A running narrative in UK banking for several years now, similar to other countries around the world, has been around the emergence of a generation of challenger banks, both specialist banks focusing on specific market niches and digital-native app-based fintechs. The big question has always been how many of these officially-licensed neobanks would be able to carve out durable market shares.
Metro Bank’s capital restructuring exercise agreed in principle last week once again threw the neobank narrative into sharp relief. In 2010, Metro was the first UK bank in a century with a strategy of opening physical branches throughout the UK, rowing against the tide of accelerated banking digitalization. Since it entered the market, Metro has achieved reasonable scale. It posted a statutory profit of £15.4 million (US$18.78 million) in the first half of 2023 on total income of £286.4 million, with deposits of £15.53 billion and customer loans of £12.57 billion. Yet return on tangible equity was just 2% and the capital position was fragile.
Metro shares and bonds tanked on October 5th after the bank acknowledged that it was considering a range of options to raise capital and sell a £3 billion mortgage book. The bank did receive enough support from shareholders and creditors to proceed with a £325 million capital raise (£150 million of new equity and £175 million in new senior non-preferred debt) alongside a £600 million debt restructuring (which forced holders of the £250 million Tier 2 debt to take a 40% write-down). Jaime Gilinski, the Colombian billionaire and former minority shareholder, is now the largest shareholder with a 53% stake, having injected £102 million of the new equity.
The bank has reiterated its return on equity goal of above 9% in 2025 and low double digits to mid-teens over the medium term. That could be a stretch, so despite the CEO’s claims of a new chapter for the bank, investors will likely remain cautious.
Fascinating scene
The Metro Bank saga put the focus once again on the mid-tier UK banking scene, which has seen some fascinating developments in recent years. I’ve tried to keep up with the ebb and flow of developments as new players seek to alter the landscape, so with Metro Bank in the news, I took a bit of a dive in the challenger bank segment and offer up here some observations. In the process, I reference a number of banks many will never have heard of but which could become household names – if growth trajectories continue in a straight line.
Some new banking brands have turned profitable in reasonably short order and have gained scale. Shawbrook Bank (pre-tax profits of £238.4 million in 2022), Starling Bank (pre-tax profits of £195 million in the year to March 31 2023); and Oaknorth Bank (pre-tax profits of £152.3 million in 2022) are arguably the frontrunners in the neobank stakes.
SME lender Allica Bank (which acquired 1,400 UK SME customers and £600 million of SME loans from Irish bank AIB), and retail banks Atom Bank and Tandem Bank have developed or are developing scale and are at break-even or are monthly profitable.
Monzo Bank (pre-tax loss of £116.34 million in the year to February 2023) and Zopa Bank (pre-tax loss of £26 million in 2022) are further back on the road to profitability and have achieved decent scale. Other neobanks are smaller but some (such as Redwood Bank) are generating profits.
Culture shock
Prior to the recent phase of new bank licence awards, the UK sector had seen little real change in a century. The relatively abrupt arrival of a large group of untried and untested new banks in recent years has been a culture shock, even if the new entrants are focusing on what they see as under-served or poorly served segments. It’s more of a culture shock as this is happening in parallel with the rapid rise of banking digitalization and the huge amount of innovation that has brought with it.
But even with the dawn of open banking (allowing customers to share data with third parties via application programming interfaces) and UK legislation making it easier for customers to switch bank accounts, customer inertia means market share is shifting very slowly, for a host of reasons.
First, it just takes time. Many of the newly licensed banks are little more than start-ups with ambitious business plans. Many are still raising funds and/or have not become fully operational. And when banks are up and running, customers have to get over the anxiety factor of switching from large well-established institutions to untested new brands. They typically do not shift loyalty wholesale from an established bank to a new bank. They may shift some of their banking services as test pilots and will avoid putting their financial eggs into one banking basket. Meanwhile, aggressive marketing from neobanks purporting to target the same client segments, claiming all sorts of confusing technology-oriented world firsts, makes it hard to unpick one bank from another.
Crowded house
And then there’s the crowded UK banking and banking services landscape itself, consisting of:
- A small group of large high-street banks with large national branch networks (albeit shrinking) and digital footprints offering retail, consumer and business banking: Barclays, HSBC, Lloyds Banking Group, NatWest Group, Santander UK. (Standard Chartered is a large UK-based bank but doesn’t operate a UK business at scale).
- A similar-sized group of smaller and/or regional established high-street banks (TSB Bank, Co-operative Bank, Virgin Money);
- Around 35 small specialist banks spanning retail/consumer-focused institutions (including subprime-focused banks), SME and commercial lenders, merchant banks, asset managers, real estate-focused banks, private banks and wealth managers, supermarket and automobile company-owned banks, banks owned by charities and religious organizations;
- A group of 49 predominantly small and mid-scale regionally focused UK building societies and credit unions (although the largest building society, Nationwide, is one of the UK’s largest financial institutions);
- 180-plus foreign banks from over 50 countries operating in the UK via subsidiaries, branches or representative offices.
- Hundreds of electronic money institutions (EMIs), payment institutions (PIs) and finance companies not licensed as banks but offering lending or payment-related services. Revolut, which claims 35 million-plus personal users and 500,000-plus business users, does not yet have a UK banking licence (not for lack of trying). It has a banking licence in Lithuania and operates in the UK as an EMI.
Lively investor interest
Into this busy landscape, around 35 licensed UK neobanks are attempting to claw their way into acceptance and profitability. They include retail and consumer-led banks, SME-focused banks, property specialists, clearing banks as well as fintechs operating banking-as-a-service and open banking-type models.
One element that never ceases to amaze in this context is the continuing strong investor interest in developing banking brands in the UK. A broad base of UK and international market participants – venture capital and private equity firms, hedge funds, wealthy entrepreneurs, institutional investors, international banks, sovereign wealth funds and regional authorities – has invested billions in UK bank equity and subordinated capital in this recent phase of new licences.
And they continue to do so as new banks come forward. Scottish SME lender Alba Bank and banking-as-a-service provider Griffin Bank were both awarded banking licences (authorized with restrictions) earlier this year, while commercial real estate specialist Ashman Finance plans to re-submit its banking licence request imminently (to become Ashman Bank).
The neobanking scene brought a real rarity in July 2023: a UK bank initial public offering, as Africa-focused investment firm Helios Investment Partners part-exited its stake in Crown Agents Bank (CAB) which it had acquired in 2016, in an oversubscribed £291 million all-secondary London IPO, meaning the bank raised no money; proceeds to Helios came from new institutional investors. CAB is a digital transaction bank providing payments, trade finance, FX and investment management to frontier and emerging markets.
Atom Bank, backed by Spanish lender BBVA and hedge fund Toscafund, had planned to go public last year but pushed the date back to 2024-25 owing to volatile market conditions.
M&A intrigue
BC Partners and Pollen Street Capital were also unable to exit their investment in Shawbrook Bank in 2022 as planned because they were reportedly unable to get the £2 billion exit price they were seeking. The private equity duo had led a consortium that acquired the specialized property and business lender in 2017, taking it private and delisting it from the London Stock Exchange.
Their Plan B is to push for banking consolidation instead, adding to some decent UK bank M&A intrigue. Shawbook reportedly extended takeover offers to both The Co-Operative Bank and Metro Bank (the latter also received bid interest from private equity behemoth Carlyle a couple of years back).
Pollen Street Capital also backs Tandem Bank, which acquired and renamed Harrods Bank, formerly owned by the upscale retailer. Co-Operative Bank is in play. The board of the unsettled bank hired advisers in the wake of the SVB collapse to explore options, including a sale. As well as Shawbrook, potential bidders reportedly included specialist retail lenders Aldermore Bank, OneSavings Bank, and Paragon Bank.
Earlier this year, Better.org, Vishal Garg’s US digital home ownership platform that recently went public via a US Spac (special purpose acquisition company) listing, acquired Birmingham Bank. The UK bank sits alongside UK mortgage adviser Better.co.uk and mortgage lender Better Homeownership with a plan to scale UK residential mortgage lending. Birmingham Bank is the former BIRA Bank, run by the British Independent Retailers Association until its previous acquisition by UK entrepreneur Lee Bushell in 2021.
Meanwhile, Singapore-based iFast Corp acquired Bahrain Financing Company’s UK bank BFC Bank in 2022 and rebranded it iFast Global Bank, while Allica Bank is new name for the former Civilised Bank.
Setbacks
For all of the in-process build-outs, some have not been able to go the distance. Bank North was wound down in 2022 after failing to raise a new funding round. The fintech-enabled SME-focused neobank received its UK banking licence 2021. One of its backers was Estonian banking group LHV, which secured its own UK banking licence in May 2023 and acquired Bank North’s lending business.
Digital bank Masthaven Bank said, also in 2022, that it will withdraw from the UK banking market by the end of this year because it said it had been unable to secure the significant commitment of long-term capital necessary to grow the bank while serving customers efficiently and effectively. Masthaven acquired its banking licence in 2016. It sold a £500 million mortgage book to Starling Bank, is allowing short-term bridging loans to run-off, and will return savings and customer deposits on or before maturity dates.
PCF Bank announced its withdrawal from the UK banking market in 2022 as it, too, was unable to raise the significant amount of growth capital it required. The board had sought a merger with another bank and received an offer from the J.C. Flowers-backed Castle Trust Bank but this was withdrawn. According to the Bank of England’s list of new banks authorized since 2013, First Trust Global Bank, GH Bank and Revverbank are no longer authorized, although their current status is unclear.
Which just goes to prove that, as in any disruptive environment, some pretenders will succeed and others will fail.
