Federal Reserve Governor Lael Brainard Speaks About Alternative Lenders

Federal Reserve Governor Lael Brainard gave the September 30th closing keynote address at the Community Banking in the 21st Century 2015 Conference and here are some of the highlights of what she had to say about online lenders and merchant cash advances:

The data that are available suggest that the various types of online alternative lenders have captured a small but rapidly growing share of lending since the financial crisis. In aggregate, the outstanding portfolio balances of these lenders have doubled every year since the mid-2000s. It is estimated that online alternative lenders originated $12 billion in 2014, with unsecured consumer loans representing $7 billion and small business loans accounting for approximately $5 billion.13 While this amount represents only a small fraction of U.S. unsecured consumer and small business lending overall, the rate of growth is notable.

Although rates vary by platform and borrower characteristics, when taking into account origination fees and repayment periods, the average annual cost of borrowing, or APR, associated with loans and credit products offered by online alternative small business lenders tend to be higher than those associated with traditional bank products. Reports suggest that some borrowers are willing to pay a higher price in exchange for an easy application process, a quick decision, and rapid availability of funds.

While some see online alternative lenders as a disruptive threat to traditional lenders, banks increasingly are finding ways to partner with online alternative lenders, including through loan purchases and referral agreements. Loan purchases by community banks of loans originated by online alternative lenders have been focused on unsecured consumer debt. As the percentage of unsecured consumer debt outstanding held by community banks has been declining in recent years, several banks have partnered with online alternative lenders to grow and diversify their portfolios of unsecured consumer debt.

In contrast to the consumer loan activity, the small business partnerships that have developed so far are largely fee-based referral partnerships. In these partnerships, banks refer to online alternative lenders some of their small business customers who are usually seeking loan amounts that the referring banks may see as too costly to underwrite and service, particularly in the size range below $100,000.

Across the Federal Reserve System, we are actively following developments in the alternative online lending space and have engaged with several alternative online lenders over the past few years to learn more about the industry, the technology, and the business models as well as engaging with bankers to understand how these developments are affecting their markets.Most recently, several alternative lenders have participated in events where we have joined with community development finance experts to discuss ways to adopt platform lending technology to better serve low- and moderate-income borrowers and small business owners.

We want to better understand the opportunities presented by technological advances that may bring new data to bear and help lenders make available credit to a more diverse set of small business borrowers. In some cases, partnerships between community banks and online platforms may help expand access to credit for consumers and small businesses, and help banks retain and grow their customer base.

As regulators, we also want to help the various stakeholders anticipate and carefully manage the associated risks. Of course, third-party and vendor risks are factors that banks should always take into account when introducing new products and services. Taking the time to identify and mitigate risks is a prudent step that banks can take to avoid unintended consequences when entering into partnership agreements with alternative online lenders. In addition, banks should consider whether the partnerships provide new opportunities to diversify their portfolios if they are purchasing loans, and whether the partnerships provide opportunities to offer new products that are a good strategic fit for their bank and their customers.

It is also important for banks to carefully consider regulatory compliance. When purchasing consumer loans originated by online alternative lenders, banks should examine whether fair lending or unfair or deceptive acts or practices issues result from the origination and underwriting methods used by online alternative lenders. To the extent that the underlying algorithms used for credit decisionmaking use nontraditional data sources, it will be important to ensure that this does not lead to disparate treatment or have a disparate impact on a prohibited basis.

Aside from these risks, banks should consider a variety of others, including the implications of credit risk stemming from the purchase of loans and reputational risk if referrals to online alternative lending platforms end badly.

The risks I have described so far have primarily been from the perspective of banks considering partnerships with online alternative lenders. Another important set of concerns are focused on the small business borrowers who may be considering online alternative loans. Some have raised concerns about the high APRs associated with some online alternative lending products. Others have raised concerns about the risk that some small business borrowers may have difficulty fully understanding the terms of the various loan products or the risk of becoming trapped in layered debt that poses risks to the survival of their businesses. Some industry participants have recently proposed that online lenders follow a voluntary set of guidelines designed to standardize best practices and mitigate these risks. It is too soon to determine whether such efforts of industry participants to self-police will be sufficient. Even with these efforts, some have suggested a need for regulators to take a more active role in defining and enforcing standards that apply more broadly in this sector.

You can read the entirety of her speech here

The Bad Merchant Database is Free, But Not the One You’re Thinking Of

Now you can find out if merchant cash advance and business loan applicants have engaged in suspicious activity with other funders for FREE.

For years, the only way to access such a database was through the Small Business Finance Association (SBFA but formerly known as NAMAA) and doing that hasn’t exactly been cheap or easy. As the SBFA describes itself as a not-for-profit trade association representing organizations in the United States and Canada, acceptance comes with adherence to certain trade association rules and fees often too high for smaller companies.

Just about every merchant cash advance company is aware of the SBFA’s shared database of bad actor merchants. It’s widely viewed as the biggest benefit to being an association member. It’s exclusive, almost too exclusive, many would say.

Enter DataMerch, the startup that’s disrupting it all by making the system open to funders… for FREE. Founded by merchant cash advance veterans, the company’s co-founders have replicated a product that the industry loved, but many could not afford or be accepted into.

deBanked has learned that DataMerch already has an active community of funding companies submitting suspicious merchant activity to the database.

Naturally, DataMerch’s tech-based platform made it a suitable fit to integrate the deBanked’s news feed into its member dashboard. The companies announced completion of the integration earlier this morning.

To sign up for DataMerch, contact support@datamerch.com

What The BFS Capital IPO Announcement Means for the Industry

Under the Jumpstart Our Business Startups (JOBS) Act, “an emerging growth company may confidentially submit to the Commission a draft registration statement for confidential, non-public review by the Commission staff prior to public filing.”

According to the New Yorker, this process “allows companies that are thinking about going public to test the waters—they can gauge investor reaction, get feedback from the S.E.C. on their filings, and so on—before deciding if they want to go ahead with an I.P.O. If a company goes through that process publicly, and then decides to abandon the offering, its reputation gets damaged, even though it often makes sense for a company not to go public. Do it privately, and no one gets hurt.”

That’s what makes BFS Capital’s announcement (formerly Business Financial Services) that they had filed a confidential draft registration so bold. Companies normally choose this method if they don’t want anyone to know what they’re up to. But BFS is a different funder than the ones that came before them. OnDeck submitted their original draft registration confidentially for example and actually tried to keep it a secret.

“The initial public offering is expected to commence after the SEC completes its review process, subject to market and other conditions,” states BFS’s September 25th release.

The intent to go public follows a recent rebrand and the announcement that they had crossed $1 billion in funding since inception.

The most shocking part about a BFS IPO is that it’s not a CAN Capital IPO. While CAN is both older and larger, the industry has heard no word about a CAN Capital IPO since rumors leaked in Bloomberg almost an entire year ago. Back on November 20th, 2014, it was reported that the “New York-based company could be worth as much as $2 billion in the share sale.”

There was kind of a universal expectation that CAN Capital would go public immediately after OnDeck and Lending Club. Some insiders have pointed to OnDeck’s disappointing reception and performance as the reason CAN has delayed moving forward. OnDeck is currently trading at less than 50% of its IPO price and is facing a lawsuit from its own shareholders over it.

Others have said that CAN Capital isn’t waiting for anything because the company doesn’t actually need to go public. Long reported to be profitable and self-sustaining, opening themselves up to the volatility and fickleness of the public markets may not be worth the additional capital.

And still more have pondered if CAN Capital has what it takes to excite investors. Unlike some of the brand new tech startups that dominate the headlines, CAN has been operating since 1998, a time when only 42.1% of American households had computers and only 26.2% had Internet access. Of course the company has evolved and these days is as tech-equipped as their young brethren but a 17-year old lender may not be as easy to sell in a market obsessed with companies such as Uber, Snapchat and Airbnb.

BFS Capital was founded 13 years ago in 2002 so they’re not exactly new either. And their CEO, Marc Glazer, has led the company since its beginning.

BFS has been expanding however both here in the U.S. and abroad. In the U.K., they operate under the name Boost Capital. Meanwhile, independent financial brokerage firms such as Entrust Merchant Solutions are being acquired and rolled up into their organization.

What makes BFS different from OnDeck and Lending Club is that BFS also does merchant cash advances, not just loans. The only other publicly traded company that is significantly involved in merchant cash advances is Enova International and that’s only due to their recent acquisition of The Business Backer. The investor uncertainty surrounding lenders and marketplace platforms might not carry over to a company that got its start by purchasing future credit card processing receivables 13 years ago.

It would be safe to say that there’s a whole group of industry insiders who feel that Lending Club is a poor representative sample of the tech-enabled business financing space and that OnDeck’s unique model prejudices investors into thinking all lenders are like them. A BFS Capital IPO could in effect set the record straight for the industry and revive the IPO plans of their peers and competitors.

It might actually take a BFS IPO for us to finally see a CAN IPO, not that there aren’t plenty of other quality candidates right behind them.

What would a BFS Capital IPO mean for the industry? Perhaps a chance at redemption. There’s a lot of great things happening in this industry and investors ought to know about them.