Fintech investment: Many roads lead to a coveted destination
Credit unions pursue numerous paths to harness essential digital solutions.
The days when fintechs and credit unions were viewed as mortal enemies are clearly behind us.
Throughout most of the 2010s, this supposed pitched battle for members’ hearts and minds was a popular storyline, portraying these brash young firms as disruptors intent on putting dinosaur financial institutions out of business.
While this portrayal may occasionally be true, both camps have come to recognize the natural synergies that exist between the two.
At the 2021 NACUSO Network conference, NCUA Board Member Rodney Hood lauded the “symbiotic relationship” between these entities, particularly in forging pathways to serve digital natives.
Recent industry events such as Finovate revealed an increase in young firms actively courting credit union partnerships from the podium.
As the saying goes, follow the money. Investment in fintechs during 2021 shattered previous records, and credit unions have played an active role.
The Curql Fund, a recently launched collective, raised $252 million in funding from credit union and league limited partners, far exceeding its initial $150 million goal.
CMFG Ventures, the investment arm of CUNA Mutual Group, has invested more than $240 million into a portfolio comprising more than 30 active fintechs.
Institutions such as $10.8 billion asset VyStar Credit Union in Jacksonville, Fla., and $6.2 billion asset Michigan State University Federal Credit Union (MSUFCU) in East Lansing are executing on direct investment strategies at scale, taking the movement’s longstanding credit union service organization (CUSO) model to a new level.
Underlying each of these strategies is a common goal: ensuring access to the newest digital solutions as quickly as possible in a form that addresses credit unions’ specific needs.
While a healthy direct return on invested capital is certainly a key objective, many of the leading players clearly state their most important success metric will be bringing valuable technologies to market—at which point the benefits will flow directly to members as well as through credit union P&L statements.
The various approaches need not be either/or propositions for credit unions, as our conversations with several executives leading the charge make clear.
A signal to the industry
“The concept of investing is not new to credit unions, even if we hadn’t used the word ‘fintech,’” explains Jenny Vipperman, Vystar’s chief lending officer. “We have Visa stock, for instance.”
Although the first formal CUSO regulation wasn’t passed until 1987, in practice CUSOs existed much earlier. The Federal Credit Union Act of 1934 authorized credit unions to invest in organizations associated with routine operations.
NACUSO’s database currently documents 1,100 recognized CUSOs.
VyStar President/CEO Brian Wolfburg introduced the notion of a more programmatic approach in 2018, says Joel Swanson, chief member experience officer.
“We didn’t know what appetite fintechs would have for credit union investment, so we announced our $10 million fund as a signal to the industry that VyStar wanted to partner,” he says. “Before that, I don’t think anyone was approaching this as a fund.”
The signaling had its desired effect.
“I’m seeing more opportunities because they know we have this strategy,” says Vipperman. “More fintechs reach out to me now to share what they’re doing.”
The existence of VyStar’s fund also serves to deputize senior leadership to scout for opportunities.
“It makes the conversations easier,” she says. “There’s an expectation we’re going to invest, so we don’t have to ask for approval with each investment. The funds are already set aside.”
Two of VyStar’s key investment criteria are internal use of or intent to use the product, and a clear path to a successful return.
“We first realize value through our own implementation, with further value coming through our investment down the road,” Vipperman says.
VyStar also seeks representation on CUSO boards. “When you’re a customer, fintechs care about you to a point,” says Swanson, referring to input through advisory groups and the like. Naturally, an equity stake and a seat in the boardroom amplify that voice.
Vipperman acknowledges it ups the ante on her own commitment as well. “I’m always sharing my thoughts with other credit unions on service providers, but I spend even more time doing this for companies in our portfolio.”
The fund’s first investment, a $2.5 million stake in Payveris, recently delivered a 220% return when the company was sold to Paymentus. VyStar has also multiplied its initial $10 million fund commitment several times over.
VyStar was the first live customer on Zest AI, in which Vipperman championed a $10 million investment soon after. They’ve also invested $20 million in Nymbus and $10 million in the Curql Fund, for which Swanson played an early role in the launch and views as “a version of our fund on steroids.”
“If you’re a fast follower you’re always going to be behind,” he says. “Don’t be afraid to be first.”
While he and Vipperman acknowledge not all credit unions are in a position to embrace this stance, they see their own involvement in the fintech space as an opportunity for VyStar to help carry the entire movement forward.
NEXT: More than ROI
More than ROI
The Curql Fund has a similar expectation that investing credit unions use its startups' products. But given the size of its portfolio, 100% adoption is unrealistic.
“They’re involved in the discovery process, providing feedback in these companies before we invest in them,” according to President/CEO Nick Evens. “In the course of their diligence, they’re going to want to use some of them.”
Curql has 69 limited partner investors, encompassing credit unions ranging in assets from $200 million to $25 billion. After initially aiming to raise $150 million in investment capital, a late surge of interest brought the total to $252 million by the time the fund closed in October.
Additional credit unions were still becoming aware of Curql and expressing interest last fall. But after extending the deadline once, Evens determined it was necessary to close the window.
“That’s why we’re starting to prepare for Fund No. 2, if Fund No. 1 goes as well as we think it will,” he hints regarding future plans.
Curql has already made 11 portfolio investments, ahead of pace for a fund with a projected 10-year life.
“Typically, 80% is invested in the first five years, then you’re looking for return on investment in years six to 10,” Evens says. “The remaining 20% of funding is dry powder for those companies that need a little boost later.”
One ongoing challenge is educating new investors on the dynamics of venture capital while weaving them into a broader mission.
“This is a long-term play; investors can’t expect any return in years two through four, maybe longer,” he frequently reminds participants. “We also hit home that ROI is secondary: We’re also looking for transformative technology that will keep credit unions relevant in the eyes of their members.”
The Curql fund is itself structured as a CUSO and by definition can only invest in CUSOs, which has occasionally quashed opportunities despite a relatively painless on-ramp.
“Some of these companies have been in business for three to four years and don’t know what a CUSO is. We have to educate them,” Evens says.
For some providers, such as Eltropy, a Curql portfolio company serving only credit unions, it’s easy, he adds. “But for some others with venture funding already in hand, some VCs might decide it’s not worth the hassle.”
More often, however, fintechs grasp the value of the CUSO structure and organize themselves to accommodate.
John Janclaes has a unique vantage point from which to appreciate these synergies. A former credit union CEO, in 2021 Janclaes was named president of Nymbus CUSO, the new, credit union-focused unit of six-year-old digital banking provider Nymbus.
“A CUSO is a recognition by credit unions that if we’re going to partner with them as customers, why not partner as investors, too?” Janclaes says. “We want you to be an owner.”
Both VyStar and Curql own stakes in the company, and the $30 billion technology venture capital firm Insight Partners remains the lead investor. Nymbus’ sales to credit unions grew 25% in 2021, and management forecasts an even greater increase in 2022.
Janclaes refers to a “governance playbook” outlining 26 items Nymbus must cover over the course of a year to satisfy CUSO criteria. “Most of these would have to be done anyway; it’s not a show stopper.”
He says the process of establishing a CUSO took only a couple of months, and he believes the payoff is worth it in terms of alignment with clients’ goals and objectives.
“You’ve got to have people across the table who get it—who understand volunteer boards as a reality; that you can’t just go out and raise more capital; things like that” Janclaes says.
On that latter point, he doesn’t see the long-term nature of CUSO investments as a major barrier for credit unions. “Certainly other portions of capital are invested long term, too.”
Channeling both his past and present roles, Janclaes makes an impassioned case for both credit union action and the fund-based model. “We need bolder steps, and not just in operations but also with investments. You can’t win from where we’re at with the tiny steps we’re taking.
“You can’t do it fast enough yourself—a single credit union couldn’t hire all the people,” he continues. “Companies like ours bring the people and the technology.”
NEXT: A collegial relationship
A collegial relationship
CMFG Ventures has been engaged in portfolio investing a bit longer, with a slightly different spin on the model. Over its five years of existence, the investment arm of CUNA Mutual Group has invested $243 million into roughly 30 early stage companies.
Structured as a corporate venture fund, CUNA Mutual contributes 100% of CMFG’s capital.
“We’re able to flex with opportunities in the marketplace and react quickly to market trends,” says CMFG Ventures Associate Laura Sievert about the advantages of this approach. “A lot of funds require setting aside capital for follow-on investments and reserves, limiting the amount available to invest in new companies. We don’t have that constraint.”
That allows CMFG Ventures to quickly seize on opportunities by leveraging CUNA Mutual’s ample balance sheet resources rather than returning to the equity markets for funding. They’re also less bound by the expected return timeline of a broad investor base.
Credit unions’ reputation for collaboration extends to investment activities as well. Rather than approaching their hunt for prime fintech candidates as a winner-take-all battle, CMFG and Curql maintain a collegial relationship.
They even hold parallel investments in four startups, including cross-channel digital messaging firm Eltropy and conversational AI provider Posh Technologies.
Sievert and Evens also point to ongoing engagement with brand-name equity firms like Adreessen Horowitz, which are backing some of the same startups.
CMFG’s portfolio registered two high-profile successes in 2021 with the initial public offering of digital lender Affirm and the sale of InsureTech provider Gabi to Experian.
“We’re starting to see the payoff and generous returns, which gets our organization that much more committed,” says Sievert, who continues to scout new opportunities.
Sievert sees this as part of a virtuous cycle maintaining a thriving credit union community. She points to the no-fee strategy support CMFG has provided to hundreds of credit unions lacking the resources or appetite to invest.
“Seventy-five percent of financial institution IT budgets are dedicated to keeping the lights on, while fintech startups don’t face such constraints,” Sievert says. “We can match credit unions with appropriate fintechs. We’ll eventually earn our return through the portfolio.
“The biggest struggle with credit unions is they think about fintech as a concept,” she continues. “We work with them to demystify fintech to find out what it means for them. Managing fintech isn’t easy but it will pay off in the long term.”
MSUFCU began crafting its fintech investment strategy in 2019. It pushed out its execution a year as it channeled resources to address COVID’s demands, setting the stage for an active 2021.
“It’s been busy, but we had the strategy brewing,” says Sara Dolan, MSUFCU’s chief financial officer, a title she also holds for the Reseda Group, which houses the credit union’s CUSO investments.
“It keeps the investment static on the credit union’s balance sheet at the amount of capital approved by the board,” she says. “Gains and losses grow within the holding company, which we can reinvest without going back to the board for additional approval. It separates some of the operations, creating a dividing line.”
Reseda’s original objective was to take minority stakes in firms complementing MSUFCU’s services to members and improving its efficiency, while enhancing the landscape for credit unions overall. As is the case with VyStar and Curql, MSUFCU uses or plans to use the products of its portfolio companies.
In three cases, however, Reseda is the sole or majority investor. One of these is Foresight Group, a printing vendor MSUFCU has worked with for more than 30 years.
“Their CEO was looking to retire and they approached us,” Dolan says. “We saw an opportunity to bring their services to more credit unions.”
On the other end of the spectrum is Spave, a startup savings app in which MSUFCU invested even before going live.
“We loved their idea and their product,” she says. “We started by looking into a partnership and it evolved into an investment discussion.”
Rounding out this trio is Evergreen 3C, which encompasses products MSUFCU developed internally, commercializing them as offerings for other credit unions.
Including six additional minority investments, 70% of the $58 million in capital MSUFCU earmarked for Reseda has already been invested, all during 2021. Reseda also participates in the Curql fund.
Dolan and her leadership team has made a concerted effort to set expectations with both entities’ boards on the timing of returns. “We see a two- to four-year horizon before the portfolio is profitable,” a quicker payback than our other examples owing to its mix of mature and growth stage companies.
Reseda’s board chair also serves on the MSUFCU board, providing additional connectivity.
A powerful combination
The days of supposed hand-to-hand combat between credit unions and fintech startups are mostly in the rearview mirror.
Or as longtime CUSO legal expert and NACUSO Board Member Guy Messick, puts it, “The dichotomy between risk-averse credit unions and risk-taking CUSOs can be a powerful combination despite some inherent tension.”
As credit union leaders increasingly recognize the need to modernize their member experience, particularly in the digital space, they’re fortunate to have a variety of avenues to success at their disposal—as well as a wealth of industry leaders who stand ready to share their learnings.
GLEN SARVADY is managing partner for 154 Advisors.