Businesses that exist solely online typically reap the rewards of lower overhead costs. Not paying for a building or the typical employees means that they can offer lower prices and win over customers. Essentially, this is why Amazon.com has won versus big box stores. But could this model extend beyond the retail goods example into something a bit more complicated than buying a book or toaster, like loaning money?
Lending Club hopes so. The online marketplace for personal and business loans connects those with capital to those who need it. The lenders earn a higher interest rate than their typical savings account, between 5% and 9% on average, and the borrowers pay a lower interest rate than through a traditional institution, reportedly 31% less than their previous interest rate on average.
Despite the risk of loaning to strangers, a task that we've traditionally employed others to become experts on, Lending Club originated $1.8 billion in loans in the first half of this year -- over double what it originated in the first half of last year. With such growth, the company has filed to go public.
Are you missing out on the Lending Club's opportunity for lenders? Or should you wait to buy shares of the company itself?
Giving too graciously?
As an investor in Lending Club notes, you can peruse requests along with the lender's credit score, occupation, loan purpose, and short credit history. You can then fund a loan in $25 increments. While you could build up a portfolio of several loans across individuals to diversify your risk, there is the possibility that a borrower will default on payments. If investing in Lending Club has an undeniable positive, it's that it will teach you the direct relationship between risk and reward.
Of course, there are risks -- including that a borrower will fail to pay back the loan. Lending Club provides this chart of charge-offs in its registration statement:
If you believe you have a grasp on the risks and who, based on credit history, might repay a loan, Lending Club might be a place to earn a higher return at a higher risk. However, it's very possible to lose your entire investment -- even if it's just $25. And while "it's business" when that happens, there is also the thought that a real person is in such financial straits that they can't even pay back the lower interest loan.
Knowing that risk, would investing in Lending Club's stock be a better choice for you?
Investing in quality, utility, innovation, and time
While you may not be versed in judging a loan applicant, there are many reasons to consider buying Lending Club's shares once they go public.
Overall, Lending Club is in a fantastic position. As a marketplace for loans, Lending Club takes little risk but offers a necessary service that's been around for millennia. And as old as the loan business is, Lending Club appears to own the financial niche of the now popular crowdfunding practice, popularized by sites like Kickstarter. To me, Lending Club truly looks like it could be the next Amazon.com of lending.
However, similar to Amazon.com, Lending Club struggles to post a profit. Since 2009, the company only made an annual profit once, in 2013, of $7.3 million. And, for the first half of 2014, the company already logged a $16.5 million loss due to more than doubling its sales and marketing expenses. Of course, such marketing cost growth is common for an early stage company seeking growth.
Like with other IPOs, the first several months will likely be pretty volatile. This is especially true around lock-up expiration dates, so there is little reason to rush into the stock. Remember that if Lending Club continues to present a solid investment, there will be plenty of opportunities to pick up shares.
Buying your expectations
If researching different loan applicants doesn't excite you, you will likely grow tired of Lending Club. But if you know the risks, it does open up a new form of investing which many, even the banks it was meant to circumvent, are using to generate a bit riskier returns.
If interested in its stock, what really determines whether Lending Club will be a good investment is the price that you end up paying for the shares, which is a number we have yet to learn. However, understand the typical IPO risks and Lending Club's lack of profit before buying into the company.
Dan Newman owns shares of Apple. The Motley Fool recommends Amazon.com and Apple. The Motley Fool owns shares of Amazon.com and Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.