Financing Entrepreneurial Ventures
Alexandra Gruber outlines the different funding opportunities for the biotech industry in Europe, as well as the strengths and weaknesses of available financing tools. Results are also discussed in the light of the recent financial crisis.
In the past, many European entrepreneurs struggled hard to obtain adequate venture capital funding. Today, venture capital opportunities are still emerging at a slower than expected rate, and for many fledgling companies, the financing gap between government funding in the seed phase and early-stage venture capital continues to be wide open. This was true before the economic crisis hit—and it is even truer today.
To determine how these trends are reflected in the views of the main players of the biotech start-up scene—entrepreneurs, venture capitalists, and other investors—, a prospective study was carried out. Some of the main results are summarised below.
Purpose of the Study
The primary questions of this qualitative prospective study were whether all biotech companies used similar financing options, what biotech entrepreneurs and investors considered the major advantages and drawbacks of available financing options, and what entrepreneurs and investors thought about the different exit scenarios.
Most Important Financing Forms
In terms of primary financing forms, the results were fairly homogenous across all three groups of interviewees, i.e., entrepreneurs, venture capitalists, and other investors. The major sources of biotech funding mentioned were venture capital, government grants, and strategic alliances. These financing forms were characterised as follows:
- Venture capital firms are highly target- and return-oriented, and they offer added value by providing management and business administration support. However, venture capital is hard to obtain, with fierce competition among applicants. Also, equity participation dilutes the company founder, who may ultimately have to abandon some of his rights. It is therefore essential for the company’s original mastermind to be given adequate incentives and sufficient shares to motivate him to stay in the company.
- Government funding is generally considered money that is easily obtained, inexpensive, and non-dilutive for the entrepreneur. Although government grants are usually considered entrepreneur-friendly, funding organisations may still try to have a say in the setup of the management team. Also, some view the evaluation process of government organisations with reservation, suggesting that a more selective and stringent approach to supporting start-ups would benefit the funding process as a whole.
- Strategic alliances provide a solid foundation for intensive scientific cooperation, with the added value of the newly developed technology or product being validated by an experienced pharmaceutical player. Alliances provide non-dilutive capital and access to existing marketing and sales channels, making them a strong argument for commercialisation of the new product. Also, with strategic alliances being a sign of quality for a young start-up company, they are bound to attract new investors. On the downside, allying with a big player too soon may be tantamount to trading much of the company’s assets at a significant discount.
The views on additional financing sources, ranging from EU grants to private equity, business angels, and creative, new financing approaches, such as option and project funding, were more heterogeneous across groups.
Fig. 1: Most important financing forms(Gruber A.) Biotech Funding Trends: Insights from Entrepreneurs and Investors, WILEY-VCH, 2009)
Most entrepreneurs interviewed did not have a clear exit vision. Expectedly, however, their general goal was an exit strategy guaranteeing the highest achievable price combined with the highest level of personal independence. Venture capitalists had a very clear idea about what they expected their investment to return, with the trade sale the most preferred exit route.
Fig. 2: Exit preferences (Gruber A.) Biotech Funding Trends: Insights from Entrepreneurs and Investors, WILEY-VCH, 2009)
Financing in Times of Economic Slowdown
Despite today’s troubled economy, the pharma and biotech industries are likely to be in for new opportunities. Overall, the number of biotech deals with an investment volume below US$ 1 billion will probably increase, while valuations for individual targets will decrease. Also, with the development pipelines of large pharmaceutical companies running dry, large corporations will increasingly focus on smaller acquisition targets that synergistically complement their own pipelines, because these generally require fewer integrative efforts and lower funding. In view of the tense economic situation, IPOs are not currently a realistic exit option. Innovative forms of alliances are also gaining ground, among them strategic alliances such as option deals and structured or optional buy-outs.
Summary & Conclusion
For small biotech start-ups, securing adequate funding remains a formidable challenge. Companies will therefore be well advised to focus on their key strengths and core products and to enter strategic alliances and partnering deals early on to guarantee some measure of financial security and access to new sources of cash in times of economic slowdown.
At the other end of the development spectrum, established pharmaceutical companies are increasingly looking to acquire new drug candidates to complement their own product portfolio and are willing to invest in early-phase product development to replenish their depleted pipelines. With confidence in the biotech industry and trust among its key players strengthening once more, the opportunities for start-ups to develop into sustainable businesses and bring innovative new products to global markets are alive and well.