Non-Prime Times March/April 2016 Reprinted with permission • nafassociation.com

Innovation Never Goes Out of Style

The Credit Process

Whether it’s fins on cars, para-chute pants or big hair, one constant about our tastes is

that they are always changing. If there is a constant in the universe, it’s the need to innovate that never goes out of style.

I’m bombarded daily by e-mails and articles touting the need for “more advancements in technology,”…“more creativity”…“more thinking outside of the box”…“more people who can quickly

adapt to change”…in essence, we’re all on the hunt for “more

innovation!”

So, what is so com-pelling about innovation?

We are all drawn to the people with the vision and hunger to make things better. The lead-

ers in our industry with staying power

operate with one foot in “today” and one

foot in “tomorrow.” It’s like a soldier scanning their

field of vision with a simultane-ous focus on the horizon.

How does innovation actually happen?The answers are not simple. There is no

perfect process for breeding fresh and com-pelling ideas. In some cases, innovation is the result of circumstances that forced companies to innovate or face failure. In other cases, the company environment cultivates a culture of curiosity and build-ing value. For example, Elon Musk, the brains behind multiple inventive products

including Tesla and SpaceX focuses on pro-ductivity and says that when it comes to innovation “the single best piece of advice: constantly think about how you could be doing things better, and questioning yourself.”

Conditions that drive innovationMany companies talk about developing

“customer journey” initiatives to better understand their needs. They believe that by building more relevant products and services they are creating deeper customer relationships, leading to innovative prod-ucts and sales. That’s very important and a key to innovation, but in many cases, the power and consequences of disrup-tion are fueling the road to innovation. Compliance and competition are areas we can point to for driving what’s next. Here’s how I describe them and how it fits in my world of alternative data and analytics:

ComplianceRegulators are constantly impacting the

status quo and shaking things up. Some say regulations kill innovation, but I see it as driving breakthrough thinking from our customers, requiring them to retool processes, standards and procedures.

Historically, the Big 3 credit reporting agencies (“CRAs”) have been focused on covering prime U.S. consumers, leaving a significant market opportunity in the underbanked population. This population tends to be non-prime. As a result, accord-ing to the Consumer Financial Protection Bureau (CFPB) one in five U.S. adults (45 million) is living without credit scores. This includes 26 million U.S. adults that have no credit history with the Big 3 bureaus, and 19 million more adults whose credit data is so limited or out of date with

the Big 3 bureaus, that they are unscorable. One area that will demand innovation is in the area of regulatory compliance. There is anticipated regulation from the CFPB that is expected to require lenders to deter-mine a borrower’s ability to repay (ATR) prior to providing a small dollar loan. Recent history of the CFPB has many thinking that it won’t stop there.

CompetitionHealthy competition drives

innovation, and encourages us to do our best. I’ve noticed on several occa-sions when a business partner successfully takes initiative to solve a problem differ-ently, there is a buzz around it. However, the buzz is not coming from the busi-ness partner, but rather their competitors. Why? Because all of our partners have access to the same sources of information. However, knowing what to do with it and knowing how to do it well (and cost-effectively) can set them worlds apart. The buzz word that I hear for their success is having the “secret sauce” or underlying magic that gives them their competitive advantage.

Challenging vendor innovation

Reformers challenge their vendors to become partners in innovation. They require them to bring forth new ideas, running side-by-side com-parisons to ensure they are receiving the best results.

When running parallel trials with alternative data, keep in mind these five criteria:

Scott Brackin

nafassociation.com • Reprinted with permission March/April 2016 Non-Prime Times

The Credit Process

• Quality (vs. quantity) of data attri-butes – the better the attributes, the better your decision

• Skilled analysts – understanding of the attributes is powerful

• Years of industry experience – with an in-depth knowledge of the data

• Ability to interpret and decipher raw data into important pieces of infor-mation – positive and negative per-formance that impacts your default rates and ultimately, your profitability

• Permissible use – how it can be operationalized

Create a testing environment for innovation

Now that you have lots of ideas, you have to test them for viability. Create a testing environment that allows you to iterate and experiment for positive and negative

performance. For example, when you test using alternative

trade line data, such as short-term loans performance attributes, you will uncover positive performance such as:

• a borrower who may have paid off three or more short-term loans will have a 28 percent lower average default rate than a borrower with

none, or

• an underbanked borrower who has three or more successful ACH pay-ments in the past 90 days has a 30 percent average lower default rate that the general population.

How to leverage alternative data for

innovationOverlay scores: Segment your generic

scores with attributes to provide a lift.

Example: Gina and Sally both have a traditional score of 650. Gina has moved and had multiple employers, while Sally has shown stability over the past year, allowing you to segment and lift Sally over Gina.

Segmentation: Use attributes to tailor a product to the individual.

Example: Sally has paid off two short-term loans in the past year; this additional data allows you to give Sally a lift and a better product.

Policy definition: Make a strict policy to not extend a loan based on an attribute.

Example: Decline anyone who has applied for three or more short-term loans in the past 30 days.

Moving forward: Innovating to succeed

The unspoken consequence of not innovating is that you will lag behind. Per Jackie Fenn, VP and Fellow at Gartner and a specialist on innovation consultancy says, “…you cannot afford to stay still – business is a moving esca-lator. The world is moving around you – customer expectations are changing, competitors are always catching up and

threatening to take away your business.”

Sometimes it’s easy and comfortable to feel that you are on autopilot and do things the same way year-after-year. However, it’s important for the state of your business to keep a pulse on new trends and pro-cesses to improve your success rate. There are four areas I see the innovators in our industry focusing on in 2016:

• Funding more loans• Gaining a pricing advantage• Increasing response time and lower

costs• Enhancing compliance capabilities

Not sure where to start?

Pick one that will have the fastest most dramatic impact on your business. Then, restore your enthusiasm for the future and take action that delivers innovation. Whether it’s 1996 or 2016, it’s one thing that never goes out of style.

Scott Brackin is vice president, Auto Finance, for FactorTrust. Scott has more than 20 years of experience in the consumer credit industry. He is currently focused on providing inno-vative information solutions to automotive finance service providers to drive growth while managing risks.