1. State of Small Business Lending: US and UK Karen Gordon Mills Senior Fellow, Harvard Business School & Harvard Kennedy School Former Administrator of the U.S. Small Business Administration and Member of President Barack Obama’s Cabinet OOCTOBER 2015

2. P DRAFT WHY WORRY ABOUT ACCESS TO CREDIT FOR SMALL BUSINESSES? 2 US Small Businesses Main Street (~4M) High Growth (~200K) Supply Chain (~1M) ~28 Million Sole Proprietors (~22M) Employers* (5.7M) UK Small Businesses ~5.2 Million Sole Proprietors (~3.3M) Employers (~1.9M)  US: small firms produce half of private jobs, two-thirds of net job creation  UK: small firms account for half of private jobs, 65% of net job creation Note: Remaining 500,000 business are Non-Supplier Businesses in the Traded Sector

3. P DRAFT US: SMALL FIRMS HIT HARDEST IN CRISIS -- 60% OF JOB LOSSES 3 Source: Bureau of Labor Statistics, Business Dynamics Statistics (latest as of 4Q14). Chart shows the change in the number of charges by firm size, specifically “small businesses (firms with fewer than 500 employees) and large businesses (firms with more than 500 employees). Quarterly Net Job Change by Firm Size (‘000)

4. P DRAFT UK: JOB CREATION AT SMALL FIRMS ALSO HIT HARD DURING CRISIS 4 Source: Federation of Small Businesses (October 2015) Percentage of Small Businesses Reporting Net Change in Employment, Last 3 Months

5. P DRAFT 5 WORKED FOR PRESIDENT OBAMA AS HEAD OF SMALL BUSINESS ADMINISTRATION (2009-2013)

6. P DRAFT RECORD SBA LOANS HAVE HELPED, BUT LIMITED MARKET REACH 6 Source: Small Business Administration. 7(a) and 504 loan volume since Fiscal Year 2008. As of May 2014.  SBA represents <10% of market, limiting broader market impact SBA lending up two-thirds from the crisis, bringing back 1,000 lenders, helped by new legislation and an agency-wide initiative to cut paperwork Loan Volume ($ billions)

7. P DRAFT US: CREDIT FROZE DURING CRISIS, SLOW TO RECOVER FOR SMALL FIRMS 7 Source: Federal Reserve, “Senior Loan Officer Survey” as of July 2015. Net Tightening Net Loosening Percentage of Bankers Reporting Net Tightening or Loosening of Loan Conditions

8. P DRAFT US: BANK LOANS TO SMALL BUSINESSES FELL DRAMATICALLY 8 Source: Federal Deposit Insurance Corporation, Call Report Data. As of January 2015 Small Business Loan Assets on Balance Sheets ($ Billions)  Loans fell 18% during and after crisis, only recently began growing again

9. P DRAFT UK: BANK LENDING TO SMALL FIRMS FROZE IN CRISIS, YET TO RECOVER 9 Source BIS: Monthly BIS survey and Bank calculations. Lending by four UK lenders to enterprises with annual bank account debit turnover less than £25 million. Survey ended December 2012. Source BOE: Lending by UK monetary financial institutions to UK SMEs with annual debit account turnover on the main business account less than £25 million. Data is through February 2014. BBA Source: Lending by a BBA panel of lenders to SMEs in Great Britain. SMEs are defined as businesses with turnover up to £25 million. Data is through December 2013 Percentage Changes in Small Business Lending on a Year Earlier

10. P DRAFT US: STRUCTURAL PROBLEMS ALSO PLAGUE LOAN MARKET 10 Source: Federal Deposit Insurance Corporation, Call Report Data. As of January 2015. * Per reports from the FDIC Acting Chairman Martin Gruenberg and a December 2012 survey of small business finances conducted by the Federal Reserve Bank of Atlanta Average Bank Assets ($ billions) Number of Community Banks (Left Axis) vs. Average Bank Assets (Right Axis)  Small banks supply about 40% of SME loans, but being consolidated Number of Community Banks

11. P DRAFT UK: LENDING TO SMALL FIRMS REMAINS HIGHLY CONCENTRATED 11 Source: 1999 figures from CC, 2013 figures from Charterhouse release Q1 2013. Percentages may not sum to 100 because of rounding. Volume Shares of Small Business Loans in England and Wales, 1999 vs. 2013 19992013  About 90% of small firm loans are provided by largest banks in UK

12. P DRAFT US AND UK ONLINE LENDING GROWING RAPIDLY Source: Company data, Morgan Stanley research estimates. US MarketplaceUK Marketplace Online lending estimated to be 16% of issuance by 2020 vs. 3% today Lending to Small Businesses, 2014 vs. 2020 Estimates, Billions +47% annual growth +55% annual growth £9bn $47bn

13. P DRAFT US: THREE INITIAL MODELS DEVELOPED – BUT LINES ARE NOW BLURRING 13 Source: Authors’ analysis Borrower-Driven Broker Marketplaces Connect small business borrowers to a series of lenders that are part of their online marketplaces; most work with conventional lenders like big and small banks, SBA lenders as well as alternative lenders. Institutional-Driven P2P Marketplaces Institutional marketplaces, sometimes referred to as “peer to peer” lenders, were initially consumer-focused. Now, greater emphasis on small businesses. Balance Sheet Lenders Use balance sheet capital from institutional investors and decisions loans via proprietary risk scoring algorithms that rely largely on cash flow data.

14. P DRAFT US ONLINE LENDING ECOSYSTEM 14

15. P DRAFT UK: P2P MODEL DOMINATES SMALL BUSINESS LENDING 15 Source: Data includes only members of P2PFA Source: P2PFA, Morgan Stanley Research. UK Peer to Peer Lending Market Share – Business Focused Platforms

16. P DRAFT UK: P2P PLATFORMS ALSO SEEN AS GOOD VALUE AND EASY TO USE VS. BANKS, BUT LESS SECURE AND HIGHER RISK 16 DRAFT Source: UK Alternative Finance Industry Report (Nesta 2014), Morgan Stanley Research UK Public Perception of P2P Lenders vs. Traditional Banks

17. P DRAFT US AND UK: ONLINE MARKETPLACE IS EVOLVING RAPIDLY 17 Sources of CustomersProductSources of Capital Small business customer does not always know what product will best meet their needs  Bank Partnerships  Santander / RBS in UK  Gov’t mandate in UK?  Consortiums  BancAlliance in US  Traditional Banks  Loan Brokers  Account Receivable / Invoice Lending  Term Loans  Short-term Cash Advances  Gov’t in UK via British Business Bank  Retail  Inst’l / Hedge Fund  Traditional Banks  Warehouse Lines  Syndication Markets

18. P DRAFT WHAT IS THE APPROPRIATE LEVEL OF REGULATION IN US MARKET? NEED FOR REGULATION  No current designated federal regulator  Should there be one?  CFPB should implement Dodd Frank 1071  Lack of transparency on costs to small business owners  Concern that this might be the next ‘subprime market’  Emergence of loan brokers  High costs IMPROVE EXISTING REGULATION/ ENCOURAGE MARKET MECHANISMS  Clarify and streamline existing state and SEC regulatory oversight  Let nascent market develop  Current industry move to improve transparency  Borrowers’ Bill of Rights  Consistent disclosure of cost metrics  Internal industry oversight increasing on loan brokers 18 Two views:

19. P DRAFT UK APPROACH 19 Supportive Government Environment  Providing funds through platforms via British Business Bank  Tax free allowances for ISA investments in P2P platforms  Results of Competition and Markets Authority 2016 study on small business lending in UK  Potential support for referrals of declines to P2P lenders Streamlined Regulatory Environment  Single regulator: Financial Conduct Authority vs. overlapping regulation in U.S.  Principles-based oversight  Investor protections, including capital requirements  Borrower protections: “clear, fair and not misleading”