Banking Article, Banking Finance 2020, Banking Finance October 2020

Fin Tech Firms a Disruptor or Partner to Banks

Introduction

The initial offering in this segment came in the year 2005 with the introduction of BC (Banking Correspondent) model to increase penetration to unbanked areas. FinoPayTech and Eko India were the major start-ups that took advantage of this opportunity and built their services around the BC model. The year 2010 saw the slow emergence of fin tech companies in a heavily regulated market, but with lots of restrictions in financial sector the way forward for such companies was sceptical. In the year 2015 the Indian Fin tech sector, saw a spike in the emergence of numerous Fin tech start-ups, incubators and investments.

Banks have also launched solutions with the help of their in-house teams aimed at improving the digital financial infrastructure. Some of the initiatives include:

  • Union Bank of India launched the *99# mobile application in partnership with NPCI that allows basic services like balance inquiry, fund transfers and mini statements to its customers even when there is no internet
  • Axis Bank presented the ‘Invoice to Payment’ feature that provide end-to-end digital invoicing and payment solutions
  • ICICI bank launched a contactless mobile payment system which could enhance NFC payments in India
  • DBS introduced the first mobile bank that allows customers to open accounts digitally with their ID proofs.

Building a robust Fin tech ecosystem where start-up firms engage in external partnerships with financial institutions, universities and research institutions, technology experts and government agencies is expected to be a key enabler for growth and innovation in the Fin tech sector. With the new initiatives taken up by government such as financial inclusion and promoting cash less economy a lot of scope has been opened up for the fin tech companies. Despite wide branch network, the financial services still lag in terms of coverage. Over 40% of the population is not connected to banks and an estimated 90% of small businesses are not linked to formal financial institutions (FIs). These gaps in access to formal financial services have created a large untapped market potential for Fin tech start-ups to develop a variety of offerings. A major role in kick-starting the evolution of Fin tech in India was played by start-ups offering digital mobile recharges. For a very long time, Indian consumers used coupons purchased from retail outlets, largely by cash for prepaid mobile phone recharges. This evolved to digital recharges, which in turn evolved into digital wallets and usage of wallets for various other commerce activities. The fact that these new offerings have strongly impacted consumer behaviour has not only attracted attention from more technology savvy individuals, but also a lot of investments. Banking has been one of the sectors that were resistant to disruption by Technology. For centuries, banks have built robust businesses with high margins, high distribution through branches, and unique expertise in lending activity. The Banks have enjoyed the special status of being regulated institutions that supply credit which is required for the economic growth and have got insurance for their liabilities (deposits). Moreover, the bank customers are slow to change financial-services providers. This has resulted in banks having a very resilient business model. However, the status-quo is changing rapidly. First, the financial crisis had a negative impact on trust in the banking system. Second, the pervasiveness of mobile devices has begun to undercut the advantages of physical distribution that banks previously enjoyed. In India Mobile phones have an 80% penetration vis-à-vis bank penetration of just 35%. The aforesaid factors have led to a huge change in the customer’s tastes and preferences in favor of the new innovative financial products specifically, and environment in general. Fin tech companies have the advantage of reduction in both, operational and capital expenses.

Now let see what exactly are fin tech companies??

Financial technology companies consist of both startups and established financial and technology companies trying to replace or enhance the usage of financial services provided by existing financial companies. India has become a hotbed for fin tech firms. India has a presence of approximately 400 companies in the Fin tech industry and NASSCOM report estimates the Fin tech software and services market to grow 1.7 times by 2020, making it worth Rs. 60, 000crore. The operational cost of a Fin tech company is 4.25 percent lower than traditional banking systems and the benefit could be passed on to the customers along with convenience of services,” he said, adding that many new age customers were shifting to these instead of banks for their needs. The primary factors that were driving Indian firms to deploy Fin tech products included streamlining day-to-day operations, fast growth in revenues, increasing reach, process efficiency and improvement, empowering sales force, and managing risks and costs. The industry is undergoing rapid evolution in terms of product offerings, with added focus on customer experience, driven by the advent of mobile and analytics technology. Customers are increasingly open to banking innovations driven by technology, government regulations are leading the charge, and private players are making major investments. This is leading to greater financial inclusion as everyone gets access to advanced banking services and a wide range of financial offerings. These trends are sure to play a key role in this transition. Growth and market success of any Fin tech hub originate from an integrated ecosystem. A successful Fin tech ecosystem is where all the market participants connect, engage and share ideas across vibrant communities and networks, as well as identify and convert opportunities into business. In the current age of technology driven financial services, no market participant can afford to operate individually. Fin tech firms’ primary competitive advantages are their agility to launch and pivot, their laser focus on customer experience, and their freedom from the burden of legacy systems. However, they also face challenges in scaling their business due to a lack of trust, absence of a known brand, an established distribution infrastructure, capital, and regulatory compliance expertise that, historically, are the strengths of incumbent firms.

Government role in rise of Fin tech firms

India has traditionally been a cash-based economy, with the country’s preference for cash being reflected in its high cash-to-GDP ratio of 12.04%. In November 2016, the Government of India undertook a demonetization drive, scrapping high-denomination notes. This provided a significant boost to Fin tech startups (mobile wallets and digital payments), pushing citizens to use to digital modes for payments. Without the governments support no firms, specifically Fin tech firms that being operated in a tightly regulated industry cannot survive. The government and the regulatory bodies have recognized the changes that are taking place in the Indian Fin tech space and have constantly kept pace with the rapidly changing environment in terms of technology and customer expectation.GOI and RBI are pushing heavily for moving towards a cashless digital economy and creating an eco system by providing funding and promotional initiatives. GOI with its initiative of startup India has given the funding advantage to budding Fin tech entrepreneurs. With the GoI scheme of Jan Dhan Yojana lot of new customers are being added into the banking sector hence there is a lot of scope for such firms. Govt with the digital India project have started bringing in the digital infrastructure to even villages hence such fin tech companies are getting vast scope for their business. The investors have started understanding the importance and impact fin tech companies would be able to create. It was initially started off with mainly payments technology but soon it started moving onto other spaces such as lending, investing, wealth management and other financial related activities. The highest number of startups has been in Bengaluru.  However, for Fin tech start-ups to continue their way forward, they need to demonstrate to regulatory bodies that they can benefit the society, by being transparent to public, institutions and the regulators that they can be regulated and monitored.

Consumer Perspective

Consumers have already started turning to Fin tech firms as alternative providers of access to payments, credit, investments, insurance etc. Even in urban areas where branches are in plenty, banks are often unable to live up to the increasing expectations of demanding customers. Younger customers do not have the patience to visit branches. They are looking for fully automated, simple to use, digital products and services – an area where banks are found lacking – especially when compared to the digital offerings off fin tech firms. Ease at setting up of account at the comforts of home when compares to the traditional financial services and wide range of services conveniently accessible are reasons for consumers get attracted. India has seen significant growth in both the number of smart phone users and internet users over the past few years. India is ranked third in terms of number of smart phone users and deep penetration into the Indian population base offers Fin tech firms an opportunity to address issues of low banking penetration. But with increase in base of consumers the demands and requirements from them will start varying.

Partners to Bank

The Indian financial sector is highly regulated with significant capital and other constraints on firms interested in delivering financial services. While this level of regulation is aimed at protecting the interests of consumers, it has had the unintended effect of creating large entry barriers for Fin Techs. However, in areas that are relatively lightly regulated, Fin Techs have been able to disrupt, or significantly impact, the business models of traditional players as a result of lower cost structures, and more effective technology design and implementation. The relationship between Fin techs and traditional financial institutions has morphed from competition to collaboration, but this potential of collaboration is just the start. Fin tech companies were initially seen as technology based business moving into the space of financial institutions. They were perceived as a threat to the existing banks since slowly the fin tech companies were occupying the space of the banks. Fin tech companies usually target a particular segment and try to dominate them. Banks having to focus as a whole started lagging back since the no off fin tech firms raised and they started on focusing exclusively in their target groups. Banks started slowly losing their customer base due to this. Banks started moving from the traditional conservative mindsets, to align their strategies and better collaborate with Fin tech players in the payments, lending and wealth management space. Banks realized the importance of working with them rather than seeing them as disruptors. They started understanding the impact which could be created if collaborating with fin tech firms was done. Due to a plethora of data, fin tech startups have gained significant traction. By introducing innovative ways, they are successfully offering products and distinctive solutions for consumer demand. The banks started collaborations in different ways such as venture capital investments, incubator programs and accelerator programs. Collaborations will provide the perfect opportunity to leverage the full potential of the technology and will allow them to meet the demand of digitally savvy users. Fruitful collaborations will heavily rely on traditional institutions’ ability to identify and assess whether candidates for partnership have the characteristics necessary for sustained success across four pillars: People, Finance, Business, and Technology. With adopting fin tech revolution by banks, soon would come a day when there would be no requirement of physical cash and everything will be possible to mobile, cards and Internet. Traditional financial institutions are adopting many Fin tech customer service enhancements, while retaining strengths including risk management, infrastructure, regulatory expertise, customer trust, access to capital, and more. Both traditional and Fin Tech firms stand to gain from a symbiotic, collaborative relationship. For a successful collaboration, both sets of firms will need to remain open-minded and keep a dedicated focus on collaboration. Both traditional financial institutions and Fin techs have struggled with finding the right partners, efficiently working together, and effectively scaling innovation. Fin tech leaders have struggled with traditional institutions’ lack of agility, willingness to partner, and culture fit. However, Fin techs also need to be mindful of incumbents’ constraints and clearly articulate the value proposition they can achieve together to be a collaborative partner. Financial institutions need to respect the Fin Techs’ culture to avoid losing their agility, which is one of the major assets that they bring to projects. The challenge being throw open to both segments will be to select the best fit Fin Tech with whom to collaborate. Achieving the next level of high growth and scale will require Fin tech firms to collaborate with traditional financial institutions to gain access to a larger customer base.  A robust partner ecosystem is also critical for creating better customer-centric products and services. The future of financial services is in the hands of both the Fin Tech and traditional firms that can complement each other’s strengths to meet customer needs and redefine the journey. Both Fin tech and traditional banking has its advantages and disadvantages hence to be strong on both fronts effective partnership is a must. In cases of Fin tech firms they are lagging behind in aspects such as brand name, customer trust, capital and infrastructure. For startups, partnerships with financial institutions will provide access to funds for future growth. With joint efforts, their businesses will more likely be scalable and sustainable in the long run. For banks, such partnerships would mean a data-driven approach with lesser costs, low redundancy, solid technical know-how, and increased efficiency. Banks can significantly reduce structural costs, provide employees more time for value-added tasks, and enable enhanced regulatory compliance. Unified efforts can create a solid financial system that works for all. Such engagements should work with the highest integrity, strong level of security, and greater transparency to reap the full benefits of the next wave of tech innovation. All banks are in active dialogues with Fin Tech firs to see how effectively it will be suitable and can be integrated with banks system.

Conclusion

India is having a huge scope for Fin Tech players with the digital India initiative the infrastructure was also put in place for the rise of such firms. The growth in Fin Tech solutions has seen huge uptick in the last couple of years. This is further expected to grow with the renewed interest from banks and regulatory bodies. Banks have started to actively participate in the Fin Tech boom by looking for partnerships and investments with start-ups, while the government and regulators are drawing new frameworks and policies that incentivize innovation and entrepreneurship. Consumers range from financially illiterate to extremely sophisticated global investors. Consumers may be multi-lingual or may only speak their native language. They may have access to the latest technology or may be limited to basic phones and limited internet connectivity. This creates a variety of use cases and needs. The robust ecosystem of technology, underlying platforms and skilled people and government / regulatory initiatives have provided Fin tech players with the opportunity to identify specific niches and the capability to address their pain points, before growing to address other market segments.

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