Europe’s Debt Collection Managers Must Respond to New Tech-Led Competitors
Traditional debt management providers are heavily reliant on manual ways of working, making it uneconomical to collect the skyrocketing volume of smaller files.
A new breed of tech-enabled debt management providers has emerged to target these low individual transaction value niches. Now they’re starting to challenge incumbent providers.
Incumbent providers have a range of options to respond to this competitive pressure: cut costs, improve their processes and technology, or acquire one or more of the tech-based collectors.
In any case, the incumbents cannot afford to stand still. The competitive threat will increase as the broader debt management customer base realizes the benefits to be gained from the new breed of debt management companies.
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Outsourcing the collection of defaulted unsecured consumer debt from lending, insurance, utilities and telecoms is a well-established industry in Europe. In value terms, individual claims are typically for more than €500, and the debt agencies generate good rates of return based on collections models that have substantial manual components and include litigation, when appropriate.
But the industry is on the cusp of disruption. New tech-based collections firms have emerged in Europe in the last few years and built increasingly attractive, viable businesses off the back of the internet-based products and digital services explosion, e.g. streaming services. They have thrived because the individual consumer debts are too small (often less than €100) for the incumbent agencies’ collection methods to be economically viable. Following these successes, these new players are now turning their attention to how they can leverage their leading-edge tech capabilities to start taking market share in the incumbents’ core territory in more traditional industries. Early success in this area indicates that this disruption is no longer just a theoretical possibility.
It is now urgent for incumbents to develop a strategic response to these new, fast-moving competitors. Private equity firms and other investors, both those with debt management sector investment expertise and those focused on backing innovative tech-based companies, should be actively reviewing the market for opportunities as the new companies expand their services and geographic operations, upending the traditional industry.
L.E.K. Consulting has been advising the European debt management industry for nearly two decades. This Executive Insights sets out an overview of the current market and key considerations for the incumbent debt management firms and industry investors to think about as they appraise their strategies in response to the rise of the challenger brands.
The European debt management landscape
A relatively small number of industry verticals comprise the core markets for traditional debt management providers, including unsecured consumer lending (such as unpaid loans and credit card bills), insurance, telecoms and utilities. For example, in Germany — one of the most mature debt collections markets — these verticals account for around 70% of the total value of the market, of which unsecured lending is the biggest segment (about 40%). Individual debt file sizes typically exceed €500, and more than €1,000 in unsecured consumer lending is typical (see Figure 1).
The incumbent debt management companies have honed processes for collecting these large debt files in their chosen markets, but they are heavily reliant on manual ways of working, including posting physical letters and making human telephone calls, and they deploy only limited process automation and other cutting-edge technology. This means their cost to collect is relatively high; therefore, for many it is uneconomical to collect the smaller files from other long-standing debt collection sectors such as gym memberships and magazine subscriptions, which are often individual debts of less than €100. Most of the established players tend to avoid these sectors.
However, in step with the growth of the internet economy, the volume of small, defaulted debt files that are too difficult for the traditional agencies to collect has also skyrocketed. Digital services, ecommerce, payment service providers (PSP), buy-now-pay-later services (BNPL) and new mobility subscriptions (e.g. for Uber, e-bikes and e-scooters) have all seen a huge and growing rise in demand.
New tech-led players are shaking up the industry, starting in the new economy …
Over the last five years, new capabilities in digitisation, process automation and artificial intelligence have enabled a new breed of debt management providers to emerge across Europe and build successful businesses targeting these new low individual transaction value niches.
As a result, the volume of debt collection in these internet-based industries has seen double-digit annual growth rates since 2016, far outstripping the very low levels of growth in the traditional debt collection sectors. They have become sizeable collections markets, especially ecommerce, tapping into an overall European market now worth around €700bn in annual sales.
In Germany the PSP/BNPL collection industry saw a compound annual growth rate of 15.9% over the last five years. Digital goods grew by 11.3% per annum and ecommerce by 9.9%. In contrast, unsecured lending grew by 1.9% (see Figure 2).
The growth in these newer, low-transaction-value collection markets means they now account for 70% of the total volume of debt cases in Germany.
Many companies are operating in the low-transaction-value space across Europe. They include InDebted (UK), PAIR Finance, collectAI, COEO Inkasso and troy (Germany), COLLECTIC (the Netherlands), RUBYPAYEUR (France), Collectica (Scandinavia and Germany), and eCollect (Switzerland and Germany).
Four key factors have been central to the new players’ success.
Firstly, they use a very high degree of process automation, including chatbots and mailbots. This makes handling of small files economical.
Secondly, the huge volume of individual files means that artificial intelligence can add considerable value to their collection strategies. For instance, algorithms can now meaningfully help collectors determine the optimal method, timing and messaging for contact with debtors more effectively than traditional experience-based analytical methods do, which allows successful individualisation of collection strategies.
Thirdly, they have built their businesses around a very high-quality level of end customer service and experience, which is increasingly important in a consumer-centric market and can help enhance debt recovery rates compared with more traditional, non-digital ways of collection. In addition, this helps sustain customer relationships after the unpaid debt issues have been resolved, where the creditors wish to do so (e.g. in digital subscriptions).
Linked to all of the above, the new economy companies that need their debt collected have considerable synergy with the new tech-led collections companies. They are well aligned both culturally and operationally, so they are natural business partners.
… but increasingly now also encroaching on traditional industries
The new providers are not only becoming very successful in their own low-transaction-value markets, varying country by country, but they are also now starting to challenge the incumbent providers on their home turf, leveraging their cutting-edge technology solutions.
The telecoms and insurance industries in particular are natural extensions of the tech-led collectors because the debt file sizes tend to be small. Further, consumer focus is increasingly important in these industries due to greater competition exacerbated by the financial pressures from COVID-19 and the resulting effort to retain customers. The digitally enabled, data-centric solutions employed by the new generation of collectors can provide significant help in achieving the type of personalisation that is important to enabling the desired consumer focus.
In addition, litigation is not often required in these two sectors, so the fact that technology can add limited value during litigation does not hinder the new collectors from competing with the incumbent players in that regard.
Incumbent provider challenges
The incumbent providers face a number of strategic challenges in responding to this competitive pressure. There are a range of options.
One approach is to remain outside the low-transaction-value sectors but invest in the company’s current systems to try to maintain market share and lower costs. Mergers and acquisitions that generate cost synergies could form part of this strategy.
Those incumbents choosing to engage in the new market will need significant investments in order to update their existing, often out-of-date IT infrastructure. Re-engineering will also be required to modernise their current processes and substantially reduce operational costs to make handling smaller file sizes viable. But they will probably need to operate two systems ― one for their legacy business, the other for their new markets. Such transformational change will require a cultural shift towards cutting-edge technology. This will be tough for some existing management teams, especially if they are not tech-savvy and if they are complacent about the new providers’ ability to displace them in their core territory.
Another option for this second group is to acquire one or more of the tech-based collectors. However, traditional businesses do not have a good track record either of successfully integrating disruptive, entrepreneurial and high-growth tech-led companies or of managing them on an arms-length basis, especially if those companies increasingly compete with the core business.
In any case, the incumbents cannot afford to stand still. The new breed of debt management companies is here to stay. Their competitive threat will increase as the broader debt management customer base realises the benefits to be gained from the challengers’ innovative, tech-based approach to collections and their ability to move fast, unrestrained by out-of-date systems and less entrepreneurial management approaches. Pressure is greater on the smaller regional incumbents because insurance, telecoms and utilities are typically their core industry verticals. But over time the new players’ data- and customer-led approach means they are likely to encroach on the larger incumbents’ core unsecured lending businesses (see Figure 3), starting with lower balances.
Wise incumbents will undertake an in-depth market review now. They need a detailed picture of the new players, including their strengths and weaknesses, and a good understanding of the rapidly developing industry dynamics before realigning their strategy as the market transforms over the next few years. Wise investors will undertake a similar exercise to determine which firms they should be backing in the high-growth internet transactions debt management industry.