Stikeman Elliot - Canadian Securities Law | Rhoda Aylward, Laura Levine and Chad Bass-Meldrum - | November 29, 2013

Streamlining access to capital has been a popular topic, with regulators around the globe poised to implement various regulatory reforms aimed at simplifying the process for startup companies and small enterprises. As we’ve discussed in the past, the Ontario Securities Commission released a consultation paper on December 14, 2012, and a progress report on August 28, 2013, with respect to the OSC’s consideration of new capital raising prospectus exemptions in Ontario. According to the progress report, which will be discussed in more detail below, the OSC has been directed to focus on four new capital raising prospectus exemptions in the future, namely: (1) a crowdfunding exemption; (2) a family, friends and business associates exemption; (3) an offering memorandum exemption; and (4) a streamlined rights offering exemption. The focus of this post is crowdfunding.

Crowdfunding covers a wide range of online activities from charities soliciting donations to companies raising capital. In the case of financing a company, crowdfunding refers to a company selling small amounts of securities to a large number of investors via an internet portal intermediary. Crowdfunding can thus be considered an exchange of cash consideration for securities, which raises issues for securities regulators around the globe.

International regulation

Currently crowdfunding is being used to finance companies in the United Kingdom without much regulatory oversight. According to the Financial Conduct Authority, most crowdfunding in the U.K. occurs without FCA authorization. The FCA has, however, authorized several securities based crowdfunding platforms.

Meanwhile, according to the Commissioner of the Australian Securities and Investments Commission, “crowdfunding, as a discrete activity, is not prohibited in Australia nor is it generally regulated by [the] ASIC.” That said, crowdfunding that involves offering or advertising financial products, providing financial services, or fundraising through securities requiring disclosure documents is regulated by the ASIC under the Corporations Act 2001 and the Australian Securities and Investments Commission Act 2001. The ASIC’s Class Order 02/273 – Business Introduction and Matching Services nevertheless provides exemptions from certain provisions of the aforementioned acts, effectively permitting funding portals to act as “introduction services” that bring together issuers seeking capital and investors, provided the terms of the Class Order are complied with.

As we discussed in October, the U.S. Securities and Exchange Commission recently proposed rules under the JOBS Act to permit companies to offer and sell securities through crowdfunding. Generally, the proposed rules limit the aggregate amount an issuer can raise through crowdfunding offerings to $1 million in any 12-month period. Investors with an annual income and net worth of less than $100,000 would be able to annually invest up to $2,000 or 5% of their annual income or net worth (whichever was greater). Investors with either annual income or net worth of at least $100,000 would be able to annually invest 10% of the greater of their annual income and net worth, up to $100,000.

Crowdfunding offerings would have to be conducted through a registered internet intermediary, either a broker-dealer or a funding portal, which would  be prohibited from soliciting investments, offering investment advice, or compensating people for solicitations, and companies conducting crowdfunding offerings would be required to file certain information with the SEC, including among other things disclosure documents, financial statements and annual reports, all of which must be made available to the public.

View:  Canadian resources for proposed US equity crowdfunding rules

The SEC is currently seeking public comment on the proposed rules. The Financial Industry Regulatory Authority is also soliciting public comment on a set of proposed funding portal rules and related forms.

Ultimately, the introduction of crowdfunding in the U.S., Australia, and the U.K. has prompted considerable discussion among the media, stakeholders, and securities regulators with respect to the opportunities and challenges of regulating crowdfunding in Canada.

Crowdfunding in Canada

While crowdfunding is not prohibited in Canada, companies issuing securities in exchange for capital are currently subject to prospectus requirements and intermediary online portals are subject to registration requirements, unless they can rely on existing exemptions. Pursuant to Canadian securities legislation and National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations, any person or company “in the business” of trading in securities (e.g. an internet portal intermediary) must register with the applicable securities regulator. According to Companion Policy 31-103CP, intermediating a trade between a seller and a buyer of securities, soliciting the buying and selling of securities, and being compensated for these services is considered to be engaging “in the business.”

Internet portals soliciting securities and intermediating trades between buyers and sellers for commissions are arguably in the business of trading in securities and must register, unless they are exempt. Pursuant to Canadian securities legislation, any person or company “distributing” securities (e.g. an issuing company) must file a prospectus providing full, true and plain disclosure of all material facts relating to the securities issued. That is, unless they are exempt under National Instrument 45-106 Prospectus and Registration Exemptions, for example.

Common exemptions for startup companies include the private issuer exemption for companies with less than 50 security holders who also satisfy certain other prescribed criteria; the accredited investor exemption for companies selling securities to institutional, high net worth, or higher income investors; and the minimum amount exemption for companies distributing securities to an investor who invests at least $150,000 in a single investment. Crowdfunding does not by definition directly fit within these capital raising exemptions.

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The National Crowdfunding Association of Canada (NCFA Canada) is a cross-Canada crowdfunding hub providing education, advocacy and networking opportunities in the rapidly evolving crowdfunding industry. NCFA Canada is a community-based, membership-driven entity that was formed at the grass roots level to fill a national need in the market place. Join our growing network of industry stakeholders, fundraisers and investors. Increase your organization’s profile and gain access to a dynamic group of industry front runners. Learn more About Us | Prezior contact us at casano@ncfacanada.org.