Understanding FinTech Business Models (Digest)

If you work in technology or finance or invest in stocks or bonds, you must have heard of the term FinTech. We’ll see how FinTech changes the finance landscape. It is also used in conjunction with AI and Crypto-currencies to build basic financial models with Excel and more. Also, there are many use cases to explore borrowing and lending with online peer-to-peer (P2P) markets. Let’s start!

What Should You Assume While Dealing With A Fintech Firm?

Many people mistakenly believe that financial accounting reports are simply dry, historical summaries of the past. A historical summary of a company’s past performance allows you to evaluate management performance, especially if you compare that past performance with what was planned. However, most financial management users are not interested in the past, as they are in the future. When deciding whether to loan money to a company, a banker wants to know what the company’s cash flows will be in the future. After all, it’s out of future cash flows generated by the company that the loan will be repaid. Similarly, potential investors are interested in future profits, and future cash flows. When you buy a company, you’re buying its future, not its past.

Items Itinerary to consider:

• Historical Financial Statements
• Cost of goods sold
• Depreciation expense
• Levels of Inventory and Fixed assets
• Income tax rate
• Variable Costs
• Fixed Costs
• Debt Ratio
• Accounts payable
• Wages payable

This discussion introduces you to the importance of financial models for FinTech Startups. You should not guess based on experience, rather you should be objective based on the best available information that’s out there.

Number of Fin-tech Start-Ups Globally From 2018 to November 2021, By Region

What Services Do Fintech Companies Offer?

FinTech is mostly developed by start-up companies, which offer their services to established firms. It is related to the application of innovative technological solutions in the financial services industry. FinTech mostly affects mobile wallets and payments. This comes in line with an increasing number of people using a mobile banking app. Although FinTech adoption differs geographically, internet user penetration rates also play a large part, particularly mobile internet usage. Investment in FinTech is proportional to the companies offering outsized growth opportunities. FinTech related companies include:

• Payment infrastructure to process services offered by Square, Ant Financial, Revolut, and stripe.
• Stock Trading Apps from Robinhood, TD Ameritrade, Schwab
• Blockchain technologies like Ethereum
• Lending Marketplaces like Prosper, LendingClub, OnDeck
• Mortgage Lending apps like LendingHome and Better Mortgage
• Cryptocurrencies and digital cash like Bitcoin
• Insurance companies like Insurtech, Lemonade, Oscar, Fabric
• Apps for credit reporting like Credit Karma
• Money Transfer and Remittance services like PayPal, Venmo, TransferWise
• Robo investment advisors like Wealthfront, Betterment
• Online business loan providers like Kabbage, Lendio
• Small Business Credit cards, financing, and payments through Fundbox, Brex
• Infrastructure and Software to power financial applications like Plaid.
• Financial cybersecurity companies seek help with money laundering cases, chargeback risk, cyber-crimes such as Evercompliant, Forter, and CrowdStrike.
• Neobanks like N26, Monzo, and Chime

What Should Fintech Companies Consider While Choosing Their Business Model?

• Fintech companies need to avoid granting rights, fundraising or M&A opportunities, offer introductions to potential customers, provide debt financing, be aware of the regulatory framework. Also, these companies should seek legal counsel when dealing with securities, deposits, and lending.
• They should be wary of their privacy and protection of personal information through Federal Trade Commission, Consumer Financial Protection Bureau, European Union GDPR rules, Telephone Consumer Protection Act, State data breach notification laws, CAN-SPAM laws, Federal and state laws, Gramm-Leach-Bliley Act, New York Department of Financial Services Cybersecurity rules, Anti-Money Laundering laws, International laws.
• Moreover, a FinTech B2C company must be able to answer if:
• What problem to solve?
• If you’re trying to change the customer behaviour
• Know if your customers are risking anything as they adopt your solution versus an incumbent product
• Know if you can build trust with your customers
• How do the incumbents react and how long do they take?
• Know if you have any technology that is defensible with your solution.
• A B2B start-up must consider if the product solves a pain point, does the company matches up to its incumbents, and will they use it as a loss leader, by eliminating any potential margin.
• FinTech startups should also be aware of acquiring customers The methods depend on whether the company follows B2C or B2B business model. Keyways to market themselves: Search engine advertisements, company website, social media marketing, content marketing, affiliate programs, press releases, influencer marketing, videos, direct mail, app marketing.
• As venture capital financing commixes with Fintech Startups, marketing often does not care about the cost. But it is always advisable to secure and carefully curate a marketing strategy before launching your business.
• Create a budget for different tests on short cycles to eliminate any strategies that do not go well with your marketing programs. Reducing the overall cost of acquisition by marketing to another business and convincing them that you will increase their revenue by sales via the B2C component.
• The sale cycle is longer in B2B, while you can shorten the sale cycle for smaller enterprise customers through a pipeline that is a mixture of product marketing and engineering teams. There can be instances where companies do not mature organizationally and remain sale opportunistic. Here is a detailed market segmentation to build a sale process and pipeline pay off in the long run.

What Are The Various FinTech Business Models?

Ideally, the aim to adopt any specific business model is to attract the right venture capital investors with FinTech experience and the right strategic investors. Following monetization models for FinTech investors can create numerous business possibilities together with personalized marketing for insurance companies. Check them out:

• Alternative Credit Scoring – FinTech companies consider alternative data points like social signals, percentile scoring, and other qualitative factors combined with an intelligent algorithm to make better lending decisions. In cases where there is a need to be present for loan disbursement, the lender can avoid loan recovery.
• Alternative Insurance Underwriting – FinTech companies are creating variable computing mechanisms with alternative data points like health history, and lifestyle to compute premiums by an individual’s weight, height, medical history, habits.
• Peer-to-peer Lending – When businesses borrow money from multiple individuals to make it easier for the investors to get better returns than that offered in debt markets by giving their money to pre-approved and vetted borrowers. App development companies create FinTech startup platforms to match borrowers with lenders and take a fee from the borrower’s repayment.
• Transaction Delivery – FinTech start-ups who follow this business model earn via commissions. They collect customer data and share it with potential customers to pay premiums, invest in real estate, and buying mutual funds etc.
• Small Ticket Loans – Low margins and high cost of setting up cause banks to underwrite small ticket loans. FinTech startups in this business model bracket deliver impulse buy mechanisms and one-click buy buttons on e-commerce websites to enable customers to buy quickly without any authentication or credit card details. And if they coalesce this with algorithms to determine customer demographics, it ensures highly customized marketing offers.
• Payment Gateways – FinTech companies integrate various payment gateways and make it convenient for their customers to avail themselves of any service at their convenience. Users of these payment apps are the businesses selling their products or services to the end-users.
• Digital Wallets – An amalgamation of banking accounts and payment gateways, digital wallets and corresponding business model allows users to make payments for small fees that are charged as merchant discount rate (MDR) via floating value. This FinTech business model allows users to pre-load a certain amount of virtual money into their wallets and use this virtual money to make transactions with merchants who accept digital payments.
• Digital Insurance – FinTech investors who choose to follow the Digital insurance business model price their premiums at variable rates depending on the aggressive cost coverage, choice of customers, personalized marketing, and aggressive offerings, compared to traditional insurance companies. They follow better underwriting practices.
• Asset Management – It enables buying stocks and mutual funds without paying commission fees. Investors sometimes have to pay a slightly higher price for their assets, but the difference between the amount they save from trading fees, and the inflation, still turns out positive.

How Do Fintech Investors Assist Fintech Companies?

• By providing market, product, and competitive intelligence
• By helping in refining the marketing plan and customer target list

Who Are Strategic Fintech Investors?

• Pilot customers
• Technical and product advisors
• Distribution partners and M&A acquirer of FinTech Company
• Strategic partners collaborating on product development
• Offer insight into regulatory issues

What Should A Fintech Company Ask From Venture Capitalists?

Without underestimating their sale cycles in both budgeting and diligence processes, start-ups must:

Know about their target audience, realistic sale cycles, the requirement of proof of concept, the need for payment for proof of concept, metrics to determine successful proof of concept, who is the decision-maker at the customer’s company, does proof of concept leads to revenue, features that lead to full commercialization, who is the ideal customer, what are the competing solutions, how much do customers pay for competing solutions, is your potential customer a good reference for a future potential customer, what is the realistic revenue ramp for this customer, do you require significant internal resources to support this customer, and are you betting your company on the right customers?

Investors in Fintech companies may want to review the company’s procedures to protect the data of employees, business partners, customers, the company’s networks, and systems. And they may need to know more about inherent cyber-security risk, administrative, technical, and operational controls to mitigate security risks, company policies, regular risk assessments, vulnerability testing, dedicated security personnel, annual risk assessment, security best practices, incident response plan, vendor risk, business continuity and disaster recovery plan, backup protocols,  network monitoring, encryption, access controls, authentication, anti-virus software, and asset management, an insider threat program, privacy impact assessment, and an understanding on the reasons of past data breaches.

Fintech investors are interested in a company’s technology, and its underlying intellectual property. They are sensitive to core business revenue and expense model issues like how can they differentiate their business, what will be the customer acquisition cost, on-boarding process for new customers, can they mitigate the churn, can they detect fraud, what is their long-term value of a customer, is their service user-friendly, do they have a scalable way to acquire users, what is their ongoing product improvement cost, what level of customer support do they require, what is the ongoing product improvement cost, is the business capital intensive, can they raise sufficient capital to cover the company’s anticipated burn rate.

Lastly, investors should ensure their FinTech startup from a legal point of view, by considering if the company has been properly organized if the company is properly incorporated, contractual issues, security laws, deals/equity splits, compliance with employment laws, sexual harassment, tax considerations, employee manual, employee equity plan to incentivize employees, liability limitations, the arbitration provision in the event of a dispute, compliance with all applicable laws and regulations and potential regulatory risk.

What challenges do Fintech StartUps face?

Fintech companies either fall into the business-to-consumer sales model (B2C) or business-to-business model (B2B). Every model comes with its own set of advantages and challenges. The B2C cycle is shorter than the B2B cycle. More challenges that start-ups in the FinTech space face:

• Raising venture capital or strategic financing
• Looking for a qualified management team
• Checking for market opportunities
• Analyzing positive early traction; checking for early or pilot customers
• Verifying if the founders understand core financials and metrics of their business
• Checking if the investor pitch deck is professional and interesting
• Checking potential risks to the business (regulatory risk)
• Checking the competencies of the company’s product and services
• Checking if the company’s financial projections are realistic and interesting?
• Checking if the expected valuation for the company is realistic?
• Checking of the company offers differentiated technology
• Checking for the company’s intellectual property and their use of investment capital

Conclusion

FinTech investors must keep their processes simple and budgets as lean as possible. It is always advisable to create it from the ground level, project expenses in advance, and do not overspend in the market too early. We hope that the above considerations bring some insight and relevance to FinTech App Development.