LendingClub is a pioneer in peer-to-peer lending and one of the largest platforms in the United States. It will be departing from the business model that was once key to its success. LendingClub is not the first and may not be the last. Is the business model not sustainable? Could this also be happening in Indonesia? There are several factors to observe.

First, the regulation. Based on Financial Services Authority (OJK) Regulation No. 77/2016 on technology based fund lending services, fintech lenders can be individuals or legal entities. This is the umbrella that protects both retail and institutional customers who use fintech lending platform services.

In accordance with the regulation, the OJK has taken serious measures to protect customers from illegal lending practices. In its recent press release, the OJK said that between 2018 and September 2020, its Investment Alert Task Force had successfully shut down 2,840 illegal fintech firms.

Four years since the issuance of this regulation, the fintech lending sector saw rapid growth. The OJK’s August 2020 statistics on the development of fintech lending shows an accumulated total of 669,580 lender entities, an increase of 26.24 percent from the previous year. This is very encouraging. Even amid the crisis, these data show that the general population is still comfortable in making investments, which will assist in lubricating the wheels of the economy.

Second, the costs and benefits. In retail business, the growth in the number of customers does not necessarily translate into profit growth. Fintech firms must allocate sufficient resources to manage the various risks associated with retail customers. Such as the responsibility to improve literacy, to provide complete information, to provide virtual accounts and to be able to handle customer complaints or disputes. Although this obligation applies also to institutional customers, risk differences between these two groups are worlds apart.

Retail customers have their own characteristics. Take customers’ data as an example. Fintech firms must ensure that the acquisition, use and disclosure of customer data is based on consent from data owners. In addition, they must provide communication media aside from the electronic systems to ensure the continuity of customer service. Notification in writing to the data owners needs to be performed in the event of failure to do so.

This is not the case for institutional customers, such as banks. The potential risk exposure is different. They already have their own standard security protocols to secure their data. When the costs of maintaining retail customers outweigh the benefits, fintech firms will reconsider their business model, especially when they assess the situation from a business perspective.

Third, the credit risk. OJK statistics recorded the average rate of payment success 90 (TKB90) August 2020 at 91.73 percent. The TKB90 shows the success rate of fintech lending in fulfilling debtor's payment obligations to lenders within 90 days from due date. Hence, it means that, on average, there is an 8.27 percent chance that the debtor will fail to pay off the loan. When this happens, the lender may lose its investment or money lent through the platform. This may create a big impact if not managed properly, considering the scale of retail lenders participating in the platforms.

Fourth, the risk mitigation. The OJK regulation provides that fintech firms and users are obliged to mitigate risk. Users refers to borrowers and lenders. Hence, as lenders, retail customers must also be able to mitigate the borrower’s credit risk they are exposed to. It is the largest risk associated with fintech lending business.

One way to reduce this risk is to diversify the borrower pool, which is to spread the risks into several groups of debtors. However, it will be challenging for retail customers or individual lenders to have enough in their portfolio to properly deploy this form of risk mitigation. This is a problem that is not faced by institutional lenders, as they possess large capital to invest in.

Another option is credit insurance that will guarantee repayment if the borrower defaults. But this is no free lunch, as there is a premium to be paid. This premium can significantly reduce the return on investment, if it is borne by individual lenders. In turn, it may diminish the incentive to invest in fintech to the extent that it will no longer be a viable option.

Fifth, the restructuring. In the event of an unexpected situation that has far-reaching implications for today’s economy, debt restructuring is one of the better options. It will provide the debtor time to recover from the crisis and a better likelihood that the lenders recoup their investment. However, with the retail lenders business model, the restructuring will involve thousands of lenders with millions of debtors.

There will be an abundance of variations in individual expectations that fintech firms will have to accommodate for such restructuring to succeed. This perspective changes when dealing only with a small group of institutional lenders.

As to whether the business model is sustainable or if this is time for our fintech lending industry to revisit it, the industry itself is better positioned to make this assessment. But given the TKB90 rate and the sheer number of parties that are at risk of being impacted, it might be worth reviewing.

Hopefully the economic situation will soon improve, following the various measures the government has implemented. So that the fintech lending industry will continue to grow and support Indonesia’s economic development.

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The writer heads legal and corporate secretariat at Bank DBS Indonesia. The views expressed are his own.