Why Fintech Is One of the Most Promising Industries of 2015
It's been about two decades since a financial company really changed the world. Inc. 500 entrepreneurs are leading a pack of disrupters, raised in the shadow of PayPal, who will change your business relationship to money forever.
Bill Clerico is an unassuming bachelor. Slight, friendly, and coder-pale, he doesn't appear to be the sort who'd revel in the ritual humiliations of a TV dating show. But for 44 minutes in 2011, you could find Clerico on Bravo, submitting his looks ("a little, nerdy redhead"), his three-year-old startup ("Nobody cares about a software company"), and his makeout game ("Do you really know how to kiss?") to some derision on The Millionaire Matchmaker. "I was single then, and figured I would mortgage a little personal dignity for awareness," Clerico says. "Did not find love."
That was only his latest effort to get people to notice his payments software company, WePay. He'd tried recruiting financial startup royalty, but a request to meet with PayPal co-founder Peter Thiel went nowhere. Then WePay hijacked some publicity at a PayPal developer conference, dropping a 600-pound block of ice--with dollar bills encased within and a message about PayPal "freezing your accounts"--at the entrance. Awkwardly flirting on reality TV was just the next step in Clerico's campaign to make his payments-processing company sound more attractive than, well, a payments-processing company.
"It wasn't an interesting space to be in when we got started," Clerico recalls. "The view was that there are just such strong monopolies there in terms of the existing banks... and no one's built a successful payments company since PayPal."
It sure is interesting today. Four years later, Clerico and WePay co-founder Rich Aberman can put the stunts behind them. With $24.9 million in revenue last year--up 4,354.5 percent from 2011--WePay (No. 62 on this year's Inc. 500 list of America's fastest-growing private companies) is profitable, and flush with a total of $75 million in investor cash. The Redwood City, California, company is worth $220 million, according to PitchBook.
WePay is also focused on a quickly evolving market niche. All those credit card donations that you've been making on crowdfunding sites such as GoFundMe or CrowdRise need to be processed. WePay handles that particular chore better than most. That makes the company poised to grow at the same rapid pace as its clients. Clerico says it's on track to double or maybe even triple the business this year.
WePay is one of many finance-oriented startups dominating the rankings: From the financial services category alone, four are in the top 20 and 27 on the list overall, with a combined $850.7 million in 2014 revenue. Those companies are among the first to notice a huge opportunity to reinvent the financial services sector. That industry is currently the second-biggest target for disruption, after health care, according to a survey of this year's Inc. 500 CEOs (see "Where the Big Opportunities Live").
Long seen as a highly technical, highly regulated industry dominated by giant banks that resist disruption--other than the occasional global meltdown--finance is now riding an entrepreneurial wave. Demand for upstarts' services is strong, piqued by widespread frustration with big banks; supply is growing, fueled in part by financial types itching to do something other than toil inside those same megacorporations. ("I don't think anyone enjoys being an investment banker," chuckles Clerico, who did time at Goldman Sachs and Jefferies.) And low interest rates have made capital, the raw material for many money-related startups, cheap and plentiful.
Perhaps most important, customers have embraced the idea, thanks to the rise of the mobile, on-demand economy. "The world is far more connected today than it was 15 or 20 years ago. The tools that are available--cheap storage, cheap computing, and wonderful analytics--have changed, the regulatory environment has changed, and people are way more comfortable managing their money and business online," says Pat Grady, a partner at Sequoia Capital. His VC firm often makes bets in this world, with investments from PayPal to Square to Prosper (No. 86)--and Grady sees vast opportunities ahead. "If you want to dream a little, the entire financial system could be remade with companies we're seeing today," he says.
"We're just at the beginning of this renaissance in alternative lending--and I look forward to the day it's not called alternative." Rob Frohwein, Kabbage
And what a big, fat target they have to remake. Goldman Sachs estimates that upstarts could steal up to $4.7 trillion in annual revenue, and $470 billion in profit, from established financial services companies. Even a fraction of a point of market share represents significant business, so investors are falling all over themselves to back new entrants. Or to get in themselves: Goldman is so impressed with fintech, it is launching its own online lending operation. Venture capitalists invested $23.5 billion globally in fintech in the past two years, according to estimates by Santander, Oliver Wyman, and Anthemis Group: "Of this investment, 27% has been in consumer lending, 23% in payments and 16% in business lending," the researchers wrote in a recent report, adding: "Fintechs have two unique selling points: better use of data and frictionless customer experience."
In some respects fintech is being revolutionized by entrepreneurs for entrepreneurs. You may get your next business loan from Lending Club, OnDeck, or Kabbage, instead of a it-takes-forever bank; rather than scrambling to interest venture capital firms or other traditional investors, you can now look to Kickstarter, Indiegogo, or CircleUp. Your company's transactions could be processed with fewer headaches by Square, Stripe, or WePay. And you can manage your money automatically at Betterment or Wealthfront and not pay for investment advice that may or may not outperform the market. You can even start replacing money itself using Coinbase, Circle, and other digital-currency options.
In the vision of fintech entrepreneurs such as Rob Frohwein, CEO of small-business lending platform Kabbage (No. 36), online lending "shouldn't be the place you go after others turn you down. It should be the first place you look when you're looking to grow." A technology lawyer, Frohwein started Atlanta-based Kabbage in 2009 with financial industry veteran Kathryn Petralia and data and security entrepreneur Marc Gorlin. The founders noticed so much more data becoming available online, they figured they could use it to underwrite loans to small businesses that couldn't otherwise get credit--and to do so almost within minutes, not the 24 hours or so entrepreneurs now spend, on average, applying for bank loans. Five years later, Kabbage has grown to an annual revenue of $40.2 million--up 6,722.4 percent over three years. "We're really just at the beginning of this renaissance period in alternative lending," says Frohwein. "And I look forward to the day when it's not called alternative."
That day is getting closer. At the end of last year, online marketplace Lending Club and small-business lender OnDeck Capital both went public, IPOs that almost all founders, investors, and analysts point to as a validation of what fintech entrepreneurs can achieve--and the impact they are already having.
Just ask WePay. It began as a company solving the small problem of moving small amounts of money around. Suppose you wanted to make it easier for your buddies to pool money to book ski trips: That was the issue Clerico set out to solve with Aberman, his freshman roommate at Boston College in 2003. After graduation, Aberman headed for law school at New York University and Clerico into investment banking, where he started working with startup CEOs. Those meetings gave him the entrepreneurial bug--and the job (and some credit cards) gave him enough money to seed-fund WePay. In 2008, the friends launched their business.
WePay is a different company now. In late 2013, the founders made a risky bet on the future of crowdfunding--and shut down WePay's original, group-payments business, even though that segment accounted for 40 percent of revenue. Instead, WePay zeroed in on behind-the-scenes payments processing, which started off as a small side business but had quickly outpaced the consumer side's growth. When you donate to a friend's hospital bills on GoFundMe, or hire a babysitter on Care.com, WePay is collecting money from your credit card and getting it to the recipient, taking its fee (a competitive 2.9 percent of the total, plus 30 cents) along the way.
That turned out to be an immensely savvy bet. Crowdfunding payments have exploded, going from $3.9 billion in 2013 to $9.5 billion in 2014, according to consulting firm Massolution--which predicts that that number will nearly double again this year. What online shopping did for PayPal, the rise of the GoFundMe economy seems to be doing for WePay.
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"I'm sweating from excitement." Blame the early- summer Manhattan humidity, blame the packed hipster hotel lobby, blame his rapid consumption of two espresso drinks, but Max Levchin blames the topic: payments processing.
It's been more than an hour, and the PayPal co-founder has barely stopped for breath. While Thiel may once have been reluctant to meet with some would-be PayPal successors, Levchin is tirelessly excited about the new financial innovators. WePay's one of them--he's an investor. "Peter and I had very opposite reactions to the PayPal experience," Levchin says, recalling a conversation right after both men had left. Thiel told him, " 'I'm exhausted and never want to touch this industry again.' And I said, 'I kind of miss it already.' "
Thiel's since regained his enthusiasm--he's an investor in Stripe, a larger competitor to WePay, as is Levchin. But his apparent earlier wariness about the sector reflects its underwhelming track record. In the nearly two decades between PayPal's launch and Lending Club's 2014 IPO, nobody else has fully reinvented the financial world in the U.S.
Now Levchin is among those betting that this new crop of startups, his own included, can reorder the money universe--and make it more transparent and consumer-friendly in the process. His Affirm, launched in 2013, has big ambitions: "We ultimately see ourselves as a full-service bank," he says.
It's got quite a way to go. Affirm first targeted consumer lending, and this year branched into student loans for coders. Its first product tries to supplant the high-interest-rate credit cards hawked by retailers with online installment loans, which customers can apply for as they shop. Levchin admits that he hasn't figured out the entire road map--especially how to navigate banking's heavy regulatory burden. "It'll definitely take a while to get there," he says. "I would lie if I said that I know exactly how we get FDIC this and SEC that."
Meanwhile, Levchin is betting on a number of companies that could transform the ecosystem, including WePay. But he's also excited about the fintech arrival of an 800-pound gorilla--or maybe cephalopod--from a decidedly less entrepreneurial background. "Sharing the spotlight with Goldman Sachs is not a bad thing," he says. "They're attracting more attention, and more investor money, to the industry." And from a potential competitive standpoint, "nobody's in more danger of getting smacked around by the regulators than the vampire squid."
"If you want to dream a little, the entire financial system could be remade with these companies."Pat Grady, Sequoia
Still, the fintech world is signposted with startups that were swallowed by bigger fish (Mint, Venmo, Braintree) or sank: personal finance manager Wesabe, the online bank PerkStreet, and Bitcoin exchange BitInstant are a few of the damned. The latter, especially, ran afoul of regulators: BitInstant was an early leader in the nascent digital currency market, but co-founder Charlie Shrem is currently serving two years in prison on federal charges of money laundering. More fintech scrutiny is coming: The Treasury Department recently launched a study of online lending practices.
"The one thing I'm really worried about would be bad actors polluting the pool, and undermining investor confidence in what we're all doing," says Prosper CEO Aaron Vermut. He should know; he's spent the past two years helping his company claw back from regulator-triggered near-death. Prosper, founded 10 years ago by Chris Larsen and John Witchel, was the first U.S. online lending marketplace, before even Lending Club. But in 2008, when the Securities and Exchange Commission decided that Prosper and Lending Club were selling securities rather than just providing loans, one handled the scrutiny better than the other. Lending Club quickly suspended its business to address the SEC's concerns, and restarted on better terms with regulators; Prosper was slower to react, and eventually got hit with a cease-and-desist order. Larsen left in 2012, and by early 2013, Prosper had an interim CEO, a recently failed round of financing, a fractious board of directors, and a class-action lawsuit related to the company's securities sales.
"Wow, that messed-up thing sounds like something we could really sink our teeth into," Vermut recalls thinking. He and his father, Stephan, along with partner Ron Suber, had just sold their prime brokerage business to Wells Fargo, and were itching for a new project. They invested $3 million, got a Sequoia-led group of investors on board for another $17 million, and started a turnaround.
This spring, Prosper closed on a $165 million round, valuing the company at nearly $2 billion. Prosper is now living up to its name: Revenue totaled $81.3 million in 2014--up 3,618.1 percent over three years--and Vermut in June predicted that Prosper would "get close to $200 million" this year. "We came in with the understanding that we were either going to make it a really big success or we were going to break it," Vermut says. "And we came pretty close a couple of times--but I can honestly say now it's bigger than we ever thought it was going to get."
WePay also has bigger on its mind; a recent $40 million finance round will help it expand to Australia, the United Kingdom, and, eventually, the rest of Western Europe. "We serve some big, global crowdfunding sites and marketplace platforms, and we want to help them move money all over the world," Clerico says.
His visions of world payments-processing domination still elicit some teasing, although it's not on cable these days--or at the expense of his romantic misadventures. Clerico is now "happily engaged to someone I did not meet on the show," a Boston College classmate and Facebook recruiter he met at their five-year college reunion.
But after abandoning WePay's initial business, and its original goal of simplifying his ski trips, Clerico has been reduced to using boring old spreadsheets and bank transfers to keep track of his group's skiing expenses. His buddies "make fun of me now, because WePay no longer does group payments," he says. "I always get an email complaining, 'Oh, if only there was an easy way to collect the money.'"
With WePay looking to bring in up to $75 million in business this year, it appears he's found one.
Perkstreet
Boom and Bust
Customers loved this online bank, and its generous rewards--which cost too much to sustain. It closed in 2013.
OnDeck
Second Stage
The small-business lender went public in 2014, validating a market for startups that provide high-priced but speedy credit to entrepreneurs.
BitInstant
Flame-Out
This early Bitcoin startup was backed by the Winklevoss twins but came under regulatory scrutiny and shuttered in 2013. Its co-founder is now in prison for money laundering.
Coinbase
Charting New Territory
One of the most successful Bitcoin- related startups, this virtual currency exchange is backed by both VCs and banks.
Square
Escape Velocity
The mobile payments company changed the way small businesses accept payments, but has also struggled with product setbacks and a much-rumored IPO.
WePay
New Trajectory
Launched as a consumer payments company, in 2013 WePay turned to processing payments for crowdfunding sites--and it has soared ever since.
Prosper
Late Recovery
One of the earliest online lending innovators, it faltered under regulatory scrutiny but started a comeback in 2013, and is now worth $1.9 billion.
Betterment
Autopilot
This "robo-adviser" is jockeying with Wealthfront, among others, to build a cheaper, more tech-reliant type of wealth-management firm.
Wesabe
Into Thin Air
A precursor to Mint.com, this personal-finance manager launched in 2006 but lost ground to its better-known competitor and closed down in 2010.
Stripe
Climbing Fast
The five-year-old payment processor, valued at $5 billion, has gotten a lift from such customers as Facebook, Twitter, Apple, and Kickstarter.
Lending Club
Up Up and Away
With its 2014 IPO, the online loan marketplace cemented its role as leader of this fintech generation.
Clinkle
Augering In
The mobile payments startup attracted buzz, and more than $30 million from high-profile investors, before pivoting products and hemorrhaging high-profile executives.
ZestFinance
Aiming High
ZestFinance, which sells pricey consumer loans to people who can't otherwise get credit, is expanding its data services to China--and is No. 192 on this year's Inc. 500 list, with $51 million in 2014 revenue.
Swift Capital
Gaining Momentum
The small-business financing company, which provides relatively costly but fast cash advances, is No. 64 on this year's Inc. 500 list, with $27.5 million in 2014 revenue.
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