Recent moves by provincial securities regulators towards legalizing equity crowdfunding have attracted a lot of support from Canada’s startup community, excited about new opportunities for startups to raise funds and the possibility that ordinary investors could get involved in high-return deals previously only open to angel investors and venture capitalists.
But not everyone is so excited about the possibilities of equity crowdfunding. One organization that works to protect ordinary investors is actively lobbying against it’s approval by regulators—they say the risk of fraud is just too high.
“We’re not opposed to it conceptually; we’re concerned about the execution and the risks of the execution,” says Neil Gross, the executive director of the Canadian Foundation for Advancement of Investor Rights and a lawyer who specialized in investment malpractice litigation.
For Gross, the biggest problem with equity crowdfunding is takes place online. He says securities regulators have sent a strong message to ordinary investors—don’t invest online and that by allowing some online investment it will open the floodgates to fraud.
“It waters down a pretty consistent message: the internet is too dangerous a place to do your shopping for investments,” he says.
While other forms of online commerce have grown in popularity, Gross says investing is a whole other thing.
“We’re not talking about buying a pair of shoes,” he says. “The reality is that when it comes to investments, the average investor has about a grade six level of financial literacy.”
Because of that, Gross says he isn’t just worried about the possibility for outright fraud but also that investors may not know exactly what they’re buying—and what rights a specific class of share or other security comes with.
While equity crowdfunding advocates frequently point to companies like Oculus VR, who used non-equity crowdfunding to get off the ground before being acquired by Facebook, as argument for legalizing the practice, Gross says it’s not that simple.
“Everyone assumes that all shares are created equal, they’re not,” he says. “There’s a lot of caveat emptor.”
And that’s not even considering the inherent risk of investing in early-stage companies.
“People tend to look at the relatively few success stories and think that’s typical; they’re not typical,” he says.
But it isn’t the possibility that people will make bad investments on legitimate equity crowdfunding portals that worries Gross the most, he thinks many investors won’t even make it that far before they’re targeted by fraudsters.
“It’s niece to believe that investors at large will seek out regulated portals,” he says. And even if they do, he says “the chances of people being able to distinguish between a legitimate portal and a fraudulent one are very low.”
While Gross says he’d like to see more education for investors and potential investors but he doesn’t think that will make enough of an difference.
“We have always insisted, for good reason, that investors need protection, we shouldn’t throw that away in the chase of a bright shiny object,” he says.