In the not-too-distant future, I believe nearly every company will derive a significant portion of its revenue from financial services. In this post, I’ll delve into the infrastructure that’s enabling this transformation and, more importantly, how that’s going to fundamentally change banking as we know it. Every company, even those that have nothing to do with financial services, will have the opportunity to benefit from fintech for the first time.
Startups will be able to launch companies faster and more cheaply. Existing financial services institutions will be able to introduce new products quickly—and spend less on IT maintenance. And most importantly, this means more choices, better products, and lower prices for consumers.
First, let’s take a brief look at the state of the banking industry today. A survey by the World Economic Forum found that just 28 percent of the millennial and Gen Z generations trust their banks to be fair and honest. That is a far cry from providing delightful products.
Meanwhile, the more than 50 percent of Americans who live paycheck to paycheck often experience an entirely different financial services system. Though they’re likely to need financial services more, they have fewer options, and those offerings are much more expensive. Collectively, the majority of us definitely don’t love our banks.
Why has the status quo persisted for so long, despite extreme levels of customer dissatisfaction? While innovation in any industry is hard, innovation in financial services is particularly difficult. Many of these existing institutions have been around for more than 100 years and have a large brick and mortar retail footprint. As a result, it’s hard to cut costs and roll out new products quickly—think about the many long-term leases and thousands of employees that need to be trained across the country.
While many of these institutions may have billion-dollar-plus IT budgets, at some of the larger banks, 75 percent of those dollars is spent solely on maintaining existing products. This is a highly regulated industry, with multiple regulators across state and federal. It has a very complex infrastructure. So while this is a big opportunity for startups, there are huge challenges, too.
Given all of these challenges, why am I so optimistic about the future? There’s a parallel here: It used to be really hard to start a software company. Ten to 15 years ago, your first step would be driving to a computer store. You’d buy physical servers, maybe load them into the back of a borrowed truck, then drive them back to your office and rack them in a server room. You’d buy some software licenses, write some code for a database, and hundreds of thousands of dollars—if not millions—later, you could finally start building the product that you wanted to bring to market.
If this sounds totally anachronistic, that’s because it is. Today, anybody can start a software company with a credit card and a laptop. Why? Amazon Web Services brought all of this infrastructure as a service. AWS dramatically reduced cost and complexity and unleashed thousands of experiments.
Think of a company like Airbnb. Imagine if the founders had had to go to investors and convince them to give the company millions of dollars just to build the infrastructure to prove that yes, there’s a massive market where we all want to stay in strangers’ homes. It might have turned out differently.
The “Amazon Web Services” Era for Financial Services
This same monumental change—infrastructure “as a service”—is coming to financial services. And it’s not just one company, it’s multiple companies, because financial services infrastructure is so complex. This transformation will reduce the cost and complexity to become a financial services company, and importantly, it will unleash thousands of experiments that will pave the way for the future of banking.
We would expect this innovation to come from startups and existing financial services institutions. But a large percentage of it will come from existing companies that are adding financial services for the very first time. It’s already happening: Apple just launched a credit card.
Now, this may have been a highly anticipated move in fintech circles, but not that long ago Apple was just your computer company. Now it’s hoping you’re going to like its credit card as much as you like your iPhone. It could be easy to dismiss Apple because it’s a company that’s both flush with cash and known for launching new products. But this trend is happening more broadly.
Take Uber and Lyft. These are ride-sharing companies, right? If you’re a driver, they might also be your bank. For Uber and Lyft, adding financial services has two benefits. The companies both spend hundreds of dollars acquiring drivers. Then they have to make up that cost through margin on rides. It’s much faster to make up that cost if they also have margin on banking services. Furthermore, if I’m a driver, I’m more likely to stay with a company that is also providing my financial services. Ultimately, if successful, Uber and Lyft might need to acquire fewer drivers, due to better retention.
This is not just a consumer phenomenon. It’s also happening in B2B. Take Shopify, for example, which provides website services for any merchant for a monthly subscription fee. Or Mindbody, a company that helps fitness studios like yoga studios manage their businesses, also for a monthly fee. Turns out both of these companies make nearly 50 percent of their revenue through financial services.
So, why is this fintech explosion happening now? The “as a service” infrastructure is coming to banking. To understand why this is such a big deal, we need to look at how complex the banking stack is today.
Ever wondered what it takes to start a bank? Here’s a simplified version of what it looks like on the consumer side. In this highly regulated industry, first you need to apply for a license, which could take years. Instead, most of the new companies are finding a sponsor bank (effectively borrowing a license). But that’s just your first required partnership.
Then you need a core system (analogous to a large database) that logs where your customers’ money is and how it is moving around. You need to integrate with a series of payment systems so customers can take money out of their accounts. To make loans, you would need to know information about your customers via the credit bureaus. There are multiple regulatory agencies that you need to comply with, likely driving more partnerships for KYC (know your customer) and AML (anti money laundering). And because we’re dealing with money, you need to guard against fraud, which requires more software. So now we’re looking at over a dozen partnerships. Even after the two years it typically takes to ink those deals, you still haven’t built the new product that you wanted to bring to market!
But what if, similar to what Amazon did to compute and storage, companies focused on each layer of this complex stack and provided that step as a service? That’s exactly what’s happening.
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