TwentyFour Asset Management
When Emmanuel Macron’s government launched their snappily named ‘La French Tech’ scheme, they probably weren’t thinking of the stimulating effect it might have on supply in the European asset-backed securities (ABS) market.
The goal of the scheme is ultimately to support the growth of French start-ups and create the world’s next tech champions, and the government has implemented a number of measures in support, such as labour reforms and tax cuts, simplifying the administration burden and introducing a fast track visa scheme for non-EU start-up founders, employees and investors. French institutional investors, banks and insurance companies have committed to invest €5bn of capital in tech start-ups over the next three years, while the government has also published the ‘Next 40’, a shortlist of 40 French corporates that are either unicorns or meet specific performance criteria, such as having raised more than €100m in capital over the past three years. Essentially, whatever it takes to attract talent and boost growth.
This brings us to Younited Credit, a consumer lending platform owned by a number of French institutional shareholders (including Bpifrance and Crédit Mutuel Arkéa), French private equity (Eurazeo), founders and employees, and named as one of the ‘Next 40’. Younited, like many fintech start-ups, is aimed at transforming the banking system through disintermediation, with the help of an internally developed risk scoring algorithm. Younited offers fully amortising fixed rate unsecured consumer loans to European households, though France is its main market, typically to finance debt consolidation, home improvements, living expenses or vehicle purchases. Younited acts as an originator for its own book, and for several institutional investors with specific credit guidelines.
Younited’s funding strategy is as innovative as its business model. It consists of retail deposits collected through another fintech platform, as well as both private and public securitisations. In May this year, the company successfully issued its first ABS backed by French consumer loans, with the help of Deutsche Bank.
In recent years we have seen an increasing number of European and US fintech lenders coming to the ABS market to finance their loan production. While we always welcome new issuers, their lack of track record makes the on-site due diligence an essential part of our investment process, which also gives us the opportunity to engage on the social impact of these lenders. We have typically been relatively cautious with this new type of lending, and value the human element of underwriting.
Following our due diligence in Paris in May, we were impressed by Younited Credit’s sophisticated in-house tech platform, but had some concerns over the speed of loan origination (less than 24 hours) and the experience of the underwriters. We also questioned the limited historical track record, as loan losses exceeded those of Younited’s peers, but we did believe quality should improve over time as the algorithms were given more data to work with. We considered the business model to have been built to maximise equity returns for the owners of Younited, by targeting large origination volumes (as Younited gets paid a fee for this) over the quality of the underwriting. This raised additional governance concerns regarding the fair treatment of bondholders, but the risks of the transaction were mitigated by the very debt-friendly structure.
At TwentyFour, we have developed a bespoke and detailed monitoring process to reflect the specific risks of these type of originators as we want to make sure, new fintech start-ups lend responsibly to borrowers that need and can afford their loans.
The first few months of our monitoring showed the performance of the underlying loans to be disappointing, with consumer defaults running higher than expected. We did not expect this disappointing performance given a positive economic backdrop in France. On this occasion our close monitoring process has enabled us to avoid the future price volatility and declines in price which we would expect to occur if loan defaults were to continue to increase, though ultimately we don’t expect bondholders in the deal to take a loss.
The underperformance versus peers clearly demonstrates to us that Younited’s technology driven lending process needs a lot of fine-tuning, and in general that fintech lenders have a long way to go before they can compete with the banks. In the meantime, we will continue to monitor new issuers’ development with interest.