Let's start with the common definition of Banking-as-a-Service (BaaS) and Embedded Finance. Typically, BaaS, as defined by solution providers, is when a bank or licensed entity offers services, similar to software-as-a-service, that players like fintech vendors or neobanks can use to enhance their offerings. On the other hand, Embedded Finance occurs when fintech vendors, using banking capabilities through APIs in a BaaS model, integrate these capabilities into a corporation's enterprise applications.
Looking at it from a different angle, my interpretation focuses more on the business model than the technology. If the entity accessing these capabilities aims to operate as a bank or take on regulatory responsibilities, I classify it as BaaS. However, if the user, whether a fintech or a corporation, only wants to consume these capabilities “as-a-service” without becoming a bank, I term it Embedded Banking (eg for transactional products such as payments) or Embedded Finance (eg adding interest-bearing products such as loans). For the sake of simplicity, I will refer to Embedded Finance from now on.
To simplify further, my perspective revolves around the user's intent. If the user, with a banking license, wants to operate as a bank, it's BaaS. Conversely, if the user without a banking license intends to consume these capabilities while leaving regulatory aspects to the license holder, it's Embedded Finance. The key difference lies in what the user wants to achieve with these capabilities – extending capabilities as a licensed bank (BaaS) or simply accessing them without becoming a bank (Embedded Finance). This subtle distinction provides a clearer understanding of the value proposition based on the user's business model.
Delving into the players involved and the value chain for both Embedded Finance and BaaS, we can identify four distinct roles.
Originators (eg license Holders): These entities, which can be large banks, small regional banks, or neobanks, hold banking licenses. They play a crucial role in developing and originating the foundational banking capabilities that underpin Embedded Finance and BaaS.
Distributors (eg fintech vendors, neobanks, smaller banks): The constituents of this group act as intermediaries. They leverage or access banking capabilities to distribute or resell them, often through various channels like business-to-business or business-to-consumer marketplaces.
Adopters (eg corporations): Corporations, whether large or small, form the adopter level. They consume banking capabilities seamlessly integrated into their enterprise systems, such as ERP, treasury systems, or accounting software.
Certainly. From my observations, especially in Europe, fintech vendors often take the lead. These companies originate from the technology sector and develop a full stack to serve as intermediaries between banks and end users, and in some cases, even replace traditional banks. For example, companies like Vodeno exemplify this trend. In Europe, there is also a surge in entities (eg Weavr, Aazzur, Toqio) creating BaaS or Embedded Finance infrastructure, functioning as orchestrators between the originators and and the end users.
It's somewhat premature to pinpoint specific success metrics at this stage. Currently, the focus lies on factors such as increasing deposits and loans, particularly in the American context. For banks, success may be gauged by growth in deposits and lending.
Another key metric for banks could be the revenue generated from non-interest fees, such as subscription fees for offering Banking-as-a-Service capabilities. Additional metrics, challenging to quantify at this point, encompass customer engagement, satisfaction, loyalty, and retention, along with potential internal cost reductions due to increased automation. While these metrics are still in the early stages of validation, they offer some insights into the potential success of Banking-as-a-Service propositions.
I see Embedded Finance as the natural progression of Open Banking. The concept of open banking is to enable not only banks but also non-banks to participate. In Europe, PSD2 opened up the possibility to operate payments to non-banks. With Open Banking, access to both banks and non-banks is granted based on user permission. Initially, banks developed APIs to comply with PSD2, but soon realised that merely having a robust catalogue of APIs wasn't enough. Fintech players began using these APIs to position themselves between banks and end-users, posing a risk of further disintermediation.
Banks then considered approaching clients, particularly smaller companies, and discovered that clients wanted to manage everything from their enterprise systems. This realisation led to the need to create connectors that embed finance capabilities into major enterprise systems like SAP, Oracle, etc. This shift towards Embedded Finance is propelled by the necessity to provide solutions that seamlessly integrate with clients' day-to-day operations.
An exemplary case of BaaS is the collaboration between Finastra and HSBC working together to distribute HSBC’s FX services via Finastra’s FusionFabric.cloud platform. This allows HSBC to offer FX capabilities as a service to other financial institutions, representing a noteworthy instance of BaaS with the originator bank (HSBC) providing as-a-service FX capabilities to institutions seeking to expand their portfolio for their clients.
Another notable example is Maast, a US-based Embedded Finance fintech and a wholly-owned subsidiary of Synovus Bank. They have introduced Embedded Finance solutions for independent software vendors (ISVs) and software providers. This is the case of Embedded Finance offered by a dedicated unit of a US regional bank, Synovus, to fintech partners (eg non-bank license holders) who consume the capabilities offered as-a-service to deliver added value banking features to their clients.
Lastly, an interesting proposition comes from Crealsa, the first Spanish neobank for professionals and a bank license holder, leveraging its partnership with Agro.Club as a distribution channel for its financial products. The collaboration between Agro.Club and Crealsa exemplifies how financial products can be distributed innovatively through partnerships.
This marks the beginning of a series of interviews covering Embedded Finance and BaaS. In our next interview, we'll delve into the current landscape and regulatory challenges faced by BaaS providers. Join us as we shed light on the pivotal role regulators play in navigating this dynamic ecosystem.
Enrico Camerinelli is a Strategic Advisor at Datos Insights specialising in commercial banking, cash and trade finance, and payments. Based in Milan, he brings a strong European focus to the Commercial Banking practice at Datos Insights. Enrico has extensive experience within his areas of coverage as well as in providing research and consulting services to clients. Most recently, he served as a Senior Analyst with Celent, focusing on the financial supply chain and Single Euro Payments Area (SEPA). Prior to that, he was the European Director and Chief Analyst at the Supply Chain Council, a nonprofit serving the logistics and supply-chain industry. In that capacity, Enrico provided independent research and advisory services as well as business development and budget control for the organisation. Before that, he was a Vice President and Research Leader at META Group’s Electronic Business Strategies service, tracking trends in supply chain management, product life cycle management, e-procurement, and sourcing. He also spent 10 years working as a supply chain manager at various manufacturing and automotive companies.
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