Crowdfunding Current Status and Proposed Changes High Tech Morning Fahn Kanne Grant Thornton Dr. Ayal Shenhav, Adv. Gal Hoffman, Adv.

1

June 24, 2014

Shenhav & Co., Advocates & Notary •Shenhav & Co. is a leading law firm specializing in hi-tech, commercial law, taxation and project finance. •The firm is consistently ranked by international legal guides (Chambers, Legal 500, BDI, Dun & Bradstreet) as one of the best teams in Israel in all of the firm’s practice areas. •Clients include Venture Capital Funds, Private Equity Funds, Start Up Companies, Multinational Companies, Government of Israel and Hi Net Worth Individuals.

2

June 24, 2014

Shenhav & Co., Advocates & Notary •Shenhav & Co. has special expertise in all aspects of crowdfunding: – Dr. Shenhav serves as the head of the Crowdfunding Committee of the Israeli Advanced Technology Industry (IATI), a member of the Crowdfunding Committee of the Israeli Bar Association and a member of the Israel Crowdfunding Association. – Represents several crowdfunding initiatives and platforms.

3

June 24, 2014

What is Crowdfunding? • Crowdfunding is a new and evolving method to raise money using the Internet. • Crowdfunding serves as an alternative source of capital to support a wide range of ideas and ventures.

• An entity or individual raising funds through crowdfunding typically seeks small individual contributions from a large number of people. 4

June 24, 2014

What is Crowdfunding (cont.)? • Individuals interested in the crowdfunding campaign – members of the “crowd” – may share information about the project, cause, idea or business with each other and use the information to decide whether or not to fund the campaign based on the collective “wisdom of the Crowd”. • A crowdfunding campaign generally has a specified target amount for funds to be raised, or goal, and an identified use of those funds. [Source: SEC website].

5

June 24, 2014

Four Main Models of Crowdfunding:

Equity-Based

Reward -Based

Loans

Charity

Reward Based Crowdfunding

• • •

•

Entrepreneurs post projects looking for funding on a crowdfunding portal. Target a certain funding goal. In return for donations, supporters typically receive some type of incentive. Examples: the actual product developed, meeting the artist, T-shirt etc. Websites: kickstarter.com, indiegogo.com, rockethub.com, mimoona.co.il, headstart.co.il. Kickstarter statistics by end of 2013:

• • • • •

People pledged $928 million to projects on Kickstarter. 54,233 projects have been funded successfully. 5.4 million people have backed projects. 1.58 million people have backed more than 1 project. 12.8 million total pledges have been made.

•

Debt Based Crowdfunding

•

Borrowers loan money from a pool of lenders.

•

Better interest rates for both lenders and borrowers (compared to traditional banks).

•

Loans are for personal and business purposes.

•

Websites: lendingclub.com, prosper.com, eloan.co.il.

Equity Based Crowdfunding

Equity-based crowdfunding slowly but steadily gaining momentum: •

US: JOBS ACT.

•

UK: Regulations of the Financial Conduct Authority (FCA).

•

Israel: Draft of proposed regulations was published by the Israeli Securities Authority on March 3, 2014.

US: JOBS ACT (Jumpstart Our Business Startups) • Enacted in April 2012. • Includes a crowdfunding section. • New rules proposed by SEC to implement the crowdfunding section of the JOBS ACT by end of 2013 . Public was asked to provide comments until February 3, 2014. No final rules published. • Principles: – Sale of securities by issuer of up to $1 million in 12 months. – Limit on investors’ investment: • Greater of 5% of annual income or $2,000, if net worth or annual income less than $100,000. • Lesser of $100,000 or 10% of annual income, if net worth or annual income greater than $100,000. – Must use “funding portal” registered with SEC. – Provides disclosure of risks.

JOBS ACT – cont. • Portal needs to take measures to reduce fraud. • Issuers need to file business plan and financial statements with SEC. • 12 months resale limitation. • In addition as part of the JOBS Act ban on general solicitation and advertising for certain private securities offerings was removed.

UK: FCA Regulations •

The Financial Conduct Authority (FCA) announced new rules effective as of April 1, 2014 that permit and regulate equity and peer-to-peer lending crowdfunding.

•

Principles: – Cap on investment of 10% of “net investible assets” for “inexperienced investors” - based on self declaration. • limitations shall not apply: – Clients who receive professional advise. – sophisticated investors and high net worth individual (based on self declaration).

– Platforms only allowed to approach potential investors who signed the required declarations and passed an exam.

UK: FCA Regulations (cont.) – – – –

Shares and bonds may be offered. Risks must be clearly communicated by platform. Investors funds must be kept separately by platform. Crowdfunding (equity and loan) platforms need to be authorized by the FCA. – Rules for peer-to-peer lending: • websites will be required to maintain adequate capital buffers. • Websites will need to report to FCA.

In Conclusion – the UK has extensive crowdfunding rulles in place!

Equity Based Crowdfunding: Current Status In Israel

• Any offer of shares to more than 35 offerees is considered an offer to the public and requires a prospectus. • Exceptions: •

• •

Private Placements - What is currently allowed under Israeli Securities Law 1968: • Company can offer securities to an unlimited number of “Accredited Investors” as listed in an appendix that include: • Certain institutional investors (Mutual Funds, Insurance Companies, Banks, VC Funds, Large Corporations etc.). • Qualified Customers: individuals which meet two of the following three criteria: • Financial assets of over NIS 12 million. • Have capital market expertise. • Performed at least 30 transactions per quarter, on average, in the past 4 quarters. Company can offer securities to Foreign investors. Company can publish an intent to sell its securities.

Equity Based Crowdfunding: Current Status in Israel

• Exception: raise up to NIS 2.6 million (but not more than 5% of outstanding capital of issuer per offering and 10% in all past offerings, and limited to 75 offerees in the aggregate). • Company can combine the various exemptions. • Several platforms offer “Crowdfunding” to accredited investors + limited number of other investors. • “Pure” Crowdfunding (i.e. offer to a large number of non – accredited investors) not yet available. • Possible to make a publication regarding the offer, and then make the offer to 35 offerees and unlimited number of accredited investors.

Distinction between OFFER and PUBLICATION

• No official guidelines have been published. • Ruling by the Israeli Securities Authority published on November 12, 2013: • The publication must not include detailed information about the offered securities, including their price. • The publication must not include an offer to the public to make offers to purchase the securities on terms determined by the investors. • The publication shall detail the process for selecting the offerees, including a selection process, negotiations etc. • After the publication phase, a separate process shall be held with potential investors to determine the terms of the offering.

• Each offer / publication has to be carefully reviewed and evaluated.

Keren Or Case

• Keren Or is a company involved in initiating and performing real estate projects (TAMA 38). • Keren Or raised NIS150 million from the public, including through an internet campaign promising a guaranteed return of 23% in 24 months. • In April 2014 Keren Or defaulted on its payments. • The Israeli Securities Authority recently ordered the company to halt its activities. • It seems that Keren Or violate Section 15 of the Securities Law by offering securities to public without a prospectus. • Increased scrutiny of public offerings is expected following the Keren Or case.

Equity Based Crowdfunding: Proposed Rules in Israel

• Interim Report of the Committee for the Promotion of Investments in R&D Public Companies was published on June 4, 2013 (the “Report”) and included a crowdfunding section. • A draft of proposed regulations for crowdfunding, based on the Report, was published by the Israeli Securities Authority on March 3, 2014. The public provided comments to the proposed draft until April 2, 2014. • Private Law Proposal: Securities Law (Social Funding for Businesses) 5772 – 2012. (Prof. Avishay Braverman)

Proposed Regulations Main Principles: • Issuer may raise up to NIS 2 million in 12 months in a crowd funding campaign.

• Each investor may invest up to NIS 20,000 in 12 months and up to NIS 10,000 in a single investment. • An individual with annual income over NIS 750,000 can invest up to 5% of his annual income, and up to NIS 15,000 in a single investment. • An individual with annual income over NIS 1,500,000 can invest up to NIS 20,000 in a single investment, with maximum annual investment equal to the higher of 5% of his annual income or NIS 100,000.

Principles: (cont.) • Only applicable to private Israeli companies.

• Only shares (not other securities) may be sold to the crowd. • Chief Scientist approval is required.

• “Lead Investor” participation is required for at least 10% of investment amount. Lead Investor is: • Individual who made 5 investment in R&D companies in 5 years or an Institutional investor. • Has no relationship with company other than being a shareholder prior to the investment and following the investment. • Tag along of crowd on sales of all shareholders at the time of offering to the crowd.

Principles: (cont.) • Organizer ("‫)"רכז‬- an active underwriter. Responsible for regulatory compliance. • Organizer has to approve any share transfer. • Organizer will hold funds in trust, until conditions of offering are met. • Organizer will manage the Shareholders Registrar. • Organizer is in addition to crowdfunding portal. • Most senior shares shall be sold to the public.

• Reporting Requirements: financial statements; board reports; business plan; ownership and management; offering details; use of proceeds; risk factors; controlling shareholders; related party transactions. After offering: same reporting obligations as a private Israeli company.

Comments re Proposed Israeli Legislation: • Overall a good start, but too restrictive. Israel should aim to be a world leader in crowdfunding. • Extensive Protection of Investors (compared to UK rules). • Most business activities are not allowed (only hitech companies can obtain OCS approval). • Lead investor Requirement is an issue – availability, liability, no “crowd wisdom”. Preventing relationship between lead investor and company – prevents the lead investor from being a director.

Concerns – cont. • Tag along – serious limitation on existing shareholders, complicated mechanism. • Costs  

significant reporting requirements lead to high associated costs compared to funding. Cost of portal and organizer (liability on underwriter?).

• Corporate Governance– not dealt with in proposed rules. • Why only underwriters can serve as organizers?

Concerns – cont. • For investment limitations: use assets as alternative criteria to income.

• Clear guidance on how to check compliance (e.g. maximum investment per investor – UK has an honor system). • Expand scope to include convertible loans and other debt instruments. • Why is organizer required to approve share transfers? • Should clearly allow the possibility of creating a secondary market.

Conclusions and Thoughts for the Future • Crowdfunding is an important tool in funding a new project. • Crowdfunding provides access to thousands of supporters and early users. • Crowdfunding establishes the project’s brand and is a great marketing platform. • VCs watch the crowdfunding success stories and follow up with an investment. • Legislation has to catch up with market demand. • Legislation has to balance between the need for crowdfunding and the need to protect investors.

Dr. Ayal Shenhav, Adv. Gal Hoffman, Adv. Shenhav & Co. Advocates & Notary Phone: +972 3-6110760 www.shenhavlaw.co.il Email: [email protected]