Fintech 🧠 Food - The future of B2B Fintech, Chase does get paid early & even Apple does savings now - 23rd Oct 2022

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 23,328 others by clicking below, and to the regular readers, thank you. 🙏

Hey Fintech Nerds 👋

🎃 'Twas the morning of Money2020, and the Fintech Nerds were in for a fright. My goodness, oh my, no VC funding in sight! But fear not, young nerds Brainfood is here for your delight.

Just when you think Fintech is dead, it goes and surprises you.

Another week another set of crazy headlines. Plaid wants to be the web3 wallet aggregator. Fidelity does ETH now, JP Morgan is copying + pasting Neobank features, Nubank will do its own Crypto coin, and Mastercard has a “full suite” of Crypto offerings.

Couldn’t cover all of that, but you’ll find the usual rant, Fintech companies and thoughts below 👇

By the time you’re reading this, I’ll be on the ground in Vegas at M2020, so come say hi (tall chap, orange beard and specs, can’t miss me) 👋

PS. This week will be quite full for me (as it will be for many of you). So Brainfood may be a little late, but I may do a Bonus state of the industry or thoughts from the show floor the week after :).

PPS. Random, but if anyone has indexed the past Fintech Brainfood 4 Fintech companies in a spreadsheet or similar, I'd love it if you could share. I lost mine :( 

Weekly Rant 📣

The Future of B2B Fintech

CFO tools, expense cards, and even treasury management for Fintech have become one of the hottest sectors of the past two years. Driven by a genuinely massive TAM, poor UX from incumbents, and a wave of growth companies willing to buy from other growth companies.

This slide from Credit Suisse probably has a lot to answer for (published in 2021)

Accordingly, we saw Fintech companies attacking this market get massive valuations.

But given the market has turned, VC funding multiples aren't what they used to be, and the renewed focus on profitability, how does the B2B Fintech market change shape?

Let's look at

• The problems B2B Fintech solves (and for who)

• The types of B2B Fintech company

• The business models so far

• The sustainability of those business models

• The pressures facing the B2B Fintech client base (and product opportunities)

• How things might play out

B2B Fintech is awesome.

If you think consumer banking had a UX problem, pour one out for the CFOs and finance ops people of circa 2010. Enterprise software for finance ops was an afterthought. 

That's because the suppliers of financial services to companies set up to solve the problems of their customers had historically. A smaller regional bank close to an area that specializes in farming develops a specialist skill for underwriting that type of business. Larger global banks become experts at helping the world's largest companies deal with 100s of currencies and complex debt and finance issues.

The reality for small and mid-sized businesses has been that they either got a regional bank with great humans but terrible tech or a large bank with a better scale but very little understanding of the business's nuance. 

This size of a customer was big enough to be profitable but not big enough to warrant the level of service global corporates received. 

The smaller businesses got consumer checking ++

Mid-sized businesses got a few more types of lending and FX product in return for an awful UX and tech stack.

The traditional banking stack for a mid-sized business might involve one or a handful of banks, ERP software (the operating system), and perhaps an expense card (either from the bank or someone like Amex).

But if you're a growth company using SaaS tools daily, the difference between the core tools (Slack, G-Suite, etc.) and the experience offered by banks was night and day.

At worst, it didn't work.

At best, it didn't solve the problems growth companies face.

Problems facing growth companies.

Expenses didn't work: Receipt capture was always a pain, but categorizing spending was even more painful. The employee would spend extra time on data entry to feed an accounting system. The accounts team would then have a ton of manual work to determine which expense applied to which supplier and how on earth to report that for tax.

The expense goal for large corporates (and their employees) was to get the reporting data into their giant homogenous accounting platforms (ERPs like SAP or Microsoft Dynamics).

But for growth companies, it was to capture the receipt, make sure it's in policy, and report it.

There was a weird middle stage of companies that do receipt capture, but that didn't solve the problem either.

Then came the actually good expense management cards and software suites. These products feel like magic the first time you use them. Everyone from TripActions to Ramp to Payhawk (and everyone I didn't name, don't @ me) made expenses just work for the employee and, more importantly, for finance ops. 

This category is modern expense cards, but they have become much more than that in the years since their launch. Where TripActions is a fully-fledged travel agent with a card, Ramp is now going much deeper into helping companies save money on their SaaS subscriptions (or even re-negotiate them). 

Banks weren't designed for Ops teams: Finance teams have to accept payment, pay suppliers, and reconcile transactions against accounting software (like Quickbooks), on top of the day job of setting budgets and helping the team secure investment and grow. Bank's often required in-person KYC for account opening, which would take weeks and require ops teams to make payments one by one or bulk upload a CSV file.

There is simply a ton of work above the raw money movement, and banking data teams had little to no help managing.

Large corporates solve this by throwing people at the problem. Smaller companies often just accepted the pain.

But growth companies are open to buying new products that solve these problems and help them scale faster. Companies like Mercury, Rho, Arc (and everyone I didn't name) solve this similarly to how consumer Neobanks solved consumer UX problems. By partnering with an underlying partner bank (or several) and packing those financial products in a genuinely excellent experience. 

This might involve making everything searchable, instantly creating subaccounts, or more complex payment automation and integrations with accounting and payment tools. Some even go as far as venture debt or revenue-based finance.

These orgs become a fully-fledged alternative to traditional banks, even though they are often not banks.

I'm calling this category B2B Neobanks (open to a better term, but it feels the most meaningful, even if they're more accurately financial operating systems for growth companies with an underlying partner bank). 

Running a Fintech finance ops team is double hard: In the year when 1 in 5 VC dollars went into Fintech, and "every company became a Fintech company," suddenly niche problems like running a ledger or building payments workflows became mainstream. 

Now try doing that with traditional banks behind the scenes. It's entirely possible (and likely has better unit economics). Still, the time-to-market and developer efficiency aren't what they should be because they'll spend forever trying to parse complex files from a bank's SFTP server and very little time building the product.

Into this steps a whole swathe of companies, from Modern Treasury to Primer, Payable*, and Nilus. Payments Automation, Ledgering (or a bit of both) APIs, and companies that make money movement developer-first and Finance Ops friendly. These companies might specialize in many different ways (e.g., Fragment.dev is super close to the metal and first principles, vs. Modern Treasury which goes wider and supports multiple banks and integrations.)

Most debt products weren't designed for tech growth: Outside of specialists like Silicon Valley Bank, debt (especially at the early stage) didn't take advantage of the new reality. That reality is data. Modern e-commerce or SaaS business likely has a modern tech stack running their back office, and that tech stack likely has APIs that output data.

Companies like Capchase, Clearbanc (and now even the modern-day Neobanks) allow a growth company to connect multiple accounts to fund growth out of revenue (or revenue-based finance).

Connect Stripe for payments, Quickbooks for accounting, and Adwords for advertising, and it becomes trivial to understand how increased advertising creates increased sales. More importantly, cashflow underwriting becomes an option, given the lender now has a real-time feed of the growth companies' performance. 

Where traditional banks might use that data to help underwrite an existing loan type, revenue-based finance agrees to a set % of revenues (e.g., 6%) that the growth company pays to the lender until the debt is repaid. 

(I'm going to side with the whole issue of how the "term" of the loan could be unlimited; therefore, this gets calculated as an APR and regulation, but there is a can of worms in there, for sure).

Lending is easy; getting paid back is hard. And I’m curious to see if specialist lenders, banks or partnerships between the two win in the long term.

Types of Fintech company and business model.

So we have 

• B2B Neobanks 

• Modern Expenses Cards 

• Payment Orchestration 

• Revenue Based Finance

(Not forgetting the whole ecosystem of Fintech infrastructure companies that enable them, solving KYB, API integration, fraud, and everything else that could be interesting for the bankers reading. I see you. I got u).

Many of these companies became Unicorns, and as the market has become crowded, each began expanding deeper and wider in product and customer segments. 

But where they go next might depend more on the business model than pure customer acquisition.

B2B Neobanks and Expenses Cards love interchange. The revenue model that bootstrapped consumer Fintech has also bootstrapped much of B2B Fintech. Every time one of their clients swipes or makes a card payment, the Fintech company retains a small % of the payment amount as revenue.

The interchange-bootstrapped model differs from consumer Fintech because commercial debit and credit cards often have higher interchange rates than consumers. Also, commercial card customers often spend on higher-priced items (e.g., flights, hotels, enterprise SaaS). 

So often, these companies give away the value-add parts of the platform (like expense reconciliation, accounting integration, or even SaaS re-negotiation) in return for the interchange revenue. 

This model creates an incredible growth flywheel, where these cards become top-of-wallet, and the software becomes the operating system for a growth company.

Interchange is also “inflation-proof” because as your customers pay higher prices, you simply take a % of whatever they’re paying. You’re indexed (to some extent).

But now the market has turned. Is that sustainable, and are the unit economics positive?

Perhaps not for all customers, and I'd seriously question the long-term margins.

Things are already changing.

If there are fewer tech companies to sell to, who’s the new customer for B2B Neobanks, and where does growth come from?

The clue here is that Brex exited the smaller end of the SMB market.

These businesses have several options. They could introduce a SaaS-like service fee or cross-sell other products (like venture debt).

I suspect we'll see both. 

Many of the B2B Neobanks already do cross-sell lending. Some have even started to highlight high-yield deposit accounts. And the great thing about the interchange-bootstrapped model is that if users love your product, you're top-of-mind regarding cross-selling opportunities. 

My metaphor here is CashApp, a "free" product, but it cross-sells everything from stock trading to lending successfully because its users trust it and, frankly, love it.

I'm also reluctant to write off SaaS subscription fees. Founders may fear damaging growth, but also, you should get paid for building awesome shit.

"Premium" cards from consumer Neobanks (and now credit cards) with fees attached have been a successful way to drive revenue from power users and brand advocates. Why wouldn't a premium or pro subscription make increasing sense as the larger customers become more complex?

Lending is easy; getting paid back is hard. I'm curious to see how revenue-based financing companies perform as the economy drifts toward recession. 

The public markets have not been kind to Fintech lenders historically. Consumer lenders become banks, and SMB lenders like OnDeck are trading at less than a 1x multiple.

Lending is an excellent part of the portfolio (and an incredible revenue generator). Still, unless you're a bank, the public valuations say to make it something you offer rather than something you are. 

Less VC funding and start-ups mean fewer growth companies, and the ones there grow slower. Helping them in their time of need makes you a trusted partner.

And I come back to SaaS revenue and CashApp.

Fees are all good if your product is amazing. 

Fintech companies that try to lend may carve out a niche, but the public markets haven’t historically been kind to them.

What’s different today is the rise of partner banks.

Smaller banks, with the lowest cost of funds, can partner and are capable of it. If they can step in and help supply balance sheet capacity, B2B Fintech companies can be great distribution partners.

Lending is a piece of the puzzle, but not the key is owning distribution if your goal is a big exit.

Pressures facing B2B growth companies.

The new reality for growth companies has created new problems to solve.

Deposits need to work a lot harder. Inflation is happening, and the next VC funding round isn't a sure thing, so growth companies are looking for higher yields. Offering high yield is a no-brainer. No surprise that many of the Neobanks already advertise this, and specialists are emerging to help with treasury management. If you're in B2B Fintech and don't offer that, now might be a good time to consider it and how it fits.

Saving costs helps; growing revenue is better. Every company is now trying to reduce its COGS (supplier costs that drive unit economics) while raising its prices. Helping identify and re-negotiate SaaS is helpful; helping benchmark pricing and revenue performance vs. peers might be more useful. Revenue is oxygen; without it, there is no business, and you can never really have enough of it if you're trying to grow explosively.

Where does this leave us?

Default alive is tempting for young founders, but as the market moves to a world where flat rounds aren't flat, the role of elder and advisor becomes ever more crucial. 

Community and niche banks have always specialized in precisely this.

In the world of SaaS, sometimes, a human who gets it is what you need.

Relationship banking could make a comeback, but doing that at scale and with the right unit economics is critical. For banks that already have that, perhaps some of the 3rd and 4th placed B2B Neobanks with great tech platforms look like attractive M&A opportunities.

I doubt the market can sustain 20+ Unicorn valued expenses cards companies. The interchange-only business model must be extremely cost-efficient to deliver margin at scale and continue to innovate in an ultra-competitive market.

There's space for specialists. TripActions is a prime example; fuel cards are another businesses that solve an industry vertical like construction. This specialist digital-only community-of-industry requires going deeper into the customer problem space and easily justifies a SaaS revenue line item.

Then there's the "getting a charter" route, as we've seen Varo and Monzo do. This is a hard road but ultimately makes lending a great business model if the business can manage the massive compliance and cost burden. 

Partner banks are now stepping up to help build lending products, and this can significantly drive up revenue for Fintech companies, but only if they focus on the value they add. Block adds lending into its mix but doesn’t define itself by its lending product. That’s an important lesson.

Regardless of sector, feature velocity wins.

Feature velocity is table stakes.

And remember, feature parity isn't product parity.

The experience of using the product has to be *chefs kiss*

With improving unit economics.

Hey, nobody said it would be easy.

But I cannot wait to see what happens next. Isn't Fintech just the best?

ST.

4 Fintech Companies 💸

1. Exponential - The Crypto discovery and ratings Roboadvisor

• Exponential is a Cryptoasset discovery and investment platform. It helps manage investing and taxes and provides investor confidence through its scoring system. Exponential provides a quality score to Blockchains and assets (from A to F) based on factors like chain design, past issues, and dependencies. The goal is to provide investor confidence in a given asset in a market subject to significant hacks in the past year.

• 🤔 Crypto needs a place normies can go and interface with DeFi, and what Exponential has is likely the right UI. It helps handle complexities like Layer 2's, protocol risk, and "high yield." It almost looks like something a CeFi exchange would build to give direct access to DeFi. This makes me wonder if Exponential is taking on a regulated activity here even though the wallets are self-hosted. They could claim to be a supermarket, but it's their brand and rating someone buys from. 

2. Vance - The Neobank for global citizens

• Vance calls itself the "Neobank for global citizens," which helps consumers spend like a local, move abroad with a global credit line, invest in international markets, and get market-leading FX rates. It is aimed at people who live in many markets but struggle to bring their credit scores and address history with them.

• 🤔 This is an excellent combination of things other Fintech companies do well into a single package. The standout is bringing your credit score from your country of origin and getting credit from Vance based on that score. Huge if you're looking to fund a rental in a country you just moved to.

3. Roundtable - Angelist for Europe

• Roundtable helps European investors build SPVs (special purpose vehicles) and recruit other angels to co-invest. The platform has focussed on investor education and is currently waitlist only.

• 🤔 Europe has a budding operator-investor community that has emerged in the past decade, but a high percentage of those have informal networks. Whereas in the US, it's common to have friends in tech with an SPV, it's just not that common in Europe, especially outside the UK. Where it does happen, the SPV is Angelist and US based, which limits some of the tax breaks and incentives available regionally.

4. Tennis Finance - Crypto-backed Credit Card

• Tennis provides up to 40% of a user's Crypto as a credit on a credit card in "less than 2 minutes." A user deposits their Crypto, gets instantly approved for credit, and can pay back whenever they see fit with no late fees.

• 🤔 It's a secured line of credit that essentially bets the user's Crypto won't decrease in value by more than 60%. Crypto nerds rarely want to sell Crypto to be able to transact (in the belief that, over the long run, the price will go up). So why not deposit it to have an everyday spending card? This model looks like traditional high-net-worth credit cards, where the bet is the customer is good for the money. The nature of Crypto also gives a little extra confidence to Tennis. I'd imagine once that Crypto is deposited, it's theirs (and they could benefit from any yield, etc.). There are quite a few degens and Crypto rich this would appeal to. Niche for now, but an exciting model for the future if all assets become digital assets.

Things to know 👀

1. Chase does "get paid early."

JP Morgan will allow some customers to access their salary payments up to 2 days early to attract customers to its secure banking product. This move follows industry pressure from regulators to have banks remove fees like overdrafts. 

• 🤔 The Chase secure banking looks like its consumer Neobank peers if you squint and look at it from an angle. Aimed at people making less than $55k per year, it has 1.4m customers, no fees for overdrafts, checks, Zelle, or bill pay, and costs $4.95 per month. Aside from that subscription fee, that's very similar to Current or Chime on the surface.

• 🤔 Consumer Fintech is acting as product R&D for the whole industry. Banks will copy + paste features from Fintech companies that have proven that feature is effective at delivering growth. It's a sensible strategy from their POV. Let the smaller companies figure out all the hard bits and copy when it's proven. (The chap from JPMC even said that's their strategy, kudos for the honesty.)

• 🤔 Feature parity isn't product parity. Two pairs of shoes may both have laces, but one pair might be high quality and last forever. How the feature is packaged, marketed, and implemented is critical. Although, to be fair, large banks are getting quite good at digital products now.

• 🤔 Fintech companies must keep their feature velocity. That's getting harder to do now they're chasing profitability (or, in some cases, charters and banking licenses). The need to keep pushing the boundaries and expand into new revenue lines will drive consumer Fintech for the next few years.

2. Even Apple does savings now

Apple announced last week that holders of its Apple Card would soon be able to receive up to 2.00% APY savings rates in partnership with Goldman Sachs. Users can opt-in to auto-save their Apple Card cashback. This move follows the "BNPL" announced a month ago with iOS 16 (but pushed to 2023). The wallet will also allow users to track all online purchases made through Apple Pay.

• 🤔 Apple has exquisite timing. Marketing this now in a cost-of-living crisis is exceptional marketing. It builds the perception that even though Apple is a premium device and service, you're better off with it than with alternatives. Everyone will market deposits soon; it's the biggest consumer imperative. Delaying BNPL also doesn't hurt as regulators increase scrutiny there.

• 🤔 Who needs Marcus anyway. Goldman announced a couple of weeks ago they're winding down their mass-market consumer play, Marcus. With a partner the scale of Apple, Goldman can likely attract more deposits and originate more lending than they could directly.

• 🤔 Big Tech news is Fintech news. When I first got into Fintech, I remember the debate was always when Big Tech might enter financial services. Now when Apple does a thing, it is the financial service news. Slowly then suddenly. Apple plays the long game and stays consistent.

• 🤔 If the device becomes the key to a user's identity, they're insanely well placed. Apple is working with states to have the wallet hold driver's licenses; they could be the provider, keeper, and user of an individual's government identity. They could also be the protector of that user's privacy via the device. And all forms of finance rely on identity more than anything. This isn't the end game for Apple. In 10 years, these early moves will be mainstream.

•  🤔 This story is still very US-centric. Google and Meta are in a much better place in markets like India or Brazil, with 100s of millions of potential users. Those markets aren't key to Apple, but they're also massive. Just maybe not quite as profitable per user. Apple knows its strategy and customer base so well. That leaves Europe in purgatory, with no clear Big Tech player winning the wallet wars, and Fintech companies have lost some momentum in recent years. And APAC, well, that's a whole blog in its own right.

Quick hits 🥊

• Plaid wants to be Plaid for Web3. Plaid will offer its Plaid Link service to web3 applications with "Wallet Onboard." The core of web3 is having a wallet and “connecting” that wallet via the browser or mobile to another application.

• 🤔 The primary provider of this service today is WalletConnect, but Plaid has now entered the chat with a white-label version. They have a big brand and consumer mindshare, so I’m guessing this is the dream combination. WalletConnect provides the plumbing for web3, Plaid the UI, and backward compatibility with Web 2. Also, if you’re a big tech brand doing web3, Plaid feels “safe.” The real opportunity down the line is to bridge banking, identity, and the “real world” with web3. Do that safely and securely, and we’re in a whole other universe.

• Nubank will launch its own Cryptoasset (Nucoin) in the first half of 2023. Designed as a way to encourage loyalty and participation, the token is built in partnership with Polygon, the Eth-compatible Blockchain backed by Sequoia.

• 🤔 This is either partner-funded marketing that will go nowhere, or it’s a genuine innovation in loyalty. If you look at how Binance or FTX use their token, users gain progressive pricing benefits from holding more of the token. In this sense, it’s like a tech upgrade version of classic reward points but with way more functionality. Classic reward points were limited to how they could be used, but a token could be used by any project or network, for example. Theoretically, a large retailer could offer any Nutoken holders a discount online without connecting to Nubank or its loyalty scheme provider.

Good Reads 📚

1. Margin call by net interest (paywall)

After some recent high-profile "margin calls," Marc takes us through what created these events and the underlying infrastructure and regulatory choices that created them. The most high profile was the near collapse of the UK pension fund industry in recent weeks, where one fund had to post collateral of £1.9bn ($2.15bn). Lacking available cash at such short notice, countless pension funds would have defaulted if not for action by the Bank of England. 

Margin calls also happened to the energy, metals, and commodities traders, not forgetting Gamestop and Robinhood's margin call. Marc notes this is partly due to the massive rise in derivates contracts (OTC derivates currently stand at $578trn today vs. $72trn in the late 90s). Collateral replaced bank deposits as a core way for giant companies and funds to interact with complex contracts and become more efficient with their capital against low yields. But the downside of collateral is when the market turns, the impact of forced selling is multiplied, and banks cannot act as loss absorbers. Since the financial crisis, regulators pushed for centralized clearing houses (CCPs), and technology got faster. Again, banks are not required in these OTC trades.

• 🤔 Marc is so good at making capital markets digestible. All of his pieces are worth the money, but this one alone is worth the subscription.

• 🤔 Derivatives often involve long contract periods. The simplest is a put or call against a stock over 90 days, but a pension fund may be looking to combine asset types over 30 years to cover its future liabilities (payments to the pension fund contributors. A 30-year contract may be for assets with a notional value of ~100bn+, but the derivative contract allows investors to leverage-buy those assets for a much smaller amount of collateral. 

• 🤔 When a margin call comes, it comes fast and has to be paid immediately. Being unable to make a margin call is the same as being insolvent. This might be a payment that's paid daily of, say, ~$10m, that suddenly jumps to billions, and funds don't have that kind of capital lying around. That would be like if you paid for your car with a deposit and monthly lease, but one month you needed to find 10x the monthly payment else the lender would come and repossess your car; tomorrow.

• 🤔 Margin call calculations were an afterthought; now, they're the only thought. When the margin was a tiny amount, who cared how it was calculated? The problem was finding yield. After this sequence of events, the market will change dramatically in the next five years. 

• 🤔 Regulatory solutions to today's problems often cause tomorrow's. After 2008, regulators insisted on using central clearing houses (CCPs) to ensure that if there were contagion among the banks, there'd be an alternative 3rd party ensuring markets functioned. But what happens when everyone's margin suddenly jumps by 10x in 24 hours? Now everyone has a problem.

• 🤔 Having available cash (liquidity) is everything, and that's where I think Digital Assets may start to play a role. At its worst, DeFi is the wild west, full of scams, hacks, and ridiculousness. At its best, it is a global, 24/7, and real-time market that is programmable and transparent. The transparency could allow margin pricing and calculations to be much more tailored and targeted to an institution rather than the haphazard and volatile daily calculations.

Further reading 📚

• The latest FT Partners quarterly Fintech report. Lots happening; this is a great snapshot.

• Capex is making a comeback. Great macro read about why bits-not-atoms are sexy again.

Tweets of the week 🕊

That's all, folks. 👋

Remember, if you're enjoying this content, please do tell all your fintech friends to check it out and hit the subscribe button :)