Newly Flush With Capital, Challenger Banks Face New Challenges

A wave of funding rounds over the past several months is giving challenger banks fresh financial firepower to position themselves as alternatives to traditional banks, mainstays of financial services that have been around for decades — even centuries.

While these digitally focused challengers promise to bring financial services and products to just about anyone who wields a mobile device, they may face challenges of their own.

A few distinctions are in order given that some observers use terms interchangeably. Challenger banks are chartered banking entities able to offer personal loans, savings and checking accounts on their own, most visibly (although not exclusively) in Europe. Neobanks, which do not have banking licenses and partner with traditional financial institutions, also are considered challenger banks, when and if they do obtain those licenses. Separately, digital banks serve as the digital arms of financial institutions.

The Funding

Last week, Zopa, based in the United Kingdom, raised 80 million euros (about $84 million) in an equity funding round to accelerate its growth and launch new products. The bank expects to double its profits and increase its annual revenue by 35% in 2024. It is set to launch a flagship current account in 2025. The company has roughly 5 billion pounds (about $6.4 billion) in deposits and 1.3 million customers.

In September, Equitable Bank, based in Canada, closed on a $500 million fixed-rate deposit note, marked by more than 40 investors.

In May, U.K. neobank Monzo raised $190 million as it planned to expand overseas. At the time, the funding brought Monzo’s valuation to a reported $5.2 billion. In August, Monzo said it has 10 million customers.

In April, Nordic challenger bank Lunar announced a capital raise of 24.1 million euros, raising a total of 50.9 million euros.

The cross-border appeal of the challenger banks might be evident in news last month that Tencent put $50 million into Canadian challenger bank Neo Financial as part of a larger funding round.

Investors are betting on these challengers to take share away from the incumbents that have long held sway over financial services. Without the brick-and-mortar locations that are the hallmarks of those marquee players, the competition boils down to rates offered on checking and savings accounts. Monzo’s interest APY on savings accounts is several times that of the national average, for example.

The Challenges

There are some indications, however, that challengers are still fine-tuning at least some aspects of their business models as growth remains heady. Fraud and anti-money laundering (AML) concerns are inviting increased regulatory scrutiny, especially in the U.K.

Starling Bank was fined by the U.K.’s Financial Conduct Authority (FCA) in October to the tune of 29 million pounds for failing to implement proper financial crime controls. The fine centered around the company’s AML and sanctions frameworks and automated screening designed to combat financial crimes.

Also in October, the FCA fined challenger bank Metro Bank 16.7 million pounds for a lack of proper money laundering protections on 60 million transactions between 2016 and 2020.

The PYMNTS Intelligence report “Digital Banking: The Brewing Battle for Where We Will Bank” found that 25% of consumers pointed to data security as one of the key reasons they have not shifted to digital-only banking services.