Editor’s note: This is a guest post by Antti Hemmilä, of Attorneys at Law Borenius, and our go-to person when it comes to the legal side of crowdfunding. See is past articles here, and here.

I had a chance to write two blog posts about crowdfunding last year, published on 23 October and 26 November 2012. There were no plans for a sequel but this third blog post came up rather spontaneously in an effort to give some advice and guidance to companies thinking of (equity) crowdfunding themselves, how equity crowdfunding affects your company, and what you need to consider when running a company with a lot of shareholders located in different jurisdictions.

To start with, one needs to acknowledge that there are different kinds of companies with different ambitions and goals. For illustration purposes, on one end you may have a local restaurant with a sole ambition to serve good food and be the place of choice for dining in your neighbourhood. An investor in such restaurant probably wants to support local cause with no expectations of lucrative trade sale or IPO in the near future (however some perks now and then keep the owners happy). In the lack of a better word, let’s call these “lifestyle” companies. On the other end you may have a startup with a new service or product innovation and plans for world domination. An investor in such company can fairly expect a return on its investment, however, accepting the high risk involved. Below I concentrate more on the latter companies where investor expectations are higher and the founders need to think ahead to enable future financing rounds and a potential exit.

Shareholders’ agreement or not
Let’s face it. Most of the companies engaged in equity crowdfunding are a long way from the possible exit. Most of them will also need to raise more funding in the future in order to get there (actually most of them will most likely fail but that’s the nature of the business). The question is, having a crowdfunded company, how easy is it to get additional funding from angels or VCs? The answer may lie in a shareholders’ agreement.

Professional VCs invest in your company in return of (usually) a minority stake of shares and with the aim of realizing their investment in the eventual exit (sale of the company or initial public offering (IPO)). A shareholders’ agreement is a critical instrument for VCs in controlling the administration of the company and, most importantly, enabling a controlled exit. In a crowdfunded company without a shareholders’ agreement (or similar), there is little or no chance that the crowd-investors are willing to adhere to the rather restrictive VC shareholders’ agreement terms afterwards. As a result, VCs may consider the company “unfundable” and pass the investment opportunity.

So in my opinion every company planning equity crowdfunding should at least consider having a shareholders’ agreement that allows the execution of investments in the future (although shareholders’ agreements are not discussed in detail here, there is an earlier blog post on these that you can read here). Shareholders’ agreements tend to be rather complicated legal documents and if you only reach out to rather limited amount of funds or limited investment per crowd investor, lengthy legal documents may put off potential investors. In such case what you may need is a full shareholders’ agreement with the founders and other larger shareholders, and a separate more limited undertaking required from the crowd investors. Such crowd-investor undertaking would include only the most important provisions, including the transfer restrictions, drag-along provisions and procedures in the case of new investments, perhaps even a waiver on certain minority rights. Certain obligations can be “called” by certain shareholders or a qualified majority of shareholders as described in more detail in the undertaking. While all shareholders’ adherence to the shareholders’ agreement is preferred, the undertaking mechanism described above may be sufficient to satisfy the requirements of the VCs in the future financing rounds.

Higher standards of corporate governance may be needed
When running a company with a couple of friends, organising a shareholders’ meeting is not a very complicated exercise. However, in a crowdfunded company with dozens (or even hundreds) of shareholders, you need to make sure shareholders’ meetings are done strictly by the book. The same applies to other procedures and duties of the management under the applicable law. Thus in a crowdfunded company you probably need to apply higher standards of corporate governance as the management (for example in Finland the managing director and members of the board of directors who all have liability under the Finnish Companies Act) may come under more scrutiny for their actions. Failure to comply with the applicable regulations can cause the (shareholders’ meeting or board) resolutions to be void or create personal liability for the persons involved.

It is almost like running a semi-listed company. For example, general principles like the equal treatment of shareholders mean that any transactions between the company and its shareholders (especially founders) need to be on an arm’s-length basis. To ease all this, a crowdfunded company may want to have written guidelines on corporate governance which are followed by the management. This may help crowd-investors from other jurisdictions to understand the decision-making mechanisms and duties in the company, and avoid misunderstandings regarding the same.

Pros and cons of shareholder participation
Other shareholder participation can be either a blessing or a curse. Each crowd-investor can be a valuable ambassador of your company, product or service. However, you can also find that they all think they actually know your business best and like to share that with you – often.

There are practically no legal restrictions governing such ad-hoc communication between the company and its shareholders. Under Finnish law at least, the shareholders have very limited information rights, so there is very little information a shareholder can actually demand from the company. In the case of requests for critical information you can, and probably should, deny. Of course you want to avoid such conflicts, so there may be regular blog posts or other briefings to keep the shareholders informed and happy. Since shareholders should be treated equally, any information given should also be distributed equally. Naturally you can agree these matters in much more detail in a shareholders’ agreement, and professional investors typically have more extensive information rights than minority investors.

There are no material confidentiality or competition issues related to crowdfunded companies. In a typical investment case, all shareholders adhere to a confidentiality obligation. While it is also good to get such undertaking from crowd-investors, it is not critical in my opinion as the crowd-investors are rarely given access to very sensitive data. The same applies to non-competition undertakings, which are rarely actually needed from the crowd-investors.

Keeping track of your shareholders (and shares)
The companies legislation applied in your company’s domicile will govern how you can and should keep track of your shareholders. In Finland a limited company can have its shares registered into a book-entry system but it is rarely done in private companies due to the relatively high costs involved. Thus most Finnish companies maintain the share register internally, in which case all transfers of shares need to be notified to the company with accompanying evidence of the transfers made. This is basically very simple but with a large number of share transfers taking place, it can be surprisingly laborious to execute, especially if the other shareholders have a redemption right under the articles or otherwise.

Rights of the shareholders in a Finnish limited company, such as the right to participate in the shareholders’ meetings and the right to receive dividend, are based on registrations made in the share register, so it is essential to have it done right. Also, having an up-to-date shareholders’ register is critical in the potential exit. At minimum the company should have explicit written instructions for shareholders for transfer situations. The company can also restrict share transfers by having redemption and consent clauses in the articles of association. Shareholders’ agreements of course govern share transfers and this is always the preferred option as they can be tailored to be very flexible in this respect.

Summary
Equity crowdfunding is still a rather young and developing area. There have been many successful equity crowdfunding rounds but there is still a limited amount of experience on running crowdfunded companies and no track record of them in raising additional funds or hitting exit (happy to be proven wrong on the latter BTW).

Planning ahead improves your chances of success. This helps you to make arrangements and decisions that ease the administration of your company going forward. For example, if you plan additional financing rounds to take place in the future, consider amending your company’s articles of association to include different classes of preference shares while you are still in full control of the company, as such changes need unanimous consent of the shareholders (which is obviously very difficult to obtain later on).

An all-party shareholders’ agreement or solid undertakings from the crowd-investors (as described above) can make the company more investment ready in the future. Whether you actually need one or how much additional administrative burden you can expect in the future depends on your company, ambitions and campaign, among other things. Referring to my examples above, are you a lifestyle company or a highly ambitious growth company? Are you reaching out to few big ticket investors or to a lot of people with small investment sums? Where do you see your company 12, 24 or 36 months from now, and what do you need to get there?

If you are an investor considering to participate in an equity crowdfunding round and you are actually considering it as an investment (meaning that you want return on your money, opposite to just supporting a cause), you probably need to ask the same questions as well. A company with a shareholders’ agreement may have a better shot at receiving new investments and making exit than a company without one.

Antti Hemmilä

About the Author

Antti advises on venture capital, M&A, capital markets and general corporate law related questions, with special focus on start-ups. He has wide-ranging experience in advising small and medium-sized companies on numerous M&A and financing arrangements, representing both companies and finance providers. Antti has also worked on numerous capital markets transactions.

Antti Hemmilä on LinkedIn

About Borenius

Attorneys at law Borenius Ltd is one of the leading law firms in Finland offering a full spectrum of commercial law services. Attorneys at law Borenius’ mission is to be the most hands-on, client-centred business solution provider. The firm’s approach to business challenges is team-oriented, combining its strong and diverse expertise with a thorough business understanding. Attorneys at law Borenius Ltd is part of the Borenius Group network which consists of approximately 200 lawyers in four jurisdictions in Fenno-Baltic area as well as in New York and St. Petersburg.

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