With new money flooding into the motor finance market, the potential for partnerships, and even integration, between investment companies and industry operators is growing. Jonathan Minter speaks to DSG’s Richard Hoggart about Unity, the broker’s new lending business
As motor finance has recovered from the recession, new money has flooded into the market, both in the form of outside capital looking to buy into the market, and new players looking to compete for business.
In many cases, the two go hand in hand. Investment companies may lack the in-depth industry-specific knowledge of the market and the relationships so important to succeed in this industry, while those looking to launch a lender or company may have the industry-specific knowledge and relationships, but lack capital and potentially other types of expertise that an investment company experienced in launching companies might have.
According to Richard Hoggart, MD at DSG, this was the case for the broker in 2015 when it looked for outside investment in order to improve the business: DSG intended to launch a lending business.
The aim was not to do this instead of broking, DSG’s traditional business, but instead to lend as well through a separate business called Unity Facilities.
In order to do this at the scale they wanted, Hoggart and the management team at DSG acknowledged outside investment was necessary: “What we thought was, if we’re going to this, we’re not just going to do it small scale with bits and pieces of funding and a little block discounting arrangement; we wanted to do it on a larger scale.
“To do that we needed an outside investment, someone to bring a little gravitas to what we’re doing, and to bring us a lot of expertise and access to further funds in the future”
To that end, DSG employed Grant Thornton to look at what funding opportunities were out there, and this led to an introduction with Promethean Investments.
Discussion between the two progressed quickly, and a deal was initially agreed by the end of 2015. The deal still required regulatory approval from the Financial Conduct Authority (FCA) and this did not come until February, after which the teams at DSG and Promethean were able to begin putting their business plan for Unity into action.
In the time since, the team at DSG has been busy building the required systems, and getting everything set up for the launch.
This has included creating a new score card, and an underwriting process with various levels to it. It has also included integrating new elements of technology from companies and bureaus that DSG hadn’t previously worked with, and some bank referencing software.
“We’ve done considerable work in making sure we’re able to underwrite, and assess affordability, and all the elements to make sure we’re making the right decision in the first place,” Hoggart notes.
At the same time, the team needed to decide how it was going to tackle the issue of collections and servicing the agreement. In the end, it was agreed outsourcing these processes would be the wise choice, and Marsh Facilities Management, part of the Marsh Finance Family, was chosen.
By choosing to outsource this to Marsh, Hoggart says: “This negated the need for us to build our own collections department at great expense, and therefore we didn’t have to bring in all the expertise for that either.
“We were the first to admit that there is not the expertise in the business for collections, because it is not an element we’ve done in the past. So to get an outside organisation in to do that made a lot of sense for us. “
Without the need to build a collections department, DSG has not needed to bring in any senior staff specifically for Unity, as both DSG and Promethean are confident the existing management team has the capabilities necessary for the new business.
As a result, Hoggart says: “One of the great things about setting this up for us is it’s actually quite low-cost to get it going, because a lot of the expertise is already here. And of course we’ve also got the expertise of the guys at Promethean as well.
“So we’ve got their experience of this market, and they can see some of the potential bumps we might hit down the line, and help us deal with those through their own management team.”
In terms of where Unity is targeting, Hoggart says it will be around the “marginal prime” area.
He adds: “Not dissimilar to what a lot of other people are doing, we’ll be looking at a muti-tiered product, which will start just past what you would call the prime area, and moving into a mid-level of subprime. So cutting right into the very heart of the volume business we write.
“So we’re not looking to do business at 9.9% APR – that’s not us – but we’re also not looking to do business up in the 30s, either. We think our average APR is likely going to be around the 24.9% mark. We’ll go as low as 18.9% to begin with, and we’ll see what we can attract with that.”
DSG already has lenders in its portfolio which cover these areas, however Hoggart says for the company’s own development, this is the area where Unity can get the best return for the best balance of risk.
This obviously leads to questions about DSG’s future relationship with lenders. As a broker, DSG requires a relationship with a number of lenders in order to offer its dealer partners the best chance of finding a finance deal for their customers.
If DSG is now looking to lend as well, might this not put them in competition with some of the lenders they work with?
According to Hoggart, this was asked heavily during the due diligence phase of the Promethean investment.
When asked what would happen to these relationships if Unity began to cannibalise the volume of DSG’s lender partners, Hoggart responded saying: “We don’t think that’s going to happen because we’re on a growth curve where we believe we can comfortably maintain and continue to grow what we’re doing with most of our lenders, while at the same time satisfying our own requirements as well.”
This growth is the result of some significant investments at DSG, and the company’s success at account acquisition.
“If we were just going to maintain volumes, you could argue somebody was going to suffer, and ask how they would react to that. But we don’t think that is necessarily going to happen,” he adds.
On top of this, the two businesses, Unity and DSG, are two legally separate entities, and the only people who can influence them are the board members. From the perspective of DSG staff, Unity will simply be another lender on DSG’s panel.
As a result, Hoggart promises: “You’ll never get inside pressure to say ‘we’ve got a lender, we want to get a deal done, why don’t we do this with our own lender?’
“This situation where sales try to influence credit, that can’t happen at Unity. There are no shared staff other than the board.”
In addition to this point, DSG’s internal screening system, Fibre, will also look at customer entries to ensure the customer is placed with the best placed lender to maximise the chances of acceptance – whether that is Unity or a different lender.
Fibre works by looking through policy rules and soft-search credit data, and makes a determination based on the scoring criteria DSG has set for all its lenders.
So if, for example, a customer comes looking for finance, and Fibre says the customer is suitable for three dealers, Unity, X and Y, it will then look at the three and analyse the financial aspect of the deal.
If lender X pays more commission than Y or Unity, yet the customer will get the same offer regardless, the system will automatically select X over Unity or lender Y.
In theory, this system is highly automated, however the current plan is to soft-launch Unity, and so for the first six months the company intends to add more manual elements to Fibre when Unity is selected as a potential lender.
Hoggart explains: “While the system might identify that Unity is going to be an appropriate lender, we might decide it’s not going to be a Unity deal anyway.
“We may look at an application, and say ‘that looks nailed on as a brilliant Unity opportunity. As part of our testing, let’s do that deal.’ But if it identifies 20 in a day, we might say that’s not what we’re looking for, we just want three or four in a day. So we’ll let the rest go to lenders which the deals may have already gone to.”
The reason for this is to ensure the system is working well and that the criteria have been set correctly, by removing volume and time pressures to get these deals done.
“We can afford to let people assess whether the system has made the right decisions; that’s critically important,” Hoggart adds.
Assuming the soft-launch goes well, the plan is to ramp up lending volumes around the spring period in 2017. The aim for the first three years is quoted as being around £90m over the period.
Reasons for the launch
There are a number of reasons why Unity has launched. One reason is to make the broking arm more attractive to dealers, and help with dealer acquisition and retention.
Unity will remain exclusively available to dealers through DSG, which adds a reason for a dealer to select DSG over a competitor.
DSG isn’t alone in looking to lending as a way of increasing the deal, and Eurodrive is another example of a broker that has some form of lending capacity.
“There is a lot of sense in this because, plain and simple, you make a lot more money lending the money yourself than just receiving the commission from it, on the caveat that the customer pays,” Hoggart says.
“I think the way some of the smaller brokers see it is that lending might provide a nice long-term return for them. It would make a lot of sense for a lot of brokers,”
In many ways, now is also the perfect time, as block-discounting funding is readily available for brokers that can present sensible business plans – and successful brokers planning to launch some sort of lending capacity should have a decent level of liquidity after several years of rapid business growth across the majority of the motor finance industry.
As a result, Hoggart concludes: “Don’t be surprised to see more people doing it; it makes perfect sense to me.”
As DSG’s FCA licence is to act as a credit intermediary, Unity needed to apply for a fresh licence in order to act as a lender. For other brokers looking to set up a lending arm, Hoggart notes the decision to outsource the collections side of the business to Marsh paid an extra dividend in this regard.
“The one thing I have become very aware of is if you are applying to become a lender, and you tell the FCA your plans for collections involve setting up your own collections, and you’re going to employ all these people and so on, I think you’re going to find it very hard to get a licence from the FCA.”
Even with this, he says getting authorised involved going through many hoops, with lots of questions around potential conflicts of interest.
“If you’re thinking of doing this in the future, you need to get your application in, because it’s not a quick process.”
Unity applied and obtained its licence early on, and as a result is fully authorised and is free to do its lending business.
With the launch of Unity, DSG has added a weapon it its arsenal, as it has added an additional revenue stream, thanks to the relationship between DSG and Unity,
Unity also doesn’t face the same questions about reaching the market as other new lenders: Even though DSG won’t favour Unity over other lenders, the fact remains it will be on DSG’s lender panel, something other new lenders cannot guarantee.
From DSG’s point of view, having Unity as an exclusive lender on its panel will also give it another value-add to give to dealers, improving its service as a broker.