The continued evolution of crowdfunding and its place in UK equity finance
Monday, 21st September 2015
As Crowdcube announces a historic landmark it's clear crowdfunding is reaching new heights: so how has it evolved and what is the effect on the wider equity landscape?
Crowdcube recently announced that it has pushed through the £100m mark for funds raised through its platform. This achievement is a huge milestone for the UK's leading equitycrowdfunder and the crowdfunding industry as a whole, which grows in prominence as part of the UK equity finance industry.
At Ashfords we have been involved in UK equity crowdfunding since the beginning, working with Crowdcube from its inception and assisting it in achieving regulatory approval.
We also work with a number of leading venture capital funds and growth companies on venture finance and transactions. We are therefore well placed to observe the evolution of equity crowdfunding and its impact on the equity finance scene in the UK in recent years.
A mixed reception
It is fair to say that crowdfunding has had a mixed press. There are plenty of sceptics who have said that crowdfunding was a flash in the pan - borne out of the dearth of finance during the recession.
They predicted companies would revert to traditional finance methods once the economy got going again. To many however it has been game changing, giving entrepreneurs the means to showcase their ideas, validate their market and drive investment whilst maintaining a greater degree of control over their own destiny. Clearly the proliferation and diversification of funding platforms shows that the enthusiasm for crowdfunding remains unabated.
The big equity crowdfunders have serious backers too. Crowdcube is backed by Balderton Capital (one of Europe's leading VC firms), strategic partner Numis (leading stockbroker and corporate advisor) and Draper Esprit (London based VC).
Seedrs recently closed a £10m series A led by Woodford Patient Capital Trust Plc (managed by ex-Invesco Neil Woodford) and Augmentum capital (backed by Lord Rothschild). Throw into the mix big name celebrities (and now sports stars) who are either raising or investing through crowdfunding platforms and it is evident that there is substantial momentum behind the industry.
Whilst the amount of finance being raised from the crowd has grown substantially, it is also evident that the industry has become widely accepted as a regular finance source. Rather than crowdfunding and venture capital being 'either/or' options, we are seeing them converge as has been demonstrated by the raft of deals where leading VC funds have syndicated with the crowd.
Justpark is the obvious example, raising £3.7m in 2014 with the crowd investing alongside Index and BMW i Ventures. Rockabox's financing round earlier this year led by Notion Capital and Frog Capital saw crowdfunder VentureFounders support the round.
Current pitches on Crowdcube see Emoov, the online estate agents, raising money alongside Episode 1 Ventures. Coming at it from a different direction you have Fuel. Ventures' recent announcement that it has raised a first target of £500,000 (on Seedrs) and claiming it to be the world's first crowdfunded investment fund.
Strength in funding diversity
It is not surprising that companies can see the strategic advantage of drawing on the finance and publicity of crowdfunding and combine this with the further funding and expertise that an institutional VC can bring to the table.
There are arguably benefits for the crowd too, with business plans, performance and valuations being scrutinised by professional investors and with VCs having the common objective of achieving an exit over a relatively short timescale.
That opportunity is, as ever, countered by risk. A VC backed company focussed on fast growth may well need multiple funding rounds to 'make it'. As with any early investors, the crowd in that scenario will likely suffer significant dilution when institutional shareholders with deeper pockets are the ones called upon to write the larger cheques.
Indeed with more access to (and influence on) the boards of investee companies, the VCs will also be better placed to position themselves to identify opportunities to increase their investment in the most promising companies. Investee companies will need to be sympathetic to the crowd if they want to harness the capacity it has to provide finance in the long term.
Matters such as pre-emption rights (i.e. rights of participation on further funding rounds) in particular need to be balanced against the company's need for flexibility to raise further finance as efficiently as possible. Clearly for crowdfunders, ensuring that companies take an even handed approach continues to be crucial.
The key question still posed of equity crowdfunding by commentators is: what returns will crowd investors achieve? Nesta's report on 'The UK Alternative Finance Industry (November 2014)' notes that hopes of making a financial return were very important to 61 per cent of investors and that few were family or friends or supporters of a local business.
Whilst Crowdcube's milestone underlines the impact the industry has in raising finance, exits have been few and far between. We have seen the successful sale of E-Car Club to Europcar in July which was the first exit for Crowdcube and Mill Residential (having previously raised funds with Syndicate Room) floated on AIM in December 2014 but we are still in the early days of the industry and there have not been enough exits to show a trend.
Competition drives sophistication
As investee companies and crowd investors become increasingly sophisticated and competition in the industry heats up, crowdfunders will likely differentiate themselves not just by the funds they can raise for companies, but by reporting on metrics showing returns that they have made for their investors compared to their rivals.
In our view, the approach of crowdfunders is already becoming more akin to more traditional institutional investors. On equity financing transactions we increasingly see crowdfunders seeking shareholder rights and protections more typically reserved for venture capital investors.
It would be a natural step for crowdfunders to bring in seasoned entrepreneurs and ex-VCs to the boardrooms of their portfolio companies in order to drive performance and growth. In addition the crowdfunders are bolstering their internal resources by increasing their in house legal and compliance functions again showing the shift toward a more institutional approach.
We will undoubtedly see this trend continue as the industry continues to mature. That must be a good thing as it will help cement the industry's position over the longer term which in turn gives UK businesses continued access to finance that entrepreneurs tell us is still in limited supply from other sources.