Fintech 🧠 Food - 21st Mar 2021 - Embedded Finance beyond cards, why Stripe's raise matters, and what Flutterwave's PayPal partnership means.

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Weekly Rant 📣

Why embedded finance is so much bigger than cards

At the highest level, embedded finance is simple.  Finance that shows up at the point of need is much more engaging. It's like a good waiter; you barely notice it's there, it just shows up, and good things happen. Insurance when you're about to board a flight, accepting payments for your online store, managing your expenses inside your accounting app.  

Finance is no longer a destination but a fuel for other commerce.  It's not the car, but the fuel in the car.  As marketplaces, platforms, and digital businesses embed finance, they can grow their revenue and create much more engaging experiences for their users.

Heck, even the business case makes sense.  Cornerstone advisors suggest banking as a service will drive $230bn of revenue in the USA by 2025. Bain Capital Ventures' now-famous work estimates the potential market cap for Embedded finance to reach $3.6trn in the US alone by 2030.

Embedded finance started with cards

I often joke the first wave of embedded finance was "you can have whatever you want so long as it's a debit card." That's a little unfair since payment acceptance was probably bigger and first, but whether it's Europe, the US, or even a fair chunk of APAC, the card-centric model has been dominant.

The embedded brokerage has had a quieter but strong run in the past couple of years, too, as companies like Drivewealth provide all-in-one brokerage APIs. Embedded insurance is gaining significant momentum in Europe and the USA. Meanwhile, embedded lending may be the hottest early-stage fintech segment right now.

But there are two problems

1. The stack is poorly understood and has lots of overlapping providers

2. The stack varies by financial product

1. The overlapping providers.

Let's take debit cards. They're fairly well understood, but even here, there's confusion.

Let's say you're building a new Neobank in the USA. To get started quickly, your stack might look something like this.

1. API based Platform (e.g., Synapse, Bond, Unit, Privacy.com)

2. Payments Processor (e.g. Galileo, Marqeta, i2C, FIS)

3. BIN Sponsor / FBO account holding bank (e.g., Metabank, Evolve, Sutton)

Each layer brings a different value to their customer, and people confuse them.   So often, people see what Marqeta does as the same as what Synapse does. You can produce the same result by working with both. But they're different animals.

The API-based platforms specialize on time to market and package together services from different banks, B2B API providers, and specialists to make the fintech or platform business's job as simple as managing the user experience and marketing. They may pass through the pricing from the lower layers in the stack, or they may abstract that complexity away too with simpler fee structures.

The payment processors specialize in scale.  Their core role is to be the gateway between a customer wanting to make a payment and the card networks, but they often do much more than that (e.g., fraud prevention, dispute management, etc.). Modern payments processors like Galileo, i2C, or Marqeta may not have the breadth of offerings a Fidelity or FIS has but often have much cleaner and more developer-friendly APIs. By doing less, they may enable their customers to do more.  As a fintech or platform business, you could choose to cut out the API-based platform and go directly to the payments processor. This would produce better economics but require much more effort, expertise, and upfront cost.

BIN Sponsors / FBO account providers are regulated and ultimately responsible to the regulator for all finance activities. The FBO (client money, or virtual account for European readers) is the regulated store of value, and the "BIN sponsorship" is a license for connecting to Visa and MasterCard's network.  

If they're small, the strategy for fintech or platform businesses could start with an API-based platform, then increasingly move down the stack as they scale (eventually becoming a bank themselves as Square is on its merchant side).  Or the API platform may add so much value to the fintech/platform that customers are happy to pay the premium (e.g., How Stripe keeps companies like Shopify because of its R&D and execution prowess).

Now consider that's just one type of payment in one market. And we didn't even get into secondary partnerships.

2. The many types of financial product

My mental model for all of this is to separate each of the core "types" of embedded finance and then understand the stack for that type.  Once you understand the stack, you can overlay the regional differences. Once you understand the regional differences (driven by regulation or just market maturity), you can overlay each market's different actors.

Some example types of “product” with the different underlying infrastructure stacks

1. Card issuing (Credit, Debit, Prepaid)

2. Payment acceptance (Cards or domestic rails)

3. Domestic payments (e.g. ACH & Wire)

4. International Payments (e.g. SWIFT)

5. Real-time payments

6. Secured lending

7. Unsecured lending

8. Crypto

9. Insurance

10. Investments

Now consider how these differ for consumers? SMBs? Corporates? In different Geo’s?

Each stack looks different, but there are some similar characteristics.

1. Someone is regulated at the bottom

2. Someone is close to the market infrastructure

3. In some markets, there's someone at the top making beautiful APIs

Sometimes 2 & 3 are the same thing.  

(You could literally spend a lifetime doing just this and never be done, feels like we need an open-source project)

The embedded finance stack

Wherever you are looking at embedded finance, think about the regulated financial product first, who the players are, and what each player brings to the customer's table.  Much like there's a "fintech stack" for each Geo, there's an embedded finance stack for each major financial product, which looks different for each Geo (and no perfect abstract mental model for all of it!)

And the many, many overlapping providers

The next few years will be interesting. The various “a- a-service providers” will be unbundled, then re-bundled through M&A. Stripe is adding breadth to its offerings but is very USA-centric. Marqeta is opening in Europe and APAC. Railsbank just opened in Australia.

4 Fintech Companies 💸

1. Puzzl - Embed payroll into any platform

• Puzzl is for anyone building a platform (e.g., vertical SaaS, point of sale, time and attendance, or even a Gig wage platform). It's a tool for those platforms.  Let's imagine Shopify wants to embed for its merchants the ability to run Payroll inside of the Shopify experience. The Puzzl API would be how they could do that.  Puzzl has both Whitelabel dashboards and headless APIs available and is coming through YCom.

• More broadly, there's so much activity in the Payroll API space that this is an interesting reframe.  Rather than having an API over existing payroll software, why not run payroll as a part of another platform?

(h/t Charley Ma)

2. Finley CMS - Debt capital management platform

• Finley provides a simple platform that's an upgrade for both a debt capital provider (e.g., a bank) and the borrower (e.g., a fintech getting into lending). The borrower can manage reporting, compliance, and even multiple credit facilities all through the platform. Historically this is quite manual and involves a heavy lift on an internal operations team.

• As fintech continues to march up through to the more complex financial products, debt capital has been on the list of unloved areas for a while. The traditional lenders are very branch and/or relationships based.  Getting debt capital involves getting to know a bank relationship manager, filling in countless forms, and dealing with heavyweight reporting. 

3. Ikigai - The Neobank and wealth manager in your pocket

• Ikigai has all of the features you'd expect in a Neobank, like a card, budget setting, and real-time chat with customer support. What's different is they're baking in savings and investments to the same app around a series of goals (e.g., build wealth, new home, new business, etc.).  Each customer gets a "relationship manager" who becomes their point person for banking *and* investing questions.

• This is ambitious; it's a play at being "the stitch fix of banking," but I can't help but feel it looks like a Neobank + a wealth manager smooshed together (smooshed is a word, go with it). The features are designed to appeal to higher net worth earners (e.g., better FX, fund management, progress tracking). But imagine what it would look like if Chime, Public.com, and Stitch fix all had a baby. I want to build that.  (Hey banks 👋)

4. Tumelo - Platform for voting in AGMs for stocks your pension holds (UK)

• I. Love. This.  Tumelo users create an account, explore which companies are held in their pension plan, get a simple form to vote on all upcoming AGM decisions (e.g., should a fast-fashion company stop selling down-feather clothing). Then the platform allows users to track those votes and see the impact it has made. For investment platforms, Tumelo offers a platform and APIs to embed the AGM voting.

• Tumelo is an example of why I always say global investors should look at the UK for weird little innovation bits.  Imagine this capability inside of Robinhood, Freetrade, or your existing 401k provider.

Things to know 👀

1. That Stripe raise

• Stripe raised $600m at a $95bn valuation to invest in its European operations and expand its global payments and treasury network. Stripe is in 42 countries, of which 31 are in Europe; Stripe notes many of the continent's fastest-growing companies are customers (e.g., Klarna, N26, UiPath). Interestingly, Stripe is getting into enterprise with Jaguar, Maersk, and retailer Waitrose announced as customers. Enterprise is Stripe's largest segment, and they doubled revenue in enterprise YoY.

• 🤔 My Analysis: Stripe's strategy hasn't changed, but it has reached the size where the world's biggest companies are now sitting up and paying attention.  Stripe obsessively simplifies that complex and sells on value, not price.  Digital businesses value conversion at checkout, quality of APIs, and the polish Stripe bring to everything they do. This is bamboozling to some bankers who cannot understand why giant enterprises will use Stripe when the bank can offer "the same" for a lower price. It's because the offer isn't the same.  

• 🤔 My Analysis: Stripe is still very USA-centric. Most of its impressive products (e.g., Atlas, Treasury, Issuing) are US-only and likely to be US-only for the next 12 to 18 months. However, don't confuse "not yet" with never.  Stripe has hooks into Europe, and it's clear this latest round is about playing much deeper in the region. Stripe also acquired Paystack, which (alongside Flutterwave was a contender for "Stripe for Africa).  As banks struggle to get their compliance teams comfortable with emerging markets, Stripe will do the hard yards with tech to manage risk, and merchants will happily pay a premium for that access.

• 🤔 My Analysis: The culture of obsessing over the detail to make delightful experiences aimed at the developer as a user is tough to replicate.  Stripe has being awesome at execution as a moat. 

2. PayPal and Flutterwave

• While we're on global payments players, Flutterwave is partnering with PayPal to allow PayPal customers to pay African merchants. Meaning, African businesses can sell to the 377m PayPal users globally.  PayPal has operated some remittance and P2P payments across various African countries over the past decade, but merchants had historically been locked out. Techcrunch notes "sources" have alluded to not allowing Merchants on the platform due to Fraud concerns. Flutterwave is absorbing much of the risk PayPal would have incurred.  Flutterwave now has 290k merchants and growing.

• 🤔 My Analysis: Fraud and risk are hard to manage at a distance; it makes sense that a company like Flutterwave might 1) understand it better 2) be able to prevent it better.  Frontier markets are hard and need a healthy dose of risk appetite, but there is a lot to learn from the early days of PayPal and Stripe themselves.  Both businesses absorbed more of the risk in return for higher prices to their merchants.  For Flutterwave merchants having access to 377m customers, I can imagine it may be worth the relatively high fees for payment acceptance.

• 🤔 My Analysis: It will be interesting to see if Flutterwave or Paystack can develop sophisticated ML-based fraud and risk prevention tools.  Flutterwave's payment protection promise is an interesting bet that the opportunity to grow the African internet GDP is higher than the risk of fraud in the region.  It may also be what drives them over time to develop more sophisticated tools.  

Good Reads 📚

1. Banks increasingly complaining about the need for “a level playing field”

• Banks are increasingly complaining about fintech companies. For example, Jamie Dimon from JPM, Ana Botin of Santander, and the consumer bankers association's head.  Complaints include increasing KYC / AML risk, fintechs "exploiting regulatory loopholes," and new lenders not having to comply with full banking regulatory rules. The term that gets thrown around is "level playing field."

• Alex points out that it looks like banks mistakenly think digital companies succeed for two reasons 1) Digital account opening and 2) They get to arbitrage regulation. But, banks are seeing the symptoms of success and trying to copy them without understanding the CULTURE and mindset shift that led to those innovations in the first place.  You can't clone innovation and expect the same results. Copying innovative features doesn't make you competitive.  

• 🤔 My Analysis: There's no doubt that fintechs absolutely have been able to arbitrage some regulations. The Durbin amendment is the chief among them. In many cases, a Durbin debit card program is as profitable, if not more so, than a bank's debit card program. But here's the thing, the fintech company's CAC is much lower, as is their operating cost because they're born digital. They're not lumbering a branch network or ancient tech around with them.  Fintech's only exist because banks consistently confuse solving a customer problem with selling products they've been selling for 100s of years via a new distribution "channel."

• 🤔 My Analysis: Fintechs, in many cases, are better at AML / KYC than most banks. To claim they're creating risk in that space is pure BS. Don't get me wrong; fraudsters absolutely attack every new fintech knowing they won't have yet set up proper controls and operations. By the time a fintech is the size of Chime and Square, their controls are materially better than most banks.

• 🤔 My Analysis: Being a digital business is an entirely different culture, funding model, operating model, and yes, technology stack.  Trying to copy the tech stack or features is like wearing the same shoes as Usain Bolt; it doesn't mean you get to run fast.

2. Help I'm trying to HODL during a quarantine pregnancy 🤰

• I mean, the title alone had me, but this is a fantastic read talking through how crypto has really changed what saving means for many of us. Most of us were never taught the basics of saving as youngsters, so we get by with a piggybank then a savings account, which is fine until it isn't. If you have a big life event or accident that insurance can't cover, you can lose everything, even if you're educated and "did it right."

• 🤔 My Analysis: "Savings is HODL for fiat" made me chuckle, but if you look at bank savings rates, is it any wonder the consumer is now looking for a return in riskier assets?  The people coming to crypto investing are not just traders and speculators that live in their mom's basements. Crypto is mainstream. On the one hand, if it had a major systemic correction, that could really hurt people. On the other, the real test of stablecoins "savings" products will be when the market does correct. If they can maintain their yield through a crypto market crash, they could be here to stay.

• 🤔 My Analysis: I saw a good start from Eco that suggests banks' take rate on your savings is around 2 to 3%. You're getting a tiny fraction of that. Surely we can do better.  That "cutting out the middleman" thing seems like a good idea when it helps with compounding. Although where this heads, if inflation returns and interest rates rise, it is hard to call.

Tweets of the week 🕊

That’s all folks 👋