.svg)
As the once UK fintech unicorn Railsr reportedly mulls a pre-pack administration deal, market players react and question the business models of some banking-as-a-service (BaaS) providers.
In recent weeks, the troubles have been mounting for Railsr. Founded in 2016 and until last year trading by the name Railsbank, the firm has gradually expanded from Europe to other destinations, including the US.
It is an embedded finance platform offering BaaS solutions. Perhaps awkwardly now considering some of the regulatory troubles it has been facing, it was one of the companies to acquire assets from scandal-ridden payments processor Wirecard in 2020.
In early February, the Bank of Lithuania announced that it was limiting the activity of Railsr subsidiary PayrNet over concerns it is “grossly and systematically violating” money laundering compliance requirements.
Since then, the UK’s Financial Conduct Authority (FCA) has also reportedly been auditing the firm.
Now, the firm is said to be closing in on a sale through a so-called pre-pack administration process, after a deal with Nigerian payments firm Flutterwave failed to materialise.
The pre-pack administration process is a form of bankruptcy whereby the firm would install a buyer beforehand.
"Railsr can't just do a pre-pack deal behind the scenes, so they will need to advertise this to see if there are other interested parties,” said Gary Prince, founder of Astus Munia Consilium consultancy. “Otherwise, they could be open to being sued. It will be interesting to see how this is done."
Prince had an optimistic spin on the recent news. “In a way, this is a good thing, as some of their products will get salvaged.”
“After Wirecard, we didn't need another fintech going belly up."
Its fall from grace is in stark contrast to the positivity around the firm a little over a year ago.
In February 2022, the company announced that it had hit unicorn status, and hired the US-based investment bank FT Partners to raise a new funding round, valuing the firm at more than $1bn.
However, this was not to last and its valuation quickly started to nose dive. In October, the firm raised $46m in a Series C funding round, reducing its valuation to $250m.
Regulatory problems
Part of the regulatory problems at Railsr reflect tighter scrutiny faced by fintech and neobanks as authorities increase their supervision on some of the fast-growing challengers.
N26, for example, has found itself in hot water with German and Italian regulators. Solaris Bank too is reportedly being investigated by the German Federal Financial Supervisory Authority (BaFin).
Meanwhile, the Bank of Lithuania, known to champion its success in signing up payments and e-money firms, has confirmed in recent months that it is taking a stricter approach as the market matures.
“The majority of fintechs work quite a bit with high-risk clients. Usually, they have high volumes and can accept higher pricing, so it’s good business if you can manage the risk,” said one fintech source based in Lithuania.
“In my opinion, the core reason they get in trouble is a temptation to grow, putting the profit above diligent compliance,” the source added. “It’s difficult to resist a client, such as FTX and you don’t want to annoy them too much, because they can easily switch to another provider.”
Chuck Stoops, a US-based fintech consultant, agreed. “I don't presume to have any specific knowledge of Railsr’s AML problems but again, when under extreme pressure to grow and scale, it can be hard to build the culture of compliance necessary to regulated enterprise,” he said.
The regulators are becoming more and more strict, according to Matthias Boulliung, co-founder of Fintech Expert Consulting.
“There are clear signs that regulators like the FCA are much more tough on payments and e-money companies, and the number of new licences being granted has drastically fallen,” he pointed out.
For example, 36 licences were issued in 2020 and 35 the following year. In comparison, eight were issued in 2022 and just two have been issued this year to date. “Three or four years ago, it was a lot easier to get a licence and the FCA or other regulators would be checking in once a year. Now, we see much more monitoring.”
“When you look at the requirements of a regulator, firms need to carry out due diligence and document a paper trail,” said Boulliung. “However, the regulators now have more of an interest in the economic issues at hand and whether this is clear.”
Companies can appear compliant but then the regulator may dig further into the issues, he suggested. “As soon as you dig through all the layers of BaaS till the end customer of one entity using BaaS, you may come across issues such as sanctioned persons, or entities conducting business with sanctioned counterparts.”
“I wouldn’t be surprised if this happened with Railsr,” indicated Boulliung.
Discussing the reported deal, Prince suggested that it will also be interesting to see what gets acquired considering the Bank of Lithuania’s announcement. “Who is going to buy something when there is an AML investigation and potential implications like fines? It will be fascinating to see how it gets carved up.”
“PayrNet was almost at the centre of what they were doing."
BaaS risk factor
For Boulliung, there are also concerns regarding the business model of BaaS companies overall.
For example, Solaris, another BaaS firm, has also faced recent problems with regulators in the EU.
“Start-ups can often need BaaS as they are deemed too high risk or too low volume to be onboarded by Tier 1 banks,” said Boulliung.
However, he noted, these young companies are most likely to not be fully ready, at least operationally, when it comes to money laundering controls or similar processes. “This is when it starts to be a problem as to whom is a customer of BaaS firms.”
The health of BaaS varies greatly market by market, said Stoops. “The UK and EU are not doing particularly well.
“The players in these markets have taken on not only the heavy burden of regulation, such as Solaris as a bank and Railsr as an e-money institution, but also the promise of delivering the best technology for every vertical,” he said.
For an early-stage company, doing even one of these things well is hard enough, Stoops continued. “Add to this the burden of growing and scaling fast, as financial services is all about volume, you can begin to get a sense of the challenge.”
By comparison, US players, such as Marqeta, for example, have managed to avoid regulation by focusing solely on the technology, Stoops noted. “They will connect to a network of banks at the back-end to deliver regulated services, but they never try to be the bank.”
“Choosing one's lane and staying there may be the key to their sustainability.”
The conundrum for fintech has always been whether to go for growth or do a Starling, according to Prince. “Anne Boden built Starling steadily, and grew it a bit at a time.
“Look at Revolut in comparison. It went for growth, and now has challenges with accounts as well as questions over compliance. There is no easy fix for this industry. If you skimp and make light work, it almost always comes back to bite you."
VIXIO contacted Railsr for comment but had not received a response before publication.
