The recent Wirecard scandal looks like one more example of financial services regulation and compliance frameworks failing to change fast enough to keep pace with financial technology (fintech) innovation. That includes “banking as a service” or BaaS platforms which allow start-ups to quickly launch new online banking and electronic payment products by outsourcing responsibility for setting up payments systems and back end digital infrastructure to third party providers, which often may complicate matters by farming it out to other yet more third party providers.
A failure to properly regulate and audit Wirecard’s business, which includes BaaS provision, is blamed for allowing the company to mislead investors consistently. Questionable accounting practices allegedly included inflating sales and revenue to paint a better picture of the company’s performance to increase the value of its share price. The German government has since pledged to reform its financial services regulation, terminating its contract with the country’s accounting watchdog and handing responsibility directly to BaFin.
Granular regulation and transparency required
What form that new regulatory framework will take is yet to be revealed. What might be more useful is not more regulation per se, but instead more granular rules which apply to specific processes and the third-party companies undertaking them within broader financial service partnerships arrangements. By recognising the exact role and responsibility that each company plays within distributed payments system, it should become easier to pinpoint what may be going on and hold individual entities to account rather than disrupt or suspend the entire supply chain, as it happened in the UK.
The situation there resulted in an estimated 500k people belonging to up to 70 payments providers – including Pockit, FairFX, Curve, CardOneMoney, Anna Money, Payoneer and Revolut as well as Wirecard itself – having their accounts and payment cards temporarily suspended for up to three days as the Financial Conduct Authority (FCA) ordered Wirecard to freeze its operations.
To mitigate the fallout, payment providers rushed to provide greater clarity to their customers. Anna Money quickly made arrangements for its shareholders to cover client liquidity while publishing its service response times and pledging to communicate its strategy and partnership roadmap more frequently. Curve too honed its communications strategy, informing customers of its response “every step of the way” as it researched and contracted a new acquiring partner, Checkout.com, within days.
Smooth onboarding and compliance checks
The big fear is that consumer confidence in electronic money and online banking may have been irrevocably dented. However, a pandemic-induced surge in e-commerce activity and digital payments suggests people are unlikely to return to traditional methods. Even so, fintechs need to make sure they improve the customer experience to keep hold of their clients.
Businesses generally have a short amount of time to make a good impression on customers, many of which need some degree of hand-holding to get started, otherwise they could switch to the next supplier. That is a particular risk in a financial services industry where churn rates amongst retail banks and credit card companies often hit 20-25%.
Smooth customer onboarding processes are therefore crucial to any fintech’s long term success, especially when it comes to making it easy for new clients to open an account online. In Europe and elsewhere, those onboarding platforms must now comply with new anti-money laundering (AML), know your customer (KYC) and data protection regulation which demand more stringent identity and authentication checks.
The same level of screening is equally as crucial for merchant onboarding. At the same time, smaller e-commerce companies can be hesitant to get started because they are not familiar with how electronic payment processing works. To inspire trust amongst both parties, BaaS providers need to make sure that all the stakeholders fully understand the relationship between credit card companies, payment processors, independent sales organisations, merchants, and customers. But they also need to demonstrate full compliance with industry regulation without making the sign-up and transaction process so onerous it becomes a deterrent. One of the biggest challenges they face with platforms so heavily reliant on data sharing is maintaining and demonstrating compliance with European Union privacy laws such as the General Data Protection Regulation (GDPR), for example.
On the flip side, payment processors themselves need to make sure that they have all the information on merchants they need to make sure they are trustworthy and unlikely to commit fraud, again through proper KYC documentation and other forms of data collection but without disrupting or slowing down the automated onboarding process.
Benefits of BaaS remain
Wirecard is by no means the end of BaaS, but it will mark a critical stage in its evolution. Having a third-party platform which helps fintechs sidestep significant upfront market entry costs and navigate a complex regulatory landscape, which requires they secure licenses for each of the territories they operate in, is widely considered too critical to the financial service industry’s future.
Certainly, Wirecard’s disrepute hasn’t deterred new BaaS providers from coming forward to take its place while existing players continue to thrive. Sterling National Bank, a subsidiary of Sterling Bancorp, introduced its own BaaS program in mid-July, just two weeks after Wirecard filed for insolvency. UMB Bank (which also provides regulatory and compliance expertise) followed up with its own BaaS offering twenty-four hours later. Alternative platforms for fintechs also include Bankable, Contis, Green Dot, Marqueta, Optimis, PPS, Railsbank, Rapyd, solarisBank, Treezor and Viva Wallet.
The fintechs now looking to end their reliance on Wirecard’s BaaS platform have a lot of alternative providers to choose from. However, they are likely to demand complete transparency and demonstrable adherence to associated regulation when it comes to assessing the reliability and accountability of the infrastructure and company they select. Those providers need to put more emphasis on customer experience and lay out a clear and flexible governance framework to ensure consistency and confidence across the entire ecosystem. They also need to report effectively, particularly when it comes to the active management of business relationships, data and other metrics needed to accurately assess the balance between expenses, revenue, and profitability.