In a crowded fintech space, regtech is a particular niche of companies with a massive upside for growth. This small, yet booming, industry generated $5.32 billion in revenue in 2019 and is expected to bring in $21.73 billion by 2027, according to a report by Reports and Data.
Additionally, the potential of the industry can be seen from the acquisition of Cappitech earlier this year by Nasdaq-listed IHS Markit. Though the financials of the deal were not disclosed, MarketScreener reported that the new owner paid an upfront consideration of $50 million for the regtech, with an additional earnout based on a three-year performance period that could come between $50 million and $75 million.
But, what is regtech? And, more importantly, why the industry is booming now?
The regtech companies can be classified into several categories: some are offering to monitor suspicious transactions, while others are focused on smoothening out the details of client identification and verification.
But, all the services fall under one crucial task: to make financial companies compliant with the dynamic regulatory frameworks.
“The boom in the regtech industry has coincided with the significant growth of fintechs, particularly the rise of fintechs in the global retail investments space,” said Sophie Gerber, a Director at Sophie Grace and TRAction Fintech.
Precisely, the growing volume and complexity of the regulations have helped the industry to spawn. But, several other factors pushed this boom like the increase in online financial activity due to the impact of the pandemic and maturity of the market and technology.
“In terms of trade level reporting this market could be considered mature with regards to MiFIR and EMIR, however, the emergence of firms using technology for trade surveillance and monitoring functions has certainly seen an uptick in market entrants,” explained Mark Ellis, MAP Fintech’s Business Development Manager.
“People are looking to automate solutions and ease off on staffing costs, doubly so as a result of Brexit and the Covid pandemic.”
Technology Is the Backbone
Another great factor that helped this new niche to boom is the technological advancements, especially the developments in machine learning and Artificial Intelligence. Most of these companies heavily use such advanced technologies to automate processes.
But, what is the level of human intervention?
“It varies,” said Remonda Kirketerp-Moller, the Founder and CEO of Muinmos, a regtech company. “A good RegTech product gives a complete solution to an entire area of regulation.”
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“The common thread between [technlogy and human intervention] is enabling the compliance officer to focus on the areas of work they want to focus on, instead of drowning in repetitive tasks.”
Despite the embracement of technologies, human involvement in regtech is still surprising. Ellis explained: “When we look into the manual processes of firms today with regards to meeting their regulatory obligations we are constantly surprised about how many are still relying on human intervention.”
How Are Regtechs Regulated?
Well, regtechs are comparatively a new sector, so the regulatory requirements of the industry itself are not very clear.
These firms cannot be defined as financial services companies due to their nature of services, which is to assist other companies with their various regulatory requirements. Also, none of the regulators are offering any ‘RegTech license’ yet.
“Unless you are operating an ‘Endpoint’ as in a Trade Repository, Approved Reporting Mechanism or an Approved Publishing Arrangement there are no regulatory license requirements,” said Ellis.
But, that does not mean regular regtech companies do not need to comply with any regulatory framework.
As Muinmos CEO said: “RegTechs are subject to direct regulation in the field of data (GDPR and other data laws), and indirect regulation via the financial institutions they serve, which are usually subject to various regulatory requirements in regard to their third-party outsourcing (generally speaking, financial institutions are required to maintain a certain amount of supervision and control over their core functions, which is usually assured both contractually vis-à-vis the third-party, and by technological means).”
However, the industry is divided on the regulatory standpoint as many believe strict monitoring is needed as these firms are performing ‘core functions’ more frequently in financial institutions.
“As some FinTechs turned into de-facto RegTechs, thus having the perceived advantage of a so-called ‘regulatory stamp’, I thought regulating RegTechs would level the playing field,” Kirketerp-Moller added. “However, these days, it seems, the market no longer sees the ‘regulatory stamp’ as relevant when it comes to providing services to financial institutions.”
What’s the Future?
Well, there is no doubt on the huge upside potential of the regtech companies. The industry is already raking in revenues at an annual growth rate of 19.5 percent. And, the global expansion of financial services companies, along with the varying regulations in different jurisdictions, will only increase regtech demand.
“The industry is set to continue to grow for the foreseeable future with many countries, particularly those within the Asia-Pacific region, investing heavily into this space,” Gerber said.
“This year, the Australian government committed to $10 million in grants to regtech companies creating innovative solutions to a key set of challenges under the Business Research and Innovation Initiative. Similarly, the Monetary Authority of Singapore has committed $42 million to support regtech startups under its Financial Sector Transformation and Innovation scheme.”