Biotech funding isn’t working

The global financial catastrophe has brought the growth streak European biotech was enjoying to an abrupt halt, wiping €20 billion, or 34 per cent, from the valuation of quoted companies, cutting fundraising from €5.4 billion in 2007 to under €2 billion in 2008, and nailing the IPO window shut.

Biotech has been through lean times before – less money was raised in 2002 in the fallout from the dotcom crash and the disillusionment with genomics. But now the prolonged and systemic funding drought is placing the business model that fueled biotech growth for the past 33 years under unprecedented strain, according to Ernst and Young’s 23rd annual study of the sector, Beyond borders: Global Biotechnology Report 2009, published this week.

“The biotech world is now divided into haves and have nots,” said Chad Whithead, a partner at Ernst and Young, as he introduced highlights from the report at the UK BioIndustry Association’s BioFinance and BioInnovate Europe conference, held last week in London. Now 50 per cent of US biotechs have less than 12 months’ cash; last year the figure was 25 per cent. In Europe, the number with less than one year’s cash has risen from 18 per cent to 37 per cent.

The initial public offering window is shut, though things are not quite as bad as they were in the US in 1984-1985 (before any European biotech had a listing on a public market) when there were no listings for six quarters. In addition to barring the route for exits, the state of the market is making it impossible for quoted small cap companies to raise money, Whithead noted, saying, “Investors want liquid stocks.”

Companies scrabbling to raise cash need to show they are focussed on value maintenance and creation, have reduced cash burn to a minimum, are active in licensing and collaboration, and are trying to make money on non-core assets, advised Whithead, saying, “There are deals out there if you cast a wider net.”

Venture funding looks brighter

Venture capital funding held up better than the public markets. But even here the amount raised was down 20 per cent, falling from €1.2 billion in 2007 to €932 million in 2008. Like their counterparts in the public markets, VCs had less appetite for risk, preferring companies with more advanced pipelines.

Deal volume held up well, but the suspicion is this was spurred by the funding drought. European biotech completed M&As worth €3.4 billion. This was way below the €14.3 billion of 2007, but this figure was skewed by three very large deals. The value of strategic alliances fell by 12 per cent, to €8.8 billion.

Market meltdown

The overall picture for European biotech companies is grim. “With the waters from market meltdown rising all around them, many are having to take urgent measures simply to stay afloat,” says the report.

Those treading water will not be able to do so indefinitely. As 2008 turned to 2009, firms began to jettison core assets, terminate or freeze projects, cut headcount and spin off divisions. Those with means acquired cash-generating assets. Others turned to non-traditional sources such as royalty financing, or to charitable awards, as we reported last month.

Is the sector sustainable?

As the casualties mount, the sustainability of the sector as a whole is being called into question. No matter that there is still huge unmet medical need, the 10-15 year drug development pathway is incompatible with the investment cycle.

The dire situation has led to appeals to national governments to save the sector. To date, only the Norwegian government has taken decisive action, including €318 million for life sciences as part of a wider stimulus package. While measures have been taken across Europe to get the banks lending to SMEs again, this does not help biotechs, as they are generally funded through equity, not loans.

“Many small cap and private companies will continue to take urgent measures to raise capital and reduce cash burn, but the number of companies in the industry is still expected to decrease in 2009 and 2010 through M&A, bankruptcies and liquidations,” the report says.

The situation calls for a rethink of the industry’s funding model of several rounds of venture capital followed by exit via an IPO. Ernst and Young suggests one solution would be to generate revenues earlier in development by offering services or acquiring marketed products. Another would be for biotech pharma alliances to move to early-stage, longer-term alliances.

“Ultimately, of course, structuring deals in ways that provide sufficient capital to advance assets and provide upside will help sustain not just individual companies, but also innovation across the industry,” the report concludes.