CROWDFUNDING IN THE PERSPECTIVE OF COMPANIES ACT 1965


Abstract

Seen as an alternative to the conventional financing from the like of Banks and financial institutions, crowdfunding is said to have level the playing field between the big corporations and the small medium companies. Crowdfunding is a favourite funder for start up companies especially for social entrepreneurs. The funding of this nature has been accelerated by the advent of the internet. Meaning, a company may reach for potential investors from all around the world. Realizing the potentials, more and more companies are using crowdfunding as a source of their capital. The advent of the crowdfunding activities requires the authority to intervene to ensure both the investors and the issuers are protected. Moreover, the legal intervention is to build trust and confidence among the industry players. The Securities Commission (“the SC”) had issued Guidelines on Regulation of Markets under Section 34 of the Capital Markets and services Act 2007 (“CMSA”) dated 10th February 2015 (“the Regulations”). Malaysia is the first country in Southeast Asia to regulate equity crowdfinding platforms. While we welcome any legal intervention to regulate this nascent industry, we must ensure that the legal intervention does not stifle the growth of the industry. The legal intervention also must not contradict the existing laws especially the provisions of the Companies Act 1965 (“CA1965”). The objective of this article is to examine whether the provisions of the Regulations are in harmony with the CA 1965.

Backgrounds.

Crowdfunding is on of the way for a company, usually a start up companies, to raise capital for a project from the public. The exercise of raising capital via crowdfunding is usually done through the internet. In other jurisdictions, crowdfunding can be used to fund social entrepreneur business, or a one off social activities like providing vaccines or building a damn for irrigation project for impoverished people.

In general, there are two types of crowdfunding:

1  1. Rewards : investors will contribute the funds to the company but the investors will not have a share/ equity in the company.
2  2. Equity : investors will contribute the funds to the company in return for shares/ equity in the company.


Recently, more and more small medium companies are raising their capital through crowdfunding.

Why?

In the eyes of conventional banks, small medium/ start up companies may not have the financial muscle like the big corporations and granting of loan to these companies seems to be a risk. Small companies find it difficult to obtain loan from the conventional banks. Even if they can obtain a loan, the process will take forever, and the companies have to give collaterals to secure the loans. These companies might end up burdened by loans increasing their gearing ratio.

The crowdfunding exercise also serves as marketing campaign. Crowdfunding are done through the internet. A company may create a buzz in social media, which generate hype to attract the public to invest in the company. Indirectly, this media hype creating public awareness to your brand and company.


The Regulations

The Regulations recognized the players of this nascent industry. The industry players can be the Equity Crowd Funding Operator (“ECF operator”) and the Issuer means a person who is hosted on an ECF Platform to offer its shares on the ECF platform. Meaning, in return for funds from investors, the Issuer will offer its shares to the investors.

Paragraph 11.13 of the Regulations stated that the locally incorporated companies (excluding exempt private company) would be allowed to raise funds through the Registered Electronic Facility (REF).  In Malaysia, there are six companies had been given approval to operate the crowdfunding platform.

Paragraph 11.14 (b) of the Regulations also stated public companies is prohibited from participating in the crowdfunding. Further, paragraph 11.14 (e) also prohibits companies with paid up capital exceeding RM5 million from raising funds through the ECF platform.

Reading these provisions of the Regulations, we may gather that the regulators intended that crowdfunding is meant for small companies to raise funds; leveling the playing ground to compete with big corporations.


Comparison with CA 1965

The repercussion of paragraph 11.13 of the regulation is that all exempt private company will be excluded from raising fund through crowd funding. Section 4 of the CA 1965 defines Exempt private company as:

A private company in the shares of which no beneficial interest is held directly or indirectly by any corporation and which has not more than twenty members [none of whom is a corporation;]

The underlying requirement in paragraph 11.13 is a company must be more than twenty members and one or more members of the company are a corporation. Arguably, companies with these requirements are relatively big companies. Paragraph 11.13 of the Regulations inadvertently excludes small companies from the Regulations; deviating from the actual intention of crowdfunding.

Apart from the restrictive requirement on type of companies that can use the ECF platform, there is a concern that the Regulations may contradict section 15 of the CA 1965. We already established that the combine effect of paragraph 11.13 and 11.14 is only private company can raise funds through the ECF platform. I would like to point out section 15 of the CA 1965 below.
  
15. Private Company

(1)  A company having a share capital may be incorporated as a private company if its memorandum or articles –

(a)  restricts the right to transfer its shares;
(b)  limits to not more that fifty the number of its members (counting joint holders of shares as one person and not counting any person in the employment of the company or of its subsidiary or any person who while previously in the employment of the company or of its subsidiary was and thereafter has continued to be a member of the company);
(c)  Prohibits any invitation to the public to subscribe for any shares in or debenture of the company; and
(d)  Prohibits any invitation to the public to deposit money with the company for fixed periods or payable at call, whether bearing or not veering interest.

First, section 15(1)(b) limits its member to fifty. Hence, this restriction effectively restricts the number of investors that may invest in the company through ECF platform. Let say a company want to raise RM3 million, the company must ensure that the number of investors that invest in the company plus the existing members of the company does not exceed fifty. At the same time the company need to meet the objective of raising RM3 million investments.

Secondly, if you look at section 15 (1)(c) of CA 1965, a private company cannot invite the public to subscribe shares of the company. How do these companies able to attract investors if the investors cannot have shares in the company in return for their investment? Surely this will make the offer less attractive to the potential investors.

Thirdly, section 15 (1)(d) prohibits invitation to the public to deposit money with the company. This section is the most damaging provision of all. Private companies cannot take deposits from the public. There is no clear provisions to say that the provision stated in the regulations is the exception to the section 15 of the CA 1965.

The question is now, is the Regulations override the prohibitions against private companies under the CA 1965?

The Way Forward

Perhaps the regulators may have to amend the criteria of companies that eligible to raise fund via ECF platform. The amendment is necessary to make sure that the small companies are not being left out. Failure to address this fundamental issue will push the target companies alone out from the crowd.

The regulators also have to take a second look at the clear contradictions between the Regulations and the CA 1965. An amendment to section 15 of the CA 1965 is inevitable to avoid any legal complications in the future.


It is pertinent that the introduction of new provisions in the regulations do not contradicts the existing provisions of the law especially the provisions in the CA 1965. The introduction of the Regulations is good for the small medium companies but we need to be very careful in crafting the legal framework of the crowdfunding in Malaysia.

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