CySEC acts to protect ‘crowdfunding’ investors

Crowdfunding is an alternative method to banking financing through which small and medium enterprises (“SMEs”) can access funding. This can happen mainly through small contributions by many investors. It is a financial relationship consisting of three parties; the business seeking financing by investors, the crowdfunding service provider ( the “Crowdfunder”), and, the investors who seek to finance a business in exchange for a potential return. The role of the Crowdfunder is to provide a publicly accessible internet-based electronic information system which matches the interests of the finance seekers with those of the investors.

In Cyprus there has been a growing unease about unregulated activity concerning  initial offerings of instruments, by Cyprus based entities, that make use of distributed ledger technology. In response to this  CySEC has proceeded with drafting the ‘Crowdfunding Directive’  in an effort to put investor safeguards in place. Moreover, on 15 November, it published a Consultation Paper which concerns entities established in Cyprus which are acting as an investment-based Crowdfunder. It is proposed that these persons shall be authorized as Cyprus Investment Firms (“CIF”) acting as a Crowdfunder.  Importantly, this would bring Crowdfunder operations within the regulatory sphere.  This change would also indirectly impact the owners of projects seeking funding through the CIF operated platform as it would require them to provide the CIF with a “Key Investor Document”. 

According to the consultation paper, which refers to the proposed Crowdfunding Directive, the CIF classified as a Crowdfunder shall not be considered as a party to the investment transaction. It should also not take part in the execution of the transaction on behalf of an investor.  Its role will be to arrange the relevant transaction. Businesses seeking funding by placing their transferrable securities (“TS”) through the CIF’s platform, shall receive the investment service of placement of financial instrument with or without firm commitment under the Law. The investors intending to buy such TS will receive, by the CIF, the investment service of reception and transmission of orders and other ancillary services in relation to safekeeping and administration of instruments on behalf of clients.

Only CIFs with an operational license covering the said services shall be entitled to act as a Crowdfunder and,  the actual commencement of the provision of such services will require prior approval by CySEC. Thus, according to the Consultation Paper, the Crowdfunding Directive shall apply to CIFs which intend to act as a Crowdfunder within the meaning of the Crowdfunding Directive, on condition that these CIFs have a license for the relevant investment and ancillary services. Moreover, the crowdfunding services-dedicated platform through which such services occur shall be operated via a website solely owned and operated by the CIF.

The deadline for comment on the Consultation Paper was 2nd December 2019. CySEC response to the consultation process is expected in 2020.

For further information on this matter, please contact Ioannis Sidiropoulos or any member of our Financial Services team or your usual contact at Elias Neocleous & Co LLC.