What are the biggest opportunities in China’s digital finance industry?

China is undoubtedly a very appealing market for Venture Lab. The country’s strong economic growth, rapid adoption of technology, and growing pool of highly-educated talent complement the inherent potential coming from the sheer number of underserved customers across the country who are currently lacking financial access; that figure stood at 234 million as at end of 2014 according to CGAP and the World Bank.

As with other growing markets, we are excited to better understand what the Chinese fintech startup landscape looks like — and to explore potential opportunities for us to support those startups that have significant potential to extend better access and quality of financial services and products to the Chinese population.

High internet penetration in China has fueled the rise of the internet finance industry, which by definition, includes any organization that extends their financial applications to the public over the internet. According to the China Internet Network Information Center, in 2014, 48 percent of the Chinese population, or 649 million people, were internet users – with mobile phones being the top medium for access.

Internet Use / Methods of Access China

From our research, we were able to identify a number of factors that have helped drive the growth of internet finance in China:

Our Research China Internet Use

While internet finance in China is still in its infancy, it’s still very appealing to impact investors.

The online lending sector presents the most investment opportunities with the potential for social impact. There’s also a significant amount of potential in credit scoring and third party payment, but those markets are relatively difficult for startups to break in to.

P2P lending: Main driver of growth of China’s internet finance industry

P2P has been driving the growth of China’s internet finance industry, however, based on data collected by Wangdaizhijia, a portal that provides Internet lending information, P2P is also the most controversial as nearly 50 percent of the platforms have been found to be problematic, as many of them are fraudulent platforms that were established primarily for illegal fundraising activities and management teams are absconding to avoid liabilities.

p2p Operating Plaftforms

P2P platforms in China can be summarized into three categories, with most platforms adopting the online and offline model, where the online platforms serve to both acquire investors and source and review loan applications; they also partner with offline microcredit and guarantee companies to provide additional quality borrowers. These microcredit and guarantee companies will also provide a full guarantee to the loans they’ve sourced for the P2P platforms.

p2p Platform Types

Online third-party payment

Significant market potential also exists in China’s online third-party payment sector, with a rapidly developing e-tailing market, which encompasses online sales to consumers by merchants of all sizes, according to the McKinsey Global Institute. Alibaba and Tencent are currently dominating the online third-party payment market.

Transaction Volume E-tailing China

Credit scoring

The credit scoring industry remains nascent and is primarily controlled by the government; 8 private companies obtained approval to initiate pilot programs to provide consumer credit services in January 2015.

Industry Overview

Potential investment opportunities

Reviewing the various subsectors within the internet finance industry in China, it’s clear that the industry has a great deal of potential to create positive economic and social returns by bringing financial services to the underserved individuals and enterprises. Still, it’s important to remember that there are still some unresolved issues that should be addressed:

P2P: Huge market and very active with lots of startups

  • Social impact angle with platforms lending to micro, small, and medium enterprises, as well as to China’s middle to low-income population
  • Requires comprehensive due diligence as many platforms are problematic and uninvestable

Online / mobile 3rd party payment: Relatively mature market with existing players capturing market from the majority of internet users

  • Possible to explore impact investing opportunities with payment startups focusing on meeting the needs of particular underserved population segments, such as farmers

Credit scoring: Underdeveloped sector, but it’s still difficult for small startups to enter, obtain necessary regulatory licenses, and reach scale with existing markets dominated by established internet companies and credit rating agencies

  • Opportunities may come from ancillary segments (i.e. credit buildup and management)

Other considerations

Sector regulations are expected to be released by respective commissions later this year or early 2016 to provide a more detailed framework for industry players to both promote the growth of the industry and consumer interest.

Whatever regulations come about, the new policies could bring industry reshuffles and may raise entry barriers for new startups. Still, we remain hopeful that any new regulations will guide the industry toward healthy and sustainable paths.

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