Last week, the Australian Government implemented a powerful change in regulation for equity crowdfunding. These new changes now allow a majority of early stage companies to access crowd-sourced funding as an additional option for raising equity capital, promoting more startups to thrive and expand, as well as further Australia’s development as an innovation economy. Below we explain how and what to consider for equity crowdfunding. To discuss your capital raising strategy and how to leverage or prepare for crowd-sourced equity funding, contact Hatchstone Capital for further information.

 

Introduction of the crowd-sourced funding regime for public companies

On 28 September 2017, the new crowd-sourced funding (CSF) regime first commenced in Australia pursuant to the Corporations Amendment (Crowd-sourced Funding) Act 2017, allowing eligible companies to raise capital from retail investors via ‘equity crowdfunding’: an innovative type of fundraising, typically online, that allows a large number of individuals to make small financial contributions towards a company, in exchange for an equity stake in the company. The CSF regime provides a relatively more simple and streamlined approach for small companies raising equity capital from retail investors, compared to existing methods that require significant disclosure documents such as a prospectus.

Under the CSF regime:

• Eligible companies: public unlisted companies (excluding investment companies) with less than $25 million in consolidated assets and annual revenue that have their principal place of business and a majority of directors in Australia are eligible to participate in the CSF regime;
• Issuer cap: eligible companies can raise up to $5 million in any 12-month period, through the issue of new securities (currently only fully paid ordinary shares);
• Investor cap: retail investors have an investment cap of $10,000 per company in any 12-month period and a cooling-off period allowing them to withdraw from a CSF offer up to five days after making an application. A prescribed general risk warning statement must be provided in the CSF offer document and on the CSF intermediary’s platform. Retail investors must acknowledge that they have read and understood the warning before applying for shares. Advertising of CSF offers is permitted, subject to certain rules designed to direct investors to the general risk warning and CSF offer document for the offer;
• CSF offers: can only be made via a licensed CSF intermediary’s platform;
• CSF offer document: companies making CSF offers must prepare a CSF offer document that includes prescribed minimum information. There are consequences if the disclosure is defective;
• Public company concessions: companies making CSF offers that also meet certain eligibility criteria do not have to comply with certain reporting, audit and AGM obligations that would usually apply to public companies, for up to five years. The concessions cease to apply where a company no longer meets the eligibility requirements or does not complete a successful CSF offer within a 12-month period. The audit concession ceases in the above circumstances or when a company raises over $1 million through CSF offers (note: this threshold has since been increased to $3 million); and
• CSF intermediaries:
  • must hold an Australian financial services licence with an authorisation to provide a crowdfunding service;
  • performs checks on the offering company, its directors and the CSF offer document;
  • performs checks on investors, including assessing whether an investor is a retail client, and holds investor money on trust;
  • operates a platform for CSF offers; and
  • has an obligation to suspend or close a CSF offer in certain circumstances (e.g. where the CSF offer document is defective).

 

Extending the CSF regime to proprietary companies

The Australian Government has now passed the Corporations Amendment (Crowd-sourced Funding for Proprietary Companies) Bill 2017, which commences in October 2018 and extends the CSF regime to proprietary companies.

Under the extended CSF regime:

• Proprietary companies: proprietary companies that meet the eligibility requirements (as for public unlisted companies) will be able to access the CSF regime (previously only eligible public unlisted companies can access the CSF regime);
• Shareholder cap: to allow proprietary companies to effectively use the CSF regime, the existing shareholder cap which provides that a proprietary company cannot have more than 50 non-employee shareholders is being amended so that it also does not count shareholders:
  • who are CSF shareholders;
  • who own shares that were originally issued as part of a CSF offer by the company and the transfer to the shareholder occurred prior to the company’s shares being traded on a financial market in Australia or elsewhere unless the regulations provide otherwise; and
  • all other requirements prescribed in the regulations are met;
• Reporting: proprietary companies that have CSF shareholders will have to prepare annual financial and directors’ reports in accordance with accounting standards (previously small proprietary companies are generally not required to provide annual financial and directors’ reports unless directed);
• Audit: proprietary companies that raise $3 million or more from CSF offers will have to have their financial statements audited (previously small proprietary companies are generally not required to have their financial statements audited unless directed). The extended CSF regime also amended the audit requirement for public companies: eligible public companies that access CSF will now not be required to have their financial statements audited until they have raised $3 million or more from CSF (previously eligible public companies that access CSF are not required to have their financial statements audited until they have raised $1 million or more from CSF);
• Related party transactions: proprietary companies that have CSF shareholders will be subject to the related party transaction rules in Chapter 2E (previously proprietary companies are not subject to the related party transaction rules in Chapter 2E);
• Takeover rules: proprietary companies that have CSF shareholders will be exempt from the takeover rules in Chapter 6 (previously proprietary companies with more than 50 shareholders are subject to the takeovers rules in Chapter 6); and
• Shareholder register: proprietary companies that make a CSF offer will have to include details about the offer and the shareholders as part of their company register.

 

Considerations for companies raising capital

The CSF regime can be an efficient avenue for eligible early stage companies to raise capital from a larger retail investor audience, generally involving lower costs than would otherwise be applicable for raising capital from retail investors given the regulated disclosure requirements (such as raising capital under a prospectus).

Some considerations for choosing to raise capital using the CSF regime include:

• How attractive or suitable is the business for retail investors? Simple business models or businesses involving retail or consumer products tend to be more suitable for CSF. If executed well, CSF can also provide a good opportunity for large-scale marketing and brand exposure.
• What is the best way to position your company to retail investors? The CSF offer document is an important tool to communicate the vision and business plan of your company to investors. The CSF offer document must also be compliant with legal requirements under the CSF regime.
• What is the valuation of your company? As with any capital raise, the valuation and price of a CSF offer is one of the key drivers of success of a CSF campaign. The valuation should take into consideration the macro market environment and comparable companies as well as the individual performance and roadmap of the company itself.
• What is the best time to start a CSF campaign? Generally it is better to have secured one or more reputable cornerstone investors prior to launching a CSF campaign, as this provides external validation from an independent, experienced or sophisticated investor to support investment in the company.
• Is your company ready to manage a large investor base? Companies should be aware of additional administrative and compliance costs involved with introducing and managing CSF shareholders, such as reporting and audit requirements (noting that some exemptions may apply under the CSF regime).
• What are the implications on your company’s next and future rounds of fundraising? Too many individual shareholders may affect the company’s next round(s) of fundraising. At the same time, CSF may help increase the number of shareholders that a company needs to meet the minimum spread requirement if seeking to list on a securities exchange. It is important to consider cap table composition and the percentage of smaller retail investors that the company may want with reference to its broader capital raising strategy.

 

To discuss your capital raising strategy and how to leverage or prepare for crowd-sourced equity funding, contact Hatchstone Capital for further information.

 

About Hatchstone Capital

Hatchstone Capital is an Australian financial services licensed venture capital investment and advisory firm that can assist companies looking to raise capital using the CSF regime (including advising on capital raising strategy, preparing the CSF offer document and other transaction documentation). Our team has experience in successfully raising over $20 million for early stage technology businesses via equity crowdfunding models in Australia.

Sunny Yu, Hatchstone Capital’s Co-Founder and Managing Director, is a Senior Advisor and former CEO of VentureCrowd, one of Australia’s first equity crowdfunding platforms and licensed CSF intermediary.

Hatchstone Capital can also assist companies looking to apply for an Australian financial services licence with authorisation to provide a crowdfunding service. We have successfully helped businesses to obtain an Australian financial services licence, including with the authorisation to provide crowdfunding services, and to establish the relevant compliance and operational processes.

 

ASIC regulatory guides

Regulatory guides published by ASIC:

RG 261 Crowd-sourced funding: Guide for public companies

RG 262 Crowd-sourced funding: Guide for intermediaries