Mini bonds have been much in the news recently with lots of publicity surrounding the launch of a mini bond for a Mexican restaurant chain through equity crowdfunder Crowdcube. Yet, mini bonds do carry risks that investors need to be aware of.
Mexican restaurant chain Chilango is raising £1m with a mini bond offering investors 8% a year over the four-year term. The minimum investment is £500 and to make the offer slightly tastier anyone who invests £10,000 or more will be entitled to one burrito a week for the life of the bond.
A mini bond is an unlisted bond usually issued by companies directly to their customers and the general public. John Lewis, The Jockey Club, Hotel Chocolat, Ecotricity and Good Energy are some of the well-known UK brands that have successfully issued mini-bonds.
Capita Registrars estimate that the value of the mini-bond industry will rise to £8 billion by 2017 (from just under £90 million in 2012).
Crowdcube’s bond team have advised on many of these mini-bonds and are responsible for over half of the total funds generated by mini-bonds in the UK. This has included companies such as Ecotricity, Good Energy and Mr and Mrs Smith.
It’s certainly a cost-effective way for companies to raise funds but how good an investment is it?
It obviously depends on the specific investment.
Certainly, mini bonds generally offer yield in a financial environment where bank interest rates are very low.
However, they are also quite high risk investments. As a spokesperson for the Financial Conduct Authority explained, “higher yield does tend to correlate to higher risk.”
With mini bonds the risks come in several ways. The most obvious risk is that if a company hits financial difficulties and defaults on payments, mini-bonds are not covered by the Financial Services Compensation Act. Moreover, if the company goes bust you’ll lose your capital since as an ‘unsecured’ creditor you’ll be way down the list in terms of creditors.
Another drawback is that there is no secondary market for them, which means they are much less liquid than a conventional bond in a listed company. They are also non-convertible so you can’t take shares in the company and enjoy the upside if the venture you’re investing in is a success.
Buying the debt of a single, unlisted company is what you’re effectively doing when buying a mini bond. You therefore need to decide how sound the company’s prospects are before you invest.