Three ingredients that constitute a modern fintech success. Insights from an early investor in SoFi
With a social mission to empowering its members to accomplish their financial goals and gain financial successes as a result, SoFi has ascended from a little-known Stanford-born startup to a $4 Billion unicorn in its latest round of financing.
How does SoFi, a student loan marketplace, accomplish such feat especially when negative news such as the departure of LendingClub’s founding CEO, the subsequent halting of investors purchases for the embattled company’s loan, and Prosper’s 28% staff reduction due to slowing loan growth dominated the headlines?
SoFi has gone through 5 rounds of funding. With its latest round of funding of $500M, the company commands an impressive valuation of $4.5 Billion. Since its founding, SoFi has successfully originated $13B in loans that span student loans, mortgages and personal loans. As an early investor of the startup, I believe SoFi’s success can be attributed to three factors : customer focus, operational excellence, technologies.
Customer Focus
SoFi launches student loan as its initial offering and expands to other products such as mortgages, insurance and wealth management over time. With goals becoming the ultimate one-stop banking provider for its customers, SoFi first staked in a low-risk customer segment — high performing students from elite universities who have a long-term career trajectory. By earning the HENRY’s ( High Earners Not Rich Yet ) trust at their early life stages and supporting them from graduation to retirement, SoFi has captured a significant Life-Time-Value ( LTV ), a holy grail that is envied by all financial/banking institutions.
Operational Excellence
Scaling to $13B loan origination with only 0.048% default rate ( compared to the national loan default rate of 0.69%), SoFi achieves this operational excellence by having a rigorous underwriting process as well as a continuously growing demand for its loan via a streamlined securitization operation.
No more FICO scoring
SoFi has abandoned the FICO credit scoring in favor of data such as free cash flow and income quality. Since the traditional FICO scoring bases its result on past credit history, it would not be an accurate proxy for the borrower’s future financial well-being. And for SoFi’s targeted customers, millennials and young professionals who have limited credit history, the FICO scoring will become particularly ineffective. Alternatively, SoFi uses data such as employment history, academic disciplines, track record of meeting financial obligations, and the risk of a cash flow disruption during an economic cycle to determine if an applicant is qualified for its loan.
Scaling with securitization
Unlike traditional banks that rely upon deposits as the funding source of its loans, SoFi opted to raise capital from individuals and institutional investors. To scale to the $13B loan origination, SoFi has also leveraged securitization, a financial engineering endeavor that constructs a Collateralized Debt Obligations ( CDO ) from the cash-flows generated by a pool of underlying securities. While securitization in the form of Mortgage-Backed Securities lends itself a bad reputation in leading to the subprime mortgages crisis, SoFi has successfully orchestrated 9 securitizations from 2011 to 2017. And it has done so with complete transparency and integrity. At SoFi, the new securities are divided into various tranches with a broad range of risk profiles. Together with the high quality loans originated, such range of profiles have generated a lot of demand from new investors. As a result of the capital investment from the securitization, the original loan assets would be removed from the balance sheet, and more cash is now available for new loans.
Technologies differentiation
SoFi has recently acquired Zenbanx, a mobile banking solution that allows its customers to save, send and spend in multiple currencies. Founded by the former chief executive of the online bank ING Direct, which was acquired by Capital One in 2011, Zenbanx would bring deep fintech experiences to SoFi. With Zenbanx under its wing, SoFi is now one step closer towards becoming a one-stop banking solution for the customers.
Conclusion
Amidst the recent turmoils in the online lending marketplaces, SoFi still stands strong. Its successes stem from its strong commitment towards the members. SoFi’s expertise in loan underwriting as well as its streamlined operation for the capital market has also helped the startup to differentiate itself in a crowded market. Finally, with its strategic technology acquisitions, SoFi will continue to be a force and would ultimately disrupt the entire banking industry.
