Innovation in Lending

Couple of months ago I received a white envelope from Lending Club. From the word “Lending” I inferred the envelope to be an offer of credit and since I have never heard the name before, I assumed it to be one of the shady subprime lenders. So I did what I always do in these kinds of situations, throw it into trash without ever opening the mail. Then a few weeks later I received another one of these envelopes from Lending Club. This time I got curious and opened the envelope, and then looked it up online. What I found was a very good business model.

What is Lending Club? 

Lending Club is essentially a peer-to-peer lending platform. It brings together people who wish to lend, and people who want to borrow. Lenders may get higher returns from Lending Club when compared to savings accounts or CDs. And borrowers have access to money at a lower rate than a bank or a credit card.

Borrowers 

Whether you want to consolidate your debt, payoff your credit card with crazy interest rate, borrow for auto loan, or start a business, Lending club has a solution for you. You are able to borrow up to $35,000. The rate you receive is a function of your credit score, your current income etc. For more details on how to get a loan, the interest rates and fees you can visit http://www.lendingclub.com/public/personal-loans.action

Lenders 

If you have some extra money sitting around in bank account earning measly interest rates, you can do what banks do. At the basic level, bank makes money by collecting deposits and lending it to borrowers. It earns a spread between the interest it collects from borrowers and interest it gives depositors called net interest margin that takes into account all the costs and losses. If you ever wanted to become “Bank of …….” this is your opportunity. For further information go to http://www.lendingclub.com/public/steady-returns.action

Business Model and How does it work? 

To better understand the business model, I reviewed their prospectus for Member Payment Dependent Notes. This is a mandatory SEC filing that can be obtained from https://www.lendingclub.com/info/prospectus.action . Here are a few excerpts that help us make sense of the business model.

The Member Loans. Member loans are unsecured obligations of individual borrower members, have a fixed interest rate and either a three-year or five-year maturity. Except in the instances in which we perform (i) income verification, which we indicate in the borrower loan listing, or (ii) employment verification, member loans are made without obtaining any documentation of the borrower member’s ability to afford the loan. Each member loan is originated through our website and funded by WebBank at closing. WebBank is an FDIC-insured, Utah-chartered industrial bank that serves as the lender for all member loans originated through our platform. Immediately upon closing of a member loan, WebBank assigns the member loan (and all rights related thereto including any security interest) to LendingClub, without recourse to WebBank, in exchange for the aggregate purchase price we have received from investors who have committed to purchase Notes dependent on payments to be received on such member loan plus any amounts of the member loan that we have determined to fund ourselves. WebBank has no obligation to purchasers of the Notes.

So loans are issued by WebBank and later sold to Lending Club. Lending Club then turns them into Member Payment Dependent Notes and allows members to invest in these notes. Investors typically own a portfolio of these notes.

The Notes. LendingClub investors have the opportunity to buy Notes issued by LendingClub and designate the corresponding member loans to be originated through our platform and funded with the proceeds of their Note purchases. The Notes will be special, limited obligations of LendingClub only and not obligations of any borrower member. The Notes are unsecured and holders of the Notes do not have a security interest in the corresponding member loans or the proceeds of those corresponding member loans, or in any other assets of LendingClub or the underlying borrower member. LendingClub will pay principal and interest on each Note in a series in an amount equal to each such Note’s pro rata portion of the principal and interest payments, if any, LendingClub receives on the corresponding member loan funded by the proceeds of that series, net of LendingClub’s 1.00% service charge. LendingClub will also pay to investors any other amounts LendingClub receives on each Note, including late fees and prepayments, subject to the 1.00% service charge, except that LendingClub will not pay to investors any unsuccessful payment fees, check processing and other processing fees, collection fees we or a third-party collection agency charge and any payments due to LendingClub on account of the portion of the corresponding member loan, if any, that LendingClub has funded itself. If LendingClub were to become subject to a bankruptcy or similar proceeding, the holder of a Note will have a general unsecured claim against LendingClub that may or may not be limited in recovery to borrower payments in respect of the corresponding member loan.

So let’s say you used the platform to invest some money and funded some borrowers. By this time you might be wondering what if I need the money back. Lending Club has created a Note trading platform on Foliofn. Here is an excerpt from prospectus.

Trading Platform Investors may not transfer their Notes except through the resale trading platform operated by FOLIOfn Investments, Inc.(“FOLIOfn”), an unaffiliated registered broker-dealer. This trading platform is an internet-based trading platform on which LendingClub investors who establish a brokerage relationship with the registered broker-dealer operating the trading platform may offer their Notes for sale”

Here is a picture from the prospectus that explains their business model.

I think Lending Club has hit upon an innovative business model that serves the needs of all stake holders. Last month they have reached $1B in loans issued. Here’s an interview with the founder on Bloomberg.