by Mike Storiale, adjunct professor, Rabb School of Continuing Studies, Brandeis University
When financial technology began its ascent, single-solution providers like Simple and Lending Club opened the door to expertise and simplicity rarely brought to the table by traditional banks. Solutions designed to meet unique needs created excitement from consumers and investors alike.
Throughout the industry, experts discussed the need for banks and fintech providers to offer an open architecture that would empower customers to build a set of financial solutions that worked best for them. As the industry matured, however, it became apparent that a more rudimentary problem was holding fintech back – a balanced business model.
Over the past 25 years, we’ve witnessed the rise and fall of innovative companies that created a single solution with little diversification. The dot-com crash in the early 2000’s was full of well-intentioned problem-solvers who built great organizations, but lacked the contingency plan a balanced product offering affords. They were flying high without a net.
Customers are finicky
The mono-solution business model that most fintech companies chose excited customers who could relate those products to specific problems they felt their banks were not solving. When early entrants offered a better way to send money and alternative lending options, as well as simpler checking accounts, they seemed attractive in an industry that traditionally ignored outcries from its customers for better products.
Moreover, customers had often been plagued with the decision fatigue that came with traditional banks’ offerings –multiple variations of each product– few of which fit anyone perfectly.
But while consumers were willing to try new products that fintech startups brought to the table, they remained reluctant to leave the mainstream banking system for a new financial lifestyle. For banks, this gave them the opportunity to win customers back as they developed complementary products to compete with the innovators creeping in on their space.
Even though research showed that few consumers ever felt “warm” with their bank, often ranking them just slightly less hated than airlines and cable companies, it was difficult to leave the one-stop-shop that was completely intertwined with their everyday lives. Though cobbling your perfect financial offering together sounds utopian, for most consumers it was simply more work than they were willing to take on.
A risky model
While the boon of the early years may make some think otherwise, fintech is not immune to typical business risks. One of the core rules of business is to diversify your product offering to protect yourself. However, when we begin new technology ventures, we often believe that we will be able to succeed on a single solution. Fintech’s rise began during a time filled with historically low interest rates, massive changes in regulation, and a consumer base willing to try new things.
While this opened the door for success, it also meant that it mattered less if a startup’s balance sheet was diversified enough to withstand market fluctuations, because fluctuations simply weren’t happening. Solutions that focused on lending to consumers outside of the traditional market didn’t have to experience the risks of a volatile rate environment. As the inevitable becomes reality, however, speculation circulates as to whether an unbalanced offering can withstand the storms the financial industry often faces.
In addition to market risks, the gap is narrowing in the “tortoise and the hare” race between fintech startups and Bank’s. Even the smallest banks have begun investing money into innovation, while the ones with significant capital have started entire technology hubs and enacted strategies to acquire their biggest tech challengers.
Although big banks continue to face regulatory scrutiny of their core business model, they have evolved and learned how to innovate, catching up in the race to grab customers with products that differentiate themselves. At the same time, fintech companies are finding it difficult to maintain the minimal regulatory oversight that enabled the rapid growth seen in the early years of innovation.
Last month, SoFi filed the paperwork to obtain an industrial bank charter, opening the door for the online lender to offer the same core banking services as its mega-bank counterparts. SoFi’s bold step is not the approach taken by all fintech companies, but many continue to look for partnerships with more full-service financial companies to ensure revenues continue to flow, even if their core business falls out of favor.
The tipping point
The outlook for the next five years in fintech growth may closely trend with the growth in new bank charters. While de novo bank growth stalled after 2008, the up-tick in 2015 and 2016 highlights startups that believe they can become successful hybrid organizations; part bank, part fintech.
Still, taking the hybrid path isn’t without its own challenges. Stringent capital requirements, intense regulatory oversight, and the difficulty of growing a balanced product mix can make it unattractive for entrepreneurs and investors alike.
Mono-solution providers should evaluate the future of their revenue stream to determine if diversification can help mitigate their risks in a changing market. If they are able to take their innovation into new, multi-service arenas, we can expect to see unprecedented growth in the industry.
Mike Storiale is an Adjunct Professor at Brandeis University’s Rabb School of Continuing Studies where he teaches a graduate course on the global economy and the emergence of fintech.