BUSINESSES in Malaysia looking for funding will soon have another avenue in the form of equity crowdfunding.
This is for startups and small and medium enterprises (SMEs) seeking capital outside the conventional form and from a larger pool of potential investors.
Crowdfunding, in general, is not new to Malaysia. Many of the popular crowdfunding platforms, such as Kickstarter and Indiegogo, operate on a donation or reward-based model.
Increasingly, crowdfunding is helping unlock a great amount of potential capital and unleash innovation in the startup and SME space.
According to a World Bank report, about US$2.7 billion was raised in crowdfunding campaigns globally in 2012, with the lion’s share going to North America (US$1.6 billion), followed by Europe (US$945 million).
Nevertheless, equity crowdfunding is a new avenue.
A form of investment that connects companies to investors, equity crowdfunding works a bit like the stock market for public-listed companies. Here, the “market” is run by a platform operator.
Startups come in as “issuers” via the platform, offering equity in their companies to retail investors, who in turn bet on a business idea or startup that they like and see potential in.
In jurisdictions where no equity crowdfunding platforms exist, startups typically reach out to angel investors, venture capitalists (VCs) or government agencies for funding.
Last year, the Securities Commission Malaysia (SC) took the lead in coming up with a regulatory framework to guide the establishment of equity crowdfunding in the country.
Interested platform operators have submitted applications to the SC for approval. In the coming months, the SC is expected to make an announcement on the successful platform operators.
At the moment, there is no indication on how many platform operators will be registered. But Malaysia is on track to have equity crowdfunding as an alternative fundraising avenue by the end of the year.
To be sure, equity crowdfunding is not going to be the magic bullet to solve all fundraising woes. There is a good amount of funding at the moment from angel investors, venture capital funds and grants.
The startup community in Malaysia seems sceptical about equity crowdfunding and what it can do for them. This is understandable, given that equity crowdfunding is still a rather new thing in the region.
If Malaysia rolls it out by the year-end, it is likely to be the first in Asia to have a regulated framework for this form of fundraising. The closest country that has it would be New Zealand.
Many startups that #edGY has spoken to in the last few months are less than upbeat. Some are taking the wait-and-see approach to it while others feel it may not be an avenue for them.
A common comment by some startup founders is that fundraising is not just about getting the money.
Take Piktochart co-founder Goh Ai Ching, for example.
Goh says for early-stage companies, especially those with inexperienced founders, a better route would be to accept funding from investors who can also bring along mentorship and help open doors.
“For Malaysia, I feel the entrepreneurs — a lot of us — are still young and inexperienced. That’s why it may be better to find investors like VCs and angels who have been there and done that.
“Your investors are going to drive you, they’re your mentors,” says the Penang-based Goh, whose startup provides a web-based tool to make simple and beautiful infographics.
That said, she believes that crowdfunding works only when a company has reached a more mature stage.
“I think crowdfunding will only work when you have a proven product, proven model, proven everything, then you need more capital. That’s why successful Kickstarter ventures have successful products; they just need more money,” she says.
Another common complaint is the potential headache of having to manage a large pool of investors.
“Now, we only have to manage our partners and one or two VCs at most. They provide us helpful guidance. I’m not sure if we can manage dozens of random investors,” says one Kuala Lumpur-based startup founder.
What is crowdfunding?
Crowdfunding, as the term suggests, is a form of fundraising where companies go directly to the “crowd”. It is typically conducted on a web-based platform where people can pitch ideas for a business or a project to contributors or investors.
This has been made possible by the exposure provided by the internet and social media.
Crowdfunding takes advantage of crowd-based decision-making and innovation through the use of social networks and profiles, and the viral nature of web-based communications.
It is an alternative way for startups and small and medium enterprises to gain access to capital and potential investors in an organised manner.
Traditionally, entrepreneurs start their business using their own savings or funds provided by family and friends. But this method has its limitations.
Entrepreneurs usually look for other ways to raise funds to grow the business, and this is where crowdfunding can help. It goes back to the simple logic that the more people you ask, the more potential leads you get.
Equity crowdfunding comes with a slew of possible benefits and risks.
Potential benefits
• Encourages innovation and job creation
• Bridges the funding gap faced by early-stage companies and small businesses
• Increases entrepreneurs’ access to capital
• Investors can diversify into high-risk and possibly high-growth companies
Potential pitfalls
• Financial risk for companies in untested or rapidly changing areas of business
• Liquidity risk, as there is no secondary market for equity crowdfunding as yet
• High likelihood of business model pivot or high failure rates for startups
• Possibility of dilution in holdings if the investee company issues more shares
What to note about equity crowdfunding
• It is another way for startups to raise capital
• It is another asset class for investors
• Startups are inherently high-risk investments
• For investors, portfolio diversification is crucial
Key points from Malaysia’s equity crowdfunding framework
The Securities Commission Malaysia has taken the lead in drafting proposals for a regulatory framework for equity crowdfunding (ECF) that is to be introduced in the country.
It released its proposals for public feedback in August, 2014. Parliament has recently passed several legislative amendments to pave the way for ECF as a fundraising avenue for early-stage companies.
In coming months, the SC is expected to announce the appointed operators of the ECF platform.
For now, the SC’s proposals offer an insight into how ECF will be implemented.
The following are some of the salient points.
ECF platform operator
The ECF website will offer the following services:
• Host equity offerings by issuers;
• Provide a channel for public discussion on the available offerings;
• Educate investors; and
• Provide ancillary services, such as screening, preparation of standardised documents and management of investor relations tools for issuers.
The ECF operator’s obligations would include:
• Conduct background checks on the issuer;
• Monitor and act against issuer misconduct;
• Verify issuers’ disclosure documents;
• Monitor anti-money laundering requirements;
• Monitor and ensure fundraising and investment limits are not breached; and
• Ensure privacy of information is maintained as per the Personal Data Protection Act 2010 (PDPA).
Other areas of interest:
All funds raised via the platform are to be held in separate trust accounts with a licensed bank until the offering is completed.
The funds will be released to the issuer if the targeted amount is met at the end of the fundraising period. This follows the All-or-Nothing model.
The ECF operator can feature trending or popular pitches on its platform based on transparent and objective criteria.
An ECF operator can invest in issuers hosted on its platform but no more than a 30% stake, provided full disclosure is made.
The operator can also provide general advice on the valuation of private company shares as an incidental to the operator’s main business.
This article first appeared in #edGY, The Edge Malaysia Weekly, on June 1 - 7, 2015. Read more here
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