To ensure investor protection and help support the growth of investment-driven crowdfunding platforms, these platforms need to be brought within the regulatory perimeter, not left outside it, European authorities recommend.
The European Securities and Markets Authority (ESMA) is calling for greater harmonization in the regulation and supervision of investment crowdfunding. It published an opinion today clarifying the existing EU rules in this area, and advice highlighting issues for policymakers in the EU.
The ESMA indicates that it is concerned that there are “strong incentives” for crowdfunding platforms to structure their business models so that they fall outside the scope of regulation. And, it calls on European authorities to consider policy options to reduce these incentives. “Avoiding regulation presents risks to investor protection and makes it harder for platforms to grow their businesses,” it says.
When considering how existing EU legislation would apply to crowdfunding platforms, the ESMA says that it found that there was uncertainty as to which activities platforms were typically carrying out, and which capital requirements applied. It recommends that the development of an EU-level regime for crowdfunding could be considered. “This regime would encapsulate similar protections to [EU rules] and would grant a passport to crowdfunding platforms that meet the qualifying conditions,” it suggests.
“Many of the key risks in investment-based crowdfunding arise because the majority of projects invested in are smaller companies with a high failure rate and the securities are typically unlisted, hence a significant potential of capital loss, risk of dilution, limited possibilities for liquidating an investment and limited information available on which to base a decision,” the ESMA says. “However, some risks relate to the platforms’ business model, such as the potential for conflicts of interest, the impact of platform failure particularly where they hold or administer client assets and the risk that investors over-estimate the due diligence carried out.” At the same time, it notes that, “there is also an opportunity cost if the development of the industry is unduly restricted.”
The ESMA also provides guidance to regulators within the EU that are considering how to regulate platforms operating outside the harmonized EU rules.
“ESMA’s aim is to enable crowdfunding to reach its potential as a source of finance, while ensuring that risks to users of crowdfunding platforms are identified and addressed in a proportionate and convergent way across the EU,” said
Steven Maijoor, ESMA chair.
“We believe that there are benefits both for investors as well as for platforms by operating inside rather than outside the regulated space,” he added.
Currently, the ESMA notes that crowdfunding platforms are using diverse business models, and it says that depending on the precise structures they use different EU legislation may apply. It also highlights gaps in the existing regime where policymakers could take action to ensure there is a regime protecting investors while allowing crowdfunding platforms to function.
The ESMA is working alongside the European Banking Authority (EBA), which is planning to publish its own findings focusing on lending-based crowdfunding.