Are P2P capital calls a bad sign?

The peer-to-peer sector is back in the spotlight after revelations that Wellesley’s auditors warned about the platform’s finances in its latest accounts.

Accountants BDO said the platform was “dependent on raising further capital to continue to operate for 12 months following the date of approval of these financial statements.”

These accounts covered 18 months to December 2015 and since then Wellesley says it has covered this by raising £2.5m in September 2016 and is currently looking to crowdfund £1.5m through Seedrs from existing investors.

Read more: Wellesley & Co narrowly avoids being struck off 

But should Wellesley’s accounts and attempts to boost its finances be seen as a poor reflection of the sector?

Early days
For an industry that is barely even five years old, the focus on profitability seems early but the hawks are already out for the sector and the Daily Mail’s coverage highlighted a lack of transparency in the industry.

This is a strange suggestion given most P2P platforms display their loan books, arrears and default rates, a marked difference to the banking sector.

“The majority of P2P lending platforms are still technically startups in the rapid-growth phase. During this time, as with all growth companies, they need either equity investment (i.e. investors buy shares in them) or they need to borrow money,” Neil Faulkner, founder of P2P research firm 4th Way, tells Peer-to-Peer Finance News.

Read more: Wellesley stops offering longer-term P2P loans to investors

“It is with good reason that most innovative startups, and their investors, go the equity route,” he says. “For investors, the risks and rewards are better aligned and for the business, there is considerably less pressure to get a positive return swiftly or to have stable returns early on.

“If a platform borrows to lend, the risk is even higher. It could mean it requires a constant supply of quality borrowers with great security in order to ensure that. Any downturns or slack in activity piles on the pressure.

“If the platform caves to the pressure it could lead to worse underwriting standards or a fall in ethical standards. If it doesn’t cave to the pressure, that still leaves the risk that it will not generate enough revenue to survive. All platforms, of course, have that risk, but leverage obviously adds to the risks.”

Regulatory spotlight
There is increasing regulatory scrutiny on the sector as platforms await full Financial Conduct Authority approval and the City watchdog is still to release its full findings and recommendations of its P2P review.

“2017 is set to be a turning point for the P2P sector as platforms like Landbay pass through the full FCA regulation process and prepare to launch their Innovative Finance ISAs,” says Julian Cork, chief operating officer at Landbay.

“Increased consumer awareness and take-up come with an increased level of responsibility for platforms and for the regulator.”

Cork highlights being a member of trade body the Peer-to-Peer Finance Association, which requires members show their full loan book and rate at which funds are being lent.

But there are plenty of non-members that do this and one big issue the industry faces in talking with one voice – and investors tackle in understanding where their money is going – is the variety of business models.

Even in the asset-backed space, where the likes of Wellesley operate, there are differences in how money is invested and pooled.

For example, Wellesley combines all lender funds and then lends separately to borrowers and says it will covers first losses with the platform’s own money.

Faulkner says this isn’t necessarily a bad thing, “Wellesley is not the only platform to cover first loss, for example, MoneyThing and Orchard Lending Club sometimes cover first loss or even the whole loss,” he says.

“I don’t believe taking first loss is a major risk and overall it will lower risks for investors. Other features can increase risks more, such as guaranteeing lenders will earn interest even when money is not being lent. This can lead to more pressure to find borrowers and close deals, which can impact underwriting standards.”

In comparison, P2P property lender Relendex lets investors choose loans they put money into.

“We only lend on UK property and investors see both the return they can get and what the borrower is paying,” says Relendex founder Michael Lynn.

“We are an industry still in our infancy. The trick, we think, is to stick to our knitting.”

Read more: The key P2P events of 2016