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Legal and regulatory issues

The challenge faced by all those in the Fintech market is how to capture innovation while preserving the stability of the banking network.

Facebook’s mantra, “Move fast and break things”, is a great one for many emerging companies – but perhaps more problematic for companies operating in highly regulated areas such as financial services. Within the Allen & Overy team we have the unique combination of resources to help market participants successfully navigate this path.

​Regulatory requirements

Regulatory compliance is fundamentally important to Fintech companies, and can be a key competitive advantage, but navigating the relevant regulatory regimes is a significant headache for many. Most Fintech companies will have undertaken a detailed analysis of their business model against applicable financial regulation to fully understand what can be achieved without becoming a regulated entity, or, conversely, to help them seek appropriate licences or approvals. However attempts to map regulation can be complicated by the fact that it can be very hard to assess whether innovative new products fall within the regulatory regimes, and if they do,  how the various requirements might apply. This problem is compounded for Fintechs scaling internationally, where different regulatory approaches in other jurisdictions can create additional hurdles (albeit the UK’s “Fintech Bridges” initiative is one example of attempts to mitigate such problems). Regulatory uncertainty makes business planning very difficult, and indeed the financial and compliance cost of regulation has been sufficient to see some new companies exit the market. A clear-sighted assessment of regulatory risk is fundamental to Fintech success.

Dealing with data

Data is central to the business models of many Fintechs, whether they are focusing on retail or investment banking. Companies that are able to derive business insights from financial services data can spot and maximise new opportunities and reduce risk.  Unlocking this value is however dependent on far more than clever algorithms and exponential processing power. It is also essential that companies in this space build and maintain the trust of consumers and other stakeholders. As a result, concepts of security and transparency are essential industry principles in the Fintech sector – for both reputational and compliance reasons. There is significant regulatory activity in this area. Aside from the obvious legislative changes affecting data handling and cybersecurity, such as the implementation of the new General Data Protection Regulation in Europe,  a shift to open banking is a further complication on the data horizon.  The new European Payment Services Directive (PSD2), the UK’s recent retail banking market investigation from the Competition and Markets Authority and the promotion of data sharing by the Monetary Authority of Singapore are all examples of how regulators across the globe are focusing on data as a way to bring change to the traditional vertically integrated banking model. Such changes require considerable sophistication from data owners and processors. In particular, there is a tension between the concept of open innovation as a route to bringing new players into the market, and the appetite for more control and ownership over data (as a valuable business asset). Intellectual property concerns, as well as privacy considerations, loom large here. The growth of new data handling models may also foster a “co-creation” environment in financial services where partnerships (e.g. JVs, strategic alliances etc.) might be the optimum way to bring diverse parties together.

Protecting innovation

The development of innovative software and technology by Fintech companies has been critical to the rapid expansion in this sector. Legal protection for such innovation is integral to success in the Fintech sector, but the availability of protection varies from jurisdiction to jurisdiction. While business methods were previously thought to be patentable in the U.S. this has become increasingly difficult through recent case law. In Europe, meanwhile, they are per se unpatentable unless they can be shown to solve a ‘technical problem’. Given these difficulties, Fintech companies must consider carefully the availability of other IP rights, such as copyright and trade secrets, as well as protecting themselves through contractual arrangements with their customers, employees, suppliers and/or other third parties. A strategic challenge in areas such as blockchain is how to balance the protection of ideas and technology with the desire to encourage industry-wide adoption. Where there may be so-called “network effects” from new technology, the timing for seeking to register and/or enforce intellectual property rights is critical. Done too soon and the risk is that innovation is stifled, left too late and it is possible to be locked out of the market by peers and competitors. The importance of intellectual property to Fintech companies may also make them a target for patent trolls, which may cause business disruption unless the Fintech enters into licensing  discussions or is prepared to fight a claim in the courts.

Collaborating, investing and acquiring to bring innovation into the business

Many established financial institutions recognise the benefit that financial innovators are bringing to the market. Frequently financial institutions look to partner with emerging technology players to speed up the innovation cycle. A fundamental question is what form that collaboration might take. The heat in the Fintech market is certainly driving M&A as companies buy in technology and skills or combine with peers to build scale, but commercial collaborations are also a popular route to achieving these goals. Equally, corporate venturing may offer a way to connect with early-stage companies to assess potential technologies, exert a degree of influence on the future direction of the emerging company and be in a good position to acquire or license technology if it looks to be shaping up well. To make a success out of any of these transactions, both parties need to determine how to accommodate the objectives and needs of what may typically be two very different organisations. This relationship dynamic impacts deal negotiation, the due diligence process (including the all-important regulatory due diligence),  and how the commercial aspects of the deal are structured.

​Sources of funding

The environment for growth companies is changing. A rising number of private companies (and particularly “unicorns” – those with valuations of over USD1 billion) have successfully completed either more private funding rounds or larger private funding rounds (or both). This enables these companies to fund direct growth rather than capital investment from injections of cash from private investors. The group of investors participating in late stage private company rounds has also expanded. This area is no longer solely the preserve of traditional venture capitalists; we are seeing sovereign wealth funds, asset managers and hedge funds, as well as corporate venture funds, participating in this section of the market. These investors are joining the market for reasons that range from straightforward portfolio diversification through to opportunities to spot and nurture emerging talent and innovation to build research pipelines. With more companies staying private longer, and with a wider range of investors operating in this segment of the market, how do companies decide which funding option is right for them? One key criteria is aligning the investor’s timetable for exit with the company’s growth plans. Another consideration will be planning for a liquidity event in the future – whatever funding options are considered now must not have the effect of making it harder to, for example, gain access to the public markets at a later date.


“Allen & Overy has a sophisticated FinTech group capable of working flexibly both with startups and major financial institutions looking to incorporate innovative technologies in their businesses.”
Chambers Professional Advisers: Fintech 2018


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