In late Dec 2015, the International Organization of Securities Commissions (“IOSCO”) released a report (“Survey Report”) summarising its findings following a survey of twenty three IOSCO members concerning regulation of crowdfunding.
The following key points were highlighted in the Survey Report:
- Regulatory approaches to crowdfunding;
- Capital requirements for crowdfunding activities in various jurisdictions;
- Regulations for the marketing of a crowdfunding platform versus marketing of offering;
- Conduct of due diligence of the offering;
- Issuer disclosure requirements;
- Offering document disclosure requirements; and
- Investor eligibility requirements.
(i) Regimes for Regulating Crowdfunding
Jurisdictions surveyed reported two broadly different approaches. Some jurisdictions sought to apply their general securities regulatory framework, which often allows the use of certain built-in flexibilities such as waivers from licensing or registration and/or prospectus publication related requirements. Other jurisdictions have introduced ad hoc regulatory regimes to address the phenomenon of raising capital via crowdfunding. So far, Singapore falls into the first group – currently capital raising via crowdfunding is subject to the same regulatory regime of the Securities and Futures Act (“SFA”) as capital raising by conventional means.
(ii) Capital and Insurance
On the issue of capital and insurance, some jurisdictions have made specific revisions of existing capital requirements to cater to crowdfunding activities. In Singapore, the Monetary Authority of Singapore (“MAS”) appears to be doing likewise. In a Consultation Paper published in Feb 2015 (“MAS Paper”), the MAS has proposed to lower the minimum base capital requirement from S$250,000 to S$50,000, and to also remove the requirement for a S$100,000 security deposit.
(iii) Regulating the Crowdfunding Platform versus Regulating the Offering
With respect to regulations concerning marketing, regulators have sought to distinguish between the marketing of the crowdfunding platform and the marketing of a particular offering. Specific measures regarding solicitations and recommendations, disclosure of compensation as well as objective criteria for the selection of projects have generally been implemented or proposed. For example, crowdfunding portal managers are sometimes forbidden from advising or making recommendations as well as from soliciting purchases.
In Singapore, MAS has clarified in the MAS Paper that under Singapore’s existing regulatory regime, a person who makes offers of securities in reliance on statutory prospectus exemptions must comply with statutory restrictions against advertising, or making statements in relation to specific offering available on the crowdfunding platform. However, MAS did say that this does not mean that the platform operator cannot advertise or promote the platform itself. This sort of promotional effort can include information about the platform and the way the platform operates, so long as no information is included on specific offers.
(iv) Conducting Due Diligence on the Offering
To reduce incidences of fraud, IOSCO noted that some regulators have requirements relating to the crowdfunding platform’s role in the offering and that regulatory regimes might require some due diligence on the offerings in terms of mandatory review, disclosure and reporting to the regulator.
(v) Issuer Disclosure Requirements
In terms of disclosure requirements, a number of jurisdictions have specific disclosure requirements relating to the risks of crowdfunding offerings. These risks include liquidity, the absence of a secondary market, restrictions on the ability of an investor to cancel the investment, the risk of not getting expected performance on the securities purchased, risk of not being able to influence management of the issuer, dilution risk and inability to obtain a return on the investment.
In jurisdictions that require crowdfunding issuers to report, the issuers are usually required to comply with customary continuous disclosure requirements. In jurisdictions where the crowdfunding issuers are not required to report, the regulatory requirements may range from exemption to notification in case of changes and following prescribed documentation.
(vi) Offering Document Disclosure Requirements
For crowdfunding offerings completed on a non-exempt basis (i.e. by prospectus), some jurisdictions prescribe specific disclosure requirements. These may include disclosures as to intended use of proceeds, capital structure and ownership of the issuer, and certain related party transactions. In addition, some other jurisdictions prescribe the form and content of crowdfunding offering documentation.
Due to the costs and resources involved in preparing a prospectus and the small size of the fundraising exercise, in Singapore MAS has tentatively indicated in the MAS Paper that it would allow offerors to rely on the Institutional and/ or Accredited Investors prospectus exemptions. Reliance on these exemptions would be subject to the usual restrictions on advertising of the offering etc.
IOSCO also noted that a number of jurisdictions (including Singapore) require or are proposing to require financial statements in crowdfunding offering documents, either as part of the regulations relating to crowdfunding offerings or through company law or other regulations. As to whether the financial statements have to be reviewed by external auditors and the nature of the review, this would generally depend on the size of the offering and/or other defined factors. Furthermore, in some jurisdictions, not only are financial statements required within the crowdfunding offering document, the issuer may also be required to provide a narrative discussion of its financial condition within offering document.
(vii) Investor Eligibility Requirements
In most jurisdictions with special crowdfunding frameworks, there are similarities in the approach towards investor protection. These protections range from limitations on the amount that may be invested, to education requirements, risk warnings, cancellation rights and/or other jurisdiction specific protections.
In the Singapore context, MAS has proposed in the MAS Paper to limit the applicability of the prospectus exemptions to restricted access platforms, and these platforms must conduct due diligence on investors to ensure that they are within the scope of the prospectus exemptions (e.g. to verify that the investors are accredited or institutional investors).
2. Other Issues related to Crowdfunding in Singapore
Apart from the key elements highlighted by IOSCO, in the Singapore context, there are also some related legal issues that one must consider.
(i) Deposit Taking under the Banking Act
Distinct from bank licensing, the activity of deposit taking is also subject to specific regulatory controls under the Banking Act (“BA”). Section 4B(4) of the BA defines deposit very widely. A bank deposit is, by nature, a loan of money by the customer to the bank, so that the bank becomes a borrower and the customer the lender. Because of this, as long as one takes money from another without giving in return a real asset or securities like stocks or bonds, this will be characterised as taking a deposit. There are restrictions under the BA with regard to a person taking deposits in the course of carrying on a deposit-taking business. Therefore, in the case of a crowdfunding platform that deals in debt (rather than equity), in taking money from investor participants and lending the money to debt issuers, there is the possibility that the platform operator is contravening the rules in the BA concerning deposit-taking.
(ii) Classification of Loans made through a Crowdfunding Platform as Securities under the Securities and Futures Act
General securities provisions under the SFA may apply depending on the type of business model of the crowdfunding platform. For example, lending-based crowdfunding models that involve the offer of securities in the form of debentures or shares will be subject to regulations under the SFA. For crowdfunding platforms that deal in debt, the loans that are transacted via the platform would typically be documented in a standard form document. This raises the question as to whether the loan note might be considered to be a security, such as to attract the application of the regulatory regime of the SFA. It is understood that some platforms currently active in Singapore rely on the fact that promissory notes are not considered to be securities under the SFA. However, it remains an open question as to whether the format in which the loan is documented suffices to render the instrument a promissory note.
It is also unclear whether MAS might in the future continue to exclude promissory notes from being regarded as securities under the SFA.
(iii) Business of Moneylending under the Moneylenders Act
For lending-based crowdfunding platforms, section 5 of the Moneylenders Act (“MLA”) provides that a person who carries on the business of moneylending must hold a licence issued by the Registrar of Moneylenders. Given that a lending-based crowdfunding platform contemplates that the borrowers will either borrow from the platform (who would in turn be funded by lenders) or borrow directly from the lenders, there is a concern that the platform might either need a moneylending licence or be considered to have abetted investors to engage in a business of unlicensed moneylending. The issue does not arise where the borrowers are corporations (since the business of lending money to corporations no longer requires a moneylending licence). However, the issue remains if the borrowers are individuals, or small enterprises (since many of the latter operate as partnerships or sole proprietorships).
(iv) Providing Financial Advisory Services under the Financial Advisers Act
Section 6(1) of the Financial Advisers Act (“FAA”) requires a person who provides financial advisory services to be licensed. Financial advisory services, as defined in Second Schedule of the FAA, include advising others concerning any investment product and the issuance of research reports on investment products. As the crowdfunding platform would include various information on a borrower/ issuer (primarily to help investors assess whether to participate in the loan/ equity investment), crowdfunding platform operators need to consider carefully whether the information it provides in relation to the issuers might cross the line such that it might be considered to have given advice on investing with the issuer or to have issued research on the issuer. This could then bring into play the licensing and regulatory requirements of the FAA.
(v) Secondary Trading of Loans
The MAS Paper mentions the lack of liquidity as a potential issue for crowdfunding platforms, which may result in investors facing the risk of not being able to readily exit their investments by selling their securities in a secondary market.
Some crowdfunding platform operators may thus want to include features that facilitate secondary trading of the investments. This in turn would bring into play the potential application of the regulatory regime for market operators in Part II of the SFA.
Without any international consensus on what would be an appropriate regulatory model, it would seem likely that MAS would proceed with considerable caution as it considers and refines its policy thinking in relation to the regulation of crowdfunding.
Whatever might be the eventual posture adopted, it is quite clear that this would be eagerly anticipated by all.