Of Relevance to:
Firms offering crowdfunding
Responses to its ‘call for input’ in July of this year on crowdfunding has left the FCA feeling that there is evidence of potential investor detriment.
The Regulator has published its initial findings in Feedback Statement FS16/13.
Initial findings re investment-based crowdfunding includes:
- Not all firms satisfied the requirements to conduct an appropriateness test to assess whether investors have the knowledge or experience to understand the risks involved in the investment.
- Concerns about inadequate disclosures on investment-based crowdfunding platforms and the downplaying of risk.
- Due diligence standards vary from firm-to-firm and not all firms explain their due diligence processes on their websites.
- None of the platforms reviewed provided an assessment of the valuation of a pitch, although they did challenge the figures proposed by fundraisers.
- Not all firms aligned their business models with the possible future success of businesses raising finance (and, ultimately, the investors).
- Not all firms had an effective internal control system in place with regards to the processes used for approving or communicating financial promotions.
On loan-based crowdfunding:
- The FCA found inadequate disclosures about risk and loan performance.
- Firms were testing the boundaries of the regulated crowdfunding perimeter, which introduces the risk of arbitrage with investment management or banking activities.
- Firms’ desire to maintain confidence in platforms has occasionally led to firms acting in a non-transparent manner, masking true loan performance and exposing investors to risks. This has included management intervening to influence the performance of loans (e.g. by covering arrears) or otherwise acting to support the platform (e.g. lending to provision funds).
- Firms have limited scope to increase market share with their current products and are instead targeting growth through new products or in new markets. This brings the risk of operating in unfamiliar markets without appropriate expertise, exposing longer-term investors to unforeseen lending risks.
- Consumers may not realise they do not have the usual protections as borrowers, where agreements are non-commercial, and firms may not make them aware of this.
- Institutional investors could bring benefits for retail investors (e.g. due diligence) but better controls are needed to mitigate the risks – particularly around conflicts of interest.
- Some platforms allow investment in loans formed on other platforms, which can make it harder for investors to conduct due diligence or to understand the level of risk they are taking. Failure of one firm could also cause problems for other firms in the market where investors in one platform are exposed to loans on a third-party platform.
A Consultation Paper is promised for Q1 2017 proposing new rules – these will apply to both loan-based and investment-based crowd funding.
