If one sector encapsulates the ethos of Pakistan’s startup ecosystem, it would probably be fintech. Over the past two decades, the players in this segment have made significant progress in their ability and appetite to develop and deliver innovative products.
The significance of this vertical is exemplified by the consistent investor interest it has garnered over the years. In 2023, Pakistani fintech companies led in deal closures, although the largest amount of funding was secured by ecommerce startups. Not included in the 2023 startup funding statistics, fintech startup Abhi raised $6.8 million for a Sukuk bond in May 2023, marking the first instance of this kind for a fintech in the MENAP region and standing out as one of the notable developments in 2023.
Yet, players in the segment have had their fair share of challenges over the years with the recent macroeconomic headwinds pushing many to the brink.
A bumpy 2023
A significant economic contraction eroded the spending power of the average Pakistani. In the face of this adversity, the opportunity for fintech grew, driven by a growing demand for lending solutions. This demand was also met with the rise of exploitative nano-lending apps, leading regulatory authorities to take notice after a public outcry.
However, lending in this environment presents a significant challenge. To begin with, lending in Pakistan is hindered by the absence of formal credit scoring systems. With a substantial portion of the economy operating informally, the available data for evaluating the creditworthiness of prospective borrowers is inadequate. Compounding this issue is the high cost of funds, driven by the policy rate which has been at an all-time high of 22% for the last three quarters.
Hence, participants in the lending sector face a difficult decision: whether to pass the costs on to customers and risk them leaving, or absorb incremental costs temporarily in anticipation of a decrease in rates.
Promise at the payments front
As per the latest Payment Systems Review by the State Bank of Pakistan (SBP) for the quarter ended December 2023, mobile banking emerged as the leading channel in the retail payment industry, with transactions reaching 279.9 million, marking an impressive 80.2% increase from the previous year.
Furthermore, e-wallet transactions soared to Rs 50.8 billion spread across 20.1 million transactions, reflecting a notable 37% increase and 30.5% respectively year on year.
This coupled with the decrease in the currency-to-deposit ratio supports the assertion that the pace of digitalization in the economy has accelerated, presenting significant opportunities for fintech companies.
Additionally, the size of the market is poised to expand further, given the relatively low levels of the banked population. According to the SBP, as of June 2023, there were 83 million unique bank accounts in the country, equivalent to 60% of the 137 million adult population. Notably, the number of unique accounts held by women totaled 29 million, representing approximately 43% of the female adult population.
And while we are on the topic of payments, the importance of merchant digitization cannot be overlooked. Encouraging progress has been made on this front, especially in the expansion of Point of Sale (POS) devices. As per recent data from the SBP, throughput of Rs. 363 billion was achieved by POS payment during the quarter ending December 2023.
Legacy players like Jazzcash have also played a vital role in driving forward digitization efforts. The telecom backed venture alone has enabled over 300,000 merchants to process QR/Till digital payments exceeding Rs.10 billion per month.
Moreover, initiatives like the interoperable Raast Person to Merchant (P2M) service are poised to enhance digital payment acceptance for merchants. This service enables businesses to accept payments through various methods, such as QR Codes, Raast Alias, IBAN, and Request to Pay (RTP).
Navigating the challenges
While the challenges are plenty, innovation has continued to be the force behind the growth of the fintech vertical.
Take for example Adalfi, a Pakistani startup leveraging AI and transactional data from banks and NBFCs to improve credit scoring of borrowers and bring down the loan default rate.
We also have Finja, Pakistan’s first and only P2P licensed startup. P2P platforms offer a successful alternative by connecting borrowers and investors directly, bypassing traditional banking channels. With appealing returns and simplified access to capital, these platforms provide a viable alternative in the current high cost of fund environment.
Yet, the pivotal moment arrived last year when ABHI, a Pakistani Earned Waged Access and Invoice Factoring solution provider, issued the MENAP region’s first Sukuk for a fintech company. The offering size was Rs. 2 billion, thereby creating a new avenue for local startups to secure additional capital in a country currently facing a shortage of funding opportunities.
The future playbook
As we have extensively analyzed the current fintech landscape and the underlying trends that will influence the future of industry players, one strategy appears to be a recurring theme in the business plans of operators nationwide: MSME lending.
The opportunity is significant, and it appears that everyone is eager to get a slice of the pie. However, the approach to enter this market differs from one player to another. Following global trends, it seems that horizontal expansion is a primary strategy for fintech companies to broaden their presence in the MSME segment.
The strategy entails starting off with services like payroll processing and bookkeeping/ledger apps, and subsequently acquiring or establishing additional verticals like payment processing and lending services along the way.
Currently, the sector may appear congested with numerous players vying for limited spots, eventual consolidation through M&As would likely restore equilibrium.