Beyond Vendor Management

The Crucial Distinction in Bank Fintech Partnerships Due Diligence

In today's rapidly evolving financial landscape, traditional banks are increasingly partnering with fintech firms and venturing into Banking as a Service (BaaS) to remain competitive and offer innovative services. However, while vendor management programs have long been a staple in banking, they fall short of meeting the rigorous due diligence standards expected by regulators when it comes to bank fintech partnerships and BaaS. In this blog post, we'll explore the critical distinctions between a bank's vendor management program and the due diligence required for these partnerships, shedding light on why one cannot simply replace the other.

The Nature of Relationships:

Vendor Management: Vendor management programs are typically designed for third-party vendors who provide auxiliary services to banks. These vendors often offer non-critical functions like IT support, marketing services, or office supplies. The relationship is transactional and does not entail significant access to or influence over a bank's core functions.

Fintech Partnerships/BaaS: Partnerships with fintech firms or BaaS providers are fundamentally different. These relationships often involve sharing sensitive financial data, integrating core banking functions, and even co-creating financial products. Fintech firms may have direct access to a bank's systems and customers. Therefore, the stakes are considerably higher, requiring more stringent due diligence.

Regulatory Scrutiny:

Vendor Management: Regulators do require banks to manage their vendor relationships effectively, but the focus is primarily on operational and financial risks. The regulations usually revolve around ensuring the vendor's financial stability and assessing operational vulnerabilities.

Fintech Partnerships/BaaS: Regulators, on the other hand, have a keen interest in safeguarding the financial system's stability and protecting consumers when it comes to fintech partnerships and BaaS. They expect banks to conduct comprehensive due diligence, including evaluating the fintech partner's compliance with consumer protection laws, cybersecurity measures, and data privacy regulations. These requirements go far beyond the scope of traditional vendor management.

Risk Assessment:

Vendor Management: Vendor management programs tend to categorize vendors based on their impact on the bank's operations. Low-impact vendors receive less scrutiny, while high-impact vendors undergo more rigorous assessments. However, the criteria primarily focus on operational risk, not the broader financial and reputational risks.

Fintech Partnerships/BaaS: Due diligence for fintech partnerships and BaaS extends beyond operational risk assessments. Banks must consider the potential impact on their reputation, customer trust, and financial stability. Moreover, they must ensure that the fintech partner aligns with the bank's strategic objectives and that the partnership does not compromise their long-term viability.

Continuous Monitoring:

Vendor Management: Vendor management programs often involve periodic assessments and audits to ensure compliance with contractual agreements. However, the level of monitoring varies depending on the vendor's criticality to the bank's operations.

Fintech Partnerships/BaaS: Continuous monitoring is vital in fintech partnerships and BaaS arrangements. The dynamic nature of the financial technology landscape demands ongoing assessments of regulatory compliance, cybersecurity posture, and changes in business strategies. Banks must have mechanisms in place to promptly address any emerging risks or concerns.

While vendor management programs are essential for overseeing third-party relationships, they are not a substitute for the thorough due diligence required in bank fintech partnerships. These critical distinctions emphasize the need for banks to develop specialized due diligence processes and risk management strategies tailored to the unique challenges posed by fintech partnerships. By doing so, banks can navigate this evolving landscape with confidence, meeting regulatory expectations while fostering innovation and growth.

Have you built your due diligence program yet?