In FirstCapital’s recent report on fintech “Fintech – prepare for a wave of M&A” we looked at how the financial services ecosystem is experiencing dramatic change, driven on the one hand by disruptive fintech models that are causing disintermediation of the financial incumbents, and on the other hand by rapid advances in technology that are disrupting the ancient, creaking core banking platforms.
The banks and financial institutions have been slow to respond to the challenge presented by fintech, and many have underestimated the scale of the threats. Some of them are now finally starting to respond, but is it too little too late?
There is a lot to lose. Goldman Sachs says that $4.7 trillion in revenue is at risk of being displaced by new tech-enabled/fintech entrants. Meanwhile McKinsey estimates that 10-40% of retail banking revenues and 20-60% of profits are at risk by 2025. These are big numbers, and pose a huge threat for financial services incumbents.
The threats come not only from well-funded fintech challengers, which tend to be built on modern technology, and take a customer-centric approach, but also the internet majors (Google, Facebook, Amazon etc.) who are leveraging their consumer brands, technology expertise and large user bases to target everyday transactions such as online payments and mobile wallets.
The problem for banks is that they are operating ageing on-premise core banking platforms that were built 30-40 years ago. These platforms are under huge pressure and are inflexible in adapting to the widespread change in financial services. Banks need to modernise to offer better customer experience and new services while improving risk, fraud prevention, security and compliance at the right cost, but this is not easy given their legacy systems.
Some banks have taken a partnering approach (e.g. Santander referring loans to FundingCircle) and some have been making strategic investments (the largest US banks have made strategic investments in over 30 fintech companies). However we now are seeing more substantial responses starting to emerge, with some institutions starting to offer their own online-first solutions (e.g. Vanguard and Fidelity building their own robo-advisor solutions) or making acquisitions (e.g. BBVA buying online challenger banks Holvi and Simple).
We expect that there will be a wave of M&A activity in the next 3 years as financial incumbents look to catch up with widespread innovation from new entrants. In our opinion some of the most active areas for M&A will be online wealth management models and data-driven alternative direct lending platforms.