Financial Services Bill

Debate between Lord Peston and Lord Sharkey

Monday 8th October 2012 Lords Chamber

[Lord Sharkey]

My Lords, this is a probing amendment. Its purpose is to allow discussion of the issues surrounding crowd funding in the United Kingdom. The informal meaning of crowd funding is probably entirely obvious. However, as far as I can tell there is no generally accepted legal or technical definition of the term. Wikipedia describes crowd funding as,

“the collective effort of individuals who network and pool their resources, usually via the Internet, to support efforts initiated by other people or organizations”.

More particularly crowd funding also refers to,

“the funding of a company by selling small amounts of equity to many investors”.

This was the meaning directly addressed in President Obama’s JOBS Act of April this year which, among other things, gave the SEC 270 days to bring in appropriate regulatory regimes for crowd funding in order to encourage its take up and its expansion.

In the UK, as elsewhere, there are essentially three possible forms of crowd funding. The first is the donation model in which funders provide money to an organisation for no commercial or financial return. The second is the lending model, in which funders provide money by way of repayable interest-bearing loans. These two models are actively used in the UK and do not seem to face significant regulatory barriers, provided that loans do not involve the provision of consumer credit. However, neither of these is suited to the more speculative form of SME or start-up enterprises: donations because enthusiasm, although often surprisingly generous, will be restricted to a fan base, and lending because many organisations will be conventionally assessed as not credit-worthy.

The third method of crowd funding, investment, is potentially a significant source of funds for start-ups and similar high-risk ventures but it faces regulatory problems in the United Kingdom. There are two kinds of investment crowd funding: the equity model, where investors receive shares in the company; and the collective investment scheme model, where investors receive a right to a share in profits or revenue but no shares. As a general rule, it is not possible for a company in the UK to raise money by crowd funding using either the equity or the CIS models. With some limited exceptions, both these models fall within the UK regulatory regime’s prohibition of such activities. That is the problem about which I would like very much to hear the Minister’s views.

Specifically, does the Minister accept that crowd funding may be a very useful way of getting substantial funds into the UK’s SMEs, an area where our banks are currently underperforming? If so, does he acknowledge a degree of urgency in setting up an appropriate regulatory framework, and can he accept that the existence of high levels of risk in investing in small companies need not necessarily mean that ordinary people should not be allowed, or even encouraged, to invest their money in such enterprises? Perhaps, in this context, it is worth remembering the conclusion for the US jobs market of the Kauffman report: that for 20 of the past 27 years, all net new jobs came from start-ups.

My noble friend the Minister will know of the report published in February this year by the Association of UK Interactive Entertainment, entitled A Proposal to Facilitate Crowd Funding in the UK. This report rehearses the benefits to business of making crowd funding more easily accessible to ordinary people. It makes, in some detail, recommendations for regulatory change in order to achieve it. In summary, the report recommends that crowd funding be permitted generally and not restricted to some qualified class of investor; that any regulation be light touch; that there should be no absolute requirement that shares be issued to investors, so that the CIS model may be applied; that there should be no upper limit on what can be raised for projects, with certain conditions applying; and there should be an investment limit per person to limit individual exposure.

Perhaps I could ask the Minister to give his views on these proposals, to consider in a general sense how we may use crowd funding to both increase and speed up the flow of funds into the SME sector, and to give some indication of the Government’s intentions in this area and of timings. I beg to move.

[Lord Peston]

My Lords, the noble Lord has introduced his amendment as a probing amendment, which I take to mean that it is meant to be educative. My natural tendency is to agree with him, but I have great difficulty in that I do not have the faintest idea what he is talking about. In particular, I do not know what crowd funding is. The amendment says it should have,

“the meaning given in section 417”,

but there is no Section 417 in any of the documents that I have. It would help me enormously if he could extend my education and tell me what this is all about.

--- Later in debate ---

[Lord Sassoon]

That is one way of dealing with it, but it is not the way in which the Government wish to deal with it, which I shall explain in a moment. I say to my noble friend Lord Stewartby that I have a hunch that before we pass this clause we will have a discussion about timetabling. If he will forgive me, I shall come back to the matter then, but if we do not I will make sure that I raise the timetable in question later.

Crowd funding is an innovative new source of funding for start-ups and other small enterprises. I share my noble friend’s hope that it will continue to grow in the coming years, so my answer to his first question is a resounding yes. However, on his second question, which is the subject of the amendment, while I understand my noble friend’s enthusiasm for establishing discrete legislative provision to bring this very new sector into regulation, I do not agree that it is needed at this stage and so cannot accept the amendment.

My noble friend raised the US JOBS Act. In the US, there was a very distinct problem and a pressing need, which led to the introduction of that Act. The situation is different in the UK. Among other things, there has been no clarion call from industry for more regulation. However, we should not be complacent, and the FSA is not waiting until there is a problem before doing things.

Platforms seeking to operate what are in effect collective investment schemes must obtain authorisation from the FSA. The FSA already has powers to take action against firms operating without appropriate authorisation. It is up to the FSA to work with platforms seeking to offer equity returns to their investors to ensure that they obtain relevant permissions before the activity that is most likely to apply here—arranging deals in investments—starts. This is happening already, with one such platform securing authorisation from the FSA prior to its launch.

Of course, the regulator must balance the need to allow innovative models to flourish with ensuring that consumers understand the risks involved with new platforms. In this regard, the FSA’s recent guidance on crowd funding makes clear its concerns, which are evidently shared by the noble Lord, Lord Peston. This is the right sort of regulatory response. It shows that we should not rush to create new regulated activities here.

I am also concerned that amending the Bill in this way could create confusion that stifled the growth of the new sector. There are currently many forms of crowd funding. We do not yet know precisely what definition my noble friend had in mind, but the vast majority of these platforms ask customers to make donations rather than investments. They have been very successful in doing that. The world’s largest crowd-fundng site, Kickstarter, for example, which will launch in the UK very soon, raised more than $100 million for creative projects in the past year. A platform such as that does not pose the same risks to investors, who expect no money in return for their donation, so we have to be mindful of the risk of legislating in a way that does not fully take account of the breadth of the businesses in this new area.

In conclusion, although industry standards and further FSA and FCA guidance may have an important role to play in future, my view is that the regulatory structure proposed in the Bill is suitably flexible to support the growth of the full variety of crowd-funding platforms, with a careful eye on the needs of the consumer throughout. With that, I hope that my noble friend will agree to withdraw his probing amendment.

[Lord Sharkey]

I thank the noble Lord for his answer. The noble Lord, Lord Peston, invited me to extend his education, but I think I should decline any such attempt. The noble Lord, Lord Barnett, did not believe that there was a definition there, and he was right—there is no definition. I shall not do it again now, but I did try to explain what forms crowd funding currently takes. Perhaps I did not give a clear impression of how important or what size it currently is, and that is my fault, but crowd funding exists and plays quite a large part in the landscape of small companies, both in the United States and already here in the United Kingdom.

I think I noticed an expression of perhaps amazement on the face of the noble Lord, Lord Peston, at the notion that people should donate $100 million to commercial enterprises for no return at all—an aspect of crowd funding that clearly he was not familiar with.

[Lord Peston]

I take it that if the thing goes ahead, it will be made clear to people putting money into this sort of thing that they are essentially going to a betting shop, where they may win or lose. That is what it is about. Since our country appears to be gambling mad at the moment, there seems no reason to prevent this new form of gambling from being introduced. However, as someone who knows—coming, as I have said before, from a large family of gamblers—that gambling is a total mug’s game, I hope there is someone around who tells people that crowd funding is a mug’s game.

[Lord Sharkey]

It is nice to know that the noble Lord, Lord Peston, approves of gambling. Returning to the Minister’s response to the amendment, I note the objections that he raises, some of which were raised by the noble Lord, Lord Peston, as well. I accept that this is a new area that is full of dangers for unwary investors, and I also accept the dangers of regulating an infant industry too early. However, we are about to see a significant expansion in this area, which we should all keep an eye on for the future. Having said that, I beg leave to withdraw the amendment.