Why does Goliath Partner with David?
Welcome to Fintech
By Prof. Dr. Bjorn Cumps – Centre for Financial Services, Vlerick Business School
Wealthfront, Motif Investing, Lending Club, Kabbage, Stripe, Square, Dwolla, Funding Circle, Adyen, Fidor, Simple, Nutmeg, … Never heard of these companies? This is just a small, random selection of Financial Technology (“FinTech”) companies currently shaping the Fintech landscape. The financial services sector is ripe for disruption and 2014 certainly was a remarkable year for Fintech. More than 1000 Fintech companies are currently being tracked and they focus on a myriad of financial technology services of which payments, lending, personal finance, equity finance, retail- and institutional investments and infrastructure are the most important ones. Their goal is clear and straightforward: to offer a faster, better, cheaper service than traditional banks. Most of them share the same characteristics: they focus, are transparent, data-driven and use technology to create a unique customer experience. They move fast, offer flexibility and have an entrepreneurial spirit. They promise “funding within minutes, real-time payments and automatically balanced investment portfolio’s” based on technology and software innovation.
Worldwide Venture Capital (VC) investment in Fintech ventures tripled in 2014 to more than $12 billion (up from $4 billion in 2013). US Fintech still dominates the Fintech scene with more than $9 billion of these VC investments. But for the first time Europe experienced the highest growth in Fintech VC investments (215% year-on-year). UK & Ireland are still the dominant region in Europe yet the highest VC investment growth numbers in 2014 come from the Nordic countries, The Netherlands and Germany. There is little data available for Belgium but it is not on the forerunners list. Although Belgium has a great history in payments and infrastructure, it is certainly not one of the major players in Fintech today. Companies like Clear2Pay, Banksys, Isabel, Vasco, Ogone and others have certainly paved the way yet most of them have been acquired by foreign companies. There are promising signals coming from startups like Guardsquare, Sign2Pay and others yet compared to the Netherlands there is still work to be done on the Fintech front.
Towards a New Financial Services Landscape
Will Apple, Google or Facebook become a bank? One of the questions often heard the last couple of years in banks. Most of the major banks have had their eye on the digital giants, the large tech companies, to follow which moves they make entering the financial services sector. There is no doubt these digital giants are interested in parts of the financial services pie. Apple made their first move with Apple Pay to offer a new kind of payment experience: convenient and secure. But they collaborate with the banks and do nothing more than adding an experience and security layer on top of the existing payments systems. Google further examines how to further move into payments and financial advisory. Facebook recently announced their money transfer service, allowing users to send money using their messenger app. So, Yes, these digital giants will also play an important role in the new financial services landscape. Traditional banks, digital giants and new Fintech startup ventures. These are the three major players which together will shape the new financial services landscape. Are they all to compete? Not necessarily! We see the first forms of collaboration between these different types of players already emerge. Figure 1 gives an overview of some of the emerging sector dynamics. We added only a few examples to illustrate. Many more exist.
Figure 1 - Reshaping the financial services landscape
First, we see collaborations between the digital giants and Fintech startups like f.e. between lenders/peer-to-peer lenders like lending club, cabbage, etc and some of the major platforms like Alibaba, E-bay and Amazon. Based on the huge amount of trading data available on these platforms the lending companies can quickly decide and provide small business loans to the e-commerce companies active of the platforms. Next, we see some activity between traditional banks and the Fintech startups. In lending for example traditional banks will refer their clients to the lending platforms for part of their lending needs. This way they hope to better help their clients by offering a portfolio of funding sources, most of it traditional bank loans and part of it alternative financing from peer-to-peer lending platforms. In return the P2P lending platforms refer to the banks for products they do not offer themselves like current accounts or cash management services. The deal between Royal Bank of Scotland (RBS) and Funding Circle is structured this way. Similarly, In Belgium BNP Paribas Fortis has a partnership with MyMicroinvest for those organisations willing to include crowdfunding in their financing mix. But some banks go beyond partnerships and actively monitor and buy Fintech startups. The Spanish group BBVA acquired the pure-play US digital bank Simple in 2014 to further accelerate its digital banking expansion. Finally, we see partnerships between the digital giants and the traditional banks emerge. The best example is Apple Pay. While banks where fearing Apple’s move into financial services it turned out all they really wanted was a partnership with banks to get a piece of the pie, for now.
Why do these companies form partnerships? Are they not supposed to compete? Did Fintech companies not promise to disrupt the traditional banks? Yes, and they do. On some fronts they will compete and take over some of the pie of traditional banks. Lending Club has $7,6 billion of P2P loans funded to date (April 2015). These kind of volumes are no longer irrelevant to traditional banks. But all players also understand that if they partner and work together they can all benefit from these partnerships, complement each other and better fulfil client needs together. In the future we will see more of these ecosystems emerge. Success in the financial services sector will increasingly be determined by which ecosystem you chose to participate in and how these ecosystems will compete against each other. We see this happening in lending services but even more so in payment services.
What’s a Bank to do?
Is this the end for banks? Will the future banking landscape be dominated by technology companies, condemning traditional banks to operationally excellent, heavily regulated infrastructure providers? It does not seem that way as most banks now embrace and invest in digital innovation. They do so banking on their own strengths and with a more open mind-set towards new partnerships with tech companies. They seed-fund, finance or collaborate with Fintech startup incubators and harvest the successful ideas or companies. They build environmental scanners to monitor the Fintech scene to understand how these companies better cater customer needs. So, contrary to a couple of years ago, the sense of urgency is no longer the main issue. But banks are facing other challenges to keep up with Fintech companies. A growing technological legacy, rigid governance structures, slow decision-making structures, a mismatch in workforce skillsets and a lack of an entrepreneurial, innovative culture just to name a few. Fintech and digital business: easier said than done for organisations who have to carefully balance investments between renewing their core back-end legacy systems and keep up with new front-end digital apps. In academic literature we call this ambidextrous organisations. Can the bank be both operational excellent and keep the current business and IT systems running while also being innovative, offering the customer rich, new experiences in the front?
The main threat for banks does not come from outside but from within. It is not the Fintech companies who are the biggest danger. On the contrary, they offer many new and fresh ways of working traditional banks would have never thought of. The biggest danger for banks is perhaps their inability to quickly adapt to this changing landscape, open up, determine who to collaborate with, acquire, ignore or compete against. This will determine how their business model will evolve in the coming years. Building those ecosystems which offer best-in-class service and experience to their clients. Fintech can indeed be a threat to banks but is in my opinion foremost a formidable opportunity for traditional banks to change the image of the financial services sector. All that stands in the way is their own internal organisation. This will be their main challenge for the years to come.