AnalysisBanking and FinanceIssue 03 - 2021MAGAZINE

The secret behind Latin America’s fintech boom

Countries like Mexico and Brazil are leading the way and an increase interest by venture capitalists helping the economy grow

Fintech or financial technology has been a game-changer for the payment industry. Over the years, it has successfully transformed the landscape of the payments industry and customer experience for good. Fintech has turned out to be one of the most popular products of developed countries that use cutting-edge technologies and electronic devices to manage their daily affairs. And it is doing the same to many developing nations.

One of the prime examples of the fintech revolution in the developing economies in the African continent, but recently, Latin America has also emerged as the land of new fintech opportunities with several fintech startups have been emerging with the aim of bringing a digital payment revolution there. At present, the entire region is moving towards a digital payment revolution there and the stats are there to support this statement.

During the first half of 2021, Latin America recorded huge growth in fintech funding through the first half of 2021 with total capital investment till June 2021 reaching $7.6 billion and exceeding 2020’s total of $2.9 billion. Funding has more than doubled compared to 2020 and is driven by sizable investments of over $50 million. Stats also showed that around 56 percent of the companies were remittance and payments start-ups.

Surprisingly, it’s not only foreign and local investors noticing these innovative financial services, but the effects are being observed by the Latin American population too. Reports suggest that fintech usage has grown exponentially in the region in the past decade. In fact, experts believe that it will surpass 380 million users by 2025. Lucky for us, it is fairly easy to understand how it is happening. Similar to people around the world, the easy-to-use alternative brought about by the fintech companies is getting popular since it is digitally accessible and their financial products are usually reliable. And this is exactly why digital payments are the most popular service of the fintech sector in the area, reportedly attracting nearly nine out of ten fintech users in 2021. All these innovative financial services are creating a virtuous circle, attracting even more attention and investment in the country’s digital financial sector. Similarly, it is also attracting more competition between international and local investors as it creates exciting results in a dynamic and booming industry that is set to thrive in the Latin American region.

Increasing competition
Fintech continues to be a leading category both in terms of building relationships and aiding economic growth, according to Carlos Ramos de la Vega, manager of venture capital for the Latin American Private Equity & Venture Capital Association, a not-for-profit membership organisation supporting the growth of the private equity and venture capital industry in the region. Along with growth in investment in the fintech sector, the sophistication of attracting customers has also grown. Debit card companies are now developing apps for niche markets, such as teenagers or Gen Z, as well as adding features to be more inclusive of customers not already using a bank. One of the primary reasons why credit platforms have had success is the ability to attract a huge population. Competition is increasing, but there is the need for a bigger skill set because financial needs are changing and people are becoming more and more well-versed in technology.

And more importantly, the venture capital network is also growing. Along with QED and Clocktower, other US firms have been investing in the sector over the past five years, including Ribbit Capital, Lightspeed Venture Partners and General Catalyst, which led spend management company Clara’s $3.5 million pre-seed round in March and a $30 million Series A funding round. Local venture capital fund managers are also eager to partner with foreign firms, thanks to the thriving financial ecosystem for more than a decade.

In 2020, 83 percent of local investors were a part of the local deals and while 39 percent were involved in deals with international investors. Additionally, foreign fund managers see local firms as good resources when it comes to understanding fintech. There is no denying that fintech poses a significant challenge to incumbent institutions within the financial services sector in LatAm. As mentioned earlier, there is an enormous amount of untapped opportunity in LatAm for financial services of all types. finTech products in LatAm are bringing revolutionary changes to underserved populations and into markets where traditional banks don’t dare to tread, particularly in Mexico, El Salvador, and Brazil.

This huge amount of untapped potential is also being noticed globally and after a few successful fintech ventures, global ventures and investors are becoming increasingly interested to look for opportunities to join the market. Currently, Nubank is LatAm’s largest digital bank and also one of the largest around the world. There are also a number of other examples of fintech companies that have grown into multi-million dollar businesses with help from venture capital (VC) investment. Local investors are also becoming major contributors to the region’s thriving fintech ecosystem. Driven by the success of the unicorns in the region, local investors were also given the opportunity to get involved in the country’s sector more actively. The region’s industry is a proper mix of friendly and supportive and that leads to investors supporting founders of new fintech startups who have proven to have expertise in the industry. This will help the sector to grow financially as investment continues to flow into the same bright minds that have proven their value to the industry.

Another reason why LatAm is enjoying a fintech boom is because of its large market. The region is home to over 650 million people across 33 countries. The largest countries in the region, Brazil and Mexico, are home to populations of 210 million and 130 million, and both these countries house a tremendous market that is ready for digital financial products that can be distributed to a huge number of eager new customers.

Since the LatAm fintech ecosystem is a friendly one, it has become a strong support pillar for the industry. With the governments of the countries supporting the fintech revolution in the region, companies can develop and grow more easily than they would be able to in other parts of the world, especially since the traditional financial institutions are deeply rooted in the financial industry’s monopoly. On the flip side, the LatAm region is setting a different example. Recently, in Mexico, a fintech law named ‘Ley Fintech’ was passed in 2018 that created a legal framework for digital financial businesses to provide customers with new products. Additionally, the law also allows digital financial businesses to function legally under the same regulatory and supervisory laws as traditional financial institutions.

What are some major fintech players in the emerging market?
LatAm’s thriving fintech ecosystem primarily depends on three major markets present in Brazil, Mexico, and Argentina. These three areas have the most number of fintech startups operating in the region and they are also the top countries in terms of gross domestic product. Additionally, Brazil and Mexico are the two countries in the region that concentrate most of the investments that target fintech companies. In Mexico, for example, over 50 percent of people are unbanked, over 30 percent have no access to any financial product, and just 31 percent have access to credit products. Credit is one of the most powerful tools to the present population as it can be a powerful tool for individuals to afford college, start a business, or buy a home.

Some of the proven successful fintech companies in Latin America are Nubank, Cornershop, Gympass and Loggi helping to bolster LatAm’s credibility. The massive funding rounds were led by or saw participation from firms like SoftBank, Tiger Global Management, Tencent, Accel, Ribbit Capital and QED Investors. Reports suggest that these companies are ready to pour money into the fintech landscape of LatAm as they think this area has more potential than the US. They believe that the region has always been ripe for disruption, especially in the fintech and proptech sectors, primarily because of the underbanked and unbanked population in the region and the relatively unstructured real estate industry.

A big chunk of these investments has gone to the digital banking giant Nubank, which has raised $950 million of its $1.5 billion in total known funding in just the past three years. Since the beginning of the year, a large number of US venture firms have announced their intention to focus on Latin America’s financial technology firms, including QED Investors and Clocktower Technology Venture to name a few. Apart from the global venture capitalists, local venture capital companies are also raving about the human capital present in the region. But, for some global investors, the appeal of Latin America extends beyond the talent to the general populace.

The availability of credit is one of the most expensive and not readily available tools, thereby creating a massive pent up demand from customers who have historically been locked out of the financial system by incumbent financial institutions. Given that they are the most significant fintech players in the region, they are also found in these leading countries with a strong digital financial ecosystem. Brazil is home to well-known startups like Nubank, RecargaPay, and Vortx. All these companies have witnessed $35 million each in the first half of 2021. Mexico is also home to successful Fintech startups like Konfio, Credijusto, and Clip, startups that successfully raised the most considerable amount of funds in the first part of 2021. All the mentioned startups have received over $100 million of investment.

Until recently, most banks in Latin America didn’t have a mobile app and was a completely brick-and-mortar institution. For example, in Colombia, consumers must still visit a physical branch to open a bank account and other services. The traditional banks have long ignored tech-driven, mobile-first approaches. One of the largest banks in Brazil, Itau’s prospective customers must fill out 26 fields to open an account from their app, and it is rather cumbersome. If this didn’t put off people enough, it takes another 18 hours for the account to get approved. And believe it or not, this is an improvement. Five years back, applicants had to visit a branch in person to open an account, then wait weeks for approval.

Most of the Latin American countries are heavily cash-based. In Mexico, more than 90 percent of payments are in paper money and for Brazil, it is 70 percent. While e-commerce has gone through a tremendous change in the past year, buying products online is still relatively latent, as only a small percentage of the population has the means to access e-commerce. In fact, the default for most customers in Latin America is to order online, then pay at the local convenience store in cash. As economies around the world have shifted to digital and card payments, Latin America is poised to take a similar trajectory.

The major banks in the Latin American region have few incentives to innovate. In Mexico, there are 51 banks and Colombia only has 25. Compared to the thousands of banks in the US, there is a significant decrease in the number of choices consumers have. The low number of banks in the region is exacerbated by the extreme bank concentration and monopoly the largest institutions have. 80 percent of the deposits in Brazil are concentrated in the country’s top five banks. This leads to mismatched incentives between the financial institutions and their customers. This leads to banks in LatAm having some of the healthiest margins of any financial institution across the globe. In Mexico and Brazil, the return on equity, or ROE is around 18 percent, almost five times that of French banks and twice that of American banks. These large profit margins indicate an opportunity for fintech to offer better, more accessible, and more affordable products for consumers.

Covid-19 accelerated the fintech ecosystem in Latin America
The Covid-19 pandemic has had a profound impact on financial services around the world and it has proved to be a primary drive for fintech in Latin America, spurring innovation out of necessity. While cash is still the most preferred mode of payment, business shutdowns prompted the increased acceptance of digital and online payments. A large section of the population tried out new financial products and apps, in lieu of visiting physical bank branches. Additionally, many businesses that once relied on foot traffic have adopted online shopping, accepting card payments, and integrating with digital platforms. E-commerce in the region has seen double-digit growth over the last few months. In the US< it takes two days for funds to arrive, and the Fed has pushed the rollout of FedNow another 2+ years. Comparatively, real-time payments have existed for over 10 years in Mexico. Currently, the company is in the process of rolling out its own version of real-time payments, called PIX.

There is still room for growth
There is no doubt that Latin America has become one of the primary hotspots for fintech enthusiasts around the world and this is the best time for fintech startups or enterprises to move into the financial service sector of this region. It’s really amazing to witness everything is in place for a successful fintech business in this region. The government is working with the companies to facilitate and attract fintech players across the globe to their respective countries and banks are also looking forward to innovative, inventive, and reliable finance companies that can enhance customer service experience. LatAm is home to a plethora of business opportunities. Venture capitalists have also mentioned that there is no dearth of interesting fintech opportunities in the region and unlike the US, there is still some room to grow with competitors flocking right after the launch. They feel good about how they are positioned in the fintech ecosystem. Venture Capitalists are excited about the pace of change, and there are no signs of it slowing down. The regulatory scenario in the region is also changing and Mexico has made amazing progress since 2017. There is a big pipeline of companies waiting for regulatory approvals, and that will get rolling next year.

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