Regulations and the Future of Payments in Vietnam

Photo by Edi Kurniawanon Unsplash

People often talk of emerging economies in terms of the number of years they lag behind more mature economies, as if development is linear. Country X’s IT infrastructure is 10 years behind country Y, whose e-commerce adoption rate is 20 years behind country Z. Z offers a glimpse of the future for X and Y, whereas X and Y represent snapshots from Z’s past.

An upshot of this view is the idea that entrepreneurs in emerging markets only need to copy what works in the West and tailor it to their local context. It’s true that many of the macro-trends that have taken off in the developed world have also found traction in developing economies. Tech-enabled aggregators matching supply and demand has become the business model du jour, giving rise to everything from the Amazon of Latin America (MercadoLibre) to the Zappos of Malaysia (Zalora). This “Copy-for-Country” strategy also underpins the success of many global venture firms, the most notable being Rocket Internet.

But the strategy falls through in digital financial services. Fintech business models are often difficult to replicate across borders, because regulatory differences tend to create champions at the national level. It is part of the reason why any holistic comparison of Paypal to WeChat Pay, Adyen to Stripe, or Klarna to Afterpay, would be incomplete without contextual qualifiers and disclaimers about their respective places of origin. It is why Ant Group, the biggest fintech to ever exist, is reduced to no more than a VC outside of China’s borders, silently advancing its strategic interests via investments in startups. It is why most developing countries show similarly strong potential for mobile payments growth, yet find themselves at such different stages of mobile financial inclusion.

Fintech is perhaps more susceptible to regulation than any other consumer sectors. As much as digital challengers like to brand themselves as tech companies, they are usually viewed as financial institutions by regulators, and have to face greater scrutiny than, say, social media platforms. Innovation will always occur in lockstep with regulation. And this makes most predictions about the end state of any particular fintech ecosystem speculative at best.

Vietnam’s payments bubble

For two years in a row, Vietnam has ranked second in ASEAN in fintech funding, pulling in a third of the region’s total investment. The country only trails behind Singapore, a world-class financial hub.

Granted, most of the VC funding was distributed among the two biggest e-wallets in the market (Momo & VNPay), consistent with the power law distribution. But deal count has also been trending up. It feels like not a week goes by without a flurry of headlines about new funding rounds and partnerships, all aimed at winning a piece of the payments pie.

Why is it that Vietnam has been punching above its weight in venture investment? How come investors keep betting on the same digital payments/e-wallet business model, when iterations already exist on the market? Due to network effects, payments is a winner-take-all market, and many of the current startups will realistically die off.

The real reason for this payments bubble probably has more to do with the regulatory environment than anything market-driven. Getting a license as a non-bank payments provider in Vietnam is a notoriously lengthy and bureaucratic process, especially as a foreign company. The Central Bank only issues a handful of new licenses every year, and additional restrictions on eKYC and data reporting are expected to further delay the application process. This means that most startups who do secure a license have a good shot of being acquired down the road, especially by foreign players looking to enter the Vietnam market.

Two examples serve to illustrate this point: Moca (acquired by Grab) and WePay (acquired by Gojek). Neither of these e-wallets had much of a customer base or a competitive advantage. Yet for Grab and Gojek, acquiring them was the quickest and easiest path to begin offering payments in Vietnam, as the two juggernauts race to build Southeast Asia’s next superapp. From the perspective of venture investors, sales and M&As are both considered successful exits. After all, VCs only need one outsized return in a given fund in order to earn their carry.

Early on in the payments shakeout, the regulatory environment is already shaping the sector’s competitive dynamics.

Case Studies from Around the World

For clues on what the next stage of payments evolution could look like in Vietnam, we can look to some of the more mature emerging markets. The following examples illustrate how different regulatory landscapes gave rise to very different outcomes.

First, the elephant in the room: Ant Group. Born into a regulatory vacuum, Ant’s payment platform Alipay was able to corner half of China’s digital payments market before the government established licensing requirements. Ant had made its mark in financial services with the launch of its money market fund Yu’ebao before the authorities even considered regulating non state-owned banks. One of Ant’s greatest ingenuities is its use of consumer data in credit underwriting. Here as well, the group was able to leverage massive pools of alternative data to sell unsecured loans, all while ducking the risk of carrying said loans on its balance sheet. (Ant takes a 30% cut on interests, but it’s the partner banks who provide the credit and bear the risk.) Access to data was probably Ant’s main competitive advantage as it pushed into the full suite of financial services, yet this might not have been the case had regulators acted early on to impose restrictions on data usage and credit risk, which would have been entirely reasonable given the importance of these two factors in maintaining security and stability.

That being said, even Ant itself is careful not to push its luck. In its IPO prospectus, the group admits that 40% of the risks are regulatory. It has undergone a few name changes, from Ant Financial to Ant Technology, and finally to Ant Group, all to avoid the usual scrutiny associated with being a financial institution. With the IPO being delayed and the Chinese central bank’s new digital currency initiative, it’s clear that both Ant’s headwinds and tailwinds can be traced back to Beijing.

On the other end of the spectrum is a government who acted preemptively to prevent a budding monopoly. In India, PayTM was hoping to follow in Ant’s footsteps by burning cash to lock customers into a closed loop payments system. Initially, it gained impressive traction, boasting a 300% year-over-year growth rate and a $5B valuation in the mid-2010s. By the time the Modi administration announced ‘demonetisation’ in fall 2016, victory seemed all but guaranteed for PayTM. In the months that followed, the company saw a 1000% growth in the amount of money added to its e-wallets and nabbed a $1.7B round from Softbank.

But before PayTM could repeat Ant’s success, the government rolled out the Unified Payments Interface (UPI) to mandate interoperability between all bank accounts and e-wallets. Almost overnight, PayTM’s efforts to build a two-sided network of merchants and users went to waste — people could now transact using different payment apps. Its moat as a closed loop system had been lost. In came competitors with built-in distribution, such as Google Pay, Whatsapp Pay, and Walmart-owned PhonePe. And even though the government’s recently announced 30% cap on UPI market share does not apply to PayTM, the company has been fighting an uphill battle to stay relevant as its market share plummeted from 70% in 2016 to 11% in 2020.

And finally, a story about a government who was never in the way. Safaricom was Kenya’s largest mobile network operator when it launched M-Pesa, a mobile money network. The Kenyan government’s 35% stake in Safaricom means that from the outset, M-Pesa was given preferential treatment compared to banks. First, it received a “special license” to operate, which exempted the company from many of the banking sector’s traditional barriers to entry, such as stringent KYC/AML regulations, or minimum capital and branch banking requirements. Then, M-Pesa went on to scale distribution by deploying large networks of agents for cash-in/cash-out, at a time when no bank was allowed to offer banking services via agents. To turbocharge customer adoption, the government started paying out pensions and social welfare grants via M-Pesa. When it came to consumer credit, Safaricom was able to block the development of a national credit and collateral data registry that would have allowed banks and fintech lenders to share data on borrowers. Instead, Safaricom developed its own credit scoring mechanism that allowed it to issue small-ticket loans instantaneously without reporting any data to credit bureaus.

By 2017, a tenth of the revenue generated by the Kenyan government came from Safaricom, both in shareholder profits and in taxes. M-Pesa was hailed as a global success story, a prime example of how it’s possible to both help the poor and churn a profit. By 2020, it has cornered 99% of the Kenyan mobile money market. But had the system been rolled out in a more competitive environment, M-Pesa might not have achieved monopoly status. Case in point: with the exception of limited adoption in Tanzania, M-Pesa hasn’t succeeded in any other market where it was launched, including Egypt, South Africa, Romania, or India.

Three Scenarios for the Future

Predictions are often wrong, but they can be helpful for taking in the big picture. To that end, we can roughly map out three path-dependent scenarios for the future of Vietnam’s digital payments war.

The first scenario is if an eWallet aggregator can achieve viral adoption faster than regulators can respond. This would require the future market leader to onboard a large enough number of merchants and users for network effects to exceed the costs of deployment, then lock out competitors by offering a broad suite of use cases and adjacent financial products. At that point, the path of least resistance for regulators would be to work with the new champion. This is the Ant Playbook. The Vietnamese government hasn’t been particularly fast-moving with new regulations about data sharing, alternative lending, etc., so the players who are currently battling tooth and nail for distribution might be onto something.

The second scenario is when piecemeal innovations occur in lockstep with incremental changes in regulation. Players will need to constantly optimize themselves around incoming regulations, resulting in a constantly evolving competitive landscape. Investors are often hyped on flashy, order-of-magnitude improvements, but a series of incremental innovations, built around deficiencies in the current system, can also bring about transformational results. One good example is Russia’s Tinkoff Bank. Russian law requires that a representative be present in order to accept customer deposits. Tinkoff had no branches, so it started dispatching representatives to customers’ homes or workplace. This strategy worked so well that Tinkoff is now the largest digital bank in the world by number of customers. Vietnamese digital challengers have also come up with creative workarounds to regulatory restrictions. Neobanks, for example, have been partnering with incumbent banks to gain access to capital and a banking license. Incremental improvements is perhaps the least exciting, but the most wild-card scenario for the future of Vietnam’s fintech.

The final scenario is if a sweeping regulatory push prevents the emergence of a payments monopoly. Such reforms could include the establishment of a national payments rail, mandated interoperability, standardized QR codes, transaction pricing limits, and shared credit information systems. Pre-emptive regulations can have three main consequences. One, it will give banks more time to digitize their offerings than startups to get to scale. Two, it will reward plug-and-play solutions that can scale across payment platforms, such as VNG’s eKYC solution or Trusting Social’s credit scoring system. The biggest winner that emerged from India’s UPI push was BharatPE, whose QR code solution could be used across all UPI apps. Three, as payments become commoditized, e-wallet providers will scramble to diversify their offerings. But they will be edged out by consumer platforms who don’t need payments to own data and customer relationships ie. the Facebook Pays and Google Pays of the world.

Given the relatively slow pace of regulatory change, I oscillate between thinking scenario #1 is most likely to happen, and suspecting that the central bank could decide at any moment to make a surprise move that would fundamentally alter the dynamics of competition. Regardless of the regulatory framework, the rules of the game remain the same: acquiring the most amount of customers at the lowest cost, then using payments data to expand into a comprehensive ecosystem, locking out competitors. But the rest is all luck and speculation.

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