The state of small business lending

Although every business' financing needs are unique, the way business owners access debt is changing.

Financing is a core activity for SMBs. It enables both short term cash management and longer term growth and expansion. An average of 40% of SMB employer firms applied for financing over each of the last six years. 

In 2021, however, only 42% of all SMBs had their financing needs met, either because they did not require any or because they received sufficient funding. 

Source: Fed Small Business Survey

Community banks historically provide the best lending experience for SMBs

Community banks serve a smaller pool of customers, enabling them to focus on tending to the personal needs of their clients. It matters when employees at your bank remember your name and details about the business that you’ve put so much of your sweat and effort into. It’s clear that business owners value their financing partners' personal familiarity with your day to day. 

Source: Fed Small Business Survey

Furthermore, because community banks are rooted in the communities they serve, they are able to incorporate additional information about a borrower’s situation that goes beyond financials. This kind of “alternative data” has a real effect on underwriting outcomes. According to one Harvard Kennedy School study, the default rate for loans from community banks was more than 3 times lower than for larger banks. 

Where do community banks fall short?

Despite this personal attention to their clients, community banks often fail to meet the financing needs of their SMB customers for a number of reasons. Following the 2008 financial crisis, increased regulation and poor technological infrastructure have accelerated a steady decline in available capital from community banks for SMBs. Since 1994, community banks’ share in bank lending and assets has fallen by more than 40%. 

The loan application process at traditional banks tends to be onerous and time-consuming, which results in additional challenges for SMBs. Lenders require applicants to fill out manual application forms and collect bank statements, tax returns, and business plans - resulting in hours of administrative work even before a lengthy approval process. 

Source: Fed Small Business Survey

Online lenders address the administrative challenges presented by traditional banks by streamlining the application and approval process. These lenders, however, also lack a complete picture of an applicant’s business and often offer financing at extremely high interest rates or on unfavorable terms. 

Enter embedded lending

SMBs are diving headfirst into digital transformation, relying on cloud-based business management platforms and other SaaS tools. SMB spending on SaaS-based business applications and collaboration tools worldwide is expected to grow by 17% annually to reach USD291 billion by 2026. SMBs’ share of total spending on SaaS-based business applications will reach 63% in 2026. 

These digital platforms have access to the same kind of contextual data on an SMB’s business model that community banks rely on to make underwriting decisions. By embedding financial products that are tailored to the needs of its SMB customers, digital platforms are able to extend the financing these businesses need, at the right time, in the right place, from the applications they already use to operate their businesses. The contextual data enables both the platforms and embedded lenders to build bespoke products that are differentiated from traditional business financing options.

One example of embedded lending in action is with Shopify, which first deployed direct payments for ecommerce businesses that used its platform. Since launching Shopify Capital in 2016, they have provided over $2B in financing to merchants, taking into account additional underwriting data from transactions on its platform. Platforms like Shopify have traditionally served as the Chief Growth or Technology function for SMBs. Now they also have the opportunity to become the Chief Financial Officer. 

As SMBs continue to further digitize their operations, access to financing through these platforms solves funding challenges for business owners. Digital platforms can develop the same kind of localized knowledge and personal touch that community banks use in their underwriting. Kanmon provides the simple infrastructure for them to deploy lending products to their SMB customers. Business owners are able to access appropriate, cost-effective financing from digital platforms they already trust to help them run their business. 

Contact us to learn more about how Kanmon is working with platforms to unlock financing for their customers!

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Introduction

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