Peer pressure

In a nutshell, P2P lending involves people with money to invest providing loans to those who require funding for specific purposes. Rather than using a bank, the transaction takes place using a web-based platform to connect lenders and borrowers, and generally provides a range of services including processing payments, spreading risks between arrangements, checking the financial status of potential borrowers, managing defaults and providing a status on the loans taking place.

Martin North, principal of Digital Finance Analytics, says the reason why P2P lending is so attractive to investors is because they may be able to command a higher rate of return compared to standard bank deposits.

“Their capital is not protected like when depositing with a bank, so the higher returns reflect the higher risks,” he explains.

“If the borrower defaults, they lose their cash – unless the P2P lender has some type of insurance arrangement.”

Borrowers may also be able to source funds at a cheaper rate, he adds.

Mr North does not see P2P lending as more complicated than traditional lending – just different.

“The P2P lender does not take on credit risk – rather, it creates many-to-many relationships to share the risks between borrowers and investors. As a result, it is not regulated like a bank, and is driven from the point-of-view of a matching service – the better the matching, the lower the defaults,” he says.

A Morgan Stanley report on global marketplace lending, published in May, estimates the total addressable market for P2P lenders in Australia is currently worth $75 billion, and is expected to grow to $87 billion by 2020. Furthermore, the total addressable market for small to medium-sized enterprises (SMEs) equates to $72 billion - forecast to reach $95 billion over the same period.

While P2P lending is very much in its infancy here in Australia, the model has been relatively successful in other global markets – particularly the US and the UK.

Troy Phillips, director of Sydney brokerage FirstPoint Mortgages, says the structure of these two markets and the way they were left after the 2008 GFC created a demand for P2P lending.

“The US being entrepreneurial, and the UK driven by the lack of money for investment properties, meant P2P found a niche,” he told The Adviser.

“San Francisco and Silicon Valley has gone – and is going – crazy with start-up businesses, and with interest rates being close to zero per cent [in the US], investors are looking for better returns than on offer at the banks.”

Mr Phillips points to Lending Club as a prime example. Founded in 2007 and initially launched as an app on Facebook, Lending Club was the largest unsecured consumer lender in the US, with 60 per cent market share by 2014, according to Morgan Stanley.

The company’s core focus is its unsecured consumer loan product, but in 2014 it expanded into education and healthcare financing, and also launched an SME product.

“Management expects to introduce one to two new products per year going forward. In 2014, the company originated $US4.4 billion of loans, which we expect to increase to $US7.9 billion in 2015,” it said.

Mr Phillips says UK lender Landbay is another company making ground in the P2P sector.

“They started off specialising in investment property loans, or ‘buy to let’ as they call them,” he explains.

“Again, post-GFC, banks stopped lending money for investment properties – and the banks and building societies weren’t even seen as a safe place to keep money. Landbay went into the investor market, and I think their losses have been minimal to date.”

Risk and regulation

When it comes to determining risk, P2P lenders use advanced analytics to assess potential borrowers and funders, according to Mr North.

He says a lot of the assessment criteria would be familiar to a banker – such as the purpose of the loan and the profile of the borrower – but can become quite sophisticated and real time, allowing for more instant feedback.

“Typically, a P2P lender will only approve a proportion of the applications – sometimes around 20 per cent – and the risk appetite of potential investors, as indicated by their target investment return for example, will be matched to the relative risk of individual borrowers,” he explains.

Here in Australia, P2P lenders have to offer a prospectus to help navigate potential investors through ASIC’s compliance hurdles. As P2P lenders are not considered authorised deposit-taking institutions, APRA is not involved in their regulation.

According to the product disclosure statement of RateSetter Australia – a P2P platform originating in the UK – it is not a bank, and investment by funders is not considered a deposit. As such, it does not benefit from depositor protection laws.

All loans made to borrowers, however, are subject to the provisions of the National Consumer Credit Protection Act 2009 and its related regulation.

Mr North adds that the credit regulation in Australia for SMEs is far looser than for consumers, which is why P2P lending to SMEs is likely to be a focus.

Local players

Founded in 2011 by Matt Symons and Greg Symons [no relation] and launched in 2012, SocietyOne was Australia’s first P2P lending platform.

Having witnessed the success of P2P lending in the UK and the US, both Matt and Greg shared the belief that it would also have the potential to shake up consumer credit in Australia.

“We pioneered risk-based pricing by offering borrowers personalised rates based on their credit histories whilst providing qualifying investors with the opportunity to invest in a unique asset class,” says Matt Symons, SocietyOne’s CEO.

Billionaire businessmen James Packer and Rupert Murdoch have thrown their own money behind the company, with SocietyOne announcing in December last year the successful completion of a Series B capital raising with a consortium of eminent Australian investors made up of Consolidated Press Holdings (CPH), News Corp Australia and Australian Capital Equity.

Speaking on behalf of the consortium at the time of the announcement, Mr Packer said: “We have seen first-hand the power of technology in reshaping the media industry and I am excited about the potential of technology, led by the team at SocietyOne, to help reshape the financial services industry in Australia.

“Peer-to-peer lending is one of the global forces leading the transformation of banking by putting people, not intermediaries, at the centre of the borrowing and lending experience.”

Matt Symons argues that there are several factors setting SocietyOne apart from the rest.

“Firstly, we were the first fully compliant P2P lender to launch in Australia three years ago, and have a significant track record in the market over our competitors scaling the platform and building a well-performing loan book,” he says.

“Secondly, we are the only P2P lender in Australia to combine both secured and unsecured asset classes in a single online marketplace.”
Unlike pooled investment schemes, where investors have very little control over the loans they are exposed to, Mr Symons says SocietyOne provides investors with 100 per cent transparency and the ability to determine their own investments via mandate. Additionally, investors can manage price holdings at their own preferred rates according to risk.

Mr Symons says the group’s technology also delivers a competitive edge – particularly its own proprietary cloud-based technology platform Clearmatch™.

“ClearMatch™ was developed by SocietyOne co-founder Greg Symons and our technology team, and is a mature, fully-tested, loan origination, credit assessment and loan portfolio management solution that has taken more than $10 million in investment to develop to date, and has managed more than $1 billion in consumer finance loans over the past 10 years under former licensing arrangements. It was one of the first platforms in the world to have been specifically engineered towards P2P lending back in 2007,” he says.

Mr Symons says he understands that many brokers choose mortgages as their primary source of income, so SocietyOne has worked hard to develop a competitively priced unsecured personal loan product that is as attractive to brokers as it is to consumers.

With no early repayment or monthly fees, he believes applicants also have the ability to leverage their credit score and receive a lower interest rate with a higher score.

“Just as brokers have contributed to our early growth, we believe they in turn will benefit as Australians become more aware and interested in the concept of P2P lending and approach brokers proactively for relevant products,” Mr Symons says.

“SocietyOne is well backed and primed for accelerated growth, so the brokers that can offer our highly attractive borrowing rates will likely write more loans.”
ThinCats is another P2P platform that has taken the lending channel by storm.

Based in the UK, ThinCats launched its Australian arm in December 2014 through a joint venture to assist SMEs – roughly 2.8 million of them now – gain access to cost-effective funding.

Sunil Aranha, CEO of ThinCats Australia, says the platform enables SMEs to access growth finance from multiple high-net-worth and wholesale lenders at attractive rates, with loans from two to five years.

“The companies that you would usually find on our platform are one of three types: profitable ones that require additional finance for growth and can’t get that extra money from the banks because they don’t have additional real estate security to offer the banks; start-ups with experienced directors; and small businesses whose needs are too small for the bank to assist,” he tells The Adviser.

At the time of writing, ThinCats had around 220 lenders registered on its platform, and the number is growing every day. The group is also looking to partner with credit unions, hedge funds, superannuation funds for SMSF capital and other lending organisations who may want to provide underwriting facilities.

Mr Aranha says the rate ThinCats’ lenders are seeking is generally between 11 per cent and 19 per cent per annum, “compared to some short-term financiers who charge two per cent to four per cent per month – which annualised can be up to 50 per cent per annum”.

He says the loans provided through the platform are secured by a charge over the business and supported by personal guarantees from all directors.

“Unlike other platforms that offer unsecured loans with more risk, our loans are largely secured with less risk,” he explains.

“In terms of where we are today, we’re not doing small loans – we’re looking at loans around our sweet spot of $250,000, which can take four to six weeks to process.”

ThinCats plans to introduce a smaller loan amount for SMEs within 12 months, which Mr Aranha says could be determined sooner using predictive credit scoring and algorithms, all without the need for security.

“All we’ll need is the online support of a personal guarantee. When we do this, brokers can look forward to a mechanism that offers even smaller loans with shorter turnaround times,” he says.

“Any time brokers refer a transaction to us, we’re happy to pay 25 basis points as a referral fee for those transactions that are successful in getting listed and funded on our platform.

“And recognising the important role that finance brokers play, we have recently revised our referral fee to 60 basis points per lead on settlement for a fully completed application, followed by a 15 basis-point trail for the loan period.”

Mr Aranha notes that while all of the loans are principal-and-interest term loans, borrowers are entitled to repay early without any penalty, and there is no clawback on broker fees paid.

ThinCats is not the only Australian P2P lender to have originated overseas. Licensed under the name of its UK parent, RateSetter Australia was launched in October last year with the support of local and international investors, who injected $3 million into the business, according to Morgan Stanley.

RateSetter currently offers only personal loans, with its website claiming the firm is “the first and only company to provide peer-to-peer lending to retail savers and investors”.

Borrowers have access to both unsecured and secured loans from $2,001 to $35,000 for terms of between six months and five years, while lenders can choose both the term and rate of their loans.

In April this year, US small business lending platform OnDeck announced a partnership with MYOB and a group of Australian technology investors to expand its operations to our shores. The technology-enabled small business lender provides same-day evaluation, approval and dispersal of funds.

Headquartered in New York City, the company has originated more than US$2 billion in loans to small businesses in more than 700 industries, across all 50 US states and in Canada.

“Australia represents an exciting growth opportunity,” OnDeck CEO Noah Breslow said at the time of the announcement.

“Similar to the US market, in Australia we see a huge gap between small business financing needs and the availability of capital from traditional sources.

“There is significant unmet small business lending demand in Australia, and we believe our online platform is well suited to address the capital needs of Australian small businesses.”

Sink or swim?

Morgan Stanley’s report suggests there is less than $25 million worth of P2P lending in Australia at present – and virtually all of that is consumer lending. However, P2P lending to consumers is expected to explode by 2020, reaching $10.4 billion, while P2P lending to SMEs will surpass this to hit an expected $11.4 billion over the same period.

“In our view, SME lending via P2P will grow faster than consumer unsecured lending because access to credit from the banks is more constrained in this segment, and we think SME borrowers are more likely to seek alternative sources of credit,” the report says.

Mr Phillips thinks P2P lending could be a genuine threat to the banks’ SME lending sector in just five years’ time.

“If peer-to-peer lenders have a way of sourcing business and funding things such as franchise outlets that are well governed, I think it’s definitely got a way of taking business away from banks,” he says.

“I don’t think banks have been particularly good in small business lending for many years.”

Mr Phillips believes there will always be a space in the market for P2P lending – but only if the industry can prove it merits.

“It’s going to be entrepreneurs and investors that build these businesses, so if there’s decent demand for and return from it, I think it will grow,” he says.

However, one industry CEO suggests the future of P2P lending will not be clearly known until a dramatic shake-up has occurred, potentially involving the collapse of many companies.

Peter Langham, chief executive of lender Scottish Pacific Business Finance, does not think P2P lending will exist in its current format in 10 years’ time.
“Ten years can see a lot of changes in economic cycles. Many companies will come and go,” he says.

“It could be that the banks and large financial institutions pick up the technology P2P lenders are currently using and try their hand.”
Mr Langham suggests that if the total assets of Australian banks exceed $3 trillion, it would require a monumental shift of P2P lending to have any significant impact on the banks’ results.

“P2P appears to be concentrated around smaller businesses, servicing those clients that find it difficult to access bank credit,” he says.

“Ultimately, if the banks have an appetite for a deal, it is difficult for a non-bank lender to compete on price.”

According to Mr Langham, if the P2P lending model remains viable down the track, the industry should expect large financial institutions such as banks, insurance companies and super funds to move into the market and dominate with strong balance sheets.

He adds that the investor market is “ripe” for P2P lending at present, with cash investors being able to get a decent return compared to bank interest.
“The question is ‘how will changes in circumstances affect the current appetite?’” he says.

“A further consideration is how investors will react if they suffer a bad debt, which is part and parcel of the commercial lending landscape.”