Market regulator Securities and Exchange Board of India (SEBI) has issued a warning for investors asking them to stay away from participating in fund-raising through digital platforms. This warning is surprising, especially when in 2014, SEBI itself has floated a consultation paper on crowdfunding in India, which underlined how this method would help entrepreneurs to raise funds without incurring too much cost. Add to this, the Reserve Bank of India (RBI), in April 2016 released a consultation paper on peer-to-peer (P2P) lending, which is one of the forms of crowdfunding.
In a release
, SEBI said, "It has also come to the notice of SEBI that certain electronic platforms are facilitating fund-raising on digital platforms like websites and other internet platforms, which are similar to the platforms of stock exchanges. These digital platforms are neither authorised nor recognised under any law governing the securities market. The electronic platforms are allegedly facilitating investment in the form of private placement with companies, as the offer is open to all the investors registered with the platform amounting to a contravention of the provisions of Securities Contract (Regulation) Act, 1956 (SCRA) and the Companies Act, 2013. Only recognised stock exchanges provide a platform where equity and other securities issued by companies are listed and traded in accordance with the provisions of the SCRA.”
Technology has opened a virtual world, which is now gaining traction for doing business surpassing geographical limitations. Lending and borrowing is an age-old relationship. Technology is now removing the limitations of physical presence for lending decisions and is creating a new virtual space for undertaking lending decisions.
As per a report from the Economic Times, this SEBI note has virtually pronounced over half-a-dozen digital equity crowdfunding platforms (ECP), including prominent ones like Grex, LetsVenture, Termsheet, Equity Crest and Tracxn, as unauthorised, unregulated and illegal. "Such platforms have emerged as a new source of funding for startups. Close to 200 companies have raised Rs350 crore to Rs450 crore on these platforms over the past 18 months," the report says citing industry estimates.
According to the report, SEBI is not comfortable with the structure of ECPs in the country. It says, "None of these platforms meet the critical net worth criteria (of Rs100 crore) required to set up security exchanges. SEBI is also worried about small investors getting sucked into unknown, illiquid companies. Although these platforms cater to a closed set of registered investors, lower investment threshold limits (in many cases, as low as Rs5 lakh) make them almost 'barrier-free'."
Over past few years, peer-to-peer (P2P) lending, a form of crowdfunding has become an important part of the financial services sector in many countries worldwide. Companies like Lending Club, in the United States of America and Zopa in the United Kingdom, which started their operation just few years back have already became a threat to the retail banks. These companies are now worth billions. They advance loans of nearly equal values as any retail banks in the respective countries. However, SEBI seems to have taken a different step with its recent warning about crowdfunding.
In April, the central bank released a consultation paper on P2P lending that outlined pros and cons of regulating the sector and proposes a suitable framework for regulating this activity. This includes minimum capital, permitted activity, governance requirements, fair practices code for customer dealing and data security for P2P lending. RBI in its first bi-monthly monetary policy for FY2016-17 had mentioned about releasing the consultation paper on P2P lending. “…the contours of regulating P2P lending will be decided in consultation with SEBI,” RBI had said.
In July 2016, quoting people in the know, a report from Business Standard stated that SEBI had decided not to proceed with final regulations on crowdfunding. The report says, "Divergent views from the market and lack of interest for its recently launched start-up platform have discouraged SEBI from issuing final guidelines on crowdfunding, said a source. Also, the market feedback given to SEBI was that there might not be enough takers for the regulator’s proposed framework as it was ‘too restrictive’, the source added".
Coming back to SEBI's consultation paper issued two years ago
, it talked about a structure and framework for crowdfunding in the country. It said, "The proposed structure for crowdfunding will provide an enabling framework. Crowdfunding may provide an alternative source of capital for entrepreneurs that either have limited access to capital or have exhausted other available sources of capital. This also saves the entrepreneur from a lot of effort required in obtaining capital and allows him/ her to focus on the business."
"Crowdfunding facilitates such entrepreneurs in raising funds without incurring too much of the costs by doing away with the requirement of appointing a merchant banker, marketing and advertising expenses and book building. Further, there shall be no listing requirements and no prospectus needs be filed with SEBI. However, a company seeking display in recognized crowdfunding platform may be required to pay fees to such platform, which is expected to be substantially lower in comparison to the current issue expenditure. The fees to a platform may be dependent on various factors like number of platforms in the market, number of companies seeking display at such crowdfunding platforms," the SEBI paper had said.
In India, the traditional sources of funding are well established. Banks and financial institutions in India have been largely responsible for making available credit in the economy. The needs of the financially excluded have been catered to through community-based financing, chit funds, co-operative societies and so on. All these sources of funding, conventional or otherwise, over the years have had a limitation of physical interface. Since technological intervention is more and more becoming a part of life, the redundancy of physical interaction will be growing in the lending and financial services business as well. SEBI, as market regulator, may well have to come around to a solution for ECP rather than issuing a blanket ban.