Moderna’s Billions: Will Building Big Before an IPO Pay Off?

Xconomy Boston — 

When Merck invested $125 million and deepened its ties with Moderna Therapeutics last week, it was more than just an evolution of the relationship between the two companies. It continued a high-stakes strategy by Cambridge, MA-based Moderna and its backers, and made them a case study for a rarely used method of company-building in biotech: staying private for years while building big. But can a startup as big as Moderna pay off for a wide group of investors by succeeding at scale?

“If that all plays out, it will have been genius and brilliant,” says Third Rock Ventures partner Alexis Borisy, who isn’t involved with Moderna. “If it doesn’t, there’ll be lots of people having schadenfreude.”

Formed in 2012 by Flagship Pioneering, Moderna is developing synthetic messenger RNA drugs, meant to coax the body into producing disease-fighting proteins. The potential could be enormous, unlocking an entirely new way to treat disease. But the method is largely unproven in humans, and Moderna isn’t the only company working on it—others like CureVac, Translate Bio, and BioNTech are as well.

What has made Moderna an outlier is that, while remaining privately held and without much clinical data, Moderna has secured $1.6 billion in venture financings, another $1 billion through partnerships, and sports a $7 billion-plus valuation. Venture investors not involved with the company say this type of strategy adds pressure and layers of complexity to an eventual IPO, making it difficult for the company to meet sky-high expectations when it reaches the public markets. Moderna counters that it has set expectations accordingly.

“We’ve continued to show our investors progress, as well as setbacks, but everybody has setbacks in research,” says chief financial officer Lorence Kim. That trajectory has “kept investors happy.”

It’s standard these days for biotechs to go public after a Series B or C round, even without evidence that their drugs work in human tests. The strategy has helped fuel companies through clinical tests and has also helped venture firms plow money back into newer companies. A market receptive to biotech IPOs is critical to this strategy, Borisy says, given it can take some $2 billion and 12 to 15 years or more for a startup not just to develop a drug, but to become profitable—longer than the life cycle of a typical biotech venture fund. Going public gives VCs the opportunity for earlier returns, while biotechs gain cash for the drug-making journey.

Third Rock is known to build big companies and commit large amounts of cash, some $50 million, in a Series A round. But its investment thesis, Borisy says, is still to show “you’ve done something important for patients,” meaning produce early human data, in five to six years to generate returns. Versant Ventures managing director Jerel Davis says his firm wants to get its startups either acquired or to an IPO in three to five years, ideally after raising at most two or three rounds. Moderna, which Versant isn’t involved with, is “a unique and different kind of case,” Davis says. (Flagship wasn’t available to comment for this story by press time.)

Indeed, when Merck (NYSE: MRK) threw $125 million more into the company last week, it was through a Series H round of preferred stock. That, in itself, is unusual. Typically if a company has even gotten to the point of raising a Series D or E, investors want to know why, says Lilian Stern, who runs healthcare and biotech investor relations firm Stern IR. Did it pivot strategically? Not raise enough money to start with? Does it have a new management team?

Moderna’s answer has been to raise a lot of money privately and build itself without every move being scrutinized in the public markets. It has spent years amassing a spate of clinical programs and building a large workforce. That has given it the freedom to experiment with business strategy, like a short-lived plan to create and incubate a group of subsidiaries. It also has the bandwidth to work through a variety of scientific ups and downs before going public. A setback for a privately held company—say, when Alexion Pharmaceuticals severed a deal with Moderna last year during a restructuring—is much different than one that causes shares of a public company to tank. “We very consciously decided to stay private to be able to turn on a dime based on what we learn in the labs initially,” CEO Stephane Bancel told Xconomy in January. “That has served us well, because over the 6 years the company has been operating, there have been a couple of bumps on the road on the science—and nobody panicked.”

To do that, however, you need to have a significant amount of cash from a wide range of investors. Kim says Moderna has amassed this war chest by selling investors on “breadth.” A typical biotech might go public on the promise of one drug, or even a few. Moderna, valued at more than $7 billion after its last round, has a pipeline of 19 programs, 10 of which are in human testing. It aims to become a company worth more than $50 billion, Kim says. To put that in perspective, only four biotechs—Amgen (NASDAQ: AMGN), Gilead Sciences (NASDAQ: GILD), Celgene (NASDAQ: CELG), and Biogen (NASDAQ: BIIB)—are currently worth that much.

“We’re saying we can draw a picture that articulates an outsized return over time, and that outsized return comes from not one drug singly advancing by itself to approval, but instead by a technology that is pushed forward over time,” Kim says. “The key thing for investors to wrap their arms around is: can we offer that sort of upside? We believe we can.”  (As these reports in STAT and the Financial Times note, Moderna has plenty of skeptics, especially given that many of its more advanced candidates are vaccines, a lower-margin business than other types of drugs.)

There are, of course, benefits to raising this type of cash. It creates momentum for further financings, and those fundings give a company a longer runway. Management teams can focus on developing drugs and pursuing more ambitious clinical pipelines, and not just get stuck trying to raise more money, Stern says. They also already “have the basis for the IPO book” in place, she says.

Cash also begets more cash, which can help a large private company. Davis adds that in the biotech market there’s a sense of haves and have-nots. Companies can be considered “best in breed” by raising the largest rounds, which makes it easier for them to get even more. In a market flush with cash for biotechs, “it’s a bit of a self-reinforcing situation,” he says.

Yet loading up on cash from the private markets before an IPO invites complexities as well, venture investors say. Borisy says that getting a guaranteed, massive bankroll early on, rather than earning smaller sums of cash step by step, can lead executive teams to take on more programs than they can handle. Davis notes that managing a large number of investors means building “layers on the [investor] syndicate” with groups who bought in at different valuations or have been involved for different lengths of time. Some might have different expectations, or handle bumps in the road differently. As more rounds are stacked on, says Polaris Partners partner Amir Nashat, investors start to get preference rights and more protections so “they can’t get bossed around by the earlier rounds.” “Term sheets never get less complicated,” he says.

Such a lofty valuation could lead to angst that comes to a head at the IPO. Raising a ton of cash privately sets high expectations. And the IPO market has yielded a “pretty tight range” for biotechs of late, typically valuing them in the roughly $250 million to $500 million range, Nashat says. Will public investors value Moderna the same way the company and its investors have? Will its price be above the last round it raised before an IPO? The perception of a super-capitalized company can change if expectations are not met at the IPO, Borisy says. Or unhappy investors might dump shares, which makes it harder to raise cash in the future; or management becomes undisciplined, feeling it’s wasted money.

“For some of these big visionary companies that have raised a lot of money in the private markets, they become very good selling the vision. ‘This is going to change medicine, change the way we’re going to treat patients. Believe us,’” Davis says. “The public markets are going to scrutinize the details of that vision.”

According to Kim, with each round, Moderna has tried to set the same expectations and be clear on the company it is trying to build for the long haul. Investors are “broadly aligned with us on timelines and the vision for the company,” he says. Raising more money hasn’t created conflict or strategic shifts, it’s “just enabled us to do more,” adds Kim.

Wall Street investors will get the chance to judge whether it was money well spent when the time comes.

Photo courtesy of flickr user woodleywonderworks via a Creative Commons 2.0 license.