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Flagship CEO on Backing NY Biotech, Moderna, and Investing in a Boom

Xconomy New York — 

It’s been a jam-packed few months for Flagship Ventures, one of the Boston area’s most well-known biotech startup creators.

The Cambridge, MA-based VC firm just raised a $537 million fund of its own, and recently became a founding investor in the eye-popping $217 million Series A for Denali Therapeutics, a startup led by a group of ex-Genentech alumni going after neurodegenerative diseases. Seres Therapeutics, a startup it incubated a few years ago and still owns about 55 percent of, will likely soon complete the first U.S. IPO of the microbiome era. And then there’s Moderna Therapeutics, the massive yet mysterious messenger RNA company Flagship created that has morphed into a startup incubator of its own.

But amidst that activity, Flagship is also taking on an unusual challenge. It’s trying to jump-start the creation of a thriving biotech sector in New York City, which has lagged far behind the Boston and San Francisco areas in developing home-grown life sciences startups.

Using $90 million from a New York quasi-government agency and some large pharma and biotech companies, Flagship will search the city’s famed academic and research institutions—Rockefeller University, Weill Cornell Medical College, Columbia University, and Memorial Sloan-Kettering Cancer Center, among several others—for science that can be turned into NYC-grown companies.

“It’s not the kind of thing we typically do,” says Flagship CEO Noubar Afeyan (pictured above). But it’s potentially good for both NYC and Flagship, he says, allowing the firm to dip its toes into a region in a way that might give it a competitive advantage over its rivals.

Here’s the background: the New York City Economic Development Corp. joined with Celgene (NASDAQ: CELG), Eli Lilly (NYSE: LLY), and GE Ventures in 2013 to seed what’s now known as the “City of New York Early-Stage Life Sciences Funding Initiative.” The original goal was to raise $100 million and find a VC backer—a company creation specialist—to help seed 15 to 20 startups.

But during the painstaking, longer-than-anticipated search to find that crucial VC partner, the scope of the project expanded. By the time the NYCEDC and its partners unveiled the fund at a March event at Rockefeller in Manhattan, it had become a $150 million effort, with two venture backers in the fold. Flagship came aboard to manage $90 million and build therapeutics startups; ARCH Venture Partners, another startup creator, took charge of the remaining $60 million to start companies in all other facets of life sciences—like diagnostics, research tools, and digital health.

Though the other details are opaque, sources have told Xconomy previously that the fund has specific provisions that both “incentivize” startups to grow in New York and “dis-incentivize” them from leaving—things like returning cash to investors if the companies bolt the Big Apple. The NYCEDC even added a second, side-by-side “infrastructure” initiative meant to unearth affordable lab space (the lack of it is one of New York biotech’s biggest problems).

Afeyan says Flagship’s foray here is something of an “experiment.” Flagship starts up companies in-house, and tends to be “Cambridge-centric”: most of its companies “are within walking distance” of its office, he says.

But New York biotech has a lot riding on Flagship (and ARCH) and the NYCEDC’s fund. Local academics, entrepreneurs, government officials and more have pounded the tables for years, bemoaning the state of New York’s life sciences scene. Despite being near the top of state ranks in yearly National Institutes of Health grant funding year after year (not to mention home to the financial capital of the world), New York consistently attracts just a fraction of the life sciences VC funding of Boston and San Francisco. Its famed academic and research institutions feel they are, as Afeyan says, “under leveraged” in the startup world.

“They see a lot of the science go straight into large companies,” he says of New York’s institutions. “They’d like to see some of it go into startups.”

There are a number of reasons for New York’s past struggles in biotech—most notably what used to be a competitive, rather than collaborative group of institutions (which Accelerator Corp.’s David Schubert said recently made it “very hard to do business here from a venture perspective”), and a lab space problem that is still unresolved. Indeed, despite the presence of a few local biotech incubators and the Alexandria Center for Life Science (a group of towers on Manhattan’s East Side home to companies like Cellectis, Eli Lilly’s ImClone unit, a Roche outpost, and Kadmon), it’ll likely take years to amass enough space that will lead to the critical mass of startups the region yearns for.

But things are changing, institutions have mobilized and banded together, and Flagship is now right in the thick of it. I spoke with Afeyan recently about the New York experiment, Flagship’s investment strategy during the good and the bad times, and some of the more unique startups it’s involved with, among them Moderna and Denali. Edited excerpts from that conversation follow below.

Xconomy: Why did Flagship decide to back New York’s life sciences fund?

Noubar Afeyan: We were approached quite a long time ago when [the New York] initiative was launched as to whether we would be willing to contribute to it. It’s not the kind of thing we typically do—we certainly didn’t need the money—but the people who approached us were the heads of the five medical institutions in New York City: Marc Tessier-Lavigne being one of them at Rockefeller, and Craig [Thompson, president and CEO of Memorial Sloan-Kettering] who we’ve done Agios [Pharmaceuticals] with, and several others that we knew. When they approached us, it became clear to us that there was a real science-driven, translation-driven approach here, as opposed to a financing or economic development orientation. I would say, but for that, it probably wouldn’t be all that interesting to us.

X: How would you characterize this in the context of what you normally do, and what is it that you’re trying to accomplish?

NA: It is a bit of an experiment for us. We’re so Cambridge-centric; probably out of the 85 companies we’ve done in the last 15 years, I would venture to say that over 70 of them are within walking distance from our office. We’re very comfortable with that because it gives us a bit of a network effect. But when we saw the active engagement of the heads of these institutions trying to help some of the more advanced clinical stuff become companies, we thought, you know what? Let’s look at this opportunistically. If we see enough pickup in the first couple of things we do there, then we may expand our presence. That’s the stage that [this effort] is at right now.

X: There’s been a very concerted effort to move New York biotech forward, but it obviously pales in comparison to Boston and the Bay Area. How would you characterize it?

NA: I’d say from a startup standpoint, it’s nascent. The right players—namely the top academic scientists and, to some extent, pharma—need to stay engaged. Because at the end of the day, [biotechs] are not companies that undergrads in dorm rooms are going to found. You really need deep science, relationships, and persistence in terms of overcoming some of the setbacks. And that usually happens when you have established academics who want to see their science get out there. To the extent that [all of those things] actually persist, I think [New York biotech] is very promising, and that’s kind of why we thought we would, in this limited experiment, see if we can be helpful.

X: What would it take to overcome some of the geographical challenges—lack of lab space, high rents, etc.?

NA: If big ideas are born there, they’ll find a way to exist, and if they do, [people will] find a way to create an ecosystem there. I just don’t think it’s reached a critical mass yet.

X: Is there anything in particular about New York that drew you in, to where you’d invest here, rather than maybe some other potential biotech clusters?

NA: I’d say untapped science, the capacity for relationships, local financing, and pharma presence. It’s got top notch institutions that have told us each, one by one, that they feel completely underleveraged in the startup world, and they see a lot of their science go straight into large companies but would like to see some of it go into startups. And one interesting angle that I think is underappreciated is that a lot of the philanthropy money is resident in New York.

X: What are you getting out of this deal that you couldn’t have just done yourselves?

NA: This is a bit of an early foray into a geographical region that might be ripe, and that with the right relationships we may be able to gain an advantage in. This is a mechanism to try and see whether that pans out.

X: You recently announced some partnerships with AstraZeneca, Bayer, and Nestle. What makes these relationships different than the ones other venture firms have with pharma?

NA: These [partnerships] involve teams that meet regularly to identify areas where there’s white space and use VentureLabs [the name for Flagship’s in-house startup unit] to deploy against [it]. That level of collaboration is really, I think, something quite novel and important— it’s not about assets, there’s really no strings attached. There’s no option [to acquire], there’s no [special] rights, that’s not the nature of these deals. There are plenty of venture deals with corporations where it’s either about the money, or it’s about options and access to deals. This is not really about either.

X: Any examples?

NA: When Moderna was conceived, we had access to some of the therapeutic area heads at Merck, and we could leverage their know-how [and ask]: If you could do this, what would you do with it? What data would you need to see to believe that it was safe to put in [humans]? And on and on. These are things that in the startup world we struggle to get access to, and find ways to do by hiring former pharma people and those types of things. But the fact that we have this available, we think, is a very important strategic advantage. Though of course if it comes at a cost, which is that you’ll either limit the upside or you’ll kind of narrow the scope of what the companies can do because of the corporate involvement.

X: Speaking of Moderna, that’s a company that’s evolved into an unusual model—part biotech, part incubator. Why take that kind of approach?

NA: The precedent models in the biotech industry for technologies like this—[small interfering RNA], or monoclonal antibodies or many other things—is that biotech companies licensed the technology to pharma companies, creating a collaborator who was in fact a competitor. Those companies then take the technology, learn how to do it better, and develop their own drugs eventually.

We wanted to create a different dynamic. We said all along we’ve got to develop enough IP and knowhow that a pharma partner can look to us as the experts in that area, and rather than compete with us under the [guise] of a partnership. So the deals we did, with AstraZeneca and with Alexion [Pharmaceuticals] and Merck, each have Moderna being the [expert] on all things mRNA—and the partner the [expert] for preclinical and clinical development and eventually commercialization. As a result of that, we realized that to develop our own drugs, the best way to do it is to [hire] fully dedicated teams, and have them operate in the entrepreneurial, survivalist mode that startups do. It was a function of the way the company developed itself; not an attempt to create a startup factory within a startup factory.

X: We’re in a biotech boom now, but in the bad times, did Flagship ever change its strategy to manage risk?

NA: We’ve generally tended to support multi-product platform companies that have a major disruption—whether it’s a new drug modality, a new way to make drugs, or a new pathway that can yield multiple products. Those companies have a variety of types of partnerships available to them that allows them to not have to be as reliant on equity capital. Depending on the environment, those companies end up growing differently. If it’s an environment where there’s a lot of equity capital available, we may choose to take more products to the clinic ourselves. If it’s a little tougher, we may split. But if you have multiple assets, then it’s never the case that you do a partnership and all of a sudden you gave up the whole value. So we’ve never done virtual companies, we’ve never done build to buy companies—these option deals that have a fixed upside.

X: But that leads to more risk, and more capital-intensive projects right?

NA: Certainly it means bigger risk, certainly it means more disruptive [potential] because that’s where the opportunity lies in terms of big value creation, but it doesn’t involve big outlays. Denali notwithstanding, if you look back 15 years, our investments have averaged about $15 million to $20 million per company ourselves, which is, I’d say, on the lower end of [most] venture models.

For a reasonable-sized [VC] firm, we’ve actually not been trying to maximize our ownership by investment because in 40 percent of our companies, we are the founders; we own 100 percent of the companies in the beginning—and then we dilute ourselves by issuing shares to academics and other folks to join us as well as to employees. So in those cases, we end up owning 30, 40, 50 percent even after $100 million has gone in. That is pretty different than what others have done in terms of what they call company creation, which is mostly incubation or, let’s say, helping convene people to start a company.

X: You recently took part in a $217 million financing for Denali Therapeutics, an unusually large financing, particularly for a company essentially starting from scratch. What was the thinking behind it?

NA: We’ve looked at everything in that space for many, many years and could really never get comfortable with, for us, the right combination of: science that was maturing enough; a team that was able to both do the science and the drug development; and the capital you need to get to a meaningful inflection point. And this is really the first time we’ve seen all three of those things come together.

X: Why is Flagship so willing to make such a big bet in neuroscience, given all the biological uncertainty and past failures?

NA: We think that the kinds of things we’ve been seeing in cancer recently, totally new modalities showing a profound impact— neurodegeneration is ripe for that. It’s certainly the most sizeable [investment Flagship has ever made in neurodegeneration], and it’s certainly the first in a long time. We’ve been very [reluctant] to be in this area for all the reasons that have caused many pharma companies to get out of the area. But for us, we don’t mind being contrarian when the conditions are ripe, and we think that this has a pretty interesting potential to be disruptive in an area where the need is huge.

X: With all the early-stage biotech VC firms re-upping late and the sector’s momentum, why aren’t there any new firms cropping up?

NA: There have been very, very few [early-stage biotech VC] funds that have been able to create positive returns. And it could be that there just aren’t that many groups that have experience doing this. But there’s still a ton of new blood—maybe five years ago there was one corporate venture group [doing early-stage investments], now there’s probably 15. And they’re pouring money into this space and they’re hiring a lot of people. There are also a lot of [seasoned biotech/pharma] executives who are choosing to take [multiple] companies under their wing. That’s a form of venture capital. So if the money comes from one place, and the rest comes from another place, that’s fine too. That’s an evolution of the venture model.