The New Normal in Biotech Financing

The global biotechnology industry showed mixed results in 2012, according to a recent analysis by Ernst & Young. On the plus side, companies in the industry’s established biotech centers in the US, Europe, Canada, and Australia experienced revenue growth in 2012. Net income also increased among companies, in part due to cutbacks in R&D, which helped to improve the bottom line. Also, funding from debt, initial public offerings (IPOs) and venture-capital declined in 2012. In this more difficult funding market, mergers and acquisitions activity increased in 2012.

Looking at the numbers

Companies in the industry’s established biotech centers (the US, Europe, Canada, and Australia) achieved revenues of $89.8 billion in 2012, an 8% increase from 2011. Revenues of publicly traded biotech companies in the US were $63.7 billion, an 8% increase but down from the 12% growth rate in 2011and the 10% increase in 2009 and 2008 (on a megadeals-adjusted basis), according to the Ernst & Young analysis. Part of the decline in revenue growth was the result of a few sizeable firms from the list of US biotech companies. Amylin Pharmaceuticals and Gen-Probe were acquired by large non-biotech entities and Jazz Pharmaceuticals relocated to Ireland. More importantly, notes the report, the drop in revenue growth appears to be indicative of other trends, such as an increasingly competitive marketplace and greater scrutiny from payers and providers and a subsequent impact on revenues. Revenues of European public biotechs grew 8% in 2012 to $20.4 billion.

On a global basis, R&D spending by public biotech companies grew by 5%, well below the 9% growth rate achieved in 2011, according to the Ernst & Young analysis. Although expenditures remained strong at commercial leaders, precommercial entities substantially reduced R&D spending. In the US, R&D spending increased by 7% in 2012, slightly below the 9% growth rate in 2011. In 2012, commercial leaders increased expenditures by 18%, but other companies cut spending by 5%, reflecting the R&D pressure at many medium-sized and small biotech firms. In 2011, a third of biotech companies had reduced R&D spending. In 2012, that number climbed to 41%. In Europe, R&D expenses decreased by 1% in 2012, an indication that many European firms remain in cost-cutting mode.

R&D cutbacks, combined with solid revenue growth resulted in a record high in net income for the biotechnology industry in established markets (US, Europe, Canada, Australia) of $5.2 billion, a $1.4-billion increase from the previous year. Net income of US biotech companies increased 34% from $3.3 billion in 2011 to $4.5 billion in 2012. In part due to R&D cost-cutting, the European biotech industry reached aggregate profitability for the first time in its history in 2012, according to the Ernst & Young analysis.

The new normal in biotech financing

The report further showed that the “new normal” funding environment continues. Since the global financial crisis in 2008, biotechnology industry funding totals have been on an upward trend, according to the Ernst & Young analysis. Although most companies faced a challenging funding environment, capital raised increased with every subsequent year, fueled by large debt offerings by the industry’s largest firms. “In 2012, this trend came to an end, as capital raised in North America and Europe fell for the first time since 2008. The decline was due to the same factor that had driven the sharp increases in the first place: debt,” according to the Ernst & Young report. “In every year since 2008, funds raised in public equity offerings and venture capital have remained fairly steady while large swings in the amount of debt raised have driven year-to-year fluctuations in total capital raised. Although a few large companies have benefited from these funds, the amount of capital available for the vast majority of smaller, venture-backed entities has remained frozen at amounts below pre-crisis levels.” This situation, which Ernst & Young calls “the new normal” continued to hold in 2012. In 2012, biotechnology companies in North America and Europe raised $28.2 billion, a drop from the $33.3 billion raised in 2011. This decrease was driven by a reduction in debt funding, which fell by almost a third, from $20.3 billion to $14.1 billion. The IPO market remained weak, with aggregate proceeds of only $805 million, down from $857 million in 2011. “Innovation capital,” defined as the amount of capital raised by companies with less than $500 million in revenues, remained virtually unchanged between 2011 and 2012, increasing only from $15.2 billion to $15.3 billion.

Venture funding across North America and Europe declined 5% to $5.4 billion in 2012, a much slower decline than was expected given the fundraising challenges encountered by many venture firms in recent years. In 2012, there were 130 venture rounds in the US that had net proceeds equal to or greater than $10 million, with a median amount raised of $21 million, both flat relative to 2011 (when there were 127 rounds and a median value of $22.5 million), according to the Ernst & Young analysis. In both years, these deals represented about 85% of total venture capital invested. Both years were virtually identical in terms of the number of Series A rounds that raised $10 million or more, a measure of new company formation. There were 25 such deals in 2012 and 27 in 2011, with a median deal size of $20 million to $25 million each year.

In 2012, the innovation capital raised by companies in North America and Europe held steady at $15.3 billion, practically unchanged from the $15.2 billion raised in 2011. Innovation capital has been consistent over the last four years, averaging $15.2 billion between 2009 and 2012, although lower than the 2004-2007 average of $19.6 billion. “This is significant because, unlike the commercial-stage leaders, companies raising innovation capital require funding to sustain their operations and fund R&D,” notes the Ernst & Young report.

On the deal-making side, the total value of mergers and acquisitions involving European or US biotechs equaled $27.4 billion, an increase of 9% from 2011 (when setting aside the two megamergers in 2011 in excess of $10 billion) and the highest non-megadeal total since 2008. Mergers and acquisitions involving US-based biotech companies increased 5% in 2012 to $23.8 billion (after adjusting for the two megadeals in 2011). In Europe, the value of mergers and acquisitions declined 28% to $2.9 billion, with the number of deals with announced terms falling to 13, the lowest level since at least 2005.