Raising the bar for SME lending

by Melanie Mingas10 Sep 2018

Australian Broker examines the benefits of the new Code of Lending for Australia's 2.1m SMEs

For those who work in the finance industry, there appears to be no shortage of lenders and loans in the marketplace. However, for those running Australia’s 2.1 million small and medium-sized enterprises, it can be difficult to see the wood for the trees.

With the intention of addressing this, in July six fintechs signed the Code of Lending Practice, a document designed to bring transparency and clarity to the online balance sheet lending space.

An initiative of the Australian Small Business and Family Enterprise Ombudsman (ASBFEO) and FinTech Australia, key elements include the introduction of a pricing comparison tool allowing customers to compare the cost of unsecured loans from the signatories; an easy-to-understand loan summary; and a glossary of terms written in simple language.

It also acts to unify other directives set out by such bodies as ASIC, ACCC, APRA, the courts, and the new Australian Financial Complaints Authority (AFCA).

The code was signed on 5 July by Capify, GetCapital, Moula, OnDeck, Prospa and Spotcap, all of which helped create it, alongside the Australian Finance Industry Association (AFIA), SME advocate TheBankDoctor.org, FinTech Australia and ASBFEO. The signatories’ deadline for compliance is 31 December 2018.

Speaking to Australian Broker, Ombudsman Kate Carnell said, “Awareness of what is available in the marketplace is really low. The banks aren’t interested in unsecured loans, so what we have is an area where a very large percentage of SMEs are really starved for growth capital. We think it’s really important for SMEs to understand that [other] options exist, but it’s also really important for these small businesses to know what they are putting into."

In practice, that means the addition of a single page at the front of a loan contract that spells out the exact costs of the loan, the borrower’s and lender’s obligations, and penalties that could be applied if those obligations aren’t met. SME advocate Neil Slonim, from TheBankDoctor.org, says the launch of the code is a significant step.

“There are a number of trends in the market currently which make which make this code relevant and necessary,” he says.

“First there is a lack of appetite on the part of the banks to loan less than $250,000 to businesses without property security, and this has led to a rapid increase be applied number of new players aiming to fill this gap. “However, there remains a lack of awareness and understanding on the part of SMEs as to how these alternative forms of finance work and how they differ from more traditional forms."

Creating the code

In its wider context, fintech has been identified by the government as a key economic driver with a significant role to play. Addressing attendees at the third Australian Fintech Awards in August, then-Treasurer Scott Morrison said, “What you do, as interesting and fascinating as it is in its micro operations, is far more important to us in terms of how it’s changing the rest of the economy.”

SME lending is only one element of the sector, but it is one that is growing rapidly.

 According to figures quoted by OnDeck, the online small business lending market in Australia is growing at a faster rate than the US market did at a similar stage of development. It is on track to reach values of more than $2bn in annual originations by 2020.

“Online lenders are growing at a significant rate,” says OnDeck Australia CEO Cameron Poolman. “This is driven by market demand and the credit gap, the result of significant underservicing and issues of trust and agility related to the traditional finance sector. We launched in 2007 in the US and then in Canada and Australia to solve a major issue facing small businesses: efficient access to capital.”

“Brokers have an absolutely essential role to play in terms of helping small businesses access the most appropriate finance” - Ombudsman Kate Carnell

Further analysis by the lender shows that one in five Australian SMEs have been unable to take on new work because of cash flow restrictions, while nine out of 10 said better cash flow could have improved revenue by an average 11.7%. Worryingly, to solve this issue 66% of surveyed SMEs said they resorted to products like personal credit cards to ease cash flow problems.

“The combination of these issues has played no small part in why fintech continues to grow globally and in Australia,” Poolman says.

OnDeck is no stranger to improving access to capital for SMEs, and previously supported the creation of the Innovative Lending Platform Association, an industry body for online lenders in the US and Canada. Together with other lenders in the association, they created SMART Box, described as a “global best practice pricing comparison tool”.

Building on this experience, OnDeck Australia responded to a survey of online lenders commissioned by the ASBFEO and conducted in collaboration with TheBankDoctor.org. Following the publication of its results in the February 2018 report Fintech Lending to SMEs – Improving Transparency and Disclosure, OnDeck and other online lenders approached AFIA to express their interest in addressing the issues it raised through a dedicated code.

“Given our history and track record of advocacy in this sector globally, becoming a signatory to the code in Australia was an obvious choice,” Poolman says.

Neil Slonim, TheBankDoctor.OrgIn and Kate Carnell, Australian Small Business and Family Enterprise Ombudsman

A matter of reputation

While growth in an area such as fintech is one thing, evolution of a space is quite another. The funding gap left by the banks may have created a headache for business owners, but it has been a gold rush for the online lending space.

However, having a growing number of lenders in any market doesn’t guarantee their quality, and those with predatory interest rates and conditions are able to hide behind the strength and efficiency offered by the fintech sector as a whole. It is hoped that by raising awareness of the code – and adding more signatories – the quality of lending will improve and the reputation of an emerging sector will be preserved.

“The lenders themselves did the work to develop the code, and it’s a testament to their commitment to accountability, transparency and being customer focused,” says FinTech Australia CEO Brad Kitschke.

“Fintechs are solving problems and delivering solutions where the incumbent market has failed. As an industry, we will always prioritise accountability and transparency measures and be customer-centric. It's why under the lenders code customers are given the ability to address concerns to AFCA. We intend on this industry being best practice from the start, being accountable and fair from the ground up.”

“There remains a lack of awareness and understanding on the part of SMEs as to how these alternative forms of finance work” Neil Slonim, TheBankDoctor.org

Echoing his comments, Beau Bertoli, joint CEO and co-founder of Prospa, says, “We hope the code will help small business owners feel comfortable that online lenders are a genuine alternative to the banks.

“We’re focused on doing the very best we can for our customers. I’m proud Prospa has been able to help create and implement a code of lending practice we believe will set the benchmark for transparency and disclosure in small business lending.”

The code is already inspiring its signatories to go above and beyond their market requirements.

“We will deliver additional standardised pricing metrics to all our customers as part of the lending process,” Bertoli says.

“The key metric of total upfront cost of capital will be augmented by all lenders to include other metrics like factor rates, APRs, simple annual interest rates and so on.”

The future of SME lending

The new code focuses on online balance sheet lending – a small corner of the overall SME and online lending space – but the plans are comprehensive all the same.

“Feedback is being sought from small business owners as to what they want to see in the pricing comparison tool, which is under development,” Slonim explains. “This work is being undertaken by the six signatories, together with AFIA and FinTech Australia.”

Additionally, a market comparison document covering the funding options available to SMEs is currently in the works and due for release before the end of the year. More signatories will have the opportunity to add their names to the code in due course.

Carnell says, “The important bit is to have a very transparent complaints mechanism, and that hasn’t necessarily been the case. 

“The lenders themselves did the work to develop the code, and it’s a testament to their commitment to accountability” - Brad Kitschke, CEO, FinTech Australia

OrgIn fact it hasn’t been the case. “So in the next few months our challenge off the back of the code is to work up both the internal and external dispute resolution tools for its enforcement. There is no point having a code if it isn’t enforced.”

An independent and suitably qualified Code Compliance Committee will be appointed to determine whether a lender is compliant, and it will also be tasked with the responsibility for ensuring ongoing compliance with, and enforcement of, the code.

The code will no doubt boost business for those who comply, while raising the bar for online balance sheet lending. But that doesn’t mean brokers are out of the loop – in fact they will be relied upon more and more to support their SME clients and help them navigate a burgeoning SME lending sector.

“Small businesses aren’t in a position to navigate all the options out there. I think brokers have an absolutely essential role to play in terms of helping small businesses access the most appropriate finance for their business,” says Carnell.

“Certainly, accountants are important in this space, but for accountants also it’s not their expertise to know all the products or the most appropriate ones, what they really cost and what the traps are for the unwary. I think that is a huge role for brokers going forward.”