2014 Trends in Early-Stage Life Sciences Investment

2/20/14Follow @startupboston

The Affordable Care Act has certainly made headlines over the past year—and the ACA, along with several other developments in the current venture funding environment, is beginning to radically reshape value creation in the life sciences and for biotechnology firms.

Below, I provide some updates on trends, challenges, and opportunities for life sciences companies in 2014—and advice for best navigating the current climate.

Challenges and opportunities for investment

2013 was a mixed year. As Silicon Valley Bank managing director Jonathan Norris stated at the Nutter Acceleration 2013 Conference, there remain several challenges for early-stage companies seeking venture capital: decreases in fund sizes and total dollars raised, the consolidation of the raw number of venture investors looking for life science deals, the reduction in overall venture investing into new companies (particularly in medical devices), and the “exit bottleneck” of still-private companies representing $38 billion in venture funds invested from 2000-2011. More encouraging was the eight-year high in the number of big exits and the increase in total deal exit values in 2011 to 2012, as well as the increasing presence of corporate investors in biotech investment (although they continue to shy away from investment in medical devices).

One other trend that Norris’s data supports is the dramatic increase in structured and milestone-driven deals—nearly three-quarters of all such deals during the eight-year high. This brings us to my next point…

Drill down on specifics in milestone deals

In the current biotech IPO market, there is generally an agreement that this eight-year high and volume of transactions has been an aberration. Many IPOs tend to be financing events rather than liquidity transactions for founders and early investors. While IPOs may provide some leverage and optionality for biotechs, acquisitions will continue to be the likely exit mechanism for all sectors of life science companies. In 2014, I expect structured exits rather than cash deals will be the norm. I cannot stress enough the importance of specificity around what constitutes milestone achievement as absolutely critical to driving founder and investor returns. These deals stretch out founder and investor returns, and shift substantial portions of the technical risk back to the sellers.

Post-ACA fun

Some of the data can be attributed to a broader shift in life sciences and healthcare to a population-based approach to medicine and a shift away from volume-based fee-for-service models. The impact of the ACA has been to initiate and accelerate a massive shift to a value-based analysis—but the challenge is that payers, providers, investors, and acquirers have differing definitions of value. There is also an emerging trend towards a patient-centered approach to care, which is opening up a whole new spectrum of opportunities.

As government and private payers continue to drive down healthcare costs, biotech companies will need to pay increasing attention to their pricing and reimbursement strategies. The days of “if you build it, they will pay” are over. In this new environment, as Laurel Sweeney, senior director of health economics and reimbursement at Philips Healthcare, has suggested, “Companies should start with the question: ‘What is the clinical problem we are trying to solve and how large is the problem?’”

The continued shift towards evidence-based medicine means that demonstrating efficacy and safety will no longer suffice as a reimbursement strategy; payers and regulators will increasingly demand hard data and evidence-based metrics on patient outcomes. This is going to create opportunities for health IT and health services companies to drive value in different areas—real time mobile/device monitoring, telemedicine, big data analytics, and post-op treatment care plans designed to reduce unnecessary readmissions.

Best words of wisdom for cutting-edge biotechs in 2014

Given the tough investment climate and the challenges involved in conceptualizing, funding, and growing an early-stage biotech, creating good networks and having strong advocates on your side has never been more important. Avaxia Biologics’ founder Barbara Fox has emphasized how important it is to “know someone in the room” when seeking funding from potential angel and venture investors. In this rapidly changing and complex environment, where the margins for error are growing smaller and smaller, the need for early-stage life sciences companies to attract A+ human capital has never been more important—and it has never been more important to investors looking at where to bet their capital.

Jeremy Halpern is a partner with the Boston law firm of Nutter McClennen & Fish LLP, specializing in emerging companies. Follow @startupboston

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