We analyze the economics of the fintech industry pursuant to strong investor interest. With rich merchant discount rates (MDRs) and low cost of funds, online payments are currently lucrative for e-wallets at gross profit level.

Online lending continues to proliferate with conventional loan products carrying annualized interest rates of 12%-60%. Introduction of Afterpaystyled interest-free customer loans can drive rapid loan growth while being high profitable and containing risks for everyday platforms like SE/Shopee.

Licensed digital banks are offering up to 4pp higher deposit rates vs.

traditional banks and it is to be seen whether this can overcome the trust differential vs. established banks.

 Online payments lucrative for issuers at gross profit level. Our analysis shows MDRs for online payments using e-wallets are between 1.5% and 3.3% – at a premium to offline MDRs, bank transfers, and even debit cards in some cases. Our discussions with regional acquirers indicate issuers like e-wallets typically keep at least 50% of the MDRs. The rich MDRs compare to cost of funds as low as $0.10/transaction – implying online payments are lucrative at gross profit level. However, elevated S&M expense weighs on industry profitability. Regulation presents downside risks to online MDRs though regulators have so far focused mainly on offline MDRs.

 Online lending continues to proliferate. ASEAN has seen more fintech companies add online lending products. Interest rates on loans remain relatively high at annualized rates of 12%-60% (Tables 7-10). Digital banks have been licensed in Indonesia, the Philippines and Singapore and we find deposit rate differential of up to 4pp. The attractiveness of online lending will eventually depend on the effectiveness of the risk management systems.

 Afterpay-style loans present material revenue opportunity while containing risks for platforms. Platforms have introduced Afterpay style products: 1) activated through the app, 2) interest-free loans to eligible customers which can pay bills in 4 monthly installments, 3) interest is charged in the form of MDRs to merchants, and 4) consumer pays an admin fees on missed payments. Our Python-driven scenario analysis indicates these products present material opportunity for platforms. For example, with $1bn capital, average order value of $50, loan duration of 4 months, and 5% interest rate, a fintech can theoretically extend loans worth $5bn and generate returns of 27% in 12 months. A low default rate can increase the effective returns (vs. no defaults) due to the relatively high admin fees. At 5% default rate with $10 admin fees, the effective earnings increase to 28%.

The long tail of the micro-loans extended over apps that customers rely on every day can limit default rate and increase recovery rates, in our view.

 Implications for SE and Indonesian banks: The material revenue opportunity of payments will likely be visible as off-platform use of ShopeePay grows. We anticipate financial services revenues to grow rapidly over the next five years driven by payments (TAM: >$1.5tn by TPV), online lending and distribution of financial products. The profitability of the Indonesian Big4 banks is set to be structurally eroded in the next 3-5 years.