In the formal debt financing segment in India, there is a huge credit gap.
Credit gap can be defined as the unmet credit requirement of MSMEs, over and above the available access to credit from formal institutional sources of finance.
The gap in demand and supply side issues in financing MSMEs in India can be established from a figure shared by World Bank Findex – it estimated the credit gap to be as high as around Rs 20 lakh crore in 2017.
According to another study, around 40 per cent businesses still have no access to loans.
The estimation might sound alarmingly high, but the credit gap was worse some ten years ago, when just 11.2 per cent enterprises in the country had access to loans from formal financial institutions, according to the Fourth All India Census of MSMEs (2006-07).
Which makes one wonder what the novel idea was that changed the face of the lending industry in a decade.
The answer is surge in alternate lending (online lending), which helped lending grow at 15 per cent CAGR in the last 7 years, according to Credit Suisse Estimates, 2016.
Lendingkart, Capital Float, Aye FInance, Indifi Technologies and many others are such alternate fintech lenders that have made an immense contribution in reducing the credit gap.
Besides, there is another kind of credit gap – in consumer loans – which is equally high. In India, less than 20 per cent of Indian households qualify for easy access to borrowings, according to World Bank Findex.
The private debt-to-GDP ratio in India is only 12 per cent, while for the developed world it is over 50 per cent, says an industry expert.
This segment has also witnessed the boom of alternate fintech lenders such as Faircent, IndiaLends, LoanTap and others, which are helping consumer loans grow in India.
Factors leading the growth
At the macro level, a combination of India Stack and JAM (Jan-Dhan Yojana, Aadhaar and mobile revolution) has been the backbone of the fintech revolution in India.
Experts, however, believe that in the lending sector particularly, there are various layered factors, such as absent credit records of people and missing tangible financials of MSMEs, that have boosted the alternate lending space.
“New-age digital lending companies are addressing this unfulfilled credit requirement of the nation, and have built a strong foundation for their growth by catering to an existing demand and empowering an excluded but credit-hungry segment of the population,” said Rajat Gandhi, Founder and CEO of Faircent, a peer-to-peer lending platform.
He added that new technologies such as AI and Big Data are also helping the industry replace traditional credit records as a qualifier to determine the lending risk.
However, it is important to note that growth is riding mainly on the gap created by the conventional banking system.
Filling gaps created by banks
“Banks have failed to modify their processes and procedures completely to the extent to reach out to SMEs, individuals or rural markets of India,” said Santosh Sangem, professor of finance at XLRI, Jamshedpur.
He added that emphasis on collateral by banks has also affected them in a big way and opened a floodgate of opportunities for the alternate lending sector, especially online lending companies.
Satyam Kumar of LoanTap, a technology-driven loan provider which offers unsecured personal loans to salaried professionals, said that banks and large NBFCs face distribution issues and are thus failing to reach out to businesses.
Besides, there are technological challenges in terms of automation of processes, such as KYC verification, converting offline documents to online and developing new insights via technology.
In consumer loans, banks don’t have new products to offer and their turnaround time is also very high, which is driving consumers towards online lending platforms — which are quick, quite flexible and have wide varieties.
At the click of a button
The fintech revolution has changed the entire interface of transactions in India. Whether it’s payment or insurance or mutual funds or loan disbursement, the entire financial system is linked to technology now.
Emphasising the role of technology, Gandhi of Faircent said that various channels such as websites, mobile applications and tech-driven processes like eKYC have added considerably to the competencies of the online lending sector.
“We extensively leverage automation to create superlative value for users and drive an unparalleled lending experience on the platform. The auto invest feature is one such innovation. It matches a lender’s investment criteria with the borrower’s requirements and sends proposals on behalf of the lender to the borrower,” he said.
Manish Khera, Founder and CEO of Happy Loans, explained that central to any business model that disburses credit is determining the risk on each transaction; and technology has been the backbone of this system.
“Technology is the engine of the online lending ecosystem. To what degree individual players rely on these technologies in the online lending ecosystem is dependent on the role they play in it,” he said.
He added that Happy Loans uses proprietary AI to not just determine creditworthiness, but also helps decide how much to offer, to whom, and for how long.
“We come to these decisions by processing over a 1,000 variables with our algorithm which relies upon data from our partner merchant aggregators like Mswipe, Aditya Birla, Storeking, and others. We use full data integration with these partners to evaluate everything – type of business, daily sales, variations on a daily, weekly, monthly, and even seasonal basis, climate, region, market size and so forth to make more accurate decisions on credit disbursement than any bank in the country.”
Online lenders are optimistic
According to a recent report on fintech and digital banking by the RBI, P2P lending is expected to observe a CAGR of 60 per cent and be worth Rs 60 lakh crore by 2025.
The creation of a robust digital infrastructure, supported by Aadhaar, eKYC, and India Stack, has helped the online lending sector offer loans conveniently over digital channels.
“Fintech is growing at a breakneck speed, driven by the stimulated innovation in the market. While some companies may face market realities and perish, others will find great success and validation for their business model over the next few years,” said Gandhi of Faircent.
He added that Faircent is currently helping to disburse more than Rs 3 crore worth of loans each month, with more than 20,000 lenders, to over 2 lakh borrowers registered on the platform.
However, while the entire ecosystem is painting such a rosy picture for the online lending sector, Sangem of XLRI doesn’t see much of a future for online lending in the long term.
When the sleeping dragon will rise
“Online lending companies will not be able to match up to banks in terms of low-cost loan funding. Banks have already expanded the personal loan category, and are now offering credit based on income, to a large degree. Besides, as banks move towards other kinds of unsecured lending for business loans, SMEs’ loans will see a similar growth,” said Sangem.
He added that online lending companies are still untouched by RBI regulations. For example, capital provisioning requirements for such platforms are extremely low, there is no monitoring of asset quality and they are still not bound by base accord, which mainly focuses on risks to banks and the financial system.
But the highly amenable environment for the online lending sector may change any day.
Loans on high interest rates is another factor which can make things difficult for such online players. Experts say if regulators find that alternate lending platforms are resorting to usury, they will begin a crackdown. It happened against NBFCs in the 60s and 90s.
Whenever there will be a surge in fraudulent cases, mis-selling, complaints and loan defaults, such regulations will kick in. Currently, Kumar of LoanTap estimates 3-5 per cent loan defaults in the online lending space, pertaining to the MSME sector.
Experts say the regulatory environment is already becoming more favourable for banks and more difficult for NBFCs, including online lenders. Once the regulation is uniformly enforced for banks and alternate financial lending platforms, the latter with low income will not survive.
Sangam is also not bullish about the new-age lending platforms as they have limited resources.
While technology may appear a novel factor in the online lending space, the online credit platforms will eventually merge with banks, and the latter will absorb their technology and monopolise the market, according to Sangam.