While private lenders were once seen as a last resort, due to high risks associated, today they’re breaking the mould and offering finance options to businesses who would otherwise miss out on major opportunities. Kate Aubrey takes a look at the new face of private lending.
Partnered by iDutch
The dominance of mortgage industry players has traditionally been steered by consumer sentiment and what is happening in the economic landscape.
As an example, competition in the mortgage industry struggled for several years following the global financial crisis (GFC), after the fear generated about what could happen in Australia (and internationally) meant that customers sought the assistance of big banks, which were seen as a “safer” option.
But as time went on, the mortgage industry – and consumer appetite – evolved.
The search for more tailored products, greater flexibility, and closer relationships with their lender partner saw non-banks come to the fore, including private lenders.
Despite the similarities of the pandemic with the GFC, the last two years have put immense pressure on the banking industry, resulting in restricted lending as credit appetites tightened up at the majors.
This – coupled with continued demand for lenders that provide borrowers with the flexibility needed – has allowed private lenders to step up and fill an important finance gap embraced by consumers.
What exactly is a private lender?
Private lending, also known as peer-to-peer lending, occurs directly between individuals. For the investors, it provides the opportunity to make a higher return than rates offered by other investments. For the borrowers, it allows them to receive funding if they do not qualify for conventional loans.
Contrary to popular belief, private lenders have to abide by similar laws, regulations and rules as banks, from the Australian Securities and Investments Commission (ASIC) to the National Consumer Credit Protection laws and Australian Consumer Law.
However, while there are many rules that compel non-bank lenders to comply with legal and industry policies, private lenders don’t hold a banking licence; and thus, they don’t have the same level of regulatory pressure.
In most cases private lending is primarily for business purposes and is classified as “unregulated loans”, in which case does not fall under the National Consumer Credit Protection Act.
As private lenders are often a wealthy private individual or company that have excess cash from their main area of business that are seeking to earn a higher return on their excess funds, their risk appetite is slightly greater than in traditional lenders.
Speaking to The Adviser, Michael Volkiene, the chief executive of private lending fintech idutch, explains: “Private lenders source their funds primarily from two different sources, one is investors and two is their own warehouse facilities.
“A private lender will take more risk based on the strength of the project rather than, I suppose, historical financial analysis.”
When it comes to broker commissions they are structured slightly differently, with the broker charging the client directly, rather than receiving commission from the lender.
Further, as the transaction is subject to higher interest rates, it is also often a short-term contract to enable the borrower to get projects up and running quickly, before moving to a traditional bank.
For example, if a client is doing a development, and unable to go directly with a traditional bank but is able to demonstrate they can run a successful development with the end result of sales, then private lenders are “potentially” less concerned with presales, the idutch CEO says.
“[The client] will use a private lender up until the point where they [are] attractive to main banks... [And then] will refinance back into a traditional banking lender scenario,” Mr Volkiene says.
“So it’s more about... the opportunity forgone if you don’t complete [the project] – that’s the mindset of small business owners.”
Choosing the right private lender
While the private lending sector has copped some negative flack, with less scrupulous groups allowed to operate, there are a number of key groups with the right ethics that offer transparent lending products.
To help improve the sector’s reputation, Mr Volkiene says idutch completes a “thorough due diligence” process before allowing a lender onto its panel of private lenders.
“We vet their loan agreements, we also physically do site visits…we look through past transactions in terms of completed transactions, [and then] we do reference checking,” Mr Vokiene says.
The platform works similar to a “dutch auction”, from which its name was derived, Mr Vokiene reveals.
Through the portal, brokers can list their clients’ requirements, such as the loan size and presale limit for a development, and the lenders on the panel can then bid for the business. The platform ranks the most suitable private lenders and facilitates an introduction.
“It creates a competitive furnace, where they bid for people’s business both on cost or price, in terms of interest rates and fees, but also on lending terms and conditions,” Mr Volkiene says.
“It’s not just about price, it’s certainly a combination of lending conditions which suit your borrower which they can ultimately meet, [and] the speed in the time in which they can do so.
“But then also achieving a really good value scenario where you’ve got lenders actively bidding against one another, to increase competition to produce the best possible outcome for the end user.”
A rise in demand
Whether it’s first, second mortgages, other bridging products or larger complex lending structures, demand for private lending is booming.
“Since January of this year we’ve more than doubled the number of users on the platform, so a dramatic spike up in the last three months,” the idutch CEO tells The Adviser.
“In terms of the overall market, we believe it’s a $41 billion market in the private lending space in Australia, and growing at the rate of [around] 8 per cent per annum.”
He adds that the pandemic has “pushed” traditional lenders to change the way that they look at historical servicing and provided new opportunities for private lenders.
“What [the pandemic] has done is provide an opportunity for private lenders to understand specific needs at a point in time, what the customer is trying to achieve, and understanding how they’re going to achieve those goals,” Mr Volkiene says.
As interest rates start to increase, additional pressure will be placed on traditional lending, covenants and gearing positions, which will increase opportunity in the private lending space, he explains.
“If you’re talking about almost the perfect environment for this industry to grow, we’re certainly seeing it,” Mr Volkiene continues.
“With the acceptance and uptake and use of private lenders, [brokers are] getting to know who the really good ones are and seeing that it’s a really good outcome for the customer.”
As traditional, non-banks and private lenders are all competing for a slice of the $347 billion business loan market, private lenders are showing their competitive edge through flexibility and quick turnaround times.
Mr Volkiene outlines that private lenders can typically settle a loan between seven to 14 days.
“From the clients’ perspective if you’ve got a tight settlement deadline, banks may or may not be able to move quickly enough to fill that void,” he states.
“The other place that we really satisfy the needs of the market… is taking a second mortgage, where traditional lenders might be capped at a certain loan-to-value position.
“[Private lenders have] the ability to come in and provide mezzanine finance or a second mortgage over and above that, which gets that business owner into that property for a short term.”
That debt can be reduced over a period of time, or the borrower improves the property and has it revalued so it matches the main bank lender’s LVR.
Who is a private lending client?
Typically, private lending clients are property developers or investors.
“Customers who have committed to projects [and] are at the stage where potentially they’re going to lose their deposit because they may not have the finances, perhaps squared away as well as they thought they might,” are particularly popular customers, according to Mr Volkiene.
He adds that he sees business owners, developers with limited experience, and property owners all upscaling.
“Somebody who owns a property unencumbered, who wants to put two townhouses or two duplexes on their property, but they don’t have pre-sales. [Or] customers that want to purchase a warehouse.. [and] acquire the business in total,” Mr Volkiene says.
“That’s the customers that [we’re] seeing.”
Private lenders are also gaining popularity among customers who are of “considerable net worth” who want to get a “higher” return on their cash, according to the idutch CEO.
An increasingly common private lending segment is also now emerging as a result of the COVID-19 pandemic. While the pandemic has put immense pressure on Australian businesses, it has created opportunities for many strong-performing businesses, to take advantage of government incentives and seek finance to acquire other companies.
Mr Volkiene notes that there has been a strong uptake in acquisitions during the pandemic.
“COVID has been incredibly challenging for a lot of small businesses in Australia, but what that has done is create opportunities for some people within their sectors to acquire those businesses,” Mr Volkiene says.
“We’ve done a number of those transactions… The natural competitor has seen an opportunistic acquisition and, via the use of private lending, has been able to make that happen in a very short timeframe.”
3rd-party channel growth
With the changing attitudes around private lending, Mr Volkiene says idutch is seeing its broker channel presence expand.
The lending platform has recently grown from 240 brokers to now in excess of 5,000 with the recent expansion to the Loan Market Group in August 2021, as well as Choice, FAST, PLAN and Vow portfolios.
“That will give a further 5,000 brokers access to the idutch platform – a pretty significant uplift for us and for the broker community,” Mr Volkiene says.
As more brokers gain access to private lenders, it is only expected that this segment of the lending market will increase in popularity.
A broker’s point of view
Broker Abhishek Maharaj at Winquote SME Finance has been using private lenders for his clients, often finding niches for complicated scenarios.
As an example, he says brokers are frequently turning to private lenders as the major banks and first and second-tier lenders “move away” from development finance.
“It’s really the market pressure that’s moved us to look at alternative solutions,” Mr Maharaj says.
“There is definitely a space for these types of products, the ease of getting organised and done is definitely a lot better than having to struggle with other types of solutions.
“From our perspective, it really adds value to our business and a lot of our customers that go into private lending, they know what they’re doing, because most of them are developing and selling… [so] it’s just a shorter term solution.”
Mr Maharaj says as the pandemic has brought increased competition in the market, it has also fuelled better marketing that has created more acceptance of private lenders when discussing the options with his clients.
“There’s a lot more information out there, which certainly helps us to diversify to not just the traditional banking solutions,” he continues.
“The awareness is definitely there and it just adds another string to the bow for us.”
Although choosing the right lender to suit each circumstance is what brokers excel at, when looking at private lenders there can be an added level of uncertainty if the lender is unfamiliar to the broker.
As such, Mr Maharaj says he uses idutch for peace of mind.
“In every aspect of lending there are your good lenders and your not-so-good lenders, but that’s where idutch has helped us because they’ve pre-vetted a lot of lenders, and that’s what gave us confidence to use their platform,” Mr Maharaj says.
“In private lending, there’s certain lenders that like different types of developments, so, depending on preference of the project, or what the project looks like, it is very important for us to have that guidance from idutch.
“Because you don’t want to talk to 10 different lenders and do it all yourself. It’s a platform that puts it to a number of lenders and allows them to choose if they want to do the deal, as opposed to us chasing 10 different people.”
Whether it’s a short-term shift due to current market pressures, [it’s] evident competition in the private lending sector has bolstered during the pandemic.
While some hesitancy might remain, players are earning their stripes in the commercial lending market, giving traditional lenders a run for their money.
Winquote SME Finance