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With fresh capital, Kabbage faces On Deck and growing pool of digital lenders

On Deck Capital Inc. and Atlanta-based small-business lending startup Kabbage Inc. are vying for share in digital small-business lending, where new entrants are making the space more crowded.

Kabbage said Aug. 3 that it received $250 million in equity funding from Japanese technology conglomerate SoftBank Group Corp.

The SoftBank investment marks the return of Kabbage as a key competitor for On Deck, according to Stifel Nicolaus & Co. analyst John Davis. The analyst pointed out that Kabbage has been "significantly impaired" for the past year as it searched for funding, but with new capital, the company is in a better position to compete.

"Kabbage is a very viable competitor with the newfound equity," Davis said in an interview.

Meanwhile, On Deck said recently that it has a healthy pipeline of potential bank partners and announced an expanded agreement with JPMorgan Chase & Co.

A Reuters report from March, citing unnamed sources, suggested that Kabbage was in talks to raise "a few hundred million dollars" in equity funding for deals and was considering On Deck as a target. Davis said those rumors had no validity, and Kabbage could not have afforded to buy its publicly traded peer.

Though they are competitors in online small-business lending, the two companies are "in quite different places," according to Lex Sokolin, global director of fintech strategy and a partner at Autonomous Research. On Deck has a "magnifying glass" on its loan quality each quarter, he said, and consistent pressure from investors has required the company to focus on optimizing the business by prioritizing efficiency, making headcount adjustments and working to achieve GAAP profitability by the end of 2017.

The two fintech companies are also being valued in entirely different markets, Sokolin said. He pointed out that Kabbage's valuation has likely reached the fintech "unicorn" level of $1 billion or more with the capital injection from SoftBank. On Deck's valuation hit $1.3 billion around its December 2014 IPO and the peak of digital lending hype, according to S&P Global Market Intelligence fintech analyst Eric Turner. The company's current market capitalization is about $356 million.

"For Kabbage, the fintech private markets are just fundamentally different in terms of how they look at companies," Sokolin said. Venture capital backers are more interested in Kabbage's market dominance and market share than how its loans are performing in any particular quarter, he added.

On Deck has lent $7 billion to date, according to a spokesperson from the company. Kabbage has lent around $3.6 billion, according to CEO Rob Frohwein.

Both companies are maturing in the midst of an intensifying competitive landscape, as payments and e-commerce companies build out their loan products for small merchants.

PayPal Holdings Inc., Square Inc., and Amazon.com Inc. all have small-business lending operations. PayPal says its PayPal Working Capital product has provided $2 billion in funding to small businesses since September 2013. And on Aug. 10, PayPal announced its plan to acquire digital small-business lender Swift Financial. During a second-quarter earnings call, Square executives touted the potential of the company's small-business lending product, Square Capital, where they see an untapped pool of merchant borrowers. Amazon has issued $1 billion in loans to sellers on its marketplace, according to Bloomberg.

PayPal, Square and Amazon have an advantage over pure online lenders, Sokolin said. The market may be moving in a direction that favors companies that have the most data about potential borrowers, he said, and since these three companies control the payment and commerce rails for their merchant borrowers, they have access to volumes of data about each business.

Kabbage's Frohwein said he thinks the challenge for newcomers to online small-business lending is that they are confined to their existing customer base. He also pointed out that Kabbage has invested in technology that helps it keep a watchful eye on borrower data related to things like revenue and expenses.

From On Deck's perspective, Amazon, Square and PayPal are primarily marketing to their existing customers, while On Deck is marketing to all U.S. small businesses, a spokesperson said.

Davis flagged Goldman Sachs Group Inc.'s Marcus lending platform as another potential competitor for On Deck and the analyst said he expects the company to delve into small-business lending eventually.

While competitive pressures are intensifying in the space, Davis also said he thinks there is room in the market for many companies to grow.

"I think the market is big enough for all the players to grow responsibly," he added. "Smarter, slower growth shouldn't really be hampered by competitive pressures."