Television Education Network

The 2nd Annual Business Acquisitions Conference

Session 3: Purchaser: Raising Capital to Fund an Acquisition

Thursday 4 June 2015

Presented By:

Stephen Newman
Executive Counsel
Hope Earle Lawyers


Finance, whether in the form of equity or debt, is vital for the formation, growth and continuing existence of business enterprises. There are many forms of finance that a business enterprise will look to and what it selects will be determined by the stage of maturity it has reached. A start-up will rely on different sources of finance to a multi-national.

There are many sources of finance including: personal finances, crowd sourced funding, venture capital, private equity, government grants, peer to peer lending and public capital raisings.

Raising finance is not easy. Banks and other financial institutions have strict lending guidelines while private funding sources have strict investment guidelines. There are always hurdles to jump to obtain finance, assuming you have jumped the biggest hurdle, namely having a business or business idea that financiers or investors will want a piece of.

Apart from these hurdles, there are also a myriad of legal and regulatory hurdles to jump over. An examination of those hurdles, insofar as they apply to raising equity finance, other than through a securities exchange, follows.

All references to Chapters, Parts and sections in this paper are to Chapters, Parts and sections of the Corporations Act 2001 (CA) unless otherwise stated.

Chapter 6D CA - Fundraising

Offers of Securities That Require Disclosure

Chapter 6D deals with the fundraising and disclosure requirements for the issue of securities in Australia. These requirements principally deal with two types of fundraising: those that require ‘disclosure’ to investors through a disclosure document and those that do not.

Chapter 6D does not apply to a proprietary company. Section 113 provides that a proprietary company must not engage in any activity that would require disclosure to investors under Chapter 6D except for an offer of its shares to existing shareholders of the company or employees of the company or a subsidiary of the company.

Section 700 provides certain pivotal definitions. Section 700(2) states that Chapter 6D covers both ‘offers’ as well as ‘invitations’ while section 700(3) states that “the person who offers securities is the person who has the capacity, or who agrees, to issue or transfer the securities if the offer is accepted”. Section 700(4) provides that Chapter 6D applies to offers of securities that are received in Australia regardless of where any resulting issue, sale or transfer occurs.

Section 703 prohibits any form of contracting out of the requirements of Chapter 6D in any contract for the sale or issue of securities.

Section 704 prescribes sections 706, 707, 708, 708AA and 708A as the sections that say when an offer of securities need disclosure to investors.

Issues and Sales of Securities that Need Disclosure

Chapter 6D prescribes when issues and sales of securities need disclosure to investors. Section 706 states that an offer of securities for sale needs disclosure to investors unless section 708 or section 708AA says otherwise (bolding added).

Section 707(1) to (3) deals with when disclosure to investors is required in the case of secondary sales of securities. Disclosure is required where, in the case of a controller of a body, the sale is off-market or in the case of ‘indirect’ sales (being a sale within 12 months of an issue of securities where there had been no previous disclosure to investors), either the issuer or the acquirer issued or acquired them with the purpose of selling or transferring them, or granting, issuing or transferring interests in, or options over them and sections 708 or 708A do not provide an exemption from disclosure.

In short, disclosure to investors is always required unless the issuer or seller can bring themselves within one or more of the prescribed exceptions to ‘the general rule’.

To reinforce this general principle, sections 707(4) and (5) create a presumption that the issuer and acquirer intended to on-sell the relevant securities within the 12 month period, if there are reasonable grounds for so concluding. The presumption can be rebutted if it can be shown that the circumstances of the issue or initial sale and the subsequent sale or offer are not such as to give rise to reasonable grounds for concluding that the securities were issued or acquired with that purpose.

Types of Disclosure Documents

Section 705 provides for four different types of disclosure document.

The first is the prospectus. A full prospectus is most commonly used for an initial public offering of securities.

Section 710(1) sets out the guiding principle for a prospectus as follows:

“a prospectus for a body’s securities must contain all the information that investors are their professional advisers would reasonably require to make an informed assessment of the matters set out in the table below.”

In short, a prospectus must detail the rights and liabilities attaching to the securities offered and the assets and liabilities, financial position and performance, profits and losses and prospects of the body that is to issue the securities.

Section 761 defines “security” (for the purpose of Chapter 6D) to mean:

  1. a share in a body; or
  2. a debenture of a body; or
  3. a legal or equitable right or interest in a security covered by paragraph (a) or (b);or
  4. an option to acquire, by way of issue, a security covered by paragraph (a) or (b);
  5. a simple corporate bonds depository interest; but does not include an excluded security (and excludes a simple corporate bonds depository interest in simple corporate bonds, where the simple corporate bonds were issued under a 2-part simple corporate bonds prospectus).

The table referred to in section 710(1) is found in section 711. This section sets out the specific information that must be in a prospectus such as the terms and conditions of the offer, whether the securities are to be traded on a securities market, the interests of and fees to be paid to people involved in the offer and so on. This section does not limit the guiding principle in section 710(1).

The second is the short form prospectus. A short form prospectus is the same as a prospectus except that it permits the incorporation by reference of a document that has already been lodged with the ASIC. A copy of any such document must be provided on request.

The third is a profile statement. This document provides a summary of what a prospectus contains. Specifically, it must, among other things: identify the body and the nature of the securities; state the nature of the risks involved in investing in the securities; give details of all amounts payable in respect of the securities (including any amounts by way of fee, commission or charge); and state that the person given the profile statement is entitled to a copy of the prospectus free of charge.

A profile statement can only be used where its use is approved by the ASIC. There are no currently approved uses.

The fourth is an offer information statement. An OIS is not a prospectus and has a lower level of disclosure requirements than a prospectus. An OIS must contain a current audited financial report and a warning to investors that they should obtain professional investment advice before investing. No more than $10 million in the aggregate can be raised using an OIS.

Regulatory Process

Section 717 provides a signpost to the provisions of the CA that must be followed to undertake a fundraising under Part 6D.2. Further guidance can be found in Regulatory Guides and Class Orders issued by the ASIC.

All disclosure documents must be lodged with the ASIC before the offer can be used to raise funds. Details of the disclosure document must be entered into the ASIC’s OFFERlist electronic platform.

Section 739 empowers the ASIC to issue a ‘stop order’ on offers being made under a disclosure document where the ASIC is satisfied that the disclosure documents contains a misleading and deceptive statement, does not comply with the requirement that it be worded and presented in a clear, concise and effective manner or there is a ‘defect’ in the publicity relating to an offer or intended offer of securities.

An interim stop order may be made if the ASIC considers that it is in the public interest that such an order be made. The maximum duration of an interim stop order is 21 days. If the ASIC wants to make the interim stop order permanent, it must hold a hearing and provide ‘interested people’ with a reasonable opportunity to be heard.

The most recent stop order imposed by the ASIC related to Bitcoin Group Limited (Bitcoin). Bitcoin posted publications on ‘Wechat’, a social media application, seeking expressions of interests from potential investors to subscribe for shares if there was a proposed listing of the company on the ASX. These publications were made before Bitcoin was registered as an Australian company and before a prospectus was lodged. The stop order issued by the ASIC prohibited Bitcoin from publishing any statements concerning its intention to make an IPO offering of its shares prior to the lodgement of a prospectus.

Section 741 provides the ASIC with the power to exempt from or modify the application of Chapter 6D to an offer of securities made under the Chapter.

Further Requirements

Section 715A requires that a disclosure document must be worded and presented in a “clear, concise and effective manner”. ASIC Regulatory Guide 228 provides further guidance about the meaning of this phrase and how it is to be applied.

Section 719 provides that if a disclosure document contains a misleading or deceptive statement, an omission that the CA requires be included in a disclosure document or new circumstances arise after the disclosure document was issued that are materially adverse from an investor’s point of view, then the issuer is obliged to issue a replacement or supplementary disclosure document, if a breach of the CA is to be avoided.

Section 722 provides that all application money raised under an offer for securities under a disclosure document must be held in trust until the securities are issued to the applicants or returned to them.

Section 724 provides further guidance as to the circumstances in which section 722 applies. If a minimum raising condition is not met, any of the circumstances referred to in section 719 exist or where the securities are to be listed for quotation on a financial market but certain time limits for achieving that are not met, then the issuer must either return the funds raised or provide certain specified documents and advise the investor of their right to withdraw their application and be repaid.

A disclosure document has a shelf life of 13 months only.

Offers of Securities That Do Not Require Disclosure

Section 708 sets out the circumstances in which an offer or invitation for securities can be made without the need for a disclosure document.

Those circumstances are:

  1. sub-section (1) – personal offers where no more than $2 million is raised in any 12 month period from no more than 20 persons (the 20/12/2 rule; also known as the small-scale offering rule) (see sub-sections (2) to (7) for further guidance as to how to apply sub-section (1);
  2. sub-section (8) – where the investor pays not less than $500,000 for the securities on offer or that investor has the specified amount of assets or income (sophisticated investor rule);
  3. sub-section 11 – where the investor is a professional investor (this term is defined in section 9);
  4. sub-section 12 – offers made to specified people associated with the body offering the securities;
  5. sub-section 13 – existing holders of securities who meet certain criteria;
  6. sub-section 15 – offers made for no consideration;
  7. sub-section 17 – offers made under a compromise or arrangement under Part 5.1;
  8. sub-section 17A – offers made under a Deed of Company Arrangement;
  9. sub-section 18 – offers made under a takeover conducted under Chapter 6;
  10. sub-section 19 – offers of debentures to certain bodies; and
  11. sub-sections 20 & 21 – offers to certain exempt bodies.

Section 708(1) was considered in Australian Securities and Investments Commission v Cyclone Magnetic Engines Inc & Ors.1 The ASIC alleged that the Respondents offered securities without a current disclosure document for the purpose of raising funds for the development of a ‘perpetual motion’ machine. There was no dispute that offers of securities were made, that no disclosure document was lodged, that application forms for the offers were distributed and that during the relevant period less than $2 million was raised.

The Respondents sought to rely on section 708(1) in their defence and argued that the onus of proof as to whether there had been a breach of section 708 fell on the ASIC. Martin J disagreed and held that the onus fell on the Respondents to bring themselves within section 708(1). As the Respondents failed to proffer any evidence on this score and the ASIC put forward evidence showing that offers had been made during the relevant period to at least 70 people, the Respondents failed in this part of their defence.

In addition to section 708(1), ASIC Class Order 02/273 (Business Introduction or Matching Services) permits capital raisings up to $5 million under certain circumstances without the need for a disclosure document. The best-known Australian business introduction and matching service is the Australian Small Scale Offerings Board.1 It has raised over $143 million to date.

Rights Issues

Section 708AA exempts rights issues in respect of quoted securities from the disclosure requirements in Chapter 6D subject to certain other tests being met as set out in the section.

Jurisdictional Coverage

Chapter 6D only applies to offers of securities “received in this jurisdiction”, regardless of where any resulting issue, sale or transfer occurs. Therefore, an Australian body offering its securities outside of Australia will not be subject to Chapter 6D while an overseas body offering its securities to persons present in Australia will be subject to Chapter 6D.

Advertising and Publicity

Section 734 governs when and how an issuer can advertise or publicise an offer or intended offer of securities.

A small-scale offering cannot be advertised or publicised in any way. Offers or intended offers of securities that need a disclosure document can be advertised or publicised if they meet one or other of the criteria set out in section 734(4) to (7).

Due Diligence and Liability for Defects in a Disclosure Document

Because of the complexities involved in preparing a disclosure document and the potential liability for loss and damage that can flow from a defective disclosure document, it is vital that an issuer and persons associated with the issue undertake a proper due diligence process.

Conducting a due diligence process is most often associated with the preparation and issue of a prospectus for the purpose of a listing on a securities exchange. However, this process can be tailored for the issue and preparation of disclosure documents other than a prospectus.

At its most rigorous, the due diligence process includes (this is not an exhaustive list):

  1. the establishment of a due diligence committee (which needs to meet regularly);
  2. the preparation of a due diligence planning memorandum, due diligence checklists and questionnaires for directors and officers and senior management;
  3. undertaking legal, accounting and tax reviews;
  4. identifying and dealing with material issues;
  5. retaining appropriate experts;
  6. drafting the prospectus and reviewing/updating it until it is in final form;
  7. verifying the accuracy of all statements and other material included in the prospectus;
  8. obtaining sign-offs on material issues;
  9. obtaining the consents of directors and persons who have made a statement that is included in the prospectus or who have made a statement upon which another statement included in the prospectus is based;
  10. preparation of due diligence reports; and
  11. once the prospectus has been lodged, monitor circumstances to determine whether a supplementary or replacement prospectus is required.

There is no set configuration for the due diligence committee however it usually consists of a chair (who is often either one of the independent directors of the issuer or the legal adviser), an issuer representative, the issuer’s legal adviser, an independent investigating accountant, the underwriter of the listing (if any) and any other relevant expert.

Section 728(1) prohibits an issuer from offering securities under a disclosure document if it (or certain other associated documents) contains a misleading or deceptive statement, omits certain prescribed material or fails to disclose certain new circumstances that have arisen after the disclosure document was lodged.

Section 728(2) provides that a person is taken to have made a misleading statement as to a future matter if they do not have reasonable grounds for making the statement.

Section 728(3) provides that it is an offence to breach section 728(1) where the misleading or deceptive statement or the omission or new circumstance is materially adverse from the point of view of an investor.

Where a person suffers loss and damage because an offer of securities under a disclosure document is in breach of section 728(1), the CA imposes liability for that loss and damage in accordance with section 729(1).

The liability regime is set out in table form, as follows:

People liable on disclosure document [operative]
These people are liable for loss or damage caused by…
1. the person making the offer any contravention of subsection 728(1) in relation to the disclosure document
2. each director of the body making the offer if the offer is made by a body any contravention of subsection 728(1) in relation to the disclosure document
3. a person named in the disclosure document with their consent as a proposed director of the body whose securities are being offered any contravention of subsection 728(1) in relation to the disclosure document
an underwriter (but not a sub-underwriter) to the issue or sale named in the disclosure document with their consent any contravention of subsection 728(1) in relation to the disclosure document
5. a person named in the disclosure document with their consent as having made a statement: (a) that is included in the disclosure document; or (b) on which a statement made in the disclosure document is based the inclusion of the statement in the disclosure document
6. a person who contravenes, or is involved in the contravention of, subsection 728(1) that contravention

An action under section 729(1) must be brought within 6 years after the day on which the cause of action arises.

Section 1041H is another provision that proscribes misleading and deceptive conduct in relation to a financial product or financial service. Securities (that are not defined as an “excluded security”) are a financial product. However, to avoid any doubling up on breaches of the CA, section 1041H(3) makes it clear that the section does not apply to “conduct that contravenes section 728 (misleading or deceptive fundraising document)”.1


Persons named in the above table are required to notify the person making the offer in writing as soon as practicable if they become aware during the application period that a material statement is misleading or deceptive, that there is a material omission or that a material new circumstance has arisen that would have had to have been included in a disclosure document.

Proportionate Liability

To overcome the propensity of plaintiffs to sue the defendant with the ‘deepest pockets’ to recover their loss and damage, Federal and State legislatures introduced proportionate liability regimes into a range of legislation including at the Federal level, the CA and the ASIC Act 2001 and at the State level, in Victoria for instance, the Wrongs Act 1958.

The rationale of the proportionate liability regimes, in general terms, was to ensure that a defendant was only held accountable for the amount of any loss and damage it caused to a plaintiff and not on a joint or several basis that often led to financially sound defendants being liable for 100% of the loss and damage even if they were legally responsible for a lower percentage.

In the CA, the proportionate liability regime can be found in Chapter 7, Part 7.10 Division 2A. However, the proportionate liability regime only applies to “conduct that was done in contravention of section 1041 H CA” and as previously seen by virtue of section 1041H(3), section 1041H does not apply to conduct that contravenes section 728. In short, if a defendant has engaged in conduct that is misleading or deceptive as regards a disclosure document, they will be unable to avail themselves of the proportionate liability regime found in the CA.

Section 1041S provides that:

“Nothing in this Division: affects the operation of any other Act to the extent that it imposes several liability on any person in respect of what would otherwise be an apportionable claim.”

This then raises the question of whether a State Act might apply to assist a defendant. This question was considered by Middleton J in Dartberg Pty v Wealthcare Financial Planning Pty Ltd1.

Dartberg Pty Ltd sought damages for alleged negligent financial advice it had received from the respondents under the CA and the ASIC Act. The respondents sought to rely on the proportionate liability regime in Part IVAA Wrongs Act 1958.

Middleton J observed that the Wrongs Act could not apply of its own force to proceedings in a court exercising federal jurisdiction. Whether or not the Wrongs Act applied was dependent upon the operation of section 79 Judiciary Act 1903 (C’th).

Section 79 Judiciary Act 1903 provides:

“the laws of each State and Territory, including the laws relating to the procedure, evidence, and the competency of witnesses, shall, except as otherwise provided by the Constitution or the laws of the Commonwealth, be binding on all Courts exercising federal jurisdiction in that State or Territory in all cases to which they are applicable.”

His Honour found that the CA and ASIC Act had, relevantly to the claim, not provided for an apportionment regime and that therefore, in accordance with section 79 Judiciary Act 1903, the CA and ASIC Act, being laws of the Commonwealth, had “otherwise provided” for the determination of the relevant liability for breach of the provisions in the CA and the ASIC Act that Dartberg relied upon. Contrary to the respondents’ argument, His Honour was not satisfied that Part IVAA Wrongs Act was complimentary to the relevant provisions of the CA and ASIC Act; in fact, they were inconsistent with those provisions.

Defences to Liability

The CA provides three different defences to a potential claim under section 728.There will be no offence committed if a person can prove that they made all inquiries that were reasonable in the circumstances and by doing so believed on reasonable grounds that the statement was not misleading or deceptive or that there was no omission from the prospectus in relation to that matter.

The second is the ‘lack of knowledge’ defence contained in section 732. This section applies to an offer information statement or a profile statement. There will be no offence committed if a person can prove that they did not know that a statement was misleading or deceptive or that they did not know that there was a relevant omission.

The third are the general defences contained in section 733. First, an offence will not be committed if a person can prove that where there is a misleading and deceptive statement or an omission, that occurred because they placed reasonable reliance on information given to them where the person is a body, by someone other than a director, employee or agent of the body or where the person is an individual, someone other than an employee or agent of the individual.

Secondly, where a person is named in a disclosure document in specified circumstances, there will be no offence where there is a misleading and deceptive statement or an omission, if a person can prove that they publicly withdrew their consent to being named in the document.

Thirdly, an offence will not be committed where a new circumstance arises after the disclosure document was lodged if the person proves that they were not aware of the matter.

Other Prohibitions

The CA contains a number of other prohibitions against various forms of conduct relaying to fund raising activities.

Section 726 provides that a person must not offer securities of a body that has not been formed or does not exist if the offer would need disclosure to investors under Part 6D.2 if the body did exist.

Section 727(1) provides that a person must not make an offer of securities or distribute an application form for an offer of securities that needs disclosure to investors under Part 6D.2 unless a disclosure document for the offer has been lodged with ASIC. Under section 727(3), in the case of non quoted securities offered under a disclosure document, a person must not accept an application for, or issue or transfer such securities until the end of 7 days after lodgment of the disclosure document or up to 14 days, if so extended by ASIC.

Section 727(4) prohibits the issue or transfer of securities in breach of the small-scale offering rules.

Section 736 prohibits ‘securities hawking’.1 The prohibition is designed to avoid pressure selling of securities to ‘retail clients’ and prohibits a person from offering securities for issue or sale in the course of or because of an unsolicited meeting with or a telephone call to another person. If securities are issued or transferred to a person in breach of section 736, the person may return the securities within 1 month after the issue or transfer and if they do, are entitled to be repaid the money they paid for the securities (section 738).

Anti-Avoidance Determinations

Section 740 permits the ASIC to determine in writing that different bodies are closely related and that their transactions should be aggregated or that the transactions of a body and of a person who controls1 the body should be aggregated for the purpose of ensuring that a breach of Chapter 6D does not occur.

By way of example, an unscrupulous operator might set up two separate bodies to take advantage of the small-scale offering provision to raise more money than they might otherwise be permitted to do. The ASIC can step in under section 740 to deal with this type of conduct.


A number of the capital raising provisions of the CA provide that a breach of such provisions constitute a contravention the punishment for which is prescribed by Schedule 3 of the CA. More particularly, a contravention of the following sections of the CA attracts the following penalties:

Section Penalty
708AA (10) (rights issues that do not need disclosure) 25 penalty units or imprisonment for 6 months, or both.
708A (9) (sale offers that do not need disclosure) 25 penalty units or imprisonment for 6 months, or both.
721 (5) (offer to be accompanied by prospectus or OIS) 200 penalty units or imprisonment for 5 years, or both.
722 (1) (application money to be held on trust) 25 penalty units or imprisonment for 6 months, or both.
724 (1) (repayment of funds etc in certain circumstances) 25 penalty units or imprisonment for 6 months, or both.
725 (1) (offering under an expired disclosure document) 25 penalty units or imprisonment for 6 months, or both.
726 (offering where the body does not exist) 200 penalty units or imprisonment for 5 years, or both.
727 (1) (offering without a current disclosure document etc) 200 penalty units or imprisonment for 5 years, or both.
727 (2) offering without a current disclosure document etc) 200 penalty units or imprisonment for 5 years, or both.
727 (3) offering without a current disclosure document etc) 200 penalty units or imprisonment for 5 years, or both.
727 (4) offering without a current disclosure document etc) 200 penalty units or imprisonment for 5 years, or both.
728 (3) (misleading or deceptive; omissions) 200 penalty units or imprisonment for 5 years, or both.
730 (1) (self reporting) 50 penalty units or imprisonment for 1 year, or both.
734 (1) (advertising and publicity) 25 penalty units or imprisonment for 6 months, or both.
734 (2) (advertising and publicity) 25 penalty units or imprisonment for 6 months, or both.
735 (1) (keeping consents) 10 penalty units or imprisonment for 3 months, or both.
736 (1) (securities hawking) 25 penalty units or imprisonment for 6 months, or both.

A penalty unit is presently worth $170. This amount is to be increased to $180.1

The Fundraising Rules in Action – Two Important Cases
Australian Securities & Investments Commission v Axis International Management Pty Ltd (No 5) [2011] FCA 60

Sometime in early 2004, Firepower Holdings Ltd (FHL) was incorporated in the Cayman Islands in connection with the development and manufacture of liquid products and a fuel pill both of which were said to improve fuel efficiency and reduce carbon emissions. The liquid product was marketed for distribution in Europe but the fuel pill was not then widely marketed.

By late 2004, FHL was investigating listing on the UK Alternative Investment Market. Having taken legal advice, the controllers of FHL decided not to use this company as the listing vehicle and instead incorporated a British Virgin Islands company, Firepower Holdings Group Limited (Firepower BVI).

On 2 June 2005, the day it was incorporated, Firepower BVI issued various parcels of shares to three corporate entities.

The share register of Firepower BVI showed that in and between 2 June 2005 and 2 June 2006, a large number of share sales occurred. The ASIC honed in on 21 of those sales and used them as the basis for alleging that the defendants had contravened section 727(1) in relation to those sales but relied on the additional sales to support its case that the vendors of shares in the 21 specific cases as well as Firepower BVI had the requisite purpose referred to in section 707(the secondary issues and sales section).

No disclosure document was lodged with the ASIC in relation to the several offers to sell shares the subject of the proceeding.

Seventeen of the offers were brokered by the first defendant, Axis International Management Pty Ltd (Axis). One of its directors, Quentin Ward (Ward) was the sixth defendant. The ASIC and Axis and Ward agreed in a “Statement of Factual Matters Not in Dispute” that Axis and Ward distributed share application forms and had the authority to offer the relevant shares for sale but did not have the authority or capacity to effect or agree to a transfer or conclude an agreement to transfer the shares if the offer was accepted and that there were no exemptions under the CA that applied.

The evidence showed that the alleged contraventions had occurred and the trial Judge, Gilmour J made declarations of contraventions and other orders accordingly.

Of particular interest, however, is how Gilmour J dealt with the arguments of Axis and Ward as to why they had contravened section 727(1).

Legal Arguments and Findings

Gilmour J summarised the arguments made by AXIS and Ward as follows:

“Section 727(1) regulates the conduct of those who carry the burden of disclosure under Chapter 6D of the Corporations Act 2001. The prohibition in s727(1) has two limbs, but is directed at members of the same class of people. The disclosure provisions are inextricably linked with the prohibitions contained in ss 726, 727(1) and s728 as they seek to serve the same purpose. Chapter 6D requires a contextual analysis to identify the class of persons who carry the burden of disclosure and are subject to ss 726, 727(1) and s728. The relevant people are identified by reference to the capacity they have to issue or transfer securities or to agree to issue or transfer securities. Axis and Ward are not within the class of people regulated by Chapter 6D. They are, accordingly, not people subject to regulation under s 727(1).”

To further expand on this summary, Axis and Ward contended that neither of them was a person within the ambit of section 700(3) as neither of them was capable of making an offer of securities for the purpose of Chapter 6D because, at best, they were only agents of the offeror of the securities and therefore did not have the ‘capacity or authority’ referred to in section 700(3); section 727(1) only applies to the controller of the securities and those with authority and capacity to agree to transfer the securities if the offer was accepted.

Gilmour J dismissed the arguments of Axis and Ward with these words: “As to these ultimate submissions, the first is misconceived, the second is correct but irrelevant and the third is wrong”.

His Honour held that section 707 (which Axis and Ward also referred to in their submissions) did not identify anyone as a person required to make disclosure (hence misconceived); while it was correct that Axis and Ward were not within the contemplation of section 700(3), the ASIC did not say that they were. The ASIC’s case was not that they were persons who offered securities but persons who distributed application forms for offers of securities that needed disclosure under Part 6D.2 (hence correct but irrelevant); and it was incorrect to say that section 727(1) only governed the conduct of the controller of shares and those with the capacity to effect a binding agreement for the issue or transfer of shares (hence wrong).

His Honour further held that the words in section 727(1), “A person must not offer securities…”means…“any person, distributing an application form for an offer for securities even if, for example, acting as an agent.”

His Honour was satisfied that he should make the declarations of contravention of section 727(1) that the ASIC sought and, in a separate judgment, made orders disqualifying two of the individual defendants from managing corporations for lengthy periods of time.

Australian Securities and Investments Commission v Astra Resources PLC [2015] FCA 759

In 2011 Astra Mining Limited (Astra Mining ), an Australian publicly listed company, considered listing on the secondary board of the Frankfurt Stock Exchange (FSE). Astra Resources PLC, a UK company was incorporated on 3 May 2011 for that purpose. Astra Consolidated Nominees Pty Ltd (Nominees) was incorporated on 25 August 2011 for reasons explained below.

On 15 June 2011, an EGM of the members of Astra Mining voted in favour of a share swap arrangement that had the effect of shareholders in Astra Mining being issued with an equivalent number of shares in Astra Resources; the existing shares in Astra Mining being cancelled; Astra Mining becoming a wholly owned subsidiary of Astra Resources; and Astra Mining Limited becoming Astra Mining Pty Ltd.

The resolutions passed on 15 June 2011 were given effect to on 8 September 2011. On 8 September 2011, Astra Resources issued 40 million shares to Astra Nominees and issued a further 30 million shares to Astra Nominees on or about 7 March 2012.

A number of share subscription agreements and bare trust deeds were executed between Astra Mining and Astra Nominees and Astra Resources and Astra Nominees. The evidence suggested that some of these documents were not brought into effect and some were backdated to satisfy queries raised by the auditors of Astra Resources. What was not in doubt however was that the purpose and intent of the documents was to confirm that the shares issued to Astra Nominees were to be held on a bare trust (whether for Astra Mining or Astra Resources – there was some confusion in the documents about this) so that such shares could be transferred to applicants for shares in Astra Resources for fundraising purposes for the proposed listing on the FSE.

Between 3 May 2011 and 9 February 2012, Astra Resources (and another related party) appointed brokers to assist in raising investment funds, in particular, by selling shares in Astra Resources. Some 45 million shares were sold between 1 September 2011 and 30 June 2012. Except for about 80 purchasers for whom no broker was identified, the investors made their application for shares using application forms provided to them by the brokers.

Astra Resources and Astra Nominees received extensive legal advice. The lawyer advising the companies was a director of both of them at all relevant times (he was one of the defendants in the proceeding and is yet to be dealt with by the court although he and the ASIC have reached agreement on all aspects of the claim against him other than on the issue of his disqualification under section 206E from managing corporations).

There were a number of iterations of the application for shares form. Some of them were structured to take advantage of the ‘sophisticated investor’ exemption under section 708 (8), others were for use by foreign investors only, some were a combination of both and so on. The forms were prepared by the law firm advising the companies, with some of the iterations emanating from them while others emanated from Astra Resources.

Ten investors (out of approximately 350) gave evidence led by the ASIC by affidavit only.

Legal Argument and Findings

The ASIC’s case was that Astra Resources contravened section 727(1) by distributing application forms for offers of shares in itself and that Astra Nominees contravened the section by making offers for the sale of shares it held in Astra Resources.

White J was satisfied that the evidence showed that when issuing the shares, Astra Resources did so for the purpose of Astra Nominees transferring them to investors who applied to Astra Resources for shares and that Astra Nominees acquired the shares for that purpose. These findings enlivened section 707(3). His Honour was satisfied that the presumption in section 707(4) (b) did not arise but if he had needed to consider the issue, he would have found that the presumption had not been rebutted.

As to whether Astra Nominees made offers for the sale of shares, the ASIC contended that Astra Nominees was the only person with the capacity to which section 707(3) referred because it was the only entity that could transfer the shares.

His Honour accepted this contention but correctly made the point that for there to have been a contravention of section 727(1), there also needed to be conduct amounting to the making of an offer of securities. His Honour said “It would be doubtful that Astra Nominees had breached s727(1) merely by acting as some form of stakeholder or repository of shares in Astra Resources to which Astra Resources had resort when it obtained a purchaser.”

His Honour was satisfied that the evidence showed the relevant conduct, namely the authorisation by it of the distribution of share application forms that, fairly construed, made it clear that Astra Nominees was offering to sell shares, that they would transfer the shares and that in some cases they would receive the money for doing so. His Honour was also satisfied that the conduct of Astra Nominees amounted to inviting offers to purchase securities within the meaning of section 700(2).

Having been satisfied that Astra Nominees had made offers to sell securities in contravention of section 727(1), White J then turned to consider if any of the exemptions in section 708, as relied upon by the defendants, applied.

First, reliance on section 708(5)(b) (what issues and sales are not to be taken into account in determining whether section 708(1) (small-scale offerings) has been complied with) by itself was irrelevant because it related to section 708(1) which was not relied upon by the defendants. In any event, the offers that were made breached the limits provided for by the section.

Secondly, none of the investors that gave evidence were ‘sophisticated’ investors in fact and none of them had produced the accountant’s certificate required by section 708(8)(c). As previously mentioned, some of the application forms contained a ‘sophisticated investor’ declaration while others did not. His Honour said that the change to the later application forms may have stemmed from a mistaken view that the CA did not apply to the share sale arrangement.

His Honour quoted the following from an email sent by the legal adviser to his clients in support of his conclusion:

“As Astra Resources PLC is a UK registered company, which is listed on the Frankfurt Stock Exchange, it is not governed by the Corporations Act 2001 (Cth) but the Companies Act (UK) 2006, and the listing rules of the Frankfurt Stock Exchange. There is no need for Astra Resources PLC to maintain the relationship with an Australian Financial Services License holder, as it is neither an Australian company, nor is it issuing any shares or transferring shares in the Australian jurisdiction for any securities for which the provisions of the Corporations Act 2001 relate. It is only ACN1 which is selling, and not issuing shares, to third parties for its shareholding in Astra Resources PLC. It is entitled to sell such shares in the listed entity of market at whatever price it commercially agrees with any purchaser, despite the on market price of the securities of the Frankfurt Stock Exchange.”

His Honour then said that the legal adviser, in giving this advice, overlooked section 700(4) which provides:

“(4) This Chapter applies to offers of securities that are received in this jurisdiction, regardless of where any resulting issue, sale or transfer occurs.”

As the shares were being offered in Australia to Australian investors, Part 6D.2 applied.

Thirdly, the defendants relied on section 708(10) that exempts from disclosure offers made through a financial services licensee.

Each of the share application forms required investors to confirm that they had previous experience in investing in financial products sufficient to allow them to make their own assessment of the merits and risks of investing in Astra Resources. However, section 708(10) requires more then this, namely, a written statement of the licensee’s reasons for being satisfied that the investor meets the criteria in section 708(10)(b) and a written acknowledgment by the investor that the investor has not been given a disclosure document by the licensee. There was no evidence that this occurred with respect to any investor.

Fourthly, the ‘professional investor’ exemption was invoked. None of the investors were ‘professional investors’ so this exemption was inapplicable.

Finally, the defendants relied on section 708(12), the ‘associated persons’ exemption. Again, there was no evidence that permitted reliance on this section.

Having found against the defendants, His honour indicated he would make the declarations sought by the ASIC, subject to hearing submissions about the terms of the declarations. Argument about the other forms of relief sought by the ASIC has been adjourned to a date to be fixed.

Fundraising using Social Media

When we speak of fundraising using social media, most people will think of ‘crowdfunding’ via the internet. A relatively new phenomenon, enhanced by the rise of the internet, it involves a ‘promoter’ of a project or an idea seeking to raise funds from the ‘crowd’ for the project or idea, either by way of a donation or in return for a gift or some other form of reward. Crowdfunding sites abound, for example, Kickstarter, Pozible and gofundme. Some of these sites have been very successful in achieving their aims.

The capital raising rules contained in the CA do not apply to any form of fundraising that does not involve an offer or issue of securities. However, the minute that a crowdfunding exercise traverses into the field of offering equity, the promoters of that exercise need to have a watchful eye on the requirements of the CA. The example of Bitcoin, mentioned above, is testimony to that.

Some promoters of crowd sourced equity funding have used social media but have limited their invitations and offers to ‘sophisticated investors’. While this will keep them within the boundaries of the law, it prevents a promoter from using the utility of the internet to access an unlimited source of investors and in part defeats the point of crowdfunding.

In its draft report entitled Business Set-up, Transfer and Closure, the Productivity Commission said the following:

“Obtaining finance can be a critical early step in starting a business. The Commissions’ consultations have indicated that, overall, access to finance is not a major barrier to most business setting up in Australia, although there are a number of specific issues that need to be addressed.”1 and “…for the (small) number of businesses with innovative new business models, the combination of an innovative approach/product and a lack of past credit history may make it particularly difficult to access the finance that is crucial to business growth and success.”1

In the Final Reportof the Financial System Inquiry,1 the following important observation was made:

“The financial sector plays a vital role in supporting a vibrant, growing economy that improves the standard of living for all Australians the system’s ultimate purpose is to facilitate sustainable growth in the economy by meeting the financial needs of its users. The Inquiry believes the financial system will achieve this goal if it operates in a manner that is: Efficient: An efficient system allocates Australia’s financial and other resources for the greatest possible benefit to our economy, supporting growth, productivity and prosperity…”1

The Inquiry made a number of recommendations aimed at assisting small and medium sized businesses to obtain better access to funding. One of those recommendations was to “Graduate fundraising regulation to facilitate crowdfunding for both debt and equity and, over time, other forms of financing.”1

What then is the current position with crowd sourced equity funding (CSEF) in Australia?

The now disbanded Corporations and Markets Advisory Committee (CAMAC) in June 2013 was asked to enquire into the role and possible regulation of CSEF in Australia. In May 2014, CAMAC produced an excellent and very comprehensive report. Of particular assistance, was CAMAC’s review of legislative responses to CSEF in other jurisdictions, including the USA, the UK, Canada and New Zealand.

CAMAC described CSEF in this way:

“There is no legal definition of CSEF. However, in practice, the concept refers to a form of corporate fundraising that envisages start-up or other smaller companies (issuers) obtaining seed or other capital through small equity investments from relatively large numbers of investors, with online portals (intermediaries) publicizing and facilitating these equity offers to online users (the crowd). Typically, the amount of equity capital to be sought by an issuer in a particular period through CSEF would be relatively modest. CSEF does not cover large-scale public offers by large corporations. The terms of the equity offer may permit acceptances by potentially hundreds of investors, or more, who may have the choice of contributing very small amounts in return for equity.”

CAMAC considered the following issues:

  • in principle, should CSEF be facilitated in Australia?
  • (if so) does the existing law facilitate CSEF?
  • (if not) what policy option to facilitate CSEF should be adopted?
  • what issues arise in implementing the recommended policy option?

CAMAC concluded that CSEF should be facilitated in Australia and that the existing law did not facilitate CSEF.

CAMAC’s preferred model for implementing CSEF was the creation of a specific regulatory structure involving the following:

  • the creation of a new classification ‘exempt public company’ for CSEF issuers;
  • an exempt public company would be limited to having $10 million in capital;
  • exempt public company status would only apply for a limited period of time, principally the phase in which funds were being raised for the CSEF issuer’s early stages of development1;
  • relief from certain compliance obligations that ordinarily apply to a public company such as the obligation for mandatory office opening hours, the need to appoint an auditor (until $1 million has been raised and $500,000 has been expended), the need to hold an AGM, the need to adhere to all public company reporting requirements and compliance with the continuous disclosure regime;
  • the only securities that could be issued were one class of shares having the same price, terms and conditions; options, convertible securities and partly paid shares would be prohibited;
  • a CSEF issue should be confined to previously unissued shares;
  • only $2 million in any 12 month period can be raised;
  • a specific form of disclosure document should be designed for use in CSEF issues; and
  • an investor cap of $10,000 in any 12 month period, to start with.

The above outline is not exhaustive of the recommendations made by CAMAC.

Not content with the CAMAC report, the Abbott Government in December 2014 issued a consultation paper entitled Crowd-sourced Equity Funding in which it sought public comment on three options, namely:

  • option 1: a regulatory framework based on the CAMAC model;
  • option 2: a regulatory framework based on the New Zealand model; and
  • option 2: a regulatory framework based on the New Zealand model; and

The public consultation period closed on 6 February 2015.

The consultation paper is critical of certain of the recommendations made by CAMAC. Specifically, the consultation paper says:

“There are specific elements of the CAMAC’s proposed framework that may result in an overly complex or restrictive system or to otherwise continue to present a barrier to effective facilitation of CSEF in Australia. The creation of a new category of public company would add complexity to the corporate governance framework and may increase risks of regulatory arbitrage compared to the status quo.”

By comparison, the New Zealand model was introduced by the Financial Markets Conduct Act 2013 and the Financial Markets Conduct (Phase 1) Regulations 2014. It deals with crowd funding (equity) as well as peer to peer lending (debt).

The New Zealand model involves the concept of a ‘licensed intermediary’ that will act as the intermediary between companies offering shares and investors looking to buy them using an online platform. CSEF issuers are limited to raising $2 million from the public (by any means) in any 12 month period. However, there is no cap on what amount an investor may invest at any time.

A licensed intermediary must have adequate disclosure arrangements with issuers to give to investors or to enable investors to easily obtain information to assist investors to decide whether to acquire particular shares on offer on the intermediary’s website. An intermediary is permitted to charge a fee to the issuer for its services and may invest in offers made on its website.

A licensed intermediary’s website must also carry a prescribed warning statement about the risks involved in making a CSEF investment and an investor must confirm to the intermediary that they understand those risks before the investor can use the intermediary service.

There are a number of licensed intermediaries operating in New Zealand including PledgeMe, Snowball Effect and Equitise.

The Productivity Commission in its draft Report recommended that:

“The Australian Government should introduce a two-tiered regulatory structure for crowd-sourced equity funding. The first tier would be directed at those investors determined under the Corporations Act 2001 (C’th) to be ‘sophisticated’ or ‘professional’ and would not restrict possible investment. The second tier would be directed at other less sophisticated investors and would include a cap on individual investments.”1I am unaware of any real support in the community for this model.

There are growing fears that Australia is falling behind the rest of the world in legislating for CSEF and as a consequence, is missing out on the positive effects it can have for the development of our start-up community and the economy.

In the 2015-16 Federal Budget speech, the Treasurer, Joe Hockey said ,“And to help small business grow, we are facilitating new opportunities for crowd source funding, making it easier for small investors to marry up with growing small businesses.” Specifically, an amount of $7.8 million has been allocated over the next 4 years to the ASIC in order to establish a new regulatory framework for CSEF and to monitor that framework in the future.

No formal legislation has yet been announced but it is expected that it will be introduced in the 2015 Spring Session of Federal Parliament. Hopefully, the necessary legislative framework will be in place to commence in the 2016/17 financial year.

Interestingly, Malcolm Turnbull, the Federal Minister for Communications was quoted in an article in the Australian Financial Review1 as blaming the “culture and bureaucracy of the Treasury” for the delay in the tabling of the necessary legislative framework. Mr. Turnbull was also quoted as saying “It’s about balancing the need for consumer protection versus the extraordinary aggregation power of the internet.” “Getting that balance is the reason [the legislation is yet to be launched].”

The need for adequate consumer protection is obviously an important consideration in the design of a CSEF regulatory scheme. By the same token, the regulatory burden imposed should not be a disincentive for enterprises seeking to access CSEF and lead to ‘jurisdiction shopping’ to take advantage of lighter regulatory overlay in other jurisdictions.

Some in the start-up community have criticised the CAMAC model as being too ‘nanny state’ with some of its requirements and as being too heavy handed in its approach to the type of vehicle that can be used (the exempt public company). The New Zealand model is viewed more favourably by many people who have criticised the CAMAC model.

In the same Australian Financial Review article mentioned above, Mr. Turnbull was also quoted as favouring the New Zealand model over the CAMAC model. Mr. Turnbull said “I’m very attracted to just taking the New Zealand law, deleting New Zealand and inserting Australia. Imitation is the sincerest form of flattery and I’m happy to flatter the Kiwis as much as we can on this one.” 1

Australia’s legislative response to regulating CSEF needs to happen sooner rather than later and ought to take account of the views of the start-up community and the experiences of any jurisdictions. How Australia regulates CSEF is keenly awaited.

Stephen Newman
8 August 2015
For further information, please contact me on:
Ph 0450 883 423.

Our publications, articles, case summaries and other notes on this website are intended only as summary introductions to relevant issues within the law. Your circumstances will differ and each matter has its own unique characteristics which require tailored legal advice. Our publications should not be relied upon as a substitute for properly considered legal advice. Should you have a legal issue similar to a publication on our website or if you have a particular business issue that requires legal assistance, we invite you to contact our professional team or you may contact us by email at mail@hopeearle.com.au.

Important Disclaimer - This publication is general in nature and is not intended to be, nor should be, considered as legal advice. For legal advice please contact Hope Earle Lawyers on +61 3 9600 3330.