How two neobanks grew during challenging times and the future of online banking | TC Disrupt 2024

Competitive Advantage of Neobanks

• The discussion highlights the competitive advantage neobanks have over traditional banks due to their lower cost structures. Neobanks like Dave operate entirely digitally and without physical branches, allowing them to serve customers at a significantly lower cost compared to traditional banks, which reportedly need $300 annually to break even on a customer checking account. In contrast, Dave's cost is about $40 to $50. (1m9s)
• Dave's CEO emphasizes the advantage of a low customer acquisition cost (CAC), which is around $15 per customer, compared to several hundred dollars for traditional banks. This efficiency has enabled Dave to acquire 700,000 new customers per quarter. (2m5s)
• Colin Walsh, CEO of Varo Bank, discusses the motivation behind starting the company, which is to provide better financial services to people struggling to make ends meet, especially in a challenging economic environment with high inflation and interest rates. Varo aims to offer free banking services, instant payment options, and credit-building opportunities to help consumers improve their financial situations. (2m40s)
• Both CEOs agree that traditional banks have largely neglected consumers living paycheck to paycheck, and neobanks are stepping in to fill this gap by offering intuitive and supportive financial solutions. This focus on underserved consumers contributes to the low CAC for neobanks. (3m44s)
• The cost of acquiring customers for the neobank has decreased significantly, with most acquisitions now occurring organically, which incurs no cost. (4m9s)
• The neobank is not using its own infrastructure but rather existing financial systems, allowing it to offer banking services at a lower cost than traditional banks. (4m53s)

Commoditization and Differentiation of Neobanks

• There is a concern about the commoditization of neobanking services, as many companies offer similar services, leading to potential customer churn and competition based on rates. (5m21s)
• Neobanking has been around for 25 to 30 years, with many companies offering low fees and no overdraft fees, but these features alone have not been enough to gain significant traction. (5m51s)
• The neobank Dave differentiates itself by being a credit-first neobank, addressing the need for credit access among consumers living paycheck to paycheck who have low credit scores. (6m22s)
• Dave pioneered cash flow-based underwriting, allowing it to offer no or low-cost overdraft services without checking credit scores, using cash flow data from external accounts. (6m41s)
• This innovative approach has been a key value proposition for Dave, contributing to its low customer acquisition cost and expansion into other services like checking and savings accounts. (7m25s)
• One neobank differentiates itself by offering a no credit check overdraft product that customers can access instantly upon joining. (7m59s)
• Another neobank distinguishes itself by being a fully regulated bank with a denovo national bank charter, unlike others that acquired existing banks. It positions itself as a financial operating system, offering services like banking, money transfers, credit building, and savings solutions within a single app. (8m15s)
• This neobank enhances the user experience by transforming account statements into smart ledgers that provide insights into spending patterns, making the app highly engaging with customers logging in frequently. (9m2s)

Traditional Banks vs. Neobanks

• Traditional banks have invested in mobile technology but often lack the integrated experience that neobanks provide, as their apps tend to reflect their organizational structure rather than customer needs. (9m56s)

AI and Machine Learning in Neobanking

• A neobank in Israel, One Zero, aims to use AI to offer high-touch customer service typically reserved for high-net-worth individuals to average customers. (10m24s)
• AI and machine learning are embedded into various aspects of the customer lifecycle, although they are not considered the ultimate solution for all challenges. (11m20s)
• Machine learning models are being used in various aspects of the business, including account decisioning, fraud identification, dispute adjudication, credit underwriting, and customer servicing, to add value and personalize the experience for customers (11m26s).
• A new lending product was launched that uses machine learning tools to provide highly personalized information to individuals, showing exactly where they stand and how much they are eligible for (11m56s).
• The integration of AI in every piece of the business is seen as advantageous, but customer-facing AI solutions are also useful, particularly for lower-income consumers who may not have access to premium phone support (12m37s).
• At Dave, AI has been integrated into customer support, with a tool called Dave GPT that solves around 80% of customer inquiries, providing a better result for customers than outsourcing calls (12m59s).
• The use of AI-powered chatbots can help keep costs low for consumers, but human support is also necessary for edge cases, with some companies investing in 24/7 human support to complement their chatbot services (14m10s).
• The high-end banking system is not seen as broken, with services like private banking and mortgages still in demand, and companies like JP Morgan growing their business in these areas (13m48s).
• The use of AI-powered chat services, such as Amazon's Lex, can contain a significant percentage of calls, but human support is still necessary to handle edge cases and provide a better customer experience (14m13s).

Financial Education and Literacy

• There is a significant demand for financial education and literacy, particularly among lower-income consumers. Providing tools and advice that are contextualized and embedded into financial solutions is crucial for helping individuals manage their finances effectively, especially those living paycheck to paycheck. (15m19s)

Going Public vs. Staying Private

• Two neobanks are taking different approaches to business growth: one is publicly traded via a SPAC, while the other remains privately held. Each approach has its own advantages. (16m1s)
• SPACs have received criticism, but they offer benefits such as agreed-upon pricing and capital amounts at the onset, unlike traditional IPOs where valuation discovery occurs later. (16m20s)
• The publicly traded neobank, Dave, chose the SPAC route due to the involvement of a trusted sponsor and a lead investor, Tiger Global, which provided non-dilutive capital and a guaranteed sum of money. (16m58s)
• Despite market challenges post-public offering, Dave has experienced significant growth, with three successful quarters of profitability and a $600 million market cap. The company has a clean capital structure with no preferred equity or debt, allowing it to control its own destiny. (17m42s)
• Dave's valuation has increased significantly in the past nine months, and the company views its public status as a valuable learning experience. (18m12s)
• The CEO of Dave is glad they went through the process of being a public company, despite the challenges, as it has given them a valuable public market currency and allowed them to build strong investor relations and analyst coverage (18m24s).
• The CEO believes that being public has made it easier for private companies to consider Dave as an exit option, as they have a simple capital structure (18m57s).
• The CEO of another company, who remained private, is happy with their decision, as they were not ready to be public and have the advantages of a simple cap table with no debt and lots of liquidity from customer deposits (19m8s).
• The private company has raised over $1 billion in funding, but considers their cap table to be simple, as it is all common equity (20m0s).
• The private company's valuation was $2.5 billion in 2021, but they do not disclose their current valuation (20m30s).

Market Consolidation and Challenges

• The CEOs discuss the potential for consolidation in the industry, as well as the impact of crashes in the market, such as the case of Signups (20m59s).
• The CEOs note that the problems of other companies, such as Signups, have no direct impact on their businesses, but can create contagion and questions in the market about the industry as a whole (21m37s).
• The CEOs believe that the market is subject to fake news and misinformation, which can lead to unnecessary concerns and questions about the industry (21m54s).
• Concerns about the safety of deposits in fintech companies during bankruptcy are addressed, clarifying that deposits are kept safe with third-party sponsors like Silicon Valley Bank, and are not used to fund the business. This has not slowed customer acquisition for companies like Dave, which have become regulated institutions and keep most deposits at the Federal Reserve. (21m59s)
• The fintech market has seen a reduction in the number of neobank players, with only those having strong business models and low customer acquisition costs surviving. The market has changed significantly over the past two years, with high-profile failures like Synaps impacting consumers. (23m2s)
• There is a discussion about the potential for consolidation in the neobank space, with some neobanks looking for buyers. Companies like Dave are cautious about acquisitions, focusing on opportunities that increase lifetime value, offer new features, or provide economies of scale. They are wary of acquiring companies with complicated capital structures and high burn rates. (23m33s)
• For acquisitions to be considered, they must be earnings accretive and provide benefits such as captive distribution networks or products that align with the company's roadmap, making a buy versus build decision favorable. (24m48s)
• The criteria for considering consolidation plays in the neobanking industry include discrete factors, and incumbent banks have been strong in acquiring smaller neobanks, with examples seen in the UK market (25m20s).
• Incumbent banks face challenges from a tech perspective, including their tech stacks, business models, and cost structures, making it difficult for them to successfully acquire neobanks (26m4s).
• The trend of incumbent banks acquiring neobanks may not be seen in the US market, as many incumbents have tried and failed to create their own neobanking services, such as Finn and Wells Fargo's Greenlight (25m54s).

Crypto and Blockchain in Neobanking

• There has been a massive swing into crypto services from neobanks in the UK, but the role of crypto in the US neobanking industry is uncertain, with some seeing potential for use cases like international remittance (26m32s).
• The focus for some neobanks is on expanding financial inclusion, helping people get ahead, and creating financial opportunities, rather than exploring crypto as a commodity asset class (27m1s).
• Blockchain technology has potential use cases, such as quick money remittance and money identity, but for certain customer segments, avoiding fees on financial products is a more important goal (27m50s).
• The average customer of one neobank spends around $400 a year in bank fees prior to joining, and avoiding these fees can have a greater impact on their net worth than investing in Bitcoin (28m16s).

Market Penetration and Growth Potential

• The market penetration of neobanks in the US is around 30-40 million customers, with a large addressable market of 180 million people living paycheck to paycheck, and 250 million people in total (28m36s).
• There is potential for growth in the neobanking industry by expanding outside of the US to other markets, but this direction has not been explored in detail (28m55s).
• The future growth of the company is expected to be in the US, with no current commitments to going international (28m59s).
• The company's investments in Cash AI, a cash flow-based underwriting system, could be interesting for different markets as it uses truly cash flow data alone to offer people credit (29m7s).
• The Cash AI system does not use credit bureaus, which are fragmented across the globe, making it a unique offering (29m17s).
• There is still much room for penetration in the US market, with a huge total addressable market (TAM) opportunity (29m35s).
• While the focus is currently on the US, the management team has a global background, and international expansion is not ruled out for the future (29m40s).