P2P Business Lending: Investing in Business Loans
Business crowdlending or p2p business lending is a type of peer-to-peer lending where individuals or institutional funders will provide a loan to a business borrower – typically a small or medium-sized enterprise. Business crowdlending is increasingly seen as a viable source of alternative financing and the market is showing impressive growth rates.
The Market of Business Crowdlending
When looking at the market for alternative financing or crowdinvesting, the most wide-ranging research has been made by the Cambridge Center for Alternative Financing (CCAF). Together with partners, the center is conducting a global benchmarking research program tracking alternative financing/crowdinvesting volumes on both regional and global levels.
Since 2015, the CCAF has released four reports aimed at understanding the European online alternative finance market. The latest rapport was published in 2019 with the title Shifting Paradigms and draws on data collected in 2017. According to the rapport, the total market volume of alternative finance across Europe in 2017 grew by 36% from €7.67 billion to €10.44 billion. Here, business crowdlending had a market share of 13.8% amounting to €466.60m. In comparison with 2016, this is a growth of 33% from €350m (212m in 2015).
Similar rapports can be found for the Americas and Asia-Pacific regions. In the Americas, the total market volume rose 26% from $35.2 billion in 2016 to $44.3 billion in 2017. Of these, business crowdlending accounted for $1.5 billion or 3.4% of the total market for alternative finance. Across the Asia-Pacific region, the overall market for alternative finance achieved a market volume of $361.9 billion of which $98 billion came from P2P business lending. In this context, it is worth noting that the USA represents a market share of 97% in the Americas and Mainland China a market share of just over 99%.
Society Needs SMEs – and SMEs need P2P Business Lending
According to the OECD (Organisation for Economic Co-operation and Development), SMEs and entrepreneurs account for 50-60% of value added and 60% of total employment in the OECD economies. Also, they are “key to strengthening productivity, delivering inclusive growth and helping economics adapt to changes like the digital transition, aging populations and the changing future of work.” (OECD, 2019). In other words, they are absolutely essential for a healthy economy – now and in the future.
To be able to maintain this contribution to societies across the globe, sufficient access to credit is vital. As growth slows in bank lending, SMEs are now turning to alternative financing instruments like business crowdlending at a faster pace than in the past. This is especially true in high-income countries, where growth in bank lending to SMEs was subdued at 2.2%. Some countries, like for example the UK and the US, even showed negative growth rates with demand for bank lending being limited by the increased availability of alternative sources of finance.
The findings of the market for business crowdlending described above, are backed by the OECD rapport Financing SMEs and Entrepreneurs 2019: An OECD Scoreboard, who also find significant increases in p2p lending and equity crowdfunding in 2017 – especially in countries with small markets. The report goes on to conclude that the potential of online alternative financing like business crowdlending to complement traditional sources of finance has increased substantially in recent years (p. 54-57). This includes both debt-based activities like business crowdlending, invoice trading, and debt-based securities as well as equity-based activities that include equity-based crowdfunding, reward-based crowdfunding, donation-based crowdfunding, real estate crowdfunding and revenue sharing.
Risks in Business Crowdlending
In the regional studies conducted by Cambridge Center for Alternative Financing, the peer-to-peer platforms were asked about their perceptions towards key risk factors in p2p business landing and the market for alternative finance in general.
In Europe, the top risk for business crowdlending was “collapse due to malpractice” ranked between high and very high by 34% of the platform companies, while “campaign fraud” was ranked second for this business model. In China, “notable increases in default” and “regulatory changes” were the highest perceived risks with 46% and 45% of all p2p platforms rating them as high or very high risk. Across the Americas, we see an overall trend indicating that the overall perceived risk-level is decreasing. However, the perception of risk across all types of crowdinvesting still remains relatively high. Considering “fraud”, 62% of the peer-to-peer platforms rank it as medium to very high risk (down from 89% in 2016), while “cyber security breach” was considered medium to very high risk by 62% (down from 91% in 2016). Finally, “regulatory changes” and “collapse due to malpractice” was ranked at medium to very high risk by 64% and 62%, respectively.
Also, it’s important to consider the macroeconomic risk. The oldest platform in our peer-to-peer market overview is the British p2p lending platform ZOPA, which was founded in 2005. Next on the list is Prosper from 2006 and then Lending Club, Bondora, and Maneo from 2007. Even though these platforms, especially Lending Club, Prosper and ZOPA, today are placed on the top of the list when it comes to funding volume, none of these platforms were operating at large volume when the financial crisis of 2007-2008 took place. This means that we do not actually know what will happen today in a similar scenario if economies and money supply start shrinking. We have no data on a full economic cycle but have only experienced the market of peer-to-peer investing during a period of economic booming. How the business crowdlending market and the loans financed on p2p lending/equity platforms will react during a recession or other economic downturn is therefore hard to predict. The macroeconomic risk should always be considered, but it is something that the individual borrower or investor can’t do much about, other than trying to allocate according to as if it will happen at some point. Historically there has always been financial crises and there will for sure be in the future again – and since the market is new compared to stock and bond markets, this is a serious risk that must be considered when entering the market as either lender or borrower.