How crowdfunding is giving exciting businesses the chance to do a “top-up” round – and why they need to be careful
Choosing how to finance a company at any particular stage is a complex decision, with no simple, right answer. We are an app-based provider of beauty services to your home, operating in London.
Since launching in 2013, we have raised over £5m from angel investors, which has enabled us to build two flagship stores and roll out our e-commerce platform.
But before we went for a more traditional VC or private equity round, we decided to do a “top-up” fundraise, enabling us to expand outside the capital and engage more customers.
The good news is there are multiple options for doing this, from high-net-worth angel money (with tax breaks in the UK through SEIS/EIS), crowdfunding, venture capital, issuing consumer bonds and debt financing (bank business loans, through to P2P platforms and expensive venture debt), to self-financing through growing revenues, invoice factoring or stretching cashflow. That’s just to name a few.
Beyond self-financing, whichever route you choose, you need to think about the fit for your stage of business, how aligned your objectives are, what you are giving away for the money, and what you are getting beyond money (if anything) – whether expertise, network, marketing, credibility.
As with anything where there are returns to be made, as well as the good guys, the market is full of bad guys. “Vulture Capitalists” will take too much of your company, want multiple liquidation preferences (i.e. seek multiples of upside while keeping their downside protected), anti-dilution clauses, termsheets with a list of vetos which effectively give them control of the company, extensive restrictive covenants, and personal guarantees and warranties.
Read more: The nine key trends in alternative finance
We found it interesting how many new funds and sources of finance are touting themselves as “founder friendly” – and then, in the next conversation, will send you a termsheet asking for “preference shares & terms” and not “equality”. There are acceptable and fair standards in the industry, but not everyone plays by the rules.
Key questions
Our decision to use crowdfunding to top-up previous investment was made by weighing up the options, speaking to friends about the challenging terms in the market, our need for speed and, in large part, by serendipity. We were looking for an unconventional “in between” round with minimal dilution, while we built more of a track record before raising more capital to scale (at a higher price).
While crowdfunding as an asset class is growing fast, it still has a stigma attached to it – there are claims of “dumb money”, excessive valuations, pledged money not being real, failed raises, limited due diligence, shareholder rights abuse, multiple shareholders to manage, and the “snob” factor, to name a few.
However, times are changing. As the asset class matures, we’ll start to see good exits (as well as failures), portfolio returns (remember that most venture funds take 10 plus years to fully realise outcomes), more education among investors to build portfolios and keep hold of reserves to follow on their winners, tighter regulation around pre-funded nominee account structures and money handling rules, more rigorous due diligence, and following credible lead investors.
Read more: A refresher guide to equity crowdfunding for investors
Over the past couple of years, beyond early stage proof of concept, we have started to see a number of “smart” companies use crowdfunding “top ups” for strategic reasons, primarily marketing. Most recently, Mondo bank raised £1m in minutes (in addition to £5m raised institutionally) as part of a clever way to pre-register customers. Even early stage venture funds like Venrex have topped up a fundraise on Seedrs.
Ultimately, our decision to crowdfund came down to two things.
The first was marketing. While we were exploring options, a couple of our customers approached Jeff Lynn, the chief executive of Seedrs, and suggested they would be interested in investing in blow LTD. This led to a discussion of the merits of crowdfunding as a way of building a network of consumer and professional evangelists (who would become our owners).
To further support this, Seedrs would showcase our company and support a co-marketing campaign (like Tube adverts). In return, they would get to promote the concept of crowdfunding to our customer base of affluent women (and future investors) and our personal network.
Secondly, it was convenient. Given that we already have a small financing round priced, the bolt on of a crowdfund “top up” is limited extra work, using existing documents with everyone on an equal footing.
And with a long shareholder register of angels, a crowdfunding platform provides an efficient way to manage and administer pre-emption rights (for existing investors to top up their share position and avoid dilution from new money coming in) and look after various elements of administration.
We believe some of the platforms will evolve in this direction and make shareholder management and communication much simpler for entrepreneurs.