29 February 2024

Fintech Has Taken A Hit, Which Means Now Is The Time To Invest And Build

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Nearly two and a half years have passed since COVID shut much of the world down. As many of us predicted, the crisis drove incredible hardship for Low-Moderate Income (LMI) consumers and small businesses. But it also inspired a once-in-a-generation outpouring of entrepreneurial activity and new investor interest in fintech around the world, including companies that explicitly seek to be inclusive of underserved markets. For investors like me, who have invested for the past decade in early-stage fintech from the Philippines to Colombia, the last two years represented a long-sought realization among mainstream capital markets of the enormous opportunity to create scalable and impactful fintech businesses around the world.

But we are now in the early stages of a new phase, with nine months of dramatic downturns in public equity markets finally affecting early-stage venture capital flows, particularly in fintech. We’ve seen a dramatic drop in VC fintech investment in Q2 2022: venture capitalists are increasingly delaying funding rounds, urging austerity, and in some cases pulling term sheets.

This is a mistake. While a significant slowdown from the manic fintech investing days of 2021 is justified – and in fact, needed – for the long-term health of our industry, an exodus from the work of building and investing in early-stage startups focused on fintech for inclusion would be a miss from both an impact and profit perspective.

In fact, there has never been a better time to start or invest in an inclusive fintech startup. This is for two key reasons:

Fintech for inclusion markets are actually getting bigger 

The VC pullback from fintech is happening just as the challenges of the world’s most vulnerable are being exacerbated by inflation, food shortages, supply chain challenges, global conflict, and the increasing threat of climate change. These challenges are only getting worse, as the government support that bolstered many LMI households and small and medium-sized enterprises (SMEs) during COVID is being pulled. More and more Americans are being forced to borrow to meet rising costs, and consumer confidence is slipping quickly.

Given this volatility, consumers’ needs remain enormous and are growing, particularly for resilience-oriented financial services. LMI populations and SMEs are increasingly focused on how they borrow, save, allocate, and spend their money; as a result, real innovation for these populations will have outsized impact. And companies who build for impact during the current downturn will be in a strong position to rapidly acquire customers and scale as markets rebound.

Real, sustainable innovation takes time – which we now have 

In the decade prior to COVID, those of us actively investing in inclusive fintech witnessed how less frothy markets allowed certain fintech models sufficient time to innovate and solve big problems, before bearing the pressures of massive capital inflows. For example, Konfio (in which I invested previously at Accion Venture Lab) raised a seed round in 2014, ~7 years before it became Mexico’s second fintech unicorn. Coming of age during a period of capital scarcity drove Konfio to build a robust, customer-oriented business, one that is now thriving through crises. I expect that today’s apparent downturn will allow many great ventures the time and focus to build and ultimately, be more resilient.

Inclusive fintechs will also reap another benefit from today’s slower funding environment: a compressed funding band that should allow more startups, particularly at the earliest stages, more time to build before being outcompeted by capital. When the market is booming, smaller startups must compete with larger, better-funded ventures who can rely on large slugs of venture capital to extend their runway. Now, the capital playing field is more level. Startups that remain agile and flexible, with minimal overhead, can use this time to build superior products, without the risk of being “chewed up and spit out” by the markets looming so heavily over their heads.

Another benefit of this “funding winter” environment: companies can once again focus on the core drivers of building resilient and scalable businesses. The high valuations and frothy markets of the last few years drove companies to focus on vanity metrics and sheer user growth over revenue, customer retention, and unit economics. Operators and investors are moving back to unit economics as the core indicator of value in venture capital – and startups will be more resilient, and ultimately valuable, for it.

To me, it is clear that fintech founders, forged in fire by today’s tough market conditions, will emerge stronger than ever. As investors, we must continue to support these companies for the long haul, with the goal of building impact and resilience in anticipation of more shocks to come. For VCs, that means returning to a core investor mandate built around business fundamentals and rigorous due diligence, and sufficiently capitalizing companies so they are built to innovate and grow for the long haul.

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