Crowdfunding – being welcomed to India

Crowdfunding is a novel way of raising funds, usually in small amounts from multiple investors through a web-based platform or social networking site for a specific project, business venture or a social cause. This mechanism is also used to raise monies for creative projects, such as, music, film, book publication, etc. Crowdfunding is also becoming a powerful tool for funding benevolent or public-interest causes, such as education for children in the rural areas. Milap [www.milap.org] is one such website which provides a platform in connecting hundreds of hardworking borrowers looking to start a small business or pay for their child(ren)’s education or install better facilities in their households. Unlike angel investment, where one person typically takes a larger stake in a small business, a crowd-funded project attracts small investments from a large number of investors..Currently there are no specific laws or body which monitors Crowdfunding activities in India. Securities Exchange Board of India (“SEBI”), being India’s capital market regulator, which was formed with the intent of protecting the interest of investors, has on 17.06.2014, released a 66 page detailed concept paper (“Concept Paper”) on Crowdfunding. By the proposed regulation, SEBI aims to enable small issuers to raise funds and facilitate investors in taking an informed decision. By the proposed regulation SEBI also aims to regulate and supervise the Crowdfunding mechanism of raising monies and ensure that the funds raised are deployed for the intent raised..Once the Concept Paper takes the shape of a regulation, then any online offering or issue of equity through the internet would be made only through a SEBI recognized Crowdfunding platform..Whilst, Crowdfunding is relatively a new concept in India, it is prevalent in other parts of the world, like in the United States, United Kingdom, Canada, etc. Infact, many of the countries already have a regulation in place governing Crowdfunding. United States has enacted the Jumpstart Our Business Startups Act, 2012 or (JOBS Act), which has already proposed a basic regulatory framework to regulate Crowdfunding Platforms..As per MINT [April 8, 2012 publication], there have now been more than 10,000 Kickstarter projects funded, with more than $75 million pledged and a 44% success rate..As per IOSCO Staff Working Paper – Crowd-funding: An Infant Industry Growing Fast, 2014 (‘IOSCO Paper‘), which has been exhaustively relied upon in the Concept Paper, Crowdfunding is divided into four categories, viz..1. Lending / Donation Crowdfunding,.2. Reward Crowdfunding,.3. Peer to Peer Crowdfunding; and.4. Equity Crowdfunding..Donation Crowdfunding is used primarily for solicitation of funds for social or philanthropic purpose, wherein the investor or the contributor does not get any benefit in return. For example, funds being raised to support a child’s education..In Reward Crowd Funding the contributor receives some existing or future tangible reward (such as an existing or future consumer product or a membership rewards scheme) as consideration..In Peer-to-Peer lending, an online platform matches lenders/investors with borrowers/issuers in order to provide unsecured loans and the interest rate is set by the platform..In Equity Based Crowdfunding, as the name suggest, in consideration of funds solicited from investors, equity shares of the company will be issued..The Concept Paper also recognizes another mechanism of Crowdfunding, which is sort of a sub class of equity based funding, i.e. Fund based Crowdfunding. Fund based Crowdfunding is similar to mutual fund. The Concept Paper defines Fund Based Crowdfunding as “Under this route, the funds of the accredited investors registered with a recognized platform will be collected online through the platform and pooled under the AIF to invest in shares or debt securities in crowdfunded ventures which are displayed on a recognized crowdfunding platform.”.SEBI’s role would primarily be in governing and promoting Equity and Fund Based Crowdfunding, as it involves issuance of equity or equity linked instruments..(This Article focuses more on Equity and Fund Based Crowdfunding).Concept Paper’s Proposals.It is proposed to permit only ‘Accredited Investors’ to participate in Crowdfunding. Accredited Investors as defined by the Concept Paper include: Qualified Institutional Buyers (“QIBs”); Companies incorporated under the Companies Act of India, with a minimum net worth of Rs. 20 Crore; High Net Worth Individuals (“HNIs”) with a minimum net worth of Rs. 2 Crores or more; and Eligible Retail Investors (“ERIs”) as defined in the Concept Paper. ERI includes those persons who, inter alia, have knowledge and experience about investments or are advised by professionals.The Concept Paper proposes a minimum requirement of 5% of the securities issued to be held by QIBs. Further, as far as individuals are concerned, it is proposed that the maximum investment by an ERI in an issue should not exceed Rs. 60,000. The total of all investments in Crowdfunding for an eligible retail investor in a year should not exceed 10% of its net worth.A company can raise capital through Crowdfunding only upto Rs. 10 Crores in a period of 12 months.Only a company which is not more than 48 months old can raise funds through Crowdfunding mechanism.SEBI proposes to have three classes of Crowdfunding platforms. Class I would comprise of Recognized Stock Exchanges and SEBI registered Depositories. Class II would include Technology Based Incubators, i.e. promoted by Central Government or any State Government through bodies such as NSTEDB (National Science & Technology Entrepreneurship Development Board) under Department of Science & Technology. Interesting a joint venture of a Class I entity and a Class II entity is also acceptable for setting up a Crowdfunding Platform. Class III would include associations and networks of private equity (PE) or Angel Investors.SEBI also proposes setting up a Screening Committee, which shall screen Crowdfunding platform before recognizing them.In the case of equity based Crowdfunding, no single investor shall be entitled to hold more than 25% stake in a company. Further, the promoter(s) are required to maintain a minimum of 5% equity stake in the company for at least 3 years. Furthermore, equity based Crowdfunding would primarily be governed by the Companies Act and will be required to follow and comply with the requirements of private placement..Advantages of Crowdfunding.Being a SEBI regulated platform, it will provide a level playing field for the have and have not to connect on a quid pro quo basis. The proposed regulation will provide a framework, within which the machinery of Crowdfunding, especially Equity and Fund based Crowdfunding would function, leading to a transparent and an effective system.There is minimal risk for the investors as the quantum of investment is less.Since the nature of funding is such that several investors contributes small sum of monies, the risk is broadly distributed, thus minimizing the risk of investors.Provides one more avenue for investors to invest their monies into.It’s ideal for small and medium entrepreneurs, as they do not have to go through the tedious and cumbersome process of raising funds, such as, issuing of offer document. Having said that, equity and fund based Crowdfunding may have to comply with the applicable laws prescribed by the Companies Act and the SEBI regulations.Since one of the greatest advantages of internet is its reach, consequently, Crowdfunding would have greater and farther reach as compared to the existing means of fundraising..Issues to be addressed.Strict and stringent provisions to be provided for disclosures to be made by the investee. The current draft of the Concept Paper proposes a ‘disclosure based regime’. The Concept Paper proposes disclosure at the time when the issuer approaches the Crowdfunding platform as well as on an ongoing basis. Complete and correct disclosures by the investee company are incumbent, in order for the investor to take an informed decision.How and when can the investor sell its contribution in the investee company, especially in equity and fund based Crowdfunding. The Concept Paper does currently provide three modes in which the investor can sell / transfer its investment, viz. buy back or to another accredited investor registered with the platform or to a family member or relative or friend of the accredited investor or the equivalent. However, what needs to be considered is a relatively new and a small company may not have the necessary funds to buy back its shares. Further, it is very important that proper channels and procedures are set out for sale of shares by Accredited Investors, for making Crowdfunding attractive for investors.Most importantly, setting up secure platforms (in terms of technicalities and legalities) through which investors would invest monies and investee would raise capital. As, a secure platform would provide confidence and comfort to investors and would also protect their interest..Conclusion .A regulated Crowdfunding platform is a positive step towards boosting the economy, because, if capital is made easily available to young entrepreneurs, it would give a fillip to entrepreneurship, which consequently will boost the economy..In India, Milap and Ingnite Intent are serving a purposeful platform in promoting Crowdfunding. On Milap’s website one can see efforts of funds being raised for a boy’s education whose parents cannot afford it due to their meagre income earned out of tailoring. The same website also sees funds being raised for a young woman in rural Karnataka to scale up her buffalo rearing business..On Ignite Intent’s website one sees a group of engineering students successful in raising monies for their science projects..In a country like India, where internet connectivity is far reaching, Crowdfunding, apart from boosting the general Indian economy, would also serve as a catalyst in uplifting the socio – economic conditions, as people (especially the young population) in rural India can easily raise capital for their ventures..The author Prachi Pandya is the founder of Corporate Attorneys, a firm specializing in capital market litigation. Michelle Pereira is an intern at Corporate Attorneys. They can be contacted at contact@corporateattorneys.in