Last week I blogged Is Biotech Dead As We Know It? I posed the question whether the market dynamics have changed such that the fundamental biotech model will be altered going forward? Let’s look at that.
I believe the short answer is no. Leading edge product technologies are still getting funded. The technologies and or products that are considered either me-too or of marginal clinical benefit are having a much more difficult time. But that’s okay because it was the bandwagon investing in these companies to begin with that exacerbated the downturn for the industry. Does that mean the model is broken? No. It just means the industry is maturing and investors are more selective.
Valuations are lower primarily because the risk is perceived to be higher due to longer development times, increased FDA scrutiny and reimbursement, including health care reform. Lower valuations, however, allow for more reasonable exit expectations from either a buyout or an IPO once the market returns.
Lower valuations are really only a problem for those companies that financed before the crash and are in the later rounds of financing. Many are loath to accept a down round, but my advice is to take it and move on. The table has been reset. New companies are in a better place in terms of valuation, but have to be more creative in their development because of it. Less money means more reliance on partners or outsourcing to stay on development timelines.
Deal flow appears to be improving. As reported by OnBioVC, since April 1st, a total of 25 deals have been closed for over $380 million. Nearly $200 million of this amount is for ex-U.S. companies, but only $9 million represents Series A rounds and $87 million Series B. This demonstrates both the difficulty in completing Series A deals and the importance of hitting early stage milestones in securing additional funding in later rounds.
VC fund raising efforts also appear to be heating up as evidenced by the recent announcement of Third Rock Ventures for a planned $400 million life sciences fund, their second and Avalon, another early stage investor that is considering raising their ninth fund. I have also heard rumblings of other VCs soon to follow. This would not be the case if the perceived returns weren’t there.
Despite an improving environment major challenges remain. One such challenge confronting early stage companies is the so called valley of death, that period of time from discovery through initiating clinical trials. It is undeniably more difficult today for early stage companies to survive this crossing. Investors that used to make a bet on technology now prefer to wait for clinical data prior to committing large sums of money. This puts early stage companies in a real bind for without money there is no chance of obtaining clinical data. Historically, this gap has been partially filled by SBIR and STTR grants, but these grants are difficult to get and very limited in scope.
Much recent attention has been paid to addressing this dilemma. Part of the stimulus plan allocated funds under a NIH pilot program to provide resources for accelerated development of technologies that have shown promise. Other efforts are local, like CID4 in Colorado, that is trying address this need through creative ownership structures. This also may be a ripe area for investment by Big Pharma or their venture capital arms. By diverting some of their internal R&D dollars into companies pursuing technologies of common focus they could gain in both R&D efficiency and return on investment. An example is the Celgene/Agios deal announced today.
We are a long way from a solution, but the important thing is recognition of the problem. Improving capital markets will only help the situation.
The biotechology industry is beginning to re-emerge from a major shakeout. One thing is certain and that is the pace of discovery hasn’t slowed. Believe it or not, but this is an industry still in its infancy. It may be tougher now than it once was to achieve success, but the fundamentals are still in place for entrepreneurs and investors alike.