The Securities and Exchange Commission’s (SEC)
proposed rules on Crowdfunding have elicited different reactions from
stakeholders, it has rattled the cage of most businesses that leverage on the
internet to access credit to finance their business, businesses that create an
opportunity for other businesses to access credit on their platforms and
operators of financial portals.
There is no gainsaying that the initiative is
laudable and this is because of the three-way regulatory oversight and
protection which the SEC seeks to administer on the issuers, the investors and
the Crowdfunding Intermediary that operates the Crowdfunding Portal, where the
credits/funds are accessed.
The intendment of the proposed rules is to
solely cater to investment-based/equity crowdfunding thereby alienating other
forms of Crowdfunding, such as debt-based crowdfunding and donation-based
crowdfunding in Nigeria, from its control. However, this is not to say that
debt-based crowdfunding or donation-based crowdfunding are alien to our laws in
Nigeria, as Section 58 (1) of the Banks and other Financial Institutions Act
has put any form of debt-based crowdfunding under the purview of the Central
Bank of Nigeria, as it reads as follows;
- Without
prejudice to the provisions of Part I of this Act, no person shall carry
on other financial business in
Nigeria other than insurance and stockbroking except it is a company
duly incorporated in Nigeria and holds a valid license granted under
section 59 of this Act.
On the other hand, donation-based
crowdfunding which is a vehicle for philanthropic causes is spearheaded by
NGO’s registerable under the Companies and Allied Matters Act, as an
Incorporated Trustee.
The purpose of this article is to
essentially comb through some of the provisions of the Rules, put them through
a viable or non-viability test and then assist the fintech companies in making
informed decisions, as a result of this exposition.
AN
OVERVIEW OF THE RULES
Eligibility to Raise Funds
SEC, through these rules, has set
eligibility parameters for MSMEs (Medium, Small and Micro Enterprises) who seek
to raise funds to finance a project, business or venture on a Crowdfunding
portal, as it posited that any such MSME must present a minimum of two (2)
years’ operating track record to the Crowdfunding Intermediary before it can
utilize the Crowdfunding Portal. The rationale behind this parameter is not
far-fetched, as it ultimately seeks to sift through companies that might be set
up as shell companies for Ponzi schemes, in pursuance of its Anti-Money
Laundering and Combating the Financing of Terrorism (AML/CFT) outlook.
Nature
of the Investment Instruments issued on a Crowdfunding Portal by an Issuer
A point worthy of
deliberation in the Rules is the type of investment instruments that issuers, being
MSMEs and unlisted public companies, can offer to investors in exchange for
funds raised on the portal. The Rules specifies
which instruments are permissible and they are as follows-Ordinary shares, plain
vanilla bonds/debentures and simple investment contracts. However, the
confusion that is likely to arise from these investment instruments takes root
in the features of a private company limited by shares vis-à-vis a public
company limited by shares, as encapsulated in the Companies and Allied Matters
Act; To wit, Section 22 (5) of CAMA prevents
a private company from inviting the public to subscribe for any shares or
debentures of the company while a public company is authorized to issue shares
and other debt securities to the public.
The import of the foregoing is that
a private company limited by shares, cannot issue shares or other debt
securities on a Crowdfunding Portal, but can enter into a simple investment
contract between itself and the investors, insofar as the salient clauses
regulating the investment are properly constituted in the agreement. Investment
contracts are transactions whereby one or more parties, agree to invest or
shell out a specific amount of money, to a particular business or company, with
the expectation of getting returns from the income or profit generated by the
business or company, as and when due.
Certain Exemptions to the Provisions
of the Investment and Securities Act
The Rules also hint at a departure
from the requirement of registration of Securities under the provisions of Section
54 of the Investment and Securities Act, as it stipulates that an
issuer may offer or sell securities or other investment instruments, without
the need for prior registration pursuant to the Act, provided the issuer is an
entity incorporated in Nigeria and has been accredited/approved by the
Crowdfunding Portal to utilize its platform. Furthermore, it states that the
issuer will be exempted from registering its securities or other investment
instruments, if the aggregate amount of shares and investment instruments
offered and sold by the issuer within a twelve (12)-month period, complies with
the following thresholds-
- The
maximum amount that a Medium Enterprise may raise will not exceed N100
Million. - The
maximum amount that a Small Enterprise may raise will not exceed N70
Million. - The maximum amount that a Micro-Enterprise
may raise will not exceed N50 Million.
However, the above limits do not
apply to Digital Commodities Investment Platform which are companies who
leverage on an online electronic platform to offer agricultural produce,
livestock and its derivative products and all other goods and articles to
investors.
It is noteworthy to state that the
Commission in calculating the maximum amount of shares or investment
instruments offered and sold by an issuer, within the thresholds and time
limit, will take into account entities controlled by or under common control
with the issuer and any predecessors of the issuer. This means that the
Commission will take into account, any Holding Company and its subsidiaries,
any Group Company and its sister companies, as well as companies under new
management as a result of a merger or acquisition, in determining whether an
issuer is keeping or has kept with the conditions set in the Rules for the
utilization of any Crowdfunding Portal.
Crowdfunding Portal Requirement for
Portals located Outside Nigeria
The Rules also makes
provisions for a litmus test to determine when a person is said to be
operating, providing or maintaining a Crowdfunding Portal in Nigeria and the
main point of concern in this test, is the reference to platforms outside
Nigeria, that actively targets Nigerian Investors and mandating that such
platforms will be a crowdfunding portal in Nigeria. The reservation that this
brings to the fore, is the issue of choice of law with respect to an investor
who decides to invest in a platform outside Nigeria, knowing fully well that
the choice of law as evidenced in the terms of use of that platform, will be
the law of the jurisdiction of its area of operation and then proceeds to
submit to the jurisdiction, by subscribing to the services of that platform
outside Nigeria. The decision to make platforms outside Nigeria, that targets
Nigerian Investors, subject to the Rules of the Commission, will not be a
sustainable one because of the rule
of party autonomy—the power enjoyed by litigants to choose the law applicable
to their cross-border legal relationship.
Assuming without conceding that the
decision by the Commission through the Rules, to subject Crowdfunding Portals
outside Nigeria to its Rules is somehow sustained, its metrics for determining
active targeting through direct or indirect promotion of the Portal in Nigeria
fails to take into consideration online/social media marketing and its
borderless nature, which is the modus operandi of most businesses today. The
Rules only makes provision for direct or indirect promotion in Nigeria, which
connotes physicality. It is almost as if the Proposed Rules has refused to give
cognizance to the impetus of online/social media marketing/promotion in this
current day and age.
Registration Requirements for a Crowdfunding
Portal
According to the Rules, a
crowdfunding portal can only be registered and operated by a Crowdfunding
intermediary and the only entities that can be licensed as a Crowdfunding
Intermediary are Exchanges, Dealer, Broker, Broker/Dealer or Alternative
Trading Facility as prescribed under the Act and the SEC Rules and Regulations.
The Rules also permits a category
for a Restricted Dealer, which caters for Dealers who are registered by the
Commission for crowdfunding activities simpliciter.
Furthermore, certain persons do not
fall under the microscope of the Commission with respect to these rules on
Crowdfunding and they are as follows;
- A
technology service provider who merely builds an infrastructure, software
or system for an operator, being a Crowdfunding Intermediary. This
encompasses tech companies who build solutions to enable Crowdfunding
Intermediaries leverage on technology to reach a wider audience. - An
operator of a Communication Infrastructure that merely routes an order to
an approved stock market. - An
operator of a financial portal that merely aggregates content and provides
links to financial sites of service and information provider. This
category covers fintech companies that serve as a digital investment
marketplace, that connects investors to investment opportunities offered
by Broker/Dealers, who are either a Crowdfunding Intermediary or a
Restricted Dealer.
The Rules also prescribe the minimum
paid-up capital of N100 million for any entity interested in being Crowdfunding
Intermediaries, as well as a Restricted Dealer. Additionally, the Commission
requires such other requirements to satisfy itself that either the Chief
Executive Officer of the Crowdfunding Intermediary, its board of directors or
any of its officers are not unfit to operate the Crowdfunding portal, by reason
of being adjudged dishonest or fraudulent by a Court or other Self-Regulatory
Organization in the Nigerian capital market; among many other requirements.
Operation
of a Crowdfunding Portal
The Commission empowers the
Operators of a Crowdfunding Portal, through the Rules, to take appropriate
actions against any person in breach, either the issuer or any investor, by
directing that such person takes the appropriate remedial measures as the
circumstances require. The measures may include but not limited to suspension
or expulsion of such persons after consultation with the Commission. The rules
also provide for an avenue whereby such expelled or suspended persons may
appeal against the decision of the operator to the Commission. This provision
is especially important to ensure that issuers, who misrepresent facts or
information in their offering documents, upon filing with the portal, are
penalized.
Revocation
of Registration
To ensure that no
crowdfunding portal is redundant, the Rules have
set a six (6) months period of inactivity, which will necessitate a revocation
of the registration of any Crowdfunding Portal. Also, the Commission can revoke
the Registration of any Crowdfunding portal on the occasion of non-payment of
prescribed fees, failure to meet any requirements prescribed by the Rules or
where the intermediary contravenes any of the provisions of the Act, the rules
and regulations and the code of conduct for capital market operators.
Operation
of a Trust Account
The Rules specifies that every
crowdfunding portal shall appoint a custodian, who shall establish and maintain
a separate trust account for each funding round on the portal, with a financial
institution registered by the Commission as a Custodian. This presupposes the
existence of a trust deed on the portal, which would essentially simplify how
the funds invested will be disbursed to the issuer and the rights of the trust
beneficiaries (being the investors) to the trust property (being the monies
invested).
Participation
of the Issuer on the Crowdfunding Portal
All issuers seeking to raise funds
on the portal are expected to file a standardized offering document with the
Crowdfunding portal and it will essentially include details relating to the
issuer, such as the use of the proceeds, the issuers business plan, the project
or business to be funded, the minimum amount required, the target amount and
such other salient information about the investment opportunity the issuer is
offering on the portal.
Every issuer shall have its funding
offer live on crowdfunding portal for not more than sixty (60) days which means
at the end of the sixty (60) days, if the issuer does not raise the minimum
amount it requires, it will be required to withdraw the offer and wait until
after ninety (90) days from the date of such withdrawal to list a new offer.
However, in the event that the
amount raised meets the minimum amount required by the issuer but not the
target amount, the issuer will be required to present to the portal and the
investors, a revised business plan, which will show how it intends to maximize
the use of the amount raised, though falling short of its target, without
negatively impacting operations of the issuer.
Participation
of the Investor
The Rules provide investors with a
forty-eight (48) hours cooling off period to withdraw their investments on a
Crowdfunding portal, from the date of close of an offer from an issuer. Any
amount which must have been debited to the account of the investor prior to the
withdrawal shall be refunded to the investor within forty-eight (48) hours of
such withdrawal date.
Non-permitted Issuers
There are certain entities
that are prohibited from raising funds through a Crowdfunding Portal and they
are as follows;
a.
Complex
structures-These are companies with no immediate transparency of the beneficial
owners of the company.
b.
Public
listed companies and their subsidiaries- These are companies whose securities
are listed and trading on the floor of the Nigerian Stock Exchange.
c.
Companies
with no specific business plan or a blind pool- These are companies with
business plans which are solely for merging with or acquiring unidentified
entities.
d.
Companies
that propose to use the funds raised to provide loans or invest in other
entities;
e.
Such
other entity as may be specified by the Commission.
Requirements for Digital Commodities
Investment Platforms (DCIP)
According to the Rules, a DCIP is a
platform that connects investors to specific agricultural or commodities
projects, for the purpose of sponsoring such projects in exchange for a return.
The provisions of Rules 43 (a) of
the Proposed Rules, reveals that such agritech companies shall be permitted to
provide crowdfunding portal services but then Rules 43 (d) contradicts with the provision, namely; DCIP shall
only host commodities investment projects on crowdfunding platforms other than
a platform which it controls whether directly or indirectly. The Commission
with this contradiction is seen to be approbating and reprobating because if it
says they are permitted to render crowdfunding portal services, why then is it
saying they can only host their projects on other crowdfunding platforms that
they do not control, in another breath. This contradiction needs to be resolved
by the Commission.
The
Way forward for Fintech Companies in view of these Rules
It appears from the Rules that
Fintech Companies have only two alternatives open to them;
- They can
aggregate content from certified Crowdfunding Intermediaries and provide
links to their portals on their websites, application or other similar
modules, thereby making themselves out to simply provide a digital
investment marketplace that connects investors to curated offerings of
certain Crowdfunding Intermediaries
- Register a
cooperative society under the Cooperative Societies Law of their
respective states. For instance, the Lagos State Cooperative Federation
under the Cooperative Societies Law of Lagos State 2014 makes provisions
for a Cooperative Multipurpose Society (CMS). The CMS is a cooperative
society that goes beyond just encouraging savings and giving out loans to
members, it can buy and sell goods, venture into businesses and service
members and non-members. The Director of the Cooperative Society is saddled
with the responsibility of ensuring that all cooperative societies run
their operations in accordance with the cooperative principles, which
means the SEC does not regulate the activities of the Cooperative Society.
Suffice to say, that the overall outlook
of the SEC Rules on Crowdfunding is to give adequate protection to investors
who wish to take part in the Crowdfunding Market, as it ensures that the
investors have access to clear information on any investment vehicle offered by
an issuer. This allows them to assess the risk and make informed decisions
based on the information at their disposal.
Furthermore, the Rule also enjoins
the Crowdfunding Portals to have risks disclosures on their portals as a result
of the volatility of the Nigerian financial market, whilst ensuring that they
operate an orderly, fair and transparent market activity on their platforms.
The feature of MSME’s in the Rules
shows that there is now a recognition of the pivotal role they play in our
economy, as they are the bedrock of Nigeria’s industrialization and inclusive
economic development, as once described by the Vice President, Prof. Yemi
Osinbajo. The import of their inclusion guarantees their access to much-needed
capital which would foster productivity and boost innovation whilst allowing
the economy to tap into the entrepreneurial prowess of our youthful population.
Sadly, the tenor of the rules
foretells the exclusion of many fintech companies’ and this means that they
either merge with companies with the requisite wherewithal or they reinvent
themselves. The Commission has created a centralized community which would
largely be filled with major players in the finance industry who have the
required capital base to run a crowdfunding portal. They have failed to appreciate
the ingenuity reposed in the fintech companies and their ability to foster
financial inclusion through their people-centric business model.