Hokodo's 2023 predictions: Embedded finance will rip up the rule book

Even if you don’t know about “embedded finance”, you’ll almost certainly have used it. It’s as simple as clicking “Pay” on Uber, Apple, or Amazon. Every time you buy something without leaving the website or app, that’s embedded finance. If you effortlessly take out insurance at the checkout or opt for Buy Now, Pay Later (BNPL), that’s embedded finance too. It’s a financial product that’s woven so seamlessly into the customer journey, you hardly even realise it’s there.

Over the pandemic, embedded finance became mainstream. Three in five Brits have already used it over the past twelve months, and for Gen-Zs, that figure rises to four in five. But it’s about to get even bigger.

For 2023 and beyond, I predict embedded finance will reshape markets, levelling the field for smaller players. For businesses that don’t want to get left behind, it’s time to run and take a leap. The train is leaving the station.

1 | Embedded finance will get bigger, better and faster

The internet economy is booming. The value of global e-commerce tripled in the seven years leading up to 2021, and it continues to grow. Embedded finance will only serve to hasten this progress. Today, increasing numbers of people don’t just prefer to have an effortless online payment option, they expect it.

The figures speak for themselves. By 2028, BNPL transaction volumes in Europe will soar by 38.9%. Meanwhile in the US, embedded finance revenues are expected to jump from $2.6 trillion in 2021 to $7 trillion in 2026.

As platforms collect more data about their customers, and adoption of application programming interfaces (APIs) increases, we can expect embedded finance and e-commerce to become even more efficient. Payment options and product recommendations will become increasingly tailored. Credit checks will get even faster – possibly to just fractions of a second. Customers may forget they’re dealing with banks at the checkout at all.

2 | Embedded finance will merge into new territories

This movement will expand into new areas. Many experts are referring to the upgraded model of embedded finance as the “second wave”. In 2023 we can expect to see a new suite of products hit our checkouts – especially for businesses.

Some of these products include business “bolt-ons” like insurance, accounting, or logistical services. As a small business, you could order materials, and with just a couple of clicks also arrange for a warehouse space to store them, insurance for their safe arrival and support for the associated taxes. This will be transformative. It gives time-poor business owners the option of minimising work, stress and costs if products get bundled. As regtech gathers pace, we could expect to find legal services as an optional bolt-on too.

We’re already seeing traces of this in the business-to-consumer (B2C) space. Many airlines offer optional travel insurance, car hire and hotel reservations at the checkout. Imagine this level of convenience for business-to-business (B2B) operations, and consider the influence this will give the shopping platform over incumbent financial services.

3 | Some traditional financial services may get excluded

As B2B customers become more accustomed to paying effortlessly at the checkout, they will interact with traditional financial services less. Instead of going to the bank to ask for a loan to buy materials, buyers can simply pick up trade credit at the checkout. They don’t even need a physical bank card to do this. This could leave some incumbents on the wayside.

In many cases, banks will be two steps away from their customers. Customers deal directly with the e-commerce platform, and indirectly with the embedded finance enablers. These are the new digital brokers who provide a technological bridge between the bank’s balance sheet and the platform.

One study by Accenture found that traditional banks who do nothing stand to lose $32 billion globally by 2025. By contrast, banks who take part in embedded finance could reap $92 billion.

To avoid getting shoved out of the process altogether, traditional financial services may need a mindset shift. Instead of pushing products and marketing through customer’s letter boxes and trying to catch them directly, banks should aim to insert themselves into the customer journey. Embedded finance is the future, and early adopters are much more likely to be successful than those who jump on the trend 2 or 3 years down the line.

4 | Embedded finance will level the field for smaller businesses

Smaller businesses are at a disadvantage when it comes to cash flow. Unlike bigger corporates, they must normally pay for materials up front. But when it comes to selling their products to other businesses, small and medium sized enterprises (SMEs) often need to offer 30, 60 or 90-day terms to stay competitive. This leaves them pinched in the middle, frozen from a lack of cash flow.

What’s more, 50% of all invoices get paid late, leaving small businesses short on money a lot of the time. Embedded finance - and particularly B2B BNPL or digital trade credit – will revolutionise this outdated process.

Services like digital trade credit allow merchants to get paid instantly, while the buyers still have 30, 60 or 90 days to pay. It’s the best of both worlds, and it’s empowering for small businesses. With instant cash flow, they can expand their operations, product lines and marketing efforts. Plus, with longer payment terms, they’ll benefit from enhanced flexibility too. Embedded finance could be a great leveller for small businesses.

Over the next year, I expect to see products like digital trade credit and B2B BNPL ramp up for businesses dramatically. One report by Bain predicts a five-fold increase over the next five years. I’d go even further and say that in the UK, with the cost-of-living crisis, rising inflation and high digital usage, interest free lending products will spread harder and faster than ever before over the next twelve months.

5 | Big players will move embedded finance in-house

This year, some large online merchants will try to create and manage embedded finance operations in-house. Instead of outsourcing, they may build the APIs and technology themselves. In rare cases, they may go through the laborious task of applying for a banking licence. 

Google, for example, has been steadily collecting payment and banking licences from different regions since 2019. In 2021, Google Pay partnered with supermarket giants Safeway and Target to deliver embedded finance options to customers. Likewise, Uber, Apple and Faire.com have all created their own in-house financial products and embedded finance technology.

With highly qualified tech experts and deep pockets, this approach can be lucrative for the largest tech giants. However, it can be a risky distraction. With risks around compliance, operations, reputation, credit and interest rates, entering financial services is not like entering other industries. Merchants will need to adhere to minimum capital requirements and deal with financial volatility.

By choosing not to partner with existing embedded finance providers, merchants may erode their profitability. Instead of 25%+ return on equity, they might be looking at 12%. Therefore, I expect only a handful of the biggest players to undertake such a move.

Be prepared...

I predict that 2023 will be the last window of opportunity for banks to join the party and make the most of embedded finance. Those that form alliances with the right platforms and enablers will help to future-proof their company. But those that don’t could get left behind.

It’s finally time to rip up the rulebook and create financial products around SMEs. Embedded finance will be the key that unlocks this much-needed change.

Discover predictions from other members of the Hokodo team in our brand new ebook.