1. What is fintech, and how has it evolved over time? Who are the major players? What conditions have contributed to the emergence of fintech?

For the exclusive use of M. BI, 2021. UV7225 Rev. Jul. 7, 2017 Cutting through the Fog: Finding a Future with Fintech Then comes a strange moment, the sort of thing that happens often at Microsoft, which seemingly within moments turns disaster into salvation. Talk has turned to broader trends in banking. Where’s it going, what’s in it for us? Banks are dinosaurs, says Gates. We can “bypass” them. The Raptor is unhappy with an alliance involving a big bank-card company. “Too slow.” Instead he proposes a deal with a small—and more easily controllable— check-clearing outfit. “Why don’t we buy them?” Gates asks, thinking bigger. It occurs to him that people banking from home will cut checks using Microsoft’s software. Microsoft can then push all those transactions through its new affiliate, taking a fee on every one. Abruptly, Gates sheds his disappointment with Money. He’s caught up in a vision of Microsoft at the center of the “transformation of the world financial system.” It’s a “pot of gold,” he declares, pounding the conference table with his fists, triumphant and hungry and wired. “Get me into that and goddamn, we’ll make so much money!”1 Carolina Costa was a consultant at Florida Optimum Group (FOG), which, funnily enough, aimed to “help our clients cut through the fog.” She was working on engagement, advising a large global bank. The weather had turned and after leaving the client’s office at 7:00 p.m., Costa was able to enjoy a walk to both clear her head and synthesize her thoughts. To many, fintech was still a buzzword with foggy definitions and an unclear path forward. Luckily, Costa had caught the itch to learn more about fintech during the second year of her MBA at a major business school. She had been asked to lead a team to advise Alex Linger-Turpin, a senior managing director, on the strategic path that the bank should take in the wake of fintech growth. A few choices were becoming clear, though she wanted to make sure she analyzed the various options. She also wanted to make sure she had the right context to share with her client—Linger-Turpin and his colleagues knew something was bubbling beneath the surface, but they could not quite figure it out. Costa was ready to help them put their finger on fintech. 1 Newsweek staff, “Culture Club,” Newsweek, July 10, 1994, http://www.newsweek.com/culture-club-189982 (accessed Oct. 27, 2016). This public-sourced case was prepared by Kayla Cartwright (MBA ’16); and Yiorgos Allayannis, Professor of Business Administration and Associate Dean for Global MBA for Executives. The assistance of Daniel Gavino is greatly appreciated. It was written as a basis for class discussion rather than to illustrate effective or ineffective handling of an administrative situation. Copyright © 2016 by the University of Virginia Darden School Foundation, Charlottesville, VA. All rights reserved. To order copies, send an e-mail to sales@dardenbusinesspublishing.com. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of the Darden School Foundation. Our goal is to publish materials of the highest quality, so please submit any errata to editorial@dardenbusinesspublishing.com. This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 2 UV7225 The Fintech Landscape In the aforementioned Newsweek quote, Bill Gates forecasted the convergence of technology and the financial-services industry in 1994.2 Over 20 years later, fintech had become an industry segment of its own, garnering global funding of more than $11.2 billion for fintech start-ups in the first three quarters of 2015.3 Despite becoming a more common term, the definition of fintech was still nebulous. A few sources, however, began to paint a more vivid picture:  “As a definition, Fintech is usually applied to the segment of the technology start-up scene that is disrupting sectors such as mobile payments, money transfers, loans, fundraising and even asset management.”4  “The answer seems obvious at first: technology that relates to conducting financial services activities, with the end client/user being a financial institution. But after many, many meetings, I’ve realized that the currently held definition of fintech is not only stale, but also unrepresentative of the opportunity in this industry.”5  “It’s time for a new definition of fintech: technology that serves the clients of financial institutions, covering not only the back and middle offices but also the coveted front office that for so long has been human-driven.”6  “Use of technology in finance is not new, nor are many of the products and services that are offered by new entrants to the sector. Rather, it is the novel application of technology and its speed of evolution that make the current wave of innovation unlike any we have seen before in financial services.”7  “Fintechs have two unique selling points: better use of data and frictionless customer experience.”8 This amalgam of definitions showed that the horizon of fintech was indeed foggy, though it tended to be much easier to say what fintech was than what fintech was not. Take the breadth of organizations that occupied the fintech space. Figure 1 shows the wide distribution of fintech companies across markets and service offerings. In addition, Exhibit 1, a sample list of fintech companies, could span tens of pages if all-encompassing given the rise of new start-ups. http://www.newsweek.com/culture-club-189982. Steve Davies, Manoj Kashyap, and Joerg Ruetschi, “Meeting the Fintech Challenge,” strategy + business, April 18, 2016, http://www.strategybusiness.com/article/Meeting-the-Fintech-Challenge?gko=bd900 (accessed Oct. 27, 2016). 4 Jens Munch, “What is Fintech and Why Does it Matter to All Entrepreneurs,” Hot Topics: Tech Stories, https://www.hottopics.ht/stories/finance/what-is-fintech-and-why-it-matters/ (accessed Oct. 27, 2016). 5 Karl Antle, “The New Definition of Fintech,” ValueStream, September 30, 2013, http://www.valuestreamlabs.com/blog/2013/the-new-definitionof-fintech (accessed Oct. 27, 2016). 6 http://www.valuestreamlabs.com/blog/2013/the-new-definition-of-fintech. 7 World Economic Forum, prepared in collaboration with Oliver Wyman, “The Role of Financial Services in Society,” April 2016, http://www3.weforum.org/docs/WEF_FS_RoleFinancialServicesSociety_Stability_Tech_Recommendations_2016.pdf (accessed Oct. 27, 2016). 8 Maria Aspan, “Why Fintech is One of the Most Promising Industries of 2015,” Inc., September 2015, http://www.inc.com/magazine/201509/mariaaspan/2015-inc5000-fintech-finally-lifts-off.html (accessed Oct. 27, 2016). 2 3 This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 3 UV7225 Figure 1. Percent of fintech companies by product and customer segments. Overall Insurance Capital Markets Lending Savings and Investments Payments 0% 10% 20% IB/Markets 30% 40% Corporate 50% 60% 70% 80% 90% Personal/SME Data source: Citi Global Perspectives Solutions, “Digital Disruption,” Citi, March https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D (accessed Nov. 1, 2016). 2016, A December 2015 Forbes article spoke to the abundance of companies in the fintech domain: The number of fintech start-ups is difficult to pinpoint, but data sources and industry watchers estimate that Asia has approximately 2,500 fintech start-ups while the U.K. and the U.S. have a combined total of 4,000. Even these estimates are best guesses and underestimate the true count, since fintech startups that haven’t received funding are likely not to be documented in any database.9 The Evolution of Fintech It was not quite known when exactly fintech started. Some analysts said that the first fintech start-ups began in 2005,10 however, the New York Times reminded the public that PayPal, the first major fintech company, was founded in 1998, paving the way for others to disrupt the financial-services industry.11 Records from Mountain View, California, technology incubator Y Combinator indicated that the first significant wave of fintech innovation began in 2005, with the creation of the incubator’s first fintech company, TextPayMe, a service that enabled payments through SMS. TextPayMe was quickly acquired by Amazon in 2006, and the acquisition served as an early indicator of how the industry might evolve over time.12 Since 2005, with the exponential growth of mobile technology and the 2008 crash of the financial markets, the environment ripened for the emergence of fintech. One indicator illustrated the growth: between 2013 and 9 Falguni Desai, “The Fintech Boom and Bank Innovation,” Forbes, December 14, 2015, http://www.forbes.com/sites/falgunidesai/2015/12/14/the-fintech-revolution/#1fb09ef336da (accessed Oct. 27, 2016). 10 Ryne Landers, “How FinTech is Changing Business (and Bank Accounts),” Business.com, January 7, 2016, http://www.business.com/finance/how-fintech-is-changing-business-and-bank-accounts/ (accessed Oct. 27, 2016). 11 “Ranking the Top Fintech Companies,” New York Times, April 6, 2016, http://www.nytimes.com/interactive/2016/04/07/business/dealbook/The-Fintech-Power-Grab.html?_r=0 (accessed Oct. 27, 2016). 12 “Amazon/TextPayMe,” crunchbase.com, October 1, 2006, https://www.crunchbase.com/acquisition/6a387c3d81a66c7f7590f28ec3034fe6 (accessed Oct. 27, 2016). This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 4 UV7225 2015, the number of fintech start-ups emerging from Y Combinator doubled, and fintech became the trendiest idea in Silicon Valley.13 Maria Aspan, senior editor at Inc., set out to describe the conditions that allowed fintech to be the darling of the start-up world in 2015: Long seen as a highly technical, highly regulated industry dominated by giant banks that resist disruption—other than the occasional global meltdown—finance is now riding an entrepreneurial wave. Demand for upstarts’ services is strong, piqued by widespread frustration with big banks; supply is growing, fueled in part by financial types itching to do something other than toil inside those same megacorporations…And low interest rates have made capital, the raw material for many money-related startups, cheap and plentiful.14 In that same September issue of Inc., Pat Grady, a partner at Sequoia Capital, described the broader conditions that allowed fintech to flourish: The world is far more connected today than it was 15 or 20 years ago. The tools that are available— cheap storage, cheap computing, and wonderful analytics—have changed, the regulatory environment has changed, and people are way more comfortable managing their money and business online.15 The history made sense, and naturally the next question was “Where were we in this cycle?” Rob Frohwein, of the online lending platform Kabbage, stated, “We’re just at the beginning of this renaissance in alternative lending—and I look forward to the day it’s not called alternative.”16 On the other hand, Ryne Landers, of digital marketing agency Reap Marketing, suggested that fintech was beyond its infancy and that companies would come to maturity in 2020.17 Given the actual growth rate of the market for fintech, the aforementioned suggestion of maturity seemed to be a more pessimistic outlook than many analysts suggested. An article by analysts from PricewaterhouseCoopers (PwC) stated that “global funding of fintech start-ups in the first three quarters of 2015 reached $11.2 billion, nearly double the funding of the full year before, according to CB Insights.”18 Goldman Sachs also offered an optimistic view of market cap growth: “Goldman Sachs estimates that upstarts could steal up to $4.7 trillion in annual revenue, and $470 billion in profit, from established financial services companies.”19 The room for growth was there, as noted in Inc.’s coverage of the changing world of fintech:  Even a fraction of a point of market share represents significant business, so investors are eager to back new entrants. Or to get in themselves: Goldman has embraced fintech and is launching its own online lending operation.  Venture capitalists invested $23.5 billion globally in fintech in the past two years, according to estimates by Santander, Oliver Wyman, and Anthemis Group.  The financial-services “industry is currently the second-biggest target for disruption, after health care, according to a survey of this year’s Inc. 500 CEOs”20 Citigroup, Inc., (Citi) also put itself at the optimistic forefront of fintech, and believed that the industry was still in its infancy. Its March 2016 Global Perspective & Solutions report on Digital Disruption showed that, when 13 Jim Bruene, “The 85 Fintech Graduates of Y Combinator (YC): 2005 to 2016,” Finovate (blog), April 18, 2016, http://finovate.com/51295-2/ (accessed Oct. 27, 2016). 14 http://www.inc.com/magazine/201509/maria-aspan/2015-inc5000-fintech-finally-lifts-off.html. 15 http://www.inc.com/magazine/201509/maria-aspan/2015-inc5000-fintech-finally-lifts-off.html. 16 http://www.inc.com/magazine/201509/maria-aspan/2015-inc5000-fintech-finally-lifts-off.html. 17 http://www.business.com/finance/how-fintech-is-changing-business-and-bank-accounts/. 18 http://www.strategy-business.com/article/Meeting-the-Fintech-Challenge?gko=bd900. 19 http://www.inc.com/magazine/201509/maria-aspan/2015-inc5000-fintech-finally-lifts-off.html. 20 http://www.inc.com/magazine/201509/maria-aspan/2015-inc5000-fintech-finally-lifts-off.html. This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 5 UV7225 measured by transaction value, P2P transfers (i.e., transferring money from one person to another) dominate mobile money usage and that when measured by volume, airtime top-up (i.e., purchasing prepaid mobile phone airtime) dominates mobile money usage (Figures 2 and 3). These were relatively basic transactions, suggesting that mobile money’s potential had yet to be fully tapped.21 3% AIRTIME TOP‐UP 1% Figure 2. Global mobile money product mix by value, 2014. 3% REMITTANCE 8% MERCHANT PAYMENT 12% BULK DISBURSEMENT 73% BILL PAYMENT P2P TRANSFER Data source: https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D. Figure 3. Global mobile money product mix by volume, 2014. Remittance 0% Merchant Payment 2% Bulk Disbursement 2% Bill Payment 9% P2P Transfer 25% Airtime Top‐Up 62% 0% 10% 20% 30% 40% 50% 60% 70% Data source: https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D. Citi, like Goldman Sachs, also believed that the current wave of fintech was just the tip of the iceberg, and that by 2023, 17% of U.S. consumer bank revenues could be based on fintech and digital business models.22 Figure 4 shows the breakdown over time. 21 22 https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D. https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D. This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 6 UV7225 Figure 4. North American consumer bank case study on potential market disruption as percentage of the total market value. 2016 Total Digital Disruption Total Market Value 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 50% 60% 70% 80% 90% 100% 50% 60% 70% 80% 90% 100% 2020 Total Digital Disruption Total Market Value 0% 10% 20% 30% 40% 2023 Total Digital Disruption Total Market Value 0% 10% 20% 30% 40% Data source: https://ir.citi.com/D%2F5GCKN6uoSvhbvCmUDS05SYsRaDvAykPjb5subGr7f1JMe8w2oX1bqpFm6RdjSRSpGzSaXhyXY%3D. Data suggested a positive outlook for the growth of fintech. This opened the door to another question— who would capture this growth? Fintech start-ups, evolving technology companies, or adaptive incumbent financial institutions? Who Will Win the Battle? Though there was much room for growth, one wondered who would emerge as the winner and take the biggest piece of the pie—fintech start-ups that remained autonomous, massive technology companies that acquired or built their own fintech services (as suggested by Bill Gates in 1994), or large financial institutions that overhauled their IT infrastructure and created or acquired fintech products and companies. Given the rapid This document is authorized for use only by MANYUN BI in FIN 4438 Bank Management taught by Shen Zhang, Troy University from Feb 2021 to Aug 2021. For the exclusive use of M. BI, 2021. Page 7 UV7225 growth since 2014, fear seemed to be rising, though panic from at least the big U.S. banks was probably not as justified as one would think, given a miniscule 0.7% penetration rate of fintech in the U.S. financial-services market.23 However, there were three areas that banks might begin to feel fintech’s impact: loss of data from payment transactions, loss of customer depth, and fee revenue reductions.24 One of the key ways banks developed new products and services was by using data generated from payments and other primary transactions. The proliferation of payment-based fintech companies (see Exhibit 1), resulted in data loss that made an immediate impact on banking operations. Reuters cited Richard Eldridge, CEO of Lenddo, a fintech company “which provides credit scores using non-traditional data in the developing world.” Eldridge described, “a few years ago big banks were ‘stand-offish’ about fintech. Now they are embracing it to serve more people and the industry is experiencing ‘exciting times.’”25 Would banks be put out of business, or would they evolve into fintech companies? For example, would robo-advising (automated computer algorithm–based investing advising), which grew significantly over the last decade, overtake the investment-management space? Citi argued that robo-advisors would not replace personal relationship–based advisors for private wealth clients; robo-advisers would be better employed for new or smaller-asset investors who wanted diversification and nearly automatic rebalancing of portfolios.26 PwC identified three trends of responses from traditional institutions: The first group has adopted a wait-and-see approach, conserving resources until clear technology winners emerge. These firms risk being caught unprepared when the threat to their business becomes more imminent. The second group has acquired fintech firms to gain access to new technologies. But they have often had trouble with integration. The third group includes companies investing significant time and money in fixing their own existing IT landscape, which is typically fragmented and complicated by legacy systems that are hard to maintain, upgrade, and improve.27 Incumbent banks had three advantages as they pursued the second and third options—they knew the space deeply, had access to large amounts of data, and possessed sizeable capital. PwC described how several financial institutions were c …
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