Embedded Finance: Where Banking Services Converge

Embedded finance is becoming a hot topic in banking. While the concept is not new, it has taken on new dimensions thanks to modern technology and innovative applications, and its impact and potential are notable.

Embedded finance can be simply defined as “the use of financial services by a non-financial company”. Familiar examples of embedded finance include the provision of vehicle financing by an automobile dealer, offering insurance coverage for retail purchases, and various financing options offered at the point of sale or service. Thanks to digitalization, we now see a whole new world of possibilities for products and services to be comingled or blended via embedded finance.

The concept appeals to both consumers and businesses. From the consumer’s perspective the embedded finance model streamlines financial processes via a “one-stop shop” approach that makes it easier for people to access goods and services when and where they’re needed. From a business POV, embedded finance not only generates more sales but also provides insightful data than can later be used to drive more future business.

Time to Move Away from the Channel Mindset

To build success in this new era, banks need to move away from a bank channel mindset to face a future where individual banking services converge and are embedded in non-bank channels. Technically, this is only possible by wholesale componentization and application program interface (API) enablement. Componentization separates capabilities that were traditionally locked together in the bank’s monolithic technology stack. Individual components can be marketed, combined and monetized to differentiate and deliver customer value in context. 

Technology advancements will continue to transform and enhance embedded finance, expanding the financial ecosystem and enriching the customer experience (CX) along the way. With open digital technology financial services can be delivered in context, meeting the customers where they are – even pinpointing the right customers at the right time.

One prominent example of the embedded finance trend is the proliferation of popular Buy Now Pay Later (BNPL) payment options now available at Point of Sale (POS). Consider this statistic about the BNPL trajectory: The global Buy Now Pay Later market size was valued at USD $4.07 billion in 2020 and is expected to expand at a compound annual growth rate (CAGR) of 22.4% from 2021 to 2028[1] 

In practice, embedded finance is often linked to unified lending as part of a bank’s strategy to increase customer engagement and deliver a seamless digital experience. Additional use cases for embedded finance include investment and trading applications, and insurance. Innovation will continue to flourish in this area, and banks need to be involved as a matter of survival.

Modern technology and service models enable banking and other financial services to be embedded easily into third party services as part of a larger service proposition. In parallel, regulatory changes in global locations – such as open banking – encourage collaboration between banks, fintechs and other third parties to increase competition and facilitate collaboration.

A Critical Juncture

In principle, embedded banking could change what it means to be a bank. At a basic level a bank may choose to:

• Be the customer-facing brand
• White-label its products under third-party brands
• Co-brand with third parties to show the synergy of their combined brands

Where To Next?

As open banking morphs into open finance, other financial products will become embedded with non-bank service offerings to further enrich the service proposition – the potential for innovation is truly limitless.

The ripple effects won’t stop anytime soon. While the most obvious aim of embedded finance is to increase consumer convenience, the concept is even more powerful in commercial applications, such as supply chain management. The ongoing impact of the global pandemic on the world’s supply chain only underscores the importance of this.

Consider the following emerging trends to watch in this space:

• With the growth of the Internet of Things (IoT), Supply Chain 4.0 becomes a reality

• Financial institutions and other service providers will play a bigger role in the emerging metaverse and “factory of the future”

• The increasing digitalization of manufacturing and services with embedded finance should further align the financial supply chain with the physical supply chain

• Embedded finance will form a critical part of Industry 4.0 and banks can drive progress (if they don’t, they will miss out on a major opportunity)

• Embedded finance heralds a new era of Banking as a Service (BaaS) where a bank provides a middle layer that connects customers with a rich array of financial services

As with any notable trend, the bank’s business and technology strategy must adapt and evolve. With the right approach, embedded finance can be leveraged to significantly expand and enrich your bank’s part in the digital banking ecosystem.

[1] https://www.grandviewresearch.com/industry-analysis/buy-now-pay-later-market-report