The First BaaS Unicorn and 4 Other Predictions for Fintech in 2022

Prediction 1: Some fintech startups will find it easy to raise capital, but many will find it harder

With $140 billion invested in fintech in 2021 according to FT Partners, against a previous high of $54 billion in 2018, there was more capital than ever available to fintech, but that capital was more concentrated than ever. 

The average fintech funding round in 2021 was $41m, up from $23m in 2020. With nearly 400 $100m+ rounds (compared to only 107 in 2020), two worlds have begun to emerge - the haves and have nots. 

Whether or not investors can maintain this pace of capital deployment into fintech is hard to say. On one hand, the spectre of inflation has people nervous, on the other, there are arguments for the worry of inflation being overstated and many European funds have been slow to deploy their funds during the pandemic and need to catch up and there is still plenty of liquidity around looking for risk. In my view, that’s likely to mean that the market for startup financing is likely to bifurcate further - capital will be concentrated on winners as investors look to deploy capital in bigger cheques.

Prediction 2: Fintech M&A will increase

By definition, private markets are not particularly efficient and that means some very good fintech will find it harder than they should to raise capital. With the best companies able to raise at very high revenue multiples, acquisitions will accelerate as fintech begins to realise how to use the cost of capital as a tool to drive their flywheels. Deals like Bill.com’s acquisition of Divvy and Monese’s acquisition of Trezeo in 2021 are examples of this behaviour at both ends of the size spectrum.

Again, there’s evidence that this has already begun from FT Partners. Fintech M&A Volume in 2021 was $348 billion, 45% higher than 2020, but average deal size was down 3% to $241 million. Though not a perfect comparison, the average size of a fintech M&A deal was 5.9x the average funding round in 2021, down from 10.8x in 2020, suggesting that more acquisitions were being done of relatively smaller companies.

Prediction 3: US Fintech will begin to enter Europe

N26, Monzo and Revolut have all had a crack at the US and 2022 will be the year that the Americans have a go at Europe. Despite a record 828 investments into fintech in Europe in 2021 (+39% vs 2020), the proportion of funding rounds into Europe was actually down compared to the US, arguably suggesting that access to capital is actually getting relatively harder for European fintech compared to their US competitors, not easier. 

The resulting cost of capital advantage for US-based companies may be a driver for US fintech to consider their first European acquisitions as they will look relatively cheap and may drive valuation growth due to the difference in multiples. Many US fintech startups already have developers in Europe and the continued maturation of BaaS and experience of working remotely during the pandemic is likely to remove the traditional objections to crossing the Atlantic. 

Interestingly, this will happen right at the same time as Europe becomes more difficult to operate in, with the regulation becoming more fragmented (see the way Germany is blocking traditional passporting), countries becoming more isolationist (e.g. UK changing the approach to R&D tax credits) and traditional banks increasingly using lobbying as a way to stifle completion (see Anne Boden’s comments to UK Parliament on Open Banking).

Prediction 4: European fintech’s move to the US will accelerate despite previous failures

N26 has withdrawn, Monzo is rumoured to be considering the same and Revolut has struggled and yet, despite the track record of European fintech not being great, the same trends that will drive US fintech will also drive European fintech to the US. 

The prize for European fintech being successful in the US is huge - a less fragmented market, bigger TAM and better access to capital at a lower cost. Whereas the first European wave of fintech to make the move was consumer, the second wave will be B2B. In B2B, brand and being first mover is less important than consumer and mature market structures are less likely to be winner-takes-all, meaning it’s likely that the second wave has a much better chance of success than the first. We already see this with companies like Pipe, Tradeshift and Codat successfully making the move across the Atlantic and, as above, the maturation of BaaS will help more fintech companies make the move earlier than ever before.

Prediction 5: We will get our first BaaS unicorn… but pivots are likely

Many fintech investors have questioned the ability of BaaS companies to build a big business because many of their customers are fintech startups and are likely to churn as a result of not finding product market fit. Whilst true, churn isn’t a great metric for BaaS as, just like a well constructed VC’s portfolio, it’s a hits business. That means that as BaaS customer cohorts mature, they will have more hits and will grow with their customers, even as the fintech that don’t make it fall away and growth will accelerate as each historical cohort gets bigger. Put another way, fintech investors will learn something that SaaS investors learned a long time ago - NRR is more important than churn.

A combination of the market dynamics above and fintech learning the SaaS lesson of NRR will mean that we’re likely to get our first BaaS unicorn in 2022. Railsbank is already close and likely to cross the milestone soon, with others to follow. 

Interestingly, Railsbank is the only BaaS to go global, compared to the traditional financial services strategy of staying local. Synapse is rumoured to be looking at pivoting towards a global strategy already and the increased numbers of fintech startups looking to cross borders will mean that others surely follow. 

Again, this may be a driver of M&A. Being expert in payment systems and regulation in one market is very hard, doing it in more than one market is an order of magnitude harder - lessons I’ve personally learned the hard way, having led Railsbank’s US deal with Cross River Bank. brokered their deal with Volt Bank in Australia years ago and getting Cledara partnered with Bond and CBW in the US. BaaS companies looking to move cross border with access to capital are probably well advised considering acquisitions of local teams to accelerate and de-risk the move.