Why community banks should negotiate shorter fintech contracts
When Eddy Arriola moved into banking in 2009, he was shocked at the slow pace of upgrades.
Arriola, CEO of the $600 million-asset Apollo Bank in Miami, was previously an entrepreneur in the call center industry and was used to quicker technology turnover.
“When we did our first core system contract they told us that a commitment of eight years would give us a discount,” he said. “But a discount of what? What tech vendor can guarantee me that they’ll be the best eight years from now?”
Since 2014, Arriola has seen bank contracts shorten in duration, and now believes that banks should be able to expect their vendors to agree to contracts as short as three years.
Signing a decadelong contract with established vendors is fading as a practice, he said, in light of new alternatives from fintechs, disruption brought on by the adoption of mobile technology and bank consolidation. There's a savings imperative, too: According to Gartner research, tech can claim 10% of a small bank's revenue and expenses.
Still, Arriola cautions community banks seeking to cut costs upfront. “If you invest in technology, and it's 20% less expensive, and it's the wrong solution, it can cost you millions of dollars.”
In the following interview, which has been edited for length and clarity, Arriola shares his experience on how small banks can effectively haggle over tech contracts.
How have community banks' relationships with vendors changed over the years?
EDDY ARRIOLA: The traditional model for community banks was they would negotiate with the core service provider. They would reach out to three of the top five core providers and they would negotiate 10-year contracts that were restrictive, had significant penalties and very few outs.
The internal resources at banks were minimal in terms of the people that really understood technology and any training was very specific to one system. You would have operations staff that would go through extensive training; they would learn how to use the system and then they wouldn't want to go off that system.
So there was a great switching cost for a bank. Not only would you have significant penalties if you wanted to get out of the contract, but at the end of a contract, if you wanted to move to a new system, you'd have to do new training for personnel and people aren’t willing to change.
I came from industries involving call center and data management business where technology rapidly changes and we needed to be differentiated from our competitors. We were incredibly dependent on our vendors to be innovative.
So No. 1, we would push our tech vendors to innovate and we were able to hedge our bets on their innovating by keeping contracts relatively short. The longest contract we would make would be three years. We would also make sure that the user interface and the training involved wasn't too cumbersome and didn't require people to have years and years of experience.
It was more plug-and-play. Even people with basic computer and software experience could figure out the system relatively quickly. That's the model most businesses have. Certainly over the last several years, most industries are moving to software as a service where the vendor comes in, sets up everything ready to go, and charges you on a month-to-month basis. They’re not selling license agreements or long-term contracts — that's what most industries have been doing, but banking hasn't.
As banks have diversified their boards they've brought along board members with experience in technology and more sophisticated businesses. I think some of these board members are asking, "Why are we locked in a 10-year agreement with systems that we're not very happy with?" That changed the conversation with these vendors and how we partner with them and as we change the outs of our contract and the length of that contract.
What has provided banks leverage to ask for shorter contracts?
As consolidation has happened in our industry, banks have more leverage because the clients have become that much more valuable to the provider.
There's less clients, they're bigger and more valuable. Plus, there's outside forces threatening our businesses as well as that of the traditional vendors. We have all these fintech players have really interesting technology that address some of the roadblocks of the core system providers.
And they've been considering software as a service and figuring out how to make services easier to train on or to use, and that's been putting pressure on some of the legacy vendors.
The expectations of banks have tanked, and that's where you're starting to see a sea change in technology vendor negotiation.
What does that negotiation now look like?
One of the key things with every negotiation is that you want to be as prepared as possible and you want to have visibility into the future. It's important to understand where you want to be and where you need to be in the next five years.
And just as important is where is that vendor is going to be? My recommendation to others is to really understand the strategy and the direction that that tech vendor is following.
We were negotiating with an existing tech vendor and we were not happy with the product. Their service people said, "Our product is getting better," and we said we wanted to talk to senior management.
They brought in three of the senior executives from out of town and they started talking about their backgrounds and their experience and all of the companies that they had come from. Without giving a name, this particular company was a large company that was the result of a lot of acquisitions rolled up into one big company.
Out of the three people that came to us, two were sales people and one was a finance person. As they showed me their organizational chart, their top 12 people, none of them were technology people. It was all M&A experts and finance people; people that had been executives outside of technology. They had impressive resumes, but none of them, including their two technology officers, were actually technology people.
I told them that I wasn’t happy about the technology and the direction. I said, "You're telling me about why your company has a great platform and a great vision. It's seems that your management is just a bunch of business people, and that causes a concern for me."
That changed the negotiation right away. They realized that they couldn't offer access to senior level people if we needed changes. lf none of the 12 people who are going to receive your phone call are going to be helpful, then it’s not worth it. You should really understand who you are dealing with.