In early February the online business lender Kabbage announced a shift in strategy that may be the lead in to an even more significant shift in the nonbank’s approach to the small business market. Indeed, though Kabbage has a history of positioning itself against traditional banks, partnerships with banks are in the offing, according to Kathryn Petralia, co-founder and COO.
Understanding Kabbage basics
Kabbage launched in mid-2011 as an online source of funding for online retailers, such as those selling through sites such as eBay and Etsy. Entrepreneurs who are connected to a variety of online services listed on the Kabbage website until recently could obtain up to $50,000 unsecured. Now the company will provide funding up to $100,000, and will be open not only to online ventures, but also to service businesses and physical stores.
The company holds itself out as an alternative to bank lenders who either aren’t making loans to small firms or which don’t wish to deal with smaller business loans. Video case studies on its home page illustrate the types of new firms it has worked with, ranging from a pair of college students who repair and refurbish smart phones to a cheesecake bakery that ships nationwide.
The company does not characterize the funding it provides as loans, but as merchant cash advances. Kabbage allows businesses to apply online for advances in as little as seven minutes through its website or through its app. Advances are repaid through minimum payments Kabbage transfers out with the firm’s authorization, with larger repayments permissible as well. Interest is charged so long as the advance is outstanding.
Kabbage’s electronic platform evaluates the prospective borrower’s credit instantly, and provides its funds through the recipient’s PayPal account or by transferring to the borrower’s bank checking account.
One of the online funder’s selling points is its automatic, nontraditional approach to evaluating the borrower. While FICO scores are obtained, they only represent a portion of the automated credit decision.
“We’re heavily weighted towards business performance data,” says Petralia, who previously worked in the highly automated consumer credit field.
The company’s model draws on a variety of business history data through online services that the applicant uses, including Sage Payments, Intuit QuickBooks Online, UPS, and Authorize.net’s payment gateway. Authorization to data on those services is part of the application process. Kabbage is currently backed by a variety of venture capital investors and other investors, and is not a peer-to-peer or crowdfunding platform.
Moving beyond alternative funding world
Kabbage’s site states that the company has advanced over $200 million in its short history. Petralia declines to share specific business volume figures, but she points out that Kabbage and all other alternative business lenders represent less than 5% of the funding provided to small firms today.
Thus far, the company has tended to treat banks as a disinterested non-competitor, but now Kabbage intends to broaden the application of its platform. In the next few months, Petralia says, Kabbage will unveil a partnership with a large U.S. bank. She explains that what Kabbage brings to the table is a quicker, simpler way for small businesses to obtain traditional credit. In time, she sees Kabbage partnering with banks of a range of sizes—even smaller banks have had to seek efficiencies by not courting smaller borrowers seeking smaller business loans.
The financial role of banks partnering with Kabbage was beyond what Petralia would publicly disclose, but she said that the firm anticipates two general categories of partnership. Both would move Kabbage beyond its original merchant cash advance model to something closer to traditional bank credit.
One variant would be a co-branded approach, a sort of “Kabbage by XYZ Bank” model where both institutions have a visible role. In the potential second variation, a bank could rebrand the Kabbage credit evaluation engine and offer Kabbage-style credit on a something like a white-label basis.
Partnering with banks would be a switch for a funding source that never even talks to 99% of its customers. Kabbage has gone through its own evolution, in improving its evaluation model. In the early days, says Petralia, little more than proof of business income was needed to obtain an advance. That didn’t always work out.
Even today, nothing’s foolproof. “Plenty of people don’t pay us back,” says Petralia.
Even so, she says Kabbage puts much more weight on business data than on the borrower’s personal FICO. She says this credit measure tends to work best for Kabbage as a predictor of potential fraud.