Direct lending is providing direct finance to borrowers, especially small and medium-scale borrowers. Under direct lending, the transaction happens directly between the lender and the borrower without any middlemen, broker, or investment bank. Interestingly, direct lending has gained popularity after the 2008 financial crisis fiasco that resulted in stricter bank regulations for sanctioning loans to small-scale businesses.
There’s no doubt that the rise of digitization in the finance field is an emerging trend of the modern world. This trend has also taken roots in the debt market. Generally, traditional banks find it difficult to finance small and medium-scale companies or SMEs due to their strict regulations. On the other hand, private lenders are helping SMEs access capital by providing loan facilities on digital platforms.
Small and Medium-scale companies constitute a large part of a country’s economy and create a huge job market. Although SMEs are a major part of the economy, they find it difficult to finance themselves due to various risk factors and low credit history. This is where direct lenders come into the picture.
Generally, direct lenders are less risk-averse than traditional banks. They are ready to bear the risk of credit failure in return for higher yields. This makes it easier for them to fund the growth of SMEs. But how does a direct loan work exactly?
Important features of direct lending
The most important feature of direct lending is the fact that it is unregulated unlike syndicated loans, which ultimately mean more flexible and quick loans. On a broader level, direct lending caters to borrowers who are typically SMEs. On the other hand, the lenders can be wealthy personalities, crowdfunding sources, asset management companies, or business development companies.
The entire framework of direct lending works on the asset managers pooling funds obtained by investors and then providing loans to borrowers typically with smaller credit histories or reputations. These loans can be First lien, Second Lien, or Unitranche debt. Under the First lien, the loan repayment enjoys first priority as compared to other debts. The second lien enjoys priority after a senior lien, whereas the Unitranche debt is a hybrid loan structure composed of senior and junior debt styles.
Direct loans usually work with floating interest rates and have a shorter maturity duration of 5-7 years. These kinds of loans also come with stronger covenants for better security of the deal. For instance, one of the conditions could be that the borrowing company has to maintain a specific debt to EBITDA ratio or a maintained debt load.
As compared to traditional loans, direct loans give a window of better negotiations between the direct lender and the borrower. Due to fewer parties involved, the communication channel is shorter as well as simpler. There’s no doubt that direct lending is borrower-friendly, however, lenders also tend to enjoy higher returns on direct loans. The terms of the direct loan contract can be easily negotiated and maintained as per both the borrower’s and the lender’s requirements.
Future of direct lending
The last couple of years has proved quite turbulent for the global markets. In such a situation, boosting the growth of an economy requires easier sources of finance. Moreover, these finance sources need to be safer and affordable, especially for the lower-income groups.
Direct lending is an excellent source of finance during a situation where traditional sources of money cannot meet public demands. According to the Department of Statistics Malaysia, the SMEs growth in Malaysia will see a decline of over 7% in the year 2020.
To boost the growth of SMEs in Malaysia, alternative sources of finance like direct lending can play a major role. Where banks and governments cannot come to the rescue, direct lenders can fill the gap. For growing companies, time holds a lot of value and direct lending facilitates a faster and robust mechanism of funding.
As the demand for funds for small and medium-scale businesses is growing, direct lenders can become a key player. Due to the absence of traditional lending regulations, direct loans can be accessed quicker by borrowers. This will ensure faster funding of the working capital as well as quicker decisions for the growth plans of a company.
Working with a direct lender like Direct Lending ensures faster and safer loans. This is a platform where you can also check your eligibility for free if you meet the requirements for a loan and get additional tips. The application process is quick and online. On meeting the requirements, the loan can be accessed within 2 days to 2 weeks.