Singapore funding landscape driving strong growth for FinTech investment

Singapore is Asia’s highest-ranking FinTech city, with more than 40% of Southeast Asia FinTech firms based there. Boasting an unrivalled mix of regulatory support, talent, tax treaties, infrastructure and relative political stability, Singapore is generally seen as a FinTech hub for both investors and entrepreneurs in Southeast Asia.

While the COVID-19 pandemic has resulted in a decrease in overall FinTech funding in Asia, the financing landscape in Singapore has been reported to be less volatile than some other parts of the region. Despite an initial decline in funding in the first quarter of 2020, Singapore’s FinTech investments rebounded in the second quarter of 2020.

What type of funding can a FinTech business raise?

A business raises funds either by issuing shares or by borrowing money from lenders such as individuals, venture capital firms or financial institutions. The ability and appropriateness of a particular type of funding will depend on factors such as: the type of business and its stage of development, any concerns about diluting existing shareholders, the financial position of the business, and the asset position of the business.

Equity

Fundraising via equity covers shareholding investments in a company such as ordinary shares and preference shares. Equity instruments generally have the following characteristics:

• They give the investor ownership of a stake in the business and a share in the growth in the value of the company.
• They are unprotected – on a liquidation or winding-up of the business, the shareholders will not recover their capital investment until all creditors and other costs of winding up the company have been paid in full.
• A shareholder has rights in the company which are set out under statute and common law and can be varied or supplemented by agreement between the shareholders.

Debt

Fundraising via debt covers borrowings by a company such as loans, credit facilities and bonds. Debt instruments generally have the following characteristics:

• They rank ahead of equity on an insolvency of a company, with secured debt ranking ahead of unsecured debt.
• The creditor has no stake in the business and the return on its debt is usually limited to interest which accrues on the loan amount.
• In the case of a secured loan, the company would have typically charged or pledged certain assets to the creditor as collateral; a secured loan also typically comes with restrictive covenants that limit the borrower’s ability to deal with the assets which have been charged or pledged.

Convertible loan notes

Fundraising via convertible loan notes or convertible bonds are a hybrid form of investment, with both equity and debt characteristics. Such instruments are meant to be a flexible alternative to pure equity or debt instruments. Convertible loan notes and convertible bonds generally have the following characteristics:

• They are initially issued as a debt instrument and while outstanding as a loan/bond, constitute a debt owed by the business; however, the loan/bond will be convertible into shares at a future date and at a pre-determined conversion price automatically or on certain events happening.
• In debt form, they usually accrue interest on the principal amount of the loan notes or bonds.
• They will be convertible into shares at a pre-determined conversion price in certain circumstances (for example, at the company’s next equity financing round) or instead will be repayable within a certain period or on certain events happening.
• They are typically unsecured.

Seed / angel / venture capital funding

Seed and venture capital funding is a type of equity financing usually targeting early-stage companies and start-ups. Such financing can be carried out by VC funds or angel investors, who may be high net worth individuals or investment companies. Early-stage companies and start-ups turn to seed and venture capital funding because they may find it challenging to secure traditional debt funding from financial institutions due to their lack of trading history or tangible assets to form collateral for loans.

Angels and VC funds tend to invest when the valuation of the business is low, thereby paving the way for a potentially high return on their investment if the business succeeds in the future. However, the risk of the investment is high if expected growth and targets are not achieved or, in the worst case, the business is forced to liquidate or wind-up. Historically, VC funds have aimed to realize their investment (typically by a sale of their stake in the business to third parties or sometimes back to the founders) within three to five years, although this time horizon has increased recently due to market forces.

What are the traditional sources of funding for early stage FinTech companies?

Seed investment

Founders may initially turn to family and friends to invest capital in the company in exchange for a small stake in the business. Sometimes, founders may also seek out business angels with relevant know-how and expertise to invest at this initial stage. This form of seed investment will usually be in the form of an issuance of ordinary shares to the investor, which will entitle the investor to voting rights. The investor may also demand further protection under an investment agreement such as a board seat or other management controls.

Singapore has also established several programs that provide financing from the public sector to early-stage start-ups, such as:

• SG Startup, under which first-time entrepreneurs can receive mentorship support and a startup capital grant of up to US$37,000.
• FSTI, which provides funding support of up to 50% of set up costs.
• FSTI 2.0, which applies to second round funding to accelerate growth.

The private sector in Singapore has also established a number of innovation labs that provide support in a variety of forms to start-ups, ranging from the provision of working spaces, mentorship, and funding.

Series A investment

an initial investment by a VC fund is called a “series A investment”, where the VC fund seeks a minority stake in the business through the issuance of preference shares in the company (as well as additional protections under an investment agreement, if applicable).

Preferred shares typically do not carry voting rights, so control of the business remains in the hands of the founders with ordinary shares. Alternatively, the VC fund may invest by way of a convertible loan note or convertible bond, which will transform into preference shares.

A series A investment round is generally more complex than a seed investment round due to the larger amount invested and (generally) more sophisticated nature of the investor. A series A round also usually happens at the point in time when the company has established a trading history with more extensive operating activities compared to early-stage start-ups.

In Singapore, the Monetary Authority of Singapore (MAS) has implemented the Venture Capital Fund Manager regime, which simplifies rules for managers of VC funds to facilitate start-ups’ access to capital.

Looking ahead to alternative sources of funding

The FinTech community in Singapore has grown rapidly in the last five years, fueled by a developing funding scene. We expect to see more liquidity in the market particularly from foreign capital as investors look to diversify their Asia-Pacific portfolio and pivot away from traditional sector investments in China and India. Whereas investments in FinTech firms will continue to be largely in the form of seed and venture capital funding, there is growing appetite for alternative sources of funding.

The global equity crowdfunding industry in particular has been growing by over 100% year-on-year and is expected to overtake angel investing and venture capital in terms of size. Equity crowdfunding is traditionally suited to early-stage companies and involves investors providing capital to an early-stage company in exchange for shares, with the investment objective of profit if the business succeeds. The benefit of equity crowdfunding for entrepreneurs is the ability to draw upon the knowledge, expertise and network of a larger crowd of investors.

In Singapore, all securities-based crowdfunding platforms (including equity crowdfunding platforms) have to be licensed and regulated by the MAS. They are granted a Capital Markets Services License under the Securities and Futures Act. All licensed crowdfunding platforms must ensure proper segregation of investors’ monies and keep proper record of transactions. Companies intending to fundraise on securities-based crowdfunding platforms may make small offers (raising less than S$5 million within 12 months) without issuing a prospectus. However, they must disclose the key risks of such investments to all investors.

FinTechs can benefit from the strong funding scene in Singapore and the range of options available to secure the financial backing that is best suited to their business. It is important to understand how the different models may affect the future financial picture, depending on how the business grows, to ensure that this remains aligned to the business strategy.