Crowdfunding is a way in which individuals, businesses and organisations can raise money to finance or refinance their activities via internet-based portals called crowdfunding platforms.
Debt-based crowdfunding is usually by way of peer-to-peer (P2P) loans or investing in bonds that deliver potentially attractive terms for both investors and borrowers, filling the void where banks are not lending.
Crowdfunding and P2P lending have grown significantly in recent years, with more than £2bn raised directly by UK companies in 2015. The online alternative finance sector grew by a staggering 84 per cent last year, facilitating £3.2bn in investments, loans and donations, according to a joint report published by Cambridge University and UK innovation foundation Nesta.
The study of 94 crowdfunding and P2P lending platforms examined the growth, trends and dynamics within the UK alternative finance sector in 2015. Published last month, it is the latest in a series that tracks the size and development of online alternative finance, such as P2P lending and crowdfunding.
Perhaps understandably, advisers have been sceptical to date about discussing crowdfunding with their clients. Levels of due diligence and investment research have not been available that allow the average investor to accurately assess the risks and rewards involved. Downing announced recently it is launching a new crowdfunding platform and it is likely to be the first of many providers keen to put together propositions that open up crowdfunding to a new, broader investor base.
“Funding more mature companies that offer potentially better risk-adjusted returns is becoming a real prospect”
Under new regulations, Enterprise Investment Scheme (EIS) incentives are being refocused on higher-risk businesses. Therefore, funding more mature companies that offer potentially better risk-adjusted returns is becoming a real prospect for both experienced crowd fund investors and lenders, while loan-based crowdfunding is now regulated by the FCA. The investment management industry is res-ponding to IFAs by developing products that meet their clients’ needs, offering potentially more attractive returns than cash over shorter terms, and having a lower risk profile than many other types of alternative products.
This new breed of crowdfunding will bring it down the risk curve and open up the market to investors who are keen to participate but want reassurance from their trusted adviser that opportunities are being brought to market by respected and experienced providers. They will have to satisfy investors that the same levels of due diligence are being applied to their crowdfunding offers as are applied to normal venture capital business.
The move is supported by prominent industry figures who acknowledge an important trend: a rapidly growing number of investors keen to build their own portfolios of tax-efficient growth investments rather than invest those assets higher up the risk scale. The introduction of the new tax-free Innovative Finance ISA in April is also likely to encourage more savers to invest in P2P and crowdfunding offers.
However, as the industry grows it will no doubt face challenges. Misconceptions about crowdfunding in general, a lack of education about the levels of risk involved, the perceived risk of fraud and malpractice, as well as increasing institutionalisation will all have to be addressed. It will be providers’ responsibility to ensure they deliver complete transparency and that investors are fully aware of the risks associated with all types of investment.
This is likely to be another year of significant growth for alternative finance, marking the increasing prominence of crowdfunding as it seeks to secure its place as a serious player in funding infrastructure.
Tony McGing is chief executive at Downing