The neobank era has arrived

Neobanks saw rapid customer growth with the pandemic’s shift to digital banking. However, higher interest rates since 2022 have affected availability of funding for fintech in general and raised concerns over business models of neobanks and their ability to monetize a growing customer base. According to BCG, only 23 out of 453 global digital challenger banks in 2023 were operationally profitable.

The challenging backdrop has prompted neobanks to shift from ‘growth at all cost’ to profitable growth and sustainable operations. Customer acquisition has decelerated somewhat from pandemic highs, but revenues continue to rise impressively. According to BCG, challenger banks were star performers posting revenue CAGR of 78% in 2021-2023 compared to 14% average for global fintech, and 21% excluding crypto- and China-exposed fintechs.

In 2023 a number of leading neobanks (Revolut and Starling) demonstrated record profitability and several players reported full year of profits for the first time (Monzo and bunq). The positive trend continued into 2024 with Dave, MoneyLion, Chime and SoFi turning to profitability in recent quarters in the US.

Neobanks have taken unique paths to scale and profitability depending on the starting point including geography, market characteristics, customer focus and product strategy. The operating and regulatory environment differs across countries. In the US neobanks tend to be niche, focus on payments and operate in partnerships with banks. Chime, for example, is partnering with two US banks and its revenue stems primarily from interchange fees.

In the EU neobanks face tough competition with a high number of neobanks per capita, low interchange fees (capped at 0.2% for debit and 0.3% for credit) and increased regulatory scrutiny. In Brazil, on the other hand, the central bank and regulators created infrastructure (instant payment system Pix) enabling fintech solutions to scale with a number of success stories including Nubank (a neobank), Creditas (a lending platform), Dock (a fintech infrastructure provider), and Ebanx (a payments provider).

Markets with a significant underbanked population offer attractive growth prospects. Nubank is a good example of a neobank that benefited from a narrow geographic focus, operating only in Brazil for its first six years, where they have now gathered more than 95 million clients (making up 55% of the adult population) before expanding elsewhere. Other examples include KakaoBank with 24 million customers in Korea, and Monzo surpassing 10 million customers in the UK.

There are some notable exceptions like Wise and Revolut that pursued rapid international expansion. Revolut boasts a global footprint across 38 countries with 45 million customers as of June 2024.

Establishing robust credit operations is a crucial factor. Nubank and Starling have established lending businesses and others are in the process of rolling out credit to their clients. Neobanks tend to focus more on unsecured credit, though there are some players offering mortgages (Starling in the UK, KakaoBank in Korea, Inter in Brazil). Revolut delivered strong profitability last year despite low reliance on credit (loan-to-deposit ratio at just 3.5%). This was due to higher interest on liquidity and strong revenue diversification, with no single product stream or region accounting for more than 30% of the top line.

Lacking legacy tech and digital focus allow neobanks to rapidly launch and re-work new products and solutions. Revolut, which had only two products in 2015 (its flagship multi-currency travel card and a mobile app) now offers a full suite of services including investments, trading (including crypto) and credit. Revolut also has a dynamic approach to managing its products and cancels products/features based on customer feedback. Similarly Nubank expanded its offer from credit cards to personal loans, investments, cryptocurrency trading, auto and life insurance, among other product lines.

Neobanks attracted customers with the promise of a better user experience, but they are in the early stage of capturing primary banking relationships. According to data from EY, between 72% and 81% of consumers in the UK, France, and Germany say their primary financial relationship is with a traditional bank. Similarly, in the US consumers still predominantly use traditional banks for primary banking relationships, with 59% of the 18-24 age cohort and 93% of those over 65 (see Figure 4). Nubank stands out among peers, enjoying a primary banking relationship with 60% of its monthly active customers.

Successful neobanks tend to focus on customer-centric metrics like customer lifetime value and customer acquisition costs (CAC). Nubank managed to acquire approximately 80%-90% of customers through word-of-mouth or direct unpaid referrals, without the need for significant marketing expenses. As a result, CAC at Nubank remained broadly unchanged at <USD 1 in 2021-2023. Revolut saw 70% of new retail customers joining organically in 2023, however word-of-mouth growth was complemented by further investment into marketing and sales. As a result, the blended CAC doubled from ~GBP 10 per user in 2021 to ~GBP 20 in 2023, compared to GBP 9 for Wise (vs GBP 7 in 2021) with 66% of customer growth coming via word-of-mouth.