By Rajat Gandhi
Alternative source of funding is the new buzz word in the financial sector. Very simply it is innovation centered around various financial instruments that looks to simplify the borrowing and lending process and help businesses in their financial goals. Alternative sources of funding became very popular, especially after the financial crisis (2008) resulted in failure of number of Banks and stringent Basel III Capital adequacy norms being made applicable. Banks have stopped lending to ventures and individuals they consider risky and as a result a large number of the population fell outside the traditional channels of finance.
Very soon consumer behavior shifted to new players, which came to be known as alternate sources of funds, which looked to carry out financial activities digitally. Such has been the growth of these alternate sources of funds, which are primarily peer-to-peer sites, that bankers like Vikram Pandit, the former Citigroup chief executive, have also realized its importance when he became part of a group that invested $2.7 million in a P2P site called Orchard.
As institutional investors increasingly look at grabbing a piece of peer-to-peer, many are calling it as the next level of banking. A look at the segments fueling the frenzy:
Equity based Crowdfunding as an emerging alternative to fund business: Equity based Crowdfunding generally relates to startups and early stage companies generating funds by offering equity in the company in lieu of money. In such a scenario the company solicits funds online and does not tap into the primary capital markets. A crowdfunding platform in this case acts as an intermediary between investors and the company.
Private equity, VC firms, and angel investors have been the primary source of funding for startups, but some have broken the shackles by offering equity to the general public at a very early stage. Some examples of equity crowdfunding platforms are Syndicate Room, Crowdcube, Kickstarter and Seedrs.
Across the world there are different rules and regulations governing such platforms and in India, SEBI is undertaking active discussions with stakeholders to come up with a suitable policy. Such platforms and sites have gained popularity and is doing very well across the world as it provides a viable alternative outside the traditional financial system for SMEs and startups to raise money. Taping the primary market in the form of IPOs is an expensive proposition and very time consuming. Raising funds through the equity sale on a Crowdfunding site is possible at a fraction of a cost and is relatively faster. For the investor it provides a new investment product and the ability to be a part of a company that can see the rapid growth and provide considerable returns. On the risks, the greatest these sites face is that investors may not have adequate understanding about the risks involved or knowledge of the product. Investor protection seems to be an area of concern for raising equity funds through Crowdfunding platforms.
Business loan funding through peer to peer platforms: Traditionally, for every business the primary source to raise loans to scale up or as working capital came from banks. However, banks often want collaterals and small businesses and ones engaged in the service sector find it extremely difficult. Also, compared to bigger and established companies, banks often charge a higher rate of interest for smaller companies as they view such loans risky.
Online P2P sites seek to connect interested lenders with borrowers, thereby eliminating intermediaries and costs. Borrowers now have an attractive option to raise money to fund their business needs, mostly without the need for collaterals and at much lower rates compared to banks, while investors that are sitting on idle cash have the option to get returns that are very lucrative.
Globally platforms like Fundingcircle.com and in India platforms like Faircent.com provide businesses an alternative source to raise working capital. In a validation of the model Google has earlier this year tie-up with Lending Club in the US to provide small business loans to its technology partners. In the UK even big banks have warmed up to the idea as Royal Bank of Scotland entered into a deal with two peer-to-peer lending platforms, Funding Circle and Assetz Capital, to provide SMEs with another route of finance. This is in sync with the UK government's overall plans to offer innovative and wider options in funding.
Personal loans financing through peer to peer platforms: Personal loans are one of the most popular products on a P2P platform and sees active participation. An unsecured loan, personal loan is used for different purpose like for a wedding, vacation, refurbishing their homes, paying credit card outstanding among others. Often called an "all-purpose loan", personal loans are a great source of liquidity. The flip side being personal loans carries a high rate of interest and can cause a considerable burden to your wallet. P2P platforms have become lucrative primarily because it can offer considerably lower rates of interest. By connecting borrowers directly with lenders, rates of interest on a personal loan have been considerably reduced. It also does away with the high cost of operation that banks have to factor in. Personal loan on a P2P site is also helpful to people who may not be able to secure a loan from a bank, but has an alternate source in raising funds when a private lender may be willing to lend.
Sites like Lendingclub.com and Zopa.com and us in India have done brisk business in personal loans. In fact Lending Club has gone on to become the largest P2P site in the US and is preparing a $5bn initial public offering.
Crowdfunding invoice financing companies like: Crowdfunding invoice financing companies are a boon for SMEs, who often face liquidity issue and are in need of cash. With invoice financing, companies can sell their invoice immediately for cash at a small percentage rather than wait for a month or more for the payment to come. This enables companies to get cash almost immediately and ensure liquidity is not an issue. The reverse also happens under Supply Chain Finance where a company's suppliers can be paid within a short span of time by funders on the crowd platform. The company in turn pays the funders the full amount on the original settlement day. This ensures a company's supplier base stays healthy and they have good access to working capital UK-based Platformblack.com is a great example of this and has been doing innovative work in this sector.
Crowdfunding education loans: Crowdfunding education loans are in vogue in countries like the US where the cost of education is considerably very high and the country faces about a trillion dollar in student loan debt. On the backdrop of a slow economy, student loans today have some of the highest delinquency rates. Social Finance (www. sofi.com) or SoFi is an example of a P2P site that rallies a school's alumni to be accredited investors and then refinance loans to current students and recent graduates. Such sites offer lower fixed rate of interest and claims to provide good borrower protections. Other sites like GoFundMe and Indiegogo are not exactly an education loan P2P site, but give the option for a student to raise money in the form of donations to fund their study. The trend has not caught up in India, but we do have social ventures like Milaap and Rangde that aims to crowd fund education of underprivileged children.
(The writer is Founder CEO, Faircent.com)
Alternative source of funding is the new buzz word in the financial sector. Very simply it is innovation centered around various financial instruments that looks to simplify the borrowing and lending process and help businesses in their financial goals. Alternative sources of funding became very popular, especially after the financial crisis (2008) resulted in failure of number of Banks and stringent Basel III Capital adequacy norms being made applicable. Banks have stopped lending to ventures and individuals they consider risky and as a result a large number of the population fell outside the traditional channels of finance.
Very soon consumer behavior shifted to new players, which came to be known as alternate sources of funds, which looked to carry out financial activities digitally. Such has been the growth of these alternate sources of funds, which are primarily peer-to-peer sites, that bankers like Vikram Pandit, the former Citigroup chief executive, have also realized its importance when he became part of a group that invested $2.7 million in a P2P site called Orchard.
As institutional investors increasingly look at grabbing a piece of peer-to-peer, many are calling it as the next level of banking. A look at the segments fueling the frenzy:
Equity based Crowdfunding as an emerging alternative to fund business: Equity based Crowdfunding generally relates to startups and early stage companies generating funds by offering equity in the company in lieu of money. In such a scenario the company solicits funds online and does not tap into the primary capital markets. A crowdfunding platform in this case acts as an intermediary between investors and the company.
Private equity, VC firms, and angel investors have been the primary source of funding for startups, but some have broken the shackles by offering equity to the general public at a very early stage. Some examples of equity crowdfunding platforms are Syndicate Room, Crowdcube, Kickstarter and Seedrs.
Across the world there are different rules and regulations governing such platforms and in India, SEBI is undertaking active discussions with stakeholders to come up with a suitable policy. Such platforms and sites have gained popularity and is doing very well across the world as it provides a viable alternative outside the traditional financial system for SMEs and startups to raise money. Taping the primary market in the form of IPOs is an expensive proposition and very time consuming. Raising funds through the equity sale on a Crowdfunding site is possible at a fraction of a cost and is relatively faster. For the investor it provides a new investment product and the ability to be a part of a company that can see the rapid growth and provide considerable returns. On the risks, the greatest these sites face is that investors may not have adequate understanding about the risks involved or knowledge of the product. Investor protection seems to be an area of concern for raising equity funds through Crowdfunding platforms.
Business loan funding through peer to peer platforms: Traditionally, for every business the primary source to raise loans to scale up or as working capital came from banks. However, banks often want collaterals and small businesses and ones engaged in the service sector find it extremely difficult. Also, compared to bigger and established companies, banks often charge a higher rate of interest for smaller companies as they view such loans risky.
Online P2P sites seek to connect interested lenders with borrowers, thereby eliminating intermediaries and costs. Borrowers now have an attractive option to raise money to fund their business needs, mostly without the need for collaterals and at much lower rates compared to banks, while investors that are sitting on idle cash have the option to get returns that are very lucrative.
Globally platforms like Fundingcircle.com and in India platforms like Faircent.com provide businesses an alternative source to raise working capital. In a validation of the model Google has earlier this year tie-up with Lending Club in the US to provide small business loans to its technology partners. In the UK even big banks have warmed up to the idea as Royal Bank of Scotland entered into a deal with two peer-to-peer lending platforms, Funding Circle and Assetz Capital, to provide SMEs with another route of finance. This is in sync with the UK government's overall plans to offer innovative and wider options in funding.
Sites like Lendingclub.com and Zopa.com and us in India have done brisk business in personal loans. In fact Lending Club has gone on to become the largest P2P site in the US and is preparing a $5bn initial public offering.
Crowdfunding invoice financing companies like: Crowdfunding invoice financing companies are a boon for SMEs, who often face liquidity issue and are in need of cash. With invoice financing, companies can sell their invoice immediately for cash at a small percentage rather than wait for a month or more for the payment to come. This enables companies to get cash almost immediately and ensure liquidity is not an issue. The reverse also happens under Supply Chain Finance where a company's suppliers can be paid within a short span of time by funders on the crowd platform. The company in turn pays the funders the full amount on the original settlement day. This ensures a company's supplier base stays healthy and they have good access to working capital UK-based Platformblack.com is a great example of this and has been doing innovative work in this sector.
Crowdfunding education loans: Crowdfunding education loans are in vogue in countries like the US where the cost of education is considerably very high and the country faces about a trillion dollar in student loan debt. On the backdrop of a slow economy, student loans today have some of the highest delinquency rates. Social Finance (www. sofi.com) or SoFi is an example of a P2P site that rallies a school's alumni to be accredited investors and then refinance loans to current students and recent graduates. Such sites offer lower fixed rate of interest and claims to provide good borrower protections. Other sites like GoFundMe and Indiegogo are not exactly an education loan P2P site, but give the option for a student to raise money in the form of donations to fund their study. The trend has not caught up in India, but we do have social ventures like Milaap and Rangde that aims to crowd fund education of underprivileged children.
(The writer is Founder CEO, Faircent.com)
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