Neobanks emerged as a banking alternative for the underbanked as well as a partner for tech-savvy first-movers. Since there are no overhead costs associated with maintaining physical branches, there should be no reason for neobanks to not offer cost-effective products and services and a superior customer experience. However, even with their many advantages, neobanks still seem to face a tough battle.
We spoke to Dr Ozan Özerk, the founder of OpenPayd, European Merchant Bank, and Ozan SuperApp to examine the reasons many neobanks are struggling. A serial entrepreneur with a long track record of successful startups, ranging from social media to financial technology, Dr Ozan Özerk is the perfect guide in the world of international banking and innovative financial services.
Q: What do you believe are the main strengths and weaknesses of neobanks?
Dr Ozan Özerk: Neobanks are payment or e-money institutions that operate with the assistance of third parties, such as traditional banks. However, a handful of neobanks actually do have a credit institution licence, and therefore are real banks. While, in general, this reduces their dependence on third parties, the reliance isn’t eliminated entirely.
Most neobanks have competitive pricing, good technology and are built around a user-centric mobile application. This makes it easy for users to consume the provided services. Well funded neobanks are making a big impact in the B2C space, but gradually also in the B2B space, since they have little legacy technology or old balance sheets to take into consideration.
The problem is, that on the B2B side, most neobanks aren’t properly banked themselves. This means that the primary benefit for a business to engage with a neobank is an easier signup process, competitive pricing and Banking-as-a-Service (BaaS) or embedded finance. I am hopeful for the future of B2B neobanks specifically, as I see more and more of them getting proper correspondent banking relationships.
When it comes to B2C neobanks, I’m less optimistic. While most of them are contributing positively to inclusion by helping unbanked and underbanked consumers receive fair service, from a commercial perspective I see some fundamental challenges with their business model. Their revenue model is very vulnerable.
Q: Do you think neobanks will survive?
Dr Ozan Özerk: I have a rather pessimistic prediction for this, and it’s that a majority of them will fail.
Most B2C neobanks basically consist of a debit card from Visa or Mastercard and a mobile application. Due to the focus on growth and fierce competition, card fees are very low and foreign exchange earnings are, in fact, next to nothing. This means that all of the typical income streams like currency exchange fees, transaction fees, monthly fees, and dormancy fees are virtually nonexistent. This undoubtedly puts pressure on their business model.
Instead, their business model typically relies on two revenue streams: first, persuading end-users to upgrade to a premium account for a monthly fee, with additional perks like a metal card. And secondly, sell more types of financial services through the mobile app, such as cryptocurrency trading, insurance, lounge access, and loans. Unfortunately, I don’t think basic users will switch to a premium account. Basically, there aren’t enough reasons for the vast majority of users to upgrade their accounts.
I believe many neobanks are confident that they will be taken over by traditional banks or complementary institutions or that they will simply stay in the game long enough for the competition to fail. Then they can establish a dominant presence in the market and adjust their prices accordingly.
Q: How are neobanks coping with the effects of the COVID-19 pandemic?
Dr Ozan Özerk: I believe it has made the future of many neobanks uncertain.
Those without a banking license, and especially those targeting consumers, struggled while those that actually have a banking license and primarily are targeting B2B saw some traction. This, I believe, is a strong indication of how susceptible their business model is. Before the pandemic, most of them invested extensively in marketing but did not see the return they expected owing to fewer opportunities to collect card fees or upsell other items, such as premium account services and insurance goods.
Most neobanks are still reliant on large amounts of capital and a cash-intensive business model. I believe the pandemic signals the end of the investment bonanza that has characterized the fintech industry over the last 4-5 years. I expect a market correction, and neobanks and other fintech will undoubtedly feel its impact.
Q: How will OpenPayd close this gap and solve the challenge around international payments?
Dr Ozan Özerk: At OpenPayd, we are trying to build a network of networks and support this activity with a whole range of financial licences across the world.
SWIFT is obviously important, but we’re also adding other key networks such as BACS, Faster Payments, CHAPS, and SEPA. By being in the middle, similar to a switch, OpenPayd can take the shortest path between the sender and the receiver, frequently crossing numerous networks.
We’ve been fortunate to form strong relationships with traditional banks, exchange houses, remittance companies, and local payment institutions. They are all assisting us in reducing the time and expense of our clients’ transactions while keeping our uptime 24/7/365.