When a Kickstarter Stops: Exploring Failures and Regulatory Frameworks for the Rewards-Based Crowdfunding Industry
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09_GANATRA.DOCX 1/20/17 1:49 PM 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. 1425 09_GANATRA.DOCX 1/20/17 1:49 PM 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