You can make what you want of the prevailing economic times and tides, recoveries, mini-booms, niche bull runs and the like, but one thing is certain: alternative-investment conference season is in full swing. Lendit in London has been and gone, as has the Crowdnetic and Thomson Reuters P2P fest in New York – and Alt Fi itself has a fun-looking gig coming up in Manhattan.
But I’ve consistently found myself feeling a little sad for investors and commentators at these events – as a former journalist and editor of nearly 30 years, I would, wouldn’t I? Typically, the presentations are the standard Powerpoint Sausage Machine efforts, followed by brief and anodyne question-and-answer sessions. The real networking is done by the industry practitioners over coffee and in the corridors. Investors and investment commentators often don’t get the stimulus and debate that inform ideas and further understanding.
So it was a real pleasure to help design the agenda for a recent conference, Alternative Funding: News Solutions To Old Problems. The event was sponsored by Cubism Law and a host of leading players in the alternative finance sector, including Money&Co., the P2P lender whose content and communications I run, equity platform VentureFounders, P2P platform Archover, Crowdnetic, British Influence, and crowdfunding intelligence platform, Another Crowd.
The substantive, intellectual content was unremarkable. The idea was to equip attendees with an understanding of how to:
So the content to be delivered was interesting, but not unusual. The radical difference was in the form. The conference was held in the relatively intimate confines of a room that comfortably held no more than 50 people, with buffet tables at the back. Furthermore, by having a good number of quality journalists in the room (Ryan Weeks of Alt Fi, Harriet Green of CityA.M., Ed Bowsher of Share Radio, Chris Blackhurst of The Independent and Live TV) we were able to improvise the latter parts of the conference.
This is at once easy and effective - and much more complicated than it sounds. The idea of reprising the key elements of the morning session (which had some pretty useful Q&A sessions themselves) requires journalistic and debating skills and the engagement of the audience. We had both in abundance, and ended up with a mass symposium that no amount of pre-planning or scripting could have produced.
Below I reproduce an edited transcript of the last session of the day, which was followed by a keenly anticipated session of networking drinks. The broad topics were those worked out by myself and Ed Bowsher, who chaired the discussion –with panel and audience - quite superbly. We’re still hoisting up the edited footage to various Youtube channels. Look out for the links on annothercrowd.com, the news section of moneyandco.com and on Cubism Law’s website.
Debt v Equity – What Should SMEs Go For?
James Codling of VentureFounders: It depends – some businesses are right for debt, some for equity. Cash-flow generating, profitable and more established business can support debt. Younger businesses can take equity. That’s been the way for ever and a day. The concern I have is that in some parts of the market, equity is being dressed up as debt…. The lines shouldn’t be blurred. Businesses shouldn’t take on debt until the right point in the life cycle. There are some cash-paying coupon debt instruments that really, when you look at the risk profile of those companies, aren’t suitable for taking on debt. I’m talking mainly about the mini bond space. The dynamic of these companies means that these companies shouldn’t be taking on leverage. Debt and equity are different instruments and have difference purposes. From an investors’ point of view, you have to look at the company and see if it’s taken on board the right kind of instrument for you to invest in. We try to cut that out by making sure that the companies we take on are ready for that.
Andrew Bird, of Cubism Law: Equity crowdfunding is much more complicated than debt. You have little that is predetermined and it’s hard to work out how a company is going to play our over time.
There’s also a shareholder relations and activism issue. It’s important to get together with others in crowdfunding and act as a unit…
One of the problems of crowdfunding is that small amounts of money are invested, so each investor will have limited ability to influence the company.
Nicola Horlick of Money&Co.: It’s absolutely clear that very young companies shouldn’t be taking on debt. We make that very clear on our site. We need, as a minimum, three years of filed accounts, the company needs to be profitable, and they can only take on twice EBITDA. We’re very strict about that. The mini bonds are very interesting - I thought the best one was the Hotel du Chocolat, where the choice was between chocolate and cash.
David Salamons of Cubism Law: They’re very different things. Debt is much simpler to understand. You put the money in, you get the money back, and hopefully it all works. The investor doesn’t need to be so sophisticated. To do equity you have to understand the articles, how the corporate background works. And also, there’s no exit plan, which is the worst element. So it’s a much more sophisticated thing. Having said that, I think it’s very exciting. Five years since, looking forward, I think there might be a tradable market and a standardisation of offerings. There’s a long, long way to go for equity, and I think it’s often good for small companies to go for equity, rather than load themselves up with debt.
Equity Raise Valuations – How Are They Done And Are They Troubling?
Harriet Green of CityA.M. : I’m not too concerned about high valuations, providing there are enough people telling investors to watch out. Companies have their own platform doing their own thing – that’s part of my job as a journalist to watch out for things like that. But in terms of valuation, we’re only a short way down the road yet. It’s very early to try and determine whether valuations are really damaging or not.
Adam Braggs of Crowdnetic : We collect valuations data from most of the platforms. Will the crowd get more sophisticated? It’s hard to say. I think the services and information available to the crowd will become more sophisticated. In terms of people adding ratings and analysis to core data such as that provided by Crowdnetic – that will probably help people make more informed investment decisions.
Nicola Horlick.: You’ve got to remember that equity often comes with massive tax breaks – for example an SEIS approved company has a fifty per cent tax break attached to an investment, and if the investment pans out the return is tax-free after three years and they can make massive gains. If you lose out as an investor, you can offset the rate against high-rate tax, that gives the company more leeway to give away less at the outset, and it makes it harder to determine what a fair valuation is.
David Salamons : In my experience, many of the companies doing equity raises themselves don’t know what their valuation should be. They are often being advised by the crowdfunding platforms. It’s interesting that the crowdfunding platforms are regulated, but the companies aren’t. The future has to be a standardised valuation by a panel of companies, a panel of valuers, if you like.
James Codling : Your return is the difference between the entry price value you went in at and the price determined by a multiple of profit. The thing that concerns me is that the crowd is slightly uneducated about things at this very early stage. Most platforms are led by the Dragon’s Den model, in that the company sets terms. No-one had been operating that way before. It will be three or four years before we begin to see which platforms are the better ones, which ones provide the returns. Which ones allowed valuations that didn’t work. It’s very early days – partly because I wouldn’t put my own money into some of these companies as valued – that we’ll come to see that quite a few of these valuations are massively overheated.
Every single Angel investor knows that of every 10 investments made two may go quite well and you’ll make a lot of money from them, a handful will not do very much, and there’ll be a bunch of failures. You have to diversify and price risk accordingly. I come back to my earlier point – is it right to price risk a single digit return when that company has to hit every single number in its business plan and the higher end of its valuation multiple range to make 10 per cent. I think that’s wrong for equity investment.
Nicola Horlick: Some argue that companies benefit – not from just equity raises, like the BrewDog and Hotel Chocolat raises. They believe that well-informed investors become ambassadors and advocates for the brand.
David Salamons: In some ways it’s very similar brand licensing. You might not make a huge amount of money out of the royalties per se, but you’re out there. It’s like following a football club. People will buy into it no matter what, and take it forward – the brand ambassadors.
Harriet Green: There is no metadata as set about users across platforms. We know Crowdcube investors go on average to 12 different deals. But do they use other platforms? We don’t know how/if they diversify. It will be interesting to see that feed through. The wisdom of crowd stuff– there are platforms specialising on IP, on shipping aviation – those are used by people who know they can get 12-15 per cent. How many people in the street know this? We can look forward to the date when we can have an umbrella sharing of information.
Debt – Is The Crowd Being Driven Out Of Crowdfunding?
Are we already seeing the end of the golden age of crowdfunding for individuals? Institutions are coming in and wanting to lend millions - what does that mean for private investors?
Angus Dent of Archover: We’ve never allowed any individual or institution to take a hundred per cent of the loan on our platform - the most we’ve ever allowed is fifty per cent. We will stick to that. Obviously, that may mean there are only two lenders on the platform. I don’t think we’re anywhere close to the situation in the US, where they are holding the institutional money back, but if we did get to that stage, we would hold that money back. In the US, they were monitoring some of the projects coming up on the platform, and taking the best ones straight away, so the institutions have the money… We haven’t reached the stage where institutions are coming in that quickly - but we do have some institutional lenders who we pledge on their behalf. I think the individuals can take comfort from that - you have a more sophisticated lender coming in, saying yes, this is what I want to do. Our ethos is still that everyone is part of the crowd, everyone will remain part of the crowd, and everyone will lend on the same terms.
Nicola Horlick: We’ve taken the same stance. Similarly, we’ve never lent more than fifty per cent of the loan, and we keep the crowd motivated to participate. I want the small investor… I want to have the high net worth individual - we have a Management Portfolio Service for high net worth individuals, who have to invest over £100,000 through that service. I want the institutions as well, but I don’t want to be too dependent on any of them, but I think we are going to end up with institutional money. In quite an aggressive way, I see the institutions wanting to come onto these platforms, and it’s a question of finding enough good quality loans. I don’t think institutions will necessarily bring down interest rates, it’ll just supplant the high net worths who have got the whole thing going as being the biggest segment of it.
Audience Question: How do you regulate that? I don’t know if every lender will have the same ethos of fifty per cent. Would it take a policy from government, or from business in general to all agree?
Nicola Horlick: The FCA already has this concept of treating all customers fairly. There’s the question of whether one investor should be able to build an API, look into your loan pipeline and just pull things out. I should think the FCA are probably not going to like that.
Angus Dent: I think I would go one further and say they would absolutely hate it! When we first had our arrangement with asset match, we went to a few lenders and asked them, would you put some loans onto the asset match platform? We went to five people, and four and a half of them said - no, we’re not interested.
Audience Question: So would you say there’s a fundamental change in the investment attitude?
Angus Dent: I don’t know. I think it’s more about what we’re selling to people. What we’re saying is, you’re committing here for 24 months, or whatever it is - and 90%, that’s what is going to happen, and if your circumstances change then there is the asset match platform. It’s almost a matter of last resort for them.
Audience Question: But in any market, once a lot of money comes in you get suspicion, and the emphasis may change for people, thinking they want the yield but there is a great market out there where they can trade it.
Nicola Horlick: Funding Circle is the largest, and they’re experiencing a churn of 17% per annum. People are selling their loans, and we’re seeing a bit of it - people are coming in at the end of an auction, and putting a relatively high bid in. If they then succeed they put some of that loan, or all of it, up in our loan market at a higher price (other words, a reduced yield), in order to make a quick turn. So there are some more sophisticated day-trader types I think, who are going around these platforms, coming in at the end, getting a favourable rate and then trade that position. But, as far as I’m concerned, that’s fine. Funding circle is much bigger, there’s a much larger volume of loans, and there is ‘churn’ going on.
Will IPOs of US P2P Platforms Damage Confidence In The Industry With Over-Aggressive Valuation Models?
Martin Baker of Money&Co. and Another Crowd: The funding gap exists, and we are filling it in P2P and equity too – it’s changing the borrowers’ attitude, they’re feeling more responsible - and it’s changing the lenders’ attitude. But if the price of IPO’d lending platforms is seen as overpriced, which the market deems it to be right now, then there is a real problem. The P2P business model is solid, but if it is too aggressively overvalued, then people will run away from it. My only real concern is that the investment bankers will ruin that by pricing P2P IPOs too aggressively.
Audience Question: Is there any danger that if a platform goes bust that the lenders might lose their money? Can we be sure that the client money has been appropriately segregated?
Angus Dent: You can never be sure. Any lender must have a good look at the platform before, and see if it’s well capitalised, and who is involved. That’s a basic piece of due diligence that must be done. Platforms have gotten themselves into bits of bother, and the larger players absorb it, and runs the books off - so it happens relatively seamlessly. Whether this can happen with the hundreds of platforms that are running now, I’m not sure.
Nicola Horlick: Clearly, you’re meant to keep their money separate from the platform’s own money, and the FCA regulates this. In theory, if a platform goes bust, you just hand it to somebody else and they run it off. That’s part of what’s happening now with these FCA applications - one of the things you must demonstrate to the FCA is that you have a plan in place for run-off, should your platform go bust.
Harriet Green: I think we would do well to look to the US in this instance, when it comes to an expression of a canon of ethics. The UK Crowdfunding Association has done a good job of putting together a code of practice, but there is a difference between code of practice and actually putting together some principles that need to be followed. We just want to encourage as much cooperation as possible - if there isn’t cooperation, that’s when the regulator will come down aggressively, and if you come up with barriers you’re more likely to see cowboys coming in, and not having to adhere to the code of conduct put in place by earlier platforms, trying to do a good job for both lenders and borrowers.
Adam Braggs: We currently still have interim regulators assigned for debt, crowdfunding will have new permanent regulations coming through. Do we think actually these permanent regulations will be that different from what we have already?
Nicola Horlick: It’ll just solidify what we’ve already got. But as we discussed, once the FCA gets more into it, there’ll be more issues… and we’ll have to address that.
Angus Dent: We understand a great raft of people got interim permissions, but not actually put their application in - there were 3 deadlines for putting applications in, and some have already gone past their application date.
Harriet Green: We should also look to Europe. We should remember the European Commission, so I’ve been told, the immediate response was, should we banning this? The FCA will be talking to European bank authorities, and to the security market authorities - so it is probably good that the EC is slow off the mark, but I think you will see more regulation coming through from Europe.
Now in its sixth year, the AltFi London Summit returns on 18th March 2019 to 155 Bishopsgate. Last year proved to be a crucial turning point for the key players building the future of finance. Leading platforms launched oversubscribed IPOs, digital banks proliferated and mainstream financial institutions started their own disruptive propositions. With 2019 certain to be another landmark year, more questions will be asked by regulators with investor interest in disruption also poised for more rapid growth.