Until now, reducing costs and improving flexibility have driven the development and change of core banking systems. However, the burden of new regulations is also putting pressure on banks to unify their customer and product data.

Recent research from the UK’s Institute of Financial Services shows that nearly 60% of banks are considering a major overhaul or replacement of core banking systems in the next three years. This investment is being driven by a desire to cut costs, improve the ability to develop new products and to take advantage of new developments in the delivery of technology services.

The stakes are high: according to research and analysis house TowerGroup, core banking systems eat up more than 25% of a retail bank’s IT budget. However, lurking in the background is another driver; the increasing requirement for a common view between the core banking systems and the growing number of regulatory reporting environments.

Single view

There is an increasing need for institutions to return to a single database view of their customers and products.

Many institutions are still stuck with core processing environments that directly link the product to the process to the channel. Formerly, when banks introduced new products, a development project was often required to enable the institution to sell and process the product. This approach gave banks the opportunity to introduce new services without the costs of changing the whole software environment. However, it then meant that each product and each channel became separated from the other services offered by the bank.

Link requirement

This is a real problem when there is a growing interest in linking products together. At one level, the requirement for linkages between channels and products is to enhance the customer relationship management (CRM) environment. The goal is to cross-sell products to those people who already have a product that can be directly linked to another product – such as a mortgage customer being cross-sold a house insurance policy.

Many solutions exist for this, and huge investments in middleware and CRM systems have been made to create linkages between channels, products and customer intelligence. However, these fixes simply preserve the “stovepipe” structure of separate products. There is a growing need for a more direct link between products.

Complex concepts

Product concepts – such as the offset mortgage, where savings products are linked to mortgages and interest is paid according to the net balance – are the obvious example of how a direct operational link between products is required. For most institutions, creating such a direct link able to calculate a daily net balance and charge an interest rate against that net balance ranges from complex to impossible. These types of products that are spreading slowly in the UK are usually only open to institutions that redevelop their core banking and mortgage systems to allow this offsetting, or are created as a separately branded and separately managed operation.

Taking this latter approach serves a double function. It stops the traditional mortgage products from being damaged by the new product offering and creates a clear division between the traditional products and the new offset product. It also means that instead of requiring a wholesale replacement of core banking systems, a smaller system can be purchased to deal with the smaller scale of the new offset entity. This will manage the costs, while giving the banks a newer environment in which to build the new products. In effect, another stovepipe is created, with the offset product being an entity in its own right, probably with limited crossover with the legacy bank and its legacy systems.

Long-term goals

In the UK, a number of the smaller mortgage operators have moved to redevelop their core banking environment to give themselves long-term flexibility.

Some are doing so to drive down costs, others to allow future business development – however, although one starts as the driver, the other benefit tends to come for free.

In 2003, the Skipton Building Society decided that by replacing its mainframe core processing and branch automation systems, it could reduce its annual IT costs by 65%. Traditionally a Unisys LINC mainframe house, Skipton introduced two new systems based on JADE, the development environment that shares a heritage with LINC. The BISHOP system is the building society’s mortgage and investment processing application. Servers running Microsoft Windows 2000 Datacentre have replaced the mainframes.

David Cutter, Skipton’s operations director, says: “The move to JADE on an open platform has taken us from a limited position, in terms of IT, to one of flexibility and scope.

“The new system supports our business processes rather than dictating them. As well as cutting costs on hardware, we are saving time and costs by not having to switch between or connect disparate technologies for programming. We have put the society on an open platform, which is more future proof, is more easily internet-enabled and gives us a development route map, which allows the society to return to having a single database.”

Coupled to BISHOP is CASTLE, the Skipton’s new branch automation system based on JADE and thin client architecture. This means that servers and the bulk of processing is centralised remotely, and client terminals connect into this over the network. Removing servers and thick clients from branches will lead to substantial savings in management and maintenance and will also reduce the risks associated with having thick clients around the network.

The single database is seen as critical in this development as it will enable extensions to the core banking system to perform the tasks of a CRM environment easily and will allow easier risk and regulatory reporting. Above all, it will enable the quicker construction of new products to give longer-term flexibility.

One-touch approach

The Britannia building society has been going through a similar process. It has replaced its old ICL mainframe environment with one based on Sun UNIX servers. The programme, costing Ł60m, will lead to savings of Ł100m and the ability to introduce new capabilities.

A key area is having a “one-touch” approach with new core mortgage and investment tools that share information through a common data structure, with tools such as CRM systems being integrated into this core environment. Britannia managed to produce an offset mortgage within a few weeks of its decision to launch the service.

However, it is not only the need to cut costs and introduce new products that is driving institutions to consider new core environments. Reforms in bank regulation – especially Basel II, anti money laundering legislation and accounting practices reforms, such as IAS – are all putting pressure on institutions to consider how they manage data.

Data distinction

The clear separation between data used to manage the bank directly and reported data in the form of regulatory and accounting reporting, is becoming less distinct. As Basel II and IAS make the approach to managing capital and reporting financial results more closely match the way the banks operate (such as by making capital requirements more risk-sensitive), banks are being challenged by the need to create a single data source for all their reporting requirements.

The challenge for many firms will be whether they create a single data view for both customer service and product manufacturing and a separate single data view for regulatory reporting. The cost of replicating this data across the two environments and ensuring they are aligned will be great, but would be much simpler to implement than creating a single database that is common to both operations and reporting.

Crossover benefits

There is clearly a desire to achieve some form of crossover. Research by the Institute of Financial Services, IBM and SAP in summer 2003 (see chart) showed that 72% of firms would like to achieve some form of crossover benefit from the investment in Basel II solutions. Whether they will be able truly to effect an alignment between core banking systems and regulatory reporting tools looks less likely in reality.

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