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Lord Turner’s scepticism is a helpful reminder of the need for greater industry maturation

 

At the core of any successful industry is trust. Trust underpins confidence and is vital if an industry is to grow.

 

Trust takes time to build however, and trust can fluctuate in emerging industries synonymous with innovation and disruption. Explosive growth does not always occur without casualties and one failure can undermine countless success stories.

 

As with all industries, this is also true of alternative finance. It has gone through rapid growth in recent years by providing much needed capital to SMEs and is starting to play a crucial role in the global credit ecosystem. There has also been a sense that with such disruption of the existing financial order, risk comes as a consequence.

 

The time is right for an evolution towards more rigorous and well implemented regulation of the industry, because of the collective responsibility the industry now has to SMEs who view the support they receive as crucial to their future growth.

 

Which is why recent comments made by Lord Turner on alternative finance should be listened to rather than quickly dismissed. When he remarked in early February that the “losses which will emerge from P2P lending over next five to ten years will make bankers look like geniuses”, he understandably incensed many in our industry.

 

While there is plenty of evidence to suggest otherwise, it is an example that more still needs to be done to build the deep levels of trust associated with successful industries if someone as influential as Lord Turner holds such views. It should act as a reminder that we need to redouble our efforts already being made towards more consistent regulation.   

 

What’s more there are greater things to come. One only has to look at the projected trajectory of origination volumes to realise that demand from borrowers is continuing to grow. Morgan Stanley estimated in summer 2015 that the global P2P market alone (just one segment of alternative finance) could be worth up to a staggering $450 billion by 2020.

 

It is within the context of such opportunity that more consistent regulation of the industry must be viewed and its implementation will bring four key benefits:

 

 

1. Institutional capital

 

Firstly, it will allow the industry to more effectively attract institutional capital. Sophisticated investors are already beginning to wake up to the returns that alternative finance can generate in a low growth and low interest rate environment, and a stronger regulatory framework would accelerate this trend.

 

A 2015 U.S. survey of marketplace lending by RK&O and Wharton FinTech found that 85% of institutional investors are interested in allocating capital to alternative finance in the future. Therefore the industry must ensure that it is able to meet the investment criteria of institutional players, providing comfort and transparency around how capital is being managed and deployed.

 

It is vitally important that platforms are transparent about how their cash management works – especially with regard to the segregation of client monies. A firm definition around what constitutes a non-performing loan would also go a long way to ensuring investors can accurately assess the risk profile of potential investments, enabling them to build a diversified portfolio of assets.

 

Attracting these types of investors is crucial to the scalability of platforms and is the only way through which the industry will be able to service the huge lending gap created as traditional banks retrench from the market. The challenge could not be starker with an estimated global lending gap to SMEs of $1.5 trillion.

 

 

2. Unlocking SME growth

 

Such a lending gap is causing a critical shortfall for SMEs deprived of the capital investment they need to grow their business. As well as leading to more institutional investment that can filter down to SMEs, a more consistent regulatory environment would reassure SMEs seeking finance that alternative sources of finance are viable options that should be seriously considered instead of traditional bank lending.

 

Whilst some SMEs have been able to access alternative finance, a great many have not, as evidenced by research last year by Funding Options that highlighted how 21% of SMEs had no working knowledge of alternative finance. It is also estimated that six out of ten businesses across the EU only look to their bank for capital.

 

Greater awareness cannot come soon enough. Using the UK market as a case in point for what is a global issue, a report produced by GLI Finance in conjunction with the University of Cambridge in November 2015 illustrated that raising awareness levels amongst SMEs could add up to £20billion to the UK economy by 2020. The report also illustrated that UK SMEs have had £5.7m withdrawn a day in small business overdrafts since 2011, which has cut available credit by £8.4bn representing a significant drop of 40% in four years – resulting in an estimated £3bn loss to the economy.

 

The UK Government has made strong first steps in positioning alternative finance as a complementary force in the financial services landscape by initial implementation of supportive legislation and regulation. It is now time for these successes to be built upon through a concerted campaign with government and industry working together in order to consolidate on initial progress made.

 

As more businesses become aware of alternative finance in the future it is critical that they are able to understand and importantly place trust in the options available to them - just as they do with traditional banking options.

 

 

3. Raising the barrier to entry

 

Another benefit of more effective regulation is that it raises the barriers to entry for new platforms. Critics will argue that this flies in the face of competition, that it’s “not in the spirit” of entrepreneurialism or that a bigger more fragmented marketplace is a good thing.

Nonsense. Raising the barriers to entry achieves one fundamental objective that must not be forgotten; it means that management teams must take a longer term view.

No longer can platforms be sprung up with investors cash used to fuel rapid growth - all to make a quick buck for the unscrupulous founders. People entering the sector must do so because they want to build serious, well-run businesses with robust risk management systems in place.

 

4. Industry consolidation

 

Finally, a strict and enforced regulatory regime will drive some sensible and much needed consolidation in the sector. It’s a dog eat dog world out there and only the best businesses must survive. This is a good thing and it is the natural maturation of what remains a nascent market.

If we want borrowers to sit up, take notice of the sector, and have the confidence to trust alternative finance providers, then we must offer them an effective and compelling proposition delivered through modern, customer-centric channels.

The reduction in lending to businesses around the world has been an entirely expected consequence of more stringent international capital regulations in the wake of the financial crisis designed to make banks safer and our industry is starting to play its part in bridging some of the lending gap.

 

The opportunity is there for our industry to now seize this space fully and only with more consistent regulation can we achieve this. With SMEs accounting for 90% of businesses in the world, we cannot afford to falter. It is time to embark on a journey that shifts the industry from that resembling a rebellious teenager to a fully grown adult, gaining greater trust along the way.

 

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Dr Louise Beaumont is Head of Public Affairs and Marketing at , which is a leading investor in SME alternative finance.

Louise has over twenty years experience in growing companies - from initial spark, to operationalisation, results delivered, and value created. Having previously worked for organisations such as Siemens, Hewlett Packard, Microsoft, and Capgemini, Louise has focused on the UK’s fast growing alternative finance sector since 2010, including co-founding one of GLI’s investees. Louise has advised key UK government departments and units on FinTech and AltFin including; HM Treasury, British Business Bank, Government Office for Science, Cabinet Office, UK Trade & Industry, Department for Business, Innovation & Skills, and Number 10 Downing Street's Policy Unit.