As equity crowdfunding evolves, the view is that there’s a war underway between venture capitalists and platforms targeting retail investors – as both vye for the best deals. But in reality, the scene remains peaceful.
As a VC firm, we view crowdfunding as a complementary finance channel that can find additional and strategic capital for appropriate portfolio companies. Our perception is that appropriate companies are largely business to consumer, with easily understood models and a supportive customer base.
Crowdfunding can be particularly valuable as a means of attracting customers of the company to invest. For entrepreneurs in these sectors, crowdfunding is now just another feature of their toolkit, like venture debt, and we see this as the best reason to access equity crowdfunding.
The following observations have been fed back to us from entrepreneurs who have used equity crowdfunding.
First, the time and effort needed is much greater than expected. The amount of time required from a chief executive can be two to three times what an institutional due diligence process would involve.
The factual information provided must be verified to the same level you’d need for a prospectus. Then the flow of individual questions from would-be investors (all on a public forum) can be massive: potentially taking several hours per day over two to three weeks.
Second, a video interview is necessary and it is well worth the cost (around £2,000) as it can reduce the flow of questions and stimulate interest. It adds to the time taken, however.
Third, companies typically achieve a valuation premium over what a VC would pay – but of the order of 20-25 per cent. It is not true that valuations are ridiculous, and crowd investors are often searching for indications of risk reduction, including a valuation that can be justified.
Fourth, the best demonstration of justifiable value is institutional investment at the same price. It does appear that a later-stage crowd raise needs to have institutional backing to ensure success. A good percentage (40 per cent or 50 per cent) of the target amount should already be secured, and it is helpful to announce that in stages in order to build momentum.
Fifth, US investors are excluded from UK crowdfunding platforms, so if US investors are a target, they will need to be accessed through a US platform.
Sixth, qualifying for the Enterprise Investment Scheme (EIS) is not a requirement. JustPark – the largest Crowdcube raise at £3.9m – was not EIS qualifying.
Seventh, the number of sophisticated investors who write cheques of £25,000 and above is small, so larger target amounts will require hundreds of small investors (£100 plus tickets). However, you can impose a minimum investment amount.
Finally, several crowdfunding platforms have responded to the widespread concerns about the headache of managing a shareholder list of hundreds or thousands of small investors by introducing nominee services. These need to be fully understood, including whether the nominee takes authority to execute the shareholder agreement and exercise all the voting and other shareholder rights.
This new form of funding is an additional, exciting option for entrepreneurs seeking capital. But it does not mean that venture capitalists are about to be crowded out.