John Blosser bought a medical device company, changed its products and increased sales to $5 million last year from $300,000 in 2013. It was great that sales went up so quickly, he said. But it became increasingly challenging to manage the time delay between when an order was filled and when it was paid, 60 to 90 days later.
John-Anthony Gargiulo had a different cash problem. He had entered an agreement to buy a building for a brewery in Beacon, N.Y., and found experienced brewmasters to run it. He secured a $500,000 development grant from New York State. But the project stalled as he tried to get a loan to close on the building, renovate it and buy the brewing equipment.
What saved both men was a relatively new twist on peer-to-peer lending — borrowing from affluent individuals who are putting up their own money.
But that money came at high interest rates. Mr. Blosser borrowed $250,000 at nearly 20 percent, while Mr. Gargiulo paid almost 15 percent on $2.9 million.
In an era when money is cheap — the rate on a Small Business Administration loan is under 4 percent — these entrepreneurs said they had little choice. They could receive no money from a bank or accept high-interest money from individuals.
“When you believe in your project, you do what you can,” Mr. Gargiulo said. “If we had deep pockets, we wouldn’t have to do this. I wouldn’t have chosen to go down this path. But in the end we got what we wanted.”
But one man’s tough choice is another’s remarkable return. In this rarefied niche of peer-to-peer lending, those with money to lend have a chance to earn a high return in a fixed-income-like investment and often have a say in how the money is used and the business is run.
“The basic premise is banks can’t really service any of these guys, but we can,” said Billy Procida, a former general contractor and later a real estate developer in the New York area who presides over a $32 million fund made up mostly of his money. “You walk into my office and under five minutes you get a straight answer. We do due diligence, but it’s me and my 35 years of experience.”
For the last decade, peer-to-peer lenders like Prosper and Lending Club have offered a platform for individuals to make loans to other people for an array of uses, from paying off medical bills to building their businesses. And those companies continue to grow, benefiting from a combination of the sharing economy with returns reminiscent of the old Roman Empire. The top rate on a loan made through Prosper is 36 percent.
hose companies allow small-time lenders to create a portfolio of loans to individuals and pool their risk. Affluent individuals, on the other hand, are making loans one at a time. This would seem to increase the risk, but the lenders say it allows them to know the individuals, monitor the businesses more closely and help the companies get to a point where they can borrow from a traditional bank.
With rates that can top 20 percent, even for 12 months, the affluent lenders are filling a specific niche. They say one of their big attractions is the speed with which individuals or funds made up of individuals can approve loans.
George Haviland Jr., director of the New Jersey Junior Titans, a hockey club, said he was trying to keep up with the demand for the ice hockey program he runs in Middletown, N.J. The club had bought a sports complex from the town in 2012 and built a 1,200-seat hockey arena with sky boxes.
Last year, he said, he started the process to build an additional skating center to keep up with demand but spent over six months trying to get bank financing for it.
In January, he said, he was able to borrow $300,000 for eight months from a group of individual lenders to start construction on a rink he hopes to have ready by Labor Day. It took him about three weeks.
“The process for the conventional funding was much longer,” he said. “It allowed me to start my process without tapping into my own money.”
As building gets underway, he has continued the process with a bank to replace the short-term financing. Until then, the group of lenders, Assure Funding, allows Mr. Haviland to make weekly payments.
For these lenders, getting paid back quickly is part of the game and an attraction to the borrowers.
“We’ve had some people who used our financing for capital outlays, then they turned around and found S.B.A. financing and bought out the loan,” said Michael Sinensky, who owns several restaurants in New York and is the founder of Assure Funding. “They needed to do a deal, and later on they got a much lower rate and we provided the capital to get the deal done.”
These lenders also look at projects that banks might struggle with. That was the case with the brewery in Beacon. Mr. Gargiulo said banks that looked at the project thought it was simply too much money to invest. “They couldn’t understand the difference between a factory and a restaurant,” he said. “We said, ‘We’re a factory. We’re a wholesaler.’ That was the challenge.”
Mr. Procida said he mostly lends to people he thinks have the right skills and instincts. And he said he liked that Mr. Gargiulo was well known and well liked in the area.
“You only came to us because a bank wouldn’t lend to you — you had a credit problem or a challenge a bank couldn’t lend to,” he said. “We cost more than a bank. But we’re a lot cheaper than a partner. Our borrowers use our money for a short period of time, six months to two years.”
If Mr. Procida’s hunch is wrong, though, his money is secured by the real estate. He said he has only taken property a couple of times when someone defaulted. He attributed that to being able to offer advice from the careers that made him wealthy.
(Mr. Sinensky of Assure put the default rate with this kind of lending at around 7 to 8 percent.)
On a project in Philadelphia, the renovation of the Divine Lorraine Hotel, Mr. Procida arranged a $34 million loan for the developer, Eric Blumenfeld, but he also worked with him to secure $7 million in city and state subsidies.
On that deal, Mr. Procida said, he sold $24 million of the loan to a bank, which he expects will provide long-term financing when the hotel is finished.
Despite having been a developer in Philadelphia for years, Mr. Blumenfeld said he could not get a bank to finance the renovation. He was grateful for the money, he said, even at an interest rate of around 13 percent.
“Billy was the one guy who saw this the way that I see it,” he said. “Once we get done, he gets taken out, and I’ve probably created $10 million of value just by building it.”
Most of the loans made by wealthy individuals are to small businesses, particularly to companies younger than two years. “There are so many healthy businesses that can’t get loans but are a year old,” said Mr. Sinensky of Assure Funding.
When these lenders — big or small — step in, they stand to make a substantial return. The borrowers get money they wouldn’t get otherwise, and perhaps a push from the high rate to pay it back quickly.
By Paul Sullivan
April 8, 2016