Lots of companies have tried to use technology to improve small business lending with data, collecting information about merchants from their social media profiles, online accounting software, and reviews to help lenders decide whether to make loans. Alternative companies such as OnDeck and Kabbage have succeeded at increasing loan volumes and speeding approval times. But their loans usually cost more than bank loans or credit cards—sometimes much more.
Lending Club and PayPal are now betting that the high-tech approach can also bring borrowing costs down for Main Street businesses that don’t qualify for bank loans. Lending Club, the peer-to-peer lender likely headed for an initial public offering later this year, launched a small business lending program last night. And PayPal (EBAY) today said it would expand a program that has provided “tens of millions of dollars” in working capital to businesses that used PayPal in the last six months.
Lending Club is the 800-pound gorilla in the peer-to-peer lending world: The San Francisco company has historically operated as a marketplace where investors can fund consumer loans, and says it’s originating loans at a pace of $750 million every three months. Now it will also facilitate commercial loans for amounts ranging from $15,000 to $100,000.
Small business owners can apply online for loans ranging from one to five years, with interest rates from 5.9 percent to 29.9 percent, the company said. Lending Club Chief Executive Officer Renaud Laplanche says the average interest rate will be 12.5 percent. For now, ordinary investors can’t fund small business loan on Lending Club. The program is limited to institutional investors such as hedge funds, insurance companies, and family offices that manage wealth for the very rich, but eventually the company plans to let anyone invest. Those investors supply the capital for loans and recoup interest payments. Borrowers pay Lending Club an origination fee of from 1 to 5 percent in addition to interest payments.
Lending Club isn’t the first company to try peer-to-peer lending for small business loans. SoMoLend and Funding Community tried and failed; Funding Circle and Dealstruck are currently making a go of it. Nor are peer-to-peer lenders the only nonbank lenders trying to improve on rates offered by merchant cash-advance companies, which can carry effective APRs from 30 percent into the triple digits. Newer lenders like Fundation and existing companies such as OnDeck have also launched loan products that may be competitive with Lending Club’s rates.
Allowing hedge funds and other institutional investors to invest directly in small business loans on Lending Club doesn’t represent a big shift, says Peter Renton, a prominent blogger on the subject of peer-to-peer lending who recently launched an investment fund. “Every small business has an institutional investor as their creditor already,” he says. (He means banks.) The bigger change will come when Lending Club opens its small business lending platform to ordinary investors, says Renton, allowing people to crowdfund loans to businesses in their local communities. “I really believe that’s how businesses who are one tier down from a bank loan will get loans,” he says. “People want to fund in their local communities.”
PayPal is offering a more specialized product. In September the company launched a pilot program to offer merchants that use its online payments system working capital loans through a Utah bank. Merchants can borrow as much as 8 percent of their total annual sales on PayPal, to be repaid in daily installments until the business has repaid the principal, plus a fixed loan fee. In an example furnished by the company, a merchant with $100,000 in annual sales borrows $8,000; PayPal collects 15 percent of the borrowers’ daily PayPal sales until she has paid back the $8,000, plus interest of $594, about 7 percent of the principal.
Brian Grech, portfolio manager for the PayPal program, says the company has enough data on its merchants to make good underwriting decisions. It also has an incentive most lenders don’t: If a PayPal merchant expands her business, she’ll probably receive more PayPal payments, generating more transaction fees for the company. Grech wouldn’t say how much money PayPal plans to lend. But he considers the program “permanent,” and says he’d like to increase the size of the loans and explore lending to merchants who don’t use PayPal as a way to attract new customers to the payments system.