The revolution in financial services (interview)
This is a translation of an interview published on Morocco's leading financial news outlet FLM.MA. You can find the original article in French here.
- Can you tell us more about your company and your startup selection criteria?
Schema Capital is a venture capital management company specialised in what we call "deep fintech", i.e. all technologies related to the infrastructure of the financial system.
It is clear that the financial sector is undergoing an unprecedented transformation since 2008. The first startups have mainly tackled the modernization of consumer services (neo-banks, neo-insurers, payments, trading) or filling the financing gap left by banks (private financing based on data analysis, crowdfunding, loans between individuals, etc.).
More recently, the maturation of emerging technologies such as blockchain or artificial intelligence is leading to a true revolution in the financial services infrastructure and threatens all existing systems, particularly in the field of payments, of the issuance and management of private (and to a lesser extent public) financial securities, of back and middle office operations, of financing and of derivatives, to name but a few.
Although the foundation for these new technologies has not yet been fully built, new ecosystems are already being created and starting to merge into traditional financial services.
However, especially in Europe, the available capital to support these new initiatives is siloed with, on the one hand, traditional funds which rarely venture into those emerging technologies and, on the other hand, specialized funds that are not interested in traditional finance.
We aim to bridge this gap by financing young companies dedicated to modernizing the current financial infrastructure with these new technologies. In addition, we mainly invest in pre-seed, very early in the life of these companies, where the need for support (financial and advisory) is more pressing.
- We know that you are a blockchain specialist. Can you tell us more about the benefits of this technology compared to traditional digital solutions?
The financial system as we know it has been built around centralization, necessary for the needs of their time. In antiquity, states centralized currencies to simplify trade and from the 12th century onward banks centralized deposits to secure merchants' goods. Finance has evolved since then, but the principles have remained the same: depositaries and clearing houses ensure the security of our assets and limit fraud.
Contrary to popular belief, financial institutions are highly innovative, and they spearheaded the digitalization of society during the second half of the 20th century and the beginning of this century, from the widespread use of ATMs at the end of the 1960s to the implementation of an entirely digital infrastructure allowing algorithms to place buy and sell orders on global markets 24 hours a day, seven days a week. After 2008, fintech startups (young companies developing technologies dedicated to the financial industry) took over financial innovation but they are still building solutions based on the historical and centralized financial infrastructure.
The blockchain has been designed on a radically different model, allowing to transfer value without intermediaries while eradicating the possibility of fraud. The “books” are simultaneously kept by several agents whose honesty is ensured by mechanisms inspired by game theory. This decentralization ensures the immutability and transparency of these “books”, a key concept for the application of the technology in financial services.
The blockchain allows several financial institutions (who do not fully trust each other) to pool resources to share information (without necessarily revealing it to all the agents in the network), deemed immutable, and thus eliminate all their operations of reconciliation and control, which today cost them billions of dollars. It is no longer a question of cost optimization, but rather of cost elimination. It should be noted that this type of application is extremely recent: R3, the leading provider of blockchain technology for financial institutions, did not release the stable version of its product until 2018.
In addition, the immutable property of the blockchain allows, for the first time, to represent property titles (and their associated value) without any central authority. This makes it possible to digitise shares of unlisted companies holding any financial asset and to distribute them freely and simply on a global scale. As these digital shares are programmable, KYC and AML rules can be automated and require no intervention after the parties have been validated at least once.
Dedicated exchanges for digital securities have already been created and traditional exchanges such as Euronext, Deutsche Börse or SIX have invested to prepare for the rise in trading of these securities, whose trading volumes could potentially reach or even exceed those of crypto currencies.
Finally, the blockchain has paved the way for totally new financial creativity: a few lines of code are enough to create "plain vanilla" financial products or derivatives whose terms regarding their issuance, yield or disposal are algorithmically fixed in advance. This is "Decentralized Finance" or DeFi. In April 2020, the monetary value invested in these products amounted to approximately $600 million. Only a few days ago, these financial products represented $43 billion, suggesting a strong development of this type of asset.
- Which countries are the most advanced in this technology?
By far, the United States and China.
The United States, because Bitcoin has, as early as 2013, attracted the attention of several financiers who have created dedicated investment funds. These funds have successively participated in the development of post-Bitcoin cryptocurrencies and then in the development of decentralized application ecosystems such as Ethereum.
China, because the country's manufacturers of Bitcoin mining (the process of validating network transactions) equipment were able to take the lead over their international competitors, leading to an interest from the Chinese population whose consumption habits for financial products are technology oriented. Secondly because, after banning cryptocurrencies in 2017, the Chinese state has made the blockchain a national innovation priority. Thus, in 2019 and 2020, China was the country with the most patents in the world concerning the blockchain.
- Your company has an advisory component, can you tell us more?
We mainly work with very young companies, or even with entrepreneurs in the development phase of their idea. Our areas of intervention include operational strategy, product design and development, business development and fundraising. In some cases we assist these companies on a long-term basis as "Decentralized CFO" until the hire of a full time CFO is required.
Our advisory activity is an integral part of our investment and portfolio management process to maximize the success of our portfolio companies.
- Coming back to new technologies in general, can unicorns emerge outside of the USA and China?
First of all, it is necessary to mention Israel, which with its 45 unicorns (and counting) is the country that counts the greatest number of unicorns per capita in the world. This is due to the peculiar situation of this isolated country of the Middle East where technology is driven at the highest level by its essential needs in agriculture, energy and security. Like the Silicon Valley of the 1960s, which experienced a technological explosion thanks to US Defense contracts, it was the Israeli government that spurred the country's technological revolution in the early 2000s, creating an enrichment of the entrepreneurial ecosystem leading to a virtuous circle as Israeli companies started counting successes.
It is also worth mentioning the country's strong ties with the United States, thanks to which a classic modus operandi specific to Israeli entrepreneurs was formed, consisting of creating a company in Israel and basing its R&D there, obtaining an initial market validation and then transferring sales teams to the United States to attack the market with the highest GDP in the world and its 330 million consumers.
Europe still suffers from its reputation of not knowing how to create unicorns, due to the lack of outstanding exits emanating from the old continent. Contrary to the United States, where venture capital never really died out after the trauma of 2001 and started to grow strongly again from 2009, European venture capital only really started up again from 2013 onwards.
Given that the average age of a company when it exits is 8 years old and in the context of abundant capital leading to "mega-rounds" (more than one hundred million dollars) delaying the need for a sale or an IPO, it is still too early in the European cycle to draw real conclusions. On paper, Europe has many unicorns (including many fintech companies) and the excellent performance that some European funds recently unveiled augurs a powerful ecosystem and a bright future.
- To conclude, why would a Moroccan investor invest through venture capital funds in international tech startups?
The foundation of the digital world was built during the first decade of the 21st century. During the second decade, driven by new means of communication, digital innovation accelerated, democratized and extended to all areas of society (for example, fintech was not really born until 2013).
I can't imagine a future other than one in which the scope of technology is growing exponentially. Investing in venture capital not only contributes to social progress but also provides a unique financial opportunity.
Moreover, venture capital funds provide privileged access to numerous opportunities of cutting-edge technology transfer while benefiting from mitigated financial risk thanks to portfolio distribution and the manager's expertise.
About Schema Capital:
Schema Capital is a venture capital investment and advisory company dedicated to supporting European fintech founders from inception to seed.
We focus on “deep fintech”, where emerging technologies (blockchain, AI, IoT, quantum) are revolutionising the infrastructure of financial services and enabling entirely novel ways of creating and consuming financial products and services.
We also run The Drawing Board, a rolling advisory programme destined to help entrepreneurs hit the ground running and raise an institutional seed round.
The programme offers hands-on assistance with business strategy, product design and development, business development, investor documentation, pitch preparation and all things finance until a CFO steps in. The Drawing Board is open to Fintech startups only.