Digital Banking: Creating value with deals

Key insights from the PwC FS Deals conference in London

The recent FS Deals conference hosted by PwC in London was a great event with over 600 participants from banks, private equity and fintechs. Our panel discussion with speakers from ING Ventures (Jan-Willem Nieuwenhuize), Deposit Solutions (Dr. Tim Sievers), Funding Options (Conrad Ford) and Vitruvian Partners (Torsten Winkler) showed that creating value with fintech deals is crucial but no easy task. Below you will find the key messages from the panel discussion.

High entry valuations confirm the need for a post-deal value creation plan

Fintech valuations have skyrocketed in the past years, with some of them reaching unicorn status. Examples include digital banks N26, Revolut and Monzo and payment company Adyen. Smaller fintechs also regularly fetch Price/Sales multiples that are higher than traditional bank multiples. While most of our audience believes that valuations will decrease (see graph), the level remains such that investors need to be thoroughly convinced of the business case.

Our panel members ING Ventures and Vitruvian indicated that they closely look at the market opportunity/size, international scalability, uniqueness of the technology and the team’s experience, amongst others, to review their investment opportunities. Of course, the high entry valuations confirm the need for a post-deal value creation plan.

Most value creation is driven by new service offerings

Collaboration of banks with fintechs is becoming increasingly important as traditional banks seek digital expertise not only to offer new services (e.g., robo-advisory, small business loans), but also, as our panel participants suggested, better services, for example better customer journeys and experiences (e.g., better UX, faster decision making, better experience for declined customers).

ING partnered with Funding Options to quickly provide its customers alternative sources of finance. Deposit Solutions collaborates with over 90 partners to offer savers diverse deposits products through their existing bank accounts and to offer banks access to retail deposits to diversify their funding – even without operating an own retail infrastructure. Although more often than not the collaboration is kept separate from the rest of the organisation (for example through the use of innovation labs), the true value of the collaboration rests with bringing the innovation into the mainstream bank, which could be a struggle. The degree of success will depend on the nature of the collaboration and investment and the level of integration between the fintech and the traditional bank. Traditional banks are experimenting in a number of ways and one size does not fit all.

Fintech will also allow for cost reductions, mainly on the people side

People and to a lesser extent technology are the two areas where our audience sees most potential for cost improvements for banks via fintechs. This should come as no surprise as fintechs were set up with the belief that technology can help better serve specific customer needs through a radical re-thinking and re-designing of processes, automation and data. Open banking platforms like Deposit Solutions and Funding Options offer new innovative solutions to banks and their customers.

In the deposits market of the past, poor infrastructure meant that all parties were losing out. Banks were unable to access new sources of retail funding without expanding or even operating their own infrastructure in the first place. Client banks risked losing customers in search of better deposit returns. Savers couldn’t access attractive deposit products without the hassle of opening multiple bank accounts. Deposit Solutions is an Open Banking platform connecting client banks, deposit-taking banks and savers. Now, banks in need of funding can offer their deposit products to new clients in new markets; client banks can offer best-in-class third party deposit products; savers can enjoy better returns.

Small business owners traditionally had to go through a cumbersome and slow process to apply for loans which was also expensive for banks. Fintechs can automate the process and allow for scaling up. For example, NatWest Bank in the UK launched a new digital platform to speed up the lending process for SMEs (Esme Loans) working with Ezbob Limited; and, ING partnered with Kabbage to provide funding to SMEs using Kabbage Platform TM across countries in Europe.

So far, fintechs have addressed specific areas of pain in the legacy infrastructure and processes of traditional banks, but several fintechs have emerged to help banks digitize and modernize their technology stacks. Given the risks associated with replacing the core infrastructure of banks, technology transformation through fintechs is likely to be slow and fraught with difficulties. Nevertheless, plugging the gaps in their legacy infrastructure or adding a digital layer is unlikely to transform traditional banks into low cost efficient digital banks, and a more radical technology transformation is needed. Lloyds Banking Group in the UK invested recently in a cloud-based core banking start-up Thought Machine to accelerate its digital transformation plan, and, before Virgin Money were acquired by CYBG in the UK, they had partnered with 10X Future Technologies to deliver a new core banking solution.

Keeping the entrepreneurial spirit is more important than financial incentives for motivating and retaining key people post-deal

Our audience believes that keeping the entrepreneurial spirit is more important than financial incentives for motivating and retaining key people after a deal. Original founders tend to leave within 18 months after the acquisition and not in 3 years that is typically dictated by earn-out mechanisms, so retention planning is key. For fintechs, finding and retaining key people as they scale up is also a key challenge and the lesson shared by our panelists is to hire ahead of time.

Integration needs to be considered carefully, as too much immersion can kill the creative and entrepreneurial spirit and culture. On the other hand, innovation needs to find its way into the bank, so it’s a delicate balancing act. For each and every deal, the structure needs to be carefully adapted to the situation and tailored to the needs of both fintech and bank in order to maximize value.

We clearly see partnerships (either paired with minority or majority stakes) being preferred over acquisitions and integrations. This is also the case in the partnership between Funding Options and ING Ventures, where Funding Options has become an add-on to ING’s product offering as part of its strategy to become more of a platform business itself. The partnership helps ING to offer an alternative solution instead of selling a ‘no’ to its customers. The same applies to Deposit Solutions which partners with over 90 market participants offering the services of its international open banking platform.

Fintechs can in various ways add value for banks and vice versa, but again there is no silver bullet to success. In order to actually reap the benefits of a collaboration and/or investment, careful post-deal value creation planning is a must.