Crowdfunding? For Life Science Companies? Really?2 February, 2015
After extremely weak performance in early 2014, the biotechnology industry understandably dropped off the radar of many investors. And, even though the industry has quietly been making a comeback, cautious investors are still concerned with the volatility in the market.
The fact is, despite the current climate of optimism, raising capital in the biotechnology industry has been especially challenging in the past five years, particularly for early-stage companies. Numerous factors, including a challenging FDA environment upon NDA submission, long timelines to approval and the high rate of drug failure, have contributed to a skeptical venture capitalist view of the sector’s prospects. As a result, emerging growth biotechnology companies are increasingly pursuing alternative financing vehicles, including equity crowdfunding, to advance their drug development programs.
What is Crowdfunding?
Crowdfunding is a joint effort by individuals to support a cause, company or organization by pooling their resources, usually via the Internet. These individuals are collectively referred to as the “crowd.” Industries that have popularized crowdfunding in recent years include software, gaming, media/film, and the music industry.
Here’s how it typically works: An artist or company prepares a pitch and a short executive summary, much like the traditional fundraising model. The pitch is published on a crowdfunding portal, like Kickstarter, along with a monetary goal. Investors can then decide whether it’s a project or product they feel is worth donating to or investing in. Usually companies are required to reach their funding goal or the investors get their money back, but this can vary from portal to portal. A huge degree of transparency is expected during the process with regards to fundraising progress as well as the project’s expected milestones. Of course, since no investor invests a substantial sum, the amount of risk involved is usually very low. The portal then keeps a percentage of what is invested or donated, usually 5 to 10 percent.
But Will it Work for Life Sciences?
It will, and it has. In fact, life science companies are increasingly seeing the viability of crowdfunding as a way to raise capital. Here’s an example:
In October of 2012, ANTABIO, a French biopharmaceutical antibacterial drug discovery company, and WiSEED, a French crowdfunding platform dedicated to innovative and technologic startups, announced the successful completion of their seed round of financing with a profitable exit for the initial small investors, a world premiere in the field of crowdfunding applied to biotech start-up financing. Initially funded by more than 200 small investors, ANTABIO’s seed funding round allowed the company to finance a key step in the validation of its drug candidate molecules. The success of this first round of financing had a rapid leveraging effect. Soon a second investment from a business angel further funded the development of their drug candidates, which in turn aroused the interest of a major industrial player in the drug discovery arena, enabling the initial 200 investors to exit with a profit.
However, as seen in the example above, it’s not likely that crowdfunding alone will be capable of meeting a company’s entire capital demands. More likely companies will have to aggregate various sources of capital to meet their capital-intensive requirements, seed to exit. This is sometimes referred to as hybridization, or the aggregation of disparate sources of capital to meet development and financing needs. The traditional sources of capital available to life science companies are non-equity sources such as charities, grants and foundations, and equity sources such as angels and venture capital. But, with the passing of the JOBS Act, life science companies now have the option of coupling traditional sources of funding with non-traditional sources of revenue, such as crowdfunding, to meet their development needs.
Understanding the JOBS Act
Crowdfunding gained momentum in April of 2012 when Barack Obama signed into law the “JOBS Act” (Jumpstart Our Business Startups Act), which included a provision for equity crowdfunding.
For the last eighty years publicly advertising the fact that you were raising capital (general solicitation) was against the law for early stage private companies. Fundraising from the general public was the exclusive domain of larger companies who could afford to spend the millions it took to become listed on stock exchanges like the DOW or NASDAQ.
Title II of the JOBS Act allows private startups and small businesses to raise capital in small amounts from large groups of accredited investors using the Internet and social media, like Facebook and Twitter, and via online crowdfunding sites.
Title II also raises the shareholder cap from 500 shareholders to 2,000. This is the threshold for when companies are required to go public. Under the new law the original holders of crowdfunded securities will not be counted toward the shareholder limits, which in the past could cause issuers to become reporting companies.
Title III of the JOBS Act, which isn't expected to become effective until later this year because the SEC is still hashing out the final rules, allows for non-accredited investors to invest in crowd-funded companies. Today, only accredited investors can invest in companies who generally solicit. Qualifying as accredited means having $1 million in net worth, or making over $200,000 a year for the past 3 years. Title III, once implemented, will remove this restriction, making it possible for the vast majority of potential investors to participate in this type of fundraising.
It seems there are new crowdfunding portals cropping up almost daily, to the extent that some are focusing only on niche markets. HealthiosXchange is a crowdfunding portal that was designed to facilitate equity-based crowdfunding for the health care sector and that includes a foundation L3C model to assist emerging growth companies to source capital from foundations directly. The platform is pre-seeded with thousands of companies and provides tools to help the user research the sector right out of the gate. It’s an ecosystem that goes a step beyond the transfer of funds, helping to facilitate knowledge transfer and trust among the platform’s participating accredited investors.
The HealthiosXchange platform is designed to bring dramatic efficiency to the fundraising process. It connects investors and companies more transparently than ever before and magnifies the visibility of and access to investor networks around the globe. HealthiosXchange, and others like it, are enabling investors to make investments directly into private life science companies. This is now limited to accredited investors, but once Title III of the JOBS Act passes, non-accredited investors will also be able to make these direct investments .
To learn more, download our free white paper, “How Equity Crowdfunding Can Help Life Science Companies.”