Many banks have realized that the ebb in VC investments presents a compelling opportunity to secure equity stakes in valuable fintechs at favorable valuations. <\/p>\n\n\n\n
In addition, these investments also give them early or proprietary access to new technologies that give them an edge over the competition.<\/p>\n\n\n\n
Apart from direct investments, banks are also leveraging financial data APIs to embed their financial products in fintech apps. <\/p>\n\n\n\n
In fact, from December 2019 to July 2020,G2 saw a 133% increase in traffic<\/a> to their Financial Data APIs category. <\/p>\n\n\n\n This allows banks to leverage the fintech\u2019s digital distribution, while the fintech is able to offer their customers a wider range of products.<\/p>\n\n\n\n In the long run, the goal for most banks should be to acquire and integrate some of these capabilities into their own operations.<\/p>\n\n\n\n Research from McKinsey<\/a> has found that growth and profitability is increasingly being driven by origination and sales, instead of revenues generated from the balance sheet. In fact, the former has a return on equity (ROE) of 20%, while the latter only has an ROE of 4%.<\/p>\n\n\n\n And capital markets are already starting to notice this increasing divergence. In 2020, the banks most heavily weighted towards origination and sales averaged a market capitalization of 8.5 times book value, while banks least weighted toward those areas only had a market cap of 1.5 times book value \u2013 a 470% difference. By October 2021, this gap had expanded to 518%.<\/p>\n\n\n\n In other words, banks should think seriously about either developing in-house capabilities to enhance digital origination, or acquiring fintech companies and integrating their capabilities across their distribution network. <\/p>\n\n\n\n Organizations that do so most effectively will develop a noticeable advantage over the competition.<\/p>\n\n\n\n While bank-fintech partnerships can often be mutually beneficial, many banks find it challenging to integrate their offerings with fintechs.<\/p>\n\n\n\n Primarily, this is due to a lack of in-house technical expertise or bandwidth. Since each fintech provides its own API, proper integration requires a significant investment of time and technical resources. <\/p>\n\n\n\n So while banks may want to partner with multiple fintechs across the value chain, they are constrained by the pace at which they can effectively build, maintain and update those integrations.<\/p>\n\n\n\n This has led to the development of fintech-as-a-service (FaaS) platforms, which act as a modular middle layer between the bank\u2019s core systems and fintech offerings.<\/p>\n\n\n\n These solutions are especially valuable for small and medium-sized banks who are light on in-house technical resources. Services can include reconciliation, regulatory compliance and operational services. <\/p>\n\n\n\n Banks can either pick and choose between best-of-breed components to bold onto their core systems, or opt for an all-in-one solution to jumpstart digital offerings.<\/p>\n\n\n\n Other FaaS providers offer a streamlined way to improve the core rather than simply interface with it. Fintel partner Finzly\u2019s cloud-based operating system, BankOS<\/a>, creates a digital layer on top of a bank\u2019s existing core, providing an Appstore ecosystem for rapid prototyping and deployment of new services. <\/p>\n\n\n\n The platform also integrates seamlessly with 3rd-party fintech solutions, allowing banks to leverage best-of-breed services instead of re-inventing the wheel.<\/p>\n\n\n\n The availability of open banking platforms and APIs has already led to a greatly increased awareness of the potential opportunities. <\/p>\n\n\n\n Data from the 2021 Digital Banking Report<\/a> indicates that 85% of banks believe that FaaS will have its greatest impact over the next five years, and have adapted their strategic plans accordingly.<\/p>\n\n\n\n In fact, almost a quarter of banks already have an open banking strategy, and almost half have a plan to implement open banking within the next two years. <\/p>\n\n\n\n This lends a sense of urgency to adoption of FaaS, as financial institutions that fail to implement open banking in a timely fashion will likely end up lagging their peers, while those that lead the pack will benefit from expanded capabilities and technical agility.<\/p>\n\n\n\n Neobanks have been gaining ground on incumbents for many years now. <\/p>\n\n\n\n According to competitive strategy firm CG42\u2019s 2018 Retail Banking Vulnerability Study<\/a>, the top 10 U.S. consumer banks stand to lose 11% of their clients to neobanks if they continue on their current digital trajectory. <\/p>\n\n\n\n That translates into $344 billion in lost consumer deposits, and $16 billion in lost revenue.<\/p>\n\n\n\n One of the reasons neobanks are gaining the upperhand is because they\u2019ve been effective at adopting an 80\/20 strategy.<\/p>\n\n\n\n From a marketing perspective, this manifests in their targeting of underserved markets. As Anthony Costanzo, Chief Operating Officer at Cage Point, puts it, \u201cThey\u2019re really focused on serving the underbanked communities. <\/p>\n\n\n\n [They] might not have looked like competitor, but they are building platforms in order to compete with community banks [\u2026] by creating online experiences that are a \u2018one-stop-shop\u2019 for consumers.\u201d<\/p>\n\n\n\n And from a product perspective, neobanks focus on providing these customers with only the most important products for their specific needs. <\/p>\n\n\n\n Speaking in 2019,Frank Rotman, Founding Partner of QED Investors<\/a>, opined that this focus has been key to establishing a beachhead against incumbents. <\/p>\n\n\n\n \u201cWhile these neobanks can\u2019t yet match the complete suite of\u202fbanking products\u202fthat a traditional branch-based bank can, this doesn\u2019t matter to the typical consumer because they rarely, if ever, use any of the hundreds of products that are in a bank\u2019s arsenal. <\/p>\n\n\n\n So we\u2019ll be talking about challenger banks in 2020 and in 2021 and in 2022 and eventually, the \u2018challenger\u2019 title will be dropped because they\u2019ll be major players in the ecosystem.\u201d<\/p>\n\n\n\n Fast forward to 2021, and Rotman\u2019s prediction has been borne out by the hard data. According to McKinsey<\/a>, banks with the highest market valuations tend to have a 40-60% lower cost to serve than the average bank, and four times the revenue growth. They are able to do this through:<\/p>\n\n\n\n And the banks that best embody these two traits are the neobanks and similar digital challengers:<\/p>\n\n\n\n For example, China\u2019s WeBank launched in 2014 and has grown to over 200 million individual customers and 1.3 million small-to-medium enterprises (SMEs). <\/p>\n\n\n\n They have maintained profitability over 25%, and a cost to serve of $0.50 per customer, which is one-thirtieth of an average bank \u2013 all without any physical branches and a mere 2000 employees.<\/p>\n\n\n\n If these trends are any indication, banks who are able to win at digital distribution will be able to sustain meaningfully higher growth at significantly lower costs in the coming years.<\/p>\n\n\n\n In the small business market, fintech giants like Amazon, Stripe and Square have come to dominate point-of-sale (POS) and payment activity. <\/p>\n\n\n\n Thanks to their access to merchant transaction data, these companies are able to embed banking services like loans and deposit accounts into their existing services at very low acquisition costs.<\/p>\n\n\n\n Banks should not seek to compete head-on with these companies on their own turf. Instead, they will achieve better results by serving unmet needs across the small business value chain. <\/p>\n\n\n\n This can include payments, since the average small business accepts 11 forms of payment<\/a>, many of which are not offered by Square or Stripe.<\/p>\n\n\n\n But more importantly, banks should also seek to offer services at the beginning of the value chain \u2013 such as inventory management and payroll \u2013 and after payments in the value chain \u2013 such as invoicing and accounts receivable. <\/p>\n\n\n\n Small businesses spend more than $500 billion on such services from third-party providers, which presents a major opportunity for value-add.<\/p>\n\n\n\n For example, banks can partner with Autobooks<\/a> to white-label accounting, invoicing and payment systems for small businesses. <\/p>\n\n\n\n Or they can use Nav<\/a> to leverage data from retail POS and accounting systems to identify potential lending opportunities to small businesses.<\/p>\n\n\n\n Fintel Connect founder Nicky Senyard believes these value-added services present a major opportunity for banks in 2021. <\/p>\n\n\n\n \u201cMost banks I’ve spoken to understand how fintechs disrupt personal banking and some aspects of payments. But for their business customers, banks must also start paying attention to disruptions at every layer of their value chain,\u201d she says. <\/p>\n\n\n\n \u201cFinancial institutions that can solve for their holistic needs \u2014 everything from receivables to payroll \u2014 and market those solutions well, have an opportunity to create stickier relationships with their customers.\u201d<\/p>\n\n\n\n In their 2020 Digital Banking Maturity study<\/a>, Deloitte found that 60% of banks have either reduced branch hours or closed physical branches entirely. <\/p>\n\n\n\n The pandemic has greatly accelerated digital adoption across all demographics, resulting in 59% of adults using more fintech apps<\/a> compared to 2019.<\/p>\n\n\n\n Even before factoring in the effects of the pandemic, in-person visits are expected to continue to decline significantly over the next few years, as customers become increasingly comfortable with digital banking. <\/p>\n\n\n\n In order to compete effectively, banks will need to develop a robust portfolio of digital products with user-friendly design and strong online distribution.<\/p>\n\n\n\n The transition to digital goes beyond banking apps, and extends into payments as well. With contactless payments rapidly becoming the norm worldwide,74% of global consumers<\/a> say they will continue to use contactless cards and mobile wallets even after the pandemic. <\/p>\n\n\n\n In dollars and cents, the global contactless payment market is expected to grow from $10.3 billion to $18 billion<\/a> over the next five years, at a compound annual growth rate of 11.7%.<\/p>\n\n\n\n Finally, we may be at the dawn of the next major migration wave to the cloud \u2013 this time, of core services. <\/p>\n\n\n\n According to a 2020 IBM Banking survey on open hybrid multi-cloud trends<\/a>, 91% of financial institutions are already using some cloud services today (or will be planning to in under a year), but only 9% of mission-critical, regulated banking workloads are currently running in a cloud environment.<\/p>\n\n\n\n Since the pandemic has validated the importance of distributed, cloud-based infrastructure, this could represent the next big opportunity gap, where pioneering banks will have an opportunity to establish a lead over their competitors.<\/p>\n\n\n\n In 2020, the average global bank had 10-15% of staff dedicated to compliance and regulatory activities, for a worldwide total of $287 billion in annual expenditure. <\/p>\n\n\n\n And the penalties for lapses are stiff, with regulators issuing $10 billion in anti-money-laundering fines, a 26% increase from 2019.<\/p>\n\n\n\n Simply put, investment in compliance and regulatory activities is an expensive necessity, and the only question is how to do it as accurately and cost-effectively as possible.<\/p>\n\n\n\n That\u2019s where regulatory technology (regtech) comes in. Leading-edge regtech solutions are allowing banks to streamline and automate routine compliance work, while reducing the risk of human error.<\/p>\n\n\n\n According to Juniper research, spending on regtech is expected to increase from $33 billion in 2020 to over $130 billion in 2025, for a whopping 290% of growth. This rapid growth is fuelled by two key trends:<\/p>\n\n\n\n 1. <\/strong>The increasing importance of digital onboarding.<\/b> 184 million new bank accounts were opened via digital onboarding in 2020, and that number will balloon to 330 million by 2025. Banks will need automated checks and approval systems to support this increased volume.<\/p>\n\n\n\n 2. Advances in AI technology.<\/b> AI systems in areas like ID verification will allow banks to automate most of the know-your-customer (KYC) process, providing cost savings of over $460 million in digital onboarding alone. While only 4% of digital onboarding processes used AI in 2020, this will increase to 18% by 2025.<\/p>\n\n\n\n Another area where regtech is likely to be valuable is digital marketing compliance. Due to the high visibility of marketing content, there is not only a heightened risk of regulatory lapses, but also greater potential for reputational damage.<\/p>\n\n\n\n Dave Hunkele, industry consultant, recommends that banks account for regulatory considerations at the start of their marketing initiatives, rather than as an afterthought near the end of the planning process. <\/p>\n\n\n\n This should be supplemented by regtech monitoring solutions like Fintel Check<\/a>, which allows banks to automatically monitor link and content compliance among affiliate partners.<\/p>\n\n\n\n![\"revenue](\"\/wp-content\/uploads\/2021\/05\/Slide1.png\" "\\"\\"")
<\/figure>\n\n\n\n2. Fintech-as-a-Service<\/h3>\n\n\n\n
![\"open](\"\/wp-content\/uploads\/2021\/12\/Jeremy-blog-2.jpg\" "\\"open")
<\/figure>\n\n\n\n3. Neobanks Continue to Take Market Share<\/h3>\n\n\n\n
\n
![\"fintech](\"\/wp-content\/uploads\/2021\/05\/Slide3.png\" "\\"\\"")
<\/figure>\n\n\n\n4. Holistic Approach to Small Business Clients<\/h3>\n\n\n\n
![\"spend](\"\/wp-content\/uploads\/2021\/05\/Slide4.png\" "\\"\\"")
<\/figure>\n\n\n\n5. Banks Go Digital-first<\/h3>\n\n\n\n
6. Regtechs at the Forefront<\/h3>\n\n\n\n
Change Means Opportunity<\/h2>\n\n\n\n