Crowdfunding is a way of raising finance by asking a number of individuals to invest money in your business.
There are a number of online platforms that enable a business or individual to raise finance this way.
The options include debt finance, where investors receive their money back with interest or, equity where investors provide some capital in return for a stake in the company.
The perceived advantages of crowdfunding are that it can be a fast way to raise finance with low upfront fees. Also pitching a business through an online platform can be a valuable source of marketing and a good way to get feedback on your business model. However, there are some pitfalls that need to be considered before you decide whether this is the right way to raise investment or to invest. One of the main problems seems to be, well, overcrowding…
Gary Murphy, managing director of Heptron Renewable Energy explains: “We looked at crowdfunding but eventually decided not to go down this route. Having too many investors on board can make things very complex. Individual investors often want constant updates as to how the company is doing which is very time consuming if you have to provide information to lots of different people. Many individuals that invest in businesses this way are not experienced in running a company rather they just want to make some money. They may previously have invested in a pension or the stock market and see this as another opportunity. Therefore, you don’t get the input you’d get from an experienced investor such as MSIF who can add value through their knowledge, expertise and contacts.
“I also know of businesses who have failed because their crowdfunding investors wanted different things and were trying to pull the company in different directions. They couldn’t agree on a strategy and so ultimately the business failed.”
Paul Humphray, investment director at MSIF said: “As with all forms of investment there are advantages and disadvantages but my advice would be to be cautious. For example, if you wanted additional funding through more traditional avenues in the future, you may find investors may be put off working with a business that has been crowdfunded. Whilst we wouldn’t be averse to providing finance to a business with debt crowdfunding, we may find it more difficult to support a business if there were lots of stakeholders because of equity crowdfunding.
“Consider your IP as well. If you haven’t protected your business idea, someone may see it on a crowdfunding site and steal your concept. We would also advise that you look very closely at the terms and conditions. Don’t sign up to anything you aren’t fully comfortable with or make promises to investors that you can’t deliver. It’s worth remembering too that these online platforms could be used to leave negative feedback about you if you don’t deliver which could affect your fundraising prospects in the future."
“From an investment point of view there are also pitfalls. If you are considering investing in a business through crowdfunding you need to look at the vetting procedures used by the platform. Are the businesses credentials and statements verified? If this isn’t done properly then the system is open to abuse. That said, it’s not all bad and there will be some people who make a good return on investment through crowdfunding”
Gary Murphy at Heptron continued: “If you do decide to go down the crowdfunding route then I would advise that now is a good time to do so as many people wanting to take advantage of tax breaks offered by EIS schemes will want to invest their money before April. This may put the business in a better position when negotiating terms.”