Reasons to be optimistic during this biotech recession
Conjectures on the recent developments in the biotech markets
Here is a commentary about the ongoing biotech recession, along with reasons to be optimistic!
Highlights and takeaways
Richard Murphey and Bruce Booth have published valuable articles on their respective blogs about the recent developments in the biotech markets. They provide incredible context and data on the state of the ecosystem.
We offer some conjectures as to what brought us to this point. We have been quite concerned about inflation for a long time and believe this is the fundamental driver of the recent downturn in the biotech markets. However, we believe that the current state of the macroeconomic cycle presents a unique opportunity to invest in high quality, undervalued startups with a long-term horizon. That is, now is the time to “buy low, sell high”.
As mentioned in a recent post, we are syndicating investments into early-stage biotech and healthtech startups. Apply to join our investment syndicate and help support incredible founders and their startups!
Valuable background reading
We are currently experiencing the worst recession in biotech across the last decade. Here are extremely valuable articles to read for a better understanding. We recommend reviewing these articles in advance of our commentary.
Articles written by Richard Murphey of Bay Bridge Bio
Articles written by Bruce Booth of Atlas Ventures
A perspective on biotech macroeconomics
COVID-19 lockdowns initiated a cascading effect that has led to today’s recession in the biotech sector. In March 2020, we saw an initial crash that was rescued by the Fed through greatly lowering interest rates. Low interest rates drove increased borrowing and elevated risk appetite. The rapid clinical development of COVID-19 vaccines by Moderna and BioNTech also generated significant excitement in biotech investing. By the end of 2020, the FDA had granted EUAs to experimental mRNA vaccines against COVID-19. An unprecedented number of biotech companies went public in 2020 and early 2021 (ref). It was an incredible time to fundraise.
Biotech IPOs in past years (Senior 2021)
Then we started experiencing the subsequent effects of the Fed’s actions. In an effort to stimulate the economy, trillions of US dollars were effectively “printed”. In 2021, inflation began to aggressively climb to levels much worse than the 2010s. Investments started to recede and the public markets began to sink. Funds focused on biotech public equities were especially hurt last year (ref): Perceptive Advisors lost approximately 30%; Logos Capital lost approximately 25%; multiple hedge funds closed up shop. This drop in public valuations likely caused an asymmetry for many institutional investors in allocating between public and private investments, likely locking up further venture investments to maintain some semblance of parity. Risk appetite considerably changed as redemptions are ongoing. We even hear abundant rumors of term sheets being pulled and commitments not being followed through.
Evidently, the biotech sector is quite susceptible to inflationary environments, perhaps due to the nature of its capital-intensive R&D business. The enthusiasm for COVID-19 vaccine development also broadly elevated valuations, since so many companies initiated COVID-19 response programs. Capital raises at lofty valuations frequently occurred in both the public and private markets. Sentiment for biotech investing fell as public valuations sharply reverted to the mean (or rather, flew past the mean).
Reasons to be optimistic
We believe the current downturn in biotech markets is a considerable overcorrection (at least in the long-term horizon). The $XBI is currently trading at prices seen five years ago. This is a huge dislocation given the massive biotech innovations we've seen in the last five years. Numerous companies are trading below their cash positions. Last month, Torreya Partners reported that 140 companies have negative enterprise values (ref). These represent prime opportunities to invest in severely undervalued companies. Furthermore, Pfizer, Moderna, and others have massive cash positions and can readily facilitate M&A or BD. For example, Gilead Sciences just announced a collaboration with Dragonfly Therapeutics that involved an upfront payment of $300M with potential milestone payments (ref).
Likewise, Johnson & Johnson is actively exploring frontier biotechnology such as cell and gene therapies (ref). The new J&J CEO, Joaquin Duato, has expressed eagerness in doing BD with their $30B cash position: “We are still at the beginning of what RNA could be. There is enough room for us to be leaders in RNA in the future.” We will certainly continue to see sizable transactions given the ample cash position that many large companies built up over the years.
Even relatively new companies with large cash positions can drive considerable M&A and BD activity. Altos Labs was launched with $3B committed, although capital raises will be tranched (press release). Sana Biotechnology raised $675M in its IPO (press release). Lyell Immunopharma raised nearly $400M in its IPO (press release). insitro raised $400M in its series C financing (press release). Freenome raised $300M in its series D financing (press release). These well-timed capital raises position the large startups to build up their teams, make considerable scientific progress, license valuable assets, or acquire small startups.
Biotech venture financings in past years (Senior 2021)
There remains a massive amount of capital available in the venture markets, as numerous investment funds have been raised quite recently. Flagship Pioneering raised $3.4B (press release). Foresite Capital raised $1B (press release). Frazier Life Sciences raised $1B (press release). Lightstone Ventures raised $375M (press release). Versant Ventures raised $950M (press release). venBio raised $550M (press release). a16z raised $9B, of which $1.5B is dedicated to bio (press release). NEA raised $3.6B, much of which is dedicated to healthcare and biotech (press release). Insight Partners raised $20B, of which a considerable portion is likely dedicated to healthtech and biotech (press release). Many other funds have been raised during the times of “easy money”.
Macroeconomic uncertainty may have slowed down recent deployment, but there is certainly capital that is accessible for high quality startups. If anything, extant portfolio companies should be well capitalized with continued support from the large venture firms. Valuations will be compressed downward due to the withdrawal of other investors, but this also presents an opportunity to invest in lower valuations than in recent years. We also note that series A financing remains on the rise in Europe despite the turbulence of public markets (ref), and strongly believe that other territories beyond the US represent an excellent alternative source of venture capital.
Capitalizing on opportunity
The biotech sector will recover in due time (no one knows exactly when nor how quickly). However, now is an excellent opportunity to invest in high quality, undervalued companies at the lull of a macroeconomic cycle. We recommend focusing on early-stage biotech startups with long-time horizons, during a time in which venture capital is more readily available and potential exits are adequately distant from this market downturn. Going IPO right now or in the near-term is too difficult except for the companies of highest quality. Companies should aim for ample capital raises in the private market to buffer through these difficult times. We also recommend investing in promising startups that could form valuable partnerships with big pharma, as these deals can provide upfront cash that is an alternative to dilutive venture financing. Furthermore, biotech startups with big pharma investors and collaborations generally have enriched probability of success (von Dydiowa et al. 2021).
Source: Torreya Partners
As mentioned in a recent post, we are syndicating investments into early-stage biotech and healthtech startups. Our investment scope focuses on life sciences companies with platform technologies and infrastructure solutions. We believe that there is significant opportunity for our syndicate to make a considerable and durable impact on societal progress by investing in early-stage startups. Moreover, we care about supporting brilliant and kind founders that can advance mankind and build fantastic work cultures. Apply to join our investment syndicate and help support incredible founders and their startups! Read our related notes about community building in biotech venture, biotech venture models, and due diligence in biotech investments.
In the meantime, check out the articles and books in the replies of this tweet:
Author information
Ergo Bio closely follows innovation in the biotechnology space and evaluates interesting drugs and deals. It is run by Vandon T Duong (LinkedIn), feel free to connect! I am a biotech enthusiast and a molecular engineer by training. I am also an avid consumer of news and research around precision medicine.
Ergo Bio pages
Disclaimer
This article serves informational purposes only and should be treated strictly as educational material, not as investment recommendation or legal advice. The information presented may be inaccurate or out-of-date. The contributing authors and editors disclaim liability for any errors or omissions. Any opinions expressed may change without notice. Ergo Bio LLC reserves all rights to the content generated through this resource hub (Ergo Bio Insights).