PayPal Offers Small Business Loans

PayPal is offering small businesses that already transact over its network another reason to stick with the digital payment network — working capital. That's right, PayPal is making loans.

The digital commerce arm of eBay is giving its merchants relatively cheap cash at a fixed fee, using its own data about these companies to determine their creditworthiness. The terms come with no hard repayment dates. And the money is paid back through daily sales made using PayPal, which is enticing to small business owners that have traditionally relied on credit cards to survive. For example, a small business with $100,000 in annual PayPal sales that borrows $8,000 and chooses to pay it back at a rate of 30% of its daily sales might pay a fee of $281. (Lighter Capital has a similar lending model.)

That means no minimum monthly payments. ("If you have no sales on a particular day, you owe no payments for that day," said Darrell Esch, PayPal's vice president and general manager of the company's newly created small business lending group, in a blog post.)

The Working Capital service is initially only being offered to the roughly 90,000 existing PayPal merchants that have been using PayPal for at least three months. In most cases, they've been using PayPal for years, says Esch, a former Bank of America executive, who came to his new role about two months ago after being with PayPal since 2010.

"It's about solving these sellers' needs and pain points, [because] of course we want a strong merchant network," he says. "We would expect that, ultimately, this translates into things like stronger, deeper relationships."

It's a scary prospect for banks that have traditionally looked at PayPal as a frenemy.

"With this announcement, PayPal expands into the realms of Kabbage and On Deck Capital, as well as obviously traditional small business lending offered by banks and credit unions," says Nick Holland, a senior payments analyst at Javelin Strategy & Research. "Financial institutions should be scared — PayPal has the audacity of a startup with an R&D budget that outguns the incumbents."

Others agree.

"This could be a huge disruptor," says Jim Marous, a senior vice president of corporate development at digital direct marketing agency New Control and author of the Bank Marketing Strategy blog.

"Especially for the smaller retailer that is the target market of PayPal."

He goes on to explain that the immediate access to cash (PayPal claims the money is disbursed within minutes to a merchant's account) and transparency on the rates and fees associated with the loan are a big draw.

In fact, that's a unique feature that could help propel the popularity of the product, says Christine Pratt, a senior analyst at the Aite Group.

When asked if she's seen anything thing like the rates and borrowing structure PayPal is now offering, she said she had not. "This is one of the reasons that I think this is a pilot and by invitation only," Pratt adds. It "gives PayPal a chance to validate their risk assessments and their own revenue projections."

Indeed, PayPal is using internal data to assess how much to offer and to whom. That, Pratt says, is a strength.

"One of the biggest problems for banks lending to small businesses is that there is very little financial data available and banks are reluctant to lend to e-commerce merchants without a physical presence," she says. "Online merchants have been hard hit as well by the lack of [home equity line of credit] and mortgage refinancing to fund their working capital needs in particular… PayPal has the access to a significant amount of financial data on these business customers as well as access to their PayPal accounts to retrieve payments—something more traditional merchant advance providers do not have."

PayPal is working with the same bank that backs its BillMeLater service, WebBank. Executives declined to discuss the development of the product, or how long PayPal has been thinking about or working on this type of loans.