As fintech investors, lending is at the heart of what we do. In recent years, though, our approach to investing in lending and lendtech startups has evolved, as we have integrated past learnings to bet on future winners.
Over the last decade of innovation in lending, a number of product and business models that benefitted from a lot of hype in their early stages have not followed through. Either they have not grown to their full potential, or they have not reached the value on public markets that they had expected.
One example of the former is P2P (peer-to-peer) platforms, which have been subject to a ‘glass ceiling’ relegating them to niche players. What was perceived as the ‘biggest disruption in the history of banking’ in the early 2010s has stagnated, with minimal changes to market share.
With respect to not reaching expected value on public markets, this is less of an industry issue, and more to do with many lenders forgetting about the need to interact with capital markets efficiently. This leads to building that indispensable part of the business far too late in their growth trajectory, which requires more company resources than most founders would want. Too often, access to capital markets is the ‘break it or make it’ factor hindering real scale.
We have also seen how, when the drive to leverage emerging and innovative technology of the early days fades away, many neolenders become ‘just another credit provider’ in the eyes of their clients. This is key: all innovation in lending has been marked by a tension between being and remaining a technology company—and retaining such recognition by the public—and building ‘yet another good old incumbent’.
So, where does that leave fintech investors?
Well, we have come to terms with one thing: lenders are lenders. That means that there will have to be compromises. No matter how cool a lender is, they will have to turn down some applicants. No matter how innovative they are, they’ll need to adapt their language to ensure that they can communicate their value to the capital markets operators that are needed to fund them.
Those considerations create questions around how new lenders can maintain their ‘tech-enabled’ status as their business grows. In our view, it’s about changing the way lending is viewed—moving it from a necessary point on a journey to the destination itself.
Lending as a destination in practice
How can lenders, and indeed, their venture capital partners, start to move this needle?
First, by thinking about utility rather than economics. Consumers and businesses don’t only care about the nitty gritty such as APR and annual fees. Of course, they want to be secure in the knowledge that they aren’t being ripped off, but much like any other financial product, their primary driver is the utility that credit gives them.
For consumers, this might be whether they’ll be able to afford to purchase the products they desire, or to keep their family afloat if things don’t go as planned financially. In the world of microfinance, this has been embedded into the culture, but those basic human behaviours apply to all clients, even those with deeper knowledge of the financial industry.
Second, by adapting, rather than imposing. Incumbent banks themselves would likely admit that creating products that adapt to fast-changing client needs is not one of their strengths. This is particularly true in the business lending space, where on-boarding can take weeks, and credit scoring is often based on data like last year’s balance sheet, or information on at least three years of operations. This has created a significant gap in the ecosystem, where venture-backed startups growing threefold each year, highly seasonal retailers, or businesses that have just hit the headlines and need support meeting new demand, have nowhere obvious to turn.
This is a gap that lendtech startups can and should fill. This starts with being ‘data-smart’ at onboarding, by creating data structures that allow the lender to be a step ahead of clients’ needs. As with all financial products, the customer experience is also crucial, and neolenders should prioritise speed, availability and transparency throughout the underwriting and disbursement processes.
Finally, lenders should focus on building their share of mind to fight irrelevance. Regardless of the sector, if you want to be a tech company, you simply must be product-led. More than this, though, the ambition should be to become a core, and even branded, part of clients’ financial and operational lives. That requires rethinking product/market fit beyond basic lending considerations and building functionalities that enhance the user experience beyond the credit cycle.
Those that thrive, rather than survive, will go one better and develop functionalities that have standalone utility while also improving the lending experience. Of course, this still leaves the question of how verticalised the lending experience should be, but that’s a whole separate discussion!
There are a select few neolenders that are innovating in line with these principles, and these will be the businesses that build a reputation for themselves and drive the sector consolidation that is no doubt coming. Those that don’t will be left behind.