According to the U.S. Census Bureau, as of 2021, U.S. entrepreneurs have filed five million new business applications per year. And in 2023, the number of new small business formations increased nearly 9% from the previous year, suggesting that the growth of the small business sector shows no signs of slowing. This creates a huge opportunity for fintech lenders.

When looking for a loan, small businesses often turn to their custodian bank first. This is natural considering that a relationship of trust already exists.

Furthermore, the custodian bank has a lot of data on small businesses. This allows the bank to conduct outbound marketing (a banker can anticipate a small business’s need for credit even before the owner does) and can create a smoother process as the loan moves through the system.

Fintechs, however, have the opportunity to approach small businesses from a different perspective. The best way to do this is to offer a superior lending experience, which could include a simpler application process, faster decisions and funding, and a more flexible credit box that allows applicants who have been rejected by their bank to be approved custodian.

From equipment loans to working capital lines of credit, opportunities are substantial in the small business market, but fintech lenders must have safeguards in place and perform due diligence using the most up-to-date technologies and methods. According to Equifax, as of February 2024, small business default rates have increased for 18 consecutive months Data on commercial performance. Lenders need the best information available to pursue a high volume of loans that also fit within their risk parameters.

Technological tools evolve rapidly

Providing a better customer experience while managing risk requires the adoption of technology. Fortunately, fintech lenders have a wider range of data and analytics resources at their disposal than ever before. These tools can help you better identify quality leads and securely vet and onboard new loans. They can also assist in business auditing; provide comprehensive risk scores that assess business viability; and aggregate and consolidate data from many sources, as well as leverage alternative data such as merchant trading data.

One challenge for fintech lenders in reaching the small business market is that the prospecting ecosystem is not as developed as the consumer market. This means that small business-focused lenders have fewer tools and less reliable databases at their disposal than consumer lenders as they work to find, screen and screen loan applicants. Additionally, small businesses are dynamic in terms of sales, debt and other factors, so data becomes outdated very quickly.

The key to solving this problem comes from partnering with a vendor that can aggregate and consolidate data from a variety of sources to suit a variety of purposes.

Early in the lending process, verification tools can help confirm that a small business’ information matches verified data collected from trusted sources, including state clerk’s offices, bankruptcy records, business papers, and l ‘Office of Foreign Assets Control (OFAC).

Trade risk scores can tap into vast databases of trade credit that can predict the likelihood of success (or failure) much more accurately. These scores take into account trend data, public records, and firmographic and non-financial information. They can model multiple scenarios across a range of industries, which can help predict a range of outcomes, including insolvencies.

Growing use of alternative data

Alternative data, such as merchant trading data, is another key tool for fintech lenders. Among other things, this data can show lenders whether a small business has accepted payments or has refund or chargeback issues that indicate a problem. For example, small businesses that have experienced chargebacks greater than 1% of sales have nearly double the average default rate, according to recent Equifax Data & Analytics Commercial Merchant Data. Declining sales can also be predictive. Companies where sales decline more than 20% in six months – and the decline is not due to seasonality – have default rates 53% higher than average.

When considering a true small business with one or a few people as the driving force, there is significant overlap between business and personal data. Using a vendor that can aggregate both consumer and business data can help reduce risk.

At the same time, alternative data can help lenders find companies that are doing well, uncovering fast-growing prospects in near real-time and enabling precise targeting and segmentation based on annual revenue and growth.

Human insights add a significant dimension

As important as technology is, making good decisions is also a function of learning as much as possible about the business and its owner through human interaction. Lenders must use their judgment and experience to evaluate a number of critical areas while drawing on insights gleaned from the data. Is the business plan solid? What was your motivation for starting the business? What are the owner’s qualifications? Interestingly, a key point for evaluation is the entrepreneur’s ability to understand the relevant regulations. Those with strong job knowledge have a better chance of success.

While data and analytics providers have broadened their initial focus to include small businesses, fintech lenders have a world of information at their fingertips. Small businesses continue to be an economic driver for the economy – and a significantly underserved group – meaning the potential for fintech lenders is greater than ever. By learning about and leveraging the evolution of data and analytics, fintechs can continue to provide an essential service to individuals, businesses and the broader economy.

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  Jake Osborne has twenty years of experience in the Fintech and payments industry. He held several senior roles within payments services at a top 5 bank, joined a start-up to launch a fintech division, and then led Amazon’s strategic payments partnerships. Jake joined Equifax in 2022 and is currently Head of Fintech and Payments. Key priorities include, but are not limited to, modernizing the GTM strategy, opening new distribution channels, and increasing revenue through opening new fintech segments.

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