Fintech startups TransferWise and Revolut headline a wave of digital banking products that have been made available to consumers, positioned as the digital banking revolution. Transferwise in the secondary sale of its shares has just raised an additional $319 million, valuing it at $5 billion while Revolut has raised an extra $80 million in Series D funding bringing its valuation to $5.5 billion.
What is striking about the wave of neobank valuations and hoards of customer sign-ups is the distinct value proposition neobanks bring to the table. Across the spectrum of neobank competitors, there seems to be a common focus on digital-only, easy to sign-up accounts that allow the management of finances with international transfer capabilities all wrapped up in pretty UI/UX packaging. Much like the ostentatious design and colours of their physical cards, Neobank’s propositions appear to be more a signalling of a digital banking revolution than an actual revolution. In a time when areas of fintech innovation have long moved past digital capabilities to actual digital innovation, the neobank proposition of digital-only banking with the inevitable perks of a digital native system seems to lag behind.
Digitisation arbitrage: non-defensible value creation for utility-based products.
Neobank’s differentiation from traditional banks seems to be predicated on the premise that these digital-only platforms, having shed the brick and mortar reality of their predecessors, can function at operational efficiencies that will allow them to deliver savings in fees and enhance the experience for their customers.
As such with the maturity of the digital age, the startups within banking in the last decade have been able to tap into a more digital-ready population. With enough customers to go around each new neobank appears to be accruing millions of customers over a short period of time, promising that they will assist where the banks could not. Between Transferwise and Revolut the platforms have onboarded more than 20 million users. But the bottlenecks are likely to present themselves in a few more years, as competition forces neobanks to depend on increasingly smaller margins and international transfer arbitrage. This is not to mention the multiple fintech verticals that will disrupt the nature of international banking and transfers that neobanks currently claim stake over.
Neobanks will have to look to lateral expansion of their propositions, something beyond just the financial products that are offered by banks of today. A common strategy stems from another feature of the digital age, democratisation of access to financial products that were not as easily available before, popularised by the likes of Robinhood. However this doesn’t really solve the margin issues that neobanks are likely to face in the latter half of this decade, such services are not unique or defensible. While Transferwise has boasted that it doesn’t need a banking license given that it never intends to profit from lending customer deposits as traditional banks do, it has alluded to the rollout of passive investment products over the next year. More than a revolution, it seems neobanks have digitised age-old financial products while shedding some optically incumbent features like lending.
It’s clear that neobanks cannot depend on the age-old strategy of “digitisation” as the sole equaliser to physical incumbents. That strategy has long matured with even big banks now entering the field. But the real and much bigger threat to neobanks are their digitally advanced competitors, working on propositions that will eat away at neobanking’s points of differentiation.
Digitisation + social experience: defensible value creation for utility-based products
If we conceptualise the actual transformation that neobanks are attempting to herald in, it is to change the underlying “experience” of banks which can be described as “trust and financial security”. Neobanks, while optimising user experience through digitisation, don’t change the expectations of a banking experience. Neobanking appears stuck in the ‘digitisation’ phase of the internet era without leveraging the full spectrum of innovation now available within it. Meanwhile, there are other players well-positioned to take advantage of this.
As social media ecosystems integrate deeper into user lives it’s not hard to imagine the optimal digital ‘banking experience’ as being tethered to our overall social experience of the world. Where a digital platform begins with utility as its focus (e.g. neobanks with a digital banking focus), there is little room to expand out into a holistic social experience at a later point. These platforms will always need to provide more and more utility for the user through their core function to stay competitive, with many more established alternatives already existing. This is not true of the opposite, as the social experiences on social capital focused platforms like Facebook, Whatsapp and Telegram, are only enhanced when convenience based utilities are introduced to them. This is because as a social species, our digital proxies largely operate in the domain of pervasive platforms like Facebook. Our experience is dictated by the platforms our circles are able to congregate around in a melding of utility and socialisation. Given the already pervasive nature of the platforms, appending convenient features like international transfer only consolidates the value the user is able to extract from the holistic experience.
Where neobanks are going to increasingly compete on the margins of utility-based services, social capital could provide an avenue for lateral expansion of value beyond just utility, it then becomes the new experience of banking. It is perhaps why platforms like Facebook and Telegram are attempting to introduce their own ecosystem currencies, preferring control over the value created rather than partnering with incumbent players. Imagine international transfers through Whatsapp or Facebook’s Libra network in functioning form, these developments are to neobanks what neobanks believe they are to traditional banks. When such an occurrence does come about, it’s much easier to see where banks and neobanks stand in the broader fintech landscape that has moved far beyond mere ‘digitisation’.
Down the Rabbit Hole
1. Digital giants, consumption ecosystems and the threat to incumbents
“Alibaba, a relative newcomer to financial services, has seen its SME lending business grow rapidly in the last four years, making it one of the leading lenders in China. Western banks should take note. Such explosive growth is a harbinger for an unfamiliar kind of competition — legacy business incumbents pitted against new digital giants.
These results mirror the competitive threats Amazon, Facebook, and Google pose to incumbents in the retail, health care, insurance, music, entertainment, and automobile sectors.”
Chinese digital giants like Alibaba and Tencent have not just forged into incumbent industries by force of will, they have done this by building comprehensive ecosystems – omni-service platforms that facilitate multiple facets of a business or user’s needs from payments, utility and eCommerce through to travel and social necessities.
“A different ecosystem comes from the interdependencies of consuming products or services — consumption ecosystems. For banks, interdependencies in how people consume money shape their consumption ecosystems. The consumption of a mortgage is interdependent with getting home insurance, buying furniture, or doing home improvements. But before modern digital technologies, such interdependencies were difficult to leverage for economic advantage.
Chinese digital giants were uniquely positioned to leverage advantage from the consumption ecosystems of banks. They used their deep consumer insights to attack incumbent banks’ production ecosystems and built new services consumers needed.”
The real power behind digital threats to incumbents lies in control over consumption ecosystems. Interdependencies in consumption ecosystems have a feedback loop which digital giants can leverage along with products to service consumers in ways incumbents can’t hope to compete with.
“Because these companies could track activity within the users’ ecosystems, they possessed superior consumer information compared with incumbent banks….For a home purchase, they could direct customers to the most appropriate available home, provide relevant information on the home, and connect them to real estate agents, furniture suppliers, or moving companies on their digital platforms.
The concept of consumption ecosystems is still new to many legacy businesses because they don’t track products and services digitally after they are sold. Competitive attacks from consumption ecosystems can be lethal because legacy companies may not even see them coming, and these attacks can detach or weaken the incumbent’s connection to customers.”
Source: Learning From China’s Digital Disrupters – MIT Sloan Management Review
2. Payments systems + social experiences: towards a holistic digital proxy
“It’s undeniable that the world today is inextricably both a digital and a physical experience, while the two states are not always melded, they are quite often interoperable. Every innovation in the digital world has acted as a portal to the physical world, and every subsequent optimisation of that innovation seeks to make that portal more seamless. In many ways our ability to use digital payment services to conduct economic transactions or a messaging platform to conduct social communication is a form of interoperability – our digital proxies interoperating with our physical world to manifest certain outcomes.”
“In the West, we currently have disaggregated digital proxies across multiple platforms but none which combine social and economic intent across the three concentric circles of self, private and public.”
“Facebook with WhatsApp and Instagram integration, represents the most pervasive network for social and economic intent in the West. However, in the absence of an integrated payment system, the limited ability of users to execute on economic intent, compromises Facebook’s ability to provide a complete digital proxy.”
Source: Connected intelligence, the ubiquitous experience of WeChat – 4th Quadrant