Over the past decade, technological progress and innovation have revolutionized the fintech sector, propelling it from the outskirts to the forefront of financial services. This growth has been rapid and relentless, fueled by the booming banking sector, rapid digitization, evolving customer preferences, and increased support from investors and regulators. Fintechs have redefined various aspects of financial services, bringing innovation, differentiation, and customer-centric approaches to the table. They have embraced collaborative business models and assembled agile, cross-skilled teams.
As of July 2023, publicly traded fintechs boasted a market capitalization of $550 billion, double the figure from 2019. Additionally, there were over 272 fintech unicorns with a combined valuation of $936 billion, marking a sevenfold increase compared to five years ago. However, a market correction in 2022 caused a slowdown in growth momentum. Funding and deal activity declined, with fewer IPOs and SPAC listings, and the creation of new unicorns decreased. The macro environment also became more challenging and uncertain. Fintechs are now entering a new era of value creation, where they must balance growth with financial prudence.
In this article, we explore how fintechs can continue to thrive and remain relevant amidst disruption. Drawing on extensive research and interviews with industry leaders, we identify key themes shaping the future of fintechs. We also provide a framework for sustainable growth based on strategies employed by established companies that have weathered economic cycles.
Fintech Growth: Then and Now
The fintech industry experienced record capital raising in the second half of the previous decade. Venture capital funding surged from $19.4 billion in 2015 to $33.3 billion in 2020, representing a 17 percent year-over-year increase. Deal activity mirrored this growth, with the number of deals rising by 1.2 times during the same period.
2021 proved to be an exceptional year for the industry, driven by accelerated digitization due to the pandemic and abundant liquidity in the financial system. Funding skyrocketed by 177 percent year over year to reach $92.3 billion, and the number of deals increased by 19 percent.
However, the funding surge was a temporary phenomenon. In 2022, funding levels returned to long-term trends as growth expectations normalized and macroeconomic conditions worsened. Fintech valuations plummeted, and many private firms experienced down rounds. Globally, VC funding dropped from $683.1 billion in 2021 to $459.6 billion in 2022, with fintech funding declining by 40 percent from $92 billion to $55 billion. Despite this decline, fintech funding remained relatively stable at around 12 percent of total VC funding over a five-year period.
Looking ahead, the fintech industry faces challenges but also promising opportunities. As investors adapt to a new financial landscape characterized by higher interest rates and inflation, their assessment of risk and reward is shifting. Simultaneously, ongoing technological advancements present new value creation prospects. Our research indicates that the fintech industry is expected to achieve revenue growth nearly three times faster than the traditional banking sector between 2022 and 2028, with an estimated 15 percent annual growth rate compared to the 6 percent growth rate for traditional banks.
These trends align with the maturation of the fintech industry. Three key themes will shape its future. First, fintechs will continue benefiting from the transformative changes in the banking industry, rapid digital adoption, and e-commerce growth worldwide, particularly in developing economies. Second, fintechs still have untapped growth potential within an expanding financial services ecosystem. Third, certain verticals and growth stages within the fintech industry demonstrate greater resilience amidst market corrections.
Radical Transformation of the Banking Industry
Banking is undergoing significant restructuring. Traditional banks and non-bank entities are competing to serve specific customer needs across five cross-industry arenas: everyday banking, investment advisory, complex financing, mass wholesale intermediation, and banking as a service (BaaS). The sector is also witnessing macro tailwinds that drive fintech and financial services ecosystem growth. Digital adoption has become the norm, with approximately 73 percent of interactions between consumers and banks occurring through digital channels worldwide.
Furthermore, retail consumers globally trust and value fintechs as much as incumbent banks. In fact, 41 percent of retail consumers plan to increase their exposure to fintech products. This demand is particularly pronounced in developing economies, where initiatives like mobile money have gained substantial traction. For example, Africa boasts nearly 800 million mobile accounts, representing almost half of the world’s total.
B2B firms are also embracing fintech solutions. In the United States, 35 percent of small and medium-sized enterprises (SMEs) consider using fintechs for lending, better pricing, and integration with existing platforms. Similarly, 20 percent of Asian SMEs leverage fintechs for payments and lending.
To capitalize on this demand, fintechs must navigate evolving regulations and ensure they have the necessary resources to comply. Regulatory bodies worldwide are increasingly bringing fintechs under the scope of financial regulation to safeguard consumers and uphold industry standards.
A Nascent Industry in an Expanding Ecosystem
The global banking sector generated over $6.5 trillion in revenues in 2022, experiencing year-over-year growth in volume and revenue margins. Fintechs accounted for approximately 5 percent (or $150 billion to $205 billion) of the sector’s net revenue in 2022. This share is projected to surpass $400 billion by 2028, representing a 15 percent annual growth rate, three times higher than that of the overall banking industry.
Emerging markets will drive much of this revenue growth. Fintech revenues in Africa, Asia-Pacific (excluding China), Latin America, and the Middle East accounted for 15 percent of global fintech revenues in 2022, a figure projected to rise to 29 percent by 2028. In contrast, North America’s share is expected to decrease from 48 percent to 41 percent during the same period.
Despite already high fintech penetration in emerging markets, substantial growth potential remains due to limited access to traditional banking services and a significant underbanked population. Fintechs have successfully addressed these unmet needs, as exemplified by the rapid adoption of fintech banks like Nubank in Brazil, serving 46 percent of the country’s adult population.
While private fintech companies’ market capitalization has surged in the past decade, their penetration of the public market remains limited. Legacy financial services companies still dominate public markets, highlighting the potential for fintechs to expand and establish a stronger presence.
Not All Fintech Businesses Are Created Equal
The fundraising performance of fintech firms varied based on their maturity and verticals in the tumultuous year of 2022.
Maturity Stage: Growth-stage companies (series C and beyond) faced the biggest funding downturn, with a 50 percent year-over-year decline. Early seed and pre-seed fintechs, on the other hand, demonstrated resilience and increased funding by 26 percent. This disparity can be attributed to the longer time to maturity for early-stage startups, providing them with more flexibility to weather economic uncertainties.
Verticals: B2B fintech segments experienced more resilient funding compared to B2C segments. Funding decline for BaaS and embedded finance and SME and corporate value-added services was limited to 24 percent and 26 percent, respectively, while payments-focused fintechs faced a 50 percent decline. Nevertheless, payments and lending received the largest share of total fintech funding.
The B2B segment has grown significantly, driven by businesses adopting off-the-shelf fintech solutions to overcome challenges posed by legacy banking infrastructure. Many SMEs still rely on such infrastructure, limiting their flexibility, speed, and cost-effectiveness. Fintechs have successfully addressed these challenges, especially in developing countries.
The Path to Sustainable Growth
Fintechs must carefully navigate the current market conditions. The days of growth at any cost are behind us, as fintechs and investors now emphasize profitability alongside customer adoption and revenue growth. Achieving sustainable, profitable growth requires a shift in strategies and practices. Drawing from McKinsey’s research on value-creating growth, we propose four pathways to sustainable growth for fintechs.
Cost Discipline
In the past, fintechs prioritized rapid growth over cost management. However, the current funding environment necessitates a stronger focus on cost savings and achieving profitability without sacrificing customer satisfaction and growth. Our research indicates that 50 percent of public fintechs were profitable in 2022, with cost management being the key differentiator. While both profitable and non-profitable fintechs experienced similar revenue growth, profitable fintechs reduced costs by 3 percent, while non-profitable fintechs saw costs rise by 27 percent.
To achieve sustainable growth, fintechs must implement targeted cost management efforts. We found that 60 percent of surveyed fintechs are significantly managing costs, negotiating expenses, and making long-term plans. For instance, Indian fintech company Paytm achieved breakeven six months ahead of schedule through disciplined cost management, revenue growth, and a business model with strong operating leverage.
Fintechs should also consider adjusting their operating models to enhance agility and flexibility. Around 80 percent of surveyed fintechs reported making changes to their operating models, with 66 percent prioritizing profitability and cost structure. Reinforcing control functions to ensure regulatory compliance is equally essential.
Measured Growth
Fintechs can achieve sustained growth by taking three strategic steps: building a strong core, expanding into adjacent segments and geographies, and adopting a “shrink to grow” approach. Building a strong core involves focusing on local markets and perfecting product-market fit. Research indicates that companies focusing on their core business and home market are 1.6 times more likely to outperform peers. Tailoring value propositions to focus markets, such as cross-selling and capturing new customers, is crucial.
Expanding into adjacent segments and geographies can be the next growth driver. Companies that do so are 1.2 to 1.3 times more likely to generate sizable returns. However, expansion is no longer a must-do strategy. Fintechs should pursue measured, value-creating growth rooted in competitive advantages and strong footholds. OPay’s expansion into various financial services verticals, starting as a mobile money platform in Nigeria, exemplifies successful expansion.
Shrinking to grow is another viable strategy. Fintechs can divest underperforming parts of their portfolio and scale back in regions with limited growth, reallocating capital to high-performing segments. Companies embracing this strategy are 1.4 times more likely to outperform peers.
Programmatic M&A
Strategic acquisitions and partnerships can accelerate growth more efficiently than relying solely on organic development. For example, Block’s acquisition of Afterpay facilitated the realization of its strategic priorities. Nearly 60 percent of fintech executives surveyed expressed their intention to pursue an acquisition within the next 18 months.
As IPO and SPAC activity declines, fintechs turn to private markets for funding. M&A transactions tend to increase during periods of economic uncertainty, delivering higher returns. However, successful M&A requires careful consideration of cultural fit, product-market alignment, and realistic revenue forecasts.
Keeping the Culture Alive
Fintechs’ disruptive power lies in their ability to innovate and differentiate. Their agility and customer-centric approach, unburdened by legacy systems, enable them to anticipate and address customer needs effectively. Incumbents are catching up by investing in new technologies and partnering with BaaS platforms.
To retain a competitive advantage, fintechs must prioritize continuous innovation. The next wave of disruption, such as generative AI, is expected to shape the future of finance. Fintechs must also overcome talent acquisition challenges in a tight labor market. Strengthening company culture, innovation, and mission will help fintechs attract top tech talent. Tailored strategies, such as offering stock options and creating inclusive hiring practices, can yield positive results.
In conclusion, the fintech industry is undergoing significant transformation. To thrive, fintechs must pursue sustainable growth through cost discipline, measured growth, programmatic M&A, and a continued focus on innovation and company culture. Decisions made today will shape the industry’s future, and fintechs must carefully evaluate and implement strategies to succeed in the long term.
