The Asia-Pacific region has become a hub for financial technology or fintech, attracting almost $30 billion in investment last year, according to Accenture. And as fintech businesses proliferate, lawyers find their hands full advising these exciting new companies.
Fintech in big business today in Asia. Financial technology companies in the region raised $29.8 billion in 2018, almost twice as much as similar businesses in North America, according to a report by consulting firm Accenture. The report added that about 54 percent of the world's $55.3 billion in fintech investments last year went to the Asia-Pacific with China alone accounting for 46 percent of the total. And while a big chunk of this came from a single fundraising round of $14 billion by Ant Financial, a digital payments arm owned by Alibaba Group, investors are certainly looking to the region as a pioneer in innovative payment services.
According to Mark Parsons, TMT partner and head of Hogan Lovells’ corporate practice in Hong Kong, the boom in fintech in the region is a combination of market factors and regulatory initiatives. “Quite a few governments in the region have embraced fintech as a priority area for technological innovation and economic development,” he says. “This official support has been backed up by regulatory sandbox initiatives and moves to modernise regulation to facilitate fintech. Market factors are, of course, at least as important as the regulatory drivers. The outlook varies from country to country, but there is generally high consumer acceptance of fintech in Asia's increasingly wired, increasingly ‘smart’ economies, providing support for established financial institutions and entrepreneurs alike to bring innovations to market.”
Victor Tse, a counsel with Bird & Bird in Hong Kong says that the rise of Asia as a strategic destination for fintech investment is driven by many factors. “Take, for example, its unique culture,” he says. “A significant portion of Asia's growing population – especially its middle class – have long been used to a mobile, highly-connected and digital way of life, with mobile/electronic devices forming an integral part of their daily lives. The fast pace of life has also set higher customer expectations centred on immediacy, convenience and reliability.”
Then there is a strong demand for innovative financial services in the region. “Asia is home to a number of major international financial centres, including Hong Kong and Singapore,” says Tse. “The large volume of financial transactions carried out in Asia drives and justifies investment into technologies that improve speed, efficiency and security. Also, people in Asia generally have good appetite for trying new innovative services, particularly where this delivers real value or clear efficiencies, which encourages businesses to innovate.” Additionally, he highlights the “fast and efficient way” of doing business in the region. “The main commercial centres in Asia all have legal/financial systems that meet international standards, a reliable tech-savvy workforce, and stable access to capital. Market competition in Asia drives businesses to assess investment opportunities at a rapid pace,” notes Tse.
Alexander Shepherd, a partner at Bird & Bird in Singapore, says that the contrast between richer economies in Asia, such as Singapore, Hong Kong, Japan, Taiwan, Korea, and less rich countries, such as Indonesia, Philippines, Vietnam, Myanmar and Cambodia, in Asia is much starker than in Europe. “Regionally, there are a significant number of countries with a very high proportion of unbanked consumers,” he says. “Accordingly, there is a significant opportunity for Fintech companies to offer payment and e-wallet solutions in the less rich countries and significant incentive to do so given the huge success of Alipay and others in China.”
“The growth of the regional transportation companies, such as Grab and GO-JEK, has enabled them to use their dominance in the transport/delivery market to enter the payments market and seek to be the de facto incumbent payment provider in that country,” he adds.
APPROACHES TO FINTECH REGULATION
It’s impossible to think of the Asia-Pacific as a homogenous bloc, with differences in culture, economic development and styles of government across its various countries, and in the same vein, government approaches to fintech have been disparate. The only commonality is that governments and regulators in Asia all recognise the importance of fintech innovation, and have implemented policies and initiatives to support this, says Tse.
“There are differences in the way fintech is regulated in different Asian jurisdictions,” notes Tse. “The regulators in Hong Kong (Hong Kong Monetary Authority or HKMA) and Singapore (Monetary Authority of Singapore or MAS) adopt a relatively measured approach to regulation, with the chief executive of HKMA noting that ‘the premature and indiscriminate introduction of exhaustive regulations, based on a “zero-risk tolerance” and “no-gaps-allowed” mindset, may hinder the development of fintech.’ There is currently no specific regulatory regime in Hong Kong and Singapore specific to fintech businesses, which instead are governed by the established body of laws on financial services that apply to all financial service providers.”
He says that to encourage fintech experimentation, the HKMA, in September 2016, launched the Fintech Supervisory Sandbox (FSS) that allows banks and their partnering technology firms to conduct pilot trials of fintech initiatives involving a limited number of participating customers without the need to achieve full compliance with the HKMA's supervisory requirements. “The MAS provides a similar sandbox scheme in Singapore. As of the end of January 2019, 43 pilot trials have been allowed under the HKMA's FSS,” notes Tse.
In contrast, Tse says, China takes a more prescriptive approach to fintech regulation. “Firstly, multiple regulators are involved with developing regulations for fintech – including the People's Bank of China (PBOC), China Banking Regulatory Commission (CBRC), China Insurance Regulatory Commission (CIRC), China Securities Regulatory Commission (CSRC), and the Ministry of Industry and Information Technology (MIIT),” he adds. “Since 2015, the Chinese regulators have issued various guiding opinions and regulations on internet financing (for example, online payment/lending, crowdfunding and online sale of funds), peer-to-peer lending, and client verification requirements for online payment systems.”
“The regulatory approach in Hong Kong and Singapore is generally seen as setting relatively lower barriers of entry that, with effective risk control measures (for example, via the FSS), allow and encourage fintech businesses to experiment with new service offerings/concepts,” says Tse.
ROLE OF REGULATORS
The role of regulators in facilitating and promoting fintech activity cannot be understated, says Tse. and Hong Kong is one good example. “In September 2017, the HKMA through its Fintech Facilitation Office (FFO) introduced various initiatives to facilitate fintech development in Hong Kong and lead Hong Kong's transformation into the smart banking era,” he notes.
Tse cites three key initiatives launched in Hong Kong to boost the fintech scene. “Firstly, there was the release in May 2018 of Guidelines on Authorisation of Virtual Banks,” he notes. “A virtual bank is a bank that primarily delivers retail banking services through the internet or other electronic channels instead of physical branches. The HKMA has received 30 applications for a virtual bank licence through this programme and is currently conducting due diligence reviews. The HKMA expects to start granting licences to virtual banks in the first quarter of 2019.”
Secondly, he mentions the release in July 2018 of an Open Application Programming Interface (Open API) framework. “The framework allows third-party service providers to electronically exchange data with banks to obtain information on products/services, apply for banking products (e.g. loans and credit cards), retrieve/update account information, and perform banking transactions for authenticated customers,” says Tse. “Banks will implement the Open API functionality in phases, which will bring more innovative banking services to the public.”
Finally, he notes the launch in September 2018 of the Faster Payment System (FPS) being a round-the-clock service that connects banks and e-wallet operators on the same platform. “It enables the public to transfer funds anytime, anywhere, across different banks (or e-wallets) with funds available almost immediately,” says Tse. “Transfers can be settled in Hong Kong dollars or Chinese yuan. As of the end of January 2019, a total of 23 banks and 10 stored-value facility (or e-wallet) operators have participated in the scheme.”
“These initiatives provide a critical platform from which fintech businesses are encouraged to work with banks to develop new technology-driven service offerings in Hong Kong,” he adds.
Meanwhile, in Singapore, the Intellectual Property Office (IPOS) launched in April 2018 a Fintech Fast Track initiative to expedite the file-to-grant process for fintech patent applications in Singapore to as fast as six months, Tse says. “It will be interesting to see whether the Hong Kong Intellectual Property Department (HKIPD) will introduce similar measures when it launches its new Original Grant Patent system which will allow standard patent applications to be filed directly in Hong Kong.”
OPPORTUNITIES FOR LAW FIRMS
With this amount of activity taking place, not to mention the increasing involvement of regulators in the fintech landscape, law firms see an increasing amount of work stemming from the fintech space. “We have the benefit of advising across the sector, advising leading financial institutions and technology companies on digital financial services, as well as advising earlier stage companies on legal and regulatory aspects of their growth strategies,” says Parsons. “We receive many queries about licensing and regulatory requirements, with banking, securities and payments licences being particularly key.”
He adds that the firm also more broadly advises on compliance with data protection laws and cybersecurity laws as these new companies seek to develop sustainable business models that recognise that data is a valuable asset but also an important responsibility. “A large part of our practice is commercial work as well, dealing with technology acquisition, licensing and development and, increasingly (we are pleased to see) collaboration arrangements between and amongst fintechs, financial institutions and technology companies.”
Tse says he advises fintech companies on a broad range of intellectual property and commercial issues. “In terms of technology trends, there is clear interest in workflow automation, intelligent service centres (for example, using chatbots), data mining (using machine learning/artificial intelligence) and novel applications of distributed ledger technology (blockchain). Fintech firms often begin as start-ups with a very flexible mindset. They know how important it is to define and protect their technical niche and will to invest in intellectual property protection to achieve that. However, less experienced fintech firms (often in their rush to implementation) may overlook basic housekeeping issues – like having proper agreements in place to ensure the company owns the relevant IP, and issues relating to non-disclosure agreements and inadvertent disclosures that may prejudice a later patent filing.”
Fintech firms often develop their technologies upon tools/platform of other technology suppliers, or in collaboration with other parties, says Tse. “Most fintech firms know the importance of conducting proper IP due diligence (or freedom-to-operate review) before devoting significant time and investment into developing a brand or technology that belongs to someone else,” he notes. “We often help fintech firms devise workarounds to avoid such IP traps (which can sometimes lead to an improved solution with new technical advantages). This process is relatively straight-forward if you work with a legal advisor with the right technical background.”
“Fintech services are increasing about capturing and making use of data, which raises obvious issues concerning cybersecurity, data privacy, data ownership, and data transfer requirements,” he adds.
BRIGHT FUTURE
This breakneck development isn’t slowing down anytime soon, say lawyers. Tse of Bird & Bird notes there has been significant growth in fintech patent filings in Asia in recent years, and he expects that trend to continue. “Fintech innovations involving artificial intelligence, biometrics and distributed ledger technology will continue to show promise,” he notes. “The HKMA's Open API, Faster Payment Service and licensing of virtual banks will define the key growth areas in fintech (at least in Hong Kong) in the coming years.”
Parsons of Hogan Lovells agrees, saying that Hong Kong is on the cusp of very significant development, with virtual banking licences expected in the next few months and moves by the banking regulator to encourage financial institutions to open up product and customer data to the wider fintech ecosystem.
Meanwhile, China has seen a maturing of its fintech landscape, with regulatory tightening in key areas such as peer to peer lending, Parsons says. “This still leaves an incredibly vibrant fintech environment with ambitions to globalise. China is becoming increasingly cashless in its urban centres and this model will deepen. Much of fintech innovation is data-driven, and we expect to see the digitalization of financial services taking hold in basic payments functions to spread to other sectors, such as private wealth and commercial banking. The data-intensive aspect of these services is drawing closer attention to data protection and cybersecurity regulations, with lawmakers in China, India, Singapore and Australia adjusting (and continuing to adjust) laws and standards, in part due to innovations seen in the fintech space.”
He highlights that fintech is here to stay and it will only become a more prominent feature of financial services in Asia. “We have seen ambitious moves by financial institutions to reinvent themselves as fully digital offerings, moves by technology companies to leverage their incredible user experiences to deliver new and innovative financial services and the emergence of whole new business models in areas such as distributed ledger technologies and crypto-currencies,” says Parsons. “We continue to see a fairly fragmented landscape across the region and there is great interest in understanding when and where consolidation will start to come. Moves towards standardisation and inter-operability/consistency of regulation are critical on this front. At the same time, moves towards data localisation have a particularly acute impact on pan-regional business models, so there are some regulatory tendencies emerging that complicate the consolidation story.”
In the U.S. fintech firms want to shake up banking
By Pete Schroeder of Reuters
The U.S. Federal Reserve is wary of giving “fintech” firms such as OnDeck Capital or Kabbage access to the country’s financial infrastructure, putting the central bank at odds with other regulators looking to bring them into the fold.
The Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) are exploring granting federal bank-like licenses to tech-driven firms that offer financial services, such as money transfers and lending.
The plan is part of a broader push by President Donald Trump’s administration to boost small businesses and promote job growth.
Federal licenses would allow fintech firms, which currently operate under a patchwork of state rules, to reduce their regulatory costs and expand into new regions and products.
However, fintech firms say they are reluctant to invest heavily in nationwide expansion without access to the payment systems, settlement services, and other Fed tools and the central bank has yet to decide whether to let those lightly-regulated players in.
Many Fed officials fear these firms lack robust risk-management controls and consumer protections that banks have in place.
“They probably do want access to the payments system, but they don’t want the regulation that would come with that access,” St. Louis Fed President James Bullard told Reuters in November. “I am concerned that fintech will be the source of the next crisis,” he added.
Companies such as PayPal and LendingClub have attracted millions of customers by offering greater convenience or better prices than traditional banks. The OCC and the FDIC say such firms can broaden access to financial services because their low-cost models allow them to reach poorly served areas and offer small loans that are uneconomical for bigger banks.
But some fintech firms say they would be reluctant to invest the time and resources in applying for and maintaining the new OCC fintech license unless the Fed gives them access to the payments system, so they will not have to depend on banks to route money for them. Direct access would eliminate bank routing fees, a top-five operating cost for many fintech firms, and would allow them to compete more effectively with traditional lenders.
“It’s hard to know if it’s worthwhile applying if you don’t know what access you’d have to the Fed services,” said Jason Oxman, CEO of the Electronic Transactions Association, which represents fintechs and banks. “It would be helpful for the Fed to clarify.”
Banks are pushing back, arguing fintech firms should access the Fed system only if they comply with the same rules banks face. “You don’t want a new charter that skirts existing rules and regulations and call that innovation,” said Paul Merski, executive vice president for the Independent Community Bankers of America.
Unveiled in July, the OCC special charter allows fintechs to operate nationwide under a single license, provided they satisfy some liquidity, capital and contingency planning requirements.
Currently, state regulators that oversee fintechs focus primarily on consumer protections, such as capping interest rates on lending products, privacy safeguards, and preventing unfair or deceptive practices. Some states may also require firms to comply with anti-money laundering rules, submit business plans or allow onsite examinations.
By comparison, nearly every aspect of banks’ operations is subject to rigorous scrutiny and multiple federal and state laws. These include a host of capital and liquidity requirements, operational risk, cyber risk, vendor risk, anti-money laundering and bank secrecy rules, fair lending and anti-discrimination lending laws.
The OCC fintech charter does not permit companies to collect federally insured deposits, now a precondition for accessing the Fed’s payment system.
To contact the editorial team, please email ALBEditor@thomsonreuters.com.
