Innovating Locally, Expanding Globally: Latvia’s Non-Bank Lending Success

Latvia's non-bank lending sector is undergoing a rapid transformation, with 46 companies now offering 19 unique products, outpacing traditional banks in variety and innovation. By leveraging advanced technologies like P2P platforms and machine learning, these lenders are enhancing cost-efficiency and client scoring, positioning themselves as key players in the local lending industry.

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Non-bank lenders are particularly active in the consumer and business segments. Consumer lending is the largest segment within the non-bank sector, boasting an estimated portfolio exceeding €424 million from 15 different companies. In terms of the number of companies, the business loan segment leads, with 20 companies primarily focusing on this area and holding a combined estimated portfolio of €159 million. To further expand, Latvian non-bank lending companies are pursuing two main strategies.

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First, they are entering the leasing and real estate segments, expanding their product offerings and competing more directly with banks. The leasing segment includes seven companies with a total portfolio of €140 million. Real estate lending is the least popular, with only four companies focusing on this area, holding a combined portfolio of €98 million. Despite intense competition from banks with greater resources, non-bank lenders have relatively recently entered these segments, and their products are evolving.

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Second, they are focusing on international expansion, applying developed practices on a global scale. For instance, Sun Finance Group, Eleving Group, and DelfinGroup conduct more than 70% of their activities abroad. Many Latvian entrepreneurs continue their ventures overseas, seeking better margins. Other Latvian non-bank lending firms are increasingly looking toward international markets.

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However, the Latvian market is primarily composed of local players and bank leasing company subsidiaries, which are technically classified as non-bank institutions. These companies hold the majority of the market, accounting for over 73% of the total €3.1 billion lending portfolio. True non-bank lenders hold an estimated portfolio of €820 million, but it seems the tables are turning.

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Non-Bank Lenders on the Rise

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For quite some time, banks have been slow in issuing loans, particularly those with Swedish capital, which have been reluctant to reinvest their funds back into Latvia. Over time, these banks have become even less risk-tolerant. The problem has been acknowledged by the Bank of Latvia, which notes that, especially in regions outside the capital city, access to business and mortgage loans is limited. This indicates a greater demand than supply, creating opportunities for the non-bank lending industry, which is seeing new market entrants from both local origins and abroad. Since the financial sector's capital repair, the market share of non-bank lending players has been steadily growing, with new entrants from other countries.

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To fulfill this unrealized demand, non-bank lenders are attracting investment through multiple avenues. The most popular are P2P platforms such as Twino, LANDE, Mintos, Nectaro, Indemo and Esketit, which connect lenders with investors. These companies have funded large amounts of capital since they started operating, attracting more than €9 billion in refinancing loan products on their platforms. Furthermore, lenders have actively sought funding in Latvia's capital markets, attracting investors through bond issuances. Notable bond issuers in the region include DelfinGroup, Eleving, Sun Finance, and 4Finance. Moreover, DelfinGroup recently went a step further, launching a share offer this year that attracted €9 million from 1,000 unique investors.

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Although loans issued by non-bank lenders have traditionally carried higher interest rates, this trend is changing. Non-bank lenders often engage in riskier deals, which has led to higher rates. However, many non-bank lenders now offer loans starting from 8-9% across various product categories. The weighted average interest rate for loans issued by non-bank lenders has also been decreasing, indicating that these lenders are becoming more aggressive in capturing a larger market share and attracting clients from the traditional banking sector.

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The non-bank lending industry, despite its notorious reputation in the past, has taken steps to improve its image as it matures. Lenders are becoming more careful when issuing loans, using modern technology and machine learning to expedite the process more efficiently than traditional credit institutions. Lenders promote responsible borrowing, and the Consumer Rights Protection Centre (PTAC) reports significant improvements in credit quality over the past decade. Over 90% of loan portfolios are now repaid within the term, an improvement of over 10% in the last decade, and there has been a marked decrease in loans overdue by more than 180 days, indicating a maturing and more user-friendly industry.

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Challenges for Non-Bank Lenders

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Despite their growth, non-bank lenders like DelfinGroup, ViziaFinance, and others are facing challenges due to new legislation imposing a 20% corporate income tax on profits, regardless of whether dividends are paid out or not. This tax, intended to target profits from rising Euribor rates for banks, unfairly impacts non-bank lenders who do not benefit from these increases and, in fact, face higher capital costs. The inclusion of bank-owned leasing subsidiaries under the non-bank lender category exacerbates the issue. DelfinGroup argues that the tax inaccurately equates non-bank lenders with banks, despite their different business models, significantly increasing their tax burden and potentially raising their effective tax rate to 83%, which could hinder their growth and harm their shareholders' interests. However, these companies are currently challenging this norm in the constitutional court, and the industry is not giving up.

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Nevertheless, the future of the lending market promises to be dynamic and competitive. Non-bank lenders have made significant strides with advanced systems and innovative technology, currently giving them a competitive edge. However, the rise of neobanks, which utilize similar technology and benefit from central bank money and deposits, poses a new challenge. Neobanks such as Revolut and Monzo, which are on track to become the first banks without borders, could potentially outcompete current players by leveraging both financial and technological strengths. These companies have already issued consumer loans in some EU countries and the UK. Revolut is catering to the consumer segment in nearby Lithuania and is on track to enter the mortgage segment in Ireland next year, entering a new country each year. This competitive environment requires continuous development and adaptation in the lending sector. Also, a new local player, INDEXO, looks promising in teaching current banks a lesson to provide tech advanced lending services. 

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Latvia's non-bank lending sector has already evolved significantly, offering products similar to those of traditional banks and leveraging technology to enhance efficiency, now dominating the market. The sector is robust and continues to improve the local market while establishing an international presence. Non-bank lenders are expanding into new segments and markets, positioning themselves as leaders in innovation within the lending industry. Despite facing regulatory challenges, the industry remains forward-looking, and committed to growth and adaptation in a rapidly changing financial landscape. The continued development and innovation in this sector will be crucial for maintaining its competitive edge and ensuring its future success.