FinTech 101: What bankers should know

BY Mark T. Amoguis Researcher

"When I go to Silicon Valley… they all want to eat our lunch. Every single one of them is going to try."  - JPMorgan Chase & Co. Chairman, President, and Chief Executive Officer Jamie Dimon during investor day in Feb. 2014

JPMorgan’s CEO may as well had referred to places such as the Philippines, where FinTech start-ups are challenging banking behemoths, even if not in an adversarial way.

Malikkhan Kotadia, a former Citibank executive who last May left the multinational lender to “mentor” FinTech start-ups, describes FinTech as an “emerging area of the financial services ecosystem where emerging technologies have allowed younger companies and start-ups to disrupt the industry to provide enhanced solutions and customer experience to both industry customers as well as the unbanked and underbanked segments.”

A portmanteau of the two words “financial” and “technology,” FinTech rose to prominence following the global financial crisis of 2007-2008, as tighter regulations prompted banks to innovate. This period saw the rise of lending start-ups like LendingClub, OnDeck, LendKey, among others.

Last year, global FinTech investment grew by 75% to $22.3 billion, according to a report by Accenture. The second biggest region for FinTech after North America, the Asia-Pacific region more than quadrupled investments to $4.3 billion.

Asia-Pacific accounted for 19% of global financing activity and up from 6% in 2010. Broken down by country, China got the lion’s share at 45%, followed by India, 38%.

In terms of volume of FinTech deals in Asia-Pacific, 78% involved the banking industry; 9%, wealth and asset management companies; and 1%, insurance firms.

Accenture noted that the payment sector is the most popular segment for FinTech deals in the region, accounting for 38% of the total.

In the Philippines, the FinTech ecosystem remains modest (see chart on page S4/2). But according to Bangko Sentral ng Pilipinas (BSP) Deputy Governor Nestor A. Espenilla, Jr., the growth trajectory of the local FinTech scene is mimicking that for the rest of the world, with investments flowing into the payments and underserved segments of the market.

Fueling this growth is the Philippines’ young population and the increasing access to smartphones, which, Mr. Espenilla said, “makes the country a fertile ground for take-up of technology solutions.”

Perhaps one of the earliest financial technologies to emerge outside the traditional banking sector was Smart Money.

Launched by PLDT, Inc. mobile unit Smart Communications, Inc. in partnership with the Philippines’ largest lender, BDO Unibank, Inc. (BDO), Smart Money was a value-added service that enabled the telco’s subscribers to transfer money to each other using text-messaged instructions.

But at a time when FinTech had yet to be coined, Smart Money was considered an add-on to the mobile phone company’s main service of text messaging and calls. The value-added service initially enabled the telco’s subscriber to top up airtime, but soon after allowed them to transfer money both within the country and abroad, as well as to pay bills.

“It became FinTech when it went beyond mobile money, when it now ventured into lending and other proprietary functionalities of the banks that normally you should not be doing because you are not licensed to do that because you are not a bank,” said Lito M. Villanueva, president and CEO of FINTQnologies Corp. (FINTQ).

FINTQ is a unit of Voyager Innovations, Inc., the digital innovations arm of the PLDT Group. Spun off early this year to focus on FinTech, FINTQ’s products include Lendr and Landbank Mobile Loan Saver, the latter a tie-up with state-owned Land Bank of the Philippines (Landbank).

“The emergence of FinTech was born out of those concepts, those platforms that we have developed for the banks, for the enablement of the banks,” Mr. Villanueva told BusinessWorld.

“We don’t own the consumer because the banks own the consumer; we don’t lend the money because we do not have the money to lend. But we provide the functionality of a bank... as an enabler, we are the ‘proxy bank.’”

This challenge from outside unavoidably raises suspicion among banks that FinTech firms are out to “disintermediate” the lenders, or in the words of JPMorgan’s Mr. Dimon, “eat their lunch.”

But in the context of emerging markets, FinTech, according to FINTQ’s Mr. Villanueva, “empowers... customers... by making the user experience seamless and delightful,” thereby complementing, and not competing with, banks.

This brings to the fore distinctions between traditional financial service providers and FinTech firms: banks on the one hand have access to capital, regulatory and compliance best practices, strong organizational setup, and customers, whereas FinTech firms on the other have speed in innovation and a low-cost structure due to their small company size.

Unencumbered by the huge cost of maintaining capital, FinTech firms don’t depend on interest rate spreads. Instead, they generate revenue from non-interest services, such as transaction fees from peer-to-peer lending, or license fees.

“FinTech was conceived out of ensuring that any functionality would be beyond what is current, what is legacy,” Mr. Villanueva said.

“Because if you are just to pattern whatever you have existing in the banking system, then that’s not disruption, that is not change. If it emanated from the inside, the culture within the bank -- the legacy mind-set of some of the people there -- inside the bureaucracy, it will not work,” he said.

That is why the unbanked as well as the underbanked have proven a fertile ground for growing FinTech firms. By definition, banks have ignored these segments of the market.

The latest National Baseline Survey on Financial Inclusion of the BSP showed that only 43.2% of Filipino adults have savings accounts, with 68.3% of them keeping their money at home rather than in financial entities.

Only five in every 10 adults surveyed have experienced transacting with banks. The survey sampled 1,200 adults 15 years old and above and living in the National Capital Region (NCR) and areas outside NCR (Balance Luzon, the Visayas, and Mindanao).

“FinTechs are filling a gap that the banking sector has not reached,” BSP’s Mr. Espenilla said.

“Through cheaper onboarding, ubiquity of access, and technology solutions, FinTechs are able to reach customers that traditional banks could previously not reach,” he said.

In addition, FinTech firms have upended banks in an area that has eluded the latter: the previously costly chore of gathering information on the unbanked.

Take the case of Ayannah Information Solutions, Inc., which looked for a better way for overseas Filipino workers (OFWs) to send money and to provide for their families back home, and came up with Sendah Direct and Sendah Remit.

Sendah Direct is a software-as-a-service (SaaS) platform, an electronic transaction platform that allows any organization or individual to provide digital financial services such as selling prepaid credits, remittance, payments, and microinsurance.

Sendah Remit is also an SaaS that allows interoperability between remittance networks and allows new players to join the remittance industry with minimal operating and capital expenditures.

“There are several problems that need to be solved -- the overriding goal is to bring accessible, affordable and relevant financial services to a growing and evolving market,” Joemel B. dela Cruz, Ayannah’s Sendah Direct and Sendah Remit’s chief operating officer, told BusinessWorld.

“To an extent, FinTech is not disruptive since it can be used by the incumbents to maintain and expand their business,” he said.

“However, typically, new players are quicker to adopt new FinTech to take market share away from incumbents or address new or emerging market segments or customer preferences. So, to a certain extent, FinTech can be very disruptive to incumbents with legacy or old-school mind-sets,” he added.

In light of this, FinTech levels the playing field, because “even the smallest players in the industry like rural banks and MFIs (microfinance institutions) could now be at par with the big boys,” FINTQ’s Mr. Villanueva said.

“What FinTech is doing is really simplifying the process. We are not reinventing the wheel. We are not trying to position lending in a different context as what the banks or the regulators know of,” he said.

As such, banks have their work cut out for them. According to BSP’s Mr. Espenilla, traditional lenders have to improve both the “economic features” of their products -- primarily, how much these cost -- as well as their design and mode of delivery.

For now, a lot of the innovation has gravitated towards the smartphone. Given its ubiquity, the smartphone is the platform of choice for FinTech firms, and even among banks wanting to get in on the game.

But beyond improving their product offering, banks need to revisit their business models. Mr. Espenilla said traditional lenders may have to entertain partnerships with FinTech firms, if not outright investments or buyouts of successful players.

Although Philippine banks by and large still enjoy market dominance, their failure to respond to the challenge posed by FinTech could result in forgone revenue, if not shrinking market share, the BSP official said.

The business landscape is littered with industries that had ignored disruption at their peril. Mr. Espenilla provided a few examples: Airbnb and the hospitality industry, Uber and the transport industry, and Spotify and the music industry.

“This can happen [to banks] if traditional players are not agile in deploying new technology and shifting models to respond to the competition,” he said.


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