Where will 2023’s Fintech M&A happen?

Among the many “predictions” written over the past few weeks, the suggestion that there will be an increase in mergers and acquisitions (M&A) in the fintech industry in 2023 has been widespread.

Techcrunch pointed to the likelihood of consolidation among smaller neobanks, Sifted’s roundup of industry expert opinions contained two predictions of more mergers and acquisitions, and Verdict’s piece contained no fewer than four perspectives that echoed the sentiment.

The general consensus seems to be that the macroeconomic environment, i.e. higher interest rates, more cautious VC activity and widespread slowdown in growth or full recession, will cause fintechs to look for a quick exit. In turn, that will result in companies’ increased willingness to merge with, or be acquired by, larger peers — as opposed to the more popular options of recent years, which were raising funds to drive growth, or a public exit.

In which segments is M&A activity most likely?

The obvious candidates are: Banking-as-a-Service (BaaS), Buy-Now-Pay-Later (BNPL) and Neobanking, and here’s why.

BaaS

Many have bought into the idea that “every company will be a fintech company,” a concept facilitated by BaaS that, in short, allows banking licensees to white label their core products and have them distributed by third parties. A classic example of this is Apple’sAAPL
credit card, which is provided by Goldman Sachs, but unlike a traditional C0 brand offering, Goldman’s brand is secondary to Apple’s.

On top of the basic premise of BaaS, a whole industry has emerged with companies offering increasingly specific parts of the value chain, from individual products such as lending, credit cards and payments, to key operations such as user interfaces and compliance specialists.

This has resulted in a very, very, very, crowded BaaS market, with potential buyers struggling to understand what each provider offers, where they overlap, and to some extent, what BaaS actually means. We’re already seeing companies respond to that, as more established providers expand across the value chain to offer end-to-end services and make them a more obvious choice for confused potential customers — Marqeta has expanded from card issuing and processing to broader banking, for example.

Marqeta built the additional functionality itself, but there will be others of a similar scale, and larger, who want to increase their offerings quickly, and for them acquiring smaller, more niche players is an obvious choice.

Other companies, lacking the capacity to expand, will struggle to differentiate themselves in a crowded market, and with funding to expand runways increasingly hard to come by, they will provide the supply side of the equation. An example of this has already emerged, as European Railsr – an early market entrant – is reportedly up for sale amid financial difficulties.

There’s also the fact that regulation for the BaaS space is coming soon in the US, and there will be some companies that just can’t handle the compliance burden – making them more willing to look for an exit.

Buy-now-pay-later (BNPL)

The BNPL market is similarly crowded and, to be fair, a certain amount of consolidation has already occurred – Australian incumbent AfterPay was acquired by Square, while smaller providers are increasingly looking to merge or pull out of international markets, particularly the UK.

The next phase of the segment’s evolution is likely to see these trends accelerated as banks either build their own solutions, increase competition in the market, or look to buy a solution to launch an offering quickly.

At the same time, BNPL suppliers’ business models will be tested as recession bites and more customers, with less ability to pay, turn to installment payments as a way of trying to make their money go further. This consumer behavior has already been noted in the UK, with data from fintech Snoop showing that the use of BNPL is up across all age groups, while the number of people unable to pay bills is also increasing.

Further pressure on BNPL companies is coming from regulators, particularly in the UK, as warnings about the need for customer protection, clearer terms and conditions and reporting to credit bureaus solidify in legislation. It is a double-edged sword, with providers having to find the resources to ensure compliance, while being limited in the ways they can make up repayment shortfalls due to government displeasure with late fees.

The result will be a fintech segment that looks very different in 2024, with fewer fintech players and a wider range of payment options.

Neobanks

It is a truth universally acknowledged that there are too many digital banks, especially across Europe and the US, and yet new ones keep popping up. This is interesting in a market where many previous players – Dusinvis (UK), Xinja (Australia), Volt (Australia), Glorifi (US) to name a few – have already pounced, and even Goldman Sachs’ retail offering only digital , Marcus, has not turned out to be the digital pioneer the bank had hoped.

As we enter the new year, and the changing economic environment, it is likely that we will see more of the closures and fewer of the newcomers. That’s because it’s expensive to run a bank, far more expensive than most other types of fintech — especially if you have a banking license and are subject to capital requirements. Even if you don’t, unless you’re a lender, it’s hard to make money.

In Europe, consumers are not used to paying for banking services, and the startups that have tried to change that behavior have struggled. Exchanges are also restricted in the region, reducing companies’ ability to monetize transaction fees, and while this is not the case in the US, making exchanges a valid source of income there, too many startups have relied too much on it.

Even for those who lend, hard times are coming – as mentioned above, guarantee models from new market participants will be tested, while those without access to cheap capital (ie deposits) will struggle to find funds to distribute to customers.

The result will certainly be more closures, but also increased mergers and acquisitions, especially from established banks looking to leverage brands that have successfully acquired customers, as well as for modern technology stacks that can support stand-alone offerings. Acquisitions are also likely – banks are looking for talent, and as the fintech industry falters, there will be people seeking the relative security of working for a big bank amid cost-of-living crises.

M&A across the board

These are the biggest and most obvious segments where increased mergers and acquisitions will occur over the next 12 months, but it will affect companies in all areas. Big banks should start drawing up a shopping list, if they haven’t already, but also think long and hard about how to support a fintech collaboration or acquisition to succeed — there are plenty of examples of failure.

Larger fintech and technology providers, meanwhile, will likely have a better idea of ​​how to incorporate a colleague or competitor into their organization, but again should be wary of trying to force square pegs into round holes.