Large mobile banking firms have edge in emerging markets: Study

Sizeable upfront investment costs mean smaller firms will struggle to gain traction

Large financial firms can expand into emerging markets through the use of mobile banking, according to a new report being released today.

The McKinsey study showed that a mobile banking business in emerging markets can hit a 35 per cent margin once it reaches optimal scale, but the sizeable upfront investment costs mean smaller firms will struggle to gain traction.

A break-even point for mobile banking in emerging markets is estimated by McKinsey to be about US$20 million (S$26.3 million) in revenue, with annual transaction value hitting around US$2 billion.

It noted that much of its focus was on numbers from East Africa, although it had also included representatives from South-east Asia.

In cash-based economies, customers must be able to efficiently deposit cash into and withdraw from their payment accounts. Many mobile banking players rely on agency networks - either hiring third-party sales representatives, or drawing on an existing retail network - to ensure that customers can get access to cash, or deposit funds.

Here is where economies of scale power up the engine. Mobile banking providers stand to improve profitability "meaningfully" by increasing the number of digital transactions for each time cash is put into the system, McKinsey said.

Margins on transactions can exceed 75 per cent, as fees are large compared with the low costs to the provider using automated systems and digital user interfaces.

"All evidence indicates that cash will not disappear any time soon. Even in Norway, for example, the country with the largest share of digital payments globally, 17 per cent of all payments are transacted in cash," the report said. "To improve profits, providers should look to grow digital transactions even if it means also increasing the number of cash-in-cash-out transactions."

As margins on cash deposits and withdrawals alone are lower - at about 20 per cent to 30 per cent - even small cost reductions can impact overall economics. Conversely, cost jumps can turn players unprofitable.

There are more conventional pieces of evidence that big is still beautiful when it comes to mobile banking in emerging markets.

What is key is information technology spending, which represents about US$1.5 million in annual fixed costs for a mobile banking system. Again, that spending is significant for small providers, but is minimal for large players.

There are also the costs of real estate and marketing. This means financial firms looking to expand into emerging markets via mobile banking would need financial stamina.

"To gain the benefits of scale, providers must invest heavily and with long-time horizons," said McKinsey. "This holds true across the world for Internet players in network businesses - firms such as Alibaba and Google have invested significantly in long-term growth and market capture, even when this means immediate losses."

McKinsey also noted that mobile banking can be a lifeline for people living in poverty. "It brings the benefits of financial services to those who currently lack access, and thus enables them to take initial steps towards healthier financial lives."

A version of this article appeared in the print edition of The Straits Times on March 13, 2018, with the headline 'Large mobile banking firms have edge in emerging markets: Study'. Print Edition | Subscribe