Baker & McKenzie is proud to have advised Acorns on the establishment of its award-winning smartphone and web-based application (click here for more information). The Acorns app was released to the Australian market earlier this month. This alert outlines some of the key regulatory challenges that were faced by Acorns, and our top tips for dealing with Australian regulators in a FinTech context.

What is Acorns?

Acorns is a financial investment tool that helps users to proactively save and invest their money. Investments are made into a specified portfolio of exchange-traded funds (ETFs) that is selected by the user in accordance with their desired investment risk profile (i.e. conservative, moderate or aggressive). One of Acorns' key features is round-ups, whereby the Acorns App automatically rounds up the purchases made using a connected credit or debit card, and invests the spare change associated with such purchases into the selected portfolio. For example, if a user buys a cup of coffee for $2.70 using a connected credit or debit card, the cost of the cup of coffee can be automatically rounded up and the 30c is direct debited from the user's bank account and invested into their selected Acorns portfolio, once cumulative round-ups reach a total of $5. 

Acorns is unique within the dynamic FinTech investment space, because of the way in which it makes investing immediately accessible for everyone, through the use of fractional investing (which is facilitated through the use of a buffer account). Investors can get started with as little as $5 and be fully invested - the Acorns App will invest this money into the investor's chosen portfolio, and allocate to that investor a fractional interest corresponding to the relevant number of units in the ETFs, which comprise their chosen portfolio. Because there are no minimum balance requirements, investors who ordinarily may not be able to access investments such as ETFs (because of, for example, prohibitive minimum investment amounts) are able to do so through the Acorns App. In addition, Acorns adopts a very straightforward fee structure - investors simply pay a monthly fee. There are no commissions, no brokerage fees, and no fees for contributing or withdrawing money from an investor's account.

How did Acorns start?

Acorns was founded in 2012 in the United States by Walter and Jeff Cruttenden, with the goal of making investing accessible to everyone, particularly younger people and first time investors. The Acorns team partnered with Dr. Harry Markowitz, a Nobel laureate and father of modern portfolio theory, and Dr. Markowitz provides specialist advice on the construction of the Acorns investment portfolios. 

How is Acorns structured in Australia

The Australian Acorns App represents the first expansion of the Acorns business to a jurisdiction outside the United States. A joint venture was established between Acorns, Inc. and local investment company Instreet Investment Limited, with Acorns, Inc. providing its specialist IP and technology systems, and Instreet providing its working knowledge of the Australian financial services regulatory system. The Acorns product itself is structured in Australia as a registered managed investment scheme. Investors subscribe for interests in the scheme known as Acorns Accounts, and each contribution made by an investor into their Acorns Account is invested into a portfolio of ETFs. An investor's Acorns Account is then allocated units (or fractions of units) in each of the relevant ETFs, which comprise the portfolio, while the ETF units themselves are held by a third-party custodian. When an investor makes a withdrawal from their Acorns Account, the relevant ETF units (or fractions of units) are either transferred to other investors in the scheme (where another investor is making a corresponding deposit) or sold on-market, with the proceeds paid to the investor.

The Australian regulatory environment: Top tips for FinTech businesses

The Acorns Australian team (and their lawyers!) were required to navigate through a number of issues during the set-up and establishment phase of Acorns in Australia. This included dealing with questions from the regulator, ensuring all regulatory requirements were met by the app and the online experience (i.e. online AML/KYC checks, online electronic signatures), having to change the chosen legal structure, and ensuring that disclosure obligations were sufficiently met and addressed, in the context of an online and app-based financial product. These types of issues are common to FinTech businesses in Australia and around the world, and highlight the need for a solid understanding of the local regulatory regime. As a result of our experience with Acorns, we have prepared our top five tips (in no particular order) for success from a regulatory perspective, when establishing a FinTech business in Australia.

1. Know your product (and be able to explain it!)

While this may sound obvious, it is extremely important for all FinTech business entrepreneurs to have a thorough understanding of:

  1. exactly what it is they are trying to achieve with their product;
  2. who their target client base is; and
  3. what still needs to be done in order bring the product to market. 

It is important that the answers to these questions can be explained in an easy-to-understand manner (and without any tech jargon!), so that regulators, service providers and other stakeholders are all on the same page, and so that relevant information does not get lost in translation (incurring additional delay and expense). 

In conducting discussions with ASIC and other stakeholders, Acorns was often required to educate its audience about its proposed product and features (including answering the three questions outlined above). Regulators will want to know as much as they can about a product, so that they can make the necessary decisions that are required (for example, granting a licence or registering a scheme). As an example, Acorns was required to prepare detailed descriptions and submissions on the concept of fractional investing, in order to explain how this was incorporated into the product. While the concept of a managed investment scheme is well known and understood in the Australian environment, the concept of fractional investing was not - and this led to the need to spend some time engaging with ASIC, in order for the regulator to get comfortable with the structure in the context of the Australian regime. In addition, we had to work with Acorns to ensure that all regulatory requirements were met by the app and the online experience. This required careful consideration of how AML/KYC checks could be done via the app; verification submitted via the app; ensuring only general advice was provided via the app; and that all signatures and disclosures could be electronic.

2. Be prepared to be flexible

One of the initial questions that was faced by the Acorns team was which legal structure would best accommodate the Acorns product in the Australian environment. The concept of investors contributing money toward the goal of generating a financial return is simple to understand, but the choice of which structure to use (for example managed investment scheme vs investor-directed portfolio service (IDPS)) is less straightforward. Other changes were also made along the way, including on fees and the portfolio selection process, to accommodate relevant Australian regulations. These changes highlight the need for businesses to be flexible, and make changes as and when required to suit the local environment. 

3. Engage early with the regulators

A key tip when dealing with ASIC and other Australian regulators is to allow plenty of time. Product issuers such as Acorns will often need to deal with several different teams from within the one agency or regulator, which means that the potential for delay is increased. For example, Acorns was required to liaise with the ASIC licensing team, investment management team and legal and compliance team as part of the overall product establishment, and while ASIC was generally very responsive and helpful, limited resources within government agencies such as ASIC means that a prompt turnaround is never guaranteed. In addition, ASIC has recently established an innovation hub designed to provide FinTech businesses with assistance throughout the early stages of their development. ASIC has dedicated internal resources to this program (and is to be commended for doing so), however as regulators continue to familiarise themselves with the issues that FinTech businesses need assistance with, delays can be experienced as internal knowledge, processes and procedures within the regulator are developed and refined. So, be sure to allow plenty of time for licensing and other applications, and be prepared to proactively engage with the regulator to work through their concerns, as they continue to develop processes and procedures.

4. Understand your disclosure obligations

As is the case with any financial product that is offered to retail clients, ASIC will take a close look at the disclosure obligations that apply to FinTech product issuers. It is important that issuers understand and obtain advice on the regime that will apply to them. For example, will a disclosure document be required and if so, what form must it take? Is general or personal advice being given and what are the consequences of this for a financial services app? Will a standard product disclosure statement be required, or can the issuer rely on the shorter PDS regime? Are there any relevant class orders or regulatory guidance that must be considered? Product issuers should be prepared to submit draft versions of their disclosure documents to ASIC for consideration, and work with the regulator to make any necessary changes, to accommodate particular concerns or sensitivities. In addition, product issuers should give some thought to how they distribute their disclosure document. ASIC has recently released new guidance on digital disclosure, which will be relevant to many FinTech businesses (including Acorns) who wish to present their content online, or via a mobile platform. 

5. Pay attention to privacy

Another key issue that remains on the radar of regulators at the moment is privacy and data protection. While the recent reforms to Australian privacy laws (which included the introduction of the Australian Privacy Principles) have been in effect now for almost two years and are relatively well understood, FinTech startups need to devote sufficient resources to ensuring their compliance with these obligations, which should occur in the product design phase well prior to market launch. Organisations (like Acorns and other FinTech businesses) that collect and deal with personal information are required to maintain certain policies, practices and procedures, and while adhering to these obligations from the initial stages of a product's launch can represent a significant compliance burden, consumers in this digital age are very sensitive when it comes to privacy and data protection. It is critical that investors feel confident that their data is safely stored and protected, particularly in the FinTech space when this data will often include bank account, credit card details and other sensitive personal information. Consumers simply will not provide this information if they have doubts about an organisation's security procedures, which means that FinTech businesses must do everything they can to ensure the safety and security of the data they hold.

Conclusion

The launch of Acorns in Australia represents a significant development in the emerging local FinTech industry, and we look forward to more exciting developments in the Australian FinTech space in 2016 and beyond.