Early last year, Nubank CEO David Vélez was reading about a financial miracle in China where, thanks to a few smartphone apps, nearly a billion people now have a vast array of ways to manage their money. Vélez was so impressed that he and some team members took a trip to China to see this increasingly cashless society for themselves.
Vélez says the ideas he took back home to Brazil were transformational for the digital bank he co-founded. By the next year, Nubank’s valuation had more than doubled to $10 billion. It is one of the fastest-growing financial institutions in the world, with more than 15 million customers as of October, a 25% leap from just a few months earlier. And unlike many other venture-backed fintech upstarts, six-year-old Nubank is cash flow positive.
“By being a technology company, you can provide access to financial services to hundreds of millions of people in a very efficient and not costly way,” Vélez says. “Financial services really can, eventually, touch 100% of the world’s population. The way to get there is to be a fintech.”
Vélez, who is originally from Colombia, makes it sound easy—which of course it is not.
Brazil, the world’s ninth-largest economy, has a rapidly growing middle class, so much so that it has become Uber’s second-biggest market after from the US. Brazil’s financial sector, however, has lacked competition because of heavy regulation, bureaucracy, and a complex tax system, according to PwC (pdf). The country’s banking industry is dominated by five large lenders that control more than 80% of the country’s assets (in the US, the five largest banks hold only 20%, according to FT Partners).
Around a third of Brazilians don’t have bank accounts, in many cases because the services are too expensive, branches are too far away, or they simply haven’t trusted the institutions. Regulators have sought to modernize the sector and encourage innovation. Even so, it took Nubank and its co-founders, including former Boston Consulting Group consultants Cristina Junqueira and Edward Wible, three years to get a banking license.
This inefficiency and lack of competition has, however, created an opportunity for entrepreneurs who can crack the code, since the country has one of the most profitable banking sectors in the world.
Woody Marshall, a general partner at TCV, says Nubank signups are soaring because the team built a great app for people who were used to slow a process involving long lines and complicated forms. TCV led a $400 million round of funding in Nubank that was announced in July.
“In the world of financial services, not many people talk about how they love their bank,” he says. “They nailed product-market fit.”
Amid a lack of competition, Nubank and its purple no-fee credit card have been a viral sensation. The bank’s chief says the startup spends about 1% of revenue on marketing, while word-of-mouth referrals do the rest.
Brazil’s Ant Financial
The fintech opportunities in Brazil resemble those in China more than a decade ago, when the foundation for Ant Financial was formed.
Ant got its name because its service was for the “little guys.” At the turn of the century, regular Chinese people were poorly served by the country’s mainly state-owned banks. But mobile phones were catching on, as was online commerce.
Alipay, now run by Ant Financial, sprung up as the digital wallet for e-commerce giant Alibaba. Not long after, rival Tencent’s WeChat Pay became a way to send money to friends and family through its chat service. The apps are have become essential tools for hundreds of millions of Chinese consumers.
Ant Financial now has a full spectrum of financial services, from money market funds to insurance. The result is a financial conglomerate, like what you would get if you combined American companies like BlackRock, JPMorgan, Visa, and AIG—worth nearly $1 trillion combined—into one entity for the world’s most populous country. Seen that way, Ant Financial’s latest valuation of $150 billion may eventually look cheap.
Vélez’s visit to China showed him that “you can offer great investment products to lower-income people.” The key to reaching a vast population is to do with it through mobile phones instead of bank branches, and by keeping products simple.
He says the company’s savings account, which automatically invests customer holdings into fixed-income funds that are fully backed by government bonds, is an example of what he learned from Ant Financial.
“What we saw in China is that a lot of these products that used to be for the 1% become democratized on some of these massive platforms,” says Vélez, a Stanford graduate who worked at Sequoia Capital before he founded Nubank. “The future of financial services looks more like companies like WeChat Pay or Alipay.”
Making money with money
The drive to reinvent banking for the digital era has captivated entrepreneurs and investors. These upstarts have raised more than $3 billion this year, according to CB insights, including $1.3 billion in the third quarter, the most ever for a three-month period.
A small number of branchless banks in developing markets command the highest price tags, for now. Nubank and Tencent’s WeBank have achieved $10 billion and $21 billion valuations, respectively. N26, a Berlin-based neobank that focuses mainly on Europe and the US, was last valued at $3.5 billion. San Francisco-based Chime more than quadrupled its valuation, to $5.8 billion, in just nine months.
“There’s a lot of white space in Latin American markets,” says Tripp Shriner, a partner at Point72 Ventures, the venture arm of the hedge fund founded by Steven Cohen. “If I were to compare neobanks in the US where you already had a crowded banking sector, that feels like more of a zero-sum game than in Brazil where you have such a large segment of underserved consumers. There is room for multiple winners.”
Even as money pours in, it’s not entirely clear how some fintech darlings will make money. Revolut, a London-based financial app, is tinkering with a freemium model. It offers users things like cheap foreign-exchange, stock brokerage, and debit payments, and aims to get some of them to sign up for its premium service. The company is reportedly in discussions to raise $1.5 billion in a combination of debt and equity as it goes worldwide.
Valentin Stalf, CEO of N26, has said his company’s goal is to be a global financial brand, like an Amazon for money. One of the company’s executives told the Financial Times (paywall) that profitability isn’t a “core metric.”
Nubank’s approach to making money is straightforward. It is a bank, and it is targeting Latin America. “We’re using a business model that has existed for millennia,” Vélez says. “We lend money to people and they pay us an interest rate. If you manage the losses then it’s a very good business.”
The company’s first product was a credit card, in a country where card interest rates, routinely at around 200% or more, are among the highest in the world. Nubank doesn’t charges credit-card fees, and says it can compensate for lost revenue because its tech makes it more efficient. (While Nubank isn’t burning as much cash as some startups, research consultancy Fincog shows that it is still running losses.)
“Our first product since the beginning had an embedded business model that actually worked, so it was very profitable,” the CEO says. He claims the company’s follow-on products—loans, debit, and savings—are already proving a success, making it one of the few new-breed fintechs to make the leap beyond its first core product. “All of that is gravy,” he says.
In Latin America, a fintech gold rush is underway because of its appealing fundamentals. Brazil, for example, has widespread mobile phone usage, a relatively young population, and an inefficient sector for banking services.
Funding for the region’s financial startups more than doubled in the third quarter from a year ago, according to CB Insights. “When we compare the market now with 12 or 18 months ago, you’re seeing a lot more large US-based investors looking at Latin America as an opportunity,” says Shriner, of Point72 Ventures. “That has an impact on valuations.”
“Nubank has literally opened the investor’s eyes to look carefully at the Latam region, mainly in Brazil,” said Hudson Derencius, a principal consultant at Fincog. More than half of Brazil’s fintechs in Brazil were founded after 2016, some three years after Nubank launched. Now, SoftBank is reportedly planning to invest $500 million in venture capital funds there, as part of its ambition to invest $5 billion in the region.
The Japanese mega-investor reportedly held talks (paywall) with Nubank about making a cash infusion, but discussions broke down. Vélez declined to comment on any negotiations with SoftBank, which has since come under scrutiny for its seemingly overvalued investments in companies like WeWork and Uber.
“There’s no market where there’s not capital flowing into it,” TCV’s Marshall says. “Some people will strike gold, and some people will strike fool’s gold.”
What could go wrong?
It’s easy to see why investors are hoping to bet on a South American version of Ant Financial, but plenty of things could still go wrong. For all their potential, the region’s economies are volatile and unpredictable. While lending provides a path to profits for companies like Nubank, the history of banking is littered with blowups, showing that risk management is no simple task. It’s hard to tell how well credit algorithms are designed until they go through a severe economic downturn.
Centuries-old banking institutions have also proven resistant to disruption. Some thought peer-to-peer lenders would humble the big financial companies, but that movement has mostly fizzled.
Adding to the challenges, Vélez says competition is ramping up dramatically. By his count, Brazil has around 60 digital wallets, and a number of new digital banks have been launched by incumbent lenders, startups, as well as foreign companies like N26, which has plans to set up there. (Chinese tech giant Tencent has invested in Nubank, N26, as well as Argentinian mobile bank Uala.)
As the competition grows, Nubank is expanding in Argentina and Mexico. Instead of going global, like some other fintechs, Vélez says he has a regional focus. “Trying to build that global bank in hundreds of different countries—it is an incredible amount of complexity and it will require an incredible amount of capital,” he says. “I don’t really understand the logic behind being global.”
“Our goal is to be the leading digital bank in Latin America,” Vélez adds. Given the size of the region, and its scope for growth, “this means we want to be one of the leading, largest digital banks in the world.”