FinTechs Pose a Massive Threat to Traditional Financial Services Firms
In part 1, we set the stage: financial services providers are exposed. In this blogpost, we will be dialing in on all the ways in which they are exposed! While some might sound obvious, we’re going to dig into why it matters and the sheer size of the opportunities being battled over. It’s easy to look at certain categories of payments and call the ball on commoditization or hefty competition, but we would challenge the validity of these notions. If offering commoditized products wrapped in technology and excellent user experience is enough to steal large swaths of customers away from banking and financial institutions — we are going to see some REALLY large companies be built in this next decade. And to be clear, this is not an “if.” We’re seeing this happening before our very eyes. Traditional banks, business banks, lenders, insurance companies, credit unions, investment brokerages, payment processors, credit card companies — are all feeling the pain and are finding it increasingly difficult to compete with technology companies who offer the same financial services, delivered in a more friendly technology-driven format. See below for a sampling of categories where we see heavy disruption and large market opportunities for tech-enabled solutions.
Consumers are increasingly banking online, making payments online, investing in online brokerages, etc. The trust is now there, and the infrastructure to operate a fully digital bank is also there. And by infrastructure, we can also say “or lack thereof” given the growing irrelevance of ATM locations and bank branches. Now — this is not to say the above is true for all consumers. There is still a large population who use cash, but the broader point being that increasingly — we’re seeing more US consumers live a completely cashless life and where one doesn’t feel the need to visit a bank branch with any regularity. Once we accept that, it’s no surprise to see all the excitement surrounding Neobanks. These platforms are rightfully expensive to scale / acquire customers and is a category that has already seen immense competition. However, in the context of 250M+ adult citizens in the US, a number which expands to several billion globally, a few dozen neobanks serving 250M starts to seem less crowded. The largest Neobank in the US is Chime, with 12M users and less than 5% market share. The next largest Neobank has just 1% market share. Given the advantages Neobanks have over traditional banks in terms of data-prowess, low-friction-onboarding and accessibility — we see no reason why Neobanks won’t one day overtake traditional banks when it comes to active users. Will we see 2–3 “major” neobanks reach substantial market share?
It’s easy to roll your eyes at the umpteenth buy-now-pay-later provider, but when you take into consideration that BNPL revenue is growing from $93B to $181B in 2022 and that this only accounts for 1.6% of online retail revenue, you can easily pencil out the path to $1T. Looking back to the 90s, and in studying the hay day of physical retail, you would uncover that 1/3rd of retailer revenue came from credit products. If 1/3 of online retail revenue were to come from BNPL, it would again imply an additional $1T in revenue for online retailers. Given the differences in consumer behavior, retailers and banks each market, we are seeing leaders emerge in dozens and dozens of countries globally which is logical given each country can supper a BNPL platform leader (or two) without encroaching on anyone’s existing market share. The market for consumer financing products is just that large. If we can relay on human nature and history as good indicators — the resilience of the “buy — now — pay — later” value proposition is palpable.
Corporate Credit Cards
We’ve witnessed the expense management market flourish over the last decade. Corporate expense management is a natural candidate for software disruption and has given birth to the likes of Concur, Expensify, and dozens of others. More recently — we have seen tech-enabled corporate charge card providers such as Brex and Divvy start to offer fully integrated corporate charge card + expense management suites which eliminates much of the work you would have to do when pairing Expensify with Amex (for example, and which we know to be painful from personal experience!). As the infrastructure to roll out a corporate card improved over the years, we saw dozens of other tech-enabled card providers come to life. Crowded market? Sure. But to touch on a similar theme, every business is a candidate for a tech-enabled, fully-integrated corporate charge card and at some point, we would be hard pressed to understand why a company wouldn’t adopt one of these next generation card providers. In addition to the obvious enhanced UX, these products have also been able to extend higher and more flexible credit limits by leveraging open banking solutions that provide a 360 degree view into a customer’s financial profile. We see expense management add-ons as table stakes for cards going forward. The future is “fully integrated.” Just recently, PayPal threw their hat into the ring by announcing their entrance into the corporate charge card arena (20M of the 33M SMBs in the US have PayPal business profiles…). The opportunity to disrupt the B2B credit market is a multi-trillion-dollar opportunity and a highly logical area for tech-disruption.
Whether B2B or B2C, software vendors have discovered a highly lucrative payment processing opportunity. Prior to this discovery, software vendors might do all the hard work of aggregating businesses, delivering on delightful business and end-consumer experiences. Teeing up all parties to transact and then letting the processors realize all the fruits of their labor. No more. Today, whether through becoming a PFAC, partnering with a PFAC-enabler or heck, even a Stripe partnership will compensate the software vendor for some of their efforts. This is an absolute game changer because payment processors add very little value and are nearly fully commoditized. As a software vendor sitting on top of a large volume of payments — you “earn” the right to process those payments and benefit from that revenue, in addition to the revenue you charge for your core service (SaaS). The strategy for many going forward will be to comingle payment processing and software offerings such that you can’t know for sure what you are paying for. May I repeat: “the future is fully integrated.” Additionally, in certain markets, you can get really cute and offer the software for free and make your money on processing fees alone which is a hard price to compete with if you are a competitor without the ability to monetize off interchange. We’re seeing this in the B2B payments space already with companies like Melio.
Wallets are taking off before our very eyes. Mobile wallets have taken off in Asia first and are expected to reach 2.6B users in 2025. Take any APAC country and wallets are growing a whopping 135% YoY on average. In the US, we recently surpassed 100M mobile payment users which comprised just under 1/3rd of the US population and nearly 50% of all smartphone users. These trends have exploded during the pandemic and are showing no signs of slowing down. 43M Americans use Apple Pay, 31M use the Starbucks app and 25M us Google Pay. Not only is user growth increasing, but volume/user is also increasing and will exceed $3k/year/user by 2023. Why does all of this matter? Smartphones are on a path to disintermediate traditional payment methods (cash, cards, etc.). That is extremely strategic positioning and gives businesses like Starbucks, Google and Apple a lot of power when it comes to payment volume. Combine this with a rise in alternative payment methods (Venmo, PayPal, Alipay, Bitcoin, etc.) and you can pretty easily pencil out a case for mass consumer payments disruption.
Some Final Considerations
We started the blogpost with some commentary as to why crowded categories and commoditized offerings matter when faced with trillion-dollar markets. One area to call out are valuation multiples. The banking sector, while large and successful over the past few decades, does not trade at the same sexy software/FinTech multiple that we all have grown accustomed to. So, while software has the opportunity to displace traditional financial services with tech-enabled platforms, it would be prudent to expect depressed multiples over time if a majority of the revenue is based on interchange or is otherwise lower margin. We haven’t seen this occur to date but with continued penetration, and continued market entrants — we may see a new grouping of technology-enabled financial services platforms who trade somewhere between valuation of a bank and the valuation of a software company.
Amidst the above sampling of disruptive technology categories, we smell blood in the water for traditional financial services providers. In part 3 of our blog series, we’ll showcase the technology categories which have emerged to help traditional financial services providers to fight back.