Since its modern-day inception in 2003, crowdfunding has played an ever-increasing role in the overall financing strategy of early stage business ventures, allowing entrepreneurs to raise money from a large number of people, each contributing a relatively small amount in return for a reward.
Until recently, securities regulations in Canada made it impractical for entrepreneurs to issue shares to (or loan money from) crowdfunding contributors. These restrictive securities regulations had negative implications for entrepreneurs and contributors alike. First, entrepreneurs hoping to attract crowdfunding contributions could not offer the enticing prospect of ownership in the venture as a reward for contributions (i.e. "Would you like to own the App of the future or would you like to own a part of the company developing the App of the future?"). Second, contributors who were being asked to take on risk similar to that of an early stage investor, could not share in the financial success of the venture, and generally had to settle for a conditional promise of a potential future first-generation product which might never materialize.
In May of 2015, in an attempt to address the aforementioned problems, the securities regulators in British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick and Nova Scotia created an equity crowdfunding exemption to securities regulations.
The new equity crowdfunding exemption applies if the venture:
- makes an offer to sell its own securities (which can include a common share, a non-convertible preference share, a security convertible into the foregoing, a non-convertible debt security and/or a unit of a limited partnership);
- does not accept more than $1,500, per contributor, per equity crowdfund round;
- raises no more than $250,000, per equity crowdfund round;
- does no more than two equity crowdfund rounds per calendar year;
- completes the crowdfund through a funding portal that facilitates online equity crowdfunding contributions and which complies with the exemption from the dealer registration requirement for funding portals;
- provides an offering document to contributors on the funding portal's website;
- discloses (in the offering document), how the venture intends to use the contributions and the minimum contributions the venture will accept before issuing any securities;
- raises the minimum contributions stipulated in the offering document;
- completes the crowdfund within 90 days of displaying the offering document;
- immediately amends the offering document if it contains untrue statements;
- provides the contributor with the right to withdraw a contribution within 48 hours of making a contribution or being notified of an offering document amendment;
- is not a reporting issuer or investment fund;
- has its head office in British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick or Nova Scotia;
- the affiliates of the venture and their respective employees do not receive a commission or fee relating to the equity crowdfund;
- does not have a principal who is also a principal of the funding portal;
- affiliates do not participate in other similar concurrent equity crowdfunding rounds; and
- provides the prescribed information to contributors at the close of the equity crowdfund.
The equity crowdfunding exemption presents a significant new opportunity for companies to attract financing from a large pool of contributors in certain Canadian provinces. It is however important to note that the use of this funding mechanism could have significant corporate and securities law ramifications for a company going forward, including increased administrative costs and the loss of benefits associated with the private issuer exemption. Furthermore, it is important for companies to ensure that they strictly comply with equity crowdfunding requirements in order to avoid being sanctioned by the relevant securities commissions.
Companies considering raising money through this method should speak with legal counsel about the mechanics and legal implications of equity crowdfunding. If engaged early in the process, a company's legal advisor can employ share structuring, shareholder rights and/or voting trusts to facilitate current and future crowdfunding rounds and to significantly reduce the administrative costs associated with having completed a round of equity crowdfunding.
The authors Keith E. Spencer and Zelius Kleefstra are technology lawyers at Fasken Martineau DuMoulin LLP, a law firm in downtown Vancouver. The content of this article has been oversimplified and you should not rely thereon for any purpose without having obtained competent legal advice in relation to your specific individual circumstances.