OBSERVATIONS FROM THE FINTECH SNARK TANK
Amazon and Goldman Sachs announced a partnership to provide lines of credit up to $1 million to merchants selling on the Amazon platform. According to CNBC:
“The application process is fully digital and can be done in minutes, and most customers will get approval results in real time. The credit lines will come with an annual interest rate of 6.99% to 20.99%. If users don’t make minimum payments on time they’ll owe late fees and a maintenance fee if they don’t use at least 30% of their credit line. If sellers consent to it, Goldman will use data on businesses’ revenue and tenure on Amazon to determine who should be approved.”
It’s A Clear Win For Amazon
To date, Amazon has issued term loans using a corporate credit facility from Bank of America, an arrangement that is expected to continue. With the Marcus deal, Amazon merchants will be able to get a credit line.
There are two clear benefits for Amazon from this deal: 1) Amazon adds a new source of revenue with the fees from the Marcus credit lines, and 2) Amazon sellers get needed capital to continue selling on the platform.
It’s A Win For Goldman Sachs
Many bankers turn their noses up at retailers’ “receivables financing” and wouldn’t touch this kind of business with a 10-foot pole.
But for Goldman Sachs, it may be just the kind of business a firm with the nickname “Vampire Squid” is perfect for. With interest rates as high as 21%, fees for late payments, and fees for non-usage of the credit line, Goldman is likely to make out nicely on this deal.
Bankers will point to expected high loss ratios on this kind of business, but Goldman Sachs has a tolerance for that—it’s already seeing high loss ratios on its consumer loan portfolio.
And with a near-zero cost of acquisition—the fee Amazon takes being the only real cost—and a low cost of loan processing, Goldman can live with a higher loss ratio than most banks are willing to.
It’s also important to note how the Amazon/Goldman Sachs approach will differ from the traditional bank approach.
Banks hang out their shingle, let the world know they’re available to lend, and wait to see who applies for a loan. Inevitably, they get requests that don’t meet their risk guidelines and turn down some (or many) would-be borrowers.
The Amazon and Marcus approach will be different. Goldman will cherry pick the merchants they want to lend to and send invitations to apply through Amazon’s Seller Central site. This will keep processing costs down.
Banks Won’t Pay Attention—But They Should
According to a study titled The Rise of Finance Companies and FinTech Lenders in Small Business Lending:
“In the aftermath of the financial crisis, non-bank lenders expanded annual lending by 70% from 2010 to 2016. By the end of 2016, non-bank lenders provided the majority of new secured, non-real estate loans with a market share of 60%.”
Banks didn’t really lose share to non-bank lenders—it’s more like they willingly ceded market share as they became increasingly risk averse.
As a result, many banks will look at the Amazon/Goldman Sachs deal and not care, considering it business they don’t want. That might be fine for the short-term, but there are four broader issues banks will be ignoring:
1) The need to diversify. Many banks desperately need to diversify their loan portfolios which are too heavily weighted towards commercial real estate. That was a problem before the Coronavirus crisis and is becoming an even bigger problem post-crisis. Banks can’t just talk about diversifying into more C&I business—they have to take on lending opportunities they’ve avoided in the past.
2) Underwriting changes. A completely digital process that takes just minutes and produces a decision in real time is a big deal. But another big deal is that Marcus’ underwriting decisions will be rely solely on revenue, cash flow, and (I would assume) category sales data—all of which will come from Amazon. This will be a revealing test of alternative data sources.
3) Embedded lending. Embedded finance is the integration of financial services into non-financial websites, mobile applications, and business processes. Marcus lending through Amazon’s platform is an example of this. Bain Capital’s Matt Harris estimates that by 2030, 20% of all lending will be embedded lending. Banks that ignore this trend will miss lending opportunities and lose market share.
4) Market optics. This isn’t a good time for banks to ignore small businesses’ borrowing needs—even if it’s bad business for the banks. In just a few weeks, banks went from PPP heroes to being accused of 400 years of systemic racism. Activists will be scouring banks’ balance sheets—and management teams—in search of dirt.
The Downsides For Amazon and Goldman Sachs
For Amazon, the downside is that it won’t have access to credit line usage and performance data since Goldman Sachs won’t be sharing that with Amazon.
That’s a potentially important downside, however.
Down the road, Amazon may launch a loan marketplace—rumors and screenshots surfaced earlier this year—involving a broader range of lenders. Credit line usage and performance data would be useful in attracting lenders to the marketplace.
For Goldman Sachs, the downside relates to the market optics issue mentioned above.
If Marcus cherry picks just white-owned businesses to offer credit lines to, it’s bound to get some backlash.
In addition, Goldman may be opening itself to criticism of gauging small businesses with interest rates at the 20% level.
One LinkedIn user posted:
“As Amazon just closed a $1B line of credit at 0.4% interest it introduces loans to small businesses at 7-20x what it borrowed at. This is disgusting business behavior. This is the sickness we call the economy. These rules for funding are predatory.”
The comment is way off-base as: 1) Amazon isn’t doing the lending, and 2) the interest rate it receives on a loan or line of credit (its borrowing rate) has nothing to do with its lending rate.
The comment is evidence, however, that people are taking notice of these deals and that there will be close public scrutiny of banks’ actions.