Crowdfunding a blow for ‘investor democracy’

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There are many ways to describe crowdfunding, but the one I like best is “investor democracy”. In whatever form a crowdfunding project takes, it presents an opportunity for people who like an idea but have limited capital to participate.

On the other side of the ledger, it offers fresh avenues to capital for those wanting to raise money. And although it’s a very old concept it’s been given a new lease on life, modernised and channelled globally by the internet. And it’s growing exponentially.

Typically, people who wanted to raise finance for a project went cap-in-hand to their banker. Those more market savvy (or with good track records) could tap venture or angel capital. In a nutshell, it involved asking a few people for typically large sums of money.

Crowdfunding is the exact opposite; using the internet, it gives lots of people the opportunity to invest small sums of money, massively expanding the potential investor base.

The World Bank estimates that capital raised via crowdfunding will reach US$90 billion by 2020, with some analysts suggesting this figure could prove conservative based on the 2015 report by the research firm Massolution that predicted global crowdfunding to reach $34.4 billion in 2015 after the market grew 167 per cent in 2014.

That crowdfunding is having such appeal should hardly surprise. In the US, which boasts the largest crowdfunding market, it is a direct response to tighter lending practices by the banks due to stricter regulations on credit and capital requirements in the wake of the financial crisis, and it is a similar story in Europe and Asia. In Australia, the crowdfunding options are predominantly for property or small businesses looking for capital.

It operates at several levels that can broadly defined into four key areas:

  • Donation (philanthropic/social) crowdfunding: This is where people contribute because they are strongly motivated – but not for profit. Typically donation crowdfunding is used to fund individual, social or environmental causes or projects. One of the better-known websites is GoFundMe.
  • Rewards-based crowdfunding: Small businesses and not-for-profit organisations that have a capital raising target. In return for money those who support the project, the business or not-for-profit receive an incentive for participating (hence the name rewards-based). Pioneers in this space were sites such as Kickstarter, Indiegogo and Pozible.
  • Debt crowdfunding: Also called peer-to-peer lending where people earn interest on their contribution. For those raising capital, it provides an alternative to banks and other more traditional sources of income. Based on Massolution’s global 2015 figures, debt crowdfunding accounted for $US25.1 billion (or 73%) of the total $US34.1 billion of capital raised via crowdfunding.
  • Equity Where people invest in high value assets such as property or corporate bonds with an expectation of a quantifiable return. With property, for example, that expected return is via rental income and capital growth.

Earlier this year, the Australian Parliament passed a bill designed to facilitate equity crowdfunding. For eligible companies, the new law provides temporary relief from reporting and corporate governance requirements that would usually apply.

Eligible companies are public companies limited by shares, with their principal place of business and a majority of directors in Australia. Listed companies are ineligible, as are proprietary companies, foreign companies and public companies that do not have share capital.

Globally, real estate crowdfunding grew 156 per cent in 2014, just breaking the US$1 billion mark, with campaigns ranging in size from less than US$100,000 to more than US$25 million. North America topped the charts with 56 per cent market share, with Europe in second place at 42 per cent.

In Australia, the concept of property crowdfunding got a shot in the arm when DomaCom entered the fray for the acquisition of the iconic Kidman estate in late 2015. In what was a David versus Goliath contest, DomaCom took on corporate Australia, Chinese interests and the Kidman board to give small investors an opportunity to acquire a stake in Australia’s rural heritage.

By the time the Federal Government bowed to public pressure and ruled out majority Chinese ownership, allowing mining magnate Gina Reinhart to snap up 67 per cent (Shanghai CRED holding the other 33 per cent) of Kidman, the DomaCom bid had attracted $80 million in commitments from about 5500 small investors.

It wasn’t pure emotion. As an asset class, it offers investors a good opportunity because of the low volatility of agricultural land prices, growing Asian demand for agribusiness products, and a long-term investment horizon that allows investors to negotiate fluctuating commodity and currency prices, as well as natural disasters.

Since then DomaCom has crowdfunded a small beef property in Western Victoria, and there are others in the pipeline.

Although rural property generates public interest, DomaCom’s core crowdfunding business centres on residential and commercial property. To date, it has funded 40 property acquisitions worth $14 million, mostly in the residential market, with another 12 residential properties worth $6 million in various stages of funding, and a $25 million mandate for commercial property via an investment platform.

DomaCom is allowing investors, whether they are young Australians looking for a toehold in the property market or older Australians holding assets in self-managed superannuation funds looking for yield or capital growth, to access the market.

Similarly a crowdfunded bond fund is under development to enable investors to access higher value, higher yielding corporate bonds.

Investment opportunities don’t come much more democratic than that.

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