Stripe embeds A2A payments in checkout with TrueLayer; Building a credit card payment processing platform on AWS; State of Fintech Q3’23;
In this edition:
1️⃣ Nubank applies for a banking license in Mexico
2️⃣ Stripe embeds A2A payments in checkout with TrueLayer
3️⃣ Business model: How BaaS platforms help brands monetize
4️⃣ Payments: The once and the future fintech king
5️⃣ What is FedNow Relative to Other U.S. A2A Initiatives?
6️⃣ Building a Credit Card Payment Processing Platform on AWS
7️⃣ State of Fintech Q3’23
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News
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Nubank applies for a banking license in Mexico
Nu Mexico, the subsidiary in the country, has submitted a filing to the local regulator to obtain a banking license which will allow further expansion of its product offering to cater to the needs of local customers
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Revolut Takes on Square, PayPal in UK With POS Reader
Launching in the U.K., Revolut Reader offers instant and secure transactions for debit and credit cards, along with contactless payment methods. The tool is designed to run transactions all day and provides smart features and payment speeds under five seconds.
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Stripe embeds A2A payments in checkout with TrueLayer
Stripe is to provide customers of European merchants with the option to ditch card-based payments in favour of open banking linked transactions through an embedded checkout integration with TrueLayer
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Insights
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Business model: How BaaS platforms help brands monetize
Banking-as-a-service platforms monetize in three primary ways:
- Interchange split
- Per account fee per month
- Subscription fee
Like traditional SaaS businesses, some platforms charge a recurring subscription fee based on the specific services and features customers want to offer, e.g. $10,000 a month for access to deposit accounts or $5,000 a month for a card program.
Others charge a per monthly fee per user to get access to the platform, tied to the number of customers that the fintech has. For a fintech with a million users and a per user fee of 10 cents, their total per user charges would amount to $100,000.
These kinds of platform fees might be more common in fintech verticals with less transaction volume, where they could be used to lock in revenues.
The majority of BaaS revenue, however — roughly 60% — comes from interchange, which is the fee set by the card networks for using their payment rails to move money, paid by the merchant, and split among the various participants in a given transaction.
For an example, say you are browsing through items via the Klarna app (a fintech) and you decide you want to buy a $200 hat from a store that doesn’t have a native integration with Klarna:
- Klarna instantly issues you a virtual card with exactly $200 preloaded onto it, that will only work at the merchant of your choosing, via Marqeta (their BaaS provider)
- The merchant pays a percentage of that $200 in interchange fees to their issuing bank + their BaaS provider — here, Klarna and Marqeta
- An assessment is also paid directly to the card network in exchange for using their payment rails
Broadly speaking, consumer debit interchange is 1.35% and commercial transaction charges 2.5% interchange. Of that, we assume:
- the card network takes 0.5%, which goes down over time as scale goes up.
- the issuing bank takes 0.2%, which also goes down as volume goes up.
- the program manager takes 0.25%.
In the end, this would leave the BaaS roughly 0.12% for B2C transactions and 0.5% on the B2B side, while their fintech customers take roughly 0.28% for B2C and 1.05% on the B2B side.
However, at scale, the bank’s take rate is compressed, and the take rates at the top of that stack can expand.
These attractive unit economics are made possible by the fact that when Congress limited the interchange rates banks could charge with the 2011 Durbin Amendment, they specifically exempted banks with under $10B in assets from the changes. Working with smaller banks like Sutton, Cross River and Green Dot, fintechs and BaaS companies earn about twice as much on interchange as they would in working with a big bank.
Regardless, interchange revenue does carry risk, because regulators could end this form of “regulatory arbitrage” and make it more challenging for BaaS companies and issuer processors to build their business on interchange.
Source Sacra
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Payments: The once and the future fintech king
Stripe’s $6.9B fundraising in March wasn’t just the largest deal of the year, it was one of the largest VC tech rounds ever. The commercial payments app was valued at $50B, down from $95B in 2021, but still good enough to maintain the company’s position as the second most valuable US unicorn after SpaceX. One way to see the deal is that it underscores the immense promise and optimism investors have in the payments and embedded finance space. Digital payments surged during the COVID-19 pandemic, and unlike other short-lived pandemic spikes, this trend has stuck around. As many as 69% of consumers preferred contactless payments in 2022, up from 22% in 2020, according to a survey by the firm NMI. Tap-to-pay technology is on the rise, and embedded finance transactions — including embedded banking, lending and insurance — are expected to top $7T by 2026, according to a report by Bain. The pool of potential revenue is ripe for companies across the embedded finance value chain, from the consumer apps providing the customers to the banks settling the transactions.
Stripe can be viewed as a bellwether for the payments sector overall. The company has cemented itself as a core infrastructure provider for payments, processing $817B in transactions in 2022. But like other fintechs facing macro headwinds, growth has slowed. The company laid off 14% of workers in November 2022. Rather than funding growth, their massive spring funding round went toward a stock buyback from current and former employees. Rival payments company Adyen has experienced a similar slowdown, posting weaker than expected revenue growth in H1 2023 and sparking a reactionary 39% drop in stock price. Some B2B payments companies have done well under higher interest rates. Toast, the payment processor to restaurants, posted 49% YoY revenue growth in H1 2023, largely on a boost in subscriptions and payment volume.
Source SVB
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What is FedNow Relative to Other U.S. A2A Initiatives?
FedNow, launched by the Federal Reserve, is an A2A payments clearing network that allows financial institutions to move electronic payments in real-time, offering businesses immediate access to funds, 24x7, 365 days a year. FedNow improves upon the inefficiencies present in the traditional U.S. ACH networks which are driven by periodic batch processing.
Faster A2A payments networks are not new to the U.S. The Clearing House’s RTP network, launched in 2017, was the U.S.’s first real-time A2A payments network. As illustrated in Figure 1, slow uptake among smaller banks and credit unions, coupled with the restricted range of use cases (i.e., RTP only enables push payments) have hindered RTP’s impact (accounting for less than 1% of U.S. A2A payments today). Prior to RTP, NACHA introduced a ‘same-day ACH’ product. None of the A2A clearing infrastructure upgrades have disrupted card usage or even significantly cannibalized traditional ACH.
Clearing networks (U.S. faster networks summarized in Figure 2) serve as the foundational technology for A2A payments. Actual consumer use cases, such as consumer-to-merchant payments, must then be powered by products such as digital banking, fintech apps (e.g. CashApp), or forms of software-embedded payments. Supply of this consumer end product continues to lag in the U.S. market.
As illustrated in Figure 3, U.S. A2A bank services (i.e., via internet banking) are rather confusing, although Zelle has added focus. On average, U.S. banks have done a poor job delivering robust A2A use cases, leaving many consumers to use PayPal (Venmo) or CashApp for their P2P A2A payments. Cards and checks are still most frequently used for bill payments. Even the more successful consumer A2A products still often rely on traditional ACH for clearing, rather than RTP or the new FedNow.
Bank readiness is a challenge for payment networks in the U.S., given the ongoing fragmentation of an industry that includes c. 4,000 commercial banks and several thousand credit unions and savings and loans companies. RTP, launched six years ago, claims to currently reach 65% of U.S. bank deposit accounts (increasing to 90% if you count all potentially reached accounts via participating banks). There are reasons to believe that FedNow account readiness should move at a faster pace. For example, FedNow offers more elegant interbank settlement for member banks given the Fed’s longstanding interbank settlement role.
Source Flagship Advisory Partners
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Building a Credit Card Payment Processing Platform on AWS
Credit card payments are typically processed as dual-message transactions in three main steps. The first step is the “authorization” of the transaction. The authorization occurs in real-time to check with the issuing bank to ensure that funds exist in the cardholder’s account. The issuing bank also provides its decision of whether to approve or decline the transaction.
Authorization
The first step in the credit card lifecycle is authorization. A customer presents their payment card credentials to a merchant, either in-person or through a secure remote method. For card-present transactions, the card details are communicated to the point-of-sale terminal through card chip insertion, tap to pay, card swipe, or other methods such as manual card entry. During the communication between the EMV card or digital wallet and the terminal for a physical point-of-sale transactions, the application identifiers (AID) and cardholder verification method (CVM) methods are determined. For card-not-present transactions, the card details are provided through several options including a merchant plug-in or an available payment wallet. Payment service providers (PSPs) provide the ability to tokenize the card details during checkout so that the card credentials aren’t stored by the merchant. The card details are encrypted and sent to the payment gateway to route it to the appropriate payment processor. The payment processor checks the card bin or account range information to determine which services must be applied to the transaction, such as fraud scoring and account updater services. The account updater service is provided for card-not-present transactions to provide the latest card number in the card lifecycle in cases of lost/stolen cards. The processor along with the payment switch is responsible for determining the card network to which the transactions must be routed, and converting it to the right message format and layout before sending it to the network.
Once the card network receives the network message, it will detokenize the payment information as needed and run the relevant on-behalf services, such as additional fraud scoring, spend control, data conversion, digital, and other validation services depending on the type of card, transaction type, and payment channel.
The card network will then send the message to the issuing bank or the processor to run its risk, card control, balance, chip, address, velocity, policy, and other required checks before it responds back with an approval or decline. In the response message, it will provide a reason code for an approval such as “0- Approved’ or a decline such as “05 — Do Not Honor” or “62 — Restricted Card”. Depending on the type of card or token and the channel of each transaction, the card network or issuer will validate the dynamic information which is uniquely generated for the card transaction.
Source AWS
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Reports
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