By: Rutvij Thakkar
An Examination of the Commercial Viability of Financial Technology in Debt
In the past few years, fintech as a vocabulary word has become a catch-all term for any software that engages in the management, overview, distribution, or even general association with currency. Financial technology, however, isn’t anything new. It would be evident that technology goes to those who have a lot of resources or a lot of influence, which is why a lot of early technology came into existence under the government initially. It should come as no surprise then, that the financial industry has always leveraged technology because computing and data science is ever-important in a field where time is of the essence and accuracy cannot be sacrificed. In 1967, far before anybody even conceived the catch-all phrase we call “fintech” the first Automated Teller Machine was installed in London by Barclays which was capable of accepting checks and dispensing 10 pounds at a time. Since then, finance and the financial services industry has been permanently shaped by the development of technology (and obviously vice versa because there is no technology without financing). For example, no high-level financial services would be carried out without the database of Bloomberg or FactSet ($FDS), and no public market transactions would be carried out without the NASDAQ stock exchange ($ICE).
However, the greatest common denominator for all of these early financial technology developments has been the institutions. Of course, all financial services are constructed around the client so indirectly these systems have helped us, but they were never made with a consumer-centric goal in mind. ATMs were made so that banks would need less workers and carry out more transactions 24/7, FactSet and Bloomberg were made so financial institutions would have better data, and the NASDAQ was made so that exchanges could be streamlined and wouldn’t require brokers crowding the NYSE with pieces of paper. While all of these innovations benefit us because the financial industry serves us, it was made with the intention of making their operations better. None of these things add direct value to our life, they just add value to the institutions, which adds value to the economy, which then adds value to us. So let’s examine how the financial technology sector has been trying to make our relationship with our money easier.
At its inception, fintech was centered towards the institutions. The reason why fintech has become a catch-all for many services now is because it’s becoming consumer oriented, and that’s without strings attached to the institutions (at least for now). One place where we can see that this is the case is in digital wallets, which have taken developing nations by storm. About 90% of India and China have active digital wallets, whereas this figure is below one in two for most developed nations (Bloomberg). This is a telltale sign that financial systems are becoming democratized because both of the prior mentioned nations have very little development on the side of the institutions (Chinese and Indian bank trading numbers will never match the success of American Investment banks and hedge funds, neither will their M&A volume or interest yields) but have great exposure within the general populace.
Google trends shows that interest in the term “fintech” only started rising around 2016
Fintech has recently shown a great deal of growth in direct-to-consumer services which act as a beneficiary to sellers as well, but none of these are directly services made by the banks (although one bank may be looking to change that). Many upcoming fintech companies are so-called “buy now, pay later” services such as Affirm ($AFRM) and Klarna, which let consumers pay for goods in multiple installments with minimal or low interest rates. Fundamentally this makes sense. It’s a well known fact that most Americans are terrible with saving, with just 39% of Americans having >$1000 on hand to cover an emergency (CNBC). So it should be even more evident then, that most Americans don’t have enough on hand to buy luxury goods, and whenever they do it’s on credit.
Normally, this would be fine as long as credit card payments are made. In this economy, you’d probably be encouraged to make transactions on credit. However, the downside to this is that borrowers using credit cards may carry a balance forever, while the loans from Affirm and Klarna are paid off in a set number of payments. Meaning that the good you purchase becomes owned by you once the payments for the good are complete. I said earlier that the consumer interest rates are relatively low, and they are based on the riskiness of the product and consumer. This isn’t a great breakthrough, you’re not necessarily creating too much value with a model that’s as old as time and then slapping it onto a “.com” domain. Where fintech companies do shine though (I’ve mentioned this before with Square) is in their enterprise value creation. Companies want to sell more inventory, improve operating cash flows, and entice consumers with smaller numbers for big ticket goods. Affirm CEO said in a Bloomberg TV Interview “We are in the business of turning browsers into buyers, which is fundamentally a merchant service.”
When I said that fintech was becoming consumer centric, it didn’t just mean that the consumers would have all the gain. Affirm makes a great deal of their profits for their “finders fee” in the sense that they help sellers expand their audience. Merchants of the past did this exact same thing to generate profits, it was never about exploiting the buyer (this might be why Rent-A-Center failed so hard). Value was to be created in expanding the number of feasible transactions, not extracting more than the value of a good from each consumer. This service stays true to the nature of financial middle-manning, and the fact that Affirm gets more money from network revenues than interest shows their possible scalability. To my debt skeptics, the data also support this claim: “According to Adobe, “buy now, pay later” experienced 215% year-over-year growth in the first two months of 2021. Its researchers noted that more retailers are signing up — which makes sense given that consumers using the service place orders that are 18% larger than shoppers who don’t.”
This would make a company like Affirm more like Google rather than BofA, connecting consumers to what they want. However it would make Affirm a much lower-beta investment because interest rates are indeed consistent cash flows. A lot of these systems work on honor rather than credibility, and their practices are built around what’s profitable for them, so while a bank would keep your credit flowing for a while, as soon as you miss one payment for say, Afterpay (being acquired by Square for $29B), you wouldn’t be able to make any other purchases of this nature. The business is impeccably sensible and exposed to far less risk through this system, and because they only specialize in consumer transactions these companies don’t require as much infrastructure as a normal bank would take in order to offer these services (not to mention, they probably would never scale). The honor system also will help people budget for specific goods rather than foggy numbers that are difficult to track. The data collected by these fintech firms will then be used to improve their services.
Of course, if it’s a good business concept in principle, then there’s no way Affirm is the only publicly traded company in this space. PayPal is currently working with large e-commerce giants and has already made a working buy now, pay later service. While PayPal is more than capable enough to expand here, I believe that their integration isn’t nearly as widespread as Affirm’s when it comes to the website integration with any retailer. A surprising entrant into this race is legacy investment bank, Goldman Sachs ($GS). Goldman Sachs’ consumer banking brand, Marcus has already amassed close to $100B in deposits, and its consumer banking revenues grew by 41% recently. Apple has also tied the Apple Card, a futuristic credit card which uses primarily Apple Pay, to Goldman Sachs’ Marcus. It’s futuristic in many senses; it gives double the cashback if you use Apple Pay instead of the physical card, it can generate a virtual credit card number (the card comes with no fixed number) for security that can be reset with a tap, and it lets you track all of your transactions with a great deal of detail because of the seamless integration with the Wallet app in every iPhone you can see the time and location of every transaction. With such an elegant product and transaction volume growing at 4x the pace of PayPal, Goldman Sachs made a very intentional and intelligent decision by being a premier bank partnering with a premier network as Apple Pay could make up 10% of all card transactions by 2025. That being said, we are all very aware of how tremendous Apple’s network effect is, with all of their products basically complimenting each other in an ecosystem that will likely never be matched. This means people who already use Apple Pay will eventually see the utility in the Apple Card. Of course, the world isn’t immediately ready for every Apple innovation (even the Airpods which have exploded in popularity initially had their fair share of critics) but we can expect that the Apple effect will run its course on this product as well.
The bigger news that ties in with our theme is that Apple and Goldman Sachs are developing a buy now, pay later platform in order to win more consumers for their ecosystem, and of course now is the best time for programs that improve spending (at the cost of currency strength).
Bloomberg details this below:
“The service is currently planned to work as follows: When a user makes a purchase via Apple Pay on their Apple device, they will have the option to pay for it either across four interest-free payments made every two weeks, or across several months with interest, one of the people said. The plan with four payments is called “Apple Pay in 4” internally, while the longer-term payment plans are dubbed “Apple Pay Monthly Installments.”
When making purchases through an Apple Pay Later plan, users will be able to choose any credit card to make their payments over time. The service is planned to be available for purchases made at either retail or online stores. Apple already offers monthly installments via the Apple Card for purchases of its own products, but this service would expand that technology to any Apple Pay transaction.”
All this is just additional infrastructure to their market-dominant strategy, which will set them up for taking advantage of this growing market and win over new customers for the main course, which is the Apple Card. The amount of data this would allow Apple and Goldman to access would be unprecedented, and it will definitely set up these companies to leverage this data into their own services. At surface level it does seem unethical for Goldman to use consumer banking data for investment banking decisions, however this line has been blurred many times before and you know how the saying goes “it’s only wrong if you don’t get caught”. In the same way the debt financing divisions had great influence over transactional banking, Goldman’s data would be an absolute goldmine and of course it would only be complimentary for Apple. While Apple doesn’t use your data to bother you with targeted advertising, they definitely integrate it into their applications and software to create more consumer utility. This isn’t as clandestine as Google’s or FaceBook’s use of data or even as immoral because it’s all for internal improvements, however we can be assured it will help their bottom line.
