Nature abhors a vacuum, so when bank lending slowed to a trickle in the wake of the global financial crisis, it was almost inevitable that new forms of business funding would emerge to address demand from SMEs for growth and working capital.
In the short term, asset backed lenders – the alternative financiers of their day – stepped into, at least partially, fill the funding gap left by newly risk-averse banks, but in 2013 the market was revolutionised by the arrival of equity crowdfunding and market lending. Both were hailed as ‘alternative’ sources of capital for businesses that has been turned away by traditional providers.
There was an element of truth to the idea that alternative finance was a last port of call for those that had fallen victim to a prolonged credit squeeze. Certainly, both peer-to-peer lending and crowdfunding provided a much needed lifeline for many businesses.
An Evolving Sector
But that’s not the whole truth. Indeed, as the alternative finance market has evolved, it has become apparent that this is a sector that does more than simply replicate the role of banks – or
traditional equity investors. The various models of alternative finance available today have their own characteristics. Depending on the requirements of a business at any given time, rewards crowdfunding, equity crowdfunding, peer-to-peer lending or a private debt platform (such as that operated by The Route – Finance) might well be the first, rather than the last post of call.
The Right Solution
That is exactly how it should be. Think back to the days before AltFi. A business in search of finance would look at the options available, including overdrafts, term, loans, invoice finance, asset backed lending and sale of equity. Ultimately, the choice made by the owner or directors would have – and certainly should have – reflected the circumstances of the company. The right kind of finance for the appropriate situation.
Factor in alternative finance and the same principle holds true. There are times when an overdraft from a high street bank will be absolutely the right solution for a business. There are times when trade finance from a bank or asset based (ABL) lender will be just what’s required. Equally, there will be times during the development of a business when a crowdfunding or debt sourced from a peer-to-peer or sophisticated lenders platform could be the best way forward. In many situations, alternative finance might be the first port of call.
Launching a Product
In practice that means assessing not just the sums of money on offer, but the bigger picture, in terms of what a provider or platform is providing,
For instance, for a new business launching a first product, a rewards crowdfunding platform could be be the ideal starting point. Those who donate or pledge funds through sites such as Indiegogo and Kickstarter aren’t interesting in acquiring equity. But what they are interested in is supporting innovative inventors and entrepreneurs and being among the first to acquire their products. In pledging cash, they are funding R&D and/or production, in return for receiving a product.
In that respect, rewards crowdfunding is a means to validate a product idea – through a successful pitch – and go to market with guaranteed sales.
Equity crowdfunding can also be seen as a marketing tool, in that it enables a business to pitch not only its growth story but also its products to an extended community of potential shareholders. And if one, two or three hundred each take an equity stake, then the company has acquired a significant number of advocates who – as shareholders – have an active interest in spreading the word. As such, equity crowdfunding might be an appropriate port of call for a business seeking to not only raise cash but also build a profile.
Increasingly, the acquisition of a wide community of shareholders and ambassadors can be combined with input from professional investors. When good opportunities arise, angels and VCs often invest alongside the ‘crowd’ and in the case of some platforms – such as the Syndicate Room – they will lead the investment. By choosing a platform carefully, a business may be able to bring experienced people on board as investors and perhaps also advisers or board members. In that respect, equity crowdfunding might be a first port of call for a fast-growth business that wants to move up to the next level.
Sourcing the Right Loan
Peer-to-peer lending platforms have traditionally attracted businesses that are not confident of securing a loan from their bank, but that is not the only reason to consider this option. The first wave of P2P (a.k.a. Marketplace lenders) not only made cash available (investors being attracted by comparatively high rates of return) but also offered speedy decision making, convenience and a range of interest rates.
The market is evolving. In addition to a broad community of retail investors, who prefer to put their money into backing companies, rather than parking it in the bank where it will generate a low return, the market is also attracting High Net Worth individuals.
The Right Profile
And the profile of investors on any given platform is hugely relevant to borrowers as it will affect lending criteria.
For instance, the investment community that underpins The Route – Finance’s Private Debt Platform is comprised of High Net Worth, sophisticated investors. They are attracted by the opportunity of investing in ‘special situations’ in which businesses need to access capital quickly in order address a problem or an opportunity. These tend to be higher risk than average business loans but that is something The Route’s sophisticated investors are prepared to absorb in return for superior returns. In that respect, The Route – Finance represents a good first option for viable businesses that require a quick decision on loans above £500k that might not meet the lending criteria of banks.
Thus, alternative finance is not a course to be considered when other roads are blocked. Very often, it can represent the best option.
To find out more about alternative finance, download The Route – Finance’s Alternative Finance Guide – 2017.