The fintech industry was driven by the financial crisis of 2008 with a view to changing financial services through new technologies and business models. Moorwand’s Chief Commercial Officer, Luc Gueriane, writes
Billions of dollars of VC money has been channelled into ‘challengers’ seeking to deliver better, more digital services, at competitive price points that gain mass consumer adoption. But after years challenging the incumbents and slowly eating into their lunch, the pandemic and accelerated shift to digital should have been the moment for fintechs to grab market share.
Yet some have struggled.
This is in part due to the sprawling diversification strategies a lot of fintechs have adopted. The focus of many fintechs has been to offer as many services, to as many people, as possible. While in the short term this strategy might lure investment, in the long term it’s simply unsustainable.
Tandem’s credit card offering is a good example. After acquiring the lending business of Allium Lending Group it instead focused on “the very best savings products we can and helping more and more of our customers fund their green home investments.” Rather than compete in a highly competitive area the bank chose to focus on where it had a specialism.
Tandem like many fintechs has gone from unbundling to rebundling and back again.
The unbundling and rebundling of fintech
Historically fintechs never wanted to become the ‘jack of all trades’. In fact, they started by unbundling “universal banking” by taking the individual discrete products banks offered and making them better. It was fintech’s mantra to focus on simpler and more specialised offerings – TransferWise is perhaps one of the best examples of this ingenuity.
The firm spotted a big problem in cross border payments (something that was just one small part of a universal banking proposition) and made it better and at a lower price. Today it is still one of the most successful, and critically profitable, fintechs around.
This approach was a success for many companies from a customer acquisition perspective. Just look at the likes of Monzo who quickly built a cult following, long before the mobile app was as advanced as it is today. While fintechs were able to acquire a significant user base – often driven through expensive incentives and referral schemes – profitability has remained a well-publicised problem. And for many fintechs the natural step was to try and sell more services to their expensively acquired customers to boot average revenues per user and increase profitability.
The dangers of diversification
However, diversification of services is a vicious cycle. Fintechs struggling with profitability look to build new services to earn more money, but to deliver said services requires more investment and higher ongoing operational costs.
And if even a number of fintechs have the same idea, you end up with a plethora of different firms all offering services that are very similar to each other, making the market become more congested. While this is great for the consumer who ends up with greater choice, it is hard for the fintechs to make money from these new offerings because the services must be competitively priced to become appealing. This leads to commodification and price pressure.
Enter Covid-19 and the recession
The strategy of diversification may work for some in boom times, but in a recession or time of crisis – like we are today – it becomes a lot harder.
During the pandemic, consumers and businesses have been flocking to the safe harbour of financial institutions they know and can rely on. While Starling was the biggest winner of current account switching in Q3 2020, it was closely followed by Nationwide and NatWest. Customers have gone back to traditional banks as well as the more established fintechs who have built up a considerable brand name. While Starling has reached the 1.5m customer milestone, the pandemic has not been so kind to many others.
The high cost of operating so many services against a back-drop of high competition and unpredictable consumer appetite makes diversification unviable in the short term. This is especially true when fintechs can’t draw upon the funding sources they have been able to in the past.
Open and Embedded Finance
It isn’t all doom and gloom. In fact, we are soon to usher in the age of the fintech specialist.
Analysts, think tanks and industry influencers are now all suggesting that the future of fintech is to be dominated by Open and Embedded Finance. This is where products and services are more easily connected and managed, as well as embedded into other products and services.
Embedded finance will see software companies – many of them big tech firms – embed financial services within their offerings to attract and retain customers. The “internet” used to be its own discrete market but became so ubiquitous it made no sense to categorise companies as such. In the same way, as fintech continues to be embedded into financial and increasingly non-financial products, we will no longer categorise fintech as its own distinct sector.
In this brave new embedded world, being a specialist will not be a disservice, nor would it limit a company’s potential audience. In this landscape, it’ll be much easier to distribute and scale a service – for example, a specialised SME loans provider might sit within an SME platform alongside a wide variety of products all geared to small businesses. Specialists will find their home within these ‘marketplaces’ of services – provided the product itself is competitive – and reach scale through being embedded into these larger platform offerings.
The future of fintech
We have gone full circle, fintechs are no longer looking to solve niche problems like they once set out to and instead are starting to look like the banks by trying to offer everything in one.
For some this has worked well, Revolut’s crypto arm has become one of the most profitable parts of its business, a testament to the ambitions of the fintech to go beyond bank accounts and offer competitive products that consumers want. But the current market has tipped the balance, fintechs must be cautious in their approach and question whether it is the right choice to opt for diversification given the current and future market environment.
With the dawn of embedded finance on the horizon, fintechs who are niche, but can deliver a service consumers want, will have the opportunity to build economies of scale and boost profitability without needing to offer services outside of core competencies.
As 14th century logician and philosopher William of Occum said famously: the simplest solution is most likely the right one. Fintechs hurtling towards 2021 and another year of uncertainty would do well to follow his advice.