How to profit from 'crowdfunding’

Grand Designs’ Kevin McCloud ‘crowdfunded’ the building of cheap homes. Can you profit from being a small-time dragon investor?

It is new and it is risky – but it could just possibly make you rich. It is called “crowdfunding” and it enables private investors, often staking just a few hundred pounds, to become “mini-dragons”, backing fledgling enterprises they believe have the potential to grow and generate profit.

Crowdfunding is related to better-known peer-to-peer lending. That model involves websites such as Zopa or Funding Circle which bring lenders (or investors), on the one hand, together with borrowers on the other. Borrowers pay interest to lenders, and the platform or middleman, such as Zopa, takes its cut.

Crowdfunding websites use the internet in the same way to bring investors together with people needing capital. But here, instead of receiving interest on their money, the investors are given shares or some other stake in the proposed venture’s future profits.

Typically the crowdfunding platform or website does some initial screening of the enterprise being proposed. It will also host information about the venture, such as documents relating to past revenues or business performance, or the entrepreneur’s business plan.

The business proposals sometimes qualify for special tax reliefs under the Enterprise Investment Scheme (EIS) or Seed Enterprise Investment Scheme (SEIS) rules. This gives investors generous tax breaks, such as being able to claim back income tax on the money they invest.

The crowdfunding sector has grown very quickly, attracting some positive headlines – and negative ones. In July, fund manager Nicola Horlick, best known for being the “superwoman” for holding down a City job while raising a large family, attracted £150,000 in just one day through crowdfunding site Seedrs. The money was for Ms Horlick’s latest business venture, a fund management firm called Glentham Capital.

Kevin McCloud, presenter of television’s Grand Designs, used another site, Crowdcube, to raise £1.4m for his firm Hab Housing. Mr McCloud set up Hab in 2007, just before the financial crisis, with the aim of building well-designed but low-cost housing. Having survived the credit crunch it is currently selling the first of its completed properties in a development in Stroud, Gloucestershire.

The concept, which began in Britain, is being widely adopted in the US and elsewhere, where volumes of capital raised are increasing sharply with new services springing up by the week.

But there has also been bad news. The collapse of one crowdfunded venture, Bubble & Balm, caused critics to wonder at the risks involved and whether these were fully understood by firms’ backers. Bubble & Balm raised £75,000 via Crowdcube in 2011, and sold Fairtrade soaps and other beauty products. Its failure was blamed on the withdrawal of a major client from a contract.

To date, Bubble & Balm has been the highest-profile failure associated with crowdfunding. Reputable fundraising sites make explicit warnings to potential investors about the real risk of start-up ventures not succeeding.

Established crowdfunding sites… and are among the better-known sites. Many of the founding managers and staff of these have experience of raising money for start-ups from the conventional world of venture capital.

Crowdcube was founded in 2011 and has raised over £10m. Its founder, Luke Lang, said of crowdfunding’s recent growth: “It’s a pretty nascent industry, it has taken time to build momentum and gain acceptance from the traditional corporate world. The momentum is driven by successes. If you get businesses that are raising finance entrepreneurs otherwise find difficult to secure, you will attract more entrepreneurs.”

A more recent crowdfunding site is, whose model differs. Here, small investors are sought to “top up” substantial stakes in a business that has already been bought by established “dragons” or lead investors.

Usually the lead investors contribute 50pc to 60pc of a firm’s funding, says Goncalo de Vasconcelos, one of SyndicateRoom’s founders. “Small investors have the same class of shares as the large investors, and they will benefit in exactly the same way. The lead investors cannot exit or profit in any way differently from another investor. Everyone’s interests are aligned.”

…and a few ventures seeking your money today

Seedrs is helping phone business Marca Me raise £53,000. The business lets phone users agree to having a brand displayed on their mobile handset when they are locked – in return for vouchers, discounts or cash. So far about £9,000 of the target amount has been raised.

Little Brew, a small London-based brewery, is seeking £100,000 to expand operations through Crowdcube. So far 55 small investors have staked a total of £31,000.

SyndicateRoom is raising money for ShotClip, a firm which enables users to create videos on smartphones. It has 18,000 users so far and aims to get greater numbers to upgrade by paying a fee. It is seeking a total £300,000, £200,000 of which has been provided by the lead investors.

Another, also from SyndicateRoom, is Eagle Genomics, an established business involved in DNA data analysis, which is seeking £1m. Lead investors have provided £300,000 and so far other, smaller investors have contributed a further £190,000.

And now the warning

The Financial Conduct Authority has noticed the growth of crowdfunding and issued a number of warnings and alerts. It points out that investors not only face the loss of their money if their chosen venture fails – but that some of the fundraising firms may themselves be dubious.

Its latest warning on the subject said: “We believe most crowdfunding should be targeted at sophisticated investors. We want it to be clear that investors in a crowdfund have little or no protection if the business or project fails, and that they will probably lose all their investment if it does.

“We are also concerned that some firms involved in crowdfunding may be handling client money without our permission or authorisation.”

Thunderbirds call

Jamie Anderson, son of Thunderbirds creator Gerry Anderson (pictured), is using crowdfunding site Kickstarter to raise a hoped-for £24,350. This will be used to complete and publish a series of books that his father had started, but not finished, by his death late last year.

Called Gemini Force 1 the series, begun in 2008, is based around a secret organisation tasked with averting disasters and terrorist attacks. Jamie Anderson wants to employ an author to finish the project “in the way Gerry wanted” and to publish the book series – with the hope of rolling out subsequent film and television versions. At the time of going to press, 352 backers had used the site to pledge a total of £16,213.

Source: The Telegraph