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FinVolution emerges as Fintech lending leader after industry overhaul

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The direct lender-turned-loan facilitator announced better 2021 results than two of its peers who also reported earnings last week, sending its shares up 30%.

Online lending can be a lucrative business with plenty of opportunities in China. It is the world’s second largest economy after all, and there is no shortage of consumers and businesses looking to borrow. The million-dollar question is how best to capitalize on the vast demand for credit in the country: by lending out of pocket or by acting as an intermediary for other lenders?

While direct lending offers businesses the opportunity to earn interest and reduce intermediary fees, it comes with heavier regulation and higher risks of potential defaults. The facilitator role carries lower regulatory and default risks, but relies on less lucrative fees as a primary source of revenue.

At least for now, the answer to which model is best seems to be lending facilitation, as the latest financial results of FinVolution Group (FINV), Lexin Fintech Holdings Ltd. (LX) and Qudian Inc. (QD) show. All three were direct lenders until a few years ago. But then a severe regulatory crackdown prompted them and their peers to rethink their future.

FinVolution is now entirely an online intermediary between borrowers and banks. Qudian remained with the direct loan. Lexin falls somewhere in between, shifting to a lending facilitator model while also continuing some of its own direct lending.

A look at the trio’s latest results released last week shows that their fortunes diverge, based on their trading patterns.

At FinVolution, net revenue rose 32% to 2.5 billion yuan ($384 million) year-on-year in the fourth quarter of last year, as total trading volume increased by more than 80%, according to his latest results released last Monday. Net income for the whole of 2021 rose 25% to 9.5 billion yuan, as loan facilitation fees nearly doubled. This growth has come at a cost, with sales and marketing expenses increasing. But in the end, the annual net profit for the year also rose 27% to 2.5 billion yuan.

The company disclosed the volume of loans on its balance sheet through 2020, but stopped doing so for its 2021 results. This suggests it no longer originates its own loans.

Unlike the other two, FinVolution will continue to pay dividends. It will pay a cash dividend for the year of $0.205 per American Depository Share (ADS), which translates to a payout ratio of around 15%, stable compared to the 2018-2021 average.

Lexin’s latest results, revealed the day after FinVolution, was bittersweet. Its total operating revenue fell about 27% to 2.2 billion yuan in the fourth quarter from a year earlier, while net profit attributable to shareholders fell by nearly half.

For the full year, however, Lexin’s profits nearly quadrupled even as revenue fell. This was possible because provisions for loan losses have decreased significantly. This suggests that the drop in income was due to a greater focus on stronger borrowers, which inevitably led to a slowdown in lending activity. Such caution is likely appreciated by shareholders, although the drop in earnings could spook some growth-oriented investors.

No encouragement for Qudian

Qudian’s revenue report released last Friday offered little for investors to cheer about. Total revenue evaporated nearly 90% year-on-year in the fourth quarter to 378.9 million yuan, pushing the company into the red for the three months. Total revenue for the whole of 2021 fell by more than 50%, leading to a decline in annual net profit of approximately 39%.

The results weren’t completely without positives, however. Like Lexin, Qudian significantly reduced its provisions for bad debts last year as delinquent loans fell, likely due to efforts to avoid subprime borrowers. The company has also downsized WLM KIDS, an after-school tutoring business. That makes sense, as tutoring is another area Chinese regulators have come under heavy criticism of late, and it’s also well outside Qudian’s core jurisdiction.

Being a fintech direct lender is tough these days. Beijing is seriously considering limiting aggressive lending from these inexperienced internet platforms to avoid the waves of defaults that may ensue. Chinese regulators cracked down on peer-to-peer (P2P) lenders in a campaign that peaked in 2018, bankrupting many companies and forcing companies like FinVolution, Lexin and Qudian out of the business. China’s Supreme People’s Court has thrown more cold water on the industry by reducing the maximum interest rate for private loans protected by law in 2020.

As the government’s attitude towards private lenders evolves, risk management has become paramount for fintech financiers. Weeding out potentially bad borrowers is key not only for direct lenders, but also for loan facilitators like FinVolution and Lexin.

Although a real intermediary would not have to worry about borrower defaults that he presented to the real lenders, FinVolution and Lexin have agreements that expose them to some liability when the loans they arrange for their lending partners are in default. They have therefore made provisions for such events, although they sometimes release the money if the actual loan losses are lower than their projections.

The quality of loans facilitated by FinVolution has improved somewhat. Loans past due for 90 days or more fell to 1.26% of its total at the end of 2021, from 1.56% a year earlier – already low by industry standards. Lexin’s ratio stood at 1.92% at the end of last year, similar to the level 12 months earlier. Qudian did not provide a comparable figure in its latest report, although it said the delinquency ratio on any given day was around 5% at the end of February.

This indicates that FinVolution has a better borrower screening system, allowing it to continue to grow its business while limiting the risk of default. Investors seemed to understand this, with shares of FinVolution soaring more than 30% through last Friday following the release of its latest report. The stock now trades at a price-to-earnings (P/E) ratio of 3, compared to 1.68 for Lexin and 1.41 for Qudian.

Although Lexin and Qudian’s results were more disappointing than FinVolution’s, investors may still have focused on signs of improved risk control. Shares of both companies rose in the days following their announcements, but by less than those of FinVolution.

For all three companies, the days of uncontrolled growth are long gone. In the new, more regulated environment, the fintech lending game is all about having fewer issues to worry about. With a leaner business model that frees it from the headaches of being a lender, FinVolution looks set to thrive.

Disclosure: Any

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Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.