0 Comments |  Financing a business |  PRINT | 

Crowdfunding pioneers hit back at ASIC

Wednesday, 15 August 2012 | By Patrick Stafford

The crowdfunding industry has spoken out against a statement made by the corporate regulator yesterday, which warned the operators of crowdfunding sites offering financial rewards to backers could be subject to fines or even imprisonment.


The industry veterans say the Australian Securities and Investments Commission is either missing an opportunity to back a corporate funding innovation or missing the point that most projects wouldn’t even come under this financial jurisdiction.


Critics also suggest ASIC is lagging global trends, as the United States has just introduced legislation that will allow crowdfunding projects to sell shares or stakes in the companies involved.


“This seems like just a bureaucratic response,” says Mick Liubinskas, who runs the Sydney incubator Pollenizer. The company has its own project available for backing on Pozible, the largest crowdfunding site in Australia.


“I think this is just another indication of an environment that is making it harder and harder to support start-ups.”


Adam Saraceno, the local head of marketing for American group Peak Design which successfully ran an $8 million Kickstarter campaign last year, added that “this seems to be a fundamental misconception of what crowdfunding actually is”.


Pozible co-founder Rick Chen told SmartCompany this morning Pozible spoke with ASIC before the statement was released, and confirmed it won’t have to change the way it does business – but warned offshore sites with local backers could be affected.


“It helped clear things up a bit. But we aren’t under the Corporations Act because we make it very clear that people get pre-sale benefits for funding projects rather than any sort of financial reward.


“We make it very obvious and I think iPledge, which is the other main crowdfunding site in Australia, does the same.”


The disconnect – most projects don’t offer financial rewards


The ASIC statement released yesterday was chiefly concerned with projects that offer financial rewards, or a stake in the company offering the project in question.


“Ventures funded by a crowdfunding site could be a managed investment scheme if funds contributed are pooled or used in a common enterprise to produce financial benefits or benefits consisting of interests in property for the contributors,” it said.


“Interests in a managed investment scheme are generally financial products and regulated under the Corporations Act.”


When asked for clarification, ASIC said while this mainly refers to a direct financial benefit, it could also include physical product.


“Benefits provided that may be considered financial in nature, which are not limited to monetary rewards, may mean the crowdfunding activity is considered a financial product or service. For example, if a contributor to a CD making project is rewarded a large number of CDs to sell for profit (rather than one copy as a token of gratitude) then this crowdfunding activity may be caught.”


But crowdfunding veterans say this approach misses the mark: most projects don’t offer those types of rewards.


“I’ve actually never heard of anyone offering a financial reward, so I’m not exactly sure what they’re referring to,” Adam Saraceno told SmartCompany this morning.


“My understanding of crowdfunding is that rewards received are somehow directly tied into the product or, at least, the piece of value that’s being created by the person raising the funding.”


“For us, it was the idea of bringing a new product to market, so the rewards system is entirely focused on the product itself.”


Offshores sites are still at risk of local laws


Because of its popularity as an alternative funding source, companies are taking the opportunity more seriously and are now offering financial stakes or shares through their crowdsourcing projects.


In the United States, the new JOBS Act has just made it legal for crowdsourcing sites to allow projects to sell shares. Although Kickstarter has already said it won’t do this, the company – and others – now, in theory, have that opportunity.


In Britain, Cloudcube already allows backers to be granted shares.


The opportunities here are enormous. Until now, only private equity veterans and cashed-up entrepreneurs have had the chance to invest in potentially lucrative start-ups. Now, millions of people have access to these projects.


Rick Chen says he wants laws to be changed that will allow companies to offer their own shares through crowdfunding campaigns.


“We won’t be changing anything in terms of how we do things, but we would like to see the legislation changed around investment through crowdfunding.”


“The US has changed it with the Jobs Act and I’d like to see the same thing here, so that you can use crowdfunding for investment.”


It’s a disappointing turn of events for these companies. And Chen says although his own company follows the law, the danger is that offshore sites do not comply.


“You can’t offer cash, shares or debt in crowdfunding and we vet every individual project to make sure this is the case. We work hard to comply, but the danger is that there are some offshore sites that do not vet projects in this way. They can offer financial rewards, so that is a bit of a risk.”


“ASIC can see that the crowdfunding industry is growing and they want us to understand the regulations about financial rewards for giving money to projects. At the meeting, they talked about how funds can’t be seen as investments and that it needs to be clear to users that they won’t be getting a financial return for what they pledge.”


ASIC says offshore companies may be subject to local laws “if there is evidence that they are specifically targeting Australian consumers”.


Mick Liubinskas rues ASIC’s statement as a missed opportunity.


“It’s just great to see the government stamping out yet another opportunity to back early stage innovations.”


“Applying old school logic to a new type of funding model”


To understand the way these “rewards” work, you need to understand how sites like Kickstarter allow businesses to raise money.


A company puts a project on Kickstarter that hasn’t actually been made – it’s just an idea, or a prototype. People then offer money to produce the project based on whether they like it or not.


Think of it as a type of market testing – only market testing that allows you to go into production.


To incentivise the backers, the project creators offer “rewards”. For example, if a backer spends more than $20, they get a pre-order of the product, or if they get $50, they’re listed as a co-creator, and so on.


But as Mick Liubinskas points out, these rewards are rarely finance-based and more often than not, only raise thousands of dollars.


There are obviously wildly successful projects. The Pebble Watch is often cited as a huge success with $10 million raised, and a games console most recently scored $8 million from backers. But the median funding is just $23,000.


“This is a fast, cheap way to test market sentiment,” says Liubinskas. “I think we could really tap into that culture if we made it more transparent, and had a system surrounding this.”


Adam Saraceno adds: “It’s applying old-school logic to a new type of funding model.”


It’s certainly a model that’s found rousing success for start-ups unable to find traditional backers but able to find a ready-made audience for their product. The Kickstarter project, the biggest name in the business, raised $119 million in its third year.


“Crowdsourcing is a very different idea and Australia needs someone with a different perspective to lead it,” Liubinskas says.


This story first appeared on SmartCompany.