It’s time to slow down a bit for neo banks which have seen phenomenal growth in the last few years.
Funding activity to the sector has dropped around two-thirds in 2020 over the sharp jump in 2019.
Total funding to the sector stood at $32.2 million over seven deals against $109.4 million raised through 13 deals in 2019, according to a report. In 2018, $31.9 million was raised across nine deals.
This year, there have been seven deals so far raising $22.2 million.
Around 16 new neo banks or digital banks were launched in 2019, 10 in 2020.
The Open deal
However, several large deals are in the pipeline. Amazon, Google and card network major Visa are separately eyeing a stake in neo-banking startup Open, which is looking to raise a new round of funding of about $100-$120 million, two people aware of the matter said. If successful, Open’s valuation is likely to jump three times to around $600-700 million post the funding round. Even as negotiations with the global technology majors like Amazon and Google are underway, Open is also in talks with a leading sovereign wealth fund as well as private equity firm TPG as they look to participate in the funding round that could be oversubscribed. What is a neo bank?
Neo banks are 100% digital in nature. They operate entirely online without any physical branch. Neo Banks offer multiple financial services from money transfer to opening a bank account. Neo banks partner with the traditional banks and help them acquire customers in the most seamless manner.
ICICI Bank, India’s largest private bank has taken a lead in the Neo Banks segment and has partnered with three Neo Banks, Open, Instant Pay and Yelo.
Neo banks in India
In India lack of regulations have somewhat hindered the growth of this sector as banking regulator RBI does not recognise these companies as a separate class of banking intermediaries yet. Hence, neo-banks in India are loosely defined and don’t follow any standard regulatory code. Rather, the regulations follow the nature of partnerships they form with licensed lenders. However, a fully functional neo-bank may need approvals to be a business correspondent, a payment aggregator and require a formal agreement with a regulated bank detailing ethical lending practices.
Novo, a preferred business banking partner for SMEs, start-ups and freelancers, has raised $40.7 million (₹302 crore) in a Series A round of funding, making it the highest Series A funding for neobanks.
The independent tech company that enables small businesses to open accounts in minutes without a minimum balance requirement has raised the capital from Valar Ventures along with Crosslink Capital, Rainfall Ventures, Red Sea Ventures and BoxGroup.
Founded in 2016 by Tyler McIntyre and Michael Rangel, Novo has a client base of over one lakh SME customers. A neobank is a bank that is 100 per cent digital and does not operate physical branches.
Commenting on the funding, Michael Rangel, Co-Founder & CEO, Novo, said in a statement, “Novo has witnessed deeper investor interest in recent times, especially owing to the pandemic enhancing the role of virtual support ecosystem. India, being one of the fastest growing economies, is a vital market for us. Novo is focussed on creating jobs in India in support operations and building advanced technology, enabled by our funding partners. Presently, Novo has a strength of over 50 employees in India and plans to triple it to 150 by this financial year (FY22).”
Ajar Upadhyay, Director of Operations – India, Novo, said, “At Novo, we have support operations in India across Gurgaon, Ahmedabad and Bengaluru. The funding will be utilised to expand operations, banking, product and, most importantly, engineering verticals and enhance hiring across key and support roles in India.”
Prior to this Series A round, Novo had raised $6.7 million in its seed Round from Crosslink Capital, Red Sea Ventures, Hack VC, RRE, Rainfall, and the Stanford Law School Venture Fund.
Novo brings banking services to the largely underserved communities of freelancers, start-up founders, and small business owners.
At no hidden charges, Novo allows its clients to open business checking accounts in an enviable span of minutes and assures them of safe and secure transactions. The funding will enhance Novo’s platforms and services to provide a compelling banking experience to its clients.
The Indian Financial landscape being vastly different from the developed economies, has resulted in a modest pace of newer technologies absorption. The hurdles were multi-fold i.e. sheer size & scale of market, unique risk and compliance, distinctive consumer behaviour and regulatory challenges, to name a few. Pandemic disruptions came with a silver lining – fast tracking the way forward for tech absorption and digital banking. Covid-19 served as a veritable catalyst, and customers as well as banks began to rapidly embrace digitization, there was no option. Consequently, digital transactions in India surged 30% last year.
According to a KPMG report, Fintech investments in India were $3.5 billion in 2019. Despite the recent ravages, we attracted a whopping $2.7 billion in 2020. More so, RBI governor has already referred to the ready emergence of digital banks in India.
Since there is an unrelenting tailwind for a ‘digital future’ of the banking ecosystem, it is appropriate to peek into the world of Neo Banks.
What are Neobanks?
Neobanks are new age digital banking entities that operate 100% digitally without the traditional brick and mortar branch network. Currently in the nascent stages, Neobanks are growing consistently and have already started to carve a definitive path of their own. The RBI Governor says, a segment of banking entities in future would comprise digital players acting as service providers directly to customers or through banks as their agents or associates.
Neobanks are not licensed RBI banks but they rely on their bank partners for offering bank licensed services. In India, Neobanks will broadly work in two distinct categories: One, working directly as service providers. Example – RazorpayX, Instant Pay & Open. Two, working as online entities of already established banks, for instance SBI YONO & KOTAK’s 811.
Unlike traditional banks which offer a full range of financial products, and leverage their branch network to engage with and to build the trust of customers, Neobanks use new age technologies such as Cloud, Data Analytics to target select customer segments. The focus is on cost reduction and on crunching timelines of customer acquisition: offering seamless and paperless operations, customised products & services, solving for the challenges associated with traditional banking, thus ensuring a unique customer experience. They are more agile and target niche segments such as millennials, SMEs, low salaried, which may not be the main focus of traditional banks.
What do Neobanks offer
Employing new age digital technology i.e. Cloud based storage, Artificial intelligence, Machine Learning and open APIs, Banks, NBFCs & Fintech players are able to offer:
Banking as a Service (BAAS) Data driven approach for decisioning Customised products Bespoke customer experience Open APIs Cyber Security as well as protection against Cyber Crime Swifter turnaround
Banking as a Service (BaaS):
BaaS is an end-to-end encryption model that allows digital banks and third parties to connect via open Application Programming Interfaces (APIs) with banking systems and offer secure open banking solutions for customers. API is an intermediary (software) that allows communication between two applications.
With the help of these APIs, banking services of mainline banks can be used by diverse stakeholders such as Fintech companies, web developers and even non financial businesses. These third parties put up a layer on the top of existing banking services and offer innovative solutions. In other words:
Fintech company (neobank) pays to mainline banks to use BaaS
Bank which is a BaaS platform opens up its APIs to this third party
Fintech company integrates APIs and offer innovative financial services
Thus, a Neobank can bring on board unlimited on-the-click innovations and offers for quicker & smarter decisioning.
Holistic Customer Experience: New age digital banks employ AI and ML to provide more personalized recommendations, offers and products, thereby ensuring a pleasurable & unique customer experience. The decisioning is data-driven. The platform creates cohorts of customers based on their behaviour on the platform and offer unique solutions. They do not rely on one or two data points only.
Practical insights: Customers can access online dashboards to get insights on account & services. For example, your bank’s app could offer a Spend Analyser, a customised app that shares Saving & Investment tips basis your monthly inflows & outflows from the account. The recommendations are customised and personalised uniquely for your profile.
24X7, mobile experience: The services can be accessed round the clock as per customer preferences.
BaaS can strengthen the core of legacy banks
In the normal course of business, large Indian banks (like any gigantic organisation) are too large to bring about a swift change in their operations and procedures. Besides the years of experience in customer segmentation and nurturing long-term relationships with clients, traditional banks own huge data of merchants as well as end-customers. By offering open APIs and BaaS banks can partner with several stakeholders (Fintech as well as non financial partners) and drastically expand their basket of products & services beyond banking & lending and that too, across locations. Besides deposit accounts and lending products, neobanking will also be powered to offer innovative services for payroll management, payment gateway, invoicing, taxation, budgeting, cash management & much more.
It may not be profitable for a bank to set up brick & mortar branches in remote villages. However neobanking can offer a complete range of services in far-flung locations. As neobanks employ open APIs and Baas, they have 100% digital solutions. They can offer customised and affordable Saving, Investing and Credit solutions to the unbanked customers in the smallest of villages. A huge boost for financial inclusion.
Flash in the pan or next big thing?
Globally, neobanking is fast disrupting the Fintech landscape, and is expected to raise an estimated $400 bn by 2026. India too is getting its fair share of investments in this sector.
Also, India has currently the highest Fintech adoption rate and annual return on investment in the Fintech start-ups. In the long run, however, the success will largely depend on the level of customer awareness, cyber security, protection from cyber crime, API integration and customer ease & seamless experience.
Looking ahead, a hybrid approach involving both digital and traditional banking is the sweet spot for India, and that indeed is in the best interests of consumer services and financial inclusion.
The blog has been authored by Raj Khaosla, Founder and MD, MyMoneyMantra.com
DISCLAIMER: The views expressed are solely of the author and ETBFSI.com does not necessarily subscribe to it. ETBFSI.com shall not be responsible for any damage caused to any person/organisation directly or indirectly.
Prashant Kumar, MD & CEO, YES Bank said that the “holy grail” of the financial sector was to currently make every customer engagement simple and straight-forward. Speaking at the ETCIO BFSI Conclave as the Keynote Speaker for the theme “Frictionless Future of BFSI”, Kumar spoke at length on the importance of the frictionless world for the BFSI sector, banks scaling out on the frictionless world and the digital strategy YES Bank was pursuing in partnership with FinTechs.
“Digital identity has largely replaced phygital activities in today’s world” “Over the last decade and a half, when RBI introduced electronic payment mechanisms like RTGS and NEFT, the overall paradigm of extending services to customers changed. Internet banking came into the fore and eventually that is making way for API led transaction processes. The thinking has evolved and is being now likened to customer experience as well,” said Kumar, adding “Making every engagement with the customer as simple and straightforward is the current holy grail for the financial sector. Investment of new technologies and challenges, the digital identity has largely replaced phygital activities in today’s world specifically in financial services delivery.”
The MD & CEO of YES Bank, who was appointed to the top chair in March 2020, recalled “Being in the banking industry for so long, I have seen how the evolution of technology is facilitating in new ways to provide customers a frictionless experience, which I believe will become universal in future,” whilst noting “Mobile banking apps that provide quick access to glanceable information and allow the user to make transfers in a secure manner, biometric data used for authentication, location data from smartphones that can be used to ascertain that the user is identifiable at home or at the office, validations can be built accordingly around it, and some institutions have even started using facial recognition software for authentication.”
“Entry of agile, digital savvy disruptive brands in the market” Prashant Kumar also noted that the aforesaid developments had led to a scenario of the customer spending lesser time to consumer the same services, with the motto of being quick, clean and precise. “These digital technologies all deliver an easier and simple experience, exploiting ubiquitous customer technology such as smartphones whilst eliminating the need for cumbersome peripherals like card readers. Using technology to provide a frictionless technology in this way will become key for financial institutions to differentiate themselves from the competition now and in the future,” said the MD & CEO of YES Bank, adding “More agile, digital saavy disruptive brands are rapidly entering the market and are using technologies to deliver frictionless experience. What was considering novel a few years ago is commonplace, and anything less deteriorates [the experience].”
“Creating a frictionless experience should not come at the cost of security and compliance” Speaking on the new and established FinTechs and Neobanks, Prashant Kumar acknowledged that whilst Banks had a lot to learn from new players, it would not be at the compromise of security and compliance. Amplifying his thought further, Kumar noted “Some things that provide a smooth experience for the customer could throw up compliance challenges for the institutions. We can consider some examples such as biometrics and location data on customers which allow the institution to provide the user with a hasslefree experience,” The MD & CEO however added that in tandem with technology being more prevalent, data security and privacy would eventually become subject of increased attention and regulation.
Goal to become digital aggregator of India “We at YES Bank see this expansion of connectivity as an opportunity to dramatically improve the client experience – this means extending the reach of banking solutions beyond the banks own channels and technologies. Incorporating them in day to day management functions, in this way the friction between corporates and banks are reduced, making impossible to tell where the bank ends and accounts operations begin,” said Kumar, adding “Already today, APIs are used retrieve account balances in real time, processing transactions at high speeds round the clock, provide enhanced information for reconciliation in real time and validating transactions under pre-set rules as in the case of cross border transactions, process vendor and dealer finance transactions, real time thereby facilitating faster churn in ecosystem.”
Elaborating further, Prashant Kumar said “Such innovations are making it possible to conduct transactions instantaneously, improving liquidity decision making and allow treasury to better support overall business strategies and objectives. For example, the use of APIs is allowing clients to initiate payments directly from ERPs, eliminating the need to log into a banking port. APIs are also enabling clients to access bank account information in real time, through their own system, saving time and effort.”
The MD & CEO of YES Bank echoed “In short, routine tasks will either become automated or made far easier to execute. As a result, the overall client experience will be greatly enhanced. Infact, the innovations on the API front at YES Bank has really helped catalyse an entire new banking industry in the country which is now able to offer these services, riding on the last mile APIs that banks provide them.”
Outlining the goals of YES Bank in the future, Prashant Kumar said “Our goal at YES Bank is to become the digital aggregator of India. A platform approach is the key to this strategy, the means to which a client can access YES Bank. API’s, internet banking, mobile banking, and connected banking are those components that would constitute the omnichannel platforms that we aspire to build and nurture,” noting “In order to support the facets, we are also augmenting internal systems but linking all our legacy systems through APIs.”
Q. How do you view the digital transformation journey of banks in India? Neal: If you see most digital transformations around the world, probably 99.99% of them won’t deliver on their promise, I’m not being contentious, it’s just that I have been long in this industry to see not a single software project being on time and on budget feature and that’s just the reality.
Digital transformation is not about software, 99.99% of it might not fail but might not live up to the expectation or the promises delivered by the consultancies who work in this space.
In many companies and banks over the years great IT capabilities have been built and CTO wanted to transform the architecture to make it more agile and open but got delayed due to budgets or prioritizing new products so it gets delayed and delayed and pushed back in creating agile architecture. The same story is with data, banks are brilliant in collecting data and lucky around data monetization. But historically, they’re bad at data and arrived towards the data monetization party too late. We’ve seen wonderful things with Big Techs and E-commerce giants partying on this free data they’ve got and how they’ve monetized.
Banks, by the time they realized and turned up for the party of data monetization, the police (referring to data privacy issues and scandals happened in the past) arrived and everyone is fearful and positioned as “we take care of your data”. While data is safe in banks but it’s lying and lost in disparate systems and nobody knows who owns the data. Banks should use and move the data within the systems and within the regulatory ambit to enrich the life of consumers and then the whole cycle of budget for the exercise repeats and the transformation exercises takes a back seat.
The biggest challenge with digital transformation is not the technology but the culture and people. Having worked across different organizations and industries, I know what good tech culture feels like. I never wanted to work with a bank, because I had been selling to banks for 20 odd years and I know the culture, the big difference between a tech company and a bank is the approach. Bank’s think from an ownership mindset over systems and its people but tech company’s entire model is partnerships. The second thing I noticed is banks are very hierarchical, micro-management, process based roles and I have never seen in any other organizations.
Thirdly, it’s around risk appetite. Banks are very funny, almost schizophrenic because their entire business model is monetizing risk but are skeptical of taking risks due to regulatory or compliance issues or culture. Capital Markets strive on risk, banks’ business is around pricing risk and Insurance companies model is avoiding risk, if you look at these three level it directly correlates to their innovation capabilities.
Banks need to experiment a lot, while it’s a regulated environment but it can start at small things, rigid processes won’t take it anywhere. Technology, Data & Culture is what will drive digital transformation and by the time banks realise it’s too late.
Digital Transformation should start at “Why are we doing this?” “What outcome do we want?” You don’t have to boil the ocean, just fix the bits and pieces which are going to make money. You don’t have to digitise everything, just digitise which is going to make money.
Do simple cultural transformation, you don’t need to get rid of your staff or hire Google employees. Get people the inspiration to try new things and give them the freedom to enjoy their work life.
On the Indian Banks: Banks in India are huge banks with huge staff bases, you can forgive them as compared to the banks in the West, because in India the smartphone churn came later but banks in western didn’t catch-up with the digital transformation even when they got smartphones quiet before India. The population in India is catching up quickly and banks in India have done a fairly good job.
I wouldn’t put India as the most innovative finance market from the bank perspective on what we are doing! I won’t put it in tier 1 innovation, but overall the ecosystem is doing well.
But I would put India on number one around putting up the national infrastructure Aadhar platform and UPI, etc. Regulators, FinTech & e-commerce have been doing a good job.
Q. How do you view Bank-FinTech collaborations? Neal: FinTechs started with competing banks but then eventually realised it’s too hard to go alone and in most of the cases customer acquisition cost and regulatory compliance is too high. Banks have distribution and FinTechs have tech and speed.
In any megatrend if you see, for e.g. e-commerce, The race between Amazon and Walmart, has merged in between from starting at extreme ends. That’s exactly what we are seeing between Banks and FinTechs. Banks are fintech-y and Fintechs are bank-y- more towards building hybrid models. (Neal explained this in a lighter tone)
FinTechs are agile, quick, focus on the client, think differently and don’t have historical roles and technology and quite a lot of it is not directly regulated. Banks are good at security, trust, products but slow, culture issues and expensive.
I know a lot of banks these days say they are FinTech companies that they magically transformed in such a short period of time but when I meet them they are “bankers”.
Questioning banks, Neal asks, do you want to be a bank or tech company? You’re not good at building softwares but as a bank you’re great at being resilient, safe, secured and reliant system and that’s the sweet spot for bank’s technology team and they’re really good at that and they should focus more on that and stuff which they own like digital banking platforms but if you want to do something new and interesting, in all fairness banks should partner with FinTechs and keep their capability with themselves.
That’s where the world is moving towards where you’ve many partners, for e.g. Neo-banking platforms in India. Banks should partner where it makes sense, usually around the UX, RegTech, SupTech, compliance. It takes an average 9-10 months to sell a technology solution to a bank, if you’re a small FinTech and you’ve got a small sales team, you’ve got to understand, is this going to be successful and qualify quickly, you’ve to understand why the bank is concerned if you don’t do pen testing. It’s changed quite a lot in recent times, banks do have a point. In fairness, banks don’t get hacked, I can’t recall any recent incident where someone hacked into and took all money, it doesn’t often happen because of bank’s control and FinTechs have to learn a lot in that.
Banks and FinTechs can build a nice symbiotic relationship and do things at which they’re good at.
Q. What are your views on neobanking entities? Neal: There are different models in this particular space, a bank rolling out a neobank like DigiBank by DBS Bank, even if it fails the bank can roll it back into its fold like how recently BBVA did it with Simple. The other model is building a digital bank from scratch like Standard Chartered did with Mox in Hong Kong, that’s quite an undertaking and there they’re looking at better operational metrics and it’s to be seen how it performs.
For banks doing this the DBS Bank way could be the right way to go which is a hybrid way essentially cutting your tech stack in half and keeping the backend stuff, put a bus or microservices layer and build net new code on top of that. All the front end stuff is new and over a period of time you can replace the stuff below as customers won’t know about it and at the same time bring changes in the culture.
At DigiBank, the bank staff were in a separate building, they had different reporting lines and slightly different roles but stationed more in an innovation lab kind of space.
The second model is getting a license from a regulator and building a bank from scratch like Xinja, Starling, etc. It’s a start-up; these things cost $50mn just for initial build for a full service bank. It’s funny how people tell me how successful these banks are and I’m like can you come back and tell me how successful they’re when they’ve lent some money or got some deposits. They’re essentially a prepaid card with a mobile application and that’s not a bank.
In fairness, I would not like to do that, it’s an expensive affair. The Xinja team was amazing but got blindsided by Covid-19, set high interest rates, the only way I have seen to succeed in a banking venture is to buy your clients, either buy them through free ATMs, free transactions, like In India, banks offer 7% deposit rates. Some way you’ve got to spend a lot of money to get people on your platform. These models kind of make money, Starling has turned profitable because they’ve a business model which works.
The third type are payment apps like Revolut, Monzo, etc. They do transactions, give flashy cards and everyone’s incredibly proud of their cards. We did one with Razer FinTech where if you tap a card the NFC is enough to light the Razer logo and these apps look to scale up on these transactions and hope they grow. Not all of them have been successful in terms of being profitable.
The fourth type, like neobanking platforms we’ve seen in India and in my mind that’s a brilliant play. You don’t need a license as you’re not storing the data. It goes directly to your partners core platform you’re managing the operations and I think that’s kind of great.
The final type which could be worrisome for traditional financial institutions is the neobanks created by e-commerce and tech companies giants because they’re good at technology and they’ve massive scale.
The top three banks according to me are WeBank (China), MYbank (China) and Kakao Bank (South Korea), because they’ve free distribution and tens of millions of clients, so the cost of customer acquisition is low and they’ve data for scoring.
I like the India model which is putting a wrapper on the bank and it’s a smashing idea. Building a digital bank from scratch is only for the brave but there’s money there as you’re doing the traditional bank model better. These ones like payment models we’re going to see lots of failures because the only way they work is by continuously pumping money.
India has taken the right path, some regulators have jumped on this too quickly in terms of Hong Kong and we might see how it will pan out. Singapore, it’s a tiny market but regulators are pushing as banks are refusing to innovate and taking it slow.
Essentially solving customer’s problems is the main idea, banks have been doing it the monolithic way and that’s what digital disruption is about. It’s not about technology, it’s about someone else solving your customer’s problem better than you and that’s digital disruption. Q. Any advice to the regulators? Neal: My advice to regulators is to read science fiction, what is playing out has already been defined, the future is defined. A lot of it is inevitable, regulators should read science fiction, understand tech megatrends because the way it rolls out affects how people operate in a society and how people will purchase products in future and they’ve a difficult job here.
Even if regulators have a team which thinks about future regulation based on future tech and societal trends you’ll be way ahead of the curve, things like blockchain, cloud-computing, we already have hands on it and we are still waiting for it.
While I did get blindsided by how crypto evolved but generally everything else is talked about and is inevitable. My guidance is around tech and societal trends, think about how regulations need to change in the future with fewer regulations.
The cost of regulatory burden for banks goes up and up every year and in fairness if you’re a regulator your job is to write regulation, if you don’t do that you don’t have a job while I do acknowledge Regulators do a fantastic job.
My point is, you keep adding layers on and on and if you write new stuff can’t you just take some other stuff away or simplify what you’ve done. Secondly, be clearer, it’s a challenge and you can’t be wrong as a regulator and they cannot be specific, and that leads to interpretation problems.
Regulators should use technology to enforce regulations, give out clarity and simplify things. In the last five years they’ve changed a lot and are doing a stellar job.