Banks, especially Challengers and Neobanks, are redesigning their business models around customer-centricity. These banks are challenging the universal business model through low-cost structure, feature-rich products & services, and easy accessibility. Also, Platform-centric models via Open Banking APIs, Artificial Intelligence and, thereby, a superior customer experience, are enabling Neobanks to expand their user base, growing commission income and offering increased potential for data monetization.
At the moment, disruption remains significant for retail and basic business banking services, which are transactional in nature. For additional services such as loans or wealth management, most of the existing Neo and Challenger banks currently address only part of the value chain. Despite their limited product offering, the demand-pull for Neo & Challenger Banks is rooted in their ability to offer a faster and more transparent model. This includes lower fees, superior CX and life-goal-oriented value proposition aimed at improving household and business financial wellness.
For brick and mortar banks, the biggest threat comes from full-stack neobanks such as Monzo, Starling Bank, N26 or Revolut, just to name a few. Armed with an asset-light business model, proprietary or third party technology systems and, in most cases, a banking licence, they begin controlling most of the value chain from front-end to back-end. Neo & Challenger Banks are creating an ecosystem of services around their infrastructure, shifting the banking value from branches to their API layer. They are reshaping the business model by offering Banking-as-a-Platform.
What makes Neo & Challenger banks different?
Neo & Challenger banks are challenging the universal banking model with their lower costs, personalized insights, predictive intelligence, user-friendly interfaces, easy accessibility and simplified processes.
Superior Customer Experience: Neobanks prioritize customer needs and circumstances by structuring their products and services in a way that empowers their users instead of punishing them.
- Smart Money Management features focused on PFM with real-time insights. Challengers such as N26 or Revolut offer integrated spending and saving analysis, control functionalities and send push notifications on accounts activity.
- Use of AI models and analytical engines to enable faster decisions. For instance, Lidya uses nearly 100 data points to assess the credit worthiness of applicants. In the business lending space, Iwoca is also putting AI and data analytics to good use, allowing customers to access financing in seconds.
- Leverage on interchange-fee models to minimize customer-facing fees, such as monthly fees, minimum balance fees and overdraft fees. Chime and N26 are generating revenue from interchange fees by sharing a portion of the 1.5 per cent fee charged to merchants with card networks.
Convenient Services: Digital-only banks are creating convenient ways of accessing banking needs by tapping into the local ecosystem, collaborating with technology start-ups and embedding AI-based banking capabilities into their offerings.
- Location-Agnostic Banking by adopting anywhere / anytime models. Banking activities are conducted through digital channels as against physical branches with round-the-clock access. For instance, Challengers such as N26 or Revolut send their debit cards across the globe with no extra-charge.
- Embedding banking ecosystem by partnering with local / global banks and fintechs for product cross-sell. Services integration model allows bundling banking services through tight-knit integrations.
Simplified Processes: Contender banks are helping users save money, especially on international transactions, and to better manage their finances, all without physically transacting with a bank or a person.
- Seamless customer onboarding experience by opening user accounts via mobile within a few minutes and with minimal data requirements.
- Low Cost Exchange Rate on international purchases / transfers using the mid-market exchange rate. For instance, Revolut customers can spend in more than 90 currencies at the best exchange rate with no fees.
- Zero-Free ATM Withdrawals & Savings. In this space, it is worth mentioning Chime who has a network of more than 40,000 free ATMs, or Revolut offering free withdrawals in ATMs from more than 230 banks around the world. Regarding savings, challengers such as Xinja or Revolut perfectly combine real-time payments with automated savings without having to open a separate account.
How do Neo & Challenger banks compare in terms of performance?
As high street banks have been slower to adapt to new technologies and changing customer needs, start-up digital banks have been amassing a large user base who are actively using their services. Monzo, Revolut and Starling Bank, in particular, have acquired a million-strong user base with total transactions amounting to billions of USD. However, not all the Neo & Challenger banks are enjoying stellar performance. For instance, digital banks such as Lydia, Loot or Tandem only account for a few hundred thousands customers since their foundation. While customer acquisition seems to be exponential for these companies, it is important to take a closer look at other metrics.
Revenue per customer. In this area, Revolut led the pack, earning 31$ per customer per year, followed by Starling with 28$ and Monzo with 26$. This is mainly because Revolut´s ability to pull in paid users via subscription and also because it is most active in non-European markets where interchange fees are higher. Also, it is worth mentioning Revolut´s strength in pushing out new products and features quickly. On the other hand, in Revolut´s case, the cost of running each account is still larger than the revenue each customer generates, meaning they still have a negative gross margin.
Deposits per customer. Starling leads here, pulling in around $1,400 per user, largely due to its headstart in business banking, where deposits tend to be larger. Monzo is in second place with $500 average deposit per user. Revolut follows right behind with an average monthly deposits of $400, however they are gaining track thanks to stock and cryptocurrencies trading services.
Profitability. Starling is also leading here by achieving break even, an encouraging neobanking milestone. With nearly 2 million accounts, Starling generated $11 million of revenue for the month of October 2020, which represents an annualized run rate of $130 million. This is thanks to its diversified revenue stream which includes fees from business accounts, a handful of Banking as a Service (BaaS) customers and interest fees from lending. In the case of Revolut, its turnover grew by 2.8x while its operating expenses grew by more than 3x, due to rapid international expansion. For Monzo, they began earning positive contribution margins per customer last year, however they still operate at net loss.
Valuation per customer. If we look at the unicorn valuations of these companies, they are priced on a per user basis valuation somewhere around $1,000. The only exception to this is the case of Monzo, with a valuation per user below $400, due to the last round of cash from investors at an almost 40 per cent discount to its previous fundraising. However none of these fintech´s unit economics are particularly compelling relative to their valuations. How do you go from $30 a year per customer in revenue, most cases at loss, to $1,000 per customer in enterprise value? Challenger´s management teams and investors know the answer, and this is on Customer Lifetime Value.
In the upcoming second part of this article, we will analyse how traditional banks can compete with these successful business models that are currently being used by Neo and Challenger banks. Through methods including leveraging to increase the client’s customer lifetime value, stay tuned to find out how brick and mortar banks are hoping to differentiate and improve themselves.
If you are interested in finding out how Strands can help your bank, or if you would like to get a Free Demo of our AI-powered Financial Management solutions, please fill out this form and one of our Sales Reps will get back to you as soon as possible.