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Exploring the Benefits of Embedded Lending

Find out how embedded lending can grow your GPV and increase the lifetime value of your customers.

Tools and Resources
FinancingPartnerships

By Pipe December 20, 2023

What's The TL;DR

  • Growth Projections

    : Embedded lending in the digital finance sector is expected to grow significantly, targeting a $7.2 trillion valuation by 2030.

  • Industry Transformation

    : The rise of embedded lending is reshaping finance, challenging traditional banks and creating opportunities for fintech and non-financial businesses.

  • Technology's Role

    : Key to success, technology facilitates seamless integration, data-driven lending decisions, real-time processing, and ensures security and compliance.

  • Advantages

    : Benefits include enhanced customer experience, operational efficiency, financial inclusion, risk mitigation, new revenue streams, and a competitive edge.

  • Challenges

    : Faces regulatory hurdles, data privacy concerns, credit risk, and fraud issues.

  • Future Trends

    : Anticipates advancements in AI and machine learning, regulatory adaptations, and more partnerships between financial institutions and fintech companies.

  • Impact for Leaders

    : Essential for CEOs and CFOs to recognize the strategic importance of embracing embedded lending to stay competitive and meet evolving consumer expectations.

Digital lending is growing at a rapid pace. Looking ahead, the global embedded lending industry is projected to achieve a robust compound annual growth rate of 27.5% from 2022 to 2029. By 2030, the entire embedded finance sector is projected to reach a value of $7.2 trillion.

These forecasts make it clear that something is shifting. As more customers come to expect convenience and ease in conducting business, embedded lending is evolving and becoming the next big era of finance. Those who don't seize the opportunities in embedded lending risk becoming irrelevant and losing customer loyalty as competition heats up.

Fintech startups and even non-financial companies are jumping into embedded lending, shaking up the traditional banking sector. This new way of doing things is forcing regulated banks to rethink their strategies and adapt.

In this article, we’ll look at the benefits of embedded lending and its future impact on banking. Before we get into that, let’s go over some of the basics.

What is embedded lending?

Embedded lending–a subset of embedded finance–is the practice of integrating credit into non-financial services or products such as payment systems and financial management software. Embedded lending opens doors for companies that aren't traditional financial institutions to meet the modern consumers' desire for easy and frictionless lending experiences without having to leave the platform they're using.

Like embedded finance on the whole, embedded lending streamlines and offers a seamless consumer experience by integrating lending services into the everyday platforms customers use, eliminating the need to seek out and vet separate providers.

Embedded lending fundamentally changes the lending process by removing traditional barriers. Small business owners no longer have to make a mad dash to the bank when they need a loan.  Instead, they can seamlessly access capital right on the platform they use to process payments or manage operations. 

Example: embedded lending for Sarah's Boutique

Sarah, who runs her store on a popular e-commerce platform, notices an opportunity to expand her product line with a new fashion trend. However, she needs additional funds to purchase inventory. Thankfully, the e-commerce platform she uses partnered with Pipe, giving her several advantages:

Convenience

Thanks to an embedded capital provider like Pipe, Sarah doesn't have to spend time searching for external financing options or comparing different loan offers. The integration allows her to manage her business and financial needs in one place, saving time and reducing complexity by applying for an advance directly from her store's dashboard. 

Personalization 

Pipe uses Sarah's sales history, and revenue trends to personalize her capital offer. Pipe’s algorithms analyze her store's performance and predict future sales, offering her a funding amount and payment terms tailored to her business's unique financial situation. 

This personalized approach ensures that Sarah gets fundings that fits her business. Payments flex with her sales, with no minimum payment, so she’s protected against a cash flow crunch if she has a slow month.

Unbiased access 

Sarah's application is processed using Pipe’s automated risk assessment model that evaluates her ability to pay based purely on data and the health of her revenue. 

Based on factors such as transaction volume and revenue consistency, Pipe makes an unbiased decision, providing fair access to all merchants, without accessing a credit report or a long business history.

Speed

One of the most significant advantages for Sarah is the speed of access to capital. Pipe eliminates the long waiting periods associated with traditional bank loans. Once approved, the funds are quickly disbursed, allowing her to capitalize on the new fashion trend immediately.

Impact on Payment Facilitators and ISVs

Embedded capital also has several benefits for the e-commerce platform Sarah uses.

Firstly, it allows the platform to create an additional revenue stream without the need to develop a new product or expand their team.  

Secondly, it increases the platform's value proposition, attracting more merchants like Sarah who are seeking comprehensive business solutions and accelerating migrations for larger capital offers. 

Thirdly, as merchants grow their businesses with the help of these loans, their transaction volumes increase, boosting the GPV of the platform. 

Finally, offering such integrated financial solutions fosters merchant loyalty, reducing churn and strengthening the platform's market position.

The role of technology in embedded lending

Technology plays a central role in the success of embedded lending. Let's take a closer look at the role of technology in embedded lending.

1. Seamless integration

Technology enables the seamless integration of lending services into non-financial platforms, such as e-commerce websites, payments systems, or mobile apps. Through well-designed Application Program Interfaces (APIs), financial institutions and fintechs can connect with these platforms, making the lending process accessible within the user's existing digital environment, without compromising security. 

2. Data analysis

Advanced data analytics and machine learning algorithms are used to assess a borrower's creditworthiness. By analyzing a wide range of data points, technology allows lenders to make fair and accurate lending decisions. This benefits companies with limited credit history or business models that may have been underserved by traditional lending practices.

3. Real-time processing

Technology enables real-time processing of loan applications and approvals. Borrowers can receive decisions within seconds or minutes, significantly reducing the time and effort required to secure a loan. This speed is a hallmark of embedded lending, making it a highly attractive option for customers.

4. Security and compliance

Robust technology ensures the security of sensitive financial information and compliance with data protection regulations. It's essential to maintain the trust of customers and adhere to privacy requirements, and technology plays a crucial role in achieving this.

5. User Experience

User-friendly interfaces and mobile applications provide a smooth and user-centric experience. Borrowers can easily apply for loans, track their applications, and access funds. This level of convenience is made possible through advanced technology design and development.

6. Scalability

Technology allows embedded lending to scale efficiently. Financial institutions and lenders can extend their services to a wide range of non-financial platforms and reach a broader audience. This scalability is essential for the growth and adoption of embedded lending.

7. Automation

Automation is a key feature of embedded lending. It streamlines the loan application and approval processes, reducing the need for manual intervention. Borrowers can often receive near-instant approvals, and the entire process is more efficient.

Technology empowers embedded lending to be agile, data-driven, secure, and user-friendly. It removes many of the barriers that traditionally limited access to credit and enhances the overall lending experience for consumers and businesses alike.

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Advantages of embedded lending

The rise of embedded lending offers numerous benefits to both borrowers and lenders. Let's explore some of these advantages:

1. Enhanced customer experience

As we already explained, embedded lending simplifies and enhances the borrowing experience by allowing users to access credit seamlessly within platforms they already frequent. This eliminates the need to navigate through various websites or apps, making the entire process user-friendly and convenient.

2. Streamlined operations and efficiency

Lenders benefit from embedded lending as it reduces the burden of extensive paperwork and manual processing. The integration of technology allows for automation, reducing the time and effort required in loan origination and servicing. This streamlined approach increases operational efficiency, leading to quicker loan approvals and automated disbursements.

3. Financial inclusion and accessibility

Embedded lending is a game-changer for financial inclusion. It widens access to credit for a broader spectrum of individuals and businesses. Traditional lending models often overlook those with limited credit histories or unconventional business models. Embedded lending platforms leverage alternative data sources to evaluate creditworthiness, making loans available to individuals who may have previously been denied.

4. Risk mitigation 

Embedded lending platforms often use advanced data analytics and risk assessment techniques to evaluate potential borrowers. This can result in more fair and accurate risk assessments and lower default rates for lenders, ultimately reducing financial risk.

5. Diversified revenue streams

For businesses, integrating embedded lending can create new revenue streams. Whether it's a retailer offering point-of-sale financing or an e-commerce platform partnering with lending providers, it diversifies income sources beyond the core business.

6. Competitive edge

Offering embedded lending can be a significant competitive advantage for businesses, especially in crowded markets. It can attract and retain customers who value the convenience of accessing credit within their existing platforms, setting a company apart from competitors.

Risks and challenges in embedded lending

While embedded lending offers numerous benefits, it presents its fair share of risks and challenges. Let's explore some of the key concerns:

1. Regulatory challenges

When lending services become part of non-financial platforms, it brings up some important regulatory issues. Financial authorities have a role in making sure that consumer rights are protected and that lending practices remain fair. Regulations must be updated to handle potential risks and ensure the financial system's stability.

2. Data privacy and security

Embedded lending relies heavily on data. This does raise concerns about the privacy and security of that information. To safeguard sensitive business data, embedded lending platforms need to take strong security measures and follow strict data protection rules.

3. Credit risk

One thing lenders need to keep an eye on is credit risk. Since embedded lending often considers borrowers with limited credit histories, there's a potential for risk that some loans might not get repaid. Smart risk assessment models can help lenders manage this challenge effectively, reducing the risk and potentially even bringing it below traditional lending levels.

4. Fraud and identity theft

With all the personal and financial data exchanged on these platforms, there's an increased risk of fraud and identity theft. Lenders have to make sure they have strong identity verification and fraud prevention measures in place to protect both their customers and their own businesses.

These challenges are like hurdles in a race–they may look daunting, but with the right strategy and preparation, they can be overcome, leading to even greater success in the world of embedded lending.

The future of embedded lending

The future of embedded lending holds exciting possibilities and is likely to influence traditional banking significantly. Here are some emerging trends to watch:

  • AI and machine learning: Advanced AI and machine learning algorithms are being used to assess credit risk more accurately. By analyzing vast sets of data, these technologies can provide personalized lending solutions and expand access to credit for underserved populations.

  • Regulatory adaptation: Governments and regulatory bodies are adapting to the rise of embedded lending. New regulatory frameworks and consumer protection guidelines are being developed to ensure the safety and fairness of these financial services.

  • Partnerships and collaboration: Financial institutions and fintech companies are increasingly forming partnerships to offer embedded lending solutions. This collaboration enables traditional banks to tap into the innovation of fintech while providing fintech firms with access to a broader customer base and more access to capital.

Conclusion 

Embedded lending is poised to revolutionize banking and lending. The future of embedded lending promises a financial ecosystem characterized by increased accessibility, efficiency, and innovative solutions, benefiting both merchants and the industry as a whole.

While Pipe is not a lender, our revenue advance allows small- and medium-sized businesses to access capital embedded in the software platforms they use every day to run their businesses. By analyzing secure, live transaction data, Pipe creates custom capital offers based on the health of the business and its revenue streams. Whether you’re looking for growth capital or looking for an embedded capital solution for your customer, you can learn more about Pipe here.

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