SINGAPORE (May 7): Kelvin Tan, chief investment officer of investment firm GTR Ventures, scrambled to call a few of his portfolio companies early this week. On April 30, it emerged that crowdfunding platform Capital Springboard had sold $6.9 million in fake invoices. Tan, who has put more than $1 million in four local peer-to-peer (P2P) lenders, wanted to know if they faced similar risks. “I asked if they did non-notified [invoices or loans] and some said they did not, while others said only in exceptional cases,” he says with relief.

A non-notified loan means the borrower does not want to inform its customers that it is borrowing money on an invoice. Capital Springboard’s sham invoices were non-notified and came from a single small and medium-sized enterprise (SME): Vangard Project Management. When the invoices expired, Capital Springboard went after VPM’s customers. But some of these customers say they had no dealings with VPM and one says the invoices are fabricated. Capital Springboard has lodged a police report, but investors remain unpaid.

The incident has raised concerns about the due diligence processes of the dozens of crowdfunding platforms operating here. Offering returns of more than 1% a month, they have gained significant traction. Capital Springboard has funded $183 million in invoices, most offering annual returns of 11% to 25%. Funding Societies’ institutional client base doubled last year while the number of accredited investors using its platform increased 92%. It has over 67,000 registered users and has completed $154 million worth of deals since 2015.

In fact, the crowdfunding space is becoming, well, crowded. “There is pressure coming from investors for yield to hold at 1% to 2% a month. But it is getting harder to maintain such interest rates with the onset of more players in the market. If you are a platform [and] face the pressure to retain more investors, you may be tempted to lower your credit underwriting standards,” says Tan.

The various platforms use different means of assessing creditworthiness. Funding Societies requires SMEs to provide bank statements, credit bureau reports and tax filings. “We [mitigate risks] through triangulation of different sources of info, including monies taken from other platforms. It’s easy for a fraudster to modify one set of info, but it’s hard to edit all possible info,” says Kelvin Teo, co-founder of Funding Societies. Validus is testing software that it claims can spot “patterns” common in fraudulent documents.

But such checks “are only as effective as the checker”, says one platform operator. “Some invoice risks just cannot be mitigated.” Non-notified invoices are especially troublesome. About 50% of invoices on Capital Match are non-notified, as are the majority of invoices on Funding Societies.

Crowdfunders say they try other means of verifying invoices, including calling the debtor anonymously and establishing joint accounts. “We control the payment to a sweep account jointly operated. [We check for the] buyers’ receipt and stamp. If required, [we verify] against supporting documents such as purchase orders, contracts, packing slips or email trails of orders,” says Vikas Nahata, co-founder of Validus.

Capital Springboard CEO Roger Crook tells The Edge Singapore that it has instituted new measures including quarterly reviews of bank statements and on-site visits for documentation checks.

Meanwhile, P2P platforms may be encouraging some rather risky behaviour. Several have introduced auto-allocation features that automatically put investor funds into new loans that match certain pre-set criteria. About 95% of users on Capital Springboard use this feature and 91% of Capital Match’s deals are funded entirely through auto-allocation. About 60% of Funding Societies’ investors use auto-allocation.

While auto-allocation has been marketed as a means for investors to diversify risks, it may also give investors a false sense of security. Fraudsters may take advantage of the system as they know investors are relying solely on the due diligence of the crowdfunding sites, says Douglas Streeter Rolph, senior lecturer of banking and finance at Nanyang Business School, which is part of Nanyang Technological University.

So, what recourse do defrauded investors have? Thio Shen Yi, joint managing partner of TSMP Law Corp, says investors may be able to sue the seller of the invoice in tort. “The fraudulent party may be criminally liable under the Penal Code for cheating. They will be civilly liable to the investors for the tort of deceit. However, this may be of no comfort as the fraudulent party may not have any money,” he says.

Could investors sue Capital Springboard instead? “The potential liability of a third party who had no knowledge of the fraud is a more complex issue and could depend on factors such as representations being made by the third party, and whether there was constructive knowledge of the fraud on the part of the third party,” says Nizam Ismail, partner and head of financial services at RHTLaw Taylor Wessing.

The better solution may be more regulation. Teo of Funding Societies says he would welcome regulations that are more stringent around screening and defaults. “Costs would grow, but we’re building for the long term, not just to flip and sell, hence we’re willing to make such investments,” he says.

Tan of GTR Ventures wants the four P2P platforms in his portfolio and other crowdfunders to share information with each other to prevent SMEs from shopping their bad loans around. He is not allowing this incident to shake his faith in the democratisation of the lending business. In fact, he says he is even mulling further investments.

This article appears in the Edgewise column of Issue 829 (May 7) The Edge Singapore which is on sale this week

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