For the past decade, digital innovation has audaciously taken the red carpet and paved its way to podiums of media stealing headlines on disruption; suggesting the genre of a new era as the world struggled to embrace a new normal. The emergence of new technologies which revolutionised the world of financial services has sprouted the portmanteau Fintech, which today has assimilated into our daily lingua. Perhaps it can be said that pre 2020 were years of innovation, whilst the pandemic “leap-frogged” 2020 as the year of adoption.

The tsunamic adoption of digital technologies vis a vis Fintech, has brought about an accelerated maturity of the digital landscape which bolstered the courage of regional regulators to spring board its digitisation efforts with the introduction of digital banking. These efforts were made apparent when the Hong Kong Monetary Authority introduced the Licensing Framework for Virtual Bank in 2019 and soon after the Monetary Authority of Singapore followed suit and issued four licenses as of late last year.

Trailing closely, Bank Negara Malaysia (“BNM”), had equally introduced an exposure draft on the digital banking framework in December 2019 and an updated exposure draft in March 2020. After two rounds of public consultation, the Digital Banking Licensing framework has taken its full form on new year’s eve, greeting the Malaysian economy with an excitement for the year 2021 and 2022.

Licensing Framework for Digital Banks (“Licensing Framework”)

The Licensing Framework came into force on 31 December 2020. The Licensing Framework can be divided into three main parts which set outs the requirements for the establishment of a digital bank:

• The eligibility requirements and application procedures that must be complied with by an applicant intending to carry on digital banking business or Islamic digital banking business.
• The business limitations and regulatory framework applicable to a licensed digital bank during the foundational phase.
• The business activities that must be undertaken and the physical access points that may be established by the licensed digital bank

The criteria that a licensee must ensure the best interest of Malaysia, as specified under Schedule 5 of the Financial Services Act 2013/ Islamic Financial Services Act 2013, remains as one of the main considerations for assessment by BNM. The Licensing Framework further suggests that an applicant may reflect such commitment to meet the best interest of Malaysia criteria by offering BNM an enforceable shareholders’ undertaking on the same. This is in addition to the application and assessment process set out in the policy document on Application Procedures for New Licences under Financial Services Act 2013 and Islamic Financial Services Act 2013 (Licensing Procedures).

BNM further introduces a foundational phase of three to five years and further requires the submission of a business plan that covers a five year period. During the foundational phase a licensee must maintain a minimum amount of capital funds of RM100 million unimpaired by losses and the total size of assets must not at all times exceed the limit of RM3 billion. By the end of the fifth year from commencement of operation, a licensee must comply with all regulatory requirements applicable to an existing licensed bank or licensed Islamic bank and achieve a minimum amount of capital funds of RM300 million unimpaired by losses.

In respect of business plans, it is noteworthy that BNM places significant emphasis on financial inclusion. Applicants must align their business objectives to serve the unserved and/or underserved segments. Clear identification of target segments as well as proposed financial products offered must be clearly stated and solutions addressing the specific needs of the target segment must be clearly explained. The requirement to include pro forma financial statements as well as a projected profitability path demonstrates BNM’s emphasis on business continuity. Nonetheless, an applicant who does not expect the proposed licensed digital bank to break even within the first five years may indicate in the pro forma financial statements the expected year where breakeven is possible.

As the introduction of the digital bank may expand and introduce the adoption of new and possibly untested business models, BNM has further included in the Licensing Framework the need for an exit plan to be submitted in the event such business model may prove to be unsustainable or ineffectual. Such exit plan must include amongst others, the potential management triggers for exiting the business which clearly defines that the business models is unsustainable and/or the materialisation of risks is beyond the applicant’s own risk appetite. It is also imperative that the exit plan must include measures and options which will minimise any disruption to its customers and the financial system.

Apart from measures and requirements which a proposed licensee is required to take heed of, the Licensing Framework further provides room for collaboration, especially in the area of financial infrastructure. The Licensing Framework allows for commercial arrangements (subject to BNM policies and guidelines such as Outsourcing or Risk Management in Technology) where the proposed licensed digital bank may perform the business of paying or collecting cheques through commercial arrangements with existing licensed banks. The licensed digital bank may also participate in the Shared ATM Network and any other cash-out services, as well as enter in commercial arrangements with licensed banks and licensed Islamic banks for the use of the respective banks’ network of self-service terminals, including ATMs, cash deposit machines, cash recycler machines and cash deposit machines.

Interestingly enough, BNM also addresses in the Licensing Framework that a licensed digital bank is allowed to carry out activities related to digital assets. In relation to digital asset activities, the licensed digital bank must meet the regulatory requirements set by the Securities Commission of Malaysia and BNM. Where usage of digital assets is for payment purposes, laws and regulations relating to payments and currency matters must be complied with. However, it must be noted that digital assets are not legal tender and are not a payment instrument that is currently regulated by BNM.

The application submission deadline is fixed for June 2021. BNM has further indicated that only five licenses will be issued, and thus the race has begun.  Whilst that may be so, the pursuit for a digital bank licence, is not of a single sprinter but very much a relay that requires the convergence of multiple stakeholders in the Fintech ecosystem. Perhaps this may mark the start of a symbiotic ecosystem where the convergence of specialist in each vertical may prove to provide a more holistic set of Fintech services.

If you have any questions or require any additional information, you may contact Jonathan Lim or the Zaid Ibrahim & Co. partner you usually deal with.

This alert is for general information only and is not a substitute for legal advice.