JOBS Act: If Two’s a Party, Then What is Crowdsourcing?

Editor’s Note: The following feature is a look into the realistic impact of crowdsourcing on the healthcare and life science industry, now that the dust of the JOBS Act has settled. this piece looks at the intricacies of applying this strategy to healthcare, and analyzes what observations experts made during OneMedForum NY 2012. For a similar exploration of the changes to Reg. A and Reg. D solicitation, click here. This article interchanges between crowdsourcing and crowdfunding, as both are accepted terms.

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This month, the third annual OneMedForum NY 2012 took place in the palatial Metropolitan Club in Midtown Manhattan. The conference was a gathering of investors, public microcap and private companies, and key opinion leaders discussing the most intriguing disruptive technology in life sciences.  Of course, each attendee carried the unanimous goal of raising capital and planting their flags.

On the minds of many was the question of how to improve the struggling markets, and make access to capital for these small microcap companies easier. The JOBS Act, therefore, was the conference’s main event, spearheaded by Wall Street veteran David Weild.

The conference was well received and the turnout met and exceeded expectations. Unlike the past several years, there is a higher level of optimism within the investment community, according to attendees. The crux of this optimism, of course, is the perceived greater flow of capital to microcap companies that the JOBS Act can provide. As noted by OneMedPlace and David Weild, the JOBS act is perhaps the most significant piece of securities legislation in nearly a century.

Weild, whose basic research provided the framework for the drafting of the JOBS Act, and currently a special advisor at Grant Thornton, played keynote and moderator to several sessions, diving into the details of how the capital markets structure will change. Weild joined several markets leaders and key opinion leaders such as Karin McKinnell, current Chief of Global Capital Markets at Nasdaq, Christine Jacobs, CEO of Theragenics Corporation (NYSE: TXG), and co-chair of SEC Advisory Committee on Small and Emerging companies, and Cromwell Coulson, President and CEO of OTC Markets Group, to deliver pointed analysis and predictions.

In the audience were dozens of investors, bankers and senior level executives representing different facets of the medical field. In April, President Obama signed the JOBS Act legislation in law. JOBS (Jumpstart Our Business Startups) is now on everyone’s mind, whether it’s getting America back to work, or the Obama Administration’s injection into the markets. This bill is intended to feed the appetite of our starving markets, as well as occupy what is seen as an investor vacuum. Throughout the day, focusing on changes to Reg A and Reg D, the possibility of crowdfunding, and the future of investment banking, experts sought to answer one fundamental question: Is the JOBS act truly “change we can believe in?”

The JOBS Act is intended to ease restrictions on companies seeking to raise capital by going into the public space. Particular stipulations, aimed at making exploration into the public markets both cheaper and easier, have become new weapons in the battle to “jump start” startups. With global markets still in flux, the Obama administration has taken on the issue head-first.

Interestingly, JOBS was surprisingly well-received by politicians on both sides of the aisle.

With a new law came a bold new vision.

Prior to JOBS, regulation prohibited the interaction between bankers and research departments. There is a belief (some instances of truth) that a teaming up, or information swapping could lead to collusion, insider trading, or perhaps something more dubious. Recognizing how increased communication between researchers and potential investors can vastly increase capital flow, legislators implemented in the JOBS Act guidelines for research to travel from Wall Street to Main Street prior to IPO. That’s good for investors and good for job-creators. How does that affect the crowd?

Conventional wisdom stemming from supporters of this stipulation says increased communication channels will lead to mom & pop investors participating in IPOs with greater ease, and thus greater frequency.

Thanks to opportunities created by the technological boom as well as success stories on a smaller scale, the JOBS Act included the “Capital Raising Online While Deterring Fraud and Unethical Disclosure Act of 2012”. Sounds long and complicated — it is.

As an offshoot of these increased communication channels, of particular note is the possibility of crowdfunding as a tool for healthcare companies. The premise arises from the success of crowdsourcing in funding projects in small-capital sectors such as arts, small-scale retail, and technology.

On the macro level, this is a marketing field that relies on dual participation. Essentially, a marketer asks the market how to solve a problem that relates to all stakeholders (buyers/sellers). It asks the market (persons who would benefit) to solve an intricate problem. As an example:

Market-maker asks, “How could we eliminate copyright infringement in the music industry?”

One suggestion could be: lower the retail price for a digital album, or sell songs individually.

A question for the benefit of the market-maker and public is raised. The market-maker asked the question. The “crowd” in turn provides the market-maker with solutions to that business problem.

The caveat here is that the solicited idea becomes the intellectual property of the market-maker. How does this help the crowd? It improves the product or service.

In short, Crowdfunding is a source of revenue raised via the internet through established portals. Companies seeking to raise capital can now meet their financial needs through a third-party channel. A larger net is cast into the markets for small investors. In turn, there are fewer regulations. Investors can participant online provided they meet certain criteria (some of which are outlined below). Previously, only “accredited investors” had the ability to finance companies at this level.

How it works: In the past, to get a spoon in the pot, potential investors had very stringent criteria to meet. Several factors related to wealth determined eligibility, and small investors were often shut out. But, with crowdfunding, some regulations are removed to welcome retail investors. A wider net is cast, which allows more slices of the pie doled out to a larger network. Consumers purchase stake through portals, who act as middle-men in the transaction.

Fine-tuning a powerful legislation.

Portals cannot provide advice, act as DTC, or solicit products, to name a few restrictions. Portals will be strictly third parties who are facilitating the trades, and are required to register with the SEC and other regulatory bodies, a mandate that will reduce fraudulent sites from duping inexperienced investors. The “portal” is responsible for ensuring informational and educational materials are distributed to all investors. Portals must also attest that the investor is knowledgeable of the investment prior to execution.

While this concept may work for industries with small capital commitments and more predictable revenue calendars, there is much debate as to how (or if) crowdfunding can work in life sciences. Limitations include:

  • Funding is limited to $1 million per 12-month period for aggregate investors, Regardless of the number of investors. This stipulation means no other financings, regardless of structure or size, can take place through one calendar year, once a crowdfunding venture is complete. Drug development is extremely expensive, in which even the earliest of clinical trials cost upwards of $1 million.
    • This stipulation will most certainly deter any life science company outside of infancy level from exploring crowdfunding. While many life science companies at development level do not raise more than $1 million every year, committing to operating with that small level of financing for one year can be a developmental handicap.
  • Individual investors can invest between $2,000 and $100,000. However there are specific net worth and net value issues that may come in conflict, meaning investors will still have to fall into some level of accreditation.
    • These regulations ensure inexperienced investors will not be naïve to the risks of investing, and further, that returns will not be expected nor relied upon. However, accreditation levels are lax enough that a sizeable percentage of the population will be eligible. During life science company growth development, the concept of extreme dilution in exchange for a small amount of capital may not be favorable.
  • Portal and issuer must comply with all regulations, of the bill, specifically, those of Section 4A, which require registration with regulatory bodies.
    • Registration and compliance requires money and time, which may prevent many new portals from pursuing compliance-heavy industries such as life sciences.

Although crowdfunding may not prove to be a viable strategy for pharma and biotech, the medical device, health information, and telemedicine communities have begun to explore this route. Case studies of success are coming into focus, and soon crowdfunding pioneers will lay out financing models that could eventually become standard practice.

Further, despite these supposed limitations, crowdfunding is a microcosm of a larger effort to support company growth development at all levels: through policies such as crowdfunding, and the removal of retail investor communication restrictions, the Obama Administration has taken an aggressive step towards reviving the capital markets.

The JOBS Act has won mostly praise thus far, in its infancy, and especially in the analysis of crowdfunding in several industries. Many people including David Weild, Christine Jacobs, and others believe it’s a step in the right direction.

However, there are concerns about companies currently traded. How does it affect them? How can it benefit them? At this time there aren’t any easy answers — just a lot more questions. One thing is certain, however: JOBS is proving that “crowding” doesn’t have to be a bad thing.

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