Across the board, non-bank lenders in Mexico are being penalized by rating agencies and investors alike, as some of the biggest names announce restructurings and defaults. One sector that has been particularly hard hit is Sociedades Financieras de Objeto Múltiple (SOFOMES), specialized lenders in Mexico focusing on lower and middle-income earners and small and medium-sized enterprises (SMEs) not served by Mexico’s banking sector, providing the equivalent of over US $58 billion in loans to 20 million people.
The most recent SOFOM to declare bankruptcy was UNIFIN, the country’s largest non-banking financial institution, which announced it would enter a restructuring process under Mexico’s bankruptcy laws in January 2023. Meanwhile, the country’s largest payroll lender, Crédito Real, is going through an ugly liquidation process and AlphaCredit, one of the country’s largest SOFOMES, has yet to emerge from a restructuring process that began at the end of 2021.
The vacuum that these non-bank lenders have left is not insignificant: UNIFIN accounted for 30 to 40% of lending to SMEs, Crédito Real had over 450,000 payroll clients, primarily government employees, and AlphaCredit had issued over 620,000 loans serving more than 375,000 clients.
With the sector in such bad shape, the real question is who will fill the vacuum and how will they avoid the pitfalls that plagued these industry leaders?
Technically speaking, per Mexican law, anyone can offer credit. One of the most likely candidates, however, is fintechs, loosely defined as fast-growing companies that leverage technology to disrupt the financial services sector.
Many are offering products specifically designed to help those without credit history establish one, including YoCripto and Nu which are offering self-guaranteed credit lines so users can create their own history. Others are using data from untraditional sources to determine credit worthiness, going beyond data provided by credit bureaus. For example, open finance platform Belvo has partnered with Mexico’s social security system to provide another data point to help lenders evaluate loan applications. And even others are pioneering new models, such as Yotepresto, a people-to-people loan platform where users can ask for loans and decide to invest in their peers.
In Mexico, the percentage of the adult population with formal credit is only 33% of the population as of 2021, according to figures from Mexico’s statistical agency, making personal loans an attractive area of opportunity for many.
Likewise, there is also a major financing gap for the country’s SMEs of nearly US $165 billion, which fintechs like Konfío and Fairplay are also rising to fill. While more than 95% of the country’s businesses are classified as small and medium-sized enterprises, it is estimated that SMEs receive only 9.4% of all loans from the traditional banking sector and only 17.9% of all business-related credit lines.
These fintechs, having identified these business opportunities, are extending loans to segments of the population that have been overlooked by traditional banks, just like the SOFOMES before them. To make this bet profitable, however, they charge higher interest rates in exchange for a greater likelihood that their borrowers will default: Finnovista estimates that fintech’s nonperforming loan (NPL) ratio is 11% with an annual interest rate of 39%. For comparison’s sake, a traditional bank’s portfolio has an NPL ratio of around 2.1%.
Although this may seem like easy money, these new actors must be careful to avoid falling into the same pitfalls that led to the demise of AlphaCredit, UNIFIN, and Crédito Real. Especially because in Mexico, fintechs can be incorporated under several legal structures, including being registered as a SOFOM, as is the case with AlphaCredit which is considered a startup, fintech, and SOFOM.
As a rule of thumb, fintechs in the lending sector must be particularly cautious of acquiring too much debt (be it venture debt or a traditional credit line from a bank or multilateral institution), especially as interest rates remain high, resulting in an increased cost of capital. When interest rates were lower it was much easier to make a profit, even with a portion of non-performing loans in the portfolio. But, in today’s environment, fintechs should carefully moderate their non-performing loan portfolio and focus on debt collection.
Similarly, they should be cautious of growing too fast. As the darling of international investors, AlphaCredit quickly grew, raising US $183 million in venture capital and entering the Colombian market. However, when the pandemic caused new loan origination to slow and collection to decline, the company found itself in a difficult position. UNIFIN also made a similar mistake. Although it did not experience the same explosive growth, by the time of its downfall, it not only offered personal and business loans, but it had also acquired 15 ships, 37 real estate and commercial plots, and a semi-submersible oil rig called Frida, deviating significantly from its area of expertise.
According to figures from the World Bank, Mexico’s private sector lending in terms of GDP is only 36.4%, well behind the regional average of 57.2% and well behind Chile, Panama, and Brazil, which limits the country’s long-term growth potential. Sadly, the multiple defaults and bankruptcy has made it much harder for SOFOMES and other specialized lenders to raise capital as investors lose faith in lenders to create a sustainable business model that generates consistent returns.
That said, despite the challenges, lending fintechs still account for more than 20% of Mexico’s fintech ecosystem and the sector is considered one of the fastest-growing segments. However, if these fintechs are going to succeed where others have failed, they must not only leverage technology and venture capital; they must learn from past mistakes and pave the way for sustainable, long-term growth.
* Sara Hayden Van Velkinburgh is a senior analyst with the public relations division of Miranda Partners, where she works primarily with fintechs, investment funds, and startups. With a background in public policy and public affairs, she has analyzed Mexico’s regulatory framework and digital policy in Latin America as it applies to tech companies while at McLarty Associates and the Atlantic Council’s Adrienne Arsht Latin America Center. Twitter: @svanvelk
