Embedded fintech: The new product future for financial institutions
Our very own Derik Sutton spoke with Zack Miller of Tearsheet to discuss the topic of embedded fintech. What is it, and what are the benefits for financial institutions?
With APIs and embedded finance, it’s getting easier for software firms to integrate financial products into their offerings. So, software used by the construction industry, for example, can incorporate payments via a tie-up with a fintech company.
At Tearsheet, we’ve had two conferences devoted to this trend — Apple, Google, Facebook, and the biggest brands in the world are launching financial services through software integrations.
Derik Sutton leads marketing insights at Autobooks, a small business product suite that integrates directly inside of a bank’s existing digital banking channels. So think cash flow management, sending digital invoices, accepting online payments, accounting and financial reporting, all directly integrated inside of a bank’s online and mobile banking channel. The firm works with community banks all the way up to top 10 banks like TD Bank.
Autobooks is powered by Microsoft Azure for financial services.
Derik Sutton, Autobooks: Everybody talks about how SaaS companies are embedding fintech into their solutions. If you go out and build a direct to consumer application — maybe you make an invoicing tool for a construction vertical. So, you are really good at helping construction companies build detailed invoices that they can send out to their clientele. It only makes sense as a SaaS company that if you do that, that you start to then embed fintech into your application. You embed the ability to accept a payment, as an example, into your application.
And so I think SaaS companies, when they’re looking at their valuations, and then they’re looking at payment company valuations, they’re starting to see these returns on revenue, these returns on multiples that are just crazy once you integrate fintech. It only makes sense that these SaaS companies would want to embed fintech into their solution.
Take a company like Wave. When Wave started out, it was just a free online accounting service that monetized its customer base by selling advertising. With a growing user base, Wave had a good solution, but it was really hard to monetize the customer base through that model. Plus, users were requesting that their accounting service offer payments functionality.
Derik Sutton, Autobooks: When Wave started to embed financial services, starting with payments, and then moving into lending and things of that nature, all of a sudden that revenue grew. They started to scale the company. And the next thing you know, they sell to H&R Block. Now, they offer banking services as part of that relationship, as well. So you can see they had a really great SaaS company, with a solution that hundreds of thousands and millions of users wanted. It was just hard to monetize their traditional SaaS model. And by embedding or integrating payments, and then additional financial services like lending and things of that nature into the application, they were able to effectively monetize that customer base that lead to an exit.
I think that’s what a lot of these SaaS companies are looking at with fintech. It’s taking their existing addressable market, being able to embed and add something that just makes sense, like payments, and then effectively increasing the revenue opportunity per customer per unit that they had inside their application. And so that trend will not stop, especially as you start to see exits like this take place. And so more and more SaaS companies are going to continue to do this on the embedded fintech side.
This hasn’t been lost on banks. They’re watching the evolution of financial services outside the walls of their institutions. That got Derik thinking — what if the roles were switched? What if banks started embedding financial services in their offerings?
Derik Sutton, Autobooks: Well, why isn’t the inverse true as well? Why wouldn’t banking organizations and financial institutions start to embed these SaaS vertical type solutions back into their banking environment, so that they can also enable the same type of activity to take place directly with them?
And so whenever you start to peel back the onion and think about it — if a SaaS company can integrate fintech because there’s a need there, why can’t vertical solutions like SaaS be integrated back into the banking system? At the core, that’s really what Autobooks has done. You could take all of our components and go directly to the consumer. We’re an integrated, small business product suite that includes a general ledger for a business owner to manage their accounting needs. We can also execute vendor invoice payments through bill pay. We keep track of financial reporting, so they can look at a profit and loss statement and access a balance sheet. But most importantly, we enable small business owners to send digital invoices and get paid online on those or share a secure payment form link that they can get paid through.
Now, small businesses definitely need help with cash flow. Autobooks could have gone directly to the market, acquire new customers and onboard them. Instead, the firm decided from the onset to partner with banks. That way, the software firm can provide these services directly from the financial institutions SMBs bank with.
Derik Sutton, Autobooks: But instead, what we found is that there’s a need for these entities that already have a banking relationship. They’re already managing their finances directly through a bank. And banks really want to better serve the micro/small business and nonprofit community. And so why not just integrate our solution back into the banking ecosystem?
So now for every bank that really cares about small business banking, that’s a vertical inside of banking. Wouldn’t it be valuable to bring the tools to enable a business owner to get paid? Isn’t it valuable to integrate those directly back into the banking ecosystem relationship? So now a business owner doesn’t have to go to a third party, non bank app provider to accept payment, and, more or less, transfer that money into the bank banking ecosystem.
Instead, banks embed a software solution like Autobooks directly inside the banking environment. This way, financial institutions enable a business owner to create an invoice from online banking, send it to a customer, and get paid on it.
Derik Sutton, Autobooks: We think that that’s a really interesting concept for banks to consider moving forward: how do you find niche vertical fintech solutions, bring them back into the banking ecosystem, and then directly integrate those for a vertical that you that you deem valuable, and that you really want to serve better and monetize moving forward?
But with so many fintech solutions out there, it isn’t easy for a bank to evaluate all their options. I asked Derik what kind of advice he’d give to banks looking to integrate new fintech functionality to service SMBs.
Derik Sutton, Autobooks: So what I would say to any financial institution that we talked to, and we talked to a lot, is that because you’re a financial institution, you know which verticals you best monetize as an organization, or at least you should. Just look at those verticals and say, you know what, as an organization, we go pretty wide with our products and services. Most community banks do. But there are certain products and services or category lines that really drive most of the revenue for the financial institution.
And so let’s say that that’s mortgages. Go evaluate fintech solutions that enable you to go deeper with mortgage lending, as an example. So don’t look at the broad nature of fintech. There are a lot of different solutions you could look at — you could go kind of starry eyed and start to go try to reinvent your consumer banking experience. But at the end of the day, that may not be the most profitable or wise decision for you to do as an organization.
It may just be better to slim down the evaluation and say, you know what, we have deep capabilities with mortgage lending. But we want to go even deeper. We want to find ways to actually monetize this user base even more and grow it, because our current efficiency and mortgage processing is really good. But we think it could be even better by bringing in a fintech solution that could level up the ability for us to take in online applications. Maybe we can book mortgage loans faster. Maybe we can increase our margin on these by doing more with less people and things like that.
So, how does a bank begin to prioritize fintech solutions? 2020 was an eye opener for many institutions. If it wasn’t clear what the weaknesses were in their distribution, it was now. If you claim to service small businesses, you better have shown up with the functionality they needed in the middle of the pandemic.
Derik Sutton, Autobooks: And let’s say, as a financial institution, small business banking is important to you, and your business owners struggle to accept payments from their customers, make deposits with your organization, get access to capital, apply for PPP loans, and things of that nature. Maybe that’s a category that you need to really focus on. And when you choose to focus on that category, I would start much of that evaluation by looking at how you monetize that customer base today. Are you monetizing it well or could it be improved upon? Then once you get your arms around the market opportunity within your organization, I would highly encourage every financial institution to go talk to their end customers, and not just the best customers, but go solicit feedback from your small businesses or your business account holders and ask them about their banking experience over the past year. Don’t ask them what needs to be improved, but just ask them — hey, talk to me about your banking experience. How was it for you to transition your business to accept customer payments? Did anything change in 2020?
Going deeper, understanding what your customers want, requires doing some real leg work, really getting to the bottom of their pain points. Banks need to listen and ask about the right things.
Derik Sutton, Autobooks: When you ask people these types of questions, don’t lead the witness with asking them to tell you about their banking experience, because most people are nice,and they’re going to tell you nice things. Really probe and ask hey, how did you do business last year in 2020? What changed? And just really dive into that. You will quickly surface many different new opportunities and ideas through a conversation like that, where you just ask a business owner, how they had to change during 2020. That will propel you as a financial institution into making meaningful improvements moving forward.
This sounds more and more to me like the concept of a marketplace bank — where the bank owns the customer relationship and customers can choose from different products from different providers.
Derik Sutton, Autobooks: I look at my friends at Incredible Bank up in Wisconsin. I think they’ve done a really good job about not just embedding fintech, but understanding their vertical really well, which is luxury RV lending. And so they’ve really kind of dialed into this market niche. And they kind of own the end to end experience. They created a digital banking brand around it with online applications built towards this category. They really understand the end to end nature of what it takes to acquire, procure, and finance these type of vehicles, and then they’re working with vendors to integrate and make that whole experience even better from a digital banking perspective. So I think that’s a really good one.
We have partnerships with companies like LendingClub, which was formerly Radius Bank. They do a really good job finding fintech solutions that really meet the needs of their customer base and embedding those back into their banking solution. It’s won Nerd Wallet’s best online digital banking experience award the past two years, I believe. So if that’s any indication as to how banking looks moving forward, I think that’s a really good one, as well.
Derik likes to call this form of integration — fintechs embedding themselves in banking — embedded fintech. He thinks the collaboration between these two entities is going to continue to grow and grow deeper.
Derik Sutton, Autobooks: I think it will lead to a couple of things. I think these SaaS companies are going to continue to grow in value. And they’re going to be real threats to traditional banking. Let’s take that micro/small business banking segment, just because that’s the one I’m closest to. But if you look at what happened in 2020, you had all sorts of non bank vendors basically start bank accounts this year: Square applying for their banking charter, which is been something that’s been in in the mix for a while. But then you had companies like Wave, the online accounting application, offer bank account services this year.
QuickBooks, a company that many banks actually pay for the right to integrate to data, just became a firm competitor in the banking space by announcing a bank account this year as well. So in addition to their ability to do online accounting, they now also offer merchant services, the ability for a business to get paid, a lending marketplace, and now a bank account with a real time data card. They’re firmly competing against banks across the country for small business relationships. Shopify, the e-commerce company, started a bank account. There are like seven or eight additional entities that all started bank account services this year.
Larger companies are realizing that they sit in a very powerful place — they own the relationship with their consumers. And their customers are looking for more functionality from their providers. It’s an in into launching more financial services.
Derik Sutton, Autobooks: I think these larger companies are realizing that they are at the tip of the spear of the relationship with the business owner, enabling the marketplace for a business owner to go out, solicit customers, sell goods and services and collect payment. Why don’t we just become the bank? Why not just start the bank account, and then access to lending because we, as the tip of the spear of controlling the customer payment, we really control the customer relationships. So let’s just let them bank with us.
I think that’s a trend that you’re going to see in this market segment. And I would argue that, unlike consumer banking or high end corporate Treasury banking, the most ripe for disruption is this micro and small business category because financial institutions just haven’t done a really good job enabling business owners to accept online or digital based payments from their customer base.
These SaaS companies are looking at all these banks. And these banks have their logos on sports arenas, and they’re doing all these big marketing spends. That’s because they’ve really captured a large customer segment, they’re monetizing that customer segment really, really well. So it makes sense for a SaaS company to want to bring some of that into their environment.
Banks and credit unions compete with firms on different sides of the spectrum. As banking continues to get more competitive, these firms are rationalizing what products they should provide — and where they should turn to partners.
Derik Sutton, Autobooks: I think on the other side of that equation, for banks and credit unions throughout the country, I think you’re going to see many institutions start to slim down their offerings. Or at least, they’ll grow the ones that are most efficient and probably scale moving forward. I think they’re going to start slimming down their offerings to their customer base. Gone are the days of being all things to all people, especially as the world moves digital.
I think you’re going to see a move in banking to get much more vertical in solutions and offerings. When it comes to monetization strategies, I think community banks and banks in general are going to go very vertical, and just go very deep with those types of solutions moving forward.
So, how do we get from here to there? How do we get to the point where banks and fintechs are working together to service SMBs both with their best feet forward?
Derik Sutton, Autobooks: The tipping point is really finding these fintech solutions that understand how to integrate back into the banking ecosystem. And so one of the tipping points to make this more common are the vendors opening themselves up for integration. And I think you’re seeing a big concerted effort of that moving forward. We work with vendors day in and day out, and their ability to create APIs and software development kits to enable us to integrate much more efficiently and easily is happening. Since commercializing in 2017, Autobooks has become a growth stage company. Now, heading into 2021, within four years, we’ve taken deployments, these ad hoc kind of core integrations into digital banking — things that took maybe six months to deploy now can be done in weeks.
We’re actually moving financial institutions through our procurement process in four to six weeks in some cases. They’re going from, hey, this is us, we’re interested, evaluating the solution, signing a deal and getting live in less than 90 days, which is a big leading indicator and kind of a shift of how the markets moving.
And not only that, they’re immediately partnering with us on go to market to not just integrate the solution, but have success with adoption and utilization of the platform as well. And so we offer as a service go to market capabilities really built around our vertical solution, tied back to the banking relationship.
So, these partnerships aren’t just technology solutions — they should include the go to market and support that gets integrated back into the banking environment.
Derik Sutton, Autobooks: So I think that’s the leading indicator. And that’s kind of like the leading model of how this could work. One, it takes the kind of the legacy technology providers and digital making providers opening themselves up which they are, and then to it takes this kind of like this open nature of the bank to say, hey, you all do something that we just can’t do ourselves. But we want to partner with you and lock arms with you in doing so. So you all are really good at building user interfaces that enable SMBs to to manage their finances, if you will, you also offer really great ways to go to market that we don’t traditionally support inside of our financial institution. How about we partner up and we you know, integrate your solution back into our environment, we’ll wrap it around our service and support arm and distribution channels and let’s go have mutual benefit success in going to market together.
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