Embedded Finance

The financial services industry is creating a whole new field ­— embedded finance ­— that enables organizations to add a financial service or technology to their offerings easily. These integrations allow financial services providers to expand customer relationships, increase revenue and profitability and deliver new services and innovative offerings without all the time and cost of traditional customer acquisition.

The potential opportunity is massive. According to an article in Fintech Futures, the total addressable market is over $7 trillion in this decade. Fintechs and established incumbents are racing to leverage their technologies, expertise, brands and licenses to deliver new solutions, develop partnerships and create whole new financial models to drive economic growth.

What is embedded finance?

Embedded finance empowers non-financial organizations to quickly and seamlessly integrate financial service features into their products and services, improving the customer experience, loyalty and profitability.

When getting a ride-share with Uber of Lyft, the customer doesn’t have to fumble around at the end to provide payment. A new purchase can be instantly split into installment payments, with little friction and no credit card fees. An extra tick box on a car purchase can set up insurance.

The complexity of financial services, in effect, disappears. Businesses can enable sales growth, while new segments of thin-file customers gain access to more products and services.

Factors driving financial innovation

Embedded finance recent emergence results from advances in technology, the ongoing trend towards open banking and consumer acceptance and desire for innovative financial offerings.

API integrations

On the technology side, API integrations enable faster, less costly and more secure service enhancements. Previously, any new capability would require substantial programming resources, take months (if not years) to develop and deliver, and require intense governance, risk and compliance (GRC) analysis. Now, low-code APIs simplify the addition of new interactions, delegating the complexity to the API provider. While GRC is still fundamental, strict protocols help clarify the security requirements and streamline adoption.

Embedded Finance - open banking

Open banking

The trend toward open banking was initially a regulatory requirement, but it’s now becoming a competitive advantage for financial institutions with the mindset and capabilities in place. Open banking refers to the set of laws, technical specifications, and implementations to improve the consensual and secure sharing of customer financial information.

Many financial institutions realize that if they have to share customer financial information, so why not gather that information? Why not add value to the information they have and create additional revenue channels? Todd Latham, chief growth officer at Currencycloud, states, “This requires a shift in attitude, no longer viewing themselves as monolithic structures that must always own the client relationship, but providers of a more open form of financial services.”

As the pace of financial innovation quickens, no single institution can provide the best of all opportunities. However, the promise of open banking is for the ability to easily mix and match services to best meet customers’ needs.

Digital-first consumers

Traditionally, the finance sector has been slower to adapt business models and practices to meet evolving demands, and more cautious in their business offerings. Of course, part of it is by design, as risk-averse strategies are a major allure to banks. However, rigid mindsets complicate potential change, no matter how desirable that change may be.

Now, mobile consumers are used to instant gratification and an abundance of options and traditional models are becoming obsolete. New accounts are opened in minutes and game-changing financial services, driven by fintechs and non-traditional banks, are coming to market quicker than ever. A customer using ten or even 20 financial apps is not unusual and they are open to sharing information across accounts, as long as the necessary trust and security is established and maintained.

Simplifying and speeding up access to financial innovation drives consumer acceptance and vice versa. And embedding finance into other functions is the simplest and fastest way to access the consumer.

New embedded finance services and opportunities

Although embedded finance is relatively new, there are already examples of new services and opportunities gaining traction or holding great promise. Here are some:

Buy now, pay later (BNPL)

Retailers can increase sales and avoid the high fees of credit cards by offering products on buy now and pay later (BNPL) financing plans. The concept is that consumers can get the product immediately by signing up for interest-free installment payments.

BNPL is classified as embedded finance, as the retailer doesn’t finance the purchase themselves, but rather redirects the consumer to a third-party finance company. These BNPL companies require only limited customer information and can make instant decisions on the application.

Retailers see an increase in sales from the programs; a study by BNPL provider Afterpay found that 42% of Gen Z and 69% of millennial shoppers are more likely to buy if a BNPL service option exists. Consumers can get the product right away and pay no interest (as long as they fulfill the agreement). And the BNPL companies profit from fees received from the retailers.

Embedded Finance - marketplace

Marketplace finance

As they can connect multitudes of consumers and businesses and sit in the middle of vast service chains, introducing various financial technologies into marketplace offerings promises an unprecedented ability to add value. Consider Uber, where one significant advantage the platform has over taxi services is the fact that payments are built into the app and require little extra effort.

As the company collects important data about driver revenue, they could offer car loans to drivers that help get them into newer vehicles, which creates better experiences for passengers and further ties the driver to Uber.

Marketplaces’ ability to provide finance, insurance, investment, and other services to both suppliers and users delivers opportunities to improve marketplace offerings, create new revenue streams, and help establish stickiness.

SMB financing

Another type of loan that can benefit from embedded finance is small and medium-sized businesses. These businesses have traditionally had difficulty getting bank loans, as the amount of paperwork required is substantial and each company has different requirements.

Payments companies and eCommerce platforms have stepped in to address this business niche, providing cash advances based on future sales. They already have sales data and information from thousands of businesses, which allows them to provide loans with minimal paperwork and no credit checks. They can help their retailers grow and make money off the loans, while retailers focus on growing their businesses, rather than administration and paperwork.

Quasi banks

Brands can offer numerous banking services without actually going through the rigorous scrutiny of having a banking license. By partnering with a licensee, brands can use their marketing clout to enter new markets without all the costs, time and risk traditionally necessary.

Apple Card is a credit card created by Apple and issued by Goldman Sachs. Google Pay will soon start allowing users to obtain digital bank accounts through its service. Walmart is building its own fintech startup.

As Angela Strange from Andreessen Horowitz suggests, perhaps every company will be a fintech company in the future.

Do you want financial services with that?

The evolution of the internet has brought mass connections, the ability to transact at scale and ubiquitous access. Now, the opening of layers of financial data and interweaving of financial applications is creating new models for creating economic growth.

Latham suggests, “Embedded finance will be the next stage in the evolution of fintech. Payments, wallets and banking-like services will become an integral part of internet-led companies spanning all aspects of the global economy.”

These are new tools of prosperity and hopefully, they can help raise incomes around the world, provide for better lives and help deliver financial wealth for many more people. The organizations that can position themselves to deliver on embedded finance will be at the forefront of new economic opportunities.