LBO & PRIVATE EQUITY - CASE 4

BING LI
FRANCESCO LUPIS
GEORGIOS MOROS

Investing in Lending Club: a TopDown Approach

Foundation Capital

Venture capitalfirm located inSilicon Valley, founded in 1995, with more than $2 billion
AUM

10.3% ownership in Lending Club, the leading Peer-to-Peer lending platform

April 17th 2013: Lending Club investment opportunity

Could Lending Clubs growth continue and justify the $1.55bn valuation?

Increase Foundations stake by purchasing preferred shares of an existing investor

Yes, it is an attractive investment opportunity and we will increase the ownership

Top-down analysis: US consumer credit market, marketplace lending market &

P2P, Lending Club

Agenda

Credit market analysis

Unsecured consumer credit market

SME credit market

The Opportunity of the Online Lending Market

The P2P online lending market

Lending Club Analysis

Key risks

Our decision

What happened next

Credit Market Analysis

Unsecured Consumer Credit Market

Unsecured Consumer Credit Market 2007-2015 (EOP, SA, Bil.$)

Market trend
1.4% quarterly growth rate

Revolving Consumer Credit Outstanding

$1100B

$
846
B

Online Lending Platform main participants

new launched loans($, M)
Lending Club

Prosper

Others
3172

1828
718
153
2012

357
2013e

Market behavioral analysis

Households get default are typically in poor

financial shape

40% householders carrying credit debt to the

following month

61% loans on LC were used to pay out the

Credit card and refinancing

Market participants

Banks and Credit Union

Online Lending platform (Small but grow very

fast)

619.48
2014e

Sources: federal reserve Economic Research & Data and Lending Club, Prosper Data.
http://www.federalreserve.gov/releases/g19/current/#fn8b

Small Business Lending Market

Amount outstanding on Small Business Loans($, B)

350
300
250
200
150
100
50
0

Small Business Market Size & Growth

2012: $ 240B

Expected at a 8.5% growth rate 2015(e): $ 280B

Market participants
Banks/ Financial companies
Online lending platform (Main competitors)

Less than $100K

$100K - $250K

OnDeck - Online Balance Sheet

Biz2Credit - Marketplaces

Small Business Loan market share (OnDeck & LC) ($,M)

OnDeck

Lending Club

850

230

2008

45

36

2010

2012

Small Business Lending Market Analysis:

Small Business lending often with high risk

SBO financing highly rely on bank loans (85%)

120
2014e

Sources: https://www.sba.gov/sites/default/files/2013-Small-Business-Lending-Study.pdf
http://www.cnet.com/news/with-rising-revenues-lending-club-ceo-plans-expansion-q-a/

US Consumer Credit: a huge addressable market

After 3 years

Unsecured
Consumer
Unsecured
Consumer
Lending
Lending
Credit
$846B
Credit
$846B
Club
SBL
$138B
SBLClub
$138B

2012

Unsecured Consumer Credit

$1100B
SBL $280B
Lending Club

2015e

The Opportunity of the Online

Lending Market

Online SME Lending: an Opportunity

Since the financial crisis small business lending

has declined in absolute terms..

and in relative terms as a portion of total

loans

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,

Online SME Lending: an Opportunity

- Because banks are using capital to recapitalise themselves and are not
interested in competing for SME credit.

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,

Online SME Lending: an Opportunity

- but also because SMEs loans are among the riskiest since SMEs
- hard hit by the recession and report weak sales
- weakened by less valuable real estate collateral hit by the financial crisis

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,

Online SME Lending: an Opportunity

- Marketplace lending is the solution
- Flexibility to lend to SMEs
- Have better credit-scoring systems
thanks to BIG DATA and COMPLEX
ALGORITHMS
- SMEs want small loans that online
lenders can cater
- 51% of readily targetable SME loans

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,

Online SME Lending: an Opportunity

- And SMEs seem to feel confident with online
loan option!
- But, there is no free
lunch
- The loans are riskier
- Even though risk is
passed on to investors
the lack of possibility to
secure loans might scare
away some investors

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,

The P2P online lending market

Alternative Lending Market

ALTERNATIVE LENDING MARKET
Online Balance Sheet

Marketplaces

P2P Platforms

Model

Use own balance sheet to

issue loans using new creditscoring algorithms

Connect borrowers with a

range of traditional and
alternative lenders

Connect borrowers with

capital by offering investors
an investment platform

Loans to date

$1.5bn 4Q2013 est.

N/A

$4.7bn 4Q2013 est.

Main players

Source: Mills, Karen and McCarthy, Brayden, The State of Small Business Lending (July 22,
2014), HBS

P2P Lending Market: 5 Forces

Threat of entrants
HIGH

An easy to duplicate
website on the internet
More effective algorithms
may easily attract finance
Lenders trust is however
necessary

Lenders bargaining
power MODERATE

Small lenders cant

negotiate returns
Large investors may have
some power to negotiate
returns

Despite an attractive
opportunity to fill a gap in
the market by exploiting
SMEs diminishing access to
credit and Banks falling
customer loyalty

Competitive rivalry
within an industry HIGH

Low product
differentiation among
competitors
Similar sized players
triggers fierce price
competition

Threat of substitutes HIGH

Lenders: other asset

classes to invest in
Borrowers: other financial
institutions to demand
credit from

Borrowers bargaining
power - LOW

Borrowers dont have any

power to negotiate
interest rates

the P2P Lending

market is very
competitive and ensuring
that growth is at least
aligned with markets
growth may be a challenge

P2P Lending Market: SWOT

Analysis
Strengths

Lower operating costs than banks

More accurate credit scoring
Sticky growth engine: borrowers and lenders
locked-in for loan period
Availability of a 5+ years track record
for lenders/investors

Weaknesses

Lenders suffer from information asymmetry

Only unsecured loans originated
Unavailability of bank deposits excludes
passive savers
Only lending to private individuals
Illiquid secondary notes market

SWOT

Opportunitie
s

Banks consumer loyalty dropping

Banks reluctance to lend
Large addressable market: lending to SMEs
Attracting professional asset managers
Loan co-branding: offering low-rates loans
through institutional lenders
Acquisition by banks

Analysis

Threats

Uncertain regulatory landscape: too much

or too little regulation is harmful
Unfavorable tax treatment vs other asset
classes
P2P lending is banned in 7 states in US
Competition: banks, direct banks, other
alternative lenders

P2P lending market offers investors an attractive investment opportunity with

Regulatory Challenges of P2P Lending

Reclassifying P2P lending platforms as lenders from loan marketers

Will subject players to heavy regulation and loss of flexibility

An American jurisdiction can always opt out the interest rate exportation regime
(under Section 525 of DIDA)

Then the interest rate of FDIC-insured institutions will be subject to a cap

Of the 44 jurisdictions that approved P2P lending, only seven states have no
interest rate limitations on consumer loans

If a P2P lender is required to register as broker-dealer, operating costs would

significantly increase and/or operations could be impaired

Investors can invest and lend capital in P2P platforms only in 26 states

*See appendix for complete regulatory analysis & sources

Lending Club Analysis

Image from Lending Club website

Our goal is to transform the

banking industry to make it
more cost efficient,
transparent and consumer
friendly
General Corporate Overview Lending Club 2013 10-K

Leadership

Founder & CEO Renaud Laplanche

Proven entrepreneurial record (Founder & CEO of Triple Hop

Technologies 1999-2005, acquired by Oracle)

Management

Accomplished executives with >20 years experience

Headed diverse functions at corporate giants (JP Morgan Chase, Visa

Inc etc)

Honoured by prestigious industry awards

BoD

Highly acclaimed members (ex John Mack, Lawrence Summers)

Strong exposure in financial services and technology

Business Model in a Snapshot

As a P2P lending platform, LC brings together good-quality

borrowers and lenders without the involvement of traditional
retail banking

Product offering

Personal loans (Notes)

Small Business loans

Private Placement in Investment Funds through LC Advisors LLC

SMAs to accredited investors

Value Proposition

To borrowers:

By leveraging technology to acquire, facilitate and service Loans

Lending Club is able to

Realize cost savings

Pass the savings to borrowers

To investors:

Lending Clubs customizable investment options and lower cost

structure

Offer attractive risk-adjusted returns that are not correlated with

traditional asset classes

Customer Satisfaction & Loyalty

What is NPS?

Lending Club vs. Industry

Source: LC Transforming the Banking System, Bain & Company: 2012 NPS Survey

Growth record

Lending Club boasts robust growth Average 28.49% QoQ

Figures in $000s
1,600,000
1,400,000
1,200,000
1,000,000
800,000

707,245

600,000
373,434

400,000
202,934
200,000

100,091

0
1,531,124

Source: LC website, 10-K & 10-Q (2009-

Cumulative Originations

Quartrely Origination

P2P Model Feedback Loop

Source: Credit Suisse US Equity Research,

Revenue Generation

Lending Club derives ca 90% of Total Revenue from Origination

fees

Paid upfront by borrowers (1.11% - 5% of Loan Principal)

Depend on Loan $ size ($1,000 $35,000)

Over the period 2009 2013 Q1

Average loan origination rose 58.45% to $15,541.49

Average origination fee rose to 4.40%

Non-interest Revenue rose from ~ $1.4M to $98M

Rising Loan
Volume

Origination,
Servicing &
Management
fee

Source: LC website and 10-K reports (2013, 2012)

Revenue

Cost controlling

P2P marketplace lending is

inherently cost-effective and
driven by operating leverage

Absence of physical network

(Branches cost 30-35% of Banks
OpEx)

Automated origination process

Minimal compliance & collection

overhead, no FDIC-fees

Source: Foundation Capital: How Marketplace Lending Will Remake Banking as we Know it, McKinsey

Financials

Evolution of CF measures (in $000s)

3,500
2,977

3,000
2,500
2,000
1,500
1,000

CFO

500

FCF

02/12

CapEx

05/12

08/12

-500
-1,000
-1,500
-2,000
Source: LC Annual & Quarterly Statements

12/12

03/13

Valuation
Lending Club Data
2012 S% (QoQ)

30.00%

2013 Q1Sales

$16,251.00

Next 4Qs E(Sales)

$130,708.42

Comparables (Value in
$000s)

Online marketplaces
connecting supply with
demand
Multiple:

19 April 2013
Facebook
Zillow
LinkedIn
ServiceNow
Workday
Splunk
Group average
Implied Value

Tied to growth

Valuation range

Comparables:

1yr Forward PS
8.195
9.212
7.412
8.650
14.920
11.710
10.02
$1,309,240.87
$1.310Bn
$1.5Bn

Source: LC Reports, Ycharts.com

*Range Based on sensitivity analysis involving 1yr-Forward PS from 10 to 12 & E(QoQ) growth between 30%
and 32%

Key Risks

Inability to assess risk of loans of new segments (SME)

Deterioration of the return on marketing expenditure as

borrowers base expands

Disruption of technological infrastructure

Hacking attacks & IT security

Regulation

Our Decision

What happened next

Foundation Capital increases ownership to 11.5% on 1st May

2013

Foundation Capital purchased 164,319 Series A and 2,067,598 Series

B Convertible Preferred Shares

Round F raised $90M on April 2014 valuation $3.5Bn

Lending Club went public on 11th December 2014

Offer price: $15.00

Closing price: $23.43

Equity raised: $870M (58M Shares)

IPO Valuation at close: $8.9Bn

Thank you for your attention!

Appendix

Sensitivity analysis

Appendix

Regulatory threats & sources

Regulatory threats for Lending Club

Litigation that has the potential to recharacterize a loan marketer (like Lending Club) as the lender for the purposes
of state consumer protection law restrictions. Assertion that payday loan marketers use out-of-state lenders in order
to evade the consumer protection laws imposed by states where they do business (LC 2013 10-K page 45)
FDIC-insured institutions (like WebBank) are allowed to export the interest rate permitted under the laws of the state
where the bank is located, unless the state has opted out of the exportation regime So if a state opts out of the
exportation regime under Section 525 of DIDA, then the amount of fees/interest charged is limited (2013 10-K pages
9 & 45)
Of the 44 states whose residents may obtain loans, only seven states (Arizona, Nevada, New Hampshire, New
Mexico, South Carolina, South Dakota and Utah) have no interest rate limitations on consumer loans while all other
jurisdictions have a max rate less than the current max rate offered by WebBank through LC platform. So, if a
borrower were to successfully bring a claim against LC for a state usury law violation, LC may be subject to fines and
penalties and adversely affect return on underlying Notes and Certificates (2013 10-K page 45)
If LC was required to register as broker-dealer, LC costs would significantly increase or operations could be impaired
(2013 10-K page 46)
As internet commerce develops, federal and state governments may draft new legislation to regulate internet
commerce, which may impact LC business (2013 10-K page 45)

Bibliography

Sensitivity analysis