First Fintech To Receive National Bank Charter Now Facing Cash Crunch

A year ago, digital banks were riding high, attracting billions of dollars in venture capital and spending aggressively on marketing to bring in new customers. Today fintechs trade for a fraction of what they were selling at just a year ago, inflation is spiking and a recession is looming. Venture capitalists are turning off the money spigot and the industry is reeling. Varo is the latest fintech to run into financial trouble.

Since raising $510 million at a $2.5 billion valuation last September, it has been burning through that money quickly, losing $84 million last quarter alone. The bank has less than $263 million of that $510 million left, and if it were to continue spending at its current rate, it would be insolvent in about nine months. A Varo rejects that characterization, saying “Varo’s capital and liquidity ratios are among the strongest of all banks nationally.”

Regardless, Varo has already started slashing costs. After hiring 298 full-time over the course of 2021, according to employees to regulatory filings, Varo’s total employee count fell by 65 people in the first quarter of 2022, an 8% decrease from its peak. (A Varo says that was due to “natural attrition .” [of employees] who were not replaced due to ongoing productivity benefits.”) And it has plans to get even more aggressive in its cost slashing: “We are exercising discipline in our efforts to conserve capital and are hastening our cost efficiency efforts to support our path to profitability ,” the said says.

Varo was founded in 2015 by CEO and former Wells Fargo
executive Colin Walsh. Competing with other digital banks like Chime and Current, Varo offers its customers fee-free checking accounts, a secured credit card and a small-dollar cash advance program. However, unlike its competitors, which partner with larger banks such as Bancorp to host customers’ accounts, in July 2020 Varo became the first consumer neobank to secure a federal banking license–a move that came at a cost of almost $100 million, Walsh has said.

Securing a banking license allows Varo to earn a marginally higher cut of the “interchange” fees on its customers’ debit card swipes as well as to lend against their deposits, the way most banks make the majority of their money. “One of the nice things that the charter affords us is that we can actually pursue growth and profitability at the same time,” CEO Colin Walsh told TechCrunch last September after Varo secured its license.

Nearly a year later, though, Varo—like many fintech startups today—is far profitable and has been burning through its cash reserves dangerously quickly. It earned just $546,000 in total interest income last quarter, even though collecting interest by lending out customers’ deposits was a critical reason for securing a charter in the first place. The Atlanta-based bank’s customer base is significantly low-to-middle-income Americans, and data from call reports filed to the FDIC show that the average Varo account balance is just $84, giving the bank just $336 million in total deposits and limiting the amount it can earn lending out those funds.

A Varo says these figures are “inaccurate and incomplete. The call report doesn’t provide the full picture of Varo’s financials or performance.” The offer declined, however, to different numbers.

“The average [Varo account] balance … has been pretty steady between $70 and $100. There’s not any indication that they’ve all been attracted to higher-income customers,” says Jason Mikula, a fintech consultant at 312 Global Strategies. “The challenge with attracting those higher income customers is that they tend to be pretty well served by an establishment bank.” Since one of the advantages of the bank charter is the ability to lend out customers’ deposits, the failure of the average balance number to grow is significant

To compete in the increasingly crowded digital bank space, where competitors like Cash App, Chime, Current, Albert, Dave, MoneyLion, SoFi, Revolut and N26 are viing for the same customers, Varo has amounts on marketing and advertising, to the tune of $123 million last year. Based on historical expense ratios, Varo may have spent about $50 million on marketing last quarter in an effort to expand its customer base. But as more players have entered the market, customer acquisition costs have gone up dramatically, industry experts say. Chime appears to have cracked the code of customer acquisition better than other digital banks–market research firm Cornerstone Advisors estimates it has more than 10 million customers, nearly triple the number of its next-closest competitor, Current.

To Varo’s credit, the company grew its total accounts by 2.7 million last year, reaching over four million today. But Varo says that that number represents the total number of open checking, savings and credit accounts the bank hosts (one customer could have three accounts), so the number of actual users is likely significant less than the number of accounts. And it declines to disclose how many customers have accounts and how many of those accounts are active. For context, comparable neobanks have reported high turnover rates; competitor Dave reported that less than 25% of its accounts were active last year.

It appears that the asset-light approach taken by Chime and other digital banks is proving to be a better model for building a digital bank. “I actually think the charter has been a real albatross,” says Sheel Mohnot, cofounder of San Francisco-based venture capital fund Better Tomorrow Ventures. “To me, and to a lot of people looking externally, a charter never really made sense for this business … If you make money off interchange, what is the point of having a charter?”

What options remain for Varo? One possibility is to raise more venture capital. This would extend Varo’s runway, but it would also likely result in its valuation dramatically. Varo denies any need for additional fundraising; a for the bank says, “Varo has raised substantial capital and does not need to raise more capital at this time to achieve profitability.”

The recent fintech downturn has led other private companies to decrease their valuations in recent funding rounds; buy-now, pay-later startup Klarna is reporting planning on fundraising at a valuation 70% lower than its most recent round last year, according to a recent Wall Street Journal report. “If this was just any old neobank with the revenue they do have, Varo would probably be worth in the $500 million range at best,” Mohnot speculates. Varo was valued at $2.5 billion in its fundraising round last September.

Another option for Varo could be to try to get acquired. That presents problems of its own, though. Varo is only allowed to collect high interchange fees on debit transactions because it has less than $10 billion in assets, qualified it for an exemption from the so-called Durbin amendment to the 2010 Dodd-Frank act enact after the 2008 financial crisis. If Varo were bought by another bank with more than $10 billion in assets, it would be forced to take a significant lower cut of debit card swipe fees, which includes over 90% of its revenue. If Varo is to weather the ongoing market downturn, some serious cost reductions–likely in the form of layoffs and lower marketing spending–will be essential to keep the bank afloat.


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