As regulatory regime tightens in country, fintech has a long march

Pressure is mounting on companies to get cracking on corporate governance with top-class independent directors on their boards

“The right of fintech (companies) to exist is in innovation. In doing so, they may sometimes take a more liberal interpretation of regulations in the grey zone,” says Alok Mittal, co-founder and chief executive officer (CEO), Indifi Technologies. And aware that this may lead to accidents, Reserve Bank of India (RBI) Governor Shaktikanta Das had forewarned (at the Global Fintech Festival’ in Mumbai, September 20, 2022): “The fintech road ahead will witness ever-growing traffic, in addition to the large number of existing players who are already there. It is, therefore, imperative that every player on this road follows the traffic rules.” 

It may be late in the day for many fintech companies to make a course correction.

In October 2022, a white paper by Coatue, a US-based technology-focused investment manager, said that over the next decade the coming generation of finetch needs to focus “on owning the balance-sheet, and maniacal rebundling…”. It will not be business as usual even as a few fintechs strive to create the laboured narrative that Mint Road does not get the plot. But this is not how Jatinder Handoo, CEO of Digital Lenders Association of India (DLAI), which is an applicant for being a self-regulatory organisation (SRO), views it. He sees firms “taking measures to embed principles of client protection, market stability and regulation into their product and process designs”. Guidelines for digital lending and fintechs have helped the sector and provided comfort to institutional lenders and venture capitalists (VCs), he says.

Handoo’s reading of the tea leaves is spot on. As the RBI appears to suggest that a tighter regulatory regime is around the corner – it calls attention to some fintechs playing off entirely on pre-set algorithms as business models in its ‘Report on the Trend and Progress of Banking in India (FY24)’. What about the punchbowl? Coatue had hinted that the VC (and private equity or PE)-fueled innovation cycle in fintechs may be coming to end. And this is reflected by Tracxn (a data intelligence platform for private market research): Fintech funding at $2 billion in 2023 represented a fall of 63 per cent and 76 per cent compared to the preceding years – at $5.4 billion in 2022 and $8.4 billion in 2021. 

Can fintech meet the moment?

All of this is coming together even as pressure is mounting on fintech to get cracking on corporate governance with top-class independent directors (IDs) on their boards (and compliance officials) – a marked shift away from marketing, as was the case so far. “Their boards should play a critical role in setting the firm’s direction to ensure it has the resources and support to succeed. Additionally, they may leverage their personal networks to help gain exposure and establish partnerships,” says Uttam Nayak, former senior vice-president, Visa Inc.

But not many may be willing to go on board as IDs (or as compliance personnel). This is because the profile of fintech-promoters is relatively unknown and few are ready to risk their reputations. These promoters may have a limited background in financial services businesses and require guidance from industry experts to help them navigate the regulatory landscape. Given that regulatory actions in the past disrupted the business at some fintechs, “there’s heightened sensitivity among fintechs to ensure they stay well within the regulatory perimeter and adhere to higher governance standards,” says Rohan Lakhaiyar, partner at Grant Thornton Bharat.

What are the early movements on this front?

Lakhaiyar cites three. One: Risk, compliance and internal audit teams are being set up by fintechs to drive governance and ensure transparent reporting to the board. Two: Independent third-party engagements to carry out thematic reviews, audit and certification of industry benchmarks to validate operations, processes, and financial integrity. And three: Advisory boards comprising eminent industry experts are being put in place to provide strategic guidance and mentorship. The reputation of the advisory board also helps attract other industry experts to join as board members. But this last aspect is proving to be much tougher, and this holds while getting to on board top-class IDs in wider Inc too. “Prospective board members can meet the promoter and the senior management team to independently assess the quality of senior leadership and carry out reference checks to establish trust prior to joining the board,” says Lakhaiyar.

Refreshing boards

A report by Institutional Investor Advisory Services (IiAS) is an eye-opener: FY24 will see the end of the grandfathering of previous board tenures of IDs. By now, most boards should have been refreshed. Yet at the end of December 2023, as many as 39 of the BSE-100 companies had tenured IDs on their boards. One risk of the board refresh will be for business groups – if they decide to shuffle IDs across group companies, it will defeat the purpose of regulations. 

And where does fintech fit in this big picture when it comes to IDs? “There will be pick and choose by IDs when it comes to being on the board of fintechs. The issue here is that unlike legacy REs (regulated entities), you have to be doubly sure what you are signing up for,” says Amit Tandon, founder and managing director, IiAS.

He adds: “Another related issue I feel is that in several cases, PE investors may be influencing decisions in their quest for returns. But I am clear that the governance premium will only go up from here on”. All of this, even as the sector is getting two SROs: The two applicants being the Fintech Association for Consumer Empowerment and DLAI. It also coincides with Mint Road’s master direction of November 7 last year which said that REs – banks and non-banking financial companies, including fintechs – must establish a board-level information technology-strategy committee with a minimum of three directors as members.

And to think it was just a few months ago – in November last year – that the Centre for Advanced Financial Research and Learning, in its ‘India Finance Report (IFR)’, had called attention to the immense potential of fintech.  The independent body set up by the RBI noted that of the 14,000 startups born between 2016 and 2021, close to half were fintechs. The IFR projected lending by fintechs would exceed that of banks by 2030.

So, where are we headed? “The outlook for 2024 is going to be calibrated. I think this is something which is needed as stronger business models will emerge. It would mean a lot of pain in the short term,” says Ankur Bansal, co-founder of BlackSoil Capital.

It is up to fintech to meet the moment.