As UK based firm Funding Circle announced in October that it had raised $37 million to bring its online investment platform to the US, it is clear that peer-to-peer lending, which has to date been mainly constrained by national borders, is establishing itself in the global mainstream for business investment.
"The idea is to build an international business that can help small businesses access finance... help investors get better returns and really turn the banking system upside down," co-founder and Chief Executive Samir Desai said in an interview with Reuters last month.
Emerging back in 2006 with the launch of lending platforms such as Prosper and Lending club in the US, the peer-to-peer lending model sold itself to businesses as a more direct and less troublesome option than approaching traditional financing institutions.
The interest rates on business loans are predetermined by lenders who compete for the lowest rate on a chosen investment opportunity, using the ‘reverse auction’ model. The businesses seeking finance then benefit from achieving affordable loans without having to deal with the hassle and complexity of the banking world.
The lending platforms are for-profit businesses and make their money from collecting a one-time fee from borrowers and a loan servicing fee from investors. As it’s all online, the intermediary companies function with lower overheads, providing a cheaper service than other financing institutions meaning that investors can achieve higher interest rates.
Indeed, 5-6% returns are now commonly enjoyed by investors in this sector.
Early peer-to-peer models suffered from high borrower default rates as there was little restriction on eligibility but more recently the Securities and Exchange Commission required that peer-to-peer models register their offerings as securities which led to greater transparency between borrower and lender.
After the financial crash of the late 2000s, the peer-to-peer model for funding came into its own as banks refused to increase their loan portfolios. Lending Club is currently the market leader, followed by Propser. According to Lending Club's website, the company has issued 225,000 loans for more than $3 billion.
These market leaders are now operating internationally and are blazing the trail for peer-peer lenders in other countries to extend their reach.
“After six years of experience and some bumps, including a financial crisis and ensuing recession, peer-to-peer (P2P) lending has finally earned its place on an income investor’s menu.
The basic premise of these bank disintermediaries is that they harness the networking power of the Web to match people who have excess cash with people in need of it or those who simply want to refinance credit card debt.” says Chris Barth, Forbes.com
Executives from traditional financial institutions are now being drawn to the bright light of the new model and are becoming board members, lenders and investors. John Mack, former chairman of Morgan Stanley, is a convert to P2P lending. After committing several million of his own capital to such loans, he joined Lending Club’s board in April 2012.
Now Funding Circle, who have to date raised $266,584,724 million in loans have adopted a transatlantic approach and, in doing so, joined the big guns in the field in jettisoning this type of financing into the global realm.
Funding Circle has also revealed that it will merge with smaller US service Endurance Lending Network. Launched in 2011, the Endurance Lending Network has operated in the niche market of fast food joint franchisees.
Funding Circle claims that, combined with its back-end technology platform, Endurance’s established team of employees with experience of the US market will help it crack America. The whole Endurance team will stay on at the company, which will re-brand as Funding Circle as it targets what the Small Business Administration estimates is a $100 billion funding shortfall in the US economy.
“This is a very big step as it is the first merger of large p2p lending service and at the same time the first international merger. Funding Circle will be able to target a huge market,” says microfinance blog P2P-Banking.com
With Santander UK now revealing its aim to collaborate with Funding Circle in the near future, and two US community banks signing a deal only last month to buy loans through Lending Club, it is clear that the peer-to-peer model is now so valued, it is even attracting the attentions of the banks it set out to by-pass. An irony, but not a bitter one, for these prescient companies.