Fintech firm hopes to increase lending to small businesses

Providing loans to small and medium-sized businesses has been difficult for community banks since the Great Recession, a consequence of tighter regulations designed to prevent another financial crisis, and it is holding back budding entrepreneurs.

However, a new Texas-based fintech company wants to make it easier for community banks to approve local business loans. Collateral edge partners with banks by providing an easy-to-use tool that increases their revenue while ensuring businesses get the capital they need.

“We’re allowing the bank on the edge to find a way to say yes,” Joe Beard, co-founder and CEO of the startup, told me on the sidelines of the SXSW Interactive Technology Conference in Austin. “The way we do that is we will provide collateral coverage.”

When business owners apply for a loan, they usually have a plan for how to use every penny. Often, however, when the loan officer inserts the numbers into their underwriting system, the borrower does not meet the criteria to get what they need for their plan.

It may be a new business with no track record, or the entrepreneur does not have enough personal assets.

The problem has worsened since the Great Recession of 2008. Congress passed the Dodd–Frank Act tighten lending standards to avoid a new crisis caused by subprime borrowers.

Small commercial and industrial loans fell more than 9% at large banks and even more at small banks, according to the National Bureau of Economic Research, a non-profit research group. Since businesses rely on loans and lines of credit, Dodd-Frank has hurt local economies.

“These financial reform laws have significantly increased the fixed costs of start-up companies, thereby slowing the pace of business creation in the United States,” the NBER study concluded.

Small and medium enterprises have resorted to other sources of capital, such as non-bank lenders who charge high interest rates and fees. Community banks, which make significant revenue from lending to small businesses, are also suffering because they attract fewer business customers, who also open checking accounts and pay fees for other services.

Beard noticed the problem while working for Perot Jain, a startup venture capital firm in Dallas, where he led investments in more than 45 companies. As a West Point graduate and African American, Beard also noticed that historically underrepresented businesspeople such as minorities, women and veterans struggled the most.

“One of the things I’ve learned over that time is if you have a good entrepreneur, with the work ethic, the smarts, the guts; and if you can help them gain efficient access to capital, they will change the world,” he said. “They are going to hire people. They will create great products. They’re going to provide excellent services, and that’s a big plus for the community.

Beard’s team at Collateral Edge developed an algorithm and computer application that integrates into a bank’s existing workflow for reviewing and approving business loans. He said his company meets with banks, analyzes their lending criteria, and then integrates the app into their system.

If a loan officer is working on the loan and discovers that a borrower does not meet the bank’s criteria for the full amount requested, the officer can click on the application and see if the borrower meets the Collateral Edge criteria .

Collateral Edge’s cloud computing system uses a proprietary algorithm to perform a risk calculation using 60 data points in addition to using financial data from Moody’s rating service. Within seconds, the app lets the loan officer know if Collateral Edge will provide the additional security and the annual fee to secure it.

Banks can pay the fees or pass them on to the borrower. Beard is confident that Collateral Edge’s algorithm makes the right decision most of the time. The bank can then issue the loan and collect the interest, while the small business can execute its full plan.

After the first year, the bank can either release the guarantee or renew it for another fee. Providing more loans also helps the bank with another federal law. The Community Reinvestment Act requires banks to invest a certain amount in their community.

“Not only can we help this generation of entrepreneurs, but if university students are currently seeing an easier and better route to accessing capital, then maybe there is someone out there who is considering being an entrepreneur, as opposed to being an accountant, and maybe that person gets the confidence to stretch out and try to build something amazing,” Beard said.

Sometimes all a small business needs is a little strategic help. As fintech becomes more sophisticated, companies like Collateral Edge can make a big difference.

Chris Tomlinson writes commentary on business, economics and politics.

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