How Small FIs’ SMB Lending Journeys Nudge The US Toward Open Banking

To service Main Street businesses, it’s an obvious advantage for a financial institution to actually be on Main Street. For community banks and credit unions, their physical proximity to the small businesses they’re servicing is often pointed out as a major advantage these smaller players hold over the big banks, enabling these FIs to develop deeper relationships with their small to medium-size business (SMB) clients, anticipate their needs and establish trust.

But it’s undeniable that larger FIs also have a major leg-up over community banks and credit unions, which often comes in the form of a greater pool of resources from which to draw upon when upgrading and digitizing services.

The PYMNTS September Credit Union Tracker pointed to the growing pressure for credit unions to respond to their members’ rising demands for mobile-friendly platforms, faster payment services and other modern financial products. As Mark Rockefeller, co-founder and chief executive officer of small business lending-as-a-service provider StreetShares, told PYMNTS in a recent interview, that pressure to digitize expands to credit unions and community banks in their SMB lending offerings, too, and do it profitably.

“With bigger banks, some of them have more software engineers than Google,” he said. “This is an extraordinary thing. They view themselves as technology companies … On the other side of the spectrum, you’ve got community banks and credit unions.”

Of the thousands of these players operating in the U.S. today, only a small fraction offer a fully digital small business lending experience, he said, and that means these players are losing out to their larger rivals.

Without the resources to build out their own digital SMB lending platforms, the natural next step is to collaborate with FinTechs, a strategy that today has become commonplace for financial institutions big and small. But it’s particularly important for community banks and credit unions, said Rockefeller, because as millennial, and now even Gen Z small business owners enter into the fold, the bare minimum in small business lending expectations is for a 100 percent digital experience. If smaller players can’t build that themselves, they must collaborate to offer it to their SMB clients.

The Open Banking Trajectory

This need to collaborate with FinTechs has ushered in a new trajectory in small business lending, one that has led to the rise in Banking-as-a-Service.

Rockefeller described the current model for banks as a pyramid: at the base is the bank’s core infrastructure, upon which platform service providers sit, upon which various apps and plug-ins sit. In StreetShares‘ case, its small business lending-as-a-service offering does not integrate directly into banks’ core infrastructure, but rather “wraps” around it, he said.

Along this Banking-as-a-Service trajectory also sits the opportunity for open banking to become a business model that would enable financial institutions to more efficiently offer digital banking services and products to their clients — an attractive proposition for community banks and credit unions looking to bolster their small business lending offerings.

According to Rockefeller, however, challenges pertaining to infrastructure and data security had resulted in what he described as a “half step” toward open banking in the U.S. Rather than third parties having to integrate directly into banks’ core systems, they can sit on top of them (like the aforementioned pyramid).

While Rockefeller said it’s unclear whether the U.S. is headed in the direction of full-blown open banking, the Banking-as-a-Service model of sitting on top of, not within, banking systems seems to be the way the market is going.

Non-Banks Enter the Fold

In markets like the U.K. and Europe, open banking regulations exist to promote competition and enable FinTechs to strengthen their service offerings to customers. In the U.S., this “half step” toward open banking and the growing prominence of Banking-as-a-Service is similarly adding weight behind FinTech competition, and that includes in the small business lending space.

“Even payment companies now are becoming lenders,” he said. “PayPal and Square are some of the largest small business lenders right now in America … At this point, you’re seeing the rise in non-traditional players in the space, and that’s made possible by the fact everything is now as-a-service. You don’t have to be a bank to offer these things.”

This presents an interesting conundrum for community banks and credit unions: while banking and small business lending-as-a-service offerings make it easier for these players to jump on the digital SMB lending bandwagon, it also makes it possible for new industry competitors to do the same. Rockefeller said this is undoubtedly a good thing for companies like StreetShare.

For financial service providers, meanwhile, what’s certain is competing in the small business lending space means, at a bare minimum, offering a 100 percent digital, omnichannel experience. Differentiating from the competition will look different for different players, whether that means data security, value-added products and services, or otherwise. And whether the U.S. is taking a half step or a whole step toward open banking, the competitive headwinds seem to be on the rise.

For smaller FIs to compete, Rockefeller said, they need to have access to the same technologies that larger players and FinTechs have.

“The future is already here, it’s just not evenly distributed,” he said. “Banking technology is here, it’s just not in the hands of smaller banks.”