The 2008 financial crisis gave rise to the alternative lending market as a result of a massive gap in available capital, especially for small businesses and startups. The market's creation was a spark that ignited a slew of disruptive changes for the small business financial services space.
Alternative finance, for instance, also filled the need for small business borrowers to obtain a faster, digital way to access capital. It encouraged banks to develop their own digital lending solutions and collaborate with their one-time rivals to step up the borrowing experience for SMBs.
The knock-on impacts of small business lending innovation continue to reverberate in the industry, with regulators now exploring small business borrower rights and protections, cybersecurity firms addressing data risks and the small business borrowers with more financing options than ever before. Alternative lending may have been a last resort for SMBs at one time, but today, more and more business owners are turning to AltFin first.
Todd Rowe, president of marketplace lending platform BitX Funding, told PYMNTS in a recent interview that the marketplace lending industry is at the crux of many of these trends. As collaborators with both alternative and traditional lenders and financiers, digital marketplaces are at the epicenter of many disruptions and innovations in the industry, working to expand access to capital for small firms while mitigating risk and maximizing profit.
According to Rowe, these changes have opened doors for small businesses that may typically see a bank loan as their only option when in need of capital. "The small business owner may not know what they need," he said. "That's always a big challenge."
Even if they are aware of an alternative lender, that FinTech's ability to provide a short-term loan with potentially high costs is not necessarily the best option for an SMB. Business borrowers must understand that short-term financing must be put to use and demonstrate a quick return on investment for such loans to be worth their money, said Rowe; marketplaces can offer an array of products designed to address a company's particular needs, which may be a Small Business Administration (SBA)-based loan, equipment financing or something else.
Entrepreneurs may also lack awareness or understanding of how to improve their chances of obtaining financing, with Rowe noting resources from the SBA that can help companies develop business plans.
Startups have a particularly difficult time finding financing because, as Rowe explained, "they may only have their name and FICO [credit score] – and that's all they have to go with." For these firms, they may not need to endure the burden of developing a holistic business plan, and a commercial credit card option can be an effective way to build credit as a company gets off the ground.
The options are many, and according to Rowe, marketplace lending has enabled startups and SMBs to gain a holistic, streamlined view of all their choices. The online marketplace lending sphere has, as a result, propelled competition between players and promoted innovation to address SMBs' particular financing needs.
But the diversification of small business lending has led to further industry disruptions, from regulation to security concerns, and online marketplace lending platforms are exposed to much of this.
Rowe noted that the sector is closely watching many of these trends, including growing concern over "bad actors" who may not have borrowers' best interests in mind. Indeed, a range of small business financing products – particularly merchant cash advances and other alternative loans – have recently caught the attention of regulators, as calls to include small businesses under borrower protection regulations intensify.
Earlier this month, the U.S. Federal Trade Commission (FTC) opened an official probe into the alternative lending space to target some of the more controversial parts of small business borrowing, like the use of confessions of judgment (COJ).
"Default rates are very critical, and lenders are starting to enforce the DOJ, but now the government is asking whether it's really fair to the small business," said Rowe. "Do they really know what they're signing? There is a lot of debate around transparency."
Regulators are also strengthening their watch over data protection as the lending space migrates online and embraces API connectivity to strengthen underwriting processes. Again, marketplace lenders often sit in the middle of that data connectivity, making data and cybersecurity of paramount importance for these platforms, too.
With small businesses increasingly viewing alternative and online lending as a strategic option, rather than a point of last resort, competition in the industry is on the rise. Rowe said this will continue to be a challenge for companies like BitX Funding, but noted that the opportunity to collaborate with local banks, accountants and other financial service providers is significant.
"We're taking more of a grassroots method, working with local banks, networking with CPAs, and people that know their small business customer," he said.