Redefining FinTech

Matt Harris —  December 17, 2013 — 14 Comments

I’ve spent the better part of my career investing in technology companies involved in financial services.  Given that, it’s a bit surprising how much I hate the term FinTech.

Historically, FinTech has defined the technology vendor community selling into banks and broker/dealers.  Until 2008, this was a reasonably good business.  Since then, there has been increasing consolidation, both on the financial institution side and on the vendor side.  As a result, while ostensibly there are still thousands of banks in the US, the vast majority of the budget is tied up by 20 FIs, and the vast majority of the revenue goes to the large, incumbent vendors.  It is a classic logjam, and woe betide any small firm looking to selling into that mess.

The much more interesting opportunity in financial services isn’t selling to financial institutions, it is competing with them.  As I have written elsewhere, banks in general are retreating from customer-facing activities, not vigorously defending their turf.  This happened in merchant payments, for example, even in advance of the financial crisis.  In 1988, banks had 62% market share in the acquiring industry; now they have 38% and shrinking.  Currently, banks are losing share in the DDA market, the lending market and the personal finance market, among others.  I anticipate that the corporate treasury services market will be next, hence my current obsession with b2b payments.

As you might expect, entrepreneurs figured out this new reality far more rapidly than venture capitalists.  One example from my experience is OnDeck, a small business lending company, and a ridiculously fun and exciting company to be involved with.  I invested in their first round of capital and have been on the board since 2006.  From the time of that initial investment until I finally came to my senses, I was one of several investor directors urging the company to offer their underwriting and processing platform to banks as a vendor, in addition to (or instead of) being a direct lender to small businesses.  Thankfully, the entrepreneur (Mitch Jacobs) and the CEO (Noah Breslow) kept their eyes on the prize, and while the company has several very productive referral relationships with financial institutions, OnDeck has continued to originate loans directly.  As a result, it has grown like topsy and will soon pass the $1B mark in terms of capital lent to small businesses.

To paraphrase the pushback of the management team, their basic argument went like this, “Do we really want to put our destiny in the hands of bankers?”  That argument, in brief, explains why every time someone asks me if I invest in “FinTech companies”, I respond that actually I invest in financial services companies.  Given that this distinction, while meaningful to me, is always met with blank stares, I’ve now tried to put some analysis around it, which you can see here:

Market Cap - Bank vs non bank analysis vjb5(2)

My colleagues and I (thanks to Jordan Bettman and Matt Brennan for their help with this) defined three universes of companies:  Banks, Bank Vendors and (for lack of a better term) Finsurgents, ie, companies providing functionality that had historically been the province of banks.  The results are clear.  The bank vendors’ market capitalization relative to banks’ market cap remains relative constant, with a slight premium reflecting the fact that technology spending at banks is growing faster than bank revenue.  But the Finsurgents’ market cap relative to banks grows at twice the rate, which is quite logical in that these players are taking an increasing share of profit pools that would otherwise belong to banks, not depending on banks for their revenue.

In defining these groups, we had the requirement that the companies be public for the whole period 2003-2013.  As such, while the bank and bank vendor universes contain all the logical players (vendors include Fiserv, Deluxe, D+H, TSYS, Diebold, ACI, etc), the Finsurgent group misses key players who have either gone public post 2003 (Visa, Mastercard, Fleetcor, Wright Express, Cardtronics, Vantiv, Higher One, Greendot, Netspend), plus companies who are still private or are subsidiaries (Square, Paypal/Braintree, Stripe, Lending Club, OnDeck), not to mention the entire Bitcoin universe, etc.  In 10 years, I suspect that these lines will have entirely diverged, as the banks become relatively stable financial utilities, their vendors settle into a symbiotic but unexciting and slow upgrade and refresh cycle and the Finsurgents complete their takeover of customer facing applications and innovation in the sector.


14 responses to Redefining FinTech

  1. You are exactly right Matt! Why sell products to financial firms when you can displace them? There is a huge opportunity in asset management, lending, credit, and payments to create life changing companies for hundreds of millions of consumers- I think the “finsurgent” term is apt. People ask us all the time “why do you want to compete with {insert name of stodgy financial institution here}”? Our answer is quite simple, “why wouldn’t we want to take them down? We will wipe the floor with them any day of the week.”

  2. As a self-comment, I’d also like to point readers to this article by Karl Antle, which was influential in my thinking:

  3. Finsurgeants, I really like that word. Really ties to the way these startups are perceived by some in the financial services industry. Though maybe less now, the first reactions to say Simple by incumbents were quite dismissive. Looking forward to the coming years and to see these startups succeed and hack away at market shares not suppliers budgets.

  4. Hi Matt,

    Saw your talk at Money2020 (I really enjoyed the perspective).

    Also, totally agree – At the end of the day selling technology into the financial services space as the term FinTech seems to refer to is limited to providing new technology to those companies that continue to do things materially the same way as before. Spectacular growth in our view will come from the “insurgent” models that aim to change the way things are done for the purpose of creating new “value models” for those that participate (Merchants, Consumers and Brands). Thanks for the post, thoughts and data. Happy holidays.

  5. Great piece. Matt. I, too. love the Finsurgent label.

    However, to the question, “why sell products to financial firms when you can displace them?, there are some good answers. One, in particular, is this: It’s really expensive and difficult to build a direct-to-consumer brand.

    In the PFM space, for example, look how many firms made the switch from DTC to white-label. Those who made the move too late are gone. Mint was fortunate — it got bought by Intuit before the market had a chance to prove that its business model wasn’t sustainable.

    I’m not advocating the white label across-the-board, however. Banks have not proved to be a particularly good channel for start-ups to reach consumers, and generate any meaningful revenue streams. So we’ll probably see a lot more Finsurgents in the next few years.

    • Ron Shevlin, himself. Nice. I’m a big fan of your stuff. Re PFM, i agree … everyone has either pivoted to selling into banks, or bundling into bank-like services (simple, moven, etc). That said, just because they’ve pivoted that way doesn’t mean they will build big companies doing so. My hope is that the leaders in the space like MoneyDesktop have a long term gameplan to leverage the customer base they’ve acquired through their bank partnership into something bigger. Not easy, but those guys are talented.

  6. Great artilce Matt. Finsurgents seem very apt. I am interested in your views on whether they have capability to replace banks given the loan market requires complicated pricing models and underwriting procedures set by Fed? Doesnt the direct lending by single lender beat the purpose of diversification on syndicated loans?

    • Finsurgents in lending have real opportunities to compete with banks. The mortgage market, where the government actively regulates, is not the most promising; so far, unsecured personal loans and small business loans have been the areas for fastest growth. Platforms like Lending Club, Prosper and OnDeck allow investors to buy single, whole loans or diversify by buying strips of groups of loans. Definitely an area to watch closely.

  7. Insightful post. Thank you. I come from the Telecom world and you could replace the world “Financial Firms” by telecom and port your analysis wholesale. Two questions I have are a) what are the companies (names) that fall under the moniker FinSurgents? b) What is the quantum in absolute terms in value-creation ? ( We may see a 3X differential but if the difference in absolute terms remains 100X in Market Cap, it’s still an important, albeit less of an urgent problem to address)

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