July 27, 2011

Wall Street Journal

Why Biopharma Start-Ups Should Think M&A, Not IPO

While the IPO window is slowly creaking open, biopharma start-ups and their investors are likely to get a better deal from an acquisition, as the country’s large drug companies are under increasing pressure to fill their pipelines with products.

Drug makers – many of which are about to see reams of patents expire – may be willing to pay more for a company than the public markets would deem them worth, as they are racing to keep their distribution networks stocked.

This is according to a study by Silicon Valley Bank, a major lender to and sometime-investor in privately held companies. It counts more than 50% of the country’s health-care start-ups as clients.

SVB released a report that examines last year’s exits from venture-backed companies, and overall the returns from these M&A and IPO deals were bleak. The median exit multiple from biopharma companies was 2.0, the lowest number since SVB began tracking exits in 1996.

Historically, venture capitalists have made the most lucrative returns from initial public offerings — in fact, during the 1990s, IPOs represented more than half of all exits for VCs across all industries.

But times have greatly changed in the past decade, and IPOs now make up less than 10% of overall exits — last year, there were 531 M&A deals and 46 IPOs, according to Dow Jones VentureSource.

In biopharma, however, the ratio of IPO to M&A is actually much higher — last year there were 13 IPOs versus 22 acquisitions (another seven went out of business). But according to SVB’s study, acquisition multiples have, on average, been more than double those for IPOs, despite an increase in the number of IPOs last year.

This suggests that some acquirers are paying a premium to the public-market worth of start-ups. And most biopharmas in recent years have struggled to hold IPOs at their hopeful prices.

A good example this year is Tranzyme Inc., which had to cut its offering price to $4 from an initial expected low end of $11, to get the deal done. At the same time, there have been several large acquisitions, such as this year’s deal for melanoma drug company Plexxikon Inc., which raised $67 million in venture capital before being acquired by Daiichi Sankyo Co. for $805 million in cash plus up to $130 million in milestones.

SVB also came out with a separate study on medical devices. These companies saw a second straight year without an IPO, the study found, but acquisitions climbed to a 14-year high with 30. There were also seven companies that went out of business. Regarding multiples, the device side was only slightly brighter than biopharma, with the median exit multiple at 2.8, the lowest since 2005.