May 22nd 2022 - Who's looking to M&A and why? Google Virtual Cards & former Meta Payments front man getting into Lightning

Hey everyone 👋, thanks for coming back to Brainfood, where I take the week's biggest events and try to get under the skin of what's happening in Fintech. If you're reading this and haven't signed up, join the 14,472 others by clicking below, and to the regular readers, thank you. 🙏

23rd May Corrections: Original post had a typo in the Whatsapp sale price and called the company Highnote “Highgate,” now fixed.

Hey Fintech nerds 👋

Well. That was a week, wasn't it?

I mean, holy shit. Crypto did indeed capitulate.

The horrible thing is how many consumers are underwater on Crypto, especially projects like TerraUSD that promised 20% APY returns on a "Stablecoin." It's shit like this that makes regulators and governments hate Crypto, and it makes the job that much harder for those of us who genuinely believe in the long-term promise of web3. 

When assets like this crash, people may lose their house, and worse, the long-term effects on their mental and physical health can be shockingly bad. Not to mention their families, or in rare, extreme circumstances, it has led to suicide. 

The responsibility of anyone offering a financial service is massive. 

It's all well and good inventing the next financial widget, but the cost of failure can be overwhelming.

Nobody gets into Fintech or finance to solve the unhappy path. 

Usually, it's to fix something that is broken or friction. And let's face it, billions of people are unbanked, and the financial system is biased to benefit those who already have capital more than those who don't. We need financial inclusion; we need to figure out how to prevent money laundering in a way that actually fucking works. And more than anything, we need to fix the broken incentives that lead to us destroying the planet in the name of "growth."

But when you experience all the things that can go wrong in financial services, suddenly you see why regulation exists in the first place. 

But regulation was an early 20th-century solution to the issues of the day. It made sense in the context of the problem it was designed to solve, but it is also now baked into the infrastructure with unintended consequences. Regulation and law are like sedimentary rock. If you slice through financial infrastructure, you can see each layer as a response to a crisis of their time or a problem in that context. 

But nobody ever stood back and looked at the intent of the regulation and said, what if we can do this better systemically? 

I was so encouraged to see Vitalik Buterin suggest a mechanism like how FDIC pro-rates compensation for consumers when a bank goes insolvent, for instance, TerraUSD when a project goes insolvent. (Note, he was not suggesting the government steps in, but that a community or decentralized insurance network does). 

These long-term, community-led solutions can solve consumer risks and harms in a way that traditional regulation will always struggle to. Crypto and web3 will always move faster than regulators, but the community can move just as fast.

Regtech is a better UX for the regulation that already exists.

But.

If web3 is building a new internet that users own, coordinated with tokens. Could Reg DAOs build better governance for this new global system?

Hear me out. 

In 2017 I helped found an organization called Global Digital Finance. The goal was to create standards for the Crypto industry where regulation didn't already exist. As a member-led organization, the industry does the hard yards of problem-solving. Finding the risks and then attesting to a code of conduct to solve those risks.

What would this look like as a DAO? It looks like Gitcoin, a community that funds public goods and open source projects. But it focuses on identifying areas of most harm and systemic risk to people, businesses, and markets and identifying solutions to them.

We can solve this together with the tools of web3 and as a community.

If you know of any projects already thinking this way, get in touch.

And if you want to build this. Please reach out 🙏

PS. For a moment of Zen this week 🧘- The Lens protocol launch really filled me with a sense of hope and optimism. Something about it feels like when Facebook was launching on campuses and especially early Twitter. All of the hope and optimism, but with new business models and protocols available.

Standard disclaimer: Everything here is one guy's opinion, coloured by experience; I have no crystal ball, just trying to understand the world by thinking aloud.

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Weekly Rant 📣

Who's gonna do Fintech M&A and why?

If the IPO market is closed and the crossover funds are leaving, what happens to Fintech companies that have product-market fit, and a good amount of funding but are a long way from sustainable? 

An acquisition may be the next best thing and an opportunity.

But for who and why?

Robinhood is perhaps the perfect example of the weird market we're heading into. On the one hand, they're acquiring Ziglu, the UK-based consumer Crypto wallet and debit card. On the other, the CEO of Crypto exchange FTX just bought 7.6% of Robinhood's stock, according to a regulatory filing. 

While Sam Bankman-Fried (SBF) has stated that he has no intention to pull an Elon and take control of Robinhood, he "may push for changes." The observer in me can't help but see a few things here.

1. The image of the little fish being eaten by a bigger fish, being eaten by an even bigger fish (Ziglu, Robinhood, FTX).

2. SBF is the trader's trader. He likely sees value in a stock that looks cheap (and let's face it, all of Fintech is starting to look that way).

3. SBF is buying an option on consumer distribution for Crypto. He (or more likely FTX) doesn't have to acquire Robinhood, but if they did, they'd inherit many customers already open to trading.

4. FTX is playing 4d chess, in the same week SBF invested in Robinhood they launch zero-fee stock trading.

Unlike previous Fintech innovation cycles, incumbent banks or Fintech infrastructure companies are not the only buyers. In 2022, we have monster Fintech companies who may have raised recently and have a decade or more of runway. 

So let's set the scene here.

Who are the buyers, sellers, and people who don't need to sell, and the rationale for all involved? 

And let's try to do that in less than 1,000 words 😅

The buyers 🤑

Banks are already in motion. 

JP Morgan has acquired 13x Fintech companies since 2020; Goldman acquired the point-of-sale lender Greensky. Even Truist acquired Long Game Savings (a Fintech App to reward customers for saving). 

But bank acquisitions don't always go well. BBVA Compass famously acquired OG Neobank Simple in 2013, only to unwind the business in 2021. Despite this being a good exit for the time ($117m), neither BBVA nor the Simple customer base truly benefitted from the acquisition over the long term. My sense is that Simple would always compete with anything in-house and core to the business. Internal politics was always in the way.

By contrast, I think the acquisition of Greensky by Goldman makes more sense. Goldman is buying a business line that they’re not currently in and putting their logo on it.

Or Nutmeg for JPMC; it's a mix of market and segment entry that has no existing business to compete with. 

Some incumbents got the joke with Fintech over the past 5 years and maybe well-positioned to augment their business. Especially as interest rates rise and the core business model of banking becomes fashionable again. The challenge for all incumbents is finding a strategic fit and not killing what they just acquired. 

Payment infrastructure companies are well placed. 

Both incumbent and younger Payment companies are often profitable and massive. Everyone from Adyen to Fiserv, Galileo, Marqeta, Checkout.com to Worldpay finds themselves in an exciting market to make strategic moves.

Fiserv recently acquired core banking platform Finxact, and SoFi (owner of Galileo) acquired core banking platform Technisys (spot the theme here). Meanwhile Thought Machine just raised at a $2.7bn valuation (and Mambu is in that ballpark).

Many of the incumbents in payments like FIS, Jack Henry, and Finastra have historically been very active (and successful), acquiring multiple platforms and businesses to grow top-line revenues. The downside is the business lines often operate almost independently, and for the customer, there wasn't always much upside (although that is starting to change). 

There are almost three generations in the payments world. 

First, companies founded in the 90s and prior are already conglomerates of M&A running core banking, processing, acquiring, and countless "value-added services." For these companies adding a Fintech that can bring fresh relevance to their incumbent customer base (or new customers) could be exciting. Also, what about Visa, Mastercard, and AMEX? The timing could be great to buy future growth for them.

Second are the teenager companies like Global Processing Services, Galileo, Marqeta (and arguably Checkout.com). These companies did well in the Fintech boom of the last decade and mostly grew with their clients. Do they follow the model of their elders and get into core banking and start rolling up smaller competitors? Possibly. There's also no lack of middleware companies that improve time to market and developer experience that could be interesting targets.

Lastly, the newest generation is typified by ultra-modern issuer processors like Lithic, Highnote, or PayFac-as-a-Service like Finix or Infinicept. These businesses are built from the ground up to be developers first and create new business models for Fintech and non-finance companies alike. I doubt they'll go on a major acquisition spree, but some targeted acqui-hires could be interesting as smaller competitors struggle for growth rounds. I also sense partnerships, both formal and informal, become increasingly important.

I need to think more about where payment orchestration fits into all of this. Are they the acquirer of something mid-sized, and they buy down the stack to improve unit economics? Or are they the acquisition target for someone bigger? Possibly both.

Big Fintech companies have compelling opportunities. 

Some massive companies are still private. At their last valuation, Stripe, Chime, and Plaid are all Decacorns. Many are fresh from a recent raise and have a significant runway or are close to profitability per customer. Plaid acquired Cognito, the identity and KYC provider, and Stripe acquired TaxJar to help businesses with accounting.

The goal for the infrastructure companies is to create stickiness and growth through geographic, and product line extension. The likes of Stripe or Plaid can begin to create an ecosystem of services around their customer base. 

Consumer not-yet-bank Fintech companies like Chime or Revolut have a different challenge.

Can they grow their top and bottom-line revenues to be in a place to IPO if and when the IPO market opens again? 

Revolut's blitzscaling has served them well here because they've added geographies and business lines rapidly, but at the cost of a full banking license in any major jurisdiction.

Chime has a massive customer base and a single market focus, so their goal could be as simple as a product line extension and stability/sustainability (e.g., reduce their customer friction around things like fraud, e.g., Hertz blocks Chime because of high fraud rates)

Investment products like Robinhood and, to some extent, Super Apps like Cash App may look at geographic expansion. Robinhood acquiring Ziglu was an interesting move (after trying to open an office in the UK pre-pandemic). 

Consumer international expansion is hard. 

B2B could get super interesting.

How many operating systems, expense management platforms, corporate cards, and modern transaction businesses can the market serve?

The answer is probably quite a lot. B2B finance is a great place to be. Better interchange, huge problems to solve, and terrible incumbent solutions. But if growth funding dries up, consolidation might become an option.

The mid-stage growth companies are a real mixed bag. 

Some just raised and have plenty of runway for the foreseeable future to avoid down rounds and can focus on growth. Others are less fortunate and may start to look at layoffs (like we're seeing now in the public markets) and focus on their core business or an exit.

Companies with high valuations but low revenue momentum spent heavily on marketing on hiring have some tough decisions to make. Does the world need another Neobank or salary advance product, and why this one? Does the world need middleware, or is that just product development for B2B infrastructure providers?

The answer depends on revenue, traction, and efficiency.

Whatsapp had 19 employees when it sold for over $19bn to Meta. FTX is famously very light on hiring, and Unit (who just announced a $100m fundraise) says it has 10 years of runway.

You can do a lot with very little.

Those that thrive will be efficient and continue to show that traction. 

Others might just need to survive.

Lastly. The down round doesn't have to equal death. Monzo famously had a down round in the middle of the pandemic, only to come out swinging in December last year at a $4.5bn valuation.

Eventually, everyone exits. 

It feels like the public market downturn has flipped the table. 

Big Fintech companies can't stay unprofitable forever.

Incumbents need to buy things they won't kill.

And everyone else just needs to hang on.

What happens next will come down to founders, investors, and their conviction. With the amount of VC dry powder companies can stay private for longer, and Fintech has so many problems still left to solve.

There's still a ton of space to explore in B2B, Gen Z, and private banking for the mass market. Fintech infrastructure seems to grow with each generation. And the survivors of this winter will be the monsters of the next Fintech summer. 

Questions this leaves me with. 

• Will any Fintech companies do lending well without a charter? It feels like that breaks the laws of financial physics.

• Will private companies with high-value shares do all-stock deals, and will founders go for that (e.g. Bolt and Wyre)?

• Is DeFi lending having its moment as it moves into RWAs (Real World Assets) and interest rates rise?

• Will any consumer or B2B Fintech companies get a charter now lending is sexy again in the west? (At least for banks and folks with a balance sheet, maybe not for VCs)

• Will regulatory headwinds compound the misery of consumer Fintech companies like Robinhood (and is this an opportunity for Regtech)?

• Will incumbent payments companies acquire smaller Fintech infrastructure players or middleware? 

• Will anybody disrupt vapital markets infrastructure Fintech well at scale or does that require web3 (e.g., Talos provides digital asset trading for institutions and just raised their Series B)

Who knows 🤷‍♂️

That's what makes this space so interesting.

ST. 

(PS. Got there in 1337 words 🤓)

4 Fintech Companies 💸

1. Ness - The wellness card 

• Ness is an app that gives users points for things that add to their emotional, physical or financial wellbeing. Using services like headspace or calm, spending at a gym, or eating at a salad or juice place adds to users' total points. These points can then be redeemed at retailers like Barry's or Sweetgreen. Ness plans to launch the Ness debit card to further enhance rewards and accelerate point redemption.

• 🤔 This product feels like it just had to get built some time. Mental, physical, and financial health are all related. Take points, debit card interchange, and merchant-funded rewards, put those ingredients together, and amazing things should come out of the oven. What I like about Ness is which merchants they're partnering with and how they're thinking about points. Something in the execution is smooth.

2. Meld - Fintech Stack as a Service

• Meld allows Fintech and non-finance companies to integrate multiple payments, open banking, and crypto providers behind a single API. Meld will enable developers to quickly integrate various providers in multiple geos without managing integration challenges.

• 🤔 This is payment orchestration, open banking, and crypto orchestration, and I'm here for it. (This is one of the thesis behind 11:FS Foundry, but add in compliance, fraud, and lending). There are plenty of good middleware providers now in "banking-as-a-service." But payment orchestration has taken off as a category because it's so much more configurable. Some middleware providers often focus on reducing time to market more than giving developers choices. There is space in the market for a stack like this that goes beyond just payment orchestration.

3. Realizefi - Plaid for Investment accounts

• Realize allows users to connect everything from services Robinhood, Fidelity, and E*Trade to view their data and make trades. They enable use cases like tax planning, portfolio tracking, and social investing (allowing users to copy trade). Unlike Plaid or Yodlee the data pulls are instant, and users can make trades through the platform.

• 🤔 The Great Fintech Rebundling is upon us. The Fintech boom has left consumers with an average of 3 Fintech accounts (and in some cases, many more). These shadow financial lives are invisible to any single market participant, often even the "personal finance management apps." Fintech apps have either focussed on investment or added investing as a feature, but few have really aggregated it well. The ability to make trades directly via this API could be a killer feature for Realizefi in the short term. But will people who are already doing some aggregation and investing switch? Or is this creating a new category?

4. Kard - Reward points as a service

• Kard is a marketplace that has relationships with merchants that it can connect to credit and debit card issuers (e.g., banks, fintech companies, and non-banks). Issuers can quickly find merchants who may have offers relevant to their customers without building a commercial partnership or integration. 

• 🤔 Ad-tech meets Fintech as a marketplace. Most consumer Fintech companies made their name solving hidden problems for consumers like getting paid early or making real-time payments. But increasingly, we're seeing the value of points as a motivator come back into fashion. As early as TrialPay in 2010, entrepreneurs have been trying to link consumer cards to merchant rewards, but it has always been elusive. But now, if every company is a Fintech company, why wouldn't they want a rewards API?

Things to know 👀

1. Google re-launching wallet and launching virtual cards

• At it's I/O event Google announced it will enable virtual cards in the chrome browser as a "security upgrade" to its auto-fill feature. Online shoppers will be able to convert any card into a virtual card and shop online without sharing their card details with a merchant. Initially, this feature will only support Capital One cards in the United States but will add Visa, Mastercard, and Amex in time. 

• Google Wallet is also being upgraded to add vaccine cards, transport cards, and person-to-person payments (via companion app Google Pay.

• 🤔 Virtual Cards could be a killer feature for consumers, but it needs the scale that lives in the browser. I always thought creating a virtual card made no sense for consumers on the banking app or online portal. It's a schlep. The use cases are endless for businesses, and the UX is now astonishing. But for consumers, it has to live right at the point of need (getting embedded). Being right there in the browser just makes sense. Heck, that's why Privacy.com (now Lithic) originally started there. But also, Privacy.com was a niche browser add-on for nerds. Being something that is just offered by your browser is an entirely different ball game. It goes from the consumer having to hunt for the feature to the feature provided, like more wine by a good waiter.

• 🤔 Google has the perfect wedge into Virtual Cards. Entering your card details everywhere doesn't suck in 2022 because 99 times out of 100, autofill does the work for you. Google's Chrome browser has ~65% market share, so if they can add Virtual Cards in most markets, they have the potential to make that an everyday experience for most people. Although, I do question if someone using a Google virtual card means they would ever use Google Pay or Wallet. In theory, Apple could add virtual cards to Safari and they're generally better at vertically integrating with their ecosystem (e.g., cards, wallets, passbook).

• 🤔 Could Google get into Virtual Cards for SMBs? This feels like a long way off, but why not? Smaller businesses and growth companies have been the biggest adopters of virtual cards. Imagine if an SMB could pay with any existing corporate card program, but right there in the browser. But this is non-trivial to build, and Google's best Fintech strategies have often been to copy Apple. So unless we see Apple Card do SMBs, don't expect this from Google any time soon. Google would need partnerships, and partnerships didn't go well in the last few attempts.

• 🤔 The new Google Wallet feels like a copy+paste Apple. Google Wallet has a long history, usually trying to partner with banks. The first iteration did card not present (e-commerce) style transactions. It was a neat idea but never got traction. The second significant attempt, Flex, was an excellent product but relied on partnerships with banks like Citi. Apple shows up, vertically integrates, and negotiates hard. Maybe Google is just too nice, or they're more concerned about losing business on the Google Cloud Platform than making a real play for consumer adoption and going over the top of banks?

2. David Marcus launches a lightning-based payments startup

• The former head of Facebook Messenger and former PayPal President David Marcus has announced Lightspark, a new payments startup backed by Paradigm and a16z. The aim is to "explore and possibly extend the capabilities of Bitcoin." 

• 🤔 Marcus has an interesting background. He founded Zong, a pioneer in SMS-based billing later acquired by eBay (then owner of PayPal). While at the helm of PayPal, they acquired the ultra-successful Braintree (and the parent company of Venmo) before leaving to join Facebook as VP of messaging. Marcus led the introduction of P2P payments in 2015 before taking on the Blockchain work (that became Diem) in 2018. With the backdrop of Tencent and Alibaba being global messaging giants that made payments, you can see why Marcus made sense in messenger, but payments never quite worked for Meta. Marcus was the right guy in a company that just seems to never quite get it done in payments.

• 🤔 Meta may never get its shit together on payments. As early as 2011, Facebook was trying to launch coins, micropayments, and commerce, but it never stuck. With the acquisition of Whatsapp, Facebook, in theory, had the perfect P2P payments mechanism. Take a market like India with 400m Whatsapp customers but tiny ad revenue. A ton of commerce already happens informally via Whatsapp, but very little through payment services offered by Meta. Indian (and indeed, Brazilian) regulators have pushed back hard whenever Meta moves into payments. Compare this with Google or Apple, which have made steady ground in the past decade.

• 🤔 Libra / Diem's biggest issue was that Facebook (Meta) was behind it; the idea itself wasn't terrible. David Marcus is perhaps best known for being called into Congress to explain Facebook's crypto project Libra. 

• 🤔 Lightning quietly has some momentum, but can it turn that into volume? Block, Robinhood, Meta, and now this new company from David Marcus publicly support Lightning as a new payments rail. But Ethereum and Solana have significantly more transaction volume for everything from NFTs to DeFi and even consumer yield. 

• 🤔 Crypto promises global, 24/7, and nearly free, but it also has so many different rails that we may re-create the current financial infrastructure and costs mess. Just off the top of my head Bitcoin, Ethereum, Polygon, Solana, Binance Chain, Avalanche, NEAR, Optimism, Arbitrum, and zkSync all have ecosystems and projects trying to solve the same set of problems in different ways. Then there are countless projects trying to fund interchain or cross-chain interoperability. And that's before you consider backward compatibility with TradFi, or the numerous efforts to create CBDC. 

• 🤔 When you add regulation back into the picture, it's close to becoming a giant mess. The great thing about open source was the protocol enabled markets. The great thing about markets is that competition drives the strongest to survive. Crypto has blurred the lines between open-source protocol and profit-seeking entities. Power laws and aggregation theory would suggest; that eventually, we will see a couple of top contenders emerge for different audiences. Like how Linux has Red Hat for enterprise and Ubuntu for the prosumer.

🥊 Quick hit

• Germany to make Crypto tax-free if sold after one year. The ruling also details when activities like airdrops or staking are taxable. 🤔 Germany (particularly Berlin) has long been a hub of Crypto and web3 activity. It is now arguably one of the most progressive states globally on Crypto taxation. And this is in the week that Portgual announced it will no longer be a "tax-free" state and introduce capital gains shortly. If you know where to look, Europe is a super interesting and surprisingly progressive place on Crypto policy.

Good Reads 📚

1. The current state of under-collateralized loans in DeFi

I love discovering new writers, and this first post by Liam Roberts on the "DeFi Mullet" substack is well worth your time.

• The vast majority of "lending" activity in DeFi is over collateralized. In other words, to borrow $100, you must place at least $101 (ideally more) as security. Because this is a low risk, it caught on in Crypto markets where the collateral (ETH, BTC, etc.) would gain value, and the borrower could then use the new capital to go and buy more assets that may also go up in value.

• The recent IMF report showed that DeFi can be significantly more efficient than traditional lending types because it lacks labor and operational costs. But DeFi has also not had to step into under-collateralized or zero collateral-based lending to achieve this efficiency. This is where the innovation needs to happen to go beyond the current niche audience.  

• Liam posts a stack for an "Under collateralized marketplace" that almost looks like the operational stack of a bank, deconstructed into different providers and protocols. Liam also posits a world where people can blend real-world data (credit rating agency, account data) with on-chain data to enable new use cases.

• 🤔 Lending is hard regardless of technology. Figuring out if a borrower will pay you back sounds simple but is incredibly hard. The only sure-fire way to learn is to see enough borrowers in good times and bad and use that data to build a model. That's why the Web 2.5 borrowing space is super interesting. Use DeFi as a better rail for investors to buy debt, and have Fintech and finance businesses that understand borrowing do the messy business of lending. 

• 🤔 Fintech has tried to build "embedded lending" platforms to scale lending, but at best, these solutions are likely to remain domestic. There's a reason you don't see many global lending marketplaces. Lending is incredibly regulated, subject to tons of local nuance and laws. This may yet be an opportunity for Fintech companies. Still, my sense is a SaaS marketplace for lending will struggle to aggregate lenders because those underlying lending products are so complicated. 

• 🤔 But a global, composable lending stack is exciting. What if the lending product was a universal asset type, open-source, and available to anyone? We'd invert lending as an activity from something done locally and bought on a global marketplace (e.g., a debt capital market) to something built from the same raw primitives and localized by wallets or local distributors. Maybe the Amazon of lending is built on DeFi? I need to give this a lot more thought (right now, it's more instinct/question and very poorly formed, I need to tug on this thread more).

• 🤔 Especially if Stables become central banks for the internet. Hear me out. Given the state of the Crypto markets, this might seem like a wild idea. But the Stablecoins that make it through the next few years are set up to be the new internet native payment rail. If they can build successful debt markets, build deep liquidity and keep all of that software permissionless for developers, things get interesting.

🤓 Ultra Nerd - Extra Credit Read 🤓: Vitalik Buterin et al., moving web3 from hyper financialization towards a more rewarding, pluralist future of increasing returns for broader society. This is a long read, but it’s utter genius. I’d go as far as to say it is required reading for anyone in web3. Or anyone who wants to see the future. Wow.

Tweets of the week 🕊

That's all, folks. 👋

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