Get to the Core of the Problem

Mitch: Welcome back to Lending Made Easy today. I'm joined again by David Catalano and Bryan Peckinpaugh. And we're going to talk about a topic. That's a no pun intended core to a bank success. So last year, Forbes surveyed us banks about their top challenges. And some of the results that we saw were 59 percent of the challenges were legacy infrastructure, 53 percent lack of real time access to data, 51 percent stated lack of agility. 38 percent said lack of digital experience. So, Bryan, David, when you start thinking about these top challenges, especially this highest one of legacy infrastructure, seems to put a spotlight on core systems. So, as the banking industry is evolving, how do you see core technology evolving along with it?

Bryan: I think we're starting to see some entrance from a cloud based core perspective. We're seeing some come over from the UK where it is more open banking environment that are trying to get a foothold in the United States. So, you know, we're, we're seeing people try to tackle the problem. You know, I think the fundamental challenge that I see is those of all more or less sprung up in the last 10 years, and they're trying to catch up on 50 years of development that the legacy core providers have done. So that makes a big bang type core conversion very difficult. There's been a lot of stories in the news and on LinkedIn and things of some of the challenges people have faced as they've tried to go through those types of rollouts, you know, moving to a modern core, replacing a legacy system.

So I think there's a lot of work to be done. We're seeing a lot more success in the side car type approach. Where bring something in that's more, more modern, more open, more API accessible to serve niche products. Maybe I'm launching something new in the consumer space or I'm trying to get into a different experience from an online channel that has proven to be a lot more successful.

So you can kind of do it over time potentially, but that's what I've seen is just the challenge of a big bang replacement. When people are doing those core takeaways or core takeouts, they're still, for the most part, selecting one of the ones that has existed for quite a long time. 

David: Yeah, we've done those coexistence type deals where you've got a credit union who's at an old core can't service commercial loans. They want to move into commercial lending or member business lending using their terms. They buy our solution and they have no way to service it. So they're standing up a second core to do that.

But let's step back a little bit and define the problem here. You've got a cash cow. Right? So you've got cores that are mature. There's no growth and the buildout was years ago. So where's the motivation to invest if you've already got, you know, a strong market share, there's no ability to sell additional cores.

So you're using the free cash flow generated from your core sales to fund other portions of your business. It's a classic problem. And really requires new entrants to come into that industry and decide they're going to push and steal market share because there's only market share to be stolen. I mean, you can't just, you're not going to the de novo markets just not big enough to drive what we're talking about here.

So I just don't see core providers making the type of investments required to replace legacy and if you look at the cobalt market, it's robust. I mean, just there's plenty of evidence out there that cobalt is alive and well and continuing to thrive in the world of large computing in banking, insurance, lots of places, but I don't see that going away.

Meaning that people are not migrating these over to digital solutions. I just read the earnings report that just came out in February for one of the core providers and their business grew organically with the exception of their bank business. So the core business did not grow, it actually shrunk, but their margins expanded.

Well, how do you grow a margin without an intricate revenue where you basically make cuts. So that's not the sign of a big R and D effort into core systems. I think it'll require third parties to come in and take out that market, basically disintermediate the existing core providers and come at it from a different perspective.

And then they'll either be able to transition all of the bank over or do a coexistence model where they stand up for an initial solution, like that example with member business lending, and they slowly migrate services over until they can run the bank on the new solution. But if you think about cores and they've been around since the 70s and the 80s they've had lots of what we call roadmaps or basically enhancements.

So if you're running a branch banking system, think of all the enhancements over 25, 35 years to just to function in those environments, regulatory environments, think of the regulatory requirements. So it's, it's just a huge undertaking and I think it really is the ball and chain of bank and especially a community bank without tons of extra money. Larger banks, obviously generate a lot more money than these smaller banks. Smaller banks are not going to be able to make these types of shifts unless something material changes.

Bryan: There's a nuance here that tends to get missed, and we've talked about it a little bit on some prior podcasts where you've got to consider not just the core, but the overall integrated ecosystem. So people talk about core modernization, they talk about cloud based cores, you know, oh, I want to move to something that's more open, that's more flexible, that, I can wire into the things that I want to use, and it looks good on paper, and it's a great aspirational vision, but the reality is, somebody's got to pay the piper.

Somebody has got to pay the cost to build those integrated solutions. And David, as you mentioned, the community banks typically aren't going to have the budgets for that kind of custom deployment. And targeted solution, whereas the five serves the F. I. S.' the Jack Henry's of the world have spent the entirety of their time in market, not just on the core, but on all of the surrounds and how they work together and feed to and from those core solutions.

So you may not get flexibility, but you get an integrated solution that works. Whereas putting a new modern core in that is infinitely open. Sure you can pick and choose the things you want, but somebody's got to integrate it and I'll liken it to, to our approach here at Baker Hill for LOS, which isn't as complicated as the core where we have picked providers that we productize integrations to so that you can more rapidly deploy a loan origination system. I don't have to integrate my flood provider. As an example, we come out of the box with two options that just work and you can use either one of those and be off and running quickly. As opposed to having to build a custom integration for every time you do an LOS project.

And that I think makes things much more appealing to a community bank where you don't have to make all those decisions. You don't have to have the IT resources to build, pay for, support, custom integrations. You see that just at scale in this core banking market. It's quote unquote easy to put in the core. It's how do I make it work? How do I make it function with all of the necessary surround components that allow me to operate my bank because it's not just the core. It's how do I do deposit account opening? How do I do teller work? How do I do loan origination? How do I do online banking payments, cards, et cetera, that all have to be factored into that, which is why those big bang approaches are difficult and expensive as opposed to going with something that's tried and true has all the integrated components. I get them all from one person and. You could have a De Novo. You've mentioned those. David stood up in less than 12 months with a full core plus surrounds. If you go with the tried and true, which is going to be the case. If you've got to build those custom integrations, that's part of your project.

Mitch: I am by no means an expert here, but kind of what I'm hearing and correct me if I'm wrong is when a bank's looking at their core system, it's kind of the approach of if it's not broken, don't fix it. But it's also such an integral part of the data infrastructure that as they try to advance , some of this is causing what those surrounding solutions, Bryan, that you were talking about.

That's what's causing some of the, maybe a little bit of friction here. Am I pretty accurate in my assessment there? And if so, I want to talk a little bit more about that. If it's not broken, don't fix it. This is a really kind of the centerpiece of institutions, data infrastructure. How then does a bank come in and say, evaluate other solutions that are going to be those building blocks for the rest of their business? And how does that relate back to maybe a legacy core system that they have? And, what should a bank be looking at whenever they are looking at modernization efforts for the rest of their institutions?

Bryan: I think that's a great phrase, Mitch, if it ain't broke, don't fix it, because that's where the sidecar cores can come into play is, well, what is broke? Or what are you not doing today? It's not working or broken, it's you don't have it. And is that an opportunity to start a journey on modernization? Do I, as a financial institution, want to get into some kind of buy now, pay later financing?

That'd be a great approach to bring in some type of modern core type platform or modern servicing type platform that has worked with those providers in the past and has some experience and has built out the capabilities to work in that space. Do I want to enter more into credit cards and, you know, doing that in an online channel maybe.

Maybe I'm a bank that hasn't yet dipped my toe into online account opening and I want to you know, launch more of a digital bank. Great use case for that kind of technology where you can build it into a strategy of either fixing something that is broken and using that as the opportunity to stand up a sidecar or launch a new market or launch a new offering , that's digitally focused. Using those business drivers as the reason to select technology as opposed to thinking about it as a core replacement. So let that continue operating. And then once you have the sidecar, you can start evaluating over time. What do you want to move to it? Because then you can drive those on those integration discussions. So maybe I look at it and I say, my HELOCs are working okay on my legacy solutions, but maybe I want to make a big splash and I see value in one or two solutions in the market that don't yet integrate with the legacy components that I have, but I'll pay to integrate them to my sidecar core because I think I can drive differentiation in the market growth, et cetera.

So the cost benefit is there for me. That's another great opportunity once you have them in place to start shifting your business over time.

David: And then you have to have a sidecar that has this capability of doing the things that you want to do. And, you know, a lot of them just aren't going to do everything that you potentially want them to do. They're just not ready to do that. You know, I think another problem besides the cash cow problem is the publicly traded company problem.

So you've got quarterly earnings, you've got segments that you're managing in those larger publicly traded companies. And if you're investing heavily in R and D in a market, that's not growing. I mean, how is that going to produce results that you need? So I just see this as a quandary and I don't see an easy, simple solution anytime soon.

Mitch: Bryan, David, thank you guys for sharing your insights today. I think an interesting conversation, especially as a lot of institutions are looking at improving technology and improving the customer experience through implementing new technologies. So thank you guys for sharing and thanks everyone out there for listening to today's episode of Lending Made Easy.