What is Equity Crowdfunding & Is It an Option in Biotech?
Last updated on August 9, 2022 by
Even if you’ve never backed a crowdfunding project, you have at the very least heard of crowdfunding sites like Indiegogo and Kickstarter, where creators can raise funds from fans and future customers for their ideas.
These online platforms tend to be very effective for creative projects, hardware, and social impact entrepreneurship, but are generally not well-suited to biotech companies. Biotech startups usually require a large amount of up-front capital and are not able to turn products around as quickly as their hardware counterparts.
Equity crowdfunding, on the other hand, can be a way for early-stage life sciences companies to raise a significant amount of capital in a short period of time.
What is Equity Crowdfunding
Equity crowdfunding, like traditional crowdfunding, relies on the power of the proverbial crowd to raise some portion of the funds a small business or startup will need to start or scale operations. Unlike traditional crowdfunding, rather than getting a product or some kind of gift instead in exchange for their contribution, backers also become investors who own a small part of your company.
This method of fundraising was introduced under Title III of the 2012 JOBS Act as regulation crowdfunding, (implemented through Regulation CF), and allowed small companies to sell their shares to the general public, making it possible for non-accredited investors to invest in a business through crowdfunding platforms in exchange for equity in that business. Regulation crowdfunding initially permitted companies to raise a maximum aggregate of $1.07 million in a 12-month period, but was later extended to $5 million in 2021.
The US Securities and Exchange Commission (SEC) would later introduce new rules under Title IV of the JOBS Act that “created” two new tiers for equity crowdfunding, Under the most recent amended regulation implementing Title IV, Regulation A+, companies can raise up to $20 million in a 12-month period under Tier 1, and $75 million in a 12-month period under Tier 2. provided the company utilizing the Reg A+ exemption complies with specific caveats and conditions.
Why Equity Crowdfunding Might Be Right for You
The main reason to use equity crowdfunding is the potential to raise funds quickly. In addition to the speed at which you can fundraise through equity crowdfunding, it also allows companies to raise “investor” funds, which are exempt from federal registration requirements.
Biotech companies require a lot of capital simply to begin operations. They need things like lab space and expensive lab equipment, access to previously patented technologies, and biological organisms. While grant writing and pitching to angel investors and VCs is a slow process, equity crowdfunding does not require the same amount of preparation or established data to get the interest of potential investors and secure funding.
There is always some degree of risk in any investment opportunity, but the risks at this stage of business for a biotech company are particularly high because there are so many inherent unknowns in the scientific discovery process. Which can make risk-averse investors wary.
However, the payoff for making a new discovery or creating a new technology is huge. Because the amount of money invested by each individual can be quite low compared to that of institutional investors, this is a way to make risk more palatable.
Besides being a source of capital, another perk of using equity crowdfunding is that running a successful campaign will likely make you more appealing to angel investors—high net worth individuals—or venture capitalists/venture capital firms later in your journey. You’ll show that you have the skills to communicate about and market your product or service to a wide audience, and that there is real interest in what you’re doing.
How Equity Crowdfunding Works
Each equity crowdfunding platform has different options for deal structures. You’ll need to consult with your lawyers and your CFO (or whoever handles your finances) while you’re exploring.
Usually, you will have to determine a minimum investment amount required for anyone who wants to participate. The amount you want to raise is relevant to the scope and type of financial disclosures required. For example, whether you need audited financial statements or not.
You may also be able to cap the number of investors that can participate in the round. Some platforms have many different verticals, and some excel in specific niches. Knowing which one is best for your type of business and the industry you’re in will potentially make your crowdfunding easier, as will making certain the platform you choose is well-versed in all regulations which apply to crowdfunding, such as Regulation CF, D, and A+.
We have listed a few popular platforms below, but there are others that may be appropriate for you. No matter what, you must use an SEC registered funding platform if you’re going to the public to raise funds. For international online platforms, check out these reviews:
As you’re looking through them, consider the following questions from Crowdrise:
- How many investors are active on the platform?
- How much capital have similar companies raised?
- What types of companies use this platform?
- What are the platform fees?
- What is the due diligence process?
- Which securities are offered?
- What is the cap table structure?
- What is the total amount of capital raised on the platform?
The answers to these questions vary across platforms, so we recommend researching some of the most popular sites with a proven track record of success to determine what will work best for you. Our biggest tip is to see if any of your competitors or companies that you admire have used equity crowdfunding, and see how they did it.
Keep in mind that you will be engaged in a long-term relationship with your platform of choice and your investors, so don’t hesitate to work directly with their support teams. They may also be able to get you discounts on perks and promotional opportunities if you work with them directly
If you’re worried or confused about how this will work for later rounds of funding, worry not! Some platforms are able to structure your investments in such a way that they will essentially combine all of your equity crowdfunding shareholders into a single shareholder. Regulation A+ allows the creation of “special purpose vehicles” which allow companies to aggregate their investors into a single entity on the cap table.
Remember to always, always make sure that you’re consulting with your lawyer before you make any decisions about pursuing new funding.
Running a Successful Equity Crowdfunding Campaign
Before you can even launch your campaign, you’ll go through a due diligence process with your platform of choice to ensure your intellectual property is strong and your valuation is accurate.
The basic rules of running a crowdfunding campaign apply here. Federal law also mandates certain disclosures, so it’s important to make certain that the platform is adhering to those mandates and rules.
Because you’re likely using equity crowdfunding early in your journey, you probably won’t have impressive financials or customer acquisition stats. The investors that you are targeting may be health or science professionals with a shared passion, laypeople who may have an emotional connection to what you are doing, or just people who love being part of innovation.
Tell Your Story
To attract these investors, tell a great story about your journey as an entrepreneur and highlight the strengths (and weaknesses) of your team and product or service. Explain your origin story and your reason for being. Be clear about what you plan to do with the funds raised, and both your short and long-term goals.
Remember that your investors are investing in you just as much as they are investing in your product. Record videos of yourselves talking about the product, share your personal backgrounds, and include as many appealing visual assets as possible.
Build a Community Before You Start
It seems like a catch 22, but to attract investors you need to show them that others have invested. Most platforms recommend that you have a reliable group of initial investors ready to invest as soon as you launch.
Prepare your marketing and promotional materials early so that you can communicate to friends, family, and other people who you know might be interested. By raising a significant portion of funds early, you’ll be able to build on that momentum.
No matter where you are in your equity crowdfunding journey, transparency is key. Your investors are on this journey with you, and even if things don’t go as planned you should be sending regular updates on your progress and any changes you are making. You might be scared of making people angry, but as we mentioned, investing is risky.
As long as you’re compliant with everything required by your platform of choice, all you can do is your best, which includes frequent and clear communication. When you start working with angels and venture capitalists, you will have to provide updates on what you’re doing with much more money at stake, so start practicing now. Venture capital firms will also want to see that you were able to stay professional and accountable to your stated goals, regardless of the challenges you face.
It’s unlikely that raising capital through equity crowdfunding can generate all the funding you’ll need for your business, but it can still be a useful tool for getting it off the ground, and to start preparing the materials you’ll need to attract larger investors.
Equity Crowdfunding Has Potential to Help Life Sciences Companies
If you’re an early-stage company with little or no existing formal investment, trying to secure an equity crowdfunding investment can often be a great option for securing first-time funding.
As you pitch to VCs and angel investors, it can serve as a way to show them there is broad interest in your project and that you can successfully market your product. It’s also an opportunity to practice being transparent with and beholden to investors and financial institutions.
Before you pursue equity crowdfunding, do your research about whether it’s right for you, and make sure you set yourself up to start strong with a solid community in place and a plan for how many funds you need and what you’ll use them for.