Updated: Apr 26
Digital Banking's ongoing rise, as well as that of Open banking, is dissolving Banks’ Monopoly on consumer Financial data, democratising and improving financial services for people around the world. As the popularity of Digital Banking increases, so does the competition. Companies must continually work to differentiate themselves in their market by establishing a clear Unique Selling Point (USP), but must also know how to duly adapt this USP to new markets.
In this blog we take a closer look at Monzo, Revolut and N26, three Neo-banks that have attempted expansion in the US, each one with a different story. Monzo applied for a banking licence in the US and withdrew its application after more than two years of negotiations. Strange. Meanwhile, Revolut launched in the US without first applying for a licence, and has only done so recently after its proven success in the North American market. N26, a licenced European bank from Germany, launched in the US without a local licence, but left the market at the end of last year.
For Revolut and N26, expansion is key to their growth strategy, and have often “barely unpacked” before targeting the next overseas market. Revolut’s launch in Australia occurred only 5 months after its arrival in the US, whilst N26’s original plans to launch in Brazil were released a mere 5 months before its own US opening. Although N26’s original plans were delayed due to the pandemic, global trends in Digital Banking have accelerated as a result of the crisis, and now companies are rushing to get access to markets.
But why the rush? And what does “successful” expansion even mean?
The below graph looks at ten different Neo-banks operating across the UK, Europe, North and South America, Singapore, Japan and Australia. The graph shows that Nubank and Chime enjoy the highest revenue of the ten, yet Nubank is only licenced for Brazil, and Chime is not even a licenced bank, but a lending and credit services FinTech. The size of their respective markets (United States, Brazil, Colombia and Mexico) equated to just over 700 million people in 2022, compared to the 1 billion that Revolut now has access to through the United States, United Kingdom, Europe, Australia, Singapore and Japan. Revolut is a licenced bank in 28 of these countries, allowing it to further diversify revenue by providing credit, rather than relying exclusively on income from interchange, withdrawal and subscription fees.
There are advantages and disadvantages to both strategies
Chime and Nubank now dominate their markets and have become household names. They have perfected their product offering and know their markets back to front, and have focused on establishing a dominant position in markets with vast customer potential before moving abroad. In the case of Nubank, consolidating presence and customer growth in Latin America is its key objective, the reason for its expansion in the three most populated countries and to the largest financial market in the region.
Revolut and Wise on the other hand, with access to more people, are earning less. Back in 2018, Revolut’s losses doubled as it pushed for overseas expansion, but as CEO Nicolas Storonsky said in a 2021 interview with the Financial Times, “We’re very risk-averse with our credit portfolios…We decided to grow [the loan book] much more slowly because there was no need to rush the products.” Evidently, getting access to global markets is a priority for Revolut that comes before launching elaborate product offerings or reaching profitability. Wise is not a bank, but provides "bank-like" services to all countries but Australia, where it holds a banking licence and is registered as an Authorised Deposit-taking Institution. In all of the other 80 countries where Wise offers remittances, it partners with banks to hold deposits. It has been profitable since 2017 and has access to just shy of one billion people around the world. Both Revolut and Wise are establishing themselves as global financial brands before launching elaborate banking services to their customers.
Successful expansion, therefore, does not necessarily mean becoming the dominant FinTech for the targeted region, but being able to access a number of different markets in order to establish the groundwork for future growth and revenue diversification. For FinTechs looking to attract investors and high valuations, expansion is important as it is a reflection of potential, exemplified by the 2021 valuation for both Revolut and Chime, at $33 billion and $25 billion respectively. We do not use Nubank for comparison here (at over $40 billion) as it is a publicly traded company, unlike Revolut and Chime.
Market trends in the USA
For banks like Monzo, Revolut and N26, which are most familiar with British and European customers, North American banking habits are quite different. Marqueta’s report using Propeller Insights compares the UK and US markets.
The report concludes that the US market leads the way in FinTech adoption but is slower to abandon traditional banks entirely. Many US residents use prepaid cards as a compliment to their longstanding accounts, and are more concerned about privacy than UK residents, being 39% more likely to pay in cash purely in order to leave no transaction record. Stricter FDIC regulations may have created an environment in which prepaid cards are more readily available than current accounts at Challenger Banks.
A household survey conducted in 2019 by the FDIC found that in the US, despite customer’s higher tendency to use prepaid cards, numbers dropped to 8.5% of all households, from 10.5% in 2015, and prepaid card use continues to be more prevalent amongst unbanked households.
The survey also found that almost all banked households were satisfied with their primary bank (97.3%) and thought that fees were clearly communicated (92.1%), implying that US customers feel less of a need to move away from traditional banks in the search for “fee transparency”, one of the main Unique Selling Points of digital players.
For example, in the British market, Monzo has the highest NPS score according to a 2022 IPSOS study, the global market and public opinion specialist. It trumps its traditional bank counterparts, such as Nationwide and Barclays, which are placed only fifth and sixth, suggesting a certain dissatisfaction among customers for their High-Street banks.
Regulatory environment in the USA
When it comes to offering alternatives to traditional banks in the US, regulators don’t make it particularly easy for digital players. As of mid-November 2021, only 16 new deposit insurance applications were pending with the FDIC in the US, whereas before the Global Financial Crisis of 2008, about 50 to 100 traditional bank applications were under consideration.
Chris Cole, executive vice president and senior regulatory counsel for the International Credit Brokers Alliance, notes that a decreased demand for commercial lending paired with low interest rates are the main reasons behind the slow in applications. Since the recession, the FDIC has also become stricter about who it gives a licence to, and rightly so.
Capital requirements for banks seeking a licence are twice as high as they were prior to 2008, and since 2015, the average amount is at $34 million.
The case for Monzo
Monzo is one of the top UK Neo-banks, having proven its strong adaptability in the face of the pandemic, and transforming a bad situation into an opportunity to not only reassure existing investors, but also attract new ones. Like Starling Bank and Atom Bank, Monzo has a UK banking licence, which has allowed it to expand its product offering beyond a prepaid debit card. Monzo applied for its US banking licence in April 2020, only to withdraw the application in October 2021 after hearing that it was unlikely to be accepted.
Looking at the costs of expansion between 2020 and 2021, we see that this had a significant impact on the company’s yearly costs. Expenses for Office and Premises increased by 754% as Monzo established itself in Los Angeles. All costs linked to global expansion, such as Marketing, Administration, Salaries and Technology more than doubled, with the exception of Legal and Professional fees. These heavy costs associated with expansion made the closure of the Los Angeles office, after less than one and a half years in business, disappointing. Regardless, Monzo was able to offer 24-hour support to UK customers thanks to the time difference in LA, and through word of mouth, gained recognition in the US market.
Despite closing the LA office and withdrawing its application for a US banking licence, spending on expansion increased Monzo’s visibility to American investors. After attracting the first of many in 2017, Thrive Capital, from November that year to December 2021 (Monzo’s last round), American investment capital firms, such as Goodwater Capital, Stripe and Crankstart, account for the majority of funding participants at 59%, compared to UK investors at 12% (C-Innovation). Monzo’s US headquarters are now in San Francisco, home to Silicon Valley where there are an estimated 40,000 startups and 1,000 venture capital firms.
Why Monzo withdrew its application for a US banking licence remains a mystery
“Applying to be one of the first new US banks in a decade” is a “significant milestone.” - Monzo CEO TS Anil in 2020.
The abrupt withdrawal after two years of negotiations was attributed to rumours that the application was “unlikely to be successful”. Despite this, Monzo’s 2021 financial report proved optimistic, with a reported CET1 of 233,604,000 GBP (lightyears above the average of FDIC authorised institutions at $34 million) and a CET1 ratio of 99%. 25% of Monzo’s revenue in 2021 also came from new products launched during the pandemic, showing the company’s strong resilience to the crisis, and casting even more doubt on why the UK Challenger Bank abandoned its licence plans.
If we look a little further, beyond the financials, Monzo’s management could have played a role in weakening its application. In June 2020, a mere two months after submitting a US banking licence application, Monzo founder, Tom Blomfield, stepped down from his position as CEO to become President of the company.
The 2019 handbook ‘Applying for Deposit Insurance’ for De Novo institutions by the FDIC reveals certain criteria necessary to receive a licence. It emphasises the importance of each employees’ experience within the institution. The FDIC board considers the experience and background of all proposed directors, officers and principal shareholders. “The proposed CEO should have strong leadership skills, along with strong skills in strategy and execution, customer relations, operations, and risk management.”
It is required by the FDIC that the company remains faithful to the proposed business plan for three years, as a condition of receiving a licence, reflecting the board’s close surveillance of any De Novo institution and the close collaboration between regulator and bank that occurs during this period. The handbook equally states that “Management succession planning and talent development are important for a new institution to ensure continuity in key senior management positions.” If unplanned or unforseen by the FDIC, Blomfield stepping down would likely have affected the appeal of the company to the board.
Institutions applying for deposit insurance must also fit a number of other criteria as defined by the United States Congress.
They must help meet the credit needs of the local communities in which they are chartered consistent with the safe and sound operation of such institutions
They must have a strong record of meeting the credit needs of their entire communities, including low-and moderate-income neighbourhoods
The Monzo identity is based on serving community needs, with a focus on citizens of the UK. As we discussed in our Monzo report, from the very beginning Monzo worked with its customers, through hackathons and the Monzo community forum, to create the services they wanted, from gambling blocks to cheap transfer and withdrawal fees. Unlike some traditional banks, Monzo does not stipulate any minimum balance requirements, the main reason why 29% of unbanked US households choose not to open an account. Another 16.1% cited their main reason as “not trusting banks”.
Despite Monzo’s efforts to attract customers from all income brackets, with its “freemium” business model, as a Neo-bank it encountered some hard-to-dodge obstacles as it scaled. During the Covid-19 pandemic, as many customers were most vulnerable, Monzo shut them out of their accounts, a consequence of mistakes made by algorithms designed to detect fraudulent behaviour. Although Monzo has a serious commitment to serving its communities, this may have cost Monzo its reputation for “safe and sound operation”, further reducing its chances of deposit insurance approval.
It is possible that Monzo withdrew its application in order to avoid the bad press that would have come from a negative response by the FDIC. Reputation is extremely important for Neo-banks, especially for those like Monzo which encourage organic growth through word-of-mouth. N26, as we discuss in this blog, does not let bad press stunt its plans for growth, which may have long-term consequences.
The case for Revolut
Revolut experienced exponential growth both in the UK and in the US, without a bank licence for either region. Its bank licence applies exclusively to Europe, authorised by the Central Bank of Lithuania. Rather than applying for one elsewhere, Revolut focuses on customer acquisition and simple product offering.
Revolut in the US and the UK (Revolut Payments UAB) provides an e-money account which can be used for money exchange and transfers, both international and domestic, as well as access to features for budgeting, trading and cashback, for example. Revolut Bank UAB offers these same services, in addition to deposit insurance on all accounts and access to Credit services. This is not to say, however, that Revolut Payments UAB does not offer protection, as it safeguards customer funds with its partner banks; Barclays, Lloyds and Sutton Bank (USA).
In October 2019, almost 9 months after Monzo’s official expansion announcement, Revolut launched its first prepaid Mastercard in the US. Revolut’s 2020 annual report, published in December 2020, reveals some of the costs involved with its US expansion as of March that year. It is worth noting that in March 2021, Revolut also applied for a US banking licence, however the 2021 report is not yet available. Investments in subsidiary companies, to meet local regulatory requirements and fund expansion, totaled a net book value of 15.5 million GBP at the end of 2019, which increased by 467% in just one year to 87.9 million GBP.
At the US launch, CEO Nicolas Storonsky stated that “Small and medium-sized businesses are massively underserved in the US”, adding that Revolut wanted to empower them with “the tools to grow and scale globally”. Revolut is focusing on a niche business sector within the financial services industry - a sector which has already been emphasised as underserved and extremely important by the FDIC, and it states on the website that small businesses “employ roughly half of all Americans and account for more than 60% of net new jobs”. In the aftermath of the pandemic, credit demand from small businesses is beginning to strengthen, however access remains a challenge, as banks have become more cautious.
If the FDIC were to examine Revolut’s record of meeting the credit needs for communities of both low and moderate incomes, what would it conclude? Does Revolut really have the potential to improve the finances of SMEs in the United States?
Revolut has been offering services to US businesses since 2017, and at the end of 2020 had registered more than 500,000 business customers, an increase of 127%. 9 new business products were also introduced over 2020, such as merchant acquiring, expense management, open banking services and rewards. Revolut’s business offering sets it apart from its main US competitor Chime, which only offers retail accounts, making its business model all the more lucrative to the FDIC board and investors.
When comparing Revolut’s expansionary approach in the US to its plans for launch in India, we see that the company systematically offers payments, followed by trading and investments. In the long-term, this strategy provides the company with the necessary data that testifies to Revolut’s success, making the road to bank licence and credit services more straight-forward.
In the long-term, if Revolut chooses to apply for a US banking licence, it will have to reassess its product offering to businesses in order to appeal to the need for easier access to credit. Currently, Revolut does not offer credit or overdraft services to business accounts, and is lucky that Chime does not offer business accounts, as its most basic offering serves as an effective USP in the North American market.
The case for N26
In 2016, N26 received its banking licence from the European Central bank, 3 years after the company was founded. In January this year, the Challenger was granted a ‘Sociedade e Crédito Direto’ (SCD) licence for its expansion in Brazil, good news for the company after abandoning operations in both the UK and the US.
The Brazilian “Direct Credit Society” licence allows N26 to grant loans and financings, as well as to purchase receivables through electronic platforms exclusively with its own capital, according to Reuters’ FinTech in Brazil overview. In Brazil, there are many opportunities for FinTechs looking to scale and develop their product offering, a result of the Agenda BC+ initiative set up in 2016 by the Central Bank of Brazil. The goal is to promote financial education and inclusion, facilitate access to credit and improve efficiency. The SEP (Sociedades de Empréstimo entre Pessoas) also exists to enable P2P lending.
Brazil’s attempts to attract more entrepreneurs within the financial sector have proven successful with the arrival of N26. Meanwhile, on the other side of the world, the Challenger has been banned from onboarding any more users in Italy, and this begs the question about whether the company should focus on reconciling its reputation in Europe rather than focus on expanding elsewhere. Its departure from the UK follows a similar story, as although N26 blamed Brexit, it had entered the market two years after the initial vote in 2016. Sifted found that the company may have actually been struggling financially, as it could not differentiate itself from players like Monzo and Revolut.
International expansion also comes at a price sometimes overlooked by companies
N26 and Monzo’s experience shows us that start-ups must be careful not to spread themselves too thin when expanding to new markets before taking the time to clearly identify local needs, their winning USP and making sure they have the right financial support to cover their internationalisation costs.
The successes and failures of the Challenger’s plans for expansion, compared to the cases for Monzo and Revolut, also suggest that having a banking licence from the get-go makes little difference to gaining traction in a new market - Neo-banks should grow progressively, step by step, first focusing on earning customer trust through quality service, consistent security and adapting to local needs.
Neo-banks aren’t really that new anymore, and are updating their business models to become more like their antagonist, the traditional bank, with increased focus on profitability and more fees. The more they scale, the more costs increase, and the more they feel these challenges.
In 1978, the report entitled Patterns of Industrial Innovation in the Technology Review journal, proved that “innovation within an established industry is often limited to incremental improvements of both product and processes.” It concludes that products and services which have built upon pre-existing innovations, not necessarily those which are first of their kind, have been more impactful, with a greater commercial importance.
If FinTech follows the same rule, once a company reaches a certain size, it is much harder and costly to adapt to new market trends. Not only this, but the maximum benefits of company research and development efforts are reached just before the specialisation of the product, and before the cost competition erodes profits with which to continue to invest in innovation. This means that the market cannot be too small to provide sufficient information on trends, but not too big for the FinTech’s USP to lose its relevance.
In reality, global expansion as a means to scale fast can limit innovation, as resources are no longer being focused on improving pre-existing products and are instead used for entering new markets. On the other hand, committing to one region and achieving market dominance can make a company vulnerable to evolving trends and new competitor FinTechs that copy and improve services. In either scenario, if Neo-banks can convince investors of their potential, through whatever strategy it may be, this will improve their chances at reaching success.
If you are interested in how the banking industry is changing and what everyone should know about digital banking, take a look at our latest research Monzo: The Evolution of a Marketplace Model