By Nina Hendy

A cohort of tech-led neobanks has sprung up in Australia, positioning themselves as a more convenient alternative to the Big Four.

Neobanks, otherwise known as digital banks, started emerging in 2018 after legislative change paved the way for a shake-up in the banking sector. (The findings of the Hayne royal commission, released in February 2019, also shook consumer trust in Australia’s big banks.)

Neobanks offer fully online, 24-7, branchless banking experience and promise customers more control over their money. Designed solely for smartphones, their aim is to snatch market share from the Big Four – Commonwealth Bank, Westpac, ANZ and NAB – by using artificial intelligence to keep track of user data.

COVID-19, however, has fast-tracked the development of digital channels among the big banks as well. A Deloitte report, Digital Banking Maturity 2020, found that 60% of banks have closed or shortened opening hours of branches, implemented new features such as fully digital account opening (34%), remote identification and verification (23%) and contactless payments (18%).

These traditional banks hold about A$1.4 trillion of total assets, or more than 140% of GDP, according to the Reserve Bank of Australia.

So, how do neobanks differ and will they survive in Australia’s competitive banking landscape?

Market emergence

While digital banks have operated for years in places such as Germany, the UK and Vietnam, legislative restrictions n Australia made it very difficult to start one until recently.

In the few years since the royal commission, a handful of tech-led banks has sprung up. Key local players include Up, Volt, Revolut, Judo, Hay, Tyro and 86 400, many of which were founded by former Big Four bankers.

New Zealand, as yet, remains an untapped market, mostly due to regulatory barriers. However, there has been chatter that the Reserve Bank of New Zealand and the Financial Markets Authority may be working on a framework to remove some of the regulatory barriers to entry to promote competitiveness.

The trend towards internet banking and app-based banking is clear, with about 75% of customers in Australia now conducting most of their banking on a smartphone or computer, research by comparison site Mozo has found.

The Fintech and Digital Banking 2025 report by software provider Backbase and researcher IDC suggests 63% of bank customers in the Asia-Pacific region will be willing to switch to neobanks and challenger banks in the next five years. It also predicts a further 100 financial institutions will open in that time.

Skin in the game

Certainly, to get in the game, a neobank needs an Australian Deposit-Taking Institution licence, which is issued by the Australian Prudential Regulation Authority (APRA). This essentially means neobanks are on the same playing field as a traditional bank in terms of the licence and governance measures.

Commonwealth Bank recently dipped its toe into the neobank space with an offering called CommBank Neo, which has linked cash-back offers with a range of retailers in a bid to get a share of the market. However, most neobanks are independent organisations launched by former Big Four employees or fintech entrepreneurs.

Volt’s founder, Steve Weston, has more than 30 years’ experience in financial services. Judo Bank’s founder, David Hornery, worked for NAB, ANZ and Macquarie Bank.

Bucking the trend is the co-founder of Up, entrepreneur Dominic Pym. According to Pym, since launching in October 2018, Up has transacted more than A$13.5 billion – 90% of which has been funnelled away from the Big Four. He adds that Up has 300,000-plus customers, 20% of whom joined in the 12 weeks to December 2020.

Indeed, much of Up’s growth has been fuelled by the pandemic’s impact on Australia’s biggest banks, which closed 175 branches between them in the past year as a result of changing staffing needs and a decrease in foot traffic. More than 2000 ATMs were removed across Australia between March and June 2020, the Australian Payments Network reported (about 1500 were reactivated by September as venues reopened).

What’s so different about neobanks?

Up has no human interaction whatsoever, and no call centre. “The only way to interact with a human at Up is using the app, with a team replying using emojis and animated GIFs,” says Pym. “All the kids love their mobile phones and talk to each other via chat, so they love it.”

Pym says the endgame for most of the neobanks is to do an IPO or sell to a big bank. But Up has a different aim.

“For us, our goal is to become the fifth biggest bank in Australia and be around in 100 years.”

Picture: Dominic Pym, co-founder of Up.

“Our goal is to become the fifth biggest bank in Australia and be around in 100 years.”

Belinda Hogan, chief financial officer at 86 400, says customers are creating accounts because neobanks take the complexity out of banking. 86 400 makes money by enabling free deposits and lending money to home buyers, on which they make an interest margin. It has more than A$300 million in customer deposits and has processed more than A$1 billion in transactions.

“I think our early success shows customers are excited to be experimenting with a different kind of banking, and there’s a huge opportunity to make a real difference in a very large market,” says Hogan.

Up doesn’t charge customers monthly fees, but has fees for overdrawn accounts or a manual international transfer. It also generates margin revenue on deposits via its affiliation with Bendigo and Adelaide Bank and by sharing the contribution margin via its partnership deals with Afterpay and TransferWise.

Says Pym: “I have mates that work in the Big Four banks. I won’t say who it is, but I went into a room, and they literally had all of our scrums from Up plastered across the wall in their innovation room.

“We sign up over 1000 customers a day, and they want to know how we’re doing that. I mean, the big banks spend a billion dollars upgrading their core banking systems. We spent A$150,000.”

Picture: Belinda Hogan, chief financial officer at 86 400.

Maintaining market share

Of course, it hasn’t all been smooth sailing; this is banking after all. In Europe, the biggest neobanks – Revolut, N26, Monzo and Starling – have suffered greatly as a result of the pandemic and customers staying home. In the 12 months to June 2020, Monzo saw its valuation drop almost 40% from £2 billion (US$2.5 billion) to £1.25 billion (US$1.5 billion).

Speed wobbles have hit some local starters, too. Xinja announced just before Christmas that it would close all bank accounts, refund customer savings and hand back its banking licence.

The exit followed a bad year. Xinja posted a A$36 million net loss in 2019 and a A$433 million investment from Dubai’s World Investments, announced in March 2020, didn’t eventuate.

Xinja blamed COVID-19 and a challenging capital raising environment for its demise, but the episode illustrates that neobanks don’t have the same strength as long-standing financial institutions.

Ian Kelsall, principal of product management and innovation at global software consultancy ThoughtWorks, watched as neobanks started popping up in the UK and Europe in 2015. Popular among younger generations and with names such as Atom, Tide and Coconut, they were keen to stand out from the traditional banking pack and offered customers value savings accounts.

Similarly, Xinja launched in Australia offering an interest rate of 2.25% on its ‘no strings attached’ Stash account, which Kelsall says was hard to ignore. (Xinja dropped its rate to 1.8% in May 2020 after Australia’s cash rate was cut to 0.25% in March.)

“It was the usual two- to three-year gap between the UK and Australia, and both markets have accelerated this year. But unless you had $50,000 or $100,000 in savings to open an account, the interest rate wasn’t really worth it.”

According to Kelsall, the challenge for neobanks will be establishing and then maintaining market share as traditional banks also evolve.

Vincent Turner is the founder of uno Home Loans, an online mortgage broker majority owned by Westpac, which has 86 400 on its panel of lenders. He says neobanks represent where banking is going: “branchless, continuously evolving, integrated to platforms, intelligent and able to show you all your finances, not just your ‘accounts’.

“The problem for neobanks is this is where retail banking is going, too,” he says. “Only those that execute everything perfectly, continue to innovate and get to scale – hundreds of thousands of customers making them their day-to-day account – will survive.”

Where to from here?

Andrew Gibson CA spent most of his career with the big banks. At the end of 2018 he quit the National Australia Bank, where he’d worked for 11 years, driven by an opportunity to set up an end-to-end finance function at newcomer Judo.

“Judo Bank’s business model was so good I knew straight away it would succeed and I wanted to be part of the team bringing it to life,” he says. “No new bank, anywhere, has gone from PowerPoint to profit in under four years.”

Judo’s lending book increased during the 2020 financial year to A$1.8 billion, while its deposit book grew by A$1.4 billion, according to its Annual Review 2020.

“We’re on track to achieve ambitious targets set for FY21 and beyond,” says Gibson, Judo’s general manager finance.

“My CA skills have been critical to enable me to set up a finance function that can keep up with the very fast pace that Judo is evolving, while maintaining strong financial controls and appropriate governance.”

But he admits making money is a huge challenge for neobanks “because they require large upfront costs to establish and bring to market – and then, of course, ongoing capital funding to support growth.”

The pandemic has also brought into focus the issue of trust, says Gibson. “Customer expectations from their banks are rapidly increasing, and Judo is set to specifically meet these needs in a way big banks simply cannot replicate.”

Removing barriers to competition is critical to new banks being able to grow, along with access to equity funding and cost-effective debt funding, Gibson adds.

“The big banks incurred significant reputational damage from the way they’ve treated customers, which is why Judo is very conscious of doing the right thing by its customers.

“The big banks incurred significant reputational damage from the way they’ve treated customers.”

“I expect neobanks to be much more prominent than they are today, with those offering good solutions and having a clear path to achieving profitable growth being able to prosper.”

Some of the main players

86 400 – Backed by Cuscal, Australia’s largest independent payments company, 86 400 has more than 285,000 accounts on its platform and is ahead of its target to reach 500,000 by the end of the financial year. Founded by Anthony Thompson, a financial entrepreneur and former chairman of Atom Bank, the UK’s first mobile bank.

Judo Bank – Focused on the SME sector, Judo Bank closed a A$230 million funding round in May 2020, making it the first of the Aussie neobanks to climb above the coveted A$1 billion valuation. Co-founder David Hornery previously worked at NAB, ANZ and Macquarie Bank while co-founder Joseph Healy held executive positions at NAB and ANZ.

Revolut – A UK neobank founded in 2015 by British-Russian entrepreneur Nikolay Storonsky and former Credit Suisse and Deutsche Bank software developer Vlad Yatsenko. Revolut doesn’t have a full banking licence in Australia. It had a 30,000-strong waitlist when launching in August in 2020.

Up – Part-owned by Bendigo and Adelaide Bank, it has taken transactions of more than A$13.5 billion since launching in October 2018 by entrepreneur and investor Dominic Pym.

Volt – Volt Bank became the first neobank in Australia to be granted a Restricted Authorised Deposit-Taking Institution (ADI) licence. In January 2019, it was the first to be granted a full licence to operate as an ADI. Microsoft is a partner. Founder Steve Weston previously worked for St.George Bank, Challenger Financial Services and NAB.

From CA Library