Lending Club: How do we make money? How are we different from a bank?
Lending Club is really very different from a bank. Financial comparisons between Lending Club’s operating model and bank’s models are tough. Comparing us to a bank as a whole is meaningless– banks have such a diversified mix of business that there is very little use in overall comparables – it would be like comparing us to a car company. This is interesting, but not useful. Instead of an entire bank, we find it useful to use a line of business within a bank as the basis for comparison. A line of business is something like a credit card division or a consumer lending division. They typically have one or more related products.
If you can see them, financial results from banks’ line of business areas often look better than reality because SG&A (Selling, General & Administrative) costs are not explicitly allocated to them on their internal income statements – the SG&A is of course generally applied to the bank wide results for financial accounting. These SG&A costs include the cost of the branch leases, the salaries of the bankers and tellers and management, and other expenses incurred in the operation of the bank. When a proportionate amount of SG&A is added back into the income statements for the lines of business, then the comparisons become much more meaningful.
Financial analysts use a bevy of ratios and metrics to measure banks’ financial performance. Here is how banks are supposed to make money:
1. Return On Assets – a measure of how well banks use the assets on their balance sheets.
2. Lending Club has no performing asset base, so comparing us to banks is unfair – we have nearly infinite ROA
1. Return On Equity – a measure of how well banks use the equity on their balance sheets.
2. ROE is very positively skewed for Lending Club given the current valuation of the shares (ours measures out to be well over 100%)
1. In credit businesses, Yield is used to measure the return on the outstanding debt portfolio (whether that is loans, credit cards, or whatever).
2. Either: (1) our Yield is 0% because we do not charge interest, or (2) If we assume all of our revenue is interest income (ask the accountants), then the yield is slightly lower than banks – we charge a LOT less than they do
1. In credit businesses, Losses measure the % or $ of the lending portfolio that has gone bad and cannot be collected
2. Lending Club has no financial exposure to losses – we use industry standard vendors to assist our lenders in pursuing any loans that go into collections.
Cost of Funds:
1. In credit businesses, this is the cost of capital for the lender.
2. Lending Club has no cost of funds because we are not lending our money.
1. Spread = (Yield – Losses – cost of funds)
2. Lending club’s spread is either 0% (0 – 0 – 0) = 0, or it is high because we have no losses and no cost of capital
If those measures do not apply to Lending Club, then how do we make money?
• We charge an origination fee to defray the costs of processing loans
• We charge a servicing fee to defray the costs of servicing loans
That’s it. It is that simple.
Patrick of Lending Club