Biotech is in a weird place right now.
After basking in two years of record-high investments, the startup space is experiencing what amounts to economic whiplash as investors leave the space and longtime venture firms turn down the funding tap.
Now, investors and startups are navigating a new world of plummeting valuations, down rounds and less-than-ideal exit strategies.
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Once considered the slow and unsexy niche of a fast-moving tech industry, many people saw tangible results of biotech innovation in the COVID-19 vaccines that were created in record time. Funding among U.S. biotech startups reached a record high of $77 billion in 2021, according to Crunchbase data, as investors flocked to a space blooming with innovation in genetics, therapeutics and diagnostics.
Biotech is often referred to as a recession-proof industry. People who are sick will always need drugs, and it often takes a recession’s worth of time to get a drug to market. But as the global economic downturn causes the venture community to tighten their purse strings, the flourishing biotech startup ecosystem is struggling.
“So many of them went public recently and then got completely eviscerated in the public markets when there was this downturn,” said Sara Choi, a partner at Wing VC who focuses on health-related ventures. “So now there’s a lot of skepticism about those companies, which I quite frankly agree with.”
Down rounds and shrinking valuations
In the 10 years it takes to market a drug, startups go through years of research and development, costly clinical trials, and regulatory approval. These steps are largely funded by research grants and private investors.
At the height of the pandemic, investors threw money into the sector, funding pre-clinical startups that had less proof-of-concept compared to clinical-stage startups.
But now that funding is drying up, forcing startups to contend with potential down rounds, private market funding rounds are lower than the previous fundraising efforts, according to Dr. Christiana Bardon, co-managing partner at MPM BioImpact Capital, which invests in cancer therapeutics.
“Sometimes companies don’t want to take a down round, and that leads to conflict in the companies. If you don’t have a good board, or you don’t have knowledgeable investors or a strong management team, they may not be willing to take the capital,” said Bardon, a longtime biotech investor and former biotech analyst at Fidelity. “And then if you don’t take capital when you need it, then you’re out of money.”
Biotech funding between 2021 and 2022 has seen a 38.6% decrease, according to Crunchbase data. And investors are being more selective about which startups they fund. Between January and August of 2022, 660 startups received funding, compared to 1,034 in the same time period the year prior.
Without a favorable funding round, biotech startups are going to see lower valuations and will start to mimic the valuations of publicly traded companies, Bardon said.
“So what’s actually happening is that the private companies have these super high valuations, but the public companies are in the dumpster.” Bardon said.
Extend the runway
Pre-COVID, it was common for health startups to pursue multiple use-cases for a single drug molecule or other clinical asset because they had several routes to get to a goal, and meeting a new milestone on the road to FDA approval meant more funding.
But now, as startups aim to preserve money, many will start shaving down the cost of labor, external studies and other programs.
“They have to conserve cash. They have to look at how they’re spending money. Do they go out and hire more people right now? Do they really need to do this study?” said David Crean, a biotech investor and managing general partner at Cardiff Advisory. Crean also sat on the board of biotech companies Histogen and Amydis.
Given the expensive nature of biotech to get to market and how it relies on proof of concept to get new funding, startups should focus on one thing at a time, Choi said.
“I think that the startups are going to have to find other monetization opportunities or try to hit those milestones faster,” said Choi. “And what will that take? Just ruthless prioritization; small, skinny teams; probably less sort of horizontal innovation and more directed innovation.”
Startups may choose to partner with big pharma companies earlier than expected to support the early stages of drug development. The sector is also likely to see more M&A activity as startups plan early exit strategies.
This is also a good time for biotech founders to explore non-dilutive sources of funding, such as research grants from universities or the National Institutes of Health, according to Crean.
A long way to go
The last few years have been a roller-coaster ride for biotech. After a banner year of record-breaking funding and exits into the public market, the industry will have to brace itself as the economic downturn rides itself out.
In 2021, 139 U.S. startups took the IPO route, only to be met with plummeting valuations a few months later. So far in 2022, only 17 have exited into the public market.
But we may never see the return of biotech’s glory days, when new investors swarmed a space that was suddenly and so uniquely in high-demand. After all, it takes 10 years and $985 million to make a drug profitable, and you’d be hard-pressed to find other areas of tech with that kind of lead time and that level of investment.
The economic uncertainty plaguing startups across the board are particularly hard hitting for what Crean calls “unprofitable high-growth companies.”
“That’s a perfect description of biotech,” Crean said. “Right?”
Illustration: Dom Guzman
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