I remember talking to a fairly active angel investor a few years ago and he bemoaned the fact that he didn’t have any money. “It’s all tied up in the companies I’ve invested in,” he said, before reminding me that when you back a startup so early on in its life, it can be an incredibly long time before you have an opportunity to get your money out, presuming that you do at all. In other words, early-stage investing is typically a very illiquid asset class.
Enter Seedrs, the U.K.-based equity crowdfunding platform that lets anybody invest in startups, which is announcing plans to launch a secondary market later this Summer. Rolling out in Beta as early as next month, investors will have the potential to sell shares in companies they’ve invested in via Seedrs to other investors. Likewise, investors in Seedrs-funded companies will have the chance to increase their stake.
However, there are a number of caveats to this tentative secondary market launch. In this first phase at least, only current investors in a Seedrs company will be allowed to buy secondary shares in it. That means it’s currently a way for existing investors to increase their ownership, not a way for new investors to get in on the action.
The price of shares will also be decided by Seedrs’ Valuation Policy, which is designed to reflect things like a subsequent funding round (and therefore a new valuation) since the original shares were made available via the crowdfunding platform.
In addition, trading on Seedrs secondary market will only happen for a one-week window every month. The window will start on the first Tuesday of each month, which Seedrs calls “Trading Tuesdays”. “As in any market, the ability to buy or sell will depend on there being sufficient supply or demand,” notes the equity crowdfunding platform.
In a call, Seedrs co-founder and CEO Jeff Lynn told me that the decision to take price out of the equation, by using the platform’s determination of “fair valuation”, rather than pure market forces, helps to avoid the situation where a company’s secondary share price falls below the price it was set at its most recent funding round. Were this to happen it could make it much more difficult for a company to raise further funding without running the risk of a down round or a valuation lower than it desired.
In the same way, if the secondary market pushes the price too high, that also creates a problem for the next funding round, as the company either has to achieve an unrealistically high valuation or disappoint its investors by doing what is to them a down round. The disadvantage of a fixed price, however, is that it could also put a lid on the liquidity a second market is supposed to encourage.
That only existing backers are able to buy more or sell their shares in a particular company also solves a potential problem regards what information about each company listed is made public and to whom. Take valuation following a new funding round, for example: in most cases existing shareholders will already be privy to this information, which, by restricting who can trade on Seedrs secondary market, won’t need to be spread any further. However, it also restricts demand, which, again is counter to increasingly liquidity.
With that said, any kind of secondary market is bound to be welcomed by investors, and Lynn says that after seeing how the secondary market behaves, Seedrs may look to expand the timing (longer windows or continuous trading), pricing (negotiated or bid/offered prices) and/or buyer eligibility (new investors).
Meanwhile, for entrepreneurs it could potentially make equity crowdfunding via Seedrs more attractive. The argument Lynn makes is that if early backers can get their money out quicker, rather than waiting for an exit or IPO, there may be less pressure put on companies to exit sooner than they’d perhaps like. My view is that this is probably overstated a little: it’s usually larger, institutional investors, such as VCs, who try to dictate the timing of an exit and typically have the voting rights to do so. That’s not to say that early investors, many of whom are often friends, family or even customers, can’t bring to bear soft pressure to exit, and most certainly do, so it’s definitely one to watch.
Noteworthy is the fact that Seedrs operates a nominee structure in which shares in each company are effectively held by the platform on behalf of investors rather than individually, and this means it’s easier for a secondary market to be rolled out. Paperwork at the shareholder agreement level doesn’t need to be ongoing, which would be a nightmare for the companies whose shares were being traded, and it reduces the risk of double trading or simply an honest mistake being made. (As an aside, Funderbeam, another equity crowdfunding platform with a secondary market, is solving the accountability problem of a secondary exchange by employing Blockchain technology.)
“The potential opportunities that a secondary market brings for buyers, sellers and entrepreneurs alike makes this development incredibly exciting,” says Lynn in a statement. “Perhaps most importantly, we believe this will help businesses who are raising capital through Seedrs: with the prospect of secondary sales now available, we expect more investors are likely to want to back the great businesses we work with”.