So You Want to Buy a Fintech Firm
Established financial institutions investing in fintech startups walk a fine line between nurturing growth and managing risk.
oung fintech companies hold considerable appeal for investors looking to get involved in high-growth areas, and established financial institutions are no exception. By acquiring one of these disruptive new players, legacy financial companies can gain innovative capabilities they might not be able to access otherwise.
Fintech firms typically offer native digital products, a nimble operating model, a customer-oriented mindset, and a tech-savvy workforce—all likely motivating factors behind last year’s $13.7 billion in acquisition volume¹ involving these firms. But along with those attractive assets often comes significant risk. Distinguishing the target’s actual products and capabilities from vaporware can be important, for example, and it may be a challenge to prevent talent flight and maintain growth amid operational friction.
Integrating a fintech company presents an entirely new set of potential challenges for even the most M&A-savvy financial institution. CIOs at companies considering such a move can help by encouraging their organisations to follow a few critical steps.
YChoose the right model
Established companies integrating a new fintech acquisition typically take one of two approaches. The first is a capability-driven strategy, in which the acquiring firm seeks to integrate new products, channels, or capabilities into its existing business portfolio to fill a gap or prepare for a potential market shift. The second adheres more closely to a holding company model, in which the acquiring institution builds a portfolio of fintech companies that operate independently while leveraging the parent organisation’s scope and scale.
Either of these can be a viable path. Which one the acquirer chooses can affect its approach to due diligence and, ultimately, inte- gration. Despite their relatively small size, fintech startups may be built on business models and technology platforms that are unfamiliar to legacy financial institutions. As a result, careful due diligence is especially important.
Understand the products
It’s essential that the acquiring firm gain an in-depth knowledge of the target’s complete product lifecycle and where in that lifecycle its products lie. This can allow acquirers to value the products appropriately and understand the commercial business practices they are seeking to integrate. It can also help them more accurately forecast resources needed to support acquired products after integration so they aren’t overlooked in the larger organisation.
Begin this intelligence gathering with a clear view of the specific customer behavior or market niche the target firm is addressing. Extend due diligence deep into the target’s product road map or pipeline to gain visibility into the future functions, product enhancements, and blue-sky projects in flight or planned, and the additional resources required to execute them.
Engage and retain talent
Talent is often a primary value driver in fintech acquisitions, but many fintech employees join their young firms out of a desire to reshape the industry. In an acquisition, they may suddenly find themselves part of the very firms they were trying to disrupt.
There may also be radical differences in office culture and work environment, compensation, and attitudes toward rules, risk, and regulation. For a firm attempting to build capabilities through acquisition, finding a way to maintain this culture after integration is crucial to helping prevent the talent flight that can often follow. Pay special attention to the titles given to newly integrated employees to ensure they accurately communicate their new roles and seniority. Even the physical space in which new staff are located can be critical.
Cultural alignment and integration are particularly high priorities for firms integrating a startup completely into the parent company, but they’re still important for holding companies, especially if any newly acquired fintech firms will be co-located with the parent organisation.
Ease operating model friction
Culture shock can pose new challenges operationally. Fintechs and their employees may be accustomed to more technological freedom than is customary in traditional financial institutions, including the flexibility to bring their own devices, use public cloud storage, work remotely, or use open source code. Integrating these new employees into a more controlled environment can substantially reduce productivity. Acquirers may consider carving out a new technology policy specifically for fintech firms that accounts for these differences by allowing for continued technological flexibility while adhering to regulatory and practical requirements.
Properly structuring governance models is likewise important for retaining a fintech’s nimbleness. Many young firms use Agile or lean methodologies; while widely used and understood in the technology sector, these approaches may not mesh well with a traditional financial organisation’s existing IT or legal and compliance functions. Achieving value in the transaction may depend on understanding how the two firms’ models differ and establishing a model for governance and interaction that enables the fintech to continue innovating.
In any transaction undertaken to drive growth, it is important not to lose sight of the major revenue drivers and assess whether they are at risk. This is especially true in the case of a traditional financial institution acquiring a startup. Earlystage companies are often single-minded in their drive for growth; integration into a larger organisation may dull that edge as time and resources are pulled away from market-facing activities and into activities such as building compliance specs.
Shielding revenue-driving teams from noncritical activities can help them maintain their focus on revenue growth even as they integrate into the larger organisation. This is particularly important when the acquiring firm chooses to follow the holding company strategy, as each company acquired will likely have to prove its ongoing value. ***
The very factors that differentiate acquisitions of fintechs from those of more traditional firms are often the keys to the success of these young companies thus far. Preserving that value depends on creating an environment in which newly acquired fintechs can continue to grow and thrive. For more information, please visit www.deloitte.com.mt