Sofi Technologies : The Future of Finance (Part 1)

In a world of rapidly advancing digital technology and growing adoption, the financial sector has been revolutionized by a new wave of digital financial technology firms, better known as fintechs. These firms operate using a completely digital platform without having the extra costs of operating physical chains making them leaner and more flexible than the larger branch based banks. This purely digital system allows these fin-techs to save a lot of money over the long term on property and depreciation. 

Sofi Technologies comes within the fintech category but it can be classified as a neo-bank. Both fintechs and neo-banks operate completely digitally but the key difference being neo-banks have a banking charter. A banking charter is what makes a company able to accept deposits and operate as a more trusted and regulated body. This means they have a sense of credibility as well as are more reliable and maintain better relationships with banking regulators in general. I will talk about the importance of their banking charter as I go deeper into how the company operates but the one major drawback of these banking charters is the millions of dollars it costs in obtaining one, as well as the competence required from the management of a company to be able manage the new regulations and capabilities that come with the charter.

This brings me to the most important person in the Sofi management team, their Chief Executive Officer Anthony Noto. Noto has almost decades of experience within financial institutions and leadership positions. His extensive experience before joining Sofi in 2018 include: managing director of Goldman Sachs, the Chief Financial Officer (CFO) of the National Football League (NFL) and the Chief Operating Officer (COO) of twitter and the head of twitter ventures. These experiences helped guide him when leading Sofi and allowed Sofi to transition into their banking charter effectively with almost no burden on the company.

In the first part of the article on Sofi, I will go over their lending segment and compare it to traditional fintechs and display the importance of a banking charter.

To compare how having a banking charter helps Sofi, let us first look at how traditional fintechs make money. Fintechs either use a warehousing facility, which is a service that provides firms with loans with certain requirements or a partner bank which can take in deposits made through the fintechs. The fintechs then use this capital and lend the money out to individuals. These loans are given out at a higher interest rate than the interest rate the fintech has to pay for the deposits. Let's say the fintech gets a loan at 6% from the facility, they need to give the loan out at around 10% to make money on the loan. This difference is called the net interest margin.

Once these loans are given out, the fintech can then sell the loans to a larger institution or asset managers to receive their money back with a small bonus. These fintechs can then repeat the process using the same money and increase their total revenues and profit by cycling these deposits over time. 

This process is where a banking charter becomes crucial for Sofi. As mentioned before, a banking charter allows a firm to accept and hold deposits within their own platform. This means that Sofi has to pay an interest on a deposit rather than interest for borrowing money from a warehouse facility. Interest rates for direct deposits tend to be substantially lower than the interest rates on loans from warehousing facilities or deposits using partner banks. Furthermore, a banking charter does not impact the ability for Sofi to charge the same interest rates on loans as traditional fintechs which results in a direct increase in the net profit per transaction relative to fintechs. Furthermore, this makes Sofi a lot more flexible in their approach because of the cheaper cost of capital available to them. For example, Sofi can start offering loans at cheaper interest rates relative to their competition to gain more market share by leveraging their cheaper costs of capital. This shows the benefits of the banking charter to the overall company. 

The next part of the article will be less technical and will be looking into each of Sofi’s individual business parts.