Over the past several years, fintech firms have disrupted traditional banking paradigms. By combining modern technology with a laser focus on improving consumer experiences, large and small fintech firms have brought unprecedented changes to the banking industry. The improvements to services across banking have resulted in a huge inflow of outside funding to fintechs and a continued outflow of traditional sources of revenue from legacy banks and credit unions.
While many banking institutions are either investing or collaborating with these fintech players, the majority of banks and credit unions have not yet reacted to the new marketplace realities. The result: Many fintechs are expanding their offerings beyond their original platform, further increasing the risk to traditional players of losing relationships in areas such as as payments, money transfers, and personal loans.
There is probably no part of banking that has come under attack more over the past five years than payments. Relatively new digital payment apps allow consumers to pay friends, family and merchants with just a few taps on a mobile device. Fintech firms of all sizes have used modern technology and consumer insights to make money movement more convenient than ever, significantly increasing the level of non-cash payments across all markets.
The biggest non-bank payments industry players include PayPal, Stripe, Square, Venmo and Transferwise, with dozens of other providers offering highly specialized solutions. As with most successful fintech players, many of the biggest digital payment providers have added functionality, encroaching even further into the established relationships that legacy banking organizations covet. The result is not only a loss of transaction fees, but potentially the loss of complete relationships.
Looking at two of the fastest growing payment fintech firms can provide a perspective into the growing competitive advantages fintech firms in all product areas may have if traditional banks and credit unions don’t respond quickly.
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PayPal: Data, Scale and Brand Awareness Provide Market Advantages
Chief Operating Officer Bill Ready has said that PayPal has “no aspirations to be a bank”. But that should not necessarily provide any level of comfort since the company continues to offer bank-like services to consumers not wanting to visit a branch. Moving well beyond being a payments platform, PayPal users can now deposit money directly into their PayPal account or load funds onto an FDIC-insured prepaid debit card.
Ready has said: “We think we can provide [banking] services at a lower cost and much more efficiently” since the company is working at scale and has an all-digital enterprise. While PayPal doesn’t charge for the debit card or for direct deposits, the firm does make money on purchases made.
PayPal has been one of the most aggressive acquirers of ancillary businesses before and after being spun off by eBay in 2014. Some of the largest transactions include acquisitions of Braintree, Venmo, Xoom and iZettle as well as partnerships with Facebook and Instagram for the special checkout features.
Interestingly, PayPal (and Stripe discussed below) doesn’t offer the cheapest payment processing rates. For many firms, a basic payment processor will have lower rates. That said, PayPal’s (and Stripe’s) strengths lie in the use of data to provide a vast array of eCommerce features and benefits beyond payments alone.
PayPal was one of the first digital payments platforms to provide business loans and lines of credit to their customers. In the first quarter of 2019, PayPal announced that it had provided more than $10 billion in loans to more than 225,000 small businesses around the globe after only a little more than five years. “It took PayPal twenty-three months to get to the first $1 billion in lending and now we’re hitting more than $1 billion per quarter,” said Darrell Esch, vice president of global credit at PayPal.
“PayPal business financing programs can provide funding from $1,000 – $500,000 for small businesses looking for both quick decision-making and immediate usage, as an application decision usually occurs within minutes or hours which, if approved, allows the business to start using the funds almost immediately,” said Esch.
The speed of decisioning is because PayPal uses payment transaction data to determine the ability of a firm to repay a loan or line of credit. This is insight not actively tracked in real time by most traditional financial institutions. For many small business owners, they would not mind paying a bit more for credit if it was available with a touch of a mobile device. For digital consumers and businesses, speed usually trumps pricing.
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Stripe: From Internet Payments to Lending, Cards and More
Stripe is the world’s most valuable private fintech company, valued at $22.5 billion after its last funding round. Unlike PayPal, Stripe targets internet-based businesses looking for unique developer tools that provide support for anything from subscription businesses to marketplaces wanting to support in-app payments. From a rather modest start, Stripe is now one of the most valuable ‘unicorns’ (firm worth more than $1 billion) in the U.S.
Moving beyond it’s original business model, Stripe has recently added both Stripe Capital and Stripe Corporate Cards. Stripe Capital will provide cash advances to small- and medium-sized business (SMB), with loan amounts and repayment periods based on the client’s transaction history. Instead of traditional credit scores, Stripe uses ‘advanced algorithms’ based on payment volume, percentage of repeat customers, and payment frequency to determine the amount of loan and repayment terms.
The biggest benefit to small businesses is that, instead of needing to complete an extensive loan application to get a working capital loan or a line of credit, Stripe will make funds available in close to real time based on transaction data and behavioral detail that most traditional banks and credit unions don’t effectively monitor.
This is similar to what is currently offered by Square and PayPal. During the second quarter of 2019, Square facilitated 78,000 loans totaling $528 million — a 36% jump year over year. Many of these loans are smaller than traditional small business loans and are issued at higher than traditional market rates. Businesses are willing to pay a premium for borrowing because the funds can be accessed significantly faster and paid off as quickly as the next day or based on the inflow of earnings.
The Stripe Corporate Card is targeted to users who will pay their balance in full each month. As a result, the card has no interest rate and no fee, using the interchange fee as a source of revenue.
Similar to PayPal, Stripe has expanded far beyond the original offering of a payments platform for online businesses, offering billing and invoicing, in-person payment services (via Terminal), business analytics (via Sigma), fraud prevention on transactions (via Radar), company incorporation (via Atlas) and shared insights into business strategies.
Fintech Players and Data – Why Should I Care?
As fintech players such as PayPal, Stripe, Square or any non-bank competitor grow, so does their availability of data. Both PayPal and Stripe illustrate the power of leveraging huge amounts of data about their users to deliver improved experiences. But, the advantage goes far beyond the single solutions that many fintechs initially offered.
As fintech players in payments, money transfers, loans and investing mature, so does their array of byproducts and services offerings that can benefit from the expanded data sets. And, if traditional financial institutions don’t start to use the data at their disposal, the gap in capabilities (and experiences) will only get larger.