Raising capital and accessing affordable finance is a key issue facing start-ups in Australia. There are relatively few early stage venture capital firms and financial institutions are often unwilling to invest in speculative or innovative ideas. In fact, a report prepared by the Department of Industry, Innovation and Science in 20161, found that Australia has the lowest investment in high-risk, early stage venture capital compared to other OECD countries.
Most start-ups in Australia start off as self-funded, yet based on past figures2, approximately 70% will need funding to continue to operate and grow, and almost half plan to raise funds in the future. While many turn to family and friends for initial funding, and there is some limited ability to raise funds from the public under the “20/12/2 rule”3, up until recently the only viable alternative was to seek investment from venture capital funds or angel investors. Recent changes to the law have sought to address this with the introduction of the Corporations Amendment (Crowd-Sourced Funding) Act (Cth) 2017.
In this update, Andrew Clark of Moulis Legal takes a closer look at this new legislation, and explores what it means for start-ups looking to raise early stage capital.
Fundamental changes to crowd-sourced funding
The new crowd-sourced funding (CSF) rules came into effect on 29 September 2017. They create a new regulatory framework for crowd-sourced funding that is intended to open up the retail investor market to start-ups while balancing the need to keep investors well-informed and protected.
Under the new rules, start-ups will have access to a larger pool of investors without having to be listed on a stock exchange or issuing a full prospectus. This reduces the regulatory barriers for companies, making it easier to raise funds without having to comply with many of the costly and time-consuming corporate governance, reporting and disclosure obligations under the Corporations Act 2001 (Cth) (“the Act”). Importantly, restrictions on advertising have also been reduced, making it much easier for start-ups to attract more investors through social media and other platforms.
This is a big step forward, but there are some restrictions. As you would expect, the changes are aimed at smaller companies only and there is a limit to the maximum amount that can be raised, both in aggregate and at an individual investor level. To raise funds, start-ups must also go through a platform operated by a licensed CSF intermediary and there are still various (but less onerous) disclosure requirements.
Perhaps the key restriction, however, is that the CSF regime only applies to public (unlisted) companies. According to the Startup Muster 2016 annual report2, 84.5% of start-ups typically operate through a proprietary limited company, and there is a good reason for this. The regulatory obligations for public companies are much more onerous, complex and expensive. Because of this, proprietary companies typically don’t convert to a public entity until they are readying for an IPO. The Government has tried to off-set this burden by offering small public companies who access the CSF regime some welcome, but temporary, relief from these reporting and governance requirements.
This includes up to a five year reprieve from (amongst other things) holding annual general meetings, having their accounts audited and providing annual reports to shareholders. However, watch this space as the Corporations Amendment (Crowd-sourced Funding for Proprietary Companies) Bill 2017 (“the Bill”) is currently being considered before Parliament which includes in its amendments the ability for proprietary companies to take advantage of the CSF regime. If this Bill is passed, it may significantly increase the attractiveness of the CSF regime to start-ups.
Some of the key points to consider with the CSF regime include:
- To participate, companies must have less than $25 million in consolidated annual revenue and gross assets, respectively.
- Companies can only raise up to $5 million in total (including any capital they have raised from the public under other parts of the Act) in any 12-month period.
- Offers are limited to ordinary shares only.
- Companies must be registered as (or convert to) a public company.
- Each investor can only invest a maximum of $10,000 per company in any 12-month period.
- Offers must include a 5 day cooling off period and must prominently display a number of prescribed warning statements.
It is early days, and time will tell how attractive the CSF regime is for the start-up community. Initial take-up may be slow as many wait for the proposed changes allowing proprietary companies to participate to become law. Looking overseas, similar platforms have been extremely successful, and any expansion of options for start-up funding has to be a good thing.