How Banks and Credit Unions Should Select Fintech Partners

It's amazing what sheep US businesses are.

Thirty years ago, in practically every organization in every industry, "reengineering business processes" was at the top of the list of strategic initiatives. Five years later it was "knowledge management." Five years after that everyone had to become--or find a way to launch--a dot-com. Today, it's "digital transformation."

For many financial institutions, "partnering" with fintech startups and creating innovation teams (and even "labs") are part of those digital transformation efforts.

Every time I hear a bank or credit union talk about partnering with a fintech, I think of that famous Jack Nicholson line from the movie A Few Good Men. You know the one I'm talking about--where he says "You want partnerships? YOU CAN'T HANDLE PARTNERSHIPS!"

Or something like that.

When I hear a mid-size bank or credit union say they want to enter into fintech partnerships, I ask them how many full-time people they have dedicated to the effort, and what skills and experiences those people have in identifying, negotiating, and monitoring partnerships.

It's a quick discussion because there are no partnership people to talk about.

Two Questions to Answer

But...if you're committed to partnering with fintech startups, you have two questions to answer:

  1. How do we make sense of what's out there? and
  2. How do we figure out who we should be seeking out?

A white paper titled The Innovation Mechanisms of Fintech Startups provides a framework that banks and credit unions can adapt to help answer these questions.

Fintech Clusters and Value Creation Strategies

The authors analyzed fintech start-ups who participated in SWIFT’s Innotribe competition, using cluster analysis to create a foundational understanding of the structure of the fintech landscape. They identified six clusters (as they called it) to group the fintech startups:

  • Payments. Startups in this cluster typically focus on growth in electronic and mobile commerce, international remittances, driving socioeconomic development in emerging economies.
  • Investment/asset management. Characterized by firms focused on the buy-side of capital markets, concentrating on investment advice and portfolio management services.
  • Finance/credit management. Populated by firms innovating around traditional lending and credit services (including provisioning and management) for consumers and businesses.
  • Microfinance/crowdfunding. Focused on the provision of non-traditional lending services with funds provided by non-banking entities.
  • New banking. Predominantly characterized by firms innovating and re-imagining traditional banking services for consumers and businesses, like Magna/ who offers mainstream and secure banking services for cryptocurrencies.
  • Personal financial management. Includes activities focused on managing individual and family finances, tax planning, bills and invoicing for the self-employed and micro/small businesses.

More interesting (IMHO) is their categorization of startups' value creation strategies, which include:

  • Disintermediation. The ability of customers to interact directly with suppliers of services or products, without requiring the services of an intermediary who was previously essential to the transaction. In practice, however, disintermediation often takes the form of a new entity inserting inserting itself between buyers and sellers.
  • Extension of access. Refers to the provision of technological innovations to restructure the flow of financial information to engage new participants in financial services and markets. For example, through advanced analytics and AI, startups may reduce the costs of investment services and thereby extend access to those who find the costs associated with a human financial advisor prohibitive.
  • Financialization. Encompasses the emulation of financial services to create new forms of competition and collaboration by mimicking the structure and discipline of financial markets and "financializing" information flows and channel them in ways which create new forms of value. For example, crowdsourcing platforms emulate stock markets and the provision of bid and ask prices for new equity or debt-based assets. Furthermore, they compete with traditional forms of entrepreneurial financing.
  • Hybridization. Refers to the blending of business models, products and services which were previously separated, to facilitate innovative services.  For example, to compete with incumbent remittance infrastructure providers, Bitspark "hybridizes" a cryptocurrency exchange, a remittance service and business-to-business payments that would otherwise be regarded as discrete services.
  • Personalization. Includes strategies where value is created through merging and analyzing different streams of financial information flows to create a personalized service.

The Easy Part: Customizing Clusters

So what should a bank or credit union do with those definitions of clusters and value creation strategies? The first step is to modify and adapt the list of clusters.

For example, payments might be broken out into sub-categories like B2C, B2B, P2P payments and disbursements--or limited to some subset of those sub-categories.

I would also suggest re-defining, or adapting, the "new banking" cluster (personally, I have trouble getting my head around that one). Maybe "new banking" could refer to new ways of doing existing processes (i.e., digital account opening) instead of referring to an industry segment.

The PFM category begs to be split out as well, especially with the emergence of AI-driven automated savings tools.

The Hard Part: Mapping the Fintech Space

The next step--and hard part--is mapping potential fintech partners to the matrix. The authors of the report did this with participants in the Innotribe competition:

Why do this mapping exercise?

  • To internalize the value drivers. The team you commission to complete this exercise will (and should) get into a lot of discussions (translation: arguments) about which cells in the matrix any particular startup belongs in. That's due to two things: 1) Any one startup may overlap value creation strategies, and 2) The team will have different interpretations of what the value creation strategies entail. The latter is a good thing--discussing and resolving those differences in opinions before you get to the next stage will prove very helpful.
  • To enable prioritization. If there are blank cells in your matrix after you've mapped fintech startups, it means one (or both) of two things: 1) You didn't do your homework sufficiently, and/or 2) That cell simply isn't very important to your organization.

The Harder Part: Identifying and Prioritizing Partnership Opportunities

With the hard work of mapping startups into the cluster/value creation matrix strategy done, the even harder part of prioritizing begins. Why is this so hard? You have to decide:

  • Where are the biggest opportunities from a market perspective?
  • Which value creation strategies have the best opportunities of success?
  • Which value creation strategies best align with your organization's strategy?
  • Which value creation strategies best align with your organization's capabilities?
  • Which potential partners have the best prospects for success?
  • Which potential partners would actually make good partners?

These aren't easy questions to answer. I can't imagine that going through this process is quick, cheap, and/or painless. But I also can't imagine making fintech partnership decisions without going through this process.

Apply This Approach to Your Innovation Strategy

Many financial institutions aspire to be more innovative, and often start with exercises to "ideate" and "brainstorm." What a colossal waste of time and effort (usually).

Improving the innovative capacity of the organization needs to start with the same steps as the partnership decision process does--by defining the clusters and value creation strategies.

But instead of mapping fintech startups to the matrix and assessing the partnership opportunities, you identify the market gaps and potential, and assess your organization's ability to fill those gaps and realize the potential opportunities.

Then you can start ideating and brainstorming if you want, but my bet is that by that point, you'll have much clearer picture of where to go and what to do.

It's About Strategy, Not Partnerships

The problem with all these efforts to find fintech partners is that it puts the partnership horse before the strategy cart. The reason I'm advocating for the described approach to selecting a partner is that if forces a bank or credit union to take a more strategic view of the industry and the opportunities and threats that exist. Not a lot of financial institutions do that well.

Ron Shevlin
Director of Research
Cornerstone Advisors