Biotech Venture Funding Slips Below 2010 Levels

Looking back over the first half of 2011 reveals a mixed picture of venture-capital funding performance for the US biotechnology industry. The second quarter of 2011 ended with $1.24 billion invested through 116 deals, a marked increase of 46% in dollars and 20% in deals from the first quarter. In comparing second-quarter performance to the same period of 2010, however, the amount invested on a dollar basis declined 9%, and the number of deals decreased 24%. Comparing the first half of 2011 with the same period of last year shows a decline of approximately $65 million in the amount of venture funding invested.

During the third quarter of 2010, venture investment in the US biotechnology industry declined considerably to $868 million compared with the second quarter 2010 bump of $1.37 billion. The sector raised $3.78 billion in venture-capital funding for all of 2010, slightly beating the $3.72 billion gleaned in 2009 and far underperforming the 2007 and 2008 totals. If investors become disheartened by the slow growth in the US economy, a tightening federal budget and continuing regulatory uncertainly, a similar drop for the third quarter of 2011 may occur.

For the second quarter of 2011, the US biotechnology industry remained in second place behind the software industry in its share of total venture-capital funding, the position in which it ended the previous year. The software industry received $1.5 billion in 254 deals during the second quarter.

Two biotechnology subsegments experienced significant upswings in venture funding during the second quarter of 2011: biotechnology research, up 216% year over year and biotechnology equipment, which gained 197%. Biotechnology human captured the largest share of any biotechnology subsegment, with $819 million going into 70 deals, but this level represented a 2% decline in dollars and a 21% decrease in the number of deals from the second quarter of 2010.

The average deal size for the biotechnology sector was $10.7 million in the second quarter of 2011, up 19% compared with the same quarter last year and up 22% compared with the first quarter of 2011. Biotechnology captured two of the top 10 venture capital deals for the quarter. Intrexon received $100 million, and Merrimack Pharmaceuticals drew $77 million.

One reason that average deal size is up is that investors realize that the time and capital required to bring a new biotechnology product to market continues to grow as companies maneuver through a complex regulatory process that requires extended clinical trials and a large amount of data to verify safety and efficacy. The lengthy regulatory process also gives investors a reason to gravitate toward later-stage funding of companies closer to achieving liquidity.

During the second quarter of 2011, later stage funding increased by 35% year over year to $693 million. Later stage funding also improved when compared with the first quarter of 2011, increasing by 81%. In comparison, early stage funding for the US biotechnology industry declined by 36% from the second quarter of 2010 to $546 million in the second quarter of 2011. Compared with the first quarter of 2011, however, that figure increased 18%.

Those late-stage companies experiencing exit activity during the quarter helped venture funds achieve liquidity and enabled them to return dollars to their limited partners and increase support for the rest of the companies in their portfolios. Biotechnology companies captured three of the 22 venture-backed initial public offerings (IPOs) during the second quarter of 2011. Internet-specific companies led with 11 IPOs.

The biotechnology industry closed seven of 79 mergers and acquisitions for the quarter. The highest dollar deal was Daiichi Sankyo's $805-million acquisition of Plexxikon, a biopharma company based in Berkeley, California. With Big Pharma facing a loss of $100 billion of revenue between now and 2015 due to patent expirations, we can expect to see more acquisitions of biotechnology companies with products in a late stage of development as Big Pharma companies increasingly are looking to external sources of innovation to replenish their pipelines.

Adding to some optimism for the sector, investors who take a longer-term view see high demand for innovative biotechnology products that can treat unmet healthcare needs. In the United States, product demand is being fueled by an aging population and an increase in chronic conditions, such as diabetes. In developing nations, there is a potential uptick in demand from governments seeking to expand the reach of healthcare to more people and to a growing middle class better able to afford care. This demand bodes well for the sector, which should continue to attract a large share of venture capital as the economy improves.

Tracy T. Lefteroff is a partner in the life scienes practice of PwC US, tracy.t.lefteroff@us.pwc.com.