We live in a world without borders.
Securities laws, however, have clearly-defined jurisdictional limits, many of them inconsistent across countries.
We live in a world where information wants to be free.
Securities laws, however, have very clear ideas about how where information is allowed to go and who is responsible for it.
This is all becoming evident in the area of securities crowdfunding. I’ve come across a couple of issues recently which underline the need for a clear, comprehensible, cross-jurisdictional agreement as to whose laws will apply to what transactions and when people should be allowed to invest in an offering being made in another country.
The first issue is one that is familiar to any US investor who has tried to invest on an offering on a crowdfunding platform outside the US. At some point, when your US identity becomes clear, the platform’s investor onboarding system is going to throw you out. No-one wants to include US investors, because our rules are so complex and our lawsuits so many!
Another development that we’ve seen is questions coming from Canadian regulators. Without making any specific offers or marketing efforts into Canada, some companies making US crowdfunding offerings have ended up accepting investments from Canadian investors, who picked up information about the offering on the internet (information wants to be free). Canadian regulators seem to be treating this scenario as if the companies had deliberately marketed their offerings into Canada, and requiring the companies to fit within Canadian crowdfunding rules (where the relevant province has such rules) or other exemptions from prospectus requirements. This is arguably imposing a broader jurisdictional reach than even the US laws would impose.
What would the US legal analysis be, in the event any foreign crowdfunding platforms ever let any US investors sneak in to buy shares in a foreign company? Well, we’d start by applying Regulation S, which is the set of rules that explains when an offering is or isn’t subject to US jurisdiction and thus required to be registered with the SEC or made in compliance with an exemption from registration. Regulation S consists of two elements. There is a “General Statement”, which reads:
For the purposes only of section 5 of the Act [that’s the section of the Securities Act that requires offerings of securities to be registered], the terms offer, offer to sell, sell, sale and offer to buy shall be deemed to include offers and sales that occur within the United States and shall not be deemed to include offers and sales that occur outside the United States.
Having set out this general principle, the rest of the regulation goes on to establish “safe harbors”; offerings meeting the conditions of those safe harbors are deemed not to be in the United States and thus not subject to US jurisdiction, insofar as the registration requirements of the Securities Act go. The safe harbor that foreign crowdfunding offerings come closest to fitting into is the one in Rule 903(b)(ii)(A), for “overseas directed offerings,” which cover:
An offering of securities of a foreign issuer that is directed into a single country other than the United States to the residents thereof and that is made in accordance with the local laws and customary practices of such country.
There are two “general conditions” to use of this safe harbor: First, no “directed selling efforts” (in general, marketing and offers made specifically into the United States) are permitted. Second, the transaction has to be made in an “offshore transaction,” which requires the investor to be physically outside the United States or to execute the transaction on the physical trading floor of a foreign securities exchange and that there be no “offer” to a person in the United States (and the internet arguably makes offers to everyone). Crowdfunding transactions with our sneaky US investor are not going to fit exactly into that safe harbor because they won’t meet the “offshore transaction” requirement. However, I would argue that when you put together some of the principles that the SEC set out with respect to internet offers back in 1998 and the definition of overseas directed offerings and apply them to the General Statement, a transaction made with a US investor on a foreign crowdfunding platform that didn’t target marketing into the United States should not be subject to the jurisdictional reach of the registration provisions of the Securities Act. (Regulators are not going to agree with me on this.)
So how could we use these principles to provide some cross-border consistency of regulation? Here’s a starting point, which of course not everyone (especially regulators) will agree with. I would suggest that we take some of the elements of Regulation S, updated for the internet age and adopt the following principles:
· Listing an offering on a platform in a company’s home jurisdiction (Platform Land) and accepting investments from investors in other jurisdictions (Investor Land) is not subject to regulation with respect to registration, qualification, or whatever the local equivalent is in Investor Land provided that:
o No directed selling efforts (emails, advertising, phonecalls, etc.) with respect to the offering are made in Investor Land or to persons the issuer or platform know to be located in Investor Land. We may need to set some guidelines as to the extent to which some communications (eg, mass emails) require Investor Land addresses to be filtered out.
o The offering is made on a platform operating in compliance with Platform Land’s rules for platforms and rules or custom with respect to documentation and procedures.
o Every investor in Investor Land is required to affirmatively agree, as part of the investment process for each investment, that they understand that the registration and disclosure provisions of Platform Land apply, and that the protections provided to investors in Investor Land will not apply.
· The jurisdictional reach of the laws and rules that apply to fraud are not affected by these principles.
The overall impact of these principles would be to replicate virtually the current situation under Regulation S, where US investors, becoming aware of an offering overseas, are able to jump on a plane and make an investment in the issuer’s home country. “Leaving the jurisdictional protection” would just happen online.
I get that we are dealing here with a combination of less-experienced investors and more-risky companies, a combo guaranteed to cause heartburn to regulators. But without some consistent cross-border regime we are going to be stuck with the current situation where many platforms refuse to take foreign investors while others accept them, and the heightened risk.
Let’s start the conversation: who agrees? Who thinks this is just nuts? Who says we shouldn’t poke the hornets’ nest?