Mobile payments processor Square today announced Square Capital, a merchant cash advance service for small businesses.

News of Square Capital’s pilot program leaked earlier this year. While Square spokesperson Faryl Ury declined to share exact figures, she says the company has already extended “tens of millions of dollars” to thousands of Square customers.

Square Capital offers merchant cash advances, rather than traditional loans, according to the company. Ury says pilot program participants have used the cash advances to buy inventory and equipment, expand to a new location and hire new employees. One customer, Caroline Bell, says she used a cash advance to open a sixth location of her New York City coffee chain Café Grumpy.  

Currently, Square Capital is only available to certain Square merchants. Square analyzes its customers’ financial history on the platform to assess which businesses are eligible for Square Capital. This history is also used to determine Square’s cash advance offer.

Unlike with a traditional loan, Ury says Square won’t charge interest on the amount of cash extended. Instead, Square proposes a set fee upfront. (In an example provided by the company, the fee was $1,000 for a $10,000 cash advance.) Then, Square deducts a set percentage of daily sales made through the Square platform until the cash advance and fee are paid back.

“There’s no set payback period, but we do create an offer that a business can typically pay back within 10 months,” says Ury. The upfront fee and the percentage of sales deducted are variable and are based on Square’s understanding of its customers’ financial profile.

Ury says the average advance during the pilot phase was “several thousand dollars,” but that the average could soon rise, as larger businesses start using the service. She adds that Square is looking to quickly extend hundreds of millions of dollars, as more merchants are notified of their eligibility for a Square Capital cash advance.

An Increasingly Crowded Field?

Since the financial crisis, the small business credit crunch has attracted a growing number of companies. Last September, PayPal started offering small business customers cash advances equal to up to 8% of their annual PayPal sales, with between 10% and 30% of daily sales deducted until the loan and set fee are paid back.

While the PayPal Working Capital program is just one of the many services PayPal offers business owners and consumers, a handful of startups have cropped up that are solely focusing on small business credit issues. Most lean heavily on data from online banking accounts, payment processors such as Square, accounting platforms and even social media networks to quickly approve traditional loans or cash advances.

“We have a unique twist. We provide a highly automated, low-pain opportunity for small businesses to obtain capital, and that remains our distinction in the marketplace,” says Kabbage CEO Rob Frohwein.

Since 2011, Frowhein says Kabbage has deployed over $300 million in working capital to over 250,000 small businesses. The Atlanta-based startup has raised $106 million in equity and $350 million in debt, with the latter used to provide capital to its customers. Loans range from $500 to $100,000.

Other big players include CAN Capital and OnDeck Capital. This year, CAN Capital announced $33 million in funding co-led by Meritech Capital Partners and Accel Partners, bringing total funding to over $66 million, while OnDeck CEO Noah Breslow says his company has raised $180 million in equity. The data-driven approach to small business lending allows all three companies to advertise shorter approval timelines, ranging from one to three days.

“The average business owner spends 26 hours preparing a traditional loan application. OnDeck cuts it down to minutes,” says Breslow, who says OnDeck uses roughly 2,000 data points in its decision-making process.

Breslow says he’s not too concerned about Square’s entrance into the marketplace given OnDeck’s core demographic. He says OnDeck targets Main St. brick-and-mortar merchants with average annual revenue of $1 million. He says OnDeck has deployed over $1 billion to small businesses since its launch in 2007.

And younger startups such as Fundbox, which came out of stealth mode earlier this spring and announced $17.5 million in funding led by Khosla Ventures, are focusing on even smaller segments within the small business market. Fundbox, for example, is targeting the B2B business by clearing invoices for companies waiting to get paid by business clients.

Though the field may seem increasingly crowded, Kabbage investor and BlueRun Ventures general partner Jonathan Ebinger says the market can sustain a number of companies looking to alleviate the small business credit crunch. BlueRun Ventures, which led Kabbage’s Series A round, has invested $10 million in the startup according to Ebinger.

“It’s still as pressing as ever institutional banks and global money center banks have not moved back in to lending to small businesses. A typical response from a bank to a small business asking for a loan would be to get a credit card,” says Ebinger. He adds that many local banks and institutional banks are ill-equipped to analyze online-only businesses.

Ebinger says there may be a number of success stories within the small business financing field.

“The overall point is this is a huge underserved market with a few potential winners. Financial services is a huge field,” says Ebinger. “Wells Fargo and Bank of America can both be successful -- this is not a winner-take-all situation at all.”

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