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When it comes to the growing world of crowdfunding, consumers need to be clear on what they’re getting into and what risks they are taking. (istockphoto)
When it comes to the growing world of crowdfunding, consumers need to be clear on what they’re getting into and what risks they are taking. (istockphoto)

Online investing

Regulators aim to tame the risks of crowdfunding Add to ...

Crowdfunding is as enticing as it is trendy.

Many see potential millions of investor dollars for small and medium-sized businesses out there to be tapped, in the same way that upstart fashion designers, filmmakers and charities use crowdfunding websites to raise hundreds or a few thousands.

U.S. regulators are well under way to implementing rules to allow businesses to begin issuing shares and debt securities this way, over the Internet through crowdfunding portal websites. In Britain, crowdfunding sites are coming in for tough scrutiny over concerns that the growing industry could lead to market abuses that are outside the traditional reach of regulators.

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In Canada, Saskatchewan regulators are considering how crowdfunding sites could fit into current regulations, while the Ontario Securities Commission has proposed rules limiting the issuance of shares and debt through crowdfunding to $1.5-million per business per year.

In Ontario, crowdfunding would be open only to Canadian companies, investors would be limited to no more than $2,500 in a single investment and would be allowed to invest no more than $10,000 in crowdfunding in a calendar year.

Huston Loke, the OSC’s corporate finance director, describes it as an exciting new source of capital for small businesses, but also one that needs oversight.

Why recommend certain exemptions? Why not fully regulate all crowdfunding that issues shares or debt of any amount, in order to protect investors?

Right now, you’re not permitted in North America to raise money over the Internet for shares in a company. And if you think about why we are doing this [looking at crowdfunding exemptions], is that companies are hungry for investment capital, investors have an appetite for early-stage businesses, and we’re trying to connect investors and companies with the appropriate ways with the right safeguards.

What is the OSC’s definition of the kind of crowdfunding it wants to regulate? Specifically shares and debt issued over the Internet to the public through a crowdfunding portal? How about through other social media or through e-mails?

Broadly, it involves raising small amounts of money from large amounts of people, usually using social media. At present, [crowdfunding] is used for charities and projects and other concerns of that nature. What we’re looking at is the specific application of this to shares in a company or the debt of a company.

And in that context, we believe there are two parts in providing investor protection:

One would be some sort of limit. What we’re doing is we’re saying that an individual can have no more than $2,500 of exposure to a single company.

The other aspect that we think that’s important is the portal itself. We think that it wouldn’t be sufficient to have someone just invest on the basis of an e-mail they received. We think there should be a portal, and we’re looking closely at the requirements we would put in place in order to have that portal be registered and in order to have that portal provide certain essential services that would provide investor protection.

Is the idea to make a “safe” crowdfunding portal, as opposed to other portals which might be unregulated?

When it comes to the portals, we think they play a critical role in investor protection. They are facilitating the actual transaction. They are going to be the ones that are going to be showcasing these companies. They’ll be determining how and if comments from other potential investors are displayed, what requirements are in place for the sponsors of these companies. And so we think it’s a very important role. At this stage, we intend to require registration with us.

Any portal?

Any portal that wants to participate in this space. Our view is that they should be registering with us.

Are we only talking about shares or debt securities in a company? What about a jeans company establishing a barter system or promising crowdfunders a certain number of jeans or inventory for their investments? Maybe with the aim of attracting retailers. Would that be outside your scope?

Yes. All of those activities take place now. There are plenty of websites facilitating exchanges in return for support for a charity or a new product launch or getting credit for a movie. We have no need to look at any of those areas. It really comes down to the investment of money in the shares of a company or debt.

As crowdfunding becomes more sophisticated, are you seeing more sophisticated fraud?

It is a concern. We want to ensure there is appropriate investor protection. The performance of the crowdfunding websites out there is interesting, because you have millions of individuals who feel sufficiently engaged and sufficiently informed to put their money in an unregulated platform, in exchange for goods and services that in many cases don’t even exist yet. We would like to see some of that thinking and innovation applied to making capital available to small businesses.

Is there a timetable for implementing this? What’s the next step?

We’re presently working on concepts and frameworks that we would bring to our commission, subject to their approval. The next step would be publication of proposed rules for comment. After a comment period, and after our minister approves anything that would be put into place, then the rules would come into effect.

This seems like an intriguing new area for regulators, with interesting, new concepts being asked.

It’s very exciting. It applies technology that’s in use every day, that we use for goods and services all the time without thinking about it, to raise money for small and medium-sized businesses, which are in turn using that money to invest. We think at the same time, it’s important to protect the investor.

This interview has been condensed and edited.

Follow on Twitter: @Guy_Dixon

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