Banks and fintech firms are finding synergy in partnerships that join the former’s market know-how with the latter’s technological wizardry.
The demise of traditional banks has long been foreseen. In 1994, Bill Gates, then Microsoft’s CEO, called them “dinosaurs” in a Newsweek story, expressing hope that Microsoft could take over banking functions. At the time, many expected that financial technology corporations could soon replace banks. The same year, a lobbying association in Washington was crying out for more investments to offset the market share taken by nonbanks, which were chipping away at banks’ historic exclusivity in the payments system, according to reprints of American Banker.
Yet 22 years later, banks are still in the driver’s seat of financial intermediation. What seems even more important for their future, banks in the US—though also in Asia and in Europe—are more than ever engaging in partnerships with a flourishing industry of fintech companies.
“Over time, the relationship between fintechs and banks has changed, with more and more players choosing partnerships over direct competition. Only two years ago, when people were talking about fintechs, they were focusing solely on the disruption that these companies would cause to the big banks’ business model,” says Warren Mead, co-global head of fintech at KPMG. “But a number of fintechs have found that partnering with traditional banks can help in addressing challenges in the market, such as gaining direct access to consumers … as banking customers tend to be sticky and very loyal to their existing providers.”
According to a joint study by KPMG and CB Insights, venture-backed fintech companies clinched a total of 218 funding deals for nearly $5 billion in the first quarter of 2016, a record high for the period. If companies keep raising money at this pace, as recent Asian megadeals suggest they might, this year the sector will exceed last year’s total funding by 36%. Mead, who co-authored the study, said the positive growth of fintechs’ funding will continue despite some recent setbacks experienced by peer-to-peer lending marketplaces such as LendingClub—because there is much more in fintech than peer-to-peer lending.
LendingClub, so far the largest of the so-called marketplace lenders in the US, has seen a sharp fall in its stock-market value since its founder and CEO left in May amid reports of fraud involving loan placements. The scandal raised questions about the industry. But that does not change the basic rationale for bank-fintech joint ventures.
“Banks are always going to struggle to build innovation and technological solutions. It is not really in their DNA. What is in their DNA is exquisite and strong relationships with their customers that have been forged for many years—in up times and down times,” says Sandy Kemper, founder and CEO of C2FO, a working capital exchange.
“Innovators still need connections to sell in the business world, and banks have connections and networks with millions of customers around the world that any of us in the fintech space would love to have—but we have not been around for hundred years, fifty years,” says Kemper, who also sits on the board of UMB Financial, a banking group founded by his ancestors. “We are new. We are innovative. But we need to have the relationship connections of some of the old-school companies, just as they need to have our innovations.”
C2FO, which counts among its investors Citi Ventures, Citigroup’s innovation arm, is one example of how banks and fintechs cooperate. C2FO matches account payables and account receivables, shortening the differences in time and amount paid between buyers and suppliers. It has customers such as Costco Wholesale, Pfizer, and Walgreens.
“The business of working-capital lending is costly and inefficient for banks. It is not a business that many banks wish to be in,” says Kemper. “There are $43 trillions of account receivables on the books of businesses around the world on any given day. There are only two to three trillion dollars of funding for those $43 trillions in account receivables, so we are not focused on attacking the banks at all.” He believes having banks and their customers in his business can only boost opportunities.
Cooperation between banks can also expand widely in the field of financial utilities, companies that provide outsourced solutions for traditional banking activities that are mutualized to serve multiple entities. Smartstream, for example, is a service provider for post-trade in capital markets, and in 2015 it launched a joint venture—Reference Data Utility (RDU)—with Goldman Sachs, Morgan Stanley and J.P. Morgan to manage reference data on behalf of banks.
“Every bank in the world has a unit or several units doing data management. We offer to replace the entire process externally with a mutualized service,” says Philippe Chambadal, president of Smartstream and RDU’s CEO. Chambadal says the service launched five years ago, and last year the three banks joined with his firm to create the first industry-backed utility. “Having them as partners gives us great credibility, as they are three great names in the industry,” Chambadal says, adding that RDU is also in discussion to bring other banks in the partnership.
Chambadal also believes that, because of the cost pressure that has come to bear on banks since the financial crisis, there is a general need to “externalize and mutualize” a full range of banking services, mainly in the sphere of back-office activities: “There are few arguments to keep the back-office function inside the banks. Banks cannot afford the current cost structure. The only way forward is through mutualization.”
US-based major banks have been pioneering partnerships in the fintech space, but Asian and European banks are catching up. According to the KPMG/CB Insights study, over the five quarters from January 2015 to March 2016, Goldman Sachs, Citigroup and Banco Santander or their corporate venture units have each completed seven or more deals with venture-capital-backed fintech companies. Mitsubishi UFJ Financial Group led Asian banks, with three deals.
Among European banks, in addition to Santander, BBVA is also a leader in fintech collaborations. At BBVA, “fintechs are seen more as partners in the area of innovation than as a threat to the banking environment,” says Chad Ballard, BBVA’s mobility and new digital business technologies director, business development and professional services.
The bank announced earlier this year that it will invest $250 million in a recent spin-off, the Propel Venture fund, in a move to channel investments into financial services start-ups. Propel will manage companies such as digital lender Prosper and Taulia, an online cash-flow management tool for corporate purchases and supplies. BBVA has already made direct investment in financial techs such as Simple, a US banking startup, and Atom, a UK mobile-only bank.
BBVA is one of the few banks in the US that has an open APIs where fintechs can build their own apps on top of those of the bank, says Ballard. Notably, BBVA provides a start-up called Dwolla that allows access to its application programming interface for real-time money transfer.
The transparency toward and commitment of the bank to the fintech space will be rewarding, Ballard believes. Through partnerships with fintechs, he says, “we are learning how customers want to work in this new digital age, and we are able to acquire customers in a unique way that we would not typically acquire through standard channels in the bank.”