by Cath Rogers @
The AltFi Australasia Summit held earlier last week was a marquis event for Australian alternative lending. Financial services technology is a key focus area for AirTree and since our first fintech investment was in an alternative lending platform, Prospa, we participated in the institutional funding panel and got to hear from some of the best and brightest fintech leaders globally. For those who missed it, here are our key takeaways:
- The market opportunity is big, really big
Estimates on the potential “white space” of business and consumer lending currently untapped by retail banks vary widely, but generally run into the tens of billions of dollars. Perhaps the best indication of Australian market importance was the presence of the global founder/CEOs of OnDeck and Spotcap and leading wholesale investors including Victory Park who are all active in the local market. Spotcap, active in Spain, the Netherlands and Australia noted that Australian SMEs were more tech savvy than their European counterparts and that the average loan size of Australian customers of $40,000 was double that of European customers.
- Alternative lending platforms are growing rapidly
So much so that some industry commentators questioned whether “alternate” finance is a misnomer and that soon enough these products will be considered mainstream. To provide some relativity on Australia’s growth trajectory, AltFi data shows that it took 2.5 years for Australian P2P platforms to lend A$250M compared with 3.5 years in the US and 6 years in the UK.
- Origination is tough; offline is still key and the right partner can help rapidly scale
Origination challenges abound for both marketplaces and balance sheet lenders and for both consumer and business lending platforms. Toby Triebel, Spotcap CEO, noted that only 39% of SME owners in Australia can name a fintech company (this isn’t restricted to lenders but includes players like PayPal), so awareness is incredibly low.
Brokers remain an expensive but critical piece of the origination puzzle for many platforms. Triebel believes that offline channels deliver more cost effective customer origination than online channels after taking into account respective conversion rates.
Partnerships are seen as a major growth lever; for example the Prospa/Westpac partnership announced in November, OnDeck’s CBA partnership announced in December, Capify’s partnership with Alibaba and MYOB/Xero and other accounting platforms partnering with a range of SME lenders.
Stephen Porges, Executive Chairman of Direct Money urged the retail bankers in the room to partner rather than buy when it comes to fintech innovation because of their tendency to destroy value and innovation with compliance and bureaucracy burdens; food for thought considering he was at the helm of Aussie Home Loans when it came under the control of CBA.
For consumer offerings, building a trusted, credible brand is paramount to building a customer base.
- Actually, anyone can originate loans, the hard part is getting the loan repaid
To paraphrase David Goldin of Capify, when noting the critical importance of high quality credit risk and underwriting decision engines that can only really be perfected with significant loan volumes. More mature underwriting models that get smarter over time should produce lower default and arrears rates, writing more profitable loans. On the flipside we all know what happens when poor quality loans are written and on-sold (thank you GFC).
- The leading lending platforms of tomorrow are already in market today
There appeared to be general consensus that the 3-4 players in each lending space to reach the biggest scale within the next 3-5 years would control their space, leaving other competitors behind, with the exception of niche lending categories. Although, (at least in our view), not necessarily. Most customers of these platforms in 3-5 years time don’t even know about them today so there’s still ample opportunity for new players to execute brilliantly and there really is so much market opportunity. The key hurdles for new entrants to overcome are regulatory requirements (for consumer lenders in particular) and rapid development of quality underwriting models (as outlined above).
- Supply of loan capital is robust
In the past year Liberum, Victory Park, Carlyle Group and a host of other global heavyweights have provided large wholesale facilities for Australian platforms, with Australian institutions beginnning to follow suit.
And righly so; AltFi data shows that average investor returns in P2P platforms in the UK have held steady at 6% over the past several years while fixed income returns have trended towards zero in the global low interest rate environment.
- Improved data and credit ratings will enable better loan terms
PRDE and comprehensive credit reporting, which take into account positive credit attributes as well as negative, are on their way to being introduced in Australia following ACCC approval. While the pace of adoption is expected to be slow as various stakeholders navigate the commercial and privacy aspects of sharing data, overall more comprehensive credit data should result in better loan terms for consumers and businesses and it is hoped will lead to greater voluntary disclosure of information by borrowers.
- Regulation and transparency is good for the industry
Panelist David Goldin of Capify quipped that government regulation was “the cheapest form of promotional advertising” and OnDeck CEO Noah Breslow warned that the lack of regulatory clarity in Australia creates uncertainty. Panelist sentiment was that good businesses welcome regulation as it helps build trust and credibility with customers. As investors, AirTree wholeheartedly supports greater transparency and regulation and welcomed our investee company Prospa’s voluntary attainment of an Australian Credit License (ACL).
The UK regulatory model is widely considered to be market leading and a useful template for Australia. Example initiatives Australia would do well to replicate include; mandating that retail banks must refer customers they are unable to service to alternative lenders, promoting greater banking sector competition, tax breaks for investors in alternative lending platforms and industry standards for disclosure and transparency. The Small Business Borrowers’ Bill of Rights voluntarily adopted by lenders in the US also merits consideration.
Australia is beginning to make strides with the oversight of Innovation Australia chaired by Bill Ferris with policy input from prominent fintech stakeholders. Agencies such as ASIC are also taking steps to be more fintech/startup friendly with the launch of its Innovation Hub.
- Is it fin+tech or tech+fin?
This distinction will be of varying importance to different investors. For AirTree the tech component is absolutely critical because unlike wholesale credit providers we only invest in the equity of lending businesses (funding marketing, operations and salaries), not the loans themselves. This means our investment horizon is much longer and riskier and we believe that technology is a critical long-term driver of successful business outcomes in terms of credit quality, scalability and cost structure. Most importantly, it’s technology such as automated bank and accounting software feeds and realtime loan decisioning that has provided a 10x better customer experience compared with an offline process. So while some businesses are still nine parts fin and one part tech, shifting this balance meaningfully in favour of tech is key.
- What do we look for in fintech investments?
Since I was asked this many times during the day, I’ll summarise the answer here. AirTree looks for; great teams who can execute brilliantly, strong technology and product roadmap, meaningfully better customer experience and attractive unit economics. Unit economics involves a range of factors and will vary based on the particular fintech model; to take lending as an example, key drivers are loan size, duration and net interest margin, repeat behaviour of customers (do they continue to avail of the same or complementary products over time), default and arrears rates and origination costs. The less attractive these unit economics, the more rapidly the business needs to scale its customer base.