Photo Credit: reidhoffman.org
Technology startups are finding it a tad easier to get funded with the many sources of funding and the fact that VCs are more active than before. We are also witnessing that the valuations are improving too. Apart from the usual non-traditional sources, friends & family, angels, angel networks, accelerators and seed funds, India is now witnessing the raise of crowd-funding platforms. Raising of pooled managed investment funds has always been a regulated area. SEBI in June 2014, released a consultation paper (“Paper”) which seeks to regulate crowd-funding, which is not pool managed, but the investor directly invests into the startup.
Here’s a short critique:
The Paper defines (sort of) Crowdfunding as ‘solicitation of funds from multiple investors through a web-based platform or social networking site for a specific project, business venture or social cause.’ Perhaps, the traditional angel networks (which are not web-based) can breathe a bit easy? Well, it is yet to be seen. There are other legislations, including Companies Act 2013, which details lengthy procedures for raising investments. Read private placement and sweat equity. Who can set up a Crowdfunding Platform? Class I Entities:
- Recognized Stock Exchanges with nationwide terminal presence (RSEs)
- SEBI registered Depositories
Class II Entities: Technology Business Incubators (TBIs)
- Promoted by Central or State Government through bodies such as NSTEDB (National Science & Technology Entrepreneurship Development Board) under Department of Science & Technology
- Functioning as a registered society or a non-profit company (section 8),
- Having at least 5 years of experience,
- Having a minimum net worth of Rs. 10 crores
Class III Entities:
- Associations and Networks of PE or Angel Investors
- With a track record of a minimum of 3 years
- With a minimum member strength of 100 active members from the relevant industry
- Which are registered as Section 8 companies under Companies Act 2013 with a paid up share capital of Rs. 2 Crores
We believe that the regulator should re-examine the intent to promote crowdfunding as not-for-profit activity. Who can invest? The Accredited Investors, who is:
- Qualified Institutional Buyers (QIBs) as defined in SEBI (Issue of Capital and Disclosure Requirements) regulations, 2009.
- Companies incorporated under the Companies Act, 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 (excluding the value of the primary residence or any loan secured on such property), and
- Eligible Retail Investors:
- who receive investment advice from an Investment Adviser, or portfolio manager or
- who have passed an Appropriateness Test (may be conducted by an institution accredited by NISM or the crowdfunding platforms)
- who have a minimum annual gross income of Rs. 10 Lacs, filed Income Tax return for at least last 3 financial years
- who certify that they will not invest more than Rs. 60,000 in an issue through crowdfunding platform,
- who certify that they will not invest more than 10% of their net worth through crowdfunding. (Net worth excludes the value of the primary residence or any loan secured on such property)
From a plain reading of the consultation paper, it appears that it is a self-certification method, with the burden of proof of accreditation imposed on the investor. Who can be the investee company and how much can it raise?
- A company intending to raise capital not exceeding Rs.10 crores in a period of 12 months,
- Not promoted, sponsored or related to an industrial group which has a turnover in excess of Rs. 25 crores or has an established business,
- Not listed on any exchange and not more than 48 months old,
- A company which proposes to engage in non-financing ventures or real estate activities is not permitted.
There are obligations expected of the investee company.
- In a given period of 12 months, the company shall not use multiple crowdfunding platforms to raise funds.
- Company shall not directly or indirectly advertise their offering to public in general or solicit investments from the public.
- Company shall compulsorily route all crowdfunding issues through a SEBI recognized Crowdfunding Platform.
- Company shall not directly or indirectly incentivize or compensate any person to promote its offering.
- Company shall provide provisions for oversubscription. This may include maximum oversubscription amount to be retained, which should not exceed 25% of the actual issue size; intended usage of the oversubscribed amount. The total amount retained. including the actual issue size and oversubscription, shall not exceed the limit of Rs. 10 Crores
- The Company is also required to make certain disclosure through the “private placement offer letter” and on an ongoing basis documents such as audited financial statements, a detailed view of the current state of business, penalty, pending litigations etc.
If the platform should not receive any compensation for helping the company raise investments, then sustaining the platform will be a challenge. The retail investors should be provided all opportunities to understand the inherent risks involved in investing in start-ups, illiquid nature of the securities and a possibility of losing the entire investment. At the same time, it is also important that there are no systemic risks. But, it is equally important the regulations proposed should enable platforms to operate and the start-ups getting invested. Shot not yet ready! Take 2…