This blog is the first in a series on the impact of challenger banks on the Swiss market. It provides insights into how challenger banks threaten to disrupt traditional banks, the different types of banks that are entering the market, and the need to adapt the challenger banks’ operating models to grow successfully.

Today, banks are changing rapidly to keep up with their customers, who are demanding better experiences and more sophisticated products and services from their providers. For most people, visiting a bank branch used to be the main way of interacting with their bank. However, more and more people are choosing to interact with their banks digitally rather than through a traditional bank set-up.

This has led to the rise of challenger banks, allowing new entrants to gain momentum and increase their market share in the Swiss banking sector. They have achieved this by offering a superior digital user experience compared to traditional players, by leveraging strong capabilities in technology and focusing on customer centricity. Naturally this raises the questions:
• To what extent are challenger banks a threat to the market share of traditional banks?
• Are traditional banks able to keep up with the rapid pace of innovations and customer-centric offerings?

A problem for traditional banks today is that they are bound by legacy systems and have rigid operating models and governance structures. Even so, many market players have been innovative in adopting new systems and technologies, and in customising client journeys. Upgrading to highly customised systems is costly and does not always justify the cost, ultimately leading many banks to hold back their system upgrade plans. Additionally, the systems of traditional banks have been pieced together over years by internal developers and external outsourcers. This has made them sluggish in keeping up with innovative challenger banks which are changing the banking market status quo.

Brief history of Swiss banking

Swiss bank development - Source: Deloitte internal research

The legal and regulatory framework of the Swiss banking sector played an important role in allowing Switzerland to become the banking powerhouse it is today. Since the foundation of the first public bank in Switzerland in the 16th century and up until today, five centuries later, their dominant position was not challenged. Historically, banks owned the entirety of their value chain and differentiated their offerings by creating product and service packages for customers at slightly different rates than their competitors. However, the core operating model has remained the same and has always consisted of building customer relationships and distributing services through brick-and-mortar branches.

Business models in the banking industry evolved slowly until the creation of the first challenger bank in 2009 which accelerated the business model transformation to keep up with changing customer demands. Backed by private funding, challenger banks have since filled a gap in the market by addressing the increasing demands from customers for innovative features as well as “real-time” transaction speeds. With their new operating models, challenger banks are building large customer bases and are intent on dominating the market. However, they need to obtain a banking licence and address a multitude of regulatory requirements − just like traditional players, which are more experienced and still hold a majority share of the Swiss market.

Gaining market share whilst addressing regulatory and operational challenges

Although challenger banks aim to compete with traditional banks by using mobile-centric technology and targeting specific customer segments, they face some challenges to successful growth. We identify four distinct types of banks in the market, each with their unique challenges.

Categorization of challenger banks - Source: Deloitte internal research

Main regulatory and operational challenges for challenger banks in the Swiss market include but are not limited to:
Licence vs. no licence: Without a banking licence, organisations can still offer prepaid cards, permitting customers to cap the foreign currency fee. However, to generate revenue and make profits, expansion is needed into other financial products and services, such as personal loans, mortgages, credit cards and digital assets. A question is whether it would be more profitable to partner with existing traditional players or to undertake a rigorous and time-consuming banking licence application process.

Client due diligence and ongoing monitoring: To provide adequate evidence of compliance with Swiss banking regulations and banking secrecy laws it is necessary to establish a client risk assessment framework, relevant policies/procedures and appropriate transaction monitoring alerts. A lack of regulatory and compliance expertise and poorly defined processes might result in failure to gather sufficient information to identify high risk customers, such as politically exposed persons (PEPs), sanctioned individuals and money laundering organisations.

Governance and internal controls: The governance of Swiss banks is characterised by a strict separation of activities between the board of directors, which is responsible for oversight, and the executive management. There may be a lack of clearly defined roles and responsibilities for each core product offerings and internal functions, and insufficient monitoring of compliance with applicable regulatory requirements. This leads to increased FINMA scrutiny, exposure to financial fines, and reputational risk.

Compliance risk management: This is a major concern for challenger banks of all sizes. The complexity of region-specific banking rules and regulatory risks means that even major banks with large compliance teams struggle to stay compliant.

Combatting risks in line with the evolution of the business model

There are only limited differences between the regulatory and financial crime risks faced by challenger banks and those facing traditional retail banks. Unlike traditional banks, which have large legal and compliance teams, challenger banks are thinly resourced and face increasing pressure from regulators. It is therefore vital for challenger banks to evaluate and mitigate their risks continually, in line with their evolving business model. The most critical and urgent areas for both new and existing challenger banks to focus on are summarised below:

Banking licence: Before engaging in business operations to offer a wider range of financial products and services, challenger banks should obtain authorisation from the Swiss Financial Market and Supervisory Authority (FINMA). Applications for a licence must be submitted to FINMA in an official Swiss language, containing general information with supporting documentation about their intended operations. The lead time for obtaining a licence is between 6 to 12 months, depending on the quality, completeness and complexity of the application.

Operating model: Banks should build a robust target operating model with clearly defined roles and responsibilities, to ensure that their various business functions are lean and compliant. They should enhance the customer journey with innovative and risk-based measures to meet their ambitions for growth and profitability.

Client risk assessment: They should define a robust and flexible risk assessment framework to determine standard and enhanced client due diligence checks,
with the ability to identify the ultimate beneficial ownership in complex structures, manage financial crime risks and trigger adequate transaction monitoring alerts.

Control framework: They should avoid regulatory risks relating to anti-money laundering, KYC, banking secrecy, PEP, and sanctions, through risk-based customer screening and appropriate systems. They should enhance their reporting and operational resilience with quality assurance controls.

Conclusion

As challenger banks continue to attract more customers and expand their operations in Switzerland, they must pay close attention to the requirements of FINMA and the Swiss Bankers Association (SBA). Balancing regulatory compliance with achieving internal operational growth can be a challenge for many newcomers. It is therefore crucial that challenger banks should manage regulatory and compliance risks effectively by establishing a robust operating model, to position themselves for growth and operational resilience in the Swiss market.

If you would like to know more about the landscape for challenger banks and how Deloitte can help, please reach out to our contacts below.

Sources:
[1] https://www2.deloitte.com/ch/en/pages/financial-services/articles/digitalisation-banking-online-covid-19-pandemic.html

[2] https://www.fca.org.uk/publications/multi-firm-reviews/financial-crime-controls-at-challenger-banks

[3] https://www.globallegalinsights.com/practice-areas/banking-and-finance-laws-and regulations/switzerland?msclkid=53079fa6c72711ec8fd3352e9249c895

[4] https://uk.practicallaw.thomsonreuters.com/w-007-8999?contextData=(sc.Default)&msclkid=b9229eccc72411ec8b01e08fcdff0f31&transitionType=Default&firstPage=true

Sergio Cruz, Partner, Consulting

Sergio is the lead Partner of Deloitte’s Business Operations practice in Zurich and has more than 25 year of experience in Consulting. He focuses on large scale front-to-back digitalisation programs in financial services and has worked on several large assignments both in Switzerland and abroad, covering the implementation of regulatory requirements and the definition as well as implementation of target operating models and process optimisations.

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David Klidjian, Director, Consulting

David is a Director in Consulting and leads Deloitte’s Business Operations Banking Industry for Switzerland. He has significant experience of Investment Banking and Wealth Management working in the UK, US, Asia and Switzerland. His focus area is on large Front-to-back operations transformations and setup and expansion of new banking operating models.

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Erika Kuckian Puydebois, Senior Manager, Consulting 

Erika is a Senior Manager in the Business Operations team specialized in Financial Services with a key focus on Front-to-back Business Transformation projects. Additionally, she has led regulatory projects in Asset Management, Wealth Management and Investment Banking areas. She has extensive experience in leading large scale engagements focused on creating process efficiencies, defining and implementing strategic cost reductions, setting up Target Operating Models and implementing digitisation efforts.

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Katerina Kochova, Senior Consultant, Consulting

Katerina is a Senior Consultant at Deloitte Switzerland in the Business Operations team. She is specialized in banking and FinTechs working in France, Luxembourg and Switzerland. Katerina has experience on large digital transformation, process excellence setups and Target Operating Models definition projects in Retail Banking, Private Banking and Wealth Management.

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Thibault Delahodde, Manager, Consulting

Thibault is a Manager at Deloitte Switzerland in the Business Operations team. He is specialized in the financial services industry with a banking focus on the Swiss market. Thibault has extensive experience in Private Banking and Wealth Management supporting Global Swiss Banks in large operations transformation projects and Target Operating Models definition.

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Hongming Li, Consultant, Consulting

Hongming is a Consultant at Deloitte Switzerland in the Business Operations team with focus on the banking industry. Mainly engaged in business testing activities, client risk scoring and client onboardings, Hongming has supported major Swiss Banks in its client life cycle management efforts.

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