Europe’s student loan market turns to non-banks
Future Finance plans European expansion; more non-bank student lenders expected.
Future Finance, the UK and Germany’s only established non-bank student loan originator, received another seal of approval in March when it raised €150 million from investors including QED and Blackstone to supplement its credit facility with Goldman Sachs. Future Finance, set up by US-born Brian Norton, is seeking to fill the gap in the European student loan market by going where banks will not. The firm started in the UK in 2014 and issues loans of £2,500 to £40,000 to students to help pay tuition and living costs.
Norton says the UK was ripe for such an offering. Dramatic changes over the last 20 years have resulted in the “desocialization of education” as he refers to it. In the UK a university education has gone from being free to costing £9,000 a year in tuition fees. With living expenses as well, a three-year degree in the UK can cost £60,000. “We saw a gap opening up where the wealthy can afford to go, or the poor may qualify for subsidies but the middle is where there is a real squeeze, with very few options to finance further education other than through credit cards or payday loans,” says Norton.
By comparison, the US private student-lending market is saturated – a more than $200 billion industry. Norton says drawing from the US as an example enabled the firm to “take the parts of student financing from the States that worked, and discard those elements that did not.” Future Finance has seen the chance to open up a new market in Europe, and made the process more streamlined and more supportive of longer-term relationships with consumers than in the US.
Firstly, Future Finance’s student loan applications are made using a mobile device or computer. There are no branches and no paperwork, and roughly half of all students who apply do so on a mobile device. About half of those who apply are approved, and it takes roughly six minutes to complete an application.
The second difference is that loans are based on expected future earnings. Using big data, Future Finance has developed an algorithm that predicts earnings based on a matrix of the university chosen and the course studied. “It’s not always what we typically think,” says Norton. “Nursing students from Southbank University have a higher graduating salary that many students from Cambridge, for example.”
Where Future Finance also differs from private loans companies in the US is that students have to start paying back loans immediately. The theory being that if students wait until they graduate to start making repayments, they won’t have developed a relationship with Future Finance and are therefore more likely to default.
Not only that, says Norton, but the earlier payments force students to start building a credit history and improving their credit score. “So far we have originated 3,500 loans, and default rates are very low,” he says. He also says Europe offers greater chances for graduating students to enter into professions that will enable them to make payments. That is in stark contrast to the US, where graduates often end up with mortgage-sized loans and jobs that do not require a degree.
All Future Finance’s loans have 10-year terms that can be prepaid, with payment holidays granted if borrowers are struggling to find a job. Banks would not be able to offer a product designed like that, says Norton.
It is an attractive proposition for investors. Loans are not cheap. Interest rates are at least 8%, with the average APR at 11.3%. As Norton points out, Future Finance’s loans are not a replacement for government-subsidized bank loans where they are on offer. Rather they are to help students who instead would be forced to pay higher APRs for credit cards or payday loans.
Over time the aim is to lower the APRs. “We are partnered with 33 universities right now, which helps us keep the cost of marketing down and allows us to remain competitive,” says Norton.
He is hopeful investors will become increasingly comfortable with the model and might even start to view it as social-impact investment. The feedback from borrowers is certainly encouraging. Many say that they would not have been able to go to university without the aid of a private loan. The number of students in the UK has declined since 2010.
Now Norton’s taking his model on the road. Future Finance launched in Germany at the end of December and expects to extend its reach across Europe over time. There are 2.3 million students in the UK and 2.5 million in Germany. “To get to £1 billion in loans for both countries? I think that is just a matter of time,” says Norton. So far it has underwritten 3,500 loans, totalling more than $36 million – 900% year-on-year loan growth.
He may well be sharing that £1 billion with more competitors however. “There is a real need for support that no one is providing right now in Europe, so we highly expect other firms to join us in this market. That said, the analytics are very complex, the underwriting is complicated, and being that the loans are 10 years in nature, it will be more of a challenge for new entrants than some of the other non-bank markets,” says Norton.
Will Future Finance and its followers start eating into bank retail accounts in the same way that peer-to-peer lenders have? It’s highly possible. Norton says his firm plans to offer other types of credit once students have graduated. “There is no reason we couldn’t help finance a masters degree, and then move into down payments on mortgages. Then we will start to bump up against the banks.”