The economy and COVID-19
With large swathes of society working from home, schools shuttered, and the entertainment sector shut down, the economy is taking a big hit. We’re quickly diving deep into a big economic shock and long-term recession. International trade and travel have diminished. Supply chains are distorted as factories and borders are closed. Given a decline in demand, plus government measures to protect public health, whole sectors face a sudden, sharp decline in revenue. Whilst there are large differences between sectors, this will impact the entire economy. Governments have announced large aid-packages, but this will only help curb some of the shock.
Given this scenario, it’s easy to understand the fintech community is also facing losses.
Mitigating the impact to business and financials
At the outset of the outbreak, it was important to first manage any direct impact to operations to ensure business continuity. Many fintechs were early and quite successful in transitioning a fully remote ‘working from home’ scenario enabled by virtual tools. Compared to incumbents, fintechs’ processes are already largely digital (i.e., most challengers offer fully digital customer onboarding without any required face-to-face interaction).
Their agile way of working and great deal of independence to their employees also enabled fintechs to let their people better manage the impact on their daily lives. On top of that, many fintechs have been promoting the health and well-being of their staff.
Many fintechs were also quick to respond vis a vis helping their customers. Challenger banks such as the UK’s Atom bank, Starling Bank and Monzo are offering their customers ‘payment holidays’. And Brazil’s Nubank has been offering additional lending to customers short on cash.
Once the immediate impact is managed, it’s important to look ahead and take actions for the mid-term. Not all fintechs are impacted in the same way; it depends on the stage of the company, the segment, the market fit, and its cash reserves.
To understand where you stand as a fintech, it’s important to quickly assess your financial position. This includes a detailed overview of the financial runway, understanding where you can cut costs, and outlining options for additional funding.
For those that have a runway of less than 6 months, they must act quickly to obtain funding. The market circumstances have abruptly changed and, without a doubt, become more challenging. We expect that some funding will still take place, but valuations will be lower and the fundraising process will take longer. Solid preparation now is key to enhance your chances of long-term success.
Additionally, it is critical to accelerate the creation of a viable business model (as opposed to just seeking growth and global expansion). Many fintechs are early-stage and not (yet) profitable. Having a viable business model and path to profitability is now more important than ever.
Mitigating the financial impact
Fincog research on successful neobanks shows that it certainly is possible to become a successful and profitable challenger bank. There is no single road to success, with a variety of possible business models, target clients and product portfolios. However, when making the right strategic choices, challenger banks should be able to enhance their profitability, achieving a sustainable business model.
While the path to future profitability differs per player, there are four generic initiatives that challengers can undertake, ideally in combination with each other, to drive revenue and become profitable.
1. Growth: market strategy & product portfolio
Most challengers have a rather narrow product portfolio that is often centred around the payment account. So, first and most important of all, challengers must follow a Growth Strategy to grow into new, profitable product segments and geographical markets.
The core product is unprofitable while also the small number of products limit the possibility for additional revenue. A solid Product Strategy for expanding the product portfolio into new, more profitable products and segments is the biggest driver for growth. For example, depending on the market, the current COVID-19 situation provides many potential opportunities in consumer finance and SME lending - however, be cautious to properly manage the credit risk to prevent large, mid-term loan-losses.
Similarly, and almost equally important, is the geographical market. Together with the product segment, this determines to the largest extent your profit potential. Moreover, the profit potential of product segments may widely vary across geographical markets. A solid Market Strategy for selecting and expanding to new geographical markets drives the growth potential and achieves profitable scale. For example, there are some good opportunities in consumer finance in many East-European markets, but due to competition and regulation, the profit potential in most West-European markets is much smaller.
In order to develop a good Product Strategy & Market Strategy requires an in-depth understanding of the market landscape, to identify suitable opportunities, tailored to your situation and goals.
2. Set the right price
Second, after you have ensured you are active in the right markets with the right products, revenue can be further enhanced by optimizing Pricing. To attract customers, challenger banks typically offer very competitive pricing, and often provide the core features for free. In addition, charging customers is too often considered unfair, ‘ripping off’ customers. However, pricing that covers the cost is also a necessity for a sustainable business model and a lasting positive impact on customers. A solid Pricing Strategy allows to enhance the fees and interest rates, further driving the revenue potential. In order to develop a good Pricing Strategy requires an in-depth analysis of the customer, the competitive landscape and pricing of products, to ensure pricing is tailored to what is considered fair, competitive and aligned with the company’s vision.
3. Get your customers going
Third, Customer Activation can help further enhance the revenue growth. Challenger banks typically have a less active customer base. They compete with existing banking relationships for the primary relationship, while churn rates are low. Most challengers struggle to bypass the stage of being a secondary account, with a more active customer and large share of wallet. A Customer Activation Strategy will help drive the share of active customers and increase the share of wallet towards primary relationships. This requires for example an attractive proposition, stimulation of sign-up and usage (i.e. promotions, rewards, gamification) and the absence of any hurdles in the sign-up process.
4. Build a strong Business Plan
Last, assuming challengers follow the right strategy according to the above steps, they still need to be able to survive until the point of profitability. As explained early, even in the case of being active in the right segments, this may take some considerable time and investments. In order to safeguard the future growth path and being able to fund the journey in between, it requires a strong Business Plan and investors providing the funds. A Business Plan should for example provide an overview of your target market, your strategy to succeed and financial summary for the coming years.
Overall, challenger banks need to expand into more profitable product segments and (international) markets, activate their customers and optimize their pricing. In addition, they need to be able to fund their journey with a solid business plan. Especially when these are all combined, puts the company in a good position to succeed.
As a fintech company it is important to differentiate yourself on the market and establish your own niche, tailored to your own strengths and goals. There are multiple possible roads to success. Structured market research could help identify unique opportunities in underserved niches and equip you to develop a winning strategy.