Previous efforts of fintechs buying banks are giving dealmakers greater clarity into how to navigate the regulatory approval process and whether the combinations are suitable for the parties involved.

Bank regulators remain concerned about the potential risks that financial technology companies can pose when they increase their exposure to banking, and deals are not just getting a rubber stamp of approval. A prolonged approval process led to BM Technologies Inc. reconsidering its strategy and then terminating its deal for First Sound Bank in December 2022, a little more than a year after the companies announced the agreement.

David Sandler, co-head of financial services investment banking at Piper Sandler, said regulators are focused "on who should be and who shouldn't be a bank." But those in the industry are gaining a better understanding of what regulators are seeking.

"These companies are being better advised, in my opinion, about what's approvable and what they can get done and in what period of time," Sandler said in an interview.

Several recent regulatory approvals of fintechs buying banks proved that it is feasible to execute such deals quickly. Notably, fintech investor group Luna Parent Inc.'s acquisition of Kansas City, Mo.-based bank Lead Financial Group Inc. took the least number of days to complete among all select bank deals closed since 2021, according to an analysis by S&P Global Market Intelligence. The deal was announced May 16, 2022, approved by regulators in June, and closed Aug. 1, 2022. It was an uncommon timeline in the current environment when bank deal closings are often prolonged.

Regarding its proposed acquisition of National Bank of New York City, business development company Newtek Business Services Corp. received approval from the Federal Reserve in November 2022 and conditional approval from the Office of the Comptroller of the Currency in December.

"I feel very strongly that a nonbank or an investor group that is prepared to embrace compliance will be able to get the approval to be a bank. They just need to do it the right way and truly embrace compliance and regulation," Sandler said.

A cost-benefit analysis

But regulatory approval is not the only factor that could scuttle a fintech acquisition of a bank. In July 2022, fintech group American Challenger Development Corp. received conditional approval from the OCC for its proposed acquisition of Patriot National Bancorp Inc. although the parties ended up terminating the deal due to disputes over a loan sale contract with Credit Suisse.

BM Technologies, or BMTX, now believes that working with a sponsor bank is the best way to maximize the value of its serviced deposits, the company said in the news release announcing the termination of the First Sound deal. BMTX noted that it signed a letter of intent with a new sponsor bank that is bank exempted from the Durbin amendment, meaning the undisclosed bank has under $10 billion in total assets and is eligible to make higher interchange fees from processing debit card payments. BMTX's sponsor bank, Customers Bank, passed the $10 billion threshold in 2019.

Still, many see the economic benefit of owning a charter also holds true for many fintechs and would continue to drive fintechs' interest in buying a bank. Many fintech business models require access to a bank license, and owning a charter helps fintechs to reduce the expenses paid to sponsor banks and to control their long-term strategy, said Jonah Crane, partner at advisory and investment firm Klaros Group.

"I think there continues to be interest among fintechs in acquiring banks," Crane said. "You can get a partner or you can get a charter, and I think for many, the charter will make sense."

Different drivers

The appeal of banking-as-a-service has been a theme in recent fintechs' acquisitions of banks. Those fintech-turned-banks aim to leverage the bank acquiree to attract fintech customers by combining the bank's balance sheet and access to the Federal Reserve's payment rails with the fintech's technology development and commercial skills.

It is a different growth path from using the bank unit to attract depositors and borrowers. SoFi Technologies Inc. and LendingClub Corp., for instance, are actively growing the consumer deposit base of their bank subsidiaries following their bank acquisitions.

Buying a bank to turn it into a backbone of fintech partnerships can hardly be a shortcut compared to forming such a bank via a de novo application, said Clifford Stanford, a partner at Alston & Bird. Regulators typically require the fintech buyer to lay out the business plan for their review and showcase the likelihood of success.

"You still got to jump through those same hoops because the regulators see that almost as a de novo itself," Stanford said.

Lead Bank, a unit of Lead Financial Group, is ramping up its banking-as-a-service programs backing fintechs under new owner Luna Parent, according to press releases. Luna Parent is a shell company led by Jacqueline Reses, a former executive at Square Capital, which is the small business lending unit of Block Inc. under an Industrial Loan Company bank charter.

Banking-as-a-service provider Column NA was also formed this way, through the acquisition of Northern California National Bank by an investor group led by Plaid co-founder William Hockey and his wife, Annie Robertson Hockey.

To think out profitability, compliance

Deals can face roadblocks to approval if regulators are concerned about the soundness of the fintech buyer's business model, especially for those that anchor their business on one primary product or customer base, Crane noted.

"That's something that regulators have historically viewed as very risky," Crane said. To increase the chance of approval, the parties should think through ways to diversify the business lines as a combined entity, Crane added.

A solid framework to ensure regulatory compliance is another vital factor, not only for the merger review but also to help convince a bank seller to join forces, Sandler noted.

"What you don't want to do is to put a nonbank in that business or tie up capital for investors; get the deal done; and then to have the regulators say you're not doing it," Sandler said. "It's a huge waste of time, effort and energy."