Long Take: Finance blood in the water ($900B wasted on digital transformation) is why neobank Chime is $15B, and why Uniswap could be next
Hi Fintech futurists --
This week, we look at:
PwC estimating that $900 billion has been wasted on digital transformation projects for enterprise, meaning finance is vulnerable
Chime is worth $15 billion in the latest round of valuation, same as $200B+ depository bank Fifth Third, which is quite the achievement
Decentralized exchange Uniswap distributing 60% of its token to the community, flipping the ownership and value accrual model
It's simple. We see Chime raising money at a $15 billion valuation. No choice but to say our piece.
What is Chime? An American neobank / payments wallet that acquires customers by giving them $100 in overdraft credit and a paycheck advance.
What is it replacing? Not banks in general -- in fact it sits on our favorite overlooked banking infrastructure provider, The Bancorp. To the extent it pipes people to banking product, that goes to a $500 million market capitalization public company that makes prepaid cards.
Instead, it is replacing payday lending as an industry. It is well known that large numbers of Americans are living paycheck to paycheck and do not have anywhere close to sufficient savings. They also often lack financial literacy and education -- and end up encountering 100%+ annual interest rate loans in order to barely survive. This generated a good $6 billion of revenue in 2016, though that number is likely further compressed given attempts at regulating this sector.
Still, the spidey sense is off the charts. Just in 2019, Chime raised at a $1.5 billion valuation. At the time, it had 3 million customers. That implies about $500 in enterprise value per customer, which is consistent with both the 2019 venture market, as well as our calculations around the valuation of Monzo, Revolut, and Starling (financial model here). Of those neobanks, both Monzo and Starling are now focused on breaking even, with Starling likely to do so first given its business account clientele, which has higher account sizes and therefore generates more interest.
But Chime doesn't sound like a "balance sheet" business. It doesn't want to be seen as a bank. It says that it is a consumer software company. It doesn't have an ILC charter from Utah, or a crypto bank charter from Wyoming, or a straight-up bank charter like Varo, nor has it acquired any banks like Lending Club or Jiko. No shenanigans. Just referring customers to capital sources.
This is roughly the hat trick that Lemonade pulled by being an insurtech that largely offloads its insurance risks to others. The company passes off 75% of its underwriting risk to reinsurers. It gets to claim to be a technology-first player and focus on machine learning for its algorithms, rather than thinking about how to manage some investment management pie to have assets hit liabilities. Well, not entirely, but at least to some extent. This model gives visibility in the public markets to what Chime may try to sound like. But Chime is even further removed from any actual capital.
Anyway, to hit a $15 billion valuation at $500 per customer would mean that Chime now has 30 million customers. That is a sizable proportion of the 165 million American workforce, if true. One comparison that comes to mind is mid-size bank Fifth Third, which is publicly traded at around $15 billion, has 20,000 employees, over $200 billion in deposits, and prints over $1 billion in revenue per quarter.
No matter how good Chime is, it is not close to the economics of Fifth Third. The start-up is claiming to be EBITDA-positive, thereby reaching an amount of (basic) profitability that many fintech companies lack. Don't get us started on WeWork, SoftBank, and Silicon Valley. But it will also have raised $1 billion after this round is complete. That is a chunky amount of money to return, and a whole lot of pressure to tell a massive growth story.
Incumbent Weakness in the Water
The numbers we have walked through have been generated by professional investors participating in the public and private markets. Do we really think that those investors are just uninformed and irrational, while we are wise by divinity? Of course not. Equilibria are equilibria, and they reflect information. What is missing is the connective narrative that makes sense of the data points. Here is one potential explanation from strategy and implementation consultant PwC, and a similar one previously told by CapGemini.
In 2018, over $1 trillion was spent by corporations on digital transformation projects. That is a lot of proofs of concepts and Chief Innovation Officer conference travel agendas. PwC suggests that 70% of all such funding is pointless, falling apart either at the management, technology, or business process level. Banks -- and any other incumbent more generally -- have a tough time hitting the innovation agenda.
Why? Because they don't really believe it, and very likely, they want it to stop and go away.
Apologies for the cliche, but do check out the Steve Jobs video above starting around the 50 second mark. It is 1980, and he is talking about being impressed with computer-native kids growing up using a digital extension of themselves.
I had a delightful conversation with some 4 and 5 year olds. They probably know as much about the computer as I do. Maybe more. And they are totally fluent in it. And they are very much at home in it. And they beat me in most of the games in it. It was really quite an experience. We always talk about all these things happening at the intellectual verbal level, but I actually got a chance to see 20 students interacting with these computers on a 1-1 basis, and I couldn't help remembering my own school days when none of these things existed.
Think about the above in the context of banking services and money.
Do you really think that most senior bank executives are going to figure out a way to self disrupt? No. Most run innovation programs in a sandbox, or as an adjacent channel that doesn't threaten the core business. Check out Ajit Tripathi's write up about how digital transformation does not work as an initiative -- but only as a full-on company strategy, drawing on the successful example of Disney. You have to give all of the reins to the next generation. Otherwise you will spend trillions chasing what they want without understanding it.
Understanding the Kids
Supply and demand right now say that Chime, and its articulated model of consumer tech as the front-end for banking, is the future, and that companies like Fifth Third, with their strong balance sheets and sky scrapers, are the past. And look, we like Fifth Third! The bank had one of the most interesting private equity and digitization strategies in the US for the middle market in the 2010s. Yet here we still are.
But what is Chime really? An arbitrage between Apple and commodity banking capital. Mobile apps are functionally just part of Apple (or Alphabet), and Apple is a $2 trillion company as a result. Chime has built a pipe between Apple's operating system (or Android) and The Bancorp, and captured a market of people using the iPhone that need access to credit. That pipe could be worth $15 billion, or even maybe $100 billion one day. But it could also be a confusion of the narrative that banks are going digital.
For a while, we have held that the most interesting things are happening in DeFi. And as the space had gotten frothy, leading to copycat and opportunistic projects, it is easy and to judge and finger-wag at crypto. And yet, when listening to Steve Jobs, we try to look at what the kids are doing, understanding that some of this technology simply did not exist before, and we should not discount it.
In particular, one of the most meaningful news items in that space relates to Uniswap, a decentralized exchange for trading tokens. You can think of these things as vending machines or ATMs that deliver different financial services functions (e.g., lending/trading/saving), and are computing concurrently on a giant programmable blockchain network. Built into the automated trading is a 0.30% fee that is distributed to liquidity providers. This, in effect, is an economic model that allows the protocol to generate cashflows. And people know how to value cashflows, and make charts of annualized revenue run-rates.
There is about $2 billion of capital sitting behind Uniswap, allowing it to provide automated trading services. This, in turn, powers Uniswap to generate about $400 million in annualized revenue. Now, that should be heavily caveated to say that the protocol had a recent volume spike during a fork attack (another team copied it, and tried to incentivize investors to the new protocol, so the whole thing traded over twice). Still, $400 million is not that far off from the order routing revenue that Robinhood, the free trading app, was generating per month earlier this spring. Robinhood is worth over $10 billion, largely backed by Silicon Valley and a few other oversized capital pools. Uniswap has a handful of developers and just raised $11 million last month.
But what is more notable is that Uniswap just launched a token, UNI, and distributed that token to users of the network. In particular, it distributed at least 400 UNI to every user that had interacted with the trading network prior to September 1st, which immediately was worth over $1,000. There are legitimate questions folks are asking as to the securities nature of the distribution, or whether this is more akin to loyalty points. But regardless, what is compelling is that the majority of the financial value of this quickly growing unicorn software is going to its users, proven by actual records of usage on chain. Eat that, Facebook!
While Facebook stock is broadly distributed, it is not fair to say that its capital appreciation has primarily benefitted the Facebook user community. Rather, Facebook users are the product for the advertising company. Here, Uniswap has incentivized large scale social cooperation for building a financial network, and aligned thousands of people to care about the software they use with a variable financial incentive. People go through meaningful frictions to access this technology, and do so across the world with different regulatory regimes and market environments.
If Chime's $15 billion valuation was distributed 60% to its lending customers, imagine the outcome. If each user generates an enterprise value of $500, and then gets a financial interest in the Chime network worth $300 in gratitude for using the software, imagine the financial implications for both the users and the incumbent banks. Imagine if banks, instead of having to nickle and dime millions of people to generate the requisite ROE, were able to pay as dividends meaningful capital appreciation to those users. Of course, this is only possible in a growth world undergoing a regime change from traditional banking to blockchain-first financial systems. That creates the value which can be transferred to early adopters.
In retrospect, all of these things will be painfully obvious. We are going from a financial system where money lives in the "bank" box, and can access "bank" products, to being collateralized or custodied in a "crypto-bank" box, and can access every single digital economy in every part of the world. Again, the money does not stay in the crypto bank, but moves around within the software systems that power economies. So when you log into the future version of Amazon, it will have the same tokenized moneys in it that you have when you log into the future version of Shopify. Those will likely be tied to your biometric identity. The wallet is always directly held by you, and is part of your commercial intent. See Ant Financial, Stripe, and the rest of embedded finance, and multiply those ideas by 100x.
For a further grounding -- check out the below screenshots showing of concepts from Betterment, Zapper, and Centrifuge Tinlake.
As a thought experiment -- today, if you want to save for a house, you may create a financial plan in Betterment and wait for the portfolio to accrue. Tomorrow, you may bring cashflows to a housing protocol which intermediates property markets, and build your portfolio directly into your desired goal of buying a house. Your stated selection and articulation of that goal, by choosing the housing protocol, generates value on its own through rewards, participation, governance, and various interest rate products.
All of those are fractional, digital, and interoperable.