Small Business Lending and Big Data
Written by CMG News Contributor, Doug Carleton
Banks have never been particularly fond of lending to small and startup businesses. Probably the primary reason is that many early-stage businesses have not built up the strength and cash flow to make them less risky borrowers, and a lot of startups either fail in the first year or by the end of the second year. The perceived wisdom has generally been that about half of startups do fail in the first year. According to reports from the SBA and the Kauffman Foundation, approximately 80% of small businesses do survive the first year. With the current economic resurgence, that number could be closer to the higher end. And getting back to banks, one of the other reasons they shy away from high-risk small business lending is that they are heavily regulated. During and as a result of the 2008 recession, regulators came down hard on many banks for making risky loans (even though a great deal of them were real estate). That fear by banks of being beaten up by regulators has never completely gone away.
So even though online lenders were around during the 2008 recession, they were not a significant force in the lending marketplace. But now, with the dramatic rise in computing power over the last five years and massive amounts of data on consumers have become available and allowed online lenders to create algorithms that can analyze data in seconds to create a risk profile of a potential borrower. And a great amount of that data comes from mining consumer behavior online. We have been witnessing the birth of BIG DATA. There is enough information about you everywhere to create a pretty accurate profile that an algorithm can analyze for many purposes, not just lending.
Since most small business owners don’t think about or plan to borrow money in the near future, depending on how urgent the need is, an application to a bank is likely to take somewhere in the neighborhood of 30 days, give or take to get a decision. However, this is beginning to change as some bankers wake up to the fact that a bank can use the same data that the online lenders use. And the second wake-up call is that online lenders are taking more and more business away from traditional banks. So if a small business owner suddenly needs a working capital loan or a loan to buy a piece of equipment that could substantially improve their profitability, the online lenders are there, and they make decisions fast. If the result is approval, you can often have your money in a few days or less. As is always the case, there is a cost to be paid. Online lenders are more expensive than banks – often much more. But if you need money fast or something bad could happen, you pay it because of the consequences of not getting the money. It could be serious.