"Necessity is the mother of innovation" (Unknown)
Small and medium-sized enterprises (SMEs) are the backbone of all economies and are a key source of economic growth and technology innovation. They constitute the dominant form of business organisation, accounting for over 95% enterprises globally.
Small and medium-sized enterprises (SMEs) are the backbone of all economies and are a key source of economic growth and technology innovation. They constitute the dominant form of business organisation, accounting for over 95% enterprises globally.
It is well known that SME financing primarily depends on bank loans. However, the recent crisis revealed that bank financing is not a reliable source of financing. The availability of affordable debt finance, for working capital and longer term funding, has decreased significantly. Many banks are lending less, scaling back investments, and shrinking their balance sheets due to regulatory requirements and in response to market events. Increased capital adequacy requirements will likely result in even lower lending so consequently the need for diversified funding sources for SMEs is growing.
"Necessity is the mother of invention"
Credit to: seasweetie.wordpress.com
On the other hand, institutional investors do not face quite the same challenges as banks and they remain attracted to, and in fact need to, find long-term investments to match their long-term fixed and inflation-linked liabilities. But investment options generating yield and safety have diminished significantly in recent years. Institutional investors are typically looking for investment opportunities in significant size but the financial crisis in 2008/09 made them wary of capital markets and they are looking for alternative investment opportunities. Banks and the capital market which traditionally functioned as a central balancing point between monetary supply and demand are not properly functioning anymore.
In need of a financial innovation which closes the widening gap between investor and investee
There are two theoretical options to bridge the gap between smaller investees and large investors. The first one is to aggregate the demand side via pooling investees into bond structures and use traditional capital markets. However, this brings along many challenges and seems impracticable due to issues such as: timing of investment, slow execution, incompatibility of investee risk profiles, high structuring cost and intermediary fees as well as the inability to modify credit terms or deal with change over time. Apart from that it would involve the same financial institutions which brought the economy at the brink of collapse with their 'financial weapons of mass destruction', which are primarily designed for their own benefit.
The alternative option, is to fractionalise the supply side by enabling institutional investors to make smaller direct investments. Direct investments haven't been considered yet by mainstream institutional investors and are deemed as unattractive due to the small size of the investment and other issues such as the difficulty to get access to suitable projects or companies and the related high search cost, as well as due to the high due diligence cost in proportion to size of the investment.
But those obstacles can now be overcome by deploying technological innovation in form of crowdfunding platforms or more appropriately in this case “digital investment platforms”. Some pioneering institutional investors beginning to understand the full potential of this technology. The benefits are convincing for the investor; there are no requirements for intermediaries, it promises higher yield than traditional capital markets; it offers a high degree of risk diversification as smaller investments are spread out over many companies. Furthermore, the performance of the investment is less, or not at all, correlated to capital market movements. The advantages for the investees are equally compelling, as it gives them the ability to attract long term funding from multiple sources and it reduces cost of capital.
Crowdfunding technology has been successfully proven in the P2P lending sector and "digital investment platforms" which bridge the gap between institutional investors and SME's are another milestone in the much required overhaul of our dysfunctional financial system. Any investment goes directly into the bloodstream of the real economy and can make a big contribution to bring the economies around the word back on a sustainable growth path. B2B lending can be entirely done without the central balance sheet of a bank so that systematic shocks can not easily cascade trough the finance system, making it more resilient and certainly not “too big too fail”.
Photo credit to: SalFalko. http://bit.ly/1otyRAC
"Necessity is the mother of invention"
Credit to: seasweetie.wordpress.com
On the other hand, institutional investors do not face quite the same challenges as banks and they remain attracted to, and in fact need to, find long-term investments to match their long-term fixed and inflation-linked liabilities. But investment options generating yield and safety have diminished significantly in recent years. Institutional investors are typically looking for investment opportunities in significant size but the financial crisis in 2008/09 made them wary of capital markets and they are looking for alternative investment opportunities. Banks and the capital market which traditionally functioned as a central balancing point between monetary supply and demand are not properly functioning anymore.
In need of a financial innovation which closes the widening gap between investor and investee
There are two theoretical options to bridge the gap between smaller investees and large investors. The first one is to aggregate the demand side via pooling investees into bond structures and use traditional capital markets. However, this brings along many challenges and seems impracticable due to issues such as: timing of investment, slow execution, incompatibility of investee risk profiles, high structuring cost and intermediary fees as well as the inability to modify credit terms or deal with change over time. Apart from that it would involve the same financial institutions which brought the economy at the brink of collapse with their 'financial weapons of mass destruction', which are primarily designed for their own benefit.
The alternative option, is to fractionalise the supply side by enabling institutional investors to make smaller direct investments. Direct investments haven't been considered yet by mainstream institutional investors and are deemed as unattractive due to the small size of the investment and other issues such as the difficulty to get access to suitable projects or companies and the related high search cost, as well as due to the high due diligence cost in proportion to size of the investment.
But those obstacles can now be overcome by deploying technological innovation in form of crowdfunding platforms or more appropriately in this case “digital investment platforms”. Some pioneering institutional investors beginning to understand the full potential of this technology. The benefits are convincing for the investor; there are no requirements for intermediaries, it promises higher yield than traditional capital markets; it offers a high degree of risk diversification as smaller investments are spread out over many companies. Furthermore, the performance of the investment is less, or not at all, correlated to capital market movements. The advantages for the investees are equally compelling, as it gives them the ability to attract long term funding from multiple sources and it reduces cost of capital.
Crowdfunding technology has been successfully proven in the P2P lending sector and "digital investment platforms" which bridge the gap between institutional investors and SME's are another milestone in the much required overhaul of our dysfunctional financial system. Any investment goes directly into the bloodstream of the real economy and can make a big contribution to bring the economies around the word back on a sustainable growth path. B2B lending can be entirely done without the central balance sheet of a bank so that systematic shocks can not easily cascade trough the finance system, making it more resilient and certainly not “too big too fail”.
Photo credit to: SalFalko. http://bit.ly/1otyRAC
About the author - Rex Kempcke
Rex is an innovative banker with more than 15 years experience in retail banking, treasury and commodity trading at Commerzbank, J.P. Morgan and ABB Financial Services. Through his passion for entrepreneurship and new markets he got involved during the dot-com era in building up a business incubation unit for ABB, subsequently spinning off a company which pioneered the implementation of the European emissions trading scheme. He continued his career in the climate change sector first by joining EcoSecurties, a leading startup company in developing carbon reduction projects worldwide, and more recently as director in the environmental markets team of BNP Paribas.
Rex strongly believes that crowdfunding will cause a paradigm shift in the financial service industry and that it will make a significant contribution to the transition towards a sustainable economy.
Rex is an innovative banker with more than 15 years experience in retail banking, treasury and commodity trading at Commerzbank, J.P. Morgan and ABB Financial Services. Through his passion for entrepreneurship and new markets he got involved during the dot-com era in building up a business incubation unit for ABB, subsequently spinning off a company which pioneered the implementation of the European emissions trading scheme. He continued his career in the climate change sector first by joining EcoSecurties, a leading startup company in developing carbon reduction projects worldwide, and more recently as director in the environmental markets team of BNP Paribas.
Rex strongly believes that crowdfunding will cause a paradigm shift in the financial service industry and that it will make a significant contribution to the transition towards a sustainable economy.
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