Yi Cao: Inclusive Finance Enters an Era Where "Internet Plus" and "AI Plus" Work in Tandem

According to Lingyi Finance's 2016 China Consumer Finance Annual Development Report, P2P consumer finance assets reached 99.1 billion RMB in 2016, up 90.9% year-over-year, with conservative estimates projecting 200 billion RMB for 2017. Consumer finance asset-backed securitization also accelerated rapidly — 51 ABS products were issued in 2016, totaling 93.632 billion RMB, 6.76 times the 2015 figure.

The consumer finance industry is currently in a market window period. What transformations will emerge in 2017? Yi Cao, founding partner of Source Code Capital, shared his views at Essence Securities' Computer & Consumer Finance Summit:

Inclusive finance opportunities in China will far exceed those in the United States; P2P has tremendous historical value, though P2F will become mainstream; and AI will transform the financial industry at a deeper level.

The full speech follows:

Good afternoon, everyone. I'm delighted to be invited here to share with you. Source Code Capital was founded nearly three years ago, focusing primarily on early-stage investments in the information technology sector. Our investment framework is what we call "Three Horizontals, Nine Verticals." The three horizontal drivers are "Internet+," "Intelligence+," and "Global+"; the nine verticals are major industry sectors. For a period of time, we've focused heavily on five industries: housing, automotive, finance, B2B, and content/social. "Internet+" finance is an area of particular interest.

1 Inclusive Finance Opportunities in China Will Far Exceed the US

The opportunity for inclusive finance in China is vastly greater than in the US. Last fall, I spoke with partners at Andreessen Horowitz in Silicon Valley. In the US, value creation mainly comes from optimizing existing stock — whereas in China, more value comes from activating incremental growth.

China's financial market has enormous potential for incremental activation alongside stock optimization. The US incremental market is relatively small; banking, insurance, and funds are all fairly mature, with high penetration rates for both individuals and enterprises. China's inclusive finance market, by contrast, holds massive incremental potential with substantial opportunities for entrepreneurship and investment.

When evaluating every investment opportunity, every entrepreneurial opportunity, we focus on three dimensions: timing, terrain, and people. These three elements from our ancestors' wisdom are especially critical for "big matters."

Specifically, we look at two dimensions: problem definition and implementation path. Problem definition means clearly describing what needs to be solved; implementation path means what methods and technologies can solve these problems.

2 Five Problem-Solving Paths Enabled by Information Technology

On the supply side, wealth management product yields are steadily declining while issuance volumes increase; meanwhile, capital supply faces dual-track pricing. On the demand side, financial product penetration remains low, particularly for individuals and small-to-micro enterprises.

On one end, massive capital is being supplied at low yields; on the other, substantial financial demand remains unmet. How to efficiently match uncovered financial demand with abundant capital supply, thereby optimizing stock and activating increment? Information technologies like the internet and artificial intelligence offer solutions.

We've identified five major paths:

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The first path is covering markets that traditional finance cannot serve economically, with extremely high cost-performance. Examples include Qudian and Yongqianbao: they use data, models, and machine learning for risk control, acquiring customers through mobile phones — no need for loan officers or branch offices to reach tens of millions of consumers. Small, dispersed, high-volume credit needs of a few hundred to a few thousand RMB are being met, which simply doesn't pencil out under traditional banking models.

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The second path addresses the inefficiency of traditional financial services. Traditional financial institutions, due to ownership structures, incentive mechanisms, management efficiency issues, and low technology utilization, cannot provide services efficiently. This creates opportunities for startups. Examples from our portfolio: Nongfenqi, which provides agricultural machinery installment loans for farmers; INK Group, which offers short-to-medium term property-backed loans; and Cijinrong, which serves small-to-micro enterprises. They leverage internet and big data technologies more quickly and effectively to improve efficiency.

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The third path is "connection" — better matching supply and demand. Examples: GESAFE connects wealth managers with massive product selections; Ether Capital connects entrepreneurs with investment institutions. Information technology maximizes supply-demand matching and optimizes allocation through connection.

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The fourth path is the proliferation and application of big data. Example: Asset360 uses big data to perform "health checks" on non-performing financial assets, forming better disposal plans — and potentially even pricing NPLs in the future.

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The fifth path is artificial intelligence. AI can bring even stronger momentum to the entire new finance industry, optimizing financial services more thoroughly than "Internet+" — with opportunities on both the investment and liability sides.

To summarize timing, terrain, and people: timing is interest rate liberalization and financial institutions' shortage of quality assets; terrain is mobile internet, big data, and AI technologies; people is the combination of massive Chinese demand and exceptional entrepreneurs creating "new finance." "New finance" represents an even bigger opportunity than social, search, e-commerce, and O2O before it.

3 P2P Has Fulfilled Its Historical Mission; P2F Will Become the Long-Term Mainstream

Finally, some thoughts on the future. P2P helped China's inclusive finance companies take their first steps. Initially, institutional capital was reluctant to serve small-to-micro enterprises and low-income individuals — P2P changed this. That created substantial industrial value. After several years of growth, inclusive finance companies and their markets have gained recognition from institutional capital, evolving toward P2F (Peer to Financial Institution). The capital users haven't changed, but the capital providers have become financial institutions — banks, trusts, insurance companies, and so forth. Around this time last year, we foresaw that P2F would become the dominant connection method for inclusive finance assets and capital.

There's no denying P2P's tremendous historical value. Without P2P companies providing services, many small-to-micro enterprises and individuals simply couldn't access capital. Only when you demonstrate strong data performance will institutions like banks be willing to provide larger, cheaper funding. Looking at it now, P2F better suits China's national conditions and can better serve inclusive populations. Financial institutions have stronger credit and risk resilience; having them select inclusive finance companies and projects for risk control is more professional than leaving it to ordinary individuals. We see this as a very sound structure.

4 AI Will Transform Finance More Profoundly

Artificial intelligence will bring even more profound changes to financial services — machine learning, speech recognition, semantic understanding, computer vision, and more. Each can create value for specific segments or processes in finance, much as AI has done in healthcare, education, and other fields. We believe finance provides the best battlefield for AI technology. The value contribution is sufficiently clear, and the problems finance can solve are sufficiently large.

In summary, inclusive finance is experiencing an era where both "Internet+" and "Intelligence+" are simultaneously at play, and we have enormous expectations for it. Align with timing, respond to terrain, cultivate people — we hope to play our part in this wave alongside all of you.

Source Code Capital (SourceCodeCapital) was founded in 2014, specializing in information technology investments, currently managing $500 million USD and 1.5 billion RMB. Over 20 new economy leaders serve as limited partners, forming the industrial capital investor alliance "Ma Hui." Industrial capital will play an increasingly important role in the new economy ecosystem; Source Code Capital is committed to efficiently combining industrial and financial capital to jointly drive innovative enterprise growth.

Source Code Capital focuses on "Internet+" (financial internet, industrial internet, service internet), "Intelligence+," "Global+," and other innovation areas. Representative portfolio companies include: Qufenqi, GESAFE, INK Group, Yongqianbao, and Suishou in financial internet; Yijiupi, Yimi Dida, Sales Crown Network Technology Co., Ltd., and WeiMai in industrial internet; Meituan, Lianjia, MOGU, and Kanjia in service e-commerce; and ByteDance and CHJ Automotive in "Intelligence+."

Within just over two years of founding, Source Code Capital and founding partner Yi Cao have received numerous industry recognitions and prestigious awards from leading media, including: Wealth (Chinese edition) "40 Under 40 China Business Elite" 2016, Cyzone "2016 China Angel Investor of the Year," iheima "2016 Investor of the Year," Beijing News "2016 Top 30 Emerging Investment Institutions," and Zero2IPO "China Venture Investment Institutions Top 50" 2015. Source Code Capital also serves as a council member of the National Internet Finance Association of China — the only early-stage investment institution to hold this position.