When a small fintech called Jiko bought a community bank last week, it caught many observers by surprise.
Jiko was a small, under-the-radar company, as was the bank, Mid-Central Federal Savings Bank in Wadena, Minn.
The acquisition occurred shortly after the Office of the Comptroller of the Currency granted Varo Money a national bank charter. Better-known fintechs such SoFi, Square, Robinhood, Moven and Rakuten had for years struck out at efforts to buy a bank or start one.
The green lights partly reflect the willingness of Brian Brooks, the acting comptroller, to welcome payments companies, challenger banks and other fintechs into the regulated banking environment. Brooks, a former Coinbase executive, said Jiko’s move “represents an important milestone in the maturity and evolution of fintech companies seeking to expand the reach of their products and services by becoming banks, buying or combining with a bank, or continuing to partner with banks in other ways.”
Here is the backstory of how Jiko, based in Berkeley, Calif., bought Mid-Central and what the head of Jiko says he plans to do with the bank.
The Berkeley-Wadena connection
Wadena is a small town in central Minnesota with a population of around 4,000. It’s named after a chief of an Ojibwe Native American tribe.
“A lot of people ask, how does a little bank in central Minnesota get involved with a company that’s doing this?” said Gary Sellman, president and CEO of the $125 million-asset Mid-Central, which he has led since 1995.
The answer is one of Jiko’s founders had been a shareholder of the bank for several years. That connection led to discussions beginning six years ago between Sellman and Jiko’s three co-founders, who shared with the banker their ideas and asked questions about how the payments and banking systems work.
“Rather than just developing the product and selling it or leasing it to a big bank, they wanted to have a little more control of it,” Sellman said. “They wanted to have their own technology company, writing the software and marketing the product. And they also wanted a bank to be able to run the product through and to have independence.”
Jiko’s founders knew they wanted to obtain a bank charter before doing anything else, according to Stephane Lintner, the startup’s CEO and one of the co-founders.
“That was core of our thesis: If you don’t own your own license, it’s going to be really hard to bring the kind of change the industry needs, the evolution in technology,” Lintner said. “So we were focused from the beginning on securing a bank charter and a broker-dealer charter.”
The two companies did a proof of concept for Jiko’s first product, which Lintner refers to as “spendable T-bills.” Customers deposit money into a Mid-Central account that immediately gets invested in Treasury bills in a brokerage account held by Jiko Securities. A debit card issued by the bank lets people spend the money in the account.
Shortly after the proof-of-concept was completed, the bank’s board decided it wanted to sell. The bank has since been renamed Mid-Central National Bank.
“We thought it would be a great buy — the price point was something you could fit in a Series A,” Lintner said. Jiko raised $7.7 million in its Series A funding round.
“The appeal of going through a bank that existed is there’s already someone supervising who’s been running the bank for 30 years,” Lintner said. “This let us do what we wanted to do without burning a lot of cash.”
The two companies began talking with the OCC’s Office of Innovation and with the Federal Reserve. Many discussions and audits took place.
“This process has been long, and there’s been a lot of work involved,” Sellman said. “Normally in a situation where one bank buys another, that happens in three or four months. This has been going on for about four years now. This has not been what you’d call an easy route, because there’s a lot of regulatory scrutiny.”
Having worked at Goldman Sachs for several years, Lintner was unsurprised by the regulatory scrutiny.
“The regulators have been extremely friendly,” he said. “They’re doing their job, and you come with something very different, so you have to expect that. You never ask for forgiveness at the end, you actually ask for forgiveness at the beginning, because you know you’ll make mistakes. You work diligently, and when there are issues you highlight them, and you really show that you care [and] communicate a lot.”
The regulators who met with the bank were mostly looking for safety and soundness, Sellman said.
“We had to be able to show them and persuade them that these new controls and assessments and processes that we’re developing are going to be safe and sound for the bank and wouldn’t affect the bank’s liability at all,” Sellman said. “Anytime you have something new, the regulators are questioning: What does this mean for the safety of the bank?”
Apart from rethinking its risk assessments and controls to accommodate Jiko’s product and the funds that will flow through the bank into the Jiko brokerage account, the bank itself is not going to change much, Sellman said.
“We’re still a separate entity that’s operating as we did last week before we sold,” Sellman said. “The main change is that our bank is now handling all of the current and future transactions that’ll happen with Jiko. The bank is mainly the conduit for the funds and for debit cards. We just have to make sure that we have the proper controls to run an operation that’s potentially a lot greater than our own operation.”
What Jiko is building
So far, the operation is small. Today Jiko has 1,500 users who are mostly friends and family.
The basic promise of the app and account is instead of storing money in a bank account, where technically it’s not being stored but lent out or invested by the bank, the money is stored as Treasury bills that can quickly be sold if need be. In some respects, it’s a stablecoin backed by T-bills.
“Our core product is this integration between real-time trading, the way it works on trading floors, and payments,” Lintner said. “Money comes in, it’s traded, and now you own Treasury bills. It’s fluid.”
Jiko’s team of 15 engineers built all the cloud-based technology, including ACH payment processing and trading.
“The last two years, we’ve been all about making sure we knew what we were doing, testing it in small volume and making sure everything reconciles,” Lintner said. “There’s no backup, there’s no third party that has copies of the data. So if we lose it, we’ve lost it.”
Jiko tokenizes account numbers to preserve security and privacy.
“Why do you need to give the same bank account number everywhere?” Lintner said. “If something changes on your account, that’s really annoying.”
The tokenization lets Jiko offer an “anti-snooping” debit card that has no number printed on it.
“The physical card we carry around is just a physical token,” Lintner said. “If you lose it, nobody knows the number. They shouldn’t have it. Instead you have virtual numbers.”
Lintner said his company can do this because it has built its own technology.
“We don’t have to register the numbers anywhere else,” he said. “We’re the issuer, we’re the processor.”
The debit card is accepted by the Visa and Discover networks.
Part of Jiko’s vision is to have other fintechs use its platform for what could be called money storage as a service or money movement as a service.
“That fluidity and safety of knowing where your money is and that you can access it, that’s what everyone wants to embed in their regular technology experience,” Lintner said. “Whether it’s the fintechs, whether it’s at the point-of-sale checkout, or whether it’s a reward program, everyone wants to be the bank without really wanting to be the bank, but we can facilitate that. We want to open up the platform, let others benefit from what we’ve done and focus on that scale and being the new cash layer that could power a really large industry.”
Some articles have said that Jiko is bypassing Federal Deposit Insurance Corp. insurance. Lintner bristles at this description.
“We’re not bypassing the FDIC,” he said. “The FDIC applies to deposits. We don’t keep deposits at the bank. The money’s invested in Treasury bills in your name. That’s the novelty — we’re making you a direct owner of your Treasury bills. You know where the money is, it’s clean, you get the yield. It’s the same Treasury that backs the FDIC. It’s a different way to think about money storage.”
If Jiko were to take deposits, it would have to generate returns by lending against them, Lintner reasons.
“We would have to start taking risk,” he said. “The regulators would ask a lot of questions about our loan plan, and rightly so. Most banks are excellent lenders. They know what they’re doing. The core movement of money and the storage, that’s where we’re bringing value.”
The use of Treasury bills allows Jiko to be efficient and scalable, Lintner said.
“We’ve rebuilt the basics of ACH capabilities, card processing, so that allows us to make your T-bill experience feel as fluid as a regular bank account, with a couple of great things like tokenized bank accounts,” Lintner said. “Over time we can invent in other payment systems as well.”
Jiko can also facilitate payments directly between people.
Though beta users are getting the service for free, the startup plans to charge consumers $99 a year for a subscription. Lintner said the subscription fee is needed because the company won’t be leveraging deposits or selling personal data.
“The American public is used to this now: Netflix and Amazon are a flat fee,” he said.
Jiko’s special sauce
There are a lot of fintechs out there with interesting ideas about money and apps.
What makes Jiko special, in Sellman’s view, is the security features it’s building.
“The architecture of this Jiko account is such that, from a security standpoint, you can’t just break into a database and get all the data,” he said. “This is designed so that somebody would actually have to break each separate Jiko account.”
And the basic idea of having money flow into a brokerage account and go into T-bills, but also be available for day-to-day expenses, is novel, in his view.
“This has a lot of potential for people to eliminate the middleman along the way and have an opportunity to earn more on their daily transaction accounts than they did in the past, and have a safe investment to do that,” said Sellman, who uses Jiko himself.
Todd Baker, a senior fellow at the Richman Center for Business, Law & Public Policy at Columbia University and the managing principal of Broadmoor Consulting, said that Jiko’s purchase of a bank is unusual because it’s a venture-capital-backed startup.
“There’s a complicated story here about finding a way for a venture-capital-backed company to acquire a bank, which has been almost impossible in the past,” Baker said. “There are no venture-capital-controlled banks.”
The business model is also unique, he said.
“What they’ve tried to do is create a whole independent non-legacy-based money transfer system,” Baker said. “Now they have direct access to the ACH system, which they’re using to move all the money instead of having to pay some other bank to transfer to for all the money movement. If they have a bank, and they have direct access to the payment rails, that is a cost saving and a technological advantage.”
It’s in line with the payments bank proposal that Brian Brooks has floated, Baker said.
Buying a bank that is a member of the Federal Reserve System and has access to the payment system is “essentially an artificial way to get to the OCC payments bank charter,” Baker said.
Under Brooks’s watch, the OCC seems more eager than it has been in the past to give these kinds of companies a green light.
“He really wants to encourage this,” Baker said. “He really wants this because he’s a technology aficionado and he’s a remarkable guy. He wants to encourage bank business models that don’t look necessarily like the traditional bank. He’s not going to object to banks that are partly fintechs so long as from a risk standpoint, he can be sure that the operation will be safe and sound.”