Fintech and the Banking System - A Path to Convergence
Bhupinder Singh, Founder, Incred writes about how banks and NBFCs could improve efficiency of their processes through acquisition of fintech companies.
Sometime in May 1994, in an internal meeting at Microsoft’s headquarters at Redmond, Washington, Bill Gates was asking his team why Money, Microsoft’s personal finance product wasn’t succeeding, when a comparably tiny start-up company in Menlo Park, New Jersey called Intuit was “eating Microsoft’s lunch”. "Banks are dinosaurs", said Gates at that meeting “We can bypass them.”
In the 25 years since that meeting, financial technology appears to have moved at a relatively glacial pace. It may be the hottest segment in the information technology business today, but when all is said and done, fintech is yet to ‘bypass’ banks.
VBProfiles, a San Francisco-based market intelligence firm identified more than 1,000 fintech companies across the world in September 2016, a number that may be closer to 1,500 today. They categorized five types of firms: payments, investments, lending, insurance, and infrastructure / enabling technologies with nearly two thirds in payments, and infrastructure. However, these are just drops in the bucket of global finance. Which begs the question: how disruptive or transformative will fintech really be in finance? Success on the road ahead for fintech firms will depend on how well they understand the landscape. Perhaps we should take a fresh look at the business of finance and fintech’s role in it much more closely and carefully.
Finance is a spectrum of various institutions: from traditional banks at one end, with non-bank finance companies, specialty lenders, investment banks, mortgage banks, credit card providers, and finally fintech companies, occupying a small space at the other end of it.
Banks have several competitive advantages over disruptive fintech companies. For starters, despite scandals, crises and frauds, public faith in the banking system is high. The main reason, of course, is government support that ensures the long-term health of the banking sector. Second, banks have established and predictable processes built around the structure and pace of transactions, and all market participants have a good understanding of how these processes work. Third, trust is a critical underpinning and spans generations. Relationships are long-term, and banks’ role and position within the market economy is well known, even if customers are unaware of the specifics of the relationships.
Against this backdrop, what is available for fintech companies?
One of the areas they currently operate in is lending intermediation. They provide a technology-enabled user-friendly platform for connecting consumers and lenders. But can fintech companies provide balance sheet muscle for borrowers? The P2P model has had a good start in some countries; however, it is unclear how scalable this form of lending can become. On the other hand, banks are keenly aware of the cutting-edge work done by fintech companies in the fields of payments and wallets. Indeed, this work offers the potential for banks to improve the efficiency of their own processes. So, banks and NBFCs are either buying this technology or acquiring fintech companies outright. Axis Bank acquired FreeCharge, and Bajaj Finserv bought MobiKwik, two fintech ventures. There are likely to be more mergers and acquisitions (M&A) in the coming months.
Fintech companies have new, disruptive technologies, ideas and a singular lack of fear. Banks have history, trust and balance sheet power. Can banks / NBFCs and fintech companies get together in new, transforming ways? Absolutely!
In fact, the competitive advantages of inorganic growth through M&A are considerable - bringing together fintech companies that can build customer analytics and banks / NBFCs with the financial clout, in ways that can then help develop new and better products. The combination can enrich the customer experience in novel ways, while maintaining the trust customers impose in the banking system. Banks and NBFCs will need to evolve a hybrid model that combines their traditional balance sheet and feet-on-street strengths with cutting-edge data science and technology-led customer experience. Those that do not have the ability to build this in-house will need to quickly go down the inorganic route. For fintech companies, financial muscle will be a critical determinant of business scale and success, and an inability to secure this should focus their minds on the M&A route as well.
Let’s go back to Bill Gates’ May 1994 meeting at Microsoft? As Newsweek reported then, Gates was unhappy with Microsoft’s alliance with a credit card company. “Why don’t we buy them?” he asked. His vision was to position Microsoft at the centre of the “transformation of the world’s financial system”.
That didn’t quite pan out, but we are yet again at an interesting inflexion point in the interlinked story of banks and technology.
Opinions expressed in the article are the author’s own.