The logic of the crowd

How Kiva’s users evaluate who they lend money to

Is crowdfunding just traditional activities performed more efficiently, or is it creating something totally new? In the case of the non-profit microfinance platform Kiva, Assistant Professor Bryan Stroube believes a new model has emerged, blending lending with charity giving. And it challenges the way we think about people’s motives for lending.

This article is provided by the Deloitte Institute of Innovation and Entrepreneurship.

When Bryan Stroube was finishing his electrical engineering degree in 2006, in Indiana in the US, online crowdfunding was just taking off. Peer-to-peer lending platforms such as Lending Club, founded by Renaud Laplanche (IEP1995), and were launching. Non-profit platform Kiva had started in 2005 to link lenders with entrepreneurs in developing countries. Kiva’s goal was to alleviate poverty.

It was an innovative field that caught Stroube’s eye, not least for the way many of the pioneering companies made their data publicly available – mainly to encourage programmers and other developers to interact with it.

For Stroube, this data – showing what kind of trends were taking place and what loans were getting funded fastest – was a tantalising glimpse into what was really happening in this emerging space and the kinds of decisions lenders were making with their money.

Motives for lending

As more crowdfunding platforms started – the total number is expected to top 2,000 this year according to the Huffington Post – Stroube immersed himself in the field. His particular interest is in how these seemingly similar platforms are being used in very different ways and the sophistication of consumers’ motives for using them. He has completed a PhD at the University of Maryland, which included a year based in Beijing studying for-profit peer-to-peer lending platforms: crowdfunding is truly global.

Since joining London Business School as Assistant Professor of Strategy and Entrepreneurship in 2015 he has been developing a paper looking at the behaviour and preferences of lenders on crowdfunding platforms which present “hybrid” choices between opportunities. And in particular he has looked into how lenders to Kiva weigh up the different causes presented to them on the organisation’s website, whether it is a woman running a sewing business in Tajikistan or a disabled man setting up a shop in Sierra Leone.

Appealing factors

Back in 2007, Kiva’s co-founder Matt Flannery, commented on how lenders were deliberately using website profiles to make choices on who they lent to. “A female African fruit seller? Funded in hours. Nicaraguan retail stand? Funded in days. A Bulgarian Taxi Driver? Funded in weeks,” he said.

Stroube was also fascinated by these different appeals. “Part of the impetus for my research was that I saw profiles of entrepreneurs that looked very different and thought they might not be appealing to the same types of lenders,” he says.

Kiva has an interesting model. Its lenders don’t make profit: they simply hope to get their money back having done some good with it in the meantime. So the lenders are giving zero interest loans, they are bearing the opportunity cost of lending money that could otherwise derive them interest, and they have a small amount of absolute economic risk, although default rates on the loans are very low – some 98 per cent of loans are paid back.

Kiva then distributes the loans through partnerships with groups that are already working in the field. Its website says the organisation has lent some $851m since it started to nearly 2m borrowers.

Spanning traditional categories

Lenders are choosing to lend their money to these entrepreneurs rather than investing it for themselves, or simply donating their money in the traditional method of charity giving.

In this respect Kiva is combining two traditional models – bank lending and charity donations  – and its lenders also seem to span traditional categories in the way they assess who to lend to. Bank lenders usually screen lenders on the basis of their ability to make a return. However, charity donors are likely to assess whether someone actually needs their money. These evaluations of economic ability and personal need have traditionally been separated as they are often in conflict but in Kiva they are both present in entrepreneurs’ appeals for funding.

This challenges existing research that shows people usually find it tricky to assess an offer that spans categories, negatively affecting its performance. So a technology company that offers X and Y will have less appeal than one that simply offers X.

But Stroube’s thinking was that if crowdfunding is taking us into new models and new ways of thinking then previous findings may no longer apply.

Carving out a new space

Stroube contacted Kiva, visited their headquarters in San Francisco, and told them he was interested in carrying out some research. They were open to the idea and helped him send out a survey to some of their users. In his survey Stroube asked users about which aspect was more important to them – that the borrower appeared to have economic ability or that the borrower appeared to have personal need – and collected 1,509 replies from lenders.

He found no dichotomy between people preferring to loan on the basis of personal need and people preferring to loan on the basis of economic ability. Lenders are looking for both elements. So Kiva has combined these elements into something new and created a new hybrid model.

For Stroube, Kiva has achieved the key goal of business strategy by carving out a space where it is not competing with other models. Another example of this from a different sector that Stroube describes to his MBA students is Cirque du Soleil, which combines traditional circus with a high performance art like ballet and has created something new that doesn’t compete with either circus or ballet.

The lesson for Kiva is to keep doing what it’s doing and avoid straying either towards behaving like a bank or behaving like a charity. Kiva lenders don’t want to support someone who could just go out and get a bank loan for their business plan, for example, equally they don’t just want to respond to a story of the personal hardships someone faces without any sense of their having a business idea.

Wider implications

Stroube’s research also has findings for crowdfunding more broadly.

Kiva has created a new category of lenders, aggregated these people together and turned them into a critical mass. Stroube is interested in how the emergence of these platforms can organically create these new categories. In addition, the nature of a platform can sometimes change over time as people gain value from a platform that the company didn’t originally intend when it set up. Lending Club started out as largely peer-to-peer lending but now has a high number of institutional lenders, says Stroube.

Different crowdfunding platforms will by accident or by design collect different lenders with different profiles who like different types of project. The profile of lenders each platform aggregates is a source of differentiation, segmenting the market. Anyone looking for a loan should be aware that not all platforms are the same and look for a platform whose lenders fit their needs.

Platforms also need to recognise that the “sticky” relationships they have with their lenders is a source of differentiation and competitive advantage. It becomes their brand in the sense of their reputation and what they're known for. Platform managers need to recognise this and promote and preserve this goodwill asset.

In terms of Kiva, a decade since it started, Stroube is impressed with the platform’s success. “It also has to do with the rise of microfinance more broadly,” he says, “in particular the work of Muhammad Yunus, the founder of the Grameen Bank, who has written books on this and won the Nobel Peace Prize for what is essentially a financial innovation. It made people more open to the idea of doing something novel for poverty alleviation that involved banking.”

But tensions remain between the logic of banking and the priorities of poverty alleviation. And Stroube warns that for-profit microfinance lenders have been running into issues in the past five to ten years. “When an organisation is trying to do two things that traditionally don’t go together it can lead to tension,” he says. “And I’m not sure that’s been resolved for the for-profit lenders.”

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