An increasing number of challenger lenders have been making headlines recently. But it's not because of the eye-watering amounts of cash they have been raising, or the speed at which they are doing so. Instead, some of the online banks are having to deal with problems that have traditionally plagued the established lenders they set out to disrupt.
After years of stellar growth, multimillion-euro mega-rounds and constant product releases, some of the fintech startups are discovering that when growing a trusted financial giant, disruption can be taken too far.
PR nightmaresEarlier this year, reports surfaced suggesting that German fintech N26 is vulnerable to money laundering and terror financing due to the simplicity of opening an account with a fake ID. The online lender also experienced a PR fallout after German media cited a customer who reported a theft of around €80,000 that was not dealt with correctly by the bank. The customer was reportedly unable to access his account for weeks before the issue was resolved. All of this culminated in a rare public intervention from Germany's financial markets watchdog this week, who ordered the company to ramp up its efforts to prevent money laundering and deal with a backlog of IT monitoring workflows. Prior to the announcement, the company's co-founder Valentin Stalf (pictured right) had vowed to improve customer service and invest heavily in its call center operations.
Revolut, meanwhile, offers a further example of how rapid expansion may lead to operational processes not being robust enough. The upstart bank founded by Nikolay Storonsky (pictured left) and backed by prominent investors including DST Global and Index Ventures landed a $1.5 billion valuation last year after securing a $250 million round. Similar to its German rival, it has come under pressure after reports emerged claiming that job applicants were asked to work for free or tasked to sign up at least 200 customers in order to have a chance to progress to the next interview round. Storonsky, too, has pledged to address outstanding conduct issues.
Growing pains or structural problems?One could argue that these are just individual issues and by no means an indicator of larger underlying problems. Indeed, some VC investors appear to be taking the view that the smaller digital competitors are likely to overtake their larger rivals in just a matter of years. So far this year, European fintech businesses have secured nearly €1.5 billion across 107 deals, per the PitchBook platform.
But relatively easy access to swelling pools of capital and the determination to expand at a pace that would spin traditional lenders' heads might be one of the drivers of some of the issues. In less than four years since its inception, Revolut has reportedly managed to attract close to 5 million customers—at a rate of 12,000 per day—with N26 claiming similar rates of expansion. Compared to the growth of any traditional lender, those are staggering numbers.
However, if one considers the amount of resources that are required to back this up operationally, it becomes clearer why some of these issues might be emerging. The global expansion plans of some of these challengers add yet another level of complexity, since each country comes with its own regulatory requirements and challenges stemming from talent acquisition.
Treasure trove of dataBanks such as HSBC, Deutsche Bank or BNP Paribas may not be commonly associated with innovation, but it would be premature to predict their imminent demise. Almost all of the lenders have created either in-house or outsourced digital hubs or are launching apps that rival some of the challengers' functions and products. They are also sitting on a—so far—untapped mountain of data. Financial institutions have been collecting customers' data for decades and have insights on almost every aspect of their customers' lives, be it shopping behavior, travel patterns or just our favorite place to grab a cappuccino. It appears unlikely that such an asset will not be utilized more efficiently going forward.
Open banking and the second payment services directive were devised to create a level playing field between the smaller upstarts and their larger rivals with regards to data—as well as boost customers' flexibility and independence—but until all measures are implemented, the traditional lenders have a strategic advantage.
Looking forward it seems possible that some of the greatest hits of the disruptive playbook will come into play. It appears likely that a few of Europe's largest challengers will gain critical mass and start swooping up smaller rivals during a period of consolidation. It is also no stretch to imagine that some of the startups with a global vision will fail along the way. Some of the established financial services companies may also seek partnerships with some of the disrupters in order to gain access to their technology.
What seems unlikely, however, is that the ascent of the challengers will be smooth and without considerable headwinds.
Photos courtesy of N26 and Revolut