To unlock small and midsize enterprise (SME) lending requires addressing a complex problem with multiple parts. Alternative financing is part of the solution, but so is improving cost-efficiency of bank lending. With funding gaps in the billions, all financing channels will need to be made more productive and will require improvements to the way SMEs manage their finances.
I don’t believe that SME lending can be resolved by merely throwing more money at it, or increasing the lender pool. Present gaps suggest a supply and demand disconnect:
1. Subsidized loan programs all offer government/development finance backed lending yet there still remain gaps. Some schemes simply make it cheaper for banks to lend via statutory reserve incentives. Others limit bank losses, but in some ways, drive ‘check-box’ based lending where guarantor criteria and process fulfilment dominate.
2. Much of alternate lender online penetration has centered on convenience and grown substantively, moving beyond simple sub-prime lending to narrowing the wider business finance gap.
Alternative lending has become more accepted by business, helping many unable to secure bank lending. It has also attracted intense competition, with more non-bank offerings entering the market and driving up borrower acquisition and retention costs. Whilst credit cycle data has not proven default rates, the concern remains to achieving speed and borrower convenience at the expense of declining credit quality.
In my view, non-bank lenders are at a structural disadvantage to banks unless they widen their offerings (either by investing in more products or partnerships) to play a larger role in daily business cashflow. However, inherent advantages aside, banks increasingly face compliance/regulatory and risk-asset weighting considerations that make business lending less profitable.
The fintech explosion has demonstrated that cloud and API combinations can reduce some of these burdens and I believe banks (large, small, challenger, API-driven or other flavour) still command a huge advantage in maintaining the primary business relationship.
· While the open banking opportunities are promising for fintech offerings, banks are already moving to speed up on boarding, deliver better mobile experiences and even exploring alternative data sources including social media.
· Whether central-bank led open banking[1] / API initiatives will see banks seize the advantage depends on how well they blend their innovation efforts with business-led proposition development.
· Digitization is a huge opportunity for lenders, both in pre-loan and post-loan workflows – we need to make it easier for banks without increasing risk and incentivizing technology spend is one approach[2].
From a borrower perspective, while fintech offerings have shifted focus from lender-driven to borrower-driven experiences, SMEs still have 3 major hurdles to overcome in accessing the right finance:
- Knowing what they are suitable for & what (and when) they need 3rd party funding;
- Providing all supporting information required to accompany a credit application to one or multiple lenders;
- Presenting sufficient trading history, collateral or owner’s net worth when dealing with traditional lenders; or enough ‘alternate’ data to future-looking alternate lenders.
Whether in Africa, Asia or Europe, there is no shortage of people and institutions available to give SMEs advice on their finances. Advisors, accountants, brokers and even bankers can form the choir of voices that support government backed education and business assistance schemes.
What’s needed more, in my view, is contextual coordination and a way to simplify the pre-borrowing and post-borrowing experiences of the business. We seem to have moved from too little choice towards too much in some markets! A recent article suggested increased demand for debt broker (identification, preparation, submission) services in Australia, notwithstanding increased online lending. A rebalancing eco-system!
The most important aspect of the borrower–lender process still remains information for all sides:
a. Assessing private businesses still requires time and effort for lenders (even if some have automated loan applications) and simplifying this helps the lenders zero on the loans they can make; and
b. Information provision for smaller businesses is also time-consuming, as is understanding their financing needs and impact. Cash and daily financial management are routine and often underestimated and overlooked areas. Ask business owners who manages cash, invoicing and collections and they would generally respond by either identifying an in-house finance/admin person or an external accountant/bookkeeper. Yet, many an owner’s biggest headache outside of payroll and sales is getting paid and debtor collections.
Cloud software and marketplaces have increased the potential for visibility, and with it a drive for both lender and borrower-driven data analytics. Corporate banks sit on vast historical transaction banking data, much of which has been traditionally underutilized but with extensive focus on data analytics, this may soon yield insights that both bank and ecosystem partner could deploy to improve customer servicing.
With B2B networks, ecommerce giants, payments service providers all upping their stakes in the business lending area, banks (i) have the opportunity to learn from these different approaches; and (ii) collaborate with different service providers and even start-ups; or (iii) continue to tackle the future organically and hope the competition slows down. If anything, banks are beginning to push non-banks to move quicker!
Smaller non-bank players have different conversations with their prospects and customers than do established brands. The opportunity for banks is to harness different insights and workflows developed by smaller nimble players, to rapidly test offerings that dismantle challenges faced by their business clients.
For example, some banks have started facilitating accounting services for smaller clients, while others are beginning to focus more on cash management and cross border invoicing, payment white-labelling or partnerships. Others seem to be pursuing blockchain-based trade finance to reduce cost and effort of provision (in my view, solving workflow and infrastructure rather than a business problem).
Better managed businesses become lower risk and hopefully, higher growth clients. Better understanding of client needs strengthens the client relationship and reduces risk for the bank.
Over the coming months, we’re exploring different customer problem solving approaches that can be taken by business banking & lending teams, drawing from global examples. In markets where mobile money and financial inclusion tools are moving faster than conventional bank proposition upgrades, the opportunities to widen financial service access are plenty. As, are risks to both borrowers and lenders.
[1] https://www.europeanpaymentscouncil.eu/news-insights/insight/update-uk-open-banking
[2] https://www.finextra.com/newsarticle/31035/new-ec-rules-could-enable-banks-to-increase-their-software-spending