A few months ago I wrote about the rise of challenger banks. These challenger banks have been able to capture customers by marketing themselves as companies that depositors can trust — something that big banks were unable to convince many of after the fallout of the Great Recession.
Over the past 24+ hours, Chime, one of the largest challenger banks with over five million customers, has been down due to a service outage. According to reports, the company’s third party payment processor, Galileo, experienced an operational incident that resulted in issues settling payments. This has since been fixed but not after a full day had passed. As of writing, the company website is still down.
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Not only has this debacle left five million people without access to their money, but it has also tarnished the legacy of Chime and should provide some skepticism about the business models of challenger banks.
Challenger banks have labeled themselves as tech firms rather than financial services firms largely due to the regulatory standards they are able to bypass by doing so. This has been and remains to be a major complaint by the incumbents, and after an event like this one where five million people are left stranded, it is hard to not say that some overwatch and repercussions may be necessary for firms under this mold.
Effects of a disaster of this magnitude have the potential to impact market appetite and valuations for the broader sector.
Fintech has been especially hot in the investing world with loads of capital coming from private equity and strategic institutional investors. Especially in the private equity markets, fintech company valuations are based off of growth potential and little else. An event like this considerably hurts the justification and rationalization of a valuation such as Chime’s.
Chime previously raised a $200 million Series D in March valuing the company at $1.5 billion. As of writing, Chime offers banking services to roughly five million customers. Performing some simple math tells you that the value of a Chime customer is roughly $300 — not a low number by any means, yet not nearly as high as some other fintech consumer companies today.
In order for this number to make sense, you must first understand how Chime makes money.
Chime appeals to consumers as a banking alternative that charges no fees; the platform is free to use for the consumer and the company makes money through a transactional model. More specifically, Chime partners with Visa and collects an interchange fee from the merchant once Visa has taken its cut. In short, every time you pay for something with your Chime card, Chime makes a small cut via the merchant you pay.
The company does not disclose how much of a fee they collect, but standard interchange fees are composed of a percentage of the total transaction plus a fixed amount (2% + $0.10). Assuming the standard Chime transaction is $20, this comes out to $0.50. Again making an assumption that Visa takes 80% of that fee (give or take), this leaves Chime with $0.10 from every transaction one of their customers make. Using this math, in order to justify the LTV of $300, a Chime customer must make over 3,000 purchases with his/her Chime card.
These unit economics are not bad, and 3,000 transactions in a lifetime seem very reasonable. However, the underlying success of the business depends on customers using their Chime card frequently, and an event like the one that happened yesterday will take a toll on the top line. Not only is it fair to assume that it will become much more difficult to acquire new customers, but existing customers will think twice about using their Chime card for future purchases (if they stick around).
Fintech companies and challenger banks pride themselves companies of trust. After Chime’s recent fiasco, much of that trust has disappeared. If you lose your competitive advantage, how do you differentiate?