Next Phase Newsletter

By Dennis Ford, CEO, Life Science Nation

Historically, single and multi-family offices hired asset managers to help allocate capital adroitly in order to preserve wealth for future generations. The majority of this capital was traditionally placed into the hands of asset managers that focused on conservative holdings. At the same time, however, almost every family office maintains a smaller pool of capital for riskier assets. In the past, this capital was placed into higher-risk vehicles like hedge funds and PE fund with the hope that these investments could offer outsized returns. However, as returns have slowed and, for many funds, turned to heavy losses, it has become unjustifiable for many family offices to keep their capital in an objectively broken asset class. Increasingly, the trend in family offices seems to be heading down the path of direct investment in a variety of industries. These firms are executing this strategy, with the help of trained Wall Street talent, easily plucked from PE and hedge fund firms abound in NYC, London, and Hong Kong.

Arguably, this may make sense for family offices long-term as an investor class, as most family offices are the product of entrepreneurial initiative and investment in what was, at one point, “the next big thing.” This is a documented trend that is picking up traction and may be ready to emerge full force in the near term. Due to the nature of family offices, this is particularly interesting for companies seeking to raise capital; unlike PE firms, family offices can be very quick on their feet and do not have to stick by an investment mandate if they choose not to. Family offices are flexible, and that flexibility can translate to opportunistic investment. Collectively, they are beginning to make waves with large amounts of small investments.

The rate of direct investment is increasing as family offices start to look more and more like PE, VC, and hedge funds. What’s most compelling is that they do not have to pay the “2 & 20” typically garnered by the fund managers who used to manage their money – money managers routinely get a 2% fee of all the assets they manage, and a 20% percent fee of any profit they make. Family offices, then, are doing the math of declining returns – voting with their feet, moving away from the traditional mangers, and taking it all inside (sans fees, of course!) This suggests a trend with momentum and will have some profound effects on the space over the coming years.

Tags: letter, Life Science, news, newsletter

By Danielle Silva, Director of Research, Life Science Nation

Venture capital (VC) and private equity (PE) investments in the life science space differ greatly from the typical private equity and venture capital model in other sectors. Typically, venture capital groups will be earlier stage investors – investors who will consider smaller or even pre-revenue firms – that require a small amount of capital ($750,000-$20 million) in order to get their companies up and running, as well as scale their business. Venture capital funds also tend to focus on firms that have little to no debt.

Private equity groups that invest in areas outside of the life sciences space, on the other hand, usually invest in firms that have a greater amount of debt on their balance sheets, and companies that are more mature and have predictable revenue streams. Typically, private equity groups (PEGs) will make equity investments starting at $2 million to $100 million, and larger groups can write checks that are in the hundreds of millions.

It is also worth noting that VC funds typically invest in a greater number of firms because their typical equity investment is smaller, versus private equity funds, which invest in a smaller number of firms, but write larger checks. VC funds also invest in a larger number of firms for diversification reasons, while private equity groups typically have fewer portfolio companies because they are investing in firms based on their financial statements, which presumably makes an investment less risky.

Recently, venture capital funds have faced a number of challenges; due to lackluster performance, many limited partners (LPs) have pulled their investments from underperforming funds, causing many venture capital groups to collapse. Thus the number of VCs that are operating in the life sciences sector has significantly declined. Accordingly, the percentage of funding the life sciences space has received as a whole from these investors has decreased over the past several years. Additionally, many VC funds have drastically changed their investment strategy in the space. [1]

All this has caused VC funds to have a more risk-averse approach to investing in life sciences firms, generally moving to later stage investing. This in part is due to the firms desiring a shorter-term investment period. And because later-stage investments are more appealing acquisition targets for big pharmaceutical companies, many are also now focusing on drugs that have lower FDA standards in terms of efficacy and safety, such as orphan drugs. Thus, VC funds in the life sciences space are now devising exit strategies prior to the firm even making the initial investment in a company.

Private equity funds take a very different approach in the life sciences space. Some of these funds are now investing in biotech firms as early as the pre-clinical phase of development in order to fill the gap for many life science firms funding needs. One way in which funds have started to invest in life sciences firms earlier is through a process called project financing, in which the private equity group will purchase the rights to one or more lead candidates early on in the development process, and finance the life sciences firm through the end of phase II clinical trials. If the firm has positive data in the clinical II testing, the investor will then have the right to repurchase the candidates. Thus, private equity has adopted more of a growth approach to investing in the life sciences space as of late.

Some private equity funds in the life sciences space are still looking for firms that are generating revenue so that they can eventually sell the firm to larger strategic partners. This is especially true for firms that are investing in CRO’s and medical device companies, as private equity funds will typically acquire these companies when they have around 2-4 products on the market, scale their businesses, and subsequently sell them to the larger strategic partners in the space.

Although venture capital is sometimes categorized as a subsector of the private equity space, these two types of investors could not be more different in terms of their approach to life science investments. Venture capital funds have been forced to become more risk-averse and focused on exit strategy in order to survive as life science investors, while private equity groups are becoming increasingly focused on scaling up these firms, and accordingly, are filling a portion of the void in funding for earlier stage firms.

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[1] Hamilton, Michael D. Trends in Mid-Stage Biotech Financing. Hanover, NH:     Dartmouth, Winter 2011.

Tags: letter, Life Science, news, newsletter

By Life Science Nation CEO, Dennis Ford

Next year will bring tremendous pressure to the venture capital and private equity universe, mainly due to the fact that the fundraising environment will remain sluggish, with the exception of a handful of connected and in-the-know global firms. In an investment atmosphere as dynamic and unpredictable as the last decade, most firms have few performance metrics or market insights to hang their collective hats on. Poor returns mean an inability to raise capital in future rounds, crippling a class of investors. However, the limited partners (LPs) haven’t disappeared from the face of the planet, so what happens when PE and VC cannot preserve capital? Enter the family office, with a lineage and a genetic proclivity to take a shot and win big in nascent markets.  Not a big leap – as this is how the core capital of most family offices was created. These fortunes are primarily the hard-fought spoils of entrepreneurial risk-taking in the past. It’s how they won so big in the first place. This entrepreneurial attitude and willingness to do big things hasn’t disappeared – the apple doesn’t fall far from the tree.

Traditionally, a family office is an organization explicitly charged with the mission of managing a family’s wealth through adroit investment – directly, with fund managers –while sprinkling some philanthropic dollars around as well. The purpose is to preserve a fortune and legacy. This wealth has been accumulated over generations, and the entrepreneurs who garnered this capital were not shrinking violets. And as times have changed, family offices have morphed and partnered with other family offices as well as other high net worth investors. The status today is that these new-age family offices can manage and invest their own capital as well as, if not better than, their once-trusted fund managers. In recent years, family offices are teaming with like-minded brethren and investing right along with them. The fact of the matter is that this tactic aligns and makes perfect sense.

Is it time to put family offices on your global target list of investor candidates? You bet it is! Just as angels have banded together and lead the way on group investing, so goes the new way of the family office groups. Unlike angels who can help get a startup launched, the power of a band of family offices, or multi-family offices with a like-minded investment mandate, is staggering.

This new investment gestalt is actually right in line with how wealth was typically created in the first place, so they know intrinsically how to evaluate a business opportunity and will not get flummoxed by any deal terms. The news here for life science entrepreneurs is that there may be an additional layer or two to get through but at the end of the day, it will be a lot quicker than the processes put in place by the PE and VC firms still trudging away out there. These family offices will have a gate keeper who will do the initial vetting and then if successful, forward you to an in-house evaluator who will in turn bring in the researcher or scientist to look under the hood of an opportunity.

Last but not least is that philanthropy and life science investing are in the same purview and thus compelling to these new investors. When a new drug or medical device gets a hit, it’s a billion dollar hit, and that fact isn’t lost on these new life science investor entities.

Tags: letter, Life Science, news, newsletter

By Max Klietmann, VP of Research, Life Science Nation

Anyone who has spent even a minimal amount of time in the world of private equity deal sourcing knows how heavily labor intensive, inefficient and costly it is to unearth the gems that make a strong investment. When speaking with investors in private companies, the typical number of deals reviewed per investment made is an 80:1 ratio. In the life sciences industry, this ratio becomes even more disheartening. It doesn’t take an expert to understand that that is a very low productivity rate – so why does this problem exist in an industry that is often viewed for its uncanny ability to net things out?

Fundamentally, it is a problem with sourcing the right information from the right places at the right time. Private equity firms typically source deals in the space using a blend of life science databases, industry-centric relationships that run the gamut from academic labs and start-up incubators to brokers and personal network referrals, and screening mountains of regulatory filings and press releases. The process is costly – both in salary and time – and even those private equity funds with industry-leading proactive origination processes often resort to making cold calls into companies produced by web searches. The reason for this inefficient process is that none of these sources are able to give investors an accurate image of the industry landscape as a whole from the precise perspective they need. Moreover, this problem is exacerbated by the dynamic of development in life sciences.

Add to the mix that pharma is now actively targeting products earlier in the pipeline, and in more and more cases it is preclinical investment that is invigorating the new mantra of innovation-through-acquisition. This bodes well for the thousands of emerging biotech’s populating the life science market today – and suggests a strong environment for PE.  But how do investors uncover these opportunities and how do they become visible to the entities they want to be discovered by?

Typically, the art of finding and filtering starts with generating a list of targets to vet. Traditional databases don’t have an edge. Anyone familiar with traditional data providers knows that markets are mapped using a labor-intensive, top-down approach in which company profiles are prioritized according to the percentage of an industry that they represent. Due to this, most companies in these databases need to reach arbitrary financial and employee metrics before they are able to be tracked due to the resources required to do so. The downside to this approach is that it is costly, often inaccurate, and typically fails to include the emerging enterprises that give private equity investors an edge in the industry.  LSN researchers have uncovered and documented close to 2,000 hard-to-find emerging biotech, medtech, and R&D companies to date, and estimate that that represents anywhere to 40-60% of the marketplace.

The closer to where the R&D originates in small and emerging life sciences companies, the harder it is to gather reliable, current data. This forces life science investors to basically go at the process region by region, starting with the well-known geographic life science centers looking for the hidden gems. This of course means all the outlying regions are being overlooked where the real hidden investment pipeline filling gems may be!

In short, other than arduous, tedious, methodical research, there just haven’t been the tools to get a sophisticated investor a thorough picture of the life science investment landscape. Sourcing key emerging players in the global life sciences community will continue to be one of the ongoing challenges that hopefully can be solved by the next generation of life science information providers.

Tags: letter, Life Science, news, newsletter