Are you one of the millions of consumers who has made a buy now pay later (BNPL) purchase at the point of sale? If so, you have already experienced one of the first mainstream applications of lending as a service (LaaS), which is any extension of credit that occurs outside of a typical bank or lender channel. It is the ability to translate what is normally a complex financial offering and make it simple and consumable through new channels and integrated experiences. LaaS is just one part of embedded finance, which includes other offerings such as banking as a service (BaaS) and cards as a service (CaaS).

This quickly evolving space has proven itself subtly complex and multi-layered, and how to approach it can be intimidating. There is no one-size-fits-all approach. Whether you are a financial institution looking to alternative distribution channels or the provider of a digital experience looking to offer lending, there are many considerations.

As strategic product director within the FIS Lending Team, I’ve had the privilege of meeting many of the industry’s brightest minds in embedded finance and LaaS. Through these relationships, we’ve gained unique market insights, highlighting the increasing interest in these services and the projected growth.

Payments.com, December 2021

Embedded finance and LaaS at-a-glance

A checking account, credit card or loan are things we typically associate with financial institutions, and why should the future be any different? To answer this question, it is important to understand how consumers and small businesses are engaging with the digital world around them.

Consumers and small businesses are highly engaged with digital experience providers.

When looking at the evolving needs of today’s digitally savvy consumers and small businesses, a story unfolds. Embedded finance, including LaaS, is the next logical frontier in driving mutually beneficial engagement with apps, software platforms, merchants and consumers.

By embedding financial solutions in everyday experiences, platforms can amplify the bond they have with their customers and deepen customer loyalty. Platforms providing financial services can gain a competitive edge in an increasingly competitive market.

This does not have to lead to disintermediation for traditional financial institutions. Rather, it can be an opportunity for financial institutions to extend their reach and participate in the new economy. It’s also worth noting that digital banking channels already anchored by financial services are primed to offer complimentary features such as financial wellness and small business management tools, creating embedded experiences.

“Embedded finance puts the banking experience into the same front end and same workflow and experience businesses use most,” says Matt Collicoat, vice president of Strategy and Business Development for B2B at FIS.

Consider a seller on an e-commerce marketplace who uses half a dozen tools every day – like banking, accounting and payroll – to operate their businesses. Now imagine all of those services in one central place – where they’re all most useful.

LaaS has been around

LaaS isn’t a new concept; it’s how auto loans have worked for years under the term “indirect lending." Customers in a car buying journey have had access to credit within the dealership thanks to an established channel between dealer and lender, supported by the software platform that connects them both.

With digitization, we are seeing more and more interesting use cases being unlocked.

A great example is BNPL and point of sale (POS) lending. Offering instant access to credit at checkout provides a new payment option for the shopper who can save money on a “pay in four,” zero-percent loan. The merchant grows their revenue by reducing shopping cart abandonment and providing a positive experience to help encourage customer loyalty and return purchases.

With the ubiquitous adoption of BNPL, it’s highly likely that instant credit at the point of sale is here to stay. There are an increasing number of lending options emerging for shoppers including small business BNPL, revolving lines of credit, lease-to-own and more.

Horizon markets

An exciting emerging market in LaaS is in small business credit, an area traditionally underserved by financial institutions. As small businesses manage their day-to-day in software platforms where they often connect their accounting and bank account data, a profile of the business starts to emerge.

For lenders who have access to this data and can use it to underwrite businesses, it is possible to drive higher approvals and better rates than might be possible with a traditional loan application. Software platforms also have insights into the need for credit by understanding when a business needs to pay an invoice or purchase inventory. Offering lending at the moment the customer needs it can result in dramatically higher offer acceptance.

As a software provider catering to small businesses, we have seen incredible value in helping our merchants obtain access to capital. The right type of offer at the right time can help a business make it through the tough periods and help them grow in times of prosperity.

This is exactly why embedded lending experiences are on the horizon for so many software providers.

How to make the most of LaaS

As a digital experience provider, it is important to think through your approach to an embedded lending experience, considering the size of your organization as well as the effort and risk you wish to undertake. Here are a few options, from simple and turnkey to complex:

1. Hosting a canned lending experience
   By offering a simple branded JavaScript widget, lending experiences can be instantly enabled. This is the approach taken by many BNPL providers such as Klarna, Affirm, etc. These experiences are typically controlled by the lender or fintech provider and have little customization, but the regulatory, compliance and ongoing maintenance is taken care of.
2. Building out a tailored experience
   By working with a provider that allows you to integrate through application programming interfaces (APIs), it is possible to create deeply integrated experiences that can often be white labeled. Many digital experience providers aspire to build out tailored experiences only to reconsider turnkey experiences if they find the complexities becoming more than they bargained for.
3. Lending to your customers directly
   Working with a fintech provider and financial institution can help enable a digital experience provider to leverage their balance sheet and participate in the upside that lending can bring while also taking on the risk and exposure. There are many considerations to this model including how to obtain lending licenses and where to source the capital to fund loans. Without going into the complexities, you can search for "rent a bank" or "true lender” to read about the ongoing regulatory concerns facing some of these arrangements.

If that wasn't enough, there are options between the options. You can embrace the level of complexity that works best for you. The key is finding the right partner that suits your needs and ensuring the offering is going to be one that is well received and adds real value to your experiences.

Keys to a great LaaS offering

To deliver great lending experiences, it is important to understand who the audience is and why this will benefit them. This is not just a way to monetize customers – it’s a way to compliment core capabilities while driving increased engagement. Here are some things to consider when rolling out an embedded lending offering:

1. Pre-approved offers
   The ability to prescreen and approve customers before they even apply will ensure offers are only available for customers who will ultimately be approved. Presenting a long credit application process only to be declined at the end can be a jarring experience that can reflect poorly on your brand.
2. Contextualized offers
   It is important to provide financing offers in a way that is meaningful and relevant to the customer. Some great examples include making a purchase, paying a bill, waiting on an invoice to be paid or identifying a cashflow shortage.
3. Offering a suite of embedded services
   You can deepen the value proposition by offering lending with other embedded finance products. For example, bundling a loan with a checking account using a lower interest rate as a potential incentive.
4. Identifying the right credit product
   The general profiles of the customers you serve should inform the types of products you offer. If you cater to an underbanked population, a secured credit card or other credit builder solution could be a great steppingstone into other lending solutions. Payment providers, for example, are well served by revenue-based offerings allowing convenient payback of credit only when the business gets paid.
5. Competitive interest rates
   Customers may be willing to accept a higher interest rate for speed and convenience with an embedded lending experience. However, presenting uncompetitive rates or unreasonable origination fees is going to leave users feeling taken advantage of and might give them pause about ongoing engagement with your brand.
6. Automating and digitizing the end-to-end journey
   This is harder than it looks, especially when it comes to small business lending. Providing a fully digital end-to-end process from application to funds disbursement through redraw and renew will delight customers.
7. Customer support
   Make sure your customer support model makes sense. Are you the first line of support or are customers instructed to call the lender? This will vary and needs some careful consideration.

Summary

Lending is one of the most complex pieces of the financial ecosystem, but also one of the most valuable. It’s what drives the economy forward and allows businesses to grow. As embedded finance uproots the traditional order, valuable opportunities are emerging. The question is: How will your organization participate in this exciting new world? The answer: We're just getting started.