Six fintech innovations that bank lenders must embrace – and fast
“Banks behaving badly” shouldn’t be the way we remember how the UK’s leading lenders supported struggling small and medium-sized enterprises (SMEs) during the COVID-19 crisis.
Yet, with a charge sheet currently comprising unfair interest rates, lengthy application processes, and demands for personal guarantees for government backed loans, this is the verdict likely to be handed down.
A recent report suggests that 64% of the UK’s SMEs expect their revenues to decrease by half in the coming months. The government has attempted to stimulate lending to SMEs through its Coronavirus Business Interruption Loan Scheme (CBILS). But despite the urgency of the situation, the response from big banks has been dismal. SMEs facing a cash flow crisis have complained of banks being slow to administer funds, demanding onerous levels of loan security and attempting to divert applicants to higher interest rate products (despite the Bank of England slashing its own interest rates to historic lows).
Legacy lenders’ approach to SMEs is in stark contrast to the alternative fintech community, which has been endlessly inventive in its approach to SME lending products and services. Even during the COVID-19 crisis, tech-based lenders are pushing to play a more active role in supporting SMEs. So to give big banks a few ideas about how they could be helping SMEs beyond the current crisis, here’s a review of cutting edge tech – the kind of innovators that could stimulate recovery and keep this essential sector alive.
1. Using data and psychometrics to assess creditworthiness
The first obstacle for SMEs seeking funding is proving they can service a loan. Many businesses, especially in the first couple of years of operation, are rejected by big banks at the point of application or offered punitive interest rates despite being perfectly viable.
One reason for this is that banks typically turn to credit bureaus or company accounts to inform their decisions. This means they are constrained by a narrowly-defined data set that leaves them little room for manoeuvre. Fintechs, by contrast, base their decisions on a much wider set of parameters. A case in point is India-based Capital Float, which assesses applicant suitability based on 2,000 data points. This data comes from an array of sources including online customer feedback and transaction history from ecommerce marketplaces.
Another factor that sets Capital Float apart is its psychometric assessment. The platform asks applicants questions aimed at gauging the extent to which founders have the ability to scale a business, their attitude towards credit and how they compare to competitors. Using these qualitative, soft data points is a powerful and differentiated way of understanding creditworthiness.
2. Deploying accounting integration to provide invoice financing for short term needs
With three-quarters of UK business owners reporting that invoices due to be settled at the end of February have not yet been paid, the current COVID-19 crisis is a perfect use case for invoice financing.
This is where providers like Fundbox come in. Fundbox provides businesses with advance funds that cover the exact amounts of specific unpaid invoices. For example, if a client always takes three months to pay and an SME suddenly needs to make a major capital investment, they can seek an advance against this specific client’s invoices – then pay back in instalments. The Fundbox business model also makes rapid payment a priority – another area where traditional banks have often fallen down. To use Fundbox, clients don’t have to fill out an application—they just create a Fundbox account which is quick to set up and can be easily linked to the client’s accounting app. Once signed up, they can clear any unpaid invoice at any time and get the funds transferred to a business bank account right away.
3. Harnessing AI to transform lending into a long-term partnership
AI is having a transformational impact on myriad facets of the financial services sector – from process automation and personalised banking to risk management and fraud prevention. In the context of SME lending, AI is a way for financiers to build a more responsive and flexible relationship with smaller businesses.
Automated cash flow provider Kabbage has lent around $7 billion in capital to 185,000 businesses. It sees AI as playing two key roles. Firstly, in enabling it to speed up the SME loan application process. Secondly, in allowing it to make continuous ongoing assessments of its customers’ financial situations. By working with real-time banking and accounting data, the platform can quickly identify when its companies are getting into trouble and are at risk of default.
This only really scratches at the surface of what AI can do, however. When all of this data is accessible, fintech lenders can make constructive interventions – such as advising companies to pay down their loan more quickly if they have a stronger than average month or quarter.
Once a lender has understood the pattern of the business over a period of time, it can also anticipate future lending needs. If Q4 revenues under-perform, for example, it may mean a squeeze on capital investments in the following year. AI has the potential to enable lenders to offer proactive personalised advice to SMEs on how to manage cash flow going forward and to recommend tailored products, such as an affordable instalment plan for funding business critical investments.
4. Creating an added value ecosystem to support SME customers
While the cash flow crisis instigated by COVID-19 means the current focus is on helping SMEs access funds, longer term the real winners in the race to win SME loyalty will be those who identify opportunities to help SMEs beyond lending.
Global fintech OakNorth is a case in point. A leading disruptor whose current market valuation is around $2.8 billion, a lot has been made of the OakNorth Platform that drives the company’s lending decisions. But just as important has been the engagement ecosystem it has built around its tech. OakNorth’s entrepreneurial approach has enabled it to build a powerful network between clients. These clients can meet each other at events and look for synergies among their business.
Canadian-based OnDeck is another fast-growing fintech lender that has been looking for ways to create points of distinction and build loyalty in what has become an increasingly indiscriminate market. So it provides dedicated advisors to help SMEs navigate the application process. It also reports online payments to bureaus so that companies can build an enhanced business credit profile.
5. Building ongoing relationships through a membership model
Joining ‘the borrowing club’ is particularly stressful for SMEs – which is why so few of them bother trying to access external finance. However emerging fintech players like Tide have offered a solution by creating a suite of products for pre-approved applicants. Members of the fee-paying Tide Plus service can access a credit line of £1000 as well as features including an account manager, phone support, legal helpline and free bank transfers. Because customers are pre-approved, they can immediately activate the product without any need for an application. In late 2019, Tide secured $54 million in Series B funding. At the time, Tide CEO Oliver Prill explained: “Securing more funding means we can accelerate our strategy to capture a significant share of the UK SME banking market. We want to challenge the oligopoly that has dominated and failed SMEs for too long.”
6. Linking repayments to real world performance
Monthly loan repayments always cause a sharp intake of breath. They come round faster than expected and always seem to collide with other commitments. The PayPal model of taking a share of every individual sale is a way of spreading the pain. It’s flexible, so that the platform doesn’t start to apply pressure if the customer has a slower sales month or two. Since the initial loan is linked to sales track record, the whole process is unlikely to get out of hand.
There’s a similar set up at Decimal Factor, which allows merchants and businesses to put working capital against future credit card sales. SMEs only pay back when they get paid – as a daily percentage of card sales via the merchant card terminal. Decimal Factor also fits the trend towards value added services through its payment services programme.
Traditional banks have a critical role to play in helping as many SMEs as possible survive the COVID-19 crisis. Right now, their track record leaves a lot to be desired. If they don’t step up fast, the banks risk coming out of the pandemic with their reputations as tarnished as the likes of EasyJet, Carluccio’s, Travelodge, Topshop and Waterstones.
The reality is that the big banks’ attitude towards SMEs is an extension of the way they have been behaving for more than a decade. While fintech firms have embraced the pioneering potential of data, digital technology and open banking to create flexible products and services for SMEs, traditional banks have been much slower to meet this sector’s needs.
The COVID-19 pandemic has made it clear that the banks’ lack of customer-centricity is a grave misjudgment. It’s not too late for legacy lenders to learn from their innovative Fintech rivals. Traditional banks that are willing to grasp the potential of data and AI have a chance to reimagine their relationships with SMEs. By building targeted, personalised and added value partnerships, banks have an opportunity to reconnect with SMEs for the first time since before the 2008 crash.