Christopher Charlesworth, CEO and Co-founder of HiveWire, Joins National Crowdfunding Association of Canada’s Advisory Board
March 24th, 2017
For the better part of a year we’ve been anticipating a report that was to be the product of a joint venture by thought leaders and researchers in the crowdfunding space, distributed and supported by The World Bank. That report, entitled “Crowdfunding’s Potential for the Developing World,” is finally here.
Recognizable names in crowdfunding that contributed to the report include: Sherwood “Woodie” Neiss, Jason Best, Richard Swart, Steve Case, Doug Ellenoff, Judy Robinett and many others.
The report cites the 2008 financial crisis as one of the main catalysts to interest in crowdfunding and specifically equity crowdfunding in the United States. More traditional forms of capital formation clamped down on throughput in the wake of the crisis, creating an even greater need for money to establish new businesses and expand existing ones.
Among many notable revelations contained in the report, one data point is particularly interesting: The United States has 344 crowdfund investing platforms, leading the world in the number of active platforms. The UK is second with 87, and France is third with 53. It is clear that the private market is getting closer to being ready to facilitate deal throughput. (Educational initiatives and the effectiveness of those initiatives is another conversation altogether, but the infrastructure is certainly gearing up if nothing else.)
Another strong theme throughout the document is the importance of trust and transparency in facilitating a healthy crowdfunding sector with wide-ranging participation among potential investors. According to the report, crowdfunding is “a socially mediated phenomenon which relies in great part on the intrinsic trust people place in shared connections on social networks, community affinities, and the ratings of others on trusted, mainstream websites.” Trust between investors is important. Trust between investors and platforms is equally – if not more – important, and that is a challenge crowdfunding platforms of all types will face day-to-day as they try to drive capital from the crowd to those that need it.
The report is 104 pages. Industry participants and true crowdfunding nuts would be well-served by reading the entire document. It dives deep into the ethos of the space and the potential crowdfunding has in regards to leveling the playing field between the developing world and the developed world.
For those that don’t have time to read the document, we’ve provided what we consider to be the most notable quotes from the document. Call it a TL;DR version…
Developing economies have the potential to drive growth by employing crowdfunding to leapfrog the traditional capital market structures and financial regulatory regimes of the developed world.”
Take: This is the prevailing theme of the entire document. “Diaspora dollars” are regularly cited by Crowdfund Capital Advisors as a potential boon for developing nations. This topic is delved into deeper in later sections, including in this breakdown.
Countries that want to adopt crowdfunding must not only create enabling policy, but also, in some cases, address policies and regulations that currently make it burdensome to enter into, conduct, and end business operations. For example, incorporation or dissolution of a business entity in many developing nations is overly bureaucratic, time-consuming, and costly.”
Take: The success crowdfunding has in facilitating access to capital is only going to be as strong as the culture of entrepreneurship that underlies it. Countries have to facilitate entrepreneurship if they have any hopes of capturing the benefits of crowdinvesting.
The crowdfunding market is in its infancy, especially in developing countries, but the potential market is significant. It is estimated that there are up to 344 million households in the developing world able to make small crowdfund investments in community businesses. These households have an income of at least US$10,000 a year, and at least three months of savings or three months savings in equity holdings. Together, they have the ability to deploy up to US$96 billion a year by 2025 in crowdfunding investments. The greatest potential lies in China, which accounts for up to US$50 billion of that figure, followed by the rest of East Asia, Central Europe, Latin America/the Caribbean, and the MENA region.”
Take: $96 billion per year in deal throughput by 2025 from households in the developing world represents a huge opportunity for growth. It also represents a significant market opportunity, and statistics like this may drive more industry entrants into this niche. Impact investing stands to really explode with crowdfunding.
Today more than 80 percent of the world’s online population interacts with social networks on a regular basis, despite the fact that 65 percent of the world’s population – 4.6 billion people – still lack Internet access (McKinsey Global Institute 2012). Technology-enabled communities, that is, online social platforms that bring the speed, scale, and economies of the Internet to social interactions, have grown to more than 1.5 billion members globally (Curtis, Conover and Chui 2012).
Take: Social networks are going to be hugely important to the crowdfunding movement. Social media will facilitate interaction and build networks around ideas, entrepreneurs and causes in ways we have never seen before.
Across all regions, crowdfunding expanded at a 63 percent compound annual growth rate (CAGR) from 2009 through 2012. Equity-based platforms exhibited a CAGR of 114 percent, lending-based platforms 78 percent, donation-based 43 percent, and reward-based 524 percent.
Take: Rewards-based crowdfunding saw a 524% compound annual growth rate between 2009 and 2012. That is amazing. Why? Because it is one of the cheapest and easiest forms of capital formation ever.
When investment decisions are made, a possible exit of that investment should always be contemplated. Crowdfund investments are investments in private companies that lack short-term liquidity, unlike public companies listed on stock exchanges.
Take: Liquidity is a big concern for the crowdfunding space, but the more crowdfunded securities are held the more of an economic case there is for a secondary market. Nobody wants to see day trading in crowdfunding but the opportunity to cash out painlessly may serve the space well. Either way, early on it will be important to educate the public about the lack of liquidity in crowdinvesting.
While an IPO might be the most lucrative exit for a CF investor, the likelihood of a company going public is small in developed countries and even smaller in developing countries.
Take: The public also needs to be realistic about chasing the “big exit.” If that is the public’s focus, the entire industry could suffer for it. Investors would be well-served by seeking investments in companies with long-term, sustainable paths to profitability. (Of course, they’d also be well-served by diversifying and chasing the occasional home run. Just don’t build a portfolio of them.)
To foster an exit, the most logical model for a crowdfund offering would be straight debt or common stock. Common stock could come with anti-dilution preferences that consist of a) buyout of crowdfund shareholders in subsequent rounds at the current price offering, b) ability of crowdfund shareholders to buy in at the price of subsequent rounds or c) an option for crowdfund shareholder to suffer dilution but maintain their shares. Straight debt and common stock are easily understood by investors and offer clearly defined exits.
Take: This is a great breakdown of structure when it comes to crowdfunded securities. Investors are going to want to see an exit, although (again) they must understand that these investments pair companies and investors for what is a relatively long haul when compared to the very liquid public markets.
In the case of crowdfunding, it is important that regulators rethink investor protection given an array of new tools that now are available with the rise of the Internet and the social web.
Take: Thus far stateside, regulators have done a great job in warning the public of the risks of crowdfunding and crowdinvesting. They’ve done an arguably poor job in tempering that caution with an explanation of the benefits.
The biggest challenge surrounding accreditation is that high income and net worth do not necessarily equate to financial sophistication or knowledge of capital markets.
Consider a movie star and a finance professor: the star probably has far greater net worth and income but a far inferior understanding of capital markets. Nonetheless, when it comes to letting unaccredited investors diversify into crowdfund securities, it is important to set guidelines so that they have an understanding of what are reasonable limits. Models of accreditation should include a consideration of education, to test the investor’s understanding of investment risks, as well as disclosure of experience in investing in general.