I hear from a lot of entrepreneurs who want to start a marketplace lending platform. They range from ambitious students with an idea through to seasoned entrepreneurs on their third or fourth startup. One of the questions I get asked most often is what are the most important things to focus on as a new platform in order to be successful.
I have learned a great deal from having conversations with the CEOs and co-founders of the most successful platforms in this industry. I also talk with large investors (both debt and equity) and discover what they look for when evaluating new platforms. Through all these conversations I have come up with what I consider to be the five keys to success for new marketplace lending platforms.
1. Credit Risk
We are in the lending business. This is the core of what every platform does. So, if this part of the business is not a primary focus then the platform has a limited chance of long-term success. By this I mean there should be, at the very least, a senior credit person on staff. Someone with not years, but decades of experience. This person should have assessed credit risk in a senior position at a bank or other finance institution.
Just because we are disrupting finance doesn’t mean we can ignore the successful companies who have come before. I have seen instances of twenty-something tech guys who thought they could write an algorithm to capture the essence of what a Chief Risk Officer did and therefore, not hire one. Don’t take shortcuts here. Create a strong credit culture. This starts with spending the money on an experienced credit officer to vastly increase your chances of success.
It is no secret that marketplace lending is getting more and more competitive. When I started covering this industry back in 2010 there were really only two companies on the consumer lending side and not many more focused on small business. Today, that has changed with hundreds of companies, many of whom are focused on a similar customer demographic. This has meant that customer acquisition is getting more expensive and if a new platform is paying too much for their borrowers they can run out of money very quickly. An experienced marketer in all aspects of online and offline marketing will be able to obtain borrowers most efficiently thereby reducing the cash burn.
At his LendIt keynote this year Renaud Laplanche, CEO of Lending Club, talked about how banking is in many ways an engineering problem. He said they are hiring more engineers at Lending Club today than any other kind of employee. Technology is important. It is really one of the key advantages that startups have over traditional finance companies. Startups have no technology debt and so can create efficient systems designed just for their specific business processes. It should go without saying, though, that technology is about far more than process improvement; it is about the entire customer experience. A strong tech focus will position a startup to compete effectively with the established players.
Whether the focus is consumer loans, small business, real estate or student loans there is a myriad of federal and state regulations that a new platform has to navigate. Strong compliance is extremely important for many reasons. Sure, some of this work can be outsourced to one of the many law firms working in this space, but an in house general counsel should be a high priority for a new platform.
5. Capital Markets
On an almost daily basis these days I read news about a platform that has successfully raised a new round of equity or debt financing. It looks like there is plenty of easy money out there for entrepreneurs. While there is certainly financing available for strong companies one should not underestimate the difficulty in closing that first significant round of financing. I know many startups that failed to get over this hump despite the amount of money flowing into other companies. Having someone on your team with strong relationships to capital markets people will help tremendously. I have also seen companies be successful with just one key angel investor who has bankrolled the debt and equity until there was something of a track record and the company could successfully raise outside financing.
These are the five key areas that I believe are critical for every new startup. But there is one more piece: operations. This is the glue that ties everything else together. You could have all five parts covered but without efficient internal operations the business may never be successful. This is a fast moving industry with many companies growing at a rate of 10% or more a month. Without a focus on operational efficiency growth like that will cause major breakdowns.
One more thing. If you plan on starting a business that is just a copy of what Lending Club, Prosper or Funding Circle are doing you may well have trouble getting off the ground even if you have all the other pieces in place that I have mentioned. You need an idea that is different, something that will allow your new company to stand out in an already crowded field.
Having said that, I firmly believe that we are just at the very beginning stages of a transformation in finance that will continue for many decades. It is not too late to start a new business in this industry. In fact, it is entirely possible that the largest business in our industry in 2025 will be one that has not yet started. But for a business launching today, there are many important pieces of the puzzle that must be in place to be successful.