How Banks and FinTech Startups May Benefit from Each Other

Digital revolution has disrupted many markets and put incumbents aside. However, in financial technology both incumbent banks and fintech startups will need each other. To deliver what customers need and want, they will have to collaborate.

Financial institutions have always been early adopters of advances in digital technology to streamline their operations and increase their revenue. However, the complexity of financial markets, costly legacy systems to maintain, and regulatory compliance have made it almost impossible to keep the financial sector as a front-runner on technology innovation. Coupled to the fact that innovation initiatives are normally subjected to management boards and committees, the gap between banking innovation and delivery of services and products which meet the customer needs is wider.

As banks are deemed as being too slow to comprise and act to deliver what customers want and need, a whole set of startups designed for innovation has emerged focused on financial technology. Almost completely free of regulatory demands, these new entrants have been on their way up by creating single-purpose solutions, which are more user-friendly and optimized for digital channels. Plus, fintech startups are particularly aware of customer needs, building smart apps that meet these needs.

Venture capital companies are paying close attention in fintech rising. According to The Pulse of Fintech, a report published jointly by KPMG International and CB Insights, global investment in fintech companies totalled US$ 19.1 billion in 2015. This growth represents an increase upward 56% related to 2014. Undoubtedly, these are numbers which set fintechs apart from others VC firms investments. Howbeit, these numbers are tiny compared to the size of the overall financial market. Just in 2014, the revenue of retail banking in Europe was over €644 billion.

Payments and peer-to-peer lending startups have received the vast majority of this funding. Sectors like mortgages and trade finance have not received much attention. In order to achieve a deep disruptive effect on the financial market, fintechs must go further.

For startups, a whole set of opportunities will arise, but they will also face serious concerns

Due to the complexity of middle and back office processes, plus its dependency to paper-based documentation, a whole set of opportunities will arise by working on redesigning middle and back office processes. In addition, a better use of customer’s data, by collecting data and analysing patterns will allow fintechs to accurately propose disruptive solutions. These approaches will allow startups to expand their boundaries way beyond the area of payment and consumer credit.

The ability to readily innovate and address such issues has made fintech startups become the leaders of the financial technology revolution. But: taking the next leap into process redesigning and customer’s data usage they may face some serious concerns.

First of all, they will need financial data sets to analyse and discover patterns to better understand what customers need and want. For a new entrant, collecting this data could take years. As well as data, they lack expertise to appropriately understand such financial data. Second, to effective redesign middle and back office processes, they will need a broad-based knowledge of regulation to certify that all innovation initiatives will be compliant. Finally, the deeper fintechs go into financial processes, the more they will need customer trust.

Although banks have the burden of regulation demands, costly legacy systems, and complex processes they have plenty of advantages over new entrants in the financial market. They have a wealth of financial data, and with the deep understanding of their business, they have expertise to analyse this data and discover patterns. Due to the burden of the regulatory compliance, banks’ expertise to address these demands and to deal with regulators has widely grown. Furthermore, every financial crisis has had an important role enforcing banks to adjust their operational risks, which builds a more trusted brand.

Banks and Fintechs will need to partner up

Therefore, to realize the full disruptive potential of financial technology both banks and fintech startups will need to partner up, providing their expertise to each other. Banks may provide their brand credibility and consumer trusts, expertise on financial risks and regulatory demands. Furthermore, with their large customer base, banks may provide fintech startups with audience for their apps.

On the other hand, fintech startups can deliver faster solutions for customers focused in one-purpose solutions. They may bring innovation to streamline processes, services, and products such as real state, global trade finance, collateral management, and assets leasing. Fintech startups can do more than just cut operating costs, they can increase the scope of potential customers and increase revenues. Financial technology solutions focused on the Internet of Things, smart contracts, and distributed ledgers are also huge business opportunities.

There are some ways to handle a collaboration between established banks and FinTechs. First, to keep both players advantages, it must be handled as a partnership and not an acquisition. Acquisition could put innovation in death by committee. Fintech startups are already receiving funding, especially from venture capital companies. As a result, to add competitive advantage, banks should focus on consulting and mentorship to the new entrants. Therefore, the banks efforts must focus on building initiatives related to accelerator and incubator programs.

Such programs will allow the advantages of both players to be enhanced in a collaborative environment, by feeding startups with what they lack to provide banks what they need.

In conclusion, financial technology is a trip of a one-way ticket that must be travelled collaboratively by banks and fintech startups to better achieve success. Banks need to understand that their competitive advantages tend to shrink after a while. Digital businesses need to recognize that time will always work against them. Therefore, every effort must be to boost its collaboration. Not just both banks and fintechs will take advantage of it, but customers will be better served with products and services which are aligned with their digital lives.