Regulation - We take it very seriously
There are currently three types of crowdfunding models in the UK each with its own regulatory environment, The Equity Model, the Lending Model and the Donations or Rewards Model, each distinguishable by the return that the funder receives. The following describes each type however the ESE only make use of the Equity Model.
The Equity Model: Individuals make investments in return for a share in the profits or revenue generated by the company/project
In the UK, the financial services regulatory regimes for corporate finance, business and investment funds both tend to shape the structure of Equity-based Crowdfunding platforms. However, as both regimes generally only cater for professional investors, it appears likely that a new regulatory regime will be specifically designed for Equity Crowdfunding (separately from the proposals to create a regime for the Lending Model discussed below). At present some platform operators make use of exemptions from the regulatory regime, whilst others have obtained authorisation from the UK's competent authority, the Financial Conduct Authority ("FCA") (or its predecessor, the Financial Services Authority ("FSA")). A more consistent approach is likely to emerge as the FCA and the UK Government develop a regulatory strategy.
The Lending Model: individuals lend money to a company or project in return for repayment of the loan and interest on their investment.
The making of non-consumer loans has not, to date, been treated as a regulated activity (because loans are not typically regarded as "transferable securities") and so the Crowdfunding Lending Model has developed quickly as an alternative to bank lending. However, the UK Government has published its proposal to make peer-to-peer lending a regulated activity with effect from April 2014.
The Donations or Rewards Model: Individuals provide money to a company or project for benevolent reasons or for a non-monetary reward.
The Donations or Rewards Model does not involve any form of financial investment or return and so it falls outside the scope of UK financial services regulation (although this too is under review). Crowdfunding originated from Donations or Rewards-based platforms, where the interest of participants was to help a worthy or interesting cause for the sake of being associated with it, rather than to profit financially. As the most established model, it is also the most popular, with platforms such as US-originated "Kickstarter" being the market leader. The idea of combining worthy causes with financial returns led to the development of the Equity and Lending Models, which are the focal points of several deep-pocketed institutions already operating in the financial services industry.
Current Regulation of Crowdfunding platforms in UK
Licence/approval requirements for Equity Platforms
The offer of shares, depositary receipts or other securities will generally constitute a financial promotion, namely an invitation or inducement to engage in investment activity. A financial promotion cannot be made to a retail investment audience unless the promotion is communicated or approved by a firm authorised by the FCA or it benefits from an exemption from the financial promotion regime.
A great amount of most Crowdfunding websites' contents will comprise an element of financial promotion. Accordingly, either the operator will need to be FCA-authorised or the operator of the platform will need to ensure that an FCA-authorised firm approves the financial promotion, unless it complies with the exceptions below.
Where an exemption is not available, the contents of the website's financial promotions need to comply with the requirements of Chapter 4 of the FCA's Conduct of Business Sourcebook to ensure that they are clear, fair and not misleading.
The approval of financial promotions entails costs and administrative burden. Accordingly, it is common for operators to engage an FCA-authorised firm to approve initial investor communications and procure that the promotion of specific investment opportunities fall within one of the two exemptions highlighted below:
Existing shareholders - the platform creates a shareholder relationship with all funding subscribers and a parent/subsidiary relationship with fund-seeking subscribers; and/or
Sophisticated, high net worth and professional investors - ESE's platform assesses the investment sophistication of subscribers or requires the subscriber to certify their own net worth or investment experience.
ESE therefore relies upon the exemption above. All funding is direct between the company (issuer) and the Investor, ESE does not charge any fees in relation to the funding amount and does not give any advice in any capacity on any part of the process apart from our own safeguards to ensure investors and companies are fully aware of all the relevant factors.
Under no circumstances does ESE allow Investing in a collective investment scheme, which is subject to a more restrictive financial promotion regime. For this reason, ESE takes all necessary steps to ensure that the investment does not constitute a collective investment scheme.