Bradley Kidd, Josh Blackmore: Better access to equity capital at lower cost good for NZ Inc

The FMCA will create new capital raising instruments for small offers outside the full disclosure regime. Photo / Thinkstock

Opinion

Start-up and early stage businesses will have access to a larger menu of capital raising options from April 1 as the Financial Markets Conduct Act 2013 (FMCA) begins to come into effect.

The new levers are key to achieving the FMCA's purpose of promoting "innovation and flexibility" in the New Zealand economy and should encourage growth in the highly inventive but traditionally capital hungry software design and computer services industry.

The requirement in the Securities Act 1978, which the FMCA will replace - that share offers to the general public be via a full investment statement and prospectus - with all of the expense that entails, can put this option beyond the reach of the small or emerging business.

The FMCA does provide some exceptions from this rule, but the provisions are complex, often require legal advice and have generally been interpreted narrowly by the courts. The "habitual investor" exception, for example, has been construed as applying to professional investors rather than to persons who invest regularly.

A common challenge for young companies is to attract and retain talented staff through the lean early years when there is limited capacity to pay competitive salaries. A solution to this is to offer foundation employees equity in lieu of or as a supplement to their pay.

But the Securities Act makes this difficult also because the "close business associate" definition has been held by the courts to exclude "mere employees" with the result that off-market employee share offers have tended to be limited to senior management, where it is easier to establish that they qualify for other "bright line" exemptions.

The FMCA by contrast explicitly provides for reduced disclosure in relation to employee share offers where the offers do not exceed 10 per cent of the company's total shareholding in any year and are made as part of an employee's remuneration arrangements (rather than for the primary purpose of raising money).

The pool of investors able to engage in "private offers" outside the full panoply of protections the legislation provides for the prudent but non-expert investor will also be expanded.

In particular:

• The "habitual investor" test is redrawn to include persons who meet an "investment activity" threshold.

• The "experienced person" exemption is available through self-certification, although the certificate must be confirmed by an authorised financial adviser, a lawyer or a chartered accountant.

More importantly, the FMCA will create new capital raising instruments for small offers outside the full disclosure regime.

A new "small offer" exclusion will apply to offers which do not seek to raise more than $2 million within any 12-month period and which are limited to 20 investors, each of whom is connected to the issuer either professionally or personally, through some previous association or where the investor has indicated they are interested in offers of that kind (such as through membership of an angel network).

But the innovation which has so far captured the most attention is the accommodation the act provides for crowd funding and peer-to-peer lending. These internet-based services exist now but the Securities Act prevents their use to raise even a small loan or equity contribution without full offer documentation.

The FMCA removes this impediment by creating a new category of "licensed intermediary" for which website hosts and others can apply, and which will allow the licence holder to let people make equity or debt offers on their platforms without having to meet the normal disclosure requirements.

Crowd-funding and peer-to-peer lending providers must prove their "principal purpose" is consistent with the intention behind the exemption, this being to provide innovative ways for small businesses and individuals to raise money.

The Ministry of Business, Innovation and Employment has proposed options for limiting the amount that retail investors in a crowd-funded issue can invest in any 12-month period, including fixed limits in a particular issue or in aggregate, or caps scaled according to the investor's income and net assets.

And, as with the small offers above, a limit of $2 million per 12 months will be imposed on how much a borrower may borrow or an issuer may raise.

For crowd funding services, the $2 million cap will apply only to retail investments - meaning that additional amounts can be raised if there is participation from wholesale investors.

The combined impact of all of these changes should give New Zealand entrepreneurs better access to equity capital at lower cost. This has to be good for NZ Inc and, depending upon the take-up rates, could bring a new dimension to the economic recovery.

• Bradley Kidd and Josh Blackmore are partners at Chapman Tripp specialising in corporate and securities law.