“After the financial crisis 10 years ago, unhappy customers were expected to flee the megabanks for smaller competitors. It didn’t happen. And the big banks became even more entrenched. Now another wave of alternative banks are at it again, and they say they’ve learned from the mistakes of the upstart banks that tried — and failed — before them,” The New York Times’ Nathaniel Popper writes in a 2018 article. His sentiment couldn’t ring any truer.
A quick recap on neobank history: digital-only challenger banks, aka neobanks, broke into the market a few years ago in response to the rising demand for simple, quick and hassle-free online and mobile services. And they seem to be doing quite well for themselves: in the first five months of 2018 these newcomers snatched $495.5 million in funding in Europe alone. London-based smartphone-bound challenger Monzo, for instance, has seen $150 million in funding from investors and boasts close to 900,000 customers. In its first round of crowdfunding in 2016, it raised £1 million in 96 seconds.
So neobanks came, they saw – but will they conquer?
Users love neobanks for many reasons
Well, if there’s one thing they are conquering, it is customers’ hearts. Why? Challengers’ appeal to users deeply roots in their ability to challenge traditional banks’ old-school business model by charging customers low and transparent fees, while offering faster services and a better user experience. Of course, in an age where you can access virtually any product or service at just a tap, is it any wonder?
Convenience, in fact, is the number one reason why users switch to neobanks in the UK, which has seen the most buzzing challenger bank activity in comparison to other regions. About 9% of British adults, totalling 4.5 million people, have already opened an account with a digital-only bank and another 16%, an estimated 8.5 million people, plan to do so in the next five years.
That’s quite impressive once you realise: it’s not what they’re selling that is new. It’s how they go about selling it. Just last year, customer experience research firm Temkin reported that 69% of customers who were on the brink of leaving their bank cited poor service, rather than poor products, as the primary reason for the breakup. And more than half of them said their bank put zero effort into keeping them. Ouch.
Neobanks, on the other hand, do everything they can to acquire them, benefiting big time from customers’ frustration over traditional players’ uncompetitive pricing, unexpected fees or not-so-user-friendly services. If these issues are not dealt with in the very, very near future, the top 10 retail banks in the US can lose $16 billion of revenues, $344 billion of retail deposits and 11% of their clients to rivals, including digital-only players.
Brace for the next wave of expansion
Fintech startups in banking are moving fast, having already won over more than 15 million users in total. What’s more, nearly 9 million of them were wooed by digital-only banks that are out of the reach of both traditional banks and big tech companies.
This hefty customer base is expected to become even heftier as several players, like Revolut in the UK or Xinja in Australia, obtained banking licences in late 2018 and plan to roll out full current accounts and more profitable lending products soon. Others, like Germany’s N26, are eying expansion into new geographical markets, including the US.
Building scale has been a priority for many neobanks, even if it affects profitability. And whether or not digital-only players will be able to turn their ever-increasing customer bases into sustainable profits in the longer term remains an exciting question. But investors do see a big story in challenger banks, no doubt, having poured more than $2.8 billion of capital into these startups globally since 2014, including a whopping $745.4 million in the first quarter of 2018 alone.
All in all, digital disruptors, including neobanks, have clearly started eating away at the revenues of incumbent financial institutions. About 20% of the 6,800 financial services companies doing business in Europe in 2017 entered the market after 2005, including 100 newly licensed banks and about 80 fintechs. These new players have already bagged 6-7% of total European banking and payment revenues, mounting to an estimated €54 billion in 2016. And show no sign of flagging.