Alternative finance can pave a better way for businesses and customers
Since 2011, alternative finance has been something of a success story in the UK, growing from a market size of £0.31bn in 2011 to £4.5bn in 2016. While the rapid rise we saw between 2012 - 2015 has slowed down slightly, we’re still seeing steady, healthy growth in this market.
The biggest players are now maturing too, with more comprehensive business models as well as a history of strong performance for consumers and businesses, which has led to an increase in trust. Gone are the days when alternative finance was seen as an ‘other’ option. Instead, we’re now seeing it become first choice for a large number of businesses and consumers.
This is not surprising given the boom in Fintech and the lack of trust in financial institutions following the 2008 crash. Late payments to SMEs also continue to be a problem, and the sentiment appears to be that this will only become more of an issue due to Brexit and a subsequent squeeze on income. A recent report by Atradius highlights this issue within the construction industry, where the average payment terms are 75 days. The number of non-payment notifications is subsequently expected to rise due to ongoing economic uncertainty and ripple effects of Carillion’s collapse.
We’re also seeing continuous innovation within the sector, making paths to entry more accessible for a wider range of consumers and businesses.
The three main players in terms of models for alternative finance are:
- Peer-to-peer, which breaks down further into
- Invoice financing
- Equity-based crowdfunding
Peer-to-peer business lending just about clinches the prize for having the largest share of the market, which was valued at £1.23bn in 2016. We can partly attribute this rising trend to the fact that players in the market are becoming more trusted and businesses will be looking to take out larger loans than consumers.
More business borrowers are now being accepted onto platforms to raise finance, and defaults are staying low at 2.07%. If we look at what industries are utilising this model for the most, we can see construction and engineering are far ahead of the pack, with 33% and 22% of the share respectively. The real estate and housing sector ranks third with just 2% of the share.
Peer-to-peer consumer lending is now the second largest model in the UK for alternative finance, standing at £1,169m for 2016. Average loan sizes in this market were £6,289 in 2016, with 25% of all borrowers being repeat borrowers, up by 9% year-on-year.
Peer-to-peer property lending is where we’ve seen the biggest growth across the sector. Generating £1,147m in 2016 compared to £609m in 2015, this represents an 88% increase. As you can imagine, the loans for this model tend to be substantially larger than for the other P2P models, with the average being for £772,434.
Invoice trading saw triple-digit growth between 2011-2014, but between 2014-2015, this fell to 20%. From 2015-2016, however, we witnessed an upward trend in growth to 39%.
This type of alternative finance comes with a number of risks to investors, however. Debtor credit risk is the most common and one that’s especially pertinent given the collapse of Carillion and implications it may have for other companies. Stringent debtor assessment is critical to this type of investment, as is robust buyer credit risk protection.
While equity-based crowdfunding only saw modest gains from 2015-2016 at 11%, it is still a big player in terms of UK seed and venture stage equity investment (17.4%). This model remains heavily retail orientated, but with the average deal size increasing to £807,214 there remains a lot of potential here.
The three main models share some similarities when it comes to both lenders and borrowers. For instance, London is still the main hub for giving and receiving funds. We also see the lion’s share of alternative finance companies based here, with 38 listing London as their main office out of a total of 77.
They also share the same risk concerns, with 6% of platforms deeming the following concerns ‘very high risk’:
- The collapse of one or more well-known platforms due to malpractice
- Fraud involving one or more high-profile campaigns/deals/loans
- Pending FCA authorisation
These concerns may, in part, explain the rise in players in the industry consolidating, with far fewer new entrants to market in 2016 than we saw in 2014.
One of the ways to mitigate these risks will be through ever-increasing due diligence. While investors are well aware of the risks carried with these investments, 60% of funders still rely on a platform’s due diligence before making a decision. This means that platforms must be seen to be robust and ahead of the game if they don’t want to fall on the same sword that financial institutions did a decade ago.
Despite the growth in the sector, we are still seeing trends that lean towards more established funding routes, such as overdrafts, loans and credit cards – especially within the B2B space. These routes, however, aren’t usually the most effective, nor do they give the freedom and flexibility that alternative finance might. Our next article will therefore focus on what the industry can do to change perceptions, both to benefit themselves and the businesses they serve.