The Hidden Risks and Meanings in Fintech Vendor Earnings Statements
Legacy fintech vendors (in contrast to the nouveau startup fintech firms) have been releasing their 2017 earnings statements, and a couple of them have caught our attention:
- NCR reported a 6% decline in hardware revenue for the 2017 calendar year. While software and services each saw a 3% increase for the whole year, Q4 2017 year-over-year revenue for software licenses dropped 8%, and ATM services declined by 21%.
- For Diebold Nixdorf, compared to pro forma December 31, 2016, the year ended December 31, 2017 saw a 9.6% drop in banking sector revenue and a 13.6% decline in the Americas geographic region revenue.
We're not securities analysts here at Cornerstone, so we're not going to comment on what these earnings statements might mean to the companies' stock prices. But we do help financial institutions make strategy and technology decisions. Discussing this with my colleague, Cornerstone Senior Director Sam Kilmer, we came to the conclusion that the reports from these two vendors (and others) point to some larger truths about what's going on in banking:
1) Maybe branch transformation ain't what it's cracked up to be. Every day sees multiple news items in the financial press about banks' branch opening and closing plans. "BofA is closing 1,000 branches: See! Branches are dead!" "Chase is planning to open 500 new branches: See! Branches are alive and well!" Regardless of which side the branch death watch you sit on, there does seem to be consensus that branches, at the least, need to be transformed--with "places to get advice" the most-often cited goal of the transformation.
If there really was a mass branch transformation effort taking place within the industry--with banks and credit unions looking to cut costs by replacing branch staff with ITMs, and looking to enhance the advice-providing capabilities of the remaining staff with CRM, analytics, and information tools and technologies--wouldn't the revenue prospects of leading vendors like NCR and Diebold look good? If it did, Diebold's interim CEO wouldn't be saying "the hardware business continues to be under pressure in the banking market" in the firm's earnings press release.
The likely reality here is that despite the press reports--and various consumer research studies--branches really are in the dying process.
The consumer research is particularly misleading. According to Novantas, 60% of Americans said they would rather open a new checking account in person at a bank branch than on a phone, tablet or desktop computer. Two questions should come to mind hearing this: 1) Are those 60% of Americans actually in the market for a new checking account today or in the near future? and 2) Is the reason they would prefer to open an account in a branch versus a digital channel because the digital experience just isn't that good right now?
There's a popular saying that goes: "Data don't lie." That's nonsense. Remember Shevlin's Law: For every data point that supports one conclusion, there are two data points that refute it. It may be early to tell, but the NCR and Diebold data points may be refuting the Novantas finding.
2) Bank and credit union execs may be overlooking an important element of risk. Sam makes a key point about NCR's and Diebold's financial results:
”The fact that both NCR and Diebold reported earnings declines is important. They're the Coke and Pepsi of the bank channel industry. Both providers of branch hardware have diversified by touting their "omni-channel" (NCR) or “more than omni-channel” (Diebold) capabilities. Although one year of declining earnings doesn't put them in the same realm as the startups who may never have turned a profit, they don’t have the client and revenue growth of the startups."
While firms like NCR and Diebold are in no danger of going out of business, there is an overlooked element to their (and other established fintech vendors') financial weakness: Turbulence from talent attrition.
In technology selection projects, we hear FI execs talk about the potential risks of doing business with unprofitable startups. Good point. But what about the risks of doing business with marginally profitable or unprofitable legacy firms with maybe high talent turnover?
Nobody's got a better sense for the long-term prospects of a fintech vendor than the best account reps, software engineers, and senior execs in that firm. And what do they do when their failure sensors go into the red? They bail. They leave for the startups where the growth prospects are strong--even if the current financials for those firms don't look so great. So, ironically, as financial institutions resist doing business with startups, good people from the vendor community flock there. We've seen that with the movement of folks from long time vendors like D+H and NCR (Digital Insight) to more recent startups like Alkami and Q2.
There's a popular saying that goes: "Skate to where the puck is going." Shouldn't bank and credit union execs do the same?
Reading the Tea Leaves
We don't want to make a mountain of a potential mole hill regarding the vendors' earnings. The two cited here are large, complex, global firms whose bottom-line results are impacted by a number of lines of business, industries, and geographies. But their financial results may hold clues to broader trends in the industry.
Director of Research