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Nubank’s Velez: Let the best product win
BY ROB DWYER
January 25, 2021
Nubank is the world’s most valuable fintech in the digital banking space – worth over $10 billion. In his first interview this year, chief executive and co-founder David Velez explains why he’s in no rush to IPO and why he would rather focus on the huge opportunity left in Brazil and elsewhere in the region.
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Over the last 10 years the question most often posed about the growing number of fintech unicorns emerging around the world is whether their businesses – the vast majority of which were launched after the global financial crisis of 2007/2008 – could survive a global downturn.
It’s not a question that ever challenged David Velez, chief executive of Nubank, the Brazilian digital bank that is valued at more than $10 billion.
“We’ve only seen bad times – it’s the only times we know!” he says, contrasting the economic environment of Brazil with the benign economies in which similar digital finance companies grew in Europe, Asia and North America. “We launched in 2013 just as the country went into its worst recession in history.”
Brazil’s economy subsequently contracted by eight percentage points and GDP is lower today than it was when the bank launched.
“We were getting ready to see the good times in 2020 – and then the pandemic hit,” he adds.
For us it’s about maintaining focus and doing a few things very well
Despite the pandemic sending economic growth in Brazil negative once more, it has inarguably been good for Nubank. Online credit card payments have soared, leading the bank to hit a level in April 2020 that it had projected to reach in 2023. However, the biggest factor has been the fuel it has given to Nubank’s strategy to expand out of its core credit card business.
The bank hasn’t released its second half 2020 numbers yet – no publication date has been set – but Velez gave Euromoney some data points that show how the potent mixture of government support payments (which drove 500,000 new client accounts alone) and the closure of physical branches, which drove digital banking adoption, have boosted the bank’s recent growth. Throw in a central bank driving through a fintech-friendly regulatory agenda and the result is simple: growth.
“The infrastructure [put in place by the central bank] put fuel on the fire and we have seen significant growth – from around 18 million clients a year ago to around 33 million today – so it’s been a real acceleration in 2020 and especially in payments and digital accounts,” says Velez, who reckons the bank is adding more than 40,000 new customers every day.
“The government’s payments to the unemployed has also led a lot of people who were previously unbanked to open an account with a fintech to receive the government subsidy directly. So the acceleration in the banking of the unbanked is another trend.”
Velez says that Brazil has an unbanked population of around 60 million and in Latin America “it is close to 300 million.”
Another hugely important change during the pandemic has been the increase in the number of clients using the bank as their primary account.
“That was one of the big surprises,” says Velez. “When the pandemic came in March, one of the serious questions we had was what was going to happen to deposits – were people going to withdraw their money and go to the established banks that were seen as safer?”
Velez said this potential flight to quality was a new test for Nubank but one it more than just passed. He says that Nubank saw “an avalanche of deposits, worth tens of billions of reais during 2020 that came from the big banks.”
He adds these flows came mainly from the private-sector banks, with the publicly controlled banks (Caixa and Banco do Brasil) responsible for “around just R$400 million”.
“It was a very large amount of money and it shows how much people are trusting Nubank to be their primary bank,” he claims. Although the bank doesn’t disclose how many of its customers use it as its primary account, in December the central bank released PIX, its free and instant payments system, and Nubank won the battle for client registrations. It won nearly a quarter of all PIX registrations – a highly significant result according to XP Inc’s financial analyst Marcel Campos. “Market participants see [PIX registrations] as a proxy to where clients will establish their primary account, make transactions and maintain a relationship,” he says.
Velez says he was especially delighted by the bank’s leading market share in PIX. “We are very excited about that metric – we think it’s the future of payments in Brazil. It’s a sign of how great an experience we have been able to produce for customers and it generates great engagement.”
A research report from UBS BB in November 2020 also found that 7% of Brazilians reported that Nubank was their primary account – not far behind the market share reported for the incumbents: Santander 9%, Bradesco 11%, Banco do Brasil 12% and Itaú 13%.
A good 2020
The 2020 drivers also led to an interesting change in the bank’s demographics. “We saw large growth in customers over 60 years of age, who are not our core millennial customer,” he says. “The over-60s had been resistant to digital banking – they still wanted to go to physical branches – but with Covid the branch was closed. It wasn’t even an option. So we saw 700,000 new accounts from those over 60.”
However, while the environment proved fertile for generating new clients, the socio-economic segments those clients came from – in the midst of a pandemic – surely posed a huge challenge from a credit perspective?
“We had been developing our underwriting capability for seven years, but, though we had seen a recession, we had obviously never seen a pandemic before,” says Velez. “We became even more careful on the credit side at the beginning of the pandemic, but by July or August we started realizing that things were much better [than we feared].
“Our credit losses were a step-function better than anyone else’s in Brazil and we had funding, so we started really accelerating lending towards the end of last year and we continue to accelerate. We really want to increase our credit portfolio, including the customer loan product that has been growing really well.”
Velez points again to the bank’s experience in launching a credit card portfolio amid a severe recession and without access to external data – the country’s positive credit bureau was only established in the middle of 2019.
“We were almost blind when we started underwriting. We were in a recession – we had no historical data, no Fico scores – which meant that we had to be very conservative,” he says.
Velez recruited key underwriting skills with personnel from Capital One in the US. “A lot of our credit DNA is from Capital One. We used a lot of their techniques with the subprime [segment]. We start customers with low limits and credit cards are a great product for capturing a lot of data quickly – we’re effectively dynamically underwriting the customer every single day.”
But if credit is the foundation of the bank, the new story is investing. In the pandemic Nubank noticed that clients’ disposable income was rising as the Brazilian government injected 5% of GDP into the economy in an unprecedented show of fiscal support for an emerging market economy. The number of customers using the bank’s ‘ Guardar Dinheiro ’ (save money) function, launched in May 2019, was growing; up by four percentage points to 18.3% of clients between February and July of last year.
Interestingly, the greatest growth was in the lower income segments, suggesting the higher income clients might be moving their liquidity to more sophisticated investments than the basic Nubank savings product.
This highlighted a gap in Nubank’s offering. Investment in Brazil has been going through a secular shift as record-low base rates have spurred an explosion in risk appetite among all types of investors. For example, the number of individual investors registered with B3, the country’s stock exchange, grew by 94% in 2020 to 3.2 million.
However, despite this rapid increase there is still plenty of space into which Nubank can grow. As Fernando Miranda, president of Easynvest, the digital investment platform that Nubank bought to plug this gap in September last year, points out, this still equates to just 2% of the population. In developed markets more than 50% invest in stocks and in more comparable markets, like Mexico and Chile, the proportions are 10% and 15% respectively.
Fintechs like us have way better products and the banks still have a 90% market share in almost everything
The value of the Easynvest acquisition wasn’t disclosed, but it was a significant deal for Nubank. It immediately added a retail investment platform with over 400 funds and 1.5 million clients (now 1.6 million) and R$20 billion ($3.69 billion) of assets under custody.
“We saw that our customer base was increasingly wanting to invest in fixed income and equities and we didn’t have that optionality,” says Velez. “We have also developed a highly differentiated [proposition] in the mass retail segment and we are able to serve customers at a very, very efficient cost and Easynvest was a way to offer these customers over 400 different funds from day one – and own a position in the market with the leading digital investment platform for retail investors in Brazil.”
Velez says he is “very happy” with the strategic acquisition. He says the bank will maintain strict retail focus, opting out of the war for independent financial adviser (IFA) accounts that is currently waging among Brazil’s digital investment platforms – most notably between XP and BTG Pactual.
“We’ll continue with the direct-to-customer strategy – we think that’s the right model for the large majority of Brazilians,” he says. “If you are in the top 5% of income you want the handholding of an IFA – the economics of that don’t exist for the other 95%.”
He says that he plans to integrate Easynvest into its own app “because there should be a single experience” but that “there is no rush – it will happen over a period of a few years.” He hints at the challenge of integrating an investment platform with hundreds of different types of investment without eroding the user experience for any customer segments. After all, the bank’s focus on maintaining its market leading Net Promoter Score of 87 is sacrosanct.
There is also potential for similar secular growth in the bank’s core business. Brazil’s central bank is intent on bringing in open banking regulations. And whereas some of Nubank’s competitors are lukewarm on the proposal (Banco Inter’s chief executive Joao Vitor Menin recently told Euromoney the costs of compliance would likely outweigh any positive growth effects) Velez is definitely bullish.
“We think it’s going to be great – and the extent of how great is still to be discussed and depends how the regulation ends up,” he says, noting that the five largest banks are trying to make the regulations “less effective because once you have a [combined] market share of 90% there is only downside.”
Velez is, however, optimistic that the central bank will resist pressure to water down the regulation too much, pointing to a raft of fintech-friendly regulation that has been issued in recent years.
“Ultimately in a perfectly competitive market the best product should win. Whoever has the best credit card or the best savings product should have 100% market share,” he theorizes. “That doesn’t happen. Fintechs like us have way better products and the banks still have a 90% market share in almost everything.
“There are a lot of barriers to entry, the banks cross subsidize products and there is a lot of friction and inertia if only one bank has a client’s data. We think open banking has the potential to be the enabler to remove all this inertia and friction and finally let the best product win – which is the best thing for consumers.”
As long as I’m the right person to run the bank, I’ll be here
So, does he think the incumbent banks will still dominate the market and be Nubank’s strongest competitors in five years time?
“I think that partly depends on how much regulation really pushes competition,” he replies, noting that fee revenue of the incumbent banks can amount to 30% of total revenues. These fees will be cannibalized as the fintechs bring them to zero, further complicating the incumbent banks’ high structural cost base. After all, how can they find sufficient efficiencies in their 100,000 plus employee base and network of physical branches to compete with Nubank’s penetration of the country? The bank has customers in 100% of Brazilian municipalities and has no branches, while traditional banks have coverage in about 60%. Nubank also has only 2,700 employees.
“And then it also depends on those banks themselves, their strategies and their ability to execute. There is a big variance between the big banks in terms of how they are transforming themselves. Some still believe the challenge is technological – that they just need a better app or website – while there are those that understand it’s a cultural transformation.”
While Velez doesn’t name which of the existing banks he thinks is best placed to survive the fintech challenge, a UBS report from August 2020 highlighted Itaú as the bank that is “likely to suffer more with the strong expansion of Nubank’s operations.”
Ultimately he says that some of today’s big banks will evolve to remain competitors in five to 10 years’ time, while some will not “be able to make the jump.”
“There will also be new players and we think we will be one of those who takes one of the top spots in the market,” says Velez.
A key determinant in claiming one of the lucrative top spots in Brazil’s 2025 banking industry may boil down to the model. Analysts who spoke to Euromoney for this story have repeatedly fretted about Nubank’s future strategy for adding products, beyond the recent addition of insurance.
“Will they continue to follow Tinkoff [the Russian digital bank] or will they go SuperApp?” was how one analyst summed up the strategic challenge.
While Velez doesn’t see such a stark division in the choice, he also appears to be wary of pivoting directly towards SuperApp territory.
“Actually Tinkoff has done a really good job at starting to build out its ecosystem – it has included a lot of non-financial services,” he says. “I think the value proposition of offering more within the app is a good as long as you can provide a good user experience. But I think for us it’s about maintaining focus and doing a few things very well, and by doing that, we have been able to grow faster than any player in Brazil.”
So should we expect to see gross merchandise volumes in coming reports?
“We haven’t had to go into selling refrigerators in an attempt to try to get the marginal customer. If that ends up being what the customer really wants, then there’s nothing hard in connecting APIs [application programming interfaces] and offering those services. We’re not dogmatic – I don’t think it’s necessarily good or bad – we’ll listen to what the customer wants.”
He adds that he sees potential for using Nubank’s customer payment data to better price consumer finance with ecommerce companies.
Profit versus growth
With so much space to grow into – the bank has recently opened credit cards operations in Mexico (2019) and Colombia (2020) – surely the emphasis is still on growth rather than profitability. (Around 85% of employees were given a raise last year, hardly the action of a bank desperately seeking profitability).
However, Velez argues it’s not a simple tradeoff. “I guess our income statement doesn’t really reflect this, but from a cash flow perspective we have already been generating cash since 2019 and when you look at the profitability of our credit card business – it’s very profitable already – and we are reinvesting that into growing our new lines of business.”
He says it’s not even a case of a tradeoff between profitability and growth because recently the growth has been largely profitable. In the first half of 2020 the bank cut its losses to R$95 million, down from R$173 million in the second half of 2019 and R$143 million in the first.
As the bank approaches breakeven, shouldn’t Velez think of listing to avoid becoming one of those rare unicorns that make profits and confuse the fintech valuation models?
Velez concedes that the valuations on offer today are attractive, but he seems uninterested in a floatation. He says when that day comes it will largely be an opportunity for some of its investors to cash out; but there is a very clear sense that he’s not feeling that pressure at the moment.
“I think we’ll do an IPO, but we don’t want to be distracted and we are not going to be rushed into a decision when we’re not ready. If it were up to me we would be private forever!” he says. He adds that while he appreciates the marketing advantages of IPO, for now he’s relieved not to have the distraction of volatile share prices or other issues that come with being a public company.
“For now there is a long line of private investors wanting to invest in Nubank and we don’t need capital. But if a good offer shows up we might take it and that might give us more leeway to keep running the bank as a private entity,” he says.
And there’s a very good reason why Velez isn’t feeling any pressure from investors. He makes a quite stunning prediction about Nubank’s potential profitability when it enters its mature phase. After talking about the coming erosion of the large Brazilian banks’ profitability from their likely current peak of low 20s in terms of return on equity (ROE), he says that Nubank can eclipse that impressive high-water mark.
“I think ROE could ultimately be in the 30s or above,” he says.
“Tinkoff already has had years when its ROE was in the 40s and the 50s, so there’s a real possibility,” he argues. “That level of profitability would be hard in developed markets – in Europe and the US it is very competitive and margins are tiny. But when you look at countries like Brazil and Mexico, the opportunity exists and so there shouldn’t be a problem getting to those levels of ROE.”
If he’s right, then his investors would be foolish to push to sell now. But will Velez be the chief executive to take Nubank to such a heady level of profitability? In 2020, after the bank announced the C-suite hires of David Currie (ex- Barclays and Visa) and Marco Araújo (ex-HSBC), rumours swirled in the market he was preparing to step upstairs to the board and bring in a new chief executive.
“I don’t know where those rumours came from,” he laughs, appearing relaxed and youthful. “I love being chief executive and as long as I’m the right person to run the bank, I’ll be here.”
A Cristina Junqueira também costuma falar bastante isso nas redes sociais dela, que ainda não há pressa para o IPO do Nubank.