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Thursday, Apr 25, 2024

Need a loan? There's a tech company for that.

Need a loan? There's a tech company for that.

Once something Silicon Valley avoided, financial services such as consumer loans have crept in to the offerings of just about every tech company. The transition to such services highlights the increasing pressure on tech companies to find new sources of revenue. Many tech companies claim that innovation, along with consumer choice, will help people who haven’t had access to traditional banking, but lending carries risks that tech companies are not used to.
Technology companies have a new product to sell: debt.

Once something Silicon Valley avoided, financial services such as consumer loans have crept in to the offerings of just about every tech company, a transition that highlights the increasing pressure to find new sources of revenue.

Many of those services come with claims that innovation, along with consumer choice, will help people who haven’t had access to traditional banking. But some Silicon Valley veterans are also warning that lenders to consumers and small businesses are already plentiful and that the practice of lending carries different kinds of risks than tech companies are used to.

And tech critics aren’t keen on the idea either, pointing to a history of using automated systems that end up discriminating against already marginalized groups.

Uber became the most recent tech entrant in October when it announced a new division called Uber Money that will offer financial products, including a digital wallet containing debit and credit cards. The ride-hailing company has struggled to turn a profit.

Other major tech companies have also come up with similar consumer or small-business offerings. Apple has teamed up with Goldman Sachs for a credit card. Payment companies Stripe and Paypal offer small-business loans. Facebook has teased an entry into finance through its embattled Libra digital currency project. Amazon has offered short-term loans to businesses since 2011 and added Bank of America as a partner in 2018. Even China’s tech giants are getting in on the act.

Those companies are also competing with a variety of startups solely focused on financial services technology -fintech, in Silicon Valley parlance -that offer a variety of tools and services that are underpinned by lending.

It’s the kind of trend that has some investors seeing a future in which tech companies without a financial services business are the outliers. Michael Gilroy, a partner at the investment firm Coatue Management, published a blog post in August declaring that “all big brands will become fintechs.”

“You need to have a business that’s already working,” Gilroy told NBC News. “Then you can get into lending.”

But he also offered a warning: The downside of lending is as big as its upside.

“Credit can be a very bad thing depending on how it’s packaged and how you give it, but credit can also be an incredible driver of the economy,” Gilroy said.

Some major tech companies are already experiencing the pitfalls of consumer lending. A New York regulator is investigating possible sex discrimination in the way Goldman Sachs set credit limits for the Apple Card. Uber’s credit effort has attracted criticism from labor activists and politicians who say the company already has a predatory relationship with its drivers.

The rise of peer-to-peer lending -in which tech platforms connect individuals in need of loans with people interested in lending money - in the mid-2000s led to the first “tech-enabled” consumer debt companies, with some, like Lending Club, going public at multibillion-dollar values. But those companies remained a very small percentage of the larger U.S. consumer and small-business debt industries, which lend hundreds of billions of dollars each year.

That began to change after the U.S. financial crisis, which led banks to pull back from consumer and small-business lending.

“The banks, post-crisis, never really got back into expanding their consumer lending or small-business lending, so there’s this whole market that’s underserved,” said Logan Allin, general partner at Fin Venture Capital, which invests in financial technology startups. “And there’s a portion of that market that definitely deserves credit.”

Bringing financial services to underserved populations has been a rallying cry for tech companies seeking to enter the world of banking. The race to bring banking to poor people around the world has been called a ”$100 trillion opportunity.”

The size of that market, combined with the importance of payments as an everyday consumer service, make lending a tempting proposition for big tech companies even if they’re not bringing anything new to the industry.

“It’s not a shiny industry in the sense it’s not feature-rich,” said Gene Munster, a veteran tech analyst and managing director of the venture capital firm Loup Ventures. “The concept of payments being central to us is timeless, and I think these companies recognize you need to build products that capitalize on just the usage of them.”

Startups are, however, looking to bring new angles to lending. Venture capital flooded into fintech companies around the world in 2018 with $36.6 billion invested across more than 2,300 rounds of fundraising -more than the previous two years combined, according to Innovate Finance, a fintech membership association in the United Kingdom.

But the opportunities for fintechs may be limited, particularly in the United States. Americans already have high personal debt levels, spurred in part by fintech companies that now account for a greater percentage of the overall personal loan market than banks, according to data from TransUnion.

And Allin noted that some tech companies are looking to “alternative metrics” such as tracking smartphone usage as an indicator of creditworthiness, rather than relying on traditional data such as credit scores and income.

The technology behind these loan programs also tends to be secretive, employing algorithms and artificial intelligence to determine who should and shouldn’t receive loans.

“It’s a bit black-box,” Allin said.

Fintech lending has added to broader concerns about “shadow banking” -lending that happens outside traditional financial institutions such as peer-to-peer lending and through hedge funds -that now accounts for almost $15 trillion in assets in the U.S. alone. A 2017 survey by the Federal Deposit Insurance Corp. found about 25 million people in the U.S. were unbanked.

Fintechs also face changing consumer appetites for loans. Jordan Nof, managing partner of the startup investment firm Tusk Venture Partners, who also oversaw venture capital investments at Blackstone, said young professionals who might make sense for fintech companies aren’t looking for loans.

“Consumers who are in their 20s and 30s right now have demonstrated time and time again an aversion to taking on any additional debt,” Nof said. “They want to pay off their student loans as quickly as possible, so creating a new debt product for people who don’t want debt, that’s a tough sell.”

Nof said that while he sees plenty of lending-focused startups that offer legitimate value to consumers, a strong U.S. economy combined with intensifying competition among startups can create problems.

“Right now, we’re just seeing people solving problems that don’t exist,” Nof said.

Nof warned that it’s easy for lending startups to end up resembling payday loan companies -something there’s plenty of. CB Insights, a company that tracks startups, found more than 30 companies dedicated to “unbundling the paycheck” in a variety of ways including lending and loan servicing.

And while startups often thrive by forcing stodgy markets to change, disruption is a far riskier proposition when it comes to debt.

“I think that whenever it comes down to the stakes, it’s kind of similar to health care,” Nof said. “The stakes are just really high. You really can’t get things wrong on that side.”
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