The Wealth Formula: Income x Savings Rate = Wealth
11 September 2023 8 min read
9 min read
Published:
Updated:
Haider Saleem
Investing can be a pain – but there are certain asset classes that genuinely bring the joy back into it.
One such asset class is venture capital. Here, you invest in early-stage startup businesses looking to become the next big thing or solve some of the world’s biggest problems.
Crowdfunding is probably the simplest way to introduce yourself to the world of venture capital investment (also known as “VC investing”). On one crowdfunding website, some people on average make an average IRR of 50% annually! Much more on that below.
For a start-up, it’s a route that companies like Monzo used to become who they are today (more on that too below!)
In this article, we’re going to focus on equity crowdfunding, which is a particular type of crowdfunding mostly used by entrepreneurs and investors.
We’ll cover:
After reading, you’ll feel well equipped to make a judgment of whether crowdfunding is for you – because to be honest, although it’s not too difficult, it’s not right for everyone.
First, let’s get on the same page – what is crowdfunding?
Crowdfunding is a public way of raising money from many people for a specific goal. This is mainly done online and especially through crowdfunding websites. Once all the money is pooled together, the capital is used to finance the project or goal.
Crowdfunding is used by all sorts of individuals, such as entrepreneurs, politicians or charities.
It’s hugely popular. According to Moneypenny, In 2018 there were 6,455,080 crowdfunding campaigns, and this number is expected to nearly double in the next four years.
An example of a success story includes Monzo, who in 2016 hosted their crowdfunding on the popular website Crowdcube. They achieved £1 million investment in just 96 seconds.
There are different methods of crowdfunding. Broadly it can be done in the following two ways:
This consists of different types of crowd-based lending, such as peer-to-peer lending (aka P2P) and invoice financing. It works in the same way as a traditional loan, however, the money borrowed is from multiple people.
In exchange for cash, public investors get a proportionate slice of equity in the business venture.
The exchange of cash for equity means this method goes a step further than normal crowdfunding.
It’s more common to find start-ups using equity crowdfunding.
An angel syndicate is a group of investors clubbed together to invest in an early start-up.
It’s different from crowdfunding because in a syndicate, the investors could be hand-picked, exclusively invited or would have had to buy in with a larger amount of cash. Crowdfund investors can be anyone – with very little cash required (usually just £100).
Angel syndicates often have one lead investor who picks the best deals and then bring the rest of the syndicate in on the deal.
Think of angel syndicates like a sophisticated crowdfunding operation where only selective startups get on, and the host of the whole syndicate is always investing themselves.
As angel syndicates are far more hush hush than crowdfunding platforms, they get access to better deals. The best startups would usually much rather keep very quiet about what they’re doing if they can.
What we do at the IFG Angel Syndicate is therefore a specialist form of equity crowdfunding, where we’ll only invest in high-quality sharia-compliant start-ups.
It’s better to use an angel syndicate if you’re not completely sure of what you are doing. You’ll also get access to a sophisticated network, better companies and better deals.
A venture capitalist (VC) is a fund manager that has raised many millions of pounds from pension funds, sovereign wealth funds, banks and other institutional investors, who provides capital to companies that they believe show high growth potential. In exchange for their investment, they receive equity.
The difference between investing through crowdfunding or a VC, is that to invest with a VC fund, you’ll typically need a minimum ticket of £100,000, and often over a million.
VCs are incredibly choosy about their investments, but they have a much shorter time horizon to angel investors as their fund needs to wrap up and give back money to their own investors within 7-10 years.
VC investors probably get access to the best deals. Thereafter you have angel investors. Finally you have crowdfunding platforms.
Now we know what crowdfunding is, where does one begin?
This is done primarily online. A few popular places include:
If alternatively you want to go for an angel syndicate, we at IFG have an angel syndicate you might want to check out.
We’ve talked about where you can go to invest/raise money from crowdfunding. Now let’s look at:
As a start-up, the cost is super important to consider. Crowdfunding websites will charge to host you. Additional costs (if not already included) may have to be spent on marketing, promo, support, etc.
If you’re an investor, you should check if they’ll charge you to invest or have any fees on profits you make.
Let’s take Seedrs as an example. They will only charge a start-up if they successfully raise. This includes a 6% charge on however much is raised, and a completion fee of £2,500 (excl. VAT). You can pay for further promotion and campaign support.
Seedrs also charge investors 7.5% of their profit when they generate a positive return on an investment and sometimes, they’ll charge direct fees.
There are a few important implications here to keep in mind:
To help us understand, we can use the Seedrs 2018 Portfolio Update. It’s really good at showing us who are the people that make the most money.
There’s a big difference between those who pick and choose their investments to those who invest in everything without any thought.
Let’s say you had a hypothetical portfolio with all 577 deals available on the platform. This would produce a platform-wide IRR of 12.02%* (26.42% when EIS and SEIS tax reliefs are taken into account – more about these below).
Compare that to the top 10% of investors who have made 10+ investments. They achieved a crazy huge average IRR of 47.90% (62.45% when tax-adjusted).
In other words, the top 10% of people on Seedrs make 50% annual return. If you invest in everything on Seedrs, you’ll make a 12% return. Therefore, there’s a big difference between those who know what they are doing and those who don’t.
*(Note: IRR means “Internal Rate of Return. It shows how much the portfolio has increased or decreased per year. It’s the most common way to measure the performance of a portfolio of private equity or venture capital investments)
Ensure you diversify your portfolio to spread the risk and increases the chance of success. See if the crowdfunding website has a fund. On Seedrs an investor can create a diverse portfolio through a single investment into a passive fund over a period of time.
Consider fintech. In 2019, it was Seedrs most popular sector by amount raised, generating £73.8 million in investment and accounting for half of their deals. However, if sharia-compliance is a concern for you, then tread lightly here as most fintechs will not be sharia-compliant.
B2C businesses make up nearly 50% of Seedrs’ portfolio, with B2B accounting for 30% and mixed B2B/B2C making up the rest.
Investors remember this:
So Crowdfunding is great for B2C startups. Take a look at Monzo and Revolut. They raised from VC investors but they also crowdfunded. They like their customers owning a bit of their business as it provides allegiance and brand awareness.
EIS (Enterprise Investment Scheme) and SEIS (Seed Enterprise Investment Scheme) tax reliefs may be available for your investments, so consider them.
Other reliefs include capital gains tax reinvestment relief, capital gains disposal relief, inheritance tax exemption and loss relief.
Now you know not just the basics of crowdfunding, but the key ways in which people can make money from it.
If you’re an investor, don’t be scared of taking the plunge. It’s an easy, cheap and halal (depending on the company) way to make money.
Have a look at what we do at the IFG Angel Syndicate, it’s a good place to start if you’re interested in investing.
Any way you invest money, it carries risk. Equity crowdfunding carries greater risk due to the nature of the asset class. However, the rewards could be huge and it creates huge opportunities for people to grow their business and there are great tax reliefs.
If you’re still not feeling investing in crowdfunding, it’s probably better for you to join an angel syndicate instead. And, if you can invest in a £1m ticket, you could put that in a VC fund.
If you enjoyed this article, you can follow me on Twitter or LinkedIn.
https://www.moneypenny.com/us/resources/blog/four-crowdfunding-success-stories-to-inspire-you/
https://www.investopedia.com/terms/c/crowdfunding.asp
https://www.investopedia.com/terms/v/venturecapitalist.asp
https://www.seedrs.com/learn/help/what-fees-does-seedrs-charge-investors
https://www.seedrs.com/learn/blog/2019-a-record-breaking-year
https://www.companyfundingoptions.co.uk/seedrs-reports-12-irr-across-its-platform/
11 September 2023 8 min read
21 July 2023 6 min read
25 April 2023 15 min read