The more things change, the more they seem to stay the same.
For the past few years, online lenders have been the next big thing in the financial world. Today, they are facing challenges that threaten to disrupt the maturing industry that was at one point itself considered a disruptor.
Just this week, the stock market punished the Lending Club on news that Renaud Laplanche had resigned the top job at the online marketplace he founded in San Francisco in 2006.
By November 2012, Lending Club had issued more than $1 billion in loans and became profitable for the first time. In May 2013, Google purchased a stake in the company, and in December 2014, the company went public in the largest tech IPO of 2014. It ended its first day of trading with a value of $8.5 billion.
A recent internal review of $22 million in near-prime loans sold to a single institutional investor were found “in contravention of the investor’s express instructions as to a non-credit and non-pricing element,” according to post on Finextra. It cost Laplanche his position.
But there are other problems at Lending Club, and throughout the $21 billion online lending industry.
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A late April Wall Street Journal article reported Lending Club was going to charge riskier customers more to offset higher-than-expected losses on its loans. It was the third time it had raised rates in fewer than six months to make loans more attractive to potential investors.
The New York-based OnDeck Capital faced a similar problem. According to first quarter data, the company, which either sells its loans to investors or keeps them itself, sold 26% of loans to investors compared to 40% sold the previous quarter. OnDeck’s average gain on sale also fell in the first quarter, from 9% to 5.7%, forcing it to use more of its own capital to buy loans, according to the Journal.
In early May, online lender Prosper Marketplace cut 28% of its staff, or 171 positions, to cope with a decline in loan volume. In 2015, the company was valued at $1.9 billion.
In an email to the Wall Street Journal, Prosper’s CEO Aaron Vermut said, “with the recent tightening of the capital markets, we are refocusing on our core consumer loans business.” Vermut will also forgo a salary this year.
Prosper has never been profitable. In 2015 the company originated $6.1 billion, more than double the $2.4 billion in had originated in total from 2006-2014. Its losses also grew — from $3 million in 2014 to $26 million in 2015 — on revenue of $204 million, according to the Journal.
So what has happened to online lenders?
As the American Banker has pointed out, the model by which these online marketplaces fund their loans was troubled from the start. These lenders rely on institutional investors for liquidity. And smart investors try to maximize reward while minimizing risk.
Per the Journal: “Loan buyers are concerned about falling returns on online consumer debt, while they have been tempted by higher returns on other forms of credit, such as corporate junk bonds.”
And as the American Banker reported last week, institutional investors backing away from online lenders is troubling for one specific reason: nationwide credit performance is still good. So what happens in the bad times?
In 2014 I wrote an article titled “Why Credit Unions Should Care About Silicon Valley Startup Lenders.” I spoke with Victoria Treyger, the chief marketing officer for Kabbage, a small-dollar online lender. I asked her if she viewed banks and credit unions as competitors. She told me:
“Absolutely not. Kabbage at its core is a data platform that can be used by multiple financial institutions to help them serve their customers better. We are currently in discussions with multiple banks and credit unions to enable them to license the Kabbage underwriting data platform to serve their customers … Today, underwriting small businesses for financial institutions is a manual process that is inefficient and takes a lot of time. By partnering with Kabbage, financial institutions will be to make more loans and serve more customers since our data platform is 100% automated.”
And it makes sense. Banks and credit unions have access to reliable, low-cost sources of capital while online lenders can provide their proprietary technology. So why not?