McKinsey: sluggish funding in fintech may need improvement
The global pandemic has caused a slump in fintech funding. McKinsey looks at the current financial forecast for the industry’s future
Fintech companies have seen explosive growth over the past decade particularly, but since the global pandemic, funding has slowed, and markets are far less active. For example, after growing at a rate of more than 25% a year since 2014, investment in the sector dropped by 11% globally and 30% in Europe in the first half of 2020. This poses a threat to the Fintech industry.
According to a recent report by McKinsey, as fintechs are unable to access government bailout schemes, as much as €5.7bn will be required to sustain them across Europe. While some operations have been able to reach profitability, others will struggle with three main challenges. Those are;
- A general downward pressure on valuations
- At-scale fintechs and some sub-sectors gaining disproportionately
- Increased relevance of incumbent/corporate investors
However, sub-sectors such as digital investments, digital payments and regtech look set to get a greater proportion of funding.
Changing business models
The McKinsey report goes on to say that in order to survive the funding slump, business models will need to adapt to their new environment. Fintechs that are geared towards customer acquisition are particularly challenged. Cash-consumptive digital banks will need to focus on expanding their revenue engines, coupled with a shift in customer acquisition strategy so that they can pursue more economically viable segments.
Lending and marketplace financing
Monoline businesses are at considerable risk because they have been required to grant COVID-19 payment holidays to borrowers. They have also been forced to lower interest payouts. For example, in May 2020 it was reported that 6% of borrowers at UK-based RateSetter, requested a payment freeze, causing the company to halve its interest payouts and increase the size of its Provision Fund.
Ultimately, the resilience of this business model will depend heavily on how Fintech companies adapt their risk management practices. Likewise, addressing funding challenges is essential. Many companies will have to manage their way through conduct and compliance problems, in what will be their first encounter with negative credit cycles.
A changing sales environment
The slump in funding and the global economic downturn has resulted in financial institutions struggling with more challenging sales environments. In fact, an estimated 40% of financial institutions are now making thorough ROI studies before agreeing to purchase services and products. These companies are the business mainstays of many B2B fintechs. As a result, fintechs must fight harder for every sale they make.
However, fintechs that assist financial institutions by automating their procedures and reducing costs are more likely to gain sales. But those offering end-customer capabilities, including dashboards or visualization components, may now be considered unnecessary purchases.
The new situation is likely to generate a ‘wave of consolidation’. Less profitable fintechs may join forces with incumbent banks, enabling them to access the latest talent and technology. Acquisitions between fintechs are also forecast, as compatible companies merge and pool their services and customer base.
The long-established fintechs will have the best opportunities to grow and survive, as new competitors struggle and fold, or weaken and consolidate their businesses. Fintechs that are successful in this environment, will be able to leverage more customers by offering competitive pricing and targeted offers.