Fintech innovation: breaching the barriers
Building a vibrant fintech business depends on many factors: an underserved market, access to talent and infrastructure, an accommodating regulatory environment and the capital to help good ideas flourish. The barriers to entry in Latin America are falling fast.
Latin America has a population of over 580m and high mobile phone usage. Mobile data volumes grew 64% in 2016 alone. But the financial services market is not so well developed; half of all Latin American adults do not even have a bank account.
To entrepreneurs and investors, the under-banked market is an irresistible opportunity.
“The sheer opportunity is in the numbers,” says Boris Batin, co-founder of online loan company ID Finance.
ID Finance was born in Russia, but moved to Spain last year to specifically target the Latin American market. Its first launch market, Brazil, ticked the boxes on market potential, information infrastructure and legislation.
Almost 30% of Brazilians adults do not have bank accounts but the country’s credit history infrastructure is well developed. Anyone who has ever paid a mobile phone or utility bill has a record on which lending decisions can be based. Potential customers can sign credit agreements without physical signatures, a critical step in simplifying online lending.
Integrating with other financial counterparties is crucial. Lenders need payment networks to send monies to and collect payments from new customers. Many local payment system operators are now cross-border, opening up the potential for future expansion, economies of scale and better loan pricing, says Batin.
“Asia is very different, from language to regulation, even the state of economic development between nations,” he says.
There is also plenty of low-hanging fruit to get a fintech business off the ground. The bigger Latin American nations have sufficient under-banked (rather than unbanked) potential customers with existing bank accounts who want faster, cheaper online access to financial products. Smaller countries may be less attractive.
“Acquisition costs are low, we do not have to do much advertising,” admits Batin.
But he warns it could take a further five to ten years for fintech innovators to reach larger numbers of the currently under-banked, if ID Finance’s experience in Russia serves as a good template.
The information gap
Financial exclusion is an opportunity, but also a barrier. Even the best fintech ideas may take longer to gain traction when millions of people and businesses have little contact with traditional banking sector.
“You can have a great idea, a firm understanding of the technology, but when you go to market, adoption becomes an issue. It becomes a barrier when the population is not financially savvy,” says Andrés Fontao, managing partner of Finnovista, which helps fintech entrepreneurs grow their businesses.
Even successful fintechs must focus heavily on education and continued dialogue with their customers. With little experience of financial products, new customers may quickly find themselves in difficulty – and fintechs and their partners nursing a loss.
Rocket, which helps score customers for online consumer credit card applications, is in regular contact with customers after they have signed up. Co-founder Daniel Rojas says developing their knowledge improves profitability, reducing average default rates by almost two thirds.
“We use blogs, newsletters, webinars and financial health analysis tools to make sure customers do not default,” he says.
A regulatory push
As everywhere, matching new technologies to financial regulation is tough, particularly when Latin America has few cross-border standards and no equivalent of Europe’s single market directives.
“Each market has its own regulatory framework and supervision mechanism. It becomes a barrier when startups reach scale,” says Andrés Fontao.
That is less of an issue in Mexico and Brazil, both large markets in their own right. Entrepreneurs from Argentina, Chile and Columbia could face cross-border regulatory barriers far sooner if they want to keep growing their businesses.
The established industry is now more open to assisting fintechs with regulation and compliance. Local governments and regulators are keen to help too.
Mexican fintechs will soon be drawn into the financial services regulatory framework, giving investors and customers more confidence. A new fintech law will also allow innovators to test their ideas in the real world with real customers via a regulatory sandbox.
Other regulators are already paying attention, but cross-border growth remains difficult as rules are not yet harmonised.
Better access to financing is already helping good fintech ideas to fly.
“Six years ago, there were no stakeholders, no angel investors, no venture capital and no government support,” says Eduardo Morelos of Startupbootcamp FinTech Mexico City, an accelerator programme.
First came local capital as Brazilian and Mexican investors latched onto the potential of fintechs. Global investors have followed.
The Latin American Venture Capital and Private Equity Association calculates that fintech venture capital deals topped $186 million last year. But as Morelos points out, the industry is still in growth mode; there has only been one significant exit to date. Other entrepreneurs may have to wait to bank their windfalls.
A selective approach
Fintech entrepreneurs must also pick their markets and products carefully. Not all ideas will garner investor attention or sufficient customers. Investors are keen on consumer lending, payments and remittances, but other segments such as corporate lending and treasury services have received far less attention.
The small and medium-sized business (SME) banking space has a lot of potential. Yet it has largely been overlooked for now, because adoption of digitised services takes longer.
When SME customers do not use accounts and cards, businesses are likely to be more reliant on cash too. Local shops, factories and service companies may simply not have a credit history on which to base lending decisions, or familiarity with tech-based business tools.
“First you have to digitise the businesses, then collect the data points, then roll out the financial service. It is a multi step approach,” says Andrés Morelos at Finnovista.
He believes that offering services that help companies improve their cash flows, such as factoring products that give companies access to unpaid bills and to optimise their working capital, will eventually lead to a more robust digitised SME lending infrastructure.
But selling the concept before selling the product could also result in longer lead times to profitability and impact on financial returns for backers. For now, investors still see the lack of education and inclusion as an opportunity rather than a threat.
Likewise, insurtech, wealth management, and identity and security technology have been overlooked by private investors. That may not be the case for long, think interviewees.
The formalities of starting a Latin American business, fintech or not, should not be underestimated.
The World Bank ranks Mexico 49th out of 190 countries for the ease of doing business, 90th for the ease of starting a business. Brazilian entrepreneurs face a bigger bureaucratic mountain; it ranks 125th and 176th respectively. In the region, only Venezuela fairs worse.
To rent an office in Brazil, ID Finance needed a local bank account. But to get a bank account, the company needed an address. Premises were only secured after a large deposit was paid and letters of guarantees were exchanged. A process that should take two weeks took two months. Boris Batin also suggests not relying on local postal systems if important company registration documents are to be delivered on time.
“Nothing is a complete barrier, but each step is exhausting. Our experience in Russia and Kazakhstan helped our determination,” he jokes.
Talent acquisition may also become an issue as fintech expands. Programming is primarily English-based, as are communications with parent companies and IT teams based in the Europe and the US.
Local entrepreneurs are already battling Silicon Valley giants for good programmers who speak English. Brazilian tech staff are expensive, says Batin. Programmer wages in Argentina and Columbia may be lower, but for now there is a payoff between the potential size of the Brazilian market and staff costs.
A positive outlook
Fintech development follows a predictable cycle. When innovators challenge, the first reaction of incumbents is one of horror. That then leads to an acceptance that, perhaps, incumbents could learn from the upstarts–by improving the customer experience, cutting costs or opening new market segments. The decision then is whether to fight, buy or collaborate.
Latin American thinking has caught up fast with the symbiotic outlook that has spread across Europe and the US. Incumbents realise they may not have the flexibility, talent or risk-taking attitude to stay ahead, so are opting to collaborate.
Innovation hubs are sprouting, primarily in Mexico and Brazil. Finnovista recently reported the number of fintech start-ups in Mexico rose 50% in 10 months, led by payment services, lending and enterprise financial management players. Country ecosystems are growing fast as barriers tumble.