It’s been 225 years since the United States ratified the Bill of Rights, supplementing the Constitution with ten amendments to safeguard democracy by guaranteeing personal freedoms and limiting governmental power. Having recently freed themselves from tyranny, the Founding Fathers were operating in a new paradigm of self-governance — and they realized they needed to better protect the citizens they served by adopting new measures.
Here’s a hifalutin analogy: small business lending has entered a new paradigm of its own — and it’s in dire need of similar action to safeguard entrepreneurs from the dangers of unfettered operators in this newly opened space.
What’s The New Paradigm?
A recent Wall St. Journal article reports that lending from big banks to small businesses has dropped by 38% since 2006. That means more than one third of the funding from small business owners’ biggest source of capital has disappeared. Why the drastic decline? It costs banks roughly the same amount to originate and service a $10MM loan as it does a $100,000 loan, so the profit margins don’t make much financial sense for them. The regulatory fallout from the financial crisis has also bound the hands of banks, sometimes preventing them from lending to even some of the best small businesses.
At the same time, small business borrowing needs are only increasing. Naturally, hundreds of alternative lenders including Able, OnDeck, and Kabbage, have poured into the space, seeking to meet the needs of capital-hungry entrepreneurs. In gaining a foothold, the alternative lending industry has been able to make the borrowing process faster — and to serve small businesses that were previously shut out. The paradigm has shifted.
What does it mean? It’s our moment. Which also means it’s our chance to do it right. Our chance to not only provide capital to borrowers, but also to give them a positive, honest, transparent experience along the way. That’s part of our mission at Able.
Unfortunately, around us, we see deception, misdirection and predatory behavior. It’s natural for a competitive industry to bloom within this space — it’s a big market and it serves a vital function in the economy. But, this moment for alternative lenders to shine should not translate to preying on small business owners that have been left in the lurch.
Deceptive Practices From Bad Actors
As Brayden McCarthy of Fundera wrote in Forbes, “lenders can hide a sentence at the bottom of 50 lines of text saying that they can change any term at any time for any reason.” What else?
- Comprehensive, clear breakdowns of the total cost of a loan, including how much a broker may be paid, are sometimes completely missing from the process.
- Loan officers with incentives to close more loans at higher rates have been seen intentionally directing potential borrowers toward more expensive products that aren’t in borrowers’ interest.
- Potential borrowers are flooded with spam after they complete a loan application — sometimes even if they don’t submit it. Why? Many lenders and loan marketplaces sell borrowers’ information without overtly notifying them.
- Small businesses are inherently more risky to lend to — that’s why they have to borrow at higher rates than large companies. However, as McCarthy writes, “some lenders charge higher interest rates just because they can, while deliberately deceiving the borrower.”
Putting Borrowers First
At Able, we believe small business owners deserve better. We commend the Small Business Majority for drafting the Small Business Borrowers Bill of Rights. We’ve been asked to sign it — and we’re proud to join 36 other signatories with a mission to put borrowers first.
We want our borrowers to know we stand with them, so we brought our plainspoken translation of the six key points in this Bill of Rights out into our community of small businesses. We captured images of our friends at Buzzmill Coffee, Esby Apparel, Vital Interaction, Katie Kime, Hops & Grain Brewery and Branch Basics standing shoulder to shoulder with members of the Able team to claim these rights together:
- The Right To Transparent Terms
- The Right To Non-Abusive Products
- The Right To Non-Discriminatory Credit Access
- The Right To Responsible Underwriting
- The Right To Informed Decision-making
- The Right To Fair Collection Practices
It’s Lonely Standing Up For Borrowers
As we saw what this Bill of Rights stood for — transparency, inclusivity, accountability, fair practices — we expected many major lenders would join us. But, all we hear is crickets. We are stunned to see that of the major lenders in our category (national, for-profits that provide loans above $50,000) we were one of only a handful to sign the document.
The majority of other signatories are brokers, micro-lenders, non-profit organizations, and localized lenders. These are important members of the lending community, but we also have to ask: Where is OnDeck?CAN Capital? Kabbage? Why won’t they stand for these rights and guarantee that they aren’t engaging in the deceptive practices described in Forbes?
Why Transparency Matters
One of Able’s existing borrowers recently signed on to an additional loan from a competitor that was marketed to her at 15%. Money began to pour out of her account on a daily basis. She turned to our financial team to make sense of what was happening. We discovered that the product was a merchant cash advance with a real APR of 4,058%. The lack of transparency was shocking to all involved.
This experience reinforced for us that transparency is not just an abstract concept. That making sure a borrower thoroughly understands the commitment they’re making is a vital step that can require patience — and dedication to the best interests of the small business at hand. If that step is skipped, an entrepreneur’s hard-won stability can be smashed in short order.
Signing the the Small Business Borrowers Bill of Rights would compel lenders to be fully transparent. Lenders who refuse to sign are making a loud statement: they would prefer to hide or mask their true rates. We can see why. Disclosing those rates — and being forthright with borrowers about the real costs involved — would not be a pretty sight.
Some of these lenders serve capital to particularly risky businesses with credit scores lower than what we require on the Able platform. Naturally, they have to charge higher interest rates. But, 43%? That’s OnDeck’s average APR, according to public filings. Kabbage, which is privately held, does not publish an average, but NerdWallet reports that the Kabbage APR runs from 20% up to 113%. Informal reports show that CAN Capital’s APR runs from 50% to 152%.
At Able, our average APR is 13.4%.
Making The Right Choice
These shockingly high rates offered by OnDeck, Kabbage, CAN Capital and others are rarely a sustainable choice for small businesses. As a core economic principle, a business should only borrow at a cost of capital that is less than the rate of return they can expect to achieve with that money. In fact, if they don’t, they will run themselves into the ground. Said another way, the only small business owners that should borrow from a lender offering 43% are those who expect to grow at 43% as a result of the loan. Translation: very few businesses.
We want to help businesses grow, never to burden them with unsustainable risk. That’s why we’re committed to presenting our proposals transparently — and why we will never lend to a small business at an interest rate higher than 25% APR. We are interested in the long-term success of these businesses, not a short-term play to grab as much cash as we can during their time of need, never to see them again. Unfortunately, we find ourselves cleaning up the mess of good people who were misled into making decisions that were bad for their businesses.
Fellow alternative lenders: if you’re going to quote small business owners exorbitant rates, that’s your prerogative. But, the least you can do is to commit to presenting your rates transparently by signing the Small Business Borrowers Bill of Rights. We’re calling on you to provide some form of protection to these entrepreneurs who are operating in a new paradigm, looking for honest capital - and for authentic partnership in growth.