Big Impact on Banks with Fintech Players Entering the AMC Space

The Main News

CCI, Competition Commission of India, India’s anti-competitive watchdog, has recently approved Indiabulls AMC, Asset Management Company, and Indiabulls Trustee company’s acquisition by online brokerage company Groww. The CCI announced the news via Twitter last Thursday on 9th September 2021 (1).

Commission approves acquisition of Indiabulls Asset Management Company and Indiabulls Trustee Company by Nextbillion Technology pic.twitter.com/8utAVem6Yv

— CCI (@CCI_India) September 9, 2021

In early May, Groww announced the acquisition of Indiabulls’ 13-year-old mutual fund business for 175 crore INR. At that time, the CEO and co-founder of Groww, Lalit Keshre (2), stated that the startup aims to further democratize mutual funds by making them transparent, simpler, and affordable.

The acquisition will allow Indiabulls to leverage Groww’s network of over 1.5 crore customers to expand its products. According to media reports, Indiabulls is ousting its mutual fund business to focus on its core retail estate management business (3).

Founded in 2017 by Flipkart’s former employees, Harsh Jain, Keshre, Ishan Bansa, and Neeraj Singh, Groww provides mutual funds direct plans via a seamless and transparent investment approach web platform and a phone application. It competes with companies like Zerodha, IndWealth, Scripbox, etc.

It is also worth highlighting that Groww was among the six startups which turned unicorn in April this year. The Bengaluru-based company entered the prestigious billion-dollar club after raising 83 million USD in a Series D funding round led by Tiger Global. The company’s existing backers, such as Ribbit Capital, Sequoia India, Propel Venture Partners, and YC Continuity, also participated in the said funding round (4).

In FY 2020, Groww posted a 76.16 lakh INR revenue with a net loss of 7.93 crore INR, witnessing a 3.348% surge from 23 lakh INR in FY 2019. The startup also saw its expenses increase by more than 2,500% to 8.69 crore INR in FY 2020 from 31.76 lakh INR in FY 2019 (5).

Notably, Groww is not the only startup to enter the mutual fund business. Over the past few months, several startups have forayed into the space as India is witnessing a five times surge in its assets under management businesses over the past decade (6). India’s assets under management stood at 6.97 lakh crore INR in August 2011, and it has now increased to 36.59 lakh crore INR as of 31st August 2021.

In August this year, PhonePe, Flipkart’s digital payment arm, also received a nod for its board to set up an asset management company (7). We can see PhonePe seeking SEBI’s approval to launch its AMC business in the coming weeks.

Notably, Groww’s other counterpart, Zerodha has also received in-principle approval from SEBI a few days ago to initiate its AMC (8). Nithin Kamath, a co-founder of Zerodha, took to Twitter to announce the news (9). “So, we just received our in-principle approval for our AMC(MF) license. I believe now comes the hard part, he wrote in a tweet.”

So, we just got our in-principle approval for our AMC (MF) license. I guess now comes the hard part. https://t.co/g35YH60ksC

— Nithin Kamath (@Nithin0dha) September 1, 2021

Our Interpretation

Summary:

Fintech companies are supercharging their banking ambitions with AMC.

Groww and other fintech companies foraying into AMC indicate their ambitions fuelled by billions of VC money. A four-year-old startup, Groww successfully acquired a 13-year-old Indiabulls Asset Management Company and its trustee, Indiabulls Trustee Company Limited, for 175 crore INR.

And any observer can confirm that it is a big deal within the fintech ecosystem.

You may wonder why Groww, a company from a market with a technology pedigree, is going after a conventional AMC. Well, fintech companies have an overall vision: make investment easier for Indians. And it appears that their ambitions are evolving. No longer do they wish to be enablers of kit and kaboodle. They seem to be eying the entire thing.

How can Fintech Startups Acquire Mutual Fund Business?

The initial challenge was cleared when SEBI relaxed the rules in December 2020 (10) by allowing fintech startups and other smaller BFSI companies to launch mutual fund products to “facilitate innovation and enhance research.”

According to the new regulations, companies can sponsor and launch mutual funds if they maintain a net worth of 100 crore INR until they can demonstrate profitability for five years. According to new norms, companies will also need AMCs to keep their minimum net worth consistently and not only at the end of the year. It means any startup looking to enter this space must be highly capitalized. It has worked well for Groww since it has secured over 140 million USD so far.

As per the Association of Mutual Funds India, the scale of the AMC is quite huge considering that the total AUM assets under management of the Indian mutual fund industry are at 32.38 lakh crore INR, about 440 billion USD as of 30th April 2021 (11). Hence, it is a big deal when fintech startups like Groww and Zerodha enter the AMC space.

Industry experts suggest that the change in regulations will further fuel the entry of tech companies in the mutual fund business, particularly the relaxation of the profitability criteria. As of now, big banks like HDFC, SBI, Kotak, Axis, ICICI Prudential, and other major institutional brokers like JM Financial, Motilal Oswal dominate the mutual funds AMC business. However, we could soon see corporate-backed companies and VC-funded fintech startups disrupting the market.

And considering that even smaller AMCs have innovative products with low expense ratios but high returns, these startups can compete with major banks. The market has a long-tail nature, and the customer base also shifts their preferences as per AMC’s performance. It means that there would always be room for new players in the AMCs market. However, it would also mean that the AMCs market would be harder to dominate in the coming future.

While Groww may be the first fintech startup to venture into AMC, others will also follow. Since there will be plenty of new competitors, their success will depend highly on their business model.

Why Are Fintech Companies Joining the AMC Space?

After the Series D funding round, Keshre stated that the company is looking to expand its product line and increase penetration into Tier 2 and Tier 3 cities in a media report (12). He further added that the company would grow horizontally via launching new products such as investing in ETFs, IPOs, and vertically via making existing products such as stock investments deeper via more features like derivatives trading, advanced charts, etc.

As we mentioned earlier, Groww posted a 7.93 crore INR loss in FY 2020, a 3,348% increase from a loss of 23 lakh INR in FY 2019. In the last fiscal year, the company had recorded a revenue of 76.16 lakh INR with a little more than 29 lakh INR income from operations, while the rest, about 42.12 lakh INR, came from investment sales interest on bank deposits. There was also a significant increase in its expenses, from 31.76 lakh INR in FY 2019 to 8.69 crore INR in FY 2020.

It means that Groww would need a huge revenue boost to justify its valuation. And the move into AMC space with the acquisition of IndiaBulls would mean that the company can now expect to make a lot from its investment operations. After all, AMCs are far more lucrative businesses compared to stockbroking (13).

Can Fintech Players Change the MF Game?

Even though AMCs are lucrative businesses, there are still plenty of challenges. One can’t expect to enter the game and win big.

For starters, compared to the brokerage game, SEBI keeps a stingier scout on the mutual funds market. There are regular changes in rules which can complicate compliances for any new company entering the space. For example, last year, SEBI changed rules for compensation of fund managers to tackle insider trading.

In April last year, the AMC shut down six Franklin Templeton debt funds because of the lack of liquidity and redemption pressure in the secondary market for the underlying instrument (14). Last year, the coronavirus pandemic also caused a severe liquidity crunch, resulting in multiple stocks witnessing a drastic drop in the initial six months of 2020.

According to market experts, there are three most significant challenges for any new company venturing into the AMC market: corporate governance, risk management, and credibility. No technology can replace risk management, and credibility and corporate governance are about who is running the company.

Until we know these aspects, there is no way to tell how Groww or other fintech startups will perform. The dominated AMC players have their own banks as backers. However, in the case of Indiabulls, there is no similar credibility.

Moreover, even the future of the AMC business is presently looking uncertain because of the rapidly evolving fintech market. It has made revenue diversification one of the key success strategies in the BFSI technology game. Paytm serves as an excellent example for it in the payments industry with its multifaceted play, including cards, UPI, wallets, payment banks, investments, and a lot more. We can also anticipate Groww doing the same, but for the investment, tech domain starting with mutual funds.

Last month, Keshre had stated that people under the age of 25 are still a massive market in India (15), which Groww continuously targets. It tells us that Groww is looking to build its MF play on the back of its millions of young users rather than a few high-net-worth individuals. In contrast to what most AMCs target.

And if we see things from a competition point of view, Groww has a huge user base of 15 million users, mainly Millenials who use the platform for personal finance management products. The company can position its AMC business as an upsell for its existing base, offering bigger returns while charging AMC-like fees.

Any fintech startup looking to enter this market can leverage its existing customer base in building mutual fund products. The company can also look at ETFs and innovative bonds coming up in the market. In addition, there is also scope for innovation in the debt MF markets with investments in money market instruments like CPs, commercial papers, CDs, certificates of deposits, government bonds like Bharat Bond, treasury bills, and more.

At present, Indiabulls AMC is offering five debt schemes. However, the debt market is likely to be tight for a few more months because of the pandemic. It means, for Groww, having a big brand name in the market may not be enough. It will have to be innovative and prove its performance in the long run. Since Groww is still a loss-making firm, any redemption pressures can turn into a liability for it.

We will have to wait to know if Groww would turn the AMC market by allowing its young secondary market investors to invest in its mutual fund schemes. However, if done successfully, it can dramatically increase the addressable base for MFs and value-addition via fintect. Overall, it would also determine the fintech service industry’s future in India.

Does It Mean Fintech Startups Will Eventually Replace Banks?

In the ever-changing technology era, there are high chances that everything will be replaced over time. However, we still believe that fintechs will continue to remain in tandem with our traditional banks.

Yes, traditional banks and economic sectors have a lot to catch up on. Nothing seems to have been upgraded over the past two decades. We can also go as far as saying that banks seem hesitant to embody new technologies. In a split second, some of you may disagree with us and say that banks have evolved to a great degree over the last few years. However, you will start seeing that all of the changes banks have made favor themselves moreover customers at a closer look.

For example, of course, banks have moved their operations online. It has resulted in fewer department visits, saving your precious time. However, online banking would have never become a reality if accountants had not noticed that the upkeep costs of online banking technologies are much less than running branches.

On the other hand, fintechs have more polished strategies, better technologies and really put their customers in a higher position. And new web-versed generations have greater expectations than ever.

So, if banks want to survive over fintechs, it is time they get themselves equipped with modern tactics and put their clients firmly on the focus of what they do.

Fortunately, people today are free to swap their banks more than ever. Meaning, it is high time for banks to offer practical and personalized experiences, with terrific online services designed specifically towards their customers if they want to move ahead with this goal.

Still, considering the regulatory hurdles, non-competitive business models, and lack of trust, we don’t see fintech startups replacing banks altogether anytime soon. But, if banks fail to evolve, we may see startups morphed into licensed banks and lenders, allowing them to compete directly with established financial institutes. And those startups will be well-positioned to garner market share from the existing legacy banks.

Reinventing Customer Service is a Winning Strategy

When we talk about consumer banking, fintech players are the ones that come to our minds. In simple terms, the banking sector is ripe for disruption, whether it is about banking products or processes like savings, lendings, etc.

Fintech entrants see opportunities to disaggregate traditional banking’s components and offer target solutions with better services for both businesses and retail consumers. Meaning, fintech companies, as we mentioned above, have the potential to disrupt four categories of the banking sector, market share, information security and privacy, margins, and customer churn, at higher rates than financial sectors.

Our traditional banks are still not at the same level when it comes to offering customer-oriented solutions, at least, when compared to fintech companies. According to a PwC survey (16), only about half of the respondents from the banking sector believed that they are consumer-focused, compared to more than 80% for fintech participants.

By prioritizing 24/7 access, fintech offers services available through even non-traditional channels like social media platforms, empowering consumers significantly.

Fintechs observe and often even first-hand experience what banks offer and don’t offer. Then, they target areas that urgently need to focus on consumers. And by creating a niche, narrowly defined, but highly effective solutions, they have managed to step up and take over areas our traditional banks have neglected in terms of offerings.

Fintechs particularly offers:

Solutions for people not able to get loans because of no or poor credit scores
P2P marketplaces for people unable to get secure loans from conventional sources
Tools for personal finance management

In short, the biggest threat fintechs have for any banking or financial services is their impact on customer expectations towards services and offerings.

Now some of you may suggest that if banks and fintech can pave the way to collaborate, it would be a win-win for everyone. However, some major challenges inhibit business relations between banks and fintechs. For instance, banks often believe that fintechs lack regulatory certainty and IT security. On the other hand, fintechs often find banks hard to work because of the differences in management, working culture, and operational processes (17, 18).

In short, both traditional banks and fintech have the opportunity to disrupt the overall financial industry if they put their customers in the spotlight.