Kelvin Teo, group CEO and co-founder of Funding Societies, explains the differences between the company and other peer-to-peer financing platforms, its business performance and the challenges it faces during the COVID-19 pandemic.
Previously a consulting professional at KKR, Accenture and McKinsey, Kelvin Teo co-founded Funding Societies (FSMK) in 2015 while he was studying at Harvard Business School. He became interested in the peer- to-peer (P2P) business model as an alternative funding source for small and medium-sized enterprises (SMEs) in Southeast Asia that he has had experience working with. The company has licences to operate across three countries - as Funding Societies in Singapore and Malaysia and as Modalku in Indonesia. It leads in the region, having extended over $1 billion in loans to 45,000 SMEs s primarily through a P2P financing model.
Yet, it is only scratching the surface of the huge $200 billion underserved SME segment in these three countries. Teo explained that the company focuses on the short-term business needs of SMEs through a range of business and microloans to meet their unique local needs. Over the last few years, it has developed a proprietary machine learning-based credit scoring technology as well as a network of partnerships to facilitate alternate data accessibility and factors the human intuition into the decisions. It witnessed 300% compounded annual growth rate over the last four years and 200% in 2019 in loan origination, while its revenue has increased in tandem. He now expects the company to become profitable by 2021.
The pandemic has brought unique challenges for the company in the form of increased credit demand, escalating credit risk and a drop in P2P investor funds. Teo shared that with the rise in credit risks, the company’s default rate has increased, while loan origination growth is estimated to have dropped to 30%. The company has a balance sheet credit line-up from institutions that is helping it tide over the credit crunch.
FSMK has raised $72 million in total funding from venture capitalists such as Sequoia, SoftBank Ventures Korea and Golden Gate, including $40 million raised in a series C round in April this year. Going forward, the company plans to expand into new markets like Thailand, Vietnam and the Philippines. Towards its vision to evolve into a digital bank, it has also applied for a wholesale digital bank licence in Singapore with Xiaomi, AMTD and Singapore Power.
Here is the transcript of the interview:
Funding Societies is looking to meet part of the $320 billion SME credit gap in Southeast Asia
Neeti Aggarwal (NA): Please share with us how big is the potential underserved market in each of these three countries that you operate in and what is the unique value proposition that Funding Societies brings in vis-a-vis your competitors in serving the needs of this market.
Kelvin Teo (KT): The entire SME financing credit gap that the World Bank has estimated for six key economies in Southeast Asia, namely Indonesia, the Philippines, Thailand, Vietnam, Malaysia and Singapore, totals to $320 billion. This is arrived by estimating the credit amount as a percentage of gross domestic product (GDP) for more developed SME banking countries compared to countries in Southeast Asia. That totals for six key economies to about $320 billion.
We are currently the only platform that is licensed and operating in more than one country – Singapore, Indonesia and Malaysia. Within these three countries itself, the total SME credit gap is estimated to be $200 billion a year.
But even though we are the largest SME finance platform, having given more than $1 billion loans since we started in 2015, we are only scratching the surface because of the huge gap.
How we differentiate ourselves within this segment is in three ways. Number one is being hyperlocal in terms of our product and partnerships. We are the only platform that offers a wide range of credit products to the SMEs, notably term loans, trade finance and microloans, as well as serves SMEs offline and online across most industries in these three markets. That has enabled us to meet the needs of SMEs in a very localised and customised situation. We partner with a wide range of banks, be it offline corporate secretaries, accounting firms and digital players, such as e-commerce platforms, business-to-business (B2B) digital platforms and so forth.
The second differentiator is our credit and technology. Having developed our proprietary technology since 2015, it has gone through several rounds of maturing and refinement. It aims to achieve two things. First is to really be a lot more accurate and efficient in terms of assessing the credit risk of the SMEs. And second is in terms of launching new products and improving the productivity and efficiency of operations.
One notable example when it comes to credit scoring is our microloan products, which we pioneered in 2016. It is the first microloan product with a maximum size of SGD 100,000 ($70,000), whereby SMEs can apply microloan credit through mobile phones. We have the application process of two minutes and approval within two business hours. It has been the fastest in the market. From an overall operational efficiency perspective, we have given approximately 150,000 loans a month or possibly 5,000 loans every single day. This has been possible due to the technology.
The third differentiation is in terms of compliance, and this is extremely important. Fintech is a new industry, and we have been actively engaging the regulators and proactively self-regulating and helping to come up with new regulations that are potentially suitable for the industry. Generically, we are known as a peer-to-peer lending platform, but to be specific, it is a mix of marketplace lending and balance sheet lending. We only serve small and medium businesses.
NA: What type of alternate data sources are you using for credit analysis of these companies? And how are you using technology more effectively vis-a-vis your competitors in the sector?
KT: The first step is, how can we use traditional information smarter compared to peers? In the case of microloans, the documents that we collect are standard compared to other peers, but we try to improve the user experience through various forms of data integrations and using data in a much smarter way. We started with a linear logic model, and over time we have evolved into using Random Forests or machine learning method towards actual credit assessment. We have found that with the same set of loans, our data model has been able to approve more loans.
The next step is, how can we use non-traditional data to complement the underwriting? To do that, a large part ties into our B2B digital platform partnerships and supply chain finance platform. By onboarding anchors, anchor corporates and supply side distributors, we have been able to secure alternative transaction data, review data and other digital footprint data to complement our traditional data sources, as well as overlay it together with other macroeconomic factors, so we have the models constantly up to date in terms of reflecting the latest status of the economy.
The third is, how can we digitalise human intuition? We recognise that unlike consumer financing, the quantum in SME financing is relatively big. Given that Southeast Asia is still relatively nascent in terms of digitalisation, it is almost certain that for bigger quantum loans, you want to have an additional pair of human eyes to review it.
The key is to improve the productivity of human underwriting and know how we can digitalise it. While human intuition is good in terms of certain judgment call, it is also susceptible to subjectivity. We have tried various forms of techniques that we have learned from other markets in Southeast Asia. Through years of refinement, we have reached a steady state. That is why, even with COVID-19, we've been fortunate that our credit portfolio has held up well.
The P2P SME financing platform has handed out 2.7 million loans amounting to over $1 billion
NA: Tell us more about your business growth. What have you achieved in the last couple of years?
KT: Since our launch in June 2015 in Singapore, we progressively expanded to Indonesia in 2016 and Malaysia in 2017. After building this critical mass, we have focused on consolidating operations in these three markets before entering other economies in Southeast Asia. Between 2018 and 2019, the company has grown by about three times from a year on year basis. We have COVID in 2020, but we still expect our origination to grow.
Perhaps, at a lower rate, approximately 30% year on year, approximately 200% between 2018 to 2019 and approximately 30% from 2019 to 2020. Overall, we expect to disburse approximately $700 million loans this year itself, having achieved a good milestone in the first six months. Within the first six months of 2020, we have given out approximately $300 million loans, serving approximately 45,000 SMEs, which is cumulative till date.
NA: How many lenders or investors do you have on your platform? And what kind of average rate of return are you able to offer them?
KT: We have more than 150,000 individual lenders across our three key platforms, with numerous institutions. Where we have a key value proposition is not about how we can make some of the investors rich because it means that it makes some SMEs poor. Our value proposition is to give both retail as well as institutional investors a liquid and convenient form of investment that gives them a competitive return.
In Singapore, after service fee and defaults, we typically have about mid to high single-digit returns depending on your portfolio construct.
We see some variation between the various markets due to local context. Since COVID-19, our default rate has increased. We started the year at possibly around 1.3% (1.3% - 1.4%), and as of now it’s at about 1.78%. It will probably end at around 2% at the end of 2020. So far, from an overall credit portfolio perspective, it has performed quite better compared to what we expected and the overall peers in the market. It is something that we aim to continue sustainably moving forward.
Its loan originations dropped in 2020 due to the pandemic
NA: Tell us about the key challenges that you are facing because of COVID-19 and how are you managing them?
KT: There are three key implications of COVID-19. Number one is on the borrower side. There is an increase in demand and credit risk. Around February, when Singapore entered code orange, we have preemptively adjusted our credit underwriting from a product perspective to focus on products that are closer to cash, notably trade finance. From a sector perspective, we have white, black and grey list of industries based on the likely impact of COVID-19. We shortened our tenure a bit, so that from a risk exposure perspective, it is more limited. These have enabled us to keep our credit performance well in the last few months.
From an investor perspective, we see a sudden risk of credit crunch. Our typical renewal rates have been approximately 80% (before COVID-19) and that has dropped to meaningfully lower in April and May. We have a balance sheet credit line build up, which enabled us to continuously lend during this period of time, lending a lot more selectively. We have started seeing recovery as of June when our key markets have exited from lockdown.
From a platform perspective, having tightened our credit underwriting preemptively, our origination volume has fallen by approximately 20% to 30% in April and May. But, starting from June, it is gradually recovering. This has enabled our top line to recover steadily as well.
As of June, our revenue has recovered to nearly pre-COVID level.
NA: What has been your revenue growth in 2018 and 2019? And how close are you to achieving financial sustainability?
KT: From a year on year growth perspective, the revenue has been growing steadily between 2019 to 2020. While we don't share the numbers publicly, on the revenue figures, we will break even within a relatively short period of time compared to the other fintech players in perhaps US and Europe. We expect the company to become profitable within the next 12 months.
We expect to be profitable in 2021. Indonesia as a market is already net profit positive after factoring for all forms of cost – credit provisioning and shared costs such as technology. With one country being profitable and the other two countries being contribution margin positive, the goal is to cover the remaining fixed costs as we scale to reach a break-even point.
NA: You have raised close to $70 million from investors. How are you planning to utilise these funds? What are your plans going forward?
KT: We have been extremely fortunate to have raised the round before the COVID-19 impact was full blown, given that our last round in series B was led by SoftBank Ventures Korea and the round before that by Sequoia Capital.
From the overall focus perspective, there are three areas. Number one is to continuously improve the product and technology. It is an area that we invest into even during the COVID period. It is very important for us to serve SME as well as improve our productivity and automation across the overall organisation.
Number two is geographic expansion. We have been doing our homework in Thailand, Vietnam and the Philippines for almost one to two years, preparing ourselves to launch in these markets. When the market is ready, we will enter market to market. Our satellite office in Thailand is a testament to this commitment.
The third one is evolving into a digital bank. It is reflected consistently with our wholesale digital bank licence application in Singapore that we have put together with Xiaomi, AMTD and Singapore Power, as well as the acquisition of a multi finance licence company in Indonesia.
NA: Thank you so much.