Covid-19: Who will be the winners and losers in the world of FinTech?

This article was written by Partner Tom Try and originally published in Banking Sector magazine.

What are the biggest hurdles facing FinTechs and who is most at risk?

Smaller FinTechs have had similar problems to all start-ups; they have had to go into cash conservation mode, preserve their runway and prepare for a world in which sticky revenue is less sticky and the focus is on customer retention rather than customer acquisition. They have also needed to ensure that they manage their workforce so that when the new normal does emerge, they are able to deploy human resources to meet these challenges.

Governments have generally acknowledged the need to support start-ups, but this has not necessarily translated to tangible results. In the UK for example, the government announced the Future Funds scheme to support start-ups; as of 31 May, 464 applications had been made for a piece of the £250m government pot, which will stretch it thinly.

One of the challenges specific to FinTechs is retaining their sense of purpose within these disrupted times; many FinTechs have taken on a role in a wider drive to broaden financial services offerings to previously underserved customers, whether that be a particular class of retail consumers or a particular class of businesses, like SMEs. FinTechs who are most able to navigate through this crisis without losing sight of what made them investable propositions will be stronger at the other end.

As consumers and businesses tighten their belts, FinTechs in the payments space whose revenue is a function of spend have been hit hard. However, recent data indicates that consumer spending is bouncing back more quickly than many expected.

A lot of FinTechs, even more mature and well-recognised names, were at the stage of planning to move from the loss-making / customer acquisition phase into the profitability phase, and recent rounds of fundraising will have been predicated on this. This is clearly going to be much more challenging in the current environment and many FinTechs are going to have to engage with investors to manage their expectations in that regard.

Personal wealth management companies may be the hardest hit in the short term, as consumer saving habits change. It will also be very interesting to see whether the pandemic accelerates demand for distributed ledger technology (DLT) based projects, as people become more comfortable with a higher degree of abstraction in tech, or whether there is a flight to the safety of more established technologies.

Does anyone stand a chance of succeeding in the crisis?

Companies which concluded funding rounds shortly before the COVID outbreak will have had at least 12 months of runway which, once the hatches are battened down, can hopefully extend to 18 months.

That feels like an acceptable place to be in given the current prognosis. Conversely, companies which were looking to raise funds this year are going to find the potential investor base significantly reduced.

They will almost certainly have to look to existing investors first as new investors are going to find diligencing new businesses in this environment very challenging. That in turn will feed into the terms they can achieve.

Cashflow will effectively be all that matters for many businesses during this period so FinTechs which assist in managing cashflow or which can quickly apply their technology to add value to this area will be in high demand. Offerings which allow companies and lenders to quickly assess specific COVID risk in their business models will also prevail, with OakNorth’s Covid vulnerability rating framework being a prime example.

Furthermore, FinTechs which provide modular solutions to clients will be better placed to survive than those with binary offerings. Subscription revenue is likely to hold up in the short term as businesses are bound in to their arrangements, but the proof will be in the pudding that is served in a few months’ time after businesses have had a chance to look at what is nice to have versus what is must have. Those FinTechs which provide services using tech stacks which can be scaled down nimbly are better placed to survive these decisions.

With regards to challenger banks, their lack of overheads is a huge advantage (although recent announcements indicate that they are not immune to the need to monitor and address headcount), and once this crisis is over, the landscape for retail will have changed for good.

Bricks and mortar presence for banks will likely be seen as harkening back to days of yore, but on the other hand, the incumbents do have deep distribution channels and may see their public perception positively affected by being at the heart of the government’s operations for deploying funds to assist people during this period.

This is unlikely to be a trend limited to retail consumers; NatWest has indicated that since the crisis, 70% of the businesses which have been registering for its online SME payments solution are entirely new to card payments which, combined with a 60% drop in ATM withdrawals, shows a decisive move towards card-based solutions.

Peer to peer lenders may well find that this current situation pushes more borrowers towards them as SMEs need short term cashflow assistance; much of whether they are able to take advantage of this will depend on whether they can scale down lender acquisition spend without affecting the viability of the market.

Assuming the world does stay to a material extent in “online” mode, we can expect digital identity / KYC FinTechs to be in greater demand to facilitate the general digitisation of financial services. We have seen a material rise in both “soft” fraud (i.e. customers making claims in relation to goods and services which were in fact delivered) and “hard” fraud, and the fundamental shift to online means that fraud prevention solutions which offer a smooth customer journey will be a sought after commodity.

How might the crisis affect exit plans?

The crisis is certainly going to change the landscape of founders’ expectations when it comes to how they map out their business progression. Interestingly, we have seen an uptick in activity in the public equity markets since the lockdown, but it remains to be seen how long that will last.

In any case, FinTechs have largely exited by historic acquisition rather than floating, which is unlikely to change. We are seeing FinTech clients who have clearly had their eye on strategic investments accelerate those plans because the need for cash by smaller FinTechs leads to better terms being agreed; it is probably the disruptors who are going to be able to move more quickly than the incumbents to take advantage of this environment.

That said, loss-making FinTechs will be keenly feeling how partnering up with an established player in the space offers significant advantages in times like these, so founders may be looking at exits or partial exits earlier on in their business lifecycle. Many FinTechs already focus their activities with a particular exit in mind and they will surely have to reassess that in the light of the current climate.

This article was originally published in Banking Sector magazine.