Monday, 27 July 2015

Equity Crowdfunding – Cautious Optimism for Start-ups & the SME Industry

Blanche DuBois famously proclaimed in A Streetcar Named Desire, “I have always depended on the kindness of strangers.”

What is crowdfunding?

Crowdfunding is defined as the practice of funding a project or venture by raising many small amounts of money from a large number of people, typically via the Internet. Popular crowdfunding sites include ArtistShare, Kickstarter and Indiegogo. They provide a platform to fund creative projects ranging from films, games, and music to art, design, technology and cause/charity-based projects.

These platforms are usually donation-based or reward-based, where individuals donate a financial amount in return for a product or service gift from the recipient.

  • A British shoe shop worker launched a crowdfunding campaign to help Greece pay back its $1.8 billion IMF loan – he raised €1.9m.
  • Singaporean blogger, Roy Ngerng, turned to crowdfunding to raise funds for his court case against the Prime Minister of Singapore, Lee Hsien Loong – he raised about SGD90,000.
  • A woman attempted to raise SGD1.7m for her toddler to seek specialised medical treatment – she raised around SGD500,000 in 3 weeks.[1]

Equity crowdfunding (ECF)

This concept has been extended to businesses where individual investors invest in unlisted companies in return for equity (ie equity crowdfunding). As the use of ECF involves investment into a commercial entity, it must be governed by securities and financial regulation.

ECF provides an alternative to the more stately methods of angel investors and venture capitals. It’s viability as a method to raise funds for capital has been acknowledged; crowdfunding has been recognised and regulated in Canada, Finland, New Zealand, Italy, Sweden and UK, just to name a few. In April 2012, President Barack Obama signed the Jumpstart Our Business Startups (JOBS) Act (ie the crowdfunding bill) into which legalised ECF in United States.

Closer to home, Malaysia became the first country in the ASEAN region to amend its laws under Capital Markets and Services (Amendment) Act 2015 to recognise ECF and provide governance for it.

ECF in Malaysia

Who is eligible?
  •  Private companies with a paid-up capital not exceeding RM5m. They must have a concrete and clear business plan.
  • Small and medium enterprises (SME) are allowed to raise RM3m per year but capped at a maximum amount of RM5m.

How much can one invest?
  • An individual investor is allowed to invest a maximum amount of RM5,000 per company, capped at RM50,000 per year.

How do the new regulations protect an investor?
  • The funds will be kept in a trust fund and will only be released to the recipient if the targeted amount is achieved.
  • Investors are given a cooling-off period of 6 days to allow them to retract their contribution.
  • Any material changes relating to the company must be made known to investors during the offer period.
  • Any fraud committed in crowdfunding activities falls under Section 179 of the Capital Markets and Services Act which carries a jail term of not more than 10 years and a minimum fine of RM1 million.
  • It is suggested that investors should be allowed to sell the shares in the market during a specified period of time, subject to the constitution of the company, as a means of an exit mechanism.

Securities-based crowdfunding (SCF) in Singapore

Singapore has yet to amend its laws to accommodate the development of SCF. In February 2015, the Monetary Authority of Singapore (MAS) released a consultation paper suggesting measures to facilitate SCF. Based on the consultation paper, it seems that Singapore is trying to achieve a balance between protecting the investors and not stifling the growth of SCF. It can be seen from the proposed changes below:-
  • To only approach accredited investors and institutional investors to invest in SCF.
  • To lower the base capital requirement and remove the security deposit requirement for intermediaries that do not handle, hold or accept customer monies, assets or positions and do not act as principal in transactions with investors.

MAS is of the opinion that accredited and institutional investors are in a better place to assist as they tend to have more experience and resources when it comes to investing in start-ups and SMEs.

However, they do not discourage individual (retail) investors from investing in start-ups. They suggest for these investors to use other crowfunding methods (ie donation-based and reward-based crowdfunding).

Why so restrained?                                     

ECF/SCF is a double-edged sword. Its risks lie in the attractiveness of its concept. Its ability to reach out to investors anywhere in the world, using digital connections to publicise offers and solicit funds, allows SMEs and start-ups to seek a wider pool of investors at a lower cost, without the strings that comes attached when seeking funds from angel investors or venture capitalists.

However, the anonymity of the Internet brings its share of problems.  Scammers can masquerade as entrepreneurs seeking funds for a ‘business project’. The ECF/SCF model is not one model that encourages investors to conduct a proper due diligence and personal contact with the persons making the offers.

The ease and novelty of investing in a start-up may also attract inexperienced investors who are unfamiliar with early stage investing. As such, given the inherent risky nature of start-ups, investors stand a higher chance of losing their investment if a start-up were to fail. Apart from that, the absence of a market for the trading of the shares/securities purchased imposes a liquidity risk on the investors.

Just being cautious

The regulations imposed on ECF/SCF may seem conservative and restrictive.  However, given that it is a relatively new area in the capital market, Malaysia and Singapore are choosing to dip their toes in the water first before plunging into the deep end of this investing opportunity.  After all, caution is the parent of safety.

[1] Chin, Daryl 2015, ' Putting your head where your money is ',The Straits Times 5 July. Available from: < >. [7 July 2015].


Recent Updates On Service Tax

This article is written by Lee Hishamuddin and Gledhill (LHAG) and was first published in their SST e-Alert in September 2019. Reproduced...