Comment on the article “The Future of Small Business Lending” as posted in December 2016 by the Moody’s Analytics team in “Risk Perspectives”.
We highly appreciate the thorough research of the Moody’s Analytics team concerning the actual state of SME lending possibilities and the clear analysis leading to the formulation of the conditions that allow for successful SME lending in the future.
During the last three years, we developed a business concept that answers the conditions so neatly described in the article. We are based in The Hague, The Netherlands (ABPaymentflows – Asset Based Paymentflows) and Brussels, Belgium (“YCS” short for Your Capital Support).
We are launching our YCS application in January in the Benelux countries planning for a subsequent full-fledged roll-out in Europe and beyond.
The conditions as described by the Moody’s Analytics team that allow for feasible SME financing are fully met by the design of our business concept. Therefore, we feel we are very well served by the analysis of Moody’s, as this highly professional institution practically defines the criteria to endorse the concept.
Below we address the challenges as formulated in the Moody’s article pointing out the response to these challenges as incorporated in our business concept.
- Streamline the collection of borrower information. Lenders commonly complain that small business information does not provide sufficient detail to make a lending decision.
The YCS application is precisely the kind of advanced software-as-a-service (SaaS) system that provides a single, integrated solution for managing the entire credit life cycle, enabling easy and quick processing of data. The design of our a application facilitates the extension of the “IHF-credit”. The IHF-credit, short for “In-house Financing Credit”, is an Asset-Based Financing concept remotely echoing old-school invoice financing concepts. The necessary borrower information is indeed streamlined up to the smallest detail and processed in a fully automated way in order to prepare for lending decisions.
- Leverage proven rating models for standard loans.
To confront this challenge, our business concept was designed differently from suggested by the Moody’s team. The Moody’s article focuses (implicitly) on the conditions for a general lending practice, not differentiating between the different asset categories that may serve as collateral. In fact, asset-based finance has been the increasing focus of development in business lending since the 1950’s. Starting out with mortgage based finance, the first mature segmented asset based lending market came into existence. Leasing of cars and machinery followed, after its segmented asset status was unambiguously secured by relevant regulation. Invoice financing was a logical next step in the development. However, the development of this segment suffered from the lack of concrete possibilities to track and (legally) collateralize the invoices, resulting in a compromised status and high pricing.
Based on current digital possibilities, automation and an ingenious structure, the IHF-credit invoice financing concept overcomes the suggested need of a “substantial and reliable dataset reflecting
historical small business defaults”. Instead, the (learning) data set of the SaaS system itself provides for a wide range of cross-sectoral and longitudinal confrontations that allows to focus on the specific risk assessment of the lending exposure. Furthermore, it is independent of arbitrary sector categorizations and subjective interpretations like the state of the business cycle, sector developments and other. Rather, the system statistically predicts a specific business default, based on its idiosyncratic data instead of deriving the default chance from the subjective and ponderously (man-processed) application of general historic data to the specific client base.
- Update processes. The key issue here is the time it takes for a lender to process a loan application and disburse funds – the time-to-money.
Since the IHF-credit is based on the flow of invoices on a fully automated basis, the time-to-money is determined by the technical process of connecting the systems and standard administrative procedures. The initial (quantative) risk-assessment process is standardized and is accompanied by a short procedure of qualitative assessment of the SME’s management. The structure simultaneously guarantees a fully automated monitoring activity allowing for a learning early-warning algorithm that may serve just as well as a basis for monitoring and risk assessment of financing that is related to other asset based financing segments.
The concept comprises the credit activities to be developed on a local basis, presuming that the information available within the local community will contribute implicitly and explicitly to the qualitative (initial and monitoring) assessment.
- Upgrade infrastructure. Systems-related efforts should focus on removing duplicate tasks (e.g., multiple instances of keying in the same data)
Since the system is fully integrated, duplicate tasks are non-existent. In fact, the overall cost of ownership is reduced to the level that pricing of the IHF-credit will be very attractive considering the actual conditions of (invoice) financing, especially in the SME segment.
- Learn from the data. High-performing organizations will extract meaningful data to understand key performance indicators and meet audit and reporting requirements.
The Saas platform will incorporate the information flow on a continuous basis. Specific tools for analysis make use of the most meaningful data and allow for a learning system. Strict discipline and well-defined processes are guaranteed by the fully automated processing of the data and ensure that the data is accurately captured and maintained.
Extra features of the YCS platform
The YCS Saas platform, to be launched and commercialized in the upcoming months, covers the challenges as formulated by Moody’s analytics in said article.
In fact, the Saas application, in conjunction with the business concept, allows for several extra features resulting in an efficient lending platform serving the SME financing need (with attractive pricing).
Examples of such extra features are:
- The combination of a central platform handling data assessment independently and main stream governance with local entities that maintain a direct relation with the SME’s, guaranteeing a community based information buzz and the possibility to interact manually in exceptional situations.
- Invoice management leading to insight and cost-consciousness improving DSO performance at the level of individual SME’s.
- Optimal objectivity and transparency is guaranteed regarding to the credit assessment process and monitoring of the process. It follows that other specialized lenders can anticipate the (IHF-) lending potential of the SME under scrutiny, leading to a balanced, compartmented financing structure of SME’s, the compartments corresponding to the available assets of the SME. Financed will thus take place in loan segments in function of the composition of the SME’s specific asset structure.
Conclusion: Our view of the future of SME financing
We enthusiastically agree with the main conclusions of the Moody’s Analytics article “The Future of Small Business Lending”. We pointed out that our business concept deals effectively with the challenges as formulated in the article.
It appears from the literature that a huge percentage of the SME financing need, ranging from 25% to 50%, is related to invoice financing. Therefore, to crack the code of efficiently serving that specific financing segment, leads the way to serving the SME business lending needs best.
Expanding that view, we hold that the future of SME financing is balanced, compartmented asset based financing. That is, financiers specializing in specific asset categories will finance the parts of the assets of the SME of their interest and specialization. In this view, the total set of lenders specializing in specific asset related lending products, combined with general financiers of equity and an array of mezzanine financing forms, will serve the total finance need of the SME.
Since all financeable assets on the balance sheet represent foremost stock quantities, whilst the invoices are a clear-cut flow category comprising real time information on a continuous basis, other financiers may well want to draw on the YCS Saas data to enrich and advance their monitoring and early warning credit assessment systems.