Online lender OnDeck's announcement today that it's about to surpass $1 billion in loans to small businesses puts banks on notice — this customer base wants to borrow money in a quick, convenient, automated way.
New York-based OnDeck has been lending to "micro-businesses" that make $5 million or less in revenue since 2007. Like competitors Lighter Capital and Kabbage, OnDeck makes loans online, relying heavily on data gathering and proprietary models to determine creditworthiness.
Thursday morning it also announced that it has received $77 million in new funding, led by Tiger Global Management with participation from existing investors Institutional Venture Partners, RRE Ventures, SAP Ventures, Google Ventures, First Round Capital and Peter Thiel. OnDeck has now raised a total of $180 million in equity and over $300 million in debt financing.
OnDeck supplements the information small business owners provide in their online loan applications with external sources such as credit bureau reports, online bank account information, social media data from sites like Yelp, Google Places, Foursquare, and online business directories such as Manta. Such additional data is particularly important for young companies and those with thin credit bureau files.
Sometimes people think we do a $250,000 loan off a Yelp review — we would not be here today if we did that," says Noah Breslow, OnDeck's chief executive, who spoke with us in an interview Wednesday. Social data can be noisy, he acknowledges. On the other hand, data such as number and frequency of customer reviews of a company can provide an objective measure of customer traffic, he says.
The data is analyzed by OnDeck's algorithms and each company is given an OnDeck credit risk score akin to the FICO score for individuals. Underwriting and loan rate decisions are based largely on this score. Computers make 70% of the loan decisions at OnDeck; humans 30% — the humans tend to look at the larger loans and those where there are concerns about risk. The average loan size is $40,000 and the loan loss rate is in the low single digits, the company says.
Crossing the $1 billion mark "speaks to the fact that this is not a flash in the pan," says Breslow. "We think it's a sustainable trend. Businesses increasingly want to perform this type of transaction online."
He compares it to airline travel. Where 20 years ago, you might have called a travel agent to book a vacation, today you go to Expedia, Kayak or Priceline.
The company recently added machine learning to the underwriting process. A human underwriting team corrects output of the credit scoring software. The software "learns" from the corrections and gets better at understanding risk.
It also recently announced a 24-month term loan that starts at a 20% annualized interest rate. Up until now, the company has made only short-term loans of three to eighteen months.
This brings it into closer competition with banks. OnDeck started out serving an underserved population, small businesses that couldn't get traditional bank loans. As it grew, it began attracting small business owners who were bankable, such as doctors and dentists, but chose OnDeck for speed and convenience.
"It's the classic disruption story," Breslow says.
Next for this fast-growing company is the rollout of additional loan products, such as purchase order factoring and equipment leasing.
OnDeck also plans to continue working with banks. The biggest lenders using its platform are KeyCorp (KEY), Deutsche Bank, Goldman Sachs (GS), and Square 1. It has signed a few top-50 banks for a service in which it uses its algorithms to preapprove customers for loans.