Disruption: Do US middle market firms have their heads in the sand?

While many mid-sized US companies believe their industry is vulnerable to disruption, most believe that their company is shielded from it, a recent survey has found. Many of these businesses were underprepared for such an event, Capital One found in its recently released 2017 Disruption in the Middle Market study.

As many as 80% of respondents said their companies have already experienced disruption or expect to experience it during the next three years.  However, only one in six believe they are prepared to deal with a disruptive event.

While 43% said that their industry is vulnerable to disruption, just 18% believe that their own company is vulnerable.

“It was actually quite interesting as there seemed to be some contradictory views from the respondents on disruption,” Patrick Moore, head of treasury product management and innovation at Capital One, tells GTNews.

“Many of the respondents felt that the industry of their specific market segment was particularly vulnerable to disruption but they were far less worried about the impact of their own company,” he says.

“Often people think disruption is a big bang event, but disruption and innovation can be incremental as well”

However, 15% of middle-market companies claim they have already faced a disruption that had a material impact on their finances, and an additional 73% expect to experience a disruption within the next three years, the survey found.

Middle-market executives as a group cited the ‘internet of things‘ and big data analytics as likely causes of disruption, but this finding varied considerably by industry.

“One could argue there is a lot going on in their ecosystem but there is a sense that they are being shielded from it,” he says. This may be due to the way companies view ‘disruption’, Moore argues.

Disruption has taken place in the industries of most of the respondents and it has impacted their banks, but they may not view it that way. “Often people think disruption is a big bang event, but disruption and innovation can be incremental as well,” notes Moore.

Using digitalisation to change the way a bank interacts with its clients has been ‘disruptive’ considering how quickly things have changed in the past five years. But as the changes were more incremental it does not feel as unsettling.

Better prepared firms are more vested in digital products

The survey showed that adopting “disruptive” technologies – including digital treasury management and corporate finance tools – were seen as a good defence by middle market firms.

Many of the better-prepared companies share a common approach, with 95% of middle market executives surveyed showing some level of interest in digital products.

Online and mobile payments were considered the most promising digital product by 54% of respondents.

More than half of the more prepared companies surveyed use new technology for bills, transfers, accounting, and payroll and benefits.

Market disruption will undoubtedly be industry specific. Airbnb is an example of this in travel industry, while Amazon is transforming the retail experience. This is also true for financial services and banking.

“Today’s emerging technology, focus on digital and the openness of middle market customers to embrace digital change will push out a number of legacy providers that are not as responsive to changes in the banking interaction model,” argues Moore.

“Some of the work we are doing in very much positioning us in a different light to our competitors. We are very focused on the client experience and not delivering a product such as ACH or wire transfer,” he adds.

“Think more holistically about how the relationship with your banking partner can be richer and more expansive, beyond what you traditionally thought of the bank doing for you”

Capital One’s survey found that companies with revenues between $2bn and $3bn are much more likely to see disruption as an opportunity than companies in the $100m to $499m range. They are also more likely to be better prepared for a disruptive event, the survey found.

More than their counterparts in smaller companies, the largest companies in the survey have created contingency plans and purchased interruption insurance.  They are also investing heavily in research and development (R&D). Half of them have increased their R&D budgets by 11% to 25% in the last year.

Compared to smaller companies, these companies are also more likely to be pursuing a disruptive strategy of their own that could lead to a competitive advantage.

Smaller companies (revenues between $100m and $499) are likely to take the opposite view, according to Capital One. They are more likely to view disruption as a threat, primarily because they have difficulty mustering the financial resources for preparation, the survey reported.

A willingness to seek alternative financing

Financial institutions remain the preferred source of funding for most middle-market companies, who are especially interested in asset-based lending and asset securitisation as well as access to private equity, Capital One reported.

This is particularly true of those US firms that were better prepared for disruption.

The survey revealed, however, a surprising willingness to seek alternative sources of capital like peer-to-peer lending and crowdfunding, although it is primarily the smaller companies and delayers that are exploring these alternatives.

“As the clients become more sophisticated and climb up that continuum, their need for more sophisticated treasury management products will grow and they will need to engage with more ‘traditional’ financial services”

Smaller businesses may have alternative lending opportunities, notes Moore, but “treasury management is very often tied to lending,” he says.

“As the clients become more sophisticated and climb up that continuum, their need for more sophisticated treasury management products will grow and they will need to engage with more ‘traditional’ financial services.

That creates a dynamic where often treasury management and other services are tied in with lending, so there is probably a tipping point where that [alternative financing] model may not be as attractive or lucrative for the company,” he explains.

Change in banking client relationship

Due to market disruption, the relationship between clients and their banks are at an inflection point, argues Moore.

“Capital One are taking a more client-centric view of how we engage our customers,” he says. “We are not building [our business] and hoping that clients come to us – which has historically been the banks’ approach.

“We are trying to understand, through various mechanisms, our middle market clients’ day-to-day activities and processes so that we can help them more broadly better manage their business and not simply be a payment settlement institution – a role that historically banks have played,” he adds.

Capital One has had a “very warm reception” from its clients when doing this as banks still hold the traditional status of being a trusted adviser, Moore says.

When asked what advice he would give to treasurers operating in markets that are undergoing disruption, Moore says: “Be open and see the disruption as an opportunity not as a threat. It will lead to significant improvement in efficiency and allow for a much broader view around data which will help treasurers to better manage their business.”

“Treasurers should work with their financial institutions beyond the traditional ACH or lockbox. Think more holistically about how the relationship with your banking partner can be richer and more expansive, beyond what you traditionally thought of the bank doing for you,” Moore adds.

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