How COVID 19 has Changed the Demand for SME Lending?
- 29% of small businesses fail because they do not have sufficient capital.
- Only 48% of small businesses have their funding needs met.
- 56% of SMEs apply for a loan to expand their business, acquire new assets, or pursue new business opportunities.
- 36% of SMEs were denied funding due to their credit scores (2020).
Credit: Fundera.com[1]
These statistics give us an idea of how difficult it has been for SMEs to survive in a natural business environment, let alone operate in a pandemic. Acquiring funding had never been easy for startups and SMEs. The lack of proper credit scores; limited financial history, unpredictable cashflows has always made loan procurement difficult.
Post-sub-prime crisis of 2008, traditional banks became wary of churning out loans to small businesses. They increasingly moved their focus towards established businesses, most enterprises, who could show and prove their creditworthiness with timely repayments.
This left SMEs in a lurch. Not only was funding now a difficult option but a limited one too. It was during this post-sub-prime crisis phase that fintech started mushrooming globally. They saw opportunities galore in the SME lending space. Right from providing SMEs with easy loan options to reaching out to a potentially untapped market of not just SMEs but also startups and solopreneurs. By using technology as an enabler, they were able to make churning applications, underwriting loans, and processing them way easier than ever before.
In short, fintech introduced to speed, efficiency, and easy lending into the funding space. Something that was majorly lacking over the years.
COVID-19 and its impact on SME lending
SMEs need loans fast. Not only do they need funding, but they also need funding options that are suitable to their needs. Right from working capital loans, to merchant cash advances and factoring, each SME has a particular funding requirement that is best matched with the specific lending tool.
So, while SMEs could very well apply to traditional banks for loans, they would not have the flexibility to determine what kind of loan they get, and the terms and conditions attached to the same. Whether the loan is approved or not, the interest rate charged, penalties on prepayment are some of the things that keep worrying small businesses.
Also, the time required to get a loan application approved, if at all, is long enough for traditional banks to put the business in a grimmer condition financially than it was when it applied.
COVID-19 almost instantly posed the threat of putting SMEs “out of business.” With extended lockdowns, dipping economy reduced transactions and purchases, every industry, right from aviation to retail was hit drastically. COVID-19 funding for SMEs was the need of the hour. To stay afloat, pay their bills and their employees and keep their heads above water, SMEs needed quick financial assistance. And this applied to SMEs, all over the world.
This was an unseen contingency for large banks and credit unions. They were not equipped to manage such large volumes of COVID-19 funding for SMEs, overnight. Even when the Paycheck Protection Program (PPP) was launched, banks bent over backwards to integrate solutions and make the funds available to applicants as quickly as they could. This was not an easy feat to achieve given the legacy software that traditional banks run on the backend and the need for manual documentation and verification which are core to traditional banking.
On the other hand, Fintech, whose entire existence is tech-enabled, was able to pivot at an outstanding pace, by not only providing COVID-19 funding for SMEs but also ensuring they specifically reach out to and help the minority business owners who were underserved by traditional banking.
Fintech leaders who had already digitized their loan origination processes had a head start when it came to digital verification and documentation sans manual representation of the applicants. Not only did they reduce logistics and paperwork, but they were also able to churn out microloans to SMEs in less than a day. This was a tremendous help for SMEs that were struggling to stay afloat.
Has COVID-19 permanently changed the lending landscape?
There is a good chance that COVID-19 has indeed changed a substantial portion of the SME lending landscape. As mentioned earlier, the Paycheck Protection Program made traditional banks go through the rigorous change of digitizing their lending processes in a matter of weeks. Something that they did not prioritize years back when fintech was gaining ground, suddenly became the holy grail of lending. And it does not just stop at digital transformation or digitizing loan origination.
Fintech companies now use alternative credit scoring systems that go beyond traditional credit rating tools and methods like FICO (US), and CIBIL, CRISIL (India). This gives small business owners and SMEs a chance to apply for loans and receive the same, despite a lack of credit score or a favorable credit score. This is redefining the future of SME lending.
Note: It is highly recommended that small business owners ensure that they have a good credit score so that they never have to worry about not getting a loan or getting a loan at higher interest rates.
The future of SME lending
The current gap in SME lending and fintech lenders lie majorly in lack of awareness. But as awareness builds and more SMEs and startups become aware of the easy loan facilities available through fintech lenders; and traditional banks also start relaxing their manual processes a bit and head further towards digitization, SMEs will see a growth in the number of options. From no loan to a gamut of loan opportunities will open in front of them.
Traditional banks stuck using legacy systems that are error-prone and time consuming will soon collaborate with fintech innovators and service providers to bring in the same efficiency to their processes.
In short, the future of SME lending will be easier, with a variety of options, more awareness of the products and offerings available to SMEs and competitive interest rates and loan options to match the needs of SMEs and startups. COVID-19 has indeed set the ball rolling for digital transformation in the fintech sector.
[1] http://www.fundera.com/resources/small-business-lending-statistics
