Crowdfunding has arguably taken a while to grab property investors / developers attention in the same way that the overarching concept has achieved in other industries. In recent years, however, its role as a viable source of finance for a variety of project objectives has gained massive traction. As one of the first platforms in the property arena, Simple Backing (the peer-to-peer crowdfunder originally created in 2013) and the more recently inaugurated Simple Equity have played a prominent part in spearheading this drive. Uniquely positioned to fund a broader scope of property deal structures, developers and fundraisers can explore whether crowdfunding can complement more traditional funding mechanisms, whilst simultaneously building their own reputation amongst the crowd / potential investors. Investors can join the crowd and can collectively scrutinse projects that come on to the ‘Simple’ platforms, benefit from competitive rates of interest and/or become fractional or larger stakeholders of potentially lucrative deals (in line with their own appetite for risk).
With the sector clearly set to make notable strides in the coming years, I was very grateful that Davin and Atuksha Poonwassie (also director of the UK Crowdfunding Association) took the time to answer some questions:
What prompted the need to launch an equity platform to operate in conjunction with the Simple Backing, the peer-to-peer lending platform?
Having launched Simple Backing in 2013, we began to notice that quite a lot of developers were expressing interest in the equity option – which effectively offers an alternative approach to project funding. So, earlier this year, we launched Simple Equity. As the equity platform has developed, we´ve seen that it actually complements peer-to-peer very well. The benefits of equity allow an investor to take a share and potentially get a greater return. However, eventually, we can see deals incorporating part equity and part loan – i.e. you can potentially have peer-to-peer funding the senior debt and the equity side can fund other aspects of the development. Of course, both sides of the business are separately licenced – but they will essentially work the same way.
What do you see as the main risks of investing on a platform like this for both novice and experienced investors?
Investments of any type carry risk whether they are presented through a crowdfunding platform or not. Unsecured investments (where there is no asset to secure upon for example) may carry more risk. Ultimately, managing risk has a lot to do with making sure that prospective investors understand what they are getting themselves into. Our key risks statements are available here (for Simple Backing) and here (for Simple Equity).
What´s the minimum investment amount for both the peer-to-peer and equity based lending and why have they been set to these levels?
The minimum amount on peer-to-peer is £5,000 and on equity it varies by fundraise. We have some share prices set as low as £200. The former is historical. We started with minimum investments of £5,000 and have just kept it to that and it works well for us. On the equity side, the fundraiser determines how many shares they wish to issue in their business and this ultimately determines the share price, and therefore the minimum pledge.
Prior to being able to invest through Simple Equity, could you outline the process – including the checks on appropriateness / credibility of the investor?
Potential equity investors that visit the site are directed to a quiz, which aims to establish how they understand the concept of crowdfunding investment, referred to as the “Appropriateness” test. At this stage, it´s a matter of clarifying something as simple as establishing that they would not be able to release any investment capital during the term of the loan. Should they be averse to such an idea, they would not be able to proceed. There are three other questions and, if the answers are wrong, we would request for them to go and do a bit of learning. Investors are welcome to “retake” the quiz, but it is important that they understand all of the necessary implications of crowdfunding. This is not a simple “tick box” exercise – the questions are worded in a way that prospective investors will have to carefully think about whether crowdfunding is for them. Should they retake the test several times, we usually advise that investing in the platform probably isn´t for them. However it is ultimately up to an investor as to whether he/she wants to invest. We feel it´s important that people understand that there is risk and potentially a loss of money invested.
During this process, we also explain the different investor categories (Retail, Sophisticated, High Net Worth) and also undertake the “Know Your Customer” (KYC) checks.
Prior to a deal going live on Simple Equity, could you outline your due diligence procedure – including the checks on the competence / credibility of the fundraiser?
We do a number of checks on the business and project including a review of the financials, business ownership, experience of the fundraiser etc. This is so that we have the most complete information available to put onto the platform. It also allows us to review a business or project to make sure that it is in line with what the platform is offering. We must stress that investors should do their own due diligence before they invest. They should look at all aspects of the project or business to get a better understanding of where they are investing their money.
Could you talk a little bit about how you work with developers and other fundraisers?
We usually start by understanding what the developer or fundraiser wants to achieve. We run through how both equity and debt crowdfunding works as, being relatively incipient, quite a lot of developers do not fully understand the concept. We then request some key information about the project, business and fundraiser so that we can then do the necessary checks to ensure that everything is legitimate.
We look for projects where the asset is controlled or owned and there is a clear plan that investors can understand. Without question, the project needs to stack up and work from both sides – i.e. we have to like it and they have to agree the terms and obligations of placing a project on the platform. We place great importance on the integrity of the developer (as we don´t want anything getting funded and then subsequently failing). There are situations where a project would need to be “rejigged” following conversations, and we make ourselves available for help on this front.
If the deal makes it on to the platform, we present the information we´ve been given and make it clear to investors that it is entirely up to them to verify it. At this juncture, investors can request anything from accounts / P&L audits, Companies House verifications to due diligence checks on contractors, build teams etc. We encourage our investors not to be shy.
From your presentations, the roles of social media and building an investor community are set to form a fundamental part of the growth of Simple Backing / Simple Equity. At the Property Fortress event a couple of months ago, for example, you demonstrated how the crowd can collectively engage in due diligence which, as many attendees commented, was a great way to get to the crux of the deal. Would you be able to let us know a bit more about your plans on this front?
Once approved, the platform allows for developers to showcase their projects to the crowd. The crowd, as mentioned above, are welcome to ask as many questions as they like with regards to the merits of the project and, collectively, come to a decision as whether it is worth progressing. The more informed the crowd, the better it is as people can really get to the nitty gritty of a project and see if there are any interesting angles. This process enables developers and fundraisers to build their own reputations – although this would require them to not be afraid of being constructively criticised by the crowd.
The benefit of involving social media is that people effectively stimulate more profound discussions about the deal that would be the case when analysing on an individual basis – we call this the “hive of minds”. Whilst some may wish to invest on the basis of the headline figures, we now have the infrastructure in place to facilitate crowds of say 30, 300 or 3,000 which means that significant input can be put into each project that comes on to the platform. Indeed, it´s in the realms of possibility that the crowd could give enough feedback so that the structure of the deal can be changed entirely. For example, if a member of the crowd suggests a nuance of planning legislation that could create an extra unit, or other forms of how value could be added, everyone would end up benefitting. Ultimately, of course, it would be up to the developer or fundraiser to make a decision. If there has been a noticeable variation, a relisting may be necessary or confirmation with existing pledgers that they are willing to continue on the basis of the revised detail.
We currently have an ‘update section’ where all questions raised are presented back to the crowd. In addition, we have a number of items in the development plan that will allow us to better facilitate this communication. All new developments are shared first with our community.
What if there are cashflow or other issues during the life cycle of the development?
We try to help if we can. If it´s a loan-based deal, theoretically investors could look to claim security if there is some if all other options had been explored. However, in most cases, it´s up to the developers or fundraisers to suggest a route out. Many would implicitly know that the last point of call for extra funding is the crowd as both successes and failures are public, more so than other forms of property investing. Hard-working developers and fundraisers indeed have an opportunity to turn things around which could offer a better result for the crowd. From an equity perspective, everyone is effectively in this together (being shareholders), so if a developer or fundraiser perceives that something is going wrong, it is in everybody’s interest to find a solution. Everyone would otherwise lose.
What is a “lead investor” and how might a crowdfunded project operate more efficiently should such a person be in place?
This is someone who has either bought into a project or has relevant experience to offer, typically with a larger stake in the project. The lead investor would be involved in taking a more hands-on approach, communicating and updating investors on progress, making decisions, liaising with the development team, amongst other roles. What fundraisers are avoiding here is asking 100+ people to make relatively trivial decisions – such as the spend on kitchen appliances! There is also the social proof factor at play here – lead investors would also have good reputations and will have an ability to have a positive, albeit indirect, influence on the crowd. They would be known for having knowledge and expertise – perhaps having previously executed successful projects themselves. At the end of the project, they would be remunerated in the form of an extra equity stake, profit share or other appropriate agreement that the fundraiser has agreed to. Not all projects have a lead investor – it is up to the developer / fundraiser to decide whether this is something that they wish to have.
Could you explain how the concept of sweat equity would work in a crowdfunding transaction – perhaps for prospective fundraiser who is time rich but cash poor or perhaps had little / no track record?
If a fundraiser has (or will invest) sweat equity then they keep a percentage of ownership and offer the rest to the crowd. So for example, the fundraiser might offer 90% to the crowd and retain 10% for their work in managing / building-out the project. The question here becomes, what “buy in” does the fundraiser have? Investors like to see some “skin in the game”. If the fundraiser has little or no track record then fundraising understandably becomes harder; this is where they could engage with someone with experience to be an investor (possibly a lead investor).
Would long term hold single-lets or HMOs – i.e. where the deposit is funded by the crowd (as equity) and the debt is financed by a lender – be feasible? Or are there likely to be complications, particularly in the stricter regulatory environment we find ourselves in today?
This is a grey area and much will depend on the lenders on policy and willingness to work with crowdfunded deals. Any fundraiser would need to inform the finance company of where the deposit money has come from prior the raise. A while ago, lenders were concerned about the number of investors – but now the real issue we´re noticing is that having crowdfunded equity means that there is no “skin in the game”. Therefore, the fact that the equity is borrowed could be viewed unfavourably. There are a few companies that will consider this set up but they are few and far between. We hope that this will become more acceptable moving forwards.
Is there a concern that, in the current low interest rate environment, the type of fundraiser that would approach Simple Backing would be one that cannot access mainstream lending? What would be the incentive of using crowdfunding as opposed to bridging, for example (from both a financial and practical perspective)?
No. We get approached by successful developers / fundraisers who are keen to build a crowd and online presence, not only raise finance. From a purely financial aspect, crowdfunding is another option for raising finance. Its flexibility, rates and openness often makes it attractive compared to other lenders some who may simply say no.
It´s been interesting to see the pre-funded model coming more into play. Would you be able to explain a little more about this and whether it is something the Simple Backing / Simple Equity would be looking to apply to its own crowdfunding strategy?
LendInvest has been one of the first to adopt the pre-funded model, enabling fundraisers to know the money is available and thereby be less dependent on the crowd. Likewise, when an investor selects a loan to invest in, it has already been pre-funded and they can earn interest straight away. There are two approaches here – one is that the platform has an underwriter with deep pockets to prefund the deals. As long as the deal fits the agreed criteria, which is likely to be very stringent, it will be funded prior to being presented to the crowd. All if not some of the deal will be funded, depending on the crowd´s appetite. Should there be any deficits, the underwriter would effectively “fill the gap”. The good thing about this is that we as a platform can approach developers and fundraisers and say that, as long as the project fits the criteria agreed with the underwriter, the project will be funded within a short timeframe. Note that this not a “set and forget” investment strategy and the crowd does need to do their own due diligence. We are exploring this option as we feel it will benefit our customers. The other approach is where the platform actually buys the deal – almost like a bridger – and they subsequently raise that money back from the crowd. In this scenario, there is a variation required to the FCA license as the platform would effectively be selling their own deal – asking people to pledge into their own investments.