M.S. Martinez, GP, Mouro Capital: Lending as Destination
Global, March, 17 2021 -
Lending is at the core of what we do as fintech investors. But our approach to investing in lending start-ups has changed over the years, integrating learnings from the past to bet on the winners of the future.
If we look back at the past five to ten years of innovation in lending, a number of product and business models, very hyped at earlier stages of development, have ended up not growing to their full potential, or not being recognized by the public markets for the value they thought they could reach.
- We have seen the stagnation of P2P platforms, as they have been subjugated to a ‘glass ceiling’ that has relegated them to niche players with rather insignificant market share. What initially was perceived as the ‘biggest disruption in the history of banking’ in the early 2010s has ended more or less in the same place in most major markets globally.
- We have seen self-proclaimed “technology-first” lenders being punished by the market, as over time investing in customer and portfolio growth outpaced the technology agenda. Many of these have ended up crowding the “specialty lenders” category of your favorite online finance portal, faring very far from their technology peers (and their trading multiples) with whom they started their innovation journey.
- We have seen too many lenders forget about the need to interact with capital markets efficiently, and building that indispensable part of the businesses too late in their growth trajectory, dragging more company resources than most founders would have wanted. Too often, capital markets access has become the ‘break it or make it’ factor hindering real scale.
- We have also seen how, when the technology and innovation drive of the early days fades away, many neolenders are ‘just another credit provider’ in the eyes of their clients; the remembrance of the ‘glorious days of past technology shine’ being long gone.
All in all, innovation in lending has been marked by this tension between being (and remaining) a technology company (and retaining such recognition by clients and the public eye) vs. ending up building ‘yet another good old incumbent’.
So where does that leave us as fintech investors?
We have come to terms with one thing: lenders are lenders. And, as such, they have to face some immutable truths. No matter how cool they are, they will need to say “no” to clients from time to time (it’s called “acceptance rate”). No matter how innovative they are, they’ll need to ‘dumb down’ their language to equalize and make themselves understood by capital markets operators who will need to fund them - and who are not particularly innovative. And, no matter how aggressive they are, their VC investors will need to understand that, to build a new lender, VC money may not be used with the same efficiency as in other industries at all times (yes, cash may end up trapped in a junior tranche of a debt structure).
With that in mind, how can new lenders still achieve “tech-enabled” status over time? In our view, it’s about turning lending from a no-name “nice-to-have” (as necessary as it may be) into a destination in itself. Thinking about lending as a destination, it is:
- Thinking about utility rather than economics: clients don’t (always / only) care about APR, interest rates, fees. They of course want to know that they are not being ripped off, but otherwise they care more about the utility credit (and, really, any financial product) gives them. “Will I be able to buy this or that?” “Will I be ready to cope with a spike in demand?” “If things don’t go as planned, will I have a lifeline to keep my company or my family afloat?” That is something that is very prevalent in the microfinance world, where at times the lack of financial literacy would only leave financial products to be understood in terms of causal enablement, a sort of IFTTT for financial planning. Those basic human behaviors apply to many other types of clients, even the more sophisticated ones...
- Adapting rather than imposing: banks are not good at creating products that adapt to fast changing client needs. With on-boarding processes taking up to a few weeks for SMEs, scoring based on “last year’s balance sheet” or “at least three years of operations”, etc, how could a venture-backed, “grows 3x year on year” company, a high-seasonality online retailer, a content producer that just made it to the spotlight,..., find what they need at all times? New lenders should endeavour to peg to their customer journey and amplify them, not hinder them. This starts with being ‘data-smart’ at on-boarding, creating data structures that allow the lender to be a step ahead of clients’ needs, and think about underwriting and disbursement in terms of high speed, frequency and availability.
- Building share of mind to fight irrelevance: a lender wanting to be a tech company needs to think ‘product’ first. More so, the ambition should be at becoming a core piece (even a branded piece) of the financial and operational life of clients. That requires rethinking product/market fit beyond basic lending considerations, and building functionalities that enhance the user experience beyond the credit cycle - even better, functionalities that have stand-alone utility while improving the lending experience. A key question in this regard is how verticalized should the experience be - but that’s for another post!
For investors, it’s about building more resilient businesses (and Covid has shown how vulnerable lending can be). It’s about complementing net interest margin revenues with countercyclical revenue streams. It’s about building SaaS dynamics into a lending product and focus on NPS, product usage metrics, etc. as much as on APR and NPL. Ultimately, it is about making sure that we are not paying ‘tech multiples’ upon investing and only getting back ‘book-to-value’ upon exit.
We believe there are a select few new lenders that are innovating along these lines.