01 March 2006 Features

 

To SEPA and beyond

The deadline is fast approaching and the industry has finally seen most of the promised rulebooks. But what can we expect after the period of implementation? Virginie O’Shea investigates.

The Single Euro Payments Area has understandably received a lot of press as of late. Much the same as MiFID, financial institutions are seriously concerned about the impact of the new regulatory framework on their current business models. None more so than small domestic banks and ACHs that are threatened with the prospect of increased competition and, ultimately, the consolidation of their marketplace.

The industry reaction to the recently published European Commission SEPA incentives paper, which purports to provide ways to “support, underpin and enhance the self-regulatory activities of the industry”, highlights this general concern about the impact of SEPA. The European Savings Bank Group in particular criticised the paper for failing to provide the sufficient ‘incentives’ for change. Rather than the ‘carrot’ approach, the EC appears to be focusing on the threatened ‘stick’ of regulation to drive the industry forward.

As well as disgruntlement about the threat of yet more regulation, there is also serious concern about the financial impact of SEPA on banks in the Eurozone. The changeover will involve high costs for banks due to the necessity of adapting IT systems, but will result in lower charges for transactions and thus produce a significant squeeze on revenue. Bank charges currently vary widely across the EU; for example, the cost of transactions in Italy is far higher than transaction prices in the Netherlands. This means that SEPA will hit some countries harder than others and smaller domestic banks in these countries will be particularly at risk.

Maurice Cleaves, head of European product management for JPMorgan Treasury Services, believes that many of these banks will be forced to rethink their current business models: “Some will decide to exit, but larger providers like JPMorgan will offer a white label service to allow the banks to provide the service to their customers.”

Ann Cairns, chief executive of Transaction Banking at ABN Amro, agrees: “The payments industry is over-supplied and not every bank will be processing the payments on behalf of their clients in the future. A bank that is very good at mortgage business, or providing asset management services, for example, might decide that payments processing is not core to their business, and so might choose to partner with another bank.”

The drive towards outsourcing might not just be limited to SEPA payments, according to Christian Westerhaus, head of development, infrastructure and strategy in product management, Cash Management at Deutsche Bank. Westerhaus thinks that the use of the clearing services of large transaction banks may be extended to deal with high value, individual and foreign currency transactions.

However, Paul Styles, EMEA market development manager for ACI Worldwide, doesn’t believe it will be all bad news for these small banks. Although many will be forced to question their involvement in the payments business and possibly make the decision to outsource, regional banks may also benefit from the fact that geographical presence across the Eurozone should cease to be a differentiating factor in the industry.

Elaborating on the corporate perspective of the consolidation of smaller banks due to SEPA, Olivier Brissaud, general manager of Volkswagen’s coordination centre in Belgium, says: “There are too many banks in Europe and small banks are bound to be acquired and disappear. But many regional cooperative and savings banks will still exist and be profitable if they follow the right client/product strategy, continue to offer good personal service to local constituencies and handle outsourcing with care.”

The impact of SEPA on domestic ACHs is likely to be far more dramatic in the short term. Currently, each country has at least one domestic ACH and the key question is how many will have a role as pan-European ACHs in the future? Who will be the winners and who will be the losers in this race to create the most efficient PE-ACH over the next five years?

According to Sheida Hadji-Ashrafi, industry manager for payments and financial messaging solutions, Microsoft Financial Services, the winner of this race will set the tone for the future decisions in this space. Mergers are inevitable but it is still not clear how many ACHs will survive in a rapidly consolidating marketplace.

Westerhaus believes that this will ultimately be a market decision, as it will be the banks that decide whether they are willing to support investments for particular SEPA-compliant ACHs. “We assume that some of the current national ACHs will continue to exist and make themselves SEPA-compliant. As a user and customer of such ACHs, Deutsche Bank will take its own decision, not to be based on a per country criterion/restriction, towards which of these ACHs we will use for clearing of SEPA transactions. This decision will be taken from a single SEPA viewpoint. In addition, we also require that direct file exchange — a proven practice in efficient markets between larger players — is supported within SEPA,” he says.

However, he does not think that the market will witness total consolidation into one PE-ACH, although there will need to be one main ACH where banks “meet” to clear the remainder of SEPA payments that are neither cleared bilaterally, nor via a national ACH. “The EBA Step2 system is already well positioned to fill that role of a PE-ACH as it has already achieved reachability to all SEPA countries,” Westerhaus added.

Cairns agrees that there will not be a single PE-ACH, but rather than a main clearer, she suggests instead that Europe will adopt a “US-style model”, which will involve at least two main clearing houses. She believes that a competitive model such as this would be a better option than full consolidation as it would prevent a payments processing monopoly.

Surprisingly, Italian payments processor SIA’s director of payment systems, Cristina Astore, thinks that complete consolidation could be inevitable. “The creation of a single pan-European ACH will be, sooner or later, unavoidable and unrestrainable,” she says.

Whatever the outcome, there will necessarily be a period of migration, which has been planned for between 2008 and 2010. It is likely that both national and SEPA schemes will run in parallel during this time, until the SEPA processes reach critical mass. According to Styles, this period will be a time of extreme uncertainty: “The big issue centres on how the banks will market the new products supported by the schemes and how the customer base takes them up,” he says.

Whether or not there is one PE-ACH or several, what is clear is that the changes that will need to be made to accommodate SEPA will be substantial. The direct costs of SEPA have been speculated upon by several industry research and consulting groups and, bearing in mind the fact that for many banks payments make up to 40-60% of their total revenues, these costs are likely to be considerable.

As Gertrude Tumpel-Gugerell acknowledged in her speech to the EPC in September 2004: “The need to increase competitiveness poses a particular challenge for European banks, where the cost/income ratio is currently around 65%, compared with 60% in the US in 1996 and 50% now.”

Capgemini’s World Payments Report, which was released at last year’s Sibos, assesses the impact of SEPA and states that it could reduce banks’ direct payments revenue by €13-€29 billion below expected 2010 levels. It also indicates that in the “hard competition” scenario, which assumes that payment prices across the EU12 will converge at the price level of the cheapest country, consumer banks will be hardest hit. In fact, it predicts that these banks may need to lower their payments processing cost base by 50% or more.

On the flip side to this, SEPA is likely to provide bank customers with significant cost savings. The European Associations of Corporate Treasurers have focused on the substantial efficiency gains that SEPA could bring about as a result of fully automated processing. It is estimated that fully processing an invoice in corporations with large paper-based processes currently costs between €35 and €60. Full automation could reduce this by 70-90%, representing savings of €25-€50 per invoice. EACT believes that around one-third of these savings could be obtained in the reconciliation process with the help of banks.

Despite the benefits that SEPA may bring to corporates, only 22% were even aware of its impact, according to a poll by LogicaCMG at the start of last year. Moreover, Brissaud believes that this is still largely the case as corporates are now only marginally more aware of its implications. He is also concerned that SEPA does not go far enough to reflect the concerns of corporates and that it remains too consumer focused. “Like all directives in complex technical matters, poor wording, some questionable decisions and differences in interpretations and implementations by member states, could reduce its impact,” he says.

Tom Buschman, treasury development manager for Shell International and chairman and chief executive of industry standards body Twist, thinks that this lack of education about SEPA will have a significant impact on the deadlines for change. SEPA will need to be driven by corporates as well as banks, even though most corporates see the issue as largely removed from their business and still largely undefined.

“Corporates will not only need to show demand for the new more open services but actually need to enhance their capabilities to take advantage of them. At the same time, they will need to engage with banks in a way that builds benefit rather than simply reducing price and increasing competition. So corporates will need to be proactive in developing new propositions that offer benefits to financial institutions and drive positive change,” Buschman explains.

SIA’s Astore is more positive about the level of corporate awareness around the benefits of SEPA: “Adhering to a single homogeneous market will allow all the corporates to interact, improving payment services quality, information and knowledge sharing. Our impression is that corporates now understand that they will have the possibility of improving their liquidity management efficiency, increasing the competitiveness of the market and reducing their costs, as well as attaining unique recognised standards and accomplishing invoice dematerialisation Europe-wide. In particular, SIA is experiencing great interest on Credeuro and direct debit payments.”

This learning curve is set to continue over 2006, although it is still up for debate as to whether the industry will be ready for the imminent roadmap deadlines.