House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Scott Morrison MP)

Chapter 6 Investor Protections

Outline of chapter

6.1 This Chapter sets out the investor protection provisions that are part of the CSF regime.

6.2 All legislative references within this Chapter are to the Corporations Act 2001 unless specified otherwise.

Summary of new law

6.3 The amendments establish certain protections for all investors, with some additional protections applying to retail clients. These protections ensure that investors can make informed decisions and reduce the extent to which they may be subjected to excessive levels of risk under the new CSF regime.

6.4 The additional protections that apply to retail clients are:

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an investor cap of $10,000 per issuer via a particular intermediary within a 12-month period;

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unconditional cooling-off rights;

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a prohibition on providing financial assistance to enable investments in CSF offers; and

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the requirement to obtain a risk acknowledgment prior to accepting a CSF application.

6.5 The amendments restrict the advertising of CSF offers or intended CSF offers.

6.6 The existing prohibition on securities hawking may apply to certain offers of securities that are also the subject of a CSF offer.

6.7 The amendments make it an offence for a person to make an offer that is expressed as a CSF offer but that relates to a company that has not yet been formed or does not exist.

Comparison of key features of the new law and current law

Detailed explanation of new law

6.8 The CSF regime contains certain investor protections that apply only to an investor treated as a retail client in relation to the CSF offer.

Protections for retail clients

6.9 For the purposes of the CSF regime, a retail client for the purpose of a CSF offer is defined in the same way as a retail client for the purpose of a crowd-funding service [Schedule 1, Part 1, item 14, section 738D]. Paragraphs 3.21 to 3.24 explain when a person will be treated as a retail client in relation to a crowd-funding service.

Investor caps

6.10 The Bill establishes a $10,000 cap as the maximum amount a retail client can invest in relation to CSF offers by a particular issuer via the same intermediary within a 12-month period to limit a retail investor's exposure to a single company. The amount of the cap can be adjusted by regulations. [Schedule 1, Part 1, item 14, subsection 738ZC(1)]

6.11 The investment cap is applied as an obligation on a CSF intermediary to reject an application from a retail client where it would otherwise breach the cap. When assessing whether the cap would be breached, the intermediary should only take account of investments made on its offer platform and not investments made in the issuer company via other platforms.

6.12 It is expected that CSF intermediaries will have the necessary systems to ensure that amounts invested by retail investors are appropriately tracked so that an application from a retail client that would exceed the cap is rejected. Where an application is rejected because it would otherwise breach the cap, the intermediary must refund application money to the investor as soon as practicable [Schedule 1, Part 1, item 14, paragraph 738ZB(4)(b)].

Example 6.1 : Investor caps

On 2 January of the current year, Donna makes an application to invest $9,000 in a CSF offer by New Tech Ltd via Value Add Pty Ltd, a licensed CSF intermediary.

New Tech's CSF offer is successful and the company decides to make a second CSF offer 6 months later using the Value Add platform again. Donna was very happy with her investment in New Tech and decides to participate in their second offer.

On 5 July Donna attempts to make an investment of $5,000 in New Tech but is unable to complete the application on the Value Add platform. This is because the $5,000 allocation would take her total investment in New Tech via the Value Add platform beyond the $10,000 cap within 12 months.

6.13 The Bill provides rules relating to the investor cap if two or more people make a joint application for securities. Where there are joint applicants, each of the applicants is taken to have made an individual application for the purposes of calculating the amounts contributing to each applicant's investor cap. The amount each of the applicants is considered to have invested is determined by dividing the total amount invested under the joint application by the total number of applicants. [Schedule 1, Part 1, item 14, subsection 738ZC(2)]

6.14 If the amount being attributed to each applicant under a joint application would result in any one of the individual applicants exceeding their investor cap, the CSF intermediary must reject the joint application and refund the application money. There is a regulation-making power to allow the default rules relating to joint applications to be amended by regulation. [Schedule 1, Part 1, item 14, subsection 738ZC(2)]

6.15 An intermediary that does not reject an application by a retail client, which leads to a breach of the investor cap, commits an offence punishable by a maximum penalty of 30 penalty units. [Schedule 1, Part 1, item 14, subsection 738ZC(1) and item 34, item 245Q in the table to Schedule 3]

6.16 In the case of a prosecution related to this offence, the defendant would bear an evidential burden for establishing that the investor was not a retail client in relation to the CSF offer [Schedule 1, Part 1, item 23, subsection 761G(8)]. Imposing the evidential burden on the defendant is necessary and appropriate to ensure investors that are retail clients are provided with the additional investor protections, such as the investor cap, provided to retail clients under the CSF regime.

6.17 There are no penalties for a retail client that makes, or purports to make, an application that exceeds the investor cap.

Cooling-off rights

6.18 The Bill provides all retail clients who make an application in relation to a CSF offer with an unconditional right to withdraw their application within 48 hours of it being made [Schedule 1, Part 1, item 14, subsection 738ZD(1)]

6.19 The cooling-off rights provide retail clients with time to reconsider their decision to invest and allow the investor to withdraw their application in the event they no longer wish to proceed with the investment.

6.20 The investor must exercise their cooling-off rights in accordance with the method specified by the intermediary. [Schedule 1, Part 1, item 14, subsection 738ZD(2)]

6.21 The intermediary is required to display information regarding the retail investors' statutory cooling-off rights prominently on the offer platform including the means by which an investor can exercise those rights [Schedule 1, Part 1, item 14, subsection 738ZA(8)]. These requirements are discussed in paragraphs 3.70 to 3.71.

6.22 Where an investor exercises their cooling-off rights, the intermediary must refund their application money as soon as practicable. [Schedule 1, Part 1, item 14, paragraph 738ZB(4)(a)]

Example 6.2 : Exercise of cooling-off rights

Eric applies to invest $7,000 in a CSF offer by AlphaBeta Ltd via the Value Add Pty Ltd CSF platform at 10:00 am on 20 April. He thinks about his decision to invest and at 9:00 am on 21 April he decides that he has changed his mind and wants to withdraw his application.

Eric can withdraw as he is within the 48 hours withdrawal period but he must indicate his withdrawal to Value Add in accordance with the instructions they have provided on their platform.

Example 6.3 : Exercise of cooling-off rights on a public holiday

Bec also applies to invest $4,000 in the same CSF offer by AlphaBeta Ltd at 5:30 pm on 23 April. She decides at 1:00 pm on 25 April that she wants to withdraw her application.

Bec is able to withdraw her application as she is within the 48 hour withdrawal period even though 25 April is ANZAC Day and a public holiday across Australia. She will have to withdraw the application in accordance with the instruction provided on the platform. The platform operator will have to ensure that the withdrawal can be made even though it is a public holiday. 6.23 Intermediaries will also have to have appropriate mechanisms to ensure that potential investors can access their withdrawal rights in the event of technical or other problems with the platform, including unavailability for routine maintenance.

Prohibition on the provision of financial assistance

6.23 The Bill prohibits the following persons from providing financial assistance or arranging to provide financial assistance to a person that is a retail investor:

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a company making the CSF offer or intended offer (an offer that is yet to be made);

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related parties of the company;

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a CSF intermediary that is hosting or intending to host the CSF offer; and

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any associates of the CSF intermediary. [Schedule 1, Part 1, item 14, subsections 738ZE(1) and (2)].

6.24 The amendments define who is taken to be a related party of the company (refer to paragraphs 2.45 to 2.49). An 'associate' of an intermediary is determined in accordance with sections 10 to 17.

6.25 The Bill confirms that the prohibition applies whether the financial assistance was provided before or after the acquisition of securities under the offer and also covers financial assistance provided in the form of a dividend [Schedule 1, Part 1, item 14, subsection 738ZE(3)]. The Bill provides that the terms 'financially assist' and 'financial assistance' have the same meanings as they do for section 260A of the Act [Schedule 1, Part 1, item 14, subsection 738ZE(4)].

6.26 Contravention of the prohibition is an offence, punishable by a maximum penalty of 300 penalty units, five years imprisonment, or both. The term of imprisonment is consistent with the penalty applicable under section 260A. The penalty of 300 penalty units has been calculated based on the fine/imprisonment ratio of 5:1 specified in the Government's Guide to Framing Commonwealth Offences, Infringement Notices and Enforcement Powers (section 3.1.3 of the Guide refers). [Schedule 1, Part 1, item 34, item 245R in the table to Schedule 3]

Protections applying to all investors

Advertising restrictions

6.27 The Bill provides for a general prohibition on advertising CSF offers except in certain circumstances.

6.28 The purpose of the advertising rules is to protect investors by ensuring they make informed decisions regarding the merits of a CSF offer based on the information contained in the CSF offer document rather than advertisements.

6.29 Issuers and intermediaries are permitted to advertise CSF offers as long as the advertisement or publication complies with the rules set out in the Bill.

Scope of the advertising prohibitions

6.30 The advertising restrictions apply to advertisements of CSF offers and intended CSF offers (offers that are yet to be made). [Schedule 1, Part 1, item 14, paragraph 738ZG(1)(a)]

6.31 The advertising restrictions also apply to statements that refer to CSF offers or intended offers (whether directly or indirectly) or statements that are reasonably likely to induce people to apply for securities under a CSF offer or intended offer. [Schedule 1, Part 1, item 14, paragraph 738ZG(1)(b)]

When a statement will be taken to indirectly refer to a CSF offer or to reasonably induce investors to apply

6.32 In determining whether a statement indirectly refers to a CSF offer or intended offer, or is reasonably likely to induce investors to apply for securities offered under a CSF offer or intended offer, the Bill provides that regard must be had to three factors:

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whether the statement is part of normal advertising directed at maintaining or attracting customers [Schedule 1, Part 1, item 14, paragraph 738ZG(3)(c)];

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whether the statement contains information that deals with the affairs of the body publishing the statement [Schedule 1, Part 1, item 14, paragraph 738ZG(3)(d)]; and

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whether an investor would likely be encouraged to invest in the securities on the basis of the statement rather than the CSF offer document [Schedule 1, Part 1, item 14, paragraph 738ZG(3)(e)].

Not within scope of the advertising restrictions

6.33 The advertising restrictions do not apply to the publication of a CSF offer, CSF offer document, or any other information relating to a CSF offer that is on the platform of the intermediary [Schedule 1, Part 1, item 14, subsection 738L(4) and paragraph 738ZG(2)(a)]. In the absence of this carve out, the intermediary would be required to include a statement that a person should, in deciding whether to make an application under the offer, consider the CSF offer document and general CSF risk warning (refer to paragraphs 6.40 to 6.43). However, it would be unnecessary to include a statement directing a person's attention to the offer document and the general CSF risk warning given, in order to read the statement, the person would already have to be viewing the offer platform which would itself already display the CSF offer document and general CSF risk warning.

6.34 However, the Bill provides that statements made on a communication facility, even where the communication facility is part of the offer platform, will remain subject to the advertising restrictions [Schedule 1, Part 1, item 14, subsection 738ZG(2)]. There is a separate exception to the advertising rules that applies for statements made in good faith on the communication facility, discussed at paragraphs 6.52 to 6.57.

6.35 The advertising restrictions do not apply to advertisements or publications that do not refer to particular CSF offers or intended offers and that do either or both of the following:

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identify a person as a CSF intermediary;

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provide general information about the intermediary's CSF services. [Schedule 1, Part 1, item 14, paragraph 738ZG(2)(b)]

6.36 This exclusion from the advertising restrictions is to permit the intermediary to advertise its intermediation services.

Exceptions to the advertising restrictions

6.37 The Bill sets out some exceptions to the advertising restrictions that are consistent with the exemptions available in relation to advertising other types of offer documents under chapter 6D of the Act. [Schedule 1, Part 1, item 14, section 738ZG(4)]

6.38 A person relying on one of these exemptions has an evidential burden of pointing to the relevant evidence that suggests a reasonable possibility that the matters required under an exemption exists. Once the defendant discharges this evidential burden, the onus is on the prosecution to disprove the matters beyond reasonable doubt.

6.39 This approach is consistent with the principle in the Guide to Framing Commonwealth Offences, Infringement Notices and Enforcement Powers which establishes the general rule that a defendant should only bear an evidential burden of proof for an offence specific defence. In this case, the person seeking to use one of the exemptions to the restrictions on the publication of CSF offers is required to bear an evidential burden in showing that the specific exemption applies.

Advertisement includes a statement that a person must, in deciding whether to invest in the CSF offer, consider the CSF offer document and risk warning

6.40 An advertisement or publication will not contravene the advertising restrictions where the advertisement or publication includes a statement that a person should, in deciding whether to make an application under the offer, consider the CSF offer document and general CSF risk warning. [Schedule 1, Part 1, item 14, subsection 738ZG(6)]

6.41 A person relying on this exemption has the evidential burden of demonstrating that their statement complies with the requirements to fall within the exemption as they are best placed to provide this evidence. The same requirements apply whether the advertisement is in relation to an open CSF offer (one where the CSF offer document has been published) or an intended offer. This is different to how advertisements relating to offers of an unlisted company are treated: an advertisement made before the disclosure document has been lodged with ASIC is subject to stricter controls regarding what can be included in the advertisement than an advertisement made after the disclosure document has been lodged (paragraph 734(5)(b) compared with subsection 734(6)).

6.42 The rationale for relaxing some of the advertising restrictions applying to intended offers is that the CSF regime builds in certain investor protections, for example, that applications can only be made via the platform of an intermediary that is required to prominently display important information for investors (such as the CSF offer document and risk warning). The regime also provides additional protections for retail investors (such as the unconditional cooling-off rights).

6.43 Where the advertisement or publication does not include the required statement (and no other exceptions apply), the person advertising or publishing the statement will commit an offence (refer to paragraphs 6.64 to 6.66).

Exception for publishers

6.44 Media businesses that publish an advertisement in the ordinary course of their business are not subject to the advertising restrictions. The exception only applies if the media business does not know and does not suspect that the publication would breach the advertising restrictions. [Schedule 1, Part 1, item 14, subsection 738ZG(7)]

6.45 The exception only applies in relation to media businesses that are newspapers, magazines, radio and television broadcasters, and their electronic equivalents. [Schedule 1, Part 1, item 14, subsection 738ZG(10)]

6.46 A publisher relying on this exemption will bear the evidentiary burden in this case as the exemption relies on their state of mind.

6.47 The exception also extends to news reports or other genuine comment in the media that refer to a CSF offer document that is published on an intermediary's platform, information in such an offer document and information that is contained in certain other permitted reports. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(c)]

6.48 It is appropriate for the person claiming the defence to bear the evidential burden as they are best placed to point to the source of the information used. Reports about securities of the company making the CSF offer or intended offer that are published by an independent third party are also an exception to the advertising restrictions. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(d)]

6.49 An entity will be considered an independent third party if it is: not the company making the CSF offer; not acting for that company; not a director of the company; not the CSF intermediary hosting the offer; and not anyone else who has an interest in the success of the issue of the securities. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(d)]

6.50 An entity will not be considered independent if they receive consideration or any other benefit for the publication that contravenes the advertising restrictions. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(d)]

6.51 In this case, it is appropriate that the person making the publication bear the evidential burden as they are best placed to demonstrate their independence from the company making the CSF offer. An advertisement or publication not covered by this exception will contravene the advertising restrictions (unless another exception applies) and the person advertising or publishing the statement will commit an offence (refer to paragraphs 6.64 to 6.66).

Statements made in good faith on the communication facility

6.52 This exception to the advertising restrictions is to enable statements to be made on the communication facility for a CSF offer as long as the statement is made in good faith. [Schedule 1, Part 1, item 14, subsection 738ZG(8)]

6.53 The evidential burden of demonstrating that the statement was made in 'good faith' falls on the person making the statement. This is appropriate as the person making the statement is best placed to raise evidence as to why the statement was made in good faith, given it could at least in part involve some inquiry as to the person's state of mind and knowledge.

6.54 In the absence of this exception, any person (including a prospective investor) making a statement on the communication facility would be required to include, in addition to their statement, a statement that a person, in deciding whether to make an application pursuant to the CSF offer, should consider the CSF offer document and general CSF risk warning. If the person failed to include the required statement, they would breach the advertising restrictions and commit a strict liability offence, punishable by a maximum penalty of 30 penalty units.

6.55 As it would be impracticable to require every person using the communication facility to include the required statement every time they made a statement on the facility, the amendments create an exception for statements made in good faith on the communication facility, by any person (including the issuer company or intermediary). [Schedule 1, Part 1, item 14, subsections 738ZG(1) and (8)]

6.56 A statement not made in good faith would not be covered by this exception. The evidential burden of demonstrating that the statement was made in 'good faith' falls on the person making the statement. This is appropriate as the person making the statement is best placed to raise evidence as to why the statement was made in good faith, given it could at least in part involve some inquiry as to the person's state of mind and knowledge.

6.57 Where the person is unable to show the statement was made in good faith, the person will commit an offence (refer to paragraphs 6.64 to 6.66).

Exceptions for certain reports and notices

6.58 This exception is to enable the publication of certain notices and reports relating to a company making a CSF offer.

6.59 The exception enables the publication of a notice or report of a general meeting of a company making a CSF offer. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(a)]

6.60 In this case, it is appropriate that the person making the publication bears the evidentiary burden of showing that it consists solely of a notice or report of the company's general meeting as that person is best placed to have records of the meeting and know the circumstances surrounding the meeting.

6.61 The exception also covers reports about the company that are published as long as the reports do not contain material information about the company that is not included in the CSF offer document or annual report and do not actually refer to the CSF offer. [Schedule 1, Part 1, item 14, paragraph 738ZG(9)(b)]

6.62 The person making the publication is best placed to bear the evidential burden in these circumstances as they are best placed to point to the source of information previously made public by the company.

6.63 An advertisement or publication not covered by this exception will contravene the advertising restrictions (unless another exception applies) and the person advertising or publishing the statement will commit an offence (refer to paragraphs 6.64 to 6.66).

Consequences of contravening the advertising restrictions

6.64 A person that advertises or publishes a statement in contravention of the advertising restrictions commits a strict liability offence, punishable by a maximum penalty of 30 penalty units [Schedule 1, Part 1, item 14, subsection 738ZG(5) and item 34, item 245T in the table to Schedule 3].

6.65 Strict liability is appropriate because of the importance of ensuring that investors applying for CSF offers do so after forming a view of the merits of the CSF offer, based on the information contained in the CSF offer document and having regard to the general CSF risk warning. This is particularly important given CSF investments will be high risk (given the relatively high failure rate of start-ups and small businesses).

6.66 The penalty of 30 penalty units complies with the Government's Guide to Framing Commonwealth Offences, Infringement Notices and Enforcement Powers as it is below the recommended maximum penalty of 60 penalty units and does not include a term of imprisonment.

Prohibition on hawking securities

6.67 Section 736 prohibits a person from offering securities for issue (or sale) in the course of, or because of, an unsolicited meeting or telephone call. The prohibition on securities hawking in Part 6D.3 is an important safeguard against a person being pressured into acquiring securities without potentially having all of the information to make an informed decision or the benefits of the protections offered under the CSF regime.

6.68 The prohibition has not been specifically amended to apply to CSF offers because CSF offers can only be made via an intermediary's platform. Nevertheless, it is possible for the securities hawking prohibition to apply to securities under a CSF offer where the offer actually made in the course of the unsolicited meeting or telephone call is not expressed to be made as a CSF offer. In such cases, the offer will not be a CSF offer and will, therefore, be covered by the securities hawking prohibition in section 736.

6.69 Where the person offering the securities does so in a way that the offer is expressed as a CSF offer (and the offer is eligible to be made as a CSF offer), the prohibition on securities hawking will not apply (refer to paragraph 2.10). However, as the CSF offer would have been made otherwise than on the platform of an intermediary, the rules regarding how a CSF offer must be made (refer Chapter 4 of the Explanatory Memorandum) will have been contravened, which is an offence.

Offering securities of a company that does not exist

6.70 The amendments prohibit a person from making an offer expressed as a CSF offer in relation to a company that has not been formed or that does not exist [Schedule 1, Part 1, item 14, section 738ZF]. This is comparable to the rule in section 726, which makes it an offence for a person to offer securities in a body that has not been formed or that does not exist where the offer requires disclosure under Part 6D.2. Section 726 does not apply to a CSF offer as a CSF offer is not an offer requiring disclosure under Part 6D.2, which is why these amendments create a new offence.

6.71 The offence carries a maximum penalty of 300 penalty units, five years imprisonment, or both [Schedule 1, Part 1, item 34, item 245S in the table to Schedule 3].

ASIC stop order powers

Defective advertising of CSF offers

6.72 ASIC's stop order powers have been extended so that they apply where an advertisement or publication for a CSF offer or intended offer is defective because there is a misleading or deceptive statement in the advertisement, or the advertisement does not include the required statement advising that a person should, in considering whether to apply for the offer, consider the CSF offer document and general CSF risk warning [Schedule 1, Part 1, items 15, 18 and 19, paragraph 739(1)(f), subsection 739(6) and paragraph 739(6)(c)].

6.73 Where the advertisement is defective, ASIC may order may that the relevant conduct specified in the stop order must not be engaged in. [Schedule 1, Part 1, item 17, paragraph 739(1A)(b)]

Offers expressed as, but not eligible to be, CSF offers

6.74 The amendments extend ASIC's stop order powers so that they apply to offers expressed to be made as CSF offers but that are not eligible to be made as CSF offers. [Schedule 1, Part 1, item 15, paragraph 739(1)(g)]

6.75 ASIC may order that no offers, issues, sales or transfers of the securities are to take place while the order is in force. [Schedule 1, Part 1, item 16, paragraph 739(1A)(a)]

Consequential amendments

6.76 A consequential amendment has been made to one of the exceptions to the existing advertising restrictions in Part 6D.3 to add CSF offer documents. The consequential amendment is intended to cover the situation where a company has made both a CSF offer and an offer requiring disclosure under Chapter 6D. A reference to both offers in a report of the company could breach both the advertising restrictions in the CSF regime as well as the existing restrictions applying to advertising of disclosure documents. The effect of the consequential amendment is that a report about a company that does not contain material information about the company that has not previously been included in a Chapter 6D disclosure document or a CSF offer document and that does not refer to the offers will not contravene the existing advertising restrictions in Part 6D.3. [Schedule 1, Part 1, item 13, subparagraph 734(7)(c)(i)]

6.77 Consequential amendments have been made to subsection 1018A(4). The subsection sets out the general exceptions to advertising restrictions applying to financial products. An existing exception for reports by the issuer where information was previously made available in a disclosure document lodged with ASIC has been extended to include CSF offer documents. An exception for news reports, or genuine comment, in the media relating to information contained in a disclosure document lodged with ASIC has been extended to include CSF offer documents. [Schedule 1, Part 1, items 28 and 29, subparagraphs 1018A(4)(c)(i) and 1018A(4)(d)(i)]