COVID-19 digitalisation can unlock P2P SME lending potential

Ajit Raikar
The pandemic and the ensuing economic slowdown have exacerbated the SME funding gap further
Co-founder & Executive Chairman, Validus

According to the World Bank, formal and informal SMEs contribute more than 40%-60% of national gross domestic product (GDP) in emerging economies and account for seven of every 10 jobs created. Despite this significant contribution, SMEs in ASEAN get only a fraction of the support they need. They continue to be constrained by limited access to finance from traditional financial institutions, such as banks.

The COVID-19 pandemic has further exacerbated this vulnerability. According to the OECD, half of SMEs “in several Asian countries” have only a month or less of cash reserves to weather the crisis.

To survive, SMEs have digitalised at an unprecedented pace. In Singapore, the number of SMEs availing government grants and programmes for digitalisation surged this year. For instance, over 10,000 businesses have now joined the country’s e-invoicing network, compared to just 1,000 in March. 

SMEs are also turning to alternative lending platforms to get the capital they need. Without alternative lending platforms, says the World Economic Forum, hundreds of potentially successful small businesses around Southeast Asia would be forced to shutter their doors. Peer-to-peer (P2P) lending and fintech platforms have been essential in helping ASEAN MSMEs survive and recover in this time.

As more and more organisations join the global digital revolution and transform their operations and infrastructure, alternative funding will develop in tandem with digitalisation initiatives to better support a new generation of connected SMEs. Expect online P2P lending platforms to become an essential part of Southeast Asia’s business ecosystem in a post-COVID environment.

Impact of COVID-19 on ASEAN’s alternative lending landscape

Governments are doing their best to support fintech businesses and startups. The Monetary Authority of Singapore (MAS), for instance, has developed a number of support measures for MSMEs and the fintech companies supporting them. This includes a MAS SGD Facility for ESG Loans that allows financial institutions to lend Singapore dollars at an interest rate of just 0.1%.

Despite these changes, traditional banks continue to be apprehensive about lending to SMEs. The challenging requirements of traditional loans have driven SMEs towards alternative forms of financing. There was a heightened demand for financing at the onset of COVID-19, especially for SMEs in essential services that were seeking out alternative financing to meet their cashflow challenges.

Additionally, there is an increased demand for working capital due to growing liquidity challenges and delayed receivables with the economic downturn. In these uncertain times when funds are most needed, traditional lenders may be less willing to provide loans as their risk appetite is declining.

As more and more organisations join the global digital revolution and transform their operations and infrastructure, alternative funding will develop in tandem with digitalisation initiatives to better support a new generation of connected SMEs.

Alternative lending platforms tend to have much more freedom than financial institutions to support those in need during crises. Many work closely with corporate partners and investors, and specifically target SMEs in order to bridge the financing gap. As technology-driven companies, they have the agility to adapt to changing business environments. 

For instance, our strategy is heavily focused on corporate vendor financing for SMEs whose end-buyers are large entities, many of which have links to the government, which helps mitigate our credit risk. As a result, we haven’t seen a notable impact to loan delinquencies.

In fact, we’ve noted a healthy increase in the pipeline of credit-approved unsecured loans in recent months, with a 50% increase in year-on-year disbursement compared to the same period last year (from January to April).

An opportunity for portfolio diversification

At the beginning of the pandemic, the economic downturn led to a decline in risk appetite among investors, along with an increase in interest to buy on the dip in equities. But this trend began to adjust in the past few months as markets experienced continued volatility. Investors such as institutional lenders and high-net-worth individuals are looking for investment opportunities unrelated to volatile markets like equities and bonds. One such option is SME lending.

SME lending is an asset class with low correlation to public markets, which in times of economic uncertainty and downturn, can offer decent risk-adjusted returns. The key is to ensure that the loans are tied to clear and monitorable performance and cashflow benchmarks – for example, invoice financing hinges on the delivery of work.

For investors, participating in direct lending to SMEs also means supporting viable local businesses so that they are better positioned for growth once the economy begins to recover.

Digitalisation’s role in improving SMEs’ access to lending

In order to survive during the cash crunch caused by the pandemic, SMEs are rapidly digitalising. This is allowing them to gain broader and deeper access to business insights to fine-tune their processes.

More digitalisation leads to more efficiency and information which improves how SME lending platforms can assess applicants. This enables increased accessibility to financing and, in the mid- to long-term, growth for SMEs and their economies.

Ease of loan application. An SME that uses a cloud-based accounting software can easily share invoices, work orders and financial statements to financing platforms by downloading their records. More importantly, API connectivity with banks enables SMEs to instantly share bank statements with P2P lending platforms, significantly reducing loan approval times.

More efficient and accurate assessment of loan applicants. Most banks look at traditional credit models, balance sheets and financial statements. But alternative lending platforms focus more on track record, cashflows and forward-looking information. This could include the applicant company’s work orders, purchase orders and repayment history to name a few and the amount of financing they need in order to grow their business.

Lending platforms leverage technology such as sophisticated credit scoring, data analytics and algorithms to establish individual business profiles, risk-levels and credit-worthiness to bypass lengthy traditional lending models.

SME lending is an asset class with low correlation to public markets, which in times of economic uncertainty and downturn, can offer decent risk-adjusted returns.

Some of the latest technology lending platforms use are data analytics, machine learning (ML) and artificial intelligence (AI). For instance, through AI and ML, both primary and surrogate data such as procurement, repayment and contract award details to make informed lending decisions can be analysed. SMEs that count large conglomerates as long-term clients are assigned a better risk rating and can thus be offered lower and very competitive rates of interest.

Due to the use of automated tools rather than traditional manual processes, SMEs enjoy minimal loan processing fees, fewer logistical hurdles, and faster assessment and approval times.

Outlook of the lending industry post-COVID

The past five years have seen a big wave of fintech across Southeast Asia, but its share of all lending is still miniscule. Strong technology, low barriers to entry and a supportive regulatory environment have allowed fintech platforms to flourish in the region, especially in Singapore, Indonesia, Malaysia and Vietnam. A Google and Temasek report estimates that the gross transaction value of digital payments across ASEAN will reach $1 trillion by 2025, with $110 billion of this going to digital lending.

P2P platforms need to adapt quickly to address the increased financing gap and higher risks of non-performing loans caused by COVID-19. The pandemic is now one of the most important moments for the entire lending industry. Over the next few months, we will likely see some P2P platforms consolidate or leave the market completely.

Within a few years, alternative lending platforms will solidify their role in the business world. They will become a mainstream financing option – much more accessible than bank loans of the past.

Digitalisation enables inclusive societies, but actors must balance risks such as insufficient consumer protection, data biases, cybersecurity risks and a lack of digital literacy. For SME lending platforms to efficiently bridge the financing gap now, we require the continued development of regulatory frameworks and increased access to and transparency of data.

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Co-founder & Executive Chairman, Validus

With over 30 years’ experience in SME banking, Ajit has held senior management roles across leading financial institutions such as DBS Bank, Citibank, Fullerton Financial Holdings, Bank Danamon and BNP Paribas. At Citibank, Ajit pioneered its SME banking concept – building a robust SME franchise from scratch that was replicated across Citibank globally. Prior to Validus, his last stint at DBS saw him conceptualising and executing a regional blueprint for DBS Bank’s SME business across six markets including Singapore, Hong Kong, India, China, Indonesia and Taiwan. He also set up a regional Centre of Excellence to design, implement and monitor the delivery of a holistic business model including coverage, risk and support, aimed at improving the value proposition of DBS SME Banking.

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