Business Lending
The Broker: How Gerald Watson Mixes Factoring with MCAs
December 3, 2019
Role?
I’m the owner of The Watson Group, a factoring broker company.
How did you end up in the industry?
I got started in what I call the contract financing industry about 35 years ago, kind of by accident. I had spent years working with a large management consulting company in Boston and we had some major contracts in the DC area. I was on an assignment there and my son was in school there with another kid, and I met the parents and the dad told me what he was doing and he said I needed to come by the offices to check it out.
I really had no intention of going at all, but finally to get this guy off my back, I went by one day and he showed me the business they were in. When I left I was totally on board. I had been working for several years in management consulting, but this was all new and I was excited because it was helping real businesses solve real problems and it was very hands-on.
I came on board and I’ll never forget my first day on the job: I didn’t know anything from anything – rights, factoring, contracts financing – this was years before the MCA industry even existed, and my boss said he just got a job, 911 call from a printer and they needed some funding help. “Can you help them? Why don’t you come ride with me? It’d be good on the job training for you.” And so we sat down with the guy and found a solution for him. And to this day he hasn’t had to close his business.
How were those early days?
Interesting because this was before the internet, almost before cell phones, in fact. I remember at one point when I was being hired, the Motorola flip phone was just coming out and they were like $1,500 around 25 years ago. And I said okay, I’ll take the job but you’ve got to give me one of these Motorola phones, so he did and it was great but this is before the internet and I didn’t really believe in traditional advertising or mailing out brochures, so the strategy I take is called “institutional referral-based marketing.”
In a nutshell, what that is, is working with various institutions that refer clients to use on a regular basis and as part of that process, I’d give talks or seminars and workshops and sit on panels and teach some of these referral groups how to assess deals and package them and get them ready for funding. You know, develop a pretty solid reputation in the industry for what we did and even today we’re 100% referral.
What can you tell me of the style in which you approach deals?
The approach that I’ve always taken is really a diagnostic approach, we kind of almost see ourselves as doctors. If you go to a doctor and you have pain, you may not know what’s causing that pain, you just want to feel better. And so what does the doctor do? They have to understand what’s going on in order to make you feel better.
Client’s got a pain: “I need money. I need working capital and I need it now.” And so we get a clear picture of what their objectives are and what they’re looking to accomplish: how much they need, what they need it for, timing, etc., and like a doctor, we go through a series of diagnostic tests, which can involve getting a list of documents – financials, bank statements, whatever it is – and going through them. You’re drilling down on where they’re at and coming up after that, coming up with what I call a treatment plan or funding strategy.
Here’s the key: you’ve got to ask the right questions, because if you don’t ask the right questions you’ll never get the right answer. All too often what a broker will do is they’ll get right into solutions and answers and talk about why what they offer is the best or why their funder is the best thing since sliced bread without having a picture of what their client’s true needs are in this situation. So I have a whole series of quizzes I’ve done a million times so I don’t need to write them down. I know what they are but I systematically go through ‘em, and we call that a preliminary underwriting interview.
What is the value of combining MCAs and factoring?
Funding solutions typically involve multi-funding products. And that’s where the advent of MCAs came in, and why they’re such a real asset. Because you meet a client today and it’s Wednesday, or Tuesday, hell maybe even Thursday, and the guy’s siting there with half a million dollars in receivables that we can convert into cash but we may need 3 days to do it, but he needs 2 days.
MCAs are a great product because we can step in, solve the problem, get him an immediate injection to stop the bleeding, and take it out from factoring proceeds a few days later. So it’s a great compliment and tool and this is something I’ve tried to educate on both sides. It’s not a threat it’s a complement. The key is how you use it. It’s like two medications. You go to a doctor, they’ll prescribe a list of meds, the key is to make sure they all complement each other.
Any advice for those looking to combine MCAs and factoring?
The first thing you want to do as an ISO who’s interested in developing a factoring brokering business is to understand the basics of factoring: what is factoring, how does it work, how do you qualify, how much does it cost?
The second thing you want to do is look internally to develop your customer base and the quickest customer base is what we call the low-hanging fruit. These are existing merchants that didn’t fund. Any merchant that is in B2B, whether they got funded or not, is a candidate for factoring. So go back through the files, look at the database and you may find out you probably have a lot more than what you ever imagined.
The third is to develop your database of funding resources – of funders.
And the last thing you want to have is a game plan. What’s your game plan and what’s your strategy for moving forward with your factoring broker business?
StreetShares Discontinues Major Segment of Its Financing Business
December 3, 2019
StreetShares quietly discontinued a major part of its financing business on November 15, a new disclosure filed with the SEC revealed. “For new customers, the Company is no longer offering to factor invoice receivables,” the letter signed by General Counsel and Chief Compliance Officer Lauren Friend McKelvey says.
The company had purchased more than $112 million in receivables since it began offering this product in December 2016, had serviced 40 customer accounts, and had advanced as much as $7 million on a single invoice as recently as Fiscal Year 2019.
The company has only facilitated $180 million in funding to small businesses since inception in 2014. That would indicate that the invoice factoring portion was roughly half of the company’s funding volume.
As of November 15, the company said it only had one customer remaining that was still using this product and no new ones would be accepted. Instead it would continue to offer only loans and lines of credit.
StreetShares relied heavily on individual retail investors to purchase receivables, their publicly filed financials show. 98.28% of all funds advanced on invoices in FY19 came from the retail investor segment whereas it was only 50.22% in FY18.
The company had also recently reported a heavy net loss and soaring costs.
The Current State of SME Lending in Canada
December 1, 2019
According to the latest statistics, there were 1.18 million employer businesses in Canada, with the majority of them located in the provinces of Ontario and Quebec.
- 1.15 million (97.9%) represented small businesses
- 21.926 (1.9%) referred to medium-sized ventures
- Only 2.939 (0.2%) accounted for large corporations
Small and medium companies are blooming in Canada: they represent 99.8% of all businesses, and they are the heart of the local economy. However, these businesses are facing extreme challenges when it comes to raising capital – a crucial element of SME growth.
The Canadian banking sphere, dominated by five large banks, often overlooks these businesses. Banks in Canada typically require 32 articles of information when applying for a loan and still 78% of applications from SMEs are rejected. It is especially stressful for startups: you can’t get a loan unless you have customers, but you can’t start your business and get customers without a loan. Cash flow, on the whole, is a complex concept that may be confusing for small business owners, and this kind of financial exclusion only makes it worse. The problem is global, but this Catch-22 has given the green light to alternative lenders worldwide.
THE ALTERNATIVE
One of the alternative funding options for SMEs to bypass the banks and find the right level of capital that they need is called a merchant cash advance (MCA). MCAs aren’t loans. Instead, they represent the sale of a business’s future revenues in exchange for quick cash — the majority of applications are approved within 2 days. This way, a funder provides a lump sum payment with a predetermined percentage (the factor rate) of a merchant’s future credit or debit card sales — cash and check sales typically don’t qualify to be counted. The process goes on until the contractual terms are satisfied. The MCA industry is growing on Canadian soil, but since it is a relatively new domain, the sector remains heavily influenced by American providers, especially when it comes to business models and pricing. But domestic providers don’t see it as a threat. Bruce Marshall, VP of British Columbia-based Company Capital told deBanked in 2016 that “We are happy that some of the bigger US players are coming up here and they are spending millions of dollars on advertising. These companies raise awareness of the industry to a higher level and with us being a smaller company, we can ride on their coattails.”
The question of raising awareness of new technology is vital. In comparison to American SME owners, their Canadian colleagues are slower to adopt technology — for instance, only 27% say they currently use technology to analyze customer data. Another study by BDC claims that only 19% of Canadian businesses are digitally advanced.
On the other side, those established companies find the Canadian alternative lending market to be “a very manageable extension of the US market.” However, it’s a smaller market, and Canada’s geographical position (the majority of businesses are located in four main provinces out of thirteen) and regional differences play their part as well. For instance, because of the restrictions that require businesses to advertise and produce marketing materials in French, the majority of alternative lenders from the US don’t operate in Quebec.
RATES, COSTS, AND FIGURES
All in all, MCAs are slowly becoming a financing option for Canadian SMEs looking for quick cash. That “slowness” comes from a lack of understanding about how exactly merchant cash advances work. Some alternative funders take advantage of their non-bank status to neglect regulations that require clarity resulting in somewhat unethical lending practices. Because of this, a certain number of business owners still hesitate to take a chance on a merchant cash advance program.
MCAs in Canada are generally available to businesses that have a steady volume of credit card sales, such as retail stores or restaurants. The amount of personal and business information required when applying for an MCA is much lower in comparison to a regular bank loan application: the documentation generally includes proof of identity, bank statements, and business tax returns. Merchant cash advance rates and costs differ from provider to provider. As MCAs aren’t loans, there are no fixed amounts for repayment installments and no fixed terms either. Typically, the percentage of credit card sales taken to enable the transaction ranges from 5 to 10%. Some companies in Canada charge premiums on their cash advances (which can be as high as 30% or even more.)
THE CHALLENGE
The main challenge for Canadian MCA providers is the absence of reliable data necessary for making underwriting decisions. As previously mentioned, only a small group of large financial institutions dominate the market, so the data is available solely to a handful of businesses. The information obtained from credit bureaus doesn’t help either: in most cases, it isn’t complete for making a wise credit decision. “The availability and access to government and financial data are scarce in Canada compared to other markets,” said Jeff Mitelman, the former CEO of Thinking Capital in an interview with deBanked in a past interview. “Most of the data relationships that fintech companies rely on, need to be developed on a one-to-one basis and is often proprietary information.”
When it comes to the process of underwriting, the availability of data presented in the proper format is a crucial factor. It provides the full picture and saves an enormous amount of time for risk officers. “We pay a lot of attention to our underwriting and decision-making process because if we make a mistake, we can lose a lot of money,” Andrew D’Souza, the CEO of Clearbanc, told TechCrunch.
At the moment, the financial data available to Canadian alternative lenders is meager and needs improvement. Another issue is the legislation that varies with each province. Many alternative lenders find the Canadian rules and regulations that govern the industry rather unclear. However, those challenges are associated with a growing market and emerging ecosystem. One way or another, the business loan landscape has changed for good, and alternative financing methods have captured much attention, with giants like PayPal stepping in the game.
THE NEXT STEP
As the industry is new, and has lots of challenges, the banking sphere and fintechs are turning to partnerships accelerating online lending to small business members. It makes perfect sense to MCA providers to license their automated platforms, banks, and credit unions. Traditional players are familiar with regulations and have data for fine-tuned underwriting, while fintech providers bring innovative technology and customer experience. “We saw that Canada is ripe for technology but the differences in regulation among other things made us go the partner route,” said Peter Steger, the head of business development at Kabbage, to deBanked – a perfect illustration of the growing partnership trend. These mutual interests create a lot of business opportunities, and that’s a good sign for all parties involved.
When small business owners need financing, timing is essential. Small and medium businesses are vital to the Canadian economy, so for them, the proper financial support means fast and convenient access to credit. In the new fintech-driven reality, applications should be completed within thirty minutes, decisions made within hours, and funds deposited in the applicant’s bank account within days. Canadian small businesses contribute around 30% of the total GDP, so the need for simple finance is acute. The technology has already made small business lending more accessible, and over time, financing alternatives such as MCA will become mainstream.
Broker Fair / Black Friday ONE-DAY ONLY Special Price
November 28, 2019
Broker Fair Returns to New York City on May 18, 2020. Take advantage of this special ONE-DAY only discount code and get 29% OFF THE EARLY BIRD PRICE. This incredible deal ends at 11:59pm EST on 11/29/19.
Broker Fair’s two previous annual events sold out in advance. Hundreds of brokers from the commercial financing, merchant cash advance, and small business lending industries will be in attendance this year. See you at Broker Fair!
Flender Makes BIG Mark in Ireland’s SME Lending Market
November 26, 2019
Ireland can seem like a small place, so much so that on my way to meeting with Colin Canny, Flender’s Head of Partnerships, I quite literally bumped into Flender’s co-founder & CEO Kristjan Koik who was walking through Dublin’s Silicon Docks. I recognized Koik from the who’s who catalogue of executives I had compiled before traveling abroad to explore the Irish fintech scene. He was cordial and polite. And yet through his demeanor I sensed there was more, that there was a story to be told even if it was not ready to be shared.
The following month Flender would reveal remarkable news, a new €75 million funding line, bringing their total to €109 million raised since the company’s founding in 2015. The company is backed by Eiffel Investment Group, Enterprise Ireland, entrepreneur Mark Roden and former Ireland rugby player Jamie Heaslip.
This large amount of funding, even by UK or US standards, makes Flender stand out, and so when I finally meet with Canny on that warm Fall day in September, I’m pretty thankful he afforded me the time.
Flender, Canny explains, is derived from Flexible Lender. The pamphlet he produces and hands to me says that their idea is simple, to provide businesses with the funding they need and ensure the application process is fast, easy, and transparent.
Application details for products like term loans and merchant cash advances require the usual stips like historical bank statements, a profit & loss statement, and a balance sheet. But there’s also a section quintessentially Irish, that is that it can be beneficial to submit your last 2 years herd numbers if you’re a farmer, complete with your last 12 months Milk Reports and property acreage figure.
Canny explains that Flender is not a high-risk fall-back lender, but rather the opposite. “Our credit process is extremely tight,” he says, “in line with banks.” And with good rationale, seeing that the company is still somewhat reliant on a peer-to-peer funding model. More than half of individual peers on the platform are Irish but Canny says that it’s not unusual for non-residents including Americans to lend on the platform as well.
Canny says the Irish market is very “community based.” The transparency of the marketplace aligns with that characterization. Like other peer-to-peer small business lenders in Ireland, borrower identity is publicly accessible on the platform, as are the terms of the loan. Anyone can view the business name of a prospective borrower on the website, the address, a bio, and even their “story.”
Flender taps several marketing channels like Google Adwords, radio, direct sales, and even brokers. Canny says they generate an underwriting decision in as quick as 4-6 hours and fund a business in as little as 24 hours. Borrowers like the product so much that many renew. Seventy percent of the SMEs in the country are peer-to-peer bankable, Canny explains, creating a wide playing field to target.
Meawnwhile, CEO Kristjan Koik told the Irish Times that the top 3 banks in Ireland have 92 percent of the SME lending marketshare so there is still a ton of opportunity for non-banks like Flender to grab hold of.
As for how the massive credit line impacts them going forward? Koik told the Times that they would be cutting interest rates by up to 1 percent across their various loan products. Interest rates now start as low as 6.45% and terms range up to 36 months.
As Canny and I part ways I present one final question, will Flender be expanding abroad? I get no definitive answer. He was cordial and polite, and yet I sensed through his demeanor that there was more, perhaps even a story in the works that was not yet ready to be shared.
Canadian Lenders Summit Recap
November 23, 2019
The Canadian Lenders Association’s largest annual event brought together hundreds of executives from the fintech and lending industries. It was hosted at MaRS, a dedicated launchpad for startups in Downtown Toronto that occupies more than 1.5 million square feet and is home to more than 120 tenants, many of which are global tech companies.
After OnDeck Canada CEO Neil Wechsler was introduced as the new chairman of the association, the day kicked off with a presentation by Craig Alexander, the Chief Economist of Deloitte Canada. Alexander explained that after some major warning signs sounded off late last year and early this year, Canadian growth and positive economic indicators have returned. He opined that politics in Canada and the United States will play a strong role in the economic outcomes of both countries going forward.
Panels on a variety of topics dominated the rest of the day with an interlude keynote from author Alex Tapscott who spoke about the financial services revolution.
The sessions concluded with an award ceremony focused around the Top 25 Company Leaders in Lending and the Top 25 Executive Leaders in Lending. The Canadian Lenders Association will make videos of the sessions available online. deBanked was in attendance.
IOU Financial Originated $41.4M in Loans in Q3, Continued Profitability
November 14, 2019IOU Financial originated $41.4M in business loans in Q3, according to the company’s latest published financial statements. The figure is a modest increase over Q2’s $38.5M. IOU also kept up its trend of profitability with net income $1M.
Shares of IOU, which trade on the Toronto Stock Exchange, are valued at around (CAD) 14 cents and equate to a market cap of approximately (CAD) $14M.
Costs, Losses Soar At StreetShares
November 12, 2019StreetShares increased revenue by nearly 40% year-over-year, according to the company’s latest fiscal year 2019 filing, but costs soared and increased by almost 90%.
StreetShares reported a staggering $12.3M loss on only $4.4M in revenue. That loss was much wider than the previous year’s loss of $6.5M on $3.2M in revenue.
Whereas startups may spend heavily on sales and marketing as they prioritize growth and scale, StreetShares’ primary cost, as in prior years, continues to be payroll. The company spent approximately $7 million in payroll and payroll taxes in fiscal year 2019.
The margin by which payroll exceeds revenue is increasing (157% in FY ’19 vs 144% in FY ’18). For comparison purposes, payroll expense makes up less than 25% of revenue for StreetShares rival IOU Financial.
StreetShares’ source of funds has shifted away from institutional investors and professional investors to retail investors. Retail investors only provided 43.89% of funds in FY ’18 but provided 86.72% of funds in FY ’19.
Retail investors, permissible under Regulation A, do not invest in individual loans but rather they lend money to StreetShares for which the company can use for lending or for “general corporate purposes” or “other products at the discretion of the company.” In return retail investors receive a fixed 5% annual return.
As of May 2019, the company reported that 80% of funds they lend out go to US veteran small businesses. A veteran small business is defined as “a company that is at least 25% owned by a veteran or military spouse or has a veteran or military spouse as the co-guarantor.”
