Early stage investing is poised to take off in life sciences, says Daphne Zohar, founder and general manager at PureTech Ventures in Boston, a Boston-based life sciences venture consulting company that helps turn promising technologies into companies.
“The trend away from early stage investing is beginning to reverse as there is such a big vacuum there and the quality of later stage products available for licensing has decreased,” she says. “At the same time, prices for late stage products have gone up.” Thus, early stage deals are where it’s at. Or at least, that’s where they should be going on.
During the first half of the year, 15% of life science VC dollars went to early stage transactions (including seed, startup and other early stage companies), according to PricewaterhouseCoopers, Thomson Venture Economics (publisher of VCJ) and the National Venture Capital Association. That compares with 19% in 2003 and 24% in 2002. Meanwhile, late stage deals during the first half of 2004 accounted for 30% of life science VC dollars, and expansion stage companies won the remaining 51 percent. (see chart on life science deals by stage).
Hurt by the dot-com boom and bust, venture capitalists in all sectors veered toward more conservative due diligence and later-stage investing. In other words, VCs tightened up and early stage deals took a hit. After the economy began to weaken in 2000 and 2001, investors wanted to see existing, preferably tangible products already prepared for market, since the risk is lower. And since the time it takes life science companies to ready products for market is longer than most other industries, late stage became de rigueur.
But Zohar and others say that is about to change – that early stage will be the hot area to place bets on in life sciences in the coming years. Part of the reason is that the IPO window opened up this year, especially for biotech. And even though the aftermarket performance of many of the new issues ahs been below par, the IPO activity will spur more early stage deals as investors try to get in on the ground floor of exciting new technologies.
Also, the time it takes for the FDA to approve new drugs has shortened and may even be reduced more. If an investor sees it takes not as long to produce drugs, then early stage investments will increase.
Then there are valuations. While valuations have skyrocketed for late-stage deals, they have gone down considerably for seed- and early-stage deals. If VCs see an investment opportunity in an early stage company is up to 20% off the industry peak valuations, then investor interest should pique for early stage companies.
And there’s no shortage of funds, nor money, going after early stage life science deals. For example, earlier this year, De Novo Ventures closed their second fund at $250 million to invest in early stage life science companies. Managing Partners Fred Dotzler says that early stage venture activity in life sciences is robust. “There’s quite a lot of money in the hands of venture capitalists chasing early stage deals right now,” Dotzler says. “But, thankfully, there are a lot of entrepreneurs out there wanting to startup new companies.”