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When lending goes wrong
There has been an interesting discussion on the independent P2P forum about a loan recently made by Funding Circle. Without naming the company concerned, they already had a loan arranged though the platform and applied for a second loan. When companies apply for additional loans, some lenders are willing to lend to a company with a good track record of payments. Other lenders would be concerned about over exposure. This is where they are lending one company a larger than normal proportion of their funds. While the risk of default is largely unaffected, the effect of a default would be greater.
When the company applied for an additional loan, they made the following statement.
Please note: this company has an existing Funding Circle loan. This loan will be used, in part, to clear the outstanding balance on the first loan.
Existing lenders would therefore not be concerned about over exposure, as any existing loan would be repaid. After the loan was approved, it appears that the borrower requested not to settle their first loan, and draw down all lent funds. One lender decided to contact Funding Circle and received the following reply:
The borrower has decided not to settle their first loan and will continue with both loans; a comment has been added to loan 1141.
I understand that there has been a long delay. This is because the borrower expressed an interest in receiving the full amount of their second loan, as opposed to using a partial amount of the second loan to settle the first loan.
We therefore held back the portion of these funds that would have been used to settle the first loan while we assessed whether from a risk perspective we were happy to increase our exposure to them.
This risk band has now been reinstated and the borrower is up to date in their repayments.
The new loan was downgraded from an A+ to an A risk rating due to the increased exposure of lenders.
You are correct in saying that the two loans should be at the same risk band.
Originally, in line with the expectation that the company was going to use the second loan to settle their first loan, the Underwriting team rated the second loan as A+, based on their latest assessment and the amount of exposure on the second loan.
However, because the company are now continuing to service both loans, our exposure to the company is now higher. The Underwriting team have subsequently taken the decision to amend the risk band for Loan 4573 to an A, in line with Loan 1141.
Unfortunately there was a slight delay of a few days between the risk band being reinstated on the first loan and the amendment on the second loan. This is not a standard procedure and therefore the Underwriting team took a few days to consider their decision.
With the new loan being downgraded lenders, who were over-exposed through no fault of their own, found themselves unable to sell loan parts except at a large loss. Several lenders expressed their concern that this situation was allowed to happen and requested their money back, which would be quite difficult as the loan had already been paid out.
There is a happy end to this story as Funding Circle decided to buy out all existing lenders, and made the following comment.
We have taken the decision to settle both this loan (ID 4573) and the other loan to this borrower (ID 1141) and take over the liability from our investors. The decision to increase the total lending to this business and change the risk band was made after loan 4573 had completed. We accept that it was not right to lower the risk band from A+ to A in retrospect. We apologise for this. The funds will appear in your account today and the loan will display as “repaid”. In future, no decision to increase total lending to a business will be made without listing a new loan request.
We believe Funding Circle have made the right decision in this case, but it did cause some concern to lenders.