Core Banking Solution on ASP model for US

Community Banks

Authors
Shankar Sundaramoorthy
Practice Head - Banking Practice

&
Prashant Kumar
Associate Consultant - Banking Practice

iGATE Global Solutions Limited

158-162 (P) & 165 (P) -170 (P) EPIP Phase II
Whitefield Bangalore -560066, INDIA

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 Table of Contents

1. Objective .................................................................................................................. 3
2. Core Banking Solutions for Small Banks ............................................................. 4
3. Community Bank..................................................................................................... 4
4. Credit Unions........................................................................................................... 5
5. Core Banking Solutions for Small Banks in depth .............................................. 9
6. Functional Coverage of the Core Banking Solutions .......................................... 9
7. Technical Coverage of the Core Banking Solution............................................ 11
8. Other Features of the Core Banking Solutions .................................................. 11
9. Viability of Using ASP / SaaS model in core banking implementation ............ 14
10. Market Potential for SaaS / ASP model ........................................................... 14
11. Conclusion......................................................................................................... 15

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1. Objective

The objectives of this research paper are:

• To compare the nature of business and products offered by US Community banks and
banks.

• To compare the core banking products targeted at community banks.

• To study the viability of offering core banking solution on ASP model aimed at community
banks.

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2. Core Banking Solutions for Small Banks

Core banking is another way of saying the core functions of a bank. These functions represent
the essential (core) business of banking. Because of the plethora of services banks now provide,
it is easy to forget that the root of banking is accepting deposits and lending money. The definition
of core banking may have been muddied by the emergence of packaged computer solutions
which combine core banking functions with other elements of a bank’s operations but at the most
basic level core banking manages financial transactions and their impact on the accounts of its
customers.

Core banking solutions for small banks are those solutions where more than 80% of the banks
using the platform have less than US$1 billion in assets.

Core Banking for Small banks focuses primarily on Community Banks and Credit unions.

3. Community Bank

Community bank is locally owned and operated commercial bank. It derives its sources of funds
from, and it lends money to, the community where it operates, and is not affiliated with a
multibank holding company. According to the FDIC, community banks comprise most of the
commercial banks in the US, numbering 3,771 at the end of 2007. Not all community banks will
be restricted to a specific geographic area (for e.g. community first bank shares), hence a
common applicable definition is difficult. Generally most studies on US banking define community
banks on the basis of the nature of clientele (small business), geographic reach (generally
restricted to a particular region), size (less than $1 Billion) and different parameters applied to
provide loans (more personal than statistical data is relied on).

Products

Community Bank provides full Business Banking services including Commercial Lending, Leasing
and additional services ranging from Financial Planning to Wills.

Features of Community Banks

Some of the important features of Community Banks are mentioned below.

1. Community banks focus attention on the needs of local families, businesses, and
farmers. Conversely, many of the nation's mega banks are structured to place a
priority on serving large corporations.
2. Unlike many larger banks that may take deposits in one state and lend in others,
community banks channel most of their loans to the neighborhoods where their
depositors live and work, helping to keep local communities vibrant and growing.
3. Community bank officers are generally accessible to their customers on site. CEOs at
mega banks are often headquartered in office suites, away from daily customer
dealings.
4. Community bank officers are typically deeply involved in local community affairs,
while large bank officers are likely to be detached physically and emotionally from the
communities where their branches are located.
5. Many community banks are willing to consider character, family history and
discretionary spending in making loans. Mega banks, on the other hand, often apply

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 impersonal qualification criteria, such as credit scoring, to all loan decisions without
regard to individual circumstances.
6. Community banks offer nimble decision-making on business loans, because
decisions are made locally. Mega banks must often convene loan approval
committees in another state.
7. Because community banks are themselves small businesses, they understand the
needs of small business owners. Their core concern is lending to small businesses
and farms. The core concern of the mega bank is corporate

4. Credit Unions

Credit union is not-for-profit financial institution typically formed by employees of a company, a

labor union, or a religious group and operated as a cooperative. Credit unions may offer a full
range of financial services and pay higher rates on deposits and charge lower rates on loans than
commercial banks.

The National Credit Union Administration (NCUA) is the federal agency that charters and
supervises federal credit unions. They also insure savings in federal and most state-chartered
credit unions across the country through the National Credit Union Share Insurance Fund
(NCUSIF), a federal fund backed by the full faith and credit of the United States government.

Classifications of bank

The banks in US are generally differentiated based on the size of the deposits held. The
classification is provided below;

Size of deposits Nature of a Bank

> $100 Billion Mega Bank
$10 - $100 Billion Super regional
$1 - $10 Billion Regional
< $1Billion Community Banks

A credit union may fall under any of the four definitions based on its size of deposits. Majority of
them are small in size and hence will come under community banks. The difference between a
general bank and credit union is defined by the shareholding. Credit unions are required to
ensure that its clientele become shareholders of the bank.

Products

Credit unions will typically offer the same products and services as larger banks. However, some
credit unions will choose not to offer every product and service out there. The reason is that these
credit unions do not do the same amount of volume that larger banks do. Banks can afford to
have “loss-leaders” or products that get customers in the door. Credit unions will more likely only
offer the products and services that a large portion of the membership is likely to use.

Comparing Credit Unions and Banks

There are many significant differences between credit unions to banks. Credit unions promote the
financial well-being of members, including those of modest means, through a system that is
cooperative, member-owned, volunteer directed and not-for-profit. Unlike banks, credit unions

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exist solely to serve their members, not to pay high dividends to an outside group of stockholders.
Credit union income is returned to members and that's why credit unions can offer higher interest
rates on deposits and lower rates on loans.

STRUCTURE
Credit Unions / Community Bank Banks
o Credit Unions are member-owned, not-for-
profit financial cooperatives
o Credit Unions operate under a one
member, one vote system
o Most credit unions have volunteer, unpaid
boards
o Earnings of credit unions are returned to
members in the form of higher interest rates on
deposit accounts and lower loan rates (minus
operating expenses)
o Banks are for-profit, board and
stockholder controlled, financial corporations
o Stockholders hold influence in the bank
based on the total value of their stocks
o Customers of a bank who are not
stockholders do not own a financial interest in
the bank
o Boards are compensated for their
service
o Profits of banks are divided among the
stockholders (minus operating expenses)

TAXES
Credit Unions / Community Bank Banks

o Banks do pay federal income taxes on

o Credit Unions do not pay federal income tax
on earnings however state chartered credit
unions do pay other relevant taxes such as
payroll, property and sales taxes
o Credit Unions were granted by Congress,
a federal tax exemption based on their unique
structure as non-profit cooperatives
corporate profits, although there are many
banks that qualify for tax exempt status under
subchapter S of the IRS Code
o Banks do not have a tax exemption
because they are a for-profit business
intended to provide profits to their
stockholders. Their non-stockholder
customers own no financial interest in the
bank. Banks have paid more in dividends to
stockholders than they paid in income taxes
each of the last eight years.

MARKET SHARE AND ASSET GROWTH

Credit Unions / Community Bank Banks
o Total credit union assets are $629 billion
o Average credit union asset size is $66 million o Total bank assets are $9.1 trillion
o Credit Unions have grown to $629 billion in o Average bank asset size is $986 billion
95 years. . o Banks grew $641 billion in 2003 alone
o Total credit union market share is 6% o Total bank market share is 78%

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 MEMBERSHIP
Credit Unions / Community Bank Banks
o Under federal and state laws, credit unions
may only offer membership to individuals who
belong to a select group. Other credit unions'
field of membership is defined by geographic o Banks face no restrictions on who they
boundaries. serve

RATES AND FEES

Credit Unions / Community Bank Banks
o Membership requires a deposit of as little as
$5
o On average, compared to banks, credit unions
pay members higher dividend rates on deposit
accounts and offer loans at lower interest rates
o Earnings from credit unions are given to
members in the form of higher deposit rates and
lower loan rates
o Credit Unions offer attractive pricing that puts
pressure on the other financial institutions to
offer more attractive rates, although in may
cases not as low as a credit union. Without
credit unions, bank customers would most likely
pay more for their financial services.
o Savings to credit union members is estimated
to have been $6.3 billion in 2002. $2 billion of
the $6.3 billion total benefit represents the
greater yield on savings that members receive
from credit unions compared to bank interest o Banks usually require a minimum deposit of
rates. $2.3 billion of the member benefit comes $50 to $100 to open an account
from the lower rates that credit unions charge on o Compared to credit unions, banks pay the
loans compared to banks and the other $2 customer lower interest rates on deposit
billion of the credit union advantage is because accounts and offer loans at higher interest
of lower service fees at credit unions compared rates
to banks. o Earnings from a bank are given to
stockholders as profit sharing

Difference between Credit Union and Other Financial institution are mentioned below.

Credit Unions Other Financial Institutions

Not-for-profit cooperatives Owned by outside stockholders
Owned by members Owned by outside stockholders
Operated by mostly volunteer boards Controlled by paid boards

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The following figure depicts the banking market segmentation by a focus on receiving deposits or
making loans

Source: 2008 – Forrester Research Inc.

The Credit Union Segment Is More Highly Fragmented Than Most Other Banking Segments

The market structure of banking depends on the segment. For instance, the credit union market is
highly fragmented, with the top 20 credit unions comprising just 15% of total credit union
revenues. Other banking segments, such as the credit card issuance or sales financing segments
are more highly concentrated. And despite the pressures on profits of the subprime crisis, the
commercial banking sector was the sixth most profitable industry in the 2008 Fortune 500 ranking,
reflecting 12.6% profit, based on 2007 revenues

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The following statistics shows that the top eight commercial banks own 42% of the commercial
banking market.

Source: Forrester Source: 2002 US Economic Census

5. Core Banking Solutions for Small Banks in depth

This section of the report deals with in-depth knowledge about each solution. The following
organization offering core banking solution in US are taken into account.

1. FIS - Horizon
2. Fiserv - AFTECH
3. Harland Financial Solutions - Phoenix
4. Metavante - IBS
5. Open Solutions - TCBS
6. Jack Henry - Core Director

The analysis of the Core banking solution is done on the following criteria’s.

1. Functional Coverage
2. Technical Coverage

6. Functional Coverage of the Core Banking Solutions

The functional analysis of the core banking solution is done broadly on the following criteria.

1. Payments
2. Account and Cash Management
3. Loans (Including mortgages)

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Payments

Outgoing Outgoing Internat

Domestic Internatio Domestic ional Collectio
Credit nal Incoming Direct Direct Standing n of Debit
Company Solution Transfers Transfers Payments Debits Debits Orders Cheques Cards
Fidelity Horizon





Fiserv AFTECH





Harland
Financial






Solutions Phoenix
Metavante IBS





Open
Solutions TCBS






Jack
Henry
Core
Director

Account and Cash Management

Cash
Current Saving Term Withdraw/ FX in Bank Travellers
Company Solution Accounts Accounts Deposits Deposits Cash Cheques Cheques
Fidelity Horizon





Fiserv AFTECH





Harland
Financial






Solutions Phoenix
Metavante IBS





Open
Solutions TCBS






Core





Jack Henry Director

Loans (Including Mortgages)

Overdraft
on
Current Personal Revolving Mortgage
Company Solution Guarantees Account Loans Facility Loans
Fidelity Horizon





Fiserv AFTECH





Harland
Financial






Solutions Phoenix
Metavante IBS





Open
Solutions TCBS






Core





Jack Henry Director

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 7. Technical Coverage of the Core Banking Solution

Core Banking
Systems Hardware Platform Supported Databases Supported

SQL
Mainframe Unix Windows DB2 Oracle Server Other
Horizon
AFTECH
Phoenix


IBS


TCBS
Core Director

8. Other Features of the Core Banking Solutions

MetaVante - IBS

Multi-currency No
Multi-Lingual No
Metavante Enterprise Contact Management, Metavante
CRM Functionality Relationship Profitability.

ASP vs. On-Premise 100% ASP

Metavante Consumer eBanking and Business Internet
Internet Banking.
IVR
Mobile Phone None
Interface to Core
Batch + Memo Post vs. Real Time
transactions Batch + Memo Post
Benchmarking

Courtesy: Celent Report (2006)

Fidelity - Horizon

Sophisticated General Ledger capabilities, cost reduction in

Financial reporting reporting
Automated Clearing House, Unposted item repair, Return
item processing, Alternate transaction entry, Automatic
Integrated transaction processing: transfer processing

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Integrated Relationship
Management
Integrated Deposit Management
Integrated Loan Management
Integrated Service Management
Summary of all your customers and their relationships,
Unlimited addressing and correspondence delivery options,
Tracking of customers’ collateral, User-defined information
and notes, Database management (Tools to automate file
clean-up)
Account setup is fully automated, including all document
preparation, Automate the administration of rewards and
customer affinity programs
Loan setup is fully automated, Automated reporting to multiple
credit bureaus, Mortgage servicing application,
Tax Reporting, Security, Report management, Document
imaging

Harland Financial Solutions – Phoenix

Relationship Information Management that allows you to

establish relationships between other customers, accounts
and household information, Special instruction, Alerts, E-mail
Capabilities, Customer identification – display a customer’s
photo & signature, Unlimited addresses on a customer
Relationship Information account level
NSF Processing; View image of the check; Aggregate
customer totals; Eliminates manual entries; View items by
bank, branch, officer or account number; Complete ACH
Back Office processing
Spooled reports that you can view and search in a point-and-
click window, Loan Exception Reporting, Colson – create
Reports reports for Small Business Administration (SBA) loans
Convenient account information such as messages, payment
schedule, and more displayed on the first customer
information window; Loan delinquencies highlighted; Online
pay-off calculation; Custom loan payment schedules;
Adjustable rate mortgages ; Full escrow system with automatic
disbursements; Loan collateral, property description and loan
comment files; Real-time loan posting option; History kept for
Universal Loans life of account
Online stops; Special instructions messages; View images of
the check in statement detail; Unlimited combined statements;
Universal Deposits History with unlimited retention; Account Analysis
History for life of account; Flexible rate and accrual options;
Time Deposits Online; Retirement plans; Unlimited term and renewal options
Cost accounting; Flexible budgeting; Holding company;
General Ledger Account reconciliation; Ten user-defined totaling levels
Cash Management Overdraft protection with sweep capability; ACH Origination

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 PhoenixXM connectivity; Date tickler system – set up
reminders on a customer or account level; Customer
profitability analysis; Context sensitive online help; Audit
confirmations; Fast account searches from one convenient
window – search by customer name, account number, social
security number or telephone number; Unlimited customizable
fields in each application; Branch banking; ODBC compliant
MSSQL or Sybase; Safe deposit boxes; Flexible parameters
for system customization; Customizable notices; Maintenance
history – display a complete history of all changes to an
account since it was opened; View interest rates for all
System Tools account types from one convenient window

Fiserv – AFTECH

Integrated automatic credit bureau requests; Scoring & Risk-

Automated Lending Services based loan pricing; Automated approval; Automated disbursal;
including Application Queuing & Routing; On-line graphical reporting
Fraud detection Fraud detection services
Shared Branching Shared Branching services
Email Advantage Email notice, statement and marketing
Signature Signature Capture

Open Solutions – TCBS

Customer-centric banking with our relationship-based central

information file (CIF) and Customer Relationship Management
CRM (CRM) capabilities
Operations Streamlined operations
Processes Marketing-focused processes
Business Intelligence Data mining
Multi-Lingual Multi-lingual capability
Multi-Currency Multi-currency processing
TCBS is industry-proven core enterprise solution and an open,
Scalability flexible and scalable solution

Jack Henry – Core Director

Electronic Funds Transfer

Internet Banking Services
Professional Services & Education
Business Intelligence Services
Asset Management & Protection Services
Item & Document Imaging Services

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 9. Viability of Using ASP / SaaS model in core banking implementation

Organizations, both large and small, are increasingly outsourcing their applications to application
service providers (ASPs) for a variety of reasons such as cost reduction, shortened time-to-
market, lack of internal expertise, and risk reduction. However, the adoption of the ASP / SaaS
model has not been smooth sailing for many organizations, and only a few organizations have a
formal approach to making ASP / SaaS outsourcing decisions. Partially to fill this void, develops a
value-driven approach to outsourcing using ASP /SaaS based on outsourcing theories and the
industry’s best practices. The various advantages and disadvantages of using ASP / SaaS
models are mentioned below.

Advantages:

1. Specialization. Expert resources are increasingly becoming a rarity across all industries.
ASPs expertly and cost-effectively build personnel and equipment resources, focusing on the
very business aspects their customers need to address.
2. Broad marketability. Specialization in a certain facet of business can oftentimes be spread
across parallel market opportunities. Many common business functions such as word
processing, database management and personnel resource management have cross-
industry outreach. In these areas, ASPs can reconfigure consumer applications and services
with industry-specific flavors to send packages targeted at multiple channels.
3. Repackaging other ASPs. Applying the value-added reseller scheme to the hosted
applications market opens up even more diverse solution sets. The opportunity to wholesale
others' services or ASP offerings for a comfortable profit margin has strategically positioned
many ASPs already.
4. Consistent, predictable revenue. Even in new or volatile markets, with an established
customer base, ASPs can effectively track past revenues and plan for anticipated growth
oftentimes much more reliably than providers offering only licensed-based software that sells
in peaks and valleys.

Disadvantages:

1. Ownership of critical client functions. Building a business that clients can trust with
mission-critical functions such as database warehousing, data security and client
management can be a challenge for upstart ASPs.
2. High service-level expectations. ASP clients tolerate next-to-no slippage in service.
Always-on applications, responsive customer service, and high online throughput are
measures of service providers' success.

10. Market Potential for SaaS / ASP model

According to Gartner, Inc. Software as a service (SaaS) represented approximately 5 percent of

business software revenue in 2005 and, by 2011, 25 percent of new business software will be
delivered as SaaS. Gartner also predicts that SaaS will triple in size by 2011 from 2006.

According to McKinsey & Co. adoption of the model has been growing at well over 20% year over
year, and is set to explode. Around 61 percent of CIOs at North American companies with sales
over $1 billion are already planning to adopt one or more SaaS application.

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Deutsche Bank projected that the SaaS market will account for half of the application software
spend by 2013.

Analysts, the world over, predict that up to 30% of all software applications are expected to be
delivered through this mode in the coming years.

11. Conclusion

1. Detailed study of the core banking solution is required to identify the right product for small
banks in US.

2. Core banking solution deployment in a particular geography or with a specific line of function
like deposit / payment products only, is another solution fast emerging as SaaS-able.

3. Metavante, Fiserv, Jack Henry, Fidelity, Harland and Open solutions can be considered for a
demo in that order. Metavante would be the right fit as they claim to have a 100% ASP model,
the details from other vendors on this front is not publicly available.

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