If bank executives want to learn how the core business of lending to companies may be transformed by data analytics, artificial intelligence and increasingly digital processes, they should pay close attention to the marketplace for lending to small and medium-sized enterprises (SMEs).
Katrin Herrling is founder and chief executive of Funding Xchange, a UK marketplace platform on which SME borrowers just need to provide a few details on their businesses, the amount of funding they need and what they want it for and, within three minutes, they will be shown all the financing options for which they are eligible from 45 lenders, along with the terms they will receive.
Other companies have tried to aggregate SME lenders that borrowers may not know about but might otherwise finance – Finpoint, for example – but not with this degree of automation.
“Access to data is transforming this market and making it much more transparent,” says Herrling.
“Our system connects to the application program interfaces (APIs) of the leading credit reference agencies, such as Experian. Within three to four seconds, it draws their data on a borrower and our system then runs it through the credit underwriting models of our lenders, including eligibility, affordability and risk pricing. It then shows all the financing options for which a borrower is eligible and the indicated charges.”
The customer will typically see four or five options and can then decide which to apply for. Only then do lenders learn of this company seeking funding.
Herrling says: “In some cases, where a lender such as iwoca, for example, allows us to access their loan application process through their API, a borrower can have funds in their account within 10 minutes.”
The commercial agreements Funding Xchange has with its lenders mean that using the platform is never more expensive than going directly to the lender or bank. This benefits the lenders as the costs of their products is not increased. And it gives the businesses peace of mind that they are not being charged any fees or commissions that they could avoid by going direct.
Many SMEs that have been turned down by their main bank might ask a broker to find a commercial lender for them. But brokers charge fees typically of 6% to 8% of the loan amount. And there is no guarantee that they will direct borrowers to the best funding potentially available.
Funding Xchange is free for borrowers to use and 30,000 come through the system each quarter.
All the big UK banks – Barclays, HSBC, Lloyds and RBS – are on Funding Xchange, along with challenger banks such as Metro Bank, some non-UK banks such as Danske, marketplace lenders such as Funding Circle, product specialists such as Market Invoice and emerging leaders in SME finance like iwoca.
What has Herrling learned from negotiating with these lenders and tracking the journeys of borrowers?
“Ten years ago, a typical SME business customer had operated on average for eight years and had an asset-focused business model," she says.
"Today, that means that bank is missing about 80% of the SME sector, which comprises fast-growing numbers of young, small, service businesses, many of them thriving but most with thin credit files and short trading histories. These are companies that the banks are not well set up to serve. And neither, by the way, is the accounting industry, which explains the rapid take-up of cloud-based accounting software services.
“The costs of serving these businesses are simply unsustainable for banks unless they go digital.”
Some banks think this digital journey is all about hard technology. It’s not. It’s actually about data analytics- Katrin Herrling, Funding Xchange
Regulators have focused on banks’ dealings with SMEs as a vital part of the economy that banks have overcharged in the good times and abandoned in the bad. The UK referral scheme requires banks that turn down an application for credit to pass businesses on to other potential lenders.
At the start of 2018, Funding Xchange found that only 14% of companies turned down by their main banks were judged viable credits by other lenders. In 2019 that number rose to 20%. What’s more, in many cases these perfectly bankable credits can now get better terms from alternative lenders than typically offered to SMEs by the very banks that turned them down.
Some perfectly viable borrowers are being rejected because banks have hit concentration limits for exposure to certain troubled sectors like retail, construction or accommodation.
Funding Xchange already provides the technology underpinning for price comparison sites such as MoneySupermarket.com to display options to business borrowers. It has just raised £8 million of funding to white-label its digital decision platform directly to banks and other lenders to provide a better user experience for their business customers.
Herrling says: “We are also integrating with cloud accounting software packages, so that small companies might plan cashflow better and see prompts to survey options to raise financing on much better terms a few weeks before they are likely to need it, instead of, as often happens today, only applying when they need the money yesterday.”
How does she see the future of the business?
“The more companies grant access to business current account data and cloud accounting data, the more business lending will become automated and the slicker the user experience will be, just like it is for personal finance. Some banks think this digital journey is all about hard technology. It’s not. It’s actually about data analytics.”
She adds: “Banks would be advised to look not for eight-year trading histories, but at what has been happening with customer payments in the last three months.
"And we see some banks are just starting to realize that they can still own the customer relationship, manage a company’s bank accounts at a good return, and that, far from being damaging, it can actually be much better for the bank if someone else lends money to its clients.”