September 21, 2018

Garnet Capital – Strategies For Loan Growth: Simplifying the Fintech Partnership (Part 1 in a 4-Part Series)

Excerpt: 

Banks and fintechs are increasingly forming partnerships to drive business. The predominant forms of partnership are either joint ventures between banks and fintechs or a bank developing an in-house fintech operation. The track record of each, however, indicates that both partnership paradigms can be challenging. Banks may benefit more from innovative recent methods, such as lending to, or purchasing loans from, existing fintech consumer loan platforms.

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Banks and financial technology (fintech) companies once circled each other warily. Banks feared disruption to their business models and disregard of banking rules and regulations from upstarts whose mission and methods were primarily technology-based. Fintechs, at least initially, were disdainful of long-established banking practices and mostly devoted to the customer experience and speed of delivery rather than compliance to regs.

Banks increasingly partner with fintechs for mutual benefit.

Partnership Becomes Big Business

But the hesitance to work together is long gone. The new model for banks and fintechs is a partnership. Banks increasingly recognize that fintechs have made real contributions to banking — enhancing customers’ online experience and fostering the widespread adoption of mobile banking, for example. And behind the scenes, fintechs can streamline operations and facilitate smoother and quicker processes. Fintechs, for their part, have come to realize that banks’ expertise in their customer base, stable funding and knowledge of laws and regulation is an invaluable ingredient of success in the financial services industry.

As a result, partnerships between banks and fintechs are now big business. KMPG’s report Pulse of Fintech estimates that the fintech sector enjoyed nearly $58 billion worth of investment worldwide as of mid-2018. That’s not only an impressive figure in itself, it’s a hefty 52% above the full-year investment in 2017, which totaled $38.1 billion.

The big business is being fueled by the opportunity banks have to grow their revenues and profits with well-timed fintech partnerships. Cleveland’s KeyBank, for example, added HelloWallet, a digital purveyor of financial management tools, to its offerings in 2015. It proved successful in growing the client base, fueling a 32% rise in clients on the platform every day.

KeyBank was impressed enough to acquire HelloWallet outright this year, purchasing it from Morningstar.

Continual innovation in the form of partnership allows banks to optimize their participation in fintech.

How Best to Partner?

The KeyBank-HelloWallet alliance illustrates, though, a growing issue in the financial sector: what’s the best way for banks and fintechs to partner? So far, there are two primary methods of conjoining banks and fintechs: 1) banks partner with an existing fintech, or 2) banks develop a fintech operation in-house.

While both approaches have a track record of success, there are common friction points and solutions for both methods as well. 

When banks partner with an existing fintech firm, they can encounter problems with cultural fit and focus. Some fintech firms are technology-centric, and accustomed to rewarding IT or engineering solutions that don’t necessarily put the customer first — or, more importantly, lead to customer experiences that would grow revenue. Adjusting IT to a banking mindset might take time and effort.   Preparing a fintech to transact with a bank takes care and attention.

Some partnerships have also been derailed by challenges integrating banking back office and compliance operations with fintech operations.

Building a fintech operation in-house can have even more challenges, ranging from disparate cultures to unexpected delays in development. Creation of a fintech unit can run into roadblocks that cause actual cost and time expended to exceed initial estimates significantly. Ultimately, the time and cost required to develop a fintech arm from scratch can eat into profits.

Crucially, it can also delay a financial institution’s success at fintech, hampering revenues and profits and perhaps even putting the institution behind in a fast-moving fintech marketplace. Developing a fintech operation in-house can also result in a make-or-break situation at the bank, where continuation is perceived as necessary whether it is genuinely benefiting the bank or not. 

The more prudent solution may be to move into fintech slowly, as KeyBank did, ascertaining bottom-line success before making large commitments.

Innovation Is Key

The evolving landscape, though, may call for more banking innovation regarding how to bring fintechs into the banking sector. 

The financial services landscape continues to evolve. The slackening of the threat of fintech disruption doesn’t mean that disruption can’t come from unexpected sources. Tom Fraser, president and chief executive officer of First Mutual Holding Co., notes that Amazon and Google, for example, are currently more disruptive to the financial services sector than most fintechs. Amazon’s customer base gives it at least a theoretical capacity to become a consumer lender. If the Seattle-based tech giant ever moves into the financial services space, it could pose a threat to banks’ consumer loan business. Google’s massive data streams could be used to predict and benefit from customer behavior with unprecedented accuracy.

To head off disruption like this, innovation in fintech partnerships is called for. The complexity of both current dominant modes of partnership, the joint venture or in-house development, can be daunting for banks. The answer might be partnerships outside of both these paradigms that strengthen banks’ bottom line and their competitive advantage. 

Innovative financing or purchasing relationships, for example, might make it possible for a bank to buy loans without the complexity of a joint venture or acquisition. Purchasing loans from an existing platform gives banks the ability to evaluate the opportunity over time.

One potential innovation model is firms that arrange for consumer credit for goods and services. Fintech GreenSky LLC, for example, recently became the nation’s #1 online lender in terms of valuation, according to the Wall Street Journal

Atlanta-based GreenSky has a lending platform that allows vendors to provide credit to their customers. The vendors include Home Depot Inc., healthcare providers, and more than 16,000 merchants and contractors. GreenSky offers both loans and lines of credit with a limit as high as $55,000. The funds for the loans are, in turn, provided to GreenSky by several different large and regional banks, including SunTrust Banks Inc., Fifth Third Bancorp, and Regions Financial Corp. 

Arrangements like this allow banks to provide loans via a customer-facing fintech platform. Ultimately given the complexity of fintech partnerships and the difficulty of establishing them, buying existing loans off of a platform is a prudent way to enter the market without the potential challenges of a merger or in-house development.

How a Loan Sale Adviser Can Help

Loan sale advisors like Garnet Capital have valuable experience in selling loans to optimize banking portfolios and balance sheets. The rise of fintech loan platforms offers an opportunity for banks to benefit from fintech offerings without the risk of more conventional methods of fintech partnership.

To hear more, contact Garnet Capital today. For more information, browse our white papers.