Equity Crowd Source Funding — Part 1: A basic primer
On 28 March 2017 the Corporations Amendment (Crowd-sourced Funding) Act 2017 (Cth) (Act) received Royal Assent, paving the way for crowd-sourced equity funding.
What is Equity Crowd Source Funding?
It is a mechanism (an online platform) that will enable eligible companies to raise capital by offering securities (only new ordinary shares) in the company to a large number of investors, including retail investors.
Without the Act, a company may only offer securities to retail investors without a detailed and extensive disclosure document (generally referred to as a prospectus), if the offer falls within one of the limited exceptions set out in the Corporations Act 2001 (Cth). Failure to comply with this requirement is, amongst other things, a criminal offence.
Who may operate the online platform?
The law creates a new type of financial service, being a crowd-funding service and a person that operates a crowd-funding platform will be regarded as providing such a service. The Act states that the person must hold an AFSL that expressly authorises the provision of a crowd-funding service. The legislation refers to this person as a CSF intermediary. The CSF intermediary occupies a central role in the CSF regime.
How much may a company raise under the CSF regime?
A company may raise up to $5 million in any 12 month period.
What is an eligible company?
The company seeking to raise the funds must:
be a public company
have its principal place of business in Australia and the majority of its directors must ordinarily reside in Australia
not be a listed company
not have as its main purpose investing in securities
not have consolidated gross assets or annual revenue of more than $25 million
What is the relevance of being a public company?
A company that is a public company (as opposed to a private or proprietary company) is one to which the Corporations Act imposes fairly stringent corporate governance and reporting requirements.
Public companies must, for example, have an auditor, prepare financial statements that must be audited, send the financial statements to all shareholders and convene annual shareholders’ meetings at least once every year. All these requirements can be both costly and time-consuming, particularly if the company has a large number of shareholders.
Although the new Act requires companies seeking to raise funds via the CSF regime to be established as, or be converted into, a public company, the corporate governance and reporting requirements described above may be disregarded for a maximum of five years from the date of registration as, or conversion to a public company. So, under this concession, the fundraising company will not be required to hold an annual general meeting under the usual rules; it may provide (unaudited) financial reports to its shareholders online (as opposed to printing and mailing them out); and the company will not be required to appoint an auditor or to have audited financial reports until the company has raised more than $1 million from CSF offers.
Is a disclosure document still required?
Yes, a CSF offer document must be prepared in relation to each CSF offer. However, there is no requirement for the document to be lodged with ASIC. The level of disclosure to be included in the offer document will, in general, be less rigorous and detailed than the requirements that apply to the more usual disclosure documents. Details of what a CSF offer document must contain will be specified in the regulations, which are yet to be published. Also, the information contained in the offer document must be worded and presented in a clear, concise and effective manner.
ASIC will retain the power to issue a stop order if it becomes aware that the information in a CSF offer document does not comply with the regulations.
Publication of the CSF offer document will be on the online platform of the CSF Intermediary and the platform must include a facility that enables a person to apply for securities to which the CSF offer relates. In fact, only offers for subscription made through the online platform may be accepted.
There are a number of investor protections that apply to all investors and some that apply only to “retail clients.” With regard to the latter, the protections include the following:
a retail investor may not invest more than $10,000 per issuer via a particular intermediary within a 12 month period. No limit applies to non-retail investors.
a retail investor has 48 hours after making the investment to change his mind and withdraw the investment— a cooling off period.
neither the issuer nor the CSF intermediary may provide financial assistance to the retail investor in connection with the investment.
a retail investor must be given and sign a risk acknowledgement statement before its application is capable of being accepted
Who is a retail client?
An investor will be a retail client unless one or more of the following tests are satisfied:
the price of the securities on offer or the value of the financial product is $500,000 or more
the securities are being acquired by a small business (employing less than 20 people or in the case of a manufacturing business, less than 100 people)
where the securities are being acquired by a business that is not a small business, the investor produces a certificate from a qualified accountant confirming net assets of at least $2.5million or gross income (during the last 2 financial years) of $250,000 respectively;
the investor is a professional investor.
What is the role of the CSF Intermediary?
The role of the CSF intermediary is cardinal and includes:
‘gatekeeper ’ obligations, such as performing various diligence checks, exercising its judgement as to whether to not publish or continue to publish an issuer’s offer document;
ensuring the online platform operates in accordance with the requirements set out in the Act;
ensuring that retail investors receive the benefit of the relevant investor protections to which they are entitled;
the obligation to close or suspend an offer as required and handle application monies appropriately.
The CSF regime is intended to assist small-scale businesses (including start-up companies) raise funds from a large number of investors by providing an additional funding option for these companies that might otherwise struggle to obtain finance. Although there are currently a number of operators of online platforms offering investments in Australian companies, legislative impediments have precluded companies from being able to tap into the retail investment community. The new Act addresses this issue. However whether and to what extent the CSF regime will be embraced, will depend in a large part on whether AFSLs believe the obligations and risks to be undertaken and assumed as a CSF intermediary will be sufficiently offset by the benefits (financial and otherwise) to be gained from the new business model this presents to them.
Next month, in Part 2, we will examine and explain the duties and obligations of the all-important CSF intermediary and the process to be followed when a company offers securities via the CSF regime.