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Selective innovation: How to grow core deposits by targeting niche industries

This article is taken from a panel discussion that Nathan Baumeister, CEO of ZSuite Tech and Allan Rayson, CTO and Chief Innovation Officer of Encore Bank gave at the 2022 American Banker Small Business Banking Conference in Nashville, Tennessee.

When Allan Rayson and I agreed to do a speaker panel at the American Banker Small Business Banking Conference in October, we decided very quickly on the topic. Encore Bank has taken a unique approach to capital raising that has driven ridiculous growth in the past 36 months by focusing on commercial partners. ZSuite provides financial institutions with products to drive deposit growth in niche industries, so we have experience with successful strategies as well. We thought it would be cool to share the strategies and decisions that we have experienced or seen help companies drive deposit growth in niche industries. I’ve included an edited transcript of the full panel discussion farther down, but here are the major takeaways:

Innovate and partner on purpose

Start by assessing the business outcomes that you want to produce. Look at your existing clients and the types of clients you’d like to bring into your bank. What products and services are they looking for? Make a list, then choose your top priorities and stick to them.

It’s easy to fall into “Innovation Through Conferences,” where you see a compelling presentation or talk with an excellent salesperson and end up with a solution in search of a problem. This can work for your institution, but it means that you’re bringing in products and services that many of your peers use. It won’t help you differentiate in the marketplace or reach niche industries with specialized needs.

You need clarity and agreement in your organization around the business outcomes you want to achieve. This becomes the framework you use to assess each vendor and piece of technology.

“If you don’t have clarity of what business outcomes you want to achieve, it’s very easy to get distracted from the core outcomes you actually need.”
– Nathan Baumeister


Capture core commercial deposits

Commercial deposits can be a significant pillar of your deposit portfolio. They’re usually low-cost, extremely sticky, and just a few of the right clients can bring in millions in volume compared to retail core deposits.

The clients who bring in the best deposits tend also to have specialized needs such as complex subaccounting and compliance requirements. Property managers, law firms, association services, and healthcare companies, to name a few, are all excellent clients for bringing in low-cost core deposits.

Because Encore Bank works with small-to-medium business owners as investors, they also have an intimate understanding of what those businesses need and how they can fit into the bank's overall strategy. This has been a crucial part of how Encore Bank has managed its deposit portfolio and allowed them to pursue aggressive loan growth – they have access to many commercial core deposits.

“…we have a really deep understanding of our client base. When we’ve admittedly worked for years to put this group of investors around us, we know the investors on a personal level. We know their families, we know their businesses, and we hope to execute a true partnership there.”
– Allan Rayson


Establish a beachhead to win niche industries

In Geoffrey Moore’s book Crossing the Chasm, he recounts the WWII story of the Allied forces marshaling to invade continental Europe. They staged everything in England to establish a beachhead in France.

Often when looking at serving industries new to your bank, you need to start small. Establish a beachhead and then expand your operation from there. It’s one of the main ways that Encore Bank has grown so quickly and sustainably. Every time they enter a new vertical, they partner with businesses and learn what those businesses need, and begin to build out the stack to serve them.

Another excellent example of this is Live Oak Bank. The FDIC once referred to them as the “doggy bank” because of their focus on veterinarians. Now Live Oak has taken that singular focus and excellent service to other verticals. They have a reputation as a highly innovative institution that other bankers look up to.

“For us at Encore, it’s very much identifying niches and pursuing partners in those spaces. Banking is very simple, yet complex as you’re managing a liabilities portfolio. So that data is out there to understand a market, who the competitors are, and how fragmented the market is. We lean pretty heavily into that data, looking for where the deposits are and then backing into a strategy.”
– Allan Rayson


Don’t try to be everything to everyone                                                                            

As you’re assessing your financial institution's competencies and strategic goals, it’s essential to name the things you need to be the best at and the things you can outsource to a more competent partner. Often this dynamic is characterized as “build, buy, lease.” It rarely makes sense to go all in on one approach. For Encore Bank, buying and leasing (or licensing software) have proved to be winning strategies. But there is a fourth way if you will. You can look for software companies that offer similar products or products in adjacent industries and ask them to develop products for your desired use case. This collaborative development was the driving force behind ZSuite’s flagship product, ZEscrow. Five financial institutions came together to help fund and inform the development of a product they all wanted very badly.

“The big thing that I would ask if I were sitting at a bank is: what do we need to be the best at? And if it’s something we don’t need to be the best at, then let’s not do it in-house because we can use our capital in a better way.”
– Nathan Baumeister




The content of this transcript has been edited to create a clear and concise reading experience.

Nathan Baumeister (NB): Today we’re going to be talking about Leveraging Partnerships to Grow Stable Deposits in Targeted Niches.

Allan Rayson (AR): My responsibility is tech and innovation for Encore Bank. Our claim to fame is that we’re among the fastest-growing banks in the country, if not the fastest. It’s all been organic growth. There’s nothing real unique about our business model per se, other than we skew very commercial. But our capital raise model is very unique.

NB: I’m the CEO and co-founder of ZSuite Tech. We’re a fintech company that spun out from a bank. We focus on escrow, subaccounting, FBO accounts, and trust accounts, and help banks with those types of services. I’m a longtime entrepreneur, with most of my time spent in fintech focused on banking. I also wear red shoes, so I think that makes me a good person to talk at panels <laughter>.

So there are three topics that we’re going to be discussing here. There are partnerships, there are growing core deposits, and doing that in targeted niches. I think the first thing I’d like to hear Alan talk about is how you even get started with this idea of driving innovation using partnerships.

AR: Full disclosure: Encore Bank has partnered with ZSuite Tech, so I’m a little biased. Hopefully, that’s ok.       

NB: We’re going to talk very little about ZSuite today.

AR: Allow me to give a little more background on Encore Bank. I think it will inform much of what we’re going to talk about over the next 30 minutes.

We’re a $3B bank with high growth, doing about $150M a month in funded commercial debt, which is not bad for a team of roughly 300. It’s a tough model to run on a light FTE, but we’re getting it done and pushing that volume through our commercial lending program. But the first place that we started with partnerships was a clear understanding of the business outcomes we were trying to produce.

And I know that every bank is different. We skew very commercial because our capital raise model lends itself to that. We go out and put about 100-ish investor partners around us in every market. Today we’ve got 2000 private investors, and we focus on banking those investor partners. It’s a unique capital raise model. It’s very hard to execute because it’s a lot of conversations to put those types of investors around you. But with that level of clarity on our business model, it’s really helped inform our commercial approach. Our investors typically have a small or mid-sized business that we end up banking. They’ve got the economic upside of the growth of Encore. So the first thing that we were focused on is optimizing for commercial lending. Second, we want to fund those loans as often as possible via low-cost deposits. And third, we want non-interest revenue.

So our starting point was a very clear understanding of the business outcomes, and we validated those across the organization, so everyone is in sync.

NB: I loved that you said, “first start with strategy and then worry about the technology,” because when you and I first met, you were in charge of innovation, and I had run into a lot of innovation officers. Typically when I ask, “Well, how do you do innovation?” they would say, “ Well, I go to Finovate. I make sure to follow all of the big technology companies and see who’s funded.” And I think to myself, “Oh, so you’re doing innovation through conferences? That sounds good.” The problem is that you go to a conference or you follow what wins in Finovate and what’s in the press, and you start picking vendors that everyone else is picking or you pick based on who has the best salespeople. Unfortunately, we have to be honest with ourselves, there are some really good sales people out there for these companies, and they can get you to the point where you think, “this is what I need to do.” But if you don’t have clarity of what business outcomes you want to achieve, it’s very easy to get distracted from the core outcomes you actually need.

AR: I will share a quick story, and then we don’t have to talk about ZSuite anymore if you don’t want to. We started with those outcomes and vetted those across the organization. One of them was core deposits and going into any sales process with any technology partner, we were putting these outcomes out there clearly for the vendor to understand. So when Nathan and I had an opportunity to meet, maybe a year and a half ago, he and his team only got about a third of the way into their presentation, and I was like, “Guys, this is a no-brainer.”

It was just very clear. When we’re able to identify a partner like ZSuite or partners in general that just meet the need and help us solve what we’re ultimately trying to do. It was just like, “Let’s cut to the chase and get our partnership off the ground because we’re completely aligned in that process.”

NB: We met through the accelerator that ICBA was sponsoring and working through the Venture Center. I probably talked with 120 bankers, and you were the only one who said that. It was nice to hear.

Let’s shift a little bit and dive into the strategy behind targeting specific niches. Why is it that at Encore Bank, you have opted to go with more niche growth strategies than a general market approach? Which, quite honestly, for most institutions in the US, is the typical go-to-market strategy.

AR: I think it’s partially because of the fact that we have a really deep understanding of our client base. When we’ve admittedly worked for years to put this group of investors around us, we know the investors on a personal level. We know their families, we know their businesses, and we hope to execute a true partnership there.

At $3B in assets, and I’m responsible for tech and innovation, I’m playing a different game than a peer at a money center bank. We have a relatively good-sized balance sheet, but a relatively small group of clients and investors whom we know almost everything about.

NB: So go deep with those that you know the most about? And that you already have a relationship with because the acquisition cost is lower.

AR: There’s a good example we can talk about. Beyond subaccounting for title companies, law firms, property managers, and people like that. There’s a big need to fill there, but let’s use an example at the other end of the spectrum: Association services and the association management business are very important to us. It’s a new business that we’re literally in the process of getting off the ground. It wasn’t a business that a lot of our investor partners were in. So the strategy had to be the core strategy. We wanted to be innovative about generating core deposits. But we had to think more broadly about the sales teams that we put around that business compared to the subaccounting business we already had.

NB: As you start going down the path of trying to build out different niche businesses, you can learn different ways to go about it. Some of you may be familiar with the book by Jeffrey Moore called Crossing the Chasm. Specifically the idea of early adopters, late adopters, early majority, and product life cycle. Moore’s general thesis is that to move from the super-early adopters to the larger majority of folks who are willing to move fast, there’s a huge chasm you have to cross. He likens it to World War II when the Allied forces needed to get onto the continent of Europe. They were staged in England and needed to choose their beachhead.

After you choose your beachhead, you can figure out how to get further inland. And likening it to business or marketing, picking a niche is a great way to be able to get onto those beachheads.

So after Encore got started figuring out what those niches were, you could start expanding from there.

Another quick store that I always think of is Live Oak Bank. And years ago, when Chip Mahan started Live Oak Bank, they wanted to be the best SBA lender to veterinarians to the point that the FDIC actually referred to them as “the doggy bank,” because they were so focused on veterinarians.

And for a while, they mastered that particular concept. Now, I can’t remember how many verticals they do in SBA lending, but I think it’s upwards of 30.

So it’s this constant outlook of when you decide to grow, if the niche isn’t large enough to support your growth, it doesn’t mean you have to forget about the niche strategy. You just need to look for the most likely adjacent market you can move into.

Scott Mills: Are you figuring out what the niches are that you want to pursue and then pursuing partners based on that, or is it a combination of meeting interesting people and going, “Yeah, we want to pursue that.”?

AR: For us at Encore, it’s very much identifying niches and pursuing partners in those spaces. Banking is very simple, yet complex as you’re managing a liabilities portfolio. So that data is out there to understand a market, who the competitors are, and how fragmented the market is. We lean pretty heavily into that data, looking for where the deposits are and then backing into a strategy. Sometimes we do chase shiny objects, but hopefully, most of the time, it’s more strategic than that.

NB: I find it’s always good to be planned and programmatic, but make sure to be opportunistic when opportunities arise. You have your strategies, you have your niches, and your verticals that you want to focus on. Now it’s talking about partnerships or do you need technology? Do you need to hire people? Do you need services or not? And there’s always the question, do you build, do you buy or do you lease? And just to define those terms, the building would be getting developers and building it in-house, and buy would be acquiring. And there are a lot of examples of banks that do build in-house. They’re typically larger because they have more budget to spend on developers. You could buy talent to come in or buy companies that come in.

MVB comes to mind. They bought a software development firm called Trabian, where they got a lot of great technology talent. And leasing just means licensing tech from different providers.

How do you typically think about that at Encore Bank?

AR: Every opportunity that I work on, I need to think about it as though I’m going to sell that business in two years. With Encore, we have a certain exit thesis that we’re building toward in the next four or five years. So we’re actually running a business that we would anticipate an exit through. But that kind of paradigm shift changed the way I think about build versus buy versus lease.

I’m very thankful to my partner Lee with Core10. We have been able to get from about $150M in assets to roughly $3B in assets in 36 months with zero developers. I hope to keep it that way.

You lean into your partnerships even more heavily when you’re trying to accomplish that. I’m not opposed to a build, buy, or lease strategy. We’ve pursued a “buy” strategy more times than not. But I think there’s a case to be made even in a build scenario if you can validate getting to revenue fast and getting a return generated in a short amount of time.

NB: ZSuite actually spun out from a bank called Leader Bank in Massachusetts. And Leader Bank wanted to go after property managers and get more deposits from them. They came up with some ideas and didn’t find anything in the marketplace that quite fit, so they decided to build it. They had great success with it, and when other banks started calling and asking to license the technology, they decided it was time to spin it out.

The biggest question that I think the strategists need to be thinking about, whatever role that is at your bank, is what is your singular bank going to be good at? What are your core competencies? And make sure to lean into them if you’re going to pursue a build strategy. It means you have to build out a competency in software development, product management, and all different types of things. That core competency isn’t just about doing the work, it’s also about attracting the talent, and setting the type of management in place. It means you need to have your shareholders in with your expectations on how much it costs to actually build things and make sure they are in line with you.

There are absolutely financial institutions in the US that make sense for them to build. It’s probably not going to make sense for the entire technology stack that you need. Even at ZSuite, we don’t build all of our software. We lease a lot of our software as well.

The big thing that I would ask if I were sitting at a bank is: what do we need to be the best at? And if it’s something we don’t need to be the best at, then let’s not do it in-house because we can use our capital in a better way.

AR: Don’t shy away from an earlier stage partner. That has been a big component of our thesis. I’m not talking about pre-revenue, not an early stage. I’m talking about fintech companies that are three or four years in, well-backed, and got their stuff together, but it’s still relatively early. We’ve built a model around partnerships with those types of companies because we know it’s going to evolve. We’re not interested in a product that’s completely baked. A product that’s 70% baked is kind of perfect because then we can evolve together.

Maybe establish a priority to try it a few times. In our experience, it has worked great.

NB: Lots of times, especially if you start with strategy first, and then you start looking for software providers, you might find there is no software provider for the strategy you’re trying to achieve. It’s like, “Oh shoot, what do I do now?” And then a lot of people are going to think, “I need to build it.” And that’s not the only option. There are a bunch of companies out there that just do development and product development. There are also some companies that you’ll find that are somewhat adjacent to the space you want to be in, but their product doesn’t really fit exactly what you need. It’s worth having a conversation because what you actually want might be something on their roadmap or that they’re willing to put on their roadmap.

And begin opportunistic definitely plays out. When we first spun out from Leader Bank, we had this one product that helped manage tenant security deposit accounts in Massachusetts. And being trained in something called “product market fit,” if you haven’t heard of that, a lot of startups talk about it. It means you can build a product that the market actually wants. I know it’s a weird concept, but for some reason, a lot of people don’t do it. They build a product and hope and pray that someone will buy it.

Anyway, we have this product, and we showed these banks our tenant security deposit management system, and the same conversation kept happening where they said, “That’s cool, but..”

And we said, “But what?”

They said, “That security deposit issue is a small part of our escrow problem, but our escrow problem is way bigger, and we can’t use your solution for that. We need to address the big problem.”

We said, “We don’t have a solution for the big problem.”

They said, “Okay, well, call us when you have the big solution.”

And after you hear that enough times, you decide that maybe we should go out and solve the bigger problem. We ended up finding five banks that had escrow on their strategic roadmap and were trying to solve the pain point. We ended up partnering with these five banks and building the product together. They were part of the development group and part of our scrums. We were talking about the product every month, often times more often than every month.

And we built a product together. We were able to get real-time use cases of people using the system. That helped us build our product and build our platform. And we were able to fill a niche that some of these banks had been looking for four and five years for someone to do it.

Alan, let’s say we have some folks in here who are interested in this way of innovation and partnership and want to go after core deposits through niche strategies. What advice would you give to those folks?

AR: Get the culture in place for sure. If the culture is not in place to be able to innovate… I’m not sure what I would say except, “Don’t do it.” So that’s the first challenge.

In my case, the culture of innovation was established very early.

NB: I’ve seen that time and time again. It’s one thing to say you want to innovate, it’s another to actually do it.

AR: I’m very opportunistic, so, I’m constantly scanning for opportunities. But our CEO and president also tell me very honestly, “We’ve got to stay focused on our core business.” You know that’s shiny and looks great, but if it doesn’t help our investor partners and doesn’t help our commercial lending program, let’s set it aside for now. Even though we think the market may head in that direction. That’s another part of the culture; we’ve got to stay focused on meeting the needs of our investor partners and core businesses.

NB: Which I think ties back to your first point of starting with the strategy. Once you have that clearly set out, then move forward with looking for partners.

Another one I’ve heard is to go ahead and pull in compliance from the beginning. Because it can very easily throw something off the tracks. For those of you who want to go back to your statistics class, some outcomes are either a one or a zero, and there’s nothing in between. That means it happens or it doesn’t happen. Compliance holds that power over some things where if they give you a zero instead of a one, it isn’t moving forward.

AR: I’m glad you brought that up. That is the starting point for all things. We have a core team that meets on a weekly basis that includes our head of compliance, head of risk, head of audit, head of ops, head of tech, and head of data security and information security. That’s the starting point for virtually everything that we do, so nobody is out on their own.

This concludes the transcript of the panel. To learn more, feel free to visit the ZSuite and Encore Bank websites, as well as connect with Nathan and Allan on LinkedIn.

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