[Editor’s note: This is a guest post from Noah Breslow, CEO of OnDeck. OnDeck is a gold sponsor and will be in attendance at LendIt USA 2015 on April 13-15. In this post, he talks about banks joining in on the online lending industry.]
It looks like more and more banks are turning online to stay relevant in a changing landscape.
Some of it is consumer driven—basic banking tasks that used to require a branch, like deposits, withdrawals, checking balances, and even transferring funds from one account to another, are easily done online or with a smartphone. As a result, the industry has responded by closing old branches at a rate much faster than they open new branches. SNL financial has been monitoring this since 2002, and says more branches were closed last year than any other year since they started keeping track. Some experts are even saying that if it weren’t for fear of community or regulatory repercussions, they’d be closing even more branches.
Some new banks, like Lewis & Clark Bank in Oregon, don’t even have branches. Their business customers do their day-to-day transactions online, and if they need to talk to a loan officer about a small business loan they go into an office rather than a bank branch. Jeff Sumpter, one of the bank’s co-founders, argues the expense of traditional branches makes it cost prohibitive and transacting online or in an office (a less expensive alternative to a branch) makes a lot of sense—allowing his bank to put more capital into the hands of small business owners.
And, just as relatively simple transactions have moved online or to mobile over the past few years, it is only a matter of time before more complex transactions, such as business loans and mortgages move online as well. In fact, it is already happening.
A new generation of disruptive marketplace lending companies are helping to accelerate that transition, aided by what appears to be a hesitation by traditional small business lenders like banks to lend to smaller businesses. Former SBA administrator Karen Mills, in a paper she published for the Harvard Business School, suggests, “In an absolute sense, small business loans on the balance sheets of banks are down about 20 percent since the financial crisis, while loans to larger businesses have risen by about 4 percent over the same period.”
It looks like bankers have decided to move upstream to work with bigger businesses and bigger loans. In 2014, the average loan in Wells Fargo’s SBA program was about $350,000, whereas the average loan size for online lenders was typically much smaller. Additionally, even Mills argues the banking industry appears to be less focused on making loans to small businesses.
In reality, it’s not that online lending is online that makes it such a disruptive force. While it’s fair to say that being online might make it easier for a small business owner to find a loan, it’s really the way online lenders look at the loan process, the use of electronic and alternative data in the underwriting process, how they evaluate borrowers, and the streamlined way they fund and service loans that is turning traditional small business lending on its head.
Traditional small business lending hasn’t really changed much over the years, which is one of the biggest challenges faced by banks. Many banks have about the same administrative burden and cost to underwrite a $50,000 loan as a $500,000 loan, which creates a natural upward focus on larger businesses and larger loans. At the same time, online lenders are taking a fresh look at how borrowers and lenders connect, how loans are underwritten, how funds are distributed, and how payments are made. By ignoring sacred cows and antiquated paradigms that have limited the bank’s ability to efficiently (and profitably) make loans to Main Street businesses like restaurants, dry cleaners, and your favorite mechanic, online lenders have grown rapidly. As of Q4 2013, online lenders already accounted for roughly $10 billion in small business loan balances according to published research, and we think online lenders are fast becoming the first choice for those borrowers.
Banks, in turn, are recognizing this shift, and starting to partner with innovative companies in marketplace lending so that each can leverage their respective strengths to serve more small business owners more efficiently. For example, banks like BBVA Compass (who partners with us), are opening up capital access to a population of businesses they were not actively marketing to using our online lending technology, and over in the UK, global bank Santander has partnered with Funding Circle to provide referrals for declined borrowers.
Even the SBA is now moving online. In February, SBA administrator Maria Contreras-Sweet announced they were jumping into online lending with both feet, by creating an online matchmaking service to connect small businesses to community lenders. “The SBA not only supports this concept; we’re implementing it,” she said. “Today [2/9/2015], at the National Press Club, I announced a new SBA initiative called LINC (Leveraging Information and Networks to access Capital). Our matchmaking service will help entrepreneurs get a date with a lender.”
Contreras-Sweet acknowledges that access to an SBA loan is problematic for many small business owners through the traditional approach, and claims 80 percent of loan applications are rejected and “…more applications than we can count are never filed because of the difficulty of getting an appointment with a loan officer.” One of our customers at OnDeck relayed a story where she emailed her business banker about a loan for a growth opportunity for her business, and heard back… two weeks later!
I’m convinced any discussion of small business lending that doesn’t include online lenders doesn’t fully address what’s really happening within the market today. And, any conversation that doesn’t dive into what these lenders are doing differently to streamline the loan process and make capital more available to business owners, doesn’t acknowledge the significant disruption going on within the market.
The good news is that more and more banks are recognizing that marketplace lenders “come in peace” and that, through partnerships that leverage the strengths of our platforms, they can bring an amazing customer experience to their small business customers – without the branch!