Crowdfunding comes of age in 2016

The OSC's crowdfunding exemption kicks in at the end of January providing small and medium-sized enterprises with a new way of raising capital but ultimately it could end up backfiring on business innovation

The OSC's crowdfunding exemption rules are slated to take effect January 25 and when that happens non-accredited investors will be able to invest in start-ups that previously weren’t available to them. 

While it’s good news for smaller investors interested in taking a tiny bite out of SMEs looking to grow, the exemption rules are fraught with pitfalls that ultimately could do more damage than good to Ontario’s capital raising efforts. 

“Based solely on a review of the OSC rule, perhaps the better question is ‘will investment crowdfunding help private capital markets raise net NEW capital?’ Everything else being equal (and it never is), a good portion of what may be crowdfunded will be at the expense of a reduction in the amount raised through another channel,” commented former IIAC Managing Director Barb Amsden when asked about the subject by WP.

Not only could traditional capital raising be affected by the crowdfunding exemption, it’s also possible that SMEs will be inadvertently hurt by the same rules that are supposed to help them.

“For example, it would require 600 non-accredited investors investing the maximum of $2,500 to raise the maximum offering amount under the Crowdfunding Exemption of $1.5 million,” wrote Aird Berlis lawyers Rebecca Kacaba and Graham Topa in early December. “Small and high-growth companies contemplating use of the Crowdfunding Exemption should be mindful of the challenges that come with having a widespread shareholder base, particularly when shareholder approvals or consents are required.”

In other words the $1.5 million comes with a number of headaches and burdens not present prior to entering into a crowdfunding initiative. 

Amsden has a possible alternative solution that could help advisors currently shut out of the proceedings.

“If the need to crowdfund in our capital markets is due to the high cost of issuance, then regulators could work with the legal, accounting and financial professions to deal with related problems,” said Amsden. “While the commissions have taken a few steps to reduce such costs for issuers, the commissions’ efforts are predominantly investor protection. In this, crowdfunding rules seem to constitute burning the registrant candle at both ends:  continuing to heat up the regulation of IIROC and MFDA dealers and advisors generally, while incinerating traditional capital-raising and support opportunities for these same registrants."

Amsden believes the securities commissions may ultimately feel the heat when the smallest investors are disappointed with the poor performance of their generally illiquid crowdfunding investments despite any risk disclosures they may have been given by the issuers prior to their investment. 

While crowdfunding will likely turn out to be one of the biggest trends in the coming year if Ontario wants to get its economy moving there are definitely things that can be done that would have a bigger bang for the buck.