Banks and Fintechs, a match made in heaven?

The Origin Story

While tech-oriented financial services companies have been around a long time, Fintech became a thing in the last decade or so. Smart phones, affordable broadband, modern tech (including APIs) and UI/UX designs have made many a modern financial proposition possible.

PayPal is probably the first name that comes to mind, when you think of early Fintechs. And after PayPal, there emerged equally prominent names like Square, Stripe, SoFi (US), Transferwise (UK), AliPay (China) and PayTM (India) threatening the dominance of banks and traditional incumbents.

What most people didn't appreciate however was that,

From Day 1, Fintechs courted and needed banks:

For,

1. Underlying bank accounts, to hold customer funds; be it 'for benefit of' (FBO), escrow, nodal or virtual accounts
2. Access to domestic & x-border payment rails (e.g., ACH, RTGS, RTP, SWIFT, cards), to move money
3. The balance sheet (from banks and other non-banking FIs), to lend money
4. Entry to card networks (via BIN sponsorship, acquiring licenses), to collect money (from consumers both online and offline)
5. Asset manufacturers (e.g., insurance, investments), to provide other financial services propositions

While (large) banks played the waiting game:

By,

1. Dismissing and ignoring Fintech ideas (like commission-free trading, cheap x-border payments, P2P lending) as unviable, at first
2. Setting up Innovation Labs (to build prototypes in partnerships with local regulators, universities and aspiring Fintechs) like they were a magic pill, and
3. Launching venture funds (to invest in Fintechs building in areas complementary to their proposition and client segments) as a hedge, or
4. Taking the inorganic route e.g., JP Morgan acquiring WePay to take on the likes of Stripe in the US

Until fear, disbelief, FOMO and reality set in..

and banks realised partnerships could help them:

1. Get a share of eCommerce flows, as businesses increasingly moved online
2. Launch new propositions quicker (e.g. credit cards, x-border payments, wealth & investment offerings)
3. Acquire customer segments (e.g., retail, micro SMEs) that were previously cost-prohibitive from a distribution & servicing standpoint
4. Provide complementary 'financial OS' type services (e.g., invoicing, billing, accounting, tax, payroll, AP outsourcing and other back-office automation)
5. Offer modern digital experience and customer journeys, especially as consumers started to have basic expectations in all things digital
6. Improve productivity and accuracy in the Compliance space, i.e, KYC / onboarding, transaction screening & monitoring, fraud management
7. Modernise tech stacks (e.g., core banking and loan management systems)
8. Embed their offerings (e.g., lending) in 'new economy' platforms

the list just goes on..

But what makes for a good partnership:

Like with any relationship, the Fintech-Bank partnership needs to be 2-sided love. And motivation and intent aside,

In banks, Fintechs look for a partner with:

• The ability to move at pace
• A solution-oriented relationship team with decision making power or influence
• Established engagement principles and processes avoiding analysis paralysis
• Strong tech integration capabilities, especially in APIs
• Regulatory heft, particularly in markets that they are less familiar with
• A captive audience, that fits their product's target customer profile

While in Fintechs, banks look for:

• A reliable leadership and operating team
• Robust organisation structure and operations
• Alignment on regulatory, compliance and legal aspects

Having requisite licenses e.g., for Payments (MTLs in the US, EMI in Europe)        

Overlap in risk-appetite e.g., customer sectors classed as permitted, restricted, prohibited        

Clear policies, procedures, controls for  KYC, AML, Transaction Monitoring, data security        

• Financial health and ability to sustain long term
• Evidence of other reliable partnerships e.g., legal, audit, accounting firms

And yet all this only works, if there is culture & vision alignment and a business case that makes commercial sense and will likely stand the test of time.

Partnerships have changed the status quo:

• Banks have become partner friendly and more focused, with board-level interest in the topic and setup of on-the-ground partnerships teams.

And the focus has shifted from creating a marketing buzz, to ensuring commercial viability, maximising RoI, and limiting risks

• Fintechs have become more bank friendly, and are striving for a strong compliance and regulatory foundation from the get go

There is maturity in their engagements with banks, with more probing questions around:

- Ability for the infrastructure to handle volumes with scale
- Operational readiness and resilience
- Tech strategy, including APIs
- Budget approvals, especially for incremental investments

.. rather than just signing up with the most seemingly-agile bank        

• Regulators are trying to strike a balance between

Being Fintech friendly,

Fintechs are being given banking licenses (e.g., Adyen in the UK, Europe, US) and direct access to payment rails (e.g., Wise was amongst the first in the UK) in some markets.        

Fintech-Bank mergers are being approved (e.g. Slice and NE Small Finance Bank in India)        

Interventions like Open Banking (to level the playing field), Regulatory Sandboxes (to sponsor Fintechs trying out new concepts) and Open Forums (e.g. the monthly meetings between RBI and Fintechs in India) are demystifying regulation and democratising access        

And keeping an eye on emerging risks, while warning and penalising as needed

Recent embargoes on PayTM and Kotak in India; Revolut's struggle with getting a UK banking license; and the clampdowns in the Banking as a Service (BaaS) space in the US

Partnerships is the name of the game today:

If you take the Payments space alone, there are examples everywhere:

• Stripe famously began its journey with Wells Fargo in the US, and is in 40+ markets globally today via partnerships with leading global and regional banks
• India's largest UPI app PhonePe (49%+ market share), depends on Axis Bank, ICICI Bank and Yes Bank for the back-end infrastructure connectivity
• And almost every week, there is a new partnership announcement like the recent one between Emirates NBD and Nium on cross-border payments

This has led to a mind-shift in the ecosystem:

• Goldman Sachs (a leading global investment bank), launched an in-house Fintech Marcus to get into retail lending and deposits in 2016
• In 2019, prominent platforms like Charles Schwab and TD Ameritrade followed Robinhood's example to slash stock trading fees to zero
• HSBC launched its very own x-border remittance app Zing this year, in a much delayed play to compete with Wise and Revolut
• Visa and Mastercard have been on a multi-year acquisition spree to diversify away from cards. To strengthen their x-border payments proposition, Visa acquired Earthport and partnered with TerraPay to add bank accounts and and wallets respectively as payment end-points.
• In India, a regional bank like Federal Bank has built out a partnerships vertical (with 50+ alliances across their horizontal banking proposition) in the last few years. This has boosted their brand nationally and helped build out distribution in bank accounts, deposits, lending, and credit cards.

• Tech-spend is not just a nice-to-have anymore. In an earnings call in 2022, JP Morgan claimed their annual tech budget was $12bn. Besides they continue to be acquisitive e.g., buying Nutmeg a robo-advisory platform in the UK to boost their retail and wealth offering
• Fintechs are also buying banks e.g., SoFI acquiring Golden Pacific Bancorp paving the way for a national bank charter in the US

And over the years, the scene has changed from

• Eagerness (Fintechs) and Complacency (Banks), to
• Conscientiousness (Fintechs) and Willingness (Banks), to
• effectively Collaborating (both), to

learning and attempting to become more Fin (Fintechs) and Tech (Banks).

I hope you enjoyed reading this, please do share your thoughts and insights. In case of any factual inaccuracies, kindly let me know.