When fintech first really emerged as an industry 15 years ago, it was all about how it would replace banking and existing financial services. As an aside, “really emerged” meaning that in the purest sense, technology has been deployed in financial services for a while. Post-crisis, the new kids on the block (not the actual NKOTB) were here for disruption. It was Banks vs Fintechs. Us against them. However, the great replacement never happened, and so began the era of collaboration and partnerships. But are partnerships between banks and fintechs really a good idea?
First and foremost, what do we really mean when we talk about partnership. It is a strategic alliance that is mutually beneficial. It seems these days that partner is the new sell. You are not a supplier selling products and services any more, you are a partner. It’s a bit like how you don’t have any businessmen any more, they all are “entrepreneurs“. There should be a difference though, a partnership meaning an actual win-win situation. Not just a cost centre for the bank. It could result in deeper ties like a joint-venture (JV) but that’s not the case all the time.
What really matters is the intent to have value creation on both sides. As a rule of thumb, remember that it needs to be a two-way street, otherwise that’s just a supplier-client relationship.
Why would fintechs and banks do a partnership anyway?
The thing is, starting a company is hard work. It is well-known that a whooping 90% will eventually fail. Starting a business-to-consumer (B2C) one is even harder. You need to swoop in, acquire tons of customers and hope they stick with you and your product. So imagine doing that in a heavily regulated industry (for the most part) in which people (retail and business alike) have a hard time changing their habits. You are more likely to get a divorce than switch your current or checking account provider. Crazy stuff but true in most countries. Even if the service is clunky, the customer experience very poor, people tend to stick to their banks.
And that’s B2C. If you are a business-to-business (B2B) or a business-to-business-to-consumer (B2B2C) fintech, you obviously were already looking to banks to sell your products and services. Maybe you are just a supplier, or maybe it’s a deeper partnership. And that’s hard as well as sales cycle tend to be really long.
The main advantage for fintechs is therefore to be able to scale much faster and cheaper than they would have on their own. By striking one deal with a large incumbent bank, suddenly your product is in front of millions of customers. That’s how partnerships between banks and fintechs become useful. Customer acquisition becomes much easier. Your business idea is further validated because a bank is trusting you to put your product in front of their own customers. A lot of fintech startups business models are built on the premise of big volumes and low margin – because of a low breakeven point – so partnering with a bank makes it easier to get there.
Are partnerships a miracle solution for fintechs then?
Nothing is perfect unfortunately. Partnering with a bank has its downsides. As a starter, you are facing a slow-moving behemoth. Getting to speak to the right person to get started is not really a walk in the park. When you do, you will quickly realise that what takes a startup a day, will take a bank weeks. Because decision-making is not the forte of large organisations and banking is the perfect example of that. There will be committees and steering groups. And good old office politics more generally.
Product-wise, you are obviously diluting your brand. The bank will be the prominent one, and if the rest of the service is poor, your brand might be collateral damage. At the end of the day, the bank owns the relationship with the customer. From a financial standpoint, the bank will have the higher ground to negotiate a good deal so you might left a few feathers here. Last but not least, technical integration: some banks have modernized their tech stacks to a certain extent but don’t kid yourself. It will take much longer than you think to navigate often antiquated systems. Have you ever heard of COBOL?!
What about banks?
Partnerships between banks and fintechs are not a one-way street. What do banks think about it? When fintechs thought that they would replace banks, in the meantime the guys in suits thought that fintechs were meaningless. In the sense “why would I pay attention to a bunch of nerds starting a business in their garage”. But the thing is, fintechs have been slowly taking market share in many parts of financial services around the world. In some parts, they are the new sheriff in town. Does Ant Group ring a bell? In the eye of the customer, fintechs are clearly a better alternative for some financial services. Think TransferWise for international transfers or Stripe for B2B payments. And others are eating away at banks’ offering. Bit by bit. From a bank’s perspective, it becomes then clear: better have 50% (or whatever percentage they negotiate in the partnership) of something than 100% of nothing.
Which brings us to another point, net interest income (the income banks make on loans) is under pressure because of low interest rates. And that’s true in most countries around the globe as the current crisis pushes central banks to cut base rates. Which means that it is a good idea to develop further the ‘other operating income‘ side of the business (the fees). Enter commercial partnerships, a good source of fees through referrals and share of income. These can be services that you were not providing before, or you were but not good enough to grab or maintain a decent share of wallet.
Last but not least, banks’ ability to innovate is just generally poor compared to smaller, nimbler, newcomers. That’s not just banking, that’s most industries. Partnerships are therefore a way to keep an attractive proposition by somehow externalizing the innovation process. Being associated with innovative startups also benefit incumbents’ brand image through what is called the halo effect.
Partnerships between banks and fintechs should be in theory a win-win situation. It is definitely a good idea. And there have been a few successful ones in some countries. But the reason you do not see a lot of them is because a the end of the day, strategic alliances are hard. Not just in banking. The cultures of the organisations tend to clash, there is often a mismatch in expectations…. and you need to agree on a commercial model that is fair for both parties. That’s why most partnerships either do not lift the ground, only last a few years or end up straight in failure.
That’s just the reality of the business world. It is not really a world of teddy bears.