Giving away free money is a surefire way for banks to lose millions of pounds. But for years, the UK’s largest digital banks have been doing exactly that.
Revolut offered customers up to £15 to convince their friends to join, while Monzo spent £500,000 in just two months last year on a similar scheme as it sought to increase the number of people using its pink cards.
“Guys this is literally FREE money,” wrote one Revolut user on social media. “Do you like free money? I like free money. Let’s get some free money together,” wrote another as they tried to persuade their friends to sign up to the start-up.
But amid the coronavirus pandemic, digital banking start-ups have dramatically shifted their focus. Gone are free money promotions and expensive advertising campaigns across television and Underground stations.
Now, Britain’s challenger banks are tightening their belts and racing towards reaching breakeven, even as payments revenues drop during lockdown. The start-ups are curtailing expensive promotional campaigns in a bid to reduce their monthly burn rates which run into millions of pounds of investor cash.
The challenge for these fledgling banks is whether they can switch focus to making money after years of focusing on growth. Can they turn millions of loss-making current accounts into significant sources of revenue?
“It is a challenging time and investor patience must be getting thinner at some point,” says Tom Merry, the head of financial services strategy at Accenture. “I’m not sure that right now investors are saying ‘Go and get me another million customers at the same level of lack of profitability.’ I think they want to see profitability now,” he says.
Executives from challenger banks are publicly committing to reaching breakeven. Revolut, the country’s largest digital challenger bank with 13 million customers expects to become profitable by the end of the year despite losses rising to £107m last year.
Revolut, run by Nikolay Storonsky (pictured) is on track to become profitable this year
Credit: Geoff Pugh
Starling Bank is also expecting to become profitable by Christmas or early next year, a fact which an insider says led chief executive Anne Boden to invest some time into writing her explosive memoirs which were published last week. The company saw losses double to £52m in 2019.
It’s a different story at Monzo, the East London start-up known for its pink bank cards and 4.7 million customers.
Monzo has stumbled on the path to profitability, launching and then scrapping a £5-a-month premium subscription service last year before launching two new subscription services this year.
The company’s latest accounts, published in July, warned that its ability to continue “is subject to material uncertainties” as losses rose to £114m.
Revolut is the only one of the three fintech banks which is profitable
One insider says Monzo does plan to reach breakeven but declined to share when that will be.
Challenger banks have in the last year “sobered up” and scrapped costly marketing schemes, says Johan Brenner, a partner at Swedish venture capital firm Creandum which has backed start-ups including Klarna, iZettle and Tide.
“Maybe they overspent a little bit at the beginning but they also built a brand and a lot of happy users,” he says. Now, he sees the focus is switching to unit economics to make sure that digital banks can generate cash from their millions of customers.
The London fintech scene
“Today, you can live with investing a lot of money and you can live with a loss-making operation, but you cannot live with negative unit economics,” he says.
The obvious answer for many financial technology start-ups hoping to start making serious money is to begin lending money to customers. So far, most challenger banks have only taken tentative steps in this field.
“Lending is where the revenue is made from a banking perspective,” says David Brear, the chief executive of financial technology consultancy 11:FS. “If all of them don’t have fully fledged lending products in the market by the middle of next year, I’ll eat my hat.”
“If you talk to any banker, they’re just surprised that Monzo or others haven’t come at them stronger with loans,” he adds.
The plan makes sense on paper, but an expansion into lending could upset many start-up employees who see digital banks as forces for good.
“In some of these [start-ups], their cultures are very lent toward more socialistic views on how the world should work,” Brear says. “I think it will jar a little bit.”
And the UK’s financial technology sector is desperately keen to avoid the fate of Wonga, the payday lending start-up which collapsed into administration in 2018.
Several prominent investors infamously sat in silence on a London conference stage in 2014 when asked what went wrong at Wonga, with one denying there had been issues.
Loans aren’t the only moneymaking option, however. All three major banking start-ups have expanded to offer business accounts, while Revolut and Starling are now offering cards to children.
Starling Bank chief executive Anne Boden
Credit: Rii Schroer
Another new favourite way for financial technology businesses to diversify their revenues beyond taking a cut of payments is offering subscription accounts which cost upwards of £5 a month for accounts with bonuses such as travel insurance or a metal bank card. Both Revolut and Monzo have launched these products in the hope that their largest fans will pay up to £180 a year to bank with them.
But not everyone sees this as the route forward. Boden says Starling, which hasn’t offered any subscription products, has had “profitability in mind from day one.”
“Customers…will choose banks that give them good value. It’s not about gimmicks, it’s about providing services that they will pay for and it’s about managing costs,” she continues.
Challenger banks may soon have no choice but to offer paid accounts if negative interest rates are introduced. Even the largest banks are likely to be affected, with HSBC warning last month that it may have to start charging a monthly fee for current accounts.
Just like incumbent banks, start-ups rely on upselling free accounts to other services. “If we start getting into a place where those accounts are costing challenger banks to run and they can’t create secondary and tertiary revenue off the back of having access to the customer, that does become a real difficulty,” Brear says.
The drop in payments revenues during lockdown has brought a new wave of digital banking sceptics eager to point out that these massively popular start-ups haven’t yet proved that they’re able to become sustainable. But industry experts think Monzo and others are here to stay.
Fintech | The technology transforming finance
“There is too much experience for them to not really focus on profitability now,” Brear says, referencing the veteran bankers who have been hired into start-ups.
“The only real reason why challenger banks would really fail would be if the big incumbent banks cease to leave that opportunity on the table,” he adds, “and we’re a very long way away from that.”
Challenger banks are hoping that they can squeeze as much revenue as possible out of users before they are forced to charge for all of their accounts.
If they can pull it off, whether through offering loans or other services, they might be able to build sustainable businesses that last for years.
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