RHTLaw Taylor Wessing’s Deputy Head of Litigation and Dispute Resolution Practice, Nandakumar Renganathan and Partner, Luo Ling Ling were featured in The Straits Times article titled “Call to protect crowdfunding investors”.
The article was first published in The Straits Times on 7 October 2018.
Call to protect crowdfunding investors
Recent scam puts spotlight on risks, possible safeguards such as mandatory disclosures
Source: The Straits Times
Date: 7 October 2018
In the light of a recent crowdfunding scam, we share our views on possible remedies for retail investors, and propose regulatory reforms to better protect such retail investors.
Earlier this year, it was discovered that $6.9 million worth of fake invoices were sold by Vanguard Project Management to investors on a Singapore crowdfunding site, Capital Springboard.
The obvious course of action is to sue Vanguard and its director, and this was in fact the route taken by Capital Springboard and the deceived investors.
It was reported that Capital Springboard had represented that it would have a team to check every invoice sold to investors. Could an investor therefore have taken action against the platform operator as well? (This is critical if both Vanguard and its director cannot pay.)
REMEDIES FOR THE INVESTORS
The relationship between the platform operator and the end investor is normally governed by the terms and conditions of their agreement. However, the platform operator may have an additional obligation to check the invoices if it had assured the investors it would do so.
If the investors should act upon this assurance, then failure to conduct such checks may amount to negligence on the part of the operator. This may cross the line into a fraudulent representation if in fact there was a deliberate failure to check, knowing full well that the scheme may be fraudulent.
If a crowdfunding platform would like to exclude liability for misrepresentation, the Misrepresentation Act requires that the clause satisfies the test of reasonableness under section 11(1) of the Unfair Contracts Terms Act.
SHOULD THE PLATFORM OPERATOR ASSUME MORE RESPONSIBILITY?
It was reported that Capital Springboard had chosen to make an exception for Vanguard because a separate company that was owned by its director had the appropriate filings and credit reports.
Under the correct circumstances, an action in negligence cannot be ruled out. It is arguable that the role and responsibility of a platform operator includes ensuring the investment options are valid. It should be taken into account that the platform operator has the opportunity to verify the authenticity of the investment options, and is in the best position to do so. Generally, it can be contended that a platform
operator has a duty of care to ensure that investment options listed on its website are reviewed and verified before their launches.
WHAT SHOULD INVESTORS CONSIDER IN MAKING CROWDFUNDING DECISIONS?
Crowdfunding investment decisions should not be made on the spur of the moment. It is natural for readers of postings to immediately decide to contribute after reading descriptions – which may or may not be accurate. Giving yourself time to look at and decide whether these investments are genuine is always a good idea.
While all investors hope for the best when they contribute to a crowdfunding exercise, it may be best for them to consider the financial strength and the reputation of the company and the persons behind it to see if the campaign is legitimate. If you do decide to invest, limit your exposure.
One way for crowdsourcing companies to increase their credibility is to appoint independent verification teams to conduct due diligence and certify their findings. This ensures the integrity of the process.
In addition, preventive measures might better protect investors in such a situation.
The regulatory regime may provide a possible solution.
The recent scam raised concerns as to what steps can be taken to prevent a similar scandal, and whether a similar situation can be prevented if companies raising funds via crowdfunding platforms are mandated to comply with certain disclosure obligations.
Public fundraising through a lending-based crowdfunding platform is heavily regulated by the Monetary Authority of Singapore (MAS) under the Securities and Futures Act (SFA) and the Financial Advisers Act (FAA). Under the SFA, any entity or firm offering to lend money to another entity is deemed to be offering debentures (a type of security). Therefore, such a firm is required to prepare and register a prospectus with the MAS unless it falls within one of the several exemptions of the SFA.
Additionally, the operator of the crowdfunding platform is required to apply for a capital markets services licence under the SFA, since it is carrying on the business of the regulated activity of “dealing in securities” or “advising on corporate finance” under the Act.
The requirement to prepare a prospectus will afford some consumer protection because of the disclosures required for it.
Notwithstanding the provisions under the SFA and FAA, companies such as Vanguard were still able to slip through the cracks. Its director forged multiple documents which duped a crowdfunding firm to disburse more than $25 million. Even after the return of $20 million, Capital Singapore suffered losses of $6.8 million. While the Vanguard director was sentenced to 10 years’ imprisonment on June 28, it is hardly
consolation for investors.
Imposing mandatory disclosure requirements and criminal liability for their breach on directors selling invoices to a platform operator may deter them from committing the offence.
The lack of mandatory disclosure requirements vis-a-vis the companies raising funds must be addressed. This gap is in stark contrast to the disclosure-based regime for listed companies. Such companies here do not have to comply with similar rules applicable to companies seeking public funding via the crowdfunding platform.
It would benefit potential investors if such companies were required to make disclosures similar to listed companies. For example, under the listing manual of the Singapore Stock Exchange, a listed company must disclose information “necessary to avoid the establishment of a false market in its securities” or that would be likely to have a material effect on the price of value of securities of that issuer.
Thus, a listed company must observe and comply with the disclosure policy set out in the listing manual and ensure that its directors and executive officers are familiar with it. Failing to comply with the disclosure requirements as found under manual may then render directors’ in breach of their duties under the Companies Act to discharge their directorial duties with reasonable diligence.
Taking the above into consideration, it is not surprising that a company like Vanguard, set up and run by a single director and shareholder, was able to slip through the cracks and defraud investors.
As companies such as Vanguard were not required to disclose information necessary to avoid the establishment of a false market in its securities, its directors were able to hide behind the corporate veil and leech on crowdfunding platforms to generate a sizeable amount of income before investors even had the opportunity to discover their fraudulent intentions.
A PROPOSAL FOR REGULATORY CHANGE
It may be apposite to consider imposing on all companies raising funds through crowdfunding platforms the same mandatory disclosure obligations as found under the listing manual. With a more stringent and transparent disclosure regime which subjects companies raising funds via crowdfunding platforms to the same disclosure obligations as listed companies, fraudulent activities such as the current one may be prevented or reduced.