Why embedded finance is the next big thing
According to Oracle’s estimates, the value of the embedded finance market is expected to exceed $7 trillion in the next 10 years, making it worth double the combined value of the world’s top 30 banks today.
Clearly there’s an actionable market opportunity here in a space which is quickly becoming a hotly contested battleground.
Although something of a buzz phrase within consumer financing in recent years, some noise is now being made within B2B e-commerce, with a batch of start-ups providing businesses with embedded services such as buy now, pay later (BNPL) and trade credit insurance.
If you’re not already familiar, it’s time to get to know why embedded finance is the next big thing.
What is embedded finance?
Put simply, embedded finance is the integration of financial services or tools – traditionally obtained via a bank – within the products or services of a non-financial organisation. Think of an online store offering short-term loans in the form of BNPL, or the digital wallet on your phone enabling instant contactless payments. But this is just the beginning.
Embedded finance has already started to streamline financial processes in both consumer and business commerce by reducing barriers to entry for various products and services. Previously, a consumer might need to visit a physical bank to get a loan for a substantial purchase, or a business buyer may spend hours on cumbersome paperwork in order to access trade credit. Now, these services are being made available easily at the point of purchase.
Embedded finance examples
Let’s take a look at some of the most developed areas of embedded finance.
Embedded payments make life easier for consumers and business buyers by enabling instant payments at the touch of a button.
An example of this is when payment technology is integrated within the infrastructure of an app or e-commerce site, meaning that buyers don’t have to enter their credit card details for every transaction. Rideshare apps like Uber utilise embedded payments so customers don’t need to pull out their credit card or scramble around for cash, instead paying automatically via the app upon completion of their journey.
Digital wallets that enable contactless mobile transactions and instant online purchases are a further form of embedded payments which have become wildly popular since the launch of Apple Pay in 2014.
This is where credit or financing products are integrated into a non-financial services company, such as a retailer or marketplace, essentially allowing buyers to access deferred payment facilities at the point of sale without having to go to a bank or other lender.
More commonly referred to as BNPL, embedded lending is well known within consumer-focused embedded finance thanks to the ubiquity and success of major players like Klarna and Clearpay. However, there is a burgeoning B2B BNPL market enabling businesses to access an improved digital version of traditional trade credit, removing the need for cumbersome paperwork and lengthy approval waiting times.
In the past, a buyer looking to insure a new purchase would have to go through the arduous process of finding and securing the best insurance product they could find – and that’s after they’ve already spent time, money and effort researching and buying the product in the first place.
Now, insurance products can be found and added on to a purchase at the point of need with just one click, making contact with a broker or insurance agent unnecessary and practically negating the need to trawl through options from different insurers. A typical example of embedded insurance can be found in travel, when we’re offered travel insurance each time we purchase a flight or train ticket.
Evidently, embedded finance has the flexibility and universality to be applied to any company or industry with a transactional element. It also has the potential and momentum to fully revolutionise payments and broaden the horizons of innovation within financial services. Even incumbent players, traditionally slow to take up new practices, have begun to realise the world of possibilities presented by embedded finance.
Legacy systems and processes are not designed to make the real-time decisions required for the sale of embedded finance products, and while it would be possible for banks and insurers to migrate to a fresh tech stack, it would be a massive and perilous endeavour. Instead, many have chosen to partner with agile tech start-ups to achieve this goal.
Embedded finance requires a “paradigm shift” in thinking. The finance product is ancillary to the underlying sale and no longer the main thing that buyers were looking for in the first place. For example, a consumer goes on the British Airways website to buy a flight, not to buy travel insurance, even though they might end up purchasing both. Most banks and insurance companies have distribution networks whose raison d’être is to push products, while embedded finance relies on a “pull” logic where the consumer takes out the financial product at the point of need.
As a consequence, embedded finance requires providers to view their financial product through a technical lens. It’s a digital product that combines the underlying financial product and the API to make it available to partners. Traditional banks and insurers are not equipped to build, document and promote an API to an ecosystem. They haven’t yet realised that the “API” is just as important as the contract – and that they actually have two clients, the first one being the developer or the partner in charge of embedding the product, the second one being the end user who will take out the product.
For businesses looking to capitalise on these new opportunities, the first step should be to assess existing processes and tools and determine which can be readily enhanced through an embedded solution. Then, research and get in touch with a relevant partner able to provide a modern, frictionless solution.
About the author:
Louis Carbonnier is the co-founder and co-CEO of fintech start-up Hokodo.
Prior to founding Hokodo, he worked for Euler Hermes and Oliver Wyman.