This just in: biotechs with pharma VC $$ are more likely to IPO or be acquired

OK, this news from Burrill & Co isn't exactly revolutionary, but it is interesting to see numbers applied to common sense.

Burrill analysts looked at ~2,900 companies that received venture funding. ~10% of those companies received financing from the VC arm of a Big Pharma company (such as Lilly Ventures, SR One, etc.)

Burrill sees the Big Pharma VC $$$ as a differentiator in outcomes. Consider these outcomes from Burrill's study:

Venture WITH big pharma VC                                  Venture WITHOUT big pharma VC
           ~25%                 % companies ultimately acquired                  ~15%
           ~50%              % companies w/pharma partnership                ~30%
           ~12%                     % companies that IPO'd                             ~8%

Combining acquisition and IPO outcomes to say "who got liquidity," you'd see that ~37% of biotechs with Big Pharma VC got liquid, while only 23% of biotechs without Big Pharma achieved liquidity.

(I'm surprised the figures are that high, and ultimately likely higher, as additional companies from the studies IPO or are acquired. Given another year or two, I wouldn't be surprised if the respective liquidity figures reach 50% and 33% respectively. Who thought that 50% of all pharma $$ backed drug discovery biotechs achieve liquidity? I'd naively guess that these figures are higher than what is experienced in internet/IT/software investing.)

So, based on Burrills analysis, attracting big pharma VC boosts by 50% or more your odds of partnering, IPOing, or being acquired. 

The big question is: does Big Pharma investment make a company better, or is big pharma better at picking winners?

I'd argue strongly the latter - that Big Pharma picks winners - for the simple reason that for every biotech, the ultimate customer is Big Pharma, not patients or attending clinicians. In that respect, biotechs attracting Big Pharma VC are by definition doing a better job of understanding the customer (Big Pharma) and are 'pre-selling' Big Pharma during investment discussions.

What I found surprising was that the Big Pharma VC investment IS NOT predictive of acquisition by the Big Pharma that made the investment.

What this all means:

for investors: the participation of a Big Pharma VC is obviously a stamp of quality, and likely more important than the identity of the non-pharma participating investment funds.

for biotechs: not all VC $$$ is equal. Getting SR One, or Pfizer Ventures, or the Novartis Option Fund to invest is likely much more valuable than taking VC $$$ even from traditional industry VC. Hmmm. Between this news, and other recent analysis about VC outcomes, you wonder if maybe traditional VCs ought ought to return to their roots in incubating companies, not scaling companies.

Interesting pharma M&A stat….

From this Bloomberg article: recent pharma acquisitions of >$500M have been at an average 71% premium to their pre-deal market price.

The article suggests that this is driven by the large number of Big Pharma's products going off-patent and therefore needing to be replaced. This is true, but I think there's also the partial explanation of a cost of capital arbitrage.

Pharma companies tend to have a cost of capital just a few points more than the borrowing from the Fed. This figure can be calculated for each pharma company, but let's just assume 8% over the long run, but with today's low interest rate QE2 environment, that might be more like 6%.

Biotechs, - even public biotech's - have a MUCH higher cost of capital. This too varies based on company, disease-focus, maturity, etc., but probably somewhere in the range of 12-18% today, or 2-3X big pharm.'s cost of capital.

Big Pharma companies (generally) trade based on earnings multiples, while biotech's tend to trade on the value of growth, which is risk-adjusted by the biotech firm's MUCH higher cost of capital.

Consider the forward and trailing P/E ratios of the first 7 pharmas that came to mind:

So let's say that you've got a blockbuster ($1B in revenue) at typical pharma margins (27% operating margin - we'll use that as a stand-in for EPS.)

That suggests that on a forward basis, the blockbuster is worth $3.25B (forward P/E of 12 x ($1B x .27)) to the pharma.

But if the blockbuster has sales of only ~$250M at this point, and $1B in revenue is still years off, the discounted (risk-adjusted)  value is much less perhaps half the value of its' forward value under the wings of a pharma company.

This example is pretty much a reflection of the setting of the HGSI-GSK merger talks. HGSI had $130M in revenue (JV revenue) and a market value of <$1.3B immediately before GSK launched their $2.6B takeover offer.

What I've described above - pharma's lower cost of capital relative to biotech driving M&A activities - is nothing new, but with interest rates today low enough that borrowing costs are almost negative for big pharma, it should really only be news if Big Pharma WASN'T buying, irregardless of the oncoming patent cliff.

Thanks to FierceBiotech for pointing out the article.

HGSI in play, an era comes to a close

It's been a long, long, long road for Human Genome Sciences, but congratulations are due for their $2.6B buyout offer from GSK at a roughly 50% premium to their previous trading price of $7 per share. HGSI rejected the offer, but it is widely expected that HGSI and GSK close a deal at a slightly higher price ($3B?), though it would be fun to see GSK hold firm on the pricing of their offer - I don't think HGSI is likely to attract higher bids from any other companies.

By way of comparison, over its' history, HGSI raised ~$3.8B in capital.

The buyout is driven by HGSI-developed Benlysta (for Lupus, partnered with GSK) and it's near term pipeline which includes a pretty exciting atherosclerosis drug. Once again, we see big pharma buying a partner who has been substantially de-risked, something to consider as Vertex, Onyx, and others approach this stage.

But HGSI will forever be to me a lesson in buzzword-investing.

Rewind to very late 1999-2000 - the peak of the internet investing bubble and the dawn of the genomic age. Tech investor fervor and the news of the success of the Human Genome Project ran up the stock prices of all things genomic. HGSI peaked at a split-adjusted price of 103 in 2000. (Reminder: GSK's current offer is ~$13 per share.) Here's a crazy chart of HGSI's stock price over the last 13 years:

(Live link to chart)

But genomics shares (including Celera, Incyte, etc.) cratered quickly once the hot money cooled and once the realization hit that genomics products seriously lagged, for a variety of reasons. What followed was a lonely decade for genomics stocks, and I can't help but wonder if the 2000-era fervor was a net negative for genomics. (Did the investing bubble distract management from building a successful long term tech platform? Did the unreasonable expectations of the market poison the well for future genomics companies?)

The genomics bubble was nothing new - remember the gene therapy bubble or the angiogenesis bubble before that? Since the genomics bubble we've seen a stem cell bubble and an RNAi bubble, so clearly the investment community hasn't learned the lesson to ignore or at least devalue hype, but HGSI's sale to GSK shows that post-hype, post-bubble companies can still generate value.