The rise of the FinTech sector has brought unprecedented disruption to the financial services industry. A range of fintech start-ups is providing technology that will not only revolutionize how businesses work but also how customers communicate with their banks. FinTech is radically transforming the financial sector from back-office activities to new digital platforms for customers.

Mobility explosion is one of the principal axes in the FinTech sector. Smartphones, smartwatches, tablet, computers, and other connected gadgets are part of the everyday fabric. They changed the way customers communicate with banks, retailers, and other businesses. Improved security protocols, biometrics, online payment apps, artificial intelligence (AI), machine learning (ML), and blockchain, for example, are enhancing customer satisfaction and operational efficiency.

It comes as no surprise that FinTech’s disruptive potential leads to increased investment. Between 2014 and 2017, FinTech firms earned approximately USD 1.5 billion investment per year in the finance, insurance, and wealth management sectors, according to KPMG. KPMG is a global network of professional firms providing audit, tax, and advisory services. 2018 was also a space-related record year, with about USD 41.7 billion invested across 789 transactions in the first half of the year alone, stated FinTech Global.

Furthermore, PwC’s 2017 global FinTech report found that about 56% of financial institutions have positioned digital innovation at the core of their corporate strategy. About 82% of respondents expect FinTech collaborations to grow in the coming years at a faster pace.

The UK and the US led the way. The UK saw about USD 16.1 billion worth FinTech investment in the first half of 2018, approximately USD 2 billion more than the US’ total of USD 14.2 billion, as per KPMG (Klynveld Peat Marwick Goerdeler) report. The UK witnessed four of the ten largest FinTech deals worldwide during that period.

Factors responsible for M&A preceding the crisis

The fintech sector saw an active start in the 2020 market, followed by an effective 2019.

For instance, for financial services, companies hit new records with 368 deals worth USD 9.6 billion in 2019, according to CB Insights corporate venture capital (CVC) sales. Fintech bank investors were more active in 2019 than in 2018, while insurance companies stayed steady with insurtech investors in 2019 compared to 2018.

In general, fewer early-stage fintech start-up investments have been made, with a higher focus on later-stage and larger investments in more mature fintech, including investments in more unicorns (more than USD 1 billion worth of companies). American Express, Citi Ventures, and Goldman Sachs are amongst the investors who led the charge with multiple minority investments in unicorns and other later-stage fintech.

A growing trend saw financial institutions entering into bank/fintech platform transactions whereby the fintech provides technology-related services or customer-facing white label services to the financial institution to, for example, originate unsecured personal or small business loans. These bank/fintech partnerships might or might not include a minority investment by the bank in the fintech.

There are various factors responsible for driving FinTech deal-making as well as for rising asset valuations. Continuous acceptance of online payments, digital banking, and financial data services by consumers and businesses is growing at a faster rate. Financial investors and organizations look at FinTech as a streamline for back-office operations, thus improving their digital customer experience and cost-cutting. FinTech can also help improve efficiency in data handling and management by providing better interconnectivity between applications, which reduces confusion.

“The future for FinTech M&A looks robust, though there will be challenges along the way.”

Financial institutions have also learned that they need not be dependent completely on internal IT capabilities anymore. By driving a strategic partnership with specialized external organizations, they enter a digital transformation world. Mainstream financial institutions will continue to support digital transformation, with changing pace in the financial services sector.

Challenges in regulation

With the application of the Second Payments Services Directive (PSD2) and Markets in Financial Instruments Directive (MiFID) II, financial institutions are going through a continuous evolution regulatory landscape.

PSD2 was introduced in January 2018 to simplify the payments industry and increase competition. It needs the European Union (EU) account providers to offer personal data access to third parties, which could have a drastic effect on intermediaries, including Visa and PayPal. PSD2, thus, removed the ‘middlemen’ from transactions by creating ’Payment Initiation Service Providers (PISPs)’ that allows merchants and banks to communicate directly with each other.

PSD2 could create a paradigm shift for fintech firms, which would allow them to become third-party providers. Some have already started providing programs that help financial institutions cope with the regulation. As a result, FinTech firms will be switching from disruptors to transaction facilitators to enablers. PSD2 could be a catalyst for new FinTech space entrants, which could have an impact on the growth and valuations of M&A transactions.

Wrapping up

The future for FinTech M&A looks promising though challenges will be experienced along the way. Buyers need to address cultural, integration, and regulatory issues when acquiring a FinTech company. To successfully incorporate a FinTech organization, they must implement new societal standards and embrace a fresh attitude.

Even so, the deal market should remain competitive as FinTech hubs emerge in more jurisdictions, and as companies are turning more innovative and reducing costs.

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