What is direct investment?Nov 02, 2021
Let’s get the slightly confusing piece out of the way first; what does direct investment mean?
There are two quite different meanings. The first of these is where the crowdfunding platforms refer to direct investment as being the opposite of using a platform’s nominee company for raising capital. In that context, direct investment means that an investor buys equity in the business via the campaign and the investment is from thereon managed directly by the business, and not by a nominee company. Both UK’s major crowdfunding platforms, Crowdcube and Seedrs, provide the option for an investment being made directly into the business, and/or via their nominee i.e. Crowdcube Nominees Ltd and Seedrs Nominees Ltd. But today we’re not talking about that definition!
The other definition is where people talk about direct investment meaning funds being paid directly into the business's bank account by-passing the platform’s usual payments process, but still allowing that investment to be reflected in the public crowdfunding campaign. It’s that last part which is the most important i.e. the investment is reflected on and forms part of the total raised on the campaign.
You might ask what the point of direct investment is. There are many reasons why a business might go for this option but the main one is speed and the need for working capital. Typically, a business which is crowdfunding continues to incur operating costs as they run BAU, ‘business as usual,’ and they simply need the cash to keep the business afloat in the intervening period until their crowdfunding campaign successfully closes and the investment is paid out. That means the business may be able to access some of the monies raised as part of the campaign prior to that campaign concluding. The provisions for being able to access investment monies in advance are both strict and complex, so if this is an option you’re considering, it’s important that you raise this with your platform contact sooner rather than later.
Another common reason is that some investors prefer, for their own reasons, to avoid their investment channeling through a crowdfunding platform and instead opt to transfer the money directly to the business they’re supporting.
It’s worth noting at this point that we’re talking about substantial investments ie. in the tens of thousands, if not hundreds of thousands. This isn’t at all about smaller investment amounts so typically a business will only have a small number of such direct investments, often only one or two, a handful at most.
Now here comes the buts and the howevers. Can’t avoid them. There are rules and implications which need to be carefully considered. I’ll start with the easy ones. Firstly, when you, the business, takes a direct investment you’re responsible for pretty much everything around the handling of that investment. So that means things like the legal compliance checks such as Anti Money Laundering (AML) and Know Your Customer (KYC); very simply that means being 100% sure that you can positively confirm the identity of your investor and likewise confirm that the funds haven’t come from illegal activities such as terrorism, arms trading, drugs etc.. And you’re also responsible for issuing the share certificate. These are the sorts of things that the platforms do for you for investments that are processed normally via the campaign; but for direct investments you are responsible.
Secondly, each platform has their own rules around whether or not a direct investment can be reflected on a campaign. And each such request is considered by the platform on a case-by-case basis. The most important thing here is to discuss your own particular circumstances and requirements with your platform as early in the piece as possible; the day before your campaign goes live isn’t exactly ideal!! The platform will want precise details of such direct investments including name of investor, amount, date expected, and intended use of the funds. And do be aware that they may impose specific restrictions about when and on what you spend this money.
It’s also likely that the platform will discuss with you what would happen in the event of a campaign not launching or a launched campaign failing. The question that needs addressing in such circumstances is ‘what happens to the money already received by the business, and potentially spent?’.
Bear in mind that in the event of a campaign not successfully concluding, it’s possible that the direct investor’s money may be at greater risk than would otherwise have been the case.
The other ‘biggy’ is that the terms and conditions which accompany a direct investment cannot and must not be preferential to those conditions which will extend to ‘normal’ investments on your campaign i.e. the shares issued via both mechanisms must be identical. The main practical consideration is valuation; the valuation applicable to the direct investment must be identical to the valuation applied to your campaign. Just to be clear, there is nothing stopping you from taking a direct investment subject to entirely different conditions, BUT in that case then that investment could not be reflected in any way as part of your crowdfunding campaign.
So the overall message here is that taking investment directly into your business as part of the campaign but not handled by the platform, isn’t uncommon. However it needs to be handled thoughtfully, properly, and in early consultation with your platform provider.
Written by Richard Mojel, Commercial Director at ISQ Crowdfunding