The common wisdom over the past few years is that biotechs are having a rough time attracting venture capital financing thanks to changing priorities for exit strategies and the vagaries in successful drug development and approval. A new analysis, though, suggests that perhaps a shift may be under way - biopharma VC financing totaled nearly $3.5 billion last year, a gain of almost 16 percent over 2010.
Most of that increase occurred in the fourth quarter, when there were 41 deals and financing amounted to $825 million, a 90 percent jump from the last quarter of 2010, when there were 28 deals according to OnBioVC, a research firm that tracks venture capital doings. Overall, there were 160 deals in 2011, compared with 153 during the year before.
"Life science capital put to work over the last ten plus years has been pretty consistent, remaining in the $5 billion to $6 billion a year range," Adam Rubinstein, managing editor of OnBioVC, writes us. "Therefore, it is a misperception that VC is hard to find. What has contributed to this misnomer, in general, is the acceleration of university-based tech transfer offices focused on building patent portfolios and spinning out record numbers of newcos (new companies) who are seeking venture funding, and the contraction of availability of non-dilutive (grant) funding.
"With more early-stage companies and fewer early-stage (grants i.e. Small Business Innovation Research/Small Business Technology Transfer) resources combined with a fixed amount of venture capital (due to the 10-year fund raising cycle of virtually every fund) has combined to yield what has been commonly termed as the 'valley of death,' where in my opinion, this perceived funding gap is an artifact, not reflective of a hard-to-find capital ecosystem but rather a simple and classical example of supply and demand.
"Recently, the life science start-up community has been concerned with the reduction of Series A financings, where critical clinical proof-of-concept, safety and tolerability data is derived. VC, in general, was criticized for shifting their risk-tolerance profile, opting to put risk-capital to work only in later-stage (phase II and III) companies to mitigate the higher risk preclinical and Phase I (i.e. Series A) companies. But that trend too cannot be supported by the data - where 4Q11 saw record numbers of Series A financings closed."
Overall, the nearly $3.5 billion that biotechs raised last year dwarfed the amount of vc backing that went to other sectors - device makers wound up with $1.9 billion and diagnostic companies got $482 million. Biofuel companies, however, walked away with $222 million.
On average, the amount of money raised per round last year by biotechs was $21.8 million, compared with $19.7 million in 2010. And biotechs raised more than medical device makers or diagnostic companies - which raised $19.3 million and $16.8 million, respectively, in 2011. But biofuel companies, on average, convinced vc backers to invest $27.8 million (you can read the report here).
money roll pic thx to amagill on flickr
13 Comments
Ed, one important reason the report fails to mention for the increased VC financing has been implementation of measures that shift risk away from investors and to the company. There are various anti dilution strategies that have been employed during iterative rounds of financing, such as the weighted average approach, but in the past couple of years another investor protective strategy has been introduced, called full ratchet antidilution protection.
In the full ratchet formula the conversion price of the preferred shares outstanding prior to such financing is reduced to a price equal to the price per share paid in the dilutive financing. The full ratchet formula is attractive for investors as it completely protects their investment from any subsequent price erosion until the occurrence of a liquidity event (at which time the preferred stock would normally be converted to common stock).
On the other hand, full ratchet formula can also be problematic for a VC investor syndicate. Because the prior money invested is fully protected with regard to price decreases, if the company’s prospects deteriorate and the company is forced to undertake a dilutive financing, there is no incentive for all of the investors to participate in the new dilutive round.
In addition, the full ratchet move will be disclosed to new invstors in the due diligence process. This may make the company appear significantly less attractive as an investment, and may exacerbate the problems of an otherwise already difficult financing. Because the number of pre-financing shares outstanding increases due to the anti-dilution adjustment, the price per share of the new series of preferred stock will decrease.
This is a vital yet very tricky aspect of asset risk management, and requires a full service legal and accounting firm experienced in startup financing to navigate all of the possibilities.
The important question that this doesn't really get to the bottom of is what thiS money is being spent on in terms of the science behind the ventures. Is it really innovative early stage academic research or life science ventures based on later stage assets that can be developed faster into a proposition someone can buy
Actually all this article shows is how truly awful VC financing was in 2010. Also how can $825M (MAT $3.3B) in Q4 explain an improving year end trend to $3.5B? Having dealt with a number of timewasting and poorly run VCs over the last few years no-one is going to convince me that the biopharma VC model is not deeply flawed and needs overhaul.
@OI^2 - As you know, terms and subscription agreements are not publicly available, therefore your claim of the invocation of a suite of anti-dilluive provisions as the rationale for driving the recent increase in life science venture activity is a challenging thesis to prove (or disprove). I always default to 'show me the data'.
@ernie - Typically Series A financings are allocated to early-stage life science ventures. Observe the material jump in Series A financings for 4Q11 and you will find the OnBioVC Trend Analysis addresses your question in great detail. Granted the report does rely upon understanding the correlation of financing rounds to 'typical' company stage. +Based upon your comment OnBioVC will add a 'Key' to subsequent reports to aid in the interpretation of raw data presented. thanx.
@Mark - As fixed amt. 10-year cycle venture funds are exposed to an accelerating volume of newcos (as evidenced by data contained at http://IPfol.io) a classical supply + demand challenge arises. More and more entities are competing for a fixed amount of risk capital. +How can you craft your story and present data that convinces an investor to place a bet on your opportunity rather than the hundreds of others the she considers allocating capital to each year?
OnBioVC, here's the data from Cooley LLP, one of the largest firms in the US doing VC deals, showing the increasing use of full ratchet antidilution protection. Data are from 2009, but I see no reason for things to have changed since.
http://www.cooley.com/files/71985_PCF2009Q2.pdf
OnBioVC I also wanted to add that from the perspective of academia the "Valley of Death" is still very much with us. This was prominently discussed at the November, 2010 Business of Healthcare Conference I attended at Northwestern University Kellogg Graduate School of Management in Chicago. Many of these folks would challenge the notion that the Valley of Death is a statistical artifact.
I think there are two trends (hidden by the stats) that explain why there is a perception (and reality) that VC money is scarce.
First, "Series A" rounds have changed. Many Series A rounds now support large dollar spin-outs of compounds from Pharma companies or Phase II repurposings of known safe compounds. That is much different from the five years ago when a typical Series A was a company with a well-validated lead 12-24 months away from the clinic. While VCs still support some pre-clinical companies (particularly if the scientific founder is well known to them), they have become very risk-averse in this area.
Second, VCs are having to support their companies for much longer. Without the availability of IPO funding, VCs often must put more money into their companies before they achieve an exist. That results in few companies overall being funded.
The situation could certainly be helped by innovative non-dillutive funding approaches (such as the U44 grants from the NINDS), but the approval timelines on those need to be accelerated. Companies can easily die waiting for the NIH to score and fund their grants.
Thanx OI^2. Appreciate the link - I still however, cannot get my head wrapped around the connection you are attempting to draw between anti-dilutive constructs and velocity/volume of life science venture dollars invested. Secondly, I could not agree with you more re: the presence of VOD problem in academia. I live, eat and breath that challenge every day. IMHO the "cure" for the VOD does not lay on Sand Hill Rd but rather in Washington DC, NIH, SBIT/STTR etc...
@EarlyBiotech Spot on. Could not agree more.
OnBioVC I think you've probably one upped me on deal structure fine points. I'm a science guy. All I know about deal financing is self-taught.
@OI^2 I appreciate this forum to share ideas and perspectives. We are all right and all wrong. Rising tide lifts all ships. IMHO we must all (sector participants, PI's to VC's to politicians) work together to figure out novel methods to finance innovation in the life sciences. Costs must be contained if not compressed. There are too many ideas sitting idle. Would love to work with interested parties to catalyze a conversation focused on how to "do more" preclinical and clinical science.
The notion that we're all wrong and there's ample funding available out there is wrong. You can cite all the statistics you like. A lot of angel investors are left holding the bag. A lot of good companies are dying on the vine, because de-risking is defining the game. There's a lot wrong with the system. No argument there. Too many technologies get out of tech transfer that either don't have a chance or have yet to be adequately packaged. The regulatory process needs to be reevaluated and reformed. $4 billion to get a therapeutic to commercial viability? Yikes! There's a reason for de-risking. But there's also a reason for big pharma to collaborate more on the front tend. There's also a need for members of the funding strata to reassess their roles. The rules and the roles are changing. But the thinking remains essentially silo and lacks a sense of strategy, which means the right hand and the left need to shake on a way to get from here to there -- even though there is now and always will be a moving target.
Had lunch with my financial advisor today and in reviewing career history I think I hit upon a major turning point in the evolution of VC financing. That turning point, at least one of them, was the dot.com bust between 2000 and 2002. The fallout from the bursting of the internet bubble (or perhaps IB #1) was far and wide. IZt was during this time period that I was working for a start-up pharma company that relied heavily on VC financing.
Pre dot com bust we were generally able to rely on a reasonably steady flow of dollars all the way from Series A-Series D, essentially taking us up to and through product commercialization. Soon after the dot.com bust the degree of difficulty of obtaining financing increased measureably. I would therefore characterize the 2000-2002 dot.com bust period as a major inflection point in the history of VC financing, and I'm not sure that we've ever fully recoverd.