As early stage biotech startups advance their drug candidates into pre-clinical development, many must decide at some point whether to start working with a big pharmaceutical or biotech partner to continue to pursue their program through clinical trials.
It’s no small decision, and a topic of increasing industry interest, especially since initial public offerings (IPOs) by life sciences companies have fared poorly in recent years, curtailing their ability to raise cash and develop new drugs on their own. Of the 12 biotechs that went public in 2011, for example, 10 raised substantially less cash than they wanted to, according to the BIO industry group.
The IPO class of 2010 also was schooled in terms of post-IPO performance, with shares in just four of the 12 biotechs trading higher at the end of 2011 than when the companies began trading. Small wonder, then, if Wall Street traders are asking, “Why buy biotech shares at the IPO when we can get them cheaper later?”
So joining forces with larger drug companies offers a wise alternative strategy, which was evident in a new conference that Biocom organized last year to focus on the nitty-gritty of biotech-pharma partnerships. (The Second Annual Global Life Science Partnering Conference convenes in San Diego on Feb. 1, with an agenda that includes VIP speakers from GlaxoSmithKline, Merck, Vertex, Novartis, Pfizer, Roche, and Bristol-Myers Squibb.)
Under the circumstances, you’d think these times would be ideal for partnership deals. After all, big pharmas are prospecting for new drug candidates outside their own R&D programs, and late-stage venture financing remains tenuous for today’s startups. But to borrow a pop psychology concept, pharmas and biotechs are from different planets. Startups are almost invariably motivated by a need for capital to advance their drug development program. Hooking up with a particular pharma may or may not align with their true strategic desires. Big pharmas, on the other hand, are looking to fill their pipeline with new products, but they have trust issues. The pharmas ask themselves, “Does that biotech want a true drug development partner, or just some tawdry substitute for venture financing?”
Of course, this isn’t something that happens on Match.com. The process of choosing the right partner and negotiating a deal worth hundreds of millions of dollars can be extraordinarily complex, and requires months to pull off. So what are some of the key factors?
Xconomy asked some of San Diego’s life sciences leaders to explore this question and offer their advice in an “on the record” dinner discussion late last year.
In attendance at the dinner—which was hosted by Alexandria Real Estate Equities (ARE) and sponsored by the Latham & Watkins law firm, Ernst & Young accounting firm, and Hughes Marino commercial real estate—were Bob Baltera, former CEO at Amira Pharmaceuticals; David Kabakoff of Sofinnova Ventures; Kevin Gorman, Neurocrine Biosciences CEO; Wendy Johnson, Aires Pharmaceuticals CEO (and ProQuest Investments Venture Partner); Robin Jackman, Zacharon Pharmaceuticals CEO; Adam Simpson, chief business officer at Meritage Pharma, Peter Ulrich, former CEO of TargeGen; Ping Wang of the Ansir Innovation Center; Hui Cai, WuXi PharmaTech vice president of business development; John Wehrli and Steven Chinowsky of Latham & Watkins; David Marino and John Jarvis of Hughes Marino; Jodi Smith and Chad Whitehead of Ernst & Young; and Jonathan Kabakoff and Jason Moorhead of ARE. Xconomy associate publisher Jim Edwards also attended, and as Xconomy San Diego editor, I was more or less the moderator, master of ceremonies, and chief inquisitor.
Our conversation circled several areas of concern. Here are some key points that emerged:
—The lack of capital, or perhaps insufficient access to capital, on the part of life sciences startups is the No. 1 driver of behavior among decision-makers on both sides of biotech-pharma partnerships. Pricing is down for both biotech assets and entire companies—unless the target is a highly promising experimental drug in late-stage development. Aires CEO Johnson, who also views the industry as a venture investor through her role at ProQuest, says most of the deals she sees are offering biotech companies “a lot less cash up-front, and they’re very back-end loaded,” i.e. future payments depend on hitting a series of milestones in terms of advancing drug development. Unless a biotech is in the enviable position of entertaining multiple offers, Johnson says venture-backed companies have little leverage and few, if any, viable alternatives.
—Having worked with Sanofi after the acquisition of San Diego’s Targeson, Ulrich said the French pharmaceutical appears to be moving to a three-tiered partnership system that spans universities, biotechs, and pharmas. He predicts that Sanofi will try to advance pre-clinical compounds through collaborations with academic research institutions. It will then likely collaborate with venture-backed companies to advance early to mid-stage drugs, he says. Finally, “they’re going to do post-stage 2 on their own, because they have concluded that’s what they’re good at.”
—One pitfall for emerging companies in negotiating partnerships (and M&A deals] is that they fail to a thorough job of determining their own value—and in persuading their prospective partner of that value. “The companies that get the best deals done usually understand the value of what they bring to the table,” Kabakoff says.
—Doing your homework and establishing a solid foundation for the value of a business is important, but it carries relatively little weight with a prospective buyer if there are no competing bids, Baltera says. As the former CEO of Amira Pharmaceuticals, “I’ve been in the position of being the 800-pound gorilla,” he says. “It’s great if you can get into a competitive process. The problem is if you can’t. We went through our deal, it was a $475 million deal, and all but $100 million got paid out [in the first year]. If there had been just one buyer, that deal would have been under $100 million.”
—Neurocrine CEO Gorman says Baltera’s example underscores why it’s important for a startup’s senior executives to begin laying the groundwork for partnerships years before approaching prospective partners. “You do it for a variety of reasons,” Gorman says. “You do it now so you don’t have to waste time doing it later, and so you know who your prospective partners will be. No. 2, you build relationships that are going to be useful during background checks with partners and others, so you’re looking to the future. And No. 3, if you do this correctly with a long-term view, you’re laying out for these partners—especially European partners—what you plan to accomplish in the coming year. So when you go back later to meet with them [about a partnership or M&A deal], they’ll have a good, truthful assessment of what you’ve accomplished and what you have not.”
—With patents becoming a major battleground in some competitive markets, Latham’s Chinowsky says a biotech can improve its value and strengthen its negotiating position with a strong patent portfolio. As Ulrich points out, “Having a filed patent is great, but getting it granted and having it survive litigation is all that really matters.”
—Soffinova’s Kabakoff draws a distinction between the process that is intended to lead to an M&A deal, such as Baltera’s sale of Almira, and the series of drug development partnerships that Gorman has been doing at Neurocrine. In contrast to the closure that a sale brings, Kabakoff says the partners in a drug development collaboration usually have to work together for a long time, so the negotiations require attention to many details and elements of the partnership, how the two companies will work together, and what each will get for their efforts. “We just did a partnership between Trius Therapeutics (NASDAQ: TSRX) and Bayer, and both parties are going to spend a ton of money, and both parties are going to share certain responsibilities…and managing that relationship is much more than that management team anticipated.”
—Partnerships often lead to acquisitions, but Latham’s Wehrli says that doesn’t mean they’re equivalent. While there can be little difference between “renting” and “buying” a company in this economy, Wehrli says, “What I always counsel clients is that if you’re going to negotiate a partnering deal and a M&A transaction at the same time, you’re going to cannibalize both.”
—Another potential pitfall lies with venture backers who push early stage biotechs into premature partnership deals. Ulrich says VCs often want to “offload their development costs and seek third-party validation to help justify the [lower] valuation in a down round.” Johnson agrees, saying, “They get tired of putting money into these companies, and they start having these discussions about partnering, and of course the biotech CEO goes for that.”
—In short, as Neurocrine’s Gorman puts it, “You have to be smart from the beginning, but you can’t foresee everything. When we decided to focus on women’s health, we saw Wyeth as a natural partner. But by the time we got there, Wyeth was no longer a women’s health company. In fact, it didn’t even exist any more.”
Somehow, Neurocrine still managed to reach a deal with Abbott Laboratories that was valued in 2010 as high as $575 million for global rights to Neurocrine’s experimental drug for endometriosis, a painful condition in which uterine tissue grows outside the womb.