Banks have adopted different ways to engage with emerging fintech competitors, from acquiring them to trying to match them and everything in between. Rod James finds out how banks have been combining multiple approaches to great effect and discusses the need for flexibility with Santander InnoVentures partner Manuel Silva.
There is an old saying that, while hackneyed, contains more than a grain of wisdom: ‘If you can’t beat them, join them’. In recent years, as fintech start-ups have used their technical know-how and flexibility to muscle in on business lines that banks have long taken for granted, many bank execs are asking whether this is the maxim they should live by. Or, perhaps, more accurately, ‘if you can’t beat them, have them join you’.
Fintech is changing the way people interact with banks, and their expectations for the products and services they receive. Convenience is a must – it should no longer take a week or more for a loan application to be approved – and charges considered unjustified by a customer will see them move to a competitor at the drop of a hat. Apps and online interfaces need to be engaging, intuitive and completely secure without being awkward to use.
The list of challenges goes on, and it’s no wonder that many in the industry see the rush to embrace fintech as an existential issue. While many banks are bringing in software engineers and developing in-house fintech expertise, things are moving far too quickly to rely on this alone. Companies have to find the right partners and decide on the best way to engage with them.
Should they do this bilaterally through joint projects? Should they acquire companies outright and bring them in house, nullifying the threat while gaining the expertise? Or is there a third way that combines the two approaches in an optimal fashion?
Between 2010 and 2015, investment in fintech skyrocketed from $1.7 billion to $22.0 billion; according to analysis by Accenture and CB Insights, a considerable proportion of this was either investment in joint initiatives or the acquisition of tech companies by traditional financial services providers.
Research by law firm White & Case sheds further light on this. ‘Fintech M&A: From threat to opportunity’ is based on surveys with 150 senior finance executives carried out in Q3 2016. When asked how they were looking to engage with fintech over the next 12–24 months, 54% of respondents said it would be through collaborating with mature companies; 32% through targeted acquisitions; 7% through the allocation of seed funding; and 7% through building in-house capabilities.
“Banks, insurers, asset managers and other financial institutions are becoming more proactive in their approach to fintech,” writes White & Case EMEA M&A partner Roger Kiem. “In practice, this is leading to increased investment and M&A activity as financial institutions look to accelerate their fintech strategies… In order to keep pace with rapid technological advancement, financial institutions are increasingly turning to external investments and M&A deals rather than relying only on their own fintech development.”
In some of the most interesting cases, banks are mixing two, three or even more different approaches. Sberbank, the Russian lender, has had a venturecapital arm, SBT Venture Capital, since 2012, belying the reputation often attached to such state-backed behemoths. In June 2016, it formed a partnership with the government’s Internet Initiatives Development Fund (IIDF) to create a start-up accelerator for fintech projects, with a view to potentially gaining larger stakes in these companies further down the line. The IIDF selects the projects, with Sberbank providing the funding.
“The fund has gained extensive expertise in searching for, selecting, accelerating and investing in start-ups,” a Sberbank spokesperson said. “This is why we learn from our colleagues at their educational programmes and attend events held by the fund’s accelerator, as well as demo days. In terms of joint projects, our views on promising companies often coincide with those of IIDF. However, it’s too early to talk about any specific results of joint investments.”
Spanish bank BBVA was a pioneer in acquiring stakes in fintech companies that could otherwise have been competitors. High-profile deals include the $117-million acquisition of one of the original digital banking apps, Simple, in 2014 and the purchase of a 29% stake in online bank Atom in 2016 at a price of $67 million.
Yet, it combined this with a genuine venture capital business, BBVA Ventures, which had $100 million to invest in equity and debt stakes in fintech start-ups. In February 2016, this was closed down and replaced by Propel Venture Partners, which received the $100-million rollover plus an additional $150 million to split into one Europe-focused and one US-focused fund.
Significantly, the new structure, though financially backed by BBVA, is a separate entity with a proudly distinct culture. The aim is to distinguish it from the more corporate banking business, and to reassure entrepreneurs that their ideas won’t drown in the morass of bureaucracy – sometimes rightly and other times wrongly – associated with big banks.
“Some start-ups were reluctant to work with a corporate venture fund,” Jay Reinemann, Propel’s leader, said in 2016. “They thought they might not be a priority or might get lost in the machinery of a big organisation… It’s a bold move by the bank [to set up Propel like a venture capital fund], and I believe it will help us work with the best start-ups.”
Another Spanish bank, Santander, is going for a similar combination of acquisition and venture capital to great effect. It has made a number of outright and minority acquisitions over the past few years, including the November 2014 purchase of a 5% stake in mobile money company Monitise for £33 million.
But when Monitise failed to perform to expectations, Santander established a £20-million joint venture with the company designed to identify and fund future fintech partners. Monitise, for its part, gets to license its cloud-based platform to these companies, providing an extra source of revenue. This was a clever way of changing the nature of the relationship between Santander and Monitise – from traditional acquisition to a kind of venture capital hybrid – and demonstrated flexibility not often seen by big banks.
The lender’s main venture capital vehicle is Santander InnoVentures, which was launched in July 2014 with $100 million in funds and received an additional $100 million in July 2016. Partnerships formed through the fund have already led to the creation of concrete banking products. For example, it took only 12 months between the acquisition of small-loans business Kabbage and the roll-out of Santander’s Working Capital Loans, based on its technology.
According to partner Manuel Silva, who oversees the sourcing and execution of new investments, the two strategies are not mutually exclusive but cover different parts of the buy-and-build cycle. Outright acquisition tends to be preferable when a project relies on the core assets of the bank or builds on top of existing areas of strength, but a company with something new, supplementary or potentially revolutionary to offer often works better with a venture-capital-type approach and culture.
In Silva’s view, the success of InnoVentures is largely about striking a balance in much the same way as described by Reinemann at BBVA. Maintaining the independence of your portfolio companies – in thought and action – is paramount.
“From a design perspective, we only invest minority stakes to avoid any perception of control, and we stay away from including ‘special terms’ that bias the relationship towards us,” Silva says. “Most of our success probably relies on managing the post-investment relationship well. I tend to say we work equal parts for our portfolio companies and for the bank. We are in constant communication with our CEOs and tend to be pretty involved in our companies’ strategies, which allow us to know where we can be useful, but also up to where we can push and the point where we start influencing the company’s roadmap too much.”
This year, a number of themes are occupying the thoughts of the InnoVentures team. SME banking is an area seen as under-served at the expense of retail customers, and advanced analytics are set to have a significant impact on the efficiency, cost basis and service offering of banks when it comes to things like collections, underwriting and servicing.
“Another area where we are starting to spend more time is in capital markets, where we see a lot of talent cross over between the ‘traditional industry’ and the innovation ecosystem that yields sophisticated businesses reinvented through the lens of contemporary technologies,” Silva continues. “And last but not least, as it is one of my personal favourites, we are spending a lot of time in new models applied to financial inclusion. This allows us to tap into local innovation in Latin America in particular, with tremendously insightful entrepreneurs who have alternative views on the industry.”
As banks such as Sberbank, BBVA and Santander demonstrate, the boundaries between venture capital and M&A, start-up and stalwart, finance and technology, are becoming increasingly blurred all the time. The key is for banks to be adaptable enough to size up the particulars of a situation and apply the right mix of tools.