Fintech 2.0: Why embedded finance has brought a seismic shift in banking, & how FIs can respond

  • For a growing wave of software providers, embedded finance has become the next logical step in capturing significantly more revenue from existing customers — while removing the FI from the equation.
  • To stay competitive, financial institutions must take a page from SaaS (software as a service) providers by embedding much needed financial services functionality into their existing digital channels — improving customer retention, deposits, and cross-sell opportunities.

By now, most of us are familiar with the concept of fintech — that is, the application of technology and innovation to improve upon long-standing financial services. Originally, fintech impacted just one industry, albeit an expansive one: banking and finance. However, like most strains of disruptive technology, it was only a matter of time before it found its way into other industries.

Some twenty years ago, soon after the dot-com crash, we heard industry prognosticators high and low bandy about the idea of “Web 2.0.” Though the term was overused, and criticized by some as just a useless buzzword, the concept helped to convey the fact that the Web was moving away from static one-way information delivery and toward interactivity and participation.

What remains remarkable about this shift, even today, is how far it spanned across the Web. Almost every industry, it seems, offered up some strong examples of this transitory disruption. In retrospect, the Web has seen several of these seismic shifts since then —we saw it again with cloud-based computing and with mobile, for example.

Matt Harris, in his insightful piece on the future of fintech, draws a similar but more nuanced conclusion. In his view, fintech will bring the next disruptive shift as it evolves into built-in functionality native to any given “technology stack [or] business model.”

In other words, pure fintech will become irrelevant in a world where virtually all apps will include a financial component in some way, shape, or form. So once again we are seeing an evolving technology quickly become a disruptive force — like Web 2.0 and mobile before it. And like them, embedded finance will help to reshape the future.

This push toward embedded finance is spurred on by simple economics — there is a massive potential for revenue that is just too hard to pass up. To put things in perspective, we can compare total U.S. revenue in two distinct sectors, software and payments: $200B versus $550B, respectively (projected figures for 2021). This is more than a 2X difference! It’s no wonder, then, that so many SaaS (software as a service) companies are quickly making the jump into embedded finance in an attempt to capture a higher market share through banking-related activities.

This shift would likely be a straightforward one for most companies, and just as importantly, would not require much in the way of customer acquisition costs. For a software company, you simply leverage an existing customer base and cross-sell new functionality from the standpoint of added convenience or efficiency. For a typical user, embedded finance signals a natural progression of a platform’s capabilities. It becomes another product or solution — easily accessible within the existing platform — that makes life easier and work a little more convenient.

Embedded finance has become an opportunity that is too hard to pass up.

In its infancy, Wave offered free online accounting. However, they found it challenging to fully monetize their growing user base through an advertising model. Plus, users were requesting that their accounting service offer payments functionality. These emerging challenges became an opportunity.

After embedding financial services, starting with payments, Wave’s revenue grew exponentially. The company scaled quickly — and soon after sold to H&R Block for $405M in cash.

SaaS providers in the small business (SMB) sector, in particular, have benefitted from the fact that traditional financial institutions (FIs) have mostly neglected SMB customers in favor of consumer and higher-end commercial banking. This vacuum has not gone unnoticed — and has created a situation ripe for disruption. As Matt Harris puts it, “The monetization opportunities are not only large, but actually meaningfully larger [emphasis ours]” than just software alone.

SaaS companies both large and small are pushing hard to become the day-to-day hub for business owners — setting the stage for small businesses to solicit customers, sell goods and services, and collect payments — without having to leave a software platform.

Jobber and GoSite, as a case in point, both provide comprehensive SaaS solutions for small businesses seeking to move operations online. Jobber recently picked up $60 million in funding. GoSite snagged $40 million during their Series B. Another similarity between the two startups: both offer embedded finance to facilitate invoicing and payment collection.

In a world fast moving toward embedded finance, the clear loser in this shift is the financial institution.

If you are a business owner using Jobber to book home visits, assign jobs, share an online quote, and so on, it’s no stretch to rely on the same platform to invoice a customer or accept an in-person payment. Why rely on an external FI during these day-to-day activities? In a typical workflow like this, the FI not only becomes less relevant — but almost unnecessary. After all, the essential financial bits can be easily taken care of within the software ecosystem.

Some FIs have responded by partnering with fintechs and SaaS companies through an arrangement sometimes referred to as “BaaS,” or banking as a service. Goldman Sachs is one such high-profile institution, partnering with the likes of Apple (the Apple Card) and Amazon (through Amazon Lending). For every Goldman Sachs, however, there are thousands of FIs left out in the cold. But it doesn’t have to be this way.

There is a path forward for FIs, but it will take the right partners and the right technology.

What if financial institutions flipped this current narrative? That is, what if they integrated fintech vertical solutions into their digital banking platform, capturing more customer engagement and value in the process?

Not only is the aforementioned scenario possible — but for most institutions, it may be the most cost-effective and expedient option available. But it will require the right partners.

By embedding fintech, the FI’s digital banking would become the go-to software platform. The goal: to offer customers a variety of much-needed solutions (much like SaaS platforms do today). For small businesses, this would include cash flow functionality for both accounts payable and receivable — something that is crucial to their success.

To make this vision a reality, an FI would rely on fintechs whose sole mission is to partner with FIs — allowing them to bring their expertise and specialized products to their banking ecosystem. Much more than a simple vendor procurement, this arrangement would allow for the full, end-to-end integration of a fintech service. It would include not only the technology itself, but also the crucial go-to-market support, ongoing FI and and end-user support, and regular product updates.

Not only would an embedded fintech strategy enable an FI to become the full end-to-end provider for a customer vertical — it would also eliminate the need for customers to rely on third-party software altogether. This would undoubtably help with customer retention, as many SaaS platforms are designed to remove the FI from the equation.

Furthermore, this approach would allow the FI to capture the full revenue potential of their current and future customer base. Revenue per customer would increase as well, as the institution begins to monetize their customers’ banking, payment, and software needs.

How would an FI get started with embedded fintech?

This is where strategic focus and specialization come in. To fully monetize a customer base, an FI will have to become more selective, and go deep into a chosen set of verticals.

If an institution decides to focus on small business, for example, then it is imperative to start by identifying a fintech partner that intimately understands business owners and their most pressing needs. In the case of small business — it starts by giving them the ability to easily accept online payments.

In providing a solution that satisfies a critical need, the financial institution then locks in the opportunity to provide additional services to the SMB – such as lending. This would be a similar approach to a SaaS platform, which are often designed to capitalize on a customer’s varied and expanding needs.

Autobooks helps financial institutions upgrade their small business banking.

Since arriving on the scene in 2017, Autobooks has become the go-to partner for over 100 financial institutions nationwide (and growing). Autobooks offers an integrated, small business product suite that goes deep into the business customer journey. But unlike SaaS companies that are looking to displace small business relationships from financial institutions, Autobooks mission is to empower financial institutions.

Powered by Microsoft’s Azure for financial services, Autobooks’ product suite integrates directly within a financial institution’s existing digital banking channels. The experience starts with helping business owners accept customer payments online, either by sending digital invoices and/or getting paid online through a shareable payment form link.

All payments received are deposited directly into an existing customer’s business account at the financial institution. In addition to integrated receivables, Autobooks offers cash flow management, automated accounting, and real-time reporting.

To help educate and support an institution’s small business customers, Autobooks embeds marketing and support solutions within the banking channels as well. By removing this operational demand, an FI is better able to focus on delivering results.

With Autobooks, small businesses will increasingly rely on their FI’s digital banking platform — and less on third party providers.

Autobooks has compelling evidence that it can generate a win-win for small businesses and banks. It recently analyzed a cohort of SMBs from a bank that launched in May of 2020. The cohort of SMBs evaluated had previously relied on non-bank providers for receiving customer payments.

Nine months into the partnership, the usage of Autobooks for payment acceptance had grown significantly, to 347%. On the other hand, usage of third parties for payment acceptance had declined by 77%.

By embedding Autobooks into their banking experience, the bank had effectively displaced third party competitors while growing their ability to better serve and monetize small business customers. Clearly, Autobooks’ mix of technology and support has paved the way for financial institutions to once again reclaim their place in small business banking.

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