March Capital’s Solomon Hailu: ‘Mission-Critical Infrastructure’ For B2B Fintech

ABSTRACT

READ KEY POINTS FROM SOLOMON HAILU'S POV

Why is ‘mission critical infrastructure’ such an important category moving forward?

• Fintech advancements to date have largely favored the consumer, leaving businesses with operational gaps due to lack of innovation in areas like infrastructure. “The consumer space, to date, has seen much more innovation around distribution channels and platforms,” says Hailu. Now, the pendulum is swinging the other way as structural inefficiencies within legacy systems contribute to margin erosion and a slowdown in revenue generation. Part of the reason Stripe took off is because their customers didn’t need to uproot infrastructure to implement the product. “There's a lot more opportunity for the B2B side of this equation to grow now as this becomes top of mind for many companies,” he says.

What are the business models, applications, or use cases that might be attached to this category?

• API platforms enabling payment facilitation that pair with existing platforms will capture a big portion of this emerging market. Technology layers that avoid a “rip-and-replace” approach can offer many solutions to challenges that are top of mind for CTOs. “An example is Extend, which adds an infrastructure layer to help large banks such as Amex and HSBC offer virtual cards alongside their existing products,” says Hailu. Specifically, white-label models may see outsized scalability, as they allow customers to adapt the product to their needs instead of plugging into a complete platform – giving a lot of control back to the end user.
• Subsequently, as more platforms facilitate commerce, fraud will become a more complex area requiring better solutions. “There’s a need for enterprise solutions that manage both traditional elements and new areas like crypto transactions. We’ve already seen a few leaders emerge such as Forter in e-commerce and Socure in the identity space. In the next few years we expect to see more specialization vs broad horizontal platforms. Lastly, as these platforms continuously block fraud attempts, they benefit from network effects and see their algorithms and platform quality improve,” says Hailu.
• In parallel, solutions that are tailored to emerging SMB companies will capture the other side of the infrastructure market - and eventually support a new generation of larger marker players. “This is what we’ve seen play out with vendors like Stripe of Plaid. They support and grow smaller companies, but eventually they end up hosting large companies that have been built from the ground up on this infrastructure,” says Hailu.

What are some of the potential roadblocks?

• Winning go-to-market models must account for long sales cycles and risk management, especially at the enterprise level. “There are natural elements around financial services that require thoughtful and measured growth so as not to break things and take oversized risk,” says Hailu. There are a lot of layers to address before successfully selling into complex legacy systems at the enterprise level.

IN THE INVESTOR’S OWN WORDS

Financial services for the enterprise are following the same digitization trends that we have seen in the consumer sector. The first thing we saw change was the consumer element - improved user experiences and product distribution.

The next chapter will be about improving these processes at the infrastructure layer. The natural starting point is with payments. Beyond just transitions from paper to digital, I think infrastructure businesses will start out from day one with a focus on growing globally.

We will see more platforms like Gr4vy that help multinational merchants simplify their payment stacks with cloud enablement. Others, like Extend, will create standardizations that allow banks like American Express to offer virtual cards alongside their existing products.

The financial services sector is too old and antiquated to innovate these solutions on its own. If you look at the public markets, around 95% of value in this space is with businesses that are over 50 years old. If you compare this to software, it's incredibly different.

The real challenge is in identifying which problems have the greatest market potential and are must-haves versus nice-to-haves. While many things will start with payments, there will be opportunity within compliance, fraud, and much more in this new macro-climate.

MORE Q&A

Q: How are you thinking about the total addressable market size and opportunities to scale internationally?

A: I think globalization will happen, and will stem from companies being cross-border either from inception or very early on in their life cycle. There are many cases where international financial infrastructure is much more sophisticated than in the US, such as India’s UPI or Brazil’s PIX. So as a whole, the idea of open banking and open finance in regards to payment is very interesting and something I’m excited about, as there are many things that will be needed to simplify that element.

Long term, I think this means that payments will become commoditized. Looking at places like India, we see that as margins come down, it’s cheaper to facilitate transactions. It will likely take more than a decade for the US to get anywhere close to this, but it seems that the tailwinds are in place. The place where you get in trouble is past payments - things like lending and regulation where there's more need for local knowledge and understanding. If you’re a neobank or something similar, it's tough to be global from day one – you have to grow on a marginal country or regional basis.

Q: What do other market participants often misunderstand about this category?

A: “Oftentimes, I think people over simplify how they approach the space with too many snapshots. Revenue multiples are not the only metric for understanding the KPI of players in this category. In payments especially, volume and gross/net margin are more important indicators of a business. People who may not have spent as much time in this vertical sometimes have lapses in judgment or oversights in that sense.”

Q: How would you push back against skepticism that public fintech businesses have a harder time scaling than other software plays?

A: I think scaling a business is hard regardless of sector but in the recent years of “fintech-mania” we’ve seen things get oversimplified and treated with the same revenue multiple approach, but not all fintech business models are created equal. One factor that made it easier is the zero rate environment we were in, which is like riding a tricycle – businesses relied on support that wouldn’t always be there and best practices weren’t always in place.

Some models scale much easier than others, for example payments vs banking/lending. Let’s take a neobank as an example. Neobank interchange revenue requires a lot more volume in order to be profitable because it is split with many other stakeholders who take the lion’s share. That’s why we often see neobanks moving into lending and other solutions that offer better margins - often these products are much harder to scale due to new elements of risk (i.e., lending).

On the other side of the payments coin, you can have payment facilitators/processors that offer much higher margin profiles (think Stripe or Block), where you can take 25-100 bps on each transaction. Here you have a high gross margin business that scales incredibly well.

In the coming decade I believe software will have an element of fintech and vice versa so we can’t say one is better or easier than the other without going deeper into the specific business and market.

WHAT ELSE TO WATCH FOR

Businesses will need to establish the difference between “must have” versus “nice to have” when prioritizing solutions, especially in a new macro-climate. “In the exuberance of the market over the past 18 months, people forgot to consider ‘how mission critical is this problem’ when approaching this space,” says Hailu. Successful companies will be grounded with this mindset. “A good example is Earnin, a company that provides earned-wage access to millions of Americans. You get real-time access to pay, which is incredibly important in today’s economy. If Earnin wasn’t here, customers might not be able to pay their utility bill. That’s an example of the perspective we take on defining ‘mission critical,’” he says.

STARTUPS MENTIONED IN THIS BRIEF

Blocks, Earnin, Forter, Socure, Stripe, Extend,Gr4vy