INTERNET banking is causing the biggest shake-up in the financial services industry since the 17th Century, according to research presented to a conference earlier this month.

Professor Feng Li, of Newcastle University, surveyed 26 banks and building societies offering services via the Internet and found that new companies are posing a major threat to the traditional banking industry by cleverly adapting to the 21st Century "Martini" customer.

The companies, which often have entirely new business models and strategies, also offer cheaper banking than their traditional competition, but also often target the most profitable customers, picking and choosing who they want as customers.

Feng Li, professor of E-Business Newcastle University's Business School, who spoke at the British Academy of Management Conference in London, has warned that "e-banks" clamouring for a substantial slice of the lucrative financial market pose a serious, long-term threat to traditional banks and building societies.

He said that the recent dot.com crash had not changed the fundamentals of Internet banking, but that the established banks and building societies need to radically overhaul the strategies and business models which have helped them to maintain their competitive edge in the past.

Prof Li said: "Until recently, the monopolisation of distribution channels has provided the basis for banks to build strong relationships with their customers.

"The Internet, as a new distribution channel for financial services, has lowered barriers to entry in the banking system, allowing new players, often equipped with new technologies and business models, to enter the market.

"My research has revealed that these new players are posing a serious threat to existing banks by changing the rules of the competition and raising the general expectation of customers for services from all financial companies."

Internet banking is use of the Internet as a delivery channel for the provision of financial services. So far, most transactions are conducted from the client's personal computers but other devices, such as mobile phones, personal digital assistances (PDAs) and digital TV, are starting to be used.

The UK's financial services industry has the highest level of new entrants n Europe.

About 35 per cent of the companies who offer Internet banking services have entered the market recently.

Investing in Internet banking is strategically important to most financial companies, bringing a variety of benefits which include cost savings, new revenue generation, and the ability to provide non-traditional banking services, such as insurance and stock brokerage.

Although many banks have started to offer Internet banking at a variety of levels of sophistication, they are at risk from the Internet-only banks which do not have the burden of traditional overheads associated with banking, such as maintenance of high street branches.

These Internet-only banks include the "baby e-banks", Internet banks born out of existing financial companies - such as Intelligent Finance by Halifax.

The main advantage of this model is that the baby e-bank can exploit entirely new opportunities and customer bases.

Another challenge is posed by the supermarket banks, which provide Internet banking services through a partnership with an existing bank, but exploit the strong brand presence the supermarket already has, tapping into an existing, well-established customer base.

Examples of this include Sainsbury's Bank, a joint venture between Sainsbury's supermarket chain and the Bank of Scotland.

Another threat comes from non-banks which already have a strong brand image, which expand into banking through the Internet with cheaper products in a limited product range, such as savings, to cherry-pick the best customers in the market.

Such players range from car manufacturers to utility companies, airliners and retail chains.

Prof Li said: "The loyalty and trust of customers to established banks means the new entrants have so far failed to stage an equal competition.

"As a result, it has been very hard for the new entrants to successfully compete with the established players.

"However, the low price proposition of new entrants has led customers of established banks to demand similar benefits, putting enormous pressure on existing banks to reduce prices and provide more innovative products and greater choice."