The view from the venture capitalists is that the healthcare industry has found a way for people to avoid death but not yet how to charge for the service.
That, according to Anton Gueth, managing director of merchant banking at US-based Burrill & Co, which manages more than $1bn in life sciences venture capital funds, is why there is so much innovation both in therapeutics and business models.
Gueth said at the BioEurope 2010 conference in Spain: “Funding for healthcare innovation is both inefficient and scarce. At this point there is a Death Valley between funding for early-stage (pre-clinical) innovation (funded by angels and public funds) and later-stage clinical work (post-proof-of-concept) for which VC and potentially capital market funds are available. This has given rise to more virtual development models that try to avoid the cost of a company infrastructure before reaching this important milestone.”
Gueth added corporate venturing funds were increasingly important. He said: “As private venture funds have retreated towards lower-risk, later-stage opportunities, corporate venturing funds have stepped into the gap to provide the much-needed liquidity for the risky early clinical work. In the process these funds have matured and, while often pursuing opportunities complementary to their corporate strategy, they are more independent of their parent organisations and have compensation systems that mirror the private funds.”
Mournia Chaoui-Roulleau, general partner at France and China-based Ventech, said her research indicated financing available to the VC industry backed by pure financial investors dedicated to biotech was down by €2.5bn to €3.4bn compared with three years ago. She said: “This loss of classical venture money has been replaced partly by larger corporate venturing funds as it has been more difficult for classical VC funds to raise money from third parties such as banks or pension funds. On the other hand, big pharmaceutical companies and family trusts specialising in healthcare have increased their direct investment exposure by enlarging their corporate funds or creating new ones (like Merck Serono, Famille Biomerieux and so on.)”
Of the disclosed largest venture capital firms in the VentureXpert life sciences database, the past year has seen two family offices gain prominence. These are Ares Life Sciences, which has the backing of the Bertarelli family that made its money selling its former business, Serono, to Germany-based Merck KGaA in 2007 for $13.5bn, and HBM Partners, chaired by Roche’s former chief financial officer Henri Miller.
Ares invested more than $200m of equity last year while HBM backed 14 companies with an aggregate $73.3m, according to VentureXpert. VentureXpert said the top 20 VCs maintained the investment pace last year as compared to the three-year average. US-based New Enterprise Associates (NEA) was the top life sciences VC over the three years to end-2009 having invested $656.2m of equity in 69 companies across multiple rounds.
Last year, NEA invested $208.8m in 31 companies while MPS Venture Sciences invested slightly more, $209.6m. However, there was a wider divergence between the top firms able to raise new funds, such as NEA that closed its latest fund on $2.5bn earlier this year, and others.
This is reflected in consultants Cambridge Associates’ analysis for VC-backed companies’ average performance to the end of last year. The dollar-weighted internal rate of return for healthcare and biotech firms overall was 14.4% for companies backed a decade before, in 1999, while those invested during the following year, after the millennium, saw a 3.4% return. Within healthcare and biotech, the sub-sectors have shown more consistent, positive returns in healthcare services than pharmaceuticals and biotech, which have delivered a wider distribution of returns.
Kate Bingham, managing partner at SV Life Sci- ences, which was sixth in the VentureXpert ranking over three years, and ninth last year, said: “We are doing more with corporate venturing funds as there are fewer early-stage VCs. This is because the VCs are running out of money and are unable to raise new funds or they are pulling out of the sector. We recognise that sophisticated investors which can come early into a company are a good thing but some corporates offer better access to their pharmaceutical divisions than others, which for due diligence and strategy is helpful. Its also good if the corporate venturers are as financially motivated as VCs.”
SV Life Sciences has worked with VC peer Atlas Partners and two corporations, Novartis and GlaxoSmithKline, on the early-stage investment in Bicycle Therapeutics.
Lionel Carnot at Bay City, which raised its $500m fifth fund in 2007, agreed. He said: “Our preference is for com- panies to raise sufficient capital to reach the next value inflection milestones. We would rather have management create value than raise money on an ongoing basis. This usually results in having companies raise more money than they originally intended.”
However, Ted Mott, founder and chief executive of UK-based Oxford Capital Partners, which has an industrial partners desk to which companies second rising stars to the firm for three to six months, said corporate venturers brought more than just extra cash. He said: “Money alone does not build VC-backed companies into successes. More importantly it is more about outside thinking, expe- rienced active involvement in emerging companies and strategic encouragement.
“The motivations of many corporations have changed from using their cash only to invest in in-house R&D and marketing to working more laterally to renew their offerings and their distribution channels, as well as to test new business models and to ensure continuing rejuvenation of their own companies. This is done most effectively through external cooperation in new industrial work groups backing emerging businesses. It is a live laboratory.”
Denis Lucquin, managing partner and chairman at France-based Sofinnova, agreed pharmaceutical companies were having to form their strategies to source deals as soon as possible because “they have a real problem in the next few years of a waterfall of IP [intellectual property and patented drugs] going into the public domain”.
How to deal with corporate venturers
Mark Wan, a founding partner and managing director of Three Arch Partners, gives some tips:
With fewer dollars from VCs available there more interest in taking corporate dollars but the trick is not letting this limit the company’s options going forward.
Two corporates are better than one. Keeps it competitive.
Board seats are fine. Better to have them close if you are going to have them in at all.
Don’t have the corporates over pay when leading a new round as it just makes the next round harder.