The ways in which the internet changes our lives continues to grow, enabling us to do things faster, cheaper and better online. Raising finance is no exception, particularly for our smaller businesses.

The reliance on traditional forms of finance for many businesses has ended. The internet has given many businesses a source of finance which previously did not exist. Of all the various online financing products, generally referred to as crowdfunding, the greatest growth has been in peer-to-peer lending (P2P). This involves a borrower, a platform (the intermediary and the internet provider) and a crowd of lenders.

In the UK the amount of finance raised through P2P lending between 2012 and 2014 rose by 250 per cent representing over £1 billion of finance and it continues at this rate (Nesta, 2015).

This growth is reflected in other European jurisdictions. From a global perspective, a recent report from the Association of Chartered Certified Accountants highlights the spectacular rise in P2P lending in China showing that it is the largest alternative funding market in the world. To say this source of finance is a flash in the pan is to ignore reality.

In all European economies the influence and contribution of smaller business entities, often described as micro-entities, has been immense in recent years. P2P, although very much in its infancy in Malta, is likely to be similar to other EU jurisdiction at providing an alternative to traditional forms of finance, in particular those of banks, and bridge the supply gap.

In Malta, 95 per cent of the business entities are categorised as micro businesses and account for 35 per cent of those employed in the private sector in Malta. It is these enterprises that suffer from a surfeit of finance. The Malta Business Bureau, in a 2013 study, estimated that 30 per cent of local enterprises find it difficult to access the finances they need to develop their products.

P2P platforms are in fact very conservative with rejection rates from an initial screening of up to 99 per cent

Looking in more detail at P2P lending, the Nesta study, referred to earlier, indicated that by far the majority of the businesses were borrowing relatively small amounts and the average amount borrowed being £73,000. The main uses of the borrowed amounts were investments into working capital which supports the evidence of the needs of these smaller enterprises and for the purchase of capital equipment. Around 80 per cent of successful borrowers had previously sought finance from a bank, 63 per cent of those who obtained funding saw a growth in profits and 53 per cent an increase in employment. This suggests that those obtaining funding were in the main sustainable businesses. From the lender’s perspective the largest population of lenders were those providing between £1,000 to £5,000. This clearly shows that P2P attracts small investors and gives them opportunities to invest in businesses which may have been too cumbersome to do so previously.

The main concern and constraint in P2P lending meeting its full potential is the perceived risk of the investments. If investors begin to see failures and their investments are not making money because of bad debt levels then they will stop lending or find alternative places to invest. It is the platforms that effectively assess the credit risk.

Many have argued that it is the lack of regulation of this alternative finance that is a source of worry as it enhances the riskiness of this market as compared to traditional finance markets. Recent research commissioned by the European Commission’s Financial Services User Group, however, indicates that platforms are in fact very conservative. The study found rejection rates from an initial screening by platforms between 70 to 99 per cent and overall failure rates of borrowing very low.

The evidence also indicates that managing project risk is a key focus for platforms and they have developed specific risk tools to assess the risk of borrowers and their investments. Additionally, the study showed that 60 per cent of their respondents invest less than 10 per cent of their savings and invariably adopt a portfolio strategy to their investments. This indicates that the investors are more conservative than some assume. However, sympathetic regulation in respect of the alternative finance industry from the regulators is bound to enhance the stability of this market and reduce the credit risk of investors.

It seems, therefore, that P2P lending will play an increasing positive role in our economies.

Robin Jarvis is professor of accounting at Brunel University, UK and holds the Malta Institute of Accountancy chair in Financial Reporting for Small Entities at the University of Malta.