The First Thing to Consider in a Fintech Partnership

In a September speech, Federal Reserve Governor Michelle Bowman referenced an upcoming “Ask the Fed” program that will focus on the innovative relationships between community banks and service providers as banks navigate the financial technology, or fintech, space.

While there are an abundance of variables to consider when selecting a fintech partner, Bowman notes that two important themes stand out: establishing trust with the fintech and building a long-term, innovative culture.

Regulators seem to agree on this point. Within weeks of each other, the Federal Reserve, the Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency released papers detailing how community banks can work with fintechs.

The reports offer voluntary practices and do not constitute guidance or rules that banks must follow. They dive into recommended vetting practices, risk management considerations and other typical due diligence checks. But Conducting Financial Due Diligence on Financial Technology Companies (from the FDIC, OCC and Federal Reserve) and Community Bank Access to Innovation through Partnerships (from the Federal Reserve) both support Bowman in her emphasis on culture and trust.

To complete an effective bank-fintech partnership, the Fed states that there must be an “alignment of priorities and objectives of the community bank and its fintech partner.”

Seems obvious, right?

In theory, yes. But in reality, relationship building and the “getting to know you” part of partnerships can often be overshadowed by the painstakingly complex tasks that surround the due diligence process. The collaborative paper from the three agencies lists 68 potential sources of information for banks to assess across six different categories — business experience, financials and market conditions, legal and regulatory compliance, risk management policies, information security programs and operational resilience — on top of other evaluations a bank may make.

But even if a fintech checks all the boxes on paper, it doesn’t mean that it’s a good fit for a bank. The Fed stresses that in both conversation and action, there should be shared principals, values and visions between the two entities in order to better the chances of a successful partnership.

And it starts with the bank. According to the Fed, “Participants [in the study] noted that a bank culture that prioritizes innovation is most effective when bankers can identify the gains they hope to realize from technology.”

What matters is that there is an enterprise-wide consensus on what culture means to a specific bank. And with that culture locked in, it’s easier to determine which potential partners possess the similar values — or which ones don’t.

Take Coastal Financial Corp., for example. The $2 billion Everett, Washington-based bank holding company vets all potential fintech partnerships through what CEO Eric Sprink calls their “emotional gating criteria.” He told Bank Director in August, “We try real hard upfront to make sure we’re picking the ones that best fit us and that have the most likelihood of success … you really have to stick to your gating criteria and believe in what you’re trying to accomplish.”

Innovation officers from the FDIC, OCC and Federal Reserve also advise banks to assess what compliance means to their fintech partners. During the 2021 AICPA & CIMA Conference on Banks and Savings Institutions, Kavita Jain, deputy associate director of innovation policy at the Fed, reminded bankers that at the end of the day, regulators hold the bank responsible for ensuring compliance with securities and banking laws.

Banks also need to understand that technology partnerships typically don’t produce immediate returns. The Fed cautions that it could take years for banks to realize any gains. Implementation timelines alone could take up to six months or longer, depending on the bank and the technology.

Even with delayed returns, banks are eager to scour the fintech market. Bank Director’s 2021 Technology Survey found that banks are willing to pay for technology, and that many are already working with vendors. The 2021 fiscal year median budget that banks allotted to technology was about $1.7 million — a 10% median increase from 2020’s survey results. Forty-six percent of banks said they had collaborated with one or more technology partners to develop a specific solution for the bank.

With technology investments, it’s imperative that banks are spending the time not only to conduct proper due diligence, but to make sure that a fintech’s culture matches their own. When entering into a relationship that has the potential to last years, the first thing a bank should ask themselves is: Do we genuinely like this technology company and what they stand for?