Embedded finance
Embedded finance

A guide to embedded finance for challenger banks

In today's saturated market, challenger banks need to be the first to leverage integrated financial solutions to showcase their agility on the tech front. Our guide to embedded finance for challenger banks is a great resource to get started and stand out from the competition.

The rise of challenger banks

The last few years have seen a massive proliferation of digital banks, but if they’re going to prove their agility and challenge traditional lenders - they cannot let the embedded finance opportunity pass by.

In 2020 alone, the seven leading challenger banks in the US increased their users by 40%, and ABI Research predicts that the top 57 neo and challenger banks worldwide could jump from 155 million customers in 2020 to 590.6 million in 2026. By 2028, the estimated market size of neobanks will be $722.6bn.

Less Than 5% of the World's 400 Neobanks are Profitable | Fintech Singapore

There are many reasons for the rise of challenger banks, but the influence of millennials is the most important. Research from Goldman Sach suggests that millennial consumers have a greater spending power and are amongst the most influential forces in the market today. They are also more digitally fluent than any previous generation, and since 33% of them in the UK are considering becoming self-employed in future - traditional banking models aren’t the best placed to suit them.

Millennials were amongst the first adopters of digital banking as it emerged from the ashes of the 2007 recession, but the Covid-19 pandemic brought it to the forefront, pushing both new and old banks to digitise faster. According to SAS, in the first 12 months of the pandemic, 89% of challenger and traditional banks accelerated their digital adoption.

Traditional banks vs digital banks: The fight for new revenue streams

Interest in digitisation has led to an increase in investment, with challenger banks steadily receiving more capital since 2016. However, despite this, they rarely turn a profit. Of the 400 neobanks in the world, less than 5% are breaking even and some are even losing as much as $140 per customer annually. Investors remain content to pour money into challenger banks, but before discussing how they might become profitable, challenger banks need to secure market share and prove their ability to open up new revenue streams. The key to doing so is with integrated embedded finance solutions specifically geared towards SMEs - a massively underserved segment. After all, the embedded finance market for SMEs is set to reach $125bn by 2025.

SME market presents a huge opportunity🚀

SMEs are a huge part of the economy. In the UK private sector alone, they account for over 99% of the business population, three-fifths of employment (mostly the millennials mentioned earlier), and around half of the turnover.

Traditional banks have often struggled to effectively serve SMEs, failing to tailor their products to subcategories of the market and providing lacklustre support to businesses in different stages of growth. They have outdated front and back office processes that entail long, complex user journeys for SMEs looking to borrow. As a result, only 18% of small businesses in Europe say that they’re happy with their bank’s service.

Since there are a lot of SMEs who are underserved, it makes them an ideal customer base for challenger banks looking to increase their market share - but supporting SMEs has been historically difficult. Since small companies tend not to publish detailed financial statements like larger businesses, and often lack long credit histories, it’s harder for lenders to assess risk, which translates into higher premiums. In times of crisis such as growing inflation or a global pandemic, SMEs are also more exposed to pricing externalities, making them seem riskier still.

In reality, though, SMEs only seem risky on paper, and when it comes to borrowing they’re likely to go with the most convenient option. According to a recent study by Accenture, 41% of SMEs hold a positive attitude toward receiving and using banking services from digital platforms without switching between multiple apps, while 47% of them are willing to pay a premium to use embedded banking services on the digital platform. With the right integrated embedded finance solution, challenger banks can serve SMEs easily and at scale.

Embedded finance for challenger banks is a win-win

More and more neobanks are entering the market, and traditional banks are catching up with the process of going digital. In order to penetrate into new geographies and increase market share, challenger banks need to differentiate their products from traditional lenders, and from each other. The best strategy is to adopt integrated embedded finance solutions that are flexible to SMEs’ specific needs. This is where YouLend’s embedded finance solution comes in:

  • For small businesses, speed is crucial. Since SMEs have relatively little working capital - when they need funding, they need it fast. YouLend’s simple application and industry-leading APIs enable a >90% approval rate with same-day offers and funding.
  • Risk perception among traditional lenders is a huge problem for SMEs looking for financing. 57% of all SME credit applications are abandoned because they’re too difficult to complete or are ultimately rejected, but Youlend’s solution allows lenders to use non-traditional credit checks such as online reviews, Trustpilot scores and projected website sales to overcome the risk that holds traditional banks back.
  • Unlike traditional debt-based financing, revenue-based funding allows SMEs to repay a percentage of their daily sales, making them more secure against seasonal changes and unexpected crises like inflation, pandemics, and anything else that might arise.
  • YouLend's white labelled integrated embedded finance solution allows digital banks to easily launch customer-facing products that fit their branding and provides a seamless experience for customers.

Final thoughts

For challenger banks to remain competitive and eventually become profitable in the increasingly tough financial services market - they need to offer a complete suite of financial products and target new customer segments that can be serviced with scalable, tech-enabled solutions.

With YouLend’s integrated embedded finance products, they can successfully penetrate the SME market and outperform competitors - both traditional and digital - who are still debating which avenues to explore in the future.

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