Mar 202017
 

I’ve been using a peer to peer lending service called Lending Loop for several months now. It allows businesses to access financing from lenders all across Canada (except in Quebec due to excess regulatory hurdles.) There’s about 6,800 investors using the platform so far. I thought I’d share my thoughts about Lending Loop, its advantages, risks, and answer some common¬†questions readers may have about it. ūüôā


TL;DR

What works

  • Website design and easy to¬†use.
  • Responsive support.
  • Using technology to solve business¬†problems.
  • Reasonable projected returns (5% to 10% pre-tax) on investment given the risk involved.
  • Alternative asset class that is not highly correlated with the stock market.
  • Transparency and thorough reporting.

What can be improved

  • It’s currently not eligible for RRSP/TFSA ūüôĀ This is a problem due to the asymmetric tax disadvantage of debt¬†instruments.
  • Font is hard to read due to small size and low contrast with background, especially the Q&A sections in the Marketplace.
  • Limited financial history for borrowers. It would be nice to see 4 or 5 year history for more established businesses.
  • Lack of forum for discussion. It could¬†be beneficial for lenders to have an online space to correspond openly with each other about loans in the marketplace. The Lending Loop subreddit has restrictions about what information can be¬†communicated.
  • List of “Scheduled Payments” too short on the Notes Payment page.

Full review¬†below…


 

What is Lending Loop?

There are many small and medium size businesses in Canada that have trouble raising money to expand their operations. Applying for debt can be a challenge because traditional banks are hesitant about lending money to entities with erratic income streams such as restaurants, contracting, etc. Large financial institutions generally can’t allocate the appropriate resources to underwrite small deals with the sophistication they require and struggle to price them according to the actual risk. As a result a lot of high quality deals simply fall through the cracks.

This is where Lending Loop (LL) comes in. It’s a crowdsourcing platform that raises money for growing Canadian companies. Based in Toronto, Lending Loop is¬†Canada’s first (and currently only) fully regulated peer-to-peer lending platform.¬†It operates¬†an online marketplace that connects small and medium-sized businesses that are looking for debt financing with Canadian investors. It¬†allows all investors, regardless of wealth or income, to access a high-yield fixed income asset class.

How Does Lending Loop Work?

Businesses can apply for a term loan product with flexible terms. The amount could be as small as $5,000 and as large as $500,000. Most loan durations are from 3¬†months to 3 years, but some can be as long as 5 years. Once approved, the loan goes into Lending Loop’s Marketplace where investors have 30 days to fund the project.¬†If the loan becomes fully financed¬†before the funding period expires, the loan will go through a finalization stage for a few days before it starts going into scheduled payments.

Investing with Lending Loop is safe, in the sense that it is properly regulated. Lending Loop is registered as an Exempt Market Dealer across the country. But of course once investors start making loans on the platform then all bets are off. So it’s up to individual investors to decide which companies they want to lend to.

First Impressions

Registering on the Lending Loop site as an investor is a pretty simple process. I filled in some online forms and provided some personal information such as my address and Social Insurance Number (for CRA purposes.) Then I¬†answered an investor questionnaire to assess my personal preferences and risk tolerance. I obviously got the “very aggressive” result. ūüėÄ The last thing I did was connect my TD bank account with Lending Loop using the information from my cheque book so I can transfer funds back and forth. The entire process takes about 1 to 2 weeks.

The overall site design is pretty clean and easy to navigate. The main dashboard page gives a broad overview of my account situation.

The Marketplace is where all the action is. ūüôā This is where investors can shop for the best loans. There are usually around 5 to 10 different loans looking for funding at any given time. The companies are listed in order of when they first appear on the marketplace. There’s a brief description about each¬†business,¬†and the nature of their loan.

Clicking on any individual loan will take you to the detailed page where you can see the company’s financial details, what the owner intends to use the loan¬†for, and other Lending Loop investors who have already committed to investing in the loan. There’s even a Q&A section within this area where lenders can ask the borrower questions.

lending loop marketplace details

 

About the Loans 

The funding process begins with a loan application. Borrowers are required to be incorporated or a partnership for at least 1 year and have generated a minimum of $100,000 in annual revenue.¬†Once this minimum criteria is met, Lending Loop’s credit assessment team performs a formal review of the loan application.

Lending Loop uses its¬†proprietary evaluation and scoring system to assess a¬†company’s creditworthiness. Factors in the credit evaluation may include:

  • A business credit score obtained from a credit rating agency, which may take into account payment and delinquency history, delinquency patterns, years in business, years borrowing, the business’ size, and industry segmentation, among others;
  • Various financial metrics such as the business’ debt service coverage ratio, debt-to-tangible net worth, and working capital ratio, among others;
  • The amount of the loan and the term-length requested; and
  • Additional pertinent information

Once a loan is approved it is¬†added to the Marketplace and assigned a Lending Loop Credit Rating. This rating, consisting of a rating from A+ through E, is intended to quantify the level of risk associated with a particular listing and corresponds to an estimated loss rate for the loan. The higher the rating the lower the default risk. ūüôā Here is a look at the Lending Loop interest rates for each risk band.

lending loop risk band interest rate ranges

These interest rates are what the borrowers pay. Lenders are charged a servicing fee amounting to an annualized rate of 1.5% of the outstanding principal amount owed on a loan every time a monthly payment is made. For example, if a loan rated B has a posted interest rate of 11.5%, then investors can expect to actually receive 10% yield on their investment if all goes well.

All loans are amortized using the declining balance method over the term of the loan. So similar to a mortgage, the loan is paid back in monthly installments with principal and interest until the loan balance is gradually paid off. All Lending Loop loans have fixed interest rates.

Small loans under $30,000 are usually funded very quickly, within a couple of days of being published on the marketplace. But larger deals worth $150,000 or more can take weeks to fund or sometimes fail to become fully funded so the loan doesn’t go through and committed investors get their money back.

Currently there aren’t any liquidity options as there is no secondary market, so lenders would be fully paid back only at the time of the last payment.

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Aug 252016
 

Stepping into the Venture Capital Market

The stock market has been so boring lately! According to the Wall Street Journal, the last 30 days have been the “least volatile¬†of any 30-day period in more than two decades.” But luckily stocks aren’t the only type of investments out there. ūüėÄ Remember earlier this month I wrote about how to make money in private businesses? Well, one thing lead to another and now I¬†am the proud owner of some equity in a growing business. It’s a small online company¬†based out of California. It needs funding to grow and I’m looking for investment returns, so here we are. ūüôā

Goodness gracious me. This means I’m officially an angel investor now!¬†*plays heavenly¬†music*

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In today’s post I’ll talk about my new business¬†investment, my decision making process,¬†the due diligence involved, how much money I put in, and potential risks. But unlike a publicly traded stock, I cannot¬†discuss¬†details about this company’s¬†financial situation since certain information isn’t publicly available.

Note: To keep things¬†simple, all $ figures in today’s post will refer to U.S. dollars unless otherwise stated.

Tune into the Music 

Private equity can come in the form of investing in a local bakery, buying an established franchise, or equity crowdfunding via an online broker. I went with the crowdfunding method because it’s quick and easy, haha. ūüėÄ

Once I decided to put some money into venture capital I looked around for opportunities in this space. One particular company that caught my attention was 8tracks.com, which is a bit like¬†Spotify. It’s an¬†internet radio and social networking website revolving around the concept of streaming user-curated playlists consisting of at least 8 tracks, hence the name. ūüôā¬†Users create free accounts and can either browse the site and listen to other user-created mixes, or¬†they can create their own mixes. 8tracks sees itself as Pandora’s younger, cooler sister, haha.

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Aug 082016
 

Introduction to the World of Private Equity

When there are fewer bargains to be found in the stock market, investors will seek alternative ways to make money. So what else is out there besides stocks?

One viable option may lie in¬†the enthralling world of private equity! ūüôā

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Investing in the stock market is like working in a knife factory; after a while things can get dull. But private companies can be much more exciting! For decades private equity has produced higher returns than the stock market! It does this by sacrificing liquidity. Unlike publicly traded stocks, private equity shares cannot be sold easily as there is no secondary market. Investors normally have to wait years for a return.

Private companies can also use more leverage to increase¬†their¬†profits. To illustrate, the average debt-to-equity ratio of the S&P 500 is about 33%. But a¬†leveraged buyout (LBO) deal will typically set a private company’s¬†debt-to-equity ratio at 75%, or sometimes even as high as 90%.¬†This intrigues to me on a philosophical level. As most of you already know, I also have a tendency to pile on the debt when acquiring new assets, hehe.

In the past only institutional investors and privileged asset managers had access to private equity. But not anymore. U.S. officials recently passed Title III of the JOBS Act. This essentially creates a regulatory framework for which retail investors can finally access private equity deals. This was not possible even a year ago. Wow, what a time to be alive!

In today’s post we’ll explore this¬†fascinating asset class for retail investors, and how I might be taking¬†my investments in this amazing new direction! ūüėÄ

So what is private equity?¬†Generally speaking, it’s¬†an asset class consisting of equity securities in¬†companies that are not publicly traded on a stock exchange. Small but growing companies are very capital intensive and¬†often have to spend a lot of¬†money in the beginning to market itself and boost market share. But money doesn’t grow on sprees. So businesses rely on private¬†capital¬†as a way to fund their operations. Investors gain by having part ownership, or even executive¬†influence sometimes, in these companies.

Some private equity deals are huge and often make it into the mainstream news. The CPPIB, which is the largest pension fund in Canada manages over $275 billion in net assets. It had the foresight to¬†invest $300 million¬†into a¬†private company called Skype in 2009, which gave the pension fund a minority stake. Just 2 years later, Microsoft made the largest acquisition in its corporate history and purchased Skype for $8.5 billion. The initial $300 million investment turned into nearly a billion dollars for the sovereign wealth fund. Yay! Canadians who receive¬†government pension benefits should celebrate. LEGO is another prime example. It’s more profitable than Mattel and Hasbro combined. Businesses like these always attract the attention of private equity investors¬†for obvious reasons.

But not all deals are measured in billions of dollars. One segment of private equity revolves around venture capital and smaller companies.

 

What is Venture Capital?

Venture capital describes¬†early stage financing that investors provide to startup companies or small businesses that are believed to have strong growth potential. Venture capital is an essential source of money¬†for startups because with¬†limited operating histories they often don’t have access to traditional capital markets such as stocks or bonds to raise money. For investors the upside potentially can be very high, but so is the risk. Investing in a startup company is one of the riskiest decisions one can make, which is why due diligence and a thorough understanding of the market are crucial to consistent profitability.

Last year CNN Money reported that there are 141 privately held startups worth more than $1 billion in the world. The term “unicorns” is often¬†given to these¬†impossibly rare phenomenons. Private companies are valued based on how successful it raises money. If you’ve ever seen an episode of Dragon’s Den or Shark Tank you will probably see it in action. For example, if an investor agrees to pay $5 million for a 25% equity ownership in a startup then the company is said to be worth $20 million because 5¬†√∑ 0.25 = 20.

The popular¬†ride-sharing company Uber launched its¬†mobile app in 2010, and it’s latest round of funding already values it at over $50 Billion, making it the world’s most valuable startup! To put that into perspective, both GM and Ford are also worth roughly $50 Billion each. But GM and Ford are publicly traded companies and¬†unlike Uber, they actually produce and sell real cars, lol.

Venture capitalists invest¬†about¬†$30 to¬†$60 billion a year in the U.S. Although most venture capital (VC) funds¬†aim to beat the conventional stock market most of them do not. However, top-performing VC funds have consistently outperformed the S&P 500 and Russell 2000, including across multiple vintages. This means finding competent managers is super important as the lion’s share of profits go to the top quintile¬†of VC investments. So now that we know what VC is, let’s explore some options.

 

How Equity Crowdfunding Works

Crowdfunding sites are very popular. We’ve all heard of platforms like Kickstarter or Indiegogo. Most crowdfunding sites like these offer the backers rewards, goodwill, or swag, but not¬†money. But other crowdfunding sites are created specifically¬†for raising investments¬†and act¬†as financial brokers between investors and entrepreneurs. There are two main ways to¬†crowdsource for investment capital; Equity Crowdfunding, and Debt Crowdfunding. For the purpose of this post we’ll just be looking at the former.

Equity crowdfunding is the online offering of private company securities to a group of people for investment purposes.

16-08-crowdfunding-begging-hungry-invest

The way it works is that investors would give money to a startup that they want to back. Their money is pooled together with other venture capitalist and private equity firms. In return they receive partial ownership (AKA equity) in the business. The value of this equity will go up if the company succeeds, or go down if the company fails. Once the business grows large enough it would either be acquired by a larger firm, or file for IPO and become listed on the stock market. During this exiting process ownership of the company changes hands and the initial investors get their money back, hopefully with a decent profit. ūüôā An equity crowdfunding website would facilitate all of these transactions. It would be similar to¬†Kickstarter, except¬†backers¬†receive equity in a business instead of a lame pre-order.

There are a lot of equity crowdfunding sites to choose from. You can see a full list on Wikipedia. But below¬†are some names that I’ve looked into so far and shorted listed for my own personal use.

  • AngelList¬† Only accredited investors can invest at this time. $104 million total invested sum.
  • CrowdFunder¬†For funding small and medium size companies. 12,000 investors. $100¬†million total invested sum.
  • SeedInvest¬†¬†Mostly deals with tech startups. 100,000 investors. $50 million total invested sum.
  • Wefunder¬†Crowdfunding company in San Francisco.¬†70,000¬†investors. $22 million total invested sum.

Minimum investment is usually $1K or $2K but it depends on which website and even which specific company you want to fund. The following SEC regulations apply to all equity crowdfunding platforms in the U.S.

  • If either your net worth or income are below $100k, you may legally invest up to 5% of the lesser number.
  • If both your net worth or income are above $100k, you may legally invest up to¬†10% of the lesser number.
  • No one may invest more than $100,000 per year, even for accredited investors.

Although there are lots of ways to invest in private companies not everyone should do it. As we’ll see in the following section, with high potential returns comes high risk and volatility. If you don’t like financial roller coaster rides then hold onto your stomach.

 

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