Crowdfunding

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[author: Andrea Johnson]

The Canadian Advanced Technology Alliance (CATA) has just launched a new campaign in support of changing Canadian securities laws to permit crowdfunding. See the news release here.

Crowdfunding is the use of technology and social media to raise small amounts of money from large numbers of investors, usually on-line. It has already been effectively deployed in the not-for-profit sector. However, crowdfunding to finance a business is not permitted under Canada's existing securities laws. At the risk of over-simplifying, startups are generally only permitted to raise financing from 50 or fewer investors who have certain relationships with the principals of the company, or else from "accredited investors" (such as high net worth individuals or institutional investors). We describe the existing fundraising exemptions in our previous post "Are You Complying with Securities Laws?".

Crowdfunding does not fit within existing financing exemptions, since ideally a company using this model wants to raise funds from more than 50 investors, who may or may not have the requisite relationship (or any relationship) with the principals, and who may not be "accredited investors". CATA wants to see changes to existing Canadian securities laws that would allow Canadian startups to offer and sell securities through crowdfunding.

The U.S. Congress has recently introduced crowdfunding legislation, which has already been passed by the House of Representatives with very strong bipartisan support, but which will not become law until, among other things, a bill is passed by the U.S. Senate. CATA's campaign promotes similar changes in Canada, so that Canadian technology companies will have the same fundraising tools as U.S. startups would have upon enactment of the U.S legislation. Any proposed changes to Canadian securities law to permit crowdfunding will have to contain reasonable investor protection mechanisms in order to gain the support of provincial securities regulators. In the U.S., a vigorous debate over the means and extent of investor protection is evidenced in two crowdfunding bills that have been introduced in the U.S. Senate. The two Senate bills share some common principles with the House of Representatives bill, including:

• a requirement to warn investors of the risks associated with an investment via crowdfunding,
• limits on the amount that can be raised by the company through crowdfunding,
• limits on the amount an individual can invest in any company through crowdfunding, and
• restrictions on the resale of securities purchased through crowdfunding.

However, the three bills differ in many respects, including the actual amount that an individual will be permitted to invest and the amount that can be raised by the company. Also of note is that the House of Representatives bill is the only one of the three bills that would allow a startup to raise money through social networking sites like Facebook or Twitter; the Senate bills would require a company to use a third party intermediary to issue its securities to investors.

Canadian securities regulators will undoubtedly be influenced by the ongoing debate in the United States on what constitutes reasonable investor protection mechanisms in the crowdfunding arena.

Andrea Johnson is a partner in FMC's Ottawa office. Her practice focuses on corporate and securities law, with an emphasis on technology and emerging growth companies.