The Financial Industry Regulatory Authority (FINRA) recently expelled crowdfunding platform uFundingPortal (UFP) LLC. It marks the first FINRA settlement over alleged violations of the crowdfunding rules enacted pursuant to the Jumpstart Our Business Startups Act (JOBS Act).
Regulations for Crowdfunding Portals
Under the JOBS Act, funding portals relying on the crowdfunding exemption must register with the Securities and Exchange Commission (SEC) and become a FINRA member. The statute further specifies that a funding portal may not: (1) offer investment advice or recommendations; (2) solicit purchases, sales, or offers to buy the securities offered or displayed on its website or portal; (3) compensate employees, agents, or other persons for such solicitation or based on the sale of securities displayed or referenced on its website or portal; (4) hold, manage, possess, or otherwise handle investor funds or securities; or (5) engage in such other activities as the SEC, by rule, determines appropriate.
Earlier this year, FINRA enacted its own Funding Portal rules. As previously discussed on our Business Law News Blog, they are a “light” version of the general standards that apply to traditional brokers. Of relevance here, the abbreviated conduct rule (Funding Portal Rule 200) prohibits a funding portal member from effecting any transaction in, or inducing the purchase or sale of, any security by means of, or by aiding or abetting, any manipulative, deceptive or other fraudulent device or contrivance. It also prohibits the use of false and misleading statements.
Alleged Violations
FINRA alleged that UFP failed to properly vet issuers using its platform for potential investment fraud. According to the Acceptance, Waiver and Consent (AWC) filed by FINRA, “UFP did not deny access to its platform when it had a reasonable basis for believing that issuers or offerings presented the potential for fraud or otherwise raised concerns about investor protection.”
[H]ad an impractical business model, oversimplified and overly-optimistic financial forecasts, and other warning signs. For example, 13 of the issuers – despite having different business models – all coincidentally listed identical amounts for their target funding requests, maximum funding requests, price per share of stock, number of shares to be sold, total number of shares, and equity valuations. None of these 13 issuers reported any assets or history of operations before May 2016, and each claimed an unrealistic, unwarranted, and identical $5 million equity valuation.
For crowdfunding and issuers, the settlement highlights that FINRA and the SEC will be closely monitoring the equity crowdfunding marketplace. While the allegations against UFP LLC reflected flagrant violations of the crowdfunding rules, enforcement actions involving less serious compliance failures are likely on the horizon. This is already occurring in England, where the crowdfunding activity has been more active than in the US, and more investment losses and company failures resulting from improper activities have been seen.
Tweaking is clearly needed to the crowdfunding process and regulations on both sides of the ocean. However, if you have any questions or if you would like to discuss the matter further, please contact me, Dan Brecher, at 201-806-3364.
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The Financial Industry Regulatory Authority (FINRA) recently expelled crowdfunding platform uFundingPortal (UFP) LLC. It marks the first FINRA settlement over alleged violations of the crowdfunding rules enacted pursuant to the Jumpstart Our Business Startups Act (JOBS Act).
Regulations for Crowdfunding Portals
Under the JOBS Act, funding portals relying on the crowdfunding exemption must register with the Securities and Exchange Commission (SEC) and become a FINRA member. The statute further specifies that a funding portal may not: (1) offer investment advice or recommendations; (2) solicit purchases, sales, or offers to buy the securities offered or displayed on its website or portal; (3) compensate employees, agents, or other persons for such solicitation or based on the sale of securities displayed or referenced on its website or portal; (4) hold, manage, possess, or otherwise handle investor funds or securities; or (5) engage in such other activities as the SEC, by rule, determines appropriate.
Earlier this year, FINRA enacted its own Funding Portal rules. As previously discussed on our Business Law News Blog, they are a “light” version of the general standards that apply to traditional brokers. Of relevance here, the abbreviated conduct rule (Funding Portal Rule 200) prohibits a funding portal member from effecting any transaction in, or inducing the purchase or sale of, any security by means of, or by aiding or abetting, any manipulative, deceptive or other fraudulent device or contrivance. It also prohibits the use of false and misleading statements.
Alleged Violations
FINRA alleged that UFP failed to properly vet issuers using its platform for potential investment fraud. According to the Acceptance, Waiver and Consent (AWC) filed by FINRA, “UFP did not deny access to its platform when it had a reasonable basis for believing that issuers or offerings presented the potential for fraud or otherwise raised concerns about investor protection.”
[H]ad an impractical business model, oversimplified and overly-optimistic financial forecasts, and other warning signs. For example, 13 of the issuers – despite having different business models – all coincidentally listed identical amounts for their target funding requests, maximum funding requests, price per share of stock, number of shares to be sold, total number of shares, and equity valuations. None of these 13 issuers reported any assets or history of operations before May 2016, and each claimed an unrealistic, unwarranted, and identical $5 million equity valuation.
For crowdfunding and issuers, the settlement highlights that FINRA and the SEC will be closely monitoring the equity crowdfunding marketplace. While the allegations against UFP LLC reflected flagrant violations of the crowdfunding rules, enforcement actions involving less serious compliance failures are likely on the horizon. This is already occurring in England, where the crowdfunding activity has been more active than in the US, and more investment losses and company failures resulting from improper activities have been seen.
Tweaking is clearly needed to the crowdfunding process and regulations on both sides of the ocean. However, if you have any questions or if you would like to discuss the matter further, please contact me, Dan Brecher, at 201-806-3364.
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