Why big pharma needs little bio

Richard L. Hudson, Science|Business CEO

On 26 January, in London, Science|Business organised a roundtable of executives in the biotech industry to discuss the state of the market. The consensus: investor appetite for biotech companies is on the rise – in part because of the brighter tone of the stock market overall as 2006 begins, but also in part because of some fundamental improvements in the industry, itself. A critical change: More than ever, big pharmaceutical companies need little biotech companies to stock their product pipelines. That makes them big buyers of little bio. Here we present two excerpts from the hour-long discussion.

Science|Business: Demand from pharma – are you feeling the pull?

Christian Rohlff, CEO, Oxford Genome Systems: It is interesting to examine our evolving relationship with pharma and investors over the past five years. If you look back to 2000, we had many specialist tool providers that filled important needs for pharma in certain niche areas. The enthusiasm associated with the completion of the sequencing of the human genome was interlinked with a general optimism about the utility of our services. Subsequent attempts by pharma to move these specialty services in house have been varied and somewhat limited, which suggests that a service model for these quickly evolving technologies is the right approach.

However, by 2001 the enthusiasm in the markets for the benefits of the human genome was met by an emerging realism about the time necessary to see a return on these investments. This quickly translated into an erosion of the valuation for tool companies and there was a trend to heavily discount pharma R&D in general.

Tool companies had to respond to this market sentiment and did so by shifting their focus onto building their own product pipeline. So everyone rapidly re-evaluated their business modeland then presented their own pipeline to their investors.

But this rapid transition was not met by great success because tool companies could not build the necessary financial resources and expertise for drug development that quickly; after all, that’s what pharma still does best. Without the expertise and particularly the capital to bring products to the market their outlook was limited. The result was mostly disappointing for their investors and this led to their further withdrawal.

But then pharma realised that they were running the risk that their access to tool companies to deliver their niche technologies would disappear. Who would fill the gap? So now we are seeing more and bigger deals again where pharma are also filled the role of the new investor. In addition, pharma began to realise that there aren’t too many high-quality Phase III and Phase II products available for in-licensing any more, and so now they are starting to get involved earlier again.

These trends have been quite positive for small biotech valuations. Finally we’re getting more attention for early stage products and we can recognise their value. Some companies now have built up enough confidence to move back into the area of specialist tools that pharma needs.

And so while you could argue that we have come full circle, I would say we have done so with a better sense of realism about product cycles from genomics targets, an improvement in the quality of the products being developed, and a better realism about where each partner’s strength lies as well as a more educated investor base to support these endeavours.

We have also learnt that there are more avenues to extract value from the genome than just through products, such as an understanding about difference in individuals with respect to disease susceptibility and response to certain therapies. This value can be realised in parallel with product development and possibly faster than traditional product development cycles. It is a great way to offset the risks on the therapeutics through potential diagnostic applications.

Science|Business: What about AIM [London’s Alternative Investment Market]? Is a listing there also a good way for biotechs to raise cash?

David A. Kennard, CEO, NeuroTargets Ltd: At Christmas, KuDOS [Pharmaceuticals] got taken out for $210 million by AstraZeneca because they had something about to go into Phase I that was based on their platform technology. Why should they float on AIM for £20 million if big pharma has such a higher valuation than investors do? I also can’t see the point in being public if you’re a service company, where your market cap can often be below your revenue, and if you’re a drug development company you’ll get a better price selling out to big pharma rather than struggling over two to three years. I’m not sure what service the public market is actually providing for biotech at the moment. Market cap will go down.

Christian Rohlff: There is currently a unique opportunity on AIM to possibly get a better valuation than you may get from VC investors at the moment. Part of the small trend I described earlier is that over the past two years there has been a major retrenchment in big investment houses out of Europe. It's still the case that because of that you get a pretty harsh valuation from the remaining VCs. I think compared to that the AIM is very buoyant and there is significant capital available. So you may get a better valuation on AIM than you can get from VCs. It provides a real alternative and may help the sector to put itself back on its feet. So AIM could represent a very attractive financing vehicle for the next 18 months until we have regained the confidence of traditional VCs.

Would you like to participate in a Science|Business Roundtable about the state of the market – financial and commercial – in your technology sector, and in your European city? Email to [email protected] for more information.