FAQ Special - Late repayments and defaults
Written by Lynn Hamerlinck on 21 December 2022
As a crowdfunder, you know: there are risks associated with my investments. But how much risk are we talking about? What can actually happen? And most importantly, what will Lendahand do to help me get my repayments back?
Transparency about the activities of borrowers and their financial situation has been Lendahands top value since the beginning 10 years ago. As a crowdfunding platform, we ensure that companies get access to the financing they need with the explicit intention that investors receive their invested money back with interest.
We recently asked the crowd to share their most pressing questions regarding delayed repayments and defaults on investments via Lendahand. Our CFO Daniel van Maanen answers them below.
Q: How do repayments work?
Borrowers enter into a contract with Lendahand in which they are allowed to place new loans on the crowdfunding platform for a period of 48 months. That contract also specifies the term and repayment frequency of each loan. Most loans have a total term between 12 and 36 months, and the repayment frequency is usually every 6 months. Sometimes, the borrower may take longer to make the first repayment (a so-called grace period). This allows the company to grow before having to make repayments. When the repayment is made, the interest accrued up to that point is also paid.
Borrowers are expected to transfer the scheduled repayment and interest during the first 10 days of the month. Lendahand transfers the invested amounts to investors' wallets no later than the 15th of the month.
Q: Are there risks associated with crowdfunding?
Any investment involves risk. With crowdfunding through loans, there is a risk that the borrower will be late in repaying the repayments and interest, albeit partially or not repay at all.
Commercial banks often do not finance growing businesses that are not yet profitable or only agree to do so when the borrower has valuable collateral such as land, buildings, or machinery. In contrast, Lendahand generally lends to fairly young and promising impact businesses that, by definition, operate in emerging economies which are countries that often face relatively significant economic and political challenges. Therefore, despite extensive screening and monitoring, the projects can generally be considered an above-average risk.
As an investor, you can assess the risks by:
- Looking at the return: as goes for investments, as for Lendahand projects - the higher the expected return, the higher the risk
- Reviewing the KIIS document, to be found under the 'Documents' tab for each project
- Consult the credit score and rating, to be found under the 'Risks' tab for each project
Q: How does Lendahand lower the risks for investors?
Lendahand tries to mitigate the risks through a comprehensive upfront risk analysis reviewed by an external credit committee consisting of financing experts. Financial agreements are then made with the borrower that they must adhere to. Each quarter, the borrower must report its financial status to the Lendahand Investment Team. Direct loans typically require borrowers to provide collateral to Lendahand.
The contract with the borrower specifies the financial requirements the company must meet on an ongoing basis. Before receiving funds from each individual project, the company must certify that it is still in compliance with all financial agreements and provide a quarterly list of financial and operational KPIs.
As soon as a borrower no longer meets the agreements and/or the company's KPIs are deemed too weak by Lendahand's Investments Team, the borrower may (temporarily) not place any new projects. In the case of "direct loans," Lendahand generally enforces collateral. This means that in the event of bankruptcy, the trustee can make the collateral available to Lendahand. In practice, holding collateral often simply means a stronger negotiating position compared to other lenders. For extra-risky borrowers, a decision is often made to limit the maximum amount to be borrowed. For example, the maximum term is shortened to 6 or 12 months.
The borrower's contract expires every two years, and a new (lighter) book review must occur before the borrower can offer new projects on the platform.
Read in detail how Lendahand selects borrowers and what the due diligence process looks like on the page "How does Lendahand select new projects for the platform?" here.
Q: What could be the causes of delayed repayments?
There are several causes that require a borrower to delay repayments, including
- Adverse revenue growth;
- Higher costs than forecast;
- Less successful in raising equity or debt financing;
- Weakening of local currency, making loans in euros or dollars relatively larger;
- Deterioration in repayments from the borrower's customers also makes it more difficult for the borrower itself to repay its loans.
Q: Can borrowers still offer projects and borrow new money while they have not yet repaid previous projects?
Borrowers must meet 3 conditions to offer new projects:
- They must not yet have reached the total maximum loan amount that was agreed to in advance.
- They must not be in arrears on repayments from previous projects.
- They must still meet the financial ratios we have agreed with them.
As soon as the borrower fails to repay one or more loans (projects) taken out through Lendahand, they are not allowed to offer a new project.
Q: What are restructurings?
If the borrower is no longer able to meet the agreed repayments and interest payments, Lendahand enters into discussions with the company's management to see what is possible. The least complex solution is to put off the repayment schedule altogether for a few weeks or months. That means giving the company time to improve things, raise money from other financiers or make savings to comply with the agreed payment schedule.
But, no matter how good the intention is, sometimes deferral is not enough for a company to survive. In loss-making companies, capital from existing or new shareholders must be raised at some point to fund staff salaries, overhead costs as well as working capital. The moment existing or new shareholders are asked to bail out a company, they will have to be convinced of the long-term prospects of the company in question.
In doing so, shareholders would like to see their capital used to strengthen the company and achieve growth in order to achieve a position of profitability in the long run. Consequently, in such a scenario, they will demand that lenders waive repayments and interest payments for a longer period of time, or that they write off part of the outstanding debt, or that instead of the current repayment schedule, a new schedule with lower periodic repayments spread out over a longer period of time is introduced. Often the solution is a combination of these elements in which, ultimately, the company, existing and new shareholders, and lenders must all agree after lengthy negotiations. This is a complex process, and the outcome is determined by the relative bargaining power of the various parties. Often this process takes months.
Lendahand conducts these conversations on behalf of the crowd and always tries to write off as little as possible, even if that means, for example, waiting longer for repayments. In addition, we strive to find a solution that is reasonable for the business, so that the local impact the business creates, which is the original reason for Lendahand to provide the business with financing, is maintained.
Q: Can you give an example of a delayed repayment?
As an example of delayed repayment, there is microfinance institution (MFI) Milaap from India. Milaap was one of the most active borrowers on Lendahand for many years. Milaap is a "intermediary microfinance institution" and works with small microfinance institutions (field partners) that are too small for Lendahand to work with directly.
During the initial lockdown of the corona pandemic, quarantines were imposed in India, and the Indian central bank instituted so-called "moratoria," requiring MFIs to offer grace periods to their clients. As Milaap's field partners stopped receiving repayments, they could no longer pay Milaap, and at some point, Milaap was also unable to make repayments to Lendahand. After the withdrawal of quarantine and moratoria, the MFIs were able to slowly restart their operations.
The economy had taken a big hit, and not all end clients were immediately able to resume repayments at the same pace. The field partners and Milaap itself have since caught up tremendously. At the time Milaap ran into trouble, there was a debt of EUR 2.1 million outstanding to the Lendahand crowd. In December 2022 that is "only" EUR 380,000. Milaap has now repaid EUR 1.7 million (plus interest), over 80% of the outstanding amount.
Unfortunately, a number of field partners are still not completely on top of it, and Milaap's repayments to Lendahand have also decreased in frequency and size. However, we are still faithful that we will one day be able to fully repay all Lendahand investors who have lent to Milaap.
Q: Do bankruptcies also occur?
Unfortunately, bankruptcies occur and will result in a partial or total write-off of outstanding principal and interest to Lendahand investors.
Once a borrower cannot meet its payment obligations to Lendahand, Lendahand itself can place a claim and thus initiate the bankruptcy process. However, this is generally not our preference, as the returns to the crowd from such a process are highly uncertain (and they are lengthy processes). Moreover, it usually deprives the company of the opportunity to restructure and pick up where it left off. So we generally opt for restructurings first to keep the chances of repayments as high as possible for the crowd and to give companies every opportunity to continue creating impact.
It is true, however, that other lenders, as well as suppliers, the government, or employees, can eventually declare the company in default in the event of a default and thus start a bankruptcy process. That being said, Lendahand does not have this process entirely in its own hands.
To the crowd, Lendahand, in principle, only writes off debt when there is either a formal bankruptcy or when we have formally agreed to (partially) write off the debt in a restructuring process. Such a restructuring process can also take place at the moment a new buyer/investor wants to take over the (nearly) bankrupt borrower and requires existing lenders (such as Lendahand) to write off all or part of the outstanding debt. Lendahand then has to choose between letting the company go bankrupt (with a high chance of being left with nothing from the bankruptcy process and the loss of jobs and impact), or accepting a (large) loss, but allowing the company to restart. This is a very difficult choice for us to make.
At Lendahand, the default rate is currently 1.7%. Of the total outstanding loan amount, 12.4% is in arrears, and 3.1% of the outstanding amount has been restructured and is performing as expected since the restructuring. A detailed and updated overview of the portfolio is to be found here: Portfolio Overview
Q: Do you have an example of a default?
Unfortunately, solar energy company Redavia recently (fall 2022) ran into payment problems. This is very painful, as Redavia was one of the largest borrowers on the Lendahand platform and is also very popular with the crowd.
Currently, an insolvency administrator has been appointed at Redavia to ensure that the bankruptcy proceeds in an orderly manner and that creditors - including Lendahand - are repaid as much as possible. So it is not the case that all of Redavia's loans have already been fully written off. Some 40% of the outstanding amount is expected to be recovered.
There are numerous factors that led to Redavia's insolvency. The main immediate cause is that Redavia, as a loss-making company, was dependent on countless successful equity capital raises. The company was quite successful in finding equity and debt financing in the past. In addition, the company was also doing well in growing its portfolio of solar systems with industrial customers in Ghana and Kenya. However, the company's growth and loss-making position ultimately proved too big a hurdle to overcome for a number of prospective new investors at the last minute. Because these investors pulled out late in the process of raising new equity capital, there was no time left for Redavia's management to look for alternatives.
Q: What are the lessons learned? Are additional measures needed?
It is clear that direct investments in young impact companies in emerging countries are, by definition, 'higher-risk' investments. The companies that have already 'made it' no longer need Lendahand. They can get much larger financing on more favorable terms elsewhere.
To give opportunities to young impact companies, we will unfortunately have to accept that there will occasionally be companies among them that cannot make the growth plans come true and will not repay their loans or will repay them too late. However, there are several measures we will take, including
- Requiring higher solvency from the company at the beginning of the partnership;
- No longer lending to parent companies / holding companies but only to the operating entities;
- Requiring collateral at all times;
- Offer shorter maturities;
- Provide access to the Lendahand platform for shorter periods of time;
- Charging higher interest rates.
The consequence of these measures will be that, unfortunately, fewer - potentially high-impact - direct investment opportunities will be offered. In the longer term, it does ensure a more balanced, higher-quality portfolio.