Buffet indicator (Total Public Market Cap / Country GDP) is a valuation metric based on the country’s macro and the valuation levels that the macro environment can support. I have been looking for a similar metric to use in the private markets— not necessarily for valuation benchmarking, but to gauge scale as well. If we use a macro environment indicator such as population (c. 1.35 billion in India), there are four distinct private markets (markets dominated by private companies), where the number of annual transactions has already achieved scale. This is similar in order of magnitude to our population (> 1 billion). These four markets include the usual suspects—
- E-commerce (Flipkart, Amazon, etc.)
- Mobility (Ola, Uber, etc.)
- Food delivery (Zomato, Swiggy)
But the market that trumps them all in terms of scale, is the Digital Payments space. With the onset of digitalization, the No. of UPI transactions in October 2020, scaled to more than 2 bn transactions in a month!!! The Indian payment system is touted to be among the best (if not the best) in the world. How did we get here, what caused this digital disruption, and what does the future hold for the FinTech space in India?
Brief History Digital Payments in India
RBI came up with several instruments to reduce friction in payments— Pre-Paid Instruments (PPI-Closed, Semi-closed, Open), Payment Banks, etc. towards the beginning of the last decade. The instrument that eventually scaled was the wallet offering – a PPI product (Closed, Semi-Closed, Open) with companies such as Paytm, Phonepe, Freecharge, etc. offering excellent products to the market to reduce friction in payment services. Demonetization was a big catalyst in 2016 as the adoption of the ‘wallet’ increased manifold. Technology start-ups and existing companies in the wallet space were spending massively for customer acquisition with an eventual goal of monetizing through the arbitrage between money going out of the wallet and the money going in.
A significant portion of this arbitrage was eventually going to be financed through MDRs (Merchant Discount Rate). But, as it happened, the monetization phase never came. RBI came up with strict limits on MDRs (on small transactions) and the dream for these wallet companies to monetize suffered a serious blow. Then came UPI and Rupay, which made digital transactions almost free for the end-user as well as the merchant. UPI was the eventual game-changer in the payments space. Wallet companies realized that they cannot compete with a free (almost) payment alternative of UPI. Hence, all the large companies including Paytm, PhonePe, Google Pay, etc. jumped to the UPI bandwagon.
The FinTech paradigm has now changed. Payments are now only a customer acquisition channel; monetization needs to come from cross-selling and upselling. Hence, the recent switch of focus to lending. Of course, there are still opportunities to remove friction between the consumer and the merchant— Razorpay and BharatPe have shown possibilities to differentiate in now an overcrowded payments market. But, in the medium to long term, the holy grail of Fintech is to provide the best personalized lending solution to the end user as well as to the merchants.
Lending— The Holy Grail
The credit market in India is still dominated by banks and large NBFCs— both on the retail as well as on the business loan side. There are digital upstarts on the business loan side, which have scaled, but such success stories are few and far between. Even for the successful ones, the loan books have typically topped out in the 1500-2000 cr loan book range (less than 0.1% of the credit market in India). I see enough and more opportunities for a new, young breed of companies to capture whitespaces in the business lending space. Investment in tech start-ups and digital start-ups within the Indian landscape, will be a key driver in influencing this needed shift. Other major catalysts to aid the growth of new upcoming business loan and investment companies are—
- Crumbling of the Public Sector Banks— With merger of several PSBs and the ensuing confusion amongst the staff, the systems, and processes to reach and serve SMEs have further degraded- they were not that good anyway earlier. This presents a huge market opportunity for up-and-coming digital lenders to serve this gap
- In my view, the current digital incumbents are very good at scaling up digitally, but their understanding of risk profiles and the collection processes are still in their nascency. As such, with a strong collection mechanism to boost the digital acquisition engine, the ability to attract capital to scale will increase many a time. Hence, opportunities for new business models and upstarts exist
On the consumer side (lending), the goal is very simple for any company. Of course, as a company you must give the best rates, services, and customer experience, but the eventual winner needs to maximize the touchpoints with the consumer. Payments can be an add-on solution, but definitely not the USP, as all the payment providers typically use the same UPI platform. What other services can the start-up provide to increase engagement?
I will leave you with a thought. Each one of us has at least one mobile banking app on our mobile. This is where we come to see our statements, check whether salary is credited or not and for several other use-cases. We typically do not delete a banking app from our mobiles. Can a consumer loan app scale and engage to such a degree that it becomes indispensable in our mobile phones? Can a consumer loan business acquire a bank in future?
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