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Citation – Fourth Quarter 2021

INSIGHTS

SOUTH AFRICA’S UNIQUE FINTECH OPPORTUNITIES

Thambo Mthwalo
Equity Analyst
Estimated reading time: 7 minutes 0 seconds

Financial Technology (FinTech) is tricky to discuss given the variety of products and services that fall under the FinTech umbrella. Essentially, a FinTech company or technology contributes to the transformation of the financial services industry by ways of either digitisation, streamlining or outright disruption. According to multiple sources, the global FinTech market is worth between $100 to $130 billion and expectations are for the industry to grow by a compounded annual growth rate of 20% between 2021 and 2030. For context, the MSCI World Bank Index has a total market capitalisation of $4.9 trillion. This article will highlight some key FinTech investment trends globally and unpack South Africa’s unique FinTech landscape.

While FinTech growth remains formidable, the industry’s disruptive nature has given way to more commoditised offerings which continue to fulfil investor appetite for the sub-sector. According to the World FinTech Report 2021 (WFR21), investment is steadily shifting away from early-stage deals to late-stage investments which now account for over 40% of deals globally. The shift of capital towards more mature businesses suggests that investors see less upside for disruption. According to the WFR21, venture capital flows are starting to favour business-to-business (B2B) FinTechs over business-to-consumer (B2C) as B2B FinTechs tend to have stickier client bases.

The different flavours of SA FinTech

In 2007, Safaricom launched ‘M-Pesa’ a mobile money payment service based on a pioneering technology that enabled instant peer-to-peer (P2P) payments, first across Kenya, and later into other Vodacom territories. Fast-forward to 2021 and M-Pesa processes transactions worth an estimated €60 billion (just under $70 billion) per quarter from over 50 million active customers – making M-Pesa one of Africa’s largest FinTech services. Despite M-Pesa’s trailblazing success, Vodacom pulled the plug on South Africa’s M-Pesa service back in 2016 citing the lack of customer uptake.

FinTech monetisation opportunities in South Africa differ significantly from those of its neighbours. South Africa’s highly-banked population is largely incompatible with the typical use case of a mobile-based P2P model. Rather, due to the scale of SA’s existing financial services sector, the FinTech industry has been able to offer more sophisticated services while still maintaining a value proposition to both customers and businesses. In effect, the local FinTech sector reflects the country’s dual identity as a developing and developed nation.

South Africa’s retail sector has played a pivotal role in the development of FinTech in the country. Pick ‘n Pay, was an early adopter of FinTech through its ad hoc integration of TymeBank kiosks into its stores, a partnership which gave TymeBank a platform to reach its current four million account base. The Foschini Group (TFG), which has spent R1 billion over the past five years on digitisation initiatives, recently partnered with TymeBank to roll out kiosks in selected TFG stores, a mutually beneficial move which expands TymeBank’s reach while also creating a platform for TFG to integrate its existing and future FinTech products. Considering TFG’s recent purchase of mobile app developer, Flat Circle, the group’s development capabilities could expedite its FinTech development.

Other notable local FinTech companies include point-of-sale (POS) machine companies such as Yoco which has reached a large captive market of small business owners and self-employed individuals looking for a simplified payment platform in place of a fully-fledged business banking account. In addition to the less than 3% transaction fee levied by Yoco and competitor iKhoka; both services have the added advantage of not charging a monthly maintenance fee.

Two new South African ‘instantaneous’ insurance companies Pineapple (underwritten by Old Mutual Insure) and the Naspers-backed Naked Insurance both make use of mobile technology and artificial intelligence to simplify car and home contents insurance, with Pineapple’s rates starting at R1 per month.

SA banks: partners, buyers, and developers

South Africa’s legacy banks were relatively slow to launch their own internally developed FinTech products, with many choosing, in the early days of disruption, to partner with start-ups. In 2013, Standard Bank incubated SnapScan and eventually bought its parent company in 2016 – the contactless payment service is now used by over 60,000 merchants in SA. In 2017, Standard Bank partnered with global remittances platform, Mukuru to launch the Mukuru bank card.

ABSA, in its recent investor engagements, stressed that their belated FinTech strategy will not be revolutionary but will instead streamline their existing services to enhance their client experiences. An example is ABSA’s vehicle asset finance unit, which now allows dealership partners to perform credit checks in a matter of seconds and complete a vehicle transaction in under 45 minutes.

More recently, FNB acquired Selpal, a FinTech driving basic financial infrastructure in township economies. Standard Bank and ABSA have both developed simplified retail forex apps in close partnership with the South African Reserve Bank. The apps use the banks’ significant expertise and scale in the forex markets, along with their legal expertise, to facilitate foreign currency transfers up to and above the single discretionary allowance of R1 million per year.

Considering the vast data lakes and captive market legacy banks in South Africa already have, we could still see significant innovation coming on board, both visible and operational. A survey reported in the WFR21 that 65% of banking executives preferred to leverage their existing digital cores rather than buy new external ones. This is the case with Discovery Bank which built on the parent company’s existing core to offer an innovative digital banking experience. While FinTech-driven banks, including Discovery Bank, TymeBank, and Bank Zero, have had a head-start on innovation, traditional banks have access to significant capital to compete over the long term.

Poor financial inclusion presents opportunity

In a recent JP Morgan conference, Jack Hlongwane, the head of Business Development at Kantar SA highlighted the financial services sector’s lack of inclusivity in banking. Just as M-Pesa was not successful in South Africa, not all FinTech business models offer the correct value proposition for lower-income consumers. In this aspect, legacy banks have chosen to partner with or acquire existing businesses which have more experience navigating township marketplaces.

Sending money across South African borders to neighbouring Southern African Development Community countries has forced some households to use FinTech companies, such as UK-based Mukuru which facilitates quick remittance flows from the Western hemisphere to the South. In 2017, Mukuru vertically integrated into issuing bank cards that can be used for online purchases. Mukuru is an example of how unbanked consumers can use mobile-first technologies to leapfrog into the banking system.

Consumers aside, FinTech’s usage numbers among small South African businesses both in the formal and informal sectors of lower-income regions is clear. FNB’s recently acquired Selpal is laying a foundation for integrated supply chains in townships which involves connecting brand owners, distributors, township wholesalers and retailers, as well as customers through a cashless system. The opportunity remains in its infancy and highlights the low-hanging fruit available for financial services companies, large and small, in the informal trade sector.

Investing in South Africa’s FinTech

Most FinTech’s mentioned in this article are either unlisted or integrated into larger groups. However, as stand-alone listed entities, their relative size would likely keep them outside Citadel’s investment universe. SA’s FinTech theme, nonetheless, can also be played through listed large caps which have incorporated scalable FinTech strategies as a means of expansion.

MTN shares performed well in 2021 (+183%) in-part due to the Nigerian government unexpectedly approving, in principle, MTN’s payment service bank (PSB) license. This positive development brings MTN closer to fully monetising its FinTech platform, beyond basic P2P payments, in the most populated country in Africa. MTN’s mobile money revenue in 2020 of over US$800 million was, for the first time, ahead of Vodacom’s and reflects the former’s higher growth opportunities in West Africa.

Figure 1 – Source: J.P. Morgan, company filings

Through its financial services portfolio, Rand Merchant Investments (RMI) not only offers investors access to household names such as Discovery and OUTsurance, which leverage FinTech, RMI’s AlphaCode incubator has accelerated FinTechs such as Prodigy Finance, which offers international student loans, cryptocurrency wallet, Luno, and online security company, Entersekt. Often, as was the case with Naspers’ acquisition of Tencent, the outperformance of one start-up can significantly augment a group’s earnings profile over the long term.

Despite the lack of pure-play investment opportunities in SA’s FinTech space, Citadel’s equities team pays close attention to the extent to which companies in our sphere embrace new technologies that future-proof their business models against further disruption.