The Real Reasons Payment Banks Are Returning Their Licences

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Forty one hopefuls applied to the Reserve Bank of India (RBI) for a license to run 'payment’ banks. Eleven got permissions to start payment banks in August 2015.

Last week, three pulled out of the race.

This is perhaps the first time that companies are returning licenses to the Government, in this case RBI, saying they don’t want to or can’t run a business that seemed lucrative just a little while ago. Tech Mahindra, Dilip Shangvi (Sun Pharmaceuticals) and Cholamandalam Investment are the ones who pulled out.

So why did they suddenly develop cold feet?

Before we come to that, a quick backgrounder on payment banks: These banks were conceptualized as a means to expand financial inclusion. They can accept deposits upto Rs 1 lakh ($1,500) and provide payments and remittance services. They can’t issue credit cards and most importantly, cannot lend money.

Their key source of income will be from fees from providing mostly transaction services like electronic benefits transfer (EBT) or remittances and not the net interest income which regular banks earn from the deposits you and I place in them and the spread they earn from lending it onward.

One thing is very clear. This is not a glamorous business by any stretch. Only those who have been in similar or allied businesses are best placed to extract the benefits from a payment bank license.

FINO PayTech is one of the eight licensees still around. Shailesh Pandey, Strategy Head & EVP told me on my Policy Watch show on Rajya Sabha TV last week that his company’s core business has always been financial inclusion and that for them a payment bank was a logical extension. “We have around 100 million customers and 30,000 field or financial inclusion agents.”

Pandey says in a payment bank model, one should be able to leverage technology, people or knowhow. “The economics lies in small value and high volume transactions. We have been opening accounts for other banks (as business correspondents) all this while. Now we will do it for ourselves.”

Why then are the rest pulling out?

Here are three important reasons I could glean, in talking to Pandey and to Atul Kunwar, President & CTO of Tech Mahindra, one of the companies that pulled out.

1. Business Model: Newspaper reports quoted the surviving eight players saying that a lot of players applied for licenses without fully comprehending the business model. And then subsequently did a rethink.

Actually, that is the crux of the entire issue – the candid acknowledgement that a business model does not make sense any more.

Says Kunwar, “Between the time we applied and got the license, the viability of the business reduced. We will now have to put in more funds and the payback will take longer." But he insists the opportunity is still there. “”What has changed is the way the opportunity will be addressed,” he says.

2. Distinctive Edge ? When there are a multitude of players attacking a new opportunity, what could be the edge ? Technology could clearly be one. Not quite. More likely is how many customers you own already, in a real sense. Companies like FINO have them but Mahindra does not. Technology apparently is the one thing everyone can catch up very quickly.

“We believe we have an edge in distribution. The unit economics are low and it is not easy for someone to acquire our customers,” says Pandey. We will see more intense competition in the 'click’ model but we are more of a 'brick’ model, he adds. Tech Mahindra on the other hand sees the cost of customer acquisition as prohibitive.

3. Casino Capital: The bottomline is very simple. Companies like Tech Mahindra which are also listed on stock exchanges are backed by regular investors and not hot-blooded Silicon Valley types who could be sold another billion consumers story.

Come to think of it, it’s actually surprising that these three companies did not want to do the fintech + billion consumer opportunity pitch to salivating (at least till recently) investors.

I asked Kunwar if they were worried about being elbowed out by VC funded businesses in the same space. “Well, the strategy is valid for them but not valid for our business ethic. You need more funds and the payback period is too long,” was his response. Note the use of the word ethic.

Does this mean there are no opportunities?

Not quite. Looking ahead, the space will grow but the payment bank business will overlap with many other businesses in the financial space, including mobile wallets, which in turn is threatened by the Unified Payments Interface (UPI) initiative. Technology in this world is relentless.

The good thing about financial payments specifically and financial inclusion in general is that India is largely unbanked, though this is changing. Obviously, anyone researching this space sees the upside but will also know that the cost of acquiring customers can be high. Particularly when the ticket sizes are small.

Tech Mahindra says it still sees a happy ending. It will now focus on supplying the technology and solutions to payment banks who want to start out. "Rather than being a bank ourself, we can support other banks and that will be our calling card," says Kunwar.

Is there a moral to this story?

Yes. Tech Mahindra, Cholamandalam and Sun Pharma (Dilip Shangavi) are conservative investors and business managers, evidently.

They have investors to answer to or think more in terms of building viable businesses that make money from a certain point in the near future. Possibly they do not see the attraction in customer acquisition fuelled by prime time television and full page newspaper advertisements. Or subsequently hunting for a buyer for those customers.

Most importantly, they don’t see a downside in owning up to a wrong decision in the interest of good business and shareholder responsibility even if there is some egg in the face. And cutting losses. There is a lesson in that.

For those who choose to heed it.