Written evidence from Trillion Fund Ltd (ATF 16)

1           How has the landscape for access to finance evolved since the end of the financial crisis?

1.1          The UK funding landscape continues to emerge from the fallout of the financial crisis, with tighter credit conditions leading to SMEs turning away from traditional bank sources in favour of alternative funding. The growth in online debt and investment based crowdfunding has led to a noticeable increase in liquidity for early stage and SME companies in the UK and across the EU, with over £5.5 billion in cumulative lending by the UK P2P/crowdfunding industry to date[i]. According to the British Business Bank, equity investment to SMEs increased from £1 billion in 2010 to £1.6 billion in 2013.  Across the EU, in 2014 and 2015 37 crowdfunding platforms across the European Union raised a total of €439,179,041 for 1068 successful equity crowdfunding campaigns[ii]. These developments have greatly improved access to finance for the circa 5m small businesses in the UK, while acting as an encouragement for those who choose to start their own company. This is likely to encourage more proactive and innovative business endeavours and job creation.

1.2          Challenges persist as start-ups remain overwhelmingly reliant on personal savings and informal friends/family circles for early stage investment. The market for early stage finance remains bedevilled by structural issues such as information asymmetry, lack of credit and bank finance and lack of credit agency capabilities.

1.3          Early stage investment remains largely neglected by private equity in favour of larger deal sizes with more stable businesses. Similarly, debt funds shy away from debt to smaller businesses, favouring deal sizes in excess of £10mn, which exacerbates the restrictive credit conditions of banks. Government support through EIS/SEIS tax reliefs remains critical; in servicing the sub £2 million end of the SME funding ecosystem. 

1.4          We applaud the government for its work on the introduction of the forthcoming Innovative Finance ISA. However Trillion Fund views the restriction to only fully authorised FCA loans-based crowdfunding platforms, and not those with interim permission waiting on the timetable of the FCA for full authorisation, creates an un-level playing field in the market and gives a distinct unfair competitive advantage to those firms who achieve full FCA authorisation earlier than others.

2           What have been the most successful Government policies to assist growing companies access private finance and where is there room for improvement?

2.1          Government policy plays an enabling role in improving the investment environment for SMEs. Taxation policies such as EIS and SEIS are a significant contributor in addressing market failure in seed and early stage funding by providing tax efficient incentives for business angels in an environment that is largely neglected by private equity investors. Since the Enterprise Investment Scheme (EIS) was launched in 1993-94, just over 22,900 companies have received investment through the scheme and over £12.3 billion of funds have been raised. Data for 2013-14 shows that 2,770 companies raised a total of £1,529 million of funds under the EIS scheme. In 2012-13, 2,470 companies raised £1,033 million of funds.[iii]

2.2          These schemes have also supported the growth of crowdfunding as a viable investment proposition for SMEs and to a great extent the market is largely supported by such measures.  The introduction of a new regulatory regime for debt based crowdfunding has improved the credibility of the industry, while the self-certification of investors in investment based crowdfunding has opened up retail access to a range of high return investments as well as injecting much needed liquidity to high growth or early stage businesses sectors in the UK. 

2.3          This, combined with Government support of seed and growth stage companies through Start-Up Loans, Enterprise Capital Fund and the Angel Co-investment fund, contributes to a lively funding environment in both debt and equity.

2.4          Government should ensure that SMEs are made aware of appropriate funding options for their needs, both through government information and through advice from finance providers. Initiatives such as the ICAEW/BBB Business Finance Guide are invaluable but need to be digital and achieve more reach – the majority of small businesses in the UK still are not aware of the full range of funding alternatives available to them.

3           Does the UK have globally competitive markets / suppliers for financing (and debt financing) at 1) seed 2) venture and 3) growth stages? What steps could Government take to strengthen these systems?

3.1          The UK is highly competitive within the seed stages of financing thanks in part to government sponsored schemes outlined above. However, at the venture and growth stages of SME finance, more could be done to encourage companies to utilise external sources of funding. Only 2% of UK SMEs have used equity from VC funds or business angels in a given 12-month period. This compares to 9% in Sweden and 13% in Denmark[iv]. The government could further promote the benefits of equity finance and support further co-investment via sources such as the Technology Strategy Board, the British Business Bank and Local Enterprise Partnerships.

3.2          The UK lags behind internationally in venture and growth stages of funding. The UK’s venture capital market is less than half the size of the US market when measured as a percentage of GDP[v] despite the fact that many UK based SMEs are addressing the same global markets as their Silicon Valley and other international counterparts. A breakdown of venture funding for Q2 2015 by CB Insights reveals that the UK funded $2.2 billion in deals compared to $37 billion in the US ($22.3 billion in California alone)[vi]. The average deal size across all stages of financing in the UK averages $11.29mn, which trails behind the US ($16.54mn) and Germany ($14.4mn) and is comparable to the US state of Texas ($10.3mn).  The British Business Bank figures suggests continuing weakness in venture investment at the later stage funding. This puts UK SMEs at a scalability disadvantage and may artificially drive a more insular approach to growth. 

3.3          The Government should continue to support the existence of cluster networks in major urban areas of the UK[vii] and encourage Venture Capital firms and financial services firms to connect directly with young companies and entrepreneurs  to identify and overcome barriers to financing and accelerate growth. This model has already paid tremendous dividends in London, where VC spending accounts for 65% of the UK total and is over 20 times what it was in 2010[viii]. Such success has propelled London to no. 6 in the list ranking of global start-up ecosystems in the world[ix], aided by a general movement of SMEs away from remote office parks towards energized urban centres such as “Silicon Roundabout”.  We ask the government to further support the growth of similar entrepreneurial ecosystems in urban areas in the Regions.

4           Are alternative methods of raising finance (such as crowd-funding and peer-to-peer) sufficiently well-regulated and monitored for companies to be confident in utilising them?

4.1          Debt and investment based crowdfunding are suitably covered by a broad array of law and regulations both domestically and through EU legislation.  This legal framework safeguards investors while facilitating SME finance.  Trillion Fund applauds the Government and the Financial Conduct Authority for making the United Kingdom a global benchmark for the regulation of financial technologies and crowdfunding, while maintaining investor protection.  This regulatory framework has created an investment climate which is the envy of the European Union and beyond.  A recent report of global crowdfunding trends and by Juniper Research has been reported as stating:

“Juniper highlighted the UK as the leading market for equity crowdfunding regulation... It’s thought that other nations have almost no choice but to follow the trend and allow non-professional investors to to participate in investments.”[x]

4.2          In February 2015 the Financial Conduct Authority reviewed the crowdfunding industry one year after the introduction of the UK Crowdfunding Regulations.[xi] The FCA concluded that there was “no need to change the regulatory approach to crowdfunding, either to strengthen consumer protections or to relax the requirements that apply to firms.” 

The crowdfunding industry is responding to the Financial Conduct Authority’s review for the current year.

4.3          It is not within the scope of this answer to provide a full list of applicable law and regulation, but the current legal and regulatory regime includes:

4.3.1         UK Domestic Law and Regulation:

4.3.1.1         The Financial Services and Markets Act 2000 requires investment crowdfunding firms to be authorised and regulated by the Financial Conduct Authority.  All crowdfunding platforms and offers of investment are regulated financial promotions which must go through a verification and disclosure review to ensure that investors are protected.  The Financial Conduct Authority has a monitoring, reporting and sanctions regime in place for firms that fail to ensure that financial promotions are fair, clear and not misleading;

4.3.1.2         The UK Crowdfunding Regulations introduced by the Financial Conduct Authority in 2014 replaced the consumer credit regime overseen by the Office of Fair Trading and required debt based P2P platforms and equity based crowdfunding platforms to apply for full FCA authorisation and all platforms to comply with the FCA’s Conduct Of Business requirements.  The Financial Conduct Authority carries out annual reviews of the crowdfunding industry to ensure the industry is responding appropriately to the regulations.  The industry supports this continued oversight and engagement;

4.3.1.3         Anti-Money Laundering laws incorporating the Money Laundering Regulations 2007 place an obligation on financial services firms to establish and maintain proportionate risk based policies for the prevention and detection of money laundering and terrorist financing;

4.3.1.4         The Financial Services Ombudsman is available to resolve disputes between consumers and authorised firms;

4.3.1.5         The Financial Services Compensation Scheme applies to some but not all crowdfunding activities;

4.3.1.6         The Companies Act 2006 and Insolvency Acts provides the statutory legal regime for investment and the management of UK companies;

4.3.1.7         Consumer Rights Act 2005 and Unfair Contract Terms Act 1977 covers consumer contracts; and

4.3.1.8         The Data Protection Act 1998 ensures that user data is protected.

4.3.1.9         Common law remedies including breach of contract, misrepresentation and fraud are also available to consumers.

4.3.2         Examples of European Union Law:

4.3.2.1         Th Prospectus Directive provides harmonised disclosure standards for the publishing of a prospectus where either an offer of securities is made to the public or securities are admitted to trading on a regulated market as well as delineating a number of exemptions to the publishing requirement.  We ask the government to note the Crowdfunding industries concerns regarding the recent proposed Prospectus Rules (please see 4.4 below)

MD provides a harmonised regulatory framework across the EU for EU-established managers of alternative investment funds, including VC funds, private equity, and investment trusts, by improving investor protection through disclosure rules, depositary standards and mandatory reporting.

4.3.2.2         MiFID, when applicable, provides a ‘passport’ mechanism for investment firms to operate throughout Europe on the basis of authorisation in their home Member State (MS). It also introduced various investor protection measures which have been gold plated in the FCA’s Conduct of Business rules. 

4.4          The current regulatory framework in the UK and government support for the sector is enhancing the UK’s SME investment markets and creating a network of trusted intermediaries that carry out responsible SME business finance through due diligence and proper disclosure to investors.  The current balance of regulation is appropriate to continue the growth of this sector and the benefits it brings to the UK economy.

4.5          With respect to EU regulation, the government should continue to push for harmonised rules on alternative finance around Europe and lobby the European Commission and other member states to remove any barriers to cross border investment – including ensuring that the Prospectus Regulation Proposal, which introduces exemptions from the requirement to produce a Prospectus for offerings up to €10 million, is amended such that the exemptions applies across the European Union and is not limited to domestic investors.  The UKCFA, in partnership with other European Crowdfunding associations, has provided a full submission to the UK Treasury and the European Commission on this topic and we ask for the government’s support to ensure the new Prospectus Regulation is not counter to Capital Markets Union in relation to crowdfunding markets.

5           What are the main improvements or interventions, in terms of finance, that the Government should make to achieve the objective of increasing the number of successful and high-growth businesses in the private sector?

5.1          Encourage larger injections of capital into high potential businesses to put the UK on a more equal footing with the US where a greater risk appetite lends itself to much greater long run game changing business.  This can be achieved in part by government co-investment funds such as the London Co-investment Fund which should be replicated around the UK.

5.2          Continue to support and finance the Financial Conduct Authority appropriately to facilitate the crowdfunding industry appropriately.  The crowdfunding industry encounters severe delays when applying to the Financial Conduct Authority for regulatory approval.  It may be that further government funding and support for Financial Conduct Authority’s authorisations team could speed up authorisation.

5.3          Ensure that the UK’s banking sector removes any obstacles to access to banking for both authorised crowdfunding platforms and those SMEs who have raised finance via crowdfunding.  The British Banking Association has started this work but more work is needed to ensure that access to bank accounts and banking services is not stifled.

5.4          Promote the availability of EIS and SEIS finance and the forthcoming Innovative Finance ISA to ensure the public is aware of these measures and that the public rightly considers a diversified range of savings and investment options, which benefits savers and the UK economy.

5.5          Ensure that European laws enable investment into UK SMEs by European investors.  This will require intervention in the current Prospectus Proposal as outlined above and continued engagement with ESMA and other European competent authorities.

5.6          Maximise the impact of BIS access to finance schemes. Provide greater communication to SMEs and raise awareness. Develop policy that is relational in nature rather than transactional. The requirement that banks refer rejected SMEs to alt-fi lenders under the the Small Business, Enterprise and Employment Act 2015 is to be welcomed.

5.7          Promoting entrepreneurship amidst a strong start-up community eager to accelerate and support young companies. This model has already paid tremendous dividends in London, where VC spending accounts for 65% of the UK total and is over 20 times what it was in 2010[xii]  This approach should be applied in context throughout the United Kingdom.

5.8          A nationwide campaign, in collaboration with industry to raise awareness of the alternative sources of finance to UK businesses.

9 February 2016