Alternative lenders, or startups that provide financing to individuals or businesses with patchy credit, are sure to be a big topic of conversation at the Collision Conference in New Orleans next week. The event, which runs April 25 through 28, gathers together entrepreneurs, investors and analysts from more than 50 countries around the world.
Launched in 2014, the conference is the U.S. version of the popular Web Summit, an annual tech conference that takes place in Dublin, Ireland, and is run by Irish entrepreneur Paddy Cosgrave. Last year, Collision drew more than 7,500 attendees to Las Vegas, Nev., including representatives from 1,200 startups and more than 450 investors.
One panel to keep an eye on is the "smart lending" discussion on Wednesday, April 27, featuring Rohit Arora, co-founder and CEO of small business lender Biz2Credit, and Louis Beryl, co-founder and CEO of Earnest, a provider of personal loans, student loan refinancing, and loans for coding academies. The firm underwrites clients according to as many as 100,000 financial data points, beyond the traditional FICO score that banks rely heavily upon.
"The invention of it [FICO] was a good thing, but it hasn't continued to innovate," Beryl said in an interview with Inc. "It's become more limited," he added, because it doesn't consider assets and only looks at a client's liabilities.
Earnest and its competitors (SoFi, CommonBond) want to disrupt the financial services industry by considering a borrower's employment history, income, checking and savings accounts, or 401(k) contributions, for instance. Its website integrates with the borrower's financial accounts in a style similar to Mint.com's, as Beryl describes it.
The average loan size with Earnest is $70,000, with interest rates starting at 2.13 percent (variable.) In 2015, its second full year of operating, Earnest did more than $400 million worth of loans. For reference, SoFi recently surpassed $6 billion in loans funded to date.
Biz2Credit, which launched in 2007, serves a different demographic: Small business owners who might otherwise be rejected for financing from banks. The online marketplace has funded more than $1.2 billion worth of small business loans. It generates short-term, high-interest rate loans for companies in need of fast cash.
Alternative lenders have been generating buzz in recent months. In 2015, such firms accounted for nearly two-thirds of all digital banking investment dollars, more than investment managers or money transfer services, according to research from CB Insights. Seven financing rounds of $200 million or more went to lending startups last year, including SoFi's $1 billion Series E round, Lufax's $485 million round, and Avant's $325 million Series E.
"Our overarching thesis is that the financial services industry does not yet have an Amazon," said Battery Ventures general partner Roger Lee, in an interview with Forbes, when Earnest raised $275 million in funding last November.
"Most other consumer industries have been really disrupted by the Internet, mobile, data and design. And yet consumer finance has not been. We think that that's going to change over the next 10 years," Lee added.
Earnest says it will be part of the change, with its savvy underwriting algorithm and relatively low interest rates. It recently brought on Gian Gonzaga to serve as its chief data officer, who previously headed up content algorithms at Netflix. What makes the company unique, Beryl says, is that it services a loan over the course of its lifetime and offers ongoing customer support.
"When they [competitors] originate a loan, they might talk about customer service, but it's just for the short amount of time it takes to fill out an application to originate a loan. It's like sales," said Beryl. Earnest, by contrast, will call, email, and even text clients whenever they need assistance over the course of many years.
Still, in recent months, some have raised concerns over the lack of transparency in the alternative lending space. Just last week, as my colleague Jeremy Quittner reported, three U.S. senators sent a letter to the U.S. Government Accountability Office, asking it to look more closely at peer-to-peer lenders, as well as alternative lenders. The senators have encouraged the organization to examine these new credit-underwriting standards, to determine whether they're compliant with fair lending laws.
It's also worth pointing out that borrowers who qualify for student loan refinancing through Earnest, SoFi or CommonBond tend to be making sizeable incomes, and often do have good credit. Over time, that could make it tricky for the startups to scale.
"The strategy of cherry picking high credit, quality borrowers is a good one, but a short-term one," noted Craig Focardi, a principal with CEB, a research firm, in a previous interview with Inc. "Any startup or traditional bank or credit union can do the same thing, and these borrowers tend to be more savvy and need the least help."
In response, Beryl points to a librarian user of the platform -- a client who makes less than $100,000 annually, but who is excellent at saving. "I can't ensure how that person will change over time," he admits, "but when you see someone living very financially responsible...that's what we're looking for."