VC Funding for Fintechs is Down: Will COVID-19 Kill Startup Innovation?

The effects of the Coronavirus pandemic on the fintech industry have been many and varied.

In the short-term, many companies have seen massive waves of new signups as people seek new financial tools to assist them in their daily lives and grow their investments; in some cases, the new signups have caused these companies to soar--in others, companies have struggled under the weight of so many new recruits.

Many young companies and startups have also suddenly found themselves in a bit of a pickle as a result of the coronavirus, particularly when it comes to securing funds: for example, in its State of Fintech Q1’20 report, CB Insights found that this quarter was one of the worst for VC-backed fintech in several years. Presumably, the economic impact of COVID-19 may have curtailed investors’ interests in fintech.

Perhaps the most obvious consequence of this reduction in startup funding is simply the fact that companies will be forced to either find creative methods of securing funds or be forced to shut down. However, there is another, more subtle consequence that may only fully ‘play out’ in the longer-term: a reduction in innovation.

Indeed, Spiros Margaris, fintech influencer and founder of Margaris Ventures, told Finance Magnates in an interview several weeks ago that the ultimate consequence of the decline in startup funding is that “[the amount of innovation will go down, because if there’s less competition out there, there isn’t a need to innovate as much.”

In other words, the big may get bigger and the small may disappear when it comes to fintech firms.

Still, it’s possible that young companies who can act quickly and think creatively may forge a new path forward for themselves. Can these young fintech companies walk the line between staying afloat and sinking in a quarantined world? How? And will the long-term effects of corona significantly slow down innovation?

VC funding for fintech startups

The answer to this last question seems to be yes--and no. Let’s start with the yesses.

Yes, because the decline in VC funding for fintech startups is likely to continue. In a report by business intelligence firm Adkit entitled 'Fintech in the day after Corona: An extraordinary opportunity for growth', Adkit director and head of financial services Nadav Pasandi explained that funding is likely to continue to decrease.

Yes, because (as the report explained), "in our estimate, the downturn trend is expected to continue, but at a more moderate rate than what we saw in the past few months due to the gradual thawing of the markets, especially in the U.S. and Europe and the need by companies to continue the funding rounds that were suspended," the report read.

Yes, because--citing research by Netherlands-based VC firm Finch Capital--the report also said that the fintech funding crisis is expected to last at least until Q3 of 2020.

Additionally, Manish Mistry, chief technical officer and vice president of Internet of Things (IoT) solutions at Infostretch, a Silicon Valley-based digital engineering professional services company, agreed that older, larger firms have a serious advantage in the post-COVID-19 landscape.

“Whether we are talking about big banks or fintech startups, the companies that will prosper in the face of increased customer demand and expectations are the ones that already have a foothold in the market and that can adapt to continuous change and uncertainty while building a sustainable business model around it,” Mistry explained to Finance Magnates.

In his view, this is because “the current dynamics of the market favor firms that can focus on delivering more personalized, stable and secure services.”

Therefore, yes--small fintech companies are going to have a tough time securing funding for most of the rest of this year, and perhaps even further into the future. This may lead to a decline in innovation, as many of the companies that would have been bringing new ideas into the market simply won’t exist.

If small fintech companies can’t survive, larger companies may become the main drivers of innovation and adoption

Now for the nos: will the long-term effects of corona significantly slow down innovation?

No, because in spite of this decline in funding, innovation is still happening and will continue to happen.

No, because it may well be that that fintech innovation is happening at a more rapid pace and on a large scale than ever before--specifically because of the coronavirus outbreak.

This is evidenced in part by the fact that the United States government rapidly appointed several fintech firms--Intuit, PayPal and Lendio--were all granted approval to participate in the U.S. Small Business Administration’s (SBA) Paycheck Protection Program (PPP), the U.S. government’s emergency lending program for small businesses.

Therefore, the question may not be if innovation will slow down; rather, the question may be who, exactly, is doing the innovating.

Indeed, Emre Tekisalp, Head of Business Development at O(1) Labs, the team behind Coda Protocol, told Finance Magnates that “we think the coronavirus is accelerating fintech adoption.”

“Like in many digital-first industries, the types of transformations that normally take ten years are being accelerated to happening in a matter of months,” Tekisalp told Finance Magnates.

”The coronavirus has helped [the fintech industry] with banking prospects.”

Of course (for now), the facilitation of (and the profits from) this kind of rapid adoption seems to be relegated to only the largest and oldest fintech firms; after all, PayPal was founded all the way back in 1998; Intuit has been around since 1983. Lendio appeared on the scene in 2011.

However, the fact that these fintech companies have made their way into the mainstream rails of the American financial system means that once the pandemic crisis is over, the door may be open to many more companies who have many, many more new technologies.

Indeed, citing an analysis from Bain & Company, Tekisalp said that there also may be “a ten percentage-point increase in digital Payments estimates for the year 2025. As such, despite potential cash flow challenges today, the whole market has become a lot larger for fintech startups.”

In other words, while a lack of VC funding may delay the creation of new startups (and new technologies) in the short term, the accelerated adoption of fintech in mainstream financial systems in the United States and beyond may lead to more rapid and widespread innovation in the longer-term.

Indeed, Tom Gavin, chief executive of cannabis industry fintech firm CannaTrac, told Finance Magnates that “in our estimation, the coronavirus has helped [the fintech industry] with banking prospects.”

“More banks have had to deploy new technology to ensure the safety of their employees and customers. Not to mention, new processes to gather documentation, signatures, or identity validation which used to be done in-person for smaller banks.”

Fintech and banking could eventually become one industry

The increased role of fintech in the traditional financial institutions of the world could change the relationship between the fintech and banking industries overtime. At the moment, fintech companies are seen (to a large extent) as competition for banks.

However, over the increased usage of fintech in banks could result in a sort of marriage of the two industries--a union that has the potential to be beneficial for both parties.

“If there is one thing that Coronavirus is making increasingly apparent, it is the need for rapid digital evolution,” Manish Mistry told Finance Magnates.

Indeed, as a result of COVID-19, “proper digital infrastructure is becoming vital to the continuity of their business operations,” Mistry explained. “In the banking sector, nearly 60% of transactions still need to be completed in person or offline. That seems crazy in the current COVID-19 climate. It also aligns poorly with consumer attitudes to personal banking.”

Therefore, fintech companies looking to grow their businesses could consider joining forces with large banks. For example, Manish Mistry told Finance Magnates that Infostretch (which was founded in 2004) “recently helped the nation’s largest financial services provider accelerate its path to digital banking.”

“We assisted in the roll-out of new web and mobile solution quickly, [which] enabled them to stay ahead of potential competitive offerings and maintain its position as the #1 rated banking app on the market,” he said.

However, over time, this could lead to a sort of centralized takeover of the fintech industry--one that may make competition incredibly stiff for fintech startups.

“When big banks become serious about leveraging fintech and continuous innovation, especially in an uncertain economic and political climate, they propel themselves into competitive differentiation,” Manish Mistry told Finance Magnates.

“With the depth of customer knowledge that their systems house, coupled with reach and scale, big banks can switch from disrupted to disruptor. They can play fintech startups at their own game, and with their unique advantages of perspective, experience, and data, they can win.”

In the meantime...

However, even though the coronavirus has propelled fintech adoption forward, it will still likely be some time before the fintech and banking industries truly become one.

So, for smaller fintech companies who may be struggling to survive in the short term--how can they manage to keep afloat until VC funding picks back up, or until there are other reliable means of securing funding?

When it comes to very early-stage companies, the best solution may be to simply wait.

In April, Paul Murphy, a partner at Northzone, told Sifted that companies in their very early stages may fare better if they delay launching for a few months: “they can put off starting for three months — their only cost is themselves,” Murphy said.

In the meantime, these companies can use the next few months to hone their pitch deck. Natacha Rousseau, strategic communications and investor relations specialist Diplomatiq, told Finance Magnates in April that “startups need to work and develop their business models and pitch decks to reflect the current economic situation and reflect their ability to adapt.”

This includes “practic[ing] investor pitches and [developing] a 30-page pitch deck and a 10-page pitch deck;” additionally, “[applying] to accelerators and incubators,” as well as “network[ing] and strik[ing] partnerships.”

“Founders need to deeply research potential investors, and take the time to perfect or develop their tech solutions during this quiet period. Focusing on crossing their ‘Ts and dotting their I’s’ to ensure they are absolutely ready to pitch or present to investors when the time is right.”

What do you think about the future of fintech post-corona? Let us know in the comments below.