Crowdfunding is the means of raising funds from a large number of people or “crowd” typically via the Internet to finance a project or venture.
Crowdfunding is a relatively new but fast-growing industry. It is quickly transforming the ways businesses raise capital. As of 2013, the crowdfunding industry has grown to be over $5.1 billion worldwide.
Kinds of crowdfunding
There are three principal types of crowdfunding.
The first is the rewards-based crowdfunding where, in return for the money given to a project, a business or non-profit venture typically gives some type of incentive or reward to the participating crowd.
A good example is the smart watch Pebble, which made the tech industry take notice when it received over $2.6 million in only three days of active crowdfunding.
The top players in this type of crowdfunding are Kickstarter and Indiegogo.
Equity-based crowdfunding
In equity-based crowdfunding, investors fund small businesses in return for equity.
If the project succeeds, the shares increase in value. The opposite is equally true. Equity-based crowdfunding has the greatest potential with startup businesses that are seeking smaller investments to achieve establishment.
The top players in this kind of crowdfunding are AngelList, CircleUp, FundersClub and OurCrowd.
Credit-based crowdfunding
This type of crowdfunding basically comes from non-banks and individuals who support a project. It became popular in 2012 when banks increased interest rates and reduced their level of lending activity.
Individuals or businesses lend money to support an idea or project in return for interest payments. Borrowers must demonstrate the capability to repay the debt, making it unattractive to startups.
The more popular credit-based crowdfunding are Prosper.com, which funded nearly $325 million in loans by April 2012, and the Lending Club, which advanced more than $500 million in loans via its website by April 2012.
Some developments
On April 5, 2012, President Barack Obama signed the Jumpstart Our Business Startups Act (JOBS Act) into law. It contains crowdfunding provisions designed to enable startups and small businesses to raise capital through crowdfunding.
It legislates, among others, limits on the value of securities that the issuer may offer and the amount individuals can invest through crowdfunding.
An issuer may sell up to $1,000,000 of its securities a year and, depending on their net worth and income, investors are permitted to invest up to $100,000 in crowdfunding issues a year.
There must be an independent financial statement review by a CPA firm for raising $100,000-500,000, and an independent financial statement audit by a CPA firm in excess of $500,000.
Even prior to the JOBS Act, various states have enacted their own crowdfunding legislations. These include the Invest Kansas Exemption (2011) and the Invest Georgia Exemption (2012). In the latter part of 2013, Michigan and Wisconsin joined Kansas and Georgia.
Even other countries like Australia, Belgium, Finland, Great Britain, Israel, Italy and Sweden have adopted crowdfunding regulations. Here in Asia, Japan, Singapore, Malaysia, Thailand and Cambodia have either adopted or are working at adopting crowdfunding regulations as a way to support their small businesses.
There are now attempts in the Philippines to establish crowdfunding sites. However, since crowdfunding necessarily involves fundraising from the public, our Securities Regulation Code (SRC) requires approval from our Securities and Exchange Commission (SEC), unless it is so declared as an exempt transaction.
Before crowdfunding turns into a scam, our authorities may want to act now. Congress may enact a new law that will establish a more detailed regulatory framework for it. The law may be patterned after the crowdfunding provisions of the JOBS Act and other relevant foreign laws.
Meanwhile, our SEC may want to explore issuing a rule that prescribes the terms and conditions for the exemption of crowdfunding from the registration requirement of the SRC. The SEC may use Section 10.2 of the SRC, which empowers it to exempt transactions from registration “in the the public interest or for the protection of the investors,” taking into account the “small amount involved or the limited character of the public offering.” After all, our state policy is to support and develop the creative and entrepreneurial spirit of the Filipino without sacrificing the interest of the investing public.
The author, former president of the Philippine Stock Exchange, is now a senior partner of the Angara Abello Concepcion Regala & Cruz Law Offices (ACCRALAW) and the president of the Shareholders’ Association of the Philippines (SharePHIL). The views in this column are exclusively his, and should not be attributed in any way to the institutions with which he is currently affiliated. He may be contacted through francis.ed.lim@gmail.com.