US. vs. Europe: two visions of Open Banking and their impact on the market structure
Data aggregation has never been that hot in the financial services market… The increasing number of transactions and the constant launch of new players are the best illustrations of a sector heating up quickly globally. However, the US and the European markets are far from similar.
In the recent months, the two biggest announcements in the industry are the acquisition of US-based startup Plaid by Visa for $5.3B and Tink’s last fundraising round, which brought the Swedish startup valuation to €415M post-round. What a first quarter!
Those announcements are impressive but raise questions. Both Plaid and Tink were launched in 2012. Both companies are leaders in their local markets. But their valuations are very different… Why? What can explain such a gap?
Well, there are, of course, several factors. But the most obvious one is the fact that both companies launched and operate on two different continents… Indeed, the US and Europe have very different market approaches.
The US and Europe, 2 continents, 2 different Open Banking approaches
On the one hand, the case of Europe that we all know quite well, which approach to open banking is regulatory-driven. In the financial services world, PSD2 is even more popular than the word “Fintech” nowadays.
With PSD2, the European regulator aimed at deciding:
1) what was going to happen,
2) when and,
The regulator’s idea is to ultimately make it mandatory for *all* banks to comply with their very own definition of open banking.
On the other hand, in the US, the market is following a way more liberal industry-driven approach.
On the other side of the Atlantic, the premises of open banking came from the industry itself, with the rise of innovators understanding market gaps and incumbents willing (or not) to follow the trends and answer changing customers’ needs. What’s key in this approach is that there are no binding regulatory publications asking industry players to move in a particular direction. This specific vision has a significant impact on technical innovations over there, leading to the emergence of two main differences between the two continents.
These key differences are:
- Popularity: Today, open banking in the US market isn’t widespread across all actors of the financial services ecosystem. Some banks may choose to open their gates and meet the customers where they are, when some others may not, which makes it more difficult to connect to a wider number of financial institutions and increases the barriers to entry in the space, as connections are not systematic.
- Homogeneity: While some connections happen through secure APIs, with Tier 1 banks like JP Morgan and Citibank leading the way, (many) others still rely on password sharing and screen scraping. This is crazy when you think about it, as there’s one thing you’ve heard over and over again since you’re a child, which is: “do not share your banking password with anyone, never, ever”. Along with “do not get in the car with strangers”, but that’s another story.
These discrepancies across the US market create a differentiation in the value of the connections aggregators have built over time. APIs connections are more valuable than password sharing since they are more secure and reliable. This is especially true when password sharing is happening via entities that are not licensed or supervised by any regulator, while in Europe, such players expressly need a license.
As a result, Plaid’s value add to the US market lies in the fact they signed agreements with banks to use or build their APIs and to access data using encrypted credentials, which is way safer than screen scraping.
What’s the impact on sector consolidation and maturity?
In Europe, the requirement for banks to be compliant with the PSD2 by a certain date drove an increase in the urgency on the demand side. So did the offer side… 17 (yes, seventeen!) European players have launched since 2012, with Tink being one of the most advanced on the list. That said, no clear pan-European winner has emerged so far. Instead, local winners are burgeoning, and the scalability of these companies is going to take time.
Main actors of the data aggregation industry, ranked by inception date and main countries of operations:
Sure, thanks to PSD2, Europe is on its way to becoming a homogeneous market, but it’s still not the case, for at least two reasons:
1) As a European directive, PSD2 has been translated into local laws, to which regulated entities have to be compliant with. This extra step created as many interpretations of the text and local specificities as the number of member states. Sure, some discrepancies are more substantial than others. But what’s key to understand is that companies willing to operate across Europe need to hire local lawyers in every single member state to understand these differences in the legislation and approach;
2) In Europe, you often need local roots, cultural and language-wise, to win contracts. Which can slow the growth of these companies as well.
On the other side of the Atlantic, the US’s regulation homogeneity is less of an issue. Not that the federal system doesn’t create some substantial discrepancies among the states, but coming back to the industry-driven approach, regulation isn’t really the biggest growth challenge.
Interestingly enough, the data-aggregation trend over there was initiated way before the hype and even before the word “open banking” got coined. Yodlee, one of the historical players in the space got founded in as early as 1999! Before an IPO in 2014 and an acquisition by Envestnet in 2015 for USD 660M.
A second company launched in 2009, Quovo, got acquired by Plaid in early 2019, allowing the company to deepen its product offering. And that’s about it, that’s the US landscape, now down to only two main players: Plaid and Yodlee. E Basta. With Plaid having a quasi-monopoly position and working with 80% of the biggest fintech.
In just a few years, Plaid, thanks to constant support from its investors and several successful fundraising rounds, had the opportunity to develop an increasing and substantial amount of qualitative banking relationships. The company also grew very quickly to a clear market leader position, on a market as big as the European one, but way more homogeneous and with fewer regulations in place.
This quasi-monopoly status, along with substantial barriers to entry this industry-driven approach explains, at least in part, what made it so valuable for an incumbent like Visa.