Beating marketplace lenders at their own game.
By Naseer Nasim
Following the 2008 financial crisis, marketplace lenders began taking a competitive edge in the industry. Meanwhile, banks have faced increasing regulatory requirements, shifting customer expectations, the emergence of disruptive technology and historically low interest rates. These factors have led to a tightening of consumer and small business lending by banks. Conversely, private equity and venture capitalist firms have invested billions of dollars in marketplace lenders while media portray some of these lenders as contributing to the “Uber-ization” of banking.
Banks once owned the lending game but are now being challenged by these non-traditional lenders. Marketplace lenders are approaching the market by offering speed, simplicity, and convenience at a premium price. This resembles the “convenience store” business model where consumers pay a premium for items they would typically buy at another store at a fraction of the cost. Borrowers are essentially paying for convenience.
It is also often easier for the unbanked and underbanked to access financing through a marketplace lender. The small amount of documentation needed for a loan application is one of the primary draws of marketplace lenders. In fact, 81 percent of retail consumers and small- and medium-sized enterprises that have borrowed through a marketplace lender did so because of the ease and speed of application process, according to Deloitte. The convenience of using an online platform to apply was a key driver as well. Deloitte also revealed that a majority of borrowers, 72 percent, were also drawn to marketplace lenders due to the certainty of outcome for a loan application enabled by a fast credit decision process.
However, a mere 15 percent of small businesses that borrowed from an online or marketplace lender were satisfied with their experience, according to the Federal Reserve’s 2015 Small Business Credit Survey. The same survey revealed that small banks have the highest satisfaction rating, at 75 percent, likely due to small banks’ focus on relationship banking and ties to their local communities.
With a satisfaction rating five times higher than marketplace lenders, it may seem like community banks can continue business as usual. This is not the case. Small banks still have room for improvement. According to the Fed’s Small Business Credit Survey, 52 percent of small business loan applicants were dissatisfied by their small bank’s difficult loan application process, compared to 21 percent of applicants that used an online lender. Moreover, 43 percent complained of a long wait for credit decisions from their small bank, while only 22 percent had the same issue with an online lender. Large banks did not fare much better, as 45 percent of applicants were not satisfied due to the long wait for a decision. The Fed’s report also showcased that a lack of transparency was an issue across large and small banks and marketplace lenders.
For banks, the process of obtaining a small business loan is complex and time-consuming. It involves assessing a variety of lenders, determining the right credit product, completing three-inch thick loan applications, and finding and submitting supporting documentation, like bank statements and tax returns, most of which is done manually. Understandably, completing these steps takes a substantial amount of time, on average a total of 33 hours, according to the Federal Reserve Bank of New York. As a result, prospective borrowers often abandon the loan application.
For those who complete the application process, there is still the chance of rejection. To determine whether an applicant will be approved or denied, banks typically underwrite manually by evaluating bank statements, tax returns, balance sheets, income statements and credit reports, often with a pen, pencil, calculator and spreadsheet. Consequently, underwriting takes a significant amount of time and incurs added costs for the bank.
The application and underwriting process for marketplace lenders is considerably different. Rather than taking an entire day, completing an application can take mere minutes and can be accomplished online, sometimes via mobile. Furthermore, the approval time takes days, not months. This is due in part to online marketplace lenders’ use of electronic data sources, including real-time business accounting, payment and sales history, along with other technologies such as business intelligence and big data analytics.
Banks can significantly streamline the small business loan application process by offering a customized loan application online, ensuring that lending opportunities are not restricted to branch hours. By streamlining the process and enabling online applications, banks can minimize the amount of information that applications must supply. As a result, banks can determine the level of financial statement analysis required for loans and profile information to match its risk appetite.
Marketplace lending has grown rapidly, largely due to the convenience factor, and this increased market competition is forcing banks to rethink their processes and make the customer experience a priority. There are several ways to accomplish this, including cooperation with marketplace lenders. This method requires little effort on the bank’s part, as the objective is not to build a new product offering or expand the customer base, but to complement the bank’s current business model. Banks can take this route by investing with marketplace lenders and/or buying loans originated on a marketplace lender’s platform.
A more promising strategy is to integrate new online lending services within the bank’s product line. By using technology to power an online application, as well as the underwriting and servicing of the loan, banks can close the gaps in their traditionally cumbersome lending processes. This entails more than just overlaying an updated digital interface over existing processes. It requires taking a more customer-centric approach and ultimately, revamping and automating processes within the bank’s operating model to meet market expectation for convenience, speed and simplicity.
Bend, Ore.-based Bank of the Cascades was able to accomplish this, substantially increasing the productivity and efficiency of its lending processes, as detailed in a case study in the May 2016 issue of BankNews, The bank recognized that consumers have high expectations for speed, and likewise businesses need fast credit decisions; otherwise they will secure loans elsewhere.
To meet these expectations, Bank of the Cascades implemented a common loan origination platform from Baker Hill in September 2014. By leveraging the platform to streamline and automate the loan origination life cycle, the bank can more quickly respond to each credit request on an individual basis, as well as in a consistent manner. The technology takes into account Bank of the Cascades’ unique credit policies, supporting faster decision making as well as stronger risk mitigation. The bank has also improved its ability to identify opportunities to provide customers with new loan products, helping the bank significantly grow its loan portfolio while serving customers well.
Understanding that small businesses are vital to their communities, the bank is dedicated to delivering local business credit services to support local economies. Bank of the Cascades illustrates this commitment through its ongoing efforts to improve its services for small businesses.
Additionally, banks can mirror marketplace lenders’ approach to underwriting by interpreting cash flow data, such as demand deposit account or checking account data to determine creditworthiness. Using DDA data would also enable banks to pre-approve their customers for lending products.
Similar technology and processes employed by marketplace lenders are available to banks. By aligning process and technology to improve the customer experience, banks can compete against marketplace lenders, and ultimately, disrupt the disrupter at their own game. To meet the shifting demands of today’s customers, banks should begin by offering a more accessible loan application and more responsive turnaround times, at minimum.
It should be noted that banks have excelled where marketplace lenders have not. Banks are trusted by small businesses as a source of financial advice, more so than other sources, like accountants, loan brokers and consultants, according to the Federal Reserve’s 2015 Small Business Credit Survey. By leveraging their strengths, like their ties to their local communities, and employing technology to offer a more attractive customer experience, banks can better capitalize on small business lending opportunities.
Naseer Nasim is CEO of Baker Hill. For more information, visit www.bakerhill.com.