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WHEN A KICKSTARTER STOPS: EXPLORING FAILURES AND REGULATORY FRAMEWORKS FOR THE REWARDS-BASED CROWDFUNDING INDUSTRY
Jay H. Ganatra*
TABLE OF CONTENTS
I. INTRODUCTION ...... 1426 II. INTRODUCTION TO CROWDFUNDING ...... 1430 A. What Is Crowdfunding? ...... 1430 B. Types of Crowdfunding ...... 1433 C. How Does Kickstarter Work? ...... 1436 D. Kickstarter’s Terms of Use and the Contract Between Creator and Backer ...... 1439 III. CONTRACTUAL ANALYSIS ...... 1442 A. A New Frontier of Contract Formation ...... 1443 B. Hanfree, Misunderstanding, and the Foray into Breach of Contract ...... 1446 C. The Class Action Solution? ...... 1449 IV. WHAT CAN KICKSTARTER DO? ...... 1452 V. EXISTING REGULATORY MECHANISMS ...... 1455 A. Consumer Protection Laws ...... 1455 B. Jumpstart Our Business Startups Act of 2012 ...... 1464 C. State Regulation of Non–Profit Charitable Organizations ... 1467 VI. POSSIBLE FRAMEWORK FOR REWARD AND PRE-PURCHASE CROWDFUNDING PLATFORMS ...... 1469 VII. CONCLUSION ...... 1472
* J.D., Rutgers Law School, May 2016. The author served as Executive Editor for the Rutgers University Law Review during the 2015–2016 academic year. The author would like to thank his family and friends for their unwavering support, and express his gratitude to Professors Sarah Dadush, David L. Noll, and Yuliya Guseva for their expertise and guidance in preparing this Note.
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1426 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425
I. INTRODUCTION
As the online marketplace continues to grow and connect the world, crowdfunding has claimed its position as the newest player in the financial industry. Social media has allowed crowdfunding platforms to become places where innovators and small businesses can share their ideas, receive feedback from browsers, and gauge the potential success of their projects before formally launching them. However, as many individuals on both sides of a crowdfunding campaign have learned, an overwhelming validation of an idea does not necessarily lead to realized success, and crushing defeat for creators has often left backers looking for recourse. The problems that users of crowdfunding platforms face are symptomatic of its success; sparse regulation, easy access to capital, and the ever-expanding Internet community have created significant opportunity for millions of users, yet when things go wrong, it has led creators and entrepreneurs to feel that the more money they come across, the more problems they encounter. Crowdfunding, although a seemingly modern phenomenon in microfinance, has been a means of economic and financial development for centuries.1 Dating back to the 1700s, crowdfunding, in an early form called microfinance, used the help of the community to aid low-income individuals and families.2 Through the early twenty-first century, the idea of crowdfunding developed around gathering small amounts of money from the community to help those that were especially in need.3 Jonathan Swift and Dr. Mohammad Yunus were early innovators of microfinance who sought to bring the benefits and opportunities of banking to those not deemed “creditworthy.”4 Swift’s Irish Loan Fund “provided loans to low-income families” that he recognized had “no experience with credit and held little collateral but could still be considered creditworthy.”5 At its peak, it was predicted that twenty percent of all households in Ireland were using his program.6 Similarly, Dr. Yunus’s Grameen Bank sought to “give banking opportunities to low-income people, eliminate the exploitation of the poor and create opportunities for self-employment.”7 Grameen Bank’s membership grew
1. Bill Clark, The History and Evolution of Crowdfunding, MASHABLE (Sept. 15, 2011), http://mashable.com/2011/09/15/crowdfunding-history/. 2. Id. 3. Id. 4. Id. 5. Id. 6. Id. 7. Id. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1427 to over eight million borrowers in seven short years and is growing still with 2100 branches worldwide.8 These men recognized that banking institutions gave eligible individuals an incredible opportunity in the form of a loan, and saw microfinance as a means to bring this same opportunity to the rest of the community. Crowdfunding, essentially a type of microfinance, has developed to help individuals and their creative projects with the assistance of the Internet community.9 With the arrival of Kickstarter and Indiegogo, the crowdfunding model took off faster than ever, and through the proliferation of the Internet and social media, it is growing at an exponential rate.10 Though the industry has grown at a rapid rate, it is still a “largely new and unregulated world in which anyone with any idea—good or bad—can get paid to create it, largely without any vetting or approval process.”11 It is this lack of oversight by the crowdfunding platforms themselves,12 an absence of any type of regulatory mechanism to oversee the parties, and the lack of experience and relevant knowledge in the creators and backers that has led to failures in the crowdfunding realm that this Note discusses. The following hypothetical illustrates the problems that rewards- based crowdfunding platforms, and the project creators and backers who interact through the platform, face today as a growing and unregulated industry. As he scrolls through his Facebook page, Steve, a political science major at Rutgers University, comes across a link for a Kickstarter campaign posted by an individual named John and his company, AuthentiCase. John’s AuthentiCase campaign is seeking $20,000 to develop a fully customized, laser engraved wooden cellphone case. After scrolling through John’s page, watching a video describing the product and the engraving process, and viewing the images of what the final product would look like, Steve was enthralled with the project. Steve
8. Id.; History, GRAMEEN BANK, http://www.grameen-info.org/history/ (last visited July 17, 2016). 9. Clark, supra note 1. 10. See Kendall Almerico, Your Crowdfunding Campaign Is Doomed Without This, ENTREPRENEUR (Mar. 3, 2014), http://www.entrepreneur.com/article/231882. 11. Eric Markowitz, When Kickstarter Investors Want Their Money Back, INC. (Jan. 10, 2013), http://www.inc.com/eric-markowitz/when-kickstarter-investors-want-their-mon ey-back.html. 12. In March 2015, Kickstarter announced that it was forming a team of “Integrity Specialists” to assist in vetting products and determining their viability before being placed on the public platform. Mario Aguilar, Kickstarter Is Hiring a Common Sense Specialist, GIZMODO (Mar. 4, 2015, 3:40 PM), http://gizmodo.com/kickstarter-is-hiring-a- common-sense-specialist-1689403081; see also infra Part IV. 09_GANATRA.DOCX 1/20/17 1:49 PM
1428 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 looked to the “Rewards” column of the page to see what his contributions would earn him: “$5 gets you an AWESOME AuthentiCase t-shirt! $15 gets you an AWESOME AuthentiCase t-shirt PLUS a wooden cellphone case with the SLEEK AuthentiCase logo! $40 gets you a FULLY CUSTOMIZED AuthentiCase wooden cellphone case with your choice of wood AND an image of your choice laser engraved on it!” Upon seeing the “rewards” for a $40 contribution—receiving the final, beautiful product itself—Steve created a Kickstarter account and pledged his contribution to the AuthentiCase campaign. John, a student himself, with no business or manufacturing experience, began engraving cases as a hobby with a do-it-yourself kit he received as a birthday present. After becoming widely popular on his college campus, he sought to expand to accommodate the demand. After receiving marginal funding from his friends and family, and assuming he would not be eligible for a loan from a bank, he came to Kickstarter thinking he may have a chance at raising his target goal and using the money to begin expanded development to accommodate demand on campus. Before long, his campaign has made its way to Facebook and Twitter and with the end of the funding window approaching, he is now the owner of a campaign-gone-viral, raising over $350,000 from over 8000 backers, blowing way past his original goal of $20,000. Unfortunately for John, after numerous issues with suppliers and manufacturers, he realizes that he is not prepared to accommodate rewards for 8000 backers and is now in a situation where he is quickly losing the money he raised on Kickstarter. Not knowing what to do, and coming near the expected delivery date he posted on his campaign page, he has stopped updating his backers and is receiving daily comments on his page asking for updates. Unfortunately for Steve, he has no way of getting in direct contact with John, and there is nothing Kickstarter will do to remedy the situation. This is what happens when the creator of a successfully funded Kickstarter campaign cannot follow through to completion and fulfill the promises that were made to backers. Crowdfunding campaigns like these, fully tapped into social media, are a few clicks away from taking off and becoming like John’s, or Pebble’s,13 or Coolest Cooler’s.14 While
13. Pebble Tech., Pebble: E–Paper Watch for iPhone and Android, KICKSTARTER, https://www.kickstarter.com/projects/597507018/pebble-e-paper-watch-for-iphone-and- android?ref=most_funded (last visited Apr. 1, 2016) (seeking $100,000 in funding and eventually raising over $10,000,000). 14. Ryan Grepper, Coolest Cooler: 21st Century Cooler That’s Actually Cooler, KICKSTARTER, https://www.kickstarter.com/projects/ryangrepper/coolest-cooler-21st-cent ury-cooler-thats-actually (last visited Apr. 1, 2016) (seeking $50,000 in funding and 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1429
Pebble successfully completed its project and sent out its rewards and Coolest Cooler is currently in production, some successfully funded campaigns do not follow suit. While most projects on Kickstarter that are successfully funded follow through and their backers eventually receive their rewards, some creators, even with the full amount of funds requested and usually much more, do not complete their project, and backers are left without their reward and with their contributions in the bank account of the now unresponsive creator, or squandered all together.15 With Kickstarter disclaiming any and all liability, the creator remaining out of touch with their backers, and with very little chance of receiving any kind of refund, backers like Steve are left without much recourse. What exactly can a backer like Steve do when the Kickstarter Terms of Use indicate that a contract was formed between himself and John upon his pledge being contributed?16 Can the agreement be considered a valid contract, and if so, how can Steve enforce his contractual rights after John’s breach? Is Steve considered a consumer who is entitled to the protections of consumer fraud laws or did he simply donate money and the transaction came to an end when the funds were transferred? Does Kickstarter have any responsibility as the intermediary between the parties and the platform that hosted John’s ill-conceived project? What regulations exist to monitor crowdfunding platforms like Kickstarter, and should these platforms be conducting due diligence on their part before collecting their fees and disappearing from the creator-backer relationship? With rewards-based crowdfunding becoming a multibillion dollar industry and social media leading the campaign for many of these projects, millions of people have become project creators and backers in an industry with no oversight or regulation. The industry continues its exponential growth with a constant infusion of ideas and contributions, and now needs sufficient protections for backers like Steve and creators like John so that crowdfunding at this level can become a meaningful sector of the economy for small and independent growing businesses. This Note will explore the failures in the reward and pre-purchase crowdfunding model, particularly in the industry-leading Kickstarter. Specifically, what happens when project creators receive all of their requested funding but fail to deliver with the completion of their project and the promises they made to project backers? In doing so, various eventually raising over $13,000,000). 15. Aguilar, supra note 12. 16. Terms of Use, KICKSTARTER, https://www.kickstarter.com/terms-of-use (last visited Apr. 1, 2016). 09_GANATRA.DOCX 1/20/17 1:49 PM
1430 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 existing regulatory schemes and possible legal remedies will be analyzed for their compatibility with the rewards-based crowdfunding model. Part II will provide an introduction to the crowdfunding industry; the various models of crowdfunding that individuals and businesses have access to; and the business model used by Kickstarter, including what existing protections are available in its Terms of Use. Part III will analyze the contract formed between a Kickstarter backer and creator upon the completion of their transaction and viable contractual remedies that backers may explore. Part IV will examine what steps Kickstarter can take to protect creators and backers and avoid disputes arising from the backer-creator relationship. Part V will examine existing regulatory schemes that oversee industries similar in type to the rewards-based crowdfunding model, including state and federal consumer protection laws; the newly enacted Title III of the Jumpstart Our Business Startups Act of 2012 (“JOBS Act”); and existing state non-profit registration requirements. Part VI will outline the framework of a regulatory scheme that may be applicable to rewards-based crowdfunding models, which could be used to oversee sites like Kickstarter and Indiegogo that currently do not have any meaningful regulation.
II. INTRODUCTION TO CROWDFUNDING
A. What Is Crowdfunding?
Crowdfunding is a means to “raise money through relatively small contributions from a large number of people,”17 primarily via “web- based general solicitation.”18 Artists, engineers, entrepreneurs, and small business owners have taken to crowdfunding platforms, which are open to anyone with an idea, to seek funding for their projects after receiving money from their friends, family, and coworkers.19 To begin, an individual creates a profile on a platform that describes their campaign or project and the purpose behind their enterprise.20 Project developers indicate how much funding they are seeking, how long their
17. C. Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 COLUM. BUS. L. REV. 1, 10. 18. Sean M. O’Connor, Crowdfunding’s Impact on Start-Up IP Strategy, 21 GEO. MASON L. REV. 895, 897 (2014). 19. Tanya Prive, What Is Crowdfunding and How Does It Benefit the Economy, FORBES (Nov. 27, 2012, 10:50 AM), http://www.forbes.com/sites/tanyaprive/2012/11/27/ what-is-crowdfunding-and-how-does-it-benefit-the-economy/. 20. See id.; Bradford, supra note 17, at 10. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1431 campaign will be open for, and what, if any, “rewards” or financial return investors, or backers, will receive for their particular contribution.21 Backers browse through listings and if they come across projects or campaigns they like, they can contribute anywhere from “a few dollars to the total amount the entrepreneur is seeking.”22 Crowdfunding has become an alternate means for entrepreneurs and small businesses to find funding and resources for their projects. While the economy shows signs of recovery from the 2008–2009 recession, banks are still hesitant to approve loans for businesses that do not have collateral or operating history.23 Where start-ups and entrepreneurs cannot find enough funding, if any, via “banks, capital markets, and personal resources,” crowdfunding has shown to be a viable alternative.24 With no bank or underwriter required as an intermediary, “[a]nyone who can convince the public he has a good business idea can become an entrepreneur” using a crowdfunding platform.25 Thus, the crowdfunding model has helped “unorthodox or obscure business startups”—those that may not be ideal candidates for loans from banks or investment firms and that appear “commercially unviable” to larger investors.26 While the crowdfunding model attracts artists and entrepreneurs who are unable to access capital by a more traditional means, the concept of crowdfunding is very attractive as not only a means to raise capital but to market the idea as well. Crowdfunding means convenience; rather than applying for a loan from a bank or finding and convincing investors that an idea will be successful, using a crowdfunding platform allows creators to easily broadcast their ideas by tapping into social media so that backers can find them.27
21. See Prive, supra note 19. 22. Bradford, supra note 17, at 10. 23. See Shekhar Darke, To Be or Not to Be a Funding Portal: Why Crowdfunding Platforms Will Become Broker-Dealers, 10 HASTINGS BUS. L.J. 183, 187 (2014). While banks today are more willing to lend to small businesses, they tend to be businesses with stable balance sheets, sustainable cash flows, and the ability to pay their bills. Robb Mandelbaum, Small Businesses that Look Find Loans Easier to Come By, N.Y. TIMES, July 1, 2014, at B4, http://www.nytimes.com/2014/07/17/business/smallbusiness/ small- businesses-are-finding-bank-loans-easier-to-come-by.html?_r=0. 24. Darke, supra note 23, at 187. 25. Bradford, supra note 17, at 10. 26. Peter C. Sumners, Crowdfunding America’s Small Businesses After the JOBS Act of 2012, 32 REV. BANKING & FIN. L. 38, 40 (2012). 27. Drew Hendricks, Five Reasons Why Crowdfunding Is the Next Big Investing Trend, FORBES (Aug. 27, 2014, 11:53 AM), http://www.forbes.com/sites/drewhendricks/ 2014/08/27/5-reasons-why-crowdfunding-is-the-next-big-investing-trend/. 09_GANATRA.DOCX 1/20/17 1:49 PM
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Crowdfunding campaigns also double as marketing campaigns, as they “provide[] the chance [for backers] to spread [their] brand’s message and goals to a wide audience.”28 Not only can creators raise money for their projects, but the money they raise through small contributions is a form of market validation, gauging demand and popularity for the project before its launch.29 This allows a creator to know exactly how popular his venture is before major production on the project or product begins. While the financial benefits are clear, the ancillary benefits of crowdfunding attract small and large creators alike, giving artists and entrepreneurs a one-stop-shop for jumpstarting their projects. Since its launch, modern-day crowdfunding has been used as a means of “raising money in politics, facilitating person-to-person lending, donating to non-profit causes, and launching creative ventures”30 for various industries ranging from entertainment, “book publishing, gaming, music, [and] journalism” to scientific, creative, and entrepreneurial projects.31 The first foray into Internet-based crowdfunding was Kiva, a peer-to-peer lending platform, in 2005,32 followed soon after by today’s larger platforms, Indiegogo in 200833 and the industry leader Kickstarter in 2009.34 Adding to the already robust Internet-based crowdfunding industry is the implementation of equity- based crowdfunding with the passage of Title III of the JOBS Act, otherwise known as the Crowdfunding Act, and equity crowdfunding rules by the Securities and Exchange Commission (“SEC”).35 By creating a “legal pathway” for equity crowdfunding, Title III and the SEC enables “ordinary investors and start-ups to use ‘enterprise
28. Id. 29. Linda Childers, Why Crowdfunding May Be the Best Financing Option for Your Small Business, BIZAHEAD, http://sba.thehartford.com/finance/why-crowdfunding-may-be- the-best-financing-option-for-your-small-business (last visited Apr. 1, 2016). 30. John S. Wroldsen, The Crowdfund Act’s Strange Bedfellows: Democracy and Start- Up Company Investing, 62 U. KAN. L. REV. 357, 359 (2013) (citations omitted). 31. Bradford, supra note 17, at 12. 32. About Us, KIVA, http://www.kiva.org/about (last visited Apr. 1, 2016). 33. Indiegogo Help Center, INDIEGOGO, https://support.indiegogo.com/hc/en-us (last visited Apr. 1, 2016). 34. Kickstarter Basics, KICKSTARTER, https://www.kickstarter.com/help/faq/kick starter%20basics (last visited Apr. 1, 2016); see also Chance Barnett, Donation-Based Crowdfunding Sites: Kickstarter vs. Indiegogo, FORBES (Sept. 9, 2013, 9:00 AM), http://www.forbes.com/sites/chancebarnett/2013/09/09/donation-based-crowdfunding-sites- kickstarter-vs-indiegogo/. 35. See O’Connor, supra note 18, at 895. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1433 crowdfunding’, in which the start-ups can offer and sell their stock widely through the Internet.”36 Crowdfunding as a whole has grown exponentially,37 with reports indicating a 1000% increase in industry growth since 2009 and over $16 billion in funding contributed in 2014, an increase of 167% from $6.1 billion contributed in 2013.38 At this rate, by 2020, crowdfunding is projected to contribute over $500 billion a year to businesses and start- ups and generate over $3.2 trillion in economic value per year.39
B. Types of Crowdfunding
There are generally thought to be five different types of crowdfunding models: donation, reward, pre-purchase, lending, and equity.40 Donation platforms are sites that allow individuals to contribute to projects expecting nothing in return.41 These sites operate by collecting money from donors, taking a small fee, and guaranteeing that the remaining contribution will go to the recipient chosen by the donor, without a return of any kind, reward or equity, to those that contribute.42 Examples of donation-based crowdfunding platforms include GlobalGiving43 and GoFundMe.44 GlobalGiving, a registered 501(c)(3) nonprofit organization, is a crowdfunding platform that donates solely to nonprofit causes, supporting “local organizations that are working to educate children, feed the hungry, preserve [the] environment, [and]
36. Id. 37. See Bradford, supra note 17, at 11. 38. Economic Value of Crowdfunding, FUNDABLE, https://www.fundable.com/learn/resources/infographics/economic-value-crowdfunding (last visited Apr. 1, 2016); Global Crowdfunding Market to Reach $34.4B in 2015, Predicts Massolution’s 2015CF Industry Report, CROWDSOURCING.ORG (Apr. 7, 2015, 5:03 AM), http://www.crowdsourcing.org/editorial/global-crowdfunding-market-to-reach-344b-in- 2015-predicts-massolutions-2015cf-industry-report/45376. 39. Economic Value of Crowdfunding, supra note 38. 40. Bradford, supra note 17, at 14–15. 41. Id. at 15. 42. Id.; see, e.g., About Us, GLOBALGIVING, http://www.globalgiving.org/aboutus/ (last visited Apr. 1, 2016) (where a registered non-profit 501(c)(3) charity collects a fifteen percent fee from donor contributions and the remainder is donated to the non-profit recipient). 43. About Us, supra note 42. 44. How It Works, GOFUNDME, https://www.gofundme.com/tour/ (last visited Apr. 1, 2016). 09_GANATRA.DOCX 1/20/17 1:49 PM
1434 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 build houses.”45 While still a donation-based crowdfunding platform, GoFundMe not only allows donation campaigns for non-profit causes, but also allows users to raise money for personal causes, including assisting with medical bills, education costs, or for any reason at all.46 The reward/pre-purchase model, on the other hand, offers a small reward, sometimes as small as a t-shirt or key chain and in other cases the product in development, in exchange for contributions from backers.47 These sites are the most popular types of crowdfunding platforms.48 Kickstarter and Indiegogo are examples of the reward/pre- purchase platform based upon what individual entrepreneurs decide to offer as rewards for backer contributions.49 Although Kickstarter explicitly states that it is not a pre-purchase site,50 it nonetheless functions as a platform for entrepreneurs that offer the very product in development as a “reward” either earlier than a formal release and/or at a discounted price.51 The reward/pre-purchase crowdfunding sites charge a small fee for hosting the project and collecting and delivering funds from backers to project creators.52 Lending sites connect contributors to entrepreneurs where the funder provides a loan, with or without interest, expecting repayment of
45. About Us, supra note 42. 46. Crowdfunding for Everyone!, GOFUNDME, https://www.gofundme.com (last visited Apr. 1, 2016). 47. Bradford, supra note 17, at 16. 48. Id. 49. Id. 50. Perry Chen et al., Kickstarter Is Not a Store, KICKSTARTER (Sept. 20, 2012), https://www.kickstarter.com/blog/kickstarter-is-not-a-store. 51. See, e.g., Grepper, supra note 14 (offering the finished project at a significant discount from the retail price as a reward); FLUX All-in-One 3D Printer—UNLIMITED. ELEGANT. SIMPLE., KICKSTARTER, https://www.kickstarter.com/projects/2117384013/ flux-all-in-one-3d-printer-unlimited-elegant-simpl?ref=category_popular (last visited Apr. 1, 2016) (offering the final product before its availability to the public as a reward); Help Fund and Be a Part of Jenn Cristy’s New Pop/Rock Album, KICKSTARTER, https:// www.kickstarter.com/projects/jenncristy/help-fund-and-be-a-part-of-jenn-cristys-new-pop- ro?ref=category_featured (last visited Apr. 1, 2016) (offering a copy of the final album as a reward). 52. Bradford, supra note 17, at 19–20; Kickstarter Basics, supra note 34 (noting that Kickstarter charges a five percent flat fee if the project reaches completion and collects its fee before money is transferred to the project developer); How Much Does Indiegogo Cost? Fees & Pricing, INDIEGOGO, https://support.indiegogo.com/hc/en-us/articles/204446408- how-much-does-indiegogo-cost-fees-pricing (last visited Apr. 1, 2016) (noting that Indiegogo charges two different percentage fees based on the status of the project: if the project is completed, they collect four percent (or three percent for verified non-profits), and if incomplete, they collect nine percent before the money is transferred to the project developer). 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1435 the loan at a later date.53 Kiva and Prosper lead the industry in lending-based crowdfunding for individuals in need of loans for personal or business purposes.54 Kiva, as a non-profit crowdfunding platform, does not offer interest to individual contributors as a condition of the money lent nor does it charge a fee for its service.55 Prosper offers interest on the loans from backers and takes a fee from the total amount being lent before it is transferred to the borrower.56 Finally, equity crowdfunding offers investors an equity stake in the business venture.57 With the Crowdfund Act,58 entrepreneurs are allowed “to raise up to $1 million”59 a year though a crowdfunding platform, receiving a maximum amount “ranging from “$2000 to $100,000 [per investor] depending on the investor’s annual income or net worth.”60 Any type of security may be sold, including “common stock, preferred stock, debentures, or any existing or novel combination thereof.”61 Investors and issuers conduct business through a broker- dealer portal, which, compared with traditional broker-dealers, are bound by less cumbersome regulations and are typically less expensive.62 With their investment, investors receive an ownership interest, or equity, in the company.63 Individuals here are not looking for a reward, to pre-purchase a product, or to fulfill goodwill; investors are looking to invest in a company that they believe will grow their money, leaving them a favorable return on their investment. In essence, two popular economic theories, micro-lending, which facilitates lending to “very small entrepreneurial ventures,” and crowdsourcing, “small contributions from a large number of people to achieve a common goal,” have combined to create the phenomenon known as crowdfunding—“small contributions from a large number of people to fund small entrepreneurial ventures.”64
53. Bradford, supra note 17, at 20. 54. Id. at 21. 55. About Us, supra note 32. 56. Personal Loans with Great Rates, PROSPER, https://www.prosper.com/loans/ (last visited Apr. 1, 2016). 57. Darke, supra note 23, at 188. 58. See Robb Mandelbaum, Should You Crowdfund Your Next Business?, INC., http://www.inc.com/magazine/201405/robb-mandelbaum/jobs-act-crowdfunding- problems.html (last visited Apr. 1, 2016). 59. Wroldsen, supra note 30, at 366. 60. Id. at 367. 61. Id. 62. See Mandelbaum, supra note 58. 63. Wroldsen, supra note 30, at 362–63. 64. Bradford, supra note 17, at 29. 09_GANATRA.DOCX 1/20/17 1:49 PM
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C. How Does Kickstarter Work?
Projects on Kickstarter range from filmmaking and music recording to products with innovative design and technological ingenuity.65 Kickstarter offers backers a variety of categories to find a campaign to back.66 Since its launch in 2009, Kickstarter has hosted over 100,000 successful creative projects backed with over $2.4 million in funding by close to eleven million people pledging nearly thirty million times, and is continuing to grow at an exponential rate.67 Kickstarter operates as an intermediary between project “creators”68 and “backers,”69 ending its relationship between the parties after a transaction has been completed.70 A project creator posts an idea on the Kickstarter platform and individual backers fund the project with any amount of money they choose.71 As an incentive to request funding, creators offer “rewards,”72 based on the amount of money that a funder contributes.73 These rewards range from small items such as t- shirts,74 to final versions of the product in development,75 to larger rewards including paid trips to movie premiers and tours.76
65. See Kickstarter Basics, supra note 34. 66. Kickstarter offers a variety of project categories to group creators into, and for backers to explore, including Art, Comics, Crafts, Dance, Design, Fashion, Film & Video, Food, Games, Journalism, Music, Photography, Publishing, Technology, and Theater. Discover, KICKSTARTER, https://www.kickstarter.com/discover?ref=nav (last visited Apr. 1, 2016). 67. See Stats, KICKSTARTER, https://www.kickstarter.com/help/stats?ref=footer (last visited Apr. 1, 2016). 68. “Creator” is defined as “the person or team behind the project idea, working to bring it to life.” Kickstarter Basics, supra note 34. 69. “Backers” are defined as the “folks who pledge money to join creators in bringing projects to life.” Id. 70. See id. 71. Id. 72. “Rewards” are defined as “a creator’s chance to share a piece of their project with their backer community. Typically, these are one-of-a-kind experiences, limited editions, or copies of the creative work being produced.” Id. 73. See Bradford, supra note 17, at 17–18. 74. See, e.g., Hush, the World’s First Smart Earplugs, KICKSTARTER, https://www.kick starter.com/projects/hush/hush-the-worlds-first-smart-earplug/description (last visited Apr. 1, 2016) (offering a “Hush T-shirt” as a reward for a twenty-five dollar pledge). 75. See, e.g., MAID Oven—Make All Incredible Dishes, KICKSTARTER, https://www. kickstarter.com/projects/sectorqube/maid-oven-make-all-incredible-dishes/description (last visited Apr. 1, 2016) (offering the “MAID oven” as a reward for a $449 pledge). 76. See, e.g., Island Earth—Exploring the GMO Controversy in Hawaii, KICKSTARTER, https://www.kickstarter.com/projects/cyrussutton/island-earth-documentary?ref=category (last visited Apr. 1, 2016) (offering a “VIP ticket and US [sic] airfare to the Hawaiian 09_GANATRA.DOCX 1/20/17 1:49 PM
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When submitting a project to Kickstarter, creators must state an estimated completion date for their project, as well as an estimated date for when backers should expect to receive their rewards.77 The Terms of Use make clear that these dates are mere estimates and the creator may run into delays.78 Kickstarter requires that creators keep their backers informed of the status of the project and any rewards owed but otherwise remains uninvolved in the relationship.79 Backers pledge their contribution to the project or campaign, but funds are not collected by Kickstarter and the money is not tendered to the creator until the project reaches its fundraising goal.80 If the project does not reach its goal, money is not collected from backers and Kickstarter does not assess its fee.81 If the project does reach its goal, contributions are accepted until the funding window is closed, Kickstarter assesses a five percent fee, a third party charges a processing fee,82 and the contributions are transferred to the creators.83 After the money is deposited to the creators of the project, and their fee collected, Kickstarter ceases their role in the relationship between the parties.84 They not only disclaim any and all liability for contributions submitted by backers, they clearly indicate that they do not oversee the completion of projects or the distribution of rewards.85 Crucially, and with much confusion surrounding the issue, Kickstarter indicates on its Blog that it is not a store.86 Noting that many people “feel like [they are] shopping at a store when they’re backing projects,”87 Kickstarter tries to convey the message that
[p]remiere of Island Earth [and] a surf with Cyrus at Waikiki [and] [a] tour of sustainable garden projects on Oahu” as a reward for a $6000 pledge). 77. See Terms of Use, supra note 16. 78. See id. 79. See id. 80. Fees for the United States, KICKSTARTER, https://www.kickstarter.com/help/fees (last visited Apr. 1, 2016). 81. Kickstarter employs an “all-or-nothing” funding rule where projects that have not reached their funding goals are not complete and none of the contributions pledged at that point will be collected and deposited in creator accounts. Kickstarter Basics, supra note 34. 82. Amazon applies a three to five percent “payment processing fee[]” when a project is successfully funded and a transfer of money takes place between backers, Kickstarter, and creators. Cf. Fees for the United States, supra note 80. 83. See Kickstarter Basics, supra note 34. 84. See Terms of Use, supra note 16. 85. Id. 86. Chen et al., supra note 50. 87. Id. 09_GANATRA.DOCX 1/20/17 1:49 PM
1438 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 backers are “helping to create something new” and are “not ordering something that already exists.”88 Understandably, this message is often lost on backers as they see Kickstarter as a means to be first in line for an innovative product.89 One of Kickstarter’s most successfully funded projects, the Pebble Smartwatch,90 for example, illustrates the pre- purchase misconception.91 Pebble begins offering rewards with a contribution of one dollar, entitling backers to updates on the manufacturing process.92 Pebble then lists the next reward level at ninety-nine dollars, entitling backers to the Pebble watch.93 With each level following, backers receive anywhere from one to one hundred watches as rewards.94 “Of the 68,929 backers, [ninety-six] percent contributed enough to get a watch . . . essentially placing pre-orders for the Pebble.”95 So while Kickstarter tries to send a message to its users that it is not a pre-order site, the structure and success of projects like Pebble illustrate the opposite. Looking to how backers and creators transact on Kickstarter confuses more than clarifies Kickstarter’s message. The process is similar to how consumers traditionally purchase products for sale on the Internet. For example, “[o]n Amazon, a customer navigates to Amazon’s site, chooses a product, and provides payment information. In essence, the transactions on Kickstarter and Amazon are nearly identical.”96 While many projects on Kickstarter follow a quasi-donation model where the transaction cannot be mischaracterized as one that is between consumer and buyer, at least in the first few rungs in the rewards ladder,97 inevitably, many, in fact a majority of Kickstarter’s most popular and most funded projects, eventually offer the final
88. Kickstarter Basics, supra note 34; see Chen et al., supra note 50; Trust & Safety, KICKSTARTER, https://www.kickstarter.com/trust (last visited Apr. 1, 2016). 89. See Adrianne Jeffries, Kickstarter Is Not a Store, Except When It Is, VERGE (April 17, 2013, 9:30 AM), http://www.theverge.com/2013/4/17/4230440/kickstarter-is-not-a- store-except-when-it-is. 90. Pebble Tech., supra note 13. 91. See Jeffries, supra note 89. 92. Pebble Tech., supra note 13. 93. Id. 94. Id. (providing that backers who pledge ninety-nine dollars receive one Pebble watch, where backers who pledge $10,000 receive 100 Pebble watches.). 95. Jeffries, supra note 89. 96. Eric Dietz, The Tax Code’s Crowdfunding Dilemma: The Temptation of Kickstarter Creators to Use the Gift Exclusion Under Section 102(a), 37 HAMLINE L. REV. 293, 301 (2014). 97. Id. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1439 product as a reward.98 Other creators are more direct; they make clear that the first possible reward is the product for which the campaign is seeking funding, effectively communicating to backers that they are placing a pre-order.99 This misconception and general confusion of what Kickstarter really is fuels the issues that arise for creators, backers, potential regulators, and Kickstarter itself. Looking at the transactions on Kickstarter objectively, it appears that Kickstarter acts, at least in part, like a store. While to backers, the misconception is evident from the types of rewards offered, the guidance offered by Kickstarter to project creators does not help clarify the confusion.100 In fact, Kickstarter suggests that creators offer the final product as a reward and further provides advice on pricing and delivery.101 “Again, [while] there is no explicit statement that creators are selling products on Kickstarter[,] . . . [the] recommendations seem to infer that the incentives for backers are similar to the incentives that would entice buyers to purchase products from a traditional retailer.”102
D. Kickstarter’s Terms of Use and the Contract Between Creator and Backer
As of October 19, 2014, Kickstarter updated its Terms of Use by simplifying its language and expressly indicating that once a creator posts a project on Kickstarter, they are extending an offer and any
98. See generally Grepper, supra note 14 (offering backers, for a five dollar contribution, thanks and gratitude from the project creator, whereas for a $165 contribution, the final product); Pono Music—Where Your Soul Rediscovers Music, KICKSTARTER, https://www.kickstarter.com/projects/1003614822/ponomusic-where-your- soul-rediscovers-music/rewards (last visited Apr. 1, 2016) (offering backers, for a five dollar contribution, love and thanks from the project creator, whereas for a $200 contribution, the final product). 99. See generally Exploding Kittens, KICKSTARTER, https://www.kickstarter.com/ projects/elanlee/exploding-kittens?ref=most_funded (last visited Apr. 1, 2016) (offering backers as its first reward, at twenty dollars, a copy of the final game); Pebble Time— Awesome Smartwatch, No Compromises, KICKSTARTER, https://www.kickstarter.com/ projects/597507018/pebble-time-awesome-smartwatch-no-compromises/rewards (last visited Apr. 1, 2016) (offering backers as its first reward, at $159, a choice of the final product in a selection of three colors). 100. Creator Handbook, KICKSTARTER, https://www.kickstarter.com/help/handbook (last visited Apr. 1, 2016). 101. Id. 102. Dietz, supra note 96, at 299. 09_GANATRA.DOCX 1/20/17 1:49 PM
1440 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 individual who backs the project is accepting this offer.103 The terms of the contract between the creator and backer state:
Most of our Terms of Use explain your relationship with Kickstarter. This section is different—it explains the relationship between creators and backers of Kickstarter projects, and who’s responsible for what. This is what you’re agreeing to when you create or back a Kickstarter project.
Kickstarter provides a funding platform for creative projects. When a creator posts a project on Kickstarter, they’re inviting other people to form a contract with them. Anyone who backs a project is accepting the creator’s offer, and forming that contract.
Kickstarter is not a part of this contract—the contract is a direct legal agreement between creators and their backers. Here are the terms that govern that agreement:
When a project is successfully funded, the creator must complete the project and fulfill each reward. Once a creator has done so, they’ve satisfied their obligation to their backers.
Throughout the process, creators owe their backers a high standard of effort, honest communication, and a dedication to bringing the project to life. At the same time, backers must understand that when they back a project, they’re helping to create something new—not ordering something that already exists. There may be changes or delays, and there’s a chance something could happen that prevents the creator from being able to finish the project as promised.
If a creator is unable to complete their project and fulfill rewards, they’ve failed to live up to the basic obligations of this agreement. To right this, they must make every reasonable effort to find another way of bringing the project to the best possible conclusion for backers. A creator in this position has only remedied the situation and met their obligations to backers if:
103. Kickstarter expressly states that they are not a party to the contract. See Terms of Use, supra note 16. 09_GANATRA.DOCX 1/20/17 1:49 PM
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• [T]hey post an update that explains what work has been done, how funds were used, and what prevents them from finishing the project as planned;
• [T]hey work diligently and in good faith to bring the project to the best possible conclusion in a timeframe that’s communicated to backers;
• [T]hey’re able to demonstrate that they’ve used funds appropriately and made every reasonable effort to complete the project as promised;
• [T]hey’ve been honest, and have made no material misrepresentations in their communication to backers; and
• [T]hey offer to return any remaining funds to backers who have not received their reward (in proportion to the amounts pledged), or else explain how those funds will be used to complete the project in some alternate form.
The creator is solely responsible for fulfilling the promises made in their project. If they’re unable to satisfy the terms of this agreement, they may be subject to legal action by backers.104
Kickstarter’s Terms of Use indicate that a contract is being formed between the parties, and a closer examination reveals the duties that the parties undertake when they enter into an agreement on the platform.105 First, and most importantly, Kickstarter explicitly indicates a contractual relationship is formed between a creator and backer, with a creator extending an offer and a backer accepting the offer upon tendering a contribution.106 Creators are explicitly tasked with specific duties in upholding their end of the contract, including, completing the project and fulfilling each reward promised to backers, with their obligation to a backer only satisfied upon doing so.107 In carrying out their primary duty, a creator owes a backer a “high standard of effort”
104. Id. (second emphasis added). 105. Id. 106. Id. 107. Id. 09_GANATRA.DOCX 1/20/17 1:49 PM
1442 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 and “honest communication” throughout the process.108 While creators have the heaviest burden in the relationship in both finishing their project and fulfilling their reward, backers are also warned of the risks involved in pledging the contribution, including delays, changes, or the possibility of a project failing to reach completion “as promised.”109 Despite these warnings, creators are not quite off the hook; even if creators are unable to finish the project as promised, they must provide updates explaining the work that has been done, demonstrate that the funds were appropriately used, and offer refunds to backers, where applicable.110 However, there seems to be no enforcement mechanism to make sure these requirements are followed; Kickstarter does not take any affirmative action to make sure that creators are timely updating their backers, nor is it overseeing the status of a project or the rewards that are promised by creators.111 Should a creator fail to fulfill their legal obligations to a backer, the only action that Kickstarter suggests is that backers may resort to legal recourse against a creator.112
III. CONTRACTUAL ANALYSIS
The relationship between a creator and backer is governed by a contract. As discussed in the previous section, the Terms of Use state that “[w]hen a creator posts a project on Kickstarter, they’re inviting other people to form a contract with them. Anyone who backs a project is accepting the creator’s offer, and forming that contract . . . . [T]he contract is a direct legal agreement between creators and their backers.”113 When a creator cannot keep its promise to a backer in completing their project or fulfilling a reward, the problem, at its most
108. Id. 109. Id. 110. Id. 111. See id. However, Kickstarter does get involved before the project is fully funded, when a campaign fails to abide by the “Prototypes & Rendering” requirements. Prototypes & Renderings, KICKSTARTER, https://www.kickstarter.com/rules/prototypes (last visited Apr. 1, 2016). Kickstarter requires projects “that manufacture and distribute hardware, gadgets, and other products ” inform backers “what stage of development the project is in” by showing a working prototype. Id. In doing so, it prohibits “photorealistic renderings that someone might mistake for a finished product.” Id. Kickstarter recently took this step with a campaign that had been hugely successful in raising money, however, had failed to provide a working prototype. Simon Sharwood, Laser Razor Blunted by KickStarter Ban, REGISTER (Oct. 13, 2015, 1:29 AM), http://www.theregister.co.uk/2015/ 10/13/laser_razor_snuffed_out_by_kickstarter/. Kickstarter indicated in its notice to the creators that its suspension was irreversible. Id. 112. Terms of Use, supra note 16. 113. Id.; see supra Part II.C. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1443 basic level, is a breach of contract. While the problem can be defined as a simple breach of contract by a creator with traditional remedies appearing to be available to a backer, the issues become complicated in the context of a creator-backer relationship and it becomes clear that contractual remedies may help some, but will not solve the broader creator-failure problem.
A. A New Frontier of Contract Formation
With trade and communication developing over the last century, the current age of globalization has connected people across the world in ways unimaginable just a few decades ago. Helping put international commerce into another gear has been the proliferation of the Internet. What started with individuals thousands of miles apart having the capability to message each other with a few clicks of a mouse turned into the Internet facilitating all modes of communication and interaction. Social media sites like Facebook and Twitter have become the Internet’s town square, and ecommerce spurred by the likes of Amazon and eBay have become a digital marketplace. And like its counterpart in the physical world, professional, social, and economic interaction on the Internet is grounded in online contracting. Parties to a transaction having to once physically sign a contract memorializing their agreement can now enter into a legal agreement through e-mail and clicking boxes, and in some cases, by their very interaction. But like their physical counterparts, contracts made through the Internet are governed by the same rules in formation and principles of execution. And though a variety of disputes resulting from contracts made electronically have already been litigated, the ever-expanding use of the Internet for new ventures presents the problem of an ever-expanding class of contractual disputes. “A contract is a promise or a set of promises for the breach of which the law gives a remedy, or the performance of which the law in some way recognizes as a duty.”114 To have a valid and binding contract, the agreements must “satisfy the contractual requirements of mutual assent and exchange of consideration.”115 Mutual assent is reached after one party makes an offer, which is “followed by an acceptance by the other party.”116 “The acceptance may be made by any medium used by
114. RESTATEMENT (SECOND) OF CONTRACTS § 1 (AM. LAW INST. 1981). 115. Matthew D. Walden, Could Fair Use Equal Breach of Contract?: An Analysis of Informational Web Site User Agreements and Their Restrictive Copyright Provisions, 58 WASH. & LEE L. REV. 1625, 1630 (2001). 116. RESTATEMENT (SECOND) OF CONTRACTS § 22(1) (AM. LAW INST. 1981). 09_GANATRA.DOCX 1/20/17 1:49 PM
1444 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 the offeror or by any other means that is ‘customary in similar transactions at the time and place the offer is received.’”117 “A handshake, a nod of the head or any other conduct recognizing the existence of a contract will suffice.”118 “Thus, if an offer is made electronically . . . it can clearly be accepted by electronic means.”119 When it comes to contracting online, “[c]ontracts between websites and users are typically found in the form of terms of use.”120 These agreements are typically standard-form contracts “because they are perceived as non-negotiable.”121 These communications and interactions between the user and the site and the users amongst themselves are governed by the Terms of Service or Terms of Use of a website, purportedly contracts themselves.122 These contracts are typically characterized by the methods in which assent to the contract is made: either by “clickwrap” or “browsewrap.”123 “A clickwrap agreement requires some kind of affirmative act like the click of a mouse on a button indicating an assent prior to accessing a website.”124 On the other hand, browsewrap agreements “dictate that additional browsing past the homepage constitutes acceptance of the contract.”125 Often, browsewrap contracts place primary importance on a website’s Terms of Service, “whereby a user visits a website and by viewing the website, using the website or even just navigating the website, the user agrees to be bound by the Terms of Service located elsewhere.”126 By 2002, researchers determined that clickwrap and browsewrap contracts had become so pervasive they had become the “industry standard.”127 Further, the “parties’ state of mind during the formation of these agreements is irrelevant,” rather, “[o]nly external acts and manifestations, not subjective, internal intentions, determine mutual
117. Valerie Watnick, The Electronic Formation of Contracts and the Common Law “Mailbox Rule,” 56 BAYLOR L. REV. 175, 184 (2004). 118. Juliet M. Moringiello, Signals, Assent and Internet Contracting, 57 RUTGERS L. REV. 1307, 1311 (2005). 119. Watnick, supra note 117, at 184–85. 120. Woodrow Hartzog, Website Design as Contract, 60 AM. U. L. REV. 1635, 1640 (2011). 121. Id. 122. Id. 123. See Michelle Garcia, Browsewrap: A Unique Solution to the Slippery Slope of the Clickwrap Conundrum, 36 CAMPBELL L. REV. 31, 35–36 (2014). 124. See Hartzog, supra note 120, at 1642. 125. Id. 126. See Garcia, supra note 123, at 35–36. 127. Id. at 35. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1445 assent to a contract.”128 In the context of the browsewrap agreement, the validity of these agreements hinges on whether a user has “‘actual or constructive knowledge’ of the terms and conditions.”129 Thus, no “meeting of the minds” is necessary for an agreement, “[r]ather, a reasonable communication of the terms will suffice.”130 The notice requirement is fulfilled by “conspicuous display of the contract.”131 Two key aspects of the user experience on Kickstarter indicate that users are bound by the Terms of Use through a browsewrap contract. When creating an account on Kickstarter, a user enters their name, e- mail address, and password. Below the “Sign me up!” button appears the disclaimer: “By signing up, you agree to our terms of use, privacy policy, and cookie policy.”132 Instead of having to click a checkbox indicating that the agreements have been read, the message is encoded with a hyperlink to lead users to the respective documents to be reviewed. Second, before completing a transaction, a backer sees a similar message: “By pledging you agree to Kickstarter’s Term of Use and Privacy Policy” next to the “Pledge” button.133 Again, this message is encoded with a hyperlink so that the user must review the documents before proceeding with the transaction.134 Thus, Kickstarter’s Terms of Use are initiated by the browsewrap method when users create an account and a backer agrees to back a campaign, as the terms of the agreement are reasonably communicated with conspicuous display of links to the pages where they can be reviewed.135 The contract at issue between a creator and backer is effectuated when a backer pledges to contribute to a campaign. The Terms of Use are clear in this regard: a creator extends an offer when their campaign is posted to the platform, and a backer accepts a creator’s offer when they agree to back a project.136 When a creator does not complete a project and provide a backer with their promised reward, they have
128. Hartzog, supra note 120, at 1643. 129. Id. 130. Id. 131. Id. at 1644. 132. Sign Up, KICKSTARTER, https://www.kickstarter.com/signup?ref=nav (last visited Apr. 1, 2016). 133. Pledge, KICKSTARTER, https://www.kickstarter.com (choose a project; then follow “Book this Project” hyperlink; choose a reward; pledge amount; follow “continue” hyperlink) (last visited Apr. 1, 2016). 134. Id. 135. See Garcia, supra note 123, at 35–36; Hartzog, supra note 120, at 1644. 136. Terms of Use, supra note 16. 09_GANATRA.DOCX 1/20/17 1:49 PM
1446 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 failed the “basic obligations of [their] agreement.”137 Should a creator not meet these basic obligations, they have breached their contract with a backer, allowing a wronged backer to bring a cause of action and seek remedies for the breach.
B. Hanfree, Misunderstanding, and the Foray into Breach of Contract
In March 2011, Neil Singh was in the market to purchase a stand for his iPad and came across the Kickstarter page for Hanfree.138 On Hanfree’s Kickstarter page, Singh saw pictures and video of the product.139 Looking further, he read that a contribution of fifty dollars entitled him to the Hanfree stand as a reward.140 Finding this reasonable, Singh pledged his contribution and the waiting game began.141 With an initial fundraising goal of $10,000, Hanfree was ultimately able to raise $35,004 from 440 total backers.142 While he was excited about the project’s success, it was short-lived.143 “Once funded, [Seth] Quest, [the developer behind Hanfree,] needed to build the stands, manufacture them, and ship them out to his backers.”144 The entire endeavor quickly became problematic. After a mere six months, Quest had declared his project a failure and had spent most of the backers’ funds on development.145 After one year of the funding window closing and six months after being told that he would receive a refund, Singh filed a lawsuit in the Arizona Justice Court for breach of contract.146
137. Id. 138. Markowitz, supra note 11; Hanfree iPad Accessory: Use the iPad Hands Free, KICKSTARTER, https://www.kickstarter.com/projects/831303939/hanfree-ipad-accessory- use-the-ipad-hands-free (last visited Apr. 1, 2016). 139. Markowitz, supra note 11. 140. Id. 141. Id; Hanfree iPad Accessory: Use the iPad Hands Free, supra note 138. 142. Markowitz, supra note 11; Hanfree iPad Accessory: Use the iPad Hands Free, supra note 138. 143. Markowitz, supra note 11. 144. Id. 145. Id. 146. Id. While it is unclear how this lawsuit was resolved, Quest filed for bankruptcy shortly after, with some reports indicating that the lawsuit filed by Singh forced Quest into bankruptcy. Id. However, in an interview with Crowdfund Insider, Singh rebuts this allegation. Charles Luzar, Neil Singh Sets Record Straight on Kickstarter Lawsuit, CROWDFUND INSIDER (Jan. 22, 2013, 8:30 AM), http://www.crowdfundinsider.com/2013/01/ 8590-kickstarter-lawsuit-neil-singh/. Instead, Singh contends that his lawsuit, joined by other backers seeking refunds, was not responsible for Quest’s bankruptcy since it was solely for the seventy dollars they contributed to Quest’s campaign. Id. Singh goes on to 09_GANATRA.DOCX 1/20/17 1:49 PM
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The problems with Hanfree began almost immediately after its funding window closed. Like our ill-fated creator John and his AuthentiCase campaign from the earlier hypothetical, Quest had “never started a company before,” and he had “never manufactured a product.”147 A small-scale project expanding into a business with hundreds of customers becomes much too arduous for a creator without experience in manufacturing or production. Thus, a small-scale project calling for proportionate funds can turn into a massive undertaking if a Kickstarter goes viral. Adding to the problem of Quest’s inexperience, unpreparedness, and naivety is the fact that Kickstarter “encouraged somebody in his circumstances to think . . . [he] can just be the CEO of a venture project just by putting together a few designs and creating a video and slapping it up on Kickstarter.”148 Singh went on to explain,
from beginning to end it was something that he did not think through . . . . He didn’t plan anything, he didn’t plan what he was going to do with the money, where he should keep the money, how he was going to handle the budget, whether he needed a business plan . . . . [N]one of the very elementary, fundamental steps were followed by him from A to Z.149
And Quest is not alone when it comes to this problem. Many backers tend to be ill-prepared to face the overwhelming demand suddenly bestowed upon them from a hugely successful, viral campaign. When such a Kickstarter campaign fails and there is no outright fraud alleged against the creator, the failure is likely due to the ill-preparedness and naivety of the creator and mismanagement of the contributions received from backers.150 state that after Quest declared bankruptcy, he received documents showing that Quest was also being sued by one of his credit card companies. Id. Singh argues that the multiple liabilities that Quest faced were what forced him to declare bankruptcy. Id. 147. Markowitz, supra note 11. 148. Luzar, supra note 146. This Article contains an interview with Singh, the backer that filed the lawsuit in this case. All quotations are Singh’s answers to questions posed during the interview. 149. Id. (second alteration in original). 150. See Sam Biddle, Kickstarter Dude: I Spent All Your Money, Please Give Me More, VALLEYWAG (Oct. 6, 2014, 1:40 PM), http://valleywag.gawker.com/kickstarter-dude-i- spent-all-your-money-please-give-m-1641754663; Sam Biddle, Kickstarter Project Canceled After Dude Spends All the Money, VALLEYWAG (July 25, 2013, 2:18 PM), http:// valleywag.gawker.com/kickstarter-project-canceled-after-dude-spends-all-the-912176282; Jason Schreier, Their Kickstarter Made $170,000, but Now They’re out of Money, KOTAKU (Dec. 13, 2012, 11:30 PM), http://kotaku.com/5968343/their-kickstarter-made-170000-but- now-theyre-out-of-money. 09_GANATRA.DOCX 1/20/17 1:49 PM
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At the same time, backers like Singh also misunderstand the purpose of Kickstarter and the creators that use the platform to grow their businesses.151 Singh, like many in his position, misunderstood his role as a backer. While the Terms of Use are clear in this regard, the common misconception attached to sites like Kickstarter often clouds even more sophisticated backers’ conceptions of how the platform works. As Singh stated:
I understood that it was his idea and it wasn’t the same thing as going to Walmart, but the terms were pretty clear. You send us fifty dollars, and we’ll send you a Hanfree product. You send us $100, we will send you two products. That’s what I read, that’s what I understood and that’s what I did.152
Singh did not perform any due diligence, nor did he think he had to.153 Since he was not investing in an equity interest in the company, he was not performing duties that a potential shareholder would; he was simply “buying a product.”154 The basic problem in cases like these is that both backers and creators enter into a “contract” with fundamental differences in not only their counterparts’ role, but their own role as well. Quest was unprepared to uphold his end of the bargain and fulfill every reward owed to his backers, and Singh fell into the pre-purchase trap misunderstanding that he had entered into an agreement to purchase a product, not back a project.155 Looking to the Terms of Use, this misunderstanding is evident.156 For creators, when “a project is successfully funded, the creator must complete the project and fulfill each reward. Once a creator has done so, they’ve satisfied their obligation to their backers.”157 “At the same time, backers must understand that when they back a project, they’re helping create something new—not ordering something that already exists.”158 Looking at this language, it is evident that the roles of each party are clearly defined, and that Quest and Singh interpreted their roles contrary to how Kickstarter meant them to be.
151. See Luzar, supra note 146. 152. Id. 153. See Markowitz, supra note 11. 154. See id. 155. Id. 156. See Terms of Use, supra note 16. 157. Id. (emphasis added). 158. Id. (emphasis added). 09_GANATRA.DOCX 1/20/17 1:49 PM
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Regardless of their personal states of mind when forming their contract, Quest and Singh’s external acts and manifestations determined mutual assent.159 And, as in all Kickstarter transactions, links to its Terms of Use are available for examination at least twice before a transaction by a backer is effectuated, arguably sufficing as a reasonable communication.160 In other words, Quest had ample opportunity to review the Terms of Use before launching his campaign, as did Singh before he pledged his contribution, and it was reasonable for Kickstarter to believe that users do so. Consequently, a contractual relationship between the two was formed upon completion of their transaction. Since backers fulfill their obligations immediately, any missteps by a creator, especially failing to deliver the final project or a promised reward, are fertile grounds for a backer’s initiation of a breach of contract lawsuit, and that is exactly the route Singh decided to take against Quest upon failure of the Hanfree campaign. The breach of contract claim that Singh elected to take is available to every backer of a campaign that grinds to a halt after mismanagement and poor execution by a creator. Every transaction between a backer and creator is identical in execution: everyone accepts the Terms of Use via browsewrap agreement, creators following the same steps to launch a campaign, and backers all view the same content before pledging a contribution. Thus, a claim of breach of contract by one backer can be replicated by the others, giving way to hundreds, even thousands of individual suits against a single creator already in an economically vulnerable position.
C. The Class Action Solution?
While backers have a valid breach of contract claim when a creator cannot fulfill the obligations of their agreement, bringing a claim on an individual basis may not always be a backer’s best option. The average Kickstarter pledge is approximately seventy-seven dollars, usually an insufficient amount and economically infeasible for an individual to hire a lawyer and see through successful litigation of the claim.161 With such individual and expensive lawsuits few and far between, continuing to litigate breach of contract claims on an individual basis would provide no deterrent effect on creators who decide to solicit money through a
159. Hartzog, supra note 120, at 1643. 160. See id. at 1644. 161. See Samuel Issacharoff, The Vexing Problem of Reliance in Consumer Class Actions, 74 TUL. L. REV. 1633, 1634 (2000); Stats, supra note 67; supra Part III.B. 09_GANATRA.DOCX 1/20/17 1:49 PM
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Kickstarter campaign.162 And, if hundreds of thousands of backers suddenly began bringing single, identical claims against a campaign and its creators, the high volume of lawsuits would be overly burdensome on state judiciaries and adversarial parties, taxing the resources of multiple jurisdictions and a creator that is forced to respond to them all.163 It is unlikely that a creator that has already squandered contribution from backers has additional resources to litigate each and every suit by a backer throughout the country. The class action lawsuit has been developed by courts and legislatures to remedy problems stemming from high volume, individual lawsuits litigating identical claims by similarly situated plaintiffs.164 The class action allows a representative plaintiff to bring a single lawsuit on behalf of a large number of similarly situated claimants.165 The benefits of litigating as a class address the problems that members would face had they sought to litigate individually; judicial and party resources are conserved by binding the class and its absent members to a final judgment, and aggrieved parties are provided with a cost- effective method to litigate their small claims.166 Thus, the class action mechanism provides an avenue for individuals hesitant to bring a claim on their own to pool together their claims with similarly situated individuals, making it more economically viable for all affected class members to have their day in court.167 Kickstarter backers fit this mold precisely since any one campaign can have hundreds, sometimes thousands, of backers with identical causes of action seeking very small awards.
162. See Catherine Fisk & Erwin Chemerinsky, The Failing Faith in Class Actions: Wal-Mart v. Dukes and AT&T Mobility v. Concepcion, 7 DUKE J. CONST. L. & PUB. POL’Y 73, 75 (2011). 163. Ilana T. Buschkin, The Viability of Class Action Lawsuits in a Globalized Economy—Permitting Foreign Claimants to Be Members of Class Action Lawsuits in the U.S. Federal Courts, 90 CORNELL L. REV. 1563, 1564–65 (2005). 164. Issacharoff, supra note 161, at 1634. 165. Buschkin, supra note 163, at 1564; see FED. R. CIV. P. 23(a)(2). 166. Buschkin, supra note 163, at 1564–65. 167. See Phillips Petroleum Co. v. Shutts, 472 U.S. 797, 809 (1985) (“Class actions also may permit the plaintiffs to pool claims which would be uneconomical to litigate individually. For example, th[ese] lawsuit[s] involve[] claims averaging about $100 per plaintiff; most of the plaintiffs would have no realistic day in court if a class action were not available.”); Carr v. Trans Union Corp., No. 94-0022, 1995 WL 20865, at *3 (E.D. Pa. Jan. 12, 1995) (“Class actions are often the most suitable method for resolving suits to enforce compliance with consumer protection laws because the awards in an individual case are usually too small to encourage the lone consumer to file suit.”). 09_GANATRA.DOCX 1/20/17 1:49 PM
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While pursuing the class action avenue makes sense for Kickstarter backers on a practical level, their claims must pass the requirements for class certification and conform with one of the class-categories outlined in Federal Rule of Civil Procedure 23.168 First, plaintiffs must meet the four procedural prerequisites outlined in Rule 23(a): “the class is so numerous that joinder . . . is impracticable;”169 “there are questions of law or fact common to the class;”170 “the claims . . . of the representative parties are typical of the claims . . . of the class;”171 and “the interests of the class” will be “fairly and adequately protect[ed by] . . . the representative part[y].”172 The claims brought by Kickstarter backers meet these four prerequisites. First, successful campaigns can have hundreds, sometimes thousands, of backers.173 Second, the questions of law are identical to each and every backer, as every backer agreed to the same Terms of Use, viewed the same campaign page, and made their contributions in accordance with the same schedule of awards. Third, the claims of class representatives are identical to the class; each backer has a claim for breach of contract against a creator for failing to abide by the Terms of Use in completing their campaign and fulfilling their promise to award backers. Finally, since their claims are identical, the representative backer on behalf of a class can fairly and adequately protect the interests of the class. After a potential class meets the prerequisite requirements, the class must fit into one of the categories outlined in Rule 23(b).174 “Most class action lawsuits . . . seeking monetary damages are Rule 23(b)(3) actions.”175 Rule 23(b)(3) applies to class actions where “the court finds that the questions of law or fact common to class members predominate over any questions affecting only individual members,” and where proceeding as a class is “superior to other available methods.”176 Courts tend to certify classes on this basis where it will save resources of both the court and the parties, and where there will be a uniform decision
168. See FED. R. CIV. P. 23. 169. Id. 23(a)(1). 170. Id. 23(a)(2). 171. Id. 23(a)(3). 172. Id. 23(a)(4). 173. See, e.g., Asylum Playing Cards: Description, KICKSTARTER, https://www.kick starter.com/projects/213177064/asylum-playing-cards/description (last visited Apr. 1, 2016) (where the campaign was backed by 810 individuals); Grepper, supra note 14 (where the campaign was backed by 62,642 backers). 174. See FED. R. CIV. P. 23(b). 175. Buschkin, supra note 163, at 1571–72. 176. FED. R. CIV. P. 23(b)(3). 09_GANATRA.DOCX 1/20/17 1:49 PM
1452 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 among similarly situated parties.177 Ultimately, a class of Kickstarter backers would be seeking monetary damages and thus qualify as a Rule 23(b)(3) class. Both questions of law and fact are common to this class and they certainly predominate over any questions affecting individual members. Further, proceeding as a class is far superior than allowing hundreds, possibly thousands, of individual small breach of contract claims to flood local courts. By certifying a class of Kickstarter backers and aggregating their claims, judicial and party resources are conserved, common, near identical questions are litigated in a single proceeding, and the interests of backers not willing to litigate individually are fairly and adequately represented.
IV. WHAT CAN KICKSTARTER DO?
With the exception of very minimal oversight duties, Kickstarter does not play a role in these transactions; Kickstarter serves as the platform for creators to seek backers and vice versa with no role in the relationship after the parties transact.178 As it currently stands, if a campaign reaches its fundraising goal, Kickstarter takes its fee, five percent of the total funds raised by the campaign,179 and the backer and creator are left alone to manage the remainder of their transaction.180 However, Kickstarter has the opportunity to perform enhanced regulatory functions as the gatekeeper to its crowdfunding platform. Kickstarter does indicate that it minimally monitors the platform: “Our Integrity team uses complex algorithms and automated tools to identify and investigate suspicious activity on projects.”181 In addition, they act as a quasi-referee in “watching over the platform and reviewing reports from the community.”182 Kickstarter may also be hiring an “Integrity Specialist to help evaluate products and ensure that they meet the company’s . . . rules.”183 While current methods are aimed at preventing
177. Id. 23(b)(3) advisory committee’s note to 1966 amendment. 178. Terms of Use, supra note 16. 179. See id. (“Fees are only charged on successfully funded projects. We charge 5%, in addition to any fees from our payment partners.”). 180. Id. (“Kickstarter is not a part of this contract—the contract is a direct legal agreement between creators and their backers . . . . We don’t oversee projects’ performance, and we don’t mediate disputes between users.”). 181. Trust & Safety, supra note 88. 182. Id. 183. Aguilar, supra note 12; Kickstarter Looking for “Integrity Specialist” to Oversee Product Design Quality Control, SOLIDSMACK (Mar. 5, 2015), http://www.solidsmack.com/ culture/kickstarter-looking-for-integrity-specialist-to-overlook-product-design-quality- 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1453 truly outlandish projects with no possibility of fruition, they have failed to identify certainly suspicious projects. For example, creator Ben Way launched a campaign for his project, Arc Island.184 Arc Island was touted as “the largest civil engineering project in history.”185 Way sought to “build an entire floating structure the size of Manhattan that can be moved to different locations in the world.”186 More than that, Way wanted to create “a new civilisation [sic] from scratch . . . [that would] be its own country, with its own economic, political and legal structure.”187 For a $500 pledge, backers would be rewarded with an “Arc Island Passport and citizenship.”188 Incredibly, seventy-six backers pledged a total of $14,984, however, the project fell short of its $50,000 fundraising goal.189 Likewise, Orbit was a project to build a “[f]lying [a]utonomous [s]mart [d]evice.”190 This “gadget” was essentially a “flying smartphone” described as a “personal assistant” that flew within the proximity of the owner and performed the functions of a smartphone by voice activation.191 The Orbit project received a total of six dollars of its $1,000,000 goal.192 If incredible projects like Arc Island and Orbit do not alert Kickstarter’s Integrity Team, it is no wonder that the campaigns like Hanfree and Asylum Playing Cards are allowed to utilize the platform, despite the inadequacy of structure, inexperience, and naivety of the creator. And with access to the platform with a campaign that backers believe in, projects like these have no trouble reaching their funding goals before mismanaging money or defrauding backers.193 In the alternative, Kickstarter should deploy its Integrity Specialist team to screen for creators, not individual projects, that seek to commit fraud or individuals that have shown no preparation, planning, or control/. This development is fairly recent and has not been reported on expansively. 184. Ben Way, Arc Island—A Brave New Civilization, KICKSTARTER, https://www.kick starter.com/projects/benway/arc-island-a-brave-new-civilization (last visited Apr. 1, 2016). 185. Id. 186. Id. 187. Id. 188. Id. 189. Id. 190. Thomas King, “Orbit” Flying Autonomous Smart Device. Prototype., KICKSTARTER, https://www.kickstarter.com/projects/478222000/orbit-flying-autonomous-smart-device- prototype/description (last visited Apr. 1, 2016). 191. Id. 192. Id. 193. See, e.g., Asylum Playing Cards, KICKSTARTER, https://www.kickstarter.com/ projects/213177064/asylum-playing-cards (last visited Apr. 1, 2016); see also Hanfree iPad Accessory: Use the iPad Hands Free, supra note 138. 09_GANATRA.DOCX 1/20/17 1:49 PM
1454 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 experience. In doing so, the platform will be able to widen its scope and focus on the root of failed Kickstarter projects. By requiring more specific personal information, financial disclosures, and business plans from prospective creators, similar to SEC Title III regulations,194 Kickstarter will have, at minimum, a profile it can evaluate creators with and publish to backers. This way, potential backers can vet creators and determine if their funding will be used appropriately. Of course, this is an arduous task195 that will be difficult for a relatively small company like Kickstarter.196 While vetting individual projects and creators may be a task for Kickstarter before the creator-backer relationship is initiated, Kickstarter can also improve the relationship between the parties while still remaining out of their contract. Although adequately providing its Terms of Use to backers and creators upon creation of an account and to backers upon pledging to a project,197 Kickstarter can clarify its terms and simplify them further to avoid any confusion. The following is proposed language, in italics, Kickstarter can add to its Terms of Use, or as a message for the parties immediately before launching a campaign or backing a project:
Kickstarter provides a funding platform for creative projects. When a creator posts a project on Kickstarter, they’re inviting other people to form a contract with them. Anyone who backs a project is accepting a creator’s offer, and forming that contract.
Remember, Kickstarter is not a store.
Creators are not selling products.
Backers are not purchasing products.
194. See Press Release, Sec. & Exch. Comm’n, SEC Adopts Rules to Permit Crowdfunding (Oct. 30, 2015), https://www.sec.gov/news/pressrelease/2015-249.html. 195. To date, Kickstarter has launched 279,526 total projects (both successful and unsuccessful), averaging approximately 36,000 projects a year since the platform went live in 2009. Stats, supra note 67. With an already immense creator base, a base that is continually growing at a rapid rate, requesting, filing, publishing, and vetting tens of thousands of new creators a year is certainly a task that may be out of the realm of possibility for a company like Kickstarter. 196. Kickstarter currently staffs 136 employees in its Brooklyn, New York office. Meet the Team, KICKSTARTER, https://www.kickstarter.com/team?ref=footer (last visited Apr. 1, 2016). 197. See supra Part III.A. 09_GANATRA.DOCX 1/20/17 1:49 PM
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As entrepreneurs, artists, innovators, and small-businesses, creators are seeking funding to fuel their project, and if successful, are willing to reward backers for their support.
As with any new venture, success is not guaranteed.
By including this explicit language, found elsewhere on the site198 but conspicuously missing from its Terms of Use, Kickstarter can clear up fundamental misrepresentations of the roles that the parties on the site play and have all participants, at minimum, know that Kickstarter is not a retail store, backers are not consumers, and creators are not merchants.
V. EXISTING REGULATORY MECHANISMS
While backers may pursue individual contractual claims against creators, and perhaps class action claims may be pursued by an entire pool of backers, for a particular project, these measures would not be necessary if there was proper oversight and regulation of the rewards- based crowdfunding industry. While Kickstarter can provide clearer Terms of Use and perform more substantive regulatory functions, backers can be adequately protected from fraudulent schemes, and more commonly, inexperienced and ill-prepared creators, by larger regulatory mechanisms. Currently, the crowdfunding model used by platforms like Kickstarter is not formally regulated by a governmental or quasi-governmental body. The only remedy that backers have in the existing framework is the right to legal action if creators do not fulfill their promise to deliver rewards to backers or return their contributions upon failure of their project.199 Existing regulatory frameworks are in place in analogous industries that provide substantial protections for investors and entrepreneurs, and while some of the principles of the regulations are applicable to the reward-based platform, a perfectly fitting regulatory mechanism has not yet been created.
A. Consumer Protection Laws
One such mechanism of oversight applicable to the crowdfunding industry is consumer fraud prosecution, either at the federal level by
198. Trust & Safety, supra note 88 (“Kickstarter is not a store. People aren’t buying things that already exist—they’re helping to create new things.” (emphasis added)). 199. See id.; Terms of Use, supra note 16. 09_GANATRA.DOCX 1/20/17 1:49 PM
1456 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 the Federal Trade Commission (“FTC”) or by individual state attorneys general. The FTC was created “in response to abuses by merchants that the common law could not remedy.”200 When the FTC was eventually given authority to protect consumers from “unfair and deceptive trade practices,” it was still seen as ineffective and inadequate.201 In response, states enacted their own consumer fraud statutes designed “to strengthen public enforcement of consumer protection . . . authority [usually placed] in the state’s attorney general.”202 “State attorneys general prosecute consumer protection complaints, and a variety of other state agencies receive and address consumer grievances, ranging from public utilities commissions to state insurance commissions.”203 However, consumer fraud litigation taken on behalf of a class of consumers is not always the perfect remedy. The problem of “evolving consumer technologies and cunning efforts to create the next great scheme” limits the effect that consumer protection statutes have in protecting the public.204 In effect, having to always play catch-up, policymakers, regulators, and enforcement officials are often “unprepared and ineffective in the next innovative battle.”205 Critically, the law of consumer fraud presupposes two crucial elements of the cause of action: that the backer-class is consumers afforded protection under state and federal consumer protection laws and creators are merchants under state regulation. A consumer is defined as “a person who buys goods and services.”206 Therefore, pursuing a cause of action under either state or federal consumer protection statutes poses a problem at the most fundamental level: according to Kickstarter’s interpretation of the role of its users, backers and creators using the platform are not consumers purchasing goods or merchants selling goods.207 As such, the suit brought by state attorneys general or a private class seeking redress may be dead-on-arrival as any class of backers would not qualify for such protections.
200. Megan Bittakis, Consumer Protections Laws: Not Just for Consumers, 13 WYO. L. REV. 439, 442 (2013) (emphasis added). 201. Sheila B. Scheurman, The Consumer Fraud Class Action: Reining in Abuse by Requiring Plaintiffs to Allege Reliance as an Essential Element, 43 HARV. J. ON LEGIS. 1, 12 (2006). 202. Id. at 19. 203. David Adam Friedman, Reinventing Consumer Protection, 57 DEPAUL L. REV. 45, 51 (2007). 204. Id. at 49. 205. Id. at 53–54. 206. Consumer, MERRIAM WEBSTER, http://www.merriam-webster.com/dictionary/ consumer (last visited Apr. 1, 2016). 207. Chen et al., supra note 50. 09_GANATRA.DOCX 1/20/17 1:49 PM
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Nonetheless, some states have eliminated the seemingly rigid requirement and have held that to qualify for state consumer protections, the class need not be a class of traditional “consumers.” In Connecticut, “‘any person’ that suffers an ascertainable loss” can allege a cause of action under the Connecticut Unfair Trade Practices Act.208 Similarly, in Arizona, “the only standing requirement a private claimant must show under Arizona’s Consumer Fraud Act is that the claimant suffered damage.”209 Although not as liberally construed, Colorado provides some flexibility in standing requirements under the Colorado Consumer Protection Act.210 Of course, other states have a more narrow reading,211 making consumer fraud claims by states or private action for deceptive practices on Kickstarter difficult and inconsistent. Thus, “[a]llowing everyone to sue, and not limiting plaintiffs to consumers, or consumers of personal goods, . . . helps bring to light those deceptive practices that are especially creative or difficult to detect.”212 Should the “consumer” label, its definition, and its interpretation by certain jurisdictions be a barrier to traditional consumer fraud causes of
208. Bittakis, supra note 200, at 445 (citing Eder Bros. v. Wine Merchs., Inc., 880 A.2d 138, 141 (Conn. 2005), where the court liberally construed the Connecticut Unfair Trade Practice Act to give effect to the “any person” language in determining a plaintiff class). 209. Id. at 446–47. (“The provisions of [the Arizona Consumer Protection Act] shall not bar any claim against any person who has acquired any monies or property, real or personal, by means of any practice declared to be unlawful by the provisions of this article.”). A federal court went on to determine that to allege a claim under the Arizona Consumer Fraud Act, a “claimant must be ‘a person who has been damaged.’” Gerber v. Wells Fargo Bank, N.A., No. CV 11-01083-PHX-NVW, 2011 WL 5007921, at *3 (D. Ariz. Oct. 20, 2011). 210. Bittakis, supra note 200, at 449 (“‘Consumer’ includes a person that did not purchase anything, such as a potential consumer, and the statute’s purposes of deterring and punishing deceptive practices and promoting private enforcement are advanced by allowing some non-consumers to sue.”). The Colorado Supreme Court went on to curtail the effects of the legislature by requiring “any person” bringing a claim under the Colorado Consumer Protection Act to pass a five-element test. Id. For purposes of this Note, element three is most crucial as it requires that “the [deceptive] practice must significantly impact the public as consumers of the defendant’s goods, services, or property.” Id. 211. Alabama’s consumer protection statute “specifically says the plaintiff must be a consumer who suffers monetary damage” and defines a consumer as “[a]ny natural person who buys goods or services for personal, family, or household use.” Id. at 453. Similarly, California’s Consumers Legal Remedies Act restricts relief to “consumers that have suffered ‘any damage’” and defines consumer as “an individual who seeks or acquires, by purchase or lease, any goods or services for personal, family, or household purposes.” Id. at 454. 212. Id. at 460. 09_GANATRA.DOCX 1/20/17 1:49 PM
1458 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 action, the FTC has a means to regulate deceptive acts by creators on Kickstarter using the non-merchant shield to avoid liability. “The FTC may assert jurisdiction over charitable organizations if the activities of the organization resemble the activities of a business.”213 The following cases illustrate this exception. In FTC v. Saja214 the FTC brought charges against a fundraising scheme where an organization deliberately deceived consumers in violation of section 5 of the FTC Act, in committing “[u]nfair methods of competition in or affecting commerce, and unfair or deceptive acts or practices in or affecting commerce.”215 The organization had several theories for a defense, the most straightforward being that the FTC did not have jurisdiction over a non-profit organization nor over the activity of charitable fundraising.216 The court held that the organization’s status as a fundraiser did not prohibit FTC jurisdiction because they did not fall into the not-for-profit exemption.217 Moreover, because the organization “solicit[ed] donations throughout the country over interstate telephone lines and collect[ed] the resulting pledges by mail or though United Parcel Service COD deliveries . . . [and] some of Defendants’ solicitations are for the purchase of advertising in a publication, . . . Defendants’ activities affect[ed] interstate commerce.”218 FTC v. National Clearing House, Inc.219 provides another, more analogous example to problems arising on Kickstarter. The defendant was a charitable organization fundraising by telephone, and, in exchange for donations, promised to send consumers “one of four prizes.”220 In addition to alleging that the organization misrepresented charitable activities, the FTC also alleged that the “major prizes” promised were never awarded.221 Rather, the valuable prizes were used
213. Nicholas Barborak, Saving the World, One Cadillac at a Time; What Can Be Done When a Religious or Charitable Organization Commits Solicitation Fraud?, 33 AKRON L. REV. 577, 589 (2000). 214. No. Civ-97-0666-PHX-SMM, 1997 WL 703399, at *1 (D. Ariz. Oct. 7, 1997). 215. Federal Trade Commission Act, 15 U.S.C. § 45(a)(1) (2012); see Saja, 1997 WL 703399, at *1; Barborak, supra note 213, at 589–90; 216. Barborak, supra note 213, at 590; Saja, 1997 WL 703399, at *1–2. 217. Saja, 1997 WL 703399, at *2. 218. Id. at *2–3 (citations omitted). 219. 104 F.3d 1168 (9th Cir. 1997). 220. Id. at 1169. Throughout the opinion, the Ninth Circuit refers to individuals here that donated funds to National Clearing House as consumers, never specifically defining the term or indicating that consumers must be purchasers of goods or services. 221. Id. at 1170. 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1459 induce donations.222 Further, the FTC proffered evidence that illustrated consumers were misled to believe they would receive substantial prizes worth, at minimum, $3500, when they received small token prizes or none at all.223 The court found that defendants misled consumers, with representations likely to deceive consumers in violation of section 5 of the FTC Act.224 Backers of the Asylum Playing Cards are representative of the type of individuals that fall victim to this type of behavior by project creators, and are apt for prosecution under consumer protection statutes. Creators Edward J. Polchlepek III and Altius Management endeavored to make a custom deck of cards that featured horror images that were “never to be re-printed.”225 The creators originally sought $15,000 in funding with their fundraising window closing on October 31, 2012.226 As it happened, the creators ended up with almost double their amount—$25,146—raised by 810 backers.227 Of the 810 total backers, “more than 500 people donated at least nine dollars, more than 120 contributed at least twenty-five dollars, and more than 150 others gave greater amounts.”228 The first reward option for the Asylum Playing Cards was the product itself.229 The rewards column indicated that for a nine dollars contribution, backers would receive “ONE (1) Asylum deck with free [U.S.] shipping.”230 The description went on to describe an increased international shipping fee and further stated: “Want some additional decks? Order as many additional decks as you want for only $8 each! Free [U.S.] shipping.”231 The misrepresentation here is obvious: like the Pebble Smartwatch project, the Asylum Playing Cards appears more like a product listing on Amazon than it does a developing project in need of fundraising on Kickstarter. The Washington State Attorney General felt the same way. The first consumer fraud lawsuit against a Kickstarter creator was filed in
222. Id. at 1169–70. 223. Id. 224. Id. at 1170–71. 225. Asylum Playing Cards, supra note 193. 226. Id. 227. Id. 228. Niraj Chokshi, The First State Lawsuit over a Crowdfunding Project Is About a Deck of Cards, WASH. POST (May 2, 2014), http://www.washingtonpost.com/blogs/ govbeat/wp/2014/05/02/the-first-state-lawsuit-over-a-crowdfunding-project-is-about-a- deck-of-cards. 229. Asylum Playing Cards, supra note 193. 230. Id. 231. Id. 09_GANATRA.DOCX 1/20/17 1:49 PM
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April 2014 in Washington State Superior Court.232 Filed by the Washington State Attorney General and representing thirty-one Washington residents that backed the Asylum Playing Cards campaign,233 the lawsuit named creator Polchlepek and his company Altius Management as defendants in the action.234 In his complaint, the Attorney General cited the legal relationship between the project creator and backer, as memorialized in Kickstarter’s Terms of Use, as the basis for their action.235 The complaint alleged two causes of action: Polchlepek and Altius Management’s misrepresentation and failure to deliver rewards and failure to refund.236
232. Press Release, Wash. State Office of the Attorney Gen., Attorney Gen. Files Lawsuit Against Company Behind Asylum Playing Cards Crowdfunded Project (May 1, 2014), http://www.atg.wa.gov/news/news-releases/attorney-general-files-lawsuit-against- company-behind-asylum-playing-cards. 233. Asylum Playing Cards, supra note 193. 234. Press Release, Wash. State Office of the Attorney Gen., supra note 232. 235. Complaint for Injunctive and Other Relief ¶ 4.9, Washington v. Altius Mgmt., LLC, No. 14-2-12425-SEA (Wash. Super. Ct. Apr. 30, 2014). 236. More specifically, the complaint alleges in its first cause of action: Defendant engaged in the following acts or practices constituting unfair or deceptive acts in trade or commerce: a. Misrepresenting either directly or indirectly that Backers who paid for Rewards through the Kickstarter Campaign would receive those Rewards in approximately December 2012; b. Failing to deliver the promised Rewards to Backers after the Backers paid money to Defendants via the Kickstarter Campaign. Defendants’ practice of representing that Backers who paid for Rewards in Defendants’ Kickstarter campaign and then failing to subsequently deliver those Rewards after Backers paid money to Defendants affects the public interest and has the capacity to deceive a substantial number of consumers and is an unfair or deceptive act or practice in trade or commerce and unfair method of competition. . . . Id. ¶¶ 5.2–5.3. The complaint continues in the second cause of action: Defendants engaged in the following acts or practices constituting unfair or deceptive acts in trade or commerce: a. Failing to provide refunds to Backers who requested one after they did not receive their Reward in a timely fashion from Defendants’ Kickstarter Campaign; b. Failing to offer refunds to any other Backer, whether a refund was requested or not, after Defendants were unable to deliver the Rewards to any backer within a reasonable timeframe. Defendants’ practice of failing to provide refunds to Backers of its Kickstarter Campaign after the apparent failure of said Campaign affects the public interest and has the capacity to deceive a substantial number of consumers and is an unfair or deceptive act or practice in trade or commerce and unfair method of competition . . . . Id. ¶¶ 6.2–6.3. 09_GANATRA.DOCX 1/20/17 1:49 PM
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In July 2015, the court entered a default judgment against defendants Polchlepek and Altius Management.237 In addition to backers, who contributed $668 to the Asylum campaign, receiving restitution for their lost contributions, defendants were ordered to pay $31,000 ($1000 per violation, or in this case, per Washington backer) in civil penalties for violating the state’s consumer protection act, as well as $23,183 to cover the state’s costs.238 Notably, the judgment also enjoined defendants from directly or indirectly engaging in:
Creating, administrating, or running, a crowd-funding campaign to generate income;
Directly or indirectly engaging in any act, system, scheme, or plan that involves misrepresentations or omissions of material fact in order to sell or market online goods or services relating to crowd-funding campaigns[;]
Making misrepresentations in the context of any advertising of products or services in online commerce . . . .239
While the judgment was entered by the court after defendants failed to answer, the outcome is both promising and troubling for future consumer fraud actions. For the first time, the creators behind a Kickstarter campaign are being held accountable for their actions, whether deceptive or not, after they solicited money from backers, made promises to complete the project and fulfill rewards, and failed to do so. Not only were backers awarded restitution, Polchlepek and Altius Management were forced to pay a penalty for their actions. Further, defendants were prohibited from taking part in the same activity, specifically, using a crowdfunding platform to generate income. Holding creators responsible by prosecuting them under consumer fraud statutes is seemingly successful; backers are reimbursed, creators are held accountable, and a legal constraint is placed on creators, preventing them from pursuing the same action going forward. And,
237. Default Judgment at 1, Washington v. Altius Mgmt., LLC, No. 14-2-12425-2 SEA (Wash. Super. Ct. Jul. 22, 2015); see Press Release, Wash. State Office of the Attorney Gen., AG Makes Crowdfunding Company Pay for Shady Deal (July 27, 2015), http://www.atg.wa.gov/news/news-releases/ag-makes-crowdfunded-company-pay-shady- deal. 238. Default Judgment, supra note 237, at 5; Press Release, Wash. State Office of the Attorney Gen., supra note 237. 239. Default Judgment, supra note 237, at 4–5. 09_GANATRA.DOCX 1/20/17 1:49 PM
1462 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 looking past the parties to this campaign, the judgment and the massive fine it imposes deters prospective creators or fraudsters from using Kickstarter for illicit reasons, and if they venture out to raise money for a legitimate idea or business, to fulfill their obligation and promise to backers or face severe consequences. However, looking at how the judgment would be enforced reveals complications. First, while the judgment grants backers reimbursement of their funds, it is limited to only the backers that reside in the State of Washington, or thirty-one of the total 810 backers who contributed to the Asylum Playing Cards campaign.240 The remaining 779 backers are still left unrepresented and uncompensated. Further, defendants are fined $31,000 for their “unfair and deceptive practices,” and are liable for over $23,000 in costs.241 The amount that defendants are forced to pay is more than double the total amount of funds raised by their campaign. So while state consumer protection actions certainly provide the opportunity to reimburse backers, the costs and fines imposed on creators, especially those not purposefully seeking to commit fraud and deceive backers, will certainly be too burdensome, and will interfere with their existing obligations to reimburse those backers not represented by the state consumer fraud judgment. At the end of the day, even if the creators behind the failed campaign, whether fraudulently conceived or not, are held accountable for their actions, backers may still end up at the short end of the bargain. While the first state-level consumer protection action came to a close in 2015, action at the federal level began as the FTC launched an investigation and filed a complaint for permanent injunction against the creator of the Kickstarter campaign Doom, Erik Chevalier and his company The Forking Path, Co.242 Doom, a Kickstarter campaign for a board game, set a goal of $35,000, raising $122,874 at the end of the funding period.243 After conceding failure of the project, the creator failed to provide rewards or refunds, and it was later discovered that Chevalier spent the money on personal expenses.244 In its complaint,
240. Id. at 5; Asylum Playing Cards, supra note 173. 241. Default Judgment, supra note 237, at 5. 242. Press Release, FTC, Crowdfunding Project Creator Settles FTC Charges of Deception (June 11, 2015), https://www.ftc.gov/news-events/press-releases/2015/06/crowd funding-project-creator-settles-ftc-charges-deception; Proposed Stipulated Order for Permanent Injunction and Monetary Judgment at 1, FTC v. Chevalier, No. 3:15-cv-01029- AC (D. Or. June 10, 2015). 243. Complaint ¶¶ 18, 23, FTC v. Chevalier, No. 3:15-cv-01029-AC (D. Or. June 10, 2015). 244. Jack Karsten & Darrell M. West, FTC Files First Ever Complaint Against a Kickstarter Project, BROOKINGS (June 30, 2015, 7:30 AM), http://www.brookings.edu 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1463 the FTC alleges that “[c]onsumers have suffered and will continue to suffer substantial injury as a result of [Chevalier and The Forking Path, Co.’s] violations of the FTC Act,” and that the creators had “been unjustly enriched as a result of [their] unlawful acts and practices.”245 This case provides an example of where the creators of a Kickstarter campaign certainly mismanaged funds, however, calling their actions fraudulent may have been a step too far. Nonetheless, Chevalier and The Forking Path Co. agreed to a settlement of a suspended judgment of $122,874, prohibitions from making any “deceptive representations related to any crowdfunding campaigns in the future,” and requirements “to honor any stated refund policy.”246 Like the state consumer protection action in Washington, the final judgment here benefits backers, in theory, by enforcing a refund policy and preventing the defendants, this time at the federal level, from engaging in similar practices in the future. However, with a judgment suspended and costs from litigation likely pending, it is unclear how Chevalier will fulfill the reimbursement of all $122,874, leaving both creator and backer in uncertain positions moving forward, much like the result of a consumer-protection action at the state level. While consumer protection laws at the state and federal levels provide adequate jurisdiction for the government to prosecute creators for fraud and deceitful conduct, projects like Asylum Playing Cards and the Doom board game provide examples of how these protections fall short in two important ways. First, the state consumer protection acts and the FTC Act seek to prosecute individuals seeking to deceive or defraud consumers, and while the creators behind Asylum and Doom certainly fall under the umbrella of consumer fraud jurisdiction, creators that merely mismanage funds or are unprepared for the responsibilities of running a company like Quest and Hanfree would be unfairly prosecuted by the government for fraud. Second, the measures taken by state and federal consumer protection actions are unfortunately too little, too late. Unquestionably, the measures being taken at the state and federal level by consumer protection agencies are surely needed to reign in fraud on crowdfunding platforms, however, such actions still likely leave backers without refunds or rewards as costs of litigation, fines, and bankruptcy will
/blogs/techtank/posts/2015/06/30-ftc-complaint-kickstarter; Andrea Peterson, Game Over: FTC Goes After Board Game Campaign Gone Wrong in First Crowdfunding Case, WASH. POST (June 11, 2015), https://www.washingtonpost.com/news/the-switch/wp/2015/06/11/ the-ftcs-first-crowdfunding-enforcement-is-over-a-failed-board-game-on-kickstarter/. 245. Complaint ¶ 36, Chevalier, No. 3:15-cv-01029-AC. 246. Press Release, FTC, supra note 242. 09_GANATRA.DOCX 1/20/17 1:49 PM
1464 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 prohibit expedient redress or return altogether. Actions under consumer protection statutes are a welcome sight for an industry that is growing exponentially as a means to stop fraudsters from taking advantage of sites like Kickstarter, however, it does not alone complete the job of curbing creator and backer harm on rewards–based crowdfunding platforms.
B. Jumpstart Our Business Startups Act of 2012
While consumer fraud prosecutions are being turned to as a means to hold Kickstarter creators responsible for their misuse of the crowdfunding platform, the most analogous industry to rewards-based crowdfunding is equity crowdfunding. Both rewards-based crowdfunding and equity crowdfunding use the same platform mechanism, have the same basic goals in raising money, employ the same process to fulfill those goals, and use the power of the Internet and social media to reach millions of potential backers from around the world. However, where rewards-based crowdfunding lacks a formal regulatory framework, equity crowdfunding has developed a robust system where creators, backers, and intermediaries are regulated and protected from fraud and inexperience. In response to the economic recession in 2008, President Barack Obama signed the Jumpstart Our Businesses Act of 2012 (“JOBS Act”) to help spur job creation and allow small businesses and startups to use the Internet to raise money from investors.247 Included in the JOBS Act is the Crowdfunding Act, which “legaliz[ed] the equity model of crowdfunding for the first time in the modern financial era.”248 Before Title III, “equity model crowdfunding was unavailable to business startups because it involved the sale of securities” which required registration with the Securities and Exchange Commission pursuant to the Securities Act of 1933 (“’33 Act”).249 The ’33 Act “mandates that any entity that sells or offers to sell or purchase a security across state lines must file a registration statement with the SEC.”250 For small businesses and startups, however, filing a registration statement is impractical as the costs associated with a
247. Mark Landler, Obama Signs Bill to Promote Start-Up Investments, N.Y. TIMES (Apr. 5, 2012), http://www.nytimes.com/2012/04/06/us/politics/obama-signs-bill-to-ease- investing-in-start-ups.html. 248. Sumners, supra note 26, at 42. 249. Id.; Securities Act of 1933, 15 U.S.C. § 77f (2012). 250. Uriel S. Carni, Protecting the Crowd Through Escrow: Three Ways that the SEC Can Protect Crowdfunding Investors, 19 FORDHAM J. CORP. & FIN. L. 681, 687 (2014). 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1465 filing are high and too burdensome for small or emerging companies.251 “The JOBS Act amends Section 4 of the ’33 Act to create a new exemption from the Section 5 registration requirement for crowdfunding transactions.”252 With this exemption, small businesses are allowed to pursue funding through Internet platforms in exchange for equity in their company without having to register their sales with the SEC.253 On October 30, 2015, the SEC adopted rules for businesses, investors, and intermediary platforms seeking to exchange securities using equity-crowdfunding using Title III.254 Under the SEC’s Title III crowdfunding rules, to qualify for the registration exemption, companies must keep the aggregate amount of securities sold under $1,000,000 within a twelve-month period.255 The exemption also prohibits investors with a net worth or annual income of less than $100,000 from investing more than $2000 or five percent of their net worth or annual income, whichever is greater.256 For investors who have greater than $100,000 in net worth or annual income, their investment cannot exceed ten percent of their net worth or annual income, with a maximum investment of $100,000.257 While formal registration under the ’33 Act is no longer required when issuing securities through crowdfunding funding portals, the SEC’s Title III rules would require certain disclosures of information to the agency and the public to ensure investor protection.258 Moreover, funding portals would also perform numerous regulatory functions.259 These required disclosures and actions by small businesses, investors, and intermediaries, while not rising to the level of registration, are substantial and are aimed at significantly playing a role in investor protection.260 At minimum these disclosures would seek to inform potential investors about the risks they face and the amount of capital
251. Id. at 687–88. 252. Jacques F. Baritot, Increasing Protection for Crowdfunding Investors Under the JOBS Act, 13 U.C. DAVIS BUS. L.J. 259, 267 (2013). 253. SEC Democratizes Equity Crowdfunding With JOBS Act Title IV, CROWDFUNDER, https://blog.crowdfunder.com/sec-democratizes-equity-crowdfunding-with-jobs-act-title-iv/. 254. Press Release, Sec. & Exch. Comm’n, supra note 194. 255. Jumpstart Our Business Startups Act, Pub. L. No. 112-106, § 302(a), § 4(6)(A), 126 Stat. 306, 315 (2012) (codified at 15. U.S.C. §77d(6)(A) (2012)) [hereinafter JOBS Act]. 256. Id. § 302(a), § 4(6)(B)(i) (codified at 15 U.S.C. § 77d(6)(B)(i)). 257. Id. § 302(a), § 4(6)(B)(ii) (codified at 15 U.S.C. § 77d(6)(B)(ii)). 258. Wroldsen, supra note 30, at 367. 259. Id. 260. Andrew C. Fink, Protecting the Crowd and Raising Capital Through the CROWDFUND Act, 90 U. DET. MERCY L. REV. 1, 25 (2012). 09_GANATRA.DOCX 1/20/17 1:49 PM
1466 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 necessary for the project to succeed.261 This would primarily be accomplished by initial disclosures and the use of only registered intermediaries. However, periodic progress reports to the SEC would supplement investor knowledge.262 Specifically, issuers who seek to use the crowdfunding exemption would be required to provide the SEC with the following information, which the SEC would disclose to potential investors: (1) the issuer’s “name, legal status, physical address, and website”;263 (2) the names of the directors, officers, and shareholders with more than twenty percent ownership interest;264 (3) a description of the issuer and the issuer’s anticipated business plan;265 (4) a description of the issuer’s financial condition;266 (5) the intended purpose of the proceeds;267 (6) the target amount of the offering and the deadline to reach that amount;268 (7) the price or method of calculating the price of the securities to the public;269 (8) a description of the ownership and capital structure of the issuer;270 and (9) any other information that the SEC may require by rule to protect investors.271 In addition to the regulations placed on crowdfunding issuers, the crowdfunding portals would also have certain responsibilities that must be followed in compliance with the Title III rules.272 The intermediary would have to be registered with the SEC273 and would have to provide investors with disclosures, including related risks they face with investing.274 Further, intermediaries would have to ensure that each potential investor “reviews investor-education information,”275 understands that they are risking their entire investment,276 and answer questions demonstrating “an understanding of the level of risk
261. Sumners, supra note 26, at 43. 262. Id. at 43–44. 263. JOBS Act, § 302(b), §4A(b)(1)(A) (codified at 15 U.S.C. § 77(b)(1)(A)). 264. Id. § 302(b), § 4A(b)(1)(B) (codified at 15 U.S.C. § 77(b)(1)(B)). 265. Id. § 302(b), § 4A(b)(1)(C) (codified at 15 U.S.C. § 77(b)(1)(C)). 266. Id. § 302(b), § 4A(b)(1)(D) (codified at 15 U.S.C. § 77(b)(1)(D)). 267. Id. § 302(b), § 4A(b)(1)(E) (codified at 15 U.S.C. § 77(b)(1)(E)). 268. Id. § 302(b), § 4A(b)(1)(F) (codified at 15 U.S.C. § 77(b)(1)(F)). 269. Id. § 302(b), § 4A(b)(1)(G) (codified at 15 U.S.C. § 77(b)(1)(G)). 270. Id. § 302(b), § 4A(b)(1)(H) (codified at 15 U.S.C. § 77(b)(1)(H)). 271. Id. § 302(b), § 4A(b)(1)(I) (codified at 15 U.S.C. § 77(b)(1)(I)). 272. Fink, supra note 260, at 25. 273. JOBS Act § 302(b), § 4A(a)(2) (codified at 15. U.S.C. § 77a(2)). 274. Id. § 302(b), § 4A(a)(3) (codified at 15. U.S.C. § 77a(3)). 275. Id. § 302(b), § 4A(a)(4)(A) (codified at 15. U.S.C. § 77a(4)(A)). 276. Id. § 302(b), § 4A(a)(4)(B) (codified at 15. U.S.C. § 77a(4)(B)). 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1467 generally applicable to investments in startups, emerging businesses, and small issuers,”277 and understands the “risk of illiquidity.”278 With equity crowdfunding closely following the lead of rewards- based crowdfunding in form, it is clear that the rules and regulations that guide investors and company owners will be just as applicable to backers and creators. In essence, all that the Title III regulations do is provide equity crowdfunding users with more information before they make their investment decision and communicate to investors the risk they are taking. The idea here is that since companies do not have to formally register under federal laws, it does not preclude them from disclosing important information to regulators and buyers. Infusing knowledge into this transaction keeps the players honest, and ensures that the parties to a transaction are not mislead or deceived when committing to large-scale purchases and sales. While not all of the disclosures are relevant to rewards-based crowdfunding, reporting requirements will not unduly cost creators or intermediaries like Kickstarter, and bringing more information to the backer-creator relationship ultimately helps bring transparency and reliability to rewards-based crowdfunding platforms.
C. State Regulation of Non-Profit Charitable Organizations
At the state level, government regulation of charitable organizations may provide some guidance to the regulation of rewards- based crowdfunding. Although crowdfunding platforms like Kickstarter are firmly not in the donation-model of crowdfunding,279 they exhibit some characteristics of the online donation model, like strictly prohibiting the sale of equity for profit, as in equity-based crowdfunding, and without any expectation of repayment, like loan- based crowdfunding.280 In 1943, New Hampshire became the first state “requiring charities to report to the state Attorney General” and “[b]y 1959, twenty-one states had statutes that regulated charities in a similar manner.”281 Before 1980, typical charitable solicitation included three key elements: “(1) registration and reporting requirements for soliciting charities and
277. Id. § 302(b), § 4A(a)(4)(C)(i) (codified at 15. U.S.C. § 77a(4)(C)(i)). 278. Id. § 302(b), § 4A(a)(4)(C)(ii) (codified at 15. U.S.C. § 77a(4)(C)(ii)). 279. Kickstarter Basics, supra note 34 (“Kickstarter does not allow projects to fundraise for charity . . . .”). 280. See Bradford, supra note 17, at 23. 281. Melissa G. Liazos, Can States Impose Registration Requirements on Online Charitable Solicitors?, 67 U. CHI. L. REV. 1379, 1384 (2000). 09_GANATRA.DOCX 1/20/17 1:49 PM
1468 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 fundraising professionals; (2) prohibitions against fraud and misrepresentation, including required disclosures; and (3) stringent limitations on fundraising costs.”282 However, modern developments have changed the landscape in which charities function and new requirements and uniform registrations have been instituted to monitor non-profits and more importantly, solicitations by these organizations.283 At minimum, non-profit charities must have an Articles of Incorporation, or the state’s equivalent, eliciting the duties of the organization, how such duties will be accomplished, and key members of the organization.284 Further, nonprofits must abide by each state’s rules about charitable solicitations.285 “Any organization with an active fundraising program that crosses state lines will very likely need to understand and comply with the rules concerning fundraising in each state where any request for a donation is being made.”286 Forty states currently require registration of charitable soliciting organizations, thirty-seven of which accept the Unified Registration Statement.287 Registration requires identifying information, “information about an organization’s finances and governance” and “annual financial reporting” usually completed before soliciting activities can begin in the respective state, whether online or by other means.288 Regulations that bind non-profit charitable organizations can be characterized as Title III-lite, requiring solicitors to disclose basic organization information and how funds are to be used, but not rising to the detailed level in equity transactions. The information required of charitable organizations can be seen as a happy medium between the stringent requirements of the JOBS Act and absence of disclosures currently governing creators on rewards-based crowdfunding platforms, and may provide just enough for backers to be properly guided in their decision.
282. Elaine Waterhouse Wilson, State Regulation of Charitable Solicitation, 12 PROB. & PROP. 49, 49 (1998). 283. See Liazos, supra note 281, at 1405. 284. Things a U.S.-Based Nonprofit Must (and Must Not) Do, IDEALIST, http://www.idealist.org/info/Nonprofits/Mgmt4 (last visited Apr. 1, 2016). 285. Id. 286. Id. 287. The Unified Registration Statement, MULTI–STATE FILER PROJECT, http://www. multistatefiling.org/#yes_states (last visited Apr. 1, 2016). 288. Introduction and Contents, MULTI–STATE FILER PROJECT, http://www.multistate filing.org/b_introduction1.htm#what (last visited Apr. 1, 2016). 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1469
VI. POSSIBLE FRAMEWORK FOR REWARD AND PRE-PURCHASE CROWDFUNDING PLATFORMS
While Kickstarter can begin to implement measures on its end, the growth of rewards-based crowdfunding on Kickstarter alone is far more than the crowdfunding platform can effectively handle with reasonable success. Similarly, individual contractual claims, like the one brought by Singh,289 would clog up the judicial system with thousands of small claims suits and in the long term be grossly ineffective. Instead, broad regulation by a federal or state agency or specific avenues of litigation are more appropriate for the growing industry. Looking at the most analogous frameworks to rewards-based crowdfunding, equity crowdfunding disclosures, charity registrations, and consumer fraud causes of action all provide guidelines for a possible framework, but none work perfectly in their individual capacities. The JOBS Act and the regulations passed by the SEC to Title III290 and registration via Multistate Filing for non-profit organizations291 exemplify the types of guidelines that should be adapted for creators using a crowdfunding platform like Kickstarter to fundraise. Similarly, litigation would be most effective through federal, state, or private consumer fraud actions.292 However, each framework has a hitch that prevents full implementation in the rewards-based crowdfunding arena. While the legalization of crowdfunding under Title III of the JOBS Act certainly mirrors rewards-based crowdfunding very closely, it is inapt in application. The biggest and most obvious hurdle: Kickstarter does not, in any capacity, allow the sale of securities in any company represented or owned by creators,293 and the proposals by the SEC for Title III apply only to the sale of securities.294 Similarly, the registration under the state laws using tools like the Unified Registration Statement fails for a parallel reason: Kickstarter explicitly states that it does not allow fundraising for charity.295
289. See supra Part III.B. 290. See supra Part V.B. 291. See supra Part V.C. 292. See supra Part V.A. 293. Kickstarter Basics, supra note 34 (“Project creators keep 100% ownership of their work, and Kickstarter cannot be used to offer equity, financial returns, or to solicit loans.”). 294. See Press Release, Sec. & Exch. Comm’n, supra note 194. 295. Kickstarter Basics, supra note 34 (“Kickstarter does not allow projects to fundraise for charity . . . .”). 09_GANATRA.DOCX 1/20/17 1:49 PM
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Although the SEC proposals and state non-profit requirements cannot be directly applied to rewards-based crowdfunding, the main components and rationales behind requiring registration and disclosure can be. Both the SEC and states act for essentially the same reasons: protection of investors or donators and prevention of fraud and illicit practices, which the regulatory bodies accomplish by minimum standards of disclosure.296 The same protections and disclosures should be sought for backers and implemented for creators on Kickstarter and similarly situated platforms. Even requiring basic, bare essential disclosures like information about officers or managers, a description of the business and how proceeds will be used, the financial condition of the company, and a business plan will bring transparency to rewards- based crowdfunding and help backers make informed choices about which projects to fund. Similarly, minimum regulations on the crowdfunding platform would allow backers more security and reliability in their pledges. Rules requiring measures to reduce fraud and mandatory disclosures of information about the creator and their project are not burdensome on the platform and would facilitate safer and more secure transactions between backers and creators. The goal here is merely to educate all types of users, not only of the risks that backers take when they pledge a contribution and creators take when they accept contributions from backers, but also of what the purpose of a rewards-based crowdfunding platform is, and, more importantly, what it explicitly is not. Of course, to implement mandatory disclosures would require more than cooperation between crowdfunding platforms and individual creators. The ideal regulatory body here would either be, at the federal level, the FTC or at the state level, individual state attorneys general acting under their capacity to prosecute consumer fraud. As discussed, consumer fraud causes of action are traditionally litigated in the context of a consumer and merchant, when a consumer purchases a good for personal use.297 However, a growing trend at the state level and a case-by-case determination at the federal level indicate that the causes of actions brought by the FTC or states’ attorneys general against creators of failed Kickstarter projects alleging consumer fraud and deceptive practices may be appropriately and successfully litigated.298 With both the definition of consumer being relaxed in some
296. See Press Release, Sec. & Exch. Comm’n, supra note 194; Things a U.S.-Based Nonprofit Must (and Must Not) Do, supra note 284. 297. See supra Part V.A. 298. See FTC v. Nat’l Clearing House, Inc., 104 F.3d 1168, 1171 (9th Cir. 1997); FTC v. Saja, No. Civ-97-0666-PHX-SMM, 1997 WL 703399, at *1 (D. Ariz. Oct. 7, 1997); Bittakis, 09_GANATRA.DOCX 1/20/17 1:49 PM
2016] WHEN A KICKSTARTER STOPS 1471 states to include “any person” and to allow causes of action against any person who used deceptive practices, and allowing FTC litigation against organizations that solicit contributions across state lines violating interstate commerce, creators with failed campaigns would fall under both purviews.299 In the alternative, the FTC and state consumer protection statutes could reasonably amend the definition of consumer to include Kickstarter backers. The transaction between a creator and backer is clearly one that looks and feels like a retail transaction, sufficient enough that it may be prosecuted by the FTC or state attorneys general.300 The only hurdle to pursuing consumer fraud causes of action against creators is that many times there is no demonstrable fraud. While creators promise rewards in exchange for contributions, failure to do so is not due to fraud; rather, it is more likely due to incompetence, unpreparedness, and naivety of the creator. With no actual fraud or deceptive practice, litigation under a consumer fraud cause of action would not be fair to a creator, and as demonstrated, successful litigation may mean financial ruin for the creator and absence of recourse for a backer. To address these issues, transactions on rewards-based crowdfunding sites can be pursued by a two-faced approach to make the platforms safer and more transparent for backer and creator alike. Requiring disclosure by project creators and implementing minimal regulations by crowdfunding platforms will play a part in scaling back how many creators enter the crowdfunding arena without proper experience or a business acumen. Limiting entry on one end by requiring at least minimal disclosures and imposing conditions on platforms will help ensure lower rates of failure by projects that receive funding. The resultant effect should be less project failures, by slowly eliminating stalling projects that are the result of incompetence and improper experience, leaving just those that are the result of fraud and deceptive practices—conduct that can be appropriately and successfully litigated by the FTC and states’ attorney general offices under consumer protection causes of action. And, for those projects that are truly the result of mismanagement and failures on the part of the creator, backers are still afforded the opportunity to pursue a viable class action claim against the backer. The two-part scheme not only protects crowdfunding backers, the primary victims in the rewards- supra note 200, at 448. 299. See Nat’l Clearing House, Inc., 104 F.3d at 1171; Saja, 1997 WL 703399, at *1; Bittakis, supra note 200, at 448. 300. Barborak, supra note 213, at 589–90. 09_GANATRA.DOCX 1/20/17 1:49 PM
1472 RUTGERS UNIVERSITY LAW REVIEW [Vol. 68:1425 based crowdfunding, but also the secondary victims in the creators who get in over their heads with a widely popular crowdfunding campaign. Protecting backers from fraud, mismanagement, and ill-preparedness will also protect prospective creators from losing their business, and more importantly, the creative ideas they seek to explore.
VII. CONCLUSION
Had the two-part regulatory scheme been in place before Steve and John entered the rewards-based crowdfunding market, they could have averted disaster. John would have realized that he did not have a solid financial history as a student, that he had not thought of a proper business plan, and that he was not prepared for mass manufacturing and distribution. John would have likely avoided a Kickstarter campaign this early in his project and Kickstarter’s self-regulatory mechanism would have illustrated why. At the same time, Steve would have learned more about what he could and could not do on Kickstarter as a backer and, after learning that he was not purchasing goods as if he were on Amazon, would have thought twice about making his pledge. Even if he did, he would have pledged his money to someone who has communicated a plan to execute and build their business. And, if he fell for a fraudulent scheme, Steve would be protected by his state attorney general’s office or the FTC when they filed a consumer fraud cause of action against the creator. The advent of rewards-based crowdfunding has given small businesses, entrepreneurs, and creative minds access to capital that was previously hard to come by or unavailable altogether. Crowdfunding platforms like Kickstarter have led the way for creators to seek the help of backers in their artistic, technological, and innovative endeavors. However, making capital available in large amounts in a short period of time has caused issues for those unsophisticated in the more technical aspects of business, causing harm to all the parties involved. Nonetheless, a currently unregulated market does not need a whole new branch of government to oversee its operations. With a two-part regulatory scheme involving existing arms of either the federal or state government and some self-policing by the platforms themselves, protections can be afforded to backers and creators alike, allowing for a safer rewards-based crowdfunding industry.