Europe’s Neobank Struggles Offer Fertile Ground for Traditional FIs to Gain Share

digital banking

The neobanks promised to shake up the world. Especially in Europe.

It hasn’t quite worked out that way.

As the first quarter of 2023 is firmly in the rearview mirror, as open banking becomes ever-more firmly entrenched within the fabric of everyday financial life in the European Union, the digital-only upstarts have struggled to achieve sustained profitability, in some cases have run afoul of anti-money laundering (AML) rules.

And critical mass, as measured against the roughly 284 million adults in the EU (as estimated by the World Bank) is quite a ways off, given that even the biggest neobanks have notched only a few million customers.

The latest reports surrounding N26 offer a bit of microcosm here. Valuations are generally shorthand for how investors view a firm’s future prospects, and in this case, the outlook might be termed less than sanguine. As reported Wednesday (April 19), Allianz’s venture capital operation Allianz X has told advisors to sell the company’s roughly 5% stake in N26 at a $3 billion valuation, which is a third of what the valuation had been at the end of 2021. As detailed here, the German online bank had been fined, also at the end of 2021, by that country’s regulators for lax anti-money-laundering controls.

Elsewhere, N26 exited the U.S. market in 2022, and has been focusing its efforts on Europe, currently operating in 24 countries with 8 million customers. As for profitability, CFO Jan Kemper said last year that the company would not pinpoint a definite timeframe, stating last year that “we are not committing ourselves [to say] if this will take 12 months, 24 months or 36 months.”

Only a Handful of Profitable Players

The profitability in the sector has been uneven at best, with only a few names getting to black ink on the operating income and operating cash flow lines of their financial statements.

Monzo, for its part, has said that it has 5.8 million customers, per its 2022 annual report (for the year ended February 2022), with a loss for the year of 119 million British pound sterling (GPB) on net interest income of 34 million GPB. As measured year on year, customer deposits increased by 1.3 billion GPB to 4.4 billion GPB. More recently, the latest earnings show that the U.K.-based neobank’s annualized revenues increased by 250% to 440 million pounds (about $542 million) in the year to December 2022, and the company has noted that it has been cash flow positive since late 2021.

Bunq, a Dutch challenger bank, said in February that it had notched its first quarterly profit as net fee income grew by 37%. Starling is profitable, too, having logged its first full year of profit back in July, and according to reports is looking to quadruple its pre-tax profits in 2023 to about 250 million GPB.

But these are rarefied examples. The fact remains that the field is crowded, the profits are thin, the jockeying for mind and wallet share is intense. Global consultancy Simon-Kucher has estimated that less than 5% of these challenger banks, as measured across a 400-firm global pantheon, are breaking even. Though digital-only players (like Brex) got a boost in the wake of the SVB and Signature collapses and corporates looked for places to shift their money, deposit “loyalty” might prove elusive as these same enterprises chase yield.

VC funding in the current environment is proving to be more cautious: CBInsights reported that global venture funding slid by 35% last year, as measured against 2021, to $415 billion. The N26 “down round,” we note, has some company-specific factors in the mix, to be sure, but it’s also a sure bet that profits will be increasingly in would-be PE and VC backers’ sights.

In the meantime, any tipping point is a ways off. PYMNTS research shows that only about 9% of consumers use FinTechs as their primary bank, and 47% of consumers say they are hesitant to use these digital-only players. Drill down a bit, and there’s a bit of roadmap here for the traditional financial institutions (FIs) to defend market share and even grow it — in Europe and elsewhere.  Thirty-four percent of consumers cited satisfaction with their current bank as the most important reason to stay where they are, 13% wanted to retain access to physical branches, 15% cited concern for the overall security of their money and information and 14% did not trust digital banks to maintain staying power.

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