Equity crowdfunding is essentially investment banking. More specifically, it is equity capital markets (ECM) and debt capital markets (DCM) business, just in smaller scale and typically organised via the Internet. Unlike in traditional capital markets operations, a structured secondary market for the securities issued is a possible but not required component.
In equity crowdfunding at companies like Invesdor.com (where I am the chairman) the target company raises capital by selling shares, i.e. issues new equity securities to the investor. Just like in capital markets business normally, the investment firm arranges the issue, takes care of the back-office operations and handles the money flow. In short, investors transfer cash to the target company and get shares in return, all transmitted via a platform like Invesdor. Like the traditional investment banks, most professional platforms are currently fully licensed and regulated by the financial watchdogs.
Strictly speaking, the role of the platform ends after the share issue. Unless separately agreed, there remains no contractual relationship between e.g. Invesdor and the target company once the capital raising is done and settled. The investors become shareholders in the target company and their relationship is regulated by the law of the jurisdiction where the company is based in.
So then, what to do when a target company behaves badly?
There have been a couple of worrying cases in Europe. A company with crowdfunding history has made a large asset transfer, faced unexpected problems in its business or gone insolvent. All issues the shareholders are naturally entitled to know about and in many cases they should have a say. In some cases the target company has simply gone quiet. There isn't necessarily anything illegal in these cases. A business failure is something one should expect in a portfolio of start-up investments. But the shareholders need to be kept in the loop and at a minimum in most countries the company must organise once a year a shareholders meeting where the board and CEO explain themselves to the shareholders.
Many shareholders are justifiably angry and often they contact the investment firm / crowdfunding platform with their worries. But, more often than not, the platform can do nothing and has no leverage over the target company.
This is a problem not specific to Invesdor but an increasingly common one as the crowdfunding sector matures and the number of companies grows. And while the behaviour of the alumni is not responsibility of the platform, it most certainly is a problem for us all active in the crowdfunding business, for two reasons. First, reliable, regular and proactive investor updates are important for the crowdfunding ecosystem to stay healthy in the long run and continue to grow. But second and more importantly, it is a moral responsibility for platforms like Invesdor to ensure that the companies raising funding take their responsibilities seriously. The trust investors put on us extends to some extend to the companies and the quality label given by the platform is part of what the customers pay for. It is no good telling the investors that we can do nothing and that, in fact, we are not legally allowed to do anything.
Invesdor has started to implement certain contractual changes and is preparing to launch add-on services that tie the companies in our alumni more closely to our ecosystem. These measures will eventually give us leverage in cases where the companies misbehave. We hope other crowdfunding platforms in Europe will follow. If this process is planned well and executed professionally, we will have the opportunity to build an ecosystem that is not only cheaper than the traditional financial plumbing system but also more accessible, reliable and accountable. In the long run, it is my hope that the equity crowdfunding ecosystem will not only complement the old financial system but also raise the bar in customer expectations so that the legacy systems are forced follow.
Tero Weckroth is an entrepreneur and investor in fintech and life sciences as well as chairman of the board of Invesdor.