While the news is littered with predictions and guestimates of how Brexit will impact UK business, there is a quiet revolution taking place that might well be a game-changer for British SMEs.
Ironically, this revolution is driven by European legislation and relates to the finance and banking sector. Called Payments Service Directive 2 (PSD2) it is set to shake up the way both consumers and businesses pay and get paid by increasing pan-European competition in the payments industry. ‘Open Banking’ is a direct result of PSD2 and for the first time, most small businesses will be able to share their banking data securely with trusted third parties via APIs (Application Programming Interfaces) that allows providers, other than their bank, to make payments from their account. Put simply; data is king and collaboration and sharing of information and services, the likes of which we have never seen before, will become the norm.
With European countries obliged to incorporate the new rules into national law by January 13th 2018, there is a scramble amongst fintech companies, financial institutions and banks to take advantage of the legislation; or in the case of some, bury their head in the sand or push back against the new requirements.
Four reasons why Open Banking should be on the radar of business owners
So why is this so important for SMEs in the UK? There are four main reasons why Open Banking should be on the radar of all business owners:
- New APIs will make payments faster and easier for SMEs because they are designed around the needs of today’s businesses – rather than an existing legacy banking system
- Account aggregation will see third parties compiling information into a single place to make money management easier such as cash flow credit and supplier management
- New data sharing will see an overhaul of the credit ratings system and availability of information that could potentially help businesses recruit new overseas clients, negotiate better supplier terms as well as access new streams of capital
- Lenders and banks who grasp Open Banking as an opportunity could become more ‘business and SME friendly’.
The good news for the UK is that it is well ahead of the game in the implementation of Open Banking compared to its European peers. Already recognised as leaders in fintech, innovative UK companies are fizzing with creativity and energy in a bid to create the go-to tools and apps of the future to help SMEs make the most of Open Banking. Many of these new innovations have been stimulated by a recent Nesta-led initiative called the Open Up Challenge. Selected by the CMA as one of a package of remedies aimed at shaking up banking, the Open Up Challenge is supporting 20 teams to develop game-changing solutions to some of the greatest challenges that SMEs currently face.
These will include solutions that will drive transparency, make financial administration easier and in our case, support SMEs with access to credit, allowing them to negotiate better commercial terms by being able to demonstrate their creditworthiness. Existing credit scoring is no longer fit for purpose as data utilises submitted accounts that are inherently 15-18 months old. In addition, SME credit scoring typically doesn’t speak the language of the rating agencies and banks, meaning a lender’s SME loan portfolio cannot be securitised and used to unlock further capital.
Currently, only 2 per cent of the €400 billion securitised transactions in Europe were backed by SME collateral compared to 62 per cent consumer. Concepts like the ‘Credit Passport’ take advantage of Open Banking by combining newly available banking data and financial scoring, to generate a compliant credit rating for SMEs with real-time behavioural banking data at its core. For the first time, Open Banking provides us with real-time access to credit information and third-party access to granular banking data.
A win-win for SMEs and the financial community
This is a win-win scenario for both SMEs and the financial community. Banks and lenders gain better visibility and risk transparency that can subsequently fuel a greater propensity to lend to SMEs. If this plays out as we predict, then we could see greater liquidity develop in the market and a growing confidence in SME securities as a stronger and more viable investment option.
While countries and organisations are still grappling with the concept of PSD2 and the inevitability of Open Banking in January 2018, the UK is innovating alongside the Open Banking agenda for the benefit of SMEs. What is clear is that trust and credibility are going to be significant in the coming years as fintech groups, banks and lenders fight it out in a bid to be the favourite of the SME sector and this is a space where the superior tech and customer experience will rise to the top.
While Theresa May negotiates our divorce from the EU, we will watch the birth of a new banking era with interest as the brave and the innovative battle it out to win the confidence of the millions of SMEs in both the UK and Europe.
Alessio Balduini is CEO of Credit Data Research.