Nearly three years past a deadline set by the Jumpstart Our Business Startup (JOBS) Act, SEC commissioners voted, 3-1, on Friday in favor of adopting final rules permitting start-ups and small businesses to raise capital from non-accredited investors by offering and selling securities through crowdfunding.
The new rules, expected to take effect early next year, would allow companies to run campaigns raising up to $1 million over 12 months. They fall under Section 4(a)(6) of the Securities Act of 1933, as mandated by Title III of the JOBS Act. They revamp and reform draft rules unveiled in October of last year. (See BioWorld Today, Dec. 27, 2013.)
Adoption of the rules means that individual investors can, over the course of a year, invest as much as $100,000 in crowdfunding offerings within limits. Those limits, tied to their income and net worth, are far lower than applied to offerings for accredited investors, people with either a net worth of more than $1 million or earned income that exceeded $200,000 in each of the prior two years.
Because the new rules "facilitate capital raising by an issuer population that we expect to be quite different from our other ones," said SEC Chair Mary Jo White, they include an exemption from the audit requirement for first-time crowdfunding issuers, intended to address concerns about the costs of requiring an audit for small, first-time issuers.
As proposed, issuers conducting smaller offerings under the new rules would not be required to file tax returns, but would instead have to disclose specific information from those returns. The new rules would provide an optional Q&A format that issuers could use to provide the required disclosure.
Issuers will also face disclosure requirements for certain information about their business and securities offering, and a regulatory framework under which broker-dealers and SEC-registered "funding portals" that will facilitate the crowdfunding transactions will operate. The rules will require intermediaries to, among other things, educate investors about the offerings they make available, including resale restrictions; take certain measures to reduce the risk of fraud; and provide communication channels to permit discussions about offerings on the platform
Ethan Perlstein, founder and CEO of Perlstein Lab, a San Francisco-based start-up working to build a platform for orphan drug discovery, told BioWorld Today that he sees the new rules as "a welcome opportunity for fresh financing. As someone who raised an angel round last year the old-fashioned way pounding the pavement, I know how hard that is and how hard it is to get the notice of VCs," he said. "This is very encouraging as far as having another option for the early stage, whereas right now it's basically angels and family offices that are providing that kind of capital. If we can open that up a bit, I think that's good."
As part of its platform-building work, Perlstein Lab is initially focusing on two proof-of-concept diseases: the lysosomal storage diseases Neimann-Pick C and N-glycanase 1 deficiency, a congenital disorder of glycosylation. Though past raising its first round of financing, having secured $2.5 million last year from a mix of high net worth individuals, family offices and strategic investors, Perlstein said he'll definitely take a careful look at new funding venues that arise under the SEC rules.
When the commission proposed crowdfunding rules, more than two years ago, in October 2013, it had already been 18 months since the JOBS Act had directed it to do so. Since then, it had received and reviewed more than 480 public comments providing input. Though many of those comments led to revisions and betterments of the final rules, SEC commissioner Michael Piwowar — the only commissioner to vote against the new rules — said he was concerned about their usefulness and the workability.
"While crowdfunding was intended to be a treat for the smallest and least sophisticated companies seeking to raise capital, today's rules are full of tricks. The rules will spin a complex web of provisions and requirements for compliance," he said prior to the vote Friday. "I fear that many traps for the unwary are hidden in the regulations, creating potential nightmares for small businesses and their owners that fail to place regulatory compliance at the top of their business plans."
Piwowar criticized the rules for limiting the amount that wealthy investors can put in to crowdfunded offerings as well as the amount non-accredited investors can put in, accusing the majority of the commission of not trusting less wealthy investors to "exercise appropriate judgment about how to invest or spend their own resources." The problem, he said is that "rather than actually protecting investors, these smaller limits will discourage legitimate companies from engaging in crowdfunding, while simultaneously encouraging less reputable investors to use affinity-based solicitation methods akin to multi-level marketing."
Whether Piwowar or commissioners more supportive of the new rules are in the right will take time to become clear. SEC staff, in addition to keeping close watch on the unfolding of the rules plan to submit a report to the commission no later than three years following the effective date of the new rules documenting the impact of the regulation on capital formation and investor protection.
Now that the U.S. has approved crowdfunding from more sources, small U.S. companies have some catching up to do. According to the first ever analysis of the field, published by Biocom AG, a Berlin-based consultancy and research firm, European life sciences firms raised €23 million (US$26 million) in 42 crowdfunding campaigns over the last five years. (See BioWorld Today, Sept. 8, 2015.)
With the availability of seed-stage biotech investment funds continuing to enjoy relative strength in the U.S. and the costs of even modest drug development programs seemingly forever on the rise, it's unclear whether the upcoming availability of capital from crowdfunding investors will resonate with entrepreneurs in the space. There have been notable successes, such as the microbiome sequencing venture Ubiome Inc., which raised $339,000 through Indiegogo before capturing $4.5 million from angel investors and Andreessen Horowitz last year. But less stellar outcomes have come to pass too, such as Perle Bioscience Inc.'s plan to raise $2 million through a service called Blazefund. (See BioWorld Insight, Sept. 22, 2013.)
The new rules and forms for meeting various associated filing requirements will be effective 180 days after they are published in the Federal Register, except for the forms enabling funding portals to register with the commission, which are slated to be available and effective Jan. 29, 2016.