Editor's Note: This article was first published in the November 2015 issue of First Annapolis' Navigator. © First Annapolis Consulting. Reprinted with permission.
We recently interviewed Max Levchin, the CEO and co-founder of Affirm, a next-generation financial services technology company offering consumer credit at the point of sale. In this Q&A format we discuss Max's view on the future of financial services and how Affirm is re-thinking retail finance for Millennial consumers.
Max Levchin is co-founder and CEO of Affirm, a financial services technology company, and chairman of Glow, a women' s reproductive health company. Both companies were created and launched from his San Francisco-based innovation and investment lab HVF (Hard, Valuable, Fun). Max was one of the original co-founders of PayPal, where he served as the CTO until its acquisition by eBay in 2002. In 2002, he was named to the Technology Review TR100 as one of the top 100 innovators in the world under the age of 35 as well as Innovator of the Year. In 2004, he helped start Yelp, the ratings and review service where he was Chairman of the Board from 2004 until 2015. Max also serves on the boards of Yahoo, Evernote and the U.S. Consumer Financial Protection Bureau, and he is an active investor in early-stage startups.
1. Since PayPal, you have founded a number of businesses outside financial services such as social app developer Slide and fertility app Glow. Why was this the right time to come back to fintech with Affirm?
For starters, I had this realization after my gaming company Slide was acquired that entertainment wasn't something I was deeply passionate about. I was experimenting with a few ideas through HVF and, when I first started thinking about Affirm, my wife told me, 'You are a fintech nerd, and you love doing this, and you are good at it.'
So, four years ago, me and my co-founders Nathan Gettings (a co-founder of Palantir Technologies) and Jeffrey Kaditz set out on a mission to revolutionize consumer finance based on two premises: first, that the math behind traditional underwriting and the FICO credit score is outdated and not truly reflective of the pace of change in the 21st century and, second, that people deserve products from companies that are honest, transparent and fully aligned with the best interests of the consumer.
We also saw a growing disconnect between traditional financial institutions and Millennials. They had a front row seat to the 2008 financial collapse during their formative years. They saw their parents' houses sold short, things repossessed, credit cards pulled and rates increased. That created a lasting impression amongst Millennials that banks just don't have their best interests in mind. Still today the four largest U.S. banks are all among Millennials' 10 least-loved brands. We saw a market opportunity and got to work building Affirm.
2. Affirm has a much more streamlined application and servicing experience than traditional retail credit programs. How meaningful has this been – what kind of unique impact have you been able to deliver for your merchant clients?
We have streamlined the purchase experience so that customers can check-out with just a few personal, top-of-mind details. For new customers, we typically just ask for their name, email, date of birth, and the last four digits of their social security number. The experience for repeat buyers can be even quicker. In either case, applying for Affirm can be easier than using a credit card and is definitely easier than applying for a private label credit card. The impact is that we turn window shoppers into actual purchasers – our merchants tend to see a 20 to 25 percent increase in conversion across both mobile and desktop channels. They also tend to see an 80 percent increase in purchase size.
Merchants can also get a whole new set of buyers with Affirm. While 63 percent of Millennials do not have a credit card, younger people seem to love Affirm. Thirty-nine percent of our users are Millennials and another 33 percent are Gen X/Y. Affirm is a great solution to provide credit for younger consumers.
3. Retail lenders have long had challenges with higher loss rates from online applications. What is Affirm doing to innovate in online risk assessment?
Banks know a lot about how to assess credit risk, but they are deeply rooted in green screen computer technology that was developed back in the 1960s. These days life moves a lot quicker. The FICO score, which is the way most banks assess creditworthiness, is a tool that was invented in 1983 and has remained largely unchanged ever since its inception. Today, 8 percent of the adult population has credit records that are considered unscorable based on FICO. Those records are almost evenly split between the 9.9 million that have an insufficient credit history and the 9.6 million that lack a recent credit history.
Meanwhile, over the last 15 years or so starting with PayPal, I have been focused on how to get quicker and better at this very same risk management challenge.
There's actually no secret sauce in risk assessment. There are two distinct technical problems, identity and fraud management – are you who you say you are? And that's a challenging problem, but there's a lot of really fascinating stuff you can do there. The second problem is credit underwriting – do you have the money to pay back the loan and do you have the intention of doing so? There is really no secret sauce here. You need to understand what people have, what they earn, what their debt-to-income ratio is, and you build a model. The thing you have to do as a new entrant to this industry is that you have to learn very quickly. Banks have had decades of advantage looking at this stuff, but we can learn a lot quicker and faster with less overhead and minimal losses.
Our modern underwriting and risk models allow us to identify far more creditworthy people than FICO, which means new customers for merchants and improved access to credit for more people. We can approve 97 percent of super-prime applicants (versus 86 percent for a FICO-based lender) and 53 percent of sub-prime applicants (versus 17 percent for a FICO-based lender). We can also price our loans lower, which increases consumers' buying power. On a 12-month loan, we are less than half the typical cost of a credit card for a super-prime borrower and about two-thirds the cost for a sub-prime borrower.
4. With so many new entrants to the fintech space, our major retail clients often have a hard time separating the signal from the noise. How has Affirm built its technology and processes to support large national merchants at scale?
We built an in-house technology and servicing platform that can service any size merchant with minimal integration time and resources. Our products are also fully omnichannel, which is very important for our largest prospective merchant partners. We have also constructed and secured a balance sheet that can absorb large volumes and peak seasonal growth.
Some of our largest brand partners today include One Kings Lane, BCBG, Tradesy, the smartphone manufacturer Huawei, the online mattress brand Casper, and the national professional education provider General Assembly. We are also available as a financing option to thousands of smaller merchants on platforms like Shopify, Magento, Demandware, and others.
5. Affirm recently announced it will make the leap into the physical store environment, which is exciting because the vast majority of retail sales are still conducted offline. How can retailers enable Affirm in-store, and what will the customer experience look like?
We recently enabled Buy with Affirm for both telesales and in-store purchases.
Telesales representatives can use what we call our "Virtual Terminal" to remotely initiate an Affirm loan application which the buyer then completes on their own mobile device for security. The approval is of course instant and both the shopper and the salesperson are informed of the decision immediately.
Affirm is also now available for purchases in smaller brick-and-mortar stores through Affirm's integration with First Data's Clover line of tablet POS terminals. We think this is the first example of "purchase financing-as-an-app" on the market. Thousands of brick-and-mortar merchants that have Clover terminals can seamlessly enable the Affirm payment option without each having to integrate to our system. Once Affirm is enabled, the consumer can initiate their loan application on the Clover device at the point of sale.
We have also created a third model using MasterCard virtual cards to dramatically simplify the large merchant integration effort to test and offer Affirm. After completing their application, buyers receive a pre-approved, secure, single-use card number locked to a specific merchant and amount. They can use this virtual card at checkout in store or online. For the merchant, it is processed and settled like a typical MasterCard prepaid transaction.
6. What do you think payments will look like in five or ten years? What will Affirm look like?
We believe the cost of interchange will be pushed down to nearly zero either by the market or by the government, which has already happened in Europe. When this happens in the U.S., credit card rewards programs such as airline miles and cash back bonuses that are funded through interchange fees will cease to exist. This will be great news for every merchant who was paying to subsidize rewards for other merchants. This will also create a new market for standalone rewards program management and distribution.
Our goal with Affirm is to build an honest, transparent financial technology company that people love.
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