Biotech From Bust to Boom
Biotech From Bust to Boom

Biotech From Bust to Boom

The last ten years have seen biotech enjoy the biggest and most durable boom in the industry's history. But the future is uncertain: the public market and IPOs re down, but venture funding is still near all-time highs, and there have never been as many innovative companies and technologies. (PageĀ 1)

Despite biotech's poor performance over the last year, the industry is still in the midst of a historic boom. From 2003 to 2011, around $4B was invested annually into biotech startups. That's more than 9x lower than the $37B invested in 2021. (PageĀ 1)

From 2007 to 2009, there were no biopharma IPOs for nearly two years, until Cumberland Pharmaceuticals went public. Two years without biopharma IPOs is almost unimaginable today. (PageĀ 1)

The IPO market picked up from 2010 to 2017, with an overage IPO pre-money of $246M and a total of 24 preclinical IPOs (representing 9% of biopharma IPOs) (PageĀ 2)

Especially in hot markets, it can be difficult to tell the extent to which a company is valuable because of fundamental factors or market-driven factors. But differentiating between these two sources of value is critical. (PageĀ 2)

In the wake of the financial crisis, biotech was battered and bruised after a decade of poor performance. The next-gen science that arose in the genomics bubble of the late 1990s wasn't working, FDA had taken a very conservative stance on approving new drugs, and big pharma's "patent cliff" was eroding billions of dollars of revenue. What changed? (PageĀ 3)

The first "fundamental factor" that drove investor interest was successful launch of several "big biotech" drugs in 2012-2014, including Regeneron's Eylea for wet, AMD, Biogen's Tecfidera for multiple sclerosis, and Gilead's Harvoni and Sovaldi for hepatitis C. (PageĀ 3)

These drugs had incredibly successful launches, going from zero to several billion in just two years (Gilead's Help C drugs went form $0B to $10B in just one year on the market, a record prior to the COVID vaccines from MRNA and Pfizer/BNTX) (PageĀ 3)

One notable feature about these drug launches is when the stocks priced in commercial success. These stocks took off once their drugs generated strong sales. Before these companies proved their drugs' worth with actual revenue, investors did not give the products much credit ("short the launch" was a common theme around this time). (PageĀ 3)

The next big wave in biopharma was the immuno-oncology wave. Starting in 2013, PD-1 inhibitors (a type of immune "checkpoint" inhibitor) from Merck and Bristol Myers released incredible clinical data in treating cancel (CTLA-4 inhibitors, a class of checkpoint inhibitor that was developed before the PD-1s, also had solid data through not as strong). This set off a flurry of investor interest in other immuno-oncology companies, and a search for combination therapies that could be used to enhance the effectiveness of PD-1 inhibitors. (PageĀ 4)

By the time these drugs were approved, the market had already priced in success. Bristol Myers' market cap grew 65% (adding $34B in market cap) during 2013 as initial clinical data for BMY and Merck's PD-1 inhibitors was released. Merck, whose pembrolizumab was considered second-best to BMY's nivolumab at the time (though the table turned in 2016-2018), gained $14B in market cap (a 14% increase from the prior year) in 2013. Both companies saw additional market cap gains in 2014 as more data were released. (PageĀ 5)

An increasingly innovation-friendly stance at FDA added fuel to the fire of investor enthusiasm for immuno-oncology. (PageĀ 5)

A friendlier FDA decreases the risk profile of investing in biotech. This encourages investors to fund earlier-stage companies. Because cancer and rare disease companies were more of the main beneficiaries of these regulatory developments, cancer and rare disease companies received the bulk of funding and investor interest starting around 2013. (PageĀ 6)

Another tailwind for drug development, specifically for cancel and rare disease drugs, was the rise of "precision medicine". Broadly, precision medicine refers to developing drugs for specific, genetically defined patient populations (as opposed to the broad patient populations for whom drugs had traditionally been developed). (PageĀ 6)

Precision medicine and a friendly FDA reduced the (actual and perceived) clinical and regulatory risks and encouraged investors to take on early clinical risk, notably for cancer and rare disease drugs that benefited most from these tailwinds. (PageĀ 6)

Underlying these fundamental factors was a powerful market-driven factor: accommodative monetary policy. The Federal Reserve, and most major central banks worldwide, cut interest rates to near zero during the financial crisis and embarked on major asset purchase programs and quantitative easing to support the financial system. (PageĀ 7)

While the impact of monetary policy on markets is a complex topic beyond the scope of this post, a discussion of the biotech boom requires some mention of monetary policy. Accommodative monetary policy generally increases investors risk tolerance and increases the prices of stocks and other assets. (PageĀ 8)

Low rates also decrease the returns generated by bonds. Investors who require a certain amount of yield (for example, pension funds that are underfunded and that must generate investment profits to fulfill their pension obligations) must turn to riskier investments than "safe" investments like bonds in order to generate returns. (PageĀ 8)

Several hedge funds and mutual funds noticed that these fundamental changes in the industry made whole new class of companies eligible for the public markets. These companies were previously too risky for big public equity investors, but new scientific breakthroughs and FDA's accommodative stance decreased the perceived risk of these companies (especially as these investors continued their search for yield as the low-interest Fed regime continued). (PageĀ 9)

After the patent cliff in 2012 decimated big pharma revenues, big pharma had been much more acquisitive and was paying increasingly high sums for risky companies in an effort to replenish their pipelines. Around 2014-2015, many early-stage biotech companies began to trade more based on likelihood of an M&A takeout than based on fundamentals, shifting the market to a more speculative posture and away from fundamental-oriented valuation. (PageĀ 10)

The expectation of increased rates decreased investors' overall risk appetite, which took the steam out of the market generally (the S&P 500 index dropped around 14% during this time), and the biotech boom specifically (pre-revenue biotech stocks are considered one of the riskiest asset classes, so if investors want to reduce risk, biotech is often one of the first sectors to get cut). (PageĀ 10)

When these companies were acquired, their lead drugs were either approved or had very strong clinical data, so the stocks were already valued in the billions. But the big premiums paid by pharma for these platforms validated strategic interest in these platforms and led investors to speculate that an arms-race might develop among pharma companies hungry to become leaders of a new generation of pharma company built on cellular and genetic medicine. (PageĀ 11)

The number of venture investments in and IPOs of cell and gene therapy companies increased significantly, and other next-gen modalities like gene editing, mRNA and other nucleotide therapies also garnered significant interest (culminating in MRNA's December 2018 IPO at an $8.1B post-money). (PageĀ 11)

One consequence of this stable increase in risk appetite is the rise of venture capital funding in biopharma. Because any slowdown in the IPO markets was not long enough or drastic enough to put a major dent in VC's performance, VC returns remained attractive. Thus money continued to flow into private biopharma companies. (PageĀ 12)

2018-2019 specifically saw the venture market supported by three major new entrants: Chinese investors and hedge funds piling into late-stage venture, and tech-bio investors(software VCs who began to invest in biotech, often "comp bio" platforms)entering early-stage venture (primarily at the seed-stage during the 2018-2019 timeframe, at least biopharma). (PageĀ 12)

A huge class of investors became aware of the potential for new modalities to deliver treatments that were previously considered out of reach, and the search began for the next big platform. 2020 and 2021 saw the rise of the ever-more ambitious. "platform" company. (PageĀ 13)

Investors in 2021 embraced platform risk, funding a class of some of the riskiest but also most ambitious, companies in biotech. Investors were open to most scientific risk, although most investors were still not willing to take on as much "people" risk(the perceived caliber of management, investor syndicate and scientific founders and advisors is often core to the investment theses for these platform companies). (PageĀ 13)

One can argue that the biotech market in 2021 was the most risk-tolerant in the industry's history. The 76 biotech startup IPOs on US exchanges in 2021 is greater than the 67 biotech IPO during the peak of the dotcom/genomics boom in 2000. the IPO classes of both 2000 and 2021 had a large number of preclinical IPOs, as well as IPOs of platform companies ranging from computational genomic medicine to cell therapy. (PageĀ 14)

The valuations of the biotech IPOs in 2021 were significantly higher than in 2000. In 2000, biopharma startup IPOs had an average pre-money of around $300M and an average raise of ~$90M. On an inflation adjusted basis, this is a pre-money of $490M and post-money of $640M. Compare this to the average IPO pre-money of over $800M in 2021. (PageĀ 14)