Beginning this summer, Benchmark Capital will be in the unusual position of funding two startups that are going head-to-head in the same emerging market – people borrowing money online from other people.
The Menlo Park, Calif.-based firm (which did not respond to requests for comment) has invested in two peer-to-peer (P2P) lending startups, both of which will target American Internet consumers several months from now.
The idea fueling each of the startups is that borrowers will obtain more affordable interest rates from other people than they could from credit cards and bank loans.
Meanwhile, lenders will earn more interest letting others use their cash in a P2P network than they could from putting their dough in money-market funds or savings accounts.
Benchmark’s European team backed London-based Zopa, considered the world’s first P2P borrowing exchange, which raised a Series A round in March 2004 for an undisclosed amount. Wellington Partners also participated. At the time, Zopa was targeting consumers in its backyard. The company now boasts 55,000 U.K. members.
Presumably believing the idea was transferable across the pond, Benchmark’s U.S. team got behind San Francisco-based Prosper, another P2P lending exchange.
Prosper has raised $20 million over two rounds, the second of which was announced two months ago. Prosper’s other investors include Accel Partners, Fidelity Ventures and the Omidyar Network.
Prosper went live in February, but has not yet released member numbers.
Here’s the glitch. Zopa is headed west.
The company last week announced a $15 million Series B from Benchmark, Wellington and new investor Bessemer Venture Partners “to support Zopa’s intended California launch,” planned for this summer, according to Rob Stavis, a Zopa board member and Bessemer general partner.
“Zopa’s plan was to grow globally from day one,” says Stavis, who concedes that Zopa and Prosper will directly compete against one another.
But, he adds, “Zopa is much more concerned with getting consumers to believe that this is a smart way to borrow, invest or lend – as well as with growing the number of people interested in doing this – than worrying about Prosper.”
The two startups each ask potential borrowers to submit personal information and agree to have their credit rating checked (such as by Experien, in the case of Prosper). The rating is posted online, along with the potential borrower’s debt-to-income ratio. Lenders use the private financial information to decide whether to move forward with a lending agreement.
Zopa also sets interests rates based on borrowers’ credit ratings.
Prosper tries to empower borrowers and lenders by adopting an auction-like methodology, a la eBay, in which borrowers submit photos and descriptions, along with how much interest they are willing to pay on a loan. Lenders then indicate what interest rates they find acceptable, and what borrowers they like. Then they bid on them.
The maximum amount one can borrow is $25,000 at Prosper and GBP25,000 (or nearly $44,000) at Zopa.
The companies derive revenue from a transaction fee from lenders and borrowers, but while Prosper charges a onetime 1% fee on loans from borrowers and a 0.5% annual loan-servicing fee to lenders, Zopa charges a 0.5% fee on all transactions.
Both are counting on social networking to make their business plans successful. Prosper and Zopa encourage borrowers to join groups of like-minded individuals to increase their appeal to lenders. (Prosper’s wholesome online example is that of volunteer firefighters.)
To make the social networking clubs more appealing, group leaders earn commissions on the loans they generate. Zopa is also attempting to work with Independent Financial Advisors (IFAs), which gives commissions for introducing business.
Neither Zopa nor Prosper secure any of the loans made through their service.
How the group concept plays out remains to be seen. “Giving people commissions to generate loans is like inviting con artists to establish pyramid schemes,” says one federal banking attorney, who asked not to be named.
Jim Bruene, the Seattle-based editor of Online Banking Report, which recently published a study of Prosper and Zopa, says he is concerned.
“It depends on whether there is really any kind of affiliation. They have alumni groups, but if your alma mater is the University of Washington, where tens of thousands of kids pass through, are you close enough to [other alums] to care [about their collective reputation]?”
Bruene further points out that today, the only way that members connect with one another through either site is via email. “And if you don’t pay back your loan,” he says, “I doubt the ability to send you an email is going to help your group much.”
Through Zopa and Prosper, if borrowers don’t meet their commitments, collection agencies are called to seek repayment and, as with any other loan, borrowers who flake will see their credit rating hammered. The potential for default appears, high, too. The vast majority of borrowers at Prosper are listed as high-risk. Zopa isn’t releasing a breakdown of its borrowers at present, according to new investor Stavis.
The two startups do have their differences. Zopa attempts to help lenders reduce their risk by automatically spreading loans across a spectrum of borrowers.
Stavis says that even if a few people don’t pay their loans back, the rest of the lender’s principal will be preserved. Stavis says he is not yet a lender, though he says it’s because Zopa doesn’t have a U.S. presence yet. “As a U.S. citizen, I can’t play in Zopa’s London product, but I eagerly await getting involved.”
No one knows if either will work, but Benchmark is certainly hoping the idea is a sustainable business model.”
“If Prosper and Zopa can get rid of the deadbeats who aren’t going to pay back their loans regardless of what they say or how many heart-tugging pictures they post, it could work. Maybe,” says online banking analyst Bruene.
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