Former FT Weekend editor Andy Davis speaks to the former Lending Club boss about his vision for online lending 2.0.
You might think that anyone who had been as engulfed in controversy as Lending Club founder Renaud Laplanche would prefer to spend as little time as possible thinking about the past. In this case, you would be wrong. Laplanche, whose sudden departure in May 2016 from the pioneering marketplace lender he founded ten years earlier must rank as one of the biggest shocks to hit the global P2P movement, has spent much of the time since then dissecting his experience at Lending Club in search of ways to refine the online lending model. Or, to use his term – the clue, as ever, is in the name of his second marketplace venture – to Upgrade it.
“The story of Upgrade is trying to create a version 2.0 of the industry by learning from all the bad ideas I had in the first ten years,” he says. “As you can imagine, after 10 years there’s a lot of areas where you say to yourself, ‘if I had to do this again I’d do it differently’.”
This will doubtless provoke wry smiles among more cynical observers, given the circumstances under which Laplanche left Lending Club – amid allegations that documentation for $22m of loans sold to investment bank Jefferies had been tampered with, and that Laplanche had personal conflicts of interest. But it is uttered without irony. Many of the equity investors and institutional loan buyers that backed Lending Club, including Jefferies, are also backing Upgrade, suggesting that they are both comfortable with Laplanche’s ethics and willing to bet that he can improve on the online lending model he helped to pioneer.
Although Upgrade set out to target the same market as Lending Club with its first product – refinancing high-cost, floating-rate credit card balances into cheaper, fixed-rate personal loans – the strategy has morphed. Upgrade aims to create a deeper relationship with its borrowers than the first generation of online marketplaces, creating a more attractive balance between the cost of acquiring a new borrower and the lifetime value of that borrower to the business.
“We wanted to go beyond the mere transactional relationship with our customers and invite them into a more of a long-term relationship, where they get a loan but it’s not the only thing they’re getting.” This is where the site’s free tools for credit monitoring, alerts and educational features come in. Users receive alerts when there’s a change in their credit score or a credit inquiry, a useful check on possible identity theft. They can also run simulations to see the effect on their credit score of adding to or paying down mortgage, auto loan, credit cards and so on. “Each decision will have a different impact on your financial standing and your credit score so being able to see each of these outcomes is really useful.” Around 95 per cent of Upgrade borrowers use the free tools, he says: “Over time they should help people make good credit decisions and understand their own credit better.”
Laplanche is scathing about credit cards, labelling them “fundamentally bad products”. They are expensive – the average interest rate on the US’s $1.03 trillion of balances is 17 per cent, he says, which rises to perhaps 25 per cent once fees are accounted for – and borrowers can run up debts without having to pay down the principal every month as they would with a loan. Many don’t even realise they are taking out a loan, and card issuers never use the word.
To provide an alternative, in April Upgrade announced its second product, the personal line of credit. This is akin to the Home Equity Line of Credit available to US borrowers, although this version is unsecured. It offers a fixed-rate personal credit facility that can be drawn as needed, with interest paid on only the outstanding balance. Unlike a credit card, however, at the end of each month the balance drawn that month converts into an amortising personal loan repaid over a fixed term, ranging from 12 to 60 months.
This innovation, says Laplanche, combines the flexibility of a credit card with the “responsible credit features, predictability and fixed cost” of a personal loan. By the end of this year, he adds, Upgrade will start issuing cards to its personal credit line borrowers, bringing the product even closer to a traditional credit card.
He has no intention of stopping there: “Our goal is to develop and launch probably one new product every year and over time address all the credit needs of our customers, so it’s a pretty big departure from what’s been done in the space so far, which was really just personal loans focusing on one type of customer need.” This signals another of the changes Laplanche has built into Upgrade compared with earlier marketplace models – a determination to break away from the very monoline approach that industry players took in the early days. He has spoken previously about the “rebundling of the bank”, suggesting that one-product, volume-driven online providers would gradually develop broader product ranges and therefore more opportunities to create profitable relationships with their customers.
One of the big questions about this “rebundling”, however, is the route that the first generation of online players will take to get there. This highlights an interesting contrast with Zopa in the UK, which also decided sometime ago that it needed to broaden beyond P2P consumer loans but concluded that to be able to move into credit cards it needed to become a bank and collect deposits to back its lending. Because Upgrade’s credit card alternative, the personal line of credit, converts its month-end balances into amortizing personal loans, these can be sold to institutions in the same way as any other loan, removing the need for Upgrade to become a balance-sheet lender. Instead, it simply needs to finance the amounts drawn each month for the short period until they convert into personal loans and are sold. “Investors buy the monthly amortizing balance in the same way they buy loans today. It’s essentially the same cashflows, the same instrument, just smaller amounts, so instead of buying a $10,000 loan they’re buying a $500 monthly balance.”
Although he acknowledges that Upgrade’s strategy of becoming a multi-product company is one that other marketplace lenders – with the notable exception of Funding Circle – are also pursuing, Laplanche argues that he benefits from starting with a decade of experience and a blank sheet of paper. “The version 1 players are also going to get there and they’re also adding products.”
Does he think the move by Goldman Sachs’s platform, Marcus, to purchase the personal money management app Clarity Money represents an acknowledgement that Marcus needs to create deeper relationships with customers across more products? “Possibly,” he says. “I don’t know what the strategy is there but what I like about what we did is that credit education and monitoring is not an afterthought. It’s not like we bought another company that we have to integrate. It’s something we built from the get-go.” Strategic decisions like these, he says, are “the building blocks of online lending 2.0 that were designed in a way that’s very cohesive”.
It’s clear that Laplanche has designed Upgrade from the start with scale in mind. Little more than a year after launching its first product, the company has 250 staff across three centres, San Francisco, Phoenix, and Montreal, and its series A funding round was no minnow at $60m. Originations are running at $100m a month, having reached a level after a year that it took Lending Club more than six years to reach. Laplanche said in April he expects to originate $2bn of loans this year.
The operations centre in Phoenix exemplifies his long-term goal of scale. At Lending Club, he says, they benefited from having customer service, credit underwriting, loan servicing and collections sitting alongside the product engineering team. This created a “really nice feedback loop”, in which customer service staff could relay concerns straight to the engineers, enabling very rapid product improvements. The drawback was that as the company grew, it became too expensive to have a big customer services team sitting in hugely expensive San Francisco office space. “I probably pushed that too far,” he admits.
This time, a small team of customer service staff are based alongside the main engineering team in San Francisco to preserve that feedback loop, but most are in Phoenix, where there’s a good talent pool of credit professionals, thanks to a number of large banks having their operations centres there, and wage costs are 25 per cent-30 per cent lower. The same goes for development, the core of which is in San Francisco with a satellite base in Montreal, where talent is available and wages are lower.
The decision to fund Upgrade purely with institutional money marks another obvious change of strategy from Online Lending 1.0 – and one where Upgrade clearly benefits from the success of the first generation of marketplace lenders in achieving credibility among institutional investors. This partly explains why Upgrade was able to cross the $100m a month barrier so much faster than Lending Club. Laplanche argues that Lending Club had to rely on retail early adopters to build its track record but says that once institutions got involved the situation became hard to manage.
“It was really difficult to run both a retail programme and an institutional programme with the desire to have a level playing field for everyone. It’s always hard when you’re dealing with people with different levels of sophistication and information.” This time, the only way for retail investors to access Upgrade is via professionally managed funds. Laplanche argues that working only with institutions helps to keep Upgrade focused on its “core business of originating, underwriting and servicing good loans”. But a side benefit is undoubtedly that this approach also means he does not have to maintain a high profile among retail investors and face endless scrutiny of his fall from grace at Lending Club.
This also partly explains why he is in no hurry to return to the public markets with Upgrade. The post-IPO performance of several early marketplace lenders has been mixed to say the least, although Laplanche expects this to change over time.
“Marketplace lending is still pretty new for investors. It takes some time to establish credibility as a public company and I think we would have got there eventually but we didn’t because of what happened in May 2016. I think there will be marketplace lenders who will establish that credibility and will be more successful as public companies. Funding Circle is set to go public soon in the UK so that will be another chance for a successful IPO… The market will progressively get there and get to appreciate the unique economics and growth potential of marketplace lending – but I don’t need to be the one doing it. I think the right answer is we’re going to stay private.”
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