Back in April 2011, at a biotech conference in San Francisco, a panel convened to discuss how hard it was to build biotech companies that could push through long, costly clinical trials before a drug comes to market. One panelist hedged to say, well, at least the financial reticence had a silver lining: there was no danger of a bubble. Biotech venture veteran Camille Samuels responded, “Hey, I’ll take a bubble!”
Those were lean times. The biotech VC shakeout had begun, the IPO window had reopened only slightly after the global financial crisis, and several VCs were scrambling to invest in ways that would require less capital, even if it meant less reward for success.
From there, however, it took all of two years for observers to wonder if Samuels’ wish had in fact come true. In mid-2013, one biotech journalist wrote that “talk of a bubble is, well, bubbling up, and one wonders if it will pop in the summer heat.”
Nice call, pal. I wonder who wrote that? To be fair, I wasn’t the only scribe to float the B-word that year and mull the inevitable end. After all, it’s better to hedge with a little skepticism than get caught with your Dow-36,000 pants down.
Stocks will rise and fall, of course, and exuberance, rational and otherwise, will come and go.
“There will always be reasons underlying investor sentiment for one sector being hotter than another,” says Ernst & Young’s biotech consulting practice leader Glen Giovannetti. “It can’t be like this forever.”
But I want a new metaphor. Why does a bull run like biotech that has been on since the start of 2012 necessarily presage a sobering pop? Think, perhaps, of a feather dropped out of a window instead of a bubble stretched to its maximum. In other words, when the inevitable correction comes—and far be it from me to try and predict when or why—there are signs the sector is strong enough to make it a gentle one.
Resilience. The two major biotech indices have risen more than 240 percent since the beginning of 2012. I won’t argue that nothing can happen to reverse the trend. Quite the opposite: In January, just before this year’s annual J.P. Morgan Healthcare Conference, I identified five factors that could trim biotech’s sails this year.
But it’s remarkable how the sector has absorbed what first seemed like body blows to little ill effect. It’s starting to feel like a big reversal—a bubble pop instead of a slow, feathery descent—would require severe external pressure, like another financial downturn that had little to do with the sector’s fundamental health.
Let’s recap some of last year’s resilience. In March, Congressman Henry Waxman (D-CA), a prominent drug-industry critic, took Gilead Sciences (NASDAQ: GILD) to task for the price of sofosbuvir (Sovaldi), a breakthrough in the treatment of hepatitis C. The long-awaited assault on high drug prices had begun. Biotech indices fell about 20 percent right away but by the end of June were basically back to pre-Waxman levels. Then in July, a Federal Reserve report declared biotech and tech stocks “overvalued.”
The biotech indices dipped briefly then resumed their upward march. Last December, pricing again took center stage, as the most powerful drug-purchasing middleman in the U.S., Express Scripts (NYSE: ESRX), made AbbVie (NYSE: ABBV) its exclusive provider of hepatitis C drugs. Hep C was surely ground zero for a price war that would radiate out to other kinds of treatment. Since that news, the indices are up about 15 percent.
If drug price wars don’t scare off investors, which industry-specific shocks might?
Cancer immunotherapy. If any biotech sector is overheated, it’s this one. Companies working on immuno-oncology programs are rushing to take advantage, with at least four IPOs since last June, including a record breaker from Juno Therapeutics (NASDAQ: JUNO) in December.
Even here, though, it’s hard to see a meltdown looming. One type of immuno-oncology called checkpoint inhibition has already passed several important tests. Big drug makers have cranked up big internal teams. Three products have been approved since 2011.
They’re not curing cancer, but they’re a big step forward from chemotherapy, both in safety and efficacy. One of the biggest complaints so far about the checkpoint inhibitors is that they haven’t made any progress in blood-borne cancers.
Another, less proven kind of immuno-oncology uses engineered T cells to fight cancer and for investors holds greater risks. These so-called CAR-T programs have generated fantastic results in early trials. But what happens when they reach larger populations? Phase 2 trials are happening now; will the safety problems that CAR-T proponents say are manageable remain that way? (One of Juno’s academic partners, Memorial Sloan Kettering Cancer Center, put a program hold for a few weeks last year after two people died; the center had to alter the participation criteria for people with heart problems and make other changes.)
Would something worse sap enthusiasm not just for immunotherapy but biotech more generally?
Sophisticated investors know the difference, but the conceptual firewall now has a more tangible presence. Independent investor Brad Loncar recently created a 25-company immuno-oncology stock index—six big pharmas and 19 smaller firms, such as Juno and Kite Pharma (NASDAQ: KITE)—to track the sector’s fortunes.
“A main idea behind creating it is that biotech is not one homogenous thing,” Loncar tells Xconomy. “The reality is that different therapeutic areas are valued differently and trade on their own circumstances. If we had more indices like this that tracked unique sectors within biotech, perhaps it would easier to compare their performance and use that knowledge to make better calls about the sector as a whole.”
The Crossovers: One result of Loncar’s exercise is to emphasize the tension between the sophisticated specialists and the generalists who pile into a bull run and stoke the bubble fears. But there’s a different flavor to the momentum that has taken so many biotechs public the past couple years. One private firm after another has raised a final round that includes so-called “crossover” investors—hedge funds and other public funds looking for an ownership foothold and a pole position for the IPO. Just yesterday Cambridge, MA-based Voyager Therapeutics, a gene therapy developer, announced one.
On the other coast, Aduro BioTech of Berkeley, CA, is poised to go public this week after its $51 million Series D round attracted several crossovers.
The list goes on. Dicerna Pharmaceuticals, Sage Therapeutics, Juno, Ultragenyx Pharmaceutical, and Calithera Biosciences are among many that attracted crossovers as prelude to an IPO; among those still private but with notable crossover backing are aTyr Pharma, Blueprint Medicines, Moderna Pharmaceuticals, True North Therapeutics, Seres Health, and Global Blood Therapeutics. (A few prominent crossover names: Fidelity, RA Capital Management, Adage Capital Partners, Deerfield, and OrbiMed Advisors.)
Atlas Venture partner Bruce Booth—an early stage investor and a regular biotech blogger—crunched data last fall that showed crossover participation was a very good thing for biotechs aspiring to go public.
They tend to be specialists, not generalists. (A quick example: To kick off 2015, RA Capital’s Peter Kolchinsky wrote an op-ed analysis for Xconomy about hepatitis C game theory. And in case you’re curious, here’s the most recent list of RA’s holdings.) Their investments aren’t immune to risk, of course, but bubble watchers who count on generalists fleeing turbulence have to factor in the specialist crossovers, who are now a significant part of the biotech venture landscape. Which brings us to the next item…
Venture is now different. Life science venture is back, to be sure. The $8.5 billion poured into private companies in 2014 is the third highest total of the past 20 years after the prerecession years of 2007 and 2008, according to the MoneyTree survey.
But the landscape is different. The dollar totals are huge, but they’re not being spread around as much. There were 98 deals in 2014, about one third fewer than in the peak prerecession years of 2006-2008. Venture syndicates are now choosier, and they have the muscle to back their favorites with a lot of cash, which means a better chance to get to meaningful clinical data without cutting as many corners, and less need to sell rights to key products.
As EY’s Giovannetti noted in January, writing about the 2014 IPO class, nearly 75 percent of the drug companies that debuted had kept their product rights instead of outlicensing them. Also, 86 percent of them went public with “products at the Phase 2 (or later) stage of development, suggesting a level of maturity that wasn’t present in the go-go days of 1999-2000.”
Again, the crossover phenomenon has helped. But the traditional venture groups are operating differently, too. Several were culled by the recession. But survivors of the shakeout, life science specialists and diversified funds alike, are ringing the fundraising bell—see our stories about Flagship Ventures, Canaan Partners, Arch Venture Partners, 5am Ventures, and Polaris Partners, to name several.
In many cases, they’re also contributing larger chunks of cash to their portfolio companies. When Juno prepared for its IPO last December after raising $310 million in private capital, Arch owned 15 percent of the company. Third Rock Ventures frequently commits the first $30 million, $40 million, or more to its startups. (Not all VCs can commit—or want to commit—such vast sums, as Avalon Ventures’ Jay Lichter told me in January.)
Like crossovers, drug companies are also filling venture niches these days. With $1.1 billion invested in 2014, they accounted for 13 percent of all life science venture, the highest amount ever tallied by the MoneyTree report. (Angel investors and disease foundations are filling small but important niches, too.)
Big pharma can often seem whipsawed by R&D trends, but its venture activity is no whim. The big guys have plenty of cash and a lot fewer scientists these days to pay. They need innovation to come from outside, and venture cash is a way to open windows. There’s a fair argument to make that these days that private biotech funding is healthy, drawn to risk, and it’s coming from a variety of sources. It’s another point to make in favor of stability over a looming bubble.
Less regulatory risk. In recent years federal regulators have given drug makers more reasons to smile—or at least not to grumble as much about oversight. Drugs are coming to market faster and in higher volume. Incentives to draw development in much-needed areas are leading to massive transactions. Two weeks before Cubist Pharmaceuticals gained approval for its antibiotic combination Zerbaxa—the first under the federal GAIN Act—Merck swooped in with a $9.5 billion buyout of the Lexington, MA-based developer.
Some of the most highly valued drugs in recent years have sped to market with the FDA’s “breakthrough” designation, which was instituted in 2012. The 16 “breakthrough” approvals include the most successful drug launch ever, sofosbuvir, and two drugs that ended up attracting sky-high acquisition offers for their owners. In March, AbbVie offered $21 billion for ibrutinib (Imbruvica) developer Pharmacyclics (NASDAQ: PCYC), and last August, Roche wrote an $8.3 billion check for Intermune, the owner of pirfenidone (Esbriet), a treatment for idiopathic pulmonary fibrosis.
The Pharmacyclics deal in particular—$21 billion for half a drug, since Johnson & Johnson owns some of the ibruntib rights—got the bubble talk going again.
But if the bipartisan 21st Century Cures Act, currently in gestation in the House of Representatives, becomes law, drugs designated as breakthroughs could come to market even faster. Other parts of the bill are also quite industry friendly, allowing for more flexible clinical trial design, more targeted patient population for antibiotics and antifungals, and longer market exclusivity. The legislation is sweeping, and all the provisions detailed here won’t necessarily be in the final version—which its sponsors said in February they’d like to see on President Obama’s desk by the end of the year—but the larger point is that the policy tilt these days is squarely toward getting more treatments approved faster.
The FDA approved 41 new and novel drugs in 2014, a near record, and regulatory changes had investors cautiously positive about the agency in a survey I wrote about here.
An even larger carrot and smaller stick from the industry’s gatekeepers won’t guarantee biotech success, but they could give many investors pause before jumping out of the sector with both feet. If you still insist on the all-or-nothing bubble metaphor because a bunch of biotech companies have outrageous stock prices, just keep in mind there are favorable winds blowing that might float the bubble merrily along for quite some time.
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