market volume for Europe reached €5,43m with a 2013-15 CAGR of 119,5%

• The UK remains the largest market for alternative finance within Europe providing €4,41m for 2015 and also one of the fastest growing with a 2013-15 CAGR of 137,7%

• Outside of the UK, France, Germany and the Netherlands have well-established and fast-growing alternative finance marketplaces, being the top three contributors to Europe’s total alternative finance volume respectively

42

European Crowdfunding model types

In Europe there is a diverse set of Crowdfunding models

• Two fundamental elements underpin this model: by substantially

reducing transaction costs, the internet makes it possible to collect small sums from a large pool of funders the crowd and the aggregation of many small contributions can result in considerable amounts of capital

the internet makes it possible to directly connect funders with those seeking funding, without an active intermediary and Crowdfunding platforms assume the role of facilitators of the match

• There is a total of 10 alternative finance model types

Crowdfunding model types

Peerš-to-šPeer ”Consumer” Lending

Individuals or institutional funders provide a loan to a consumer borrower

Peer-to-Peer Business Lending

Individuals or institutional funders provide a loan to a business borrower

Equity based Crowdfunding

Individuals or institutional funders purchase equity issued by a company

Reward based Crowdfunding

Backers provide finance to individuals projects or companies in exchange for non monetary rewards or products

InvoiceTrading Individuals or institutional funders purchase invoices or receivable notes from a business at a discount

Real Estate Crowdfunding

Donors provide funding to individuals projects or companies based on philanthropic or civic motivations with no expectation of monetary or material return

Donation based Crowdfunding

Individuals or institutional funders purchase debt based securities typically a bond or debenture at a fixed interest rate

Debt based Securities

The platform entity provides a loan directly to a business borrower

Balance Sheet Business Lending

Individuals or institutions purchase securities from a company such as shares or bonds and share in the profits or royalties of the business

Profit Sharing Crowdfunding

Individuals or institutional funders provide equity or subordinated debt financing for real estate

Definition

366€Mil

212€Mil

159€Mil

139€Mil

81€Mil

22€Mil

11€Mil

2€Mil

0,5€Mil

27€Mil

2015 Volume (Continental

Europe)

Source: Bruegel; KPMG & Cambridge University

43

Crowdfunding is progressively becoming more institutionalized, international and is increasingly attracting regulatory attention

• There are four main trends that characterize almost all domains of crowfunding: Institutionalization Iinternationalization Emergence of

secondary markets Increasing regulatory

attention

European crowdfunding main

trends

Institutionalization of crowdfunding

There is a growing trend toward the institutionalization of crowdfunding, notably in terms of the investors

Internationalization of crowdfunding platforms

The internationalization of crowdfunding platforms is another emerging trend, which is driven by the need to increase economies of scale and thus expand both the investor base and the pipeline of projects seeking funding

Emergence of secondary markets

Another trend is the emergence of organized secondary markets for securities or loans in crowdfunding projects, although this service is not provided systematically • One model entails the direct involvement of the crowdfunding platform. A

platform may provide an online bulletin board connecting investors who intend to sell their investments with potential buyers who are looking to invest in previously funded projects. Investors can offer or bid on securities and negotiate a price directly; once the sale is agreed, the security is transferred from investor account to another

• In another model, crowdfunding platforms may team up with existing marketplaces for unlisted companies and thus enable investors to buy and sell securities that had been offered through crowdfunding platforms.

Key trends


Increasing regulatory attention

Given the small scale of the market and its nature, the crowdfunding market is not considered as a significant potential risks to financial stability and it is currently still not highly regulated, however, given its growth is increasingly coming into the focus of regulatory attention • Risks may include: investors losing part or all of their capital or not getting the

returns they expect; dilution in the case of equity crowdfunding (if the company engages in further rounds of capital raising); inability to exit investments (e.g. for lack of a secondary market); insufficient information or inability to price correctly the securities invested in, or misinformation (both in the pre-investment phase and over the lifetime of the investment); conflict and misalignment of interests between issuers, platforms and investors and insolvency of the platform operators

44

Most funded sectors by crowdfunding model

Crowdfunding in Europe affects a wide variety of sectors

• Retail & wholesale, technology and manufacturing & engineering ranked as the three most represented sectors across the entire ecosystem – despite different model-specific industry ranking

Funded sectors

Peerš-to-šPeer ”Consumer” Lending

Peer-to-Peer Business Lending

Equity based Crowdfunding

Reward based Crowdfunding

InvoiceTrading

Real Estate Crowdfunding

Donation based Crowdfunding

Debt based Securities

Balance Sheet Business Lending

Profit Sharing Crowdfunding

Education & Research

Retail & Wholesale

Technology

Arts, Music and Design

Retail & Wholesale

Charity & Philanthropy

Retail & Wholesale

Retail & Wholesale

Environment & Clean-Tech

Real Estate & Housing

1st

Community & Social Enterprise

Manufacturing & Engineering


Film & Entertainment

Business & Professional Services

Health & Social Work

Energy & Mining

Agriculture

Business & Professional Services

Construction

2nd


Construction


Media & Publishing


Community & Social Enterprise

Agriculture

Food & Drink


3rd

Source: KPMG & Cambridge University

45

4.348

319

249

111 64 50 37 32 32 24 16 15 13 12 10 9 3

94

49

3527

6

29

5

30

29

16

6 5 7 8 61

The geographic distribution of European Crowdfunding platforms and market volumes

UK is the largest European market in terms of volume and number of platforms, followed by France and Germany

Source: KPMG & Cambridge University

(2015 -in €Mln)

Market volumes by countries

Geographic distribution of crowdfunding

platforms

(2015 - Number of platforms*)

• Uk is leader for number of crowdfunding platforms

• The geographic distribution of platforms in Europe, outside of the UK, shows the highest concentration of platforms in France (49), Germany (35), Italy (30), Spain (29) and the Netherlands (27)

• Uk is leader in terms of volume (4.348€Mil)

• The highest total market volumes, aside from the UK, occur in France (319€Mil), Germany (249€Mil), the Netherlands (111€Mil), Finland (64€Mil) and Spain (50€Mil)

•With respect to the top five volume-driving countries, Finland (in fourth place vis-àvis volume) ranked tenth with respect to platform distribution

• Similarly, Italy has a high number of platforms, yet ranked seventh in terms of total volume in 2015 (32€Mil)

46










Annexes

47

Peer-to-Peer (P2P) Lending and Marketplace Lending

P2P lending and Marketplace lending

•Peer-to-peer lending is the practice of lending money to individuals or businesses through online platform services that match lenders directly with borrowers More recently, institutions have begun investing in bundles of loans, prompting the sector to be named as Marketplace lending

•Borrowers are often able to gain access to funds quickly

•The loans issued are often comprised of many different investors ranging from individuals to institutional investors

•Since investors typically fund only a portion of a loan and spread the amount they loan across many buyers, investors can potentially receive steady, attractive returns while spreading risk across multiple borrowers

•Since the peer-to-peer lending companies offering these services operate entirely online, they can run with lower overhead and provide the service more cheaply than traditional financial institutions. As a result, lenders often earn higher returns compared to savings and investment products offered by banks

Source: Deloitte; U.S. Department of the Treasury

Key facts of Marketplace lending platforms

• They may provide supply into areas of the lending market where banks do not have the risk appetite to participate, such as high-risk retail borrowers

• They may offer a low-cost option for certain investors to gain direct exposure to new asset class

Key valuable functions performed by MPLs

• A one-time fee on funded loans from borrowers for providing the match-making platform and credit checking

• A loan servicing fee to investors or borrowers either a fixed amount annually or a percentage of the loan amount

• The majority of loans originated have been in the unsecured consumer credit market

• Other forms include student loans, student loans, small business term loans, equipment financing loans and lines of credit

Sources of revenues

Type of products offered

• Enabling borrowers to attract lenders and investors to identify and purchase loans that meet their investment criteria through an online investment platform

• Developing credit models for loan approvals and pricing • Performing borrower credit checks and filtering out the

unqualified borrowers • Processing payments from borrowers and forwarding those

payments to the lenders who invested in the loan • Servicing loans • Attempting to collect payments from borrowers who are

delinquent or in default • Offering legal compliance and reporting • Finding new lenders and borrowers (marketing)

Main services offered

• Key advantages offered by MPLs are: the use of digital channels the streamlined processing and the certainty of outcome for a

loan application enabled by a fast decision making process the sometimes the innovative risk scoring the absence of compliance costs of highly-regulated bank

intermediation

Key advantages

of MPLs

48

Marketplace lending offers different benefits and the industry is composed by many players

The Marketplace Landing key players

UK

UK

UK USA Germany Spain

Australia

Source: BI Intelligence; Deloitte; U.S. Department of the Treasury

Germany

Spain France Italy

USA UK

USA

USA

USA

USA

USA

USA

USA

USA

China

China

USA

USA

USA

USA

Sweden

UK

USA

USA

Germany Spain Estonia Finland UK

USA

USA

USA

USA

USA Canada Australia

USA

USA

European key players

Chinese key players

American key players

The benefits of marketplace lending

•Low Cost Operating Model: Marketplaces use technology and automation to reduce costs, and pass to investors as better returns

•Solid Returns for Investors: Marketplaces members provide potential investors with a lot of information about projected returns

•Greater Transparency: Marketplaces provide a level of transparency rarely seen in the financial system Investors are given access to loan-level data providing investors a detailed understanding of exactly what they are investing in Fixed income funds, for example, may typically

include data about the investment in aggregate, but not the on the underlying assets

•Enhanced Financial Stability: marketplaces may have thousands of different investors ranging from non-accredited investors to banks, pension funds, and more and this gives marketplaces a greater ability to withstand a single investor or type of investor ceasing to invest A balance sheet lender may instead be vulnerable to a liquidity crisis if a few important capital providers pull back,

Canada

The Netherlands

49

The model of traditional Banks differ from that of Marketplace lending platforms, but interactions are possible in many ways

Traditional bank model Vs Marketplace lending models Marketplace lending business models

There are three primary business models: •Marketplace lender (Europe MPLs model -

focus of this section) that enable retail borrowers and investors to contact each other directly and do not take deposits or lend themselves They take no risk onto their balance sheets

nor do they have an interest income, but rather generate income from fees and commissions received from borrowers and lenders/investors

•Direct lenders (USA MPLs model) that originate loans to hold in their own portfolios, commonly referred to as balance sheet lenders that are generally required to hold licenses Direct lenders generate the majority of their

revenue through interest income and fees earned on loans. Other fee income for direct lenders could include fees for servicing loans sold to third-parties

• Platform lenders (USA MPLs model) that partner with a Bank to originate loans and then purchase the loans for sale to investors as whole loans or by issuing securities the Bank originates loans to borrowers that

apply on the online platform. The loans are subsequently held by the Bank for 1/2 days, and then purchased by the platform lender or directly by an investor through the platform

platform lenders do not retain credit risk if the borrowers do not pay

Platform lenders often generate revenue through transaction fees from issuing depository institutions for matching borrowers and lenders, and servicing fees from investors

Platform lender

marketplace lending model (USA)

Direct lender

marketplace lending model (USA)

Marketplace lending model

(Europe)

Traditional bank

lending model

Depositor(s) Borrower(s) Bank

Saving(s)

Interest on saving(s)

Loans

Interest and loan

repayment(s)

Lender(s) Borrower(s) MPL

Loans

(Fees/Commissions) loan repayment(s)

Capital Source

(Venture Capital,

Hedge Fund, Banks,

Institutional Investors)

Borrower(s) MPL

Cash

Equity/ Warehouse

Line of credit

Loans

Interest and loan

repayment(s)

Investors, Banks,

Institutional Whole Loan

Buyers

Borrower(s)

Capital

Notes (public) MPL

Bank

Certificates (public)

Loans (private)

Loan

Service fee based on the amount of loans issued Interest & loan

repayment(s)

Fees for matching borrowers & lenders

Loan


50

Implicit riskiness

Traditional bank Marketplace lending model (Europe)

• Banks act as an intermediary between savers and borrowers. They pay interest on deposits and lend money to consumers and businesses

• They generate income by taking risk onto their balance sheets and managing spreads between the interest banks charge on loans and that paid on savings

• This risk-taking requires them to hold capital to absorb potential losses

• Depositors have limited control or visibility over how their money is used

• Banks engage in maturity transformation as the deposits are typically shorter term than the loans, creating a need for a liquidity buffer

Financial Institution and a European Marketplace lenders differ in many aspects

Depositor(s) Borrower(s) Bank

Saving(s)

Interest on saving(s)

Loans

Interest and loan repayment(s)

Lender(s) Borrower(s) MPL

Loans

(Fees/Commissions) loan repayment(s)

Source: Deloitte

• The lender's investment in the loan is not normally protected by any government guarantee On some services, lenders mitigate the risk of bad debt by

choosing which borrowers to lend to, and mitigate total risk by diversifying their investments among different borrowers

Other models involve the P2P lending company maintaining a separate which pays lenders back in the event the borrower defaults

Business model

•Marketplace lenders directly match lenders with borrowers via online platforms

•MPLs do not take deposits or lend themselves • They take no risk onto their own balance sheets, and they

receive no interest income directly from borrowers they do not lend themselves, so they do not earn interest

and do not need to hold capital to absorb any losses • They make money from fees and commissions from borrowers

and lenders they generate income from fees and commissions generated

by matching borrowers with lenders •MPLs use traditional, bank-like, credit-scoring approaches,

and publicise these credit risk scores •MPLs offer transparency and control to lenders, such as

through disclosure on recipients of funds lent out • Generally there is no maturity transformation involved

• Depositors money are protected by a government guarantee up to 100.000€ in Continental Europe and 75.000£ in the UK

Regulations •MPLs were subject to little or no regulation • Highly regulated Institutions

51

Rational of MPL model as Asset class

MPLs are seen by Institutional Investors more and more frequently as an asset class with high absolute returns and low correlations to other assets

• Lending money via an MPL is considered much riskier and not comparable to depositing money with a bank since lender's investment in the loan is not normally protected by any government guarantee

Source: Deloitte

Lending to MPLs vs lending to

Banks

• Capital provided to MPLs is more likely to be deflected from Fixed Income or Equity investments rather than from bank deposits

Origin of capital provided to

MPLs

• They can provide higher yields than many other fixed-income assets (adjusted for duration and risk) Marketplace lending is a small sub-set

of the alternative lending asset class, but it offers competitive annualized yields (non-risk-adjusted) of 5-7%

• They are less correlated to other assets MPLs’ annual risk-adjusted returns are

competitive with equities. Specifically, while direct lending has underperformed the S&P 500 index over the past 20 years, it has not had any negative return years and has been much less volatile

• Compared to stock markets, peer-to-peer lending tends to have both less volatility and less liquidity

• Potential diversification benefit from gaining access to a new asset class

Key MPLs benefits

for Lenders

• Ability to choose to whom they lend and the sheer transparency arising from the rich data that such platforms make available

• Ability to choose the level of risk they take on and the return they can receive

• Ability to minimize risk through diversification by splitting invested money into smaller tranches and lending it out to several borrowers

• Simple investment process with some platforms enabling investment in less than ten minutes

Intrinsic qualities

of the MPL model that

attract Lenders

• Given the high absolute returns as well as claims of low correlations to other assets, Institutional Investors (Hedge Funds and Traditional Asset Managers) are increasingly attracted to marketplace and they are: lending lending directly

through MPL platforms investing in investment

trusts that lend through these platforms

investing in outstanding marketplace loans

purchasing equity in MPLs investing in rated

marketplace loan-backed securities (in the US)

Institutional Investors activity toward MPLs

52

Banks can interact with Marketplace lenders in many ways

Options available

Interactions between Financial Institutions and

Marketplace lenders

• In Europe the interactions between traditional financial institutions and online marketplace lenders can take the following form: investment and

related activity distribution

partnerships • In the USA there is

also a third option: the interaction in

terms of business model

Business models

(In the USA only)

Online marketplace lenders can have agreements with issuing Financial Institutions to originate loans sourced through the online marketplace lender • Example in the Direct Lender Model: Barclays and Macquarie with CommonBond • Example in the Platform Lender Model: WebBank with Avant

Investment and related

activity

Financial institutions can act as: • equity investors providing capital to online marketplace lenders in exchange for equity

Example: Wells Fargo with Lending Club • debt investors purchasing purchase whole loans to hold as assets

Example: Citizens Bank withSoFi • servicer during securitization transactions (as trustee), back-up servicer, custodian or investor

Example of Securitization Trustee: U.S.Bank with SoFi Example of Securitization Backup Servicer: Citibank with Prosper

Distribution Partnerships

Marketplaces are seen as complementary in certain market segments and Traditional Financial Institutions may partner with with them to expand access to credit for borrowers and reach new customers, to offer new products and to improve the borrower experience These partnerships can be developed through:

• Referral Partnerships: Customers unable to meet certain underwriting criteria or seeking products not offered by their financial institution, are directed to an online marketplace lender

• The partnership allows the financial institutions to maintain customer relationships and the online marketplace lender to increase originations for loans that might otherwise be uneconomical for the bank to make

• Example of Referral Partnerships: RBS and Santander UK refer to Funding Circle; BBVA Compass arranged to refer customers unable to receive small business loans to OnDeck

• Co-branded or white label partnerships: Financial institutions contract with online marketplace lenders to integrate technology services. Online marketplace lenders provide operational technology services and can be contracted to handle the entire loan process on either the online marketplace lender’s (co-branded partnership) or the financial institution’s website (white label partnership). Loans are originated by the financial institution, not by the online marketplace lender, and reflect the underwriting standards of the financial institution

• Example of white label partnership: JPMorgan Chase partnered with OnDeck to offer small business loans to its customers. The small business owner does not interact with OnDeck and all loans are made by the commercial bank and held on the bank’s balance sheet

Example of co-branded partnership: Prosper and Radius Bank partnered to offer Radius customers the option to apply for co-branded consumer loans on the Prosper online platform

Source: Deloitte; U.S. Department Treasury

53

13 39 99 429

1.198

2.238

66 66 154 334

705

1.534

79 105 253

763

1.903

3.772

2010 2011 2012 2013 2014 2015

MPL Business Lending MPL Consumer Lending

6 6 3 9 5412623 26 62

165

284

543

29 3265

174

338

669

2010 2011 2012 2013 2014 2015

MPL Business Lending MPL Consumer Lending

Marketplace lending loan volumes in the UK and in continental Europe

Consumer and business Marketplace lending markets are developed in the UK, but not yet in continental European

• In the UK the consumer and business lending markets are well developed

• In continental European markets have not benefitted from the same government support or regulatory approach as their counterparts in the UK Currently, there is no pan-European regulation

that specifically covers marketplace lending and MPLs are subject to regulation at a national level Some member states have introduced specific

regulation covering aspects such as disclosure, due diligence and the assessment of creditworthiness

• A deeper-rooted cultural aversion to risk than in the UK may also have constrained growth in continental European

• There is an emerging trend for European MPLs to partner with banks: joint partnership between Sparda-Bank Berlin

and Zencap (now Funding Circle Germany) in which the bank provides its clients with the MPL platform’s business loans as an option

Aegon, the Dutch insurer, lends through the German consumer MPL, Auxmoney

• Despite differences between national regulatory frameworks in Europe, a number of MPLs have sought to expand or consolidate across borders in an attempt to achieve the volume required to scale their businesses : French consumer MPL Younited (ex Prêt

d'Union), the largest player in the French market, has expanded into Italy and in Spain

UK MPLs Funding Circle has expanded in Germany, Spain and the Netherlands

Source: Deloitte; Iberum AltFi

UK MPL annual loan volumes, €Mil*, 2010 – 2015

European MPL annual loan volumes (excluding the UK), €Mil, 2010 – 2015

Marketplace lending in the UK and in continental Europe

CAGR 2010-15: 87,4%

CAGR 2010-15: 180,8%

CAGR 2010-15: 83,8%

CAGR 2010-15: 88,2%

54

Loan operatingexpenses

Depositsoperatingexpenses

Fundingcosts

Loanlosses

Fees,commissions

and other income

Total –Unsecured

personal loan

Operatingexpenses

attributable toborrowers

Operating expenses

attributable tolenders

Loan fundingcosts (ie. return

to lenders)

Platformfunding costs

Total – Unsecuredpersonal loan

Bank loans, % of loan amount (bps) MPL loans, % of loan amount (bps)

215bps

270bps

-85bps

200bps

200bps

800bps

180bps

90bps

500bps 45bps 815bps

270

50

60

90

Costs of funding an unsecured personal

loan

Equity

Wholesale

Deposits

Deposits processing costs

90

45

500

Costs of funding an unsecured personal

loan

Returns to lenders

Returns to platform investors

Operating expenses attributed

to lenders

50

115

50

Operating expenses of an unsecured

personal loan

Loan collections and

recovery costs

Loan processing and

servicing costs

470bps 215bps 180bps 635bps

In today’s credit environment, the cost profiles of Banks and European MPLs are roughly equal, meaning neither has a material pricing advantage

The economics of Banks unsecured personal loans The economics of MPLs unsecured personal loans

Source: Deloitte

• Funding costs: For banks and MPLs alike, funding costs are a major component of a loan’s total cost profile For an MPL to make a loan, it must attract lenders offering returns that outweigh the risks that lenders are prepared to take on. It will also

incur marketing costs, lender processing and servicing costs, other non-interest expenses and pay a return to its own investors The true cost of attracting the funds to the bank must take account of these non interest-based costs of gathering deposits

The costs of loan-making for a Bank include the direct costs of funding (to make a loan, it must first attract deposits, wholesale funding and equity onto its balance sheet) and liquidity (must maintain liquidity reserves to meet the needs of its customers). Furthermore, attracting and retaining deposits involves more than just paying interest: banks must also provide payment and processing services; most must also run a branch network; and they will incur significant regulatory and marketing costs and other non-interest expenses

•Operating expenses of MPLs are most commonly compared with those of banks •Other costs/incomes: Banks also price also counterparts credit risk and generate services fees

55

270 270

50 70

6065

90125

Current creditenvironment

Normalised creditenvironment

Equity

Wholesale

Deposits

Deposits processing costs

90 90

45 55

500

650

Current creditenvironment

Normalised creditenvironment

Returns to lenders

Returns to platform investors

Operating expenses attributed to lenders

Breakdown of the costs of funding of unsecured personal loans: MPLs vs Banks

Banks have a structural cost advantage over European MPLs in terms of cost of funding and this advantage will widen if the credit environment normalizes

• The total funding costs for banks are lower than for MPLs Banks are able to

borrow very cheaply – taking deposits gives them inexpensive access to funding

• The noninterest component of an MPL’s funding profile is proportionately lower than it is for a bank

Source: Deloitte

Banks costs of funding an unsecured personal loan: current and normalized credit environments

(in bps)

The costs of Funding : MPLs vs

Banks

•MPLs costs will rise by more than banks as the credit environment normalizes and interest rates increase

Forecast

MPLs costs of funding an unsecured personal loan: current and normalized credit environments

(in bps)

470bps

530bps

635bps

795bps

• Banks will have a structural cost advantage over MPLs if and when the credit environment normalizes

Consequences Non

interest rate

sensitive

Non interest

rate sensitive

Interest rate

sensitive

Interest rate

sensitive

56

Lending-based d Crowdfunding key regulatory frameworks in a selection of EU member states


Bespoke regime

Scope

Authorization

Minimum capital

requirements

Portugal

• Consumer-to-businesses; Businesses-to-business. Funds must be collected for funding entities or their projects and activities.

UK

• Consumer-to-Consumer; Business to consumer; Consumer-to –Business; Business-to-business if the borrower is a sole trader or a partnership consisting of two or three persons or an unincorporated body of persons and the loan amount does not exceed £25.000

France

• Consumers-to- Businesses; Business-to-business; Consumer-to-consumer (only if loan application for educational project)

Spain

• Consumer-to- Business; Business-to Business; consumer-to-consumer

• Loans can be solicited for a business, education or consumer project

• Yes • Yes • Yes • Yes

• Authorisation by the CMVM

• Authorisation by FCA. Platforms may also need other permissions, depending upon the activities they undertake

• Registration with ORIAS • Platforms regulated by the

ACPR and supervised by the DGCCRF for consumer protection purposes

• Authorisation and registration with CNMV after mandatory and binding opinion from Bank of Spain

• €50.000 or liability insurance up to such amount

• €50.000 or a percentage of loaned funds – whichever is higher

• None (but have to take professional indemnity insurance)

• €60.000 or a professional liability insurance or a combination of both

• If funds that are raised exceed €2Mil, minimum equity is €120k

Size of loans

• €1Mil per year and per project • €5Mil if the offer is limited to

professional

• No maximum • €1Mil per year per project (duration up to 7 years)

• €2Mil per project, per platform, in a given year

• €5Mil, if the offer is limited to accredited investors

Maximum investable amounts

• €3.000 per project and a total of €10.000/Year. The limit does not apply to legal persons and professional investors

• No maximum • up to €1.000 per project if financing is in the form of a loan with interest and up to €4.000 per project for an interest free loan

• Non -accredited investors: €3.000 per project and €10.000 max a year

• Accredited investors: no limit

Disclosure to investors by

borrower

• Issuer must prepare a document called "Key information for investors in crowdfunding investment"

• Full protections required by the Credit Consumer Act and FCA rules apply for non consumer borrowers

• For consumer borrowers communications by the platform must meet FCA requirements

• Disclosure requirements imposed on the platform

• Description of project seeking funding and borrowers’ main features

57

Source: Personal analysis, Deloitte

MPLs vs. Traditional Banks


The key battleground for Marketplace lenders to drive down the cost of customer acquisition and expanding distribution is represented by partnerships

Bank

MPLs

•MPLs are likely to find a series of profitable niches to exploit, such as borrowing which falls outside banks risk appetite and segments that value speed enough to pay a premium

• The cost of acquiring customers remains high and finding borrowers is often more difficult than securing lenders and, consequently, partnerships with banks, credit card lenders, or tech firms will be important in increasing customer awareness and ensuring platforms grow

Today partnerships are key for MPLs

• Banks will probably continue to have more to gain than to lose from implementing a strategy of effective collaboration and partnering with MPLs They may also benefit from adopting some of MPLs best practices,

particularly those around customer experience or utilizing elements of the MPL model to expand geographically without bearing the distribution and regulatory costs of the traditional bank model

•MPLs will represent a threat to Bank only if they will be able to expand their offering to include ancillary services such as cash-flow tools and business advice, for which customers would be willing to pay a premium

Expectations: partnerships are key

58

Main short-term collaboration options

Bank in-sourcing of Marketplace

lenders Capability

European Financial Institutions have two main tactical collaboration options with Marketplace lenders

• A bank-branded, on balance sheet lending service (i.e. consistent with current banking model)

• Involves sourcing elements of the lending value chain, such as: acquisition origination underwriting servicing

Option description Benefits

• Delivers benefits of superior MPL Customer Experience capability and OpEx efficiency quickly and with limited investment

•Maintains customer relationship and grows balance sheet

• Provides deeper learning opportunity than less integrated options

Example in the market

• JP Morgan Chase provides loans to its SME customers using OnDeck’s platform

• OnDeck provides origination, underwriting and servicing

• Platform is externally branded Chase

• Funds come from JP Morgan Chase’s balance sheet

• Prosper & Radius Bank

Challenges

•Maintaining appropriate level of control and oversight without undermining competitiveness of insourced capability

• Adjusting internal processes and policies to enable full benefits of new capabilities to be realised

• Financial strength/ viability of supplier MPL

Option adapt for

• Banks already in the market, with strong demand and available funds but which are hampered by legacy tech/processes and want to improve efficiency and cost effectiveness

• An enabler for smaller banks with limited customer acquisition and/or limited capability to underwrite

Bank borrowers referral to

Marketplace lenders

• Referring less profitable customers or customers outside of the bank’s risk appetite to an MPL platform

• Improves RWA while maintaining customer relationship

• Involves possibility of bank receiving referral fees from MPL

• Allows banks to provide an option to under-served segments

• Enables any regulatory requirements to be met, such as referral legislation

• RBS and Santander UK refer SME customers rejected for a loan to Funding Circle

• BBVA Compass arranged to refer customers unable to receive small business loans to OnDeck

• No immediate income, if referral fees are opted out

• Responsible-lending issues may arise from economic interests

• Banks with a large number of loan applications which they are unable to serve


59










Annexes

60

Benefits and risks of using an equity platform

Equity crowdfunding platforms facilitate subscriptions for new shares and allow the crowd to become shareholders

• Equity-based crowdfunding refers to a situation in which, through on-line investments, a stake in a company is bought In such cases, the

remuneration for the funding is represented by all the economic and administrative rights which derive from holding shares in the company

• Equity crowdfunding is the most complex among crowdfunding platforms From a legal standpoint,

the funder buys a stake in the company, the value of which must be estimated

The level of uncertainty is greater compared to other platforms models because it concerns the entrepreneur’s ability to generate equity value in the company, which is extremely difficult to assess

• The investment platforms are subject to securities and/or consumer credit legislation

Source: Bruegel; Foot Anstey

Equity crowdfunding

Company

Investors

• Access to the crowd and its capital

• Companies set their own valuation (often unrealistically high)

• Generates PR through marketing the fundraising on the platform to the crowd

Benefits Risks

• Regulatory status is still somewhat unclear and likely to change/ evolve

• Marketing on the platform may involve a wide distribution of confidential information

• Appetite for VCs to invest in crowd funded businesses is unclear

• Unclear what proportion of the crowd genuinely understands the risks

• Opportunity to invest in a wide variety of businesses at an early stage

• Risk can be spread across a diversified portfolio

• Being one of the crowd may mean that due diligence is effectively crowdsourced

• Returns on the equity platforms have the potential to greatly exceed those on the debt platforms and also on the public equity capital markets

• Investments are high risk. The likely success and long term returns of crowd funded investments are largely unknown

• Levels of due diligence carried out may be unclear and following the crowd is no guarantee that any financial or legal due diligence has taken place

• As with all investments into early stage private companies: The investment is highly

illiquid and the investor is unlikely to see any dividends for the short to medium term

There is no formal secondary market for the shares

As minority shareholders, investors will have no influence on the management of the company and very little protection generally

• Equity crowdfunding is receiving attention from policymakers as a potential source of funds for start-ups, a segment of the economy that has limited access to finance Young firms have no track

record and often lack assets to be used as guarantees for bank loans

Policymakers attention

• Traditionally there have been three sources of equity funding for young innovative firms: The most common source of

funding for new ventures is the founders’ own capital

Angel investors are experienced entrepreneurs or business people that choose to invest their own funds into a new venture

Venture capital is considered “professional” equity, in the form of a fund run by general partners, and aims at investments in firms in early to expansion stages The source of capital pooled

into venture capital funds is predominately institutional investors

Traditional sources of equity funding

61

Key characteristics of equity crowdfunders, business angels and venture capitalists

Equity crowdfunders have more in common with business angels than not with venture capitalists

Source: Bruegel

Background

Investment approach

Investment stage

Investment instruments

Deal flow

Due diligence

Geographic proximity of investments

Post investment

role

ROI and motivations

for investment

Equity crowdfunders Business angels Venture capitalists

• Investing own money

• Many different backgrounds, many have no investment experience

• Former entrepreneurs

• Investing own money

• Finance, consulting, some from industry

• Managing a fund and/or investing other people’s money

• Seed and early stage • Seed and early stage

• Range of seed, early-stage and later-stage but increasingly later-stage

• Common shares • Common shares (often due regulatory restrictions)

• Preferred shares

• Through web platform • Through social networks and/or angel groups/networks

• Through social networks as well as proactive outreach

• Conducted by individual, if at all, and sometimes by the platform

• Conducted by angel investors based on their own experience

• Conducted by staff in VC firm sometimes with the assistance of outside firms (law firms, etc.)

• Investments made online: most investors are quite distant from the venture

• Most investments are local (within a few hours’ drive)

• Invest nationally and increasingly internationally with local partners

• Depends on the individual investor, but most remain passive. Some platforms represent the interests of the crowd

• Active, hands-on • Board seat, strategic

• Financial return important but not the only reason for investing

• Financial return important but not the main reason for angel investing

• Financial return critical. The VC fund must provide decent returns to existing investors to enable them to raise a new fund (and therefore stay in business)

• Equity crowdfunding mostly operates in the financing segment covered by angel investors that is that of early-stage investments Venture capital firms are focused more on

later-stage investments • Equity crowdfunding differ from Angel

investors and venture capital firms since it is generally limited to the provision of finance, while the others are actively involved in monitoring the companies in which they invest and often provide critical resources such as industry expertise and network of contacts

• Equity crowdfunding and angel investors have in common the fact that financial return is not the sole motive for an investment social and emotional benefits can be other

rationales for financing a company • Unlike venture capital and angel investment,

equity crowdfunding requires entrepreneurs to publicly disclose their business idea and strategy crowdfunding might be most beneficial for

start-ups that can protect their intellectual capital

• Angel investors are typically high net worth individuals who are sophisticated investors, while crowdinvestors are individuals that might or might not have experience

•While angel investors tend to invest locally, crowdinvestors might invest in start-ups that are quite distant and crowdfunding can improve the efficiency of the market by enabling faster and better investor-company matches

Equity crowdfunders vs business angels and venture capitalists

62

Equity crowdfunding departs from the models of traditional angel investors and venture capital firms because of online platform intermediation and different form of remuneration

• Some platforms play a more active role in screening and evaluating companies than others

• Also, their role during the investment and post-investment stages can vary dramatically

Source: Bruegel

Equity crowdfunding activities

The equity crowdfunding process

Entrepreneur Crowdinvestors Platform

Submits application

Shares online all relevant

information

Finds new sources of

capital

Screens applications

Assess company

and decide on funding

Sell shares to Crowdinvestors new investors

Posts pitch online

Performs more vetting and releases

funds

Mentors and monitors the

company

Can participate

and monitor the company

Selection and valuation

Investment

Post-investiment

Exit

• Equity crowdfunding platforms generally follow the phases described here

• Platforms usually charge companies a fee, typically 5-10% of the amount raised, plus sometimes a fixed up-front fee

• Some platforms also charge fees to investors that are either fixed or a percentage of the amount invested or a percentage of the profit for investment

• Fees and commission received vary among players. Exeample of key players are: Crowdcube charges

entrepreneurs 5% plus a 1.750£ fee for successful fund raising

Symbid charges entrepreneurs a 250€ registration fee plus 5% of the amount raised and charges investors 2,5% of the amount invested

Seedrs charges entrepreneurs 7,5% of the amounts raised and charges investors 7,5% of the profits from the investment

Equity crowdfunding platform remuneration

63

• Uk is leader within Europe in terms of volume followed by France, Germany, the Netherlands, Italy and Spain

33,010,0 17,3 6,2 4,3 0 6,2 0,4

104,2

19,0 29,811,2 5,6

0,510,5

2,6

337,4

75,0

23,716,6 12,7

5,45,3

7,7

UK France Germany The Netherlands The Nordics* Italy Spain CEE Countries**

2013 2014 2015

77,4

183,4

483,8

2013 2014 2015

Market volume of equity crowdfunding in Europe

European equity crowdfunding market is growing fast but it is small in absolute terms and key players are mostly in the USA and UK

Source: KPMG & Cambridge University * Norway, Sweden, Finland and Iceland ** Albania, Armenia, Austria, Belarus, Bosnia & Herzegovina, Bulgaria, Croatia, Czech Republic, Estonia, Georgia, Hungary, Kosovo, Latvia, Lithuania, Macedonia, Moldova, Montenegro, Poland, Romania, Serbia, Slovakia, Slovenia and Ukraine

(in €Mln)

(in €Mln)

• European equity crowdfunding is still relatively small, but is growing fast

Cagr 2013-15

150%

Cagr 2013-15

339% 72% 64% 17%

174%

220%

-8% N.A.

The Netherlands

Germany

USA

USA

USA

USA

USA

USA

USA Austria

USA

USA

UK

UK

UK USA Portugal

USA

USA

Equity crowdfunding key players

European key players

American and other countries key players

Israel USA Australia

64

UK main Crowdfunding models

• The two principal equity platforms in the UK, CrowdCube and Seedrs, have taken radically different structural approaches

Crowdfunding models

No-nominee structure

(CrowdCube model)

• Under this model the crowd invest directly into the company which in return issues new shares

Nominee structure (Seedrs model)

• Under this model a nominee company collect in the funds and issue shares in itself to the investors; and that nominee company then invests in the company seeking finance, which in turn issues shares to the nominee

Source: Foot Anstey

Company

Investors

Advantages

• Each investor is a shareholder in the company (with very limited minority protections)

• Each investor is a party to the shareholders' agreement (if there is one)

Disadvantages

• The (limited) rights of the crowd are not consolidated in hands of a nominee

• Potentially hundreds of shareholders are on the cap table and sign the shareholders' agreement

• Company deals with most of the paperwork

• Each investor is a shareholder in the company (with very limited minority protections)

• Each investor is a party to the shareholders' agreement (if there is one)

Company

Investors

Advantages

• Administrative efficiency.

Nominee takes decisions for the investors

• Rights of the crowd consolidated in the hands of the nominee, giving the crowd more bargaining power

Disadvantages

• Single name (the nominee) on the cap table

• The nominee should be able to make decisions more quickly than the crowd

• Arguably more attractive to a VC

• Nominee takes care of much of investment paperwork

• Rights of the crowd consolidated in the hands of the nominee, giving the crowd more bargaining power

• Not a party to the shareholders' agreement (at company level)

• Nominee will be able to take certain decisions on behalf of the crowd by way of majority decision (but the investor may be in the minority)

Equity crowdfunding UK market leaders have organized themselves in two very different ways

65

Investment-based Crowdfunding key regulatory frameworks in a selection of EU member states


Bespoke regime

Scope

Italy

• Equity

UK

• Securities and lending

France

• Ordinary shares and plain vanilla fixed rate bonds.

Spain

• Securities and lending

Germany

• Profit-participating loans, subordinated loans, or other investment products

Portugal

• Yes

• Financ. Instruments granting rights to share capital, a share in dividends or a stake in profit, lending, reward & donation

• Yes • Yes • Yes • Yes • Yes

Authorization

• Authorization by Consob

• Authorization by FCA

• Authorization by AMF

• Authorization and registration by the National Securities Market Commission (CNMV)

• Authorization by the Banking Act or by the Trade, Commerce and Industry Regul. Act

• Authorisation by the CMVM

Minimum capital

requirements

• None • CRD IV minimum capital requirements. The minimum requirement is own funds of €50.000

• None for non-MiFID platforms

• For MiFID platforms: Depending on the MiFID investment services and activities

• €60.000 or a professional liability insurance or a combination of both

• If funds that are raised exceed €2Mil, minimum equity is €120k

• For MIFID platforms: based on investment services and activities

• For platforms with a commercial license: professional liability insurance

• €50,000 or liability insurance up to such amount

Size of offer (limitations or

prospectus requirement)

• Lower than €5 million

• Lower than €5 million

• €2 million per project, per platform, in a given year. €5 million, if the offer is limited to accredited investors

• Exemption from the full prospectus requirement for offers of profit-participating loans, subordinated loans or other investment products below €2.5 million

• €1Mil/Year and per project

• €5 million if the offer is limited to professional (i.e. person with an annual income above €100.000)/legal persons only

• €1 million per year per project

Maximum investable amounts

• €3.000 per project and a tot of €10K/year. This limit does not apply to legal persons and professional invest.

• Non-accredited investors: €3.000 per project and max €10K/Year

• Accredited investors: no limit

• No restriction • For Retail investors not to invest more than 10% of their net investable assets

• No limits • Exemption from

appropriateness test €500 per order and €1.000 in annual tot orders or for legal persons: €5,000 per order and €10.000 in annual tot orders

• No limits for corporate entities

• Up to €10,000 in an issue for retail investors

66


Equity crowdfunding vs. Traditional Banks


Equity crowdfunding does not represent a treat for banks

Bank

Equity crowdfunding

67










Annexes

68

Source: PWC, Thomson Reuter

Wealth Management competitive landscape

Keys

Traditional

Wealth management competitive landscape

UHNW

HNW

Mass Affluents

Mass Market

(25Mil$)

(25Mil$-1Mil$)

(1Mil$-100K$)

(<100K$)

CLIENT SEGMENTS

Fully delegated Assisted Self directed

Financial planning

tools Portfolio analytic

tools

Online directs

Virtual Financial Advisors

Robo Advisors

Registered Investment

Advisers

Private banks/ Trust Traditional

full service firm

Specialized channel-based

Automated

INVESTMENT INDEPENDENCE

(23,5Mil€)

(23,5Mil€-940K€)

(940K€-94K$)

(<94K$)

Registered Investment Advisers: Individuals or firms that receive compensation for giving advice on investing in securities such as stocks, bonds, mutual funds, or exchange traded funds. It is also common for investment advisers to manage portfolios of securities Virtual Financial Advisors: They offer their services to clients on the internet. They provide investment management services, income tax preparation and estate planning Robo Advisors: They provide automated, algorithm-based portfolio management advice without human financial planners or advisors, and with a best in class customer experience Portfolio analytic tools & Financial planning tools: platforms that aggregate financial information and assist with planning and investment modeling, delivering results through interactive dashboards

RIA

69










Annexes

70

A RoboAdvisor is an algorithm-based software offering computer-generated investment recommendations with a vast potential market and lack of a specific regulation

• RoboAdvisers services: are digitalizing and automating client

onboarding, investor risk profiling, and investment allocation through algorithm-based assessment , providing online investors with on-demand access to financial advice

empower the investor with the offer of full transparency and greater efficiency combined with significantly lower costs

are targeting a broader customer base, including mass affluent and retail investors, and are continuously lowering the minimum amounts of funds required

are leveraging online and mobile channels to interact with customers 24/7, providing access to financial information on demand and delivering added-value services anytime and anywhere

widely use Exchange- Traded Funds (ETFs) for asset allocation in order to benefit from low fees and diversification include automated rebalancing and tax harvesting

fees are generally less than 1% of the amount invested, which is considerably less than the costs for traditional asset management and advisory services

• Key characteristics of the robo advisory market include accessibility, convenience, transparency and control, in addition to a personalized service at low cost, which implies having a large customer/ AUM base to generate profit

Source: PWC, Deloitte, Inside magazine, E&Y, Capgemini, Deutsche Bank

RoboAdvisers

As the RoboAdvisory market rapidly grows and as the currently rather standardized Robo services become increasingly complex, the Regulatory and Supervisory requirements will become increasingly stricter

• In the United States, individuals or firms who

receive compensation for giving advice on investing in securities are deemed to be investment advisers and must be registered investment advisers (RIA) with the Securities and Exchange Commission or an individual US state’s securities agency.

• Similar rules are in force in the United Kingdom (FCA authorization), France (AMF registration), Luxembourg (CSSF authorization and supervision), and other European locations where the MiFID obligations apply (in addition to compliance and internal audit provisions requiring firms to act in the best interests of the customer and to assess investment suitability), as well as other country-specific regulations depending on the investor’s country of residence There are different regulations which are not

directly related to Robo Advisory that can be entirely or partially applicable: MiFID (Markets in Financial Instruments Directive), MiFID II MiFID II seeks to increase investor

protection by imposing greater transparency, especially with respect to inducement, which now has to be justified

• The European Securities and Market Authorities (ESMA) recognized the lack of a specific regulation for electronic investment services

RoboAdvisers regulatory framework

• The future potential of this new market is vast: By 2017, it is expected taht HNWIs

alone to be willing to allocate assets amounting to an estimated US$7,3 trillion to automated advisor models, whether offered by traditional or new providers

The market potential grows to between US$16.6 and US$21.2 trillion when mass affluent individuals are taken into account, and 3 to 4 times if we consider all the wealth segments

RoboAdvisers potential market

7,3 7,3

9,313,9

5,3

8,0

Minimum total market

potential

Maximum total market

potential

RoboAdvisors potential for HNWI market potential

RoboAdvisors potential for Mass Affluent Individuals

RoboAdvisors potential for remaining Wealth segments

Global Estimated Potential Market for RoboAdvisory 2017F

(Potential AUM in US$ Trillion)

21,9

29,2

71

The RoboAdvisor process differ from that of traditional wealth advising

Source: Finra, Deloitte, Inside magazine

Traditional wealth advising process

• Prospects go online to define their profile: some financial planning elements are requested from investors to define an initial investment amount, regular payments and investment horizon, to assess their risk profile and field knowledge

• The client's risk appetite, financial situation and investment preferences are used to configure investment and portfolio strategies with the aid of diversified financial market products

Functions typical of financial

professional and RoboAdvisros (client-facing

digital investment advice tools)

Functionally typical in financial

professional-facing tools only

• Based on this risk profile, a proprietary algorithm is run, based on MPT investment and diversification rules, to define the best-suited, personalized allocation (including diversification) to minimize risk and maximize performance

• The resulting investment recommendation is displayed online, on demand, for the future clients to visualize the potential gains and losses of the proposal, offering an on/off-track visual of their savings/investment objectives, as well as a more or less detailed composition of the proposed portfolio with exposure levels and target underlying securities

• The empowered investor can then accept and proceed with an online fund transfer/ account opening. The robo adviser will provide discretionary management services

• The majority of funds will be invested in low-expense ETFs also enabling diversification Exchange Traded Funds, known as ETFs are index trackers that allow clients to

participate (via their investments) in the developments of numerous companies and sectors as well as the bond markets

• The RoboAdvisory provides regular rebalancing proposals and such services may also trigger additional fees

• Innovation further came with tax-related functionalities with the aim of optimizing tax payments

Customer profiling

Asset allocation

Portfolio selection

Trade execution

Portfolio rebalancing

Tax-loss harvesting

Portfolio analysis

Customer profiling

Asset allocation

Portfolio selection

Trade execution

Portfolio rebalancing

Tax-loss harvesting

RoboAdvisers process

72

The core activities of RoboAdvisor are customer profiling, the governance and supervision of portfolios and conflicts of interest and rebalancing

Source: Finra

Effective practices for customer profiling include: • identifying the key elements of

information necessary to profile a customer accurately

• assessing both a customers’ risk capacity and risk willingness

• resolving contradictory or inconsistent responses in a customer profiling questionnaire

• assessing whether investing (as opposed to saving or paying off debt) is appropriate for an individual

• contacting customers periodically to determine if their profile has changed

• Customer profiling functionality is a critical component of digital advice tools because it drives recommendations to customers

This mechanism would: • determine the characteristics - e.g.,

return, diversification, credit risk and liquidity risk - of a portfolio for a given investor profile

• select the securities that are appropriate for each portfolio (or if this is done by an algorithm, oversee the development and implementation of that algorithm as discussed above)

•monitor pre-packaged portfolios to assess whether their performance and risk characteristics, such as volatility, are appropriate for the type of investors to which they are offered

• identify and mitigate conflicts of interest that may result from including particular securities in a portfolio

• An effective practice for firms is to establish governance and supervisory mechanisms for the portfolios that a firm’s digital investment advice tool may propose

Customer Profiling

Governance and Supervision of Portfolios and Conflicts of Interest

Rebalancing

Effective practices for automatic rebalancing include: • explicitly establishing customer intent that

the automatic rebalancing should occur • apprising the customer of the potential cost

and tax implications of the rebalancing • disclosing to customers how the

rebalancing works, including if the firm uses drift thresholds, disclosing

what the thresholds are and whether the thresholds vary by asset class

if rebalancing is scheduled, disclosing whether rebalancing occurs monthly, quarterly or annually

• developing policies and procedures that define how the tool will act in the event of a major market movement

• developing methods that minimize the tax impact of rebalancing

• Rebalancing functionality is an additional critical component of digital advice tools because necessary to maintain a target asset allocation over time

Core activities of the RoboAdvisory advise process

73

There are three types of RoboAdvisors models and one where Robo Advisory platforms are used only as a tool

Process flow for the four primary RoboAdvisors business models

The four primary business models

• Pure Robo Advisory Model is a stand alone legal entity characterized with a high degree of independence. The accounts are created in a bank chosen by the Robo Advisor or by the client. The Robo Advisory firm is in charge of client profiling, portfolio construction and maintenance (in terms of periodic rebalancing) and the clients sign an investment advice and transmission of orders in execution only regime agreement. Policies such as privacy, suitability, systems and risk control need to be defined by the Robo Advisor itself

• Segregated Robo Advisor in a banking Group but not integrated. In this case the main issue concerns the level of independence of the Robo Advisor investors since the bank may or may not hold distribution agreements with the product manufacturer

• Integrated Robo Advisor as part of a wider service range. This is a model where the Robo advisor is just a part of the on-line services the bank provides. The clients of the Robo Advisor are clients of the bank. It is neither an independent advisor nor a separate legal entity and does not exist outside the bank’s service offering. The Robo Advisor can provide portfolio management, since it is part of the Bank and no additional authorisations are necessary

• Robo 4 Advice is when the platform of Robo Advisors is a supporting platform used by a human advisor who provides recommendations. The advice is not fully automated, since the provider of advice is the consultant, not the platform. The advice agreement is between the consultant and the client. Commission fees are paid to the consultant for the advice

Robo 4 advisor

(Robo Advisory platforms used only as a tool)

Integrated RoboAdvisor

(Hybrid)

Segregated RoboAdvisor

(Hybrid)

Stand alone RoboAdvisor Bank Clients

Pure Robo Advisor

Accounts

Advice

Portfolio construction

Client profiling

Bank Clients Robo

Advisor

Advice


Client profiling

Accounts

Advice


Client profiling

Accounts

Clients

Advice


Client profiling

Accounts

Robo Advisor Bank

Bank Clients Robo

Advisor

Advice

Accounts Consultant


Advice

Client profiling

Source: PWC

74

Source: E&Y

Business model

Typical investor

Value proposition

Fee structure

Investment process

overview

Investment vehicles

• The core model of the RoboAdvisory galaxy is based on the use of algorithms rooted in traditional Modern Portfolio Theory (MPT), financial analysis and analytics to develop automated portfolio allocation and investment recommendations tailored to the individual client It may then be extended

to discretionary asset management services and include automated rebalancing

• The other fast-growing RoboAdvisory segment is the Hybrid Advisory which combines robo and human advisory services and differentiate themselves by offering investors a possible contact with human advisers The investment threshold

is significantly higher, starting at US$5,000 at Charles Schwab and reaching US$50,000 at Vanguard

RoboAdvisory vs Hybrid Advisory

USA

USA

Switzerland

Switzerland

RoboAdvisory Hybrid (robo & human

advisory)

Traditional wealth management actors

• Software-based delivery of customized and automated investment advice

• Phone-based financial advisor (FA) accessible through digital channels to deliver personal advice

• Millennial (age 18-35), tech-savvy, price-sensitive; wants to match market returns and pay low fees

• Mass market and mass affluent clients who value human guidance and technology

• Convenient and easy-to-use, low-cost online platform offered directly to consumers

• Digital platform combined with advisor relationship; affordable pricing for fully diversified portfolio

• 0.25%–0.50% fee on assets managed; minimums may apply

• 0.30%–0.90% fee on assets managed; monthly fees per planning program; minimums may apply

• Risk profile, target asset allocation, managed investment account, automated rebalancing, easy access

• Virtual FA meeting, financial planning, risk profile, target asset allocation, managed investment account, automated rebalancing, easy access, periodic reviews

• Mostly Exchange-traded funds (ETFs), direct indexing

• Mostly ETFs, stocks

• Face-to-face advice offering comprehensive wealth management

• Affluent, high net worth and ultra-high net worth clients who value guidance from a trusted FA

• Dedicated FA with full range of investment choices and comprehensive wealth planning

• 0.75%–1.5%+ fee on assets managed; minimums may apply, varies by investment type

• In-person meeting with dedicated advisor, financial planning, investment proposal, target asset allocation, brokerage and managed accounts, automated rebalancing, in-person access and reviews

• Stocks, bonds, ETFs, mutual funds, options, alternative investments, commodities, structured products

Digital wealth managers

USA

USA

RoboAdviser or Hybrid Advisers have many differentiating factors if compared with traditional Wealth actors

75

RoboAdvisory vs Hybrid Advisory offer different potentialities if compared with traditional wealth actors

Source: Deloitte, Inside magazine, PWC

Keys

Widely offered

Can be offered

Not offered

USA

USA

USA

USA

Switzerland

Switzerland

RoboAdvisors online platforms are accessible anytime and anywhere, the activities are always accessible from all devices, from a simple smartphone or pc, where clients can easily control their investments. Competition is on prices, products are low differentiated and low customized and investors are completely involved in the process

Traditional banks have a dedicated Financial Advisor with full range of investment choices and so they are still focused on human interaction with a high product differentiation

Hybrid banks have a Financial Advisor who assists the client especially at the beginning of the investment to guide him in choosing the right products and gather information, then investors could control and monitor their investments through the digital platform. In the hybrid banks clients are more active and involved in the process

Investor risk profiling

Accounts aggregation

Automated digital advice

Discretionary portfolio management (algorithm-based)

Advisory portfolio management

Automated monitoring & rebalancing

Online visual evolution

Performance reporting

Tax harvesting

Brokerage/Custody

Access to human advisors

Advanced analytics

Digital client onboarding

RoboAdvisory Hybrid (robo & human

advisory)

Traditional wealth management actors

Digital wealth managers

76

Robo Advice can have an impact all the investor segments

Source: PWC, E&Y

RoboAdvisers Customer Base

• RoboAdvisors services target the different wealth segments differently: Mass and low affluent market: this

is the traditional market segment for RoboAdvisors that implies a self-directed online guidance, where the degree of product customization is low and products offered are primarily ETFs and funds

Affluent market: This segment could be a good opportunity for the RoboAdvisor due to their low necessity to have a strong relation with the financial advisor. The best solution of Robo Advisor for this segment could be a hybrid one. In this case the Robo Advisor is not totally automated, but is coupled with a financial advisor with whom the client could consult when he thinks it is necessary

Private and HNWI market: In this segment the RoboAdvisor is implemented to support financial advisors using a Robo4Advisor model

• As RoboAdvisors sell digitally, the marginal costs, i.e. the costs that come from managing an additional unit, are close to zero and so RoboAdvice is accessible to a broader public, making it more interesting for retail investors to participate in capital market developments

RoboAdvisers potential Customer Base

Customer segments

Mass and low affluent

Affluent

Private

Suggested advisory model

Robo Advisory

Traditional Advisory

Hybrid Advisory

Mass market

Mass affluent

High net worth individuals

Ultra high net worth

individuals

Financial asset per household

250K$-1Mil$

1Mil$-10Mil$

>10Mil$

<250K$

Private banks serve ultra high

net worth (UHNW) investors

Depending on their personal

inclination, mass affluent

investors might seek advice

through a junior advisor at a major global firm, regional advisors, an independent advisor, or as self-directed

online investors

Private banks serve ultra high net worth (HNW)

investors

RoboAdvisers serve mass

market

Served markets

77

The RoboAdvisory market is rapidly evolving

Source: Infosys

Millennials

RoboAdvisors today

Primary target market

Primary services

Asset classes

Differentiating factors

Perception

Major applications

Perceived and realized benefits

RoboAdvisors today vs. tomorrow

RoboAdvisors tomorrow

Mass affluent and affluent

Simplicity of use

Rich digital experience

Low fees

Mostly Exchange

traded funds (ETF)

Tax-loss harvesting

Automated rebalancing

Automated asset allocation

Transparency of fees

Complements human financial advisors

vs.

Threat to human financial advisors

Client acquisition

Digital offering to clients

Better customer

experience

Lower cost to clients

Millennials (age 18-35)

HNIs and UHNIs

Tax planning

Tax-loss harvesting

Automated rebalancing

Mass affluent and affluent Baby

boomers (48-67)

Automated asset

allocation

Financial planning

Estate planning

Mutual funds Stocks

Exchange traded

funds (ETF) Bonds Alternative

investments

Quality of advice

Improvement in productivity

of human advisors

Advisory assistant to human financial advisors

will be the accepted reality

Client acquisition

Advisor delight

Client retention

Financial advisor as

trusted financial coach

More secured

end clients

Higher efficiency

More bandwidth for advisors

Client delight

Mutual funds Stocks Bonds

Gen X (age 36–47)

78

RoboAdvirosors key players

Other markets key players

USA

USA

USA (acquired by )

USA

USA

USA

USA

UK

USA (partnership with )

USA

Germany

Spain




Switzerland European Economic Area (EEA)

Switzerland

Israel Global

Israel Global UK

Italy UK


Italy

Italy

Italy

Italy

UK

Singapore

Australia

Australia

USA (acquired by )

USA (acquired by )

USA

USA

USA

USA

USA

USA

USA key players European key players

• The USA rule the RoboAdvisory market being the most evolved market in terms of automated advice and offerings and business models, with certain solutions dating back more than 10 years players mainly compete on price

and have low entry requirements so as to target a larger client base

the two USA market leaders are Betterment and Wealthfront that were respectively created in 2010 and 2011

RoboAdvisory services have been maturing in the USA, where pure B2C RoboAdvisers are facing increased competition from hybrid advisory players within the asset management industry

• The European robo advisory markets are highly fragmented, are not yet saturated in comparison with the US maturing market, and have not reached the same level of maturity, especially as the service offerings appear to be very dependent on the country in question and local regulations

• The UK market is the fastest developing center for RoboAdvisory in Europe, perhaps partly due to the local legislative evolution toward unrestricted access to pension schemes from 2015 Nutmeg leads the UK market

RoboAdvisers key markets

The United States RoboAdvisory market currently rules the RoboAdvisory market followed by the European one

Source: Deloitte, Inside magazine, Companies websites

79

Fees (% on AuM)

(acquired by )

UK Germany Spain Switzerland Switzerland Israel Israel Italy Italy

Key offerings of selected US and European RoboAdvisor players

Source: PWC

Minimum deposit

Channels

Country of availability

Customer Target

Products

0% - 0,25%

(partnership with )

USA USA USA USA USA USA USA

$500

Pc, mobile, tablet

Pc, mobile, tablet

Pc, mobile, tablet, apple

watch Pc Pc, mobile,

tablet Pc, mobile,

tablet Pc, mobile,

tablet

Only US Only US Only US Only US Only US Only US Only US

0,15% - 0,35%

0,49% - 0,89% 0,5% None 0,30% $9,95

$0 $25k $10k $5k $50k $250

Retail, affluent

Retail, affluent, B2B

High/Very Ultra net worth individuals

Retail, affluent Affluent, upper affluent

High/Very Ultra net worth individuals


ETF Fund & ETF Fund, ETF, securities ETF ETF Fund & ETF Stocks &

ETF

Fees (% on AuM)

Minimum deposit

Channels

Country of availability

Customer Target

Products

0,30% - 0,95%

£1k-£50/month if AuM<5k

Pc Pc Pc, mobile, tablet Pc Pc Pc, mobile,

tablet Pc, mobile,

tablet

All Europe (Late 2016) All Europe Europe, US All Europe All Europe Globally Globally

0,99% - 0,49%

€0 B2C €300/month B2B

0,50% - 0,90% None n/a n/a

none none CHF205.000 CHF70/month

Retail, affluent

Affluent, upper, affluent


High/very/ Ultra investors

Upper, affluent, high, B2B


Retail, affluent

Funds & ETF Funds Stocks, funds

& ETF Stocks, bonds

& ETF n/a Fund & ETF Stocks, ETFs, index, Forex

n/a n/a

Pc, mobile, tablet

Italy, United Kingdom

0,50% - 1,25%

Retail, affluent

ETFs

100€/month without deposit

Pc. app in progress, branches

Italy

0,30%

Retail, affluent

n/a

€20k

Italy

Pc

Italy

n/a

Retail, affluent,

B2B Stocks, bonds,

ETFs,funds

n/a

Overview of European selected RoboAdvisors players offering

Overview of USA selected RoboAdvisors players offering

80


RoboAdvisor vs. Traditional Wealth Manager


RoboAdvisor

Traditional Wealth

Manager

RoboAdvisor represents an opportunity for traditional Wealth Managers

• Ignoring RoboAdvisory the opportunity focusing on servicing UHNWI and HNWI who require higher added-value services tailored to specific needs

•Developing an in-house RoboAdvisory solution to leverage internal expertise, architecture and resources This should reduce the existing cost base for providing discretionary services to the mass affluent segment

• Acquiring a RoboAdviser at a fair price to serve a new group of customers at lower cost • Partnering with an existing RoboAdviser to take advantage of this digital trend and its services in order to capture younger tech-savvy

investors who may become the core clientele of tomorrow

Next steps for traditional Wealth Managers

81

Tougher regulatory scrutiny, client acquisition cost, consolidation and need for new products/services will be the main drivers for RoboAdvisors potential development

• B2C robo advisers need to validate their business model to secure revenues and become profitable and sustainable, especially as the regulatory burden is expected to further increase

RoboAdvisers current needs

•Over time, automated advisory services will likely become a commoditized capability, requiring firms to develop value propositions based on providing more personalized advice and more intimate service •Potential developments of the model include:

Provision of portfolio management services, though authorization by the local regulator is required

Development of financial planning services but also an atomization of retirement solutions, with an eye on the minimization of the fiscal impact

Tackling traditional Wealth Management services including succession planning

Expansion of the scope of automation to include various operating, compliance, and reporting tasks currently handled by human advisors

What to come for RoboAdvisers

Source: PWC, Deloitte, Inside magazine, CapGemini

• Robo advisers will come under tougher regulatory scrutiny • The client acquisition cost will be critical for all actors, in particular

while targeting the mass affluent to retail segments with low cost offerings Fees on AUM will probably not be further reduced, as they

represent the basis for revenues; therefore, it is more likely these players will charge fees to cover the additional services developed and offered as differentiators

The flagships of pure robo advisory, Betterment and Wealthfront still have to increase in size to confirm sustainability

• RoboAdvisors performance is still short to give a full and realistic feedback at this stage on performance for clients most Robo-Advisors’ algorithms are based on fi nancial theories

that can be fragile (some of them rely upon historical returns and volatility and do not take into account the current market conditions) and may not be flexible enough to cope with major changes

• As hardly any companies are generating profits with their existing RoboAdvice strategies, consolidation will be unavoidable as is happening in the US market where it will probably intensify BlackRock, the largest global asset manager, has acquire

FutureAdvisor to combine FutureAdvisor’s tech-enabled advice capabilities with BlackRock’s investment and risk management solutions

Ally Financial, a public and diversified financial services company based in the US, has acquired the online broker dealer and registered investment advisor TradeKing

Northwestern Mutual has acquired LearnVest, a leading financial planning platform, to target the millennial generation and increasing both customer bases

RoboAdvisers potential developments

82










Annexes

83

Personal financial management and planning FinTech facilitate clients financial management and planning through web or mobile apps fully integrated in the digital banking experience

Source: Thomson Reuter, EY, KPMG, IEB, Garcia de la Cruz; Mint, MoneyWiz, Yodlee

Personal financial management and planning FinTech key characteristics

• They are digital platforms allowing consumers to gain a complete picture of their financial situation, empowering them to better plan for the future They are platforms that

aggregate financial information from banking, trust, brokerage and credit cards accounts and assist with planning modeling, delivering results through interactive dashboards

They offer value-added services like aggregation capabilities that enable the provision of a more comprehensive view of client assets and liabilities, as well as expense-tracking and advice on budgeting and financial-goal planning

They are fully integrated in the digital banking experience

PFM&P FinTech

USA

USA

USA

USA

USA key players and other selected actors

USA UK

UK

USA

Canada

Spain

• They can ask commissions or fees to both Financial Institutions and to clients They are services integrated in the banking activity and so they can receive

commissions directly from financial institutions that offer their products and services through the platforms, but they can also charge a fee to clients

• Account aggregation: a unified view of clients banking, trust, brokerage and credit cards accounts through a single sign-on experience via web and mobile

• Saving recommendations: on checking, savings, credit card and brokerage in order to let clients save the most based on their lifestyle and goals

• Spending categories reports: . ability to organize accounts into groups and to show related group balances

• Personal budgeting: based on customers spending patterns by category , ability to set a budget to allow customers to take control of their spending

• Credit scoring: ability to show clients their financial situation and their scoring against lenders entities to let them discriminate which one are adequate to attend their needs

• Alert/Reminders: ability to send alerts and reminders across all aspects of client financial life to notify them on fees on services, to warn if they are going over budget or to let them know if something seems suspicious

• Cash flow management: a comprehensive view on recurring and non-recurring expenses (bills and taxes) and incomes in one place in order to let clients schedule their future. Notifications service when a bill is due in order not to incur in late payment fees

• Payment and transfers: allow bill payments/funds transfer directly within the solution

Main services offered

Sources of revenues

• They increased transparency of fees and interests charged by financial institutions • They offer a holistic view of the user's financial situation • They allow users to have greater control of their finances and therefore greater financial

information to actively manage their accounts and their budget Consumers abandon their passive role vis-à-vis financial institutions which sharpens

competition and the need to develop financial products, not only more competitive but more personalized

Consumers are more informed and specialized and do not respond to the traditional supply of financial products passively

Advantages for clients

• Banks could have access to a powerful databases on the financial behavior of clients that allow them to better design differentiated offers

• Banks can enhance their positive image and transparency through their association with platforms

Advantages for Banks

84


Personal financial management and planning FinTech vs. Banks


PFM & Financial planning Fintech

Banks

Personal financial management and planning FinTech represent an opportunity for Banks

• Banks can cooperate with these platforms to have access to a powerful database on the financial behavior of clients allowing them to better design differentiated offers and to increase customer loyalty with targeted solutions/services that make sense with customer current situations Banks can also enhance their positive image and transparency through their association with platforms

• Alternatively Banks can decide to develop their own Personal financial management & Financial planning tools in order not to risk to loose clients to competing banks


Mostly due to the transparency of interests and fees levels of aggregated banking, trust, brokerage and credit cards accounts

85










Annexes

86

Payments are of strategic importance both as the anchor for client relationships and as a platform for selling a range of other products

The five common categories of payments

Source: BCG, Deloitte, Fintech & Payments Association of Ireland

1) Business to Business (B2B)

2) Business to Consumer (B2C)

3) Consumer to Business (C2B)

4) Domestic Peer to Peer (P2P) 5) Cross Border Peer to Peer (P2P)

• Payments revenues include direct and indirect revenues generated by noncash payment services (excluding interbank transfers)

• They are the sum of the following: Account revenues: spread (net interest) income on current account balances (also known as checking or

demand-deposit accounts) plus account maintenance fees Transaction-related revenues: transaction-specific revenues on cards (interchange fees, merchant acquiring

fees, and currency conversion fees for cross-border card transactions) and noncard payment methods (typically assessed on a percentage or fixed basis), as well as fees for overdrafts and nonsufficient funds

Nontransaction-related card revenues: monthly or annual card membership fees, credit card spread (net interest income), penalty fees, and other service fees

Descriptions Size of transactions Category of Payment

• Supplier payments

• Legal Settlements • Insurance claims • Contingent Employee wages

• Bill Pay • Hospital Pay • Pay at POS • Repayment to Friends/Family

• Remittance to Family/Friends

Payments revenues

• Low

•Medium to High

• Low to Medium

• Low to High

•Medium to High

Key issues

• Real-time authorization/clearing

• Intra-day availability of funds

• Intra-day interbank settlement

• Late-day interbank settlement

• Payments are of strategic importance both as the anchor for client relationships and as a platform for selling a range of other products, such as loans, credit cards, savings accounts and mortgages

• Payments are differentiated in: Retail payments

are defined as transactions initiated by consumers

Wholesale payments are transactions initiated by businesses or governments

Payments

Service Providers

Payments ecosystem

Virtual

Electronic

Card

Cash

Paper Infrastructure Regulation and

Industry Bodies

Consumers and

Enterprises

Traditional Financial Institutions

Payment service provider & MSP

Card issuers

FinTech

Personal

Merchants

Smes & Corporates

Utilities and Govt System & Networks (SWIFT)

Payment Schemes

Card Schemes

Security and Authorization

87

138 138

27

21

38

2015 2025

2015 level

Account revenues

Noncard transactions fees

Card revenues

152 152

86

35

51

2015 2025

2015 level

Account revenues

Noncard transactions fees

Card revenues

48% 51%

13%14%

4%4%

35% 31%

2015 2025

Account revenues

Debit card revenues

Noncard transaction revenues

Credit card revenues

53%40%

10%

12%

6%

4%

31%44%

2015 2025

Account revenues

Debit card revenues

Noncard transaction revenues

Credit card revenues

Retail payments generated 74% of total global payments revenues in 2015 and will continue to dominate through 2025, but growth in wholesale payments will be higher

• In 2015, payments industry revenues were 130$ bln in Western Europe and 63$bln in East.Europe

• By 2025, they are projected to reach nearly 63$bln in Western Europe and 123$bln East.Europe

• Compound annual growth rate will respectively be 2,0% and 6,9%

• Growth in retail payments revenues will be driven by account and debit card revenues (transaction-related) Account-revenue growth will be driven

by increasing average account balances and numbers of accounts

Transaction-related revenues will be fueled by rising transaction values and volumes

Retail payments in Europe Breakdown of retail payments in Europe (in $bln)

Western Europe Eastern Europe

Cagr 2013-15

10,7%

2,7%

8,9%

4,0%

0,7%

2,0%

2,7%

2,6%

130 158 63 123 6,9% 2,0%

Source: BCG * North America, Western Europe and Asia-Pacific (Mature) ** Latin America, Eastern Europe, Asia-Pacific (Emerging), Middle East and Africa

• Retail payments generated 74% of total payments revenues in 2015 (828$Bln), and will continue to dominate through 2025—accounting for 71% of total revenue growth and reaching nearly 1,5$trl in 2025

• However, growth in wholesale payments revenues is projected to outpace retail payments growth with a compound annual rate 2015/25 of 6,6% versus 5,7% Higher wholesale

growth is being driven by increases in card revenues, which face less price pressure than on the retail side

Payments key trends

• Globally, in 2015, Wholesale transaction banking (which includes payments, cash management, and trade finance) generated about 370$bln in revenues

• In 2015, wholesale payments revenues were 138$bln in Mature Markets and 152$bln in Emerging Markets By 2025, they are projected to

respectively reach nearly 224$bln in Mature Markets and 324$ in Emerging Markets

Compound annual growth rate will respectively be 5,0% and 7,9%

Growth will be driven by increasing volumes and deposit balances, as well as by improving spreads

Global wholesale transaction banking Breakdown of global wholesale payments (in $bln)

138

224

152

324

Mature Markets* Emerging**

7,9% 5,0%

88

Global USA

Banks have historically been the dominant players in payments systems in Europe and around the world but new forces are currently disrupting their leadership

Key disrupting driving forces

Source: Deloitte, Dealogic, Capgemini,

• The payments systems in Europe and around the world has been historically dominated by Banks This is true both in the so-called “front-end”

where customer payments are initiated, (for example by writing a cheque, initiating a credit transfer, or paying by card) and the “back-end” where payments are processed

•Moreover, European banks have a higher degree of control over card payments systems than banks elsewhere Visa Europe remains owned by its member

banks and payment service providers

• Payments have traditionally been both a key revenue stream and a strategic source of competitive advantage for banks.

• Bank’s payments capability enables it to sell a range of other services, such as current (checking) accounts, deposit accounts, loans and credit cards to customers

• There are three forces that are currently disrupting the scenario: 1) Regulatory intervention 2) Technology-enabled innovation 3) Changing consumer and commercial-

-customers preferences • There is an increasing non-bank competition

Payments leadership

• Regulations: PSD/PSD2, SEPA and IFR

• Regulators: EBA and PSR

•Opening up of the market (PSD2)

• The weight of compliance

Regulatory intervention

• Cash to non-cash

• Investment in front and back end systems

• Contactless cards

•Online payments

•Mobile payments

• Increased data value

Technology-enabled

innovation

•Mobile • Instant/ real

time gratification

Changing consumer

preferences

Germany

USA

Ireland

USA

Sweden

UK

Payments key players

Australia

Global

Global

Spain

Italy France

Canada Japan

Europe Mexico Brazil

Ireland

Spain

Belgium France

Global USA

Global USA

Global USA

UK Global

Global USA

Ireland Greece Romania

The Netherlands Global

Global UK

Global USA

Sweden Europe USA

UK

UK Sweden Singapore

Sweden

Kenya Tanzania Afghanistan

South Africa

India Romania Albania

1

2

3

UK

89

Regulators have identified the dominance of banks in payments as a problem and they are acting to stop it and this is creating greater competition from new challengers

Key regulations and payment initiations

Source: Deloitte, CapGemini, BCG

• The EU’s first Payment Services Directive (PSD) established in 2014 the legal platform for the Single Euro Payments Area (SEPA) Under SEPA, almost all cross-border euro payments in the European Free

Trade Area (EFTA) are charged at the same rate as domestic payments • The ultimate objective of SEPA was to ensure that any entity can send or

receive cross-border electronic retail payments in euros across the EFTA under the same terms and conditions as domestic payments

• SEPA affects bank revenues in two ways: it reduces fees from cross-border transactions to domestic levels by reducing settlement times from three days to one, it reduces the interest

that banks can earn on their ‘float’ by about two-thirds

PSD and

SEPA

• The Interchange Fee Regulation (IFR) caps bank-to-bank fees for debit and credit card payments in the EU, into effect from December 2015. Interchange fees are charged by banks to each other when consumers make

purchases using debit or credit cards • The IFR also forces card schemes to be separated from the associated

processing, in order to open up the processing market to more competition

IFR

• Payments Services Directive 2 (PSD2), that is expected to come into force in 2017, aims to open the payments market to competition from non-bank players in response to innovation and changing customer behavior

• Key proposals in PSD2 are: banks should allow access to customer account information for third parties

that are appropriately licensed, and that have received explicit customer consent (Access-to-Accounts Rule [XS2A])

banks should be prohibited from treating payments through third parties differently, for example by charging higher fees or taking longer

Newly licensed players are allowed to initiate payments directly from the user’s bank account provided they have consent of the end user (Payment Initiation Services [PIS])

Payment service providers must require at least two strong and unrelated elements of authentication (Strong Customer Authentication [SCA])

Banks must build APIs that allow the sharing of information with authorized third parties (Application Programming Interfaces [APIs])

PSD2

• The European Commission sees high costs of payments as a tax on trade and it aims to reduce this by half

• The European Commission is interested in creating a level playing field for banks and non-banks alike

• Regulators across the globe are leading efforts to accelerate payments

• These regulatory changes are creating favorable conditions for innovation in payments through the involvement of a wider range of participants, such as fintechs, technology companies and retailers

Regulations intervention

• The main impact of regulatory intervention is in the front-end provision of payment services, the back-end of the system is also affected

• Regulation is also creating new risks of greater competition for banks from non-bank challengers

• Regulators’ focus on fostering innovation might lead to further fragmentation of the payments value chain

Impact on Banks

1

90

New EU regulation is having, and will continue to have, an impact not only on the front-ends of the payments system, but also on its back-ends

Regulation impact on the back-end system

Source: Deloitte, CapGemini

• The EU have stated their aim of opening up payments processing as a means of stimulating competition

• It is expected SEPA to trigger consolidation of payment processing across Europe as the result of some or all of: further regulatory intervention increasing non-bank competition the investment required to respond to the demand for near

real-time payments that requires processors to upgrade their infrastructure

Payment processing

• The EU is forcing the separtion of card schemes from processing

Card-schemes

•Non-card payment schemes, such as Bacs and CHAPS in the UK, and national card payment schemes, such as STET of France and SIBS of Portugal (which also covers non-card payments), have traditionally been not-for-profit entities, owned and controlled by banks These banks are scheme

members Non-members can only access

schemes indirectly, through a member bank acting as their agent

Non-card

schemes

• The main impact of regulatory intervention is in the front-end provision of payment services, the “back-end” of the system is also affected Regulators want to

open up schemes and processing because they feel that these not-for-profit models entrench the position of those members with privileged access (i.e. banks), and enable them to profit from their dominance of payments systems

The payments processing (back-end) is currently lagging behind in innovation due to various factors such as siloed legacy systems and continued focus to comply with the increasing number of regulations

• Key drivers in back-end innovation will be increasing customer demands for anytime/anywhere, immediate payments, and omni-channel payments

Regulations impact

• The main impacts of regulatory intervention will be direct participation by non-members, and also governance reform of payments systems, which will reduce the degree of control that banks have over payments schemes

• Control will be spread among a wider group of users of payments services, such as tech companies, retailers and fintechs

• Scheme ownership could change, to include more users

• Schemes may become for-profit

• Schemes may open up and provide direct access to non-members

• Schemes may change their governance to include a broader user base

Schemes

• Banks may respond to the demand for near real-time payments by investing in faster clearing However, unless systems for

settlement (when the money changes hands between the banks) are upgraded at the same time, this may increase the settlement risk that the counterparty does not deliver the cash for a payment obligationit has entered into, already been cleared, to solve this clearing and

settlement mismatch, banks will need to invest in near real-time settlement and this will introduce another problem: it will challenge their liquidity management, because banks will have to fund multiple settlement cycles per day, rather than a single overnight batch and the total sums settled by banks may be larger, which could also increase banks’ need for liquidity

• If processing consolidation does occur, Banks are likely to keep critical financial fraud functions, such as Know Your Customer and Anti-Money Laundering procedures, in-house • However, payments processing

could be outsourced to third parties

Bank response in the back-end of the system

Risks for Banks

1

91

The impact of opening up the payments market under regulatory pressure, coupled with technological innovation and changing consumer preferences, could be large


• The emergence of new payments services, such as faster payments, and new methods of payments, such as contactless cards and mobile payments, has enabled consumers to experiment, accelerating a pre-existing shift from cash to non-cash payments traditional non-cash payment

methods (as cheques) are also losing popularity

this trend is most evident in low-value transactions

Technology-enabled innovation

• Banks, with their much broader compliance responsibilities, have traditionally invested more in security and resilience than in convenience Security and

resilience appeared to be in conflict with convenience new technologies

such as biometrics (e.g. fingerprint or iris recognition) offer the prospect of marrying convenience with security

Bank traditional focus • A consequence of the shift to digital payments is that more data are captured

Every non-cash payment generates more data than a cash transaction, for example by recording the amount, date, the location of the payment transaction and the recipient of the payment

Payments data is more valuable than ever, thanks to improved ability to quickly and extensively handle, consolidate, analyze and interpret data

• Banks can leverage data analytics and predictive modeling to drive their value-added services initiatives for retail and corporate customers making bank-customer relationships stickier. This is realizable through:

Payment data as a valuable asset for Banks

• There is a risk that the payment itself will disappear

• The digital interface is increasingly relegating the bank into a utility

• The advantage that banks enjoy in terms of customer trust will erode

Implication for Banks

• Banks can apply big data analytics to price optimally Pricing

• By understanding customer behavior, banks can target new customers and cross-sell to existing customer ex.: if bank is alerted to a large purchase by one of its

customers, it can offer an installment option

Targeting and cross-

-selling

• Banks can incorporate transactional-level data analysis within credit risk model development providing more real-time insight into customer behavior Traditional credit scoring relies heavily on external credit

bureau data, which often lags behind the underlying events

Reducing risk by better credit

scoring

• Banks can manage their intraday liquidity better by building up a clear picture of the timing of peaks

Liquidity

• Bank can give customers access to their own data, and help them manage their finances via apps that make use of the data through Personal financial management & planning tools

Enabling the

customer

• Banks can make use of their transactional data to offer discounts to customers, in practice operating as an aggregator for several loyalty programs linked to the customer’s bank account

Card- -linked offers

• If a third party intermediates in payments transactions, it could exploit many of these same value levers itself, and also deprive banks of the data

Implication for Banks

• Increasing opportunities in Sourcing & Shipping, Inventory management and Customer Acquisition

Corporate payments

• Peer-to-peer (P2P) money transfers, mobile money schemes, and retail shopping payments have witnessed the highest innovation levels, while corporate and business-to-business (B2B) segments are expected to catch up soon

Trends

2

92

Consumer preferences are changing, thanks to the convenience offered by new payments methods that are also acting as driver of the shift from cash to non-cash


• The convenience of new payments methods is acting as driver of the shift from cash to non-cash Consumers accustomed

to the immediacy of the internet are demanding faster payments

Many small businesses and large retailers alike, in addition to payment assurance and lower fees for transactions, are looking at real-time payment to enhance their cash flow management, reduce fraud activity and provide incremental value to their customers

Changing consumer preferences

Changing consumer preferences impact

• Technological advancements in hardware (mobile point of sale, contactless, near field communication (NFC), and wearables) have led to increase in payment channels for retail customers

• Adoption and proliferation of mobile payments including usage of apps and digital wallets has led to the entry of non-payment technology firms into the payments landscape

Consumer, SME and

Large Retailers

• Front-End innovation in the payments industry continues to gather pace with developments on both retail and merchant fronts, with mobile and social platforms driving the demand fro new services making transactions effortless by providing a seamless

experience for customers facilitating customers and merchants with commerce

transactions that are independent of location and channel allowing the understanding of consumer behavior through

real-time analysis of transaction data • Immediate payments can enable business growth across

multiple industries accelerating transaction speed, reducing risk and fraud, creating new revenue sources, reducing transaction costs, and reaching new markets acting as an enabler for business growth for both banks and

non-banks by improving transaction velocity, reducing risk and fraud in the transaction processing system

• consumers expect greater speed in their payments experience, including shopping both online and off-line Consumer expectations

place demands on banks in terms of investment in both front-end applications, and back-end processing infrastructure

Impact on Banks

3

€

93

Expectations of commercial customers are also shifting and Corporate treasurers are increasingly expecting banks to behave like tech companies

Source: BCG, CapGemini

Changing commercial customers

preferences

Changing commercial customers preferences

• Corporate treasurers are looking for advisors to sit down with them, learn what their priorities and pain points are, and figuring out the best solutions would clearly like banks to assume this role in many

areas, including risk management and cybersecurity, as well as data and analytics

are frequently ill equipped to oversee the growing set of risks that they face especially in cybersecurity

• Corporate treasurers are increasingly in need of advanced data analysis ex.: cash-flow forecasting tools, advanced FX exposure

analysis tools, metrics in areas such as peer-group performance, working capital, and payment efficiency

• Treasurers are engulfed in a morass of banking paperwork and they are interested in improving the inefficient processes that result in difficult customer transactions

Commercial customers

• Possible wave of bank disintermediation, with third parties owning the customer through well-designed interfaces, links with payment services, and personal-finance management tools attackers could launch cash-management solutions or provide the integration

of payments with third-party software such as accounting software, ERP systems, or invoicing platforms

there is an increasing adoption of treasury management systems (TMS) and enterprise resource planning (ERP) platforms gives corporate treasurers a powerful alternative to bank portals

• However Fintech are not yet capable of meeting the full array of Corporate Treasury needs

Impact on Banks

• Corporate treasurers are increasingly being called upon to understand how technology can make their operations more efficient and effective and many now expect banks to behave like tech companies and to assist them in enhancing their IT infrastructure

• Midsize companies are looking at solution to complex needs and international business

• Cross-Border payments is mainly dominated by the corporate sector making payments for the global trade of goods and services, international remittances, and business-to-consumer (B2C) transactions

• The introduction of new technologies and real-time payments is the driver of commercial customers preferences change in low-value payments for SMEs and business-to- person (B2P) Correspondent banking continues to remain the

preferred model for high-value cross-border payments

Cross-Border

payments

Risk for Banks

• It is becoming increasingly challenging to excel in the highly profitable segment of corporate banking

• Banks can : take a client-centric

perspective and provide advisory services sharing their expertise and helping clients strengthen internal control procedures and IT infrastructure and IT security

trying to simplify the job of Corporate treasurers positioning themselves at the center of their tech ecosystems

improve cross-border transactions not only from a client perspective but also from an operational-efficiency standpoint providing same-day use

of funds, fee transparency, end-to-end payments tracking, and rich payment information

• Closer tech-client ties foster

co-development opportunities and facilitate beta-testing of new products and services

3

94

Source: Personal analysis, Deloitte


• If Banks do not act they can continue to loose their leading position in payments, loosing proximity to the customer and then loosing clients and payment-related and payment-unrelated revenues streams to FinTech (ex.: PayPal with its instalment credit lending facility, PayPal Credit) By not responding to innovations in payments, or by relying on FinTech, Banks risk becoming utilities earning low margins and to survive

they will need to build scale and operate efficiently to make sufficient returns on investment • The strategic option for card payments is clear since the card payment networks are already large and global (even the biggest banks are small

by comparison) and so banks’ dominant strategy is to collaborate with the big networks • The strategic option for non-card payments for large Banks are in-house innovation and industry collaboration as a cost-efficient way of

developing new infrastructure, achieve industry-wide inter-operability, make it available to customers and achieve greater user acceptance • The dominant strategy non-card payments for smaller banks is always to collaborate, with other Banks and FinTech opening their platforms to

innovations as part of an open API approach and industry collaboration in the infrastructure and network areas

Payment and Transactional FinTech FinTech vs. Banks

Payment and transactional

Fintech

Banks


Payment and Transactional Fintech represent a threat for Banks

95








Blockchain



Annexes

96

95

349

484

375

2013 2014 2015 9M2016

Blockchain is a new software architecture that provides shared, immutable records making processing transactions less error prone

Source: Morgan Stanley, Evry , Coindesk

• A blockchain describes computers transferring blocks of records in a chronological chain it enables data sharing across a network of

individual computers it is a global distributed ledger, which

facilitates the movement of assets across the world in seconds, with only a minimal transaction fee oThese assets can be any type of value, as

long as they can be represented digitally • Blockchain technology is also known as

distributed ledger The term "distributed ledger" refers to the concept that each user shares the same "ledger" or set of accounts as defined by the software Blockchain and distributed ledger are used

interchangeably

Blockchain

• Blockchain works through shared software infrastructure and trust Users agree to a software

protocol describing the rules for the type, quality, and transferability of data in addition to the rules for authorization, verification and permutation

Users trust that information entered into and transactions conducted over the blockchain software are valid

How does Blockchain works

Simplified illustration of a Distributed Ledger Network

blockchain

Transactions

Recent block

STR

****

STR

**** STR

****

STR

**** STR

****

STR

**** STR

****

STR

****

Sender

****

Transaction

Transaction Receiver

Encryption code:

• Each member of the network, called a node, holds a chain of blocks which constitutes a total history of transactions performed on the network

• Each block holds a set of transactions, which size depends on how many transactions were completed in a given time interval

€

Blockchain initiatives

• R3CEV consortium in partnership with 42 Banks (of wich 60% are GFlobal SIFIs banks) with a combined market cap of ~$600Bln

• A growing number of incumbents are announcing their interest in the possible implementation of the Blockchain

• The pace of investment in Blockchain companies is increasing each year

Growing interest in Blockchain

VC yearly investments ($m) in Bitcoin and/or Blockchain

companies

Simplified blockchain network diagram

97

A blockchain transaction follows different consecutive steps

Source: Evry

Transaction definition

Sender

****

Transaction definition

Transaction Receiver

Encryption code:

€

****

STR

√

Transactions

STR

****

STR

**** STR

****

STR

**** STR

****

****

STR +

√

√

√

√

√

Transactions

Validated block

STR

****

STR

**** STR

****

STR

**** STR

****

****

STR +

Transaction authentication

Block creation

Block validation Block chaining

• The “Sender” creates a transaction and transmits it to the network

• The transaction message includes details of the Receiver’s public address, the value of the transaction, and a cryptographic digital signature that proves the authenticity of the transaction

• The nodes (computers/users) of the network receive the message and authenticate the validity of the message by decrypting the digital signature

• The authenticated transaction is placed in a ‘pool’ of pending transactions

• These pending transactions are put together in an updated version of the ledger, called a block, by one of the nodes in the network

• At a specific time interval, the node broadcasts the block to the network for validation

• The validator nodes of the network receive the proposed block and work to validate it through an iterative process which requires consensus from a majority of the network

• Different blockchain networks use different validation techniques, but the common denominator is that they ensure that every transaction is valid, and make fraudulent transactions impossible

• If all transactions are validated, the new block is “chained” into the blockchain, and the new current state of the ledger is broadcast to the network

• This whole process can be completed in 3-10 seconds

98

Blockchain can be private (permissioned Blockchain) and public (permissionless Blockchain)

• Open access and absence of authorizing process to enroll into the transactions scheme

• Everyone free to download a copy of the blockchain ledger and to join as anonymous validators by performing computationally intensive proof-of-works

• Guarantee of anonymity • Validators are fully decentralized • Practical for on-chain assets, meaning assets that are endogenous and

created on the ledger (e.g Bitcoin) off-chain assets are not controllable by the validators in the same

way as the native assets, and any conflicts in a transaction would need to be solved by an outside party or legal entity

Permissioned Blockchain (Private or consortium

ledger)

Permissionless Blockchain

(public)

Keys Validator node (Can both initiate/receive and validate transactions)

Member node (Can only initiate/receive transactions)

• Authorized access to the network • Validation process controlled by a pre-selected set of nodes (ex.: a

system run by a consortium of financial institutions, where a certain majority have to sign every block in order for it to be valid)

• Validators are pre-selected and trusted • Aims to follow financial regulations such as AML/ KYC •Main benefits offered by employing a permissioned ledger approach

over a permissionless are: cheaper energy cost for transactions greater privacy faster validation process ability to replicate the high degree of transparency and

accountability in traditional banking systems

Source: Evry

99

Source: Morgan Stanley

Blockchain could help banks reduce the cost of numerous complex processes, however, it could be a double-edged sword given that profit pools could fall or shift as new players change the competitive landscape

Blockchain benefits

• Cryptography used to ensure that records can not be changed or altered • Tokenisation can also enable security for each block of data, whether it is resting or

transacting • Private keys for each user and product, coupled with encryption for data transfer, improves

data security and resiliency

Blockchains can enhance security

Explanation Key benefits

• A shared, encrypted, transparent database can reduce the teams of people across the ~6 firms responsible for authenticating and approving each specific transaction

• Data are irrevocable and auditable • Users can share costs of building and maintaining infrastructure • It is more efficient than managing individual systems

Blockchains can enable lower

costs

• Transactions are more streamlined as a buyer's and seller's account update simultaneously when a transaction is authorised

• Fewer mistakes as buyers authorisations are transparent to not only the transacting parties, but also any related parties including lawyers, controllers, accountants, etc.

• Fewer mistakes means less capital tied up in disputed trades and more capital for new trades improving velocity of capital.

Blockchains increase speed

• Transactions can be monitored in real-time • Users can see transactions completed, important if sequencing matters (as in trade finance) This could be as valuable for regulators of banks

Blockchains enable greater

visibility

• Each step of the transaction is approved • If there is a dispute, both parties have a digital record showing who authorized approval for

transaction • Should enable swifter dispute resolution

Dispute resolution

management

• Valid users onboard • The multi-node architecture makes it harder for corruption to go unnoticed.

Potential for fraud reduction

(For permissioned blockchains)

• New financial services infrastructure built on Blockchain will redraw processes and call into question orthodoxies that are foundational to today’s business models, requiring incumbents to adjust their business practices in response

Blockchain impact

100

Source: World Economic Forum, Deloitte

Blockchain technology has great potential to drive simplicity and efficiency through the establishment of new financial services infrastructure and processes

Blockchain key value drivers

• Blockchain reduces / eliminates manual efforts required to perform reconciliation and resolve disputes

Operational simplification

Explanation Key value

driver

• Blockchain enables real-time monitoring of financial activity between regulators and regulated entities

Regulatory efficiency

improvement

• Blockchain challenges the need to trust counterparties to fulfil obligations as agreements are codified and executed in a shared, immutable environment

Counterparty risk reduction

• Blockchain disintermediates third parties that support transaction verification / validation and accelerates settlement

Clearing and settlement

time reduction

• Blockchain reduces locked-in capital and provides transparency into sourcing liquidity for assets

Liquidity and capital

improvement

• Blockchain enables asset provenance and full transaction history to be established within a single source of truth

Fraud minimization

• New financial services infrastructure built on Blockchain will redraw processes and call into question orthodoxies that are foundational to today’s business models, requiring incumbents to adjust their business practices in response

Blockchain impact

Transformative characteristics of distributed infrastructure

characteristics of Blockchain

Current-state assumptions

• Information silos drive the need for detailed reconciliation activities

• Lack of a single version of the truth and audit trails creates arbitrage concerns

• Asymmetric information between market participants drives the proliferation of central authorities

• Lack of transparency increases regulations on FIs

Immutability

Transparency

Autonomy

• Lack of trust between counterparties creates the need for central authority oversight in contract execution

Implications for market participants

within financial services

• Eliminates need for reconciliation

• Provides historical single version of the truth

• Eliminates imbalance of information among market participants

• Increases cooperation between regulators and regulated entities

• Ensures agreements are executed to agreed upon business outcomes

• Disintermediates supporting entities established to resolve disputes

101


Assumptions that are central to today’s financial business models will be impacted by the shift to distributed financial infrastructure, requiring incumbents to adjust their business practices in response

Transformative characteristics of distributed infrastructure

characteristics of Blockchain

Immutability

Transparency

Autonomy

Financial services implications Blockchain transformative potential

• Blockchain will question the need for individual books of record through immutable and distributed record-keeping

• At its core, Blockchain is a growing repository of transactions organized in chronological blocks where the technology intrinsically makes changes to previous transactions functionally impossible

• Blockchain has been designed to replicate data among participating nodes in real time, ensuring all parties operate off of a single version of the truth at all times

• Challenges information silos between market participants and eliminates the need for inter-firm reconciliation

• Disintermediates central intermediaries and reduces the fear of arbitrage within the ecosystem

• Enables audit trails to be established for assets and transactions with a significant reduction in disputes

• Blockchain will significantly increase transparency between market participants

• The “default setting” of Blockchain is to provide full transparency into transactions

• Blockchain can promote the creation of a public record of activity in the ecosystem to which all market participants have access in real time

• Challenges existing competitive advantage models that leverage information asymmetry

• Reduces the role of supporting entities (e.g. insurers) that profit from opacity within the ecosystem

• Blockchain will have implications for the cost of leverage by reducing information asymmetry between borrowers and lenders

• Blockchain can provide visibility into assets and associated liabilities based on transactional history while increasing the efficiency of credit transactions

• Blockchain can tokenize individual assets (e.g. property and bonds) on a shared and trusted ledger to establish provenance

• Promotes visibility of assets and associated liens/ownerships to quantify risk and increase pricing accuracy

• Challenges the role of rating entities in quantifying risks

• Blockchain will transform the relationship between regulators and regulated entities, reducing frictions and improving outcomes

• Blockchain can become a shared data repository between regulators and regulated entities, breaking down organizational silos

• Blockchain has the potential to allow subsets of transactional data to be effortlessly shared with regulators in real-time

• Transforms compliance from post-transaction monitoring to on-demand and immediate monitoring

• Improves capability of regulators to fulfil their mandate of ensuring the legality, security and stability of financial markets

• Improves efficiency for regulators to monitor trading venues such as over-the-counter markets and dark pools

• Reduces regulatory compliance costs significantly

• Blockchain will reduce the need for intermediaries by providing autonomous execution capabilities

• Blockchain can codify financial agreements in a shared platform and guarantee execution based on mutually agreed conditions, limiting unilateral counterparty actions

• Blockchain can eliminate the manual effort required to support the execution of financial agreements and can accelerate business outcomes

• Reduces counterparty risk due to the reduced need to trust counterparties’ willingness or ability to fulfil obligations

• Disintermediates entities that currently mediate disputes and resolve business outcomes

Key issues

102

Development process is ongoing in Blockchain and being familiar with the concept of smart contracts is paramount to understanding how this technology will handle all sorts of value transactions in the future

Blockchain 1.0 Blockchain 2.0.

2013

Source: Evry, CapGemini

• The first applications of blockchain technology, called blockchain 1.0, was various virtual currencies with the goal of being an alternative to fiat money

• A cryptocurrency is a digital representation of value that is neither issued by a central bank or public authority nor necessarily attached to a fiat currency, but is accepted by two or more parties as a means of exchange and can be transferred, stored or traded electronically Retailers, financial institutions and regulators

have expressed interest in crypto-currencies for various reasons:

ability to attract new clients delivery of new financial capabilities control of payments

Both consumers and merchants may benefit from the use of cryptocurrencies due to the short time for the verification and settlement of the payment transaction that can be done in seconds (permissioned approach) or minutes (permissionless approach), regardless of geographical distance

For the merchant, there is another strong advantage in the low cost of acceptance, since all transactions are done in a direct manner and there is no need for a payment service provider, meaning transaction costs are very low

• Several fundamental challenges that need to be addressed for any cryptocurrency to become suitable for day-to-day use for the general public: High volatility leads to fluctuating value over

time The risk of deflation or inflation cannot be

controlled, and only mitigated to a limited extent

There are no monetary policies due to lack of regulatory authority

• As the Blockchain technology matured, it entered a new phase of development (called blockchain 2.0) and the development focus started to shift away from handling exclusively cryptocurrencies and started to expanded to include more advanced solutions for ownership and transactions, such as trade of physical assets according to the rules of smart contracts all kinds of value can be registered and traded on various blockchains, which can be both specialized

for one type of asset to a generalized platform capable of all forms of trade

Today

• Blockchain technology provides an alternative model to proof-of-existence and possession of legal documents

• Being familiar with the concept of smart contracts is paramount to understanding how Blockchain will be used to handle all sorts of value transactions in the future Smart contract is a computer program that can automatically execute the terms of a contract

reinventing contractual relationships Smart contract:

can solve the problems of counterparty trust by being self-executing and having property ownership information embedded

are trustless, autonomous, and se lf-sufficient making their formation and performance more efficient, cost-effective, and transparent

The ability to have a machine apply this sort of compliance logic would save certain industries a

massive amount of time and money, especially within the financial and securities sectors

• Terms are established by all counterparties, such as: Variable interest rate Currency of

payments Currency rate

• Conditions for execution (e.g time and date, interest rate at given value)

• Event triggers contract execution

• Event can refer to: Transaction

initiated Information

received

• Terms of contract dictate movement of value based on conditions met

a) For digital assets on the chain, such as a cryptocurrency, accounts are atomically settled

b) For assets represented off the chain, such as stocks and fiat, changes to accounts on the ledger will match off-chain settlement instructions

Pre-defined contract

Events Execute &

Value transfer Settlement

Smart contract process

a) On-chain assets

(Digital)

b) Off-chain assets

(Physical)

103

Source: World Economic Forum, Deloitte, Morgan Stanley, Santander Innoventures

Proposed use cases are mostly ones with costly and complex processes for post-trade settlement and change in title

• Industry heavyweights are sponsoring a wide range of blockchain use cases supported by industry consortiums

• There are likely many potential Blockchain use cases we can't imagine today

Blockchain use cases

• Santander Innoventures identified 20-25 use cases including international money transfers, trade finance, syndicated lending and collateral management

Range of use cases

• The World Economic Forum, supported by Deloitte, has considered across each function of financial services, aiming for important ways Blockchain could apply to different sub-sectors and asset classes and has came up with 9 use cases

Use cases analyzed by the World Economic Forum

• In the following pages all 9 use cases are deeply analyzed

Deposit & Lending

Investment management

Market provisioning

Global payments Payments

Insurance P&C Claims Processing

Capital Raising Contingent Convertible (’CoCo’) Bonds

Syndicated Loans

Trade Finance

Automated Compliance

Proxy Voting

Asset Rehypothecation

Equity Post-Trade

Use cases considered Function of financial

services

1

2

3

4

5

6

7

8

9

• A shared repository and multiple writers to the repository • The possible removal of one or more intermediaries from the value chain • Trust enforced programmatically rather than through centralized institutions

Basic characteristics shared by Use cases analyzed by the World Economic Forum

104


• Conducting international money transfers through Blockchain could provide real-time settlement and reduce costs, enabling new business models (e.g. micropayments), and institute newer models of regulatory oversight

Key potential benefits

• Incorruptible: digital profiles stored on Blockchain will authenticate both sender and beneficiary

• Liquid: through smart contracts, participants willing and able to convert fiat currencies will support the foreign exchange

• Prompt: cross-border payments will be completed in real time

• Economical: with less participants, improved cost structure can generate value

• Visible: regulators will gain automatic alerts to specific conditions along with on- demand access to complete transaction histories over the ledger

The future of global

payments

Use cases 1 of 9: Global Payments - International money transfers through Blockchain offer lower fees, real-time settlement and newer models of regulatory oversight

• A payment refers to the process of transferring value from one individual or organization to another in exchange for goods, services or the fulfillment of a legal obligation

• Global payments are an expansion of that concept, in which payments can be completed across geographical borders through multiple fiat currencies

• The average cost to the final customer (money sender) is 7.68% of the amount transferred

Global Payments

• The focus of this use case is on low value−high volume payments from an individual/business to an individual via banks or money transfer operators. These transfers are more commonly known as remittances

Focus of this use case

• Real-time settlement of international money transfers reduces liquidity and operational cost

•Direct interaction between sender and beneficiary banks eliminates the role of correspondent banks

• Trust improves as smart contracts capture obligations across financial institutions

Potential effects

• KYC standards that are consistent across banks and MTOs

• Binding legality of a Blockchain-enabled global payments solution

• Consensus among financial institutions around Blockchain platforms and adoption timetables

Necessary conditions

• Currently, the adoption of Blockchain for global payments by incumbent banks is limited, although concrete initiatives are occurring in North America and Europe across retail and wholesale banking

• Blockchain has the potential to challenge correspondent banks and to disrupt the role of dedicated banks that act as gateways to international fund transfers

• Blockchain can enable micropayments making low-value transactions more feasible to FIs as cost structures are modified

Present state of Blockchain in

Global Payments

105

Use cases 1 of 9: Global Payments (Payments) - Current-state

Source: World Economic Forum, Deloitte * Transactions can either be “netted” or initiated per-transaction

Sender bank

Perform KYC

Process funds

Track transfer

Money transfer operator



Beneficiary bank

All banks Periodic reports

Regulator

Beneficiary

SWIFT

Local clearing network

Local clearing network

Correspondent bank

Sender

Initiate relationship Transfer money Deliver funds Act post payment

Perform KYC

Pay funds

1 3 5

4

6

2a

2b

1 2

3

4 5

6

7

• Sender needs to send money to another country and approaches a bank or money transfer operator, which does the following: Performs AML/KYC activities Collects funds and fees Confirms and supports transfer inquiries/disputes

• The bank or money transfer operator will move money across borders through either of the following mechanisms: Utilizes SWIFT network (part of SWIFT network) Facilitates transfer via correspondent banks (not part of SWIFT network)

• The beneficiary is notified and approaches a bank or money transfer operator • Depending on the pre-existing relationship, KYC may be performed by the bank or money transfer operator • The amount due in local currency is paid • Periodically, according to local regulations, the bank and money transfer operator will provide reports to regulators containing transaction

details (e.g. sender and beneficiary ID, currencies, transferred amount and timestamps)

Current-state

process description

• Inefficient onboarding: information about the sender and beneficiary is collected via manual and repetitive business processes • Vulnerable KYC: limited control exists over the veracity of information and supporting documentation, with various maturity levels

across institutions • Cost and delay: payments are costly and time consuming depending on route • Error prone: information is validated per bank/transaction, resulting in high rejection rate • Liquidity requirement: banks must hold funds in nostro accounts, resulting in opportunity and hedging costs • Vulnerable KYC: similar to #2, limited control exists over the veracity of information and supporting documentation, with various

maturity levels across institutions • Demanding regulatory compliance: due to various data sources and channels or origination, regulatory reports can require costly

technology capabilities in addition to complex business processes (often supported by multiple operation teams)

Current-state pain

points

1

2a

2b 3

4

5

6

1

2

3

4

5

6

7

106


Use cases 1 of 9: Global Payments (Payments) - Future-state

Sender bank

Verify KYC

Transfer request

Submit transfer


Fiat currency Fiat currency

Real-time AML

Regulator

Sender ID Beneficiary ID

FX rate

Transfer amount Date and time

Payout conditions

Beneficiary bank


Beneficiary

Verify KYC

Pay funds

Distributed ledger

On-demand reports

Regulator

Smart contract

Initiate relationship Transfer money Deliver funds Act post payment

1 1

2 3

5

4

6

7

2

4 5

3

6

7

• Trust between the sender and a bank or money transfer operator is established either via traditional KYC or a digital identity profile • A smart contract encapsulates the obligation to transfer funds between sender and beneficiary • The currency conversion is facilitated through liquidity providers on the ledger • The regulator can monitor transactions in real time and receive specific AML alerts through a smart contract • A smart contract enables the real-time transfer of funds with minimal fees and guaranteed delivery without the need for

correspondent bank(s) • Funds are deposited automatically to the beneficiary account via a smart contract or made available for pickup after verifying KYC • The transaction history is available on the ledger and can be continuously reviewed by regulators complex business processes

(often supported by multiple operation teams)

Future-state

process description

Future-state

benefits

• Seamless KYC: leveraging the digital profile stored on Blockchain establishes trust and authenticates the sender • FX liquidity capabilities: through smart contracts, foreign exchange can be sourced from participants willing to facilitate the

conversion of fiat currencies • Real-time AML: regulators will have access to transaction data and can receive specific alerts based on predefined conditions • Reduced settlement time: cross-border payments can be completed in real time • Cost savings: with fewer participants, the improved cost structure can generate value • Seamless KYC: leveraging the digital profile stored on Blockchain establishes trust and authenticates the beneficiary • Automated compliance: the regulator will have on-demand access to the complete transaction history over the ledger

1

1

2

3

4

5

6

7

2

3

4

5

6

7

Sender

107


• Utilizing Blockchain to automate syndicate formation, underwriting and the disbursement of funds (e.g. principal and interest payments) can reduce loan issuance time and operational risk


The future of Syndicated Loans

• Syndicated loans provide clients with the ability to secure large-scale diversified financing at the current market rate. These loans are funded by a group of investors (e.g. syndicate), where one investor serves as the lead arranger. The lead arranger serves as the underwriter for the loan and performs all administrative tasks throughout the loan life cycle, charging a fee based on the complexity and risk factors associated with the loan

Syndicated Loans

• The focus of this use case is on key opportunities in the end-to-end syndicated loan process where Blockchain has the potential to optimize syndicated loan back-office operations


Potential effects


• Applications of Blockchain within syndicated loans are currently being explored at the proof-of-concept level with a number of incumbents, focusing on: smart contract

settlement and servicing

automated underwriting

• Smart contracts will be

able to manage syndicated loan life cycle (KYC verification, due diligence review, underwriting automation, loan funding, payment dissemination, etc.)

• Smart contracts, closing and servicing activities, will execute servicing disintermediation traditionally performed by a third party and will eliminate third-party fees

Present state of Blockchain in

Syndicated Loans

Use cases 2 of 9: Syndicated Loans - Blockchain can make it easier, safer and more profitable for financial institutions to participate in syndicated loan opportunities

• Expedited: smart contracts will automatically form syndicates, verify financial information and carry out settlement services, reducing the time to fund a borrower’s loan

• Abbreviated: distributed ledgers and smart contracts will eliminate the need for third-party intermediaries

• Integrated: diligence systems will communicate pertinent financial information directly to underwriting systems

•Monitored: regulators will have a real-time view of financial details throughout the syndicated loan lifecycle

• Secure: operational risk will decline as Blockchain automatically disburses principal and interest payments

• Syndicates come together via smart contracts and under the watchful eye of regulators

• Risk underwriting requires substantially fewer resources to carry out effectively

• Intermediaries turn their attention elsewhere as smart contracts facilitate loan funding and servicing

• A rating system for counterparties that all financial institutions accept

• Templates for diligence and underwriting so that information can move from one system to another

•Willingness among financial institutions and loan requestors to store financial details on the distributed ledger

108

Use cases 2 of 9: Syndicated Loans (Deposits and Lending) - Current-state


Syndication Diligence Closing and servicing Underwriting

Loan request

Corporation Lead arranger

Lead arranger solicits syndicate members

Syndicate

Member 1 Member 2 Member 3 Syndicate

Lead arranger Corporation

Lead arranger

30% pledged

Member 2 20%

pledged

Member 1 25%

pledged

Member 3 25%

pledged

Syndicate

Lead arranger

Corporation

Loan funded

Principal & interest

Syndication fee Principal and interest payments

Member 2 Member 1 Member 3

1

2

3

4

5 6

7

8

10 9

1 2

3 4

5

6

• A corporation requests a loan from an FI (referred to as the lead arranger within the syndicated loan market) • The lead arranger performs KYC procedures in accordance with regulatory requirements • To reduce risk, the lead arranger sources prospective members to fund the loan • The lead arranger facilitates the investigation of the corporation’s financial health to determine credit worthiness and the level of risk associated

with the loan • Syndicate members pledge a percentage of the overall risk based on their respective tolerance levels • The lead arranger takes on the administrative responsibility for servicing throughout the agreed upon contract life cycle (e.g. funding the loan and

dispersing principal and interest payments to syndicate members)

Current-state

process description

Current-state pain

points

• Time-intensive process: selecting syndicate members based on financial health and industry expertise is time-intensive and inefficient due to manual review processes

• Time-intensive review: analysing a corporation’s financial information is time-intensive and inefficient due to manual review processes • Lack of technology integration: due diligence team members reference various applications and data sources, resulting in additional time

required and a potential for errors • Labour-intensive process: the documentation of syndicate member pledging is labour-intensive and inefficient due to reliance on manual

activities • Lack of technology integration: underwriting systems do not communicate with diligence systems, duplicating efforts • Inefficient fund disbursal: the lead arranger facilitates principal and interest disbursal, resulting in additional costs to investors • Default risk: the lead arranger poses a risk in the disbursement of funds throughout the loan life cycle • Delayed settlement time: while verifying funds, payments settle t+3 (trade date plus three days), delaying investors from obtaining funds • Costly intermediaries: third-party organizations facilitate servicing operations, resulting in additional costs to investors • Siloed systems: activities are duplicative since systems do not communicate with one another

1

1

2

3

4

5

2

3

4

5

6

6

7

8

9

10

109


Use cases 2 of 9: Syndicated Loans (Deposits and Lending) - Future-state

Syndication Diligence and Underwriting Closing and servicing

Investor records Risk tolerance

Corporation

Lead arranger

Regulator

Smart contract

Member 2

Member 1

Member 3

Smart contract

Lead arranger


Lead arranger


Smart contract

Regulator Corporation

Loan r

equest

Members selected based on criteria

Assets Liabilities

Project Plan

30% pledged

25% pledged

20% pledged

25% pledged

Loan funding Syndication fee payment

Principal and interest payments

Servicing documents dispersion

Loan funded

Principal & interest

Syndicate Diligence results 1

2

4

5

6 7

2

3 4

5

6 7

1 3

• A corporation requests a loan from an FI acting as the lead arranger • Leveraging the corporation’s digital identity, the lead arranger performs KYC activities in real time through the Blockchain’s record-keeping

functionality, which also provides regulators with a transparent view of activity • The investor’s financial records and risk tolerance stored on Blockchain automates the selection process, reducing the time it takes to form a

syndicate • Leveraging the corporation’s financial information and project plan data accessible through the Blockchain, diligence activities are automated via a

smart contract • Key attributes from the diligence process are populated into the underwriting template, streamlining the process and reducing time through the

Blockchain’s transfer of value capability • Smart contracts eliminate the need for a third party to fund the loan, disperse funds and facilitate the loan servicing process • Embedded regulation facilitates the review of financial details to ensure AML procedures are followed appropriately

Future-state

process description

Future-state

benefits

• Automated syndicate formation: through programmable selection criteria within a smart contract, syndicate formation is automated, reducing the time for a corporation’s loan to be funded

• Embedded regulator: throughout the syndicated loan life cycle, regulators are provided with a real-time view of financial details to facilitate AML/KYC activities

• Automated diligence and underwriting: corporation financial information analysis and risk underwriting are automated, reducing the execution time and the amount of resources required to perform these activities

• Technology integration: diligence systems communicate pertinent financial information to underwriting systems, streamlining process execution and reducing underwriting time

• Reduced closing time: loan funding is facilitated in real time, eliminating traditional t+3 settlement and centralized lead arranger operations • Servicing disintermediation: activities are executed via smart contracts, eliminating the need for third-party intermediaries • Reduced counterparty risk: the disbursement of principal and interest payments throughout the loan life cycle is automated, reducing

operational risk

1

1

2

3

4

5

2

3

4

5

6

6

7

7

110


• Utilizing Blockchain to store financial details can facilitate the real-time approval of financial documents, create new financing structures, reduce counterparty risk and enable faster settlement


• Accelerated: time to shipment will shorten as financial documents are reviewed and approved in real time

•Disintermediated: banks facilitating trade finance will no longer require a trusted intermediary to assume risk or execute the contracts, eliminating the need for correspondent banks

•Decentralized: Blockchain will show the status as contract terms are met, reducing the time and headcount required to monitor the delivery of goods

• Trackable: title and bills of lading available on the distributed ledger will show the location and ownership of goods

• Visible: a real-time view into invoices and other essential documents will aid short-term financing, enforcement and AML

The future of Trade Finance

• Trade finance is the process by which importers and exporters mitigate trade risk through the use of trusted intermediaries. FIs serve as the trusted intermediary providing assurance to sellers (in the event the buyer doesn't pay) and contract certainty to buyers (in the event that goods are not received)

• FIs command a fee for documentation/oversight of payment terms and for taking on the risk position of either the importer or exporter

Trade Finance

• This use case highlights the key opportunities in the end-to-end trade finance process where Blockchain has the potential to optimize the regulatory and operations costs of trade finance


• Letters of credit automatically generate from financial details stored on the ledger

• Regulators gain real-time tools to enforce AML and customs-related activities

• Correspondent banks exit the scene as import and export banks interact directly

Potential effects

• Transparency to ensure factoring and double spending aren’t taking place

• Interoperability with legacy systems to accommodate letters of credit, bills of lading, and inspection documentation

• Regulatory guidance on the procedures that facilitate the use of smart contract reporting


• The application of Blockchain within trade finance is currently being explored at the proof-of-concept level with a number of incumbents, focusing on: letters of credit

encapsulated in a smart contract

electronic invoice ledger

• Letters of credit can be managed using smart contracts on Blockchain (capturing shipment details, financial information and payment data as the letter of credit moves through the trade finance process )

• Blockchain utilization can fundamentally disrupt the role of correspondent banks as FIs work directly with one another

Present state of Blockchain in Trade Finance

Use cases 3 of 9: Trade Finance - Blockchain can boost import/export efficiency by providing streamlined access to trade documents, greater capital efficiency and faster settlement

111

Use cases 3 of 9: Trade Finance (Deposits and Lending) - Current-state


Establish payment terms Deliver goods Settle on terms

Importer

Order goods

Exporter

Financial agreement

Import bank

Correspondent bank

Export bank

Customs Freight Customs Correspondent

bank Export bank

Import bank

Importer Inspection company

Exporter

Provide invoice

Financials Financials

Fin

ancia

ls

Initiate shipment

Verified goods

Verified goods

Product shipped

Product

Country A Country B

Initiate payment

Payment

Receipt notification

1

1

2

3

4 5 7

6

8

9

10

2

3

4

5

6

7

8

• An importer and exporter agree to the sale of a product at a future date and time • The financial agreement is captured within an invoice, which identifies the quantity of goods sold, price and delivery timeline • The importer provides a bank with a copy of the financial agreement for review • The import bank reviews the financial agreement and provides financials on behalf of the importer to a correspondent bank, which has established a

relationship with the export bank • The export bank provides the exporter with the financing details, which enables the exporter to initiate the shipment • A trusted third-party organization inspects the goods for alignment with the invoice • Local customs agents within the export country inspect the goods based on the country code • The goods are transported by freight from Country A to Country B and local customs agents within the import country inspect the goods based on the

country code • Following inspection, the goods are delivered to the importer, which provides a receipt notification to the import bank • Upon receiving notification, the import bank initiates the payment to the export bank through the correspondent bank

Current-state

process description

Current-state pain

points

• Manual contract creation: the import bank manually reviews the financial agreement provided by the importer and sends financials to the correspondent bank

• Invoice factoring: exporters use invoices to achieve short-term financing from multiple banks, adding additional risk in the event the delivery of goods fails

• Delayed timeline: the shipment of goods is delayed due to multiple checks by intermediaries and numerous communication points • Manual AML review: the export bank must manually conduct AML checks using the financials provided by the import bank • Multiple platforms: since each party across countries operates on different platforms, miscommunication is common and the propensity for fraud is

high • Duplicative bills of lading: bills of lading are financed multiple times due to the inability of banks to verify their authenticity • Multiple versions of the truth: as financials are sent from one entity to another, significant version control challenges exist as changes are made • Delayed payment: multiple intermediaries must verify that funds have been delivered to the importer as agreed prior to the disbursement of funds to

the exporting bank

1

1

2

3

4

5

2

3

4

5

6

6

7

7

8

9

10

8

112


Use cases 3 of 9: Trade Finance (Deposits and Lending) - Future-state

Establish payment terms Deliver goods Settle on terms

Importer

Order goods

Provide invoice

Exporter

Financial agreement

Smart contract

Import bank

Export bank

Smart contract

Exporter Inspection company

Customs Customs Freight Importer Import bank

Export bank Payment complete

Smart contract

Shipment received

Letter of credit

Shipment initiated

Country A Country B

Initiate payment

Initiate shipment

Verified goods

Verified goods

Product shipped

Receive goods

Smart contract

1

1 2

3

4 5 6

7

2

3

4

5

6

7

8

• Following the sale agreement, the financial agreement is shared with the import bank through a smart contract • The import bank reviews the arrangement, drafts the terms of the letter of credit and submits it to the export bank for approval • The export bank reviews the letter of credit; once approved a smart contract is generated to cover the terms and conditions of the letter of credit • The exporter digitally signs the letter of credit within the smart contract to initiate shipment • Goods are inspected by a third-party organization and the customs agent in the country of origin (all requiring a digital signature for approval) • The goods are transported by freight from Country A to Country B and inspected by local customs agents prior to being received by the importer • The importer digitally acknowledges receipt of the goods, which initiates payment from the import bank to the export bank via a smart contract

Future-state

process description

Future-state

benefits

• Real-time review: financial documents linked and accessible through Blockchain are reviewed and approved in real time, reducing the time it takes to initiate shipment

• Transparent factoring: invoices accessed on Blockchain provide a real-time and transparent view into subsequent short-term financing • Disintermediation: banks facilitating trade finance through Blockchain do not require a trusted intermediary to assume risk, eliminating the need

for correspondent banks • Reduced counterparty risk: bills of lading are tracked through Blockchain, eliminating the potential for double spending • Decentralized contract execution: as contract terms are met, status is updated on Blockchain in real time, reducing the time and headcount

required to monitor the delivery of goods • Proof of ownership: the title available within Blockchain provides transparency into the location and ownership of the goods • Automated settlement and reduced transaction fees: contract terms executed via smart contract eliminate the need for correspondent banks

and additional transaction fees • Regulatory transparency: regulators are provided with a real-time view of essential documents to assist in enforcement and AML activities

1

1

2

3

4

5

2

3

4

5

6

6

7

7

8

113


• Utilizing smart contracts to automate regulator reporting can minimize the need for point-in-time stress tests, reduce market volatility and, ultimately, increase “CoCo” bond issuance


• Accessible: confidence in CoCo bonds will rise as Blockchain provides upto- date capital ratio information

• Consistent: standards will arise for the way banks calculate capital ratios and input them into Blockchain

• Immediate: smart contracts will notify regulators of CoCo bond triggers as they happen.

• Compliant: with real-time insight into banks’ capital ratios, regulators will have less need for stress tests

• Responsive: investors will claim their equity faster once the trigger condition is met

• Sought after: a new rating system will encourage more institutional investors to participate in the market, raising demand for this type of bond

The future of CoCo Bonds

• Contingent convertible (“CoCo”) bonds are financial instruments that enable banks to increase their capital ratio in case it falls below a predefined threshold

• Unlike traditional bonds, "CoCo" bonds provide banks with the ability to convert the bond into equity if a capital ratio condition is met (e.g. bank capital falls below 7.5%) or a discretionary circumstance is determined by the bank/regulators

Contingent Convertible

Bonds

• This use case highlights key opportunities to reduce volatility and uncertainty regarding this instrument and potentially to increase "CoCo" bond issuance in the future where Blockchain has the potential to embed regulation into business processes


• Tokenized bond instruments help investors make informed, data-driven decisions

• Smart contracts alert regulators when loan absorption must be activated, minimizing the need for point-in-time stress tests

• Transparency into loan absorption reduces the uncertainty of CoCo bonds

Potential effects

• Standards (including data fields, templates, trigger calculations and loan absorption) that apply across financial institutions

• Processes for regulators and bank leadership to act on real-time trigger notifications at the financial institution that issued the bond as well as across the market


• No significant applications of Blockchain within the “CoCo” bond life cycle have been reported or discussed within blockchain research released to date

• Tokenized bond instruments can enable investors to make informed, data-driven decisions; improved monitoring processes can reduce market uncertainty

• Smart contracts can alert regulators when loan absorption needs to be activated, while ensuring that “over-reporting” is not a concern

Present state of Blockchain for

CoCo Bonds

Use cases 4 of 9: CoCo Bonds - Smart contracts that automate regulator reporting can minimize point-in-time stress tests, reduce market volatility and improve investor confidence in these complex instruments

114

Use cases 4 of 9: Contingent Convertible (“CoCo”) Bonds (Capital Raising) - Current-state


Issuance Monitoring (ongoing and ad hoc) Loan absorption

Bank

Bond request

Capital ratio book-value calculation

Capital ratio market-value calculation

Discretionary

Investors

Trigger options

On

go

ing

A

d h

oc

Bank

Regulator Bank

Regulator

and

Stress test

Market Liabilities Assets

Capital ratio book-value calculation

Capital ratio market-value calculation

Discretionary

“CoCo” bond

Equity

Below condition?

Bank Investors

Trigger options

2 1

2 3

4

5

6

1

4

5

3

6

• To initiate issuance, the bank determines a trigger option through a book-value or market-value calculation (e.g. bank capital falls below 7.5%) to activate loan absorption (conversion of a “CoCo” bond to equity)

• After determining bond attributes (e.g. trigger and maturity date), the bank issues “CoCo” bonds to raise funds from a broad set of investors (including retail, banks, hedge funds and insurance companies)

• The issuing bank and regulator monitor the trigger to determine if loan absorption needs to be activated through two ongoing and one ad hoc mechanisms: Bank analyses trigger (no frequency mandated by regulator) Bank and regulator make discretionary decision (e.g. market performance) Regulator requests point-in-time stress test to assess capital ratio

• If any monitoring mechanism results in requiring loan absorption to be activated (e.g. bank capital falls below 7.5% or discretionary action is taken), the “CoCo” bond is converted into equity at a predetermined conversion rate

Current-state

process description

Current-state pain

points

• Limited participation: limited rating information within the “CoCo” bonds market limits participation from large institutional investors • Inconsistent trigger calculation methods: banks can complete capital ratio analyses through book-value (using internal models) or

market-value (comparing stock market capitalization to assets) calculations • Ambiguity: regulators lack insight into capital ratio (aside from requesting point-in-time stress tests) and whether loan absorption may

need to be activated in the future • Lack of real-time reporting: regulators must rely on public-facing, point-in-time stress tests to assess the health of the banks and

“CoCo” bonds market • Market fear: bank equities are susceptible to extreme volatility as investors fear stress test results • Delayed activation time: since trigger condition calculation frequency is not regulated (e.g. bank capital ratios may be calculated

quarterly), “CoCo” bonds may not be converted into equity immediately after the condition is met

1

1

2

3

4

5

2

3

4

5

6

6

115


Use cases 4 of 9: Contingent Convertible (“CoCo”) Bonds (Capital Raising) - Future-state

Issuance Monitoring (ongoing) Loan absorption

Bank

Bond request

Select based on criteria

Investors

Coupon rate Maturity date

Trigger

“CoCo” bond

Trigger options

Tokenized instrument

Bank

Capital ratio: 7.49%

Trigger options

Smart contract Below

condition?

Smart contract

Ale

rt

Bank

Regulator

Bank

“CoCo” bond

Equity

Investors

Discretionary input

Bank

Regulator

Market Liabilities Assets

1

1

2

3

4

5

6 7

8 Smart contract 2

3

4

5

• Similar to the current state, the issuing bank determines the trigger option through a book-value or market-value calculation to activate loan absorption, and initiates bond issuance

• The bank issues a tokenized “CoCo” bond to raise funds from investors, utilizing the record-keeping functionality of Blockchain • The tokenized bond includes key attributes, including a loan absorption trigger, issuing bank, coupon rate and maturity date • The bank analyses the current capital ratio to determine if loan absorption needs to be activated • The latest calculation is added directly to the tokenized asset for the bond, providing investors and regulators with transparency

into the status of their issued “CoCo” bonds • If the trigger is reached, regulators and bank leadership are notified in real time through a smart contract • After a bank or regulator provides discretionary input into conversion (can be automated in the future), loan absorption can be

activated through a smart contract • The “CoCo” bond is converted into equity at a predetermined conversion rate

Future-state

process description

Future-state

benefits

• Increased participation: up-to-date capital ratio information stored within Blockchain can increase confidence and lead to developing a “CoCo” bond rating system, enabling large institutional investors to participate within the market

• Improved calculations: integrating capital ratio calculations directly into Blockchain can improve data input maturity and calculation frequency across banks

• Real-time reporting: regulators can be notified in real time through a smart contract if a “CoCo” bond trigger is reached • Reduced stress tests: since regulators have access to a bank’s capital ratio in real time, bank equity volatility can be reduced as

the likelihood for point-in-time stress tests decreases • Real-time activation time: since the frequency of the trigger calculation and reporting increases through Blockchain, the time to

convert a “CoCo” bond into equity after the condition is met significantly reduces

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116


• Utilizing Blockchain to store financial information can eliminate errors associated with manual audit activities, improve efficiency, reduce reporting costs and, potentially, support deeper regulatory oversight in the future


• Transparent: data stored in financial systems will be immutable, accessible, and updated in real time

• Painless: automation will slash the time and resources required to perform an audit

• Reliable: with permissioned access to financial data, audit teams will have a streamlined update process and avoid the errors that often arise from manual activities

• Efficient: reporting through Blockchain will reduce duplicate effort and make it easier to prepare and file financial reports

The future of Automated Compliance

• FIs are responsible for complying with and reporting on a multitude of regulatory requirements

• Compliance-related activities add additional cost to FIs’ annual spend


• This use case focuses on the key opportunities in the financial statement audit process to highlight an automated compliance solution where Blockchain has the potential to increase operational efficiencies and provide regulators with enhanced enforcement tools


• Audit software dramatically reduces the time and resources required to examine accounts

• Financial examiners carry out their duties via permissioned access to pertinent financial information

• Costs decline as the process for vetting transactions and filing reports becomes more straightforward

Potential effects

• Permissions that allow each user to access only the financial data necessary to carry out their compliance responsibilities

• Automatic enforcement of compliance activity so that financial institutions and regulators share material information in real time

• Interoperability so that the legacy systems at financial institutions and regulatory agencies can communicate with the distributed ledger


• Applications of Blockchain within automated compliance are currently being explored at the proof-of-concept level with a number of incumbents, focusing on: continuous auditing AML/KYC verification automated tax filing

• The convergence of automated audit software and access to real-time financial information facilitate continuous auditing, which provides greater confidence in the financial health of the organization

• Financial information stored on a distributed layer facilitates the automated execution of additional compliance activities (e.g. CCAR, tax filing, etc.)



Use cases 5 of 9: Automated Compliance - By making financial information available to auditors via Blockchain, FIs can eliminate error-prone manual work, reduce reporting costs and strengthen trust in their financial condition

117

Use cases 5 of 9: Automated Compliance (Investment Management) - Current-state


Planning Assessment Reporting Follow-up

Auditor

Risk assessment

Bank

Auditor

Bank

Accounts payable

Accounts receivable

Auditor Bank

Auditor Bank

10K/10Q

Independent audit report

Audit scope

Objectives

Material information Identified errors

Supporting documentation

1 1

2

3

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5

6

7

8

2

3

4

5

• Annually, auditors coordinate with the bank to perform the required audit of financial statements • Members of the audit team work directly with the bank to perform an initial risk assessment and align on the scope, objectives, timing

and resources required • The bank provides the audit team with copies of financially material data and access to the systems that enable analyses to be conducted • Auditors evaluate the information provided for completeness and conduct tests for accuracy in parallel to performing the evaluation • Throughout the process, auditors work directly with the leadership and representatives from the bank to address identified errors within

the data and testing exceptions • As exceptions are identified, the audit team requests additional information to determine the depth of the concern • At the conclusion of the evaluation, the audit team releases an opinion of the overall financial health of the bank in the form of an

independent audit report • The bank uses the results of the report to populate its quarterly and annual filings (10K/10Q)

Current-state

process description

Current-state pain

points

• Resource-intensive: scope formation, risk assessment and audit planning require representatives from multiple functional areas, reducing productivity as individual employees cannot complete their daily activities

• Time-intensive review: pulling sample data for audit review is time-intensive and inefficient due to dependency on manual activities • Lack of technology integration: information is copied from source systems and provided to auditors, adding inefficient manual

processes that increase the likelihood of errors • Resource-intensive: exception and error follow-up requires additional interaction with representatives from multiple functional areas,

further reducing productivity • Lack of technology integration: information provided in the independent audit report does not feed directly into quarterly and annual

filings (10K/10Q), duplicating efforts

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Use cases 5 of 9: Automated Compliance (Investment Management) - Future-state

Blockchain financial data extraction layer

Auditor

Income Assets Accounts receivable

Losses Liabilities Accounts payable

Depreciation Management

assertions

Auditor

Independent audit report

Smart contract

10K/10Q

Bank Regulator

Comprehensive Capital Assessment Review

Federal Reserve

Accountant

Enterprise tax filing

IRS

Accessed through

Blockchain

Stored on Blockchain

Assessment Reporting Additional compliance activities

Accounts payable

Accounts receivable

5

1

4 3

2

1 6

2

3

4

5 6

• Financially material information is accessible to auditors in real time through the use of a financial Blockchain enabled data extraction layer • Since auditors have authorized access to this data, representatives and leadership of the bank do not need to be involved with audit

planning and data distribution • The audit team performs an audit evaluation using data directly from the Blockchain, eliminating errors generated from manual activity and

the requirement for follow-up • Auditors develop the independent audit report and store it on the Blockchain for real-time access by the bank and regulator • A smart contract facilitates the movement of information from the audit report to financial reporting instruments, minimizing duplicate

efforts • In the future, Blockchain is uniquely positioned to seamlessly execute and automate compliance activities such as:

Comprehensive Capital Assessment Review (pictured) Enterprise tax filing (pictured)

Future-state

process description

Future-state

benefits

• Data transparency: enabling data stored within financial systems to be accessible via Blockchain through the financial data extraction layer provides immutable and transparent records that are updated in real time

• Automated review: financial information accessible via Blockchain enables an automated review via audit software, reducing the time and resources required to perform these activities

• Reduced errors: audit teams have authorized access to financial data, eliminating errors generated by manual activities and streamlining the update process

• Integrated systems: reporting activities executed via Blockchain facilitates the creation of quarterly and annual filings, reducing duplicate efforts

• In the future, Blockchain can enable additional compliance activities to be seamlessly executed through automation: The bank provides Federal Reserve officials with authorized access to facilitate automated capital analysis and store results on Blockchain The bank provides tax accountants with authorized access to real-time financial data to facilitate tax calculations and automate IRS tax

payments

Real time tasks for trading in financial instruments (e.g. insider trading) Processing information about new regulatory developments

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4

5

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• Distributing proxy statements via Blockchain and counting votes via smart contracts may improve retail investor participation, automate the validation of votes and, potentially, enable personalized analyses in the future


•Direct: storing all investment records on Blockchain will eliminate the need for a go-between to notify regulators and distribute proxy statements

• Paperless: costs from printing and mailing proxy statements will decline

•Dependable: smart contracts will ensure that voting is aligned to share ownership at the time of the vote

• Accessible: investors will have more ways (such as through mobile apps) to access proxy statements and cast their votes

• Immediate: depending on requirements, voting data will become available to the corporation and/or voters in realtime

• Progressive: evolving Blockchain applications will enable investors to conduct personalized, automated analyses

The future of Proxy Voting

• Proxy voting facilitates remote investor voting on topics discussed during annual corporate shareholder meetings without requiring attendance

• To ensure investors are able to make an informed decision, corporations are responsible for distributing proxy statements

• Currently, a third party is responsible for delivering these statements to investors in partnership with intermediaries that track order execution. Investors conduct a manual analysis before casting their vote directly to the third party

Proxy Voting

• This use case highlights the key opportunities to improve retail investor participation in proxy voting where Blockchain has the potential to transfer value irrefutably


• Smart contracts reduce the time and effort of distributing proxy statements

• Automatic reconciliation prevents investors from casting more votes than the shares they own

• Self-service enables investors to see vote counts and standardize analysis across investments

Potential effects

• Storage of investment records on a distributed ledger to identify beneficial investors

• Conversion of votes cast via mail or phone into tokens to store on the distributed ledger

• Collaboration among corporations to develop a common voting solution


• Applications of Blockchain within proxy voting are currently being explored at the proof-of-concept level by incumbent exchanges: NASDAQ

• The potential exists for Blockchain to provide a transparent view of voting data during annual shareholder meetings

• Investment records stored on the distributed ledger and proxy statements disseminated via smart contract technology eliminate the need for third-party intermediaries and associated fees

Present state of Blockchain for Proxy Voting

Use cases 6 of 9: Proxy Voting - As a way to distribute proxy statements and count votes, Blockchain may someday improve retail investor participation, automate validation of votes and enable personalized analyses

120

Use cases 6 of 9: Proxy Voting (Investment Management) - Current-state


Distribute proxy statement Review proxy statement Cast vote

Corporation

Provide beneficial investor information in partnership with the Depository Trust &

Clearing Corporation

Provide notice that proxy statements are

accessible by investors Regulator

Third party

Intermediaries

Online Mail

or

Investors

Proxy statements

Cast vote

Online

or

Mail

or

or

Third party Results

released

Analyse potential

voting impact

Investors

3 2

1

3

4 5 6 7 2

1

4

5

6

7 9

8

• The corporation develops a proxy statement internally in partnership with various teams, including general counsel and accounting • The corporation simultaneously provides a third-party organization with the documents to distribute to shareholders (via online and mail) and

notifies the regulator that the proxy statement is available • The third-party organization works with intermediaries to obtain beneficial investor information that may not be available • Investors analyse the proxy statement to determine the potential impact of the votes being solicited during a corporation’s shareholder meeting • Investors cast their vote directly to the third-party organization either online or by mail or phone • Results are not shared with investors or the corporation throughout the voting process • During the shareholder meeting, votes cast by attendees are aggregated with those submitted by proxy and announced

Current-state

process description

Current-state pain

points

• Ambiguity: a single view into the total population of registered and beneficial investors does not exist without intermediaries • Costly distribution process: since the online portal for statement distribution can only occur if an investor has “opted-in”, significant print and

mail expenses are incurred • Limited distribution: depending on the market, proxy statements cannot be shared with institutional investors, restricting the number of potential

votes that can be cast • Misleading representation: summaries within proxy statements can provide a misleading view into a corporation’s health • Error prone: in some cases, minor data errors are uncovered by institutional investors conducting detailed analyses • Manual intensive process: given the length and unstructured format of proxy statements, investors have to manually determine the information

that will help facilitate an informed decision • Minimal retail investor participation: in the United States (and other countries worldwide), a majority of shares owned by retail investors go

unvoted each year • Lack of transparency: the corporation and voters do not receive insight into the process until they are made available by the third party • Voting discrepancies: the number of shares held by investors may differ from the number of votes cast; depending on the regulation, these

votes are either adjusted or not counted

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Use cases 6 of 9: Proxy Voting (Investment Management) - Future-state

Distribute proxy statement Review proxy statement Cast vote

Investor Details

Corporation Smart contract

Investors

Regulator

Corporation Name

Investment Records

Provide notice that proxy statements are

accessible by investors

Investors

Proxy statements

Cast vote

Online

or

Mail

or

or

Analyse potential

voting impact

Investors Smart contract

Results released

Validate votes by comparing to

ownership data

Proxy statement

Proxy statement

1

1

2

3

4

7 5 6

2

3 4

7 5 6

• As orders are executed to invest in a corporation’s equity, Blockchain stores investment records including the number of shares • After a corporation has finalized its proxy statement, a smart contract ensures that it is sent to all investors (via an online portal or mail)

and the regulator is notified that the documents are available • Investors analyse the proxy statement to determine the potential impact of the votes being solicited during a corporation’s shareholder

meeting through Blockchain’s transfer of value capability • Investors cast their vote either online or by mail or phone directly into the Blockchain as a tokenized asset through back-end infrastructure

integration • A smart contract ensures votes are valid by comparing the number of votes cast to ownership data • Results are shared with the corporation and/or investors in real time or during a shareholder meeting

Future-state

process description

Future-state

benefits

• Disintermediation: since all investment records are stored on Blockchain, partnerships with a third-party organization and intermediaries are not required; a smart contract can notify regulators of proxy statement availability and ensure distribution to investors

• Streamlined distribution process: Blockchain can reduce the costs associated with printing and mailing proxy statements (difficult to compute savings since investor must “opt-in”)

• Improved accessibility and participation: Blockchain can increase the mechanisms that can be used to access proxy statements (e.g. native mobile applications)

• Future automated analyses: in the proposed future state, the current proxy statement format will continue to be distributed to investors, but future implementation can enable investors to conduct personalized, automated analyses

• Automated validation: smart contracts can ensure that voting is aligned to share ownership at the time of the vote • Increased transparency: depending on requirements, voting data could be made available to the corporation and/or voters in real time • Improved accessibility and participation: Blockchain can increase mechanisms used to cast votes (e.g. native mobile applications)

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• Utilizing Blockchain to track and manage asset rehypothecation via smart contracts can enable the real-time enforcement of regulatory control limits across the financial system and reduce settlement time


•Documented: information such as collateral value, risk position and ownership history will be readily available to investors

• Assessed: counterparties will be rated based on transaction history, helping investors to hedge their risks

• Automatic: record-keeping, reporting and the movement of funds will take place without manual intervention

•Observable: regulators will have a clear view of the asset history so they can enforce legal constraints

•Orderly: smart contracts will keep assets from being rehypothecated over regulatory limits

• Stable: between effective regulation and greater transparency, the risk of default leading to systematic failure plummets

The future of Asset Rehypothecation

• Asset rehypothecation is a common practice in which FIs securitize existing collateral to reduce the cost of pledging collateral in subsequent trades

• As assets are rehypothecated, ownership structures and asset composition can become ambiguous due to the lack of clear transaction and ownership history, exacerbating counterparty risk and asset valuation uncertainty

• Regulatory constraints are designed to limit the extent to which an asset can be rehypothecated, but without a mechanism for tracking transaction history, enforcement is not possible


• This use case highlights the key opportunities to improve information transfer in the end-to-end broker/dealer process where Blockchain has the potential to optimize the regulatory components of asset rehypothecation


• Ratings based on prior transactions help counterparties make better investment decisions

• Reporting of asset trades enables real-time enforcement of regulatory constraints

• Controls that terminate trades via smart contract technology reduce the likelihood of systemic failure

Potential effects

• A tokenization standard to represent collaterallinked assets within the financial system

• A common framework for financial institutions to participate in the tokenized asset trading system

• A distributed ledger solution flexible enough to handle changes in the over-the-counter (OTC) trading template


• Applications of Blockchain within asset rehypothecation are currently being explored at the proof-of-concept level with a number of incumbents, focusing on: gold markets repurchase markets asset transfer

• The transparent view of asset history (value, ownership and risk position), coupled with a counterparty rating system, assists investors in aligning their risk appetite with potential trade partners

• Smart contract technology terminates trades that violate regulatory controls, reducing the propensity of systemic failure within the financial system and improving collateral management



Use cases 7 of 9: Asset Rehypothecation - Blockchain can remove much of the risk from the secondary trading market by automatically tracking assets and enabling real-time enforcement of regulatory control limits

123

Use cases 7 of 9: Asset Rehypothecation (Market Provisioning) - Current-state


Two counterparties Three counterparties Five counterparties Four counterparties

Customer

Each section represents ¼ of collateral value

Bank

Bank Investment

bank Hedge fund

100% of obtained collateral



Rehypothecation %: 0%

: 75% : 75%

Bank Cash

Collateral

Rehypothecation %: 75% Rehypothecation %: 131,25% Rehypothecation %: 187,5%

: 75%

1

1

The customer maintains possession of the home

2

3

5

4

7

6

9

8

2

3 4

5

• A customer acquires a loan from a bank to purchase a home • In exchange, the customer provides the bank with the house as collateral and authorizes rehypothecation to improve the rate • During the mortgage repayment period, the bank may use the house as collateral in subsequent transactions • The bank securitizes a portion (75% within the example) of the mortgage debt along with other mortgages and sells it to an investment

bank • The investment bank now has 75% of the house value in collateral that can be used in subsequent trades • The investment bank repackages the debt obtained (75% of 75% within the example) into a security (e.g. mortgage-backed), which is

further divided into tranches and sold to a hedge fund based on its risk appetite • The hedge fund has now secured 56.25% of the original house value (that can be used in subsequent trades) • The hedge fund uses a broker/dealer to sell a derivative in over-the-counter markets, where the underlying asset is the rehypothecated

percentage obtained (100% of 75% of 75% within the example) • The ownership and collateral value becomes ambiguous, creating a scenario where the total value pledged far exceeds origination

Current-state

process description

Current-state pain

points

• Lack of regulatory reporting: within secondary trading markets, reporting requirements do not detail the transaction history of the asset (e.g. purchase price, purchase date and loan originator) or other counterparties with claims to the asset

• Counterparty risk: investors lack insight into additional counterparties with ownership claims to the asset • Lack of transparency: regulators do not have the ability to track securities as they are rehypothecated in the market, making

enforcement of regulator limits nearly impossible • Security value ambiguity: since a detailed transaction history is not maintained, each trade leveraging a percentage of the collateral

makes it more difficult to determine the true value of the asset • Systematic failure: if default occurs with any of the players, a part or even the entire transaction chain is affected, which may have

unintended consequences on adjacent operations in the financial system

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Use cases 7 of 9: Asset Rehypothecation (Market Provisioning) - Future-state

Two counterparties Three counterparties Five counterparties Four counterparties

√ √ X

Customer

Smart contract

Bank

Each section represents ¼ of collateral value

Bank

Investment bank

Hedge fund




Rehypothecation %: 0%

: 75% : 75%

Rehypothecation %: 75% Rehypothecation %: 131,25% Rehypothecation %: 187,5%

: 75%

Cash

Collateral

Smart contract

Smart contract

< 140% regulatory limit < 140% regulatory limit < 140% regulatory limit

The customer maintains possession of the home

1

1

2

4

3

5

6

2

3

4

5

6

• Collateral obtained by the bank is tokenized to record the transaction history of the underlying asset on Blockchain • A smart contract encapsulates the tokenized collateral and facilitates record-keeping and the transfer of value • In subsequent trades, the smart contract broadcasts the transaction history details (e.g. collateral value and counterparty

information) to participating entities • Investors receive a transparent view of the asset history along with associated counterparty information (via the counterparty

rating system) to enhance trade decisions • Regulators receive authorized real-time access to view the transaction details and monitor regulatory infractions • The smart contract restricts the additional hypothecation of the asset once predetermined regulatory rehypothecation limits are

met

Future-state

process description

Future-state

benefits

• Transparency: the collateral value, risk position and ownership history are transparent to investors, aiding in investment decision-making

• Counterparty risk: counterparties are rated based on transaction history, enabling investors to hedge their risk by selecting a counterparty that best fits their risk profile

• Automated processing: Blockchain increases processing efficiency, reducing manual processes and associated costs • Embedded regulation: regulators maintain a clear view of the asset history (e.g. value, ownership and risk position), enabling

the enforcement of regulatory constraints • Automated enforcement: a smart contract ensures assets are not rehypothecated over regulatory limits • Financial stability: the enforcement of regulatory controls and the transparent transaction history greatly reduce the risk of

systematic failure in the event of default •Disintermediation: a smart contract facilitates the movement of funds and assets, eliminating the need for costly intermediaries

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• Utilizing Blockchain and smart contracts to facilitate post-trade activities can disintermediate processes, reduce counterparty and operational risk and, potentially, pave the way for reduced settlement time


• Swift: same-day settlement will become a possibility thanks to automation and efficiencies like common data fields

• Vetted: automatic validation will strengthen custodians’ confidence that a counterparty is able to settle

• Connected: investors will receive immediate notification of trade settlement without relying on a custodian

• Straightforward: when securities settlement systems become unnecessary, custodians will have more say in how to store assets

• Empowered: servicing activities initiated via smart contract will eliminate the need for third‐party intermediaries

•Wrinkle-free: technology and manual errors will decline when smart contracts transfer equity and cash

The future of Equity Post-Trade

• Equity post-trade processes enable buyers and sellers to exchange details, approve transactions, change records of ownership and exchange securities/cash

• These processes are initiated after an investor receives confirmation of an executed trade from the exchange. Central Securities Depositories (CSDs), working in partnership with custodians, match trades and validate investor credentials. After successful validation, Central Clearing Counterparties (CCPs) net all transactions and transfer cash/equity to all involved custodians. Custodians store assets in safekeeping accounts in partnership with CSDs, who are responsible for initiating asset servicing (e.g. income distribution and proxy voting) as required

Equity Post-Trade

• This use case highlights the key opportunities to streamline clearing and settlement processes in cash equities where Blockchain has the potential to improve the efficiency of asset transfer


• Automation of post-trade processes reduces settlement time and lowers counterparty risk

• Smart contracts simultaneously transfer equity and cash in real time, reducing the likelihood of errors

• Disintermediation of clearing, settlement and asset servicing reduces operational costs and third-party fees

Potential effects

• Incorporation of ‘net transaction’ benefits within settlement in order to minimize transfers across custodian banks

• Collaboration among regulators, custodians and exchanges to develop a solution that can provide market stability while serving everyone

• Standardization of data fields that can match trades while preserving investor confidence and anonymity


• Applications of Blockchain within equity post-trade are currently being explored at the proof-of-concept level with a number of incumbents and FinTechs, focusing on: • private equity

trading • clearing and

settlement solutions

• Simultaneous settlement of cash and equity executed via smart contract reduces the likelihood of manual errors and the resources required to execute the process

• Settlement and servicing activities are executed via smart contract, eliminating costly fees

Present state of Blockchain for Equity Post-

Trade

Use cases 8 of 9: Equity Post-Trade - Applying Blockchain and smart contracts to post-trade activities can eliminate the need for intermediaries, reduce counterparty and operational risk and pave the way to faster settlement

126

Use cases 8 of 9: Equity Post-Trade (Market Provisioning) - Current-state


Bank 1

SELL 100

Bank 2

Investor 1

* Trade confirmation

Exchange

Custodian 1 CSD Custodian 1 CCP Custodian 2

Custodian 1 CSD Custodian 2

Safekeeping accounts

Trade date/ details

Settlement date

Counterparty bank details

Cash commitments

Validation

< 140%

Cash Equity

Distribute income

Corporate actions

Proxy statements

Equity trade execution Clearing Asset servicing Settlement

Investor 2

Investor 3

Investor 1

Investor 2

Investor 3

Investor 1

Investor 2

Investor 3

Investor 1 Investor 2 Investor 3

Custodian 2

Custodian 3

SELL 100

BUY 100

1

1

2

3

4

5 6 7

8

3

2

4

5

6

7

• Investors use interfaces provided by the bank of their choosing to place equity trade orders through the exchange • The exchange is responsible for matching the equity trade orders placed by investors across banks in order to confirm trades in real time and initiate

post-trade processes • Utilizing securities settlement systems, custodian banks send their section of the trade details to the CSD on behalf of the investor • The CSD is responsible for validating the trade details provided by all custodian banks (e.g. cash commitments and settlement date) and matching all

sections of the trade • After matching all sections of the trade, CCPs determine the “net transaction” across all trades and custodian banks to minimize the number of

required transactions • The simultaneous transfer of equity and cash is managed by the CCP between custodian banks on behalf of all involved investors • After the required assets are transferred, equity and cash are stored in safekeeping accounts managed in partnership by custodian banks and the CSD • As various servicing processes occur, third parties work directly with the CSD to ensure custodian banks and, ultimately, investors are engaged

Current-state

process description

Current-state pain

points

• Duration between trade execution and settlement: despite investors being able to see traded assets in their account shortly after receiving confirmation, settlement occurs t+3, which limits the actions that investors can take in the interim

• Inconsistent data: as a result of frequent changes to counterparty bank details, CSDs must manually validate a number of transactions prior to settlement

• Counterparty risk: custodians must account for the possibility that a counterparty is unable to settle when due • Operational risk: CCPs must account for the possibility that technology and/or manual errors result in inaccurate settlement • Settlement ambiguity: investors are inconsistently notified when their trades settle depending on custodian procedures • Safekeeping account complexity: since securities settlement systems connect safekeeping accounts across custodian banks at the CSD,

custodians have limited flexibility to store assets • Costly intermediaries: corporations must involve third parties and intermediaries to initiate asset servicing

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2

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Use cases 8 of 9: Equity Post-Trade (Market Provisioning)- Future-state

Bank 1

SELL 100

Bank 2

Investor 1

* Trade confirmation

Exchange Investor 2

Investor 3

SELL 100

BUY 100

Custodian 1 Investor 1

Investor 2

Investor 3

Custodian 2

Custodian 3

Smart contract

Validation

Trade date/ details

Counterparty details Cash

commitments

Custodian 1 Custodian 2

Cash Equity

Investor 1

Investor 2

Investor 3

Smart contract

Trade confirmation

Investor 1 Investor 2 Investor 3

Custodian 1 Custodian 2

Safekeeping accounts

Smart contract

Distribute income

Corporate actions

Proxy statements

1

2 2

2

3 4 6

5

6

7

2

4

3

5

7

8

9

• Similar to the current state, investors use the interfaces provided by the bank of their choosing to place equity trade orders through the exchange • The exchange is responsible for matching the equity trade orders placed by investors across banks in order to confirm trades in real time and

initiate post-trade processes • Custodian banks send their section of the trade details to the Blockchain on behalf of the investor • A smart contract validates the trade details provided by all custodian banks (e.g. cash commitments and counterparty details) and matches all

sections of the trade in real time • After matching all sections of the trade, a smart contract determines the “net transaction” to minimize the number of required transactions • Smart contracts ensure the simultaneous transfer of equity and cash between custodian banks on behalf of all investors • Confirmation is stored in the Blockchain to facilitate future processes • After required assets are transferred, equity and cash are stored in safekeeping accounts managed solely by custodian banks • As various servicing processes occur, smart contracts notify custodian banks and investors in real time

Future-state

process description

Future-state

benefits

• Reduced settlement time: through downstream, post-trade automation and efficiency enhancements, settlement could potentially be reduced to real-time settlement, trade date plus one day or trade date plus two days

• Standardized data requirements: standardizing data fields for trade matching improves the efficiency of existing clearing processes • Reduced counterparty risk: through automated validation, custodians benefit from the reduced likelihood that the counterparty is unable to settle • Reduced operational risk: through the use of a smart contract to transfer equity and cash, the likelihood of technology and/or manual errors is

decreased • Real-time confirmation: by storing trade confirmations on Blockchain, investors can receive notification of settlement without relying on a

custodian • Reduced account complexity: custodians will be able to store assets with greater flexibility since integration with securities settlement systems

will no longer be required • Servicing disintermediation: servicing activities initiated via a smart contract eliminate the need for third-party intermediaries

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• Facilitating claims management for property and casualty (P&C) insurers on Blockchain can automate processing through smart contracts, improve assessment through historical claims information and reduce potential for fraudulent claims


• Customer-friendly: smart contracts and smart assets will remove manual effort from the claim submission process

•Direct: Blockchain will share loss information among insurers, eliminating the need for brokers

• Practical: Loss adjusters will no longer have to review every claim, except in specific risk situations

• Clean: Insurers will have seamless access to historical claims and asset provenance, making it easier to spot suspicious behavior

• Integrated: Blockchain will automatically combine data sources from trusted providers

• Fast: In most cases, smart contracts will facilitate payment without involvement from the back office

The future of P&C Claims Processing

• Commercial property and casualty (P&C) insurance (e.g. commercial motor, commercial property and commercial liability) protects businesses against risks that may result in loss of life or property

• For P&C insurance, the tasks associated with claim and loss processing are a major source of friction, accounting for an average of 11% of the overall written premium

P&C Claims Processing

• The focus of this use case is on the key opportunities in claims processing for the P&C commercial insurance business where Blockchain has the potential to optimize the back-office operational costs of property and casualty insurers


• Claims are processed automatically using trusted data sources and codified business rules

• Fraud declines precipitously thanks to transparent and immutable data on the ledger

• Expenses due to loss adjustment become irrelevant as Blockchain transforms the insurance industry

Potential effects

• Asset profiles stored on the ledger to provide a comprehensive history in case of a claim

• Standards for relevant claims data that are widely adopted among insurers and regulators

• A legal and regulatory framework establishing the validity of smart contracts as binding instruments for insurance policies


• The application of Blockchain within insurance is currently in its infancy, with a number of incumbents and new entrants providing early proof of concept, focusing on: creation of immutable

insurance claim records

development of asset provenance to assist in risk profiling and claims processing

P2P insurance

• Smart contracts will be key and insurance policies can be managed using smart contracts on Blockchain, capturing coverage conditions, and syndicate insurance agreements or insurer-reinsurer agreements

• Loss adjustment expenses may become irrelevant since Blockchain utilization will fundamentally disrupt the cost and profitability ratios that are currently in use across the insurance industry

Present state of Blockchain in P&C Claims Processing

Use cases 9 of 9: P&C Claims Processing - Blockchain-automated claims processing has the potential to reduce fraud and improve assessment through historical claims information

129

Use cases 9 of 9: P&C Claims Processing (Insurance) - Current-state


Claim submission Loss assessment Claim approval

Broker

Report loss

Provide requested

information

Insuree

Insurer Reinsurer

Submit claim

Confirm submission

Reinsurer

Insurer

Loss adjuster

Loss adjuster

Claims agent

Claims agent

Request additional

information

Provide additional

information

Broker Insuree

Asset database

Weather statistics

Inspection provider

Authority report

Credit reports

Loss adjuster

Claims agent

Insuree

Claim approved

Initiate payment

Request additional

information

1 2

3

4 5

5

6

6

7

8

1 2

4

4

4

3

5

• Insuree reports loss and claims restitution from an insurer (and reinsurer, if applicable) via a broker (or independently) • Broker may request additional information from insuree to support the loss claim • Broker submits the claim to the insurer and reinsurer (in cases of syndicate insurance or reinsurance) • After verifying the documentation received, the insurer(s) confirm receipt of the claim submission • Loss adjusters perform claim assessments and verify the validity of the claims through client information, secondary data sources (e.g.

weather statistics and authority reports) or additional inspection assessments/interviews • If additional information is required by the insurer, a new information request is made to the broker or insuree. In some situations, the

insuree must collect supporting documentation directly from secondary data sources • After concluding claim assessments, the loss adjuster within each insurer reaches a conclusion about the claim • If the claim is approved, payment to the insuree is initiated via an insurer’s claims agent

Process description

• Undesirable customer experience: to initiate a claim, the insuree must complete a complex questionnaire and maintain physical receipts of the costs incurred by the loss

• Costly intermediaries: brokers act as intermediaries during processing, adding delays and costs to the submission • Fragmented data sources: insurers must establish individual relationships with third-party data providers to get manual access to

supporting asset, risk and loss data that may not be updated • Fraud prone: the loss assessment is completed on a per-insurer and per-loss basis with no information sharing between insurers,

increasing the potential for fraud and manual rework • Manual claim processing: loss adjusters are required to review claims and to:

Ensure their completeness Request additional information or use supporting data sources Validate loss coverage

Pain points

Identify the scope of the liability Calculate the loss amount

1

1

2

3

4

5

2

3

4

5

6

7

8

130


Use cases 9 of 9: P&C Claims Processing (Insurance) - Future-state

Claim submission Loss assessment Claim approval

Submit claim

Insuree

or

Smart asset

Request loss confirmation data

Request manual review Confirm coverage

Smart Contract

Insuree information Covered asset information

Coverage terms

Coverage period Claim history

Loss submission details Insurer Loss

adjuster Reinsurer Loss

adjuster

Asset database

Weather statistics

Credit reports

Inspection provider

Authority report

Claim approved

Loss adjuster

Smart contract

Insuree

Initiate payment

1 1 4

5 3 2 6

7

5

2 3 4

6

• Loss information is submitted by the insuree or smart asset (via sensors or external data sources if the asset is technologically capable), triggering an automated claim application

• For insurance policies issued via a smart contract, insurees receive feedback regarding initial coverage in real time • Claim due diligence is automated via codified business rules within the smart contract, using information submitted by the insuree • Blockchain automatically utilizes secondary data sources to assess the claim and calculate the loss amount • Depending on the insurance policy, a smart contract can automate the liability calculation for each carrier where a syndicate (or

insurers or reinsurers) exists • In predetermined situations, the smart contract can trigger an additional assessment of the claim in order to reach a final

decision/calculation • If the claim is approved, payment to the insuree is initiated via a smart contract

Future-state

process description

Future-state

benefits

• Simplified and/or automated claim submission: through a smart contract, the claim submission process will be simplified and/or fully automated (in cases of smart assets)

• Enhanced customer experience: through the streamlined transfer of loss information from insuree to insurer, Blockchain eliminates the need for brokers and reduces claim processing times

• Automated claim processing: business rules encoded in a smart contract eliminate the need for loss adjustors to review every claim (functionality will enable the loss adjuster to review the claim and provide a decision, in specific risk situations)

• Reduction in fraudulent claims: the insurer will seamlessly have access to historical claims and asset provenance, enabling better identification of suspicious behaviour Integrated data sources: Blockchain facilitates the integration of various data sources from trusted providers with minimal required manual review

• Streamlined payment process: in most cases, the smart contract will facilitate the payment automatically without effort from the back office

1

1

2

3

4

5

2

3

4

5

6

7

131

Banks key strategic issues for Blockchain

•The most impactful Blockchain applications will require deep collaboration between incumbents, innovators and regulators, adding complexity and delaying implementation •Updating financial infrastructure through Blockchain will require significant time and investment

Blockchain today and tomorrow

Keys

Null

Medium-low

High

Medium-high

Medium

Importance of aligning key

stakeholders for collective action

(difficult balancing of interests in the face

of diverging interests and zero-sum games)

Importance of changes to existing

regulations, standards of practice, and of the creation of

new legal and liability frameworks to implement new

financial infrastructure

Time and investment requirements to replace existing

financial infrastructure by

Blockchain

Importance to take into

consideration all three key

observations for Blockchain

implementation to be successful

Key observations to be taken into consideration for Blockchain successful

implementation

Blockchain enablers

Blockchain could disrupt financial intermediaries and its impact will depend on the future cooperation as well as the adoption by existing or new market players with a related potential risk for Banks that profit pools could shift to new players

Source: Personal analysis, World Economic Forum, Deloitte, Morgan Stanley, Evry

•Cost mutualisation: Banks will need to share infrastructure build-out costs equitably if new systems are to be truly inter-operable industry utilities this is potentially subject to organizational disputes as users assess how much to invest or customize (which degrades of interoperability and speed) and by which measure to allocate costs among participants (ex.: by revenues, by market share,...)

•Governance: key operational issues are not technology but process and governance related (ex.: who would be in charge of maintaining and managing the blockchain) •Regulation: regulation is critical in driving to a fully dematerialized environment

132










Annexes

133

Source: GSMA, IEA (Institute of Economic Affairs - UK), Equity Bank, BankingHub, EuroMoney

• For Mobile Operators, mobile money does not usually represent an opportunity to serve a new market segment; instead, it allows them to cross-sell a new service to customers whom they already serve (i.e., their own subscribers) or compete for (the subscribers of other mobile network operators)

• Given the increasing competition in developing countries among operators for share of the mobile business, and the increased propensity of customers to churn from one operator to another in search of a lower tariff, differentiation has become a primary strategic objective

Why Mobile Banks

•Mobile Bansk started as a payment service performed from a mobile phone, although now it is evolving into a platform to also include a limited range of other Financial Services

Mobile Banks

Mobile Banks enables users to access their money anywhere and at any time without the need for a traditional bank

•M‐banking succeeded in Africa and Asia largely because it catered to needs that the rest of the financial system simply didn’t supply that is financial inclusion for the Unbanked and the Under-Banked: M-banking offers

accessibility: branches are few and distant

M-banking offers cost-efficiency for the customers: saves on travel time and saves on travel expenses

Where Mobile Banks succeeded


Developed countries

• In the developed world people have retail bank accounts even only Mobile Banks are unlikely to have a significant impact: In Europe a considerable

number of well‐funded operators failed to deploy m‐payments systems

Poland has the global test bed for Mobile Banks, but results are still doubtful

Selected players

Kenya

Rwanda

Nigeria

Pakistan

Tanzania

Côte d'Ivoire

Philippines

Poland

Poland

Poland

+

+

Key takeaways

2

1

134

Banks role with M-Pesa

Source: IEA (Institute of Economic Affairs - UK), ComViva

Text based technology

Safaricom, with a platform called M-PESA, invested in the infrastructure, trained their agents all over the country to become Mobile Money agents and simultaneously promoted awareness

Today, a large portion of Kenyan GDP is channeled through M-PESA

Safaricom have been unquestionably very successful, and can even facilitate a limited range of loans, savings, insurance products as well as financial transactions

This platform is not just used by the rural poor and people with traditional bank accounts also use it for ease of making a payment

M-PESA may never replace the role of traditional banks, but it allows access to individuals who otherwise would not be able to make electronic payments

M-Pesa Key issues • A subscriber with a compatible SIM card creates an account in which to deposit funds on their phone, typically by purchasing a Mobile Money scratch card

• A user can then pay for a good or service with their mobile phone to another subscriber

• Both the recipient and the sender receive a text message con confirming the payment has been successful

• The recipient can then cash this money with a Mobile Money agent or keep their money in their account

• Telecommunication companies already have a network of agents selling air-time and so these agents’ functions can expand to include Mobile Money

•Mobile Money transactions are protected with a PIN number in a similar manner to using a bank card to provide protection to customers

How M-Pesa works

• The operator receives a transaction fee for every transaction Transaction fees are

typically small, at either a percentage or a at fee depending on the transaction

M-Pesa revenues sources

• SMS-based payment platform with mobile phone functioning both as sending device and POS terminal

• Does not require a smartphone, works with any device that can deliver SMS

• No payment ecosystem required to implement

• Limited to no interoperability between schemes

Commercial Bank of Africa had the exclusive role of custodian of M-PESA’s e-float

Its role can be understood as the ultimate M-PESA superagent, since any agent, suparagent or other business transacting with M-PESA which wants to buy or sell e-money must make a deposit or withdrawal with CBA

• CBA makes money three ways from holding M-PESA float: transaction fees since every time an agent buys or sells e-

money they must make a deposit or withdrawal with CBA the spread between what it charges borrowers and what it

pays the M-PESA agents to convert money to e-money have opened

accounts at CBA benefiting in terms of velocity

CBA revenues sources

Text based technology is widely used in developing countries for financial inclusion for the low-income masses and M-Pesa is the international benchmark

1

135

Source: IEA (Institute of Economic Affairs - UK)

• Two approaches are possible to Mobile Money: service

bank-led service

telecom-led

Possible approaches to

Mobile Banks in developing countries

• A Telecommunication Operators operates Mobile Money, while a bank provides the Financial framework Service

bank-led

Service telecom-

led

• A Licensed Bank operates Mobile Money rather than the Telecommunication Company

• Telecommunication companies have been restricted to providing the infrastructure for Mobile Money, through which bank services can be offered

• Kenya has been successful due to Mobile Money being telecom-led: in 2015 in Kenya,

country with a population of around 45m people, there were 131,761 Mobile Money agents and 26.5m customers ans so Mobile Money has become widely accepted

today, a large portion of Kenyan GDP is channeled through M-PESA of Safaricom

• Safaricom, the main player in Mobilie Money has been successful due to the high penetration of mobile phones throughout Kenya as well as a large unbanked population Subsequently, other

telecommunication companies have entered the market, but they still have a small market share in comparison to Safaricom

• There was also little regulation at the time, which helped facilitate market innovation

• Nigeria also has a large unbanked population and high levels of telecommunications penetration, however the Mobile Money experience here has not yet been successful

• in 2014 in Nigeria, country with a population of around 178m people, there were 0.8m adults using Mobile Money, demonstrating far less penetration compared to the Kenyan market

• The main blame for the slow take up of Mobile Money falls on the Nigerian Central Bank that has followed a bank-led model because of: protectionist reasons to avoid money laundering to concerns about a loss of control

• The bank-led model has proved less attractive to the Telco Companies, and has given them less incentive to develop the technology and infrastructure in Nigeria

• Banks also had less incentive to develop Mobile Money, which may compete with existing products and target typically poor individuals instead of their normal target of wealthy individuals

Mobile Money in developing countries has been successful only where Telecom Operators operated it and where not too much regulation was present

Explanation Kenya successful case Reasons of Kenya case success

Explanation Nigeria unsuccessful case Reasons of Nigeria case failure

1

136

• Poland is the global test bed for a stronger integration between Telco Operators and Banks Since the beginning of 2014, three out of four major Polish mobile

telecom operators recently launched banking activities either through JVs with banks or by developing their own banking platforms with the aim to increase the potential customer base (especially for banks) and facilitate customer acquisition with a focus on youth segments based on image and usage of telecom operators information

• Alior Bank (a Polish local innovative player) and the global telecommunications company TMobile developed in 5/2014 a strategic cooperation to form TMobile Financial Services expecting to attract 2 million clients within five years In 6/2016 clients reached a level of 558K with a 2015/16 growth rate of

6% that is insufficient to reach the target goal • Orange Poland (Poland’s largest telecoms operator) and mBank developed

in 10/2014 a joint mobile banking service Orange Finanse expecting to attract 1 million clients in three years In 6/2016 clients reached a level of 234K with a 2015/16 growth rate of

21% that is insufficient to reach the target goal • Plus, atelecom banks in Poland, emerged as independent banking services

providers applying for its own license creating its own bank Plus Bank

Source: BankingHub, Arthur D. Little, GSMA * ARPU: average revenue per unit is defined as the total revenue divided by the number of subscribers.

In developed countries the integration of financial services into the portfolio of telecom companies has been slow and less successful than expected and Poland has been the global test bed

Telco Operators key skills

Key initiatives in Poland

• In developed countries the integration of financial services into the portfolio of telecom companies has been slow and less successful than expected

Telco Banks in developed countries

• Polish mobile telecom operators launched their banking activities with the aim to: increase the potential customer base (especially for banks) and facilitate

customer acquisition with a focus on youth segments based on image and usage of telecom operators information

find new revenue sources, especially for telecoms whose market volume growth was limited because of high penetration and also due to the fact that growing price pressure negatively affected ARPU*, which has been fallen in recent years resulting in diminishing profits

Reasons to launch banking operations in Poland

• Telecom ventures allowed both banks and telecoms to grow their clients’ bases much faster than their traditional business which is why neither banks nor telecoms are considering to withdraw from such partnerships for now Telecom banks are

still working on extending their local presence and are trying to increase the activity of existing clients through a unique product offer as well as further raising awareness among potential clients using new distribution channels

Key takeaways

• The question remains how successful these banks are in making their client base profitable since, unfortunately, these banks are not reporting revenue figures separately

How the alliances are

going to evolve in the future

• Broader client appeal due to: trust of consumers

as a transaction partner

high mass-market awareness

stronger and more mature marketing skills

advanced client management

bundled products and communication capabilities

rapid value-added service development

2

137

Telco Banks

Traditional Banks

Source: Personal analysis, GSMA, IEA (Institute of Economic Affairs - UK), Equity Bank, BankingHub, EuroMoney, Arthur D. Little


Developed countries

Keys

Null

Medium-low

High

Medium-high

Medium

Telco Companies

Traditional Banks

1

2


138










Annexes

139

• Research commissioned by Tesco shows that retailing services customers are its most valuable and most loyal According to Tesco, customers who use two retailing services spend

four times as much in store than those who don’t use any services, customers with a Tesco credit card spend around 30% more with Tesco than lookalike* customers who do not have a Tesco credit card and customers with two retailing services are 25% less likely to lapse** over a 12-month period than lookalikes* without services

Large Retailers key strengths

The Tesco evidence

• In Europe large existing Retailers have entered the financial services market to support the turnover of their branches and to increase loyalty by offering payment facilities and credits In the UK they have then

expanded their offering with products such as current accounts and mortgages, thus further challenging the big banks

Retailer Banks

• Large Retailers launched their a full-fledged retail banking activities with the aim to: earn the loyalty of their customers with simple, transparent products

that reward loyalty use customer data to compete effectively with traditional financial

players and other retailers the insights they gains from loyalty cards customer data allow the

company to understand customer needs and make the most relevant offers in the store and in the bank

credit card rewards customers with points whenever they use their card

the growth of the bank allows Retailers to internalize within the Group interchange payments that would otherwise flows externally

Reasons to launch a full-fledged retail banking

• Broader client appeal due to: strong brand strong marketing know-how successful diversification

records product innovation

capabilities existing customer

relationships/infrastructure store and loyalty cards

Source: KPMG, S.Worthington, Planet Retail * Tesco defines “lookalikes” as customers with the same life stage, share of spend, lifestyle and preferred store but who do not use a Tesco Retailing Service ** “lapse” is defined as customers who have dropped two or more share of spend categories over a 12-month period

Key Retailer Banks

UK

France

UK

France

France

Germany

France

UK

Large Retailers have launched their retail banking activities to earn the loyalty of their customers and to use customer data to compete effectively with traditional Banks and other Retailers

• Figures indicate a strong relationship between customers of Tesco as a retailer and Tesco as a financial service provider

140

Source: Tesco, Sainsbury’s, Carrefour, Auchan, Casino

Selected key Retailer Banks players

• Sainsbury acquired 100% of the Bank’s share capital in 2014 prior to the acquisition the Bank was a JV with Lloyds Banking Group the Bank’s board has always been responsible for its strategy and

decision making • The Bank is developing a strategy which is aligned to the Sainsbury’s group

strategy to provide great products and services at fair prices • Sainsbury’s also aim to be the financial services brand of choice for their

customers and to expand their offer in this area

Tesco

UK

• Tesco Bank began as a 50/50 joint venture with Royal Bank of Scotland (RBS) in 1997

• In 2008, Tesco decided to buy out the 50% stake from RBS and take control of their own destiny by setting up a full-fledged retail bank

• Tesco Bank offers today a differentiated banking and insurance offer • Tesco Bank’s ambition is to be Tesco customers’ core provider of banking

services making banking and insurance simple and rewarding

Key takeaways

• 7,6Mln accounts at 2/2016

Key data

Sainsbury

(in Mil€) 27/02/2016

Revenue 1.259

Operating profit before

exceptional items 214

Lending to customers 10.827

Customer deposits 9.376

Services offered

UK

• Current accounts • Credit cards • Consumer loans • Mortgages • Savings • Insurance (all domains) • Travel money

• Current accounts • Credit cards • Consumer loans • Mortgages • Savings • Insurance (all domains) • Travel money

• 1,7Mls accounts at 2/2016

• Carrefour Banque was launched in 1981, in 2011 expanded in Italy and in 2013 in Belgium

• Its declared ambition is to offers a range of high-performance products: some of the lowest rates on the market for credit, attractive rates for insurance and high rates for savings

• In order to better serve its customers, Carrefour Banque focuses on both innovation and partnerships with recognized players that support the diversification of its activities

Carrefour

France

• Saving accounts • Term accounts • Credit cards • Consumer loans • Revolving credit • Insurance (all domains)

• 2,47Mln number of PASS cards in France, Italy and Belgium at 31/12/2015

(in Mil€) 27/02/2016

Total income 361


exceptional items 8

Lending to customers 4.250

Customer deposits 4.067

(in Mil€) 31/12/2015

Total income 393



Total assets 4.765

• Banque Casino was created in 2001 with the aim of marketing privative payment cards and credit solutions.

• A range of insurance products were then offered through a partnership with CNP Assurances

• Since July 2011, it is equally held by Crédit Mutuel-CIC and Groupe Casino

Casino

France

• Credit cards • Consumer loans • Revolving credit • Insurance (all domains)

• Customers number is not known (in Mil€) 31/12/2015

Total income 122

Net income 2

Customer loans 851

• Oney Bank Accord, founded in 1983, is Auchan’s banking subsidiary and operates in 11 countries

• Auchan declares that it is the only French bank that is totally independent from any major banking group

• Its mission is to boost clients’ spending power meeting every financing need and facilitate sales, win and retain customers, benefit from innovations in new payment methods (mobile, contactless or web-only payment solutions)

Auchan

France

• Saving accounts • Credit cards • Consumer loans • Insurance (all domains)

• 8,1Mls customers, of which 4.2 million in France at 31/12/21015

(in Mil€) 31/12/2015

Total income 387



Customer loans 2.673

141

Source: Personal analysis, S.Worthington

Large Retailers have launched their retail banking activities to earn the loyalty of their customers and to use customer data to compete, but they do not represent a big threat to traditional Banks due to their current small size relative to their banking markets

Retailers

Traditional Banks

Retailer Banks vs. Banks


• The challenge to become a mainstream players in full-service retail banking can only be achieved with significant acquisitions

Next steps for Retailer Banks