Can the USA and Australia teach us something about the future shape of Equity Crowdfunding?
There has been some confusion about what equity crowdfunding (“ECF”) means. Numerous reports and analysis in some heavy duty ‘papers have compared company funding achieved online via a platform, such as this one, with more general SME growth or start-up funding, achieved via alternative routes – i.e. borrowing from Funding Circle or similar compared to using Angels Networks or VCs. These last two methods are not equity crowdfunding.
So, for the purpose of this article, I am referring solely to ECF funding, and not to any loans and borrowing made through a P2P platform, and not to any investment arranged by VCs and Angels that doesn’t involve an ECF platform.
The USA is still not entirely sure about equity crowdfunding. Unlike here, America has not embraced ECF with both arms as some sort of panacea for SME funding problems. The SEC has still not released the rope.
The last time I wrote on this topic, the Americans had passed the JOBS Act but had not implemented equity crowdfunding for anything apart from the largest businesses being funded by a High Net Worth crowd. Since then, they have introduced the Title III of the Jobs Act which allows funding of early stage businesses and adopted Regulation Crowdfunding. The results of these are yet to be seen, but in principle, they give businesses and investors alike a framework within which to operate.
Depending on the amount a company wishes to raise, companies in the USA may have to produce audited financial statements. Clearly, this will have an impact on the costs of raising this capital. As the lower limit for this requirement is only $100k, then it will hinder the £100k to £300k market. The USA limits state that a company raising from $100k to $1m will have to produce independent financial statements ‘reviewed’ by a public accountant. This will be cheaper than a full audit but it will still raise the costs and will be money spent up front, so not recoverable should the pitch fail. One of the reasons ECF has been so quick to take off in the UK is because the downside for companies is minimal, apart from time costs.
Reviews by a CPA typically cost between $8,000 and $20,000. Clearly, if you are raising only $100k to $150k, by the time you have prepared the pitch and had it reviewed, a small company is going to be struggling with a large bill.
On the investor side, there are still considerable restrictions on the amount an average wage earner can invest.
Both of these strategies, totally opposite to ours here in the UK, have led to equity crowdfunding being utilised by larger, more established companies. One such example is Lice Clinics of America. They launched an ECF campaign last year on Start Engine for between $10k and $1m, which seems a very odd spread... To date, it has only managed to raise $23k from 29 investors. The company had a turnover of $17m in 2016, with over 250 clinics in 17 countries. This is hardly what we would call a start-up.
Again, we can see the caution with the restrictions on platforms allowed to deal in this area. Every platform must be accredited and must provide certain information about the pitches they promote, and advertising is regulated.
A recent report, “Hitting Stride: The 2017 Americas Alternative Finance Industry Report” from The Polsky Centre for Entrepreneurship and Innovation and the Cambridge Centre for Alternative Finance, showed that year-on-year from 2015, the growth rate on all online business funding had fallen slightly. It also showed the equity part, which is the most highly regulated, is a fraction of the total when compared to the lending.
Given the hype we face in the UK with regards to equity crowdfunding, this more cautious approach is sensible, and whilst these countries may miss out on the first stages of the online funding revolution, they just might win the long game by structuring their proposition in a better way. Only time will tell.
The history of alternative finance and, more particularly, alternative equity finance has its roots down under – not in the UK. ASSOB, The Australian Small Scale Offerings Board, has been around since 2004, and has, to date, raised almost AUD $150m for Australian companies. Its established model is one that many other countries could learn from.
Somewhere between letting everyone have a go and restricting crowdfunding to HNW individuals and networks, you need to find a balance. ASSOB sit in the middle with the UK at one end, the USA at the other.
At ASSOB, investors know that the platform takes great care to vet the companies they allow to pitch. Companies have to join ASSOB and abide by their regulations. Private companies are limited to raising AUD $500k.
Likewise, companies have much more stringent reports to follow. They have to sign up to producing quarterly management accounts for investors, keeping them and ASSOB informed on what is going on. They go through a far more rigorous process prior to launching their pitch than the “retail” platforms here in the UK. The company, if successful, then has to maintain its information flow to shareholders via the site, who in turn offer further advice and guidance. It’s a longer term view and a more cohesive partnership.
One big bonus for ASSOB affiliated companies is that they have access to their secondary market – which is already up and running. A new feature recently introduced in the UK but still very much in its beta stage here.
These restrictions have their pluses and minuses. Overall, I think they make sense.
ASSOB states openly that it prefers to take on publicly listed companies – hardly the vision of ECF we have here. But they will, and do, take on start-ups and early stage growth companies. But only on their terms. This should, in theory, produce a lower churn rate and a higher success rate. Figures certainly suggest this is the case. AUD $150m in raises in 13 years is not high and don’t forget most of this is in much larger companies. Failure rates are low, although they do not tend to tell the whole truth.
On the minus side, this does impact the ability of small tech start-ups, for instance, getting funding. Or at least it might. If the small tech start-up is willing to spend a bit and go through the process, knowing it might lose all its money, then it can fund via ASSOB. The problem is, we live in an instant world, where people expect everything for free. This is not a sensible approach to funding SMEs, as our own retail platforms continue to prove. Short term churn and ‘successes’ in completions do not make a sustainable programme. Somewhere we need a barrier and, if companies cannot clear it, then they will not be eligible for using ECF. The UK’s barrier is far too low in my humble opinion.
Complaints in Australia come from the Tech community, saying that the restrictions are too onerous. But as one anti-regulation comment pointed out, to raise AUD $1m plus, companies will have to have audited accounts. These audits cost around AUD $20,000, which seems a small price of AUD $1m to pay for avoiding serious disasters.
In the UK, I think we can learn from these experiences in both the USA and Australia, if only we would try. The idea put about by some that we invented ECF is nonsense. We have, though, invented the least regulated version – not a claim we should necessarily be proud of – so when you invest it’s even more important you know what DD has actually been done.
8 August 2017
Who is Dexster?
Sometimes controversial, always trenchant, Dexster is Growthdeck's resident blogger. Dexster will bring you his/her views on the crowdfunding scene covering a wide range of topics, including the growth of the equity crowdfunding industry, the risks faced by platforms, how businesses are faring, what investors need to look for when choosing a provider and much more.