Life Science Venture Capital: A Case for Europe –

The biotech industry in Europe has entered a new phase of maturity. During the boom years of 1999 and 2000, many companies were financed with unrealistic expectations. Now, the harsh realities of the recent bear market have created a much higher hurdle for life science venture capital investments.

Europe was particularly hard hit in the down market following the 2000 boom. Euphoria swept public and private life science investors alike in those go-go years. The hype rivaled the dot-com craze. Even the governments of Germany and several of its states and regions got into the act, shoveling money into companies that were going to be hard pressed to spend it wisely, let alone create venture-like returns. In Germany, more than a dozen biotech companies were taken public on the Neuer Markt. Many of those IPOs happened in companies that were not ready to be public.

The recovery has been slow in coming. The lull is reminiscent of the lag that followed the first biotech IPO boom on the London Stock Exchange in the mid-1990s. The market came back eventually, but it took a long while. An IPO window has finally reopened in Europe with the recent offerings of Basilea (SWX: BSLN), Ark (LSE: AKT) and Epigenomics (FSE: ECX): Indeed, Basilea raised $161.2 million and Ark raised $102.7 million, representing two of the three largest IPOs of the current biotech IPO window. Coupled with the NASDAQ secondary offering of GPC Biotech, which raised about $100 million, and the exit by acquisition of Celltech Group PLC, we can say with assurance that the European market is here to stay for biotechnology companies.

In TVM’s view, the life science venture market in Europe is growing up before our eyes. The amount of capital available for life science venture investments has increased, according to In Vivo Europe Rx, although there is still a sixfold larger amount of such capital under management in U.S. firms. More importantly, some key structural factors have improved in ways that convince us that venture investing in Europe will be more successful, and the companies more sustainable, than in years past.

The new success factors for European venture-backed biotech companies include:

a new and more realistic mindset on the part of venture investors coupled with better dealmaking and larger capital reserves the possibility of new specialty-pharma business models made possible in part by spinouts from pharmaceutical companies

a more pragmatic stance toward a US presence for European companies

a steadily improving flow of key people to join boards and run companies

The lessons of maturity

Like the public markets, venture capital in the life sciences in Europe has matured. One lesson from the burst bubble is not to trust the rest of the venture community to keep a good company growing. Too many casualties were suffered during the recent retrenchment period, and too many follower funds went away. Instead of presuming that investors will be at hand when a company requires additional financing, European venture investors like their US counterparts are banding together from the beginning of a new company and committing larger amounts of capital. A typical company financed with a Series A round will require a total of EURO15 million from each of three or four funds over the life of the investment. Setting aside this much money at the time of the Series A is a new departure in an industry that used to count on new lead investors to do much of the financial heavy lifting in later rounds. The new approach allows each investor to exert greater leverage for a longer period in a company’s lifetime and makes it much easier to protect distressed companies when they still have the potential to right themselves.

European venture capitalists are also moving closer to the companies they finance. Unlike U.S. funds that have reduced their headcounts in the aftermath of the dot-com debacle, European funds are typically remaining at full strength, allowing them to be more active in managing their portfolios. The portfolios themselves are now a bit smaller. Additional oversight generally leads to earlier and faster reactions when companies run into trouble.

For the first time, European companies are allowed to fail. One of the justified criticisms that used to be directed at European venture investors especially those in German-speaking Europe was that they kept their companies going regardless of their viability. The number of insolvencies in venture-backed German companies has risen to record levels in some recent quarters, there have been more insolvencies than financings, according to Ernst & Young. This pruning serves the purpose of focusing the attention of venture investors on the companies that are going to succeed.

The venture capitalist’s dream

The increasing number of spinouts from European pharmaceutical companies fits neatly with the trend toward specialty pharmaceutical companies as the venture capitalist’s current dream investment. Spinouts occasionally present ready-made investments for venture investors, or sometimes they can be packaged with early-stage technologies to create financeable companies.

Even when full-blown spinouts do not occur, the trend toward streamlining in pharmaceutical companies has become so pronounced that there are more opportunities than ever for such combinations. The addition of a clinical-stage product or even an earlier package of preclinical drug candidates can be all a good management team requires to “fast-forward” a company to the creation of sustainable value.

It is too early to tell for sure, but TVM is optimistic about the chances of two such companies in its portfolio: Ardana Bioscience Ltd. in Edinburgh, Scotland, and Evotec Neurosciences GmbH in Hamburg, Germany. Ardana in-licensed a gonadotropin releasing hormone analog called leuprorelin from Zentaris AG in July,2002, and followed that three months later by in-licensing Striant SR from Columbia Laboratories Inc. This helped Ardana raise a total of GBP29 round of venture financing based on its success at in-licensing from Roche a series of late pre-clinical NMDA receptor antagonists for CNS disorders.

Tapping the people pipeline

One of the chief criticisms leveled against biotechnology on the European continent involves a shortage of qualified management. In the boom years, when companies were founded on a moment’s notice and very few of the managers had ever run companies before, this charge was justified. But in the interim, biotechnology in German-speaking countries and to some extent in the rest of Europe has educated a generation of executives.

People are the stock in trade of venture capitalists. Establishing relationships with the best senior executives and maintaining relationships with them as they move from one venture to another is a strategy for success. This is true on a macro level: According to TBG, the German government agency that helps provide financial support to early-stage companies, the recent contraction in the European market has freed up a critical resource, one that was most lacking five years ago: management with deep experience in founding and running entrepreneurial private companies.

The upsurge in entrepreneurial talent is also visible in TVM’s day-to-day experience. Some of the more high-profile executives from the first wave of biotechnology companies in Germany are now finding their way into new ventures, both as board members and as managers. There is no doubt that European biotechnology has a long way to go before it reaches the number of experienced executives available to U.S.-based startups. But the progress in this area has been substantial, and it shows every sign of continuing.

Living off the land

It has always been our contention that the technology coming out of German universities and research institutes could be harnessed to drive the European pharmaceutical industry as well as the wider European economy. It struck us as a glaring market inefficiency that this technology was not being put to use in start-up companies throughout the 1980s and early 1990s. Potential company founders used to lament that in Germany, there was no money being invested in ideas. These founders would often leave the country in frustration.

If anything, the opportunity has become even greater. Germany generates the largest number of patents per capita in the world and 23% of patent applications are approved in Germany, second only to the U.S. in the developed world. Germany accounts for one-third of all the capital invested in research and development in the private and public sectors in Europe. Bavaria, in particular, is poised to become an engine for further innovation, with its 11 universities, 17 polytechnic colleges, 3 major research facilities, 11 Max Planck and 7 Fraunhofer Institutes. The appearance of several technology transfer companies such as Garching Innovation and, more recently, Ascenion, devoted exclusively to commercializing technology from large research institutes and universities, is proof of the potential of German technology.

Therefore, venture capital firms like TVM are in a better position than ever to “live off the land.” By obtaining rights to home-grown technologies like the DNA purification technology that made Qiagen a billion-dollar company, or the monoclonal antibody selection technology that lies at the core of Morphosys venture capitalists are poised to create even more value.

Finding an exit

In the early days of European biotech, companies suffered both from a shortage of capital and the absence of excellent management. Now that the available capital is reaching new highs, it is up to the management to live up to the challenge. Eventually, we believe that management teams in Europe will develop along with their companies, allowing European biotechnology companies to reach their full potential. Once European success stories comparable to Amgen and Genentech have emerged, the task can be judged complete.


Techno Venture Management (TVM)

Maximilianstr. 35 C

D-80539 Munich / Germany

Boston, MA 02110, USA

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