This week, Neva Finventures, the venture capital arm of Intesa Sanpaolo, Italy’s largest bank, took an undisclosed minority stake in iwoca, the pioneering fintech firm that extends flexible short-term overdrafts and working capital loans to small businesses in the UK and Europe. It is another sign of incumbent banks seeking to adapt new technology built by outsiders into the very core of their lending business.
Iwoca was founded in 2012 aimed at the kinds of small businesses, typically with fewer than 10 employees and turnover measured in the hundreds of thousands of euros – coffee shops, clothing designers, jewelers, beauty salons – that mainstream banks do next to nothing for. The founders of such companies often borrow against their own homes and fund working capital off their personal credit cards and later from cashflow because they lack the three-year trading histories and the collateral that banks typically demand for the medium-term secured business loans that it suits the banks to provide.
Central bank surveys of loan demand and credit conditions often miss this. A small proportion of SMEs, often those with annual turnover measured in millions or even tens of millions of euros, may want medium- to long-term funding for capital expenditure and it is encouraging that demand for this now finally appears to be picking up in Europe. But most need short-term working capital to cover payment gaps when big customers delay invoice payments or to grasp opportunities to acquire stock or raw materials, often imported.
Banks are slow to provide that kind of working capital and, because it is as costly for them to underwrite and service as a big term loan, they make it expensive.
Iwoca has funded 10,000 businesses since it started, extending the equivalent of £200 million in credit off its own balance sheet in 28,000 separate transactions. These are typically overdrafts of up to €100,000 that businesses can apply for and receive within hours, rather than the weeks it takes to negotiate bank credit. There are no hidden commitment fees for unused facilities. Borrowers can prepay at any time they wish and are charged interest only for the period when lines are drawn, with monthly rates as low as 2% for the best credits.
Iwoca was a pioneer of scoring credit underwriting from the abundant data on merchant platforms like Alibaba and Amazon that provide insights into the performance of many small businesses. It puts the number of such small businesses as high as 40 million in Europe and is ambitious to serve as many as 1 million of them by 2025.
To do so, it will have to work with partners including other fintech companies and big banks.
|Christoph Rieche, iwoca|
That’s a problem that is not picked up in ECB and Bank of England lending surveys that now paint a rosy picture of easy lending standards for SMEs, with between 75% and 80% of loan and overdraft applications being approved. The success of strong medium-size companies disguises the experience of the small borrowers who may go into the branch to enquire about working capital, but, when presented with requests for years of financial data or collateral they do not have, don’t even waste time lodging an application.
They are not the few rejected: they are the many and uncounted discouraged that never formally request a loan, either because they know they won’t get one or because banks don’t offer what they actually need: credit that is short-term, flexible and moderately priced.
Among industry bodies, the uglier truth obscured by loan-officer surveys is leaking out. At the start of July, Boston Consulting Group analyzed the potential disruption of wholesale financing available to small and medium-sized business in the UK and Europe that might follow from a so-called hard Brexit, where the UK gives up full access to the EU’s single market and customs union.
Simon Lewis, chief executive of the Association of Financial Markets for Europe (AFME), which participated in the study, says: “The clear message from our report is that our interviewees, especially small firms with customers or suppliers cross-border, believe that a hard Brexit could impact their businesses and growth. Both SMEs and large corporates also face potential disruption in the provision of wholesale financial services, which in turn will lead to a higher cost of capital for businesses.”
Ahead of the G20 summit in Hamburg earlier this month, the International Chamber of Commerce released a study into trade finance that shows banks’ reduced capacity to supply is failing to keep pace with demand. No prizes for guessing which kinds of customers are worst affected. John Danilovich, ICC secretary general, says: “Results of the survey underscore the chronic shortfall of trade finance for small business.”
Rieche suggests that enabling provision of finance to the new small companies that are a key engine of employment and growth will rise up the policy agenda.
“We will see a lot of people leaving large companies thanks to automation and seeking to set up small businesses offering a personalized service or product. Ensuring capital and funding to this segment will have massive multiplier effects.”
Iwoca hopes to grow the business beyond its own capacity to lend even after multiple venture capital funding rounds and arranging of its own syndicated bank lines of credit.
Intesa Sanpaolo now joins as a shareholder next to CommerzVentures, an early backer of iwoca. Rieche says: “We can help Intesa Sanapolo to develop systems to better service small business customers at the point when they come into the branch and enquire about finance. This agreement underlines that we have learned a great deal quite quickly since launching as a pioneer. As we pass 10,000 customers, we are benefiting from access to more and more data and better understanding of credit differentiators.”
Maurizio Montagnese, chief innovation officer at Intesa Sanpaolo, stresses the strategic rather than the financial nature of the investment in a stake in iwoca. He says: “It strengthens the Intesa Sanpaolo Group's position in the area of new business models and specifically in highly innovative digital financial services. The industrial synergies between iwoca and Intesa Sanpaolo could be significant in the coming years and allow the Intesa Sanpaolo Group to enter segments of the market not served by other banks."
Its arrangement is not exclusive, however. As well as working with Intesa and Commerzbank, iwoca also works with Hypovereinsbank in Germany, while in the UK it earlier this year joined the capital connections panel set up by RBS to direct rejected borrowers to other potential providers of finance.
“The UK has made a great start in requiring banks to refer borrowers they reject to alternative providers,” says Rieche. “It would be useful to extend that beyond those that request a loan and are rejected to those that enquire about credit and are discouraged from ever formally applying.”
New entrants continue to attack weak bank offerings to small businesses. In July, Tide, a new banking app aimed at small businesses that offers a current account and software for making payments and sending invoices, raised £12 million in a funding round and brought in iwoca as a credit provider.
“Tide is a real showcase that we’re very excited about,” says Rieche. “I am not aware of anything else like it: a banking app for small businesses that is almost an entire dashboard for managing their finances into which our credit product is now integrated.”
New entrants specializing in specific financial products or customer markets are natural enthusiasts for open banking and for banking as a platform service.
Rieche is also happy to work with the incumbents. “Remember, we are still a start-up. It takes time to build systems when you are pioneering in a new asset class. We can help bigger organizations serve their customers better and faster.”
Rieche puts iwoca’s loss experience so far in the low single-digit percentage points. He says: “Primarily to this point we have taken principal risk on our own balance sheet. In future, it is quite likely that some of that loan origination will be third-party provided and that we will take on more of a servicing role.”