Crowdfunding debate: What can the UK learn from Obama’s JOBS Act?
As the US introduces new legislation on crowdfunding, should we follow suit?
Last week, the White House passed a law designed to ease crowdfunding for start-ups and small businesses. The JOBS Act – which, as the name suggests, is designed to boost business growth and create jobs – loosened securities regulation to increase the number of shareholders a firm may have; removed restrictions on small businesses advertising for investors; and raised the cap on the sum ordinary individuals can invest in an enterprise.
In doing so, it modernised US law to accept crowdfunding and other online fundraisers as a contemporary route to finance. This pioneering move also ensured that the necessary regulation is in place for the sector to thrive, and win the trust of citizen investors. So, would the UK’s online investment community benefit from similar legislation?
Why do we need regulation?
One of the most exciting aspects of the crowdfunding movement is that it is largely unchartered territory, ungoverned by traditional legislation and red tape. However, that is as risky as it is exciting and, to win the faith (and the funds) of investors long-term, greater structure may be required – to reassure investors that they won’t get their fingers burned.
Unfortunately the spotlight is on start-ups here, as there is some concern that fraudulent “entrepreneurs” could start using these platforms to con unsophisticated investors out of their savings. The power of the press is such that just a couple of unfortunate incidents could significantly derail progress in the sector – and that’s bad news for everyone.
If investors don’t believe their money will be used wisely, they won’t invest. After all, who wants to invest – or indeed publish a pitch – on a platform where no-one is meeting their funding targets? Luke Lang, co-founder of Crowdcube, argues that by introducing legislation which – at the very least – makes investors “fully aware of the risks involved when investing in early stage businesses”, investors can make wiser investments and standards in the sector can be maintained.
What regulation exists already?
According to the British Business Angels Association (BBAA), only two UK angel networks are currently regulated by the Financial Services Authority (FSA) – Beers and Partners and Braveheart incorporating Envestors, both of which have commercial interests. The remainder use the Financial Services and Markets Act (FSMA) to certify their angels as sophisticated or high-net-worth investors.
Jenny Tooth, business development director of the BBAA, believes this is appropriate.”The angel network’s purpose is to be an honest broker in the middle between investors and investees. They shouldn’t be promoting deals or including judgement – although, if they are, it needs to be regulated.”
She adds: “Crowdfunding and similar open platforms are less sophisticated so need more guidance. This is a very fast-moving environment, making it confusing for entrepreneurs.
“However, FSA legislation is not necessarily the right method, as it can be difficult and expensive to comply with. The smaller angel networks simply wouldn’t be able to operate if they were FSA-regulated.”
Indeed, the BBAA is currently spearheading a campaign for the Treasury and HMRC to re-examine the FSA and carve out less-severe regulation, which would be more appropriate for crowdfunding – and, potentially, online angel networks.
What might the new regulation look like?
Crowdcube is also engaged with the UK government. The founders have been providing input for the Red Tape Challenge, to reduce barriers to crowdfunding and facilitate application of financial initiatives, including the Seed Enterprise Investment Scheme (SEIS), to platforms such as its own.
However, Lang adds that he would further like Cameron to place an exemption on the requirement for businesses raising less than …5m to gain authorised financial promotion – meaning UK start-ups could advertise for investors, as EU firms can, without having to produce a costly investment prospectus.
“We’d like to see a lighter regulatory regime, which would encourage a crowdfunding-for-equity market to be quickly established,” he says. “That would give rapid growth in the levels of investment in early stage businesses.”
While this idea complements the ethos of the Challenge, there is a risk that some other actions could increase red tape. “There is a need for a regulated framework to protect individuals who put their money into these platforms – but without deterring people who wish to support projects,” Tooth explains.
Sue Acton, founder of Bubble & Balm, the first business to successfully raise finance through an equity-based crowdfunding platform (Crowdcube) agrees: “I think clearer guidelines would be good, to protect and inform both investors, as to the risks, and investees, as to their rights and responsibilities.
“Equally though, the beauty of crowdfunding is that it’s about ‘the man on the street’ investor and about start-up businesses who may have no track record or credit rating. The greater the regulation the greater the risk of excluding the very people for whom crowdfunding is a great idea.”
One concern BBAA has, which Tooth claims would need to be addressed in any forthcoming legislation, is how businesses that were originally funded by crowdfunding can then receive angel investment.
“There could be challenges where more than a hundred individuals have a piece of the business and then the company seeks angel investment. What would the relationship between angel investors and these individuals be?
“We need to develop a framework and set of rules that are relevant to these new developments – both online angel platforms and crowdfunding. I am not saying that the FSA is the wrong body [for this job] but that the costs of meeting compliance requirements are very expensive and these costs get passed onto the entrepreneur.”
She adds: “One thing they have introduced in the US, which is very sensible, is a cap on investment [which would stop online investments from becoming immeasurable]. Perhaps we wouldn’t choose to adopt the same cap over here but it would certainly be a start.”
Yet, the international pioneers of the crowdfunding movement are not waiting around for their governments to act. They have already established a Crowdfunding Accreditation for Platform Standards (CAPS) program, to authorise legitimate crowdfunding platforms and foster the sustainable growth of the industry.
“Crowdcube is a founding council member of CAPS,” says Lang. “The organisation is designed to protect both people pledging or investing capital and people raising capital, by implementing a set of operational standards which crowdfunding platforms should achieve.”
Both the BBAA and Crowdcube are also founding members of the Next Generation Finance Consortium, which seeks to break down this brave new world of alternative finance to entrepreneurs – from peer-to-peer lending to invoice factoring and angel investing. As Tooth identifies:
“Transparency is the core requirement for both the entrepreneur and investors. What are the costs for the entrepreneur engaging in crowdfunding and the ongoing relationship for the individual putting money in?
“It is vital that a clear framework of information is developed and statistics of outcomes are gathered. This would also give comfort to angel investors when seeking to invest alongside crowdfunded deals.”