Cashflow may be the lifeblood of small business but access to capital comes a close second.
“For small business owners that want to borrow less than $250,000 and aren't able or aren’t prepared to offer property as security, it's a battle,” says Neil Slonim, founder of small-to-medium enterprise (SME) advocate theBankDoctor.org. “So where do they turn?”
Less than half of 508 small businesses surveyed by CPA Australia in 2016 said they found it easy or very easy to access external finance. Traditional lenders typically view the sector as complex, time-intensive and higher-risk.
However, more than a dozen FinTech providers are beginning to fill that gap and provide a much-needed capital injection to Australia’s 2.2 million SMEs. Their selling point is easier applications and quicker decisions – important factors for SMEs seeking relatively small loans and short terms – according to a recent survey of FinTechs.
The two major business models are balance sheet lenders, such as Prospa, Moula,Banjo, SpotCap, OnDeck, Capify, and Get Capital; and marketplace (or peer-to-peer) lenders, such as Thin Cats, True Pillars and BigStone. Balance sheet lenders primarily rely on institutional funding and use technology to assess the credit-worthiness of customers while marketplace lenders use technology to match lenders and funders directly.
Slonim says he is a major supporter of alternative online lenders but the sector is still grappling with low levels of awareness among SMEs and poor transparency which makes comparing products difficult.
“Three years ago I looked at the various offerings via their websites and I couldn't really decipher one from the other – and I'm a banker with 30 years’ experience. I thought ‘if I can't work out who's who in the zoo then what chance does the little guy have?’."
Slonim co-authored the recent report, Fintech lending to small and medium-sized enterprises, in conjunction with the Australian Small Business and Family Enterprise Ombudsman (ASBFEO) and FinTech Australia. The report called on FinTechs to improve transparency and disclosure around borrowing costs.
Building trust and transparency
Trust remains a key issue for the financial services sector and, while a relatively new player, FinTechs are not immune.
Slonim says some alternative lenders would claim ‘no penalties apply’ for the early repayment of a loan even though borrowers were still liable for the unexpired interest over the full loan term.
“They say there’s no penalties for prepayment of our loans, which is technically correct because what they're charging you isn't a penalty – it’s in the loan agreement. These are issues that are not always clearly spelled out in loan agreements and may well be hidden in small print down the back. Time poor financially unsophisticated small business owners don't take time to read the small print.”
Interest rates can also be extremely high but disclosure does not always make that clear. For example, Prospa, the market leader in the SME fintech lending sector, charged its customers an onerous average annual loan rate of 41.3%. However, the company used a "factor rate" in its advertising, which can provide a lower figure.
Prospa was set to list on the Australian Securities Exchange in June 2018 but the float was delayed at the last minute after a broader industry review of small business lending contract terms by the corporate regulator.
The alternative lending sector is growing quickly but issues of disclosure and contract terms pose the threat of heavier regulation.
Australia’s alternative finance sector, which includes crowd-funding and FinTech consumer lending, was ranked as the second largest in the APAC region behind only China, according to the Asia-Pacific Alternative Finance Benchmarking Report although FinTech business lending remains a small proportion of total business lending.
FinTech Australia endorsed the ‘Fintech lending to report’s findings and recommendations, which included establishing a code of conduct and small and medium-sized enterprises’ ensuring compliance with the unfair contract terms legislation introduced in 2016.
The code covers fintech balance sheet lending for unsecured business loans and prescribes comparative measures such as annual percentage rates and the total loan cost to potential borrowers.
Big banks make small forays into alternative lending
The Financial Services Royal Commission, which reviewed several SME case studies, has focused on banks duty to ensure that small business customers could repay their loans rather than relying on security such as residential property. Analysts suggest that it may make banks more conservative, raise loan approval requirements and lengthen application times.
However, the major banks are also watching the sector closely and some have made their own early forays into online lending. NAB’s QuickBiz arguably offers the lowest price unsecured business loans among the current crop of alternative lenders, including FinTechs.
“But you don't see a lot of promotion of it because I think it's a matter of being in the market to gain experience of how this small sized fintech lending market evolves,” Slonim says. “In due course, if it’s apparent that these businesses can generate good returns the banks will buy them. Interestingly that hasn't happened to date – that tells you something.”
While interest rates remain at historic lows and credit conditions have been benign, Prospa’s bad debts accounted for about 20% of net revenue in fiscal 2017, according to its prospectus. Its average loan size is just $26,000 and it has no requirement for security if loans are below $100,000.
While many alternative lenders use proprietary technology to enable a more precise assessment of risk, the sector has yet to be tested by a broad economic downturn.
This article represents the views and opinions of the author and do not necessarily reflect the opinions of BPAY.
Published by BPAY Pty Ltd. BPAY is offered by over 150 Financial Institutions. Contact your Financial Institution to see if it offers BPAY and to get the terms and conditions. This is general advice – before using BPAY please review the terms and conditions and consider whether BPAY is appropriate for your personal circumstances.