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Neobanks don’t need to be “real banks” to compete in banking

I wrote a piece recently about the challenges of being a challenger bank.  It coincided with the news that my friends at solarisBank had just achieved a Series A funding round of €26 million.  Neatly, co-founder of solarisBank Marko Wenthin spotted my post and decided to send a reply.  Here is his thoughts on being a challenger bank.

Neobanks don’t need to be “real banks” to compete in banking

As Chris wrote in his “57 banks” post, the neobank market is overcrowded, and many won’t survive. That’s the harsh, but simple truth. What are all these banks (or banks to be) trying to achieve? An exit to an incumbent bank? Or to build a sustainable business?

Either way, the big question is: Does the market need that many banks to have their own licenses and banking tech? Does a fintech need to be a proper “bank” to compete in banking? The answer is a resounding no.

For me, it’s clear as day: why would you bother to raise the massive amount of money required, obtain a banking license, build banking technology, and perform constant compliance activities if there was an easier way to achieve the same results?

Why would you wait a year and a half – at minimum – before getting your product to market? Why wouldn’t you cooperate with a partner bank and focus on shipping a great product to your customers?

But I realize there are smart people out there who think building a full-fledged bank is a good idea. Otherwise there wouldn’t be so many new entrants in Europe and the UK. So let’s have a look at what I think their reasoning could be:

Argument 1: Neobanks can reach sustainability and become profitable businesses on their own, and they need modern technology to be sustainable for the future. Therefore, neobanks should have their own licenses and infrastructure.

I agree with the premise but reject the conclusion.

Customers turn to neobanks because they provide a user experience that incumbent banks can’t. As long as they feel secure, customers don’t care where the underlying banking technology comes from. A neobank will live or die based on its ability to continuously delight its customers. The underlying technology is only relevant if it impedes that ultimate goal.

As a neobank, why would you take on the massive task of becoming (and remaining!) a bank when it costs you millions in capital, delays your time-to-market by years, and most importantly, defocuses you from the main task of delighting your customers? Even if you nail the task of building a bank, you don’t have a sustainable business in the long-run if you don’t deliver a world-class customer experience. There are some neobanks out there who’ve done the former and ignore the latter. I worry for them.

Some might argue that fintechs need banking licenses in the long run because they need to cross-sell other high-margin products like consumer loans to be sustainable. That is definitely one way to reach sustainability, but who says the products have to be your own? There are a number of fintechs that earn commissions by offering other companies’ products to their customers, including loans from “real” banks. The value you get from serving the customer has nothing to do with being a real bank and owning the products you sell – it’s only from delivering valuable services to customers.

Argument 2: Incumbent banks’ legacy systems are terrible. They can’t make products people want without modern banking infrastructure. One way for them to stay relevant is to buy a neobank and migrate their businesses over to a modern system. Therefore, they will buy licensed neobanks that have built modern banking systems.

Again, I agree with the premise, but I don’t agree with the conclusion.

What do incumbent banks actually want? Is it fancy banking systems? Or to offer cutting-edge, pioneering products that redefine the customer’s relationships with their bank?

The banking system is just a means to an end, the foundation on which the customer experience is built. In 2017, saying you need a modern banking system in-house in order to build innovative products is like saying you need servers in your office to run a website. Could you have servers in your office? Yes. Do you have to? No – and it makes little sense to.

Banking-as-a-Platform (BaaP) promises to transform banking the same way that cloud-hosting and cloud-computing has transformed the internet; you don’t need a data center full of servers to run an enterprise-scale business today, and you won’t need your own banking systems in the future either.

Neobanks can be equally attractive, if not superior acquisition targets without their own banking licenses or systems. That is, as long as they build banking products that blow their customers away and manage to procure the banking services needed to do that.

With BaaP, fintechs can start fast, prove their concepts, and pivot their business models until they find product/market fit in their quest to change banking. This way, they invest their time, creativity and investors’ money in real change – a better customer experience – and not in mimicking incumbents in a more fashionable way.

If it doesn’t work out, fair enough. At least you focused on the right things. If it does work out, and for whatever reason you decide to become a “real bank,” it isn’t an irreversible decision. You can always apply for a license later. Our friends and Berlin neighbors at N26, the most successful European neobank, have done exactly that. I doubt they would have made such an impact if they had focused their time and resources on getting a license back in 2014. Instead, they started lean and created the standout neobank reference case that everyone is chasing.

So no matter the long-term strategy of a neobank, whether to exit to an incumbent, or strive for sustainable independence, starting as a proper “bank” and building your own banking infrastructure from scratch doesn’t make much sense to me.

My advice to the 57 “banks?” Forget the old paradigm of building your own banking systems. Stay nimble, get to market quickly, and focus on delighting your customers. Do that, and you’ll be one of the lucky ones to survive.

About Chris M Skinner

Chris M Skinner
Chris Skinner is best known as an independent commentator on the financial markets through his blog, the Finanser.com, as author of the bestselling book Digital Bank, and Chair of the European networking forum the Financial Services Club. He has been voted one of the most influential people in banking by The Financial Brand (as well as one of the best blogs), a FinTech Titan (Next Bank), one of the Fintech Leaders you need to follow (City AM, Deluxe and Jax Finance), as well as one of the Top 40 most influential people in financial technology by the Wall Street Journal’s Financial News. To learn more click here...

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  • Klajd

    I agree with the sentiment but there are a few points especially on the advantages of having your own infrastructure that I do not agree.

    First I don’t think the comparison with servers is the right one. Most of tech startups do not have servers but their platforms i.e core systems are usually built in-house.

    Second, it is not entirely true that by relying on a third party provider you would be more nimble. Most technology companies rely on a lot of existing frameworks and systems but they always prefer to own the technology stack. They develop their own software and have their own development teams. It’s the only way to be faster and better than the competition. Outsourcing development is a major red flag for technology companies. In banking especially relying on third party providers usually it’s slower, less flexible and oh so costly.

    In the end it depends what kind of company you want to build, if you want to build a neobank and acquire customers by offering some value added service or better UX by all means choose a BaaP, but if you want to be technology company that wants to build a bank (like Facebook is a technology company that sells advertising) by all means you should own and build your own platform.

    • Junayd

      Hey Klajd,

      – Point taken. The way we see it from solarisBank’s perspective is that servers are more or less standard hardware running standard software these days. Banking tech isn’t much different. With servers, lots of different companies compete for business and therefore have to replace their systems and keep them up to date.

      What we’re trying to achieve with the solarisBank banking platform is to constantly improve the standard parts of banking technology and make core banking tech available to all comers. That way companies can focus on building their USPs. Very rarely is a company better solely because they have faster servers. But when their servers can’t accommodate a killer feature, that’s when they get into trouble.

      – Sure, that makes sense for some parts of the tech stack. But most companies don’t develop their entire tech stack from scratch. Banking as a Platform isn’t about outsourcing development, it’s simply about using the standard resources that are already there so you aren’t held back by your current or future stack – rather you have one that’s always at the cutting edge.

      – We challenge the notion that in order to truly be a tech company, you need to build every piece of your tech stack yourself. The idea is to never be bottlenecked by any particular part of your stack. If you get to Facebook-level in terms of size and scale, you can build your own data centers, but short of that you can go a long way by using off-the-shelf hardware and software.

      Give me a shout if you’d like to continue the conversation!

      Junayd Mahmood – Head of Marketing at solarisBank

      • Klajd

        Hi Junayd,

        Thanks for pitching in. I love what solarisBank is doing and I am all in on the BaaP concept. I see it as long overdue evolution to the legacy CBS providers.

        BaaP finally is bringing to the banking industry what tech companies have had for a long time. Robust platforms, frameworks and APIs that you can build on top of it and be updated seamlessly without being tangled into legacy complicated pricing models. That will definitely increase competition and enable fintech companies to get to the market faster.

        I am really glad that you do not see it as outsourcing and I hope banks, both new and old, do not see it as such as well.

        So I thing it all boils down to the importance of having a certain level of competence to your technology weather it’s relying on a BaaP or built entirely from scratch. It’s great that most neobanks are doing that, they have robust development teams and people that understand technology. Incumbents, at least in general and maybe excluding the Barclays of this world, are still relying on on-the-shelf software which usually doesn’t come in the form of BaaP (in fact I wouldn’t put BaaP on the same category) but more on the form of White-Label software.

        Thanks again for the valuable input and would love to hear more about solarisBank so let’s connect 🙂

        • Junayd

          Definitely! Thanks for engaging on BaaP! Let’s stay in touch.