Breaking the feedback loop around patient capital

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We must continue to support investment in startups, and recognise the pivotal role that equity crowdfunding plays in funding the UK’s entrepreneurial ecosystem.

The government’s Patient Capital review, launched earlier this month, seeks to identify factors that affect the supply of capital and barriers to investment in high-growth innovative businesses, which often require significant funding before any financial return is made.

However, there should be more weight given to the importance of equity crowdfunding in helping overcome those barriers.

The review identifies a “negative feedback loop”, which contributes to the gap in UK patient capital. The loop is powered by a number of factors: investors don’t see sufficiently high returns, which means they invest less, causing fewer businesses to receive the investment they need.

This ultimately means that businesses are unable to scale and end up exiting before they are ready, which leads to lower returns. And then the cycle starts again.

While the review identifies crowdfunding as a contributor to early-stage investing, it doesn’t fully appreciate that the very model of crowdfunding can help break the negative feedback loop in patient capital.

First, crowdfunding platforms allow individual investors to invest in startups online, at a price that is affordable. Crowdfunding platforms can allow younger, tech-savvy investors to gain investment experience and build a diverse portfolio with less than £100.

But it would be a mistake to think that crowdfunding is only for millennials. Our largest segment of investors are time-poor, high-net worth investors who simply wouldn’t be able to source deals and deploy capital into this asset class if they could not do so from their desks.

Crowdfunding platforms also provide investment opportunities across a wide range of businesses. It’s well understood that the majority of patient capital in the UK goes to London-based companies, because that’s where most angel investors are located.

But fundraising through online crowdfunding platforms is geography agnostic.

Finally, there’s the issue around exiting. Venture funds are driven to deliver a return within a certain timeframe, and in turn can put pressure on businesses to exit. But with crowdfunding, individual investors make their own choice and are responsible for their own risk appetite.

That’s not to say that individual investors are never interested in exiting early, and part of the success of crowdfunding will be the ability to provide liquidity options through a secondary market, so that businesses feel less pressure from their investors to exit early.

Individual patient capital investing is still in its infancy, and its growth is not only dependent on improving accessibility through channels such as crowdfunding, but also raising levels of awareness and incentivisation. Government initiatives, such as the Enterprise Investment Scheme (EIS), have been critical in promoting this type of investing as viable for normal investors.

Many businesses that raise money on crowdfunding platforms are eligible for these schemes, but there is still more to be done in terms of educating investors about the tax reliefs available.

Recent statistics from HMRC show that, only 30,000 people take advantage of EIS each year, and around 10,000 people take advantage of SEIS. These numbers are low when compared to the 13m or so Isas that are opened per year.

Raising the profile of these schemes is going to be essential in unlocking the patient capital of individual investors, and we look forward to seeing more government support as part of the review.