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Fintech and Banking
Can We Reach Small Business Lending Utopia?
Fintech and Banking: Can We Reach Small Business Lending Utopia?
Karen G. Mills
Senior Fellow, Harvard Business School
Former Administrator of the U.S. Small Business Administration;
Member of President Obama’s Cabinet
Digital Lending Conference
November 2, 2017
WORKED FOR PRESIDENT OBAMA AS HEAD OF SMALL BUSINESS ADMINISTRATION (2009-2013)
3
97% 84%
FLYING ON AIR FORCE ONE
4
97% 84%
MEMBER OF PRESIDENT OBAMA’S CABINET
5
Responsible for America’s small businesses and entrepreneurs
SMALL FIRMS HIT HARDER IN THE CRISIS
6
Job losses in small firms accounted for 60% of total job losses
Source: Bureau of Labor Statistics, Business Dynamics Statistics (latest as of 2Q15).
-2000
-1500
-1000
-500
0
500
1000
1500
93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15
Qu
arte
rly
Net
Jo
b C
han
ge (
in 0
00
s)
Small (<500 Employees) Medium (500-999 Employees) Large (1000+ Employees)
SMALL FIRMS HIT HARDER IN THE CRISIS
7
Job losses in small firms accounted for 60% of total job losses
Source: Bureau of Labor Statistics, Business Dynamics Statistics (latest as of 2Q15).
-2000
-1500
-1000
-500
0
500
1000
1500
93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15
Qu
arte
rly
Net
Jo
b C
han
ge (
in 0
00
s)
Small (<500 Employees) Medium (500-999 Employees) Large (1000+ Employees)
TURNAROUND IN SBA LENDING
8
97% 84%
Swift action to spur SBA lending, resulted in record year in ’11, ’12, and ‘13
$25.0
$18.0
$22.0
$30.5 $30.3 $30.1
$15
$20
$25
$30
$35
FY08 FY09 FY10 FY11 FY12 FY13
Lo
an
Vo
lum
e (
in b
illio
ns $
)
Source: Small Business Administration. 7(a) and 504 total of loans enabled since Fiscal Year 2008. As of May 2014
9
97% 84%
30 Million Small Businesses
High-Growth
~.2M
Suppliers
~1M
Main Street
~4M
Non-Employer
~24M
Employer
5.8M
Other
~.6M
Source: Author’s analysis of data from the U.S. Census Bureau.
WHY WORRY ABOUT ACCESS TO CREDIT FOR SMALL BUSINESSES?
Small businesses account for half of U.S. jobs
Gig economy
Venture-backed firms
HBS WORKING PAPER
Small
business
marketplace
lending
20162014
CURRENT GAP IN SMALL BUSINESS LENDING: SMALL DOLLAR LOANS
44%
15% 17%
10%13%
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
50%
<50K $50-100K $100-250K $250-500K >$500K
11
About 75% of small businesses want loans below $250K
Source: Federal Reserve (New York), “Small Business Credit Survey”, Fall 2013
76%
SMALL FIRMS HAVE MORE TROUBLE GETTING LOANS
12
97% 84%
Source: “2015 Small Business Credit Survey,” Federal Reserve, March 2016.
63%
55%
37%
27%
50%
37%
45%
63%
73%
50%
Micro (<$100K)
$100K-$10M
$1M-$10M
Over $10M
All Firms
Financing Shortfall Fully Funded
Loan applicants receiving full funding versus those funded partially or not at all
PHASE 1: EXPLOSION OF NEW FINTECH LENDERS
PHASE 1
• Rapid emergence
and growth of
hundreds of new
online lenders
Online Lenders
Enter
TECHNOLOGY CHANGED THE GAME: NEW ONLINE LENDERS OFFER MANY SMALL BUSINESS PRODUCTS
14
97% 84%
Source: Fundera Presentation. September 2016.
STRONG EARLY RESULTS: 21% OF APPLICANTS APPLY TO ONLINE LENDERS
15
97% 84%
Source: “2016 Small Business Credit Survey: Report on Employer Firms,” Federal Reserve, April 2017.
11%
21%
50%
46%
Credit Union
Online Lender
Large Bank
Small Bank
Percent of small businesses applying
ONLINE LENDING: WILL DAVID SLAY GOLIATH?
BORROWERS LOVE THE EASE OF THE APPLICATION, BUT NOT THE HIGH INTEREST RATES
17
97% 84%
33%
17%
26%
3%
45%
42%
6%
44%
44%
Large Bank Small Bank Online Lender
Application
process difficult
Long wait for
credit decisions
High interest rate
Percent of borrower firms dissatisfied
Source: “2016 Small Business Credit Survey: Report on Employer Firms,” Federal Reserve, April 2017.
ONLINE LENDING IS ENTERING PHASE 2 OF MARKET DEVELOPMENT
PHASE 1 PHASE 2
• Rapid emergence
and growth of
hundreds of new
online lenders
• Partnerships
between
incumbents and
online lenders
Online Lenders
EnterPartnerships
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
19
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
97%
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
20
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
✔
✖
INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
21
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
97%
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
✔
✖ ✔
✖INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
22
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
✔
✖ ✔ ?
✖ ?INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
23
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
97%
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
✔
✖ ✔ ? ✖
✖ ? ✔INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
DON’T COUNT OUT THE BANKS AND TRADITIONAL LENDERS
24
97% 84%
Source: Author’s analysis and “The Brave 100: The Battle of Supremacy in Small Business Lending.” QED Investors and Oliver Wyman. 2015.
97%
Borrower
Acquisition
Borrower
Experience &
Satisfaction
Customer/
Product FitCost of Funds
Underwriting &
Compliance
Costs
✔
✖ ✔ ? ✖ ✔
✖ ✖? ✔INCUMBENTS
DISRUPTORS
COMMUNITY BANKS
BANKS AND INCUMBENT LENDERS: OPTIONS FOR STRATEGIC RESPONSES
25
97% 84%
Source: Author’s analysis.
HighLow
High
Low
Level of
Integration
Investment of
Time & Money
Required
BANKS AND INCUMBENT LENDERS: OPTIONS FOR STRATEGIC RESPONSES
26
97% 84%
Source: Author’s analysis.
Refer Declines
HighLow
High
Low
Buy Loans
Level of
Integration
Investment of
Time & Money
Required
Arms-Length Strategy
BANKS AND INCUMBENT LENDERS: OPTIONS FOR STRATEGIC RESPONSES
27
97% 84%
Source: Author’s analysis.
Refer Declines
Offer Bank Products On
Online Marketplaces
HighLow
High
Low
Utilize Alternative Lender’s
Technology To Power Online
Application
Buy Loans
“White Label” Online
Application, Underwriting,
ServicingLevel of
Integration
Investment of
Time & Money
Required
Partnership Strategy
Arms-Length Strategy
BANKS AND INCUMBENT LENDERS: OPTIONS FOR STRATEGIC RESPONSES
28
97% 84%
Source: Author’s analysis.
Refer Declines
Offer Bank Products On
Online Marketplaces
HighLow
High
Low
Utilize Alternative Lender’s
Technology To Power Online
Application
Buy Loans
“White Label” Online
Application, Underwriting,
ServicingLevel of
Integration
Investment of
Time & Money
Required
Acquire Online Player
Build Own Product
Partnership Strategy
Arms-Length Strategy
Build or Buy Strategy
BANKS AND INCUMBENT LENDERS: OPTIONS FOR STRATEGIC RESPONSES
29
97% 84%
Source: Author’s analysis.
Refer Declines
Offer Bank Products On
Online Marketplaces
HighLow
High
Low
Utilize Alternative Lender’s
Technology To Power Online
Application
Buy Loans
“White Label” Online
Application, Underwriting,
Servicing
Internal Innovation Incubator
Long-Tail Strategy
Level of
Integration
Investment of
Time & Money
Required
Direct Equity Investments
Acquire Online Player
Build Own Product
Partnership Strategy
Arms-Length Strategy
Build or Buy Strategy
INNOVATION INSIDE BANKS: CASE EXAMPLE
30
97% 84%
Sources: http://www.builtinboston.com/2017/05/17/numerated-growth-technologies-launches-out-stealth-mode; https://twitter.com/easternlabs?lang=en; https://cibng.ibanking-
services.com/EamWeb/Account/Login.aspx?orgId=373_011301798&FIFID=011301798&brand=373_011301798&appId=CeB&FIORG=373
• ““We should worry about people putting us out of business, but we should also put ourselves out of business.” – Bob Rivers, Eastern Bank CEO
• Labs received 1% of annual gross revenues
• Worked from glass box in lobby
Eastern Labs 1.0Eastern Bank Numerated
• 200 year old mutual bank
• Top SBA lender in New England
• Legacy systems
• Numerated spinout in May 2017
• Eastern 25% ownership
• Top-tier investors
• FIS
• Venrock
• Success for Eastern?
PHASE 3: WHO WILL BE THE WINNERS?
PHASE 1 PHASE 2 PHASE 3
• Rapid emergence
and growth of
hundreds of new
online lenders
• Partnerships
between
incumbents and
online lenders
???
Online Lenders
EnterPartnerships
Selected
Winners Emerge
PLATFORM PLAYERS ENTERING
32
97%
Platforms like Amazon have accelerated their lending volumes
Amazon Lending Statistics
• 20,000 small businesses
• $3 billion total loans
• $1,000 to $750,000
• 6-14% interest rates
Players to watch
Paypal
Alibaba
Square
Amazon
AmEx
Sources: “Beyond Fintech: A Pragmatic Assessment Of Disruptive Potential In Financial Services.” World Economic Forum. August 2017.
http://www3.weforum.org/docs/Beyond_Fintech_-_A_Pragmatic_Assessment_of_Disruptive_Potential_in_Financial_Services.pdf and Thurbon, Rob. “Amazon has lent over $3 billion to
merchants since 2011.” TechSpot. June 12, 2017. https://www.techspot.com/news/69665-amazon-has-lent-over-3-billion-merchants-since.html
Loans through Amazon Lending ($ billion)
PHASE 4: SMALL BUSINESS UTOPIA
PHASE 1 PHASE 2 PHASE 3 PHASE 4
• Rapid emergence
and growth of
hundreds of new
online lenders
• Partnerships
between
incumbents and
online lenders
??? • Affordable pricing
and high customer
service
Online Lenders
EnterPartnerships
Selected
Winners Emerge
Small Business
Lending Utopia
WHAT ROLE WILL REGULATION PLAY?
Office of the
Comptroller
of the
Currency
Federal
Deposit
Insurance
Corporation
Federal
Reserve
Office of the
Comptroller
of the
Currency
Consumer
Financial
Protection
Bureau
National
Credit Union
Administration
Securities
and
Exchange
Commission
CURRENT STATE: SPAGHETTI SOUP – MULTIPLE REGULATORS
35
97%
Source: Author’s analysis and GAO-16-175, “Financial Regulation: Complex and Fragmented Structure Could Be Streamlined to Improve Effectiveness,” March 2016.
Currently little oversight of small business online lenders
Depository
institutions
Federal
ReserveFDIC OCC NCUA FTC CFPB SEC Banking Securities
Non-depository
entities that offer
consumer
financial products
or services
Small business
online lenders
Broker-dealers or
other securities
and derivatives
markets
intermediaries
?
FDIC: Federal Deposit Insurance Corporation
OCC: Office of the Comptroller of the Currency
NCUA: National Credit Union Administration
FTC: Federal Trade Commission
CFPB: Consumer Financial Protection Bureau
SEC: Securities and Exchange Commission
State Regulators
Safety and soundness oversight
Consolidated supervision or systemic risk-related oversight
Borrower financial protection oversight
Securities and derivatives markets oversight
Financial Stability Oversight Council member agency
Federal Regulators
REGULATORY QUESTIONS
36
97% 84%
1. Who should get a non-bank charter?
2. How can we make sure bad actors do not hurt small businesses?
3. How can we improve third-party guidance to allow for partnerships?
4. How can we collect data on small business loan originations without creating undue burden?
ONE GUIDING PRINCIPLE: “DO IT SMART”
37
97% 84%
Small
business
marketplace
lending
FinTech
GovTechRegTech
Small
business
marketplace
lending
Small business lending is at the intersection of FinTech, GovTech, and RegTech
1. Issue clear, succinct, joint guidance
2. Engage industry
3. Use technology
4. Be data driven
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
Banks
Credit Unions
TRADITIONAL
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
Banks
Credit Unions
Disruption by:- Technology- Entrepreneurship
TRADITIONAL DISTRUPTORS
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
REGULATORS
Banks
Credit Unions
TRADITIONAL DISTRUPTORSDisruption by:- Technology- Entrepreneurship
Office of the
Comptroller of
the Currency
Federal Deposit
Insurance
Corporation
Federal Reserve Office of the
Comptroller of
the Currency
Consumer
Financial
Protection
Bureau
National Credit
Union
Administration
Securities and
Exchange
Commission
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
Banks
Credit Unions
Disruption by:- Technology- Entrepreneurship
?
Office of the
Comptroller of
the Currency
Federal Deposit
Insurance
Corporation
Federal Reserve Office of the
Comptroller of
the Currency
Consumer
Financial
Protection
Bureau
National Credit
Union
Administration
Securities and
Exchange
Commission
REGULATORS
DISTRUPTORSTRADITIONAL
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
Banks
Credit Unions
Disruption by:- Technology- Entrepreneurship
?
WHITE HOUSE
?Office of the
Comptroller of
the Currency
Federal Deposit
Insurance
Corporation
Federal Reserve Office of the
Comptroller of
the Currency
Consumer
Financial
Protection
Bureau
National Credit
Union
Administration
Securities and
Exchange
Commission
REGULATORS
DISTRUPTORSTRADITIONAL
WHAT IS CHANGING IN THE SMALL BUSINESS LENDING LANDSCAPE?
Banks
Credit Unions
Disruption by:- Technology- Entrepreneurship
?
WHITE HOUSE
CONGRESS
?
?Office of the
Comptroller of
the Currency
Federal Deposit
Insurance
Corporation
Federal Reserve Office of the
Comptroller of
the Currency
Consumer
Financial
Protection
Bureau
National Credit
Union
Administration
Securities and
Exchange
Commission
REGULATORS
DISTRUPTORSTRADITIONAL
SMALL BUSINESS OWNERS