The current growth-at-all costs tech norm is about to be tested. If the LendInvest IPO goes well, and markets don’t warm to Funding Circle, it might mark a shift towards profits over growth.
Funding Circle and LendInvest are both UK headquartered, ‘fintech’ lenders, borne in the post-financial-crisis peer-to-peer lending craze.
They have grown quickly and now dominate their sub-sectors. Funding Circle provides loans to small businesses, LendInvest to property investors and developers.
Funding Circle IPO’d in London at the beginning of October 2018. LendInvest has said it’s planning to follow suit.
But their approach to the growth versus profitability trade-off couldn’t be more different. Funding Circle follows the archetypal big tech strategy: grow-grow-grow, worry about profits later. LendInvest has been mostly profitable since inception, and still managed to grow at a good clip, albeit not nearly as fast as Funding Circle.
Funding Circle winning the growth race … at the price of profitability
The trade-off is a prickly subject. In a 2017 interview, LendInvest CEO Christian Faes had a not-so-subtle dig: “Businesses that can show they have a business model that is sustainable, and can be profitable, are likely to be the winners … if you’re lending a billion dollars a year and you can’t make money, then you have to ask that question: how many billions do you have to lend before you are a profitable business?”
Funding Circle has stuck to the line that growth takes priority, even at the expense of profits. In January 2017, at the time of a $100m capital raise, UK MD James Meekings told Business Insider: “We are focused on building out technology and helping more customers, helping more small businesses, and helping create more jobs rather than delivering more profit at the moment.” And the September 2018 IPO prospectus states: “The Company intends to use the net proceeds from the issue of the new shares to enhance its balance sheet position … to support the group in pursuing growth over profitability in the medium term.”
So far, public market reaction to the Funding Circle IPO has been lukewarm at best, although to be fair, October 2018 has been an ugly month for many publicly quoted companies. The final IPO price (£4.40 per share) ended up near the bottom of the original indicated price range of £4.20 – £5.30. And at the time of writing, shares were trading around 17% below the IPO price, having recovered from a 25% drop in the first week of trading.
Funding Circle’s founders are betting that markets come around to the ‘growth-side’. Prior to the IPO, they had already raised around £280m of equity capital and diluted their combined stake to 17%.
It’s a radically different approach to LendInvest’s Faes. In his CEO review in the 2018 annual report, he says: “We believe that it is possible to be a high-growth fintech business without relying heavily on external capital to grow.” Including a September 2018 ‘pre-IPO’ funding round, LendInvest has only raised around £70m of equity capital. At the time, Faes was quoted by Altfi: “The funding round was done at a sensible valuation, which doesn’t set us up for failure, and my co-founder and I still own approximately 70% of the company.”
If public markets reward the profit-focused approach, and at the same time don’t get more excited about the Funding Circle growth story, Faes & Co, with their far higher equity stakes, might just show that for tech entrepreneurs, market conditions have changed to such an extent that growth-at-all-costs is not so smart any more.
The LendInvest IPO is one to watch, and might just be pivotal. It could mark a turning point for how tech entrepreneurs and VCs approach their pre-IPO scale-up strategies. We’ll see.