Equity crowdfunding has become a popular and alternative fundraising option by startups and early stage companies in Malaysia.
Equity crowdfunding is an alternative fundraising platform regulated by the Securities Commission of Malaysia (SC). Currently, there are ten registered equity crowdfunding platforms like Leet Capital, Ata Plus, Pitchin, Ethis Ventures, Fundnel and so on which you can choose to host your campaign.
In April, the SC further increased the fundraising limit to RM10 mil from the initial RM5 mil limit. Additionally, an investor who has invested in a campaign may soon be able to realise his or her investment sooner by selling his or her shares to a new investor using the same platform. This is known as the secondary market model that hopefully will get rolled out soon.
In light of the pandemic, MDEC, a government agency has been aggressively pushing for small businesses and startups to take up alternative fundings such as peer to peer including equity crowdfunding campaigns to raise funds.
Another reason why startups and small businesses should focus equity crowdfunding is the extension of the co-investment scheme Malaysia Co-Investment Fund (MyCIF). To summarise, every RM4 raised will be matched by MyCIF on a 1:4 ratio. Several crowdfunding platforms have announced that they are involved as partners in the co-investment programme.
Are you ready to start your equity crowdfunding campaign? Take a look at six key legal issues to consider before starting your equity crowdfunding campaign.
1. Have a fundraising gameplan
Like any fundraising exercise, raising funds on equity crowdfunding has its own pros and cons. Do some research so that you know beforehand the risks and benefits of doing an equity crowdfunding campaign.
For instance, in our view, raising funds on crowdfunding requires more bandwidth in terms of time that needs to be allocated to join publicity and marketing roadshows organised by crowdfunding platforms (which isn’t necessarily a bad thing given the indirect PR campaign exercise that your startup will get).
Similarly, when you fundraise on a platform, you’re raising funds from crowdfunding investors which tend to be retail investors. You may wish to limit or be clear as to the type of investors that you wish to onboard as new shareholders in your startup.
Also, typical fundraising may take between three to six months to complete. Have a chat with the potential equity crowdfunding platform that you’d like to work with on their typical timeline so that you can manage your expectations and sync with your internal timeline.
In practice, there’d be some time gap between the first time you engage a platform and the actual timeline when the campaign goes live so it’s best to check so that the timeline will fit your runway.
2. Protect your intellectual property assets
If there’s one good time to protect your intellectual assets, it should be right before you start your equity crowdfunding campaign!
Some ussual stuff when it comes to protecting intellectual property assets for technology companies include ensuring that domain name, source code for your website and mobile app are held by your business. This also includes ensuring proper and necessary assignments if you have outsourced the product development to third parties like a development house.
3. Have an investment term sheet ready
Essentially, a crowdfunding campaign is an offer to buy certain ownership of your company to crowdfunding investors. In return for cash investment into the company, the investors will get shares issued on their names.
Although we won’t be going through the specifics on the characteristics of the investment instrument in this post, take note that crowdfunding only allows a company to issue equity either ordinary shares or preference shares.
Broadly speaking, ordinary shares are typically issued in an early-stage investment like pre-seed or seed rounds between close members like family, friends or even angels. Preference shares are perceived to be a more sophisticated investment where usually subscribed by financial investors like venture capitals, family offices, and so on.
One quick way to understand this better is by doing research on other similar campaigns hosted on platforms. Get a copy of the previous investment term sheet and study the investment terms.
Again, do some research on the previous crowdfunding campaigns hosted on the platforms. Look at their valuation and the targeted fundraising amount, and the actual amount raised.
In deciding how much to raise, we really like what Cheryl Yeoh wrote in her blog some time ago on fundraising that goes, “The amount of effort that you need to raise RM100,000 and RM1 mil is the same.”
So it may not be a good idea to ask for a low amount if you think you’ll end up doing another fundraising in the next few months.
4. Ensure that your share capitalisation table is up to date
If you haven’t fundraised before, a share capitalisation table (or share cap for short) is an essential document that you must have. (Note: Send us an email if you’d like a sample!)
In essence, a share cap is a snapshot of your company’s percentages of ownership, equity dilution, and value of equity in each round of investment by founders, investors, and other shareholders. A share cap is usually kept in an Excel spreadsheet and updated regularly.
A common scenario is when you may have been operating under an enterprise or a sole proprietor before this. Naturally, you may have acquired or have some transactions in your previous business before forming a new company. So you may want to transfer your existing assets to the new company so that the valuation of the company may be correct. This is known as capitalisation or injection of assets.
Sometimes, we’ve come across scenarios where some founders may have advanced their own cash to the company. So it may be possible to issue new equity to the founders as a form of repayment instead of treating it as an amount owed by the business to the founders.
5. Get your internal affairs in order
Usually, a startup may have several cofounders and key team members.
In our experience, some companies may not have a founders agreement in place. Although it’s not wrong not to have one (and so long as the founders are in sync as to where they are going), we’d still suggest founders have something in place at least a term sheet so that the founders have something to fall back on in case something happens.
Also, be clear on the shareholders’ agreement or the document that you are allocating a certain portion of the share capital of the business for employee shares option scheme (ESOS).
Typically, having a simple term sheet may be adequate so as to cover the high level issues in terms of commercial terms between the existing shareholders. Usually, we may not encourage startups to enter into a full blown shareholders agreement in place as the document would have to be tweaked again to cater to a new set of crowdfunding investors that will be in your share cap post crowdfunding.
Also, every different crowdfunding platform may use a different template shareholders agreement for their issuers. It isn’t a “one size fits all” so it’ll be a good idea to get a legal counsel to take a look at the draft so that your agreed commercial terms between cofounders have been captured properly in the draft..
6. Update your secretarial records and statutory filings
Whether this comes as a surprise or not, the bulk of the time spent during fundraising is actually spent on reviewing disclosure documents apart from crunching numbers and valuation.
Documents review are done by the due diligence team who are often overwork. You’ll be doing them a huge favour by having all these documents in an orderly and organised manner.
To summarise, the following are the minimum disclosure documents required to be published on an equity crowdfunding campaign site.
- key characteristics of the business
- purpose of the fundraising and targeted offering amount
- business plan
- latest audited financial statements
Some platforms, as part of their screening process, may do additional checks like conducting CTOS searches against the founders, directors and shareholders. So you may also want to keep an eye on your current records.
Finally, constant updating and keeping your company secretary in the loop will be crucial so that they are aware of what’s going on. Also, some company secretaries may not be so familiar with crowdfunding so it may be worthwhile to take some time to explain to them about crowdfunding and what roles they need to play to help your crowdfunding.
Final remarks
Equity crowdfunding is an exciting way to raise funds for startups and small businesses and giving you indirect positive publicity to the public.
If you are planning to raise funds on equity crowdfunding, feel free to reach out to us for a free initial call with an equity crowdfunding lawyer. We can run through high-level issues especially what to look out for before starting your campaign and throughout the investment process.
