Law Times

June 3, 2013

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Page 8 June 3, 2013 Law Times • Focus On Internet/E-commerce Law Equity crowdfunding Observers square off as OSC looks at new model BY MICHAEL McKIERNAN For Law Times E quity crowdfunding supporters are squaring off against investorprotection advocates as the Ontario Securities Commission investigates the online investment model. In December, the OSC unveiled a proposal to expand access to the exempt market in the province so that smaller businesses could raise money from retail investors over the Internet. Unlike donation and crowdfunding platforms such as Kickstarter on which users contribute to projects in return for products like games, music or films, their equity crowdfunding cousins allow individual investors to secure shares in the business in return for cash. But in a strident response to the regulator, the Canadian Foundation for Advancement of Investor Rights called equity crowdfunding a "really bad idea" that boosts the risk of fraud. "With crowdfunding, what they're essentially saying is let's just forget about securities regulation," says Ermanno Pascutto, the foundation's executive director. "We'll open up the opportunity to invest in startups to everyone in an unregulated way without regard to the level of investment sophistication, without any verifiable information about companies and their ability to withstand financial loss. You can raise money however you want through this portal." Brian Koscak, who chairs the Exempt Market Dealers Association of Canada, says the "melodramatic" reaction from some investor groups obscures their shared interest in investor protection. "Why wouldn't we be concerned about introducing safeguards? If we don't, the capital market will be poisoned, the exempt market will be poisoned. If this is not done right, we're negligent in our duty as gatekeepers," says Koscak, who favours a trial run before fully embracing equity crowdfunding. He acknowledges the risk of fraud but points out there have been numerous scams even in the most tightly regulated markets. 'Internationally, if we don't do this, others will,' says Brian Koscak. "There's no safe haven from fraud or identity theft. All we can do is try to reduce the likelihood. If perfection was the aim, we would never have credit cards. The whole lore and history of robust securities law is that it must be proportional and work in conjunction with market realities. . . . To have all these sky-is-falling comments is never going to advance our thinking on the issue." In its exempt-market review released in December, the OSC floated a "concept idea" on crowdfunding for comment that suggested a business would be able to raise up to $1.5 million in a 12-month period. Single investors would face a limit of $2,500 per investment with a total cap set at $10,000 per year. There would be limitations on the type of share that could be issued and investors would need to get some basic information about the company and sign a risk acknowledgment before committing their money. There would be a twoday cooling off period as well as a requirement for web sites to register with the OSC. The overwhelming response prompted the regulator to extend its deadline with more than 100 comments received. The OSC will also host a roundtable discussion on the subject on June 11. Pascutto says Ontario's exempt market already has enough problems without throwing equity crowdfunding into the mix. Only about four per cent of the population meets the threshold of $200,000 in annual income for accredited investor status in the exempt market. Anyone prepared to invest more than $150,000 also qualifies. "We know that there's a higher proportion of fraud and malfeasance than in the regular market and we also know there's widespread non-compliance with the existing rules. Shouldn't we try to fix some of these problems before opening up a whole new area?" Pascutto asks. He's also suspicious about the motives of those he says are driving the equity crowdfunding fad. He says the idea picked up steam when it surfaced in the U.S. Jumpstart Our Business Startups Act passed in April 2012. "With the JOBS Act, it was something politicians came up with and then pushed regulators to look at. Raising money for small and medium enterprises and for startups is a politically very popular thing to do, so everyone jumps on the bandwagon. It's not the regulators who think this is a brilliant idea," says Pascutto. But Donald Henderson, president and chief executive officer of the non-profit Interactive Ontario, says the OSC is right to move forward with its own consultation since the new equity crowdfunding rules in the JOBS Act could give the United States a competitive advantage in the search for talented entrepreneurs looking for funds. "If one jurisdiction allows it, then people there are going to have better access to capital and that puts Ontario at a disadvantage. I could see some companies would say, 'We have to move our operations to the U.S. if we don't have that option locally,'" says Henderson, citing the founder of the Pebble watch as one example that foreshadows a potential exodus. Eric Migicovsky did some of the early development on his smart watch technology while a student at the University of Waterloo but relocated to California after failing to secure venture capital funds in Canada. From there, he went on to secure more than $10 million in one of Kickstarter's most successful projects ever. According to Koscak, Ontario's technology industry is "getting hammered" by its inability to raise funds. He says equity crowdfunding could help bridge the "funding gap" for companies that have struggled to meet the regulatory burdens associated with conventional access to funds. At Interactive Ontario, an organization that supports digital startups, Henderson agrees. He believes his clients' Internet-savvy customers would also be particularly receptive to this new method of raising funds. "It's a good way to access new funds, especially from fans that understand what they're investing in and aren't necessarily looking for a massive financial return. It's not going to solve everything, but right now every little gap for a startup is a significant gap and anything that helps close it is welcome." Koscak says he's happy to see the OSC taking its time in the consultation process. "I'd rather we were slow and get it right than rush and get it wrong," he says. "Internationally, if we don't do this, others will." LT Get fast and easy access to l t yo ble to y u s and itt's availa a day. 24 hours Canada's legal professionals! Canada's most comprehensive online directory of legal professionals gives you a direct route to the information you need. departments location and area of practice Visit www.CanadianLawList.com and find out how we're serving you better than ever. compiled by top Canadian legal researchers Untitled-1 1 www.lawtimesnews.com 13-01-03 9:02 AM

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