Fintechs have shown they can drive innovation in times of difficulty, but they'll have to adapt to keep their heads above water, writes Aleks Stefanovski.
In 2021, the UK saw a record year for fintech investment, reaching $37.3bn, up sevenfold from 2020 and accounting for $210bn in investment globally. The explosive growth of the fintech sector in recent years has mainly been a result of its hard work, enterprise and commitment to innovation. It’s fair to say the sector was also helped by a favourable macroeconomic environment that, combined with the market resonance of fintech products, contributed to the overall growth of investment in the sector.
Fintechs have always set out to address customer problems that have not been resolved by traditional financial institutions. By developing innovative solutions to improve things for the end user, fintechs gained further attention and achieved tremendous growth – attracting more investment into the sector. The pandemic accelerated this growth substantially and brought forward digitisation by several years, as well as proved that e-commerce, mobile banking and digital transactions are here to stay.
However, in the first quarter of 2022, funding to fintech companies fell by 18 per cent, representing the largest percentage drop since 2018. This was mostly caused by rising interest rates, which reduced the valuation of fast-growth technology companies. This in turn led to less funding arriving in the fintech ecosystem, while the threat of a recession and the ongoing cost of living crisis have exacerbated this issue further. These economic challenges represent an additional financial burden for fintechs and have led to new operational challenges, such as growth uncertainty as a result of the recession and additional cost pressures due to inflation.
Nevertheless, in times of difficulty, fintechs have shown that they can drive financial innovation – fintech as we know it was born in response to the 2008 global financial crisis. This time, however, fintechs will face a real test that will separate those who are prepared from those who aren’t.
Fintechs must reprioritise to survive this economic downturn. Growth at all costs is now no longer the main driver. The new focus should be on sustainable growth, managing cash burn to extend the runway and setting a credible path to profitability.
Though innovation was still at the core of investment objectives, towards the end of 2020 and in 2021 the emphasis shifted to rapid growth above all else. Fintechs could sustain longer periods of loss-making operations as they acquired customers and attempted to scale, funded by continued venture capital investment.
Today, the emphasis continues to be on innovative propositions addressing meaningful customer problems in a large addressable market. However, the financial expectations are now also on sustainable growth and judicious use of cash to advance expansion. This can take the form of developing products to better serve the existing customer base, improving monetisation or holding onto customers for longer. In our current financial climate, this is likely a safer bet than investing in new capabilities outside of the core business or target market.
Fintechs emerged from the 2008 crisis and transformed the financial industry fundamentally. During COVID-19, fintechs once again rose to the challenge and helped individuals and businesses through the pandemic.
Today fintechs can once again thrive as the underlying drivers of demand of the past, despite the market downturn. An example of this could be continued support for financial inclusion and the underserved segments of the market which remain present. Fintechs have previously demonstrated that they can launch compelling products and services to market more quickly than incumbents. The only difference today is that the current challenging macroeconomic environment has raised the bar on what it takes to succeed. The best fintechs, however, will embrace the challenge and build an even better, more sustainable business as a result.
B2B-focused fintechs and neobanks offering expanded access to lending, such as revenue-based financing, scalable payment solutions, like payroll processing, and expense management platforms, are more likely to come out as winners. Due to the changing market circumstances, both on the customer side, with consumers facing a cost-of-living crisis and a recession looming for businesses, and on the market side, with the increase of interest rates, new innovative propositions to address the challenges of today’s market are desperately needed.
Ultimately, fintechs will have to navigate this crisis with caution and adapt to meet these new challenges, not only to survive but also to trigger a new wave of innovation suited to today’s challenges.
The views and opinions expressed are not necessarily those of AltFi.