The financial technology (fintech) sector is exploding across the UK, with start-ups attracting masses of investment and growth as they offer consumers the kinds of financial services that financial institutions are currently not capable of supplying. This is becoming an increasingly alluring area in which to invest in and buy innovative start-ups.
The UK fintech industry currently generates around £20bn in revenue annually and growing fast, according to an E&Y report commissioned by UK Trade & Investment. The majority of this revenue is being produced by ‘facilitators’ i.e. larger technology firms supporting the financial services sector, while around 20 per cent is being generated by what is referred to as ‘emergent fintech’. Theses are the ‘disruptors’: typically smaller, nimble, innovative firms that disintermediate incumbent financial services firms with their new technology.
One of the defining characteristics of disruptive fintechs is their ability to respond to the market quickly. They are not burdened with legacy technology systems like the large institutions, which prevent them from moving with the times and developing relevant new customer services. Start-up fintech ventures offer consumers and small businesses international money transfers, comparisons, investments, lending and borrowing all from the comfort of their mobile devices. Some are even cutting out banks entirely and introducing a whole new way for consumers to look after their financial interests. It’s easy to see why the traditional financial establishment is scared.
Let’s take a look at the four main fintech microsectors:
1. Payments
This is the largest fintech microsector and based on the level of scale and innovation can be broadly split into infrastructure and online. Infrastructure is dominated by well-established, large players with business models based on economies of scale. Online payments has seen the largest number of new entrants and remains fragmented, with the most successful being those that have been able to grow adoption internationally.
2. Financial data & analytics
Successful business models in this microsector rely on economies of scale and ability to collect a diverse range of financial data on individuals, corporates and particular market activities (i.e., trading).
Market players can be grouped based on the type of data
* Credit reference
* Capital markets
* Insurance data analytics
3. Financial software
Dominated by larger international technology companies who are typically headquartered outside of the UK. These businesses usually offer a range of solutions to financial institutions including:
* Risk management
* Payments software
* Core banking, asset management, insurance and capital market software
* Accounting software
4. Financial Platforms
Platform models depend on the market segment. They include:
* Trading platforms
* Personal wealth platforms
* Peer-to-peer platforms
* Aggregators
A golden time to invest in fintechs
One of the opportunity drivers for fintechs in the UK is the country’s sophisticated consumer market that is open to innovation. London in particular has the highest concentration of global financial institutions across banking, insurance, capital markets and asset management in the world. There is a world class financial services infrastructure in place. Regulators are well regarded relative to international peers and open minded to innovation. Hopefully London, with its historically mercantile culture, will remain open and welcoming.
Financial technology start-ups have snuck up on the high street banks whilst they have been licking their wounds following the 2008 financial crisis. Research, development and investment in technology simply wasn't an option in the banking industry for several years as it desperately tried to stay afloat following the crash.
HSBC’s head of retail banking and wealth management, John Flint, explained: “It feels like our industry has woken up to the possibilities of technology in the past three or four years,” he stated.
“If there hadn’t been a crisis, I’m sure we would all have started thinking about it earlier.”
As a result of the situation banks find themselves in, they are rapidly adopting an ‘if you can’t beat ’em, join ’em’ approach and have begun buying fintechs or courting them to form partnerships. More established fintechs are and will continue to be attractive acquisition prospects for the big banks.
A survey carried out by SAP and IDC in June found that one in five of the 253 banks they spoke to internationally said they look mainly for fintechs when seeking acquisition targets. A large number viewed them as collaborators, while fewer saw them as threats.
This should be all good news for those looking to invest in a fintech start-up at the point at which they are seeking funding to establish themselves. Once established, with a unique offering, dedicated customer base and wider exposure, their paper valuation escalates putting them effectively out of reach of all but private equity specialists and larger financial institutions.
The hottest investments in fintech
The UK is leading the way in Europe in terms of fintech start-ups, with Accenture figures showing that the UK and Ireland attracted over 40 per cent of all European fintech investment last year.
One of the hottest UK fitechs around is Funding Circle, a peer-to-peer small business loan provider, has attracted more than £177 million in investment to date. The business is growing rapidly with revenues set to triple this year to £35 million. It was founded just 6 years ago.
Co-founder James Meekings explained where they have the upper hand over the banks: “Without the inefficiencies attached to the banking sector, such as high costs from branch networks and legacy IT issues, platforms are able to deliver the same level of credit assessment at a fraction of the time and cost.”
Another fledgling fintech, four-year-old TransferWise, has rapidly transformed into a household name. Vast numbers of us are now transferring money across international borders using this simple and cheap service instead of our high street banks. It was recently valued at $1 billion after attracting huge investment.
Many of the UK’s leading fintechs on the list were started by former financiers who decided to go it alone and make their ideas for filling gaps in the market a reality. Nutmeg, for example, co-founded in London by former stock broker Nick Hungerford, offers affordable wealth management solutions online to anyone who wants to take more control over their finances, savings and investments. It too has received tens of millions in funding from high profile investors looking to get in on the action early.
Investing early is the key
Research suggests that fintechs in the UK struggle to find the funding at the development stage when compared with their US counterparts. With the UK behind the curve right now, there is less competition for early round-up acquisition and venture capital opportunities.
Buying or investing in a fintech at the very earliest stages, when they are in need of funding to help them get up and running, is clearly the best option for entrepreneurs and investors looking to get a foothold in the industry and make the most money over time. Identifying a promising prospect may be a challenge and investing in or buying start-ups isn’t risk-free. However, if you make the right call, fintechs are likely to become extremely attractive acquisition targets for banks with very deep pockets.
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