Lessons in P2P Lending Profit and Sustainability

Consider the positives in the way that we do things, against the background of the current pandemic.  For the sake of us all, it is important to try to keep things going, learn and make all the positive moves for improvement that we can during this lockdown.

For most companies, the time to make radical changes is when business is quiet or depressed for whatever reason.

Matt Mullenweg, CEO of WordPress, commented on the impact of Corona Virus: "this is not how I envisioned the distributed work revolution taking hold...but it might be a chance for a great reset in terms of how we work."

Changes described in a report by Rosenblatt Securities, predicted that Unicorn businesses could be devalued and challenger banks, marketplace lenders and robo-advisory services should note that:

"FinTechs with lower fixed costs will outperform and gain favour with investors over those with big, rigid fixed costs.  The flexibility in business models and the ability to dial-up/down costs will become critical for FinTechs and will determine which firms survive.  Firms that rely heavily on large marketing expenditures to generate growth will come under investor scrutiny as they can no longer justify large customer acquisitions costs due to weak transaction volumes."

Peer to Peer or Marketplace Lending has an enormous contribution to make to the economy going forward but it is not without its challenges.  If this period doesn't prompt P2P Lending firms to have a good think about their business models, I don't know what will.

Flaws in the Business Model

For so many P2P/Marketplace Lending companies, the business models are not working successfully.  Models are mainly based on "scale" and "critical volume", but many have scaled and have reached, and in some cases exceeded, volumes considered critical but are still burning through shareholder cash.  Cash which may be in shorter supply going forward.

FinTech: generally excellent and innovative on the "Fin" but there is significant scope for improvement on the "Tech".

Revising the Business Model

In 2008, we researched the emerging "Social Lending" market as it was called then, now P2P/Marketplace/Online Direct Lending.  Our findings were that the few in that market were already spending far too much on IT (in come cases $10m and more) and running far too many staff, for companies whose unique selling proposition was that it was providing a better/quicker/cheaper service than banks' lending.

Fast forward to today, the FinTech/P2P industry cannot claim it is doing a better job than banks when it's supported by shareholders constantly having to put their hands into their pockets to sustain continuing losses.  Now is the time for firms to deliver profitability and cash generation.

Like all businesses, a lack of profitability simply depends on two things - revenues and costs.  On revenue, there are probably limited options because the market has history on what such services should cost, so limited opportunities to increase fees and hence revenue.

Costs are the more interesting area to examine, and with the biggest potential upside.  Three of the biggest costs for a FinTech/P2P are: Office, IT and Employees.  Let's discuss these further.

1. Reduce Office Costs

Is it necessary for a FinTech to have large offices with lots of staff in expensive places, eg the City or Central London?  As we have seen recently in lockdown, the answer is probably "no", it is just not necessary.  Cheaper, and smaller offices could accommodate only the staff who are "necessary" in the office location.  Others can be located anywhere, preferably at home, as we are finding that this is workable during this pandemic.

Equally, remote working will enable national and global recruitment so new geographic or specialist markets, can be served by those who have the best skills for the job, from anywhere around the world.

A smaller office reduces costs, remote working reduces re-location costs, and the combination of both can hasten profitability.

2. Reduce IT Costs

Many in the sector have had eyewatering amounts of annual spend on IT.

On the "Tech" part of FinTech we have observed the banking sector over the years and the big mistake was the almost exclusively in-house development of their systems, leading to:

a) trying to build, from the outset, global solutions to handle all business, too big and complex - instead, the way to construct complex systems is to start with a simple system and then add, expand and develop;

b) software written for their specific requirements without the vision of the future or the flexibility to easily change (in such a very volatile and changing marketplace) when the only certainty is the fact that, as soon as the system is implemented, change is always required;

c) IT staff with too little experience of the development of financial systems, or the latest technology, grouped in development teams generally too large to manage creatively or effectively;

d) each firm bearing 100% of all costs of their technology from concept to live and subsequently all the maintenance changes into the future, including the industry-wide regulatory changes that everyone must implement.

P2P/Marketplace Lending platforms unfortunately seem to be falling into the same trap! Specialist niche products from external suppliers, offering shared costs of development and maintenance, could save considerable costs.  Hosted externally, of course, as now we know, thanks to Covid-19, that systems must be operable in an administration sense from remote locations, other offices, home offices, etc.

The argument against using commercial systems, has always been that FinTechs "need" to own the Intellectual Property Rights in the software, but this notion is outdated.  Profitability and sustainability are more important.  Just as FinTechs don't need to own an office building or the computers, desks and chairs that employees use.  In this world of leasing opportunities and new technology with very functional software offerings in various delivery mechanisms (own server, Cloud based, SAAS, PAAS, API based components, even Market As a Service) niche commercial software is providing valuable tools without the heavy IT overhead.

Instead of building your IT in-house, look to save money by using available flexible commercial platforms or components for shared costs of development and support.

3. Make IT the Solution to Growth, not an Ever-Increasing Headcount

Alarmingly, there are firms using "passive" transaction recording systems that do nothing to deliver real power to an organisation.  Process workflows should be managed by the software, thereby creating "active" systems.  Operators and administrators should only need to do three main tasks: monitor, approve and manage exceptions.  Of course, there is a need for customer service personnel but the system should do all the heavy lifting, where possible without human interaction, leaving the skilled humans to use their skills to move the company forward.

Automated processes not only ease human workload, but they deliver consistency of approach and regulatory compliance.  P2P/Marketplace Lending cannot be managed successfully without highly automated, IT active systems.  With potentially hundreds of lenders funding each single loan, there are potentially millions of transactions involved in even a small-scale operation.  The software must take the strain to enable growth without degradation in customer service, otherwise firms have no choice but to throw more and more customer service staff to manage the processes effectively.

Commercial lending software should have scalability built in, saving significant costs in operations and headcount.

The Industry Outlook

The industry began, supported by the Government and Regulators alike, to provide robust competition to the traditional and dominant banking sector.  There is much to be lauded about the achievements to date, proving the concept and establishing real alternatives for consumers of financial services. 

With the impact of Covid-19, there is an uncertain economy to navigate so now, more than ever, P2P/Marketplace Lenders need an optimum lean business model to deliver very necessary products and services.

Quick wins could be in those changes to office, IT and employment costs that we've discussed, which could transform many P2P Lending firms into profitable businesses.  Even more important right now, as static or dipping revenue levels in the short term, are a real danger.

With a new lean business model, they can continue to provide excellent customer service and innovative financial products, more confidently and sustainably.  Consumers need these businesses to drive competition in financial services, long into the future.