Two of my friends work at a Affirm — an online consumer loan company that aims to one day be the future bank. Founded by one of the Paypal Mafia, Max Levchin, Affirm allows everyday consumers to finance large purchases into smaller, more manageable chunks.
For example, if I wanted to buy a pair of really nice leather boots for $300 but simply don’t have the money, I can go to Affirm and split this purchase into a 3 month, a 6 month, or a 12 month payment plan. Boom, I can suddenly afford my amazing new boots and Affirm now can gain a little from interest!
Why is this impressive?
Anything dealing with payments and finance is already hairy and impressive. Affirm seems to take this a step further because they are trying to revolutionize and directly compete against incumbent banks without the advantage of a capitol base.
Let’s take a step back and understand the business model.
- Affirm makes money from giving loans to consumers. Then, within 3, 6, or 12 months, they will either get the money back and some, or they will lose their entire investment (loan).
- They will generally receive around (I believe) 10% interest on top of the money loaned out
- They believe their competitive advantage against incumbents is they are not using FICO, one of the older, more established credit scores. FICO uses systematic indicators such as mortgage payments and history, but Affirm believes that those numbers are kind of bogus. So they are attempting to reinvent it. This means that Affirm could potentially give loans to a huge market that banks will not touch.
- Affirm needs to eliminate fraud — these are the malicious, bogus, and evil tricksters who want to take money and never pay back. Affirm also needs to iron out their indicators for understanding an unreliable candidate (the Joe Smo that really, really wants those boots, but is actually a total bum, cannot actually hold a job because he’s a lazy fart, and seriously should NOT be trusted to take out a loan).
Now — what I find really impressive is that Affirm doesn’t have the base of consumers gladly pouring in money into Affirm for safekeeping (and to create loans!). This means that Affirm lends out money… by loaning money from the banks themselves!
When I cash my paycheck at Wells Fargo, I’m doing this b/c I don’t wan’t wads of cash floating around in my room. Also, Wells Fargo insures up to I believe $200K, so I feel like Wells Fargo, with it’s armed guards and metal doors, can probably do a better job of protecting my hard earned moolah. As an added bonus, I can maybe get about .01% interest, which, hey is not bad. The excellent part is I can now take that Wells Fargo money and turn it into some better investments, like into several shares of ownership of their competitor, JPMorgan Chase (which has been doing very well, you go JPM). Wells Fargo, in turn, takes my money, and can lend this out to other folks with a fat 5-10% interest (or whatever). Essentially, I fronted over a loan to Wells Fargo for .01% interest, and they pack in a really nice spread of 4.99%-9.99% interest.
Nicely done, Wells Fargo! To get this dirt-cheap consumer money, they have pay for the consumer banks presence, hire some bank tellers, and maybe buy a few couches so the banking experience is nice. I’m simplifying this considerably, because consumer-banking is a huge expense. Affirm does not pay for this.
Instead, Affirm probably takes a 3-5% loan (lower than for consumers because of their reputation and economies of scale) from Wells Fargo as the base.
|Item||Affirm||Incumbant Banks (any commercial bank)||Competitive Advantage for Affirm?|
|Bsn Model||Interest on given loans||Interest on given loans||Same|
|Capitol Base||Loans from Banks at likely a costly interest rate||0.01% interest on Consumer Checkings/Savings accounts (essentially, free money from anyone who banks)||No|
|Loaning Policy||No Hidden Payments||Nickle and Dimes to Increase Profit||No|
|Overhead||No Costs||Brick and Mortar Stores||Yes|