Demystifying Crowdfunding (Part 2): Equity-based Crowdfunding

Equity crowdfunding is the provision of finance to up-and-coming businesses from a crowd of investors who in return are rewarded with company equity. UK equity-based platforms include CrowdCube, Seedrs and SydicateRoom. Equity crowdfunding presents the next step up the investment ladder from reward-based crowdfunding for pledgers, as they are able to fully buy into the lifespan of a project rather than solely receive a limited reward.

The two highest profile UK equity raises are arguably two alcoholic beverage company: Chapel Down Group (through Seedrs) and BrewDog (through CrowdCube). The former is a UK listed company that turned to equity crowdfunding in order to raise at least £1 million to grow the English wine-making business. It became the largest equity crowdfunding campaign in history when it finished with just under £4 million, unsurprising given the pedigree of the company and the attractively transparent terms and conditions. Following an initial £670k raise from several institutional and High Net Worth Individual investors, the crowd was offered the same terms for the subsequent raise and were able to invest in a high-growth business that stands out from any other equity raise prior or since. Moreover, Chapel Down is listed on the ICAP Securities & Derivatives Exchange, allowing contributors to trade their shares on the ICAP Exchange. This gives investors a freedom not normally possible in an equity raise; no wonder it has been heralded by AltFi as an “unprecedented success”.

So far, so good… invest in the nascent stages of a fireproof company alongside other savvy individuals, sit back and watch as the company receives more and more finance and gives out more and more equity, allowing it to develop and grow into an international behemoth. However, equity-crowdfunding can be high-risk, unknown reward. The stark reality is that the majority of the start-ups are destined to fail (see the warning signs on the equity crowdfunding websites themselves, such as CrowdCube). Yet according to Nesta, an innovation charity, about £84m was raised on equity crowdfunding platforms in 2014, triple the previous year’s amount. Seven months ago, the Financial Conduct Agency, the UK’s financial regulator, gave the following warning to anyone considering investing in equity crowdfunding: “It is very likely that you will lose all your money.” And it is not always just as simple as a company going into liquidation.

Equity crowdfunding is something that takes time and effort in order to see success. It takes sound research and reading of the small print to reveal the princesses from the frogs. Take the example of how the equity crowdfunding industry’s latest phenomenon, BrewDog, has been able to raise a huge amount of money in exchange for very little equity. For a blow by blow breakdown of the story, this comprehensive article written by the industry’s own news service, AltFi, is a must read.

Here equity- and reward-based crowd funding have been merged to form a writhing, dissident beast of £25 million pounds. The small brewery from Aberdeenshire have used an impressive array of marketing techniques to build themselves up as ground-breaking and anti-establishment, offering investors an alternative to over commercialised breweries that will not connect with their drinkers. Their rewards scheme is legitimate; invest a certain amount, receive a certain amount of beer for free. Yet the equity raised is in the form of B-Shares, which account to only 8% of the overall equity of the company. Moreover, investors receive no voting rights and so are unable to prevent the dilution of the shares when the company grows and receives a higher valuation. BrewDog may not represent the “death to Fat Cats”, rather a predatory business that takes advantage of investors drunk on inventive marketing tools. BrewDog’s hawkish equity raise could end up biting them on the behind the future as the Crowd realise that the story wasn’t quite as revolutionary as portrayed.

However, that isn’t to say that there are no diamonds in the rough, or indeed that one shouldn’t invest in companies through crowd funding. A mixture of reward and equity based crowdfunding appeals to an investor with a vested interest in a start-up; supporting growth in small businesses will help the economy to grow and inspire regular people to invest their hard-earned cash in more innovative ways. My next post on demystifying crowdlending to small businesses will highlight the benefits of debt-based peer to peer lending and shed some light on why works for so many businesses and lenders.

crowdfunding image for blog 2


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