Companies in early and growth stages often need significant funding to achieve their business goals but can have difficulties finding potential investors. Until recently, Canadian regulatory rules prohibited companies in Canada from raising financing by issuing shares and other securities to the general public unless they either (i) filed a qualifying prospectus; or (ii) relied on an exemption from the requirement to file a prospectus under securities laws, which limited the pool of potential investors to people such as friends & family, business associates and accredited investors.
Recently, certain Canadian Securities Administrators introduced a new prospectus exemption, known as the "Crowdfunding Exemption"1, which permits companies who meet the requirements of the exemption, to issue securities to the general public without going through the lengthy and costly process of filing a prospectus.
In order to qualify under the Crowdfunding Exemption a company must:
- not be considered a "reporting issuer" (a public company) in any Province or Territory in Canada;
- not be an investment fund; and
- must have a head office located in British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick or Nova Scotia (the Canadian jurisdictions currently offering this Crowdfunding Exemption).
When offering securities pursuant to the Crowdfunding Exemption a company must also:
- be issuing common shares, preference shares, non-convertible debt securities or limited partnership units;
- prepare a simplified disclosure document that provides investors with basic information about the company, its management and the terms of the financing and intended use of proceeds; and
- distribute its securities, and receive payment for its securities, through a registered funding portal.
Companies are not permitted to raise more than $1,500 from each individual investor or $250,000 in aggregate from any offering of securities pursuant to the Crowdfunding Exemption, and may complete a maximum of two offerings per year under the Crowdfunding Exemption.
Aside from these limitations, however, the Crowdfunding Exemption offers companies a relatively simple and cost-effective opportunity to reach a much broader pool of investors from the general public than was previously possible.
Although the Crowdfunding Exemption offers significant opportunities to companies seeking capital, there are some important factors to consider before engaging in this type of distribution:
- Cost. Companies will need to consider the costs of the offering including engaging a registered funding portal and drafting the required offering documents.
- Investor Interest. Companies should consider whether they expect they will be able to attract enough investors to raise the funds they require, taking into account the costs of the offering and that no investor may invest more than $1,500. Investors will also continue to be subject to the usual trading restrictions that apply to private companies.
- Large Shareholder Base. Crowdfunding will likely result in a company having a large number of small security holders. Depending on the rights attached to the securities that are issued, these security holders may have the right to vote at shareholder meetings and may be able to influence the direction of the company. Companies should carefully consider how the issuance of securities will dilute existing shareholders and how such dilution will affect control of the company. There are also additional costs associated with operating a company with a large shareholder base, including costs associated with communicating with shareholders, holding shareholder meetings and additional securities law filings (as described below). There can also be additional complexities in managing a large shareholder base for future financings or an exit transaction.
- Securities Law Filings. A potential disadvantage of offering securities through the Crowdfunding Exemption is that it is likely that, following the offering of securities, a company may have greater than 50 security holders. Once a company exceeds 50 security holders, excluding employees, it is no longer considered a "private issuer" under securities laws and is subject to additional filing requirements, which may result in additional administrative and legal costs going forward.
While the Crowdfunding Exemption is attractive in that it enables a start-up company to offer shares and other securities to a large pool of potential investors at a relatively low cost, companies should be sure to carefully consider the costs of the offering and the long term effects on the company.
Additional information about the regulation of crowdfunding in Canada is available from the Canadian Securities Regulatory Monitor, also published by McCarthy Tétrault.
1 See Multilateral CSA Notice 45-316 – Start-up Crowdfunding Registration and Prospectus Exemptions published by British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick and Nova Scotia ()
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