Discovery Bank coming for the Big Four

Discovery Bank has grown tremendously in recent years, with its client base nearing one million and the number of accounts on its platform breaching two million. 

The bank launched on 14 November 2018 and is marketed as the world’s first fully digital behavioural banking platform.

It was created with the aim of disrupting South Africa’s banking industry by using Discovery’s Vitality platform and by offering wealthy clients superior service. 

Discovery’s latest annual results, released Thursday, revealed that its banking business continues to go from strength to strength. AS

Total clients grew by 36% to 958,000, while the number of accounts with the bank surged by 40% to 2.27 million. 

The bank also achieved a monthly operational break-even earlier this year. This means the company generated a profit before accounting for new business acquisition costs. 

However, it remained unprofitable across the past financial year, posting a loss of R454 million. Discovery CEO Adrian Gore said this performance still exceeded expectations, with the loss narrowing by 41%. 

Gore also told investors during the company’s results presentation that he expects the bank to be profitable in the next financial year. 

Importantly, its income per client continues to grow while its cost per client declines as the bank continues to scale rapidly, with around 1,100 sales per day. 

This creates what is called positive jaws, meaning the company’s income growth is outpacing its cost growth. This should translate into increased profitability. 

Discovery Bank remains very conservative in its lending, with advances growing at a slower rate than deposits. Deposits grew 29% to R18.5 billion, while advances saw a 27% increase to R6.6 billion. 

Gore admitted the company needs to grow its advances book more aggressively but said it would not do so at the expense of a high-quality client mix. 

This would boost the bank’s revenue, which currently sits at R2.1 billion and is largely driven by non-interest revenue. 

While this conservative approach may not result in significant revenue in the short term, it does have significant long-term benefits. 

Its current credit loss ratio is half that of the industry average, limiting the bank’s sensitivity to interest rate fluctuations and ensuring it has to raise minimal provisions to cover bad debt. 

The graphic below outlines Discovery Bank’s strong performance in the past financial year and reflects its journey to profitability. 

As Discovery Bank becomes profitable, it will free up more capital to be used by the group in other areas and also enable the bank to take on its larger competitors more aggressively. 

This can already be seen in the bank’s new client mix shifting to majority of new clients coming from outside Discovery. 

Initially, the bank looked to win over clients with existing Discovery products but is now looking outside of the company to increase its market share versus the incumbents. 

In particular, it is coming after affluent customers as it looks to retain its dominant position in this segment while looking to take a larger share of the mass-affluent market. 

As part of this, Discovery Bank has launched several new products over the past year as it became the first full-service digital bank in South Africa. 

Chief amongst these new products was the launch of its home loans product, which bank CEO Hylton Kallner promised to disrupt South Africa’s R1.4 trillion mortgage market. 

Uptake for this new product has been strong, albeit small relative to the total market, with R766 million in home loans currently in the pipeline. 

On the back of the creation of a full-service bank, Gore outlined ambitious goals for the division, which will see it take on South Africa’s large, established incumbents.

In particular, Discovery will be taking on South Africa’s traditional ‘Big Four’ banks – Standard Bank, Nedbank, FirstRand, and Absa – which have large private banking and wealth management businesses. 

Discovery expects the bank to grow its operating profit by R400 million a year from this financial year onwards, ultimately resulting in R3 billion in profits in the 2029 financial year. 

The bank is also expected to more than double its client base to over two million clients by then. 

Gore also explained the group aims to use the bank as a ‘composite maker’ by effectively bringing everything together within the bank.

These ambitious goals are shown in the graphic below, as well as the R14.5 billion Discovery has pumped into creating the bank from scratch.