FAIR Canada opposes equity crowdfunding

“Crowdfunding and the OM exemption will undermine investor protection, make markets less efficient, undermine investor confidence in markets and ultimately result in less ‘real’ capital formation for small and medium enterprises (SMEs),” it says. “We suggest that the regulatory resources needed to introduce these concepts and properly police the exemptions in order to prevent widespread fraud would be better spent elsewhere.”

Late last year, the OSC issued a concept paper that, among other things, raised the idea of expanding access to the exempt market by allowing crowdfunding; adopting an OM exemption (other provinces have their own OM exemptions); along with other new exemptions based on an investor’s investment knowledge; and an exemption based on an investor receiving advice from a registrant.

The proposed model for crowdfunding would impose restrictions on issuers, including: qualification criteria; it would limit capital raising to $1.5 million under this exemption in any 12-month period; restrict the type of securities that could be issued; and, set limits on advertising. It would also set investment limits ($2,500 in a single investment, and $10,000 in a year); require some disclosure to investors; have investors sign a risk acknowledgement; and, provide a two-day ‘cooling off’ period. And, transactions would have to occur through a registered funding portal.

The proposal comes amid a growing interest in equity crowdfunding as a way to raise capital for small businesses, both in other provinces, and in other countries (such as the U.S. and UK). However, it has also run into opposition from critics who warn that it would also expose investors to risks they don’t understand, and outright fraud.

FAIR Canada argues that the policy objective of increasing the amount of capital raised in the exempt market for businesses, particularly small businesses, must be done in a way that protects investors, otherwise real capital formation won’t take place.

“Simply increasing the gross dollar amount of capital raised in the exempt market can be illusory, pointless and even destructive to the ability to raise capital for SMEs” said Ermanno Pascutto, executive director of FAIR Canada. “A regulatory framework which provides for strong investor protection and efficient markets will also facilitate true capital formation, resulting in lowering the cost of capital and increasing confidence in our markets. Instead of viewing investor protection mechanisms as an impediment to capital raising efforts, they should be seen as essential features of an efficient and effective market.”

The proposed crowdfunding concept results in “too large a degree of informational asymmetry and too great a risk of fraud and potential for investor harm”, FAIR argues. It also aims to refute the argument that opening the exempt market to a broader crop of investors will “democratize” the exempt market.

“What ‘democratizing’ really means is removing investor protection for people who are unsophisticated investors with limited income or financial assets so that high-risk unregulated products can be sold to them,” warns Pascutto. “Regulators should focus on the needs of the hundreds of SMEs listed on the exchanges in Canada that have gone to the effort and cost of complying with regulatory requirements and that are in need of equity financing.”