The pharmaceutical industry is undergoing considerable changes in face of R&D diminished productivity, the patent cliff and increased competitiveness leading to pricing pressure.
The traditional linear approach to corporate innovation appears unable to increase pipeline value and corporate revenue. In fact, recent mergers and acquisitions, geographic expansion and diversification into consumer and animal healthcare have neither compensated for the slowdown in innovation, nor decreased the unsustainable cost of bringing new drugs to the market.
Big pharma, as a result, is moving beyond internal discovery and drug development programmes. In recent years, industry analysts have documented the increasing number of open innovation initiatives such as academic partnerships, open source platforms, crowdsourcing and external venture capital units.
For example, InnoCentive’s pioneering open innova- tion model was followed by several prominent initiatives of industry peers, including the public-private partnership founded by Structural Genomics Consortium and GlaxoSmithKline, Lilly’s Phenotypic Drug Discovery initiative and Merck’s Oncology Network for collaborative clinical trials. Perhaps more importantly, as observed by Henry Chesbrough who coined the term “open innovation” in 2003, in the recent years “companies that have used open innovation not just with technology but also with business models, there has been a rethinking”.
The shift toward external innovation sourcing is consist- ent with the increased importance of venture and growth equity capital investments for new biotechnology start-ups. As biotech ventures are increasingly regarded as one of the most valuable sources for future revenue opportunities, corporate venturing is growing in strategic importance –
especially at a time when the market for traditional venture financing is dwindling, affecting the ability to raise new private VC funds.
Recent corporate venture capital activities, as documented by Global Corporate Venturing data, show that corporations have realised the nature of the opportunity, becoming a prominent source of capital and resources for the development of early-stage innovation in biotechnology.
Interestingly, the current wave of corporate venturing exhibits a set of novel characteristics. A recent study published in Nature Biotechnology, conducted by the Swiss Federal Institute of Technology (ETH Zurich) and Bain & Co, reveals the majority of the established corporate ven- ture units reported substantial changes of the corporate venturing activities of leading pharmaceutical companies, primarily with respect to the structure, strategic scope and human capital.
“Corporations have developed large and more sophisti- cated venture units, which take a more active role in syndi- cates and deliver greater value to co-investors and entre- preneurs. More importantly, corporations are increasingly adopting new models, practices and fund structures.”
The results of the study revealed a number of venturing practices that distinguish successful venturing activi- ties and that offer a benchmark against which to compare current and future corporate venturing practices in other industrial sectors.
So, what are the practices that define successful CVC units? First, they develop a strong mandate and estab- lish direct reporting line. Most pharmaceutical firms take a longer-term view of equity investments by providing a strong mandate to corporate venture units from the executive team and board of directors.
Focus venturing and secure strategic alignment: Percentage of importance and frequency (mean score; min=1, max=3.0) of strategic objectives
Second, they ensure decision-making autonomy. Successful corporate venturing in the study relied on autonomous governance structures. Three-quarters of the corporate venture units enjoyed financial autonomy with either a separate budget – that is, not subject to internal review – or a closed-fund structure. Moreover, the management of the venturing activities and strategic investments showed considerable decision-making autonomy.
Third, they secure external legitimacy and active involvement. In particular, they build and sustain rela- tionships with traditional VCs, which enables corporate units to access high-quality dealflow and identify opportunities. Also, the study showed that corporate venture units have been moving away from a passive investor role with limited involvement to become a sophisticated investment partner capable of participat- ing in larger and more prominent syndication. Often, units even lead or co-lead financing rounds and are involved in the development of their portfolio start- ups, frequently taking board seats and actively lever- aging their corporate resources.
Fourth, they create value-based incentives. It emerged from the study that successful coporate ven- turing units tend to provide greater incentives to the managers of the fund. As a result, the research docu- mented the increased used of performance-related incentives as a central component of the overall com- pensation package.
Fifth, the study uncovered a systematic use of multiple performance metrics. Most firms not only have a broad range of key performance indicators, including metrics for financial and strategic returns, but also define performance and management-related target values.
In sum, the study reveals that the corporate venturing practice of pharmaceutical firms has substantially evolved during recent years and that successful CVC units have consistently adopted a number of VC-like practices that allow them to become more profes- sional investors.
Today’s corporate venturing in biotechnology has a new face – and it is more attractive for biotech start- ups and the VC community.