Crowdfunding by startups draws regulator’s ire

The RoC issued an order this week imposing a penalty of ₹2 lakh on a small Delhi-based company and ₹1 lakh each on two of its directors for allegedly violating a provision in Companies Act by raising capital through a technology platform run by a Mumbai-based company, according to the website of the ministry of corporate affairs.

The RoC order said that section 42 of the Companies Act prohibits companies going for private placement of securities from releasing any public advertisements or using marketing or distribution channels or agents to inform the public at large about such an issue.

Using technology platforms to reach out to large number of investors makes such issues unauthorised public offers, rather than private placement, explained a person informed about the development, who spoke on condition of anonymity.

The RoC order also pointed out that private placement offer cannot be made to more than 200 persons. The RoC is expected to issue a second order sometime next week in the case of another company that raised capital from the same platform, the person said.

However, the regulator said in its order that the Companies Act provision dealing with private placements (section 42) does not allow it to impose any penalty on tech platform, in this case Tyke Technologies Private Ltd, which it alleged “clearly facilitated the subject company” in the default of sub-section (7) of Section 42.

An email sent to Tyke Technologies Private Ltd on Friday seeking comment for the story remained unanswered at the time of publishing.

The move is significant as start-ups tend to use such platforms to reach a large number of investors.

For the regulator, the biggest concern is to ensure that the company seeking investments is bona fide and that the interests of investors are protected. Given that there have been instances of even listed companies vanishing after raising capital from the public, the credentials of the companies seeking funds from a large pool of small investors outside stock exchanges becomes a matter of concern, said the person.

A discussion paper by capital market regulator Sebi in 2014 defined equity crowd funding as fund raising by a business, particularly early-stage funding, by offering equity interests to investors online.

Traditionally, start-ups are funded through private equity, angel investor or loan arrangements with a financial institution.

Any offering of public equity takes place only after the product or business becomes commercially viable. However, in equity based crowdfunding solicitation is done at an earlier stage, which has both benefits and risks.