New regulations and fintech are changing the funding landscape
The past decade has been one of the most eventful periods for small business funding. Ravaged by the effects of the 2007 and 2008 financial crisis, small businesses struggled to secure funding to keep their operations running.
In the years following the recession, bank lending shrunk by 18% – a direct impact of tougher lending restrictions and a wave of pragmatism within the banking sector that made it difficult for small businesses to access capital.
In subsequent years, the small business funding environment started showing signs of revival, thanks to a recovering economy and the increasing popularity of fintech within the banking and allied sectors. Elements of fintech, including machine learning and the internet of things, gave birth to a number of new alternative lending platforms, a trend that was accurately represented when LendingClub, one of the earliest P2P lenders, became the first alternative lender to get listed on the New York Stock Exchange in 2014.
Since then, a handful of disruptive technologies, a raft of regulations within the banking industry and other trends have continued to impact the funding landscape for small businesses. Here's a closer look at how these trends are affecting the way businesses get funded.
For a long time, the regulatory environment that governed small business funding was quite inefficient. There were multiple regulatory overlaps that often exposed small businesses to unfair terms and exploitative practices. In the U.S., close to a dozen state and federal institutions are often charged with regulatory oversight for banks, credit unions and other small business lenders. Because each of these institutions works independently, the resulting regulatory environment was heavily fragmented, thus creating barriers to effective oversight.
However, with the growth of online lending, especially after 2016, regulators started paying more attention to the relationships between lenders and small businesses, and the regulatory framework that binds them.
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Since early 2016, over half a dozen regulators in the U.S., including the Treasury Department, rallied behind several measures to streamline regulations. These measures included publishing statements and whitepapers, holding fintech conferences, and forming industry trade associations to give a bigger voice to small businesses and ultimately get rid of the "spaghetti soup" of multiple, sometimes contradictory regulations.
Although there's still a lot to be done, more comprehensive regulations mean businesses can launch and get funded easier than before. For instance, in Wyoming, one of the "paradise" states for small and midsize businesses incorporation, entrepreneurs from across the world can form an LLC for less than $300 and access loans and investment opportunities from banks and other lenders within the U.S., sometimes without even stepping on American soil.
Such is the impact of improving regulation within the U.S., especially when it comes to online lending. Outside the U.S., countries such as China, the country with the highest volume of alternative loans globally, and the U.K. have been on a constant path of regulatory reforms within the SMB funding space. The U.K., for instance, has been implementing innovation-friendly guidelines to help spur the disruption within fintech while using the Financial Conduct Authority (FCA) and the British Business Bank to regulate SMB funding within the country.
Fintech and increased convergence
One of the major reasons behind the evolution of regulation is the rate at which technology, and specifically fintech, has been disrupting SMB funding. Fintech trends such as smart contracts, artificial intelligence and mobile banking continue to change the way lenders and investors interact with small businesses. According to one fintech analysis, mobile banking is on pace to overtake online banking in number of users. Mobile banking has seen an increase of 3.4 million users, on average, over the past five years. This has significantly changed the online lending marketplace for small businesses.
But perhaps a more interesting trend for fintech is the rate at which traditional lenders and new fintech disruptors are coming together. These entities are forming an unlikely pact, disrupting SMB lending in the process. Traditionally, banks and other mainstream lenders have relied on conservative methods for reviewing and approving loans, methods that have been both slow and inefficient. On the other hand, fintech firms haven't shied away from using the latest technology to improve the lending process, a trend that has seen many new alternative lending platforms springing up across the globe.
The unlikely union between these two groups of lenders has been on the rise since 2017. Fintech disruptors, with their high uptake of technology, are bringing things like AI-powered decision-making to the table, reducing risk and improving the speed and accuracy of lending decisions. On the other side, traditionally conservative banks are bringing their large databases of user data and custom loan products to the table. By combining these strengths, a new era of SMB funding is slowly budding.
A good example is the unlikely union between SoFi, an online lender, and Fannie Mae, one of the biggest mortgage lenders in the U.S. Their 2016 partnership has helped boost SoFi's customer base significantly while improving Fannie Mae's debt refinancing processes, making it a win-win situation.
The next few years hold a lot of promise for small businesses looking to get funded. As the lending industry continues on its path of disruption, small businesses stand to benefit immensely from more access, quicker loan approvals and a better overall SMB funding environment.