Vol. 4: Square buys Afterpay, Govt gets serious about crypto

3 Things On Our Radar

Fintech Feeding Frenzy Part 2

-Last week Square announced that it was acquiring leading “By Now Pay Later” (BNPL) operation Afterpay for $29b. This week Homebridge Financial Services - one of the largest privately held, non-bank lenders in the United States - announced a merger with Figure, who originates, services, finances and trades loans on a public blockchain.

-Each of these acquisitions represent great examples of the “every company will become a fintech company” thesis we discussed in our most recent blog.

-For Square, adding a mature BNPL platform like Afterpay further builds out their deep integration with merchants. BNPL is increasingly becoming a must have payment option for any merchant. Just like having bullet-proof credit card payment flows became table stakes in the 2010s, BNPL (rapidly becoming a challenger to traditional credit cards, particularly in the Gen Z demographic) is becoming table stakes for the 2020s. Building the technology to enable BNPL is not trivial. By adding this tech layer to their overall feature stack, Square is recognizing that to be a leading merchant payments processing company, it needs to integrate multiple tech and service layers to deliver a comprehensive customer experience that can win in a world where ease of use drives customer preference.

-The Homebridge - Figure merger is equally instructive. A number of leading lenders, particularly in mortgage, are using technology innovations to reduce transaction costs and time from application to funding. By merging and widening the implementation of blockchain and other technology advancements, Homebridge and Figure have an opportunity to make dramatic reductions in both transaction cost and time, positioning these companies to offer a uniquely compelling customer experience. This merger is a fascinating example of how fintech solutions can drive product and GTM strategy. For us, it exemplifies the need for B2C businesses to integrate fintech solutions directly within their operations to be successful, as consumers come to expect elegant and low cost products that integrate such functionality.

Data Bake Sale

-The California State Attorney General has begun sending enforcement letters to a variety of advertisers, social media sites, data brokers and ad tech firms with respect to their use of cookies in data tracking for advertising and analytics purposes. The California State AG asserts that these activities amount to data sales without requisite consumer consent.

-Since the enactment of the California Consumer Privacy Act (CCPA) in 2018 there has been an open question whether the use of cookies for advertising and analytics purposes amounts to data sales requiring consumer consent. While the full scope of coverage is not yet clear, these letters indicate that monetizing cookie data in certain cases may require some level of consumer assent (whether via affirmative consent, opt-in, or an opportunity to opt-out).

-We do not find the actions of the California State AG surprising. While California tends to be at the leading edge of privacy law and enforcement in the United States, the AG’s actions are representative of a larger trend. Increasingly regulators are finding that a wider scope of data needs consumer permission to be monetized. We expect this trend to continue and show up in a variety of adjacent policy debates, including the regulation of big tech and implementation of Section 1033.

New Crypto Regulation Bill

-As we’ve highlighted in prior blogs, we are bullish on the promise of decentralization providing consumers greater access to financial products and services. A necessary precondition to decentralized finance truly gaining traction is regulatory certainty for cryptocurrency, digital assets, digital ledger technology, and blockchain more broadly.

-In an effort to provide such certainty, last week Congressional Representative Don Beyer (D-VA) introduced the Digital Asset Market Structure and Investor Protection Act.

-TLDR: this bill provides a comprehensive vision for crypto regulation in the US, however there remains much disagreement - even behind party lines - over the various components of this proposal.

-The proposed legislation is sweeping in its scope, providing foundational legal definitions (digital assets vs digital asset securities), granting express regulatory oversight to the CFTC (digital assets) and the SEC (digital asset securities), and clarifying when an entity dealing with digital assets must register as a money services business, securities exchange, and/or a commodities exchange.

-Also covered: clarification of anti-money laundering law applicability, authority for the Federal Reserve to issue a digital dollar (including the ability to prohibit dollar based stablecoins), recording of non-public digital asset transactions on a publicly available registry, and required FDIC, NCUA and SPIC disclosures on the non-applicability of their respective insurance coverages to digitial assets.

-Not included in Beyer’s bill, but proposed this week as part of the Senate compromise on the Biden Administration’s infrastructure bill, are wide ranging cryptocurrency reporting requirements. These requirements are designed to enable the IRS to generate more tax revenue. A number of concerns have been raised about the proposal, including with respect to consumer privacy and the impact on innovation. Some opponents see these reporting requirements as amounting to unreasonable and unlawful surveillance. In light of this backlash, an amendment was proposed just yesterday, attempting to narrow the applicability of the requirements. Despite the amendment, the proposal remains controversial, with opponents (even those supporting the amendment) believing that more rigorous legislative debate is necessary for rules that may have a dramatic impact on a nascent technology.

One Big Thing

Data Risk Management, Section 1033, and the FCRA

-This past month the Federal Reserve, the FDIC and the OCC issued proposed unified guidance on how banks should manage risks presented by third-party relationships. These relationships increasingly include the partnerships and other business relationships that banks are entering into with fintechs. These relationships enable fintechs to offer regulated banking services within their products and services.

-The underlying thesis of the Guidance is that banks are fully responsible for the actions of their business partners - particularly if the bank is providing banking services to the customers of those partners - and must ensure that such actions are compliant with the regulatory requirements to which the bank itself is subject. This is not a new assertion. The Guidance makes consistent existing guidance from the three agencies covering the following core areas: planning, due diligence, contracting, oversight, and accountability. There are no showstoppers in the Guidance.

-Interestingly, the Guidance comes at a time when the Biden Administration is concurrently placing increased pressure on the CFPB to implement rules for Section 1033 of the Dodd-Frank-Act, which gives consumers a right to access their financial records. Section 1033 became law in 2010, creating the modern fintech era, empowering consumers to utilize their financial data in third party applications. Many of the third party relationships targeted by the Guidance are facilitated by Section 1033.

-While in the past banks have used risk management concerns to limit data access, we don't see the Guidance itself as running counter to 1033 or otherwise creating unreasonable barriers to entry. To the contrary, we see this Guidance as providing an opportunity for fintechs to allay these concerns and objectively demonstrate trust.

What We’re Reading

-CFPB Report on Pandemic Credit Levels - while there is much anecdotal evidence that consumer credit activity has increased from the depths of the COVID pandemic, this study by the CFPB presents demonstrable evidence that applications for consumer credit are in fact back to pre-pandemic levels and increasing.

-Why Fintechs Shouldn't Give Up on Banking Charters - a cautiously pro-fintech article from the American Banker, a more traditional banking publication. The author posits that despite recent setbacks and the OCC’s current reconsideration of its fintech charter efforts, fintechs - if they are committed to high levels of regulatory rigor - may well be successful in obtaining these charters in light of the OCC’s desire to bring regulatory order to these burgeoning use cases.

-What Section 1033 Rules Would Mean for Institutions - a good article setting out the competitive landscape in which the potential rules implementing Section 1033 will reside, describing the tension between consumer access, fintech innovation, data security, regulatory entrenchment, and incumbent market power.