The first few weeks of 2016 have seen several pieces of bad press for the crowdfunding industry.
Firstly, at the beginning of February the claims management group Rebus went into administration less than a year after raising £816,790 via an equity crowdfunding round. Over 100 investors are set to lose all of their money in what is the UK’s largest equity crowdfunding failure so far. The speed of the collapse is all the more disappointing given that Rebus was looking to make profits of £12 million by 2017/18. Also disappointing is the lack of comment from management on the events surrounding the company’s demise.
Then last week we saw some scathing commentary from Lord Turner, former Chairman of the FSA, on the peer-to-peer lending industry. One of his most controversial remarks was: “The losses which will emerge from peer-to-peer lending over the next five to 10 years will make the bankers look like lending geniuses…”.
So only a few years after springing into life are we about to see the crowdfunding industry slowly die? The answer is clearly no.
Although the failure of Rebus was both depressing and headline grabbing, in the context of the wider start-up industry it is not news at all. Early stage companies go bust every day and they will continue to do so.
But the one crucial point that has been brought up surrounds investor education – in that investors seeking potential high returns via start-ups must be fully aware that investing in smaller company equity is highly risky, with the potential for all capital to be lost. Investments are long-term, can be highly illiquid and of course should only be made as part of a diverse overall portfolio.
In addition, the Rebus failure highlights the importance of the SEIS and EIS tax breaks which are available (dependent on individual circumstances), cushioning the financial blow should the worst case scenario unfold.
Questions have also been made over due diligence into Rebus, e.g. how could a pitch have been signed off by the crowdfunding platform only for the company to go bust months after? The facts here are that even with the best due diligence practices some companies will go on to fail. In fact, it has been suggested that crowdfunded companies actually have lower failure rates.
A study by analysts at AltFi and Nabaro released last year suggested that only one in five companies that raised money on equity crowdfunding platforms between 2011 and 2013 had since gone bankrupt. This compares favourably to findings from a 2014 report from insurer RSA which found that 55% of UK SMEs did not survive five years.
We would argue that this outperformance is helped by crowdfunding platforms filtering out lower quality companies via their due diligence processes before they are able to pitch for funds. But perhaps more could be done here, especially in regard to crowdfunding platforms being forced to publish their failure rates in order to make investors more aware of the risks.
Lessons to be learned
In contrast to dying, crowdfunding is actually thriving.
Figures from the latest UK Alternative Finance Industry Report, published by Nesta and the University of Cambridge, suggests that the UK equity crowdfunding market grew by 295% to £332 million in 2015. As one swallow does not make a summer, the failure of one company does not mean the failure of a whole industry. Nevertheless, it is clear that the crowdfunding industry is still going through a learning process and further improvements could be made.