CEO Jeff Lynn opens up on everything from sector-wide transparency, to platform structure, to the so-called wisdom of the crowd.
The UK’s equity crowdfunding sector is in a state of flux. Much like its close cousin peer-to-peer lending, the media-darling-that-was is entering into a phase of closer scrutiny – with the largest players in the market now making a significant dent on the UK economy. That higher level of scrutiny has seen questions raised about everything from due diligence process, to transparency, to investor protections, right through to the likelihood of investor return.
But innovation within the sector has by no means slowed. Equity crowdfunders are increasingly looking to interact with the public markets. Platform structures are shifting. A couple of exits have now surfaced.
In part in response to sector-wide criticism, we’ve witnessed the rise of a number of new equity crowdfunders that intend to bring higher levels of “professionalism” to the sector – GrowthDeck, for example. One platform, however, has for a number of years now trumpeted that same style of approach. Seedrs is one of the longest-standing equity crowdfunding platforms in the UK and the first to be regulated by the FCA, with a self-professed ethos of “equity crowdfunding done properly”. The platform recently announced that it had passed the £100m mark in cumulative funding delivered. However, Seedrs – relatively conservative by nature – does not currently feature in the Liberum AltFi Volume Index, at their behest. The platform closed a $10m Series A funding round in August 2015 – a round that featured Neil Woodford’s WPCT and Augmentum Capital.
I headed over to Seedrs’ temporary offices in Borough last week for a rare interview with CEO Jeff Lynn. Jeff offered up his thinking on a wide range of industry issues, while also lifting the bonnet on the Seedrs platform itself.
Jeff founded Seedrs alongside Carlos Silva in 2012. His background is in corporate and M&A law in New York and in London. I first wanted to set the scene by getting Jeff’s take on exactly where the crowdfunding industry stands at present. In his opening keynote at the AltFi Europe Summit 2016, Funding Circle CEO Samir Desai talked about how the “year of hype” – a 2015 that was chock full of fundraises, partnerships and governmental support – is now behind us. He asserted that 2016 would by contrast be a year of getting on with business. Jeff sees a certain similarity within the equity crowdfunding space – which he believes to be around 4 or 5 years behind P2P lending in its development. That lag is a result of both the longer-term nature of early stage investment as an asset class and the simple fact that equity crowdfunding, as an industry, is only five years old.
I wasted no time in getting into the thorny issue of transparency. On his reticence in the past to engage with companies like AltFi Data, Jeff explained:
“It’s not that I don’t sympathise with what you’re trying to do or think that there’s no value there. But I am a big believer that no data is better than bad data, and I do think that this is a space in which getting good data is meaningfully harder than it is in other spaces.”
Jeff stressed that – despite these difficulties – he absolutely sees transparency as fundamentally important. We drilled into two main areas: standardising volume disclosure and performance data. Jeff thinks that volumes of investment, whilst certainly sexy and interesting, is lower down the list in importance than other forms of transparency.
On volume reporting, Jeff identified the crux of the issue as the heterogeneous nature of the investors involved in equity crowdfunding. Those investors include the “pure crowd” – who arrive at a platform, find an interesting deal and invest, you have what Jeff calls the “quasi-crowd” – who in some other way hear about a particular deal and then choose to invest through the platform, there are then friends and family and connections of the entrepreneur, and finally you have both angel and institutional investors – who in most instances have little to do with the crowdfunding platform.
Jeff’s major concern is that some platforms are able to give the impression of impressive volumes, when the majority of that volume has in fact been contributed by, say, angel investors. To set such a platform alongside one where the vast majority of funding is sourced from retail investors who chance organically upon interesting projects and then choose to invest does not make for a fair comparison. Jeff believes that data providers have to somehow control for this difference. I suggested that tighter definitions of the investing groups and segmentation might be the answer; Jeff was broadly in agreement, adding that he doesn’t fundamentally take issue with equity money coming from a diverse range of different sources, so long as the platform’s contribution to the grand total is clearly and correctly disclosed.
In November last year, AltFi Data published the “Where are they now?” report – an investigation into the status of the 367 companies that had at that time raised money via the UK’s top five equity crowdfunding companies. Is that kind of performance-based data useful to the sector, by Jeff’s estimation?
“I think that in terms of the usefulness of the information, that kind of data is meaningfully more important than volumes.”
He added though that, once again, standards of reporting for this kind of information vary enormously. Platforms like Seedrs that maintain ongoing relationships with their fundraisers (via the nominee structure/platform carry) are clearly best placed to deliver. Our report concluded that one in five equity crowdfunded companies had to date failed. We caveated that finding by reminding our readers that not enough time had passed for a fair reflection of the asset class’s performance to be accurately ascertained. Somebody recently made the point to Jeff that the one in five figure may lead to a sense of overconfidence among equity crowdfunding investors, in spite of our caveats. Jeff in turn made the point that people have a tendency to overlook caveats, and to focus on the headline numbers.
I also raised the findings of a recent Crowd Rating report, which surveyed 155 equity crowdfunding campaigns and ranked them based on a range of criteria. The report found that the crowd pays close attention to management and product, but pays little to no attention to financials. In fact, the crowd was, if anything, more likely to invest in campaigns that scored poorly in the field of financials. Are Seedrs’ investors discerning enough? Are they asking enough questions?
“Absolutely – but not on financial information because they shouldn’t be. The reality is that financial information for seed and early stage business is absolutely useless. It is the most inherently misleading set of information you will ever see. There is a role for it. To a professionally trained eye, seeing financial projects helps you to understand how the entrepreneur is thinking about growth and thinking about scale. But if presented to ordinary investors, they are read as genuine expectations of what is going to happen and that’s never accurate… No set of early stage financial projections is ever realistic because they can’t be because you just don’t have enough information or understanding about what’s going to happen. There are too many uncertainties.”
“That’s why we don’t allow financial projections on our platform. We made the very conscious choice early on that we would not allow people to post them. If investors want to request them directly from the business and the business wants to share them, that’s their choice. But we don’t think this is valuable information.”
Jeff believes that the idea behind a business, market research and management information are far more important factors for investors to consider – for seed stage investments. In these fields, he believes that Seedrs’ investors are hugely discerning. He also subscribes to the notion that two or three hundred investors from multiple walks of life are collectively a better judge of the quality of a seed stage investment opportunity than individual angels. Jeff is less sure how the crowd would fare if the platforms began to branch out into larger, private equity-style deals, where financial projections are unquestionably relevant.
“But for businesses at an early stage I think the crowd is doing a great job because they’re ignoring financials.”
Seedrs’ fee model is to charge a commission on funds raised, which is taken from the entrepreneur at the time that a deal closes. In addition, the platform charges a 7.5% carry fee on each deal, which is applied to any cash that investors receive back in excess of the amount of capital invested. Jeff refers to this as the “lifecycle” model, as distinct from the “transaction” model. The former means that the platform is itself involved with the fundraising business from the closing of a round, right through to exit. Jeff believes that by aggregating investors into a structure, Seedrs can offer far more in the way of rights to those investors. The broader point though is that Seedrs’ interests are aligned with those of its investors right through until exit, or so Jeff would argue.
Exactly how much the carry fee should be and whether it ought to be a management fee rather than a portion of investor upside are commercial matters that Jeff believes will be better worked out over time.
So, yes, the carry entails what Jeff calls “a marginal depletion of upside”. But the crucial point in relation to platform structure, according to Jeff, is that issuing shares to people with effectively no rights attached is not about the marginal depletion of upside (which is the effect of platform carry); it’s much more binary than that. If you’re lucky, nothing bad will happen and you’ll earn a return without paying a platform 7.5%. In an unlucky scenario, the seed investors can be completely wiped out, leaving “potentially millions of pounds on the table”. For this reason, Jeff finds it very hard to compare the economic impact of carry versus the impact of investors not having appropriate rights. Although Jeff did add that there is a wholly legitimate decision for experienced investors to make between coming under the nominee structure and negotiating their own arrangement with the fundraising company. The latter of these options of course negates the need for investors to pay platform carry fees, but entails additional administrative work for the investor.
We then moved on to discussing the interaction of equity crowdfunding with the public markets. Most of the major crowdfunders have done something in relation to listings, and Seedrs is no exception. The company hosted a fundraising round on behalf of Chapel Down – which is listed on the ICAP Securities and Derivatives Exchange – in September 2014. Are such crossovers going to become an increasingly important part of the Seedrs business model?
“The honest answer is that I don’t know, and I’m not being coy; we as a business have mixed views on it. The key question in the public markets is: what can we offer that’s not already being offered? … I think there may be more hype than substance there.”
Jeff’s position is that he would only want to make a major play into the public markets if the platform would in doing so be filling a clear gap in that sector, and he’s not sure that such a gap exists at the moment. For now, Seedrs’ plan appears to be to wait and see, and to engage with the markets only at such a time as the platform is able to offer clear value.
Seedrs acquired Junction in November 2014, thereby branching out into the US. Title III of the JOBS Act comes into force on 16 May. Prior to that date, only accredited investors may invest in early-stage equity crowdfunding rounds (those who earn equal to or over $200,000 a year or who have a net worth of at least $1m). Title III opens up the asset class to retail investors, but in a very prohibitive fashion. Companies raising under Title III will be limited to raises of a maximum of $1m. There are also a huge number of investor caps and restrictions around marketing. As a result of these restrictions, Seedrs is not a believer in Title III at this moment in time:
“We are in the process of rolling out a model under Title II. We do not think Title III in its current form is workable. It’s so restrictive and so difficult to get any traction with that it’s not worth our time to focus on. We’re actively engaged with folks in the US and with congress about changes to Title III… But as it stands today we’re somewhat pessimistic.”
In a somewhat tangential turn, we moved on to tennis ace Andy Murray – who joined the Seedrs Advisory Board in June of last year, and who has to date invested in a number of businesses through the platform. Jeff offered his thoughts on this rather unusual association:
“It’s been great for a couple of reasons. It’s no secret that celebrity endorsements and partnerships attract attention and PR is a helpful way for us to get our name out there.”
Beyond that, Jeff explained that the deeper benefit of the partnership was that Murray – as an active investor – is frequently keen to test out the products of fundraising companies, which of course acts as great exposure for them.
Finally, we talked about some of the challenges that lie ahead for the UK Crowdfunding Association. Julia Groves stepped down as Chair of the association earlier this month. There are 40 members of the UKCFA – covering everything from rewards, to equity, to debt, and even through to aggregation. The task of marshalling so varied an assortment of platforms will be a challenge for whomever steps into Groves’ shoes. Jeff gave his take:
“I think Julia Groves did a fantastic job in her time as Chair. I can’t think of too many other people who could have run an organisation like that. I think most people would have struggled.”
On the breadth of the association’s membership, Jeff said:
“It’s good that platforms big and small are able to get in and have a voice, and from what I see I think the organisation is adding value – and I was a real skeptic at the beginning, I have to admit. I was inclined not to have Seedrs join and Julia persuaded me to and I’m glad we did.”